Chapter 7

Preparation of a Sole Trader’s

Financial Statements

Two of the Most Important Financial Statements

There are two main reports prepared for sole traders. These are the:

• The Income Statement (also called a Trading and Profit and Loss Account)

• The Balance Sheet

Two of the Most Important Financial Statements

An income statement is used to determine whether a firm made a profit or loss for a particular period. The money used up in generating revenue is deducted from money earned.

In a balance sheet, the firm presents its assets, liabilities, and capital. It shows the worth of the organisation at a particular point

A typical Income Statement

G. Trench

$000 $000 $000Sales 116751

251Net Sales 116500

10002225015001120

226301500 22130

94370

2002500

97070ExpensesUtilities 6256Salaries 48000

150 5440642664

Discounts receivedInvestment income earned

Loan interestNet Income

Net purchasesClosing stockGross ProfitOther Income

Opening stockPurchasesCarriage inwardsPurchases returns

Income statementFor the year ended 31 March, 2007

Sales returns

Cost of sales

A Typical Income Statement: Gross Profit Calculation

Gross profit = Net Sales - Cost of sales

Net Sales =Sales - returns inwards (goods returned by customers)

Cost of Sales =Opening stock + Net purchases -Closing stock

Net purchases =Purchases + Carriage inwards (the cost of bringing goods to our premises) - Returns outwards

A typical Income Statement: Net Profit Calculation

Net profit =Gross profit + Other revenue earned - Expenses

A typical Balance Sheet

G. Trench

$000 $000 $00098000

Machines 10800108800

Inventory 1500Debtors 3000

12000Bank 42069Cash 500

59069

Creditors 1000750 1750 57319

166119

Bank loan 3750162369

14470542664

Drawings 25000162369At end of the period

Long term liabilities

Owner's equityAt start of the periodNet income

Current assets

Short term investments

Current liabilities

Bank overdraft

Balance sheetas at 31 March, 2007Fixed assetsLand and building

A Typical Balance Sheet: Presentation of Working Capital

Working Capital= Total Current Assets – Total Current Liabilities

Working capital tells the owner the extent to which he can pay amounts due within a few weeks or months.

A Typical Balance Sheet: Presentation of Working Capital

Current assets $ $

Inventory 1500Short term investments 12000Bank 40000Cash 500 54000Current liabilitiesBank overdraft 750 53,250

Capital and Revenue Expenditure

It is very important to know the difference between capital expenditure and revenue expenditure.

Capital expenditure is any spending on fixed assets, whether that is to purchase new fixed assets or to extend fixed asset lives.

Revenue expenditure is any spending on goods and services that facilitate daily business operations.

Capital and revenue expenditure

Capital Expenditure Revenue Expenditure

Purchase of motor vehicles Maintenance costs of motor vehicles (e.g. gasoline, oil, minor repairs)

Installation of a new engine in a motor vehicle Costs of changing spark plugs

Purchase of new computers Costs of cleaning computers

Testing and installation of new computers Costs of regular testing and maintenance of computers

Purchase of a warehouse to be used for the storage of computers in a firm that sells computers

N.B. This will apply to manufacturers and retailers of computers.

Purchase of computers for sale to customers. N.B. This will apply to retailers of computers.

Acquisition cost of land Regular cutting and clearing of grass on acquired land

Purchase of new building Electricity, water, and telephone rates; regular cleaning, repairs and painting of a building