Accounting 0452 Revision Notes For The y PDF

Accounting Revision Notes Index Index ....................................................................................................................................................1 1

Accounting Concepts ..................................................................................................................... 2

2

Accounting in general .................................................................................................................... 4

3

Accounting Cycle: (Documents  Journal  Ledger  Trial Balance) ..................................... 5

4

Accounting Cycle: (Special Accounts & Income Statements) ..................................................... 8

5

Accounting Cycle (Statements of affairs)................................................................................... 16

6

Adjustments ................................................................................................................................. 20

7

Division of Books.......................................................................................................................... 26

8

Errors ............................................................................................................................................ 29

9

Control Accounts ......................................................................................................................... 33

10

Analysis ..................................................................................................................................... 34

11

Accounting terms & Comparisons .......................................................................................... 36

12

Notes & FAQ ............................................................................................................................. 40

Legend: *

is a term that is explained in Section 11: Accounting Terms and Comparisons



is part of a non-numbered list (isn’t listed according to a certain criterion)

1)

is part of a numbered list (listed according to a certain criterion)

∴

Therefore

∵

Since

^

It is not needed to study the item in detail. It is only required to know little about it.

Note: If you ever happen to misunderstand a part, please refer to sections 1. Section 1: Accounting Concepts 2. Section 11: Accounting Terms and Comparisons 3. Section 12: Notes & FAQ

Marouane Mokhles

1|Page

1 Accounting Concepts Below, are all the accounting concepts and their applications for the syllabus (0452) for the year 2015/2016

Concept

Explanation

Business Entity

Business and owner have two separate identities

Accounting Period

Life of a business is divided into accounting periods (usually years)

Duality (Double entry)

Every transaction has two effects

Going Concern

Businesses are assumed to stay in existence for the foreseeable future, otherwise all assets will be valued at *net realisable value

Historic Cost

All fixed assets should be recorded at their original cost, since it can be verified

Prudence

Expected loss should be provided for and expected profits are ignored until realised

Matching

Expenses of a certain period are matched against incomes of the same period to assess net profit or loss

Consistency

Treatment of an item shouldn’t be changed from one period to the next

Materiality

Immaterial items, of low value, are not worth recording as separate items

Realisation

Profit is only realised when ownership of goods is transferred to the buyer, either via money or the goods itself

Money Measurement

Only items of monetary value are recorded in business books

Marouane Mokhles

2|Page

Concept

Application

Business Entity

 

Only business transactions are recorded in business books. Owner’s capital is a liability on the business to the owner.

Accounting Period

 

Comparisons are made b/w different years for same or different business. New financial statements are prepared for each accounting period.

Duality (Double entry)



Transactions are recorded twice under the *double entry system, once on the credit & debit sides.

 

Fixed assets are recorded at their original cost. Stock is valued at the lower of cost or *NRV (due to prudence concept).

 

Cost of fixed assets is reduced by depreciation to make it realistic It’s a limitation of final accounts, since comparisons over different times are hard due to inflation of prices Provision for depreciation is to provide for loss in value of fixed assets Provision for bad debts is to provide for expected bad debts Stock is valued at the lower of cost or *NRV *Depreciation is recorded in the period of using the asset, to spread the cost of it over its useful life *Provision of bad debts is maintained in the year debts are due to credit sales in. Incomes and expenses transferred to the income statement should be related to their accounting period, thus prepayments are excluded as they are related to another period, even though they are paid. Same applies to accruals as they are related to the period when they were unpaid Depreciating method for fixed assets should be consistently applied from one period to the next, as the change in method will make comparison between financial periods impossible. If a change is necessary, a note should be made to the final account to explain its reasons and effects A business may consider items of very low value: a pen, calculator, etc an expense instead of an asset bought for usage A business may enter all small expenses in one account; sundries or general expenses instead of keeping individual records for each Office supplies are considered stationery expenses and the unused stock at year end is transferred to future periods like prepayments Credit sales are recorded even though unpaid for yet, because goods were transferred Nothing is recorded when order is placed by customer, as goods weren’t transferred

Going Concern

Historic Cost

Prudence

    

Matching



 Consistency  Materiality

  

Realisation



Money Measurement



Items of importance can’t be mentioned in final accounts; efficiency of labour

Marouane Mokhles

3|Page

2 Accounting in general Accounting is a system businesses apply in order to understand their financial positions and take decisions on its basis. Accounting relies on a number of concepts & rules which are to be taken for granted. (See section 1: Accounting concepts before continuing) First thing to learn about accounting is that, according to the business entity concept, businesses are considered have standalone entities. Hence, all the transactions we study are viewed from the business’s point of view, who we consider to be a separate person (NOT the owner) There are two rules that the whole accounting process is based on: (They must always equate) Basic Accounting Equation: Assets = Liabilities + Capital Extended Accounting Equation:

See section 12: Notes & FAQ for reasons behind these categories lying in the debit/credit sides

Sources of finance

Uses of finance (Debi

Expenses + Assets = Liabilities + Capital + Incomes Where the Uses of finance are called debit (the business owns them) Sources of finance are called Credit (the business owes them) Below, are some examples of each of the categories mentioned in the rules above: Expenses

Assets

Liabilities

Capital

Incomes

Purchases

Debtors

Creditors

Wages

Land

Mortgage

Taxes

Bank

Bank overdraft

Salaries

Equipment

Rent Commission Owner’s received investment in the Interest received business Sales

Rent

Cash

Sad enough, it isn’t that simple. The breakdown of these categories continues as shown in the table below. Each of these terms are explained in detail on (Section 11: Accounting Terms & comparisons) Expenses

Assets

Liabilities

Capital

Incomes

Capital Expenditure

Current assets

Short term

Capital employed

Capital receipts

Revenue Expenditure

Fixed assets

Long term

Working capital

Revenue receipts

Running Expenses

Capital owned

One-time expenses Properties of accounting policies:    

Relevance: Financial information are relevant to the business decisions. Reliability: Financial information must be: free from error, bias and able to represent events. Comparability: Financial reports/statements can be compared with others. Comprehensibility: Final reports must be simple to be understood by all users. Marouane Mokhles

4|Page

3 Accounting Cycle: (Documents  Journal  Ledger  Trial Balance) Order of the accounting cycle (first prepared to last): 1) 2) 3) 4) 5) 6)

Documents Journal Ledger Trial Balance Income Statement Statement of Affairs (Balance sheet)

Step 1: Documents Document ^Receipt ^Voucher ^Cheque ^Debit Note Invoice Credit Note Statement of account

Usage Used to record cash transactions Used to record petty cash transactions Used to record bank transactions Issued by buyer to ask seller for allowance to return goods purchased on credit (Not used in recording) Used to record sales on credit Issued by seller to buyer to accept return of goods. They are recorded. A copy of debtor’s account at the creditor. It is sent by the creditor to the debtor at each period end.

Examples: Invoice: o o o

Offers a cash discount for prompt payment Shows date of document issue Shows amount due before and after trade discount

Credit Note o o

Marouane Mokhles

Shows date of document issue Shows amount due before and after applying the discount offered on its purchase

5|Page

Step 2: Journal A book of prime entry in which transactions are recorded for the first time under the double entry system. Items in the journal are listed according to date (on a daily basis). Layout of a journal (for profit organisations): If we are recording the purchase of an asset and the money was transferred by cheque Date 1/1/01

Details Dr Car Cr Bank Car bought by cheque

Dr 5000

Cr 5000

The journal provides us with a number of useful pieces of information:    

Date of the transaction Accounts debited and credited Amounts debited and credited Narrative explaining the transaction briefly

However, for non-for-profit organisations, the cash book is replaced by the Receipts and Payments. It is basically a bank account, with the Dr side for money in and Cr side for money out. Receipts and Payments Dr (Receipts/Money in) Date

Cr (Payments/Money out)

Details

$

Date

Details

$

1/1/01

Balance b/d

4600

16/2/01

Purchase of equipment

4000

2/3/01

Subscriptions

200

15/3/01

Wages

500

Donations

2000

Interest on loan

6000

Gate collections

1245

Bar purchases

1000

Loan

5444

Party band

500

Rent received

788

Rent

500

Proceeds of FA Sale

444

Electricity

540

Bar takings

687

Loan repayment

450

Party tickets

9450 Balance c/d

7228

Total

20718

31/12/01 1/1/02

Total

20718

Balance b/d

7228

Marouane Mokhles

6|Page

Step 3: Ledger It’s the book of second entry, In this book, every page contains an account of every item that is recorded in the journal. Items are transferred from the journal to its respective accounts in the ledger, following the double entry system. It lists items according to its category T-account Format Debit-Nature Account: Bank Dr

Cr

Date

Details

$

Date

Details

$

1/1/01

Balance b/d

4600

16/2/01

Rent paid

4000

2/3/01

Commission

200

15/3/01

Wages

500

31/12/01

Balance c/d

300

Total 1/1/02

Balance b/d

4800

Total

4800

300

Note: Incomes/Expenses accounts are items that can’t be brought down, thus instead of the balance c/d, we write Income statement, and that is the value that goes directly to the Income statement. There are, however, running expenses and incomes (exception)

Step 4: Trial Balance The trial balance is a list of all debit and credit balances at a specific date. Account Asset account Liability account Income account Opening stock Expense account Capital TOTAL

Dr 5000

Cr 1100 300

100 200 5300

3900 5300

Notes: 





