Financial reporting & analysis
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Introduction
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Course Description:
This course provides the learners with in-depth techniques
on developing and writing financial reports. Learners will get
acquainted with how to read and interpret the financial
reports through extended practices on using trend analysis
(financial ratios) to point out management weaknesses,
strength & reasons behind them both during the studied
accounting period as a step for (short-term & long-term)
financial planning.
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By the end of this course, learners will be:
- Classify accounting information prepared by accounting
department into financial reports
- Develop financial reports using trial balances
- Differentiate the types of financial analyses (common size
analysis, trend analysis, & other analysis)
- Analyze financial reports using both common size & trend
analysis.
- Interpret the most commonly used financial ratios to
measure management performance during the studied
accounting period
- Analyze financial ratios trends and choose the possible
future financial decisions alternatives
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This presentation- owned by SCE-AUC- contains the following:
- Explanation summary,
- Answered examples, problems, MCQs, True & false, &
questions
- Problems, MCQs, True & false, & questions with no
answers (answers in class is highly recommended), &
- Test bank (test bank Qs, T & F, MCQs, & problems are part of the material
& subject to final exam)
For farther explanation & details “if needed” , please refer to the following
references:
any of the well known references, like Intermediate accounting (last edition/ &
eighth edition)- Keiso Weygandt/ Principles of accounting- Needles power Crosson/
Advanced accounting (last edition/ & third edition) – Jeter Chaney/
or any other open sources.
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contents
Classify accounting
information
prepared by
accounting
department
Examples to apply
accounting stepsaccounting issues
treatments/ Case
studies/ Demo
1. Introduction to the role of financial
department
2. Some accounting terms (revision)
3. Introduction to IFRS (generic)
4. Accounting information (the
natures of assets/ liabilities/
owner’s equity/ revenues/ &
expenses)
5. Accounting steps (revision: how to
start accounting system/ chart of
accounts/ accounting steps/ types
of trial balances)
6. Accounting issues & treatments
(accounting policies)
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contents
How to build
financial reports
using trial balances
Revision (True/ False,
MCQs, Questions &
Problems)
Quiz 1
1. Building the statement of financial
position (balance sheet) & its
forms using adjusted trail balance
2. Building an income statement
(multistep) using adjusted trial
balance
3. How to prepare cash flows
statement (indirect method)
4. What are notes/ disclosures
(Accounting policies)
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contents
Know types of
analysis (common
size analysis)
1.
2.
3.
4.
5.
Types of analysis
Common size analysis
Vertical analysis
Horizontal analysis
About trend analysis
Examples / Case study
quiz 2
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contents
Analyzing financial
reports using trend
analysis.
1. What do you want to measure
(what areas need to be controlled)
2. What do financial ratios tell
3. Steps of trend analysis
4. About Earnings/ Earnings before
taxes EBT/ earnings before
interest & taxes EBIT/ earnings
per share
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contents
The most
commonly used
financial ratios &
what do they read
Examples / Case studies/
Demo
Quiz 3
1. Liquidity ratios (Current ratio /
Quick ratio/ Cash ratio)
2. Profitability ratios (Gross profit
margin/ Net profit margin/ Return
on assets/ Return on investments/
Return on equity)
3. Performance or activity ratios
(Assets turnover/ equity turnover/
receivables turnover & in days/
Payables turnover & in days /
Inventories turnover & in days)
4. Debt ratios (debt too assets/ debt
to equity/ others)
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contents
Other key ratios
Examples / Case studies
Quiz 4
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
Operating cycle
Cash cycle
Gearing ratio
Dividends per share
Earnings per share
Price earnings ratios
Earnings yield
Payout ratio
Cash flow per share
Defensive interval measure
WACC
DuPont analysis
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contents
How to identify
reasons behind
financial ratios
trends
Examples
Final exam
1. Weaknesses / strength / reasons
2. Converting reasons into
alternatives
3. Introduction to operational
planning (short-term)
4. Introduction to investment
planning (long-term)
5. Revision – test bank
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1&2
Classify accounting
information
prepared by
accounting
department
Examples to apply
accounting stepsaccounting issues
treatments/ Case
studies/ Demo
1. Introduction to the role of financial
department
2. Some accounting terms (revision)
3. Introduction to IFRS (generic)
4. Accounting steps (revision: how to
start accounting system/ chart of
accounts/ accounting steps/ types
of trial balances)
5. Accounting information (the
natures of assets/ liabilities/
owner’s equity/ revenues/ &
expenses)
6. Accounting issues & treatments
(accounting policies)
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Session.1 & 2
Introduction to the role of financial department
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“ How it works “
planning
Investment
planning
Operational
planning
implementation
Re-planning
Reporting
Re-plan
operations
(Financial
reports)
Financial
analysis
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Investment
Planning if
needed
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Business is an economic entity aims to sell goods & services to
customers at prices that will provide an adequate return to its
owners.
All businesses have similar goals & engage in similar activities,
each must take enough money from customers to pay all the
costs of doing business, with enough left over as profit for
the owners to want to stay in the business.
This needs to earn enough income to attract & hold investment
capital is the goal of profitability.
In addition, business must meet the goal of liquidity.
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Liquidity means having enough cash available to pay debts when
they are due.
For example Toyota may meet the goal of profitability by selling
many cars at a price that earns a profit, but if its customers do
not pay for their cars quickly enough to enable Toyota to pay its
suppliers & employees, the company may fail to meet the goal of
liquidity.
