unit ii measuring and reporting financial position (balance sheet)

Unit II Balance Sheet OverviewBackground

As a means of telling interested people about business operations, accounting performs important tasks of recording daily transactions, classifying recorded data, summarizing recorded and classified data and interpreting the summarized facts. In all business enterprises, accounting information is summarized in at least two basic financial reports. One of these financial reports shows what the business is worth in terms of the properties it owns (i.e., the assets), the debts it owes (i.e., the liabilities), and the investment of its owner/s (i.e., the proprietorship). This report is called the balance sheet and this statement informs the users of the financial condition of the business at a given date, usually at the end of an accounting period.

Purpose

The purpose of Unit II The Balance Sheet - Assets, Liabilities and Owners Equity (Service Business) is to illustrate different forms of balance sheet and how to prepare them. Students will also be introduced in analyzing business transactions using the accounting equation.

In this unit

This unit contains the following topics: Topics Forms of Balance Sheet Parts of the Balance Sheet Accounting Equation Current Assets Plant, Property and Equipment Current Liabilities Long-Term Liabilities Owners Equity Debit and Credit of Balance Sheet Items See Page 2 of B5 of B 7 of B 8 of B 10 of B 12 of B 13 of B 14 of B 15 of B

Marivic D. Valenzuela-Manalo

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Forms of Balance SheetOverview

As provided in the revised Philippine Accounting Standard (PAS) 1 based on the International Accounting Standards (IAS), the balance sheet should be prepared following the new accounting concept of materiality and aggregation, i.e., a separate schedule would be attached to the report to explain the amounts with corresponding "notes". It is also required that a separate statement of changes in equity be prepared, and therefore, the owner's equity section of the balance sheet would show only the ending balance of the capital account as shown in the given illustration. The following discussions will provide readers information on how the account and report format of balance sheets may be prepared.

Account Form

In the account form of balance sheet, the assets are listed on the left side of the report and the liabilities and proprietorship on the right side. The example below illustrate the account form:JOSEPH LABRADOR, COMPANY Balance Sheet December 31, 20XI ASSETS LIABILITIES AND OWNER'S EQUITY

Current Assets Current Liabilities Cash & cash equivalents (7) P 20,000 Trade & Other Payables (11) P 55,000 Investments in trading securities 10,000 Current Portion of Trade & Trade Receivables (8) 30,000 mortgage Payable 20,000 Prepaid Expenses (9) 29,000 Total Current Assets P 89,000 Total Current Liabilities P 75,000 Non Current Assets Property, Plant & Equip (10) Non Current Liabilities Notes Payable (due in 3 years) P 70,000 Mortgage payable 180,000 Total non current liabilities 250,000 Total liabilities P 325,000 Owner's Equity Labrador, Capital 555,000 TOTAL LIABILITIES P880,000 AND OWNER'S EQUITY P 880,000 ======= ======= 791,000 Continued on next page

TOTAL ASSETS


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FormsofBalanceSheet,ContinuedReport Form

A balance sheet prepared in report form shows the assets on the top section of the statement and the liabilities and owners equity on the bottom section. The example below illustrate the report form:JOSEPH LABRADOR, COMPANY Balance Sheet December 31, 20X1 Current Assets Cash & cash equivalents Investments in Trading Securities Trade & Other Receivables Prepaid Expenses Total Current Assets Non Current Assets Property, plant & equipment TOTAL ASSETS LIABILITIES AND OWNER'S EQUITY Current Liabilities Trade & other payables (11) P 55,000 Current portion of mortgage payable 20,000 Total Current Liabilities Non Current Liabilities Notes Payable (due in 3 years) Mortgage Payable Total No Current Liabilities Total Liabilities Owners Equity Joseph, Capital TOTAL LIABILITIES AND OWNER'S EQUITY P 70,000 180,000 250,000 P 325,000 555,000 P 880,000 ======= ASSETS Notes (7) (8) (9)

P 20,000 10,000 30,000 29,000 P 89,000

(10)

791,000 P 880,000 =======

P 75,000


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FormsofBalanceSheet,ContinuedNotes

