If the Income Statement (which we will study next) is a "movie" showing how a company performed over a period of time, the Balance Sheet is a "photograph." It captures a single moment in time—usually midnight on March 31st or December 31st—and tells you exactly what the company owns and what it owes.

A strong company can survive a bad year if it has a solid balance sheet. Conversely, a company with high profits but a weak balance sheet (too much debt) can go bankrupt overnight if the economy takes a slight dip. This is why legendary investors like Warren Buffett often spend more time looking at the Balance Sheet than the Profit & Loss statement.

Assets = Liabilities + Equity
The Golden Rule: It must ALWAYS balance.
ASSETS
LIABILITIES + EQUITY

1. The Core Equation: Why it Balances

To understand the Balance Sheet, you must understand the logic: How did the company pay for what it has?

If a company has a truck (an Asset), it either paid for it with its own saved money (Equity) or it took a loan from a bank (Liability). Therefore, the value of the truck must equal the sum of the money borrowed and the money invested. This is why the two sides must always be equal.

2. Deep Dive into ASSETS (What you Own)

Assets are resources owned by the company that have future economic value. They are generally categorized by how quickly they can be turned into cash.

Non-Current Assets

  • Fixed Assets (PP&E) Physical Items
  • Capital WIP Unfinished Plants
  • Intangible Assets Brands/Patents
  • Long-term Investments Other Stocks/Bonds

Current Assets

  • Inventory Unsold Goods
  • Trade Receivables Customer Debts
  • Cash Equivalents Liquid Funds
  • Short-term Loans Given to others

The "Quality" of Assets

Not all assets are created equal. As an investor, you must check for Asset Quality:

  • Receivables: If a company has massive "Trade Receivables" that keep growing faster than sales, it might mean customers aren't paying, and the company is booking "fake" sales.
  • Inventory: For a fashion brand, 2-year-old inventory is worthless (out of style). For a wine company, it’s an asset. Context matters.
  • Goodwill: This is an intangible asset that appears when a company buys another company for more than its book value. If Goodwill is too high, the company may have overpaid for acquisitions.

3. LIABILITIES & EQUITY (How you Paid for it)

This side of the balance sheet shows the Capital Structure of the company. It tells you if the company is built on a foundation of debt or a foundation of owner’s capital.

Shareholders' Equity (The Cushion)

Equity is the money that belongs to you, the shareholder. It consists of:

  1. Share Capital: The initial money put in by promoters and IPO investors.
  2. Reserves & Surplus: This is the most important part. It is the accumulated profit that the company has reinvested back into itself over the years. A growing "Reserves" section is a sign of a healthy, compounding business.
Warning: Negative Equity
If a company's accumulated losses exceed its capital, it has "Negative Equity." This means the company owes more to outsiders than the total value of its assets. This is a massive red flag.

Liabilities (The Burden)

  • Non-Current Liabilities: Long-term loans (5-10 years). This is used for big expansions. Check the interest rate in the "Notes to Accounts."
  • Current Liabilities: Money owed to suppliers (Trade Payables) or short-term bank loans.

4. The Concept of Working Capital

Working Capital is the money a company uses for its day-to-day operations. It is calculated as:

Working Capital = Current Assets - Current Liabilities

If Current Assets are $100 and Current Liabilities are $80, the company has $20 of "breathing room." If Current Liabilities are $120, the company has a Liquidity Crisis—it doesn't have enough liquid assets to pay its bills coming due in the next 12 months. This is often how companies fail even when they are profitable.

5. Analyzing the Balance Sheet like a Pro

When you open the Balance Sheet section of the Annual Report, look for these three things immediately:

A. Debt-to-Equity Intuition

If Equity is $1,000 and Total Debt is $2,000, the company is "leveraged" (2:1). In a good economy, leverage boosts returns. In a bad economy, the interest expense will kill the company. Low-debt companies (Debt-to-Equity < 0.5) are generally much safer for long-term investors.

B. The "Current Ratio" Check

Divide Current Assets by Current Liabilities. If the result is less than 1.0, be very careful. It means the company is living on the edge.

C. Capital Allocation

Look at "Capital Work in Progress" (CWIP). If CWIP is high, it means the company is building new factories. This is good because it leads to future growth. However, if CWIP stays high for 5 years without turning into "Fixed Assets," it might mean the project is stuck or money is being siphoned off.

The "Common Size" Tool

To compare a small company with a large one, convert everything to percentages. Set "Total Assets" as 100%. Then see what % is Debt, what % is Cash, and what % is Inventory. This allows you to see the "DNA" of the business regardless of its size.

Summary of Module 5

  • The Balance Sheet must always balance: Assets = Liabilities + Equity.
  • Reserves represent the true wealth created for shareholders over time.
  • Asset Quality is more important than Asset Quantity. Watch out for stuck inventory or uncollected receivables.
  • Always ensure the company has enough Working Capital to survive the next 12 months.

Now that we know how to check the "health" of a company through its Balance Sheet, we need to see its "performance." How much money did it actually make last year? In the next module, we will master The Income Statement (Profit & Loss).