Classified Balance Sheet is the type Balance sheet in which all the balance sheet accounts are presented after breaking them into the different small categories which makes it easier for the user of the Balance sheet to have a clear understanding by organizing accounts into a format which is more readable.
What is Classified Balance Sheet?
A classified balance sheet is a financial document that not only sub-categories the assets, liabilities and shareholder equity but also presents meaningful classification within these broad categories. Simply put it presents the financial status of the firm, to the user in a more readable format. It is one step ahead of the balance sheet, which is nothing but a way of representing the valuation of the assets and liabilities.
- When a firm publishes a classified balance sheet, it not only presents the valuation of its assets but also how these current valuations have been calculated. As they say, accounting is more science than math, there can be multiple ways of reporting an asset.
- Some assets are valued at historical or book value like land and machinery and some have a more complex way of calculations like goodwill and brand name.
- Classified balance sheet makes sure that all these calculations are properly communicated to the reader. Although there are no set rules for these classifications as an implicit industry practice, most businesses prefer reporting assets and liabilities based on a time horizon.
Example Format of Classified Balance Sheet
The following table shows the Classified Balance Sheet example format for a garment firm.
As shown above the Classified Balance Sheet example, there are proper classifications which help the reader identify not only the assets or liabilities but also their type. This not only improves readability but also leaves little for interpretation emphasizing transparency and the clarity of the management strategy.
Example Format of Classified Balance Sheet Asset
The format of the classified balance sheet ‘s asset side can be divided into three main categories.
#1 – Current Assets
source: Starbucks SEC Filings
These are the assets that are supposed to be consumed or sold to utilized cash within the operating cycle of the business or with the current fiscal year. They are mainly required to fund the daily operations or the core business of the firm. An important characteristic is that they can be easily liquidated to generate cash which helps a business in meeting any short term liquidity crunches. Although they vary from industry to industry, some common examples can be cash, cash equivalents, Inventory, accounts receivable etc.
#2 – Fixed Assets
Fixed Assets are those long term assets which are not only utilized in the current fiscal year but many years thereafter. They are mainly strategic one-time investments that are needed for long term sustenance of the business. For an IT service industry fixed asset will be desktops, laptops, land etc. but for a manufacturing firm, it can be machinery and equipment. An important characteristic of fixed assets is that they are reported at their book value and normally get depreciated with time.
#3 – Other Assets
The third category is the list of intangible assets that the firm has acquired over a period of time. These include goodwill, brand name, patents, copyrights, trademark etc. They have a multi-period life. An important characteristic of intangible assets that differentiates them from fixed assets is that they normally do not depreciate with time. In fact, most often their value increases as the firm grows and spend more time in the industry.
Example Format of Classified Balance Sheet’s Liabilities
The format of the classified balance sheet ‘s liabilities side can be divided into three main categories.
#1 – Current Liabilities
Current liabilities like current assets are assumed to have a life of the current fiscal year or the current operating cycle. They are mainly short debt that is expected to be paid back using current assets or by forming a new current liability. The important point is they have to be settled fast and are not kept for later payments. Examples of current liabilities include accounts payable, accrued liabilities, current portion of long term debt (CPLTD), deferred revenue etc.
#2 – Long Term Liabilities
Long term liability is obligations that are supposed to be paid back in future possibly beyond the operating cycle or the current fiscal year. They are like long term debt where payments can take 5, 10 or maybe 20 years. Example of long term liability can be corporate bonds, mortgages, pension liabilities, deferred income taxes etc.
#3 – Shareholders Equity
Shareholders equity section mainly provides information about how the firm has been financed and how much profit it retains to reinvest further in the business. Items included in Shareholders equity are common stock, additional paid-in capital, retained earnings and accumulated other comprehensive gains/losses etc.
How Helpful These Formats Are?
A classified balance sheet format provides a crisp and crystal clear view to the reader. Although balance sheets are prepared by accountants most often than not, they are read by normal investors who might not have an accounting background. The different subcategories help an investor understand the importance of a particular entry in the balance sheet and reason it has been placed there. It also helps investors in their financial analysis and makes suitable decisions for their investments.
For example, an investor who is interested in the day to day operations and profitability of the firm would like to calculate the current ratio. In a normal balance sheet, he would have to deep dive in every section and read notes specifically for each asset and liability. However, in a classified balance sheet format, such a calculation would be very easy as the management has specifically mentioned its currents assets and liabilities. This will be easy to figure out and calculate even for a retail investor.
A well represented and well-classified information instills confidence and trust in the creditors and investors. It also tells a lot about management who wants to be open not only about their assets and their valuations but also how these valuations have been calculated. Publishing a classified balance sheet also make it easy for regulators to point out an issue in the initial stages itself rather than in the final stages when irrevocable damage has already been done. This conveys a strong message to the investors that their money is safe as management is serious not only about the business profitability but also running it ethically and within the rules of the land.
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