financial accounting & reporting fundamentals · financial accounting & reporting...
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C A S R I L A N K A C U R R I C U L U M 2 0 1 5
KE1
Financial Accounting &
Reporting Fundamentals
(English)
A d d i t i o n a l S t u d y S u p p o r t M a t e r i a l
This document is designed to use as an additional study support material. The students are
advised to refer the contents presented in the study text and the additional study support
material under each chapter. The students who have already purchased the “Executive
Level KE 1 – Financial Accounting & Reporting Fundamentals” study text are also advised
to refer this study support material.
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Contents
KE1 Financial Accounting and Reporting Fundamentals
Part A Business Environment and Accounting Framework
1 Accounting and accountability 3
2 Financial statements 11
3 The conceptual framework 16
Part B Accounting Records and Preparing Financial Statements
4 Accounting records 18
5 Double entry bookkeeping and ledger accounting 21
9 Non-current Assets 22
Part C Error Identification and Correction
11 Bank reconciliations 24
Part D Other Types of Entity
15 Partnerships 30
16 Introduction to company accounting 56
Part E Accounting standards
18. Preparation of Financial Statements for Companies 59
27. Interpretation of Financial Statements 80
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Additional Content for Chapter 1
Accounting and Accountability
Heading: 5 :Governance (Learning Outcome 1.1.1)
Page No. 18
The section in the Study Text explains only about the Directors and their responsibilities
under the governance structure. The role of Chairman, Chief Executive Officer and other
committees are also a part of the governance structure of a company and are further
explained below.
Chairman and Chief Executive Officer
There are two key tasks at the top of every company. They are conducting business of the
board, and facilitating executive responsibility for management of the company’s
business. While the chairman of a company is responsible for conducting the business of
board, Chief Executive Officer is responsible for day to day management of the company’s
business.
Chairman’s Role
Chairman is responsible for conducting business of the board. As the person responsible
for running the board, the chairman should preserve order and facilitate the effective
discharge of board functions. The chairman should conduct board proceedings in a
proper manner and ensure the following;
The board is in complete control of the company’s affairs and alert all the
stakeholders towards its obligations.
A proper balance of power between executive and non-executive directors should
be maintained.
All directors are encouraged to make an effective contribution within their
respective capabilities.
The effective participation of both executive and non-executive directors are
secured.
Chief Executive Officer’s Role
Chief Executive Officer (CEO) is the most senior role in any company. The CEO is selected
and appointed by the board and reports through the chairman to the board. The CEO is
responsible for the attainment of the company’s mission and business growth,
profitability and service level objectives through leadership that inspires people
efficiently & effectively to execute strategies and plans.
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Committees of a Modern Business Organisation
It can be increasingly seen that several committees have been established within the
limited liability companies by the Board of Directors to ensure proper discharge of their
duties to the company. Generally all committees of business organisations are headed by
a member of the board who will be supported by other board/non-board members.
Committees discuss the matters pertaining to the scope of the committee and inform
board about the decisions taken for ratification/information.
The following committees could be commonly seen in most of the business organisations.
Audit committee
Risk management committee
Remuneration committee
Related partly transaction review committee
Duties and responsibilities of some of these committees are explained below.
Audit Committee
Generally the audit committee consists of the non-executive directors of the company.
Chairman of the audit committee should be a member of a professional accountancy body.
Given below are some of the activities of the audit committee.
Reviewing the internal controls and recommending improvements to the internal
control system.
Review and approve internal audit plan
Provide directions to the internal audit team.
Ensure that the financial statements are prepared in compliance with an
applicable financial reporting framework.
Risk Management Committee
Risk Management Committee is a subcommittee of the board whose principal functions
are as follows.
Review and formulate management’s recommendations to the board on risk and
risk management.
Make recommendations to the board on the company’s risk appetite.
Provide direction to management and employees on risk matters.
Maintain oversight of the risk management function and enterprise risk
management.
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Remuneration Committee
This consists of independent directors of the company. The following are some of the
activities of the committee.
Decide the remuneration policy especially for the CEO and the other management
team.
Deciding the targets for board of directors & CEO.
Evaluate the achievements of CEO.
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Heading: 6 :External environmental factors (Learning Outcome 1.1.3)
Page No. 20
Further explanation of the external environment factors which affect the accounting process
is presented below.
Accounting Environment
This environment can be sub divided into external and internal environment. Internal
environment can be controlled by the management. External environment is beyond the
control of the individual business and the business has to be adjusted accordingly. For an
example, after introducing the Value Added Tax, the business organisations which fall
under liable business organisations had to amend their systems and records to be in line
with the requirements of Value Added Tax law. All the people who are engaged in
accounting must have a proper knowledge about such changes and should be capable of
adjusting to the new requirement. This accounting environment can be discussed under
following headings.
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(a) Political and Economic Environment
Changes in economic and political environment have a direct impact on the accounting
process. Therefore, it is essential to know how the changes in economic activities affect
the business as well as the accounting process. If a new tax is imposed by the government,
business organisations should adopt it by doing necessary changes to the accounting
process.
For example, the following may have an impact to the business organisations.
Changes in foreign exchange
International economic depressions
Changes in powerful leaders of countries
Privatisation of corporations
Government tax policy
Change in interest rates
Changes in relationship between salaries, price level, cost of living and savings-
investment
Inflation
(b) Social and Cultural Environment
Business will be affected by the social and cultural values of the country. Some attitudes,
beliefs, behaviours directly or indirectly affect the organisational operations. In some
occasions, religious festivals directly affect the company operations, such as production,
deliveries, marketing etc.
Examples
During the Sinhala-Hindu festive season, there is a high demand for new clothes,
food items, crackers, paintings, etc.
During Vesak festival season, the demand for Vesak cards, oil lamps, coconut oil
will increase.
During the X-mas season, there is a big demand for crackers, cake ingredients,
clothes, gifts, etc.
Change in population structure, social and cultural values also have an impact on the
business.
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(c) Technological Environment
Modern technical developments have a major impact on the business. Most of the times,
these technical developments had led the business transactions into a more sophisticated
level.
As an example the accounting activities have become more convenient due to the
development of computer systems. The preparation of financial statements has become
more convenient in a computerised environment when compared with the manual
process.
Because of the technological advancements, the payment methods also have been
improved into more advanced, quick and more secured methods. For example, various
card payment methods (Debit Cards, Credit Cards, MasterCards, etc.) have advanced the
payment methods instead of conventional coin-notes system.
(d) Legal Environment
Business organisations should carry out its activities within the legal framework
applicable to them. Whenever there is a change in legal framework or new law is enforced,
it might affect the accounting process of a business organisation.
For example, when new accounting standards are introduced, business organisations
should prepare financial statements based on the newly introduced accounting
standards.
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Heading: 1 : Purpose of Financial Reporting (Learning Outcome 1.1.6)
Five ethical principles are explained below to identify the ethical requirement of the
financial reporting and the consequences of the unethical behaviour.
