How to analyze a company's balance sheet and the composition of its assets and liabilities?

Today is the eighth article in the Long Holiday Cognitive Series—honestly, the intensity is quite high, and I’m feeling a bit tired. ・Knowledge Foundation Link to Article 1: "Genuine Value Investing or Fake Value Investing? — Miki’s Investment Cognition Series #1" Link to Article 2: "Before Practicing Value Investing, Clarify These 7 Points First! — Miki’s Investment Cognition Series #2" ・Qualitative Analysis Link to Article 3: "Which Business Models Are Worth Investing In? — Miki’s Investment Cognition Series #3" Link to Article 4: "When Analyzing Enterprises, Consider Both Internal and External Factors! — Miki’s Investment Cognition Series #4" Link to Article 5: "Corporate Culture and Risk Identification — Miki’s Investment Cognition Series #5" ・Quantitative Analysis Link to Article 6: "All the Company’s Secrets Are Hidden in Those Numbers (Basics) — Miki’s Investment Cognition Series #6" Link to Article 7: "The Interconnections Among the Three Financial Statements — Miki’s Investment Cognition Series #7" ...................... Divider Line for Main Text ...................... IV. Balance Sheet The balance sheet is a two-sided table where both sides are equal: on the left side are assets; on the right side, liabilities plus shareholders’ equity. Assets can be categorized by liquidity into current assets and non-current assets; liabilities can likewise be classified by liquidity—or alternatively, by whether they bear interest. For both assets and liabilities, the dividing line between current and non-current is one year: items expected to be converted into cash (or settled) within one year are classified as current; those beyond one year are non-current. The main components of current and non-current assets on the balance sheet are shown in the diagram above. Due to space constraints, we won’t elaborate on all items—only the most important ones will be discussed. 1. Cash and Cash Equivalents Cash and cash equivalents are virtually identical to cash. They can be converted into any asset or used to repay any debt—making them the most liquid and flexible asset. By the way, items on the balance sheet are listed top-to-bottom in order of decreasing liquidity: the higher up an item appears, the more readily it can be converted into cash—hence, cash sits at the very top. Generally, I compare cash and cash equivalents with the company’s total interest-bearing debt. If cash fully covers interest-bearing debt, the company’s solvency risk is relatively low. However, more cash is not always better: cash generates extremely low returns. The higher the proportion of cash relative to total assets, the weaker that portion’s value-creation capacity becomes—so cash management is fundamentally about balance. One red-flag scenario is “high cash and high debt”: the company holds abundant cash while simultaneously carrying substantial high-interest debt. This contradicts basic financial logic—if you have ample cash, why borrow and pay interest? Such cases warrant caution. 2. Accounts Receivable and Prepayments Accounts receivable represent revenue already recognized but not yet collected—akin to Taobao purchases where goods ship first and payment follows later: once goods are dispatched but payment remains outstanding, accounts receivable arise. Prepayments, by contrast, are funds paid in advance to secure desired products, granting the company a future right to receive goods. Both represent assets with a “front-loaded” or “advance-funding” nature arising from routine business operations. An excessively high ratio of accounts receivable to revenue or total assets suggests the business struggles to convert sales into cash—unlike premium products such as Moutai, which typically require prepayment (“cash first, goods later”). Excessively high prepayments indicate the company faces strong upstream constraints, forcing it to pay upfront to secure supply.

Understanding Listed Company Reports (Part II): What Does the Balance Sheet Include?

Listed company reports contain three key financial statements that help investors assess a company’s fundamentals: the balance sheet, income statement, and cash flow statement. The balance sheet enables readers to grasp the company’s operational status most quickly, covering three core components: assets, liabilities, and shareholders’ equity. I. Assets Assets, as presented on the balance sheet, are resources capable of generating income for the enterprise. Corporate operations essentially involve deploying assets to generate revenue. Assets fall into two major categories: current assets and non-current assets. Current assets are those expected to be realized, sold, or consumed within a normal operating cycle; or held primarily for trading purposes; or expected to be realized within one year (inclusive) from the balance sheet date; or unrestricted cash or cash equivalents that can be exchanged for other assets or used to settle liabilities within one year from the balance sheet date. Typical current asset items listed on the balance sheet include: cash and cash equivalents, trading financial assets, notes receivable, accounts receivable, prepaid expenses, interest receivable, dividends receivable, other receivables, inventories, and non-current assets due within one year. Non-current assets encompass all assets other than current assets, commonly including: long-term equity investments, fixed assets, construction-in-progress, engineering materials, disposal of fixed assets, intangible assets, development expenditures, long-term prepaid expenses, and other non-current assets.

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