Accounting for Accruals
2.2.6 Financial statements for illustration #1 of accrual accounting
The next step is to prepare financial statements.
The income statement looks as follows:
Illustration 2-8: Income statement for Candely Services for 20X6
Candely Services |
|
|
|
Consulting Revenue |
$ 2,800 |
Salary Expenses |
(1,500) |
Net Income |
1,300 |
The income statement shows changes in equity from all sources other than transactions with owners. In our example, the increase in assets (specifically, account receivable) from consulting services was $2,800; the liabilities increased by $1,500 (salaries payable). Because net assets are defined as total assets minus total liabilities, net assets increased by $1,300 ($2,800 - $1,500). There is one important point to be remembered. Previously we defined expenses as economic sacrifices from a decrease in assets. Now, look at the income statement and you will see that expenses can also be recorded with an increase in liabilities. Accordingly:
Expenses can be defined as a decrease in assets or increase in liabilities that result from operating activities undertaken to generate revenue.
Similarly, revenue can increase by decreasing liabilities.
Revenue is an increase in assets or decrease in liabilities resulting from the operating activities of an entity.
The statement of changes in equity is presented below:
Illustration 2-9: Statement of changes in equity for Candely Services for 20X6
Candely Services Statement of Changes in Equity Period Ended 20X6 |
|
|
|
Beginning Contributed Capital |
$0 |
Plus: Capital Acquisition |
3,500 |
Ending Contributed Capital |
3,500 |
|
|
Beginning Retained Earnings |
$0 |
Plus: Net Income |
1,300 |
Less: Distribution |
0 |
Ending Retained Earnings |
1,300 |
|
|
Total Equity |
4,800 |
The statement of changes in equity provides us with information about effects of capital acquisitions and distributions. Capital acquisitions were $3,500. The statement also indicates that net income amounted to $1,300. No distributions to owners took place in accounting period 20X6. The total equity, therein, is $4,800.
The balance sheet has such a form:
Illustration 2-10: Balance sheet for Candely Services at 20X6 end
Candely Services |
|
Assets |
|
Cash |
$ 4,500 |
Accounts Receivable |
800 |
Total Assets |
5,300 |
|
|
Liabilities |
|
Salaries Payable |
500 |
Total Liabilities |
500 |
|
|
Equity |
|
Contributed Capital |
3,500 |
Retained Earnings |
1,300 |
Total Equity |
4,800 |
|
|
Total Liability and Equity (Claims) |
5,300 |
The balance sheet provides information about the entity's assets, liabilities, and equity. In our example we have assets: cash in the amount of $4,500, and accounts receivable of $800; liabilities include only salaries payable amounting to $500; and, finally, equity consisting of contributed capital of $3,500 and retained earnings with a $1,300 balance.
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