Unit II

Balance Sheet
Overview

Background As a means of telling interested people about business operations, accounting

performs important tasks of recording daily transactions, classifying recorded
data, summarizing recorded and classified data and interpreting the
summarized facts. In all business enterprises, accounting information is
summarized in at least two basic financial reports.
One of these financial reports shows what the business is worth in terms of the
properties it owns (i.e., the assets), the debts it owes (i.e., the liabilities), and
the investment of its owner/s (i.e., the proprietorship). This report is called the
balance sheet and this statement informs the users of the financial condition of
the business at a given date, usually at the end of an accounting period.

Purpose The purpose of Unit II “The Balance Sheet - Assets, Liabilities and Owner’s
Equity (Service Business)” is to illustrate different forms of balance sheet and
how to prepare them. Students will also be introduced in analyzing business
transactions using the accounting equation.

In this unit This unit contains the following topics:

Topics See Page

Forms of Balance Sheet 2 of B
Parts of the Balance Sheet 5 of B
Accounting Equation 7 of B
Current Assets 8 of B
Plant, Property and Equipment 10 of B
Current Liabilities 12 of B
Long-Term Liabilities 13 of B
Owner’s Equity 14 of B
Debit and Credit of Balance Sheet Items 15 of B

Marivic D. Valenzuela-Manalo Page 1 of B

Forms of Balance Sheet

Overview As provided in the revised Philippine Accounting Standard (PAS) 1 based on

the International Accounting Standards (IAS), the balance sheet should be
prepared following the new accounting concept of materiality and aggregation,
i.e., a separate schedule would be attached to the report to explain the
amounts with corresponding "notes". It is also required that a separate
statement of changes in equity be prepared, and therefore, the owner's equity
section of the balance sheet would show only the ending balance of the capital
account as shown in the given illustration.
The following discussions will provide readers information on how the account
and report format of balance sheets may be prepared.

Account Form In the account form of balance sheet, the assets are listed on the left side of the
report and the liabilities and proprietorship on the right side. The example
below illustrate the account form:
JOSEPH LABRADOR, COMPANY
Balance Sheet
December 31, 20XI

ASSETS LIABILITIES AND OWNER'S EQUITY

Current Assets Current Liabilities

Cash & cash equivalents (7) P 20,000 Trade & Other Payables (11) P 55,000
Investments in trading securities 10,000 Current Portion of
Trade & Trade Receivables (8) 30,000 mortgage Payable 20,000
Prepaid Expenses (9) 29,000
Total Current Assets P 89,000 Total Current Liabilities P 75,000

Non Current Assets Non Current Liabilities

Property, Plant & Equip (10)
TOTAL ASSETS
791,000 Notes Payable
(due in 3 years) P 70,000
Mortgage payable 180,000
Total non current liabilities 250,000
Total liabilities P 325,000
Owner's Equity
Labrador, Capital 555,000
TOTAL LIABILITIES
P880,000 AND OWNER'S EQUITY P 880,000
======= =======

Continued on next page

Marivic D. Valenzuela-Manalo Page 2 of B

Forms of Balance Sheet, Continued

Report Form A balance sheet prepared in report form shows the assets on the top section of
the statement and the liabilities and owner’s equity on the bottom section. The
example below illustrate the report form:
JOSEPH LABRADOR, COMPANY
Balance Sheet
December 31, 20X1

ASSETS
Current Assets Notes
Cash & cash equivalents (7) P 20,000
Investments in Trading Securities 10,000
Trade & Other Receivables (8) 30,000
Prepaid Expenses (9) 29,000
Total Current Assets P 89,000

Non Current Assets

Property, plant & equipment (10) 791,000

TOTAL ASSETS P 880,000

=======
LIABILITIES AND OWNER'S EQUITY
Current Liabilities
Trade & other payables (11) P 55,000
Current portion of mortgage payable 20,000
Total Current Liabilities P 75,000

Non Current Liabilities

Notes Payable (due in 3 years) P 70,000
Mortgage Payable 180,000
Total No Current Liabilities 250,000

