Preparing and Maintaining Financial Reports and Statements
The statement set
Financial reporting centres on the statement of financial position (balance sheet), the statement of comprehensive income (income statement), the statement of changes in equity, and the statement of cash flows, supported by notes. Candidates must understand the accrual basis: income is recognised when earned and expenses when incurred, not when cash moves. This drives adjusting entries for accruals, prepayments, depreciation, and doubtful debts.
Closing and classification
Temporary accounts (revenues, expenses, drawings) are closed to capital at period end; permanent accounts carry forward. Current versus non-current classification depends on the operating cycle, normally twelve months. Cost of goods sold is computed as opening inventory plus purchases less closing inventory; a common trap is treating purchases as the expense instead of adjusting for inventory movement.
Traps to watch for
- Prepaid expense vs. accrued expense: a prepayment is an asset (paid before use); an accrual is a liability (used before paid).
- Depreciation is not cash: it reduces profit and asset carrying amount but appears as an add-back in the cash flow statement.
- Gross vs. net profit: gross profit is revenue less cost of goods sold; net profit also deducts operating expenses, finance costs, and tax.
- Drawings are not expenses: they reduce equity directly.
Worked example
Opening inventory ₱20,000, purchases ₱80,000, closing inventory ₱15,000, sales ₱150,000. Cost of goods sold = 20,000 + 80,000 − 15,000 = ₱85,000. Gross profit = 150,000 − 85,000 = ₱65,000. If operating expenses are ₱40,000, net profit before tax = ₱25,000. Rule of thumb: always adjust purchases for inventory movement before computing gross profit.