CONCEPTUAL FRAMEWORK AND ACCOUNTING STANDARDS (AE14)

Module 2: PRESENTATION OF FINANCIAL STATEMENTS

Introduction:

In this unit you will learn the Presentation of Financial Statements that sets out the overall
requirements for financial statements, including how they should be structured, the minimum
requirements for their content and overriding concepts such as going concern, the accrual basis
of accounting and the current/non-current distinction. It also includes the discussion of Statement
of financial position, income statement, statement of comprehensive income, statement of
changes in equity and notes to financial statements.

Topic 1: Statement of financial position

Learning Objectives:

 To identify the components of financial statements.

 To understand the objective of financial statements
 To know the preparation of a statement of financial position
 To identify the minimum line items to be presented in a statement of financial position as
required by IFRS.
 To understand the current and noncurrent classification of assets and liabilities.
 To know the forms of presenting the statement of financial position.

FINANCIAL STATEMENTS

Financial statements are the means by which the information accumulated and processed in
financial accounting is periodically communicated to the users.

The financial statements are the end product or main output of the financial accounting process.

Components of financial statements

A complete set of financial statements comprises the following components:

1. Statement of financial position(balance sheet)as at the end of the period

2. Statement of financial performance (income statement) for the period.
3. Statement of comprehensive income
4. Statement of changes in equity
5. Statement of cash flows
6. Notes, comprising a summary of significant accounting policies and other explanatory
notes

Objective of financial statements

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The objective of financial statements is to provide information about the financial position,
financial performance and cash flows of an entity that is useful to a wide range of users in
making economic decisions.

To meet objectives, financial statements must provide information on

 Assets and Liabilities

 Equity
 Incomes & Expenses(including gains and losses)
 Contributions by and distribution to owners
 Cash flows

Frequency of reporting

Financial statements shall be presented at least annually.

When an entity’s end of reporting period changes and financial statements are presented for
period longer or shorter than one year,an entity shall disclose:

a. The period covered by the financial statements.

b. The reason for using a longer or shorter period.
c. The fact that amounts presented in the financial statements are not entirely comparable.

Overall Considerations

Fair Presentation and Compliance present fairly the financial position, financial performance
and cash flows of an entity. Fair presentation requires the faithful representation of the effects of
transactions, other events, and conditions in accordance with the definitions and recognition of
criteria for assets,liabilities,income and expenses set out in the Framework.
 IAS 1 requires that an entity whose financial statements comply with IFRSs make an
explicit and unreserved statement of such compliance in the notes. Financial statements
shall not be described as complying with IFRSs unless they comply with all the
requirements of IFRSs.
 Inappropriate accounting policies are not rectified either by disclosure of the accounting
policies used or by notes or explanatory material.
 IAS 1 acknowledges that,in extremely rare circumstances, management may conclude
that compliance with an IFRS requirement would be so misleading that it would conflict
with the objective of financial statements set out in the Framework.In such a case,the
entity is required to depart from the IFRS requirement,with detailed disclosure of the
nature,reasonsand impact of the departure.

Going Concern

 An entity preparing IFRS financial statements is presumed to be a going concern.If

management has significant concerns about the entity’s ability to continue as a going
concern,the uncertainties must be disclosed.If management concludes that the entity is
not a going concern,the financial statements should not be prepared on a going concern
basis,in which case IAS 1 requires a series of disclosures.

Accrual Basis of Accounting/Presentation

 Accrual Basis

IAS 1 requires that an entity prepare its financial statements,except for cash flow
information,using the accrual basis of accounting.

 Consistency of Presentation

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 The presentation and classification of items in the financial statements shall be retained
from one period to the next unless a change is justified either by a change in
circumstances or a requirement of a new IFRS.

Materiality and Aggregation

 Materiality and Aggregation

An entity shall present separately each material class of similar items.Material items that
are dissimilar in nature or function should be separately disclosed.

 Offsetting

An entity shall not offset assets and liabilities,income and expenses unless required or
permitted by an IFRS.

Statement of financial position

A statement of financial position is a formal statement showing the three elements comprising
financial position, namely assets, liabilities and equity.

Definition of asset

An asset is an economic resource controlled by an entity as a result of past event.

Classification of Assets

Assets are classified into current assets and noncurrent assets.

Current assets

PAS 1, paragraph 66, provides that an entity shall classify an asset as current when:

a. The asset is cash or cash equivalent unless the asset is restricted to settle a liability for more
than twelve months after the reporting period.
b. The entity holds the asset primarily for the purpose of trading.
c. The entity expects to realize the asset within twelve months after the reporting period.
d. The entity expects to realize the asset or intends to sell or consume it within the entity’s
normal operating cycle.

PRESENTATION OF CURRENT ASSETS

Current assets are usually listed in the order of liquilidity. PAS 1, oaragraph 54, provides that as
a minimum, the line items under current assets are:
A. Cash and cash equivalents.
B. Financial assets at fair value such as trading securities and other investments in quoted
equity instruments
C. Trade and other receivables
D. Inventories
E. Prepaid expenses

NONCURRENT ASSETS

The caption ‘’the noncurrent assets’’ is a residual definition.