Trial Balance debit and credit sides must be equal. Otherwise, a *suspense account is opened at the side with the lower value. The suspense is of the value equal to that missing to equate both sides. (See Section 8: Errors for details) Only the opening stock appears in the trial balance. The closing stock doesn’t appear because it’s leftover balance out of goods which were purchased during an accounting period but are unsold till now. Total purchases are already included in the trial balance. Hence, closing stock should not be included in the trial balance again. If it is included, the effect will be doubled. Bank balance may appear on the credit side in the case of Bank overdraft, but cash can never appear with a credit balance

Marouane Mokhles

7|Page

4 Accounting Cycle: (Special Accounts & Income Statements) In the syllabus 0452, we study 6 cases of ownership, thus 6 cases of income statements and statements of affairs; 1. Sole trader

2. Incomplete records

3. Manufacturing

4. Partnership

5. Non-for-profit organisations

6. Limited companies

Step 5: Income Statement: Case 1 (Sole trader): The income statement is made to show the business profits and losses for a certain accounting period. It is divided into two sections: Trading account & Profit and Loss account, in the following layout: Note: The sole trader’s financial statements are the basic financial statements. Other business forms’ financial statements only differ a little from the sole trader’s, so make sure to memorise it! Details + Sales - Sales Returns Net sales - Cost of Sales + Opening Stock + Purchases - Purchase returns - Purchases withdrawn + Carriage inwards + Packing expenses + Warehouse expenses - Closing Stock Gross Profit/Loss + Other income + Commission received + Rent received + Bad debts recovered + Provision for bad debts (if less than last acc period)

- Other Expenses + Rent paid + Salaries & Wages + Carriage outwards + Provision for depreciation (new) + bad debts + provision for bad debts (if more than last acc period)

+ Accrued expenses - Prepaid expenses Net Profit Marouane Mokhles

$ (balance) $ (Total) 500 100 $400 10 105 (20) (2) 60 50 30 (35)

Don’t forget to calculate subtotals!

Expenses written under Cost of sales are directly related to purchases.

(202) $198

For example; the trader has to pay for his goods to reach his warehouse. But it is possible that he charges customers for delivery to their destination. Numbers between brackets are to be lessened.

10 50 5 2

67

10 20 15 30 25

Normally, a sole trader’s main source of income is sales. Other incomes are less than that value.

Normally, a sole trader’s other expenses are more than his other incomes.

0 50 (30)

(120)

Make sure to give a look to your totals to check whether they show that or not.

$145 8|Page

Case 2 Incomplete records Some businesses don’t keep an adequate set of accounting records due to inexperience. Layout of an income statement prepared from incomplete records:

Details + Sales - Cost of Sales

$ (balance)

+ Opening Stock

50

+ Purchases

105

- Closing Stock

(35)

Gross Profit/Loss

$ (Total) 500

Where you will be required to acquire any of these values from the *Sales Ledger Control Account

(120) $380

+ Other income

50

- Other Expenses Net Profit

Sales = Cash Sales + Credit Sales

(100) $330

Purchases = Cash purchases + Credit purchases Where you will be required to acquire any of these values from the *Purchases Ledger Control Account

Case 3: Manufacturing business: Manufacturing businesses need an extra step before preparing their income statements. Why so? As any process has its incomes and expenses, the process of producing finished goods has many expenses, which would crowd the income statement. Hence, a separate account entitled Manufacturing is opened and all related expenses are added to that account. Then, the total “Cost of production of finished goods” is transferred to the income statement. The manufacturing account shows the breakdown of the cost of production into: (Listed in the order of placement in the manufacturing account)

1. 2. 3. 4. 5.

Direct Raw Materials Direct Labour Direct Expenses Overhead (Indirect) Expenses Work in progress

Showing the *Prime Cost and the *Cost of production of finished goods in the process. In a manufacturing company, there are two departments whose expenses we are studying: 1. Factory section 2. Administrational section Important: That means that the factory and the administrational section share some expenses, like insurance, rent, electricity, etc. In some cases, you will be required to divide these expenses on the 2 sections in a certain ratio. Note that the part of the expense related to the factory, normally, should be significantly higher than the administrational section. Hence, only factory expenses are written in the manufacturing account. Administrational expenses go under the title “other expenses” in the Income Statement

Marouane Mokhles

9|Page

Layout of the manufacturing account: Details +Direct Raw Material: +Opening stock RM +Purchases of RM +Carriage inwards of RM - Closing stock of RM +Direct Labour: +Direct wages +Accrued Wages +Direct Expenses: +Royalties Prime Cost +Indirect (Overhead) expenses: +Factory indirect wages +Factory Insurance +Factory Rent +Depreciation of factory machinery +General expenses Cost of Production + Opening stock of Work in Progress - Closing stock of Work in Progress Cost of Production of Finished Goods

$

$ (Totals) Don’t forget: Calculate subtotals to make it easier at the end.

5000 4000 300 (3200)

6100

2000 210

2210

Don’t forget: Writing lessened values b/w brackets is crucial to avoid errors when calculating totals

50 $8360 1500 500 900 220 310 900 (500)

3430 $11790

Factory indirect wages include wages for janitors, cleaners, security guards, etc. NOT office wages, administrators’ salaries, etc

400 $12190

Layout of the manufacturing business’s income statement: Details + Sales - Cost of Sales: +Opening Stock of finished goods +Cost of production of finished goods +Purchases of finished goods -Closing Stock of finished goods Gross Profit/Loss + Other Income: +Commission received - Other expenses: + Office rent + Administrational salaries & wages + Office Insurance + Carriage outwards + Bad debts + Advertising - Prepaid office rent Net Profit/Loss

Marouane Mokhles

$

20000 12190 3000 (1000)

$(Totals) 51600

(34190) $17410

Normally, manufacturing businesses don’t purchase finished goods. However, it’s possible that businesses fail to provide enough finished goods. Hence, they purchase finished goods from other businesses.

500 800 1200 600 600 450 900 (300)

As seen in the example, expenses and parts of expenses related to the administrational section is put under other expenses

(4250) $13660

10 | P a g e

Case 4: Partnership A partnership is defined by the Partnership Act 1890 as a relationship as the ownership of a business which exists between two or more persons (2  20 for normal businesses, 1  10 for banks) who carry the business with the intent of gaining profit. Between partners, there has to be a partner agreement that defines general terms. However, in the case of absence of a partner agreement, certain rules laid down by the Partnership Act 1890 are presumed to apply:     

Profits are to be shared between partners equally There are no salaries for any of the partners There is no interest on capital There is no interest on drawings Partners get only 5% interest of loans per annum

Partnership also means that there are special accounts that are made in order to prepare an income statement and a statement of affairs and these are: 1. 2. 3. 4.

Appropriation account Drawings account for each partner *Capital account for each partner (We study only the fixed capital account case) *Current account (because capital account is fixed)

Before starting, we can say that a partner’s net share from profits can be calculated using this rule: Share of Profits = Interest on capital + Salary + Remaining share of Profit – Interest on drawings

Layout of an appropriation account: Details Net profit + Interest on Drawings Hummels Sanches - Interest on Capital Hummels Sanches - Interest on Loans Hummels Sanches - Salary Hummels Sanches Remaining profit - Profit Share Hummels Sanches

Marouane Mokhles

$

$(Totals) 14000

5000 10000

15000

5000 3000

(8000)

1000 2000

(3000)

1000 0 17000 12000 5000

(17000)

11 | P a g e

After appropriation, the current accounts and capital accounts are prepared for the partners. Layout of the capital account: Hummels’ Capital account Dr Date 31/12/01

Details Balance c/d

Total

Cr $ 32000

Date 1/1/01 15/3/01 Total 1/1/02

32000

Details Balance b/d Bank Balance b/d

$ 20000 12000 32000 32000

The capital account only includes the case of additional capital. (NO DRAWINGS) Thus, a current account is opened for each partner, in order to view the changes occurring to each partner’s capital due to the appropriation of profits. Layout of the current account: Partners’ Current account Dr Date Details 1/5/01 Drawings 31/12/01 Interest on Drawings Rent received Balance c/d

$(S) 40000 10000 0 10000

$(H) 10000 5000 300 40000

Total

60000

55000

Date 1/1/01 15/3/01 31/12/01 31/12/01 31/12/01 Total 1/1/02

Cr Details Balance b/d Bank Rent Salary Profit Shares Balance b/d

$(S) 50000 0 5000 0 5000 55000 10000

$(H) 30000 12000 0 1000 12000 55000 40000

As noticed, there won’t be any difference between a sole trader and a partnership-led company. However, there may be one or more items that are related to partnership that can be present in a partnership-led company’s income statement. Here’s a sample: Details

$

+ Sales

20000

- Cost of Sales

11000

Gross Profit

$(Totals)

9000

300

It is possible that a partner can rent a warehouse/shop from the business.

(8000)

It is also possible that the business rents a warehouse/shop from a partner.

