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 - Fred 2,000
- Sue 3,000
- Billy 4,000
Capital accounts 3,500
- Fred
1,850
- Sue
650
- Billy
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

ASSETS LIABILITIES
Current Assets Current Liabilities
Cash $ 2,100 Notes Payable $ 5,000
Petty Cash 100 Account Payable 35,900
Temporary Investments 10,000 Wages Payable 8,500
Accounts Receivable-net 40,500 Interest Payable 2,900
Inventory 31,000 Taxes Payable 6,100
Supplies 3,800 Warranty Liability 1,100
Prepaid Insurance 1,500 Unearned Revenues 1,500
Total Current Assets 89,000 Total Current Liabilities 61,000

Investments 36,000 Long-term Liabilities

Notes Payable 20,000
Property, Plant & Equipment Bonds Payable 400,000
Land 5,500 Total Long-term Liabilities 420,000
Land Improvements 6,500
Buildings 180,000
Equipment 201,000 Total Liabilities 481,000
Less: Accum Depreciation (56,000)
Prop, Plant & Equip – net 337,000

Intangible Assets STOCKHOLDERS’ EQUITY

Goodwill 105,000 Common Stock 110,000
Trade Names 200,000 Retained Earnings 229,000
Total Intangible Assets 305,000 Less: Treasury Stock (50,000)
Total Stockholders’ Equity 289,000
Other Assets 3,000

Total Assets $770,000 Total Liabilities & Stockholders’ Equity $770,000

(Source:http://www.accountingcoach.com/online-accounting-course/05Xpg04.html)

• 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 346,400
Less returns and allowances 1,000
Net sales 345,400

Cost of Goods
Merchandise Inventory, January 1 160,000
Purchases 90,000
Freight Charges 2,000
Total Merchandise Handled 252,000

Less Inventory, December 31 100,000

Cost of Goods Sold 152,000
Gross Profit 193,400
Interest Income 500
Total Income 193,900
Expenses
Salaries 68,250
Utilities 5,800
Rent 23,000
Office Supplies 2,250
Insurance 3,900
Advertising 8,650
Telephone 2,700
Travel and Entertainment 2,550
Dues & Subsriptions 1,100
Interest Paid 2,140
Repairs & Maintenance 1,250
Taxes & Licenses 11,700
Total Expenses 133,290

Net income $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.
(http://www.fao.org)