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Accounting For Managers - Preparation of Final Accounts

Classification Of Items In The Balance Sheet

   Posted On :  26.01.2018 05:21 am

Although each individual asset or liability can be listed separately on the balance sheet, it is more practicable and more informative to summarize and group related items into categories called as account classifications.

The classifications or group headings will vary considerably depending on the size of the business, the form of ownership, the nature of its operations and the users of the financial statements. For e.g. While listing assets, the order of liquidity is generally used by sole traders, partnership firms and banks, whereas joint stock companies by law follow the order of permanence. As a generalization which is subject to many exceptions, the following classification of balance sheet items is suggested as representative: 

Assets

 

Current assets

 

Investments

 

Fixed assets

 

Intangible assets

 

Other assets

 

Liabilities

 

Current liabilities

 

Long term liabilities

 

Owners’ Equity

 

Capital

 

Retained earnings

 

Classification Of Assets

Consumed Current Assets:


Current assets are those which are reasonably expected to be realized in cash or sold or consumed during the normal operating cycle of the business enterprise or within one year, whichever is longer. By operating cycle we mean the average period of time between the purchase of goods or raw materials and the realisation of cash from the sale of goods or the sale of products produced with the help of raw materials. Current assets generally consist of cash, marketable securities, bills receivables, debtors, inventory and prepaid expenses.

 

Cash:

  

Cash consists of funds that are readily available for disbursement. It includes cash kept in the cash chest of the enterprise as also cash deposited on call or current accounts with banks.

Marketable Securities:

 

These consist of investments that are both readily marketable and are expected to be converted into cash within a year. These investments are made with a view to earn some return on cash that otherwise would be temporarily idle.

Accounts Receivable:

 

Accounts receivable consist of amounts owed to the enterprise by its consumers. This represents amounts usually arising out of normal commercial transactions. These amounts are listed in the balance sheet at the amount due less a provision for portion that may not be collected. This provision is called as provision for doubtful debts. Amounts due to the enterprise by someone other than a consumer would appear under the heading `other receivables’ rather than `accounts receivables’. If the amounts due are evidenced by written promises to pay, they are listed as bills receivables. Accounts receivables are expected to be realised in cash.

 

Inventory:


Inventory consists of i) goods that are held in stock for sale in the ordinary course of business, ii) work-in-progress that are to be currently consumed in the production of goods or services to be available for sale. Inventory is expected to be sold either for cash or on credit to customers to be converted into cash. It may be noted in this connection that inventory relates to goods that will be sold in the ordinary course of business. A van offered for sale by a van dealer is inventory. A van used by the dealer to make service calls is not inventory but an item of equipment which is a fixed asset.

Prepaid Expenses: 

These items represent expenses which are usually paid in advance such as rent, taxes, subscriptions and insurance. For e.g. If rent for three months for the building is paid in advance then the business acquires a right to occupy the building for three months. This right to occupy is an asset. Since this right will expire within a fairly short period of time it is a current asset.

  

Long Term Investments:


The distinction between a marketable security shown under current asset and as an investment is entirely based on time factor. Those investments like investments in shares, debentures, bonds etc. That will be retained for more than one year or one operating cycle will appear under this classification.

Fixed Assets:

 

Tangible assets used in the business that are of a permanent or relatively fixed nature are called plant assets or fixed assets. Fixed assets include furniture, equipment, machinery, building and land. Although there is no standard criterion as to the minimum length of life necessary for classification as fixed assets, they must be capable of repeated use and are ordinarily expected to last more than a year. However the asset need not actually be used continuously or even frequently. Items of spare equipments held for use in the event of breakdown of regular equipment or for use only during peak periods of activity are also included in fixed assets.

  

With the passage of time, all fixed assets with the exception of land lose their capacity to render services. Accordingly the cost of such assets should be transferred to the related expense amounts in a systematic manner during their expected useful life. This periodic cost expiration is called depreciation. While showing the fixed assets in the balance sheet the accumulated depreciation as on the date of balance sheet, is deducted from the respective assets.

Intangible Assets:

 

While tangible assets are concrete items which have physical existence such as buildings, machinery etc., intangible assets are those which have no physical existence. They cannot be touched and felt. They derive their value from the right conferred upon their owner by possession. Examples are: goodwill, patents, copyrights and trademarks.

Fictitious Assets:


These items are not assets. Yet they appear in the asset side simply because of a debit balance in a particular account not yet written off

– e.g. Debit balance in current account of partners, profit and loss account, etc.


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