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PQP/7B/Jan 2013
Accounting Principles
Question Paper, Answers and
Examiners Comments
Level 3 Diploma January 2013
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PQP/7B/Jan 2013
Copyright of the Institute of Credit Management Institute of Credit Management The Water Mill, Station Road, South Luffenham, Oakham, Leicestershire LE15 8NB Bookshop Tel: 01780 722901. Education Tel: 01780 722909 Switchboard Tel: 01780 722900. Fax: 01780 721333
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PQP/7B/Jan 2013
Accounting Principles questions, answers and examiners’ comments
UNIT 02 LEVEL 3 DIPLOMA IN CREDIT MANAGEMENT
JANUARY 2013
Instructions to candidates
Answer any FIVE questions. All questions carry equal marks. Time allowed: 3 hours
All ledger accounts must be prepared in continuous balance format
Final accounts must be prepared in vertical format
Where appropriate, VAT is to be calculated at 20%
Questions start on the next page
A good paper including a range of questions to cover the syllabus and which gave the
more able the chance to gain high marks - highest = 83. The paper really tested the less
well prepared (lowest mark 6). Candidates generally appeared prepared to deal with the
mix of numerical and written questions and the overall standard achieved was in line with
expectations.
The majority of candidates appeared to have sufficient time to complete the questions,
with one candidate attempting 6 questions, another answering all 8 questions set which
clearly wasted time. However approx 10% of candidates only attempted 3 or 4 of the set
questions, which does affect the marks awarded. Candidates are encouraged to attempt
the required 5 questions so that they can be awarded marks for their ability. Candidates
should also attempt all parts of each question which some candidates did not; this
restricted the marks they could achieve.
Some candidates still do not include their workings which doesn’t allow the examiner to
award any marks whilst one or two still use ‘T’ account format when the study text and
exam paper make it clear that the continuous balance format is a requirement.
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PQP/7B/Jan 2013
1. a) Read the following cutting from the financial press, and then answer the questions
which follow:
‘Profits Warning at Leading Cars: From Ivor Pound, Financial Correspondent’
The share price of Leading Cars plc, the car retailing group, dipped sharply in January to
456p from its high of 587p last month following a profits warning from the company’.
TASK
How might the following users of these accounts be affected if Leading Cars plc does, in fact,
make a loss?
Shareholders
Managers
Suppliers. (6 marks)
b) When preparing final accounts it is important to distinguish between capital and revenue
expenditure.
TASK
i) Define capital expenditure using two appropriate examples. (3 marks)
ii) Define revenue expenditure using two appropriate examples. (3 marks)
iii) Explain why it is important to classify these types of expenditure correctly in the accounting
system. (4 marks)
iv) Show the relevant double entries for the following expenditure:
A business purchases a new air conditioning system costing £15,000 paying by
cheque, receiving a cash settlement discount of 5% for immediate payment
The businesses’ employees are used to install the new air conditioning system.
Included in total wages is the cost of £1,000 for labour costs
Plumbing and other materials cost of £1,500 was included in total purchases.
(4 marks)
Total 20 marks
Question aims
To test the candidate’s ability to:
Describe the requirements of the different users of accounting information and their
application of the data
Describe the difference between capital and revenue expenditure and give examples of
both.
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Suggested answer
a) Shareholders:
As there has been a profits warning they will want to understand that their money is
safe and that there is a prospect of the company returning to previous levels of profit
and paying dividends
In the worst case scenario, shareholders could loose their investment if the company
makes a loss or becomes insolvent.
Managers
Managers, and employees are interested in information about the stability and
profitability of their employer
They need to assess the likelihood of future employment as they might lose their jobs
if Imperial Cars continues to make a loss
Firms that operate profitably are more likely to offer job security including
promotion/advancement
Managers might also be concerned about the ability of the firm to offer pay increases
and/or bonuses in the future
They will also be interested in the ability of the firm to continue to offer retirement
benefits.
Suppliers
These are people the business owes money to and they will be concerned about the
ability of Leading Cars to make payment within agreed credit terms
Suppliers might lose their money and future business/trading opportunities with the
firm
If Leading Cars is their major customer, then the suppliers will be concerned about the
long term survival of the business, as failure of this business will ultimately affect the
trading success/profitability of their own firm.
b) i) Capital expenditure results in the acquisition of fixed assets, or an improvement in their
earning capacity
Capital expenditure can be defined as expenditure incurred on the purchase, alteration
or improvement of fixed assets, e.g. land and buildings; motor vehicles; fixtures and
fittings; plant and machinery; computers)
Fixed assets are ’permanent’ assets of the business, which will be used for a number
of years to generate profit and thus the funds to buy these assets will be tied up for a
long time
If expenditure improves a fixed asset i.e. by making it superior to what it was when it
was first owned by the business (e.g. building an extension to a warehouse) then it is
treated as capital expenditure
Included in capital expenditure are costs such as Delivery of fixed assets; Installation
of fixed assets; Improvements (but NOT repair) of fixed assets; Legal costs of buying
property; Carriage inwards on machinery bought.
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PQP/7B/Jan 2013
ii) Revenue expenditure is for the purpose of the trade of the business or to maintain the
existing earning capacity of fixed assets
Revenue expenditure is expenditure incurred on running expenses i.e. the day-to-day
expenses of a business, e.g. the cost of petrol or diesel for a motor vehicle or repairs
to a building
This is because the expenditure is used up in a short time, and does not add to the
value of the fixed assets
Included in revenue expenditure are the costs of maintenance and repairs of fixed
assets; administration of the business; selling and distribution of the goods or
products in which the business trades.
iii) Revenue expenditure is charged as an expense to the profit and loss account, provided
that it relates to the trading activity and sales of that particular period, which reduces
the net profit
Capital expenditure is charged to the balance sheet and results in the addition of fixed
assets to the business
Depreciation reduces the fixed asset value, and is treated as revenue expenditure,
although no ‘cash’ transaction takes place
Getting the classification wrong will affect the reported profits as well as the asset
values (and capital account) in the financial statements
If expenditure is treated as revenue expenditure, then it reduces the profit
immediately by the amount spent. However, if this is treated as capital expenditure,
then the reported profits are higher as the expense is shown as an asset on the
balance sheet
Following the dual-entry concept, if the fixed asset values are over-stated (i.e.
because revenue expenditure is treated as capital expenditure) then the profits will
also be over-stated
If the expenditure also affects items in the trading account, then the gross profit figure
will also be incorrect.
iv) This is capital expenditure and should increase fixed assets because it is an addition
to the property.
Dr Fixed Assets (air conditioning) 15,000
Cr Bank account 14,250
Cr Cash discount received 750
Wages should be reduced by £1,000 and Materials reduced by £1,500
Dr fixed assets (air conditioning) 2,500
Cr wages 1,000
Cr purchases 1,500
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This was a popular choice, with a good range of marks being achieved.
Part a)
Although some candidates were clearly not prepared for a question which required them to
explain how a ‘profits warning’ would affect users of the accounts, more able candidates gave
fully developed explanations. Weaker candidates did not answer the question as set, for
example incorrectly explaining how managers would need to review budgets and cash flow by
arranging overdraft facilities and how Leading Cars would need to change to cheaper supplies.
