Additional Information

2/26/2018 Balance Sheet and Statement of Cash Flows
Print this page
ADDITIONAL INFORMATION
LEARNING OBJECTIVE7
Determine which balance sheet information requires supplemental disclosure.
In both Chapter 4 and this chapter, we have discussed the primary financial statements that all companies prepare
in accordance with GAAP. However, the primary financial statements cannot provide the complete picture related
to the financial position and financial performance of the company. Additional descriptive information in
supplemental disclosures and certain techniques of disclosure expand on and amplify the items presented in the
main body of the statements.
Supplemental Disclosures
The balance sheet is not complete if a company simply lists the asset, liability, and owners' equity accounts. It still
needs to provide important supplemental information. This may be information not presented elsewhere in the
statement, or it may elaborate on items in the balance sheet. The four types of information that are usually
supplemental to account titles and amounts presented in the balance sheet are as follows.
SUPPLEMENTAL BALANCE SHEET INFORMATION

1.CONTINGENCIES. Material events that have an uncertain outcome.
2.ACCOUNTING POLICIES. Explanations of the valuation methods used or the basic assumptions made
concerning inventory valuations, depreciation methods, investments in subsidiaries, etc.
3.CONTRACTUAL SITUATIONS. Explanations of certain restrictions or covenants attached to specific assets
or, more likely, to liabilities.
4.FAIR VALUES. Disclosures of fair values, particularly for financial instruments.
Contingencies
A contingency is an existing situation involving uncertainty as to possible gain (gain contingency) or loss (loss
contingency) that will ultimately be resolved when one or more future events occur or fail to occur. In short,
contingencies are material events with an uncertain future. Examples of gain contingencies are tax operating-loss
carryforwards or company litigation against another party. Typical loss contingencies relate to litigation,
environmental issues, possible tax assessments, or government investigations. We examine the accounting and
reporting requirements involving contingencies more fully in Chapter 13.
UNDERLYING CONCEPTS
The basis for including additional information should meet the full disclosure principle. That is, the information
should be of sufficient importance to influence the judgment of an informed user.
Accounting Policies
GAAP recommends disclosure for all significant accounting principles and methods that involve selection from
among alternatives or those that are peculiar to a given industry. [6] For instance, companies can compute
inventories under several cost flow assumptions (e.g., LIFO and FIFO), depreciate plant and equipment under
several accepted methods (e.g., double-declining-balance and straight-line), and carry investments at different
https://edugen.wileyplus.com/edugen/courses/crs9552/ebook/c05/a2llc285NzgxMTE4NzQyOTc2YzA1XzRfMC54Zm9ybQ.enc?course=crs9552&id=ref 1/9
valuations (e.g., amortized cost, equity, and fair value). Sophisticated users of financial statements know of these
possibilities and examine the statements closely to determine the methods used.
Companies must also disclose information about the nature of their operations, the use of estimates in preparing
financial statements, certain significant estimates, and vulnerabilities due to certain concentrations. [7] Illustration
5.29 shows an example of such a disclosure.
Chesapeake Corporation
Risks and Uncertainties. Chesapeake operates in three business segments which offer a diversity of products over
a broad geographic base. The Company is not dependent on any single customer, group of customers, market,
geographic area or supplier of materials, labor or services. Financial statements include, where necessary, amounts
based on the judgments and estimates of management. These estimates include allowances for bad debts, accruals
for landfill closing costs, environmental remediation costs, loss contingencies for litigation, self-insured medical
and workers' compensation insurance and determinations of discount and other rate assumptions for pensions and
postretirement benefit expenses.
ILLUSTRATION 5.29 Balance Sheet Disclosure of Significant Risks and Uncertainties
Disclosure of significant accounting principles and methods and of risks and uncertainties is particularly useful if
given in a separate Summary of Significant Accounting Policies preceding the notes to the financial statements
or as the initial note.
Contractual Situations
Companies should disclose contractual situations, if significant, in the notes to the financial statements. For
example, they must clearly state the essential provisions of lease contracts, pension obligations, and stock
compensation plans in the notes. Analysts want to know not only the amount of the liabilities but also how the
different contractual provisions affect the company at present and in the future.
Companies must disclose the following commitments if the amounts are material: commitments related to
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. Management must exercise considerable judgment to determine
whether omission of such information is misleading. The rule in this situation is, “When in doubt, disclose.” It is
better to disclose a little too much information than not enough.
WHAT DO THE NUMBERS MEAN? WHAT ABOUT YOUR

