Accounting For Business II

LIABILITY

(SHORT TERM AND LONG TERM  LIABILITIES)

Current liabilities are the debts a company owes which must be paid within one year. They are the opposite of current assets. Current liabilities includes things such as short term loans, accounts payable, dividends and interest payable, bonds payable, consumer deposits, and reserves for Federal taxes.

Let's take a look at some of the most common and important current liabilities on the balance sheet.

Accounts Payable - The Most Popular Current Liability

Accounts payable is the opposite of accounts receivable. It arises when a company receives a product or service before it pays for it. Accounts payable, or A/P as it is often shorthanded, is one of the largest current liabilities a company will face because they are constantly ordering new products or paying vendors for services or merchandise. Really well managed companies attempt to keep accounts payable high enough to cover all existing inventory, meaning that the vendors are paying for the company's shelves to remain stocked, in effect.

Accrued Benefits and Payroll as a Current Liability

This item in the current liabilities section of the balance sheet represents money owed to employees as salary and bonus that the company has not yet paid.

Short Term and Current Long Term Debt

These current liabilities are sometimes referred to as notes payable. They are the most important item under current liabilities section of the balance sheet and most of the time, they represent the payments on a company's bank loans that are due in the next twelve months. Borrowing money in itself is not necessarily a sign of financial weakness; an intelligent department store executive may work out short term loans at Christmas so she can stock up on merchandise before the Holiday rush. If demand is high, the store would sell all of its inventory, pay back the short term loans, and pocket the difference. This is known as utilizing leverage. The department store used borrowed money to make a profit.

So how can you ever hope to tell if a company is wisely borrowing money (such as our department store), or recklessly going into debt? Look at the amount of notes payable on the balance sheet (if they aren't classified under 'notes payable', combine the company's short term obligations and long term current debt). If the amount of cash and cash equivalents is much larger than the notes payable, you shouldn't have any reason to be concerned.

If, on the other hand, the notes payable has a higher value than the cash, short term investments, and accounts receivable combined, you should be seriously concerned. Unless the company operates in a business where inventory can quickly be turned into cash, this is a serious sign of financial weakness.

Other Current Liabilities

Depending on the company, you will see various other current liabilities listed. Sometimes they will be lumped together under the title "other current liabilities." Normally, you can find a detailed listing of what these "other" liabilities are buried somewhere in the annual report or 10k. Often, you can figure out the meaning of the entry by its name. If a business lists "Commercial Paper" or "Bonds Payable" as a current liability, you can be fairly confident the amount listed is what will be paid out to the company's bond holders in the short term.

Consumer Deposits Are Liabilities to Banks

If you are looking at the balance sheet of a bank, you will want to pay close attention to an entry under the current liabilities called "Consumer Deposits". Often, they will be will lumped under other current liabilities. This is the amount that customers have deposited in the bank. Since, theoretically, all of the account holders could withdrawal all of their funds at the same time, the bank must list the deposits as a current liability.

Current Liabilities Versus Long Term Liabilities

Some debts are repaid quickly, others more slowly. Many businesses use these different debt schedules as a tool to manage their assets. There are advantages and disadvantages to both short and long term debt, and when possible it is wise to consider which liability option will best suit the company's needs in the near and far term.

Current Liabilities Advantages

Short term debts that must be repaid with in one year or one business cycle are relatively simple to comprehend and calculate. The payments must be made as a one-time expenditure or on a payment schedule over the year's term. These current debts should most often be repaid using current assets, and the balance sheet makes it easy to see if this is possible. Businesses can use this short term floating debt as low cost financing without visiting the bank for an official loan. In addition, informal payment agreements with long time suppliers might have very flexible terms.

Current Liabilities Disadvantages

In the case of a loan, the disadvantage of a short versus longer term is clear. Assuming a loan for $100,000 at 10% interest, a loan with one year term would require monthly payments of $833 interest and $8,333 principal for a total of $9,166 per month, or interest payment only with a balloon of the total principal at the end of the year. Conversely, a ten year loan with the same terms would have payments of $833 principal and $833 interest per month for total monthly payments of $1,666, or $833 interest only with the same balloon payment of the principal amount in the future. In addition, sometimes it is complicated to determine if a liability is due in the short term, and placing a debt in this category erroneously may unnecessarily reduce the available current assets of a business.

Long Term Liabilities Advantages

Providers of long term debt such as banks and bond holders loan money to businesses for the long term. In return, these note holders receive interest on their investments. This is an advantage to the note holders, and also to the economy as a whole. Businesses can grow due to the original investment, providing employment to more people. The repayment schedule is usually predictable, and as shown above can be less expensive than shorter term financing. In addition, in the case of a long term loan with a balloon payment, the principal might be scheduled to coincide with some future activity such as the sale of a property or business unit.

