1 Introduction To Financial Statements


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1 Introduction To Financial Statements

  1. 1. 1<br />FINANCIALStatements<br />Anjana Vivek<br />www.bizkul.com<br />anjana@bizkul.com<br />
  2. 2. 2<br />FINANCIAL ACCOUNTING: I<br />INTRODUCTIONTO <br />FINANCIAL STATEMENTS<br /> www.biZkul.com<br />
  3. 3. 3<br />FINANCIAL STATEMENTS<br />The State of affairs of the organization:<br />BALANCE SHEET<br />Working results for a given period:<br />PROFIT AND LOSS ACCOUNT<br />Cash receipts & payments during a period:<br />CASH FLOW STATEMENT<br /> www.biZkul.com<br />
  4. 4. 4<br />ACCOUNTING<br />An information system - communicating the financial position of a company, sometimes known as the language of business<br />Accounting is expected to give the true and fair view of <br />The state of affairs of the organization and <br />Its working results for a given period<br /> www.biZkul.com<br />
  5. 5. 5<br />EXERCISE<br />Ram Kumar is a professional<br />In his first three years of service, he earned Rs. 2 lakhs, 2.2 lakhs and 2.5 lakhs respectively<br />His expenses in these three years were Rs. 1.2 lakhs, 1.6 lakhs and 1.8 lakhs, respectively<br />- What do you understand from this? <br /> - How will you interpret this information?<br /> www.biZkul.com<br />
  6. 6. 6<br />EXERCISE<br />LET US LOOK AT THESE EXPENSES IN SOME MORE DETAIL:<br />In the first year (Y 1) Ram stayed in a lodge<br />In Y 2 he rented an apartment, paying a deposit of Rs.15,000. His expenses for the year included this amount of deposit and payment towards furniture of Rs. 15,000. The furniture had an expected life of 5 years.<br /> - How will you interpret this information now?<br /> www.biZkul.com<br />
  7. 7. 7<br />EXERCISE<br />In Y3 he invested in a plot of land costing Rs. 2 lakhs. This was funded by borrowing Rs.1.6 lakhs from a bank<br />- How will you interpret this information?<br /> - What do you think of the financial <br /> position of Ram at the end of Y 3?<br /> www.biZkul.com<br />
  8. 8. 8<br />BUSINESS ACTIVITY<br />Money is invested in a commercial enterprise with a view to earning profits and being sustainable<br />Money circulates in a business and is used for a variety of purposes<br />Capital expenditure, other expenditure, returned to lenders, distributed to shareholders, invested etc<br />Profits may be earned immediately (ITES/Consulting/Service) or some time into the future (Manufacturing/Biotech)<br /> www.biZkul.com<br />
  9. 9. 9<br />MEASURES OF SUCCESS IN BUSINESS<br />How does one measure whether a business is successful or not <br />One needs to have a system of measurement of the financials of a business<br />These need to be comparable, over time and across companies<br /> - What do you think could be some <br /> measuresof success in a business? <br /> www.biZkul.com<br />
  10. 10. 10<br />Some measures <br />Revenue compared to others companies, in country, in same industry<br />Profits, gross and net after taxes<br />Number of employees<br />Revenue per employee<br />Growth in same company from one period to the next<br />MEASURES OF PERFORMANCE<br /> www.biZkul.com<br />
  11. 11. 11<br />ANNUAL REPORTS<br />Business entities bring out annual reports which contain financial and non financial information<br />Reports are made available to shareholders, government and other interested persons<br />There are guidelines to be followed and statutory compliances to be met while preparing these reports<br /> www.biZkul.com<br />
  12. 12. 12<br />ANNUAL REPORTS<br />Users<br />Internal<br />Owners and managers <br />External<br />Investors, lenders, suppliers and creditors, customers, government and its agencies, public, analysts, advisors<br /> www.biZkul.com<br />
  13. 13. 13<br />KEY CONTENT OF ANNUAL REPORTS<br />Financial statements – balance sheet, profit and loss account, cash flow statement, consolidated financial statements<br />Letter to shareholder<br />Director’s report<br />Management discussion and analysis<br />Auditors’ report<br /> www.biZkul.com<br />
  14. 14. 14<br />OTHER CONTENT OF ANNUAL REPORTS<br />Some companies provide additional information, this includes<br />Value reporting<br />Brand valuation<br />Human resource accounting<br /> www.biZkul.com<br />
