Chapter 30 · Statement of Financial Position
Learn how businesses report assets, liabilities and capital, calculate working capital and net assets, and interpret financial strength using financial statements.
Learning objectives
- Understand the purpose of a statement of financial position.
- Explain non-current and current assets, current and non-current liabilities, and capital employed.
- Calculate and interpret net current assets, net assets and shareholders’ equity.
What Is a Statement of Financial Position?
Most businesses prepare a statement of financial position at the end of the financial year. It is a summary of what the business owns, what it owes and how its assets have been financed on one particular date. This is also known as it a balance sheet. Think of it as a photograph of the business’s financial position on that day, rather than a record of income and expenses throughout the year.
- Assets: Land, buildings, stock, cash, tools, machinery, motor vehicles or amounts owed by customers.
- Liabilities: Bank loans, overdrafts, mortgages, unpaid suppliers and other debts.
- Capital: Funds invested by owners; in a company this includes the owners’ share capital and retained profit.
If a firm has US$7.6 million of assets and owes creditors US$2.6 million, its owner’s capital is US$5.0 million. Check: 2.6 + 5.0 = 7.6. The relationship tells us where the finance came from; it does not by itself tell us whether the firm made a profit this year.
Azora makes wooden furniture. Table 30.1 lists property, tools, inventories, money owed by customers, other assets and cash at 31 December 2015. These resources are balanced by share capital, a bank loan, trade payables, tax and retained profit.
| Resources owned by Azora | US$ |
|---|---|
| Property | 180,000 |
| Tools and equipment | 95,000 |
| Inventories | 24,000 |
| Trade receivables | 34,000 |
| Other assets | 8,900 |
| Cash | 54,000 |
| Total assets | 395,900 |
The owners’ claim equals share capital of US$200,000 plus retained profit of US$104,900 = US$304,900. Other creditors are owed US$40,000 + US$21,000 + US$30,000 = US$91,000. Together, US$304,900 + US$91,000 = US$395,900, exactly matching the assets.
For example, assets of £43,904 million and liabilities of £35,288 million for Tesco. Shareholders’ capital is therefore 43,904 − 35,288 = £8,616 million. The case also identifies property, plant and equipment as important assets, and bank/financial borrowings as liabilities.
Check your understanding · Halfway
Try each question before revealing the suggested answer.
What does a statement of financial position show, and how does it differ from a statement of comprehensive income?
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It shows the assets, liabilities and capital of a business on a particular date. A statement of comprehensive income records revenues and expenses over a period to calculate profit or loss.
Classify a shop building, inventories, cash, trade payables and a long-term mortgage as assets or liabilities.
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A building is a non-current asset; inventories and cash are current assets; trade payables are a current liability; and a long-term mortgage is a non-current liability.
Azora has assets of US$395,900, share capital of US$200,000 and retained profit of US$104,900. Calculate the liabilities.
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Shareholders’ capital = 200,000 + 104,900 = US$304,900. Liabilities = 395,900 − 304,900 = US$91,000.
The Tesco case gives assets of £43,904m and liabilities of £35,288m. Calculate capital and show your formula.
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Capital = Assets − Liabilities = £43,904m − £35,288m = £8,616m. Figures relate to the historical 2016 example.
Dingwall Building Supplies has current assets of US$284,000 and current liabilities of US$124,000. Find its net current assets.
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Net current assets = 284,000 − 124,000 = US$160,000, which often called working capital.
A business has US$440,000 of non-current assets, US$160,000 of net current assets and US$60,000 of non-current liabilities. Calculate net assets.
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Net assets = 440,000 + 160,000 − 60,000 = US$540,000.
Features of a Statement of Financial Position
Statements are usually arranged in a recognisable sequence. Consider Dingwall Building Supplies, a construction-materials retailer, illustrates the elements in a statement of financial position at 31 December 2015. The principal entries are explained below.
| Statement item · US$000 | 2015 |
|---|---|
| Non-current assets | |
| Property | 340 |
| Fixtures and fittings | 100 |
| Total non-current assets | 440 |
| Current assets | |
| Inventories | 150 |
| Trade receivables | 78 |
| Cash | 56 |
| Total current assets | 284 |
| Current liabilities | |
| Trade payables | (112) |
| Taxation | (12) |
| Total current liabilities | (124) |
| Net current assets | 160 |
| Non-current liabilities: mortgage | (60) |
| Net assets | 540 |
| Shareholders’ equity | |
| Share capital | 100 |
| Retained profit | 395 |
| Other reserves | 45 |
| Capital employed | 540 |
Non-current Assets
Non-current assets are expected to last for more than one year and are usually used repeatedly to provide goods or services. They are often the most productive resources of a business. Dingwall owns US$340,000 of property and US$100,000 of fixtures and fittings, giving US$440,000 of non-current assets. The examples include a shop building, shelving, doors, windows and flooring.
