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AS Unit 1Introduction to Financial Accounting

1 What is financial accounting? 1

2 Double-entry book-keeping: first principles 1

3 Double-entry book-keeping: further transactions 3

4 Business documents 5

5 Balancing accounts the trial balance 7

6 Division of the ledger the use of subsidiary books 9

7 The main cash book 11

8 Bank reconciliation statements 12

9 Introduction to final accounts 14

10 The general journal and correction of errors 15

11 Control accounts 18

12 Adjustments to final accounts 19

AS Unit 2Financial and Management Accounting

13 Business organisations 21

14 Accounting concepts and inventory valuation 22

15 Further aspects of final accounts 23

16 Preparing sole trader final accounts 25

17 Financial statements of limited companies 28

18 Ratio analysis 31

19 Budgeting and budgetary control 34

20 The impact of computer technology in accounting 36

AS Accounting for AQAsecond edition

TUTOR SUPPORT MATERIAL:ANSWERS TO SELECTED QUESTIONS

Osborne Books Limited 2012

All answers are the responsibility of the publisher.

Published by Osborne Books Limited Tel 01905 748071Email [email protected]

1.2 Purposes of accounting:1. To quantify items such as sales, expenses and profit2. To present the accounts in a meaningful way so as to measure the success of the business3. To provide information to the owner of the business and to other stakeholders

1.3 documentsprocessing of source documents relating to accounting transactions

initial recording of transactionsrecording accounting transactions in subsidiary books (or books of prime entry)

double-entry accounts systemtransfer from subsidiary books into the double-entry book-keeping system of accounts in the ledger

trial balanceextraction of figures from all the double-entry accounts to check their accuracy

final accountsproduction of an income statement and a balance sheet

Information from the accounting system includes: purchases of goods for resale to date assets owned turnover (cash and credit sales) to date liabilities owed overheads and expenses to date profit during a particular period trade receivables total amount owed to the business, and individual trade receivables trade payables total amount owed by the business, and individual trade payables

1.4 Other stakeholders any four from providers of finance, eg the bank manager if the business wants to borrow from the bank suppliers, who wish to assess the likelihood of receiving payment from the business customers, who wish to ensure that the business has the financial strength to continue selling the

goods and services that they buy employees and trade unions, who wish to check on the financial prospects of the business the tax authorities, who will wish to see that tax due by the business on profits and for Value Added

Tax has been paid competitors, who wish to assess the profitability of the business potential investors in the business the local community and national interest groups, who may be seeking to influence business policy government and official bodies, eg Companies House who need to see the final accounts of limited

companies

1.5 (a) Business entity the accounts record and report on the financial transactions of a particularbusiness, and not the owner's personal financial transactions.

(b) Money measurement the accounting system uses money as the common denominator in recordingand reporting all business transactions; thus the loyalty of a firm's workforce or the quality of a productcannot be recorded because these cannot be reported in money terms.

1.6 assets items owned by a business; liabilities items owed by a business trade receivables individuals or businesses who owe money in respect of goods or services supplied

by the business; trade payables individuals or businesses to whom money is owed by the business purchases goods bought, whether on credit or for cash, which are intended to be resold later; sales

the sale of goods, whether on credit or for cash, in which the business trades credit purchases goods bought, with payment to be made at a later date; cash purchases goods

bought, with immediate payment made in cash, by cheque, debit card, credit card, or bank transfer

1.7 asset of bank increases by 8,000capital increases by 8,000asset 8,000 liability 0 = capital 8,000

asset of computer increases by 4,000asset of bank decreases by 4,000asset 8,000 liability 0 = capital 8,000

asset of bank increases by 3,000liability of loan increases by 3,000asset 11,000 liability 3,000 = capital 8,000

asset of van increases by 6,000asset of bank decreases by 6,000asset 11,000 liability 3,000 = capital 8,000

2.1 Dr Capital Account Cr20-1 20-1

1 Feb Bank 7,500

Dr Computer Account Cr20-1 20-1 6 Feb Bank 2,000

Dr Rent Paid Account Cr20-1 20-1 8 Feb Bank 750

Dr Wages Account Cr20-1 20-1 12 Feb Bank 42525 Feb Bank 380

Dr Bank Loan Account Cr20-1 20-1

14 Feb Bank 2,500

Dr Commission Income Account Cr20-1 20-1

20 Feb Bank 145

Dr Drawings Account Cr20-1 20-1 23 Feb Bank 200

1

CHAPTER 1 What is financial accounting?

CHAPTER 2 Double-entry book-keeping: first principles

Dr Van Account Cr20-1 20-1 28 Feb Bank 6,000

2.3 Dr Bank Account Cr20-5 20-5

1 Aug Capital 5,000 3 Aug Computer 1,80015 Aug S Orton: loan 1,000 7 Aug Rent paid 10020 Aug Office fittings 250 12 Aug Office fittings 2,00025 Aug Commission received 150 27 Aug S Orton: loan 150

Dr Capital Account Cr20-5 20-5

1 Aug Bank 5,000

Dr Computer Account Cr20-5 20-5

3 Aug Bank 1,800

Dr Rent Paid Account Cr20-5 20-5

7 Aug Bank 100


10 Aug Cash 20025 Aug Bank 150

Dr Cash Account Cr20-5 20-5 10 Aug Commission received 200 17 Aug Drawings 100

Dr Office Fittings Account Cr20-5 20-5 12 Aug Bank 2,000 20 Aug Bank 250

Dr Sally Orton: Loan Account Cr20-5 20-5 27 Aug Bank 150 15 Aug Bank 1,000

Dr Drawings Account Cr20-5 20-5 17 Aug Cash 100


1 Nov Capital 75,000 3 Nov Photocopier 2,5007 Nov Bank loan 70,000 10 Nov Office premises 130,000

23 Nov Cash 100 12 Nov Business rates 3,00025 Nov Office fittings 200 14 Nov Office fittings 1,50028 Nov Commission received 200 20 Nov Wages 250


1 Nov Bank 75,000

Dr Photocopier Account Cr20-7 20-7

3 Nov Bank 2,500

Dr Bank Loan Account Cr20-7 20-7

7 Nov Bank 70,000

Dr Office Premises Account Cr20-7 20-7 10 Nov Bank 130,000

Dr Rates Account Cr20-7 20-7 12 Nov Bank 3,000

Dr Office Fittings Account Cr20-7 20-7 14 Nov Bank 1,500 25 Nov Bank 200

Dr Cash Account Cr20-7 20-7 15 Nov Commission received 300 18 Nov Drawings 125

23 Nov Bank 100


15 Nov Cash 30028 Nov Bank 200

Dr Drawings Account Cr20-7 20-7 18 Nov Cash 125

Dr Wages Account Cr20-7 20-7 20 Nov Bank 250

2

2.6 Bank Account 20-7 Debit Credit Balance

1 Nov Capital 75,000 75,000 Dr3 Nov Photocopier 2,500 72,500 Dr7 Nov Bank loan 70,000 142,500 Dr

10 Nov Office premises 130,000 12,500 Dr12 Nov Rates 3,000 9,500 Dr14 Nov Office fittings 1,500 8,000 Dr20 Nov Wages 250 7,750 Dr23 Nov Cash 100 7,850 Dr25 Nov Office fittings 200 8,050 Dr28 Nov Commission received 200 8,250 Dr

2.7 Guidance to the trainee to include: the use of accounts to record different types of transactions the principles of double-entry book-keeping whereby one account is debited and one account is

credited for every business transaction the debit entry is made in the account which gains value, or records an asset, or an expense the credit entry is made in the account which gives value, or records a liability, or an income item examples can be given using bank account where money in is recorded on the debit side, and money

out is recorded on the credit side an explanation of various accounts including

capital the amount of money invested in the business by the owner non-current assets items purchased by a business for use on a long-term basis (noting the

distinction between capital expenditure and revenue expenditure) expenses the day-to-day running expenses (revenue expenditure) of the business income amounts of income received by the business owners drawings where the owner takes money in cash or by cheque (or sometimes goods)

from the business for personal use loans where a business receives a loan, eg from a relative or the bank


1 Oct Capital 2,500 2 Oct Purchases 2004 Oct Sales 150 6 Oct Purchases 908 Oct Sales 125 14 Oct Purchases 250

12 Oct K Smithson: loan 2,000 22 Oct Delivery van 4,00018 Oct Sales 155 25 Oct Wages 37530 Oct Sales 110


1 Oct Bank 2,500

Dr Purchases Account Cr20-2 20-2

2 Oct Bank 2006 Oct Bank 90

14 Oct Bank 250

Dr Sales Account Cr20-2 20-2



Dr J Smithson: Loan Account Cr20-2 20-2

12 Oct Bank 2,000

Dr Delivery Van Account Cr20-2 20-2 22 Oct Bank 4,000

Dr Wages Account Cr20-2 20-2 25 Oct Bank 375

3.5 Dr Purchases Account Cr20-2 20-2

2 Apr Wyvern Producers Ltd 2004 Apr A Larsen 250

Dr Wyvern Producers Ltd Cr20-2 20-2

9 Apr Purchases returns 50 2 Apr Purchases 20020 Apr Bank 150

Dr A Larsen Cr20-2 20-2 26 Apr Purchases returns 45 4 Apr Purchases 250


5 Apr Pershore Patisserie 1507 Apr Bank 175

12 Apr Bank 11028 Apr Cash 100

Dr Pershore Patisserie Cr20-2 20-2

5 Apr Sales 150 15 Apr Sales returns 2522 Apr Bank 125

Dr Bank Account Cr20-2 20-2

7 Apr Sales 175 20 Apr Wyvern Producers Ltd 15012 Apr Sales 110 30 Apr Amery Scales Ltd 25022 Apr Pershore Patisserie 125

