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FUNAC 2

LESSON 1- FINANCIAL STATEMENT

Financial statements (or financial report)

is a formal record of the financial activities and position of a business, person, or


other entity. (http://accounting-simplified.com)

 The means by which information accumulated and processed in financial


accounting is periodically communicated to the users .(Valix, 2016)
 Are the end product or main output of financial statements.(Valix, 2016)

Components of financial statements (Complete set of financial statements)


1. Statement of Financial Position or Balance Sheet
2. Statement of Comprehensive Income or Income statement.
3. Statement of Changes in Equity.
4. Statement of Cash Flows.
5. Notes, comprising a summary of significant accounting policies and other
explanatory information

Objective of Financial Statements


- To provide information about the financial position, financial performance and cash
flows of an entity that is useful to a wide range for users in making economic
decisions

Financial Reporting
- If the provision of financial information about an entity to external users that is useful
to them in making economic decisions and for assessing the effectiveness of the
entity’s management
- Encompasses not only financial statements but also other means of communicating
information that relates directly or indirectly to the financial accounting process
- Include not only financial statements but also other information such as financial
highlights, summary of important financial figures, analysis of financial statements an
significant ratios

Objective of Financial Reporting


- To provide financial information about the reporting entity that is useful to existing
and potential investors, lenders and other creditors in making decisions about
providing resources to the entity

4 major components of financial statements

1. Statement of Financial Position or Balance Sheet


- Is a report showing the financial position of a company on a particular date. The
three elements are assets, liabilities and equity. (Abitang et al, 2014)

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2. Statement of Comprehensive Income or Income statement.


- This is a report showing the financial performance of an enterprise for a given period
time it shows the income results and the expenses incurred during the operation of
the business. (Abitang et al, 2014)
3. Statement of Changes in Equity.
- Is report that summarizes the changes to equity in a given period time. The
accounts that affect owner’s equity are the following: changes to equity, income/
losses, drawing account. (Abitang et al, 2014)
4. Statement of Cash Flows.
- Is the report that shows the cash inflow and cash outflow which resulted from three
business activities; operating, investing and financial activities during the period.
(Abitang et al, 2014)

STATEMENT OF FINANCIAL POSITION /BALANCE SHEET CATEGORIES


https://www.business-case-analysis.com/balance-sheet.html#detailed-balance-sheet-example
A. Assets Categories

Major categories on the Assets side of the Balance sheet may include the following:
1. Current assets
These are assets that, in principle, the firm could turn into cash in the near term. "Near
term" generally means one year or less. Example:
a. Cash and cash equivalent
Petty cash fund, Cash in bank, Cash on hand, Money order
b. Financial Assets (short term investment)
Marketable securities/ Financial asset at fair value thru profit or loss

c. Trade and other receivables


Accounts receivable, Notes receivable, Accrued interest receivable
d. Short-term investment
Marketable securities (Investment in bonds and stocks), or other term – Financial
Asset at Fair value thru Profit or loss
e. Inventories
Raw materials inventory, Work in process inventory, Finished goods inventory and
Manufacturing Supplies inventory
f. Prepaid expenses
Prepaid insurance, Prepaid interest, Prepaid rent
2. Non-Current assets
Example
a. Property, plant & equipment
These are the company's major physical assets, such as buildings, factory
machines, vehicles, and large computer systems. Firms normally charge the cost of
these assets against income as depreciation expense across the life of the asset.
Note that each year of the asset's depreciable life, the expense contributes to
Accumulated depreciation. As a result, total assets "book value" decreases.
Example
Land, Building, Equipment, Motor vehicle, office equipment, furniture and fixtures,
etc

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b. Long term investments and funds


These are assets that do not convert to cash quickly. These may include stocks and
bonds from other companies or other long term investments.
Example:
Investment in associate, Investment in bonds, Financial Asset at Fair value thru other
comprehensive income
c. Intangible assets
Intangible assets contrast with physical assets. Intangibles cannot be seen or
touched, but they are still assets because:
a. Firms acquire intangible assets at a cost.
b. The firm has exclusive rights to them.
c. They contribute to the firm's ability to earn.

Examples include copyrights and patents, trademarks, brand image, and goodwill.

B. Liabilities and Owners equities categories


On the Liabilities and Owners Equities side, the major categories usually include:
a. Current liabilities
The firm must meet these obligations in the near term (one year or less).
Example:
a. Trade and other payable
Accounts payable, notes payable (trade), accrued expenses
b. Short term portion of long term liabilities (due within one year)
Bonds payable or notes payable (non-trade) due within one year

b. Non-current liabilities
These are obligations due for a period longer than one year. Long term liabilities
may include bank notes, bonds , or long term financing arrangements for purchases.
Example:
Bonds payable, Notes payable (due more than one year), Mortgage payable, Bank
loan payable,

c. Owner’s Equity (Sole Proprietorship) /Shareholders’ Equity ( Corporation)

Sole Proprietorship and Partnership


Owner’s Equity
- It is the account that represents the equity or claims of the owner on the
assets of business. It is the residual interest in the assets of the business it
is the difference of total assets and total liabilities
Owner’s Drawing
- Account charge to the owner’s drawing are cash or other assets withdrawn or
taken by the owner form the business for personal use.

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Corporation
Stockholder’s Equity:
a. Share Capital
1. Ordinary shares
2. Preference shares
b. Share premium
c. Retained Earnings

Statement of Financial Position


The minimum line items that should be included are:
1. Cash and cash equivalents
2. Financial assets –Trading Securities
3. Trade and other receivables
4. Inventories
5. Property, plant, and equipment
6. Investments accounted for using the equity method
7. Intangible assets
8. Investment property
9. Biological assets
10. Total of assets classified as held for sales and assets included in disposal as
held for sales
11. Trade and other payables
12. Current tax assets and liability
13. Deferred tax asset and deferred tax liability
14. Provisions
15. Financial liabilities –Bonds Payable
16. Liabilities and assets for current tax
17. Noncontrolling interest
18. Share capital and reserves

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Forms of Statement of Financial Position


1. Report Form
 The report form of the balance sheet provides information in a vertical format --
essentially one column that goes the full width of the page. The report form starts
with assets, providing a total value at the end of the assets section. It then lists
liabilities and finishes with equity, with the final line of the report providing the total
combined value of liabilities and equity.

2. Account Form
 The account form of the balance sheet provides information in an essentially
horizontal format. The account form has two columns, set side by side. The left
column lists the company's assets. The final line on the left side of the sheet
provides the total value of all assets. The column on the right lists both liabilities and
equity, with liabilities coming first. The final line on the right provides the total
combined value of liabilities and equity.

A. Report Form

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B. Account Form

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FORMAT ACCORDING TO PHILIPPINE FINANCIAL REPORTING STANDARDS

Jon Trading Company


Statement of Financial Position
December 31, 2018

Current assets Note


Cash and Cash Equivalent 1 P 3,050,000
Trading securities 90,000
Trade and other receivable 2 260,000
Inventories 100,000
Prepaid Expenses 3 155,000
total current assets 3,655,000

Non current assets


Property Plant and 4 3,060,000
Equipment
Investment in associate 250,000_
Total noncurrent assets 3,310,000
Total assets P 6,965,000

Current liabilities
Trade and other payable 5 545,000
Notes payable-debt due march 2017 100,000
Total current liabilities 645,000

Noncurrent liabilities
Long term liabilities 6 5,000,000
Total liabilities 6,645,000

Owner's equity
Jon, Capital 1,500,000
Jon, drawings 180,000 1,320,000
Total liabilities and owner's equity P 6,965,000

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Note 1- Cash and Equivalent


Petty cash fund 50,000
Cash on Hand 300,000
Cash in bank- BPI 1,200,000
Cash in Bank- BDO 1,500,000
3,050,000

Note 2-Trade and Other receivable


Accounts receivable 120,000
allowance for doubtful accts 45,000
Notes receivable-trade 50,000
Accrued interest income 95,000

Note 3- Prepaid expenses


unused office supplies P 50,000
unexpired insurance 60,000
Prepaid rent 20,000
prepaid interest 25,000
155,000

Note 4-Property,Plant and


Equipment
Land 2,000,000
office equipment 120,000
furniture and fixtures 300,000
motor vehicle 900,000
3,320,000
Accumulated depreciation
office equipment (50,000)
furniture and fixtures (80,000)
motor vehicle (130,000)
3,060,000

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Note 5- Trade and Other Payables


Accounts payable 200,000
Notes payable trade 85,000
Advances from customer 105,000
Salary payable 60,000
Interest payable 45,000
Utilities payable 50,000
545,000

Note 6-Long term liabilities


mortgage payable 2,000,000
notes payable- debt due
Apr-18 3,000,000
5,000,000

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Republic Central Colleges


Angeles City

Activity # 1 – Matching accounts

Name_______________________________________________
Score______________________

A. Match the statements below with the accounting terms in the table. Write your answers
in CAPITAL letters.

A Cash F Office Furniture


B Accounts receivable G Office equipment
C Investment in Trading Securities H Transportation equipment
D Office supplies I Land
E Prepaid Insurance J Buildings

_______ 1. Insurance premium acquire and paid in advance


_______ 2. Real estate owned by the business and used in business operations. This
asset increases in value with the passage of time
_______ 3. Coins, currencies and other similar cash items that are readily available for
use in business operations
_______ 4. Amounts to be collected in the future from clients or customers
_______ 5. Any immovable structure constructed or acquired for business use
_______ 6. Items on hand like paper, pens and folders that are ready for use in business
operations
_______ 7. Short-term stocks and bonds of other companies acquired by a firm for
resale within the current period
_______ 8. Includes trucks, cars, jeeps, motorcycles, bicycles and other vehicles used
for transportation purposes by the business
_______ 9. Includes tables, chairs, counters, cabinets and similar items that are used in
the office
_______ 10. Includes computers, cash registers, calculators, adding machines,
photocopying, machines, facsimile machines, air-conditioning units and other
similar items that are used in the office

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B. Match the statements below with the accounting terms in the table. Write your answers
in CAPITAL letters.

