A. Read the text and single out the main items of the balance sheet.

In the course of operations a corporation needs numerous reports and statements to provide a permanent record of its financial activities. These statements and reports are prepared by the corporation’s own staff, and most are done in a standardized format. The financial position of an accounting entity as of a specified moment in time is shown by a balance sheet. In fact, its formal name is statement of financial position. More specifically, the balance sheet reports the assets and equities and liabilities (liabilities and owner’s equity) of the entity at the specified moment in time.

In Illustration 5.2, the assets of the PROFF Company amount to $35,670.

Illustration 5.2.

PROFF COMPANY

Balance Sheet

July 31, 200X

In dollars

Assets

Liabilities & Stockholders’ Equity

Current assets:     Current liabilities:     Cash 12,470   Accounts payable 600   Accounts receivable 700   Notes payable 3,000       13,170     3,600 Property, plant and  equipment:     Stockholders’ equity:     Delivery equipment 20,000   Capital stock 30,000   Office equipment 2,500   Retained earnings 2,070     22,500     32,070 Total assets   35,670 Total liabilities and stockholders’ equity   35,670

They consist of current assets of cash and accounts receivable (amounts due from customers) and property,plant, and equipment consisting of delivery equipment and office equipment. Current assets consist of cash and other short-lived assets reasonably expected to be converted into cash or to be consumed or used up in the operations of the business within a short period, usually one year. Property, plant, and equipment refer to relatively long-lived assets that are to be used in the production or sale of other assets or services rather than being sold.

Liabilities are the debts owed by a firm. Typically, they must be paid at certain known moments in time. The liabilities of the PROFF Company are both relatively short-lived current liabilities. They consist of accounts payable (amounts owed to suppliers) and notes payable (written promises to pay) totaling $3,600. Other firms may have long-term liabilities on their balance sheets. Such long-term liabilities could include mortgages or bonds due in periods beyond one year.

The PROFF Company is a corporation. It is customary to refer to the owners’ interest in a corporation as stockholders’ equity. The PROFF Company’s stockholders’ equity consists of $30,000 paid in for shares of capital stock and retained earnings (earnings not paid out to stockholders) of $2,070. The balance sheet heading includes the name of the organization, the title of the statement, and the date of the statement, also note that the claims upon or interests in assets equal the assets. Every transaction affects at least two items and preserves the fundamental equation: Assets = Liabilities + Stockholders’ equity. The dual-aspect concept is evident from the fact that the assets listed on the left-hand side of a balance sheet are equal in total to the liabilities and shareholders’ equity listed on the right-hand side.

Because of the dual-aspect concept, the two sides necessarily add up to the same total. This equality does not tell anything about the company’s financial health. The label “balance sheet” can give an impression that there is something significant about the fact that the two sides balance. This is not so; the two sides always balance.

An alternative practice is to list assets at the top of the page and to list liabilities and owner’s equity beneath them. The former format is called the account form^[6], and the latter is called the report form^[7] of balance sheet.

b. Decide whether the following statements are true or false. Account for your decision:

F	1.	Companies give information about their financial situation in financial statements. The balance sheet shows the company’s assets – the things it owns; its liabilities – the money it owes and its revenue at the end of the reporting period.
T	2.	The balance sheet shows the financial position of the economic entity at the particular moment in time. So the balance sheet is a status report rather than a flow report.
F	3.	Property, plant, equipment and cash are long-lived assets.
F	4.	Accounts payable, notes payable, mortgages, bonds are the debts owned by a firm.
T	5.	The dual-aspect concept means that the assets listed on the left-hand side of a balance sheet are equal in total to the liabilities and shareholders’ equity listed on the right-hand side.

e. Match the two parts of the sentences:

1. The historical cost principle is that the price paid to buy assets

2. Intangible assets are usually long-term in nature

3. Liabilities are considered to be current liabilities

4. Some things of value are never shown on a balance sheet,

5. When you deduct a company’s liabilities from its assets

 

a. you are left with shareholders’ funds.

b. and not their current value is recorded in accounts.

c. if the obligation is to be settled within the current accounting period.

d. and lack physical substance.

e. for example, the knowledge and skills of the company’s employees.

 

1	2	3	4	5
B	D	C	E	A