Stocks

Stocks, dollar and oil

  

Stocks, dollar and oil

April 2016

Stocks, dollar and oil cool ahead of Doha meeting

LONDON (Reuters) - Reassuring Chinese GDP data helped stocks, commodity markets and the dollar consolidate strong weekly gains on Friday, as the focus turned to a meeting of top oil producers about a potential output freeze.

Moves in most markets were small in Europe but urges to lock in some profit was beginning to kick in after a 2.5 percent weekly rally in world shares , a strong run by the dollar and an 11 percent surge in oil prices this month.

European shares (.FTEU3) edged down 0.4 percent as traders top-sliced some the 3.5 percent gains they have made this week with Wall Street's main markets (ESc1) expected to drop slightly from 4-month highs when they reopen later.

The dollar (.DXY) had eased off the pedal too, having made more than 1 percent against both the yen (JPY=) and the euro (EUR=) this week, something of a turnaround after a weak start to the year. (FRX/)

Traders were waiting for IMF and G20 meetings in Washington later for signs from financial leaders on the next stages of their efforts to drag most of the developed world out of a debilitating cycle of debt and very low inflation.

Speculation was also still circling about whether top oil producers led by Saudi Arabia and Russia will be able to hammer a deal in Doha, Qatar on Sunday to curb output which is currently churning out around 2 million barrels of excess oil a day.

"This week we had some interesting movements especially in euro/dollar and dollar/yen and a widespread rebound in market sentiment," said Rabobank economist Philip Marey, adding that Thursday's surprise move by Singapore's central bank to ease policy had fuelled hopes of another round of global stimulus.

Data from China overnight had drawn approval as it showed the country's giant economy grew at 6.7 percent in the first quarter year-on-year, bolstering hopes its slowdown may be bottoming out. (ECONCN)

The major currencies seen as most dependent on China were the main gainers. The Australian (AUD=) and New Zealand dollars (NZD=) rose 0.3 and 0.9 percent respectively, also helped by sizable week's gains in key metals like copper. (CMCU3)

In a sign of re-emerging risk appetite, the Baltic Dry index (.BADI) which reflects global shipping and trade and seen as somewhat of a bellwether of the global economy, was on course for a ninth straight weekly rise, its best run since 2003.

"Chinese economic data is showing signs of stabilisation, including recent PMI numbers, as well as the latest figures on industrial production and retail sales," said Suan Teck Kin, economist at the United Overseas Bank in Singapore.

NEVER-ENDING STORY

Nerves about Greece's finances were also resurfacing amid signs that its bailout programme may be showing cracks again.

Greek bond yields were set to record their biggest weekly rise in two months as investors start to fret about delays to Athens' bailout package and over the extent to which the IMF will participate in a new deal. [GVD/EUR]

The head of IMF, Christine Lagarde had reiterated on Thursday the euro zone needed to write off some of Athens' debt and rework plans to get the country back on track.

"We will not walk away," Lagarde said during a question-and-answer session. "Our form of participation may vary depending on the commitments of Greece and the undertaking of the European partners, but we will not walk away."

Japan's Nikkei (.N225), one of the biggest losers of 2016 so far, closed 6.5 percent higher for the week following the drop back in the yen.

MSCI's broadest index of Asia-Pacific shares outside Japan crept up 0.1 percent. That index has gained about 3.6 percent on the week during which it hit a five-month high, helped by a slight thaw in pessimism over the Chinese economy and an earlier surge in crude oil prices.

It is part of a global rise. Both the MSCI All World index and the S&P 500 (.SPX) have hit their highest points of the year this week and Emerging Market stocks have racked up their best gain in a month this week.

With oil traders waiting cautiously for the Doha oil producer meeting, U.S. crude oil (CLc1) dropped back below $41 (28 pounds) a barrel, while Brent sagged to $42.85 a barrel (LCOc1).

The strong week for risk assets meant safe-haven gold was on course for a weekly loss, while sterling, which has been buffeted by UK Brexit vote uncertainty all year, was on course for a small weekly rise at $1.4190 (GBP=D4).

It had been dampened on Thursday after Bank of England policymakers voted unanimously to keep interest rates at a record low of 0.5 percent.

Stocks, dollar and oil

  

Stocks, dollar and oil

April 2016

Stocks, dollar and oil cool ahead of Doha meeting

LONDON (Reuters) - Reassuring Chinese GDP data helped stocks, commodity markets and the dollar consolidate strong weekly gains on Friday, as the focus turned to a meeting of top oil producers about a potential output freeze.

Moves in most markets were small in Europe but urges to lock in some profit was beginning to kick in after a 2.5 percent weekly rally in world shares , a strong run by the dollar and an 11 percent surge in oil prices this month.

European shares (.FTEU3) edged down 0.4 percent as traders top-sliced some the 3.5 percent gains they have made this week with Wall Street's main markets (ESc1) expected to drop slightly from 4-month highs when they reopen later.

The dollar (.DXY) had eased off the pedal too, having made more than 1 percent against both the yen (JPY=) and the euro (EUR=) this week, something of a turnaround after a weak start to the year. (FRX/)

Traders were waiting for IMF and G20 meetings in Washington later for signs from financial leaders on the next stages of their efforts to drag most of the developed world out of a debilitating cycle of debt and very low inflation.

