Vu Accounting Lesson 29

Financial Accounting - I – MGT101

VU Lesson # 29

PRESENTATION OF FINANCIAL STATEMENTS Profit & Loss Account Standard format of profit & loss account is shown as follows: Particulars

Amount Rs.

Sales Less: Cost of Goods Sold Gross Profit Less: Administrative Expenses Selling Expenses

X X

Operating Profit Less: Financial Expenses Add : Other income Profit Before Tax Less: Tax Net Profit After Tax for the Year Other income

Amount Rs. X (x) X (x) X (x) X (x) X

Sales Sales as we know are the revenue against the sale of the product in which the organization deals. In case of a service organization, there will be Income against Services Rendered instead of Sales and there will be no Cost of Sales or Gross Profit. Cost of Goods Sold/Gross Profit Cost of goods sold is the cost incurred in purchasing or manufacturing the product, which an organization is selling plus any other expense incurred in bringing the product in salable condition. Cost of goods sold contains the following heads of accounts: o o o o

Purchase of raw material/goods Wages paid to employees for manufacturing of goods Any tax/freight is paid on purchases Any expense incurred on carriage/transportation of purchased items. Gross Profit = Sales – Cost of goods sold

Other Income Other income includes revenue from indirect source of income, such as return on investment, profit on PLS account etc. © Copyright Virtual University of Pakistan

208

Financial Accounting - I – MGT101

VU

Administrative Expenses Administrative expenses are the expenses incurred in running a business effectively. Main components of this group are: o o o o o

Payment of utility bills Payment of rent Salaries of employees General office expenses Repair & maintenance of office equipment & vehicles.

It is important to distribute expenses properly among the three classifications i.e. Cost of Goods Sold, Administrative Expenses and Selling Expenses to present the financial statements fairly. Take the example of following costs: o Salaries and Wages o ƒ Although both these terms mean remuneration paid to labor and employee against services. ƒ Wages usually denotes remuneration paid to daily wages labor. Whereas salary denotes payments to permanent employees. ƒ Salaries can be classified in any of the classifications mentioned below. • Salaries / wages paid to labor and supervisors/officers working for the manufacturing of goods become a part of Cost of Goods Sold. • Salaries and benefits of general administrative staff becomes part of Administrative Expenses • Salaries and benefits of sales and marketing staff become part of selling expenses. Other expenses like Depreciation, Utilities and Maintenance can also be classified in all three, depending upon the exact nature of the expenditure. Selling Expenses Selling expenses are the expenses incurred directly in connection with the sale of goods. This head contains: o Transportation/carriage of goods sold o Tax/freight paid on sale If the expense head ‘salaries’ includes salaries of sales staff, it will be excluded from salaries & appear under the heading of ‘selling expenses’. Financial Expenses Financial expenses are the interest paid on bank loan & charges deducted by bank on entity’s bank accounts. These are shown separately in the Profit and Loss Account. These include: © Copyright Virtual University of Pakistan

209

Financial Accounting - I – MGT101 o Interest on loan o Bank charges

VU

There is, however, one exception and that is the interest paid on loan taken to build an asset is capitalized as cost of the asset up to the time that asset is completed. Income Tax Different types of entities have to pay income tax at different rates. At the time of preparing annual financial statements, an estimate of expected tax liability is made. A provision is then, created equal to that estimate. You should remember the treatment of Provision for Doubtful debts. Same is the case with income tax i.e. provision is made at the time of preparing accounts which is then adjusted accordingly at the time when actual tax expense is known. Balance Sheet (Asset Side) Standard format of the balance sheet is given as follows: Particulars

Amount Rs. Amount Rs.

Assets Non Current Assets Fixed Assets Capital Work In Progress Deferred Costs Long Term Investments Current Assets Stocks Trade debtors and Other Receivables Prepayments Short Term Investments Cash and Bank Total

X X X X X X X X X X

X

Fixed Assets • •

Fixed assets are the assets of permanent nature that a business acquires, such as plant, machinery, building, furniture, vehicles etc. Fixed assets are presented at cost less accumulated depreciation OR revalued amount.

Capital Work In Progress If an asset is not completed at that time when balance sheet is prepared, all costs incurred on that asset up to the balance sheet date are transferred to an account called Capital Work in Progress Account. This account is shown separately in the balance sheet below the fixed assets. Capital work in progress account contains all expenses incurred on the asset until it is converted into working condition. All these expenses will become part of the cost of that asset. © Copyright Virtual University of Pakistan

210

Financial Accounting - I – MGT101 VU When an asset is completed and it is ready to work, all costs will transfer to the relevant asset account. Deferred Costs An expense that has a future benefit in excess of one year and recorded in a capital asset account Long Term and Short Term Investments Where a business has surplus funds, it is better to invest those funds where these can generate a return greater than PLS accounts. These investments can be of different types e.g. shares of other companies, fixed deposits with banks, government securities, national savings etc. or presentation purposes, these Investments are classified in two categories, long term and short term investments. Investments made with the intention that they will be held for a period longer than twelve months are classified as long term and those made for a period equal to or shorter than 12 months are classified as short term. Following things are important to note here: • • • •

Classification is to be made every time a balance sheet is prepared and the period is to be calculated from the date of balance sheet. This means that an investment made for 2 years on May 2000 will be classified as long term investment in accounts prepared on Jun 30, 2000 and the same investment will be classified as current investment in the accounts prepared on June 30, 2001. An investment may initially be made as current investment. Subsequently, if it is decided to hold it for a longer period, then its classification will have to be changed accordingly and vice versa. Therefore, investments are checked for classification every time a balance sheet is prepared and presented accordingly.

Current Assets Current Assets are the receivables that are expected to be received within one year of the balance sheet date. Debtors, closing stock & all accrued incomes are the examples of Current Assets because these are expected to be received within one accounting period from the balance sheet date. It is important to note that assets and liabilities are presented in the balance sheet in the order of their maturity i.e. assets / liabilities having longer life are presented first and assets / liabilities having shorter life are presented later.

© Copyright Virtual University of Pakistan

211