  15. 15. 15<br />ANNUAL REPORTS<br /> You have an annual report with you;<br /> what information would you seek as:<br />A short term investor<br />A long term investor<br />An employee <br />A customer<br />A vendor<br /> www.biZkul.com<br />
  16. 16. 16<br />ANNUAL REPORTS<br />Do you think that one set of financial statements and other information in the Annual Report can meet the requirements of all users/readers?<br /> www.biZkul.com<br />
  17. 17. 17<br />FINANCIAL STATEMENTS<br />Used for <br />Measurement, forecasting, decision making, evaluation, control, stewardship, government and statutory regulation<br />Characteristics<br />Understandable<br />Reliable <br />Relevant <br />Comparable<br /> www.biZkul.com<br />
  18. 18. 18<br />FINANCIAL ACCOUNTING: I<br />BALANCE SHEET<br /> www.biZkul.com<br />
  19. 19. 19<br />BALANCE SHEET<br />Sources of funds<br />Shareholders funds<br />Loan funds <br />Application of funds<br />Fixed assets<br />Investments<br />Current assets less current liabilities and provisions<br />Miscellaneous expenses<br /> www.biZkul.com<br />
  20. 20. 20<br />BALANCE SHEET<br />Sources of funds<br />Share capital (equity, preference)<br />Reserves and surplus (specific reserves, surplus profit not appropriated to any specific reserve)<br />Secured loans (from financial institutions, commercial banks)<br /> www.biZkul.com<br />
  21. 21. 21<br />BALANCE SHEET<br />Sources of funds (contd.)<br />Unsecured loans (fixed deposits, promoters, intercorporate loans)<br />Current liabilities and provisions (dues to suppliers, payments received in advance, expenses accrued for rent, salary, pension, etc.)<br /> www.biZkul.com<br />
  22. 22. 22<br />BALANCE SHEET<br />Application of funds<br />Fixed assets (Long term assets not for resale, land, buildings, machinery, vehicles, computers, office equipment, furniture)<br />Investments (long term or short term)<br /> www.biZkul.com<br />
  23. 23. 23<br />BALANCE SHEET<br />Application of funds (contd.)<br />Current assets, loans and advances (Bank and cash balance, fixed deposits, debtors net of bad debts, inventories raw material, work-in-progress, finished goods, pre-paid expenses, advance to employees, advance for service/goods to be received, travel advances,)<br />Miscellaneous expenses (preliminary expenses, heavy expenditure)<br /> www.biZkul.com<br />
  24. 24. 24<br />FINANCIAL ACCOUNTING: I<br />PROFIT AND LOSS <br />ACCOUNT<br /> www.biZkul.com<br />
  25. 25. 25<br />PROFIT AND LOSS ACCOUNT<br />Income<br />Sales (gross sales)<br />Other income (interest, dividend, rental income, miscellaneous sales)<br /> www.biZkul.com<br />
  26. 26. 26<br />PROFIT AND LOSS ACCOUNT<br />Expenditure<br />Manufacturing (Raw material costs, direct factory expenses)<br />Sales and general administration (SG&A)<br />Other miscellaneous<br />Depreciation (non-cash expense, amortisation of fixed asset cost over a period)<br />Prior year adjustments, appropriation<br /> www.biZkul.com<br />
  27. 27. 27<br />KEY EQUATIONS<br />Shareholders Stake = <br /> Assets – Liabilities<br />Profit = <br /> Sales – Costs<br />( Costs of material used = <br /> Opening stock + purchases – <br /> closing stock)<br /> www.biZkul.com<br />
  28. 28. 28<br />QUESTION<br />You are a finance professional in a company<br />I am also a finance professional in the same company<br />We both independently prepare the financial statements in our company<br />Will you and I arrive at the same numbers in terms of<br />Sales?<br />Profits? <br />Why? Why not?<br /> www.biZkul.com<br />
  29. 29. 29<br />EXERCISE<br />C & Co. purchases the following:<br />LOT A: Jan 10th, 200 units at Re 1 each<br />LOT B: Jan 15th, 100 units at Re 1.1 each<br />LOT C: Jan 25th, 150 units at Re 1.2 each<br />400 units were consumed in January<br /> What is the cost of the material consumed?<br /> www.biZkul.com<br />
  30. 30. 30<br />EXERCISE<br />Methods of calculating cost of material consumed:<br />LIFO: Last in first out<br />FIFO: First in first out<br />Weighted average<br />These are accounting methods for calculating costs<br /> www.biZkul.com<br />