Speculation was also still circling about whether top oil producers led by Saudi Arabia and Russia will be able to hammer a deal in Doha, Qatar on Sunday to curb output which is currently churning out around 2 million barrels of excess oil a day.

"This week we had some interesting movements especially in euro/dollar and dollar/yen and a widespread rebound in market sentiment," said Rabobank economist Philip Marey, adding that Thursday's surprise move by Singapore's central bank to ease policy had fuelled hopes of another round of global stimulus.

Data from China overnight had drawn approval as it showed the country's giant economy grew at 6.7 percent in the first quarter year-on-year, bolstering hopes its slowdown may be bottoming out. (ECONCN)

The major currencies seen as most dependent on China were the main gainers. The Australian (AUD=) and New Zealand dollars (NZD=) rose 0.3 and 0.9 percent respectively, also helped by sizable week's gains in key metals like copper. (CMCU3)

In a sign of re-emerging risk appetite, the Baltic Dry index (.BADI) which reflects global shipping and trade and seen as somewhat of a bellwether of the global economy, was on course for a ninth straight weekly rise, its best run since 2003.

"Chinese economic data is showing signs of stabilisation, including recent PMI numbers, as well as the latest figures on industrial production and retail sales," said Suan Teck Kin, economist at the United Overseas Bank in Singapore.

NEVER-ENDING STORY

Nerves about Greece's finances were also resurfacing amid signs that its bailout programme may be showing cracks again.

Greek bond yields were set to record their biggest weekly rise in two months as investors start to fret about delays to Athens' bailout package and over the extent to which the IMF will participate in a new deal. [GVD/EUR]

The head of IMF, Christine Lagarde had reiterated on Thursday the euro zone needed to write off some of Athens' debt and rework plans to get the country back on track.

"We will not walk away," Lagarde said during a question-and-answer session. "Our form of participation may vary depending on the commitments of Greece and the undertaking of the European partners, but we will not walk away."

Japan's Nikkei (.N225), one of the biggest losers of 2016 so far, closed 6.5 percent higher for the week following the drop back in the yen.

MSCI's broadest index of Asia-Pacific shares outside Japan crept up 0.1 percent. That index has gained about 3.6 percent on the week during which it hit a five-month high, helped by a slight thaw in pessimism over the Chinese economy and an earlier surge in crude oil prices.

It is part of a global rise. Both the MSCI All World index and the S&P 500 (.SPX) have hit their highest points of the year this week and Emerging Market stocks have racked up their best gain in a month this week.

With oil traders waiting cautiously for the Doha oil producer meeting, U.S. crude oil (CLc1) dropped back below $41 (28 pounds) a barrel, while Brent sagged to $42.85 a barrel (LCOc1).

The strong week for risk assets meant safe-haven gold was on course for a weekly loss, while sterling, which has been buffeted by UK Brexit vote uncertainty all year, was on course for a small weekly rise at $1.4190 (GBP=D4).

It had been dampened on Thursday after Bank of England policymakers voted unanimously to keep interest rates at a record low of 0.5 percent.

==

==

MANAGERIAL ACCOUNTING

MANAGERIAL ACCOUNTING

MANAGERIAL ACCOUNTING

FINANCIAL VS. MANAGERIAL ACCOUNTING

Accounting information is usually divided into two types: 1) financial and 2) managerial. Financial information (i.e. balance sheet and income statement) is prepared periodically, and is primarily intended for outsiders of the firm. Financial information is also useful to management in directing the current operations of a business and planning. Managerial accounting provides additional both historical and estimated data, which is intend specifically for management to run current operations and to plan for the future. The information generated is far more extensive than in financial accounting, and the reports are based on management's needs.

THE MANAGEMENT PROCESS

Managerial accounting gives management the information to perform the functions of control and planning. The control function is concerned with the process of directing the operations of an enterprise to achieve its goals. Planning is concerned with developing and setting goals for the use of company resources and formulating methods to achieve these goals. Control and planning decisions are the responsibility of management. The controller of a company gives advice but assumes no responsibility for managerial decisions. Results of management decisions are continuously compared to the goals, and the goals themselves are periodically revised.

INTRODUCTION TO RESPONSIBILITY ACCOUNTING

When all major planning and operating decisions are made by one or a few individuals of a business, it is considered to be a centralized organization. The larger a business becomes, the more difficult it is to remain centralized. When an organization becomes decentralized, it is divided into separate units. Each of these units is delegated responsibilities for planning and control. Managers are not required to seek approval from upper management for normal operating decision. The level of decentralization varies greatly among companies because each one has specific and unique circumstances. Managerial accountants assist managers of decentralized organizations.

DECENTRALIZED OPERATIONS

Decentralized operations are usually classified according to the scope of responsibility assigned and the decision making authority delegated to managers. The three types of decentralized operations are: 1) cost center, 2) profit center, and 3) investment center.

