When reformulating the balance sheet to Operating and Financial to get Net Operating Assets, why is...

When reformulating the balance sheet to Operating and Financial to get Net Operating Assets, why is long-term debt considered a financial liability when that debt could be used to finance the day-to-day operations?

Could you please provide an example?

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Expert Solution

Long term debts are considered as financial liability and not included in net operating assets even though it could be used for meeting the day to day operations because

1. The point here is the source and repayment of the fund and not the application of the fund raised through debt.

2. Net operating assets shows us that whether we will be able to meet our daily operations or not.

3. When we receive funds through long term debt. We debit the cash/bank and credit the liability. So the Cash component will be reflected in the net operating assets as we can use it for financing the day to day operations. So one component of long term debt is already reflected in net operating assets.

4. Now the question which should arise here is what happens to the liability which is credited in the journal. So the answer for that is: it is shown as financial liability as its repayment is not required to be made in short term or in day to day basis. It has to be paid in long term.

5. So the long term debt taken increases the net operating assets due to application of cash/bank which can be used in financing the day to day operations.

ekkarill92 answered 1 year ago

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