Study Guides

A Level Accounting: Preparation of financial statements (AS) (Cambridge 9706)

Study guide to adjustments and to sole trader, partnership and limited company accounts, with worked examples, for Cambridge Accounting 9706 section 1.5.

Subject: Accounting
Level: AS LEVEL
Topic: Financial accounting
Author: Marlbridge Academic Team
Updated: 25 October 2026
Reviewed by: Zain Ud Din Ahmed (what this means)

Aligned to Cambridge A Level Accounting (9706), 2026-2028. Official specification .

Syllabus page (what it covers and how it is assessed): Cambridge A Level Accounting.

Syllabus points this page covers

9706 (AS Level)

1.5 Preparation of financial statements

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This guide covers section 1.5 Preparation of financial statements (AS Level, Topic 1 Financial accounting) of the Cambridge International AS & A Level Accounting 9706 syllabus for exams in 2026, 2027 and 2028. All businesses and figures are invented, and amounts are in dollars ($). The syllabus says the expected formats are in its Teacher Guidance document, so check the layouts here against your teacher’s copy. See also the revision notes, practice questions, business entities, the course hub, the checklist and the free diagnostics.

What 1.5 asks for

Point	You must be able to
1.5.1	Calculate and record adjustments for accruals and prepayments of income and expenses, irrecoverable debts, irrecoverable debts recovered, allowance for irrecoverable debts, depreciation, inventory valuation and correction of errors
1.5.2	Produce the statement of profit or loss plus the statement of financial position for a sole trader from full or incomplete records
1.5.3	Prepare partnership statements, appropriation account, capital and current accounts; describe the agreement and the Partnership Act 1890
1.5.4	Record shares, bonus and rights issues, debentures, dividends and reserves; prepare the three company statements; match finance to purposes

Adjustments to a trial balance (1.5.1)

The matching/accruals concept says each period carries the income earned and expenses incurred in it, whenever cash moves. So each adjustment to the trial balance affects both statements.

Adjustment	Effect on profit or loss	Effect on financial position
Expense accrued (owed)	Add to expense	Other payable (current liability)
Expense prepaid	Deduct from expense	Prepayment (current asset)
Income accrued (earned, not received)	Include in income	Current asset
Income received in advance	Remove from this year’s income	Current liability
Irrecoverable debt	Expense	Cut trade receivables
Irrecoverable debt recovered	Income	Cash received
Allowance for irrecoverable debts	Expense for the increase, or credit for the decrease	Deducted from trade receivables
Depreciation	Expense	Added to accumulated depreciation
Closing inventory	Deducted in cost of sales	Current asset

For the allowance, write off irrecoverable debts first, apply the percentage to the receivables that remain, then compare with the existing allowance: only the change goes to the statement of profit or loss. Prudence requires closing inventory to be shown at cost or net realisable value, whichever is lower. Items that cost 4,000 but can only be sold for 3,100 net are valued at 3,100, so inventory and profit both fall by 900. Depreciation methods are in the non-current assets guide.

Correction of errors. An error found after the trial balance is corrected by journal. Decide whether it changes profit, assets or liabilities: repairs debited to a van, for example, change both profit and the asset. Errors that unbalance the trial balance go through a suspense account first: see the 1.4 guide.

A four-row table shows accrued expenses, prepaid expenses, income due and income received in advance. An accrued expense is added to the expense and is a current liability (other payable); a prepaid expense is deducted and is a current asset (other receivable). Income due is added to income and is a current asset; income in advance is deducted and is a current liability. — Each year-end adjustment changes both the income statement and the statement of financial position.

Receivables of 19,100 pounds carry a 5 percent provision of 955 pounds, so the statement of financial position shows 18,145 pounds. The old provision was 900 pounds, so only the 55 pound increase is charged as an expense. — Only the change in the provision goes to the income statement; the full provision is deducted from receivables.

Three stock lines each show cost and NRV bars with a tick on the lower. Desk lamps use cost (2,160 against 3,360); floor lamps use NRV (1,360 against 1,800); lampshades use NRV (900 against 1,200). Item by item gives 4,420; comparing totals would keep 5,160 and hide a 740 loss. — Stock is valued at the lower of cost and NRV for each item, not on the totals.

