Vertical Format of Financial Statements.

Vertical format of Financial Statements for Management Accounting

1. Vertical Format

2. Income Statement

3. Conventional Horizontal Form Income and closing stock on the right hand side and expenses and opening stock on the left hand side Direct income (Sales) is shown first, followed by Misc. Income and closing stock Opening Stock and Direct Costs (purchase of goods, freight) are shown first, followed by other expenses, depreciation and payment of taxes.

4. Need for Vertical Format Conventional form does not show gross profit, hence it is not possible to know if goods are sold above cost or not It does not classify expenses, into any category. Vertical format classifies expenses into operating expenses, administrative expenses, etc. This helps to analyse the relationship between expenses and sales and know whether the expenses are variable or fixed and so on. Conventional format does not show the net non-operating income. A proper financial analysis is possible only if profit is disclosed step by step. This is especially useful in Ratio Analysis.

5. Line Items Sales Gross Sales is also known as Revenue from Operations/Turnover, it includes both cash and credit sales. *Allowances are trade discounts or allowance for defective goods  

6. Cost of Goods Sold COGS = Opening stock + Purchases + Direct Expenses + Depreciation –Scrap Sales - Closing Stock Therefore, COGS means cost of ( i ) materials, (ii) Labour and (iii) Factory overheads Purchases will include incidental expenses such as Inward Freight, Octroi and Import Duty. Thus, cost of purchases includes all expenses directly attributable to acquisition less traded discounts, rebates, duty drawbacks and other subsidies. Direct Expenses: These are expenses incurred for bringing goods to a saleable condition. In a manufacturing concern, costs such as wages, electricity, fuel, factory expenses etc. are included in direct expenses Depreciation: Depreciation on plant, factory etc. Scrap Sales: Scrap sales are deducted from cost of goods sold Less: Closing stock: the value of raw materials, WIP and finished goods on the last day of the accounting year.

7. Line Items Profit on manufacturing only, does not take into account selling & distribution exp. Operating Expenses Things to note – Normal bad debts will be part of selling exp and abnormal bad debts will be part of finance charges. Interest includes, interest on debentures or bonds, interest on loans from banks and financial institutions, interest on public deposits, interest on short-term loans.  

8. Bajaj auto ltd. P&L

9. Steps to be followed to solve a sum Going through the entire question first. Marking the adjustments if any and writing where each item will go i.e. the heading. Then write down the full format of Balance Sheet or P&L Account at a stretch. Then looking at the items in the Question fill up the Format, taking one item at a time from the question in the order given in the question. Put a tick on the item as you finish posting in the format so that you don’t miss any item.

10. Balance Sheet

11. Conventional/T-Form Assets on the right hand side, Liabilities on the left Assets are shown in order of permanence, Least liquid i.e. fixed assets followed by most liquid i.e. current assets. Even under this, items are arranged in order of permanence e.g. stock appears first, followed by cash balance Liabilities are shown in order of priority of re-payment. E.g. Permanent liabilities i.e. Capital is shown first followed by Long Term Loans and then Short term Loans etc.

12. Why convert to Vertical Format? Horizontal format is made from the point of view of the owner of a firm It shows at a glance the total amount of funds owned and total amount of funds owed It helps to know which assets take time to sell and which can be liquidated quickly However, it is not suitable for Financial Analysis as the presentation and sequence of items are valid only in even of Liquidation, not for analysing a going concern A vertical format is more suitable for financial analysis, especially Ration Analysis.

13. Key Differences In a Vertical Balance Sheet, Current Liabilities are deducted from Current Assets to form the Working Capital Fictitious assets are deducted from Owner’s Funds At times, Application of funds (FA+WC) is shown first, followed by Sources of Funds (OF + LF) Net worth i.e. Owner’s Funds = Assets – Liabilities Total Funds Available is total of Own and Owed Funds Tangible Assets are shown at net cost, i.e. Cost – Depreciation

14. Quick Assets & Quick Liabilities Quick Assets are those which are quickly realisable Quick Assets = Current Assets – Inventories & Prepayments Liabilities which are payable immediately are called quick liabilities. Overdraft is not, in practice immediately payable, so, Quick Liabilities = Current Liabilities – Bank Overdraft

15. Relationship Between Items in The BS & P&L