Financial Statements of Non-Corporate Entities [Financial Accounting Notes BCOM NEP 2023]

Financial Statements of Non-Corporate Entities 

Financial Statements or Final accounts of non-corporate entities

Table of Contents

1. Meaning and Nature of Financial Statements 2. Characteristics of Ideal Financial Statements 3. Objectives and Uses of Financial Statements 4. Types of Financial Statements 5. Balance sheet – Meaning, Features and Objectives 6. Grouping and Marshalling of Balance Sheet 7. Trading Account – Meaning and Objectives 8. Profit and Loss Account – Meaning, Features and Objectives 9. Adjustment Entries 10. Difference between Trading and Profit and loss Account 11. Difference between Profit & loss account and Balance Sheet 12. Difference between Balance sheet and Trial Balance 13. Difference between Costs of Goods Sold and Cost of Goods Produced:

Meaning of Financial statements

Financial statements are the summarized statements of accounting data produced at the end of accounting process by an enterprise through which accounting information are communicated to the internal and external users.

The American Institute of Certified Public Accountants states the nature of financial statements as “Financial Statements are prepared for the purpose of presenting a periodical review of report on progress by the management and deal with the status of investment in the business and the results achieved during the period under review. They reflect a combination of recorded facts, accounting principles and personal judgments.”

In the words of Myer,” The financial statements provide a summary of accounts of a business enterprise, the balance sheet reflecting the assets, liabilities and capital as on a certain date and income statement showing the result of operations during a certain period”.

Nature of Financial Statements:

a)      Recorded Facts: The Financial statements are statements prepared on the basis of recorded facts; they do not depict the unrecorded facts.

b)      Accounting Conventions: Certain accounting conventions are followed while preparing financial statements such as convention of ‘Conservatism’, convention of ‘Materiality’, convention of ‘Full disclosure’, convention of ‘Consistency’.

c)       Accounting Concepts: While preparing financial statements the accountants make a number of assumptions known as accounting concepts such as going concern concept, money measurement concept, realisation concept, etc.

d)      Personal Judgement: Personal judgement also has an important bearing on financial statements. For example, selection of one method out of various methods of charging depreciation, inventory valuation etc., depends on the personal judgement of the accountant.

e)      Legal implications: Financial statements are prepared following the legal obligations of the country. For example, while preparing the financial statement of an Indian company, the requirements as per the companies Act, 2013 and its amendments from time to time must be followed.

Characteristics of Ideal financial Statements are:

a)      Understandability:  The information must be readily understandable to users of the financial statements.

b)      Relevance:  The information must be relevant to the needs of the users, which is the case when the information influences the economic decisions of users.

c)       Reliability:  The information must be free of material error and bias, and not misleading.

d)      Comparability:  The information must be comparable to the financial information presented for other accounting periods.

Objectives and Uses of Financial Statements

Objectives and purposes for which financial statements are prepared:

a)      To provide information about economic resources and obligations of a business.

b)      To provide information about earning capacity of the business and its ability to operate of profit in future.

c)       To provide information that is useful in predicting the future earning power of the enterprise.

d)      To judge the effectiveness of management.

e)      To provide the base for tax assessments.

f)       To provide reliable information about the changes in economic resources that result from profit directed activities.

g)      To show the financial strength and weakness of the enterprise.

h)      To provide reliable information about the changes in cash position and net economic by comparing two period financial statements.

i)        To Satisfy the requirements of various users such as corporate managers, executives, bankers, creditors, shareholders investors, labourers, consumers, and government institution.

Types of Financial statements

A set of financial statements includes (Types):

a)      Profit and loss account or Income statements

b)      Balance sheet or Position statements

c)       Cash flow statements

d)      Funds flow statements or

e)      Schedules and notes to accounts.

Balance Sheet and its features and objectives

Balance sheet is one of the financial statements prepared by the company to show the financial position of company at a particular time. Balance sheet is prepared to ascertain the position of assets and liabilities of the company at a particular date.

The Balance Sheet of a business possesses the following characteristics:

a)      Balance sheet being a statement has no ‘debit’ or ‘credit’ sides that is why ‘To’ or ‘By’ words are not prefixed to the name of accounts.

b)      Balance sheet is prepared at the end of an accounting period – it is for a particular day, so it discloses the financial position on a particular day and not for a particular period.

c)       Balance sheet discloses how much business owes to others and how much others owe to business.

d)      The total of ‘Assets’ and ‘Liabilities’ sides are always equal.

Objectives of Balance Sheet

a)      To determine the nature and value of the assets.

b)      To determine the nature and extent of liabilities and actual capital.

c)       To know about the solvency of the business

d)      To know the financial soundness of the business i.e. Over-trading and under-trading.

Grouping and Marshalling of Balance sheet

Grouping means presenting similar items together as one figure i.e. by combining them at one place and presenting as a single item on the face of financial statement.

Marshalling means presenting items in a logical order i.e. assets and liabilities in the statement of financial position are listed in particular order. There are two methods of marshalling:

a) Marshalling by liquidity: According to this method the assets and liabilities are listed in descending order on the basis of liquidity i.e. the asset which is the most liquid will be listed first and the asset which is least liquid will be listed last.

b) Marshalling by permanence: This method is completely opposite to the liquidity method. According to this order of listing, assets and liabilities are listed in descending order on the basis of their permanence i.e. the asset with the longest useful life (least liquid) will be listed first and the asset with the least or shortest (most liquid) useful life will be listed last.

