 Oh, and welcome to the session. This is Professor Farhad. In this session, we will look at the trial balance and the debt ratio. These topics are typically covered in a financial accounting introductory course. Yes, you will need to know them for the CPA exam, but this is basic knowledge. As always, I would like to remind you to connect with me on LinkedIn if you haven't done so. YouTube is where you would need to subscribe. I have 1,600 plus accounting, auditing, finance, and tax lectures. This is a list of all the courses that I covered, including many other courses other than financial accounting. If you like my lectures, please like them, click on the like button, share them, put them in playlists, let the world know about them. If they're benefiting you, it means they might benefit other people, and please connect with me on Instagram. On my website, you'll find access to additional resources, such as True, False, Multiple Choice, PowerPoint slides, and if you are studying for your CPA exam, 2,000 plus CPA questions. I strongly suggest you check out my website. So we're gonna start by looking at the summary transaction in a ledger. Now, you might be asking, where is this information coming from, all these accounts with their balances? I suggest you check the description. In the description, I have the link to build up to this summary of transactions in the ledger. So that's the first thing I want you to know, but let's review. We end up with a cash balance of 4,275 debit, account receivable debit balance of zero, supplies 9,720, account spable 6,200 liability, unearned consulting revenue 3,000 liability, common stock 30,000, dividend 200, so on and so forth. So those are the balances. And if we add up all the assets, they add up to 4,295, we add up all the liabilities 9,200, and all of common stock, dividend consulting revenue and expenses, which is dividend with a duck, expenses with a duck, we end up with 33,195 assets, equal liabilities plus equity. So all this information is coming from the prior session, but we're gonna be using this general ledger to build the trial balance and explain what a trial balance is. Now, this is a trial balance. What does it look like? There's the name of the company, trial balance and the date. Now, here's the first thing I want to tell you, students confuse the trial balance with financial statement. So the first thing I need to tell you, it's not a financial statement, which we looked at the financial statements, or we're gonna look at the financial statements, again, very briefly, but the trial balance is not a financial statement. Well, if it's not a financial statement, so what is the trial balance then? Well, here we go. The trial balance is a list of all the accounts with their normal balances, okay? So the trial balance lists all ledger accounts and their balances with their normal balances. What do I mean by normal balances? For example, assets will have a normal of a debit. Liabilities will have a normal of a credit. Common start credit, dividend debit, revenue credit, expenses debit. You remember the DEA, those are the normal balances, okay? If the books are in balance, the total debit should equal total to credit. So it's proved to us that total debit's equal to total credits. We could still be wrong. We could have still made mistakes, okay? But at least we know that the total debit's equal to total credits. Now the trial balance is prepared in a certain way. What do I mean by this? Let's go over it. So this way you know what it looks like. Assets are listed first. So notice cash, accounts receivable, supplies, prepaid and equipment, they're listed first. And they have a debit balance. Then liabilities are listed next. They have a credit balance. Then common stock, credit balance, dividend, debit balance, consulting revenue and rental revenue, credit balance. Then expenses are listed last and they have a debit balance. So this is what a trial balance is, a list of all the accounts with their normal balances, okay? Usually we put the dollar sign at the beginning of each column and at the end, we don't put the dollar sign everywhere because it would look clogged. Now what happened if you made a mistake and your trial balance doesn't balance? Now in the real world, most trial balances nowadays are generated by accounting information system and most accounting information system, they will not allow you to enter an entry that's total debits as not total credits. Generally speaking, because it just, it doesn't say for example, if you're using QuickBooks, QuickBooks will not let you save a transaction if the transaction doesn't have total debits equal total credits. So if that's the case, your debits will equal to your credits, but the point is you could have made other mistakes. But let's assume you are preparing a manual trial balance which you will be doing something like this in your regular course. First thing you wanna check, make sure that the trial balance column are correctly added. So make sure you go back and add them up. Make sure you add up all your debits and all your credits. Notice the 45,300, 45,300. All what this number is, total debits equal total credits. It's meaningless other than that, okay? That's the first thing we do. Then make sure balances are correctly entered from the ledger. What does that mean? It means for example here, my cash is 42.75. Make sure I entered my cash here 42.75 and not 42.57. For example, this could be a problem, okay? That's the second thing you do. See if debits and credits are mistakenly placed in a trial balance. Make sure for example, all cash will have a debit balance. Make sure it's not on the credit or liability should have a credit balance. Make sure it's not on the debit. That's also a common mistake. Guess what? Recompute each account balance