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Business pursues its goals by engaging in similar activities.
First: each business must engage in financing activities to obtain
adequate funds, or capital to begin & continue operating.
Financing activities include obtaining capital from owners & from
creditors & paying a return to the owners.
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Business pursues its goals by engaging in similar activities.
Second: each business must engage in investing activities to
spend the capital it receives in ways that are productive & will
help the business to achieve the goals.
Investing activities include buying buildings, equipment & others.
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Business pursues its goals by engaging in similar activities.
Third: each business must engage in operating activities. In
addition to selling of goods & services to customers, operating
activities include such actions as employing managers & workers,
buying & producing goods & services, & paying taxes to the
government.
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Financial management refers to the efficient & effective
management of funds to accomplish the objectives of the
organization.
The objectives of Financial Management:
• Profit maximization
• Wealth maximization
• Maintaining proper cash flow as a short run objective
• Minimization on capital cost
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Scope of Financial Management:
• Estimating the Requirement of Funds (forecast on funds
needed in both short run & long run). The estimation is based
on the budgets
• Determining the Capital Structure (Capital structure is how a
firm finances its overall operations & growth using different
sources of funds)
• Investment Fund (A good investment plan can bring
businesses huge returns).
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Financial
planning
Re-planning
Test
alternatives
Financial
management
Financial
accounting
Financial
analysis
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Financial planning is the task of determining how a business will
afford to achieve its strategic goals & objectives.
Usually, a company creates a Financial Plan immediately after
the vision & objectives have been set.
The Financial Plan describes each of the activities, resources,
equipment & materials that are needed to achieve these
objectives, as well as the timeframes involved.
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Financial Planning activity involves the following tasks:
• Assess the business environment
• Confirm the business vision & objectives
• Identify the types of resources needed to achieve these
objectives
• Quantify the amount of resource (labor, equipment,
materials)
• Calculate the total cost of each type of resource
• Summarize the costs to create a budget
• Identify any risks and issues with the budget set
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Finance is a field that deals with the study of investments.
It includes the dynamics of assets & liabilities over time under
conditions of different degrees of uncertainty & risk.
Finance can also be defined as the science of money
management.
Finance aims to price assets based on their risk level & their
expected rate of return.
Finance can be broken into three different sub-categories: public
finance, corporate finance & personal finance.
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Corporate finance deals with the sources of funding & the
capital structure of corporations & generally involves balancing
risk & profitability, while attempting to maximize an entity's
assets, net incoming cash flow & the value of its stock, & entails
3 primary areas of capital resource allocation:
 Capital budgeting (management must choose which "projects“ to
undertake).
 Sources of capital (relates to how these investments are to be funded)
 The dividend policy (requires management to determine whether any unappropriated profit is to be retained for future investment)
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ABC Company
Balance Sheet
As of December 31, 19xx
Working
Capital
Assets:
Liabilities & Equity:
Current Assets
Current Liabilities
Cash & M.S.
Accounts payable
Accounts receivable
Notes Payable
Inventory
Total Current Liabilities
Total Current Assets
Long-Term Liabilities
Fixed Assets:
Total Liabilities
Gross fixed assets
Investment
Decisions
Equity:
Less: Accumulated dep.
Common Stock
Goodw ill
Paid-in-capital
Other long-term assets
Retained Earnings
Total Fixed Assets
Total Assets
Working
Capital
Financing
Decisions
Total Equity
Total Liabilities & Equity
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Some accounting terms (revision)
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Accounting Is financial information system that helps in
giving financial information to the users (Internal/
external).
•
Assets(debit nature)
•
Liabilities (credit nature)
•
Owners Equity(credit nature)
•
Revenue (credit nature)
•
Expenses (debit nature)
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• Accounting is the art of recording, classifying & summarizing
in a significant manner & in terms of money, & transactions, &
interpreting the results thereof
• Or: is the process of identifying, measuring & communicating
economic information to permit informed judgments &
decisions by users of the Information
• Or: is the measurement, processing & communication of
financial information about economic entities. Accounting
measures the results of an organization's economic activities
& conveys this information to a variety of users, including
investors, creditors, management, & regulators
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• Financial position refers to the economic resources that
belong to a company & the claims against those resources
(assets, liabilities or creditors’ equity, & owners’ equity).
• Assets: are economic resources owned by a business are
expected to benefit future operations (cash, A/R, inventories,
l&, building, equipment, patent, trade marks, or
copyrights…..).
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• Liabilities: are obligations of a business to pay cash, transfer
assets, or provide services to other entities in the future (A/P,
accruals, loans payable, salaries & wages payable to
employees, taxes owed to the government).
• Owners’ equity: are the claims by the owners of a business to
the assets of the business. It equals the residual interest, or
residual equity, in the assets of an entity that remains after
deducting the entity’s liabilities. Owners’ equity = assets –
liabilities. The owners’ equity of a corporation is called
stockholders’ equity or share- holders’ equity.
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• Contributed capital: is the amount that stockholders invest in
the business. Their ownership in the business is represented
by shares of capital stock.
• Retained earnings: represent the equity of the stockholders
generated from the income – producing activities of the
business & kept for use in the business.
• Expenses: decrease in stockholders’ equity those results from
operating a business.
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• Cost of goods sold: product costs (inventoriable costs) that
become period expenses only when the products are sold,
equals beginning inventory + cost of goods purchased during
the period (or manufactured) – ending inventory
• Revenues: increases in stockholders’ equity that results from
operating a business.