Current Assets
Current assets are expected to be turned into cash within one year. Examples include inventories (stock), trade receivables (customers who owe money) and cash in hand or in the bank.
- Inventories: US$150,000 of goods held for resale.
- Trade receivables: US$78,000 owed to Dingwall by its customers.
- Cash: US$56,000 held in cash or bank balances.
Total current assets = 150,000 + 78,000 + 56,000 = US$284,000. A key concept here is liquidity here: the ease or speed with which an asset can be sold or converted into cash. Cash is already liquid, whereas inventories must first be sold and receivables collected.
Current Liabilities
Current liabilities are debts that must normally be repaid within 12 months. They include trade payables (unpaid suppliers), tax due to tax authorities, short-term bank loans and overdrafts; some lease and hire-purchase payments may also be current liabilities.
Dingwall owes US$112,000 in trade payables and US$12,000 in taxation, giving current liabilities of US$124,000. This amount is due in the near future, so the business must manage payments carefully.
Net Current Assets
Net current assets equal current assets minus current liabilities. They are also known as working capital, which helps a business cover everyday operating expenses.
US$284,000 − US$124,000 = US$160,000 in net current assets. A positive result means current assets exceed current liabilities, although the business still needs cash available when its bills fall due. A negative result can indicate cash-flow difficulties.
Working capital is not the same as the cash balance alone. Part of it may be tied up in inventory or customer debts that have not yet been collected.
Non-current Liabilities
Non-current liabilities are amounts owed that do not fall due within the next year. Examples include long-term bank loans, mortgages, leases and hire purchase.
Dingwall has a US$60,000 mortgage, secured against property. This is shown as a non-current liability because it is a long-term borrowing. The business does not have the other types of longer-term borrowing listed in this example.
Net Assets
Net assets equal all assets less all liabilities. In the layout, first add non-current assets to net current assets, then deduct non-current liabilities.
US$440,000 + US$160,000 − US$60,000 = US$540,000. The same result is obtained from total assets (440,000 + 284,000) minus total liabilities (124,000 + 60,000). This is the value represented by owners’ funds in the statement.
Shareholders’ Equity
The bottom part of the company statement shows what belongs to the shareholders. It may be labelled shareholders’ equity, shareholders’ funds, or capital and reserves. It consists of share capital, retained profit and other reserves.
- Share capital: US$100,000 originally provided by shareholders.
- Retained profit: US$395,000 in profits kept within the business.
- Other reserves: US$45,000 in other amounts attributed to shareholders.
These add to US$540,000, exactly matching net assets. This is why the statement must balance. The final line is known as capital employed and shows the same amount as shareholders’ equity in this example.
The company’s statement deliberately leaves three 2016 figures blank. Complete them using the surrounding totals: Plant and equipment = 43.77 − 34.65 = US$9.12m; net current assets = 13.66 − 9.27 = US$4.39m; share capital = 43.16 − 33.16 = US$10.00m. All figures are in US$ millions.
| Qetter Toys (US$ million) | 2016 | 2015 |
|---|---|---|
| Non-current assets | 43.77 | 43.78 |
| Current assets | 13.66 | 12.86 |
| Current liabilities | (9.27) | (9.21) |
| Net current assets | 4.39 | 3.65 |
| Non-current liabilities | (5.00) | (5.00) |
| Net assets / capital employed | 43.16 | 42.43 |
| Share capital | 10.00 | 10.00 |
| Retained profit | 33.16 | 32.43 |
Interpreting the Statement of Financial Position?
A statement of financial position shows the financial position of a business on a particular date, and can help managers, shareholders, banks and potential buyers evaluate its financial strength and potential. This illustrates four important areas to inspect:
- Value of assets, liabilities and capital: What does the firm own, and what must it repay?
- Asset structure: Is money invested mainly in property and equipment, or in stock, receivables and cash?
- Capital structure: How has the business been funded by shareholders and by borrowings?
- Net current assets: Does the firm have adequate working capital to meet its short-term bills?
Net assets can provide an approximate guide to the value of a business, but not a precise selling price. Some assets are difficult to value and the statement may not fully capture intangible qualities such as goodwill, which includes a strong reputation and good customer and supplier relationships.
