FABM2 07 Statement-of-Financial-Position-2 PDF

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Statement-of-Financial-Position...

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Unit 3: Financial Statements CHAPTER 7: STATEMENT OF FINANCIAL POSITION FUNDAMENTALS OF ACCOUNTANCY, BUSINESS AND MANAGEMENT 2

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STATEMENT OF FINANCIAL POSITION – Also known as the balance sheet. This statement includes the amounts of the company’s total assets, liabilities, and owner’s equity which in totality provides the condition of the company on a specific date. (Haddock, Price, & Farina, 2012) The statement of financial position reflects the claim of the creditors and the owners on the assets of the business. The claim of the creditors is technically called liabilities, while the claim of the owners is referred as equity. This relationship is clearly depicted in the basic accounting equation: asset is equal to liabilities plus capital. Assets are resources controlled by the entity as a result of past events and from which future economic benefits are expected to flow the entity. Assets are the resources owned by a business. Thus, they are the things of value used in carrying out such activities as production, consumption, and exchange. The common characteristic possessed by all assets is the capacity to provide future services or benefits to the entities that use them. Liabilities are resent obligations of the entity arising from past events, the settlement of which are expected to result in an outflow from the entity of resources embodying economic benefits. Liabilities are existing debts and obligations. These are claims of the creditors against assets. Equity is the residual interest in the assets of the entity after deducting all its liabilities. It is the ownership claim on total assets. It is equal to total assets minus total liabilities. It is usually referred as residual equity since the claims of creditors’ take precedence over ownership claims. PERMANENT ACCOUNTS – As the name suggests, these accounts are permanent in a sense that their balances remain intact from one accounting period to another. (Haddock, Price, & Farina, 2012) Examples of permanent account include Cash, Accounts Receivable, Accounts Payable, Loans Payable and Capital among others. Basically, assets, liabilities and equity accounts are permanent accounts. They are called permanent accounts because the accounts are retained permanently in the SFP until their balances become zero. This is in contrast with temporary accounts which are found in the Statement of Comprehensive Income (SCI). Temporary accounts unlike permanent accounts will have zero balances at the end of the accounting period. CONTRA ASSETS – Contra assets are those accounts that are presented under the assets portion of the SFP but are reductions to the company’s assets. These include Allowance for Doubtful Accounts and Accumulated Depreciation. Allowance for Doubtful Accounts is a contra asset to Accounts Receivable. This represents the estimated amount that the company may not be able to collect from delinquent customers. Accumulated Depreciation is a contra asset to the company’s Property, Plant and Equipment. This account represents the total amount of depreciation booked against the fixed assets of the company.

Report Form – A form of the SFP that shows asset accounts first and then liabilities and owner’s equity accounts after. (Haddock, Price, & Farina, 2012)The balance sheet shown earlier is in report form. Account Form – A form of the SFP that shows assets on the left side and liabilities and owner’s equity on the right side just like the debit and credit balances of an account. (Haddock, Price, & Farina, 2012) Current Assets – Assets that can be realized (collected, sold, used up) one year after year-end date. Examples include Cash, Accounts Receivable, Merchandise Inventory, Prepaid Expense, etc. Current Liabilities – Liabilities that fall due (paid, recognized as revenue) within one year after yearend date. Examples include Notes Payable, Accounts Payable, Accrued Expenses (example: Utilities Payable), Unearned Income, etc. Current Assets are arranged based on which asset can be realized first (liquidity). Current assets and current liabilities are also called short term assets and shot term liabilities. Noncurrent Assets – Assets that cannot be realized (collected, sold, used up) one year after yearend date. Examples include Property, Plant and Equipment (equipment, furniture, building, land), Long Term investments, Intangible Assets etc. Noncurrent Liabilities – Liabilities that do not fall due (paid, recognized as revenue) within one year after year-end date. Examples include Loans Payable, Mortgage Payable, etc. Noncurrent assets and noncurrent liabilities are also called long term assets and long term liabilities. The main difference of the Statements of the two types of business lies on the inventory account. A service company has supplies inventory classified under the current assets of the company. While a merchandising company also has supplies inventory classified under the current assets of the company, the business has another inventory account under its current assets which is the Merchandise Inventory, Ending.

THE ASSETS An entity shall present current and noncurrent assets as separate classifications on the face of its balance sheet.

Current Assets Current assets are cash and other resources that are reasonably expected to be realized in cash or sold or consumed in the business within one year of the balance sheet date or the company’s operating cycle, whichever is longer. For example, accounts receivable is included in current assets because they will be realized in cash through collection within one year. In

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contrast, a prepayment such as supplies is a current asset because it is expected of its expected use or consumption in the business within one year. The operating cycle of a company is the average time that is required to go from cash to cash in producing revenues. It is the time between the acquisition of assets for processing and their realization in cash or cash equivalents. When the organization’s normal operating cycle is not clearly identifiable, its duration is assumed to be twelve months.