+ other incomes: + rent received from Hummels - other expenses: + rent paid to Sanches

5000

+ Interest on loan

3000

Net profit

Marouane Mokhles

1300

12 | P a g e

Case 5: Non-for-profit organisations Non-for-profit organisations differ from other organisations as they don’t seek profit. They provide services with the intention of social contribution. (See difference between profit and non-for-profit organisations in Section 11: Terms and comparisons section)

They don’t have a trading account. Hence, their other incomes have to increase to match their expenses and maybe have a bit of surplus to allow for development. The means we study for this purpose are the subscriptions and the bar. Note: It’s disallowed to write more than one entry for the same item in the Income Expenditure statement. For instance, you are not allowed to write the ticket sales of a party in the incomes and expenses of the party in the expenses section. Therefore, all workouts to calculate nets are made OUTSIDE of the income expenditure statement. Layout for subscriptions account: Subscriptions (Credit natured) Dr Date

Cr

Details

$

Date

Details

$

1/1/01

Balance b/d arrears

460

16/2/01

Balance b/d in advance

5000

31/12/01

Income Expenditure

6260

31/12/01

Bank

200

Cash

4000

Balance c/d in arrears

520

Balance c/d in advance Total 1/1/02

Balance b/d arrears

3000 9720 520

Total Balance b/d in advance

9720 3000

The value of the Income Expenditure is the value that will go under Incomes in the Income Expenditure statement. Another account we study is the bar’s income statement: Details + Bar Sales - Bar Cost of Sales + Bar opening stock + Bar purchases - Bar closing stock Bar Gross Profit + Other incomes + Discount Received - Other expenses + Bar wages + Bar rent Bar Net Profit/Loss

Marouane Mokhles

$ 5000 500 1700 (200)

$(totals)

(2000) 3000 50

100 300

(400) 3650

13 | P a g e

The Income Expenditure account layout: Details +Incomes:  Subscriptions  Bar Net Profit (or loss)  Event Net Profit (or loss)  Gain on Disposal (or loss)  Gate collections  Rent received -Expenses:  Depreciation – Asset  Bar Net loss (or profit)  Event Net loss (or profit)  Loss on disposal (or profit)  Interest on loan  Electricity  Rent  Accruals - Prepayments Surplus/Deficit

$

$(Totals) Please note that you’re not allowed to include more than one entry for the same item. Hence, all the entries must be NET.

(incomes)

Take care of the differences in the names between the for-profit and the non-for-profit organisations. For reference, refer to Section 11: Terms and comparisons

(expenses)

Case 6: Limited Companies Limited companies differ from other types of companies in many ways:  

Capital: (Actual capital/Issued capital) = Number of shares x Nominal Value of the share Profits: Not all the profit is distributed, as: 1. Some of the profit is kept as general reserves 2. *Interim dividends are distributed according to the directors’ agreement 3. The rest is kept as *Retained Profit

How to calculate dividends?

See section 11: Terms and comparisons for the difference between ordinary and preference shares

There are three ways to calculate dividends depending on the given information;   

𝑆ℎ𝑎𝑟𝑒𝑠 × 𝑁𝑜𝑚𝑖𝑛𝑎𝑙 𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝑠ℎ𝑎𝑟𝑒𝑠 × % 𝑆ℎ𝑎𝑟𝑒 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 × % 𝑆ℎ𝑎𝑟𝑒𝑠 × 𝐷𝑖𝑣𝑖𝑑𝑒𝑛𝑑 𝑝𝑒𝑟 𝑠ℎ𝑎𝑟𝑒

See section 12: Notes & FAQ for types of preference shares

Where the Share capital = 𝑆ℎ𝑎𝑟𝑒𝑠 × 𝑁𝑜𝑚𝑖𝑛𝑎𝑙 𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝑠ℎ𝑎𝑟𝑒𝑠 Till here, we’ve acquired all the info we need to prepare an income statement. After the preparation of the income statement, the company will be required to prepare an Appropriation account or a Statement of Changes in Equity Note: interim = paid Proposed = not yet paid (We don’t record ordinary shares’ proposed dividends in financial statements)

Marouane Mokhles

14 | P a g e

Layout of an income statement of a limited company: Details

$

$(totals)

+ Sales

100000

- Cost of Sales

(60000)

= Gross Profit

40000

+ other incomes:

10000

- other expenses Directors *Remuneration

2000

*Finance costs: 1.Interest on Debentures

4000

2.Interest on Bank overdraft

5000

3.Interest on Loans

7500

4. Redeemable preference share dividends

3500

= Net Profit

Items in the finance cost section include the full balance related to the year ended. That means that they include (paid + accrued expenses)

(20000) 30000

The next 2 special accounts are to be prepared after the income statement. They are very similar and act as a means to calculate retained profits/change in capital. Appropriation account Details Profit of the year less finance costs - General reserve - Ordinary Dividends PAID (interim) - Retained Profit/Loss + Retained Profit/Loss b/d = Retained Profit/Loss c/d

$ 5000 3500

$(totals) 30000 (8500) (15000) 10000 16500

Layout of the Statement of Changes in Equity:

Balance b/d

Share capital

General Reserve

Retained Profit

Total

50000

3000

10000

63000

New Ordinary shares issued 2000

2000

Profit for the year

30000

30000

Ordinary dividend paid

(3500)

(3500)

5000

(5000)

-

8000

31500

91500

Transfer to general reserve Balance c/d

52000

As noticed:    

New shares issued only affect share capital Profit for the year affects only the retained profit Interim dividends paid only affects the retained profit Transfers to the general reserve affect the general reserve & retained profits

Marouane Mokhles

15 | P a g e

5 Accounting Cycle (Statements of affairs) In this section, we continue what we’ve started in the previous section and finally end the accounting cycle. We are going to prepare the statements of affairs/balance sheets for the 6 different cases of businesses in the 0452 syllabus Balance sheets rely on the basic accounting equations, that Assets = Capital + Liabilities Note: Numbers mentioned in this section do not relate to those in the previous section

All balance sheets are the same in layout, except for the businesses with incomplete records. They only differ in the Financed by section. Case 1: Sole trader Balance sheet at 31/12/01 Non-Current (Fixed) Assets: + Land/Buildings + Machinery + Motor Vehicle + Equipment + Good will + Patent Right + Trademark Current Assets + Stock + Debtors + Prepaid expense + Accrued income + Bank + Cash = Net Assets Financed By: Capital: + Opening Capital + Net Profit/Loss - *Drawings - Goods withdrawn Short Term (Current) Liabilities: + Bank overdraft + Creditors + Loans due in less than 1 year Long Term (Non-Current) Liabilities: + Loan + Mortgage =Total Financed by Marouane Mokhles

$

$(totals)

50000 35000 20000 15000 4680 3000 2750 6000 5000 1200 0 6500 4000

Non-current assets have not to be ordered. However, it’s better to order them from largest value to the lowest

130430

Current Assets are ordered according to liquidity. They are to be ordered from the least liquid; Stock, to the most; cash

22700 153130

100000 20000 (10000) (870)

109130

5000 9000 20000 10000

14000

Goods withdrawn can be merged with Drawings. If not, they can be separately presented as shown as lessening the capital section Current Liabilities are liabilities that are due in the year following the year ended. Beware in the case of loans as they are normally due in longer periods

30000 153130 16 | P a g e

Case 2: Incomplete Records Businesses with incomplete records have different statements of affairs. They prepare an opening and closing statement of affairs where they are used to calculate the capital at the start and at the end of the year. Added to that, the aim from their statement of affairs is to calculate the capital, unlike other businesses whose statements of affairs are used to present the values of items and prove the basic accounting equation Layout of a statement of affairs prepared from incomplete records: Statement of affairs at 31/1/01 + Fixed assets: + Land/Buildings + Machinery + Current Assets + Stock + Debtors + Bank + Cash - Current Liabilities + Creditors - Non Current Liabilities + Loan + Mortgage = Capital

$

$(totals)

50000 4200

24200

3000 5000 2000 15000

25000

Businesses with incomplete records are usually small businesses, so the values for their items are relatively smaller than other businesses. Just beware of that in case you miscalculated a number to a larger value ;)

(5000) (12000) (6000) 26200

It is possible that you are given values from a capital account and are required to find the capital using a capital account or via direct calculations Direct Calculation: 𝑆𝑡𝑎𝑟𝑡𝑖𝑛𝑔 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 + 𝐴𝑑𝑑𝑖𝑡𝑖𝑜𝑛𝑎𝑙 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 + 𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡 − 𝐷𝑟𝑎𝑤𝑖𝑛𝑔𝑠 = 𝐶𝑙𝑜𝑠𝑖𝑛𝑔 𝑐𝑎𝑝𝑖𝑡𝑎𝑙 Capital Account: Capital Account Dr Date 1/5/01 31/12/01

Details Drawings Net Loss Balance c/d

$

Cr (Capital is of a credit nature) Date Details $ 1/1/01 Balance b/d 23/9/01 Additional Capital 31/12/01 Net Profit

To calculate any value in the table, just make sure to make use of the concept that Dr = Cr, but beware of the terms (at the start = b/d & at the end = c/d)

Marouane Mokhles

17 | P a g e

Case3: Manufacturing companies Manufacturing companies’ balance sheet doesn’t differ at all from the sole trader. The only difference is that the inventory item will be broken down into: (Arranged according to liquidity) 1. Stock of raw materials 2. Stock of Work in progress 3. Stock of finished goods Example: Balance sheet at 31/12/01 + Fixed assets: + Current Assets + Stock of Raw Materials + Stock of Work in Progress + Stock of Finished goods + Debtors + Bank + Cash Net assets Financed by: Capital Current Liabilities Non Current Liabilities Total Financed by

$

60000 20000 8000 90000 60000 30000

$(totals) 250000

268000 518000 400000 50000 68000 518000

Case 4: Partnership Like other businesses, their balance sheet only differs a bit from the sole trader’s according to their special accounts. Layout of a balance sheet of a partnership company: Balance sheet at 31/12/01 + Fixed assets: + Current Assets Net assets Financed by: Capital - Hummels Current - Hummels Capital – Sanches Current – Sanches Current Liabilities Non Current Liabilities Total Financed by

