OVERVIEW OF ACCOUNTING

1.1 Objectives of Financial Reporting.

The objective of financial reporting is to provide information about the financial position,

performance and changes in the financial position of an enterprise that is useful to a wide

range of users in making economic decisions. The economic decisions that are taken by the

users of financial reports require an evaluation of the ability of an enterprise to generate cash

and of the timing and certainty of its generation. This can be achieved if users of financial

reports are provided with information that focuses on the enterprises’.

a) Financial position which is affected by the economic resources it controls, its financial

structure, its liquidity and solvency and its ability to adapt to changes in the environment

in which it operates.

b) Performance measured by the return obtained by the enterprise on the resources it

controls.

c) Cash flow by indicating the amounts and principle sources of its cash inflows and

outflows.

The user–groups of financial reports include:

Equity investors, existing and potential;

Lenders, existing and potential;

Employees, existing, potential and past;

Analysts / Advisers including journalists, economists, Credit Rating Agencies;

Business Contacts including Customers, Suppliers, Competitors;

Government including Tax Authorities;

The Public.

The most frequently produced financial reports are known as Financial Statements. A complete

set of financial statements includes the following components:

a) A balance sheet

b) Income statement

c) Cash flow statement

d) A statement showing either;

All changes in equity or;

Changes in equity other than those from capital transactions with owners and

distributions to owners.

e) Accounting policies and explanatory notes. However, financial statements do not provide

all the information that users need to make economic decisions since they largely portray

the financial effects of past events and do not necessarily provide non – financial

information.

1.2 The Regulatory Framework of Accounting.

In order to produce financial statements that provide information that is useful to

stakeholders, certain reporting principles and guidelines are necessary. These principles and

guidelines are embodied in what is known as the Regulatory framework of accounting.

Financial statements prepared in line of the requirements of the Regulatory Framework of

Accounting are frequently described as giving a true and fair view of or presenting fairly the

financial position and performance of an enterprise.

The Regulatory Framework of accounting constitutes therefore the factors which have

shaped financial reporting. The following factors can be identified.

The following factors can be identified:

1. National / Local Legislation

2. Accounting Concepts and individual judgement

3. Accounting standards

4. Other international influences

National / Local Legislation:

Financial reporting requirements may be stipulated in the Laws governing a particular

country. For example; in Uganda, the following provide specific requirements:

Companies Act Cap 85, States that establish parastatals and other government bodies, Local

Government Act, Public Finance and Accountability Act (2003).

Accounting Concepts and Individual Judgement:

Financial Statements are prepared on the basis of a number of fundamental accounting

assumptions and conventions. In addition, many figures are derived from the application of

judgement in putting these assumptions into practice. However, it’s possible that people

exercising their judgement on the same facts can arrive at very different conclusions.

Examples include: Valuation of Buildings, Accounting for inflation Valuation of intangibles.

If the exercise of judgement is completely uncontrolled / any comparability between the accounts

of different organizations will disappear especially where deliberate manipulation occurs in order

to present accounts in the most favourable light.

Accounting Standards:

In an attempt to deal with some of the subjectivity and to achieve comparability between

organizations, accounting standards have been developed. These are developed at both national

and international levels.

Accounting Standards are set by an independent private sector body called National /

International Accounting Standards Committee with the objective of achieving uniformity in the

accounting principles which are used by businesses and other organizations for financial

reporting.

In Uganda, the National Accounting Standards Board unilaterally adopted IAS except for

some modification that shall be required from time to time to take account of the unique

Ugandan circumstances. International Accounting Standards however, do not override local

regulations on financial statements.

International Accounting Standards are produced by the International Accounting Standards

Committee (IASC) which was set up in 1973 to work for the improvement and harmonization of

financial reporting. The IASC develops IAS’s through an international process that involves the

statements and national standard setting bodies.

Therefore, IASC, has the following objectives:

(a) To develop, in public interest a single set of high quality, understandable and enforceable

global accounting standards that require high quality, transparent and comparable

information in financial statements and other financial reporting to help participants in

the world’s capital markets and other users make economic decisions.

(b) To promote the use and rigorous application of those standards.

(c) To bring about convergence of national accounting standards and International

Accounting Standards to high quality solutions.

IASC is established as an independent organization composed of two main bodies: the

Trustees and the Board. Other include; Standing Interpretations Committee and Standards

Advisory Council.

The IASC has published 41 IASs’ as well as revised standards.

The advantages Uganda stands to benefit from this stem from the advantages of international

harmonization:

1. Investors, both individual and corporate, would like to be able to compare the financial

results of different companies internationally as well as nationally in making investment

decisions.

2. Multinational companies would benefit from harmonization for many reasons such as;

Better access would be gained to foreign investors funds.

Management control would be improved because international harmonization

would aid internal communication for financial information.

Appraisal of enterprises would be more straight foreward.

It would be easier to comply with the reporting requirements of overseas stock

exchanges.

A reduction in audit fees might be achieved.

Transfer of accounting staff across national borders would be easier.

3. Uganda Government will save time and money and would attempt to control the

activities of foreign multinational companies.

4. Regional economic groups usually promote trade within a specific geographical region.

This would be aided by common accounting practices within the region.

Barriers to International Harmonization:

1. Different purposes of financial reporting. In some countries the purpose is solely for tax

assessment while in others it is for investors’ decision making.

2. Unique circumstances. Some countries may be experiencing unusual circumstances

which affect all aspects of everyday life and impinge the ability of companies to produce

proper reports.

3. Developing countries are obviously behind in the standard setting process and they need

to develop the basic standards and principles already in place in most developed

countries and the man power to interpret and apply the international standards.

Other Influences

These include Stock exchange regulations and EU directives.

1.3 The Qualitative Characteristics of Financial Information.

Qualitative characteristics are attributes that make the information provided in financial

statements useful to others. For information to be useful, it must be:

1. Material. Information is material if its omission or misstatement could influence the

economic decisions of users taken on the basis of the financial statements.

2. Relevant to the decision making needs of users. Information has the quality of relevance

when it influences the economic decisions of users by helping them evaluate past, present

or future events or by confirming or correcting their past valuations.

3. Reliable. Information has the quality of reliability when it is free from material error and

bias and can be depended upon by users. To represent faithfully in terms of valid

description that which it purports to represent or could reasonably be expected to

represent. Thus financial information should be neutral, prudent and complete and should

present the substance of economic events.

4. Useful presented to enhance comparability and understandability.

(a) Comparability. Users of financial information must be able to compare the financial

statements of an enterprise over time to identify trends in its financial position and

performance. Users must also be able to compare the financial statements of different

enterprises to evaluate their relative financial position, performance and financial

adaptability. Consistency is therefore required. In addition, adequate disclosure of

accounting policies used in the preparation of the statements as well as the

corresponding figures enhance comparability.

(b) Understandability. The information provided in financial statements should be

presented in such a way that it is readily understandable by users. For this purpose,

users are assumed to have abilities that is; reasonable knowledge of business,

economic activities and accounting and a willingness to study the information with

reasonable diligence.

Constraints to the Provision of Good Quality Information:

In some situations, more of one quality can only be achieved at a cost. This cost may be an

actual cost or may be a reduction in the level of another quality. It’s therefore imperative to

observe the following:

Balance between qualitative characteristics. In practice, a balancing or a trade off

between qualitative characteristics is often necessary. Generally, the aim is to achieve

an appropriate balance among the characteristics in order to meet the objective of

financial statements.

Timeliness. If there is undue delay in the reporting of financial information, it may

lose its relevance.

Benefit and cost. The benefits derived from financial information should exceed the

cost of providing it.

1.4 Traditional Historical Cost Accounting and Current Value Accounting.

The main characteristics of HCA are generally reflected as concepts or conventions. The two

main characteristics are:

1. All transactions are recorded at their historical cost. Thus the Financial statements will

reflect the transactions at historical cost.

2. The transactions thus recorded are matched so that the income generated by the company

is ‘matched’ against the costs involved in getting that income.

However, the strict Historical Cost Convention is sometimes modified to include the

selective revaluation of non-current assets.

HCA are the prevalent form of financial statements throughout the world.

Criticisms of Historical Cost Accounting.

1. Long Term asset values are unrealistic.

The pure HC Balance sheet ignores the current value of assets and thus the amounts

reports are unlikely to be realistic up-to date measures of the resources employed by

the business. Assets such as Land and Buildings are usually undervalued. As no

account is taken of the changing value of money over time, it is also difficult to

interpret trends.

2. Depreciation is inadequate to finance the replacement of fixed assets.

HC depreciation does not fully reflect the value of the asset consumed during the

accounting period.

3. Holding Gains on inventories are included in profit.

During a period of high inflation, the monetary value of inventories held may increase

significantly while they are being processed. The conventions of HCA lead to the

realized part of this holding gain (known as inventory appreciation) being included in

profit for the year.

4. Profits (Losses) on holding of net monetary items are not shown.

In periods of inflation, the purchasing power of and thus the value of money falls. It

follows that an investment in money will have a lower value at the end of a period of

time than it did at the beginning leading to a loss. Similarly, the real value of a

monetary liability will reduce over a period of time and a gain will be made.

5. Comparisons over time are unrealistic.

The HCA tends to exaggerate growth.

Possible Alternatives to HCA

The deficiency of HCA is more prominent in times of severe and prolonged inflation.

Current Value Accounting is an alternative to HCA. The basic principles of this

method are:

To show balance sheet items at some form of current value rather than

historical cost;

To compute profits by matching the current value of costs at the date of

consumption against revenue.

The current value of an item will normally be based on replacement cost, net realizable value or

economic value. Other methods of accounting include; Current Purchasing Power (CPP) and a

combination of Current Value and CPP.

Why Modified HCA is still Used.

Modified HC Accounts are easy to prepare, to read and to understand.

In periods of low inflation, HC accounts are seen as a reasonable reflection of

the reality of the given situation.

Resistance to change.

1.5 CORPORATE GOVERNANCE AND CUURRENT ISSUES IN FINANCIAL

REPORTING.

Corporate governance is the system by which companies are directed and controlled.

Following the collapse of major international companies during the 1980s’ including

Maxwell, BCCI, Polly Peck and recently Anderson, an Audit firm issues relating to

Corporate Governance are topical. These collapses were often unexpected and dubious or

even fraudulent activities were often attributed to their owners and managers. Some aspects

of corporate governance has generally been developed by independent committees which

have produced a series of documents on corporate governance. These include:

The Cadbury report (1992) which focused on the control functions of Boards of

Directors and on the role of Auditors.

Greenbury report (1995) focused on the setting and disclosure of Directors’

remuneration and;

Hampel report (1998) brought together all the previous recommendations and

submitted a proposed code to the Stock Exchange which listed companies should

comply with.

The Financial Aspects of Corporate Governance in the Cadbury Report.

The roles of those concerns with the financial statements are described as follows:

The Directors are responsible for the corporate governance of the company.

The shareholders are linked to the Directors via the financial reporting system.

The Auditors provide the shareholders with an external objective check on the

directors’ financial statements.

Other concerned users, particularly employees (to whom the Directors owe some

responsibility) are indirectly addressed by the financial statements.

Code of Practice

1. Directors should state whether the report and accounts comply with the code and give

reasons for any non0compliance. This statement of compliance should only be

published after a review by the auditors.

2. Pressure should be brought by all the relevant parties on the Directors to ensure

compliance with the code.

3. All listed companies must establish effective audit committees with formal terms of

reference dealing with their membership, authority and duties.

4. Other controls and reporting requirements include:

The Directors should report on the effectiveness of their system of internal

control.

The Board should ensure that an objective and professional relationship is

maintained with the auditors.

It is the board’s duty to present a balanced and understandable assessment of

their company’s position which means that setbacks should be dealt with as well

as successes.

The Directors should state in their report that the business is a growing concern

with supporting assumptions or qualifications as necessary.

Book-keeping Versus Accounting:

What is the difference between bookkeeping and accounting?

There is some confusion over the difference between bookkeeping and accounting. This is due to the fact that two are related and there is no universal accepted line of demarcation between them.

In general bookkeeping is the recording of business data in the prescribed manner, this is the first phase. Much of the work of bookkeeper is of the clerical in nature. Accounting is primarily concerned with the design of the system of records, the preparation of reports and the interpretation of reports. Accountants often direct and review the work of bookkeepers.

Accounting is defined as the art of recording,classifying,summarizing and classifying all businesss transactions expressed in monetary terms.it involves the preparation of reports and interpretation of reports.

Book-keeping is the art of recording business transactions in acceptable manner for future use.

Branches of Accounting:

What are the branches of accounting?

Accounting has three main forms of branches, viz, financial accounting, cost accounting, and management accounting. These forms of accounting have been developed to serve different types of objectives.

Financial Accounting:

It is the original form of accounting. It is mainly confined to the preparation of financial statements for the use of outsiders like creditors, banks and financial institutions etc. The chief purpose of financial accounting is to calculate profit or loss made by the business during the year and exhibit financial position of the business as on a particular date.

Cost Accounting:

Function of cost accounting is to ascertain the cost of the product and to help the management  in the control of cost. It takes into account of all forms costs incurred during production and distribution.[direct and indirect costs].

Management Accounting or Managerial Accounting:

It is accounting for management. i.e., accounting which provides necessary information to the management for discharging its functions. It is the reproduction of financial accounts in such a way as will enable the management to take decisions and to control various business activities to achieve profit and wealth maximization of the business during the short and long term.

What are the important functions of accounting?

Accounting helps its users in the following ways.

1. Assessing the tax liability of individuals and business firms [tax liability].2. Comparing the performance of firms over the period or in the industry.3. Protecting business assets from non-users and dishonest employees.4. Planning for the future financial requirements of the business.5. Simplifying credit transactions in business.6. Keeping records for future reference like solving conflict among partners.

Record Keeping Function:

1. The primary function of accounting is to keep a systematic record of financial transaction - journalisation, posting and preparation of final statements. The purpose of this function is to report regularly to the interested parties by means of financial statements.

2. Protect Business Property:

The second function of accounting is to protect the property of business from unjustified and unwanted use. The accountant thus has to design such a system of accounting which protect its assets from an unjustified and unwanted use.

3. Legal Requirement Function:

The third function of accounting is to devise such a system as will meet the legal requirements. Under the provision of law, a business man has to file various statements e.g., income tax returns, returns for sales tax purpose etc. Accounting system aims at fulfilling the requirements of law. Accounting is a base, with the help of which various returns, documents, statements etc., are prepared.

4. Communicating the Results:

Accounting is the language of business. Various transactions are communicated through accounting. There are many parties - owners, creditors, government, employees etc, who are interested in knowing the results of the firm. The fourth function of accounting is to communicate the results to interested parties. The accounting shows a real and true position of the firm of the business.

1. Define and explain the term bookkeeping.

The work book or books mean books of accounts and keeping implies maintaining in proper form and order. Thus bookkeeping may be defined as the art of recording business transactions in books in a regular and systematic manner. It has been defined by different experts as:

1. "The science and art of correctly recording in books of accounts all those business transactions that result in the transfer of money's worth."

2. "The art and science of recording business transactions in such a systematic way as a trader may know the result of his trade at the end of a certain period and may also prove the accuracy of such record."

3. "The science and art of correctly recording business dealings in a set of books with a view to having a permanent record of transactions and the financial result thereof."

It should be noted from the above definitions that bookkeeping primarily deals in the art of recording transactions in books.

Important Bookkeeping Terms:

Before attempting to learn the art or science of bookkeeping it will be better to clarify some of the terms that will have to be used again and again.

Transaction:

Any dealing between two persons or things in a transaction. It may relate to purchase and sale of goods, receipt and payment of cash and rendering of services by one party to another.

Transaction is of two kinds - cash transaction and credit transaction. When cash is paid or received as a result of an exchange, the transaction is said to be a cash transaction. When the payment or receipt of cash is postponed for future date, this transaction is said to be credit transaction.

Business:

It includes any activity undertaken for the purpose of earning profit e.g., banking business, and insurance business, a merchant business etc., etc.

Proprietor:

He is the owner of a business. He invests capital in it, gives his time and attention to it. He is entitled to receive the profit or bear loss arising out of it.

Drawings:

The cash or goods taken away by the proprietor from the business for his personal use are called has drawings.

Purchases:

Goods purchased are called purchases. When the goods purchased for cash they are called cash purchases but if they are purchased for which payment will have to be made at some future date it is known as credit purchases.

Purchases Returns:

If goods purchased are found defective or unsatisfactory, they are sometimes returned to the persons from whom they were purchased or to suppliers are called purchases returns or returns outwards.

Sales:

Goods sold are called sales. When goods are sold for cash they are called cash sales, but when they are sold without having received payment, they are credit sales.

Sales Returns:

If a person to whom goods have been sold finds that they are defective or unsatisfactory and returns them, are called sales returns or returns inwards.

Trade Discount:

It is rebate or allowance from the scheduled price granted by the seller to the buyer attracting bulk purchases. Trade discount is usually granted in the following circumstances:(a) When selling to a fellow trader.(b) When the buyer is an old customer.(c) When sales are made in bulk.(d) As a custom of trade.

Cash Discount:

It is deduction or allowance allowed by creditor to a debtor for prompt payment. If a person pays his debit before the due date of payment the recipient may grant him an allowance for doing so. This allowance is known as cash discount

Commission:

It is a form of remuneration for services rendered by one person to another.

Capital Expenditure vs revenue expenditure.

Capital expenditure takes place when assets or fixed assets are purchased or capitalization of expenditure on assets while revenue expenditure refers to payment for goods and services needed or used by the business to meet its short term obligations.

Expense:

It means an expenditure whose benefit is finished or enjoyed immediately such as salaries, rent etc. Difference between expense and expenditure is that the benefit of the former is consumed by the business in present whereas in latter case benefit will be available for future activities of the business.

Account:

A summarized record of transactions relating to person or thing is called an account.

Debtor (Account Receivable):

A person who owes money to another is a debtor. When we say that we owe Mr. Rahim $200, we mean that we have received from Mr. Rahim $200 which we have to repay. We stand as debtor to Mr. Rahim for $200. It is also termed as accounts receivable.

Creditor (Accounts Payable):

A person who pays out something or to whom money is owing is a creditor. It is also termed as accounts payable.

Assets:

These are the things of value possessed by a trader such as building, land, machinery, furniture, etc.

Liabilities:

They are the debt due by a business to its proprietor and others.

Voucher:

Any written evidence in support of a business transaction is called a voucher. When a ream of paper is bought from a stationer, he gives a cash memo. The cash memo is a voucher for the payment. When wages for the month are paid to the peon, receipt is taken from him. The receipt serves as a voucher for the payment.

Goods (Merchandise):

It includes all merchandise commodities which are purchased by the business for selling.

Stock (Inventory):

Goods or merchandise on hand, that is goods remaining unsold, is called stock, stock in trade, or inventory.

Equity:

A claim which can be enforced against the assets of the firm is called equity. In other words, the rights to properties are called equities. Equities are of two types: the right of creditors and the right of owners.

Liabilities.

The equities of creditors represent debts of the business and are called liabilities. The equities of the owner is called capital, proprietorship or owner's equity.

Parties Interested in Accounting Information:

1. Explain, who may be interested in accounting information of a company or firm?

There are a number of parties who are interested in the accounting information relating to business. Accounting is the language employed to communicate financial information of a concern to such parties. The following are the groups who like to make use of the accounting information.

Owners:

The owner provides funds or capital for the organization. They want to know whether their funds are being properly used or not. They need accounting information to know the profitability and

the financial position of the concern in which they have invested their funds. The financial statement prepared from time to time from accounting records tell them the profitability and the financial position.

Management:

Management is the art of getting things done through others. The management should ensure that the subordinates are doing work properly. Accounting information is an aid in this respect because it helps a manager in appraising the performance of the subordinates. Accounting information provides "the eyes and ears to management".

Creditors or service providers.

Creditors are the persons who supply goods on credit or bankers or lenders of money. They want to know the financial position of a concern before giving loans or granting credit. They want to be sure that the concern will not experience difficulty in making their payment in time i.e., liquid position of the concern in satisfactory. To know the liquid position, they need accounting information.

Employees:

Employees are interested in the financial position of a concern they serve particularly when payment of bonus depends upon the size of the profits earned. The demand for wage rise, bonus, better working conditions etc. depends upon the profitability of the concern and in turn depends upon financial position. For these reasons, this group is interested in accounting information.

Government:

The government is interested in accounting information because it wants to know earnings or sales for a particular period for the purpose of taxation. Government also needs accounting information for compiling statistics concerning which in turn helps in compiling national accounts.

Consumers:

Consumers need accounting information for establishing good accounting control so that cost of production may be reduced with the resultant reduction of the prices of goods they buy. Sometimes, prices for some goods are fixed by the government, so it needs accounting information to fix reasonable prices so that consumers are not exploited.

Accounting Cycle:

1. Define and explain accounting cycle.

Accounting cycle refers to a complete sequence of accounting procedures which are required to be repeated in same order during each accounting period. Accounting cycle includes:

Recording:

First, all transactions should be recorded in the journal or books of original entry known as subsidiary books as and when they take place.

Classifying:

All entries in the journal of books of original entry should be posted to the appropriate ledger accounts to find out at a glance the total effect of all such transactions in a particular account.

Summarising:

Last stage is to prepare the trial balance and final accounts with a view to ascertaining the profit or loss made during a trading period and the financial position of the business of a particular date.

 

Accounting Cycle

 

Equation:

Definition and Explanation:

Accounting is the language of business. Affairs of a business unit are made understood to others as well as to those who own or manage it through accounting information which has to be suitably recorded, classified, summarized and presented.

In order to make this language to convey the same meaning to all people, it is necessary that it should be based on certain uniform scientifically laid down standards. These standards are termed as accounting principles. Accounting principles may be defined as those rules of action or conduct which are adopted by the accountants universally while recording accounting transactions. In the absence of common principles there will be a chaotic situation and every accountant will have his own principles. Not only the utility of accounts will be less but these

will not be comparable even in the same business. Therefore, it become essential that common principles should be followed for measuring business revenues and expenses.

Essential Features of Accounting Principles:

Accounting principles are accepted if they satisfy the following norms:

Usefulness:

A principle will be relevant only if it satisfies the needs of those who use it. The accounting principles should be able to provide useful information to its users otherwise it will not serve the purpose.

Objectivity:

A principle will be said to be objective if it is based on facts and figures. There should not be a scope for personal bias. If the principle can be influenced by the personal bias of users, it will not be objective and its usefulness will be limited.

Feasibility:

The accounting principle should be practicable. The principles should be easy to use otherwise their utility will be limited.

Classification of Accounting principles:

Accounting principles can be classified into two kinds:

1. Accounting Concepts:

The term concepts includes those basic assumptions or conditions upon which accounting is based

 Explain important accounting principles.

The term concepts includes those basic assumptions or conditions upon which accounting is based. The following are the important accounting concepts:

1. Business Entity Concept 2. Going Concern Concept 3. Money Measurement Concept 4. Cost Concept 5. Duel Aspect Concept 6. Accounting Period Concept 7. Matching Concept 8. Realisation / Realization Concepts

The explanation of these concepts are as follows:

Business Entity Concept:

In accounting, business is treated as separate entity from its owners. Accounts are prepare to give information about the business and not about those who own it. a distinction is made between business transactions and personal transactions. Without such a distinction, the affairs of the business will be mixed up with the private affairs of the proprietor and the true picture of the firm will not be available. The 'Business' and 'owner' are taken as two separate entities. The accountant is interested to record transactions relating to business only. The private transactions of the owner will be recorded separately and will have no bearing on the business transactions. All the transactions of the business are recorded in the books of the business from the point of view of the business as an entity and even the proprietor is treated as a creditor to the extent of his capital.

The concept of separate entity is applicable to all of business organizations. For example, in case of a sole proprietorship business or partnership business, though the sole proprietor or partners are not considered as separate entities in the eyes of law, but for accounting purposes they will be considered as separate entities. In the case of joint stock company, the business has a separate legal entity than the shareholders. The coming and going shareholders don not affect the entity of the business. Thus, the distinction between owner and the business unit has helped accounting in reporting profitability more objectively and fairly. It has also led to the development of 'responsibility accounting' which enables us to find out the profitability of even the different sub-units of the main business.

Going Concern Concept:

According to going concern concept it is assumed that the business will exist for a long time to come. Transactions are recorded in the books keeping in view the going concern aspect of the business unit. A firm is said to be going concern when there is neither the intention nor necessary to wind up its affairs. In other words, it should continue to operate at its present scale in the future. On account of this concept the fixed assets are shown in the balance sheet at a diminishing balance method i.e., going concern value. There is no need to show assets at market value because these have been purchased for use in future and earn revenues and for sale purpose. If the business is not to continue then market value will have significance. Since business is to continue, fixed assets will be shown at cost less depreciation basis. It is due to the concept that the fixed assets are depreciated on the basis of their expected life than on the basis of market value. The concept also necessitates distinction between expenditure that will render benefit over a long period and that whose benefit will be exhausted quickly, say within one year. The going concern concept also implies that existing liabilities will be paid at maturity.

Money Measurement Concept:

Accounting to records only those transactions which can be expressed in terms of money. Transactions or events which cannot be expressed  in money do not find place in the books of accounts though they may be very useful for the business. For example, if a business has got a team of dedicated and trusted employees, it is definitely an asset to the business, but since their monetary measurement is not possible, they are not shown in the books of business. It should be remembered that money enables various things of diverse nature to be added up together and dealt with. The use of a building and the use of clerical service can be aggregated only through money values and not otherwise.

Cost Concept:

This concept is closely related to the going concern concept. According to this concept, an asset in ordinarily recorded in the books at the price at which it was acquired i.e., at its cost price. This cost serves the basis for the accounting of this asset during the subsequent period. The 'cost'

should not be confused with 'value'. It must be remembered that as the real worth of the assets changes from time to time, it does not mean that the value of such an asset is wrongly recorded in the books. The book values of the assets as recorded do not reflect their real value. They do not signify that values noted therein are the values for which they can be sold. Though the assets are recorded in the books at cost, in course of time, they are reduced in value on account of depreciation charges. The idea that the transactions should be recorded  at cost rather than at a subjective or arbitrary value is known as cost concept. With the passage of time, the market value of fixed assets like land and buildings vary greatly from their cost. These changes in the value are generally ignored by the accountants and they continue to value them in the balance sheet at historical cost. The principle of valuing the fixed assets at cost and not at market value is the underlying principle in cost concept. According to them the current values alone will fairly represent the cost to the entity. The cost principle is based on the principle of objectivity. There is no room for personal assessment in showing the figures in accounting records. If subjectivity is flowed in records the same assets will be valued at different figures by different individual. Every body will have his own views about various assets. The cost concept is helpful in making truthful records. The records becomes more reliable and comparable.

Dual Aspect Concept:

This is the basic concept of accounting. Modern accounting system is based on dual aspect concept. Dual concept may be stated as "for every debit, there is a credit". Every transaction should have two sided effect to the extent of same amount. For example, if A starts a business with a capital of $10,000. There are two aspects of the transaction. On the one hand the business has assets of $10,000 while on the other hand the business has to pay to the proprietor a sum of $10,000 which is taken as proprietor's capital. This expression can be shown in the form of following equation: 

Capital (Equities) = Costs (Assets)10,000 = 10,000

The term 'assets' denotes the resources owned by a business while the term 'equities' denotes the claims of various parties against the assets. Equities are of two types. They are owners equity and outsiders equity. Owner's equity (or capital) is the claim of the owner's against the assets of the business while outsiders equity (liabilities) is the claim of outside parties against the assets of the business. Since all assets of the business are claimed by someone (either owners or outsiders), the total of assets will be equal to total of liabilities. Thus: 

  Equities = Assets    OR Liabilities + Capital = Assets

Suppose if the business borrows $5000 from a bank, dual aspect of this transaction will be  

Capital + Liabilities = AssetsA  Loan    10,000 = 15,000

Thus the accounting Equation states that at any point of time the assets of any entity must be equal (in monetary terms) to the total of owner's equity and outsider's liabilities. As a mater of fact the entire system of double entry accounting is based on this concept.

Accounting period concept:

According to this concept, the life of the business is divided into appropriate segments for studying the results shown by the business after each segment. Since the life of the business is considered to be indefinite (according to going concern concept) the measurement of income and studying financial position of the business according to the above concept, after a very long period would not be helpful in taking proper corrective steps at the appropriate time. It is, therefore, absolutely necessary that after each segment or time interval the businessman must stop and see, how things are going on. In accounting such a segment or time interval is called accounting period. It is usually of a year.

 At the end of each accounting period and income statement/profit & loss Account and a Balance Sheet are prepared. The income statement discloses the profit or loss made by the business during the accounting period while Balance Sheet discloses the financial position of the business as on the last day of the accounting period. While preparing these statements a proper distinction has to be made between capital and revenue expenditure.

Matching concept:

The aim of business is to earn profit. In order to ascertain the profit the costs (expenses) are matched to revenue. The difference between income from sales and costs of producing the goods will be the profit. When business is taken as a going concern then it becomes necessary to evaluate the performance periodically.A correct statement of income requires a distinction between past, present and future expenditures. A distinction between capital and revenue expenditure is also necessary. The revenues and costs of same period are matched. In other words, income made by the business during a period can be measured only when the revenue earned during a period is compared with the expenditure incurred for earning that revenue. The question when the payment was received or made is irrelevant.

Realization Concept:

This concept emphasises that profit should be considered only when realised. The question is at what stage profit should be deemed to have accrued? Whether at the time of receiving the order or at the time of execution of the order or at the time of receiving the cash? For answering this question the accounting is in conformity with the law and Recognises the principle of law i.e., the revenue is earned only when the goods are transferred. It means that profit is deemed to have accrued when property i goods passes to the buyer, viz., when sales are made.

2. Accounting Conventions :

The term "conventions" includes those customs or traditions which guide the accountants while preparing the accounting statements. Click here to read full article.

1. What are accounting conventions? Explain important accounting conventions.

The term "conventions" includes those customs or traditions which guide the accountants while preparing the accounting statements. The following are the important accounting conventions.

1. Convention of Disclosure 2. Convention of Materiality

3. Convention of Consistency 4. Convention of Conservatism

Convention of Disclosure:

The disclosure of all significant information is one of the important accounting conventions. It implies that accounts should be prepared in such a way that all material information is clearly disclosed to the reader. The term disclosure does not imply that all information that any one could desire is to be included in accounting statements. . The idea behind this convention is that any body who want to study the financial statements should not be mislead. He should be able to make a free judgment. The disclosures can be in the way of foot notes. Within the body of financial statements, in the minutes of meeting of directors etc.

Convention of Materiality:

It refers to the relative importance of an item or even. According to this convention only those events or items should be recorded which have a significant bearing and insignificant things should be ignored. This is because otherwise accounting will be unnecessarily over burden with minute details. There is no formula in making a distinction between material and immaterial events. It is a matter of judgment and it is left to the accountant for taking a decision. It should be noted that an item material for one concern may be immaterial for another. Similarly, an item material in one year may not be material in the next year.

Convention of Consistency:

This convention means that accounting practices should remain uncharged from one period to another. For example, if stock is valued at cost or market price whichever is less; this principle should be followed year after year. Similarly, if depreciation is charged on fixed assets according to diminishing balance method, it should be done year after year. This is necessary for the purpose of comparison. However, consistency does not mean inflexibility. It does not forbid introduction of improved accounting techniques. If a change becomes necessary, the change and its effect should be stated clearly.

Convention of Conservatism:

This convention means a caution approach or policy of "play safe". This convention ensures that uncertainties and risks inherent in business transactions should be given a proper consideration. If there is a possibility of loss, it should be taken into account at the earliest. On the other hand, a prospect of profit should be ignored up to the time it does not materialise. On account of this reason, the accountants follow the rule 'anticipate no profit but provide for all possible losses'. On account of this convention, the inventory is valued 'at cost or market price whichever is less.' The effect of the above is that in case market price has gone down then provide for the 'anticipated loss' but if the market price has gone up then ignore the 'anticipated profits.' Similarly a provision is made for possible bad and doubtful debt out of current year's profits.

Critics point out that conservatism to an excess degree will result in the creation of secrets reserves. This will be quite contrary to the doctrine of disclosure.

Accounting Equation:

Dual aspect may be stated as "for every debit, there is a credit." Every transaction should have twofold effect to the extent of the same amount. This concept has resulted in accounting equation which states that at any point of time the assets of any entity must be equal (in monetary terms) to the total of equities.

Accounting Equation:

Learning Objective:

1. Define and explain accounting equation. 2. Give an example of accounting equation.

Definition and Explanation of Accounting Equation:

Dual aspect may be stated as "for every debit, there is a credit." Every transaction should have twofold effect to the extent of the same amount. This concept has resulted in accounting equation which states that at any point of time the assets of any entity must be equal (in monetary terms) to the total of equities. In other words, for every business enterprise, the sum of the rights to the properties is equal to the sum of the properties owned. The properties of the business are called "assets". The rights to the properties are called "equities". Equities may be sub-divided into two principle types: The rights of the creditors and the rights of the owners. The equity of the creditors represents debts of the the business and are called liabilities. The equity of the owner is called capital, or proprietorship or owner's equity.

The formula know as the accounting equation, thus arrived at is as follows:

Assets = Equities

OR

Assets = Liabilities + Proprietorship

Another method of demonstrating the mathematical relationship involves a simple variation in the form of equation. Again it begins with the position that every business owns or has interest in certain assets. It also owes certain amounts to its creditors. The difference between what it owns and what it owes represents the owner's capital or proprietorship. Thus the original equation is changed into:

Assets - Liabilities = Proprietorship

Effects of Transactions on the Accounting Equation:

Each and every business transaction affects the elements of accounting equation. The effect is shown by the use of (+) or (-) placed against the elements affected. Note particularly that the equation remains in balance after each transaction. The accounting equation can be understood with the help of the following example:

Example:

Transaction 1:

Mr. Riaz commences his business with cash $50,000. This is an example of investment of asset in the business by the owner. The effect of this transaction on the accounting equation is that cash asset is increased by $50,000 and the proprietorship (Riaz's capital) is also increased by the same amount such as:

Assets = Liabilities + ProprietorshipCash       Riaz, Capital+ 50,000 = ----   + 50,000

Note that assets and equities increased by equal amounts

Transaction 2:

Purchased furniture on cash $10,000. This transaction effected accounting equation as the increase in one new asset furniture and decreases in assets cash with the same amount. Thus

Assets = Liabilities + ProprietorshipCash Furniture       Riaz, Capital+ 50,000   = ----   + 50,000- 10,000 + 10,000        

40,000 + 10,000 =     50,000

Note that this transaction has affected assets side only and no change is made in equities side of the equation.

Transaction 3:

Purchased merchandise for cash $10,000. This transaction will introduce a new element (merchandise) on the assets side and decrease the cash by $10,000.

Assets = Liabilities + ProprietorshipCash Furniture Merchandise       Riaz, Capital+ 40,000 + 10,000   = ----   + 50,000-10,000 -- + 10,000        

30,000   + 10,000 =     50,000

Note that this transaction has affected assets side only and no change is made in equities side of the equation.

Transaction 4:

Purchased merchandise on account (on credit) $5,000.

Assets = Liabilities + ProprietorshipCash Furniture Merchandise   Creditors   Riaz, Capital+ 30,000 + 10,000 + 10,000 =     + 50,000    + 5,000   + 5,000    

30,000 +10,000 + 15,000 = + 5,000   + 50,000

Note that this transaction has affected assets side  and liabilities. Both the sides of equation has increased with the same amount.

Transaction 5:

Sold merchandise for cash $2,000 cost of these merchandise were $1,500.

Assets = Liabilities + ProprietorshipCash Furniture Merchandise   Creditors   Riaz, Capital+ 30,000 + 10,000 + 15,000 = + 5,000   + 50,000+ 2,000   - 1,500       + 500 (Profit)

+ 32,000 +10,000 + 13,500 = + 5,000   + 50,500

Note that this transaction has affected assets side  and also the proprietorship. Difference between sales price and cost price is treated as profit and has been added to capital.

Transaction 6:

Sold merchandise on credit for $4,000 costing $3,000.

Assets = Liabilities + ProprietorshipCash Furniture MerchandiseDebtors   Creditors   Riaz, Capital+ 32,000 + 10,000 + 13,500   = + 5,000   + 50,500    - 3,000 + 4,000       + 1,000

32,000 +10,000 + 10,500 + 4000 = + 5,000   + 51,500

Note that this transaction has affected assets side  and also the proprietorship. Anew element "debtors" has been introduced. Difference between sales price and cost price is treated as profit and has been added to capital.

Transaction 7:

Paid $1,000 to creditors for merchandise purchased.

Assets = Liabilities + ProprietorshipCash Furniture MerchandiseDebtors   Creditors   Riaz, Capital+ 32,000 + 10,000 + 10,500 + 4,000 = + 5,000   + 51,500- 1,000         - 1,000    

31,000 +10,000 + 10,500 + 4000 = + 4,000   + 51,500

Transaction 8:

Received cash from a debtor $ 1,000 whom a sale on credit was made earlier. This is an example of collection from debtors. This transaction is an exchange of one asset for another. the effect is on one side of the equation, i.e., asset side. Thus:

Assets = Liabilities + ProprietorshipCash Furniture MerchandiseDebtors   Creditors   Riaz, Capital+ 31,000 + 10,000 + 10,500 + 4,000 = + 4,000   + 51,500+ 1,000     - 1,000        

32,000 +10,000 + 10,500 + 3000 = + 4,000   + 51,500

Transaction 9:

Paid salaries $1,000 in cash. This transaction affected the equation by decrease in a cash asset and decrease in proprietorship (i.e., capital). Thus:

Assets = Liabilities + ProprietorshipCash Furniture MerchandiseDebtors   Creditors   Riaz, Capital+ 32,000 + 10,000 + 10,500 + 4,000 = + 4,000   + 51,500- 1,000             - 1,000

31,000 +10,000 + 10,500 + 3000 = + 4,000   + 50,500

Effects of all the transactions explained above are presented in the following table:

Assets = Liabilities +Proprietorship

  Cash + Furniture+ Merchandise

+ Debtors   Creditors   + Riaz, Capital

1 + 50,000             +50,000

50,000 = +50,0002 - 10,000 + 10,000               40,000  10,000     =   +50,0003 - 10,000   + 10,000             30,000 10,000 10,000   =   +50,0004     + 5,000     + 5,000     

30,000 10,000 15,000 = 5,000 +50,0005 + 2,000 - 1,500 + 500 (Profit)

32,000 10,000 13,500 = 5,000 +50,5006 - 3,000 + 4,000 + 1,000 (Profit)

32,000 10,000 10,500 4,000 = 5,000 +51,5007 - 1,000 - 1,000

31,000 10,000 10,500 4,000 = 4,000 +51,5008 +1,000 1,000

32,000 + 10,000 + 10,500 + 3,000 4,000 +51,5009 1,000 1,000 

31,000 10,000 10,500 3,000 = 4,000 +50,500

The elements of the equation of Mr. Riaz that is,

Cash + Furniture + Merchandise + Debtors = Creditors + Capital31,000 + 10,000 + 10,500 + 3,000 = 4,000 + 50,500

This may also be stated in vertical form as shown below:

EQUITIES   ASSETS  

Creditors $4,000 Cash $31,000Capital $50,500 Debtors 3,000

Merchandise 10,500    Furniture 10,000

   $54,500 $54,500

The presentation of the effects of transactions in tabular form is only a device which helps beginners to understand the analysis of different types of transactions. It is not practically feasible to record the effects of transactions in this form. The increases and decreases in the various elements are recorded in the journal in a special technical form.

ACCOUNTING.

MEANING OF BOOK KEEPINNG.

Accounting refers to the science and art of recording, classifying and summarizing of business transactions in an accurate and systematic way in business.

Importance of accounting.

1. Book keeping helps an entrepreneur to ascertain whether the business has realized a profit or it has incurred a loss.

2. Helps an entrepreneur in credit transactions. Most business transactions are carried out on credit basis i.e. buying or selling on credit. It would therefore be difficult for the entrepreneur to remember all the purchases or sales made on credit without proper book keeping.

3. It acts as a tool of control book keeping enables the business to keep record of all the properties of the business which help to eliminate the possibility of theft and misappropriation.

4. It helps in tax assessment. Types like income tax, excise duty, customs duty etc. are imposed by the government depending on the records. To ensure accurate assessment of tax, book keeping records must be maintained properly to avoid under or over taxation of the business by the government.

5. Book keeping records help an entrepreneur to acquire loans. This is because financial institutions e.g. banks usually require looking at the financial records of the business to determine whether to extend credit or not.

6. Book keeping acts as a tool for planning. This is because most entrepreneurs base their financial decisions according to sales, purchases, profits, investments of he past and the present.

7. Book keeping act as a proof for financial position of the business. Knowing the assets (properties of the business) and liabilities (debts of the business) the entrepreneur can easily establish.

8. acts as a centre for reference whenever information about business is required.9. it helps to solve disputes among business members e.g. partnerships, companies, co-

operatives etc. this is because it acts as evidence of the events which took place in the business.

Users of Accounting Information.

