The Balance Sheet

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Topic 2

• The Balance Sheet

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Learning Objective
To explain the nature and general purpose of
financial statements.
LO1
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Introduction to Financial Statements

• Three primary financial statements.

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Introduction to Financial Statements
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Introduction to Financial Statements
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Introduction to Financial Statements
Revenues result in positive cash flow.
Expenses result in negative cash flow.
Either in the past, present, or future.
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Introduction to Financial Statements
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Introduction to Financial Statements
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A Starting Point Statement of Financial Position
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Learning Objective
To explain certain accounting principles that are
important for an understanding of financial
statements and how professional judgment by
accountants may affect the application of those
principles.
LO2
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The Concept of the Business Entity
A business entity is separate from the personal
affairs of its owner.
Vagabond Travel Agency
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Assets
Assets are economic resources that are owned by
the business and are expected to benefit future
operations.
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Assets
Cost Principle
These accounting principles support cost as the
basis for asset valuation.
Going-Concern Assumption
Stable-Dollar Assumption
Objectivity Principle
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Liabilities
Liabilities are debts that represent negative
future cash flows for the enterprise.
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Owners Equity
Owners equity represents the owners claims on
the assets of the business.
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Owners Equity
Changes in Owners Equity
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The Accounting Information System

• The activities of an organization result in
  transactions which create data (financial
  and non-financial).
• This data is converted into information in the
  form of reports for management action and
  decisions.
• Transactions are often recorded using technology.
  Data are processed, again with the aid of
  technology, into information (reports) by
  employing accounting concepts and practices.

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Activities and Accounting Information
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Learning Objective
To demonstrate how certain business transactions
affect the elements of the accounting equation
Assets Liabilities Owners Equity.
LO3
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The Accounting Equation
Assets Liabilities Owners
Equity 300,000 80,000 220,000
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Lets analyze some transactions for JJs Lawn
Care Service.
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On May 1, Jill Jones and her family invested
8,000 in JJs Lawn Care Service and received 800
shares of stock.
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On May 2, JJs purchased a riding lawn mower for
2,500 cash.
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On May 8, JJs purchased a 15,000 truck. JJs
paid 2,000 down in cash and issued a note
payable for the remaining 13,000.
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On May 11, JJs purchased some repair parts for
300 on account.
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Jill realized she had purchased more repair parts
than needed. On May 18, JJs was able to sell
half of the repair parts to ABC Lawns for 150, a
price equal to JJs cost. JJs will receive the
cash within 30 days.
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On May 25, ABC Lawns pays JJs 75 as a partial
settlement of its accounts receivable.
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On May 28, JJs pays 150 of its accounts payable.
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On May 29, JJs recorded lawn care services
provided during May of 750. All clients were
paid in cash.
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Learning Objective
To explain how the statement of financial
position, often referred to as the balance sheet,
is an expansion of the basic accounting equation.
LO4
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On May 31, JJs purchased gasoline for the lawn
mower and the truck for 50 cash.
Now, lets review how JJs transactions affected
the accounting equation.
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Lets prepare the Income Statement and Statement
of Cash Flows for JJs Lawn Care Service for the
month ending May 31, 2007.
These transactions impact the Statement of Cash
Flows.
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Learning Objective
To prepare an income statement, a statement of
retained earnings, and a balance sheet.
LO1
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Net income also appears on the Statement of
Retained Earnings.
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Statement of Retained Earnings
This statement summarizes the increases and
decreases in Retained Earnings during the period.
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Now, lets prepare the Balance Sheet.
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Learning Objective
To explain how the income statement and the
statement of retained earnings relate to the
balance sheet.
LO2
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Preparing Financial Statements




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Learning Objective
To explain the concept of adequate disclosure.
LO3
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Drafting Notes to the Financial Statements

• Examples of Items Disclosed
• Lawsuits pending
• Scheduled plant closings
• Governmental investigations
• Significant events occurring
• after the balance sheet date
• Specific customers that
• account for a large portion of
• revenue
• Unusual transactions and
• related party transactions

Notes to the Financial Statements
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Learning Objective
To explain the nature and purpose of
classifications in financial statements.
LO3
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Chart of Accounts

• A list of account numbers used to record all
  transactions/activities
• Assets are listed first followed by Liabilities,
  Owners Equity, Revenue and Expense accounts.
• Large organizations may require 1,000 accounts
  and a smaller firm may survive with just 20
  accounts.
• More accounts can be added or deleted as required
  by the business.

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Assets

• Current Assets are assets that can be quickly
  turned into cash
• Cash at Bank, Accounts Receivable (customers
  that owe us money) and Inventory
• Non Current Assets (also known as Fixed Assets)
  are assets which last more than one year
• Plant and Equipment, Office Furniture,
  Buildings, Motor Vehicles and Investments

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Liabilities

• Current Liabilities are accounts due for payment
  within one year
• Accounts Payable (suppliers we owe money to),
  Short term loans and Taxation liabilities
• Non Current Liabilities which are debts to be
  paid over a period longer than one year
• Mortgages and Debentures

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Owners Equity

• Owners Equity is the investment the owners have
  in the organization
• Initial Capital Introduced - the money/assets
  initially invested
• Plus past profits - Retained Profits
• Plus current year profits - net profit
• Less any Drawings Dividends taken out of the
  business

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A Classified Balance Sheet
Asset Section of the Balance Sheet
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A Classified Balance Sheet
Liability and Stockholders Equity Section of the
Balance Sheet
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Learning Objective
To prepare a classified balance sheet and compute
widely used measures of liquidity and credit risk.
LO4
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Ratios
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• Use this information to calculate the liquidity
  ratios for Babson Builders, Inc.

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Working Capital
Working capital is the excess of current assets
over current liabilities.
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Accounting Cycle

• Transactions are identified and analyzed
• Transactions are recorded in journals
• Cash Receipts Journal used to record all cash
  received by the entity.
• Cash Payments Journal used to record all
  payments.
• Purchases Journal used to record all purchases
  on credit.
• Sales Journal used to record all sales on
  credit.

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Accounting Cycle contd

• Periodically, totals of the transactions from the
  journals are posted to the ledger a collection
  of all accounts in the form of a book or computer
• Some accounts are adjusted to match revenues
  and expenses to correct period
• The financial statements are then prepared
• The accounts are closed