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PAS 1, paragraph 66, simply states that ‘’ an entity shall classify all other assets not classified as
current as noncurrent’’.
In other words, what is not included in the definition of current asset is deemed excluded. All
others are classified as noncurrent assets. Accordingly, noncurrent assets include the following:
a. Property, plant and equipment
b. Long-term investment
c. Intangible assets
d. Deferred tax assets
e. Other noncurrent asset

PROPERTY, PLANT AND EQUIPMENT

PAS 16, paragraph 6, defines property, plant and equipment as ‘’tangible assets which are held
by an entity for use in production or supply of goods and services, for rental to others, or for
administrative purposes, and are expected to be used during more than one period
Examples of property, plants and equipment include
land,building,machinery,equipment,furniture,fixtures patterns, molds, dies and tools.
Most property, plant and equipment, except land, are presented at cost less accumulated
depreciation.

LONG-TERM INVESTMENTS

The international accounting standards committee defines investment as ‘’an asset held by an
entity for accretion of wealth through capital distribution, such as interest, royalties ,dividends
and rentals, for capital appreciation or for other benefits to the investing entity such as those
obtained through trading relationships’’.

INTANGIBLE ASSETS

An intangible asset is simply defined as an identifiable nonmonetary asset without physical

substance.
The common examples of identifiable intangible assets include patent, franchise, copyright, lease
right, trademark and computer software.
An example of an unidentifiable intangible asset is goodwill.

OTHER NONCURRENT ASSETS

Other noncurrent assets are those assets that do not fit into the definition of the previously
mentioned noncurrent.
Examples of other noncurrent assets include long-term advanes to officers,directors,shareholders
and employees or abandoned property and long-term refundable deposit.

DEFINITION OF LIABILITY
A liability is a present obligation of an entity to transfer an economic resource as a result of past
event.

Current Liabilities

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PAS 1, paragraph 69, provides that an entity shall classify a liability as current when:

a.The entity expects to settle the liability within the entity’s normal operating cycle.
b.The entity holds the liability primarily for the purpose of trading.
c.The liability is due to be settled within twelve months after the reporting period.
d.The entity does not have unconditional right to defer settlement of the liability for atleast
twelve months after reporting period.

Presentation of current liabilities

PAS 1, paragraph 54, provides that as a minimum, the face of the statement of financial position
shall include the following line items for current liabilities:

a. Trade and other payable

b. Current provisions
c. Short-term borrowing
d. Current portion of long-term debt
e. Current tax liability

The term “trade and other payables” is a line items for accounts payable, dividends payable and
accrued expenses.
No objection can be raised if the trade accounts and notes payable are separately presented.

NONCURRENT LIABILITIES

The term “noncurrent liabilities” is also a residual definition.

PAS 1,paragraph 69, provide all liabilities not classified as current are classified as noncurrent.

a. Noncurrent portion of long-term debt

b. Finance lease liability
c. Deferred tax liability
d. Long-term obligations to company officers
e. Long-term deferred revenue

CURRENTLY MATURING LONG-TERM DEBT

A liability which is due to be settled within twelve months after the reporting period is classified
as current, even if:

a. The original term was for a period longer than twelve months.
b. An agreement to refinance or to reschedule payment on a long-term basis is completed
after the reporting period and before the financial statements are authorized issues.

However, if the refinancing on a long-term basis is completed on or before the end of the
reporting period and before the end of reporting period, the refinancing is an adjusting even and
therefore the obligation is classified as noncurrent.

DISCRETION TO REFINANCE

If the entity has the discretion to refinance or roll over an obligation for at least twelve months
after the reporting period under an existing loan facility, the obligation is classified as noncurrent
even if it would otherwise be due within shorter period.

The reason for this treatment is that such obligation is considered to form part of the entity’s
long-term refinancing because the entity has unconditional right under the existing loan
agreement to defer payment to defer payment for atlaest twelve months ater the end of the
reporting period.
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Note that the refinancing or rolling over must be at the discretion of the entity.

Otherwise, if the refinancing or rolling over is not at the discretion of the entity, the obligation is
classified as current liability.

Covenants

Covenants are often attached to borrowing agreements which represent undertakings by the
borrower.

Covenants are actually restrictions on the borrower as to undertaking further borrowings, paying
dividends, maintaining specified level of working capital and so forth.

Under these covenants, if certain conditions relating to the borrower’s financial situation are
breached, the liability becomes payable on demand.

Effect of breach of covenants

PAS 1, paragraph 74, provides that the liability is classified as current even if the lender has
agreed after the reporting period and before the statements are authorized for issue, not to
demand payment as a consequence of the breach.

This liability is classified as current because at reporting date the borrower does not have an
unconditional right to defer payment for at least twelve months after reporting period.

However, paragraph 75 provides that liability is classified as noncurrent if the lender has agreed
on or before the end of reporting period to provide a grace period ending at least twelve months
after the of reporting period.