Five basic ethical principles
There are five basic ethical principles to be followed by the accountants. They are:
(a) Integrity
(b) Objectivity
(c) Professional competence and due care
(d) Confidentiality
(e) Professional behaviour
(a) Integrity
This means that accountant should be straight forward and honest in his/her
professional and business relationships. Integrity also implies dealing fairly with
other people and being truthful. Therefore, an accountant should not be associated
with reports or other communications that,
• he/she believes contain false or misleading information
• omit or obscure information, which makes the communication misleading.
An accountant who always acts with integrity will be trusted by the people who are
regularly dealing with him/her. Integrity of accountants in the business will enhance
the trust of the general public in the profession.
(b) Objectivity
Objectivity is the principle that all professional and business judgments should be
made fairly on the basis of an independent and intellectually honest appraisal
of information. Further it is stated that professional judgement should be:
free from all forms of prejudice and being bias
free from factors which might affect impartiality, such as pressure from a
superior, financial interest in the outcome, a personal or professional
relationship with one of the parties involved, or a conflict of interest.
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(c) Professional competence and due care
The principle of professional competence and due care imposes an obligation on
accountants to:
maintain their professional knowledge and skill at the level required to ensure
that their clients or employers receive a competent professional service.
act diligently, in accordance with applicable, technical and professional
standards when providing professional services.
(d) Confidentiality
The principle of confidentiality imposes an obligation on a professional accountant
to refrain from:
Disclosing to anyone outside the firm (or employer organisation) any
confidential information that is acquired as a result of professional and business
relationships, without proper and specific authority. The only exceptions are in
circumstances where the accountant has a legal duty or a professional
right/duty to disclose the information.
Using confidential information to their personal advantage or the advantage of
a third party.
(e) Professional behaviour
The principle of professional behaviour imposes an obligation on members to comply
with relevant laws and regulations and avoid any action that may bring a disrepute to the
profession.
Ethical requirements of financial reporting
Ethics are standards or rules of behaviour and represent a view about how people should
conduct themselves in a better way. Members of the Institute of Chartered Accountants
of Sri Lanka should follow the ethics stipulated by the Institute.
Reasons as to why accountants should behave ethically
The profession requires members to conduct themselves properly and provide
services to the public according to certain standards.
By upholding these standards, the profession's reputation and standing is
protected.
An accountant’s ethical behaviour serves to protect the public interest.
Consequences of unethical behaviour will result in disciplinary action against the
accountant by their employer or professional body.
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Additional Content for Chapter 2
Financial Statements
Heading: 1 The main elements of financial reports (Learning Outcome 1.2.3 & 1.2.4) Page No. 28
Components of financial statements are explained below with the formats in addition to
contents presented in the Study Text.
Components of Financial Statements
Generally financial statements are prepared for any business annually. As per the periodic
concept, the profits and losses of a business are computed for a period. In practice this
period is one year. In Sri Lanka, most of the business organisation's financial year
commences on April 1 and ends on March 31 of the subsequent year. Government
departments consider the calendar year as the financial year. This calendar year is treated
as the government financial year. Calendar year covers a period commencing from
January 1 to December 31 in each year. Financial statements are really useful for the
parties interested in the business and they are taking economic decisions based on the
information in the financial statements.
Given below are the components of the financial statements.
Statement Objective
1 Statement of Financial Position Shows the financial position as of a given
date.
2 Statement of Profit & Loss and
other comprehensive income Shows the total comprehensive income for a
given period.
3 Cash Flow Statement Disclose the cash receipts and payments in a
given period.
4 Statement of Changes in Equity Describe how the changes happened to the
equity of the company in a given period.
5 Accounting Policies and Notes to the
Accounts
Describe and explain the details of the items
shown in the face of the statement of profit
and loss, statement of financial position, and
accounting policies used in the preparation
of financial statements.
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1. Statement of Financial Position
Statement of Financial Position explains the financial position of a business
organisation as at a particular date.
Specimen of statement of financial position is given below.
X PLC
Statement of Financial Position as at March 31, 2016
Non-current Assets Rs’000 Rs’000
Property, plant and equipment XXXX
Financial assets XXXX
Intangible assets XXXX XXXX
Current Assets
Stocks XXXX
Other receivables XXXX
Trade receivables XXXX
Financial assets XXXX
Cash & cash equivalent XXXX XXXX
Total Assets XXXX
Equity and Liabilities
Equity
Stated capital XXXX
Revaluation surplus XXXX
Retained profits XXXX XXXX
Non-current Liabilities
Long-term borrowings XXXX
Retirement benefit obligations XXXX XXXX
Current Liabilities
Trade payables XXXX
Short-term borrowings XXXX
Accruals XXXX XXXX
Total Equity and Liabilities XXXX
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2. Statement of Profit & Loss and Other comprehensive income
Statement of profit and loss and other comprehensive income account is prepared to
compute the total comprehensive income for the accounting period.
Specimen format of statement of profit & loss and other comprehensive income is given
below.
X Plc
Statement of Profit & Loss & Other Comprehensive Income for the year ended
March 31, 2016
3. Statement of Cash Flow
Statement of Cash flow explains the cash and cash equivalent generated and how it
is distributed within a period. Cash or cash equivalent is the cash, bank balances and
the call deposits. Cash flow explains how the cash was generated by the business within
a period and how it was spent.
Statement of cash flow which provides information that enables users to evaluate the
changes in net assets of an enterprise, its financial structure (including its liquidity
and solvency) and its ability to affect the amounts and timing of cash flows in order to
adopt to changing circumstances and opportunities. Cash flow information is useful in
assessing the ability of the enterprise to generate cash and cash equivalents.
Rs. Rs.
Turnover xxxx
Less: Cost of sales (xxxx)
Gross profit xxxx
Other income xxxx
Less : Expenses
Administration & establishment (xxxx)
Selling & distribution (xxxx)
Finance cost (xxxx)
profit before tax xxxx
Income tax (xxxx)
Profit for the year xxxx
Other comprehensive income
Revaluation surplus xxxx
Gain on remeasurement of AFS Financial assets xxxx xxxx
Total comprehensive income xxxx
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Specimen of statement of cash flow is given below.
X Plc
Statement of Cash Flow for the year ended March 31, 2016
Rs. Rs.
Profit before tax xxxx
Add/Deduct- Non-cash items
Depreciation xxxx
Provision for receivables xxxx
xxxx
Working capital changes
(Increase)/Decrease in Inventories xxxx
( Increase)/Decrease in receivables xxxx
Increase /(Decrease) in payables xxxx
xxxx
Income tax paid (xxxx)
Gratuity paid (xxxx)
Cash flows from operating activities xxxx
Investing activities
Acquisition of property, plant & equipment (xxxx)
Proceeds from disposal of property, plant & equipment xxxx
Acquisition of bonds/debentures (xxxx)
Net cash flows from investing activities xxxx
Financing activities
Increase in stated capital xxxx
Long-term loans taken xxxx
Repayment of loans (xxxx)
Net cash flow from financing activities xxxx
Net Increase/(Decrease) in cash & cash equivalents xxxx
Cash & cash equivalents at the beginning of the year xxxx
Cash & cash equivalents at the end of the year xxxxx
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4. Statement of Changes in Equity
Equity of a limited liability company is mainly represented by stated capital and retained
earnings. In a given financial year, there may have been some changes occurred in equity.