A delivery van splits spending into capital expenditure (van 18,000, delivery 250, signwriting 600, total 18,850, debited to vehicles and depreciated) and revenue expenditure (first year insurance 900, first week fuel 80, total 980, charged to the income statement). — Costs needed to get an asset ready for use are capital; running costs are revenue.

A suspense account opens with a credit of 630 because debits of 186,420 exceed credits of 185,790. Debit corrections of 400, 270 and 140 and credit corrections of the opening 630 and 180 each total 810, so the account clears to zero. Errors of commission and principle bypass suspense. — Each correction that caused the imbalance passes through suspense until it clears to nil.

Sole traders (1.5.2): worked example

Orla Calderbank trades as Calderbank Paints. Trial balance at 31 March 2027:

Account	Debit	Credit
Sales		148,600
Purchases	91,200
Sales returns	1,800
Purchases returns		2,400
Inventory, 1 April 2026	12,500
Rent	9,600
Wages	23,400
Insurance	2,880
General expenses	5,480
Irrecoverable debts	640
Irrecoverable debts recovered		150
Allowance for irrecoverable debts		480
Trade receivables	14,800
Trade payables		9,300
Bank	6,430
Shop fittings at cost	30,000
Accumulated depreciation: fittings		9,000
Delivery van at cost	19,200
Accumulated depreciation: van		6,000
Drawings	14,000
Capital		56,000
Totals	231,930	231,930

Adjustments: closing inventory 14,200; wages owing 900; insurance prepaid 720; rent prepaid 1,600; a further 400 of trade receivables irrecoverable; allowance 5% of remaining receivables; fittings depreciated 10% of cost; van 20% reducing balance. The van account includes 1,200 of repairs.

Working: repairs are revenue expenditure, so van cost is 18,000, net book value 12,000 and depreciation 2,400. Receivables become 14,400, so the allowance is 720, an increase of 240.

Statement of profit or loss of Calderbank Paints, year to 31 March 2027

	Dollars	Dollars
Revenue (148,600 less returns 1,800)		146,800
Opening inventory	12,500
Purchases less returns (91,200 less 2,400)	88,800
	101,300
Closing inventory	(14,200)
Cost of sales		87,100
Gross profit		59,700
Irrecoverable debts recovered		150
Rent	8,000
Wages	24,300
Insurance	2,160
General expenses	5,480
Irrecoverable debts	1,040
Increase in allowance	240
Van repairs	1,200
Depreciation: fittings	3,000
Depreciation: van	2,400
Total expenses		47,820
Profit for the year		12,030

Statement of financial position at 31 March 2027

	Cost	Acc. dep.	Net book value
Shop fittings	30,000	12,000	18,000
Delivery van	18,000	8,400	9,600
Non-current assets			27,600
Inventory		14,200
Trade receivables less allowance (14,400 less 720)		13,680
Prepayments (720 + 1,600)		2,320
Bank		6,430
Current assets		36,630
Trade payables	9,300
Other payables (wages)	900
Current liabilities		10,200
Net current assets			26,430
Net assets = capital (56,000 + 12,030 − 14,000)			54,030

A service business has the same adjustments but no inventory or cost of sales: fees less expenses gives profit.

Incomplete records. Rebuild the missing figures. Naveen Rudd runs a market stall. Opening assets 15,000 less liabilities 2,600 give opening capital 12,400; closing assets 17,900 less liabilities 2,200 give 15,700. With drawings of 9,600 and no new capital, profit = 15,700 − 12,400 + 9,600 = 12,900. Credit sales come from a total trade receivables account: receipts 61,000 + closing 2,700 − opening 2,100 = 61,600. Purchases work the same way from trade payables: payments 38,000 + 2,200 − 2,600 = 37,600. Partnerships use the same methods.

Net assets of 54,030 (non-current assets 27,600 plus net current assets 26,430) equal capital of 54,030 (56,000 less drawings 14,000 gives 42,000, plus profit 12,030). — Net assets equal capital after drawings and profit.

