Intermediate Accounting
Seventeenth Edition
Kieso ● Weygandt ● Warfield
Chapter 5
Balance Sheet and
Statement of Cash Flows
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Learning Objectives
After studying this chapter, you should be able to:
1. Explain the uses, limitations, and content of the
balance sheet.
2. Prepare a classified balance sheet.
3. Explain the purpose, content, and presentation of the
statement of cash flows.
4. Describe additional types of information provided.
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Preview of Chapter 5
Balance Sheet and Statement of Cash Flows
Balance Sheet
• Usefulness
• Limitations
• Classification
Preparation of the Balance Sheet
• Account form
• Report form
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Preview of Chapter 5
Statement of Cash Flows
• Purpose
• Content
• Preparation
• Usefulness
Additional Information
• Notes to the financial statements
• Techniques of disclosure
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Learning Objective 1
Explain the Uses, Limitations, and
Content of the Balance Sheet
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Balance Sheet
Balance Sheet, sometimes referred to as the statement
of financial position:
1. Reports assets, liabilities, and equity at a specific
date.
2. Provides information about resources, obligations to
creditors, and equity in net resources.
3. Helps in predicting amounts, timing, and uncertainty
of future cash flows.
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Balance Sheet
Usefulness of the Balance Sheet
• Computing rates of return
• Evaluating capital structure
• Assess risk and future cash flows
• Analyze the company’s:
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
Liquidity

Solvency

Financial flexibility
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Balance Sheet
Limitations of the Balance Sheet
1. Most assets and liabilities are reported at historical
cost
2. Use of judgments and estimates
3. Many items of financial value are omitted
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Balance Sheet
Classification in the Balance Sheet
Elements of The Balance Sheet
1. Assets. Probable future economic benefits obtained
or controlled by a particular entity as a result of past
transactions or events.
2. Liabilities. Probable future sacrifices of economic
benefits arising from present obligations of a
particular entity to transfer assets or provide services
to other entities in the future as a result of past
transactions or events.
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Classification in the Balance Sheet
Elements of the Balance Sheet
3. Equity. Residual interest in the assets of an entity that
remains after deducting its liabilities. In a business
enterprise, the equity is the ownership interest.
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Classification in the Balance Sheet
Assets
Current assets
Long-term investments
Liabilities and Owners' Equity
Current liabilities
Long-term debt
Property, plant, and equipment
Intangible assets
Other assets
Owners' (stockholders') equity
Blank
Blank
In practice you usually see little departure from these major
subdivisions.
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Classification in the Balance Sheet
Current Assets
Cash and other assets a company expects to convert into
cash, sell, or consume either in one year or in the
operating cycle, whichever is longer.
Item
Basis of Valuation
Cash and cash equivalents
Fair value
Short-term investments
Generally, fair value
Receivables
Estimated amount collectible
Inventories
Lower-of-cost-or-net realizable value/market
Prepaid expenses
Cost
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Current Assets
Cash
• Generally any monies available “on demand”
• Cash equivalents - short-term highly liquid
investments that mature within three months or less
• Restrictions or commitments must be disclosed
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Cash
Balance Sheet Presentation
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Current Assets
Short-Term Investments (Equity Securities)
All equity securities are recorded at fair value with
changes reported in net income unless:
• Accounted for under equity method or
• Not practicable to determine fair value
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Current Assets
Short-Term Investments (Debt Securities)
Three separate classifications for debt securities:
Held-to-maturity: Company has positive intent and ability
to hold to maturity.
Trading: Bought and held primarily for sale in the near
term to generate income on short-term price differences.
Available-for-sale: Not classified as held-to-maturity or
trading securities.
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Short-Term Investments
Balance Sheet Presentation
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Current Assets
Receivables
Major categories of receivables should be shown in the
balance sheet or the related notes.
A company should clearly identify
• Anticipated loss due to uncollectibles
• Amount and nature of any nontrade receivables
• Receivables used as collateral
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Receivables
Balance Sheet Presentation
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Current Assets
Inventories
Disclose
• Basis of valuation

Lower-of-cost-or-net realizable value or

Lower-of-cost-or-market
• Cost flow assumption (e.g., FIFO or LIFO)
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Inventories
Balance Sheet Presentation (Acer)
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Inventories
Balance Sheet Presentation (Weyerhaeuser)
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Current Assets
Prepaid Expenses
Payment of cash, that is recorded as an asset because
service or benefit will be received in the future.