Statement of changes in equity is prepared for a particular period to identify the
movements in equity occurred and specimen of statement of changes in equity is given
below.
X Plc
Statement of changes in equity for the year ended March 31, 2016
Stat
ed
cap
ital
AF
S
rese
rve
Rev
alu
atio
n
rese
rve
Ret
ain
ed
pro
fit
To
tal
Opening balance xx xx xx xx xx
Changes in accounting policies - - - xx xx
Share issue xx - - - xx
Total comprehensive income - - xx xx xx
Dividend paid - - - (xx) (xx)
Balance at the end of the year xx xx xx xx xx
5. Accounting Policies and Explanatory Notes
Notes to the accounts are the accounting policies and the other disclosures required.
Various accounting policies are applied when preparing the financial statements and it
is required to disclose these accounting policies with the financial statements for getting
the maximum benefit out of the financial statements. In addition to that details of the
items given on the face of the financial statements are further explained by the notes
to the accounts. As an example property plant and equipment are shown as a line item
in the Statement of Financial Position and the details are shown in the notes to the
financial statements. In addition to this, notes are used to disclose the other contingencies
that are not reflected in the financial statements.
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Additional Content for Chapter 3
The Conceptual Framework
Heading: 1 Background (Learning Outcome 1.2.1)
Page No. 38
The objectives of financial reporting is further explained below in addition to the contents
presented in the Study Text.
1. Conceptual Framework for Financial Reporting
The objective of general purpose financial reporting:
The conceptual framework states that the objective of general purpose financial reporting
is to provide information about the reporting entity that is useful to existing and potential
investors, lenders and other creditors in making decisions about providing resources to
the entity. These users need information about,
The economic resources of the entity
The claims against the entity
Changes in the entity’s economic resources and claims
Information about the entity’s economic resources and the claims against them to help
users to assess the entity’s liquidity and solvency and its likely need for additional
financing. Information about a reporting entity’s financial performance helps users to
understand the return that the entity has produced on its economic resources. This is an
indicator of how efficiently and effectively management has used the resources of the
entity and is helpful in predicting future returns.
Information about a reporting entity’s cash flows during a period, also helps users to
assess the entity’s ability to generate future net cash inflows and gives users a better
understanding of its operations.
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2. The Regulatory Framework for Financial Reporting
The regulatory framework of financial reporting refers to regulations applicable to
financial reporting which includes accounting standards, company law, etc.
2.1 GAAP & Sri Lankan GAAP
GAAP refers to a generally accepted accounting practice. It signifies all the rules and
principles that govern accounting.
In Sri Lanka, the mandatory sources of GAAP are the following:
(a) Accounting standards issued by the Institute of Chartered Accountants of
Sri Lanka.
(b) Companies Act
(c) SEC regulations & rulings
2.2 Sri Lanka Accounting & Auditing Standards Act No. 15 of 1995
This legislation empowers CA Sri Lanka to issue accounting and auditing standards.
The Act requires “specified business entities” to prepare and present their financial
statements in compliance with Sri Lanka Accounting Standards.
2.3 Accounting Standards
The IASB develops and publishes new International Financial Reporting Standards
(IFRS). In 2012, the Institute of Chartered Accountants of Sri Lanka made a decision
to converge fully with all pronouncements issued by the IASB and thereafter to adopt
all pronouncements issued by IASB.
2.4 IFRS Foundation The IFRS foundation is the global body responsible for financial reporting. Its objectives are:
(a) To develop in the public interest, a single set of high quality,
understandable enforceable and globally accepted financial reporting
standards based on clearly articulated principles.
(b) To promote the use and rigorous application of those standards.
(c) To promote and facilitate adoption of IFRS.
The International Accounting Standards Board (IASB) which is a body under IFRS
foundation is responsible for the development of new IFRS.
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Additional Content for Chapter 4
Accounting Records
Heading: 1 The role of source documents (Learning Outcome 2.1.1 & 2.1.2) Page No. 64
A summary of source documents and other records is presented below in addition to contents
presented in the Study Text.
Source Documents and Other Records
Transaction Source
document
Preliminary
book
or Journal
Ledger
account
1 Receipt of cash Receipt Cash book Cash book
2 Cash payment Payment voucher Cash book Cash book
3 Purchase goods on credit Purchase invoice Purchase day book
Purchase account
4 Purchase returns Debit note Purchase return day book
Purchase return account
5 Credit sales Sales invoice Sales day book Sales account
6 Sales return Credit note Sales return
day book
Sales return
account
7 Petty expenses
(Small expenses)
Petty cash
voucher
Petty cash
book Petty cash book
8
Purchase of fixed assets
on credit, bad debts,
transferring to reserves
etc….
Journal voucher General
Journal
Respective
ledger
accounts
Usefulness of source documents
1. Being the basic document in support of the transaction
2. As a proof for the occurrence of the transaction
3. As a basis to record the transaction in the books.
4. Ability to minimise errors & omissions.
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Payment Voucher
Payment Voucher is the source document raised when making payments. The payment
voucher is one of the source documents used to record the transactions in cash book.
Specimen of Payment Voucher is given below.
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Types of Source Documents
Source documents can be divided into two main types based on the use of them in
accounting.
1. Primary source documents
2. Other source documents
Primary source documents
These documents are directly used in recording entries/transactions in journals books of
prime entry. The following are primary source documents:
Payment voucher
Receipt
Invoice
Debit note
Credit note
Petty cash voucher
Journal voucher
Other source documents
These documents are not used to record transaction in the journals. But information in
these documents are used to prepare primary source documents. Examples:
Bank statements
Bank advice
Price quotations
Purchase orders
Remittance advice
Good Received Note (GRN)
Acknowledgement notice
Monthly statements
Management reports
Valuation reports (fixed assets, stocks)
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Additional Content for Chapter 5
Double Entry Bookkeeping and Ledger Accounting
Heading: 5 The Journal ( Learning Outcome 2.3.2) Page No. 113
Types of transactions to be recorded in journal is explained below.
General Journal
It is essential to record all the transactions in a prime entry book prior to making entries
in the ledger accounts. Any transaction that does not come to the cash book or any other
prime entry book should be first recorded in the General Journal. Entries that are
recorded in the General Journal are as follows:
i. Opening entries
ii. Purchase and sale of fixed assets on credit
iii. Rectification entries
iv. Adjustment entries
v. Other transfer entries
vi. Closing entries
Source document relevant to the General Journal is Journal Voucher. Journal vouchers
are prepared based on invoices, minutes, time sheets and other various documents
Specimen of a general journal is given below.
Date J.V.
No.
Description Ledger
folio
Debit Credit
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Additional Content for Chapter 9 Non-current Assets
Methods of depreciation (Learning Outcome 4.2.4)
Page No. 195
Units of production method is a method used under PPE depreciation. This method is
explained below in addition to the other methods described in the Study Text.
