Fin 1 Module Midterm Coverage

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HOLY CROSS COLLEGE OF CALINAN, INC.

Davao-Bukidnon, National Highway, Calinan, Davao City
FIRST TERM, FIRST SEMESTER

SY 2023-2024
A WORKBOOK IN FIN 1: PREPARATION &

ANALYSIS OF FINANCIAL
STATEMENTS
KISSAH A. NERI, CPA

Instructor
Mobile No.: 09464019370
E-mail add: kissahneri@gmail.com
FB Name: Kissah
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HOLY CROSS COLLEGE OF CALINAN, INC. VISION AND MISSION
VISION
We, a family of evangelizers, inspired by Marie Rivier and her virtues, envision
ourselves as dynamic catalysts who are Christ-centered, Marian in spirituality,
professionally proficient in the context of global standards of excellence, socially
responsive and dedicated to selflessly serve God, the Church and the broader society.
MISSION:
We are a pioneering Catholic educational institution administered by the
Presentation of Mary Sisters:
1. We provide excellent quality formation, education, training and development to the

youth and other sectors to develop competence and character and lifelong learning
skills.
2. We develop mature Christians imbued with Marie Rivier’s virtues of faith, prayer,
compassion, love and zeal to bear witness to Christ in their daily living.
3. We adhere to state-of-the-art pedagogy and relevant technology to enable our
stakeholders meet global standards of excellence.
Individually and collaboratively, we commit to achieve these.
COURSE DESCRIPTION
This course focuses on the preparation, reporting and analysis of the financial
statements. It is an introduction to financial accounting concepts and the communication
of financial information to external users. This includes examination of the accounting
process, transaction analysis, asset and equity accounting, financial statement
preparation and analysis, and related topics.
COURSE OUTLINE
Number of Hours Content

7 Unit 1. Introduction to Financial Statements
The Financial Statement, its Purpose and Objectives
Financial Reporting
General Features of the Financial Statements
Elements of Financial Statements
Users of Financial Statements
10 Unit 2. Statement of Comprehensive Income

Statement of Comprehensive Income Presentation
Income
Expense
Statement of Retained Earnings
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10 Unit 3. Statement of Cash Flows

Statement of Cash Flows Overview
Classification of Cash Flows
Statement of Cash Flow Preparation using the Indirect
Method
10 Unit 4. Statement of Financial Position

The Balance Sheet Presentation
Assets
Liabilities
Equity
7 Unit 5. Notes to Financial Statements

Definition, Purpose and Presentation of Notes
Related Parties
Events after the Reporting Period
Financial Statements Authorized for Issue
10 Unit 6. Analysis of Financial Statement

Introduction to FS Analysis
Horizontal and Trend Analysis
Vertical Analysis
Financial Ratios
Total No. of Hours: 54
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Table of Contents
Unit 1. Introduction to Financial Statements

Lesson 1.1 The Financial Statement, its Purpose and Objectives 1
Lesson 1.2 Financial Reporting 4
Lesson 1.3 General Features of the Financial Statements 6
Lesson 1.4 Elements of Financial Statements 10
Lesson 1.5 Users of Financial Statements 16
Unit 2. Statement of Comprehensive Income

Lesson 2.1 Statement of Comprehensive Income Presentation 21
Lesson 2.2 Income 26
Lesson 2.3 Expense 28
Lesson 2.4 Statement of Retained Earnings 33
Unit 3. Statement of Cash Flows

Lesson 3.1 Statement of Cash Flows Overview 41
Lesson 3.2 Classification of Cash Flows 43
Lesson 3.3 Statement of Cash Flow Preparation using the Indirect
Method 48
Unit 4. Statement of Financial Position

Lesson 4.1 The Balance Sheet Presentation
Lesson 4.2 Assets
Lesson 4.3 Liabilities
Lesson 4.4 Equity
Unit 5. Notes to Financial Statements

Lesson 5.1 Definition, Purpose and Presentation of Notes
Lesson 5.2 Related Parties
Lesson 5.3 Events after the Reporting Period
Lesson 5.4 Financial Statements Authorized for Issue
Unit 6. Analysis of Financial Statement

Lesson 6.1 Introduction to FS Analysis
Lesson 6.2 Horizontal and Trend Analysis
Lesson 6.3 Vertical Analysis
Lesson 6.4 Financial Ratios
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Suggested time allotment: 6 hours

UNIT
1 INTRODUCTION TO FINANCIAL STATEMENTS
TARGET GOAL FOR THE UNIT

o Show the use, recognition and measurement of the financial information. (AP)
VALUES DESIRED: Openness and Perseverance
LESSON 1.1 THE FINANCIAL STATEMENT, ITS PURPOSE AND OBJECTIVES
I. LEARNING OUTCOMES
• Define financial statement. (R)
• Identify the components of a complete set of financial statement. (R)
• Discuss the purpose and objectives of financial statements. (U)
II. INPUT
Financial Statement Definition
Valix, Peralta and Valix (2012) defined financial statement as:

• the means by which the information accumulated and processed in financial
accounting is periodically communicated to the users.
• the end product or main output of the financial accounting process.
• structured representation of the financial position and financial performance of an
entity.
What is a ‘General Purpose Financial Statements’?
“General purpose” financial statements are those statements intended to meet the
needs of users who are not in a position to require an entity to prepare reports tailored to
their particular information needs.
Philippine Accounting Standard (PAS) 1 prescribes the basis for the preparation
of “general purpose” financial statements to ensure comparability both with the entity’s
financial statements of previous periods and with the financial statements of other entities.
Components of Financial Statements
A complete set of financial statements comprises the following components:

1. Statement of financial position
2. Statement of comprehensive income
3. Statement of changes in equity
4. Statement of cash flows
5. Notes, comprising a summary of significant accounting policies and other
explanatory information.
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Many entities also present reports and statements such as environmental reports
and value-added statements, particularly in industries in which environmental factors are
significant and when employees are regarded as an important user group. However, such
statements and reports are NOT components of financial statements and therefore
OUTSIDE of the scope of Philippine Financial Reporting Standards (PFRS).
Objective of Financial Statements
The objective of general purpose 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 also show the results of the management’s stewardship of
the resources entrusted to it.
To meet this objective, financial statements provide information about the

following:
a. Assets
b. Liabilities
c. Equity
d. Income and expenses, including gains and losses
e. Contribution by and distributions to owners in their capacity as owners
f. Cash flows
Such information, along with other information in the notes, would assist users of
financial statements in predicting the entity’s cash flows and in particular their timing and
certainty. However, financial statements DO NOT PROVIDE ALL THE INFORMATION
THAT USERS MAY NEED to make economic decisions since they largely portray the
financial estimates.
1. Financial Position
o The financial position of an entity comprises its assets, liabilities and
equity at a particular moment in time.
o Financial position pertains to the liquidity, solvency, and the need of the
entity for additional financing. This is pictured in the statement of financial
position.
2. Financial Performance
o It comprises of revenue, expenses and net income or loss for a period of
time.
o Performance is the level of income earned by the entity through the efficient
and effective use of its resources.
o The financial performance of an entity is also known as result of operations
and is portrayed in the income statement and statement of
comprehensive income.
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3. Cash Flows
o Cash flows are the cash receipts and cash payments arising from the
operating, investing and financing activities of the entity. This information
is presented in the statement of cash flows.
o Cash flow information is useful in assessing the ability of the entity to
generate cash and cash equivalents.
Responsibility for Financial Statements
• The management of an entity has the primary responsibility for the preparation and
presentation of its financial statements.
• The Board of Directors in discharging its responsibilities reviews and authorizes
the financial statements for issue before there are submitted to the shareholders
of the entity.
Accountability of Management
• Management is accountable for the safekeeping of the entity’s resources and for
their proper, efficient and profitable use.
• Shareholders are interested in information that helps them assess how effectively
management has fulfilled this role as this is relevant to the decision concerning
their investment and the reappointment or replacement of management.
PRACTICE EXERCISE
I. Choose the letter of the correct answer.

1) Which of the following is not included in the complete set of financial statements?
a. Statement of financial position, statement of comprehensive income and
statement of cash flows.
b. Statement of changes in equity.
c. Notes, comprising a summary of significant accounting policies and other
explanatory information.
d. Reports and statements such as environmental reports and value-added
statements. (correct answer)
2) What is the objective of the financial statements?

a. To provide information about the financial position, financial performance
and changes in cash flows of an entity that is useful to wide range of users
in making economic decisions. (correct answer)
b. To prepare and present a statement of financial position, statement of
comprehensive income, statement of cash flows and statement of changes
in equity.
c. To prepare and present relevant, reliable, comparable and understandable
information to investors and creditors.
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d. To prepare and present financial statements in accordance with all

applicable PFRS and interpretations.
3) Which of the following is not a component of the financial statements?

a. Statement of financial position
b. Statement of changes in equity
c. Board of directors’ report (correct answer)
d. Notes to financial statements
4) Which of the following statement is true concerning the objective of financial

statements?
I. Financial statements do not provide all the information that users may need
to make economic decisions since they largely portray the financial effects
of past events and do not necessarily provide nonfinancial information.
II. Financial statements show the results of the stewardship of management
or the accountability of management for the resources entrusted to it.
a. I only
b. II only
c. Both I and II (correct answer)
d. Neither I and II
5) Which of the following is included in a complete set of financial statements?

a. A statement by the board of directors of compliance with local legislation
b. A statement of changes in equity (correct answer)
c. Summarized statements of financial position for the last five years
d. Value-added statement
II. Essay
Explain the concept of a general purpose financial statement. (5pts)
________________________________________________________________
________________________________________________________________
________________________________________________________________
________________________________________________________________
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LESSON 1.2 FINANCIAL REPORTING
• Discuss the nature and objectives of financial reporting. (U)
• Point out the limitations of financial reporting. (AP)
II. INPUT
Financial Reporting
Valix, Peralta and Valix (2012) provide the following discussion about FINANCIAL
REPORTING:
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• Financial reporting is the provision of financial information about an entity to

external users that is useful to them in making economic decisions and for
assessing the effectiveness of the entity’s management.
• It encompasses not only financial statements but also other means of
communicating information that relates directly or indirectly to the financial
accounting process.
• The principal way of providing financial information to external users is through the
annual financial statements.
• Financial reports include not only financial statements but also other information
such as financial highlights, summary of important financial figures, analysis of
financial statements and significant ratios.
• It also includes nonfinancial information such as description of major products and
a listing of corporate officers and directors.
Objective of Financial Reporting
Under the Conceptual Framework for Financial Reporting, the objective of financial
reporting is to provide financial information about the reporting entity that is useful to
existing and potential investors, lenders and other creditors in making decisions about
providing resources to the entity. Simply stated, the overall objective of financial reporting
is “to provide information that is useful for decision making”.
General purpose financial reporting is directed primarily to the existing and

potential investors, lenders and other creditors which compose the primary user group.
Specific Objectives of Financial Reporting
Specifically, the Conceptual Framework for Financial Reporting states the

following objectives of financial reporting:
a. To provide information useful in making decisions about providing resources to the
entity.
b. To provide information useful in assessing the prospects of future net cash flows
to the entity.
c. To provide information about entity resources, claims and changes in resources
and claims.
Limitations of Financial Reporting
1. General purpose financial reports DO NOT AND CANNOT PROVIDE ALL OF THE
INFORMATION that existing and potential investors, lenders and other creditors
need.
- These users to consider pertinent information from other sources, for example,
general economic conditions, political events and industry outlook.
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2. General purpose financial reports ARE NOT DESIGNED TO SHOW THE VALUE
OF A REPORTING ENTITY but they provide information to help the primary users
estimate the value of the reporting entity.
- It is intended to provide common information to users and cannot
accommodate every specific request for information. To a large extent, financial
reports are based on estimate and judgment rather than exact depictions.
PRACTICE EXERCISE
Provide examples or scenarios that show the limitations of financial reporting.
1. _________________________________________________
2. _________________________________________________
3. _________________________________________________
LESSON 1.3 GENERAL FEATURES OF THE FINANCIAL STATEMENTS
• Discuss the general features of the financial statements. (U)
II. INPUT
The general features in the preparation and presentation of financial statements are
the following:
1. Fair presentation and compliance with PFRS (Philippine Financial Reporting
Standard)
2. Going concern
3. Accrual basis
4. Materiality and aggregation
5. Offsetting
6. Frequency of reporting
7. Comparative information
8. Consistency of presentation
1. Fair Presentation and Compliance with PFRS
Under International Accounting Standards (IAS) 1, ‘Fair presentation requires the

faithful representation of the effects of transactions, other events and conditions in
accordance with the definitions and recognition criteria for assets, liabilities, income and
expenses set out in the IASB Framework.
Under IAS 1:
• When the financial statements of an entity fully comply with International Financial
Reporting Standards, this should be disclosed.
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• Financial statements should not be described as compliant with IFRSs unless they
comply with all of the International Financial Reporting Standards.
What does Faithful Representation mean?