Dr Purchases Returns Account Cr20-2 20-2

9 Apr Wyvern Producers Ltd 5026 Apr A Larsen 45

3

CHAPTER 3 Double-entry book-keeping: further transactions

Dr Sales Returns Account Cr20-2 20-2 15 Apr Pershore Patisserie 25

Dr Weighing Machine Account Cr20-2 20-2 17 Apr Amery Scales Ltd 250

Dr Amery Scales Ltd Cr20-2 20-2 30 Apr Bank 250 17 Apr Weighing machine 250

Dr Cash Account Cr20-2 20-2 28 Apr Sales 100 29 Apr Wages 90

Dr Wages Account Cr20-2 20-2 29 Apr Cash 90


2 Jun Designs Ltd 3507 Jun Mercia Knitwear Ltd 400

23 Jun Designs Ltd 285

Dr Designs Ltd Cr20-3 20-3

6 Jun Purchases returns 100 2 Jun Purchases 35018 Jun Bank 250 23 Jun Purchases 285


4 Jun Bank 2205 Jun Cash 115

10 Jun Wyvern Trade Supplies 35012 Jun Bank 17520 Jun Cash 180

Dr Bank Account Cr20-3 20-3

4 Jun Sales 220 18 Jun Designs Ltd 25012 Jun Sales 17528 Jun Wyvern Trade Supplies 300

Dr Cash Account Cr20-3 20-3

5 Jun Sales 115 26 Jun Rent paid 12520 Jun Sales 180


6 Jun Designs Ltd 10017 Jun Mercia Knitwear Ltd 80

Dr Mercia Knitwear Ltd Cr20-3 20-3 17 Jun Purchases returns 80 7 Jun Purchases 400

Dr Wyvern Trade Supplies Cr20-3 20-3 10 Jun Sales 350 15 Jun Sales returns 50

28 Jun Bank 300

Dr Sales Returns Account Cr20-3 20-3 15 Jun Wyvern Trade Supplies 50

Dr Rent Paid Account Cr20-3 20-3 26 Jun Cash 125

3.7 Transaction Account debited Account credited(a) purchases bank(b) bank sales(c) purchases Teme Traders(d) L Harris sales(e) Teme Traders purchases returns(f) sales returns L Harris(g) bank D Perkins: loan(h) cash bank

3.8 Answers to the trainee: Separate accounts for purchases and sales enable the business to know the amount of goods bought

and sold. A combined account for goods would not provide this information so readily. Purchases and sales accounts follow the principles of book-keeping in that the debit side of purchases

account gains value when the business buys goods for resale, while the credit side of sales accountgives value when the business sells goods.

The purchase of a new delivery van for use in the business is the purchase of a non-current asset,which will be used on a long-term basis. As such the purchase of the van which is an example ofcapital expenditure is entered on the debit side of van account.

Purchases returns (or returns out) is where we return goods to a trade payable (supplier). The returnstransaction is recorded the opposite way round to a purchases transaction.Sales returns (or returns in) is where a trade receivable (customer) returns goods to us. Thetransaction is recorded the opposite way round to a sales transaction.

Carriage inwards and carriage outwards are kept in separate accounts because they representdifferent transactions. Carriage inwards is where we pay the carriage cost of goods purchased to havethem delivered to us. Carriage outwards is where we pay the carriage charge for goods we have sold,that is we have sold the goods to our customers as delivery free.

4

4.2

Excel Fashions will pay 480.18 (492.50 x 97.5%, rounded down) for settlement in full within 14 days.

4.3

The Card Shop will pay 185.25 (190.00 x 97.5%) for settlement in full within 14 days.

5

invoice to

deliver to

invoice no 2451account your reference

date todayas above

product description quantity unit unit total trade net code price discount %

Dresses 5 30.00 each 150.00 0.00 150.00 Suits 3 45.50 each 136.50 0.00 136.50 Coats 4 51.50 each 206.00 0.00 206.00

terms2.5% cash discount for full settlementwithin 14 daysNet 30 days

Excel Fashions49 Highland StreetLongtonMercia LT3 2XL

INVOICE

JANE SMITH, FASHION WHOLESALERUnit 21, Eastern Industrial Estate, Wyvern, Wyvernshire, WY1 3XJ

TOTAL 492.50

invoice to

deliver to

invoice no 8234account your reference

date todayas above


Assorted rubbers 5 5.00 box 25.00 0.00 25.00 Shorthand notebooks 100 4.00 10 40.00 0.00 40.00 Ring Binders 250 0.50 each 125.00 0.00 125.00

terms2.5% cash discount for full settlementwithin 14 daysNet 30 days

The Card Shop126 The CornbowTeamington SpaWyvernshire WY33 0EG

INVOICE

DEANSWAY TRADING COMPANYThe Model Office, Deansway, Rowcester, RW1 2EJ

TOTAL 190.00

CHAPTER 4 Business documents


2 Feb G Lewis 20016 Feb G Lewis 160


4 Feb L Jarvis 1507 Feb G Patel 240

Dr G Lewis Cr20-4 20-4 10 Feb Bank 190 2 Feb Purchases 20010 Feb Discount received 10 16 Feb Purchases 16024 Feb Bank 15224 Feb Discount received 8

360 360

Dr L Jarvis Cr20-4 20-4

4 Feb Sales 150 12 Feb Bank 14712 Feb Discount allowed 3

150 150

Dr G Patel Cr20-4 20-4

7 Feb Sales 240 20 Feb Bank 23420 Feb Discount allowed 6

240 240

Dr Bank Account Cr20-4 20-4 12 Feb L Jarvis 147 10 Feb G Lewis 19020 Feb G Patel 234 24 Feb G Lewis 152

Dr Discount Received Account Cr20-4 20-4

10 Feb G Lewis 1024 Feb G Lewis 8

Dr Discount Allowed Account Cr20-4 20-4 12 Feb L Jarvis 320 Feb G Patel 6

4.5 (a)

(b) Trade discount is given, if prearranged: to businesses, often in the same trade (but not to the general public) for buying in bulk (this discount is also known as bulk discount) by wholesalers, as a discount off list price to retailersCash discount (also known as settlement discount) is given, for prompt payment, if prearranged, andindicated on the invoice

(c) Fashion Shop will pay 748.12 (787.50 x 95%, rounded down) for settlement in full within 7 days.

4.7 (a) A source document is used to update the book-keeping records.

(b) (i) An invoice is a source document prepared by the seller and states the value of goods sold and,hence, the amount to be paid by the buyer.

(ii) A credit note is a source document which shows that the buyer is entitled to a reduction in theamount charged by the seller; it is used if:

some of the goods delivered were faulty, or incorrectly supplied

the price charged on the invoice was too high

(c) Any three from: cheque counterfoils paying-in slip counterfoils cash receipts till rolls information from bank statements, such as standing orders, direct debits, BACS, credit transfers,

bank charges

6


45B Trend tops (black) 30 12.50 each 375.00 10 337.50

35W Trend trousers (white) 20 25.00 each 500.00 10 450.00

terms5% cash discount for full settlement within 7 daysNet 30 days

TOTAL 787.50

5.1 (a) and (c) Dr Bank Account Cr20-9 20-9

1 Jan Capital 10,000 4 Jan Rent paid 50011 Jan Sales 1,000 5 Jan Shop fittings 1,50012 Jan Sales 1,250 20 Jan Comp Supplies Ltd 5,00022 Jan Sales 1,450 31 Jan Balance c/d 6,700

13,700 13,7001 Feb Balance b/d 6,700 2 Feb Rent paid 5004 Feb Sales 1,550 15 Feb Shop fittings 850

10 Feb Sales 1,300 27 Feb Comp Supplies Ltd 6,35012 Feb Rowcester College 750 28 Feb Balance c/d 5,30019 Feb Sales 1,60025 Feb Sales 1,100

13,000 13,0001 Mar Balance b/d 5,300


1 Jan Bank 10,000

Dr Rent Paid Account Cr20-9 20-9

4 Jan Bank 500 28 Feb Balance c/d 1,0002 Feb Bank 500

1,000 1,0001 Mar Balance b/d 1,000

Dr Shop Fittings Account Cr20-9 20-9

5 Jan Bank 1,500 28 Feb Balance c/d 2,35015 Feb Bank 850

2,350 2,3501 Mar Balance b/d 2,350

Dr Purchases Account Cr 20-9 20-9

7 Jan Comp Supplies Ltd 5,000 31 Jan Balance c/d 11,50025 Jan Comp Supplies Ltd 6,500

11,500 11,500

1 Feb Balance b/d 11,500 28 Feb Balance c/d 17,00024 Feb Comp Supplies Ltd 5,500

17,000 17,0001 Mar Balance b/d 17,000

7

CHAPTER 5 Balancing accounts the trial balance4.8 (a) 5 computer desks were ordered (not 10 as shown on the invoice) 10 office chairs were ordered (not 5 as shown on the invoice) the unit price of the computer desks is 65.00 each (not 70.00 as shown on the invoice) the net amount for computer desks is 292.50 (not 350.00 as shown on the invoice) the net amount for office chairs is 180.00 (not 20.00 as shown on the invoice) the invoice total is 472.50 (not 370.00 as shown on the invoice)

(b)

(c) Wyvern Products Limited will pay 448.87 (472.50 x 95%) for settlement in full within 14 days.

(b) Trial balance as at 31 January 20-9Dr Cr

Name of Account Bank 6,700Capital 10,000Rent paid 500Shop fittings 1,500Purchases 11,500Comp Supplies Limited 6,500Sales 4,550Rowcester College 750Sales returns 100

21,050 21,050

(d) Trial balance as at 28 February 20-9Dr Cr

Name of Account Bank 5,300Capital 10,000Rent paid 1,000Shop fittings 2,350Purchases 17,000Comp Supplies Limited 5,500Sales 11,150Rowcester College 1,050Sales returns 100Purchases returns 150

26,800 26,800

5.2 Trial balance of Jane Greenwell as at 28 February 20-1Dr Cr

Name of accountBank 1,250Purchases 850Cash 48Sales 730Purchases returns 144Trade payables 1,442Equipment 2,704Van 3,200Sales returns 90Trade receivables 1,174Wages 1,500Capital (missing figure) 6,000

9,566 9,566

8

Dr Comp Supplies Limited Cr20-9 20-9 20 Jan Bank 5,000 7 Jan Purchases 5,00031 Jan Balance c/d 6,500 25 Jan Purchases 6,500