Definition of equity

The term equity is the residual interest in the assets of the entity after deducting all of its
liabilities.
Simply stated, equity means “net assets” or total assets minus liabilities
The terns used in reporting the equity of an entity depending on the form of the business
organization are:
a. owner’s equity in a proprietorship
b. partners’equity in a partnership
c. stockholders’equity or shareholders’equity in corporation.
However, the term equity may simply be used for all business entities.

Under PAS 1, paragraph 7, the holders of instruments classified as equity are simply known as
owners.

Shareholders’ equity

Shareholders ‘equity is the residual interest of owners in net assets of a corporation measured by
the excess of assets over liabilities.

Generally, the elements constituting shareholders’

Equity with their equivalent IAS term are:

Philippine term IAS term

Capital stock share capital

Subscribed capital stocked subscribed share capital
Preferred stock preference share capital
Common stock ordinary share capital
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Additional paid capital share premium
Retained earnings (deficit) accumulated profit (losses)
Retained earnings appropriated appropriation reserve
Revaulation surplus revolution reserve
Treasury stock treasury share

Notes to financial

Notes to financial statements provide narrative description or dis aggregation of items presented
in the financial statements and information about items that do not qualify for recognition

Notes contain information in addition to that presented in th statement of financial position,

income statement, statement of comprehensive of cash flows.

In other words, notes to financial statements are used to report information that does not fit into
the body of the financial statements in order to enhance the understandability of the financial
statement.

The purpose of the notes to financial statements is “to provie the necessary disclosures required
by Philippine financial reporting standards”

Forms of statement of financial position

In practice, there are two customary forms in presenting the statement of the financial position,
namely:

a. report form:

This form sets forth the three major sections in a downward sequence of assets, liabilities
and equity
b. account form
c.
As the title suggests, the presentation follows that of an account, meaning , the assets are
shown on the left side and liabilities and equity on the right side of the statement of
financial position.

The following is an illustration of the two forms of statement of financial position.

Report Form

JEWEL COMPANY
Statement of Financial Position
December 31, 2020

ASSETS

Current assets: Note

Cash and cash equivalents (1) 500,000
Financial assets at fair value 200,000
Trade and other receivables (2) 700,000
Inventories (3) 900,000
Prepaid Expenses (4) 50,000

Total current assets 2,350,000

Noncurrent Assets:
Property, plant and equipment (5) 5,000,000
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 Investment in associate, at equity 1,000,000
Long-term investments (6) 5,100,000
Intangible assets (7) 2,000,000
Other noncurrent assets (8) 100,000

Total noncurrent assets 13,200,000

Total assets 15,550,000

LIABILITIES AND SHAREHOLDERS’EQUITY

Current liabilities:
Trade and other payables (9) 750,000
Note payable-short-term debt 400,000
Current portion of bonds payable 200,000
Warranty liability 50,000

Total current liabilities 1,400,000

Noncurrent liabilities:
Bonds payable-remaining portion 1,800,000
Note payable-due July 1, 2022 600,000
Deferred tax liability 100,000

Total noncurrent liabilities 2,500,000

Shareholders ‘equity
Share capital, 100 par 5,000,000
Reserves (10) 3,000,000
Retained Earnings 3,650,000

Total shareholders’ equity 11,650,000

Total liabilities and shareholders’ equity 15,550,000

Note 1-Cash and cash equivalents

Cash on hand 40,000

Cash in bank 300,000
Petty cash fund 10,000
BSP Treasury bill, purchased on December 1,2020
And due March 1, 2021 150,000

Total cash and cash equivalents 500,000

Note 2-Trade and other receivables

Accounts receivable 580,000

Allowance for doubtful accounts (20,000)
Notes receivable 100,000
Accrued interest on note receivable 10,000
Advances to employees,collectible currently 30,000

Total trade and other receivables 700,000

Note 3-Inventories

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Finished goods 300,000
Goods in process 400,000
Raw materials 150,000
Manufacturing supplies 50,000

Total inventories 900,000

Note 4-Prepaid Expenses

Office supplies unused 30,000

Prepaid insurance 20,000

Total prepaid expenses 50,000

Note 5-Property, Plant and Equipment

Land 1,500,000
Building 4,500,000
Machinery and Equipment 1,000,000
Furniture and Fixtures 300,000
Patterns,Molds,dies and tools 100,000

Total 7,400,000
Accumulated depreciation (2,400,000)

Carrying Amount 5,000,000

Accumulated Depreciation:

Building 1,900,000
Machinery and Equipment 350,000
Furnitures and fixtures 150,000

Total accumulated depreciation 2,400,000

Note 6-Long term investments

Plant expansion fund 2,000,000

Investment in bonds 3,000,000
Cash surrender value 100,000

Total long term investments 5,100,000

Note 7-Intangible assets

Patent 500,000
Franchise 1,500,000
Total intangible assets 2,000,000

Note 8-Other noncurrent assets

Long-term refundable deposit 20,000

Long-term advances to officers 80,000

Total other noncurrent assets 100,000

Note 9-Trade and other payables

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Accounts payable 350,000
Notes payable 150,000
Accrued interest on notes payable 15,000
Income tax payable 50,000
Dividends payable 100,000
Accrued expenses 85,000

