Business - Depreciation and Balance Sheets

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Key Terms

  • Working Capital: is the cash that we have available in order to pay for the day to day running cost.
  • Assets: the things that our business owns (e.g., physical resources)
  • Receivables: value of products sold but not yet paid for. Money that the business is owed.
  • Payables: money owed by the business (e.g., to a supplier)
  • Creditors: somebody that we owe money to
  • Debtors: somebody that owes the business money
  • Dividends: the amount of profit we pay to shareholders, as a reward for investing in our company
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Liquidity

  • Liquidity of an asset is how easy it is to turn into cash and spend it
  • An asset is turned into cash by selling it
  • The more liquid the assets, the better the firm will be at paying bills as they can use assets as sources of capital (money)
  • Helps decide how much credit to offer
  • This is why businesses need to factor in depreciation - it gives a true reflection of how much capital the business will receive if we sell the asset today
  • Suppliers are particularly interested in working capital and liquidity 
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Balance Sheets

  • show the short-term financial status of a company (how much the business is worth)
  • by comparing balance sheets, you can see long-term trends
  • identify strengths and weaknesses
  • Gives investors and suppliers an idea of how stable the company is financially
  • help the business set financial targets it wants to achieve in the future
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What's on a Balance Sheet?

  • the value of net current assets includes depreciation - it's what they are worth now, not when you bought them
  • inventories: things the business has spent money on but not yet sold
  • receivables: value of products sold but not yet paid for. Money the business is owed.
  • payable: money owed by the business (e.g., to the supplier)
  • dividends not yet paid to shareholders
  • Net Current Assets: this is the working capital available to the business to pay for day to day spending
  • Share Capital: that comes from the issue of shares
  • Reserves: money put aside by the business for a specific purpose
  • net assets & total equity figures should always balance
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Depreciation

  • A reduction in the value of an asset over time, due in particular to wear and tear.
  • Building depreciation into each year's accounts avoids the fall in value hitting all at once when the business sells the asset.
  • Spreading the cost out over several years is a truer reflection of the situation and allows the business to make comparisons between financial years more easily.
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