There are many users of accounting information who will use them and make judgments and to influence decisions related to the business.

i) Owners – will use the information in order to determine the performance of the business. Also it will help them to improve on the way they manage their business and make decisions that affect the future.

ii) Lenders – Such as banks will need accounting information in order to assess the financial capacity of the business to determine whether to give out the loan or not.

iii) Customers – These will want to be sure that the business can meet their supply requirements such that the supplies will be sustained in future.

iv) Creditors – The creditors are interested to know whether the business is credit worthy such that it can meet their payments. They will also want to know more about how long they will expect to unit for payment.

v) Employers – They want to know about the financial strength of the business and also they require information in relation to profit sharing, for better pay, job security and whether the business is still strong enough to continue existing.

vi) Government departments – These may include Revenue Authority and may use accounting information to determine the tax liability of the business.

vii) Share holders (in case of companies) will want to know that their investment in the business is secure and what the returns are likely to be.

viii) Local community – The public tries to know the extent to which the business is concerned about their welfare, possibility of providing employment, pricing of products to decide whether there is need to get involved and if so how.

ix) Donors – Before donors continue or stop the donations they will first have to check in the books of account.

DISCUSS VARIOUS ACCOUNTING CONCEPTS THAT UNDER LIE

PREPARATION AND PRESATATION OF ACCOUNTS IN ORDER TO IMPROVE

THE QUALITY OF ACCOUNTING INFORMATION.

INTRODUCTION

Accounting is the process of recording, reporting and analyzing the financial and other

information for management and the external users, to enable them make relevant decisions

regarding the enterprise.

The accounting information generated and used can be categorized into branches of

accounting which are aimed at solving specific problems of the entity. These include

financial accounting, management accounting, financial management and auditing. Each

branch of accounting has specific users of accounting information.

The underlying purpose of accounting is to provide financial information about an

organization that will help decision makers to make good decisions.

THE USES OF ACCOUNTING INFORMATION

Organizations are set up to achieve defined objectives the commonest which relates to

entities in business is to make profit for the users (owners). Consequently the entity should

produce information which shows whether this aim has been fulfilled or not and to show

whether this aim has been fulfilled or not and to show the state of its assets and financial

obligations.

The “corporate report” a paper produced under government support in the UK explains the

purpose of reports by organization (which includes accounts) as: is to communicate

economic measurement of and information about the resource and performance of the

reporting entity useful to those having reasonable rights to such information.

Therefore the information to be reported should have all the requisite economic information

to be useful.

The information is also required to the performance of the entity which in business means

profit communicated in such a way as to reveal to cause underlying the results

Information is also required a bout the resources of the entity. This is usually shown in the

balance shelf; contains information regarding the assets owned by the entity and its liabilities.

Together with other non-financial information the users can be able to make informed

economic decisions about the entity.

USERS OF FINANCIAL INFFORMATION

Depending on the size of the entity and the persons interested in its affairs, the persons

interested in the financial information produced by the entity may include:

1.0 Management –the information to enable them plan and control future activities of the

entity.

1.1 Ownership (shareholder) –they need to know whether management is efficient and

effective .This will enable them decide whether to change

management/maintain/increase or dispose of their investment.

1.2 Trading contacts-suppliers of an enterprise need to know whether they will be paid

within a reasonable time, while the customer need to know whether the enterprise is

capable of giving the required services or goods

1.3 Tax authorities- need to be able to access the tax liability of the entity and whether all

due taxes have been settled.

1.4 Financial –the provider of loan capital to the enterprise want to know whether their

loans are secure and whether the enterprise is capable of repaying on schedule.

1.5 Government and its Agencies – need to know the nature and scale of operation for

planning national development and to provide national statistics.

1.6 Employees- they need to decide on their future careers depending on the prospects of

the entity and for bargaining their future benefits.

1.7 Financial analysts and Advisors – need to advise their clients for example, whether

to invest or disinvest in the company, whether to provide credit and general knowledge

of the public.

1.8 The general public- they need to know whether the activities of the enterprise are

beneficial or destructive to their communities. They may also need to know of

employment opportunities, use of local materials and the effect on their environments,

HOW INFORMATION REACH THE USERS .

Most information of organization is kept private and is not available to all the users except

management. In order to make such information available to the needy users, the following

forces prevail upon management

a) The Law. Company Act requires all companies to public such reports.

b) Taxation Acts authorizes tax to receive such information to make assessments.

c) Financiers often request such information before or after proving loans as a pre-

condition.

d) Professional accountancy bodies compel their members to follow accounting standards

which require minimum level of disclosure in the financial statements.

e) For some organizations, it may be to their interest to provide certain information to

some groups like employees or to the general public.

Elements of Useful Accounting Information.

Accounting information which is availed to the external users should posses a minimum of

qualities so as to enable users to make informed decisions.

1.0 Relevancy- the contents of the report should be what is required to fulfill the needs of

the users.

1.1 Reliability- the information should be accurate and not misleading. This is improved

through an independent audit.

1.2 Comprehensibility – the reports should be such as can be easily understood. Incomplete

information, too much detail or use much jargon may impair comprehensiveness

1.3 Objectivity- Information must contain facts and should avoid as far as possible

subjective judgment or basis towards of desires view.

1.4 Completeness- all relevant information should be given to give around picture of the

entity.

1.5 Turneries –information gained long after it is required is of no value. The information

should be given in reasonable interval and not too long after it is produced.

1.6 Comparability –consistent bears should be used to prepare and present information so

as to enable valid comparison to be made with other periods and similar entities.

1.7 Understand ability- information about complex matter should be included in the

financial analyst where as other categories is user like employee need non complex

information.

DEFINITION OF ACCOUNTING PRINCIPLES/CONCEPTS/CONVENTION.

1. Financial accounting principles are also known as accounting concepts, accounting

conventions or postulates of accounting. The Nomenclature varies from author to

author.

They are defined as basic ground rules which must be followed when financial

accounts are being prepared and presented. They are also referred to as

assumptions or a preposition that underlies the preparation and presentation of

financial statements.

To make accounting information convey the same meaning to all people, as far as

practicable, and to make it full of meaning, accountants here agreed on a number

of concept which they try to follow in order to disclose any intentions of

doctoring accountings for misstatements.

1. BUSINESS ENTITY:

This concept requires recognition and recording of transactions relating to the entity

(organization) in question and excludes private transactions of the owners or those running it.

Record is only made for what the entity owes the owner (capital) and what the owner owes

the entity (drawings)

There is likelihood that accountants will increase expenses in order to declare lower profits

and there by minimize fax liability. This might involve increasing expenses by including

those of a private nature or not declaring all incomes of the entity. This would lead to

misleading information to tax assessors. Such actions are deemed illegal and outlawed thus

implementing its business entity concept.

The limitation of this concept can be appreciated from the perspective of a humble business

man/woman like a sole trader or a family run business. The owner and the business are

actually inseparable. For instance if a sole trader sells but also swells in the same premises,

rent and utilities paid on those premises will be difficult to apportion between the owner and

the business especially if there are no clear apportionment bases.

2. MONETARY /MONEY MEASUREMENT:

According to this concept all transactions to be recorded must be quantified in monetary

terms or language of money. Money is a common denomination for all transactions.

Where no paper unit of measurement, unit of account and store of value is attached to a

transaction, it will be easier for accountant to manipulate information because such

information about a transaction will be biased. The monetary concept was not employed; it

would have been very easy for accountants to give under estimations or over estimated

information about a particular transaction thus giving irreverent information to users.

The limitation of this concept is that it assumes that money has stable value over time and yet

it is common knowledge that money losses value with time, a phenomenon referred to as

inflation. Under inflationary circumstances money ceases to be an objective measure of

value.

Also, there are certain events or things that can not be expressed in monetary terms thus not

recorded and yet they materially impede or enhance business operations. For instance if a

supervisor is granted leave, business will not flow smoothly.

Further more, there are some intangible assets like good will, patent, brand name etc which

lead to increased turn over and profits but cannot be recorded as assets because they are

difficult to quantify in financial term. Attempts are being made to value intangible assets for

inclusion in the balance sheet.

3. GOING CONCERN:

This concept states that the business entity is assumed to continue is operational existence in

the foreseeable future. The business is not on the verge of collapse unless there are

indications to suggest so.

This concept makes it possible for accountants to project or prepare estimates for a long

period into the future for example preparation of budget estimates for many years into the

future. The budget are useful for trend analysis and comparison profits, the accountant will

not be able to underestimate the profit for a particular financial year to which the budget

relate, because this will act as evidence that will raise questions on the trend of profit got by

the company.

This concept also enables the business to apportion the value of an asset over its useful life.

Without this concept, the asset would only be used for a particular financial year and its

residue value taken over by an accountant or any other member who would hence require

purchase of fixed assets for every financial year.

There is almost no challenge against the going concern assumption and has been embraced

and estimated in accounting standard of many countries as a fundamental assumption or

concept.

4. HISTORICAL COST:

This concept requires accountants to record assets and liabilities at historical cost of their

acquisition. Assets are recorded at the acquisition (invoice) cost even if the value today is

more than the historical cost. Likewise liabilities are recorded at amounts they were incurred

though the true value of the liability might have changed due to foreign exchange

fluctuations and other macro economic issues such as inflation.

Without the historical cost convention in recording of assets, there is more temptation of over

valuing assets in the balance sheet in order to portray a sound financial stand. This balance

sheet will thus carry misleading information to users.

Also without the cost concept is that during inflation, historical cost will not reflect the value

of the asset to the business. The true value is not reflected. For instance if an asset was

bought for shs 1900,000. The historical cost concept will require 1000,000 and not 1900,000

to be recorded.

5. REALIZATION:

This concept demands that accountants recognize income as earned only when a sale has

been made and the goals have been accepted by the customer or services have been offered

and enjoyed by customers or where value has been created by a transaction and legal right

and obligation have resulted.

Without this concept, accountants would be able to use money from operational gains and

compensate it with that value calculated from holding gains. This can show misleading

information in the financial statements.

Also without its realization concepts, assets in the balance sheet would be under estimated.

For instance accrued income will not be included under the current assets, and it would be

improper to include it in the profit and loss account. This reduces its accountant’s possibility

of doctoring accountants to present misleading information.

There is no major problem with this concept, however questions debate is at which in time

income should be recognized as earned. The majority argue that income should be

reorganized when the goods have been shipped to the customer and she/he has been invoiced

and there is a strong likelihood of amount being collected i.e. absence of bad debts.

6. ACCRUAL:

According to this concept, income is recorded as earned even though it might have been

received cash provided there is right to income (see realization concepts). Accrual basis

accounting recognizes both income and expenses without necessarily changing hands.

Without the accrual concept the scope of accounting would be narrowed to preparation of its

cash book. This would mean, where debtors accounts are not kept, all payments from debtors

would be exploited by accountants.

Also, without accrual concept, it be would be possible for accountants to include accrued

items in preparation of cash flow statements which show actual or expected cash flow

position of the enterprise.

There is no major criticism of this concept just like the reduction concept, however when

preparing a cash flow position of the enterprise, accrued items should be eliminated.

Investment decisions are based on the available or expected cash, accrued items will falsify

the actual cash position.

7. MATCHING:

This concept requires accurate matching of expenses against incomers by writing off only

those costs or expenses that were incurred in generating specific income for the period ended.

Cost or expenses paid should be adjusted for any part-period that does not relate to the

overall period.

Without the matching concept, it would be possible for accountants to write off all the part of

the income set aside for an expense e.g. rent) including the pre payment that has been part of

the total expense. The prepaid rent will also be written off it one financial year. It will not be

carried forward to cater for the part of/the following financial year.

Example: rent paid for one and half years 1800, 000=

End of year adjustment

1800,000 = 100,000 monthly rent

18 (month)

Therefore rent expense= 12x 100,000=1200, 000=

Prepaid rent expense= 600,000=

Therefore the rent to write off out of the income earned in the financial will be 1200, 000=

There is no major critism with this concept as far as accounting preparations are concerned.

8. CONSERVATISM (OR PRUDENCE).

According to this concept, during valuation, estimation and measurement is preparation of

account; the accountant should follow a procedure that tends to understate things.

Since the valuation and preparation of estimates is subjective, without the conservation

concepts, accountants would be able to value asset at high value (overstatement) and

understate another asset, or over state a liability in order to use the different (overstatement)

for personal issues. (Fraud)

Also the prudence concept requires that accountants should not anticipate revenue and profits

until realized but should provide for all possible losses. Provisions for bad debts are created

and written off from profits for this reason. Provision is also made for all known contingent

liabilities in order to be prudent. This will deter the accountant from presenting a higher

figure for net profit that is misleading to users, for example creditors who are required to give

loan to the company.

The limitation of this concept is that, other than being inconsistent with the historical cost

concept, prudence concept has been criticized for discourages optimism, ambition, creativity

and innovation because it requires accountants to behave in a conservative manner.

This concept has been criticized for discouraging ambitions and challenging of existing

literature and has undermined evolution of concepts that would respond to contemporary

business environment.

The prudence concept is also at fault because it gives the impression that while

overstatements are not bad and may be a positive virtue. Deliberate misstatement in either

direction i.e. on the higher or lower side should be condoned. Un warranted conservatism in

financial reporting is as bad as overstatement and contravenes objectivity concept.

9. CONSISTENCE.

This states that once a particular accounting method or base has been selected and has

become accounting policy, it must be applied continuously or consistently from year to year.

Changes in accounting methods or policies are permitted only if there are justifiable reasons

for doing so for instance of the old one have become inappropriate for the present

circumstances. When a change is made, the effect of the change on the reported net profit and

balance shall position if material must be disclosed as foot notes in the accounts.

Without the consistency concept it would be possible for accountants to employ different

accounting bases of their interest for example in calculating depreciation which would make

financial statements incomparable over a given trend. Changes from one method to another

will cause distortion in financial reporing.This will prevent accurate analysis of a company’s

accounts over time.

Inter period comparison and inter company comparison will be difficult of some companies

keep changing their accounting policies.

Also, using different methods for calculating depreciation may give misleading information

to final users. For instance one who use reducing balance method for calculating deprecation

will have a higher value for total asset as compared to that accountant whose uses straight-

line method (depreciation cost). This wills portray information to the potential lender to the

firm that business has enough assets to operate as a going concern. So they will be intending

to offer loans to such an assurance.

The consistency concept is one of the most fundamental concepts required by UK and

international accounting standards. There is no serious challenge of this concept.

10. PERIODICITY AND DISCLOSURE

. This concept makes financial reporting mandatory as enshrined in the companies Act of

Uganda and many other countries. At the end on an accounting year, accompany must

prepare and disclose financial statements. Publishing annual accounts is made an obligation

by this concept.Disclousure can be made more that once a year if the accountant so wishes. If

interim accounts are to be published, it is not discouraging.

Section 147 of the companies Act requires every company to keep proper books of account

in English in respect of incomes and expenditure, sales and purchase of goods and assets and

liabilities of the company. There fore without the periodicity and disclosure concept it would

be possible for accounts to conceal some of the information regarding items which are

required by statute to be disclosed. This would mean giving misleading information to

shareholders and other users of accounting information in respect of their individual

requirements for financial information.

There is no serious challenge of the periodicity concept.

11. MATERIALITY CONCEPT

: This requires recognition of only material items and excluding immaterial or trivial items or

matters. Information is material if it is able to influence the decision (Economic decision) For

instance if the cost of recording certain items is not justifiable, then they should be left out.

For instance it is immaterial to record buying a bloom of 100/= in its cash book or as an

asset. Some assets like good will and some low value assets are written off in the profit and

loss account rather than being included as assets in the balance sheet because of materiality .

12. CONSIDERATIONS.

Without materiality concept accountants would record and report too much transaction which

would portray a misleading picture of the overall nature of operation of the business. There

those transaction though immaterial which would seem very risky to the business in the eyes

of the users (lenders). For instance the clerk may like 500/= out of petty cash of the creditor,

it will bring a picture of improper use of the company funds.

The concept of materiality has to be applied with some caution because there is no threshold

or quantities guideline for judging materiality of a transaction or an asset. Materiality is a

matter of opinion and judgement, abuses should be guarded against.

Also caution should be taken regarding the level at which views materiality. Some value may

be immaterial at the overall value (as percentage of profit) but may be material at the

transaction level.

Objectivity Concept: This states that whatever figure is recorded in accounting books and

financial statements must have a clear criteria or yardstick for its measurement. Figure must

have a basis for arriving at them but not simply planted into financial statements.

Accountants must be able to defend figures in financial statements using objective evidence,

empirical or other will.

Without the objectivity concept, accountants would have a lot of subjectivity and biased

accounting information in preparation of accounts for the firm. This would with no question

present misleading information to users whose interest do not match with those of the

accountants in charge of preparing financial statements.

The preparation of accounting statements however involves a considerable amount of

individual discretion especially on judging the materiality of amounts or issues.

While personal discretion cannot be done a way with completely, accounts should be

prepared with minimum amount of personal bias and the maximum amount of over all

objectivity.

13. DUALITY CONCEPTS: This requires a transaction to be recorded twice (dual

recording) the dual aspect rule is a recognition that every transaction involves giving

and receiving effects. When some body gives something another must receive it. This

is in effect a requirement for double entry book keeping.

.

Without the duality concept, accountants would doctor accounts the way they wish hence

presenting incomplete records. Incomplete records are not easy to understand by users. They

do not give a true picture of the performance and operations of the business. Incomplete

records carry little information to financial users of accounts, like it is not easy to ascertain

opening capital of the business where all transactions are not balanced. Assets-liabilities

=capital

Therefore any information where double entry system is not used may not be very useful to

decision makers.

There is no particular challenger to the dual aspects concept. It has been employed almost

every where in preparation of accounts.

14. SUBSTANCE OVER FORM.

This states that transactions and other events should be accounted for and presented in

accordance with their legal form.

Lawyer say on purchase of an asset the title passes on fully paying up for that particular

asset. This is not the case with accounting. The substance and reality is that one is using the

asset he bought in his business, so it’s a business asset and should be recorded in its books

and statements.

Without the substance over form concept it would be possible for accountants to over

estimate the value of a fixed asset at cost which has been for a long time in operation at the

date it is fully paid for. In other words the recorded value of the asset in such a circumstance

(i.e. at cost) does not exist, the asset has depreciated already already, and it is overstated.

Overstatement under such a scenario will mean the value of the assets might have been

exploited by the accountant or other member to the extent of it. Net book value, but a

purchased item is a recorded at cost. So there is a gap for exploitation. Such an item

presented in the financial statement for users (shareholders, employee, lenders) will actually

be misleading in any case.

There is no proper ground on which the convention has been criticized as far as accounting is

concerned. However this concept conflicts with other forms of disciplines which are used

hand in hand with accounting, for example law.

Relevancy: Accounting to this concept the over all messages that accounts are trying to relay

may be obscured if too much information is presented. Accounts statements should contain

only information that complete strictly with the specific requirement of the user. This concept

is at times combined with

15. MATERIALITY CONCEPT.

Without the tolerance concept it would be easy for accountants to present information that is

irrelevant and un reliable to user a hide that information that will influence an economic

decision. In other words it would be very possible to disclose part of the information which is

material but likely to raise tension on the reliability of the accountant’s information.

There is no too much challenge as far as this convention is concerned where the accounting

statements contain only information that complies strictly with the specific requirement of

the user. Financial analysts will require information which is more sophisticated than that

employees require for decision making.

BALANCE SHEET EQUATION. [ACCOUNTING EQUATION].

A=L+E

Balance sheet is defined as the financial statement prepared to show the financial position of a

business stating assets and liabilities for the period.

An elaborate form of this equation is presented in a balance sheet which lists all assets, liabilities,

and equity, as well as totals to ensure that it balances.

Assets ------------------

Liab-----------------

The formula can be rewritten:

Assets − Liabilities = (Shareholders or Owners equity or Capital.

Now it shows owner's interest is equal to property (assets) minus debts (liabilities). Since in a

company owners are shareholders, owner's interest is called shareholder's equity. Every

accounting transaction affects at least one element of the equation, but always balances. Simplest

transactions also include:

Transaction

NumberAssets Liabilities

Shareholder's

EquityExplanation

1 + 6,000 + 6,000Issuing stocks for cash or other assets

2 + 10,000+ 10,000Buying assets by borrowing money (taking a

loan from a bank or simply buying on credit)

3 − 900− 900Selling assets for cash to pay off liabilities:

both assets and liabilities are reduced

4 + 1,000+ 400+ 600Buying assets by paying cash by shareholder's

money (600) and by borrowing money (400)

5 + 700 + 700Earning revenues

6 − 200 − 200Paying expenses (e.g. rent or professional

fees) or dividends

7 + 100− 100Recording expenses, but not paying them at

the moment

8 − 500− 500 Paying a debt that you owe

9 0 0 0

Receiving cash for sale of an asset: one asset is

exchanged for another; no change in assets or

liabilities

.

This equation is part of the transaction analysis model for which we also write

Owners equity = Contributed Capital + Retained Earnings

Retained Earnings = Net Income – Dividends

And Net Income = Income − Expenses

The equation resulting from making these substitutions in the accounting equation may be

referred to as the expanded accounting equation, because it yields the breakdown of the equity

component of the equation.

Expanded Accounting Equation

The Basic Accounting Formula

The accounting formula essentially shows what the firm owns (its assets) are purchased by

either what it owes (its liabilities) or by what its owners invest (its shareholders equity or

capital). This relationship is expressed in the form of an equation:

Assets = Liabilities + Owner's Capital

This equation has to balance because everything the firm owns (assets) has to be purchased with

something, either a liability or owner's capital. Assets refer to items like inventory or accounts

receivable. Examples of liabilities are bank loans or accounts payable. Owner's capital or equity

is the investment or capital the owner has in the firm. Another example is business profit.

The accounting formula or balance sheet equation can be expressed in two other ways:

Liabilities = Assets - Owner's Equity

Owner's Equity = Assets – Liabilities

A=FA + CA

L= LTL + E

E= C + NP- D

EXPANDED EQUATION

FA + CA = LTL + CL +C + NP-D

WC= CA- CL

CE= FA + WC [FA +CA-CL].

If you know any two of the three components of the accounting equation, you can calculate the

third component. If you look at a balance sheet, you can also see that the balance sheet is just an

extended form of the accounting equation.

Keeping the Accounting Formula Balanced

When you start up a new company, your accounting formula will be the following:

Assets = Liabilities + Owner's Equity

Shs 0 = shs 0 + shs 0

If this start-up is a very small business, the owner may deposit shs 1,000 in the business's

checking account. If the business is using double-entry bookkeeping, then the accounting

equation will now look like this:

Assets = Liabilities + Owner's Equity

Shs 1,000 = shs 0 + shs 1,000

Next, this small business may purchase office supplies, using cash, in the amount of shs 150.

Suddenly, the accounting equation looks like this:

Assets = Liabilities + Owner's Equity

Shs 1000 = shs 150 + shs 850 because expenses decrease owner's equity

This means that the asset account "Office Supplies" was increased by shs 150 and the cash

account was decreased by shs 150. Regardless of the type of transaction, the accounting equation

must stay balanced.

The Expanded Accounting Formula

The expanded accounting equation shows the relationship between the income statement and the

balance sheet. The Owner's Equity component of the accounting equation can be broken down

into two parts - revenue and expenses. So far, the accounting equation has focused on the

components of the balance sheet. Now, breaking the owner's equity part of the accounting

equation into revenues and expenses shows the relationship between the balance sheet and the

income statement since revenue and expenses are the key components of the firm's income

statement.

Revenues, also called sales revenues, are what the business earns for providing its product or

service to customers. Expenses are what it costs the business to provide the product or service to

the customers. The relationship between revenues and expenses is simple. If revenues are greater

than expenses, then the business generates a profit. If revenues are less than expenses, then the

business sustains a loss.

The owner or owners of the company can also withdraw a salary or equity from the business. If

the company is incorporated, then that salary may be in the form of dividends paid by the

corporation. However, if the company is small and a sole proprietorship, partnership, or limited

liability company, then the owner or owners will take a draw from the business as their salaries.

The expanded accounting equation, after you consider sales revenue and expenses, is:

Assets = Liabilities + Owner's Equity + Revenue - Expenses - Draws

where: Revenues increase Owner's Equity

Expenses decrease Owner's Equity

Draws or Dividends decrease Owner's Equity

It's important that your accounting equation balance because, if it does not, your financial reports

will not make sense or enable you to keep track of your financial transactions.

For you to do.

a) With 3 examples in each case, explain the three elements of the accounting equation

b) On 1st January 2010, Edward started a business of selling ladies’ Garments around the

small kampala. He started with cash of UGX 5,000,000 at hand and cash at bank of UGX

10,000,000

Jan 2. Purchased stock for UGX 3,000,000, paying 60% cash and 40% on credit. Sold 2/3 of

the goods at UGX 2,500,000 on credit

Jan 3. Paid rent UGX 100,000 cash

Jan 10. Received cash payment of UGX 2,000,000 from debtors and paid UGX 1,000,000

cash to suppliers.

Jan 15. Bought motor vehicle for UGX 6,000,000, paid UGX 2,000,000 by cheque, UGX

1,000,000 cash and promised to pay the balance later.

Jan 20. Sold ½ of the remaining stock of goods for UGX 700,000 collecting cash of

UGX 200,000 immediately and the balance to be received later.

Jan 25. Paid electricity UGX 200,000 by cheque

Jan29. Used business cash of UGX 200,000 to buy a trouser for her husband

Jan 31. Acquired a loan of UGX 4,000,000 from a cousin brother to be repaid in two year’s

time. It was deposited on the business bank account.

Required

Construct accounting equations for each of the above transactions and at the end, come up

with an elementary balance sheet.

Two financial statements are used by financial institutions to evaluate a company's loan

application, the Income Statement and the Balance Sheet.

The Income Statement shows the sales (incoming revenues) and expenses over a set period of

time. This statement is a good indicator of the profitability of a business during a particular

period, as it shows the net result when the sales of the business are put against its expenses. The

Balance Sheet, on the other hand, shows the business assets, liabilities and shareholder capital on

a specific date, and as a result gives a good picture of a company's financial position.

In this article, we take a closer look at the balance sheet and what the numbers represent.

Assets

Liabilities

The Intangibles

Equity

Assets

Assets are anything with commercial value that your business owns. They are divided into three

categories: current assets, fixed assets, and other assets.

Current assets are cash, accounts receivable, inventory, and other assets that will likely be turned

into cash, bartered, exchanged, or converted into an expense within a year during the normal

course of business. Included in the “other current assets” category are loans to shareholders, also

known as due to shareholders.

Some business owners will not pay themselves a salary, preferring to take drawings, which they

must deal with at year-end. In the current assets section, due to shareholder amounts may

artificially inflate current assets if you plan to convert them to bonuses, dividends or

management fees at year-end, at which time they become expenses of the business.

Fixed assets have commercial value but are not expected to be consumed or converted into cash

in the normal course of business. They are long-term, more permanent or "fixed" items, such as

land, building, equipment, fixtures, furniture, and leasehold improvements.

Fixed assets often decrease in value (depreciate) over time due to wear and tear from use. The

federal government allows businesses to depreciate items for tax purposes, and it has defined

specific depreciation rates for different categories of fixed assets. On your balance sheet,

therefore, you will see the initial value of the asset, the amount of accumulated depreciation, and

finally the net depreciated value of the asset.

Example of a fixed asset on the balance sheet:

Vehicle $28,000

Accum Deprec - Vehicle $-8,500

Total Vehicle $19,500*

* Net depreciated value of the vehicle.

Other assets are things that don't fit into either of the above two categories, yet still belong on the

balance sheet. They include things like prepaid expenses, which have value but are not fixed or

necessarily to be converted into cash value during the current business year.

Liabilities

Liabilities are company debts or obligations to outside parties as a result of goods or services that

were transferred to your company on a specific date that has already passed. Current liabilities

are the portion of those obligations that are to be paid out during the course of the year, while

long-term liabilities are the portion of your company's obligations that extend beyond that

timeframe.

Current liabilities include accounts payable, accumulated taxes and payroll liabilities, and the

current amount owing on business loans and/or leases.

Long-term liabilities, meanwhile, include the balance of your loans, leases, and other liabilities

beyond the current calendar year.

The Intangibles

While Intangible Assets do not appear directly on your balance sheet, they can be a significant

factor when one looks to buy or sell a business or part of the business. Intangible assets include

things like good will; intellectual property such as copyrights, trademarks, patents; leases;

franchises; permits and so on.

While you do not list these assets on your balance sheet, they are reflected in the sense that they

enable you to maintain profit margins and market share, so in turn they show up on the current

assets section of your balance sheet through the revenue and profits they create.

Equity

Something that is often difficult for new entrepreneurs to grasp is the way equity is calculated on

the balance sheet, where the total assets always equal the total liabilities plus equity.

In other words, your company's equity is equal to the value of its total assets minus its total

liabilities. If the business assets are greater than the liabilities, which is hopefully the case, then

the equity of the business is the positive difference between the two numbers.

Sample equity calculation:

On Company ABC's Balance Sheet, the Total Assets are $100,000, while the Total Liabilities are

$40,000. In this case, the difference between the assets and liabilities is $60,000. Since equity is

equal to this difference, the equity of Company ABC at that time is $60,000.

If Company ABC had Total Liabilities of $50,000, with its Total Assets staying at $100,000,

then the equity of Company ABC at that time would be $50,000. The increase in the total

liabilities of the company in comparison to its total assets causes the equity of the business to

drop.

SOURCE DOCUMENTS AND BOOKS OF ACCCOUNTS KEPT BY THE BUSINESS.

In order that the entries made in the books of account are trusted they should be supported by documentary evidence. Source documents are documents which provide the accounting information where required. They include the following:-

i) Cash sale shipThis is used for cash transactions. It is prepared by the seller and issued to the customer who has paid for the goods on spot.

ii) Cash ReceiptIs issued when a debtor pays for the goods already delivered or service already rendered. It acknowledges the receipt of cash.

iii) Cash payment voucherThis is prepared for internal use. It is prepared/approved by top management to authorize payment of cash for goods or services.

iv) Bank deposit slipThis is a document issued by the bank to its client as evidence that cash or cheque has been deposited into the bank account.

v) Bank statementThis is a document issued by the bank to its customer showing the transactions that have taken place during a given period of time. It shows deposits made, with draws and the balance as at a given date.

vi) InvoiceIs a document which gives the quantity, quality, unit price, total value of the goods sold on credit

vii) Delivery noteThis is a document showing the list of goods, without showing their prices which is sent to the buyer. It is used for checking the goods. When the goods are delivered to the buyer, he is supposed to retain one copy and return the other copy to the seller, duly signed by him. It proves that the goods have been delivered.

viii) Credit noteThis document shows a decrease on the claim of money. It is issued when part of the goods sold or purchased are returned or price overcharged is reduced at a later stage.

ix) Debit noteThis document is sent by the seller to correct for an undercharge on the original invoice. It is issued because it is considered to issue another document rather than to do the alterations on the original invoice.

DOUBLE ENTRY SYSTEM AND PREPARATION OF BOOKS OF ACCOUNTS

DOUBLE ENTRY SYSTEM.

This is a book keeping system where there is dual recording of transactions that is; it should be

recorded twice in 2 books of Accounts.

In the Double entry system, the Debit (DR) entry must have a Corresponding Credit (CR) entry

and vice versa.

To every transaction, the totals must be the same that is; DR and CR totals. Debit and Credit are

means of increasing and decreasing an account’s balance depending on the nature of account.

A Debit entry may increase or decrease or vice versa.

AN ACCOUNT

An account is a means of bringing together records or it’s a means of bringing together records

of all transactions which took place in a business in chorological order that is; recorded in order

of time.

Accounts include; “IMPERSONAL” and ‘PERSONAL ACCOUNTS”. Personal accounts

include; Debtors and Creditors Accounts and Impersonal accounts are subdivided into ‘Real’ and

‘Nominal’ Accounts. Real Accounts are accounts of tangible things. For example; Furniture

whereas Nominal Accounts are accounts of intangible things that is; services like; advertising.

FORMATS OF ACCOUNTS

1. T Account Format. This is the Debit and Credit format in a T form that is;

DR CASH A/C CR

2. Running Balance Format. This is a format where a balance is shown every after the

recording of a transaction.

CASH ACCOUNT

Date Details Folio Debt Credit Balance

Type of Account Increase Decrease Normal Balance

Asset Account Debit (DR) Credit (CR) Debit (DR)

Liabilities Account Credit (CR) Debit (DR) Credit (CR)

Incomes Account Credit (CR) Debit (DR) Credit (CR)

Owners’ Equity Credit (CR) Debit (DR) Credit (CR)

Capital & reserves

Expenditures

Account

Debit (DR) Credit (CR) Debit (DR)

- Liabilities are obligations you have to pay in a business.

- Things or goods which are not for resale are not purchases.

Examples;

i) Sold goods for cash 8 million

DR CASH A/C CR DR SALES A/C

Sales 8m Cash 1m CASH

ii) Bought furniture for 5 million and paid by cheque

BANK A/C FURNITURE A/C

Furniture 5m BANK 5m

iii) Bought goods for 3 million on credit

PURCHASES CREDITOR A/C

Creditor 3m Cash 1m Purchases

iv) Made part payment 1 million cash on credit

Definition and Explanation of Cash Book:

Learning Objectives:

1. Define and explain cash book.2. How a cash book is balanced.3. Prepare a format of the simple cash book.

Cash book is a book of original entry in which cash transactions relating only to cash receipts and payments are recorded in detail. When cash is received it is entered on the debit or left hand side. Similarly, when cash is paid out the same is recorded on the credit or right hand side of the cash book.

The cash book, though it serves the purpose of a cash book of original entry viz., cash journal really it represents the cash account of the ledger separately bound for the sake of convenience.

Types of cash books.

a) Single column cash book.b) Two/double column cash book.c) Triple or three column cash bookd) Analytical petty cashbook.

Vouchers:

For Every entry made in the cash book there must be a proper voucher. Vouchers are documents containing evidence of payment and receipts. When money is received generally a printed receipt is issued to the payer but counterfoil or the carbon copy of it is preserved by the cashier.

The copy receipts are called debit vouchers, and they support the entries appearing on the debit side of the cash book. Similarly when payment is made a receipt is obtained from the payee.

These receipts are known as credit vouchers. All the debit and credit vouchers are consecutively numbered. For

Balancing Cash Book:

The cash book is balanced at the end of a given period by inserting the excess of the debit on the credit side as "by balance carried down" to make both sides agree. The balance is then shown on the debit side by "To balance brought down" to start the next period. As one cannot pay more than what he actually receives, the cash book recording cash only can never show a credit balance.

Format:

The following is the simple format of a cash book:

Date Particulars L.F. Amount Date Particulars L.F. Amount

               

Single Column Cash Book:

Learning Objectives:

1. Define and explain single column cash book.2. Prepare a single column cash book.

Definition and Explanation:

Single column cash book records only cash receipts and payments. It has only one money column on each of the debit and credit sides of the cash book. All the cash receipts are entered on the debit side and the cash payments on the credit side.

While writing a single column cash book the following points should be kept in mind:

1. The pages of the cash book are vertically divided into two equal parts. The left hand side is for recording receipts and the right hand side is for recording payments.

2. Being the cash book with the balance brought forward from the preceding period or with what we start. It appears at the top of the left side as "To Balance" or "To Capital" in case of a new business.

3. Record the transactions in order of date.4. If any amount of cash is received on an account, the name of that account is entered in

the particulars column by the word "To" on the left hand side of the cash book.5. If any amount is paid on account, the name of the account is written in the particulars

column by the word "By" on the right hand side of the cash book.6. It should be balanced at the end of a given period.

Posting:

The balance at the beginning of the period is not posted but other entries appearing on the debit side of the cash book are posted to the credit of the respective accounts in the ledger, and the

entries appearing on the credit side of the cash book are posted to the debit of the proper accounts in the ledger.

Format of the Single Column Cash Book:

Following is the format of the single column cash book:

Date Particulars L.F. Amount Date Particulars L.F. Amount

Example:

Write the following transactions in the simple cash book and post into the ledger:

1991    Jan. 1 Cash in hand 15,000"  6 Purchased goods for cash 2,000"  16 Received from Akbar 3,000"  18 Paid to Babar 1,000"  20 Cash sales 4,000"  25 Paid for stationary 60"  30 Paid for salaries 1,000"  31 Purchased office furniture 2,000

Solution:

Cash Book

Date ParticularsL.F

.Amount Date Particulars

L.F.

Amount

1991Jan. 1

16  20  

  

 To Balance b/dTo AkbarTo sales a/c

 

 

To Balance b/d

  

   

 15,0003,0004,000

22,000

15,940

 Jan. 6

18   25  30  31  

 By Purchases a/cBy BabarBy stationaryBy Salaries a/cBy Furniture a/cBy Balance c/d

 

  

 

 2,0001,000

601,0002,00015,940

22,000

Akbar

      1991Jan. 16 By Cash

$3,000

Sales Account

      1991Jan. 2 By Cash

$4,000

Purchases Account

1991Jan. 6 To Cash

$2,000

    

Babar Account

1991Jan. 18 To Cash

$1,000

    

Stationary Account

1991Jan. 25 To Cash

$60

    

Salaries Account

1991Jan. 30 To Cash

$1,000

    

Furniture Account

1991Jan. 31 To Cash

$2,000

    

Two Column Cash Book/Double Column Cash Book:

Learning Objectives:

1. Define and explain a two/double column cash book.2. Prepare a two column cash book.3. What is the difference between a single column cash book and a double column cash

book?

Definition and Explanation:

A double column cash book or two column cash book is one which consists of two separate columns on the debit side as well as credit side for recording cash and discount. In many

concerns it is customary for the trader to allow or to receive small allowance off or against the dues. These allowances are made for prompt settlement of accounts. In certain business almost all receipts or payments are accompanied by such discounts and in order to avoid unnecessary postings separate columns in the cash book are introduced to record the discounts received or allowed. These discount columns are memorandum columns only. They do not form the discount account. The discount column on the debit side of the cash book will record discounts allowed and that on the credit side discounts received.

Posting:

The cash columns will be posted in the same way as single column cash book. But as regards discount column, each item of discount allowed (Dr. side of the cash book) will be posted to the credit of the respective personal accounts. Similarly each item of discount received will be posted to the debit of the respective personal account. Total of the discount column on the debit side of the cash book will be posted to the debit side of the discount account in the ledger and the total of discount column on the credit side of the cash book on the credit side of the discount account. The discount columns are not balanced like cash column of the tow column cash book.

Format of the Double Column Cash Book:

            Debit Side                                                     Credit Side

Date

ParticularsV.N

.L.F

.Discoun

tCash

Date

ParticularsV.N

.L.F

.Discoun

tCash

                       

Example of Two Column Cash Book:

From the following transactions write up a two column cash book and post into ledger:

1991  Jan. 1 Cash in hand $2,000"  7 Received from Riaz & Co. $200; discount allowed $10"  12 Cash sales $1,000"  15 Paid Zahoor Sons $500; discount received $15"  20 Purchased goods for cash $300"  25 Received from Salman $500; discount allowed $15"  27 Paid Hussan & Sons $300."  28 Bought furniture for cash $100"  31 Paid rent $100

Solution:

Cash Book

            Debit Side                                                     Credit Side

Date ParticularsV.N

.L.F

.Discoun

tCash Date Particulars

V.N.

L.F.Discoun

tCash

1991

Jan.1

"  7"  12"  25

1991

Feb1

To Balance b/dTo Riaz & Co.To Sales a/cTo Salman

To Balance b/d

 

  10

15

2,000200

1,000500

1991Jan.5"  20"  27"  28"  31

By Zahoor & SonsBy purchase a/cBy Hussan&SonsBy Furniture a/cBy Rent a/cBy Balance c/d 

   15 500

300300100100

2,40025 3,700 15 3,700 

2,400   

Riaz & Co.

      1991Jan. 7 By Cash

By Discount

$20010

Sales Account

      1991Jan. 12 By Cash

$1,000

Salman Account

  

  1991Jan. 25 By Cash

By Discount

$50015

Babar Account

1991Jan. 18 To Cash

$1,000

    

Zahoor Account

1991Jan. 15 To Cash

Discount

$50015

    

Purchases Account

1991Jan. 20 To Cash

$300

    

Hussan & Sons

1991Jan. 27 To Cash

$300

    

Furniture Account

1991Jan. 28 To Cash

$100

    

Rent Account

1991Jan. 31 To Cash

$100

    

Discount Account

1991Jan. 31 To Sundries as per Cash

book

$

25

1991Jan. 31 By Sundries as per cash

book 15 

Three Column Cash Book:

Learning Objectives:

1. Define and explain a three column cash book/treble column cash book.2. Prepare a three column cash book.

3. What is the difference between a single column cash book, a double column cash book and a three column cash book?

Definition and Explanation:

A three column cash book or treble column cash book is one in which there are three columns on each side - debit and credit side. One is used to record cash transactions, the second is used to record bank transactions and third is used to record discount received and paid.

When a trader keeps a bank account it becomes necessary to record the amounts deposited into bank and withdrawals from it. Fir this purpose one additional column is added on each side of the cash book. One of  the main advantages of a three column cash book is that it is very helpful to businessmen, since it reveals the cash and bank deposits at a glance

Writing a Three column Cash Book:

Opening Balance:

Put the opening balance (if any) on cash in hand and cash at bank on the debit side in the cash book and bank columns. If the opening balance is credit balance (overdraft) then it will be put in the credit side of the cash book in the bank column.

