CHAPTER 5: Worksheet and Financial Statements

THE WORKSHEET
A multi-column document that provides an efficient way to summarize the data for financial statements.
It is not part of the ledger or the journal nor is it a financial statement.
A summary device used by the accountant for his convenience.
Helps transfer data from the unadjusted trial balance to the financial statement
Simplifies the adjusting and closing process.
It can reveal errors.

When to prepare
worksheets? NOTE
WHEN IT IS TIME TO It is possible to prepare financial statements
ADJUST THE ACCOUNTS
directly from the adjusted trial balance at the end
AND PREPARE
FINANCIAL of the accounting period if the business has
STATEMENTS. relatively few accounts.

Preparing the Worksheet

1.  Enter the account balance in the unadjusted trial balance columns and total               
      the amounts

• The numbers, titles and balances of the accounts are lifted directly from the ledger before the
adjusting entries are prepared.
• Accounts are listed in the worksheet in the order they appear in the ledger.
• Accounts with zero balances are also presented.
• Listing all the accounts with their balances helps identify the accounts that need adjustments.

2. Enter the adjusting entries in the adjustments column and the total amounts
• When a worksheet is used, all adjustments are first entered in the worksheet.
• As each adjustment is entered, a letter is used to identify the debit entry and the corresponding credit entry.

The adjustments are not journalized until after the worksheet is

NOTE:
completed and the financial statements prepared.
3. Compute each account’s adjusted balances by combing the unadjusted trial
balance and the adjustment figures. Enter the adjusted amounts in the adjusted
trial balance columns.

• Cross-Footing – the adjusted trial balance are prepared by combining horizontally, line by line, the
amount of each account in the unadjusted trial balance columns with the corresponding amounts in the
adjustment columns.
• The adjusted trial balance columns are then totaled to check the accuracy of the cross-footing.

A simple convention to observe when extending amounts from the trial balance
to the adjusted trial balance:

ADD SUBTRACT
when the types of  when the type of

adjustment is the same adjustment is different

as the unadjusted from the unadjusted

balance balance.

4. Extend the asset, liability, and owner’s equity amounts from the adjusted trial
balance columns to the balance sheet columns. Extend the income and expense
amounts to the income statement columns. Total the statement columns.

• Every account is either a balance sheet account or an income statement account.

• Asset, liability, capital and withdrawal accounts are extended to the balance sheet columns.
• Income and expense accounts are moved to the income statement columns.
• Debits in the adjusted trial balance remain as debits in the statement columns while credits as credits.
• Each account’s adjusted balance should appear in only one statement column.
• At this stage, the initial totals of the income statement and balance sheet columns are not equal.

5. Compute profit or loss as the difference between total revenues and total expenses
in the income statement. Enter profit or loss as a balancing amount in the income
statement and in the balance sheet and compute the final column totals.
• Profit or loss is equal to the difference between the debit and credit columns of the income statement.
• Profit or loss should always be the amount by which the debit and credit columns for income statement
and the debit and credit columns for balance sheet differ. 
 • After completion, the total debits and total credits in the income statement and balance sheet
columns must equal.
• The profit figure is extended to the credit column of the balance sheet because profit increases
owner’s equity and increases in owner’s equity are recorded as credits.
• Profit must be added and withdrawals subtracted to arrive at the ending capital balance; this is done
when statement of changes in owner’s equity is prepared.

ESSENCE OF FINANCIAL STATEMENTS

The financial statements are the means by which the information accumulated
and processed in financial accounting is periodically communicated to the users. 

Without accounting information embodied in the financial statements,

users many not be able to arrive at sound economic decisions.

To provide financial information about the reporting entity’s assets,

liabilities, equity, income and expenses that is useful to users of financial
Objective: statements in assessing the prospects for future net cash inflows to the
reporting entity and in assessing management’s stewardship of the
entity’s economic resources.

COMPLETE SET OF FINANCIAL STATEMENTS

• A statement of financial position as at the end of the period

• A statement of financial performance for the period
• A statement of changes in equity for the period
• A statement of cash flows for the period
• Notes, comprising a summary of significant accounting policies and
other explanatory information.
• A statement of financial position as at the beginning of the earliest
comparative period when an entity applies an accounting policy
retrospectively or makes a retrospective restatement of items in its
financial statements or when it reclassifies items in its financial
statements.
Summary
STATEMENT OF FINANCIAL POSITION 
---- lists all the assets, liabilities and equity of an entity as at a specific date.

