Key Notes: Financial Statements - I | Accountancy Class 11 - Commerce PDF Download

Learning Objectives

• Understand the nature of financial statements.
• Differentiate between capital and revenue expenditure and receipts.
• Explain the concept of trading and profit and loss account and how to prepare it.
• Define gross profit, net profit, and operating profit.
• Describe the concept of the balance sheet and its preparation.
• Understand grouping and marshalling of assets and liabilities.
• Prepare a profit and loss account and balance sheet for a sole proprietor firm.

Financial Statements:

• Financial statements communicate information about a business's profitability and financial position.
• Include the income statement (Trading and Profit and Loss Account) and the balance sheet (Statement of Financial Position).
• Also include schedules and notes to provide details on items in both statements.

Capital Expenditure:

• Non-recurring expenses benefiting the business for over a year.
• Includes acquiring or improving fixed assets, acquiring legal rights, or initial expenses to make fixed assets operational.
• Recorded on the assets side of the balance sheet.

Revenue Expenditure:

• Routine expenses for smooth business operations.
• Includes direct expenses, raw material purchases, rent, salary, repairs, etc.
• Shown on the debit side of the income statement.

Deferred Revenue Expenditure:

• Expenses of a revenue nature with heavy spending, benefits spread over years.
• Examples include heavy advertising expenses during product launch.
• Accounting treatment: Spread over the years of benefit.

Capital Receipt:

• Irregular receipts not affecting profit/loss but increasing liabilities or reducing fixed assets.
• Shown on the balance sheet.

Revenue Receipt:

• Regular receipts from normal business activities (e.g., sales, services).
• Increases profit, shown on the credit side of the income statement.

Types of Expenses:

• Direct Expenses: Related to goods purchase and production.
• Indirect Expenses: Not directly related to production (e.g., administrative, selling).

Calculation of Profits:

• Gross Profit = Net Sales - Cost of Goods Sold
• Operating Profit = Gross Profit - Operating Expenses
• Net Profit = Operating Profit + Non-operating Income - Non-operating Expenses

Grouping and Marshalling of Assets and Liabilities:

• Grouping: Organizing items of similar nature under common headings.
• Marshalling: Order in which assets and liabilities appear (liquidity or permanence).

Order of Liquidity:

• Assets in order of liquidity (most liquid first).
• Liabilities arranged by timing (immediate to long-term).

Order of Permanence:

• Assets in order of permanence (least liquid first).
• Liabilities arranged by urgency (short-term to long-term).

Adjustment in Preparation of Financial Statements:

• Closing Stock: Represents unsold goods, shown on the balance sheet.
• Outstanding Expenses: Unpaid expenses at year-end, deducted from related expenses and shown on the balance sheet.
• Prepaid Expenses: Expenses not fully received, shown on the balance sheet.
• Accrued Income: Income earned but not received, shown on the balance sheet.
• Income Received in Advance: Income received but belongs to the next period, shown on the balance sheet.
• Depreciation: Decline in asset value, treated as an expense, shown on the income statement.