Financial statements serve the purpose of presenting economic activity and status related to a particular date and over a particular time frame. Accountants record monetary transactions and via financial reports present the information in an easy to understand format. The financial statements for a small business do not have to comply with those of publicly traded operations.
Sections of the Income Statement
Sections of the income statement include revenue, costs of goods sold/services provided, and overhead expenses. The sections of the income statement are reviewed and explained with various articles.
The trial balance is an accountant’s report used to identify issues with the respective ledger accounts. In general, the trial balance sums all the debits and credits in the footer section and the accountant verifies that the total debits equal total credits. This confirms proper entry in the dual entry accounting system.
The goal of accounting is to record the economic activity of the business. This is achieved by entering each economic transaction into a set of books. The books are formatted to reflect the balance sheet and income statement items. The chart of accounts is designed to present the information in the prescribed format.
Sales are a component of revenue. Revenue encompasses several sources of income including sales. Other sources of revenue include interest, trust monies, royalties, and fees. In effect, revenue includes all sources of income, realized and unrealized. Sales are divided into two levels, gross sales are all sales at the regular price; net sales are gross sales less discounts or adjustments associated with that particular product(s).
Service related businesses require a different format than the traditional profit and loss statement AKA the income statement. The traditional profit and loss focuses on sales of products and a corresponding cost of goods sold section to help the reader evaluate the gross margin. But in service, the owner needs a profit and loss statement formatted to key in on overall productivity and costs of that productivity.
Each industry is different in determining costs of goods sold or cost of services rendered. Retail uses two distinct methods to calculate costs of goods sold. The first is called ‘Specific Identification’ whereby each item sold is specifically identified to its recorded cost. The second method is referred to as ‘Inventory Adjustment’ format. In this method, a beginning and ending balance is recorded along with the purchases throughout the year.
Accrual accounting is the preferred method of accounting for all business operations. Any publicly traded company must comply with the principles of accrual accounting. Small business operations can choose between cash and accrual accounting for their records. Although cash accounting is the easiest to work with as a small business operation, accrual accounting will provide a more accurate picture of the financial status and affairs of any business operation.
Simply stated, accounting is the measurement of economic activity. Its primary principle is to report information to the user so that (s)he can make informed decisions. The primary reporting format is in the form of dollars. There are two important reports used by pretty much 99% of all business operations to determine the status of the business operation. These are the income statement and the balance sheet.