Final Accounts

 Explain Final Accounts with its differences with other accounts?

Final Accounts Preparation of final account is the last stage of the accounting cycle. The basic objective of every concern maintaining the book of accounts is to find out the profit or loss in their business at the end of the year. Every businessman wishes to ascertain the financial position of his business firm as a whole during the particular period. In order to achieve the objectives for the firm, it is essential to prepare final accounts which include Manufacturing and Trading, Profit and Loss Account and Balance Sheet. The determination of profit or loss is done by preparing a Trading, Profit and Loss Account. The purpose of preparing the Balance Sheet is to know the financial soundness of a concern as a whole during the particular period.

Purpose Of Preparing

1. Determine Gross Profit and Gross loss

2. Determine Net Profit and Net Loss

3. Comparison with the Previous year's profit.

 4. Details of Indirect Expenses

5. Ascertaining Financial Position.

 The following procedure and important points to be considered for preparation of Trading, Profit and Loss Account and Balance Sheet.

Trading, Profit and Loss Account 

Trading Account and Profit and Loss Account are the two important parts of income statements. Trading Account is the first stage in the final account which is prepared to know the trading results of gross profit or loss during a particular period. In other words, it is a summary of the purchases, and sale of a business or production cost of goods sold and the value of sales. The difference between the elements establishes the gross profit or loss which is then carried forward to the profit or loss account for calculation of net profit or net loss. Accordingly, if the sales revenue is higher than the cost of goods sold the difference is known as 'Gross Profit,' Similarly, if the sales revenue is less than the cost of goods sold the difference is known as 'Gross Loss.'

PROFIT AND LOSS ACCOUNT

The determination of Gross Profit or Gross Loss is done by preparation of Trading Account. But it does not reveal the Net Profit or Net Loss of a concern during the particular period. This is the second part of the income statement and is called as Profit and Loss Account. The purpose of preparing the profit and loss account to calculate the Net Profit or Net Loss of a concern. Net profit refers to the surplus which remains after deducting related trading expenses from the Gross Profit. The trading expenses refer to inclusive of office and administrative expenses, selling and distribution expenses. In other words, all operating expenses such as office and administrative expenses, selling and distribution expenses and nonoperating expenses are shown on the debit side and all operating and non operating gains and incomes are shown on the credit side of the Profit and Loss Account. The difference of two sides is either Net Profit or Net Loss. Accordingly, when total of all operating and non-operating expenses is more than the Gross Profit and other non-operating incomes, the difference is the Net Profit and in the reverse case it is known as Net Loss. This Net Profit or Net Loss is transferred to the Capital Account of Balance Sheet. Specimen Proforma of a Profit and Loss Account The following Specimen Proforma which is used for preparation of Trading, Profit and Loss Account.

BALANCE SHEET

According to AICPC (The American Institute of Certified Public Accountants) defines Balance Sheet as a tabular Statement of Summary of Balances (Debit and Credits) carried forward after an actual and constructive closing of books of accounts and kept according to principles of accounting. The purpose of preparing balance sheet is to know the true and fair view of the status of the business as a going concern during a particular period. The balance sheet is on~ of the important statement which is used to owners or investors to measure the financial soundness of the concern as a whole. A statement is prepared to show the list of liabilities and capital of credit balances of the business on the left hand side and list of assets and other debit balances are recorded on the right hand side is known as "Balance Sheet." The Balance Sheet is also described as a statement showing the sources of funds and application of capital or funds. In other words, liability side shows the sources from where the funds for the business were obtained and the assets side shows how the funds or capital were utilized in the business. Accordingly, it describes that all the assets owned by the concern and all the liabilities and claims it owes to owners and outsiders. Specimen Form of Balance Sheet Companies Act 1956 has prescribed a particular form for showing assets and liabilities in the Balance Sheet for companies registered under this Act. There is no prescribed form of Balance Sheet for a sole trader and partnership firm. However, the assets and liabilities can be arranged in the Balance Sheet into (a) In the Order of Liquidity (b) In the Order of Performance (a) In the Order of Liquidity: When assets and liabilities are arranged according to their order of liquidity and ability to meet its short-term obligations, such an arrangement of order is called "Liquidity Order."

The Specimen form of Balance Sheet arranged in the Order of Liquidity is given below:

Format

This statement can be reported in two different formats: account form and report form. The account form consists of two columns displaying assets on the left column of the report and liabilities and equity on the right column. You can think of this like debits and credits. The debit accounts are displayed on the left and credit accounts are on the right.

The report form, on the other hand, only has one column. This form is more of a traditional report that is issued by companies. Assets are always present first followed by liabilities and equity.