COST CENTERS

A budget is the tool used for planning and controlling costs. It represents a written statement of management's plans for the future in financial terms. Budget performance reports are prepared to compare actual results with budgeted figures. It is the management's responsibility to investigate variances, determine their cause, and suggest improvements. Often there are good explanations for these variances, and variances do not necessarily reflect poor management.

PROFIT CENTERS

Managers of profit centers are responsible for expenses and revenues. The income statement is usually the report used to evaluate performance. Income statements for profit centers can emphasize either gross profit or operating income, in addition to showing revenues and expenses of that department. Difficulties arise when expenses are apportioned among departments. Some expenses (period costs and indirect costs) reported on departmental income statements are assigned based on subjective criteria, and the method of allocation is often questionable. Direct costs are under the direct control of the department. Indirect costs are company wide and are referred to as overhead.

INVESTMENT CENTERS

Investment center managers are responsible for revenues, expenses, and invested assets. Results can be measured by evaluating operating income, rate of return on investment, and residual income. Because operating income only represents revenues and expenses with no consideration for the amount of invested assets, it does not portray a clear picture of profitability. The rate of return on investment and residual income offer more informative approaches.

MANAGERIAL ACCOUNTING

MANAGERIAL ACCOUNTING

FINANCIAL VS. MANAGERIAL ACCOUNTING

Accounting information is usually divided into two types: 1) financial and 2) managerial. Financial information (i.e. balance sheet and income statement) is prepared periodically, and is primarily intended for outsiders of the firm. Financial information is also useful to management in directing the current operations of a business and planning. Managerial accounting provides additional both historical and estimated data, which is intend specifically for management to run current operations and to plan for the future. The information generated is far more extensive than in financial accounting, and the reports are based on management's needs.

THE MANAGEMENT PROCESS

Managerial accounting gives management the information to perform the functions of control and planning. The control function is concerned with the process of directing the operations of an enterprise to achieve its goals. Planning is concerned with developing and setting goals for the use of company resources and formulating methods to achieve these goals. Control and planning decisions are the responsibility of management. The controller of a company gives advice but assumes no responsibility for managerial decisions. Results of management decisions are continuously compared to the goals, and the goals themselves are periodically revised.

INTRODUCTION TO RESPONSIBILITY ACCOUNTING

When all major planning and operating decisions are made by one or a few individuals of a business, it is considered to be a centralized organization. The larger a business becomes, the more difficult it is to remain centralized. When an organization becomes decentralized, it is divided into separate units. Each of these units is delegated responsibilities for planning and control. Managers are not required to seek approval from upper management for normal operating decision. The level of decentralization varies greatly among companies because each one has specific and unique circumstances. Managerial accountants assist managers of decentralized organizations.

DECENTRALIZED OPERATIONS

Decentralized operations are usually classified according to the scope of responsibility assigned and the decision making authority delegated to managers. The three types of decentralized operations are: 1) cost center, 2) profit center, and 3) investment center.

COST CENTERS

A budget is the tool used for planning and controlling costs. It represents a written statement of management's plans for the future in financial terms. Budget performance reports are prepared to compare actual results with budgeted figures. It is the management's responsibility to investigate variances, determine their cause, and suggest improvements. Often there are good explanations for these variances, and variances do not necessarily reflect poor management.

PROFIT CENTERS

Managers of profit centers are responsible for expenses and revenues. The income statement is usually the report used to evaluate performance. Income statements for profit centers can emphasize either gross profit or operating income, in addition to showing revenues and expenses of that department. Difficulties arise when expenses are apportioned among departments. Some expenses (period costs and indirect costs) reported on departmental income statements are assigned based on subjective criteria, and the method of allocation is often questionable. Direct costs are under the direct control of the department. Indirect costs are company wide and are referred to as overhead.

INVESTMENT CENTERS

Investment center managers are responsible for revenues, expenses, and invested assets. Results can be measured by evaluating operating income, rate of return on investment, and residual income. Because operating income only represents revenues and expenses with no consideration for the amount of invested assets, it does not portray a clear picture of profitability. The rate of return on investment and residual income offer more informative approaches.

Balance Sheet

 Balance Sheet

 Balance Sheet

Introduction to Balance Sheet

The accounting balance sheet is one of the major financial statements used by accountants and business owners. (The other major financial statements are the income statement, statement of cash flows, and statement of stockholders' equity) The balance sheet is also referred to as the statement of financial position.

The balance sheet presents a company's financial position at the end of a specified date. Some describe the balance sheet as a "snapshot" of the company's financial position at a point (a moment or an instant) in time. For example, the amounts reported on a balance sheet dated December 31, 2015 reflect that instant when all the transactions through December 31 have been recorded.

Because the balance sheet informs the reader of a company's financial position as of one moment in time, it allows someone—like a creditor—to see what a company owns as well as what it owes to other parties as of the date indicated in the heading. This is valuable information to the banker who wants to determine whether or not a company qualifies for additional credit or loans. Others who would be interested in the balance sheet include current investors, potential investors, company management, suppliers, some customers, competitors, government agencies, and labor unions.