A Accounts payable
B Notes payable (short term)
C Interest payable
D Unearned service income
E Taxes payable
F Mortgage payable
G Bonds payable
H Salaries payable
I Utilities payable
J Accrued payable

_____ 1. Refers to long-term obligations which are supported by collateral on real


property
_____ 2. Interest due on a promissory note
_____ 3. Debts or obligations with trade creditors arising from the acquisition of goods
or services in ordinary trade transactions
_____ 4. Obligation of a business to pay for services rendered by its employees
_____ 5. Promissory notes issued by a business that will become due and payable
within one year
______ 6. Refers to long-term obligations which are evidenced by bonds issued to
investors
______ 7. Obligation of a business to pay for taxes
______ 8. Advance payments from clients for services to be rendered in the futures
______ 9. Obligation of a business to pay for utilities
______ 10. Obligation of a business to pay for expenses that remain unpaid at the end of
a period

Reference: Workbook in Introductory Accounting for Service Business, Bernardo H et al


(2015)

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FUNAC 2

Republic Central Colleges


Angeles City

Activity # 2 Exercises in SFP


Classify the accounts bellow according to Philippine Financial
Reporting Standards as Current assets, non current assets, CL, NCL,
OE. Includes classification by item by item

1. Taxes payable 16. Rent payable 31. Allowance for bad


debts
2. goodwill 17. Prepaid 32. Bonds payable
insurance
3. Unearned revenues 18. Bonds payable 33. Unused supplies
4. Sales 19. Taxes payable 34. Withdrawal
5. Accounts 20. Copyrights 35. Cash in bank
receivables
6. Interest payable 21. Notes payable – 36. Marketable
trade securities
7. Interest payables 22. Notes payable- 37. Accounts payable
non-trade- 6 years
8. unexpired insurance 23. Notes payable- 38. Patents
non trade due 5
months
9. Loans payables 24. Mortgage 39. Salaries payable
payable
10. Delivery 25. Dividend 40. Equipment
equipment payable
11. Raw material 26. Accumulated 41. Work in process
inventory depreciation
12. Petty cash fund 27. Retained 42. Financial asset
earnings at fair value thru
profit /loss
13. Unearned Service 28. Motor vehicle 43. Building
income
14. Accrued interest 29. trademarks 44. BSP treasury bill
receivable 3 months
15. Bank loan 30. Investment in 45. Rent payable
payable bonds

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Current Non-current Current Non-current Owner’s


assets (CA) assets (NCA) liabilities liabilities(NCL) equity
- Cash and - Property (CL) - Long term (OE)
cash plant and - Trade and liabilities
equivalent equipment other
- Short them - Long-term payable
investment investment - Short debt/
- Traded and - Intangible Liabilities
other assets
receivable
- Inventories
- Prepaid
expenses

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COMPREHENSIVE INCOME

Comprehensive income is a statement of all income and expenses recognized during a


specified period. The statement includes revenue, finance costs, tax expenses,
discontinued operations, profit share and profit/loss.

Income Statement and Statement of Comprehensive are differentiated because IAS 1


gives two options to present the items of incomes and expenses recognized during the
period.
IAS 1 para 81 allows that all the items of income and expenses recognized in the period:

 EITHER in a single statement i.e. Statement of Comprehensive Income;


 OR in two separate statements as follows:
o Income Statement: With components of profit and loss recognized. This
statement includes regular line items which in the language of IASs are known
as profit and loss items.
o Statement of other Comprehensive Income: This statement starts with the
profit or loss as calculated under Income statement and contains
components of other comprehensive income. Simply this statement
contains such line items which are not recognized in profit or loss and if
disclosed under Income Statement then it might mislead users of financial
statements as they may consider them as regular line items.
 The components of other comprehensive income include:
1. changes in revaluation surplus (see IAS 16 Property, Plant and
Equipment and IAS 38 Intangible Assets);
2. actuarial gains and losses on defined benefit plans
3. gains and losses arising from translating the financial statements of
a foreign operation
4. gains and losses from investments in equity instruments measured
at fair value through other comprehensive income
5. the effective portion of gains and losses on hedging instruments in a
cash flow hedge (see IAS 39).

Presentation of Comprehensive Income (Valix, 2019)


1. Multiple Step or Two-Statement Approach
a. An income statement showing the components of profit or loss
b. A statement of comprehensive income beginning with profit or loss as shown in the
income statement plus or minus the components of other comprehensive income
2. Single Step or Single Statement Approach
This is the combined statement showing the components of profit or loss and
components of other comprehensive income in a single statement of comprehensive
income

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ELEMENTS OF COMPREHENSIVE INCOME (VALIX, 2019)


1. Revenue- arises in the course of the ordinary regular activities of an entity and is
referred to by a variety of different names including Sales fees, and Service revenue.
Other income such as interest income, dividend income, royalties income or fees and
rent income and Gains on sales of assets like building, equipment etc
2. Expense- is defined as decrease in economic benefit during the accounting period in
the form of outflow or decrease in asset and increase in liability that results in decrease
in equity, other than distribution to equity participants (Defined under the Conceptual
Framework)
Expense- is outflow of future economic benefit that decreases equity, other than
distribution or dividend paid to owners.

Specifically, expenses include the following:


a. Cost of goods sold or cost of sales
b. Operating Expense
Distribution cost or selling expenses- constitute costs which are directly related to
selling, advertising and delivery of goods to customers
Distribution costs include:
a) Salesmen’s salaries
b) Sales commissions
c) Traveling and marketing expenses
d) Advertising and publicity expenses
e) Freight out
f) Depreciation of delivery equipment and store equipment
Administrative expenses – constitute cost of administering the business. These
ordinarily include all operating expenses not rated to selling and cost of goods sold
Administrative expenses include:
a) Doubtful accounts or Bad debts accounts
b) Office salaries and expenses of general executives
c) Office supplies expense
d) Contributions to charity
e) Professional fees
f) Depreciation of office building and office equipment
g) Amortization of intangible assets
Finance Cost- expenses incurred from borrowing
a) Interest expense
Other expenses – are those expenses which are not directly related to the
distribution and administrative function
Other expenses include:
a) Loss on sale of trading investment
b) Loss on sale of property plant and equipment
c) Loss on sale of non-current investment or long term investment
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d) Loss on sale of intangible asset


e) Casualty loss from earthquake, typhoon, hurricane, tsunami, flood, fire, storm
surge and other natural disaster
Finance cost- expense for payment of Interest expense on bank loan, interest
expense on bonds payable
c. Income tax expense (30% of the net income before tax)

Illustrative example
Multiple Step or Two-Statement Approach

Masay Corporation
Income Statement
Year ended December 31, 2018

Note
Net sales revenue (1) 7,450,000
Cost of goods sold (2) (5,120,000)
Gross income 2,330,000
Other income (3) 210,000
Total income 2,540,000
Expenses:
Selling expenses (4) 830,000
Administrative expenses (5) 590,000
Other expense (6) 300,000 1,720,000
Income before tax 820,000
Income tax expense ( 320,000)
Net income 500,000

Note 1 – Net sales revenue


Sales 7,500,000
Sales returns and allowances ( 50,000)
Net sales revenue 7,450,000

Note 2 – Cost of goods sold

Finished goods – January 1 360,000


Purchases 5,060,000
Goods available for sale 5,420,000
Finished goods – December 31 ( 300,000)
Cost of goods sold 5,120,000

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Note 3 – Other income


Gain from expropriation 100,000
Interest income 10,000
Gain on sale of equipment 100,000
210,000

Note 4 – Selling expenses


Sales salaries 400,000
Advertising 160,000
Depreciation – store equipment 70,000
Delivery expenses 200,000
Total 830,000

Note 5 – Administrative expenses


Office salaries 150,000
Depreciation – office equipment 40,000
Accounting and legal fees 150,000
Office expenses 250,000
Total 590,000

Note 6 – Other expense


Earthquake loss 300,000

Masay Corporation
Statement of Comprehensive Income
Year ended December 31, 2018
Net Income P 500,000
Other Comprehensive Income :
Foreign currency translation gain P 150,000
Unrealized Loss on derivative contract
designated as Cashflow hedge ( 100,000 ) 50,000
Comprehensive Income P 550,000

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Illustrative Example: Single Step or Single Statement Approach

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Republic Central Colleges


Angeles City

Activity #1
Name__________________________

THEORY
A. Requirement: Identify whether the following accounts are classify as Selling
Expense, Administrative Expense, Other expense, or Finance Cost

Sales salaries Sales commission


Advertising Store supplies expense
Delivery expense Depreciation-store
equipment
Office supplies Taxes and licenses
expense
Doubtful accounts Depreciation office
expense equipment
Loss on sales of Casualty loss
equipment
Interest expense Promotion
from bank
Freight out Transportation
Representation Miscellaneous expense
expense
Loss on sales of land Gas and oil expenses
Telephone expense Insurance expense- sales
Bad debt expense Property taxes

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B. Requirement: Identify the following by choosing the answer below.

1. The cost of services rendered by the employees and/or laborers of a


company
2. Decreased in owner’s equity that occur in the course of delivering goods and
services to customer
3. An activity that involves the exchange of values
4. An income statement presentation that clearly shows specific sections of
income, costs and expense in a series of arithmetic operations
5. This represents the inflow of cash or noncash assets arising from services
rendered
6. The account used for costs of operations that are not significant enough to
merit separate classification
7. Normal balance of all expense accounts
8. The purpose of a business other than rendering services
9. Cost incurred by office employees when commuting from the office to the
place of business of clients
10. Income from sources other the principal line of activity of the business

Choices
Natural form income statement Salaries expense Service income
Business transactions Debit balance Expense
Net income Functional form income statement Transportation
Manufacture goods Other income Miscellaneous
expense
Profit Credit balance

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FUNAC 2

Republic Central Colleges


Angeles City

Activity # 2

PROBLEM

1. Palawan Company, a service company, provided the following data for 2018:
Service revenue P 5,000,000 Sales salaries and 400,000
commissions
Accounting and legal fees 120,000 Doubtful accounts 90,000
Advertising 130,000 Rent expense 120,000
Interest expense 60,000 Utilities expense 310,000
Freight out 75,000 Officer’s salaries 500,000
Loss on sale of long-term 300,000 Property taxes and 250,000
investment insurance

Required: Prepare an income statement

2. The adjusted trial balance of Cherry Company included the following accounts on
December 31, 2018:

Sales P 9,500,000
Interest revenue 250,000
Gain on sale of equipment 100,000
Revaluation surplus during the 1,200,000
year
Cost of goods sold 6,000,000
Finance cost 150,000
Distribution costs 500,000
Administrative expenses 300,000
Translation loss on foreign 200,000
operation
Income tax expense 950,000

Required: a single statement of comprehensive income for the year ended


December 31, 2018

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3. Kool Company provided the following information for 2018:

Sales P 9,070,000
Purchases 5,750,000
Freight in 150,000
Inventory, beginning 1,500,000
Inventory, ending 1,400,000
Officers’ salaries 400,000
Depreciation-building 120,000
Office supplies expense 60,000
Depreciation –store 110,000
equipment
Store supplies expense 80,000
Sales salaries 500,000
Sales return and allowance 200,000
Purchase discounts 100,000
Income tax expense 360,000

Required: a single statement of comprehensive income for the year ended


December 31, 2018

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STATEMENT OF CHANGES IN EQUITY

A Statement of Owner's Equity shows the changes in the capital account due to
contributions, withdrawals, and net income or net loss.

Capital is increased by owner contributions and income, and decreased


by withdrawals and expenses.

The Statement of Owner's Equity, which is prepared for the sole proprietorship type of
business, shows the movement in capital as a result of those four elements.
https://www.principlesofaccounting.com/chapter-14/stockholders-equity/

The statement of changes in equity shows the change in an owner's or shareholder's


equity throughout an accounting period. Also called the statement of retained earnings,
or statement of owner's equity, it details the movement of reserves that make up the
shareholder's equity.

