Accounting 11

Unit 1 – Financial Positionand

the Balance Sheet

Purpose of Accounting

To provide financial information for decision making

Every accounting system:• Records the day-to-day financial activities of the

business• Summarizes and reports information in financial

statements to be used for analysis and decision making

• Anne is the assistant manager in a community branch of the Bank of Canada. As part of her duties, she authorizes loans to individuals and to businesses that wish to borrow money.

Unit 1 Financial Position

• Recently, Bob visited Anna to apply for a loan. Bob is a graduate of the NSCC horticulture program and has been working for a landscaper for the past year. Bob would like to own and operate a business. Although quite young, Bob feels that his college training, combined with the practical experience gained over the past year, will enable him to successfully start his own landscaping business.

Unit 1 Financial Position

• Bob needs $10 000 to start the business. In deciding whether to grant a loan, Anna needs to examine the financial position of the applicant. First, she lists the items owned by Bob:

Items Owned by BobCash $ 4 000Government Bonds 5 000Clothing 3 000Furniture 15 000Equipment 10 000Automobile 20 000

$57 000

Unit 1 Financial Position

Financial Position of a person or company: the financial status represented by that person or company’s assets, liabilities, and net worth or equity

• Next, Anna lists what Bob owes to creditors.

Creditors are people or businesses that extended credit when goods or services were purchased or who loaned money to purchase possessions.

Debts Owed to Creditors by Bob:Credit Card debt $ 2 000Bank Loan 10 000

$12 000

Unit 1 Financial Position

• Now Anna determines Bob’s financial position.

total value of - total owed to = personal netItems owned creditors worth$ 57 000 $ 12 000 $ 45 000

• Anna has determined that Bob’s net worth is $45 000.

Unit 1 Financial Position

Terminology

Assets – items of value owned by a business or person

Liabilities – debts owed to others by a business or person

Personal Equity- represents a person’s net worth

Unit 1 Financial Position

Balance Sheet Equation

• The balance sheet equation is a way of stating the financial position of a person or business.

Assets = Liabilities + Owner’s Equity

For Bob:$57 000 = $12 000 + $45 000

Unit 1 Financial Position

Balance Sheet• The balance sheet is a financial statement that lists the assets,

liabilities, and personal equity (net worth) at a specific date. For Bob,

Unit 1 Financial Position

Bob SmithPersonal Balance Sheet

As at September 30, 20--

Assets Liabilities

CashGovernment BondsClothingFurnitureEquipmentAutomobile

$ 4 0005 0003 000

15 00010 00020 000

Credit Card DebtBank LoanTotal Liabilities

$ 2 00010 00012 000

Personal Equity

Bob Smith, Net Worth 45 000

Total Assets $57 000 Total Liabilities and Personal Equity

$57 000

Some additional terminology

One type of asset is Accounts ReceivableAccounts Receivable:

refers to the total amount due from debtors (customers).

One type of liability is Accounts Payable. Accounts Payable:

refers to the total amount owed to creditors for the purchase of goods or services by the business.

Unit 1 Financial Position

(Additional terminology continued)

The Owner’s Equity section of a balance sheet lists the owner’s claim to the remaining value, or net value, of the company’s assets after deducting the liabilities.

• It is what the company is worth to the owner, it is listed on the balance sheet using the word “Capital” beside the owner’s name.

Unit 1 Financial Position

Balance Sheet Preparation

Step 1: Prepare statement heading

Line 1: WHO? Business nameLine 2: WHAT? Statement nameLine 3: WHEN? Statement date

Unit 1 Financial Position

Bob SmithPersonal Balance SheetAs at September 30, 20--

(Balance Sheet Preparation continued)

Step 2: List Assets

Assets and their costs are listed on the left side of the page.

Assets and Total Liabilities and Owner’s Equity must be on the same line so before totaling assets, make sure to list liabilities first.

Assets are listed in a particular order, in order of liquidity. Liquidity order is the order In which assets would likely be converted to cash. For example: Cash, Accounts Receivable, and Office Supplies.

Unit 1 Financial Position

AssetsCash $ 4 000Government Bonds 5 000Clothing 3 000Furniture 15 000Equipment 10 000Automobile 20 000

Total Assets $57 000

(Balance Sheet Preparation continued)

Step 3: List Liabilities

Liabilities and their amounts are listed on the right side of the page

Liabilities are also listed in a particular order, according to their maturity date.

Maturity Date: the payment due date of any liability. For example, typically accounts payable are within 30 days, bank loans within 5 years, mortgages within 25 years.

Unit 1 Financial Position

LiabilitiesCredit Card Debt $ 2 000Bank Loan 10 000

Total Liabilities 12 000

(Balance Sheet Preparation continued)

Step 4: Show Owner’s Equity

This section shows the owner’s investment in the business

Listed on the right side of the page below the liabilities

Unit 1 Financial Position

Owner’s EquityBob Smith $ 45 000

Total Liabilities andOwner’s Equity $ 57 000

Valuation of Items on the Balance Sheet

• The Cost Principle states that assets are shown on the balance sheet at the cost of their acquisition or construction.

When an asset is obtained, its value is recorded at the actual cost to the business. This figure is never increased (decreased) even though the owner might think that the value of the asset has increased (decreased).

Unit 1 Financial Position

Business Entity Principle

• The Business Entity Principle requires that each business be considered a separate entity, and that the financial data for the business be kept separate from the owner’s personal financial data.

To think about…why do you think this is important?

Unit 1 Financial Position