MODULE 5

Basic Financial Statements

Learning Objectives
At the end of the chapter the students should be able to
1. Explain the meaning of Account and Chart of Accounts
2. Understand the typical accounts used in business
3. Understand and use the accounting equation in analyzing business transactions

Account
 Is a record used to sort and store business transactions.
 Is a record that tracks the financial activities of a specific asset, liability, equity, revenue
or expense.

Chart of Account
 Is a listing of all the accounts that a company has identified and made available for
recording if transactions.

Basic Elements of Financial Statements

1. Statement of Financial Position/ Balance Sheet

a. Assets - Are resources controlled by the enterprises as a result of past transactions
or events and from which future economic benefits are expected to flow to the
enterprise.

Essential Characteristics:
a. Controlled by entity
b. Result of past transaction or events
c. Provides future economic benefits
d. The cost can be measured reliably

o Current Assets – refer to all assets that are expected to be realized, sold or
consumed within the enterprise’s normal operating cycle
 Cash is any medium of exchange that a bank will accept at face value. It
includes coins, currency, checks, money orders, bank deposits and drafts.
 Cash Equivalents – these are short-term, highly liquid investments that are
readily convertible to cash and with original maturities of three months or
less.
 Accounts Receivable – claims from customers arising from goods sold or
services rendered on credit. It represents the debtor’s oral promises to pay
a client.
 Notes Receivable – is a written pledge that the customer will pay the
business at fixed amount of money on a certain date.
  Merchandise Inventory – goods purchased by the business to be sold at a
profit.
 Supplies – miscellaneous supplies that have been bought for office use but
are still unused as of the balance sheet date.
 Prepaid Insurance – already paid insurance premiums, which are
applicable in the future periods.

o Non-current Assets – refer to all other assets not classified as current assets.
 Land – land owed and used by the business.
 Building – building owned and used by the business in its operation.
 Equipment – this account records the acquisition and disposition of office
machines, cars, trucks and similar items.
 Furniture and Fixtures - this account records the acquisition and
disposition of office desk, chairs, cabinets, shelves and similar items.

b. Liabilities - are present obligations of the enterprise arising from past transactions
or events, the settlement of which is expected to result in an inflow from the
enterprise embodying economic benefits.

Essential Characteristics:
a. Present obligation
b. Result of past transaction or events
c. Outflow of resources embodying economic benefits

o Current Liabilities – are financial obligations of the enterprise which are expected
to be settled in the normal course of the operating cycle; due to be settled within
one year from the balance sheet date.
 Accounts Payable – amounts due to creditors for the goods or service
bought on credit.
 Notes Payable – amounts due to the creditors, which are supported by a
promissory note.
 Accrued Liabilities – amount owed to others unpaid expenses. This
account includes salaries payable, utilities payable, interest payable and
taxes payable.
 Unearned Revenues – when the business entity receives payment before
providing its customers with goods or services.

o Non-current Liabilities – are financial obligation of the enterprise which are due
and payable for more than one year.
  Mortgage Payable – this account records long-term debt for the business
entity for which the business entity has pledge certain assets as security to
the creditor.

c. Equity - is the residual interest in the assets of the enterprise after deducting all its
liabilities. Equity = Assets – Liabilities

 Capital – amount of capital contributions of the owner to the business.

 Withdrawals/ Drawing – amount withdrawn by the owner from the assets
of the business for personal use.
 Income Summary/– it is a temporary account used at the end of the
accounting period to close revenues and expenses.
 Revenue- Is the difference between income and expenses.

2. Statement of Financial Performance/ Income Statement

a. Revenues are the gross inflow of economic benefits during the period arising in
the course of ordinary activities of an enterprise when those inflows result in
increase in equity, other than those relating to contributions from owners.
 Service Revenue – revenues earned by performing services for a customer or
client.
 Sales – revenues earned as a result of sale of merchandise.
b. Expenses are the gross outflow of economic benefits during the period in the
course of ordinary activities when those outflows result in decrease in equity,
other than those relating to distributions to owners.
 Cost of Sales – cost of goods purchased and sold or materials manufactured
and sold.
 Salaries and wages Expense – included all payments as a result of an
employer-employee relationship.
 Utilities Expense – amount of telephone, light and water consumed by the
business.
 Rent Expense – expenses for space, equipment or other asset rentals.
 Supplies Expense – expense of using supplies in the conduct of daily business.
 Insurance Expense – premiums paid on insurance coverage.
 Depreciation Expense – the portion of the cost of a tangible asset allocated or
charged as expense during the accounting period.
 Doubtful Accounts Expense/Uncollectible Accounts Expense – the amount of
receivable estimated to be doubtful of collection and charged as expense
during an accounting period.
  Taxes and Licenses – the amount paid for business permits, licenses and other
government dues.

c. Net Income is the amount by which total revenues exceed total expenses for the
period. When expenses exceed revenues, the result is a Net Loss.