Long Term Liabilities Disadvantages

Long termdebts can complicate a balance sheet as it is more difficult to readily see how debts will be repaid using future assets than with current assets. These liabilities may also involve contracts which can add additional legal and time costs. In addition, too much long term debt may also restrict the growth of a business and reduce its ability to adapt to changes in industry. High levels of long term debt can also scare lenders and creditors, and may result in higher costs to borrow funds. Short term liabilities can be more flexible in an ever changing business landscape.

It is not always possible for a business to choose whether to take on short or long term debt. However, when the options are both available, the advantages and disadvantages of each should be carefully considered. The choice depends on the needs of the business and the reason for the additional debt.

BALANCE SHEET OF LIABILITIES (third component of the Balance Sheet)

Thus far we have discussed the first two components of the Balance Sheet, namely the Heading and the Assets. The third component of the balance sheet is known as Liabilities. Liabilities are those items a business owes to other businesses, governments, shareholders, employees, and so on. Think of liabilities as items placing an economic burden onto a company. Examples of liabilities include accounts payable, taxes payable, interest payable, wages payable, bank loan payable, property taxes payable, and mortgage payable.

Like Assets, Liabilities are broken down into two classifications;

1.    Current Liabilities

2.    Long-term Liabilities

Current Liabilities are liabilities that are due in a short period of time; - usually within one year or less. Long-term Liabilities, on the other hand, are liabilities that require payment beyond a company's operating cycle (ie longer than one year). Lets look at both classification of liabilities and examine examples of each.

Current Liabilities:
As mentioned above, current liabilities are items a company owes that must be paid within one year. Examples of current liabilities would include; accounts payable, wages payable, property taxes payable, insurance payable, interest payable, notes payable, taxes payable, utilities payable, short-term bank loan payable and so on. The Toy Company's Current Liabilities on its Balance Sheet as of December 31, 200X are as follows;

Current Liabilities:
Accounts Payable	$12,254
Income Taxes Payable	$ 5,676
Short-Term Loan Payable	$ 5,179
Total Current Liabilities	$23,109

Let's look at each of The Toy Company's current liabilities; beginning with Accounts Payable.

Accounts Payable
An account payable is a short-term liability a company incurs when it purchases items on credit. Furthermore, many businesses buy inventory, offices supplies, office equipment, store supplies, etc. and elect to pay for them at a later date. As of December 31, 200X, the Toy Company still owes $12,254 for office supplies, equipment, store supplies, inventory, and so on. As the company pays for these items, the account balance ($12,254) will decrease. Also, when the company purchases more items on credit, the accounts payable increases.

Accounts payable are considered current liabilities because payment is usually due in less than one year. Further, a company offering credit will usually request payment within 30, 60, or 90 days from the date of payment.

Income Taxes Payable
The second current liability shown on The Toy Company's balance sheet is income tax payable. Businesses, like individuals, must pay taxes on the income they make. The amount of income tax obligation a business is responsible for depends upon several factors. Four important factors include;

1. Whether the business is a sole-proprietorship, partnership or corporation. Sole proprietorships and partnerships are generally taxed at the same rate as individuals (non business owners). Corporations have their own tax rates and rules.

2. The amount of income made by the business. Established tax rates or percentages have been created for income levels for geographic areas. A tax percentage is multiplied by a company's Net Income Before Taxes to arrive a businesses' income tax obligation.

3. State/provincial tax rate applied to taxable income. Each state and province has their own state/provincial tax rate or percentages. Therefore, before a business can calculate its tax obligation, it must first know the state/provincial tax rates at the various income levels.

4. Whether tax credits are available to the business. Some states and federal governments will provide tax credit to companies to encourage more business start-up. Business tax credits will ultimately reduce the amount of tax a company pays.

Income tax is an extremely specialized field and should be left to professionals. If you are an existing business owner, chances are you already have an accountant preparing your tax returns. If however, you are planning to open a business and preparing your financial forecasted statements, it would be wise to contact an accountant. The accountant will be able to tell you the tax rates, at different levels of income, for your particular state/province and country. Now lets return to our Toy Company example. The following assumption applies to our example.

"The Net Income before taxes for the Toy Company in 200X (from January 1 to December 31) is $14,190. Donald's accountant determined a tax rate of 40% would apply to the net income before tax. Therefore, the income taxes to be paid will be $5,676 ($14,190 x 40% = $5,676). As of December 31, 200X, the tax obligation has not been paid and therefore is considered income taxes payable".

Remember that Net Income Before Taxes must be calculated before a business can determine its income tax obligation. Net Income Before Taxes is a calculated by subtracting business expenses from business revenues. After the Net Income Before Taxes have been calculated, an accountant will apply a percentage(s) to this amount to arrive at your tax obligation. Moreover, The Toy Company's Net Income Before Taxes (Revenue - Expenses) was $14,190. The accountant applied a rate of 40% to arrive at The Toy Company's tax obligation. In other words, the company is obligated to pay $5,676 in income tax ($14,190 x 40% = $5,676). Since the company didn't pay the income tax as of December 31, it's considered a payable. When the company pays the tax, the income tax payable account will be reduced to zero. For more information on how to calculate net income before taxes, refer to the Income Statement.

