Financial Reporting Mechanics

Before we begin, lets have a short backstory on love

It was Sunday, 2nd August 2015. Time for Church, my mum screamed about 8 am. Normally i am the one that wakes up first in my house but on this occasion,  I Woke up rather late because I was up all night trying to convert my books to the kindle format .Azw3.   I know amazon helps with this but the sizes of the ebooks that needs converting are way above the 50 mb limit by amazon. So I and my mum went to church. By the time we got there, they were no more chairs available. We had to walk around for a while before deciding to stand in one spot. Thankfully my mum found a small pavement to sit down on. I was the one doing all the standing.

The pastor talked about love. We were about to kick start our 70 days fasting and prayer the next day, and he was talking about the importance of love when doing it. He said God is love, and there is something more powerful than faith which is love. Even Jesus himself said the greatest commandment is to love God with all your might, heart and soul, and the next is to love your neighbor like yourself. It is also written that we should owe no man anything but love.

He told a story that really touched people. Though I had heard it Like 2 or 3 years ago when we was preaching about forgiveness, it was refreshing to hear it again. It dates back to the apartheid system in South Africa. A white policeman kills a black teenage boy, and nothing is done about it. This same policeman goes ahead to kill the boy’s father by burning him alive right in front of his wife, who is also the boy’s mother. Before the man died, he told his wife to forgive him, that she should not hold it against him. This also goes unnoticed, and the policeman is not punished. Then the apartheid is over and past offences are revisited. The policeman is arrested and brought to justice.

He is found guilty and the judge asks the woman to pass judgment on him. Her decision is final on the case. Then she said she would ask for three things. Which are:

1)  They acquit him of all charges and release him.

2)   since she is old and alone now, the court should enforce it that the police officer visits her every now and then and takes her as his mother.

3)  That she has forgiven him of all she has done and could she be allowed to go over and hug him to show this.

After this utterances, right from no where,someone starts singing amazing grace. Really amazing story, and what a kind heart the woman has. The policeman took away everything she had and she could still forgive him like that. How many people can forgive like that. That is a woman that really fears God and loves like Jesus.

He also said that husbands should love their wives likewise the wives. Not only because that is the best thing to do,but also because God commands it. There is no greater prayer force than an husband and wife combo.

So after this,I came home and read financial reporting mechanics.

Financial Statements

Financial statement elements are the major classifications of assets, liabilities, owners’ equity, revenues and expenses.

Accounts are the specific records within each element where various transactions are recorded. They are accounts known as contra accounts, they offset a part of the value of another account. For example bad debt and debtors account, or in non-current  assets, recorded or valued at acquisition costs and the estimated decrease in its value over time is recorded in a contra account titled “accumulated depreciation’’

Transactions are recorded in accounts that form the financial statement elements. These are :

• Assets: These are economic resources of the firm arising from past transactions by that firm which are expected to produce future economic benefits for the same firm.
• Liabilities: They are obligations of the firm arising from past occurrences or events and which the settlement of would require the outflow of economic resources.
• Owners’ equity: These are claims of the owners on the business, they are referred to as having residual interests because they bear the risk of the business and in the order of priority of settling, they come last. But the advantage here is that while others mostly have a fixed percentage of return (for example a 10% debenture). Equity holders or owners of equity have unlimited returns. They can share excess returns amongst themselves, but they also suffer the most in terms of losses.

ACCOUNTING EQUATION

The basic accounting equation is Assets = Liabilities + Equity. Owner equity comprises of initial contributed capital + Ending retained earnings, therefore we can also say that Assets= Liabilities + Contribute capital + Ending retained earnings.

Ending retained earnings= Beginning retained earnings + revenue –expenses- dividends.

Accounting principle: The accounting principle states that for every credit entry, there must be a corresponding debit entry. That is the double entry principle. So an increase in an asset account, for example, must be balanced by a decrease in another asset account or an increase in liability or owner’s equity accounts.

A firm must recognize revenues when they are earned and expenses when they are incurred. Accruals are required when the timing of cash payments made and received does not match the timing of the revenue or expense recognition on the financial statements. There are concepts of unearned income, which is the income not yet earned but already received. It is when someone pays you upfront before you render the service. It should be a liability to you.

Accrued Expenses: Expenses incurred but not yet paid for. It is a liability to you.

Accrued income: This is income earned but not yet received from the debtor. It is an asset to you.

Prepaid Expenses:  This is when you pay for expenses that has not yet been incurred. It is an asset to you.

They are four processes in which transactions pass through the books of a company. They are:

• Journal: Transactions are recorded here in the form of a note, whereby the accounts to be debited or credited are listed.
• General ledger: Here accounts are made and transactions occurring under each account are recorded in the credit or debit side of their individual ledger.
• Trial balance: The balance of ledgers is drawn up in a trial balance. To check, the total debit side must equal the credit side of the trial balance. The trial balance is prepared at the end of the accounting period.
• After these processes, accounts are then published in the financial statements.

Since analysts are not always entitled to seeing the entire book of accounts of a company, they should be alert to the use of accruals, changes in valuations and other notable changes that may indicate management judgment is incorrect or that the financial statements have been deliberately manipulated.

 

Recommended Readings

Joel Lerner., James Cashin., Schaum’s Outline of Principles of Accounting I