RELATION OF THE ECONOMIC ACCOUNTS TO THE FINANCIAL STATEMENTS 1. Financial statement.—In Chapter I we dis cussed the five main purposes for which an account ing system is constructed. These purposes are at tained thru two related media : (1) the permanent records of transactions contained in the accounts and ( 2) the abstracts which classify, record and present this information for administrative guidance. Our interest now lies in the latter phase of our subject.
For administrative purposes, accounting informa tion is presented in regular statements or reports, which are prepared from the accounts in classified and summarized form. By the use of statements we are able to examine different phases of our business sepa rately and thus avoid the confusion which results when a mass of detail from many departments is studied. This summarized information enables us (1) to ob serve the main tendencies of our business and ( 2) to examine separately the causes and effects of these tendencies.
The two main financial statements which are pre sented for practically every business are the balance sheet and the income statement or economic summary.
The balance sheet comprises a list of assets and lia bilities together with the amount of proprietorship. It is a statement of things possessed showing the dis tribution of interest in these between the business creditors and the business owners. It sets forth the financial condition of the business at any given mo ment. An income statement or economic summary is a list of all the accounts which represent sources of income and costs of this income or "expenses." The expenses are set against the income and the excess of income over expenses constitutes the net profit of the business for the period of time covered. The eco nomic summary, then, is a panoramic view of the pro gress of the business for whatever period of time it may be prepared.
This economic summary may be sub-divided, so that it shows the income and costs of individual de partments of the business or individual processes of operation. Thus it is possible to obtain a clearer
view of the progress of each operation or of each divi sion undisturbed by the conditions existing in other departments or other operations.
2. Monthly and yearly statement.—These state ments are customarily prepared at the end of each month showing the progress for that month. Many business houses, however, still adhere to the practice of preparing statements only once a year when the economic accounts are closed out and transferred to the proprietorship account. The illustration which will be given in this and subsequent chapters will first cover the preparation of yearly financial state ments.
Monthly statements present no problem which will not be considered in the discussion of yearly state ments. It is only necessary that the trial balance be prepared in the form mentioned on page 157 and that the month's progress be recorded in the economic sum mary by an abstract of the figures showing the month's business. The balance sheet, being a report of the condition of the business at any moment of time, must, of course, take into consideration the accumulated re sults of the entire year's operations.
3. Working sheet.—Before taking up the routine work of preparing the financial statements let us con sider, briefly, the nature of the various accounts which appear on our books. We will repeat the trial bal ance on page 157 and will analyze the various ac counts listed there.
While it may ordinarily be satisfactory to transfer the accounts directly from the trial balance to the statements, confusion may, and frequently does, re sult from such practice. A more complete record than the trial balance is available if a working sheet, as on page 170, is used. Here all extraneous items are recorded where they will not be missed and every item must be expressed in either the economic sum mary or balance sheet columns. After each adjust ment and trial balance item has been redistributed over these two columns, the balance sheet and eco nomic summary may be easily prepared.