11,500 11,5005 Feb Purchases returns 150 1 Feb Balance b/d 6,500

27 Feb Bank 6,350 24 Feb Purchases 5,50028 Feb Balance c/d 5,500

12,000 12,0001 Mar Balance b/d 5,500

Dr Sales Account Cr20-9 20-9 31 Jan Balance c/d 4,550 11 Jan Bank 1,000

12 Jan Bank 1,25016 Jan Rowcester College 85022 Jan Bank 1,450

4,550 4,55028 Feb Balance c/d 11,150 1 Feb Balance b/d 4,550

4 Feb Bank 1,55010 Feb Bank 1,30019 Feb Bank 1,60025 Feb Bank 1,10026 Feb Rowcester College 1,050

11,150 11,1501 Mar Balance b/d 11,150

Dr Rowcester College Cr20-9 20-9 16 Jan Sales 850 27 Jan Sales returns 100

31 Jan Balance c/d 750850 850

1 Feb Balance b/d 750 12 Feb Bank 75026 Feb Sales 1,050 28 Feb Balance c/d 1,050

1,800 1,8001 Mar Balance b/d 1,050

Dr Sales Returns Account Cr20-9 20-9 27 Jan Rowcester College 100


5 Feb Comp Supplies Ltd 150

PURCHASES LEDGER

Dr Softseat Ltd Cr20-2 20-2

1 Feb Purchases 32019 Feb Purchases 160

Dr PRK Ltd Cr20-2 20-2

2 Feb Purchases 80

Dr Quality Furnishings Cr20-2 20-2

15 Feb Purchases 160

SALES LEDGER

Dr High Street Stores Cr20-2 20-2

8 Feb Sales 44025 Feb Sales 200

Dr Peter Lounds Ltd Cr20-2 20-2 14 Feb Sales 120

Dr Carpminster College Cr20-2 20-2 18 Feb Sales 320

GENERAL LEDGER

Dr Purchases Account Cr20-2 20-2 28 Feb Purchases Day Book 720


28 Feb Sales Day Book 1,080

9

5.5 Four from: Error of omission

Business transaction completely omitted from the accounting records. For example, cash sale omittedfrom both cash account and sales account.

Reversal of entriesDebit and credit entries on the wrong side of the two accounts concerned. For example, cash saleentered wrongly as debit sales account, credit cash account.

Mispost/error of commissionTransaction entered to the wrong person's account. For example, a sale of goods on credit to A THughes has been entered as debit A J Hughes' account, credit sales account.

Error of principleTransaction entered in the wrong type of account. For example, cost of petrol for vehicles has beenentered as debit motor vehicles account, credit bank account.

Error of original entry (or transcription)Amount entered incorrectly in both accounts. For example, sale of 45 entered in both sales accountand the trade receivable's account as 54.

Compensating errorTwo errors cancel each other out. For example, balance of purchases account calculated wrongly at10 too much, compensated by the same error in sales account.

6.2 (a) Purchases Day BookDate Details Invoice Reference Amount 20-2

1 Feb Softseat Ltd 961 3202 Feb PRK Ltd 068 80

15 Feb Quality Furnishings 529 16019 Feb Softseat Ltd 984 160

28 Feb Total for month 720

Sales Day Book

Date Details Invoice Reference Amount 20-2

8 Feb High Street Stores 001 44014 Feb Peter Lounds Ltd 002 12018 Feb Carpminster College 003 32025 Feb High Street Stores 004 200

28 Feb Total for month 1,080

CHAPTER 6 Division of the ledger the use of subsidiary books

GENERAL LEDGER

Dr Purchases Account Cr20-2 20-2 31 May Purchases Day Book 1,118.00


31 May Purchases Day Book 108.00

6.5 (a)

10

product quantity details unit price unit total amount code

X24 96 Trend tops 8.50 each each 816.00

Y36 20 Jeans 15 each each 300.00

1,116.00

trade discount 20% 223.20

total 892.80

terms5% cash discount for full settlement within 7 daysNet 30 days

6.3 (a) Purchases Day Book

Date Details Invoice Reference Amount20-2

2 May M Roper & Sons 562 PL 302 1904 May Wyper Ltd 82 PL 301 200

10 May Wyper Ltd 86 PL 301 21018 May M Roper & Sons 580 PL 302 18021 May Wyper Ltd 91 PL 301 24025 May M Roper & Sons 589 PL 302 9831 May Total for month 1,118.00

Purchases Returns Day Book

Date Details Credit Reference Amount Note

20-2 18 May M Roper & Sons 82 PL 302 3023 May Wyper Ltd 6 PL 301 4028 May M Roper & Sons 84 PL 302 3831 May Total for month 108

(b) and (c)PURCHASES LEDGER

Dr Wyper Ltd (account no 301) Cr20-2 20-2 23 May Purchases Returns 40 1 May Balance b/d 10031 May Balance c/d 710 4 May Purchases 200

10 May Purchases 21021 May Purchases 240

750 750

1 Jun Balance b/d 710

Dr M Roper & Sons (account no 302) Cr20-2 20-2 18 May Purchases Returns 30 1 May Balance b/d 8528 May Purchases Returns 38 2 May Purchases 19031 May Balance c/d 485 18 May Purchases 180

25 May Purchases 98553 553


7.3Dr Cash Book CrDate Details Ref Disc Cash Bank Date Details Ref Disc Cash Bank

allwd recd20-7 20-7

1 Aug Balances b/d 276 4,928 5 Aug T Hall Ltd 24 5411 Aug Wild & Sons Ltd 398 8 Aug Wages 254

11 Aug Bank C 500 11 Aug Cash C 50012 Aug A Lewis Ltd 20 1,755 18 Aug F Jarvis 45721 Aug Harvey & Sons Ltd 261 22 Aug Wages 43629 Aug Wild & Sons Ltd 15 595 25 Aug J Jones 33 62829 Aug Bank C 275 27 Aug Salaries 2,043

28 Aug Telephone 27629 Aug Cash C 27531 Aug Balances c/d 361 3,217

35 1,051 7,937 57 1,051 7,9371 Sep Balances b/d 361 3,217

7.4

Dr Cash Book CrDate Details Ref Discount Cash Bank Date Details Ref Discount Cash Bank

allowed received20-5 20-5

1 Mar Balances b/d 106 3,214 2 Mar Rent 10674 2503 Mar Sales* 100 950 5 Mar Cleaning expenses 358 Mar Sales 1,680 9 Mar Purchases 10675 1,200

11 Mar Bank C 150 11 Mar Cash 10676 C 15013 Mar Sales 1,800 16 Mar Postages 5022 Mar Bank C 150 18 Mar Telephone 10677 16825 Mar Sales 2,108 20 Mar Stationery 12829 Mar Sales* 200 2,000 22 Mar Cash 10678 C 15031 Mar Hobbs Ltd 30 720 26 Mar Misc expenses 7031 Mar Pratley & Co 50 1,160 27 Mar Wages 10679 2,000

30 Mar Electricity 10680 10631 Mar Evans & Co 10681 45 85531 Mar A Bennett 10682 26 49431 Mar Balances c/d 423 8,259

80 706 13,632 71 706 13,6321 Apr Balances b/d 423 8,259

* An alternative way of showing the transactions of 3 March and 29 March is to record the full amount of sales in the debitcash column, and then to show the amount banked as a separate transfer, ie debit bank, credit cash.

11

CHAPTER 7 The main cash book(b) (i) Purchases day book(ii) Sales day book

(c) (i) Trade discount: given for bulk buying (also known as bulk discount), or for being in the trade, or for regular

customers deducted from the invoice before entry in the books usually a larger percentage than cash discount

(ii) Cash discount (also known as settlement discount): given for prompt payment not deducted until account is paid can be disallowed if terms are not met usually a smaller percentage than trade discount

6.8

Source Subsidiary Account to Account to

Document Book be debited be credited

Invoice for goods sold on Sales day book V Singh Sales

credit to V Singh

(a) Invoice received for

goods bought on credit Purchases day Purchases Okaro Limited

from Okara Limited book

(b) Credit note issued to Sales returns Sales returns S Johnson

S Johnson day book

(c) Credit note received Purchases returns Roper & Purchases

from Roper & Company day book Company returns

8.2 (a)Dr Cash Book (bank columns) Cr20-7 p 20-7 p

1 Jan Balance b/d 415.15 23 Jan Direct debit: Omni Finance 207.9513 Jan BACS credit: T K Supplies 716.50 31 Jan Balance c/d 923.70

1,131.65 1,131.651 Feb Balance b/d 923.70

(b) P GERRARDBANK RECONCILIATION STATEMENT AS AT 31 JANUARY 20-7

Balance at bank as per cash book 923.70Add: unpresented cheques

Bryant & Sons cheque no. 001354 312.00P Reid cheque no. 001355 176.50

488.501,412.20

Less: outstanding lodgementG Shotton Limited 335.75

Balance at bank as per cash book 1,076.45

8.3 (a)Dr Cash Book (bank columns) Cr20-7 20-7

1 May Balance b/d 300 2 May P Stone 867714 287 May Cash 162 14 May Alpha Ltd 867715 50

16 May C Brewster 89 29 May E Deakin 867716 11023 May Cash 60 16 May Standing order: A-Z Insurance 2530 May Cash 40 31 May Bank charges 10

31 May Balance c/d 428651 651


(b) JANE DOYLEBANK RECONCILIATION STATEMENT AS AT 31 MAY 20-7

Balance at bank as per cash book 428Add: unpresented cheque

E Deakin cheque no. 867716 110538

Less: outstanding lodgementcash banked 40

Balance at bank as per bank statement 498

12

CHAPTER 8 Bank reconciliation statements7.6 (i) Standing orderMoney paid out of the bank directly, at regular intervals, on the businesss order.Usually for the same fixed amount for goods and services suppliedDR Supplier/Trade payable CR Bank

(ii) Credit transfer for payment by a customerAmounts paid directly into the bank by a trade receivable, who has the necessarybank code information.DR Bank CR Customer/Trade receivable

7.8 (a) and (b)

Dr Cash Book Cr

Date Details Disc Cash Bank Date Details Disc Cash Bank20-6 20-6

1 Jan Balance b/d 50 1 Jan Balance b/d 1,236

6 Jan R Reed 567 2 Jan Bilton Office Supplies 3 164

13 Jan B Brown 4 366 11 Jan Rent 450

14 Jan Sales 752 27 Jan Wages 75

28 Jan Sales 642 20 Jan British Gas S/O 200

24 Jan C Denton & Co Ltd C/T 248 21 Jan Bank interest 28

31 Jan Cash C 1,319 31 Jan Bank C 1,319

31 Jan Balances c/d 50 422

4 1,444 2,500 3 1,444 2,500

1 Feb Balance b/d 50 422

(c)

