05 balance sheet

59
Intermediate Financial Accounting I Balance Sheet and Financial Disclosures

Upload: shah-md-muslemin

Post on 16-Sep-2015

216 views

Category:

Documents


0 download

DESCRIPTION

bs

TRANSCRIPT

  • The Balance Sheet and Financial Disclosures*Objectives of the Chapter1. Identify the major classifications of the balance sheet.2. Prepare a classified balance sheet statement.3. Discuss the disclosures to financial statements.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Objectives of the Chapter (contd.)4. Understand the accounting treatment for subsequent events.5. Limitations of the balance sheet.6. Use financial ratios to study financial performance of corporations.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Balance Sheet StatementUsefulness of the Balance Sheet: Providing information about the financial position and the capital structure of a business entity. Providing information about the liquidity, solvency (risk assessment), financial flexibility and operating capability of a business entity.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*

    Classified Balance Sheet (Kieso, etc. 14th e,, illustration 5-16) Scientific Products, Inc.BALANCE SHEETDecember 31, 2012AssetsCurrent assetsCash$42,485Available-for-sale securities--at fair value28,250Accounts receivable$165,824 Less allow. for doub. Accts. 1,850163,974Notes receivable23,000Inventories -- at average cost489,713Supplies on hand9,780Prepaid expenses 16,252*

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Illustration 5-16 (Contd.)Scientific Products, Inc.BALANCE SHEETDecember 31, 2012Prepaid expenses 16,252Total current assets$773,454Long-term investmentsInvestments in Warren Co.87,500Property, plant, and equipmentLand--at cost125,000Buildings--at cost975,800Less accu. Depr.341,200634,600Total PPE759,600Intangible assetsGoodwill 100,000Total assets$1,720,554*

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Illustration 5-16 (contd.)Liabilities and Stockholders EquityCurrent liabilitiesN/P to banks$50,000Accounts payable197,532Accrued int. on N/P500Income taxes payable62,520Accrued salaries, wages, and other liabilities9,500Deposits received from customers 420Total current liabilities$320,472Long-term debt20-year 12% debentures, due January 1, 2008 500,000Total liabilities820,472*

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Illustration 5-16 (contd.)Stockholders equityPaid in on capital stock Preferred, 7%, cumulativeAuthorized, issued, and outstanding, 30,000 shares of $10 par value$300,000 Common--Authorized, 500,000 shares of $1 par value; issued & outstanding, 400,000 shares400,000 additional paid-in capital 37,500737,500Earnings retained in the business162,582Total stockholders equity 900,082Total liabilities and stockholders equity$1,720,554*

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Definition of Elements of a Balance Sheet: (SFAC No. 6)AssetsLiabilitiesStockholders equity

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*AssetsResources with future economic benefit to a business entity as a result of a past transaction.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Assets (contd.)Current Assets: cash and other assets that are reasonably expected to be realized in cash or sold, or consumed during a normal operating cycle or one year, whichever is longer Examples: Cash and cash equivalents (fair value), short-term investments (fair value), receivables (estimated amount collectible), inventory (LCM), prepaid expenses).

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Assets (contd.)Long-term Investments: Comprise of the followingSecurities (i.e., bonds, stock, long-term notes)Fixed assets (i.e., land, building)Special funds (i.e., pension fund, bond sinking fund)Nonconsolidated subsidiaries or affiliated companies (investment in Uncon Subsidiary)

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Assets (contd.) Property, Plant, Equipment (i.e., building, Land, Machinery and equipment, capital leases): assets used in firms operations and meet the following criteria:1. Economic life > 1 year;2. Acquired for use in operation;3. Not for resale to customers;4. $ is material. (materiality)Depreciation will be applied except for land.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Assets (contd.) Intangible Assets: assets with no physical substance but have value based on rights or privileges that belong to the owner (i.e., goodwill, patents, franchises, trademarks,).Amortization for limited life intangibles (i.e., patents, franchises) and impairment test for indefinite-life intangibles (i.e., goodwill).