Part (b)
Should have been expected and many candidates were able to correctly define both capital and
revenue expenditure giving two valid examples. However, the majority of candidates did not
fully appreciate the need to classify these correctly so that both gross and net profits and fixed
assets are correctly stated in the financial statements.
The final part of this question required candidates to apply concepts already covered when
dealing with capital expenditure. Although more able candidates showed correct entries,
weaker candidates did not recognise that the £750 discount would be deducted from the
payment, showing the gross figure of £15,000 as a credit to the bank account. Weaker
candidates were also confused by the mis-posting of wages and purchases by showing these
as debit entries to each account and then credit to the bank account in error. As the payment
had already been in the relevant costs, the correct entries increase (debit) fixed assets and
reduce (credit) costs.
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2. a) The following balances were extracted from the books of Graham Weston, a sole trader,
as at 31October 2012:
£
Trade creditors 2,065
Stock held at 31 October 2012 3,073
Wages owing 225
Premises 27,400
Cash 500
Trade debtors 5,127
Furniture and fittings - cost 5,000
Furniture and fittings - accumulated depreciation 1,925
Motor vehicles - cost 10,000
Motor vehicles - accumulated depreciation 3,900
Plant and machinery - cost 20,000
Plant and machinery - accumulated depreciation 6,160
Bank overdraft 1,875
Insurance paid in advance 50
5 year loan from Loamshire Finance Co 7,500
Drawings 10,800
Net profit for the year ended 31 October 2012 12,970
Capital ?
No provision for depreciation has yet been made for the year ending 31October 2012.
Depreciation is to be provided using reducing balance method as follows:
Motor vehicles 25% per annum
Plant and machinery 15% per annum
Furniture and fittings 20% per annum
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TASK
a) i) Prepare the balance sheet for Graham Weston as at 31 October 2012.
Note: An amended trial balance is not required. (11 marks)
ii) What is the meaning of the words ‘as at’ for the balance sheet heading?
(1 mark)
b) Graham Weston keeps referring to the motor vehicle as my car. His accountant has told
him that the car does not belong to him but to the firm. He replies that of course it
belongs to him, and furthermore, if the firm went bankrupt he would be able to keep the
car.
Use the appropriate accounting concept to help explain to Graham whose approach is
correct. (3 marks)
c) Graham Weston informs you that his business will use depreciation as a means to set
aside cash each year so that it eventually has the funds to purchase a replacement car
when this becomes necessary.
i) Comment briefly on the above statement. (2 marks)
ii) Use an appropriate accounting concept to help explain why a business will provide for
depreciation. (3 marks)
Total 20 marks
v) Question aims
To test the candidate’s ability to:
Construct a balance sheet for a sole trader business including both accruals and
prepayments, from information in a trial balance
State the purpose of a balance sheet
Explain the reasons for a depreciation provision
Calculate and include depreciation in the balance sheet of a business
Identify and explain relevant accounting concepts.
Suggested answer
Starts on next page
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a) Workings - full trial balance not required – for information only
£ £
Trade creditors 2,065
Stock held at 31 October 2012 3,073
Wages owing 225
Premises 27,400
Cash 500
Trade debtors 5,127
Furniture and fittings – cost 5,000
Furniture and fittings – accumulated depreciation 1,925
Motor vehicles – cost 10,000
Motor vehicles – accumulated depreciation 3,900
Plant and machinery - cost 20,000
Plant and machinery – accumulated depreciation 6,160
Bank overdraft 1,875
Insurance paid in advance 50
5 year loan from Loamshire Finance Co 7,500
Drawings 10,800
Net profit for the year ended 31 October 2012 12,970
Capital = balancing figure 45,330
81,950 81,950
Motor vehicles
Cost £10,000 – 3,900 = £6,100 x
25%
= 1,525
Plant and machinery Cost £20,000 – 6,160 = £13,840 x
15%
= 2,076
Furniture and fittings Cost £5,000 – 1,925 = £3,075 x
20%
= 615
4,216
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i) Balance sheet for Graham Weston as at 31 October 2012
£ £ £
Fixed assets Cost Depreciation NBV
Premises 27,400 0 2,740
Furniture and fittings 5,000 2,540 2,460
Motor vehicles 10,000 5,425 4,575
Plant and machinery 20,000 8,236 11,764
46,199
Current Assets
Stock 3,073
Debtors 5,127
Prepayments 50
Cash 500
8,750
Current Liabilities
Creditors 2,065
Accruals 225
Bank overdraft 1,875
(4,165)
Working capital/net current assets 4,585
50,784
Long-Term Liabilities
Loan from Loamshire Finance Co (7,500)
Net Assets 43,284
Financed by:
Capital Account (Graham Weston)
Opening capital (missing figure) 45,330
Add: net profit (12,970 - 4,216) 8754
57,084
Less: drawings (10,800)
43,284
ii) The balance sheet is a statement of the assets, liabilities and capital of a business at a
particular moment in time, i.e. 31 October 2012.
The balance sheet does not reflect a financial period, but only shows the value of assets,
liabilities and capital at a particular date.
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b) Business Entity concept.
This refers to the fact that final accounts record and report on the activities of one
particular business. They do not include the assets and liabilities of those who play a
part in owning or running the business
The owner and the business are treated as two separate entities. The business affairs
are kept completely separate from those of the owner
As the car is shown on the firm’s balance sheet, it is an asset of Graham’s firm, not a
personal asset
As Graham is a sole trader he has unlimited liability, which means should he be unable
to pay the debts of the firm, then his personal assets may well be used to cover any
shortfall.
c) i) Depreciation is a non-cash expense, i.e. unlike the other expenses in the profit and
loss account, no cheque is written out, or cash paid, for depreciation
In cash terms, depreciation causes no outflow of money and is not a method of
providing a fund of cash which can be used to replace the asset at the end of its life
In order to do this, it is necessary to create a separate fund into which cash is
transferred at regular intervals , known as a reserve account
This technique is often known as a sinking fund and it needs to be represented by a
separate bank account e.g. deposit account, which can be drawn against when the
new fixed asset is to be purchased. This is not, however, a common practice.
ii ) Depreciation is an application of the accruals (matching) concept because we are
recording the timing difference between payment for the fixed asset and the asset’s
loss in value
Depreciation is an estimate of the amount of loss in the value of fixed assets over an
estimated time period
As a fixed asset will be used by the business in the generation of profits for a number
of years, the full cost is not charged to the profit and loss account in a single year i.e.
when it is bought, only a proportion of the cost of the asset is charged to the profit
and loss account and matched against the revenue which it helps to generate
Fixed assets lose value as time goes by largely as a result of wear and tear. This loss
in value is known as depreciation and in business accounts it is necessary to record
the amount of this loss in value in order to present a realistic view of the business
The balance sheet must reflect as accurately as possible the value of fixed assets in
accordance with the prudence concept so that profits and asset values are not
overstated.
This was another reasonably popular question choice, with the full range of marks being
achieved.
Part a) required the preparation of a balance sheet from given information, although the trial
balance required a calculation of working capital = balancing figure of £45,330 only attempted
by a few candidates. The majority of candidates did recognise that ‘both sides’ of the balance
sheet should equal the same amount, but did not realise that the profit figure would need to be
adjusted for the current year’s total depreciation (£4,216). Weaker candidates did not adjust
the depreciation figure for fixed assets, showing the total from the trial balance in error, and
thus losing valuable marks. Despite being told that the bank was overdrawn, some candidates
treated this as a current asset in error.
