What is the statement of financial position, and how can I use it to learn more about the
financial situation of a company?
What do the various financial terms on the statement of financial position mean, and
how do I understand the full picture?
The statement of financial position is an overview of what a company owns and what a
company owes at a point in time.
What is owned is on the left, what is owed is on the right.
It’s like a picture.
Most companies call this overview of what is owned and what is owed a balance sheet,
some call it a statement of financial position.
Not just the name of this financial statement can differ, also the sequence in which the
various categories are listed can differ.
By calling it a balance sheet, you describe the structure of the statement: double entry
bookkeeping requires debits to equal credits.
By calling it a statement of financial position, you describe the function of the statement:
it presents the financial position of an entity.
When reading a statement of financial position, it is important to start off reviewing it
by category.
Non-current assets and current assets on the left.
Equity, non-current liabilities, and current liabilities on the right.
Non-current assets are longer-term investments that cannot be converted into cash quickly.
Current assets are cash and other assets
that are expected to be converted to cash within a year.
Equity on the balance sheet is the book value of the shareholder capital.
Non-current liabilities are amounts owed that are to be paid after the period of one year.
Current liabilities are amounts due to be paid to creditors within twelve months.
That’s how the statement of financial position works on a conceptual level.
Let’s now look into the statement of financial position of a real-world company:
aerospace corporation Airbus.
We will review the statement of financial position for December 31st, 2019.
As the statement of financial position is just a picture at a point in time, and a lot
has happened in early 2020, future balance sheets of Airbus might look very different.
Non-current assets €57,7 billion, current assets €56,7 billion,
adding up to total assets of €114,4 billion.
Equity €6 billion, non-current liabilities €46 billion, current liabilities €62,4 billion.
The total amount owned equals the total amount owed.
Per the accounting equation: assets equal equity plus liabilities.
To put things in perspective, I always calculate as a minimum two financial ratios for the
statement of financial position.
The current ratio, current assets divided by current liabilities, is 0.9 for Airbus:
for every Euro of current liabilities, there is 90 cents of current assets available.
Equity as percentage of the balance sheet total is just 5.2%, fairly low compared to
what I have seen on the statement of financial position for other companies.
Let’s zoom into the statement of financial position in more detail, and review what is
in each of the balance sheet categories: non-current assets, current assets, equity, non-current
liabilities, and current liabilities.
Same five categories, just a lot more detail to dig into.
In the European format of the statement of financial position, assets are listed from
least liquid to most liquid.
Liabilities are listed from due last to due first.
I will take you through the main line items.
Intangible assets of nearly €17 billion are the least liquid asset.
The notes to the financial statements provide an overview of what is in here.
Let’s go down the rows from top to bottom, and then the columns from left to right.
Goodwill is usually the difference between the purchase paid in an acquisition, and the
fair value of the net assets acquired in the business combination.
In the case of Airbus, the goodwill mainly relates to the creation of the Company in
2000 and the Airbus Combination in 2001.
Capitalised development costs.
This is an item specific to IFRS, as it does not exist under US GAAP.
The costs for internally generated research are expensed when incurred.
The costs for internally generated development are capitalised when strict criteria are met.
Capitalised development costs are generally amortised
over the estimated number of units produced.
Other intangible assets are for example internally developed software
and acquired intangible assets.
If you go down the columns from left to right, you see the gross amount (the “original”
amount), what has been taken to the income statement in amortization or impairment, and
the net book value (the “current” amount).
Property, plant and equipment of more than €17 billion.
The main line items in the rows are land and buildings, and technical equipment and machinery.
If you go down the columns, you see the gross amount (the “original” amount the property,
plant and equipment was purchased for), what has been taken to the income statement over
the years in depreciation or impairment, and the net book value (the “current” amount).
The notes to the financial statements also provide a geographical split of the same €17
billion of property, plant and equipment.
Inventories of nearly €32 billion.
Interestingly enough, two-thirds of the value of inventories is in “work in progress”.
This is inherent to the aerospace business and the production cycle of aircraft.
In most other manufacturing companies that I have seen, for example in the chemical industry,
the split between raw materials, work in progress and finished goods is roughly 25%/25%/50%.
Trade receivables are a relatively low amount at Airbus, as a lot of advances and pre-delivery
payments are made, hence there is little left to invoice and receive after completion of
the delivery of goods and services.
The notes to the financial statements once again provide a lot of detail, including an
aging analysis of past due receivables.
Cash and cash equivalents of €9 billion is the most liquid asset,
an important line item to review.
However, cash and cash equivalents is best viewed in a broader context, together with
non-current and current securities, and long-term and short-term financing liabilities.
Here’s that total picture, adding up to a net cash position of €12,5 billion.
Cash plus securities, minus financing liabilities.
Cash is the amount the company has in the bank.
Cash equivalents are securities with a maturity date of less than 3 months, which are readily
convertible to known amounts of cash and which are subject to an insignificant risk of changes
in value.
Current and non-current securities at Airbus consist of
a portfolio of corporate and government bonds.
Short-term and long-term financing liabilities consist mostly of bonds and commercial papers
issued by Airbus, and lease liabilities.
Now that we know what the main line items on the assets side of the statement of financial
position mean, it is important to put things in perspective by clearly identifying the
top three in terms of size: inventories of €32 billion, property, plant and equipment
of €17 billion, and intangible assets of €17 billion.
That’s 57% of the value of the assets in just three lines.
On to the equity and liabilities side of the balance sheet.
Within equity (the book value of the shareholder capital), the key items are capital stock
(the nominal amount of the shares outstanding), share premium (the difference between the
par value of a company’s shares and the total amount a company received for shares
issued), and retained earnings (cumulative historical profits and losses, and changes
in other comprehensive income, minus dividends paid).
Then on to the largest item in liabilities: contract liabilities of €43 billion.
These relate to advances and pre-delivery payments, and represent the company’s obligation
to transfer goods or services.
The second largest item in liabilities is provisions of €19 billion, consisting of
pensions, and other provisions such as litigations and claims,
obligations from service and maintenance agreements, and warranties.
The third largest item in liabilities is trade liabilities of €15 billion, basically what
other companies would call accounts payable: invoices received from suppliers that have
not been paid yet.
The statement of financial position: an overview of what a company owns and what a company
owes at a point in time, which can tell very interesting stories about the financial situation
of a company.
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