Income tax payable will always be considered a current liability since payment is due in less than one year. The Toy Company will most likely pay the $5,676 tax obligation before April 30, 200Y. Depending on where you live, laws are in place that require businesses to pay income tax on an installment basis. Be sure you discuss this matter as well as other tax issues with an accountant.

Short-Term Loan Payable
Short-term loans that require payment in less than one year are classified into an account called Short-Term Loan Payable. For example, on August 10, 200X The Toy Company received a $7,000 short-term loan (1 year) from a local bank. The loan is considered a current liability because it's due in less than one year. The company is required to make monthly payments on the loan until it's fully paid on July 30, 200Y. As of December 31, 200X the outstanding balance owed on the loan is $5,179 (see balance sheet above). This means that from August to December, 200X, the company paid $1,821 on the loan ($7,000 - $5179).

Long-Term Liabilities:
The second classification of business liability is called Long-Term Liability. As mentioned earlier, a long-term liability is money owed by a business that must be paid beyond a company's operating cycle. In other words, it is debt that is due beyond a one year period. To put liabilities into perspective we can say;

Current liabilities are debts that must be paid in one year or less,
while long term liabilities are debts that must be paid sometime beyond one year.

Examples of long term liabilities include; a 3 year business bank loan, a 5 year business car loan, a mortgage on a corporate building, a 2 year loan from a family members who invests into your company, and the list goes on and on. Think of a mortgage on your house for a moment. Your house mortgage is a long-term liability to you personally - not your business. Therefore, the balance sheet for your business would not include your house mortgage as a long term liability. In other words, personal items are personal items and business items are business items; they are considered to be separate entities.

The Toy Company's Long-Term Liabilities on its Balance Sheet as of December 31, 200X are as follows;

Long-Term Liabilities:
Mortgage on Building	$19,757

Mortgage on Building
Recall under the assumption section of our example, the following;

"On July 1, 200X, The Toy Company received a 10 year, $22,500 loan. The loan was needed to purchase a building. The building will be used to sell the company's preassembled toys".

The $22,500 dollars is a loan the company must pay back to the bank. All loans are considered liabilities and since the loan is payable over 10 years, it is considered a long term liability. On December 31, 200X the balance owning on the Mortgage is $19,757. As you can see, the loan has reduced from $22,500 down to $19,757 in half of one year (July to December, 200X). This reduction represents the amount of principal the company paid on the loan. Therefore, it's safe to say the Toy Company paid $2,743 in principal payments ($22,500 - $19,757).

Total Liabilities
Total Liabilities represent the sum of all Current Liabilities plus the sum of all Long Term Liabilities. Simply stated Total Current Liabilities plus (+) Total Long-Term Liabilities = Total Liabilities ($23,109 + $19,757 = $42,866). Below depicts the Liabilities of the Toy Company as of December 31, 200X.

LIABILITIES:
Current Liabilities:
Accounts Payable	$12,254
Income Taxes Payable	$ 5,676
Short-Term Loan Payable	$ 5,179
Total Current Liabilities	$23,109
Long-Term Liabilities:
Mortgage on Building	$19,757
TOTAL LIABILITIES	$42,866

As of December 31, 200X, The Toy Company owes $42,866 dollars to other businesses (banks, governments and other businesses). $23,109 is required to be fully paid within one business year (short-term liabilities), while $19,757 is required to be paid later than one year (long-term liabilities). This concludes the Liabilities section of the Balance Sheet. The next component of the balance sheet is called the Equity section.

sources : from wikipedia, the free encyclopedia http://www.wikipedia.com/Assets 

Accounting For Business

ASSETS

(CURRENT ASSETS AND FIXED ASSETS)

In financial accounting, assets are economic resources. Anything tangible or intangible that is capable of being owned or controlled to produce value and that is held to have positive economic value is considered an asset. Simply stated, assets represent value of ownership that can be converted into cash (although cash itself is also considered an asset).^[1]

The balance sheet of a firm records the monetary^[2] value of the assets owned by the firm. It is money and other valuables belonging to an individual or business.^[1] Two major asset classes are tangible assets and intangible assets. Tangible assets contain various subclasses, including current assets and fixed assets.^[3] Current assets include inventory, while fixed assets include such items as buildings and equipment.^[4]

Intangible assets are nonphysical resources and rights that have a value to the firm because they give the firm some kind of advantage in the market place. Examples of intangible assets are goodwill, copyrights, trademarks, patents and computer programs,^[4] and financial assets, including such items as accounts receivable, bonds and stocks.

