Entrepreneurs, owners, or shareholders, have as one of their main objectives, that the investments made in their companies generate profits, with the consequent growth of equity, which allows their growth and their solidification in the market.

You don’t have to be a Harvard graduate to understand that the difference between the value of sales and their cost corresponds to “profits” and “loss”. Once a micro-entrepreneur told me very plump, adding and subtracting I know how much I earn in the businesses I do. Certainly, these operations are necessary, but here the important thing is to know what is added and what is subtracted.

Some businessmen insist on managing pocket accounting and the most modern, on their agenda accounting: notes here, little pieces of paper there, to finally “calculate” how much they earned in a certain business.

In handling and experience on a day-to-day basis, it will be possible to acquire the skill that is desired, but the minutiae of the information will be necessary for making final decisions and above all to exercise the proper controls that will improve the final balance of the figure. which represents profit.

Accounting is the language of business and affirms an immensely well-known and hackneyed phrase, but it does not quite convince some skeptics.

Every company, regardless of its size, seeks financial objectives. Each entrepreneur can better fulfill his role and clearly and convincingly achieve those objectives, applying accounting principles in his business, and opening up to understand the accounting language.

Accounting and financial statements

Accounting is a discipline with standardized rules, principles, and procedures, subject to laws, which guides us on how to order, analyze and record the operations or transactions carried out by the company, making it easier for us to prepare Financial Statements (let’s call them summaries), which They will scientifically show how business is going, in addition to providing us with information to project ourselves into the future.

The duly registered accounting information will allow us to prepare different Financial Statements, with specific missions or objectives, which will be an important tool in the development of our administrative management. They are the reflection of the economic movement of a company at a given moment.

The main financial statements and the information provided by each of them are detailed below:

  • The Balance Sheet (BS), reflects all the resources that the company owns or controls (Assets); the debts that it maintains (Liabilities), and the interest of the owners in it (Equity).
  • The Income Statement (IS), summarizes the operations of the company derived from its economic activities of buying, producing, transforming, and selling or providing services during a determined period. This statement includes all the income generated by the company and all the costs and expenses incurred in its operations, to finally show us the result: profit or loss.
  • The Cash Flow Statement (CFS), shows the movement of cash and its applications.
  • The Statement of Changes in Retained Earnings (SCRE) shows changes that may occur for net income, distribution of dividends, and capital contributions.
  • The Statement of Evolution of Equity (SEE), reflects the changes that have occurred in the different equity items of the company, during a determined period.

Developing them based on the available information can be easy or cumbersome, depending on the registration circumstances, but the important thing is that once they are obtained, they can be “read” and when subjected to analysis, to know what they say.

Statement of income or profit and loss:

On this occasion, we will dedicate ourselves to the study of this document, which will be the only one of the Financial Statements mentioned above, which will show us the economic situation of the company, concerning profits or losses.

It is also known as Performance Status; Statement of Income and Expenses, Statement of Income, Statement of Products and Income, or Statement of Utilities.

To know firsthand, how the businesses are going and what results have been obtained in the operations carried out, the Income Statement is prepared; a dynamic report that shows the income, costs, and expenses incurred during a period (month, quarter, semester, or a year), to finally reflect the Profits or Losses of the exercise, in the period in question.

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General concepts:

The Balance Sheet is considered an x-ray of the economic state of the company in the period it covers, which compared to another, from a different period, will reflect the growth or decrease of the values ​​that each of its accounts and/or groups of accounts reflect. accounts (Assets (Cash, Banks, Investments, Properties, etc.) Liabilities (Creditors, Financial Obligations, etc.) and the behavior of Equity (Capital, Profits for the Year, etc.), and in the specific case of Equity growth or decrease will be reflected in the figures that will be shown in detail in the Income Statement.

The Income Statement is a summary of the changes in capital and equity during the period, which result from commercial activities, and which shows us first-hand whether profits or losses are being generated, a message that we will use to take action. of reinforcement or corrective measures that correspond, will also serve as a tool to formulate the future economic and financial policy of the company.

It is a complementary document and annex to the Balance Sheet, which describes the operating process during a certain period and which, as we noted previously, reports in detail and an orderly manner how the result it reflects was reached. (Profit or Loss).

In this document, you can study the Sales (Income), Costs, Expenses, and Profits or Losses of the company.

The preparation, presentation, and details of this document differ, depending on the type of company in question: Commercial, Industrial, or Services.

