company accounts

Company financial statements

November 20, 2020March 22, 2021TheLawStudent

Company Profit and Loss Account

There are a number of slight differences in the format (and words used) of the accounts of companies compared to those used in relation to sole traders and partnerships. The Profit and Loss Account may also be referred to as ‘the Statement of Profit and Loss’ or ‘the Income Statement’).

Instead of using the words ‘income’ or ‘sales’ to denote cash generated by the business, the word ‘revenue’ is commonly used in company accounts.
Companies may show the expenses as a single line in the accounts or may split the expenses into categories.
An entry for finance costs relates to interest payable by the company on funds borrowed and is included as an expense. This can be contrasted with a figure for interest receivable. This would be interest generated on money lent by the company and would be an income entry included in turnover in the top part of the Profit and Loss Account.
An entry for taxation will be included, which will usually include taxation payable on company profits and does not include other employment or consumption taxes.
The Profit for the year figure will be carried over to the Statement of Changes in Equity in the Balance Sheet.

Company Balance Sheet

number of differences in the Balance Sheet of a company compared with that of a sole trader or partnership can be observed.Note:

An ‘Impairment of Receivables’ entry is the provision for doubtful debts, and this information would normally be shown in a supporting note, with only the updated ‘Receivables’ figure shown in the Balance Sheet.
What was previously referred to as ‘current liabilities’ and ‘long term liabilities’, are referred to in company accounts as ‘Current Liabilities’ (such as overdrafts repayable on demand, trade payables, accruals and dividends declared but not yet paid) and ‘Non-current Liabilities’ (such as bank loans repayable in more than one year) respectively.
In terms of the bottom portion of the Balance Sheet, there is no reference to capital contributions or drawings. Instead, the bottom portion of the Balance Sheet shows what is referred to as ‘Total Equity’ or ‘Equity and Reserves’ (these terms are interchangeable). As with all Balance Sheets, the Net Assets should always balance with the bottom portion of the Balance Sheet. This is because Net Assets represent the manner in which the Equity is being used by the company as at the date of the Balance Sheet.
An item labelled ‘Retained Earnings (profit and loss carried forward)’ may appear on the Balance Sheet and should not be confused with the Profit for the Year shown on the Profit and Loss Account. The figure comes from a ‘Statement of Change in Equity’. This is because the correct figure for retained profit needs to be calculated before the balance sheet can be completed: it will include the profit from the current accounting year, together with all retained profits from previous years, net of dividends.
The company Balance Sheet may also include reference to other ‘reserves’, known as ‘capital reserves’. These commonly include the Share Premium Account and Revaluation Reserve.

Differences between company and sole trader/partnership accounts

November 19, 2020March 19, 2021TheLawStudent

There are a number of differences in the content of financial statements for companies: terminology used, tax, dividends and the content of the financial statements. I will briefly mention the differences here and then we will look at some of them in more depth in later posts.

Terminology

As we move from considering unincorporated entities (sole traders and partnerships) to companies, the accounting terminology differs to bring company accounts in line with accounting standards.

Tax in company accounts

So far, tax has not played a part in any of the accounting statements that we considered for sole traders and partnerships. This is because partnerships and businesses run by sole traders do not have separate legal personality, and therefore do not pay tax. The partners or the sole trader pay tax by reference to their own personal tax computations.

Companies however do have a separate legal personality, and as such, they must pay tax on their own account. In practice, therefore, the Profit and Loss Account of a company includes a statement of the tax the company should pay on its profits. This is corporation tax and will ultimately affect the profitability of the company.

Dividends

The owners of companies are shareholders and the shareholders’ return on their investment is the dividend that they may receive.

Like drawings that a sole trader takes from his business, a dividend is an appropriation of profits (after tax). It is not an expense of the business. In practice, dividends will usually appear in a financial statement called the ‘statement of equity’ (or ‘statement of changes in equity’) because they are transactions between the company and its shareholders. Dividends are also sometimes included in an addition to the Balance Sheet called the Statement of Changes in Equity (SoCiE). This shows profits brought forward and added to current year profits subject to any deductions for dividends. The resulting ‘Retained Earnings’ will appear on the bottom half of the Balance Sheet, showing the total profits carried forward to the next accounting period.

