Financial Statement of Companies

FINANCIAL STATEMENTS OF A COMPANY


Meaning of financial statements statements:: Final accounts are the final product of accounting work done during the accounting period period i.e. quarterly, quarterly, half yearly or annually annually.. By this the accountin accounting g informa information tion is communicated to the external users. It includes two basic financial statements namely: namely: (i) Profit and Loss Accoun countt (ii) Balance Sheet. Although the general principles of preparing the final accounts of joint stock companies are the same as in the case of the sole proprietorship or partnership firms, but in addit addition ion to these these princi principle ples, s, a joint joint stock stock compan company y must must confir confirm m to certai certain n legal legal provisions as given in the Indian Companies Act 1956. Every Every compan company y must must prepa prepare re final final accoun accounts ts every every year year. At every every annual annual genera generall meeting of a company, the Board of Directors of the company shall lay before the company (a) a Balance Sheet as at the end of period (b) a Profit and Loss Account for that period. In case, a company is not carrying on business for profit, an Income and Expenditure Account shall be laid before the company at its annual general meeting instead Profit and Loss Account. The report of Auditor and Board of Directors should be attached to every Profit and Loss Account and Balance Sheet. Enterprises having a turnover in excess of Rs. 50 crores have to attach Cash Flow Statement and Segment Report with the annual accounts. A Balance Sheet is a statement of assets and liabilities indication the financial position of an enterprise at a given date. A Prof Profit it and Loss Loss Accou Account nt shows shows the net resul resultt of busine business ss opera operatio tions ns during during an accounting period. A Profit and Loss Appropriation Account shows how the profit for the year has been distributed or appropriated. appropriated. Schedu Schedules les have have the detai details ls of amount amounts s in the the Balan Balance ce Sheet Sheet and Prof Profit it and Loss Loss Accou Account, nt, while while the notes notes are are the statem statement ents s of accoun accountin ting g polic polices es adopte adopted d and explanation of material information. Application of Schedule VI of the Companies Act: The form and contents of Balance Sheet and Profit and Loss Account are governed by Section 211 of the Companies Act, 1956. Section 211 (1): According According to this section every Balance Sheet must give true and fair view of the state of affairs of the company as at the end of the financial year and to be in the form set out in Part I of Schedule VI or as near thereto as circumstances permit or in such form as may be approved by the Central Government. Section 211 (2): According to this section every Profit and Loss Account must give

true and fair view of the profit or loss of the company for the financial year and shall comply to with the requirement of Part II of Schedule VI, so far they are applicable. Note: It must be noted here that Schedule VI has prescribed a form in which Balance

Sheet is to be prepared; it has not prescribed any form for Profit and Loss Account. The Companies Companies Act, Act, 1956 1956 has not recogn recognised ised Trading rading Account Account and Profit Profit and Loss Loss Appropriation Account, yet there is no bar to prepare these accounts. It is so because Schedule VI has not prescribed any form for Profit and Loss Account. But, it must be remembered that the Trading Account, Profit and Loss Account and Profit and Loss Appropriation Account must comply with the requirements of Part II of Schedule VI of Companies Act, 1956.

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Balance Sheet: In the simplest form, a Balance Sheet may be defined to be a statement of company’s assets and liabilities as on a particular date. The assets of the company, fixed assets and current assets, are represented by the liabilities, long-term liabilities and shortterm liabilities, and the share holders equity, i.e., paid up share capital and reserves. Name of the Company Balance Sheet as at _________ Liabilities Share Capital

R s.

Authorised Capital ____ shares of Rs. ____ each

Forfeited Shares Calls-in-advance

Assets Fixed Assets Investments

xx

Issued Capital ____ shares of Rs. ____ each Subscribed Capital ____ shares of Rs. ____ each (Rs. ____called up / fully called up) Less: Calls unpaid (a) By Dire Directo ctors rs (b) (b) By Oth Other ers s

Rs.

xx

Current Assets and Loans & Advances (a) (a) Curre Current nt Assets Assets (b) Loans Loans & Advances Advances

xx

Miscellaneous Expenditure

xx ( xx) ( xx)

xx

Profit and Loss Account (Debit balance)

xx xx

xx xx xx

xx

Reserves and Surplus

xx

xx xx

Secured Loans Unsecured Loans Current Liabilities & Provisions (a) Current Current Liabilitie Liabilities s (b) Provi Provisio sion n

