Class 12 Accountancy I Notes Chapter 3: Financial Statements of a Company

Class 12 Accountancy I Notes

Chapter 3: Financial Statements of a Company

1. Financial Statements – Meaning

Financial Statements are the formal annual reports prepared by a company to communicate its financial performance and financial position to shareholders, investors, creditors, government and other users.

They mainly include:

  • Balance Sheet
  • Statement of Profit and Loss
  • Cash Flow Statement

Purpose: To help users make economic and financial decisions.

2. Nature of Financial Statements

Financial statements are based on four important elements:

(i) Recorded Facts

  • Prepared from accounting records.
  • Based on historical cost.
  • Do not show current market values.

(ii) Accounting Conventions

Prepared according to conventions such as:

  • Conservatism
  • Materiality
  • Cost concept

(iii) Accounting Postulates

Prepared on assumptions like:

  • Going Concern
  • Money Measurement
  • Realisation Concept

(iv) Personal Judgements

Used while estimating:

  • Depreciation
  • Bad debts
  • Inventory valuation
  • Provisions

Remember: Financial statements = Recorded Facts + Accounting Principles + Personal Judgements.

3. Objectives of Financial Statements

Main Objective

To provide useful information for decision-making.

Specific Objectives

  1. Provide information about assets and liabilities.
  2. Show earning capacity.
  3. Provide cash flow information.
  4. Judge management efficiency.
  5. Show company’s impact on society.
  6. Disclose accounting policies.

4. Types of Financial Statements

There are three major financial statements:

1. Balance Sheet

Shows:

  • Financial Position
  • Assets
  • Liabilities
  • Shareholders’ Equity

Prepared on a particular date.

2. Statement of Profit and Loss

Shows:

  • Revenue
  • Expenses
  • Profit or Loss

Prepared for an accounting period.

3. Cash Flow Statement

Shows:

  • Cash Inflows
  • Cash Outflows
  • Net Increase/Decrease in Cash

Prepared according to AS-3.

5. Format of Balance Sheet (Schedule III)

I. Equity and Liabilities

A. Shareholders’ Funds

  • Share Capital
  • Reserves & Surplus
  • Money received against Share Warrants

B. Share Application Money Pending Allotment

C. Non-Current Liabilities

  • Long-term Borrowings
  • Deferred Tax Liabilities
  • Other Long-term Liabilities
  • Long-term Provisions

D. Current Liabilities

  • Short-term Borrowings
  • Trade Payables
  • Other Current Liabilities
  • Short-term Provisions

II. Assets

A. Non-Current Assets

  • Tangible Assets
  • Intangible Assets
  • Capital Work-in-Progress
  • Investments
  • Deferred Tax Assets
  • Long-term Loans
  • Other Non-current Assets

B. Current Assets

  • Current Investments
  • Inventories
  • Trade Receivables
  • Cash & Cash Equivalents
  • Short-term Loans
  • Other Current Assets

6. Important Features of Schedule III

  • Applicable to all companies.
  • Vertical format is compulsory.
  • Current & Non-current classification is mandatory.
  • Trade Debtors → Trade Receivables.
  • Sundry Creditors → Trade Payables.
  • Notes to Accounts are compulsory.
  • Accounting Standards override Schedule III.

7. Shareholders’ Funds

Includes:

(i) Share Capital

Disclosures include:

  • Authorised Capital
  • Issued Capital
  • Subscribed Capital
  • Paid-up Capital
  • Calls in Arrears
  • Rights attached to shares
  • Shares held by holding company
  • Shareholders holding more than 5%
  • Bonus shares
  • Buy-back details

(ii) Reserves and Surplus

Includes:

  • Capital Reserve
  • Capital Redemption Reserve
  • Securities Premium
  • Debenture Redemption Reserve
  • Revaluation Reserve
  • Share Option Outstanding Account
  • Other Reserves
  • Surplus (Profit & Loss Balance)

Important

  • Debit balance of Profit & Loss is shown as a negative figure.
  • Reserve represented by investments is called Fund.

