CHAPTER 5

UNDERSTANDING BALANCE SHEETS

LEARNING OUTCOMES

  • Describe the elements of the balance sheet: assets, liabilities, and equity.
  • Describe uses and limitations of the balance sheet in financial analysis.
  • Describe alternative formats of balance sheet presentation.
  • Distinguish between current and noncurrent assets, and current and noncurrent liabilities.
  • Describe different types of assets and liabilities and the measurement bases of each.
  • Describe the components of shareholders’ equity.
  • Analyze balance sheets and statements of changes in equity.
  • Convert balance sheets to common-size balance sheets and interpret the common-size balance sheets.
  • Calculate and interpret liquidity and solvency ratios.

SUMMARY OVERVIEW

  • The balance sheet distinguishes between current and noncurrent assets and between current and noncurrent liabilities unless a presentation based on liquidity provides more relevant and reliable information.
  • The concept of liquidity relates to a company’s ability to pay for its near-term operating needs. With respect to a company overall, liquidity refers to the availability of cash to pay those near-term needs. With respect to a particular asset or liability, liquidity refers to its “nearness to cash.”
  • Some assets and liabilities are measured on the basis of fair value and some are measured at historical cost. Notes to financial statements provide information that is helpful in assessing the comparability of measurement bases across companies.
  • Assets expected to ...

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