FINANCIAL STATEMENTS

➢ It holds the key to determining the financial health of any organization. They
provide the financial information internal users (management) and external
users (government agencies, creditors, suppliers, customers, the public) need in
making decisions in relation to the business.

For accounting professionals in private accounting, preparation of Financial Statements

is the culmination of the “Accounting Cycle”.

FINANCIAL STATEMENTS

INCOME FINANCIAL CHANGES IN CASH

STATEMENT POSITION EQUITY FLOWS

revenues assets capital operation

expenses liabilities profit/loss investments

profit capital/equity drawing financing

The Statement of Financial Position, also known as the Balance Sheet, presents the
financial position of an entity at a given date. This statement contains details of the
assets, the liabilities and the equity of the organization. The balance sheet is structured
in a way that allows the assets to be equal to the liabilities and the equity reflecting the
Accounting Equation.

The purpose of the Statement of Financial Position is to help users of financial

statements to assess the financial health of an entity. When analyzed over several
accounting periods, balance sheets may assist in identifying underlying trends in the
financial position of the entity. It is particularly helpful in determining the state of the
entity's liquidity risk, financial risk, credit risk and business risk. When used in
conjunction with other financial statements of the entity and the financial statements of
its competitors, the Statement of Financial Position may help to identify relationships
and trends which are indicative of potential problems or areas for further improvement.
Analysis of the statement of financial position could therefore assist the users of
financial statements to predict the amount, timing and volatility of an entity's future
earnings.

Major Types of Accounts

A real account is a general ledger account that does not close at the end of the
accounting year. In other words, the balances in the real accounts are carried over to
become the beginning balances of the next accounting period. Real accounts are also
referred to as permanent accounts. The real accounts are the accounts on the Statement
of Financial Position.

The balance in a nominal account is closed at the end of the accounting year. As a
result, a nominal account begins each accounting year with a zero balance. Since the
balance does not carry forward to the next accounting year, a nominal account is also
referred to as a temporary account. The nominal accounts are almost always the
Income Statement accounts such as the accounts for recording revenues, expenses,
gains, and losses.

REAL ACCOUNTS NOMINAL ACCOUNTS

Permanent Temporary

Carried over to the next year Closed at the end of the accounting period

Statement of Financial Position Statement of Comprehensive Income

➢ Assets ➢ Income
➢ Liabilities ➢ Expense
➢ Capital/Equity
Components of the Statement of Financial Position

ASSETS

❖ Resources controlled by the entity as a result of past events and from which
future economic benefits are expected to flow to the entity.
❖ In simple words, an asset is something which a business owns or controls to
benefit from its use in some way. It may be something which directly generates
revenue for the entity (e.g. a machine, inventory) or it may be something which
supports the primary operations of the organization (e.g. office building). Assets
must be classified in the balance sheet as current or non-current depending on
the duration over which the reporting entity expects to derive economic benefit
from its use.

Current Asset

❖ A current asset is a company's cash and its other assets that are expected to be
converted to cash within one year of the date appearing in the heading of the
company's balance sheet.
❖ Current assets are usually presented first on the company's balance sheet and
they are arranged in their order of liquidity.
❖ Current assets are also a key component of a company's working capital and the
current ratio.

Non-Current Asset

❖ Noncurrent assets are also known as long-term assets.

❖ Noncurrent asset costs are allocated over the number of years the asset is used.
❖ Noncurrent assets are on the balance sheet under investment; property, plant,
and equipment; intangible assets; or other assets.

Contra Asset

❖ The contra asset account is related to another asset account. For example, the
contra asset account Allowance for Doubtful Accounts is related to Accounts
Receivable.
❖ The contra asset account Accumulated Depreciation is related to a constructed
asset(s), and the contra asset account Accumulated Depletion is related to natural
resources.
❖ The net of the asset and its related contra asset account is referred to as the
asset's book value or carrying value.
Assets are also classified in the statement of financial position on the basis of their
nature:

➢ Cash and cash equivalents include cash in hand along with any short term
investments that are readily convertible into known amounts of cash.
➢ Trade receivables include the amounts that are recoverable from customers
upon credit sales. Trade receivables are presented in the statement of financial
position after the deduction of allowance for bad debts.
➢ Inventories balance includes goods that are held for sale in the ordinary course
of the business. Inventories may include raw materials, finished goods and works
in progress.
➢ Tangible & Intangible: Non-current assets with physical substance are
classified as property, plant and equipment whereas assets without any physical
substance are classified as intangible assets. Goodwill is a type of an intangible
asset.

