[FDNACCT] Unit 3: Financial Statements

Financial Statements

General purpose reports that provide financial information about the reporting entity’s [business] economic resources [assets], claims against the entity [liabilities and owner’s equity], and changes in those economic resources and claims [revenues, expenses, owner’s capital, owner’s drawings] that is useful to primary users in making decisions relating to providing resources to the entity

Financial Statements

To provide financial information about the reporting entity’s assets, liabilities, equity, revenues, and expenses that is useful to users of financial statements in assessing the prospects for future net cash inflows to the reporting entity and in assessing management’s stewardship of the entity’s economic resources (includes protecting the company’s assets against price changes and technological changes as well as compliance with laws, regulations, and contracts)

Financial Statements

records financial information from a specified period of time (Information about transactions and other events that have occurred after the end of the reporting period is provided if that information is necessary to meet objectives)

Assets

A present economic resource controlled by the entity as a result of past events

Economic resource

the right that has the potential to produce economic benefits

Control

the present ability to direct the use of the economic resource and obtain the economic benefits that may flow from it

• no other party controls that asset

• the right to deploy that asset in its activities

• ability to enforce legal rights on that asset

Liabilities

A present obligation of the entity to transfer an economic resource as a result of past events

Obligation

a duty or responsibility that an entity has no practical ability to avoid and owed to another party/parties (e.g., person, another entity, a group of people / a group of entities, society at large)

Owner’s Equity

• The residual interest in the assets of the entity after deducting all its liabilities

• Owner’s financial interest in a business

• Net worth

Revenue

Increases in assets, or decreases in liabilities, that result in increases in equity, other than those relating to contributions from holders of equity claims

Expenses

Decreases in assets, or increases in liabilities, that result in decreases in equity, other than those relating to distributions to holders of equity claims

Statement of Financial Position

A position statement that reports the financial condition (financial standing; financial strength) of an entity at the end of the period and presents an organized list of assets, liabilities, and equity

Statement of Financial Position

Provides information useful to assess the entity’s future cash flows, liquidity, and long-term solvency

Report
Account

2 Forms of Statement of Financial Position

Account Form

form of Statement of Financial Position when assets are listed on the left side and liabilities and equity on the right side of the report

Report Form

form of Statement of Financial Position when assets are shown on top of liabilities and equity section of the report

Operating Cycle

time between the acquisition of assets for processing and their realisation in cash or cash equivalents

1. Use cash to acquire inventory

2. Prepare inventory for sale to customers

   (Including the production process for manufacturing business)

3. Deliver inventory to customer

4. Collect cash from customer

Current Assets

• assets that are expected to be realized (converted to cash) or intended to be sold or to be consumed within the entity’s normal operating cycle

• held primarily for the purpose of trading

• expected to be realized within twelve months after the reporting period

• cash or cash equivalent unless the asset is restricted from being exchanged or used to settle a liability for at least twelve months after the reporting period

Cash

on hand and in banks that is available for use in the operations of the business

Cash equivalents

highly liquid investments that can be quickly converted into cash, not subject to significant risk of changes in value, and must be held for the purpose of ‘meeting short-term cash commitments’ (money markets funds: treasury bills, commercial papers, certificate of deposits)

Accounts receivable

receivable resulting from a company’s normal trade, that is, providing services or selling goods on account [on credit; on charge account; on open-account credit

Notes receivable

receivable with a written promissory note from another party from a company’s normal trade, usually requiring an additional receipt of explicit interest

Advances to employees

cash advances given to employees to be liquidated in the form of service

Loans receivable

loans given by the company to individuals and other entities

Accrued revenue

revenue already earned, but not yet received (recorded as part of adjusting entries at period-end)

Inventory

• goods that are purchased and held for resale

• merchandise purchased by a retailer and held for resale

• land and other property held for resale

• raw materials and factory supplies awaiting use in the production process

• work in progress being produced by the entity

• finished goods produced

Prepaid Expense

expense paid in advance, thus creating benefits, but not yet used (includes office supplies)