Cheque/Check or Cash Received:

If a cheque is received from any person and is paid into the bank on the same date it will appear on the debit side of the cash book as "To a Person". The amount will be shown in the bank column. If the cheque received is not deposited into the bank on the same date then the amount will appear in the cash column. Cash received will be recorded in the usual manner in the cash column.

Payment By Cheque/Check or Cash:

When we make payment by cheque, this will appear on the credit side "By a person" and the amount in the bank column. If the payment is made in cash it will be recorded in usual manner in the cash column.

Contra Entries:

If an amount is entered on the debit side of the cash book, and the exact amount is again entered on the credit side of the same account, it is called "contra entry". Similarly an amount entered on the credit side of an account also may have a contra entry on the debit side of the same account.

Contra entries are passed when:

1. Cash is deposited into bank by office: It is payment from cash and receipt in bank. Therefore, enter on credit side, cash column "By Bank" and on debit side bank column "To Cash". The reason for making two entries is to comply with the principle of double entry which in such transactions is completed and therefore, no posting of these items is necessary. Such entries are marked in the cash book with the letter "C" in the folio column

2. Cheque/Check is drawn for office use: It is payment by bank and receipt in cash. Therefore, enter on the debit side, cash column "To Bank" and on credit side, bank column "By Cash".

Bank Charges and Bank Interest Allowed:

Bank charges appear on the credit side, bank column "Bank Charges." Bank interest allowed appear on the debit side, bank column "To Interest".

Posting:

The method of posting three column cash book into the ledger is as follows:

1. The opening balance of cash in hand and cash at bank are not posted.2. Contra Entries marked with "C" are not posted.3. All other items on the debit side will be posted to the credit of respective accounts in the

ledger and all other items on the credit side will be posted to the debit of the respective accounts.

4. As regards discounts the total of the discount allowed will be posted to the debit of the discount account in the ledger and total of the discount received to the credit side of the discount account.

Format of the Three Column Cash Book:

            Debit Side                                                     Credit Side

Date

ParticularsV.N

.L.F

.

Dis-coun

t

Cash

Bank

Date

ParticularsV.N

.L.F

.

Dis-coun

tCash

Bank

                           

Three Column Cash Book:

On January 1, 2010 Cavendish Stores cash book showed debit balance of cash shs 1,550 and bank sh 13,575. During the month of January following business was transacted.

2010  Jan.1 Purchased office typewriter for cash shs 750; cash sales shs 315"   Deposited cash shs 500"   4 Received from A. Hussan a cheque for sshs 2,550 in part payment of his account"   6 Paid by cheque for merchandise purchased worth shs 1,005

"   8 Deposited into bank the cheque received from A. Hussan."   10 Received from Hayat Khan a cheque for shs 775 in full settlement of his account and

allowed him discount shs 15."   12 Sold merchandise to Divan Bros. for shs 1,500 who paid by cheque which was

deposited in the bank.

"   16 Paid Salman shs 915 by cheque, discount received $5

"   27 Paid to Gal Ahmad by cheque shs 650"   30 Paid salaries by cheque shs 1,750"   31 Deposited into bank the cheque of Hayat Khan."  31 Drew from bank for office use shs 250.

You are required to enter the above transactions in three column cash book and balance it.

Solution: Cavendish Store Cash Book

       Debit Side                                                     Credit Side

Date ParticularsV.N

.L.F

.

Dis-coun

tCash   Date Particulars

V.N.

L.F.Dis-coun

tCash  

2010Jan.1"  1"  3"  4"  8"  10"  12"  31"  31

2011Feb.

1

To Balance b/dTo Sales a/cTo Cash a/cTo A HussanTo CashTo Hayat KhanTo Sales a/cTo CashTo Bank

To Balance b/d

 

C

C

CC 

15

1,5501,315

2,550

775

250

13,575

500

2,550

1,500775

 

2010Jan.1"  3"  6"  8"  16"  27"  30"  31"  31

Office Equip. Bank Purchases a/c Bank SalmanBy GulzarBy Salaries a/cBy BankBy CashBy Balanced c/d 

 

C

C

CC

5

750500

2,550

775

1,865 

1,005

915650

1,750

25014,330

15 6,440 18,900 5 6,440 18,900 

1,865 14,330

     

Sales Account

      1991Jan. 1"  12

By CashBy Cash

$1,3151,500

A. Hussan

      1991Jan. 4 By Cash

$2,550

Hayat Khan

  

  1991Jan. 10 By Cash

By Discount

$77515

Office Equipment Account

1991Jan. 1 To Cash

$750

    

Purchase Account

1991Jan. 6 To Cash

 

$1,005

 

    

Salman

1991Jan. 16 To Cash

To Discount

$9155

    

Gulzar Ahmad

1991Jan. 27 To Cash

$650

    

Salaries Account

1991Jan. 30 To Cash

$1,750

    

Discount Account

1991Jan. 31 To Sundries as per Cash

book

$

15

1991Jan. 31 By Sundries as per cash

book 5 

Bank Reconciliation Statement:

Learning Objectives:

1. Define and explain bank reconciliation statement.2. What are the reasons of disagreement of the balances of cash book and bank statement.3. Prepare the format of the statement.4. Prepare bank reconciliation statement.

Definition and Explanation:

From time to time the balance shown by the bank and cash column of the cash book required to be checked. The balance shown by the cash column of the cash book must agree with amount of cash in hand on that date. Thus reconciliation of the cash column is simple matter. If it does not agree it means that either some cash transactions have been omitted from the cash book or an amount of cash has been stolen or lost. The reason for the difference is ascertained and cash book can be corrected. So for as bank balance is concerned, its reconciliation is not so simple. The balance shown by the bank column of the cash book should always agree with the balance shown by the bank statement, because the bank statement is a copy of the customer's account in the banks ledger. But the bank balance as shown by the cash book and bank balance as shown by the bank statement seldom agree. Periodically, therefore, a statement is prepared called bank reconciliation statement to find out the reasons for disagreement between the bank statement balance and the cash book balance of the bank, and to test whether the apparently conflicting balance do really agree.

Causes of Disagreement Between Bank statement and Cash book:

Usually the reasons for the disagreement are:

1. That our banker might have allowed interest which have not yet been entered in our cash book.

2. That our banker might have debited our account for any such item as interest on overdraft, commission for collecting cheque, incidental charges etc., which we have not entered in the cash book.

3. That some of the cheque which we drew and for which we credited our bank account prior to the date of closing, were not presented at the bank and therefore, not debited in the bank statement.

4. That some cheques or drafts which we have paid into bank for collection and for which we debited our bank account, were not realised within the due date of closing and therefore, not credited by the bank.

5. The banker might have credited our account with amount of a bill of exchange or any other direct payment into bank and the same may not have been entered in the cash book.

6. That cheques dishonoured might have been debited in the bank statement but have not been given effect to in our books.

How to Prepare a Bank Reconciliation Statement:

To prepare the bank reconciliation statement, the following rules may be useful for the students:

1. Check the cash book receipts and payments against the bank statement.

2. Items not ticked on either side of the cash book will represent those which have not yet passed through the bank statement.

3. Make a list of these items.4. Items not ticked on either side of the bank statement will represent those which have not

yet been passed through the cash book.5. Make a list of these items.6. Adjust the cash book by recording therein those items which do not appear in it but which

are found in the bank statement, thus computing the correct balance of the cash book.7. Prepare the bank reconciliation statement reconciling the bank statement balance with the

correct cash book balance in either of the following two ways:

(i)  First method (Starting with the cash book balance)(ii) Second method (Starting with the bank statement balance)

First Method (Starting With the Cash Book Balance):

(a) If the cash balance is a debit balance, deduct from it all cheques, drafts etc., paid into the bank but not collected and credited by the bank and added to it all cheques drawn on the bank but not yet presented for payment. The new balance will agree with bank statement.

(b) If the bank balance of the cash book is a credit balance (overdraft), add to it all cheques, drafts, etc., paid into the bank but not collected by the bank and deduct from it all cheques drawn on the bank but not yet presented for payment. The new balance will then agree with the balance of the bank statement.

Second Method (Starting With the Bank Statement Balance):

(a) If the bank statement balance is a debit balance (an overdraft), deduct from it all cheques, drafts, etc., paid into bank but not collected and credited by the bank and add to it all cheques drawn on the bank but not yet presented for payment. The new balance will then be agree with the balance of the cash book.

(b) If the bank statement balance is a credit balance (in favor of the depositor), add to it all cheques, drafts, etc., paid into the bank but not collected and credited by the bank and deduct from it all cheques drawn on the bank but not yet presented for payment. The new balance will agree with the balance of the cash book.

Alternatively:

Information

Cash book shows debit balance i.e., bank

statement shows credit balance

Cash book shows credit balance i.e., bank

statement shows debit balance

CB to BS BS to CB CB to BS BS to CBCheques issued but not presented in the bank

Add Less Less Add

Cheques paid into bank but not collected and credited by the bank

Less Add Add Less

Credit, if any in the bank statement

Add Less Less Add

Debit, if any in the bank statement

less Add Add Less

Example 1:

On December 31 1991 the balance of the cash at bank as shown by the cash book of a trader was $1,401 and the balance as shown by the bank statement was 2,253.

On checking the bank statement with the cash book it was found that a cheque for $116 paid in on the 31st December was not credited until the 1st January, 1992 and the following cheques drawn prior to 31 December were not presented at the bank for payment until the 5th January 1992. Rashid & Sons $29, Bashir & Co. $801, MA Jalil $6, Khalid Bros., $132.

Prepare a statement recording the two balances:

Solution:

Bank Reconciliation Statement on 31st December 1991     First Method:    Balance as per cash book - Dr.   1,401Less cheques paid in but not collected   116       1,285Add cheques drawn but not presented:         Rashid & Sons 29       Bashir & Co. 801       MA Jalil 6       Khalid Bros. 132 968 Balance as per bank statement - Cr. 2,253

Second Method:Balance as per bank statement - Cr. 2,253Less cheques drawn but not presented 968

1,285Add cheques paid in but not collected 116

Balance as per cash book - Dr. 1,401

Example 2:

On 31st March, 1991 the bank statement showed the credit balance of $10,500. Cheque amounting to $2,750 were deposited into the bank but only cheque of $750 had not been cleared up to 31st March. Cheques amounting to $3,500 were issued, but cheque for $1,200 had not been presented for payment in the bank up to 31st March. Bank had given the debit of $35 for sundry charges and also bank had received directly from customers $800 and dividend of $130 up to 31st March. Find out the balance as per cash book.

Solution:

Bank Reconciliation Statement as on 31st March, 1991

Balance as per bank statement - Cr. 10,500Add cheques deposited but not credited 750   11,250Less cheques issued but not presented 1,200   10,050Add bank charges made by the bank 35   10,085Less omission in cash book ($800 + $130) 930 Balance as per cash book 9,155

Note:

1. Charges made by the bank $35 have not been recorded in the cash book, therefore, the balance in cash book is more. Add to bank statement balance also.

2. Dividend and amount from customers received by the bank have not been recorded in the cash book. Therefore, in the cash book there is no entry of $930 (800 + 130). Deduct from the bank statement balance to adjust it according to cash book balance.

Petty Cash Book:

Learning Objectives:

1. Define and explain petty cash book.2. What is the imprest system of petty cash?3. What are the advantages of Imprest system?4. Prepare a petty cash book.

Definition and Explanation:

In almost all businesses, it is found necessary to keep small sums of ready money with the cashier or petty cashier for the purpose of meeting small expenses such as postage, telegrams, stationary and office sundries etc. The sum of money so kept in hand generally termed as petty cash and book in which the petty cash expenditures are recorded is termed as petty cash book.

In large business houses , the cashier has to handle every day a large number of receipts and payments and if in addition to this he is further saddled with petty cash payments, his position becomes embarrassing. Besides, it is most common to find with large commercial establishments that all receipts and payments are made through bank. Since expenses like postage, telegrams, traveling etc, cannot be made by means of cheques, the maintenance of a small cash balance to meet these petty payments becomes all the more necessary.

A petty cash book is generally maintained on a columnar basis - a separate column being allotted for each type of expenditure. The is only one money column on the debit side and all sum received from time to time by the petty cashier from the chief cashier are entered in it. The credit side consists of several analysis columns. Every payment made by the petty cashier is entered on this side twice - Firstly it is recorded in the total column and then to the appropriate column to which the expense is concerned. The total of the "total column" will naturally agree with the total

of all subsidiary columns. The difference between the total of the debit items and that of the "total column" on the credit side at any time will represent the balance of the petty cash in hand and this should tally with the petty cashier's actual holding of cash.

The posting from the petty cash book to the respective accounts in the ledger are made directly in total at the end of every month or any other fixed period.

The Imprest System:

The more scientific method of maintaining petty cash so for introduced into practice is the imprest system. Under this system a fixed sum of money is given to the petty cashier to cover the petty expenses for the month. At the end of a month the petty cashier submits his statement of petty expenses to the chief cashier. The chief cashier on the receipt of such statement refunds to the petty cashier the exact amount spent by him during the month, thus making the imprest for the next month the same as it was at the beginning of the current month.

It is to be noted that the amount of cash in the hands of the petty cashier is a part of the cash balance, therefore it should be included in the cash balance when the latter is shown in the trial balance and the balance sheet. It should also be kept in mind that petty cash book is not like the cash book. It is a branch of cash book.

Advantages of Imprest System:

The main advantages of imprest system of petty cash are as follows:

1. A s the petty cashier has to produce to the chief cashier the petty cash book for inspection, it acts as a healthy check on the petty cashier.

2. As the petty cashier has to account for his expenses, before he can draw further sums, the petty cash book remains up to date.

3. As the petty cashier cannot draw as and when he likes, it prevents unnecessary accumulation of cash in his hand thus the chances of defalcation of cash are minimised.

Format of the Petty Cash Book:

The following is the simple format of a petty cash book:

Amount Receive

dDate Particulars

V.N.

Total PostagePrinting

and Stationary

Cartage

Traveling Expenses

Misc.

                   

Example:

Enter the following transactions in the columnar petty cash book of a cashier who was given $100 on 1st March, 1991 on the imprest system:-

1991    March 2 Paid for postage stamps 8

"  2 Paid for stationary 10"  3 Paid for cartage 4"  3 Paid for postage stamps 6"  8 Paid for paper 1"  12 Paid for cartage 6"  18 Paid for trips to office peons 2"  23 Paid for ink and nibs 4"  25 Paid for Tiffin to office peons 6"  26 Paid for train fair 5"  28 Paid for bus fair 4"  29 Envelops and letter heads 6"  30 Printing address on above 4"  31 Taxi fare to manager 10

Solution:

Amount Receive

dDate Particulars

V.N.

Total Postage

Printing and

Stationary

CartageTraveling Expenses

Misc.

$$100

1991March

1"  2"  2"  3"  3"  3"  12"  18"  23"  25"  26"  28"  29"  30"  31"  31

April 1"  1

To CashBy PostageBy StationaryBy CartageBy PostageBy PaperBy CartageBy Tip to peonBy Ink & nibsBy Tiffin to PeonBy train fairBy bus fairBy Envelops et.By printingBy Taxi fairBy balance c/d

To Balance b/dTo Cash

 

810461624654641024

8

6

10

1

4

64

4

654

10

2

6

100   100 14 25 10 19 8

2476

             

Purchases Day Book:

Learning Objectives:

1. Define and explain purchases day book.2. What are the ruling and posting of the purchases book?3. Prepare a purchases day book.

Definition and Explanation:

Purchases book or purchases day book is a book of original entry maintained to record credit purchases. You must note that cash purchases will not be entered in purchases day book because entries in respect of cash purchases must have been entered in the cash book. At the end of each month, the purchases book is totaled. The total shows the total amount of goods purchased on credit. Purchases book is written up daily from the invoices received. The invoices are consecutively numbered. The invoice of each number is noted in the purchases book.

Ruling:

It is not ruled like the ordinary journal. The first column in this book is for date. In the second column, the name of the supplier or the seller, quantity of each article bought, description of the article, rate etc., are recorded. Sometimes a separate column to record the details of the transactions is added in the purchases day book. The third column is for invoice number. The fourth column is for ledger folio. The last column gives the total amount to the supplier.

Posting:

The total of the purchases book is posted to the debit of purchases account. Names of the suppliers appear in the purchases book. These parties have supplied the goods. They are, therefore, credited with the amount appearing against their respective names. The double entry will thus be completed.

Format:

The following is the format of purchases day book:

Date Particulars Inv.No. L.F. Amount

         

Example:

From the following transactions of a trader prepare the purchases day book and post it into ledger:-

1991   $January 5 Purchased goods from Rasool & Co. 2,400

"     15 Purchased goods from Iqbal Bros. 6,000"     25 Purchased goods from More & Co. 1,500"     30 Purchased goods from Maqbool & Co. 3,000

Solution:

Purchases Day Book

Date Particulars Inv.No. L.F. Amount1991Jan. 5 Rasool & Co.

Iqbal Bros.More & Co.Maqbool & Co. 

    $2,4006,0001,5003,000

Purchases Account

1991Jan. 31 To Sundries as per

P/Book

$12,900

     

Rasool & Co.

    

1991Jan. 5

 

By Purchases$

2,400

Iqbal Bros.

    

1991Jan. 15

 

By Purchases$

6,000

More & Co.

    

1991Jan. 31

 

By Purchases$

1,500

Maqbool & Co.

    

1991Jan. 30

 

By Purchases$

3,000

Purchases Returns Book:

Definition and Explanation:

Purchases returns book is a book in which the goods returned to suppliers are recorded. It is also called returns outward book or purchases returns day book. Goods may be returned because they are of the wrong kind or not up to sample or because they are damaged etc. The ruling of this book is absolutely the same as of purchases day book. The book and entries are made therein just the same as those made in the purchases day book.

Posting:

The total of the purchases returns or returns outwards book is credited to returns outward account or purchases return account (being the goods sent out). Individual suppliers to whom goods are returned are debited (because they receive the goods).

Debit Note:

When the goods are returned to the suppliers, an intimation is sent to them through what is known as a debit note. These debit notes serve as vouchers for these entries. A debit note is a statement sent by a businessman to another person, showing the amount debited to the account of the later. Debit notes are usually serially numbered and are prepared in the same form as that of the invoice.

Form of the Debit Note:

Debit Note

Messrs Rehman & SonsStandard RoadMultan 

Lahore,March 19, 1991.

To goods returned:     10 shirts at $12     10 pairs trousers at $20Goods returned as per R/R No.........dated.......

120200

320E & O. E For Good Luck & Co.

Partner

Format of Purchases Returns Book:

The following is the format of purchases Returns book:

Date Particulars D/N L.F. Amount

         

Example:

From the following transactions of a trader prepare the purchases returns day book and post it into ledger:-

1991   $January 8 Karim & Sons 135

"     20 Fazal Din & Co. 150"     31 Saeed Bros. 250

Solution:

Purchases Day Book

Date Particulars D/N L.F. Amount1991Jan. 8"   20"   31

Karim & SonsFazal Din & Co.Saeed Bros. 

    $135150250535

Purchases Returns Account

  

  1991Jan. 31 By Purchases as per

P.R.B.

$535

Karim & Sons

1991Jan. 8 To Purchases returns 135

 

  

 

Fazal Din & Co.

1991Jan. 20 To Purchases Returns

$150

  

 

   

Saeed Bros.

1991Jan. 31 To Purchases

 

$250

 

 

  

 

Sales Day Book:

Definition and Explanation:

A sales book is also known as sales day book is a book of original entry in which are recorded the details of credit sales made by a businessman. Total of sales book shows the total credit sales of goods during the period concerned. Usually the sales book is totaled every month. The sales day book is written up daily from the copies of invoices sent out.

Posting:

The total of the sales book is credited to sales account. Customers whose names appear in the sales book are debited with the amount appearing against their names. Double entry is thus completed.

Format of Sales Day Book:

The following is the format of sales day book:

Date Particulars Inv. No. L.F. Amount

         

Example:

From the following transactions of a trader prepare the sales day book of M. Amin and post it into ledger:-

1991   $January 5 Sold goods to ideal college 200

"     10 Sold goods to Ahmad & Co. 100"     20 Credit sales to Karim Bakhish 400"     31 Sold goods to cheap stores 100

Solution:

Purchases Day Book

Date Particulars D/N L.F. Amount1991Jan. 5"  10"  20"  31

Idea collegeAhmad & Co.Karim BakhishCheap stores 

    $200100400100800

Sales Account

  

  1991Jan. 31 By Sundries as per

s/Book

$800

Ideal College

1991Jan. 5 To Sales 200

 

  

 

Ahmad & Co.

1991Jan. 10 To Sales

$100

 

 

  

 

Karim Bakhish

1991Jan. 20 To Sales

 

$400

 

 

  

 

Cheap Stores

1991Jan. 31 To Sales

 

$100

 

 

  

 

Sales Returns Book:

Learning Objectives:

1. Define and explain sales return book.2. What is a credit note?

3. Prepare a sales returns book and post into ledger.

Definition and Explanation:

Sales returns book is also called returns inwards book. It is used for recording goods returned to us by our customers. The ruling of this books is exactly as for sales day book.

Posting:

The of the returns inwards book or sales returns book is debited to returns inwards account or sales returns account. The customers who have returned the goods are credited with the amount shown against their names.

Credit Note:

Customers who return goods should be sent a credit note. It is a statement sent by a business to another person showing the amount credited to the account of the later. Credit notes are serially numbered and are similar in form to the invoices. These are usually printed in red ink. Credit notes issued to customers are vouchers for the entries appearing in the sales returns book.

Form of Credit Note:

Messrs Ideal Traders, PeshawarCr. in account with Messrs Good luck & Co.. Lahore

Lahore,March 19, 1991

By 100 shirt at $2Goods returned as per I/No.........Dated.......Dollars two hundred only

200

E. & O. E. For Good luck & Co.Partner

Format of Sales Returns Book:

The following is the format of sales returns book:

Date Particulars C/N L.F. Amount

         

Example:

From the following transactions of a trader prepare the sales returns book and post it into ledger:-

1991   $January 8 Goods returned by Parker & Co. 40

"     20 Goods returned by Ideal Traders $52 52"     31 Allowance granted to Riaz & Co.., for short delivery 100

Solution:

Sales Returns Book

Date Particulars D/N L.F. Amount1991Jan. 8"  20"  31

 

Parker & Co.Ideal TradersRiaz & Co.

 

    $4052100

 192

Sales returns Account

1991Jan. 31 By Sundries as per

S.R.B 

$192

  

 

Parker & Co.

    

1991Jan. 8

 

By Sales returns$40

Ideal Traders

  

 

 

1991Jan. 20

 

By Sales returns$52

Riaz & Co.

    

1991Jan. 31

 

By Sales returns$

100

 

Bills Receivable Book:

Learning Objectives:

1. Define and explain bills receivable book.2. Prepare a bills receivable book and post into ledger.

Definition and Explanation:

Bills receivable book is used to record the bills received from debtors. When a bill is received, details of it are recorded in the bills receivable book.

Posting:

In the ledger the account of the person from whom each bill is received is credited with the amount of that bill and the periodical total of the book is posted to the debit of bills receivable account.

the bills receivable book is ruled according to the requirements of a particular account.

Format of Bills Receivable Book:

The following is the format of bills receivable book:

(1) Bills Receivable Book

No. of

BillsDate

From whom

receivedDrawer Acceptor

Where payable

TermDue date

L.F. Amount Remarks

                     

(2) Bills Receivable Book

Date From whom received Term Due date L.F. Amount

           

Example:

From the following transactions of a trader prepare the bills receivable book and post it into ledger:-

1991  January 5 Drew a bill on Abdullah & Co. at 2 m/d for $700.

"     10 Acceptance received from Rahim Bakhish at 3 m/d for $ 1,000."     20 A. Riaz gives his acceptance at 3 m/d for $800."     30 Bill at 2 m/d for $100 is drawn on Bashir.

Solution:

Bills Receivable Book

Date Particulars Term Due Date L.F. Amount1991Jan. 5"  10"  20"  30

 

Abdullah & Co.Rahim BakhishA. RiazBashir

 

2 m/d3 m/d3 m/d2m/d

March 8April 13"     21

March 3

  $700

1,000800100

 2,600

Bills Receivable Account

1991Jan. 30 By Sundries as per B/R

Book 

$2,600

  

 

Abdullah & Co.

    

1991Jan. 5

 

By Bill receivable$

700

Rahim Traders

  

 

 

1991Jan. 10 By Bill receivable

$1,000

 

A. Riaz

    

1991Jan. 30

 

By Bill receivable$

800

Bashir

    

1991Jan. 30

 

By Bill receivable$

100

Bills Payable Book:

Learning Objectives:

1. Define and explain bills payable book.2. Prepare a bills payable book and post into ledger.

Definition and Explanation:

Bills payable book is used to record bill accepted by us. When a bill drawn by our creditor is accepted particulars of the same are recorded in this book.

Posting:

In the ledger, the account of each person whose bill has been accepted is debited with the amount of the bill. The monthly total of the bills accepted is credited to the bills payable account ledger.

Format of Bills Receivable Book:

The following is the ruling and format of bills payable book:

(1) Bills Payable Book

DateTo whom

givenDrawer Payee

Where payable

TermDue date

L.F. Amount Remarks

                   

(2) Bills Payable Book

Date To whom given Term Due date L.F. Amount

           

Example:

From the following transactions of a trader prepare the bills payable book and post it into ledger:-

1991  January 5 Accepted a bill at 3 m/d for $200 drawn by Rahmat & Co.

"     20 gave acceptance at 2 m/d for $500 to Kamal."     30 Acceptance at 1 m/d for $ 500 given to Feroz & Co.

Solution:

Bills Payable Book

Date Particulars Term Due Date L.F. Amount1991Jan. 5"  20"  30

 

Rahmat & Co.KamalFeroz & Co.

 

3 m/d2 m/d1 m/d

 

April 8March 23"      30

 

  $200500500

 1,200

Bills Payable Account

 

 

  1991Jan. 31

By Sundries as per B/p Book

$1,200

Rahmat & Co.

1991Jan. 5 By Bill Payable

$200

 

  

 

Kamal

1991Jan. 20 By Bill Payable

$500

 

 

  

 

Feroz & Co.

1991Jan. 31 By Bill Payable

$500

 

  

 

Journal Proper:

Learning Objectives:

1. Define and explain journal proper.2. When a journal proper is used?

Definition and Explanation:

Journal proper is book of original entry (simple journal) in which miscellaneous credit transactions which do not fit in any other books are recorded. It is also called miscellaneous journal. The form and procedure for maintaining this journal is the same that of simple journal.

The use of journal proper is confined to record the following transactions:-

1. Opening entries2. Closing entries3. Transfer entries4. Adjustment entries

5. Rectification entries6. Entries for which there is no special journal7. Entries for rare transactions

Opening Entries:

When a businessman wants to open the book for a new year, it is necessary to Journalise the various assets and liabilities before the new accounts are opened in the ledger. The journal entries so passed are called  "opening entries". Suppose a businessman opens a new set of books on January 1, 1991 with cash in hand $100, debtors $200, stock in trade $320, machinery $700, furniture $150, bank loan $300, capital $1,070 the respective opening entry in the journal will be:

CashSundry debtorsStock in tradeMachineryFurniture & fitting

100200320700200

 

     To Sundry creditors     To Bank loan     To Capital 

  1503001,070

(Being the incorporation of assets and liabilities at this date)

Closing Entries:

When the books are balanced at the close of the accounting period with a view to paper final accounts it is necessary that balance of all the income and expenses accounts must be transferred to trading and profit and loss account. The process of transferring balances to the trading and profit and loss account at the end of year is called closing the books and entries passed at that time are called closing entries. For example on 31st December, 1991 the balance in expenses accounts are: Salary $500; rent $200; Stationary $50; legal charges $100; and income accounts are: commission received $50. These balance will be recorded in profit and loss account though the following closing entries:

Profit and loss account     To Salary     To Rent     To Stationary     To Legal charges

(Being the closing entry)

85050020050100

   Commission received account     To Profit and loss account

(Being the closing entry)

5050

Transfer Entries:

When accounts are transferred from one account to another for combination of allied items, it is necessary to pass transfer entry. For example, Drawings $500 is transferred from the drawings account to the capital account to find out the net capital. The transfer entry will be passed as follows:

Capital Account     To Drawings account

(Being the transfer entry)

500500

Adjusting Entries:

Modification of the accounts at the end of an accounting period is called adjustments. If there be any event affecting the related period of accounts but left out of the books, the same should be incorporated in the books before the preparation of the final accounts. This is done by means of adjusting entries through the journal proper. For example at the end of the year it is found that rent $50 is outstanding. It is not recorded in the books. It will be taken into account by means of adjusting entry which is as follows:

Rent account     To Outstanding rent account

(Being outstanding rent recorded)

5050

Rectification Entries:

When an error is detected in the books, the same is rectified through an entry in the journal proper; thus is called rectification entry. For example, it was detected that an expenditure of $ 100 on repair to building was charged to building account. It is corrected through the following entry in the journal proper:

Building repair account     To Building account

100100

Entries of Which There is No Special Journal:

When a trader cannot record the entries in the above mentioned sub-journals, the same are entered in the journal proper. The common transactions which cannot be recorded in any of the book of original entry are:

Distribution of goods as free sample. Distribution of goods as charity. Goods destroyed by fire. Goods stolen away by employees. Exchange of one asset for another asset etc.

Entries for Rare Transactions:

In a business it may happen sometimes that transactions are usually rare. Journal proper is used for such rare transactions.

BOOKS KEPT BY THE BUSINESS.

Information contained in source documents is recorded in the following books.

1. Cash bookThis is a book used to record all cash receipts and payments for the business. Depending on the size of the business and the nature of cash transactions, a single column, a two column, a three column cash books and a petty cash book may be used.

2. Purchases day bookThis is a book used to record purchases made on credit. It is also called purchases journal. It is written up form incoming invoices received from suppliers.

3. Sales day bookThis is a book used to record sales made on credit. It is therefore used to record credit sales. It is also called sales journal. It is written up from outgoing invoices which are sent to customers.

4. Return outwards bookIt is a book used to record in goods returned by the business to creditors. The reasons for returning goods may be due to damage, expired, faculty, of wrong specification, type, size, colour etc.

It is also called purchases returns book or return outwards journal. It is written up from information contained in the incoming credit notes.

5. Return inwards bookIt is a book used to record in goods returned by customers to the business. It is also called return inwards journal sales returns book. It is written up from copies of outgoing credit notes (credit notes issued)

6. General journalAlso called journal proper it is used to record in transactions of the business which can not be entered in other books mentioned above. Ti is used to record transactions like purchase or sale of a fixed asset on credit, to correct errors to record opening and closing entries, to record adjustments.

THE LEDGER AND THE CONCEPT OF DOUBLE ENTRY

The ledger:

This is an accounting book used to maintain proper records of business transactions. The ledger has two side i.e.

- Left hand side (Debit side)- Right hand side (Credit side)

The debit side is used to record the value received while the credit side is used to record the value spent or lost.

A page of the ledger appears as below,

Dr. Name of the ledger account Cr.

Date Particulars Fol. Amount Date Particulars Fol. Amount

i) The date column is used to record the date when the transaction took place.ii) The particulars column is used to record details/description of the transaction.iii) The folio column is used to record the page numbers and accounts where the record is

to be transferred.iv) The amount column is used to record values of the transactions.

Kinds of ledger

There are three major kinds of ledgers. These include:-

- General ledger or normal ledger- Sales ledger or debtors ledger.- Purchases ledger or creditor’s ledger.

i) General ledger

This ledger contains the accounts relating to the proprietor (owner) and other normal transactions e.g. sales, purchases, expenses, etc.

ii) Sales ledger

This ledger is used to maintain the personal accounts of all debtors. A debtor is a person / business firm who owes is a person to the business.

iii) Purchases ledger

This ledger is used to maintain the personal accounts of all creditors. A creditor is a person to whom money is owed.

An account

An account is a record of transactions of a particular type, expressed in financial terms and recorded in the ledger.

CLASSIFICATION OF ACCOUNTS.

The classification of accounts is the collection of transactions of similar nature into appropriate ledger accounts. Accounts are classified into two i.e. personal and personal accounts.

PERSONAL ACCOUNTS

Are those accounts which appear in the ledger in the names of people or organizations e.g. debtors and creditors.

IMPERSONAL ACCOUNTS.

Are those accounts which appear in the ledger in the names of things / items. Impersonal accounts are further subdivided into two i.e. real and nominal accounts.

Real accounts – these are accounts which relate to tangible items i.e. they appear in the ledger in the names of property e.g. land, buildings, furniture, cash, stock etc.

Nominal accounts – Are accounts which relate to intangible items. They record expenses and gains or losses and incomes. Examples are wages and salaries, electricity , discount allowed discount received, rent received, rent paid etc.

The following diagram may help you to understand it better.

ACCOUNTS

PERSONAL ACCOUNTS IMPERSONAL ACCOUNTS

Debtors Creditors Real Accounts Nominal Accounts

Accounts Accounts for property of all kind for expenses and losses

THE CONCEPT OF DOUBLE ENTRY.

Double entry principle states that for every transaction there should be both a debit entry and a corresponding credit entry, and vise versa.

Rules for double entry recording:

1. Every transaction affects at least two accounts2. There must be at least one debit and one credit3. The total debits must be equal to total credits4. The particulars or details in the account refer tot eh name of the other account where

double entry is recorded.The following diagram shows the application of the rule of double entry.

Accounts

Norminal Account Real Account Personal Account

Dr Cr Dr Cr Dr. Cr.

Expenses Incomes What comes What goes The The

& Losses & gains in out receiver giver

Example

Mr. Opio started business with capital of shs. 1,500,000 on 1st Jan 2008. he made the following transactions during the month.

2008

Jan 1 purchased shop fittings for cash Shs. 400,000

” 2 purchases goods for resale in cash Shs.150,000

” 5 sold goods and received cash Sh. 100,000

” 10 paid transport in cash Sh. 60,000

” 20 received cash from Alex 90,000

” 21 purchased goods for resale inc ash 100,000

” 27 sold goods and received cash shs. 120,000

” 28 paid for advertising in cash 60,000

” 29 Purchased furniture inc ash 150,000

” 31 paid wages in cash 50,000

Required:

Record the above transactions in Mr. Opio’s ledger following the double entry system.

Dr. Capital Account Cr.

2008

Jan 1 Cash 150,000

Dr. Cash Account Cr.

2008 Shs 2008 Shs

Jan 1 Capital 1,500,000 Jan 1 Shop fittings 400,000

5 Sales 100,000 ” 02 Purchases 150,000

20 Alex 90,000 ”10 Transport 60,000

27 Sales 120,000 ”21 Purchases 100,000

”28 Advertising 60,000

”29 Furniture 150,.000

”30 Wages 50,000

Dr. Shop fittings A/C Cr.

2008 Shs Jan 1 Cash 400,000

Dr. Purchases A/C Cr.

2008 Shs

Jan 2 Cash 150,000

21 Cash 100,000

Dr. Sales A/C Cr

2008 Shs Jan 5 Cash 100,000

” 27 Cash 120,000

Dr. Transport A/C Cr.

2008 Shs

Jan 10 Cash 60,000

Dr Alex’s Account Cr

2008 Shs

Jan 20 Cash 90,000

Dr. Advertising Account Cr.

2008 Shs

Jan 28 Cash 60,000

Dr. Furniture Account Cr.

2008 Shs

Jan 29 Cash 150,000

Dr. Wages Account Cr.

2008 Shs

Jan 30 Cash 50,000

BALANCING OFF ACCOUNTS.

Balancing off accounts means to insert the difference on the side with a small title so that you get the same totals on both sides. Accounts must be balanced at the end of every month. The following steps are followed when balancing off an account.

i) Add up both sides to find out their totalsii) Deduct the small total from the larger total to find the balance.iii) Now enter the balance on the side with a smaller total to ensure that the totals on both

sides are equal. The balance inserted is called balance carried down (Bal. c/d).iv) Enter totals on the same level with each other.v) Transfer the balance to the opposite side of the account but below the totals. This

balance below the totals is called Balance brought down (Bal. b/d). the date used should be the first day of the next period.

Example

Dr. Cash Account Cr.

2008 Shs 2008 Shs

Jan 1st capital 180,000 Jan 1 purchases 80,000

” 10 sales 60,000 ” 3 transport 5,000

” 20 John 10,000 ” 11 furniture 10,000

” 31 sales 120,000 ” 31 wages 20,000

” 31 Bal. c/d 255,000

370,000 370,000

Feb 1st Bal b/d 255,000

EXERCISE.

K.K. Company Ltd started business dealing in motor vehicles with capital of Shs. 500,000,000 in cash on 1st May, 2008. it made the following transactions during the month of may.

May 1st purchased 5 saloon cars for resale in cash Shs. 12,000,000

” 5 paid transport charges in cash shs. 5,000,000

” 10 Sold two saloon cars and received cash shs. 17,000,000

” 15 purchased 2 Isuzu trucks in cash Shs. 50,000,000

” 20 purchased machinery in cash shs. 2,000,000

” 26 sold 1 Isuzu truck and received cash shs. 70,000,000

” 28 paid wages and salaries in cash shs. 10, 000,000

” 31 purchased furniture for ash shs. 800,000

Required

Record the above transactions in K.K company’s ledgers.

CASH TRANSACTIONS.

When cash or cheque is used in buying things or in paying for certain services the action is described as a cash transaction. Buying or obtaining something by paying out cash or cheque at that particular time is cash purchaser. Selling or disposing something or providing services to someone in exchange for cash or cheque from him at that particular time in cash sale.

Advantages of selling on cash basis .

1. The entrepreneur would be free of accounting work which would involve him in expenses beyond his limited resources.

2. It avoids risks to loses through bad debts3. The entrepreneur will have ready cash with which to buy new stock as it becomes

necessary.4. The entrepreneurs will not get involved into borrowing money to finance his

purchases since he is likely to have enough ash which he can utilize.5. It facilitates the sell of small items since buyers can afford to pay on spot.6. The entrepreneur will be in position to pay his creditors promptly and obtain cash

discount.

7. The entrepreneur is not likely to be involved in legal expenses incase the buyer failed to pay the amount due from him.

8. The entrepreneur can plan for the use of his working capital.

Management of cash sales (cash transactions)

In order to ensure that cash is properly managed an entrepreneur should do the following:-

i) All cash received in the business should be receipted and accounted for.ii) All cash collected in business should be banked.iii) Cash held in the business should be under lock.iv) All cash receipts and other documents for cash be kept available for referencev) The entrepreneur should avoid to use business cash for personal uses (cash drawings)

Two column cash book

The cash book is an accounting book used to record used to record all cash receipts and cash payments of the business. Receipts are values coming in and are entered on the debit side. Payments are values going out and are entered on the credit side.

The two column cash book also called double column cash book has two amount columns on both side i.e. the cash and bank columns and is used to maintain both the cash and bank account at ago. The cash or cheque paid are credited.

Below is the layout of the two column cash book.

Dr. Two column cash book

Date Particulars Fol. Cash Bank Date Particulars Fol. Cash Bank

Shs Shs Shs Shs

Illustration

On 1st April 2008 Kato started business with cash Shs. 1,300,000 and cash at bank shs. 1,500,000. the following transactions took place:

April 3rd bought shop fittings for Shs. 160,000 in cash

” 5th bought goods for cash shs. 300,000

” 6th sold goods and received a cheque for shs. 400,000

” 7th sold goods for cash Shs. 150,000

” 10 paid carriage inwards Shs. 200,000 by cheque.

” 15 cash sales shs. 500,000

” 17 paid carriage inwards shs. 100,000 in cash

” 20 received a bank loan of Shs. 500,000 by cheque

” 22 paid wages in cash shs. 20,000

” 23 paid electricity by cheque shs. 15,000

” 29 paid rent in cash shs. 100,000

Required:

(a) Record the above transactions in the two column cash book and balance it.(b) Post the entries to ledgers

(a) Two column cash book

Date Particulars Fol. Cash Bank Date Particulars Fol. Cash Bank

Shs shs shs shs

2008 2008

April 1 Capital 1,300,000 1,500,000 April 3rd Shop fittings 160,000

” 6 Sales 400,000 ” 5 Purchases 300,000

” 7 Sales 150,00 ” 10 Purchases 200,000

” 15 Sales 500,000” 17 Carriage In. 100,000

” 20 Loan 500,000 ” 22 Wages 20,000

” 23 Electricity 15,000

” 29 Rent 100,000

” Bal. c/d

May 1st Bal b/f

(b) Ledger Accounts

Dr Capital Account Cr.

2008 Shs

April 1st Cash 1,300,000

” 1st Bank 1,500,000

Dr. Shop fittings Account Cr.

2008 Shs

April 160,000

Dr. Purchases Account Cr.

2008 Shs

April 5 Cash 300,000

” 10Bank 200,000

Dr. Sales Account Cr.

2008 Shs

April 6 Bank 400,000

” 7 Cash 150,000

” 15 Cash 500,000

Dr. Carriage Inwards Cr.

2008 Shs.

April 17th Cash 100,000

Dr. Loan Account Cr.