Dr Discounts Allowed Account Cr20-6 20-6 31 Jan Cash book 4

Dr Discounts Received Account Cr20-6 20-6

31 Jan Cash book 3

8.7 (a)

Dr Cash Book Cr

Date Details Bank Date Details Cheque Bank2003 p 2003 number p

1 Nov Balance b/d 2,459.35 1 Nov Banks Ltd 11346 134.37

3 Nov Toys for You 234.00 1 Nov Books & Paints 11347 276.89

5 Nov B J Patel 3,219.00 10 Nov Wages 11348 92.50

5 Nov Dolls and Things 1,142.00 12 Nov Jones and Son 11349 3,781.95

23 Nov J A Smith Ltd 560.00 23 Nov Smith and Son 11350 139.43

26 Nov Cash banked 340.00 25 Nov HGF Finance 11351 256.00

25 Nov Toy Designs 11352 1,245.98

30 Nov Balance c/d 2,027.23

7,954.35 7,954.35

30 Nov Balance b/d 2,027.23 12 Nov Business rates S/O 547.90

9 Nov J Black Ltd C/T 246.98 18 Nov Proper Ins Co S/O 145.65

23 Nov Bank charges 45.89

30 Nov Balance c/d 1,534.77

2,274.21 2,274.21

1 Dec Balance b/d 1,534.77

(b) JAMES JOLLY AND COBANK RECONCILIATION STATEMENT AS AT 30 NOVEMBER 2003

Balance at bank as per cash book 1,534.77Add: unpresented cheques

HGF Finance 11351 256.00Toy Designs 11352 1,245.98

1,501.983,036.75

Less: outstanding lodgementcash banked 340.00

Balance at bank as per bank statement 2,696.75

13

8.5 (a) (i) Standing ordersCreditRegular payments of the same amount made directly from the bank on behalf of the companyon the order of the company.

(ii) Direct debitsCreditPayments made from the bank for the customer collected by the payee on the order of thecustomer usually for changing amounts.

(iii) Credit transfersDebit or CreditReceipts from customers paid directly into the bank of the payee. Payments to suppliers orwages into the bank of the payee.

(b)

Dr Cash Book Bank Account Cr

Credit transfer 540 Balance b/d 378Balance c/d 534 Standing order 230

Direct debit 420Bank charges 46

1,074 1,074

Balance b/d 534

(c) A SMITH AND COBANK RECONCILIATION STATEMENT AS AT 31 MARCH 2001

Balance at bank as per cash book (534)Add: unpresented cheques 469

(65)Less: outstanding lodgement (uncleared bankings) 270

cheque query 265535

Balance at bank as per bank statement (600)

Tutorial note: brackets indicate an overdraft

9.7 (a) (i) R MASTERSINCOME STATEMENT FOR THE YEAR ENDED 31 MARCH 2002

Gross profit 56,231Add Discount received 350

56,581Less expenses:Wages 23,980Carriage outwards 3,600Motor expenses 4,500Bank charges 450

32,530Profit for the year 24,051

(ii)Dr Capital Account Cr2002 Details 2002 Details

31 Mar Drawings 12,500 31 Mar Balance b/d 36,79031 Mar Balance c/d 48,341 31 Mar Profit for the year 24,051

60,841 60,841

1 Apr Balance b/d 48,341

(b) Two from: increased by profit more capital introduced reduced by losses reduced by drawings

9.9 (a) Dr Sales Account Cr2001 Details p 2001 Details p

1 Dec Balance b/d 16,493.2731 Dec Monthly total 4,560.30

Dr Returns Inwards Account Cr2001 Details p 2001 Details p

1 Dec Balance b/d 1,269.4331 Dec Monthly total 236.91

Dr Purchases Account Cr2001 Details p 2001 Details p

1 Dec Balance b/d 10,276.4131 Dec Monthly total 2,769.56

Dr Returns Outwards Account Cr2001 Details p 2001 Details p

1 Dec Balance b/d 1,039.4131 Dec Monthly total 127.50

14

9.2

9.5 CLARE LEWISINCOME STATEMENT FOR THE YEAR ENDED 31 DECEMBER 20-4

Revenue 144,810Opening inventory 16,010Purchases 96,318

112,328Less Closing inventory 13,735Cost of sales 98,593Gross profit 46,217Less expenses:Salaries 18,465Heating and lighting 1,820Rent and rates 5,647Sundry expenses 845Vehicle expenses 1,684


BALANCE SHEET AS AT 31 DECEMBER 20-4

Non-current AssetsVehicles 9,820Office equipment 5,500

15,320Current AssetsInventory 13,735Trade receivables 18,600

32,335Less Current LiabilitiesTrade payables 12,140Bank overdraft 5,820

17,960Net Current Assets or Working Capital 14,375NET ASSETS 29,695

FINANCED BYCapitalOpening capital 25,250Add Profit for the year 17,756

43,006Less Drawings 13,311

29,695

CHAPTER 9 Introduction to final accounts

FINAL ACCOUNTS

TRIAL BALANCE INCOME BALANCE SHEETSTATEMENT

Debit Credit Debit Credit Debit Credit(a) Salaries(b) Purchases(c) Trade receivables(d) Sales returns(e) Discount received(f) Vehicle(g) Capital

3. Telephone bill due to be paid in one months timeSection: Current liabilitiesReason: Short-term liability

an amount owed by the business which needs to be paid within the next 12 months

Tutorial note: the accounting treatment for a bill which has not been paid at the balance sheetdate called an accrual of expenses is covered in detail in Chapter 12

4. Drawings for the yearSection: Capital/Financed by/Represented byReason: It is cash or goods taken out of the business by the owner,

therefore it reduces the capital invested in the business.

10.2 (a)

Date Details Reference Dr Cr20-8 31 Dec Inventory GL 22,600

Income statement GL 22,600Inventory valuation at 31 December 20-8transferred to income statement

(b)

Date Details Reference Dr Cr20-8 31 Dec Income statement GL 890

Telephone expenses GL 890Transfer to income statementof expenditure for the year

(c)

Date Details Reference Dr Cr20-8 31 Dec Drawings GL 200

Motoring expenses GL 200Transfer of private motoring todrawings account

15

CHAPTER 10 The general journal and correction of errors

(b) AMARYLLIS TRADINGINCOME STATEMENT FOR THE THREE MONTHS ENDED 31 DECEMBER 2001

Revenue 21,053.57Less Returns inwards 1,506.34

19,547.23Less Cost of sales:Opening inventory 2,560.87Add Purchases 13,045.97Less Returns out 1,166.91

11,879.06Add Carriage in 871.26

15,311.19Less Closing inventory 2,640.96

12,670.23Gross profit 6,877.00

(c) (i) Cost of sales 12,670.23(ii) Goods available for sale 15,311.19(iii) Net revenue 19,547.23

9.10 MEMORANDUM

Date TodayTo Mary Arbuthnot, proprietor of Marys Doll ShopFrom Financial Accounting StudentSubject Balance sheet queries

1. Cost of new delivery vanSection: Non-current assetsReason: An asset purchased for use in the business

not for resale used over a long period/more than one year will help generate profits will depreciate with use is a tangible asset

2. Inventory of dolls for resaleSection: Current assetsReason: An asset remaining in the business for the short-term

less than one year the business is expected to sell them shortly

continued

(c) error of principle

Date Details Reference Dr Cr

Delivery van GL 10,000Vehicle expenses GL 10,000

Correction of error vehicle no ............invoice no ...............

(d) reversal of entries


Postages GL 55Bank GL 55Postages GL 55Bank GL 55

110 110Correction of reversal of entrieson ...................

(e) compensating error


Purchases GL 100Purchases returns GL 100

Correction of under-cast on purchasesaccount and purchases returns accounton .......(date).......

(f) error of original entry


L Johnson SL 98Bank GL 98Bank GL 89L Johnson SL 89

187 187Correction of error cheque for 89received on ....(date)....

16

(d)

Date Details Reference Dr Cr20-8 31 Dec Drawings GL 175

Purchases GL 175Goods taken for own useby the owner

(e)

Date Details Reference Dr Cr20-8 31 Dec Bad debts written off GL 125

N Marshall SL 125

Account of NMarshall written off as a bad debt - see memo dated ...................

10.4 (a) error of omission


J Rigby SL 150Sales GL 150

Sales invoice no ............. omitted fromthe accounts.

(b) mispost/error of commission


H Price Limited PL 125H Prince PL 125

Correction of mispost cheque no .....:to H Price Limited

(c)Error Yes No

An error of principle has occurred. 3

The sales account has been totalled incorrectly. 3

An invoice has been completely omitted from the books. 3

A cheque has been debited in the cash book as 150but credited in the customers account as 105. 3

10.10 (a)Dr Suspense Account CrDate Details Date Details 2004 2004

30 Apr Balance per T/B 450 30 Apr Sales 20030 Apr Rent paid 250

450 450

Tutorial notes: Error (2) is an error of original entry which affects both the debit and credit side of the trial balance by

the same amount, and will not be revealed by the trial balance. Such an error is not entered in thesuspense account.

Error (3) has been entered in the suspense account, above, as the net amount of 250(ie 650 400); as an alternative, it could have been entered as debit 400 (to take out the old amount in rent paid account) credit 650 (to enter the correct amount in rent paid account)

(b) Error of commission (or mispost): example payment to A Brown entered to B Browns account

explanation although the entry has been misposted to the wrong persons account, the trialbalance will still balance because the entry has been made on the correct side of the account.

(c) Sales ledger control account (see Chapter 11)

17

10.6 (a) Two from: trial balance bank reconciliation statement control accounts (see Chapter 11)

(b) JOURNALAccount Dr Cr

(1) Sales 270Suspense 270

(2) Returns inwards 500Suspense 500Returns inwards 300Suspense 300

(3) Suspense 400Discount received 400

(4) J Jones 350A Jones 350

Tutorial note: The mispost between J Jones and A Jones needs to be corrected in the sales ledger,but has no effect on suspense account.

