FINANCIAL STATEMENTS

BALANCE SHEET

GAAP PRINCIPLES

THE CONCEPT OF BUSINESS ENTITY

business entity is an economic unit

Separate from its owner

ASSETS

SHORT TERM

cash

accounts receivables

inventories LONG TERM

land

building

machinery

WHAT IS AN ASSETS

Economic resources Benefit business in generating cash flows Directly through selling an asset Indirectly through utilizing an asset

THE COST PRINCIPLE

States that assets should be recorded at their cost or historical value.

The amount may be very different from current market value.

Remember that the dollar amounts are the actual costs.

Balance sheet does not show the business current worth.

THE GOING CONCERN CONCEPT

Why not change the values of these assets. Because they are not for resale purposes

(assumption). Balance sheet prepared on assumption that a

business is a going concern.

THE OBJECTIVITY PRINCIPLE

Need for definite, factual basis for valuation. Accountants need objective proof. Estimation (mkt related) are not objective or

factual. Market values are constantly changing. The price and market value might be the

same on acquisition date but changes with time.

STABLE DOLLAR ASSUMPTION

Limitation of measuring asset at a historical cost is that the value of dollar (monetary unit) is not always stable.

Does not recognize time value of money. Does not recognize inflation.

Liabilities and Owners Equity

Liabilities are debts of a business. Represents negative cash flows or outflows. When companies purchase merchandize,

supplies, or other services on account, they are called to have created account payables.

When business borrow money on interest they usually sign a formal note and that creates notes payables.

Creditors claims have priority over those of owners.

OWNERS EQUITY

Represents the owners claim to the assets of the business.

Owners equity is the residual amount. Owners equity in a business comes from two

sources.

1 – investments of cash or other assets

by the owner.

2 – earnings from profitable operation of a business.

Decreases in the owners equity

1- withdrawals of cash or other assets by the owner.

2 – losses from unprofitable operation of the business.

BALANCE SHEET EQUATION

Assets = liabilities + owners equity

OR

Owners equity = assets - liabilities