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PQP/7B/Jan 2013
Only more well prepared candidates correctly identified and explained the business entity
concept, although many recognised the business and owner are treated as two separate entities.
Only a few candidates explained the effect of unlimited liability on the owner’s personal assets.
Part c) was also only answered fully by the more able candidates. Weaker candidates applied
the consistency concept which is not appropriate here as it an approach for applying
depreciation, not matching cost with wear and tear. As a result, some candidates wasted time
explaining the difference between reducing balance and straight line depreciation and/or which
should be used for the motor vehicle.
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PQP/7B/Jan 2013
3. a) i) Explain what is meant by the term accounting equation. (2 marks)
ii) Identify the components of the equation. (1 mark)
iii) State how the accounting equation is affected by the following transactions:
The owner of a business pays a cheque for £10,000 (for initial capital) into the
bank
A Mercedes is bought for the business for £45,000 paying by cheque
The business pays by cheque a supplier’s invoice for £3,500
The bank agrees to lend the business £20,000 and transfers the money into the
business bank account. (4 marks)
b) You have received the following statement of account from F. Ramsey & Son who are
VAT registered traders. However, their book-keeper has not had any formal training
and so the information and layout provided may not be wholly correct.
Statement Of Account
F. Ramsey & Son
31 North Street, Liverpool
W Hoddle Limited
Black Pool Road
Manchester
31 December 2012
Date 2012 Reference Dr Cr Balance
1 December B/F Dr 522. 80
8 December 62290 178. 00 700. 80
12 December 63492 132. 80 833. 60
14 December Cheque and
discount 522. 80 310. 80
17 December 89247 480. 00 790. 80
20 December 864 58. 00 732. 80
30 December 91082 347. 20 1,080. 00
Cash discount 5% if paid within one month of the date of this statement
TASK
i) Explain the transactions which gave rise to the entries dated:
12 December
14 December
20 December. (4 marks)
ii) Calculate the amount of cash discount W. Hoddle Ltd will receive if they pay the above
account on 18 January 2013. (1 mark)
iii) Explain why it is good practice to reconcile entries in a purchase ledger account and a
statement from a supplier. (3 marks)
iv) Explain why the purchase ledger and suppliers’ statement are unlikely to agree.
(5 marks)
Total 20 marks
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Question aims
To test the candidate’s ability to:
Understand the concepts behind the workings of the double entry system, using the
accounting equation
Use a supplier’s statement to identify purchase invoices; returns and discounts
Calculate cash discount
Explain the procedures to be adopted in order to reconcile the entries in a purchase ledger
account and a statement from a supplier.
Suggested answer
a) i) The accounting equation
Is the basis used to record financial information and will always balance because
the principal is that for each financial transaction there are two entries (the double
entry system) i.e. a debit and a corresponding credit entry
Involves the balance sheet, as it shows the net amount of what the firm owns
(assets less liabilities) on one side, and the funding used to by those assets
(capital) on the other side
Every business transaction will change the balance sheet and the equation,
because each transaction has a dual effect on the accounts.
ii) The three components are assets - liabilities = capital
Accept assets + expenses = liabilities + capital + income.
iii) The owner of a business pays a cheque for £10,000 (for capital) into the bank
Both sides of the equation increase
Debit bank account £10,000
Credit capital account £10,000
A Mercedes is bought for the business for £45,000 paying by cheque
The equation is unchanged as the transaction ’cancels itself out’
Debit Fixed Assets (Vehicle Account) £45,000
Credit Bank Account £45,000
The business pays by cheque a supplier’s invoice for £3,500
Both assets and liabilities decrease
Debit Suppliers Account (purchase ledger) £3,500
Credit Bank Account £3,500
The bank agrees to lend the business £20,000 and transfers the money into the
business bank account
Both assets and liabilities increase
Debit Bank Account £20,000
Credit Bank Loan Account £20,000
b) i) Use the Statement provided to explain the transactions which gave rise to the entries
12 December
£132.80 = goods sold on credit by F. Ramsey & Son to W. Hoddle Ltd
Accept: Invoice received (by W. Hoddle Ltd) for supplies on credit from F. Ramsey
& Sons.
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PQP/7B/Jan 2013
14 December
£522.80 = payment received by F. Ramsey & Son from W. Hoddle Ltd, including
settlement discount allowed to W. Hoddle Ltd
Accept: Payment made to F. Ramsey & Son which cleared the balance brought
forward on 1st December.
Settlement discount = £21.78; cheque = £501.02
20 December
£58.00 = goods returned by W. Hoddle Ltd to F. Ramsey & Son
Credit note issued by F. Ramsey & Son.
ii) £1,080 = £900 x 5% = £45. 00
1.20 VAT
iii) The statement is the suppliers’ (F. Ramsey & Son) record of transactions that have
taken place with a customer and should contain the same information as the customer’s
ledger (W. Hoddle Ltd), in a similar format
In a small firm it is relatively easy to check that goods as ordered have been supplied
but it is important that there is some mechanism in place to verify that the goods have
been received before an invoice from a supplier is entered in to the purchase ledger and
authorised for payment
W. Hoddle Ltd should check the statement from F. Ramsey & Son with their own
records of the transactions that have taken place using the purchase ledger
In most instances the reconciliation of the two sets of figures will be straightforward as
invoices, credit notes and other documentation will carry dates and reference numbers,
which make for easy referencing by both firms
The entries in the statement and the purchase ledger account can then be reconciled
and agreed for payment.
iv) Reconciliation does not mean that every invoice the supplier has listed on the
statement is in order, and should be paid. There may be reasons for differences, and
action should be taken to rectify these differences before payment is made.
These differences could arise as follows:
Goods have been sent back to the supplier shortly before the statement date, and the
supplier has not yet issued a credit note
The supplier may have offered a specific trade discount but the suppliers accounts
department have not been notified, and the goods have been invoiced at normal price
Payments may have been made after the statement date so that the supplier has not
included this in the latest statement
Goods from an order may not yet have been delivered to the customer i.e. marked ‘to
follow’ but the supplier has included these on the invoice and on the statement
There may be items on the statement that do not relate to the firm at all
Settlement discount may have been taken when it is outside the terms agreed and
therefore has been disallowed
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Invoices and credit notes may have been issued but not yet received, i.e. timing
differences
Invoices and credit notes may have gone missing i.e. not received at all.
This was not a particularly popular question choice, although more able candidates did achieve
good marks.
Part a) relied on the relationships assets - liabilities = capital although weaker candidates
used current assets and liabilities = working capital, which was not required. Candidates were
required to explain what is meant by this equation, although weaker candidates tried to
explain and give examples for each element of the accounting equation which was not
required. Candidates were then required to apply the accounting equation and to recognise
the ‘double entry’ transactions which had taken place. Although more able candidates gave
fully correct answers, the less able simply repeated the information provided linking it to the
accounting equation and not identifying the Debit and Credit entries. Some candidates used
the cumulative figures provided, and were not able to identify the ‘new’ transactions taking
place at each stage.