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Assets (contd.)Other Assets: Include assets sufficiently different from assets in other categories. Examples: long-term prepayments, deferred income tax.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*LiabilitiesLegal obligations required future payments of assets or services as a result of a business entitys past transactions or events.A. Current LiabilitiesB. Long-term LiabilitiesC. Other Liabilities

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*A. Current LiabilitiesObligations must be fulfilled in one year or one operating cycle, whichever is longer. (will require the use of current assets or the creation of current liability) (i.e., A/P, N/P, accrual payable, unearned revenue, income tax payable, current portion of L-T debt)

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*ContingenciesContingent LiabilitiesContingent LossesContingent Gains

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Contingent LiabilitiesObligations may arise because of the occurrence or not occurrence of future event(s). (i.e., warranty obligations)

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Contingent LossesLosses may arise because of the occurrence or not occurrence of future event(s).(i.e., the uncollectable accounts, the pending lawsuit losses, possible damage of a fire (or flood))

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Contingent GainsGains may arise because of the occurrence or not occurrence of future events). (i.e., pending lawsuit gains)

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Accounting Treatments of ContingenciesThe accounting treatments of the contingencies depend on the occurrence probability of the related future event(s).

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Accounting Treatments of Contingencies (contd.)Occurrence probabilities of future event(s): (SFAS No. 5)1. Probable: The future event(s) is(are) likely to occur.2. Reasonably possible: The chance for the future event(s) to occur is less than probable but greater than remote.3. Remote: The chance of the future event to occur is unlikely.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Accounting Treatments of Contingent Liabilities & LossesIf the future event(s) is(are)a. probable, andb. amount of loss (liability) can be estimated

    -- The loss (liability) should be estimated, and recognized (accrued).

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Examples1. B/D Exp.XXXAllowance for B/DXXX2. Warranty Exp.XXXEstimated Warranty LiabilitiesXXX3. Lawsuit Exp.XXXEstimated Liability under LitigationXXX

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Accounting Treatments of Contingent Liabilities & Losses (contd.)If the future event is probable, but the amount of loss (or liability) CANNOT be estimated, the contingent loss (or liability) should only be footnoted (not accrued).

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Accounting Treatments of Contingent GainsIf the event is probable and the amount of contingent gains is determinable, only footnote the information. NO unrealized gain can be recognized under the current accounting standards (conservatism!).

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*B. Long-Term LiabilitiesObligations are not due in next year or next operating cycle, whichever is longer. (i.e., bonds payable, pension liability)

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*C. Other LiabilitiesLong-term advances from customers, deferred income taxes.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Stockholders EquityResidual claims (assets-liabilities) to the business entity from stockholders including:a. contributed capitalb. (+ or -)Accumulated Other Comprehensive Incomec. retained earnings (or - deficit)d. (-)treasury stock

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*a. Contributed Capital Par value of common stockPar value of prefer stockPaid-in capital in excess of par value of common stock or preferred stock

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*b. Accumulated Other Comprehensive IncomeIncrease of assets without outflows of assets, increase of liabilities, increase of income or issuance of common stock (i.e.,(+) increase in market value of securities-available-for-sale (+ or -), gains or losses of foreign currency adjustments, etc.)

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*c. Retained EarningsNet income not distributed to stockholdersappropriated unappropriated