Marouane Mokhles

$

30000 (5000) 20000 5000

$(totals) 50000 30000 80000

50000 15000 15000 80000

18 | P a g e

Case 5: Non-for-profit organisations Nothing different. In the case of non-for-profit organisations, however, we must remind you that there should not be 2 entries in the financial statement for the same item, unless necessary. Layout of non-for-profit organisations’ balance sheet: Balance sheet at 31/12/01 + Fixed assets: + Club house + Land + Equipment + Current Assets + Bar inventory + Bar debtors + Accrued income + Prepaid expense Net assets Financed by: + Accumulated fund (opening) + Surplus/Deficit Current Liabilities Non-Current Liabilities + Accrued expense + Bank overdraft + Prepaid income Total Financed by

$

$(totals)

60000 80000 15000

155000

3000 1200 600 480

100000 3000

1000 5500 780

5280 160280

103000 50000

7280 160280

Case 6: Limited Companies Balance sheet at 31/12/01 + Fixed assets: + Land + Machinery + Investments + Current Assets Net assets Financed by/Capital & Reserves + Ordinary Share Capital + Preference Share Capital + General Reserve (total) + Retained Earnings (c/d) Current Liabilities + Debentures + Loans Non-Current Liabilities + Accrued interest on debentures + Proposed preference dividend Total Financed by

Marouane Mokhles

$ 90000 65000 150000

$(totals)

305000 260000 565000

480000 20000 20000 30000

550000

3000 2000

5000

2000 8000

10000 565000 19 | P a g e

6 Adjustments In this section, we’ll be studying the adjustments that occur at the end of the accounting year. These adjustments are: 1. Provision for depreciation

2. Provision for bad debts

3. Prepayments & Accruals

4. Withdrawal of goods

Added to these adjustments, we’re going to study the cases of Disposal & Stock Valuation as part of these processes includes adjustments of accounts at the end of the accounting year. Refer to section 12: Notes and FAQ for the reasons behind the end of year adjustments

Note: All provision accounts are credit natured!

1: Provision for *Depreciation Depreciation is the amount of the asset used up from a fixed asset. According to the prudence concept (mentioned in section 1: Accounting terms), we provide for the expected loss from the value of the fixed asset. There are many ways to calculate depreciation. However, in the syllabus 0425, there are only 3 ways to calculate depreciation:   

Straight Line Reducing Balance Method / Diminishing Balance Revaluation

1.1: Straight Line Method Depreciation per year =

𝐶𝑜𝑠𝑡 𝑜𝑓 𝑡ℎ𝑒 𝑎𝑠𝑠𝑒𝑡 − 𝑆𝑐𝑟𝑎𝑝 𝑉𝑎𝑙𝑢𝑒 𝑈𝑠𝑒𝑓𝑢𝑙 𝑙𝑖𝑓𝑒

or Total Depreciation = Cost – Scrap Value

Or Depreciation per year = 𝐶𝑜𝑠𝑡 × 𝑝𝑒𝑟𝑐𝑒𝑛𝑡𝑎𝑔𝑒 𝑜𝑓 𝑑𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛% In this method, the depreciation per year is constant regardless the basis on which the asset is used. 1.2: Reducing Balance Method Depreciation per year = 𝑁𝑒𝑡 𝑏𝑜𝑜𝑘 𝑉𝑎𝑙𝑢𝑒 × 𝑝𝑒𝑟𝑐𝑒𝑛𝑡𝑎𝑔𝑒 𝑜𝑓 𝑑𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛% Where the Netbook Value = Original cost of the asset – Total depreciation of the previous years In this method, the depreciation per year is variable and depends on the Net Book value. 1.3: Revaluation Method Total Depreciation = 𝑆𝑡𝑎𝑟𝑡𝑖𝑛𝑔 𝑉𝑎𝑙𝑢𝑒 − 𝑉𝑎𝑙𝑢𝑒 𝑎𝑡 𝑡ℎ𝑒 𝑒𝑛𝑑 𝑜𝑓 𝑡ℎ𝑒 𝑝𝑒𝑟𝑖𝑜𝑑 This method depends entirely on the valuation of the asset at the end of the accounting period.

(You can find a comparison between the different methods of depreciation in Section 11: Accounting Terms and Comparisons)

Marouane Mokhles

20 | P a g e

Step 2: How to record depreciation? To record depreciation, an account is opened under the name of *Provision for Depreciation. This account is called a contra account and it is opened to lessen the account of a fixed asset account Journal entry: Dr Income Statement Cr Fixed Asset Provision for depreciation of Fixed asset Dr Cr (Credit Natured) Date Details $ Date Details 1/1/01 Balance b/d 31/1/01 Balance c/d 5000 31/1/01 Income Statement Total Total 1/1/02 Balance b/d

$ 4000 1000 5000

Remember that the adjustment happens at the end of the year. The dates of Income statement is at the end of the year

As noticeable from the account above:  

Provision for depreciation is credit natured, as it is used to lessen a fixed asset (debitnatured). The value that is transferred to the income statement is only that of the year ended.

In the Income Statement, it goes under Other Expenses: - other expenses: + Provision for depreciation of Machinery

1000

In the balance sheet, it goes under the fixed asset, directly lessening it. Fixed Assets + Machinery at cost

10000

- Total provision for depreciation

(5000)

5000

2: Provision for bad debts Bad debts are losses that occur when a debtor fails to pay his debts. As you’ve thought, it’s not always possible to predict the occurrence of this incident. Thus, there are three cases related to bad debts that we study. Each of these has their own account: 1) Bad debts written off (at any time of the year) 2) Provision for Bad debts (happens at the end of the year) 3) Bad debts recovered (at any time of the year) Bad debts are written off if the debtor fails to pay his debts within the pre-set period (Case 1). However, companies tend to calculate percentage of bad debts from the total balance of their debtors (Case 2). Sometimes, debtors are able to pay their debts or part of them after they were written off. (Case 3)

Marouane Mokhles

21 | P a g e

Case 1: Bad Debts written off First of all, writing off a bad debt is the lessening the value of the bad debt from the debtor, and increasing the value of the bad debts. Initial transaction (Sales)

Writing off the bad debt

Dr Debtor X Cr Sales

Dr Bad debts Cr Debtor X

2000 2000

2000 2000

As noticeable:   

There has to be a credit sales transaction for a debtor to exist in the books Writing off the bad debt includes the whole value of the initial transaction, unless the debtor has paid part of it The Bad debts account is Debit-natured

Remember: Written off bad debts are not an adjustment that happens at the end of year! Bad debts account: Bad debts written off (expense) Dr (Debit Natured) Cr Date Details $ Date Details 15/2/01 Debtor X 2000 15/2/01 Income Statement Total 2000 Total

$ 2000 2000

As bad debts are an expense, this account is closed by transferring the balance due to the income statement directly

Case 2: Provision for bad debts This is the adjustment we perform at the end of the year, to try and predict how much of our debtors’ balance will be bad debts. Hence, there are many ways to calculate this, but we only focus on 2 in the 0452 syllabus:  

Provision of bad debts as a percentage of debtors, based on past experience Investigating debtors to predict whose debt will be bad

Provision for bad debts (expense case) Dr Cr (Credit Natured) Date Details $ Date Details $ 1/1/01 Balance b/d 1500 31/1/01 Balance c/d 2500 31/1/01 Income Statement 1000 (If expense)

Total

Date 31/1/01

Total 1/1/02 Balance b/d 2500 Provision for bad debts (Income) Dr Cr (Credit Natured) Details $ Date Details $ Income Statement 1000 1/1/01 Balance b/d 1500 (If expense)

31/1/01 Balance c/d Total

Marouane Mokhles

500 1500

Total

1500

22 | P a g e

As noticeable from the two accounts above:   

Income statement value is used to lessen/increase the provision for bad debts If Income statement is on Cr side, then the value is an expense as it increases the provision. If Income statement is on Dr side, then the value is an income as it decreases the provision.

In the income statement, it goes under Other expenses if it has increased (compared to last year) - other expenses: + Provision for bad debts

1000

Or in the other incomes if decreased (compared to last year) + other incomes: + Provision for bad debts

1000

In the Balance sheet, it goes under Debtors, directly lessening the total balance of debtors Current Assets + Debtors

10000

- Provision for bad debts (new) = Net Debtors

(1000)

9000

Case 3: Bad debts recovered In this case, there are two options for an accountant to take: 1) Adding the debt once again to the debtor’s account, then recording the payment of that debt (2 transactions) 2) Leaving the debtor’s account closed, the accountant could just record payment of cash as a recovery for a bad debt, without mentioning the debtor paying (1 transaction) Case 1 Journal Entry Dr Debtor X Cr Back debts recovered Dr Cash/Bank Cr Debtor X

Case 2 Journal entry Dr Bank/Cash Cr Bad debts recovered

Layout of the bad debts recovered account: Bad debts recovered Cr (Credit Natured) Date Details $ Date Details 31/12/01 Income Statement 2000 15/2/01 Bank/Cash Total 2000 Total Dr

Marouane Mokhles

$ 2000 2000

23 | P a g e

3: Prepayments & Accruals There are 4 cases to be studied in this section: 1) 2) 3) 4)

Prepaid Expense (becomes an asset) Accrued expense (Liability) Prepaid Income (becomes a liability) Accrued Income (Asset)

The following two tables illustrate the hardest situation you could encounter Expense account Date 1/1/01 31/12/01

Dr (Debit-Natured) Details Balance b/d (prepaid) Income Statement Balance c/d (accrued)

