Assume the Position

Assume the Position

ACT 1100Introduction to Accounting Summer Course Lecturer: Troy J. Wishart

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Lecture Notes 9 Sole Proprietorship’s Financial Statements

Sole Proprietorship’s Financial Statement Introduction There are basically three (3) forms of business organizations: • Sole Proprietorship • Partnerships • Limited Liability Companies or Corporations • Sole proprietorship however is by far the most common form of business organization in our society.

Sole Proprietorship’s Financial Statement Definition • A sole proprietorship or simply a proprietorship is a business owned by one person. • A proprietorship is no more than a collection of business activities carried on by an individual person • For example – Small retail stores and service businesses often are organized as proprietorships.

Lecture Notes 9 Sole Proprietorship’s Characteristics

Sole Proprietorship’s Financial Statement Characteristics • No Legal Requirements - There is no special legal requirements to start a sole proprietorship. • Legal Status - While it is a separate entity for accounting purposes, it is not a separate legal entity from its owner. • It does not exist apart from the owner.

Sole Proprietorship’s Financial Statement Characteristics (cont.) • Unlimited Liability– Because a proprietorship is not legally separate from its owner, the owner is personally liable and responsible for its liabilities. • A court can order an owner to sell his personal assets or belongings to pay the debts of the business.

Sole Proprietorship’s Financial Statement Characteristics (cont.) • Personal Income Tax – Tax authorities do not separate a proprietorship from its owner. • This means that the profits are not subject to a business income tax, but are reported and taxed on the owner’s personal income tax return.

Sole Proprietorship’s Financial Statement Characteristics (cont.) • Similarity of Financial Statements– While there maybe many differences in the legal status, structure and organization of the different forms of business, their financial statements are very similar except for the distribution of profit, and capital or equity.

Sole Proprietorship’s Financial Statement Characteristics (cont.) • Business Entity Concept – The accounting records and financial statements for a proprietorship are based on the assumption of the business entity concept, that is the business is a separate entity (Not a Legal Entity).

Sole Proprietorship’s Financial Statement Characteristics (cont.) • Drawings– When an owner of a proprietorship, the distribution takes cash or other assets from the companyiscalled withdrawals and reduces their capital.

Sole Proprietorship’s Financial Statement Characteristics (cont.) • Salary– Salaries paid to the owner of the business is recorded as withdrawals of profits and not expenses, even if he is the owner. • However salaries paid to managers or employees besides the owner should be reported as expenses.

Lecture Notes 9 Sole Proprietorship’s Financial Statements

Sole Proprietorship’s Financial Statement Objective of Financial Statements • The objective of general purpose financial statements is to provide information about the financial position, financial performance, and cash flows of an entity that is useful to a wide range of users in making economic decisions.

Sole Proprietorship’s Financial Statement Objective of Financial Statements • To meet that objective, financial statements provide information about an entity's: [IAS 1.9] • Assets • Liabilities • Equity • Income And Expenses, Including Gains And Losses • Contributions By And Distributions To Owners • Cash Flows

Sole Proprietorship’s Financial Statement Information Source • Trial Balance – is a list of account titles and their balances in the ledgers or books on a specific date shown in debit and credit columns. • It contains all the information needed for preparing the Trading and Profit & Loss Account and the Balance Sheet.

Sole Proprietorship’s Financial Statement Information Source for T&P&L • The Trial balance however does not contain adjustmentsmade subsequent to extraction of the list of balances from the ledgers. • Thus there is usually notes beneath the trial balance outlining adjustments to be accounted for at the close of the financial period.

Sole Proprietorship’s Financial Statement Information Source • For Example: • Accruals and Prepayments • Depreciation of Fixed Assets • Provision for bad debts • Closing Stock • Unrecorded withdrawals or further investments • And others.

Sole Proprietorship’s Financial Statement Information Source • Each item in the notes should be recorded at least two (2) time in the financial statements.

Sole Proprietorship’s Financial Statement Trial Balance Format

Sole Proprietorship’s Financial Statement Financial Statements • There is basically two (2) sets of financial statements prepared for a Sole Proprietor who are traders (buying and selling goods): • Trading and Profit & Loss Account • Balance Sheet

Sole Proprietorship’s Financial Statement Financial Statements • These financial statements helps the owner to asses: • The profit made for a particular period • The change in his assets, liabilities and capital as at a particular date.

Lecture Notes 9 Sole Proprietorship’s Financial Statements Trading and Profit & Loss Account

Sole Proprietorship’s Financial Statement Trading and Profit and Loss Account • The Trading and Profit and Loss Account is a Sole Final Account Statement that shows the calculation of profit earned or the loss incurred during the period.

Sole Proprietorship’s Financial Statement Trading and Profit and Loss Account • It is usually prepared for a one (1) period even though it can be prepared for a lesser period. • Its main purposeis for the owners to be able to see how profitably the business is being run.

Sole Proprietorship’s Financial Statement Trading and Profit and Loss Account • It can also be used for other purposes such as: • Income Taxes Calculation. • Comparing results obtained with the results expected.