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Other Disclosure IssuesAPB opinion No. 22 (ASC 235-10-05) required the disclosure of the following information as an integral part of the financial statement (i.e., in the notes):1. Accounting Policies: All significant accounting principles and methods such as :depreciation method of PPE, inventory cost flow method and valuation method (LCM),revenue recognition principles.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Other Disclosure Issues2. Contingencies.3. Subsequent Events.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Subsequent EventSignificant events occurred after the fiscal year end but before the issuance date of the annual report.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Subsequent Event - IntroductionInvestors should be informed of significant events such as mergers, acquisitions, break-ups, spin-offs, issuance of bonds, issuance of stocks, settlement of litigation, loss of plant due to flood or fire even if these events occur after the fiscal year end. As long as these events occur prior to the issuance date of the annual reports, they should be disclosed in the reports.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Subsequent Event - OverviewThere are two types of subsequent events:1. Events require adjustments of balance sheet statement.2. Events do not require adjustment of balance sheet statement but require disclosure in the footnotes.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Events Require Adjustment of B/SEvents with evidence indicates that conditions existed at or prior to the B/ S date.Examples: (assume FYE is 12/31/x1 and the report release date is 3/31/x2) Bankruptcy occurred on a major client on 2/1/x2. The bankruptcy condition may exist for this client prior to 12/31/x1. Litigation settlement on 2/10/x2. The condition for this litigation existed prior to 12/31/x1.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Events Do Not Require Adjustment of B/S but Require DisclosureExamples: (assume FYE is 12/31/x1 and the report release date is 3/31/x2)A fire occurred on a major client on 3/1/x2.Sales of bonds on 2/9/x2.Loss of inventories due to a fire on 1/20/x2.Issuance of common stock on 1/30/x2.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*SEC RegulationsPublicly traded firms need to file the 10-K reports with the SEC. Some of the SEC regulations for the 10-K reports are also followed by the firms in preparing the annual reports.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Example AComparative financial statementsB/S 2 yearsI/S and cash flow statement 3 yearsSelected financial data items (i.e., net sales, operating revenue EPS, total assets, cash dividends declared) should have a 5-year data.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Example B (MD&A)Management Discussion and Analysis (including critical accounting estimates):Any information useful in assessing cash flows but not in the B/S (i.e. inflation impact on sales, liquidity and capital resources of the firm,) should be included in the management discussion.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*

    MD&A: Critical Accounting Estimates The estimation of possible losses inherent in the financial receivables.The estimation of profits over the multiple-year terms for revenue recognition on long-term project services agreements .The estimates and assumptions needed in assessing asset impairment for investments, long-lived assets and goodwill.Pension assumptions such as discount rate and expected rate of returns on pension assets.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*

    MD&A: Contractual Obligations (required by the SEC)The contractual obligations for future payments as of December 31, 2008 for GE are as follows:

    In billionsTotal20092010-20112012-20132014 and thereafterBorrowings (Note 18)$523.8$193.7$115.6$79.8$134.7Int. on borrowings14220291875Operating Lease Obli.6.61.32.21.61.5Purchase Obligations.63401661Insurance Liabilities2245311Other liabilities97338452Contractual Obl. Of discontinued. operations11---

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Example CMarket Prices and Dividends of Common Stocks:The high and low prices for each quarter in the last two years.The dividends paid in the last two years.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Other Footnote DisclosuresEarnings Per Share InventoriesEmployee Stock OptionsPostretirement Benefit Plans Leases,Investment SecuritiesPurchase CommitmentBond covenantsReceivables

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Other Footnote Disclosures (contd.)Property, Plant and EquipmentGoodwill and other Intangible AssetsAllowance for Losses on Financial ReceivablesBorrowingFinancial InstrumentsProvisions for income taxesOff-Balance Sheet Arrangements

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Other Footnote Disclosures (contd.)Fair Value Measurements Disclosure (SFAS 157,effective 1/1/2008) Companies report fair value for assets and liabilities must disclose the fair value hierarchy level of the fair value measurements.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Fair Value Hierarchy (SFAS 157)

    Level 1 (most reliable) measures are based on quoted prices for identical instruments in active markets.Level 2 measures are based on quoted prices for similar instruments (assets or liabilities) in active markets.Level 3 (least reliable) measures are based on unobservable inputs such companys data or assumptions.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Fair Value Measurements Disclosure : Footnote 28 of GE 2008 Annual Report

