After transaction entries have been journalized and posted, a trial balance is prepared of the ledger account balances. Financial statements may be prepared directly from the trial balance listing of accounts. In most cases, where a large number of accounts are involved, the development of the financial statements can be facilitated by the preparation of a general worksheet. A major purpose of the worksheet is to classify and segregate the trial balance figures according to the financial statements in which they will be presented. Other purposes of the worksheet will be shown in sub-sequent chapters. In addition, later chapters will introduce you to special-purpose worksheets.
A worksheet to develop financial statements for 20X1 for Smalltown Hospital is illustrated in Figure 4.1. Note the following points:
1. The trial balance at December 31, 20X1, is entered on the left side, with the dollar amounts being shown in the first two columns. This is the same trial balance that was developed in the preceding chapter and illustrated in Figure 3.8.
H F M A’s I n t r o d u c t i o n t o H o s p i t a l A c c o u n t i n g 78
12/31/X1Statement of Acct.Trial BalanceOperationsNet AssetsBalance Sheet No.Account TitleDr.Cr.Dr.Cr.Dr.Cr.Dr.Cr. 101Cash9,5009,500 104Accounts receivable25,80025,800 106Inventory6,7006,700 120Land25,00025,000 130Buildings67,00067,000 140Equipment45,00045,000 201Accounts payable5,6005,600 202Notes payable12,00012,000 250Bonds payable50,00050,000 301Hospital net assets100,000100,000 302Revenue and expense summary— 401Routine services revenue72,18072,180 402Ancillary services revenue48,12048,120 406Other operating revenues13,80013,800 601Salaries and wages expense76,40076,400 602Supplies expense21,50021,500 603Utilities expense12,70012,700 604Insurance expense3,6003,600 605Repairs expense2,9002,900 608Interest expense4,3004,300 610Other expenses1,3001,300 Totals301,700301,700122,700134,100 Net income for the year11,40011,400 Totals134,100134,100-0-111,400 Hospital net assets, 12/31/X1111,400111,400 Totals111,400111,400179,000179,000
FIGURE 4.1 Smalltown Hospital Worksheet to Develop Financial Statements, Year Ended December 31, 20X1
C h a p t e r F o u r : W o r k s h e e t s , F i n a n c i a l S t a t e m e n t s , a n d C l o s i n g E n t r i e s 79
2. Next, the individual balances in the trial balance are extended to the appropriate financial statement columns. Debit balances are extended as debits, and credit balances are extended as credits, as follows:
a. Assets and liabilities account balances are extended into the balance sheet section.
b. The trial balance figure for hospital net assets is extended into the net assets statement section. This statement will be discussed in the next part of this chapter.
c. Revenue and expense account balances are extended into the state-ment of operations section of the worksheet.
d. The income summary account has no balance and can be disre-garded in the preparation of the worksheet. The summary account is used only in the process of closing the books.
In this way, the individual trial balance items are categorized or assembled into groups according to the financial statements in which the items will be presented.
3. Totals now are taken of the debits and credits in the statement of operations section; debits total $122,700, and credits total $134,100.
Because the debits are expenses and the credits are revenues, the dif-ference ($11,400) is the 20X1 excess of revenues over expenses. The excess of revenues over expenses figure ($11,400) is shown in the statement of operations section as a debit simply to balance the columns at $134,100. In addition, the $11,400 excess of revenues over expenses is extended as a credit to the net assets statement section of the worksheet.
4. Then, totals are taken of the debits (none) and credits in the net assets statement section. In certain situations, there could be debits to the net assets statement, but you need not be concerned with that possibility at this time. The credits to the net assets statement include the $100,000 of hospital net assets on January 1, 20X1, and the
$11,400 excess of revenues over expenses for 20X1. This credit total of $111,400 is the amount of the hospital net assets on December 31, 20X1. The $111,400 figure is entered in the net assets statement section as a debit simply to balance the columns; the figure also is extended to the balance sheet section as a credit item.
5. A final step in completion of the worksheet is totaling the debits and credits in the balance sheet section. Notice that these columns balance with totals of $179,000.
Thus, a primary function of the worksheet is to assemble the account balances in financial statement groupings. This, of course, facilitates prepara-tion of the formal financial statements.
H F M A’s I n t r o d u c t i o n t o H o s p i t a l A c c o u n t i n g 80
Financial Statements
The assembled data provided by the worksheet can now be used in the prepa-ration of 20X1 financial statements for Smalltown Hospital. These statements, in the order in which they usually are prepared, are as follows:
1. A statement of operations for the year ended December 31, 20X1, illustrated in Figure 4.2;
2. A balance sheet at December 31, 20X1, illustrated in Figure 4.3; and 3. A statement of hospital net assets for the year ended December 31, 20X1,
illustrated in Figure 4.4.
As previously stated, financial statements are the final product of the accounting process. They are the means by which financial information is communicated to hospital management and interested external parties for use in making economic decisions.
