UNDERSTANDING FINANCIAL STATEMENTS

Issues Discussed

1. Process of Accounting through Illustration2. Financial Statements

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Process of Accounting

• Identify the Accounts/items involved in a transaction

• Classify the type of Account/item Involved in a transaction (Real, Nominal, Personal)

• Apply the rule and enter the transaction• (Journal, Ledger, Trial Balance & Final

Accounts)

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Rules of Accounting

• What Comes in Dr., What goes Out Cr.• Receiver Dr., Giver Cr.• All expense/Losses Dr., All Incomes Cr.

• Exercise

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Exercise

• Mr. Rajesh Rai Started a new business with an initial investment of 10,00,000 Rs.

• He Deposited 80% money in a bank account and the rest was retained by him in business.

• He went on to purchase Machines worth Rs. 3,50,000 and Office furniture of 1,00,000. The payment was made through cheque.

• Mr. Rajesh ordered his supplier Mr. Sohan to provide raw material, worth Rs. 5,00,000. The order was placed on credit condition.

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Exercise

• During the process, Mr. Rajesh hired 5 workers who were paid wages of 50,000 in total in cash.

• After the goods were ready, a part of it was sold in retail market worth Rs. 3,50,000 on cash and Rs. 3,00,000 on credit to Mr. Sanjay.

• The amount received from retail market was deposited in bank

• A cheque was issued to Mr. Sohan for 4, 95,000 in full settlement.

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Exercise

• Amount equal to Rs. 50,000 was spent on promotion.

• A cheque of Rs. 2,99,000 was received from Mr. Sanjay in full and was deposited in bank.

• The other expenses were Stationary 10,000 and Administrative Rs. 45,000.

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SolutionS.No.   A/C name A/C Type Rule Explanation

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Mr. Rajesh Rai Started a new business with an initial investment of 10,00,000 Rs.  

Capital A/c Personal Cr. The giver Rajesh is Giver, so Credit 

Cash A/c RealDr. What comes in

 Cash is coming, so Dr. 

2 

He Deposited 80% money in a bank account and the rest was retained by him in business. 

Bank A/c Personal Dr. the receiver

 Money Received by Bank, so Dr. 

Cash A/c Real Cr. What goes outCash is going, So Cr.

3  

He went on to purchase Machines worth Rs. 3,50,000 and Office furniture of 1,00,000. The payment was made through cheque.

Machine A/c Real Dr. what comes inMachine is Coming, So Dr.

Furniture A/c Real Dr. what comes inFurniture is Coming, So Dr.

Bank A/c Personal Cr. The giverBank is Giver, So Cr.

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Mr. Rajesh ordered his supplier Mr. Sohan to provide raw material, worth Rs. 5,00,000. The order was placed on credit condition. Sohan A/c Personal Cr. The giver

Sohan is Giver, So Cr.

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SolutionS.No.   A/C name A/C Type Rule Explanation

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During the process, Mr. Rajesh hired 5 workers who were paid wages of 50,000 in total in cash. 

Wages A/c Nominal All Exp. Dr.Wages are Exp. So Dr.

Cash A/c Real Cr. What goes outCash is going, So Cr.

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After the goods were ready, a part of it was sold in retail market worth Rs. 3,50,000 on cash and Rs. 3,00,000 on credit to Mr. Sanjay. 

Sales A/c Real Cr. What goes outGoods are Going, So Cr.

Sanjay A/c Personal Dr. the receiverSanjay is Receiver, So Dr.

Cash A/c Real Dr. what comes inCash is Coming, so Dr.

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The amount received from retail market was deposited in bank.

Bank A/c Personal Dr. the receiverBank is Receiver, So Dr.

Cash A/c Real Cr. What goes outCash is going, So Cr.

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A cheque was issued to Mr. Sohan for 4, 95,000 in full settlement. 

Sohan A/c Personal Dr. the receiverSohan is Receiver, So Dr.

Discount Received A/c Nominal Cr. All Incomes

Discount is Income, So Cr.

Bank A/c Personal Cr. The giverBank is Giver, So Cr.

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SolutionS.No.   A/C name A/C Type Rule Explanation

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Amount equal to Rs. 50,000 was spent on promotion. 

Advertisement A/c Nominal All Exp. Dr.

Advt. Is Exp., So Dr.

Cash A/c RealCr. What goes out

Cash is going, So Cr.

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A cheque of Rs. 2,99,000 was received from Mr. Sanjay in full and was deposited in bank. 

Sanjay A/c Personal Cr. The giverSanjay is Giver, So Cr.

Bank A/c Personal Dr. the receiverBank is Receiver, So Dr.

Discount Allowed A/c Nominal All Exp. Dr.

Discount is Loss, So Dr.

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The other expenses were Stationary 10,000 and Administrative Rs. 45,000.  

Stationary A/c Nominal All Exp. Dr.

Stationary is Exp., So Dr.

Administrative Exp. A/c Nominal All Exp. Dr.

Admn. Exp is Dr.

Cash A/c RealCr. What goes out

Cash is going, So Cr.

Ledger Posting & Trial Balance

• After Journal entry the process is followed by Ledger Posting and Preparation of Trial Balance.

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Financial Statements

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Mandatory Financial Statements

• For Corporate (Vertical)– Statement of Financial Position i.e. Balance Sheet– Income Statement– Statement of Cash Flows

• For Individual/HUF/Partnership– Statement of Financial Position i.e. Balance Sheet– Trading Account– Profit and Loss Account

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Objectives of Financial Statement

• Useful for investment decisions. (All financial statements)

• Comprehensible. (All financial statements)• About economic resources and claims on resources

(Balance Sheet).• About financial performance during a

period (Income Statement).• About cash flows (Statement of Cash Flows).