Strauss Printing Services


Statement of Owner's Equity
For the Year Ended December 31, 2018

Strauss, Capital P 100,000


Add: Additional Contributions/Capital 10,000
Net Income 57,100
Total P 167,100
Less: Strauss, Drawings 20,000
Strauss, Capital – Dec. 31, 2018 P 147,100

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Statement of Changes in Shareholders’ Equity or Shareholders’ Equity

A statement of changes in shareholders’ equity is a financial statement that


presents a summary of the changes in shareholders’ equity accounts over the
reporting period. It reconciles the opening balances of equity accounts with
their closing balances.
There are two types of changes in shareholders’ equity: (a) changes that
originate from transactions with shareholders such as issue of new shares,
payment of dividends, etc. and (b) changes that result from changes in total
comprehensive income, such as net income for the period, revaluation of fixed
assets, changes in fair value of available for sale investments, etc.

Components

Typically, a statement of shareholders equity summaries changes in the


following equity components:
 Capital stock/Common stock/Ordinary shares, which represents the legal
capital of the company and it equals the product of shares issued and the
stated value of each share.
 Additional paid-up capital (also called share premium), which is the
excess of paid-up capital over the legal capital. Additional paid-up capital =
(issue price – stated price) * total number of shares issued.
 Treasury stock, which represents the value of shares repurchased by the
company. It is a contra-account to the paid-up capital.
 Capital reserve(s).
 Retained earnings: accumulated earnings since the start of the company
net of dividends paid or any restatement adjustments.
 Gains and losses on cash flow hedge: unrealized portion of change in fair value.
 Gains and losses on available for sale securities: i.e. the unrealized portion of
change in fair value.
 Revaluation surplus: represents the effect of revaluation of fixed assets.
Following are the most common changes in shareholders’ equity:
 Issue of new share capital: it increases the common stock and additional paid-
up capital component.
 Net income (loss) for the period: it increases (decreases) retained earnings.
 Payment of cash dividends: it decreases retained earnings.
 Purchase of treasury stock: it increases treasury stock component and
eventually decreases total net shareholders equity.
 Sale of treasury stock: it decreases treasury stock component and affects
retained earnings and additional paid-up capital and ultimately increases total
shareholders equity.
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 Issue of bonus shares: affects common stock, additional paid-up capital and
retained earnings.
 Revaluation of fixed assets: increases revaluation surplus.
 Reversal of revaluation of fixed assets: may decrease revaluation surplus.
 Effect of foreign-exchange translation: increase/decrease in foreign-exchange
reserve.
 Effect of changes in value of available-for-sale securities: increase/decrease in
available-for-sale securities reserve.
 Restatement of financial statements, for e.g. due to change in accounting
principle: changes in retained earnings.

https://xplaind.com/969555/changes-in-shareholders-equity

Strauss Printing Inc.


Statement of Retained Earning
For the Year Ended December 31, 2018

Retained Earnings, January 1 P 100,000


Add: Net Income ___67,100
Total P 167,100
Less: Dividends 20,000
Retained Earnings – December 31, 2018 P 147,100

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Strauss Printing Inc.


Statement of Changes in Shareholders’ Equity
For the Year Ended December 31, 2018

Capital Stock Reserves Retained Treasury StockTotal


Earnings Shareholders’
Equity
Balance on Jan. 1 P 20,000,000 P 25,000,000 P 11,000,000 (P5,000,000 P 51,000,000
Issued shares for 3,000,000 12,000,000 15,000,000
cash
Purchase of (2,000,000) (2,000,000)
treasury stock
Net income 4,000,000 4,000,000
Cash Dividends (1,500,000) (1,500,000)
Stock Dividends 1,150,000 4,600,000 (5,750,000
Balance on P 24,150,000 P 41,600,000 P 7,750,000 (P 7,000,000) P 65,500,000
December 31

26
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Republic Central Colleges


Angeles City
Senior High School
Activity in Statement in Financial Position/Income Statement/Statement of Changes in Equity

Name__________________________________________

The following were obtained from the books of Rosa Advertising Services for the year ended
December 31, 2018.

Account Titles Amount Remarks


Accounts payable P 47,929 CL-SFP
Accounts receivable 103,000
Accrued rent income 3,600
Accrued salaries expense 13,500
Accumulated depreciation-office equipment 45,000
Accumulated depreciation- building 240,000
Accumulated depreciation- furniture and fixture 22,500
Allowance for bad debts 15,000
Bad debts expense 5,950
Building 1,000,000
Cash 175,299
Depreciation expense 86,500
Furniture and fixtures 120,000
Interest expense 1,350
Interest income 2,610
R, Capital 662,220
R, Drawings 16,500
Mortgage payable 260,000
Notes receivable 75,000
Notes payable due after 3 year 75,000
Office equipment 225,000
Prepaid insurance 6,000
Prepaid interest 2,400
Salaries expense 42,000
Service income 480,500
Supplies expense 4,100
Supplies 2,250
SSS and Philhealth premium expense 4,000
SSS and Philhealth premium payable 10,280
Pag-ibig contribution payable 4,950
Unearned interest income 660
Utilities expense 20,100
Withholding taxes payable 12,900

27
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Prepare the following in good form according to Philippine Accounting Standard

1. Income statement ( No need to show the Notes on separate paper)


2. Statement of changes in Owner’s Equity
3. Statement of Financial Position (Report Form) Present with summary of Notes on separate
paper

28
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Republic Central Colleges


Angeles City
Senior High School

Name_______________________________________

I- Classify the following accounts into Distribution cost (DC), Administrative


Expense (AE), Finance Cost (FC) or other expenses (OE)

Sales salaries Sales commission


Advertising Store supplies expense
Delivery expense Depreciation-store equipment
Office supplies expense Taxes and licenses
Doubtful accounts expense Depreciation office equipment
Loss on sales of equipment Casualty loss
Interest expense from bank Promotion
Freight out Transportation
Representation expense Miscellaneous expense
Loss on sales of land Gas and oil expenses
Telephone expense Insurance expense- sales
Bad debt expense Property taxes

II- Prepare in good form Income Statement for the year ended December 31, 2018
of Kelly Corporation.

Sales P 2,000,000
Sales return and allowance 40,000
Sales discount 80,000
Inventory January 1 100,000
Inventory December 31 200,000
Purchases 500,000
Purchases discount 80,000
Advertising 9,000
Delivery expense 5,000
Office supplies expense 25,000
Doubtful accounts expense 4,000
Loss on sales of equipment 30,000
Interest expense from bank 78,500
Freight out 7,000
Representation expense 10,000
Store supplies expense 12,000
Depreciation-store equipment 6,000
Taxes and licenses 16,000
Depreciation office equipment 15,000
Casualty loss 50,000
Promotion 48,000
Transportation 8,000

29
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

STATEMENT OF CASH FLOWS

Business Case

During, the cash account of Holland Company was affected by receipts collected from
customers, P 360,000; proceeds from sale of furniture, P 20,000; proceeds from a bank
loan, P 100,000; and additional investment the owner, P 180,000

On the other hand, cash was used to buy an equipment, P 50,000; to pay the bank interest
of P 3,000; to pay the bank interest of P 3,000 and principal of P 20,000; and to pay
operating expenses of P 230,000. The owner also made cash withdrawals of P 50,000
during the year.

The balance of cash account at the beginning of the year was P 65,000

Discussion questions:
1. What are the cash inflow of the company?
2. What are the cash outflow of the company ?
3. What is the cash balance of Holland Company at the end of the year?
4. In your opinion, what is the purpose and uses of cash flow statement?

Questions:
1. What is statement of cash flows?
2. What are the two types of cash flow?
3. What are the purposes and uses of the statement of cash flows
4. What are the three activities of cash flows?

Statement of Cash Flows (Amponga, 2015)

A statement of cash flows is a financial statement that shows the cash receipts and
cash disbursement of an entity as a result of its operating, investing and financial activities.

This statement is essential to a business entity because this will give the users the
following valuable information:
1. Whether or the business enterprise can settle its monetary obligation when they
mature;
2. How the business utilized its cash;
3. Where the profit of a business go;
4. The source of money of the business which was used in financing its big project;
5. How they spent the proceeds of loan taken from a financing institution; and
6. The major sources and uses of cash during the accounting period.

30
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Classification of Cashflows

1. Operating activities (Current assets and current liabilities)


 generally result from transactions and other events that enter into the
determination of net income or loss
a. Direct method
- Detail or itemizes the major classes of gross cash receipts and gross cash
payments
- Cash receipts minus cash payments
b. Indirect method
- The net income or loss is adjusted for the effects of transactions of a noncash
nature
- Computation:
Net income
- all increases in trade non cash current assets
+ all decreases in trade non cash current assets
+ all increases in trade current liabilities
- decreases in trade current liabilities
+ depreciation. Amortization and other non cash
expenses
- gain on disposal property
+ loss on disposal of property
= net cash flow from operating activities

2. Investing activities (non-operating assets-non-current assets)


 Are cash flows derived from acquisition and disposal of long-term assets other
investments not included in cash equivalent
 Examples:
a. Cash payments to acquired PPE ; equity or debt instruments; future contract,
forward contract, option contract and swap contract ( DEDUCT)
b. Cash receipts from sales of PPE, intangibles, other long term assets; of
equity or debts instruments of other entities and interests in joint venture; from
repayments of advances and loans made to other parties; from future
contract, forward contract, option contract and swap contract (ADD)

3. Financing activities (Long term liabilities and equity)


 Cashflows derived from the equity capital and borrowings of the entity
 Examples
a. Cash receipts from issuing shares or other equity instruments
b. Cash payments to owners to acquire or redeem the enterprise’s shares
like payment for treasury stock
c. Cash receipts from issuing debentures, loans, notes, bonds, mortgages,
and other short or long-term borrowings
d. Cash payments for amounts borrowed

31
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Cash flows are inflows and outflows of cash and cash equivalents

A. Cash flows from operating activities are:


1. Cash receipts from sale of goods and rendering of services from the customer
2. Cash receipts from royalties, rental, fees, commissions and other revenue
3. Cash payments to suppliers for goods and services
4. Cash payments for selling, administrative, and other expenses
5. Cash payment of interest ( interest expense)
6. Cash receipts of interest (interest income)

B. Cash flows from investing activities are:


1. Cash payments to acquire property plant and equipment, intangibles and other long-
term assets
2. Cash receipts from sales of property plant and equipment intangibles and other long-
term assets
3. Cash payments to acquire current and long-term investments
4. Cash receipts from sales of current and long-term investments

C. Cash flows from financing activities are:


1. Cash receipt from owner’s investment and additional investment in the business
(sole proprietor)
2. Cash receipt from issuing shares or stock (corporation)
3. Cash receipts from issuance of bonds payable, from borrowing like loan from the
bank, mortgage payable, and other short or long-term borrowings
4. Cash payments for amounts borrowed
5. Cash payments for withdrawals by owner

Basic guidelines:
1. Operating activities include the cash effects of transactions that enter into the
determination of net income (current assets and current liabilities
2. Investing activities include the cash effects of transactions involving “non-operating
assets” ( non current assets)
3. Financing activities include the cash effects of transactions involving non-trade
“liabilities and equity” (non current liabilities and equity)

32
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Assignment:
Present a Sample format of a real Company’s Cash flow statement and interpret the report
for classroom discussion.

