💰Intermediate Financial Accounting I Unit 3 – Balance Sheet & Financial Disclosures

What's a Balance Sheet?

• Financial statement provides a snapshot of a company's financial position at a specific point in time
• Reports the company's assets, liabilities, and equity
• Follows the fundamental accounting equation: Assets = Liabilities + Equity
• Helps stakeholders assess the company's financial health and stability
• Prepared at the end of each accounting period (monthly, quarterly, or annually)
• Provides a basis for financial analysis and decision-making
• Complements other financial statements (income statement, cash flow statement) to give a comprehensive view of the company's financial performance

Key Components of the Balance Sheet

• Assets represent resources owned or controlled by the company that have future economic benefits
• Liabilities represent the company's obligations or debts that must be settled in the future
• Equity represents the residual interest in the company's assets after deducting liabilities
• Current assets include cash, accounts receivable, and inventory expected to be converted to cash or used within one year
• Non-current assets include long-term investments, property, plant, and equipment (PP&E), and intangible assets
• Current liabilities include accounts payable, short-term loans, and accrued expenses due within one year
• Non-current liabilities include long-term debt, deferred tax liabilities, and pension obligations

Assets: What You Own

• Cash and cash equivalents include currency, checks, and highly liquid investments readily convertible to cash
• Accounts receivable represent amounts owed by customers for goods or services provided on credit
  • Allowance for doubtful accounts is subtracted to estimate uncollectible receivables
• Inventory includes raw materials, work-in-progress, and finished goods held for sale
  • Valued at lower of cost or net realizable value using FIFO, LIFO, or weighted average methods
• Prepaid expenses are costs paid in advance for future benefits (insurance premiums, rent)
• Long-term investments include stocks, bonds, and other securities held for more than one year
• Property, plant, and equipment (PP&E) are tangible assets used in operations with a useful life exceeding one year
  • Depreciation is recorded to allocate the cost of PP&E over its useful life
• Intangible assets are non-physical assets with future economic benefits (patents, trademarks, goodwill)

Liabilities: What You Owe

• Accounts payable represent amounts owed to suppliers for goods or services purchased on credit
• Short-term loans are borrowings due within one year (lines of credit, bank overdrafts)
• Accrued expenses are liabilities incurred but not yet paid (salaries, interest, taxes)
• Unearned revenue represents payments received in advance for goods or services to be delivered in the future
• Long-term debt includes borrowings with maturities exceeding one year (bonds, notes payable)
  • Classified as current portion (due within one year) and non-current portion
• Deferred tax liabilities arise from temporary differences between accounting and tax treatment of income and expenses
• Pension obligations represent the company's commitment to provide retirement benefits to employees

Equity: What's Left Over

• Common stock represents the par value of shares issued to owners
• Additional paid-in capital is the excess amount received over the par value of common stock
• Retained earnings are the cumulative net income earned by the company less dividends paid
• Treasury stock represents the cost of shares repurchased by the company
• Accumulated other comprehensive income (loss) includes unrealized gains or losses on available-for-sale securities, foreign currency translation adjustments, and pension plan adjustments
• Non-controlling interest represents the portion of equity in a subsidiary not attributable to the parent company

Financial Statement Disclosures

• Notes to the financial statements provide additional information and explanations to help users understand the balance sheet
• Significant accounting policies disclose the methods used for revenue recognition, inventory valuation, depreciation, and other key areas
• Segment information breaks down financial data by business segments or geographic regions
• Related party transactions disclose dealings with entities or individuals with significant influence over the company
• Contingencies and commitments reveal potential liabilities or obligations not recognized on the balance sheet (lawsuits, guarantees)
• Subsequent events disclose significant transactions or events occurring after the balance sheet date but before the financial statements are issued

Balance Sheet Analysis

• Liquidity ratios assess the company's ability to meet short-term obligations
  • Current ratio = Current Assets ÷ Current Liabilities
  • Quick ratio = (Cash + Accounts Receivable + Short-term Investments) ÷ Current Liabilities
• Solvency ratios evaluate the company's ability to meet long-term debt obligations
  • Debt-to-equity ratio = Total Liabilities ÷ Total Equity
  • Interest coverage ratio = Earnings Before Interest and Taxes (EBIT) ÷ Interest Expense
• Efficiency ratios measure how effectively the company manages its assets
  • Inventory turnover = Cost of Goods Sold ÷ Average Inventory
  • Receivables turnover = Net Credit Sales ÷ Average Accounts Receivable
• Vertical analysis expresses each balance sheet item as a percentage of total assets or total liabilities and equity
• Horizontal analysis compares balance sheet items across periods to identify trends and changes

Real-World Applications

• Investors use balance sheet information to assess a company's financial strength and make investment decisions
• Creditors and lenders evaluate the balance sheet to determine a company's creditworthiness and ability to repay debts
• Management uses balance sheet data to make strategic decisions related to capital allocation, financing, and risk management
• Regulators and auditors review balance sheets to ensure compliance with accounting standards and legal requirements
• Competitors analyze balance sheets to benchmark their performance and identify industry trends
• Employees and labor unions may use balance sheet information in collective bargaining negotiations
• Suppliers and customers assess a company's balance sheet to evaluate its stability and long-term viability as a business partner