Total trade and other payables 750,000

Note 10-Reserves

Share premium 2,000,000

Retained earnings appropriated for contingencies 1,000,000

Total reserves 3,000,000

Account Form

JEWEL COMPANY
Statement of Financial Position
December 31, 2020

ASSETS LIABILITIES AND EQUITY

Current Assets Current Liabilities

Cash and Cash equivalents 500,000 Trade and other payables 750,000
Financial assets at fair value 200,000 Note payable-short term debt 400,000
Trade and other receivables 700,000 Current portion of bonds payable 200,000
Inventories 900,000 Warranty liability 50,000
Prepaid expenses 50,000 ________
Total current assets 2,350,000 Total current liabilities 1,400,000

Noncurrent assets Noncurrent liabilities

Property,plant Bond payable-remainin

And Equipment 5,000,000 portion 1,800,000
Investment in associates 1,000,000 Note payable-due
July 1,2022 600,000
Long term investment 5,100,000 Deferred tax liability 100,000
Intangible assets 2,000,000
Other noncurrent assets 100,000

Total noncurrent assets 13,200,000 Total noncurrent liabilities 2,500,000

Equity:

Share capital, 100 par 5,000,000

Reserves 3,000,000
Retained earnings 3,650,000

Total equity 11,650,000

Total assets 15,550,000 Total liabilities and equity 15,550,000

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SUMMARY:

 Financial statements are the end product or main output of the financial accounting
process.
 The components of financial statements are:Statement of financial position,Statement of
financial performance,Statement,Statement of comprehensive income,Statement of
changes in equity,Statement of Cash flows and Notes to Financial Statement.
 The objective of financial statements is to provide information about the financial
position,financial performance and cash flows of an entity that is useful to a wide range
of users in making economic decisions.
 Financial statements shall be presented at least annually.
 Statement of financial position is a formal statement showing the three
elements:assets,liabilities and equity.
 Assets and Liabilities are classified into current and noncurrent.
 Equity is the residual interest in the assets of the entity after deducting all of its
liabilities.
 Shareholders’equity is the residual interest of owners in the net assets of a corporation
measured by the excess of assets over liabilities.
 Notes to financial statements provide narrative description or disaggregation of items
presented in the financial statements and information about items that do not qualify for
recognition.

Activity 1

Queen Company provided the following account balances on December 31, 2020:

Notes Receivable 250,000

Computer Sofware 3,250,000
Prepaid expenses 70,000
Trading Securities 280,000
Unearned rent income 40,000
Retained earnings (deficit) (1,800,000)
Share premium-preference 500,000
Premium on bonds payable 1,000,000
Preference share capital 2,000,000
Share premium-ordinary 200,000
Notes payable 300,000
SSS payable 10,000
Accounts payable 400,000
Accrued salaries 100,000
Accumulated depreciation-building 2,000,000
Accumulated depreciation-equipment 200,000
Allowance for doubtful accounts 20,000
Bonds payable 5,000,000
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Dividends payable 120,000
Ordinary share capital 5,000,000
Withholding tax payable 30,000
Preference share redemption fund 350,000
Accounts receivable 400,000
Advances to officers-not currently collectible 100,000
Sinking fund 400,000
Building 5,000,000
Long-term refundable deposit 50,000
Cash and cash equivalents 500,000
Cash surrender value 60,000
Equipment 1,000,000
Patent 100,000
Accrued interest on notes receivable 10,000
Inventories 1,300,000
Land 1,500,000
Land held for speculation 500,000

Required:

Prepare a properly classified statement of financial position on December 31, 2020.

Activity 2

Primo Company provided the following information for the purpose of presenting the statement
of financial position on December 31, 2020.
Cash 400,000
Accounts Receivable 800,000
Allowance for doubtful accounts 50,000
Inventories 1,000,000
Land 500,000
Building 5,000,000
Accumulated Depreciation-building 2,000,000
Machinery 3,000,000
Accumulated Depreciation-machinery 1,200,000
Investment in associate 1,300,000
Prepaid Expense 100,000
Notes Payable 750,000
Accounts Payable 350,000
Income tax payable 50,000
Accrued Expenses 60,000
Mortgage note payable in quarterly installments 2,000,000
Of 100,000
Estimated Liability for damages 140,000
Retained earnings appropriated for plant expansion 1,000,000
Retained earnings appropriated for contingencies 100,000
Share capital 3,000,000
Share premium 300,000
Retained earnings unappropriated 1,250,000
Trademark 150,000
Secret processes and formulas 200,000
Bank loan payable-due to June 30, 2022 500,000

Required:

Prepare in good form a properly classified statement of financial position on December 31,2020
with supporting notes and computations.