Exercises:
1. Identify whether the following transactions are Cash inflow or cash outflow
a. Purchase of motor vehicle
b. Additional investment of owner
c. Interest earned on bank account
d. Collection from customers for services rendered
e. Payment of salaries and wages
f. Withdrawals of the owner
g. Payment of interest on bank loan
h. Payment of principal of bank loan
i. Sale of furniture
j. Purchase of office supplies
k. Cash collection from customer
l. Cash payment to supplier on purchase of good
m. Purchase stock for investment
n. Borrowed loan from the bank

2. Identity whether the following cash flow is an operating activities, investing activities and
financing activities
a. Purchase of motor vehicle
b. Additional investment of owner
c. Interest earned on bank account
d. Collection from customers for services rendered
e. Payment of salaries and wages
f. Withdrawals of the owner
g. Payment of interest on bank loan
h. Payment of principal of bank loan
i. Sale of furniture
j. Purchase of office supplies
k. Cash collection from customer
l. Cash payment to supplier on purchase of good
m. Purchase stock for investment
n. Borrowed loan from the bank

33
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Republic Central Colleges


Angeles City

Activity on CashFlow Statement

Name______________________________________________

I- Identify the following based on the three activities of Statement of Cash Flow

1. Purchase of motor vehicle_______________


2. Additional investment of owner__________________
3. Interest earned on bank deposit___________________
4. Collection from customers for services rendered_________________
5. Payment of salaries and wages____________________
6. Withdrawals of the owner_____________________
7. Payment of interest on bank loan_________________
8. Payment of supplies expense________________
9. Sale of furniture______________________
10. Purchase of office equipment___________________
11. Cash collection from customer_____________________
12. Cash payment to supplier on purchase of good____________________
13. Purchase stock for investment_______________________
14. Borrowed loan from the bank________________________
15. Purchase of motor vehicle_________________________
16. Declared and paid a cash dividend______________________
17. Purchased a long-term investment____________________
18. Sold motor vehicle_________________________
19. Issuance of bond payable____________________
20. Repaid long term- notes payables___________________
21. Sold merchandise on cash___________________
22. Sold merchandise on credit__________________
23. Proceeds of machineries sold____________________
24. Receipt of service revenue earned_________________
25. Collection from credit sales_____________________

34
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

26. Cash payment from accounts payable on account_______________


27. Purchased investment on bonds____________________
28. Issuance of common share receiving cash______________________
29. Acquisition of building________________________
30. Acquisition of land________________________
31. Cash from payment of expenses______________________
32. Cash paid for owner’s personal use_______________________
33. Proceeds from shares or stock_______________________
34. Cash payments for wages____________________
35. Paid taxes to the BIR________________________
36. Disposal of equipment at book value______________________
37. Paid office rent_______________________
38. Receipts from sale of investments in debt__________________
39. Collection from notes receivables________________________
40. Receipt from sale of goods_________________________

35
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Republic Central Colleges


Angeles City

Activity on CashFlow Statement

Name______________________________________________ Date ________

I- Identification
Cash Cash flow
inflow/Outflow activities
0. Cash receipt of bank loan Inflow financing
1. Sales of land
2. Purchase of office supplies
3. Payment of interest on bank
4. Initial investment of the owner
5. Interest earned on bonds payable
6. Sales of investment
7. Acquired merchandise by paying cash
8. Proceeds from sale of long term investments
9. Income taxes paid
10. Cash received from customers
11. Cash receipts from dividends on long-term
investments
12. Cash payment to purchase land
13. Cash payments for wages
14. Rent received
15. Purchase of patent for cash
16. Cash withdrawals by the owner
17. Proceeds from sales of furniture and fixtures
18. Paid insurance in advance
19. Purchase equipment by cash
20. Payment of cash dividend

36
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Republic Central Colleges


Angeles City

Activity for CashFlow Statement

Name______________________________________________ Date ________

Using the direct method, prepare the statement of cash flows as of December 31 of
the current year in good form from the data taken from the records of Whitey
Company :

Cash received
Bank loan P 4,000,000
Dividend income 85,000
From sale of investment 50,000
From the owner as initial investment to 1,500,000
company
Proceeds from sale of patents 80,000
Proceeds from shares or stock 90,000
Cash payment:
Acquisition of building 1,000,000
Acquisition of land 1,800,000
Cash from payment of expenses 1,200,000
Cash paid for owner’s personal use 80,000

37
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

LESSON 2 - FINANCIAL ANALYSIS AND RATIOS

FINANCIAL ANALYSIS

Financial analysis is used to analyze whether an entity is stable, solvent, liquid or


profitable enough to warrant a monetary investment. When looking at a specific company,
a financial analyst conducts analysis by focusing on the income statement, balance sheet
and cash flow statement.

Financial analysis is the examination of financial information to reach business


decisions. This analysis typically results in the reallocation of resources to or from a
business or a specific internal operation

Financial analysis is an aspect of the overall business finance function that involves
examining historical data to gain information about the current and future financial health of
a company. Financial analysis can be applied in a wide variety of situations to give
business managers the information they need to make critical decisions. The ability to
understand financial data is essential for any business
manager. https://www.inc.com/encyclopedia/financial-analysis.html

Financial analysis is a process of selecting, evaluating, and interpreting financial data,


along with other pertinent information, in order to formulate an assessment of a
company’s present and future financial condition and performance.

Common-size analysis is the restatement of financial statement information in a


standardized form.
1. Horizontal common-size analysis uses the amounts in accounts in a specified
year as the base, and subsequent years’ amounts are stated as a percentage of
the base value.
 Useful when comparing growth of different accounts over time.
2. Vertical common-size analysis uses the aggregate value in a financial
statement for a given year as the base, and each account’s amount is restated
as a percentage of the aggregate.
 Statement of Financial Position: Aggregate amount is total assets.
 Income statement: Aggregate amount is revenues or sales.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Illustrative example:

Consider the Kemp Company, which reports the following financial information:

Year 2011 2012 2013 2014 2015 2016


Cash P400.00 P404.00 P408.04 P412.12 P416.24 P420.40
Inventory 1,580.00 1,627.40 1,676.22 1,726.51 1,778.30 1,831.65
Accounts receivable 1,120.00 1,142.40 1,165.25 1,188.55 1,212.32 1,236.57
Net plant and
equipment 3,500.00 3,640.00 3,785.60 3,937.02 4,094.50 4,258.29
Intangibles 400.00 402.00 404.01 406.03 408.06 410.10
Total assets 7,000.00 7,215.80 7,439.12 7,670.23 7,493.18 8,157.01

Required:
1. Create the vertical common-size analysis for the Kemp Company’s assets.
2. Create the horizontal common-size analysis for Kemp Company’s assets, using
2012 as the base year.

Answer:

1. VERTICAL COMMON-SIZE ANALYSIS for the CS Company’s assets


Year 2011 2012 2013 2014 2015 2016
Cash 6% 6% 5% 5% 5% 5%
Inventory 23% 23% 23% 23% 22% 22%
Accounts receivable 16% 16% 16% 15% 15% 15%
Net plant and
equipment 50% 50% 51% 51% 52% 52%
Intangibles 6% 6% 5% 5% 5% 5%
Total assets 100% 100% 100% 100% 100% 100%

2. HORIZONTAL COMMON-SIZE ANALYSIS for CS Company’s assets


Year 2011 2012 2013 2014 2015 2016
Cash 100.00% 101.00% 102.01% 103.03% 104.06% 105.10%
Inventory 100.00% 103.00% 106.09% 109.27% 112.55% 115.93%
Accounts receivable 100.00% 102.00% 104.04% 106.12% 108.24% 110.41%
Net plant and
equipment 100.00% 104.00% 108.16% 112.49% 116.99% 121.67%
Intangibles 100.00% 100.50% 101.00% 101.51% 102.02% 102.53%
Total assets 100.00% 103.08% 106.27% 109.57% 112.99% 116.53%

39
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

FINANCIAL RATIOS
http://www.myaccountingcourse.com/financial-ratios/working-capital-ratio

Financial ratios are a valuable and easy way to interpret the numbers found in statements.
Ratio analysis provides the ability to understand the relationship between figures on
spreadsheets. It can help you to answer critical questions such as whether the business is
carrying excess debt or inventory, whether customers are paying according to terms, and
whether the operating expenses are too high.

Financial ratio analysis is the use of relationships among financial statement


accounts to gauge the financial condition and performance of a company

Classification of Financial Ratios


1. Profitability
Profitability refers to management's performance in using the resources of a business.
Many measures of profitability involve calculating the financial return that the company
earns on the money that has been invested.

a. Profit Margin
Gross Profit Margin - Indicates how well the company can generate a return at the
gross profit level. It addresses three areas: inventory control, pricing, and
production efficiency..

Net Income
Profit Margin = -----------------
Sales

Analysis: This ratio also indirectly measures how well a company manages its
expenses relative to its net sales. That is why companies strive to achieve higher
ratios. They can do this by either generating more revenues why keeping expenses
constant or keep revenues constant and lower expenses

b. Return on Total Assets


Return on Assets - Evaluates how effectively the company employs its assets to
generate a return. It measures efficiency. The return on assets ratio measures how
effectively a company can earn a return on its investment in assets. In other words,
ROA shows how efficiently a company can convert the money used to purchase
assets into net income or profits
Net Income
Return on Assets (ROA) = -------------------------
Average Total Assets

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Analysis: . It only makes sense that a higher ratio is more favorable to investors
because it shows that the company is more effectively managing its assets to
produce greater amounts of net income. A positive ROA ratio usually indicates an
upward profit trend as well. ROA is most useful for comparing companies in the
same industry as different industries use assets differently.

c. Rate of return on Equity

Return on equity (ROE) is the amount of net income returned as a percentage of


shareholders equity. Return on equity measures a corporation's profitability by
revealing how much profit a company generates with the money shareholders have
invested.

Net Income
Return on Equity (ROE) = ------------------------------------
Average Owners' Equity

Analysis:
Investors want to see a high return on equity ratio because this indicates that the
company is using its investors' funds effectively. Higher ratios are almost always better
than lower ratios, but have to be compared to other companies' ratios in the industry.

2. Liquidity

Liquidity refers to a company's ability to pay its current bills and expenses. In other words,
liquidity relates to the availability of cash and other assets to cover accounts payable, short-
term debt, and other liabilities
a. Working capital = Current Assets – Current Liabilities

b. Current Ratio
How able a business is to pay current liabilities by using current assets only. Also
called the working capital ratio. A general rule of thumb for the current ratio is 2 to 1
(or 2:1, or 2/1).

