Seeing Yourself as a Business

This post is for the most part a mental stretch to try to prepare yourself for looking at businesses properly.  One of the fun parts about analyzing companies is trying to parallel what you are reading in say an Annual Report or say a news article to what it would be like if you were the business.  Today we will looking at your life and what you own in the form of a balance sheet

A balance sheet is one of the three main financial statements.  The balance sheet shows a snapshot of what a company is worth in time.  The image below shows the standard formula for a balance sheet.

The first point is the organization (yes this is an equation that must be satisfied).  On the left side we have Assets (a house, car, guitar etc.) - on the right side we have Liabilities (what we owe) as well as Equity; the share we have in the worth of our assets (or in this case what we have already paid).

With the balance sheet the main rule we have to recognize (which will be slightly simplified at this point) is that our assets are stated at "Book Value."  Book Value in our case is what we paid for the assets, if we posted the assets at what they were worth (real-estate usually appreciates), it would be called "Fair Market Value."  So lets work through an example.

Below we have information concerning some of the most expensive things a person might own.  For this exercise we also need to know what the person owes on each item, this is so we can list our Liabilities.  So below are four things that someone might own in their life along with what they still owe on them.

If we took this personal information and put it into the format of a balance sheet we would have the image below:

And with that we have created a balance sheet.  The Assets and Liabilities part are usually pretty clear for everyone, it is the Equity that is somewhat confusing.  For the Equity we have taken the asset value for each item and subtracted the debt that is still owed.  This leaves us with the portion you own of the item free and clear.

You could also take this one more step and say although this person has assets of $632,000 - they are only worth $400,000 (their equity value) because they still owe $232,000.  This is similar to only paying $10,000 for a $20,000 car that still has $10,000 owed on it.  Remember, relieving someone of debt is the same as paying them cash. 

Be careful though when using a balance sheet to determine your "Net Worth."  You can use a balance sheet to easily determine your "Book Worth," but any increases in real estate values could increase your net worth to higher than your Book Value balance sheet would reflect.

Hopefully this was helpful!