Guide

Unit economics and finance

The balance sheet

A snapshot at a point in time: Assets = Liabilities + Equity. Cash and deferred revenue live here.

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The balance sheet is a snapshot at a point in time, not a movie of the month. It answers: what do we have, what do we owe, and what is left for owners?

Assets = Liabilities + Equity

That identity always holds. If a deck's numbers cannot be plugged into it, the model is broken.

Concept

Assets are what you have: cash, accounts receivable, prepaid expenses, servers you own, sometimes capitalized software. Liabilities are what you owe: accounts payable, accrued salaries, debt, deferred revenue. Equity is the residual: paid-in capital from investors plus retained earnings (cumulative profits and losses).

Walking through a startup sheet

Startup equity is mostly "we raised money and lost some of it operating." Cash sits on the asset side. Deferred revenue sits on the liability side — you owe the customer service, not usually a refund, but it is still an obligation.

Suppose you start the year with cash $2,000,000, AR $100,000 and deferred revenue $400,000. Those three numbers are stocks. The cash flow statement will explain their changes over the next quarter.

When a customer prepays $120,000 for a year:

Debit  Cash              +120,000
Credit Deferred revenue           +120,000

Assets up, liabilities up, equity unchanged. No P&L revenue yet. Each month as you serve, you move $10,000 from deferred revenue into revenue, and retained earnings (equity) eventually reflects the profit or loss.

Why engineers should care

You sit on several of these stocks. Billing and entitlements move deferred revenue: plan changes, refunds, mid-term upgrades and credits. Collections move AR. Vendor contracts and prepaid cloud deals sit in prepaid expenses. If you capitalize every eng hour into an asset to decorate the P&L, cash still left — and you taught leadership the wrong lesson about burn.

Ending cash on the cash flow statement must match cash on the ending balance sheet. That is the link. If someone shows you net income, cash burn and balance-sheet cash that cannot be reconciled, distrust the spreadsheet.

Common mistakes

  • Treating deferred revenue as free money. It is a liability. You still have to deliver.
  • Forgetting AR is an asset that is not cash. You cannot pay payroll with invoices.
  • A sheet that does not balance. Assets must equal liabilities plus equity. Always.

Check yourself

A customer pays $120k on January 1 for a year of SaaS. What happens to assets and liabilities that day?

Cash (asset) up $120k, deferred revenue (liability) up $120k. Equity unchanged.

Where does net income from the P&L land on the balance sheet?

In equity, as retained earnings (or accumulated deficit if you lost money).

Key takeaways

  • Balance sheet: Assets = Liabilities + Equity, at one moment.
  • Cash and deferred revenue live here. Their changes show up on the cash flow statement.
  • Startup equity is usually paid-in capital minus operating losses.
  • If the three statements do not reconcile, the model is decorative.

Further learning

Next, how the movie of the month is told: the cash flow statement.

Cash flow and the three statements

Why profit ≠ cash, how the balance sheet and cash flow statement work, deferred revenue from annual prepay, and how the three statements link.

Profit versus cash

Accrual books record when value is earned. The bank records when money moves. Companies die from the second gap.