Principle of Accounting

Chapter 2

Statement of Financial Position

Foreign Trade University

Statement of Financial Position(Balance Sheet)

An accounting report that summarizes the financial status of a business at a particular point in time.

Three main sections of a statement of financial position: Assets Liabilities Owner’s equity

Statement of Financial Position

The accounting equation is the basis of the statement of financial position.

Assets = Liabilities + Owner’s equity T-form statement of financial position Narrative form statement of financial position

T-form statement of financial position

City Traders: Statement of financial position as at 30 June 2005

Assets LiabilitiesCash at bank 3 000 Creditors 5 000Debtors 5 000 Loan 10 000Stock 20 000 15 000Office equipment 4 000 Owner’s equityVehicle 18 000 Capital –

K. Wilson 35 000Total equities &

Total assets $50 000 liabilities $50 000

Statement of Financial PositionCity Traders: Statement of financial position as at 30 June 2005 Narrative form

Assets

Cash at bank 3,000

Debtors 5,000

Stock 20,000

Office equipment 4,000

Vehicles 18,000

Total assets $50,000

Liabilities

Creditors 5,000

Loan (due 30/6/07) 10,000 15,000

Owner’s equity

Capital – K. Wilson 35,000

Total equities $50,000

Statement of Financial PositionCity Traders: Statement of financial position as at 30 June 2005 Narrative form

Owner’s equity

Capital – K. Wilson $35,000

Is represented by

Assets

Cash at bank 3,000

Debtors 5,000

Stock 20,000

Office equipment 4,000

Vehicles 18,000

Total assets 50,000

Less Liabilities

Creditors 5,000

Loan (due 30/6/07) 10,000 15,000

Net assets $35,000

Classification in the Statement of Financial Position A classified statement of financial position

separate both assets and liabilities into those that are current and those that are non-current.

The assets are usually classified according to their liquidity, which is how quickly they are expected to be turned into cash or used up.

Liabilities are classified on the basis of the urgency of repayment.

Classification in the Statement of Financial Position (Cont’d) Current assets: Assets that are expected to be

realised in cash or used up within the next 12 months. Current assets include cash on hand, cash at bank,

short-term investments, inventory, debtors. Non-current assets: Assets that are acquired with

the intention of controlling them for a period of time greater than 12 months. Non-current assets include property, equipment,

machinery, furniture, vehicles, long-term investments.

Classification in the Statement of Financial Position (Cont’d) Current liabilities: obligations that will be satisfied

within the next 12 months. Current liabilities include bank overdrafts, short-term

loans, creditors. Non-current liabilities: obligations that are deferred

over a period greater than 12 months. Non-current liabilities: include long-term loans.

Classified statement of financial position (T-form)

City Traders: Statement of financial position as at 30 June 2005

Current assets Current liabilities

Cash at bank 3,000 Creditors 5,000

Debtors 5,000 Loan 5,000 10,000

Stock 20,000 28,000 Non-current liabilities

Loan (due 30/6/07) 5,000

Non-current assets

Office equipment 4,000 Owner’s equity

Vehicles 18,000 22,000 Capital – K.Wilson 35,000

Total assets 50,000 Total liabilities & equity 50,000

Classified statement of financial position – Narrative formCity Traders: Statement of financial position as at 30 June 2005

Current assets

Cash at bank 3,000

Debtors 5,000

Stock 20,000 28,000

Non-current assets

Office equipment 4,000

Vehicles 18,000 22,000

Total assets $50,000

Current liabilities

Creditors 5,000

Loan 5,000 10,000

Non-current liabilities

Loan (due 30/6/07) 5,000

Owner’s equity

Capital – K.Wilson 35,000

$50,000

Classified statement of financial position – Narrative formCity Traders: Statement of financial position as at 30 June 2005Owner’s equity

Capital – K. Wilson 35,000

Is represented by

Current assets

Cash at bank 3,000

Debtors 5,000

Stock 20,000 28,000

Less Current liabilities

Creditors 5,000

Loan 5,000 10,000

Working capital 18,000

Non-current assets

Office equipment 4,000

Vehicles 18,000 22,000

40,000

Less Non-current liabilities

Loan (due 30/6/07) 5,000

Net assets $35,000

Classification of loans

The classification of loans depends on the term of loans and the type of loan. Term of loans:

Short-term loan: current liability Long-term loan: non-current liability

Type of loans: Interest only loan: non-current liability as it does not

involve an obligation due within 12 months. Installment loan: two components.

Current liability component: installment to be paid within 12 months.

Non-current liability component: instalments outstanding for more than 12 months.

Classification of loans (Cont’d)

Interest-only loan: the principal of the loan is repaid until the loan period expires. Advantage: borrower has time to repay the principal. Disadvantage: borrower needs to be well-planned to repay the

whole principal. Installment loan: repayments are made throughout the life of the

loan. These installments are usually sated as a dollar amount per month or per quarter. Advantage: avoid having to make one lump sum payment. Disadvantage: borrower is under pressure to make periodic

repayments.

Effect of financial transactions on the Statement of Financial Position

Net profit = Revenues - ExpensesIncrease in net profit -> Increase in owner’s

equity

Decrease in net profit ->Decrease in owner’s equity

Example

Transaction Assets Liabilities Owner’s equity

Owner deposited $30,000 +30,000 +30,000

Took out a loan of $20,000 +20,000 +20,000

Bought shop fittings for $10,000

+10,000

- 10,000

Purchased stock on credit for $15,000

+15,000 +15,000

Sold goods for $2,000 (cost of goods sold $1,200)

+2,000-1,200

+800

Paid weekly wages $500 -500 -500

Final result 65,300 35,000 30,300

Practice questions

Exercise 2.2

Exercise 2.5

Homework

Exercise 2.3 Exercise 2.6

Quiz

Pete prepared the following balance sheet for Island Enterprise as at 31 December 2005. He asked you to review it for accuracy.

Island EnterprisesBalance Sheet

For the year ended December 31, 2005

Assets $ Liabilities and capital

$

Trade creditor 29,600 Trade debtor 23,200

Cash 14,750 Capital 213,850

Drawings 16,000 Stock control 12,200

Building and equipment 177,300