2016 BPP Passcard f3
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FIA Passcards FIA FFA / ACCA Paper F3 Financial Accounting Passcards for exams from 1 September 2015 – 31 August 2016
FIA FFA ACCA Paper F3 Financial Accounting
First edition 2011 Fourth edition March 2015 ISBN 9781 4727 3543 0 eISBN 9781 4727 2876 0
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Preface
Contents
Welcome to BPP Learning Media Media's 's new new FIA FFA/AC FFA/ACCA CA F3 Passcards. Passcards.
They save you time. Important topics are summarised summarised for for you.
They incorporate diagrams to kick start your memory.
They follow the overall structure of BPP Learning Learning Media's Media's Interactiv Interactivee T Text exts, s, but BPP Learning Learning Media' Media'ss new Passcards are not just a condensed book. Each card has been separately designed designed for clear presentation presentation.. Topics are self contained and can be grasped visually. Passcards are still just the right size for pockets, briefcases and bags.
Passcards focus on the exam you will be facing.
Run through the complete set of Passcards as often as you can during your final revision revision period. The day before the exam, try to go through the Passcards again.You will then be well on your way to completing your exam successfully. Good luck!
Page iii
Preface
Contents
Page
1
Introduction to accounting
1
2
The regulatory framework
7
3
Page
12 13
Irrecoverable debts and allowances Provisions and contingencies
67 71
The qu The qual alititat atiive ch char arac acte teri rist stic icss of fifina nanc ncia iall information 11
14
Control accounts
75
15
Bank reconciliations
81
4
S rim me enoturyrces, records and books of pri
19
Ledger accounts and double entry
25
Correction of errors Prep Pr epar arat atio ionn of fifina nanc ncia iall st stat atem emen ents ts for sole traders
85
5
16 17
6
From trial balance to financial statements
33
18
Incomplete records
93
19
Introduction to company accounting
101
20
Prepar Prep arat atio ionn of of fifina nanc ncia iall sta state tem men ents ts for companies
107
21
Event ntss af afte terr th thee re repo port rtin ingg pe peri riod od
1133 11
22
Statements of cash flows
117
7 8
Sales tax Inventory
41 45
9
Tangible non-current assets
51
10
Intangible non-current assets
59
11
Accruals and prepayments
63
91
Page
23
Introodu Intr duct ctio ionn to to con conso sollid idat ated ed fifina nanc nciial statements
123
24
The co The conso sollid idat ated ed sta tate tem men entt of of fifina nanc ncia iall position 127
25
The co The conso sollid idat ated ed sta tate tem men entt of of pro profifitt or or loss lo ss an andd ot othe herr co comp mpre rehe hens nsiv ivee in inco come me
1333 13
Interpretation of financial statements
137
26
Page v
Notes
1: In Intr trod oduc ucti tion on to acc accou ount ntin ing g
Topic List
This chapter looks at why financial statements are prepared, the different types of business entities and the users of financial statements.
The purpose of financial reporting
We also look at the main financial statements: the statement of financial position and the statement of profit
Types of business entity Users Governance The main financial statements
or loss.
The purpose of financial reporting
Types of business entity
Users
Governance
The main financial statements
The purpose of financial reporting A business has a number of functions, the most prominent is to make a profit for the owners
Profit is the excess of income over expenditure
Financial data
Books of prime entry
Ledger accounts
Trial balance
Financial statements
The purpose of financial reporting
Types of business entity
Users
Governance
The main financial statements
Types of business entity Sole traders traders –Rrefers to ownership, ownership, sole traders traders can have employees Partnerships – Two or more people working working together to earn profits
Personally responsible for debts of business
Limited Limi ted liability liability company company – Owners Owners have have liability liability limited to the amount they pay for their shares – A limited liability liability comp company any has a separate legal identity from its owners
Page 3
1: Introduction to accounting
The purpose of financial reporting
Types of business entity
Users
Governance
The main financial statements
Users of accounts
Managers of the company
Shareholders of the company Trade contacts c ontacts
Providers of finance to the company
Taxation authorities
Employees of the company Financial analysts and advisors
Government Gove rnment and their agencies
The public
The larger the entity, the groups greater the interest from various of people
Different users have different needs
The purpose of financial reporting
Types of business entity
Users
Governance
The main financial statements
Governance Responsible for preparation of financial statements Main aim: to create wealth for shareholders
Must act honestly in best interests of company
Page 5
Duty of care to Directors
show reasonable competence
Fiduciary position
1: Introduction to accounting
The purpose of financial reporting
Types of business entity
Users
Governance
The main financial statements
Main financial statements Statement of profit or loss
Statement of financial position A list of assets owned by the entity entity and on aliabilities particularowed dateby the
Total assets = Total liabilities
A record of income generated
+ capital Amount invested by owner is capital
and incurred over a givenexpenditure period
Asset Something which entity owns valuable or has use of an
Revenue Income generated by a business
Liability Something owed to somebody else
Expenses Costs of running a business
2: The reg regula ulator toryy frame framew work
Topic List The regulatory system IASB
This is a look at the regulatory system and the role played by the IASB.
IASB
The regulatory system
National law Form and content of accounts may be regulated by national legislation. 'Fair 'Fair presentation'.
Accounting standards
Other international issues
Influences upon financial accounting
GAAP Drawn from: Local company law Accounting standards Statutory requirement in other countries Stock exchanges
The IASB produces standards.
Accounting individualconcepts judgementand Can lead to subjectivity. Accounting standards developed to address subjectivity.
The regulatory system
IASB
Monitoring Board
IFRS Foundatio Foundationn
IFRS Advisory Council
IASB
Appoints Reports to Advises Page 9
IFRS Interpretations Committee (IFRIC)
2: The regulatory framework
The regulatory system
IASB
Objectives of IFRS Foundation are to: 1) Develop Develop a single set of high quality quality,, understandable, understandable, enforceable enforceable and globably globably accepted accepted IFRSs through through standard-setting body IASB 2) Promote Promote use use and and rigorous rigorous applicati application on of of these these standa standards rds 3) Take accoun accountt of the needs needs of of emerging emerging econo economies mies and and SMEs SMEs 4) Bring about convergence convergence of national accounting standards and IFRSs to high quality solu solutions tions
3: The qualita qualitative tive chara character cteristic isticss of financia financiall information
Topic List
Modern accounting is based on certain concepts and conventions.
The IASB's Conce Conceptual ptual Frame ramework work
Get to grips with these and you should be well equipped to discuss accounting standards and their strengths and weaknesses.
The IASB's Conceptual Framework
Underlying Assumption Going concern The entity will continue in operation for the foreseeable future. There is no intention to put the entity into liquidation
Accruals Revenue and costs must be recognised as they are earned or incurred, not as money is received or paid
Not an underlying assumption but accounts should be prepared on an accruals or matching basis
Qualitative characteristics Conceptual Framework Framework
Qualitative characteristics make info in financial statements useful to users
Two fundamental characteristics
Page 13
Relevance Faithful representation
3: The qualitative characteristics of financial information
The IASB's Conceptual Framework
Relevance
– Info is relev relevant ant when it influences influences decisions decisions of users, affected by nature and materiality
Materiality Info is material if its omission or misstatement could influence the economic decisions of users taken on the basis of the financial statements
Faithful representation
– Financial information mustphenomena ffaithfully aithfully re represent present the underlying economic – Complete Complete,, neutral, neutral, free from error error
Enhancing characteristics: comparability compar ability;; verifia verifiability; bility; timelin timeliness; ess; under understanda standability bility
Page 15
Comparability
– Users must be able able to compare compare financial statements through time and with other entities – Disclose Disclose accountin accountingg policies policies – Disclose corresponding corresponding inf infoo for comparativ comparativee periods
Verifiability
– Information that can be independently independently verified
Timeliness
– Information is availab available le in time to be be capable capable of influencing decisions
3: The qualitative characteristics of financial information
The IASB's Conceptual Framework
Understandability
– Users must be able able to understand understand financial statements – Users assumed to have have some economic, economic, busi business ness and accounting knowledge – Complex Complex matters should not be left out if re relev levant ant
Reliability Info is reliable when it is free from material error and bias and can be depended upon to represent faithfully what it either purports to represent or could reasonably be expected to represent.
Other concepts Business entity concept
In accounting, the business is treated as separate to its owners. Not the same as limited liability!
Page 17
Fair presentation
Financial statements are required to present fairly in all material respects the financial results and position of the business. business.
Consistency
Presentation and classification of items should remain consistent from one period to the next.
Compliance with IFRSs will achieve this.
3: The qualitative characteristics of financial information
Notes
4: Sour Source ces, s, re reco corrds an and d boo books ks of pr prim imee entry
Topic List
This chapter covers the main sources of data and the function each source or record has.
The role of source documents
We will see how the documents are recorded in books of original entry to reflect business transactions.
Sales and purchase day books Cash books
The role of source documents
Sales and purchase day books
Cash books
Source documents
Books of prime entry
Business transactions are nearly always recorded on a document. These documents are the source source of the information in the accounts. Such documents include include
The source documents are recorded in books of prime entry.
the following: Quotation Sales order Purchase order Invoice Credit note
Journal
Debit note Goods received note
Journals are used to record source information that is not contained within the other books of prime entry. entry. They record the following: following: Period end adjustments Correction of errors Large/unusual transactions
The role of source documents
Cash books
Sales and purchase day books
Sales day book
Purchases day book
The sales day book is used to keep a list of all invoices sent out to credit customers each day. day. Here is an example.
This is used to keep a record of invoices which a business receives receives for credit purch purchases. ases. Here is an example.
SALES DAY BOOK
PURCHASES DAY BOOK
Date
3.3.X9
Invoice number
Customer
Rec'bles ledger ref.
207 208
ABC & Co XYZ Co
SL12 SL59
Total invoiced $ 4,000 1,200
5,200
Page 21
Date
Supplier
Payables ledger ref.
