Objectives of Financial Statements • To provide information that is: • Useful to current and potential investors and creditors in making rational investment, credit, and other related decisions • Helpful to current and potential investors and creditors in assessing the amounts, timing, and uncertainty of future cash flows such as dividends or interest payments • Accurate in reporting the economic resources of the business
4 PRINCIPAL QUALITATIVE CHARACTERISTICS THAT DETERMINE THE USEFULNESS OF INFORMATION IN FINANCIAL STATEMENTS Understandability Relevance Reliability Comparability
Recognition of the Elements of Financial Statements • Criteria for an element to be recognized in the basic financial statements: • It is probable that any future or economic benefit associated with the item will flow to or from the enterprise • The item has a cost or value that can be measured with reliability • The information is faithful, verifiable and neutral • The information about it is capable of making a difference in user decisions.
Recognition of assets • Recognition of liabilities • Recognition of income • Recognition of expenses
Measurement of the Elements of Financial Statements • Bases of measurement • Historical cost • Current cost • Realization (settlement) value • Present value
ELEMENTS OF FINANCIAL STATEMENTS • Elements of the STATEMENT OF CHANGES TO EQUITY are: • Investment by owners • Distribution to owners • Elements directly related to the measurement of financial position in the BALANCE SHEET • Assets • Liabilities • equity • STATEMENT OF CASH FLOWS reflects income statement elements and changes in balance sheet elements affecting cash. • Operating cash flows • Investing cash flows • Financing cash flows • Elements directly related to the measurement of performance in the INCOME STATEMENT • income • expenses
THE BALANCE SHEET • Assets – are business resources that have probable future economic benefits • Qualifications: • have future economic benefits • be under management’s control • result from past transactions • Liabilities – are probable future sacrifices of economic benefits. • Qualifications: • require transfer of assets having future economic benefits. • specify to whom the assets must be transferred • result from past transactions • Owner’s Equity – the residual interest of the owner in the assets of the business. Also known as net assets • Assets – liabilities = Owner’s equity
ROSAL’S BUSINESS Balance Sheet December 31, 2007 Assets Current Assets : Cash P5,120 Accounts receivable 2,000 Total assets P7,120 ===== Liabilities and Owner’s Equity Liabilities: Note payable P1,000 Owner’s equity: Rosal, capital 6,120 Total liabilities and owner’s Equity P7,120 ====== Account form of the Balance Sheet
AMETHYST TRADING COMPANY Balance Sheet December 31, 2007 Assets Current assets Cash P 150,000 Accounts receivable 50,000 Merchandise inventory 200,000 Total current assets 400,000 Non-current assets Store and delivery equipment 300,000 Less: Accumulated depreciation 50,000 Total non-current assets 250,000 Total assets P 650,000 ====== Liabilities Current liabilities Accounts payable P 100,000 Wages payable 20,000 Total current liabilities 120,000 Non-current liabilities Note payable (due in 2010) 180,000 Total liabilities P 300,000 ====== Owners’ Equity Arni dela Cruz, Capital P 175,000 Mel Santos, Capital 175,000 Total owners’ equity 350,000 Total liabilities and owners’ equity P 650,000 ====== Report form of the Balance Sheet
THE INCOME STATEMENT • Revenues – inflows or settlements of liabilities during a particular accounting period. • Characteristics: • It arises from the company’s primary earning activity and not from incidental or investment transactions • It is recurring • Gains – increases to equity (net assets) resulting from peripheral or incidental transactions not associated with the company’s major or central line of business. • Expenses – outflows of assets or incurrences of liabilities during a particular accounting period. It must be incurred in conjunction with the company’s revenue-generating process. • Losses- decrease to equity (net assets) resulting from peripheral or incidental transactions not associated with the company’s major or central line of business.
STATEMENT OF CHANGES IN EQUITY • Investment by owners • Cash or other assets exchanged for shares • Service performance exchanged for shares • Conversion of liabilities to equity ownership • Distribution to owners • Cash dividend payments or declarations • Transfer of assets to owners • Liquidating distributions • Conversion of equity ownership to liabilities • Capital maintenance adjustment – revaluation or restatement of assets and liabilities
STATEMENT OF CASH FLOWS • Operating cash flows – inflows and outflows of cash from: • Acquiring • Selling • Delivery goods for sale • Providing services • Investing cash flows • Acquiring and selling investments, property, plant, and equipment and intangibles • Lending money and collecting on loans • Financing cash flows • Obtaining resources from owners • Paying of dividends • Obtaining and repaying resources from creditors on long-term credit
ROSAL’S BUSINESS Income Statement For the Year Ended December 31, 2007 Service revenue P2,690 Rent income 990 Total Revenue 3,680 Less: Expenses Wages expense 1,630 Utilities expense 310 Miscellaneous expense 120 2,060 Net income P1,620 ======
ROSAL’S BUSINESS Statement of Capital For the Year Ended December 31, 2007 Rosal, Capital, January 1, 2007 P5,000 Add: Net Income 1,620 P6,620 Less: Drawings (500) Rosal, Capital, December 31, 2007 P6,120 ======