Additional Paid In Capital On The Cash Flow Statement The Lemonade Stand

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The Lemonade Stand

One of the best ways to learn about finance is to start with a real-world story that everyone can relate to – a story that even young children can understand. One of the most iconic — if not the most enjoyable — childhood business ventures is the lemonade stand. Setting the table and serving a few drinks to the neighbors on a hot summer vacation afternoon may seem like a simple, spontaneous activity, but it can also explain many basic concepts of finance.

So you wake up one summer morning and the early joys of the first few weeks of no school have left you bored and decide to do something productive with your free time. You decide to open a lemonade stand.

You take a quick inventory of the supplies you’ll need to get started – cups, lemonade mix, a pitcher, a cooler, a sign – and you realize you’ll need to go to the store to pick up more cups and mix. You run upstairs to get some cash from your piggy bank and realize you only have one dollar. You know you need at least five dollars to buy supplies.

This brings us to our first finance lesson. We need capital or money right now, but there will be no money unless we sell lemonade. Fortunately, finance aims to solve such a problem. Finance makes people need capital.

For borrowers, they can get money now when they need it most and pay back when they have more access to money and need it less. For savers, they can lend or invest their money when they have money and don’t need as much, and then pay it back when they need more money — perhaps after retirement.

So on the way back to our lemonade stand, we need to borrow some money. Like any entrepreneur, the first place you look for a money lender is friends and family – or in our case, mom and dad.

Friends and family are an attractive source of funding for entrepreneurs because they are more familiar with the potential borrower than the bank and therefore usually offer better loan terms such as lower interest rates.

You explain your plans to Mom and you think you’ll need another four dollars to get started with your lemonade stand. She agrees to pay you and you run to the store to get your supplies. The total bill comes to $4.50, which is great because you have 50 cents of working capital left over that you can use to make change for customers.

Before the lemonade stand opens for business, let’s look at what’s happening from an article perspective. It is important to gain a basic understanding of accounting so that we can measure the financial performance of the enterprise and understand how well we are doing.

So let’s start with our balance sheet. A balance sheet is one of the financial statements of a company. It represents a snapshot of a company’s financial position at a particular point in time. It lists the value of the company’s assets and subsequent liabilities. The balance sheet can be summarized by a simple equation:

Assets = Liabilities + Owners’ Equity

To better understand how a balance sheet works, let’s look at the stages our balance sheet has gone through so far. When we first started, we only had a dollar in cash, so our balance sheet equation looked like this:

$1 cash = $0 liabilities + $1 owner’s equity

Our balance sheet changed as soon as we got the loan from my mother. The four dollars we received from mom increased our cash and now our liability increased by four dollars because we owe her money.

$5 cash = $4 liabilities + $1 owner’s equity

Note that whenever a financial transaction occurs, both sides of the equation have to balance – hence the name balance sheet.

After we purchase supplies for our lemonade stand, the nature of our assets changes, but the liabilities on the balance sheet remain the same.

$4.50 supplies + $0.50 cash ($5 total assets) = $4 liabilities + $1 owner’s equity

Although this is a very simple balance sheet, it explains the basic purpose of the balance sheet – to describe the company’s assets and the claims (liabilities) on those assets.

Now let’s sell lemonade!

You’ve set up your stand at a great location in your neighborhood and it’s a good day to sell lemonade. You set the price just right, and a few hours later, you’ve sold all the lemonade you bought. You take down your stand and go back home to count your earnings.

You sold 50 cups of lemonade at 50 cents each for a total of $25. So what did you make in terms of profit? It’s time to settle the bill again.

To determine profitability, you must put together an income statement for the lemonade stand. Income statements are sometimes referred to as profit and loss statements or P&L. An income statement simply takes the difference between a company’s income and its expenses to determine net income or profit during a particular period.

Revenue – Expenses = Net Income

In our case, our revenue is $25 and expenses are $4.50. One could argue that we should factor in labor costs (paying you for the time you spend making and selling lemonade), but for now we’ll just look at supply costs. Lemonade’s income statement for its first day of operations would look like this:

$25 in revenue – $4.50 in expenses = $20.50 in net income

So what does our balance sheet look like now? We no longer have any supplies, only plenty of cash ($25.50 with the 50 cents of working capital we have for change). We started with $4 in liabilities and $1 in owner’s equity, but now we have $21 in total assets, so we no longer have a balance in liabilities.

All the profit of our lemonade stand accrues to the owner, so it is added to the owner’s equity account. So our new balance sheet looks like this:

$25.50 cash = $4 liabilities + $21.50 owner’s equity

You take a look at your balance sheet to take stock of how you did. You started with just one dollar of equity and now you have over 20. Not too bad. You look at your income statement and your net income was $20.50, which is the exact increase in your owner’s equity.

Satisfied with your enterprise, you return to mother and return the four dollars you borrowed from her. Since you kept the money for less than a day, she says you owe her no interest. At the end of the day, your balance sheet reads:

$21.50 cash = $0 liabilities + $21.50 owner’s equity

Day one in the lemonade business has taught us some basic finance and accounting concepts, but why stop there? Maybe we should take our lemonade business to the next level. stay with

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