What is a balance sheet?

A balance sheet provides a snapshot of a company's financial position at a particular date. It presents its assets and the sources used to finance them: equity and liabilities. By definition, total assets equal total equity plus liabilities.

Assets include non-current assets, such as property and equipment, and current assets, such as inventory, trade receivables and cash. Financing comes from shareholders' equity, borrowings, trade payables and other liabilities.

How to assess a company's financial structure

A strong equity base generally improves financial resilience, because the company is less dependent on external creditors. However, the level of debt must be assessed in relation to cash generation, maturity dates, the value and liquidity of assets, and the business model.

Borrowing is not inherently a sign of weakness: long-term financing may be appropriate for long-lived assets. The main concern is a mismatch between the maturity of financing and the assets or activities it supports, particularly when the company depends heavily on short-term funding that may not be renewed.

A dynamic view: working capital and working capital requirements

Balance sheet analysis becomes more useful when it connects long-term financing with the cash tied up in day-to-day operations.

Working capital (WC) represents the portion of stable financing available after funding non-current assets. Working capital requirement (WCR) measures the net funds tied up in the operating cycle, primarily inventory and receivables less operating payables. The difference between the two helps explain the company's net cash position.

The figures depend on the industry. Manufacturers often finance substantial inventories and receivables, whereas some retailers receive customer payments before paying suppliers and may therefore operate with negative WCR.

How to calculate WC, WCR and net cash

These are simplified analytical formulas. The treatment of leases, provisions, non-operating items and other financing instruments depends on the accounting framework and analytical method. WC may also be calculated as current assets minus current liabilities when classifications are consistent.

What does negative working capital mean?

Negative WC indicates that stable funding does not fully cover non-current assets. This can create refinancing pressure, but it does not automatically mean that a company is insolvent. Some business models generate a structurally negative WCR, which may offset part of that pressure. Analyse the complete cash conversion cycle before drawing a conclusion.

What does negative net cash mean?

If WC is below WCR, the company has a net short-term financing need. This may be covered by bank facilities or other funding sources. The key questions are whether the facilities are committed, how much headroom remains, and whether the company can withstand a downturn or delayed customer payments.

How to interpret a balance sheet for customer credit risk

A weak financial structure combined with a high WCR can increase the likelihood of late payments. A fall in sales, a significant unpaid receivable or a reduction in bank facilities may then put immediate pressure on liquidity.

Nevertheless, balance sheet ratios cannot be interpreted in isolation. A trading company, a manufacturer and a capital-intensive industrial business have very different financing needs. Examine trends over several periods, debt maturities, available liquidity, profitability, and the company's actual payment behaviour.

Read the balance sheet alongside the profit and loss statement. The objective is not simply to calculate ratios: it is to understand the business behind the figures and decide which credit terms and credit limits are appropriate.