CH 8 – THE WORKSHEET AND FINANCIAL STATEMENTS

8.1 The Six-Column Worksheet

• A worksheet is an informal business paper used to organize and plan the information for the financial statements.

• The worksheet is prepared on columnar paper – usually in pencil so that changes can be made.

Control Accounts for AR and AP

• The Accounts Receivable Control Account represents the sum of the balances of all the individual Accounts Receivable Accounts.

• The Accounts Payable Control Account represents the sum of the balances of all the individual Accounts Payable Accounts.

• Why do we do this?

• Streamlines the worksheet

• Some companies will have hundreds or thousands of debtors and/or creditors

Steps in preparing the worksheet

1. Name, title (worksheet), fiscal period.

2. Enter all amounts with their balances in the first 2 columns. Make sure these are correct! They must balance!

3. Extend each of the amounts from the trial balance columns into one of the four columns to the right. Revenue and Expense items

to the income statement. All other items (assets, liabilities, capital, and drawings) are extended to the balance sheet columns. Be

sure to record all amounts accurately!

4. Balance the worksheet

Balance the worksheet continued

• a) Total each of the four columns and write in the totals.

• b) Calculate the difference between the two income statement columns, $35579.01

and the difference between the two balance sheet columns ($35579.01)

– they should be equal! If they are not then an error has been made.

Balance the worksheet continued

• c) Record the balancing figure on the worksheet in 2 places. If revenues are greater than expenses then the figure represents a net income. Write Net Income in the accounts section. Record the balance on the debit side of income statement and on credit side of balance sheet.

• d) rule and show the final column totals.

Net Loss

• Everything is the same except you record the balancing figure in the center/inner two columns

The Work Sheet and Financial Statements

• Owners and business executives rarely look at the raw data

• They rely on the accounting dept to maintain accurate records

• Instead the accounting dept produces first class reports and statements for them

• The completed Work Sheet has all the necessary info needed to prepare the income statement and balance sheet.

Note the new way to do a Balance Sheet:

Income Statement:

The Accounting Cycle

8.2 How accounts use Income Statements

• Needed by owners/managers to evaluate the stability and growth of a business.

• Comparing Income Statements

• When comparing two consecutive years:

• 1. The dollar amount increase or decrease from the first year to the second

• 2. The percentage amount of the increase or decrease from the first year to the second

Example:

Car expense is increasing.

• Why?

• Is the sales force driving further? Obtaining more orders?

• If so, is AR or Sales Revenue increasing too?

• If not, then maybe the cars are becoming less economical

• Need to be sold/replaced.

Trend Analysis• Shows the financial data over a number of

consecutive periods

• Ex) Sales for XYZ Company

• Year 1 55 000

• Year 2 60 000

• Year 3 75 000

• Year 4 45 000

• Year 5 105 000

• Year 6 112 000

Now as percentages:

• Year 1 55 000 100%

• Year 2 60 000 109.1%

• Year 3 75 000 136.4%

• Year 4 45 000 88.1%

• Year 5 105 000 190.9%

• Year 6 112 000 203.6%

Or even as a graph

Common-size Income Statements

• Allows you to compare the income statements of two different companies.

• This is not easily done just by looking at only the dollar figures

• So we use percentages to scale them to the same size

• This is called common-size form:

Common-size Inc. State.

8.3 How Accountants use balance sheets

• Balance Sheet – Account Form and Report Form

• Account form information is presented side-by side

• Report Form information is presented vertically

Classified Balance Sheet

• Has the data grouped according to major categories

• Makes it easier to analyze the information on the balance sheet

Classified Balance Sheet• 1) The heading gives:

• Name of business

• Name of statement

• Date on which the balance is taken

• 2) Current Assets assets that will be converted to cash (or used up) during the next year

• 3) Fixed Assets long term assets held for their usefulness in producing goods and services

• 4) Current Liabilities short term debts, payment of which is expected to occur within one year of the date of the balance sheet

Classified Balance Sheet• 5) Long-term liabilities debts of the business that are not

due within one year

• 6) Capital the owners claim on assets

• Beginning Balance

• Increase/Decrease (Net Profit/Loss)

• Drawings

• Ending Balance

• 7) Inner columns are used to list individual items building up to subtotals

• 8) The two balancing totals: total assets, and total liabilities + Owner’s Equity

Working Capital• the difference between the current assets and

current liabilities

• The more working capital there is the better of the company is

• The more working capital you have the better able you are to pay of your liabilities and/or invest in ways to improve your business.

• Fixed assets and long-term liabilities also match up well.

• The fixed assets (building, cars) and the means you used to attain these (long term loans) give you a good idea of where your company is financially. The greater the difference in these the better off your company will be.

Comparative Financial Statement

• Presents figures for successive years in side-by-side columns

• Both income statements and balance sheets may be shown in this way

When analysing:• First look for items showing unusual change

• Can be a signal of a difficult situation

• Ex AR increased to 140% but sales did not increase.

• Or maybe little or no change has occurred

• This is also a sign of concern

• Business not moving forward/improving

• Or spend lots of money on advertising and no sales improvements.

• Analysing is important not only for the answers they provide but also the questions they generate!

8.4 Accountability

• Shows how well managers have been managing the company

• Management must provide evidence of its performance

• The five most common people to use financial statements:

• 1) Managers carefully study to improve performance

Accountability continued

• 2) Owners to see how managers are doing

• 3) Creditors to view a company’s progress assess loans or take away loans

• 4) Shareholders must provide shareholders with financial papers (the law)

• 5) Investors/Brokers stock brokers and potential investors use them too

Quality of Financial Statements• Financial Statements are very important

• They need to be accurate, complete, up-to-date and reliable

• For this reason we have the GAAPs

• So that bankers, owners, … can read them with confidence

• To make sure you are meeting standards, most companies have to undergo an audit.

• An audit is a critical review by a public accountant of the internal controls and accounting records of a company

• There are some new GAAPs important for accountability

GAAP – The Consistency Principle

• Requires that a business must use the same accounting methods and procedures from period to period

• Prevents people from manipulating figures

GAAP – THE materiality Principle

• Requires accountants to follow GAAPs except when to do so would be expensive or difficult, and where it makes no real difference if the rules are ignored

• Ex) small error found after printing document of $50 for net income. Net income was $350 000 very small in comparison so not necessary to correct

GAAP – The Full Disclosure Principle

• All information needed for a full understanding of the company’s financial affairs must be included in the financial statements

• A law suit against a chemical company you would need to disclose this info