• Net income: the difference between revenues & expenses
when revenues exceed expenses.
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• Net loss: the difference between expenses & revenues when
expenses exceed revenues.
• Profitability: the ability to earn enough income to attract &
hold investment capital.
• Financial statements are the primary means of
communicating the important accounting information to
users. They include the income statement, statement of
retained earnings, cash flows report, & balance sheet.
• Income statement is the financial statement that summarize
the revenues earned & expenses incurred by a business over a
period of time.
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• Cash flows: the inflows & outflows of cash into & out of a
business.
• Statement of cash flows: the financial statement that shows
the inflows & outflows of cash from operating activities,
investing activities, & financing activities.
• Operating activities: activities undertaken by management in
the course of running the business.
• Investing activities: activities undertaken by management to
spend capital in ways that are productive & will help a
business achieve its objectives.
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• Statement of retained earnings: the financial statement that
shows the changes in retained earnings over a period of time.
• Financing activities: activities undertaken by management to
obtain adequate funds to begin & to continue operating a
business.
• Statement of retained earnings: the financial statement that
shows the changes in retained earnings over a period of time.
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• Shareholders’ equity: total assets minus total liabilities.
Alternatively, the book value of a company’s common stock
(at par) + additional paid in capital & retained earnings.
• Statement of stockholders’ equity: a financial statement that
summarize changes in the components of stockholders’
equity. Also called statement if shareholders’ equity.
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Introduction to IFRS (generic)
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Accounting standards: a principle that governs current
accounting practice & that is used as a reference to determine
the appropriate treatment of complex transactions.
Principle: “a rule or standard of good behaviour”
What is IFRS?
Are a set of accounting standards developed by the International
Accounting Standards Board (IASB) that is becoming the global
standard for the preparation of public company financial
statements.
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IFRSs are intended to be applied by profit-orientated entities.
These entities’ financial statements give information about
performance, position and cash-flow that is useful to a range of
users in making financial decisions. These users include
shareholders, creditors, employees and the general public. A
complete set of financial statements includes: balance sheet
(statement of financial position)/ statement of comprehensive
income/ statement of cash flows/ a description of accounting
policies/ & notes
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What are the advantages of converting to IFRS?
By adopting IFRS, a business can present its financial statements
on the same basis as its foreign competitors, making
comparisons easier. Furthermore, companies with subsidiaries
in countries that require or permit IFRS may be able to use one
Accounting language company-wide. Companies may need to
convert to IFRS if they are a subsidiary of a foreign company that
must use IFRS, or if they have a foreign investor that must use
IFRS. Companies may also benefit by using IFRS if they wish to
raise capital abroad.
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When comparing IFRS & GAAP, what are some overall key
differences?
The biggest difference between U.S. GAAP & IFRS is that IFRS
provides much less overall detail. Its guidance regarding
revenue recognition, for example, is significantly less extensive
than U.S. GAAP. IFRS also contains relatively little industryspecific instructions.
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Objective of financial statements
• Financial statements are a structured representation of the
financial positions & financial performance of an entity.
• The objective of financial statements is to provide information
about the financial position, financial performance & cash
flows of an entity that is useful to a wide range of users in
making economic decisions.
• Financial statements show the results of the management's
stewardship of the resources entrusted to it.
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Objective of financial statements
The following are the general features in IFRS:
• Fair presentation & compliance with IFRS: Fair presentation
requires the faithful representation of the effects of the
transactions, other events & conditions in accordance with
the definitions & recognition criteria for assets, liabilities,
income & expenses set out in the Framework of IFRS.
• Going concern: Financial statements are present on a going
concern basis unless management either intends to liquidate
the entity or to cease trading, or has no realistic alternative
but to do so.
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Objective of financial statements
The following are the general features in IFRS:
• Accrual basis of accounting: An entity shall recognize items as
assets, liabilities, equity, income & expenses when they satisfy
the definition and recognition criteria for those elements in
the Framework of IFRS.
• Materiality & aggregation: Every material class of similar items
has to be presented separately. Items that are of a dissimilar
nature or function shall be presented separately unless they
are immaterial.
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Objective of financial statements
The following are the general features in IFRS:
• Offsetting: Offsetting is generally forbidden in IFRS. However
certain standards require offsetting when specific conditions
are satisfied (such as in case of the accounting for defined benefit liabilities in
IAS 19 & the net presentation of deferred tax liabilities and deferred tax assets in
IAS 12).
• Frequency of reporting: IFRS requires that at least annually a
complete set of financial statements is presented. However
listed companies generally also publish interim financial
statements (for which the accounting is fully IFRS compliant) for which the
presentation is in accordance with IAS 34 Interim Financing
Reporting.
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Objective of financial statements
The following are the general features in IFRS:
• Comparative information: IFRS requires entities to present
comparative information in respect of the preceding period
for all amounts reported in the current period's financial
statements. In addition comparative information shall also be
provided for narrative & descriptive information if it is
relevant to understanding the current period's financial
statements.
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Objective of financial statements
The following are the general features in IFRS:
• Consistency of presentation: IFRS requires that the
presentation & classification of items in the financial
statements is retained from one period to the next unless: it is
apparent, following a significant change in the nature of the
entity's operations or a review of its financial statements, that
another presentation or classification would be more
appropriate having regard to the criteria for the selection &
application of accounting policies in IAS 8
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Accounting steps (revision: how to start accounting system/
chart of accounts/ accounting steps/ types of
trial balances)
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A chart of accounts (COA) is a created list of the accounts used
by an organization to define each class of items for which money
or the equivalent is spent or received.