In Part 1 we will explain the components of the balance sheet and in Part 2 we will present a sample balance sheet. If you are interested in balance sheet analysis, that is included in the

------

We will begin our explanation of the accounting balance sheet with its major components, elements, or major categories:

Assets

Liabilities

Owner's (Stockholders') Equity

----

Assets

Assets are things that the company owns. They are the resources of the company that have been acquired through transactions, and have future economic value that can be measured and expressed in dollars. Assets also include costs paid in advance that have not yet expired, such as prepaid advertising, prepaid insurance, prepaid legal fees, and prepaid rent. (For a discussion of prepaid expenses go to

Examples of asset accounts that are reported on a company's balance sheet include:

Cash

Petty Cash

Temporary Investments

Accounts Receivable

Inventory

Supplies

Prepaid Insurance

Land

Land Improvements

Buildings

Equipment

Goodwill

Bond Issue Costs

Etc.

Usually asset accounts will have debit balances.

Contra assets are asset accounts with credit balances. (A credit balance in an asset account is contrary—or contra—to an asset account's usual debit balance.) Examples of contra asset accounts include:

Allowance for Doubtful Accounts

Accumulated Depreciation-Land Improvements

Accumulated Depreciation-Buildings

Accumulated Depreciation-Equipment

Accumulated Depletion

Etc.

Classifications Of Assets On The Balance Sheet

Accountants usually prepare classified balance sheets. "Classified" means that the balance sheet accounts are presented in distinct groupings, categories, or classifications. The asset classifications and their order of appearance on the balance sheet are:

Current Assets

Investments

Property, Plant, and Equipment

Intangible Assets

Other Assets

An outline of a balance sheet using the balance sheet classifications is shown here:

05X-table-01

To see how various asset accounts are placed within these classifications, view the sample balance sheet in Part 4.

Effect of Cost Principle and Monetary Unit Assumption

The amounts reported in the asset accounts and on the balance sheet reflect actual costs recorded at the time of a transaction. For example, let's say a company acquires 40 acres of land in the year 1950 at a cost of $20,000. Then, in 1990, it pays $400,000 for an adjacent 40-acre parcel. The company's Land account will show a balance of $420,000 ($20,000 for the first parcel plus $400,000 for the second parcel.). This account balance of $420,000 will appear on today's balance sheet even though these parcels of land have appreciated to a current market value of $3,000,000.

There are two guidelines that oblige the accountant to report $420,000 on the balance sheet rather than the current market value of $3,000,000: (1) the cost principle directs the accountant to report the company's assets at their original historical cost, and (2) the monetary unit assumption directs the accountant to presume the U.S. dollar is stable over time—it is not affected by inflation or deflation. In effect, the accountant is assuming that a 1950 dollar, a 1990 dollar, and a 2015 dollar all have the same purchasing power.

The cost principle and monetary unit assumption may also mean that some very valuable resources will not be reported on the balance sheet. A company's team of brilliant scientists will not be listed as an asset on the company's balance sheet, because (a) the company did not purchase the team in a transaction (cost principle) and (b) it's impossible for accountants to know how to put a dollar value on the team (monetary unit assumption).

Coca-Cola's logo, Nike's logo, and the trade names for most consumer products companies are likely to be their most valuable assets. If those names and logos were developed internally, it is reasonable that they will not appear on the company balance sheet. If, however, a company should purchase a product name and logo from another company, that cost will appear as an asset on the balance sheet of the acquiring company.

Remember, accounting principles and guidelines place some limitations on what is reported as an asset on the company's balance sheet.

Effect of Conservatism

While the cost principle and monetary unit assumption generally prevent assets from being reported on the balance sheet at an amount greater than cost, conservatism will result in some assets being reported at less than cost. For example, assume the cost of a company's inventory was $30,000, but now the current cost of the same items in inventory has dropped to $27,000. The conservatism guideline instructs the company to report Inventory on its balance sheet at $27,000. The $3,000 difference is reported immediately as a loss on the company's income statement.

Effect of Matching Principle

The matching principle will also cause certain assets to be reported on the accounting balance sheet at less than cost. For example, if a company has Accounts Receivable of $50,000 but anticipates that it will collect only $48,500 due to some customers' financial problems, the company will report a credit balance of $1,500 in the contra asset account Allowance for Doubtful Accounts. The combination of the asset Accounts Receivable with a debit balance of $50,000 and the contra asset Allowance for Doubtful Accounts with a credit balance will mean that the balance sheet will report the net amount of $48,500. The income statement will report the $1,500 adjustment as Bad Debts Expense.

The matching principle also requires that the cost of buildings and equipment be depreciated over their useful lives. This means that over time the cost of these assets will be moved from the balance sheet to Depreciation Expense on the income statement. As time goes on, the amounts reported on the balance sheet for these long-term assets will be reduced. (For a further discussion on depreciation, go to

 Balance Sheet

 Balance Sheet

Introduction to Balance Sheet

The accounting balance sheet is one of the major financial statements used by accountants and business owners. (The other major financial statements are the income statement, statement of cash flows, and statement of stockholders' equity) The balance sheet is also referred to as the statement of financial position.

The balance sheet presents a company's financial position at the end of a specified date. Some describe the balance sheet as a "snapshot" of the company's financial position at a point (a moment or an instant) in time. For example, the amounts reported on a balance sheet dated December 31, 2015 reflect that instant when all the transactions through December 31 have been recorded.

