2 the balance sheet
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BALANCE SHEET
Shows the Financial position or the state
of affairs of the company At a point in time
ACCOUNTING EQUATION:Assets = Liabilities + Owner’s equity
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CURRENT ASSETS Cash and other assets which will be
converted into cash in the next year Continuously circulated in the
business The cycle of conversion depends on
the operating cycle of the business Total current assets are equal to the
gross working capital of the business
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CASH & MARKETABLE SECURITIES Cash refers to cash and bank
balances, for example cash in current account
Marketable securities are investments which are readily realisable and mature in the short term, i.e. less than one year
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MARKETABLE SECURITIES Marketable securities, i.e. current
investments are to be shown at the lower of cost or fair value
Interest and dividend are income, sometimes investment cost includes interest and dividend. Such amount related to pre acquisition period, is to be excluded from investment cost
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ACCOUNTS RECEIVABLE /SUNDRY DEBTORS Balance in this account gives
details of the customer balances outstanding
Balance is net of doubtful debts, as per management estimate
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ACCOUNTS RECEIVABLE /SUNDRY DEBTORS Quality of accounts receivables
is carefully studied by analysts for example:–Number of days outstanding (ie
less than one month, more than 6 months etc.)
–Number of days sales it relates to
–Doubtful debts provisionwww.biZkul.com
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INVENTORY Items held for use in the
manufacture or for sale Amount of inventory held
depends on –nature of business i.e.
manufacturing or service–management strategy i.e. just in
time inventory management
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INVENTORY CATEGORIES Raw material Work in progress Finished goods Miscellaneous (stores/spares)
Goods in transit can be considered if legal ownership is with the company
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INVENTORY: IMPACT ON FINANCIALS Impacts P&L account –
reflected as an expense in cost of materials used
Impacts balance sheet – reflected in the closing stock of goods
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INVENTORY: VALUATION
One may assume that costs are costs, but there are costs and costs
FIFO LIFO Weighted average Actual identifiable cost
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INVENTORY: VALUATION IMPACTEXAMPLE: FIFO in times of inflation Balance sheet will reflect stock at
high (latest) prices P&L will reflect lower costs If goods are priced at cost
plus, prices will not reflect market rates of goods
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INVENTORY: VALUATION IMPACTEXAMPLE: LIFO in times of inflation Balance sheet will reflect stock at
low (old) prices P&L will reflect higher costs If goods are priced at cost
plus, prices may not be competitive
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INVENTORY: VALUATION
Goods are to be shown at the lower of cost or realisable value
Closing stock is physically counted–May be 100%–May be partial (ABC concept)–May be periodic and in rotation to
cover all items
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PREPAID EXPENSES Some expenses may be paid in
advance, such as rent, taxes, utility charges
Expenses related to the following period are included in this
They generally do not form a major component of the balance sheet
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PROPERTY, PLANT AND EQUIPMENT/FIXED ASSETS Held to produce goods or provide
services Not sold in the ordinary course of
business Proportion of fixed assets to total
assets depends on nature of business, i.e. whether a manufacturing or service company
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Proportion of fixed assets to total assets also depends on management strategy, for example decisions on renting vs. buying, outsourcing vs. producing in-house
Management decisions on depreciation methods also impact net value in balance sheet
PROPERTY, PLANT AND EQUIPMENT/FIXED ASSETS
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FIXED ASSETS: COST Cost includes purchase price and
other direct costs, duties and taxes to bring asset to working condition for intended use
Basket purchase: price can be allocated to different assets
Hire purchase assets: interest component cannot form a part of asset cost
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OTHER ASSETS Long term investments Intangible assets, such as
goodwill Deferred expenses
The impact of these assets on the balance sheet is something which analysts review carefully
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LIABILITIES Obligations for
–Future payments to be made for goods / services received
–Goods to be supplied/service rendered against advance received
Classified into –Current liabilities– Long term liabilities
May be secured or unsecured
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CURRENT LIABILITIES Claims to be satisfied in the next
one year–Bills payable–Taxes and duties payable–Current portion of long term debt– Interest accrued but not due
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CURRENT LIABILITIES When current liabilities are
reduced from current assets, the resultant amount is the ‘Net working capital’
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ACCOUNTS PAYABLE / SUNDRY CREDITORS Obligation to pay to for credit
purchase of goods or services This is an ongoing obligation
and forms a part of the current liabilities
This is analysed keeping in view the sales and purchases
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NOTES PAYABLE / BILLS PAYABLE Short term obligations to pay
for credit extended Interest expense is to be
shown separately
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ACCRUED LIABILITIES AND PROVISIONS Expenses are recorded when
incurred, irrespective of payment date
Provisions are estimated liabilities, where the liability is certain but amount not definite for example pension liabilities, product warranties. A reasonable estimate is to be made
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DEFERRED TAXES Companies are permitted to use different
methods of accounting for income and expense for – financial reporting and for – tax calculation
As a result of there may be a temporary differences in calculation of tax payable and this temporary difference is accounted as deferred tax
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CONTINGENCIES A contingent liability is a potential
liability, dependent on the outcome of an uncertain event
If this can be reasonably estimated - for example warranties - this must be disclosed in the accounts
If this cannot be reasonably estimated, must be disclosed in notes to accounts
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COMMITMENTS Commitments are contractual
obligations that will have a significant impact on the financials of the company in the future
These should be disclosed in the notes to accounts
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DEBENTURES PAYABLE Long term liability Loan – repayable with interest Interest is deductible as an
expense, hence effective cost of borrowing is lower than interest rate
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DEBENTURES PAYABLE May be secured debentures or
unsecured Secured by way of:
–Mortgage – immovable assets – land, building, machinery
–Pledge – Physical possession given to lender
–Hypothecation – borrower can use assets like vehicles
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DEBENTURES PAYABLE Kinds of debentures Registered or unregistered Term or serial Convertible Option for calling Deep discount
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DEBENTURES PAYABLE Debentures are rated by rating
agencies They can be issued at face value
(par value) or above or below this value; i.e. at discount or premium
Debenture interest has to be provided on accrual basis
Debenture issue expenses may be amortised over life of the same
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DEBENTURES PAYABLE Debentures can be converted to
equity–Unamortised discount or premium is
adjusted to shareholder’s equity account
Debenture redemption fund is created by periodically investing surplus in income generating investments
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MORTGAGE Loan in which borrowing is secured
by pledging specific immovable assets–Land, building, plant & machinery
May be conditional or equitable mortgage
May be repaid in equal installments (EMI) or not
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LEASE An agreement whereby the lessor
conveys to the lessee in return for a payment or series of payments the right to use an asset for an agreed period of time
Finance lease transfers substantially all the risks and rewards incidental to ownership of asset (Asset and liability to be recognised)
Operating lease is other than a finance lease (Expense in P&L account)
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SHAREHOLDERS’ EQUITY Common stock or equity share
capital Preference share capital Reserves and surplus including
retained earnings
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