• Faithful representation means more than that the amounts in the financial
statements should be materially correct.
• The information should present clearly the transactions and other events that it is
intended to represent.
• he financial information must account for transactions and other events in a way
that reflects their true substance and economic reality, their commercial impact,
rather than their strict legal form.
• If there is a difference between substance and legal form, the financial information
should represent the economic substance.
- An example of this is when a company enters into a finance lease, the
substance of the transaction requires the entity to record an asset in its financial
statements and a corresponding liability for the lease payments due.
• Faithful representation also requires the presentation of financial information in a
way that is not misleading to users, and that important information is not concealed
or obscured as this may be misleading.
2. Going Concern
The going concern basis of accounting is the assumption in preparing the financial
statements that an entity will continue in operation for the foreseeable future and does
not plan to go into liquidation and will not be forced into liquidation or to curtail its
operations.
If such an intention or need exists, the financial statements may have to be

prepared on a different basis and, if so, the basis used is disclosed. The going concern
assumption is very important for the valuation of assets, as they may require valuation on
a break-up basis if the company will cease trading.
3. Accrual Basis
• Under the accrual basis, the effects of transactions and other events are
recognized when they occur, and not as cash is received or paid.
• Under the accruals basis, events are recorded in the accounting records and
reported in the financial statements of the periods to which they relate.
• Financial statements prepared on the accrual basis inform users not only to past
transactions when cash was paid or received but also of obligations to pay cash in
the future and of cash or its equivalents to be received in the future.
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4. Materiality and Aggregation
Information is material if omitting, misstating or obscuring it could reasonably be

expected to influence decisions that the primary users of general purpose financial
statements make on the basis of those financial statements, which provide financial
information about a specific reporting entity.
Each material class of similar items must be presented separately in the financial
statements. Dissimilar items may be aggregated only if they are individually immaterial.
However, information should not be obscured by aggregating or by providing

immaterial information, materiality considerations apply to the all parts of the financial
statements, and even when a standard requires a specific disclosure, materiality
considerations do apply.
5. Offsetting
Assets and liabilities, and income and expenses, may not be offset unless required
or permitted by an IFRS.
6. Frequency of Reporting
There is a presumption that financial statements will be prepared at least annually.

If the annual reporting period changes and financial statements are prepared for a
different period, the entity must disclose the reason for the change and state that amounts
are not entirely comparable.
7. Comparative Information
IAS 1 requires that comparative information to be disclosed in respect of the

previous period for all amounts reported in the financial statements, both on the face of
the financial statements and in the notes, unless another Standard requires otherwise.
Comparative information is provided for narrative and descriptive where it is relevant to
understanding the financial statements of the current period.
An entity is required to present at least two of each of the following primary financial
statements:
➢ statement of financial position*
➢ statement of profit or loss and other comprehensive income
➢ separate statements of profit or loss (where presented)
➢ statement of cash flows
➢ statement of changes in equity
➢ related notes for each of the above items
*A third statement of financial position is required to be presented if the entity

retrospectively applies an accounting policy, restates items, or reclassifies items, and
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those adjustments had a material effect on the information in the statement of financial
position at the beginning of the comparative period.
8. Consistency of Presentation
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.
PRACTICE EXERCISE
Choose the letter of the correct answer.

1. A fair presentation also required an undertaking to:
I. Select policies in accordance with IAS 8
II. Provide relevant, reliable, comparable and understandable information
III. Provide additional disclosures
IV. Provide an audit report
a. II only
b. I and II only
c. I, III, and IV only
d. I, II, and III only (correct answer)
2. Accounts produced on a going concern basis suggest that the business will
continue in operation for:
a. The foreseeable future (correct answer)
b. Six months
c. One year
d. Five years
3. In June, you pay factory rent relating to October, November, and December. You
expense rent in:
a. End of December
b. June
c. October
d. Spread it over October, November, and December (correct answer)
4. Consistency entails:
a. The ability to compare the figures of different periods. (correct answer)
b. No changes in accounting policies.
c. No new standards being introduced.
d. All of the above.
5. Assets and liabilities must be presented in the Statement of Financial Position:

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a. Broadly in order of liquidity

b. Split into current and non-current
c. Either of other two options can be used (correct answer)
d. Neither of other two options can be used
6. The judgment on whether additional items are presented separately is based on

an assessment of:
I. The nature and liquidity of assets
II. The function of assets
III. The amount, nature and timing of liabilities
IV. The space available in the financial statements
a. I, III and IV only
b. I, II and IV only
c. II, III and IV only
d. I, II and III only (correct answer)
7. The Statement of Changes in Equity links:

a. The notes to equity movements
b. The cash flow statement to equity movements
c. The statement of comprehensive income to equity movements (answer)
d. All of the above
LESSON 1.4 ELEMENTS OF FINANCIAL STATEMENTS
• Determine the elements of the financial statements. (R)
• Explain how elements are recognized and measured in the financial statement. (U)
II. INPUT
Valix et. al (2012) mentioned that the elements of financial statements are the
“building blocks” in the construction of the financial statements. The elements of FS are
further described in the following statements:
• The quantitative information shown in the statement of financial position and

income statement.
• The elements directly related to the measurement of financial position are assets,
liabilities and equity.
• The elements related to the measurement of financial performance are income
and expenses.
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Definition of Terms
Assets
➢ are resources controlled by the entity as a result of past transactions or events and
from which future economic benefits are expected to flow to the entity
Liabilities
➢ present obligations of the entity arising from past transactions or events. The
settlement of which is expected to result in an outflow from the entity of resources
embodying economic benefits
Equity
➢ the residual interest in the assets of the entity after deducting all of its liabilities
Income
➢ an increase in economic benefit during the accounting period in the form of inflow
or increase in asset or decrease in liability that results in increase in equity, other
than contribution from equity participants
Expense
➢ a decrease in economic benefit during the accounting period in the form of an
outflow or decrease in asset or increase in liability that results in decrease in equity,
other than distribution to equity participants
Recognition of Elements
Recognition is the process of reporting an asset, liability, income or expense on

the face of the financial statements of an entity. This involves the inclusion of peso
amount in the entity’s financial statements.
An item or account title in the elements of FS shall be recognized if:

I. It is probable that any future economic benefit associated with the item will flow to
or from the entity.
II. The item has a cost or value that can be measured with reliability.
1. Asset Recognition Principle

An asset is recognized when it is probable that future economic benefits
will flow to the entity and the asset has a cost or value that can be measured
reliably.
The conditions that should be met in the recognition of asset:
a. It is probable that future economic benefits will flow to the entity.
The term “probable” means that the chance of the future economic benefit
arising is more likely rather than less likely.
b. The cost or value of the asset can be measured reliably.
c.
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2. Liability Recognition Principle

A liability is recognized when it is probable that an outflow of resources
embodying economic benefits will be required for the settlement of a present
obligation and the amount of the obligation can be measured reliably.
The conditions that should be met in the recognition of asset:
a. It is probable that an outflow of economic benefits will be required for the
settlement of a present obligation.
b. The amount of obligation can be measured reliably.
3. Income Recognition Principle

• The basic principle is that “income shall be recognized when earned”.
• Recognized when it is probable that an increase in future economic benefits
related to an increase in an asset or a decrease in a liability has arisen and
that the increase in economic benefits can be measured reliably.
• Two conditions must be present for the recognition of income
a. It is probable that future economic benefits will flow to the entity as a
result of an increase in an asset or a decrease in a liability.
b. The economic benefits can be measured reliably
When is income considered to be EARNED?

• POINT OF SALE determines the income recognition.
o The reason is that it is at the point of sale that the entity has
transferred to the buyer the significant risks and rewards of
ownership of the goods.
o Legal title to the goods passes to the buyer at the point of sale.
o The point of sale is usually the point of delivery, which may be actual
or constructive delivery (check Law on Obligations and Contracts regarding
actual and constructive delivery).
3.1 Revenue from Sale of Goods

PAS 18, par. 14, provides the following conditions for the recognition of
revenue from sale of goods:
a. The entity has transferred to the buyer the significant risks and rewards of
ownership of the goods.
b. The entity retains neither continuing managerial involvement nor effective
control over the goods sold.
c. The amount of revenue can be measured reliably.
d. It is probable that economic benefits associated with the transaction will
flow to the entity.
e. The costs incurred or to be incurred in respect of the transaction can be
measured reliably
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3.2 Revenue from Rendering of Services

PAS 18, par. 19, provides the following conditions for the recognition of
revenue from rendering of services:
a. The amount of revenue can be measured reliably.
b. It is probable that the economic benefits associated with the transaction
will flow to the entity.
c. The stage of completion of the transaction at the end of reporting period
can be measured reliably.
d. The costs incurred for the transaction and the costs to complete can be
measured reliably.
3.3 Revenue from Interest, Royalties and Dividends

• Interest revenue – shall be recognized on a time proportion basis that takes
into account the effective yield on the asset.
• Royalties – shall be recognized on an accrual basis in accordance with the
substance of the relevant agreement.
• Dividends – shall be recognized as revenue when the shareholder’s right to
receive payment is established, meaning, when the dividends are declared.
3.4 Other Income Recognition

• Installation fees – recognized was revenue over the period of installation by
reference to the stage of completion.
• Subscription revenue – should be recognized on a straight-line basis over
the subscription period.
• Admission fees – recognized as revenue when the event takes place.
• Tuition fees – recognized as revenue over the period in which tuition is
provided
4. Expense Recognition Principle

• Expenses are recognized when incurred
• The conceptual framework provides that “expenses are recognized when it
is probable that a decrease in future economic benefits related to decrease
in an asset or an increase in liability has occurred and that the decrease in
economic benefits can be measured reliably”.
• Two conditions must be present for the recognition of expenses:
a. It is probable that a decrease in future economic benefits has occurred
as a result of a decrease in an asset or an increase in a liability.
b. The decrease in economic benefits can be measured reliably.
Matching Principle
• The expense recognition is the application of the matching principle.
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• According to Ben Franklin, “there is no gain if there is no pain”. Hence, the

matching principle required that “those costs and expenses incurred in
earning a revenue shall be reported in the same period”.
• The matching principle has three applications, namely:
a. cause and effect association
b. systematic and rational allocation
c. immediate recognition.
Cause and Effect • The expense is recognized Examples:

Association when the revenue is already • Inventory
recognized. • Doubtful accounts
• Called as the “strict • Warranty expense
matching concept”.
• This process is commonly
referred to as the matching
of costs with revenue,
involves the simultaneous or
combined recognition of
revenue and expenses that
result directly and jointly
from the same transactions
or other events.
Systematic and • Some costs are expensed by Examples:

Rational Allocation simply allocating them over • Depreciation of PPE
the periods benefited. • Amortization of
intangibles
• Allocation of rent
• Insurance
• Other prepayments
and deferred charges
Immediate • The cost incurred is Examples:
Recognition expensed outright because • Officers’ salaries and
of uncertainty of future most administrative
economic benefits or expense
difficulty or reliably • Advertising and most
associating certain costs selling expenses
with future revenue. • Amount to settle
• This principle reflects a lawsuit
conservative or prudent • Worthless intangibles
approach which is the • Losses (e.g. from sale
accountant’s general guide of investments, and
for dealing with uncertain casualty loss) are
situations. immediately
recognized because
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• An expense is recognized they are not directly

immediately: related to specific
• revenue.
a. When an expenditure
produces no future
economic benefits.
b. When future economic
benefits do not qualify or
cease to qualify for
recognition as an asset in
the statement of financial
position.
Measurement of Elements
Measurement is the process of determining the monetary amounts at which the

elements of financial statements are recognized and carried in the statement of financial
position and income statement.
The measurement bases or financial attributes include historical cost, current cost,
realizable value and present value.
1. Historical Cost ➢ The amount of cash or cash equivalent paid or the fair
value of the consideration given to acquire an asset at the
time of acquisition
➢ It is also known as “past purchase exchange price”.
➢ The measurement basis most commonly adopted by
entities in preparing their financial statements.
2. Current Cost ➢ The amount of cash or cash equivalent hat would have to
be paid if the same or an equivalent asset was acquired
currently.
➢ It is also known as “current purchase exchange price”.
3. Realizable Value ➢ The amount of cash or cash equivalent that could currently
be obtained by selling the asset in an orderly disposal.
➢ This is also known as “current sale exchange price” or “exit
value”.
4. Present Value ➢ The discounted value of the future net cash inflows that
the item is expected to generate in the normal course of
business.
➢ This is also known as “future exchange price”.
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PRACTICE EXERCISE
I. Determine what elements in the FS are the following account titles given. Write A for
Assets, L for Liabilities, E for Equity, I for Income and EXP for Expense.
Account titles Classification

1 Accounts payable
2 Accrued salaries expense
3 Advertising expense
4 Allowance for doubtful accounts
5 Building
6 Common stock
7 Doubtful accounts
8 Finance charge
9 Gain on sale of land
10 Inventory
11 Losses due to flood
12 Marketable securities
13 Retained earnings
14 Sales
15 Unearned revenue
II. Answer the questions of the given situation below.
1. Losses due to embezzlement. What recognition will be used for the losses?
Ans: ______________________________
2. The company purchased a second-hand vehicle with a remaining useful life of 5
years. The original price of the vehicle was P700,000. The company bought it at
half the price this year.
2.1 What recognition will be used for the vehicle? ________________
2.2 What recognition will be used for the depreciation? ________________
2.3 What measurement will be used for the vehicle? ________________
2.4 At what amount will the vehicle be recorded in the books of the company?
________________
LESSON 1.5 USERS OF FINANCIAL STATEMENTS
• Determine the users of financial statements. (AP)
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II. INPUT
Users of Financial Statements
Under the conceptual framework for Financial Reporting, the users of financial
information may be classified into two, namely primary users and other users.
• Primary Users – include the existing and potential investors, lenders and other
creditors.
• Other users – include the employee, customers, governments and their agencies,
and the public.
Primary Users
The primary users of financial information are the parties to whom general purpose
financial reports are primarily directed. The primary users and their information needs are:
1. Existing and potential investors

➢ are concerned with the risk inherent in and return provided by their
investments. The investors need information to help them determine
whether they should by, hold or sell. Shareholders are also interested in
information which enables them to assess the ability of the entity to pay
dividends.
2. Lenders and other creditors

➢ Existing and potential lenders and other creditors are interested in
information which enables them to determine whether their loans, interest
thereon and other amounts owing to them will be paid when due.
Other Users
By residual definition, “other users” are users of financial information other than
the existing and potential investors, lenders and other creditors.
1. Employees
➢ Employees are interested in information about the stability and profitability
of the entity. Specifically, they are interested in information which enables
them to assess the ability of the entity to provide remuneration, retirement
benefits and employment opportunities.
2. Customers
➢ Customers have an interest in information about the continuance of an
entity especially when they have a long-term involvement with or are
dependent on the entity.
3. Governments and their agencies

21
➢ Governments and their agencies are interested in the allocation of

resources and therefore the activities of the entity. These users require
information to regulate the activities of the entity, determine taxation policies
and as a basis for national income and similar statistics.
4. Public
➢ Entities affect members of the public in various ways. For example, entities
make substantial contribution to the local economy in many ways including
the number of people they employ and their patronage of local suppliers.
PRACTICE EXERCISE
Choose the letter of the correct answer.

1. Which of the following information is particularly useful to shareholders?
a. Tax records for the past five years.
b. Financial statements for the past five years
c. Bank statements
d. Budgets for the coming financial year
2. Which of the following are potential users of FS?
a. Bank
b. Shareholders
c. Government
d. All of the above
3. Why do creditors check on financial information?
a. Assess if the business is creditworthy
b. Check company disclosures
c. Invest in the business
d. None of the above
22
ASSESSMENT # 1
INTRODUCTION TO FINANCIAL STATEMENTS
Name:______________________________ Program/Year:____________________
Subject: FIN 1: Prep. & Analysis of FS Student’s Contact Number:__________
Name of the Instructor: Kissah A. Neri, CPA
I. MULTIPLE CHOICE. Choose the letter of the correct answer. (5pts)

1. Which of the following is not the information provided by the financial statements?
a. Assets, liabilities and equity
b. Income and expenses, including gains and losses
c. Contributions by and distribution to owners in their capacity as owners
d. Nature of the entity’s business activities
2. Who has the responsibility for the preparation and presentation of the financial
statements of entity?
a. Management of the entity
b. Internal auditor
c. External auditor
d. Controller
3. Which of the following statements is true concerning the preparation of financial

statements?
I. An entity shall prepare financial statements on a going concern basis unless
management either intends to liquidate the entity or to cease trading or has
no realistic alternative but to do so.
II. An entity shall prepare its financial statement except for cash flow
information using the accrual basis of accounting.
a. I only
b. II only
c. Both I and II
d. Neither I and II
4. What is the basis for materiality?

a. The nature of the omission or misstatement.
b. The size of the omission or misstatement.
c. The size and nature of the omission or misstatement judged in the
surrounding circumstances.
d. The judgment of management.
5. The primary focus of financial reporting has been on meeting the needs of which
of the following groups?
a. Manager of an entity
b. Existing and potential creditors, lenders and other creditors
c. National and local taxing authorities
d. Independents CPAs
23
II. INFOGRAPHIC POSTER

In a short size bond paper, make an infographic poster showing information
regarding financial statements. Include in the poster on how important financial
information to an entity and other users. Make sure to include the following in the poster:
1. Short definition of Financial Statements

2. Elements of FS
3. Recognition principles and measurements used in FS preparation
4. Users of FS.
Your work will be rated based on rubric #1 presented in the appendix.
For your reference, here is the sample infographic poster:

24

UNIT
2 STATEMENT OF COMPREHENSIVE INCOME

o Prepare the statement of comprehensive income. (C)
VALUES DESIRED: Perseverance and Patience
LESSON 2.1 STATEMENT OF COMPREHENSIVE INCOME PRESENTATION
• Describe the comprehensive income. (R)
• Explain the income statement presentation. (U)
II. INPUT
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. Accordingly, comprehensive income includes the
following:
1. Components of profit or loss
2. Components of other comprehensive income
Profit or Loss
• is the total of income less expenses, excluding the components of other
• This is the “bottom line” in the traditional income statement.
• An entity may use other terms to describe this amount as long as the meaning is
clear. For example, an entity may use net income or net loss to describe profit or
loss.
Other Comprehensive Income
Other comprehensive income comprises items of income and expense including

reclassification adjustments that are not recognized in profit or loss as required or
permitted by Philippine Financial Reporting Standards.
The components of other comprehensive income include the following:
1. Unrealized gain or loss on investments in equity instruments measured at fair value

through other comprehensive income.
2. Gain or loss from translating the financial statements of a foreign operation.
3. Change in revaluation surplus.
4. Unrealized gain or loss from derivative contracts designated as cash flow hedge.
25
5. Re-measurements of defined benefit liabilities, such as actuarial gain and loss, the
difference between actual return on plan assets and interest income unfair value
of plan assets and changing the effect of the asset ceiling.
Presentation of Comprehensive Income
PAS 1, paragraph 81, provides that an entity has two options of presenting
comprehensive income, namely:
1. Two-statement approach
a. An income statement 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 approach

This is the combined statement showing the components of profit or loss and
components of other comprehensive income in a single statement of comprehensive
income.
Reclassification Adjustments
• These are amounts reclassified to profit or loss in the current period that were
recognized in other comprehensive income in the current or previous periods.
• An entity shall recognize all items of income and expense during a period in profit
or loss unless a PFRS requires or permits otherwise. (PAS 1, par. 88)
• However, PAS 8 specifies two circumstances, namely the correction of errors
and the effect of changes in accounting policies, which are recognized outside
of profit or loss.
- The two items are accounted for as adjustment of the beginning balance of
retained earnings.
See sample two-statement and single statement approach in this link

https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=web&cd=&cad=rja&uact=
8&ved=2ahUKEwjEkK_4xajyAhXNLqYKHYtqBcYQFnoECAMQAQ&url=http%3A%2F
%2Fwww.focusifrs.com%2Fcontent%2Fdownload%2F5406%2F28207%2Fversion%2
F1%2Ffile%2FModule05_version2010_1SOCI.pdf&usg=AOvVaw2ZsT-
xv_43kD554LRdxyFF
Income Statement
An income statement is a formal statement showing the financial performance of

an entity for a period of time.
• Financial performance
26
- is primarily measured in terms of the level of income earned by the entity

through the effective and efficient utilization of its resources. The financial
performance is also known as the results of operations.
- It is also known as the results of operations.
• The income statement for a period presents the income, expenses, gains, losses
and net income or loss recognized during the period and thereby presents an
indication in conformity with PFRS of the results of the entity's profit-directed
activities during the period.
• The income statement is prepared “for a period of time”. In other words, a period
must expire before the financial performance of an entity can be properly
measured.
For example, if an entity commences operations on January 1, 2021,

a statement of financial position can be prepared on such date.
An income statement cannot be prepared as yet because the entity

has not been in operation for a “period of time”.
Thus, by December 31, 2021, an income statement can now be

prepared since the entity as already been in operations for 12 months. The
income statement will be “for the year ended December 31, 2021”.
• Information about the financial performance of an entity, in particular its

profitability, is useful in predicting the capacity of the entity to generate cash flows
from its existing resources.
Line items
PAS 1, paragraph 82, provides that as a minimum, the income statement and
statement of comprehensive income shall include the line items which present the
following amounts:
a. Revenue
b. Gain or loss from the recognition of financial assets measured at amortized cost
as required by PFRS 9
c. Finance cost – interest expense
d. Share of income or loss of associate and joint venture accounted for using the
equity method
e. Income tax expenses
f. A single amount comprising the total of discontinued operations
g. Profit or loss for the period
h. Total of other comprehensive income
27
i. Comprehensive income for the period being the total of profits or loss and other
comprehensive income
Forms of Income Statement
1. Functional presentation
- The functional presentation is that traditional in common form of income
statement.
- It is also known as the cost of sales method.
- This form classifies expenses according to their function as part of cost of sales,
distribution costs, administrative activities and other activities.
2. Natural presentation
- This presentation is referred to as the nature of expense method.
- Expenses are aggregated according to their nature and not allocated among
the various functions within the entity.
- The natural expenses are no longer classified as cost of sales, distribution
costs, administrative and other activities.
- The expenses which are of the same nature are grouped or aggregated and
presented as one item.
Sample and pro-forma of financial statements are uploaded in this link

https://bit.ly/3ggNoR3.
Which Form of Income Statement must be followed?