Because the balance sheet informs the reader of a company's financial position as of one moment in time, it allows someone—like a creditor—to see what a company owns as well as what it owes to other parties as of the date indicated in the heading. This is valuable information to the banker who wants to determine whether or not a company qualifies for additional credit or loans. Others who would be interested in the balance sheet include current investors, potential investors, company management, suppliers, some customers, competitors, government agencies, and labor unions.

In Part 1 we will explain the components of the balance sheet and in Part 2 we will present a sample balance sheet. If you are interested in balance sheet analysis, that is included in the

------

We will begin our explanation of the accounting balance sheet with its major components, elements, or major categories:

Assets

Liabilities

Owner's (Stockholders') Equity

----

Assets

Assets are things that the company owns. They are the resources of the company that have been acquired through transactions, and have future economic value that can be measured and expressed in dollars. Assets also include costs paid in advance that have not yet expired, such as prepaid advertising, prepaid insurance, prepaid legal fees, and prepaid rent. (For a discussion of prepaid expenses go to

Examples of asset accounts that are reported on a company's balance sheet include:

Cash

Petty Cash

Temporary Investments

Accounts Receivable

Inventory

Supplies

Prepaid Insurance

Land

Land Improvements

Buildings

Equipment

Goodwill

Bond Issue Costs

Etc.

Usually asset accounts will have debit balances.

Contra assets are asset accounts with credit balances. (A credit balance in an asset account is contrary—or contra—to an asset account's usual debit balance.) Examples of contra asset accounts include:

Allowance for Doubtful Accounts

Accumulated Depreciation-Land Improvements

Accumulated Depreciation-Buildings

Accumulated Depreciation-Equipment

Accumulated Depletion

Etc.

Classifications Of Assets On The Balance Sheet

Accountants usually prepare classified balance sheets. "Classified" means that the balance sheet accounts are presented in distinct groupings, categories, or classifications. The asset classifications and their order of appearance on the balance sheet are:

Current Assets

Investments

Property, Plant, and Equipment

Intangible Assets

Other Assets

An outline of a balance sheet using the balance sheet classifications is shown here:

05X-table-01

To see how various asset accounts are placed within these classifications, view the sample balance sheet in Part 4.

Effect of Cost Principle and Monetary Unit Assumption

The amounts reported in the asset accounts and on the balance sheet reflect actual costs recorded at the time of a transaction. For example, let's say a company acquires 40 acres of land in the year 1950 at a cost of $20,000. Then, in 1990, it pays $400,000 for an adjacent 40-acre parcel. The company's Land account will show a balance of $420,000 ($20,000 for the first parcel plus $400,000 for the second parcel.). This account balance of $420,000 will appear on today's balance sheet even though these parcels of land have appreciated to a current market value of $3,000,000.

There are two guidelines that oblige the accountant to report $420,000 on the balance sheet rather than the current market value of $3,000,000: (1) the cost principle directs the accountant to report the company's assets at their original historical cost, and (2) the monetary unit assumption directs the accountant to presume the U.S. dollar is stable over time—it is not affected by inflation or deflation. In effect, the accountant is assuming that a 1950 dollar, a 1990 dollar, and a 2015 dollar all have the same purchasing power.

The cost principle and monetary unit assumption may also mean that some very valuable resources will not be reported on the balance sheet. A company's team of brilliant scientists will not be listed as an asset on the company's balance sheet, because (a) the company did not purchase the team in a transaction (cost principle) and (b) it's impossible for accountants to know how to put a dollar value on the team (monetary unit assumption).

Coca-Cola's logo, Nike's logo, and the trade names for most consumer products companies are likely to be their most valuable assets. If those names and logos were developed internally, it is reasonable that they will not appear on the company balance sheet. If, however, a company should purchase a product name and logo from another company, that cost will appear as an asset on the balance sheet of the acquiring company.

Remember, accounting principles and guidelines place some limitations on what is reported as an asset on the company's balance sheet.

Effect of Conservatism

While the cost principle and monetary unit assumption generally prevent assets from being reported on the balance sheet at an amount greater than cost, conservatism will result in some assets being reported at less than cost. For example, assume the cost of a company's inventory was $30,000, but now the current cost of the same items in inventory has dropped to $27,000. The conservatism guideline instructs the company to report Inventory on its balance sheet at $27,000. The $3,000 difference is reported immediately as a loss on the company's income statement.

Effect of Matching Principle

The matching principle will also cause certain assets to be reported on the accounting balance sheet at less than cost. For example, if a company has Accounts Receivable of $50,000 but anticipates that it will collect only $48,500 due to some customers' financial problems, the company will report a credit balance of $1,500 in the contra asset account Allowance for Doubtful Accounts. The combination of the asset Accounts Receivable with a debit balance of $50,000 and the contra asset Allowance for Doubtful Accounts with a credit balance will mean that the balance sheet will report the net amount of $48,500. The income statement will report the $1,500 adjustment as Bad Debts Expense.

