Chapter X

Chapter 13:
Chapter of
The Final Financial Statements Title
Sole Traders (Introductory)

An
Introduction to
Financial
Accounting
9th edition

Andrew Thomas & Anne Marie

Ward

© McGraw-Hill Education 2019

 Objectives
By the end of the lecture (and with private study) students
should be able to:
• Explain the purpose and structure of the statement of profit or loss
and the statement of financial position

• Describe the nature of administrative expenses, selling and

distribution expenses, non-current assets, current assets, current
liabilities, non-current liabilities and capital

• Explain the relevance of inventory and the cost of sales in the

determination of gross profit

• Prepare a simple statement of profit or loss and statement of financial

position from a trial balance

• Make ledger and journal entries when preparing financial statements

© McGraw-Hill Education 2019

 The purpose of a
statement of profit or loss
RECAP: The statement of profit or loss provides
a summary of the results of a business's trading
activities during a given accounting year. It
shows the profit or loss for the year.

The purpose of a statement of profit or loss is to

enable users, such as the owner(s), to evaluate
the financial performance of a business.

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Statement of comprehensive income
• The statement of comprehensive income has
2 main parts

1. Statement of profit or loss (trading and

other realised transactions)

2. Other comprehensive income (unrealised

gains)
– The sum of which gives total
comprehensive income

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 The purpose of trading accounts
The first stage in determining the profit for the year
involves calculating the gross profit.

It is usually carried out in the statement or profit or

loss.

This part of the statement of profit or loss is sometimes

presented as a separate account referred to as the
trading account.

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 The structure of trading accounts
ABC
Trading account for the year ended..

£ £
Revenue X
Less: cost of sales/goods sold -
Inventory at start of year X
Add: purchases X
Cost of goods available for sale X
Less: Inventory at end of year X
X
Gross profit X

Note: sales and purchases are after deducting returns.

© McGraw-Hill Education 2019

 Worked Example 13.1
S. Mann, whose accounting year ends on 30 April, buys
and sells one type of aluminium engine head for sports
cars.

On 1 May 20X8 there were 50 units in inventory which

had cost £100 each. During the subsequent accounting
year he purchased a further 500 units at a cost of £100
each and sold 450 units at a price of £150 each. There
were 100 units which cost £100 each that had not been
sold at 30 April 20X9.

You are required to compute the gross profit for the

year.

© McGraw-Hill Education 2019

 Worked Example 13.1
S.Mann
Trading account for the year ended 30 April 20X9
Units £ £
450 Revenue 67,500
Less: Cost of goods sold:
50 Inventory of goods at 01/05/X8 5,000
Add: Goods purchased
500 during the year 50,000
550 Cost of goods available for sale 55,000
Less: inventory of goods
100 at 30 April 20X9 10,000
450 Cost of sales 45,000
Gross profit 22,500

Note: the number of units are not usually shown in a trading account.
They have been included in the above to demonstrate that the cost of
sales relates to the number of units that were sold.

© McGraw-Hill Education 2019

 The preparation of final financial
statements: the trading account
The trading account is an account in the ledger
and is thus a part of the double entry system.

It is used to ascertain the gross profit for the

period, and is prepared by transferring the
balances on the sales, purchases and returns
accounts to the trading account.

© McGraw-Hill Education 2019

 Inventory double entry
In addition, certain entries are required in respect of inventory as
follows:

Inventory at the start of the period:

Debit Trading account
Credit Inventory account

Inventory at the end of the period:

Debit Inventory account
Credit Trading account

Note: the inventory at the start of the period will be the inventory
at the end of the previous period.

© McGraw-Hill Education 2019

 The preparation of final financial
statements: the trading account
The trading account is prepared in:
1. Account form in the ledger (as shown in
Example 13.2 and the next slide); and
2. Vertical form for presentation to the owner(s)
of a business (as shown in Example 13.1 –
slide 15).

In examinations, only the vertical form is

usually expected.

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Trading account: ledger format

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 Worked Example 13.2
Prior to the preparation of the trading account the relevant ledger
accounts will appear as follows:
Sales revenue
20X9
Apl 30 Bal b/d 67,500

Purchases
20X9
Apl 30 Balance b/d 50,000

Inventory
20X9
Apl 30 Balance b/d 5,000

© McGraw-Hill Education 2019

 Worked Example 13.2 continued
The trading account will then be prepared as follows:
Sales revenue
20X9 20X9
Apr 30 Trading a/c 67,500 Apr 30 Balance b/d 67,500

Purchases
Apr 30 Balance b/d 50,000 Apr 30 Trading a/c 50,000

Inventory

20X8 20X9
Apr 30 Balance b/d 5,000 Apr 30 Trading a/c 5,000

20X9
Apr 30 Trading a/c 10,000

© McGraw-Hill Education 2019

Worked Example 13.2 continued

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 The preparation of final financial
statements: the statement of profit or loss
The statement of profit or loss is also an
account in the ledger and is thus a part of the
double entry system.