COMMITMENTS?
Many of the recent accounting scandals related to the nondisclosure of significant contractual obligations. In
response, the SEC has mandated that companies disclose contractual obligations in a tabular summary in the
management discussion and analysis section of the company's annual report.
Presented below, as an example, is a disclosure from The Procter & Gamble Company.
Contractual Commitments, as of June 30, 2014 (in millions of dollars)
Total Less Than 1 Year1-3 Years3-5 YearsAfter 5 Years
Recorded Liabilities
Total debt $35,229 $15,576 $4,391 $3,939 $11,323
Capital leases 83 19 34 23 7
Uncertain tax positions (1) 37 37 — — —

Other
Interest payments relating to long-term debt 7,929 831 1,385 1,195 4,518
Operating leases (2) 1,944 288 509 404 743
Minimum pension funding (3) 817 264 553 — —
Purchase obligations (4) 1,985 1,068 432 164 321
Total Contractual Commitments $48,024 $18,083 $7,304 $5,725 $16,912
(1)As of June 30, 2014, the Company's Consolidated Balance Sheet reflects a liability for uncertain tax positions of
$1.9 billion, including $443 million of interest and penalties. Due to the high degree of uncertainty regarding the
timing of future cash outflows of liabilities for uncertain tax positions beyond one year, a reasonable estimate of
the period of cash settlement beyond twelve months from the balance sheet date of June 30, 2014, cannot be
made.
(2)Operating lease obligations are shown net of guaranteed sublease income.
(3)Represents future pension payments to comply with local funding requirements. These future pension payments
assume the Company continues to meet its future statutory funding requirements. Considering the current
economic environment in which the Company operates, the Company believes its cash flows are adequate to meet
the future statutory funding requirements. The projected payments beyond fiscal year 2017 are not currently
determinable.
(4)Primarily
reflects future contractual payments under various take-or-pay arrangements entered into as part of the
normal course of business.
Fair Values
As we have discussed, fair value information may be more useful than historical cost for certain types of assets and
liabilities. This is particularly so in the case of financial instruments. Financial instruments are defined as cash, an
ownership interest, or a contractual right to receive or obligation to deliver cash or another financial instrument.
Such contractual rights to receive cash or other financial instruments are assets. Contractual obligations to pay are
liabilities. Cash, investments, accounts receivable, and payables are examples of financial instruments.
Given the expanded use of fair value measurements, as discussed in Chapter 2, GAAP also has expanded
disclosures about fair value measurements. [8] To increase consistency and comparability in the use of fair value
measures, companies follow a fair value hierarchy that provides insight into how to determine fair value. The
hierarchy has three levels. Level 1 measures (the 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 other
than those included in Level 1, 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.11Level 3 fair value measurements may be developed using expected cash flow and present value
techniques, as described in “Using Cash Flow Information and Present Value in Accounting,” Statement of
Financial Accounting Concepts No. 7, as discussed in Chapter 6.
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. Illustration 5.30 provides a disclosure for Devon Energy for its assets and liabilities measured at fair value.
Devon Energy Corporation