Note 7 - Cash & cash equivalents Cash on Hand Cash in Bank Total cash and cash equivalents Note 8 Trade & other receivables Accounts Receivable Less: Allowance for Doubtful Accounts Notes Receivable Interest Receivable Advances to Employees Total trade & other receivables Note 9 Prepaid expenses Office Supplies on Hand Prepaid Insurance Prepaid Advertising Total Prepaid expenses Note 10 Property, plant & equipment Land Building Less: Accumulated Depreciation Office Equipment Less: Accumulated Depreciation Furniture & Fixtures Less: Accumulated Depreciation Total Carrying value Note 11 Trade & other payables Accounts Payable Notes Payable Interest Payable Accrued Salaries Expense Unearned Rent Income Total trade & other payables

P 5,000 15,000 P 20,000 ====== P 20,000 1,200 P 18,800 7,500 700 3,000 P 30,000 ===== P 6,000 20,000 3,000 P 29,000 ===== 300,000 450,000 70,000 380,000 110,000 20,000 90,000 25,000 4,000 21,000 791,000 ===== 20,000 18,000 2,000 5,000 10,000 55,000 =====


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Parts of the Balance SheetOverview

This portion will enumerate the different parts of a balance sheet and their corresponding placement in the financial report being prepared.

Statement Heading

Includes the name of the business, tells the kind of statement it is, and gives the date for which the report is prepared

Asset, Liability, Proprietorship Captions

Items are grouped and each group of items is identified by special captions.

Classification of each group of items appear against the left margin of the statement.

Account titles

Individual account titles in each classification are indented.

Current Assets

The individual current assets are usually listed in order of their liquidity, with the most liquid asset, Cash appearing first.

Plant, Property, Equipment

The plant assets are often listed in order of their expected useful life with the assets with the longest expected useful life, Land appearing first.

Note (#)

The separate schedule attached to the report explaining in detail the aggregated amount presented on the face of the financial statement.Continued on next page


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PartsoftheBalanceSheet,ContinuedCurrent Liabilities

The current liabilities are in theory listed in order of due date, with the debt with the earliest due date appearing first.

Captions Indicating Totals Single Rule Line Final Totals

Each group of items (i.e., total current assets, total plant, property and equipment, total current liabilities, etc.) is indented further.

The last figure in each group of items is underlined.

The two final totals (i.e., total assets and total liabilities and owners equity) appear as the last line in their respective sections and are underlined twice (double ruled) to indicate a final total.

Peso Sign

Peso signs are used (a) to the left of the first amount of a group of amounts being combined and (b) to the left of each final total.

Peso Amount

The peso amount for the detailed items is shown in one column; the total of each classification is extended into the last column on the right-hand side of the statement.


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Accounting EquationOverview

One important feature of the balance sheet relates to a very simple fact. The balance sheet of any business must show total assets exactly equal in amount to the sum of the liabilities and the capital. This relationship exists regardless of the size of the enterprise or the variety of its assets, liabilities and ownership interest. This identity is called the basic accounting equation. Often it is stated as: ASSETS = LIABILITIES + OWNERS EQUITY

Which means, assets equal liabilities plus proprietorship. Other times the equation appears as: ASSET - L IABILITIES or ASSET - OWNERS EQUITY = L IABILITIES = OWNERS EQUITY

Assets

This includes anything owned or possessed by the business which is capable of being expressed in terms of money or possessing monetary values, and which, consequently, is available for the payment of the debt of the business. In short, assets represent the resources of the business.

Liabilities

Economic obligations (i.e., debts) payable to an individual or an organization outside the business.

Owners Equity

The claim of an owner of a business over the assets of the business after the claims of the creditors have been satisfied.


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Current AssetsOverview

This includes cash and any other assets that are reasonably expected to be converted into cash or consumed during one year or one operating cycle, i.e., whichever is longer.

Cash

Currency, coins and checks that the business has received from customers and other sources that have not yet been deposited in its bank account, as well as the amount the business has on deposit in its bank account, against which checks may be drawn in payment of bills.

Investments in Trading Securities Notes Receivable

Short-term investment in stocks of other business (also known as marketable securities).

