The Computation and Adjustments of Statement of Financial Position and Income Statement - Example

FINANCIAL MENTS AND ANLYSIS By of the of the School The paper outlines the computation and adjustments of the two financial statements (statement of financial position and income statement) using the additional information. It discusses step by step calculation of the numbers. It then presents the analysis of the two financial statements of the organization. Revised Income statement (to the nearest £1,000) Sales 4,561 Cost of sales Opening inventory 300 Purchases 2,800 Revised Closing inventory 450 2,650 Gross profit 1,911 Revised Administrative expenses 512 Depreciation expense Selling and distribution expenses 397 595 Finance costs 30 1,534 Profit before tax 377 Taxation 98.02 Profit for the year 278.98 Total dividend payment 48.00 Retained profits 230.98 Revised Statement of Financial position (to the nearest £1,000) Cost Acc Dep. NBV Non-current assets Premises 1,600 528 1,072 Motor Vehicles 900 630 270 Warehouse Plant 1,900 1,033 867 Current assets 2,209 Inventory 450 Trade receivables 400 Prepayments 25 875 Total Assets 3,084 Equity & Reserves Issued share capital of 50p each 600 Retained profits 1,024.88 1,624.88 Non-current liabilities 5% Debentures 2024 600 Current liabilities Trade payables 375 Bank overdraft 150 Accrued expenses 334.12 1,459.12 Total Equity & Liabilities 3,084 Calculations 1) An omitted inventory is added to the value in the income statement as well as in the Statement of financial statements (Kapil, 120) Income statement: Closing inventory 425,000 Add omitted value 25,000 Revised closing inventory £450,000 Statement of Financial position Inventory 425,000 Add omitted value 25,000 Revised inventory £450,000 2) An accrued Salaries for administration staff for the work done is added back to the current administrative expenses to get the final or revised value Administrative expenses 499,000 Add accrued salaries for administrative work 13,000 Revised administrative expenses £ 512,000 3) A final dividend of 4p per share is to be paid to the entire shareholders out of the profit for the year. The total number of shares = total equity/share price =600,000/50p = 1,200,000 shares Total dividend to be paid = 4p*1,200,000 = £48,000 4) A provision for depreciation goes to the depreciation expense account and accumulated depreciation because there must be contra asset account. This implies that the following provisions for depreciation increase both depreciation expenses account and accumulated depreciation account. a) Provision for depreciation on premises Calculation: 4% * 1,600,000= £64,000 The entries for the above adjustment is Depreciation Expense £64,000 Accumulated Depreciation £64,000 Total accumulated depreciation for premises is, therefore, £464,000 plus 64,000 which equals £528,000. The provision on depreciation is actually added to the accumulated depreciation because it increases it, it is credited to the accumulation depreciation account. It also helps in arriving at the accurate net book value of a given asset. This is to make sure that the asset’s value that remains is known. The depreciation amount is also debited to the income statement because it is an expense. b) Provision for depreciation on motor vehicles Calculation: 20% * 900,000= £180,000 The entries for the above adjustment is Depreciation Expense £180,000 Accumulated Depreciation £180,000 Total accumulated depreciation for motor vehicles is, therefore, £450,000 plus £180,000 which equals £630,000. The provision on depreciation is actually added to the accumulated depreciation because it increases it, it is credited to the accumulation depreciation account. It also helps in arriving at the accurate net book value of a given asset. This is to guarantee that the assets value that remains is known. The depreciation amount is also debited to the income statement because it is an expense. c) Provision for depreciation on warehouse plant & machinery Here, the provision percentage is multiplied with the net book value because the depreciation is on a reducing balance basis. Calculation: 15% * 1, 020,000= £153,000 The entries for the above adjustment is Depreciation Expense £153,000 Accumulated Depreciation £153,000 Total accumulated depreciation for warehouse plant & machinery is, therefore, £880,000 plus £153,000 which equals £1,033,000. The provision on depreciation is actually credited to the accumulated depreciation because it increases it. It also helps in arriving at the accurate net book value of a given asset. This is to guarantee that the assets value that remains is known. The depreciation amount is also debited to the income statement because it is an expense. Because the provision for depreciation debited income statement, the expenses are going to increase (Ittelson, 159). Therefore, the total depreciation expense included is: Depreciation expense on premises 64000 Depreciation expense on motor vehicles 180000 Depreciation expense on warehouse plant & machinery 153000 Total depreciation expense 397000 d) Accrued expenses The value of the accrued expenses increases with the value of accrued salaries for administration staff for the work done. Total accrued expenses= 321,120+ 13000= £334,120 Analysis Analysis of the organization’s balance sheet from the revised financial statements Statement of financial position denotes a financial statement that outlines the worth of the organization at one point in time (Khan & Jain, 6.2). It indicates the financial position of the organization at a