Composition of Current Assets 1. Cash and Cash Equivalents Cash compromises cash on hand and demand deposit. a. Money. This includes undeposited cash collection in form of bills and coins. Money may be on hand (cash on hand) or in bank (cash in bank). b. Money Substitutes. These are in form of customer’s checks, bank drafts, money orders, manager’s checks, cashier checks or traveler’s checks. Money substitutes are included as part of cash and cash equivalent account if they are acceptable for immediate credit. c. Current working funds. These are funds set aside to meet current needs like petty cash fund, interest fund, dividend fund, and payroll fund. These are included if they are maintained for the current operation of the business. Cash equivalents are short term liquid investments that are readily convertible to known amounts of cash and subject to an insignificant risk of changes in value. An investment qualifies as a cash equivalent only when it has a short-term maturity of three months or less from the date of acquisition. Examples: three-month time deposit, three-month money market placement, three-month BSP treasury bill, and five-year treasury bill acquired three months before the maturity date. 2. Trade and Other Receivables Receivables are broadly classified as trade receivable and nontrade receivable. a. Trade receivable arises from the ordinary course of business transactions and are shown as current assets if collectible within one year or within the normal operating cycle of the business. The common examples of trade receivables are accounts receivable and notes receivable. b. Nontrade receivable, on the other hand, are claims that arise not from the ordinary course of the business operations. Nontrade receivables will include advances to officers, employees, directors or shareholders; advances to affiliates; claims against common carriers for damages; and advance to suppliers for merchandise. 3. Inventories PAS 2 defines inventories as assets on the face of the business that are held for sale in the ordinary course of business, in the process of production for such sale, or in form of materials or supplies to be consumed in the production process or in the rendering of services. Cost of inventories shall comprise: a. Cost of purchase i. Purchase price ii. Add Import duties and other taxes, transport and handling, and other costs directly attributable to the acquisition of finished goods, materials and services. iii. Less trade discounts, rebates, and other similar items The cost of goods purchased is computed as follows: b. Cost of conversion i. Direct materials ii. Direct labor iii. Manufacturing overhead c. Other cost incurred in bringing the inventories to their present location and condition

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Merchandising or trading business entities generally label their inventories as merchandising inventory. Manufacturing concerns label their inventories as finished goods, goods in process, and raw materials inventory. 4. Prepaid Expenses Prepaid expense is a one-line item classification that includes all prepayments made that are expected to be consumed within one year from the date of the statement of financial position. Examples of prepaid expenses are prepaid rent, prepaid advertising, prepaid insurance, and unused office and store supplies.

Noncurrent Assets Assets that do not meet any of the criteria required for current assets are classified as noncurrent assets. PAS 1 uses the term “noncurrent” to include tangible, intangible and financial assets of a long-term nature. It does not prohibit the use of alternative descriptions as long as the meaning is clear.

Composition of Noncurrent Assets The noncurrent assets section of the statement of financial position shall include property, plant and equipment; long-term investment; intangibles; and other noncurrent assets. 1. Property, Plant and Equipment (PPE) PPE are tangible items that are held for use in the production or supply of goods or services for rentals to others, or for administrative purposes; and are expected to be used during more than one period. Measurement of PPE at Recognition. The cost of an item of PPE comprises of: a. Its purchase price, including import duties and nonrefundable purchase taxes, after deducting trade discounts and rebates; b. Any cost directly attributable to bringing the asset to the location and conditions necessary for it to be capable of operating in the manner intended by management; and c. The initial estimate of the cost of dismantling and removing the item and restoring the site on which it is located. Examples of directly attributable costs;     

Cost of employee benefits arising directly from the construction or acquisition of the item of PPE Cost of site preparation Initial delivery and handling costs Installation and assembly costs Cost of testing whether the asset is functioning properly

A class of property, plant and equipment is a grouping of assets of similar nature and use in an entity’s operation. The following are examples of separate classes: a. b. c. d. e. f. g. h.

Land Land and buildings Machinery Ships Aircraft Motor vehicles Furniture and fixtures Office equipment

2. Long-term Investments Long-term investments are assets held by an entity intended to accumulate wealth or resources by means of capital distribution in form of royalties, interest, dividends, rentals, capital appreciation, or other benefits obtained through trading relationships with the intention of holding the investments for more than one year.

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Examples: a. Sinking fund b. Plant expansion fund c. Investment in bonds d. Investment in stocks e. Cash surrender value of life insurance f. Investment in subsidiary g. Investment property h. Investment in joint control entity

3. Intangibles PAS 38 defines intangible asset as an identifiable nonmonetary asset without physical substance. Examples: a. Copyrights b. Patent c. Licenses and franchise d. Brand names e. Masthead and publishing titles f. Computing software g. Recipes, formulae, modes, designs and prototypes h. Industrial property rights, service and operating rights

4. Other Noncurrent Assets This is the line item that presents noncurrent assets not falling under the classification of property, plant and equipment; long-term investment; or intangibles. Examples of other noncurrent assets are abandoned property, long-term refundable deposits, or long-term advances to employees or officers.

LIABILITIES Liability is a present obligation of the entity arising from past events the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits. Characteristics of Liabilities: a. It is a present obligation of an entity, and not a future commitment. b. It is legally enforceable as a consequence of a binding contract or statutory requirements, or when asset is delivered. c. It arises from business practice, customs, and a desire to maintain good business relations or act in equitable manner. d. The settlement of the obligation usually involves giving up of entity’s resources.

Current Liabilities A liability shall be classified as current when it satisfies any of the following criteria: a. b. c. d.

It is expected to be settled in the entity’s normal operating It is held primarily for the purpose of being traded. It is due to be settled within twelve months after the balance sheet date. The entity does not have an unconditional right to defer settlement of the liability for at least 12 months after the balance sheet date. Examples of current liabilities

a. b. c. d.

Trade and other payables Short term bank loan Warranty payable Income taxes payable...