STATEMENT OF FINANCIAL PERFORMANCE

---- presents a summary of the revenues and expenses of an entity for a specific period.

STATEMENT OF CHANGES IN EQUITY 

---- presents a summary of changes in capital such as investments, profits or loss and
withdrawals during a specific period.

STATEMENT OF CASH FLOWS 

---- reports the amount of cash received and disbursed during the period.

ACCOUNTING POLICIES 
---- the specific principles, bases, conventions, rules and practices adopted by an enterprise
in preparing and presenting financial statement.

NOTES TO FINANCIAL STATEMENTS 

---- provide narratives descriptions or disaggregation of items presented in the statements
and information about items that do not qualify for recognition in the statements.

Once the worksheet is complete, it is easy to prepare the financial statements for the
account balances.

STATEMENT OF FINANCIAL PERFORMANCE

• An entity can present all items of income and expense recognized in a period:
 A single statement of comprehensive income
Two statements: A statement displaying components of profit or loss
The second statement beginning with profit or loss
and displaying components of other comprehensive
income.

NOTE: 2018 Conceptual Framework does not specify whether the statement of
financial performance comprises a single statement or two statements.
 • In the separate income statement

To obtain the profit or loss for the period, the net effects of discontinued operations will be
considered after obtaining the profit or loss from continuing operations for the period.
To be able to finally establish the total comprehensive income, each component of other
comprehensive income of associates and joint ventures accounted for using the equity method
are required to be presented.

• The Income Statement is a statement showing the performance of the enterprise for a given period of
time

PURPOSE OF INCOME STATEMENT

To determine its Useful in predicting

 To provide the financial profitability – required in the capacity of the
earnings performance of order to assess potential enterprises to
the entity over a specific changes in the economic generate cash flows
period of time. resources that are likely to from existing resource
control in the future. base.
.

STATEMENT OF CHANGES IN EQUITY

• Summarizes the changes that occurred in owner’s equity.
• This statement is now a required statement (per revised PAS No. 1)
• Changes in an enterprise’s equity between two balance sheet dates reflect the increase or
decrease in its net assets during the period.

In case of sole proprietorship:

• Increases in owner’s equity arise from additional investments by the owner and profit during
the period.
• Decrease results from withdrawals by the owner and from loss for the period.
• The beginning balance and additional investments are taken form the owner’s capital
account in the general ledger.
STATEMENT OF FINANCIAL POSITION
• A statement that shows the financial position or condition of an entity by listing the assets,
liabilities and capital as at a specific date.
• The information needed for this statement are the net balances at the end of the period
rather than the total for the period as in the income statement.

PURPOSE: to evaluate an entity’s liquidity, it’s financial flexibility and its ability to
generate profits and its solvency.

Liquidity refers to the availability of cash in the near future after taking
account of the financial commitments over this period.

Financial the ability to take effective actions to alter the amounts and
timings of cash flow so that it can respond to unexpected
Flexibility needs and opportunities.

Solvency refers to the availability of cash over the longer term to meet
financial commitments as they fall.

NOTE:                                                                                                                                                                           

• In preparing balance sheet, it may not be necessary to make any further analysis of the data.

• However, the interim balance for owner’s equity must be revised to include profit or loss and

owner’s withdrawals for the accounting period.

• The adjusted amount for ending owner’s equity is shown in the statement of changes in equity.

FORMAT:                                                                                                                                                                  

• Report Format – simply list the assets, followed by the liabilities then by the owner’s
equity in vertical sequence.
• Account Format – lists the assets on the left and the liabilities and owner’s equity on
the right.

NOTE: Either of the balance sheet format is acceptable.

 CLASSIFICATION                                                                                                                                
(Revised PAS No. 1) doesn’t prescribe the order or format in which an entity
presents items in the balance sheet.

Required: the current and non-current distinctions for assets and liabilities.
It can be presented as vice versa.

When presentation based on liquidity provides accounting information that is reliable

and more relevant – then an entity shall present all assets and liabilities in order of
liquidity.

• Assets are classified and presented in decreasing order of liquidity.

                 -----Cash is the most liquid.

                 -----Assets that are least likely to converted into cash are listed last.

• Liabilities are generally classified and presented based on time of maturity such
that obligations that are currently due are listed first.