Trading companies

In a commercial company, the cost is constituted by the value of the purchases of merchandise that will be sold at a given moment.

Expenses will correspond to the expenses necessary for the normal operation of the business: rents, services, salaries, transportation, etc.

The Income Statement will show the income derived from the sales achieved by the company and the costs and expenses that were required to generate the income. The difference between these items (Sales income minus costs and expenses) will determine the profit or loss for the year.

Now, depending on the type of administration that is made of the inventory, the elaboration of the Income Statement will change a little.

The administration or management of inventories may be done under the scheme of Periodic Inventories or permanent Inventories.

Periodic inventories will always force us to count, and relate the stocks to finally value them, and thus obtain the global value of the merchandise inventory.

On the other hand, permanent inventories and any of the different systems that are used will force us to control physical stocks through individual Kardex cards or systematized readings with bar codes.

The use of inventory management systems requires changes in accounting management (use of accounts)

If the company manages periodic inventories, the scheme would be as follows:

La Castellana Warehouse
Statement of income
December 31, 2011
Sales 50,000,000
Initial inventory 12,000,000
+ Shopping 60,000,000
Merchandise available for sale 72,000,000
– Final inventory 32,000,000
cost of goods sold 40,000,000
Gross profit 10,000,000
– Administration expenses 2,000,000
– Selling expenses 1,000,000
Operational utility 7,000,000
– Non-operating expenses 500,000
Net operating income 6,500,000

Note that the cost of goods sold is established after subtracting the ending inventory. (Count, classification, and valuation of the merchandise in stock at the end of the period in question), value that we will deduct from net sales, to obtain the Gross Profit flush.

The initial inventory could correspond to two specific registration situations:

  1. To purchase merchandise at the time the business starts operations. (Provisioning);
  2. When transferring the value of the final inventory of the previous period to a new period.

For example, if on December 31, 2011, the final merchandise inventory in the Income Statement was $23,000,000, this Value will become the Initial Inventory in the Balance Sheet as of January 1, 2012.

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Some mistakenly say that the periodic inventory is history since the prevailing inventory is known as Permanent Inventory, a situation that is not true, given that there are many businesses that, in addition to managing a fairly wide range of products, their sales are retail and of little value, which do not justify generating invoices permanently, which makes it difficult to control them using card-controlled inventories or even by bar code systems, which would also imply having readers of these codes and the existence of software that registers and downloads the output of the products sold.

This last system is still far from the reach of many small businesses.

Let’s see now how the situation with the Income Statement is presented when the Inventory is managed permanently.

La Castellana Warehouse
Statement of income
December 31, 2011
Sales 50,000,000
Less: cost of sales 40,000,000
Gross profit 10,000,000
– Administration expenses 2,000,000
– Selling expenses 1,000,000
Operational utility 7,000,000
– Non-operating expenses 500,000
Net operating income 6,500,000

We can see that what we know in accounting as an inventory set (Initial inventory + Purchases = Merchandise available for sale – Final inventory), has disappeared from the scheme and instead, we only see the concept: Cost of Sales, value that is the product of Balance that is accumulated in the accounting account with this name.

Industrial business

In an industrial company, the cost is formed by the sum of the disbursements that have been necessary for the manufacture or transformation of new products (Materials or Raw Materials, Manpower, and Factory Load).

Accounting records are part of Cost Accounting or Industrial Accounting. In this system, the Purchases account is replaced by the Raw Materials account and strict control begins to be exercised over the time used by the people who intervene in the production process, directly and indirectly, and on the other hand of the inputs. secondary that are not part of the product in a significant way, but that affect the increase in the cost of the production process.

The production process then requires establishing inventory control for raw materials in general.

As we progress through the different stages of the production process, what we know as products in the process are produced, which correspond to products that are under development and are not yet finished and that as they progress in each stage, materials and labor are added, which gradually modify their cost until they become Finished Products, another inventory that must be implemented and controlled.

Now let’s see how the Income Statement for an industrial company would be presented.

Condorito Limited Shirt Factory
Simplified Statement of Costs
December 31, 2011
Direct Material 20,000,000
+ Direct Labor 6,000,000
Production cost 30,000,000
+ Inventory of products in the process 19,000,000
Work-in-process cost 49,000,000
– Final inventory of work in progress 5,000,000
Cost of finished products 44,000,000
+ Beginning inventory of finished goods 12,000,000
Cost of products available for sale 56,000,000
– Final inventory of finished products 16,000,000
Cost of products manufactured and sold 40,000,000

To highlight in the previous scheme, the appearance of a new concept refers to the cost: The cost of Products manufactured and sold, which shows us the value of the products sold.