3.4.X9 10.4.X9
RST Co JMU Inc
PL31 PL19
15.4.X9
DDT & Co
PL24
Total invoiced $ 215 1,804
758 2,777
4: Sources, records and books of prime entry
The role of source documents
Sales and purchase day books
Cash books
Cash book Cash receipts and payments are recorded in the cash book. Cash receipts are recorded as follows, with the total column analysed into its component parts. CASH RECEIPTS Date
Narrative
3.3.X9
C Caash sale Receivable: ABC & Co (discount taken)
Discounts allowed $
Rec'bles ledger $
1,000
50
1,000
1,150
50
1,000
Total $ 150
Cash payments are recorded in a similar way.
Cash sales $ 150
Sundry $
150
–
Petty cash book Petty cash payments and receipts are recorded in a petty cash book. Most businesses keep a small amount of cash on the premises for small payments, eg stamps, coffee.
Date
3.3.X9
PETTY CASH BOOK RECEIPTS Narrative Bank
Total $
Date
PAYMENTS Narrative Total $
50
3.3.X9
P Caopffeere
50
Page 23
105 15
Stationery $
Coffee $
10
5 5
10
etc $
4: Sources, records and books of prime entry
The role of source documents
Sales and purchase day books
Petty cash imprest system Under the 'imprest system': Cash still held in petty cash Plus voucher payments Must equal the agreed sum or float
$ X X __ X __ __
Reimbursement is made equal to the voucher payments to bring the float back up to the imprest amount.
Cash books
5: Led Ledger ger acc accoun ounts ts and dou doubl blee ent entry ry
Topic List
This chapter looks at ledger accounting. Ledger accounts summarise all the individual transactions listed in the books of prime entry.
The nominal ledger The accounting equation Double entry bookkeeping The journal Day book analysis The receivables and pay payables ables ledgers
The nominal ledger
The accounting equation
Double entry bookkeeping
Ledger accounting and double entry
The journal
Day book analysis
The receivables and payables ledgers
The nominal ledger
Method used to summarise transactions in the books of prime entry.
Is an accounting record which summarises the financial affairs of a business.
A ledger account or 'T' account looks like this.
Accounts within the nominal ledger include the following. Plant and machinery (non-current asset) Inventories Inven tories (current asset) Sales (income) Rent (expense) Total payables (current liability)
NAME NA ME OF ACCOU CCOUNT NT $ DEBIT SIDE
$ CREDIT SIDE
The nominal ledger
The accounting equation
Double entry bookkeeping
The journal
Day book analysis
The receivables and payables ledgers
The accounting equation CAPITAL + LIABILITIES = ASSETS
Capital Investment of funds with the intention of earning a return
Drawings Amounts withdrawn from the business by the owner
The accounting equation is based on the principle that an entity is separate from the owner, ie the business entity concept. Page 27
5: Ledger accounts and double entry
The nominal ledger
The accounting equation
Double entry bookkeeping
The journal
Day book analysis
The receivables and payables payabl es ledgers
Basic principles Double entry bookkeeping is based on the same idea as the accounting equation.
Every accounting transaction has two equal but
opposite effects Equality of assets and liabilities is preserved
In a system of double entry bookkeeping every accounting event must be entered in ledger accounts both as a debit and as an equal but opposite credit.
Debit
An increase in an expense An increase in an asset A decrease in a liability
Credit
An increase in income An increase in a liability A decrease in an asset
Double entry bookkeeping The rules of double entry bookkeeping are best learnt by considering the cash book. A credit entry indicates a payment made by the business; the matching debit entry is then made in an account denoting an expense paid, an asset purchased or a liability settled. A debit entry in the cash book indicates cash received received by the business; the matching credit entry is then made in an account denoting revenue received, a liability created or an asset realised.
The nominal ledger
The accounting equation
Double entry bookkeeping
The journal
Day book analysis
The receivables and payables payabl es ledgers
The Journal
The journal is a book of prime entry The journal keeps a record of unusual movements between accounts
Format of journal entries is as follows. Date Debit Cr Credit $ $ DEBIT A/c to be debited X CREDIT A/c to be credited X Narrative to explain transaction Remember: the journal is used to keep a re record cord of unusual movements between accounts
Page 29
5: Ledger accounts and double entry
The nominal ledger
The accounting equation
Double entry bookkeeping
The journal
Day book analysis
Day book analysis
The receivables and payables ledgers
Entries in the day books are totalled and analysed before posting to the nominal ledger. Note that day books are often analysed as in the following extrac extractt (date, customer name and reference not shown). Total in invoiced Calculator sa sales Book sa sales $ $ $ 340 160 180 120 70 50 ___6_0_0 _3_5_0 _2_5_0 __1__,__0__6__0 __5__8__0 __4__8__0
To identify sales by product, total sales would be entered ('posted') as follows. DEBIT CREDIT
Receivables a/c Sales: Calculators Sales: Books
$ 1,060
Other books of prime entry are analysed in a similar way.
$ 580 480
The nominal ledger
The accounting equation
Double entry bookkeeping
The journal
Day book analysis
The receivables and payables ledgers
Trade accounts receivable and payable Trade account receivable
Trade account payable
A customer who buys goods without paying for them straight away (an asset)
A person to whom a business owes money (a liability)
Also known as a debtor.
Also known as a creditor.
Page 31
5: Ledger accounts and double entry
The nominal ledger
The accounting equation
Double entry bookkeeping
The journal
Day book analysis
The receivables and payables ledgers
Receivables and payables ledgers To keep track of individual customer and supplier balances it is common to maintain subsidiary ledgers called the receivab receivables les ledger and the payables ledger . Each owed account accouby nt in ledgers ledgers represents the balance or these to an individual customer or supplier.
These receivables and payables ledgers are usually kept purely for reference and are therefore known as memorandum records. The Theyy do not form form part of the double entry system. However, some computerised accounting packages treat the receivables and payables ledgers as part of the double entry system, in which case separate control accounts are not kept.
Entries to the receivables ledger are made as follows.
When making an entry in the sales day book, an entry is then made on the debit side of the customer's account in the receivables ledger. When cash is received and an entry made in the cash book, an entry is also made on the credit side of the customer's account in the receivables ledger.
The payables ledger operates in much the same way.
6: Fr From om trial trial bala balance nce to to financ financial ial stat stateme ement ntss
Topic List
The balances need to be extracted from the ledger accounts and entered into the trial balance.
The trial balance
Double entry bookkeeping dictates that the trial balance will have the same amount on the debit side as there is on the credit side.
The statement of profit or loss Statement of financial position Preparing financial statements
The trial balance
The statement of profit or loss
Statement of financial position
Preparing financial statements
Balancing ledger accounts
Trial balance
At the end of an accounting period a balance is struck on each ledger account.
The balances are then collected in a trial balance. If the double entry is correct, total debits = total credits.
Total all debits and credits Debits Creditsexceed exceedcredits debits == debit creditbalance balance
An example of balancing a ledger account is shown below. RECEIVABLES $ $ Sales
10,000
Cash Balance c/d
10,000 Balance b/d
2,000
This account has a debit balance of $2,000.
8,000 2,000 10,000
Errors
A trial balance does not guarantee accuracy. It will not pick up the following errors.
Compensating errors Errors of commission Errors of omission Errors of principle
An example of a trial balance, incorporating the above receivables balance, is shown below. ABC TRADERS TRIA TR IALL BALA BALANC NCE E AS AT 30 JUNE JUNE 20 20X7 X7 $ Sales Purchases Receivables Payables Cash Capital Loan R Suenndt ry expenses Loan interest Drawings Fixtures and fittings
Page 35
$ 35,000
13,000 2,000 1,500 10,000 10,000 10,000 34,,500000 1,000 5,000 18,000 56,500
56,500
6: From trial balance to financial statements
The trial balance
The statement of profit or loss
Statement of financial position
Preparing financial statements
Statement of profit or loss First open up a ledger account for the statement of profit or loss. Continuing our example example for ABC T Traders raders this ledger account is shown below, together with the rent account to illustrate how balances are transfe transferred rred to it at the end of the year. STA ST ATEMENT TEMENT OF PROFIT PROFIT OR LOSS LOSS $ $ Purchases 13,000 Sales 35,000 R Suendt ry expenses Loan interest
34,5000 1,000
RENT Cash
$ 4,000 4,000
SPL
$ 4,000 4,000
This could be rearranged as follows to arrive at the financial statement with which you are familiar. ABC TRADERS STATEMENT OF PROFIT OR LOSS FOR THE YEAR ENDED 30 JUNE 20X7 Sales Cost of sales (here = purchases) Gross profit Expenses Rent Sundry expenses Loan interest Net profit
Page 37
$
35,$000 13,000 22,000
4,000 3,500 1,000
8,500 13,500
6: From trial balance to financial statements
The trial balance
The statement of profit or loss
Balance off the accounts relating to assets and liabilities following example shown above the receivables
Transfer the balances on the drawings account and the statement of profit or loss ($13,500) to the capital account as follows
Preparing financial statements
DRAWINGS $ 5,000 Capital
Statement of financial position The statement of financial position is prepared by following these steps.
Statement of financial position
Cash
$ 5,000
STA ST ATEMENT TEMENT OF PR PROFI OFIT T OR LOSS LOSS Purchases Rent Sundry expenses Loan interest Capital a/c
$ 13,000 4,000 3,500 1,000 13,500 35,000
Sales
$ 35,000
35,000
CAPITAL Drawings Balance c/d
$ 5,000 18,500 23,500
Cash SPL
$ 10,000 13,500 23,500
Prepare the statement of financial position as follows. ABC TRADERS STA ST ATEMENT TEMENT OF FIN FINANC ANCIAL IAL POSITI POSITION ON AS AT 30 JUNE 20X7 20X7 $ $ Non-current assets Fixtures and fittings 18,000 Current Receivassets ables Cash
2,000 10,000 ______ 12,000 ______ 30,000 ______ ______ 18,500
Proprietor's capital Current liabilities Payables Loan
1,500 10,000 ______ 11,500 ______ 30,000 ______ ______
Page 39
6: From trial balance to financial statements
The trial balance
The statement of profit or loss
Accounting process overview This diagram summarises the topics you have revised so far far.. Look at it just before your exam exam – everything should fall into place.
