A senior partner in your company suggests that you prepare a detailed discussion

Question

A senior partner in your company suggests that you prepare a detailed discussion paper for new and existing businesses addressing the topics below.
(LO 4.1) Discuss the structure and purpose of the main financial statements . Describe the main differences between, Income statement, Balance Sheet and Cash Flow Statement). Provide examples of the statements in your answer. Target 2 typed pages.

(LO 4.2) Compare different formats of financial statements for various types of businesses (sole trader, partnership and limited company). Provide examples of financial statements for each type of business.

Explanation / Answer

LO 4.1

Structured representation of financial position of the company and its transactions is called Financial Statement.

General purpose financal statements are prepared for the purpose of providing the state of affairs of the entity to those users who cannot get the customised statements, thus called 'General Purpose statements'.

List of componets of a Typical Financial statement is gven below:

Difference between different components of a financial statement

A balance sheet of an entity tell us about the state of affairs on the entity on a particular date. It states that what assets the entity hold on a particular date and what obligations it has to cover. Generally it is prepared on year end but it can also be prepared on any other date.

On the other hand, an Income statement or otherwise called a Statement of Profit and Loss states the overall performance of the entity during a given period. It contains the overall incomes and expenditures that the entity earned and incurred during the period and hence gives us a view into the performance of the entity. Compared to it, a Cash Flow Stateent only contains incomes and expenditure which are earned and incrred by the entity in cash. It tells us how well the entity is being able to generate cash and the overall flow of cash in the entity during the period. It does not contain any expenses and incomes whch are of accrual nature.

Example.

Statement of Profit and Loss for the period ended 31/03/xxxx

Balance sheet as on date 31/03/xxxx

LO 4.2

The structure of fincancial statements would effectively remain the same as discussed in the above answer. However, some notations and disclosures are varied. For example, In case of a Limited Company, Equity would be denoted by 'Shareholders Funds' whereas in case of a partnership firm, equity would be denoted by 'Partners Capital'. In case of a profit oriented entity, a Statement of profit and loss is prepared whereas in the case of a Non Profit organisation or a welfare trust, a "Statement of Income and Expenditure is prepared and Surplus or Deficiency is calculated. However, the effective structure for both the entities remain very similar.

In case of a sole proprietorship, Capital account is created in place of Shareholders' Funds Account.

Examples

Statemnt of Profit and Loss for a Sole Trader.

Balance Sheet for a sole trader

Example of a financial statement of a company is given above in answer LO 4.1

Statement of Profit and Loss for a Partnership concern

Same as in case of a Sole trader.

Balance sheet for a Partnership concern

Cash flow statements for any type of entity is same.

Cash flow for the period ended xx/xx/xx

Revenue from operations xxx Other Income xxx xxx Expenses Employee benefit expenses (xxx) Depreciation & Amortization (xxx) Other expenses (xxx) Profit before tax xxx Tax expense (xxx) Profit after tax xxx

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