CHAPTER 9: FINANCIAL STATEMENTS PARTS:
After the preceding transactions have been analyzed and recorded in 1. Heading-contains three items:
the books of the business, reports are prepared for users. The reports that are a. Name of the business for which the statement is prepared
considered the primary means of communicating important accounting b. Title of the statement which is INCOME STATEMENT
information to interested users are called FINANCIAL STATEMENTS. c. Period covered by the statement (ex. For the Year Ended December
These are normally prepared at the end of an accounting period or upon 31, 200X )
request of the owner. 2. Body-contains the last two accounting elements:
According to PAS No.1, a complete set of financial statements include in the a. Revenues
following components: b. Expenses
a. Income Statement FORMS (based on the analysis of expenses):
b. Balance Sheet 1. Natural Presentation referred to as the Nature of Expenses Method. It calls
c. A statement showing either: for the aggregation of expenses according to their nature and are not
i. All changes in equity; or reallocated among the various functions within the enterprise.
ii. Changes in equity other than those arising from capital transactions 2. Functional Presentation referred to as the Function of Expense Method or
with owners and distributions to owners: Cost of Sales Method. It entails classification of expenses according to their
d. Cash Flow Statement; and function as part of cost of sales, distribution, selling and administrative
e. Accounting policies and Explanatory notes.' activities. This would be elaborated later in the discussion of accounting for
merchandising business.
INCOME STATEMENT Shown below is the Income Statement of Alpha Trucking making use of the
An Income Statement is a financial statement that shows the results of natural presentation.
operations of a business entity for a specific period of time. Many consider
this as the most important financial report because it shows whether or not a
business achieved its profitability goal of earning an acceptable income.
It is in the Income Statement where revenues and expenses are reported. If
revenues exceed expenses, a net income or net profit results; otherwise, there
would be net loss. For this reason, this financial statement is sometimes
known as Profit and Loss Statement and Statement of Operations.
The information is taken directly from the Capital column of the Example how to make Statement of Changes in Owner’s Equity
analysis of Transactions Table. The titles used for the revenue and
expense accounts are taken from the “type of Capital Transaction”
column.
Expenses are arranged according to amount (From largest to smallest)
or alphabetically, with Miscellaneous Expense as the last item.
STATEMENT OF CHANGES IN OWNER'S EQUITY
The Statement of Changes in Owner's Equity can be considered a
bridge between the Balance Sheet and the Income Statement. It is because the
net income or loss computed in the Income Statement is reported in the
Statement of Changes in Owner's Equity. The amount of capital at the end of
the period as shown in this statement is presented in the Owner's Equity BALANCE SHEET
section of the Balance Sheet. The Balance Sheet is a financial statement that shows the financial
PARTS position or condition of a business on a certain date. Financial position refers
1. Heading contains three items: to the economic resources that belong to a company and the claims (equities)
a. Name of the business for which the statement is prepared against those resources at a point in time. For this reason, it is often called the
b. Title of the statement which is STATEMENT OF CHANGES IN Statement of Financial Position. Actually, the Balance Sheet reports the
OWNER'S EQUITY assets, liabilities and capital of a business entity as of a specific date.
c. Period covered by the statement (ex. For the Year Ended, December PARTS:
31, 200X ) 1. Heading contains three items:
2. Body- contains the following: a. Name of the business for which the statement is prepared
a. Beginning Capital b. Title of the statement which is BALANCE SHEET
b. Net income (loss)
c. Date (As of a specific date)
c. Additional Investment
d. Withdrawals 2. Body - contains the first three accounting elements:
e. Ending Capital a. Assets
b. Liabilities
c. Capital
FORMS: STATEMENT OF CASH FLOWS
1. Account Form- assets are listed on the left side while the liabilities and The Statement of Cash Flows is a financial statement that summarizes the
capital are listed on the right side. The Total Assets should be in line with inflows and outflows of cash that are directly associated with the:
Total Liabilities and Owner's Equity a. Ordinary operating activities of the business enterprise, as in:
2. Report Form in a vertical form, assets are listed first then followed by the collections from customers, cash from sale of goods and services to
liabilities and capital. ( the sample below makes use of this form) customers, payments of operating expenses, payments of trade
Shown below is the Balance Sheet of Alpha Trucking making use of the obligations, etc.
report form presentation. b. Investing activities of the enterprise, such as: proceeds from the sale of
property, plant and equipment, payments for the purchase of property,
plant and equipment, etc.
c. Financing activities of the business enterprise, such as cash
investments and withdrawals of the owner or owners, proceeds from
borrowings, repayments of loans, etc.
