As mentioned before, banks basically make money by lending money at rates higher than the cost of the money

they lend. More specifically, banks collect interest on loans and interest payments from the debt securities they own, and pay interest on deposits, CDs, and short-term borrowings. The difference is known as the "spread," or the net interest income, and when that net interest income is divided by the bank's earning assets, it is known as the net interest margin. Deposits The largest source by far of funds for banks is deposits; money that account holders entrust to the bank for safekeeping and use in future transactions, as well as modest amounts of interest. Generally referred to as "core deposits," these are typically the checking and savings accounts that so many people currently have. In most cases, these deposits have very short terms. While people will typically maintain accounts for years at a time with a particular bank, the customer reserves the right to withdraw the full amount at any time. Customers have the option to withdraw money upon demand and the balances are fully insured, up to $250,000, therefore, banks do not have to pay much for this money. Many banks pay no interest at all on checking account balances, or at least pay very little, and pay interest rates for savings accounts that are well below U.S. Treasury bond rates. (For more, check out Are Your Bank Deposits Insured?) Wholesale Deposits If a bank cannot attract a sufficient level of core deposits, that bank can turn to wholesale sources of funds. In many respects these wholesale funds are much like interbank CDs. There is nothing necessarily wrong with wholesale funds, but investors should consider what it says about a bank when it relies on this funding source. While some banks de-emphasize the branch-based depositgathering model, in favor of wholesale funding, heavy reliance on this source of capital can be a warning that a bank is not as competitive as its peers. Investors should also note that the higher cost of wholesale funding means that a bank either has to settle for a narrower interest spread, and lower profits, or pursue higher yields from its lending and investing, which usually means taking

on greater risk. Share Equity While deposits are the pimary source of loanable funds for almost every bank, shareholder equity is an important part of a bank's capital. Several important regulatory ratios are based upon the amount of shareholder capital a bank has and shareholder capital is, in many cases, the only capital that a bank knows will not disappear. Common equity is straight forward. This is capital that the bank has raised by selling shares to outside investors. While banks, especially larger banks, do often pay dividends on their common shares, there is no requirement for them to do so. Banks often issue preferred shares to raise capital. As this capital is expensive, and generally issued only in times of trouble, or to facilitate an acquisition, banks will often make these shares callable. This gives the bank the right to buy back the shares at a time when the capital position is stronger, and the bank no longer needs such expensive capital. Equity capital is expensive, therefore, banks generally only issue shares when they need to raise funds for an acquisition, or when they need to repair their capital position, typically after a period of elevated bad loans. Apart from the initial capital raised to fund a new bank, banks do not typically issue equity in order to fund loans. Debt Banks will also raise capital through debt issuance. Banks most often use debt to smooth out the ups and downs in their funding needs, and will call upon sources like repurchase agreements or the Federal Home Loan Bank system, to access debt funding on a short term basis. There is frankly nothing particularly unusual about bank-issued debt, and like regular corporations, bank bonds may be callable and/or convertible. Although debt is relatively common on bank balance sheets, it is not a critical source of capital for most banks. Although debt/equity ratios are typically over 100% in

the banking sector, this is largely a function of the relatively low level of equity at most banks. Seen differently, debt is usually a much smaller percentage of total deposits or loans at most banks and is, accordingly, not a vital source of loanable funds. (To learn more, see our Debt Ratios Tutorial.) Use of Funds Loans For most banks, loans are the primary use of their funds and the principal way in which they earn income. Loans are typically made for fixed terms, at fixed rates and are typically secured with real property; often the property that the loan is going to be used to purchase. While banks will make loans with variable or adjustable interest rates and borrowers can often repay loans early, with little or no penalty, banks generally shy away from these kinds of loans, as it can be difficult to match them with appropriate funding sources. Part and parcel of a bank's lending practices is its evaluation of the credit worthiness of a potential borrower and the ability to charge different rates of interest, based upon that evaluation. When considering a loan, banks will often evaluate the income, assets and debt of the prospective borrower, as well as the credit history of the borrower. The purpose of the loan is also a factor in the loan underwriting decision; loans taken out to purchase real property, such as homes, cars, inventory, etc., are generally considered less risky, as there is an underlying asset of some value that the bank can reclaim in the event of nonpayment. As such, banks play an under-appreciated role in the economy. To some extent, bank loan officers decide which projects, and/or businesses, are worth pursuing and are deserving of capital. Consumer Lending Consumer lending makes up the bulk of North American bank lending, and of this, residential mortgages make up by far the largest share. Mortgages are used to buy residences and the homes themselves are often the security that collateralizes the loan. Mortgages are typically written for 30 year repayment periods and interest rates may be fixed, adjustable, or variable. Although a variety of more exotic mortgage products were offered during the U.S. housing

