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Balance Sheet

 

What is Balance Sheet :

The balance sheet is an accounting statement that summarises the various assets, liabilities and equities  held by a company on a specific date.  The equities are usually considered as part of the liabilities.  The balance sheet is always  drawn up at the close of business day, but is most relevant  on the last day of the company's accounting period (the balance sheet date).  

Balance sheet is an important documents not only for bank managers who sanction loan but is equally important to others who give credits and invest in equity etc. All creditors and investors all need to familiarize themselves with the assets, liabilities, and equity of a company. The balance sheet is the best place to find all information at one place. The reason as to why balance sheet is so called is that it is statement where Assets = Liabilities + Equity

Major Heads of Balance Sheet :

Liabilities:-
1. Share Capital
2. Reserve and Surplus
3. Secured Loans
4. Unsecured Loans
5. Current Liabilities and Provisions
Assets :-
1. Fixed Assets
2. Investments
3. Current Assets, Loans of Advances
4. Miscellaneous Expenses
5. Profit and Loss Account (Debit balance)

Assets which are likely to be collectible in the short term (usually within 12 months) are considered a "current" asset, while anything owed by the company in the same time frame is considered as a current liability.

 

VARIOUS TYPES OF CAPITALS (OWNED FUNDS) AND RESERVE DEFINED :

(a) Share Capital : It is important to understand the difference between the following types of share capitals :-

(i) Authorised Capital : This is the maximum amount of capital that can be raised by the company. However, it is not compulsory for the company to raise the full authorised capital.

(ii) Issued Capital : This is the amount of capital which company intends to raise at a given point of time. This amount is usually mentioned in the Memorandum of Association of a company.

(iii) Subscribed Capital : This is the capital which has actually been subscribed.

(iv) Paid Up capital : This is the amount of capital that has been called and received against the subscribed capital.

For the purpose of Balance Sheet, paid up capital is of utmost importance

(b) Reserves : - There are various types of reserves, some of important types of reserves are :-

(i) Share Premium Reserve : Whenever a company issues shares on premium, the amount collected by the company above the face value of the share is called "premium". The amount collected as "premium" is known as share premium reserve. On such share premium reserve no dividend is payable.

(ii) Revaluation Reserves : Sometimes a company re-values (i.e. revises) its assets. This re-valuation is done to make the asset show the true market value of the asset. Thus asset is shown at a higher value than the previous book value and the corresponding increase is created on liability side by increasing reserves under "revaluation reserves".

(iii) Depreciation Reserve : Usually when a depreciation is made in asset, the value of the asset is credited with the depreciation amount and equal amount is debited to profit and loss account. However, sometimes companies companies debit the depreciation amount to profit and loss account, but instead of crediting the same to asset account, they credit the amount to Depreciation Reserve Account. Such an entry is called deprecaition reserve. Therefore, while calculating the networth of a company, it should be excluded from the owned funds by setting it off against the value of the fixed assets.

(iv) General Reserves : This kind of reserves consists of the profits which have not been actually distributed among the shareholders. This acts as a cushion for the company for any future loss.

 

 

VARIOUS TYPES OF ASSETS DEFINED :

Assets: Items that the business owns and on which a value can be placed.
 

Intangible assets:  These are 'non-monetary' but 'identifiable' assets that have no physical substance.   Current accounting guidelines mean they almost always relate to goodwill, though may include patents, licenses, trademarks and so on.

Tangible assets:  These are 'long-lived' physical items held for the purpose of earning revenue.   Typically these assets  include land, property, plant, machinery, fixtures, fittings and motor vehicles.

Fixed asset investments:  These are long-term investments, including 'ownership interests' held in other companies.  For joint ventures and associates, the company's share of the entity's assets is shown. Other long-term 'minority' investments held can be shown at historical cost or current valuation, though the accounting notes must declare These are asset, the benefit of which is usually available to the entity over several accounting periods. Example of fixed assets include, land, building, Plant & Machinery. Furniture & Fittings, Vehicles, etc.

In case of fixed assets, usually a part of its life is 'being utilised in a particular accounting year, and thus a certain portion of its cost (depending upon the total expected economic life of the asset), is appropriated in the shape of "depreciation" in each accounting year The value of fixed assets at original cost is called "Gross Fixed Assets" and the value of the asset arrived after deducting depreciation is called "Net Fixed Assets".

Current assets:  Cash in the bank and 'temporary' assets that the company expects to turn into cash.   Stocks (at the lower of either cost or net realisable value), any goods held for resale, raw materials to be used in manufacture and work in progress.are examples of such assets.

Accounts Receivable: When credit sale is made, but no bill of exchange/promissory note duly accepted/signed is held, the amount of such credit sale is known as "Accounts Receivable".

