Tuesday, 11 April 2017

Prudent Reserves

When something happens that causes an asset to lose value, it is written off.

  • For example, if some stock (asset) is stolen, the value of the stock in the Balance Sheet is reduced.

The same thing must happen if a prudent view is that an asset has lost some of its value.

  • For example, if some of the stock is obsolete and unlikely to sell for full value.
  • Normally, the Balance Sheet will just show the reduced value, which will be explained with notes.

Stock reserve

The creation of a stock reserve reduces the profit.

  • If it is subsequently found that the reserve was not necessary, the asset is restored to its full value and the profit is correspondingly increased in a later period.

Bad debt reserve

It is often necessary to create a bad debt reserve to cover money that may not be collectable from customers.

  • This bad debt reserve reduces the profit.
  • For example, loan loss reserve or provision by the banks.

No comments: