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{"id":4049,"date":"2015-01-07T20:58:11","date_gmt":"2015-01-07T20:58:11","guid":{"rendered":"https:\/\/businessecon.org\/?p=4049"},"modified":"2023-08-09T21:52:18","modified_gmt":"2023-08-09T21:52:18","slug":"long-term-debt-financial-statement-presentation","status":"publish","type":"post","link":"https:\/\/valueinvestingnow.com\/2015\/01\/long-term-debt-financial-statement-presentation","title":{"rendered":"Long Term Debt \u2013 Financial Statement Presentation"},"content":{"rendered":"

Long Term Debt \u2013 Financial Statement Presentation<\/strong><\/span><\/h1>\n

Long Term Debt<\/a><\/strong><\/span> is one of the multiple forms of capitalizing a business. It includes bonds, secured notes and mortgage notes. In the world of small business, the most common forms of long-term debt are<\/span>\u00a0secured notes<\/a><\/strong><\/span>, most likely with<\/span> recourse<\/a><\/strong><\/span>. As an owner of a business you need to understand how this information is presented in your financial statements. In addition, there are various presentation formats and as the owner; you are free to use the one best suited to your needs.<\/span><\/span><\/p>\n

The following sections explain total liabilities on the balance sheet and the traditional presentation format for liabilities. The next section identifies different reporting formats for long-term debt. The final section relates to the notes you may wish to include with your financial statements. Throughout this article, I\u2019ll explain some analysis tools for the small business entrepreneur to use in evaluating long-term debt.<\/span><\/p>\n

Total Liabilities<\/span><\/strong><\/h2>\n

As a value investor, you need to key in on the terminology used when discussing debt. In general, all debt whether short-term or long-term is referred to as \u2018Total Liabilities\u2019. It is divided into two distinct groups for purposes of interpretation. Those liabilities due soon (technically less than one year) are referred to as<\/span> current liabilities<\/a><\/strong><\/span> and those beyond one year are referred to as long-term liabilities. In law, almost any form of a long-term liability is in some form of a contract (note) attached to the particular loan. It is rare for any long-term debt to exist without formal documentation. Thus, the documentation recognizes the debt obligation as long-term. Typically any debt obligation without documentation is considered \u2018On Demand\u2019 which means the lender can demand the payment right now which makes the debt automatically short-term or \u2018Current\u2019.<\/span><\/span><\/p>\n

As a reminder, the balance sheet is split into two halves: Assets (upper half) and the Liabilities and Equity (bottom half).<\/span><\/p>\n

Each half has several sections. The following is a simplified presentation format:<\/span><\/p>\n

Assets\u00a0<\/strong> (Upper Half)
\n<\/span>Current Assets
\n<\/span>Fixed Assets
\n<\/span>Other Assets\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 __________
\n<\/span>Total Assets\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 \u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 $ZZZ,ZZZ
\n<\/span><\/span><\/p>\n

Liabilities and Equity<\/strong>\u00a0 (Lower Half)
\n<\/span>Current Liabilities
\n<\/span>Long-Term Liabilities \u00a0 \u00a0 \u00a0 \u00a0___________
\n<\/span>Total Liabilities\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 $ZZZ,ZZZ
\n<\/span>Equity \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0<\/span>ZZZ,ZZZ<\/span>
\n<\/span>Total Liabilities and Equity \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 $ZZZ,ZZZ<\/span><\/span><\/p>\n

This article is focused on the section referred to as Long-Term Liabilities, also known as Long Term Debt. In accounting we used the term liabilities instead of debt. For all intents and purposes, they are one in the same in this article.<\/span><\/p>\n

Believe it or not, all notes have some form of amortization associated with extinguishing the principal portion of the loan. Effectively, each payment is composed of two components, interest and principal. With each payment made, the principal balance on the loan decreases, therefore with the next payment the interest earned on that principal balance is a little less. Since the payments are steady, this means that as payments are made, the principal portion of each payment increases and the interest portion decreases until the final payment is mostly principal and a little interest. The following summation schedule related to a basic five-year auto loan illustrates this on an annual basis.<\/span><\/p>\n

Dennis purchases a pickup truck for his roofing business. He agrees to borrow $10,000 from the bank and pay this loan back over five years. The interest rate is 6%. His monthly payments begin in January (makes it easy to present the information) and ends in December five years later. What are his total payments, total interest and principal per year over the five-year period?<\/span><\/p>\n

