FR&A - Balance Sheet

10:45 am

Understanding the Balance Sheet

Balance sheet is a snapshot of financial and physical assets at a point in time

Assets - provide probable future economic benefits controlled by an entity as the result of previous transactions

Current assets

• Cash and other assets likely to be converted to cash or used up within one year or one operating cycle, whichever is greater
• Presented in order of liquidity, greatest to least

Current liabilities

• Obligations to be satisfied within one year or op cycle, again whichever is greater
• If it meets any of the following it is current:
• Settlement expected during the normal operating cycle
• Settlement expected within one year
• There is not an unconditional right to defer settlement for more than one year

 Current assets - current liabilities = working capital

• Too low = potential liquidity problems
• Too high = inefficient use of assets

Noncurrent assets - provide info about investing activities.  Do not fall under current.

Noncurrent liabilities - provide info about financing activities.  Do not fall under current.

IFRS requires current/noncurrent format, unless liquidity based is more relevant (banking)

Minority Interest - if firm holds controlling interest in a company, this is the portion not controlled

• IFRS - must report in equity
• GAAP - can report in liabilities, equity, or mezzanine

Measurement bases

• Historical cost - what was paid.  Accurate but maybe irrelevant.
• Fair Value - amount at which can be bought/sold at arms length - subjective.
• Note - assets and associated liabilities are usually not netted - reported separated

AR is usually reported net of allowances - this is not a setoff because of nature of the allowance

Inventory

• Must report at lower of cost or net realizable value
• Net realizable  = selling price of inv - estimated cost of completion and disposal costs
• Inventory cost excludes:
• Abnormal amts of wasted materials/labor/overhead
• Storage costs beyond production process
• Admin overhead
• Disposal (selling) costs
• Cost flow assumption (FIFO/LIFO) affects value of inventory
• Standard Costing
• Assign predetermined costs to goods produced
• Retail method
• Measure inventory at retail prices, subtract gross profit to reflect cost

Tangible assets (long term) not used in operations of firm should be classified as investment assets

Intangible assets

• Value of an identifiable intangible asset is based on rights/privileges conveyed to its owner over its useful life
• Cost is therefore amortized over its useful life
• Value of internally produced assets may NOT be recorded on the balance sheet
• Unidentifiable - cannot be separated/sold.  May have an infinite life.
• Do not amortize, but test annually for impairment.
• Goodwill is the best example.
• Intangibles that are purchased are recorded at historical cost less accumulated amortization
• GAAP - Intangibles created internally (R&D) are expensed as incurred
• IFRS requires separation of research and development stages
• Research is expensed, development is capitalized

Goodwill

• When acquiring a company that has goodwill, ignore it in your fair value calc since it is unidentifiable
• This is accounting goodwill - economic goodwill is different and derives from expected future performance of the firm
• Internally generated goodwill is expensed as incurred
• Goodwill is not amortized but test annually for impairment
• Firms can manipulate net income by allocating purchase price to goodwill - lowers D&A expense
• When computing ratios, should eliminate goodwill from balance sheet and impairment charges from income statement for comparability
• Should also evaluate future acquisitions in terms of price paid relative to future earning power of the acquired asset

Financial assets/liabilities

• Assets - investment securities, derivatives, loans, receivables
• Liab - derivatives, notes payable, bonds payable
• Some are reported at cost, some are marked to market
• Marketable securities
• Held to maturity - debt securities with intent to hold to maturity.  Report at amortized cost.
• Trading - trading for near term profit.  Report at fair value.  Report unrealized gain/loss in income statement.
• Available for sale - not held to maturity, and not trading.  Report at fair value.  BUT unrealized gain/loss is in OCI, not the income statement
• For all three, dividends and interest income and realized gains/losses are all recognized in the IS
• Derivatives usually reported at fair value.  Short positions as well.

Owners' Equity

• Contributed capital
• Total amount paid in by common and preferred holders
• Par (when exists) is reported separately
• Authorized - total number authorized.  Issued is what has actually been issued.  Outstanding is issued minus treasury repurchases.
• Retained earnings
• Minority interest - minority shareholder's pro-rata share of net equity of a sub that is not wholly owned
• Treasury Stock - stock repurchased by company.  Has no voting rights and receives no dividends. 
• Accumulated OCI - includes all changes to equity except those recognized in the IS and transactions with shareholders (issuances, treasury, dividends etc)
• US GAAP - can report comprehensive income on IS, separate statement, or in SCOE
• IFRS - not required to report comprehensive income

Statement of Changes in Equity

• Summarizes all transactions that increase/decrease equity accounts over period
• Reconciles beginning/ending balance for each equity account
• Includes transactions w shareholders, and components of accumulated OCI

End

12:00 pm

1.25 hours