10.8 (a) and (b)H G PATEL: TRIAL BALANCE AS AT 30 APRIL 2003

Account Dr Cr

Wages 23,890Administration costs 6,000Capital 60,000Property 65,000Motor vehicles 5,000Motor expenses 1,650Purchases 38,900Revenue (Sales) 98,000Returns outwards 3,698Carriage inwards 367Carriage outwards 450Discount received 2,135Drawings 6,900Suspense 15,676TOTAL 163,833 163,833

(b)Dr Sales Ledger Control Account Cr20-8 p 20-8 p

1 Feb Balances b/d 2,012.43 28 Feb Sales returns 221.6728 Feb Credit sales 1,288.76 28 Feb Cheques received

from trade receivables 911.4328 Feb Cash discount allowed 23.3728 Feb Set-off: purchases ledger 364.6828 Feb Bad debts written off 59.2828 Feb Balances c/d 1,720.76

3,301.19 3,301.19

1 Mar Balances b/d 1,720.76

(c) Reconciliation of sales ledger control account with trade receivable balances

1 February 20-8 28 February 20-8 p p

Arrow Valley Retailers 826.40 338.59B Brick (Builders) Limited 59.28 Mereford Manufacturing Company 293.49 Redgrove Restorations 724.86 954.26Wyvern Warehouse Limited 108.40 427.91Sales ledger control account 2,012.43 1,720.76

11.5 Dr Purchase Ledger Control Account Cr2001 2001

1 Mar Balance b/d 465 1 Mar Balance b/d 23,43731 Mar Returns 4,679 31 Mar Purchases 245,897

Set-off: sales ledger 475 Cash refunds 450Discounts 3,674 Balance c/d 749Cash paid 236,498Balance c/d 24,742

270,533 270,533

Balance b/d 749 Balance b/d 24,742

Tutorial note: The cash purchases figure of 25,679 is not shown in the control account because it does notinvolve the accounts of trade payables it is a cash purchase (ie debit purchases; credit bank/cash)

18

10.11 Jonathon SmithCorrected Profit for the year ended 30 November 2004

Profit calculated by Jonathon 26,790

1. Sales undercast add 4502. Discount allowed (2 x 140) less 2803. Wages less 2,5004. Non-current asset add 9,5005. Error of commission no effect on profit6. Closing inventory (reduction in cost of sales) add 100

Corrected profit 34,060

11.3 (a) SALES LEDGER

Dr Arrow Valley Retailers Cr20-8 p 20-8 p1 Feb Balance b/d 826.40 20 Feb Bank 805.743 Feb Sales 338.59 20 Feb Discount allowed 20.66

28 Feb Balance c/d 338.591,164.99 1,164.99

1 Mar Balance b/d 338.59

Dr B Brick (Builders) Limited Cr20-8 p 20-8 p1 Feb Balance b/d 59.28 28 Feb Bad debts written off 59.28

Dr Mereford Manufacturing Company Cr20-8 p 20-8 p1 Feb Balance b/d 293.49 24 Feb Sales returns 56.293 Feb Sales 127.48 28 Feb Set-off: purchases ledger 364.68

420.97 420.97

Dr Redgrove Restorations Cr20-8 p 20-8 p

1 Feb Balance b/d 724.86 7 Feb Sales returns 165.3817 Feb Sales 394.78 28 Feb Balance c/d 954.26

1,119.64 1,119.64


Dr Wyvern Warehouse Limited Cr20-8 p 20-8 p

1 Feb Balance b/d 108.40 15 Feb Bank 105.6917 Feb Sales 427.91 15 Feb Discount allowed 2.71

28 Feb Balance c/d 427.91536.31 536.31


CHAPTER 11 Control accounts

12.1 (a) Expense in income statement of 56,760; balance sheet shows wages and salaries accrued (currentliability) of 1,120.

(b) Expense in income statement of 2,852; balance sheet shows rates prepaid (current asset) of 713.(c) Expense in income statement of 1,800; balance sheet shows computer rental prepaid (current asset)

of 150.

12.2 SOUTHTOWN SUPPLIES

INCOME STATEMENT FOR THE YEAR ENDED 31 DECEMBER 20-9


350,000Less Closing inventory 60,000Cost of sales 290,000Gross profit 130,000Less expenses:Rent and rates 10,250 550 9,700Electricity 3,100Telephone 1,820Salaries 35,600 + 450 36,050Vehicle expenses 13,750


12.7 HAZEL HARRISINCOME STATEMENT FOR THE YEAR ENDED 31 DECEMBER 20-4


528,000Less Closing inventory 88,000Cost of sales 440,000Gross profit 174,000Add Discount received 8,140

182,140Less expenses:Insurances 8,480Vehicle expenses 2,680Wages and salaries 86,060 + 3,180 89,240Discount allowed 10,610Rates and insurance 6,070 450 5,620General expenses 15,860Depreciation: vehicles 12,000 x 20% 2,400

furniture and fittings 25,000 x 10% 2,500137,390

Profit for the year 44,750

19

CHAPTER 12 Adjustments to final accounts11.6 Dr Sales Ledger Control Account Cr20-5 20-5

1 Jan Balance b/d 44,359 31 Jan Bank 23,04531 Jan Sales 27,632 31 Jan Discount allowed 1,12631 Jan Returned cheque 275 31 Jan Sales returns 2,964

31 Jan Set-off: purchases ledger 24731 Jan Balance c/d 44,884

72,266 72,266

1 Feb Balance b/d 44,884

Tutorial note: The mispost of 685 between J Hampton and Hampton Limited needs to be corrected in thesales ledger, but has no effect on the control account.

11.7 (a)Dr Sales Ledger Control Account Cr

2003 Details 2003 Details

1 Nov Balance b/d 5,476 30 Nov Returns inwards 59030 Nov Sales 26,500 30 Nov Bank (receipts from customers) 18,900

30 Nov Set-off: purchases ledger 40030 Nov Balance c/d 12,086

31,976 31,976

1 Dec Balance b/d 12,086

Dr Purchases Ledger Control Account Cr2003 Details 2003 Details

30 Nov Returns outwards 450 1 Nov Balance b/d 2,96030 Nov Bank (payments to 30 Nov Purchases 19,600

suppliers) 16,30030 Nov Set-off: sales ledger 40030 Nov Balance c/d 5,410

22,560 22,560

1 Dec Balance b/d 5,410

(b) The balances of the individual accounts of trade receivables in the sales ledger are totalled. The balances of the individual accounts of trade payables in the purchases ledger are totalled.

These totals should agree with the balances of sales ledger control account and purchases ledgercontrol account respectively.

(c) Some types of errors (such as a mispost/error of commission) will not be revealed by the controlaccount. Thus the accounts will be thought to be correct when they are not.

A control account may indicate that there is an error within a ledger section but it will not pinpointwhere the error has occurred.


Non-current AssetsShop fittings at cost 12,000Less provision for depreciation 2,400 + 2,400 4,800Net book value 7,200Current AssetsInventory 28,176Trade receivables 3,641Cash 163Prepayment of expenses 310

32,290Less Current LiabilitiesTrade payables 10,290Bank 3,084Accrual of expenses 85


FINANCED BYCapital 20,806Add Profit for the year 27,421


26,031

12.10 (a)Dr Telephone Account CrDate Details Date Details 2007 2007

31 May Cash/bank 2,400 31 May Income statement 2,32031 May Balance c/d 130 31 May Balance c/d 210

2,530 2,530

1 Jun Balance b/d 210 1 Jun Balance b/d 130

20


Non-current Assets Cost Prov for dep'n Net book valueFreehold land 100,000 100,000Vehicles 12,000 4,800 7,200Furniture and fittings 25,000 5,000 20,000

137,000 9,800 127,200

Current AssetsInventory 88,000Trade receivables 52,130Prepayment of expenses 450

140,580Less Current LiabilitiesTrade payables 41,850Accrual of expenses 3,180Bank 2,000

47,030Net Current Assets or Working Capital 93,550

220,750Less non-current LiabilitiesBank loan 75,000NET ASSETS 145,750



145,750

12.9 BETH DAVISINCOME STATEMENT FOR THE YEAR ENDED 31 DECEMBER 20-8

Gross profit 95,374Less expenses:Wages and salaries 55,217Heating and lighting 1,864Rent and rates 5,273 310 4,963Advertising 2,246Bad debts written off 395General expenses 783 + 85 868Depreciation of shop fittings 12,000 x 20% 2,400


13.2 The final accounts of a sole trader comprise: income statement

balance sheet The income statement shows:

income minus expenses equals profit (or loss) The balance sheet shows:

assets minus liabilities equals capital Assets are items owned by the business; liabilities are amounts owed by the business; capital is the

amount of the owners investment.

13.3 (a) The Partnership Act 1890 defines a partnership as the relation which subsists between personscarrying on a business in common with a view of profit.

(b) Where no partnership agreement exists, then the following accounting rules from the Partnership Act1890 must be followed: profits and losses are to be shared equally between the partners no partner is entitled to a salary partners are not entitled to receive interest on their capital interest is not to be charged on partners drawings when a partner contributes more capital than agreed, he or she is entitled to receive interest at

five per cent per annum on the excess

Note: the question asks for any three provisions.

13.5 Points to cover include:

* Definition of a limited company

separate legal entity

owned by shareholders

managed by directors

Types of companies

public limited company

private limited company

company limited by guarantee

Advantages of forming a limited company

limited liability

separate legal entity

ability to raise finance

membership

other factors

21

(b)

MEMORANDUM

To: The Owner, Beta Batteries

From: Student Accountant

Date: Today

Subject: Account of J Booth

I note that a customer of Beta Batteries, J Booth, has been declared bankrupt whilst owing you350. You are of the opinion that none of the debt will be recovered.

The accounting treatment is that the amount of 350 should be treated as a bad debt written off. Todo this you will need to:

debit bad debts written off account

credit J Booths account in your sales ledger

If you use a sales ledger control account you should also credit this memorandum account with theamount.

For the year end accounts, you will need to transfer the amount of the bad debt to income statementas an expense:

debit income statement

credit bad debts written off account

The effect of writing off this bad debt will be to reduce your profit for the year by 350 and, at thesame time, the trade receivables figure in your balance sheet will be reduced by the amount, soreducing the net assets of the business.

CHAPTER 13 Business organisations

14.1 Going concern conceptThis presumes that the business to which the final accounts relate will continue to trade in the foreseeablefuture. The income statement and balance sheet are prepared on the basis that there is no intention toreduce significantly the size of the business or to liquidate the business. If the business was not a goingconcern, assets would have very different values, and the balance sheet would be affected considerably.Example: As a going concern, non-current assets are valued at cost, less accumulated depreciation todate; inventory is valued at cost (unless net realisable value is lower).