Depreciation methods
There are different methods available to be used for deprecation. They are:
i. Straight line method
ii. Diminishing balance method (reducing balance method)
iii. Units of production method
Units of Production Method
Under this method, depreciation is charged based on the number of units produced in a
given financial year. The following formula could be used for this purpose.
Depreciation = Depreciable value of the asset x Number of units produced within the period
Total output expected
Example: Value of a plant owned by Big PLC is Rs. 450,000. If the capacity of the plant is
3,000,000 units and Big PLC expects to produce only 300,000 units for the first year,
600,000 units for the second year etc. the relevant depreciation is given below.
Year Annual production units Annual depreciation Rs.
1 300,000 450,000 x 300,000
3,000,000 45,000
2 600,000 450,000 x 600,000
3,000,000 90,000
3 700,000
450,000 x 700,000 3,000,000
105,000
4 800,000 450,000 x 800,000
3,000,000 120,000
5 600,000 450,000 x 600,000
3,000,000 90,000
3,000,000 450,000
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Review of Useful Life
As per LKAS 16, useful life time of the property, plant and equipment should be reviewed
at the end of each reporting period. Accordingly if there is an increase or reduction in
future life span the deprecation for the current period and the future periods are to be
computed based on the revised useful life time.
Review of Depreciation Method
Not only the life time of the asset but also the depreciation method should also be
reviewed from time to time. It is allowed to change the depreciation method if there
is a necessity.
Example
X PLC bought a plant for Rs. 200,000 and depreciated it by using the diminishing
balance method at 10% per annum. After two years it was decided to apply straight
line method for the future period.
Computation is as follows.
Impairment
To determine whether an item of property, plant and equipment is impaired, an entity
applies LKAS 41. This standard explains how an entity reviews the carrying amount of
its assets, how it determines the recoverable amount of an asset and when it recognises
or reverses impairment losses.
Rs. Rs.
Cost of the plant 200,000
Depreciation in the year 1 200,000 x 10% = 20,000
Depreciation in the year 2 180,000 x 10% = 18,000 (38,000)
Balance depreciable value 162,000
Annual depreciation for the next eight years 162,000
8
Future annual depreciation 20,250
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Additional Content for Chapter 11
Bank Reconciliations
Heading: 2 The bank reconciliation (Learning Outcome 2.7.1 & 2.7.2)
Page No. 247
Further content related to bank reconciliations are detailed below in addition to contents
presented in the Study Text.
Reasons/advantages in preparing a bank reconciliation statement
To confirm the accuracy of the bank transactions recorded in the Cash Book.
As a controlling technique of preventing the frauds and errors of the
transactions made with the Bank.
To find the value and the details of unrealised deposits.
To find the value and the details of unpresented cheques.
Why previous month's bank reconciliation statement is needed for preparing the current
month Bank Reconciliation Statement?
To know whether the unrealised deposits in the previous month have been
realised in the current month.
To know whether the unpresented cheques in the previous month have been
presented in the current month.
Methods of preparation of bank reconciliation statement
i. Preparation of bank reconciliation statement without adjusting the cash book
ii. Preparation of bank reconciliation statement after adjusting the cash book.
Preparation of bank reconciliation statement without adjusting the cash book
According to the above method the original cash book balance will be used to prepare
the statement of bank reconciliation. I.e. no adjustment will be made to the cash book
balance. Thereby all the causes of difference will be adjusted in the statement of bank
reconciliation.
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Format - statement of bank reconciliation
(a) Balance (positive balance/credit balance) as per bank statement/ negative balance as
per cash book
Particulars Rs Rs
Balance (positive balance/Credit Balance) as per the bank statement
xxxx
Add:
(a) Cheques deposited but not yet realised xxxx (b) Standing Order payments xx
(c) Bank charges xx
(d) Any charges other than charges deducted by the
bank not recorded in the cash book xxxx
(e) Errors-excess debit in cash book or excess credit
in bank statement xx xxxx
xxxx
Less:
(f) Cheques issued but not presented for payment xxx
(g) Direct collections on behalf of customers xxx
(h) Returned Cheques xx
(i) Errors-excess credit in cash book or Excess debt in bank statement xx xxxx
Balance (Positive balance) as per cash book xxxx
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(b). Balance (Positive balance) as per cash book/Overdraft (Negative balance/ Debit
Balance) as per bank statement.
Preparation of Bank Reconciliation after Adjusting the Cash Book
According to this method the bank reconciliation statement will be prepared by using
the adjusted cash book balance. Thus, the adjusted cash book balance is determined by
adjusting all the causes which are required to be in the cash book. Those can be
summarised as follows.
Bank charges
Direct collection on behalf of the customers (direct credit to the bank)
Standing order payments
Returned cheques
Cash book errors
Particulars Rs Rs
Balance (positive balance) as per the cash book xxxx
Add:
(a) Cheques issued but not presented for payment xxxx (b) Direct collections on behalf of customers xxx
(c) Returns cheques xxx
(d) Errors-excess credit in cash book or excess debit in
bank statement xxxx xxxx
xxxx
Less:
(e) Cheques sent for collection (realization) but not yet collected (realized) xxxx
(f) Standing order payments xxx
(g) Bank charges xxx
(h) Any charges other than bank charges deducted by the bank not recorded in the cash book xx
(i) Errors-excess debit in cash book or excess credit in bank statement xx xxxx
Balance (positive balance/Credit Balance) as per the bank statement
xxxx
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Questions
1) Bank balance shown in Saliya’s book as at March 31, 2016 was Rs. 25,000. This
did not agree with bank statement balance as at that date. The following are the
reasons for the disagreement:
- Unrealised deposit value: Rs. 2,500
- Unpresented cheques value: Rs. 1,000
- Payment of insurance premium made on standing orders but not recorded in the
Cash Book: Rs. 1,500
- Bank charges not recorded in the Cash Book: Rs. 500
Required: Compute the balance appeared in the bank statement as at March
31, 2016.
2) Bank balance shown in Janadaree’s book as at March 31, 2016 was different from
the balance shown in the bank statement. Balance shown in the bank statement
was Rs. 30 Mn. The following are the reasons for the disagreement:
- Unrealised deposit value was Rs. 500 Mn.
- Unpresented cheques value was Rs. 200 Mn.
- A direct deposit of Rs. 30 Mn made by a debtor was not recorded in the cash book.
- Bank charges not recorded in the cash book was Rs. 1 Mn.
- Cheque deposited with bank was dishonoured and was not recorded in the cash
book. The value of the cheque was Rs. 15 Mn.
Required: Compute the balance appeared in the cash book as at March 31, 2016.
3) Bank OD balance shown in Asanga’s book as at March 31, 2016 was Rs. 80 Mn.
This did not agree with bank statement balance as at that date. The following are
the reasons for the disagreements:
- Unrealized deposit value was Rs. 25 Mn.
- Value of the cheques issued but not presented yet for payment was Rs. 38 Mn.
