The Balance Sheet - PowerPoint PPT Presentation

1 / 38
About This Presentation
Title:

The Balance Sheet

Description:

Illustrate the format and structure of the balance sheet. ... Show the difference between a cost-basis and a market-basis balance sheet. ... – PowerPoint PPT presentation

Number of Views:2502
Avg rating:3.0/5.0
Slides: 39
Provided by: beb8
Category:
Tags: balance | sheet

less

Transcript and Presenter's Notes

Title: The Balance Sheet


1
The Balance Sheet Its Analysis(Chapter 5)
2
Objectives
  • Discuss the purpose of the balance sheet.
  • Illustrate the format and structure of the
    balance sheet.
  • Outline some issues related to valuing assets.
  • Show the difference between a cost-basis and a
    market-basis balance sheet.
  • Define owner equity or net worth.
  • Analyze a firms solvency and liquidity.
  • Introduce the statement of owner equity.

3
The Balance Sheet
  • Summarizes the financial condition of the
    business at a point in time
  • Remember the snapshot idea!
  • Estimates net worth or owner equity.
  • Most transactions affect the balance sheet, so it
    may change daily.

4
Purpose of a Balance Sheet
  • Everything owned and owed by a business or
    individual at a given point in time.
  • Asset anything of value owned.
  • Liability any debt or other financial
    obligation owed to someone else.
  • Owner Equity/Net worth the amount the owner has
    invested in the business.
  • Balance idea
  • Owner Equity Assets Liabilities

5
Preparing a Balance Sheet
  • Can be completed at anytime.
  • Most are prepared at the end of the accounting
    period
  • Represents both end-of-the-year and
    beginning-of-the-year.
  • That is, end of year 1 beginning of year 2!
  • For comparison purposes and analysis.
  • Should follow guidelines of some recognized
    accounting entity
  • FFSC Farm Financial Standards Council used for
    farm-based businesses.

6
General Format of a Balance Sheet
  • Assets
  • Current assets XXX
  • Noncurrent assets XXX
  • Total assets XXX
  • Liabilities
  • Current liabilities XXX
  • Noncurrent liabilities XXX
  • Total liabilities XXX
  • Owners equity XXX
  • Total liabilities and
  • owners equity XXX

7
Assets
  • An asset can be sold to generate cash.
  • Used to produce other goods.

8
Current Assets
  • Goods that have already been produced and can be
    sold quickly without disrupting future production
    activities
  • Grain.
  • Feeder livestock.
  • Other inventories.
  • Goods that will be used up or sold within the
    next year
  • Cash.
  • Checking and savings account balances.
  • Stocks and bonds.
  • Accounts and notes receivable.
  • Inventories of feed, farm supplies, etc..

9
Noncurrent Assets
  • Any asset that is not a current asset.
  • Assets that are owned primarily to produce
    output, that will be sold to produce revenue.
  • Selling noncurrent assets to generate revenue
    would affect the firms ability to produce future
    income.
  • More difficult to sell quickly and easily at
    their full market value
  • Machinery and equipment.
  • Breeding livestock.
  • Buildings.
  • Land.

10
Liabilities
  • An obligation or debt owed to someone else.
  • An outsiders claim against one or more assets of
    the business.

11
Current Liabilities
  • Financial obligations that will become due and
    payable within 1 year
  • Accounts payable.
  • Principal and accumulated interest on short-term
    loans or notes payable (operating loans).
  • Principal payments on long-term loans due within
    the next year
  • Machinery, land.
  • Accrued expenses
  • Accumulated interest, accrued property taxes, etc.

12
Noncurrent Liabilities
  • All obligations that dont have to be paid in
    full within the next year.
  • The remaining balance on long-term debt.

13
Owner Equity
  • The amount of money left for the owner if the
    assets were sold and all liabilities paid.
  • Also called Net Worth.
  • The owners current investment in the business.
  • Equity Total assets - Total liabilities

14
Changes in Owner Equity
  • Using assets to produce crops and livestock
  • Profit is then used to purchase additional assets
    or to reduce liabilities.
  • If there is a change in an assets value.
  • If an inheritance is received.
  • Cash or property is contributed to the business
    or withdrawn from the business.
  • An asset is sold for more or less than its
    balance sheet value.
  • Important to recognize that only certain things
    bring about a change in owner equity.

