Week 3 – Lecture

Financial statements for decision-making

Basic financial statements
Accounting is an information system:
- Designed to communicate financial information
- To interested users
- For making economic decisions
Financial statements are the outcome of the accounting process:
1. Identification  transactions
2. Measurement  quantification in monetary terms
3. Recording  classification/summarisation (posting to journals/ledgers)
4. Communication  accounting reports and analysis and interpretation
Are the primary information source for users and are useful for many decisions.

The Balance sheets

Also known as the statement of financial position
- Shows assets, liabilities and equity of the entity at a specific point in time.
- Represents the accounting equation; Assets = liabilities + equity
- Alternative formats (same information): Account format and narrative format
Assets  Resources controlled by the entity as a result of past transactions or events from
which future economic benefits are expected to flow to the entity
Current assets (short term assets)
- Assets expected to be converted to cash or used in the business within the year
- Listed in order of liquidity
- Examples:
o Cash
o Short-term investments
o Accounts receivable
o Inventories
o Prepaid expenses
o Supplies
Non-current assets (long-term assets)
- Assets expected to be realised for longer than one year
o Property, plant and equipment
o Land
o Buildings
o Machinery and equipment
o Furniture and fixtures
Liabilities  present obligations of an entity arising from past transactions or events, the
settlement of which is expected to result in an outflow of resources from the entity.
Current liabilities (short-term liabilities)
- Debts expected to be paid in one year
o Accounts payable
o Wages payable
o Short-term loans payable
 o Interest payable
o Taxes payable
Non-current liabilities (long-term liabilities)
- Debts expected to be paid after one year
o Mortgages payable
o Long-term notes payable
o Capital lease liabilities
o Obligations under employee pension plans
Equity  the residual interest of the owner/s in the assets (less liabilities) of the entity
Assets – liabilities = net assets
Net assets = equity
(Also called capital or accumulated surplus/funds)

The effects of transactions on the accounting equation

The accounting equation always balances
- Transactions result in changes in assets, liabilities and owner’s equity
- Elements of the accounting equation change with each transaction, but equality of
accounting equation remains unchanged

== Example sheet  Hawaii surfboards

The Income statements

Also known as profit or loss statement or operating statement
- Reports financial performance over a specific time period (e.g. month, year, etc.)
- Shows income and expense
Definitions of elements:
- Income  increases in economic benefits in the form of inflows or enhancements of
assets or decrease of liabilities that results in equity, other than those relating to
equity participants
- Expenses  decreases in economic benefits in the form of outflows or incurrences
of liabilities that result in decreases in equity, other than those relating to equity
participants

The statement of cash flows

Reports on the cash inflows and outflows of the entity
- Income statement reports on income earned and expenses incurred
Useful in:
- Helping users to assess the sources and applications of cash
- The ability of the entity to remain solvent
Tutorial Questions:
Ex 2.1 preparing a balance sheet
Narrative format
Assets
- Land $250 000
- Building $520 000
- Accounts receivable $70 000
- Cash $61 000
- Equipment $180 000
- Supplies $34 000
- Total assets $1 115 000
Liabilities
- Accounts payable $64 000
- Mortgage payable $710 000
Net assets
$341 000
Equity
$341 000

Ex 2.2 Income statement and analysis

Income Statement (income – expenses = profit)
Income
- Receipts = $250 000
Expenses
- Wages = $136 000
- Rental space = $12 000
- Electricity = $13 700
- Total = $161 700
Profit
250 000 – 161 700
= $88 300

Ex 2.5 Operating, investing and financing activities

Problem 2.20 Preparation of financial statements

Prepare an Income statement
Income
- Service Income $147 500
Expenses
- Rent
- Supplies $13 500
- Electricity $5 250
- Telephone $7 200
- Advertising $4 900
- Insurance $12 500
- Wages $2 500
 $44 000
Total expense $89 850
Profit $57 650

Prepare a balance sheet

Assets Liabilities
Cash at Bank  $10 250 Accounts Payable $9 500
Equipment  $48 000 Total = $9500
Supplies  $11 000
Accounts receivable  $25 600
Total = $94850
Equity
Capital $85350
Total equity = $85350

Statement of changes of equity

Capital