Arab British Academy for Higher Education. Preparing the Financial Statements
Once the adjusting entries have been made or entered into a worksheet, the financial
statements can be prepared using information from the ledger accounts. Because some of
the financial statements use data from the other statements, the following is a logical
order for their preparation:
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Income statement
Statement of retained earnings
Balance sheet
Cash flow statement
Income Statement
The income statement reports revenues, expenses, and the resulting net income. It is
prepared by transferring the following ledger account balances, taking into account any
adjusting entries that have been or will be made:
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Revenue
Expenses
Capital gains or losses
Statement of Retained Earnings
The retained earnings statement shows the retained earnings at the beginning and end of
the accounting period. It is prepared using the following information:
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Beginning retained earnings, obtained from the previous statement of retained
earnings.
Net income, obtained from the income statement
Dividends paid during the accounting period
Balance Sheet
The balance sheet reports the assets, liabilities, and shareholder equity of the company. It
is constructed using the following information:
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Balances of all asset accounts such cash, accounts receivable, etc.
Balances of all liability accounts such as accounts payable, notes, etc.
Capital stock balance
Retained earnings, obtained from the statement of retained earnings
Cash Flow Statement
1 www.abahe.co.uk Arab British Academy for Higher Education. The cash flow statement explains the reasons for changes in the cash balance, showing
sources and uses of cash in the operating, financing, and investing activities of the firm.
Because the cash flow statement is a cash-basis report, it cannot be derived directly from
the ledger account balances of an accrual accounting system. Rather, it is derived by
converting the accrual information to a cash-basis using one of the following two
methods:
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Direct method: cash flow information is derived by directly subtracting cash
disbursements from cash receipts.
Indirect method: cash flow information is derived by adding or subtracting noncash items from net income.
2 www.abahe.co.uk