bubble of the 2000s, many of the riskier products, including "pick-a-payment" mortgages and negative amortization loans, are much less common now. Automobile lending is another significant category of secured lending for many banks. Compared to mortgage lending, auto loans are typically for shorter terms and higher rates. Banks face extensive competition in auto lending from other financial institutions, like captive auto financing operations run by automobile manufacturers and dealers. Prior to the collapse of the housing bubble, home equity lending was a fastgrowing segment of consumer lending for many banks. Home equity lending basically involves lending money to consumers, for whatever purposes they wish, with the equity in their home, that is, the difference between the appraised value of the home and any outstanding mortgage, as the collateral. As the cost of post-secondary education continues to rise, more and more students find that they have to take out loans to pay for their education. Accordingly, student lending has been a growth market for many banks. Student lending is typically unsecured and there are three primary types of student loans in the United States: federally sponsored subsidized loans, where the federal government pays the interest while the student is in school, federally sponsored unsubsidized loans and private loans. Credit cards are another significant lending type and an interesting case. Credit cards are, in essence, personal lines of credit that can be drawn down at any time. While Visa andMasterCard are well-known names in credit cards, they do not actually underwrite any of the lending. Visa and MasterCard simply run the proprietary networks through which money (debits and credits) is moved around between the shopper's bank and the merchant's bank, after a transaction. Not all banks engage in credit card lending and the rates of default are traditionally much higher than in mortgage lending or other types of secured lending. That said, credit card lending delivers lucrative fees for banks: Interchange fees charged to merchants for accepting the card and entering into the transaction, late-payment fees, currency exchange, over-the-limit and other

fees for the card user, as well as elevated rates on the balances that credit card users carry, from one month to the next. (To learn how to avoid getting nickeled and dimed by your bank, check out Cut Your Bank Fees.)

Balance sheet
From Wikipedia, the free encyclopedia

Accounting

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Major types of accounting[show] Key concepts[show] Selected accounts[show] Accounting standards[show] Financial statements[show] Bookkeeping[show] Auditing[show] People and organizations[show] Development[show] Business portal

V T E

In financial accounting, a balance sheet or statement of financial position is a summary of the financial balances of a sole proprietorship, a business partnership, a corporation or other business organization, such as an LLC or an LLP. Assets, liabilities and ownership equity are listed as of a specific date, such as the end of

its financial year. A balance sheet is often described as a "snapshot of a company's financial condition". [1] Of the three basicfinancial statements, the balance sheet is the only statement which applies to a single point in time of a business' calendar year. A standard company balance sheet has three parts: assets, liabilities and ownership equity. The main categories of assets are usually listed first, and typically in order of liquidity.[2] Assets are followed by the liabilities. The difference between the assets and the liabilities is known as equity or the net assets or the net worth or capital of the company and according to the accounting equation, net worth must equal assets minus liabilities.[3] Another way to look at the balance sheet equation is that total assets equals liabilities plus owner's equity. Looking at the equation in this way shows how assets were financed: either by borrowing money (liability) or by using the owner's money (owner's or shareholders' equity). Balance sheets are usually presented with assets in one section and liabilities and net worth in the other section with the two sections "balancing". A business operating entirely in cash can measure its profits by withdrawing the entire bank balance at the end of the period, plus any cash in hand. However, many businesses are not paid immediately; they build up inventories of goods and they acquire buildings and equipment. In other words: businesses have assets and so they cannot, even if they want to, immediately turn these into cash at the end of each period. Often, these businesses owe money to suppliers and to tax authorities, and the proprietors do not withdraw all their original capital and profits at the end of each period. In other words businesses also have liabilities.
Contents
[hide]