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Activity 3 multiple choice

1. The major financial statements include all,except

a.Statement of financial position

b.Statement of changes in financial position
c.Statement of comprehensive income
d.Statement of changes in equity

2. The major financial statements include all,except

a.Statement of financial position

b.Income statement
c.Statement of comprehensive income
d.Statement of retained earnings

3. What is the objective of financial statements?

a.To provide information about the financial position,financial performance,and changes

in financial position of an entity that is useful to a wide range of users in making
economic decisions.
b.To present a statement of financial position and statement of comprehensive income.
c.To present relevant,reliable,comparable and understandable information to investors.
d.To present financial statements in accordance with all applicable standards.

4. Financial statements must be prepared at least

a.Annually
b.Quarterly
c.Semi annually
d.Every two years

5. When entity changed the end of reporting period longer or shorter than one year,the entity

a.Period covered by the financial statements

b.The reason for using a longer or shorter period
c.The fact that amounts presented are not entirely comparable
d.The fact that similar entities have done so.

6. An entity shall classify an asset as current under all of the following conditions,except

a.The entity expects to realize the asset or intends to sell or consume it within the entity’s
normal operating cycle.
b.The entity holds the asset for the purpose of trading.
c.The entity expects to realize the asset within twelve months after the reporting period.
d.The asset is cash or a cash equivalent that is restricted to settle a liability for more than
twelve months after the reporting period.
7. An entity shall classify a liability as current when under all of the following conditons,except

a.The entity expects to settle the liability within the entity’s normal operating cycle.
b.The entity holds the liability primarily for the purpose of trading.
c.The liability is due to be settled within twelve months after the reporting period.
d.The entity has an unconditional right to defer settlement of the liability for at least
twelve months after the reporting period.
8. Assets to be sold,consumed or realized as part of the normal operating cycle are
a.Current assets
b.Non current assets
c.Classified as current or non current in accordance with other criteria
d.Noncurrent investments
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9. Liabilities that an entity expects to settle within the normal operating cycle are classified as
a.Non current liabilities
b.Current or noncurrent liabilities in accordance with other criteria
c.Current liabilities
d.Equity
10. The statement of financial position is useful for analyzing all of the following,except.

a.Liquidity
b.Solvency
c.Profitability
d.Financial flexibility

Topic 2: Statement of Comprehensive Income

Learning Objectives:

a. To understand the objective and usefulness of an income statement

b. To understand the concept of comprehensive income, profit or loss and other
comprehensive income
c. To identify the components of other comprehensive income
d. To know the minimum line items in the statement of comprehensive income
e. To know the natural and functional presentation of the income statement.

INCOME STATEMENT

An income statement is a formal statement showing the financial performance of an entity for a
given period of time.

The financial performance is also known as the results of operations of the entity.

The income statement for a period presents the income, expenses, gains, losses and net income or
loss recognized during the period.

COMPREHENSIVE INCOME

Comprehensive Income is the change in equity during a period resulting from transactions and
other events, other than changes resulting from transactions with owners in their capacity as
owners.

Comprehensive income includes:

a. Components of profit and loss

b. Components of other comprehensive income

Other Comprehensive Income

Other comprehensive income comprises items of income and expenses including reclassification
adjustments that are not recognized in profit or loss as required or permitted by Philippine
Financial Reporting Standards.

Components of Other Comprehensive Income

1. Unrealized gain or loss on equity investment measured at fair value through other
comprehensive income

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 2. Unrealized gain or loss on debt investment measured at fair value through other
comprehensive income
3. Gain or loss from translation of the financial statememnts of a foreign operation.
4. Revaluation surplus during the year.
5. Unrealized gain or loss from derivative contracts designated as cash flow hedge
6. Remeasurements of defined benefit plan including actuarial gain or loss
7. Change in fair value attributable to credit risk of a financial liability designated at fair
value through profit or loss.

Presentation of other Comprehensive income

PAS 1, paragraph 82A, provides that the statement of comprehensive income shall present line
items for amounts of other comprehensive income during the period classified by nature.

The line items for amounts of OCI shall be grouped as follows:

a. OCI that will be reclassified subsequently to profit or loss when specific conditions are
met.
b. OCI that will not be reclassified subsequently to profit or loss but to retained earnings.

OCI that will be reclassified to profit or loss

a. Unrealized gain or loss on debt investment measured at fair value through other
comprehensive income.
b. Gain or loss from translating financial statements of a foreign operation.
c. Unrealized gain or loss on derivative contracts designated as cash flow hedge.

OCI that will be reclassified to retained earnings

a. Unrealized gain or loss on equity investment measured at fair value through other
comprehensive income.
b. Revaluation surplus during the year
c. Remeasurement of defined benefit plan,including actuarial gain or loss.
d. Change in fair value attributable to credit risk of a financial liability designated at fair value
through profit or loss.

Presentation of comprehensive income

An entity has two options of presenting comprehensive income,namely:

1. Two statements
a. An income showing the components of profit or loss.
b. A statement of comprehensive income beginning with profit or loss as shown in the
income statement plus or minus the components of other comprehensive income.

2. Single statement of comprehensive income

This is the combined statement showing the components of profit or loss and components of
other comprehensive income in a single statement.

