Accounting Fundamentals: Analysis of Financial Statements Report

This report delves into the core principles of financial accounting, emphasizing its practical application in a business context. It outlines the accounting cycle, from transaction recording and classification to the preparation of financial statements. The report includes an illustrative example, presenting an income statement, balance sheet, and statement of changes in equity. It analyzes the business's financial performance, highlighting key metrics such as gross profit, operating expenses, and net loss, while also assessing its financial position concerning liquidity and solvency. Furthermore, it explores depreciation methods, inventory control systems, and internal control mechanisms. The report concludes with recommendations for optimizing financial practices, aiming to improve profitability and operational efficiency, and references various academic sources to support the analysis.

Running head: ACCOUNTING FUNDAMENTALS
Accounting Fundamentals
Name of the Student:
Name of the University:
Author’s Note:

ACCOUNTING FUNDAMENTALS
Executive Summary:
This report aimed at analyzing and understanding the fundamentals of financial accounting and
its application in business. Financial accounting is the process of recording, classifying,
summarizing and preparing financial reports for the use of financial information users. In this
report, the whole cycle of accounting has been illustrated with the help of a practical example.
Lastly, the report concludes with the analysis of such a financial statement to understand the
financial performance and position of the business.

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Table of Contents
Introduction:....................................................................................................................................4
Financial Statement:........................................................................................................................4
Financial Performance and Financial Position:...............................................................................6
Investment in assets and depreciation method:...............................................................................7
Inventory Control System:...............................................................................................................8
Internal Control Mechanism:...........................................................................................................8
Conclusion:......................................................................................................................................9
References and bibliography:........................................................................................................10

ACCOUNTING FUNDAMENTALS
Introduction:
Accounting is the language of a business organization. Accounting is not only a single set
of work; it is a group of various activities to make the whole accounting process complete. It
starts with the collection and recording of financial transactions. Then all those transactions are
classified, summarized and recorded in various separate books of accounts respectively. At the
last processing all those information the final financial statement is prepared. The whole
accounting cycle can be defined in terms of certain key activity in accounting which includes,
Journal entry, Ledger posting, balancing, adjustments, closing entries and preparation of final
financial statement. In this report, all those processed have been described and illustrated with
practical example along with the analysis of the financial statement (Weil Schipper and Francis
2013).
Financial Statement:
Financial statement is the summarized form of all the accounting results of an
organization. It includes a statement of profit or loss or an income statement, which shows the
financial performance of an organization. It also includes a balance sheet or a statement of
financial position with a statement of changes in equity. For better reporting purpose, there must
be sufficient notes to the financial statement supporting the calculations made in financial
statement. Following is the extract of financial statements as illustrated in this report.
Income Statement
For the year ended 30 June
Sales Revenue $19,161.20
Service Revenue $1,810.00
Total Revenue $20,971.20
Cost of Goods Sold ($8,269.00)
Gross Profit $12,702.20

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Operating Expenses:
Bad Debts expense $99.55
Depreciation Expense $16,077.50
Insurance Expense $4,166.67
Inventory Loss $1,200.00
Interest Expense $2,310.00
Supplies Expense $180.00
Wages Expense $2,652.20
Total Operating Expenses $26,685.92
Net Loss ($13,983.72)
Balance Sheet
As on June 30
Assets:
Current Assets:
Cash at Bank $83,898.72
Accounts Receivable $1,991.00
Provision for Doubtful Debts ($99.55)
Supplies $2,220.00
Inventory $12,587.00
Prepaid Insurance $833.33
GST Paid $11,397.60
Total Current Assets $112,828.10
Non Current Assets:
Vehicles $44,100.00
Accum Dep - Vehicles ($11,025.00)
Computers $40,420.00
Accum Dep - Computers ($5,052.50)
Total Non Current Assets $68,442.50
Total Assets $181,270.60
Liabilities:
Current Liabilities:
Accounts Payable $92,972.00
GST Collected $2,097.12
PAYG Tax Payable $152.00
Wages Payable $923.20
Total Current Lianilities $96,144.32
Non Current Liabilities:
Loan Payable $42,000.00
Interest Payable $2,310.00
Total Non Current Liabilities $44,310.00
Total Liabilities $140,454.32
Owner's Equity:
B Dusty, Capital $67,000.00
B Dusty, Drawings ($12,200.00)
Net Loss ($13,983.72)

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Total Equity $40,816.28
Total of Liabilities and equities $181,270.60
Statement of Changes in Equity
Capital Drawings
Capital Introduced $67,000.00
Drawings made $12,200.00
Net Loss $13,983.72
Ending Owners Equity $80,983.72 $12,200.00
The financial statement has been prepared to show all the extracts of financial
performance and financial position of the business. The revenues have been classified in one
head and expenses are classified in the income statement. In the balance sheet also, the assets
have been classified into current assets, noncurrent assts. Current assets are summarized in terms
of their liquidity, and noncurrent assets are shown net of accumulated depreciation. In the
liabilities part of the balance sheet, the liabilities are classified into current liabilities and
noncurrent liabilities.
Financial Performance and Financial Position:
Financial statements are the final output of a complete accounting system. Financial
statement includes income statement and a balance sheet and various notes supporting the
disclosures made in the financial statements. Financial statements can give various meaningful
information based on which the financial position and performance of a business organization
can be analyzed well.
From the income statement of the business as prepared and shown above, it can be
observed that their financial performance have made a loss for the year. The total loss amount for
the year is $13,983.72. It implies their poor financial performance for the year. It can be

