4.20: Creating a Complete Balance Sheet: Liabilities and Shareholders’ Equity

The liabilities and shareholders’ equity side of a balance sheet shows how a company finances its assets. This side represents the obligations the company owes and the residual interest of owners. It is divided into liabilities (external claims) and shareholders’ equity (internal claims).

Liabilities

Liabilities are categorized as current and non-current:

• Current Liabilities are obligations due within one year. These include:
  • Accounts payable: Money owed to suppliers.
  • Short-term loans: Bank overdrafts or short-term borrowings.
  • Accrued expenses: Expenses incurred but not yet paid.
  • Current portion of long-term debt and taxes payable.
• Non-Current Liabilities are long-term debts and obligations not due within a year, such as:
  • Long-term loans or bonds payable.
  • Lease obligations and deferred tax liabilities.
  • Pension obligations and other provisions.

Shareholders’ Equity

This represents the owners’ claim on the company’s assets after all liabilities are paid. It includes:

• Share capital: Funds raised through issuing shares.
• Retained earnings: Profits reinvested in the business.

The total of liabilities and shareholders’ equity must exactly match the total assets, maintaining the balance sheet equation: Assets = Liabilities + Shareholders’ Equity.

Accurately preparing this side reveals how a business is funded and its long-term financial stability.

Liabilities and shareholders' equity make up the second half of the balance sheet and represent the sources of a company’s financing.

Liabilities are divided into current and non-current obligations.

Current liabilities are debts due within one year, while non-current liabilities are obligations beyond one year.

Shareholders’ equity reflects the owners' claim after all liabilities have been paid. It includes common stock and retained earnings.

For example, suppose Delta Corporation has accounts payable and a short-term loan of one hundred thousand dollars each as current liabilities.

The company also has a long-term bank loan of three hundred thousand dollars, recorded under non-current liabilities.

In shareholders’ equity, Delta Corporation has issued two hundred thousand dollars, and the company has three hundred thousand dollars of retained earnings, bringing the total equity to five hundred thousand dollars.

Together, liabilities and equity total one million dollars in financing. This must match the total assets listed on the other side of the balance sheet.

A balance sheet confirms that all business resources are fully funded by liabilities or equity, maintaining the accounting equation.