Formal Definition

• An asset is a resource controlled by the entity as a result of past events or transactions^{[verification needed]} and from which future economic benefits are expected to flow to the entity^[5] (Framework Par 49a).

Asset Characteristics

Probably the most accepted accounting definition of asset is the one used by the International Accounting Standards Board.^[6] The following is a quotation from the IFRS Framework: "An asset is a resource controlled by the enterprise as a result of past events and from which future economic benefits are expected to flow to the enterprise."^[7]

This means that:

• The probable present benefit involves a capacity, singly or in combination with other assets, in the case of profit oriented enterprises, to contribute directly or indirectly to future net cash flows, and, in the case of not-for-profit organizations, to provide services;
• The entity can control access to the benefit;
• The transaction or event giving rise to the entity's right to, or control of, the benefit has already occurred.

Employees are not considered to be assets, like machinery is, even though they are capable of generating future economic benefits. This is because an entity does not have sufficient control over its employees to satisfy the Framework's definition of an asset.

Similarly, in economics an asset is any form in which wealth can be held.

Assets in Accounting

In the financial accounting sense of the term, it is not necessary to be able to legally enforce the asset's benefit for qualifying a resource as being an asset, provided the entity can control its use by other means.

The accounting equation relates assets, liabilities, and owner's equity:

Assets = Liabilities + Stockholder's Equity (Owner's Equity)

Assets = liabilities + Capital

liabilities = Assets - Capital

Capital = Assets - liabilities

That is, the total value of a firms Assets are always equal to the combined value of its "equity" and "liabilities."

The accounting equation is the mathematical structure of the balance sheet.

Assets are listed on the balance sheet. In a company's balance sheet certain divisions are required by generally accepted accounting principles (GAAP), which vary from country to country.^[8] Assets can be divided into e.g. current assets and fixed assets, often with further subdivisions such as cash, receivables and inventory.

Assets are formally controlled and managed within larger organizations via the use of asset tracking tools. These monitor the purchasing, upgrading, servicing, licensing, disposal etc., of both physical and non-physical assets.

Current Assets

Main article: Current asset

Current assets are cash and other assets expected to be converted to cash or consumed either in a year or in the operating cycle (whichever is longer), without disturbing the normal operations of a business. These assets are continually turned over in the course of a business during normal business activity. There are 5 major items included into current assets:

1. Cash and cash equivalents — it is the most liquid asset, which includes currency, deposit accounts, and negotiable instruments (e.g., money orders, cheque, bank drafts).
2. Short-term investments — include securities bought and held for sale in the near future to generate income on short-term price differences (trading securities).
3. Receivables — usually reported as net of allowance for noncollectable accounts.
4. Inventory — trading these assets is a normal business of a company. The inventory value reported on the balance sheet is usually the historical cost or fair market value, whichever is lower. This is known as the "lower of cost or market" rule.
5. Prepaid expenses — these are expenses paid in cash and recorded as assets before they are used or consumed (a common example is insurance). See also adjusting entries.

Marketable securities Securities that can be converted into cash quickly at a reasonable price

The phrase net current assets (also called working capital) is often used and refers to the total of current assets less the total of current liabilities.

Long-term Investments

Often referred to simply as "investments". Long-term investments are to be held for many years and are not intended to be disposed of in the near future. This group usually consists of three types of investments:

1. Investments in securities such as bonds, common stock, or long-term notes.
2. Investments in fixed assets not used in operations (e.g., land held for sale).
3. Investments in special funds (e.g. sinking funds or pension funds).

Different forms of insurance may also be treated as long term investments.

Fixed Assets

Main article: Fixed asset

Also referred to as PPE (property, plant, and equipment), these are purchased for continued and long-term use in earning profit in a business. This group includes as an asset land, buildings, machinery, furniture, tools, IT equipment, e.g., laptops, and certain wasting resources e.g., timberland and minerals. They are written off against profits over their anticipated life by charging depreciation expenses (with exception of land assets). Accumulated depreciation is shown in the face of the balance sheet or in the notes. Asset is important factor in balance sheet

These are also called capital assets in management accounting.

Intangible Assets

Main article: Intangible asset

Intangible assets lack of physical substance and usually are very hard to evaluate. They include patents, copyrights, franchises, goodwill, trademarks, trade names, etc. These assets are (according to US GAAP) amortized to expense over 5 to 40 years with the exception of goodwill.

Websites are treated differently in different countries and may fall under either tangible or intangible assets.

