Accounting theory and practice, Volume 2 (of 3) : a textbook for colleges and…

| 1. Capital Stock | 2. Reserves of Profits | 3. Surplus | The content of these groups and any further explanations necessary are treated in the chapters which follow, where the detailed application of principles is discussed. As stated above, the important desideratum is a like arrangement of groups to facilitate comparison and care to secure the proper content of each group. Within the group itself, while the arrangement of the items is not so important, the principle of degree of liquidity should govern here too. Whatever the order of general arrangement of the groups, the same order may well be observed for the items within the group. Report and Account Forms Something should be said with regard to the merits of the two methods of arranging the three main classes of items, i.e., assets, liabilities, and net worth, on the balance sheet. As previously stated, the method known as the report form makes a vertical showing of the classes, while the account form shows the items in parallel columns. The one lists the assets and from their total shows the subtraction of the total liabilities which are in a subjoined list. This difference, representing net worth, is explained in detail as to the portion represented by capital stock, surplus, etc. The account form method lists the assets in one column and the liabilities and net worth in a parallel column, bringing about a balancing of the two columns. 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. It may be looked upon as the technical form and therefore well adapted for publication purposes. It secures also a convenient juxtaposition of groups for purposes of comparison. The one may be regarded as non-technical, easily within the intelligent grasp of the layman; the other as technical and addressed to those trained to read that form of statement. As previously stated, any method of showing which fails to list separately the three distinct classes of assets, liabilities, and net worth is not usually to be justified; a mixture of net worth and liabilities is bad. Omitting detail, the two following type forms meet the conditions laid down above: REPORT FORM OF BALANCE SHEET _Assets_ Current Assets: Cash $........ Receivables ........ Stock-in-Trade ........ $........ -------- Deferred Charges to Operation: (See Schedules) ........ Investment of Reserves: Sinking and Other Funds Permanent Investments: (Held for purposes of control) ........ Fixed Assets: Plant $........ Equipment ........ Good-Will, etc. ........ ........ -------- -------- Total Assets $........ _Liabilities_ Current Liabilities: Notes Payable $........ Trade Creditors ........ Accrued Expenses ........ $........ -------- Deferred Income: (See Schedules) ........ Fixed Liabilities: Bonds $........ Long-Term Notes ........ ........ -------- -------- Total Liabilities ........ -------- $........ _Net Worth_ Represented by: Capital Stock $........ Reserves of Profits ........ Surplus ........ -------- Total Net Worth $........ ======== ACCOUNT FORM OF BALANCE SHEET =================================+============================== | _Assets_ | _Liabilities and Capital_ | Current Assets: | Current Liabilities: Cash $.... | Notes Payable $.... Receivables .... | Trade Creditors .... Stock-in-Trade .... $.... | Accrued Expenses .... $.... ---- | ---- Deferred Charges to Operation: | Deferred Income: (See Schedules) .... | (See Schedules) .... | Fixed Liabilities: Investment of Reserves: | Bonds $.... Sinking and Other Funds .... | Long-Term Notes .... .... | ---- ---- Permanent Investments .... | Total Liabilities $.... Fixed Assets: | Plant $.... | Net Worth represented by: Equipment .... | Capital Stock $.... Good-Will, etc. .... .... | Reserves of Profit .... ----- ----- | Surplus .... .... | ---- | ---- Total Assets $.... | Total Liabilities ==== | and Capital $.... | ==== Valuation Accounts Nothing has been said thus far concerning the showing of valuation accounts on the balance sheet. Two different practices are met with. Sometimes such accounts are listed with the liabilities, and there is a sense in which they may be regarded as liabilities. Rather, however, they should be looked upon as credits to asset accounts, held temporarily in suspense until they can be definitely allocated to their assets. They are offsets to show the _appraised_ values of the various properties. As such, therefore, they are best shown as deductions from their corresponding assets with the appraised value full-extended. This applies to both the debit and the credit valuation accounts. A full discussion of these and other reserves is given in Chapter XXIII. Statutory Requirements as to Frequency of Balance Sheets 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. On the other hand, some classes of financial and public service corporations are required to present full and adequate reports periodically, at least once a year. In the case of national banks five reports are asked for; in the case of savings banks in some states two reports are required. Condensation of Information in the Balance Sheet The relation of the formal balance sheet to the post-closing trial balance needs further consideration. It has been stated that a post-closing trial balance is essentially a balance sheet. As the purpose of the latter is to present a bird’s-eye view of financial conditions, much of the detailed information shown in the post-closing trial balance must be condensed and consolidated with similar items, so that only totals are shown on the balance sheet. Just as the purpose of the ledger is by a process of analysis to secure detailed information for use in the current control of the business, so the balance sheet by losing sight of the detail and by setting forth the fundamental currents of business life and health, provides the data for the larger aspects of control. 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. The English Companies Act of 1862 provided that the “auditors’ report should state whether in their opinion the balance sheet was a ‘full and fair balance sheet’ containing the particulars required by the company’s Articles and ‘properly drawn up so as to exhibit a true and correct view of the company’s affairs.’” This represents the proper attitude for every accountant to assume in the making of statements. This is not meant to require the publication of information which is the private property of the business. The phrase, “full and fair,” must be interpreted to mean sufficiently full, and only so much so that it will be fair to both parties. The company is entitled to withhold legitimate information the publication of which would be detrimental to it, and not to do so would be unfaithful to the proper guardianship and protection of its interests, and this in turn would bring about dissatisfaction with the management and oftentimes ill-feeling among the owners. Use of Supporting Schedules By means of supporting schedules, as illustrated and discussed briefly on pages 411 and 412 of Volume I, it is possible to carry condensation to almost any desired degree and still have available all necessary detail in the accompanying schedules. What items in the balance sheet should be supported by schedules and what should not, must be determined by the conditions peculiar to each case. Here again, the determination rests largely upon the use the statement is to serve. The informational content is therefore largely dependent upon the purpose for which the statement is drawn. Balance sheets may serve any one of the following purposes: