Cash Flow Statements : Accounting Basics Day 9

Introduction

Cash flow statement provides considerable information about what is really happening in a business beyond that contained in either the income statement or the balance sheet. Analyzing this statement will quickly become obvious that the benefits of understanding the sources and uses of a company’s cash far outweigh the costs of undertaking some very straightforward analyses. In this chapter we are going to learn about the preparation of the cash flow statements.

What are Cash Flow Statements?

Cash flow statement, which shows inflows and outflows of the cash and cash equivalents. This statement is usually prepared by a company as a tool to know about the sources and uses of cash and cash equivalents of an enterprise over a period of time from various activities of an enterprise. It has gained substantial importance in the last decade because of its practical utility to the users of financial information.

Who Requires a Cash Flow Statement?

• Executives require knowing if the cash generated by the company will be sufficient to fund their expansion strategy
• Stockholders will be able to know if the firm is generating enough cash to pay dividends
• Suppliers would be interested to know if their customers will be able to pay, on offering credit

Division of Cash Flow Statements

The cash flow statement is divided into three sections

1. Operating activities - Converts the items reported on the income statement from the accrual basis of accounting to cash. Shows the results of cash inflows and outflows related to the fundamental operations of the basic line or lines of business in which the company engages. (Example: cash receipts from the sale of goods or services and cash outflows for purchasing inventory and paying rent and taxes.)
2. Investing activities - Reports the purchase and sale of long-term investments and property, plant and equipment.
3. Financing activities - Reports the issuance and repurchase of the company's own bonds and stock and the payment of dividends.

Detecting changes in cash with change in various accounts

• When an asset (other than cash) increases, the Cash account decreases.
• When an asset (other than cash) decreases, the Cash account increases.
• When a liability increases, the Cash account increases.
• When a liability decreases, the Cash account decreases.
• When owner's equity increases, the Cash account increases.
• When owner's equity decreases, the Cash account decreases.

The differences in a company's balance sheet accounts will provide much of the needed information. For example, if the statement of cash flows is for the year 2009, the balance sheet accounts at December 31, 2009 will be compared to the balance sheet accounts at December 31, 2008. The changes—or differences—in these account balances will likely be entered in one of the sections of the statement of cash flows.

Cash Provided From or Used By Operating Activities

Operating activities are the activities that constitute the primary or main activities of an enterprise, for example, for a company manufacturing garments, procurement of raw material, incurrence of manufacturing expenses, sale of garments, etc. These are the principal revenue producing activities (or the main activities) of the enterprise and other activities that are not investing or financing activities. By Operating Activities This section of the cash flow statement reports the company's net income and then converts it from the accrual basis to the cash basis by using the changes in the balances of current asset and current liability accounts, such as:

Accounts Receivable
Inventory
Supplies
Prepaid Insurance
Other Current Assets
Notes Payable (generally due within one year)
Accounts Payable
Wages Payable
Payroll Taxes Payable
Interest Payable
Income Taxes Payable
Unearned Revenues
Other Current Liabilities

In addition to using the changes in current assets and current liabilities, the operating activities section has adjustments for depreciation expense and for the gains and losses on the sale of long-term assets.

Cash Provided From or Used By Investing Activities

Investing activities relate to purchase and sale of long-term assets or fixed assets such as machinery, furniture, land and building, etc. Transactions related to long-term investment are also investing activities.
This section of the cash flow statement reports changes in the balances of long-term asset accounts, such as:

Long-term Investments
Land
Buildings
Equipment
Furniture & Fixtures
Vehicles
In short, investing activities involve the purchase and/or sale of long-term investments and property, plant, and equipment.

Cash provided from or used by financing activities

Financing activities relate to long-term funds or capital of an enterprise, e.g. cash proceeds from issue of equity shares, debentures, raising long-term bank loans, redemption of bank loan, etc
This section of the cash flow statement reports changes in balances of the long-term liability and stockholders' equity accounts, such as:

Notes Payable (generally due after one year) Bonds Payable
Deferred Income Taxes
Preferred Stock
Paid-in Capital in Excess of Par-Preferred Stock
Common Stock
Paid-in Capital in Excess of Par-Common Stock
Paid-in Capital from Treasury Stock
Retained Earnings
Treasury Stock

In short, financing activities involve the issuance and/or the repurchase of a company's own bonds or stock. Dividend payments are also reported in this section.
Where to enter the balance sheet changes
Below are the changes where balance sheet accounts should be entered on Statement of cash flows:

A change in this	...is reported in this section
balance sheet category	of the cash flow statement
Current Assets	Operating Activities
Current Liabilities	Operating Activities
Long-term Assets	Investing Activities
Long-term Liabilities	Financing Activities
Stockholders' Equity	Financing Activities

*This refers to current assets other than Cash.


--Coming Soon -- Preparation of Cash Flow Statement  --

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Query to derive Qualifier Attribute and Context from Modifier Name

Query :

SELECT 
  c.list_line_no "Modifier Line No",
  b.name "Modifier Name",
  b.description  "Modifier Description",
  a.qualifier_context,
  a.qualifier_attribute,
  a.qualifier_attr_value
FROM qp_qualifiers_v a,
  qp_list_headers b,
  qp_list_lines c
WHERE a.list_header_id=b.list_header_id
and c.list_header_id=b.list_header_id
and c.list_line_id = a.list_line_id
and b.name = &Modifier_Name
ORDER BY a.creation_date DESC;

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The Treatment given to Adjusting entries

Below is the chart to identify how adjusting entities are marked in accounting.

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Adjusting Entries : Accounting Basics Day 8

Introduction 

Adjusting Entries are journal entries made at the end of the accounting period to allocate revenue and expenses to the period in which they actually are applicable. The Adjusting entries emphasize that while ascertaining the profitability, the revenues be considered as they are earned and not based on receipts, and the expenses be considered as they are incurred and not when they are paid Hence, many items need some adjustment while preparing the financial statements. In this chapter we’ll discuss all items which require adjustments and the way these are brought into the books of account and incorporated in the final accounts

What are adjusting entries?

Adjusting entries are accounting journal entries that convert a company's accounting records to the accrual basis of accounting(we have learnt about the accrual basis of accounting in the previous chapters) .An adjusting journal entry is typically made just prior to issuing a company's financial statements.
There are two scenarios where adjusting journal entries are needed before the financial statements are issued:

• Nothing has been entered in the accounting records for certain expenses or revenues, but those expenses and/or revenues did occur and must be included in the current period's income statement and balance sheet.
• Something has already been entered in the accounting records, but the amount needs to be divided up between two or more accounting periods.

Adjusting entries almost always involve a

• Balance sheet account (Interest Payable, Prepaid Insurance, Accounts Receivable, etc.) and an Income statement account (Interest Expense, Insurance Expense, Service Revenues, etc.)

Types of Adjusting Entries

Some important and common items, which need to be adjusted at the time of preparing the final accounts, are discussed below.

1. Closing stock
2. Outstanding expenses
3. Prepaid Expenses
4. Accrued incomes
5. Incomes received in advance
6. Interest on capital
7. Interest on drawings
8. Interest on loan
9. Interest on investment
10. Depreciation
11. Bad Debts
12. Provision for bad and doubtful debts
13. Provision for discount on debtors
14. Provision for discount on creditors.

Note: All adjustments will be given outside the trial balance.

Closing Stock

The unsold goods in stock at the end of the accounting period is called as closing stock. This is to be valued at cost or market price whichever is lower.

Outstanding Expenses

Expenses which have been incurred but not yet paid during the accounting period for which the final accounts are being prepared are called as outstanding expenses.

Prepaid Expenses

Expenses which have been paid in advance are called as prepaid (Unexpired) expenses

Accrued Incomes or Outstanding Incomes

Income which has been earned but not received during the accounting period is called as accrued income.

Incomes Received in Advance

Income received during a particular accounting period for the work to be done in future period is called as income received in advance.

Interest on Capital

In order to see whether the business is really earning profit or not, it is desirable to charge interest on capital at a certain rate.

Interest on Drawings

Amount withdrawn by the owner for his personal use is called as drawings. When interest on capital is allowed, then interest on drawings is charged from the owner. Interest on drawings is an income for the business and will reduce the capital of the owner

Interest on Loan (Outstanding)

Borrowings from banks, financial institutions and outsiders for business are called loans. Amount payable towards interest on loan is an expense for the business

Interest on Investment:

Interest receivable on investments is an income for the business

Depreciation

Depreciation is the reduction in the value of fixed assets due to its use or obsolescence. Generally depreciation is charged at some percentage on the value of fixed asset.

Bad Debts

Debts which cannot be recovered are called bad debts. It is a loss for the business.

Provision for Bad and Doubtful Debts 

Every business suffers a percentage of bad debts over and above the debts definitely known as irrecoverable and written off as Bad (Bad debts written off). If Sundry debtors figure is to be shown correctly in the Balance sheet provision for bad and doubtful debts must be adjusted.
This Provision for bad and doubtful debts is generally provided at a certain percentage on Debtors, based on past experience. While preparing final accounts, the bad debts written off given in adjustment is first deducted from the Sundry debtors then on the balance amount (Sundry debtors – Bad debt written off) provision for bad and doubtful debts calculated
Provision for Discount on Debtors
To motivate the debtors to make prompt payments, cash discount may be allowed to them. After providing provision for bad and doubtful debts, the remaining debtors are called as good debtors. They may pay their dues in time and avail themselves of the cash discount Permissible. So a provision for discount on good debtors at a certain percentage may have to be created.
Provision for Discount on Creditors
Similar to cash discount allowed to debtors, the firm may have a chance to receive the cash discount from the creditors for prompt payment. Provision for discount on Creditors is calculated at a certain percentage on Sundry Creditors.

Treatment Given to Adjusting Entries



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Balance sheet

A Balance sheet or statement of financial position is a summary of the financial balances of a sole proprietorship, a business partnership or a company. Assets, liabilities and ownership equity are listed as of a specific date, such as the end of its financial year. A balance sheet is often described as a snapshot of a company's financial condition. Of the four basic financial statements, the balance sheet is the only statement which applies to a single point in time of a business calendar year.

The purpose of preparing a Balance sheet is

• To know the nature and value of assets of the business
• To ascertain the total liabilities of the business.
• To know the position of owner’s equity. 

The Balance Sheet consists of the assets and liabilities of a company, the format of the Balance Sheet is shown below

Format:

Balance Sheet As on xx-xx-20xx of Ms.XX

Assets

Assets represents everything which a business owns and has money value. In other words, asset includes possessions and properties of the business. Assets are classified as follows:

Tangible Assets:
Assets which have some physical existence are known as tangible assets. They can be seen, touched and felt, e.g. Plant and Machinery Tangible assets are classified into

• Fixed assets: Assets which have long period of life and cannot be converted into cash in a short period are termed as fixed assets.
• Current assets: Assets which can be converted into cash in the ordinary course of business and are held for a short period are known as current assets. For example, cash in hand, cash at bank, sundry debtors etc.

Intangible Assets
The assets which have no physical existence and cannot be seen or felt. They help to generate revenue in future, e.g. goodwill, patents, trademarks etc.

Liabilities

The amount which a business owes to others is liabilities. Credit balances of personal and real accounts together with the capital account are liabilities.

• Long Term Liabilities : Liabilities which are repayable after a long period of time are known as Long Term Liabilities. For example, capital, long term loans etc.
• Current Liabilities : Current liabilities are those which are repayable within a year. For example, creditors for goods purchased, short term loans etc.
• Contingent liabilities : It is an anticipated liability which may or may not arise in future. For example, liability arising for bills discounted. Contingent liabilities will not appear in the balance sheet.