Current Assets
Current Ratio = ------------------------
Current Liabilities

Analysis: A ratio less than 1 is considered risky by creditors and investors because it
shows the company isn't running efficiently and can't cover its current debt properly. A
ratio less than 1 is always a bad thing and is often referred to as negative working
capital.

On the other hand, a ratio above 1 shows outsiders that the company can pay all of its
current liabilities and still have current assets left over or positive working capital

41
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

c. Quick Ratio or Acid Test Ratio


Focuses on immediate liquidity (i.e., cash, accounts receivable, etc.) but specifically
ignores inventory and prepaid expenses. Also called the acid test ratio, it indicates
the extent to which you could pay current liabilities without relying on the sale of
inventory
Quick Assets
Quick Ratio = ----------------------
Current Liabilities
Quick Assets = Current Assets – Inventories

Analysis: Higher quick ratios are more favorable for companies because it shows
there are more quick assets than current liabilities. A company with a quick ratio of 1
indicates that quick assets equal current assets. This also shows that the company
could pay off its current liabilities without selling any long-term assets. An acid ratio
of 2 shows that the company has twice as many quick assets than current liabilities.

3. Solvency

Solvency is a long term liquidity and is measured based on ability of the business to
pay for long term.
a. Debt to Equity ratio
Also called debt to net worth. Quantifies the relationship between the capital
invested by owners and investors and the funds provided by creditors. The higher
the ratio, the greater the risk to a current or future creditor.
Total Liabilities
Debt to Equity Ratio = ------------------------------
Total Equity

Analysis: A lower ratio means your company is more financially stable and is
probably in a better position to borrow now and in the future. However, an extremely
low ratio may indicate that you are too conservative and are not letting the business
realize its potential. A debt to equity ratio of 1 would mean that investors and
creditors have an equal stake in the business assets. A lower debt to equity ratio
usually implies a more financially stable business. Companies with a higher debt to
equity ratio are considered more risky to creditors and investors than companies
with a lower ratio.

42
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

b. Equity ratio
The equity ratio is an investment leverage or solvency ratio that measures the
amount of assets that are financed by owners' investments by comparing the total
equity in the company to the total assets. higher equity ratios are typically favorable
for companies
Total Stockholders' Equity
Equity Ratio = ------------------------------
Total Assets

Analysis: In general, higher equity ratios are typically favorable for companies. This
is usually the case for several reasons. Higher investment levels by shareholders
shows potential shareholders that the company is worth investing in since so many
investors are willing to finance the company. A higher ratio also shows potential
creditors that the company is more sustainable and less risky to lend future loans.

c. Debt ratio

Total Liabilities
Debt Ratio = ------------------------------
Total Assets

4. Efficiency Ratio

Efficiency ratios also called activity ratios measure how well companies utilize their
assets to generate income. Efficiency ratios often look at the time it takes companies to
collect cash from customer or the time it takes companies to convert inventory into
cash—in other words, make sales. These ratios are used by management to help
improve the company as well as outside investors and creditors looking at the
operations of profitability of the company.

a. Accounts Receivable Turnover - Shows the number of times accounts receivable


are paid and reestablished during the accounting period. The higher the turnover,
the faster the business is collecting its receivables and the more cash the company
generally has on hand.

The formula is:


Total Net Sales
Average Accounts Receivable

Analysis: Since the receivables turnover ratio measures a business' ability to


efficiently collect its receivables, it only makes sense that a higher ratio would be
more favorable. Higher ratios mean that companies are collecting their receivables
more frequently throughout the year. For instance, a ratio of 2 means that the
company collected its average receivables twice during the year.

43
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

b. Accounts Receivable Collection Period - Reveals how many days it takes to


collect all accounts receivable.

The formula is:


365 Days
Accounts Receivable Turnover

Analysis: As with accounts receivable turnover (above), fewer days means the
company is collecting more quickly on its accounts.

c. Accounts Payable Turnover - Shows how many times in one accounting period the
company turns over (repays) its accounts payable to creditors
The formula is:
Cost of Goods Sold
Average Accounts Payable
Analysis: . A higher number indicates either that the business has decided to hold
on to its money longer, or that it is having greater difficulty paying creditors.

d. Payable Period - Shows how many days it takes to pay accounts payable. This ratio is
similar to accounts payable turnover (above.)

The formula is:


365 Days
Accounts Payable Turnover
Analysis: The business may be losing valuable creditor discounts by not paying
promptly.

e. Inventory Turnover - Shows how many times in one accounting period the
company turns over (sells) its inventory. This ratio is valuable for spotting
understocking, overstocking, obsolescence, and the need for merchandising
improvement. Faster turnovers are generally viewed as a positive trend; they
increase cash flow and reduce warehousing and other related costs. Average
inventory can be calculated by averaging the inventory figure from the monthly
Balance Sheets. In a cyclical business, this is especially important since there can
be wide swings in asset levels during the year. For example, many retailers might
have extra stock in October and November in preparation for the Thanksgiving and
winter holiday sales.

44
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

The formula is:


Cost of Goods Sold
Average Inventory

Analysis: Faster turnovers are generally viewed as a positive trend; they increase
cash flow and reduce warehousing and other related costs. Average inventory can
be calculated by averaging the inventory figure from the monthly Balance Sheets. In
a cyclical business, this is especially important since there can be wide swings in
asset levels during the year. For example, many retailers might have extra stock in
October and November in preparation for the Thanksgiving and winter holiday sales

f. Inventory Turnover in Days - Identifies the average length of time in days it takes
the inventory to turn over. As with inventory turnover (above), fewer days mean that
inventory is being sold more quickly.

The formula is:


365 Days
Inventory Turnover

Analysis: As with inventory turnover (above), fewer days mean that inventory is
being sold more quickly.

g. Sales to Total Assets - Indicates how efficiently the company generates sales on
each dollar of assets. A volume indicator, this ratio measures the ability of the
company’s assets to generate sales.
The formula is:
Total Sales
Average Total Assets

Analysis: A volume indicator, this ratio measures the ability of the company’s assets
to generate sales.

45
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Illustrative Problem:

46
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Required:

Based on the “Example Company” given above. Compute the following


1. Vertical common-size analysis of Balance sheet or Statement of Financial
Position
2. Financial Analysis using
a. Profitability ratios
b. Liquidity ratios
c. Solvency ratios
d. Efficiency ratios

47
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Republic Central Colleges


Angeles City
Senior High School

Activity in Financial Analysis

Name______________________________________ Section:________________

The following data represent selected information from the comparative income statement
and Statement of financial position for Mandarin Company for the years ended December
31, 2017 and 2018

2018 2017
Net sales –all on credit P 370,000 P 333,000
Cost of goods sold 160,000 150,000
Gross profit 210,000 183,000
Income from operations 95,000 87,000
Interest expense 8,000 8,000
Net income 70,000 57,000
Cash 10,000 14,000
Accounts receivable 30,000 25,000
Inventory 43,000 40,000
Prepaid expenses 5,000 7,000
Total current assets 88,000 86,000
Total non current assets 112,000 104,000
Total current liabilities 70,000 60,000
Total non current liabilities 40,000 45,000
Share capital 60,000 60,000
Retained earnings 30,000 30,000

Compute All Financial Ratios using:


a. Profitability ratio
b. Liquidity ratio
c. Solvency ratio
d. Efficiency ratio

48
ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Republic Central Colleges


Angeles City
Senior High School
Activity on Financial Analysis

Name______________________________________
Metro Building Supply
Comparative Statement of Financial Position

This year Last year


Assets
Current assets
Cash P 90,000 P 200,000
Marketable securities 0 50,000
Accounts receivable net 650,000 400,000
Inventory 1,300,000 800,000
Prepaid expenses ____20,000 ___20,000
Total current assets 2,060,000 1,470,000
Plant and equipment, net 1,940,000 1,830,000
Total assets 4,000,000 3,300,000

Liabilities and equity


Liabilities:
Current liabilities 1,100,000 600,000
Bonds payable, 12% ___750,000 __750,000
Total liabilities 1,850,000 1,350,000
Equity
Preference shares, P 50 par, 8% 200,000 200,000
Ordinary shares, P 10 par 500,000 500,000
Retained earnings 1,450,000 1,250,000
Total equity 2,150,000 1,950,000
Total liabilities and equity 4,000,000 3,300,000

Metro Building Supply


Comparative Statement of Income Statement
This year Last year
Sales P 7,000,000 P 6,000,000
Less cost of goods sold 5,400,000 4,800,000
Gross margin 1,600,000 1,200,000
Less operating expenses 970,000 710,000
Net operating expenses 630,000 490,000
Less interest expense 90,000 90,000
Net income before taxes 540,000 400,000
Less income taxes 40% 216,000 160,000
Net income 324,000 240,000
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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Requirement:

 Compute Financial Analysis using vertical common size analysis


 Compute All Financial Ratios using:
a. Profitability ratio
b. Liquidity ratio
c. Solvency ratio
d. Efficiency ratio

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

LESSON 3 - BANK RECONCILIATION


Definition
Bank reconciliation statement is a report which compares the bank balance as per
company's accounting records with the balance stated in the bank statement.
A company's cash balance at bank and its cash balance according to its accounting
records usually do not match. This is due to the fact that, at any particular date, checks
may be outstanding, deposits may be in transit to the bank, errors may have occurred etc.
Therefore companies have to carry out bank reconciliation process which prepares a
statement accounting for the difference between the cash balance in company's cash
account and the cash balance according to its bank statement.
Purpose of a bank reconciliation
It should be prepared regularly as part of the internal control system of the business
to check:

a) the accuracy of the cash book


b) the accuracy of the bank statement
c) that undue delay is not occurring between payments, receipts and their clearance
by the bank
d) to discover payments made and items received by the bank not entered in the
cash book

Reasons for differences in bank statement and cash book

a) The causes of difference will be fall into one of the following classes:
b) Items (not consisting of errors) which appear in the bank statement but which are
not in the cash book, e.g., dishonouredcheques or bills, interest and bank
charges, standing order (an order made to the bank to make a regular
payment), dividends or interest income credited direct to the bank and payments
by customers which are paid direct to the bank.
c) Items (not consisting of errors) which appear in the cash book but which do not
appear in the bank statement. These are confined to outstanding cheques and
outstanding deposits.
d) Errors made in the compilation of the cash book or the bank statement.