- An amount of Rs. 3 Mn that should have been debited to the cash column
of cash book was inadvertently debited to the bank column of the cash book.
- Dividends directly collected by the bank on behalf of Asanga but not updated
in the cash book was Rs. 10 Mn.
- Total value of bank charges not recorded in the cash book was Rs. 2 Mn.
Required: Compute the balance appeared in the bank statement as at March 31,
2016.
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4) Information - Danapala PLC as at March 31, 2016
- Bank OD as per the Bank Statement was Rs 18,560.
- Three cheques issued to the creditors for the values of Rs. 3,700, Rs. 6,500
and Rs. 370 at the last week of the December month were not presented to
the bank for payment.
- Receipt of few cheques for the value of Rs 7,500 was recorded in the debit
side of the bank column but not credited to the bank in the month of
December.
- A bank charge of Rs 70 and the interest of Rs 1,800 charged by the bank
were not recorded in the Cash Book.
- Collection of dividends amounting to Rs 2,850 directly collected by the
Bank was not recorded in the Cash book.
- Deposits made for the value of Rs 90 in the month of December was
appeared in the bank statement but not recorded in the cash book.
- Deposits of Rs 2,400 and Rs 2,100 made on December 27 were realised
only on April 10, 2016.
Required: Prepare the bank reconciliation statement of Danapala PLC as at March
31, 2016 by using the above information.
5) Given below is the cash book, bank statement for the month of January 2016 and
the bank reconciliation statement as at December 31, 2015 of Sirimal PLC.
Bank reconciliation statement as at December 31, 2015
Rs. Rs.
Bank balance as per the cash book 21,000
Add
Unpresented cheques - 081
083
6,000
4,000 10,000
31,000
Less
Unrealised deposits - cheque deposit
cheque deposit 8,100
1,700 (9,800)
21,200
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Bank column of cash book of January 2016
Bank statement for the month of January 2016
Date Details Debit Credit Balance
Jan 01 B/F
2,00
0
8,10
0
21,200
Jan 05 Cheques 085 2,000 19,200
Jan 06 Cheque deposit 8,100 27,300
Jan 10 Cheque 081 6,000 21,300
Jan 10 Cash deposit 8,000 29,300
Jan 16 Electricity expenses 1,300 28,000
Jan 20 Cheque deposit 5,000 33,000
Jan 28 Dividend income 3,300 36,300
Jan 30 Bank charges 200 36,100
Required: Prepare the cash book for the month of January 2016 and the bank
reconciliation statement as at January 31, 2016.
Rs Rs
Jan 01 B/F 21,000 Jan 03 Cheque 085 2,000
Jan 10 Cash deposit 8,000 Jan 12 Cheque 086 4,000
Jan 14 Cheque deposit 6,000 Jan 16 Cheque 088 3,000
Jan 18 Cheque deposit 5,000 Jan 21 Cheque 089 5,000
Jan 23 cheque deposit 4,000 Jan 31 Cheque 090 1,000
C/D 29,000
44,000 44,000
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Additional Content for Chapter 15
Partnerships
Heading: 1 Partnership accounts (Learning Outcome 3.3.1 & 3.3.2)
Dissolution of partnership is discussed below in addition to contents presented in the
Study Text.
Dissolution of Partnership
A partnership may dissolve after the time period which had been originally decided by
the partners or after achieving their objectives or any other reason specified in the
partnership agreement. On dissolution, partners of a partnership would take necessary
steps to sell all the assets of the partnership and settle all the liabilities of the
partnership. After doing so the partners may distribute any excess amount among the
partners on their profit sharing ratio. This process is known as dissolution of a
partnership.
The procedures of dissolution of partnership are explained in sections 32, 33, 34 and 35
of the Partnership Act.
Section 32
1. With the consent of partners
2. By expiration of agreed time period
3. After the achievement of the objectives
Section 33
1. If the partners become bankrupt
2. Death of the partners
Section 34
Becoming the partnership business illegal
Section 35
1. Mental disorder of the partners
2. Incurring continuous losses in the partnership business
3. Misconduct of a partner
4. By an order of the court
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Due to one or more reasons given above there is a possibility of dissolving a
partnership business. Further due to one of the below mentioned reasons a partner can
make a request from the court for the dissolution of the partnership business.
1. Becoming a partner to mental disorder
2. Failure of adhering to the partnership agreement
3. Behaviour of any partner in a way of damaging the goodwill of the partnership
4. Violation of conditions in the partnership business by one of the partners
5. Incurring continuous losses in the partnership business
6. Any reason that the courts decide is just an equitable
Section 44 of the Partnership Act explains the preferential order of releasing the
liabilities from the money received from realisation of assets.
1. Payment of realisation expenses
2. Settlement of external liabilities as per the preferential order
3. Settlement of any loan or an advance given by a partner in addition to the capital
4. Settlement of the capital provided by the partners
5. Distribution at Profit Sharing Ratio (PSR) if there is a balance after settling the
above.
Accounting for dissolution of partnership
Accounting for dissolution of a partnership is done using either of the following
two accounts.
i. Using a realisation account
ii. Using a realisation profit and loss account
1. Realisation Account Method
Realisation account is prepared for computing the profit and loss of the dissolution
of partnership business.
Just as the sale of every property, plant and equipment is recorded in an appropriate
disposal account, for determining the profit or loss on such disposal, the disposal of
all the assets and liabilities of a partnership for the purpose of dissolution of the firm
itself, is recorded in an account which is usually called a realisation account because it
shows the conversion into cash (realisation) of all the assets. The realisation account
which is also referred to as dissolution account is in similar form to the disposal
account of a property, plant and equipment. In that, it compares the cost of the assets
to the extent not already written off, with the sale proceeds thereof, and determines the
profit or loss on the realisation.
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The following entries are relevant for this.
1. All the assets other than cash on the date of dissolution;
Realisation account Debit
Relevant asset account Credit
2. Provision accounts of the assets that were transferred to the realisation account;
Relevant provision account Debit
Realisation account Credit
3. Liabilities of the partnership do not transfer into the realisation account. Instead,
the individual ledger accounts are prepared for each liability account.
4. Cash received by realisation of the assets that have been transferred to the
realisation account;
Cash / bank account Debit
Realisation account Credit
5. If a partner acquires an asset of the partnership business; (undertaken value of
such an asset) (who takes over the assets)
Partner's account Debit
Realisation account Credit
6. If a partner had guaranteed a particular asset, the partner has to undertake the
responsibility of realising such asset. As an example if the recovery of a
particular debtor is guaranteed by a partner, it is the responsibility of the partner
to ensure the full realisation of the asset. If there is a deficit, the partner has to
bare it.
Partner’s (decided by the guarantee) account Debit
Realisation account Credit
7. If a partner undertakes a particular liability,
Relevant liability account Debit
Partner’s account Credit
8. Paid cash for releasing the liabilities;
Relevant liability account Debit
Cash account Credit
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9. If there is a profit or loss in releasing the liabilities, it has to be transferred to
the realisation account.