Receivables ledger
Statement of financial position
Invoice
Receipt/Payment
Invoice
Sales day book
Cash book
Purchase day book
Dr Dr Cr Journal eg closing inventory
Preparing financial statements
Cr
General ledger
Dr Cr
Preliminary trial balance Dr Cr Clear income and expenditure balances to SPL Clear profit and drawings balances to capital account Prepare statement of financial position
Payables ledger
7: Sales tax
Topic List Nature and collection of sales tax Accounting for sales tax
A sales tax is is a general consumer expenditure expenditure tax. It is likely to be examined as part of another topic.
Nature and collection of sales tax
Accounting for sales tax
Sales tax Administered by tax authorities
Output sales tax Sales tax charged by the business on goods/services
Is an indirect tax levied on the sale of goods and services
Greater than input? Pay difference to tax authorities Greater than output? Refund due to business
Can have a number of rates, eg standard rate, reduced rate
Input sales tax Sales tax on purchases made by the business
Nature and collection of sales tax
a
Credit sales (i) Include sales tax in sales day book; analyse it separately
(ii) Include Includenogross gro ss receipts rece iptswfrom frsales om receiva rece bles s in cash book; need to show sho taxivable separately sep arately (iii) Exclude Exclude sales sales tax element element from statemen statementt of profit or loss (iv) Credit Credit sales tax control control account account with output output sales tax element of sales invoices
Accounting for sales tax
b
Credit purchases purchases (i) Include sales tax in purchases day book; analyse it separately (ii) show Include Include gross gross paseparately ymentss in cash book; book; no need need to sales taxpayment (iii) Exclude recover recoverable able sales tax from statement of profit or loss (iv) Include irrecover irrecoverable able sales tax in statement statement of profit or loss (v) Debit Debit sales tax control control accoun accountt with recover recoverabl ablee input sales tax element of credit purchases
Page 43
7: Sales tax
Nature and collection of sales tax
c
Cash sales (i) Include gross receipts in cash book; show sales
tax separately (ii) Exclude Exclude sales sales tax tax element element from from statem statement ent of of profit or loss (iii (iii)) Credit Credit sales tax tax control control account account with output output sales tax element of cash sales
Accounting for sales tax
d
Cash purchases (i) Include gross payments in cash book: show
sales tax separately (ii) Exclude Exclude recov recovera erable ble ssales ales tax tax from statemen statementt of profit or loss (iii) Include irrecover irrecoverable able sales tax in statement statement of profit or loss (iv) Debit sales sales tax control control account account with recoverable recoverable input sales tax element of cash purchases
8: Inventory
Topic List
This is an important chapter, it cov covers ers a standard (IAS 2) and the complexities surrounding the inventory figure.
Cost of goods sold
Remember, the inventory figure affects both the statement of financial position and the statement of profit or loss.
Accounting for opening and closing inventories Counting inventories Valuing inventories IAS 2
Cost of goods sold
Accounting for opening and closing inventories
Counting inventories
Formula for the cost of goods sold Opening inventory value Add: purchases (or production costs) Less: cl c losing inventory value Cost of goods sold
$ X X X (X) X
Valuing inventories
IAS 2
Carriage inwards
Cost paid by purchaser of having goods transported to his business Added to cost of purchases Carriage outwards
Cost the seller, paid by the seller, of having goodstotransported to customer
Is a selling and distribution expense
Cost of goods sold
Accounting for opening and closing inventories
Counting inventories
Valuing inventories
IAS 2
Entries during the year During the year, purchases are recorded by the following entry. DEBIT
Purchases
$ amount bought
The exact reverse entry is made for the closing inventory (which will be next year's opening inventory):
CREDIT Cash or payables $ amount bought The inventory account is not touched at all.
DEBIT CREDIT
Entries at year-end The first thing to do is to transfer the purchases
The balance on the inventory account is still the must ust als alsoo be opening inventory balance. This m transferred to the statement of profit or loss:
account balance to the statement of profit or loss: DEBIT CREDIT Page 47
SPL Purchases
$ total purchases $ total purchases
DEBIT CREDIT
Inventory SPL
SPL Inventory
$ ccllosing in inventory $ closing inventory
$ opening inventory $ opening inventor y 8: Inventory
Cost of goods sold
Accounting for opening and closing inventories
Counting inventories
Valuing inventories
Counting inventories In order to make the entry for the closing inventory, we need to know what is held at the year-end. We find this out not from the accounting records, but by going into the warehouse and actually counting the boxes on the shelves. Some businesses keep detailed records of inventory coming in and going out, so as not to have to count ev everything erything on the last day of the year.These year. These records are not part of the double entry system.
IAS 2
Cost of goods sold
Accounting for opening and closing inventories
Counting inventories
Valuing inventories
IAS 2
Cost Can use per IAS 2: FIFO Average cost (both periodic weighted average and continuous weighted average) LIFO is not permitted.
Valuation
Inventories must be valued at the lower of:
Cost Net realisable value (NRV)
NRV NRV Expected selling price Less costs to get items ready for sale selling costs
Page 49
X (X) (X) __ X 8: Inventory
Cost of goods sold
Accounting for opening and closing inventories
IAS 2
Inventories should be measured at the lower of cost and net realisable value – the comparison between the two should ideally be made separately for each item
Counting inventories
Valuing inventories
IAS 2
Inventories are assets:
Held for sale in the ordinary course of business;
In the process of production ffor or such ssale; ale; or
In the form of materials or supplies to be
Cost is theincost incurred in the normal course of business bringing the product to its present location and condition, including production overheads and costs of conversion
Inventory can include raw materials, work in progress, finished goods, goods purchased for resale FIFO and average cost are allowed LIFO is not allowed
Note. Inventory excludes construction contracts in progress (IAS 11), financial iinstruments nstruments (IASs 32 and 39), agricul agricultural tural products (IAS 41) and mineral ores.
consumed in the production process or in the rendering of services.
Net realisable value is the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale.
9: Tangi angible ble nonnon-curr current ent asset assetss
Topic List
Non-current assets are held by the entity for a number of years use.
Capital and rev revenue enue expenditure
You must be able to account for revaluations and disposals and to discuss IAS 16's main requirements.
IAS 16 Depreciation Non-current asset disposals Revaluations Disclosure The asset register
Capital and revenue expenditure
IAS 16
Depreciation
Non-current asset disposals
Revaluations
Disclosure
The asset register
You may be asked to explain the capital/revenue expenditure expen diture distinction in layman's layman 's terms ter ms
Capital expenditure expenditure results in the acquisition of non-current assets, or an increase in their earning capacity
Revenue expenditure is incurred for the purpose of trade or to maintain the existing earning capacity of the non-current assets
Capital and revenue expenditure
IAS 16
Depreciation
Non-current asset disposals
Revaluations
Disclosure
The asset register
IAS 16
Initial measurement – at cost Components of cost – Purcha Purchase se price price (incl. (incl. import import duties duties,, exc excl.l. trade trade disco discount unt,, recove recovera rabl blee sal sales es ta tax) x)
– –
Initia Initiall estim estimate ate of dism dismant antlin lingg and and resto restora ratio tionn costs costs Dire Directl ctlyy at attri tribu buta tabble co cost sts, s, eg (i) Site preparation (iv) Delivery and handling costs (ii) Installation an and as assembly co costs (v) Costs of of te testing w whhether w woorking pprroperly (i(iiiii)) Prof Prof.. fees ees
Subsequent expenditure – Added Added to ca carrying rrying amoun amountt if impro improves ves condition condition bey beyond ond prev previous ious perf performance ormance Repairs and maintenance costs are expensed .
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9: Tangible non-current assets
Capital and revenue expenditure
IAS 16
Depreciation
Non-current asset disposals
Revaluations
Disclosure
The asset register
Depreciation – accruals concept Is a process of spreading the original cost of a non-current asset over the accounting periods in which its benefit will be felt.
The double entry for depreciation is as follows. DEBIT Depreciatitioon eexxpense ((S SPL) CRED CR EDIT IT Ac Accu cumu mula late tedd depr deprec ecia iatition on ((SO SOFP FP))
Two methods
Change in expected life
Straight line Dep'n = cost
RV
useful life Reducing balance Dep'n = carrying carrying value value × RB%
If after a period of an asset's life it is realised that the original useful life has been changed, then the depreciation charge needs to be adjusted. The revised charge from that date becomes: CV at revised date Remaining useful life
Capital and revenue expenditure
IAS 16
Depreciation
Disposal On disposal of an asset a profit or loss will arise depending on whether disposal proceeds are greater or less than the carrying value of the asset. If proceeds > CV = profit If proceeds < CV = loss
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Revaluations
Disclosure
The asset register
Double entry for a disposal
Non-current asset disposals
Eliminate cost DEBIT Disposals CREDIT Non-current assets Eliminate accumulated depreciation DEBIT Provision for depreciation CREDIT Disposals Account for sales proceeds DEBIT Cash CREDIT Disposals or if part exchange deal DEBIT Non-current assets CREDIT Disposals with part exchange value Transfer balance on disposals account to the statement of profit or loss 9: Tangible non-current assets
Capital and revenue expenditure
IAS 16
Depreciation
Non-current asset disposals
Revaluations
IAS 16 allows a choice between
Keeping asset at cost Revaluing to fair value
Fair value may give fairer view on business
Revaluation A revaluation is recorded as follows. DEBIT EBIT Non-c on-cuurr rreent ass sseet (revalued (rev alued amount less original cost) DEBI DE BIT T Accu Accum mul ulat ated ed depr deprec ecia iatition on (total depreciation to date) CREDIT CRED IT Reva Revaluati luation on surplus (revalued amount less carrying value)
Disclosure
The asset register
Capital and revenue expenditure
IAS 16
Depreciation
Non-current asset disposals
Disclosure With regard to disclosure, a proforma non-current asset note is shown here.
