The Work Sheet and Financial Statements

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The Work Sheet and The Work Sheet and Financial StatementsFinancial Statements

Chapter 8

Created by D. GilroyHeart Lake Secondary School 2

The Six-Column The Six-Column Work ShopWork Shop

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Purpose of the Work Sheet

A work sheetwork sheet is an informal business paper used to organize and plan the information for the financial statements.This is a great application for a computerized spreadsheet program.In Chapter 9 we will expand the work sheetwork sheet to eight columns, allowing for the adjustments required by certain GAAPs.

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Control AccountsControl Accounts for Accounts for Accounts Receivable and Accounts PayableReceivable and Accounts Payable

In the future, when we prepare a trial balance, or a work sheet, we will not display the debtors’ names or creditors’ names associated with Accounts Receivable and Accounts Payable.Alternatively, we will use control accountscontrol accounts.The Accounts Receivable control accountAccounts Receivable control account represents the sum of the balances of all the individual Accounts Receivable accounts.

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Control AccountsControl Accounts for Accounts for Accounts Receivable and Accounts PayableReceivable and Accounts Payable

The Accounts Payable control accountAccounts Payable control account represents the sum of the balances of all the individual Accounts Payable accounts.Having two control accounts, instead of dozens or hundreds of individual debtors’ and creditors’ accounts, streamlines the work sheet.The details about the accounts of individual debtors and creditors are kept in separate records. This will be covered in more detail in Chapter 11.

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Steps in Preparing a Steps in Preparing a Work SheetWork Sheet

Step 1Step 1Write in the title of the work sheet and all of

the headings:AccountsTrial BalanceIncome StatementBalance Sheet

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Steps in Preparing a Steps in Preparing a Work SheetWork Sheet

Step 2Step 2Enter all accounts, with their

balances, in the first two

columns.

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Steps in Preparing a Steps in Preparing a Work SheetWork Sheet

Step 3Step 3Extend each of the amounts from the trial balance.

Assets,Liabilities,Capital andDrawings

in theBalance SheetBalance Sheet

columns.

Revenue andExpenses inthe IncomeIncomeStatementStatementcolumns.

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Steps in Preparing a Steps in Preparing a Work SheetWork Sheet

Step 4:Step 4: Balance the work sheet … (a) take totals

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Steps in Preparing a Steps in Preparing a Work SheetWork Sheet

Step 4:Step 4: (b) calc. difference

Make sure thedifference for

the IncomeIncomeStatementStatement

columns equalsthe difference for the BalanceBalanceSheetSheet columns.

If they are notequal, the work

sheet doesnot balancenot balance.

Errors must be found before proceeding to

the preparationof financialstatements.

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Steps in Preparing a Steps in Preparing a Work SheetWork Sheet

Step 4:Step 4: (c) Record the balancing figure (difference) in the appropriate Income Statement and Balance Sheet columns. Because revenues (Income Statement credits) are greater than expenses (debits) thedifference is Net IncomeNet Income and it is recorded in the debit column. The balancing figure appears on the credit side

of the Balance Sheet section, because Net Net IncomeIncome represents an increase in capital.

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Steps in Preparing a Steps in Preparing a Work SheetWork Sheet

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Steps in Preparing a Steps in Preparing a Work SheetWork Sheet

Income Statement ColumnsIncome Statement ColumnsRevenue (credits) greaterthan expenses (debits).Result … Net IncomeNet Income.

Balance Sheet ColumnsBalance Sheet ColumnsNet IncomeNet Income (the balancingfigure) is on the credit side

as it is an increase to capital

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Steps in Preparing a Steps in Preparing a Work SheetWork Sheet

Income Statement ColumnsIncome Statement ColumnsIf the work sheet showed a

Net LossNet Loss, the expenses (debits)would be greater than the

revenues (credits). The Net LossNet Loss (balancing figure)would be in the credit column.

Balance Sheet ColumnsBalance Sheet ColumnsIf the work sheet showed a

Net Loss,Net Loss, the balancingfigure would be on the

debit side as it is an decrease to capital.