The matching principle also requires that the cost of buildings and equipment be depreciated over their useful lives. This means that over time the cost of these assets will be moved from the balance sheet to Depreciation Expense on the income statement. As time goes on, the amounts reported on the balance sheet for these long-term assets will be reduced. (For a further discussion on depreciation, go to

Adjusting Entries

Adjusting Entries

Adjusting Entries

Introduction to Adjusting Entries

Adjusting entries are accounting journal entries that convert a company's accounting records to the accrual basis of accounting. An adjusting journal entry is typically made just prior to issuing a company's financial statements.

To demonstrate the need for an accounting adjusting entry let's assume that a company borrowed money from its bank on December 1, 2015 and that the company's accounting period ends on December 31. The bank loan specifies that the first interest payment on the loan will be due on March 1, 2016. This means that the company's accounting records as of December 31 do not contain any payment to the bank for the interest the company incurred from December 1 through December 31. (Of course the loan is costing the company interest expense every day, but the actual payment for the interest will not occur until March 1.) For the company's December income statement to accurately report the company's profitability, it must include all of the company's December expenses—not just the expenses that were paid. Similarly, for the company's balance sheet on December 31 to be accurate, it must report a liability for the interest owed as of the balance sheet date. An adjusting entry is needed so that December's interest expense is included on December's income statement and the interest due as of December 31 is included on the December 31 balance sheet. The adjusting entry will debit Interest Expense and credit Interest Payable for the amount of interest from December 1 to December 31.

Another situation requiring an adjusting journal entry arises when an amount has already been recorded in the company's accounting records, but the amount is for more than the current accounting period. To illustrate let's assume that on December 1, 2015 the company paid its insurance agent $2,400 for insurance protection during the period of December 1, 2015 through May 31, 2016. The $2,400 transaction was recorded in the accounting records on December 1, but the amount represents six months of coverage and expense. By December 31, one month of the insurance coverage and cost have been used up or expired. Hence the income statement for December should report just one month of insurance cost of $400 ($2,400 divided by 6 months) in the account Insurance Expense. The balance sheet dated December 31 should report the cost of five months of the insurance coverage that has not yet been used up. (The cost not used up is referred to as the asset Prepaid Insurance. The cost that is used up is referred to as the expired cost Insurance Expense.) This means that the balance sheet dated December 31 should report five months of insurance cost or $2,000 ($400 per month times 5 months) in the asset account Prepaid Insurance. Since it is unlikely that the $2,400 transaction on December 1 was recorded this way, an adjusting entry will be needed at December 31, 2015 to get the income statement and balance sheet to report this accurately.

The two examples of adjusting entries have focused on expenses, but adjusting entries also involve revenues. This will be discussed later when we prepare adjusting journal entries.

For now we want to highlight some important points.

There are two scenarios where adjusting journal entries are needed before the financial statements are issued:

Nothing has been entered in the accounting records for certain expenses or revenues, but those expenses and/or revenues did occur and must be included in the current period's income statement and balance sheet.

Something has already been entered in the accounting records, but the amount needs to be divided up between two or more accounting periods.

Adjusting entries almost always involve a

balance sheet account (Interest Payable, Prepaid Insurance, Accounts Receivable, etc.) and an

income statement account (Interest Expense, Insurance Expense, Service Revenues, etc.)

For a step-by-step presentation of adjusting entries, see our visual tutorial Adjusting Entries which is available in

Adjusting Entries

Adjusting Entries

Introduction to Adjusting Entries

Adjusting entries are accounting journal entries that convert a company's accounting records to the accrual basis of accounting. An adjusting journal entry is typically made just prior to issuing a company's financial statements.

To demonstrate the need for an accounting adjusting entry let's assume that a company borrowed money from its bank on December 1, 2015 and that the company's accounting period ends on December 31. The bank loan specifies that the first interest payment on the loan will be due on March 1, 2016. This means that the company's accounting records as of December 31 do not contain any payment to the bank for the interest the company incurred from December 1 through December 31. (Of course the loan is costing the company interest expense every day, but the actual payment for the interest will not occur until March 1.) For the company's December income statement to accurately report the company's profitability, it must include all of the company's December expenses—not just the expenses that were paid. Similarly, for the company's balance sheet on December 31 to be accurate, it must report a liability for the interest owed as of the balance sheet date. An adjusting entry is needed so that December's interest expense is included on December's income statement and the interest due as of December 31 is included on the December 31 balance sheet. The adjusting entry will debit Interest Expense and credit Interest Payable for the amount of interest from December 1 to December 31.

Another situation requiring an adjusting journal entry arises when an amount has already been recorded in the company's accounting records, but the amount is for more than the current accounting period. To illustrate let's assume that on December 1, 2015 the company paid its insurance agent $2,400 for insurance protection during the period of December 1, 2015 through May 31, 2016. The $2,400 transaction was recorded in the accounting records on December 1, but the amount represents six months of coverage and expense. By December 31, one month of the insurance coverage and cost have been used up or expired. Hence the income statement for December should report just one month of insurance cost of $400 ($2,400 divided by 6 months) in the account Insurance Expense. The balance sheet dated December 31 should report the cost of five months of the insurance coverage that has not yet been used up. (The cost not used up is referred to as the asset Prepaid Insurance. The cost that is used up is referred to as the expired cost Insurance Expense.) This means that the balance sheet dated December 31 should report five months of insurance cost or $2,000 ($400 per month times 5 months) in the asset account Prepaid Insurance. Since it is unlikely that the $2,400 transaction on December 1 was recorded this way, an adjusting entry will be needed at December 31, 2015 to get the income statement and balance sheet to report this accurately.