1 Types

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1.1 Personal balance sheet 1.2 US small business balance sheet

2 Public Business Entities balance sheet structure

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2.1 Assets 2.2 Liabilities 2.3 Equity

3 Balance sheet substantiation 4 Sample balance sheet 5 See also 6 References

Types[edit]

A balance sheet summarizes an organization or individual's assets, equity and liabilities at a specific point in time. Two forms of balance sheet exist. They are the report form and the account form. Individuals and small businesses tend to have simple balance sheets.[4] Larger businesses tend to have more complex balance sheets, and these are presented in the organization's annual report.[5] Large businesses also may prepare balance sheets for segments of their businesses.[6] A balance sheet is often presented alongside one for a different point in time (typically the previous year) for comparison.[7][8]

Personal balance sheet[edit]

A personal balance sheet lists current assets such as cash in checking accounts and savings accounts, longterm assets such as common stock and real estate, current liabilities such as loandebt and mortgage debt due, or overdue, long-term liabilities such as mortgage and other loan debt. Securities and real estate values are listed at market value rather than at historical cost or cost basis. Personal net worth is the difference between an individual's total assets and total liabilities.[9]

US small business balance sheet[edit]

Sample Small Business Balance Sheet[10]

Assets

Liabilities and Owners' Equity

Cash

$6,600 Liabilities

Accounts Receivable

$6,200 Notes Payable

$5,000

Tools and equipment $25,000 Accounts Payable $25,000

Total liabilities

$30,000

Owners' equity

Capital Stock

$7,000

Retained Earnings

$800

Total owners' equity

$7,800

Total

$37,800 Total

$37,800

A small business balance sheet lists current assets such as cash, accounts receivable, and inventory, fixed assets such as land, buildings, and equipment, intangible assets such as patents, and liabilities such as accounts payable, accrued expenses, and long-term debt. Contingent liabilities such as warranties are noted in the footnotes to the balance sheet. The small business's equity is the difference between total assets and total liabilities.[11]

Public Business Entities balance sheet structure[edit]

Guidelines for balance sheets of public business entities are given by the International Accounting Standards Board and numerous country-specific organizations/companys. The standard used by companies in the USA adhere to U.S. Generally Accepted Accounting Principles (GAAP). The Federal Accounting Standards Advisory Board (FASAB) is a United States federal advisory committee whose mission is to develop generally accepted accounting principles (GAAP) for federal financial reporting entities. Balance sheet account names and usage depend on the organization's country and the type of organization. Government organizations do not generally follow standards established for individuals or businesses.[12][13][14][15] If applicable to the business, summary values for the following items should be included in the balance sheet:[16] Assets are all the things the business owns, this will include property, tools, cars, desks, chairs etc.

Assets[edit]
Current assets 1. Cash and cash equivalents 2. Accounts receivable 3. Prepaid expenses for future services that will be used within a year Non-current assets (Fixed assets) 1. Property, plant and equipment 2. Investment property, such as real estate held for investment purposes

3. Intangible assets 4. Financial assets (excluding investments accounted for using the equity method, accounts receivables, and cash and cash equivalents) 5. Investments accounted for using the equity method 6. Biological assets, which are living plants or animals. Bearer biological assets are plants or animals which bear agricultural produce for harvest, such as apple trees grown to produce apples and sheep raised to produce wool.[17]

