Question

What is a classifield balance sheet and why are they preferable to an unclassifield balance sheet?

Answer 1

A classified balance sheet is a financial document that not only sub-categories the assets, liabilitiesand 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.

Classified Balance Sheet

A classified balance sheet separates the assets and liabilities of your company into current and long-term classes. The classification process provides additional details about the net worth and liquidity of your business. Your liquidity position is enhanced when the value of assets that are easy to liquidate exceeds the amount of liabilities your business owes.

Unclassified Balance Sheet

An unclassified balance sheet reports your assets and liabilities, but does not separate the items into classes. The total values of your assets and debt equal the same amount, regardless of whether your balance sheet is classified or unclassified. An unclassified sheet is simpler to produce, but may warrant additional questions from investors or outside parties about the character of your net worth or liquidity position.

The unclassified balance sheet doesn’t subtotal or group accounts into any categories other than the broad asset, liability, and equity categories. Obviously, this amount of information isn’t very useful for creditors and investors. They can’t tell what liabilities are due in the next year or how many current assets it would take to pay off the current liabilities.

Unclassified balance sheets are usually used for internal purposes only. Managers and owners use unclassified balance sheets to gauge performance and business standings. Since an unclassified balance sheet is easier and faster to create, management can have one drafted much faster than an unclassified balance sheet.