Total

xx xx

xx

Total

xx

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Items appearing in the Liability side: Share Capital: The word capital in connection with a company may mean any of the following divisions of capital: Authorised capital: An authorised capital refers to that amount which is stated in the 1) ‘Capital Clause’ of the Memorandum of Association as the share capital of the company. company. This is the maximum limit of the company which it is authorised to raise and and beyo beyond nd whic which h comp compan any y cann cannot ot rais raise e unle unless ss the the capi capita tall clau clause se in the the Memor Me moran andum dum is alter altered ed in accor accordan dance ce with with the prov provisi ision ons s of Sec. Sec. 94 of the Companies Act, 1956. Issued capit capital: al: An issu 2) issued ed capi capita tall refer efers s to the the nomi nomina nall valu value e of that that part part of authorised capital, which has been (1) subscribed for by the signatories to the Memorandum of Association, (2) allotted for cash or for consideration other than cash and (3) allotted as a s Bonus shares. Subscribed Subsc ribed capita capital: l: Subscr 3) Subscribe ibed d capita capitall refe refers rs to the paid-u paid-up p value value of the issued issued capital i.e. the total amount called by the company less calls-in-arrear. It is only the actual liability for the company hence it will be only be added while totalling the liability side. Reserves and Surplus: (i) Capital Capital Reser Reserve: ve: It It includes includes amount amount which which are are not earned earned during during normal normal opera operation tion of business, therefore the amount of such reserve is not available for distribution as dividend, e.g., profit prior to incorporation of a company, profit on acquisition of business, profit on sale of fixed assets, profit remaining on re-issue of forfeited shares, profit on redemption of shares and debentures, profit on revaluation of fixed assets and liabilities, premium of issue of shares and debentures.

(ii) (ii)

Capi Ca pita tall Red Redem empt ptio ion n Res Reser erve ve..

(iii) (iii) Secur Securiti ities es Premi Premium um Accoun Account. t. (iv) (iv) Othe Otherr Reser eserve ves: s: Natu Naturre and and amou amount nt if ea each ch reser eserve ve shou should ld be explai plaine ned d separately. If there is any debit balance in profit and loss account, it should be deducted from the General Reserve. (v)

Surplus: Surplus: It It refers refers to to the cred credit it balance balance of Profit Profit and Loss Loss Appr Appropri opriatio ation. n.

(vi) (vi) Propo Propose sed d additi additions ons to to Rese Reserve rves. s. (vii (vii)) Sink Sinkin ing g Fun Fund. d. Secured Loans: If the company borrows loans secured by or mortgage or charge on all or any of its assets, the loan is termed as ‘Secured Loan’. Interest accrued and due on such loan is also termed as secured hence shown under this heading. Short term and long term loans should be shown separately. Unsecured Loans: If the company borrows loans without giving any security, the loan is termed as ‘Unsecured Loan’. Under this head ‘Unsecured Loan’ as well as the part of secured loan which is not covered by the value of security provided are included. Short term and long term loans should be shown separately. Current Liabilities: These are those liabilities which are payable within the period of 12 months from the closure of last accounts.

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Provision: The term ‘Provision’ refers to any of the following amounts: (i) The The amount amount writt written en off or or retain retained ed by way way of provid providing ing depr depreci eciat ation ion,, renew renewals als or diminution in the value of assets; or (ii) (ii) The The amou amount nt retai retaine ned d by way of prov provid idin ing g for for any any know known n liab liabil ilit ity y of which which the the amount cannot be determined with substantial accuracy. Contingent Liabilities Contingent Liabilities:: Thes These e are are such such liab liabil ilit itie ies s whic which h are are not not liab liabili ility ty for for the the busine business ss on close close of accoun accounts, ts, but may or may may not not becom become e liabil liability ity in futur future e on happening of certain event. It will never be shown in the liabilities side. These are always always stated stated as footfoot-not note e on the liabil liabiliti ities es side. side. Fo Follo llowin wing g are are the exam example pled d of contingent liabilities: (i) Claims Claims agains againstt the the compa company ny not not ackno acknowle wledge dged d as debts. debts. (ii) (ii) Uncal Uncalled led liabil liability ity on partly partly paid paid shar shares. es. (iii) Arrea Arrears rs of dividends dividends on on cumulativ cumulative e prefer preference ence shar shares. es. (iv) Other Other money money for which which the the compan company y is continge contingently ntly liable. liable. (v) (v) Bills Bills disc discou ount nted ed but but not not mat matur ured ed.. (vi) (vi) Liabil Liabiliti ities es under under a guar guarant antee ee..