Cash Payment Before Expense Recorded
Prepayments often occur in regard to:
• insurance
• rent
• supplies
• taxes
• advertising
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Prepaid Expenses
Balance Sheet Presentation
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Current Assets
Illustration
BE5.2 Koch Corporation’s adjusted trial balance contained the
following asset accounts at December 31, 2020: Cash $7,000,
Land $40,000, Patents $12,500, Accounts Receivable $90,000,
Prepaid Insurance $5,200, Inventory $30,000, Allowance for
Doubtful Accounts $4,000, and Equity Investments (to be sold
in the next quarter) $11,000.
Prepare the current assets section of the balance sheet, listing
the accounts in proper sequence.
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Current Assets
Illustration
BE5.2 Prepare the current assets section of the balance
sheet, listing the accounts in proper sequence.
Current assets
Cash
Equity investments
Accounts receivable
Less: Allowance for doubtful accounts
Inventory
Prepaid insurance
Total current assets
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$
$90,000
4,000
7,000
11,000
86,000
30,000
5,200
$139,200
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Noncurrent Assets
Long-Term Investments
1. Securities (bonds, common stock, or long-term notes).
2. Tangible fixed assets not currently used in operations
(land held for speculation).
3. Special funds (sinking fund, pension fund, plant
expansion fund, or cash surrender value of life
insurance).
4. Nonconsolidated subsidiaries or affiliated companies.
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Long-Term Investments
Usually presented on balance sheet below “Current
assets,” in a separate section called “Investments.”
• Debt investments classified as available-for-sale are
reported at fair value
• Held-to-maturity debt investments are reported at
amortized cost
• Equity investments are reported at fair value or by
using the equity method
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Long-Term Investments
Balance Sheet Presentation
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Long-Term Investments
Illustration
BE5.3 Included in Outkast Company’s December 31,
2020, trial balance are the following accounts: Prepaid
Rent $5,200, Debt Investments (to be held to maturity
until 2023) $56,000, Unearned Fees $17,000, Land (held
for investment) $39,000, and Notes Receivable (longterm) $42,000.
Prepare the long-term investments section of the balance
sheet.
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Long-Term Investments
Illustration
BE5.3 Prepare the long-term investments section of the
balance sheet.
Long-term investments
Debt investments
Land held for investment
Note receivables (long-term)
Total investments
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$ 56,000
39,000
42,000
$137,000
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Noncurrent Assets
Property, Plant, and Equipment
Tangible, long-lived assets used in the regular operations
of the business.
• Physical property such as land, buildings, machinery,
furniture, tools, and wasting resources (minerals).
• With the exception of land, a company either
depreciates (e.g., buildings) or depletes (e.g., oil
reserves) these assets.
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Property, Plant, and Equipment
Balance Sheet Presentation
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Property, Plant, and Equipment
Illustration
BE5.4 Lowell Company’s December 31, 2020, trial balance
includes the following accounts: Inventory $120,000, Buildings
$207,000, Accumulated Depreciation—Equipment $19,000,
Equipment $190,000, Land (held for investment) $46,000,
Accumulated Depreciation—Buildings $45,000, Land $71,000,
and Timberland $70,000.
Prepare the property, plant, and equipment section of the
balance sheet.
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Property, Plant, and Equipment
Illustration
BE5.4 Prepare the property, plant, and equipment section of
the balance sheet.
Property, plant, and equipment
Land
$ 71,000
Buildings
$207,000
Less: Accumulated depreciation
45,000 162,000
Equipment
190,000
Less: Accumulated depreciation
19,000 171,000
Timberland
70,000
Total property, plant, and equipment
$474,000
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Noncurrent Assets
Intangible Assets
Lack physical substance and are not financial instruments.
• Limited life intangibles amortized
• Indefinite-life intangibles tested for impairment
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Intangible Assets
Balance Sheet Presentation
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Intangible Assets
Illustration
BE5.5 Crane Corporation has the following accounts
included in its December 31, 2020, trial balance: Equity
Investments (to be sold in the next 6 months) $21,000,
Goodwill $150,000, Prepaid Insurance $12,000, Patents
$220,000, and Franchises $130,000.