Total

$ 1000 2000 500 3500

Date 1/1/01

Cr Details Balance b/d (accrued) Bank Balance c/d (prepaid)

Total

$ 2000 1000 500 3500

Income account Date 1/1/01

Dr Details Balance b/d (accrued) Bank Balance c/d (prepaid)

Total

$ 2000 1000 500 3500

Date 1/1/01 31/12/01 Total

Cr (Credit Natured) Details Balance b/d (prepaid) Income Statement Balance c/d (accrued)

$ 2000 500 1000 3500

4: Withdrawal of goods: An owner may withdraw goods at will. These withdrawals are added to the *drawings account Journal entries: Dr Drawings Cr Purchases It is negated from purchases in the income statement and added to the drawings in the balance sheet or shown on its own as negating the capital. + Purchases

60000

- Purchases withdrawn

1000

+ Opening Capital

50000

- Drawings

(10000)

- Purchases withdrawn

(1000)

Marouane Mokhles

39000

24 | P a g e

Stock Valuation Briefly, to valuate stock, we tend to choose the lowest of:  

Cost of the stock Net Realisable value

Where the cost of the stock = Cost of purchase + direct costs of purchase Net realisable value = Selling Price – Selling Expenses You are normally given a table like the following: Item A B

# of units 100 200

Cost per unit 10 20

Net realizable Value per unit 7 25

Total 700 (NRV) 4000 (Cost)

You will be then asked for the total. Here, we deal with each item individually. Hence, the answer for item A’s total should be 700, not 1000 and that of B is 4000, not 5000, as they are the lower values

Disposal The *disposal account is only opened when a fixed asset is to be disposed of. When disposing of a fixed asset, we must cancel all its records and record the revenue that resulted from its disposal, if present Steps of disposal: 1) 2) 3) 4)

Cancelling the cost of the disposed fixed asset Cancelling the provision for depreciation of the disposed asset up to that date Recording the debited account in value for the disposed-of asset Recording the gain/loss made at the disposal of the asset

Journal Entries: Cancelling cost Dr Disposal Cr Asset

Cancelling Provision for depreciation Dr Provision for depreciation

Recording debited account

Cr Disposal

Cr Disposal

Dr Cash/bank/debtor

Recording gain/loss Dr Income Statement (if loss) Cr Disposal (if loss) Dr Disposal (if gain) Cr Income Statement (if gain)

Where each of these transactions has its own effect on the financial statements. As noticeable:    

Disposal account is included in the 4 transactions Only one value goes to the income statement under the name of Disposal 3 accounts only are concerned; Fixed asset account, Provision for depreciation account, Disposal of the asset account Only the gain/loss is transferred to the income statement

Marouane Mokhles

25 | P a g e

7 Division of Books As a business expands, the load on the accountants due to the increase of transactions increases. These businesses, then, decided to divide their books according to the transactions each book holds. It was then agreed that the journals are to be divided into 6 primal entry books, while the ledger will be divided into 3 secondary entry books. Types of journals and ledgers: Journals:

Ledgers:

     

  

General Journal Sales Journal Sales returns Journal Purchases Journal Purchases returns Journal Cash books

General (Nominal) Ledger Sales Ledger Purchases Ledger

Journals and the transactions they contain: Journal

Documents used

Sales Journal

Transactions it holds  Correction of errors  Provision for depreciation/bad debts  Bad debt expenses  Purchase of Fixed assets on credit Sales on credit

Sales returns Journal

Sales returns on credit

Credit notes issued

Purchases Journal Purchases returns Journal Cash Books

Purchases on credit

Invoice received

Purchases returns on credit

Credit notes received

Any transaction including cash/bank

Receipts & cheques

General Journal

Invoices issued

Sales Journals, Purchases Journals and the returns Journals have the following format:

Date

Sales/Purchases/Sales returns/Purchases returns Journal Document # Details

5/1/01

Debtor/Creditor

6/1/01

Debtor/Creditor

31/1/01

Total

$

As noticeable:   

Document # is included in the journal A total is required at the end of the journal No narrative is required

Marouane Mokhles

26 | P a g e

Cash Books: As bank/cash transactions are the most occurring, the cash book was divided into:   

Two column cash book Three column cash book Petty Cash book

It is not required for every business to keep the three, but each of them has its use. 2 column Cash book: It is called the 2 column cash book as it calculates the balances for the bank and cash transactions Date

Details

Cash

2 Column Cash book Bank Date Details 31/1/01

1/2/01

Total Balance b/d

Cash

Bank

Balance c/d Total

3 Column Cash book It is called the 3 column cash book as it includes cash, bank and discounts balances 2 Column Cash book Dr Date

1/2/01

Details

Cr Cash

Bank

Disc allowed

Total Balance b/d

Date

Details

31/1/01

Balance c/d Total

Cash

Bank

Disc received

As noticeable from the laid above layouts:  

The only difference between the 2 column and the 3 column cash books is that discounts are included in the 3 column cash book Both books contain the balances for cash and bank

Important Note: Discounts are incomes/expenses. Hence, they do NOT get carried/brought down to the next period. Their totals are transferred to their account in the general ledger. 3: Petty Cash book It is kept under the *imprest system. It is used to record small payments or receipts. The document used to record in the Petty cash book are vouchers. It has extra columns in the expenses section. These columns are called analysis columns. They are used to provide totals of each expense to be posted to their respective expense account. It also provides better control over spending

Marouane Mokhles

27 | P a g e

Layout of the petty cash book: Dr Date Details 1/2/01 Balance b/d Cash

$

Total 1/3/01 Balance b/d Cash

Date

Petty Cash Book Cr Details $

30/2/01

Balance c/d Total

Clean

Office

Travel

Postage

As noticeable: 

 

Imprest value is restored at the end of each month with the transaction: Dr Petty Cash Cr Cash At the end of each month, there is supposed to be some remainder of the imprest amount All expenses’ totals are calculated aside from Dr and Cr totals

Ledgers and what they contain General Ledger Sales Ledger Purchases ledger

It’s a book that contains all non-personal accounts (Any accounts without names) Sales ledger contains debtors’ accounts Purchases ledgers contain creditors’ accounts

Important notes:  

Sales and Purchases ledgers only contain accounts of debtors and creditors Purchases, Sales, Purchases returns, sales returns accounts are posted in the general ledger

Marouane Mokhles

28 | P a g e

8 Errors Throughout the accounting cycle, errors can occur. In this section, we’ll study most types of errors and how to tackle them. Errors can be classified into two types: 1.

Errors that affect the trial balance 2. Errors that don’t affect the trial balance Errors affecting Trial Balance    

Errors not affecting Trial Balance      

Overstatement/Understatement of an account’s balance Error of addition in the Trial Balance Single Entry Wrong Side of an account’s balance

Error of Omission Error of Principle Error of Commission Error of Original Entry Error of Compensation Error of Complete Reversal

First of all, we’ll study the Errors that affect the trial balance: For an error to affect the trial balance, it has to form some sort of deficit in the equation that says: Debit side = Credit Side Thus making a side less than the other. However, as the equation is impossible not to equate, we open an account entitled *Suspense so as to equate the sides until the errors are discovered. The suspense account has no nature. It is opened on the side with the deficit and is decreased/increased through journal entries that fix the errors. For instance; Kimmich’s trial balance failed to agree. The credit side was less than the debit side by $5000, whereas the following were discovered.    

Salaries were underestimated by 5000 Purchases journal was overcasted by 3000 Commission received of 5000 was debited, but wasn’t credited to Neuer The total balance of commission paid of 1000 was posted on the credit side in the Trial balance

Answer: First of all, the suspense account is opened. Suspense account Dr Date

Details Total

Marouane Mokhles

$

Date

Cr Details Difference on Trial Balance Total

$ 5000

29 | P a g e

Then, we prepare the journal entries to correct our errors: First error: First Error Dr Salaries 5000 Cr Suspense 5000

Second Error Dr Suspense 3000 Cr Purchase Journal 3000

Third Error Dr Suspense 5000 Cr Neuer 5000

Fourth error Dr Suspense 2000 Cr Commission paid 2000

Explanation: 1 - For the first error, we needed to increase salaries. Salaries being an expense of a debit nature, it increased on the debit side, thus increasing also the suspense. (Effect = Suspense increased by 4000) 2 - For the second error, we needed to decrease purchases journal total. The purchases journal total being an expense of a debit nature, it was decreased on the Credit side, thus decreasing suspense (Effect = Suspense decreased by 2000) 3 – For the third error, we needed to credit Neuer for his payment of commission. Thus, since an increase on the credit side happened, an equivalent decrease in the Suspense account had to be made. (Effect = Suspense decreased by 5000) 4- For the final error, the commission paid was debited, despite the fact that it’s an income. Thus, to correct that error, we had to cancel the debited balance, then credit the balance once again. Since both steps have the same effect and same procedure, we credited commission paid by 2000. (Effect = Suspense decreased by 2000) After all the errors have been corrected, the suspense account is adjusted: Income account Date 31/12/01

Dr Details Purchases Journal Neuer Commission paid Total

$ 3000 5000 2000 10000

Cr (Credit Natured) Date Details 31/12/01 Difference on Trial Balance Salaries Total

$ 5000 5000 10000

However, it is possible that a balance remains on the Suspense account if not all the errors were corrected. In this case, it will be shown on the balance sheet on the current assets if it was on the debit side, or on the current liabilities if it was on the credit side.