PARTS:
Heading contains three items:
1. Name of the business for which the statement is prepared
2. Title of the statement which Is STATEMENT OF CASH FLOWS
3. Period covered by the statement
Body- contains the net cash flows from
1. Operating activities
2. Investing activities
3. Financing activities
Methods of computing net cash flow from operating activities:
DIRECT METHOD whereby major classes of gross cash receipts and
gross cash payments are disclosed; or
INDIRECT METHOD whereby net income or loss is adjusted for the
effects of transaction of non-cash nature, any deferrals or accruals of
past or future operating cash receipts or payments, and items of
income or expense associated with investing or financing cash flows.
As a simple guide, a summary of the treatments of commonly used accounts GUIDELINES FOR PREPARING FINANCTAL STATEMENTS
to convert the accrual basis net income to cash basis net income, which is the 1. The financial statements are prepared in the following order:
essence of the indirect method, is presented as follows. a. Income Statement
Shown below is the Statement of Cash Flows of Alpha Trucking making use b. Statement of Changes in Owner's Equity
of the direct method of presenting cash flow from operating activities: C. Balance Sheet
d. Statement of Cash Flow
2. When financial statements are handwritten, blank lines are not usually left
between the major sections. These would prevent any unscrupulous insertions.
3 The headings must be properly centered.
4. A peso sign (P) is placed before the first amount of a column and an
amount after a single-rule (single underline indicating that the amounts above
have been subjected to a mathematical operation). A peso sign is also placed
before the amount after a double-rule (double underline indicating that the
amount is final or no other amounts are indicated below it)
5. Each mathematical operation is completed under separate columns. A
maximum of three to four columns may be used. Don't forget to single-rule to
show that the operation has been completed.
6. Double-rule (to place a double underline under an amount) totals to show
that all work have been completed, checked and verified.
7. In the income statement, arrange expenses from the highest to the lowest
amount except for miscellaneous expense that should be listed at the last
regardless of the balance.
8. The major classifications of accounts are written at the extreme left edge of
the report while the amounts are written at the last money column. Any details
or break down of each major classifications are indented at least ½ inch to the
right, while the amounts are also indented one column to the left. (See
presentation of current assets on balance sheet)
9. Totals of breakdown can be written on the right side of the last item in the
column added (see total expenses on income statement), or it can be written
on the next line with a proper description (see total current assets on balance If we understand where a company stands financially at two points in
sheet) time, and if we understand the changes that occurred during the intervening
period in terms of the company's profit-seeking activities (income statement),
RELATIONSHIPS AMONG THE FINANCTIAL STATEMENTS transactions affecting capital (statement of changes in owner's equity), and its
As our discussion of Alpha Trucking indicates, the balance sheet, the cash activities (statement of cash flows), we know a great deal about the
income statement, the statement of changes in owner's equity and the company that is valuable in assessing its future cash flows information that is
statement of cash flows are all based on the same transactions, but they useful to investors, creditors, management, and others.
present different "views of the company. They should not be thought of as Because the balance sheet, income statement, statement of changes in
alternatives to each other; rather, all are important in terms of presenting key owner's equity, and statement of cash flows are derived from the same
financial information about the company. underlying financial information, they are said to "articulate", meaning that
The diagram in Figure 3-1 explains how the four financial statements they relate closely to each other.
relate the period of time they cover. The horizontal line represents a time-line The balance sheet represents an expansion of the accounting equation
example, a month or a year). At the beginning and ending points in time, and explains the various categories of assets, liabilities and owner's equity.