Prepare the intangible assets section of the balance
sheet.
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Intangible Assets
Illustration
BE5.5 Prepare the intangible assets section of the
balance sheet.
Intangible assets
Goodwill
Patents
Franchises
Total intangible assets
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$150,000
220,000
130,000
$500,000
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Noncurrent Assets
Other Assets
Items vary in practice. Can include
• Long-term prepaid
expenses
• Deferred income taxes
• Prepaid pension cost
• Restricted cash or
securities
• Noncurrent receivables
• Property held for sale
• Assets in special funds
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Classification in the Balance Sheet
Liabilities
Classified as current or long-term.
Current Liabilities
Obligations a company reasonably expects to liquidate
either through the use of current assets or the creation of
other current liabilities.
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Liabilities
Current Liabilities
1. Payables resulting from the acquisition of goods and
services: accounts payable, wages payable, taxes
payable, and so on.
2. Collections received in advance, such as unearned
rent revenue or unearned subscriptions revenue.
3. Other liabilities, such as the portion of long-term
bonds to be paid in the current period or short-term
obligations arising from the purchase of equipment.
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Current Liabilities
Balance Sheet Presentation
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Current Liabilities
Illustration
BE5.8 Included in Adams Company’s December 31, 2020,
trial balance are the following accounts: Accounts Payable
$220,000, Pension Liability $375,000, Discount on Bonds
Payable $29,000, Unearned Rent Revenue $41,000,
Bonds Payable $400,000, Salaries and Wages Payable
$27,000, Interest Payable $12,000, and Income Taxes
Payable $29,000. Prepare the current liabilities section of
the balance sheet.
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Current Liabilities
Illustration
BE5.8 Prepare the current liabilities section of the
balance sheet.
Current liabilities
Accounts payable
Unearned rent revenue
Salaries and wages payable
Interest payable
Income taxes payable
Total
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$220,000
41,000
27,000
12,000
29,000
$329,000
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Liabilities
Long-Term Liabilities
Obligations that a company does not reasonably expect
to liquidate within the normal operating cycle.
Companies classify long-term liabilities that mature
within the current operating cycle as current liabilities if
payment of the obligation requires the use of current
assets.
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Long-Term Liabilities
Three types:
1. Obligations arising from specific financing situations,
such as the issuance of bonds, long-term lease
obligations, and long-term notes payable.
2. Obligations arising from pension obligations and
deferred income tax liabilities.
3. Obligations that depend on the occurrence or nonoccurrence of one or more future events, such as
service or product warranties and other
contingencies.
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Long-Term Liabilities
Balance Sheet Presentation
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Long-Term Liabilities
Illustration
BE5.9 Included in Adams Company’s December 31, 2020,
trial balance are the following accounts: Accounts Payable
$220,000, Pension Liability $375,000, Discount on Bonds
Payable $29,000, Unearned Rent Revenue $41,000,
Bonds Payable $400,000, Salaries and Wages Payable
$27,000, Interest Payable $12,000, and Income Taxes
Payable $29,000. Prepare the long-term liabilities section
of the balance sheet.
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Long-Term Liabilities
Illustration
BE5.9 Prepare the long-term liabilities section of the
balance sheet.
Long-term liabilities
Pension Liability
Bonds payable
Discount on bonds payable
Total
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$375,000
400,000
(29,000)
$746,000
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Classification in the Balance Sheet
Owner’ Equity
Stockholders' Equity Section
1. Capital Stock. Par or stated value of the shares issued.
2. Additional Paid-in Capital. Excess of amounts paid in
over the par or stated value.
3. Retained Earnings. Corporation's undistributed
earnings.
4. Accumulated Other Comprehensive Income.
Aggregate amount of other comprehensive income
items.
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Owners’ Equity
Stockholders' Equity Section
5. Treasury Stock. Generally, the cost of shares
repurchased.
6. Noncontrolling Interest (Minority Interest). Portion of
the equity of subsidiaries not wholly owned by the
reporting company.
