Accounting balance

“ Only those profit and loss items which are realized or settled in cash are not dependent upon the valuation of related assets, and even here, in so far as cash must under some circumstances be valued, these may be, at least remotely, dependent upon valuation. As, therefore, the balance sheet is primarily an expression of opinion and judgment, rather than a statement of fact, so also in large measure must the profit and loss summary be regarded as an expression of opinion. ”

“ Kinds of Records.—A business must have assets and usually must incur liabilities; a plant must be used, stock-in-trade must be bought, and sold, and usually sufficient capital must be provided for the extension of credit to customers. Capital for the payment of the operating expenses of the business, the maintenance of the plant, the payment of salaries and wages of employees, and so forth must at all times be provided. While it is true that the balance sheet shows the financial condition of the business, it gives little information as to the volume of business operations. ”

“ Organization Expense. The group of expenditures explained in Chapter XXXVIII, as incident to the organization of a corporation, is recorded under the title “Organization Expenses” and is classified for purposes of the balance sheet as an asset. It is a kind of asset, however, which has no [Pg 407] tangible value and most businesses desire to consider it more in the nature of a deferred charge to operations. It is recognized that frequently intangible assets add no strength to the business. ”

“ While it is true that a great deal of valuable information can be secured from a comparative balance sheet, and that this form of balance sheet locates definitely the changes in the asset and liability items, summarizes those changes, and shows the net profit, it nevertheless fails to disclose the forces within the business organization which have brought about the changes—it sets forth effect or result but not cause. ”

“ For the report form, it may be said that this method follows the reasoning of the average business man, particularly the man unacquainted with accounts, who subtracts his liabilities from his assets to find how much his present net worth is. The account form rests on the fundamental desire, deep-rooted in the system of double-entry bookkeeping, to show the two sides in balance. ”

“ Throughout the period, as the profit accrues, the proprietor may have drawn against it for personal use, as shown in his Personal account. To show the amount of profit remaining in the business, the balance of the Profit and Loss account is transferred to the Personal account, the balance of which then gives the amount of undrawn or overdrawn profit. ”

“ In compiling a balance sheet it is not sufficient to give simply the figures of proprietorship or net worth; schedules of assets and liabilities must be drawn up to show the items making up that net worth. From the viewpoint of a prospective investor or purchaser, a banker to whom the business has applied for a loan, or a concern considering the advisability of extending it credit on a bill of goods, it makes all the difference in the world to know that with a net value of $10,000 the business has assets of $15,000 and liabilities of $5,000 ”

“ Such careful regulations as to the content of intangible asset accounts [Pg 330] are not always nor everywhere imposed at the present time. It is not putting the case too strongly to say that the reader of a balance sheet containing items about which practice is not standardized should always be on his guard to assure himself as to the content of such items in order to establish the legitimacy of their use and value. ”

“ As we pointed out in the companion cases, the purpose of depreciation accounting is to allocate the expense of using an asset to the various periods which are benefited by that asset. The declining balance method permits a rapid rate of depreciation in the early years of an asset's life. ”

“ In all problems calling for financial statements, the trial balance should first be tested as to the equality of debits and credits. As stated above, the method of the work sheet is usually the best method for summarizing results, although sometimes skeleton ledger accounts will be found helpful in order to visualize the effect of entries and to trace their course through the accounts. Only painstaking work and the solution of many problems will produce facility and confidence in work of this kind. ”

“ Some efforts have been made, however, to establish a more or less standard form of balance sheet and to secure the use of standard titles in the balance sheet so that wherever found those titles can be relied upon to mean one and only one thing. Because balance sheets are not always drawn up for similar purposes, such regulations should not be too inflexible. The form of any business statement or report should always have regard to the purposes it is to serve. ”

“ The governing principle here is that only current items can be included in this group of assets when shown on the balance sheet. In accounting, as in economics, there is no distinctive scientific terminology. The economist makes use, for the most part, of every-day words and phrases. These are often open to misunderstanding and are sometimes capable of being used even for wilful misrepresentation. Recognition of this fact has made necessary a more careful definition of some terms. In the language of the street, almost any claim against outsiders may be spoken of as an “account receivable.” ”

“ Where ownership is complete and valuation is shown by the consolidated balance sheet method, intercompany accounts and claims are, of course, eliminated and so do not show. In all cases, however, where claims against a subsidiary arise on account of advances, or even of sales, and these must be shown on the balance sheet of the owner of the claims, more than average care must be taken in placing a value on them. In the case of advances, frequently their exact status is not known at the time when made. ”

“ How far this process of condensation should be carried depends largely upon the use to which the balance sheet is to be put. A statement of financial condition to be issued to the public—stockholders and outsiders—can well omit data which would be required for internal use. Care must always be taken in condensed statements to avoid consolidation of detail in such a way as to render the statement misleading. ”

