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Accounting – Revision For Mid Term Exam
Academic Year Dr. Clive Vlieland-Boddy
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IFRS Vs GAAP Started as a EU standard. Now world wide except USA
USA will eventually concede and accept. Strength gained after failures of WorldCom and Enron. Makes international comparison simpler. Accounts are founded on the same basis worldwide.
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Self Regulatory Vs Statutory
Precise rules Vs shared principles A book of rules Vs laid out principles.
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Stakeholders Any party interested in the financial statements.
Include: Shareholders Governments Public Employees Customers Suppliers Lenders
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Stakeholders
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Double Entry Bookkeeping
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Name of Account Debit Credit
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Debits Assets Bank Receipts Expenditures Losses
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Credits Liabilities Bank Payments Shareholders Funds Incomes (Sales)
Profits
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Accounting Concepts Going Concern Matching or Accruals Consistency
Prudence
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Revision of Understanding Financial Statements
Professor Clive Vlieland-Boddy FCA FCCA MBA PhD EU 2009
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The Balance Sheet
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Assets Have to have a value
Either Current or Non Current ( either < or > 12 months. Should be shown at actual cost but can be revalued
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Current Assets Short term business assets < 12 months to covert to cash. Examples: Accounts Receivable, Inventories, WIP and Sundry Prepaiments
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What are Current Assets?
Current assets include cash and those assets that are expected to be converted to cash or used up within one year, or an operating cycle, whichever is longer. Current Assets include Cash Inventories Marketable Securities Prepaid Expenses Accounts Receivable Other Short Term Assets Current assets include cash and those assets that are expected to be converted to cash or used up within one year, or an operating cycle, whichever is longer. Short-term securities, receivables, inventories and prepaid expenses are all classified as current assets.
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Uncollectible Accounts – Bad Debts
L O 5 If a company makes credit sales to customers, some accounts inevitably will turn out to be uncollectible. If a company makes credit sales to customers, some accounts inevitably will turn out to be uncollectible. PAST DUE
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Prepaid Expenses and Other Current Assets
L 1 Expenses that have been paid in the current fiscal period but will not be subtracted from revenue until a subsequent fiscal period. Examples: Insurance Rent Prepaid Expenses require adjusting entries Assets are decreased Expenses are increased Prepaid expenses are expenses that have been paid in the current fiscal period but will not be subtracted from revenue until a subsequent fiscal period.
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Non Current Assets (Fixed Assets)
Tangible Intangible Investments
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Tangible Assets that can be seen and touched
Purchased to enable the business to function Examples: Cars, Vans, Planes, Boats & Plant & Equipment
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Intangible Invisible Non Current Assets
Examples: Patents, Trade Marks, Know How, Brand Names and Goodwill
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Investments Investments in companies for long term benefit. Normally to control supply chain or extend monopoly.
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Liabilities Represent a responsibility which will have to be settled.
Either Current or Non Current ( either < or > 12 months
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Current Liabilities Short term liabilities < 12 months
Examples: Accounts Payable, Tax, Dividends Payable & Accrued Expenses
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Non Current Liabilities
Long term liabilities > 12 months Examples: Loans, Mortgages & Deferred Tax
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Shareholders Funds Represents the monies that the owners have invested in the business. Is a liability of the business to those investors. Shares and retained profits
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Does it Balance? Assets = Liabilities + Shareholders funds
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The Income Statement
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Sales ( Revenues )
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What represents a sale? We have looked at revenue recognition
When is a transaction treated as a sale? Vital we must match income with expenditure. Vital we are consistent.
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Cost of Sales
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What makes up Cost of Goods Sold?
We need to match what has been sold to the real costs of those sales. What has been sold has been consumed. We normally look at: Opening Inventories Add Purchases made in the period Then subtract closing inventories
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Specific Identification
L O 8 When a unit is sold, the specific cost of the unit sold is added to cost of goods sold. When a unit is sold, the specific cost of the unit sold is added to cost of goods sold.
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First-In, First-Out (FIFO)
L O 8 Costs of Goods Sold Oldest Costs Ending Inventory Recent Costs The First-in, First-out (FIFO) method assigns the oldest costs to cost of goods sold and the recent costs to ending inventory.