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Revaluations
Disclosure
The asset register
Total $ 000
Land and buildings $ 000
Plant and equipment $ 000
Cost or valuation At 1 January 20X7 Revaluation surplus Additions in year Disposals in year At 31 December 20X7
160 20 50 (45) 185
100 20 30 (15) 135
60 – 20 (30) 50
Depreciation At 1 January 20X7 Charge for year Eliminated on disposals At 31 December 20X7
30 7 (3) 34
20 5 – 25
10 2 (3) 9
Carrying value At 31 December 20X7
151
110
41
At 1 January 20X7
130
80
50
9: Tangible non-current assets
Capital and revenue expenditure
IAS 16
Depreciation
Non-current asset disposals
Revaluations
Disclosure
The asset register contains details of each non-current asset owned by the business. Asset register data
Asset number (internal reference) reference) Serial number (manufacturer's reference) Description Location Department that 'owns'
Purchase date Cost Depreciation method Estimated useful life Carrying amount ('current book value')
The asset register should be reconciled to the relevant nominal ledger accounts.
The asset register
10: Int Intang angib ible le non non-cu -curr rrent ent ass assets ets
Topic List Intangible non-current assets Research and development costs
Intangible non-current assets are long term assets with no physical substance.
Intangible non-current assets
Intangible non-current assets Non-current assets which have a value to the entity but no physical substance.
Examples
Goodwill Leases Patents and trade names Deferred development costs
Research and development costs
Amortisation Intangible assets must be amortised systematically overr their useful life. An intangible asset ove asset with an indefinite useful life is not amortised but should be reviewed each year for impairment.
Disclosure
Method of amortisation used
Useful life of the assets or amortisation
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rate used Gross carrying value value,, accumulated amortisation and accumulated impairment losses at beginning and end of period Movements Move ments during the period Carrying intangibleeamount intangibl assets of internally-generated
10: Intangible non-current assets
Intangible non-current assets
IAS 38 Intangible assets
Research and development costs
All costs written off as incurred
Pure or basic research
Applied research
P – Probable future economic benefits
Development expenditure must be capitalised if all criteria stated under IAS 38 can be demonstrated
intangible le asset I – Intention to complete the intangib and use or sell it
Financial statements should show a reconciliation of the carrying amount of intangible assets at the beginning and end of the period
availabili bility ty of of Resources to complete R – the availa the development and use or sell A – Ability to use or sell
feasibility ty of completing the asset T – Technical feasibili reliable measuremen measurementt of Expenditure E – reliable
11: Ac 11: Accr crua uals ls and and pre prepa paym ymen ents ts
Topic List Accruals and prepayments
This chapter covers the adjustments which need to be made to expenses in order to reflect the true level of profits for the accounting period.
Accruals and prepayments
Accrual
Prepayment
Expenses charged against the profits of a period even though they have not yet been paid for
Prepayment
Payments made in one period but charged to the later period to which they relate
Invoice received
Debit Expenses account Credit Payables account
Payment made
Expense in SPL
Part that relates to current accounting period
Part that relates to later accounting period
The amounted debited to the SOFP will hit the SPL in the next period.
Prepayment.. An asset in the Prepayment SOFP, not charged as an expense in the SPL
Accruals Expense incurred – No invoice yet
Part relating to current accounting period is an accrual Debit Credit
SPL SOFP payables (liability)
Remember that the financial statements are prepared on an accruals basis.
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11: Accruals and prepayments
Notes
12: Irr Irreco ecover verab able le debts debts and and allow allowanc ances es
Topic List Irrecoverable debts and receivables Irrecoverable allowances Accounting for irrecoverable debts and receivables allowances
This chapter looks at more adjustments required before the financial statements can be prepared.
Irrecoverable debts and receivables allowances
Accounting for irrecoverable debts and receivables allowances
Irrecoverable debts and receivables allowances A receivable should only be classed as an asset if it is recoverable.
Irrecoverable debts
Receivables allowances
If definitely irrecoverable, it should be written off to the statement of profit or loss as an irrecoverable debt.
If uncertainty exists as to the recoverability of the debt, an allowance allowance should be set up. This is offset against the receivables balance on the statement of financial position.
DEBIT DEBI T Ir Irre reco covverab erable le deb debtt exp expen ense se (SP (SPL) L) CREDIT CRE DIT Tra rade de receiv receivab ables les (SOFP) (SOFP)
DEBI DE BIT T
Irrec Irrecov over erab able le debt debt expen xpense se (SPL (SPL))
CREDIT CRED IT Allowan Allowance ce for receivab receivables les (SOFP (SOFP)) Allowances can either be specific, against a particular receivable, or general, against a proportion of all receivables not specifically allowed for.
Irrecoverable debts and Irrecoverable receivables allowances
General allowances When calculating the general allowance to be made, the following order applies. $ Receivables balance per receivables control account Receivables X Less irrecoverable debts written off (X) amounts specifically allowed (X) X Balance on which general allowance allowance is calculated
If a reduction in the receivables allowance is required, then: DEBI DE BIT T Al Allo lowa wanc ncee ffor or rec recei eivvab able less (SOFP (SOFP)) CREDIT CRED IT Irrecov Irrecoverab erable le debts expens expensee (SPL)
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Accounting for irrecoverable debts and receivables allowances
Note. Only the movement in the general allowance needs to be charged or credited to the SPL. $ Allowance required X (X) Existing allowance Increase/(decrease) required
X/(X)
Subsequent recovery of debts If an irrecoverable debt is recovered, having previously previou sly been written off, then: DEBIT Cash ((S SOFP) CREDIT CRED IT Irrecov Irrecovera erable ble deb debts ts expe expense nse (SPL)
12: Irrecover Irrecoverable able debts and allowances
Notes
13: Pr Pro ovis vision ionss and and con contin tingen gencie ciess
Topic List IAS 37
This standard is a key key area of the syllabus. syllabus. Learn how to apply it. The most important thing you should do is learn learn to justify the treatment you adopt.
IAS 37
Provision A liability of uncertain timing or amount
Important The amount recognised as a provision should be the best estimate of the expenditure expenditure required to settle that present obligation.
Contingent Liability
Contingent Asset
A possible obligation that arises from past events, whose existence
A possible asset that arises from past events and whose
will be confirmed by the occurrence or non-occurrence of future ev events ents not wholly in the entity's control.
existencee will be confirmed existenc by the occurrence of one or more uncertain future events not wholly within the entity's control.
A present obligation not recognised because:
Itofisthe notobligation probablewill thatbesettlement required The amount cannot be measured
Y e s P r o v i d e
c o D l i n s i a t b i n c i l l i g o t y e s n e t
D o n o t h i n g
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Y e s
Y e s
e R s t e i m l i a a b t l e e ?
o P r u o t f l b o a w b l ? e
N o
N o
( r a r e )
N o
R e m o t e ?
Y e s
o r b o e l i P g e b s a u r l v g i e l t e t i s o a n e t o t f n n ? i n a a g n s t a
S t a r t
N o Y e s
o b P l i o g a s s t i i b o l n e ?
N o
13: Provisions and contingencies
IAS 37
Disclosures required for provisions
1
2
Details of the change in carrying amount from the beginning to the end of the year
For each class of provision, disclosure of the background to the making of the provision and the uncertainties affecting its outcome
14: Co 14: Cont ntrrol ac acco coun unts ts
Topic List What are control accounts? Discounts The operation of control accounts The purpose of control accounts
Control accounts are 'total accounts' that represent the total of many individual 'memorandum' accounts.
What are control accounts?
What are control accounts
A control account is a total account.
Its balance a liability which is therepresents grand totalan of asset many or individual assets or liabilities. liabilities. These individual assets/liabilities must be separately detailed in subsidiary accounting records, but their total is conveniently available in the control account ready for immediate use.
Discounts
The operation of control accounts
The purpose of control accounts
Most businesses operate control accounts for trade receivables and payables, but such accounts may be useful in other areas too, eg sales tax. With regard to the double entry relating to receivables and payables, note the following: The accounts of individuals are maintained for memorandu memo randum m purposes purposes only.
Entering a sales invoice, say, in the account of an individual receivable is not part of the double entry process.
What are control accounts?
The operation of control accounts
The purpose of control accounts
Two types
Accounting treatment
Trade discount – reduction in cost of goods eg regular customers, bulk
deduct from ppurcha urchases ses Received: deduct
discounts
Allowed: deduct deduct ffrom rom sales sales
Cash/settlement discount – reduction in amount payable, eg for cash or prompt payment
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Discounts
included as other other in income come Received: included included as expens expenses es Allowed: included
14: Control accounts
What are control accounts?
Discounts
The operation of control accounts
The purpose of control accounts
The invoices in the sales day book are totalled periodically and the total amount is posted as follows.
Similarly, the total of cash receipts from receivables is posted from the cash book to the credit side of the receivables control account.
DEBI DE BIT T
In the same way, the payables control account is credited with the total purchase invoices logged in the purchase day book and debited with the total of cash payments to suppliers.
Rece Receiv ivab able less cont contro roll ac acco coun untt
CRED CR EDIT IT Sale Saless ac acco coun untt
What are control accounts?
Discounts
The operation of control accounts
Reasons for maintaining control accounts
Check on the accuracy of the personal accounts in the receivables ledger The control accounts provide a convenient convenient total which can be used immediately in extracting a trial balance or preparing accounts A reconciliation between the control account total and the receivables ledger will help to detect
The purpose of control accounts
RCA Balance b/d
X
Cash rec'd
X
S Daislheos noured cheques Interest charged on late accounts
X X X
D alalordwsed Riestcuornusntisnw Irrecoverable debts Contra with payables Balance c/d
X X X X X X
X Balance b/d
X
errors, thus providing an important control
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14: Control accounts
What are control accounts?
Discounts
X X X X X X
The purpose of control accounts
Reconciling control a/cs with memorandum ledgers
PCA Cash paid Discounts received Contra with rec'ables Returns outwards Balance c/d
The operation of control accounts
Balance b/d Purchases Interest on overdue accounts
Balance b/d
X X X
X X
Step 1 – Correct the total of the balances from the memorandum ledger Step 2 – Correct the control a/c balance Note. The corrected control a/c balance appears in the final accounts.