10. When making the realisation expenses,
Realisation account Debit
Cash account Credit
11. If the contingent liabilities are crystallised in the dissolution, those have to be
settled.
Realisation account Debit
Cash book Credit
12. After recording the above transactions the realisation account has to be
balanced.
If there is a profit;
Realisation account Debit
Partner's account Credit
If there is a Loss;
Partner's account Debit
Realisation account Credit
13. Finally the partner’s accounts have to be closed down. There are two methods
to do this.
If there is a debit balance in partner's account,
That means the partner has to bring money to the business. The following are
relevant for this.
a) Whether the partner is bankrupt or not.
When a partner is unable to make the debit balance looks good because he has
become insolvent, the Garner vs. Murray decision applies. This legal decision
rules that the deficiency must be borne by the solvent partners in their last agreed
capital ratio and not in the profit sharing ratio which should be used only for
appropriation of profits and losses arising to the business, whereas the capital
deficiency of a partner must be treated as belonging personally to the remaining
partner and must be borne by them in the ratio of their ownership.
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The phrase, last agreed capital ratio means the ratio in which partners last agreed
to hold their capital balance, ignoring the current balances, the loan account
balances and the impact of the profit or loss on realisation on the capital account
balances for this purpose.
b) Whether the partner is a limited partner;
If there is a bankrupt partner at the time of dissolution of partnership business,
the court decision given in Garner Vs Murray is applicable. Accordingly the debit
balance of the bankrupt partner's account has to be borne by the remaining
partners at the ratio of final capital balance.
c) When a partner is a limited partner
If a particular partner’s liability is limited up to the amount of capital, he is known
as a limited partner. In this instance, if the partner’s account has a debit balance, it
is not required for him to bring cash in. Therefore this debit balance has to be
borne by the remaining partners at the PSR.
Other than the above mentioned cash bought by the partners, everything else has to
be recorded as follows.
Cash Book Debit
Relevant partner’s account Credit
If there is a credit balance in partner's account;
Meaning of this is that the partner should get money from the partnership
business as the settlement.
The following double entries are relevant for this.
Relevant partner’s account Debit
Cash book Credit
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2. Realisation profit and loss account method
Where the sale of each asset and discharge of every liability is recorded in individual
account, for separately determining the profit or loss on each such activity and where
the profits and losses are thereafter transferred to a common account for determining the
combined effect of all these activities, this common account is known as Realisation
Profit and Loss account.
In this method, only the profits or losses are recorded. Here the profits or losses of
realisation of assets are computed separately and transferred to this account. This
transfer can be made only for the profits or losses in revenue nature. Profits or losses
in capital nature have to be transferred to the capital account of the partners.
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Example
Ruwan, Sandun and Thushara were sharing their profit at the ratio of 3:2:1 of their
Partnership. Balance sheet as at March 31, 2016 was as follows.
Ruwan, Sandun and Thushara’s Partnership Statement of Financial Position as
at March 31, 2016
Rs ‘000’ Rs ‘000’
Assets
Non-current Assets
Land at Revaluation 250
Building at Revaluation 320
Provision for Depreciation on Building (140 ) 180
Other Property, Plant and Equipment 640
Provision for Depreciation on other Assets (230) 410
Investments 190
Life Insurance Policy 300
Fixed Deposits 210
Good will 180
1,720
Current Assets
Inventories 635
Receivable Accounts 840
Loan – Thushara 300
Prepayments 140
Cash and Cash Equivalents 155 2,070
2,070Total Assets 3,790
Equity and Liabilities Capital Accounts
Ruwan 900
Sandun 400
Thushara 350 1,650
Current Accounts
Ruwan 462
Sandun (109 )
Thushara (139 ) 214
1,864
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The following additional information is given.
(1) The partners have realised that the activities carried out by the partnership
are not profitable and therefore they decided to dissolve the partnership at the
earliest.
(2) 3 years ago, partnership has given a personal loan to Thushara, at an interest rate
of 12% per annum. However Thushara has not been able to pay the loan interest
and, as such the loan interest has not been accounted for during the previous 3
year period. At the dissolution, the partners decided to transfer the balance of
loan account to his capital account. Further they have agreed to compute the
loan interest for the past 3 years and make relevant entries in the books of
accounts through the partners’ current accounts.
(3) Mortgage loan has been taken from a finance company against the Land and
Buildings of the partnership. At the time of the dissolution the partnership had
to transfer the title of Land and Buildings to the lending finance company with an
additional payment of Rs. 55,000/- to settle total capital outstanding of the
Mortgage Loan Account.
(4) An investment which costs Rs. 80,000/- was acquired by Ruwan for the value of
Rs.90,000/-
Life Insurance Policy 300
Total Equity 2,164
Non - current Liabilities
Bank Loan 890
Mortgage Loan 460 1,350
Current - Liabilities
Payable Accounts 210
Accrued Expenses 66 276
Total Equity and Liabilities 3,790
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(5) Other assets of the company have been realised at the amount given below.
Rs.
Other Property, Plant and Equipment 360,000
Other Investments 65,000
Fixed Deposits 240,000
Inventories 530,000
Cash Collected from Debtors 635,000
Cash collected from Prepayment balances 86,000
(6) When the bank loan was settled the partnership had to pay an additional
interest amounting to Rs. 24,000/- which has not been provided in the books of
accounts as at March 31, 2016. Creditors have settled fully after deducting 10%
discount. It was revealed that Rs. 26,000/- of accrued expenses were merely an
over provision in the books of accounts.
(7) Rs. 210,000/- received from the life assurance policy.
(8) At the dissolution partnership paid Rs. 96,000/- as compensation to the
employees. Further Rs. 23,000/- was paid as realisation expenses.
(9) It has been revealed that no personal assets are owned by Thushara to meet any
deficit arising on dissolution.
Required:
Prepare,
(i) Relevant accounts which are needed to dissolve the partnership
(ii) Partners’ Equity Accounts and Current Accounts
(iii) Cash Book of the Partnership.