• PAS 1 DOES NOT prescribe any format.
• Each method of presentation has merit for different types of entities, management
is required to select the presentation that is reliable and more relevant.
• The COST OF SALES method usually would provide more relevant information to
the users.
STATEMENT OF COMPREHENSIVE INCOME
As stated earlier, in addition to the income statement, a statement of

comprehensive income is also prepared in order to show the total comprehensive income.
• It starts with the net income or loss as shown in the income statement plus or minus
the components of other comprehensive income.
• The purpose of this statement is to provide a more comprehensive information on
financial performance measured more broadly than the income as traditionally
computed.
• See illustration in the next page:

28
EXEMPLAR COMPANY
Statement of Comprehensive Income
Year ended December 31, 2012
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
Explanation:
• Comprehensive income includes the net income or loss for the period plus or
minus the components of other comprehensive income.
• However, the comprehensive income of P1,600,000 is NOT carried to retained
earnings.
• Only the net income of P1,550,000 is included in the determination of RETAINED
EARNINGS UNAPPROPRIATED.
• The net other comprehensive income of P50,000 is carried to “reserves” or shown
separately in the statement of changes in equity.
See sample Single Statement of Comprehensive Income in this link:

https://bit.ly/3ggNoR3.
PRACTICE EXERCISE
MULTIPLE CHOICE. Choose the letter of the correct answer.
1. It is the change in equity during a period from transactions and other events, other
than changes resulting from transactions with owners in their capacity as owners.
a. Comprehensive income (ANSWER)
b. Other comprehensive income
c. Profit or loss
d. Retained earnings.
2. It is the total of income less expenses, excluding the components of other
a. Comprehensive income
b. Profit or loss
c. Accounting income
d. Economic income
29
3. This term comprises items of income and expense including reclassification

adjustments that are not recognized in profit or loss as required or permitted by
PFRS.
a. Comprehensive income
b. Other comprehensive income
c. Profit or loss
d. Retained earnings
4. Comprehensive income includes:
a. Profit or loss only
b. Other comprehensive income only
c. Both profit or loss and other comprehensive income
d. Neither profit or loss nor other comprehensive income
5. These are amounts reclassified to profit or loss in the current period that were
recognized in other comprehensive income in the current or previous period.
a. Prior period errors
b. Reclassification adjustments
c. Unusual and irregular items
d. Correcting entries
ESSAY:
What is the purpose of reporting comprehensive income?
______________________________________________________________________
______________________________________________________________________
______________________________________________________________________
______________________________________________________________________
LESSON 2.2 INCOME
• Determine the composition of income. (R)
• Compute for the gross income for the period. (AP)
II. INPUT
INCOME
• The conceptual framework defines income as increase in economic benefit during

the accounting period. In the form of inflow or increase in asset or decrease in
liability that results in increase in equity, other than contribution from equity
participants.
• Income is inflow of future economic benefit that increases equity, other than
contribution by owners.
Sources of Income
30
1. Sales of merchandise to customers

2. Rendering of services
3. Use of entity resources - Interest, rent, royalty and dividend income.
4. Disposal of resources other than products
- examples include gain on sale of investments, gain on sale of property, plant
and equipment and gain on sale of intangible assets
Distinction between Income and Revenue
Income Revenue Gain

• Encompasses both • Arises in the course of • Represent other
revenue and gains. the ordinary regular items that need the
• The sales of activities of an entity. definition of income
merchandise to • Referred to by variety of and do not arise in
customers and the different names the course of
revenue from rendering including: ordinary regular
of services are the - Sales activities of an entity.
principal income of the - Fees
entity. - Interest
• The income from use of - Dividends
entity resources and - Royalties
disposal of other - Rent
resources is known as
other income.
- Other income
represents the
revenue and
gains from
peripheral or
incidental
transactions of
the entity.
PRACTICE EXERCISE
1. The balances of selected accounts of ABC Company and pertinent information for
the current year are as follows:
Inventory, January 1 2,000,000
Purchases 7,500,000
Purchase returns and allowances 500,000
Sales returns and allowances 750,000
Inventory at December 31 2,800,000
31
Gross profit rate on net sales 20%
What is the amount of gross sales for the current year?

a. 7,750,000 c. 7,000,000
b. 8,500,000 d. 9,125,000
LESSON 2.3 EXPENSE
• Determine the composition of expense. (R)
• Compute the expenses for the period. (AP)
II. INPUT
EXPENSE
• Under the conceptual framework, expense is defined as decrease in an economic

benefit during the accounting period in the form of outflow or decrease in asset
and increase in liability that results in decrease in equity, other than distribution to
equity participants.
• Expenses outflow our future economic benefit that decreases equity, other than
distribution or dividend paid to owners.
• Expenses include the following:
1. Cost of sales or cost of goods sold
2. Distribution costs or selling expenses
3. Administrative expenses
4. Other expenses
5. Income tax expense
Sample COST OF SALES COMPUTATION for a merchandising entity:
Beginning inventory 500,000

Add: Net purchases 2,000,000
Goods available for sale 2,500,000
Less: Ending inventory (300,000)
Cost of sales 2,200,000
Gross purchases 1,900,00
Add: Freight-in 150,000
Total 2,050,000
Less: Purchase returns, allowances & discounts (50,000)
Net purchases 2,000,000
Sample COST OF GOODS SOLD COMPUTATION for a manufacturing entity:
Beginning raw materials 500,000

32
Add: Net purchases 2,000,000

Raw materials available for use 2,500,000
Less: Ending raw materials (300,000)
Raw materials used 2,000,000
Direct labor 3,000,000
Factory overhead 1,300,000
Total manufacturing cost 6,500,000
Add: Beginning goods in process 900,000
Total cost of goods in process 7,400,000
Less: Ending goods in process (1,000,000)
Cost of goods manufactured 6,400,000
Add: Beginning finished goods 1,600,000
Less: Ending finished goods (1,500,000)
Cost of goods sold 6,500,000
Expense Definition Examples

Distribution Costs - Constitute costs which are • Salesman’s salaries
or Selling Expenses directly related to selling, • Sales commissions
advertising and delivery of • Traveling and marketing
goods to customers expenses
• Advertising and publicity
expenses
• Freight-out
• Depreciation of delivery
equipment and store
equipment
• Other expenses related
directly with selling
function.
Administrative - Constitute costs of • Doubtful accounts
Expenses administering the • Officer’s salaries and
business. expenses of general
- These ordinarily include all executives
operating expenses not • Expenses of general
related to selling and cost accounting and credit
of goods sold department
• Office supplies used
• Certain taxes,
contributions, professional
fees of related to
administrative functions
33
• Depreciation of office
building and office
equipment
• Amortization of intangibles
Other expenses - those expenses which are • Loss on sale of trading
not directly related to the securities
distribution an • Loss on sale of PPE
administrative function. • Loss on sale of long-term
investment
• Other losses
NO MORE EXTRAORDINARY ITEMS
• PAS 1 specifically mandates that an entity shall not present any items of income
and expense as extraordinary items in the income statement or statement of
comprehensive income or in the notes.
• Any CASUALTY LOSS from earthquake, typhoon, hurricane, tsunami, flood, fire
and other natural disaster is treated as OTHER EXPENSE.
• Any GAIN ON EXPROPRIATION is treated as OTHER INCOME.
• UNUSUAL AND INFREQUENT ITEMS of income and expense are considered
component of INCOME FROM CONTINUING OPERATIONS.
SEPARATE DISCLOSURE
• PAS 1, par 97, provides that when items of income and expense are material, their
nature and amount shall be disclosed separately.
• The following income and expense requires separate disclosure:
a. Write-off of inventory to net realizable value and reversal of such write-off
b. Write-off of property, plant and equipment to recoverable amount and reversal
of such write-off
c. Restructuring of the activities of an entity and reversal of any provision for the
cost of restructuring
d. Disposal of an item of property, plant and equipment
e. Disposal of investment
f. Discontinued operation
g. Litigation settlement
h. Other reversal of provision
PRACTICE EXERCISE
1. The following data were available from DEF Company’s record on December 31,
2020:
Finished goods inventory, January 1 1,000,000
Finished goods inventory, December 31 1,200,000
34
Cost of goods manufactured 5,000,000

Losses due to COVID-19 pandemic 100,000
What is the cost of goods sold for the current year?

a. 4,800,000 c. 4,900,000
b. 5,200,000 d. 5,300,000
2. GHI Company has inventories as follows:

Beginning Ending
Raw Materials 220,000 300,000
Goods in process 400,000 480,000
Finished goods 250,000 180,000
During the current year, the following costs were incurred:

Raw materials purchased 3,000,000
Indirect labor 600,000
Taxes and depreciation of factory building 200,000
Taxes and depreciation on sales room and office 150,000
Utilities (60% applicable to factory, 20% to storeroom,
and 20% to office) 500,000
What is the cost of goods sold for the current year?

a. 5,210,000 c. 5,220,000
b. 5,140,000 d. 5,390,000
How much is the administrative expense for the current year? ________________
3. JKL Company reported the following information for the current year:
Ending goods in process 1,000,000
Depreciation on factory building 320,000
Sales salaries 270,000
Beginning raw materials 400,000
Factory supervisor's salary 560,000
Depreciation on headquarters building 210,000
Beginning goods in process 760,000
Ending raw materials 340,000
Advertising 500,000
Purchases of raw materials 2,300,000
What is the cost of goods manufactured for the current year?

a. 5,340,000 c. 5,550,000
b. 5,580,000 d. 5,820,000
35
4. The following costs were incurred by MNO Company, a manufacturer, during the
current year:
Property taxes 250,000
Freight in 1,750,000
Doubtful accounts 1,600,000
Officers’ salaries 1,500,000
Insurance 850,000
Sales representative salaries 2,150,000
What amount of these costs should be reported as administrative expenses?

a. 5,950,000 c. 2,600,000
b. 3,950,000 d. 4,200,000
5. PQR Company’s trial balance of income statement accounts for the current year
included the following:
DR CR
Sales 3,000,000
Administrative expenses 300,000
Loss on sale of equipment 180,000
Commissions to salespersons 200,000
Interest revenue 100,000
Freight out 60,000
Loss on earthquake 200,000
Doubtful accounts 60,000
2,200,000 3,100,000
Finished goods inventory:

January 1 2,000,000
December 31 1,800,000
In the income statement for the current year, what is the net income before tax?
a. 1,100,000 c. 1,800,000
b. 1,900,000 d. 900,000
6. The following information is provided by STU Company for the current year:
Sales 50,000,000
Distribution costs 5,000,000
General and administrative expenses 4,000,000
Interest expense 2,000,000
Gain on early extinguishment of long-term debt 500,000
Correction of inventory error, net of income tax-credit 1,000,000
Investment income 3,000,000
36
Gain on expropriation 2,000,000

Income tax expense 5,000,000
Dividends declared 2,500,000
What is the net income from operations?