Note 7: Fair Value Measurements (in part). Certain of Devon's assets and liabilities are reported at fair value in
the accompanying balance sheets. The following table provides fair value measurement information for such assets
and liabilities.
Fair Value Measurements Using:
Quoted Significant
Significant
Prices in Other
Total Unobservable
Active Observable
Fair Value Inputs
Markets Inputs
(Level 3)
(Level 1) (Level 2)
(In millions)
Assets:
Short-term investments $ 341 $ 341 $— $—
Investment in Chevron common stock 1,327 1,327 — —
Financial instruments 8 — 8 —
Liabilities:
Financial instruments 497 — 497 —
Asset retirement obligation (ARO) 1,300 — — 1,300
GAAP establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure
fair value. As presented in the table above, this hierarchy consists of three broad levels. Level 1 inputs on the
hierarchy consist of unadjusted quoted prices in active markets for identical assets and liabilities and have
the highest priority. Level 3 inputs have the lowest priority. Devon uses appropriate valuation techniques
based on the available inputs to measure the fair values of its assets and liabilities. When available, Devon
measures fair value using Level 1 inputs because they generally provide the most reliable evidence of fair
value.
ILLUSTRATION 5.30 Disclosure of Fair Values
In addition, companies must provide significant additional disclosure related to Level 3 measurements. The
disclosures related to Level 3 are substantial and must identify what assumptions the company used to generate the
fair value numbers and any related income effects. Companies will want to use Level 1 and 2 measurements as
much as possible. In most cases, these valuations should be very reliable, as the fair value measurements are based
on market information. In contrast, a company that uses Level 3 measurements extensively must be carefully
evaluated to understand the impact these valuations have on the financial statements.
Techniques of Disclosure
LEARNING OBJECTIVE8
Describe the major disclosure techniques for the balance sheet.
Companies should disclose as completely as possible the effect of various contingencies on financial condition, the
methods of valuing assets and liabilities, and the company's contracts and agreements. To disclose this pertinent
information, companies may use parenthetical explanations, notes, cross-reference and contra items, and
supporting schedules.
Parenthetical Explanations
Companies often provide additional information by parenthetical explanations following the item. For example,
Illustration 5.31 shows a parenthetical explanation of the number of shares issued by Ford Motor Company on the
balance sheet under “Stockholders' equity.”
Ford Motor Company

Stockholders' Equity (in millions)
Common stock, par value $0.01 per share (1,837 million shares issued)$18
ILLUSTRATION 5.31 Parenthetical Disclosure of Shares Issued—Ford Motor Company
This additional pertinent balance sheet information adds clarity and completeness. It has an advantage over a note
because it brings the additional information into the body of the statement where readers will less likely overlook
it. Companies, however, should avoid lengthy parenthetical explanations, which might be distracting.
UNDERLYING CONCEPTS
The user-specific quality of understandability requires accountants to be careful in describing transactions and
events.
Notes
Companies use notes if they cannot conveniently show additional explanations as parenthetical explanations.
Illustration 5.32 shows how International Paper Company reported its inventory costing methods in its
accompanying notes.
International Paper Company

Note 11
Inventories by major category were (millions):
Raw materials $ 371
Finished pulp, paper and packaging products 1,796
Finished lumber and panel products 184
Operating supplies 351
Other 16
Total inventories $2,718
The last-in, first-out inventory method is used to value most of International Paper's U.S. inventories.
Approximately 70% of total raw materials and finished products inventories were valued using this method. If the
first-in, first-out method had been used, it would have increased total inventories balances by approximately $170
million.
ILLUSTRATION 5.32 Note Disclosure
Companies commonly use notes to disclose the following: the existence and amount of any preferred stock
dividends in arrears, the terms of or obligations imposed by purchase commitments, special financial arrangements
and instruments, depreciation policies, any changes in the application of accounting principles, and the existence of
contingencies.
Notes therefore must present all essential facts as completely and succinctly as possible. Careless wording may
mislead rather than aid readers. Notes should add to the total information made available in the financial
statements, not raise unanswered questions or contradict other portions of the statements. The note disclosures in
Illustration 5.33 show the presentation of such information.12As indicated in Chapter 2, the FASB has recently
issued an exposure draft, Conceptual Framework for Financial Reporting: Chapter 8: Notes to Financial
Statements. If approved, this new Concepts Statement will help the Board to identify relevant information and
establish limits on information that should be included in the notes to the financial statements.
Alberto-Culver Company
Note 3: Long-Term Debt. Various borrowing arrangements impose restrictions on such items as total debt, working
capital, dividend payments, treasury stock purchases and interest expense. The company was in compliance with
these arrangements and $68 million of consolidated retained earnings was not restricted as to the payment of
dividends and purchases of treasury stock.
Apple Inc.
Note: 10: Commitments and Contingencies
Operating Leases
The Company leases various equipment and facilities, including retail space, under noncancelable operating lease
arrangements. The Company does not currently utilize any other off-balance sheet financing arrangements. The
major facility leases are typically for terms not exceeding 10 years and generally contain multi-year renewal
options. Leases for retail space are for terms ranging from five to 20 years, the majority of which are for 10 years,
and often contain multi-year renewal options. As of September 27, 2014, the Company's total future minimum
lease payments under noncancelable operating leases were $5.0 billion, of which $3.6 billion related to leases for
retail space.
Willamette Industries, Inc.