Liabilities[edit]
See Liability (accounting) 1. Accounts payable 2. Provisions for warranties or court decisions 3. Financial liabilities (excluding provisions and accounts payable), such as promissory notes and corporate bonds 4. Liabilities and assets for current tax 5. Deferred tax liabilities and deferred tax assets 6. Unearned revenue for services paid for by customers but not yet provided

Equity[edit]
The net assets shown by the balance sheet equals the third part of the balance sheet, which is known as the shareholders' equity. It comprises:: 1. Issued capital and reserves attributable to equity holders of the parent company (controlling interest) 2. Non-controlling interest in equity Formally, shareholders' equity is part of the company's liabilities: they are funds "owing" to shareholders (after payment of all other liabilities); usually, however, "liabilities" is used in the more restrictive sense of liabilities excluding shareholders' equity. The balance of assets and liabilities (including shareholders' equity) is not a coincidence. Records of the values of each account in the balance sheet are maintained using a system of accounting known as double-entry bookkeeping. In this sense, shareholders' equity by construction must equal assets minus liabilities, and are a residual. Regarding the items in equity section, the following disclosures are required: 1. Numbers of shares authorized, issued and fully paid, and issued but not fully paid 2. Par value of shares 3. Reconciliation of shares outstanding at the beginning and the end of the period

4. Description of rights, preferences, and restrictions of shares 5. Treasury shares, including shares held by subsidiaries and associates 6. Shares reserved for issuance under options and contracts 7. A description of the nature and purpose of each reserve within owners' equity

Balance sheet substantiation[edit]

Balance Sheet Substantiation is the accounting process conducted by businesses on a regular basis to confirm that the balances held in the primary accounting system of record (e.g. SAP,Oracle, other ERP system's General Ledger) are reconciled (in balance with) with the balance and transaction records held in the same or supporting sub-systems. Balance Sheet Substantiation includes multiple processes including reconciliation (at a transactional or at a balance level) of the account, a process of review of the reconciliation and any pertinent supporting documentation and a formal certification (sign-off) of the account in a predetermined form driven by corporate policy. Balance Sheet Substantiation is an important process that is typically carried out on a monthly, quarterly and year-end basis. The results help to drive the regulatory balance sheet reporting obligations of the organization. Historically, Balance Sheet Substantiation has been a wholly manual process, driven by spreadsheets, email and manual monitoring and reporting. In recent years software solutions have been developed to bring a level of process automation, standardization and enhanced control to the Balance Sheet Substantiation or account certification process. These solutions are suitable for organizations with a high volume of accounts and/or personnel involved in the Balance Sheet Substantiation process and can be used to drive efficiencies, improve transparency and help to reduce risk. Balance Sheet Substantiation is a key control process in the SOX 404 top-down risk assessment.

Sample balance sheet[edit]

The following balance sheet is a very brief example prepared in accordance with IFRS. It does not show all possible kinds of assets, liabilities and equity, but it shows the most usual ones. Because it shows goodwill, it could be a consolidated balance sheet. Monetary values are not shown, summary (total) rows are missing as well.

Balance Sheet of XYZ, Ltd. As of 31 December 2009 ASSETS Current Assets Cash and Cash Equivalents

Accounts Receivable (Debtors) Less : Allowances for Doubtful Accounts Inventories Prepaid Expenses Investment Securities (Held for trading) Other Current Assets Non-Current Assets (Fixed Assets) Property, Plant and Equipment (PPE) Less : Accumulated Depreciation Investment Securities (Available for sale/Held-to-maturity) Investments in Associates Intangible Assets (Patent, Copyright, Trademark, etc.) Less : Accumulated Amortization Goodwill Other Non-Current Assets, e.g. Deferred Tax Assets, Lease Receivable LIABILITIES and SHAREHOLDERS' EQUITY LIABILITIES Current Liabilities (Creditors: amounts falling due within one year) Accounts Payable Current Income Tax Payable Current portion of Loans Payable Short-term Provisions Other Current Liabilities, e.g. Unearned Revenue, Deposits Non-Current Liabilities (Creditors: amounts falling due after more than one year) Loans Payable Issued Debt Securities, e.g. Notes/Bonds Payable Deferred Tax Liabilities Provisions, e.g. Pension Obligations Other Non-Current Liabilities, e.g. Lease Obligations SHAREHOLDERS' EQUITY Paid-in Capital Share Capital (Ordinary Shares, Preference Shares) Share Premium Less: Treasury Shares Retained Earnings Revaluation Reserve Accumulated Other Comprehensive Income Non-Controlling Interest

