1. 1 Accounting Accounting The Balance Sheet Assets Dr Clive Vlieland-Boddy

2. 2 4 Fundamental Accounting Concepts again! Going Concern - That the business will continue and not be liquidated. Accruals (or Matching) - That income is matched with expenditure. You match the sale with the cost of that sale. Consistency - What you did last year you do this. Otherwise figures would be meaningless. Prudence - Caution is essential. Note “Prudence must prevail”

3. 3 What is a Balance Sheet It is like a photograph taken on a given date of the financial position of the company. (Statement of Financial Position) ……”Click”…….

4. 4 What is a Balance Sheet Flash

5. 5 The Accounting Equation The Assets = Liabilities + Shareholders (Owners) Equity. Assets = Liabilities & Equity

6. 6 A Balance Sheet….. Assets Current Non Current Investments Intangibles Liabilities Current Non Current Shareholders Equity Shares Retained Earnings

7. 7 What is an Asset? Has to have a value – either now or in the future. Must be under the control of the enterprise.

8. 8 Types of Assets There are 2 basic categories of Assets. Current Assets Non Current Assets –Tangible –Intangibles –Investments

9. 9 Current Assets Current Assets - Those that are used for the day to day trading of the company and are expected to be consumed within 12 months. E.g.: Cash, Accounts Receivable and Inventories.

10. 10 Current Assets Should be... Expected to be realised, consumed, sold or settled within 12 months. Held primarily for trading purposes or short term. Is Cash or Cash Equivalents which are not restricted. These represent the trading assets of the business.

11. 11 Current Assets - Examples Bank Balances and Cash Marketable Securities Accounts Receivable (Debtors) Sundry Prepayments Inventories (Stocks)

12. 12 Cash or Cash Equivalents If a bank account is held and there is a positive balance then this is treated as a current asset. If it is negative it is a current liability. Cash Equivalents means investments immediately convertible into cash such as a bank deposit account.

13. 13 Marketable Securities Very Short Term and highly liquidable investments.

14. 14 Current Assets Accounts Receivable ( DEBTORS)‏ A firm often sells goods where the buyer pays for them some time later. The firm has to recognise that it has sold something but as yet not been paid for it. This therefore represents an asset of the firm being money that it will receive from the sale of goods or services that it has already made. Note that any of these that are likely to fail to pay, should be deducted and recognised as a bad debt in the Income Statement.

15. 15 Accounts Receivable Money due from customers. Sometimes called Debtors. Bad Debts are those that are unlikely to be recovered.

16. Accounts Receivable Accounts receivable are reported on the balance sheet of the seller at net realizable value, which is the net amount the seller expects to collect. –Gross amount less an allowance for uncollectable accounts –Remember an asset has to have a value. –Id an account is bad and will no longer be collected then it is no longer an asset.

17. Allowance for Uncollectible Accounts There are two widely accepted methods to estimate the amount of accounts receivable that will not be collected: –Aging schedule –Percentage of sales

18. Percentage of Sales Estimate of bad debt expense is computed as a percentage of credit sales. –Example: If sales are $100,000 and we expect 2% will not be collected, then our estimate of bad debt expense will be $2,000 The expense will appear in the Income Statement as an operating Expense and as a reduction of Accounts receivable in Current Assets in the Balance Sheet

19. Aging Schedule When aging the accounts, an analysis is prepared of the receivables as of the balance sheet date. Each customer’s account balance is categorized by the number of days or months the underlying invoices have remained outstanding. Based on prior experience or on other available statistics, bad debts percentages are applied to each of these categorized amounts, with larger percentages being applied to older accounts.

20. Aging Analysis Example

21. Reporting Accounts Receivable Accounts receivable are reported on the balance sheet at net realizable value, that is, the gross amount owed to them less the allowance for uncollectible accounts. Given our gross balance of $100,000 and estimated uncollectible accounts of $2,900, accounts receivable will be reported as follows:

22. Bad Debt Expense Bad Debt Expense is equal to the increase in the allowance for uncollectible accounts. In our previous example, if no previous balance existed in the allowance for uncollectible accounts, the company would record a bad debt expense of $2,900.

23. 23 Current Assets Inventories ( Stocks & WIP)‏ Companies that manufacture goods or buy and sell will normally have to acquire the goods to be sold before selling them. They normally hold these until a customers acquires them. These goods are called inventories or stocks. There are several different classes of Inventories based on the state of the goods.

24. 24 3 Classes of Inventories Raw Materials - The basic materials before any production. Work in Progress - where goods are being converted to finished items. Finished Goods - Items ready for sale.