From the following Trial Balance of M/s. Arjun & Sons, prepare trading and profit and loss account for the year ending on 31st March 2008 and the balance sheet as on the date:

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Profit and Loss Account

After calculating the gross profit or gross loss the next step is to prepare the profit and loss account. To earn net profit a trader has to incur many expenses apart from those spent for purchases and manufacturing of goods. If such expenses are less than gross profit, the result will be net profit. When total of all these expenses are more than gross profit the result will be net loss.

The aim of profit and loss account is to ascertain the net profit earned or net loss suffered during a particular period.

The Format of Profit and Loss Account is shown below

Items appearing in the debit side

Those expenses which are chargeable to the normal activities of the business are recorded in the debit side of profit and loss account.
They are termed as Indirect expenses.

• Office and Administrative Expenses: Expenses incurred for the functioning of an office are office and administrative expenses – office salaries, office rent, office lighting, printing and stationery, postages, telephone charges etc.
• Repairs and Maintenance Expenses: These expenses relates to the maintenance of assets - repairs and renewals, depreciation etc.
• Financial Expenses: Expenses incurred on borrowings –Interest paid on loan
• Selling and Distribution Expenses: All expenses relating to sales and distribution of goods - advertising, travelling expenses, salesmen salary, commission paid to salesmen, discount allowed, repacking charges etc.

Items appearing in the credit side

Besides the gross profit, other gains and incomes of the business are shown on the credit side. The following are some of the incomes and gains.

• Interest received on investment
• Interest received on fixed deposits.
• Discount earned.
• Commission earned.
• Rent Received

Example

Let us now prepare Trading and Profit Loss Account for the year ending 31st March 2002

from the books of Mr. Sree Ram

Balancing of Income statement

The difference between the two sides of profit and loss account indicates either net profit or net loss. If the total on the credit side is more the difference is called net profit. On the other hand if the total of debit side is more the difference represents net loss. The net profit or net loss is transferred to capital account.

Closing Entries

Profit and loss account should be closed by transferring the net profit or net loss to capital account.

If net profit
	Profit and Loss A/c.............Dr	XXX
	To Capital A/c (Net profit transferred to capital A/c)		XXX
If net loss
	Capital A/c....................Dr.	XXX
	To Profit and loss A/c (Net loss transferred to Capital A/c)		XXX

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Trading Account

Trading means buying and selling. The trading account shows the result of buying and selling of goods.
At the end of each year, it is necessary to ascertain the net profit or net loss. For this purpose, it is first necessary to know the gross profit or gross loss. The trading account is prepared to ascertain this. The difference between the selling price and the cost price of the goods is the gross earning of the business concern. Such gross earning is called as gross profit. However, when the selling price is less than the cost of goods purchased, the result is gross loss.
Let us now look at the format of the trading account

We’ll now see the explanation for each entity in the trading account.

Items appearing in the debit side of trading account

1. Opening stock: Stock on hand at the beginning of the year is termed as opening stock. The closing stock of the previous accounting year is treated as the opening stock of the current accounting year. In the case of new business, there will not be any opening stock.
2. Purchases: Goods Purchased during the year are included in Purchases, this includes both cash and credit purchases of goods. All the Purchases which have been purchased and returned back to the dealers due to some defects or excess are called as purchase returns. Purchase returns must be deducted from the total purchases to get net purchases.
3. Direct Expenses: Expenses which are incurred from the stage of purchase to the stage of making the goods in saleable condition are termed as direct expenses. Some of the direct expenses are:

• Wages: It is the amount paid to workers for the amount of labor they do for the organization.
• Carriage or carriage inwards: It means the transportation charges paid to bring the goods from the place of purchase to the place of business.
• Octroi Duty: Amount paid to bring the goods within the municipal limits.
• Customs duty, dock dues, clearing charges, import duty etc.: These expenses are paid to the Government on the goods imported.
• Other expenses: Fuel, power, lighting charges, oil, grease, waste related to production and packing expenses.