LIABILITIES

❖ A present obligation of the enterprise arising from past events, the settlement of
which is expected to result in an outflow from the enterprise of resources
embodying economic benefits.
❖ In simple words, liability is an obligation that a business owes to someone and its
settlement involves the transfer of cash or other resources. It could for instance
be a bank loan, which obligates the entity to pay loan installments over the
duration of the loan to the bank along with the associated interest cost.
Alternatively, an entity's liability could be a trade payable arising from the
purchase of goods from a supplier on credit.
❖ Liabilities must be classified in the statement of financial position as current or
non-current depending on the duration over which the entity intends to settle the
liability. A liability which will be settled over the long term is classified as non-
current (long-term debts) whereas those liabilities that are expected to be settled
within one year from the reporting date are classified as current liabilities.

Current Liability

❖ An obligation that will be due within one year of the date of the company's
balance sheet, and will require the use of a current asset or will create another
current liability

❖ Current liabilities are usually reported as a separate section of a company's

balance sheet. This allows readers to subtract their total from the company's total
amount of current assets in order to determine a company's working capital.
Non-current Liability

❖ Long-term debt generally refers to a company's loans and other liabilities that
will not become due within one year of the balance sheet date.

Liabilities are also classified in the statement of financial position on the basis of their
nature:

❖ Trade and other payables primarily include liabilities due to suppliers and
contractors for credit purchases. Sundry payables which are too insignificant to
be presented separately on the face of the balance sheet are also classified in this
category.
❖ Short term borrowings typically include bank overdrafts and short term bank
loans with a repayment schedule of less than 12 months.
❖ Long-term borrowings comprise of loans which are to be repaid over a period
that exceeds one year. Current portion of long-term borrowings include the
installments of long term borrowings that are due within one year of the
reporting date.
❖ Current Tax Payable is usually presented as a separate line item in the statement
of financial position due to the materiality of the amount.

CAPITAL/EQUITY

❖ The residual interest in the assets of the entity after deducting all the liabilities.
❖ Equity is what the owners of an entity have invested in an enterprise. It
represents what the business owes to its owners. It is also a reflection of the
capital left in the business after assets of the entity are used to pay off any
outstanding liabilities.

Equity is usually presented in the statement of financial position under the following
categories:

➢ Share capital represents the amount invested by the owners in the entity.
➢ Retained Earnings comprises the total net profit or loss retained in the business
after distribution to the owners in the form of dividends.
➢ Revaluation Reserve contains the net surplus of any upward revaluation of
property, plant and equipment recognized directly in equity.
The Statement of Financial Position can be presented in two forms:

REPORT FORM ACCOUNT FORM

most often used by businesses and accounting preferred by financial statement users as it is
professionals because it’s easier to read a visual representation of the accounting
especially when multiple comparative years equation
are presents

assets presented on top, liabilities below it assets presented on the left side and liabilities
and capital at the bottom and capital on the right

ASSETS ASSETS LIABILITIES

Current Assets Current Assets Current Liabilities
Non-current Assets Non-current Liabilities
TOTAL ASSETS Total Liabilities

LIABILITIES
Current Liabilities Non-current Assets
Non-current Liabilities CAPITAL
Total Liabilities
CAPITAL
TOTAL LIABILITIES & CAPITAL TOTAL ASSETS TOTAL LIABILITIES & CAPITAL

ASSETS

CURRENT NON-CURRENT

➢ Cash and cash equivalent Property, plant & ➢ Furniture & fixtures
➢ Trade and other securities equipment (PPE) Intangible assets
➢ Accounts receivables ➢ Building ➢ Goodwill
➢ Inventories ➢ Land ➢ Trademark
➢ Supplies ➢ Vehicles ➢ Patent
➢ Prepaid expenses ➢ Equipment ➢ Copyright

LIABILITIES

CURRENT NON-CURRENT

➢ Accounts payable or be due within one year ➢ Notes payable that will be
trade payables ➢ The principal portion of paid for
➢ Wages payable a long-term loan that ➢ more than a year
➢ Income taxes payable must be paid within one ➢ Bonds payable
➢ Interest payable year ➢ Mortgage payable
➢ Other accrued expenses ➢ Unearned revenues and
payable customer deposits
➢ Notes payable that will
 EQUITY

SOLE PROPRIETORSHIP CORPORATION

➢ Income ➢ Income ➢ Share premium

➢ Expenses ➢ Expenses ➢ Retained earnings
➢ Capital ➢ Share capital ➢ Treasury Shares
➢ Drawing ➢ Common shares ➢ Dividends
➢ Preferred shares