    Level 1Level 2Level 3Fin. 39 NettingNet Bal.Assets Investment Securities$1,158$27,332$12,956 ___$41,446Derivatives ___ 18,911 1,142 (7,411) 12,642Others 1 288 1,105 ____ 1,394total $1,159 $46,531 15,203$(7,411)$55,482LiabilitiesDerivatives $ 2 $12,643$ 166 $(7,575)$ 5,236Other ____ 1,031 ____ ____ 1,031Total$ 2$13,674$ 166 $(7,575)$6,267

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Limitations of the Balance SheetHistorical costs reporting for most of assets and liabilities.Estimations involved in the value of some assets and liabilities (i.e., the net realizable value of accounts receivable and the cost of warranty).the omission of some valuable items such as goodwill of the company.Off-balance sheet assets and liabilities.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Ratio AnalysisRatio analysis is one of the techniques that financial analysts use to analyze the financial statements of firms.For the purpose of analyzing financial statements, ratios can be classified into the following four categories: (see Exhibit 5-3)

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Exhibit 5-3Major Types of RatiosLiquidity Ratios. Measures of the enterprises short-term ability to pay its maturing obligations.Activity Ratios. Measures of how effectively the enterprise is using the assets employed.Profitability Ratios. Measures of the degree of success or failure of a given enterprise or division for a given period of time.(Stability Ratios.)Coverage Ratios. Measures of the degree of protection for long-term creditors and investors.

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Exhibit 5-4 Ratio I. Liquidity1.Current ratio

    2.Quick or acid-test ratio

    3.Current cash debt coverage ratio

    Purpose or Use

    Measures short-term debt-paying ability

    Measures immediate short-term liquidity

    Measures a companys ability to pay off its current liabilities in a given year from its operations

    Formula

    Current assets Current liabilitiesCash, marketable securities, and receivables (net) Current liabilitiesNet cash provided by operating activities Average current liabilities

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Exhibit 5-4 (contd.) Ratio II. Activity4.Receivable turnover

    5.Inventory turnover6.Asset turnover

    III. Profitability7.Profit margin on sales

    Purpose or Use

    Measures liquidity of receivables

    Measures liquidity of inventoryMeasures how efficiently assets are used to generate sales

    Measures net income generated by each dollar of sales

    Formula

    Net Credit Sales Average trade receivables (net) Cost of goods sold Average inventory Net Sales Average total assets

    Net income Net sales*

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Exhibit 5-4 (contd.) Ratio III. Profitability(contd.)8.Rate of return on assets9.Rate of return on common stock equity

    10.Earnings per share

    11.Price earnings ratio

    Purpose or Use

    Measures overall profitability of assetsMeasures profitability of owners investment

    Measures net income earned on each share of common stockMeasures the ratio of the market price per share to earnings per share Formula

    Net income Average total assetsNet income minus preferred dividends Average common stockholders equityNet income minus preferred dividends Weighted shares outstanding Market price of stockEarnings per share

    *

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Exhibit 5-4 (contd.) Ratio III. Profitability(contd.)12.Payout ratio

    IV. Coverage (Stability Ratios)13.Debt to total assets

    14.Time interest earned

    Purpose or Use

    Measures % of earnings distributed in the form of cash dividends

    Measures the % of total assets provided by creditorsMeasures ability to meet interest payments as they come due Formula

    Cash dividends Net income

    Total debt Total assets or equitiesIncome before int. charges & taxes Interest charges*

    The Balance Sheet and Financial Disclosures

  • The Balance Sheet and Financial Disclosures*Exhibit 5-4 (contd.) Ratio IV. Coverage(contd.)15.Cash debt coverage ratio

    16. Book value per share

    Purpose or Use

    Measures a companys ability to repay its total liabilities in a given year from its operationsMeasures the amount each share would receive if the company were liquidated at the amounts reported on the balance sheet Formula

    Net cash provided by operating activities Average total liabilities

    Common Stockholders equityOutstanding shares*

    The Balance Sheet and Financial Disclosures

    ************