Items appearing in the assets side: The various assets shown under different headings in the Balance Sheet of a company include: Fixed assets: Relevant information to be given regarding such assets are: (i) As far far as possi possible ble,, differ different ent asse assets ts shou should ld be show shown n separa separate tely ly.. (ii) Regarding egarding every every fixe fixed d asset, asset, it is necessa necessary ry to show show its its original original cost cost and additi additions ons (purchase) thereto and deductions (sale) there from during the year and the total depreciation written off or provided in it up to the end of the year. Investments: Investments by nature are fixed. Schedule VI of Companies Act, 1956 requires following details to be given with respect to investments: 1) Inve Invest stme ment nts s ar are cate catego gori rise sed d into into:: (a) (a) Invest Investmen mentt in Gover Governme nment nt and and trust trust secur securiti ities es;; (b) Investme Investment nt in shares, shares, debenture debentures s and bonds bonds of various various compa companies; nies; (c) Investme Investment nt in shares, shares, debenture debentures s and bonds bonds of subsidiar subsidiary y compani companies; es; and and (d) (d) Inve Invest stme ment nt in fix fixed asse assets ts..

2) 3)

It is neces necessar sary y to disclo disclose se the the nature nature (lon (long g term term or curre current) nt) and and mode mode of valua valuatio tion n of every investment. It is neces necessa sary ry to discl disclos ose e the total total amou amount nt of compa company ny’s ’s quote quoted d and and unqu unquot oted ed investments and market market value of quoted investments in the Balance Sheet.

Current assets and Loans & Advances: These should be divided into two parts: 1) Current Assets 2) Loans an and Ad Advances Miscellaneous Expenditure: It includes those items which are not really assets but Miscellaneous are are recor recorded ded in the assets assets side side becaus because e it shows shows debit debit balan balance, ce, hence hence are are called called fictitious assets. The amount of miscellaneous expenditure expenditure which is written off this year is shown on the debit side of Profit and Loss Account and the unwritten off portion is shown in the Balance Sheet under this head. This includes the followings: (i) Prelim liminar inary y expens pense es. (ii) (ii) Expen Expenses ses includ including ing commiss commission ion or brok brokerage erage on underw underwrit riting ing or subscrip subscriptio tion n of share or debentures. (iii) Discount Discount allowed allowed on on issue issue of of shares shares or or debentu debentures res.. (iv) Intere Interest st paid paid out out of of capital capital during during constru construction ction..

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(v) (v) Deve Develop lopme ment nt expend expenditu iture re not adjus adjusted ted.. (vi) (vi) Other Other sums sums,, specif specifyin ying g the natur nature. e. Profit and Loss Account (Debit balance): If there is net loss in a company and other reserves is given, then first of all such loss will be deducted from such reserves and if such reserve is not given or the amount of reserve is not sufficient to cover the total amount of loss then the balance amount of net loss will be shown under this head.