Sources of income
a. Sales of merchandise to customers
The income from sales shall include all sales to customers during the period.

Sale returns,allowances and discounts shall be deducted from gross sales to arrive at net
sales.

b. Rendering of services
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 Income from rendering of services,among others,includes professional fees,media
advertising commissions,insurance agency commissions,admission fees for artistic
performance and tuition fees.

c. Use of entity resources

This income category includes interest,rent,royalty and dividend income.

d. Disposal of resources other than products
Xamples include gain on sale of investments,gain on sale on sale of property,plants and
equipment and gain on sale of intangible assets.

Components of Expenses
a. Cost of goods sold or cost of sales
b. Distribution costs or selling expenses
c. Administrative expenses
d. Other expenses
e. Income tax expenses

Classification of expenses

Distribution costs constitute costs which are directly related to selling,advertising and delivery
of goods to customers.

It includes the following:

a. Salesmen’s salaries
b. Salemen’s commissions
c. Travelling and marketing expenses
d. Advertising and publicity
e. Freight out
f. Depreciation of delivery equipment and store equipment

Administrative expenses constitute cost of administering the business.

Administrative expenses ordinarily include all operating expenses not related to selling and cost
of goods sold.

Examples include:

a. Doubtful accounts
b. Office salaries
c. Expenses of general executives
d. Expenses of general accounting and credit departments
e. Office supplies used
f. Certain taxes
g. Contribution
h. Professional fees
i. Depreciation of office building and office equipment
j. Amortization of intangible assets

Other expenses are those expenses which are not directly related to the selling and
administrative function.

Examples include

a. Loss on sale of trading investments

b. Loss on disposal of property, plant and equipment
c. Loss on sale of non-current investment
d. Casualty loss – flood, earthquake, fire
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Line items

PAS 1, paragraph 82, provides that as a minimum, the income statement and statement of
comprehensive income shall include the following line items:

a. Revenue
b. Gain and loss from the derecognition of financial asset measured at amortized cost as
required by PFRS 9.
c.Finance cost
d.Share in income or loss of associate and joint venture accounted for using the equity method.
e.Gain or loss on the reclassification of financial asset from amortized cost to fair value profit
or loss.
f.Gain or loss on the reclassification of financial asset from fair value other comprehensive
income to fair value profit or loss.
g.Income tax expenses
h.A single amount comprising discontinued operations.
i.Profit or loss for the period.
j.Total other comprehensive income
k.Comprehensive income for the period being the total of profit or loss and other
comprehensive income.

The following items shall be disclosed on the face of the income statement and statement of
comprehensive income.

a.Profit or loss for the period attributable to noncontrolling interest and owners of the parent.
b.Total comprehensive income for the period attributable to noncontrolling interest and owners
of the parent.

Forms of income statement

PAS 1,paragraph 99,provides that an entity shall present an analysis of expenses recognized in
profit or loss using a classification based on either the function of expenses or their nature
within the entity ,whichever provides information that is reliable and more relevant.

The income statement may be presented in two ways,the functional and natural.

Functional presentation

This form classifies expenses according to their function as part of cost of goods
sold,distribution costs,administrative expenses and other expenses.

Natural presentation

The natural presentation is referred to as the nature of expense method.

Under this form,expenses are aggregated according to their nature and not allocated among the
various functions within the entity.

“Functional”income statement

EXAMPLAR COMPANY
Income Statement
Year Ended December 31,2020

Note
Net sales (1) 9,000,000
Cost of goods sold (2) (5,400,000)
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 Gross income 3,600,000
Other income (3) 900,000
Investment income (4) 500,000
Total income 5,000,000

Expenses:
Distribution costs (5)1,350,000
Administrative expenses (6) 1,000,000
Other Expenses (7) 320,000
Finance cost (8) 200,000 2,870,000

Income before tax 2,130,000

Income tax expense 580,000
Net Income 1,550,000

Note 1-Net sales

Gross sales 9,300,000

Sales return and allowance ( 100,000)
Sales discount ( 200,000)
Net sales 9,000,000

Note 2-Cost of goods sold

Inventory,January 1 1,500,000
Purchases 6,000,000
Freight in 300,000
Total 6,300,000
Purchase return and allowance ( 150,000)
Purchase discount ( 250,000) 5,900,000
Goods available for sale 7,400,000
Inventory,December 31 ( 2,000,000)
Cost of Sales 5,400,000

Note 3-Other Income

Interest revenue 180,000

Dividend revenue 120,000
Rent revenue 100,000
Gain from expropriation 500,000
Total 900,000

Note 4-Investment income

Share in net income of associate (25%) 500,000

Note 5-Distribution costs

Sales salaries 600,000

SSS and Philhealth-sales 20,000
Sales commission 180,000
Advertising 100,000
Store supplies expenses 50,000
Delivery expense 250,000
Depreciation-store equipment 150,000
Total distribution costs 1,350,000

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Note 6-Administrative expenses