2008 Shs.

April 20 Bank 500,000

Dr. Wages Account Cr.

2008 Shs

April Cash 20,000

Dr. Electricity Amount Cr.

2008 Shs

April 22 Cash 15,000

Dr. Rent Account Cr.

2008 Shs

April 29 Bank 100,000

CONTRA ENTRIES.

Contra entries are entries of transactions whose double entry is completed within the cash book. They refer to cash payment into one’s bank account or cash withdrawn from bank. This means that there is both a debit entry and a credit entry of the same transaction in the cash book.

Contra entries are indicated by letter “C” which is placed in the folio column in the cash book.

Example

Cash paid into bank

Dr. Bank column

Cr. Cash column

Cash withdrawn from bank

Dr. Cash column

Cr. Bank column

Illustration:

Enter the following transactions in the two column cash book for the month of Nov. 2008.

Nov. 1st balances brought forward:

Cash in hand shs. 120,000

Cash at bank shs. 350,000

Nov. 2nd sold goods for shs. 80,000 in acsh

” 3rd sold goods shs. 100,000 receiving the money by cheque

” 4th Deposited in the business bank account shs. 180,000 from cash in hand

” 7th The proprietor took shs. 15,000 in cash for personal use.

” 10th Withdrew shs. 50,000 from the business bank account for official use.

” 15th Bought goods for shs. 250,000 paying by cheque shs. 200,000 and in cash

shs. 50,000

” 20th Withdraw from bank for self use.

” 26 Received shs. 40,000 in acsh from Joseph

” 28 Received a cheque of shs. 60,000 from Zziwa.

”31 Paid rent by cheque shs. 12,000

TWO COLUMN CASH BOOK.

Date Particulars

Fol. Cash Bank Date Particulars

Fol. Cash Bank

2008 2008

Nov 1st Bal. b/f 120,000 350,000 Nov. 4

Bank C 180,000

” 2nd Sales C 80,000 7 Drawings 15,000

” 3rd Sales 100,000 10 Cash 50,000

”4th Cash C 50,000 20 Drawings

Exercise

1. Damuka enterprises had the following transactions for the month of June 2008.June 1 Balances brought forward from last month:

Cash in hand shs. 1,500,000

Cash at bank shs. 500,000

June 2 Bought goods by cheque 500,000

” 3 Bought land by cheque 600,000

” 5 Cash sales shs. 700,000

” 6 Deposited cash received on June 5th

” 10 Paid for wages shs. 50,000 in cash

” 15 received a cheque from Odongo Shs. 350,000

” 18 Withdrew cash from bank for own use shs. 50,000

” 20 Received bank overdraft for shs. 380,000

” 23 Withdrew cash from bank for own use shs. 50,000

” 26 Paid for rent and rates shs. 60,000

” 27 Paid rent by cheque shs. 200,000

” 30 Bought stationery in cash shs. 50,000

Required:

(a) Account the above transactions in Damuka double column book and balance it.(b) Post the entries to their corresponding ledger accounts(c) From the details given below, write up a double column cash book and balance it at

the end of the month.

2008

Oct 1 Balances brought forward

Cash in hand shs. 2,000,000

Cash at bank shs. 4,500,000

Oct 1 Put shs. 500,000 of cash into bank

” 2 Bought goods for cash shs. 100,000

” 3 Bought furniture and paid 200,000 by chque

” 6 Bought goods for cash 200,000

”7 Sold goods for cash shs. 400,000

” 9 Paid expenses in cash shs. 50,000

”14 Sold goods and received a cheque shs. 350,000

”17 Banked goods for cash shs. 300,000

“19 Bought goods for acsh shs. 250,000

”23 Paid wages to an assistant in cash shs. 400,000

”26 Proprietor took shs. 60,000 cash from the business for persona l use.

”29 Cashed cheque for office use shs. 150,000

”30 Paid all cash into bank leaving a balance of only shs. 200,000

The Three Column Cash Book

The three column cash book is a cash book that has three amount columns on both the debit side and the credit side as illustrated below:-

Dr. Three Column Cash Book Cr.

Date Particulars Fol. Disc Cash Bank Date Particulars Fol. Disc Cash Bank

Allowed Received

Shs. Shs.

Discounts

A discount is an allowance given by a trader on goods purchased

Kinds of discounts

There are two kinds of discounts namely;

- Trade discount- Cash discount

Trade discount

This is an allowance given by a trader on goods purchased in large quantities.

Cash discount

This is an allowance given by a trader to encourage customers to pay their accounts promptly. Cash discounts charged as a percentage of the cost price of the goods bought.

Cash discount is of two kinds namely;

- Discount allowed- Discount received

Discount allowed

This is an allowance given to debtors who pay their, accounts promptly. It is a loss tot eh business.

Discount received

This is an allowance received from creditors when the business settles its debts promptly. It is regarded as a gain to the business.

The discount allowed column and the discount received column in the three column cash book are not accounts. They are used for the convenience of keeping a list or record of all the relevant cash discounts. At the end of a given period, when the cash book is balanced, the discount columns are not balanced. Instead they are totaled and the totals posted to the general ledgers as follows:

- The total discount allowed account

- The total discount received is credited tot eh discount received account.

Illustration

Write up a three column cash book for Kizito from eh details given below; balance it off at the end of the month and show the discount accounts in the general ledger.

2008

Aug 1st Balances b/f:

Cash shs. 250,000

Bank Shs. 740,000

Aug 2nd Bought goods by cheque shs. 200,000

3rd Cash sales shs. 180,000

5th Banked cash shs. 200,000

6th Paid by cheque and received 3% cash discount to:-

A- John shs. 150,000

H- David shs. 300,000

D- Alex shs. 140,000

7th Received by cheque and allowed 5% cash discount from:

B- Simon shs. 400,000

Z- Ben Shs. 300,000

e- Fred shs. 320,000

10th Bought office furniture by cheque shs. 300,000

15th Cash drawings shs. 50,000

20th Paid F. Andrew shs. 80,000 inc ash less 3% cash discount.

22nd Received cash from A.Smith shs. 150,000 less 4% cash discount

30th Paid wages inc ash shs. 100,000.

Mr. Kizito’s Three column cash book

Date Details

Fol Disc allowed

Cash Bank Date

Details

Fol.

Disc Received

Cash Bank

2008

2008

Aug1st bal b/f

250,000

740,000

Aug2

Purchases

200,000

3rd Sales 180,000

5th Bank C 200,000

5th Cash C 200,000

6th A. John

4,500 145,500

7th B.Simon

20,000

380,000

6th H.David

9,000 291,000

7th Z.Ben

15,000

385,000

6 D.Alex

4,200 135,800

7th E. Fred

16,000

304,000

10 Office furn.

300,000

22nd A.Smith

6,000

144,000

15 Drawings

50,000

20 F.Adrew

2,400 77,600

30 Wages 100,000

31 Bal.c/d

146,400

836,700

57,000

574,000

1,909,000

20,100

574,000

1,909,000

Sep 1st

Bal b/d

146,400

836,700

General ledger

Dr Discount Allowed Account Cr.

2008 Shs.

Aug 31 Cash 57,000

Dr Discount received account Cr.

2008 Shs

Aug 31 Cash 20,100

Exercise

1. Write up a three column cash book from the following details. Post the entries to ledgers.

2008 Shs.

Jan 1st Cash balance 100,000

Bank overdraft 150,000

” 3rd Paul paid us cash 205,000

Discount allowed 15,000

”5th Paid Oplot by cheque shs 50,000 in full settlement of an amount of shs. 55,000 owing to him

” 8th Cash purchases 120,000

” 9th Paid cheque for goods 80,000

”13th Received from Robert cash shs. 275,000 having allowed a discount of shs.25,000, he banked the amount.

” 19th Drew cash from bank for private use 45,000

” 28th Bank charges for cheque book 10,000

Interest charges for cheque overdraft 15,000

” 29th Paid Moses by cheque 320,000

” 30th Banked all cash in the office

2. Okello’s financial position on 1st Feb. 2008 was as follows:-Shs.

Cash in hand 400,000

Cash at bank 540,000

Stock 760,000

Office furniture 1,560,000

Debtors: Harriet 235,000

Joseph 650,000

Creditors: Patrick 310,000

Dennis 265,000

Transactions for the month of Feb. 2008 were as follows:-

Feb. 2 Paid Harriet cheque shs. 285,000 in full settlement of amount owed.

4th Bought goods on credit from Dennis 360,000

7th Returned damaged goods to Dennis 30,000

9th Cash sales 220,000

11th Transfer cash from office to bank 150,000

14th Bought typewrite for office use, paid cash 425,000

16th Cash sales paid direct into bank 530,000

18th Drew cash from bank for office use 100,000

21st Received cheque from Harriet 220,000

Discount allowed 15,000

25th Cash purchases 130,000

26 Received cash from Joseph 230,000

Discount allowed 200,000

27th Dew cash from office for private use 48,000

27th Paid rent by cheque 270,000

28th Paid salary by cheque 285,000

Required

i) Prepare the three column cash bookii) The ledger accounts

3. On 1st May 2008 Tumwine’s books had the following information:

Cash balance 290,000

Bank balance 6,540,000

Debtors:-

Busigye 120,000

Wasswa 180,000

Kato 400,000

Creditors:-

Lwasa 600,000

Opio 440,000

Esalu 100,000

During the month of May the following transactions took place:-

3rd cash sales banked shs. 1,000,000

6th bought stationery by cash shs. 100,000

10th paid all creditors by cheque less 10% cash discount

14th banked cash shs. 500,000

15th paid mid month wages in cash shs. 300.000

20th drew cheque for own use Shs. 50,000

22nd all debtors paid by cheque less 5% cash discount

24th sold goods for cash shs. 450,000

29th received a cheque from David shs. 480,000 in full settlement of an amount of shs. 510,000

Required:

i) Write up a three column cash book and balance it.ii) Open up discount accounts in the general ledger.

PETTY CASH BOOK

The petty cash book is a special type of cash book (subsidiary cash book) designed to keep record of minor cash transactions i.e. transactions involving expenditure of small sums of money. Such small sums of money are known as petty cash.

Every firm finds it necessary to have some cash available for payment of small items of which the services of a bank would not be convenient. These are usually for:-

1. Postage – stamps for sending letters and parcels, telegrams.2. stationery – ink, ball pens, erasers, envelopes, paper, books for writing.3. Traveling expenses – fares for various means of transport – taxi, mini bus, bus etc.4. General expenses or miscellaneous expenses for items like minor repairs, tips and

other miscellaneous expenses not included in Nos. 1-35. Sundries – for items which are not usual petty cash items but are nevertheless paid in

cash e.g. loan to employee, purchase of goods.6. Ledger – for payment to creditors/suppliers.

The purpose of operating a petty cash system is to:-

i) Relieve the main cash book of numerous entries of a large volume of transactions involving expenditure of small amounts of money.

ii) Enable the cashier concentrate on major cash transactions while minor/small cash transactions are handled by the petty cashier.

iii) Reduce unnecessary movement tot eh bank to withdraw money whenever any payment is to be made.

iv) Reduces temptation of fraud and stealing of cash in the business.v) Serves as a training ground for the petty cashier in managing and accounting for

money.vi) Promotes division of labour and improved efficiency in the management of money.

TERMS USED

Imprest system

This is a method where the cashier gives the petty cashier an adequate amount of money to meet his petty cash payments for a given period of time say a week, fortnight or a month. At the end of the period the petty cahier gives accountability of money spent. Thereafter the petty cashier is reimbursed more money to bring the cash in hand (imprest) back to the original amount i.e. to replenish the amount of the imprest and the same cycle is repeated.

Imprest amount / cash float

This refers to a fixed sum of money given to the petty cashier to spend in a given period of time.

Reimbursement

This is the topping up of the balance brought down by the petty cashier to bring the amount to its original imprest.

Format of the petty cash book

There are two rulings of the petty cash book as shown below:-

Petty cash book

Date Details/particulars Voucher No.

Receipts Amount Analysis columns

Petty cash book

Receipts

Fol. Date Particulars Voucher No.

Amount

Analysis columns

Illustration 1:

Enter the following transaction sin the petty cash book of Odongo Steven having analysis columns for postage, cleaning, stationery, traveling expenses and ledger .

2008 Shs

March 1st Received for petty cash float 150,000

1st Bought stamps 4,000

3rd Paid for telegram 6,000

7th Paid bus fare 10,000

10th Gummer labels 2,000

16 Floor polish 7,000

18th Paid Ssentongo (Supplier) 30,000

25th Bought stamps 4,000

27th Paid for taxi fare 8,000

29th Paid for paper clips

PETTY CASH BOOK

Date Details Voucher No.

Receipts

Amount

ANALYSIS COLUMAN.

Postage

Cleaning

Stationery

Traveling exp.

Ledger

2008 Shs Shs Shs Shs Shs Shs Shs

March 1

Petty cash

150,000

1 Stamps 01 4,000 4,000

3 Telegram

02 6,000 6,000

7 Bus fare 03 10,000 10,000

10 Gummed labels

04 2,000 20,000

16 Floor polish

05 7,000 7,000

18 Ssentogo 06 30,000 30,000

25 Stamps 07 4,000 4,000

27 Taxi fare 08 8,000 8,000

29 Paper clips

09 2,500 2,500

14,000 7,000 4,500 18,000 30,000

Illustration II

The petty cashier of Kira Secondary School is given a weekly imprest of shs. 200,000. during the week that Nov. 3rd 2008, she made the following transactions.

Shs.

Nov. 3rd Balance at hand 41,000

3rd Cash reimbursement ?

4th Bought office cleaning materials 24,000

4th Paid for staff tea 15,000

5th Paid for headmaster’s travel fare 30,000

5th Bought sodas for staff 10,000

6th Paid for staff transport 15,000

6th Send mail shs. 1,500 and bought 4 reams of paper 24,000

7th Bought 4 boxes of chalk 10,000

7th Bought sugar and tea 4,000

7th Bought staple wires 1,000

8th Bought envelopes 2,000

8th Paid the cleaners 10,000

8th Bought a broom 500

8th Paid for weekly newspaper 14,000

Required

i) Prepare Cavendish. University petty cash book having analysis columns for stationery, cleaning, traveling, postage and office expenses.

ii) Show the …………. To be made in the general ledger.Date Particulars Fol V

oucher No.

Receipts

Amount

Stationery

Cleaning

Traveling

Postage

Office expenses

2008

Nov 3rd

Balance b/d 41,000

3rd Reimbursement 159,000

4th Office cleaning 01 240,000

24,000

4th Staff tea 02 15,000 15,000

5th H/M travel 03 30,000 30,000

5th Sodas 04 10,000 10,000

6th Staff transport 05 15,000 15,000

6th Mail 06 1,500 1,500

6th Reams 07 24,000 24,000

7th Boxes of chalk 08 10,000 10,000

7th Sugar & tea 09 4,000 4,000

7th Staple wires 10 1,000 1,000

8th Envelopes 11 2,000 2,000

8th Cleaners 12 10,000 10,000

8th Broom 13 500 500

8th Newspapers 14 14,000

37,000 34,500 45,000 1,500 43,000

9th Balance c/d 200,000

200,000

10th Bal. b/d 200,000

200,000

ii) General ledger

Dr. Stationery Account Cr.

2008 Shs

Nov. 9th Petty cash 37,000

Dr. Cleaning Account Cr.

2008 Shs

Nov. 9th petty cash 34,500

Dr. Traveling Account Cr.

2008 Shs.

Nov. 9th petty cash 45,000

Dr. Postage Account Cr.

2008 shs.

Nov. 9th petty cash 1,500

Dr. Office expenses Cr.

2008 Shs.

Nov. 9th petty cash 43,000

Exercise

1. Smart supermarket operates a petty cash imprest of shs. 500,000. on June 1st 2008 the petty cashier had a balance of shs. 65,000. the following transactions took place.June 2 re-imbursed cash to replenish the imprest

3rd paid for office cleaning shs. 80,000

7th purchased postage stamps shs. 31,500

11thpaid causal labour shs. 90,000

14thpurchased evelopes shs. 20,000

16thpurchased photocopying papers and pens shs. 80,000

22nd paid Mukoli, a creditor shs. 40,000

24thpaid casual labour shs. 85,000

27thpaid for registered mail shs. 35,000

29thbought black books shs. 10,000

Required

i) Enter the above transactions in the petty cash book with analysis columns for wages, stationery, postage and ledger and balance it.

ii) Show the posting of the petty cash book to the general ledger.

2. Annet maintains a petty cash book using the imprest system and a three column cash book. On 1st Aug 2008, the business records the following balances:-

Shs.

Petty cash (imprest) 250,000

Cash book: cash column 200,000 Dr.

Bank column 100,000 Cr.

You are required to:-

a) Enter the following transactions into appropriate books of original entry.b) Balance the petty cash book and cash on 10 Aug 2008

Note:

The petty cash book has three analysis columns for postage/courier, stationery and general expenses

2008

Aug 1st Paid for ball pens, erasers and marker pens from petty cash 15,000

3rd Received and banked cheque from charles who owes shs. 480,000. allowed him a cash discount of 5%

Cash sales 200,000

4th Cash sales 450,000

Paid for envelopes and cards 25,000

5th Paid for courier services 20,000

Bought stamps 13,000

Paid for computer forms and diskettes listed at shs. 160,000 less 10% trade discount by cheque.

7th Office cleaning 40,000

Paid for minor repairs 25,000

8th Cash sales 300,000

Paid wages by cash 600,000

10 The petty cashier received cash to mark up the imprest to the original amount. The chief cashier paid all cash received during the period into the bank except the amount reserved to mark up the petty cash.

You are in business which operates a petty cash system with a monthly imprest of shs. 800,000. During the month of April 2008, the following transactions took place.

Shs

April 1st Balance at hand 90,000

1st Issued cheque for reimbursement ??

2nd Paid cleaners’ wages 50,000

5th Paid Wandiba (a creditor) 150,000

6th Bought envelopes & stamps 30,000

10th Bought cleaning materials 100,000

14th Bought printers’ ribbon 55,000

23rd Bought books and pens 75,000

24th Bought envelopes & stamps 30,000

28th Bought stationery 300,000

The petty cash voucher commences at 501, write a petty cash book for April 2008 with analysis columns for cleaning, postage & office supplies as well as ledger.

The purchases day book

This book is also purchases journal or purchases book or bought day book.

It is a book of original entry in which all credit purchases are first recorded/listed before being entered in the ledger. At the end of a given period such as a month, the total credit purchase is determined and the entries are posted (made) in the ledger as follows:-

i) Each individual amount is credited to the respective personal account of the creditor (supplier) in the purchases ledger.

ii) The total credit purchase is debited to the purchases account in the general ledger.

The source documents, used to make entries in the purchases journal are the original purchases invoices received from supplies.

Illustration 1:

Enter the transactions given below in the purchases journal and thereafter post the ledger accounts.

2008

Nov 1st Purchased the following goods on credit from Southern Electronics at a discount of 10%, 15 radios at shs. 50,000, 20 cassette players at shs. 100,000 each. Invoice No. 401

Nov. 7th Purchased from Kitara electronics on credit

10 CD writers at shs. 50,000 eahc, 20 television sets at shs. 250,000 each. A trade discount of 5% was allowed and invoice No. 501 issued

Nov. 10th Purchased 15 digital radio from Kitara electronics at shs. 200,000 each at a trade discount of 5% invoice No. 551 was issued.

THE COST OF GOODS SOLD, ACCRUALS AND PREPAYMENTS

Introduction

So far we have calculated profits as follows

$

Sales X

Less costs of goods sold (x)

Gross profit X

Less expenses (X)

Net profit X

However, the figures for cost of sales and experiences may not always be simple adjustments

may need to be made.

1. THE COSTS OF GOODS SOLD

Unsold goods in inventory at the end of accounting period

1.1. Goods might be unsold at the end of an accounting period and so still be held in

inventory. The purchase costs of these goods should not be included therefore in the cost of

the period.

1.2. Example: Closing Inventory

Perry P. Louis, trading as a Umbrella shop, ends his financial year on 30 September each

year. On 1st October 20X4 he had no goods in inventory. During the year to 30 September

20X5, he purchased 30,000 umbrellas costing $60,00 from umbrella wholesalers and suppliers.

He resold the umbrella for $5 each, and sales for the year amounted to $100,000 (20,000

umbrellas). At 30 September here were 10,000 unsold umbrellas left in inventory, valued at $2

each.

What was Perry P. Louis’s gross profit for the year.

1.3. Solution

Perry P Louis purchased 30,000 umbrellas, but only sold 20,000. purchase costs of $60,000

and sales of $100,000 do not represent the same quantity of goods.

The gross profit for the year should be calculated by ‘matching’ the sales value of the 20,000

umbrellas sold with the cost of those 20,000 umbrellas. The cost of sales in this example is

therefore the cost of purchase minus the cost of goods in inventory at the year end.

Sales (20,000 units) $ $

100,000

Purchases (30,000 units) 60,000

Less closing inventory (10,000 units @ $2) 20,000

Cost of sales (20,000 units) 40,000

Gross profit 60,000

1.4. Example continued

We shall continue the example of the umbrella shop into its next accounting year, 1 October

20X5 to 30 September 20X6. during the course of this year , Perry P Louis purchased 40,000

umbrellas at a total cost of $95,000. During the year he sold 45,000 umbrellas for $230,000.

At 30 September 20X6 he had 5,000 umbrellas left in inventory which had cost $12,000.

1.5. Solution

In this accounting year, he purchased 40,000 umbrellas to add to the 10,000 he already had in

inventory at the start of the year. He sold 45,000, leaving 5,000 umbrellas in inventory at the

year end. One again, gross profit should be calculated by matching the value of 45,000 units of

sales with the cost of those 45,000 units.

The cost of sales is the value of the 10,000 umbrellas in inventory at the beginning of the

year, plus the cost of the 40,000 umbrellas purchased , less the value of the 5,000 umbrellas in

inventory at the year end.

$ $

Sales (45,00 units) 230,000

Opening inventory (10,000 units) 20,000

Add purchases (40,000 units) 95,000

Less closing inventory (5,000 units) 115,000

Cost of sales (45,000 units) 12,000

Gross profit 103,000

127,000

The cost of goods sold

1.6. The costs of goods sold is found by applying the following formula.

Formula to learn

$

Opening inventory value X

Add cost of purchases (or , in the case of a manufacturing company,

the cost of production)

X

X

Less closing inventory value (X)

Equals cost of goods sold (X)

Net profit X

In other words , to match ‘sales’ and ‘cost of goods sold’, it is necessary to adjust the cost of

goods manufactured or purchased to allow for increase or reduction in inventory levels during

the period.

1.7. The ‘formula’ above is based on the logical idea. You should learn it, because it is

fundamental among the principles of accounting.

1.8. Example: Cost of goods sold and variations in inventory levels

On 1 January 20X6, the Grand Union Food Stores had goods in inventory valued at $6,000.

During 20X6 its proprietor purchased supplies costing $50,000. Sales for the year to 31

December 20XX6 amounting to $80,000. The cost of goods in inventory at 31 December

20X6 was $12,500.

Calculate the gross profit for the year.

1.9. Solution

Grand Union Food Stores

Trading Account for the Year Ended 31 December 20x6

$ $

Sales 80,000

Opening inventories 6,000

Add purchases 50,000

Loss closing inventories 56,000

Cost of good sold 12,500

Gross profit 43,500

36,500

The cost of carriage inward and outwards

1.10. ‘Carraige’ refers to the cost of transporting purchased goods from the supplier to the

premises of the business which has bought them. Someone has to pay for these delivery costs:

sometimes the supplier pays, and sometimes the purchaser pays. When the purchaser pay, the

cost to the purchaser is carriage inwards (into the business). When the supplier pays, the cost to

the supplier is known as carriage outwards (out of the business).

1.10. the cost of carriage inwards is usually to added to the cost of purchases, and is therefore

included in the trading account.

The cost of carriage outwards is a selling and distribution expense in the income

statement.

1.12. Example: Carriage inwards and carriage outwards

Gwyn Tring, trading as Clickety clocks, imports and resells clocks. He pays for the costs of

delivering the clocks from this suppliers in Switzerland to his shop in Wales.

He resells the clocks to other traders throughout the country, paying the costs of carriage for the

consignment from his business premises to his customers.

On 1 July 20X5, he had clocks in inventory valued at $17,000. During the year to June 20XX6

he purchased more clocks at a cost of $75,000. Carriage inwards amounted to $2,000

excluding carriage outwards which cot $2,500. Gwny Tring took drawings of $20,000 from the

business during the course of the year. The value of the goods in inventory at the year end was

$15,400.

Required

Prepare the income statement of Clickety Clocks for the year ended 30 June 20X6.

1.13. Solution

CLICKETY CLOCKS

Income statement for the year ended 30 June 20X6

$ $

Sales 162,100

Opening inventory 17,000

Purchases 75,000

Carriage inward 2,000

94,000

Less closing inventory 15,400

Cost of goods sold 78,600

Gross profit 83,000

Carriage outwards 2,500

Other expenses 56000

58,500

25,000

Net profit (transferred to balance sheet)

Goods written off or written down

1.14. A trader might be unuble to sell all the goods that he purchased, because a number of

things might happen to the goods before they can be sold. For example

(a) Good might be lost of stolen

(b) Good might be damaged, become worthless and so he thrown away.

(c) Goods might become obsolete or out of fashion. These might be thrown away , or sold

off at a very law price in a clearance sale.

1.15. When goods are lost, stolen or thrown away as worthless, the business will make a loss

on those goods because their “sales value’ will be nil.

Similarly, when good lose value because they have become absolute or out of fashion,

the business will make a loss if their clearance sales value is less than their costs. For

example, if goods which originally cost $500 are now absolete and could only be sold

for $150, the business would suffer a lossof $ 350.

1.16. If, at the end an accounting period, a business still in inventory which are either

worthless or worth less than original costs, the value of the inventory should be written

down to:

(a) Nothing , if they are worthless

(b) Their net realizable value, if this is less than their original cost.

This means that the loss will be reported as soon as the loss is foreseen, even if the goods

have not yet been thrown away or sold off at a cheap price. This is an application of the

prudence concept, which we looked at in Chatper 10.

1.17. The costs of inventory written off or written down should not usually cause any

problems in calculating the gross profit of a business, because the cost of goods sold

will include the cost of inventories written off or written down, as the following

example shows.

1.18. Example: Inventories written off and written down

Lucas Wagg , trading as Fairlock Fashions , ends his financial year on 31 March. At 1 April

20X5 he had goods in inventory valued at $8,800. During the year to 31st March 20X6 , he

purchased goods costing $48,000. Fashion goods which cost $2,100 were still held in inventory

at 31 March 20X6, and Lucas Wagg believes that these could only be sold at a sale price of

$400. The goods still held in inventory at 31 Match 20X6 (including the fashion goods) and an

original purchase costs of $7,600. Sales for the year were $81,400.

1.19. Solution

Initial calculations of closing inventory values

Details At cost Realizable value Amount written

down

Fashion goods $

2,100

$

400

$

1,700

Other goods (balancing

figure)

5,500 5,500

7,600 5,900 1,700

FAIRLOCK FASHIONS

TRADING ACCOUNT FOR THE YEAR ENDED 31 MARCH 20X6

Sales $ $

18,400

Values of opening inventory 8,800

Purchases 48,000

56,800

Less closing inventory 5,900

Cost of goods sold 50,900

Gross profit 30,500

By basing the figure of $5,900 for losing inventories, the cost of goods sold automatically

includes the inventory written down of $1,700

Question 1

Gross profit for 20X7 can be calculated from

A. purchase for 20X7, plus inventory at 31 December 20X7, less inventory at 1 January

20X7

B. purchase for 20X7, less inventory at 31 December 20x&, plus inventory at 1st January

20X7

C. Cost of goods sold during 20X7, plus sales during 20X7\

D. Net profit for 20X7, plus expenses for 20x7

Answer

The answer is given with Question 2, so you won’t see it before you’ve though about it for

yourself.

2. ACCRUALS AND PREPAYMENTS

Introduction

1.1. It has already been stated that the gross profit for a period should be calculated by

matching sales and the cost of goods sold. In the same way, the net profit for a period

should be calculated by charging the expenses which relate to that period. For example,

in preparing the income statement of a business for a period of, say, six months , it

would be appropriate to charge six months’ expense for rent and local taxes ,

insurance costs and telephone costs, etc.

1.2. Expenses might not be paid for during the period to which they relate. For example, a

business rents a shop for $20,000 per annum and pays the full annual rent on 1st April

each year. If we calculate the profit of the business for the first six months of the year

20X7, the correct charge for rent in the income statement is $10,000, even though the

rent paid is $20,000/= in the period. Similarly, the rent charge in the income statement

for the second six months or the year is $10,000, even though no rent was actually

paid in that period.

Key Terms

Accrual or accrued expenses are expenses which charged against the profit for a particular

period, even though they have not yet been paid for.

Prepayment are payments which have been made in one accounting period, but should not

be charged against profit until a later period, because they relate to the late period.

1.3. Accruals and prepayment might seem difficult at first, but the following examples

should help to clarify the principle involved, that expenses should be matched against

the period to which they relate.

1.4. Example: Accruals

Horace Goodrunning, training and Good running Motor Spares ,end this financial year on 28

February each year. His telephone was installed on 1 April 20X6 and he received his telephone

account quarter at the end of each quarter. On the basis of the following data, you are required

to calculate the telephone expense to be charged to the income statement for the year ended

28 February 20X7.

Goodrunning Motor Spares – Telephone Expense for the three months ended:

$

30.6.20X6 23.50

30.09.20X6 27.20

31.12.20X6 33.40

31.3.20X7 36.00

1.5. Solution

The telephone expenses for the year ended 28 February 20X7 are:

$

1 March – 31 March 206 (no telephone) 0.00

1 April – 30 June 20X6 23.50

1 July - 30 September 20X6 27.20

1 October – 31 December 20X6 33.40

1 January – 28 February 20X7 (two months) 24.00

108.10

The charge for the period 1 January – 28 February 20X7 is two-thirds of the quarter bill received

on 31 March. As at 28 February 20X7, no telephone bill has been received because it is not due

for another month. However, it is inappropriate to ignore the telephone expenses for January and

February, and so an accrued charge of $24 is made, being two-thirds of the quarter’s bill of

$36.

The accrued charge will also appear in the balance sheet of the business as at 28 February

20X7, as a current liability.

Questions

Ratsnuffer is a business dealing in pest control. Its owner, Roy Dent, employs as team of eight

who were paid $12,00 per annum each in the year to 31Decamber 20XX5. At the start of 20X6

he raised salaries by 10% to $13,200 per annum each.

On 1 July 20X6, he hired a trainee at a salary of $8,400 per annum.

He pays his work force on the first working day of every month, one month in arrears, so that

his employees receive their salary for January on the first working day in February , etc.

Required

(a)Calculate the cost of salaries which would be charged in the income statement of Ratsnuffer

for the year ended 31 December 20X6.

(b) Calculate the amount actually paid in salaries which would appear in the balance sheet of

Ratsnuffer as at 31 December 20X6.

Answer

(a) Salaries cost in the income statement

$

Cost of 8 employees for a full year at $13,200 each 105,600

Cost trainer for a half year 4,200

109,800

b) Salaries actually paid in 20X6

$

December 20X5 salaries paid in January (8 employees x $1,00 per

month)

8,000

December (8 employees x $1,100 per month x 11 months) 96,800

Salaries of trainee (for July – November paid in August – December

20X6:5 months $700 per month)

3,500

Salaries 108,000

(c) Accrued salaries costs as at 31st December 20X6 $

(i.e Costs charged in the income statement , but not yet paid) 8,800

8 employee x 1 month x $1,100 per month 700

1 trainee x 1 month x $700 per month 9,500

(d) Summary

$

Accrued wages costs as at 31Decemer 20X5 8,000

Add salaries cost for 20X6 x $700 per month 700

117,800

Less salaries paid 103,300

Equals accrued wages costs as 31December 20X6 (liability in balance

sheet)

9,500

Note: The answer to Question 1 is D. Remember that: Net profit = Gross profit less

expenses.

1.6. Example: Prepayment

The Square Wheels Garage pays fire insurance annually in advance on 1 June each year. The

firm’s financial year end is 28 February. From the following record of insurance payments you

are required to calculate the charge to income statement for the financial year to 28 February

20X8.

$

1.6.20X6 600

1.6.20X7 700

1.7. Insurance cost for

$

(a) The 3 months, 1 March -31 May 20X7 (3/12 x $600) 150

(b) The 9 months , I June 20X7- 28 February 20X8 (9/12x $700) 525

Insurance costs for the year, charged to the income statement 675

At 28 February 20X8 there is a prepayment for fire insurance, covering the period 1 March -

31st May 20X8. this insurance premium was paid on 1 June 20X7, but only nine months worth

of the full annual cost is chargeable to the accounting period ended 28 February current asset

in the balance sheet of the Square Wheels Garage as at the date.

In the same way, there was a prepayment of (3/12 x $600) $150 in the balance sheet one year

earlier as at 28 February 20X7.

Summary

$

Prepaid insurance premiums as at 28 February 20XX7 150

Add insurance premiums paid 1 June 20X7 700

850

Less insurance costs charged to the income statement for the year

ended 28 February 20X8

675

Equals prepaid insurance premiums as at 28 February 20X8 (asset in

balance sheet )

175

Question 3

The Batley Print rents a photocopying machine from a supplier for which it makes a quarter

payment as follows:-

(a) Three months rental in advance

(b) A further charge of 2 pence per copy made during the quarter ended

The rental agreement began on 1 August 20X4 and the fist six quarterly bills were as

follows

Bills dated and

received

Rental

$

Costs of copies taken

$

Total

$

1 August 20X4 2.100 0 2,100

1 November 20X4 2,100 1,500 3,600

1 February 20X5 2,100 1,400 3,500

1 May 20X5 2,100 1,800 3,900

1 August 20X5 2,700 1,650 4,350

1 November 20X5 2,700 1,950 4,650

The bills are paid promptly, as soon as they are received.

(a) Calculate the charge for photocopying expenses for the year to 31st August 20x4 and

the amount of prepayments and/or accrued charges as at that date.

(b) Calculate the charge for photocopying expenses for the following year to 31st August

20x5, and the amount of prepayments and /or accrued charges as at the data.

Answer

(a) Year to 31 August 20X4 $

One months’ rental (1/3 xx $2,100)* 700

Accrued copying charges (1/3 X $1,5000)** 500

Photocopying expenses (Income statement) 1,200

* From the quarterly bill dated 1 August 20X4

** From the quarterly bill dated 1 November 20X4

There is a prepayment for 2 months’ rental ($1,400) as at 31 August 20X4

(b) Year to 31 August 20X5

$ $

Rental from 1 September 20X4- 31 July 20X5 (11 months at

$2,100 per quarter or $700 per month)

7,700

Rental from 1 August – 31 August 20 x 5 (1/3 x $2,700) 900

Rental charge for the year 8,600

Copying charges

1 September – 31 October 20X4 (2/3 x $1,500) 1,000

1 November 20X4 - 31 January 20X5 1,400

1 February -30 April 20X5 1,800

1 May -31 July 20X5 1,650

Accrued charges for August 20X5 (1/3 x $1,950) 6,500

Total is a prepayment expenses (income statement) 15,100

There is a prepayment for w months’ rental ($1,800) as at 31 August 20X5

Summary of year 1 September 20X4-31 August 20X5

Rental charges

$

Copying costs

$

Prepayment as at 31.8.20X4 1,400

Accrued charges as at 31.8.20X4 (500)

Bills received during the year

1 November 20X4 2,100 1,500

1 February 20X5 2,100 1,400

1 May 20X5 2,100 1,800

1 August 20X5 2,700 1,650

Prepayment as at 31.8.20X5 (1,800)

Accrued charges as at 31.8.20X5 650

Charges to the income statement for the year 8,600 6,500

Balance sheet items as at 31 August 20X5

Prepaid rental (current asset) 1,800

Accrued copying changes (current liability) 650

1.8. Further Example: Accruals

Willie Woggle opens a Shop on 1 May 20XX6 to sell and camping equipment. The rent of the

shop is $12,000 per annum, payable quarterly in arrears (with the fist payment on 31st July 206).

Willie decides that his accounting period should end on 31st December each year.

1.9. The rent account as at 31st December 20X6 will record only two rental payments ( on

31st July and 31 October) and there will be two months’ accrued rental expenses for

November and December 20X6 ($2,000), since the next rental payment is not due

until 31 January 20X7.

The charge to the income statement for the period to 31 December 20X6 will be for 8 months’

rent (May-December inclusive) and so it follows that the total rental cost should be $8,000.

1.10. So far, the rent account appear as follows

Rent account

$ $

20X6 20X6

31 July Cash 3,000

31 October Cash 3,000 31 Dec.

Income statement

8,000

1.11. To complete the picture, the accruals of $2,000 have to be put in , not only to balance

the account, but also to have an opening balance of $2,000 ready for next year. So that

accrued rent of $2,000 is debited to the rent account as a balance to be carried down,

and credited to the rent account as a balance brought down.

RENT ACCOUNT

$ $

20x6 20X 6

31 July Cash* 3,000

31 Oct Cash* 3,000

31 Dec. Balance c/D

(Accruals)

2,000 31 Dec Income

Statement

8,000

8,000 8,000

20X7

1 Jan Balance b/d 2,00

* The corresponding credit entry would be cash if rent is paid without the need for an invoice-

e.g with payment by standing order or direct debt at the bank. If there is always an invoice

where rent becomes payable, the double entry would be:

Debit Rent account $2,000

Credit Creditors $2,000

Then when the rent is paid, the ledger entries would be:

Debit Creditors $2,000

Credit Cash $2,000

1.12. The rent account for the next year to 31 December 20X7, assuming no increase in rent in

that year, would be as follows.

RENT ACCOUNT

$ $

20X7 20X7

31 Jan Cash 3,000 1 Jan Balance b/d 2,000

30 April Cash 3,000

31 July Cash 3,000

31 Oct Cash 3,000

31 Dec Balance c/d

(Accrued)

2,000 31 Dec Income

statement

12,000

14,000 14,000

20X8

1 Jan Balance b/d 2,000

1.13. A full twelve months’ rental charges are taken as an expense to the Income statement

1.14. Further example: Prepayments

Terry Trunk commences business as a landscape gardener on 1 September 20X5. He

immediately decides to join his local trade association , the Confederation of Luton

Gardeners, for which the annual membership subscription is $180, payable annually in

advance. He paid this amount on 1 September. Terry decides that his account period should end

on 30 June each year.

1.15. In the first period to 30 June 20X 6 (10 months), a full year’s membership will have

been paid, but only ten twelfths of the subscription should be charged to the period

(i.e 10/12 x $180 = $150). There is a prepayment of two months of membership

subscription (i.e 2/12 x $180 = $30).

1.16. The prepayment is recognized in the ledger account for subscriptions. This is done in

much the same way as accounting for accruals, by using the balance carried

down/brought down technique.

Credit Subscriptions account with prepayment as a balance

sheet C/D $30

Debit Subscription account with the same balance $30

The remaining expenses in the subscriptions account should then be taken to the Income

statement. The balance on the account will appear as a current asset (Prepaid

subscriptions) in the balance sheet as 30 June 20X6.

Subscriptions account

$ $

20X5 20X6

1 Sep Cash 180 30 Jan Income

statement

150

30 Jun Balance c/d

(prepayment)

30

180

20X6

1 Jul Balance b/d 30

1.17. The subscription account for the next year, assuming no increase in the annual charge ,

will be:

Subscriptions account

$ $

20X6 20X7

1 July Balance b/d 30 30 Jun Income

statement

180

1 Sep Cash 180 30 Jun Balance c/d

(prepayment)

30

210 210

20X7

1 Jul Balance b/d 30

1.18. Again, the charge to the income statement is for a full year’s subscriptions

Question 4.

The Umbrella shop the following trail balance as at 30 September 20X8

Sales $ $

Purchase 156,000

Land and buildings – net book value at

30.9XX8

65,000

Plant and machinery – net book value at

30.9X8

125,000

Inventory at 1.10 X7 75,000

Cash bank 10,000

Trade accounts receivable 12,000

Trade account payable 54,000

Selling expenses 40,000

Cash in hand 10,000

Administration expenses 2,000

Finance expenses 15,000

Carriage inwards 5,000

Carriage outwards 1,000

Capital account at 1.10XX7 2,000 180,000

376,000 376,000

The following information is available

(a) Closing inventory at 30.9X8 is $ 13,000, after writing off damaged goods of $2,000

(b) Included in administration expenses is machinery rental of $6,000 covering the year to

31 December 208

(c) A late invoice for $12,000 covering rent for the year ended 30 June 209 has not been

included in the trial balance

Prepare an income statement and balance sheet for the year ended 30 September 20X8.

(Tutorial note: This will provide useful revision of the forms of the income statement and

balance sheet. If necessary refer back to Chapter 6 of this study text).