Inventory: Stock of raw material, stock-in-process (also called as semi-finished goods), finished goods and consumable stores are known as inventory. Usually one of the following two methods is used for valuation of inventory:-

(a) FIFO = FIRST - IN FIRST OUT: In this method, it is assumed that inventory first purchased is first consumed/sold out and hence the valuation is done as per purchase price of those items purchased earlier.

(b) LIFO = LAST IN FIRST OUT: In this method, the valuation of item sold first is done as per purchase price of the last one, assuming that the items purchased in the last are consumed / sold.

Investments: A firm may invest its surplus fund in Government Securities or debt instruments or equities of the corporate sector.

 

VARIOUS TYPES OF LIABILITIES DEFINED :

Liabilities:  All claims of outsiders against the entity are called liability. It represents all the things of value, which one owes to others.

Current liabilities:   The liabilities which are to be met out of the current assets within one year or within one operating cycle (whichever is longer). It includes acceptances, sundry creditors, advance payments, unclaimed dividends, expenses accrued.

Thus, in nutshell, we can say liabilities the company expects to meet within twelve months of the balance sheet date are called current liabilities.

Long Term or Term Liabilities : These are the liabilities which-are usually for more than one year and include all the liabilities other than current liabilities and provisions (see below).

Secured Loans: It represents loans and advances from banks/subsidiaries/others raised by a company, after creation of charge on its assets. It includes 'Debentures'.

Unsecured Loans: These are loans and advances (including short term) from Banks/ Subsidiaries/others obtained without creating any charge on the assets of the Firm. It includes fixed deposits received from public.

Acceptances: These are bills of exchange accepted by the firms and generally known as," Bills Payable". In case of promissory notes it is referred to as "Notes Payable".

Accounts Payable: These represents the debts of the creditors for purchase which is not evidenced by any formal acceptance as defined above. These are. also referred to as "Sundry Creditors".

Accrued Liabilities: These represent the obligations accrued but not paid and shall be paid in the next accounting period.

Provisions: When a liability cannot be precisely determined, it is estimated and provided for. Examples are provisions for dividends/taxation/PF/contingencies/Debts etc.

Some other Terms relating to analysis of Balance Sheet defined :

Net Sales: Whenever goods are supplied to the customers, these are recorded as sales in the company's account books. The sum total of such sales during a period is referred as 'gross sales'. However, some of goods thus supplied may be subsequently returned by the customers due to various reasons, e.g. the goods may not be strictly as per specification demanded by the customer, or these got damaged during transit etc. Such returns and allowances are separately accounted for and at the time of preparation of P&L Statement, the value of such goods are set off against gross sales. This is known as 'net sales' or "Sales".

Cash Discount / Sales Discount / Trade Discounts: Some companies, with a view to" boost early" realisation of receivables, allow some discount, e.g. an entity may specify that if their bills are paid within 15 days, 5% discount will be allowed. This is called "Cash Discount" or "Sales Discount". Some companies agree to sell the goods at a price lower than the normal price provided the customer agrees to buy the goods in bulk. Such a discount is known as trade "discount" and is generally not shown in the P&L A/C separately, rather taken into account in the value of Sales.

Other Income: Income obtained from the Business operations of an entity is called Operating Income and Income arising out of an activity which is not the business activity of the firm, are referred as 'non-operating income' or 'other Income'. For example, on sale of fixed assets an entity may be able to realise more than the book value of such an asset. This is called other income.

Manufacturing Expenses: The expenses which are directly incurred on the production / manufacturing process (such as freight, factory rent, electric charges at the factory site, wages of labour in the factory etc.) are called manufacturing expenses. These are direct input costs incurred towards the product manufacturing.

Cost of goods sold: It refers to the direct input costs of goods sold, and comprises of cost of the raw material and manufacturing expenses. It can be calculated as follows: Opening Stock + Purchases + Manufacturing Expenses - Closing Stock

Gross Profit: It is the difference between sales and cost of goods sold. This represents the margin of profit at the point of production of goods.

Operating Expenses: All the expenses which are not directly incurred on production, but are necessary to run the business, are grouped as "operating expenses". It covers all expenses relating to selling & distribution as well as general administration expenses (including personnel expenses) and indirect costs, such as depreciation.

Depreciation: In case of fixed assets, usually a part of its life is 'being utilised in a particular accounting year, and thus a certain portion of its cost (depending upon the total expected economic life of the asset), is appropriated in the shape of "depreciation" in each accounting year The value of fixed assets at original cost is called "Gross Fixed Assets" and the value of the asset arrived after deducting depreciation is called "Net Fixed Assets". The two methods mostly used for calculating this expense are known as (a) Straight Line Method and (b) Written down value method or diminishing value method.