Explanation of some specific terms: Provision: The term ‘Provision’ refers to any of the following amounts: (iii) The amount amount written written off or retai retained ned by way of provid providing ing depreciat depreciation, ion, renewa renewals ls or diminution in the value of assets; or (iv) (iv) The The amou amount nt retai etaine ned d by way way of provi providi ding ng for for any any know known n liab liabil ilit ity y of which which the the amount cannot be determined with substantial accuracy. If the amount of liability can be ascertained with substantial accuracy, or is set aside out of profit for any known liability, it is termed as liability. Following are the examples of provisions: (i) Provision for Bad and Doubtful (v) Provision for Fluctuation in Debts. Investments. (ii) (ii) Provi rovisi sion on for for Dis Disco coun untt on Debt Debtor ors. s. (vi) (vi) Prop Propos osed ed Divi Divide dend nd.. (iii) (iii) Prov Provisi ision on for for Taxatio axation. n. (iv) Provis Provision ion for Repairs epairs and and Renewals. enewals. Reserves: Reserv eserve e means means amoun amountt set aside out of prof profit, it, to meet meet out either either an expected or an unexpected future liability or loss. I other words any amount set aside out of profit and other surpluses, which are not earmarked (assign) in any way to meet any particular particular liability, liability, known known to exist on date of the Balance Sheet. Sheet. It is provide provided d for meeting prospective losses or liabilities, creation of reserves to increase the working capital in the business and strengthen its financial position. Provision in excess of the amount considered necessary for the purpose for which it was created is treated as reser reserve. ve. Exampl Examples es of reser reserves ves are are Genera Generall Reserve eserves, s, Ca Capita pitall Reserv eserve, e, Divid Dividend end Equalisation Reserves, and Contingency Reserves etc. Characteristics of Reserves: Reserves have got the following special features:

(i)

They They are are appropr appropriat iated ed out out of profit profits. s. When When there there is no profi profit, t, no rese reserve rve may may be created. (ii) Reserves eserves are are crea created ted to stre strength ngthen en the financi financial al positio position n of the the concern concern.. (iii) Reserves eserves are are not earmark earmarked ed in any way to meet meet any liability liability or diminutio diminution n in the value of assets. (iv) If the amount amount of reserv reserves es is invested invested outside outside the busines business s in securities, securities, it is called called the (Name of reserve) Fund. (v) (v) Since Since a reser reserve ve is a part of prof profit, it, hence hence the propr propriet ietor or has claim claim over over it. He may may use it in any manner he likes. Importance or Purpose of Reserves:

The purpose, for which the amount is so set aside, may be any one of the following: (i) To strengthening the financial position: Improvement Improvement of the financial position of the business by keeping back a portion of profits and thus conserving the resources which would have otherwise been distributed to the owners. (ii)

Meeting Meeting future future unantici unanticipate pated d loss: loss: Arrange Arrangement ment for meeting meeting unfores unforeseen een abnormal losses irrespective of their nature.

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(iii) Normal rate of dividend: Equalisation of dividend by allowing its balance to be drawn upon during periods of inadequate profits. (iv) Fulfilling some specific purpose: Sometimes, a reserve is created for a specific purpose such as ‘Debenture Sinking Fund’ for redemption of debentures. Types of Reserves: Basically there are two types of reserves, viz., Open Reserves and

Secret Reserves.

Open Reserves: These are the reserves which are shown in the Balance Sheet under the heading ‘Reserve and Surplus’. These are of following two types: 

Revenue Reserves: The reserve which is created setting aside the amount out of the net profit of the business (profit which is earned in normal course of the busi busine ness ss)) is know known n as reven evenue ue reser eserve ve.. Ther Theref efor ore, e, the the reven evenue ue reser eserve ves s represent the undistributed profits and as such are available for the distribution as dividend. General reserves: A general reserve is that reserve which is created out of profits to meet any unforeseen contingency and not for any specific purpose. Such reserve is also called ‘Contingencies Reserve’ Reserve’ or ‘Free ‘Free Reserve’ Reserve’ because it is not created for specific purpose and can be freely used for any purpose. It serves the following purposes: (i) To be distributed distributed as dividend among among the shareholders. shareholders. (ii) Strengthening Strengthening the general financial financial position of a business. (iii)Maintaining equal rate of dividend every year. year. (iv)Aid to expansion of a business. (v) Meeting a future liability liability or loss. loss. Creation of reserve is not compulsory; it depends on the willingness of the owner of the business or its directors. It is always shown on the liabilities side of the balance sheet because it is created out of the profit. •

•

Specific Reserve: Such reserves are created out of the profit of the business but are created for a specific purposes and the amount of such reserves

6


cannot cannot be utilis utilised ed for any other other purpos purpose. e. If there there is amount amount left in such such rese reserve rve after after the purpos purpose e has been comple completed ted then then that that amoun amountt will will be transf transfer erre red d back back to the profi profits. ts. Exampl Examples es of such such reser reserves ves are are Divide Dividend nd equa equali lisa sati tion on rese reserv rve, e, Reser eserve ve for for repla eplace ceme ment nt of asse assets ts,, Debe Debent ntur ure e redemption reserve.

