Topic 2- The Balance Sheet Flashcards
Explain, in your own words, what a balance sheet represents. Incorporate in your answer comment as to whether the balance sheet is representative of the business or the owner of the business.
A balance sheet, in simple terms, illustrates or reflects what the business owns and what the business owes, at a particular point in time. Those things which a business owns are, in accounting terms, labelled as assets whilst that which the business owes are referred to as liabilities. It is noted that the assets and liabilities are those of the business and not those of the owners of the business. The owners ‘interest’ in the business is reflected by the owner’s equity portion of the balance sheet.
What are the 3 major components of a balance sheet?
The 3 major components of the balance sheet are assets, liabilities and owners equity.
Explain your understanding of the following terms and provide 2 examples of each: Assets
Assets - assets are things of value owned by a business. A more formal definition of assets would be that they are economic resources owned by the business that will yield some benefit in the future. Examples include buildings, machinery, livestock, inventories of inputs and products on hand.
Explain your understanding of the following terms and provide 2 examples of each: Non- current assets
Non-current assets - Those assets acquired for the purpose of facilitating production and the earning of revenue. Such assets do not change substantially in value during the 12 month period of operations, and are not normally for resale in the ordinary course of business. Common examples of non-current assets are: land, buildings, machinery, established fruit trees on an orchard, breeding livestock, and fixed improvements, for example fences, earth works, new buildings.
Explain your understanding of the following terms and provide 2 examples of each: current assets
Current assets - those assets which, in the normal course of business, would be expected to be consumed or converted to cash during a twelve month period. Common examples of current assets are: cash on hand; cash in the bank or building society; inventories of inputs such as fertilisers, chemicals, grain, and fodder; trading livestock; outstanding payments for produce sold, (that is, accounts receivable or sundry debtors) and fuel and oil (if there are large enough quantities).
Explain your understanding of the following terms and provide 2 examples of each: liabilities
Liabilities - Liabilities represent those things of value which are owing by the business. A more formal definition would be that liabilities represent claims which other people/businesses have against the business’ assets. Liabilities also represent obligations to make payments or provide services in the future as a result of past transactions.
Explain your understanding of the following terms and provide 2 examples of each: Non- current liabilities
Non-current liabilities - those liabilities which are not expected to be repaid, in total, during the time period (twelve months) under consideration. The most common examples of non-current liabilities are usually loans from financial institutions which extend over a period of time usually in excess of 5 years.
Explain your understanding of the following terms and provide 2 examples of each: Current liabilities
Current liabilities - those liabilities which are normally expected to be repaid, in total, during the time period (twelve months) under consideration. If such liabilities are not repaid in total it would be expected that a substantial amount would be repaid during this time period. Example include bank overdraft, and trade creditors (accounts receivable).
All livestock are regarded as non-current assets. Explain why you agree or disagree with this statement.
Only breeding livestock are regarded as non current assets. Breeding livestock are normally assumed to be held by the business for longer term production purposes thus are regarded as non current assets. Most other livestock are normally assumed to be held for the purpose of sale or resale in a relatively short period of time thus are classified as current assets.
What is ‘owner’s equity’ and how is it determined?
Owner’s equity is an internal liability and it represents the interest of the owner or owners in the business. Expressed in another way, we could say that owner’s equity represents the amount of money which the business owes to the owner and will comprise of the initial funds invested in the business by the owner, adjusted for additional contributions of funds and withdrawal of funds by the owner (drawings), profits or losses earned by the business and available for distribution or sharing; and revaluations of any assets and/or liabilities. If, at any stage, the business was sold, the amount of money left after all debts were paid would represent the owner’s equity, that is, the amount of money the proprietor or owner would receive. Owners Equity is determined by finding the difference between total assets and total liabilities..
Why is owner’s equity regarded as an internal liability?
Owner’s Equity is regarded as an internal liability because it represents the amount of money which the business owes to the owner, that is, to someone internal to the business.
Differentiate the usefulness of the information on a balance sheet to the business manager and to the owner of the business.
The information on a balance sheet will indicate to the manager the financial position of the business i.e. the business’ assets and liabilities, and the value of those assets and liabilities. If 2 or more consecutive balance sheets are compared the manager will be able to gain an idea of the business’ financial performance over the period of time covered by the balance sheets being examined.
The information of the balance sheet will indicate to the owners of the business, the value of their ownership interest. The owners will also be able to gauge the same aspects as the manager however it is assumed that they will be more interested in the value of their ownership/investment.