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Balance Sheet

• Point in time or status report.• More formally, Statement of Financial

Position.• Contains (and shows equality of amounts of):– Assets.– Liabilities and Owners’ equity.

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Income Statement

• Summary of All the incomes and expenditure during the financial year.

• The net difference is profit/loss

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Annual reports are widely distributed to shareholders and are provided to domestic researchers upon request.

The annual report of a company is generally available on website also.

Annual Report

Motive to create and distribute annual report is

• Present an overview of the company, managements discussion of the company's preceding year performance and the company’s plan for the future.

• Report the company’s financial performance for the previous year, and compare performance to prior years.

• Fulfill part of their obligations for public financial reporting mandated by the primary securities regulatory body.

Content

Mandatory contentsMandatory contentsa. Income Statementb. Balance sheetc. Cash flow statementd. Statement of accounting Policiese. Auditors Reportf. Management Discussiong. Notes to the Accountsh. Selected Financial Data

Cont…

OptionalOptional• Financial Highlights• Letter to stockholders• Corporate message• Board of directors and management• Stockholder information

Financial Statement Format for Individual/HUF/Partnership

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Particulars Amount Particulars Amount

To PurchaseTo Opening StockTo wagesTo Fuel, Power,To Factory LightTo Carriage inwardTo FreightTo Octroi(All expense related to purchase and all direct expense i.e. the expense related to manufacturing)To Gross Profit (if Cr. Side is More)

By salesBy Closing Stock *(if given outside the trial balance)By Gross Loss (if Dr. Side is More)

Total Total

Trading A/C of ………………………………………year ending 31st March 2012.Dr.

Cr.

Also Note= Purchase + all Direct Expense + opening Stock- Closing Stock= Cost of Goods Sold (COGS)

And Sales- COGS= Gross Profit

P&L A/C of ………………………………………year ending 31st March 2012.Dr.

Cr.

Particulars Amount Particulars AmountTo Gross Loss(Cross transfer from Trading Account)To salaryTo Repairs To AdvertisementTo Discount AllowedTo rentTo Bad debtsTo Office expense(All indirect expense i.e. all expense related to office and administration, sales)To Net Profit ( If Cr. Side is More)

By Gross profit (Cross transfer from Trading Account)By Rent ReceivedBy Commission receivedBy Discount ReceivedBy Net Loss (If Dr. Side is More)

Total Total

Liabilities Amount Assets AmountCapital+ Net Profit/Loss-DrawingsBank LoanCreditorsBills Payable(all liabilities Short and long term)

MachineFurnitureBuildingEquipmentClosing stock* CashBank balanceDebtors(all short and long term assets

Total (always equal) Total (always equal)

Balance Sheet As on 31st March 2012

Note- We do not write Dr. and Cr. Side on Balance Sheet.We do not use To and By word in Balance Sheet

Note- The total will be equal if the given trial balance is correct. If trial balance Dr side and Cr side has a difference, balance sheet will also have the same difference.

Financial Statement Format for Companies

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STATEMENT OF PROFIT AND LOSS

Profit and Loss statement for the year ended 31st March, 2012

Particulars Note NoFigures as at the end of current reporting

period

Figures as at the end of previous reporting

period       I. Revenue from operations      II. Other Income      

III. Total Revenue (I +II)     IV. Expenses:      Cost of materials consumed      Purchase of Stock-in-Trade      Changes in inventories of finished goods, work-in-progress and Stock-in-Trade      Employee benefit expense      Financial costs      Depreciation and amortization expense      Other expenses      

Total Expenses            V. Profit before exceptional and extraordinary items and tax (III - IV)           VI. Exceptional Items             VII. Profit before extraordinary items and tax (V - VI)             VIII. Extraordinary Items             IX. Profit before tax (VII - VIII)             X. Tax expense:       (1) Current tax       (2) Deferred tax             XI. Profit(Loss) from the perid from continuing operations (VII-VIII)           XII. Profit/(Loss) from discontinuing operations             XIII. Tax expense of discounting operations             XIV. Profit/(Loss) from Discontinuing operations (XII - XIII)             XV. Profit/(Loss) for the period (XI + XIV)             XVI. Earning per equity share:             (1) Basic             (2) Diluted      

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BALANCE SHEET

Balance Sheet as at 31st March, 2012

Particulars Note NoFigures as at the end of current reporting period

Figures as at the end of previous reporting

period       I. EQUITY AND LIABILITIES             (1) Shareholder's Funds      (a) Share Capital      (b) Reserves and Surplus      (c) Money received against share warrants      (2) Share application money pending allotment            (3) Non-Current Liabilities      (a) Long-term borrowings      (b) Deferred tax liabilities (Net)      (c) Other Long term liabilities      (d) Long term provisions             (4) Current Liabilities      (a) Short-term borrowings      (b) Trade payables      (c) Other current liabilities      (d) Short-term provisions      

Total     II.Assets      (1) Non-current assets      (a) Fixed assets           (i) Tangible assets           (ii) Intangible assets           (iii) Capital work-in-progress           (iv) Intangible assets under development      (b) Non-current investments      (c) Deferred tax assets (net)      (d) Long term loans and advances      (e) Other non-current assets             (2) Current assets      (a) Current investments      (b) Inventories      (c) Trade receivables      (d) Cash and cash equivalents      (e) Short-term loans and advances      (f) Other current assets      

Total