Accruals conceptThis means that expenses and income for goods and services are matched to the same time period.Examples: The accrual of an expense in income statement which has been used in the accounting periodbut not yet paid for. The prepayment of an expense for the next accounting period. The recording ofopening and closing inventories. The use of trade receivables' and trade payables' accounts to recordamounts owing to the business, or owed by the business.

Materiality conceptThis means that some items in accounts have such a low monetary (money) value that it is not worthwhilerecording them separately. Examples include: small expense items which may not justify their own separate expense account and are, instead,

grouped together in a sundry expenses account end-of-year quantities of office stationery are often not valued for the purpose of final accounts

because the amount is not material and does not justify the time and effort involved low-cost non-current assets are often charged as an expense in income statement because, while

strictly these should be treated as non-current assets and depreciated each year, in practice they aretreated as income statement expenses as the amounts involved are not material such as acalculator, a stapler

Materiality depends very much on the size of the business what is material and what is not becomes amatter of judgement.

Business entity conceptThis refers to the fact that final accounts record and report on the activities of a particular business. Forexample, the personal assets and liabilities of those who play a part in owning or running the business arenot included on the business balance sheet.

14.2 (a) The concept of prudence means not anticipating profit until it is reasonably certain that it will be realised providing for all known liabilities not giving an over-optimistic presentation of the business not overstating the value of assets

(b) Examples (question asks for one example): valuation of inventory, at the lower of cost and net realisable value depreciation of non-current assets, to measure the amount of the fall in value of non-current

assets over time bad debts written off, to reduce the trade receivables figure to give a realistic view of the amount

that the business can expect to receive provision for doubtful debts (see Chapter 15), to reduce the trade receivables figure

(c) The concept of consistency means that, when a business adopts particular accounting policies, itshould continue to use such policies consistently

(d) Examples (question asks for one example) valuation of inventory depreciation of non-current assets bad debts written off provision for doubtful debts (see Chapter 15)By applying the consistency concept, direct comparison between the final accounts of different yearscan be made.

14.5 (a) The kettle should be valued at 16.Workings: 31 15 = 16 net realisable value (which is lower than the cost of 18)

(b) Inventory should be valued at the lower of cost or net realisable value whichever is the lower.This is an example of using the prudence concept.

14.8

Concept Gross Profit Current Current CapitalProfit for the year Assets Liabilities

1. Accruals no decrease no increase decreasechange 4,000 change 4,000 4,000

2. Consistency no decrease no no decreasechange 15,000 change change 15,000

3. Prudence or decrease decrease decrease no decreaseConsistency 18,000 18,000 18,000 change 18,000

4. Business no increase no no noentity change 13,000 change change change

14.10 (a) jacket, 40 (note: replacement cost is not applicable here)shirt, 25suit, 80trousers, 25 10 = 15electric trouser press, 80

(b) The prudence concept says that final accounts should always, where there is any doubt, report aconservative figure for profit or the valuation of assets.

In inventory valuation it is applied by using the lower of cost and net realisable value. (Note that netrealisable value is the selling price of the goods, less further costs to get the inventory into asaleable condition.)

A lower closing inventory figure means that profits are not overstated thus the amount drawn bythe owner(s) will be reduced, so helping to ensure the continued financial viability of the business.

22

CHAPTER 14 Accounting concepts and inventory valuation

15.2

Dr Commission Income Account Cr 20-7 20-7 31 Dec Balance b/d 100 31 Dec Bank/Cash 1,250

(accrual of income) (receipts for year)31 Dec Income statement 1,150

1,250 1,250

Dr Advertising Income Account Cr 20-7 20-7 31 Dec Balance b/d 150 31 Dec Bank/Cash 2,720

(accrual of income) (receipts for year)31 Dec Income statement 2,820 31 Dec Balance c/d 250

(accrual of income)2,970 2,970

20-8 20-81 Jan Balance b/d 250

(accrual of income)

Dr Rent Income Account Cr 20-7 20-7 31 Dec Income statement 19,260 31 Dec Balance b/d 850

(prepayment of income)31 Dec Bank/Cash 18,290

(receipts for year)31 Dec Balance c/d 120

(accrual of income)19,260 19,260

20-8 20-81 Jan Balance b/d 120

(accrual of income)

15.4 (a)

Dr Bad Debts Written Off Account Cr 20-9 20-9 31 Dec Webster Limited 110 31 Dec Income statement 42031 Dec T Smith 21031 Dec Khan and Company 100

420 420

(b)

Dr Provision for Doubtful Debts Account Cr 20-9 20-9 31 Dec Balance c/d 1,000 31 Dec Income statement 1,000

20-0 20-01 Jan Balance b/d 1,000

(c) Income statement (expenses)debit bad debts written off 420debit provision for doubtful debts 1,000Explanation: profit for the year is reduced by 1,420

Balance sheetTrade receivables 39,000Workings: 40,420 420 bad debts = 40,000 1,000 provision for doubtful debts = 39,000 nettrade receivablesExplanation: current assets are reduced by 420 + 1,000 = 1,420

15.6

Year Income statement Balance sheet

Expense Income Trade Less prov for Netreceivables doubtful debts trade

Bad Increase in Bad Decrease in (after bad receivablesdebts provision for debts provision for debts

written off doubtful debts recovered doubtful debts written off)

20-5 1,800 2,585 103,400 2,585 100,815

20-6 2,400 245 113,200 2,830 110,370

20-7 1,400 150 110 108,800 2,720 106,080

Workings for doubtful debts provision:20-5 (105,200 1,800) x 2.5% = 2,585 creation of provision20-6 (115,600 2,400) x 2.5% = 2,830 2,585 = 245 increase in provision20-7 (110,200 1,400) x 2.5% = 2,720 2,830 = 110 decrease in provision

23

CHAPTER 15 Further aspects of final accounts

15.8 (a) Straight-line method Reducing balance method

Year 1 3,000 3,600

Year 2 3,000 1,440 (60%)or

2,400 (to disposal)

(b) Depreciation is a non-cash expense It is an accounting adjustment Depreciation is not a method of providing a fund of cash which can be used to replace the asset

at the end of its life Profits are lower after depreciation has been deducted this may discourage drawings from the

business

15.11 (a)Dr Vehicles Account Cr20-8 20-8 1 Jan Balance b/d 12,000 1 Oct Disposals 12,0001 Oct Disposals 5,500 31 Dec Balance c/d 15,000

(part-exchange allowance)1 Oct Bank 9,500

(balance paid by cheque)27,000 27,000

20-9 20-9 1 Jan Balance b/d 15,000

(b)Dr Provision for Depreciation Account Vehicles Cr20-8 20-8 1 Oct Disposals 7,200 1 Jan Balance b/d 7,20031 Dec Balance c/d 3,000 31 Dec Income statement 3,000

10,200 10,20020-9 20-9

1 Jan Balance b/d 3,000(c)Dr Disposals Account Vehicles Cr20-8 20-8 1 Oct Vehicles 12,000 1 Oct Vehicles 5,50031 Dec Income statement 700 (part-exchange allowance)

(profit on sale) 1 Oct Prov for depreciation 7,20012,700 12,700

(d) BALANCE SHEET EXTRACT AS AT 31 DECEMBER 20-8

Cost Prov for depn Net book valueNon-current assetsVehicles 15,000 3,000 12,000

15.12 (a) 20,000 12,500 4,000 = loss of 3,500

(b) BALANCE SHEET EXTRACT AS AT 31 DECEMBER 20-9Non-current Assets Vehicle at cost 25,000Less provision for depreciation 3,125Net book value 21,875

Tutorial note: Do not deduct the trade in allowance from the cost price of the new vehicle thecost price is 25,000.

15.13 (a) Profit on disposal of old machine = 2,000Workings24,000 18,000 depreciation = 6,000 net book value

Trade-in value 8,000Net book value at date of trade-in 6,000Profit on disposal 2,000

(b) GORG HAMMANBALANCE SHEET AS AT 31 DECEMBER 2003

Non-current AssetsMachinery at cost 176,000 (170,000 24,000 + 30,000)Less prov for depreciation 123,500 (105,000 18,000 + 36,500)Net book value 52,500

Current LiabilitiesTrade payable instalment due on machine (11,000)

Tutorial notes: depreciation for 2003 is calculated at 25% straight-line method (being the rate applied to the old

machine) therefore depreciation on remaining machinery is 170,000 24,000 = 146,000 x 25% = 36,500

24

15.16 THOMAS SALMONINCOME STATEMENT FOR THE YEAR ENDED 30 NOVEMBER 2004

Gross profit 68,772Add income:

Discount received 119Rent receivable 720

69,611Less expenses:

Wages 26,320Bad debts 340Rent and rates 4,630Other expenses 21,435Discount allowed 286Income in provision for doubtful debts *230Depreciation of fixed assets **9,000Loss on sale of van ***100


* 1,120 890 = 230

** 27,000 provision for depreciation at start of year 6,000 depreciation on van sold = 21,000,which is deducted from 30,000 provision for depreciation at end of year = 9,000 depreciationfor year (as shown in income statement)

*** Net book value (8,000 6,000) 2,000Sale price 1,900Loss on sale 100

16.1 (a) Capital expenditure cost of van 11,650air conditioning 550fitted shelving 350total 12,550

(b) Revenue expendituretax disc 165cost of extended warranty 220tank of fuel 40insurance premium 450total 875

16.4 (a) ABEL BROWNINCOME STATEMENT FOR THE YEAR ENDED 31 DECEMBER 2001

Revenue 278,400Less Cost of sales:

Opening inventory 12,700Purchases 153,900

166,600Less Closing inventory 14,100 152,500Gross profit 125,900Less expenses:

Wages 75,400Rent 2,280Other expenses 25,120Depreciation 15,000 117,800


Workings: Wages 74,750 + 650 owing Rent 2,500 220 prepaid Depreciation 150,000 x 10%

(b) New profit: 11,100Workings: Depreciation, using the straight-line method, at present is 15,000 (see above) Reducing balance depreciation will be 20% (150,000 90,000) = 20% x 60,000 = 12,000 Therefore reducing balance depreciation is 3,000 less this year than straight-line method, so

profit will increase from 8,100 (see above) to 11,100.