15
Changes in Owner Equity
  • Composition of assets and liabilities may not
    cause a change in owner equity
  • If 10,000 cash is used to purchase a new
    machine?
  • If 10,000 is borrowed to purchase a new machine?
  • Until depreciation, no impact!
  • Using 10,000 from cash to make an early
    principal payment on a loan?
  • Owner equity changes only when
  • The owner invests personal capital from outside
    the business.
  • The owner withdraws personal capital.
  • The business shows a profit or loss.
  • Changes in asset values because of changes in
    market prices.

16
Intermediate Assets
  • Dividing noncurrent assets into two categories
    (allowed by FFSC)
  • Intermediate assets have a life greater than 1
    year but less than 10 years
  • Machinery, equipment, perennial crops, breeding
    livestock
  • Fixed assets have a life greater than 10 years
  • Land, buildings

17
Intermediate Liabilities
  • Dividing noncurrent liabilities into two
    categories.
  • Intermediate liabilities debt obligations
    where repayment of principal occurs over a
    period of more than 1 year and as long as 10
    years
  • Loans used to purchase machinery, breeding
    livestock, and other intermediate assets.
  • Fixed liabilities debt obligations where the
    repayment period is longer than 10 years
  • Farm mortgages, land purchases.
  • Additional division is recognized by FFSC, but
    not encouraged.

18
Asset Valuation
  • Cost-basis
  • Values all assets using the cost, cost less
    depreciation, or farm production cost method.
  • Inventories of grain and market livestock can be
    valued at market value less selling costs.
  • Market-basis
  • Values all assets at market value less selling
    cost
  • Inflation and fast depreciation methods can cause
    market values to be higher than book values.
  • Market-basis usually has higher asset values
    implying higher equity.

19
Advantages of Cost-basis or Market-basis Balance
Sheets
  • Cost-basis
  • Conform to GAAP.
  • Conservative.
  • Comparable with balance sheets from other types
    of businesses.
  • Changes in equity come only from net income that
    has been earned and retained.
  • Market-basis
  • More accurate indication of the current financial
    condition.
  • Shows the current value of available collateral.

20
Use Cost or Market Basis for Balance Sheet?
  • Both are important and have value.
  • Recommended by FFSC
  • Market-based with full documentation.
  • Two column format with both.
  • Recommend following specified procedure for
    valuing assets

21
Valuation Methods for Cost-basis Market-basis
Balance Sheets
  • Asset Cost Basis Market Basis
  • Marketable securities Cost Market
  • Inventories of grain market livestock Market Ma
    rket
  • Accounts receivable Cost Cost
  • Prepaid expenses Cost Cost
  • Investment in growing crops Cost Cost
  • Purchased breeding livestock Cost Market
  • Raised breeding livestock Cost or base
    value Market
  • Machinery equipment Cost Market
  • Buildings Improvements Cost Market
  • Land Cost Market

22
Balance Sheet Analysis
  • Used to measure the financial condition of the
    business (management tool)
  • Compare to other, but similar businesses.
  • Compare to the same business over time.
  • Lenders use balance sheet analysis to make
    lending decisions and to monitor the financial
    progress of their customers.
  • To deal with relative size issue, use what?

23
Balance Sheet Analysis
  • Measures of Liquidity
  • Current Ratio
  • Working Capital
  • - not a ratio (in ), so size must be considered.
  • Measures of Solvency
  • Debt/Asset Ratio
  • Equity/Asset Ratio
  • Debt/Equity Ratio

24
The Concept of Liquidity
  • Short-term measure.
  • Measures the ability to meet financial
    obligations
  • As they come due.
  • Without disturbing normal revenue generating
    activities.
  • Ability of the business to generate cash.

25
Measures of Liquidity
  • Current Ratio
  • Total current farm assets Total current farm
    liabilities
  • Example from text 112,500 88,860 1.27
  • Write the Current Ratio as 1.271
  • Current assets compared to current liabilities.
  • Values gt 1 are preferred (safety margin).
  • Larger ratios imply more liquid.

