Final Accounts are prepared to achieve the objectives of Book-keeping. In order to know the profit or loss earned by a firm, Trading and Profit and Loss account is prepared (as one Account) balance sheet or position Statement will portray the financial position of the business on particular date. The two statements, i.e. the Trading and Profit and Loss Account and balance sheet are prepared to give the final results of the business that is why both are collectively called final Accounts and Balance Sheet.
The Balance sheet is not an account but has to be drawn up along with the final accounts in order to make them meaningful. The final accounts would indicate the result of operations for the accounting period whereas the Balance sheet would show the financial position as at the end of that period.
At the end of this unit, you should be able to:
- understand the meaning of final accounts
- prepare Trading Account
- prepare Profit and Loss Account.
Final Accounts –
As the name implies, the Trading Account is an account and could be prepared in the ‘T’ form as a normal account. As a matter of fact, it is part of the double entry system. Nominal accounts which are trading account items are debited or credited (as the case may be) to close them off and the corresponding entries would appear in the trading account.
On the debit side of the trading account are recorded the following, the opening stock to which is added net purchases to get total goods available for sale throughout the period. The Net purchases is arrived at by adding cost of carriage inward to the purchases cost and deducting from this sum, the value of returns to suppliers. For the purpose of calculating cost of goods sold, we take into consideration opening stock, purchases, and direct expenses on purchasing and closing stock. The difference between the sales and cost of goods sold is gross profit or gross loss and is transferred to the profit and loss account.
The specimen proforma of a Trading Account is given as under:
Calculation of cost of goods sold:
Detailed Study of the Items Posted to the Debit side of Trading Account
- Opening Stock: This is the amount of goods in hand at the beginning of the period for which the trading account is prepared. This figure is available from the Trial Balance. There will be no opening stock in case of a new business.
- Purchases: It includes both cash and credit purchases of good which are for resale purposes. Purchases returns if any should be deducted from purchases in the inner column and only net purchases are shown in the outer column.
- Direct Expenses: These include all expenses which have been incurred before the goods become ready for sale and are shown on the debit side of Trading Account Examples of direct expenses are: wages, carriage, import duty, royalties etc.
Detailed Study of the Items Posted
To the credit side of Trading Account:
- Sales- Sales should include both cash and credit sales of those goods which were purchased for resale purposes. Some customers might return the goods sold to them (called sales returns) which are deducted from the sale in the inner column and net amount is shown in the outer column.
- Closing Stock – It is the amount of goods in hand at the end of the trading period.
Generally the closing stock is given outside the Trial balance, but when purchases arc adjusted through opening and closing stock, in that case closing stock will have debit balance in the trial balance. If given outside the trial balance it will be credited to the Trading Account but if it is given in the trial balance, then it appears as asset in the Balance Sheet.
Gross Profit or Gross Loss
The difference between the sales and cost of goods sold is gross profit. For the purpose of calculating cost of goods sold, we take into consideration the following items:
- Opening stock;
- Direct expenses on purchasing and closing stock.
The balance of this account represents gross profit or loss and this is transferred to the profit and Loss Account.