Part b) had not previously been examined in this way, and although more able candidates
were able to fully explain the transactions, weaker candidates did not appear to have read the
initial information stating that the layout ‘might not be wholly correct’ and confused invoices
with payments and credit notes with invoices, thus gaining few marks. The calculation of cash
discount also confused many candidates who did not exclude the VAT element and so
calculated £1,080 x 5% = £54 instead of the actual net figure of £900 x 5% = £45.
Part c) required candidates to apply a standard requirement for the credit manager i.e. the
reconciliation of the purchase ledger with supplier’s statement, and then identify reasons for
disagreement. Again, only the very well prepared candidates gained good marks for this part
of the question, with weaker candidates confusing the two aspects of the question, and thus
gaining few marks overall.
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PQP/7B/Jan 2013
4. Byron Beasley Limited manufactures components for the motor vehicle industry. The
following is a summary of some of its accounting ratios as at 31 December 2011 and 31
December 2012.
2012 2011
Current ratio 1.7 : 1 1.5 : 1
Quick ratio 0.8 : 1 1.1 : 1
Stock turnover 63 days 59 days
Debtors’ ratio 63 days 52 days
Creditors’ ratio 78 days 71 days
Interest cover 6.2 times 7 times
TASK
a) State the formulae which will have been used to calculate each ratio. (3 marks)
b) Explain the meaning and purpose of these ratios. (9 marks)
c) Identify and comment on possible reasons for any changes in the ratios for Byron Beasley
Limited. (3 marks)
d) Calculate and explain the cash operating cycle. (2 marks)
e) Discuss what actions Byron Beasley Limited could take to improve the cash operating cycle.
(3 marks)
Total 20 marks
Question aims
To test the candidate’s ability to:
Analyse the financial statements of a given organisation and evaluate their reliability as a key
indicator of performance:
State the formulae for a number of accounting ratios
Assess the performance of the business based on calculated ratios
Explain the importance of working capital and calculate the cash operating cycle for a
business.
Suggested answer
a)
Current ratio Current assets
Current liabilities
Quick ratio Current assets - stock
Current liabilities
Stock turnover Average stock x 365
Cost of sales
Debtors’ ratio Debtors x 365
Credit Sales
Creditors’ ratio Creditors x 365
Purchases
Interest cover Profit before interest and tax
Interest payments
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b) Current ratio
This measures the relationship between current assets and current liabilities i.e. working
capital. These figures are usually taken from the balance sheet.
Although there is no ideal working capital ratio 2:1 is often accepted i.e. there are £2 of
current assets for each £1 of current liabilities. This indicates how well a firm can meet its
day-to-day liabilities.
Quick ratio
This is also known as the ‘acid test’ which uses current assets and current liabilities from
the balance sheet, but stock is omitted.
This is because stock is the most illiquid of assets i.e. it has to be sold, turned into debtors
and then the cash collected from the debtors.
The balance between liquid assets (debtors and cash/bank) and current liabilities should
ideally be 1: 1 i.e. £1 of liquid assets to each £1 of current liabilities. At this ratio a
business is expected to be able to pay its current liabilities from its liquid assets. A figure
below 1: 1 indicates that the company would have difficulty in meeting pressing demands
from creditors.
Stock turnover
This ratio uses information from the Trading Account. Average stock is usually found by
making the simple average of the opening and closing stocks i.e.
(Opening Stock + Closing Stock
2
Stock turnover is the number of days’ stock held on average. As Byron Beasley Limited
manufacture components for the motor vehicle industry they may hold large volumes of
stock items.
Debtor’s ratio
This calculation shows how long, on average, debtors take to pay for goods sold to them
by the business. Some businesses make the majority of their sales on credit, but others
will have a lower proportion of credit sales. As the company manufacture components for
the motor vehicle industry it would be anticipated that the majority of their sales are on
credit terms.
The debt collection time should be compared with terms offered to contextualise the result
and should be compared with the previous year to show how efficient the firm is at
collecting the money that is due.
Results can also be compared with other businesses in the same sector for benchmarking.
Creditor’s ratio
This measures the speed at which a firm pays its creditors (i.e. suppliers) and should be
compared to the credit terms given. Efficient management of payment to creditors is that
it should be longer than the time taken to collect payment from debtors. Firms should
take full use of the credit period given, but while creditors can be a useful temporary
source of finance, delaying payment too long, may cause problems.
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Interest cover
This indicates the number of times the profit before interest and tax can cover the interest
payable. This is a useful ratio for lenders, as banks will usually specify a required ratio
(usually 3 times) when dealing with any loan agreement.
Although the ratio may show that there is sufficient profit to cover the interest due, this
does not necessarily mean that there is cash available to pay the interest, so that the
liquidity ratio must also be considered. However, there is no information to indicate
whether loans have been paid and/or increased during the year, which will affect the
interest cover.
c) The current ratio (working capital) has improved (2012 = 1.7; 2011 = 1.5) which is below
the average of 2:1, but the quick (liquidity) ratio has got worse (2012 = 0.8; 2011 = 1.1)
and is also now below the average of 1:1. This suggests a possible build up of stocks held
for re-sale.
The stock turnover has increased (2012 = 63 days; 2011 = 59 days) which also points to
an increase in stocks and/or a decrease in sales.
The debtors’ ratio (2012 = 63 days; 2011 = 52 days) shows that debtors are being
allowed to take a considerably longer period of credit.
The creditors’ ratio (2012 = 78 days; 2011 = 71 days) shows that this company is taking
longer to pay its debts.
The interest cover is decreasing (2012 = 6.2 times; 2011 = 7 times) which is above the
average of 3 times. This may be an indicator that there may be insufficient profits in the
future, and the firm may have difficulty in paying interest.
Overall there is deterioration in liquidity and control of working capital as well as interest
cover. It appears there may be:
Overstocking i.e. money is tied up un-necessarily in unsold stock which could lead to
loss of sales
Poor stock control, which could mean that some of the stock included in the balance
sheet figure may be un-saleable or obsolete
A relaxation of credit control procedures as it now takes on average 11 days longer to
collect debts due, which may lead to bad debts increasing.
d) Calculate and explain the cash operating cycle
Stock turnover + Debtor Collection time – Creditor payment time
2012 63 + 63 = 126 - 78 = 48 days
2011 59 + 52 = 111 - 71 = 40 days.
This is a further use of ratios to calculate the period of time between payments for goods
received into stock and the collection of cash from customers in respect of their sale.
The shorter the length of time between the initial cash outlay and the ultimate collection of
cash, the lower the value of working capital to be financed by the business.
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PQP/7B/Jan 2013
e) Whilst the cash operating cycle is the same for both years, it might be appropriate for the
firm to consider actions which will reduce the cycle by either:
Reducing stocks, which will lower the number of days that stock is held but this might
mean that a poorer service is offered to customers, who might take their business
elsewhere. The firm might also consider investing in a stock management system to
improve stock control.
Speeding up the rate of debtor collection i.e. allowing debtors less time to pay, but
this may also cause customers to seek alternative suppliers who are offering better credit
terms. Alternatively there may be an option to offer discounts for early settlement, or to
charge interest on overdue accounts.
