Financial Statement Preparation
Core concepts
This domain tests the mechanics of building the statements. Know the classified balance sheet (current vs. noncurrent assets and liabilities), the multi-step income statement (gross profit, operating income, income before tax, net income), and the statement of cash flows prepared under the indirect method. For the cash flow statement, classify operating, investing, and financing activities correctly, and be able to reconcile net income to operating cash flow by removing noncash items (depreciation, gains/losses) and adjusting for working capital changes. Retained earnings rolls forward: beginning balance + net income − dividends = ending balance.
Traps
The indirect method is a classic trap zone: a gain on sale of equipment is subtracted from net income (it belongs in investing), and an increase in accounts receivable is subtracted (cash collected less than revenue). Do not double-count depreciation-add it back in operating activities but do not also show the asset purchase as operating. Another trap: dividends paid appear in financing, not operating.
Worked example
Net income $50,000; depreciation $8,000; gain on sale of equipment $3,000; accounts receivable increased $5,000; accounts payable increased $2,000. Operating cash flow = 50,000 + 8,000 − 3,000 − 5,000 + 2,000 = $52,000. Rule of thumb: add back noncash expenses, subtract gains, and subtract asset increases but add liability increases.