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CFA Level I · CFA Level I Exam

Analyzing Balance Sheets for CFA Level I

Analyzing a balance sheet means reading what a company owns (assets), owes (liabilities) and what is left for owners (equity) at one date, then judging quality, measurement and risk. You solve questions by knowing the IFRS rules, spotting the measurement basis, and applying common-size and liquidity or solvency ratios.

What this chapter covers

This chapter teaches you to read the statement of financial position the way an analyst does. You learn how items are classified, how each one is measured, and where management judgment can change reported numbers. It covers current assets, inventories and receivables, then PP&E, intangibles and goodwill, financial instruments, liabilities and provisions, and equity.

The last topic turns the statement into numbers you can compare. Common-size analysis and liquidity and solvency ratios let you compare a company with its past and with peers. Most questions are short, so you need to know the rule and the direction of its effect.

This chapter sits inside Financial Statement Analysis and links to the income statement, cash flow statement and financial reporting quality. A choice here, such as inventory method or impairment, flows into profit, cash flow and ratios elsewhere. It also supports Corporate Finance and Equities, where you use balance sheet figures for valuation and leverage. Questions are based on IFRS unless they say US GAAP, so learn where US GAAP differs, such as the ban on reversing impairments of long-lived assets held for use.

Financial Statement Analysis carries a weight of 11-14% in the 2027 curriculum, and balance sheet ideas appear again in other statements, ratios, equity and corporate finance questions. Every question is a standalone three-option item with no penalty for a wrong answer, so clean rule knowledge lets you eliminate two options fast. Many marks come from direction-of-effect questions and simple ratio calculations, which are quick to score once your concepts are solid.

Analyzing Balance Sheets: topics in the order to study them

  1. 1Balance Sheet Components and FormatsStart here to learn the accounting equation, classified versus liquidity-based formats and the vocabulary used in every later topic.
  2. 2Current Assets, Inventories and ReceivablesThese items are short-term and easy to grasp, and they introduce cost formulas, write-downs and credit loss allowances.
  3. 3Non-Current Assets: PP&E, Intangibles and GoodwillBuilds on measurement ideas with depreciation, revaluation, impairment and what can be capitalized.
  4. 4Financial Instruments and Measurement BasesNeeds the earlier asset knowledge, and ties together amortized cost versus fair value classifications.
  5. 5Liabilities, Deferred Items and ProvisionsCovers the other side of the equation, including deferred tax, leases and provisions, which use earlier measurement logic.
  6. 6Owners' Equity and Statement of Changes in EquityEquity is what is left after assets and liabilities, so it makes sense once you understand both.
  7. 7Common-Size Analysis and Liquidity/Solvency RatiosFinish with analysis tools that use every item you have now learned and are heavily tested.

How to prepare Analyzing Balance Sheets

Plan for rules first, then numbers, then mixed practice. Short daily sessions work well on a phone, as long as you test yourself and do not only reread.

  1. Write the accounting equation and a one-page layout of a classified balance sheet from memory until it is automatic.
  2. For each asset and liability, note its measurement basis (cost, amortized cost, fair value) and what triggers a change in value.
  3. Make a small table of IFRS versus US GAAP differences (inventory methods, impairment reversal, development costs) and review it often.
  4. Practise the direction-of-effect questions: if a company does X, what happens to assets, equity, and key ratios.
  5. Do the calculations by hand or on your TI BA II Plus: weighted-average cost, FIFO and LIFO effects, straight-line and declining-balance depreciation, and the current, quick, cash, debt-to-equity and debt-to-assets ratios.
  6. Finish with mixed sets of standalone questions, timed at about 90 seconds each, and write down why each wrong option is wrong.
  7. In the final week, revisit only your error log and the quick revision points.

Common mistakes in Analyzing Balance Sheets

  • Mixing up IFRS and US GAAP rules

    Fix: Assume IFRS unless the question says US GAAP, and keep a short list of the key differences to check against.

  • Getting the direction of inventory method effects wrong

    Fix: Ask which costs sit in cost of goods sold. In rising prices FIFO leaves newer, higher costs in inventory, so inventory and profit are higher.

  • Treating goodwill as something that is amortized or can be reversed after impairment

    Fix: Remember goodwill is tested for impairment and an impairment loss on goodwill is never reversed.

  • Including inventory in the quick ratio or using the wrong debt figure

    Fix: Write the numerator and denominator for each ratio, and check what the question defines as debt before calculating.

  • Confusing temporary differences with permanent differences in deferred tax

    Fix: Only temporary differences create deferred tax assets or liabilities; permanent differences affect the effective tax rate but do not reverse.

  • Ignoring options elimination on three-choice questions

    Fix: Check direction and sign first. Often two options go the wrong way, and since there is no penalty for wrong answers, always answer.

Last-day revision: Analyzing Balance Sheets

  • Assets = Liabilities + Equity, always.
  • Current ratio = current assets ÷ current liabilities; quick ratio excludes inventories and often prepaid items.
  • Cash ratio = (cash + short-term marketable securities) ÷ current liabilities.
  • Inventory is reported at the lower of cost and net realisable value under IFRS; IFRS allows reversals of write-downs, but only up to the amount of the original write-down, so inventory never goes above original cost.
  • IFRS does not permit LIFO; in rising prices FIFO gives higher inventory and higher profit than LIFO.
  • Goodwill is not amortized; it is tested for impairment at least annually.
  • Under IFRS, impairment losses on assets other than goodwill can be reversed; under US GAAP they cannot for assets held for use.
  • Research costs are expensed; development costs may be capitalized under IFRS once criteria are met.
  • Financial assets are measured at amortized cost, fair value through OCI or fair value through profit or loss, depending on the business model and cash flow features.
  • A deferred tax liability arises when a temporary difference makes the carrying amount of an asset greater than its tax base (or the carrying amount of a liability less than its tax base). The tax paid now is lower than the accounting tax expense, for example because of accelerated tax depreciation, and the difference reverses in future periods, when taxable income is higher. Permanent differences do not create one.
  • Debt-to-equity = total debt ÷ total equity; debt-to-assets = total debt ÷ total assets.
  • Common-size balance sheet divides every line by total assets.

Analyzing Balance Sheets practice questions

Analyzing Balance Sheets in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Analyzing Balance Sheets: frequently asked questions

How important is the balance sheet chapter for CFA Level I?

It sits within Financial Statement Analysis, which has a 2027 weight of 11-14%. It also supports ratios and valuation work in other topics, so the time you spend here pays off more than once.

Do I need to memorize IFRS and US GAAP differences?

You need the main ones. Questions use IFRS unless they say US GAAP, so know the IFRS rule well and add the common US GAAP contrasts, such as LIFO and impairment reversals.

Which calculator functions help in this chapter?

Most ratio and common-size work needs only basic arithmetic on the TI BA II Plus or HP 12C. Use the memory keys to store totals so you can divide each line quickly and avoid re-entering numbers.

How should I practise for the exam format?

Do standalone questions with three options and time yourself at about 90 seconds each. After each set, note how you could have removed two options, because that habit raises your accuracy.