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Task 4

Explain the purpose of the main financial statements and describe thedifferences between the formats of financial statements for different types

of businesses.

There are three main financial statements which are commonly called theseaccounts: a balance sheet, a profit and loss account, and a cash flowstatement. These statements are built for different purposes based on varioustypes of businesses.

Balance sheetA balance sheet is a statement which shows out the assets , liabilities, capital orshareholders equity of a business at a specific moment in time.

Balance sheet generally gives informations about the finance structure of acompany. One of the main aims of its description is consistency between oneaccounting period and the next. Moreover, it helps the company to predict thefunds which would be used in the future. It could also reflect the capacity of thecompany to raise more capital.

Balance sheets are nearly always presented in the format shown below, howeverbecause of various types of business there can be some differences inpresentation of each balance sheet. The left half of balance sheet whichrepresents the net assets of the company will be alike for all the types ofbusiness. 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 whichbelongs to only one person, so it is simply shown in balance sheet a line asbelow:

Capital 30,000

For a partnership, stakes of each partners will be presented by capital accountsbased on their long-term investment or profit shares, salaries, interest on capitalaccounts, etc. In case the company is a partnership, the capital might berepresented as follow:

Partnerships capital Capital accounts - Fred- Sue- Billy

2,0003,0004,000

Capital accounts- Fred- Sue- Billy

3,5001,850

65015,000

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(Source: Course book, pg. 100)

For a limited company, the owners are shareholders,

Example of balance sheet format

Example CompanyBalance Sheet

December 31, 2008

ASSETS LIABILITIESCurrent Assets Current LiabilitiesCash $ 2,100 Notes Payable $ 5,000Petty Cash 100 Account Payable 35,900Temporary Investments 10,000 Wages Payable 8,500Accounts Receivable-net 40,500 Interest Payable 2,900Inventory 31,000 Taxes Payable 6,100Supplies 3,800 Warranty Liability 1,100

Prepaid Insurance 1,500 Unearned Revenues 1,500Total Current Assets 89,000 Total Current Liabilities 61,000

Investments 36,000 Long-term LiabilitiesNotes Payable 20,000

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

Intangible Assets STOCKHOLDERS EQUITYGoodwill 105,000 Common Stock 110,000Trade Names 200,000 Retained Earnings 229,000Total Intangible Assets 305,000 Less: Treasury Stock (50,000)

Total Stockholders Equity 289,000Other 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 businesss revenues and expenses over agiven period of time, such as a year, quarter, month, etc.

A profit and loss account includes an estimate of the companys sales, cost,increase or loss in intangible value, taxes, outstanding shares, and how theresulting net profit is divided up to shareholders. The main purpose of a profit andloss account is to figure out management whether the company made or lostmoney during the given period. Besides that, investors may base on thesestatement to make decisions.

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About differences between the format of income statement for various types ofbusinesses, it is said that the non-incorporated businesses (partnerships andsole traders) can present the statement as they want while the limitedcompanies have to use particular wordings and layouts according to theiractivities. 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 corporationtax. 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 paydividends also because dividends are paid for shareholders, but there are noshareholders in partnerships or sole traders. The table below is an example ofincome statement:

Company AIncome statementJanuary 1, 20X6 to December 31, 20X6

Income

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

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

Less Inventory, December 31 100,000Cost of Goods Sold 152,000Gross Profit 193,400Interest Income 500Total Income 193,900ExpensesSalaries 68,250Utilities 5,800Rent 23,000Office Supplies 2,250Insurance 3,900Advertising 8,650Telephone 2,700Travel and Entertainment 2,550Dues & Subsriptions 1,100Interest Paid 2,140Repairs & Maintenance 1,250

Taxes & Licenses 11,700Total Expenses 133,290

Net income $60,110

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

Cash flow statement

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A cash flow statement provides information on the change in a businesss cashactivities such as its operating, investing and financing activities and tantamountcash during the same period of time as income statement.

The purposes of cash flow statement include:

- to assess the companys 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)