Two forms of bank reconciliation are in common usage:

1) Book to Bank balance or Bank to Book balance. The bank balance is reconciled
to the balance in the depositor’s records (or the balance in the depositor’s records
to the bank balance)
2) Adjusted Balances. Both the bank balance and the balance per depositor’s
records are reconciled to a correct balance.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Following are the transactions which usually appear in company's records but not in
the bank statement:
1. Deposits in Transit: Deposits which have been sent by the company to the bank but
have not been received by the bank at proper time before the issuance of bank
statement.
2. Checks Outstanding: Checks which have been issued by the company but were not
presented or cleared before the issuance of bank statement.
Following are the transactions which usually appear in bank statement but not in
company's cash account:
1. Service Charges: Service charges may have been deducted by the bank. Such
charges are usually not known to the company before the issuance of bank statement.
2. Interest Income: If any interest income has been earned by the company on its bank
account, it is not usually entered in company's cash account before the issuance of
bank statement.
3. NSF Checks: NSF stands for "not sufficient funds". These are the checks deposited by
the company in bank account but the bank is unable to receive payment on those
checks due to insufficient funds in the payer's account.
Formula for Bank Reconciliation
1. Book to Bank balance

Book balance xx
Add: Credit memos
Outstanding checks xx
———————-
Total xx
Less: Debit memos
Deposit in transit (xx)
———————-
Bank balance xx

Bank to Book balance

Bank balance xx
Add: Debit memos
Deposit in transit xx
———————–
Total xx
Less: Credit memos
Outstanding checks (xx)
———————–
Book balance xx

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

2. Adjusted Book Balance

Book balance xx
Add: Credit memos xx
———————
Total xx
Less: debit memos (xx)
———————
Adjusted book balance xx

Bank balance xx
Add: Deposit in transit xx
———————
Total xx
Less: Outstanding checks (xx)
———————
Adjusted bank balance xx

A bank credit memo is an item on a company's bank statement that increases a


company's checking account balance. A bank debit memo is an item on the bank
statement that reduces the company's checking account balance. ... The company's Cash
account needs to be credited because this company's asset account decreased.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Assignment:
1. Bring sample of used checks, it can be taken from internet .
2. Explain the banking operation of a Bank based on your observation.
3. How one can open an account in a bank, deposit in a bank and withdraw in a bank?

Illustrative Example of Bank Reconciliation Problem


Company A's bank statement dated Dec 31, 2018 shows a balance of P 24,594.72. The
company's cash records on the same date show a balance of P 23,196.79. Following
additional information is available:
Following checks issued by the company to its customers are still outstanding:
No. 846 issued on Nov 29 P 320.00
No. 875 issued on Dec 26 49.21
No. 878 issued on Dec 29 275.00
No. 881 issued on Dec 31 186.50
A deposit of P 400.00 made on Dec 31 does not appear on bank statement.
An NSF check of P 850 was returned by the bank with the bank statement.
The bank charged P 50 as service fee.
Interest income earned on the company's average cash balance at bank was P 1,237.22.

The bank collected a note receivable on behalf of the company. Amount received by the
bank on the note was P 550. This includes P 50 interest income. The bank charged a
collection fee of P 10.

A deposit of P 430 was incorrectly entered as P 340 in the company's cash records.
Prepare a bank reconciliation statement using the above information.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Solution:
Company A
Bank Reconciliation
December 31, 2018

Balance as per Bank, Dec 31 P24,594.72


Add: Deposit in Transit 400.00
P24,994.72
Less: Outstanding Checks:
No. 846 issued on Nov 29 P320.00
No. 875 issued on Dec 26 49.21
No. 878 issued on Dec 29 275.00
No. 881 issued on Dec 31 186.50
830.71
Adjusted Bank Balance P24,164.01

Balance as per Books, Dec 31 P23,196.79


Add:
Interest Income from Bank P1,237.22
Note Receivable Collected by Bank 500.00
Interest Income from Note Receivable 50.00
Deposit Understated 90.00
1,877.22
P25,074.01
Less:
NSF Check 850.00
Bank Service Fee 50.00
Bank Collection Fee 10.00
910.00
Adjusted Book Balance P24,164.01

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Republic Central Colleges


Angeles City
Activity in FUNAC 2

I. Identify whether the following is added (+) or deducted (-) from Book or Bank record.

Book Book Bank Bank


Add Deduct Add Deduct
1. Deposit in transit
2. Outstanding Check
3. Bank service charge
4. NSF check
5. Company’s accounts receivable collected by the bank
6. Unrecorded Interest income earned by the company from the bank
7. Erroneous charged by the bank t the company’s account

II. Timothy Company provided the following data for the month of December of the current
year:

Balance per book P 10,000,000


Balance per bank 8,900,000
Customer’s note collected by bank
Face, P 4,000,000: Interest, P 400,000;
Collection fee, P 100,000 4,300,000
Customer’s check returned by bank marked NSF 1,000,000
Bank service charge for the month 100,000
Outstanding check 1,700,000
Deposit in transit 6,000,000

Required:

a. Prepare a bank reconciliation on December 31


b. Prepare adjustments to correct the cash balance per book

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

III. Rosal Company has the following information for December 2017:

Bank Statement of Rosal Company

Date Check Withdrawal Deposit Balance


Dec
2 P 200,000 P 200,000
15 204 20,000 180,000
18 201 10,000 170,000
19 206 50,000 120,000
22 100,000 220,000
25 20,000 240,000
27 203 80,000 160,000
27 CM 60,000 220,000
31 DM- SC 4,000 216,000

Rosal Company’s Cash in bank-- BPI Bank

Deposit Withdrawals
4-
Dec 1 P 200,000 Dec Chk 201 P 10,000
20 100,000 6 Chk202 30,000
24 20,000 8 Chk 203 80,000
31 160,000 9 Chk 204 20,000
10 Chk 205 60,000
14 Chk 206 50,000
28 Chk 207 100,000

The credit made by BPI on December 27 represents the proceeds of accounts receivable
from a customer which was given to the bank for collection by the entity on December 21.

Required:

1. Prepare a bank reconciliation using adjusted balance method


2. Prepare adjusting entries

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

IV. Orange Company provided the following information:

Balance per book, March 31 P 800,000


Cash receipts for April 4,100,000
Cash disbursements for April 3,800,000

Outstanding checks as of April 30 of


003 40,000
004 30,000
005 60,000
006 10,000

April debit memos were:


For bank service charge 5,000
For NSF check 25,000

April credit memo for note collected by bank in


the name of Orange Company 60,000

Deposit in transit 270,000

Balance per bank, April 30 1,000,000

Required:

1. Prepare a bank reconciliation using adjusted balance method


2. Prepare adjusting entries

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

ACCOUNTING SOURCES OF DOCUMENTS

A source document is an original record which contains the detail that supports or
substantiates a transaction that will be (or has been) entered in an accounting system. In
the past, source documents were printed on paper. Today, the source documents may
be an electronic record.

Documents and forms can either be for external, internal or both. External documents
and forms are those that are issued or given mainly to parties outside the business as proof
of a transaction done with the company. Some of these are Official Receipts, Sales Invoice,
Purchase Orders and Check or Cash Vouchers.

Internal documents on the other hand are those that are generated and maintained
principally to establish internal control and monitoring. These documents are issued and
circulated within departments and personnel as proof of transactions that have taken place
inside the company and among the staff to trace responsibility. Some of these are the
Purchase Requisition, Disbursement Forms and Liquidation Forms.

Illustrative Example

A Purchase Requisition is an internal document filled out by any of the departments within
the company of the items they want the purchasing department to buy for them. A PR is
internally generated for internal purposes, thus the company decides on the format of the
PR. Important details present in the PR include the date of requisition, items required, their
description and quantity. A PR should also be approved by the duly allowed signatories. An
approved purchase requisition leads to the generation of the Purchase Order.
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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

A Purchase Order is an external document made by the company, which is sent out to
suppliers for a request to purchase goods or to provide a service. Companies vary in their
format since there are no regulations requiring a standard layout. A basic PO must show
the shipment address, items ordered, quantity ordered and total amount payable. In the
part of the vendor, the corresponding document is called Sales Order (SO). Copies of PRs
and POs are attached to another document called Receiving Report.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

A Receiving Report is another internal document made by the receiving department


confirming the receipt of items or services acquired by the company. There is no required
layout of RRs. It depends on the company what information they want to see in the RR.
The most important details include the date received, in what condition received, who
received them and to which warehouse they will be stored. Additional details include
reference number of the PO, PR and Sales Invoice.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

A Check or Cash Voucher is an internal document proving the disbursement of funds from
the company. It contains the journal entry made in the books recording the transaction. It
has reference to the expense made and contains attachments like PO, RR and Sales
Invoice. A check or cash voucher must be duly approved by the responsible officers of the
company. The payee affixes his signature in the voucher to confirm receipt of the payment.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

A Delivery Receipt is an internal document produced by the company for deliveries of


goods or services rendered by the company to its customers. The DR contains data like
date delivered, items delivered, in what quantity, addressee and other references the
company sees fit to reflect. When the goods are delivered or services have been rendered,
the customer acknowledges acceptance in the DR. The company then uses the
acknowledged DR as the basis to bill the customer through another document called Sales
Invoice.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

A Sales Invoice or Bill is an external document produced by the company and is sent out to
its customers to bill them for service rendered or goods purchased. The SI contains
information in reference to the services rendered or items delivered, the date they were
delivered, the PO number made for the sales, the date when the payable is due, the
payment terms and other conditions. Inquire with your state government agencies
regarding the regulations of SIs. Tax regulatory bodies in some states require the official
registration of SI to make them effective and binding. Some states further require the
accreditation and registration of printing press and manufacturers who provide SI forms to
companies. Invoice machines also have to be registered. Failure to register will result to
levies and penalties. In other countries, Billing Statement is issued for goods delivered
instead of SI and SI is issued only upon payment.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

An Official Receipt is another external document issued by the company to its customers
evidencing the receipt of payment for services rendered or goods delivered. An OR
contains the date payment is received, the SI or billing statement the payment pertains to,
the payer, address of the payer, the federal registration of the payer, amount of federal
taxes included and all other information the tax regulatory bodies of your state require.
Among the documents in the accounting records, the OR is the most regulated of all. The
company cannot produce their own OR forms unless registered with the tax bureau. There
is also an expiry date as to the effectivity of blank OR forms. In some countries, ORs are
only issued for receipt of payment for services rendered while SI are issued for receipt of
payment for goods delivered. It is best to consult with your concerned government
agencies before issuing or producing your OR forms.

http://foundersguide.com/7-kinds-financial-forms/
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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Questions:

1. Explain the difference between an external and an internal accounting document.


2. Explain the role of source documents in an accounting system.
3. What Information should a source document contain?
4. What is the importance of source documents in accounting?
5. How do you journalize source documents?

Assignment:

Bring actual source of documents

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

LESSON 5 – ACCOUNTING PROCESS

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

ACCOUNTING CYCLE
An accounting cycle is the collective process of identifying, analyzing, and
recording the accounting events of a company. The series of steps begins
when a transaction occurs and end with its inclusion in the financial
statements. Additional accounting records used during the accounting cycle
include the general ledger and trial balance.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Here are the 10-11 steps of the accounting cycle –

1. Collection of data and analysis of transactions


2. Journalizing
3. Recording the journals into the ledger accounts
4. Creating unadjusted trial balance
5. Performing adjusting entries
6. Prepare Worksheet
7. Creating adjusted trial balance
8. Creating financial statements from the trial balance
9. Closing the books
10. Creating the post-closing trial balance
11. Reversing Entries if any

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Republic Central Colleges


Angeles City

Accounting Process
Name___________________________________________ Section_________________

This company was incorporated January 1, 2017. They started out with a cash value of P 2,350,000 for
initial investment. These are their transactions for the first month:

Date Transaction
January 2 Rent was paid in advance for a full year totaling P 750,000.
January 3 Equipment costing P 830,000 was purchased. P 310,000 was paid in cash, and the remaining amount
of P 520,000 was a one year note payable with an interest rate of 4.6%.
January 3 Office supplies were purchased on account totaling P340,000.

