THEORY OF FINANCIAL STATEMENT
Q.1. What is meant by Grouping and Marshalling in connection with the Balance Sheet of a business? How are these done?
Ans. Balance Sheet is a statement of the financial position of a firm at a given date. This given date is the date of close of the financial year. Balance Sheet has two sides: the Assets side and the Liabilities side. It is not an account but is only a statement. This is done by Grouping and Marshalling of the various items in the Balance Sheet. The term "Grouping" means putting together various items of the same or common nature under one heading. However "Marshalling" means or refers to the order in which the various assets and liabilities are stated in the Balance Sheet. This may be done according to either of the two methods:
(i) Liquidity order
(ii) Permanence order
Under the liquidity order method, assets are arranged in the order of liquidity i.e., most liquid assets (such as Cash, Bank) are shown or listed first and the least liquid asset is shown in the last. Similarly liabilities are also arranged in order of the urgency of payment. Under the permanence order of placement of items in the Balance Sheet, this very order is almost reversed.
According to the liquidity order, the form of Balance Sheet would be like this:
|Incomes Received in Advance||Inventories|
|Long-term Liabilities (e.g. Bank Loan||Prepaid Expenses (if any)|
|Borrowings (e.g. Debentures etc.)||Accrued Incomes|
|Plant and Machinery|
|expenditures (if any)|
Q.2. Write a short not on the limitations of financial statements.
Ans. LIMITATIONS OF FINANCIAL STATEMENTS
The major limitations of financial statements are as under:
— Ignores the price-level changes. Financial statements ignore the price-level changes since they are prepared on historical basis and not on current cost basis.
— Ignores the qualitative elements. Financial statements ignore the qualitative elements like quality of management, quality of labour force and public relations.
— Relates to past and not to future. Financial statements relate to the past and not to the future.
— Not free from bias. Financial statements are not free from bias since the subjectivity is inherent in personal judgement involved in making decisions regarding methods of depreciation, method of inventory valuation, materiality, provision for doubtful debts etc
Q.3. What is a "Trial Balance"? What purpose does it serve?
Ans. Accounting process in case of business organisations comprises of these stages:
• Recording of financial transactions in the subsidiary books
• Posting these transactions from subsidiary books into the ledgers.
• Preparing the Trial Balance.
In this process, trial balance is the first step in the preparation of the Final Accounts and Balance Sheet. Trial Balance is a statement of balances of all the ledger accounts. At the end of the year all the ledger accounts are closed and balances of all ledger accounts are put in a statement called Trial Balance. Debit balances of accounts are put in one column and credit balances are put in the other column. Total of both these columns should be equal. Trial balance shows the arithmetical accuracy of the recording of business transactions. However, agreement of the trial balance is not a conclusive proof of the accuracy of the recording of financial transactions. It may be possible that some errors of compensating nature exist in the system.