It is used to organize the finances of the entity & to segregate
expenditures, revenue, assets, liabilities, & equity in order to
give interested parties a better understanding of the financial
health of the entity.
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While Accounts, are typically defined by an identifier (account
number) & a caption or header & are coded by account type.
In computerized accounting systems with computable quantity
accounting, the accounts can have a quantity measure definition.
In some countries, charts of accounts are defined by the
accountant from a standard general layouts or as regulated by
law.
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However, in most countries it is entirely up to each accountant
to design the chart of accounts.
The list can use numerical, alphabetic, or alpha-numeric
identifiers.
However, in many computerized environments, only numerical
identifiers are allowed.
The structure & headings of accounts should assist in consistent
posting of transactions.
Each nominal ledger account is unique, which allows its ledger to
be located.
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How to do accounting? (accounting steps)
•
•
•
•
•
•
•
Recording entries representing economic transactions in
Journal books
Posting the recorded entries (transactions) to ledgers
Preparing the trial balance (used to be un-adjusted trial
balance),
Recording adjusting entries in journal book
Posting adjusting entries to ledgers
Producing adjusted trial balance
Then preparing accounting reports
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Economic
events
take places
Economic
events are
supported
with
documents
Record
transactions
in entries
form in
journal book
Record
adjusting
entries in
journal book,
post to ledgers
Produce
adjusted
trail
balance
Produce
accounting
reports
Prepare trail
balance
(unadjusted)
Invite
external
auditor
Post the
recorded
entries to
ledgers
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Close
accounting
period &
produce
post closing
trial
balance
Invite share
holders to
general
meeting
Audited
financial
position
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Summary of accounting cycle
• Economic events take place according to activity plans that
were agreed upon to achieve the agreed goals & objectives
• These economic events are supported with documents
(contracts/ invoices/ bills/ receipts/ payments/ cheques/ ......)
• Recording transactions supported by documents in an entry
form (debt an account(s) & credit other account(s)) in journal
book
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Summary of accounting cycle
• Post the recorded entries to ledgers (sub ledgers are separate
sheets for each account to personalize them)
• Preparing trail balance which used to include unadjusted
balances that need to be adjusted
• Recoding adjusting entries in journal book, then post again
the adjustments to ledgers
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Summary of accounting cycle
• Produce another trail balance which used to be called
adjusted trial balance from which accountants can produce
the accounting reports
• Invite external auditor (appointed by shareholders to check
the accuracy of accounting information/ reports & if they
apply IFRS/ IAS/ GAAP
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Summary of accounting cycle
• Invite share holders to general meeting based on
predetermined announced agenda
• Close accounting period & produce post closing trial balance
from which open balances will move to next accounting
period
• Note that any accounting reports must be compared
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Overview of the Accounting Cycle
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Overview of the Closing Process
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The 4 Steps to Close the Accounts
Close the credit balances from the Income Statement
accounts to the Income Summary account.
– Sets the balances of the revenue accounts to zero.
– Transfers the total revenues to the credit side of the
Income Summary account.
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The 4 Steps to Close the Accounts (continued…)
Close the debit balances from the Income Statement
accounts to the Income Summary account.
– Reduces the expense account balances to zero.
– Transfers the total expenses to the debit side of the
Income Summary account.
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The 4 Steps to Close the Accounts (continued…)
Close the Income Summary account balance to the Capital
account.
– Closes the Income Summary account.
– Transfers the balance, net income or net loss, to the
Capital account.
– A credit balance in the Income Summary account
(before closing) indicates net income (profit); a debit
balance indicates a net loss.
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The 4 Steps to Close the Accounts (continued…)
Close the Withdrawals account balance to the Capital
account.
– Closes the Withdrawals account.
– Transfers the balance to the Capital account.
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The Accounts After Closing
• Accounts are ready for next period.
• Revenue, expense, and Withdrawals accounts
(temporary accounts) have zero balances.
• The Capital account has been increased to reflect the
company’s net income and decreased for
withdrawals.
• The balance sheet accounts (permanent accounts)
show the correct balances, which are carried forward
to the next period.
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Accounting information (the natures of assets/ liabilities/
owner’s equity/ revenues/ & expenses)
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Accounting Terms- information
Assets (debit nature
accounts)
Items of value owned &
controlled by the Business Such
as: Buildings/ Cash/ Vehicles/
Accounts Receivable/ Oil fields/
Goodwill
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Assets are resources owned
by a business. They are used
in carrying out such activities
as production, consumption
& exchange.
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Accounting Terms- information
Liabilities (credit nature
Accounts)
Amounts owed by Business to
others (Mortgage/ Loans/
Accounts Payable (company
owes money)
Liabilities are claims
against assets.
They are existing debts
& obligations
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Accounting Terms- information
Owner’s equity (credit
nature accounts)
Capital or Investments by
Owners
Amounts owed by the
Business to the owners
Owner’s Equity is equal to total assets - total liabilities.
Owner’s Equity represents the ownership claim on total assets.
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Accounting Equation




Assets = Liabilities + Owner’s Equity
Total investments = Long-term liabilities + Capital
Non current assets + working capital = Long-term
liabilities + capital
Non current assets + (current assets – current
liabilities) = Long-term liabilities + capital
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Accounting Terms- information
Revenues (credit nature
accounts):
Are income to the business/
Revenue recognition at point
of sale
Examples: Selling goods or services/
interest income/ other income
Expenses (debit nature
accounts):
Are business scarifies to
achieve revenues
Expenses are recognized when
incurred (accrual basis)
Example: Cost of goods sold/ salaries exp/
rent exp/ insurance exp
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Accounting reports
•
•
•
•
Balance sheet (Includes the Assets, Liabilities &
Owners equity).