Marouane Mokhles

30 | P a g e

Errors not affecting Trial Balance: Errors that don’t affect the equation of the trial balance, logically, affect both sides of the trial balance. To do so, the error must increase/decrease both sides with the same amounts. The following are the errors and their explanation. Omission

Completely overlooking a transaction/document

Principle

Original Entry

Posting a transaction to the wrong account of the same nature Posting the transaction to the correct type of account, but incorrect name Posting a transaction with a wrong amount

Compensation

Two errors of the same value cancelling each other’s effect

Complete reversal

Posting a transaction to the wrong side of account

Commission

Example: A trader’s trial balance for the year ended 31/12/01 was made and then, the following errors were discovered, as they were not revealed by the trial balance:     

Goods bought of credit from Lewandowski for 9000 was overlooked Machinery for 8000 bought from Boateng Ltd debited to the purchases account Sales on credit were made to Lahm, but the amount of 5000 was debited to Lewandowski Purchase of goods from Ulreich for 5000 recorded as 3000 Purchase ledger was under-casted by 1000, commission paid was overcasted by 500 and the commission received was undercast by 500 Purchase of motor vehicle by credit from Costa for 70000 debited to Costa and credited to Motor Vehicle



Correction of errors

Effect on Net Profit

1)

1)

Dr Purchases 9000 Cr Lewandowski 9000

Decreases NP by 9000 (increase in purchases  decrease in gross profit)

2) Dr Machinery 8000 Cr Purchases 8000

2)

3) Dr Lahm 5000 Cr Lewandowski 5000

3) No effect

Decreases NP by 8000 (increase in purchases  decrease in gross profit)

Decreases NP by 2000

4) Dr Ulreich 2000 Cr Sales 2000

4)

5) Dr Purchases 1000 Cr Commission paid 500 Cr Commission received 500

5) Increase NP by 500

6) Dr Motor Vehicle 140000

(increase in purchases  decrease in gross profit)

(Increase in Purchases by 1000  increase in other incomes by 500)

6) No effect (Debtor  Creditor = Asset  Liability)

Cr Costa 140000

Marouane Mokhles

31 | P a g e

Bank Reconciliation Businesses keep track of their bank accounts through their Bank account in their ledgers. However, banks send statements of accounts to businesses periodically. However, it happens that the balance in the business’s books is not equal to that of the bank statement, thus both accounts have to be matched against each other, to update the cash book with remaining entries, and discover dishonoured cheques. Items in the cash book, but may not be shown in the bank statement:  

Deposit on transit: Cheques received by business, but not yet banked Unpresented cheques: Cheques sent by the business, but not yet presented to the bank for payment

Items in the bank statement that may not be shown in the cash book:      

Credit Transfers: Collections from debtors Direct Debit: Payment to creditors Standing orders: payments on regular basis Bank Charges for their services Bank interest: interest on bank deposit Dishonoured cheques

Steps to find the correct balance: 1: Adjust the Cash book balance Updating cash book Dr (Money in) Date

Cr (Money out)

1/1/01

Details Balance b/d

31/1/01

Bank interest

Direct Debit

Credit Transfers

Dishonoured Cheques

(balance of cash book)

$

Date 31/1/01

Details

$

Bank charges

Standing orders Balance c/d (Updated CB Bank Balance)

2: Readjust the bank statement balance with the updated Cash book bank balance Bank Reconciliation Statement Balance in the bank statement + Deposit in Transit + Debtor 1 + Debtor 2 - Unpresented Cheques + Creditor 1 + Creditor 2 = Updated Cash book Bank Balance

Marouane Mokhles

32 | P a g e

9 Control Accounts As per their naming, control accounts are made to provide more control over debtors and creditors using their ledgers, the sales and the purchase ledgers respectively. First: Sales Ledger Control Account The account is basically debit natured. It is started with the summation of the debit balances from the Sales ledger at the start of the accounting period. Then, items that increase debtors’ balances in the business’s books are kept on the debit side, while items that decrease debtors’ balances are kept on the credit side. The balance c/d should be equal to sum of debit balances in the Sales ledger at the end of the month For example: The total debit balances on the Sales ledger control account at the start of the month was 1894 and 3368 at the end of the month

Date 1/1/01 31/1/01

Sales Ledger Control Account Dr (+ to debtor’s balance) Cr (- to debtor’s balance) Details $ Date Details Balance b/d 1894 31/1/01 Bad debts

200

Sales Interest on credit sales Cash refund to debtor Dishonoured cheque

1968 500 300 400

(Sum of Sales Ledger debit balances)

2500 500 342 1500

Bank/Cash Sales returns Discount allowed *Contra Purchase Ledger Balance c/d

3368

(Should be = Sum of Sales Ledger debit balances at the end of the month)

1/2/01

Balance b/d

6736 3368

$

Total

6736

If there are no errors in the ledger, the value of Balance b/d should be equal to that of the balance c/d Second: Purchase Ledger Control Account (Same as Sales Control, but with credit purchases)

Date

Purchases Ledger Control Account Dr (- to creditor Balance) Cr (+ to creditor Balance) Details $ Date Details Balance b/d Cash/Bank

$

(Sum of Purchase Ledger credit balances)

Purchase returns Discount Received *Contra Sales ledger Balance c/d

Purchases Cash refunds to us Interest on credit purchases

(Should be = Sum of Purchases Ledger credit balances at the end of the month)

1/2/01

Marouane Mokhles

Total Balance b/d

33 | P a g e

10 Analysis Analysis is one of the main aspects of accounting. It’s the part where the whole accounting cycle is demonstrated in figures that help owners take decisions and help other users of financial statements with their uses. The means of analysis we‘ll focus our eyesight on are the ratios. There are 3 types of ratios we study: 1. Profitability Ratios

2. Liquidity Ratios

3. Efficiency Ratios

Profitability Ratios:    

See Section 12: Notes & FAQ for all the information and questions about ratios and analysis

Gross Profit Margin Net Profit Margin Markup % Return on Capital Employed

Gross Profit Margin: The Gross profit margin =

𝐺𝑟𝑜𝑠𝑠 𝑃𝑟𝑜𝑓𝑖𝑡 𝑆𝑎𝑙𝑒𝑠

× 100 = ⋯ %

The gross profit calculates the gross profit as a percentage of Sales. Hence, the higher the percentage, the more profitable the business Net Profit Margin: The Net profit margin =

𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡 𝑆𝑎𝑙𝑒𝑠

× 100 = ⋯ %

The net profit margin calculates the net profit as a percentage of sales. Hence, the higher the percentage, the more profitable the business (is usually less than the gross profit margin) Mark up %: 𝐺𝑟𝑜𝑠𝑠 𝑃𝑟𝑜𝑓𝑖𝑡

The Mark up percentage = 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑆𝑎𝑙𝑒𝑠 × 100 = ⋯ % The Mark up percentage calculates the gross profit as a percentage of cost of sales. Hence, the higher the percentage, the more profitable the business. Return on Capital Employed: 𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡

Return on capital employed = 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 𝐸𝑚𝑝𝑙𝑜𝑦𝑒𝑑 × 100 = ⋯ % The return on capital employed calculates the net profit as a percentage of the capital employed. The higher the percentage, the more profitable the business.

Marouane Mokhles

34 | P a g e

Liquidity Ratios  

Current Ratio Quick Ratio

Current Ratio: 𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠

Current Ratio = 𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠 = ⋯ : 1 It measures the availability of current assets to cover current liabilities. The higher the ratio, the better, till a certain limit. To clarify: Of course, it’s best to stay covered and have more current assets than current liabilities. However, too much current assets is also a disadvantage, as these assets are costly to keep and can be used to acquire more fixed assets or take development decisions. Quick Ratio: Quick Ratio =

𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠−𝑆𝑡𝑜𝑐𝑘 𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠

= ⋯:1

It measures the availability of current assets to cover current liabilities without selling stock. The higher the ratio, the better, till a certain limit, as explained in the Current ratio.

Efficiency Ratios   

Debtors’ collection period Creditors’ collection period Stock Turnover ratio

Debtors’ collection period: 𝐷𝑒𝑏𝑡𝑜𝑟𝑠

Debtors’ collection period = 𝐶𝑟𝑒𝑑𝑖𝑡 𝑆𝑎𝑙𝑒𝑠 × 365 = ⋯ 𝑑𝑎𝑦𝑠 The debtors’ collection period calculates the number of days the money owed by debtors could be collected. The less the days, the more efficient and the more liquidity the business has. Creditors’ collection period: 𝐶𝑟𝑒𝑑𝑖𝑡𝑜𝑟𝑠

Creditors’ collection period = 𝐶𝑟𝑒𝑑𝑖𝑡 𝑃𝑢𝑟𝑐ℎ𝑎𝑠𝑒𝑠 × 365 = ⋯ 𝑑𝑎𝑦𝑠 The debtors’ collection period calculates the number of days the money owed by the business to its creditors can be paid. The more the days, the more efficient and the more liquidity and efficiency the business has. (if long term credit periods are agreed upon) The less the days, the more liquidity and efficiency the business has, if discounts are received, etc. Stock Turnover Ratio: 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑆𝑡𝑜𝑐𝑘 × 365 = ⋯ 𝑑𝑎𝑦𝑠 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑠𝑎𝑙𝑒𝑠 𝑂𝑝𝑒𝑛𝑖𝑛𝑔 𝑆𝑡𝑜𝑐𝑘+𝐶𝑙𝑜𝑠𝑖𝑛𝑔 𝑠𝑡𝑜𝑐𝑘 Where the average stock = 2

Stock turnover ratio =

𝑜𝑟

𝐶𝑜𝑠𝑡 𝑜𝑓 𝑆𝑎𝑙𝑒𝑠 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑠𝑡𝑜𝑐𝑘

= ⋯ 𝑡𝑖𝑚𝑒𝑠

It calculates how often the stock is replaced. The shorter the days, the longer the times, the better the efficiency and liquidity of the business. Having long period turnover stops liquidity

Marouane Mokhles

35 | P a g e

11 Accounting terms & Comparisons Below are some of the most misunderstood terms in the syllabus and their correct explanation. It is ordered according to the order of their section’s position in this document. Hence, for instance, terms related to section 1 are found first, and terms related to the last section are found last. Term

Explanation

Assets

Everything the business owns, be it physical or not. Examples: land, building, trademark, cash, bank balance

Expenses

Everything the business spends Examples: purchases, electricity, interest on loans

Capital

The capital is the owner’s investment in the business.

