This is part 4 in our series of the Introduction to Financial Accounting
terms, principles, and the accounting equation. And in this part we're going to
be looking at the financial statements and what makes up those financial
statements and how those financial statements are related. So let's first
look at the income statement. The income statement is the first statement you
have to create, and there's a reason for that, and we'll see that in just a second.
But we're looking at Smart Touch Learning Incorporated. So the first thing
I want us to take a take note of is the title. The title of the statement is
imperative so that your readers know what statement they're looking at. So
let's look at the parts of the title. The first thing in the title is the name of
the company. Underneath the name of the company comes the name of the financial
statement, in this case, the income statement. And then the third line of the
title is the time period covered. Now you'll see with the income statement it
actually is a period of time. For example in this one it's the month ended April
30th, 2010. It could be quarter ended. It could be year ended, but note that the
income statement is for a period of time. Now let's look at the parts of the
income statement. The income statement contains two parts: the revenues and
expenses. You subtract your expenses from your revenues to get net income or net
loss if expenses exceed the revenues. Revenues cause increases in retained
earnings from delivering goods and services to customers. Expenses cause
decreases in retained earnings resulting from operations. So if we subtract our
expenses in this case from our revenues we do get a net income because our
revenues exceed our expenses. So we get net income of $5,200. Well now
let's look at the statement of retained earnings. Again look at the title here.
Three lines in the title. Very similar to the income statement title.
The statement of retained earnings also covers a period of time, for example
month ended in this case. It could be quarter ended, year ended. But it's a
period of time . Now look how these two statements are related. We calculated net
income in the income statement above of $5,200. Remember retained earnings is
affected by net income , and you can see how in this statement of retained
earnings. So we take our net income from the income statement and bring it down
to the statement of retained earnings. We add that to our beginning retained
earnings, then subtract our dividends. Remember dividends is not an expense,
that's why it does not appear on the income statement, dividends is just a
payment to our owners for their investment, it's not an expense. It
reduces the retained earnings, the owners claims on the assets, part of owner's
equity. So once you subtract dividends, you're left with your ending
retained earnings, in this case $3,200.
The third financial statement we will produce is the balance sheet. Now
something you should see very familiar about the balance sheet is that's the
accounting equation: assets equal liabilities plus stockholders equity.
So the $3,200 that we got in our ending retained earnings from the statement of
retained earnings, we will move down to the stockholders equity section in our
balance sheet as our retained earnings amount. Then we add up all of our assets.
All our assets should equal our liabilities plus our stockholders equity.
And in this case it does. One thing I want you to pay particular note to is
the title of the balance sheet. The balance sheet is kind of an oddball when
it comes to the title of the statement. Very similar but notice the
date. It is not for a period of time, it's as of a specific day in time. So the
balance sheet is a snapshot of a company's financial position. So what are
the assets as of today?
What are our liabilities as of today? It doesn't cover
a period of time, it's as of this date in time. The fourth and final financial
statement is called the statement of cash flows. Notice its title is
exactly like the income statement in the statement of retained earnings. Again the
balance sheet is the only oddball. It's the only one that does not cover a
period of time. The statement of cash flows contains three sections. The
operating activities section, the investing activities section, and the
financing activities section. And those three sections combined gives you your
net increase or decrease in cash. In this case we have a net increase in cash of
$19,900. Notice our beginning cash balance down at the bottom, as of April
the 1st, 2010, was 0. If you add your beginning cash to the net increase in
cash, you get your ending cash balance as of April the 30th , 2010,
of $19,900. If you note you have a check figure for this statement, that $19,900
is exactly the cash amount that appears on the balance sheet. That's your ending
cash balance.