company prepares a balance sheet that gives a static look in financial terms The income statement explains the changes in financial position that result
where the company stands. The other three financial statements – the income from profit. The generating transactions in terms of revenue and expense
statement, statement of changes in owner's equity and the statement of the transactions. The resulting number, net income, represents an addition to the
cash flows - cover the intervening period of time between the two balance owner's equity in the enterprise. The statement of changes in owner's equity
sheets and explain important changes that occurred during the period. explains the increases and decreases in the capital account. The statement of
cash flows explains the ways cash increased and decreased during the period
in terms of the enterprise's operating, investing and financing activities. In this
illustration, the cash paid for investing activities (P175,000) represents the
property, plant and equipment balance. These relationships among the
financial statements are called articulation.
ROLE OF MANAGEMENT IN THE PREPARATION OF
ETNANCTAL STATEMENTS
The proprietor or manager has the primary responsibility for preparing
and presenting the financial statements of the business enterprise. He reviews
these statements and gives the final approval before they are released to any
government agency, creditor or other financial statement user. He decides
what other financial information should be gathered and presented in order to good name or reputation of the business enterprise, the continuous
meet the financial information needs of the decision-makers. patronage of contented customers, the invaluable skills of highly
The proprietor or manager is the one who is principally interested trained workers, the secret manufacturing processes that were
information contained in the financial statements, He has the advantage of perfected over the years, and the loyalty of the employees. These asset
having immediate access to additional management and financial information items are not recognized since their monetary worth cannot be
that is helpful in carrying out his various planning, decision-making, and objectively determined. The generally accepted accounting practice is
control responsibilities. to record and report only those assets that were acquired in a market
LIMITATIONS OF THE FINANCIAL STATEMENTS transaction.
External users should understand that there are some constraints in manner of Another constraint that limits the usefulness of the balance sheet is that
preparing and presenting the traditional general-purpose financial statements. the time value of money is not taken into consideration. Many of the
These constraints would somehow limit the usefulness or statements. Among receivables and payables that are included in the balance sheet are
them are: reported at their future monetary value instead of their present value as
The assets and liabilities are usually recognized in the financial of the reporting date.
statements at their acquisition costs, known as historical costs. The Decision makers should be aware of both the usefulness and limitations of
inflation, information about historical costs is not as useful as the prepared financial statements. They should remember that the prepared
information about current values. Decision makers want to know the general purpose financial statements are not instant tools for decision making.
current values of the assets and liabilities of the business enterprise. They must also have a clear understanding of the accounting elements
The traditional financial statements give very limited information reported in the balance sheet and income statement. Knowledge of accounting
about current values. would give them a tar deeper appreciation for the information contained in the
Under accrual basis of accounting, as usually used by profit-oriented financial reports.
business enterprises, the use of estimates cannot be avoided. Estimates
are used in determining values that would be assigned to certain assets,
liabilities, income and expenses. The decision makers may doubt the
fairness of the financial statements since estimates are used in some
areas related to the valuation of the balance sheet items and in the
computation of profit of the period.
The traditionally prepared balance sheet does not include some assets
that have financial value to the business enterprise. Examples of assets
that are not reported in a traditionally prepared balance sheet are: the
THE ACCOUNT On July 1 of the current year, Dr. Edgar Viray, a doctor opened a clinic by
An account is an accounting device used to record increases and investing, P20,000 cash and P12,000 equipment. During the first month, he
decreases in the different elements of accounting caused by the business completed the following transactions:
transactions that have transpired. It is a means of accumulating in one place all 01-Bought additional equipment from Medic's Industries on credit, P8,000
the information about changes in specific financial statement items, it consists 02 Bought clinic supplies for cash, P2,900.
of three parts: the account title, the left or debit side, and the right or the credit 02 Purchased furniture for cash, P4,200.
side. 03 Paid taxes and other licenses, P1,200.
The simplest form of an account looks like a big letter T, thus it is 05- Professional services rendered for cash, P3,200
called a T-Account". It appears as follows: 06 Paid Medic's Industries in full.