  31. 31. 31<br />EXERCISE<br />C & Co. purchases the following:<br />LOT A: Jan 10th, 200 units at Re 1 each<br />LOT B: Jan 15th, 100 units at Re 1.1 each<br />LOT C: Jan 25th, 150 units at Re 1.2 each<br />LOT D: Feb 10th, 300 units at Re 1.2 each <br />400 units were consumed in January<br />200 units were consumed in February<br />What is the cost of the material consumed in the months of Jan and Feb under the FIFO and LIFO methods?<br /> www.biZkul.com<br />
  32. 32. 32<br />ASSIGNMENT<br />Jan sales – Rs. 1000<br />Feb sales – Rs. 1000<br />Other costs in Jan – Rs. 500<br />Other costs in Feb – Rs. 500<br />For Jan and Feb, under the FIFO and LIFO methods:<br /> - What is profit<br /> - What is the inventory balance, <br />What do you infer from this?<br /> www.biZkul.com<br />
  33. 33. 33<br />GAAP and<br />ACCOUNTING STANDARDS<br /> www.biZkul.com<br />
  34. 34. 34<br />GAAP<br />Generally Accepted Accounting Principles<br />Refer to rules, conventions, principles, procedures<br />To be followed by enterprises in preparation of financial statements <br /> www.biZkul.com<br />
  35. 35. 35<br />ACCOUNTING STANDARDS<br />Set of broad guidelines regarding accounting policies adopted by organisations in preparation of financial statements<br />Select set of accounting policies<br />Confirm to applicable laws, custom, business environment<br /> (Refer www.icai.org - Web site of Institute of Chartered Accountants of India for detailed Accounting Standards)<br /> www.biZkul.com<br />
  36. 36. 36<br />Framework of Accounting<br />Fundamental accounting assumptions<br />Going concern<br />Consistency<br />Accrual<br /> www.biZkul.com<br />
  37. 37. 37<br />Key Accounting Concepts<br />Entity<br />Money measurement <br />Cost concept<br />Realisation <br />Periodicity<br />Matching<br />Dual aspect<br />Conservatism<br /> www.biZkul.com<br />
  38. 38. 38<br />CASELET<br />Ramesh Vyas, the CFO of Case Co. Ltd tells his finance manager, Prema John that the profits this year have been unusually bad and that the will pick up in the next year. Previous years profits have been reasonable. Ramesh wants to change the accounting policy and show reduced profits in this year (Big bath method). <br />FIFO method for inventory valuation is followed; prices of inventory have been steadily increasing in the past few years. <br /> www.biZkul.com<br />
  39. 39. 39<br />CASELET<br />Prema is not comfortable with Ramesh’s suggestion as she feels that this is unethical and that this may backfire<br />Profits under FIFO:<br /> in the past three years: 10, 13, 15<br />Current year : 12<br />Expected in next year : 16<br />What change in policy is Ramesh suggesting? Do you agree with Prema or not? Why or why not?<br /> www.biZkul.com<br />
  40. 40. 40<br />ACCOUNTING<br />Rules are not absolutely rigid and provide some flexibility within a framework, keeping in mind <br />Economic position<br />Social needs <br />Regulatory frameworks<br />Technical developments <br />GAAP in India is influenced by ICAI, SEBI, RBI, DCA etc. <br /> www.biZkul.com<br />
  41. 41. 41<br />FORMS OF BUSINESS ORGANISATIONS<br />Sole Proprietorship <br />Partnership <br />Limited Co <br />Private<br />Public<br />Statutory Bodies<br />Mutual Funds<br />Trusts<br /> www.biZkul.com<br />
  42. 42. 42<br />ACCOUNTING BASICS<br />Transaction occurs<br />With funds in flow<br />Without funds flow<br />Transactions are recorded in accounts, eg.<br />Cash/bank<br />Debtors<br />Advance accounts<br />Capital<br />Accruals<br />Expenses<br /> www.biZkul.com<br />
  43. 43. 43<br />ACCOUNTING PROCESS<br />Accounts periodically summarised<br />Rectification entries may be passed<br />Adjustment entries may be passed (eg accruals, advances settled)<br />Trial Balance is prepared<br />Trial Balance has to tally<br /> Concept of double entry book keeping<br />Financial statements are prepared<br /> www.biZkul.com<br />
  44. 44. 44<br />ACCOUNTING PROCESS<br />Data<br />Account<br />Entry<br />Passed<br />Trial <br />Balance<br />Final Trial<br />Balance<br />Rectification<br />Entry<br />Passed<br />Financial<br />Statements<br />Final<br />Financial<br />Statements<br />