Slowing down the rate of creditor payments i.e. taking longer to pay the creditors,
but this may be difficult, as suppliers might decline to supply goods unless immediate
payment is forthcoming i.e. may ask for cash with order. This could have a detrimental
effect on the firm’s credit rating and other suppliers might also refuse to supply goods.
Ratio analysis is a very common type of question and was popular with some well developed
answers which achieved good marks. However, weaker candidates appeared to be confused
by the lack of financial statements and were confused by the fact that the actual ratios had
already been calculated.
Part a) required the relevant formula for each ratio and whilst many gained max marks here,
the ratio for interest cover caused most difficulty.
Part b) and c) should have been anticipated and again, many gave good explanations although
weaker candidates gave very basic comments and did not achieve the development required.
Only the more well prepared candidates fully recognised the reasons for the changes in the
ratios over the two years.
Part c) and d) required candidates to apply and discuss the cash operating cycle and again whilst
many did well, weaker candidates did not calculate the cycle for both years, and thus their
explanation about how the cycle could be improved was not fully correct.
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PQP/7B/Jan 2013
5. a) Explain the main similarities and differences between ordinary shares and debenture
loans. (6 marks)
b) You have been provided with the following selected balances of Filo plc as at 31
December 2012, together with the additional information which follows:
£
Retained profits as at 31 December 2011 102,000
Stocks held at 1 January 2012 84,000
Purchases 1,462,000
Turnover 2,456,000
Returns inwards 108,000
Returns outwards 37,000
Carriage inwards 14,700
Wages and salaries 136,000
Rent and business rates 14,000
General distribution expenses 28,000
General administrative expenses 24,000
Discounts allowed 36,000
Bad debts 5,000
Loan interest 12,000
Motor expenses 16,000
Interest received on bank deposits 6,000
Other income 7,000
Motor vehicles at cost 146,000
Equipment at cost 27,000
Ordinary share dividends paid 120,000
Stocks held at 31 December 2012 £102,000
Wages and salaries accrued amount to £12,000
Rent and business rates prepaid amount to £1,700
Depreciate motor vehicles 20% and equipment 10% on cost
Ordinary share dividend proposed £42,000
Accrue auditors’ remuneration of £11,000
Accrue corporation tax for the year on ordinary profits £364,000.
TASK
Prepare a trading, profit & loss and appropriation account for internal use. (14 marks)
Total 20 marks
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PQP/7B/Jan 2013
Question aims
To test the candidate’s ability to:
Explain and describe the terminology used in the preparation of statutory accounts for
limited companies
Use an extract of a trial balance to construct a trading, profit and loss and appropriation
account, including adjustments for accruals, prepayments and depreciation
Suggested answer
a) Ordinary shares
Also known as equity shares, they are the ultimate risk takers
Shareholders are owners of the company who are normally entitled to vote at general
meetings of the company e.g. to elect directors and appoint auditors
Shareholders may receive a dividend annually, at a rate decided by the company’s
directors. The dividend varies each year depending on the profit, and is an
appropriation of the profit. If the company is not profitable enough a dividend may
not be paid.
They are last to be repaid the value of their shares in the event of the company going
into liquidation
Shareholders funds are Non-repayable except on the liquidation of the company
Their rights are outlined in the Articles of Association
Dividends are non-deductible from company profits i.e. for tax purposes.
Debenture loans
These are long-term loans, which are usually secured against the assets of the
company
Debenture holders have no voting rights
Receive a fixed rate of interest which constitutes a charge against income when
calculating the profit
They have priority over preference dividends (and thus over ordinary shareholders)
They are repaid before either preference or ordinary shareholders in the event of
liquidation as they are usually secured creditors
They are normally repayable after a fixed period of time
Their rights are specified at the time of issue of the loan agreement
Interest is deducted from profits for tax purposes.
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PQP/7B/Jan 2013
b) Filo plc -Trading, profit and loss and appropriation account for the year ended 3 December
2012
Trading account £ £ £
Sales 2,456,000
Less: Returns inwards (108,000)
2,348,000
Less: Cost of sales
Opening stock at 1 January 2012 84,000
Add: purchases 1,462,000
Less: returns outwards (37,000) 1,425,000
Add carriage inwards 14,700
1,523,700
Less: Stock at 31 December 2012 (102,000)
1,421,700
Gross profit 926,300
Add: other operating income 7,000
bank interest received 6,000 13,000
939,300
Less operating costs
Wages and salaries (136,000 +
12,000) 148,000
Rent and business rates (14,000 - 1,700) 12,300
General distribution expenses 28,000
General administrative expenses 24,000
Discounts allowed 36,000
Bad debts 5,000
Motor expenses 16,000
Auditors remuneration 11,000
Depreciation: motor vehicles 29,200
equipment 2,700 (312,200)
Profit before interest and tax 627,100
Less: loan interest (12,000)
Profit before taxation 615,100
Corporation tax 364,000)
Profit for the year 251,100
Less: ordinary share dividends
paid 120,000
proposed 42,000 (162,000)
89,100
Retained profits brought forward 102,000
Retained profits carried forward OF 191,100
Note:
This answer is in accordance with the ICM Study Text. However, some students may be aware
that the rules have changed with regard to how dividends are shown on the accounts. As they
are not paid out until after they have been agreed at the AGM they should be accrued.
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PQP/7B/Jan 2013
This was a popular question choice and many of the candidates who attempted this question
found it manageable and achieved high marks.
Part a) required an understanding of the differences and similarities between ordinary share
capital and debenture loans. As anticipated only the very well prepared candidates achieved
max marks for this part of the question.
For part b) candidates were required to prepare the trading, profit and loss account and the
adjustments were done accurately by the more able candidates. Some still had difficulty
dealing with opening/closing stock reversing these figures. Common errors included:
Including the £108,000 returns inwards as part of operating costs (expenses) and not
deducting from sales
Treating carriage inwards £14,700 as expenses not cost of sales
£37,000 returns outwards either treated as “+” rather than deduction from cost of sales
and/or treating this as sales returns
Including the £12,000 loan interest as part of expenses and not recognising the profit
should be calculated before interest and tax
A few candidates treated PBIT as Gross Profit in error.
The appropriation account was only prepared accurately by the more able, as weaker
candidates ignored the £120,000 dividend paid. The retained profit b/f £102,000 was also
ignored by less able candidates.
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PQP/7B/Jan 2013
6. a) Claire Hamilton runs an ironing service, and now wishes to buy a more reliable motor
vehicle for her business.
TASK
Explain two advantages and two disadvantages of these two alternatives:
i) Hire purchase. (4 marks)
ii) Leasing. (4 marks)
b) Revamp Furniture Ltd prepare annual figures to 31 May and have provided you with the
following management figures for month 7, and the cumulative budget for the year 2013:
Budget trading and profit and loss account for the year ended 31 May 2013
Period 7 Cumulative Whole Year
Budget Actual Variance Budget Actual Variance Budget
Latest forecast
£000 £000 £000 £000 £000 £000 £000 £000
Sales 500 600 100 3,500 3,420 (80) 6,000 6,200
Direct cost of sales
280 322 (42) 1,960 1,951 9 3,500 3,850
Factory overheads
58 69 (11) 420 400 20 700 750
Administration
& selling costs 122 123 (1) 840 800 40 1,320 1,147
Total costs 460 514 (54) 3,220 3,151 69 5,520 5,747
Operating profit
40 86 46 280 269 (11) 480 453
Profit: sales % 8% 14.3% 8% 7.9% 8% 7.3%
TASK
i) For each item of income and expenditure, explain what this information tells the directors
of Revamp Furniture Ltd about their business profits. (10 marks)
ii) Explain the circumstances when an auditor might issue a qualified opinion on the financial
statements. (2 marks)
Total 20 marks
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PQP/7B/Jan 2013
Question aims
To test the candidate’s ability to:
Explain the advantages and disadvantages of medium-term debt finance for a sole trader
Understand the process of monitoring and analysing budgets using variance analysis
Explain why and when an auditor might issue a qualified opinion.