Non-current Assets

residual by definition; all other assets

Property, plant, and equipment

• tangible items that are held for use in the production or supply of goods or services, for rental to others (except for land and building), or for administrative purposes

• are expected to be used during more than one period

• (e.g., Land, Land improvements, Building, Machinery, Vehicles, Furniture and fixtures, Fittings, Office equipment, Bearer plants)

Current Liabilities

• liabilities that are expected to be settled in the entity’s normal operating cycle

• owed primarily for the purpose of trading

• are due to be settled within twelve months after the reporting period

• do not have the right at the end of the reporting period to defer settlement of the liability for at least twelve months after the reporting period

Accounts payable

payable resulting from a company’s normal trade, that is, buying assets and goods on account

Notes payable

payable with a written promise to pay cash at some future date (legal IOUs), usually requiring an additional payment of explicit interest

Accrued expense

expense already used, but not yet paid (recorded as part of adjusting entries at period-end)

Loans payable – current portion

a portion of long-term Loans Payable that is payable within the next year

Unearned Revenue

revenue received in advance, but not yet earned

Non-Current Liabilities

residual by definition; all other liabilities

Loans payable – noncurrent portion

long-term Loans Payable that is not yet due within the next year

Long-term notes payable

long-term promissory notes that is not yet due within the next year

Mortgage payable

long-term promissory note secured by an asset whose title is pledged to the lender

Assets = Liabilities + Owner’s Equity

Basic Accounting Equation

Statement of Profit & Loss

A change statement that summarizes the profit-generating transactions that changes the owner’s equity for the period and reports an entity’s financial performance, that is, its net profit or net loss, for the period

Statement of Profit & Loss

Provides information useful to assess the entity’s profitability, return on owner’s investment, its operations and various functions and predicting future expenses and cash outflows

Nature of expense method
Function of expense method

2 Forms of Statement of Profit & Loss

Nature of expense method

Classifies expenses within profit or loss according to their nature

Function of expense method

classifies expenses by their function within the entity:

• Cost of sales

• Distribution cost

• Administrative costs

• Finance costs

Cost of sales

cost of providing service/cost of goods sold

Distribution cost

expenses related to selling and distributing the goods to the customers

Administrative costs

expenses related to the general administration of the business

Finance costs

includes interest expense

Income

Inflow of resources resulting from services provided or goods sold to customers

Service revenue/Professional fees

revenue from services provided to clients

Sales

revenue from sale of goods to customers

Other income

revenue from sources other than the main line of business

1. Interest income

2. Rent income

3. Commissions income

4. Income from investments

5. Gain on sale of plant, property, equipment item

Expenses

Outflow of resources incurred for generating revenues

Statement of Changes in Equity

A change statement that discloses the events that caused the owner’s equity to change for the period

Statement of Changes in Equity

Provides information useful to understand the transactions with owners in their capacity as owners, showing separately contributions by and distributions to owners

Income and expense
Contributions
Distributions

3 Items Affecting Equity

Capital

financial investment of the owner

Capital employed

the long-term source of financing, which includes both the capital of the owner and non-current liabilities

Working capital

refers to net current assets (Current assets - Current liabilities)

Capital expenditures

expenditures for purchase of non-current assets

Capital budgeting

the process of investment appraisal

Statement of Cash Flows

A change statement disclosing the events that caused cash to change for the period

Statement of Cash Flows

Provides information useful to assess the entity’s ability to generate cash and cash equivalents and to utilize those cash flows

Notes to Financial Statements

present information about the basis of preparation of the financial statements and the specific accounting policies used

Notes to Financial Statements

disclose the information required by IFRSs that is not presented elsewhere in the financial statements

Notes to Financial Statements

provide information that is not presented elsewhere in the financial statements, but is relevant to an understanding of any of them

Notes to Financial Statements

integral part of a company's financial statements

Financial Position

The status of a company’s financial strength as of a specific date

Natural form

The form of Statement of Profit or Loss that is normally prepared by a service business because of its simplicity

liquidity

The Statement of Financial Position will arrange current assets according to ______

Financial performance

The ability of a company to generate profits for a given period