The Balance Sheet- Assets

Is there a relationship between liabilities and owner's equity? What is an acceptable proportion of each?

- A company's assets are funded by a combination of liabilities and equity. - The amount of debt in relation to the owner's equity is referred to as "leverage". - For example, a company with liabilities totalling $100,000 and owners' equity totalling $50,000 is said to have a leverage of 2:1. That is, for every dollar in owner's equity, there are two dollars in debt. - The typical level of debt to equity, and the level of debt to equity that is acceptable to a lender, will depend on the nature of the business.

1.3 Current Assets

- Assets that are likely to be converted into cash within 12 months following the financial statement date. - they are listed in order of liquidity - Most current assets are used in the operating cycle, in purchasing inventory or converting raw material into inventory, and then selling goods or services to customers and collecting payments in cash. - example situation- Fisher photo equipment & supplies has purchased 50 video cameras from a highly regarded manufacturer. It has sold 40 and has 10 in stock - It has already received payment for 30 of the cameras sold and is expecting payment for the remaining 10 within the next 30 days. - These transactions fall under three different headings stated below:

What is the relationship between current assets and current liabilities?

- By definition, current assets will be converted to cash within one year of the date of the balance sheet. Current liabilities represent obligations that must be paid within the same time frame. - You would normally expect to see current assets equal or exceed current liabilities. In other words, the company's current assets will generate at least enough cash to pay the obligations coming due within the next year. - The difference between current assets and current liabilities is called "working capital", a measure of liquidity

1.7 Accrued Expenses

- Expenses such as salaries, payroll taxes, and utility bills (telephone, electricity, etc) accrue until payment is actually made. All of these expenses are called accrued expenses and would appear in current liabilities - Think of these as obligations to pay for a benefit already enjoyed, but for which the business has not yet received a bill or paid

1.7 Accounts Payable

- Fisher Phot received an invoice from the manufacturer for the purchase of 50 video cameras, to be paid within 30 days - accounts payable are bills from suppliers that must be paid within 12 months of the balance sheet date. - accounts payable are considered current liabilities. Generally, accounts payable do not require a signed note, just the invoice as proof of the payment agreement.

1.3 Current Assets- Cash

- Fisher Photo has already received cash as payment for 30 of the cameras it has sold - The cash account increases for a company when: 1. Makes a sale with payment in cash 2. Converts an asset on the balance sheet to cash (for example, when the company receives payment on an invoice that is part of accounts receivable) 3. Receives cash from loan proceeds or an infusion of equity - The cash account decreases when the company pays out cash: 1. To purchase an asset (such as the video cameras in the Fisher Example) 2. To pay an expense, such as employee salaries or utility bills 3. To repay a loan or other liability

1.7 Notes Payable

- Fisher photo would like a short-term (payable on demand or within 1 year) loan from a bank to take advantage of a pricing promotion for video cameras. It signs a formal agreement with the bank- called a promissory note- promising to repay the funds before the end of the fiscal year. This loan is classified on the balance sheet as notes payable, along with any short-term loans that are outstanding. - Notes payable do not have required periodic principal payments prior to the due date. - Lines of credit are examples of notes payable

1.5 Net Amounts and Contra Accounts

- For some accounts, you will see the term "net" next to the account name. For example, on the fisher photo balance sheet, there is a listing for "fixed assets (net)" - Net means the value of the asset account has been adjusted by a Contra Account. - Contra Account- an account that reduces another balance sheet account. In this case, the contra account is "accumulated depreciation" - another common contra account is "the allowance for doubtful accounts" This contra account reduces accounts receivables and reflects the company's estimate of the number of customer accounts that will likely not be collected - each year a portion of the original cost of fixed assets is removed from the account and allocated or charged against revenue as depreciation expense. Depreciation expense is added to the contra account called accumulated depreciation instead of reducing the fixed asset account directly. This allows readers of the financial statements to identify the original costs of the assets, depreciation to date, and net book value. So, the "net" placed next to an asset account indicates its current value after adjusting for all of the accumulated depreciation.

is there a connection between noncurrent assets and noncurrent liabilities

- Noncurrent assets are generally acquired and financed by LT debt. You would expect to see the repayment of LT debt match or be less than the useful life of the asset it financed

