Flashcards · 0452 · Topic 5

Preparation of financial statements flashcards

40 cards on Topic 5, subtopics 5.1 to 5.6. Pick a subtopic or study them all.

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5.1 Sole traders

Advantages and disadvantages of being a sole trader: For: keeps all the profit; own boss; cheap and simple to start; private. Against: unlimited liability; limited funds; illness can stop trading; bears all losses and workload.
Cost of sales: Opening inventory + purchases (less returns, plus carriage inwards) − closing inventory.
Gross profit and profit for the year: Gross profit = net revenue − cost of sales. Profit for the year = gross profit + other income − expenses.
Current assets and current liabilities: Current assets: cash, or items turned into cash within a year (inventory, trade and other receivables, bank). Current liabilities: due within a year (trade and other payables, overdraft).
Closing capital of a sole trader: Opening capital + profit (+ capital introduced) − drawings. Example: 21,000 + 6,500 − 4,000 = $23,500.
The owner takes goods costing $260 for own use. Treatment?: Purchases fall by $260 and drawings rise by $260 (business entity). It is never an expense.
How do the statements of a service business differ from those of a trading business?: A service business sells time or skill, so there is no cost of sales or gross profit: fees less expenses give profit.

5.2 Partnerships

Order of items in a partnership appropriation account: Profit for the year, add interest on drawings, deduct interest on capital and partners’ salaries; share the balance in the profit-sharing ratio.
Interest on a partner’s loan compared with interest on capital: Loan interest is a business expense, charged before profit for the year. Interest on capital is an appropriation of profit.
Partner’s capital account compared with current account: Capital account: long-term investment, normally fixed. Current account: yearly entitlements (interest, salary, share of profit) and withdrawals (drawings, interest on drawings).
What goes on each side of a partner’s current account?: Credit: opening credit balance, interest on capital, salary, unpaid loan interest, share of profit. Debit: opening debit balance, drawings, interest on drawings, share of loss.
Profit for the year $36,000; interest on drawings $800; interest on capital $4,500; salary $6,000. Balance to share?: 36,000 + 800 − 4,500 − 6,000 = $26,300.
What might a partnership agreement contain?: Capital to be contributed, the profit-sharing ratio, interest on capital, drawings and loans, partners’ salaries and any drawings limits.
The balance of profit after appropriations is negative. What happens?: It is a loss, shared in the profit-sharing ratio and debited to the current accounts. Interest on capital and salaries are still credited.

5.3 Limited companies

Limited liability: A shareholder can lose no more than the amount paid, or agreed to be paid, for their shares.
Preference shares compared with ordinary shares: Preference: a fixed rate of dividend, paid before ordinary shareholders receive anything. Ordinary: the owners’ shares; the dividend varies and may be nil; usually carry a vote.
Ordinary shares compared with debentures: Shares: holders are owners; variable dividend shown in the statement of changes in equity; part of equity. Debentures: holders are lenders; fixed, compulsory interest shown as a finance cost; non-current liabilities.
90,000 ordinary shares of $0.50; $0.30 a share called; holders of 2,000 shares have not paid. Issued, called-up and paid-up capital?: Issued 90,000 × 0.50 = $45,000. Called-up 90,000 × 0.30 = $27,000. Paid-up 27,000 − (2,000 × 0.30) = $26,400.
Retained earnings $22,000 at the start; profit $15,000; $2,000 to general reserve; dividends $1,200 and $6,000. Closing retained earnings?: 22,000 + 15,000 − 2,000 − 1,200 − 6,000 = $27,800.
Effect of a transfer to the general reserve on total equity: None. It moves profit from retained earnings to the general reserve, changing the split of equity, not the total.
Profit from operations $36,400; $40,000 of 7% debentures. Profit for the year?: Debenture interest 7% × 40,000 = $2,800 (finance cost, charged whether paid or owing). Profit for the year = 36,400 − 2,800 = $33,600.

5.4 Manufacturing accounts

Prime cost: Direct material (cost of raw materials consumed) + direct labour (wages of production workers).
Cost of raw materials consumed: Opening raw materials + purchases + carriage inwards − returns outwards − closing raw materials.
Factory overheads: give examples: Indirect factory costs: indirect wages (supervisors, storekeepers, cleaners), factory rent, power, insurance, depreciation of factory machinery.
Factory cost of production: Prime cost + factory overheads + opening work in progress − closing work in progress.
Prime cost $35,500; factory overheads $9,800; opening WIP $1,200; closing WIP $1,700. Factory cost of production?: 35,500 + 9,800 + 1,200 − 1,700 = $44,800.
Cost of sales for a manufacturer, and the inventories in its statement of financial position: Cost of sales = opening finished goods + factory cost of production − closing finished goods. Inventories: raw materials, work in progress and finished goods, shown separately.

5.5 Clubs and societies

Receipts and payments account compared with income and expenditure account: Receipts and payments: a summary of the cash book, including capital items, with no adjustments. Income and expenditure: revenue items for the year only, adjusted for amounts owing and prepaid.
Surplus, deficit and accumulated fund: Surplus: income greater than expenditure. Deficit: the reverse. Accumulated fund: the club’s capital, total assets − total liabilities.
Subscriptions in arrears and in advance: where are they shown?: In arrears (owed by members): other receivable, a current asset. In advance (paid for a later period): other payable, a current liability.
Subscriptions received $3,240; arrears $120 opening, $180 closing; advance $60 opening, $90 closing. Subscription income?: 3,240 − 120 + 180 + 60 − 90 = $3,270.
How is a revenue-generating activity such as a refreshment kiosk shown?: Its own account works out the profit or loss (sales − cost of sales − direct expenses). Only that net result goes to the income and expenditure account.
A club buys new equipment. Is it in the income and expenditure account?: No. It is capital expenditure, shown in the statement of financial position. Only its depreciation is charged in the income and expenditure account.

5.6 Incomplete records

Why might a sole trader keep incomplete records?: No book-keeping knowledge; the cost of a bookkeeper or software; small scale; the owner mainly wants to know the bank balance.
Disadvantages of incomplete records: No trial balance, so errors go unnoticed; theft is harder to detect; profit has to be rebuilt; poor control of receivables and payables; lenders and tax authorities may not accept the figures.
Statement of affairs: A list of assets and liabilities at a date, built from listed balances. Capital = assets − liabilities.
Closing capital $15,800; opening capital $12,300; drawings $7,200; capital introduced $2,000. Profit?: 15,800 − 12,300 + 7,200 − 2,000 = $8,700.
Receipts from credit customers $40,000; trade receivables $4,700 opening and $5,200 closing. Credit sales?: Credit sales = receipts + closing receivables + irrecoverable debts − opening receivables = 40,000 + 5,200 − 4,700 = $40,500.
Payments to suppliers $28,900; trade payables $3,100 opening and $3,600 closing. Credit purchases?: 28,900 + 3,600 − 3,100 = $29,400.
A margin of 20%: what is the mark-up? Cost of sales $24,000 with a 50% mark-up: revenue?: Mark-up = 20 ÷ 80 × 100 = 25%. Gross profit = 50% × 24,000 = 12,000, so revenue = $36,000.