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Owners’ Equity
Balance Sheet Presentation (in thousands)
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Owners’ Equity
Illustration
BE5.10 Hawthorn Corporation’s adjusted trial balance
contained the following accounts at December 31, 2020:
Retained Earnings $120,000, Common Stock $750,000, Bonds
Payable $100,000, Paid-in Capital in Excess of Par—Common
Stock $200,000, Goodwill $55,000, Accumulated Other
Comprehensive Loss $150,000, and Noncontrolling Interest
$35,000.
Prepare the stockholders’ equity section of the balance sheet.
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Owners’ Equity
Illustration
BE5.8 Prepare the stockholders’ equity section of the balance
sheet.
Stockholders’ equity
Common stock
Paid-in capital in excess of par
Retained earnings
Accumulated other comprehensive income
Equity attributable to Hawthorn Corporation
Noncontrolling interest
Total stockholders’ equity
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$750,000
200,000 $950,000
120,000
(150,000)
920,000
35,000
$955,000
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Learning Objective 2
Prepare a Classified Balance Sheet
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Preparation of the Balance Sheet
Classified Balance Sheet
• Account form
• Report form
Accounting Trends and Techniques (New York: AICPA)
indicates that all of the 500 companies surveyed use either
the “report form” (484) or the “account form” (16),
sometimes collectively referred to as the “customary form.”
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Report
Form
Assets
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Report
Form
Liabilities
and
Equity
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Learning Objective 3
Explain the Purpose, Content, and
Preparation of the Statement of Cash
Flows
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Purpose of the Statement of Cash Flows
To provide relevant information about the cash receipts
and cash payments of an enterprise during a period.
The statement provides answers to the following
questions:
1. Where did the cash come from?
2. What was the cash used for?
3. What was the change in the cash balance?
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Content of the Statement of Cash Flows
Three different activities:
1. Operating activities involve the cash effects of
transactions that enter into the determination of net
income.
2. Investing activities include making and collecting
loans and acquiring and disposing of investments
and property, plant, and equipment.
3. Financing activities involve liability and owners’
equity items.
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Content of the Statement of Cash Flows
Basic Format of Cash Flow Statement
Statement of Cash Flows
Cash flows from operating activities
Cash flows from investing activities
Cash flows from financing activities
Net increase (decrease) in cash
Cash at beginning of year
Cash at end of year
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$XXX
XXX
XXX
XXX
XXX
$XXX
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Cash Inflows and Outflows
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Preparation of the Statement of Cash
Flows
Sources of Information
Information obtained from several sources:
1. comparative balance sheets,
2. the current income statement, and
3. selected transaction data.
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Preparation of the Statement of Cash
Flows Illustration
On January 1, 2020, in its first year of operations,
Telemarketing Inc. issued 50,000 shares of $1 par value
common stock for $50,000 cash. The company rented its
office space, furniture, and telecommunications equipment
and performed marketing services throughout the first year.
In June 2020, the company purchased land for $15,000. The
following illustration shows the company’s comparative
balance sheets at the beginning and end of 2020.
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Statement of Cash Flows Illustration
Comparative Balance Sheets
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Statement of Cash Flows Illustration
Income Statement
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Preparing the Statement of Cash Flows
Four steps:
1. Determine the net cash provided by (or used in)
operating activities.
2. Determine the net cash provided by (or used in)
investing and financing activities.
3. Determine the change (increase or decrease) in cash
during the period.
4. Reconcile the change in cash with the beginning and
the ending cash balances.
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Cash Provided by Operating Activities
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Statement of
Cash Flows
Next, the company
determines its
investing and
financing activities.
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Statement of Cash Flows
Illustration
BE5.12 Keyser Beverage Company reported the following items in the
most recent year.
Net income
Dividends paid
Increase in accounts receivable
Increase in accounts payable
Purchase of equipment
Depreciation expense
Issue of notes payable
$40,000
5,000
10,000
7,000
8,000
4,000
20,000
Required: Compute net cash provided by operating activities.
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Statement of Cash Flows
Illustration
BE5.12 Compute net cash provided by operating activities.
Operating Activities
Net income
Depreciations expense
Increase in accounts receivable
Increase in accounts payable
Net cash provided by operating activities
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$40,000
4,000
(10,000)
7,000
41,000
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Statement of Cash Flows
Illustration
BE5.12 Keyser Beverage Company reported the following items in the
most recent year.