08-Edgar Viray increased his investment in cash, P10,000
10-Professional services rendered for cash, P 2,000.
12- Bought supplies for the clinic from Sol Medical Supplies on credit, P1,500
14 Professional services rendered to Rufino Gomez on credit, P 500.
17 Paid the bill of Ace Laboratory for experimental services rendered, P250
17-Professional services rendered fir cash, P800
The T account is a simple and direct means of recording transactions. 19 Paid telephone bill for the month, P210
However, in practice, a somewhat more complicated form of the account is 21 Edgar Viray withdrew P1,000 for his personal use
needed in order to record more information. 24-Billed Emma Daza for professional services rendered on account, P1,200
24 Collected the account of Rufino Gomez in full.
24 Professional services rendered for cash, P 2,400
26 Bought clinic equipment from Medic's Industries on credit, P1,000
27 Paid light and water for the month, P450.
29 Paid Sol Medical Supplies In full.
30 Paid P200 for repair of the clinic equipment
31 Paid the salary of the receptionist and assistant for the month, P4,200
31 Professional services rendered for cash, P1,100
31 Took an inventory of the supplies in the clinic and determined that 2/5 is
still unused.
Exercises- JOURNALIZING & POSTING REQUIRED:
a. Prepare the journal entries to record the above transactions. Use GENERAL JOURNAL
account titles found in the general ledger. Date Particulars PR Debit Credit
b. Post the journal entries with the use of the given ledger accounts.
Jul. 1 Cash 200 0 0
Indicate the sources of posting Edgar Viray, Capital 200 0 0
C. Prepare a trial balance as of July 31. (Use a pencil in footing the debit To record initial investment.
and credit postings of each ledger account in getting the account balance).
d. Prepare an income statement, statement of changes in owner’s equity,
and a balance sheet.
Account to be used:
Account Number Account Title
0010 Cash
0030 Accounts Receivable-Rufino Gomez
0040 Account Receivable – Emma Daza
0050 Equipment
0070 Furniture and Fixtures
0100 Accounts Payable- Medic’s Industries
0110 Accounts Payable- Sol Medical Supplies
0150 Edgar Viray, Capital
0160 Edgar Viray, Drawing
0200 Professional Fees
0240 Clinic supplies expense
0250 Taxes and Licenses
0260 Laboratory Expense
0270 Communication Expense
0280 Utilities Expense
0290 Repairs Expense
0300 Salaries and Wages
Use your Columnar Book.
GENERAL LEDGER TRIAL BALANCE
CASH ACCOUNT NO. 010
Dr. Edgary Viray Clinic
Date Particulars PR Debit Date Particulars PR Credit
Trial Balance
Jul 1 Cash 20,000 July 30, xxx
Account Title Debit Credeit
Accounts Receivable- Rufino Gomez ACCOUNT NO. 030
Date Particulars PR Debit Date Particulars PR Credit
PUT THIS ON COLUMNAR BOOK
Income Statement
Dr. Edgary Viray Clinic
Income Statement
For the month Ended July 31, xxxx
Continue with your ledger book.
PUT THIS ON COLUMNAR BOOK
STATEMENT OF CHANGES IN OWNER’S EQUITY
Dr. Edgary Viray Clinic
Statement of Changes in Owner's equity Balance Sheet
For the month Ended July 31, xxxx
Edgar Viray, Capital- beginning 20,000 Dr. Edgary Viray Clinic
Add: Net Income Balance Sheet
Total As of July 31,xxxx
Less: Edgar Viray, Drawing Assets
Edgar Viray, Capital- end Current Assets: Debit Credit
Cash
Accounts Receivables
Supplies
Total Current Assets
Non- Curent Assets
Equipments
Liabilities and Owner's Equity
Current Liabilities:
Accounts payable
Total Liabilities and Owner's Equity:
EACH IMAGE IS THE PREFORMA ON HOW TO
RECORD THE TRANSACTIONS. PLEASE BE
FOLLOWED ACCCORDINGLY AND CONTINUE TO
RECORD THE TRANSACTIONS.