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observed from their income statement that, the main reason behind their huge loss is their huge
amount of operating expenses. The major part of their operating expenses includes the
depreciation expenses. It means they are using huge amount of fixed assets, but they are unable
to utilize those assets properly. Hence, their return on assets performance is very poor. The gross
profit margin of the business is significantly well, but they are having a net loss in their financial
statement. From their statement of financial position, it can be observed that, they are having a
huge amount of cash in their balance sheet. It implies they are having a high short term liquidity.
In terms of solvency also, it can be said that, they are having a enough solvency but not above
the standard benchmark. The current assets should have been double of the current liabilities, but
they are not having the same. In terms of long term solvency the company is having a fair
situation. Half of their fixed assets are financed by the long-term debt. A proper mix of debt and
equity might be giving the company an advantage of maximizing the wealth of the business. It
can be recommended for the company to maximize their sales and utilize the assets properly to
maximize their revenue and resulting profit from their operating business activities (May 2013).
Investment in assets and depreciation method:
The company is having a total carrying value of $68,442.50 as the carrying amount of
their total noncurrent assets. Now the organization is planning to invest more in the fixed assets.
It can be observed from their income statement and balance sheet, despite having a huge amount
of fixed assets, they could not utilized it properly, which resulted in a huge depreciation expense
and a net loss for the period. It can also be observed from their current accounting and
accounting systems, that they are following two methods for two types of fixed assets, they are
following straight-line depreciation method as well as a diminishing balance method of
depreciation. Diminishing method of charging depreciation is more superior to the straight-line

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method of depreciation. Therefore, it can be recommended for the company to use the
diminishing balance of depreciation method for their further investment in fixed assets (Warren
Reeve and Duchac 2013).
Inventory Control System:
As can be observed from their current accounting systems and policies, they are
following the weighted average method for inventory valuation. In this system of inventory
valuation the cost of goods sold and closing inventory is valued based on the weighted average
price of last available quantity of materials and respective total amount of materials. There are
many other methods of inventory valuation, such as FIFO method, LIFO method, Simple
Average method and specific items method (Beatty and Liao 2014). The specific items method
is more superior and logical but, it is very much complex in practice. Where a huge amount of
stock and numerous numbers of inventories are there, it cannot be successfully implemented. On
the other hand, FIFO and LIFO is the traditional method of inventory valuation, which have their
own advantages and disadvantages. Periodic inventory system is also there but it is very much
traditional and unscientific. Hence, it can be recommended for the company to follow their
existing system of inventory control and valuation. It will result in different valuation for the cost
of goods sold and ending inventory, which will result in different amount of net income or net
loss (Warren Reeve and Duchac 2013).
Internal Control Mechanism:
Internal control mechanism, includes various checkpoints and control system which
prevents from employee frauds and cash mismanagement. It also prevents from mistakes and
misstatement of financial information in the financial records and financial statement of an

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organization. Some of such internal control mechanisms are Bank Reconciliations periodically
and Cash Control mechanism. There must be the authority of the employees so distributed that
they can perform their duties within their authority. The recording, authorizing and processing of
various transaction including cash transactions must be done by more than one person, so that
their works are checked by others. Internal audit system also can help in controlling the financial
performance and position of the business (Beatty and Liao 2014).
Conclusion:
From the above discussion and analysis, it can be concluded that, the financial accounting
is a crucial and integrated part of the business organization. All the financial transactions and
data must be recorded in the books of accounts properly in accordance with the respective
accounting standards and guidelines. Lastly, it can be recommended for an organization to adopt
such accounting policies and principles, which best suits with their structure of business and their
operating activities.

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References and bibliography:
Beatty, A. and Liao, S., 2014. Financial accounting in the banking industry: A review of the
empirical literature. Journal of Accounting and Economics, 58(2-3), pp.339-383.
Carraher, S. and Van Auken, H., 2013. The use of financial statements for decision making by
small firms. Journal of Small Business & Entrepreneurship, 26(3), pp.323-336.
Edwards, J.R., 2013. A History of Financial Accounting (RLE Accounting). Routledge.
Henderson, S., Peirson, G., Herbohn, K. and Howieson, B., 2015. Issues in financial accounting.
Pearson Higher Education AU.
May, G.O., 2013. Financial accounting. Read Books Ltd.
Needles, B.E., Powers, M. and Crosson, S.V., 2013. Financial and managerial accounting.
Nelson Education.
Warren, C., Reeve, J.M. and Duchac, J., 2013. Financial & managerial accounting. Cengage
Learning.
Weil, R.L., Schipper, K. and Francis, J., 2013. Financial accounting: an introduction to
concepts, methods and uses. Cengage Learning.