Learning Objectives
1. Prepare and analyze the four basic financial
statements. (LO1)
2. Examine the limitations of the Income
Statement as a measure of a firm’s profitability.
(LO2)
3. Examine the limitations of the Balance Sheet
as a measure of the firm’s financial position.
(LO3)
4. Explain the importance of cash flows as
identified in the statement of cash flows. (LO4)
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LO1 and LO3
Balance Sheet
A Balance Sheet (B/S) shows what a firm
owns and how it is financed at a point
in time (ex. December 31)
Assets = Liabilities + Owners’ Equity
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LO1 and LO3
Classifications on the Balance Sheet
Assets: what a business
owns
Current Assets
• e.g. Accounts
receivable, Inventory
• Will be sold or used
up within 1 year
Capital Assets
• e.g. Building,
Equipment
Liabilities: what a business
owes
Current Liabilities
• e.g. Accounts payable
• Due within 1 year
Long-term Liabilities
• Due some time after 1
year
Equity: what the owner(s) have
invested in the business
Shareholders’ Equity
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• Capital stock
• Retained Earnings
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LO1 and LO3
Table 2-4a (private company without IFRS)
KRAMER CORPORATION
Balance Sheet (Statement of Financial Position)
December 31, 2012
Assets
Current assets:
Cash . . . . . . . . . . .
$ 40,000
Marketable securities. . . . .
10,000
Accounts receivable . . . . . . $ 220,000
Less: Allowance for bad debts .
20,000 200,000
Inventory . . . . . . . . .
180,000
Prepaid expenses
. . . . . . .
20,000
Total current assets . . . . .
450,000
Other assets:
Investments . . . . . . . . .
50,000
Capital assets:
Plant and equipment, original cost. .
$1,100,000
Less: Accumulated amortization
600,000
Net plant and equipment . . . .
500,000
Total assets . . . . . . . . .
$1,000,000
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LO1 and LO3
Table 2-4a (private company without IFRS)
Liabilities and Shareholders’ Equity
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Current liabilities:
Accounts payable . . . . .
Notes payable (bank indebtedness)
Accrued expenses . . . . . .
Total current liabilities . .
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
80,000
100,000
30,000
210,000
Long-term liabilities:
Bonds payable, 2020
Total liabilities
.
.
.
.
.
.
.
.
.
.
90,000
300,000
Shareholders’ equity:
Preferred stock, 500 shares . . .
Common stock, 100,000 shares . .
Retained earnings . . . . . . .
Total shareholders’ equity . .
Total liabilities and shareholders’ equity
.
.
.
.
.
.
.
.
. .
.
.
.
.
.
.
.
.
.
.
50,000
350,000
300,000
700,000
$1,000,000
.
.
.
.
.
.
.
.
$
©2012 McGraw-Hill Ryerson Limited
LO1 and LO3
Valuation Based on Balance Sheet
• One number related to a firm’s value on the
balance sheet is net worth or book value,
which is defined as:
• Shareholders’ Equity minus Preferred Stock
• It represents common shareholders’ original
investment plus all earnings reinvested in
the firm so far.
• The relationship between this number and
the firm’s market value is an interesting ratio
Market-to-Book Value Ratio = Market Value/Book Value
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LO3
Table 2-5
Comparison of market value to book
value per share, November 2010
Corporation
Market Value
per Share ($)
Ratio of
Book Value Market Value
per Share ($) to Book Value
AbitibiBowater (ABH)
$0.53
$28.10
0.02
BCE (BCE)
35.08
21.43
1.64
Bank of Montreal (BMO)
59.23
32.38
1.83
Loblaw (L)
41.10
22.71
1.81
MolsonCoors (TAP.A)
48.55
40.85
1.18
Open Text (OTC)
43.35
13.94
3.11
EnCana (ECA)
28.00
23.56
1.19
Source: Company financial reports, TSX website, www.tsx.com
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LO3
Limitations of the Balance Sheet
• Based on past transactions rather than
future forecasts
• May not recognize important economic
changes as they occur
 increase in property values
 new competition
• Variety of accounting policies and methods
are used
 amortization
 inventory valuation
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