Total Liabilities P 325,000

Owner’s Equity
Joseph, Capital 555,000

TOTAL LIABILITIES AND OWNER'S EQUITY P 880,000

=======

Marivic D. Valenzuela-Manalo Page 3 of B

Forms of Balance Sheet, Continued

Notes Note 7 - Cash & cash equivalents

Cash on Hand P 5,000
Cash in Bank 15,000
Total cash and cash equivalents P 20,000
======
Note 8 – Trade & other receivables
Accounts Receivable P 20,000
Less: Allowance for Doubtful Accounts 1,200 P 18,800
Notes Receivable 7,500
Interest Receivable 700
Advances to Employees 3,000
Total trade & other receivables P 30,000
=====
Note 9 – Prepaid expenses
Office Supplies on Hand P 6,000
Prepaid Insurance 20,000
Prepaid Advertising 3,000
Total Prepaid expenses P 29,000
=====
Note 10 – Property, plant & equipment
Land 300,000
Building 450,000
Less: Accumulated Depreciation 70,000 380,000
Office Equipment 110,000
Less: Accumulated Depreciation 20,000 90,000
Furniture & Fixtures 25,000
Less: Accumulated Depreciation 4,000 21,000
Total Carrying value 791,000
=====
Note 11 – Trade & other payables
Accounts Payable 20,000
Notes Payable 18,000
Interest Payable 2,000
Accrued Salaries Expense 5,000
Unearned Rent Income 10,000
Total trade & other payables 55,000
=====

Marivic D. Valenzuela-Manalo Page 4 of B

Parts of the Balance Sheet

Overview This portion will enumerate the different parts of a balance sheet and their
corresponding placement in the financial report being prepared.

Statement Includes the name of the business, tells the kind of statement it is, and gives
Heading the date for which the report is prepared

Asset, Liability, Items are grouped and each group of items is identified by special captions.
Proprietorship

Captions Classification of each group of items appear against the left margin of the
statement.

Account titles Individual account titles in each classification are indented.

Current Assets The individual current assets are usually listed in order of their liquidity, with
the most liquid asset, “Cash” appearing first.

Plant, Property, The plant assets are often listed in order of their expected useful life with the
Equipment assets with the longest expected useful life, “Land” appearing first.

Note (#) The separate schedule attached to the report explaining in detail the
aggregated amount presented on the face of the financial statement.

Continued on next page

Marivic D. Valenzuela-Manalo Page 5 of B

Parts of the Balance Sheet, Continued

Current The current liabilities are in theory listed in order of due date, with the debt
Liabilities with the earliest due date appearing first.

Captions Each group of items (i.e., total current assets, total plant, property and
Indicating equipment, total current liabilities, etc.) is indented further.
Totals

Single Rule The last figure in each group of items is underlined.

Line

Final Totals The two final totals (i.e., total assets and total liabilities and owner’s equity)
appear as the last line in their respective sections and are underlined twice
(double ruled) to indicate a final total.

Peso Sign Peso signs are used (a) to the left of the first amount of a group of amounts
being combined and (b) to the left of each final total.

Peso Amount The peso amount for the detailed items is shown in one column; the total of
each classification is extended into the last column on the right-hand side of
the statement.

Marivic D. Valenzuela-Manalo Page 6 of B

Accounting Equation

Overview One important feature of the balance sheet relates to a very simple fact. The
balance sheet of any business must show total assets exactly equal in amount
to the sum of the liabilities and the capital. This relationship exists regardless
of the size of the enterprise or the variety of its assets, liabilities and ownership
interest. This identity is called the basic accounting equation. Often it is
stated as:
ASSETS = LIABILITIES + OWNER’S EQUITY

Which means, assets equal liabilities plus proprietorship. Other times the
equation appears as:
ASSET - L IABILITIES = OWNER’S EQUITY
or
ASSET - OWNER’S EQUITY = L IABILITIES

Assets This includes anything owned or possessed by the business which is capable of
being expressed in terms of money or possessing monetary values, and which,
consequently, is available for the payment of the debt of the business. In short,
assets represent the resources of the business.

Liabilities Economic obligations (i.e., debts) payable to an individual or an organization

outside the business.

Owner’s Equity The claim of an owner of a business over the assets of the business after the
claims of the creditors have been satisfied.

Marivic D. Valenzuela-Manalo Page 7 of B

Current Assets

Overview This includes cash and any other assets that are reasonably expected to be
converted into cash or consumed during one year or one operating cycle, i.e.,
whichever is longer.

Cash Currency, coins and checks that the business has received from customers and
other sources that have not yet been deposited in its bank account, as well as
the amount the business has on deposit in its bank account, against which
checks may be drawn in payment of bills.

Investments in Short-term investment in stocks of other business (also known as marketable

Trading securities).
Securities

Notes The amount due in the near future from persons or companies on the basis of
Receivable their formal, written promises to pay cash to the business on the date specified
in the promissory note.

