If revenues were higher than expenses, the business had net income for the period. If expenditures were greater than the revenues, the business experienced a net loss for the period. Your statement of retained earnings is the second financial statement you prepare in your accounting cycle.
(There would be more, but we will just use five for the example.) These are posted to the ledgers on the right. The running balances of Rent Expense and Wages Expense as of 6/30 are a $500 debit and a $300 debit, respectively. These three amounts would be reported on the income statement in arriving at a net income of $1,300 for June. The goal of journalizing, posting to the ledgers, and preparing the trial balance is to gather the information necessary to produce the financial statements.
4.4 Closing Entries
This financial statement shows a company’s total change in income, even gains and losses that have yet to be recorded in accordance to accounting rules. The cash flow statement (CFS) measures how well a company generates cash to pay its debt obligations, fund its operating expenses, and fund investments. The cash flow statement complements the balance sheet and income statement. Examples of accounts that often require an adjustment include wages payable, accumulated depreciation and prepaid office supplies. After the needed adjusting entries are completed, all the accounts are included in the adjusted trial balance. Last but not least, use all of your financial data from your other three statements to create your cash flow statement.
When the next accounting period begins, the beginning balances of the temporary accounts are zero, for a fresh start. You have just learned about the income statement—the accounts it displays and its format. We will hold off for now on the other three financial statements— the retained earnings statement, the balance sheet, and the statement of cash flows —and learn about those later. The statement of cash flows shows the cash inflows and cash outflows from operating, investing, and financing activities. Operating activities generally include the cash effects of transactions and other events that enter into the determination of net income. Management is interested in the cash inflows to the company and the cash outflows from the company because these determine the company’s cash it has available to pay its bills when due.
Statement of Cash Flows
The period we are now referring to is the month of July in this example. However, June’s revenues and expenses are still included in the balances in the ledgers. Closing entries on 6/30 here would have avoided this situation but were omitted, so the July balances erroneously contain amounts from June as well. Closing entries transfer the balances from the revenue and expense accounts into Retained Earnings in preparation for the new month. The financial statements are the goal of all that is done in the accounting cycle. However, there are some steps that need to be taken once those reports are completed to set up the ledgers for the next cycle.
The statement of cash flows shows the cash inflows and outflows for a company over a period of time. The purpose of closing entries is to set the balances of income statement accounts back to zero so you can start fresh and begin accumulating new balances for the next month. This process ensures that the balances on the second month’s income statement do not include amounts from transactions in the first month. The three main types of financial statements are the balance sheet, the income statement, and the cash flow statement. These three statements together show the assets and liabilities of a business, its revenues and costs, as well as its cash flows from operating, investing, and financing activities.
Types of Footnotes to the Financial Statements
For example, assets include cash, accounts receivable, property, equipment, office supplies and prepaid rent. Liabilities include accounts payable, notes payable, any long-term financial statements are typically prepared in the following order debt the business has and taxes payable. The balance sheet, lists the company’s assets, liabilities, and equity (including dollar amounts) as of a specific moment in time.
- By 6/30, the two Accounts Payable entries negate one another (one credit and one debit to the same account for the same amount), resulting in a zero balance in that account on 6/30.
- Financial statements are compiled in a specific order because information from one statement carries over to the next statement.
- The statement of cash flows shows the cash inflows and outflows for a company over a period of time.
- The statement of retained earnings – also called statement of owners equity shows the change in retained earnings between the beginning and end of a period (e.g. a month or a year).
- The financial statements are the goal of all that is done in the accounting cycle.
- In short, changes in equipment, assets, or investments relate to cash from investing.
Both amounts are posted to their respective ledgers, as is shown in the following example. Other income could include gains from the sale of long-term assets such as land, vehicles, or a subsidiary. Use the formula above to help calculate your retained earnings balance at the end of each period. Often, the footnotes will be used to explain how a particular value was assessed on a specific line item.