Answer:
\n<\/span>\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0\u00a0 Total Payment<\/span>\u00a0 \u00a0Total Interest Paid <\/span>\u00a0 \u00a0Total Principal Paid
\n<\/span><\/span>Year 1 \u00a0 \u00a0 \u00a0 $2,319.94 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$551.91 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$1,768.03
\n<\/span>Year 2 \u00a0 \u00a0 \u00a0 \u00a0 2,319.94 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 442.86 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a01,877.08
\n<\/span>Year 3 \u00a0 \u00a0 \u00a0 \u00a0 2,319.94 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 327.08 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a01,992.85
\n<\/span>Year 4 \u00a0 \u00a0 \u00a0 \u00a0 2,319.94 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 204.17 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a02,115.77
\n<\/span>Year 5 \u00a0 \u00a0 \u00a0\u00a0\u00a0 2,319.94<\/span>\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0\u00a0\u00a0\u00a0 73.67<\/span>\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0\u00a02,246.26
\n<\/span><\/span>Totals \u00a0 \u00a0 \u00a0 $11,599.70 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 $1,599.69 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$9,999.99\u00a0 *.01 Rounding Error<\/span><\/span><\/p>\n

The above illustrates the declining incremental amounts for interest each year and the increasing incremental amounts for principal for the total payments.<\/span><\/p>\n

In accounting, we use a formal presentation format in both the current and long-term sections of the bottom half of the balance sheet. This is what the current liabilities section looks like in a detailed format:<\/span><\/p>\n

Current Liabilities
\n<\/strong><\/span>\u00a0 \u00a0Accounts Payable\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$ZZ,ZZZ
\n<\/span>\u00a0 \u00a0Credit Cards\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0Z,ZZZ
\n<\/span>\u00a0 \u00a0Accrued Payroll\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0ZZ,ZZZ
\n<\/span>\u00a0 \u00a0Taxes\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 Z,ZZZ
\n<\/span>\u00a0 \u00a0Unearned Revenue\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0ZZZ
\n<\/span>\u00a0 \u00a0Deposits\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 Z,ZZZ
\n<\/span>\u00a0 \u00a0Lines of Credit\/Bank Notes \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0ZZ,ZZZ
\n<\/span>\u00a0 \u00a0Current Portion of Long-Term Debt \u00a0 \u00a0 \u00a0 \u00a0 \u00a0Z,ZZZ
\n<\/span><\/span>Total Current Liabilities\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$ZZ,ZZZ<\/span><\/span><\/p>\n

Did you notice that the very last account is entitled \u2018Current Portion of Long-Term Debt\u2019?\u00a0 This is because current liabilities are defined as any amounts due within the next year of operations. If we were in May of the current year, this line of information would have the principal portion of long-term debt that is due in the current month through April of the following year. Typically these reports are prepared at month\u2019s end so therefore this line of information would be the amount of principal payable from June of the current calendar year through May of next year. Remember, you would have already paid May\u2019s principal payment because this is the last day of the month when the balance sheet is prepared.<\/span><\/p>\n

Using the amortization schedule above, let\u2019s go to the last day of Year 3, i.e. December 31, 201X. How much is the current portion of this truck loan? Easy enough, it\u2019s the amount Dennis will pay in principal in year 4, which is $2,115.77.<\/span><\/p>\n

If the current portion of the long-term debt is recorded in the current liabilities section, then the remaining principal for this loan would be the amount in the Long-Term Liabilities section of the report. By the way, the remaining portion is Year 5\u2019s amount of $2,246.26.<\/span><\/p>\n

The Liabilities Section of the balance sheet will look like this:<\/span><\/p>\n

Current Liabilities\u00a0 <\/strong>(A more concise presentation format for ease of understanding)
\n<\/span>\u00a0 \u00a0Accounts Payable\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 $ZZ,ZZZ
\n<\/span>\u00a0 \u00a0Accrued Payroll\/Taxes\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 ZZ,ZZZ
\n<\/span>\u00a0 \u00a0Other Liabilities\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 ZZ,ZZZ
\n<\/span>\u00a0 \u00a0Current Portion of Long-Term Debt \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0\u00a0\u00a0\u00a02,116
\n<\/span><\/span>\u00a0 \u00a0Total Current Liabilities\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 $ZZ,ZZZ
\n<\/span>Long-Term Liabilities
\n<\/strong><\/span>\u00a0 Vehicle Notes(Net of Current Portion) \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a02,246
\n<\/span>\u00a0 \u00a0Equipment Notes\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 ZZ,ZZZ
\n<\/span>\u00a0 \u00a0Bonds\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 ZZ,ZZZ
\n<\/span><\/span>\u00a0 \u00a0Total Long-Term Liabilities\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0ZZ,ZZZ
\n<\/span><\/span>Total Liabilities\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$ZZZ,ZZZ<\/strong><\/span><\/span><\/p>\n