Interest The amount of interest due as of the balance sheet date on notes received from
Receivable customers.

Accounts The total amount owed to the business by charge account customers.
Receivable

Advances to Cash advance given to an employee to be liquidated in the form of service.

employees

Continued on next page

Marivic D. Valenzuela-Manalo Page 8 of B

Current Assets, Continued

Merchandise The purchase price of the particular line of goods the business expects to sell
inventory to its customers for cash or on a charge account basis. This represents goods
on hand as of the balance sheet date.

Accrued Income already earned but not yet collected, such as interest earned on
Income promissory note issued by the customer before the maturity date of the note.

Supplies on The cost value of such things as wrapping paper and packaging tape and
hand twine, (Store Supplies on Hand), computer ribbons, envelopes, stamps, paper
(Office Supplies on Hand) , and other assets of a similar nature that the
business will use up in performing its activities.

Prepaid That part of the premium cost of all kinds of insurance carried by the business
insurance after the balance sheet date. Prepaid insurance is always classified as a current
assets even if the amount of the unexpired premiums cover a period longer
than one year, the time limit used in defining current assets.

Prepaid rent Rent paid by the business for facilities to be used after the balance sheet date.
For example, on December 1, 20X1, a business paid P30,000 for December,
January, and February rent. On a balance sheet dated December 31, 20X1, the
amount of Prepaid Rent would be shown as P20,000 the amount paid for the
use of the facilities for January and February, 20X2.

Marivic D. Valenzuela-Manalo Page 9 of B

Plant, Property and Equipment

Overview Assets are classified as plant, property and equipment if they meet the
following criteria: (1) they must have physical existence; (2) they must be
more or less permanent in nature; (3) they must not be for sale; (4) they must
be used in business operations; and (5) they must undergo depreciation (except
land). (Pefianco, E., Mercado,R., 1983)

Land The cost of land the business uses to carry on its activities - the lot on which
its factory or office building stands.

Building The original cost less accumulated depreciation is shown to give the
depreciated value of the structures in which the business carries on its
operation. This item could be separated into such things as Factory Building,
Office Building, Warehouse, and any other type of building the business wishes
to show on its statement of financial position.

Equipment The original cost less accumulated depreciation is shown to give the
depreciated value of the equipment used in the operations of the business. The
title equipment may also be separated into whatever special assets of this type
the business cares to identify. The business may use such titles as Office
Equipment for the value of the adding machines, calculators, and typwritters
the office employees use, and Delivery Equipment, for the value of the trucks
and automobiles the business uses to deliver its merchadise to customers. A
manufacturing enterprise would probably show the value of the machines in its
factory as Factory Machinery and Equipment.

Continued on next page

Marivic D. Valenzuela-Manalo Page 10 of B

Plant, Property and Equipment, Continued

Furniture and The original cost less accumulated depreciation is shown to give the
Fixtures depreciated value of furniture and fixtures used in the operation of the
business. The title Furniture and fixtures almost explains itself and may also be
subdivided. Desks and chairs and counters used by office employees might be
listed as Office Furniture and Fixtures. Display cases, chairs used by
customers, and merchandise counters in a department store could be entitled
Store Furniture and Fixtures.

Accumulated All property and equipment accounts except land are subject to depreciation.
Depreciation Depreciation is the allocation of the cost of a property account to its period of
usefulness in order to recognize a decline in its value because of wear and tear,
obsolescence or inadequacy. The total amount of depreciation accumulated
over a number of years is called accumulated depreciation.

Marivic D. Valenzuela-Manalo Page 11 of B

Current Liabilities

Overview Current liabilities are debts or obligations of a business that are expected to be
liquidated by the use of assets classified as current or by the creation of
another current liability.

Accounts The total amount owed by the business as of balance sheet date for purchases
payable of merchandise, supplies, and services made on a charge account basis and due
within one year from the balance sheet date.

Notes Payable The amounts owed by the business on the basis of formal, signed notes such as
the thirty-day or six-month notes signed when borrowing from a bank. If
merchandise is bought and the creditor requires the business to sign a note for
the amount of the purchase, the title Notes Payable is used. If the same
business borrowed from a bank, the liability may be shown also as Notes
Payable. This is classified as current liability if the note is due within one year.

Interest Payable The amount of interest owed by the business as of balance sheet date for
money borrowed on interest bearing promissory notes issued by the firm. This
interest debt builds up each day. The loan is outstanding-the interest accrues-
and it is shown as a separate liability apart from the face value of the note,
which appears in the Notes Payable account.