16.5 JOHN HENSONINCOME STATEMENT FOR THE YEAR ENDED 31 DECEMBER 20-8


77,850Less Closing inventory 8,500Cost of sales 69,350Gross profit 52,650Add income:

Discounts received 28552,935

Less expenses:Vehicle running expenses 1,480 + 230 1,710Rent and rates 5,650Office expenses 2,220 120 2,100Wages and salaries 18,950Depreciation: office equipment 1,000

vehicle 3,00032,410


25

CHAPTER 16 Preparing sole trader final accounts


Non-current Assets Cost Prov for dep'n Net book valueOffice equipment 10,000 1,000 9,000Vehicle 12,000 3,000 9,000

22,000 4,000 18,000

Current AssetsInventory 8,500Trade receivables 5,225Prepayment of expenses 120Bank 725

14,570

Less Current LiabilitiesTrade payables 4,910Accrual of expenses 230




27,430

16.6 (a) KEN TUCKYINCOME STATEMENT FOR THE YEAR ENDED 31 MARCH 2006

Revenue 587,461Less Returns inwards 837Net revenue 586,624Opening inventory 39,771Purchases 280,797 2,170 goods for own use 278,627

318,398Less Closing inventory 40,135Cost of sales 278,263Gross profit 308,361Less expenses:

Wages 128,528 + 1,383 129,911Motor expenses 47,870 18,500 29,370Rates 7,810Insurances 7,780 286 7,494Bad debts written off 1,368General expenses 33,713Provision for depreciation:

property 2,900equipment 1,140motor vehicles 13,448


Depreciation calculations Property: 145,000 x 2% = 2,900 Equipment: 11,400 x 10% = 1,140 Motor vehicles 42,000 + 18,500 acquisition = 60,500 26,880 depreciation to date =

33,620 x 40% = 13,448

(b) Additional information 4 This is a prepayment of expenses.

The amount is deducted from the expense to be shown in income statement, ie 7,780 expense 286 prepayment = 7,494 to income statement.

The amount will be shown as a current asset in the balance sheet.

The 286 will be included in the cost for insurances charged to next years income statement.

The accounting concept is accruals (or matching) expenses and revenues for goods andservices are matched to the same time period, here the year ended 31 March 2006.

26

(b) Additional information 5 The owner has taken some of the goods in which the business trades for his own use.

The amount, here 2,170, is deducted from purchases and added to the owners drawings(which will be deducted from capital in the balance sheet).

The reason for reducing purchases is to ensure that only those purchases used in the businessare recorded, which are then matched to the sales derived from them.

The accounting concept is business entity which keeps separate from the business the personalassets and liabilities of the owner.

(c) A provision for doubtful debts should be created so that the balance sheet figure of net tradereceivables is a reliable estimate of the amount that will be received.

If a provision is not made, then profits will be overstated by the amount of doubtful debts.

Creation of a provision for doubtful debts is shown as an expense in income statement, anddeducted from trade receivables in the balance sheet.

The accounting concept is prudence.

16.8 (a) SIOBHAN HUGGETTINCOME STATEMENT FOR THE YEAR ENDED 30 APRIL 2004


131,200Less Closing inventory 8,700Cost of sales 122,500Gross profit 170,600Add income:

Reduction in provision for doubtful debts 40170,640

Less expenses:Wages and general expenses 117,800Business rates 13,330Bad debts written off 750Provision for depreciation:

fixtures and fittings 10,800vehicles 31,840

174,520Loss for the year 3,880

Workings:

Purchases: 149,400 3,000 goods for own use 23,000 fixtures = 123,400

Closing inventory: valued at the lower of cost, 8,700, and net realisable value, 11,500

Provision for doubtful debts: 9,000 trade receivables x 3% provision = 270, which is deductedfrom 310 existing provision = 40 reduction in provision for doubtful debts

Wages and general expenses: 116,200 + 1,600 accrual = 117,800

Business rates: 13,510 180 prepayment = 13,330

Provision for depreciation of fixtures and fittings: 85,000 + 23,000 acquisition = 108,000 x 10% = 10,800

Provision for depreciation of vehicles: 160,000 80,400 depreciation to date = 79,600 x 40%= 31,840

(b) Example of capital expenditure: purchase of fixturesExample of revenue expenditure: wages and general expenses

(c) Capital expenditure is expenditure incurred on the purchase, alteration or improvement of fixedassets.

Revenue expenditure is expenditure incurred on running expenses.

Capital expenditure is shown on the balance sheet (subject to the accounting concept of materiality),while revenue expenditure is an expense in the income statement. It is important to classify theseitems of expenditure correctly in the accounting system so that the final accounts report reliably onthe financial state of the business profit is stated accurately and the balance sheet shows the assetsowned by the business.

16.9 (a) WULLIE McDUFFINCOME STATEMENT FOR THE YEAR ENDED 30 SEPTEMBER 2005

Gross profit 807,850Add income:

Bad debts recovered 100Reduction in provision for doubtful debts 65

808,015Less expenses:

Wages 748,432Rent and rates 12,140General expenses 37,898Bad debts written off 760Loss on sale of vehicle 200Provision for depreciation:

property 2,400vehicles 7,500

809,330Loss for the year 1,315

27

Workings:

Provision for doubtful debts: 35,000 trade receivables x 2.5% provision = 875, which isdeducted from 940 existing provision = 65 reduction in provision for doubtfut debts.

Rent and rates: 12,460 320 prepayment = 12,140

General expenses: 36,980 + 918 accrual = 37,898

Loss on sale of vehicle: 20,000 cost 15,000 depreciation to date = 5,000 net book value atdate of sale 4,800 sale proceeds = 200 loss on sale.

Provision for depreciation of property: 120,000 x 2% = 2,400

Provision for depreciation of vehicles: 60,000 30,000 depreciation to date = 30,000 x 25%= 7,500

(b) The private limited company is the most common form of limited company and is defined as anycompany that is not a public company (Companies Act 2006). Many private limited companies aresmall companies, often in family ownership and it would seem appropriate for Wullie McDuff toconsider this form of business organisation.

Advantages include:

limited liability the shareholders of the company can only lose the amount of their investment(together with any money unpaid on their shares); the personal assets of the shareholders arenot available to the companys trade payables

separate legal entity a limited company is separate from the owners

ability to raise finance the smaller company can raise funds from venture capital companies,relatives and friends; debentures can be issued to raise long-term finance from lenders andinvestors

a limited company may have a higher standing and status in the business community, allowing itto benefit from economies of scale, and making it of sufficient size to employ specialists

Disadvantages include

membership all ordinary shareholders have voting rights, so Wullie may lose some control ofthe business

documentation there is more documentation eg the preparation of formal annual accounts for a company to produce than for a sole trader business; the costs of administering a companyare higher than for a sole trader

Conclusion

Wullie must consider the advantages and disadvantages of changing his business into a privatelimited company. If he is seeking to expand the business and raise finance, it would be sensibleto consider this option. At the same time he would gain the benefit of limited liability.

17.1 (a) Ordinary shares are the most commonly issued class of share. They take a share of the profitswhich remain after all other expenses of the business. The main risk of ordinary shares is that partor all of the value of the shares will be lost if the company loses money or becomes insolvent.

Preference shares usually carry a fixed rate of dividend which is paid in preference to that ofordinary shareholders. In the event of the company ceasing to trade, the preference shareholderswill also receive repayment of capital before the ordinary shareholders.

(b) Nominal value is the face value of a share which is entered in the accounts, eg 5p, 10p, 25p, 50por 1.

Market value is the price at which issued shares are traded, ie bought and sold.(c) Capital reserves are created as a result of a non-trading profit; examples include revaluation

reserve, share premium account. Revenue reserves are retained profits from the income statement; examples include retained

earnings, general reserve.(d) A bonus issue is the capitalisation of reserves either capital or revenue in the form of free shares

issued to existing shareholders in proportion to their holdings; no cash flows into the company. A rights issue is the raising of cash by offering shares to existing shareholders, in proportion to their

holdings, at a favourable price.

17.2 (a) debenture interest is shown as an expense in the income statement(b) directors' remuneration is shown as an expense in the income statement(c) corporation tax is shown in the income statement, and any amount not yet paid is shown as a

current liability on the balance sheet(d) dividends paid are shown in the statement of changes in equity(e) revaluation reserve is shown as a capital reserve as a part of the equity section of the balance sheet(f) goodwill is shown as an intangible asset in the non-current assets section of the balance sheet; it

is amortised in the same way as tangible non-current assets are depreciated

17.4 (a) MASON MOTORS LTD

INCOME STATEMENT (EXTRACT) FOR THE YEAR ENDED 31 DECEMBER 20-1

Profit from operations 75,000Finance costs (5,500)Profit before tax 69,500Tax (20,050)Profit for the year 49,450

28

CHAPTER 17 Financial statements of limited companies

(b) STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 DECEMBER 20-1Retained earningsBalance at 1 January 20-1 100,000Profit for the year 49,450

149,450Dividends paid (10,000)Transfer to general reserve (20,000)Balance at 31 December 20-1 119,450

(c) General reserve is created from profit which has been kept in the company. It belongs to theshareholders, but is represented by assets in the balance sheet and is not a bank balance availableto rebuild the garage forecourt.