specific moment normally at the end of the month, quarter or year. Usually, the financial statement sums up the obligations (liabilities), assets (economic resources) and the owners’ capital at a specified point of time (Dyson, 192). Analysis and review of the statement of financial position shows the current financial health of the organization. By subtracting total liabilities from total assets, one arrives at the stockholders’ equity which is the net worth of the organization. The financial statement, therefore, shows the value of the organization (Brigham and Michael, 138). There are a number of calculations that can be performed to give a finer understanding of the organization. The ratios that can help one analyze statement of financial position and hence have a better understanding of the organization are leverage and liquidity ratios (Kimmel, 290). The ratios in the two categories include current ratio, quick ratio, working capital ratio and debt/worth ratio respectively (Fridson, 90). According to the revised statement of financial position, the organization has a total assets value of £ 3,084, 000, total liabilities value of £ 1,459,120, this translates into a net worth of £ 1,624,880 (£ 3,084, 000-£ 1,459,120). Current ratio It measures the financial strength of the organization. It shows the ability of the organization to meet its near-term liabilities (Peterson & Fabozzi, 134). Current is arrived at by dividing current assets by current liabilities. Current ratio= 875,000/859,120= 1.02 The organization has a current ratio greater than one (1) implying that it is able to meet its short-term obligations with lots of ease. The ratio is just above one indicating that it is using its cash in an optimal way (Epstein & Lee, 149). There is no too much cash or too little cash at their disposable, the cash kept is just enough to meet the obligations and leave a small margin for uncertainties. Quick ratio Quick ratio measures the liquidity of the company. It shows the ability of the organization to meet its near-term obligations using its most liquid assets (Gibson, 98). Quick ratio= (875,000- 450,000)/859,120= 0.50 The organization has a very low quick ratio indicating that its most liquid assets are not sufficient to meet its short-term liabilities. Its liabilities are twice as its most current assets. This implies that the organization might be over-leveraged (Kieso et al. 291). The organization may, therefore, be paying its bills too quickly, collecting its receivables slowly, or struggling to grow or maintain its sales. A very low quick ratio may show that the organization relies too much on its inventories or other assets to meet its near-term obligations or liabilities (Alexander & Archer, 128). Debt/worth ratio This ratio shows solvency of the organization. It highlights the proportion of equity and debt the organization is using in financing its assets. It is, therefore, a measure of financial leverage of the organization (Kieso et al. 281). Debt/worth ratio= total liabilities/net worth (stockholders’ equity) =£ 1,459,120/1,624,880 = 0.90 The organization has a very low debt-to-net worth ratio implying that most of its operations or business are financed by investors or retained earnings. It uses fewer debts than equity. The organization has more assets available that can be used to secure a loan. The low ratio also indicates that the organization is earning money that can be used to reduce debt and increase equity hence a better financial risk Analysis of the revised income statement of the organization Income statement indicates how successfully the organization is performing. It helps in valuing the stock of an organization as well as the creditworthiness of the organization (Weygandt et al. 290). Income statement is basically a financial statement that provides information on the expenses, revenues and the profitability of an organization (Lewis, 91). It is prepared on the basis that total revenues minus total expenses equals net income. The ratios that can help one analyze the income statement and hence have a better understanding of the performance of profitability of the organization are profitability ratios (Sinha, 79). These ratios include gross profit margin, net profit margin, times interest earned ratio and operating expense ratio. According to the revised income statement the organization has total revenue of £ 4,561, 000, total expenses of £ 4,282,020, this translates into a net income of £ 278,980 (£4,561, 000-£ 4,282,020). Gross margin ratio Gross profit/sales 1911/4561=41.90% Net profit ratio Net income/sales 278.98/4561= 6.12% Times interest earned Net income/interest expense 278.98/30= 9.30 Operating expense ratio Operating expenses/ sales 1504/4560=0.33 From the above calculated ratios, the organization is performing well as it is generating enough returns to sustain the operations its operations. The ratios disclose the efficiency of the organization’s production activities. They show that the organization is very efficient and effective in producing products for their customers (Reilly and Keith, 120) References Alexander, David, & Archer, Simon. (2008). International Accounting/Financial Reporting Standards Guide 2009. Chicago, CCH. Brigham, Eugene F, and Michael C. Ehrhardt. (2013)Financial Management: Theory and Practice. Mason, Ohio: South-Western. Dyson, J. R., Dyson, J., Dyson, J., & Dyson, J. (2007). Accounting for non-accounting students. Harlow, Financial Times Prentice Hall. Epstein, M. 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