Definition of 'Net Worth'

The amount by which assets exceed liabilities. Net worth is a concept applicable to individuals and businesses as a key measure of how much an entity is worth. A consistent increase in net worth indicates good financial health; conversely, net worth may be depleted by annual operating losses or a substantial decrease in asset values relative to liabilities. In the business context, net worth is also known as book value or shareholders' equity. Consider a couple with the following assets - primary residence valued at $250,000, an investment portfolio with a market value of $100,000 and automobiles and other assets valued at $25,000. Liabilities are primarily an outstanding mortgage balance of $100,000 and a car loan of $10,000. The couple's net worth would be therefore be $265,000 ([$250,000 + $100,000 + $25,000] - [$100,000 + $10,000]). Assume that five years later, the couple's financial position is as follows residence value $225,000, investment portfolio $120,000, savings $20,000, automobile and other assets $15,000; mortgage loan balance $80,000, car loan $0 (paid off). The net worth would now be $300,000. In other words, the couple's net worth has gone up by $35,000 despite the decrease in the value of their residence and car, because this decline is more than offset by increases in other assets (such as the investment portfolio and savings) as well as the decrease in their liabilities.

Definition of 'Bank Capital'

The difference

between the value of a bank's assets and its liabilities. The bank capital represents the net worth of the bank or its value to investors. The asset portion of a bank's capital includes cash, government securities and interest-earning loans like mortgages, letters of credit and inter-bank loans. The liabilities section of a bank's capital includes loan-loss reserves and any debt it owes.

Investopedia explains 'Bank Capital'

A bank's capital can be thought of as the margin to which creditors are covered if a bank liquidates its assets. Loan-

loss reserves or loan-loss provisions, are amounts set aside by banks to allow for any loss in the value of the loans they have offered.
Bank Failures

Our forefathers knew that a strong banking system would be critical to the growth and prosperity of our country. In recent decades, banks have expanded, acquired competitors and have taken on more risk after the repeal of Glass-Steagall in an effort to earn more profits. The resultant bank failures have been traumatic events for the economy. Below are 10 common reasons why banks have serious financial problems and sometimes fail. 1. Bad loans. Loans comprise a large part of the traditional banking business, along with holding depositor money. Before the later part of the 20th century, banks primarily made loans to individuals to buy homes and to businesses to enable them to grow. Credit analysis skills are critical to this line of business. In this regard, most large banks have huge training programs dedicated to the development of new lending officers, who are taught how to assess the risks of borrowers and protect the banks assets and profitability. When credit standards are lowered, to attract more lucrative business, loan losses inevitably increase and create financial problems. In the past, risky loans to foreign countries, real estate investment trusts,

and mortgage companies have created severe problems for banks and ultimately caused some to fail. 2. Funding issues. Banks have balance sheets that carry huge amounts of assets. These assets are generally financed with a combination of short-term credit, bonds and equity. When a bank has problems refinancing its debt or repaying it, the bank may fail. Funding problems are sometimes related to general market conditions, but more often occur because investors lose faith in the bank for some reason. 3. Asset/liability mismatch. When a banks assets are unmatched to the liabilities supporting them, severe problems can arise. The simplest example is a floating rate liability financing a fixed rate loan. If interest rates rise, the bank pays greater and greater interest on its liability while the fixed rate loan pays the same rate. This mismatch can result in a huge loss. When a large portion of a banks portfolio is mismatched, the results can be devastating. 4. Regulatory issues. When American authorities blackball foreign banks, they may be forced out of business. This could occur because the bank is located in a rogue country or the bank could be engaged in illegal activities such as money laundering. 5. Proprietary trading. This newest and soon to be banned bank business created huge exposures for banks. For the most part, proprietary businesses generated large profits. But