25. Inventories FINISHED GOODS INVENTORIES RAW MATERIALS INVENTORIES PRODUCTION PROCESS Work In Progress

26. 26 Valuation of Inventories The lower of Cost or Net realisable value. Must adjust for any further costs required to enable these to be sold. For example. A car dealer has a new BMW in stock. It cost €20,000. However it is now only worth €18,000 and requires €800 to be spent on it to enable it to be sold. Inventory value = 18,000 – 800 = 17,200.

27. 27 Slow Moving or Obsolete Must adjust for these These represent a questionable asset. Remember an asset must be owned or controlled by the enterprise and MUST have some present or future value.

28. 28 LIFO Vs FIFO Last In First Out is where you account for stocks on the basis that the last item acquired is the first item out. This tends to under value the stocks as it means that the remaining stocks are the oldest which probably costs less when purchased. First In First Out is where you expect to consume the oldest items first. This is now generally accepted as more reasonable but the USA still use LIFO.

29. 29 LIFO Vs FIFO FIFO now the only accepted method under IFRS.

30. The Operating Cycle

31. 31 Coffee Break 10.3.1 Your accountant has recommended that you immediately switch from LIFO to FIFO as this will create a profit, greater or higher for the year and improve your Current Asset position. His main reason for this recommendation is that by so doing you will avoid breaching the bank loan covenants. What would be your concerns?

32. 32 Sundry Prepayments These represent items which have been paid in an accounting period but at the Balance Sheet date, have not been fully consumed. Here the Accruals(Matching) concept requires us to recognise this. Example: The company pays its 12 months vehicle insurance one month before the year end. You would accept to charge one month in the Revenue Statement and take 11 months in The Balance Sheet so as to match against next years income.

33. 33 Prepayments Example: A Company pays its annual insurance for the 12 months from 1 st December 2006 of £12,000. At the 31 st December, it has only consumed 1/12 of this expenditure. The matching concept requires to match 1/12 in the closed year and to take the remaining 11/12 forward to match it against the next year. These non-consumed expenditures are classified as prepayments in Current Assets in the Balance Sheet.

34. 34 Coffee Break 10.5.1

35. 35 Non Current Assets NCA’s (Fixed Assets) Tangible Intangible Investments

36. 36 Tangible (NCA) Those that are held to enable the company to function. E.g. Plant and Equipment vehicles and buildings.

37. 37 Depreciation NCA’s lose value as they are used. This loss in value is called depreciation. (We will return to this later)

38. 38 Coffee Break 10.7.1

39. 39 NCA’s Intangible Assets Like Goodwill, know how, trade marks & Patents. ( we will deal with later)‏

40. 40 Intangibles Generally Have value but value can be easily lost. They have no physical appearance. Should be written off as quickly as possible.

41. 41 Investments A company may acquire shares in other companies. These will represent assets and be shown in the Balance Sheet as Investments. Normally held for a long time. Short Term Investments in say Government Stocks can be shown as Current Assets so long as they can be easily converted into cash.

42. 42 Accounting For Leased Assets Financing Lease - Essentially a way of buying the asset. Substance over legal form. Operating Lease - Just a daily or weekly hire. (Short term)

43. 43 Leased Assets Some leased assets are essentially a loan and in real terms the asset is under the ownership of the lessee ( The person who uses the asset) These are called Financing Leases and should recognise the real issues… ie “substance over legal form” Finance leases should be capitalised. Operating leases are basic, normally short term, rental agreements. They should not be capitalised.

44. 44 Financing Leases Treated as if it had been bought by the company. The asset is shown in the Balance Sheet along with the total commitments outstanding to the leasing Company

45. Summary of Assets

46. 46 Coffee Break 10.10.1

47. 47 Mark to Market Vs Historic Cost Most Assets are stated in the accounts at their original cost. Mark to Market valuations is permitted. Mark to Market looks at the current value. Ok when values are increasing but very dangerous with declining values. Some say that the banks use of Mark to Market valuations caused the Credit Crisis of the last 3 years.

48. 48 ABC Limited Balance Sheet as at 31st May 2006 Current Assets Accounts Receivable200,000 Inventories150,000 Bank Balance125,000 Total Current Assets475,000 Non Current Assets Plant & Equipment100,000 Less: Depreciation -50,000 Total Non Current Assets 50,000 Investments 25,000 Total Assets550,000

49. Revision 49

50. What is an Asset? Must be owned or controlled by the enterprise. Must have some present or future value. If it fails one of these tow tests it is NOT and asset of the enterprise. 50

51. 51 Summary of Assets

52. The 3 Main Current Assets

53. What is a Liability? Must represent a present or future responsibility from a past event. Will require settling at an expense to the business. (In other words it will have to write out a cheque) If it fails one of these two tests then it is not a liability. 53

54. Summary of Liabilities 54

55. Remember! The difference between Current & Non Current is the accounting cycle which is assumed to be less than12 months. 55

56. 56

57. Bye for now! I’m ready for some leisure time. Please ensure you Prepare for next session