•



Funds: The word ‘Fund’ in relation to any reserve should be used if such reserve is specifically represented by earmarked (assign) investment for a particular purpose. In other words, if the amount of reserve, which is created for any specific purpose is invested outside business in securities, it is called reserve fund otherwise it will be known as reserve.

Capital Reserves: It includ includes es amount amount which which are are not earned earned during during normal normal operation of business, therefore the amount of such reserve is not available for distribution as dividend, e.g., profit prior to incorporation of a company, profit profit on acquisition of business, profit on sale of fixed assets, profit remaining remaining on re-issue of forfeited shares, profit on redemption of shares and debentures, profit on reval revaluat uation ion of fixed fixed asset assets s and liabili liabilitie ties, s, prem premium ium of issue issue of share shares s and debentures.

Difference between Reserves and Provisions: Basis of difference Meaning

Provisions

Reserves

Provision is created for some specific object for which it is created. Charge Vs. A prov provis isio ion n is a char charge ge agai agains nstt Appropriation prof profit it i.e. i.e. it will will be crea create ted d even even though there is no profit.

Reser eserve ve may may be crea create ted d for for a specific purpose and it may not be created for a specific purpose. A reserve is an appropriation of profit i.e. it will not be created or the amount will not be tran transf sfer errred to any any reser eserve ve if there is no profits. Time oA f provision is created before A reserve is created after creation ascer ascertai tainin ning g the the prof profit it or los of a ascertaining the profit. business. Object The object of creating provision is to A reserve is created to make make arr arrange angement ment for any known known strengthen the financial position liability. of the business and to increase in the working capital. Utilis lisation ion Provision ca can be be ut utilised on only fo for th the Reserve can be used in the purpose for which it is meant. payment of any liability or loss. Distribution Provision cannot be utilised for Reserves can be used for declaration of dividends. declaration of dividends. Disclo Disclosur sure e in It is shown as deduction form the Reserves are always shown as a Balance value value of assets assets concer concerned ned on the sepa separa rate te item item unde underr the the head head Sheet assets assets side side of the Balanc Balance e Sheet. Sheet. ‘Res ‘Reser erve ve and and Surp Surplu lus’ s’ on the the However, it may be shown on the liab liabil ilit itie ies s side side of the the Bala Balanc nce e liabilities side also. Sheet. Investment Amou Amount nt of prov provis isio ion n cann cannot ot be Reserve can be invested outside outside invested outside. It always remains the business but in that cased it business in the business. is called fund. 7


Distinction between a ‘Reserve’ and ‘Reserve Fund’: The term reserve will indicate that the amount represented by the reserve is being utilised in the business itself. However, if the amount of reserve is invested in outside securities and such securities are earmarked earmarked for the particular purpose indicated by the reserve, and then reserve will be named as ‘Reserve Fund’. Quoted and Unquoted Investments: Invest Investmen ments ts in share shares s and debent debenture ures s which which are are listed listed on any recog recognis nised ed stock stock excha exchange nge are are called called quoted quoted inves investme tments nts.. A compan company, y, after after fulfil fulfilme ment nt of certai certain n conditions and payment of requisite fees, gets its shares and debentures listed on a stock exchange. Only listed securities can be freely purchased or sold through the stock exchange. Investments in shares and debentures which are not listed on any recognised stock exchange are called unquoted investments. Schedule VI requires that the aggregate amount of the company’s quoted investment and the market value thereof and the aggregate amount of its unquoted investments be separately disclosed in the balance sheet. Profit and loss account: Part II of the Schedule VI of the Companies Act, 1956 deals with the Profit and Loss Account. It has not prescribed the form in which the profit and loss account is to be prepared but, has instead prescribed the particulars and information to be given in the Profit and Loss Account. As a result, in practice, it is prepared in different forms based on the needs of the business and type of industry. What ever may be the form of Profit and Loss Account but it must exhibit a true and fair view of the profit or loss of the company during the year under reference. In case of a company, it is not necessary to split the Profit and Loss Account into three sections i.e., Trading Account, Profit and Loss Account and Profit and Loss Appropriation Accou Account. nt. Only Only Prof Profit it and Loss Loss Accou Account nt may may be prepa prepare red d which which may may cover cover items items appearing in Trading Account and Profit and Loss Appropriation Account. However, the splitting of Profit and Loss Account into three sections is not forbidden (prohibited) by the Act. It is desirable to split the Profit and Loss Account into three sections so that gross profit, net profit and surplus carried to the balance sheet may be ascertained separately. However, in case of in case of a company, instead of the heading of Trading Account and Profit & Loss Account, the heading is only Profit & Loss Account. Items relating to Trading Account are shown in its first part and the items relating to Profit and Loss Account appear in its second part. Profit and Loss Appropriation Account: After ter calc calcul ulat atio ion n and and asce ascert rtai ainm nmen entt of prof profit it,, ques questi tion on of its its dist distri ribu buti tion on or appropriation appropriation arises. Generally the Articles of Association of the Company empower the directors to decide the amount of profit to be transferred to reserves and the quantum of divi divide dend nds. s. The The dire direct ctor ors s may may deci decide de to retai etain n a cert certai ain n amou amount nt of prof profit it to strengthen the financial position of the company, which is done by transferring the amount to various reserves, or even by keeping as balance. A part of the profits may also be distributed as dividend. The account showing the disposal of profit is called ‘Profit and Loss Appropriation Account ‘