“ Make your assumptions reasonable as to the turnover and the ratios of expenses and profit to sales. Assume a merchandise turnover of 5, and a gross profit of 40% of sales. From these determine roughly the cost of goods sold, the purchases, and the sales figures. Make reasonable provision for bad debts, depreciation, interest, etc., in accordance with the balance sheet requirements. Make the other expense items whatever amounts are necessary to produce the same net profits as is shown by the comparative balance sheet. ”

“ Excepting in the case of corporations, there are few, if any, compulsory regulations governing the frequency of balance sheets. Some of our tax laws have brought about an increasing regularity with regard to the issuance of formal statements, both balance sheet and profit and loss. England, France, and Germany require a formal statement from corporations once a year. In this country, most states require some form of statement but oftentimes the requirement is so indefinite or so inadequately or half-heartedly enforced that the statement submitted is of little value. ”

“ In the matter of classification and arrangement of the items under these main groups there is room for greater diversity both in practice and in theory. The need and purpose of classification and arrangement is obvious. While any statement, list, or schedule which shows assets, liabilities, and net worth may properly be called a balance sheet, only by a careful grouping and formulation of the items can their mutual interrelations and proper dependence be shown. ”

“ Current assets and liabilities are converted at the rates current at the date of the balance sheet because the balance sheet should represent these values at the exact cost of converting them into cash at the present moment. If in practice they were actually liquidated, this could not be realized but in principle it represents the present condition. Revenue items are convertible at the average rate because they represent items accumulating during the entire fiscal period ”

“ Yet it should be borne in mind that its scheme of debit and credit is now an independent one and is not linked up to the debit and credit equilibrium of the general ledger; that is, the postings in the subsidiary ledger are merely memorandum entries of the detail posted in summary form to the general ledger. Thus the mathematical basis of the controlling account is simply that the whole is exactly equal to all its parts, the balance of [Pg 266] the summary account being equal to the total of the balances of all the customers’ accounts of which it is the summary. ”

“ Confusion between Profit and Loss and Balance Sheet Items.—The beginner frequently has trouble in making a proper classification of [Pg 59] income items and sometimes of expense items. Take Interest Income as an example. The asset Cash Received is confused with the title Interest Income, which denotes the source of the cash received. The accounting department maintains both types of records. The receipt of cash arising out of interest income would be classified and recorded under two heads: (1) the asset Cash, to indicate the increase in that asset ”

“ In determining the amount of earnings or profits (whether of the taxable year, or accumulated prior to March 1, 1913) due consideration must be given to the facts, and, while mere bookkeeping entries increasing or decreasing surplus will not be conclusive, the amount of the earnings or profits in any case will be dependent upon the method of accounting properly employed in computing net income. ”

“ Nearly every business with a well-developed accounting system can, at any time, without the formal periodic inventory or closing of its books usual at the end of a fiscal year, determine approximately the amount of its current earnings, the amount accrued since the beginning of its fiscal year, and the part thereof undistributed. ”

“ The habits of accountancy that came on under the price system, as the scope of the market grew larger with the growth and diversification of handicraft, seem to have had a great effect in extending and confirming the habitual acceptance of such a theorem. A strict balance, a running equilibrium of the quantitative items involved, is the central fact of the accountant’s occupation. ”

“ In accounting it is often required to divide amounts in certain ratios, as when profits must be apportioned among partners, when insurance, taxes, and other expense charges must be distributed over departments, etc. ”

“ It would be disruptive of an orderly collection of the revenue to rule that the accounting must be done over again to reflect events occurring after the year for which the accounting is made, and would violate the spirit of the annual accounting system. ”

“ There is always a question as to the real value of the accounts outstanding, a doubt as to the advisability of including the total balances in a statement of assets. A live account—one on which payments are being made regularly—is legitimately considered as good an asset as any other account receivable, but the value of the delinquent account—when payments are past due—is questionable, and if included in a balance sheet, the nature of the asset should be clearly stated. ”

“ With such information to point the way to economies in the future, instead of records that show us merely the amount of an expense already incurred, accounting takes its rightful place as one of the most important functions of a business enterprise. ”

“ In this way, while the purpose of the Profit and Loss account is to summarize the temporary proprietorship accounts, some proprietorship items may be omitted for the sake of making the summary of greater value to the proprietors. Such a method of handling does not conflict with principles previously laid down, but rests upon the general principle that accounting methods and forms must be flexible in order [Pg 316] to conform to the requirements of particular cases; else they fail in fulfilling their full purpose. ”

“ Upon the complete depreciation of the asset, the book value not having been written down in the meantime because no depreciation has been booked for it, the asset must be charged against the reserve, thereby mutually extinguishing each other. No principles of accounting are necessarily violated. ”