Tangible Assets

Tangible assets are those that have a physical substance, such as currencies, buildings, real estate, vehicles, inventories, equipment, and precious metals

Comparison : current assets , liquid assets and absolute liquid assets

Current assets	Liquid assets	Absolute liquid assets
Stocks
Prepaid expenses
Debtors	Debtors
Bills receivable	Bills receivable
Cash in hand	Cash in hand	Cash in hand
Cash at bank	Cash at bank	Cash at bank
Accrued incomes	Accrued incomes	Accrued incomes
Loans and advances (short term)	Loans and advances (short term)	Loans and advances (short term)
Trade investments (short term)	Trade investments (short term)	Trade investments (short term)

BALANCE SHEET OF ASSETS (second component of the Balance Sheet)

Assets are economic resources of a business. For example, cash is an asset which allows a company to buy other assets or resources, pay debts a company may have, or pay Operating Expenses. Assets can be classified into two categories; - Current Assets and Fixed Assets.

Current Assets:
Current assets consist of cash and other resources (assets) that are expected to be converted into cash within one year or less. Examples of other resources expected to be converted into cash would include inventory (products a company sells to its customers), accounts receivable (money customers owe a business for products purchased on credit) and marketable securities (short term investments made by a company). Current assets also include items that add "value" to a business and become "used up" or "consumed" in less than a one year. Examples of these current assets would include: office supplies, store supplies, and prepaid items such as prepaid fire insurance, & prepaid rent. When these items become used up or consumed, they are no longer considered assets to the company - they are considered expenses.

The Toy Company's Current Assets on its Balance Sheet as of December 31, 200X are as follows;

Current Assets:
Cash	$10,122
Accounts Receivable	$ 5,000
Prepaid Fire Insurance	$ 1,200
Inventory	$12,558
Total Current Assets	$28,880

Let examine each component in detail !!!

Cash
Cash is the amount of money a company has in its bank account. Cash is necessary for paying bills and for maintaining the day to day operations. As you can see, The Toy Company has $10,122 cash in its bank account on December 31, 200X. This balance will change on the following day if any of the following activities take place: if the company makes cash sales, pays on its debt, receives additional investments or loans, pays on expenses, and other transactions requiring cash.

Many businesses, having extra cash in the bank, may decide to pay down liabilities, invest into new markets, or buy marketable securities. A marketable security, in most cases, is a very short term investment a business purchases from the government, for instance.

Accounts Receivable
An account receivable is a promise by a customer to pay for a product or service at a later point in time. Many of us have purchased items on credit, promising to pay for them in the future. Companies offer credit terms as an added service to customers in an attempt to increase sales. When you, as a consumer, purchase something on credit, the company you purchase the product or service from will consider you an account receivable. If you, as a business owner, allow customers to buy your products on credit, then those customers are considered accounts receivable. As of December 31, 200X, The Toy Company has $5,000 outstanding in accounts receivable. This means, some of the company's customers purchased $5,000 worth of toys, and as of December 31, 200X, haven't paid for them.

Usually businesses will give their customers 30 days to pay for items placed on credit. The pay back period, however, depends on the industry norm and the company's credit granting policy. Most businesses charge interest to customers who fail to pay within an allotted time frame. The interest rate varies from company to company, however, it usually ranges between 2 and 5 percent of the amount owed.

Prepaid Items
Prepaid items are expenses businesses pay for in advance. Common prepaid expenses include, prepaid rent and prepaid insurances. You may ask why would a business pay for something that is not due. Proper cash management dictates "not to pay for something unless it's due". Some contracts , however, call for payment of goods and services up front. Think about your personal car insurance. If you are not on a monthly payment plan, chances are you're required to pay for your automobile insurance in advance; usually six months in advance.

Prepaid items are considered assets because full payment is made for services that have not been fully rendered. As a company receives the service, the prepaid item is no longer an asset, but rather an expense. To explain this concept, lets refer back to one of our assumptions which stated.

"On July 1, 200X, The Toy Company purchased fire insurance on its building and its inventory of toys. The insurance company quoted a yearly rate of $2,400. The insurance contract called for 1 year payment to be made in advance".

In short, on July 1, 200X Donald wrote a $2,400 check to his insurance company. The fire insurance "covers" the building and inventory for a 1 year period. Therefore, on July , 200X, The Toy Company's balance sheet would show an account called prepaid fire insurance for $2,400. The company's balance sheet as of December 31, 200X, however, shows the prepaid fire insurance account balance as $1,200. From July 1 through December 31, 200X, the prepaid fire insurance account reduced by $1,200 ($2,400 - $1,200 = $1,200). The reason behind the reduction is simple. The $2,400 paid on July 1 protects the company against fire for a 1 year period (from July 1, 200X to July 1, 200Y). Since six months of the insurance has expired ( July to December of 200X), only six more months is left on the insurance policy (from January to July 1 of 200Y). Therefore, only six months (or half) of the policy still has value to the Toy Company. The other six months of the insurance has no value and is considered to be an expense. The Income Statement on December 31, 200X would show an account called Fire Insurance Expense. The fire insurance expense would have a value of $1,200 - the used or consumed portion of the insurance policy.

