A balance sheet is a financial statement that presents a snapshot of a company’s financial position at a specific moment. It has three main components: assets, liabilities, and shareholders’ equity. Assets represent what the company owns, liabilities represent its obligations, and shareholders’ equity represents the residual interest of shareholders in the company’s assets after deducting liabilities.
At the end of each financial period, companies prepare the balance sheet, which follows the accounting equation. Essentially, the sum of all assets should be equal to the sum of total liabilities and shareholders’ equity. If it doesn’t, companies must balance the balance sheet.
Why should companies balance the Balance Sheet?
Balancing the balance sheet is a critical practice for companies to assure the accuracy and reliability of their financial statements. It is crucial since it ensures the following.
Verify financial accuracy
Balancing the balance sheet confirms that the equation “Assets = Liabilities + Equity” is satisfied, ensuring that all recorded financial data is accurate and consistent. It helps identify errors or discrepancies in the accounting records and allows prompt correction.
Ensure compliance
Balancing the balance sheet is a requirement for financial reporting per accounting standards such as GAAP or IFRS. It helps companies adhere to these standards, ensuring transparency and consistency in financial reporting.
Enhance stakeholder confidence
A balanced balance sheet inspires trust and confidence among stakeholders. It demonstrates the company’s commitment to accurate financial reporting, fostering better relationships with investors, creditors, and regulatory authorities.
How to Balance a Balance Sheet?
If a company’s balance sheet does not balance, indicating a discrepancy between assets, liabilities, and equity. Resolving balance sheet imbalances is crucial for accurate financial reporting, compliance with accounting principles, and providing stakeholders with reliable financial information. Companies can balance the balance sheet using the following steps.
Review recorded entries
Companies must thoroughly examine the recorded entries on the balance sheet to identify any potential errors, such as misclassifications, miscalculations, or missing information. They must also pay close attention to each line item to ensure accuracy.
Check supporting documentation
Companies must also verify the accuracy of the recorded data by comparing it with supporting documentation, such as bank statements, invoices, contracts, and other relevant financial records. It helps identify any discrepancies between the recorded values and the actual transactions.
Reconcile accounts
Companies must perform a detailed reconciliation of accounts, including cash, accounts receivable, accounts payable, and other significant balances. Then, they must compare those balances with external records to ensure consistency and accuracy.
Investigate transactional errors
Companies must examine individual transactions to determine if any errors occurred during data entry or if there are any duplicated or missing entries. They must also cross-reference with subsidiary ledgers and supporting documents to identify and rectify any discrepancies.
Adjust entries
Companies must make necessary adjustments to correct the imbalances on the balance sheet. It may involve reclassifying items, correcting amounts, or adding missing entries. However, they must ensure adjustments are documented and supported by appropriate evidence.
Maintain audit trail
Companies must keep a clear and comprehensive audit trail of all adjustments made to the balance sheet. Consequently, they must document the reasons for the adjustments, supporting evidence, and additional explanations to ensure transparency and accountability.
Conclusion
The balance sheet is a financial statement that reflects a company’s financial position. At the end of each financial period, this statement must “balance”. However, sometimes it may not. Therefore, companies must follow some steps to ensure the balance sheet balances at the end of that period. It is crucial to do so as it ensures compliance and accuracy.
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