a. 9,000,000 c. 9,500,000
b. 8,000,000 d. 7,000,000
7. The following data relate to VXY Company for the current year.
Sales 500,000
Foreign translation adjustment-credit 400,000
Distribution costs 700,000
Unusual and infrequent gain 400,000
Correction of inventory error 200,000
General and administrative expenses 600,000
Income tax expense 150,000
Gain on sale of investment 50,000
Proceeds from sale of land at cost 800,000
Dividends 300,000
What amount should be reported as income from continuing operations?

a. 1,200,000 c. 1,600,000
b. 1,350,000 d. 2,000,000
LESSON 2.4 RETAINED EARNINGS
• Determine the composition of retained earnings. (R)
• Compute for the retained earnings and shareholders’ equity for the period. (AP)
II. INPUT
The statement of retained earnings shows the changes affecting directly the
retained earnings of an entity. The important data affecting the retained earnings that
should be clearly disclosed in the statement of retained earnings are:
a. Net income 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
37
Net income or loss for the period

- Net income is added because it increases retained earnings and net loss is
deducted because it decreases retained earnings.
Prior period errors

- The prior period errors are shown as adjustment of the beginning balance of
retained earnings to arrive at the corrected beginning balance.
- If the net income of the prior period is understated, the amount of error is added
to retained earnings.
- If the net income of the prior period is overstated, the amount of the error is
deducted from retained earnings.
Dividends to shareholders
- The dividends declared or paid during the year shall be deducted from the
retained earnings.
Effect of change in accounting policy

- This is shown as an adjustment of the beginning balance of retained earnings.
- If the net income of prior period is understated because of change in accounting
policy, the effect is added to the beginning retained earnings.
- If the NI of prior period is understated because of change in accounting policy,
the effect is added to the beginning retained earnings.
Appropriation of retained earnings

- The amount of appropriation is deducted from the unappropriated balance of
retained earnings.
- Retained earnings may be appropriated because of certain legal requirement
as in the case of treasury shares, or contractual requirement as in the case of
bond redemption, or as a result of entity policy as in the case of appropriation
for general contingencies.
Sample Statement of Retained Earnings:
EXAMPLAR COMPANY
Year ended December 31, 2019
Retained earnings, January 1 1,000,000

Correction of error-prior year under-depreciation (100,000)
Change in accounting policy from weighted average to
FIFO inventory valuation resulting to increase 300,000
Corrected beginning balance 1,200,000
Net income for the period 1,550,000
Dividends declared and paid during the year (400,000)
Appropriated for contingencies (200,000)
Retained earnings, December 31 2,150,000
38
STATEMENT OF CHANGES IN EQUITY
The statement of changes in equity is a formal statement that shows the

movements in the elements or components of the shareholders’ equity.
Note that: THE STATEMENT OF RETAINED EARNINGS IS NOW A PART OF

STATEMENT OF CHANGES IN EQUITY.
An entity shall present a statement of changes in equity showing:

1. Comprehensive income for the period.
2. For each component of equity, the effects of changes in accounting policies and
correction 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
PRACTICE EXERCISE
1. ZAB Company provided the following information on December 31, 2020:

Share premium 1,000,000
Accounts payable 1,100,000
Preference share capital, at par 2,000,000
Ordinary share capital, at par 3,000,000
Sales 10,000,000
Total expenses 7,800,000
Treasury shares-ordinary 500,000
Dividends 700,000
Retained earnings-January 1 1,000,000
What is the retained earnings on December 31, 2020? __________________

What is the shareholders’ equity on December 31, 2020? ________________
39
ASSESSMENT # 2
STATEMENT OF COMPREHENSIVE INCOME
I. MULTIPLE CHOICE. Choose the letter of the correct answer.

1. What is the purpose of reporting comprehensive income?
a. To report changes in equity due to transactions with owners.
b. To report a measure of overall entity performance.
c. To replace net income with a better measure.
d. To combine income from continuing operations with income from
discontinued operations.
2. Which of the following best describes the term “comprehensive income”?

a. It must be reported on the face of the income statement.
b. It includes all changes in equity during a period except those resulting from
investments by and distributions to owners.
c. It is the net change in owners’ equity for the period.
d. It is synonymous with the term “net income”.
3. Which of the following is NOT an acceptable option of reporting other

comprehensive income and its components?
a. In a separate statement of comprehensive income.
b. In a statement of earnings and comprehensive income.
c. In the notes.
d. In a statement of changes in equity.
4. Why is reclassification adjustment used when reporting other comprehensive

income?
a. Adjustment made to reclassify an item of comprehensive income as another
item of comprehensive income.
b. Adjustment made to avoid double counting of items.
c. Adjustment made to make net income equal to comprehensive income.
d. Adjustment made to adjust for the income tax effect of reporting
5. Which of the following items would cause earnings to differ from comprehensive
income?
a. Unrealized loss on financial assets at fair value through other
comprehensive income
b. Unrealized loss on financial assets held for trading
c. Loss on exchange of similar assets
d. Loss on exchange of dissimilar assets
40
6. Which of the following options for displaying comprehensive income is preferred?

I. A continuation from net income at the bottom of the income statement.
II. A separate statement that begins with net income.
III. In the statement of changes in equity.
a. I only
b. II only
c. II and III only
d. I and II only
7. Which of the following is NOT a generally accepted method of presenting the

income statement?
a. Including prior period errors in determining net income.
b. The condensed income statement
c. The consolidated income statement
d. Including gains and losses from discontinued operations in determining net
income
8. Which of the following statements is TRUE?

I. An entity presenting a single statement of comprehensive income shall present
a statement of changes in equity.
II. An entity presenting a separate income statement and a statement of

comprehensive income shall present a statement of changes in equity.
a. I only
b. II only
c. Both I and II
d. Neither I nor II
9. Which of the following best describes net income?

a. A measure of wealth
b. A measure of change of wealth
c. A measure of capital maintenance
d. A measure of cash flow
10. The expenses are classified according to their function, as part of cost of sales,
distribution costs, administrative activities and other operating activities. What
method is being described in the statement?
a. Cost of sales method
b. Nature of expense method
c. Account form
d. Report form
41
II. PROBLEM SOLVING
Problem 1
Pertinent accounts gathered from the records of CDE Company for 2019 are as
follows:
Purchases 5,250,000
Purchase returns and allowances 150,000
Rental income 250,000
Distribution costs:
Freight out 175,000
Salesmen's commission 650,000
Depreciation-store equipment 125,000
Merchandise inventory, Jan. 1 1,000,000
Merchandise inventory, Dec. 31 1,500,000
Sales 7,850,000
Sales discounts 10,000
Administrative expenses:
Officers' salaries 500,000
Depreciation-office equipment 300,000
Freight in 500,000
Income tax 250,000
Purchase discounts 100,000
Dividend revenue 150,000
Loss on sale of investment 50,000
Required: Prepare an income statement for the year using the FUNCTIONAL
presentation with supporting notes.
Grading:
• Income statement – 10 pts.
• Supporting notes – 10 pts.
Problem 2
The following accounts are gathered from the records of FGH Company for 2020:
Sales 7,500,000
Inventories-January 1:
Raw materials 200,000
Goods in process 240,000
Finished goods 360,000
Inventories-December 31:
Raw materials 280,000
42
Goods in process 170,000

Finished goods 300,000
Purchases 3,000,000
Direct labor 950,000
Superintendence 210,000
Light, heat and power 320,000
Rent-factory building 120,000
Repair and maintenance-machinery 50,000
Factory supplies used 110,000
Advertising 160,000
Office salaries 150,000
Depreciation-office equipment 40,000
Depreciation-machinery 60,000
Interest income 10,000
Gain on sale of equipment 100,000
Delivery expenses 200,000
Accounting and legal fees 150,000
Office expenses 250,000
Earthquake loss 300,000
Gain from expropriation of asset 100,000
Income tax expense 320,000
Required: Prepare an income statement using the “cost of sales” method with
supporting notes.
Grading:
Problem 3
Selected account balances of IJK Company along with additional information on

December 31, 2020 are as follows:
Contribution 125,000
Delivery expense 425,000
Depreciation-delivery truck 60,000
Depreciation-office 35,000
43

Dividends paid 450,000
Dividend revenue 50,000
Doubtful accounts 30,000
Income tax 280,000
Freight in 145,000
Interest revenue 20,000
Loss on sale of trading securities 50,000
Loss from inventory write-off 150,000
Merchandise inventory, January 1 1,100,000
Office salaries 950,000
Purchase discounts 45,000
Purchases 4,600,000
Retained earnings, January 1 550,000
Sales 8,750,000
Store supplies 150,000
Inventory at year-end was valued at P850,000, P1,000,000 cost less the P150,000
write-off of inventory to net realizable value.
IJK Company made a prior period error by understating depreciation in 2019 by

P200,000.
Required:
a. Prepare an income statement with supporting notes.
b. Prepare a statement of retained earnings.
Grading:
44

UNIT
3 STATEMENT OF CASH FLOWS

o Prepare a statement of cash flow using the indirect method. (C)
VALUES DESIRED: Perseverance and Patience
LESSON 3.1 STATEMENT OF CASH FLOWS OVERVIEW
• Discuss the cash flow statement. (U)
• Determine the components of cash and cash equivalents. (R)
II. INPUT
Statement of Cash Flows
• A statement of cash flows is a component of financial statement summarizing the

operating, investing, and financing activities of an entity.
• The statement of cash flows provides information about the cash receipts and cash
payments of an entity during a period.
• An entity shall prepare a statement of cash flows and present it as an integral part
of its financial statements for each period for which financial statements are
presented.
• Users of an entity's financial statements are interested in how the entity generates
and uses cash and cash equivalents this is the case regardless of the nature of
the entity's activities.
Entities need cash for essentially the same reasons however different in their
principal revenue producing activities might be. Entities need cash to conduct their
operations, to pay their obligations and to provide returns to their investors. Accordingly,
all entities are required to present a statement of cash flows.
Purpose of Statement of Cash Flows
• The primary purpose of a statement of cash flows is to provide relevant information

about cash receipts and cash payments of an entity during a period.
• A statement of cash flows provides information that enables users to evaluate the
changes in net assets of an entity, its financial structure, liquidity and solvency.
• Cash flow information is useful in assessing the ability of the entity to generate
cash and cash equivalents.
45
Cash and Cash Equivalents
The statement of cash flows is designed to provide information about the change
in an entity's cash and cash equivalents.
• Cash comprises cash on hand and demand deposits.
• Cash equivalents are short-term highly liquid investments that are readily
convertible to known amount of cash and which are subject to an insignificant risk
of change in value.
• PAS 7, paragraph 7, provides that an investment normally qualifies as a cash
equivalent only when it has a short maturity of three months or less from date of
acquisition.
• The investment must be acquired three months or less before the date of maturity.
Examples of cash equivalents are:

c. Three-month BSP treasury bill
d. Three-year BSP treasury bill purchased three months before date of maturity
e. Three-month time deposit
f. Three-month money market instrument or commercial paper
Note:
• A BSP treasury bill that was purchased three years ago cannot qualify as cash
equivalent even if the remaining maturity is three months or less.
• Equity securities cannot qualify as cash equivalents because shares do not have
maturity date. However, preference shares with specified redemption date and
acquired three months before the redemption date can qualify as cash equivalents.
PRACTICE EXERCISE
MULTIPLE CHOICE. Choose the letter of the correct answer.
1. The primary purpose of a statement of cash flows is _____________.
a. To provide relevant information about cash receipts and cash payments of an
entity during a period.
b. To help investors, creditors and other users to assess the entity’s ability to
generate positive future net cash flows.
c. To disclose separately noncash investing and financing transactions.
d. To assess the ability of the entity to pay dividends to the shareholders
2. An entity shall prepare a statement of cash flows as _______________.