(iii) Money Received Against Share Warrants

Amount received before conversion into equity shares.

Shown separately under Shareholders’ Funds.

8. Current and Non-current Classification

Current Asset

An asset is current if:

  • Expected to be realised within 12 months
  • Part of operating cycle
  • Held for trading
  • Cash or Cash Equivalent

Otherwise → Non-current Asset.

Current Liability

A liability is current if:

  • Payable within 12 months
  • Related to operating cycle
  • Company has no unconditional right to defer payment

Otherwise → Non-current Liability.

9. Important Classifications

Inventories

Always Current Asset

Fixed Assets

Always Non-current

Trade Receivables

Current or Non-current depending on realisation period.

Trade Payables

Current or Non-current depending on settlement period.

Investments

Can be Current or Non-current.

Deferred Tax

Always Non-current.

Proposed Dividend

Shown in Notes to Accounts as a contingent item until approved by shareholders.

10. Format of Statement of Profit and Loss

Income

  • Revenue from Operations
  • Other Income

Total Revenue

Expenses

  • Cost of Materials Consumed
  • Purchase of Stock-in-Trade
  • Change in Inventory
  • Employee Benefit Expenses
  • Finance Cost
  • Depreciation & Amortisation
  • Other Expenses

Profit Before Tax (PBT)

Formula

Profit Before Tax = Total Revenue − Total Expenses

11. Revenue from Operations

Includes:

  • Sale of Goods
  • Sale of Services
  • Other Operating Income

12. Other Income

Includes:

  • Interest Income
  • Dividend Income
  • Profit on Sale of Investments
  • Other Non-operating Income

13. Major Expenses

Cost of Materials Consumed

Raw materials used.

Purchase of Stock-in-Trade

Goods purchased for resale.

Employee Benefit Expenses

  • Salaries
  • Wages
  • Bonus
  • Staff Welfare

Finance Cost

Interest on loans.

Depreciation

Reduction in value of fixed assets.

Other Expenses

Administrative and selling expenses.

14. Uses and Importance of Financial Statements

Financial Statements help:

  1. Shareholders
  2. Investors
  3. Creditors
  4. Government
  5. Banks
  6. Employees
  7. Stock Exchanges
  8. Trade Associations

They are useful for:

  • Performance evaluation
  • Granting loans
  • Investment decisions
  • Taxation
  • Corporate governance
  • Decision making

15. Limitations of Financial Statements

  1. Based on historical cost.
  2. May not reflect current market value.
  3. Based on estimates and judgement.
  4. Show only aggregate information.
  5. Ignore qualitative factors.
  6. Some important information is omitted.
  7. Represent financial position only for a specific date.

Quick Revision (Exam Ready)

Financial Statements

  • Balance Sheet
  • Statement of Profit & Loss
  • Cash Flow Statement

Shareholders’ Funds

  • Share Capital
  • Reserves & Surplus
  • Share Warrants

Non-current Liabilities

  • Debentures
  • Long-term Loans
  • Deferred Tax

Current Liabilities

  • Trade Payables
  • Short-term Borrowings
  • Provisions

Current Assets

  • Inventory
  • Trade Receivables
  • Cash
  • Short-term Loans

Non-current Assets

  • Fixed Assets
  • Investments
  • Intangible Assets
  • Capital WIP

Statement of Profit & Loss

Revenue → Expenses → Profit Before Tax → Tax → Profit After Tax

Important Exam Points

  • Schedule III format is compulsory for companies.
  • Balance Sheet shows the financial position on a particular date.
  • Statement of Profit & Loss shows profitability for an accounting period.
  • Trade Debtors are now called Trade Receivables.
  • Sundry Creditors are now called Trade Payables.
  • Inventories are always Current Assets.
  • Deferred Tax Assets/Liabilities are always Non-current.
  • Profit Before Tax = Total Revenue − Total Expenses.

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