Possible reasons for credit balances on receivables ledger accounts, accounts, or for debit balan balances ces on pay payables ables ledger accounts Overpayment of amount owed Return of goods Payment in advance Posting errors
15: Ba 15: Bank nk re reco conc ncililia iati tion onss
Topic List Bank statement and cash book Bank reconciliation
It is very likely that you will get a question on bank reconciliations in your your exam. With a small amount of practice you should be able to tackle any bank reconciliation thrown at you.
Bank statement and cash book
Bank reconciliation
Bank reconciliation The bank reconciliation is an important financial control. The bank reconciliation will invariably show a difference.
A comparison of a bank statement with the cash book.
Differences on bank reconciliation
Errors: more lik likely ely in the the cash book. book. Omissions: items on the bank statement not in the cash bbook ook (eg bank charges). Timing differences: differences: eg cheques issued and entered in the cash book but not yet presented at the bank.
Bank statement and cash book
Bank reconciliation
Proforming a bank reconciliation 1
2
Correct the cash book
Reconcile to the bank statement
Proforma bank reconciliation
Corrected cash book CASH CAS H AC ACCOU COUNT NT Balance b/f Undercast error in balance b/f
X X
Corrected balance b/f
X X
$ X ( X) X X/(X)
Dishonoured cheque Bank charges Standing orders Direct debits
X X X X
Balance per bank statement Less outstanding cheques Plus outstanding lodgements Plus/less bank errors
Balance c/f
X X
Balance per corrected cash book
X
Corrected cash book balance is the cash balance that is shown in the SOFP.
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15: Bank reconciliations
Notes
16: Corr rrec ecti tion on of er errror orss 16: Co
Topic List
There will always be errors which need to be corrected before the final accounts can be prepared.
Types of error in accounting
It helps to know what kind of errors can be made in order that you can find them and then correct them.
The correction of errors
Types of error in accounting
The correction of errors
Types of error The main types of error are as follows
Errors of transposition, eg writing $381 as $318 (the difference is divisible by 9) Errors of omission, eg receive supplier's invoice for $500 and do not record it in the books at all Errors of principle, eg treating capital expenditure as revenue expenditure Errors of commission, eg putting telephone expenses of $250 in the electricity expense account Compensating errors, eg both sales day book and purchases day book coincidentally undercast by $500
Types of error in accounting
The correction of errors
Correction of errors Errors can be corrected using the journal, but only those errors which required both a debit and an (equal) credit adjustment. Consider the foll following owing examples. examples.
Example
Accountant omits to record invoice from supplier for $2,000. This would be corrected by the following following journal entry. entry. DEBIT
Purchases
$2,000
CREDIT Payables A transaction previously omitted.
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$2,000
Example
Accountant posts car insurance of $800 to motor vehicles account. account. Correct as follo follows. ws. DEBIT Motor expenses CREDIT Motor vehicles
$800 $800
Correction of error of principle.
16: Correction of errors
Types of error in accounting
A suspense account is a temporary account that is used in the following circumstances.
1
The bookkeeper knows in which account to make the debit entry for a transaction but does not know where to make the corresponding credit entry (or vice versa) The credit is temporarily posted to the suspense account until the correct credit entry is known
2
A difference occurs in the trial balance caused by the incomplete recording of the double entry in respect of one or more transactions The difference is recorded in the suspense account and included in the trial balance, so restoring equality
Any balance on a suspense account must be eliminated. It is never included in the final accounts.
The correction of errors
Example Harry Perkins, sole trader, prepared his trial balance for the year ended 30 June 20X5. To his dismay he found that debits exceeded credits by $7,452. He has discovered the following errors. 1 Discounts allowed of $486 were posted to the discounts allowed account as $684
2
Credit sales totalling $7,500 had not been posted to the sales account
3
The balance on thewhen accruals account of $404 had been omitted the trial balance was prepared
4
In respect of telephone expenses of $650, the only entry to have been made was in the cash account
The balance would be cleared by writing up the suspense account as follo follows. ws. SUSPENSE SUSPEN SE ACCO ACCOUNT UNT $ Discounts allowed (i) 198 Sales (ii) 7,500 Accruals (iii) 404
$ 7,452 650
B/d Telephone (iv)
8,102
The correct entry: DEBIT Discounts allowed CREDIT Receivables The actual entry: DEBIT Discount allowed CREDIT Receivables ∴ CREDIT Suspense (balance) To correct: DEBIT Suspense CREDIT Discounts allowed
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(ii)
8,102 $
(i)
$
The actual entry: DEBIT Receivables ∴ CREDIT Suspense To correct: DEBIT Suspense CREDIT Sales
$
486 486 (iii)
684 486 198 198 198
The correct entry: ry: DEBIT Receivables CREDIT Sales
(iv)
$
7,500 7,500 7,500 7,500 7,500 7,500
To ccoorrect: DEBIT CREDIT
Suspense Accruals
404
To correct: DEBIT CREDIT
Telephone Suspense
650
404
650 16: Correction of errors
Notes
17: Prepar Preparati ation on of financ financial ial state statemen ments ts for for sole traders
Topic List Preparation of final accounts
A sole trader's accounts are prepared from the trial balance, making adjustments for things like accruals and irrecoverable debts, as well as clearing a suspense account.
Preparation of final accounts
Final accounts You have now revised all areas necessary to prepare the final accounts of a sole trader trader.. Areas you should should be totally familiar with are as follows.
Ledger accounts
Trial balance
Format of statement of profit or loss and statement of financial position
In addition, you should be able to deal with the following adjustments.
Depreciation Inventory Accruals and prepayments prepayments Irrecoverable debts Allowance for receivables Profit/loss disposal of non-current assets
18: Inco comp mple lete te reco recorrds 18: In
Topic List
This area is a very good test of your accounts preparation knowledge.
Incomplete records questions
You need to know how the accounts fit together in order to fill the blanks.
Accounting and business equations Credit sales, purchases and cost of sales Stolen or destroyed goods Cash book Accruals, prepayments and drawings
Incomplete records questions
Accounting and business equations
Credit sales, purchases and cost of sales
Stolen or destroyed goods
Cash book
Accruals, prepayments and drawings
Types of question
An incomplete records question may require competence in dealing with one or more of the following.
Preparation of accounts from information in the question Theft of cash (balance on the cash in hand account is unknown) Theft or destruction of inventory (closing inventory is the unknown) Estimated figures, eg 'drawings are between $15 and $20 per week' Calculation of capital by means of net assets Calculation of profit by P = increase in net assets plus drawings minus increase in capital Calculation of year end inventory when the inventory count was done after the year end
Incomplete records questions
Accounting and business equations
Credit sales, purchases and cost of sales
An examination question may provide information about the assets and liabilities of an entity at the beginning of a period, leaving you to calculate capital as the balancing figure. Remember:
Cash book
Accruals, prepayments and drawings
Business equation
Accounting equation
Stolen or destroyed goods
If you have opening and closing net assets, you can calculate profit for the year by the use of the business equation: Profit/(loss) = increase in net assets + drawings drawin gs – capital introduced P = I + D – Ci
Assets – liabilities = Proprietor's capital
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18: Incomplete records
Incomplete records questions
Accounting and business equations
sales, s, purc purchases hases Credit sale and cost of sales
Credit sales and receivables
Cash book
Accruals, prepayments and drawings
Purchases and trade accounts payables
The key lies in the formula linking sales, cash receipts and receivables.
Remember: Opening receivables + sales – cash receipts = closing receivables
Stolen or destroyed goods
Similarly you need a formula for linking purchases, cash payments and payables. Opening payables + purchases – cash payments = closing payables Use a control account.
Alternatively put all the workings into a control account to calculate the figure you want.
RECEIV RECE IVABLES ABLES CONTROL CONTROL ACCOUN ACCOUNT T $ Opening receivables Sales
X X X
Cash receipts Closing receivables
$ X X X
PAYABLES CONTROL ACCOUNT ACCOUNT $ Cash payments Closing payables
X X X
Opening payables Purchases
$ X X X
Gross margins and mark-ups Other incomplete records problems revolve around the relationship between sales, cost of sales and gross profit. Bear in mind the crucial formula: formula: $ Sales 100 Cost of sales 25 Less Gross profit 75 Equals
Mark-up is profit as a % of cost eg 331 / 3% mark-up
$ Sales COS Gross profit
1331 / 3% 100% 331 / 3%
80 (60) 20
Margin is profit as a % of sales
eg 25% margin Sales COS Gross profit
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100% 75% 25%
$ 80 (60) 20
18: Incomplete records
Incomplete records questions
Accounting and business equations
Credit sales, purchases and cost of sales
Stolen or destroyed goods
Accruals, prepayments and drawings
Cash book
Stolen goods or goods destroyed The cost of goods stolen/destroyed can be calculated as follows.
Cost of good goodss ssol oldd ba base sedd on on gro gross ss pr proofit fit mar marggin or mar markk-uup
$ A
Cost(ieofopeni calculated using standard formula ogoods pening ngsold inv inventory entory plus purchases purc hases less closi closing ng inven inventory) tory) Difference (lost/stolen inventory)
(B) __ C __ __
If no goods have been lost, A and B should be the same and therefore C should be nil If goods have been lost, B will be larger than A, because some goods which have been purchased were neither sold nor remaining in inventory, ie they have been lost Stolen or lost inventory is accounted for in two ways depending on whether the goods were insured If insured: If not insured: DEBI DE BIT T In Insu sura ranc ncee cl clai aim m acco accoun untt (rec (recei eivvab able le)) DEBIT Expenses (eg Admin) CRED CR EDIT IT Cost Cost of sale saless CREDIT Cost of sales
Incomplete records questions
Accounting and business equations
Credit sales, purchases and cost of sales
Cash book Incomplete records problems often concern small retail entities where sales are mainly ffor or cash. A two-column cash book is often the key to preparing final accounts.