a. Supplementary financial statement
b. Note to financial statement
c. Supporting schedule for the amount appearing as cash and cash equivalent
d. Integral part of the entity’s basic financial statements
3. Cash flows in the statement of cash flows are ____________.

a. Inflows of cash and cash equivalents
46
b. Outflows of cash and cash equivalents

c. Inflows and outflows of cash
d. Inflows and outflows of cash and cash equivalents
4. Which can qualify as cash equivalent?

a. One-year BSP treasury bill
b. Six-month money market placement
c. Equity securities
d. Preferences shares with specified redemption date and acquired three months
before redemptions date
5. Cash equivalents DO NOT include short-term investments in ______________.

a. Money market funds
b. Financial assets held for trading
c. Commercial papers
d. Certificates of deposit
LESSON 3.2 CLASSIFICATION OF CASH FLOWS
• Distinguish the classification of the cash transactions. (U)
• Compute the net cash balance for operating, financing and investing. (AP)
II. INPUT
Classification of Cash Flows
Cash flows are inflows and outflows of cash and cash equivalents. The statement
of cash flows shall report the following classification:
1. Operating Activities
2. Investing Activities
3. Financing Activities
Classification by activity provides information that allows users to assess the

impact of those activities on the financial position of the entity and the amount of its cash
and cash equivalent.
Note that:
• Bank borrowings are generally considered as FINANCING ACTIVITIES.
• Bank overdrafts which are repayable in demand form an integral part of an entity’s
cash management. In these circumstances, bank overdrafts are included as
component of cash and cash equivalents.
- A characteristic of such banking arrangement is that the bank balance often
fluctuates from being positive to overdrawn. In the Philippines, BANK
OVERDRAFTS GENERALLY ARE NOT PERMITTED.
47
1. OPERATING ACTIVITIES
Operating activities are the cash flows derived primarily from the principal
revenue producing activities of the entity. In other words, operating activities
generally result from transactions and other events that enter into the
determination of net income or loss.
Examples of cash flows from operating activities are:

a. Cash receipts from sale of goods and rendering of services.
b. Cash receipts from royalties, rental, fees, commissions and other revenue.
c. Cash payments to suppliers for goods and services.
d. Cash payments for selling, administrative and other expenses.
e. Cash receipts and cash payments of an insurance enterprise for premiums and
claims, annuities and other policy benefits.
f. Cash payments or refunds of income taxes unless they can be specifically
identified with financing and investing activities.
g. Cash receipts and payments for securities held for dealing or trading purposes.
Trading Securities
➢ PAS 7, par. 15, provides that an entity may hold securities and loans for
dealing or trading purposes, in which case they are similar to inventory
acquired specifically for resale.
➢ Cash flows arising from the purchase and sale of dealing or trading
securities are classified as OPERATING ACTIVITIES.
➢ Similarly, cash advances and loans made by a financial institution are
usually classified as OPERATING ACTIVITIES since they related to the
main revenue producing activity of the entity.
2. INVESTING ACTIVITIES
Investing activities are the cash flows derived from the acquisition and
disposal of long-term assets and other investments not included in cash
equivalent. As a simple guide, investing activities include cash flows from
transactions involving non-operating assets.
Examples of cash flows from investing activities are:

a. Cash payments to acquire property, plant and equipment, intangibles and other
long-term assets.
b. Cash receipts from sales of property, plant and equipment, intangibles and
other long-term assets.
c. Cash payments to acquire equity or debt instruments of other entities and
interests in joint ventures (current and long-term investments).
d. Cash receipts from sales of equity or debt instruments of other entities and
interests in joint ventures.
e. Cash advances and loans to other parties (other than advances and loans
made by financial institution).
f. Cash receipts from repayment of advances and loans made to other parties.
48
g. Cash payments for future contract, forward contract, option contract and swap
contract.
h. Cash receipts from future contract, forward contract, option contract and swap
contract.
3. FINANCING ACTIVITIES
Financing activities are the cash flows derived from the equity capital and
borrowings of the entity.
• Financing activities are the cash flows that result from transactions between
the entity and its owners (equity financing) and between the entity and its
creditors (debt financing).
• As a simple guide, financing activities include the cash flows from transactions
involving “nontrade liabilities” and “equity” of an entity.
Examples of cash flows from financing activities are:

a. Cash receipts from issuing shares or other equity instruments (for example,
issuance of ordinary and preference shares).
b. Cash payments to owners to acquire or redeem the enterprise’s shares (for
example, payment for treasury stock).
c. Cash receipts from issuing debentures, loans, notes, bonds, mortgages, and
other short or long-term borrowings.
d. Cash payments for amount borrowed.
e. Cash payments by a lessee for the reduction of the outstanding liability relating
to a finance lease.
Note that cash payments to settle such obligations as trade accounts and notes
payable, income tax payable, accrued expenses and similar items are
OPERATING ACTIVITIES, NOT FINANCING ACTIVITIES.
NONCASH TRANSACTIONS
PAS 7, paragraph 43, provide that investing and financing transactions that DO
NOT REQUIRE use of cash or cash equivalents shall be excluded from the statement of
cash flows. Such transactions shall be DISCLOSED elsewhere in the financial statements
either in the notes to financial statements or in a separate schedule or in a way that
provides all relevant information about these transactions.
The statement of cash flows is “strictly” a cash concept. Accordingly, the following
noncash transactions are disclosed separately:
a. Acquisition of asset either by assuming directly related liability or by means of a
finance lease.
b. Acquisition of asset by means of issuing share capital or bonds payable.
c. Conversion of debt to equity, for example conversion of bonds payable to share
capital.
d. Conversion of preference share to ordinary share.
49
INTEREST
• PAS 7, par 33, provides that INTEREST PAID and INTEREST RECEIVED shall
be classified as OPERATING cash flows because they enter into the determination
of net income or loss.
• ALTERNATIVELY, interest paid may be classified as FINANCING cash flow
because it is a cost of obtaining financial resources.
• ALTERNATIVELY, interest received may be classified as INVESTING cash flow
because it is a return on investment.
• For a FINANCIAL INSTITUTION, interest paid and interest received are usually
classified as operating cash flows.
• Cash flows from interest paid and interest received shall be classified in a
consistent manner from period to period as either operating, investing or financing
activities.
DIVIDENDS
• Dividend received shall be classified as OPERATING cash flow because it enters
into the determination of net income. Alternatively, it may be classified as investing
cash flow because it is a return on investment.
• Dividend paid shall be classified as FINANCING cash flow because it is a cost of
obtaining financial resources. Alternatively, it may be classified as operating cash
flow in order to assist users to determine the ability of the entity to pay dividends
out of operating cash flows.
• The classification of dividend received and dividend paid as either operating,
investing or financing activity shall be made on a consistent basis from period to
period.
INCOME TAXES
• PAS 7, par. 35, provides that cash flows arising from income taxes shall be as
separately disclosed cash flows from OPERATING ACTIVITIES unless they can
be specifically identified with investing and financing activities.
• Tax cash flows are often difficult to match to the originating underlying transaction,
so most of the time all tax cash flows are classified as arising from operating
activities.
PRACTICE EXERCISE
I. Distinguish the classification of the given situation whether it is OPERATING (OA),
INVESTING (IA), or FINANCING (FA) activity. Write only the abbreviations and write NOT
INCLUDED if the situation given includes noncash transactions.
1. Made payments on accounts payable to merchandise suppliers.

2. Paid the principal amount of a note payable to First Bank. (short-
term)
3. Paid interest charges relating to a note payable to First Bank.
4. Paid salaries to employees in the finance department.
5. Collected an account receivable from a customer.
50
6. Made a year-end adjusting entry to recognize depreciation

expense.
7. At year-end, purchased for cash an insurance policy covering the
next 12 months.
8. Paid quarterly dividend on preferred stock. FA
9. Sold for cash an investment in the preferred stock of another IA
corporation.
10. Paid the semiannual interest on bonds payable. FA
II. Problem Solving

1. ABC Company provided the following data for the preparation of statement of cash
flows for the current year using the direct method:
Cash balance, beginning 1,500,000
Cash paid to purchase inventory 7,800,000
Cash received from sale of building 5,600,000
Cash paid for interest 450,000
Cash paid to repay a loan 1,000,000
Cash collected from customers 10,000,000
Cash received from issuance of ordinary shares 1,200,000
Cash paid for dividend 780,000
Cash paid for income taxes 1,320,000
Cash paid to purchase machinery 1,950,000
What is the net cash flow from operating activities?
a. 1,750,000 c. 880,000
b. 970,000 d. 430,000
2. DEF Company had the following activities during the current year:
o Acquired 2,000 shares in Maybel for P260,000.
o Sold an investment in Rate Motors for P350,000 when the carrying amount
was P330,000
o Acquired a P500,000, 4-year certificate of deposit from a bank. (During the
year, interest of P37,500 was paid to DEF).
o Collected dividends of P12,000 on share investments.
What is the net cash used in investing activities?
a. 372,500 c. 398,000
b. 360,500 d. 410,000
3. GHI Company had the following activities for the current year:
Payment for the retirement of bonds payable 3,700,000
Payment of cash dividend declared in the prior year 300,000
Carrying amount of convertible preference shares
converted into ordinary shares 600,000
Proceeds from sale of treasury shares 500,000
What is the net cash used in financing activities?
a. 4,000,000 c. 3,500,000
b. 2,900,000 d. 3,570,000
51
LESSON 3.3 STATEMENT OF CASH FLOWS PREPARATION USING THE

INDIRECT METHOD
• Compute for the net cash flows using the indirect method. (AP)
II. INPUT
The indirect method means that the net income or loss is adjusted for the effects
of transactions of a noncash nature, any deferrals or accruals of past or future operating
cash receipts and payments, and items of income or expense associated with investing
and financing activities.
The indirect method of presenting the cash flow from operations BEGINS WITH
THE ACCRUAL BASIS NET INCOME and applies a series of adjustments to convert the
income to a cash basis.
The following general guidelines are offered for the adjustments of net income to
cash basis:
1. All increases in trade noncash current assets are deducted from net income.
2. All decreases in trade noncash current assets are added to net income.
3. All increases in trade current liabilities are added to net income.
4. All decreases in trade current liabilities are deducted from net income.
5. Depreciation, amortization and other noncash expenses are added back to net
income to eliminate the effect they had on net income.
6. Any gain on disposal of property is included in net income but it is non-operating
item. Thus, this is deducted from net income.
7. Any loss on disposal property is deducted from net income but this is a non-
operating item. Thus, this is added back to net income.
Comprehensive Illustration
The statement of financial position on December 31, 2019 and 2018 of Illustrar
Company, and data relating to activities during 2019 are presented below:
2019 2018
Cash and cash equivalents 600,000 200,000
Accounts receivable, net of allowance 1,100,000 1,040,000
Notes receivable-trade 150,000 200,000
Inventory 1,200,000 1,360,000
Prepaid expenses 110,000 120,000
Investment in equity securities, at cost 300,000 500,000
Property, plant and equipment 3,400,000 2,000,000
52
Accumulated depreciation (900,000) (600,000)

Patent 0 80,000
5,960,000 4,900,000
Accounts payable 880,000 840,000

Notes payable-trade 60,000 240,000
Accrued expenses 100,000 330,000
Note payable-bank (short-term debt) 400,000 0
Share capital, P100 par 3,000,000 2,400,000
Share premium 530,000 400,000
Retained earnings 990,000 790,000
Treasury shares, at cost 0 (100,000)
5,960,000 4,900,000
Additional information:
a. The statement of retained earnings for the year ended December 31, 2019 showed
the following:
Retained earnings-Jan. 1 790,000

