General accounting
Toy manufacturer (part 2)
Video
A first recap: the "assets" of the firm
If we list what the firm has at the end of month 3 we get this:
- 7000 € in the bank
- 1000 toys ready for sale
- no more raw materials (suppose the initial purchase covered precisely the 3000 toys produced)
- a used van
- a mechanical saw
- some office equipement
- and a piece of paper from Carrefour promising a payment of 20 000€ in a month and a half.
We could also say that we have other things in this firm:
- we have a know-how
- we have operations which run (we can produce objects and generate sales and profit)
- we begin to have a reputation, a good name
- etc
None of this will be taken into account in general accounting.
A firm is more than the collection of its elements. It is a "machine" that works and, when it's well tuned, which creates value.
Somebody else may buy this firm for way more than the sum of the values listed above, even if it has no relationship with his or her other activities, that is even if it is a "standalone" acquisition.
When the acquired firm has links with the other activities of the buyer, the story is yet another one. The buyer then may pay a price apparently preposterous compared to the firm acquired: remember eBay, in the Fall of 2005, which purchased Skype (then 3 years old, a few million dollars of revenues, only losses), for $2.6 billions.
We shall see why this made sense.
Valuation of stocks
Notice that we did not compute any value for the stock of finished goods. It is less, hopefully, for us than the 10 € per toy at which we sell them. We shall study the famous LIFO, FIFO, and other methods to assign a value (for us) to this stock of goods.
17) At the end of month 3, say after the above recap, we purchase raw materials: 1000 €. At the end of month 4 we pay various expenditures 1500 €. And we have to pay the salaries 6000 €. But we only have 4500 € at the bank, so we pay the two employees, and the boss will wait. At the bank we are down to 500 €. We shall wait until Carrefour's check to purchase more raw materials, and to pay with a delay the boss salary.
18) We receive the payment from Carrefour: 20 000 €, in cash or put one way or another in our bank account.
And life goes on, because the firm is a "going concern".
Unlike a project, like building a bridge, with a beginning date and an ending date, a "going concern" has no end date.