Income statement (Includes the Revenue & the
expenses).
Cash flow (Tells us how did the management use the
available sources of funds).
Other reports
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Users- accounting
information
Users
• Investors (primary users)
• Employees
• Customers
• Suppliers
• Lenders
• Government
• Public
to assess ability of enterprise to
pay dividends
provide employment/ remuneration
continue in operations
repay debts, continue in operations
pay interest, repay loans
pay tax
provide goods/ services/ & employment
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Example – accounting cycle
The following are Jan 2016 transactions of United Co.
Jan 1 invested capital $ 100,000 deposited in Co. bank account
Jan 2 paid $ 3,000 representing 3 month rent in advance
Jan 10 purchased Co. car for $ 10,000 & issued a check
Jan 15 purchased 100 units of product A at $ 100 per unit
Jan 20 sold 50 units of product A at $ 150 per unit
Jan 25 collected 50% of the receivables paid 50% of the payables
Jan 30 paid the salaries of $ 2,000
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Date
Jan 1
Jan2
Jan 10
Jan 15
Jan 20
Journal Book- Accounts
Bank
Capital
Debit record
Credit record
100,000
100,000
Prepaid rent
Bank
3,000
3,000
Co. Car
Bank
10,000
Inventory Pro A
Accounts payable
10,000
10,000
10,000
Accounts receivables
Sales
7,500
7,500
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Date
Jan 20
Jan 25
Jan 30
Journal Book- Accounts
Debit record
Cost of Goods Sold
Inventory Pro A
5,000
Bank
Accounts payable
Accounts receivables
Bank
3,750
5,000
Salaries expenses
Banks
2,000
Credit record
5,000
3,750
5,000
2,000
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Bank
Date - Reference
capital
Prepaid rent
Co. car
Accounts receivables
Accounts payables
Salaries expenses
Capital
Dr
100,000
Cr
3,000
10,000
3,750
5,000
2,000
Balance Date - Reference
100,000 bank
97,000
87,000
90,750
85,750
83,750
Prepaid rent
Date - Reference
Bank
Dr
3,000
Cr
Balance
3,000
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Dr
Cr
Balance
100,000 100,000
Co. Car
Date - Reference Dr
bank
10,000
Cr Balance
10,000
79
Inventory Pro A
Date - Reference
Accounts payables
Cost of goods sold
Accounts payable
Dr
Cr
Balance
Date - Reference
10,000
10,000 Inventories
5,000 5,000 Bank
Accounts receivables
Cr
Balance
10,000 10,000
5,000
5,000
Sales
Date - Reference Dr
Cr
Sales
Bank
7,500 Accounts receivables
3,750 3,750
7,500
Dr
Balance
Date - Reference
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Dr
Cr
Balance
7,500 7,500
80
Cost of goods sold
Date - Reference Dr
Inventory Pro A 5,000
Salaries expenses
Cr Balance Date - Reference Dr
5,000 Bank
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2,000
Cr Balance
2,000
81
Trail Balance
Account
Dr Balance
Bank
Capital
Prepaid rent
83,750
Co. Car
Inventory Pro A
Account Payables
Account receivables
10,000
5,000
Cr Balance
100,000
3,000
5,000
3,750
Sales
Cost of goods sold
Salaries exp
Total balances
7,500
5,000
2,000
112,500
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112,500
82
After producing the first trail balance (used to be unadjusted trial balance)
you discover the following adjustments
The prepaid rent account is not adjusted
Utilities exp of $ 50 not recorded
Car depreciation of $ 100 not recorded
This will require the following:
1. To record the following adjusting entries in journal book
2. Post these entries to ledgers
3. Produce an adjusted trial balance, from which financial
reports can be generated
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Date
Jan 31
Jan 31
Jan 31
Journal Book- Accounts
Rent expenses
Prepaid rent
Debit record
Credit record
1,000
1,000
Utilities expenses
Utilities payable
50
50
Depreciation expenses
Accumulated depreciation
100
100
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Rent expenses
Date - Reference Dr
Prepaid rent
1,000
Prepaid rent
Date - Reference Dr
Depreciation expenses
Cr Balance Date - Reference Dr
Accumulated
1,000 depreciation
Utilities expenses
Cr Balance Date - Reference Dr
100
100 Utilities payable
Accumulated depreciation
Cr Balance Date - Reference Dr
Depreciation
Bank
3,000
3,000 expenses
Rent expenses
1,000 2,000
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Balance
50
50
Utilities payables
Cr Balance Date - Reference Dr
100
Cr
Utilities
100
expenses
Cr
Balance
50
50
85
Adjusted Trail Balance
Account
Dr Balance
Bank
Capital
Prepaid rent
Co. Car
Inventory Pro A
Account Payables
Account receivables
Sales
Cost of goods sold
Salaries exp
Rent expenses
Depreciation expenses
Accumulated depreciation
Utilities expenses
utilities payables
Total balances
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Cr Balance
83,750
100,000
2,000
10,000
5,000
5,000
3,750
7,500
5,000
2,000
1,000
100
100
50
112,650
50
112,650
86
Income statement for the month of Jan 2016
Revenues
Sales
Cost of goods sold
Gross profits
General & Administration expanses
Salaries
Rent expenses
Utilities expenses
Depreciation expenses
Total expenses
Net Income before taxes
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7,500
5,000
2,500
2,000
1,000
50
100
3,150
-650
87
Balance sheet as at Jan 31, 2016