As a reader of this information, you would simply add the current portion due to the long-term portion and you have the total aggregated principal value for your long-term debt.<\/span><\/p>\n

OK, so now I can continue to explain the various presentation formats because you now have an understanding of the concept of total liabilities.<\/span><\/p>\n

Reporting Format and Interpretation<\/span><\/strong><\/h2>\n

There are many presentation formats for long-term debt. I generally endorse the matching format over others as it is easier to understand and relate the information to the operations of the business. The following are different presentation formats for you to see and then I\u2019ll discuss each one as illustrated.<\/span><\/p>\n

Traditional Presentation<\/span><\/strong><\/h3>\n

In the traditional presentation format, there is no correlation related to the use of the funds received. In the financial reports of huge corporations, all you will see in the long-term liabilities section of the balance sheet is the term \u2018Long-Term Debt Net of Current\u2019 and then the dollar figure. What the presenter has done is to combine all the debt into one line item on the report. For example, here is Walmart\u2019s presentation:<\/span><\/p>\n

Walmart’s 2014 Balance Sheet – Liabilties Section<\/a><\/strong><\/span><\/p>\n

This opens in another tab, you just flip between the two tabs to review the information as I illustrate below. The long-term debt line is about 3\/4’s of the way down the page.<\/span><\/p>\n

This is from Walmart\u2019s 2014 report (their fiscal year ends on Sept 30th<\/sup>). By the way, all the numbers are in MILLIONS of dollars. That $41,771 is actually $42 Billion. Remember, Walmart\u2019s annual sales exceed $470 Billion.\u00a0<\/span><\/p>\n

Long term debt is one line and look up in the current liabilities section; it shows the current portion of long-term debt. This is required under Generally Accepted Accounting Principles for publicly traded companies.<\/span><\/p>\n

In your small business, you can do the exact same thing, one line, \u2018Long-Term Debt\u2019. Nothing illegal or immoral; but will it serve you well?\u00a0 How about a more detailed format?<\/span><\/p>\n

Detailed Format<\/span><\/strong><\/h3>\n

In a detailed format, the presenter can create some form of correlation related to the funds borrowed. The most common detailed format presentation relates to the duration of the respective notes and loans. The following is a simple presentation format, I\u2019m leaving out the current portion of the long-term debt as that is in the Current Liabilities section and you should have an understanding of its value at this point. If not, please go back up to Total Liabilities and refresh yourself.<\/span><\/p>\n

Long Term Liabilities
\n<\/strong><\/span>\u00a0 <\/strong>Notes\/Loans Less Than 5 Years to Maturity\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$ZZZ,ZZZ
\n<\/span>\u00a0 Notes\/Loans 5 \u2013 10 Years to Maturity \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 ZZZ,ZZZ
\n<\/span>\u00a0 Extended Maturity > 10 Years \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0ZZZ,ZZZ
\n<\/span><\/span>\u00a0Total Long-Term Liabilities \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 $ZZZ,ZZZ<\/span><\/span><\/p>\n

You can determine your own breaking points. In farming, often the notes are tied to maturity of livestock, so you\u2019ll have points breaking at 7 years, up to 18 years and then longer term notes. You are free to use your own logical points. Another detailed format, ties the debt to the actual assets purchased with that debt. This is the presentation format I personally prefer as it allows the owner an easy way to understand his debt relationships.<\/span>\u00a0<\/strong><\/span><\/p>\n

Asset Matching Format<\/span><\/strong><\/h3>\n

This method of reporting debt on your balance sheet is the most appropriate for the small business owner and management team. The asset matching method correlates the respective debt instruments to the actual<\/span> fixed asset groups<\/a><\/strong><\/span> on the balance sheet. The following is an illustration of this format with explanation to follow:<\/span><\/span><\/p>\n

This is an example of the fixed assets section of a balance sheet, notice the detailed presentation format:<\/span><\/p>\n