Items appearing in the credit side

Sales: This includes both cash and credit sale made during the year. Net sales are derived by deducting sales return from the total sales.
Closing stock: Closing stock is the value of goods which remain in the hands of the trader at the end of the year. It does not appear in the trial balance. It appears outside the trial balance. (As it appears outside the trial balance, first it will be recorded in the credit side of the trading account and then shown in the assets side of the balance sheet)

Let us prepare a Trading Account from the following information of a trader.

Total purchases made during the year 2003 Rs.2,00,000.

Total sales made during the year 2003 Rs.2, 50,000

Particulars	Rs	Particulars	Rs
To Purchases	2,00,000	By sales	2,50,000
To Gross Profit c/d	50,000
	2,50,000		2,50,000

Let us also try to go through another example and try to learn about the Trading account in detail
The following example the information given for the year ending 31st March 2002
Opening stock Rs. 1, 70,000
Purchases return Rs. 10,000
Sales Rs.2, 50,000
Wages Rs. 50,000
Sales return Rs. 20,000
Purchases Rs. 1, 00,000
Carriage inward Rs. 20,000
Closing stock Rs. 1, 60,000

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Final Accounts : Accounting Basics Day 7

Introduction

The Stakeholders of a company will be interested in knowing whether the business has resulted in profit or loss and what the financial position of the company is at a given period. The company can ascertain these by preparing the final accounts. The final accounts are prepared at the end of the year from the trial balance. In this chapter we are going to learn in detail about the preparation of Final accounts

What are Final Accounts?

The businessman is interested in knowing whether the business has resulted in profit or loss and what the financial position of the business is at a given period. In short, he wants to know the profitability and the financial soundness of the business. The trader can ascertain these by preparing the final accounts. The final accounts are prepared at the end of the year from the trial balance. Hence the trial balance is said to be the connecting link between the ledger accounts and the final accounts.
The final Accounts generally include two statements known as balance sheet and income statement which are required for external reporting and also for internal needs of the management like planning, decision-making and control.

Trading and Profit and Loss Accounts (Income statement):

The profit and loss account is the accounting report which summarizes the revenues and expenses and ascertains the profit/loss for a specified accounting period. It also represents the changes in the owner’s equity between two successive periods

Balance Sheet:

The purpose of balance sheet is to show its resources and obligations for acquiring its resources i.e., assets and liabilities. According to American Institute of Public Accountants, balance sheet is “a tabular statement of summary of balances (debits and credits) carried forward after an actual and constructive closing of books of accounts and kept according to principles of Financial Statements of a Company accounting”. Balance sheet is the statement prepared on a particular date and shows classified properties and assets on the right hand side and obligations or liabilities on the left hand side

Assets

Real accounts and Personal accounts (which we have learnt about in the previous chapters) are capable of being called assets. Any element (account) that is capable of being liquidated (that is capable of being converted to cash by giving it away) indicates an asset. Machinery, Furniture, Cash, etc are real accounts that can be called assets. Debtors represent the persons and organizations who owe to the organization. They would clear their dues by paying out either in cash or in some other form. Thus Debtors get liquidated and as such can be called assets.

Liabilities

All elements representing liabilities are Personal accounts. An element that is capable of being cleared by paying out indicates a liability.
Creditors represent the persons and organization to whom the organization owes. The organization would clear its due by paying them either in cash or in some other form. Thus creditors are cleared by paying out and as such can be called liabilities.

How to enter the entries into Balance sheet and Income statements?

Before learning to enter the accounts into the Income Statement let us first distinguish the entries and learn to enter them into the financial statements.
As we know that the ledger accounts maintained within an organizational accounting system are classified into three as Personal, Real and Nominal.

Nominal Accounts

Nominal accounts are related to expenses, losses, incomes and gains. Since ascertaining profits or losses involves dealing with incomes, gains, expenses and losses we can conclude that all the nominal accounts together would give us the information relating to the profits or losses made by the organization.

Real Accounts

Real accounts are related to tangible aspects. In general we can identify that all asset accounts are real accounts.

