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Factors Affecting Reporting Of Financial Statements

Describe factors that affect the reporting of financial statements and explain how they interrelate.

KEY TERMS

Balance Sheet                                 Net Income
  Financial Statements                         Net Loss
  Income Statement                             Retained Earnings Statement
  Matching Concept Principle                   Statement of Cash Flows

This objective introduces the four financial statements of a corporation (in order of preparation— Income Statement, Retained Earnings Statement, Balance Sheet,  and the Statement of Cash Flows) and explains how they interrelate. Financial statements are reports prepared by accountants that summarize the financial affairs of a business.

This objective also introduces the concept of “matching,” which is one of the most important concepts in accounting. The matching concept principle states that the revenue for one time period is matched up or compared with the related expenses for the same time period. If revenues and expenses are not properly matched, then the amount reported for net income is incorrect, making every statement thereafter incorrect.

All statements have a three line heading. The first line of the heading is always the company name. The second line of the heading is always the name of the statement being prepared. The third line is the date portion of the heading and varies among the financial statements. The Income Statement and the Retained Earnings Statement summarize transactions for a period of time, while the Balance Sheet shows a “snapshot” of the business as of a particular date.

The income statement lists revenues earned and expenses incurred for a specific period of time resulting in net income or net loss. The excess of the revenue over the expenses is called net income or net profit. If the expenses exceed the revenue, the excess is a net loss. A sample income statement for XYZ Corporation would look like the following:

XYZ Corporation
  Income Statement
  For the Month Ended November 30, 20xx  

Revenue:                                                             
  Fees Earned                                                         $  x,xxx.xx  

Expenses:
  Wages Expense                                     $  xxx.xx
  Rent Expense                                           xxx.xx
  Supplies Expense                                       xxx.xx      
  Utilities Expense                                       xxx.xx
  Miscellaneous Expense                                 xx.xx
  Total expenses                                                 x,xxx.xx
  Net income (loss)                                                      $ x,xxx.xx  

The net income (loss) from the Income Statement and any dividends paid to the owners of the business is used in calculating the ending retained earnings balance on the Retained Earnings Statement. A sample Retained Earnings Statement for XYZ Corporation would look like the following:

XYZ Corporation
  Retained Earnings Statement
For the Month Ended November 30, 20xx
Retained earnings, November 1, 20xx                               $      .xx
Net income for November                             $  x,xxx.xx
Less dividends                                             xxx.xx        xxxx.xx
Retained earnings, November 30,20xx                               $  xxxx.xx

The Balance Sheet lists the ending balances for assets, liabilities, and owner’s equity, which is made up of the capital stock (owner’s investments) plus the ending retained earnings balance from the Retained Earnings Statement. As a result, the balance sheet “balances.” A sample Balance Sheet for XYZ Corporation would look like the following:

XYZ Corporation
Balance Sheet
November 30, 20xx
Assets                                Liabilities
  Cash                   $ x,xxx.xx             Accounts Payable             $ x,xxx.xx
  Supplies                 x,xxx.xx             Stockholder’s Equity
  Land                     x,xxx.xx            Capital Stock       $ x,xxx.xx
  Retained Earnings   x,xxx.xx
  Total Stockholder’s
  Equity                           x,xxx.xx
                                                  Total Liabilities and                    
  Total Assets           $ x,xxx.xx             Stockholder’s Equity           $ x,xxx.xx

The Statement of Cash Flows is a summary of the cash receipts and cash payments for a specific period of time, such as a month or a year. A sample Statement of Cash Flows for XYZ Corporation would look like the following:

XYZ Corporation
  Statement of Cash Flows
  For the Month Ended November 30, 20xx

Cash flows from operating activities:
  Cash received from customers                       $ x,xxx.xx
  Deduct cash payments for expenses and
  Payments to creditors                                 x,xxx.xx
  Net cash flow from operating activities                                       $  x,xxx.xx
  Cash flows from investing activities:
  Cash payments for purchases of land                                         (x,xxx.xx)
  Cash flows from financing activities:
  Cash received from issuing stock                     $ x,xxx.xx
  Deduct cash dividends                                 x,xxx.xx
  Net cash flow from financing activities                                         x,xxx.xx
  Net cash flow and November 30, 20xx, cash balance                               $ x,xxx.xx

To illustrate the reporting of financial statements, look at the previous example of John’s Dry Cleaning Service.

John’s Dry Cleaning Service
  Income Statement
  For the Month Ended June 30, 20xx

             
 

Revenue:

  

    Dry cleaning revenue 

 

4,000

Expenses:

  

    Salary expense

500

 

    Utilities expense

200

 

    Total expenses

 

   700

Net   income

 

3,300

John’s Dry Cleaning Service
  Retained Earnings Statement
  For the Month Ended June 30, 20xx

             
 

Retained   earnings, June 1, 20xx

 

       0

    Net income

3,300

 

    Less: Dividends

   500

 

Increase   in retained earnings

 

   2,800

Retained   earnings, June 30, 20xx

 

   2,800

John’s Dry Cleaning Service
  Balance Sheet
  June 30, 20xx

             
 

Assets:

  

    Cash

 24,300

 

    Accounts receivable

 10,500

 

    Office equipment

   5,400

 

    Land

130,000

 

    Building

 36,000

 

Total   assets

 

206,200

Liabilities:

  

    Accounts payable

 

 23,400 

Owner’s   Equity

  

  Capital stock

180,000

 

    Retained earnings

   2,800

 

Total   owner’s equity

 

182,800

Total   liabilities and owner’s equity

 

206,200

John’s Dry Cleaning Service
  Statement of Cash Flows
  For the Month Ended June 30, 20xx

             
 

Cash flows from operating activities:

  

    Cash received from customers

 3,000

 

      Deduct cash payments for expenses and payments to   creditors

3,700

 

    Net cash flow from operating   activities

 

 -700

Cash flows from investing activities:

  

    Cash received from sale of land

1,500

 

    Cash payments for purchases of land

-141,000

 

    Cash payments for building

-15,000

 

    Net Cash flow from investing activities

 

-154,500

Cash flow from financing activities:

  

  Cash received from issuing stock

180,000

 

  Deduct Cash Dividends

-500

 

    Net Cash flow from financing activities

 

179,500

Net cash flow and June 30, 20xx, cash   balance

 

24,300



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