Suggested answer
a) i) Hire purchase
Hire purchase is actually two agreements, one for hire and the other an option to
purchase at the end of the term by paying an additional amount. Purchase is usually via
a secured loan that is paid back monthly across the agreed period, usually 3 - 5 years.
Monthly payments are therefore much higher than when ‘leasing’.
Advantages of Hire purchase
Hire Purchase is a method of acquiring assets without having to invest the full amount
in buying them. Typically, a hire purchase agreement allows the hire purchaser sole use
of an asset for a period after which they have the right to buy them, often for a small or
nominal amount. The benefit of this system is that companies gain immediate use of
the asset without having to pay a large amount for it or without having to borrow a
large amount.
Hire purchase is cheaper than an, ‘unsecured’, personal loan because the ownership of
the car is retained by the finance company, i.e. it is secured, and if you don’t make
your monthly payments then they will simply take the vehicle back. However, you will
still have to pay any outstanding installments, plus any interest due.
Hire purchase is relatively quick as it is offered directly by most dealers and
manufacturers and is agreed to more easily than personal loans
Deposits are lower than with personal loans
If you intend to own and retain the same car for more than 4 or 5 years, than hire
purchase is cheaper over the long term than leasing because there are no further
payments once you own it completely.
Disadvantages of Hire Purchase
Often the finance company will expect all of the VAT for the whole value of the car to be
paid with the first installment, whereas with leasing the upfront payment is only the
equivalent of three months payments:
The monthly payment required is always much higher
You are paying interest on the full value of the car, even if you don’t intend to retain
it for longer than 2-4 years
There are often hidden fees and so you would need to shop widely before being sure
you have a good deal
The termination fee is significant if your circumstances change and you don’t want
the car anymore.
You are not the owner of the car from day one so you can not modify or sell it.
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PQP/7B/Jan 2013
ii) Leasing
Leasing is a contract between the leasing company, the lessor, and the customer (the
lessee). The leasing company buys and owns the asset that the lessee requires. The
customer hires the asset from the leasing company and pays rental over a pre-determined
period for the use of the asset. There are two types of leases:
Finance Leases
Under a finance lease the rental covers virtually all of the costs of the asset therefore the
value of the rental is equal to or greater than 90% of the cost of the asset. The leasing
company claims writing down allowances, whilst the customer can claim both tax relief and
VAT on rentals paid
Operating Leases
The lease will not run for the full life of the asset and the lessee will not be liable for its full
value. The lessor or the original manufacturer or supplier will assume the residual risk.
This type of lease is normally only used when the asset has a probable resale value, for
instance, aircraft or vehicles.
The most common form of operating lease is known as contract hire. Essentially, this gains
the customer the use of the asset together with added services. A very common example
of an asset on contract hire would be a fleet of vehicles.
Advantages of Leasing
Car leasing provides the option of making no down payment, although you must still make
the first month's payment and any registration fees. Some promotional lease deals require
a down payment to get the deal.
Since monthly lease payments are lower than with buying, you get to drive a new vehicle
every two to four years, depending on the term length of your lease.
Most people like to lease for a term that coincides with the length of the manufacturer's
warranty coverage so that if something goes wrong with the car, the repairs are always
covered.
Most car leases require little or no down payment, which makes getting into a new car
more affordable and frees up your cash for other things. However, you can choose to
make a down payment, or trade in your old vehicle, to lower your monthly payment
amount.
With leasing, the headaches of selling a used car are eliminated. When your lease ends,
you simply turn it back to the leasing company and walk away, unless you decide to buy it
or trade it.
Disadvantages of Leasing
If you must terminate your lease before the end of your contract, the cost is usually very
high, much higher than might be expected.
The trade-off for low monthly lease payments is that you typically do not build ownership
or trade-in value in your leased vehicle. However, it is fairly common that the market
value of a vehicle at lease-end is higher than the purchase option price specified in the
lease contract, which means you may have some equity trade value.
If you exceed the mileage allowance in your lease contract, you will be charged for the
extra miles at a specified per-mile rate. A large mileage excess could result in a hefty
charge, even at a reasonable per-mile rate.
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PQP/7B/Jan 2013
If you return a leased vehicle at lease-end with excessive dents, scratches, or unrepaired
accident damage, you will be charged — because those damages reduce the vehicle's
value. Most lease companies clearly specify what is considered "excessive" so that you'll
know if you should get it repaired before returning your vehicle. Get the repairs done
yourself before you return the vehicle and avoid being charged.
b) i)
Sales for Period 7 were significantly above budget by favourable £100,000. However, the
cumulative to date figures show that sales had in fact been below budget. The increase for
Period 7 has reduced this adverse variance/shortfall to £80,000. If this trend continues
then by the end of the year, overall sales should exceed budget by £200,000. However,
additional strategies to increase sales may be required if overall profit margins are to be
maintained at 8%.
Direct Cost of Sales are naturally higher when sales are higher and it is possibly easier to
understand the trend by calculating direct costs as a %age of Sales i.e. Direct costs x 100.
Sales
Budget Actual
Period 7 280/500 x 100 56.0% 322/600 x 100 53.66%
Cumulative to
date 1960/3500 x 100 56.0% 1951/3420 x 100 57.05%
Forecast for year 3500/6000 x 100 58.33% 3850/6200 x 100 62.10%
The forecast for direct costs was original set at 56%, but this has increased to 57.05% and
is now predicted to be 62.10%. This is now forecast for the year as a whole as adverse by
£350,000, i.e. additional direct costs are anticipated.
However, period 7 direct costs are not consistent with this trend showing an adverse
variance of £42,000, and the directors may need to investigate the variance further to
establish if this is related to some peculiarity in sales mix or as a result of savings from bulk
buying, which has reduced costs.
Factory overheads were un-favourable in period 7, adverse by £11,000) although
cumulative the variance shows a favourable figure of £20,000. Overall the forecast for the
year shows an adverse variance of £50,000, i.e. additional costs not included in budget.
Again the directors may need to investigate this trend, as the budget may not have included
inflationary increases correctly.
Administration and selling costs are also adverse by £1,000 with a cumulative
favourable variance of £20,000. This predicts an overall favourable variance of £173,000.
It would appear that considerable economies are planned and have already commenced.
Operating profits have improved for Period 7 by a favourable figure = £46,000 although
the cumulative figure is still adverse by £11,000. This shows an overall improving trend but
the forecast for the year remains as adverse £27,000 i.e. profits will not be as high as
anticipated. This is confirmed by the Profit margin, which has fallen from the budget figure
of 8% to an overall margin of 7.3%. The directors would be advised to request more
frequent variance reporting (maybe weekly) so that tighter control on costs can be
maintained.