The two examples of adjusting entries have focused on expenses, but adjusting entries also involve revenues. This will be discussed later when we prepare adjusting journal entries.

For now we want to highlight some important points.

There are two scenarios where adjusting journal entries are needed before the financial statements are issued:

Nothing has been entered in the accounting records for certain expenses or revenues, but those expenses and/or revenues did occur and must be included in the current period's income statement and balance sheet.

Something has already been entered in the accounting records, but the amount needs to be divided up between two or more accounting periods.

Adjusting entries almost always involve a

balance sheet account (Interest Payable, Prepaid Insurance, Accounts Receivable, etc.) and an

income statement account (Interest Expense, Insurance Expense, Service Revenues, etc.)

For a step-by-step presentation of adjusting entries, see our visual tutorial Adjusting Entries which is available in

Adjusting Entries

Adjusting Entries

Introduction to Adjusting Entries

Adjusting entries are accounting journal entries that convert a company's accounting records to the accrual basis of accounting. An adjusting journal entry is typically made just prior to issuing a company's financial statements.

To demonstrate the need for an accounting adjusting entry let's assume that a company borrowed money from its bank on December 1, 2015 and that the company's accounting period ends on December 31. The bank loan specifies that the first interest payment on the loan will be due on March 1, 2016. This means that the company's accounting records as of December 31 do not contain any payment to the bank for the interest the company incurred from December 1 through December 31. (Of course the loan is costing the company interest expense every day, but the actual payment for the interest will not occur until March 1.) For the company's December income statement to accurately report the company's profitability, it must include all of the company's December expenses—not just the expenses that were paid. Similarly, for the company's balance sheet on December 31 to be accurate, it must report a liability for the interest owed as of the balance sheet date. An adjusting entry is needed so that December's interest expense is included on December's income statement and the interest due as of December 31 is included on the December 31 balance sheet. The adjusting entry will debit Interest Expense and credit Interest Payable for the amount of interest from December 1 to December 31.

Another situation requiring an adjusting journal entry arises when an amount has already been recorded in the company's accounting records, but the amount is for more than the current accounting period. To illustrate let's assume that on December 1, 2015 the company paid its insurance agent $2,400 for insurance protection during the period of December 1, 2015 through May 31, 2016. The $2,400 transaction was recorded in the accounting records on December 1, but the amount represents six months of coverage and expense. By December 31, one month of the insurance coverage and cost have been used up or expired. Hence the income statement for December should report just one month of insurance cost of $400 ($2,400 divided by 6 months) in the account Insurance Expense. The balance sheet dated December 31 should report the cost of five months of the insurance coverage that has not yet been used up. (The cost not used up is referred to as the asset Prepaid Insurance. The cost that is used up is referred to as the expired cost Insurance Expense.) This means that the balance sheet dated December 31 should report five months of insurance cost or $2,000 ($400 per month times 5 months) in the asset account Prepaid Insurance. Since it is unlikely that the $2,400 transaction on December 1 was recorded this way, an adjusting entry will be needed at December 31, 2015 to get the income statement and balance sheet to report this accurately.

The two examples of adjusting entries have focused on expenses, but adjusting entries also involve revenues. This will be discussed later when we prepare adjusting journal entries.

For now we want to highlight some important points.

There are two scenarios where adjusting journal entries are needed before the financial statements are issued:

Nothing has been entered in the accounting records for certain expenses or revenues, but those expenses and/or revenues did occur and must be included in the current period's income statement and balance sheet.

Something has already been entered in the accounting records, but the amount needs to be divided up between two or more accounting periods.

Adjusting entries almost always involve a

balance sheet account (Interest Payable, Prepaid Insurance, Accounts Receivable, etc.) and an

income statement account (Interest Expense, Insurance Expense, Service Revenues, etc.)

For a step-by-step presentation of adjusting entries, see our visual tutorial Adjusting Entries which is available in

CAPITAL INVESTMENT ANALYSIS

CAPITAL INVESTMENT ANALYSIS

CAPITAL INVESTMENT ANALYSIS

RELEVANT INFORMATION
INFORMATION

The information needed for many business decisions requiring to choose between several alternatives, goes beyond the data provided in the financial statements and involves expected or future revenues and costs. In this analysis of expected numbers, only what changes is relevant: what does not change is irrelevant. Thus, the name given to this analysis as differential or incremental. Note that, while variable cost do naturally vary, some fixed cost can also change in some of these decisions. Note also that past costs are irrelevant: they called sunk costs.

LEASING OR SELLING EQUIPMENT

When comparing the choice between leasing or selling currently unused equipment, the additional, incremental or differential elements of either are studied for

1- revenue,

2- costs, and

3- net gain.

Book value and accumulated depreciation are omitted as irrelevant, but net tax effects are not.