Let’s find out how we set it up.

To establish it, we must elaborate on a previous scheme called the State of Costs and which we will see in a simplified way, as follows:

Condorito Shirt Factory Ltda.
Statement of income
December 31, 2011
Sales 110,000,000
– Cost of products manufactured and sold 40,000,000
Gross profit 70,000,000
Administration expenses 15,000,000
Selling expenses 10,000,000
25,000,000
Net profit 45,000,000

Service companies

A service company, which, as we know, does not provide any material or tangible goods, will receive money for the activity carried out (consulting, education, etc.) the cost will be represented by the expenditures that were necessary for the provision of the service.

ADMINISTRATIVE SERVICES LTDA.
Statement of income
December 31, 2011
Service revenues 35,000,000
– Related operating expenses 15,000,000
Operational utility 20,000,000
– Administrative expenses 8,000,000
Operational utility 12,000,000
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Accounting accounts involved in the process:

The accounts used to prepare the Statement of Economic Performance are called Income Accounts or temporary accounts, which have the particularity of being born with the period studied and dying with it.

The foregoing means that the Income, costs, and expenses generated in a given period, determining factors in the establishment or preparation of the Income Statement, will only be related to it and do not have or will have any relationship or direct incidence with subsequent periods.

The statement of performance demonstrates how the income has been obtained and how the expenses of a company have been incurred during a certain period.

Accounting rules and concepts to take into account:

Revenues: Revenues represent inflows of resources, in the form of increases in assets or decreases in liabilities, or a combination of both, which generate increases in equity, accrued from the sale of goods, from the provision of services, or the execution of other activities, carried out during a period, that does not come from capital contributions.

Bills: Expenses represent outflows of resources, in the form of decreases in assets or increases in liabilities, or a combination of both that generate decreases in equity, incurred in administration, marketing, research, and financing activities, carried out during a period, which does not comes from capital withdrawals or excess profits.

Operational Administration Expenses: All expenses incurred by the company to carry out its activity and that are not related to a specific activity (sale, production, etc.), but that provide a general contest to the business. In this section, the Salaries of the office personnel, messengers, Mail Service, Telephones, Rents, Depreciation of the furniture and equipment of these dependencies, etc. will be registered.

Sales Operational Expenses: These will be all the expenses that have been necessary to carry out the sales work. They include the payment of salaries and commissions to vendors, expenses of merchandise delivery vehicles, advertising, packing or packaging expenses, warehouse service, depreciation of furniture and equipment of this unit, etc., in short, all the expenses that have to do with this activity.

Operating gross and the value of operating expenses.

Non-operating income: Corresponds to income received occasionally, for concepts other than the main purpose of the business, such as profit from the sale of fixed assets and other extraordinary income.

Non-operating income is added to the net operating income, obtaining Net Profits or Losses before Taxes, as the case may be.

The provision for taxes is subtracted from the net profit before taxes, obtaining Net Profit.

Non-operating expenses: Includes occasional expenses that do not correspond to the main purpose of the business, such as loss on the sale of fixed assets and other extraordinary expenses.

Profit before taxes: Other income is added to the operating profit and other expenses are decreased to obtain the net profit before taxes.

Income taxes: It is calculated on the net profit before taxes, applying the percentage established by the legislation according to the type of company.

Net income: Taxes are deducted from net income before taxes to obtain net income.

Appropriations: The final part of the statement of profit and loss is known as the appropriations section because it indicates what is done with the net income obtained. A provision must be made for the taxes that the company owes for the concept of the profits obtained.

Reserves: The legal reserve is 10% of net income. Other voluntary reserves are calculated according to the percentages established in the company’s bylaws.

Profits for the year: This net value corresponds to the owners of the company and is finally established, which for didactic purposes, would be as follows.

ADMINISTRATIVE SERVICES LTDA.
Statement of income
December 31, 2011
Net income before taxes 3,152,270
– Taxes 30% (limited company) 945,681
liquid profit 2,206,589
– Bookings
Mandatory reservation (legal) 220,659
Bookings 441,318
661,977
utility of the exercise 1,544,612

This article corresponds to chapter 8 of the book Financial Foundations for Microentrepreneurs, under review.