January 4 Services were provided to customers, and the company received P570,000 in cash.

January 5 Revenue were made, and the company received P350,000 in cash.

January 6 The accounts payable for office supplies purchased on January 3 was paid.

January 7 Revenue were made totaling P475,000. Customers paid P235,000 in cash and promised to pay the
remaining P240,000 in the future.
January 8 Services were provided to customers totaling P654,000. Customers paid P300,000 in cash and
promised to pay the remaining P354,000 in the future.
January 9 Office supplies were purchased on account totaling P115,000.
January 10 Customers paid P25,000 for service made on January 7 leaving a balance of P215,000.
January 11 Employees were paid wages totaling P457,000 for the first two weeks of January 2017.
January 12 The accounts payable for office supplies purchased on January 9 was paid.
January 13 Customers paid P65,000 for services rendered on January 8 leaving a balance of P289,000.
January 14 The company paid P35,000 to the note payable for equipment purchased January 3 leaving a balance
of P485,000.
January 15 Customers paid P53,000 for service made on January 7 leaving a balance of P162,000.
January 16 Customers paid P43,000 for services rendered on January 8 leaving a balance of P246,000.
January 17 Office supplies were purchased on account for P75,000.
January 18 Customers paid P35,000 for services rendered on January 8 leaving a balance of P211,000.

January 19 The company paid P75,000 for equipment purchased January 3 leaving a balance of P410,000.
January 20 The accounts payable for office supplies purchased on January 17 was paid.
January 21 Customers paid P100,000 for service made on January 7 leaving a balance of P62,000.
January 22 Revenue were made, and the company received P235,000 in cash.
January 23 Customers paid P211,000 for services rendered on January 8.
January 24 Customers paid P65,000 in advance for services to be rendered.

January 25 Employees were paid wages totaling P545,000 for the third and fourth weeks of January 2017.
January 26 Customers paid P62,000 for service made on January 7.
January 27 Revenues were made, and the company received P345,000 in cash.
January 28 Office supplies were purchased on account totaling P215,000.
January 29 The accounts payable for office supplies purchased on January 28 was paid.
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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

January 30 Services were provided to customers, and the company received P765,000 in cash.
January 31 Withdrawals were made totaling P1,000,000.
January 31 Electricity bill totaling P15,450 was received.
January 31 Phone bill totaling P17,850 was received.
January 31 Miscellaneous expenses for the month totaled to P650,000.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Republic Central Colleges


Angeles City

ADJUSTING ENTRIES

Name___________________________________________ Section_________________

1. The transactions for the year 2016 for Anderson Architects have already been recorded. This problem
shows how to prepare adjusting entries for December 2000.

Dec. 31 A note payable of P6,000 has been outstanding since September 1, 2016. Under the terms
of the note, the note plus interest (12%) is to be paid on March 1, 2017. No interest has been
recorded on the note.

Dec. 31 Wages of P650 for December will be paid in January.

Dec. 31 Services were performed for a client for P800. The client has not been billed yet.

Dec. 31 Advertising costs of P105 for December will be paid in January.

DATE ACCOUNT DEBIT CREDIT


2017
Dec. 31 Interest Expense 240
Interest Payable 240
Dec. 31 Wages Expense 650
Wages Payable 650
Dec. 31 Accounts Receivable 800
Service Revenue 800
Dec. 31 Advertising Expense 105
Accounts Payable 105

2. The transactions for the year 2016 for Comfort Furniture Co. have been recorded in the accounting
system. This assignment requires you to prepare adjusting entries for Comfort Furniture Co. for
December 2016.

Dec. 31 Wages owed but unpaid at the end of December were P5,000.

Dec. 31 The company signed a 12%, six-month note for P6,000 on November 1, 2016.
No interest has been recorded for November and December.

Dec. 31 Service provided to a customer for P350 has not been recorded.

Dec. 31 Advertising cost of P 90 for December has not been recorded.

DATE ACCOUNT DEBIT CREDIT


2016
Dec. 31 Wages Expense 5,000
Wages Payable 5,000
Dec. 31 Interest Expense 120
Interest Payable 120
Dec. 31 Accounts Receivable 350
Service Revenue 350
Dec. 31 Advertising Expense 90
Accounts Payable 90

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

3. The transactions for Conway Floor Covering Inc. for the year 2017 have been recorded in the accounting
system. This assignment requires you to record the adjusting entries for December 2017.

Dec. 31 Performed services for a client for P850. The customer will be billed in January.

Dec. 31 P15,000 was borrowed by signing a 10%, 2 year note on September 1, 2017.
Record the interest on the note.

Dec. 31 Employee wages of P950 for December will be paid in January.

Dec. 31 Advertising costs of P95 for December will be paid in January.

DATE ACCOUNT DEBIT CREDIT


2017
Dec. 31 Accounts Receivable 850
Service Revenue 850
Dec. 31 Interest Expense 500
Interest Payable 500
Dec. 31 Wages Expense 950
Wages Payable 950
Dec. 31 Advertising Expense 95
Accounts Payable 95

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

LESSON 6 - INCOME TAXATION

National Internal Revenue Code of 1997 and Its Amendments

Date of
R.A. No. TITLE Date of Affectivity
Approval

R.A. 8424 The National Internal Revenue Code of 1997 December January 1, 1998
11, 1997

R.A. 8761 An Act Imposing The Value-Added Tax on February January 1, 2001
Certain Services Beginning January 1, 2001, 15, 2000
Amending for the Purpose Section 5 of R.A.
No. 8424 and for Other Purposes.

R.A. 9010 An Act To Further Defer The Imposition Of February January 1, 2003
The Value-Added Tax On Certain Services, 27, 2001
Amending For The Purpose Section 5 of R.A.
No. 8424, As Amended by R.A. No. 8761.

R.A. 9224 An Act Rationalizing the Excise Tax on August 29, October 4, 2003
Automobiles, Amending for the Purpose the 2003 (published on
National Internal Revenue Code of 1997, and September 18,
for Other Purposes. 2003)

R.A.10963 “TRAIN Law” December January 1, 2018


28, 2017

What is TRAIN?
Tax Reform for Acceleration and Inclusion

The goal of the first package of the Comprehensive Tax Reform Program (CTRP) or TRAIN
is to create a more just, simple, and more effective system of tax collection, as per the
constitution, where the rich will have a bigger contribution and the poor will benefit more
from the government’s programs and services.

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

TRAIN LAW

On 19 December 2017, the President signed into law package 1 of the Tax Reform for
Acceleration and Inclusion (“TRAIN”) bill or Republic Act (“R.A.”) No. 10963. The law contains
amendments to several provisions of the National Internal Revenue Code of 1997 (“Tax Code”) on
individual income taxation, passive income for both individuals and corporations, estate tax, donor’s
tax, value-added tax (“VAT”), excise tax, and documentary stamp tax (“DST”), among others.

Definition, Nature and Basis of Taxation


 Taxation is the process or means by which the sovereign, through its lawmaking body,
raises income to defray the necessary expenses of the government.

Taxation is the power by which the sovereign raises revenue to defray the expenses of the
government. It is a way of apportioning the cost of government among those who in some
measure are privileged to enjoy its benefits and must bear its burden.

 The collection of taxes remains one of the primary undertakings of any government in order
to provide sufficient funds with which a nation’s economy may be sustained and developed.

 The power to tax is an attribute of sovereignty. It is inherent in the State. As an incident of


sovereignty, the power to tax has been described as “unlimited in its range, acknowledging
in its very nature no limits, so that security against its abuse is to be found
only in the responsibility of the legislature which imposes the tax on the constituency who
are to pay it.

 The ultimate beneficiaries in the process are both the government and the citizens. The
state collects taxes in the exercise of its sovereign rights for the support of the government,
for the administration of the laws, and as a means for the continued operation of the various
legitimate function of the state

Objectives of Taxation
 Means of raising revenue for the government.
 It is also one of the major means by which the national government attempts to achieve
various economic and social objectives. These objectives includes:
a. Shifting wealth from the rich to the poor,
b. Maintaining price stability,
c. Stimulating economic growth, and
d. Encouraging full employment

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ERLINDA J.HIPOLITO, CPA, MBM
FUNAC 2

Definition of Taxes

A tax (from the Latin taxo; "rate") is a financial charge or other levy imposed upon a
taxpayer (an individual or legal entity) by a state or the functional equivalent of a state to
fund various public expenditures. A failure to pay, or evasion of or resistance to taxation, is
usually punishable by law. Taxes are also imposed by many administrative divisions. Taxes
consist of direct or indirect taxes and may be paid in money or as its labor equivalent. Few
countries impose no taxation at all, such as the United Arab Emirates and the kingdom of
Saudi Arabia.

Taxes
Taxes are enforced proportional contributions from persons and property levied by
the lawmaking body of the State by virtue of its sovereignty for the support of the
government and all public needs.

Nature of Taxes
1. It is a forced charge, imposition or burden. As such, taxes operate in invitum, which
means that it is in no way dependent on the will or contractual assent, express or
implied, of the person taxed. They are not contracts but positive acts of the government.
2. It is based on the taxpayer’s ability to pay. It is assessed in accordance with some
reasonable rule of apportionment, which means that conformably with the constitutional
mandate on progressivity of a taxing system, taxes must be based on ability to pay.
3. It is generally payable in money. Unless qualified by law, the term “taxes” or “tax” is
usually understood to be a pecuniary burden – an exaction to be discharged alone in the
form of money which must be in legal tender.
4. It is imposed by the State on persons, property or excises within its territorial jurisdiction
applying the principles of territoriality. The object to be taxed must be subject to the
jurisdiction of the taxing state. This is necessary in order that the tax can be enforced.
5. It is levied by the lawmaking body

Essential Characteristics of a Tax


1. It is an enforced contribution
2. It is levied by the lawmaking body
3. It is proportionate in character
4. It is generally payable in money
5. It is imposed for the purpose of raising revenues
6. It is be used for public purpose

Classification of Taxes
1. As to subject matter or object
a. Personal, poll or capitation – imposed on person residing within a specified territory
without regard to their property or occupation
Ex. Community tax
b. Real Property. Ex. Property tax
c. Excise (privilege)-imposed upon the performance of an act, enjoyment of privilege, or
engaging in an occupations. Ex. Estate tax, donor’s tax, income tax, VAT

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2. As to who bears the burden


a. Direct tax. Ex. Community tax, income tax, estate tax, donor’s tax
b. Indirect tax- ex. Custom duties, VAT, percentage taxes
3. As to determination of amount
a. Specific- fixed amount by the head, number or some standard of weight or
measurement
Ex. Tax on distilled spirits, fermented liquors, cigars, wines, fireworks, etc
b. Ad valorem- fixed proportion of the value of property with respect to which tax is
assessed
Ex. Property tax, certain customs duties, excise taxes on cigars, wines, fireworks,
4. As to purpose
a. General, fiscal or revenue- ex. Income tax, VAT
b. Special or regulatory – Ex. Customs duties, sugar adjustment taxes

5. As to imposing authority
a. National- imposed by national government
Ex. Internal revenue taxes, customs duties, estate and donor’s taxes,
VAT, other percentage taxes, documentary stamp tax
b. Municipal or local- Ex. Sand and gravel, Occupation tax or professional tax, real property
tax, community tax, tax on banks and other financial institutions
6. As to graduation or rate
a. Proportional-based on fixed percentage of property, receipts or other basis to be taxed.
Ex. VAT, percentage tax, donor’s tax, estate tax
b. Progressive- rate increases as the tax base increases. Ex. Income tax
c. Regressive- the rate decreases as the tax base increases

Individual taxpayers are categorized into citizen and alien. Income tax will depend on
the kind of taxable income of the taxpayer.