In both formats, assets are categorized into current and long-term assets. Current assets consist of resources that will be used in the current year, while long-term assets are resources lasting longer than one year.

Liabilities are also separated into current and long-term categories.

Let's look at each of the balance sheet accounts and how they are reported.

Asset Section

Similar to the accounting equation, assets are always listed first. The asset section is organized from current to non-current and broken down into two or three subcategories. This structure helps investors and creditors see what assets the company is investing in, being sold, and remain unchanged. It also helps with financial ratio analysis. Ratios like the current ratio are used to identify how leveraged a company is based on its current resources and current obligations.

The first subcategory lists the current assets in order of their liquidity. Here’s a list of the most common accounts in the current section:

• Current
• Cash
• Accounts Receivable
• Prepaid Expenses
• Inventory
• Due from Affiliates

The second subcategory lists the long-term assets. This section is slightly different than the current section because many long-term assets are depreciated over time. Thus, the assets are typically listed with a total accumulated depreciation amount subtracted from them. Here’s a list of the most common long-term accounts in this section:

• Long-term
• Equipment
• Leasehold Improvements
• Buildings
• Vehicles
• Long-term Notes Receivable

Many times there will be a third subcategory for investments, intangible assets, and or property that doesn’t fit into the first two. Here are some examples of these balance sheet items:

• Other
• Investments
• Goodwill
• Trademarks
• Mineral Rights

According to the historical cost principle, all assets, with the exception of some intangible assets, are reported on the balance sheet at their purchase price. In other words, they are listed on the report for the same amount of money the company paid for them. This typically creates a discrepancy between what is listed on the report and the true fair market value of the resources. For instance, a building that was purchased in 1975 for $20,000 could be worth $1,000,000 today, but it will only be listed for $20,000. This is consistent with the balance sheet definition that states the report should record actual events rather than speculative numbers.

Liabilities Section

Liabilities are also reported in multiple subcategories. There are typically two or three different liability subcategories in the liabilities section: current, long-term, and owner debt.

The current liabilities section is always reported first and includes debt and other obligations that will become due in the current period. This usually includes trade debt and short-term loans, but it can also include the portion of long-term loans that are due in the current period. The current debts are always listed by due dates starting with accounts payable. Here’s a list of the most common current liabilities in order of how they appear:

• Current Liabilities
• Accounts Payable
• Accrued Expenses
• Unearned Revenue
• Lines of Credit
• Current Portion of Long-term Debt

The second liabilities section lists the obligations that will become due in more than one year. Often times all of the long-term debt is simply grouped into one general listing, but it can be listed in detail. Here are some examples:

• Long-term Liabilities
• Mortgage Payable
• Notes Payable
• Loans Payable

A lot of times owners loan money to their companies instead of taking out a traditional bank loan. Investors and creditors want to see this type of debt differentiated from traditional debt that’s owed to third parties, so a third section is often added for owner’s debt. This simply lists the amount due to shareholders or officers of the company.

Equity Section

Unlike the asset and liability sections, the equity section changes depending on the type of entity. For example, corporations list the common stock, preferred stock, retained earnings, and treasury stock. Partnerships list the members’ capital and sole proprietorships list the owner’s capital.

Like all financial statements, the balance sheet has a heading that display's the company name, title of the statement and the time period of the report. For example, an annual income statement issued by Paul's Guitar Shop, Inc. would have the following heading:

• Paul's Guitar Shop, Inc.
• Balance Sheet
• December 31, 2015

Example

Here is an example of how to prepare the balance sheet from our unadjusted trial balance and financial statements used in the accounting cycle examples for Paul's Guitar Shop.

Account Format Balance Sheet

Report Format Balance Sheet

As you can see, the report format is a little bit easier to read and understand. That is why most issued reports are presented in report form. Plus, this report form fits better on a standard sized piece of paper.

One thing to note is that just like in the accounting equation, total assets equals total liabilities and equity. This is always the case. If you are preparing a balance sheet for one of your accounting homework problems and it doesn't balance, something was input incorrectly. You'll have to go back through the trial balance and T-accounts to find the error.

Now that the balance sheet is prepared and the beginning and ending cash balances are calculated, the statement of cash flows can be prepared.

Analysis

Now that you can answer the question what is a balance sheet. Let's look at how to read a balance sheet. Investors, creditors, and internal management use the balance sheet to evaluate how the company is growing, financing its operations, and distributing to its owners. A single sheet won’t tell you that much about the company, but a comparative report that shows two to three years of trend will tell you how cash is being spent, the amount of debt being paid off, and the level of investments being made each year. It will also show the if the company is funding its operations with profits or debt.