A set of financial statements for a sole trader consist of a statement of financial position and a statement of profit or loss There may also be additional notes or disclosures of information that helps to explain the items in the financial statements. The financial statements are based upon the elements discussed in the previous section. The principal reason for preparing financial statements is to provide useful information to the different user groups who need to make decisions about their dealings with the business, such as managers and employees in the business, customers, suppliers and providers of finance such as banks.
You need to understand what comprises a set of financial statements, along with definitions of the statements and what they contain. However, the compilation or preparation of the annual financial statements is not included in the ACCA FA1 syllabus or exam.
The statement of financial position is a statement of assets, liabilities and capital of a business as at a specific point in time, usually the end of an accounting period.
Classification or grouping of assets, liabilities and capital in a consistent manner helps users of financial statements to understand that information and enable identification of information that is of particular relevance to them. Consistent presentation of information also helps users to make comparison and undertake analysis of that financial information.
Note that there is a standard format to the statement of financial position to provide consistency in the way in which financial statements are prepared and presented.
A non-current asset is an asset purchased for use within the business to help generate revenues and profits over more than one accounting period , such as buildings, plant and machinery, equipment and motor vehicles.
Current assets are assets that are expected to be converted into cash as part of the normal operating activities of the business within twelve months of the accounting year end. They will include items such as inventories available for sale and trade receivables, which are amounts due from credit customers.
A non-current current liability is a liability that is not required to be settled until at least twelve months after the accounting year end. An example of this is a long-term bank loan
A current liability is a liability that a will be settled within twelve months the accounting year end. Examples include trade payables , which are amounts owing to suppliers not yet paid and sales tax owing to the tax authorities.
Capital is the residual difference between the assets and liabilities of the business. It represents the owner's net investment in the business as at that date. Note that the owner is entitled to the net profit for the period, may make additional capital contributions during the period (perhaps to expand business activities) or make withdrawals from the business ('drawings) to meet personal expenses.
The statement of profit or loss summarises the revenues eamed and expenses incurred by a business during an accounting period, usually one year
Revenue is income eamed from the sale of goods and services by a business.
Revenue is matched against cost of sales to arrive at gross profit. Cost of sales is the cost of providing the goods and services sold during the accounting period, which has several components. Opening inventory is Inventory purchased or manufactured and unsold in the previous accounting period. It is still available to be sold in the current accounting period. Added to this is the cost of purchases (less any returned iterns to suppliers) which are also available to be sold in the current accounting period. At the end of the accounting period, there will be items of inventory purchased, but not yet sold and therefore available to be sold in the next accounting period. These items are excluded from cost of sales as they will not generate revenue until the next accounting period.
Other expenses, such as heat and light, repairs and renewals and loan interest are then deducted from gross profit to arrive at net profit for the year. The net profit (or loss) for the year is then transferred to the proprietor's capital account in the staternent of financial position.
The notes to the financial statements comprise additional explanation, clarification and detail to support the information in the financial statements. For example, the notes may include a summary of movements in non-current assets during the accounting period, or a summary of closing inventory.