328 Management skills considers the make-up of the balance sheet in terms of assets and liabilities, and examines the liquidity position (how much cash or easily realizable as- sets are available) and capital structure with the help of balance sheet ratios. The balance sheet equation The balance sheet equation is: capital + liabilities = assets. Capital plus liabilities show where the money comes from, and assets indicate where the money is now. Make-up of the balance sheet The balance sheet contains four major sections: Assets or capital in use, divided into long-term or fixed assets (eg land, buildings and plant) and short-term or current assets, which include stocks of goods and materials, work in progress, debtors, bank balances and cash. Current liabilities, which are the amounts which will have to be paid within 12 months of the balance sheet date. Net current assets or working capital, which are current assets less current liabilities. Careful control of working capital lies at the heart of efficient business performance. Sources of capital, which comprise share capital, reserves including retained profits and long-term loans. Liquidity analysis Liquidity analysis is concerned with the extent to which the organization has an acceptable quantity of cash and easily realizable assets to meet its needs. The analysis may be based on the ratio of current assets (cash, working capi- tal, etc) to current liabilities (the working capital ratio). Too low a ratio may mean that the liquid resources are insufficient to cover short-term payments. Too high a ratio might indicate that there is too much cash or working capi- tal and that this is therefore being badly managed. The working capital ratio is susceptible to `window dressing', which is the manipulation of the working capital position by accelerating or delaying transactions near the year end. Liquidity analysis also uses the `quick ratio' of current assets minus stocks to current liabilities. This concentrates on the more realizable of the current assets and therefore provides a stricter test of liquidity than the working capital ratio. It is therefore called `the acid test'. Capital structure analysis Capital structure analysis examines the overall means by which a company finances its operations, which are partly by the funds of their ordinary share- holders (equity) and partly by loans from banks and other lenders (debt). The ratio of long-term debt to ordinary shareholder's funds indicates `gearing'.