Net income
Dividends paid
Increase in accounts receivable
Increase in accounts payable
Purchase of equipment
Depreciation expense
Issue of notes payable
$40,000
5,000
10,000
7,000
8,000
4,000
20,000
Required: Compute net change in cash during the year.
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BE5.12 Illustration
Operating Activities
Net income
Depreciation expense
Increase in accounts receivable
Increase in accounts payable
Net cash provided by operating activities
Investing Activities
Purchase of equipment
Financing Activities
Issue notes payable
Dividends paid
Net cash flow from financing activities
Net increase in cash
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$40,000
4,000
(10,000)
7,000
41,000
(8,000)
20,000
(5,000)
15,000
$48,000
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Statement of Cash Flows
Review Question
In preparing a statement of cash flows, which of the
following transactions would be considered an investing
activity?
a. Sale of equipment at book value
b. Sale of merchandise on credit
c. Declaration of a cash dividend
d. Issuance of bonds payable at a discount.
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Statement of Cash Flows
Review Question Answer
In preparing a statement of cash flows, which of the
following transactions would be considered an investing
activity?
a. Sale of equipment at book value
b. Sale of merchandise on credit
c. Declaration of a cash dividend
d. Issuance of bonds payable at a discount.
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Significant Noncash Activities
Significant financing and investing activities that do not
affect cash are reported in either a separate schedule at
the bottom of the statement of cash flows or in the notes.
Examples include:
• Issuance of common stock to purchase assets
• Conversion of bonds into common stock
• Issuance of debt to purchase assets
• Exchanges of long-lived assets
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Comprehensive
Statement of
Cash Flows
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Usefulness of the Statement of Cash
Flows
Without cash, a company will not survive.
Cash flow from Operations:
• High amount – company is able to generate sufficient
cash to pay its bills.
• Low amount - company may have to borrow or issue
equity securities to pay bills.
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Usefulness of the Statement of Cash
Flows
Financial Liquidity
Ratio indicates whether the company can pay off its current
liabilities from internally generated cash flows. A ratio near
1:1 is good.
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Usefulness of the Statement of Cash
Flows
Financial Flexibility
Ratio indicates a company’s ability to repay its liabilities from
net cash provided by operating activities, without having to
liquidate the assets employed in its operations.
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Usefulness of the Statement of Cash
Flows
Free Cash Flow
Free
Cash Flow
The amount of discretionary cash flow a company has that
may be used for purchasing additional investments, retiring its
debt, purchasing treasury stock, or simply adding to its
liquidity.
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Usefulness of the Statement of Cash
Flows
Free Cash Flow Computation
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Learning Objective 4
Describe Additional Types of
Information Provided
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Additional Information
Notes to the Financial Statements
• An integral part of reporting financial statement
information
• Explain in qualitative terms information related to
specific financial statement items
• Provide supplemental data of a quantitative nature to
expand information in financial statements
• Explain restrictions imposed by financial
arrangements or basic contractual agreements
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Notes to the Financial Statements
Accounting Policies
• Specific principles, bases, conventions, rules, and
practices applied in financial information
• GAAP recommends disclosure for all significant
accounting principles and methods
• For instance, LIFO and FIFO, double-declining-balance
and straight-line, carrying investments at amortized
cost, equity, and fair value
• First footnote generally “Summary of Significant
Accounting Policies”
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Notes to the Financial Statements
Contractual Situations
• Disclose in the notes, if significant
• Must clearly state essential provisions of lease
contracts, pension obligations, and stock
compensation plans in the notes
• Must disclose the following commitments if amounts
are material: obligations to maintain working capital,
to limit the payment of dividends, to restrict the use
of assets, and to require the maintenance of certain
financial ratios
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Notes to the Financial Statements
Contingencies
• Existing situation involving uncertainty as to possible
gain (gain contingency) or loss (loss contingency)
• Are material events with an uncertain future
• Gain contingencies include tax operating–loss
carryforwards or company litigation against another
party
• Loss contingencies relate to litigation, environmental
issues, possible tax assessments, or government
investigations
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Notes to the Financial Statements
Fair Values
• Fair value information may be more useful than
historical cost for certain assets and liabilities
• Financial instruments are defined as cash, an
ownership interest, or a contractual right to receive
or obligation to deliver cash or another financial
instrument
• Cash, investments, accounts receivable, and payables
are examples of financial instruments
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Notes to the Financial Statements
Three Levels of Fair Value Hierarchy
• Level 1 measures (least subjective) are based on
observable inputs, such as market prices for identical
assets or liabilities
• Level 2 measures (more subjective) are based on
market-based inputs such as those based on market
prices for similar assets or liabilities
• Level 3 measures (most subjective) are based on
unobservable inputs, such as a company’s own data
or assumptions.