Large vs Small Businesses
Businesses of different sizes may need different levels of financial reporting. Very large businesses and many limited companies are required to prepare formal financial statements under the laws that apply to them, whereas some small businesses may use simpler financial records. The precise legal requirements vary by country, size and type of company.
- Large businesses: More numerous assets, liabilities, branches and shareholders make formal statements particularly useful for management, lenders and investors.
- Small businesses: Owners may handle finances directly and may not always prepare or understand a detailed statement in the same format. Nevertheless, keeping track of stock, cash, debts and owner’s capital remains essential.
- Both: Comparing financial-position figures over time can reveal difficulties with working capital, increased reliance on borrowings or changes in the funds available to the owners.
A small furniture workshop such as Azora may use the statement to check cash, stock and a bank loan. A large supermarket chain such as Tesco uses a much more extensive statement to assess the many assets, liabilities and sources of finance across its operations.
Key difference from Chapter 29: A statement of comprehensive income covers revenue, expenses and profit during a period. A statement of financial position shows assets, liabilities and equity at a specific point in time. They answer related but different questions and should be used together.
End-of-chapter questions
Try each question before revealing the suggested answer.
Explain the terms assets, liabilities and capital. Why must the statement balance?
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Assets are resources owned or used; liabilities are debts owed to others; capital represents funds provided by owners. Assets must be financed by either owners’ capital or liabilities, so Assets = Liabilities + Capital.
Give two examples of non-current assets and two examples of current assets. Explain the difference.
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Non-current: property and machinery, used over more than one year. Current: cash and inventories, expected to be used or converted to cash within one year.
How are trade receivables different from trade payables?
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Trade receivables are amounts customers owe the business, so they are an asset. Trade payables are amounts the business owes its suppliers, so they are a liability.
Using Dingwall’s figures, calculate total current assets, total current liabilities and net current assets.
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Current assets = 150 + 78 + 56 = US$284,000. Current liabilities = 112 + 12 = US$124,000. Net current assets = 284 − 124 = US$160,000.
Show that Dingwall’s net assets equal its shareholders’ equity.
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Net assets = non-current assets 440 + net current assets 160 − mortgage 60 = US$540,000 (US$000). Shareholders’ equity = share capital 100 + retained profit 395 + reserves 45 = US$540,000.
Complete the three missing figures in Qetter Toys’ 2016 statement: plant and equipment, net current assets and share capital.
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Plant and equipment = 43.77 − 34.65 = US$9.12m; net current assets = 13.66 − 9.27 = US$4.39m; share capital = 43.16 − 33.16 = US$10.00m.
Explain the meaning of capital employed and why it matters to owners and lenders.
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Capital employed represents the long-term funds invested in a business. In this statement’s presentation it equals net assets and the shareholders’ equity shown. It helps owners and lenders assess the resources invested in operations.
Current assets fall from €180,000 to €150,000 while current liabilities rise from €120,000 to €170,000. Calculate the change in working capital.
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Initial working capital = €180,000 − €120,000 = +€60,000. New working capital = €150,000 − €170,000 = −€20,000. This is a deterioration of €80,000.
A business’s inventory rises from €60,000 to €95,000, trade receivables from €20,000 to €45,000, while cash falls from €45,000 to €18,000. Explain the potential liquidity problem.
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More funds are tied up in inventories and customers’ unpaid bills, leaving less immediately available cash for wages and suppliers. Managers could reduce excess stock and encourage faster customer payment.
Describe two decisions that a manager might make using a statement of financial position.
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The manager might reduce slow-moving inventory or collect trade receivables sooner if working capital is weak; or decide whether the business can finance new equipment based on existing assets and borrowing commitments.
A company reports rising non-current assets and net assets, but its working capital turns negative. Evaluate whether the business is necessarily financially stronger.
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Rising net assets and investment may indicate long-term strength, but negative working capital signals potential difficulties paying short-term obligations. A balanced judgement should also consider cash-flow forecasts, inventories, receivables, debt and profitability.
Chapter 30 recap
Assets = Liabilities + Capital. Non-current assets last more than a year; current assets are expected to become cash within a year. Current liabilities are due within 12 months, while non-current liabilities are longer-term. Net current assets = Current assets − Current liabilities. Net assets = Total assets − Total liabilities. The statement reports a point-in-time financial position; a business can have growing net assets and still face a short-term cash shortage.
Educational adaptation of Pearson Edexcel International GCSE (9–1) Business, Chapter 30 (source pp. 246–253). Examples and figures are for revision; historical figures do not describe current company performance. IGCSE360 is an independent learning resource and is not affiliated with Pearson.