Inventory
Inventory is the product a company buys or produces and sell to end consumers (you and I). For example, The Toy Company is a retailer that buys products from a wholesaler and sells them to end consumers. Most retailers and service providers buy finished inventory and sell it to end consumers. A manufacturer, on the other hand, buys raw materials and manipulates (manufactures) those materials into finished products. A retailer's inventory generally is "finished" and ready for resale upon unpacking the products. Where as a manufacturer may have three types of inventory - raw materials, work in process, and finished goods inventory.

If you are a retailer/service provider your inventory is always recorded at its cost (IE historical value). That is; the money you pay your suppliers for the goods you buy for resale plus any shipping charges. Thus, as of December 31, 200X The Toy Company has finished inventory on hand valued at $12,558. Therefore, The Toy Company paid wholesalers and shipping companies $12,558 for the toys that are on display and that are in storage. The inventory will decrease in value if the company makes sales to customers.  The inventory account will increase when more inventory is purchased. Remember when a sale is made the inventory is removed and is recorded as a cost of good sold (COGS). Cost of Goods Sold appears on the Income Statement.

If you are a manufacturer, your inventory will be recorded at the cost of all raw materials, plus direct labour costs (labour costs directly related to producing the finished product), plus factory overhead charges required in manufacturing the raw materials into finished products. Usually, manufacturers will separate finished goods (products ready for resale) from non-finished goods (raw materials and work in process) on the balance sheet.

Total Current Assets
Total current assets is the sum of all the current assets listed on a company's balance sheet. As indicated below, The Toy Company has total current assets valued at $28,880.

Current Assets:
Cash	$10,122
Accounts Receivable	$ 5,000
Prepaid Fire Insurance	$ 1,200
Inventory	$12,558
Total Current Assets	$28,880

Fixed Assets:
The second classification of an asset is known as a Fixed Asset. Fixed Assets are economic resources that have long lives before they become "used up" or consumed. Unlike current assets which are used up or consumed in less than 1 year, fixed assets generally take more than one year before they become consumed. Don't be confused with the term FIXED ASSET; it does not mean assets that are stationary or immobile - it's simply a financial term. Examples of fixed assets include; office equipment (computers, fax machines, photocopiers, etc) office furniture (office desk, fixtures, etc), buildings, automobiles, production equipment, land, patents, trademarks, copyrights.

When current assets such as inventory, office supplies and store supplies are used up or consumed, they are no longer considered assets, but rather they are considered expenses. Fixed assets undergo a similar process called depreciation. Depreciation attempts to estimate the reduction in the value of fixed assets. When fixed assets are depreciated, two accounts are created; namely, Depreciation Expense and Accumulated Depreciation. The depreciation expense appears on the income statement while the accumulated depreciation appears on the balance sheet. To explain these terms, lets look at the fixed assets section for the Toy Company on December 31, 200X.

Fixed Assets:
Office Equipment (2yr life)	$12,500
Less Accumulated Depreciation	$ 6,250
Net office Equipment	$ 6,250
Building (5 year life)	$22,500
Less Accumulated Depreciation	$ 2,250
Net Building	$20,250
Total Fixed Assets	$26,500

As you can see, The Toy Company's fixed assets include office equipment and a building. Let's look at each fixed asset separately and line by line.

OFFICE EQUIPMENT:

THE FIRST LINE - Office Equipment ($12,500):

Office Equipment (2yr life)	$12,500
Less Accumulated Depreciation	$ 6,250
Net office Equipment	$ 6,250

As indicated under the assumption section of our example, The Toy Company purchased two computers for $4,400, a fax machine for $300, and a mobile photocopier for $7,800. These assets were purchased on January 1, 200X and were grouped together into one account called Office Equipment. When added together, the office equipment account balance is $12,500.

As you can see, the first line (office equipment - 2 year life) has a balance of $12,500. This figure represents the amount the fixed assets were "worth" at the time of purchase. This is known as the asset's historical cost. The account balance of $12,500 (historical cost) will remain at this amount each year unless The Toy Company purchases more office equipment or sells off any of the existing office equipment.

THE SECOND LINE - Less: accumulated depreciation-office equipment:

Office Equipment (2yr life)	$12,500
Less Accumulated Depreciation	$ 6,250
Net office Equipment	$ 6,250

The second line (less: accumulated depreciation - office equipment) keeps track of the reduction in value of the office equipment over time. Furthermore, from January 1 to December 31, 200X, the office equipment reduced in value by $6,250. In other words, the office equipment depreciated in value by $6,250. How was this reduction in value calculated? Recall, under the assumption section of our example, Donald's accountant estimated the office equipment would have a useful life of 2 years, after which time, the equipment would be worthless. In addition, the accountant suggested the office equipment should be depreciated using a straight line method (straight line method of depreciation attributes an equal reduction in value each year of the asset's useful life). Since Donald is using the straight line method of depreciation, he would simply divide the asset's historical cost ($12,500) by the asset's useful life (2 years), to arrive at the depreciation amount for one full year. Therefore, The Toy Company estimates the office equipment will depreciate $6,250 each year ($12,250 / 2 years).

