How to Balance Your Balance Sheet

how to explain a balance sheet

One of the hardest parts of building a financial model is getting the balance sheet to balance, meaning the basic equation of Assets = Liabilities + Shareholder’s Equity is true.

The balance sheet itself is not the problem, it is usually the cash flow statement that introduces the error.

Here are some tips to make sure your cash flow statement is correct to ensure you calculate the correct ending cash balance.

For a working model, start with the basic financial model .


Make sure you rebuild the historical cash flow statement with formulas, that’s the only way to ensure you’ve accounted for all numbers and everything will flow going forward.

All line items on the balance sheet must be used in the cash flow statement.

Cash Flow from Operations

Net Income – pulled directly from the income statement

Depreciation – depreciation is a non-cash expense, so it needs to be backed out of the cash flow; pulled directly from the income statement.


The Excel formula for an asset line item from the balance sheet on the cash flow statement is the previous period less the current period.

In our model, we need to calculate the year 3 cash flow for accounts receivable (AR) line item. The formula would be AR for year 2 minus year 3 on the balance sheet.

The verbal explanation is if the asset on the balance sheet increases from the previous year, then

it was a use of cash. If the asset decreases, then it is a source of cash.

If the AR increased, it means the company did not collect from its customers so there was a use of cash. If the company collected cash and lowered the AP, then it is a source of cash.


Liabilities is the opposite of assets. The Excel formula for accounts payable (AP) on the cash flow is year 3 minus year 2 AP line item on the balance sheet.

The verbal explaination also the opposite that of an assets. If the liability increases, then it is a source of cash. If the liability decreases, then it is a use of cash. To continue the AP example, if the liability decreased, then the company used cash to pay down the AP. And the inverse, if the company did not pay off some account payables, the AP will increase and the company saved some cash.

Cash Flow from Investing

See Assets and Liabilities above for calculations and formulas.

Cash Flow from Financing

See Assets and Liabilities above for calculations and formulas.

Calculating the Ending Cash Balance

Beginning cash plus the change in cash equals the ending cash balance. The balance sheet cash line item should link to the ending cash balance from the cash flow statement. This will create a circular reference, but that’s ok - read why circular references are a necessary part of financial models .


Category: Forex

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