Answer

The umbrella shop

Income statement for the year end 30 September

$ $

156,000

Sales 10,00

Opening inventory 65,000

Purchases 65,000

Carriage inwards 1,000

76,000

Closing inventory (W1) 13,000

Carriage inwards 63,000

Gross profit 93,000

Selling expenses 10,000

Carriage outwards 2,000

Administration Expenses

(W2)

16,500

Financial expenses 5,000 33,500

Net profit for the period 59,500

THE UMBRELLA SHOP BALANCE SHEET AT 30 SEPTEMBER 20X8

$ $

Assets

Non-current assets 125,000

Land and buildings 75,000

Plant and machinery 200,000

Current assets

Inventory (W1) 13,000

Trade accounts receivable 54,000

Prepayments (W4) 1,500

Cash at bank and in hand 14,00 82,500

282,500

Capital and liabilities

Proprietor’s capital 180,000

Balance brought forward 59,500 239,500

Profit for the period

Current liabilities

Trade account payable 40,000

Accruals (W3) 3,000 282,500

Working

1. Closing inventory

As the figure of $13,000 is after writing off damaged good, no further adjustments are

necessary .Remember that you effectively crediting closing inventory to the trading account

of the income statement and the corresponding debit is to the balance sheet.

2. Administration expenses

Per trial balance 15,000

Add: accrual (W3) 3,000

18,000

Less: prepayment (W4) (1,500)

16,500

3. Accrual

$

Rent for year period of 30 June 20 X9 12,000

Accrual for period to 30 September 20X8

(3/12 x &6,000)

3,000

4. Prepayment

$

Machinery rental for the year to 31

December 20X8

6,000

Prepayment for period 1 October to 31

December 20XX8 (3/12 x $6,000)

1,500

Chapter roundup

This chapter has illustrated how the amount of profit is calculated when:

There are opening or closing inventories of goods in hand.

There is carriage inwards and /or carriage outwards.

Inventories are written off or written down in value.

There are accrued charges

There are prepayments of expenses

The cost of goods sold is calculated as follows

$

Opening inventory X

Plus purchase X

X

Less closing inventory (X)

X

Carriage inwards is included in the cost of purchase. Carriage outward is a selling expense.

Accrued expenses are expenses which relate to an accounting period but have not yet been paid

for. They are a charge against the profit for the period and they are shown in the balances sheet

as at the end of the period as a current liability.

Prepayments are expenses which have already been paid bur relate to a future accounting

period. They are not no charged against the profit of the current period, and they are shown in

the balance sheet at the end of the period as a current asset.

Quick quiz

1. How is the cost of goods sold calculated

2. Distinguish between carriage inwards and carriage outwards

3. The cost of goods sold is $14,000. The purchases for the period are $14,00, carriage

inwards is $1,000, carriage outwards is $1,500 and closing inventory is $13,00. What was

the opening inventory figure?

A $10,500

B $11,500

C $12,000

D $ 13,000

4. Give three reasons why goods purchased might have to be written off.

5. If a business has paid rates of $1,000 for the year to 31 March 20X9, what is the

prepayment

6. Define an accrual.

Answer to quick quiz

1. See formula to learn in paragraph 1.6

2. Carriage inward is paid on goods coming into the business and is added to the cost of

purchase

Carriage outwards is paid on goods going out to the business to customers and is charged

to selling expenses

$

3. Opening inventory value (balancing figure) 12,000

Add: purchase (incl carriage inwards) 15,000

27,000

Less: Closing inventory (13,000)

Cost of goods sold 14,000

If you picked A, then you wrongly included carriage outwards in cost of goods sold. If

you chose B, then you used the carriage instead of the carriage inwards figure in your

calculations. With D, you ignored carriage inwards and outwards altogether.

4. Goods are stolen or lost

Goods are damaged

Good are obsolete

5. 3/12 X $1,000 = $250

6. Expenses charged against profit for a period , even though they have not yet been paid

for invoiced.

Now try to questions blow from the Exam questions Bank

Question to try Level Marks Time

15 Introductory n/a 36 mins

16 Introductory n/a 45 mins

CHAPTER 12

BAD DEBTS AND PROVISIONS

Introduction

Ins this chapter we move closer to our goal of preparing the financial statements. We look at

two types of adjustment which need to be made in respect of credit sales.

Bad debts

1.1. Customers who buy goods on credit might fail to pay for them, perhaps out of dishonesty

or because they have gone bankrupt and cannot pay. Customers in another country might

be prevented from paying by the unexpected introduction of foreign exchange control

restrictions by their country’s government during the credit period.

For one reason or another, a business might decide to give up expecting payment and to

write the debt off as a ‘lost cause’.

Key Terms

A bad debt is a debt which is not expected to be repaid.

Writing off bad debts

1.2. When a business decides that a particular debt is unlikely to be paid, the amount of the

debt is ‘written off as an expense in the income statement.

1.3. Alfred’s Mini-Cab service sends an invoice for $300 to a customer who subsequently does

a ‘moonlight flit’ from his office premises , never to be seen or head of again. The debt

of $300 must be written off. It might seem sensible to record the business transaction as:

Sales $(300-300) = $0.

1.4. However, bad debts written off are accounted for as follows.

(a) Sales are shown at their invoice value in the trading account. The sale has been made and

gross profit should be earned. The subsequent failure to collect the debt is a separate

matter , which is reported in the income statement account.

(b) Bad debts written off are shown as an expense in the income and expense account.

1.5. In our example of Alfred’s Mini-Cab Service

$

Sale (in the trading account) 300

Bad debt written off (expense in the I $ E account) 300

0

1.6. Obviously , when a debt is written off, the value of the debtor as a current asset falls to

zero. If the debt is expected to be uncollectible, its ‘net realizable value’ is nil, and so it

has a zero balance sheet value.

Bad debts written off and subsequently paid

1.7. A bad debt which has been written off might occasionally be unexpectedly paid. The only

accounting problem to consider is when a debt written off as bad in one accounting

period is subsequently paid in a later accounting period. The amount paid should be

recorded as additional income in the income in the income s statement of the period in

which the payment is received.

1.8. For example, a trading, income statement for the Blacksmith’s Forge for the year to 31

December 20X5 could be prepared as shown below from the following information.

$

Inventory , 1 January 20X5 6,000

Purchases of goods 122,000

Inventory, 31 December 20X5 8,000

Cash sales 100,000

Credit sales 70,000

Discounts allowed 70,000

Discounts received 1,200

Bad debts written off 5,000

Debts paid in 20X5 which were previously written off as bad in 20X4 2,000

Other expenses 31,800

BLACKSMITH’S FORGE

INCOME STATEMENT FOR THE YEAR ENDED 31.12.20X5

$ $

Sales 170,000

Opening inventory 6,000

Purchase 122,000

128,000

Less closing inventory 8,000

Cost of goods sold 120,000

Gross profit 50,000

Add: Discounts received 5,000

Debts paid, previously written off as bad 2,000

57,000

Expenses

Discounts allowed 1,2000

Bad debts written off 9,000

Other expenses 31,800

Net profit 42,000

15,000

2. PROVISIONS FOR DOUBTFUL DEBTS

2.1. When bad debts are written off, specific debts owed to the business are identified as

unlikely ever to be collected.

However, because of the risks involved in selling goods on credit, it might be accepted

that a certain percentage of outstanding debts at any time are unlikely to be collected. But

although it might be estimated that, say, 5% of debts will turn out bad, the business will

not know until later which specific debts are bad.

2.2. A business commences operations on 1 July 20X4, and in the twelve months to 30 June

20X5 makes sales of $300,000 (all on credit) and writes off bad debts amounting to

$6,000. Cash received from customers during the year is $244,000, so that at 30 June 20X5,

the business has outstanding debtors of $50,000.

$

Credit sales during the year 300,000

Add receivables at 1 July 20X4 0

Total debts owned to the business 300,000

Less cash received from credit customers 244,000

56,000

Less bad debts written off 6,000

Trade receivables outstanding at 30 June 20X5 50,000

Now , some of these outstanding debts might turn out to be bad. The business does not know

on 30 June 20X5 which specific debts in the total $50,000 owed will be bad, but it might guess

(from experience perhaps) that 5% of debts will eventually be found to be bad.

2.3. When a business expects bad debts amongst its current debtors, but does not yet know

which specific debts will be bad, it can make a provision for doubtful debts.

2.4. A ‘provision’ is a ‘ providing for’ and so a provision for doubtful debts provides for

future bad debts, as a prudent precaution by the business. The business will be more likely

to avoid claiming profits which subsequently fail to materialize because some debts turn

out to be bad.

(a) When a provision is first made , the amount of this initial provision is charged as an

expense in the income statement of the business , for the period in which the provision

is created.

(b) When a provision already exists, but is subsequently increased in size, the amount of

the increase in provision is charged as an expense in the income statement, for the

period in which the increased provision is made.

(c) When a provision already exists, but is subsequently reduced in size, the amount of

the decrease in provision is recorded as an item of ‘income’ in the income statement ,

for the period in which the reduction in provision is made.

Exam focus point

In an exam you will often be required, as part of a long question , to calculate the increase or

decrease in the provision of doubtful debts.

2.5. The balance sheet, as well as the income statement of a business , must be adjusted to

show a provision for doubtful debts.

IMPORTANT

The value of trade accounts receivable in the balance sheet must be shown after deducting the

provision for doubtful debts.

This is because the net realized value of all the receivables of the business is estimated to be

less than their ‘sales value’. After all, this is the reason for making the provision in the first

place. The net realizable value of trade accounts receivable is the total value of receivables

minus the provision for doubtful debts. Such a provision is an example of the prudence

concept , discussed in details in Chapter 10.

2.6. In the example about ( in paragraph 2.23) the newly created provision for doubtful at 30

June 20X5 will be 5% $50,000 = $2,500. This means that although total trade account

receivable are $50,000, eventually payment for only $47,500 is expected.

(a) In the income statement, the newly created provision of $2,500 will be shown as an

expense.

(b) In the balance sheet, trade accounts receivable will be shown as

$

Total receivables at 30 June 20X5 50,000

Less provision for doubtful debts 2,500

47,500

2.7. Example: Provision for Doubtful debts

Corin Flakes owns and runs the Aerobic Health Foods Shop in Dundee. He commenced trading

on 1 January 20X1, selling health foods to customers, most of whom makes use of a credit

facility that Corin offers. (Customers are allowed to purchase up to $2000 of goods on credit

but must repay a certain proportion of their outstanding debt every month).

This credit system gives rise to a large number of bad debts, and Corin Flake’s results for his

first three years of operations are as follows.

Year to 31 December 20X1

Gross profit $27,000

Bad debts written off $8,000

Debts owed by customers as at 31 December 20X1 $40,000

Provision for doubtful debts 2 ½ % of outstanding debts

Other expenses $20,000

Year to 31 December 20X2

Gross profit $45,000

Bad debts written off $10,000

Debts owed by customers as at 31 December 20X2 $50,000

Provision for doubtful debts 2 ½ % of outstanding debts

Other expenses $28,750

Year 31 December 20X3

Gross profit $60,000

Bad debts written off $11,000

Debts owed by customers as at 31 December 20X3 $30,000

Provision for doubtful debts 3% of outstanding debtors

Other expenses $32,850

Required

For each of these three years, prepare the income statement of the business, and state the value

of trade accounts receivable appearing in the balance sheet as at 31 December.

2.8. Solution

AEROBIC HEALTH FOOD SHOP

INCOME STATEMENT FOR THE YEARS ENDED 31 DECEMBER

20X1 20X2 20X3

$ $ $ $ $ $

Gross profit 27,000 45,00

0

60,000

Sundry income: reduction in

provision for doubtful debts*

350

60,530

Expenses:

Bad debts written off 8,000 10,000 11,000

Increase in provision for

doubtful doubts*

1,000 250 -

Other expenses 20,000 28,750 32,850

29,000 39,00

0

43,850

Net (loss)/profit (2,000) 6,000 16,500

At 1 January 201 when Corin began trading the provision for doubtful debts was nil. At 31

December 201 the provision required was 2 ½ % of $40,000= $1,000. The increase in the

provision is therefore $1,000. At 31 December 20X2 the provision required was 2 ½ % of

$50,000 = $1,250. The 20X1 provision must therefore be increase by $250. At 31 December

20X3 the provision required is 3% x $30,000 = $900. The 20X2 provision is therefore, reduced

by $350.

VALUE OF TRADE ACCOUNTS RECEIVABLE IN THE BALANCE SHEET

As at

31.12.20X1

As at

31.12.20X2

As at

31.12.20X3

$ $ $

Total value of receivables 40,000 50,000 30,000

Less provision for doubtful debts 1,000 1,250 900

Balance sheet value 39,000 48,750 29,100

Other Provisions

2.9. A provision for doubtful debts is not the only type of provision you will come across in

accounting

Key terms

A provision is ‘any amount written off or retained by way of providing for depreciation ,

renewals or diminution of value of assets or retained by way of providing for any known

liability of which the amount cannot be determined with substantial accuracy’.

2.10. For most business, by far the largest provision in their accounts is the provision for

depreciation which is described in a later chapter.

You should now try to use what you have learned to attempt a solution to the following

exercise, which involves preparing an income statement and balance sheet.

QUESTION 1.

The financial affairs of Newbegin Tools prior to the commencement of trading were as follows:

NEWBEGIN TOOLS

BALANCE SHEET AS AT 1 AUGUST 20X5

$ $

Assets

Non-current assets

Motor vehicle 2,000

Shop fittings 3,000

5,000

Current assets

Inventories 12,000

Cash 1,000

13,000

18,000

Capital and liabilities

Capital 12,000

Current liabilities 2,000

Trade creditors 4,000

6,000

Total capital and liabilities 18,000

At the end of six months the business had made the following transactions.

(a) Goods were purchased on credit at a gross amount of $10,000

(b) Trade discount received was 2% on this gross amount and there was a settlement discount

received of 5% on settling debts to suppliers of $8,000. These were the only payments to

suppliers in the period.

(c) Closing inventories were valued at $5,450.

GENERAL JOURNAL

Account Title Debit Credit

i. Stock at close

Trading A/c

1.500.000/=

1.500.000/=

ii. Bad debts

Provision for Bad debts

30.000/=

30.000/=

iii. Prepaid rent

Rent

100.000/=

100.000/=

iv. Wages Accrued (Payable)

Wages

300.000/=

300.000/=

v. Depreciation (M.V)

Provision for Dep

1.400.000/=

1.400.000

vi. Depreciation (Equipment)

Provision for Dep (Equipment)

500.000/=

500.000/=

When Depreciation is at cost = Straight line

When Depreciation is at cost = Diminishing

INCOME STATEMENT

Sales 12.000.000/=

Less Returns / sales Returns (DR) 50.000/=

Net sales 11.950.000/=

Less: Cost of goods sold

Opening stock 600.000/=

Add Purchases

Less Purchases Returns / Return out

Net Purchases

Cost of goods available for sale

4.000.000/=

500.000/=

3.500.000/=

4.100.000/=

Less Closing stock

Cost of sales

GROSS PROFIT / GROSS INCOMES

1.500.000/=

2.600.000/=

9.350.000/=

Add Miscellaneous Income

Discount received 80.000/=

9.430.000/=

Less Operating Expenses

Wages

Rent

Electricity

Bad debts

Sales discount D----

Depreciation motor vehicle

Equipment

NET PROFIT / NET INCOME

1.300.000/=

600.000/=

200.000/=

60.000/=

60.000/=

1.400.000/=

500.000/=

4.120.000/=

5.310.000/=

BALANCE SHEET

AS AT 31ST-MARCH-1999

FIXED ASSETS / NON CURRENT ASSETS

COST ACC DEP WRITTEN DOWN NET BOOK VALUE

FIXED ASSET

VehicleEquipment

7.000.000/= 5.000.000/=12.000.000/=

1.400.000/= 500.000/=1.900.000/=

5.600.000/= 4.500.000/=10.100.000/=

CURRENT ASSETStock at closeTrade DebtorsLess provision for Bad DebtsPrepaid rentBankCash

3.000.000/= 90.000/=

1.500.000/=

2.910.000/= 100.000/=2.500.000/= 800.000/=7.810.000/=

Less CURRENT LIABILITIESTrade creditorsIncome Tax payersAccrued WagesWorking CapitalTotal Net Assets

2.000.000/=3.500.000/= 300.000/=

2.010.000/=12.110.000/=

Financed by:CapitalAdd Net Profit

6.860.000/= 5.310.000/=12.170.000/=

Less drawings 2.060.000/=10.110.000/=

Add Long Term Liabilities /Bank Loan

2.000.000/=12.110.000/=

Title of Accounts

i. Stock

Trading

8.000.000/=

8.000.000/=

ii. Dep. Plant

Acc Dep. Plant

Dep. Motor vehicle

12.000.000/=

6.400.000/=

12.000.000/=

6.400.000/=

iii. Bad Debts

Prov. Bad Debts

1.000.000/=

1.000.000/=

iv. Debenture Interest

Accrued Debenture Interest

100.000/=

100.000/=

v. Prepaid Insurance

Insurance

100.000/=

100.000/=

vi. Profit & Loss Appropriation

Dividends Proposed

Dividends Payable

5.600.000/=

5.600.000/=

vii. Drawings

General Expenses

3.000.000/=

3.000.000/=

Lolo Company deals in assorted merchandise. On 31st / Dec / 1999, the following balance was

extracted from the Company’s ledger.

Dr CrOrdinary Share Capital 10.000.000/=6% preference Share Capital 50.000.000/=Land Cost 80.000.000/=Building Cost 60.000.000/=Motor vehicle Cost 30.000.000/=Accumulated Dep. 1st/01/1999Buildings 12.000.000/=Motor vehicles 5.000.000/=Trade Debtors and Creditors 7.000.000/= 3.500.000/=Cash 4.600.000/=Bank 1.280.000/=Good will 1.000.000/=Insurance 1.400.000/=Rent 1.200.000/=Bad debts 100.000/=

+1.000.000/=+ 200.000/=

Bad debts provision 400.000/=Creditors (due in excess of 2 years) 13.300.000/=Carriage on purchases / Inwards 3.000.000/=Purchases 120.000.000/=Salaries 4.800.000/=Discounts 120.000/= 240.000/=Returns Inwards / Outwards 1.500.000/= 700.000/=Preference Dividend paid on 30th/09/1999 2.500.000/=Sales 200.000.000/=Profit & Loss A/C on 1st/01/1999 (Retained earnings) 20.000.000/=General Reserves 6.000.000/=

322.420.000/= 322.420.000/=

The following matters must be put into account before financial statements are prepared.

i. Stock was valued on 3/12/99 at shs 8,000,000 on FIFO basis.

ii. Building should be depreciated by 5% on cost and motor vehicles by 10% on

reducing balance.

iii. December 1999 salaries amounting to 400,000 were paid on 2 / 1/ 2000.

iv. Rent was paid on 1 / 1/1999 for a product up to 30 / 6/ 2000.

v. Direct write of bad debts of 200,000 should be made while a ----of 1,000,000 should

be made for debts that are doubtful.

vi. Stock costing 2,000,000 was given to staff as a bonus at the end of the financial year.

vii. The directors proposed to pay the remaining dividend due to preference shareholders.

viii. Good will should be written off in full against the General reserve.

Required.

a) Enter adjusting information above into a general journal.

b) Prepare the Company’s Trading / profit and loss Account Income Statement including

appropriation for the year ended 31 / 12 / 1999.

c) Prepare the Company’s Balance Sheet as 31 / 12 / 1999.

GENERAL JOURNAL

ACCOUNT TITTLES DEBIT CREDIT

i. Stock

Trading A/c

8.000.000/=

8.000.000/=

ii. Depreciation (Buildings)

Accumulated Depreciation (Buildings)

3.000.000/=

3.000.000/=

iii. Depreciation (motor vehicle)

Accumulated Depreciation (motor vehicle)

2.500.000/=

2.500.000/=

iv. Salaries

Salaries Accrued / Payable

400.000/=

400.000/=

v. Prepaid rent

Rent

400.000/=

400.000/=

vi. Bad debts written off

Debtors

200.000/=

200.000/=

vii. Bad debts

Provision for Bad debts

1.000.000/=

1.000.000/=

viii. Purchases

Profit & Loss Bonus 2.000.000/=

2.000.000/=

ix. Profit & Loss Proposed Dividend

Dividends Payable / Accrued

500.000/=

500.000/=

x. General reserves

Good will

1.000.000/=

1.000.000/=

ii. Depreciation = Buildings = Preference Dividend =

5 x 60.000.000 6 x 50.000.000

100 100

= 3.000.000/= = 3.000.000

3.000.000 – 2.500.000

= 500.000/=

Depreciation motor vehicle Good will – A Straight Asset

= % x Book Value - Purchase - Bonus

BV = Cost – Accm – Dep 120.000.000 – 2.000.000

30.000.000 – 5.000.000 = 25m

= 10 x 25.000.000

100

= 2.500.000

iii. Prepaid Rent = Bad debts Add written of and prov. For Bad debts

6 x 1.200.000 100.000 + 200.000 + 1.000.000

18 = 1.300.000 =

LOLO CO LTD

TRADING / PROFIT AND LOSS A/C

Sales 200.000.000Less Returns InwardsNet Sales

1.500.000

Less Cost of goods sold / cost of sales 198.500.000

Opening stock 5.200.000Add Purchases 118.000.000Add Carriage in 3.000.000

121.000.000Less Returns Out 700.000

120.300.000NET PURCHASES 125.500.000LESS CLOSING STOCKCOST OF GOODS SOLDGROSS PROFIT

8.000.000117.500.00081.000.000

Add Other IncomesDiscount Received / Purchases discount 240.000

81.240.000Less Operating ExpensesInsuranceRent 1.200.000

1.400.000

Less PrepaidBad debts

400.000100.000

800.000

Add Prov. & write salariesSalaries

1.200.0004.800.000

1.300.000

Add AccruedDiscount AllowedDepreciationBuildingMotor vehicleStaff Bonus

400.000 5.200.000120.000

3.000.0002.500.0002.000.000

16.32.000NET PROFIT BEFORE TAX 64.920.000Add Retained Earnings B/F 20.000.000

84.920.000Less Appropriation (Withdrawals)Interim Preference Dividend 2.500.000Add Accrued Preference DividendACCUMMULATIVE RETAINED - EARNINGS

500.000 3.000.00081.920.000

FOR THE YEAR ENDED 31ST/12/1999

Un earned fees – Creditors

i. Accrued Income or Debtors

Question

The Book keeper of Teso Ltd prepared the following Trial Balance for the year ended

30th/06/2010.

DR CR

Share Capital 10.000@ 50.000.000

Land 148.000.000

Motor vehicles 40.000.000

Trade Debtors / Creditors 5.000.000 3.000.000

Purchases / Sales 200.000.000 350.000.000

Returns In 10.000.000 20.000.000

Carriage Inwards 8.000.000

Bank Balance 15.000.000

Cash Balance 25.000.000

Discounts 2.000.000

Stock 4th/07/2000 4.000.000

Bad debts 6.000.000

Salaries 40.000.000

Miscellaneous Income 7.000.000

Insurance 1.000.000

Rent 1.500.000

Accumulated Depreciation 3.600.000 8.000.000

Provision for Bad debts 14.000.000

Creditors due in 5 years 30.000.000

Profit & Loss A/C (2.900.000)

497.000.000 497.000.000

The Trial balance should be adjusted with the following information at the end of the year in the

Trail balance.

i. Closing stock 30 / 6/ 2011 20,000,000.

ii. The ---for Bad debts should be reduced to 4,000,000.

iii. Stock costing 4,000,000 was stolen by the workers.

iv. The land lady demanded rent and was paid on 1st July 2000 for 3 years.

v. The motor vehicle should be depreciated at 20% on reducing balance.

vi. Mis---------of 3,000,000 accrued.

vii. Long term credit charge interest at a rate of 20% while the Bank charges 10% per an

overdraft both were acquired on 1st July 2000.

viii. Divided of 200 per share was proposed.

ix. Profits amounting to 2,000,000 should be transferred to emergency reserves.

Required

a) Journalize entries for adjustment ii to ix above.

b) Final Account / Financial statement at the end of the financial year.

ii. Provision for Bad debts viii. Dividend = 50.000.000

14.000.000 – 10.000 10.000

iv. Rent 1.200.000 1 year = 5.000

3.600.000 – 1.200.000 5.000 x 200 = 1.000.000

Prepaid rent 2.400.000 = ix. T is 2.000.000

iii. Motor Vehicle = % x Book Value

Bk = Cost – Acc. Dep.

40.000.000 – 8.000.000

20 x 32.000.000

100

= 6.400.000

vi. Accrued Y

7.000.000+ 3.000.000 = 10.000.000

vii. 30.000.000 = 20 x 6.000.000 = 1.200.000

5 100

PRESENTATION OF FINANCIAL STATEMENTS AND ACCOUNTING CONVENTION

Introduction

TITLE OF ACCOUNT DEBIT CREDIT

Stock

Trading A/c

20.000.000/=

20.000.000

Bad debts

Provision for Bad Debts

4.000.000/=

4.000.000

Stock stolen

Purchases

4.000.000/=

4.000.000

Prepaid rent

Rent

2.400.000/=

2.400.000

Interest Chargeable

The purpose of this chapter is to encourage you to think more deeply about the assumptions on which financial statements are prepared.

This chapter deals with the accounting conversions which lie behind accounts preparation which accountants may have absorbed subconsciously in book keeping.

BACKGROUND

1.1. Accounting practice has developed gradually over a matter of centuries. Many of its procedure are operated automatically by people who never questioned whether alternative methods exist which have equal validity. However, the procedures in common use imply the acceptance of certain concepts which by no means self-evident; nor are they the only possible concepts which could be used to build up an accounting framework.

More important concepts which are taken into accounting while preparing accounts that require deeper understanding.

a) Going concernb) Accrual or matchingc) Prudenced) Consistency Concepte) Materialityf) Substance over formg) Business entityh) Money measurementi) Historical cost conventionj) Stable monetary unitk) Objectivityl) Realizationm) Dualityn) Time interval

We begin by considering accounting policies and those fundamental assumptions which are more crucial according to the subject of IAS 1 Presentation of financial statements (items (a)-(f) of the above list)

2. PRESENTATION OF FINANCIAL STATEMENTS.

2.1 International Accounting Satardards 1 presentation of financial statements was published in 1997. The general requirements of IAS 1 and what it says about accounting policies and fundamental assumptions.

2.2 Objective of the scope

The main objective of IAS 1 is:

“to prescribe the basis of preparation of general purpose financial statements, in order to ensure the comparability both with the enterprise’s own financial statements of previous periods and with the financial statements of other enterprises”

2.3. IAS 1 applies all the general purpose financial statements prepared in accordance with IASs, i.e. those intended to meet the needs of the users who are not in position to demand reports tailored to their specific needs.

Purpose of financial statements

2.4. The objective of financial statements is to provide information about the financial position, performance and cash flows of an enterprise that is useful to a wide range of users in making economic decisions.

2.5. In order to fulfill this objective, financial statement must provide information about the following aspects of an enterprise’s results.

Assets Liabilities Equity Income and expenses (Including gains and losses) Cash flows

Along with other information in the notes and related documents, this information will assist users in predicting the enterprise’s future cash flows

2.6. According to IAS 1, a complete set of financial statements includes the following components.

a) Balance sheetb) Income statementc) A statement showing either all changes in equity or changes in equity other than

those arising from capital transactions with and/or distribution to owners.d) Cash flow statementse) Accounting policies and explanatory notes

The preparation of these statements is the responsibility of the Board of Directors. IAS 1 also encourages a financial review by management and the production of other reports and statements which may aid users.

FAIR PRESENTATION AND COMPLIANCE WITH IASS

2.7. Most importantly, financial statements should present fairly the financial position, financial performance and cash flows of an enterprise.

2.8. The following points made IAS 1 expand on this principle.

a) Compliance with IASs should be disclosedb) All relevant IASs must be followed in compliance with IASs id disclosedc) Use of an inappropriate accounting treatment cannot be rectified either by disclosure

of accounting policies of notes/explanatory material

2.10. Requirements for fair presentation of financial statements.

a) Selection and application of accounting policies

b) Presentation of information in a manner which provides relevant, reliable, comparable and understandable information

c) Additional disclosures where required

Accounting policies

The specific principles, bases, conventions, rules and practices adopted by an enterprise in preparing and presenting financial statements.

2.11 Accounting policies should be chosen in order to comply with IASs. Where there is no specific requirement in an IAS, policies should be developed so that the information provided by the financial statement is:

a) Relevant to the decision making needs of usersb) Reliable in that they:

i. Represent faithfully the results and financial position of the enterpriseii. Reflect the economic substance of events and transactions and not merely the

legal formiii. Are neutral, that is free from biasiv. Are Prudentv. Are complete in all material respects

c) Completeness of transactions.d) Timely report.e) Accurate financial data.f) Comprehensiveness of statements.

2.12. The IAS then considers certain important assumptions (fundamental assumptions) which underpin the preparation of financial statements

Going Concern

The enterprise is normally viewed as going concert, that is, as continuing in operation of the foreseeable future. It is assumed that the enterprise has neither the intension nor the necessity of liquidation or of materially the scale of its operation.

2.13. This concept assumes that, when preparing a normal set of accounts, the business will continue to operate in approximately the same manner for a foreseeable future (at least the next 12 months). In particular, the enterprise will not go into liquidation or scale down its operations in a material way.

2.14. The main significance of going corker is that the assets should be valued at their “break up” value.

2.15. EXAMPLE: GOING CONCERN.

Emma acquired a T-shirt printing machine at a cost of $60,000. The asset has an estimated life of six years, and its normal to write off the cost of the asset to the income statement over this time. In this asset a depreciation cost of $10,000 per year is charged.

2.16. Using the going concert assumption, it is pre summed that the business will continue its operation as so the asset will live out its full six years in use. The depreciation charge of $10,000 is made each year; and the value of the asset in the balance sheet is its cost less the accumulated depreciation charge to date. After one yet, the net book value of the asset is $(60,000-10,000) =$50,000, after two years it is $40,000, after three years $ 30,000 e.t.c, until it is written down to a value of 0 after 6 years.

2.17. This asset has no other operational use outside the business and, in a forced sale; it would only sell for scrap. After one year of operation, its value is $8,000.

2.18. The net value of the asset, applying the going concern assumption, is $50,000 after one year, but its immediate sell-off value only $80,000.It can be aged that the asset is over valued at $50,000, that it should be written down to its break-up value($80,000) and the balance of its cost should be treated as an expense. However, provided that the going concern assumption is valid, It is appropriate accounting practice to value the asset at its net book value.

Question 1

A retailer commences business on 1 January and buys inventory of 20 washing machines, each costing $100. During the year he sells 17 machines at $150 each. How should the remaining machines be values at 31st December in the following circumstances?

a) He is forced to close down his business at the end of the year and the remaining machines will realize only $60 each in a forced sale.

b) He intends to continue his business into the next year

Answer

a) If the business is to be closed down, the remaining three machines must be valued at the amount they will realize in a forced sale i.e. 3 X $60 = $180

b) If the business is regarded as a going concern, the inventory unsold at 31st December will be carried forward into the following year, when the cost of the three machines will be matched against the eventual sale proceeds in computing that year’s profits. The three machines will therefore be valued at cost , 3 X $100 = $300

2.19. If the going concern assumption is not followed, that fact must be disclosed, together with the following information.

a) The basis on which the financial statement have been preparedb) The reasons why the enterprise is not considered to be a going concern

Accrual basis of accounting

Accrual basis of accounting. The effects of transaction and other events are recognized when they occur (and not as cash or its equivalent id received or paid) and they are recorder in the accounting records and reported in the financial statements of the periods to which they relate.

2.20. Enterprises should prepare their financial statements on the basis that transactions are recorder in them, not as the cash is paid or received, but as the revenues or expenses are earned or incurred in the accounting period to which they relate

2.21. According to the accrual assumption then, in computing profit revenue earned must be matched against the expenditure incurred in earning it. This is the matching convention that we first met in chapter 2.

2.22 EXAMPLE: ACCRUAL

Emma prints 20 t-shirts in her first month of trading (May) at a cost of 5$ each. Then she sells all of them for $10 each. Emma has therefore made a profit of $100, matching the revenue $200 earned against the cost $100 of acquiring them

2.23 If however, Emma only sells 18 t-shirts, it is incorrect to cargo her income statement with the cost of 20 t-shirts, as she still has two t-shirts in inventory. If she sells them in June, she is likely to make a profit on the sale. Therefore, only the purchase cost of 18 t-shirts 490 should be matched with her sales revenue $180, leaving her with a profit of $90.

2.24. Her balance sheet will look like this.

Assets $

Inventory (at cost, i.e. 2X $5) 10

Accounts receivable (18 X $100) 180

190

Capital Liabilities

Proprietor’s capital (profit for the period) 90

Accounts payable (20 X $5) 100

190

2.25. However, if Emma had decided to give up selling t-shirts, then the going concern assumption no longer applies and the value of the two t- shirts in the balance sheet is a break0up valuation not cost. Similarly, if the two unsold t – shirts are likely to be sold at more than their cost of $50 each (say, because of damage or fall of demand) then they should be recorded on the balance sheet at net realizable value (i.e. the likely eventual sales price less any expenses incurred to make them saleable) rather than cost. This shows the application of the prudence concept, which we will look at shortly.

2.26. In this example, the concepts of going and accrual are linked. Since the business is assumed to be going concern, it is possible to carry forward the cost of the unsold t-shirts as a charge against profits of the next period

Consistency of presentation

2.27. To maintain consistency, the presentation and classification of items in the financial statements should stay the same from one period to the next except as follows.

a) There is a significant change in the nature of operations or a review of the financial statements indicates a more appropriate presentations

b) A change in presentation is required by an IAS.

Materiality and aggregation

2.28. All material items should be disclosed in the financial statements

2.29 Amounts which are immaterial can be aggregated with amounts of a similar nature or function and need not be presented separately

Materiality, Information is material of its omission or misstatement could influence the economic decisions of users taken on the basis of financial statements

2.30. An error which is too trivial to affect anyone’s understanding of the accounts is referred to as immaterial. In preparing accounts it is important to assess what is material and what is material and what is not, so that time and money are not wasted in the pursuit of excessive detail.

2.31. Determining whether or not an item is material is very subjective exercise. There is no absolute measure of materiality. It is common to apply a convenient rule of thumb (for example material items are those with a value greater than 5% of net profits). However some items disclosed in the accounts are regarded as particularly sensitive and then a very small misstatement of such an item is taken as a material error. An example, in the accounts of a limited liability company, is the amount of remuneration paid to directors of the company

2.32. The assessment of an item as material or immaterial may affect its treatment in the accounts. For example, the income statement of a business shows the expenses incurred grouped under suitable captions (heating and lighting, rent and local taxes, e.t.c), but in the case of very small expenses it may be appropriate to lump them together as sundry expenses’, because a more detailed breakdown is inappropriate for such immaterial amounts.

2.33. In assessing whether or not an item is material, it is not the value of the item which needs to be considered. The context is also important.

a) If a balance sheet shows long term assets of $2millin and inventories of $30,000, an error of $20,000 in the depreciation calculations might not be regarded as material. Whereas an error of $20,000 in the inventory valuation is material. In other words, the total of which the error forms part must be considered

b) If a business has a bank loan of $50,000 and a $55,000 balance on bank deposit account it will be a material misstatement if these two amounts are displayed on the balance sheet as “cash at bank $5,000”. In other words, incorrect presentation may amount to material misstatement even if there is no monetary error.

Question 2

Would you capitalize the following items in the accounts of the company?

a) A box fileb) A computerc) A small plastic display stand

Answer

No, you would write it off to the income statement as an expense

Yes. You would capitalize the computer and charge depreciation on it.

Offsetting

2.34. IAS 1 does not allow assets and liabilities to be offset against each other unless such a treatment is required or permitted by another IAS.

2.35. Income and expenses can be offset only when one of the following applies

a) An IAS requires/permits itb) Gains, losses and related expenses arising from the same transactions are not material.

Comparative information

2.36. IAS 1 requires comparative information to be disclosed for the previous period for all numerical information, unless another IAS permits/requires otherwise. Comparatives should also be given in narrative information where helpful.

2.37. Comparatives should be restated when the presentation or classification of items in the financial statements is amended.

Prudence

Prudence, the inclusion of a degree of caution in the exercise of the judgments needed in making the estimates required under conditions of uncertainty, such that assets or income are not over stated and liabilities or expenses are not understated

2.38. Prudence must be exercised when preparing financial statements because of the uncertainty surrounding many transactions. It is not permitted, however, to create secret or hidden reserves using prudence as a justification.

2.39. There are three important issues to bear in mind

a) Where alternative procures or valuations are possible, the one selected should be the one which gives the most cautious result. For example, you may have woodened why the three washing machine in question 1 were stated in the balance sheet at their cost $100 each rather than selling price $150 each. This is simply an aspect of prudence: to value the machines at $150 would be anticipate making a profit before the profit has been raised

b) Where a loss is foreseen; it should be anticipated and taken into account immediately. Even when the extract amount of lose is not known, an estimate of the loss should be made, based on the best information available. If a business purchases inventory or $1,200 but, because of a sudden slump in the market, only $900 is likely to realized when the inventory is sold; the prudence concept dictates that the inventory is valued at $900. It is not enough to wait until the inventory is sold, end then recognize the $300 loss, it must be recognized as soon as foreseen

c) Profits should only be recognized when realized in form of cash or another asset with a reasonable certain cash value.

2.40. EXAMPLES: PRUDENCE

Some examples might help to explain the application of prudence

a) A company begins trading on 1st January 20X5 and sells goods worth $100,000 during the year to 31 December. At 31 December there are accounts receivable outstanding of $15,000. Of these, the company is now doubtful whether $6,000 will ever be paid.The company should make provision for doubtful debts of 6,000. Sales for 20X5 are shown in the income statement at their full value of $100,000, but the provision for doubtful debts is a charge of $6,000. Since there is some uncertainty that the ales will be realized in form of cash, prudence indicates that the $6,000 should not be included in the profit of the year.

b) Samson Feeble trades as a carpenter, he undertakes to make a range of kitchen furniture for a customer at an agreed price of $1,000.at the end of Samson’s accounting year the job is unfinished (being two thirds complete) and the following data has been assembled.Costs incurred in making thru furniture to date 800Further estimated cost to completion of the job 400Total cost 1200

The incomplete job represents work in progress at the end of the year which is an asset, like inventory. Its coast to date is $800, but by the time the job is completed Samson will make a loss of $200

The full $200 loss should be charged against profits of the current year. The value of the work in progress at the year end is its net realizable value, which is lower than the cost. The net realizable value can be calculated in either of two ways

Eventual sales value 1,000 Work in progress at cost 800

Less further costs to completion

In order to make the sale 400 less loss foreseen 200

Net releasable value 600 600

Substance over form

Substance over form The principle that the transactions and other events are accounted for and presented in accordance with their substance and economic reality and not merely their legal form

Substance over form usually applies to transactions which are fairly complicated. It is very important because it acts as a catch all to stop enterprises distorting their results by following the letter of law, instead of showing what the enterprise has really been doing

Presentation of accounting policies

2.42. There should be a specific section for accounting policies in the otes of the financial statements and the following should be disclosed there

a) Measurement bases used in preparing the financial statementsb) Each specific accounting policy necessary for proper understanding of the

financial statements

2.43. To be clear and understandable it is essential that the financial statements disclose the accounting policies used in their preparation. This is because policies may vary, not only from enterprise to enterprise but also from country to county. As an aid to users, all the major accounting policies used should be disclosed in the same note.

2.44. There air a wide range of policies available in many accounting areas. Examples where such differing policies exist as follows, although the list is not exhaustive and it has been selected from the standard to reflect the limited areas covered in your syllabus

Generalo Overall valuation policy (e.g. historical cost, general purchasing power, replacement

value)o Events subsequent to the balance sheet date

Assetso Receivables

o Inventories and related cost of goods sold

o Depreciable assets and depreciation

o Research and development

o Patents and trademarks

o Goodwill

Liabilities and provisionso Commitments and contingencies

Profits and losseso Methods of revenue recognition

o Maintenance, repairs and improvements

o Gains and losses on disposables of property

3. OTHER IMPORTANT CONCEPTS AND CONVENTIONS

The business entity concept

3.1. This concept has already been discussed in chapter 2. Briefly, the concept is that accountants regard a business as a separate entity, distinct from its owners or managers. The concept applies whether the business is limited liability company (and so recognized

in the law as a separate entity) or a sole proprietorship or partnership (in which case the business is not separately recognized by the law)

The money measurement concept

The money measurement concept states that accounts only deal with those items to which a monetary value can be attributed

3.2. In the balance sheet of a business, monetary values can be attributed to such assets as machinery (e.g. the origin cost) and inventories (eg net realization value)

3.3. The money measurement concept introduces limitations to the subject-mater of accounts. A business may have intangible assets, such as the flair of a good manager or the loyalty of its work force. These may be important enough to give a clear superiority over an otherwise identical business, but because they cannot be evaluated in monetary terms but they do appear anywhere in the accounts

The historical cost convention

3.4. A basic principle of accounting (some writers include it in the list of fundamental accounting assumptions) is that items are normally stated in accounts ah historical cost, i.e. at the amount which the business paid to acquire them. An important advantage of this procedure is that the objectivity of accounts is maximized: there is usually documentary evidence to prove the amount paid to purchase an asset or may pay an expense.