As mentioned earlier two accounts are created when depreciating fixed assets; depreciation expense and accumulated depreciation. In our example, the depreciation expense, appearing on The Toy Company's December 31, 200X income statement, will have a account balance of $6,250 each year. And the accumulated depreciation, appearing on The Toy Company's December 31, 200X balance sheet, will have an account balance of $6,250 as of December 31, 200X. If you refer to the accumulated depreciation - office equipment account as of December 31, 200X, you will see $6,250.

PLEASE NOTE: If no other office equipment is purchased, then the depreciation expense for the office equipment (appearing on the income statement) will always remain the same each year throughout the asset's useful life ( ie $6,250). The accumulated depreciation shown on the balance sheet, however, accumulates the office equipment's reduction (loss) in value each year, for the useful life of the office equipment. Therefore, the depreciation expense on the income statement for the year ending December 31, 200Y will have an account balance of $6,250, while the office equipment's accumulated depreciation on the December 31, 200Y, balance sheet will show an account balance of $12,500 ($6,250 depreciation for 200X and $6,250 depreciation for 200Y = $12,500 accumulated depreciation for office equipment).

THE THIRD LINE- net office equipment

Office Equipment (2yr life)	$12,500
Less Accumulated Depreciation	$ 6,250
Net office Equipment	$ 6,250

The third line is called Net Office Equipment. This line is calculated by subtracting the historical cost of the office equipment ($12,500) and the accumulated deprecation of the office equipment ($6,250). The resulting figure ($6,250) is an estimation of the economic value remaining on the office equipment on December 31, 200X. Recall the office equipment was worth $12,500 when it was purchased on January 1, 200X. Donald's accountant estimated the equipment would reduce in value (depreciate) by $6,250 each year of its useful life. Therefore, on December 31, 200X, the office equipment is estimated to be worth $6,250.

How much would the office equipment be worth one year from December 31, 200X; (which would be December 31, 200Y)? The answer should be apparent. Since the office equipment was estimated to have a two year life, and December 31, 200Y represents the equipments two year anniversary, it would have a economic value of zero. Furthermore, if no other office equipment was purchased during 200Y, the office equipment section of the balance sheet on December 31, 200Y would look like this.

Office Equipment (2 year life)	$12,500
Less Accumulated Depreciation	$ 12,500
Net office Equipment	$ 0.00

Remember the accumulated depreciation account, accumulates the depreciation estimated each year. Thus, 200X depreciation was $6,250 and 200Y depreciation was $6,250, resulting in total (accumulated) depreciation of $12,500. Now lets briefly look at the Toy's Company's second fixed asset; namely Building.

BUILDING
The following has been taken from the fixed asset section of The Toy Company's balance sheet as of December 31, 200X.

Building (5 year life)	$22,500
Less Accumulated Depreciation	$ 2,250
Net Building	$20,250

As you can see, the same structure is used for the building as was used for the company's office equipment. The first line describes the name of the fixed asset along with its historical cost. The second line estimates how much the building has depreciated over the years. And the third line estimates the "net worth" of the building on the balance sheet date (December 31, 200X). To explain where these values came from, lets look at each line separately.

FIRST LINE - Building
The first line represents the historical value of the building. Recall, The Toy Company received a bank loan on July 1, 200X. The bank loan was used to purchase a $22,500 building. Therefore, the historical cost of the building is $22,500.

The building's historical cost account on the balance sheet will always remain at $22,500 unless any of the following events occur;

1.    Major renovations are made to the existing building;

2.    If the Toy Company's sells the existing building; or

3.   An additional building(s) is purchased by the company.

Notice the building was purchased using borrowed money. Although, the bank loan was used to buy the building, it's still considered an asset of The Toy Company. Our point is this,

DON'T think of an asset (current or fixed) as something a business owns. Rather, view an asset as a resource that can be used to strengthen a business. Although, The Toy Company doesn't really "own" the building, it's still considered the company's fixed asset. It's an economic resource that can be used to strengthen their business. In addition, when assets are purchased with borrowed money, an asset account and a liability account will be created and placed on the Balance Sheet. This will become clearer to you when we discuss the liabilities section of balance sheet.

SECOND LINE - Less Accumulated Depreciation - Building

Building (5 year life)	$22,500
Less Accumulated Depreciation	$ 2,250
Net Building	$20,250

As you can see, the "less accumulated depreciation" account shows an amount of $2,250 on December 31, 200X. To explain how this was calculated, we will have to refer back to the assumptions section of our example. Recall;

"Donald's accountant suggested the building will have a useful life of 5 years and will be depreciated in equal amounts per year over these 5 years using a straight line method of depreciation. Therefore, depreciation expense on the building for one full year will be $4,500 ($22,500 divided by 5 years = $4,500 per year)."