Name of the Company

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Profit and Loss Account for the year ended ________ Particulars

To Opening stock Raw material Work-inprogress Finished goods To purchase xx Less: Less: Returns eturns xx To Expenses on purchase To Manufacturing expenses To Gross Profit By Indirect expenses By Net Profit

R s.

xx xx xx xx xx xx xx xx xx xx xx

Particulars

By Sales xx Less: Re Retur turn xx By Closing stock Raw material Work-inprogress Finished goods

By Gross Profit By Indirect incomes

R s.

xx xx xx xx

xx xx xx xx

Profit and Loss Appropriation Account for the year ending __________ Particulars

To Transfer to Reserves To Preference dividend Interim Proposed Final Additional To Equity dividend Interim Proposed Final Additional To Provision for Dividend Tax To To Balance Balan ce of Profit transferred to Balance Sheet

R s. xx

xx xx xx xx

Particulars

By Balance b/d By net Profit By Transfer form Reserves By Transfer from Provisions

R s. xx xx xx xx

xx xx xx xx xx xx xx

xx

Important term related to Profit and Loss Appropriation Account: Interim Dividend: Dividend paid by the company before the ascertainment of the profit is called ‘Interim Dividend’. This dividend is declared by the directors at any time during the year if they think that company will earn more profit than what is expected. It is paid before the final dividend and in between the two annual general meetings, without the sanction from the shareholders. However, However, if an interim dividend is paid and it is found subsequently that the company’s profits profits are inadequate to cover the interim dividend, it amounts to payment of dividend out of capital and hence the directors will be liable to make good the amount. Proposed Dividend: After ascertainment of profit directors fix the rate of dividend which is to be paid to the shareholders. This is a type of proposal by the directors on

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which the consent of the shareholders is required. Hence it can be defined as the divide dividend nd which which fixed fixed by the share sharehol holder ders s on which which consen consentt of share shareho holde lders rs is not not received. Final Dividend: Dividend proposed by the directors is declared by shareholders shareholders at the annual general meetings. After the declaration the proposed dividend is termed as final dividend. Shareholders cannot increase the rate of dividend fixed by the directors but they can decrease it if they think fit. Additional dividend: If after the normal dividend any extra dividend is paid to the shareholders, such a dividend is termed as additional dividend. This dividend is paid when any surplus profit is left out of the profit set aside for distribution of the normal dividend.

Divisible profits: All profits are not divisible profits. Only those profits which are legally available to sharehol shareholders ders for dividend are are known known as divisible divisible profits profits.. In normal normal course, course, divisible divisible profits are the profits left after meeting all expenses, losses, depreciation on fixed assets, fall in the price of current assets, taxation, writing off past losses and after transf transfer errin ring g a reaso reasonab nable le amount amount to rese reserve rves. s. Divisi Divisible ble prof profits its should should not includ include e capital profits. Dividends cannot be declared except out of divisible profits.

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Financial Statement of Companies

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