Historical cost means that the transactions are recorded at the cost when they occurred

3.5. In general the accountants prefer to deal with cost rather than with values. This is because valuations tend to be subjective and to vary according to what the valuation is for. For example, a company acquires a machine to manufacture its products. The machine has an expected useful life of four years. At the end of the two years the company is preparing a balance sheet and has to decide what monetary amount is to be attributed to the asset.

3.6. Numerous possibilities can be considereda) The original cost (historical cost) of the machineb) Half of the historical cost, on the ground and half of its useful life has expiredc) The amount he machine fetches on the second hand marketd) The mount needed to replace the machine with a more modern incorporating the

technological advances of the previous two yearse) The machine’s economic value, ire the amount of the profits expected to generate

for the company during its remaining life3.7. All of these evolutions have something to commend them, but the great advantage

of the first two is that they are based on a figure (machine’s historical cost) which is objectively verifiable (Some authors objectively as an accounting concept in its own right). The subjective judgment involved in the other valuations, particularly (f), is so great as to lessen tar reliability of any accounts in which they are used.

Stable Monetary unit

3.8. The financial statements are expressed in terms of monetary unit (e.g. in the UK the £, in the USA the $). It is assumed that the value of this unit remains constant

3.9. In practice, of course, the value of the unit varies and comparisons between the accounts of the current year and those off previous years may be misleading (e.g. in times if inflation)Objectivity

3.10. An accountant must show objectivity, this means answers must be free of any personal opinions or prejudice, and should be a precise and as detailed as the situation warrants. The result of this should be that any number of accountants will give the same answer independently of each other

Objectivity means accountants must be free from bias

3.11. In practice, objectivity id difficult. Two accountants faced the same accounting data may come to different conclusions as the correct treatment. It was to combat subjectivity that accounting standards were developed

Exam focus pointObjectivity is sometimes called neutrality

The realization concept

The realization concept means that the revenue and profits are recognized when realized

3.12. The realization concept states that the revenue and profits are not anticipated but are recognized by inclusion in the income statement only when realized in the form either of cash or other assets, the ultimate cash realization of which can be assessed with reasonable certainty. Provision is made for all known liabilities (expenses and losses) whether the amount of these is known with certainty or is the best estimate in the light of the information available.

3.13. There are some exceptions to the rule, notably for land and buildings. With dramatic rises in property prices in some countries, it has been a common practice to revalue land and buildings periodically to current value, to avoid having a mislaying balance sheet. Even if the sale of the property is not contemplated, such reevaluations create an realistic profit:Credit Land and building accountDebit Revaluation reserve accountThis profit is sometimes known as a holding gain, because it is a profit which arises in the course of holding the asset as a result of its increase in value above the cost

3.14. In spite of such exceptions, however, the realization principle has long been accepted by all practicing accountants and it is standard practice that only profits realized at the balance sheet date should be included in the income statement.

3.15. Unfortunately there is no standard definition of realized profits and losses. It could be said that they are such profits of losses of a company as to be treated as realized in accordance with principles generally accepted at the time when the accounts are prepared. One aspect of the problem is the question: At what point in the business cycle

should revenue be recognized as earned? We will consider this further when we look at IAS 18 in the next section

The duality concept3.16. Every transaction has two effects. This convention underpins double entry book

keeping, and you have seen it work in your studies from Chapter 5 onwards

The time interval concept3.17. The time interval concept is also known as the timeless, which we have looked at

earlier in your studies3.18. This concept states that the financial statements should be produced within a time

interval that enables users to make relevant economic decisions. In other words there is no point in producing information that is so out of date, that no decisions can be based on it

Question 3a) You depreciate your office equipment by 20% each year because it has a useful

life, on average, of five years, this year your profitability is down and you think you can squeeze an extra year’s life out of your equipment. Is it acceptable not to charge any depreciation this year?

b) You have recently paid $4.95 for a waste paper bin which should have a useful life of about five years. Should you treat is as a long term asset?

Answer

a) No, because of the consistency assumption. Once the depreciation policy has been established, it should not change without good cause

b) No, because of the materiality concept. The cost of the bin is very small. Rather than cluttering up the balance sheet for five years, treat the $4.95 as an expense in this year’s income statement.

4. IAS 18 REVENUEIntroduction

4.1. Accruals accounting is based on the matching of costs with the revenue they generate. It us crucially important under this convention that we establish the point at which revenue is recognized, so that the cornet treatment can be applies to the related costs. For example, the cost of producing an item of finished goods should be carried as an asset in the balance sheet until such as it is sold; they should then be written off a charge to the trading account. Which of these two treatments should be applies to decide until it is clear at what moment the sale of the item takes place

4.2. The decision has a direct impact on profits since under the prudence concept, it is unacceptable to recognize the profit on sale until a sale has taken place, in accordance with the criteria of revenue recognition

4.3. Revenue is generally recognized as earned at the point of sale, because at the point four criteria will generally have been met.

The product or service has to be provided to the buyer

The buyer has recognized his liability to pay for the goods or services provided. The converse of this is that the seller has recognized the ownership of goods has passed from himself to the buyer

The buyer has indicated his willingness to hand over cash or other assets in the settlement of his liability

The monetary value of goods or services has been established

4.4. At earlier points in the business cycle, there will not in general be firm evidence that the above criteria will be met. Until work on the product is complete, there is a risk that some flaw in the manufacturing process will necessitate its writing off, even when the product is complete there is no guarantee that it will find a buyer

4.5. At later points in the business cycle, for example when the cash is received for a credit sale, the recognition of revenue may occur in a period later than that in which the related costs were charged. Revenue recognition then depends on fortuitous circumstances, such as the cash flow of a company’s receivables, and can fluctuate misleadingly from one period to another

4.6. However, there are sometimes when revenue is recognized at other times that at the completion of a sale. For example, in the recognition of profit on long term construction contracts. Under IAS 11 construction contracts (not in your syllabuses) contract revenue and a contract costs are recognized by reference to the stage of completion of the contract activity at the balance sheet date. You will learn about this later in your studies

IAS 18 Revenue4.7. IAS 18 governs the recognition of revenue in specific (common) types of

transaction. Generally, recognition occurs when it is probable that the future economic benefits will flow to the enterprise and when these benefits can be measured reliably.

4.8. Income, as defined by the IASC’s framework document (see chapter 24), includes both revenues and gains. Revenue is income arising in the ordinary course of an enterprise’s activities such as sales, fees, interest, dividends or royalties.

Scope4.9. IAS 18 covers the revenue from specific types of trisections or events

Sale of goods (manufactured products and items purchased for resale) Rendering of services Use of others of enterprise assets yielding interest, royalties, and dividends

4.10. Interest, royalties and dividends are included as income because they arise from the use of an enterprise’s assets by other parties

Interest is the charge for the use of cash or cash equivalents or amounts due to the enterprise.Royalties are charges for the use of long term assets of the enterprise, e.g. Parents, computer software and trademarksDividends are distributions of profits to holders of equity investments, in proportion with their holding, of relevant class of capital

4.11. The standard specifically excludes various types of revenue arising from leases, insurance, contrasts, changes in value of financial instruments or other current assets, natural increases in agricultural assets and mineral ore extraction

Definitions4.12. The following definitions are given in the standard

Revenue is the gross in flow of economic benefits during the period arising in the course of the ordinary activities of an enterprise when the inflows result in increases in equality other than increases relating to contributions from equity participants

Fair value is the amount for which an asset could be exchanged, or liability settled, between knowledgeable, willing parties in arm’s length transaction

4.13. Revenue does not include sales taxes; value added taxes or goods and service tax which are only collected for third parties, because these do not represent an economic benefit flowing to the entity. The same is true for revenues collected by an agent on behalf of a principal. Revenue for agent is only the commission received for acting as agent.

Measurement of revenue4.14. When a transaction takes place, the amount of revenue is usually decided by the

agreement of the buyer and seller. The revenue is actually measured, however, as the fair value of the consideration received, which will take account of any trade discounts and volume rebates.

Indication of a transaction4.15. Normally, each transaction can be looked at as a whole. Sometimes, however,

transactions are more complicated, and it is necessary to break a transaction down into its component parts. For example, a sale may include the transfer of goods and the provision of future servicing, the revenue for which should be deferred over the period the servicing is performed.

4.16. At the other end of the sale, seemingly separate transactions must be considered together if apart they lose their commercial meaning. An example would be to sell an asset with an agreement to buy it back at a later date. The second transaction cancels the first and so both must be considered together.

Sale of goods4.17. Revenue from sale of goods should only be recognized when all these conditions

are satisfieda) The enterprise has transferred the significant risks and rewards of ownership of

the goods to the buyerb) The enterprise has no continuing managerial involvement to the degree usually

associated with ownership, and no longer has effective control over the goods sold

c) The amount of revenue can be measured reliablyd) It is probable that the economic benefits associated with the transaction will flow

to the enterprisee) The costs incurred in respect to the transaction can be measured

4.18. The transfer of risks and rewards can only be decided by examining each transaction. Mainly, the transfer occurs at the same time as either the transfer of legal title, or the passing of possession to the buyer this is what happens when you buy something in the shop

4.19. If significant risks and rewards remain with the seller, then the transaction is not a sale and revenue cannot be recognized, for example the receipt of revenue from a particular sale depends on the buyer receiving revenue from his own sale of goods

4.20. It is possible for the smaller to retain only an insignificant risk of ownership for the sale and revenue to be recognized. The main example here is where the seller retains title only to ensure collection of what is owed on the goods. This is a common commercial situation, and when it rises the revenue should be recognized on the date of sale

4.21. The probability of the enterprise receiving the revenue arising from a transaction must be assessed. It may only become probable that the economic benefits will be received when an uncertainty is removed, for example government permission for funds to be received from another country. Only when the uncertainty is removed should the revenue be recognized. This is in contrast with the situation where revenue has already been recognized, but where the collectability of cash is brought into doubt where recovery has been ceased to be probable, the amount should be recognized as an expense, not an adjustment of the revenue previously recognized. These points also apply to services and interest, royalties and dividends’ below

4.22. Matching should take place, i.e. the revenue and expenses relating to the same transaction should be recognized at the same time. It is usually easy to estimate expenses at the date of sale e.g. warranty costs, shipment etc. Where they cannot be estimated reliably, then revenue cannot be recognized, any consideration already received as a liability

Rendering services4.23. When the outcome of a transaction involving the rendering of services cannot be

estimated reliably, the associated revenue should be recognized by reference to the stage completion of the transaction at the balance sheet date. The outcome of a transaction can estimated reliably when all these conditions are satisfied

a) The amount of revenue can be measured reliablyb) It is probable that the economic benefits associated with the transaction will flow

to the enterprisec) The stage of completion of a transaction at a balance sheet date can be measured

reliablyd) The costs incurred for a transaction and the costs to complete a transaction can

be measured reliably4.24. The parties to the transaction will normally have to agree on the following before

an enterprise can make reliable estimates.a) Each party’s enforceable rights regarding the service to be provide

b) The consideration to be exchangedc) The manner and terms of settlement

4.25. There are previous methods of determining the stage of completion of a transaction, but for practical purposes, when services are performed by an indeterminate number of acts over a period of time, revenue should be recognized on a straight line basis over a period, unless there is evidence for the use of a more appropriate method. If one act is of more significance than the others, then the significant act should be carried out before revenue is recognized

4.26. In certain situations, then the outcome of a transaction involving the rendering of services cannot be estimated reliably, the standard recommends a no loss/no gain approach. Revenue is only recognized only in the extent of the expenses that are recovered

4.27. This air particularly likely during the early stage of a transaction, but it is still probable that that the enterprise will recover the costs incurred. So the revenue recognized in such a period will be equal to the expenses incurred with no profit.

4.28. Obviously, if the costs are likely to be reimbursed, then they must be recognized as an expense immediately. When the uncertainties cease it exist, revenue should be recognized as laid out.

Interest, royalties and dividends4.29. When others use the enterprise’s assets yielding interest, royalties and dividends,

the revenue should be recognized on the bases set out belowa) It is probably that the economic benefits associated with the transaction will flow

to the enterpriseb) The mount of the revenue can be measured reliably

4.30. The revenue is recognized on the following basea) Interest is recognized on the time proposition that takes into account the effective

yield on the assetb) Royalties are recognized on an accruals basis in accordance with the substance of

the relevant agreementc) Dividends are recognized when the shareholder’s right to receive payment is

established

4.31. It is unlikely that you would be asked about anything as complex as in the exam, but you should be aware of the basic requirements of the standard. The effective yield on an asset mentioned above is the rate of interest required to discount the stream of the future cash receipts expected over the life of an asset

4.32. Royalties are usually recognized on the same basis that they accrue under the relevant agreement. Sometimes the true substance of the agreement may require so other systematic an rational method of recognition

4.33. Once again the points made above probability and collectability on sale of goods also apply here

Disclosure4.34. The following items should be disclosed

a) The accounting policies adopted for the recognition of revenue, including the methods used to determine the stage of completion of transactions involving the rendering of services

b) The amount of each significant category of revenue recognized during the period including revenue arising from the sources below

i. The sale of goodsii. The rendering of services

iii. Interestiv. Royaltiesv. dividends

c) The amount of revenue arising from exchange of goods or services included in each significant category of revenue

Question 4

Given the prudence in the main consideration, discuss under what circumstances, if any revenue might be recognized at the following stages of sale

a) Goods are required by the business which is confidently expects to resell very quicklyb) A customer places a firm order for goodsc) Goods are delivered to the customer d) The customer is invoiced for goodse) The customer pays for the goodsf) The customer’s cheque in payment for goods has been cleared by the bank

Answer

a) A sale must never be recognized before the goods have even ordered by the customer. There is no certainty about the value of the sale, nor when it will take place even if it is virtually certain that the goods will be sold

b) A sale must never be recognized when the customer places an order. Even though the order will be for a specific quantity of goods at a specific price, it is not yet certain that the sale transaction will go though. The customer may cancel the order, the supplier might be unable to deliver the goods as ordered or it may be decided that the customer is not a good risk taker

c) A sale will be recognized when delivery of goods is made only when:i. The sale is for cash, and so the cash received at the same time

ii. The sale is on credit and the customer accepts delivery

d) The critical event for a credit sale is usually the dispatch of an invoice to the customer. There is then a legally enforceable debt, payable on specific terms, for a completed sale transaction

e) The critical event for cash sale is when the delivery takes place and when the cash is received, both take place at the same time

It would be too cautious or prudent to wait cash payment for a credit sale transaction before recognizing the sale, unless the customer is a high credit risk and there is a serious doubt about his ability to pay. But in that case, why would the business risk dispatching the good?

f) It would be again be over cautious to wait for clearance of the customer’s cheque before recognizing sales revenue. Such a precaution would only be justified in cases where there is a very high risk of the bank refusing to honor the cheque

Summary.

In preparing financial statement, accounts follow certain fundamental assumptions Three such assumptions are identified by IAS 1 presentation of financial statement

o Going concern: Unless there is evidence to the contrary, it is assumed that the

business will continue to trade normally for the foreseeable futureo Accruals: revenue earned must be matched against the expenditure incurred in

earning ito Consistency: accounting policies are consistent from one period to another

IAS 1 also considers three other concepts extremely important: prudence, substance over form and materiality should govern the selection and application of accounting policies

o Prudence: Should be exercised where uncertainty exists

o Substance over form: financial reality takes precedence over legal form when

accounting for a transactiono Materiality: all items should be disclosed which are material enough to effect

evaluations or decisions A number of other concepts may be regarded as extremely important

o The business entity concept. A business is an entity distinct from its owners

o The money measurement concept. Accounts only deal with items to which the

monetary values can be attributedo The historical cost convection. Transactions are recorded at the cost whey they

occurredo The stable monetary unit. The value of the unit in which accounting statements

are prepared doesn’t changeo Objectivity. Accountants must be free from bias

o The realization concept. Revenue and profits are recognized when realized

o Duality. Every transaction has two effects

o Time interval Financial information must be produced timeliness

IAS 18 revenue is concerned with the recognition of revenues arising from fairly common transactions

o The sale of goods

o The rendering of services

o The use by other enterprise assets yielding interest, royalties and dividends

Generally revenue is recognized when the enterprise has transferred to the buyer the significant risks and rewards of ownership when the revenue can be measured reliably

Partnership accounts

A partnership is a relationship between persons competent of entering a contract and doing

a business in common with a view of making a profit.

The persons doing the business in common should be competent in the sense in that they

shouldn’t be minors but adults and such person should not be bankrupt.

Partnership is guided by a partnership deed in writing or implied. It spells the follow;

(i) Share of profits or losses

(ii) Interests on capital

(iii) Interest on drawings

(iv) Salary to partners

(v) Int on loans from partners

(vi) Signatories of partnership accounts

In the absence of the partnership Dee, the partnership would be guided by the provisions in the

partnership Act i.e.

(i) No partner will claim int, on k

(ii) No partner will be changed int, on draw

(iii) No partner will claim salary from the partnership.

(iv) Losses will be shared equally

(v) If any partner has advanced a loan to the partnership in addition to his capital, he

will be entitled to 5% p.a. int on loan.

Types of partners

(i) Active partners

These have capital in the business and also take part in the day to day business management.

(ii) Sleeping partners

These have capital in the business but don’t take part in the day to day business management,

however they share in the profits made.

(iii) Holding out partners

These have no capital in the business and don’t take part in the day to day business

management of the partnership e.g. in hierarchal politicians. Such persons have reputation and

may attract funding for the partnership; they share in the profits and losses of the partnership.

Accounting treatment partnership in case of the partnership, the income statement will have

3 parts namely.

(i) Trading Account

(ii) Profits and losses account

(iii) Profit and loss appropriation account

The first two accounts one like those of a sole proprietorship. The profit and loss app. Account

records transit between the partners and the partnership.

Capital accounts of the partnership. The capital accounts of a partnership may be prepared in

two ways.

Fixed capital accounts

In this case, only the capital contribution of the partners is recorded in the capital accounts is

recorded in the capital accounts and in an independent account called the current account

is maintained to record transit between the partners and the partnership.

Fluctuating capital accounts

All transitions i.e. capital and other transitions are recorded in the capital account.

Accounting entries

(i) When partners are entitled to interest on capital.

(Dr- P&L appropriation account)

Dr- Int on capital account

Cr- (current accounts with int due on capital

2. Introduction of capital by partners

Dr- Bank/cash account

Cr- Capital account with a management introduced

3. Partners drawings

Dr-current accounts

Cr- Bank account with a management with drawn by partners

4. When partners one entitled to salaries

Dr - Partners salary account

Cr- Partners current account

5. When partners are charged with int. on drawings

Dr- Current account

Cr- Int on drawings

6. Sharing of profits /losses

(a) Dr – Share of .. (P and L application account)

Cr – Current account

Thus the P and L account comprises he following items;

- Int, on capital

- Int on drawings

- Partners salaries

- Share of profits and losses

Partners loan

A loan from the partners to the partnership must be shown in the separate account called the

loan account and must always carry an int interest on such a loan must be shown in the

partners loss account i.e. its a charge against profit.

MISSING WORK. TO BE TYPED.

Format of an income statement of a partnership business. The income statement of partnership is

comprised of 3 parts i.e.

- Trading account

- P and L account

- P and L application account as shown below

Sales xx

C.O.S xx

G.P xx

Exp xx

N.P xx

Add

Interest on drawings

A xx

B xx

xx

Less

Interest on capital

A xx

B xx

Salary

A xx

Profit to be shared xxx

Share of profit

A xx

B xx

Preparation of a balance sheet

The proportion of the assets of the balance sheet un charged the financing section of a balance

sheet must reflect the partners financing and will appear as follows.

NEF ASSETS xx

CAPITAL ACCOUNTS

A xx

B xx

CURRENT ACCOUNTS

A xx

B xx

A B A B

Int. on draw xx Balance b/d xx xx

Drawing xx Int. on capital xx xx

Balance xx Salary s xx xx

Share of II xx xx

1. P. and C are in partnership sharing capital and losses in the ratio 3:2 respectively. They are

entitled to 5% p.a. int. on capital and their respective int. on drawing were O£ 50 and C

£100.

C is entitled to a salary of £500 p.a their capital contribution are P£200 and C£6,000. The net

profit before any distribution to partners amounted to £5000 for the year ended 31st Dec 2000.

Required

Prepare a P and L appn. Account for the year ended 31st Dec 2000.

2. M and N are in partnership sharing profits equally the partnership trial balance as at 30th June

2001 was as follows.

Item /account Dr Cr

Building (N.BV) 50,000

Fixtures (Cost) 11,000

Account depn. (Fixtures) 3, 300

Debtors /creditors 16,243 11,150

Stock 30/6/2000 41,979

Cash at bank 6.77

Sales 123,650

Purchases 85,416

C.O.W (carriage out) 1,288

Dis. All 115

Loan int. 400

Loan 40,000

Office expenses 2,416

Salaries and wages 18,917

Prov. For B/debts 400

Bad debts 503

Capital accounts

M 35,000

N 29,500

Current accounts

M 1,306

N 298

Drawings

M 6,400

N 5, 650

Additional information

1. Stock at 30/6/2001 was 56,340

2. Expenses accused as at 30/6/2001

Office expenses 96

Wages 200

3. Depn on furniture is 10% p.a on reducing balance basis while depends on building for the year

up to 30/6/01 was £1,000.

4. The partnership salary of 800 to M was not recorded.

5. Int. on drawings was;

M 180

N 120

6. Int on capital balances is provided at 10% as per the prov. in the deed.

7. You are to reduce prov. for balance debts to 320.

REQUIRED;

i. Prepare a P and L and P and L application accounts for the year ended

30/6/2001

ii. Prepare a balance sheet as at that date

N.T A = 117 42l

K

GOOD WILL

Good will is the difference between the value of the business and the fair value of its net

separable assets.

Characteristics /future of good will

i. Each business has a unique good will which fluctuates continuously as factors

affecting it fluctuate.

ii. Good will can not be sold separately without selling business as going concern

i.e. good will exist as long as a business operates as a going concern.

iii. Valuation of good will is highly subjective i.e. it has no scientific components and

SSAP22 demands that it could written off immediately.

Types of good will

i. Purchased good will

This arises from a defined financial transaction and hence it is recorded in fin statements like

other fixed assets.

However SSAP22 provided for immediate write off of good will after acquisition.

Alternatively it can be a mortised over its useful life but not exceeding 40 years

SSAP = Statement of standard accounts practice

ii. Inherent (non- purchased) good will.

This arises in the normal carrying out of business. It is results from a combination of various

business activities as a going concern hence non-purchased good will is never recorded in

accounts because to do so will be anticipate gains which have not yet been realized.

Factors which induce payment of good will.

1) When the business posses monopoly power of favorable contract of UCE.

2) When the new business is to continue trading under the same name of the previous

company e.g. UCBL

3) If the business possesses specialized demand skills e.g. expert managers.

4) Possession of trade marks and patents e.g. Coca-cola, Pepsi Cola

5) Where the business has already incurred costs of research and development

6) The nature of a firm product or the reputation of its SVs e.g. price water and copper,

British Airways, Earnest young.

7) Freedom from legislative restrictions circumstances necessary ascertaining good will in

partnership.

1. At the time of admitting a new partner into establishing partnership the new has

to compensate for the share he is going to enjoy.

2. At the retirement or death of a partner from the partnership

3. The combination of ones and two where an old partner is replaced by a new one.

4. At the time of dissolving or closing the partnership including selling the business to an

individual or a company.

5. A change in the profit and loss sharing ratio between the partners.

6. A charge in the made of ascertaining P and losses of the firm e.g. in depreciation rates

accounting for good will in partnership in accounts by 3 methods;

(a) Premium method

In hence the new partner brings cash in addition to his capital contribution she excess

premium being a good will contribution in the following ways;

(i) The cash premium can be paid to the old partners privately and here no acting record is

made.

(ii) Premium cash paid by the new partner remains in business but no good will accounts

maintained.

The acting entries are;

- On receipt of cash - Dr cash account

Cr- good will account

- On write off the good will – Dr- good will account

Cr – capital account of the old partners

(iv) The cash premium by the old partner is withdrawn by the new partners and no

good will account is maintained. In addition to the entries in (ii) the follow

entries will be affected.

Dr – capital accounts (for old partners)

Cr – Cash account

(b) Revaluation method the new partner brings capital only but agrees to compensate for

good will account than by cash. In this case good will account is raised and it is

maintained in the books the accounting entries to be made will be.

Dr – Good will account

Cr – Capital accounts (for the old partners.

Memorandum revaluation method in this case good will raise in the books does not remain in

the records i.e. it is written off.

The accounting entries are;

Dr- Good will

Cr- capital accounts (for the old partners)

Dr- Capital accounts (for the new partners

Cr- Good will account

Example

Partners X, Y, Z have been sharing P and L in ratio 4:3:1 respectively. On Dec. 3. 2000. They

agreed to alter their profit sharing ration to 3:5:2 for X,Y,Z respectively the summarized

balance sheet of the partnership a sat that date was as follows.

Total assets (excluding good will) 14,000,000

Capital accounts

X 6, 00,000

Y 2,800,000

Z 3,200,000

On altering P and Loss sharing ratio the partners agreed to recognized good will of

12,00,000

Required;

Show the balance sheet on 1st Jan 2001 after good will had be taken into account

Assume;

a) Good will account is to be maintained in records

b) Good will to be not to be

REVALUATION OF ASSETS

This maybe done under the follow circumstances

1) Admission of a new partner

2) Change of profit and loss sharing ratios

3) Retirement of a partner

4) Death of a partner

The value of assets and liabs may increase or decrease on revaluation.

If the value of assets increase then there a loss revaluation.

Similar if the value of liabs increase there is a loss on revaluation and if the value of liabs

decreases then hence a gain on revaluation

Accounting entries

1. When Asset values increase

Dr- Asset account

Cr- revaluation account with increase in value of the asset

2. On reduction in assets value

Dr- Revaluation account

Cr- Asset account with reduction in value

3. Increase in value of a liability

Dr – Revaluation account

Cr- Liability account with increase in value

4. Decrease in value of a liability

Dr- Liability account

Cr- Revaluation with decrease in value

N.B The balance on revaluation account is closed to the partners capital accounts i.e. shared

to the partners in their profits and loss sharing ratios.

5. The profit and loss on revaluation

(a) In case of a profit on revaluation

Dr – Revaluation account

Cr- Capital accounts with on revaluation

(b) In case of a loss

Dr- Capita accounts

Cr- Revaluation accounts with the loss on revaluation

Revaluation Account

Decrease in assets Increase in assets

Increase in liability Decrease in liability

Share of II Share of loss

Example

As B have been in partnership sharing P and L in the ratio 3:2 respectively. The follow is the

partnership balance sheet as at 31/12/2001.

Plants machinery 1,000,000

Good will 2,000,000

Stock 1,960,000

Debtor 2,130,000

Bank 90,000

Creditors (98,000)

Total Assets 7,000,000

Financed by

Capital accounts

A 4,000,000

B 3,000,000

On 1/1/02 they decided to admit C as a new partner on condition that he contributes 2m as

capital.

The follow assets were to be revalued as follows

Plants and mach 2, 000,000

Stock 900,000

Other asset s and liabs are to remain at their book value. The partners also agreed that good will

is valueless.

Required

(i) Ledger entries to effect transaction on admission of C

(ii) Balance sheet of the partnership after admitting C

P and M account

Balance b/d 1,800,000

Rev. 200,000 balance C/D 2,000,000

2,000,000 2,000,000

Stock account

Balanced b/d 1,960,000 revaluation 60,000

Balance C/D 1,900,000

1,960,000 1,960,000

Good will account

Balanced b/d 2,000,000 revaluation 2,000,000

2,000,000 2,000,000

Revaluation Account

Stock 60,000 plants machine 200,000

Good will 2,000,000 Capital

A 3/5 x 1,860,000 b111, 600

B 2/5 x 1,860,000 744,000

2,060,000 2,060,000

Capital account

A B C A B C

Loss on Rev 1, 111,600 2 m Balance 4m 3m -

Balance c/d 2,888,400 2,256,000 Bank 2m

4m 3m 2m 4m 3m 2m

Bank account

Balance sheet

Plants and machinery 2,000,000

Stock 1,900,000

Debtors 2,130,000

Bank 2,090,000

Creditors (980,000)

7,140,000

Capital account

A 2, 888, 400

B 2,856, 000

C 2,000,000

7,144,400

On dissolution of a partnership, the partnership business may be sold and a going concern to an

individual, it may be converted into a limited company or it is assets may be sold individually.

When a partnership business is dissolved the proceeds from business are applied as follows ,

payment of non-partners (debts and laibs) payment of partners loans to the partnership.

Payment of partners loans entitlements as per balances on their capital and current accounts

procedure and accounting entries.

Open a realization account and transfer all the assets with an exception of cash and bank

balances to this account the entry is;

Dr. Realization account

Cr- Assets account with book values of the assets

This entry closes all assets accounts in the ledger.

When Assets are sold in cash

Dr – Bank /cash account

Cr- Realization account with the proceeds received

3. If a partner takes over an asset

Dr- Partners capital account

Cr- Realization with the agreed take over value

4. When a liability is paid

Dr- Liability account

Cr- Bank account with actual amount paid

5. If a partner takes over a liability

Dr- Liability account

Cr – Capital account of the partner

6. If the amount of a liability paid differ from the book value

Dr – realization account

Cr- Liability account with the excess paid

Dr – Liability account

Cr- Realization account (with the discount on the liability

7. Dissolution expenses

Dr- Realization account

Cr – Bank account with the amount paid

8. Realization account balances

Dr – Realization account

Cr – Capital accounts with a II on realization

(b) In case of a loss on realization

Dr – Capital accounts

Cr- Realization account with a loss on reduction

9. Transfer the current account balances of the partners into the capital accounts.

10. Close the capital accounts

Dr- Capital accounts

Cr- Bank account

Realization account

Assets (NBV) xx Sales xx

Dissolution expenses xx Dissolution on creditors xx

Excess on creditors xx Assets taken xx

Share of profit xx Share of loss xx

xxx xxx

Garner Vs murry rule

In case a partner is insolvent and thus unable to meet his dues on dissolution i.e. Dr- Balance on

his capital account

The solvent partners share the deficiency in the ratio of their capital account balances prior to

dissolution unless otherwise stipulated in the deed.

BANK RECONCLIATION

Under the Bank’s system of Accounting, the customers’ cash is a liability and it has to be

credited. However, loans given to customers are Assets to the Bank and have to be debited.

Standing orders also include mortgage loans where you can direct the Bank to deduct a fixed

interest rate.

Credit Adice Memo is an advice note sent by the Bank to a customer showing a direct credit.

Debit Advice Memo is an advice note sent by the Bank to a customer showing a direct debit.

Uncredited cheques are also called (Deposits in transit) refer to the drawer dishonored cheque –

this is a cheque which is dishonored because there is no money n the drawer’s account.

QN 3 – 144

ADJUSTED CASH BOOK

Direct Credits

C.M. John 5.000.000/=

Dividend 2.000.000/=

7.000.000/=

Bal. bf 2.450.000/=

Direct Debts

Ledger fee 100.000/=

Standing order 800.000/=

Commission 50.000/=

Balance c/f 3.600.000/=

7.000.000/=

JANE’S ACCOUNT

STATEMENT RECONCILING OPENING CASH BOOK AND BANK STATEMENT

BALANCE

Balance as per adjusted cash books

Add un-presented cheques

Chq No 20

Chq No 21

Chq No 22

Less un--- cheques

Chq No 1803

Chq No 4204

Chq No 3410

Balance as per Bank statement

400.000/=

3.000.000/=

4.500.000/=

600.000/=

1.400.000/=

3.500.000/=

3.600.000/=

7.900.000/=

11.500.000/=

5.500.000/=

6.000.000/=

ADJUSTED CASH BOOK

Bal.bf 6.090.000/=

Direct credit 31st/01/1999

CM John

Dividend 2.000.000/=

Direct Debts 31st/01/1999

Ledger fee 100.000/=

Standing order UEB 800.000/=

Commission 50.000/=

Balance c/f

13.090.000/= 13.090.000/=

Dishonored cheques. (You just reserve the sides)

Bank errors are connected in the Bank statement.

Correction of under c----- credit or debt the under cost.

ADJUSTED CASH BOOK METHOD 1

Bal.bf 6.090.000/=

Direct credits

C.M John 5.000.000/=

Dividend 2.000.000/=

Connection error. (Under cost) 1.800.000/=

Credit transfer 600.000/=

Interest 200.000/=

Connection of error Chq No 43 2.250.000/=

Dishonored Chq No 42 3.400.000/=

21.340.000/=

Direct debts

Ledger fee 100.000/=

Standing order UEB 800.000/=

Commission 50.000/=

Correction of error 40.000/=

Connection of wrong posting 800.000/=

Connection of error Chq No 46 1.800.000/=

Bank charge (Direct Dr) 150.000/=

Dishonored Chq No 115 300.000/=

17.300.000/=

21.340.000/=

ADJUSTED CASH BOOK METHOD 2

Bal. b/f 3.600.000/=

Total debts 24.640.000/=

28.240.000/=

Total payment credits 16.100.000/=

Balance c/f 12.140.000/=

28.240.000/=

Note:

Under statement of the balance – you also understate as per adjusted cash book (-) over statement

of the balance – you also state as per adjusted cash book (-).

JANE A/C WITH UCB MAIN

BANK RECONCILIATION STATEMENT AS AT 28TH/FEB/1999

Balance as per adjusted cash book 17.300.000/=

Add un-presented cheques

Cheque No 22

Cheque No 30

Cheque No 36

Bank error Cheque No 5221

4.500.000/=

700.000/=

1.800.000/= 7.000.000/=

300.000/= 7.300.000/=

24.600.000/=

Less un-credited Cheques

Cheque No 1803

Cheque No 409

Cheque No 813

Bank error Cheque No

Balance as per Bank statement

600.000/=

400.000/=

1.500.000/= 2.500.000/=

2.700.000/= 5.200.000/=

19.400.000/=

MANUFACTURING ACCOUNTS

(ACCOUNTS FOR MANUFACTURING FIRMS)

Manufacturing firms or organizations transform or process raw material inputs into finished

goods or products, they add to the raw material inputs but ------not cheaply merchandising. After

manufactured goods are sold to customers through wholesale or the firms’ retailing them through

their own outlets.

Accounts maintained by manufacturing firms are quite different from those maintained by

retailing firms.

Manufacturing firms incur manufacturing costs and therefore have to keep Cost Accounts.

Manufacturing costs are broadly divided into two.

1. DIRECT COSTS

They are costs that are traceable or can be directly liked to a particular cost centre. For

example; Department, a process, a job and so on. Direct costs can also be directly

charged or allocated to cost units.

Cost centre are cost units. They consist of direct material (raw materials), direct------

(direct wages) and direct expenses. The ----of direct costs is called “Prime cost”.

2. OVERHEAD COSTS (Indirect costs).

There are indirect costs that can not easily be traced to a particular cost centre or cost

unit. Overhead costs include; indirect material costs, indirect labour costs and indirect

expenses.

Since overhead costs can not be linked to or associated with only one cost centre, they

must be apportioned to cost centers and thereafter to cost units using suitable bases.

Sometimes manufacturing costs other than material costs are called “conversion costs”.

Examples of Direct costs and Indirect costs.

NOTE

Costs can also be categorized as product costs and period costs. Product costs are

manufacturing costs that should be included in the cost of sales and closing stock.

Period costs are costs that accrue or charged according to the period that the goods are

sold. There are costs that are written off in profit and loss account. Period costs mostly

include; office and administrative costs, selling and distribution costs and financial costs

(Bank charges). Period costs should not be included under cost of goods sold. That period

costs can also be classified as variable costs and fixed costs.

Variable costs.

These are costs that change when output increase or decreases.

Fixed costs.

These are costs that do not change irrespective of whether output is increased or reduced.

A fixed cost for 1 unit is the same cost for 1 million more units.

MANUFACTURING ACCOUNT / STATEMENT

Costs related to manufacturing are collected in the manufacturing account or statement

during a stated period. It shows the cost of manufactured goods.

CONSTRUCTION OF A MANUFACTURING ACCOUNT OR STATEMENT

A manufacturing account or statement is constructed from the following:

i. Cost of raw materials consumed or used. The cost of raw material consumed or

used in production is determined by adding purchases of raw materials to ---stock

and subtracting closing stock of raw materials.

ii. Direct labour cost / wages. Direct wages are paid to workers directly concerned

with production and their wages are traceable to a cost center. Direct labour cost /

direct wages are added to the cost of raw materials consumed.

REVISION QUESTIONS.

1………………..are methods developed for applying fundamental concepts

a) Accounting policies

b) Accounting standards

c) Accounting principles

d) None of the above

2. Costs incurred to facilitate the sale of goods should be charged to;

a) Trading account

b) Profit and loss account

c) Balance sheet

d) None of the above

3. Which of the following are incorrect when a sole proprietor uses only his financial resources

to finance his business?

(i) Assets = liabilities + owner’s equity

(ii) Assets = Owners equity

(iii) Owner’s equity = Assets – liabilities

(iv) Liabilities = Assets + Capital

(a) (ii) and (iii)

(b) (i), (iii), and (iv)

(c) (ii), and (iv)

(d) (ii)

Use the following information for question 4 and 5

A machine was acquired on 1/12005 at a cost of UGX 20,000,00 expected to be used for 10

years and then will be disposed off for UGX 1,000,00. It is depreciated using double

declining balance method and the company’s policy is to charge full year’s depreciation in

the year of acquisition and none in the year of disposal.

4. The company’s accounting period begins on 1st January and ends on 31st December, the

depreciation charge for the year ended 31st/ 12/2006 is.

a) UGX 3,200,000

b) UGX 4,000,000

c) UGX 3,800,000

d) UGX 5,200,000

5. On 3rd March 2007 the machine was disposed off for a cash amount of Shs 9,500,000. The

entries recorded on receipt of the cash were;

a) Debit cash account and Credit sales account by UGX 9,500,000

b) Debit cash account and Credit machine account by UGX 20,000,000

c) Debit cash account and Credit machine disposal account by UGX 9,500,000

d) Debit cash account and Credit machine disposal account by UGX 20,000,000

6. The credit customer’s personal accounts are found in the;

a) General ledger

b) Purchase ledger

c) Sales ledger

d) None of the above

Use the information given below to answer question 7 and 8

Audit of SORGHUM LTD’S books of accounts revealed that fuel expenses payable had

been under- added by UGX 120,000 and rental income receivable had also been under-

added by UGX 120,000.

7. The above error is;

a) An error of complete reversal

b) A compensating error

c) An error of commission

d) An error of principle

8. To correct the error above is SORGHUM LTD’S books,

a) Debit fuel expenses payable accounts and credit rental income receivable account by

UGX 120,000

b) Debit fuel expenses payable accounts and credit cash account by UGX 120,000

c) Debit cash account and credit rental income receivable account by UGX 120,000

d) None of the above.

9. Gross profit for an accounting period is credited to the

a) Trading account

b) Capital account

c) Current asset account

d) Drawings account

10. A provision for doubtful debts is created

a) When debtors become bankrupt

b) When debtors cease to be in business

c) To provide for possible bad debts

d) To write off bad debts

SECTION B: In this section attempt QUESTION TWO and any other two

QUESTION TWO:

The following Trial balance was extracted from the books of A.N.L AGENCIES LTD for the

Financial year ended 31.12.2006

PARTICULARS DEBIT (Shs) CREDIT (Shs)

Premises 21,200

Purchases 43,600

Furniture & Fitting (Cost) 14,000

Inventory 1.1. 2006 3,200

Equipment (cost) 8,000

Bad debts 400

Bank 24,400

Cash 3,640

License Fees 7,960

Trade Debtors 19,000

Salaries 13,060

Returns inwards 7,000

Utilities 9,040

Rent Expenses 3,600

Provision for Bad debts 720

Ordinary Share Capital 32,000

Returns outwards 6,200

Profit & Loss Account 4,200

Interest rec. on bank deposit 6,200

Sales 83,400

Trade Creditors 20,500

Bank Loan 20,000

Accumulated Depreciation:

- Furniture & Fittings

- Equipment

2,920

1,960

TOTAL 178,100 178,100

The following additional information is also provided;

Inventory as at 31.12.2006 was valued at Shs. 4,800

Prepaid salary expenses amounted to Shs. 400

Interest of Bank deposit of Shs, 800 accrued at the end of the year.

The figure for utilities includes Shs. 1, 400 relating to purchase of Furniture and Fittings.

Directors proposed on 30.12.2006 to pay dividend of Shs, 2, 400 to shareholders.

Depreciation on Furniture and Fittings and Equipment is at a rate of 20% on Reducing

Balance Method.

Rent of Shs. 1,200 remained outstanding at the end of the year.

REQUIRED:

a) Journalize the additional information provided above ( 4 marks)

b) Prepare A.N.L agencies’ Income – Statement, Statement of Changes in Equity and a

Balance- Sheet at the close of the Financial Year ended 31.12.2006

(16 marks)

QUESTION THREE:

The following data was obtained from CHOGM MANUFACTURES LTD as at December 31,

2006.