The bank column records cheques drawn on the business bank account and cheques received from customers and other sources The cash column records till receipts and any expenses or drawings paid out of till receipts before banking Debits Debi ts (rec (recei eipt pts) s) Cash Bank $ $
Cred Credititss (pa (paym ymen ents ts)) Cash Bank $ $
Stolen or destroyed goods
Cash book
Accruals, prepayments and drawings
Don't forget that movements between cash and bank need to be recorded by contra entries.This entries. This will usually be cash receipts lodged in the bank (debit bank column, credit cash column), but could also be withdrawals of cash from the bank to top up the till (debit cash column, credit bank column). Again, incomplete records problems will often feature an unknown figure to be derived. Enter in the credit of the cash column all amounts known to have been paid from till receipts: expenses expenses,, withdraw withdrawals, als, lodgements into bank. Enter in the debit of the cash column all receipts from cash customers or other cash sources. The balancing figure may then be a large debit, representing the value of cash sales if that is the unknown figure Alternatively it may be a credit entry that is needed to balance, representing the amount of cash withdrawals or of cash stolen
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18: Incomplete records
Incomplete records questions
Accounting and business equations
Credit sales, purchases and cost of sales
Stolen or destroyed goods
Cash book
Accruals, s, prepa prepayments yments Accrual and drawings
Accruals and prepayments
Drawings
When there is an accrued expense or prepa prepayment, yment, the SPL charge can be calculated from the opening balance, the cash movement and the closing balance.
Note three tricky tr icky points about drawings. Owner pays personal income into business bank account DEBIT Cash CREDIT Drawings Owner pays personal expenses out of business bank account or takes goods for personal use DEBIT Drawings CREDIT Cash/Purchases
Sometimes it helps to use a 'T' account, eg as follows (for a rent payment).
RENT $ Prepayment: ba bal b/f Cash
700 109,0300
$ SPL (bal fig) Prepayment: bal c/f
9,000 101,000
Wording of an exam question – 'Dr 'Draw awing ingss app appro roxim ximate ately ly $40 $40 per w week eek'' .. . Drawin Drawings gs for year year = $40 × 52 = $2,080 – 'Dr 'Draw awing ingss bet betwe ween en $3 $355 and $45 $45 per per week' week' .. . Drawin Drawings gs are a missing missing number to bbee calculated
19: Int Intrrodu oducti ction on to compa compan ny accoun accountin ting g
Topic List Limited liability companies Shares Reserves Bonus and rights issues
This section looks at the basics of limited liability companies and how they differ from sole traders.
Shares
Limited liability companies
Features
Limited liability companies offer limited liability to their owners (shareholders). (shareholders). If the company becomes insolvent,t, the maximum amount that an owner stands insolven to lose is his share of the capital of the business. business. This is an attractive prospect to investors. investors. Limited liability companies may may be private or public. public. IAS 1 sets out a suggested format for financial statements.
Disadvantages
Reserves
Compliance with national legislation Compliance with national accounting standards and/or IFRS Any formation or annual registration costs
Bonus and rights issues
Owners = shareholders or members Large number of owners Owner/manager split Owners appoint directors to run business on their behalf Owners receive share of profits in form of dividends Funding
Companies are funded in the following ways: Retained profits Share capital Short term liabilities Loan notes (trade accounts payable etc)
Limited liability companies
Shares
Reserves
Bonus and rights issues
Shares The proprietors' capital in a limited liability company company consists of share capital. When a company is set up for the first time it issues shares, which are paid for by investors, who then become shareholders of the company. Shares are denominated in units of 25 cents, 50 cents, $1 or whatever whatever seems appropriate. This is referred to as their nominal value. characterised d Preferred shares are characterise as follows
Rights depend on articles Right to fixed dividend with priority over ordinary shares Do not usually carry voting rights Generally priority for capital in winding up May be redeemable (loan) or irredeemable (equity)
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Ordinary shares have the following characteristics
No right to fixed dividend Entitled to remaining profits after preferred dividend Entitled to surplus on repayment of capital
19: Introduction to company accounting
Limited liability companies
Shares
Reserves
Bonus and rights issues
Share capital
maximum m amount amount of share share Authorised. The maximu capital that a company is empowered to issue. Issued. The amount of share capital that has been issued to shareholders. shareholders. The amount of issued capital cannot exceed the amount of authorised capital. Called up. When shares are issued or allotted, a company does not always expect to be paid the full amount of the issue price at once. once. it might instead call up only a part of the issue price, and call up the remainder later. Paid-up. Called up capital that has been paid. Market value. This is the price at which someone is prepared to purchase the share value from an existing shareholder shareholder.. It is different from nominal value.
The following are the main types of share issue: New issue at par or at a premium Bonus/scrip/capitalisation Bonus/scrip/capitalis ation issue
Rights issue
Loan notes Companies may may issue loan notes. These are long term liabilities not capital. They differ differ from shares as follows: Shareholder = owner; owner; noteholder = payabl payablee Loan note interest must be paid; paid; not so dividend dividendss Loan notes often secured on company assets
Limited liability companies
Shares
Reserves
Bonus and rights issues
Reserves Revenue Rev enue reserves consist of distributable distributable profits and can be paid out as dividends.
Retained earnings Others, as the directors decide, eg general reserve
Capital reserves are not av available ailable for distribution. distribution. They include the following: Share premium. Whenever shares are issued for a consideration in excess of their nominal value, such a premium shall be credited to a share premium account.
Share premium account can be used to: –– Is Issu suee off bon bonfformatio us shar shares es Write ormation n expense expensess and premium premium on the redemp redemption tion of shares shares and lo loan an note notess – Write off the eexpen xpenses ses on a new new issue of shares/l shares/loan oan notes notes and the discou discount nt on the issu issuee of loan notes notes
Revaluation Revaluat ion surplus. Created when a company revalues one or more of its non-current assets.
Statutory reserves. The law requires the company to set up these.
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19: Introduction to company accounting
Limited liability companies
Shares
Bonus issue A bonus (or capitalisation) issue uses reserves to pay for the issue of share capital.
Rights issue A rights issue enables existing shareholders to acquire further shares.
Reserves
Bonus and rights issues
Example Issue of 5,000 new $1 shares Debit Reserves (share premium or retained earnings)
$5,000
Credit Share capital
$5,000
Example Issue of 5,000 new $1 shares at $1.50 per share Debit Cash Credit Share capital Credit Share premium
$7,500 $5,000 $2,500
20: Prepar Preparati ation on of fina financi ncial al state statemen ments ts for companies
Topic List IAS 1 IAS 18
This section looks at limited liability company accounts. Limited liability company accounts are more comprehensive as there are more stakeholders who wish to know how the business is doing.
IAS 18
IAS 1
T o t a l e q u i t y a n d l i a b t i l i e s
C C S T u C r h u b u a r r o d e r o r r r r e n e r e t - a t n r n t t o l w t e i n a p t a n i o r m d b x g r o i l i p s t i b i h t o o t e a e n r s y r r a o o b f w p l e l i a y o n g n a g s b l - e t e s r m
_X X _
X X
_ _X _X _ _ _
T o t a l e q u i t y
E E O R S q q u u h t h e a t i i t a r y e t y i e r n a c e c n o d a d m p e i l p a t i a o r a b n n l i l e i i n t n g i e t s s s / ( l o f o e s s q e u s i t y )
T o t a l a s s e t s
X X X _ _X X X
X
_X X _ _X _X _ _ _ _
N L L o o o n n n - g g c - - u t e t e r r e r m r m n b t p l i r o o r a b v o r i l i i s t i i w e o i n s n g s s
X X X
N A O G P o s s r n t h o o - e p c e o t e u s r d w r r i i t r n l y e t a l , n p t n l a g a i n s b s t e l e a t n s a d s e s e q t s u i p m e n t
_ _X _X _ _ _
A S A S T B A A T C T E C 3 M O 1 E D N E T C O E F M F B I E N R A 2 N 0 C X I A 2 L P O S I T I O N
_X X X X _
X _ _ X X X
$ 2
_X X X X _
X _ _ X X X
$ 2
_ _X _X _ _ _
X X X _ _X X X
C C O T I n u r a t v r r h a s e d e e h r e n n a c r t o t a n u e r i s c e d r e s r s e c e i v a n a t s s t b h a l e e s s s q e u t i v s a l e n t s
0 X $ 2
0 X $ 1
f T o r o t t h a l e c y o e m a p r e r h e n s v i e i n c o m e
G O a t h i e n s r o c n o m p p r r o p e h e e r t y n i r s v e e v a i l n u a c o t i m o n e
O A D O G C R P I n P F i t d s r n r c i t r o e o o h o h m t s v o f a e f e s r t e i n r i i m t t i r s n b o n c b f e i e u i o f u p e n s e x t t e r t s r c i f c p a r o o o a a o t h x r o e t n m f l i e e e e t s n v i c s t s e o e y x t e e p a s e s x a e x t s e p n r s e n s e s
:
Page 109
_X _ _ _ _ _
X
( ( ( _X _ _ X X X X _ X ( X ( X ( X X _ _ _ _ _ _ ) ) ) ) ) )
_X _ _ _ _ _
X
( ( ( _X _ _ X X X X _ X ( X ( X ( X X _ _ _ _ _ _ ) ) ) ) ) )
F C S A O O T B R M A T C T P E C H R M O E E E Y H N E E T A N O R S F I
P E R E V N D N I O E F D C T O I 3 M O 1 E R D L E O C S E S M A 2 B N E 0 X $ X R D 2 2 O 0 T X H 2 E R 2 X $ 0 X
1
20: Preparation of financial statements for companies
IAS 18
IAS 1
ABC CO STA ST ATE TEME MENT NT OF CHAN CHANGE GES S IN EQUI EQUITY TY FOR FOR THE THE YEAR YEAR EN ENDE DED D 31 DE DECE CEMB MBER ER 20X2 20X2
Balance at 1 January 20X2 Changes in equity for 20X2 Issue of share capital Dividends Total comprehensive income for the year Balance at 31 December 20X2
Share capital $ X
Retained ear nings $ X
Revaluation sur plus $ X
X
Total $ X
X (X)
(X) __
X __
X __
X __
__X__
__X__
__X__
__X__
IAS 1
IAS 18
IAS 18 Rev Reven enue ue Recognition Recognition it is probable thatoccurs future when economic benefits will flow to the entity and when these benefits can be measured reliably.