Persons subject to the individual income tax


For income tax purposes, individual taxpayers are classified into:
a. Citizen

(1) Resident citizen - is a citizen of the Philippines who has a permanent home or
place of abode in the Philippines to which he/she intends to return whenever he/she
is absent for business or pleasure.

(2) Nonresident citizen - is a citizen of the Philippines who establishes the fact of
his/her physical presence abroad with the definite intention to reside therein and
shall include any Filipino who leaves the country as immigrant (one who leaves the
Philippines to reside abroad as an immigrant for which a foreign visa as such has
been secured), permanent employee ( one who leaves the Philippines to reside
abroad permanently for regular employment), and contract worker (one who leaves
the Philippines on account of a contract of employment which is renewed from time
to time during the taxable year as to require physical presence abroad for an
aggregate period of one hundred eighty (180) days or more during such taxable
year).
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b. Alien

(1) Resident alien - is an individual who is not a citizen of the Philippines but whose
residence is within the Philippines.

(2)Nonresident alien: is an individual who is not a citizen. A nonresident alien is


deemed engaged in trade or business in the Philippines if he/she has stayed in the
Philippines for an aggregate period of more than 180 days during any calendar year

(a) Engaged in trade or business in the Philippines - taxed similarly as a


resident citizen on incomes from sources within the Philippines.

(b) Not engaged in trade or business in the Philippines - taxed on gross


income from all sources within the Philippines.

(c) Employed by regional or area headquarters and regional operating


headquarters of multinational corporations, offshore banking units, or
service contractors or subcontractors engaged in petroleum operations in the
Philippines - taxed on gross income derived from such employment.

Income subject to tax


The incomes of individuals are grouped into different categories, to wit:
a. Compensation income, consists of income arising from employer-employee
relationship such as salaries, wages, emoluments and honoraria, commissions, taxable
bonuses and fringe benefits, taxable allowances (such as transportation, representation,
entertainment, and the like)6, non-monetary compensation, director’s fees and the like,
taxable pensions and retirement pay, amounts drawn as salaries by partners of a
partnership and other incomes of a similar nature unless specifically exempted by the
Tax Code.

b. Business income and income from profession, consists of business and/or trade
income, fees from the exercise of profession, gains from sale or exchange of assets,
commissions, rental income, and other incomes not covered by compensation income.

c. Passive income and other sources of income, consist of interest from foreign and
Philippine currency bank deposits (including yields and other monetary benefits from
deposit substitutes and trust fund and similar arrangements), royalties, prizes and other
winnings, and dividends. The other sources of income include capital gains from sales
of shares of stock, sales of real property, informer’s rewards, etc.

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TAX RATES

1. New Personal Income Tax Rates on Individual taxable income

Effective 1 January 2018 (Personal Income Tax Rate)

Not over P250,000 0%


Over 250,000 but not over 400,000 20% of the excess over PHP250,000
Over 400,000 but not over 800,000 30,000 + 25% of the excess over 400,000
Over 800,000 but not over 2,000,000 130,000 + 30% of the excess over 800,000
Over 2,000,000 but not over 8,000,000 490,000 + 32% of the excess over 2,000,000
Over 8,000,000 2,410,000 + 35% of the excess over 8,000,000

2. Lower Tax Rates for Professionals


With the revised personal income tax table, salaried employees will surely benefit from
the lower tax rate. Self-employed professionals, meanwhile, can expect to pay lower
taxes as well with the reduced tax rates for professionals, as follows:

ANNUAL SALES OR
TAX RATE
GROSS RECEIPTS

P250,000 and below 0%

P500,000 and below Exempt from 3% Percentage Tax

Below P3 million May choose either 8% flat tax on gross receipts and
non-operating income in excess of P 250,000
Or follow personal income tax table

Above P3 million Subject to personal income tax table

3. Corporate Tax- 30% of the taxable income

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How is Income Tax payable of individuals (resident citizens and non-resident


citizens) computed?
P _________
Gross Compensation/Salary
Multiply by Tax Rate (Personal Income tax rate)

Gross Income from business


P ___________
Less: Allowable expenses ( ___________)
Net Income / Taxable Income P ___________
Multiply by Tax Rate (Personal Income tax rate) ____________
Income Tax Due: Tax withheld (per BIR From 2316/2304) P ___________
Income tax payable P____________

Using the 8% rate


Gross Annual gross receipt on sales P________
Multiply by 8% 8%
Income tax due P________

How is a Corporation taxable?


Sales P _____
Less: Cost of Sales (______)
Gross income ______
Less: Allowable expenses (______)
Net Income/Taxable Income P______
Multiple by 30%
Income tax due P______

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Republic Central Colleges


Angeles City
Activity on Taxation

1. Ms. EBQ operates a convenience store while she offers bookkeeping services to her clients. In
2018, her gross sales amounted to P 800,000 in addition to her receipts from bookkeeping
services of P 300,000. She already signified her intention to be taxed at 8% income tax rate in
her 1st quarter return. Compute the tax due

2. Ms. EBQ on #1 failed to signify her intention to be taxed at 8% income tax rate on gross sales
in her initial Quarterly income tax return, and she incurred cost of sales and operating expenses
amounting to P 600,000 and P200,000 respectively, or total of P 800,000. Compute the
income tax due

Note: The option to be taxed at 8% income tax rate is not available to a VAT-Registered taxpayer,
regardless of the amount of gross sales/receipts, and to a taxpayer who is subject to Other
Percentage taxes under the Tax Code.

3. An individual, married and one dependent child, has the following income and
expenses during the year 2018:
Compensation income, Philippines P 1,500,000
Gross income, Philippines 2,000,000
Gross income USA 4,000,000
Gross income, Singapore 2,500,000
Expenses, Philippines 1,200,000
Expenses, USA 1,300,000
Expenses, Singapore 880,000

Compute income tax due if the taxpayer is – a) resident citizen ; b) non resident citizen c) non-
resident alien-ETB and d) non resident alien -NETB

4. An individual, married and one dependent child, has the following income and
expenses during the year 2018:
Gross income, Philippines 2,000,000
Gross income USA 4,000,000
Gross income, Singapore 2,500,000
Expenses, Philippines 1,200,000
Expenses, USA 1,300,000
Expenses, Singapore 880,000

Compute income tax due if the taxpayer is – a) resident citizen ; b) non resident citizen c) non-
resident alien-ETB and d) non resident alien -NETB

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5. Malaysia Corporation , a domestic corporation, in it has the following information for taxable
year 2018:
Gross income P 6,000,000
Expenses 800,000

Compute: Income tax due

6. Ms. Cruz, a self employed businesswoman, earned in 2018 P 2,500,000 gross income from
sales, expenses-P 900,000.

Compute Ms. Cruz income tax due for 2018

7. Mr. Bollado, regular employee, had the following annual income in 2018:
Compensation income P 450,000
Overtime 65,000

Compute income tax due

8. Mr. Santos, Married and with one child, has the following information for 2018:
Compensation of P 59,000 per month

Compute income tax due

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Business Tax

Business Structures to find out which returns you must file based on the business entity
established.

In the Philippines, there two kinds of business taxes, namely Value added tax and
percentage tax

Types of Business Taxes

 Value-Added Tax is a form of sales tax. It is a tax on consumption levied on the


sale, barter, exchange or lease of goods or properties and services in the
Philippines and on importation of goods into the Philippines.

Rate- 12% on gross receipt on sales that exceeded P 3,000,000

 Percentage Tax is a business tax imposed on persons or entities who sell or lease
goods, properties or services in the course of trade or business whose gross annual
sales or receipts do not exceed P 3,000,000 (2018) and are not VAT-registered

Rate- 3% of Gross receipt on sales

Thank you

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REFERENCES

Reference book:

1. Abitang, Philip T. (2014) Basic accounting for non-accountants: Manila:


Mindshapers Co. Inc.,
2. Ampongan, O. (2015). Fundamentals of Accounting. Manila: Conanan
Educational Supply.
3. Ballada, Win Lu and Ballada, Susan. ( 2015). Income Taxation. Manila; Made
Easy Book Publishing Company
3. Binuya, M. V. ( 2016). Fundaments of Accountancy, Business and Management.
Manila: JFS Publishing Services
4. De Belen, R. (2016). Fundamentals of Accounting: Wiseman’s Book Trading, Inc.
Manila
5. Florendo, J. (2016). Fundaments of Accountancy, Business and Management 1.
Manila: Rex Bookstore.
4. Frias, S and Pefianco, E. (2016). Fundaments of Accountancy, Business and
Management: A textbook in Basic Accounting 1. Quezon City: The Phoenix
Publishing House Inc.
5. Salazar, D. ( 2016). Fundamentals of Accountancy, Business and Management
part 2. Manila: Rex Bookstore.
6. Valix, Conrado T., Peralta, Jose F. and Valix, Christian. (2019). Intermediate
Accounting, Vol. 3. Manila; CIG Enterprises Company

Website reference:

Accounting simplified. Retrieved on May 1, 2019 from http://accounting-


simplified.com
Financial Ratio. Retrieved on May 8, 2019 from http://www.cpaclass.com/fsa/ratio-
01a.htm
Financial Ratio. Retrieved on May 9, 2019
fromhttp://www.myaccountingcourse.com/financial-ratios/working-capital-ratio
Financial Statements. Retrieved on April 25, 2019 from http://accounting-
simplified.com/financial/statements/types.html
Statement of Stockholders’ Equity. Retrieved on May 30, 2019 from
https://www.principlesofaccounting.com/chapter-14/stockholders-equity/
Statement of Stockholders’ Equity. Retrieved on May 30, 2019 from
https://xplaind.com/969555/changes-in-shareholders-equity
Yase, J. (2015). 7 Kinds of Financial Forms for Business Transactions Retrieved on June 1,
2019 from http://foundersguide.com/7-kinds-financial-forms/

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