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The Work Sheet and theThe Work Sheet and theFinancial StatementsFinancial Statements

Review theformat

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Steps in Preparing a Steps in Preparing a Work SheetWork Sheet Review the

format

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Accounts PayableMiscellaneous ExpenseRevenueAdvertising ExpenseWages ExpenseMortgage PayableUtilities ExpenseEquipmentG. Rojek, CapitalDelivery ExpenseHST Recoverable

Bank LoanAccounts ReceivableAutomobileBankG. Rojek, DrawingsSalesBank Charges ExpenseRent ExpenseSuppliesTrucksHST Payable

Class Workp. 260, Exercise 1

For each account listed below, indicate whether it would be extended to the Income Statement or Balance Sheet, debit or credit columns.

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Class Workp. 261, Exercise 2Prepare a work sheet for N. Foreman and

Company for the month ended April 30, 2007.

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Class Workp. 262, Exercise 4Locate errors and make necessary corrections.

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Homeworkp. 261, Exercise 3

Prepare a work sheet for Collision Bodywork and Repairs for the year ended December 31, 2007.

Created by D. GilroyHeart Lake Secondary School 21

How Accountants How Accountants use use

Income StatementsIncome Statements

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Comparing Income Statements

When comparing income statements for two consecutive years, accountants often make the following two calculations for each statement item:1.1. The dollar amount of the increase or The dollar amount of the increase or

decrease from the first year to the decrease from the first year to the second; andsecond; and

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

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Comparing Income Statements

ItemItem Year 1Year 1 Year 2Year 2

$ $ Increase Increase

or or DecreaseDecrease

% % Increase Increase

or or DecreaseDecrease

Car Car ExpenseExpense $50,250$50,250 $59,360$59,360 + $9,110+ $9,110 + 18.13%+ 18.13%

9,110 . 50,250

X 100

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Trend Analysis

A trend analysistrend analysis shows financial data over a number of consecutive periods.It is not easy to interpret a trend just by looking at the numbers.Calculating a percentage change compared to a base year adds meaning to the numbers.Graphing the data can also provide a better perspective of the trend over time.

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Trend AnalysisYear 1Year 1 Year 2Year 2 Year 3Year 3 Year 4Year 4 Year 5Year 5 Year 6Year 6

Sales $ 55,000 $ 60,000 $ 75,000 $ 45,000 $105,000 $112,000

Sales Sales PercentagePercentage 100.0%100.0% 109.1%109.1% 136.4%136.4% 81.8%81.8% 190.9%190.9% 203.6%203.6%

60,00060,00055,00055,000 X 100 112,000112,000

55,00055,000 X 10075,00075,00055,00055,000 X 10045,00045,000

55,00055,000 X 100105,000105,000 55,00055,000 X 100

0

20

40

60

80

100

120

Thousands of Dollars

Year1

Year2

Year3

Year4

Year5

Year6

Selected Sales Date

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Common-Size Income Statements

At times, it may be necessary to compare the income statements of two different companies.To make two companies “look the same”, convert each dollar amount to a percentage using the sales figure as the base.Showing these percentages puts the income statement in common-size formcommon-size form.

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Common-Size Income Statements

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p. 266/267, Exercise 1p. 267, Exercise 3 (use format on p. 264)

p. 267, Exercise 4 (may use computers)

p. 268, Exercise 5 (may use computers)

p. 268, Exercise 6 (may use computers)

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How Accountants How Accountants use use

Balance SheetsBalance Sheets

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Balance SheetBalance SheetAccount Form vs. Report FormAccount Form vs. Report Form

HeadingHeading

AssetsAssets

TotalTotal

LiabilitiesLiabilitiesAndAnd

Owner’sOwner’sEquityEquity

TotalTotal

Account FormAccount FormHeadingHeading

AssetsAssets

TotalTotal

LiabilitiesLiabilitiesAndAnd

Owner’sOwner’sEquityEquity

TotalTotal

Report FormReport Form

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ClassifiedClassified Balance Balance Sheet Sheet

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Classified Balance Sheet

Provides useful totals for comparison.For example, current assets current assets and current current liabilitiesliabilities.