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PQP/7B/Jan 2013
ii) When deciding to give a qualified opinion, auditors must objectively take into consideration
uncertainties about the outcome of future events, and their potential financial effect.
The auditors may give a qualified opinion if they disagree with the treatment or disclosure
of an item in the financial statements, and in the opinion of the auditors, the effect of this
does not give a true and fair view.
Disagreements may arise on:
The use of an inappropriate accounting treatment or disclosure
The actual accounts or facts included
Failure to comply with accounting requirements
A limitation on the scope of the auditors examination i.e. the quality and type of
evidence provided or insufficient evidence
Not all accounting records being made available
Directors preventing a ‘testing’ procedure requested by the auditors e.g. to verify the
stock take.
This was the least popular question choice and candidates did not appear prepared to deal with a
question about budget analysis, which was disappointing.
Part a) was generally well answered as candidates could explain the advantages and
disadvantages of Hire Purchase v Leasing. However, weaker candidates either prepared a ‘list’
and/or did not provide detailed explanations which were required for full marks.
Part b) required an explanation of the cause of each variance based on the current period; the
cumulative figures and the year. Weaker candidates did not identify the variance as
adverse/favourable and many simply repeated the information given, gaining few marks.
Explanations were vague using terms such as ‘down/up’ or jargon (slipping away) which made it
difficult to award marks. No candidates attempted to calculate %age of sales and did not appear
to be prepared for a question of this nature.
Part b) required an understanding of the auditor’s role when giving a qualified opinion, and again
only the more well prepared gave fully developed explanations and examples.
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PQP/7B/Jan 2013
7. a) The accountant for James Scriven Ltd has prepared the following aged debtor analysis.
As credit manager, you have to decide what bad debts to write off and then calculate
the new provision for doubtful debts.
Aged debtor analysis at 31 December 2012
Age of debt
Debtor Total
debt
Less than
1 month
1-2
months
2-3
months
3-4
months
Over 4
months
Peter Lounds
Ltd 4,200.80 2,000.00 1,800.40 210.30 189.20
Zandra Smith 750.43 750.43
D S Cox 3,900.00 1450.26 2250.70 199.00
Softseat Ltd 580.67 340.67 240.00
P Bond 2,622.20 900.00 1,220.00 200.40 292.12 9.62
T F Day 780.00 340.60 439.40
B G Moon 169.23 121.23 48.00
Total 13,002.53 4,812.09 5,758.50 410.80 821.99 1,199.05
The company’s credit policy is:
To write off as bad debts all debts over 4 months old
Make a specific provision for debts over £200 and between 3 and 4 months old
Make a general provision of 3% of the remaining debtors.
TASK
a) i) Showing your workings, calculate the new provision for doubtful debts.
(3 marks)
You have also been provided with the following additional information:
In 2011, a debt owed by Quality Furnishings Ltd was written of as a bad debt.
On 31 March 2012, £101.34 (including VAT at standard rate) was received in final
settlement of the debt.
The provision for bad debts at 1 January 2012 was £340.
ii) Using both the relevant aged debtor analysis and this additional information, prepare
the following accounts:
Bad debts
Provision for doubtful debts
Bad debts recovered
Quality Furnishings Ltd for 2012 only. (7 marks)
iii) If gross profit was £192,000 and expenses £78,000 before the above adjustments,
showing your workings calculate the revised net profit. (3 marks)
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PQP/7B/Jan 2013
b) The accountant informs you that he has extracted a trial balance, but this does not agree
and he has placed the difference in a suspense account.
The following errors have been identified:
£35 discount allowed to Forest Ltd has been debited to their account
Purchases of goods for £910 from Drystone Brothers posted to their account in error
as £700
Sales account has been overcast by £70
A sales invoice for £245 has been entered in Clair & Sons account as £385
TASK
i) Make appropriate journal entries to rectify these errors. (4 marks)
ii) Draft the suspense account after the above errors have been corrected showing the original
balance. (3 marks)
Question aims
To test the candidate’s ability to:
Calculate the bad debts to be written off from an analysis of balances outstanding
Calculate the provision for doubtful debts using the same analysis
Prepare a provision for doubtful debts account
Prepare a bad debts account, including a bad debt recovered
Prepare a debtors account
Recalculate the net profit after writing off bad debts and making a new provision for
doubtful debts
Use the journal to correct errors in a trial balance
Use a suspense account to identify differences in trial balance.
Suggested answer
a) i) The new provision for doubtful debts is as follows:
Bad debts written off: 750.43 + 199.00 + 240.00 + 9.62 = 1,199.05
Remaining debtors: 13002.53 – 1199.05 = 11,803.48
Specific provision (£340.67 + 292.12) 632.79
General provision (11,803.48 – 632.79 = 11709.69 x 3%) 335.12
Provision for doubtful debt 967.91
ii)
Bad debts account
Date Details Dr Cr Balance
Dec 31 Zandra Smith 750.43 750.43
D S Cox 199.00 949.43
Softseat Ltd 240.00 1,189.43
P Bond 9.62 1,199.05
Dec 31 Profit and loss 1,199.05 0
Provision for bad debts account
Date Details Dr Cr Balance
Jan 1 Balance (340.00)
Dec 31 Profit and loss 627.91 (967.91)
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PQP/7B/Jan 2013
Bad Debts Recovered account
Date Details Dr Cr Balance
Mar 31 Quality Furnishings Ltd 84.45 (84.45)
Dec31 Profit and loss 84.45 0
Quality Furnishings Ltd account
Date Details Dr Cr Balance
Mar 31 Bad debts recovered 84.45 84.45
Mar 31 VAT 16.89 101.34
Mar 31 Bank 101.34 0
iii) Gross profit 192,000.00
Expenses:
Given 78,000.00
Increase in provision for doubtful debts 627.91
Bad debts (£1,199.05 - 84.45) 1,114.60
79,742.51
Net profit 112,257.49
b) i) Make appropriate journal entries to rectify these errors
Details Dr Cr
Suspense Account 70.00
Forest Ltd 70.00
Suspense Account 210.00
Drystone Brothers 210.00
Sales Account 70.00
Suspense Account 70.00
Suspense Account 140.00
Clair and Sons 140.00
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PQP/7B/Jan 2013
ii) Draft the suspense account after the above errors have been corrected showing the original
balance.
Suspense Account
Dr Cr Balance
31 December Forest Ltd 70.00 70.00
Drystone Brothers 210.00 280.00
Sales 70.00 210.00
Clair & Sons 140.00 350.00
Trial balance difference
(missing figure). Also
accept as opening balance
350.00 0
This was not a particularly popular question choice and few candidates who attempted a
response achieved reasonable marks.
Part a) required calculations and more able candidates correctly identified bad and doubtful
debts, although the calculation of the bad debts adjustment resulting in a credit to P&L of £84.45
(net of VAT) was frequently shown including the VAT element. Whilst the more able candidates
correctly prepared the actual accounts, using ‘rolling balance’, few actually showed the fully
correct entries here. The bad debts account frequently showed only the total £1,199.05 without
the individual account details, which are required to complete the double entry. For Quality
Furnishings the debit for bad debt recovered was again show gross (i.e. including VAT) although
candidates did recognise the correct total paid to bank = credit £101.34. These errors affected
the calculation of the amended net profit figure, with few candidates including the £627.91
increase for the current year in the bad debts provision.