in the ledger. Go back to each account and go through their balances, debits and credits, which what we saw on the prior balance and make sure the total is correct. Maybe the total is not correct. Verify that each journal entry is posted correctly. Remember, maybe you did not post correctly. When you journalized, then when you posted, for example, a number was 1,050. You did it 1,500 or 1,005. You did not post it correctly, okay? Verify that each original journal entry has equal debits, equal credits. So this is the last thing you do. Total debits equal total credits because basically you're going backwards from the trial balance, making sure the accounts are listed all the way back to the journal entry, which is the original entry. And if you don't find it, you should find if there's any error, you should find it on the original entry. This is how you go about finding an error. Now, once you prepare the trial balance, the reason we prepare the trial balance, it's that step before you prepare the financial statements. And what are the financial statements? We already learned about the financial statements in the prior session. And what I did also see the description for the financial statements, those are the three financial statements we prepared. Okay, income statements, statements of retained earning and the balance sheet. And this is a picture of them. And the reason I'm flipping through this because if you really want to know how to prepare financial statements, just look in the description. So in the description, you're gonna have two links. One for how we got to the general ledger balances and one how to prepare the financial statements. I don't wanna do it again because it's useless just doing the same thing again when you can go to the description and view it. Last but not least, what we need to learn about in this session is something called the debt ratio. And what is the debt ratio? Well, first of all, it's a ratio. What is a ratio? It's X divided by Y. We're taking two figures and dividing them by each other. This is what a ratio is. And we call this ratio the debt ratio. Now, if it's the debt ratio, it's mean somehow liabilities are involved. So this is how we compute the debt ratio. We're gonna take total liabilities divided by total assets. So let me throw some numbers just to kind of start to think about this. Let's assume that I'm gonna throw easy numbers. You have 500 in liabilities, 500 in liabilities and you have one, let's make it 400. You have 400 in liabilities, total liabilities and you have 1,000 in total asset. The debt ratio equal to 40%, 400 divided by 1,000 is 40%. Okay? What does that mean? It means you have 1,000 of assets of that amount, 400 coming from debt from liabilities. Obviously, the other 600 without mentioning it, it's coming from equity. Now, let me ask you this. Do you want your assets to be coming from debt or do you want your assets to be coming from equity? Well, generally speaking, you want your assets to be coming from equity and specifically from retained earnings, which is your earnings. What does that mean when you have a higher proportion of your assets coming from debt? The higher amount of that you have, the more that you have, and listen to me carefully, the more that you have, the higher is the risk. That is risk, why? Because that requires you to make payments and if the company doesn't do well in a certain year because the economy doesn't do well and you cannot pay off your debt, then you'll get into trouble fairly quickly. So that is risky, okay? So what does this ratio evaluate? It evaluate the level of debt risk. Now, you might be saying, so tell me, it's 40% high. I can't tell you, okay, why? Because different companies will have a different level of risk. But generally speaking, the higher that ratio, the higher is the risk. Now, for example, airline companies, airline companies might have a debt ratio of 80%. And that's normal, why? Because they finance their assets, their airplanes, they don't buy them, they have a lot of debt. Maybe a consulting company, they will have a debt ratio of 15%. Well, you cannot compare 80 to 15. Why? Because consulting companies are in a different industry. Also ratios, they have to be compared from one period to another. So of the prior period, so of the prior year, the debt ratio was 35%, well, guess what? Now we are accumulating more debt in relationship to assets. What if in the prior year, the debt ratio was 45%, then we improved. So you cannot look at a number, 40%, and make a statement. Always these numbers will have to be taken within a full picture. So basically, what you can say about this, a higher debt ratio indicate there's a greater probability that a company will not be able to pay it's debt in the near future. The more that you have, and that's also on a personal level, the more that you have the riskier you are. And that's why I always tell my students, and I'm telling you now, avoid debt. That is trouble. That's all what debt is. That will enslave you. That will take options away from you and your life. So avoid that at all costs. That's all what I can say. Avoid debt. And for companies, we can measure how much that they have in relationship to their assets. So by looking at debt alone, it doesn't mean anything. For example, if I say $1 million, you would say that's a lot of debt. What if I have $100 million in assets and I have $1 million in debt? That's really nothing. That's 1%. So that's why we use ratios to put things into perspective, to put things into perspective. As always, I would like to end up by saying, as always, study hard. Visit my website for additional resources. Accounting is worth it. It's a rewarding career. I strongly suggest you pursue it. Check out my website, like the lectures, share them, good luck in study.