Deferred Income already collected but not yet earned. Rental payment received by the
Income lessor from the lessee may be treated as unearned rent income by the former.

Taxes Payable The amount of taxes owed by the business as of balance sheet date.

Marivic D. Valenzuela-Manalo Page 12 of B

Long-Term Liabilities

Overview Long-term liabilities are debts or obligations that will become due and payable
after one year from balance sheet date.

Notes Payable Amounts on signed formal notes due after one-year from the date of the
Long Term balance sheet.

Installment Amounts payable after one year from the balance sheet date on long-term
Contracts installment notes, such as those signed by the consumers when buying
Payable automobiles and household appliances. Installments due within one year from
the balance sheet date are listed as current liabilities.

Mortgage A debt due after one year from the balance sheet date that has some of the
Payable business property, such as land, buildings, or equipment-pledged as security.

Marivic D. Valenzuela-Manalo Page 13 of B

Owner’s Equity

Overview Owner’s equity or sometimes called capital or proprietorship is the excess of

assets over liabilities of a business.

Capital The amount invested in the business by the owner as of the balance sheet date.

Withdrawal When the owner withdraws cash or other assets from the business for personal
use, its assets and its owner’s equity both decrease. The amounts taken out of
the business appear in a separate account entitled Withdrawals, or Drawing. If
withdrawals were recorded directly in the capital account, the amount of
owner withdrawals would be merged with owner investments. To separate
these two amounts for decision-making, businesses used a separate account
for Withdrawals. This account shows a decrease in owner’s equity.

Marivic D. Valenzuela-Manalo Page 14 of B

Debit and Credit of Balance Sheet Items

Overview Analyzing business transactions would involve a dual effect in any of the
elements of the accounting equation. These dual effects would be analyzed and
recorded in terms of debit and credit. This part of the study guide will
introduce the readers on the basic understanding of the rules of debit and
credit affecting balance sheet items.

Account The basic summary device of accounting is the account. This is a detailed
record of the changes that have occurred in a particular asset, liability or
owner’s equity during a period of time.

T-Account For the purpose of analyzing the balance items into debit and credit, we will be
using in our illustrations the T-account. It takes the form of the capital letter
“T”. The vertical line in the letter divides the account into its left and right
sides. The account title rests on the horizontal line.
For example, the cash account of a business appears in the following T-
account format:
CASH

Left side Right side

Debit Credit

The left side of the account is called the debit side, and the right side is
called the credit side. Often beginners in the study of accounting are
confused by the words debit and credit. To become comfortable using
them, simply remember
debit = left side
credit = right side

The type of an account determines how increases and decreases in it are

recorded. Increases in assets are recorded in the left (the debit) side of
the account. Decreases in the assets are recorded in the right (the
credit) side of the account. Conversely, increases in liabilities and
owner’s equity are recorded by credits. Decreases are recorded by
debits.
Continued on next page

Marivic D. Valenzuela-Manalo Page 15 of B

Debit and Credit of Balance Sheet Items, Continued

Accounting This pattern of recording debits and credits is based on the accounting
Equation equations:
ASSETS = LIABILITIES + OWNER’S
EQUITY
Rules of Debit Credit Debit Credit Debit Credit
Debit and for for for for for for
Credit Increase Decrease Decrease Increase Decrease Increase

Illustration The following examples illustrate the accounting equations:

Joseph Labrador invested P100,000 cash to begin his accounting
business.

ASSETS = LIABILITIES + OWNER’S EQUITY

Cash Labrador,
Capital
Debit Credit
for increase for increase
Php 100,000 Php 100,000

The business purchased office supplies on account for P5,000.

ASSETS = LIABILITIES + OWNER’S EQUITY

Office Supplies Accounts

Payable
Debit Credit
for increase for increase
Php 5,000 Php 5,000

Continued on next page

Marivic D. Valenzuela-Manalo Page 16 of B

Debit and Credit of Balance Sheet Items, Continued

Illustration, The following examples illustrate the continuation of the accounting equations:
con’t.
The business paid one year rental for its office space, P24,000.

ASSETS = LIABILITIES + OWNER’S EQUITY

Prepaid Rent Cash

Debit Credit
for increase for increase
Php 24,000 Php 24,000

The business paid ½ of the amount owed in buying office supplies.

ASSETS = LIABILITIES + OWNER’S EQUITY

Accounts Payable Cash

Debit Credit
for increase for increase
Php 2,500 Php 2,500

Marivic D. Valenzuela-Manalo Page 17 of B