The Balance Sheet

Before establishing the accuracy of the balance sheet as a valuation tool it is important to understand that to produce a document that shows the exact value of a company is virtually impossible. The combination of all assets, liabilities, owners equity and many other factors must be calculated in order to reach a final value. However, the methods used when valuing, and the constant changes in the economy and inflation make the value of the company itself a constantly changing figure. Therefore should an accurate value of the company be produced it would only be accurate at the time it is produced. Throughout this essay I will discuss the different aspects of the balance sheet and how the way they are presented affects the figures on the balance sheet. But firstly it is important to understand what the balance sheet comprises of and the role it is intended to carry out.

The balance sheet is a financial document which identifies the company’s assets and liabilities of a company. By deducting the assets from the liabilities the net worth is calculated, this is a key indicator of the value of the company to its owners.

It shows the financial of the company on a particular date, “it is a snapshot of the business and is the best measure that we have for looking at financial health” . However, the fact that it is a snapshot means that it is only valid at the time it is produced thus it may not represent a true and fair view. It is possible that a firm may pick a certain day which benefits.

The balance sheet can be used to determine how much credit a company will get or whether or not they should be invested in, it is therefore a very important document and managers are aware of this. It is therefore possible that companies will try to format information and calculate figures using methods that present a better financial picture. The opportunity to adopt creative accounting occurs when choices are made about the basis of deprecation, stock and cost of goods sold. The methods used to calculate these figures can make a vital difference to the balance sheet.

The accuracy of valuation within the balance is a vital point to consider as the various methods used to calculate lead to dramatically different results. The capitalisation of costs is when a cost is treated as an asset as opposed to an expense, thus increasing total assets.