The amount due in the near future from persons or companies on the basis of their formal, written promises to pay cash to the business on the date specified in the promissory note.

Interest Receivable

The amount of interest due as of the balance sheet date on notes received from customers.

Accounts Receivable Advances to employees

The total amount owed to the business by charge account customers.

Cash advance given to an employee to be liquidated in the form of service.Continued on next page


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CurrentAssets,ContinuedMerchandise inventory

The purchase price of the particular line of goods the business expects to sell to its customers for cash or on a charge account basis. This represents goods on hand as of the balance sheet date.

Accrued Income

Income already earned but not yet collected, such as interest earned on promissory note issued by the customer before the maturity date of the note.

Supplies on hand

The cost value of such things as wrapping paper and packaging tape and twine, (Store Supplies on Hand), computer ribbons, envelopes, stamps, paper (Office Supplies on Hand) , and other assets of a similar nature that the business will use up in performing its activities.

Prepaid insurance

That part of the premium cost of all kinds of insurance carried by the business after the balance sheet date. Prepaid insurance is always classified as a current assets even if the amount of the unexpired premiums cover a period longer than one year, the time limit used in defining current assets.

Prepaid rent

Rent paid by the business for facilities to be used after the balance sheet date. For example, on December 1, 20X1, a business paid P30,000 for December, January, and February rent. On a balance sheet dated December 31, 20X1, the amount of Prepaid Rent would be shown as P20,000 the amount paid for the use of the facilities for January and February, 20X2.


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Plant, Property and EquipmentOverview

Assets are classified as plant, property and equipment if they meet the following criteria: (1) they must have physical existence; (2) they must be more or less permanent in nature; (3) they must not be for sale; (4) they must be used in business operations; and (5) they must undergo depreciation (except land). (Pefianco, E., Mercado,R., 1983)

Land

The cost of land the business uses to carry on its activities - the lot on which its factory or office building stands.

Building

The original cost less accumulated depreciation is shown to give the depreciated value of the structures in which the business carries on its operation. This item could be separated into such things as Factory Building, Office Building, Warehouse, and any other type of building the business wishes to show on its statement of financial position.

Equipment

The original cost less accumulated depreciation is shown to give the depreciated value of the equipment used in the operations of the business. The title equipment may also be separated into whatever special assets of this type the business cares to identify. The business may use such titles as Office Equipment for the value of the adding machines, calculators, and typwritters the office employees use, and Delivery Equipment, for the value of the trucks and automobiles the business uses to deliver its merchadise to customers. A manufacturing enterprise would probably show the value of the machines in its factory as Factory Machinery and Equipment.Continued on next page


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Plant,PropertyandEquipment,ContinuedFurniture and Fixtures

The original cost less accumulated depreciation is shown to give the depreciated value of furniture and fixtures used in the operation of the business. The title Furniture and fixtures almost explains itself and may also be subdivided. Desks and chairs and counters used by office employees might be listed as Office Furniture and Fixtures. Display cases, chairs used by customers, and merchandise counters in a department store could be entitled Store Furniture and Fixtures.

Accumulated Depreciation

All property and equipment accounts except land are subject to depreciation. Depreciation is the allocation of the cost of a property account to its period of usefulness in order to recognize a decline in its value because of wear and tear, obsolescence or inadequacy. The total amount of depreciation accumulated over a number of years is called accumulated depreciation.


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Current LiabilitiesOverview

Current liabilities are debts or obligations of a business that are expected to be liquidated by the use of assets classified as current or by the creation of another current liability.

Accounts payable

The total amount owed by the business as of balance sheet date for purchases of merchandise, supplies, and services made on a charge account basis and due within one year from the balance sheet date.

Notes Payable

The amounts owed by the business on the basis of formal, signed notes such as the thirty-day or six-month notes signed when borrowing from a bank. If merchandise is bought and the creditor requires the business to sign a note for the amount of the purchase, the title Notes Payable is used. If the same business borrowed from a bank, the liability may be shown also as Notes Payable. This is classified as current liability if the note is due within one year.

Interest Payable

The amount of interest owed by the business as of balance sheet date for money borrowed on interest bearing promissory notes issued by the firm. This interest debt builds up each day. The loan is outstanding-the interest accruesand it is shown as a separate liability apart from the face value of the note, which appears in the Notes Payable account.