26
Measures of Liquidity
  • Working Capital
  • Total current farm assets - Total current farm
    liabilities
  • Example 112,500 - 88,860 23,640
  • Write the Working Capital as 23,640
  • left after selling all current assets and
    paying off all current liabilities.
  • Margin of safety in a value.
  • Compare to similar sized operations.

27
The Concept of Solvency
  • Measures the degree to which liabilities are
    backed up by assets.
  • Measures liabilities relative to owner equity.
  • Ability to pay off all liabilities if all assets
    were sold.

28
Measures of Solvency
  • Debt/Asset Ratio
  • Total farm liabilities Total farm assets
  • Example 368,860 741,500 0.4975
  • - share of total assets owed to lenders.
  • Can write the Debt/Asset Ratio as a percent
  • Multiply by 100 (example 49.75)
  • of total assets owed to lenders.

29
Measures of Solvency
  • Equity/Asset Ratio
  • Total farm equity Total farm assets
  • Example 372,640 741,500 0.5025
  • - share of assets financed by owner capital.
  • Can write the Equity/Asset Ratio as percent
  • Multiply by 100 (example 50.25).
  • of total assets financed by owners equity
    capital.
  • Higher values are preferred.

30
Measures of Solvency
  • Debt/Equity Ratio (leverage ratio)
  • Total farm liabilities Total farm equity
  • Example 368,860 372,640 0.99
  • Write the Debt to Equity Ratio as 0.991
  • Lender financing compared to owner financing.
  • Smaller values are preferred??

31
Solvency and Liquidity based on valuation method
  • Our examples used market basis
  • 1. Liquidity differences if used cost- basis?
  • - looked at how relevant assets are valued.

32
Valuation Methods for Cost-basis Market-basis
Balance Sheets
  • Asset Cost Basis Market Basis
  • Marketable securities Cost Market
  • Inventories of grain market livestock Market Ma
    rket
  • Accounts receivable Cost Cost
  • Prepaid expenses Cost Cost
  • Investment in growing crops Cost Cost
  • Purchased breeding livestock Cost Market
  • Raised breeding livestock Cost or base
    value Market
  • Machinery equipment Cost Market
  • Buildings Improvements Cost Market
  • Land Cost Market

Current Assets
33
Solvency and Liquidity based on valuation method
  • Our examples used market basis
  • 1. Liquidity differences if used cost- basis?
  • - looked at how relevant assets are valued.
  • 2. Solvency differences if used cost- basis?
  • - lower values for assets lower
    solvency measures.

34
Valuation Methods for Cost-basis Market-basis
Balance Sheets
  • Asset Cost Basis Market Basis
  • Marketable securities Cost Market
  • Inventories of grain market livestock Market Ma
    rket
  • Accounts receivable Cost Cost
  • Prepaid expenses Cost Cost
  • Investment in growing crops Cost Cost
  • Purchased breeding livestock Cost Market
  • Raised breeding livestock Cost or base
    value Market
  • Machinery equipment Cost Market
  • Buildings Improvements Cost Market
  • Land Cost Market

Noncurrent Assets
35
Statement of Owner Equity
  • Shows the source of changes in owner equity and
    the amount that came from each source.
  • Where growth (or lack of growth) is coming from
  • Reconciles beginning and ending owner equity.

36
Summary
  • A balance sheet shows the financial position of a
    business at a point in time.
  • Assets can be valued using cost methods or
    current market valuations.
  • Liquidity measures the ability of the business to
    meet financial obligations as they come due and
    without disturbing normal production.
  • Solvency measures the degree to which the
    liabilities of the business are backed up by its
    assets.

37
Measuring the Financial Position of the Business
  • Liquidity measures the ability of the business
    to meet financial obligations as they come due
    without disrupting the normal operations of the
    business.
  • Measures the ability to generate cash in the
    amounts needed at the time it is needed.
  • Liquidity is a short-run concept.

38
Measuring the Financial Position of the Business
  • Solvency measures the liabilities of the
    business relative to the amount of owner equity
    invested in the business
  • An indication of the ability to pay off all
    financial obligations if all assets were sold.
  • The degree to which assets are greater than
    liabilities.
  • If assets are not greater than liabilities, the
    business is a candidate for bankruptcy.
  • Longer term issue??
Write a Comment
User Comments (0)
About PowerShow.com