MAKE OR BUY

When a manufacturer has excess productive capacity in space, equipment and labor, producing components may be better than purchasing them. Producing is chosen if the incremental cost is lower than the purchase price. The incremental cost combines additional direct materials, direct labor, fixed factory overhead and variable factory overhead. Non economic factors, such as relations with suppliers, also often come into consideration.

REPLACING PLANT ASSETS

The differential analysis for plant asset replacement takes the following into consideration: annual variable costs of both new and old equipment, the expected life of new equipment, the cost of new equipment, the proceeds from the sale of old equipment, and any annual differential in cost.

OPPORTUNITY COST

When a benefit or profit that could have been obtained, was not, this foregone benefit is referred to as an opportunity cost. While accounting is concerned with out-of-pocket costs, for most business decisions, opportunity costs are just as real and, in some cases, more significant.

DISCONTINUING UNPROFITABLE SEGMENTS

Products, branches, segments, departments, and territories that are unprofitable should be considered for elimination. If eliminating the unprofitable segments has no effect on fixed costs, the overall net income from operations will improve from the reduction in variable costs. This depends, however, on whether the remaining products or segments are competing or complementary. In the later case, revenue may decrease creating an opportunity cost in excess of the out-of-pocket cost reduction. Fixed costs can also play a role if alternative uses for the plant capacity exist. Lastly, layoffs can affect morale.

SELLING OR PROCESSING GOODS FURTHER

Manufacturing companies often sell their products at an intermediary stage of production. When differential analysis is used to determine whether goods should be sold now or processed further, only costs and revenues from further processing need to be considered. When more net income can be earned by processing goods further, they should be produced providing the production capacity exists.

ACCEPTING SPECIAL ORDERS

A company may accept additional business at a special price. Incremental or differential analysis is used to determine the differential revenue and costs. Companies not operating at full capacity usually can benefit from additional business, if fixed costs remain the same and the fixed cost per unit produced decreases. However, a company operating at full capacity is likely to see both fixed costs and variable costs rise.

CAPITAL BUDGETING

Capital investment analysis or capital budgeting is used by management to plan, evaluate, and control long-term investment decisions. Capital investment decisions commonly affect operations for a number of years and require a long-term commitment of funds. Capital investment decisions are usually based on either

1- payback period,

2- average rate of return,

3- net present value, or

4- internal rate of return.

AVERAGE RATE OF RETURN METHOD

The average rate of return is calculated by dividing average annual net income by average investment. When comparing projects, the highest average rate of return is selected, but consideration for risk is given. The method is commonly used to determine investment proposals with a short life span, and therefore, it is not essential to use present values. The advantage of the method is its simplicity, but ignoring time value of money is a drawback.

PAYBACK PERIOD

The payback period or cash payback method measures the number of years it will take to recover a capital investment. It is determined by dividing the original investment by annual net cash flows, or, if the cash flows are uneven, by adding up cash flows until the original investment is recovered. Generally, the shorter the payback period the better. A disadvantage of this method is that it does not take into account cash flows beyond the payback period since proposals with longer payback periods may prove to be more profitable in the long-run. The method is used by firms with liquidity problems or high risk.

DISCOUNTED CASH FLOW METHODS

Net present value and internal rate of return are both discounted cash flow methods and give recognition to the time value of money by discounting, that is, taking the present value of all future cash flows. Both methods require a discount rate or opportunity cost of capital. This rate is influenced by a number of factors such as presence of risk, availability of borrowing, relative profitability, minimum desired rate of return, nature of the business and purpose of capital investments. The calculation of discounted cash flows can involve the use of factor tables, exact formulas, financial calculators or computers.

NET PRESENT VALUE

The net present value is the sum of the discounted future net cash flows minus the initial investment. All proposals with positive net present value are acceptable. When competing alternative proposals are compare, the one with the largest net present value is chosen. An index determined by dividing the total present value of net cash flows by the initial investment is sometimes used instead when comparing project with different size of initial investment.

INTERNAL RATE OF RETURN

The internal rate of return, also called the discount rate, is the rate for which the net present value is zero. That is, the sum of future net cash flows discounted for time value of money is just equal to the initial investment for that particular rate. This internal rate of return is compared to the cost of capital or cutoff rate, and if higher, the project is accepted. When competing proposal are compared the project with the highest internal rate of return is chosen. Calculating the internal rate of return requires either a trial and error method by looking up in present value tables a present value factor given by dividing the initial investment by the annual cash flow, or with the use of a financial calculator or computer.

CAPITAL INVESTMENT ANALYSIS - PROBLEMS

A number of factors complicate capital investment analysis. They are inflation, income taxes, incorrect estimates and the possibility of leasing instead of buying.

CAPITAL RATIONING

Capital rationing means that there is only enough capital for the projects with the greatest profit potential. The proposals are initially evaluated to see if they meet minimum cash payback period or required average rate of return. If they do, they are then further evaluated by present value techniques. Proposals that have met all financial criteria are then subjected to nonfinancial analysis.

CAPITAL EXPENDITURES BUDGET

Once capital expenditure proposals have been approved, a capital expenditure budget is prepared. Procedures for controlling expenditures should also be established. Capital expenditures budgets compare actual results with projections.