17.7 (a) SRIAN PLCSTATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 MAY 20-3

Retained earnings Balance at 1 June 20-2 3,400,000Profit for the year 6,000,000

9,400,000Dividends paid (2,800,000)Transfer to general reserve (2,000,000)Balance at 31 May 20-3 4,600,000

(b) Issue of ordinary shares ordinary shares are not normally repayable, so the company will have the finance for the

foreseeable future the new shareholders will have voting rights not essential to pay dividends every year, although a failure to do so might cause difficulties with

future share issues

the power of the existing shareholders will be diluted because there will be more shares in issue the companys gearing ratio will be improved

Issue of debentures

a different type of financing based on loans and interest, rather than shares and dividends the interest charge will rise by 1,800,000 from 1,200,000 to 3,000,000 interest must be paid whether or not profits are made a failure to pay interest could lead the company into insolvency no voting rights, so no dilution of shareholders power debentures must be repaid at an agreed date in future interest rate is fixed, whatever may happen to the level of interest rates debenture holders likely to require security for their loan in the form of a mortgage over company

assets; this may restrict the use the company can make of the assets

if repayment not made at due date, debenture holders can realise assets to obtain repayment the companys gearing ratio will be worsened

Gearing ratioWithout having information on the companys revenue reserves (retained earnings and general reserve),the gearing ratio is currently:Debt = 20,000,000 = 0.8:1 or 80%

Equity 25,000,000This is already a high gearing ratio which investors will not wish to see going above 1:1 or 100%.If ordinary shares are issued to raise the money for expansion, the gearing ratio (including sharepremium account) becomes:20,000,000 = 0.36:1 or 36%55,000,000** ordinary shares 25,000,000 + 20,000,000 and share premium account 10,000,000This is a much improved gearing ratio.If debentures are issued, the gearing ratio becomes:50,000,000* = 2:1 or 200%25,000,000* 6% debentures 20,000,000 + 30,000,000This is an extremely high gearing ratio, well above the normal maximum of 1:1 or 100% acceptable toinvestors. It may be that Srian plc will have difficulty in meeting the annual interest costs of this option.

ConclusionIt seems to be preferable for Srian to finance its expansion scheme with an issue of ordinary shares.This has a much lower gearing ratio than the issue of debentures the company may have difficulty inthe future meeting the extra annual interest cost of 1,800,000.

29

17.9 (a) STOULBY LIMITEDSTATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 DECEMBER 2006

Retained earnings Balance at 1 January 2006 410,000Profit for the year 650,000

1,060,000Dividend paid (63,000)Transfer to general reserve (120,000)Balance at 31 December 2006 877,000

(b) TOTAL EQUITY AT 31 DECEMBER 2006

Issued share capital4,000,000 ordinary shares of 50p each 2,000,000Capital ReserveShare premium account 500,000Revenue ReservesGeneral reserve *420,000Retained earnings 877,000

1,297,000TOTAL EQUITY 3,797,000

* general reserve: 300,000 + 120,000 transfer

(c) Revenue reserves are profits from trading activities which have been retained in the company to helpbuild the company for the future

(d) Retained earnings or general reserve(e) Revenue reserves can be used to fund dividend payments or to provide bonus shares to shareholders

17.10 (a)

* 400,000 150,000 profit for the year ** 500,000 shares x 7p

(b) DAVID MARK LIMITEDSUMMARISED BALANCE SHEET AS AT 31 DECEMBER 20-2

Non-current assets 600,000Current assetsInventories 85,000Trade and other receivables 60,000Cash and cash equivalents *132,000

277,000Current liabilitiesTrade and other payables (37,000)Net Current Assets 240,000Net Assets 840,000

EQUITYIssued Share Capital700,000 ordinary shares of 50p each, fully paid 350,000Capital ReserveShare premium account 50,000Revenue ReservesRetained earnings 320,000General reserve 120,000

440,000TOTAL EQUITY 840,000

* Cash and cash equivalents: balance at start 17,000share issue 150,000dividend paid (35,000)closing balance 132,000

(c) Limited company, or Private Limited Company

(d) The term Ltd means that the shareholders of David Mark Limited have limited liability. This means that they could lose their investment but cannot be asked to contribute further in the

case of liquidation (unless the shares are not fully paid). Thus the risk taken by shareholders is limited.

30

DAVID MARK LIMITEDSTATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 DECEMBER 20-2

Issued Share General Retained Totalshare capital premium reserve earnings

Balances at 1 January 20-2 250,000 75,000 *250,000 575,000Profit for the year 150,000 150,000Dividend paid **(35,000) (35,000)Transfer to general reserve 45,000 (45,000) Issue of shares 100,000 50,000 150,000Balances at 31 December 20-2 350,000 50,000 120,000 320,000 840,000

18.3 Exton Frimley(a) gross profit margin 13.4% 44.0%(b) gross profit mark-up 15.5% 78.7%(c) overheads in relation to revenue 12.0% 39.8%(d) net profit margin (profit in relation to revenue) 1.4% 4.2%(e) rate of inventory turnover 33 days or 95 days or

10.9 times per year 3.8 times per year(f) net current asset (current) ratio 1.3:1 2.4:1(g) liquid capital (acid test) ratio 0.05:1 1.3:1(h) trade receivable days 1 day* 60 days(i) return on capital employed 11% 8.1%

* revenue figure used for this calculation; this is unrealistic because most supermarket sales will be for cashrather than on creditExton is the supermarket; Frimley is the engineering companyReasons:Exton low overheads/revenue and net profit margin; high inventory turnover; quick trade receivable

days, low net current asset and liquid capital ratios; few trade receivablesFrimley higher overheads/revenue and net profit margin and low inventory turnover; slow trade

receivable days; good net current asset and liquid capital ratios; high figures for non-currentassets and trade receivables

18.4 (a) gross profit margin Gross profit x 100

Revenue 1This ratio expresses, as a percentage, the gross profit in relation to revenue.gross profit mark-up Gross profit x 100Cost of sales 1This ratio expresses, as a percentage, the gross profit in relation to cost of sales; often used bybusinesses to establish selling price.

(b) net current assetsCurrent assets Current liabilitiesNet current assets or working capital, are needed by all businesses in order to finance day-to-daytrading activities. Sufficient net current assets enable a business to hold adequate inventories, allowa measure of credit to its customers (trade receivables) and to pay its suppliers (trade payables) aspayments fall due.liquid capital(Current assets Inventories) Current liabilitiesLiquid capital is calculated in the same way as net current assets, except that inventories are omitted.This is because inventories are the most illiquid current asset. Liquid capital provides a directcomparison between the short-term assets of trade receivables and cash and short-term liabilities.

(c) cashThis is the actual amount of money held in the bank or as cash.

profitThis is a calculated figure which shows the surplus of income over expenditure for the year. It takesnote of adjustments for accruals and prepayments and non-cash items such as depreciation andprovision for doubtful debts.

(d) return on capital employedProfit for the year x 100Capital employed* 1* limited companies: ordinary share capital + reserves + preference share capital + loan capitalsole traders: the amount of the owners capital in the businessReturn on capital employed (ROCE) expresses the profit of a business in relation to the amount ofcapital in the business by the owner.gearingDebt (loan capital + preference shares, if any)

Equity (ordinary shares + reserves)Gearing is concerned with the long-term financial stability of a business. It measures how much of thebusiness is financed by debt (including preference shares) against capital gearing is often referredto as the debt/equity ratio. The higher the gearing, the less secure will be the ordinary share capital ofthe business and, therefore, the future of the business. This is because debt is costly in terms ofinterest payments.In general terms, investors and lenders would not wish to see debt exceeding equity; thus a gearingratio of greater than 1:1 is undesirable.

18.6 (a) Trade receivables x 365 days Revenues

(b) Trade payables x 365 days Purchases

(c) trade receivable days 20-1 20-2 43,000 x 365 days 32,550 x 365 days680,000 660,000

= 23.08 days = 18 days

(d) trade payable days 20-1 20-2 28,500 x 365 days 38,500 x 365 days520,000 540,000

= 20 days = 26.02 days

(e) 20-1Trade payables are paid more quickly than trade receivables are paying, which will cause cashmanagement problems.20-2Trade payables are paid more slowly than trade receivables are paying, which aids cashmanagement.

Note: The figure for trade receivables has fallen during the period, while the figure for trade payables hasincreased. The reasons for the changes need to be investigated to include: has revenue reduced, or is collection from trade receivables more efficient? does the company have the money to pay trade payables, or have generous credit terms been offered

by a supplier?31

CHAPTER 18 Ratio analysis

18.7 (a) Net current assets (current) ratio = Current assets Current liabilities

Liquid capital (acid test) ratio = (Current assets inventories)Current liabilities

Net profit margin (profit in relation = Profit for the year x 100to revenue) Revenue 1

Rate of inventory turnover = Average inventories x 365 daysCost of sales

or Cost of sales = number of times per yearAverage inventories

Return on capital employed = Profit for the year x 100Capital employed 1

(b) Green Ltd is the supermarket, while Hawke Ltd is the furniture store.Green Ltd has a low net profit margin and a high inventory turnover. This is a characteristic of the wayin which supermarkets operate low profit margins, but a high level of revenue. Liquidity ratios arelower than the norms as supermarkets usually have few trade receivables.Hawke Ltd has a higher net profit margin with a lower inventory turnover. This indicates a businessthat sells higher value items which are not purchased on a regular basis. The liquidity ratios are closeto the norms indicating a business with higher inventories and trade receivables than a supermarket.

(c) If inventory turnover could be increased above 20 times per year, this would generate more cashand improve the liquidity ratios of the business (provided that selling prices do not have to becut to encourage sales).

If expenses could be reduced, the net profit margin would improve, and also return on capitalemployed.

A review of buying prices and selling prices may reveal opportunities for increasing profits andreturn on capital employed.

Advertising could increase sales, but only if the extra revenue generated covers the cost ofadvertising.

Inventory levels could be reduced, so improving the net current asset ratio. Any surplus non-current assets could be sold to improve liquidity ratios.

18.10 (a) FormulaReturn on capital employed = Profit for the year x 100

Capital employed 1

(b) Ratio calculationProposal 1 30,000 x 100 = 5%*600,000 1

* 300,000 ordinary shares (200,000 + 100,000)160,000 share premium (140,000 + 120,000)140,000 retained earnings

Proposal 2 30,000 x 100 = 5.56%**540,000 1

** 380,000 equity (ordinary shares + capital and revenue reserves)160,000 long-term bank loan

Tutorial note: bank overdraft is a current liability and is not included in the figure of capital employed.

(c)Report

To: Ordinary shareholderFrom: Student AccountantDate: TodaySubject: Proposals to raise finance

Proposal 1

This proposal to issue more ordinary shares means that ownership of the company will bediluted.

Unless the amount paid out by the company in dividends is increased, then your dividend pershare will fall.

Return on capital employed will be reduced from 7.89% (30,000 380,000) to 5%. The companys gearing ratio is lowered (because equity has increased from 380,000 to

600,000); no interest to pay on the share issue. Reserves will increase to 300,000, ie 160,000 share premium and 140,000 retained

earnings. the company may decide to make a bonus issue of shares in the future.

Proposal 2

The proposal is

Documents

OSBORNE BOOKS ANSWER SHEET .pdf