1. Module 1 Introduction to Financial Statements
At the end of the module students should be able to:
Understand and explain the purpose of accounting information
Understand and identify the purpose of each of the main financial statements
Determine and explain the qualities of good accounting information
Identify and explain the organizational structure of different types of business entities

2. Introduction
Financial reporting is a way of recording, analyzing and summarizing financial data
Financial data is the name given to actual transactions carried out by the business
Recorded in the books of prime entry
Transactions are analysed in the books of prime entry and totals posted to ledger accounts
Transactions are then summarized in the financial statements

3. The purpose of accounting information
According to IASB,
“ The objective of financial statements is to provide information about financial position,
performance and changes in financial position of an entity that is useful to a wide range of users in making economic decisions.”
In other words….to fulfill the requirements and need of users of financial statements and accounting information

4. Users of financial statements and accounting information
Managers of the company (need it most)
Shareholders of the company
Trade contacts ( suppliers and customers)
Providers of finance to the company
Taxation authorities
Employees of the company
Financial analysts and advisers
Government and their agencies

5. Users of financial statements and accounting information
The public
Accounting information is summarised in financial
statements to satisfy information needs of these
different groups. Not all will be equally satisfied.

6. The Main Financial Statements
The principal financial statements of a business are the statement of financial position and the income statement.

7. Statement of financial position
A list of all the assets owned and all the liabilities owed by a business as at a particular date.
Snapshot of the financial position of the business at a particular moment.
Monetary amounts are attributed to each of the assets and liabilities

8. Statement of financial position
Assets
Something valuable which a business owns or can use.
An asset is a resource controlled by an entity as a result of past events and from which future economic benefits are expected to flow to the entity (IASB)

9. Statement of financial position
Liabilities
Something which is owed to somebody else.
A liability is a present obligation of the entity arising from past events, the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits (IASB)

10. Statement of financial position
Capital or equity
The amounts invested in a business by the owner are amounts that the business owes to the owner. This special kind of liability is called capital.
In a limited liability company, capital usually takes form of shares (equity).

11. Statement of financial position
Capital or equity
Equity is the residual interest in the assets of the entity after deducting all its liabilities (IASB)
Example of statement of financial position
(Illustration M1(1) Excel File)

12. Statement of financial position
Used to be called Balance Sheet
Called in that way as assets will always be equal to liabilities plus capital (or equity).

13. Income Statement
A record of income generated and expenditure incurred over a given period.
Shows whether the business has had more revenue than expenditure (a profit) or vice versa (loss).

14. Income Statement
Revenue (Income) is the income generated by the business for a period.
Income is increases in economic benefits during accounting period in the form of inflows or enhancements of assets or decreases of liabilities that result in increases in equity, other than those relating to contributions from equity participants (IASB)

15. Income Statement
Expenses are the costs of running the business for the same period.
Expenses are decreases in economic benefits during the accounting period in the form of outflows or depletions of assets or incurrences of liabilities that result in decreases in equity, other than those relating to distributions to equity participants (IASB)

16. Income Statement
The period chosen will depend on the purpose for which the statement is produced.
Income statement which forms part of the published financial statements of a limited liability company will be for a period of a year.
Management might want to keep a closer eye on a company’s profitability by preparing monthly or quarterly statements.
Illustration M1(2)

17. Purpose of financial statements
Both the statement of financial position and the income statement are summaries of accumulated data.
For limited companies, there are other financial statements required by legislation such as statement of comprehensive income and statement of cash flow.

18. Qualities of good accounting information
The four principal qualitative characteristics are understandability, relevance, reliability and comparability.
Others are fair presentation, consistency and the business entity concept.

19. Understandability
Users must be able to understand financial statements
Assumed to have some business, economic and accounting knowledge and to be able to apply themselves to study the information properly.

20. Relevance
Only relevant information can be useful.
Information should be released on a timely basis to be relevant to users.
Information has the quality of relevance when it influences the economic decisions of users by helping them evaluate past, present or future events or confirming, or correcting, their past evaluations (IASB Framework)

21. Reliability
Information must also be reliable to be useful.
The user must be able to depend on it being a faithful representation.
Information has the quality and reliability when it is free from material error and bias and can be depended upon by users to represent faithfully that which it either purports to represent or could reasonably be expected to represent (IASB).

22. Comparability Through time to identify trends
Users must be able to compare an entity’s financial statements:
Through time to identify trends
With other entity’s statements, to evaluate their relative financial position, performance and changes in financial position.
Disclosure of accounting policies is important in order for users to make valid comparison

23. Fair presentation
Financial statements are required to give a fair presentation or present fairly in all material respects the financial results of the entity.
Compliance with IFRSs will almost always achieve this.
IAS 1

24. Consistency
To maintain consistency, the presentation and classification of items in the financial statements should stay the same from one period to the next, except as follows:
Significant change in the nature of operations or review of the financial statements indicates a more appropriate presentation
Change is required by an IFRS

25. Business entity concept
Financial statements always treat the business as a separate entity.

26. Organizational Structure
Sole Traders
Partnerships
Limited Liability Companies

27. Sole Traders
A sole trader owns and runs a business, contributes the capital to start an enterprise, runs it with or without employees and earns the profits and stands the loss of the venture.
In law, a sole trader is not legally separate from the business they operate.

28. Sole Traders Advantages Limited paperwork and cost
Complete control by owner
Entitled to profits / ownership of assets
Less stringent reporting obligations
Highly flexible

29. Sole Traders Disadvantages Unlimited liability
Complete control by owner
Entitled to profits / ownership of assets
Less stringent reporting obligations
Highly flexible

30. Partnerships
Occur when two or more people decide to run a business together
Generally formed by contract and legally binding
Partnership agreements outlined the proportionate amount of capital invested, allocation of profits between parties, the responsibilities of each of the parties, allocation of salary and procedures for dissolving partnerships.

31. Partnerships
Partnerships are not separate legal entities from their owners
Limited Liability Partnership (LLP)

32. Partnerships Advantages Less stringent reporting obligations
Can raise additional capital – more people
Divisions of roles and responsibilities
Sharing of risk and losses
No company tax on profits ( personal tax only)

33. Partnerships Disadvantages Unlimited liability
Costs associated with setting up.
Issues of continuity of business in the event of death or illness
Slower decision making – consensus among partners
Partnership dissolves in event of death of a partner

34. Limited Liability Companies
Concept of Limited Liability
Shareholders of limited companies are only responsible for the amount paid for their shares
Legally a separate entity
Shareholders may be individuals or other companies
Shareholders vs Directors

35. Limited Liability Companies
Advantages
Limited liability
Easier to raise finance
Separate legal identity
Tax advantages
Easy to transfer shares

36. Limited Liability Companies
Disadvantages
Requirement to publish annual financial statements
Comply with legal and accounting requirements
To undergo statutory audit
Share issues regulated by law

37. End of Module 1