Assets
current assets
Bank accounts
Accounts receivables
Inventories (Pro A)
Prepaied rent
Total current assets
Non- current assets
Co. Car
Accumultated depreciation
Net non-current assets
Total assets
Liabilities & equity
liabilities
Current liabilites
Accounts payables
utilities payables
Total current liabilities
long-term liabilities
--Total long-term liabilities
Total liabiliites
capital
equity
Net profits/ Net Losses
Total Equity
Total Liabilities & equity
83,750
3,750
5,000
2,000
94,500
10,000
(100)
9,900
104,400
5,000
50
5,050
5,050
100,000
(650)
99,350
104,400
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Date
Jan 31
Jan 31
Jan 31
Jan 31
Journal Book- closing
entries - Accounts
Debit record
revenues
Income summary
7,500
Income summary
Cost of goods sold
5,000
Income summary
Salaries expenses
Rent expenses
Utilities expenses
Depreciation expenses
3,150
Credit record
7,500
5,000
2,000
1,000
50
100
Retained losses
Income summary
650
650
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Bank
Date - Reference
capital
Prepaid rent
Co. car
Accounts receivables
Accounts payables
Salaries expenses
Capital
Dr
100,000
Cr
3,000
10,000
3,750
5,000
2,000
Balance Date - Reference
100,000 bank
97,000
87,000
90,750 Date - Reference
85,750
83,750
bank
Inventory Pro A
Date - Reference
Accounts payables
Cost of goods sold
Dr
Cr
Balance
100,000 100,000
Co. Car
Dr
Cr
10,000
Balance
10,000
Accounts payable
Dr
Cr
Balance
Date - Reference
10,000
10,000 Inventories
5,000 5,000 Bank
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Dr
Cr
Balance
10,000 10,000
5,000
5,000
90
Prepaid rent
Accounts receivables
Date Reference
Sales
Bank
Dr
Cr
Balance
Date Reference
7,500 Bank
7,500
3,750
3,750 Rent expenses
Dr
Cr
3,000
Balance
3,000
1,000
2,000
Accumulated depreciation
Date - Reference
Dr
Cr
Balance
Depreciation expenses
100
100
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Sales
Date - Reference
Dr
Cr
Accounts receivables
7,500
income summary
Balance
7,500
7,500
0
Cost of goods sold
Date - Reference
Inventory Pro A
Dr
Cr
5,000
income summary
5,000
5,000
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Balance
0
92
Rent expenses
Date - Reference
Prepaid rent
income
summary
Dr
Cr
Depreciation expenses
Balance
Date - Reference
Accumulated
1,000 depreciation
1,000
1,000
Bank
income
summary
Dr
Cr
2,000
Balance
100
100
100
0
Utilities expenses
Balance
2,000
2,000
Cr
0 income summary
Salaries expenses
Date Reference
Dr
Date Reference
Utilities
payable
income
0 summary
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Dr
Cr
Balance
50
50
50
0
93
Date - Reference
income summary
Dr
Cr
Sales
Balance
7,500
Cost of good sold
Salaries expenses
Rent expenses
Utilities expenses
Depreciation expenses
5,000
2,000
1000
50
100
7,500
2,500
500
-500
-550
-650
Retained losses
650
0
Retained profits/ losses
Date - Reference
income summary
income summary
Dr
Cr
650
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Balance
650
94
Post closing Trail Balance
Account
Dr Balance
Cr Balance
Bank
83,750
Capital
100,000
Prepaid rent
2,000
Co. Car
10,000
Inventory Pro A
5,000
Account Payables
5,000
Account receivables
3,750
Sales
0
0
Cost of goods sold
0
0
Salaries exp
0
0
Rent expenses
0
0
Depreciation expenses
0
0
Accumulated depreciation
0
100
Utilities expenses
0
0
utilities payables
0
50
income summary
0
0
Retained profits/ losses
650
Total balances
105,150
105,150
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Notes:
• All of the activity accounts (sales/ COGS/ salaries exp/ rent
exp/ utilities exp/ depreciation exp/ an others if any) are
closed in the income summary account
• The balance of the income summary account itself is closed in
retained profits/ losses account
• The post closing trial balance includes the real permanent
accounts (balance sheet accounts) only
• Form the post closing trial balance, financial accountants can
get the opening balance of accounts with which they will start
a new accounting period
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Some of accounting issues & treatments
(accounting policies)
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Accounting policies
Rules & procedures selected, & consistently followed, by
the management of an organization in preparing &
reporting the financial statements.
Accounting policies deal specifically with matters such as
consolidation of accounts, depreciation methods, goodwill, inventory
pricing, & research & development costs.
Accounting policies must be disclosed in the annual
financial statements.
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Accounting policies- Noncurrent assets
1- Plant assets: to be depreciated
(BUILDING , EQUIPMENT , TOOLS , FURNITURE'S & VEHICLES LAND IS EXCLUDED,
INDEFINITE LIFE AND IS NOT DEPRECIATED)
2- Natural resources : to be depleted
(OIL FIELDS , COAL MINES, & MINERAL DEPOSITS)
3- Intangible assets : to be amortized
(PATENTS , COPYRIGHTS , LEASEHOLDS, FRANCHISES ,TRADEMARKS AND
GOODWILL)
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Accounting policies- Non- current
assets - Depreciation
Depreciation
Depreciation is an allocation of historical cost to time
periods.