Note 4: Property, Plant, and Equipment (partial): The company changed its accounting estimates relating to
depreciation. The estimated service lives for most machinery and equipment were extended five years. The change
was based upon a study performed by the company's engineering department, comparisons to typical industry
practices, and the effect of the company's extensive capital investments which have resulted in a mix of assets with
longer productive lives due to technological advances. As a result of the change, net income was increased
$51,900, or $0.46 per diluted share.
ILLUSTRATION 5.33 More Note Disclosures
UNDERLYING CONCEPTS
The FASB recently issued an invitation to comment on disclosure effectiveness, in order to get input on how
disclosures in the footnotes can be made more useful.
Cross-Reference and Contra Items

Companies “cross-reference” a direct relationship between an asset and a liability on the balance sheet. For
example, as shown in Illustration 5.34, on December 31, 2017, a company might show the following entries—one
listed among the current assets, and the other listed among the current liabilities.
Current Assets (in part)
Cash on deposit with sinking fund trustee for redemption of bonds payable—see Current liabilities$800,000
Current Liabilities (in part)
Bonds payable to be redeemed in 2018—see Current assets$2,300,000
ILLUSTRATION 5.34 Cross-Referencing and Contra Items
This cross-reference points out that the company will redeem $2,300,000 of bonds payable currently, for which it
has only set aside $800,000. Therefore, it needs additional cash from unrestricted cash, from sales of investments,
from profits, or from some other source. Alternatively, the company can show the same information
parenthetically.
Another common procedure is to establish contra or adjunct accounts. A contra account on a balance sheet reduces
either an asset, liability, or owners' equity account. Examples include Accumulated Depreciation—Equipment and
Discount on Bonds Payable. Contra accounts provide some flexibility in presenting the financial information. With
the use of the Accumulated Depreciation—Equipment account, for example, a reader of the statement can see the
original cost of the asset as well as the depreciation to date.
An adjunct account, on the other hand, increases either an asset, liability, or owners' equity account. An example is
Premium on Bonds Payable, which, when added to the Bonds Payable account, describes the total bond liability of
the company.
INTERNATIONAL PERSPECTIVE
Internationally, accounting terminology is a problem. Confusion arises even between nations that share a language.
For example, U.S. investors normally think of “stock” as “equity” or “ownership.” To the British, “stocks” means
inventory. In the United States, “fixed assets” generally refers to “property, plant, and equipment.” In Britain, the
category includes more items.
Supporting Schedules
Often a company needs a separate schedule to present more detailed information about certain assets or liabilities,
as shown in Illustration 5.35.
Property, plant, and equipment
Land, buildings, equipment, and other fixed assets—net (see Schedule 3) $643,300
SCHEDULE 3
Land, Buildings, Equipment, and Other Fixed Assets
Other
Total Land Buildings Equip. Fixed

Assets
Balance January 1, 2017 $740,000 $46,000 $358,000$260,000 $76,000
Additions in 2017 161,200 120,000 38,000 3,200

901,200 46,000 478,000 298,000 79,200
Assets retired or sold in 2017 31,700 27,000 4,700
Balance December 31, 2017 869,500 46,000 478,000 271,000 74,500
Depreciation taken to January 1, 2017 196,000 102,000 78,000 16,000
Depreciation taken in 2017 56,000 28,000 24,000 4,000
252,000 130,000 102,000 20,000
Depreciation on assets retired in 2017 25,800 22,000 3,800
Depreciation accumulated December 31, 2017 226,200 130,000 80,000 16,200
Book value of assets $643,300 $46,000 $348,000$191,000 $58,300
ILLUSTRATION 5.35 Disclosure through Use of Supporting Schedules
Terminology
The account titles in the general ledger do not necessarily represent the best terminology for balance sheet
purposes. Companies often use brief account titles and include technical terms that only accountants understand.
But many persons unacquainted with accounting terminology examine balance sheets. Thus, balance sheets should
contain descriptions that readers will generally understand and clearly interpret.
For example, companies have used the term “reserve” in differing ways: to describe amounts deducted from assets
(contra accounts such as accumulated depreciation and allowance for doubtful accounts), as a part of the title of
contingent or estimated liabilities, and to describe an appropriation of retained earnings. Because of the different
meanings attached to this term, misinterpretation often resulted from its use. Therefore, the profession has
recommended that companies use the word reserve only to describe an appropriation of retained earnings. The use
of the term in this narrower sense—to describe appropriated retained earnings—has resulted in a better
understanding of its significance when it appears in a balance sheet. However, the term “appropriated” appears
more logical, and we encourage its use.
For years, the profession has recommended that the use of the word surplus be discontinued in balance sheet
presentations of stockholders' equity. The use of the terms capital surplus, paid-in surplus, and earned surplus is
confusing. Although condemned by the profession, these terms appear all too frequently in current financial
statements.
YOU WILL WANT TO READ THE IFRS INSIGHTS

