Chapter 3 Chapter 3 Financial statements are developed to measure - PDF document

Chapter Focus Chapter Focus Chapter 3 Chapter 3 � Financial statements are developed to measure Financial statements are developed to measure � Financial Statements and Financial Statements and financial performance and assist in the financial performance and assist in the financial planning process. In this chapter we financial planning process. In this chapter we Budgets Budgets learn the basics of balance sheet, income learn the basics of balance sheet, income statement, financial ratios, and budget. statement, financial ratios, and budget. Major Topics Major Topics The Personal Balance Sheet The Personal Balance Sheet � The Balance Sheet The Balance Sheet � Shows assets, liabilities, and net worth (wealth) Shows assets, liabilities, and net worth (wealth) � � � Assets: liquid assets, lifestyle (use) assets, and investment as Assets: liquid assets, lifestyle (use) assets, and investment assets sets � � Assets: Assets: � � Liabilities: current and noncurrent liabilities Liabilities: current and noncurrent liabilities � � Liquid assets: cash or any other asset that can be easily conver Liquid assets: cash or any other asset that can be easily converted to ted to � � Net worth Net worth � cash with no loss in market value. cash with no loss in market value. � The Income Statement The Income Statement � � Lifestyle (use) assets: things with value that help us achieve o Lifestyle (use) assets: things with value that help us achieve our desired ur desired � � Income Income � quality of life, such as a house, a car, furniture, etc. quality of life, such as a house, a car, furniture, etc. � Expenses: inflexible and flexible expenses Expenses: inflexible and flexible expenses � � Investment assets: assets that provide income or increase our ne Investment assets: assets that provide income or increase our net worth t worth � � Contributions to savings Contributions to savings � over time. over time. � Evaluating Past Financial Performance Evaluating Past Financial Performance � � Liabilities Liabilities � � Maintaining adequate liquidity Maintaining adequate liquidity � � Current liabilities: a debt that must be paid within one year. Current liabilities: a debt that must be paid within one year. � � Avoiding excessive amounts of debt Avoiding excessive amounts of debt � � Noncurrent liabilities: Debt obligations beyond one year. Noncurrent liabilities: Debt obligations beyond one year. � � Achieving Goals through Budgeting Achieving Goals through Budgeting � � Net worth= assets Net worth= assets - - liability liability � � Preparing the annual budget Preparing the annual budget � � Monitoring and controlling activities Monitoring and controlling activities � Example: Steeles’ Example: Steeles ’ Assets on 12/31/2006 Assets on 12/31/2006 Example: A Balance Sheet for a College Student on 12/31/2006 Steeles’ ’ liquid assets: liquid assets: � � Steeles Cash $ 240 � � Cash $ 240 Checking Account Checking Account 2,400 2,400 � � Assets Assets Liabilities Liabilities Savings Account Savings Account 5,600 5,600 � � Cash on hand End- -of of- -the the- -month month Cash on hand End 42- 42 -Month CD Month CD 5,000 5,000 � � $30 $30 $231 $231 balance on Visa card balance on Visa card Series EE Bonds Series EE Bonds 3,000 3,000 � � Total Total $ $ 16,240 16,240 � � Balance in checking Balance in checking Car loan Car loan $300 $300 $4,500 $4,500 Steeles’ Steeles ’ lifestyle (use) assets lifestyle (use) assets � � account account Residence Residence $ 205,000 $ 205,000 � � Household Furnishings Household Furnishings 20,000 20,000 Clothing inventory Clothing inventory $200 $200 � � Automobiles and Camper Automobiles and Camper 29,100 29,100 � � Books and school Books and school Jewelry, Clothing, Stamp