Except by coincidence, the net book value number at a
point in time (original book value or cost - accumulated
depreciation) does not reflect the economic worth of the
asset at that time.
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Accounting policies- Non- current
assets - Depreciation
• Straight line Depreciation = (Book value – Salvage value)/
Useful life
• Double declining depreciation :
(1) Straight line rate = 100%/ Useful life
(2) Then Double declining rate = Straight line rate x 2, &
(3) Periodic Depreciation = Net book value x Double
declining rate
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Accounting policies- Non- current
assets - Depreciation
• Production method depreciation:
(1) Depreciation per unit = (Book value – salvage value)/
Total number of estimate production
(2) Then Periodic Depreciation= Actual periodic
production x depreciation per unit
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Accounting policies- Non-current assets
Depletion & Amortization
• Depletion method depreciation is used for the natural
resources assets, & using production method
• Amortization is for the intangible assets, straight line
method is applied.
For examples, Please refer to the problems end of this part of the presentation
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Green Valley Co. purchased a machine in 2013 for $ 20,000. the
machine has an expected useful life of 4 years & a salvage value
of $ 800. the Co. expects to use the machine for 2,000 hours the
first year, 1,800 hours the second year, 1,300 hours the third
Year, & 700 during the last year
Required: compute the depreciation expenses, for
2015, 2016, & 2017 using the 3 depreciation methods
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Straight line depreciation = (20,000 – 800)/ 4 = 4,800 per year
Entry Depreciation expenses
Accumulated depreciation
4,800
4,800
Production method depreciation year 1 = (20,000 – 800) x 2,000
h/ 5,800 h (total number of hours) = $ 6,620
Double declining depreciation in year 1 = 50% (DDR) x 20,000 =
10,000
Double declining depreciation in year 2 = 50% (DDR) x (20,00010,000) = 5,000
Double declining depreciation in year 3 = 50% (DDR) x (20,000 =
15,000) = 2,500
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Accounting policies - Current assets
cash & bank accounts
• Cash and bank accounts, marketable securities, notes
receivables, accounts receivables, & inventory are examples
for the current assets
• Bank reconciliation is prepared end of period to reach
reconciled balance
For examples, Please refer to the problems end of this part of the presentation
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Accounting policies - Current assets
Accounts receivables
For the sales on credit, the entity has to set a policy for the
doubtful accounts and creating allowance for doubtful
accounts
Allowance method: Aging, Direct write off, & percentage of
net receivables methods are applied to create the allowance
for doubtful accounts.
For examples, Please refer to the problems end of this part of the presentation
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Accounting policies - Current assets
Inventories- purchases
Periodic system to record purchases in case the purchased
items are fast moving, non-controllable, & have low value
Perpetual system to record purchases is used when the
purchased items are controllable, have high value
Please refer to:
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Accounting policies - Current assets
• Costing methods are first in- first out, weight moving average,
last in – first out (GAAP only), & cost of specific unit
• Costing methods are used to determine the cost of goods sold
For examples, Please refer to the problems end of this part of the presentation
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Current liabilities
Such as accounts payables, accruals, overdraft bank accounts,
short-term bank loans, are examples for current liabilities
Issues related to these accounts are:
Add on interest methods,
Discounted interest method,
Flat interest method
For examples, Please refer to the problems end of this part of the presentation
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Long-term liabilities
Such as Long-term bank loans, bonds payables, are examples
for long-term liabilities
Issues related to these accounts are:
Effective interest method is used to amortize discounts/
premiums on bonds payables
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2
Bond
The underlying contract between the company issuing
bonds and the bondholders is called a bond indenture or
trust indenture.
Usually, the face value of each bond, called the principal, is
$1,000 or a multiple of $1,000. Interest on bonds may be
payable annually, semiannually, or quarterly. Most pay
interest semiannually.
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A bond is a long-term debt instrument that promises
to pay interest periodically as well as a principal amount at
Maturity
Coupon bonds: BONDS with interests
Secured bonds: Pledge some properties
Serial bonds :Series maturities for serial bonds
Registered bonds: Record of the owners of REG by the trustee
party
Convertible bonds: The holder has the right to convert the
bonds to capital stock – shares at a specific exchange rate
Zero coupon bonds: No interest but sold at deep discount
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The discount on bonds is not an immediate loss. It has to be
amortized using the effective interest method
The premium on bonds payable is not deferred gains or
Profits. The premium account has to be amortized using the
effective method as well
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2
MARKET RATE = CONTRACT RATE
Selling price of bond = $1,000
If the contract rate equals the market rate of interest,
the bonds will sell at their face amount.
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3
On January 1, 2009, Eastern Montana Communications Inc.
issued for cash $100,000 of 12%, five-year bonds; interest
payable semiannually. The market rate of interest is 12%.
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3
Since the bond rate of interest and the market rate of interest
are the same, the bonds will sell at their face amount.
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3
Every six months (on June 30 & December 31) after the bonds
are issued, interest of $6,000 ($100,000 × .12 × 6/12) is paid.
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3
The bond matured on December 31, 2013. At this time, the
corporation paid the face amount to the bondholder.
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2
MARKET RATE > CONTRACT RATE
Selling price of bond < $1,000
–
Discount
If the market rate is higher than the contract rate, the
bonds will sell at a discount.