NOTE: The total liabilities and owner’s equity do not equal in the total credit of the
balance sheet.
Reason:The accumulated depreciation and withdrawals are subtracted from their
related accounts in the balance sheet but added in their respective columns in the
worksheet.

STATEMENT OF CASH FLOW

• A formal statement that classifies cash receipts (inflows) and cash payments (outflows)
into operating, investing and financing activities.
• This shows the net increase or decrease in cash during the period and the cash balance
at the end of the period
• Also helps project the future net cash flows of the entity.

Operating Activities – generally involves:

• Providing services
• Producing and delivering goods.
 CASH FLOWS from Operating Activities are generally the cash effects of transactions and
other events that enter into the determination of profit or loss.

Direct Method

The entity’s net cash provided by (used in) operating activities is obtained by adding the
individual operating cash inflows and then subtracting the individual operating cash outflows.

Indirect Method

• Derives the net cash provided by (used in) operating activities by adjusting profit for income
and expense items not resulting from cash transactions/
• The adjustment begins with profit followed by the addition of expenses and charges that did
not entail cash payments.
• Then increase in current assets and decreases in current liabilities involved in the
determination of profit but which did not actually increase or decrease cash- are subtracted form
profit.
• Finally, the decreases in current assets and increases in current liabilities are added to profit to
obtain net cash provided by (used in) operating activities.

PAS No. 7 – enterprises are encouraged to report cash flows from operating activities
using the direct method but the indirect method is acceptable.

OPERATING ACTIVITIES
Cash inflows
        Receipts from sale of goods and performance of services
        Receipts from royalties, fees, commissions and other revenues.

Cash Outflows
        Payments to suppliers of goods and services   
        Payments to employees
        Payments for taxes
        Payments for interest expense
        Payments for other operating expenses
INVESTING ACTIVITIES
• Making and collecting loans, acquiring and disposing of investments in debt or equity securities
• Obtaining and selling of property and equipment and other productive assets

Cash inflows
         Receipts from sales of property and equipment
         Receipts from sales of investments in debt or equity securities
         Receipts from collection on notes receivable.

Cash Outflows
         Payments to acquire property and equipment
         Payments to acquire debt or equity securities
         Payments to make loans to others generally in the form of notes receivable

FINANCING ACTIVITIES
• Obtaining resources from owners and creditors

Cash inflows
         Receipts from investments by owners
         Receipts from issuance of notes payable

Cash outflows
         Payments to owners in the form of withdrawals       
         Payments to settle notes payable.
RELATIONSHIPS AMONG THE FINANCIAL STATEMENTS
• Financial Statements are based on the same underlying data and are fundamentally related.

a. Income statement reports all income and expenses during the period. The profit or loss is the final
figure in this statement.

b. The statement of changes in equity considers the profit or loss figure from the income statement
as one of the determining factors that explains the change in owner’s equity.

c. The statement of financial position reports the ending owner’s equity taken directly from the
statement of changes in equity.

d. The statement of cash flows reports the net increase or decrease in cash during the period and
ends with the cash balance reported in the balance sheet. This statement is prepared based on
information from the income statement and the balance sheet.
CHAPTER 6: Completing the Accounting Cycle.

ADJUSTMENTS ARE JOURNALIZED AND POSTED

Adjustment process is the key element of accrual basis accounting.

The worksheet helps in the identification of the accounts that need adjustments.
Most accountants prepare the financial statements immediately after completing the worksheet.
The adjustments are journalized and posted as the closing entries are made.
This step brings the ledger into agreement with the data reported in the financial statements.

CLOSING ENTRIES ARE JOURNALIZED AND POSTED

Income expense and withdrawal accounts are temporary accounts that accumulate information related
to a specific accounting period. These temporary accounts facilitate income statement preparation.

At the end of each year, the balances of these temporary accounts are transferred to the capital account.

Thus the balance of the owner’s capital account represents the cumulative net result income expense and
withdrawal transactions –CLOSING PROCEDURE

A temporary account is said to be closed when an entry is made such that its balance becomes zero.
Closing simply transfers the balance of one account to another account: The balances of the temporary
accounts are transferred to the capital account.
Income Summary – used to close the income and expense accounts.