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Last-In, First-Out Method (LIFO)
L O 8 Costs of Goods Sold Recent Costs Recent Costs Ending Inventory Oldest Costs Last-in, Last-out (LIFO) method assigns recent costs to cost of goods sold and the oldest costs to the ending inventory.
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The Impact of Changing Costs
L O 8 In periods of rising costs, LIFO results in lower ending inventory and higher cost of goods sold than FIFO. In periods of rising costs, LIFO results in lower ending inventory and higher cost of goods sold than FIFO.
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Inventory Accounting System Alternatives
L O 8 Inventory Accounting System Alternatives Periodic Inventory System Perpetual Inventory System Cost of goods sold is determined at the end of the fiscal period. Cost of goods sold is determined each time inventory is sold. Alternative inventory accounting methods include the periodic inventory system that determines cost of goods sold at the end of the fiscal period; and the perpetual inventory system that determines cost of goods sold each time inventory is sold.
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Inventory Accounts Product available to be sold Merchandise Inventory
L O 8 Product available to be sold Merchandise Inventory Retail Firm Used to produce products Finished Goods Inventory Raw Materials Inventory Work in Process Inventory Manufacturing Firm Inventory accounts for retail firms are usually called merchandise inventory while inventory accounts for manufacturing firms could include finished goods, raw materials and work-in-process inventories. Finished Goods Inventory represents products which are ready for sale to customers. Raw materials inventory consists of items purchased by the organization that will be incorporated into a finished product for sale. Work in process inventory consists of products that have entered the manufacturing process but are not 100% complete or in a finished state to be sold to customers. Partially completed products
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Lower of Cost or Net Realisable Value
Inventory must be reported at realisable value when it is lower than cost. Defined as current replacement cost (not sales price). Consistent with the conservatism principle. Can be applied three ways: (1) separately to each individual item. (2) to broad categories of inventory. (3) to the whole inventory. Inventory must be reported at market value on the balance sheet when the market value is lower than cost which is consistent with the conservatism principle. Market is defined as current replacement cost (not sales price). Lower of cost or market can be applied three ways: (1) applied separately to each individual inventory item, (2) applied to broad categories of inventory, or (3) applied to the whole inventory.
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This gives us the total cost of what has been sold.
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Gross Profit or Margin
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By subtracting the cost of goods sold from sales we arrive at the gross profit/margin
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Trading Statement Sales 160,000 Less Cost of Sales
Opening Inventories ,000 Add Purchases ,000 Less Closing Inventories -18,000 Cost of goods Sold ,000 Gross Profit/Margin ,000
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Gross Profit % Sales – Cost of Sales = GP % (Margin)
Very important ratio
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Overheads, EBIT & Beyond
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Overheads Expenses consumed in the period
We may need to adjust what is incurred to what is actually consumed!
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Overheads Normally grouped under a few principal headings.
Examples: Sales and Marketing, General Admin and Depreciation
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Incurred Vs Consumed We may well incur expenses but we need to evaluate these. We should only show what has actually been consumed. Example: We may have received invoice for telephone or insurance but for what period do those represent? They can easily be for the previous or next accounting period. We need to adjust these
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The Matching Concept
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Revenue Vs Capital Expenditure
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Capital Expenditure Companies buy items to sell on to customers but might also acquire for its own use. Take a computer retailer. It will buy computers to sell to customers but may also keep some for its own use. Again we return to what has been consumed?
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Capital Expenditure Represents a NON CURRENT asset.
It is an expense but expected to last more than 12 months. Example: Microsoft develops a new version of windows over 12 months at a cost of $100m. It then expects to sell the new version over the following 2 years generating revenues of $150m per year.
