One Laundromat, One Year, Four Statements: How the Income Statement, Retained Earnings, Balance Sheet and Cash Flows Connect Through the Accounting Equation
[Student Name]
University of Phoenix
ACC/290: Principles of Accounting I
Week 1 Assignment
[Instructor Name]
[Date]
The business and all figures are a composite written for a model paper.
Two partners formed a corporation to open a composite neighborhood laundromat, with self-service machines and a wash-and-fold service for households and a few small businesses. At the end of the first year, their banker asked for a full set of financial statements before approving a line of credit. The partners knew the business was busy, but they could not say how much it had earned, what it owned or where the cash had gone. This paper prepares the four statements for the first year and shows how they connect.
The Accounting Equation
Every financial statement rests on the accounting equation: assets equal liabilities plus stockholders' equity. Assets are resources the business controls, liabilities are claims of creditors and equity is the owners' claim, made up of the stock they bought and the earnings the business has kept (Weygandt et al., 2021). Every transaction keeps the equation in balance.
Why the Statements Follow Rules
The statements are prepared on the accrual basis under generally accepted accounting principles, which aim to give investors and lenders information that is relevant and faithfully represents what happened (Financial Accounting Standards Board, 2010). For the laundromat, that means recording the commercial client's unpaid bill as revenue when the service was performed, recording wages and interest when they were incurred and spreading the cost of the machines over the years they will be used. Those choices are what make this year's profit comparable with next year's, and they explain several of the differences between profit and cash discussed below.
The Year's Activity
The owners invested $150,000 in exchange for common stock, and the corporation borrowed $200,000 from a bank on a five-year loan, repaying $36,000 of principal during the year. It bought washers, dryers and store fixtures for $300,000, which it will depreciate over ten years, $30,000 a year.
Revenue totaled $300,000: $236,000 from self-service machines and $64,000 from wash-and-fold service, of which one commercial client still owed $5,200 at year-end.
Expenses were rent, $48,000; utilities, $61,000; wages, $52,000, including $2,000 earned by employees in the last week of the year but not yet paid; supplies, $9,000; repairs, $7,500; insurance, $6,000; interest, $10,000, of which $1,000 was owed but unpaid; and depreciation, $30,000. The corporation paid $12,000 in dividends to the owners.
Statement 1: Income Statement
The income statement reports revenues and expenses for the period. Revenue of $300,000 minus total expenses of $223,500 gives net income of $76,500.
Statement 2: Statement of Retained Earnings
Retained earnings begin at zero in the first year. Adding net income of $76,500 and subtracting dividends of $12,000 gives ending retained earnings of $64,500. Dividends are not an expense; they are a distribution of earnings to owners, which is why they appear here rather than on the income statement.
Statement 3: Balance Sheet
Assets
Cash, $106,300, explained in the cash flow statement below; accounts receivable, $5,200; and equipment of $300,000 less accumulated depreciation of $30,000, or $270,000. Total assets are $381,500.
Liabilities
Wages payable, $2,000; interest payable, $1,000; and the bank loan, $200,000 minus $36,000 repaid, or $164,000. Total liabilities are $167,000.
Stockholders' equity
Common stock, $150,000, plus retained earnings from Statement 2, $64,500, for total equity of $214,500.
Liabilities plus equity equal $381,500, matching total assets. The accounting equation holds.
Statement 4: Statement of Cash Flows
This last statement sorts every movement of cash into three groups: operating, investing and financing.
Operating activities
Using the indirect method, start with net income of $76,500. Add back depreciation of $30,000, since it reduced income but used no cash. Subtract the $5,200 increase in accounts receivable, revenue earned but not collected. Add the $2,000 increase in wages payable and the $1,000 increase in interest payable, expenses recorded but not yet paid. Net cash from operating activities is $104,300.
Investing activities
The equipment purchase used $300,000.
Financing activities
Stock issued, $150,000, plus loan proceeds, $200,000, minus principal repaid, $36,000, and dividends paid, $12,000, provided $302,000.
Net change in cash
$104,300 minus $300,000 plus $302,000 equals $106,300. Since the business began with no cash, ending cash is $106,300, the figure on the balance sheet.
How the Statements Connect
The four statements form a chain. Net income from the income statement flows into retained earnings. Ending retained earnings flows into the equity section of the balance sheet. And the cash flow statement accounts for every dollar by which the balance sheet's cash figure moved during the year. A change in any one figure, such as an additional expense, changes all four statements, which is why accountants check that they tie together.
Profit and Cash
The laundromat earned $76,500 but generated $104,300 in cash from operations. The main reason is depreciation: the $30,000 expense reflects the use of equipment paid for in cash, which appears under investing activities, not operations. Research shows why both measures matter. Dechow (1994) found that accrual-based earnings generally measured firm performance better than cash flows over short periods, because accruals match revenues and expenses to the period in which they occur, while cash flows can swing with the timing of payments. For the banker, earnings show whether the laundromat is profitable; cash flows show whether it can repay the loan.
What the Banker Will See
The statements show a profitable first year with a net profit margin of about 26%, strong operating cash flow and a moderate debt load: liabilities of $167,000 against equity of $214,500. The partners' question about where the cash went is answered by the cash flow statement: most of the cash raised from owners and the bank went into equipment, and operations then produced more than $100,000.
Conclusion
Preparing four statements for one business shows that they are not separate reports but connected views of the same activity. The income statement measures profit, the statement of retained earnings shows what was kept, the balance sheet shows what the business owns and owes and the statement of cash flows explains how cash changed. The accounting equation ties them together.
References
Dechow, P. M. (1994). Accounting earnings and cash flows as measures of firm performance: The role of accounting accruals. Journal of Accounting and Economics, 18(1), 3-42. https://doi.org/10.1016/0165-4101(94)90016-7
Financial Accounting Standards Board. (2010). Conceptual framework for financial reporting (Statement of Financial Accounting Concepts No. 8).
Weygandt, J. J., Kimmel, P. D., & Kieso, D. E. (2021). Accounting principles (14th ed.). Wiley.
How this ACC 290 Week 1 example is structured
The ACC/290 shelf page describes Week 1 as introducing the accounting equation and the four financial statements. The paper prepares all four for one business in the order accountants prepare them, because each statement supplies a number the next one needs. It then checks the result with the accounting equation and explains the difference between profit and cash, the first idea that separates accounting from bookkeeping. Students search this week as ACC 290 Week 1, ACC290 Wk 1 or ACC/290 Wk 1; all three are the same assignment.
ACC/290 Week 1 questions, answered
What does ACC/290 Week 1 usually ask for?
The ACC/290 shelf describes Week 1 as introducing the accounting equation and the four financial statements. Many sections ask students to explain the statements, prepare simple versions for a business and show how they relate.
In what order are the financial statements prepared?
Usually the income statement first, because net income is needed for the statement of retained earnings; then the statement of retained earnings, because ending retained earnings is needed for the balance sheet; then the balance sheet; and finally the statement of cash flows, which explains the change in cash shown on the balance sheet.
Why is net income different from operating cash flow?
Because accrual accounting records revenue when earned and expenses when incurred, not when cash moves, and some expenses, such as depreciation, never require cash in the period. Adjusting net income for these items produces cash from operating activities.
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