balance sheet

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The balance sheet


The balance sheet

AssetsNon-current (“fixed”) assetsProperty, plant and equipment

Current assetsCash at bankReceivables (“debtors”)Inventories (“stocks”)


The balance sheet



Non-current assets we do not intend to

liquidate


The balance sheet



Current assets we do intend to

liquidate (collect debtors, sell

stock ...)


The balance sheet



What about People?


What do we mean by an asset?

•Items where the benefit has yet to come (equipment will produce goods in the future, debtors will provide cash in the future)•Are only assets to the extent that they represent a benefit•Are owned by the company (except for “finance leases”; these are leases which are loans in disguise)


Non-current (or fixed) assets

These assets are held for some time in the business and need to be depreciated


DepreciationYou buy some equipment, today, for £10,000. You estimate that it has a 5 year life, when you will scrap it.

Balance 10sheet

Income statement

Cash flow (10)

Today

Today; all of the benefit of owning the equipment lies

in the future. So the expenditure is entirely an

asset



Balance 10 10Sheet (2)

8Income Statement (2)

Cash flow (10)

Today

A year later 1/5th of the expected benefit has been

used; so 1/5th of the spend is now a cost. This is

depreciation

1 2



Balance 10 10Sheet (2)

8Income Statement (2)

Cash flow (10)

Today 1 2

10 10 10 10(4) (6) (8) (10) 6 4 2 -

(2) (2) (2) (2)


Receivables (“debtors”)

•These are sums due from our customers.

•Recall that assets are only assets to the extent that they represent a future benefit

• So for debtors the future benefit is not how much we are owed...

•But how much we expect to receive. So the debtor figure is the outstanding invoice sum less any bad or doubtful debts


Inventories (“stocks”)

•Again with inventories we can only show the future benefit•With stocks this is the possibility of selling them at a profit•However we cannot account for a profit until we have made it...•So stocks are shown at original purchase price, unless...•There is no future benefit (ie profit). We are going to make a loss on the stock. No benefit = no asset•Where we are going to make a loss we reduce the holding value of the stock to its likely net sales value


What about people?

Are people an asset?People are clearly an asset to a business...

But are they an asset for accounting purposes?


People

There is only one industry where people are shown as accounting assets....


People

There is only one industry where people are shown as accounting assets....Professional sports players. Why?Assets need to be capable of being valued. Professional sport

is the only sector where people are bought and sold.Thus the purchasing company has an amount.Note that if the sportsman was acquired free then he/she does not appear on the balance sheet (no amount)


Intangible assets

This issue with people (only purchased people can be shown as assets) also applies to intangible assets generally. Only purchased intangible assets may be shown on the balance sheet.

The most common intangible asset we encounter is GOODWILL


Goodwill

What makes up a company’s goodwill?


Goodwill

What makes up a company’s goodwill?

staff

Geographic spread

Client quality

brand

Spread of products

abilitycontacts

loyalty quality


Goodwill

But remember only purchased goodwill (like sportsmen) is shown on the balance sheet

The company’s own inherent goodwill IS NOT shown; only that of companies’ it has purchased


Goodwill and amortisation

Goodwill is not amortised (depreciated)

Instead an impairment test is done a year later. The company revalues its acquisition. If it would pay less than the original purchase price then the goodwill is written down

An example...


Goodwill example

Company A has net assets worth £80m. Company B buys the company in 2011 for £110m.

£80m

£80m

£30m = goodwill


Goodwill example

Company A has net assets worth £80m. Company B buys the company in 2011 for £110m.

A year later it values the company at £100m. So the goodwill is reduced by £10m to £20m.

£80m

£80m

£30m = goodwill = £20m


Goodwill and the impairment review

Note that in the last example the £10m write down is NOT amortisation (like depreciation, the transfer of an asset to cost due to its benefit being used up). Instead an impairment write down is the acknowledgment that company B overpaid for its acquisition.


Liabilities

Liabilities:Payables due in less than a year

Trade payables (Creditors)Short term debt

Payables due after more than a yearLong term debt

Shareholders’ EquityShare capitalRetained earnings

There is not much to say about the

liabilities. We shall discuss debt and equity when we

consider gearing in the KPI

presentation


The balance sheet

Liabilities:Payables due in less than a year

Trade payables (Creditors)Short term debt

Payables due after more than a yearLong term debt

Shareholders’ EquityShare capitalRetained earnings

AssetsNon-current (“fixed”) assetsProperty, plant and equipmentCurrent assetsCash at bankReceivables (“debtors”)Inventories (“stocks”)

The total of these 2 columns will be equal.

Assets= liabilities


The balance sheet; an example

We buy a property for £10m, paying £2m cash, borrowing £5m and issuing £3m of sharesAssetsProperty +£10mCash -£2m

Net effect +£8m

LiabilitiesDebt +£5mEquity (sharecapital) +£3m

+£8m

The balance sheet has increased by £8m on both sides: it balances


Balance sheet formats

The asset = liability format shown so far is very popular around the world. But not in the UK! The balance sheet assets = liabilities:Property, plant and equipment PayablesReceivables DebtInventories EquityCash


Balance sheet format: UK

In the UK the payables and debt are deducted from the assets:Property, plant and equipment PayablesReceivables DebtInventories EquityCash

(Payables)(Debt)

Net Assets Equity


Balance sheet example

Take the earlier example using UK format: We buy a property for £10m, paying £2m cash, borrowing £5m and issuing £3m of shares

Assets LiabilitiesProperty +£10mCash -£2m Equity +£3m(Debt) -£5m

Net effect +£3m +£3mIt still balances!


Balance sheet summary

•Assets represent future benefit and only to the extent that they represent a benefit•Non-current (“fixed”) assets are not intended to be liquidated when acquired (although one can one’s mind later)•Goodwill is only shown where it is purchased•There are a number of different balance sheet formats: assets= liabilities, net assets= equity


Aqhuman Financial Training

Aqhuman’s principal is Kevin Amor, FCA. Kevin qualified as a chartered accountant with PWC. He spent 12 years working in commerce at financial controller/director level. Kevin now has more than 12 years experience in financial training. He trains managers at all levels and gives 1 to 1 financial coaching to senior executives.He also teaches corporate finance andaccounting for a number of business schools’ MBA programmes.

balance sheet

Economy & Finance

balance sheet assets

intangible assets

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equipment current assets

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companys goodwill

amortisation goodwill