Capital accounts: the bottom half of the balance sheet

Company accounts follow a format which differs from those of sole traders and partnerships. The main difference relates to the bottom half of the Balance Sheet and this is due to the fact that the capital of a company consists of share capital, reserves and retained earnings.

November 19, 2020March 17, 2021TheLawStudent

Introduction to company accounts

My previous posts on business accounts have discussed the format of the Profit and Loss Account and Balance Sheet for sole traders and partnerships, together with the necessity of making year-end adjustments such as accruals, prepayments, depreciation and bad and doubtful debts to the trial balance before producing the financial statements. These same principles also apply to companies, however there are some differences to the Profit and Loss Account and Balance Sheet of a company, which I will cover over the next few posts.

Regulation of company accounts

There are three main sources of regulation of UK company accounts:

The Companies Acts 1985, 1989 and 2006 (‘CA’);
Accounting standards; and
The FCA Listing Rules, Prospectus Rules and Disclosure and Transparency Rules (for companies whose securities are offered to the public in the UK or admitted to trading by the London Stock Exchange).

Companies prepare accounts because they are obliged to do so by statute. The accounts also have to take on a particular appearance and format and must also present a true and fair view of the profits, assets and liabilities of the company (s.396(2) CA 2006). This is because the accounts need to provide the reader, whether they are a shareholder, potential investor or an individual investigating an allegation of fraud, with certain key information. Unless that information is presented in a particular way, and consistently each year, then the story that the accounts actually tell may not be true or fair.

A company is free to choose its own accounting reference period, subject to provisions of the Companies Act 2006. Under s.391(4) CA 2006, a company’s accounting reference date (ARD) (the date on which the accounts are ‘ruled off’) is the last day of the month in which the anniversary of its incorporation falls. A company is, however, able to change its ARD to a date of its choice provided the provisions of s.392 CA 2006 are complied with. Under s.442(2)(a) CA 2006, a private company must file its accounts at Companies House within nine months after the end of the relevant accounting reference period and under s.442(2)(b) CA 2006, a public company must file its accounts at Companies House within six months after the end of the same period.

The main accounting requirements of the Companies Act 2006 are contained in Part XV and deal with matters such as:

the duty to keep accounting records (s.386 CA 2006);
accounting reference periods and accounting reference date (s.391-392 CA 2006);
the duty to prepare annual company accounts (s.396 CA 2006);
for parent companies, the duty to prepare group accounts (ss.399, 403 and 404 CA 2006). In principle, every subsidiary in a group remains subject to the duty to prepare its own individual accounts – but in practice many subsidiaries will qualify for an exemption from this;
the duty to prepare a directors’ report (ss.415- 419A CA 2006);
the duty to prepare an auditors’ report (ss.475, 495- 497A CA 2006);
the duty to provide every member with a copy of the accounts (s.423 CA 2006);
the duty for public companies to lay the accounts before a general meeting (ss.437-38 CA 2006); and
the duty to deliver copies of the accounts to the registrar (ss.441, 444- 447 CA 2006).

Accounting standards are issued as Financial Reporting Standards (‘FRSs’) by the Financial Reporting Council (www.frc.org.uk). They were formerly issued as Statements of Standard Accounting Practice (‘SSAPs’), some of which are still in force. Accounting standards apply to all companies.

As a consequence of the Companies Acts, FRSs and SSAPs, company accounts tend to conform to a given format, with a large number of supplementary notes (i.e. footnotes giving extra detail).

Some of the legal and regulatory requirements are relaxed in relation to ‘small’ or ‘medium-sized’ companies, as defined by statute (ss.382, 465 CA 2006). In addition, ‘micro-entities’ (very small companies) are exempt from certain financial reporting requirements, including in relation to s.396(2A) CA 2006.