Task 4

Explain the purpose of the main financial statements and describe the differences between the formats of financial statements for different types of businesses.
There are three main financial statements which are commonly called these “accounts”: a balance sheet, a profit and loss account, and a cash flow statement. These statements are built for different purposes based on various types of businesses. • Balance sheet A balance sheet is a statement which shows out the assets , liabilities, capital or shareholders’ equity of a business at a specific moment in time. Balance sheet generally gives informations about the finance structure of a company. One of the main aims of its description is consistency between one accounting period and the next. Moreover, it helps the company to predict the funds which would be used in the future. It could also reflect the capacity of the company to raise more capital. Balance sheets are nearly always presented in the format shown below, however because of various types of business there can be some differences in presentation of each balance sheet. The left half of balance sheet which represents the net assets of the company will be alike for all the types of business. However, the right half which represents the owner(s) stake in the business is different based on which kind of business belongs to. For a sole trader, the profits (or losses) are often transferred to the capital which belongs to only one person, so it is simply shown in balance sheet a line as below: Capital 30,000 For a partnership, stakes of each partners will be presented by capital accounts based on their long-term investment or profit shares, salaries, interest on capital accounts, etc. In case the company is a partnership, the capital might be represented as follow: Partnerships’ capital Capital accounts Capital accounts - Fred - Sue - Billy - Fred - Sue - Billy £ 2,000 3,000 4,000 3,500 1,850 650 15,000

(Source: Course book, pg. 100) For a limited company, the owners are shareholders, Example of balance sheet format
Example Company Balance Sheet December 31, 2008

Current Assets Cash Petty Cash Temporary Investments Accounts Receivable-net Inventory Supplies Prepaid Insurance Total Current Assets Investments Property, Plant & Equipment Land Land Improvements Buildings Equipment Less: Accum Depreciation Prop, Plant & Equip – net Intangible Assets Goodwill Trade Names Total Intangible Assets Other Assets Total Assets $ 2,100 100 10,000 40,500 31,000 3,800 1,500 89,000 36,000 5,500 6,500 180,000 201,000 (56,000) 337,000 105,000 200,000 305,000 3,000 $770,000

Current Liabilities Notes Payable Account Payable Wages Payable Interest Payable Taxes Payable Warranty Liability Unearned Revenues Total Current Liabilities Long-term Liabilities Notes Payable Bonds Payable Total Long-term Liabilities Total Liabilities $ 5,000 35,900 8,500 2,900 6,100 1,100 1,500 61,000 20,000 400,000 420,000 481,000

Common Stock Retained Earnings Less: Treasury Stock Total Stockholders’ Equity Total Liabilities & Stockholders’ Equity 110,000 229,000 (50,000) 289,000 $770,000


• Profit and loss account ( or income statement) A profit and loss account is a record of business’s revenues and expenses over a given period of time, such as a year, quarter, month, etc. A profit and loss account includes an estimate of the company’s sales, cost, increase or loss in intangible value, taxes, outstanding shares, and how the resulting net profit is divided up to shareholders. The main purpose of a profit and loss account is to figure out management whether the company made or lost money during the given period. Besides that, investors may base on these statement to make decisions.

About differences between the format of income statement for various types of businesses, it is said that the non-incorporated businesses (partnerships and sole traders) can present the statement as they want while the limited companies have to use particular wordings and layouts according to their activities. In a P&L of partnerships or sole traders will not appear corporation tax and dividends. Partnerships and sole traders do not have to pay corporation tax. They only have to pay their personal income tax on their share of the profits, but this is not written on the business statements. They do not have to pay dividends also because dividends are paid for shareholders, but there are no shareholders in partnerships or sole traders. The table below is an example of income statement:
Company A Income statement January 1, 20X6 to December 31, 20X6 Income Gross Sales Less returns and allowances Net sales Cost of Goods Merchandise Inventory, January 1 Purchases Freight Charges Total Merchandise Handled Less Inventory, December 31 Cost of Goods Sold Gross Profit Interest Income Total Income Expenses Salaries Utilities Rent Office Supplies Insurance Advertising Telephone Travel and Entertainment Dues & Subsriptions Interest Paid Repairs & Maintenance Taxes & Licenses Total Expenses Net income 346,400 1,000 345,400 160,000 90,000 2,000 252,000 100,000 152,000 193,400 500 193,900 68,250 5,800 23,000 2,250 3,900 8,650 2,700 2,550 1,100 2,140 1,250 11,700 133,290 $60,110

(http://www.smallbusinessnotes.com/operating/finmgmt/financialstmts/incomeexample.h tml)

Cash flow statement

A cash flow statement provides information on the change in a business’s cash activities such as its operating, investing and financing activities and tantamount cash during the same period of time as income statement. The purposes of cash flow statement include: - to assess the company’s ability to generate positive cash flows in the future - to assess its ability to meet its obligations to service loans, pay dividends etc - to assess the reasons for differences between reported and related cash flows - to assess the effect on its finances of major transactions in the year.

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