prepare income statements, statements of changes in equity and statements of financial position

Resources | Subject Notes | Accounting

IGCSE Accounting 0452 - 5.3 Limited Companies

Objective: Prepare Income Statements, Statements of Changes in Equity and Statements of Financial Position

1. Understanding Limited Companies

A limited company is a type of business where the liability of the shareholders is limited to the amount they have invested in the company. This means that the personal assets of the shareholders are protected from business debts.

Key features of a limited company include:

  • Separate legal entity from its owners (shareholders).
  • Limited liability for shareholders.
  • Can raise capital by selling shares.
  • More complex to set up and administer than sole traders or partnerships.

2. The Income Statement

The income statement (also known as the profit and loss account) reports a company's financial performance over a specific period (e.g., a year). It shows whether the company made a profit or a loss.

The format of an income statement is as follows:

Item Amount (£)
Revenue
Cost of Goods Sold (COGS)
Gross Profit (Revenue - COGS)
Operating Expenses
Depreciation
Operating Profit (Gross Profit - Operating Expenses - Depreciation)
Other Income
Other Expenses
Profit Before Tax (Operating Profit + Other Income - Other Expenses)
Tax Expense
Profit After Tax (Profit Before Tax - Tax Expense)

3. The Statement of Changes in Equity

The statement of changes in equity shows how the equity of a company has changed over a specific period. Equity represents the owners' stake in the company.

Key elements of equity include:

  • Share Capital
  • Retained Earnings (Profit accumulated over time)
  • Other Reserves

The format of a statement of changes in equity is:

Item Opening Balance (£) Change (£) Closing Balance (£)
Share Capital
Retained Earnings
Other Reserves
Total Equity

4. The Statement of Financial Position (Balance Sheet)

The statement of financial position shows a company's assets, liabilities, and equity at a specific point in time.

The fundamental accounting equation is: Assets = Liabilities + Equity

Assets are resources owned by the company (e.g., cash, inventory, equipment). They are listed in order of liquidity (how easily they can be converted to cash).

Liabilities are amounts owed by the company to others (e.g., accounts payable, loans). They are also listed in order of when they are due.

Equity represents the owners' stake in the company.

The format of a statement of financial position is:

Assets Amount (£)
Current Assets
Stock/Inventory
Cash and Bank Balances
Debtors (Accounts Receivable)
Other Current Assets
Fixed Assets (Non-Current Assets)
Property, Plant, and Equipment (PPE)
Land
Other Non-Current Assets
Liabilities Amount (£)
Current Liabilities
Accounts Payable (Creditors)
Loans Payable
Other Current Liabilities
Non-Current Liabilities
Long-term Loans
Other Non-Current Liabilities
Equity Amount (£)
Share Capital
Retained Earnings
Other Reserves

5. Relationships Between the Statements

The income statement and the statement of changes in equity are linked. The profit (or loss) from the income statement flows into the retained earnings account in the statement of changes in equity.

The balance sheet reflects the assets, liabilities, and equity at a specific point in time. The changes in equity over a period are reflected in the balance sheet through the retained earnings component.

Suggested diagram: A diagram showing the flow of information between the Income Statement, Statement of Changes in Equity, and Statement of Financial Position.