1. Closing the income accounts

Painting Revenue 210,000

Income Summary 210,000
 2. Closing the expense accounts

Income Summary 33,040

Salaries Expense 4,000
Utilities Expense 5,040
Insurance Expense 2,700
Rent Expense 12,000
Art Supplies Expense 1,800
Depreciation Expense 6,000
Bad Debts Expense 1,500

3. Close the income summary account

Income Summary 176,960

Ong, Capital 176,960

4. Close the withdrawal account

Ong, Capital 18,000

Ong, Drawing 18,000
Add a little bit of body text

Preparation of a Post-Closing Trial Balance

Note: it is possible to commit an error in posting the adjustments and closing entries to the
ledger accounts. Thus it is necessary to test the equality of the accounts by preparing a new
trial balance.

This final trial balance is called POST CLOSING TRIAL BALANCE

It verifies that all debits equal the credits in the

trial balance.
The trial balance contains only balance sheet
items because all income expense and
withdrawal accounts have zero balances.
REVERSING ENTRIES
Preparing the post-closing trial balance may not be the last step in the accounting cycle.

Reversing Entries – a journal entry which is the exact opposite of a related adjusting entry made
at the end of the period.

A bookkeeping technique that made to simplify the recording

of regular transactions in the next accounting period.
It is optional.
It doesn’t lead us to the conclusion that the entries reversed
are unnecessary or inaccurate.

NOTE: even when an entity follows the policy of making reversing entries, not all
adjusting entries should be reversed.

A reversing entry should be made for an adjusting entry that increased an asset or a
liability account.
CHAPTER 7: Merchandising Operations

Comparison of Income Statement

SERVICE MERCHANDISING
Income Statement Income Statement

Profit is measured as the difference

between revenues from services and
expenses.

Earn profit by buying and selling goods.

Net sales arise from the sales of goods.

Cost of sales or Cost of Goods Sold

represents the cost of inventory the entity has
sold to customers.
Gross Profit is the difference between
net sales and cost of sales.

Other operating income is added and

operating expenses are deducted from
gross profit to arrive at operating profit.

Investments revenues, other gains and losses

and finance costs (interest expense) - are
arrive at profit before tax.

NOTE: Income tax expense is deducted to

have profit from continuing operations.
Operating Cycle of a Merchandising Business
The merchandising entity purchases inventory, sells the inventory and uses the cash to purchase
more inventory.

The cycle is from The cycle is from cash to

cash to inventory inventory to accounts receivable
and back to cash. and back to cash.

The faster the sale of inventory and the collection of cash, the higher the profits.

SOURCE DOCUMENTS
STEPS IN A PURCHASE TRANSACTION

1.) When certain items are needed, the user department fills purchase requisition form
and sends it to the purchasing department.

2.) The purchasing department then prepares a purchase order after checking with the
price lists, quotations, or catalogs of approved vendors.

3.) After receiving the purchasing order, the seller forwards an invoice to the purchaser
upon shipment of the merchandise.

4.) Upon receiving the shipment of merchandise, the purchaser's receiving department sees
to it that the terms in the purchase order are complied with, and prepares a receiving report.

5.) Before approving the invoice for payment, the accounts payable department compares
the copies of the source documents to ensure that  quantities, descriptions and price agrees.

When the goods are received or when title has The seller recognizes the sale transaction
passed, the entity should record purchases and a in the records when the goods have been
liability (or a cash disbursement). shipped.

TERMS OF TRANSACTIONS

NOTE: Merchandise may be purchased an sold either on credit terms or for cash delivery.

When goods are sold on account, a period of time called the CREDIT PERIOD is allowed for
payment. It varies across industries and even within an entity, depending on the product.

When goods are sold on credit, both parties should have an understanding as to the
amount and time for payment
 Note: If the credit period is 30 days, then payment is expected within 30 days from the
invoice date.

CREDIT PERIOD
usually described as the net credit period or net terms.

The credit period of 30 days is notes as “n/30”

If the invoice is due 10 days after the end of the month, it may be marked as “n/10 eom”

CASH DISCOUNTS
Some business give discounts for prompt payment called CASH DISCOUNTS.
If a trade discount is also offered, cash discount is computed on the net amount after the trade discount.
This practice improves the seller’s cash position by reducing the amount of money in accounts receivable.
The period covered by the discount is called the DISCOUNT PERIOD

CASH DISCOUNTS are called:

From the buyer’s viewpoint – PURCHASE DISCOUNT
From the seller’s viewpoint – SALES DISCOUNT
NOTE: It is usually worthwhile for the buyer to take a discount if offered although it may be necessary to
borrow the money to make the payment.

