Posts Tagged ‘Basics’
Balance Sheet of a Company:
A balance sheet gives the picture of assets and liabilities of the company as on the last minute of 31st March YYYY. So, many times the balance sheet of a company appears better than what it is in real. Sometimes, companies will request all debtors to clear the outstandings just to make a pretty picture by 31st of March. Every balance sheet must contain the previous year’s details too.
Let us first understand the various components in a Balance Sheet of a company.
a). Liabilities or Sources of Funds b). Assets or Application of Funds
Liabilities(H) or Sources of Funds(V)
The Profit at the bottom of the P&L Statement may be put into several Reserves, and will be shown in the Balance Sheet. Let us look into it.
1. Share Capital (Not at the Market Price but the historical price at which it is sold.)
2. Reserves and Surplus: It includes the following – The Reserves of the before year, if present. – The PAT component from the P&L Statement. NOTE: The Reserves and Share Capital come under liabilities because you are liable to pay to the shareholder.
3. Secured and Unsecured Loans
4. Current Liabilities (Dividend to be paid to the shareholders etc…)
Add all the above to form one leg of the Balance Sheet.
Assets(H) or Application of Funds(V)
1. Fixed Assets or Gross Block(historical cost only)
2. Depreciation: The fixed assets may depreciate in value, which is put here. But, the depreciation in Balance Sheet is accumulated every year for the machine, whereas in P&L it is only for that year. Suppose you bought a machine for Rs 5000/- and the depreciation is 10%. Then, in the first year it will show 500 in both P&L and the Balance Sheet, but in the second year P&L will show 500 and the Balance Sheet will show 1000.
NOTE: If Depreciation amount is less, it indicates that the company is fairly young and the due date for replacements is far. If the Depreciation amount is more in the Balance Sheet, it indicates that the company is decently old and the day for replacement is near.
Less: Depreciation (The depreciation should be minused from the Fixed Assets.)
3. Investments: Investments made by the company in other companys’ shares and others. Generally, companies invest in their suppliers companies to have a say in their company. Similarly, companies invest in the subsidiary companies.
4. Current Assets: This is opposite to Fixed Assets. Current Assets are those which will become cash in the near time. For example, semi-finished goods, Bank Balance is a good example of Current Assets. Sometimes, you give advances to your suppliers and these advances also come under Current Assets. Loans which generally include the loans given to the employees come under Current Assets.
Add all the above to form the other leg of the Balance Sheet.
The two legs of a Balance Sheet should be the same, and that is why it is called Balance Sheet because it always balances.
Profit and Loss Account Statement (P&L Statement):
1. Profit = Sales – Costs
2. So, you basically have two entities: Sales and Costs.
The other names used to refer to Sales are: Fees, Income, Sales, Revenue, and Turnover.
The other names used to refer to Costs are: Expenditure.
3. Classification of Costs or Expenditure
Capital Expenditure: Purchase of machinery, property or anything that goes for some period of permanence.
Revenue Expenditure: Expenditure for the day to day running of the business.
Direct Cost: Costs which are directly involved in the production of one’s products.
Indirect Cost: Costs involved in the support processes like adminstration etc…(Also called Overheads.)
Fixed Costs: Rent, Insurance, Salary and other costs which are pretty much fixed.
Variable Costs: overtime wages, petrol, stationery and other costs that are variable.
NOTE: Capital Expenditure will not be shown in P&L Statement because the costs invested are for long term expenses and you will enjoy the fruits for many years. A P&L statement is essentially for the current year, so you will not put it in the P&L Statement. But, this will be shown in the Cash Flows Statement, which will be explained in further blogs.
a. Indirect labor- fixed costs could be variable under certain circumstances
b. Indirect materials- variable costs
c. Insurance on building- fixed costs
d. Overtime premium pay- variable costs
e. Depreciation on building (straight-line)- fixed costs
f. Polishing compounds- variable costs
g. Depreciation on machinary (based on machine hours used)- variable costs
h. Employer’s payroll taxes- variable costs
i. Property taxes- fixed costs
j. Machine lubricants- variable costs
k. Employees’ hospital insurance (paid by employer)- fixed costs
l. Labor for machine repairs- variable costs
m. Vacation pay- variable costs
n. Patent amortization- fixed costs
o. Janitor’s wages- fixed costs
p. Rent- fixed costs
q. Small tools- variable costs
r. Plant manager’s salary- fixed costs
s. Factory electricity- fixed costs
t. Product inspector’s wages- fixed costs
4. Income or Sales is classified as:
Income or Operating Income or Sales Income: Income from the main line of business.
Other Income: Income from the dividends (dividends of the stocks bought by this company from other companies)
Income from sale of assets
For the sick mills of Mumbai, other income is much higher than the income, which indicates things are struggling.
So, let us see what a Profit and Loss Account is:
There are two sections in a Profit and Loss Account: Income and Expenditure (names may change as put above)
Sales/Operating Income: 4350
Other Income: 120
Total Income: 4470
Mfg Cost of Goods Sold: 2400
Gross Profit: 2070
Overheads (Distribution, Selling etc…) 1450
PBDIT (Profit before Depreciation, Interest and Tax): 620 (Also called the Bottom Line, because the costs below this cannot be controlled by the company.)
PBIT: 545 (Generally used to compare two companies.)
Profit before Tax (PBT): 425
Profit After Tax (PAT): 255 (6% of the original)
The Profit After Tax is going to be distributed into Reserves and the remaining amount will be carry forwarded to the Balance Sheet.
If your Gross Profit is huge, but your PAT is very less like above then it shows that the company is a TOP-HEAVY company.
If your Profitability is huge, then it is called CASH COW.
For better understanding you may refer to any companies profit and loss statement. Although you may see some extra components, the essence will be the same. For example, some companies may show Dividend Income seperately from Other Income and some of them may merge both and show as Other Income. Similarly, some may show the salaries seperately and some may not. But, the key points are the bolded ones above.
We will learn more about Balance Sheet in the next blog.