1.10 Owner's Equity

- Owner's equity begins with the initial investment from the owners and changes over time from profits or losses, adding to or decreasing retained earnings; additional cash contributions of owners and investments; minus any withdrawals or dividends paid - Fisher Photo Example: 1. The owners started the business with an investment of $20,000 seven years ago. this investment is called contributed capital 2. Today, the business is doing very well. Last year's balance sheet showed total assets of $1.4 million 3. Over the last seven years, owner's equity has grown with the business, because the owners have kept a large portion of annual profits in the business as retained earnings to support its growth. - As a result, owner's equity has grown from the initial investment of $20,000 to over $300,000

1.3 Current Assets- Accounts Receivables

- The balance in accounts receivables is the total of all unpaid invoices due from customers that have purchased goods or services on credit - Accounts receivable are the most liquid form of current assets, after cash and marketable securities - In the example, Fisher Photo has issued invoices to its customers, and expects to receive payment within 30 days, for 10 of the 40 cameras sold. The total amount of these unpaid invoices is included in accounts receivables - Collection of accounts receivable (conversion of accounts receivable into cash) is the primary source of repayment for many commercial loans

1.4 Non-Current Assets

- These Assets Include: 1. have a useful life of longer than 1 year 2. Not expected to be converted to cash within one year from the date of the balance sheet - The following are examples of non-current assets: 1. Fixed Assets- Fisher Photo buys a forklift to be used in the warehouse. The company expects to derive the benefits of this asset over the course of several years. It is a long-term, tangible asset that will be held for business use and is not expected to be converted into cash within 1 year 2. LT Investments- Fisher photo purchases a 25% ownership interest in a start-up company that makes camera bags. Because Fisher's intention is to hold this investment for a period of several years, this becomes a non-current asset. 3. Intangibles- Fisher photo purchases a smaller photo supply company for $500,000. But the net book value of "smaller photos" assets is only $498,000. Why did fisher photo pay $2,000 extra - It could be for the reputation smaller photo supply enjoys in the market, or for the value of its customer mailing list- a new source of customers for fisher photo - this reputation or value addition is referred to as goodwill. This is an intangible asset of the company and will be listed under non-current assets. Goodwill is expected to have LT value and is, therefore, a non-current asset.

1.7 Current Portion of LT Debt

- Two years ago, Fisher Photo took out a bank loan to purchase a couple of forklifts. The loan will be repaid in equal payments over a 5-year period. - CPLTD shows thew required periodic principal amount that must be paid within 12 months following the date of the balance sheet; it is included in current liabilities

1.7 Current Liabilities

- amounts due to be paid within one year following the date of the balance sheet. They are listed on the balance sheet in order of payment priority. There are 4 common types: 1. Notes Payable 2. Current Portion of LT Debt 3. accounts Payable 4. Accrued Expenses

1.8 Non-Current Liabilities

- debts due to be paid more than 1 year from the balance sheet date. LT loans and capital lease payments due in greater than one-year are common non-current liabilities -As you know, Fisher Photo obtained a bank loan two years ago to purchase a couple of forklifts. The loan was to be prepaid over a five period. The principal amount that is to be repaid within the 12 months from the financial statement date is a current liability

1.3 Current Assets- Inventory

- refers to the existing stock of goods likely to be sold in the near future. This current asset comes next in terms of liquidity, after accounts receivable - Fisher Photo's inventory includes the 10 unsold video cameras of the original 50 purchased. The cost of the 10 cameras (what Fisher paid to the manufacturer, not the price they intend to sell them for) is included in the inventory account.

1.2 The Balance Sheet

-Note: When financial statements cover more than one period (ex. Month or Year), accountants generally present the most recent period first, on the left, followed by earlier periods in descending orders from left to right. - Key points to balance sheet (Assets) : 1. It must be dated as of a certain date 2. Years are shown at the top of the column 3. Current Assets- Convert to cash within one year following the date of the balance sheet 3. GAAP- Current assets must be listed in order of liquidity with the most liquid assets first. Accounts at the top are closest to being converted to cash; accounts at the bottom are slowest to convert to cash 4. Non-current Assets- If useful life exceeds 1 year 5. Total Assets- must equal total liabilities + equity - Key Points to a Balance Sheet (Liabilities & Owners equity): 1. It must be dated as of a certain date 2. Years are shown at the top of the column 3. Current Liabilities- Must be paid in 1 year following the date of the balance sheet. Listed in order of payment priority 4. LT Debt- Payable more than one year after the date of the balance sheet 5. Contributed Capital- Contributions by owners 6. Retained Earnings- Accumulated net profits. Net of distributions to owners 7. Total Liabilities and Equity- Must equal total assets