Page 111
Measurement
IAS 18 cov covers ers revenue revenue from
Sale of goods
Rendering of services
Use by others of entity assets yielding interest, royalties and dividends
The amount of revenue is usually decided by the agreement of buyerr and seller buye seller.. However However,, the revenue is measured as the fair value of the consideration received, ie after trade and bulk discounts.
20: Preparation of financial statements for companies
Notes
21: Eve Events nts aft after er the the repo reportin rting g perio period d
Topic List IAS 10
This standard is a key area of the syllabus. syllabus. Learn how to apply it.
IAS 10
T p h b u e l i d i s r h e i n c g t o r t h s e s s h e o i u f l m d c a o t e n a i r d s i l . e r
E
e v n t o s f a t h f t e e a r c a c u o t h u o n r t s i s a t o i n
C t h f h e e c i i o n a l n e t o h a n n c v e e v n g e g e r e c e e r n t i n i t r n t i t a h l e s s a c o i s p o r a t a f p n t i h n m t g r c e a e u o a t e m p p g d e r e r a i t i r t i o i n s j a n u s t i l e e s g t n i n a s t . n o g n i h d f e
n o t D n e i o f i s c o l n - t i a i s d s e j m u s a a n t i e e n t g r v i e e a l n v t e a n n d i n t . i a s a
S t a n d a r d
a c c o u n t i n g
S t a
d n a r d a c c o u n t i n g
o P f r c o o v i n d d e r e t i a p o i o n d d r t i i s t n i o g e x n i a d s a t i l n e e t v . g i a d t e n t h c e e
A d j u s t i n g e v e n t s
w h i C c h o e r d c n p i e o d r n r n t i n o c g t o n d e x d a s i i t e t t i . a o n t s t h e
N o n a - d j u s t i n g e v e n t s
t h e d a t e
O c c u r
a b n e r o e w w t a h u i e e t h c n o h t h r h e i t s e e r d f i e n p f a o o r n r t c i i s i n s a u l g e . t s a d a t t e e m a e n n d t s
E v e n s t a f t e r t h e r e p o r t i n g p e r i o d
Examples Adjusting events
Non-current assets. Determination of purchase price or proceeds of sale. Inventories. Inve ntories. Evidence of NR NRV V. Receivables. Receiva bles. Renegotiation by by or insolvency of trade accounts receivable. Settlement of insurance claims. Discoveries of error or fraud.
Non adjusting events
Page 115
Issues of shares. Purchases/sales of non-current assets and investments. Loss or drop in value of non-current assets or inventories inv entories occurring after the year end. Expansion or contraction of trade. Government action or strikes. Dividends declared after the reporting date.
21: Events after the reporting period
Notes
22: St 22: Stat atem emen ents ts of ca cash sh fl flo ows
Topic List IAS 7 State Statement ment of ccash ash flflows ows
Profit is not the same as cash. The statement of cash flows allows allows us to assess the quality of profit. How quickly does the profit figure get translated into a healthy cash balance? It is possible for a profitable firm to collapse due to poor cash flows.
IAS 7 Statement of cash flows
Purpose
Format
A statement of cash flows shows the effect of an entity’s commercial transactions on its cash balance.
IAS 7 Statement of cash flo flows ws splits cash flows into the following headings:
It is thought that users of accounts can readily understand cash flows, as opposed to statements of profit or loss and statements of financial position, which are subject to manipulation by the use of different accounting policies.
Cash flows from operating activities Cash flows from inve investing sting activities Cash flows from financing activities
The IAS requires a reconciliation of cash and cash equivalents.
*
T h i s c o u l d a l s o b e s o h w n a s a n o p e r a t i n g c a s h f l o w
C C N N a a e e s s t t h h n i c a a c a s r n n h d d e a u c c s s a a e e s s i d h h n i e e c n q q a f i u u s n i h a i v v n n c a l a a e l e i n n d n t c g t s s a a a a s c t t h t i e b e v n e i t d g q i e i u s o n i v f n a i l p n e g e n r i o t o f s d p ( N e r i o o t e d ) ( N o t e )
7 4 1 2 ( 1 2 9 9 0 0 0 0 )
Page 119
D P P C r o r a i v o i c c s d e e e e e h f n d d o l d s s w s f f p o r s o f a r r m m o i d l s i m * o f s n i n g u a a - t n n e r c c i m e n g b o f a o s c r h t r i o a v w e r t i i i n c e s g a s p i t a l
N e t c a s h u s e d i n i n v e s t i n g a c t i v i t i e s
( 1 ,2 2 2 9 5 5 0 0 0 )
P P C D I n r u a i v t o e r s i r c c d e e h h e s e a f n l s o d t r d s e w s e s f r c r o e o e f r f c i p m v o e e r m i s o v d a p i e n l e d e r v e y o t , s i e f n l t a q p u n g i t a p c m a n t i e d v i n e t i t q e u s i p m e n t
O A N C N I n C n I I D d e a e c e t a D D I n p n I n e j t s t o r s e e c e v p u p t e c m e h c c e r e r a s r h r a e s g e r e r a s r t f t e m o o s t s t m e a a s i n t f l c e t h t i p e w n g s s i a e e a n b s f x a e e e r n t p e t i a x r i i i e d i o e n s f r p t o m s r f o o t n n t f o e i n n o e r f p t i r n m i a n c r v d t s o d a o a r e : p d b e m i d f e t o e e r e n e a p o r f x e o a m p o t a a e n r t r e i r o y d e o t i a t g i n p w i o a n n e b s t a g h o r l r c a e e k a t t r i i c i s v n o r t i e g i t n v i e c c s i t e a s i e i v p s a i b t a l l e s c h a n g e s
1 1 2 ( 3 ( , ( , ,7 0 5 ,7 4 ( 5 4 2 5 7 ( 2 7 5 4 5 0 4 0 0 5 0 0 0 0 0 0 0 0 0 0 ) ) ) ) )
( 9 2 2 0 0 2 0 0 0 0 0 ) ( 4 8 0 )
1 , 5 6 0
3 , 3 9 0
$ m
Y S E T A A R T E E M N E D N E T D O 2 F 0 X C 7 A S ( I N H D F I L R O E W C T S M E T H O D )
$ m
23: Statements of cash flows
IAS 7 Statement of cash flows
r e E q m u x i n e i r a m f t e o h i r t n m o h a d e a t i t o i s i n i o r d n n e i r q w q u u e c e i i l l r t s m t b e i o e d e , n t g t h s h i v e o e n d w n e . i l I l o c t e t f r r h p o y s e b o s d a u a r . y i r b l e y c t
I n I C C C N n a a a e c t s s t o e r s h h h c m e a e s g p r s t e a e h t p n d i c a e a f e x r e d i i a r t o o p t m s s t e s f d u o p r a p o p i l m o r f e r d i c a e m p t r u i n o s s g p a t e n o a r d m c a e t t i r i e v o m s i t n i e s p l s o y e s e
T t h T h h e e i s f i d p r s r i r t e o p c o f a t r r m m t w e a h t i i h s c o r f h d o a t p p h r e p o e o f i a r n r s m d i r a a e s s i c f t o t h m l l o e e w
t h s s . a m o d e . e x ( _ X X $ c e _ ) p t f o ( ( r _ _X _ X X X $ _ _ _ ) )
e $ T x 2 h p , e a 0 n 0 0 c o s , i o m o n f p . w a n h y i h c h a
C S C a h a s o s r h h t - o a t n n e d r m h a c a i n s n v d h e a e s t n m d u q b i v e n a a l s a l t e n n c t e s s w i t h b a n k s
o n u s l n y d $ r 7 a 0 w 0 n m b a o y r r b o w e i n s u e g f d a c f l i o i 4 3 2 r t i 1 7 4 $ 0 e f u s 0 0 0 m X 7 t u o f r e 1 $ 2 2 9 2 m 0 X 0 5 5 8
c e m h N o q o a o m u n n t i v e d e p a . r a C i l y s e n m e n d a a b s t t s h r k a h e i n e a l a f c t n o i n d l n c u l l g o d a c w s n e i d s i n e w s t g i i h n r t h e b t u a h m b q l e e a u a i n c n n v k a s s c a t e s . , l e s h C a n h f n t l a s d e o s e w h c a s t n o i a n v n m t a d e s s t i o e c t s u m a m t n e s e o t s n h n f . t t s c a i n s h o n
Advantages Business survival needs cash
Disadvantages
The disadvantages disadvantages of cash flo flow w accounting are basically the opposite of advantages of accruals accounting,
For example, cash flow does not match income and expenditure in the statement of profit or loss.
Cash flow is more objective than profit Trade accounts payable need to know if they
will be paid More comparability between entities Better basis for decision making Easy to understand, prepare and audit
Criticisms of IAS 7
Page 121
Inclusion of cash equivalents does not reflect the way businesses are managed The requirement that a cash equivalent has to be within three months of maturity is unrealistic Management of cash equivalents is not distinguished from other investment decisions 23: Statements of cash flows
Notes
23: Intr Introdu oducti ction on to consol consolida idated ted finan financia ciall statements
Topic List Overview Definitions Associates
If a company has a subsidiary at its year end, it must prepare group accounts which accounts which must be in the form of consolidated accounts.
Overview
Definitions
Associates
Overview Basic principles 1 Consolidation means adding together
2 Consolidation means cancellation of like items internal to the group
3 Consolidate as if you owned everything then show the extent to which you do not own everything
Consolidation means presenting the results, assets and liabilities of a group of companies as if they were one company.