For a discussion of IFRS related to the balance sheet and statement of cash flows.
EVOLVING ISSUE BALANCE SHEET REPORTING: GROSS OR NET?

In addition to the issue of financial statement presentation discussed in the opening story, a second area of
controversy for balance sheet reporting is the issue of offsetting (or netting) of assets and liabilities. It is generally
accepted that offsetting of recognized assets and recognized liabilities detracts from the ability of users both to
understand the transactions and conditions that have occurred and to assess the company's future cash flows. In
other words, providing information on assets, liabilities, and stockholders' equity helps users to compute rates of
return and evaluate capital structure. However, netting assets and liabilities can limit a user's ability to assess the
future economic benefits and obligations. That is, offsetting hides the existence of assets and liabilities, making it
difficult to evaluate liquidity, solvency, and financial flexibility. As a result, GAAP does not permit the reporting of
summary accounts alone (e.g., total assets, net assets, and total liabilities).
Recently, the IASB and FASB have worked to develop common criteria for offsetting on the balance sheet. Current
offsetting rules under IFRS are more restrictive than GAAP. The rules proposed would allow offsetting only in rare
circumstances (e.g., when right of offset is legally enforceable). Implementation of these new rules in the United
States would result in a dramatic “grossing up” of balance sheets (particularly for financial institutions). For
example, one study estimated that the new rules would gross up U.S. banks' balance sheets by $900 billion (or an
average of 68%, ranging from a 31.4% increase for Citigroup to 104.7% for Morgan Stanley).1 Not surprisingly,
the FASB received significant push-back from some of its constituents (particularly financial institutions) to the
proposed rules.
As a result, to date the Boards have not been able to agree on a converged standard, thereby stalling this project.
However, the Boards have issued converged disclosure requirements. The disclosure rules require companies to
disclose both gross information and net information about instruments and transactions that are eligible for offset in
the balance sheet. While the Boards have not been able to develop a converged set of criteria for offsetting, the
information provided under the new converged disclosure rules should enable users of a company's financial
statements to evaluate the effects of netting arrangements on its financial position. In doing so, the new rules
support the full disclosure principle.
1See Y. N'Diaye, “S&P: Accounting Rule Could Boost Bank Balance Sheets by Average 68%,”
https://mninews.deutsche-boerse.com (September 22, 2011).
Copyright © 2016 John Wiley & Sons, Inc. All rights reserved.

Additional Information

Uploaded by

Copyright:

Available Formats

Additional Information

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Additional Information

Uploaded by

Copyright:

Available Formats

2/26/2018 Balance Sheet and Statement of Cash Flows

Print this page

SUPPLEMENTAL BALANCE SHEET INFORMATION

WHAT DO THE NUMBERS MEAN? WHAT ABOUT YOUR

Uncertain tax positions (1) 37 37 — — —

(2)Operating lease obligations are shown net of guaranteed sublease income.

Devon Energy Corporation

Ford Motor Company

International Paper Company

Willamette Industries, Inc.

Cross-Reference and Contra Items

Total Land Buildings Equip. Fixed

Additions in 2017 161,200 120,000 38,000 3,200

YOU WILL WANT TO READ THE IFRS INSIGHTS

EVOLVING ISSUE BALANCE SHEET REPORTING: GROSS OR NET?

You might also like