These match up well because the time frame for both is one year.

The difference between current assets and current liabilities is known as working working capitalcapital.Working capital is an indication of a company’s ability to meet current obligations.

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Classified Balance Sheet

Another example, fixed assets fixed assets and long-long-term liabilitiesterm liabilities.

These match up well because the time frame for both is greater than one year.

A comparison of these totals provides insight into the financing of fixed assets.

This also provides an indication of what portion / percentage of fixed assets continue to be financed through long-term debt.

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ComparativeComparativeBalanceBalanceSheetSheet

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Trend Analysis

APOLLO PRINTINGAPOLLO PRINTINGWorking CapitalWorking Capital

1998 - 20021998 - 2002

19981998 19991999 20002000 20012001 20022002

$ 19,626 $ 18,993 $ 20,584 $ 16,761 $ 19,970

100.0%100.0% 96.8%96.8% 104.9%104.9% 85.4%85.4% 101.8%101.8%

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Common-SizeCommon-SizeBalanceBalanceSheetSheet

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p. 276, Exercise 1

p. 277, Exercise 2

p. 277, Exercise 3

p. 278, Exercise 5

p. 279, Exercise 6

Class / Homework

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AccountabilityAccountability

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Accountability

Accounting data is used in many ways, the most important of which is to provide information for the financial statements.AccountabilityAccountability is the company officers’ obligation to show how well they have been managing the company.The financial statements provide evidence of accountabilityaccountability.

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Users of Financial Statements

The five groups who use financial statements most commonly are:

1.1. ManagersManagers – managers probably us the financial statements more than any other group. They use past performance in order to improve results and efficiency, and to eliminate weaknesses.

2.2. OwnersOwners – many owners are not directly involved in managing their companies. Financial statements help them evaluate the performance of the management team.

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Users of Financial Statements

1.1. CreditorsCreditors – particularly bankers, ask for financial statements to assess the company’s progress and its ability to meet its loan obligations.

2.2. ShareholdersShareholders – the law requires that corporations provide their shareholders with financial statements. The shareholders are the real owners of an incorporated company and can use this information to assess progress.

3.3. Investors and brokersInvestors and brokers – shares of public corporations are traded through the stock exchange. Employees of stock brokerage firms and potential investors stay informed by reading corporate financial reports.

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Quality of Financial Statements

Users of financial statements expect accurate, complete, up-to-date, and reliable information.Generally Accepted Accounting Principles (GAAPs) play an important role in the accountability process … they provide the users of financial statements with confidence in the numbers.

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Quality of Financial Statements

An auditaudit is a critical review by a public accountant of the internal controls and accounting records of a company.The auditaudit makes it possible to evaluate the fairness of the company’s financial statements.

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Quality of Financial Statements

In addition to the GAAPs previously discussed, the following help produce credible financial statements:

The consistency principleconsistency principle requires that a businessmust use the same accounting methods and

procedures from period to period. If there is a change in method from one period to

another, the financial statements must clearly indicate the change.

Consistency is assumed unless otherwise stated. Consistency prevents manipulation of information

through the changing of methods of accounting.

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The materiality principlemateriality principle requires accountants to include in a firm’s financial statements

any information that could be considered material (or important) to the users of that

financial information.

Quality of Financial Statements

For information not to be included, it must be such that neither the net income nor the financial position of the firm are impacted in any significant way.

Excluding particular information must not lead statement users to make decisions different from what they would make were they to have that information.

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The full disclosure principlefull disclosure principle states thatall information needed for a full understanding

of the company’s financial affairs must beincluded in the financial statements.

Quality of Financial Statements

Some items that are necessary for an understanding of the company’s financial affairs may not affect the ledger accounts directly.

Such items would be included in the form of accompanying notes to the financial statements.

e.g. Pending litigations, tax disputes, company takeovers, etc.

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p. 293, Exercise 3

p. 293/294, Exercise 4

p. 295, Exercise 5

p. 296, Case 1

p. 297, Case 2

Class / Homework