Notes

Learn how to prepare financial statements, such as the balance sheet. See which financial statement is prepared first and see how the adjusted trial balance is used.
The Adjusted Trial Balance
The ultimate goal for any accounting professional is to produce clear, accurate and reliable financial statements that give the true picture of a company's financial position. To many of those people charged with this task, the entire concept can be daunting. But it really doesn't have to be. By the time that all the other steps of the accounting process have been completed, especially the adjusted trial balance, the task of putting the financial statements together should be a breeze.

Why would it be so easy after the adjusted trial balance is completed? Simply because the adjusted trial balance is the listing of all the accounts that a company has after adjustments have been made. The balances that appear on the adjusted trial balance are the most accurate and up-to-date account balances that a company has. So, let's look at exactly how simple it is to prepare the financial statements from the adjusted trial balance.

Creating the Income Statement
Now first things first. Before we even begin to jump into how to prepare financial statements from the adjusted trial balance, I think it's important that you know that only three of the four financial statements can be created with that information. They are the income statement, the statement of retained earnings and the balance sheet.

The income statement is the financial statement that tells how much a company made or lost in a given time period. In order to calculate the net profit or net loss of a company, you have to know how much money came in to the company and how much was paid out of the company. We call the money that came in to the company revenue and the money that was paid out of the company expenses. The information for revenue and expenses is found directly on the adjusted trial balance.

Let's look at the adjusted trial balance of Tifton Manufacturing. From the adjusted trial balance, we can get the following information to transfer directly to the income statement:

Revenue: $82,600

Expenses - Wages Expense: $18,200

Supplies Expense: $18,480

Rent Expense: $12,000

Depreciation Expense: $1,100

Electricity Expense: $2,470

Telephone Expense: $1,494

Interest Expense: $150

All we have to do now is to plug the information into the income statement. When we're finished, it should look like this:

Example income statement
income statement
As you see, revenue minus expenses equals a net income of $28,706.

Statement of Retained Earnings
The statement of retained earnings is next. It is the financial statement that tells how much of the money that a company made in a given time period was retained and reinvested in the company. It's calculated by subtracting any dividends, which are dollar amounts paid to investors as return on their investment from the net income during that accounting period.

Now if we look at Tifton Manufacturing, you see that there are no dividends that are listed as being paid out:

Here there are no dividends listed as paid.
statement of retained earnings
Since that is the case, the statement of retained earnings will be simple. You will add the net income from the income statement to the retained earnings that were reported on the last statement of retained earnings.

For the purpose of this lesson, we'll assume that the prior year's retained earnings were $31,287. The current retained earnings statement will look like this:

Example retained earnings statement
retained earnings statement
The retained earnings from January 1, 2013, was $31,287. You add net income of $28,706, and you get the retained earnings as of March 31, 2013, of $59,993.

But what would happen if there had been dividends reported on the adjusted trial balance? Let's say that the adjusted trial balance listed a dividend account with a balance of $12,000. In that case, we'd have a retained earnings statement that looked like this:

Retained earnings statement with dividends reported
retained earnings statement with dividends
Retained earnings from January 1, 2013, for $31,287 plus the net income of $28,706 minus the dividends of $12,000 would give you an ending retained earnings on March 31, 2013, of $47,993. As you can see, dividends are subtracted from the retained earnings balance to get the current retained earnings.

The Balance Sheet
Now we move on to the balance sheet. Since the balance sheet is a listing of all the company's accounts that are listed by category, the balance sheet will utilize the majority of the accounts on the adjusted trial balance. Notice that I said the majority of the accounts. Those accounts that are specifically labeled expense accounts are not included in the balance sheet.

Why, you wonder? Because expense accounts are considered temporary accounts. Temporary accounts are those accounts whose balances zero out at the end of an accounting period. These types of accounts are only used for a specific time frame. Permanent accounts, which are the ones reported on the balance sheet, are those accounts that once opened, will always be a part of a company's chart of accounts. Real account balances are not zeroed out in a specific time frame.

Look at the Tifton Manufacturing balance sheet:

Example balance sheet
balance sheet
You will see on the left hand side, the total assets are $68,557. On the right side, the liabilities and stockholder's equity also equals $68,557. The balance sheet is complete.

Lesson Summary
Creating accurate financial statements is the number one goal of the accounting industry. This job is made much easier by using information found on the adjusted trial balance. The adjusted trial balance is a listing of all the accounts that a company has and their balances after adjustments have been made. There are three financial statements that can be created directly from the adjusted trial balance.

The income statement, which is the financial statement that tells how much money a company made or lost in a given time period, uses the revenue and expense account information from the adjusted trial balance. Revenue accounts are those that are related to money that came in to the company, while expense accounts are those related to money that was paid out of the company.

The statement of retained earnings is the financial statement that tells how much money that the company made was retained and reinvested in the company. The two specific accounts that are transferred from the adjusted trial balance to the statement of retained earnings are the current period retained earnings account and the dividend account. The dividend account is the account that shows any dollar amount that is paid out to investors as return on their investment.

The last financial statement that is created from the adjusted trial balance is the balance sheet. The balance sheet is the financial statement that lists all of a company's permanent accounts and their balances. Permanent accounts are accounts that are always a part of the company once they're opened. Permanent accounts are transferred to the balance sheet and categorized as assets, liabilities or owner's equity. Once the accounts are transferred, the total of all asset account balances must be equal to the sum of the liabilities and owner's equity. If they are equal, then the accounts are considered balanced.