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Answer
Ruwan, Sandun and Thushara’s Partnership
Realised Account
Other property plant &
equipment
640 Other property , plant & equipment
Provision for depreciation
230
Investments 190 Transferred investments
for Ruwan’s Equity A/C
90
Fixed deposits 210
Cash- other PPE 360 Good will 180
Inventory 635 Other investments 65
Receivable accounts 840 Inventories 530
Prepayments 140 Receivable A/C 635
Mortgage loan Interest 25 Prepayments 86
Employees compensation 96 Fixed deposits 240
Extra Bank loan Interest 24 Discounts received 21
Realisation expenses 23 Over provisions of accrued expenses 26
Loss on realisation - capital a/c
- Ruwan 360
- Sandun 240
- Thushara 120 720
3,003 3,003
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Partner’s Capital (Rs. 000)
Date Description Ruwan Sadun Thushara
2016/03/31 Capital balance 900 400 350
Thushara’s loan account - - (300)
Investments account (90) - -
Life Insurance fund 105 70 35
Loss on realisation (360) (240) (120)
Transferred from Current A/C 516 (73) (229)
Thushara's deficit (182.76) (81.24) 264
(According to Garner Vs Murray
rule) cash - balance paid
(888.24) (75.76) -
- - -
Cash A/C
(Rs 000) (Rs 000)
2015/04/01 Balance 155 Mortgage loan 55
Realised A/C Bank loan (890 + 24) 914
Other P.P.E. 360 Creditors(210 - 21) 189
Other investments 65 Accrued expenses 40
Fixed deposits 240 Employees compensation 96
Inventories 530 Realised expenses 23
Receivable A/C 635 Equity A/C
Pre - payments 86 Ruwan 888.24
Cash from Life Insurance policy 210 Sandun 75.76
2,281 2,281
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Partner’s Current A/C (Rs. 000)
Date Description Ruwan Sadun Thushara
2016/03/31 Current account balance 462 (109 ) (139)
Thushara’s loan interest - for three years - - (108)
Profit adjustment on Thushara’s loan interest 54 36 18
Transferred to capital A/C (516) 73 229
- - -
Land and Building A/C (Rs. 000)
Land 250 Building depreciation provision 140
Building 320 Transferred of land and building
for Mortgage loan
430
570 570
Mortgage Loan ( Rs 000)
Transferred of land and building 430 Balance 460
Cash payments 55 Extra interest to realisation
account
25
485 485
Life Insurance Policy ( Rs. 000)
Balance 300 Cash 210
Life Insurance Fund A/C 90
300 300
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Life Insurance Fund ( Rs. 000)
Life Insurance Policy A/C 90 Balance 300
Capital A/C - Ruwan 105
Sandun 70
Thushara 35 210
300 300
Creditors / Payables (Rs. 000)
Cash 189 Balance 210
Discount Received 21
210 210
(Rs. 000)
Thushara’s Deficit 264
Ruwan’s and Sandun’s capital ratio 9:4
According to Garner Vs Murray the amount to be borne by Ruwan 264 x 9
13
182.76
According to Garner Vs Murray the amount to be borne by Sandun 264 x 4
13
81.24
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The above answer is given below under Realisation Profit and Loss Account method.
Ruwan, Sandun and Thushara’s Partnership
Realisation profit and loss A/C
(Rs. 000) (Rs.000)
Other P.P.E. Loss 50 Profit from transfer of
investments to Ruwan 10
Loss on other investments 45 Profit from fixed Deposits 30
Discounts from creditors 21
Good will 180 Over provision of Accruals 26
loss on Inventories 105 Loss on Realisation - capital A/C
Receivable A/C - Loss 205 - Ruwan 360
Prepayment A/C - 54 - Sandun 240
loss 25 - Thushara 120 720
Extra Interest for mortgage 24
loan Extra bank loan Interest 96
Employees Compensation 23
Realisation expenses 807 807
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Partner’s Capital A/C (Rs. 000)
Date Description Ruwan Sadun Thushara
2016/03/31 Balance 900 400 350
Transfer of Thushara’s - - (300)
loan Investments (90) - -
Life Insurance 105 70 35
Fund Loss on Realisation (360) (240) (120)
Transfer from Current 516 (73) (229)
A/C Thushara’s Deficit
(According to Garner Vs Murray rule)
(182.76) (81.24) 264
-
(888.24) (75.76) -
Cash A/C (Rs. 000)
2016/04/01 Balance 155 Interest on Mortgage Loan 55
Bank loan (890+24) 914
Other P.P.E 360 Creditors (210 - 21) 189
Other Investments 65 Accrued Expenses(66 - 26) 40
Fixed Deposits 240 Employees Compensation 96
Inventories 530 Realisation expenses 23
Receivable A/C 635 Capital A/C
Prepayments 86 Ruwan 888.24
Life Insurance 210 Sandun 75.76
2,281 2,281
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Partner’s Current A/C (Rs. 000)
Date Description Ruwan Sadun Thushara
2016/03/31 Balance 462 (109) (139)
Loan Interest of Thushara’s - - (108)
Profit based on Thushara’s loan Interest
to
54 36 18
Capital A/C (516) 73 229
Land and Building A/C (Rs 000)
Land 250 Building 140
Building 320 Transfer of building & land to
settle the Mortgage loan
430
570 570
Mortgage Loan (Rs 000)
Acquisition of buildings & land 430 Balance 460
Cash paid 55 Extra Interest to Realisation
A/C
25
485 485
Life Insurance fund (Rs 000)
Life Insurance policy A/C 90 Balance 300
Capital A/C - Ruwan 105
- Sandun 70
- Thushara 35 210
300 300
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Creditors A/C (Rs 000)
Cash 189 Balance 210
Discount Received 21
210 210
Other Property, Plant & Equipment (Rs 000)
Balance – Cost 640 Balance – Accumulated Dep 230
Cash 360
Realisation P/L A/C 50
640 640
Investment A/C (Rs 000)
Balance 190 Acquired by Ruwan 90
To Realisation Profit & Loss Account 10 Cash 65
Realisation Profit & Loss A/C 45
200 200
Rs (000)
Deficit of Thushara’s 264
Capital Ratio of Ruwan’s and Sandun’s 9:4
According to Garney VS Murray rule amount borne by Ruwan 264 x 9
13
182.76
According to Garney Vs Murray rule amount borne by Sandun 264 x 4
13
81.24
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Examples for final accounts in partnership
1. Aruna and Bandara were in partnership business without having a written agreement
for a long period in buying and selling goods. Their financial year ends on March 31
of each year.
October 1, 2015 Chamil was admitted to the partnership business, subject to the
following conditions.
a. Goodwill is valued for 60% of average profit of the last 3 years ended as of the
date on which the goodwill valuation is done. Goodwill is not shown in the
Statement of Financial Positions as an intangible asset.
b. Salary for Aruna Rs.2.000/- per month. Interest will be paid for capital is 6% p.a.
Profit Sharing Ratio, Aruna: Bandara: Chamil =3: 2: 1. 4% interest will be charged
for drawings.
c. It is required to transfer the balances in current account of Bandara and Chamil
into their capital account at the end of each year and the carried down balances of
the capital accounts should be arranged according to the ratio of PSR. For this
exercise capital account of Aruna is considered as the basis. Chamil brought
Rs.250,000/- in cash on October 1, 2015 when he entered into the Partnership
Business.
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Following balances were extracted from the trial balance as at March 31, 2016
Debt (Rs.) Credit (Rs.)
Land at cost 920,000
-Receivables and payables 212,500 139,000
Stock as at 01/04/2015 173,000 -
Salaries 123,500 -
Rent 27,500 -
Bank OD - 38,000
Sales - 970,500
Provision for doubtful debt - 6,125
Motor vehicle at cost 260,000 -
Provision for depreciation of motor vehicle - 120,000
Purchases 562,000 -
Stationary 7,000 -
Advertising 18,000 -
Partners drawings 111,000 -
Capital - Aruna - 750,000
- Bandara - 300,000
- Chamil - 250,000
General expenses 16,500 -
Loan of Aruna - 150,000 Cash in hand 292,625 -
2,723,625 2,723,625
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The following additional information is also given.