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MS Development Expenditure
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Non Current Liabilities
Balance Sheet End Accounting Period Income Statement Accounting Period 1 Current Assets Non Current Assets Expenditure Incurred on Development $100m Current Liabilities Non Current Liabilities Equity Sales Less Cost of Sales Opening Inventories Add Purchases Less: Closing Inventories Gross Profit Deduct Overheads Expenditure Incurred on Development $100m EBIT
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Balance Sheet End Accounting Period 2 Income Statement Accounting Period
Current Assets Non Current Assets Expenditure Incurred on Development 100m Less: consumed part (50%) -50m Current Liabilities Non Current Liabilities Equity Sales New Ver 150m Less Cost of Sales Opening Inventories Add Purchases Less: Closing Inventories Gross Profit Deduct Overheads Consumed R & D 50m EBIT
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Non Current Liabilities
Balance Sheet End Accounting Period Income Statement Accounting Period 3 Current Assets Non Current Assets Expenditure Incurred on Development m Less: consumed part (100%) m Current Liabilities Non Current Liabilities Equity Sales New Ver 150m Less Cost of Sales Opening Inventories Add Purchases Less: Closing Inventories Gross Profit Deduct Overheads Less Consumed R & D 50m EBIT
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What is Actually Consumed
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Question? What is left? Consumption means we have eaten it all.
What we have not eaten remains and is shown on the Balance Sheet. Example: A company making Orange juice may well purchase many tons of oranges. It will crust these to extract the juice. At the end of an accounting period it way well have sold 1000’s of gallons but may also have some still in their warehouse as well as tons of un crushed oranges.
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Matching Vs Prudence
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Meaningful Results We need to balance the aim of a meaningful result by applying the matching and prudence concepts. Yes be cautious but don’t destroy the real picture. And remember … try to be consistent!
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Questions
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Question 1 What is Historic Cost?: Answer:
The current value The future value The Original Cost All of the above Answer: c. It represents the price originally paid.
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Question 2 What do you understand by Shareholders Funds: Answer: c.
Monies invested in the company by the shareholders. Accumulated retained profits. All of the above Answer: c.
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Question 3 What are debtors?: Answer: b. Accounts Receivable
Accounts Payable Bad Debts All of the above Answer: b. Accounts Receivable
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Question 4 What are accounting policies? Answer: d. All of the above
A summary of the ways management have prepared the financial statements. Require subjective judgement. Should normally follow industry standards All of the above Answer: d. All of the above
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Question 5 What is capital expenditure: Answer: d. All of the above
Results in a Non Current Asset Is expenditure that is expected to last for more than 12 months.. All of the above Answer: d. All of the above
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Question 6 What is Deferred Tax?: Answer:
Tax that has to be paid to the government within 12 months Tax that is never going to be paid Tax that will be payable in the future but more than 12 months away. Is shown as a Non Current liability. C and d are correct Answer: e. It is both delayed by 12 months and therefore shown as a Non Current Liability.
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Question 7 What are retained Earnings: Answer:
Profits distributed to shareholders Profits not distributed to shareholders Belongs to the shareholders B and c are correct Answer: d. They represent profits generated by the company and they belong to the owners.
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Question 8 What is Gross Profit/Margin: Answer: f. EBIT
Sales Less the cost of sales Represents the gross margin made by the company from its day to day trading. Is a very useful % to evaluate management control Represents the profits made from buying and selling goods. B.C D and E Answer: f.
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Question 9 What are Ordinary or Common Shares?. Answer:
Represents the owners of the company. They rank behind all other investors for payment. 50 + % controls the company. All of the above Answer: d. All of the above
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Question 10 What is Net Book Value: Answer: d.
The value of the Current Assets The value of the Non Current Assets Represents the original cost less the total depreciation to date B and C are correct Answer: d.
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Question 11 What is a contingency? Answer: d.
An event less than 50% likely to happen. Has a possible financial outcome Should be noted in the financial statements but not included in the accounts. All above are correct Answer: d.
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Question 12 Do you trust the report of the auditors?: Answer:
May be! Possibly! Definitely What stupid question. Answer: well we all learn…………………
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Question 13 What is Treasury Stock?: Answer: d.
The amount of shares repurchased by the company Is shown under shareholders funds Represents the total amount actually paid for the shares repurchased. All the above are correct. Answer: d.
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Question 14 What is an Extraordinary Item. ?: Answer: d.
An item unlikely to happen again. If shown before EBIT would distort the trend data. Is shown after EBIT All the above are correct. Answer: d.
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Question 15 What do you understand by fair value accounting (Mark to Market)?: Replaces original historic cost with current value. Is permitted by IFRS. Was totally misused by Enron All the above are correct. Answer: d.
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