Statement of Operations
The heading of the statement of operations (see Figure 4.2) identifies the accounting entity as Smalltown Hospital, indicates that the statement is a statement of operations, and specifies the time period covered by the state-ment as being the year ended December 31, 20X1. This statestate-ment presents the operating results of the hospital for 20X1 in terms of revenues earned and expenses incurred. The result of operations, measured as the difference between operating revenues earned and operating expenses incurred, is the operating income. Adding nonoperating income (typically interest on long-term investments minus an investment fee) produces the bottom line to the statement of operations called the excess of revenues over expenses (or net profit, or net loss, in some cases).
Smalltown Hospital’s statement of operations has been prepared in accor-dance with GAAP in that operating revenue is shown net of deductions and in accordance with the accrual basis of accounting. Under this basis of accounting, revenues are recognized and recorded in the time period in which they are earned by the hospital in rendering services and selling prod-ucts to patients and others, regardless of when (if ever) the related inflow of cash occurs. Expenses are recognized and recorded in the time period in which they are incurred or consumed in revenue-producing activities of the hospital, regardless of when (if ever) the related outflow of cash occurs. The accrual basis is a GAAP that must be employed by all hospitals.
The alternative to the accrual system is the cash basis of accounting.
In this system of accounting, revenues are recognized and recorded in the time period in which they are received in cash; expenses are recognized and recorded in the time period in which they are paid in cash. A statement of Accrual Versus
Cash Basis Accounting
C h a p t e r F o u r : W o r k s h e e t s , F i n a n c i a l S t a t e m e n t s , a n d C l o s i n g E n t r i e s 81
operations prepared on a cash basis, then, is little more than a statement of cash receipts and cash disbursements (and an incomplete statement at that, because not all cash receipts are revenues and not all disbursements are expenses). Thus, the cash basis of accounting is not appropriate for hospitals or, for that matter, most other enterprises for external reporting purposes.
Smalltown Hospital’s statement of operations, then, is a statement of revenues earned and expenses incurred during 20X1. It is not a statement of cash received and disbursed. The term “revenue” does not mean cash receipts, nor is the term “expense” synonymous with cash disbursements. Notice, for example, that the statement of operations of Smalltown Hospital, as shown in Figure 4.2, reports $120,300 of revenues earned from patient services. How much of this amount has been received in cash? Having seen the 20X1 trans-actions in Chapter 3, you know that only $94,500 was collected during the year on patients’ accounts. And where is the other $25,800? It is presented in the balance sheet as “Receivables—patient services” (see Figure 4.3). Thus,
$120,300 of patient services were rendered by Smalltown Hospital during 20X1, and this is the amount reported as revenues for the year, although
$25,800 of that amount will not be collected until 20X2.
Net patient services revenues:
Routine services $72,180
Ancillary services 48,120
Total net patient services revenues 120,300 Other operating revenues 13,800
-0-Excess of revenues over expenses $ 11,400
FIGURE 4.2
H F M A’s I n t r o d u c t i o n t o H o s p i t a l A c c o u n t i n g 82
Or consider the $21,500 supplies expense item in the statement of operations of Smalltown Hospital (see Figure 4.2). Is this the amount of sup-plies purchased and paid for during 20X1? No! Having worked with the 20X1 transactions in Chapter 3, you know that $28,200 of supplies were purchased on account during the year and that cash payments of only
$22,600 were made to the suppliers of these items. The statement of opera-tions of the year is charged only for the cost of supplies consumed in activi-ties of the period. As a result of this accrual basis accounting, the balance sheet shown in Figure 4.3 reports a $6,700 inventory and $5,600 of accounts payable to suppliers. These items would not appear in the balance sheet if cash basis accounting were employed.
The excess of revenues over expenses is not directly linked to cash balance in the short run. This means that there is no necessary short-run relationship between reported excess of revenues over expenses and the change in the cash balance during the year. Smalltown Hospital begins the year with
$100,000 of cash but ends the year with a cash balance of only $9,500. Thus, in a year when an $11,400 excess of revenues over expenses is reported, the Assets
Cash $ 9,500
Receivables—patient services 25,800
Inventory 6,700
Total current assets $ 42,000
Land 25,000
Short-term notes and loans payable—banks 12,000
Total current liabilities $ 17,600
Noncurrent liabilities 50,000
Total liabilities 67,600
Hospital net assets 111,400
Total liabilities and net assets $179,000
FIGURE 4.3
C h a p t e r F o u r : W o r k s h e e t s , F i n a n c i a l S t a t e m e n t s , a n d C l o s i n g E n t r i e s 83
cash balance decreases by more than $90,000. Do not get the idea, therefore, that the statement of operations is a presentation of cash flows.
Cash flows, however, are vitally important in the management of a hospital. In addition to statements of operations and balance sheets, account-ants also prepare statements of cash flows (cash receipts and disbursements) for internal management and external reporting purposes. A discussion of such statements will appear later in this book.
You should understand that the two-column format in which the statement of operations is presented in Figure 4.2 in no way implies a debit and credit relationship. The left column is not necessarily a debit column, nor is the right column is not necessarily a credit column. There are no debit or credit columns in financial statements. The number of columns employed is only a matter of presentation (display) style. The statement of operations, for example, could be formatted in a single column.