Financial Statements (Word Scramble with Coaching)

The balance sheet reports the total amount of a corporation’s retained earnings, as part of the stockholders equity section. Retained earnings represent the cumulative net income minus the cumulative dividends distributed to shareholders from the start of the corporation until the date of the balance sheet.

Example: If a company has earned a total of $500,000 in net income since its inception and has paid out $100,000 in dividends, the balance sheet will report retained earnings of $400,000.

The financial statement that reports a company’s assets, liabilities, and owner’s (stockholders’) equity at a specific point in time is known as the statement of financial position as well as the balance sheet.

Example: The balance sheet or statement of financial position reports a company’s financial position as of the final moment of the accounting period.

The balance sheet reports amounts as of a specific point in time, typically the final moment of last day of the accounting period.

Example: A balance sheet dated December 31 presents the balances in a company’s assets, liabilities, and equity accounts after the business transactions dated December 31 are recorded.

The amount of working capital can be calculated quickly from a classified balance sheet. Working capital is defined as current assets minus current liabilities.

Example: If a company’s balance sheet shows current assets of $500,000 and current liabilities of $200,000, the company’s working capital is $300,000.

The income statement reports a company’s profitability during a period of time, such as a month, quarter, or year. It includes the revenues earned and expenses incurred during that time interval.

Example: An income statement for the year ended December 31 reports the revenues, expenses, gains, and losses during the 12-month period from January 1 to December 31.

Revenues are the amounts earned from a company’s main operating activities, such as selling products or providing services. They are reported on the income statement.

Example: For a retail store, revenues are the amounts earned from selling merchandise to customers. For a service company, revenues are the amounts earned from providing services to clients.

Expenses are the costs incurred to generate revenues. They are matched with revenues on the income statement to measure the profits during an accounting period.

Example: The cost of goods sold is an expense where there is a cause-and-effect relationship with sales revenues. Other expenses, like salaries and rent, are recorded in the period in which they are incurred or are used up.

Sales minus the cost of goods sold equals gross profit, also known as gross margin. This is an important metric for evaluating a manufacturer’s and/or retailer’s profitability.

Example: If a company has sales of $1,000,000 and cost of goods sold of $600,000, the gross profit is $400,000. This means for every $1 in sales, the company earns 40 cents in gross profit. However, the company’s other expenses must be subtracted from the gross profit to determine the company’s net income.

The financial statement that reports the changes in a company’s cash and cash equivalents arranged into operating, investing, and financing activities is the statement of cash flows.

Example: The statement of cash flows shows the cash inflows and outflows during the period from 1) operating activities such as collecting money from customers and paying suppliers, 2) investing activities like buying and selling long-term assets, and 3) financing activities such as issuing common stock, borrowing money, and/or paying dividends.

A corporation accumulated other comprehensive income is reported in the balance section of stockholders’ equity.

Example: Foreign currency translation adjustments, and pension liability adjustments are reported as other comprehensive income is in the statement of comprehensive income.

The heading of the statement of cash flows discloses the period of time covered by the statement, such as “For the Year Ended December 31, 20XX.

Example: ABC Corporation Statement of Cash Flows For the Year Ended December 31, 20XX

The income statement is often referred to as the profit and loss statement or P&L. It reports a company’s revenues, expenses, gains, and losses for a specific period of time.

Example: Many managers and analysts refer to the company’s income statement as the “P&L” for the month, quarter, or year.

Generally, bonds payable (a form of long-term debt) are reported as a long-term liability on the balance sheet.

Example: If a company issues $1,000,000 of 10-year bonds, this $1,000,000 will be reported as a long-term liability on the company’s balance sheet until the bonds are within one year of their maturity date. At that point, they will be reported as a current liability ( unless long-term financing is assured.

Financial statements are best prepared under the accrual basis of accounting. The accrual basis records revenues when earned and expenses when incurred, regardless of when cash is received or paid.

Example: Under accrual accounting, if a company performs a service in December but doesn’t receive payment until January of the following year, the revenue is reported in the company’s December income statement. This is in accordance with the revenue recognition principle.

Paid-in capital represents amounts paid to the corporation when shares of stock were originally issued. It is the first line item amount in the stockholders’ (shareholders’) equity section of the balance sheet.

Example: If investors purchase $100,000 of a company’s newly-issued common stock, this $100,000 will be reported as part of paid-in capital in the stockholders’ equity section of the balance sheet.

The amounts needed to calculate a company’s debt to equity ratio are found on the balance sheet. The ratio’s formula is total liabilities (debt) divided by total stockholders’ equity.

Example: If a company’s balance sheet shows total liabilities of $500,000 and total stockholders’ equity of $1,000,000, the debt to equity ratio is 0.5 ($500,000 / $1,000,000).

The current period’s net income increases a corporation’s retained earnings, which is reported in the stockholders’ equity section of the balance sheet.

Example: If a company has $50,000 of net income for the year and paid no dividends, retained earnings on the balance sheet will increase by $50,000 from the beginning of the year to the end of the year.

Expenses are the costs incurred or used up in the process of generating revenues. They also include costs that have no future value, which can be measured.

Example: The cost of goods sold, salaries paid to employees, rent for office space, and depreciation of equipment, interest, and advertising are examples of expenses.

Prepaid expenses, such as prepaid rent or prepaid insurance, are reported as assets on the balance sheet. They represent future economic benefits that the company has paid in advance of the costs expiring or being used up.

Example: On December 30, a company pays $12,000 for a one-year insurance policy for the upcoming year starting on January 1. On December 30, the $12,000 is recorded as the current asset Prepaid Insurance. Each month from January through December, $1,000 will be debited to Insurance Expense and Prepaid Insurance will be credited for $1,000.

Customer deposits received by a company before it provides the goods or services are reported as liabilities on the balance sheet. This is necessary to report the company’s obligation to provide the goods or services in the future, or to return the money.

Example: If a customer gives a company a $500 deposit for a future service, the company records the $500 as the liability Unearned Revenues or Customer Deposits. When the service is provided, the liability is reduced and revenue is recognized.