Personal Accounts

Personal accounts are related to persons and organizations. These are persons/organization which owe the organization or to whom the organization owes. In effect they either form creditors (liabilities) or debtors (assets).

Since all the nominal accounts have been dealt with in deriving the information relating to profits and we are left with only the real and personal accounts which represent either assets or liabilities we can conclude that all the real and personal accounts together give us the information relating to the position of the organization.

• Trading Account
• Profit and Loss Account
• Balance Sheet

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ORA-06530: Reference to uninitialized composite

CREATE OR REPLACE TYPE XX_QP_PRICE_MOD_OBJ_TYPE
IS
  OBJECT
  (
    modifier_name        VARCHAR2 (240),
    modifier_description VARCHAR2 (240),
    adjustment_amount    NUMBER );

CREATE OR REPLACE TYPE xx_qp_price_mod_tbl_type IS VARRAY (1000) OF XX_QP_PRICE_MOD_OBJ_TYPE ;


SET SERVEROUTPUT ON
DECLARE
  v_mod_tbl xx_qp_price_mod_tbl_type := xx_qp_price_mod_tbl_type();
  i         NUMBER                           :=1;
  V_MOD_IDX NUMBER                           := 1;
BEGIN
  LOOP
    v_mod_tbl.extend();
    v_mod_tbl(v_mod_idx).adjustment_amount := 100;
    v_mod_tbl(v_mod_idx).modifier_name     := 200;
    v_mod_idx                              := v_mod_idx + 1;
    EXIT
  WHEN i=5;
    i  := i + 1;
  END LOOP;
EXCEPTION
WHEN OTHERS THEN
  DBMS_OUTPUT.PUT_LINE(SQLERRM);
END;


Output :
anonymous block completed
ORA-06530: Reference to uninitialized composite




Solution:

SET SERVEROUTPUT ON
DECLARE
  v_mod_tbl xx_qp_price_mod_tbl_type := xx_qp_price_mod_tbl_type();
  i         NUMBER                           :=1;
  V_MOD_IDX NUMBER                           := 1;
BEGIN
  LOOP
    v_mod_tbl.extend();
    v_mod_tbl(v_mod_idx).adjustment_amount := 100;
    v_mod_tbl(v_mod_idx).modifier_name     := 200;
    v_mod_tbl(v_mod_tbl.last) := XX_QP_PRICE_MOD_OBJ_TYPE(NULL,NULL,NULL);
    v_mod_idx                              := v_mod_idx + 1;
    EXIT
  WHEN i=5;
    i  := i + 1;
  END LOOP;
EXCEPTION
WHEN OTHERS THEN
  DBMS_OUTPUT.PUT_LINE(SQLERRM);
END;

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Profit or Loss on sale of asset

Some times, a business may dispose an asset when it is worn out. In that case, it is advisable to find the profit or loss on sale of asset. This is done by comparing the selling price with the book value of the asset.

Book value = Cost Price - Total Depreciation provided till the date of sale,

If the selling price is more than the book value, then it is Profit on Sale. If the selling price is less than the book value, it is Loss on Sale.

Let Us now solve a problem to find out the profit or Loss on sale of machinery. Ram manufacturing company purchased on 1st April 2007, Machinery for Rs.2, 00,000. After having used it for three years it was sold for Rs. 160,000. Depreciation is to be provided every year at the rate of 10% per annum on the fixed instalment method. Books are closed on 31st March every year.

Book value on the date of sale is Rs. 140,000 As book value is less than selling price the difference is Profit.
= 160,000-140,000
Profit on sale of machinery = Rs. 20,000.

Illustration:

Srinivas & Co. purchased machinery on 1st April 2007 for Rs.75, 000. After having used it for three years it was sold for Rs.35, 000. Depreciation is to be provided every year at the rate of 10% per annum on Diminishing balance method. Accounts are closed on 31st March every year. Find out the profit or loss on sale of machinery.

Book value on the date of sale = Rs.54,675.
As book value is greater than selling price the difference is loss.
= 54,675 – 35,000
Loss on sale of Machinery = Rs.19, 675.

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