Part b) required journal entries and a suspense account, which should have been anticipated as
this is frequently examined. Whilst more able candidates gained max (or near max) marks for
this section, weaker candidates did not recognise that the £35 = x 2 (£70) to correct the posting
error whilst the adjustments for the other entries were frequently reversed. Some candidates
did not calculate the £140 transposition error, attempting to show all the entries to correct Clair
and Sons account, and getting quite confused! The suspense account was affected by the
answers to the first part of this section, and so only the better prepared candidates gained good
marks here.
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PQP/7B/Jan 2013
8. Jenny Fisher set up a business selling unusual gifts and decorative items from a small
shop three years ago. The following account balances were brought forward on 1
January 2013.
Account Balance
Bank 240.21
VAT 86.00 owed by Customs and Excise
Discount allowed 25.12
Jones Stores 312.15 Dr
Tim Trainer 680.20 Cr
Sales 809.25
During the first two weeks of January 2013, the following transactions occurred:
January 2 Cash takings of £1,380 for the last week in December 2012 were banked.
January 3 A sales invoice for £900.00 excluding VAT was sent to Jones Stores for
goods supplied in December 2012.
January 4 A cheque for £650.00 was sent to Tim Trainer in full settlement of their
account. The balance remaining is to be treated as a discount.
January 4 A credit note for £22.60, excluding VAT, was sent to Jones Stores for goods
billed in error.
January 5 Jones Stores paid £300.00 in full settlement of the balance owing on 1st
January.
January 8 Purchased a computer costing £450.00 including VAT from PC Supplies to
help with the business accounts. Paid an initial deposit of 20%.
January 10 The VAT owed to Jenny at 1 January 2013 was paid by HM Customs &
Excise directly into the business bank account.
TASK
a) Open all the accounts that are necessary to record the above transactions and enter all
balances brought forward on 1 January 2013. (3 marks)
All credit balances must be shown in brackets.
b) Make the necessary entries in the relevant accounts to record the transactions,
including appropriate entries for discounts and VAT. (15 marks)
All credit balances must be shown in brackets.
c) Explain the principal difference between cash and credit sales. (2 marks)
Total 20 marks
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PQP/7B/Jan 2013
Question aims
To test the candidate’s ability to:
Carry out double entry book-keeping to record sales, purchases and sales returns in
the ledger accounts
Calculate and record VAT
Record receipts and payments
Record discounts allowed and received
Record the purchase of fixed assets.
Explain the difference between cash and credit sales
Suggested answer
a) and b)
Account: Sales
Date Details Dr Cr Balance
Jan 1 Balance b/fwd 809.25 (809.25)
Jan 2 Cash Takings 1,150.00 (1,959.25)
Jan 3 Jones Stores 900.00 (2,859.25)
Account: Bank
Date Details Dr Cr Balance
Jan 1 Balance b/fwd 240.21 240.21
Jan 2 Cash Sales 1,380.00 1,620.21
Jan 4 Tim Trainer 650.00 970.21
Jan 5 Jones Stores 300.00 1,270.21
Jan 8 PC Supplies 90.00 1,180.21
Jan 10 VAT 86.00 1,266.21
Account: VAT
Date Details Dr Cr Balance
Jan 1 Balance b/fwd 86.00 86.00
Jan 2 Cash Sales 230.00 (144.00)
Jan 2 Credit Sales 180.00 (324.00)
Jan 4 Sales returns 4.52 (319.48)
Jan 8 PC Supplies 75.00 (244.48)
Jan 10 Bank 86.00 (330.48)
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PQP/7B/Jan 2013
Account: Jones Stores
Date Details Dr Cr Balance
Jan 1 Balance b/fwd 312.15 312.15
Jan 2 Sales invoice 1080.00 1,392.15
Jan 4 Credit note 27.12 1,365.03
Jan 5 Bank 300.00 1,065.03
Jan 5 Discount allowed 12.15 1,052.88
Account: Tim Trainer
Date Details Dr Cr Balance
Jan 1 Balance b/fwd 680.20 (680.20)
Jan 4 Bank 650.00 (30.20)
Jan 4 Discount received 30.20 0
Account: Discount allowed
Date Details Dr Cr Balance
Jan 1 Balance b/fwd 25.12 25.12
Jan 4 Jones Stores 12.15 37.27
Account: Sales returns
Date Details Dr Cr Balance
Jan 4 Jones Stores 22.60 22.60
Account: Discount received
Date Details Dr Cr Balance
Jan 4 Tim Trainer 30.20 (30.20)
Account: PC Supplies
Date Details Dr Cr Balance
Jan 8 Computer 450.00 (450.00)
Jan 8 Bank (Deposit) 90.00 (360.00)
Account: Computers
Date Details Dr Cr Balance
Jan 8 PC Supplies 375.00 375.00
c) Cash sales are paid for immediately i.e. the customer will pay Jenny Fisher for goods at
the time of the sale. VAT if applicable will be included in the total amount charged to the
customer. Payment is generally in cash but could be cheque or any other acceptable
method.
Credit sales are where a regular customer (e.g. Jones Stores) has arranged for an account
with the supplier. This will be shown in the sales ledger which summarises the transactions
for a month. At the end of the month Jenny Fisher will send the customer a Statement of
Account, which summarises all the transactions, including VAT at the current rate. A
settlement discount may be allowed if the customer pays within a set period, e.g. within
seven days. The customer could pay by cash, cheque or BACS if arrangements have been
made with the supplier.
40
PQP/7B/Jan 2013
This was a fairly popular choice, and candidates achieved the full range of marks available.
Part a) was designed to test knowledge of the rules of double entry. This was generally well
done and some candidates achieved maximum marks although only the very well prepared
gained the additional mark for presentation. Some candidates did not appear to recognise the
requirement for continuous balance format, using ‘T’ accounts and/or not including any
balance total. Candidates are again reminded that every entry must have a date, narrative
and amount in the correct column, plus a running balance, to get the mark. All credit balances
must be bracketed. A few candidates used “rounding” for the entries, which is not appropriate
in the ledger account, as the totals must be correct, and show the actual balance. Although
the “own figure” rule was applied to give marks for the balance figure, using rounding lost
some candidates valuable marks. There are still a few students who don’t correctly apply the
double entry rules and weaker candidates “reversed” the Debit/Credit entries gaining no marks
and wasting time. The main errors were as follows:
Including £12.15 discount allowed in the Bank account, should be Jones Stores
Showing ‘Net’ figure of £360 for PC Supplies, should be Gross £450; Deposit £90
Ignoring VAT element of £75 on purchase of computer
Ignoring VAT element of £180 on cash sales
Showing cash sales gross = £1,380 (should be net of VAT = £1,150)
Creating a separate account for cash sales, which should be included in ‘sales’.
Showing the opening balance for the VAT account as a credit rather than a debit as was the
case in this question.
Part b) required candidates to explain the difference between cash and credit sales, which the
majority were able to deal with correctly.
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