A line graph for an asset costing 24,000 pounds at 25 percent: straight line falls 6,000 pounds a year to zero in year 4; reducing balance charges 6,000, 4,500, 3,375 and 2,531 pounds, leaving a carrying amount of 7,594 pounds after four years. — Straight line charges the same each year; reducing balance charges a percentage of the falling carrying amount.

The trial balance totals 274,470 pounds each side and is adjusted by seven notes. Gross profit of 84,200 pounds plus commission of 2,100 pounds less expenses of 56,175 pounds gives profit of 30,125 pounds. Opening capital 39,670 plus profit less drawings 19,200 gives closing capital of 50,595 pounds, equal to net assets. — Profit flows into capital, and capital equals net assets, which proves the statements balance.

Opening capital of 13,480 pounds plus the missing profit of 10,420 pounds, plus 5,000 pounds introduced, less 19,200 pounds drawings, gives closing capital of 9,700 pounds. Capital fell by 3,780 pounds although there was a profit. — Profit = closing capital - opening capital + drawings - capital introduced.

Two T-accounts show credit sales of 42,800 pounds and cash sales of 45,400 pounds as balancing figures. Each account balances at 46,000 and 45,550 pounds, and revenue is 88,200 pounds. — The missing figure in a total account is the one that makes it balance.

Partnerships (1.5.3)

Agreement and the Act. A partnership agreement usually sets out: capital each partner contributes, profit-sharing ratio, partners’ salaries, interest on capital, interest on drawings, interest on loans, and what happens when a partner joins or leaves. Advantages: fewer disputes, written rules, rewards matching capital and effort. Disadvantages: changing it needs everyone to agree, drafting costs time, and terms can become unfair. Without an agreement, the Partnership Act 1890 applies, and it divides profits and losses equally; there are no partners’ salaries; no interest on capital; no interest on drawings; and a partner’s loan to the firm earns 5% a year.

Capital and current accounts. Fixed capital accounts show the permanent investment and change only by agreement. Current accounts record the yearly flow: profit share, salary and interest on capital are credited; drawings and interest on drawings are debited. This keeps investment apart from day-to-day withdrawals. A debit balance on a current account shows a partner has drawn more than earned.

Hana Soames and Tomas Kasprzak run a physiotherapy practice. Their agreement: profits shared 3 : 2, 5% interest on capital (Soames 60,000, Kasprzak 40,000), a salary of 14,000 for Kasprzak and 4% interest on drawings. Kasprzak also lent the firm 20,000 at 5%. Drawings were Soames 18,000 and Kasprzak 15,000, taken evenly through the year, so interest runs for half a year: 360 and 300. Fees were 214,300, expenses 154,960 and loan interest 1,000, which is an expense, not an appropriation.

Profit for the year: 214,300 − 154,960 − 1,000 = 58,340.

Appropriation account, year ended 30 June 2027

	Soames	Kasprzak	Total
Profit for the year			58,340
Interest on drawings	360	300	660
			59,000
Salary		14,000	(14,000)
Interest on capital	3,000	2,000	(5,000)
Residual profit			40,000
Share 3 : 2	24,000	16,000

Current accounts (debit side: drawings and interest on drawings; credit side: the rest)

	Soames	Kasprzak
Opening balance	2,100 Cr	1,400 Dr
Salary		14,000
Interest on capital	3,000	2,000
Share of residual	24,000	16,000
Drawings	(18,000)	(15,000)
Interest on drawings	(360)	(300)
Closing balance (Cr)	10,740	15,300

The statement of financial position shows capital 100,000, current accounts 26,040 and the partner’s loan 20,000 (non-current liability): 146,040 in total. Without an agreement, the Act would share the 58,340 equally: 29,170 each.

Four bars compare how a 48,000 pound profit is shared between Ryder and Sloane. With no agreement each receives 24,000 pounds. With an agreed 15,000 pound salary for Sloane and 8 percent interest on capital, Ryder receives 18,100 pounds and Sloane 29,900 pounds. — Without an agreement profit is shared equally; an agreement lets reward match capital and effort.