In the straight line method, the depreciation is arrived at by dividing the original cost of a fixed asset by its expected economic life. On the other hand, in case of the "written down value" method, the expiration is calculated every year at a pre-determined rate on the amount of the depreciated value (i.e. original cost - earlier depreciation charged) at the end of the previous year.

Amorstisation: Depreciation and amortisation are almost identical. However, the expiration of the cost of intangible assets is referred as' 'amortisation, whereas that of a fixed tangible asset is called 'Depreciation'.

 

What is a contingent liability? Where is it shown in the Balance Sheet?

Contingent liability is a liability which may arise as a liability in future on the happening of some event.  This is not an actual liability at present and therefore does not occur in the main body of the balance Sheet.

Contingent Liability  is shown as a footnote to the balance sheet.  Some of the examples of Contingent liability are:-


              a) Claims against a company not acknowledged as debt.
              b) Arrears of fixed cumulative dividend on cumulative preference shares.
              c) Uncalled liability on account of partly paid shares in the investment portfolio
 

 

Current Liabilities


Creditors
Bills Payable
Bank Overdraft
Outstanding expenses
Income Tax payable
Advances from customers

Current Assets


Cash in Hand
Cash at Bank
Marketable securities
Bills Receivable
Stock and Trade
Accrued Income
Prepaid Expenses
Advances to Others

Non-Current Liabilities

Equity Share Capital
Preference Share Capital
Debentures
Long Term Loans
Profit & Loss (Cr.)
Share Premium Account
Share Forfeited Account
Capital Reserve
Provisions Like Provision for Tax, Dep.
Proposed Dividend
Appropriation of Profit E.g. transfer to General Reserve, Workman Compensation Fund, Debentures Sinking Fund, Capital Redemption Reserve etc.

Non-Current Assets

Building
Land
Plant and Machinery
Furniture and Fixtures
Patent Rights
Trademarks
Profit and loss Account (DR)
Discount on Issue of Shares and
Debentures
Preliminary Expenses
Other Deferred Expenditure
Long-Term Investments
Goodwill


 

AN EXAMPLE TO UNDERSTAND BALANCE SHEET, CASH FLOW ETC.

Based on the following Balance Sheets of ABC company prepare a schedule depicting (a)  changes in Working Capital and (b)  Funds Flow Statement:-

Balance Sheet

Liabilities
2004
Rs.
2003
Rs.
Assets
2004
Rs.
2003
Rs.
Share Capital
Debentures
Current Liabilities
General Reserve
PandL Account
4,50,000
3,50,000
1,50,000
2,10,000
70,000
12,30,000
4,00,000
2,40,000
1,20,000
2,00,000
             9,60,000
Fixed Assets
Investments
Current Assets
Discount on shares
PandL Account
7,20,000
1,30,000
3,75,000
5,000
              
12,30,000
6,10,000
50,000
2,40,000
10,000
50,000
9,60,000

Additional information available to you is  :

(a) During the year depreciation charged on Fixed Assets was Rs. 60,000/-.
(b) Machinery with a book value of Rs. 40,000/- was sold for Rs. 30,000/-. 
 

Solution :  

Schedule of changes in Working Capital

Particulars 2003 2004 Inc. Dec.
Current Assets A

Current liabilities B

Working Capital A - B
Increase in working capital
240000

120000

120000
105000
225000
375000

150000

225000
          
225000
135000




           135000

30000



105000
135000

Funds flow Statement for the year ended

 
Particulars Amt. Particulars Amt.
Funds from operation
Issue of Shares
Issue of Debentures
Sale of machine
 

205000
50000
110000
30000
395000

Purchase of Investment
Purchase of Fixed Assets
Increase in working capital

80000
210000
105000
         
395000

 

Fixed Assets A/C

 

 

To balance b/d
To Cash A/C
(bal fig)
(Purchases)
 

610000

210000

          
820000

By P/L A/C  (Depreciation)
By cash A/C (Sale)
By P/L A/C
(Loss on Sale)
By balance c/d

60000
30000

10000
720000
820000

 

Adjusted P/L A/C

 

 

To balance b/d
To Fixed Assets (Depreciation)
To Fixed Assets 
(loss on sale)
To tfr to General Reserve
To Discount on share
To balance c/d

50000
60000

10000
10000
5000
70000
205000

By funds from operation
 

205000






205000

 

 

TYPES OF FORMATS of BALANCE SHEET UNDER INDIAN COMPANIES ACT :

The Companies Act provides for two formats of Balance Sheet. One is the conventional 'T" format, wherein assets and liabilities are grouped in descending order of their liquidity. The other is the vertical format, which was introduced in 1979 on the basis of International Accounting Standards. So far as non-corporate entities are concerned, IBA, in collaboration with Institute of Chartered Accountants of India, evolved formats for Financial Statements which were later on approved by RBI.