The Balance Sheets: Different Strokes for Different Folks?

If you want to borrow money to fund a business or a farm, you will need to provide financial statements to the lender. When we say “financial statements,” we usually mean income statements (or “profit and loss” statements) and balance sheets.

An income statement tracks revenue and expenses. Sometimes, a business tax return makes for an acceptable substitute because an accountant has made a professional effort to summarize these details appropriately. However, when it comes to the balance sheet, what this includes is much more nebulous.

A balance sheet reflects possessions as assets, what money is owed as liabilities, and the net worth as the difference between the assets and liabilities. While this sounds fairly easy to understand, you may quickly find that each business borrower has a different spin on what belongs on a balance sheet.

Most businesses now are incorporated, so they are technically a separate legal entity from their owner. This is done to give business owners legal protection from what happens at the business, and the separation protects their personal assets. But here is where the idea of balance sheets becomes fuzzy.

When you ask a business owner for their balance sheet, you might get something different depending on what type of business you are financing. A business owner that sells goods or provides services will have a balance sheet that reflects business assets and business liabilities. A farmer, on the other hand, will usually give you a balance sheet that reflects all his assets, both business and personal. And, a real estate investor, will probably just give you his personal financial statement showing all his personal assets and liabilities. When pressed for a business balance sheet, a real estate developer may have little or nothing to show you. Why do such differences exist?

A business owner that has a commercial or industrial (C&I) business, has a distinct difference between what assets are used for their business, and what assets are strictly personal. Likewise, it is easy to track which loans are personal and which loans are business related.

In agriculture, the difference between what is business related and personal are blurred. A farmer most likely regards all of his assets and liabilities as “farming “related. With farming not being just a profession, but a way of life, it is naturally difficult to disentangle what are personal and business assets, as well as respective liabilities.

And, why would a real estate developer have a challenging time producing a balance sheet? As it turns out, real estate financing is quite simplistic. If a business is nothing more than commercial real estate, then typically the only asset to that business is a single piece of real estate. And, the only liability in that company is the real estate mortgage. Knowing that, a real estate developer doesn’t see the need in maintaining and updating a balance sheet, when he/she already knows the value of the property and balance of the mortgage.

It is important to understand that not every business operates under the same set of assumptions. Depending on who your borrower is, you may be provided with a different type of balance sheet, or no balance sheet at all! Even with business lending, there is a fair amount of nuance that goes into reading and understanding financial statements, just like how any member at your credit union deserves some amount of personalized consideration.