Office salaries 650,000

SSS and Philhealth-office 30,000
Bonuses 100,000
Office Supplies expenses 70,000
Taxes and licenses 20,000
Doubtful accounts 40,000
Depreciation-office equipment 90,000
Total administrative expenses 1,000,000

Note 7-Other expenses

Loss on sale of investment 30,000

Loss on sale of property 120,000
Casualty loss from earthquake 170,000
Total 320,000

Note 8-Finance cost

Interest expense on bank loan 50,000

Interest expense on bonds payable 150,000
Total finance cost 200,000

“Natural”income statement

EXAMPLAR COMPANY
Income Statement
Year Ended December 31,2020

Note
Net sales (1) 9,000,000
Other income (2) 900,000
Investment income (3) 500,000
Total income 10,400,000

Expenses:

Increase in inventory (4) (500,000)

Net purchases (5)5,900,000
Employee benefit costs (6)1,400,000
Sales commission 180,000
Advertising 100,000
Supplies expense (7) 120,000
Delivery expenses 250,000
Depreciation (8) 240,000
Taxes and licenses 20,000
Doubtful accounts 40,000
Other expenses (9) 320,000
Finance cost (10) 200,000 8,270,000

Income before tax 2,130,000

Income tax expense 580,000
Net income 1,550,000

Note 1-Net sales

Gross sales 9,300,000

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Sales return and allowance ( 100,000)
Sales discount ( 200,000)
Net sales 9,000,000

Note 2-Other income

Interest revenue 180,000

Dividend revenue 120,000
Rent revenue 100,000
Gain from expropriation 500,000
Total 900,000

Note 3-Investment income

Share in net income of associate(25%) 500,000

Note 4-Increase in inventory

Inventory-December 31 2,000,000
Inventory-January 1 1,500,000
Increase in inventory 500,000

Note 5-Net purchases

Purchases 6,000,000
Freight in 300,000
Purchase return and allowance (150,000)
Purchase discount (250,000)
Net purchases 5,900,000

Note 6-Employee benefit costs

Sales salaries 600,000

SSS and Philhealth-sales 20,000
Office salaries 650,000
SSS and Philhealth-office 30,000
Bonuses 100,000
Total employee costs 1,400,000

Note 7-Supplies expense

Store supplies 50,000

Office supplies 70,000
Total supplies expense 120,000

Note 8-Depreciation

Depreciation-store 150,000
Depreciation-office 90,000
Total depreciation 240,000

Note 9-Other expenses

Loss on sale of investment 30,000

Loss on disposal of property 120,000
Casualty loss from earthquake 170,000
Total 320,000
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Note 10-Finance cost

Interest expense on bank loan 50,000

Interest expense on bonds payable 150,000
Total finance cost 200,000

Statement of comprehensive income

The statement of comprehensive income starts with the profit or loss as shown in the income
statement plus or minus the components of other comprehensive.

The purpose of this statement is to provide more comprehensive information on financial

performance measured more broadly than the income as traditionally computed.

EXEMPLAR COMPANY
Statement of Comprehensive Income
Year Ended December 31, 2020

Net income 1,550,000

Other comprehensive income to be reclassified to profit or loss:
Foreign currency translation gain 150,000
Unrealized loss on derivative contract
Designated as cash flow hedge (100,000) 50,000
Comprehensive income 1,600,000

Statement of retained earnings

The statement of retained earnings shows the changes affecting directly the retained earnings of
an entity and relates the income statement to the statement of financial position.

The important data affecting the retained earnings that should be clearly disclosed in the
statement of retained earnings are:

a.Profit or loss for the period

b.prior period errors
c.Dividends declared and paid to shareholders
d.Effect of change in accounting policy
e.Appropriation of retained earnings

Illustration-all amounts are assumed

EXEMPLAR COMPANY
Statement of Retained Earnings
Year Ended December 31,2020

Retained earnings,January 1 1,000,000

Correction of error resulting from prior
Year underdepreciation (100,000)
Change in accounting policy from weighted
Average to FIFO inventory valuation resulting
In an increase 300,000
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Corrected beginning balance 1,200,000
Net income for the period 1,550,000
Dividends declared during the year (400,000)
Appropriated for contingencies (200,000)
Retained earnings,December 31 2,150,000

Statement of Changes in Equity

The statement of changes in equity is a basic statement that shows the movements in the
elements or the components of the shareholder’s equity.

The statement of retained earnings is no longer a required basic statement but it is a part of the
statement of changes in equity.

An entity shall present a statement of changes in equity showing the following:

1. Comprehensive income for the period.

2. For each component of equity,the effects of changes in accounting policies and
corrections of errors.
3. For each component of equity,a reconciliation between the carrying amount at the
beginning and end of the period,separately disclosing changes from:
a. Profit or loss
b. Each item of other comprehensive income
c. Transactions with owners in their capacity as owners showing separately
contributions by and distributions to owners.