Fixed Assets
\n<\/strong><\/span>\u00a0 Real Estate\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 $ZZZ,ZZZ
\n<\/span>\u00a0 Transportation\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0ZZ,ZZZ
\n<\/span>\u00a0 Equipment\/Machinery \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 ZZ,ZZZ
\n<\/span>\u00a0 Technology\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 ZZ,ZZZ
\n<\/span>\u00a0 Furniture & Fixtures \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 ZZ,ZZZ
\n<\/span>\u00a0 Accumulated Depreciation\u00a0 \u00a0 \u00a0 \u00a0 \u00a0(ZZZ,ZZZ)
\n<\/span><\/span>Fixed Assets Netted \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$ZZZ,ZZZ<\/span><\/strong><\/span><\/span><\/p>\n

For matching purposes, the respective financing arrangements related to the respective lines of assets should also be presented in an alignment fashion as follows:<\/span><\/p>\n

Long-Term Liabilities (Net of Current Portion)
\n<\/strong><\/span>\u00a0 <\/strong>Mortgages\/Deed of Trust\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$ZZZ,ZZZ
\n<\/span>\u00a0 \u00a0Vehicle Financing\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0ZZ,ZZZ
\n<\/span>\u00a0 \u00a0Bank Notes (Equipment\/Machinery) \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0ZZ,ZZZ
\n<\/span>\u00a0 \u00a0Financing Arrangements\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 ZZ,ZZZ
\n<\/span><\/span>Total Long-Term Liabilities\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$ZZZ,ZZZ<\/strong><\/span><\/span><\/p>\n

For the owner, it is easy to compare the various types of debt to the corresponding assets so you can rationalize the commitment. In addition, it makes it easy to identify any upside down issues. There are several relationship associations that as an owner you should consider when using this presentation format.<\/span><\/p>\n

The fixed asset is recorded at the purchase price. In accounting, depreciation is used to adjust the value related to its use in business operations. The problem is that depreciation is recorded as a lump sum against all the assets in the \u2018Accumulated Depreciation\u2019 account. Depreciation is not recorded to each of the respective groups whereby the dollar value presented reflects the actual adjusted amount. That dollar value is the original purchase price value. When comparing the remaining value of financing against that respective asset group, the ratio will decline from year to year (or at least it should).<\/span><\/span><\/p>\n

As an example, let\u2019s use the real estate line. Suppose this asset was purchased 10 years ago for $350,000 and the company borrowed $300,000. Last year, the remaining balance on the long-term portion net of current portion was $273,000 and this year the remaining balance is $266,400. But the value on the real estate line is still $350,000. During the 10 year period, the depreciation equates to 59,500 in the prior year and $65,000 in the current year. The depreciation values come straight from the depreciation schedules in your books. If you compare the presented format against the depreciated format, the following are your results:<\/span><\/p>\n

\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0\u00a0 REAL ESTATE
\n<\/span><\/strong><\/span>LTD Ratio Presented Format\u00a0 <\/span>\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0LTD Ratio w\/Depreciation
\n<\/span><\/strong><\/span>Prior Year \u00a0 \u00a0 .78\u00a0 (273,000\/350,000) \u00a0 \u00a0 \u00a0 \u00a0 \u00a0.94 ((273,000\/(350,000 \u2013 59,500))
\n<\/span>Current Year .761 (266,400\/350,000) \u00a0 \u00a0 \u00a0 \u00a0 .935 ((266,400\/(350,000 \u2013 65,000))
\n<\/span>LTD = Long Term Debt<\/span><\/span><\/p>\n

There is no doubt the presented format will always show a continuous decline in the ratio, but the depreciation format may not. This is because often with fixed assets, the depreciation adjustment is greater than the principal payment portion in the early years and then less than the principal portion during the later years of the loan. This is because the principal payment portion of each payment increases over time. Often depreciation is linear or accelerated in the earlier years and significantly less in the later years.<\/span><\/p>\n

As an owner, you need to comprehend this business dynamic when interpreting the information presented. The advantage this presentation format has is that it allows you to compare the values with greater ease and thus understand what is going on with the money.<\/span><\/p>\n

Financing arrangements in the long-term liabilities section cover both the technology and the furniture and fixtures in the business. A good example relates to the copier. Often, it isn\u2019t a note that is used for the copier, but a financing arrangement. You say \u2018Tomato\u2019, I say \u2018Tomatoe\u2019. In effect, they are the same thing. The difference is that financing arrangements limit themselves to the particular asset financed. Whereas most bank notes cover not only the asset purchased, but anything else that is not already attached to some form of financing. Basically, you sign away all assets not currently used as collateral with bank notes.With the presentation format above, the financing arrangements relate to existing technology and fixtures recently purchased and not the historical items that you still retain (such as the postage meter, or the deluxe typewriter and so on).<\/span><\/p>\n