Profit before loan interest of 84,900 pounds has 900 pounds of partner loan interest deducted as an expense, leaving 84,000 pounds. That profit passes to the appropriation account, whose items (interest on capital, salary, residual shares) are shares of profit, with interest on drawings added. — Loan interest is an expense before profit; salaries and interest on capital are shares of profit after it.

A waterfall takes profit for the year of 84,000 pounds, adds 1,350 pounds interest on drawings, deducts 6,000 pounds interest on capital and Nash's 18,000 pound salary, leaving 61,350 pounds shared 3:2:1 as 30,675, 20,450 and 10,225 pounds. — Profit plus drawings interest is shared out as interest, salary and residual shares.

Marsh's current account debits (drawings 24,000 and interest on drawings 450 pounds) total 24,450 pounds while credits total 23,550 pounds, so a 900 pound debit balance balances the account. Capital accounts of 120,000 pounds plus current accounts of 4,700 pounds give equity of 124,700 pounds. — Drawing more than is credited leaves a debit balance on the current account.

Limited companies (1.5.4)

Ordinary shares carry votes and a dividend that varies with profit; holders rank last and bear most risk. The syllabus says questions will not be set on preference shares. A dividend is paid out of profit, so it is shown in the statement of changes in equity and never as an expense when finding profit. Debentures are long-term loans at fixed interest, paid whether or not there is profit, so the interest is charged as a finance cost against profit and the debenture is a liability. Reserves are the shareholders’ stake beyond share capital. Capital reserves (share premium and revaluation reserve) arise from capital events, not trading, and are not normally used for cash dividends. Revenue reserves (retained earnings and general reserve) come from profits kept back.

Ledger accounts. Issue at par: debit bank, credit ordinary share capital. At a premium: debit bank with the full cash, credit share capital with the nominal value and share premium with the excess. A rights issue lets current shareholders buy new shares pro rata to what they already hold, usually at a discount. Hartsmere Cycles Ltd has 200,000 ordinary shares of 1 each and issues them 1 for 4 at 1.50. That is 50,000 shares:

Account	Debit	Credit
Bank (50,000 × 1.50)	75,000
Ordinary share capital (50,000 × 1.00)		50,000
Share premium (50,000 × 0.50)		25,000

A bonus issue gives free shares by capitalising reserves, with no cash received. A 1 for 10 bonus on 250,000 shares is 25,000 shares: debit retained earnings 25,000, credit ordinary share capital 25,000. The syllabus says the revaluation reserve is not used for a bonus issue. Total equity is unchanged.

Hartsmere Cycles Ltd: statement of profit or loss, year ended 31 December 2027

	Dollars
Revenue	612,000
Cost of sales	(372,000)
Gross profit	240,000
Distribution costs	(41,500)
Administrative expenses	(96,300)
Debenture interest (8% × 60,000)	(4,800)
Profit for the year	97,400

Statement of changes in equity

	Share capital	Share premium	General reserve	Retained earnings	Total
Opening	200,000	20,000	15,000	48,000	283,000
Rights issue	50,000	25,000			75,000
Profit for the year				97,400	97,400
Dividends paid (16,000 + 25,000)				(41,000)	(41,000)
Transfer to general reserve			10,000	(10,000)	0
Closing	250,000	45,000	25,000	94,400	414,400

The statement of financial position shows the same closing equity. Adding debentures of 60,000 (non-current liability) and current liabilities of 48,200 gives 522,600, equal to non-current assets of 365,600 plus current assets of 157,000.

A waterfall for Hartsmere Cycles Ltd takes profit before interest of 102,200, deducts 4,800 debenture interest as an expense to reach profit for the year of 97,400, then shows dividends of 41,000 and a 10,000 transfer to general reserve leaving 46,400 in retained earnings. — Debenture interest is an expense before profit; dividends and reserve transfers share out profit.

Two equal columns of 522,600: assets of 365,600 and 157,000 against share capital 250,000, share premium 45,000 (capital reserve), general reserve 25,000 and retained earnings 94,400 (revenue reserves), debentures 60,000 and current liabilities 48,200. — Reserves split into capital and revenue reserves inside a balancing statement of financial position.