UGX 000

Sales 500,000

Raw material purchases 200,000

Royalty cots 20,000

Carriage in (Raw materials 500

Direct wages 60,000

Sales discounts 2,500

Indirect factory wages 12,000

Sales returns 3,000

Manufacturing expenses 8,000

Show room expenses 3,000

Depreciation 4,000

Insurance 16,000

Salaries 40,000

Office stationary 100

Bad debts 400

Accounting fees 14,000

Electricity 24,000

The following information is also relevant.

1. Stock at cost Jan 1, 2006 Dec 31, 2006

Raw materials 16, 000 12,000

Finished goods 20,000 24,000

Work in progress 6,000 8,000

Other balances

Accrued salaries 5,000 10,000

Prepaid electricity 4,000 6,000

2. The following overheads should be apportioned as follows

Factory Head office Sales department

Insurance 20% 60% ¼

Electricity ½ ¼ ¼

Salaries 20% 40% 40%

Depreciation- Factory equipment 1, 000,000

- Office building 1,000,000

- Delivery van 2,000,000

3. The company transfers manufactured goods at cost plus a markup of 10% to cater for factory

profit. Accounting finished goods are inflated by the same percentage.

Required: Prepare CHOGM LTD manufacturing, trading and profit and loss account for the

year ended d December 31, 2006.5

QUESTION FOUR

a) Briefly explain the purpose of bank reconciliation (2marks)

b) The information below relates to GOOD NEWS TRADERS.

Extracts from the Bank Reconciliation Statement for GOOD NEWS for the month of July 2007

indicate the following:

Uncredited cheques: UGX

Cheque No. 004 1,000,000

Cheque No. 623 4,500,000

Unpresented cheques

Cheque No, 10 500,000

Cheque No. 12 2,500,000

CASH BOOK FOR THE MONTH OF AUGUST 2007

Dr Cr

Balance b/d 11,000,000 Cheque No. 20 800,000

Cheque No. 2515 1,000,000 Cheque No. 21 1,200,000

Cheque No. 1119 500,000 Cheque No. 22 2,000,000

Cheque No. 990 3,000,000 Cheque No. 23 600,000

Cheque No. 224 2,400,000 Cheque No. 24 200,000

Cash 900,000 Cheque No. 26 1,400,000

Cheque No. 414 1,800,000 Cheque No. 27 2,400,000

Cheque No. 666 700,000 Cheque No. 28 700,000

Cash 1,300,000 Cheque No. 30 1,800,000

Cheque No. 804 2,100,000 Standing Order - UBL 900,000

Cheque No. 707 3,400,000

Cheque No. 31 1,300,000

Credit Memo – Pamela 900,000 Balance c/d 18,300,000

30,300,000 30,300,000

BANK STATEMENT FOR AUGUST 2007

DETAILS DR CR BALANCE

Balance b/d 8,500,000

Cheque No. 22 2,000,000 6,500,000

24 200,000 6,300,000

623 4,500,000 10,800,000

990 3,000,000 13,800,000

Credit Memo – Pamela 900,000 14,700,000

ChequeNo. 21 2,100,000 12,600,000

12 2,500,000 10,100,000

20 800,000 9,300,000

2515 1,000,000 10,300,000

1119 500,000 10,800,000

Standing Order – MCHOICE 900,000 9,900,000

Cheque No. 224 4,200,000 14,100,000

Cash 900,000 15,000,000

Cheque No. 26 1,400,000 13,600,000

27 2,400,000 11,200,000

6001 5,000,000 16,200,000

414 1,800,000 18,000,000

804 2,100,000 15,900,000

31 3,100,000 12,800,000

Credit Memo –Jamila 1,300,000 14,100,000

Cheque No. 28 700,000 13,400,000

Ledger fee 500,000 13,350,000

Dividend 1,500,000 14,850,000

Additional information:

i) Where the figures in the cash book and the bank statement differ the mistakes were made in

the cash book and the corresponding double entries. Assume the cheques are from credit

customers or paid to credit suppliers.

ii) Cheque No. 31 and 804 were entered on the wrong side of the cash book and bank

statement respectively.

Required:

In respect of the books of GOOD NEWS TRADERS

(i) Prepare an updated cash book for the month of August 2007 after receipt of the

Bank statement (9 marks)

(ii) Prepare the bank reconciliation statement as at 31.8 2007

(9 marks)

QUESTION FIVE

a) With relevant examples, distinguish between capital and revenue expenditure

(5 marks)

b) The following information relates to Motor vehicles On January 1, 2002 the company had

only one Range Rover number UAA 1123 Z and its details are shown in the Balance

sheet as at that date as follows.

Cost Accumulated depreciation Net book value

Motor vehicles 52,000,000 32,000,000 20,000,000

Other relevant information includes:

The company bought a Tpyata Corona number UAE 1544 A on April1, 2002 at UGX 2, 000,000

On June 4, 2003, The Company bought another car, A Hammer number ‘KIWEDDE 001” at

UGX 3, 000,000. The third car a Benz M class number UAJ 1222X was bought at UGX

4,000,000 on September 30, 2004. The Toyota Corona was disposed off on October 5, 2004 for

UGX 1, 200,000 and the Hammer car was disposed off on October 1, 2005 for UGX 1,800,000

All motor vehicles are expected to last for 10 years at the end of which, they will have Zero scrap

value. It is the company’s policy to charge full year’s depreciation in the year of acquisition and

none in the year of disposal using the straight line method. All payments are by cash.

Required: Show how the following accounts will appear at December 31, 2005

i) Motor vehicles (5 marks)

ii) Disposal of motor vehicles account (5 marks)

iii) Accumulated Depreciation on motor vehicles account (5 marks)

SECTION C: Select only one question from this section. Be concise and precise

QUESTION SIX:

a) Explain the stages that accounting go through to prepare final accounts at the end d

of a financial year ( 10 marks)

b) Explain the parties that would be interested in these final accounts clearly explaining

how hey would be of help to them (8 marks)

c) Distinguish between a sale and disposal of non current assets (2 marks)

QUESTION SEVEN:

a) Your are a Head of DAVID INVESTMENT LTD , a company that was engaged to

manage the pre- CHOGM construction work . You have been tasked by the Public

accounts committee to present evidence of proper utilization of resources. Giving

examples, explain the ways through which you would perform the task. (10 marks)

b) Write short but concise notes about each of the following accounts concepts.

(i) Going concern concept

(ii) Business entity concept

(iii) Accruals concept

(iv)Monetary concept

(v) Matching concept

(2 marks each concep0t x 5 concepts = 10 marks)

End

QUESTION ONE

Select the best alternative. Answer all sub- parts of this section on your answer sheets NOT o n

the question paper.

i) Which accounting concept requires the practice of crediting inventory to the trading account?

a) Conservatism

b) Consistency

c) Matching

d) Going concern

e) None of the above

ii) Which of the following concepts recognizes income when a customer has accepted the good

or services and is obliged to pay for the items?

a) Accrual

b) Matching

c) Realization

d) Produce

e) None of the above

iii) Mina started business with Shs. 24,000,000 cash. She acquired a bank loan of Shs 16,000,000

which she deposited to a newly opened business bank account. She purchased stock of goods

worth shs. 14, 000,000 on credit sold ½ of the goods to Jamal at shs 9,000,000 on credit. She

bought and received shs 7,000,000 from debtors through the bank.

Which of the following accounting equations is a correct record of the above?

Asset = Liabilities + Owner’s Equity

a) 51,000,000 = 14,000,0000 + 37,000,000

b) 56,000,000 = 14,000,00 + 42,000,000

c) 52,000,000 = 10,000,000 +42,000,000

d) 50,000,000 = 10,000,00 + 40,000,000

e) None of the above.

iv) Which of the following is a correct sequence in an Accounting cycle/process

a) Journals – documents- ledgers – trial balance – final accounts

b) Documents – journals- ledgers – trial balance – final accounts.

c) Trial balance – final accounts – ledgers- journals – documents

d) Ledgers- journals – documents – trial balance – final accounts

e) None of the above.

v) The following are books of original entry except

a) Worksheet

b) General journal

c) Cashbook

d) Returns inwards book

e) None of the above

vi) Rental income received during the year amounted to 650,000=. Outstanding rental income as

at 31/12/2007 amounted to Shs. 70,000. The amount to be charged to the P and L a/c is?

a) 880,000Cr

b) 720,000Dr

c) 580,000Dr

d) 720,000Cr

e) None of the above

vii) What is the accounting treatment for a decrease in the provision for bad debts?

a) Dr. Income Statement Cr. Accounts Receivables

b) Dr. Bad Debts Cr. Income Statement

c) Dr. Provision of Bad Debts Cr. Income Statement

d) Dr Bad Debts Cr. Provision of Bad Sheet

e) None of the above

viii) Accelerated methods of depreciation are used because:

a) Assets are less productive in the early years of their economic life

b) Of the legal requirements

c) Of the need to pay more tax earlier than later

d) They are easy

e) None of the above

ix) Income received in advance is shown as ………….in the balance sheet.

a) An asset

b) A liability

c) Owners equity

d) Income of the above

e) None of the above

x) Which of the following statements most accurately describes a balance sheet?

a) A list of receipts and payments and showing a balance at the end

b) A statement that shows net worth of the organization

c) A list of assets and claims against the organization

d) A statement of total Equity and Liabilities

e) None of the above

QUESTION TWO

The following were the transactions of Majumoto Ltd for the month of January 2008

1st Jan Majumoto limited started business with cash of UGX 20,000,000 and money at the bank

of UGX 30, 000,000

3rd Jan purchased goods for UGX 6,000,000 cash

6th Jan Bought a Motor vehicle for UGX 10,500,000 by cheque

7th Jan Sold goods for UGX 3,000,000 cash.

15th Jan purchased more goods on credit from TK Ltd worth UGX 5,000,000.

20th Jan obtained a Bank loan of UGX 30,000,000 cash.

23rd Jan Sold goods for UGX 2, 000,000 on credit to Mary

25th Jan Mary paid UGX 800,000 cash.

26th Jan goods on credit to Peter for UGX 1,000,000.

29 Jan Purchased goods from John on credit for UGX 3,000,000.

Required

a) Enter above transactions in the company’s General Journals

b) Post the transactions to the relevant ledgers

c) Extract a Trial Balance

Note: Test II will be on Labour Day- 1st May, 2008:- 08.00am – 09.00am

QUESTION ONE

Choose the most appropriate answer

(i) ABC Ltd paid rent expenses worth UGX 36,000,00 on 1st July 2005 covering a

period up to 3oth June 2006. which of the following is the correct adjusting entry for

rent expense relating to the financial year ended 31/12/2005?

a) Dr. Rent expense UGX 18,000,000, Cr, Prepaid rent UGX 36,000,000

b) Dr. Prepaid rent UGX 18,000,000, Cr, Rent expense UGX 18,000,000

c) Dr. P and L UGX 36,000,000, Cr. Prepaid rent UGX 36,000,000

d) Dr. Prepaid rent UGX 24,000,000, Cr. P and L UGX 24,000,00

(ii) The surplus of assets over liabilities is termed as

a) Net profit

b) Excess of income over expenditure

c) Capital

d) Working capital

Use the information below to answer questions between iii and v. Computer Ltd bought a

computer on 1st January 2002 for use in business at a cost of UGX 10,000,000. The

Company’s policy was to depreciate the computer at a rate of 20% per annum on cost. On

31/12/2006, the company decided to dispose off the computer at UGX 6,000,000 since its CPU

capacity couldn’t cope up with the volume of work.

(iii) What was the accumulated depreciation by December 31, 2006?

a) UGX 4,000,0000

b) UGX 5,000,000

c) UGX 6,000,000

d) UGX 1000,000

(iv) What was the gain or loss on disposal?

a) UGX 10,000,000

b) UGX

c) UGX00,000

d) UGX 4,000,000

(v) What was the gain or loss on disposal?

a) Loss of UGX 4,000,000

b) Gain of UGX 6,000,000

c) Gain of UGX 4,800,000

d) Gain of UGX 16,000,000

(vi)Which of the following is a mismatch?

a) Accounts receivable

b) Insurance paid in advance

c) Commission fees receivable

d) Un earned incomes

(vii) Which of the following concepts requires debiting of accrued rent to the income

statement?

a) Matching concept

b) Materiality concept

c) Periodicity concept

Additional information

a) Stock loss worth 900,000 was omitted

b) Rent income from Paul Scores & Co. Ltd amounting to UGX 100,000 per month accrued.

c) Depreciate Furniture & Fittings and Motor vehicles at 5% and 20% respectively using

reducing balance method.

d) Interest on Loan is outstanding

e) The allowances for bad debts is to be adjusted to 10% of trade debtors

f) Insurance paid was for a period of 15 months

Required:

(i) Journal entries for adjusting information (qa) – (f) (6 marks)

(ii) Prepare the company’s income statement for the year ended 31/12/2006 and the Balance

sheet as at that date. (12 marks)

ACCOUNTING EQUATION.

c) With 3 examples in each case, explain the three elements of the accounting equation

d) On 1st January 2006, Maama Nalango started her small business of selling ladies’

Garments around the small gate of Makerere University Business School. She started

with cash of UGX 5,000,000 at hand and cash at bank of UGX 10,000,000

Jan 2. Purchased stock for UGX 3,000,000, paying 60% cash and 40% on credit. Sold 2/3 of

the goods at UGX 2,500,000 on credit

Jan 3. Paid rent UGX 100,000 cash

Jan 10. Received cash payment of UGX 2,000,000 from debtors and paid UGX 1,000,000

cash to suppliers.

Jan 15. Bought motor vehicle for UGX 6,000,000, paid UGX 2,000,000 by cheque, UGX

1,000,000 cash and promised to pay the balance later.

Jan 20. Sold ½ of the remaining stock of goods for UGX 700,000 collecting cash of

UGX 200,000 immediately and the balance to be received later.

Jan 25. Paid electricity UGX 200,000 by cheque

Jan29. Used business cash of UGX 200,000 to buy a trouser for her husband

Jan 31. Acquired a loan of UGX 4,000,000 from a cousin brother to be repaid in two year’s

time. It was deposited on the business bank account.

Required

Construct accounting equations for each of the above transactions and at the end, come up

with an elementary balance sheet.

(14 marks)

QUESTION FOUR

Technology Business solution Ltd is a secretarial company with many computers. The company

has a policy of selling its computers which have declined in their economic potential during year.

On 31/12/2001, the company had the following balances as regards its computers: -

UGX’ 000

d) Objectivity

viii. The businessman uses the term capital, what can be used by the treasurer of the club to mean

the same things?

a) Sales day book

b) Profit & loss account

c) Three column cash book

d) Petty cash book

ix. Which of the following errors affect the trail balance?

a) Casting error

b) Error of omission

c) Error of complete reversal of entries

d) Error of commission

x. What is accounting treatment of the increase in the provision for bad and doubtful debts?

a) Dr. debtors, Cr. Bad debts

b) Dr. bad debts, Cr, provision for bad debts

c) Dr. P&L, Cr. Trading account

d) Dr. provision account, Cr. Income statement (1 mark @part)

QUESTION TWO

Irish Kyebandula Ltd is a trading company dealing in general merchandise. It also rents out part

of its premises to Paul Scores & Co. Ltd. The following is its Trial balance for the period ended

31/12/2006

Account Titles Dr. UGX. 000 Cr. UGX. 000

Furniture & Fittings, cost 50,000

Motor Vehicles, cost 20,000

Gross Sales revenue 140,000

Cost of sales 126,900

Sales returns 6,000

Insurance 3,000

Wages & Salaries 4,000

Bade debts written off 1,100

Allowance for bad debts 1,000

Ordinary share capital 62,000

Office expenses 1,100

Trade debtors & creditors 6,000 4,000

Fuel 6,100

Cash in hand & at Bank 5,200 200

Commission received 1,200

20% Bank loan 5,000

Accumulated depreciation

Furniture & Fittings 5,000

Motor & Vehicles 8,000

Rent from Paul Scores 3,000

Totals 229,400 229,400

The trial balance extracted from the books of Seven – to Eleven Supermarkets at December 31,

1995 was as follows:

DR Cr

Cash 415,400

Accounts receivable 464,780

Provision for bad debts 22,500

Inventory, Jan 1, 1995 1,875,000

Prepaid rates 123,800

Office equipment 154,000

Acc. Depreciation – Office equipment 60,200

Vehicles 458,000

Acc. Depreciation – Vehicles 144,500

Buildings 2,450,000

Acc. Depreciation- Buildings 810,000

Land 500,000

Accounts payable 1,300,000

Notes payable 200,000

Capital 2,000,000

Retained earnings 983,780

Dividends 300,000

Sales 19,215,000

Sales discounts 84,800

Purchases 14,973,000

Purchase returns & allowances 27,200

Purchase discounts 44,800

Transportation –in 224,200

Salaries and wages 1,112,000

Office expenses 400,000

Advertising expenses 360,000

Communication expenses 598,000

Utilities expenses 300,000

Interest expenses 15,000 24,807,980 24,807,980

Further information:

a) Inventory at December 31.1995 was worthy Shs. 1,830,000

b) Of the prepaid rates, three quarters had expired during the year.

c) Shs. 38,500 of the outstanding receivables are estimated to be bad.

d) Depreciate Shs. 11,680 on Office equipment, Shs. 92,000 on Vehicles, and Shs 50,000 on

buildings.

e) The following liabilities to be accrued

Shs. 14, 900 on communication

Shs. 5m 280 on utilities

Shs. 2,500 on interest

REQUIRED

Prepare adjusting entries, a Profit and Loss account, and a Balance sheet.

QUESTION 2

Tray Enterprises acquired machines and furniture at Shs. 640,000 and Shs. 128,000 on January, 1

1993 respectively. Office machines have useful life of 5 years and salvage value of Shs. 8,000.

Furniture has useful life of 4 years and no salvage value.

The company has used the straight line method to calculate depreciation and the net incomes

reported for the years 1993, 1994 and 1995 were Shs. 148,000, Shs. 157,750, and Shs. 159,350

respectively.

REQUIRED:

a) Show how Office machines and Furniture would appear in the Balance Sheet of Tray

Enterprises at the end of each of the three years.

b) Recomputed the net incomes for each of the three years if the sum- of – year’s digits

method of depreciation had been used instead of the straight line method.

QUESTION 3

Write brief notes on each of the following:

a) Perpetual inventory system

b) Capital and Revenue expenditure

c) Income statement approach of estimating allowance for doubtful debts

d) Principle of consistency

e) Cost of an asset

QUESTION 4

Selected data below is from the books of Fang Fung at December 31, 1995:

SHS

Raw materials inventory Jan 1, 1995 750,000

Raw materials inventory Dec. 31, 1995 600,000

Work in process Jan. 1, 1995 450,000

Work in process Dec. 31, 1995 300,000

Finished goods Jan. 1, 1995 1,500,000

Finished goods Dec, 31, 1995 1,200,000

Direct labour 900,000

Indirect labour 450,000

Utilities 375,000

Depreciation 210,000

Purchase of raw materials 1,350,000

Net sales 6,000,000

Administrative expenses 380,000

Selling expenses 270,000

30% of depreciation is for office machines and a 1/5th of utilities is for office use. The rest are

attributed to the factory.

REQUIRED:

Prepare a cost of goods manufactured statement and in income statement for Fang Fung for the

year ended December 31, 1995.

QUESTION 5

The Supermatch company reconciled its cash book bank statement balances on July 31,

1996 with only two cheques No. 706 for Shs. 1, 420 and No. 717 for Shs, 2, 750

Unpresented to the bank.

The following information is available for the month of August, 1996.

(i) From the Bank

Date Cheques and other Debits Deposits Balance

Aug,1 Balance b/f 19,120

2 2,750 16,370

3 2,180 3,120 17,310

5 3,020 14,290

9 7,370 6,920

12 750 1,320 4,850

14 5,510 10,360

18 2,840 7,520

21 5,510 12,640

28 3,430 4,720 13,930

29 430 (NSF) 13,500

31 30 (LF) 9,950(CM) 23,420

Code: CM Credit Memo DM Debit Memo LF Ledger fee NSF No sufficient funds

(ii) From the (iii) From the

Cash Receipts Journal Cash Payment Journal

Date. Shs. Cheque Shs.

Aug, 2 3,120 718 2,180

13 5,510 719 3,200

20 5,120 720 750

27 4,720 721 7,370

31 2,470 722 1,320

Total 20,940 723 1,360

724 2,840

725 3,430

726 530

Total 22,980

(iv) From the General Ledger

Date Particulars DR CR Balance

July 31Balance b/f 14,950

Aug. 31 Cash Receipts Journal 20,940 35,890

31 Cash Payments Journal 22,980 12,910

Other5 information:

(i) Cheque No. 719 was correctly drawn for Shs. 3,020 in payment for stationary

but the bookkeeper transposed the figures and entered it as Shs. 3,200 in the

Cash Payments Journal.

(ii) The NSF cheque was received from a customer in settlement of his account.

(iii) The credit memo resulted from a Shs. 100, 000 note receivable, collected by

the Bank on the company’s behalf. The Bank deducted Shs. 50 as collection

fee.

REQUIRED:

(a) Prepare the August 31, Bank Reconciliation

(b) Prepare in general journal form entries needed to adjust the company’s cash records.

QUESTION 6

Auto sport Inc. deals in values. For the month of June, 1996, the sales were Shs. 3,680, 000 at a

stable price of Shs. 1,150 per value. The purchases for the month were as follows:

Date No. of Units Unit Cost

Balance May 31 900 1,000

June 3 1,180 1,020

7 800 1,035

15 620 1,070

22 1,000 1,085

The operating expenses for the month were as follows

Salaries and wages Shs. 56,000

Selling expenses 85,000

Administrative expenses 60,000

REQUIRED:

a) Computer end of June inventory cost using FIFO, LIFO, and Average cost.

b) Prepare income statements for the month of June, 1996 in comparative form.

c) Which method gives the most realistic Balance Sheet inventory value in light

current replacement cost. And which method gives the most realistic income in light

of the cost being incurred by Auto Sport to replace the valves when they are sold?

1) The following trial balance was extracted from the books of Bipel Ltd as at 31 December,

1992.

Dr Cr

Shs. Shs.

Cash 759,000

Accounts receivable 330,000

Patents 650,000

Allowance for bad debts 60,000

Inventory 1.1. 1992 384,000

Prepaid rent 180,000

Office suppliers 210,000

Equipment at cost 1,500,000

Accumulated depreciation-

Equipment 300,000

Accounts payable 240,000

Unearned consulting fees 270,000

Ordinary share capital 2,580,000

Dividends paid 546,000

Retained earnings 585,000

Sales 2,286,000

Sales discounts 90,000

Sales returns and allowances 120,000

Purchases 1,200,000

Purchase discounts 54,000

Purchase returns and allowance 390,000

Carriage inwards 270,000

Consulting fees revenues 219, 000

Office expenses 123,000

Salaries & wages expense 159,000

Delivery expense 381,000

Bade debt expense 63,000

Electricity expense 15,000

6,984,000 6,984,000

Information for Adjustments

a) A physical count revealed inventory worthy Shs. 255, 000 was still on hand at 31

December, 1992.

b) Of the rent prepared, one half has expired during the year.

c) Included in salaries and wages expense is advance payment of Shs. 33,000 relating to

1993.

d) Of the unearned consulting fees, Shes. 116, 000 has been earned during 1992. ]

e) Shs. 145,000 of the office suppliers remain on hand at 31 December, 1992.

f) One percent of the NET sales is expected to become bad debts

g) Annual depreciation on equipment is computed at 10% of cost.

h) The electricity bill for the last quarter of 1992 of Shs. 5,000 has to be accrued.

REQUIRED:

(i) Prepare journal entries for all the adjustments (No. narrations)

(ii) Prepare an income statement and a Balance Sheet after taking into account all the above.

Question 2. (15 marks)

a) What is meant by “internal control”?

b) Describe four measures for cash in the bank that can be instituted to achieve internal

control over cash.

Section B: (All question carry equal marks

Question 3

On April 01, 1993, the entire merchandising inventory of Kaluum & Co. was destroyed by fire.

The company’s records were however saved. The company does not maintain perpetual

inventory records and the last physical inventory count was made on 31 December , 1992.

The company has to make an estimate of the inventory value destroyed by fire in order to

file an insurance claim, and the chief accountant assigns you to do so. You are provided with

the following income statement and other information.

Kaluuma & Co.

Income Statement

For the year ended 31 December, 1992

Shs. Shs.

Net Sale 480,000

Cost of goods sold:

Inventory 1.1.1992 288,000

Purchases 1,040,000

Cost of goods available 1,328,000

Less Inventory 31.12.1992 26,000

Cost of goods sold 1,002,000

Gross Profit 478,000

Sundry operating expenses 298,000

Bet Income 180,000

You discover that the purchase figure above includes Shs. 25,200 of furniture bought by the

company for use in the business erroneously recorded by the book- keeper. This error was not

discovered when preparing the annual accounts, and is not included in ending inventory.

The saved records also show the following transactions for the period 1.1. 1993 to the date of the

fire.

Shs.

Sales 612, 000

Sales returns 5,400

Transportation- in 3,600

Purchases 392,400

Purchase discounts 7,200

REQUIRED:

a) Prepare a brief report to file to the insurance company supported by computation of the

estimated inventory loss using the gross profit method.

b) A part from a loss caused by natural hazards e.g. fire, explain two (2) other instances

where the gross profit method of estimating inventory may be used by Accounts.

QUESTION 4

The net incomes of TDK Ltd for 1989, 1990 and 1991 were Shs. 118,400 Shs. 126, 200 and Shs.

127, 480 respectively. The company acquired two machines on 1.1. 1989. Machine A cost Shs.

102,400 with salvage value of Shs. 16,000 and estimated useful life of five years. Machine B

cost Shs. 52,000 with salvages value of Shs, 4,000 and d estimated useful life of four years.

The policy of the company is to change depreciation on machinery in the year of purchase but

none in the year of sale.

On March 01, 1992, Machine A was sold for Shs. 45,000. It has now been found that the wrong

method was used for depreciation of machines. The straight line method has been used, but the

correct method would have been the double declaiming balance method.

REQUIRED:

a) Recomputed the net incomes of 1989, 1990 and 1991 if the correct depreciation method

had been used.

b) Computer the gain or loss on disposal of Machine A.

c) Show how the Machinery Account, and related accumulated depreciation will appear

in the Balance Sheet of TDK Ltd as at 31 December, 1992.

QUESTION 5

Texo Co., a manufacturing company in Down Kampala has for its year ended 31 December 1992

the following trading and operational results.

a) Movement of stocks during the year:

1/1/92 31/12/92

Shs Shs.

Raw Materials 195,800 215,300

Work – in- Progress 265,700 192,450

Finished Goods 438,220 81,000

b) Purchase of Raw Materials Shs. 2, 075,440

Carriage in 240,000

Sales 8,806,050

c) Costs and expenses during the year

Shs

Direct Wages 784,280

Indirect wages 403,100

Electricity 824,440

Rent and Rates 235,000

Advertising 793,070

Administrative expenses 679,480

Depreciation: Plant & Machinery 36,320

Delivery Vans 30,100

d) It is the company’s policy to transfer the cost of goods manufactured to the trading

account at cost plus 20%. Consequently, based on the opening stock of finished goods,

the provision for unrealized profit as at 1/1/1992 stood at Shs. 87, 644.

e) Electricity, Rent and Rates are to be apportioned between factory and office in the

ratio 3:1

REQUIRED:

a) Prepare a manufacturing statement for Texo Co. for the year ended 31 December 1992

b) Prepare a Trading Profit and loss statement for the company for the year ended 31

December, 1992.

QUESTION 6

The manager of the Association Libraries submits the following Receipts and Payments

Accounts and other information to you for the year ended 31 December, 1992.

Receipts Shs. Payments Shs.

Balance b/d 115,900 Staff salaries 925,000

Annual subscriptions 1,640,000 Gross- cutter’s wages 12,500

Sales of diaries 30,000 Utilities 90,000

Donations for building 250,000 Stationary 115,000

Extension of building 325,000

Printing of dairies 14,500

Repairing of furniture 21,000

Annual prizes 60,000

Balance c/d 247,900

2,035,900 2,035,900

Relevant information:

a) Subscriptions include Shs. 225,000 respecti8vely arrears for 1991. Subscriptions for 1992

amounting to Shs. 72,500 is still outstanding.

b) An amount of Shs. 5,000 is owing to the printers of the diaries.

c) Staff salaries include Shs. 125,000 advance for 1993

d) Furniture and equipment should be depreciated at the rate of 5% and 10% respectively.

e) On January 01, 1992, the library had the following fixed assets

Shs.

Buildings 2,900,000

Furniture 600,000

Library 740,000

Equipment 250,000

REQUIRED:

a) Calculate the accumulated fund of the Association Libraries as at January 01 1992.

b) Prepare an Income and Expenditure Account for the year ended 31 December 1992 and a

Balance Sheet as at that date. Profit from the sale of diaries should be shown separately.

Section A (This section has Two questions, attempt BOTH questions)

Question 1

Answer all sub-parts of this question in your answer booklets NOT on the question paper. Select the best alternative.

i).Which accounting concept requires the practice of crediting inventory to the trading account?

a). Conservatism

b). Consistency

c). Matching

d). Going concern

e). None of the above

ii). which of the following concepts recognizes income when a customer has accepted the good or services and is obliged to pay

for the items?

a) Accrual

b) Matching

c) Realization

d) Prudence

e) None of the above.

iii). Mina started business with shs. 24,000,000,000 cash. She acquired a bank loan of Shs 16,000,000,000 which she deposited to

a newly opened business bank account. She purchased stock of goods worth shs. 14,000,000,000 on credit. She sold 1/2 of the

goods to Jamal at shs 9,000,000,000 on credit. She received shs 7,000,000,000 from debtors through the bank.

Which of the following accounting equations is a correct record of the above?

Asset = Liabilities + Owner's Equity

a). 51,000,000,000 = 14,000,000,000 + 37,000,000,000

b). 56,000,000,000 = 14,000,000,000 + 42,000,000,000

c). 52,000,000,000 = 10,000,000,000 + 42,000,000,000

d). 50,000,000,000 = 10,000,000,000 + 40,000,000,000

e). None of the above

vi). Which of the following is a correct sequence in an Accounting cycle/ process

(a) Journals - documents - ledgers - trial balance - final accounts

(b) Documents - journals - ledgers - trial balance - final accounts

(c) Trial balance - final accounts - ledgers - journals - documents

(d) Ledgers - journals - documents - trial balance - final accounts

(e) None of the above,

v). The following are books of original entry except:

(a). Worksheet

(b). General journal

(c). Cashbook

(d). Returns inwards book

(e). None of the above.

vi) Rental income received during the year amounted to 650,000,000=. Outstanding rental income as at 31/12/2007 amounted to

Shs.70, 000,000. The amount to be charged to the P & L a/c is?

(a). 580.000.000 Cr.

(b). 720,000,000 Dr

(c). 580,000,000 Dr

(d). 720,000,000Cr .

(e). None of the above

Vii) What is the accounting treatment for a decrease in the provision for bad debts?

a) Dr, Income Statement Cr. Accounts Receivables

b) Dr. Bad Debts Cr. Income Statement

c) Dr. Provision for Bad Debts Cr. Income Statement

d) Dr. Bad Debts Cr. Provision for Bad debts

e) None of the above

(vii) Accelerated methods of depreciation are used because:

a). assets are less productive in the early years of their economic life

b). of the legal requirements

c). of the need to pay more tax earlier than later

d). they are easy

e). none of the above

Income received in advance is shown as....................in the balance sheet

a) . an asset

b). a liability

c). owners equity

d). income receivable

e). none of the above

Which of the following statements most accurately describes a balance sheet?

a) A list of receipts and payments and showing a balance at the end

b) A statement that shows net worth of the organization

c) A list of assets and claims against the organization

d) A statement of total Equity and Liabilities

e) None of the above

QUESTION 2

The following Trial Balance extracted from the ledger accounts of New Designs Ltd. For the financial year ended 31/12/2007.

Account Title Debit (shs) Credit (shs)

Ordinary shares 200,000,000

Preference shares 100,000,000

Plant and Machinery, cost 200,000,000

Motor vehicle, cost 160,000,000

xi).

x).

Land 140,000,000

Accumulated Depr (1/1/2007)

Plant and Machinery 60,000,000

Motor Vehicle, cost 32,000,000

Trade debtor 60,000,000

Trade Creditors 30,000,000

Cash 10,000,000

Bank 70,000,000

Stock (/1/2007) 9,200,000

General Expenses 20,000,000

Advertising Expenses 4,000,000

Sales 600,000,000

Returns 8, 000,000 6,000,000

Bad Debts Expenses 5, 000,000

Purchase 320,000,000

Discounts 1,000,000 3,000,000

Carriage inwards 5,000,000

Salaries expenses 20,000,000

Fuel expenses 4,000,000

Insurance expenses 800,000

Provision foe bad debts 6,000,000

Totals 1,037,000,000 1,037,000,000

Additional information

i. Stock at 31/12/2007 was valued at shs 16,000,000= on FIFO basis.

ii. Depreciation on plant and machinery and motor vehicle is at 15% and 10% per annum respectively.

iii. The provision for bad debts is to be increased to shs. 9,000,000=

iv. ¼ of insurance paid relates to the financial year commencing on 1/1/2008

v. Included among the general expense is tuition fees and pocket money amounting to shs. 2,000,000= of the general

niece, who is not an employee of New Designs Ltd.

REQUIRED

(a) Journalize information mentioned in (i) to (vi) above (6 marks)

(b) prepare the income statement and the balance sheet for the ye ar. (14 marks)

Section B (this section has Three Questions, attempt any two questions )

QUESTION 3

Kadu Mukasa is an inexperienced bookkeeper for New Designs Ltd and needs assistance to complete the current account bank

reconciliation for the month of November 2007. He has provided the following information.

On 31 Nov 2007, the bank Colum of the cashbook showed a debit balance of shs 692,000. The bank statement on the same

date showed a credit balance of shs 740,000. A comparison of the cashbook and the bank statement for 2007 reveals the

following:

i. The bank made a direct debt of shs 30,000 for a magazine subscription on 3rd Nov 2007.

ii. A loan repayment of shs 180,000 was paid by a standing order on 15 Nov 2007.

iii. Bank charges of shs 10,800 and loan interest of shs 24,000 were charged to the account on 31 Nov 2007.

iv. Cheques totaling shs 163,600 paid into the bank in Nov had not been credited to the account on 30 Nov 2007.

v. On Nov 4, a credit transfer of shs 290,000 was received from a

customer, NK. Stephens.

vi. A cheque from M. Makumbi for shs 276,000 banked on 29 Nov 2007 was returned unpaid

on 30 Nov2007.

vii. Cheques drawn on 27 Nov 2007 totaling shs 335,400 had not yet been presented to the

bank.

viii. A cheque entered in the cashbook as credit of shs 152,800 should have been for shs 125,800.

ix. Kaka supplies Ltd was paid cheque for shs 80,000 but returned it on 25 Nov 2007, unpaid.

Required:

a. Reconcile the balances of the cash book with that of the bank statement (16 marks)

b. State four reasons why the cashbook balance most often differs from the bank statement

balance as at that date (4 marks).

QUESTION 4

a. With examples distinguish between a direct cost and an overhead cost. (4 marks)

b) The following data was obtained from the books of BBC Soda manufacturing Ltd. as at

31.12.2007.

Particulars Amount

Raw materials purchases 250,000,000

Indirect Material 15,000,000

Carriage on material 2,500,000

Direct Labour Cost 400,000,000

Raw material Returns 4,000,000

Carriage outwards. 35,000,000

Other overhead 140,000,000

Lighting, 30,000,000

Power for Production Machines 150,000,000

Indirect/labour cost 40,000,000

Office salaries 13,000,000

Administration expenses 120,000,000

Sales 2,150,000,000

Advertising 4,500,000

Bad debts provision 15,000,000

Directors remuneration 60,000,000

Bank charges 1,000,000

Delivery van expenses 8,000,000

Discount allowed 18,000,000

Depreciation: Plant & machine 6,000,000

Office Equipment 4,000,000

Delivery Van 2,000,000

The following additional information was provided:

1. Stocks 1.1.2007 31.12. 2007

Raw materials 45,000,000 30,000,000

W.I.P 30,000,000 15,000,000

Finished Goods 15,000,000 18,000,000

2. Power for production machines included a prepaid figure of shs 100,000,000.

3. Lighting was apportioned as follows; factory ¼ Office ¾

4. 60% of other overheads relates to the factory while the balance to the office

5. Bad debts provision should be increased by shs 2,000,000=

6. Advertising expense of Shs 500,000 accrued,

7. Directors remuneration was analyzed as follows:-

Production Director 35,000,000

Sales Director 25,000,000

8. Manufacturing goods are transferred at factory cost plus a mark up of 20% to cater for factory.

Accordingly, finished goods are inflated by that percentage.

Required

Prepare a Manufacturing, Trading and Profit and Loss account for the year end 31.12.2007 (16

marks).

QUESTION 5

a). The following information was extracted from New Furniture’s Ltd. Concerning office furniture.

The company's financial year runs from 1st January to 31st December. Five (5) furniture items were

bought on 1/01/2000 for Shs. 10,000,000. Six (6) Additional furniture were bought on 1/03/2001 for

Shs. 6,000,000.

Each furniture item is expected to last for 10 years at the end of which is expected to sell scrap value

of Shs. 200,000. However on 31/12/2003, to (2) furniture items that were purchased on

1/03/2001were disposed off for Shs. 100,000 each. All transactions were by cash. It is the company's

policy full depreciation in the year of purchase and none in the year of disposal.

REQUIRED:

Prepare the following Accounts using straight line method of depreciation

i). Furniture A/C

ii). Accumulated Depreciation A/C

iii). Disposal of furniture A/C (l0 marks)

b). The Bookkeeper of New Designs Ltd prepared a trial balance for the year ended 30 June 2003

but it failed to balance. The debit side was less than the credit side by Shs. 900,000, since he was on

pressure to submit final accounts; he opened a suspense account and proceeded to prepare final

accounts. During July 2003, he identified the following errors which had been in the year ended

30/06/2003.

1. Painting of buildings for Shs. 2,000,000 was properly recorded in the cash book but was

not debited to the buildings account,

2. Cash of Shs. 200,000 which was used to purchase a gift for his sugar Mummy on Valentine's

Day was credited to the cash book but was not debited to the other account.

3. Payment to Nyakato for Shs. 300,000 was properly entered into the cashbook but posted to

Nakato's account.

4. Bank charges of Shs. 100,000 were not recorded in the cashbook.

5. A credit purchase of Shs. 500,000 from Jose was credited as Shs. 300^000 in the purchases

account and credited to the Jose's account with the correct amount.

6. Sales and accounts receivables were each under set by Shs. 50,000.

REQUIRED:

i). Journal entries to correct the above errors (6 marks)

ii). Suspense Account (4 marks)

Section C (This section has Two Questions, attempt only one question)

QUESTION 6

a) Distinguish between accounts for profit making organizations and those of non profit

making organizations (10 marks)

(b) Using examples distinguish between accounting treatment for life subscriptions and

annual subscriptions in non profit making firms (6 marks)

(c) Explain briefly the purpose of suspense accounts organizations.

(4 marks)

QUESTION 7

(a) What are control accounts and why are they important in an organizations internal control

system. (5 marks)

(b) Briefly described the accounting cycle clearly mentioning the books of accounts or statement

prepared at each stage. (10 marks)

(c) Distinguish between Realization Concept and Accrual Concept? (5 marks)

1. Below is the Trial Balance extracted from the books of Sarasota and co. Ltd. a trading

company in hard ware as at 31st December , 1991.

Dr Cr

Cash/Bank 1,265,000

Accounts Receivable 550,000

Provision for Bad 100,000

12% treasury Bills 1,090,000

Inventory 1.1,1990 640,000

Prepaid- insurance 300,000

Office supplies 350,000

Equipment at cost

2,500,000

Accumulated depreciation –equipment 500,000

Motor vehicles 1,200,000

Accumulated depreciation-motor-vehicles 700,000

Accounts Payable 400,000

Capital 4,800,000

Dividends paid 910,000

Retained earnings 975,000

Sales 3,810,000

Sales discounts 150,000

Purchases 2,000,000

Sales returns and allowances 200,000

Purchase discounts 90,000

Purchase returns and allowance 650,000

Transportation-in 450,000

Miscellaneous revenue 815,000

Rent expense 205,000

Salaries expense 265,000

Bad debt expense 105,000

Delivery expense 405,000

Interest expense 25,000

Utilities expense 230,000

12,840,000 12,840,000

Further information was given as follows:-

(a) Inventory on hand at 31, 12-91 was valued at Shs.425, 000

(b) Of the insurance prepaid shs. 150,000has expired during the year.

(c) Of the rent expense, shs 55,000 relates to 1992.

(d) It was decided to increase the provision for bad debts to shs. 350,000.

(e) Shs. 265,000 of office supplies remained on hand at 31.12.91.

(f) Miscellaneous income earned but not received, neither the clients billed amounts

to shs.155, 000.

(g) Interest on treasury bills has accrued for one year, but not y et received.

(h) Of the utilities, shs 95,000 is outstanding on account of electricity and shs. 37,000

has accrued on account of telephone expenses.

(i) The annual depreciations is computed as 10% and 15% on equipment and, motor

vehicles respectively on the declining balance.