regulators believe the possibility of large losses more than offsets the profit potential. Basically, the business included investment in unhedged derivatives, large blocks of marketable securities, exotic instruments and illiquid investments. 6. Non-bank activities. Over the years, banks have dabbled in non-traditional businesses looking to improve profitability. Experiments with real estate investment trusts, leasing companies, consumer finance companies and non-bank foreign subsidiaries were mostly unsuccessful and resulted in huge losses. 7. Risk management decisions. All large banks have extensive risk management groups that constantly quantify the absolute level of risk in the banks portfolios. They measure risk from every conceivable perspective including interest rate risk, foreign debt risk, investment risk and much more. When miscalculations occur in conjunction with a significant market movement, huge losses are possible. 8. Inappropriate loans to bank insiders. In the 1980s, many savings and loan banks made risky loans to directors and insiders for real estate and many other projects that were illconceived. These transactions resulted in huge losses and many bank failures. 9. Rogue employees. Rogue traders who are unable to cover losses and bypass internal controls have brought down a number of financial institutions or set them back significantly.

The JPMorgan hedging debacle may turn out to have some of these same characteristics. 10. Runs on banks. Depositors do not subject banks in the U.S. to runs because the Federal Deposit Insurance Company guarantees deposits up to a certain amount. But, in other places (like Europe), the risk still exists. If depositors all demand their money, a bank will likely fail. Banks are temperamental and sensitive businesses because they operate with significant leverage. For this reason, in the U.S. they are highly regulated and not permitted to engage in any number of financial activities. Additionally, banks currently are being subjected to higher capital ratios to offset the new risks they have assumed over the past 30 or 40 years. The result may be an inability to earn profits equal to those earlier in the decade. Most important is the fact that many banks are too big to fail and will receive federal support if they have serious problems. The response by regulators and Congress is the DoddFrank bill, the Volcker Rule and much more supervision.
A bank failure occurs when a bank is unable to meet its obligations to its depositors or [1] other creditors because it has become insolvent or too illiquid to meet its liabilities. More specifically, a bank usually fails economically when the market value of its assets declines to a value that is less than the market value of its liabilities. The insolvent bank either borrows from other solvent banks or sells its assets at a lower price than its market value to generate liquid money to pay its depositors on demand. The inability of the solvent banks to lend liquid money to the insolvent bank creates a bank panic among the depositors as more depositors try to take out cash deposits from the bank. As such, the bank is unable to fulfill the demands of all of its depositors on time. Also, a bank may be taken over by the regulating government agency if Shareholders Equity (i.e. capital ratios) are below the regulatory minimum.

The failure of a bank is generally considered to be of more importance than the failure of other types of business firms because of the interconnectedness and fragility of banking institutions. Research has shown that the market value of customers of the failed banks is adversely affected at the date of the [2] failure announcements. It is often feared that the spill over effects of a failure of one bank can quickly spread throughout the economy and possibly result in the failure of other banks, whether or not those banks were solvent at the time as the marginal depositors try to take out cash deposits from these banks to avoid from suffering losses. Thereby, the spill over effect of bank panic or systemic risk has a multiplier effect on all banks and financial institutions leading to a greater effect of bank failure in the economy. As a result, banking institutions are typically subjected to rigorous regulation, and bank failures [3] are of major public policyconcern in countries across the world.

Bank Profits

In the Money Market, to make a profit is simply buying and selling of moneyand short term securities which is also called borrowing and investing. So, tomake a profit, banks will borrow funds (accept deposits, buy money) at a lowerinterest rate than it will lend funds (sell money). The difference in theinterest rates is the profit made by banks.