Trading Account and Its objectives

Trading account is one of the financial statements prepared by the company to show the result of buying and selling of goods and services during an accounting period. Trading account is prepared to ascertain the gross profit or gross loss.

Objectives or Need for Trading Account: The trading account may be prepared with the following objectives:

1)      To ascertain gross profit or gross loss.

2)      To know the direct expenses.

3)      To make comparison of stock.

4)      To fix up selling price of goods.

5)      To know the limit of indirect expenses.

Profit and Loss Account and its features and objectives

Profit and loss account is one of the financial statements prepared by the company to show the financial performance of company during an accounting period. It is prepared to ascertain net profit or net loss. It is also called income statement.

Features of Profit & Loss Account

1)      Profit and Loss Account is nominal account to be prepared at the end of the year.

2)      Incomes and expenses relating to current year are to be shown in it.

3)      It includes outstanding expenses and accrued incomes relating to current year which are taken into consideration while prepare expenses and incomes received in advance are excluded from it.

4)      It includes all expenses paid during the previous year but related to current year and all incomes received during the previous year but related to current year.

Need for Profit & Loss Account

1)      Knowledge of net profit or net loss for the year.

2)      Comparison of profits over the years.

3)      Control over expenses by establishing the relationship of indirect expenses with sales.

4)      On the basis of information disclosed by the profit and loss account, the future course of action may be decided by the management.

5)      The net profit disclosed by profit and loss account is the basis of determining business income for tax purposes. Thus, profit and loss account helps in tax assessment also.

6)      Helpful in the preparation of balance sheet.

Adjustment Entries and its examples

Accounting adjustment are those transactions of a company’s business that are recorded at the end of the accounting period. The journal entries for such transactions are passed at the end of the accounting period and are called as adjustment entries. Examples for adjustment entries:

a) Adjustment of closing stock: Closing Stock A/c                              Dr.

To Trading A/c

b) Adjustment of prepaid expenses: Prepaid Expenses A/c                         Dr.

To Respective Expenses Account

c) Adjustment of outstanding expenses: Respective Expenses A/c                           Dr.

To Outstanding Expenses A/c

Difference between Trading and Profit and loss Account

Trading Account

Profit and Loss Account

1. Trading Account is the first part of Trading and Profit & Loss Account. 2. Trading Account is prepared to calculate gross profit of the business enterprise. 3. In the Trading Account, items related to direct expenses and direct incomes are recorded. 4. The balance of Trading Account viz. gross profit or gross loss is to be transferred to the Profit & Loss Account.

1. Profit & Loss Account is the second part of the Trading and Profit & Loss Account. 2. Profit & Loss Account is prepared to calculate the net profit of the business enterprise. 3. In the Profit & Loss Account, items related to indirect expenses and indirect incomes are recorded. 4. The balance of Profit & Loss Account viz., net profit or net loss is to be transferred to the Balance Sheet by way of adjustments in the capital of the proprietor.

Difference between Profit & loss account and Balance Sheet

Profit & Loss account	Balance sheet
Profit and loss account is prepared to find the operating efficiency of the business organisations.	Balance sheet is one of the financial statements prepared by the company to show the financial position of company at a particular time.
It is an account.	It is a statement.
Balance of profit and loss account is transferred to balance sheet i.e., added/deducted with capital.	Balance sheet is automatically tallied.
Only nominal accounts are shown in profit and loss account.	Only personal and real accounts are shown in balance sheet.
Profit and loss account is prepared before preparation of balance sheet.	Balance sheet is prepared after preparation of profit and loss account.
It is prepared mainly for internal users.	It is prepared for both internal and external users of financial statements.

Difference between Balance sheet and Trial Balance

Balance sheet	Trial balance
Balance sheet is one of the financial statements prepared by the company to show the financial position of company at a particular time.	Trial Balance is prepared with the help of balances of ledger accounts to check the arithmetic accuracy of the accounts of on a particular date.
It shows the financial position.	It checks the arithmetical accuracy of books of accounts.
Personal, real and nominal accounts are shown in trial balance.	Only personal and real accounts are shown in balance sheet.
Balance sheet is prepared with the help of trial balance.	Trial balance is prepared before balance sheet.
It is prepared for both internal and external users of financial statements.	It is prepared mainly for internal users.

 Difference between Costs of Goods Sold and Cost of Goods Produced:

a) Cost of goods sold also termed as cost of sales is the amount incurred on goods which are actually sold by the business during the period. It is calculated by the following two formulas:

Cost of goods sold = Net sales – Gross profit       or

Cost of goods sold = Opening stock + Net purchases + Direct expenses – Closing stock

In some cases indirect expenses termed as overheads are also added to find cost of goods sold. While calculating cost of goods sold, only finished goods stocks are taken into consideration.

b) On the other hand, cost of goods produced is the amount incurred on goods actually produced by the business during the period. It is calculated as:

Opening stock of raw materials + Net Purchase of raw materials + All manufacturing expenses – closing stock of raw materials.

While calculating, cost of goods produced, only stock of raw materials are taken into consideration.