TRADE DISCOUNT
A reduction in the selling price of a commodity.
Allowed or given for a bulk purchase.
Not recorded in the books/accounts: There’s no trade discount account and no special
accounting entry for this discount.
All accounting entries are based on the invoice price which is obtained by subtracting the
trade discount from the list price.
Encourage the buyers to purchase products because of markdowns from the list price.
This type of discount enables the suppliers to vary prices periodically without the
inconvenience of revising price lists and catalogs.

TRANSPORTATION COSTS
Also called as shipping costs/ delivery costs /freight

The freight bill designates which party shoulders the costs and whether the
shipment is freight prepaid or freight collect.

Freight bills usually show whether the shipping terms are:

o FOB shipping point

o FOB destination

F.O.B = “free on board”

FOB Shipping Point

Buyer pays the shipping costs because ownership “title”
transfers to buyer at the point the shipment starts on its
journey.

The buyer already owns the goods while still in transit

and therefore, shoulders the transportation costs.
 FOB Destination
Seller pays shipping costs because title does not transfer
to the buyer until the goods reach their destination.

While in transit, the seller is till the owner of the goods

so the seller shoulders the transportation costs.

Freight Prepaid

means that the shipper owns the freight payment responsibility. 

The seller pays the transportation costs before shipping the goods sold

Freight Collect
means that the consignee owns the freight payment responsibility.
The freight entity collects from the buyer.

Who Shoulders the Who Pays

FREIGHT TERMS
Transportation Costs? the Shipper?

FOB Destination, Freight Prepaid Seller Seller

FOB Shipping Point, Freight Prepaid Buyer Seller

FOB Shipping Point, Freight Collect  Buyer Buyer

FOB Destination, Freight Collect Seller Buyer

NOTE: Normally, the party bearing the freight cost pays the carrier. Thus goods are typically shipped
freight collect when the terms are FOB shipping point ; and freight prepaid when the terms are FOB
destination.

As a matter of convenience, the firm not bearing the freight costs pays the carrier. When this
situation occurs, the seller and buyer simply adjust the amount of the payment for the merchandise.
FREIGHT IN
buyer of merchandise purchased
The shipping cost to be paid by the

when the terms are FOB shipping point.

 are debited to transportation in account. 

Freight in is the transportation cost associated with the delivery of goods

from a supplier to the receiving entity.

 Freight-in is considered to be part of the cost of the merchandise and

should be included in inventory if the merchandise has not been sold.

Added to Inventory Account in the Balance Sheet.

Moved to Cost of Goods Sold on the Income Statement when the related
inventory item is sold.

FREIGHT OUT

 Shipping costs borne by the seller are debited to transportation out account.

 This cost should be charged toexpense as incurred and recorded within the cost of
goods sold classification on the income statement.
This account which is also called as delivery expense is an Operating Expense in the
income statement.
INVENTORY SYSTEMS
Merchandise inventory is the key factor determining cost of sales.

Because merchandise inventory represent good available for sales, there must be a method of
determining both the quantity and the cost of these goods.

Two systems available to merchandising entities to record

events related to merchandise inventory:

1. Perpetual Inventory System

2. Periodic Inventory System

Perpetual Inventory System

---- an alternative to the periodic inventory system.

---- the inventory account is continuously updated.

. Perpetual updating the inventory account requires:

At the time of purchase: merchandise acquisitions be recorded as debits to

the inventory account.

At the time of sale: the cost of sales is determined and recorded by a debit
to the cost of sales account and a credit to the inventory account.

---- both the inventory and cost of sales accounts receive entries throughout the accounting period.

---- more advisable for firms that sell low-volume, high-priced goods such as
motor vehicle and furniture.
---- In using this system, the ending inventory should reconcile with the actual
physical count at the end of the period..

Periodic Inventory System

---- primarily used by businesses that sell relatively inexpensive goods and
that are not yet using computerized scanning systems to analyze goods sold.

---- In this kind of system, NO ENTRIES are made to the inventory account as the
merchandise is bought and sold.

---- When goods are purchased, a separate set of accounts - purchases, purchases discounts,
purchases returns and allowances and transportation in are used to accumulate information on
the net cost of the purchases.

---- When the inventory is counted?

Only at the end of the period, will entries be made to the inventory account to establish its proper
balance.
NET SALES
Net sales is total revenue, less the cost of sales returns, allowances, and discounts.

NET SALES = Gross Profit - Sales Returns, Allowances and Discounts

Gross Sales