Investment, Coding and Actuary

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Balance Sheet: A review of the B/S

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Most of the information in this post is from:

http://www.fool.com/investing/beginning/how-to-value-stocks-how-to-read-a-balance-sheet.aspx

The balance sheet is a record of a company’s assets and liabilities — in short, what it’s already got or expects to get soon, and what it owes to others.

Shareholder value ultimately comes from liquid assets — assets that can easily be converted into cash. The amount of liquid assets a company can amass ultimately determines its value. Better yet, if a company generates more liquid assets than it needs to fund its operations, it can give the excess back to shareholders in the form of dividends or share buybacks.

There are two ways to measure liquid assets. The first is terminal value — how much the company would return to shareholders if, at some future point, it closed down all its operations and turned everything into cash. The second is tangible shareholder value — the returns on invested capital generated by the company’s operations.

Most investors spend too much time obsessing over a company’s earnings, and too little time studying the balance sheet and its cousin, the statement of cash flows. The balance sheet can tell you whether a company’s got enough money to keep funding growth, or whether it’ll have to take on debt or issue bonds or additional stock to sustain itself. Does a company have too much of its money tied up in inventory? Is the company collecting money from its customers reasonably quickly? The balance sheet knows all.

Current assets:

Cash and equivalents
Very liquid, easy to convert but does not earn much return

Short- and long-term investments
Earn higher returns but take effort to liquidate

Accounts receivable
(“Allowance for bad debt” compensate its loss)
It’s important to compare how quickly accounts receivable grow compared to revenue. If receivables are rising faster than revenue, you know that the company hasn’t yet been paid for many of the sales in that particular quarter.
[Remember I was calculating A/R turnover and days sales outstanding? Will come back to this later]

Inventories
Because of various accounting systems like FIFO (first in, first out) or LIFO (last in, first out), as well as real liquidation compared to accounting value, the balance sheet often overstates inventories’ value.

Prepaid expenses
It means that those bills won’t have to be paid in the future, allowing more of the revenue for that particular quarter to flow to the bottom line and become liquid assets.

Current Liabilities:

Accounts payable
A company has the power to push back the due dates on some of its accounts payable. Paying those debts later than expected can often produce a short-term increase in earnings and current assets.

Accrued expenses
The company has racked up these bills, but not yet paid them. These are normally marketing and distribution expenses that are billed on a set schedule and have not yet come due.

Income tax payable
The income tax a company accrues over the year, but does not have to pay yet, according to various federal, state and local tax schedules.

Short-term notes payable
The company has drawn off this amount from its line of credit from a bank or other financial institution. It needs to be repaid within the next 12 months.

Portion of long-term debt payable
This represents a chunk of a company’s longer-term obligations that may come due in a given year or quarter. That’s why it’s counted as a current liability, even though it’s called “long term.”

Debt and Equity:

Total assets
Total assets are assets that are not liquid but are kept on a company’s books for accounting purposes. They mainly comprise production plants, property, and equipment, and include land, buildings, vehicles, and equipment that a company has bought for the purpose of operating its business. Total assets are subject to an accounting convention called depreciation for tax purposes.

Long-term notes payable
Long-term notes payable or long-term liabilities are loans that are not due for more than a year. Often loans from banks or other financial institutions, these loans are secured by various assets on the balance sheet, such as inventories.

Stockholder’s/shareholders’ equity

Capital stock
Capital stock is the par value of the stock issued that is recorded purely for accounting purposes; it has no real relevance to the actual value of the company’s stock. Capital in excess of stock is another weird and difficult accounting convention. Essentially, it is additional cash a company gets from issuing stock in excess of par value under certain financial conditions.

Retained earnings
Retained earnings is another accounting convention that, basically, is the money a company has earned minus earnings to be paid to shareholders as dividends and stock buybacks; this amount is recorded in the company’s books.

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Author: jam3sch3n

An actuarial student with a keen interest in investment and coding.

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