Just as in the real estate mortgage ratio illustrated above, the assets do not reflect the depreciated status. Again, think this through when evaluating your long-term debt position related to the respective fixed asset group.<\/span><\/p>\n

When evaluating machinery and equipment, often these items are customized or built directly for your purpose. In effect, there isn\u2019t much of a market related to this equipment. Some items still have a market such as transportation shop equipment (lifts, alignment devices, and electronic analysis) or lathes in metal fabrication. But some custom-made equipment for manufacturing or packaging don\u2019t have a ready market available. Honestly, who needs a \u2018Cupcake Sorter\u2019?<\/span><\/p>\n

As an owner, you need to be aware of this, in effect the value of the collateral to the debt is not there in some circumstances. Don\u2019t think that there is a fair market for your equipment when there really isn\u2019t much of a market to begin with.<\/span><\/p>\n

Use caution and think it through when evaluating your overall debt situation. The primary key for any owner is to evaluate their long-term debt against the existing collateral and the equity position in the company. As long as you stay within a comfortable zone for debt and make improvements from year to year with the debt, then in general you are in good shape.<\/span><\/p>\n

Notes Related to Long Term Debt<\/span><\/strong><\/h2>\n

In accounting, accountants like to add notes to our work. Well, you should do this too related to your financial reports. For long-term liabilities, notes should include some language related to the original face value, the corresponding interest rate and the remaining balance and the associated current portion. The following note would represent the truck example stated above at the end of Year 3.<\/span><\/p>\n

Notes Related to Long Term Liabilities<\/strong>:<\/span><\/p>\n

On January 1, 201X, a bank note with Small Towne Bank was signed for the purchase of a 201X Pickup Truck. The face value of the note was $10,000 with amortization over five years at a 6% interest rate. The following is a schedule related to the note:<\/span><\/p>\n

Small Towne Bank Truck Note
\n<\/span><\/strong><\/span>Current Balance \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$4,362
\n<\/span>Current Portion \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0\u00a02,116
\n<\/span><\/span>Net Long-Term Balance \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 $2,246<\/span><\/span><\/p>\n

You could add more columns for other vehicle notes for this group to match up with the total vehicle financing section of the long-term liabilities section of the balance sheet. You can do the same thing for the other line items with breakouts.<\/span><\/p>\n

Finally, another note to long-term liabilities is a schedule that breaks out the amount of principal that is currently due (current portion of long-term debt), due in the following year and then in years 3 through 5. Then the dollar value for years 6 \u2013 10 and a final line item amount for any amount greater than 10 years. The following is an example:<\/span><\/p>\n

Aggregated Principal Amounts Due over the Remaining Life of the Financial Instruments:<\/span><\/p>\n

Due in the Next Year\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$ZZ,ZZZ\u00a0 (will match current portion of long-term debt)
\n<\/span>Due in the Following Year \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0ZZ,ZZZ
\n<\/span>Due in Years 3 \u2013 5\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 ZZZ,ZZZ
\n<\/span>Due in Years 6 \u2013 10\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 ZZZ,ZZZ
\n<\/span>Due in More Than 10 Years\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0\u00a0 ZZ,ZZZ
\n<\/span><\/span>Total Amount Due\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0$ZZZ,ZZZ<\/span><\/span><\/p>\n

This schedule is beneficial in helping the owner to understand the overall cash needed to pay principal as it is due in the future. This cash must come from either earnings, sale of equity via<\/span> stock<\/a><\/strong><\/span>, or other borrowings of money whether short-term or long-term.<\/span><\/span><\/p>\n

By using notes such as these illustrated above, the owner can refer to them for help in evaluating his overall situation related to long-term debt.<\/span><\/p>\n

Summary – Long-Term Debt<\/span><\/strong><\/h2>\n

Long term debt is one of the many tools available to finance a business operation. For accounting purposes, long-term debt is divided into two primary components, that which is due in the upcoming year (current portion of long-term liabilities) and the remaining portion. Long-term liabilities are grouped together in the Liabilities section of the balance sheet and can be organized in several different presentation formats. For the small business owner, use the asset matching format as it provides more flexibility in understanding the relationships of the debt to the corresponding assets purchased with that financial instrument. Use notes to assist you in evaluating your debt, notes should include schedules that break out the respective notes via the respective groups and a final note related to the actual payout of principal in incremental periods. If properly presented, an owner can easily evaluate their financial status related to long-term liabilities. Act on Knowledge.\u00a0<\/strong><\/span><\/p>\n