Balance Sheets: The Good, the Bad and the In-Between

While a company's income statement presents the current results of a company's operation, the balance sheet depicts the financial strength (or weakness) of a company.

So what's in a balance sheet?

A company's balance sheet has three main sections:

• Assets: Items of economic value that are owned by a company.
• Liabilities: A company's financial obligations.
• Equity: Sometimes referred to as shareholders' equity, this represents the net accounting value of the company.

And the basic formula of a balance sheet is:

Assets = Liabilities + Equity

Now, instead of launching into a full-blown lesson on an accountant's perspective of the balance sheet, I'm going to look at balance sheets from an investor's perspective. In this installment of The Finance Professor, I'll cover how to diagnose the three degrees of a company's financial health, by looking at various companies with strong balance sheets, weak balance sheets and balance sheets that are "under improvement."

I will refer to numbers that can be found on the balance sheets for the most recent available quarter (first quarter of 2007), which are available at company Web sites and summarized on Yahoo! Finance and TheStreet.com.

How to Spot a Weak Balance Sheet

Let's start with an example of a truly horrible balance sheet. I have several nominees for this ignominious honor: Six Flags (SIX Quote), Level 3 Communications (LVLT Quote), Sirius Satellite Radio (SIRI Quote) and XM Satellite Radio (XMSR Quote). (How ironic it is that Sirius and XM, two companies with some of the worst balance sheets, are attempting to merge? Two wrongs won't make a right.)