Add: Net income for 2019 1,000,000
Total 1,790,000
Less: Cash dividends paid (800,000)
Retained earnings-Dec. 31 990,000
b. The entity sold an investment in equity securities for P240,000 cash. There were
no other transactions affecting the investment in equity securities.
c. Land was purchased in 2019 for P1,200,000 paying P1,000,000 cash and issuing
P200,000 share capital at par value.
d. Equipment costing P200,000 and having a carrying amount of P80,000 was sold
for P60,000 cash.
e. Equipment of P400,000 was purchased for cash.
f. The entity borrowed P400,000 from a bank to be paid June 30, 2020.
g. Share capital with par value of P400,000 was issued for cash at a premium of
P100,000.
h. The treasury shares were reissued for P130,000 cash.
i. The patent was fully amortized.
Introduction
The statement of cash flows is actually a statement of cash receipts and cash
payments during the period. However, the statement of cash flows classifies cash receipts
and cash payments into operating, investing and financing activities.
The following basic guidelines are reiterated:

53
a. Operating activities include the cash effects of transactions that enter into the
determination of net income.
b. Investing activities include the cash effects of transactions involving “non-
operating assets”.
c. Financing activities include the cash effects of transactions involving nontrade
“liabilities and equity”.
❖ In determining cash receipts and cash payments, it is necessary to analyze ALL

ACCOUNTS IN THE STATEMENT OF FINANCIAL POSITION (SFP), with the
exception of cash and cash equivalents.
❖ The net changes in all SFP accounts are traced to their original entry.
❖ Accordingly, the preparation of the statement of cash flows requires reconstruction
of original entries affecting the SFP accounts.
❖ The cash effect of transactions can then be properly determined from the original
entries.
As a matter of procedure, it is practical and logical to analyze first the retained

earnings account.
Retained earnings, P200,000 increase

The statement of retained earnings shows a net income of P1,000,000 and cash dividend
paid of P800,000, resulting to a net increase of P200,000.
The original entries are properly numbered for easy reference.
With respect to the NET INCOME, the original 1. Profit and loss summary ---1,000,000
entry to close the same to retained earnings is: Retained earnings----------1,000,000
The net income is the principal cash inflow

from operations and therefore the first item
under operating activities.
With respect to the cash dividend, the payment 2. Retained earnings --------800,000
is recorded as follows: Cash ---------------------------800,000
The payment of cash dividend is shown under

financing activities as a deduction because it
decreases cash.
Accounts receivable, P60,000 increase

The increase in AR is originally recorded as: 3. Accounts receivable -----60,000
Sales -----------------------------60,000
The increase in accounts receivable increased
net income but did not increase cash. Thus,
the increase in AR is deducted from net
income under OA.
54
Remember the basic rule that all increases in

trade current assets are deducted from net
income.
Note that all the AR should be analyzed net of

allowance for doubtful accounts.
Notes receivable-trade, P50,000 decrease

The decrease in notes receivable is originally 4. Cash--------------50,000
recorded as follows: Notes receivable---------50,000
The decrease in NR increased cash BUT DID

NOT INCREASE NET INCOME. Thus, the
decrease in notes receivable is ADDED to net
income under OA.
Again, remember the basic rule under the

indirect method that all decreased in trade
current assets are added to net income.
Inventory, P160,000 decrease

The decrease in inventory is originally 5. Cost of sales-----160,000
recorded as follows: Inventory--------------------160,000
The decrease in inventory increased COS and

consequently decreased NI but did not
decrease cash.
Thus, the decrease in inventory is added back

to net income under OA.
Prepaid expenses, P10,000 decrease

The decrease in prepaid expenses is originally 6. Expenses-----------10,000
recorded as follows: Prepaid expenses----------10,000
The decrease in prepaid expenses increased

expenses and consequently decreased NI but
did not decrease cash.
Thus, the decrease in prepaid expenses is

added back to net income under OA.
Investment in equity securities, P200,000 decrease

The decrease represents sale of securities for 7. Cash-----------240,000
P240,000 or a gain of P40,000. The original Investment in E/S-----------200,000
entry is: Gain on sale of inv. --------40,000
55
The transaction involves a NONOPERATING *E/S means Equity Securities

ASSET.
Therefore, the cash received from sale of the

investment is shown under INVESTING
ACTIVITIES as an ADDITION because it
increases cash.
The gain in sale of investment is previously

included in the determination of NI but this is a
NONOPERATING item.
Therefore, the gain is DEDUCTED FROM NI

under OA.
Property, plant and equipment, P1,400,000 increase

The entity purchased land of P1,200,000 and 8. Land-----------1,200,000
equipment of P400,000 and sold equipment Cash-------------------1,000,000
costing P200,000. Thus, there is a net increase Share capital---------200,000
of P1,400,000.
The purchase of land is originally recorded as

follows:
Only the payment of P1,000,000 is shown as a

DEDUCTION under IA, because land is a non-
operating asset.
The issuance of share capital for the land is

both a noncash investing and financing
activity. The transaction is simply disclosed.
The purchase of the equipment is recorded as 9. Equipment---------400,000

follows: Cash--------------------400,000
The purchase of the equipment is shown as a

DEDUCTION under IA because the equipment
is a non-operating asset.
The sale of the equipment is originally 10. Cash------------------------60,000

recorded as follows: Accum. Depreciation---120,000
Loss on sale of equip—20,000
The cash received from the sale of the Equipment----------------------200,000
equipment is shown as an ADDITION under
IA.
56
The loss on sale of equipment is previously

deducted from the NI but this is a nonoperating
item. Therefore, the loss is ADDED BACK to
NI under OA.
Accumulated depreciation, P300,000 increase

11. Depreciation expense—420,000
Balance-Dec. 31, 2018 600,000 Accum. Depreciation-------420,000
Add: Dep. For 2019 (SQUEEZE) 420,000
TOTAL 1,020,000
Less: Accum. Dep on Equip. sold 120,000
Balance-Dec. 31, 2019 900,000
The depreciation for 2012 is P420,000 and the

accumulated depreciation on the equipment
sold is P120,000. Therefore, there is a net
increase of P300,000. The depreciation is
originally recorded as:
The depreciation is a NONCASH EXPENSE. It

is ADDED BACK to NI under OA.
Patent, P80,000 decrease

The amortization is a NONCASH EXPENSE. It 12. Amortization of patent----80,000
is ADDED BACK to NI under OA. Patent--------------------------80,000
Accounts payable, P40,000 increase

The increase in accounts payable increase 13. Purchases---------40,000
COS and consequent decreased NI but did not Accounts payable--------40,000
decrease cash. Thus, the increase in AP is
ADDED to NI under OA.
Recall the basic rule under the indirect method

that all increase in trade current liabilities are
ADDED to NI.
Notes payable-trade, P180,000 decrease

The decrease in notes payable is originally 14. Notes payable------180,000
recorded as follows: Cash----------------------180,000
The decrease in NP decreased cash but did

not decrease NI. Thus, the decrease in notes
payable is deducted from NI under OA.
57
Recall the basic rule under the indirect method

that all decreased in trade current liabilities are
DEDUCTED from NI.
Accrued expenses, P230,000 decrease

The decrease in accrued expenses is originally 15. Accrued expenses----230,000
recorded as follows: Cash-----------------------230,000
The decrease in accrued expenses (AE)

decreased cash but did not decrease net
income. Thus, the decrease in AE is
DEDUCTED from NI under OA.
Note payable-bank, P400,000 increase

The increase in note payable-bank is due to 16. Cash--------------400,000
borrowing. It is originally recorded as: Note payable-bank-----400,000
The cash received from bank note payable is

shown as an ADDITION under FA because the
bank note payable is a “nontrade” liability.
Share capital, P600,000 increase

The increase is analyzed as follows: 17. Cash-------500,000
Issued for land 200,000 Share capital------400,000
Issued for cash 400,000 Share premium---100,000
600,000
The share capital issued for the land is already

accounted for previously. The issuance of the
share capital with par value of P400,000 at a
premium of P100,000 is originally recorded as:
The cash received from the issuance of share

capital is shown as an ADDITION under FA
because the share capital is a shareholders’
equity item.
Treasury shares, P100,000 decrease

The treasury shares were reissued for 18. Cash----------130,000
P130,000 and recorded as: Treasury shares----100,000
Share premium------30,000
The reissuance of treasury shares is shown as
an ADDITIONA under FA because treasury
shares are a component of shareholders’
equity.
58
Share premium, P130,000 increase

The increase is analyzed as follows:
From issuance of share capital 100,000

From reissuance of treasury
shares 30,000
Total 130,000
The increase in share premium is already

accounted for.
The cash effects of the properly numbered original entries are summarized as follows:
Operating Investing Financing

1. Net income 1,000,000
2. Payment of cash dividend (800,000)
3. Increase in accounts receivable (60,000)
4. Decrease in notes receivable 50,000
5. Decrease in inventory 160,000
6. Decrease in prepaid expenses 10,000
7. Sales of investment 240,000
Gain on sale of investment (40,000)
8. Payment of land (1,000,000)
9. Purchase of equipment (400,000)
10. Sale of equipment 60,000
11. Depreciation 420,000
12. Amortization of patent 80,000
13. Increase in accounts payable 40,000
14. Decrease in notes payable (180,000)
15. Decrease in accrued expenses (230,000)
16. Proceeds from bank note payable 400,000
17. Issuance of share capital 500,000
18. Reissuance of treasury shares 130,000
Net cash provided (used) 1,270,000 (1,100,000) 230,000
Observe that if the item is a cash receipt it is ADDED because it INCREASES

CASH. If the item is cash payment, it is DEDUCTED because if DECREASES CASH.
The formal statement of cash flows can now be prepared from the preceding summary of
operating, investing and financing activities.
59
Ilustrar Company
Statement of Cash Flows
for the year ended December 31, 2019
Cash flows from operating activities:

Net Income 1,000,000
Increase in Accounts Receivable (60,000)
Decrease in Notes Receivable 50,000
Decrease in Inventory 160,000
Decrease in prepaid expenses 10,000
Gain on sale of investment (40,000)
Depreciation 420,000
Amortization of patent 80,000
Increase in accounts payable 40,000
Decrease in notes payable (180,000)
Decrease in accrued expenses (230,000)
Net cash provided by operating activities 1,270,000
Cash flows from investing activities:

Sale of investment 240,000
Sale of equipment 60,000
Purchase of land (1,000,000)
Purchase of equipment (400,000)
Net cash used in investing activities (1,100,000)
Cash flows from financing activities:

Cash received from bank loan 400,000
Issuance of share capital 500,000
Reissuance of treasury shares 130,000
Payment of cash dividend (800,000)
Net cash provided by financing activities 230,000
Increase in cash and cash equivalents 400,000
Add: Cash and cash equivalents-Jan1 200,000
Cash and cash equivalents-Dec31 600,000

Note:
1. The indirect method is used in presenting the cash flow from operating activities.
2. The cash balances of P600,000 on December 31, 2019 reconciles with the amount
appearing on the comparative statement of financial position.
3. Actually, the statement of cash flows explains in detail the increase or decrease in
the cash balance.
60
PRACTICE EXERCISE
Prepare a simple statement of cash flows using the indirect method for the given
problem below.
JKL Company provided the following comparative statement of financial position.
Assets 2019 2018

Accounts receivable 1,750,000 1,100,000
Inventory 2,550,000 1,800,000
Accum. Depreciation (1,150,000) (800,000)
9,300,000 7,500,000
Liabilities and equity
Accounts payable 1,250,000 1,000,000
Accrued expenses 50,000 200,000
Share capital 4,750,000 4,250,000
Retained earnings 3,250,000 2,050,000
9,300,000 7,500,000
1. The statement of retained earnings for 2019 showed net income of P1,500,000
and cash dividend paid of P300,000.
2. During the year, the entity purchased equipment for cash and issued share capital
for cash.
Required: Prepare a statement of cash flows for the current year 2019.
61
ASSESSMENT # 3
STATEMENT OF CASH FLOWS
I. MULTIPLE CHOICE. Choose the letter of the correct answer.