(j) The company paid on interim dividend on 30.6.91. a final dividend of shs.300,000

was proposed to be paid to the shareholders in January , 1992.

Required

(i) Give journal entries for al the adjustments ( narrations not …)

(ii) Prepare an income statement for the year ended 31 December 1991, a balance sheet as at

that date.

Q2. Answer any THREE (3) of the following:

(a) What is meant by the term “financial Statements” and what are their use?

(b) Distinguish between ‘adjusting entries’ and ‘closing entries’.

(c) Describe ant three (3) methods of valuing inventories.

(d) Give the distinction between the ‘matching principle’ and the ‘consistency principle’.

Section B (All questions carry equal marks)

Q3. The following data was obtained from the records .of Tooler.

Manufacturers as at 31 December, 1991.

shs

Raw materials 1.1.91

Raw materials 31-12.91

Work in progress 1.1.91

Work in progress 31, 12.91’

553,500,

606,300,

708,0052

1,700

Finished goods 1.1.91

Finished goods 31-12.91

Raw materials purchased

Sales (Set)

Factory wages:, Direct labour

Indirect labour

Electricity

Rent and rates

Administrative expenses

Selling' expenses

Carriage on purchased raw materials

524,000

644,500

1,930,000

6,018,000

507,000

60,000

171,000

162,000

310,000

560,000

48,300

Advertising

Depreciation: Plant and machinery Delivery vans Office equipment

Rent and rates, and electricity are to be apportioned Factory 2/3 rds; office 3rd,

Rent and rates, and electricity are to be apportioned Factory 2/3 rds; office 3rd,

Required

prepare a manufacturing statement, and an income statement..for the year ended 31 December,1 1991

Q4. The Balance Sheet of Ink Ltd contains the following as at 3l December, 1990:

Fixed assets:

Cost acc. Depreciation written Down value

Shs. Shs. Shs.

Vehicles (10 in number) 834,000 412,000 422,000

During 1991, the company had the following transactions regarding vehicles:

Purchases

Date type cost (shs)

15 April Lorry 230,000

19 July van 118,000

15 November Car 120,000

SALES

Date type date of purchase cost proceeds

Shs shs

252

30 April van 31 January 1989 98,000 33,000

23 June van 6 June 1987 64,00012,000

30 October car 31 December 112,000 38,000

29 December lorry 14 October 210,000 182,000

The company’s policy is to charge a full years depreciation in the ye are of purchase of a vehicle and

none in the year of disposal. Depreciations per vehicle as charged using a straight line method for a an

estimated useful life of five years and an estimated salvage value of shs. 6,000/=

Required

(a) Prepare:-

(i ) Vehicle account

(ii) accumulated depreciation – vehicle account

(iii) Disposal of vehicles account

(b) Show how the vehicles Account would appear in the balance sheet at 30th April, 1992.

Q5. Below is the bank reconciliation statement of Matata Traders as at 30th April, 1992.

MATATA TRADERS

BANK RECONCILIATION

30 APRIL 1992

Shs shs

Balance per cash bank 1,906,000

Deduct: bank charges 100

Interest on overdraft 1,200 1,300

Adjusted balance 1,904,700

253

Balance per bank statement 1,840,000

Add Deposit in transit 344,800

2,184,800

Deduct: outstanding cheques

No. 0442 98,600

No. 0446 103,000

No.0447 78,500

280,100

Adjusted balance 1,904,700

At the end of May, 1992, the company received the following statement from their bankers:-

DATE PARTICULARS DEBIT CREDIT BALANCE May

May 1 balance b/f 1,840,000 1,840,000

2 deposit 344,800 2,184,800

3 deposit 210,200 2,395,000

6 chq 0449 51,000 2,344,000

6 chq.0446 103,000 2,241,000

7 chq.0453 720,000 1,521,000

8 deposit 485,000 2,006,000

12 chq.0447 78,500 1,927,500

15 chq.0450 1,300,000 627,500

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15 ledger fee 2,000 625,500

18 deposit 112,800 738,300

19 chq. 0455 936,900 198, 6009(Dr)

22 chq 0448 36,000 235,100(Dr)

22 deposit 51,300 183,800(Dr)

25 deposit 538,800 355,000

28 cheq . 0457 132,000 223,000

29 deposit 590,000 813,000

29 deposit 663,400 1,476,400

31 deposit 1,212,000 2,688,400

31 chq.0458 213,800 2,474,600 31

credit memo 360,400 2,835,000

31 collection charge 3,600 2,831,400

31 interest 4,800 2,826,600

A companying the bank statement was a credit memo issued on 31 may 1992 representing a collection

from T. Kally , the company’s debtors for which the bank charged the company on the same day.

DATE PARTICULARS AMOUNT DATE PARTICULAR AMOUNT

May

May 1 sales 210,200 May 3 chq.0448 36, 5

7 sales 485,000 3 chq.0449 51,000

17 sales 112,800 4 chq.045 1,300,000

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21 A/c Receivables 51,300 4 chq.0451220, 000

24 sales 538,800 5 chq.0452 76,000

26 sales 444,000 5 chq.0453 720,000

26 A/c receivables 590,000 9 chq.0454 112,000

29 A/c receivables 663,400 13 chq.0455 963,000

30 sales 1,212,000 18 chq.0456 13,700

31 sales 73,900 20 chq.0457 132,000

26 chq.0457213, 800

30 chq.0457 412,000

31 chq.0451, 118,600

Examination of the cash book : entries revealed the following.

(i) Chq. No. 0455 of shs. 936,900 was wrongly recorded in the company books keeper. It was

payment to a creditor, kay.

(ii) A credit sale of shs. 444,000 to Adams was erroneously recorded in the cash book instead of

the debtors ‘ledger.

Q6. Lukwago operates a corner shop at Wandegeya called Lukwago Stores. He has not previously

employed an accountant, but for the year 1992, he was as eked to produce proper accounts in orders to

obtain a trading licence.

Lukwago provides you with a statement of operations for the year 1991 produced below and asks you to

prepare the accounts for his submission to the licensing authorities.

Lukwago stores statement of operation 1991

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Payment for goods shs 950,000 cash taking shs. 1,200,000

Payment for expenses 160,000

Profit 90,000

1,200,000 1,200,000

Through your discussion with him, you obtain the following information

(1) Daily taking are kept in a cash box and banked a t irregular intervals. At the end of each day, the

cash is counted and recorded on a slip of paper. At irregular intervals, the figures from the slips

are recorded into a note book by his friend. A batch of slips was lost before the figures were

entered into the note book, but Lukwago and his girl-friend estimate the takings of the year,

including the amount on the destroyed slips to be shs. 1,200,000/=

(2) You discuss and accept the following balances

31.12.90 31.13.91

Cash in hand shs. 4,500 8,700

Cash at bank 15,600 21,900

Accounts receivable 45,800 49,100

Accounts payable 27,900 24,300

Inventory at cost 195,000 190,000

(3) Debts amounting to shs 35,600 were abandoned during the year as bad. But the takings include

shs. 2,500 recovered from an old debt which had been abandoned the previous year.

(4) Lukwago rents the shop on which he resides at shs. 15, 600 per year. This amount is included in

the expenses of shs . 160,000. It is decided to allocate 1/3 of the premises for residence purposes.

(5) Further analysis of the expenses reveal the following :

(i) Running expenses for Lukwago’s private car amounts to shs. 3,500/=

(ii) Repairs and decorations of the total premises for the year amounted to shs. 6,000.

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(iii) Alterations on the shop premises amounted to shs 16, 000/=

(iv) Lukwago made a major renovation tot the roof of the building housing the shop premises

at shs . 50,000. The landlord agreed to offset this amount against future rent payments.

(6) From the business takings, Lukwago met the following private expenses.

(i) Shs. 50,000 for maintaining his house

(ii) Shs. 8,000 for the girl friend’s hairdressing

(iii) Lukwago‘s personal subscription to a local club of shs. 10,500.

(iv) Lukwago’s graduated tax of shs. 10,000/=

(v) Shs.5, 200/= for a local competition. His winnings, which he included in the shop’s

takings, amounted to shs. 6,000/=

(7) Lukwago’s cousin obtained shs. 10,000 from Lukwago which he withdraws from the business

bank account. The cousin agreed to pay in installments, and so far, shs6, 000 has been recovered.

(8) Lukwago had a car accident and compensation of shs 64,000 /= was banked on the business

account.

(9) Tom owed Lukwago shs. 6,900 for goods supplied from the shop. For a settlement, Tom

provided his radio valued at shs. 35,000. Lukwago paid the difference to Tom by a cheque drawn

on the business account Lukwago uses this radio cassette for domestic purposes.

(10) You agree to charge Lukwago shs. 4,000 for your accountancy service payable after

receipt of the trading licence.

Required

(a) Prepare a statement of affairs for lukwago stores as at 31.12.90

(b) Prepare an income statement for the year ended 31.12.91, and a balance sheet as at the date for

submission to the licensing authorities. (Show all your workings).

Question

“Without some form of Accounting, Legislation it would be possible for accounting to manipulate and doctor

accounts, thereby, presenting a completely misleading about the financial status of the organization. This would

result into users of accounting information making wrong decisions.

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In light of the above statement, discuss the various accounting concepts / principles / conventions that underlie

preparation and presentation of accounts and check manipulation and doctoring of the accounts.

Question 2

The following information was extracted from the books of MM Bakery Ltd.

Stock 1 / 2005 31 / 12 / 2005

Shs shs

Raw materials 4,000,000 6,000,000

Work in progress 18,000,000 16,000,000

Finished goods 14,000,000 12,000,000

The firm’s transactions obtained from the ledgers were as follows:

Particulars Amount in shs

Show room expenses 8,000,000

Water expenses 40,000,000

Electricity 30,000,000

Indirect materials 12,000,000

Bad debts 20,000,000

Raw material purchases 560,000,000

Salaries 90,000,000

Manufacturing expenses 18,000,000

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Sales 840,000,000

Direct expenses 17,000,000

Depreciation of delivery vans 2,000,000

The following additional information was provided:

1. Salaries and electricity were apportioned as follows:

Factory Office & Admin Selling & Distribution

Salaries ________ 80% 20%

Electricity ¼ 2/4 __

2. provision for bad debts of UGX 4,000,000/= was made

3. Water expenses of UGX 2,000,000/= remained at the financial year end.

4. The company transfers goods at 20% mark up

Required:

Prepare the company’s manufacturing, trading profit and loss account for the year ended 31 / 12 / 2005.

Question 1

Halima is an experienced book keeper for MM Enterprises and needs assistance to complete the current account

bank reconciliation for the month of May 2006. she has provided the following information:

On 31 May 2006, the bank column of the cash book showed a debit balance of shs 692,000. the bank statement

on the same date showed a credit of shs 740,000. a comparison of the cashbook and the bank statement for

May 2006 reveals the following:

i. The bank made a direct debit of shs 30,000 for a magazine subscription on 3rd May 2006.

260

ii. A loan repayment of shs 180,000 was paid by a standing order on 15 May 2006

iii. Bank charges of shs 10,800 and loan interest of shs 24,000 were charged to the account on 31 May

2006.

iv. Cheques totaling shs 163,000 paid into the bank in May not been credited to the account on 31 May

2006

v. On May 4, a credit transfer of shs 290,000 was received from a customer , R. Stephens.

vi. A cheque from M. Makumbi for shs 276,000 banked on 29 May 2006 was returned un paid on 31 May

2006

vii. Cheques drawn on 27 May 2006 totaling shs 335,400 had not yet been presented to the bank

viii. A cheque entered in the cash book as credit of shs 152,800 should have been for shs 125,800

ix. Kaka supplies Ltd paid cheque for shs 80,000 but returned it on 25 May 2006, un paid.

Required:

a. Adjust MM Enterprises’ cash book

b. Prepare a Bank reconciliation Statement

c. State four reasons why the cashbook balance most often differs from the bank statement balance as

at that date.

1a) Explain the following accounting concepts and give examples where they are applied in the preparation of

financial statements.

i) Business Entity Concept

ii) Accrual Concept

iii) Realization Concept

iv) Going Concept

v) Historical Concept

b) A.N.L Agencies is a retail business located in Wandegeya. The following transactions transpired during the

month of October, 2007

Oct 1st Bought goods on credit from Peter for shs 800,000

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“ 2nd Bought goods on credit from Jane for shs. 400,000

“ 3rd Sold goods to John on credit for shs. 2,000,000

“ 4th Sold goods to Mary on credit for shs 800,000

“ 5th Returned goods worth shs. 100,000 to Peter because they were defective

“ 10th Received part payment of 1,600,000 cash from John for goods taken on

credit

“ 12th Made part payment to Peter shs. 160,000 Cash

“ 14th Purchased goods for shs 120,000 credit from Jane

“ 15th Mary rejected and returned goods worth shs 80,000

“ 16th Received a cheque of shs 300,000 from Mary as part payment for goods

taken on credit

“ 17th Paid office rent cash shs 200,000

“ 18th Returned goods worth shs 100,000 to Jane because they were defective

“ 19th Paid Jane shs 300,000 by cash

“ 20th Sold goods to John on credit for shs 1,600,000

“ 22nd Bought goods for shs 200,000 paying cash

“ 23rd Sold goods cash shs. 1,000,000

“ 24th Sold goods cash shs. 8,000,000 receiving payment by cheque immediately

“ 25th Purchased goods for shs 200,000 from Peter on credit

“ 26th Paid Peter Shs. 160,000 cash

“ 27th John rejected and returned goods worth shs 200,000

“ 28th Received a cheque of shs 400,000 from John for goods sold to him on

262

credit

“ 29th paid for electricity shs. 100,000 by cheque and shs 200,000 cash

“ 30th Paid office rent shs. 120,000 by cheque

“ 31st Paid salaries shs 300,000 cash and shs 320,000 by cheque

REQUIRED

I) Enter the above transactions into the General Journal properly showing entry

II) Post to the Ledger accounts and should be fully balanced off

III) Open up the Individual Debtors’ subsidiary Ledgers and the Individual Creditors’ subsidiary ledgers

IV) Extract the business Trial Balance for the month ended 31st / 10 / 2007

The following trial balance was extracted from the books of Atikoru PLC

Capital 20,000

Loan account, Stanbic 2,000

Drawings 1,750

Premises 8,000

Furniture and fittings 500

Plant and machinery 5,500

Inventory at 1 Jan 8,000

Cash at Bank 650

Allowance for doubtful debts 740

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Purchases 86,046

Sales revenue 124,450

Bad debts 256

Bad debts recovered 45

Trade receivables 20,280

Trade payables 10,056

Bank Charges 120

Rent 2,000

Return inwards 186

Return outwards 135

Salaries 3,500

Wages 8,250

Traveling expenses 1,040

Carriage inwards 156

Discounts allowed 48

Discounts received 138

General expenses 2,056

Gas, electricity and water 2,560

Carriage outwards 546

Traveler’s salaries and commission 5,480

Printing and stationery 640

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157,564 157,564

You are provided with the following information:

a. Inventory at 31/12/2004 UGX 7,550

b. Interest on the loan at 5% p.a not been paid at 31/12

c. Rent includes UGX. 250 for the premised paid in advance to 31 March next

d. Depreciate plant and machinery by 10% p.a, depreciate furniture and fittings by 5% p.a

e. Adjust the allowances for doubtful debts to 5% of trade receivables

f. Show wages as part of cost of sales.

Required:

Draw the income statement for the company for the year to 31/12/2004 and the balance sheet

Question five

a) Explain why an organization has to prepare a cashbook? (3 marks)

b) The following balances were extracted from the books of G and F on 31/06/2006

Cash 5,000,000

Bank 3,300,000 (Cr)

During the month of July the following transactions took place

i) July 1st, bought goods on credit for shs 6,500,000

ii) 2nd, sold goods on credit for shs 8,000,000

iii) On 4th received a cheque of shs 5,000,000 from the debtor and banked it

iv) On 7th paid creditors shs 1,500,000 cash and shs 500,000 by cheque

v) On 10th rejected and returned goods worth shs 300,000 to a creditor

vi) On 12th a debtor rejected and returned goods worth shs 100,000

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vii) On 14th banked shs 1,500,000 cash

viii) On 16th paid rent of shs 400,000 cash, shs 800,000 by cheque and electricity shs 250,000 cash

ix) On 20th withdrew shs 1,000,000 from the bank and put in the cash box for payment of cash expenses

x) On 22nd paid shs 2,000,000 by cheque for the retirement loan

xi) On 25th sold the land inherited from the father for shs 5,000,000 cash

xii) On 27th received cash of shs 100,000 and a cheque of shs 2,000,000 from a debtor

xiii) On 30th used business cash of shs 300,000 for a social evening with his friends at a club.

Required. Enter the above transactions in a two column cash book (17 marks)

SECTION C

Question six

a) Describe the qualitative characteristics of financial statements )8 marks)

b) Explain the following accounting concepts and give examples where they are applied in the preparation

of financial statements.

Question seven

a) Explain the historical accounting concept and give reasons why it is preferred as a method of valuing

assets (6 marks)

b) Identify the users of financial statements and their information requirements(14 marks)

During the month of January 2003, the following errors which were made in the financial year which ended on

31st December 2002 were located.

266

i. A cheque for an amount of 1,485, 000/= received from a debtor was recorded in the debtor’s A/C as

1,471,500/= but was properly recorded in the cash book

ii. Electricity expense paid was under recorded in the bank column of the cash book by shs. 4,500/= The

entry was correct in the other account

iii. A sales invoice of 750,000/= was recorded as 705,000/= in the sales day book.

iv. A creditor had a balance of 1,500,000/= in her account but was taken to the trial balance as 1,60,000/=

v. A cheque payment of 60,000/= for postage stamps was debited to the cash book and properly recorded

in postage account in the ledger.

vi. Accrued salaries 300,000/= were not recorded in any account

vii. Prepared insurance 90,ooo/= was credited to accrued insurance account as 105,000/= The

corresponding double entry account had no problem

viii. The debit side of the trial balance was under added by 45,000/= because of discount allowed Account

which was not opened in the ledger.

ix. Directors Christmas party which was not voted for an not part of their official emoluments costed

500,000/=. This amount was withdrawn from the company’s bank account. It was debited to General

expenses A/C and credited to the cash book (bank column)

x. The provision for bad debts for 150,000/= was omitted from the ledger but, the bad debts account had

been debited.

Required

i. Journal entries to correct all the errors (10 marks)

ii. Suspense Account (4 marks)

iii. Corrected balance sheet (6 marks)

QUESTION SEVEN

267

(a) Clearly explain the importance of accounting from the perceptive of users of accounting information (10

marks)

(b) Briefly discuss accounting concepts that are fundamental under International Accounting Standards. (8

marks)

(c) Distinguish between a suspense account and a control account. (2 marks)

QUESTION EIGHT

(a) “A trial tests the accuracy of the financial accounting recording system but when it balances, it does not

always mean that all was alright” Briefly discuss the statement. (10 marks)

(b) Explain the following terms with examples as used in accounting regulatory frame work.

Accounting concepts/conventions (2 marks)

Accounting bases (2 marks)

Accounting policies (3 marks)

Accounting standards (3 marks)

Kiwedde Limited’s Trial balance for the year ended 31 December 2007 is given below:

Details Dr (000) Cr (000)

Land and buildings (cost) 540,000

Plant and Machinery (cost) 150,000

Equipment (cost) 180,000

Accumulated depreciation – plant and Machinery 30,000

- Equipment 36,000

Purchases and Sales 450,000 1,000,000

Stock on 1st January 2007 350,000

Carriage in wards 20,000

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Salaries and Wages 1,500

10% Bank loan 286,300

Rent 2,800

Good will 22,000

Returns 10,000 12,000

Capital 600,000

Cash and bank 190,000

Discounts 500 1,000

Trade debtors and creditors 200,000 500,000

10% Treasury Bills 250,000

Bad debts 1,200

Provision for bad debts 4,700

Utilities 130,000

Retained earnings 30,000

Carriage out words 2,000

TOTAL 2,500,000 2,500,000

Other relevant information

1. Inventory at the end of the year was valued at 120,000,000

2. The buildings in the trial balance were acquired at the beginning of the year at a price of 300,000,000

3. Depreciate non current assets at 10% on cost

4. Salaries were paid up to 31 / 3 / 2008

5. Both interests on the treasury bills accrued

6. More debtors are expected to default a further provision of 10% needs to be made

Required. Show the journal entries for the additional information 1 to 6

269

Prepare an income statement, statement of changes in equity and the balance sheet as at 31/12/2007

Question One

The following trial balance is an extraction from the ledger accounts of Zulie Ltd for the financial year ended

31/12/2004

Account Titles Dr (Shs 000) Cr (Shs 000)

Capital 400,000

Land (cost) 280,000

Plant and Machinery (cost) 200,000

Motor vehicles (cost) 320,000

Accumulated depreciation:

Plant and Machinery 120,000

Motor vehicles 64,000

Stock/Inventory 18,400

Trade debtors/Accounts receivable 120,000

Provision for bad debts 12,000

Bank 140,000

Cash 20,000

Trade creditors / Accounts payable 60,000

General expenses 20,000

Electricity 10,000

Rent 14,000

270

Advertising 8,000

Salaries 40,000

Bad debts 10,000

Insurance 1,600

Water 8,000

Sales 1,200,000

Sales returns 12,000

Purchases 640,000

Purchases returns 12,000

Carriage inwards 10,000

Discounts received 6,000

Discounts allowed 2,000

Total 1,874,000 1,874,000

i. Stock at 31/12/2004 was valued at 14,000,000/=

ii. It is the Company’s policy to deprive fixed assets at a rate of 10% on cost per annum

iii. The Provision for bad debts should be increased by 6,000,000/=

iv. 4,000,000/= of rent relates to the forthcoming financial period

v. Salaries of 5,000,000/= accrued

REQUIRED:

a) Journal entries for the additional information i-v

271

b) Prepare Zulie Ltd’s income statement for the period ended 31/12/2004 and the balance sheet as at

31/12/2004 (20 marks)

Question Two

a. Write short notes on the following:

i. Duality concept iii. Accounting Equation

ii. Prepaid expenses iv. Financial Accounting

b. Briefly explain the stages involved in the Accounting cycle/process.

QUESTION 1.

The following is a Trial Balance for Sydaka Ltd as at 31 Dec. 2001

ACCOUNT TITLE DR (Shs) Cr (Shs)S

Sales 36,000,000

Purchases 25,000,000

Sales returns 820,000

Purchases returns 400,000/=

Stock (1.1. 2001) 2,500,000

Wages 4,000,000

Rent and rates 1,600,000

Building (cost) 20,000,000

Accumulated depreciation Building 2,000,000

Motor vehicles (cost) 8,000,000

Accumulated depreciation motor vehicles 800,000

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Trade debtors 4,400,000

Bad debts expenses 100,000

Trade creditors 1,850,000

Capital 31,775,000

Provision (for bad and doubtful debts) 200,000

Balance at bank 1,225,000

Drawings 5,880,000

Discount allowed 300,000

Discount received 800,000

73,825,000 73,825,000

Additional information

(i) Closing stock is valued at 1,800,000/=

(ii) Wages of 360,000/= accrued (were not paid during the financial year)

(iii) An amount of 200,000/= which relates to rent and rates was pre-paid for financial year commencing

January 2002

(iv) Bad debts expenses increased by 440,000/=

(v) Building and motor vehicles are to be depreciated by straight line method using 10% per annum.

REQUIRED

a) prepare Journal Entries for the additional information above (7 marks)

b) prepare the trading and profit and loss account for Sydaka Ltd for the periods ended 31. Dec. 2001

(6 marks)

c) Construct the balance sheet for the Sydaka Ltd as at 31 Dec 2001 (7 marks)

273

The company used double declining balance sheet method and reported a net profit of shs. 15,000,000 in the

second year of using the asset, if the straight line method had been used, what would have been the Net profit

or loss in the second year?

i. Shs 12,320,000

ii. Shs 14,748,000

iii. Shs 15,252,000

iv. Shs 11, 530,000

v. None of the above.

vi. The company wants to dispose-off (Board –off) the asset at shs. 1,200,000 after using it for two years.

What will be the loss or gain on disposal? (Double declining balance method being used).

(a) Shs 600,000 loss

(b) Shs 480,000 gain

(c) Shs 300,000 gain

(d) Shs 528,000 loss

(e) None of the above

vii. Which of the following concepts is not fundamental under International Accounting Standard One (IAS

1)

(a) Going concern

(b) Accrual

(c) Consistency

(d) Substance over form

(e) All are fundamental

The following information was obtained from records of a manufacturing company for the year to 31st January

2003

274

Sales Shs

Raw-materials issued (used) 50,000,000

Raw-materials purchased 10,000,000

Raw-materials returned 20,000,000

Direct wages 5,000,000

Factory supervisors salaries 15,000,000

Direct manufacturing expenses 2,000,000

Factory insurance 1,000,000

Office Administrative overheads 8,000,000

Finished goods opening stock, cost 4,000,000

Finished goods closing stock, cost 3,000,000

Use the above data to answer questions (vi – viii)

viii. What is the prime cost?

(a) Shs. 40,000,000

(b) Shs 34,000,000

(c) Shs 26,000,000

(d) Shs 31,000,000

(e) None of the above

ix. If the mark-up of 20% is added when transferring goods from the factory to the selling department.

What is the value of goods manufactured/completed?

(a) Shs. 28,400,000

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(b) Shs 30,600,000

(c) Shs 34,080,000

(d) Shs 24,600,000

(e) None of the above

x. What is the Net profit for the year?

(a) Shs. 16,200,000

(b) Shs 14,600,000

(c) Shs 12,500,000

(d) Shs 13,900,000

(e) None of the above

xi. Goods for shs 680,000 were purchased from Lubega on credit but the book-keeper made a mistake by

debiting account for Luboga with shs 860,000 which of the following entries corrects the error?

(a) Debit Lubega 680,000 debit suspense 180,000 and credit Luboga 860,000

(b) Debit suspense 180,000, debit Luboga 860,000 and credit Lubega

(c) Credit Lubega 680,000 credit Lubega 860,000 and suspense 1,040,000

(d) Debit purchases 680,000 and credit Lubega 680,000

(e) None of the above

xii. At the end of the month, the following information was extracted from the cashbook and bank

statement. Balance as per cashbook shs. 40,000,000 credit and balance as per bank statement shs.

30,000,000 debit. Total of un credited cheques was shs. 12,000,000 while total direct debit amounting

to shs 500,000. total direct credits were shs 6,000,000. Assuming that the only missing items to reconcile

the balance as per cashbook and balance statement were un presented cheques.

QUESTION FIVE

a) Explain the advantages of control accounts

b) Mukasa owns a retail shop in Nakawa trading centre. The following information relates to his debtors:-

276

Balance on 1st January 2006 UGX 10,000,000, 60% of this is owed from David and the balance from Moses.

Transactions for the years:-

Sales of UGX 18,000,000, 60% to Moses and the balance to David

Cheque Receipts from debtors by cheque UGX 14,000,000, 50% from David the balance from Moses.

Dishonored cheques UGX 3,000,000, 80% from Moses and the balance from David

Uncollectible debts were 10% of sales; ¼ of these debts relate to David and the balance to Moses.

Returns were UGX 1,000,000 and 500,000 from Moses and David respectively.

Discounts allowed of 1% and 2% to Moses and David respectively on their respective sales figures.

Required

For the year ended 31/12/2006, draw up:-

i) Debtors’ subsidiary ledger well close off (6 marks)

ii) Debtors’ control account well close off (9 marks)

QUESTION SIX

a) “It’s not always the case that the balance as per bank statement agrees with the balance as per cash

book and thus need to prepare a bank reconciliation statement” This was a comment by Richard a

DBA1 student during FA discussions.

Account for the discrepancy between the cash book and bank statement balances at the end of the period

b) Explain the two principle uses of the trial balance

c) Briefly explain the stages involved in the accounting cycle

Question 2

277

The following information was extracted from the bank reconciliation statement of Excel Ltd. For the month

ended 31/11/2005

Direct Debits (Shs. 000) Direct Credits (Shs 000)

Bank Charges 3,600 Cheque no. 445 26.400

Commissions 33,600 Cheque no. 446 888.000

Un presented Cheque (Shs. 000) Un Credited Cheques (Shs 000)

Cheque no. 220 10,000 Cheque no 115 12,000

Cheque no. 222 34,000 Cheque no. 117 24,000

Cheque no 235 26,000 Cheque no 120 31,200

The following is the cash book of Excel Ltd. For the month ended 31/12/2005

DR Cash Book (Bank Column) CR

000 000

Cheque no. 224 72,000 Bal b/d 108,000

Cheque no. 122 18,000 Cheque no. 301 6,000

Cheque no. 133 19,200 Cheque no. 312 144,000

Cash 24,000 343 36,000

Cheque no. 238 11,400 Cheque no. 354 72,000

Cheque no. 193 18,000 Cheque no. 375 64,800

Cheque no. 265 60,000 Cheque no. 386 86,400

Cheque no. 146 57,600 Cheque no. 407 48,000

278

Cheque no. 177 37,200 Cheque no. 418 112,800

Cash 48,000 Cheque no. 429 57,600

Cheque no. 249 64,800 Cheque no. 431 8,400

Cheque no. 87,600 Cheque no. 442 242,400

Cash 36,000 Cheque no. 483 93,600

Cheque no. 111 36,000 Cheque no. 504 156,000

Cheque no. 162 26,400 Cheque no. 515 26,400

Bal c/d 688,800 Cheque no. 546 12,000

Commission 33,600

1,308,000 1,308,000

On the 31.12.2005, the bank sent the following bank statement of Excel Ltd.

Debit Shs Credit Shs Balance

000 000 000

Bal b/d 912,000

Cash Deposit 24,000 936,000

Cheque no. 301 6,000 930,000

“ 312 144,000 786,000

“ 120 31,200 817,200

“ 122 18,000 835,200

279

“ 515 30,000 856,200

“ 343 36,000 829,200

“ 354 72,000 901,200

“ 235 78,000 823,200

“ 111 36,000 859,200

“ 183 96,000 955,200

“ 220 30,000 925,200

Cash Deposit 36,000 961,000

Cheque no. 133 19,200 980,400

“ 375 64,800 915,600

“ 407 48,000 867,600

“ 115 12,000 855,600

“ 224 72,000 927,6000

Cheque no. 193 18,000 945,600

“ 265 60,000 1,005,600

“ 146 57,600 1,063,200

“ 386 86,400 976,800

“ 418 112,800 864,000

“ 249 64,800 928,800

“ 177 37,200 966,000

“ 102 39,600 1,005,600

280

Cash Deposit 48,000 1,053,600

Cheque no. 151 44,400 1,098,600

“ 431 8,400 1,089,600

“ 483 104,400 985,200

Commission 1,200 984,000

Standing Order

(NWSC)

6,000 978,000

Interest 4,800 982,800

Additional Information:

i. Due to some technical defaults with the computers, cheque no. 254 and 115 were wrongly treated in

the bank statements.

ii. Cheque no. 546 was dishonored by the bank and was received together with bank statement.

iii. If other mistakes do exist, they should be deemed to have been made in the cashbook by the

bookkeeper.

Required:

Prepare the Company’s Bank Reconciliation Statement for the month ended 30.06.2002.

(20 marks)

QUESTION TWO

The Bank columns in the Cash Book for June and the Bank Statement for that month for V. Mpawuko K. are as

follows.

Cash book Shs Shs

281

Jun 1 Bal b/d 4,119 5-Jun D. Blake 150

7 B. Green 158 8 A. Dailey 349

7 T.J. Masters 88 12 J. Grey 433

16 A. Silver 93 15 R. Mason 44

22 J. Ellis 73 16 B. Stephens 88

28 M. Brown 307 28 G. Small 15

29 K. Black 624 29 Orange Club 57

30 K. Wood 249 30 Bal C/d 4,664

30 M. Barrel 178

5,889 5,889

Bank Statement.

Dr(Shs) Cr(Shs) Bal (shs)

1-Jan Bal B/d 4,119

7 Cheque 88 4,207

8 D Blackness 150 4,057

11 A. Dailey 139 3,708

16 Cheque 93 3,801

17 J. Gray 343 3,458

18 B. Stephens 88 3,370

20 R. Mason 33 3,337

282

22 Cheque 73 3,410

28 Cheque 307 3,717

30 UDT Standing order 44 3,673

Bank Charges 92 3,581

Credit transfer J. Walters 54 3,635

30 Johnson: Trader’s Credit 90 3,725

Note

Cheque received from B Green was Dishonored and returned to Mpawuwo on the date the bank statement was

received. The bank does not make mistakes!

Required:

(a) Bring the cashbook reconciliation statement at 30 June 10, 2011 8 marks

(b) Prepare the bank reconciliation statement as at 30 June 7 marks

(c) Explain the following terms

(i) Bank reconciliation statement

(ii) Bank Giro Credit

(iii) Direct debits

(iv) Dishonored cheque

(v) Standing order.

Question 1

The following is a cash book and bank statement for Akamwe for the month of October, 2000

Cash Book (Bank Column)

283

Dr Cr

(Shs. 000) (Shs 000)

Bal b/f 80,000 Cheque No. 1110 Mukasa 32,000

Cheque No. 510 John 60,000 “ 1112 Mao 40,000

“ 512 Musa 24,000 “ 1114 Okuru 30,000

“ 514 Tino 10,000 “ 1115 Opolot 14,000

“ 515 Mugisha 4,000 “ 1119 Alaba 6,000

“ 517 Stella 34,000 “ 1118 Atieno 4,000

“ 518 Mathew 13,000 “ 1120 Martin 2,000

“ 520 Joel 2,000 “ 1122 Mary 1,000

“ 1123 Simon 4,000

“ Bal c/f 94,000

227,000

Bank Statement

Dr Cr Balance

(Shs.000) (Shs.000) (Shs.000)

Bal b/f 80,000

Cheque No. 510 John 60,000 140,000

“ 1110 Mukasa 32,000 108,000

“ 1112 Mao 40,000 68,000

284

“ 1114 Okurut 30,000 38,000

“ 512 Musa 24,000 62,000

“ 514 Tino 10,000 72,000

“ 1115 Opolot 14,000 58,000

C.M Rita 18,000 76,000

S.O (SWICO) 2,000 74,000

C.M Ben 16,000 90,000

Bank charge 200 89,800

C.M = Credit Memo

S.O = Standing Order

A cheque written to Alaba and one received from Mugisha were dishonored by the bank

Required:

(a) Adjust Cash Book

(b) Bank Reconciliation Statement

Question 2

The following information was extracted from the bank reconciliation statement of Excel Ltd. For the month

ended 31/11/2005

Direct Debits (Shs.000) Direct Credits (Shs 000)

285

Bank Charges 3,600 Cheque No. 445 26,400

Commission 33,600 Cheque no. 446 888,000

Un presented Cheque (Shs.000)Un credited Cheques (Shs 000)

Cheque No. 22010,000 Cheque No. 115 12,000

Cheque No. 22234,000 Cheque No. 117 24,000

Cheque No. 23526,000 Cheque No. 120 31,200

The following is the cashbook of Excel Ltd. For the month ended 31/12/2005

DR Cash Book (Bank Column) CR

000 000

Cheque no. 224 72,000 Bal b/d 108,000

Cheque no. 122 18,000 Cheque no. 301 6,000

Cheque no. 133 19,200 “ 312 144,000

Cash 24,000 343 36,000

Cheque no. 238 14,400 “ 354 72,000

“ 193 18,000 “ 375 64,800

“ 265 60,000 “ 386 86,400

286

“ 146 57,600 “ 407 48,000

“ 177 37,200 “ 418 112,800

Cash 48,000 “ 429 57,600

Cheque no. 249 64,800 “ 431 8,400

“ 151 87,600 “ 442 242,400

Cash 36,000 “ 843 93,600

Cheque no. 111 36,000 “ 504 156,000

Cheque no. 162 26,400 “ 515 26,000

Bal c/d 688,800 “ 546 12,000

Commission 33,600

1,308,000 1,308,000

On 31.12.2005, the bank sent the following bank statement of Excel Ltd.

Debit Shs Credit Shs Balance

000 000 000

Bal b/d 912,000

Cash Deposit 24,000 936,000

Cheque no. 301 6,000 930,000

“ 312 144,000 786,000

“ 120 31,200 817,200

287

“ 122 18,000 835,200

“ 515 30,000 865,200

“ 343 36,000 829,200

“ 354 72,000 901,200

“ 235 78,000 823,200

“ 111 36,000 859,200

“ 183 96,000 955,200

“ 220 30,000 925,200

Cash Deposit 36,000 961,200

Cheque no. 133 19,200 980,400

“ 375 64,800 915,600

“ 407 48,000 867,600

“ 115 12,000 855,600

“ 224 72,000 927,600

Cheque no. 193 18,000 945,600

“ 265 60,000 1,005,600

“ 146 57,600 1,063,200

“ 386 86,400 975,800

“ 418 112,800 864,000

“ 249 64,800 928,800

“ 177 37,200 966,000

288

“ 102 39,600 1,005,600

Cash Deposit 48,000 1,053,600

Cheque no 151 44,400 1,098,600

“ 431 8,400 1,089,600

“ 483 104,400 985,200

Commission 1,200 984,000

Standing Order (NWSC) 6,000 978,000

Interest 4,800 982,800

Additional Information:

i. Due to some technical faults with the computers, cheques no 354 and 115 were wrongly treated in the

bank statements.

ii. Cheque no 546 was dishonored by the bank and was received together with bank statement.

iii. If other mistakes do exist, they should be deemed to have been made in the cashbook by the

bookkeeper.

Required:

Prepare the Company’s Bank Reconciliation Statement for the month ended 30.06.2002 (20 marks)

QUESTION FIVE

The Balance sheet of MEYER Ltd as at 31th December 2000 was as follows:

Shs ‘000 Shs ‘000 Shs ‘000

289

Fixed Assets (net depreciation)

Stock 10,000

Debtors 15,000

Prepayments 5,000

Bank 20,000

Cash 25,000 75,000

Suspense Account 170

75,170

Less: Current Liabilities

Creditors 17,500

Accruals 7,500 25,000

Working Capital 50,170

Net Assets 550,170

Financed by:

Capital 302,500

Add. Net profit 33,680

336,180

Less: Drawings 21,010

Owners equity 315,170

Long term bank loan 235,000

290

Capital employed 550,170

During the month of January 2001, the following errors which were made in the financial year ended on 31st

December 2000 were located.

i. A Cheque of an amount of 2,457,000/= received from a debtor was recorded in the debtors’ A/C as

2,452, 500/= but was properly recorded in the cash book.

ii. Electricity expense paid was under recorded in the bank column of the cash book by shs. 7,500. the

entry was correct in the other account.

iii. A sales invoice of 1,250,000/= was recorded as 1,025,000/= in the sales day book.

iv. A creditor had a balance of 2,500,000/= in her account but was taken to the trial balance as 2,750,000/=

v. A cheque payment of 100,000/= for postage stamps was debited to the cash book and properly

recorded in the postage account in the ledger.

vi. Accrued salaries is 500,000/= was not recorded in any account.

vii. Prepaid insurance of 150,000/= was credited to accrued insurance account as 175,000/= The

corresponding double entry account had no problem.

viii. The debit side of the trial balance was under added by 75,000/= because of discount allowed account

that was opened in the ledger.

ix. Director’s Christmas party which was not voted for and not part of their official emoluments costed

1,000,000/= This amount was withdrawn from the company’s bank account. It was debited to the

general expenses account and credited to the cash book (bank column)

x. The provision for bad debts for 250,000/= was omitted from the ledger but, the bad debts account had

been debited.

Requires:

i. Journal entries to correct all errors (10 marks)

291

ii. Suspense Account (4 marks)

iv. Corrected Balance Sheet.

Illustration one

The accountant of starlight Ltd prepared a trial balance for his company for the month of December 1997 but

failed to balance. The total on the debit side was more that the total on the credit side by 33,000/=. He opened a

suspense account for the difference and proceeded to prepare final accounts. He reported a net profit profit of

1,400,000/=

During the month of January 1998 he discovered the following mistakes, which had been made in December

1997.

a) The purchases account had been under cast by 2,000/=

b) Payment of 555,000/= by cheque for insurance was properly recorded in the cashbook but posted to

insurance account by mistake as 515,000/=

c) A sales invoice of 300,000/= was not recorded in the sales day book and therefore not posted to the

ledger.

d) The credit side of the sales account was under added by 4,000/=

e) Motor vehicle repairs costing 50,000/= was debited to motor vehicle account

f) Payment of 680,000/= cash to join a creditor was properly recorded in Johns account but was wrongly

recorded in the cash book as 670,000/=

g) The book keeper had made a mistake by debiting ledger fee of 15,000/= to the account but properly

recorded it in the ledger fee account.

h) Sale of goods for 600,000/= on credit to Tino was properly recorded in the sales account but was

recorded in the ledger fee account.

i) The bank column of the cash book credit side was over added by 1000/=

j) A credit note issued for 800,000/= was properly recorded in the customers account but was wrongly

recorded in the other account necessary for completion of double entry as 820,000/=

k) Discount received of 6,000/= was debited to discount allowed account.

292

Required

i. Journal entries to correct all the errors

ii. A suspense account

iii. Statement of corrected net profit.

293