Statement of financial position
Contents: 8 sections
What the statement shows
A statement of financial position is a photograph of a business on one particular day. It lists everything the business owns, everything it owes, and therefore what the owners' stake in it is worth.
That "one day" matters. A statement of profit or loss covers a whole year of trading, so it says what the business did. A statement of financial position says what the business is on the date printed at the top, usually the last day of the financial year. Sell a van on the following morning and the statement is already out of date.
The 0264 syllabus states that candidates will not be assessed on constructing one. You will be given a statement and asked to pull figures out of it, calculate a total, and use what you find to make a decision.
The four classifications
Everything on the statement falls into one of four groups, and the split in each pair is the same question: more than a year, or less than a year?
| Classification | What it means | Examples 0264 names |
|---|---|---|
| Non-current assets | Things the business owns and expects to keep and use for more than a year | Property, meaning land and buildings; machinery |
| Current assets | Things the business owns that are cash already, or are expected to turn into cash within a year | Inventory (unsold stock), trade receivables (money owed by customers), cash |
| Non-current liabilities | Money the business owes that is not due for more than a year | Bank loans |
| Current liabilities | Money the business owes that must be paid within a year | Trade payables (money owed to suppliers), overdraft |
Two pairs get mixed up constantly.
Trade receivables and trade payables sound alike and point in opposite directions. Receivables are owed to the business by customers who bought on credit, so they are an asset. Payables are owed by the business to suppliers, so they are a liability. If you cannot remember which is which, ask who is out of pocket.
A bank loan and an overdraft are both borrowing from the same bank, and they sit in different halves of the statement. A loan is repaid over an agreed number of years, so it is a non-current liability. An overdraft is repayable on demand, so it is a current liability, and that is exactly why it is a riskier way to owe money.
A worked statement
Statement of financial position as at 31 December.
| $ | |
|---|---|
| Property (land and buildings) | 240,000 |
| Machinery | 80,000 |
| Non-current assets | 320,000 |
| Inventory | 40,000 |
| Trade receivables | 35,000 |
| Cash | 15,000 |
| Current assets | 90,000 |
| Total assets | 410,000 |
| Trade payables | 30,000 |
| Overdraft | 20,000 |
| Current liabilities | 50,000 |
| Bank loan | 130,000 |
| Non-current liabilities | 130,000 |
| Total liabilities | 180,000 |
Non-current assets = 240000 + 80000 = $320,000
Current assets = 40000 + 35000 + 15000 = $90,000
Total assets = non-current assets + current assets = 320000 + 90000 = $410,000
Current liabilities = 30000 + 20000 = $50,000
Total liabilities = current liabilities + non-current liabilities = 50000 + 130000 = $180,000
The owners' stake is whatever is left once the debts are met.
Owners' capital = total assets - total liabilities = 410000 - 180000 = $230,000
Working capital
Cambridge publishes this formula for 0264, and it is the calculation asked for most often on this subtopic.
Working capital = current assets - current liabilities
Working capital = 90000 - 50000 = $40,000
Use the current rows only. Property and the bank loan take no part in it, because working capital is about paying this month's bills, and neither the building nor a loan due in six years is available to do that.
The $40,000 means the business could settle everything falling due in the next year and still have $40,000 of short-term resources left. That is a comfortable position but not a safe one, because $40,000 of the $90,000 in current assets is inventory, which only becomes cash if somebody buys it.
Capital employed
Capital employed is the total amount of long-term finance being used by the business: the owners' money plus the borrowing that is not due back within a year. It answers the question "how much has been put into this business for the long run?", which is what makes it the base for measuring how well the business uses what it has been given.
Capital employed = owners' capital + non-current liabilities
Capital employed = total assets - current liabilities
Capital employed = 230000 + 130000 = $360,000
Capital employed = 410000 - 50000 = $360,000
Both routes give $360,000, which is a useful check. Current liabilities are excluded from both because they are short-term, and money the business must hand back within twelve months is not capital it can build with.
Making decisions from the statement
The business has applied to borrow another $60,000. Three things on the statement bear on whether the bank should agree.
What it owns that could act as security. $240,000 of property is a lender's favourite asset, because it can be sold if the loan is not repaid, and it makes the application far stronger than it would be for a business renting its premises.
How much it already owes. The owners have $230,000 in the business against total liabilities of $180,000, so less than half of the $410,000 of assets is funded by debt and there is room to borrow more. Add the $60,000 and total liabilities become 180000 + 60000 = $240,000 against the same $230,000 of owners' capital, so the lenders would have more money in the business than the owner does.
How much of the debt is on demand. The $20,000 overdraft is repayable whenever the bank asks. A business that is already using its overdraft to trade has less room to absorb a bad month than the healthy working capital figure suggests.
Application on this subtopic means quoting the actual figures rather than the labels. "The business has assets" is a wasted sentence. "The $240,000 of land and buildings can be offered as security, so the bank's risk on a $60,000 loan is small" uses the statement and answers the question asked.
Evaluation is the judgement plus what it turns on. Recommend the loan if the $60,000 buys machinery that raises output, because the asset it creates supports the debt it takes on. Refuse it, or ask for a smaller sum, if the $60,000 is going to cover day-to-day bills, because borrowing long-term money to plug a short-term hole leaves the hole open and adds interest on top of it.
Common mistakes
- Calling inventory a non-current asset. It is bought to be sold within the year, so it is current.
- Putting a bank loan and an overdraft in the same group. The loan is non-current, the overdraft is current.
- Mixing up trade receivables (owed to the business) with trade payables (owed by it).
- Adding current liabilities into total assets, or adding assets and liabilities together to get a total.
- Calculating working capital from total assets and total liabilities. It uses the current rows only.
- Including current liabilities in capital employed.
- Saying the statement covers a year. It shows one day.
- Treating a large total assets figure as proof the business is doing well, without looking at what it owes.
- Describing the rows without using any of the numbers, in a question that put the numbers in front of you.
What the syllabus asks for on this topicSyllabus points
Syllabus points
- Identify non-current assets, such as property (land and buildings) and machinery.
- Identify current assets, such as inventory, trade receivables and cash.
- Identify non-current liabilities, such as bank loans.
- Identify current liabilities, such as trade payables and overdrafts.
- Explain the concept of capital employed.
- Make simple calculations from a statement of financial position: total assets, total liabilities and working capital.
- Make decisions based on simple statements of financial position.
Related CIE 0264 Business topics
Not the topic you were looking for? Describe what you are stuck on in your own words and we will take you to the notes that answer it.