By K.A. Francis Updated January 31, 2019
Preparing a financial statement is the last step in the accounting cycle before the cycle starts over in a new period. After the accounts have been adjusted and closed, the financial statements are compiled. There is a logical order to preparing the financial statements because they build on one another. The first step in the process is the trial balance.
Tip
Financial statements are compiled in a specific order because information from one statement carries over to the next statement. The trial balance is the first step in the process, followed by the adjusted trial balance, the income statement, the balance sheet and the statement of owner's equity.
The Trial Balance
The trial balance is the balance of all the accounts at the end of the accounting period. For example, if the business's accounting cycle for May runs from May 1 through May 31, the balances at the end of business on the 31st become the entries for the trial balance.
The Adjusted Trial Balance
After the trial balance is complete, adjusting entries are made. Examples of accounts that often require an adjustment include wages payable, accumulated depreciation and prepaid office supplies. After the needed adjusting entries are completed, all the accounts are included in the adjusted trial balance. These totals are used to compile the financial statements.
The Income Statement
The first financial statement that is compiled from the adjusted trial balance is the income statement. Its name is self-explanatory. It's the statement that lists the revenues and expenses for the business for a specific period. Revenues are listed first, and then the company's expenses are listed and subtracted.
At the bottom is of the income statement is the total. If revenues were higher than expenses, the business had net income for the period. If expenditures were greater than the revenues, the business experienced a net loss for the period.
The Balance Sheet
One way of explaining the balance sheet is that it includes everything that doesn't go on the income statement. The balance sheet lists all the assets and liabilities of the business. For example, assets include cash, accounts receivable, property, equipment, office supplies and prepaid rent. Liabilities include accounts payable, notes payable, any long-term debt the business has and taxes payable.
Owner's equity is also included on the balance sheet. This statement should prove that the accounting formula "Assets = Liabilities +Owner's Equity" is in check because the asset side should equal the combined totals of liabilities and owner's equity.
Statement of Owner's Equity
The statement of owner's equity is a summary of the business owner's investment in the business. It shows any capital the owner put into the business, any withdrawals made as a salary, and the net income or net loss from the current period. This is one reason the income statement has to be prepared first because the calculations from that statement are needed to complete the owner's equity statement.
FAQs
Tip. Financial statements are compiled in a specific order because information from one statement carries over to the next statement. The trial balance is the first step in the process, followed by the adjusted trial balance, the income statement, the balance sheet and the statement of owner's equity.
What are the 4 basic financial statements in order of preparation? ›
The four financial statements (in order of preparation) are the income statement, statement of retained earnings (or statement of shareholders' equity), balance sheet, and statement of cash flows.
What is the sequence of financial accounting? ›
The steps in the accounting cycle are identifying transactions, recording transactions in a journal, posting the transactions, preparing the unadjusted trial balance, analyzing the worksheet, adjusting journal entry discrepancies, preparing a financial statement, and closing the books.
What is the sequence of notes to financial statements? ›
There is a paragraph setting out the order in which notes to the financial statements are normally presented: this begins with a statement of compliance, then a summary of significant accounting policies, supporting information for individual line items following their sequence in the primary statements, and finally ' ...
What is the sequence of preparing financial statements? ›
Tip. Financial statements are compiled in a specific order because information from one statement carries over to the next statement. The trial balance is the first step in the process, followed by the adjusted trial balance, the income statement, the balance sheet and the statement of owner's equity.
What is step 5 in the preparation of financial statements? ›
Step 5: Prepare an adjusted trial balance
Once you've posted all of your adjusting entries, it's time to create another trial balance, this time taking into account all of the adjusting entries you've made.
Which financial statement must be prepared first? ›
The income statement, which is sometimes called the statement of earnings or statement of operations, is prepared first. It lists revenues and expenses and calculates the company's net income or net loss for a period of time.
What are the 4 components of the financial statements? ›
The components of Financial Statements are the building blocks that together form the Financial Statements and help understand the business's financial health. And consists of an Income Statement, Balance Sheet, Cash Flow Statement, and Shareholders' Equity Statement.
What are the 4 key financial statements? ›
There are four primary types of financial statements:
- Balance sheets.
- Income statements.
- Cash flow statements.
- Statements of shareholders' equity.
The income statement, balance sheet, and statement of cash flows are required financial statements. These three statements are informative tools that traders can use to analyze a company's financial strength and provide a quick picture of a company's financial health and underlying value.
The correct answer is a. Income statement, statement of stockholders' equity, balance sheet, statement of cash flows.
What is the correct sequence of accounting process? ›
The correct sequence of the accounting process is "Identifying -- recording -- communicating".
What is the order to financial statements? ›
After all of the income and expenses of the business have been recorded, financial accountants prepare financial statements in the following order:
- Income Statement.
- Statement of Retained Earnings—also called Statement of Owner's Equity.
- The Balance Sheet.
- The Statement of Cash Flows.
The correct process for preparing financial statements involves first recording all business transactions, then summarising these records into ledgers. These ledgers are combined to create a trial balance, which is used to draft the income statement, balance sheet and cash flow statement.
What is the proper order of financial statement presentation? ›
Format of statement
Assets can be presented current then non-current, or vice versa, and liabilities and equity can be presented current then non-current then equity, or vice versa. A net asset presentation (assets minus liabilities) is allowed.
What are the 5 steps of financial reporting? ›
To perform financial analysis, there are five effective steps that businesses can follow:
- Comparison between Forecast and Actual Monthly Results. ...
- Identify Exceeding Projections or Off-Track Performance. ...
- Review Income and Expenses. ...
- Analyze Cash Flow Statement. ...
- Review Balance Sheet.
Defining the accounting cycle with steps: (1) Financial transactions, (2) Journal entries, (3) Posting to the Ledger, (4) Trial Balance Period, and (5) Reporting Period with Financial Reporting and Auditing.
What are the 6 steps in the financial process? ›
Financial Planning Process
- 1) Identify your Financial Situation. ...
- 2) Determine Financial Goals. ...
- 3) Identify Alternatives for Investment. ...
- 4) Evaluate Alternatives. ...
- 5) Put Together a Financial Plan and Implement. ...
- 6) Review, Re-evaluate and Monitor The Plan.