Notice the above assumption indicates that deprecation expense will be $4,500 for one full year. In other words, the accountant is estimating the building will reduce in value each year by $4,500. Since the building was purchased on July 1, 200X, it has only depreciated 6 months (from July 1 to December 31 = 6 months). Therefore, the depreciation expense and accumulated depreciation as of December 31, 200X would be half of the yearly amount or $2,250. If you look at the amount in the accumulated depreciation account on December 31, 200X, you will see $2,250. If the building had been purchased on January 1, 200X, then the full depreciation rate of $4,500 would apply.

What amount will appear in the accumulated depreciation account on December 31, 200Y (one full year from the December 31, 200X). To answer this, we must determine the amount the building is estimated to depreciate each year. This was already calculated above to be $4,500 per year ($22,500 / 5 years = $4,500).

Since the accumulated depreciation account "tallies" the depreciations for each year, the amount showing in the accumulated depreciation account on the December 31, 200Y balance sheet would be $6,750 ($2,250 depreciation from July to December 200X + $4,500 depreciation from January to December 200Y = $6,750). Below shows the changes in the accumulated depreciation account from December 31, 200X to December 31, 200Y.

	Dec. 31 200X	Dec. 31 200Y
Building (5 year life)	$22,500	$22,500
Less: Accumulated Depreciation - Building	$ 2,250	$ 6,750
Net Building	$20,250	$15,750

THIRD LINE - Net Building

Building (5 year life)	$22,500
Less Accumulated Depreciation	$ 2,250
Net Building	$20,250

The third line (Net Building) is calculated by subtracting the total reduction in economic value of the building (depreciations over the years) from the historic cost of the building. The result is known as - Net Building. The Net Building estimates the value of the building on the balance sheet date. Therefore, on December 31, 200X the building is estimated to be worth $20,250.

What is the building's estimated worth at the end of the company's second year of operation (IE on December 31, 200Y). To determine this, we will have to know the historical cost of the building and the accumulated depreciation of the building on December 31, 200Y. The historical cost of the building is known ($22,500) and the accumulated depreciation as of December 31, 200Y has already been calculated. The following chart has been extracted from above;

	Dec. 31 200X	Dec. 31 200Y
Building (5 year life)	$22,500	$22,500
Less: Accumulated Depreciation - Building	$ 2,250	$ 6,750
Net Building	$20,250	$15,750

Therefore, the building would have an estimated value (worth) of $15,750 on December 31, 200Y. The building reduced in value by $4,500 from the previous year. The $4,500 is the depreciation or reduction in value estimated by The Toy Company's accountant.

This concludes our discussion on The Toy Company's fixed assets. Remember that all fixed assets will consist of three lines;

1.    The name and historical cost of the fixed asset

2.    The accumulated deprecation of the fixed asset; and

3.    The NET fixed asset name and its estimated worth

The next balance sheet item to be discussed will be Total Fixed Assets.

Total Fixed Assets
Total Fixed Assets is the sum of all the Net Fixed Assets listed on a company's balance sheet. As indicated below, The Toy Company has Total Fixed Assets on December 31, 200X valued at $26,500.

Fixed Assets:
Office Equipment (2yr life)	$12,500
Less Accumulated Depreciation	$ 6,250
Net office Equipment	$ 6,250
Building (5 year life)	$22,500
Less Accumulated Depreciation	$ 2,250
Net Building	$20,250
Total Fixed Assets	$26,500

As you can see, Total Fixed Assets of $26,500 was arrived at by adding the Net Office Equipment of $6,250 to the Net Building of $20,250. In essence, on December 31, 200X The Toy Company Total Fixed Assets are estimated to be worth $26,500. The next section explains Total Assets.

Total Assets:
Total Assets are the sum of the total current assets and the total fixed assets. Below depicts The Toy Company's current assets and fixed assets as of December 31, 200X.

Total Assets of The TOY Company as of December 31, 200X

Assets:
Current Assets:
Cash	$10,122
Accounts Receivable	$ 5,000
Prepaid Fire Insurance	$ 1,200
Inventory	$12,558
Total Current Assets	$28,880
Fixed Assets:
Office Equipment (2yr life)	$12,500
Less Accumulated Depreciation	$ 6,250
Net office Equipment	$ 6,250
Building (5 year life)	$22,500
Less Accumulated Depreciation	$ 2,250
Net Building	$20,250
Total Fixed Assets	$26,500
TOTAL ASSETS	$55,380

As you can see, The Toy Company has Total Assets on December 31, 200X of $55,380 In other words, The Toy Company's assets on December 31, 200X have an estimated value of $55,380. This concludes the total assets section as well as the Asset Component of the Balance Sheet.  Next we will look at the Third Component of the Balance Sheet, namely Liabilities.

sources : from wikipedia, the free encyclopedia http://www.wikipedia.com/Assets