Must know for HR....Basic understanding of Business Finance - Part 4

Having understood the broader economic terms i.e. Bank Rate, Recession, GDP, Government Bonds, Quantitative Easing, market capitalization,  and having understood relation amongst  Economy”, “Consumption” and “Investment”, let us now focus on understanding few financial documents that track the flow of money within your company and as they hold most critical numbers of Business, it becomes imperative that we have basic understanding of the terms used in these documents and at the same time get a bit of understanding on co-relation.

Balance Sheet :  Balance sheet may look  complicated but basically it is a simple statement about a business enterprise. In brief it is a cumulative document that lists your company's assets and liabilities. Reviewing the balance sheet gives you a quick handle on the financial strength and capabilities of the business.  It is important that we are well versed with the terms used in Balance Sheet which are as follows :

Assets : The cash, money receivable, land, buildings, merchandise and equipments that a company owns which has money value are assets.

Assets are of 2 types :

• Current Assets : The sum of cash, notes and account receivable minus reserves for bad debts, advances on inventories and any other item that can be converted into cash in a short time, usually less than a year.
• Fixed Assets : Buildings, equipment, land, furniture and fixture, machinery, tools. This is normally calculated less of salvage value and depreciation.

Cash : Is the money you have control of and access to.

Account Receivable : Money that is owed to the company for products or services sold or performed but not yet collected.

Inventory : For a manufacturing firm it is sum of finished merchandize on hand, raw material and material in process.

Liabilities : Everything that a company owes to a creditor. Liabilities are the debts owed by the company to others. Liabilities are accounts such as notes payable (money borrowed by company that will be paid back within one year), account payable (sometimes called trade payables – these are total of money owed by the company to a supplier or vendor for raw material or products or merchandise that is to be used to make goods for sale or to be re-sold as it was received) or accruals (Taxes or wages that are accumulated against current profits but not yet due to be paid. Accrued expenses are the expenses that have been incurred but not paid eg. payroll expense, as sometimes it could be processed and paid in the next month. Accrued revenue – a job that is completed or a long project in pipeline and cash not received for the work done could be good examples).

Liabilities are of 2 types :

• Current Liabilities : The total of all money owed by the Company that will fall due within one year eg. Notes payable 
• Long term liabilities or sometimes known as long term debts are all the obligations such as mortgages (legal paper that pledges property to cover debt), bonds, term loans and any other money that fall due more than one year from the date of statement.

Net Worth : It is the difference between all assets and all liabilities, in other words the owner’s equity.

Salvage value : The estimated price for which a fixed asset can be sold at the end of its useful life.

Depreciation : The estimated decrease in a value of its fixed asset over its useful life.

Share holder’s equity : What the owners (share holders) have left when all the liabilities have been made. It is represented on a balance sheet as the difference between total assets and total liabilities.

Balance sheet limitations : The balance sheet gives incomplete picture of company’s affair as it includes only those items that can be expressed in monitory terms . A balance sheet assumes that the real value of money remains same. Another limitation is that the value shown on the balance sheet for some of the assets/liabilities will never be exact or accurate.

Hope now while you look at the Balance sheet of your company you would be able to make sense out of it, in my next post I will touch upon other such documents which depict the health of the Company. Watch out the space!