Liability

All amounts the business is obliged to pay for as settlements to their debts

Income

All amounts the business gains from its trade

Capital Expenditure

Amounts the business spends to acquire new fixed assets or to add value to an existing one (recorded in balance sheet)

Revenue Expenditure

Amounts the business spends to meet day to day expenses. (recorded

Running expenses

One-time expenses

Current Assets Fixed assets Capital employed

Working Capital

Capital owned Short term liabilities

Marouane Mokhles

in income statement)

Expenses that are required to paid on a time basis. Thus, it is possible that there may be prepayments & accruals, thus balances that carry down to the next accounting periods Examples: Electricity, Subscriptions, rent Expenses that are only paid once and settled once. It is not possible to have balances carried/brought down in this case. Examples: cash purchases, repairs Assets whose values are not stable. Their values are vulnerable to increase/decrease due to day-to-day transactions Examples: cash, bank, debtors, stock Assets whose value is fixed as transactions related to them are limited It’s the capital the business employs to meet future liabilities and expenses. To calculate employed capital = total assets – current liabilities It’s the capital the business uses to meet current liabilities and expenses. To calculate working capital = current assets – current liabilities The capital owned is the current capital of the business To calculate owned capital = Opening Capital + Net Profit/Loss + Additional Capital - Drawings Liabilities the business is required to meet during 1 year

36 | P a g e

Continued – Accounting Terms Long term liabilities

Liabilities the business is required to meet during more than 1 year

Capital receipts

Amounts received at the disposal of a fixed asset (recorded in balance

Revenue receipts

Amounts received from day to day incomes of the businesses

Double entry system

A system of transaction-recording, where transactions are recorded twice; once on the debit and once on the credit side.

Net Realisable Value (NRV)

The net sellable value of the asset. (Sellable Value – Selling expenses)

Provision account Trade Discount Cash Discount

Suspense account Prime Cost (Manufacturing)

Cost of Production of finished goods (Manufacturing)

Capital account (Partnership)

Current account (Partnership)

Authorised Capital (Limited companies)

Issued Capital (Limited Companies)

Called-up Capital (Limited Companies)

Paid-up Capital (Limited Companies)

Dividend (Limited Companies)

Interim Dividend (Limited Companies)

Proposed Dividend (Limited Companies)

Marouane Mokhles

sheet)

(recorded in income statement)

A contra account opened to adjust the value of assets in order to give a fair view of that account Discount issued by seller to buyer. It is NOT recorded in business books. Discount issued by seller to buyer and is recorded in business books A temporary account that is opened when the trial balance fails to agree. Its balance is equal to the deficit between the credit and debit side in order to equate the sides. It has no nature, but it stands on the side with less mathematical value Total direct Cost of production = Direct Raw Material + Direct Labour + Direct expenses Total Cost of production of goods = Prime Cost + Overhead expenses + net work in progress. It carries the record of initial capital and any additional capital contributed by the partner. It is fixed and is not affected by any entry other than contribution of capital. This account records the share of profits and losses and drawing of a partner Maximum capital the company is allowed to raise Actual capital issued by the company to shareholders Amount issued of share capital and required by the company Amount PAID of the called-up capital Amount of money given to shareholders as their part of the profit Amount of money paid to the shareholders as part of the profit DURING the year Amount of money proposed by the directors to be paid to the shareholders as their part of the profit

37 | P a g e

Continued – Accounting Terms Debentures (Limited Companies)

Finance Cost

Long term liabilities where the company loans money and issues interest on its terms The cost of getting money. For instance; to acquire a loan, you will be required to pay interest. Interest, in this case is the finance cost.

Remuneration

Money paid for work or service = Salary

Bad debts

Actual loss when a debtor can’t pay his debts

Recovered bad debts

Prepayment

Accruals Drawings Disposal account Imprest System

Contra entry Goods sent on sale or return

Debts that were previously written off that are later recovered (In a later period. NOT SAME PERIOD) The Satisfaction of a debt or installment payment before its official due date. A prepayment can be for the entire balance or for any upcoming payment that is paid in advance of the date for which the borrower is contractually obligated to pay it Amounts due from a period, but unpaid at its end A contra-capital account opened to adjust the capital account as the owner withdraws money from the business for his own personal use A temporal account opened at the disposal of fixed assets, due to sale, theft, fire, etc A system where the cashier is given a fixed amount of money. It is to be spent on small expenses. At the end of the period, the amount of money with the cashier is restored to its imprest value If a debtor is at the same time a creditor, for instance a business who sells and buys equipment, accounts can be set off to cancel the lower balance, so only one cheque could be sent Goods sent by the business to outlets so that they may be sold there. If they are not sold, they are returned to the business. They are, till sold, part of the business’s stock.

Comparisons Differences between for-profit and non-for-profit organisations: For-profit organisations Cash book Income Statement Profit Loss Capital

Marouane Mokhles

Non-for-profit organisations Receipts and payments Income & Expenditure Surplus Deficit Accumulated fund

38 | P a g e

Differences between the account of actual bad debts & provision for bad debts: Actual Bad debts written off Debit Natured Expense by nature Made to adjust a debtor’s account

Provision for bad debts Credit Natured Can be expense if increasing or an income if decreasing Made to adjust the total

Differences between Sole/Partner/Limited companies: Sole Trader One owner Unlimited liability

Partnership Two or more partners Unlimited liability

No separate legal entity Trader has to run business himself Capital raised by the trader

No separate legal entity Running business shared among partners Capital raised by partners

Limited Unlimited number of owners Liability limited to amount invested in shares Has separate legal entity Company ran by directors Capital is raised on the issue of sales

Differences between Ordinary Shares and Preference Shares (Limited Companies): Ordinary Shares Receipt of dividends depend on availability of profit and its amount They are entitled to vote in inter-firm elections/polls They are 2nd to receive:  Dividends on distribution of dividends  Their share in the case of the liquidation 

of assets Their share capital in the case of the company being winded up

Preference Shares They receive fixed interest/dividend regardless the profit They have no right to vote in inter-firm elections/polls They are 1st to receive:  Dividends on distribution of dividends  Their share in the case of liquidation of 

assets Their share capital in the case of the company being winded up

Differences between Straight Line, Reducing Balance & Revaluation depreciation method: Straight Line Method

Reducing Balance Method

Depreciation is based on the original cost of the asset

Depreciation is based on the net book value

Easy to determine depreciation rate

Depreciation decreases every period Hard to determine depreciation rate

Scrap value is considered

Scrap value is ignored

Fixed depreciation per year

Marouane Mokhles

Revaluation Method Depreciation is based on both the starting and ending valuations of the asset Depreciation is variable Depreciation rate is variable Scrap value considered (as an ending valuation)

39 | P a g e

12 Notes & FAQ Syntax: Section - Note



Financial Documents: When dealing with questions related to Credit notes and invoices. On deciding whether a discount is deserved or not, refer to the date the document was issued on, not the date of the transaction.



Ledger: When balancing an account at the end of an accounting period, the journal entry for balance c/d and balance b/d is e.g: 31/12/01 Cr Bank 300 1/1/02 Dr Bank 300



Ratios: ∵ Gross profit margin =

𝐺𝑟𝑜𝑠𝑠 𝑝𝑟𝑜𝑓𝑖𝑡

𝐺𝑟𝑜𝑠𝑠 𝑝𝑟𝑜𝑓𝑖𝑡

𝑆𝑎𝑙𝑒𝑠

∵ Markup % = 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑠𝑎𝑙𝑒𝑠 × 100  Gross profit margin% =

    







 

× 100

∵ Gross profit = Sales – Cost of sales

𝑆𝑎𝑙𝑒𝑠 −𝐶𝑜𝑠𝑡 𝑜𝑓 𝑠𝑎𝑙𝑒𝑠 𝑆𝑎𝑙𝑒𝑠

and markup% =

𝑆𝑎𝑙𝑒𝑠 −𝐶𝑜𝑠𝑡 𝑜𝑓 𝑠𝑎𝑙𝑒𝑠 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑆𝑎𝑙𝑒𝑠

Gross Profit % × 𝑆𝑎𝑙𝑒𝑠 = 𝑆𝑎𝑙𝑒𝑠 − 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑆𝑎𝑙𝑒𝑠

Mark-up % × 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑠𝑎𝑙𝑒𝑠 = 𝑆𝑎𝑙𝑒𝑠 − 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑆𝑎𝑙𝑒𝑠 Sales = Cost of sales + % of margin × Sales Sales = Cost of Sales + % of markup × Cost of Sales