Deferred Income

Income already collected but not yet earned. Rental payment received by the lessor from the lessee may be treated as unearned rent income by the former.

Taxes Payable

The amount of taxes owed by the business as of balance sheet date.


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Long-Term LiabilitiesOverview

Long-term liabilities are debts or obligations that will become due and payable after one year from balance sheet date.

Notes Payable Long Term

Amounts on signed formal notes due after one-year from the date of the balance sheet.

Installment Contracts Payable

Amounts payable after one year from the balance sheet date on long-term installment notes, such as those signed by the consumers when buying automobiles and household appliances. Installments due within one year from the balance sheet date are listed as current liabilities.

Mortgage Payable

A debt due after one year from the balance sheet date that has some of the business property, such as land, buildings, or equipment-pledged as security.


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Owners EquityOverview

Owners equity or sometimes called capital or proprietorship is the excess of assets over liabilities of a business.

Capital

The amount invested in the business by the owner as of the balance sheet date.

Withdrawal

When the owner withdraws cash or other assets from the business for personal use, its assets and its owners equity both decrease. The amounts taken out of the business appear in a separate account entitled Withdrawals, or Drawing. If withdrawals were recorded directly in the capital account, the amount of owner withdrawals would be merged with owner investments. To separate these two amounts for decision-making, businesses used a separate account for Withdrawals. This account shows a decrease in owners equity.


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Debit and Credit of Balance Sheet ItemsOverview

Analyzing business transactions would involve a dual effect in any of the elements of the accounting equation. These dual effects would be analyzed and recorded in terms of debit and credit. This part of the study guide will introduce the readers on the basic understanding of the rules of debit and credit affecting balance sheet items.

Account

The basic summary device of accounting is the account. This is a detailed record of the changes that have occurred in a particular asset, liability or owners equity during a period of time.

T-Account

For the purpose of analyzing the balance items into debit and credit, we will be using in our illustrations the T-account. It takes the form of the capital letter T. The vertical line in the letter divides the account into its left and right sides. The account title rests on the horizontal line. For example, the cash account of a business appears in the following Taccount format: CASH Left side Debit Right side Credit

The left side of the account is called the debit side, and the right side is called the credit side. Often beginners in the study of accounting are confused by the words debit and credit. To become comfortable using them, simply remember debit = left side credit = right side The type of an account determines how increases and decreases in it are recorded. Increases in assets are recorded in the left (the debit) side of the account. Decreases in the assets are recorded in the right (the credit) side of the account. Conversely, increases in liabilities and owners equity are recorded by credits. Decreases are recorded by debits.Continued on next page


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DebitandCreditofBalanceSheetItems,ContinuedAccounting Equation EQUITY Rules of Debit and Credit Illustration

This pattern of recording debits and credits is based on the accounting equations:ASSETS Debit for Increase Credit for Decrease = Debit for Decrease LIABILITIES Credit for Increase + Debit for Decrease OWNERS Credit for Increase

The following examples illustrate the accounting equations: Joseph Labrador invested P100,000 cash to begin his accounting business. ASSETS = LIABILITIES + OWNERS EQUITY Labrador, Credit for increase Php 100,000

Cash Capital Debit for increase Php 100,000

The business purchased office supplies on account for P5,000. ASSETS = LIABILITIES + OWNERS EQUITY Accounts Credit for increase Php 5,000Continued on next page

Office Supplies Payable Debit for increase Php 5,000


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DebitandCreditofBalanceSheetItems,ContinuedIllustration, cont.

The following examples illustrate the continuation of the accounting equations: The business paid one year rental for its office space, P24,000. ASSETS = LIABILITIES + OWNERS EQUITY Cash Credit for increase Php 24,000

Prepaid Rent Debit for increase Php 24,000

The business paid of the amount owed in buying office supplies. ASSETS = LIABILITIES + OWNERS EQUITY Cash Credit for increase Php 2,500

Accounts Payable Debit for increase Php 2,500


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unit ii measuring and reporting financial position (balance sheet)

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