Week 1 : Balance Sheet Equation
Week 1 : Balance Sheet Equation FIN343
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This 5 page Class Notes was uploaded by Leosinh on Tuesday May 24, 2016. The Class Notes belongs to FIN343 at Marshall University taught by Brian J Bushee in Summer 2016. Since its upload, it has received 8 views.
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Date Created: 05/24/16
Financial Accounting : Week 1 : Balance Sheet Equation Explaining Important Balance Sheet Equation (The Accounting Identity) Assets = Liabilities + Stockholder’s Equity Resources = Claims on Resources by Outsiders + Owners + Key features : - Must always balance ! (Double-entry bookkepping) - Changes over a period between two Balance Sheets are summarized in the Income Statement, Statement of Stockholder’s Equity and Statement of Cash Flows. Complete Balance Sheet Equation Assets = Liabilities + Stockholder’s equity Stockholder’s equity = Contributed capital + Retained Earnings Retained Earnings = Prior retained earnings + Net Income – Dividends Net Income = Revenue – Expenses Assets = Liabilities + Contributed capital + Prior retained earnings + Revenue – Expenses With contributed capital : money raised from shareholder’s Retained earnings : is what we create by operating a business. Assets An asset is a resource that is expected to provide future economic benefits (example : generate future cash inflows or reduce future cash outflows). An asset is recognized when : _ it is acquired in a past transaction or exchange _ The value of its future benefits can be measured with a reasonable degree of precision Which of the Following are Assets? BOC sells $100,000 of merchandise to a customer that promises to pay cash within 60 days – Accounts Receivable, $100,000 • BOC signs a contract to deliver $100,000 of natural gas to DEF each month for the next year – No asset, no past transaction or exchange • BOC buys $100,000 of chemicals to be used as raw materials. BOC pays in cash at time of delivery and receives a 2% discount on the purchase price – Inventory, $98,000 BOC pays $12 million for the annual rent on its office building. It has already occupied it for one month – Prepaid Rent, $11 million • BOC buys a piece of land for $100,000. Its broker says this was a “steal” because the land is probably worth $150,000 – Land, $100,000 • BOC is advised by a marketing firm that its brand name is worth $63 million – No asset, not acquired and not reasonable degree of precision. Liabilities A liability is a claim on assets by “creditors” (non-owners) that represents an obligation to make future payment of cash, goods, or services A liability is recognized when : - The obligation is based on benefits or services received currently or in the past - The amount and timing of payment is reasonably certain. Which of the Following are Liabilities? • BOC receives $300,000 of raw materials from its supplier and promises to pay within 60 days – Accounts Payable, $300,000 • Based on this quarter’s operations, BOC estimates that it owes the IRS $3 million in taxes – Income Tax Payable, $3 million • BOC signs a three-year, $120 million contract to hire Dakota Dokes as its new CEO, starting next month – No liability, benefits not received yet BOC has not yet paid employees who earned salaries of $1,000,000 during the most recent pay period – Salaries payable, $1,000,000 • BOC borrows $500,000 from a bank on a one-year note with a 10% interest rate – Notes payable, $500,000 • BOC is sued by a group of customers who claim their products were defective. The suit claims damages of $6 million – No liability, amount is not reasonably certain Stockholders’ Equity : Stockholder’s Equity is the residual claim on assets after settling claims of creditors (= assets – liabilities ) - Also called “net worth” , “net assets” , “net book value”. Sources of stockholder’s equity : - Contributed capital (arises from sale of shares) Common stock ( par value ) Additional paid-in-capital (excess over par value) Treasury stock ( stock repurchased by company ) - Retained earnings (arises from operations) Accumulation of net income (revenues – expenses), less dividends, since start of business Retained earnings(end) = retained earnings(beg) + Net income – Dividends Dividends Dividends are distributions of retained earnings to shareholders - Not an expense - Recorded as a reduction of retained earnings on the declaration date ( creates a liability until payment date ).