Sole Proprietorship’s Financial Statement Trading and Profit and Loss Account It is possible to have two (2) separate accounts: • Trading Account • Profit & Loss Account

Sole Proprietorship’s Financial Statement Trading and Profit and Loss Account However there are combined for convenience . • The combined account measures the Financial Performanceof the proprietorship for a given period • In other words, it calculate how much profit is madeover a particular period.

Sole Proprietorship’s Financial Statement Trading and Profit and Loss Account • Trading Account • An account in which the gross profit earned on goods sold from the proprietorships is calculated. • It deals with trading (buying and selling).

Sole Proprietorship’s Financial Statement Trading and Profit and Loss Account • Trading Account • Gross Profit:– This is the excess of sales over the cost of goods sold in the period. • Gross Profit = Sales – Cost of Goods Sold • Cost of goods sold = opening stock + purchases + carriage inwards - closing stock

Sole Proprietorship’s Financial Statement Trading and Profit and Loss Account • Profit and Loss Account • An account in which net profit is calculated from the proprietorships non trading activities. • Shows the calculation of final or true profit.

Sole Proprietorship’s Financial Statement Trading and Profit and Loss Account • Profit and Loss Account • Net Profit – This is what is left of gross profit after all other running expenses have been deducted and any other items of income added. • Net Profit = Gross profit + other incomes - Expenses

Sole Proprietorship’s Financial Statement Trading and Profit & Loss Presentation Format • There are two (2) presentation formats either of which can be used to report items of the Trading and Profit and Loss: • Horizontal Style • Vertical Style

Sole Proprietorship’s Financial Statement Trading and Profit & Loss Presentation Format • Horizontal Style – Where the Double entry system accounting is usedfor presentation, that is, the left-hand side is the debit side and the right-hand side is credit side.

Sole Proprietorship’s Financial Statement Trading and Profit & Loss Presentation Format • Vertical Style –Where profit is vertically calculated beginning with Sales and ending with Net Profit, that is, Sales less Cost Goods Sold, less expenses

Sole Proprietorship’s Financial Statement T&P&L Horizontal Presentation Format Trading Purchases 7,150 Sales 9,650 Gross Profit c/d 2,500 P & L 9,650 9,650 550 General Expenses Gross Profit b/d 2,500 Net Profit c/d 1,950 2,500 2,500

Sole Proprietorship’s Financial Statement T&P&L Vertical Presentation Format Trading Sales 9,650 Less Cost of Goods Sold Purchases (7,150) P & L 2,500 Gross Profit Less Expenses (550) General Expenses 1,950 Net Profit c/d

Sole Proprietorship’s Financial Statement Trading Account – Unsold Stock • This represents goods that were bought (Purchases) and remained unsoldat the end of the accounting period.

Sole Proprietorship’s Financial Statement Trading Account – Unsold Stock • It will be classified as: • Closing Stock – at the end of the accounting period. • Usually found in Notes beneath the Trial Balance • Opening Stock – at the beginning of the new accounting period. • Usually found in the Trial Balance

Sole Proprietorship’s Financial Statement Trading Account – Unsold Stock • Unsold Stock will therefore change how the Cost of Goods Sold is calculated in order to arrive at Gross Profit.

Sole Proprietorship’s Financial Statement Trading Account – Cost of Goods Sold Less Cost of Goods Sold Opening Stock xxxx Add Purchases xxxx Total Stock Available for Sale xxxx LessClosing Stock xxxx Cost of Goods Sold xxxx • This calculation used regardless of whether the format of the T&P&L is Horizontal or Vertical

Sole Proprietorship’s Financial Statement Trading Account – Other Adjustments • Purchases – There are some adjustments that maybe needed in order to derive Total Purchases and before Cost of Goods Sold is Calculated.

Sole Proprietorship’s Financial Statement Trading Account – Other Adjustments Opening Stock xxxx Add Purchases Purchases xxxx Less Purchases Returns/Stock adjustments (xxxx) Net Purchases xxxx Add Carriage Inwardsxxxx Total Purchasesxxxx Total Stock Available xxxx Less Closing Stock (xxxx) Cost of Goods Sold xxxx

Sole Proprietorship’s Financial Statement Trading Account – Other Adjustments • Purchases Returns/Return Outwards – Goods that were faulty or unsuitable and returned to the supplier. • In order to derive the Net Purchase of Goods, Purchase Returns is deducted from Purchases.

Sole Proprietorship’s Financial Statement Trading Account – Other Adjustments • Carriage Inwards – Carriage or cost of transportation of goods into a firm. • This cost is viewed as part of the cost of purchases since unless the cost is incurred the goods will not be brought into the business and made available for sale. • Carriage Inwards is added to Net Purchases

Sole Proprietorship’s Financial Statement Trading Account – Other Adjustments • Sales – Some of the goods sold to customers may be returned because of it being faulty or unsuitable. • This return of goods is called Sales Returns or Return Inwards

Sole Proprietorship’s Financial Statement Trading Account – Other Adjustments • Sales Returns is treated as follows: Sales xxxx Less Sales Returns/Return Inwards (xxxx) Net Sales xxxx

Sole Proprietorship’s Financial Statement Profit and Loss Account – Adjustments – (Notes to TB) • Before expenses are deducted from Gross Profit to derive Net Profit there may be need for some: • Adjustmentsto Expenses • Additional Expenses • Adjustments to Income • Additional Income

Assume the Position