A 1 for 4 rights issue at 1.50 on 200,000 shares gives 50,000 new shares and 75,000 cash: debit bank 75,000, credit share capital 50,000 and share premium 25,000. — A rights issue at a premium splits cash into share capital and share premium.

A bar for one 1.20 pound share splits into 0.50 nominal and 0.70 premium. Multiplied by 200,000 shares, 240,000 pounds arrives in the bank: 100,000 to share capital and 140,000 to share premium, both equity. The premium is not income and never reaches the income statement. — The premium above nominal value goes to share premium, not to the income statement.

Equity of 605,000 pounds rises to 725,000 after a 1 for 4 rights issue (120,000 of cash). A 1 for 5 bonus issue then moves 75,000 from share premium to share capital with no cash and no change in the 725,000 total. — A rights issue raises cash; a bonus issue only moves reserves into share capital.

A waterfall for Brackwood Joinery Ltd takes revenue 612,000 down through cost of sales to gross profit 264,700, then operating expenses to profit from operations 63,100, finance costs to profit before tax 59,500 and tax to profit after tax 38,500. Dividends are not an expense and do not appear. — Companies show three profit lines; dividends are not an expense.

Equity builds from 143,200 pounds to 246,700 pounds. A share issue adds 50,000 to share capital and 30,000 to share premium, profit after tax adds 38,500 to retained earnings and dividends paid deduct 15,000 from retained earnings. — Each movement in the year lands in one component of equity.

Option	For the company	For the shareholders
Bonus issue	No cash paid out; lower share price aids trading	More shares, same total value and percentage; no cash raised
Rights issue	Raises cash cheaply, no new owners, no interest	Discounted shares and kept percentage; must find cash or be diluted
Issuing shares	No fixed charge or repayment	Dilutes control and dividends
Issuing debentures	No loss of control; interest is an expense	Fixed interest and priority, but no vote

Disadvantages to remember: a bonus issue raises no cash and turns reserves into capital; a rights issue needs shareholders to pay; debentures need interest and repayment even in a poor year.

Sources of finance for purposes. Match the finance to the need and its time span. Buying a building: a share or rights issue, debentures or retained earnings. A seasonal inventory build-up: an overdraft or trade credit. Check cost, repayment, control and risk.

A grid of bonus issue, rights issue, new shares and debentures: raises cash (not bonus), dilutes control (new shares only), interest and repayment due (debentures only). — A bonus issue raises no cash; only debentures carry interest and repayment.

A long-term need (buy a building) is matched to a share or rights issue, debentures or retained earnings; a short-term need (seasonal inventory) to an overdraft or trade credit. Then check cost, repayment, control and risk. — Match the finance to the need and its time span.

Common errors

Charging the whole allowance instead of the change.
Treating loan or debenture interest as an appropriation.
Recording cash in a bonus issue.

Frequently asked questions

How is the allowance for irrecoverable debts calculated? Write off irrecoverable debts first, then apply the percentage to the receivables that remain. Only the change in the allowance is charged or credited in the statement of profit or loss.

What is the difference between ordinary shares and debentures? Ordinary shares carry votes and a dividend that varies with profit, and holders rank last and bear most risk. Debentures are loans: their interest is a finance cost charged whether or not there is a profit, and they are shown as non-current liabilities.

What is a bonus issue? A bonus issue gives existing shareholders free shares by capitalising reserves, so no cash is received. Recording cash in a bonus issue is a common error.

Is loan or debenture interest an appropriation of profit? No. Loan and debenture interest are expenses charged in the statement of profit or loss. Appropriations in a partnership include salaries, interest on capital and interest on drawings.

Which section of Cambridge 9706 covers AS financial statements? Section 1.5 Preparation of financial statements is AS Level content covering adjustments to a trial balance and the accounts of sole traders, partnerships and limited companies.

Official syllabus

Cambridge International AS & A Level Accounting 9706, syllabus for exams in 2026, 2027 and 2028, Cambridge Assessment International Education, section 1.5.

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