Coll. Jewelry, Clothing, Stamp Coll. 5,800 5,800 $200 $200 � � supply supply Sporting Equipment Sporting Equipment 600 600 � � Riding Mower Riding Mower 1,000 1,000 Furniture and Furniture and � � $250 $250 � Total Total $ $ 261,500 261,500 � equipment equipment � Steeles Steeles’ ’ investment assets investment assets � Car Car $6,000 $6,000 Common Stocks $ 16,000 � � Common Stocks $ 16,000 Mutual Funds 6,800 � � Mutual Funds 6,800 Total assets Total assets $6,980 $6,980 Total liabilities Total liabilities $4,731 $4,731 Cash Value: Life Insurance Cash Value: Life Insurance 4,000 4,000 � � Cash Value: Retirement Fund Cash Value: Retirement Fund 21,000 21,000 � � Total Total $ $ 47,800 47,800 � � Net Worth = Assets – Liabilities = $6,980-$4,731= $2,249

Balance Sheet for the Steele Balance Sheet for the Steele Steeles’ ’ Liabilities Liabilities Steeles Family Family Current liabilities Current liabilities � Assets Assets � � � � Unpaid Bills Unpaid Bills $ 460 $ 460 � � Liquid Liquid $ $ 16,240 16,240 � � Credit Card Balances Due Credit Card Balances Due 1,720 1,720 � � Lifestyle Lifestyle 261,500 261,500 � � Estimated Taxes Due Estimated Taxes Due 1,750 1,750 � � Investment Investment 47,800 47,800 � � Installment Pmts Due in 1 Year Installment Pmts Due in 1 Year 4,424 4,424 � � Total Total $ $ 325,540 325,540 � � Total Total $ $ 8,354 8,354 � � Liabilities Liabilities � Noncurrent liabilities Noncurrent liabilities � � � Current Current $ $ 8,354 8,354 � � Mortgage Loan Mortgage Loan $ 152,829 $ 152,829 � � Noncurrent Noncurrent 159,795 159,795 � � Installment Pmts after 1 Year Installment Pmts after 1 Year 4,966 4,966 � � Total Total $ $ 168,149 168,149 � � Loan on Life Insurance Policy Loan on Life Insurance Policy 2,000 2,000 � � Total Total $ 159,795 $ 159,795 � � Net Worth = $325,540 Net Worth = $325,540 - - $168,149 = $157,391 $168,149 = $157,391 � The Income Statement The Income Statement Income Income � Shows: Shows: � Income would include Income would include � � � Income: a family Income: a family’ ’s cash income over a given s cash income over a given � Wages and/or salaries Wages and/or salaries � � period of time, usually a year period of time, usually a year � Interest income Interest income � � Expenses: cash expenses for the same period Expenses: cash expenses for the same period � � Dividend income Dividend income � � Savings: the difference between the income and Savings: the difference between the income and � � Capital gains or losses Capital gains or losses � the expenses the expenses � Rental income Rental income � � Also measures financial success: A rising Also measures financial success: A rising � � Other incomes Other incomes � income facilitates goal achievement income facilitates goal achievement Example: Steeles Example: Steeles’ ’ income (Year income (Year Expenses Expenses ending 12/31/2006) ending 12/31/2006) � Wages and salaries Wages and salaries $ $ 75,600 75,600 � Expenses are cash outflows that sustain our Expenses are cash outflows that sustain our � � scale of living scale of living � Interest income Interest income 937 937 � � Inflexible expenses: Hard to control in the short Inflexible expenses: Hard to control in the short � � Dividends Dividends 1,090 1,090 � run, such as car payments, mortgage payment, run, such as car payments, mortgage payment, � Capital gains (losses) Capital gains (losses) 0 0 � utility bills, insurance premiums. utility bills, insurance premiums. � Rental income Rental income 0 0 � Flexible expenses: generally controllable in the Flexible expenses: generally controllable in the � � short run, such as eating out, clothing, gasoline, short run, such as eating out, clothing, gasoline, � Others Others 0 0 � home maintenance. home maintenance. � Total income Total income $ $ 77,627 77,627 