The basic accounting equation shows what we mean when we refer to a company's financial position: the economic resources that the company owns and the sources of financing for those resources. ElementsAssets are the economic resources owned by the company. Maxidrive lists five items under the category Assets. The exact items listed as assets on a company's balance sheet depend on the nature of its operations. But these are common names used by many companies. The five items listed by Maxidrive are the economic resources needed to manufacture and sell disk drives to companies such as Dell. Each of these economic resources is expected to provide future benefits to the firm. To prepare to manufacture the drives, Maxidrive first needed cash to purchase land on which to build factories and install production machinery (plant and equipment). Maxidrive then began purchasing parts and producing disk drives, which led to the balance assigned to inventories. When Maxidrive sells its disk drives to Dell and others, it sells them on credit and receives promises to pay called accounts receivable, which are collected in cash later.Every asset on the balance sheet is initially measured at the total cost incurred to acquire it. For example, the balance sheet for Maxidrive reports Land, $981; this is the amount paid (in thousands) for the land when it was acquired. Balance sheets do not generally show the amounts for which the assets could currently be sold.Liabilities are the company's debts or obligations. Under the category Liabilities, Maxidrive lists two items. The accounts payable arise from the purchase of goods or services from suppliers on credit without a formal written contract (or a note). The notes payable result from cash borrowings based on a formal written debt contract with lending institutions such as banks.Stockholders' equity indicates the amount of financing provided by owners of the business and earnings. The investment of cash and other assets in the business by the owners is called contributed capital. The amount of earnings (profits) reinvested in the business (and thus not distributed to stockholders in the form of dividends) is called retained earnings.In , the Stockholders' Equity section reports two items. The two founding stockholders' investment of $2,000,000 is reported as contributed capital. Maxidrive's total earnings (or losses incurred) less all dividends paid to the stockholders since formation of the corporation equaled $9,105,000 and is reported as retained earnings. Total stockholders' equity is the sum of the contributed capital plus the retained earnings.
Name of the entity, Maxidrive Corp.Title of the statement, Balance Sheet.Specific date of the statement, At December 31, 2009.Unit of measure (in thousands of dollars). The organization for which financial data are to be collected, called an the organization for which financial data are to be collected. must be precisely defined. On the balance sheet, the business entity itself, not the business owners, is viewed as owning the resources it uses and as owing its debts. The heading of each statement indicates the time dimension of the report. The balance sheet is like a financial snapshot indicating the entity's financial position at a specific point in time—in this case, December 31, 2009—which is stated clearly on the balance sheet. Financial reports are normally denominated in the currency of the country in which they are located. U.S. companies report in U.S. dollars, Canadian companies in Canadian dollars, and Mexican companies in Mexican pesos. Medium-sized companies such as Maxidrive often report in thousands of dollars; that is, they round the last three digits to the nearest thousand. The listing of Cash $4,895 on Maxidrive's balance sheet actually means $4,895,000. EXHIBIT 1.2Balance Sheet Maxidrive's balance sheet first lists the company's assets. Assets are economic resources owned by the entity. It next lists its liabilities and stockholders' equity. They are the sources of financing or claims against the company's economic resources. Financing provided by creditors creates a liability. Financing provided by owners creates owners' equity. Since Maxidrive is a corporation, its owners' equity is designated as stockholders' equity. Since each asset must have a source of financing, a company's assets must, by definition, equal the combined total of its liabilities and stockholders' equity. This (balance sheet equation): Assets = Liabilities + Stockholders' Equity. often called the balance sheet equation, is written:
These four financial statements are the basic statements normally prepared by profit-making organizations for use by investors, creditors, and other external decision makers.The four basic statements summarize the financial activities of the business. They can be prepared at any point in time (such as the end of the year, quarter, or month) and can apply to any time span (such as one year, one quarter, or one month). Like most companies, Maxidrive prepares financial statements for investors and creditors at the end of each quarter (known as The quarterly report that publicly traded companies must file with the SEC.) and at the end of the year (known as The annual report that publicly traded companies must file with the SEC.).The Balance SheetThe purpose of the A (Statement of Financial Position) reports the amount of assets, liabilities, and stockholders' equity of an accounting entity at a point in time. is to report the financial position (amount of assets, liabilities, and stockholders' equity) of an accounting entity at a particular point in time. We can learn a great deal about what the balance sheet reports just by reading the statement from the top. The balance sheet of Maxidrive Corp., presented by its former owners to Exeter Investors, is shown in .StructureNotice that the heading specifically identifies four significant items related to the statement:
On its Reports the amount of assets, liabilities, and stockholders' equity of an accounting entity at a point in time. Maxidrive overstated the economic resources it owned and understated its debts to others.On its Reports the revenues less the expenses of the accounting period. Maxidrive overstated its ability to sell goods for more than the cost to produce and sell them.On its reports the way that net income and the distribution of dividends affected the financial position of the company during the accounting period. Maxidrive overstated the amount of income it reinvested in the company for future growth.On its (Cash Flow Statement) reports inflows and outflows of cash during the accounting period in the categories of operating, investing, and financing. Maxidrive overstated its ability to generate from sales of disk drives the cash necessary to meet its current debts.
The Four Basic Financial Statements: An OverviewYou must have javascript enabled to view this website. Please change your browser preferences to enable javascript, and reload this page.The Four Basic Financial Statements: An Overview Both Exeter Investors (Maxidrive's new owner) and American Bank (Maxidrive's largest creditor) used Maxidrive's financial statements to learn more about the company before making their purchase and lending decisions. In doing so, Exeter and American Bank assumed that the statements accurately represented Maxidrive's financial condition. As they soon learned, and now have claimed in their lawsuits, the statements were in error.
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