EXEMPLAR COMPANY
Statement of Changes in Equity
Year Ended December 31, 2020

Share Capital Reserves Retained earnings

Balances-January 1 5,000,000 2,000,000 1,000,000
Correction of error resulting
from prior year underdepreaciation (100,000)
Change in accounting policy from weighted
Average to FIFO-credit 300,000
Issuance of 10,000 ordinary shares
With 100 par at 150 per share 1,000,000 500,000
Issuance of 5,000 preference shares
With 50 par at 100 per share 250,000 250,000
Comprehensive income:
Net income 1,550,000
Other comprehensive income 50,000
Dividends paid during the year (400,000)
Current appropriation for contingencies 200,000 (200,000)
_______________________________________
Balances-December 31 6,250,000 3,000,000 2,150,0000

Summary:

 The statement of financial performance or income statement is a formal statement

showing the financial performance of an entity for a given period of time.
 The financial performance is also known as the results of operations of the entity.

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  Comprehensive income is the change inequity during a period resulting from transactions
and other events, other than changes in resulting from transactions with owners in their
capacity as owners.
 The statement of comprehensive income starts with the profit or loss as shown in the
income statement plus or minus the components of other comprehensive.
 The statement of retained earnings shows the changes affecting directly the retained
earnings of an entity and relates the income statement to the statement of financial
position.
 Statement of changes in equity is a basic statement that shows the movements in the
elements or components of the shareholders’equity.

Activity 3

Marquez provided the following information for the current year:

Purchases 5,250,000
Purchase returns and allowances 150,000
Rental income 250,000
Selling expenses:
Freight out 175,000
Salesmen’s commission 650,000
Depreciation-store equipment 125,000
Merchandise inventory-January 1 1,000,000
Merchandise inventory-December 31 1,500,000
Sales 7,850,000
Sales returns and allowances 140,000
Sales discounts 10,000
Administrative expenses:
Officers’salaries 500,000
Depreciation-office equipment 300,000
Freight in 500,000
Income tax 250,000
Loss on sale of equipment 50,000
Purchase discounts 100,000
Dividend revenue 150,000
Loss on sale of investment 50,000

Required:

a. Prepare an income statement for the year using the “functional”method with supporting
notes.
b. Prepare an income statement for the year using the “natural”method with supporting
notes.

Activity 4(Multiple choice)

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1. Gabriel Company reported operating expenses in two categories, namely distribution and
administrative. The adjusted trial balance at year-end included the following expense and loss
accounts for current year. One-half of the rented premises is occupied by the sales department.

Accounting and legal fees 1,200,000

Advertising 1,500,000
Freight out 800,000
Interest 700,000
Loss on sale of long-term investment 300,000
Officers’salaries 2,250,000
Rent for office space 2,200,000
Sales salaries and commissions 1,400,000

What amount should be reported as distribution costs?

a.4,800,000
b.4,000,000
c.3,700,000
d.3,600,000

2.Levis Company reported the following data for the current year:

Legal and audit fees 1,700,000

Rent for office equally shared by sales
And accounting 2,400,000
Loss on abandoned data processing equipment 350,000
Interest on inventory loan 2,100,000
Freight in 1,750,000
Freight out 1,600,000
Officers’salaries 1,500,000
Insurance 850,000
Sales representative salaries 2,150,000
Research and development expenses 1,000,000

What amount should be classified as administrative expenses?

a.5,250,000
b.6,450,000
c.5,600,000
d.6,250,000

3.Villanueva company reported net income of P7,410,000 for the current year which included the
following amounts:

Unrealized loss on foreign currency translation (540,000)

Gain on early retirement of bonds payable 2,200,000
Adjustment of profit of profit of prior
Year for error in depreciation,net of tax effect (750,000)
Loss from fire (1,400,000)

What amount should be reported as adjusted net income?

a.6,500,000
b.6,610,000
c.8,160,000
d.8,700,000

4.Quirino Company provided the following information for the current year:

Increase in raw materials inventory 150,000

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Decrease in goods in process inventory 200,000
Decrease in finished goods inventory 350,000
Raw materials purchased 4,300,000
Direct labor payroll 2,000,000
Factory overhead 3,000,000
Freight out 450,000
Freight in 250,000

What is the cost of goods sold for the current year?

a.9,950,000
b.9,550,000
c.9,250,000
d.9,150,000

5.S company reported the following information for the current year.

Ending goods in process 1,000,000

Depreciation on factory building 320,000
Beginning raw materials 400,000
Direct labor 1,980,000
Factory supervisor’s salary 560,000
Depreciation on headquarters building 210,000
Beginning goods in process 760,000
Ending raw materials 340,000
Indirect labor 360,000
Purchases of raw materials 2,300,000

What is the cost of goods manufactured for the current year?

a.5,340,000
b.5,580,000
c.5,550,000
d.5,820,000

References:

 Valix, C. T., Peralta, J.F & Valix C. A. M. (2020). Conceptual Framework

and Accounting Standards. Manila, Philippines: GIC Enterprises & Co..
Inc.
 Ballada, W., & Ballada S. (2020). Conceptual Framework and
Accounting Standards. Manila, Philippines: DomDane Publishers.

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