Limited Companies : When preparing financial statements for a limited company, please note that the PROPOSED ORDINARY shares dividend don’t appear in any of the statements. Only the interim values are included. The only PROPOSED dividends mentioned in financial statements are those of the PREFERENCE shares. They appear in the income statement in the finance cost section and in the current liabilities section in the balance sheet Capital Employed: The capital employed can be calculated in 3 ways: o Capital Employed = 𝑭𝒊𝒙𝒆𝒅 𝑨𝒔𝒔𝒆𝒕𝒔 + 𝑪𝒖𝒓𝒓𝒆𝒏𝒕 𝒂𝒔𝒔𝒆𝒕𝒔 − 𝑪𝒖𝒓𝒓𝒆𝒏𝒕 𝒍𝒊𝒂𝒃𝒊𝒍𝒊𝒕𝒊𝒆𝒔 o Capital Employed = 𝑭𝒊𝒙𝒆𝒅 𝑨𝒔𝒔𝒆𝒕𝒔 + 𝑾𝒐𝒓𝒌𝒊𝒏𝒈 𝑪𝒂𝒑𝒊𝒕𝒂𝒍 o Capital Employed = 𝑪𝒂𝒑𝒊𝒕𝒂𝒍 + 𝑳𝒐𝒏𝒈 𝑻𝒆𝒓𝒎 𝑳𝒊𝒂𝒃𝒊𝒍𝒊𝒕𝒊𝒆𝒔 Non-for-profit organisations: the value transferred to the Income Expenditure account related to Subscriptions could be easily calculated if given the # of members and the annual fee. Formula = # 𝑜𝑓 𝑀𝑒𝑚𝑏𝑒𝑟𝑠 × 𝑎𝑛𝑛𝑢𝑎𝑙 𝑓𝑒𝑒 Non-for-profit organisations: Most of the time, you use the balance b/d from the receipts and payments account to know the accumulated fund, while you use the balance c/d in the balance sheet as the current asset: bank Partnership: Any entry must include the name of the partner involved, if present Bank reconciliation: Beware of the entry at which the value at the bank statement equates that of the cash book, as any entries written before that are already entered in both!

Marouane Mokhles

40 | P a g e

The debit side includes categories the business uses its sources of finance in acquiring. Assets, being the business’s properties, it is of debit nature. Expenses are transactions the business uses its sources of finance to meet, thus are of debit nature

The credit side includes categories that are the business’s sources of finance. Capital, being the owner’s investment, is thus credit natured. Liabilities are made to purchase items for the business, thus is of credit nature. Incomes are sources of gaining money, thus are of credit nature.

     

Owner; to calculate his net profit/loss Bank; to accept/reject loans and to set credit periods Manager; to take development decisions/actions Government; to calculate taxes Creditors; to accept/reject credit purchases Investors; To Assess business profitability and efficiency



All Fixed assets are recorded at their original cost which doesn’t match current values due to historic cost concept



Only items of monetary value are recorded in business books leaving out important nonfinancial item; like labour skills, management efficiency



important transactions between date of preparation of F/s and their presentation will not appear in Financial statements



Financial statements are condensed and brief leaving out important details

  

Detecting Errors Proving mathematical equality between Debit and Credit sides under the double entry system Its usefulness in preparing financial statements

A debit note is a document issued by a buyer to the seller asking for allowance to return goods that were purchased on credit, for being damaged, faulty, wrongly sent, or to reduce an overcharged invoice. They are not used in recording

 

To remind his debtors of the amounts due and their due date To offer a cash discount in case of prompt payment

Marouane Mokhles

41 | P a g e

Advantages    

Work is shared More skill and knowledge More capital can be raised Risk is shared

 

Easier to see the profit retained by each partner Easier to calculate interest on capital

Disadvantages    

Profits are divided Disagreements may occur Partners can’t act individually Partners share other partners’ mistakes

Limited companies are organisations owned by shareholders, where the liabilities of the business are limited to the amount of money invested in shares of the business

Advantages:

Disadvantages



  



  

 

The liability of the shareholders are limited, thus in the case of bankruptcy, individual assets of owners won’t be used to pay the company’s debts There is formal separation between owners and managers, and that helps in identifying people responsible for the business Shares in the business can be transferred easily No number limit for shareholders Funds are easily raised via; shares, debentures & loans



Formation costs are high Running costs are very high Profit distribution applies to many restrictions, thus not all profit goes to the shareholders Company accounts must always stay accessible to the public

^Capital reserves: Capitalised revenues Revenue reserves: Appropriated out of the net profit as general reserves, and these are: o General reserve: to meet any future unknown liability the company may face o Specific reserve: specifically reserved money to meet certain liabilities

Marouane Mokhles

42 | P a g e

   

Cumulative: Profits may be accumulated in arrears if there is insufficient net profit Non-Cumulative : Profits are not accumulated. If there is not sufficient net profit, then no profit is acquired. Redeemable: The company has the right to redeem at a pre-set date & pre-set price Participative: is both a preference and ordinary share. Hence, its holder receives preference dividend first, then the ordinary dividend if present.

Debentures are long-term loans whose holders are not members of the company. Debentures holders receive a fixed rate of interest and are repaid before shareholders in a winding-up.

  

Debentures Long term loans Mortgage

However, they are at the disadvantage of payment of fixed annual interest for the durations due.





   

As an application of prudence, since depreciation is an expected loss in the value of a fixed asset, it should be provided for in order to avoid overstatement of fixed assets and the net profit in the financial statements As an application of matching, as we provide for depreciation in the period of its usage, in order to spread the cost of the fixed assets over its useful life.

Usage of Fixed assets Depletion Passage of time Release of new technology

As an application of consistency, as treatment of the asset should stay the same over its useful life in order to avoid misleading the users of the financial statements

As an application of prudence, expected profits should be ignored and expected losses should be provided for. Hence, we valuate the stock at the lowest price of cost or net realizable value, to ignore unrealized profits in the stock

Marouane Mokhles

43 | P a g e

  

To allow specialization of labour Division makes it easier to prepare accounts in the ledgers It makes it easier to refer to transactions

The cash book is a book of prime entry where transactions are recorded for the first time and a book of second entry as it takes the ledger’s T account format. So, it acts as both

Providing totals of discounts allowed and received to be posted to their accounts, which reduces the entries in the nominal ledger

   

Training junior accountants Avoiding over crowdedness of the cash books It provides more control over spending It helps to reduce entries in the cash book and nominal ledger

 

Provides totals of each expense to be posted to its expense accounts, reducing entries in the nominal ledger Provides better control over spending

   

To allow the division of work It makes control over debtors and creditors easier Reduces possibility of errors and fraud Easier reference by classifying similar accounts

1) 2) 3) 4) 5) 6) 7)

Re sum Dr and Cr columns Check side of each a/c balance Check no balance is omitted Check value of each balance Re total balances in ledger Check posting from journal Open a suspense account

 

To detect errors by checking the bank statement against the business’s books To inform the business of the account balance and the dishonoured cheques

Marouane Mokhles

44 | P a g e

   

Insufficient funds Unable to verify signature Amount in numbers is different than the amount in letters Cheque has expired

  

Detect Errors Detect fraud Useful in the preparation of financial statements

Sales Ledger Control:  Sales Journal  Sales Returns Journal  General Journal  Cash book

  

Purchase Ledger Control:  Purchases Journal  Purchases returns Journal  General Journal  Cash book

Overpayment of an account Return of goods after payment Payment in advance of goods

As control accounts check on the Purchases ledger and the Sales ledger, the prime entry books are used to avoid the mistakes that may have occurred in the purchases ledger or sales ledger

 

Trend analysis: To compare the ratios with those of previous periods to assess improvement Interfirm comparisons: To compare between similar businesses and assess performance

 

By increasing selling price By controlling the costs of sales by: o Finding cheaper suppliers o Buying in bulk to get trade discounts o Control expenses such as carriage inwards

Marouane Mokhles

45 | P a g e

  

By improving GP margin (ways mentioned above) By finding other sources of income By controlling other expenses



By improving net profit (ways mentioned above)

   

Obtain long term loans Sell excess fixed assets Introduce additional capital Reduce cash drawings

As keeping too much current assets can be a disadvantage, since keeping stock is risky and costly. Keeping Debtors increases the risk of bad debts, while keeping money in the bank means that the business isn’t developing/involved in investments. Keeping cash makes a business subject to theft, as well as the loss of profit they may have gained if the cash was invested.



Sell more stock through advertising and market research

   

Offer cash discounts Charge interests on late debts Send regular statements of accounts to debtors Fix a credit limit for each customer



Obtain long credit periods from suppliers

  

Increasing sales through selling more stock Advertising Market research

The difference between both is that the quick ratio ignores stock, as it can be quite difficult to convert to cash in the short term. Even if it can be sold within a reasonably short period of time, it will be a trade receivable (if sold on credit), and so there is an additional wait until the buyer pays the receivable. Consequently, the more reliable measure of short-term liquidity is the quick ratio.

Marouane Mokhles

46 | P a g e

       

Size of business; measured by the capital of the business Type of goods; depending on durability of the goods Structure of expenses; labour and capital intensive Accounting policies as depreciation methods Experience and goodwill of the business Market conditions Type of ownership Seasonal sale variations

As they will not be able to:    

Short term debts Running day to day expenses Benefit from discounts offered Buy stock when needed

  

It’s the equivalent to the capital in the non-for-profit organisations Assets – Liabilities = Accumulated funds Formed by the accumulation of surpluses over the years

    

Less risk of errors Less risk of fraud Financial position can be ascertained Easier to prepare financial statements Easier to calculate ratios

End of text. Good Luck ;) Marouane Mokhles

47 | P a g e