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3
On January 1, 2009, the firm issued $100,000 bonds for
$96,406 (a discount of $3,594).
The discount may be viewed as the amount required by investors to
accept a bond rate of interest below the market rate.
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3
Amortizing a Bond Discount
The two methods of computing amortization of a bond
discount are as follows:
1. Straight-line method
2. Effective interest rate method, sometimes called
the interest method
Both methods amortize the same total amount of discount
over the life of the bonds.
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3
Straight-Line Amortization
On June 30, 2009, six-months’ interest is paid & the bond
discount is amortized ($3,594 × 1/10) on the five-year
*
*$100,000 × 12% × 6/12
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3
On January 1, 2009, Western Wyoming Distribution Inc.
issued $100,000, 12% (paid semiannually on June 30 and
December 31), five-year bonds when the market rate was
13%.
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3
Issuing Bonds at a Discount
On the first day of the fiscal year, a company issues a $1,000,000,
6%, 5-year bond that pays semi-annual interest of $30,000
($1,000,000 × 6% × ½), receiving cash of $936,420. Journalize the
entry to record the issuance of the bonds.
Cash……………………………………………
Discount on Bonds Payable……………….
Bonds Payable…………………………
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936,420
63,580
1,000,000
125
3
Discount Amortization
Using the bond from previous example, journalize the first
interest payment and the amortization of the related bond
discount.
Interest Expense…………………………….
Discount on Bonds Payable…………
Cash…………...…………………………
36,358
6,358
30,000
Paid interest and amortized the bond discount ($63,580 ÷ 10).
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2
MARKET < CONTRACT RATE
Selling price of bond > $1,000
+
Premium
If the market rate is lower than the contract rate, the
bonds will sell at a premium.
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3
Bonds Issued at a Premium
On January 1, 2009, Northern Idaho Transportation Inc. issued
a $100,000, 12%, five-year bond for $103,769. The market rate
of interest was 11%.
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3
Amortizing a Bond Premium
The first entry to record the interest payment & the
amortization of the $100,000, 12%, five-year bond issued on
January 1, 2009 is made on June 30, 2009.
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3
Issuance of Bonds at a Premium
A company issues a $2,000,000, 12%, five-year bond that pays
semiannual interest of $120,000 ($2,000,000 × 12% × ½),
receiving cash of $2,154,440. Journalize the bond issuance.
Cash……………………………………………
2,154,440
Premium on Bonds Payable...……….
154,440
Bonds Payable…………………………
2,000,000
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3
Premium Amortization
Using the bond from Example Exercise 12-4, journalize the first
interest payment and the amortization of the related bond
premium.
Interest Expense………………..……………
Premium on Bonds Payable...……………..
Bonds Payable…………………………
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104,556
15,444
120,000
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3
Bond Redemption
A corporation may call or redeem bonds before they
mature. Callable bonds can be redeemed by the issuing
corporation within the period of time and the price
stated in the bond indenture. Normally, the call price is
above the face value.
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3
On June 30, a corporation has a bond issue of $100,000
outstanding on which there is an unamortized premium of
$4,000. The corporation purchases one-fourth of the bonds for
$24,000.
Gains and losses on the redemption of bonds are reported as
Other Income (Loss).
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3
The corporation calls the remaining $75,000 of outstanding
bonds, which are held by a private investor, for $79,500 on July
1, 2009.
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3
Redemption of Bonds Payable
A $500,000 bond issue on which there is an unamortized
discount of $40,000 is redeemed for $475,000. Journalize the
redemption of the bonds.
Bonds Payable...………………..……………….
Loss on Redemption of Bonds..……………...
Discount on Bonds Payable……………..
Cash………………………………………….
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500,000
15,000
40,000
475,000
135
Example- effective method to amortize premium/ discount
A bond of $ 1,000 , & 3 years maturity, that gives 10% annual
interest
1. What is the bond market price if the market rate is 8%
2. Record the issuance entry
3. Amortize the premium on bonds payable using the effective
method
4. Record the annual interest payment entries
5. Record the settlement of the bonds upon maturity
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1- The bond market price if the market rate is 8%
0
92.59 85.73 873.22
1
100
2
100
3
1100
Bond market price = 92.59+ 85.73+ 873.22 = $ 1,051
2- The issuance entry
Dr
Cr
Bank account
1,051
Premium on bonds payables
51
Bonds payables
1,000
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3- Amortizing the premium on bonds payable - effective method
Yr Cash int
0
1 100
2 100
3 100
market 8%
85
83
81
amortized
15
17
19
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premium bal
51
36
19
00
NBPAY
1,051
1,036
1,019
1,000
138
4- The annual interest payment entries
Yr 1 Account
Bond interest expenses
Premium on bonds payables
Bank account
Yr 2 Account
Bond interest expenses
Premium on bonds payables
Bank account
Yr 3 Account
Bond interest expenses
Premium on bonds payables
Bank account
Dr
85
15
Cr
100
Dr
83
17
Cr
100
Dr
81
19
Cr
100
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5- The settlement of the bonds upon maturity
Yr 3 Account
Dr
Bonds payables
1,000
Bank account
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Cr
1,000
140
Example
A bond of $ 1,000 , & 3 years maturity, that gives 10% annual
interest
1. What is the bond market price if the market rate is 12%
2. Record the issuance entry
3. Amortize the discount on bonds payable using the effective
method
4. Record the annual interest payment entries
5. Record the settlement of the bonds upon maturity
Solve in class
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