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Notes to the Financial Statements
Fair Values
For major groups of assets and liabilities, companies must
make the following fair value disclosures:
1. the fair value measurement and
2. the fair value hierarchy level of the measurements
as a whole, classified by Level 1, 2, or 3.
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Techniques of Disclosure
• Parenthetical Explanations
• Cross-Reference and Contra Items
• Supporting Schedules
• Terminology
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Techniques of Disclosure
Parenthetical Explanations
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Techniques of Disclosure
Cross-Referencing and Contra Items
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Techniques of Disclosure
Supporting Schedules
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Techniques of Disclosure
Terminology
• Balance sheets should contain descriptions that
readers will generally understand and clearly
interpret
• Profession has recommended that
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
companies use the word reserve only to describe
an appropriation of retained earnings

use of the word surplus be discontinued in
balance sheet presentations of stockholders’
equity
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Learning Objective 5
Identify the Major Types of Financial
Ratios and What They Measure
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Appendix 5A: Ratio Analysis — A
Reference
Major Types of Ratios
Liquidity Ratios. Measures of the company's short-term ability to
pay its maturing obligations.
Activity Ratios. Measures of how effectively the company uses its
assets.
Profitability Ratios. Measures of the degree of success or failure of
a given company or division for a given period of time.
Coverage Ratios. Measures of the degree of protection for longterm creditors and investors.
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Appendix 5A: Ratio Analysis — A
Reference (Liquidity and Activity)
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Appendix 5A: Ratio Analysis — A
Reference (Profitability)
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Appendix 5A: Ratio Analysis — A
Reference (Coverage)
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Learning Objective 6
Compare the Accounting Procedure
Related to the Balance Sheet Under
GAAP and IFRS
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IFRS Insights
Relevant Facts - Similarities
• Both IFRS and GAAP allow the use of title “balance sheet” or “statement of
financial position.” IFRS recommends but does not require the use of the title
“statement of financial position” rather than balance sheet.
• Both IFRS and GAAP require disclosures about (1) accounting policies
followed, (2) judgments that management has made in the process of
applying the entity’s accounting policies, and (3) the key assumptions and
estimation uncertainty that could result in a material adjustment to the
carrying amounts of assets and liabilities within the next financial year.
Comparative prior period information must be presented and financial
statements must be prepared annually.
• IFRS and GAAP require presentation of non-controlling interests in the equity
section of the balance sheet.
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IFRS Insights
Relevant Facts - Differences
• IFRS requires a classified statement of financial position except in very limited
situations. IFRS follows the same guidelines as this textbook for distinguishing
between current and noncurrent assets and liabilities. However under GAAP,
public companies must follow SEC regulations, which require specific line
items.
• Under IFRS, current assets are usually listed in the reverse order of liquidity.
For example, under GAAP cash is listed first, but under IFRS it is listed last.
• IFRS has many differences in terminology. For example in the equity section
common stock is called share capital—ordinary.
• Use of the term “reserve” is discouraged in GAAP, but there is no such
prohibition in IFRS.
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IFRS Insights
On The Horizon
The FASB and the IASB are working on a project to converge their standards
related to financial statement presentation. A key feature of the proposed
framework is that each of the statements will be organized, in the same format,
to separate an entity’s financing activities from its operating and investing
activities and, further, to separate financing activities into transactions with
owners and creditors. Thus, the same classifications used in the statement of
financial position would also be used in the statement of comprehensive income
and the statement of cash flows. The project is currently on hold. You can follow
the joint financial presentation project at the following link: www.fasb.org
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Copyright
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or from the use of the information contained herein.
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