1. An entity shall report cash flows from operating activities using ________.
a. Direct method c. Either direct or indirect method
b. Indirect method d. Neither direct or indirect method
2. An entity shall report separately cash flows arising from investing and financing
activities using ____________.
a. Direct method c. Either direct or indirect method
b. Indirect method d. Neither direct or indirect method
3. These are the principal revenue producing activities of the entity.

a. Operating activities c. Financing activities
b. Investing activities d. Borrowing activities
4. Bank borrowings are generally considered as ______________.

a. Operating activities c. Financing activities
b. Investing activities d. Borrowing activities
5. Bank overdrafts that are repayable on demand and the bank balance often
fluctuates from positive to overdrawn shall be classified as ______________.
a. Operating activities
b. Investing activities
c. Financing activities
d. Component of cash and cash equivalent
6. Cash advances and loans made by a financial institution are usually classified as
_______.
a. Operating activities
b. Investing activities
c. Financing activities
d. Component of cash and cash equivalent
7. Alternatively, this activity is classified as operating activity.

a. Interest received c. Dividend received
b. Interest paid d. Dividend paid
8. Investing activities include _______________.

a. Cash payments to and on behalf of employees
62
b. Cash payments for futures contract, forward contract, option contract and
swap contract.
c. Cash repayments of amounts borrowed
d. Cash payments by a lessee for the reduction of the outstanding liability
relating to a finance lease.
9. Noncash investing and financing transactions include all of the following, except
______.
a. The acquisition of asset either by assuming directly related liability or by
means of a finance lease.
b. The acquisition of an entity by means of an equity issue.
c. The conversion of debt to equity.
d. Noncash items such as depreciation, amortization and deferred taxes.
10. In a statement of cash flows using indirect approach for operating activities, an
increase in inventory is presented as ____________.
a. Outflow of cash
b. Inflow and outflow of cash
c. Addition to net income
d. Deduction from net income
II. STATEMENT OF CASH FLOWS PREPARATION
PROBLEM 1
MNO Company showed the following statements for 2019.
Sales 3,850,000
Gross income 1,580,000
Expenses:
Salaries 580,000
Other expenses 290,000
Bad debt expense (write-off, P10,000) 30,000 1,140,000
Net Income 440,000
Assets 2019 2018

Accounts receivable 450,000 410,000
Allowance for doubtful accounts (50,000) (30,000)
Inventory 840,000 910,000
63
Goodwill 360,000 360,000

3,670,000 3,420,000
Liabilities and Equity
Salaries payable 70,000 100,000
Note payable-bank - 250,000
Share capital 2,150,000 1,950,000
Retained earnings 1,150,000 880,000
3,670,000 3,420,000
1. A cash dividend of P170,000 was declared and paid during the year.
2. Equipment of P200,000 with accumulated depreciation of P140,000 was sold for
cash at no gain or loss.
3. The net change in the equipment after considering the equipment sold was the
result of a cash acquisition.
4. The note payable-bank matured this year and was accordingly paid in cash.
5. The share capital was issued for cash.
Required: Prepare the statement of cash flows for the year ended December 31, 2019
using the indirect method.
Grading:
• Solution (indirect method) – 10 pts.
• Statement of cash flows – 10 pts.
Problem 2
The comparative statement of financial position of PQR Company on December
31, 2019 and 2018 is as follows:
Assets 2,019 2,018

Accounts receivable 370,000 210,000
Inventory 1,090,000 860,000
Prepaid insurance 80,000 90,000
5,120,000 4,210,000
Liabilities and Equity
Salaries payable 70,000 40,000
Income tax payable 35,000 15,000
Accrued interest payable 5,000 -
Bonds payable 600,000 -
64
Share capital 3,050,000 3,050,000

Retained earnings 1,100,000 760,000
Treasury shares (140,000) -
5,120,000 4,210,000
The income statement for the year ended December 31, 2019 showed the following:
Sales 4,450,000
Cost of sales:
Inventory-Jan 1 860,000
Purchases 2,630,000
Inventory-Dec 31 (1,090,000) 2,400,000
Gross income 2,050,000
Total income 2,110,000
Expenses:
Salaries 640,000
Insurance 100,000
Rent 350,000
Bad debt writeoff 20,000
Interest expense 40,000 1,410,000
Income before tax 700,000
Income tax 200,000
Net Income 500,000
1. Cash dividends of P160,000 were declared and paid during the year.
2. Equipment costing P190,000 and with accumulated depreciation of P140,000 was
sold for P110,000 cash.
3. New equipment was purchased for cash.
4. Bonds payable were issued for cash at the face value of P600,000.
5. The treasury shares were purchased at cost P140,000.
Required: Statement of cash flows using the indirect method.

Grading:
• Solution (indirect method) – 10 pts.
• Statement of cash flows – 10 pts.
65
References
Chartered Education (2015). Accounting policies - fair presentation and faithful

representation for IFRS. Retrieved from https://www.charterededucation.com/
ifrs/accounting-policies-fair-presentation-and-faithful-representation-for-ifrs/
Chartered Education (2015). 2 underlying assumptions of the IFRS conceptual

framework. Retrieved from https://www.charterededucation.com/ifrs/2-underlying-
assumptions-of-the-ifrs-conceptual-framework/
Deloitte (n.d.). IAS 1 — presentation of financial statements. Retrieved from

https://www.iasplus.com/en/standards/ias/ias1
Northern Pictures and Cool Australia (n.d.). Poster/infographic assessment rubric.

Retrieved from https://prod-media.coolaustralia.org/wpcontent/uploads/2017/
05/06163636/Blue_PosterInfographic-Assessment-Rubric-Year-7_FINAL2.pdf
Kenton, W. (2021). Financial statement analysis. Retrieved from

https://www.investopedia.com/terms/f/financial-statement-analysis.asp
Anastacio, M. F., Dacanay, R. & Aliling, L. (2011). Fundamentals of financial management

(with industry-based perspective). Rex Books Store, Inc., Sampaloc, Manila. ISBN
978-971-23-5683
66
Appendix
Rubric
Rubric #1
Criteria/ Very Good (4) Good (3) Fair (2) Needs Score
Points Improvement (1)
Accuracy of At least 90% of At least 75% of At least 60% of Less than 50% of 16
content (x4) the required the required the required the required
content is content is content is content included
included in the included in the included in the in the infographic
infographic is infographic is infographic is is accurate.
accurate. accurate. accurate.
Use of visual Great use of Good use of Few visual Visual materials 12
materials (X3) visual materials to visual material. materials used lack
support Materials used and effectiveness and
information. add to the those used add relevance,
Visual materials content of the little to the and don’t add to
add to the poster/ content of the the content
content of the infographic. poster/ of the
poster/infographic. infographic. poster/infographic.
Appearance The poster/ The poster/ Some elements The poster/ 12
(X3) infographic is infographic is of the poster/ infographic is not
very appealing in appealing in infographic are very appealing in
terms of terms of design, appealing in terms of
design, layout, layout, and terms of design, design, layout,
and neatness. neatness. layout, and and neatness.
neatness.
Evidence of Very good use of Good use of Some thought Little thought 4
research research research from given to the given to the
from varied varied sources. type of resources used or
sources. All More than resources used only one
resources have three resources for or two resources
been cited. have been research. More used. Most
cited. than two resources used
resources used have not
and have been cited.
been cited.
Spelling and Almost no spelling Few spelling or Some spelling Many spelling or 4
Grammar or grammatical grammatical or grammatical
errors. errors. grammatical errors.
errors.
Score: ___ / 50 pts (with bonus points of 2) 48
Modified from: Northern Pictures and Cool Australia Retrieved from https://prod-media. coolaustralia.org/
wpcontent/uploads/2017/05/06163636/Blue_PosterInfographic-Assessment-Rubric-Year 7_FINAL2.pdf

Fin 1 Module Midterm Coverage

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Fin 1 Module Midterm Coverage

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1

HOLY CROSS COLLEGE OF CALINAN, INC.

FIRST TERM, FIRST SEMESTER

A WORKBOOK IN FIN 1: PREPARATION &

KISSAH A. NERI, CPA

HOLY CROSS COLLEGE OF CALINAN, INC. VISION AND MISSION

1. We provide excellent quality formation, education, training and development to the

Individually and collaboratively, we commit to achieve these.

Number of Hours Content

10 Unit 2. Statement of Comprehensive Income

10 Unit 3. Statement of Cash Flows

10 Unit 4. Statement of Financial Position

7 Unit 5. Notes to Financial Statements

10 Unit 6. Analysis of Financial Statement

Unit 1. Introduction to Financial Statements

Unit 2. Statement of Comprehensive Income

Unit 3. Statement of Cash Flows

Unit 4. Statement of Financial Position

Unit 5. Notes to Financial Statements

Unit 6. Analysis of Financial Statement

Suggested time allotment: 6 hours

TARGET GOAL FOR THE UNIT

VALUES DESIRED: Openness and Perseverance

LESSON 1.1 THE FINANCIAL STATEMENT, ITS PURPOSE AND OBJECTIVES

Financial Statement Definition

Valix, Peralta and Valix (2012) defined financial statement as:

What is a ‘General Purpose Financial Statements’?

Components of Financial Statements

A complete set of financial statements comprises the following components:

Objective of Financial Statements

The objective of general purpose financial statements is to

To meet this objective, financial statements provide information about the

Responsibility for Financial Statements

I. Choose the letter of the correct answer.

2) What is the objective of the financial statements?

d. To prepare and present financial statements in accordance with all

3) Which of the following is not a component of the financial statements?

4) Which of the following statement is true concerning the objective of financial

5) Which of the following is included in a complete set of financial statements?

LESSON 1.2 FINANCIAL REPORTING

• Financial reporting is the provision of financial information about an entity to

Objective of Financial Reporting

General purpose financial reporting is directed primarily to the existing and

Specific Objectives of Financial Reporting

Specifically, the Conceptual Framework for Financial Reporting states the

Limitations of Financial Reporting

LESSON 1.3 GENERAL FEATURES OF THE FINANCIAL STATEMENTS

1. Fair Presentation and Compliance with PFRS

Under International Accounting Standards (IAS) 1, ‘Fair presentation requires the

What does Faithful Representation mean?

If such an intention or need exists, the financial statements may have to be

4. Materiality and Aggregation

Information is material if omitting, misstating or obscuring it could reasonably be

However, information should not be obscured by aggregating or by providing

There is a presumption that financial statements will be prepared at least annually.

IAS 1 requires that comparative information to be disclosed in respect of the

*A third statement of financial position is required to be presented if the entity

The presentation and classification of items in the financial statements shall be

Choose the letter of the correct answer.

5. Assets and liabilities must be presented in the Statement of Financial Position:

a. Broadly in order of liquidity

6. The judgment on whether additional items are presented separately is based on

7. The Statement of Changes in Equity links:

LESSON 1.4 ELEMENTS OF FINANCIAL STATEMENTS

• The quantitative information shown in the statement of financial position and

Recognition is the process of reporting an asset, liability, income or expense on

An item or account title in the elements of FS shall be recognized if:

1. Asset Recognition Principle

2. Liability Recognition Principle

3. Income Recognition Principle

When is income considered to be EARNED?

3.1 Revenue from Sale of Goods

3.2 Revenue from Rendering of Services

3.3 Revenue from Interest, Royalties and Dividends

3.4 Other Income Recognition

4. Expense Recognition Principle