Definitions
Overview
A subsidiary is an undertaking in which the parent has control
Control is presumed to exist when the parent owns > 50% of the voting power (eg voting
Further definitions per IFRS 10 Consolidated financial statements Control
An investor controls an investee when the investor is exposed, or has rights, to variable returns from its involvement with the investee and has the ability to affect those returns through its power over the investee
Subsidiary
An entity that is controlled by another entity (known as the parent)
equity shares). Even when parent owns < 50%, some situations were control exists
Parent has power to govern the financial and operating policies of the entity by statute or an agreement
Associates
Parent has power to appoint or remove a Parent
majority of members of the board of directors Parent has power to cast a majority of votes at meetings of the board of directors
An entity that controls one or more entities
Group
A parent and its subsidiaries
Parent has power over > 50% voting rights by agreement with other investor investorss
Non-controlling interest
The equity in a subsidiary not attributable, directly or indirectly to a parent
Page 125
23: Introduction to consolidated financial statements
Overview
Associate: Significant influence:
Definitions
Associates
an enti entity ty ove overr which which the inve investo storr ha hass sign signifi ifican cantt influ influenc encee
The power to participate, but not to control Assumed if hold > 20% of voting rights
Associates are accounted for in consolidated accounts using the equity method.
SOFP Investment Investm ent in associate:
Statement of profitPAT or before loss group Show group share of associate's profit before tax
Cost of investment Share of retained earni rnings/losses
X X
Include in assets
X
24: The cons consoli olidat dated ed statem statement ent of of financial position
Topic List Cancellation and part-cancellation Goodwill Non-controlling interests Intra-group trading
This chapter introduces the basic techniques you will need to prepare a consolidated statement of financial position.
Goodwill
Cancellation and part-cancellation
Non-controlling interests
Intra-group trading
Cancellation
Part cancellation
When preparing a simple consolidated statement of financial position:
An item may appear at differing amounts in the parent's and subsidiary's balance sheets.
Take the individual accounts of the parent company and the subsidiary and cancel out items which appear as an asset in one company and a liability in another.
Add together all the uncancelled assets and liabilities throughout the group.
The subsidiary's shares may have been acquired at a price other than nominal value, raising the issue of goodwill.
The parent may not have acquired all of the shares of the subsidiary, raising the issue of non-controlling interests.
Cancellation and part-cancellation
Goodwill Goodwill arises when the parent pays more for their investment than the par value of the shares they acquire. Any preacquisition reserves of a subsidiary company are not aggregated with the parent company's reserves in the consolidated statement of financial position.
Goodwill is recognised as an intangible asset in the consolidated SOFP.
Page 129
Goodwill
Non-controlling interests
Goodwill working
Intra-group trading
$
Fair value of consideration transferred Fair value of NCI at aquisition Less net acquisition-date fair value of indentifiable assets acquired and liabilities assumed: Ordinary share capital X Share premium X Retained earnings at acquisition X Fair value adjustments at acquisition Goodwill
X
$ X X
(X) X
24: The consolidated statement of financial position
Cancellation and part-cancellation
Non-controlling interest
Goodwill
Non-controlling interests
Intra-group trading
Retained earnings PCo SCo $ $
Shows the extent to which net assets controlled by the group are owned by other parties.
Per question
X
SOFP – equity
Adjustments (unrealised profit attributable to PCo) Pre-acq'n ret'd earnings
(X)
Fair value of NCI at acq'n
$ X
Group share of post-acq'n ret'd
Plus NCI's share of post acq'n ret'd earn rniings NCI at repor ting date
X X
earnings Group retS'd Co ear(Y nin×gs%)
X (X) Y
X X
Cancellation and part-cancellation
Goodwill
Non-controlling interests
Intra-group trading
Intra-group trading Unrealised profit will arise on intra-group transactions where the inventory is still held at the reporting date: 1
Work out which company made the profit
2
Calculate the provision for unrealised profit (PUP)
3
For consolidation purposes, eliminate the profit from inventory, consolidated retained earnings and NCI
If P sells to S, the unrealised profit lies in P's books: DEBIT DEB IT Consol Consolida idated ted S SPL PL (w (whol holee pr profi ofitt lo loadi ading) ng) CREDIT Group inventory
If S sells to P, the unrealised profit lies in S's books and must be shared between P and the NCI: DEBIT DEBI T Cons Consol olid idat ated ed S SPL PL (P' (P'ss shar share) e) DEBIT DEB IT Non-co Non-contr ntroll olling ing int intere erest st (NCI (NCI's 's sshar hare) e) CREDIT CRED IT Group inv inventory entory
Page 131
24: The consolidated statement of financial position
Notes
25: The conso consolida lidated ted state statement ment of profit profit or loss and other comprehensive income
Topic List Consolidated statement of profit or loss Consolidated statement of profit or loss and other comprehensive income
Generally, the consolidated statement of profit or loss and other comprehensive income is more straightforward than the consolidated statement of financial position.
Consolidated statement of profit or loss
Consolidated statement of profit or loss and other comprehensive income
Purpose
To show the results of the group for an accounting period as if it were a single entity.
Sales revenue to profit for year
100% P + 100% S (excluding adjustments for intra-group transactions).
Reason
To show the results of the group which were controlled by the parent company.
Intra-group sales
Strip out intra-group activity from both sales revenue and cost of sales.
Unrealised profit on intra-group sales
(a) Goods sold sold by P. Increase Increase cost cost of sales by by unrealised unrealised pr profit. ofit. (b) Goods sold sold by by S. Increase Increase cost cost of sales by by full am amount ount of of unrealise unrealisedd profit and decrease non-controlling interest by their share of unrealised profit.
Non-controlling interests
S's Lessprofit * unafter realistax ed profit
(X X)
NCI%
X X
* Only applicable if sales of goods made by subsidiary.
Reason
To show the extent to which profits generated through P's control are in fact owned by other parties.
Reserves carried forward
As per the calculations for the statement of financial position.
Page 135
25: The consolidated statement of profit or loss and other comprehensive income
Consolidated statement of profit or loss
Consolidated statement of profit or loss and other comprehensive income
Consolidated statement of profit or loss and other comprehensive income If there is a revaluation gain or loss in the parent or subsidiary you will prepare a consolidated statement of profit or loss and other comprehensive income.This income. This will only require a few few additions to the consolidated statement of profit or loss. Revaluation Revaluatio n gain in subsidiary (80%)
Revaluation Revaluatio n gain in parent
Profit for the year Other comprehensive income Gains on proper ty revaluation Total otal co comp mprrehen ehenssive ive iinc ncom omee for for the the yyea earr
$'000 8,000* 2,000 10,0 10,000 00
$'000 Profit for the year Other comprehensive income Gains on proper ty revaluation Total comprehensive income for the year
Total comprehensive income
Total comprehensive income
attributable to Owners of the parent (5,000 + 2,000) Non-controlling interest
attributable to Owners of the ppaarent (5,000 + (2,000 × 80%)) NonNo n-co cont ntro rollllin ingg in inte tere rest st ((3, 3,00 0000 + ((2, 2,00 0000 × 20%) 20%)))
*3,000 attributable to NCI
7,000 3,000 10,000
8,000* 2,000 10,000
6,600 3,40 3,4000 10,000
26: Int Interp erpret retati ation on of finan financia ciall statem statement entss
Topic List
This section looks at how we can read and interpret the financial statements.
Information required by users
Ratios are a tool which allow us to assess the figures presented.
Profitability Liquidity Gearing Limitations of ratio analysis
Information required by users
Profitability
Liquidity
Gearing
Limitations of ratio analysis
Purpose Analysis of a company's financial statements is performed by the following: Interested parties outside the business who are
seeking know more about the company (potentialtoinvestors) Management wishing to interpret their company's past performance in order to make improvements for the future
As well as: Employees – will I get paid? Governments – tax, regulations compliance Suppliers/lenders – will we get paid? Customers – can we rely on this company?
Financial statements can be assessed using ratio analysis. Past trends of the same business (analysis
through time) and compare to budget Comparative information for similar businesses (analysis by competitors)
Information required by users
Profitability
Return on capital employed ROCE =
PBIT PBIT = Capital employed Total assets less current liabilities
Measures overall efficiency of company in employing resources available to it. Examine Change year to year Comparison to similar entities Comparison with current market borrowing rates
Profit margin × Asset turnover = ROC ROCE E
Gearing
Liquidity
Limitations of ratio analysis
Return on equity ROE =
PAT and pref div % Ord share capital + reserves
More restricted view of capital than ROCE, but same principles
Profit margin Profit margin =
PBIT % Gross profit = Gross profit Sales Sales margin
Useful to compare profit margin to profit % to investigate movements which do not match
Asset turnover Asset turnover =
Sales Total assets less current liabilities
Measures efficiency of use of assets Page 139
26: Interpretation of financial statements
Information required by users
Profitability
Liquidity
Limitations of ratio analysis
Gearing
Current ratio
Inventory turnover period
Current ratio = Current assets
Inventory Inv entory turnov turnover er period =
2:1 acceptable? 1.5:1? Depends on industry
Higher the better? But remember:
Current liabilities
Quick ratio Quick ratio (acid test) = Current assets – Inventory Current liabilities
Eliminates illiquid and subjectively valued inventory Could be high if overtrading with rec'bles, but no cash 1:1 OK? But supermarkets etc on 0.3 (no rec'bles)
A/cs receivable collection period Trade receivables × 365 Credit sales
Consistent with quick/current ratio? If not, investigate
Inventory × 365 Cost of sales
Lead times Seasonal fluctuations in orders Alternative uses of warehouse space Bulk buying discounts Likelihoodd of inv Likelihoo inventory entory perishing or becoming obsolete
A/cs payable payment period Trade accounts payable × 365 Purchases
Use cost of sales if purchases not disclosed
Information required by users
Profitability
Liquidity
Gearing
Limitations of ratio analysis
Debt ratio Debt ratio =
Total debts Total assets
%
(> 50% = high)
Gearing Total long term debt
Gearing ratio = Shareholders' equity + Total % Total long ter term m debt
Interest cover Interest cover =
Page 141
PBIT Interest payable
Company must generate enough profit to cover interest Is 3+ safe? Consider relevance of profit vs cash 26: Interpretation of financial statements
Information required by users
Profitability
Liquidity
Gearing
Limitations of ratio analysis
Limitations
The limitations of ratio analysis are as follows: follows: Comparative information is not always available They sometimes use out of date information Interpretation requires thought and analysis. Ratios should not be considered in isolatio isolationn The exercise is subjective, for example not all companies use the same accounting policies Ratios are not defined in standard form
Notes
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