It is used to ascertain the net profit (or loss) for

the period, and is prepared by transferring the
balances on all the income and expense
accounts in the ledger to the statement of profit
or loss account (can be a T account in its own
right – though normally this is not prepared).

© McGraw-Hill Education 2019

The structure of statements of profit or loss
– vertical format
ABC
Statement of profit or loss for the year ended..

£
Revenue X
Less: cost of sales/goods sold X
Gross profit X
Less: other costs and expenses -
Selling and distribution costs X
Administrative expenses X
Interest payable on loans X
X
Profit/(Loss) for the period X

© McGraw-Hill Education 2019

 The purpose of statements of financial
position
RECAP: The statement of financial position is a
list of the assets, liabilities and capital of a
business at the end of a given accounting year.

It provides information about the resources

and debts of the reporting entity. This enables
users to evaluate its financial position, in
particular whether the business is likely to be
unable to pay its debts.

© McGraw-Hill Education 2019

 The contents of statements of financial
position
Non-current assets:
Items not specifically bought for resale
Items to be used in the production or distribution of
those goods normally sold by the business.
Durable goods that usually last for several years
There must be an intention to keep them for more than
one accounting year

Examples
Land and buildings; plant and machinery; motor
vehicles; office equipment; furniture, fixtures and
fittings.

© McGraw-Hill Education 2019

 The contents of statements of financial
position
Current assets:
Items that are normally kept by a business for less than
one accounting year and/or support the operating
activities of the entity.
The composition of each type of current asset is usually
continually changing.

Examples
Inventories, trade receivables, short term investments,
bank account and cash.

© McGraw-Hill Education 2019

The contents of statements of financial
position
Current liabilities:
Debts owed by a business that are payable within one
year (often considerably less) of the reporting period
date; e.g. trade payables and bank overdrafts.
Non-current liabilities:
These are debts owed by a business that are not due
until after one year (often much longer) of the reporting
period date; e.g. loans and mortgages.
Capital (Equity):
This refers to the amount of money invested in the
business by the owner(s).

© McGraw-Hill Education 2019

 The preparation of final financial statements:
the statement of financial position
The statement of financial position is a list of the
balances remaining in the ledger after the trading and
statement of profit or loss have been prepared.

The statement of financial position may prepared in:

1. Account/horizontal form; or
2. Vertical form.

The vertical form is usually expected in examinations

and for presentation to the owner(s) of a business.

© McGraw-Hill Education 2019

The preparation of final financial statements:
the statement of financial position
When the account/horizontal form is used, there are
two possible formats:

1. Assets/debit balances on the left-hand side and

liabilities/credit balances on the right-hand side;

2. Assets/debit balances on the right-hand side and

liabilities/credit balances on the left-hand side.

The latter is the most common (despite its being the

opposite of that used in the ledger and trial balance)
– which is confusing.

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 Example

• For examples of the horizontal format

see example 13.3
• The vertical is shown in the next slide

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The structure of statements of
financial position: vertical
ABC
Statement of financial position as at ...

Non-current assets
+
Current assets
=
Total assets

Equity and Reserves

+
Non-current liabilities
+
Current liabilities
=
Total equity and liabilities

© McGraw-Hill Education 2019

 Summary – some key points
• Final financial statements include a statement of
profit or loss (performance) and a statement of
financial position (financial position).
• The statement of profit or loss (income, expenditure
and resultant profit or loss) can be split into 3 parts
and disclosed in two different ways.
• Part 1 (trading account) and 2 (other income and
expenses) form the statement of profit or loss. Part
3 (other comprehensive income) can be combined
with the statement of profit or loss, or shown as a
separate statement.

© McGraw-Hill Education 2019

 Summary – some key points
• The statement of financial position
splits the entities assets into non-
current and current.
• It also records equity, as distinct from
other liabilities.
• Liabilities are split into non-current and
current.
• Both statements are presented in
vertical format for users.

© McGraw-Hill Education 2019

 Student - study action
• Read chapter 13
• Then - try to explain the key terms and concepts
(check your answer with the chapter and the online
glossary)
• Try the review questions (check your answers with
the chapter)
• Try the exercise questions with an asterisk (solutions
are available in the appendix)
• Try the exercise questions required by your tutor
(solutions to be provided by the tutor at their
discretion)
• Try the learning activities on the student online
learning centre (www.mcgraw-hill.co.uk/textbooks/thomas)
© McGraw-Hill Education 2019