1. Advertising material of Rs.3000/= is included in the stock value of Rs.237,500/-
physically counted on March 31, 2016.
2. Salaries taken by Aruna is also included in the salaries account. Furthermore,
drawings of Aruna and Bandara in each month were Rs. 5,000/- and Rs. 3,000/-
respectively. Chamil has drawn Rs. 2,500 on the 15th of each month starting
October 15, 2015.
3. Rent for the premises Rs. 2500/- per month
4. Motor vehicles are to be depreciated at 20% on reducing balance method
5. Provision for bad debt as at March 31, 2016 should be 5% from the debtors
6. No entries were made for the goods taken by Aruna for the value of Rs. 20,000/-
on January 1,2016 and the goods taken by Chamil on February 1, 2016 for the
value of Rs. 30,000/- as a gift for Bandara’s wedding.
7. Profits in more recent 3 years are as follows
Year ended 31.03.2013 Rs.220, 000/-
Year ended 31.03.2014 Rs.336, 000/-
Profit in 31.03. 2015 Rs.304, 000/-
8 . Interest amounting to Rs.7,500 is payable for the loan taken from Aruna for the
year ended March 31, 2016.
No adjustments have been done in the books required for the admission of Chamil.
Required: Prepare the following:
a. Trading Account and Statement of Comprehensive Income of Aruna,Bandara and
Chamil partnership for the year ended March 31, 2016.
b. Current and capital accounts of partners.
c. The Statement of Financial Positions as at March 31, 2016.
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Answer
Trading Account and Statement of Comprehensive Income of Aruna,Bandara
and Chamil partnership for the year ended March 31, 2016
Description Rs Rs Rs
Sales 970,500
970,500Cost of Sales
Stock as at 01.04.2015 173,000
Purchases 562,000
735,000
Drawings in goods [20,000 + 30,000] (50,000)
685,000
Stock as at 31.03.2016 [237,500 – 3,000] (234,500) (450,500)
Gross Profit 520,000
Administration and Establishment
expenseRent 30,000
Salaries (123,500 – 12,000) 111,500
Stationeries 7,000
General expenses 16,500 165,000
Selling and distribution expense
Advertising (18,000 – 3,000) 15,000
Depreciation of Motor Vehicle 28,000
Provision for Doubtful debts 4,500 47,500
Finance expenses
Interest for Aruna’s Loan 7,500 7,500 (220,000)
Profit for the year 300,000
01.04.2015 to
30.09.2015
01.10.2015 to
31.03.2015
Net Profit in the year 150,000 150,000
Add : Interest on drawing
Aruna 683
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Bandara 150
Chamil 217
Less: Interest on Capital
Aruna (22,500)
Bandara (9,900)
Chamil (6,600)
Salaries
Aruna (12,000)
Profits
Aruna (50,025)
Bandara (75,000) (33,350)
Chamil (75,000) (16,675)
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Aruna, Bandara and Chamil Partnership
Statement of Financial Position as at March 31, 2016
Rs Rs Rs
Assets
Non-current assets Cost Depreciation Net
Property plan and equipment
Free hold land 920,000 - 920,000
Motor vehicle 260,000 148,000 112,000
1,180,000 148,000 1,032,000
Current Assets
Trading stocks 234,500
Advertising material stocks 3,000
Receivable 212,500
Provision for bad doubtful debts (10,625) 201,875
Cash and cash equivalent 292,625 732,000
Total assets 1,764,000
Equity and liabilities
Capital accounts Aruna 750,000
Bandara 500,000
Chamil 250,000 1,500,000
Current Accounts Aruna 54,342
Bandara (87,900)
) Chamil (31,942) (65,500)
1,434,500
Non-current liabilities
38,000
Loan taken from Aruna 150,000
Current Liabilities
Bank OD 38,000
Creditors 139,000
Rent payable 2,500 179,500
Total equity and liabilities 1,764,000
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Adjusting the Capital as per PSR
Aruna Bandara Chamil
Capital balance as at 01.10.2015 750,000 300,000 250,000
PSR 3 2 1
Capital by considering Aruna as the basis 750,000 500,000 250,000
Amount to be transferred from current account
- 200,000 -
Advertising
Balance 18,000 Stock 3,000
P and L 15,000
18,000 18,000
Salaries
Balance 123,500 Aruna’s salary 12,000
P and L 111,500
123,500 123,500
Rent
Balance 27,500 P and L 30,000
C/D 2,500
30,000 30000
Drawings
Cash Goods
Aruna 60,000 20,000
Bandara 36,000 --
Chamil 15,000 30,000
111,000 50,000
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Current account of partners
Computation of Goodwill
Aruna Bandara Chamil
Drawings in cash (60,000) (36,000) (15,000)
Drawings in goods (40,000) - (10,000) Interest on drawings (683) (150) (217) Profits shares in 1st 6 months 75,000 75,000 -
Loan interest of Aruna 7,500 - - Interest on Capital 22,500 9,900 6,600 Profit share in last 6 months 50,025 33,350 16,675 Transfer to Capital Accounts - (170,000) (30,000)
Balance as at 31.03.2016 54,342 (87900)
((87,900)
(31,942)
Computation of interest on drawings Rs.
Aruna 30,000 x 4/100 X 3 ½ /12 + 20,000 X 4/100 X 3/12+
20,000 X 4/100 X 2/12
683
Bandara 18,000 x 4/100 X 2 ½ /12 150
Chamil 15,000 x 4/100 X 3/12 + 10,000 X 4/100 X 2/12 217
1,050
Goodwill on the date Chamil's admission
Year Net profit
2012/2013 (6 Months) 110,000
2013/2014 336,000 2014/2015 304,000
2015/2016 (6 Months) 150,000
900,000 x 60%
3
180,000
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Capital account of Partners
Aruna Bandara Chamil
Capital balances 750,000 300,000 250,000
Goodwill adjustment 90,000 90,000 -
Eliminating the Goodwill (90,000) (60,000) (30,000)
Transfer from Current A/C on 31.03.2016 - 170,000 30,000
Balance as at 31.03. 2016 750,000 500,000 250,000
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Additional Content for Chapter 16
Introduction to Company Accounting
Accounting for issue of shares
The double entries to record raising of finance by issue of shares are provided below.
Consideration received on application (issue price x no. of shares applied for).
Bank Account Debit
Application and Allotment Account Credit
When shares are allotted (Issue price x No. of shares allotted)
Application and Allotment Account Debit
Stated Capital Account Credit
There may be a situation of oversubscription of a share issue. Then, the excess money
received should be returned to the applicants when shares are allotted. The double entry
to record this return of excess money is;
Application and Allotment Account Debit
Bank Account Credit
Example 1
Big Plc issues 10Mn shares at a price of Rs.25.00 each. Applications have been received
for Rs. 10Mn shares and they have been allocated accordingly. Prepare the book-keeping
entries to record this share issue.
Answer
Receipts of consideration on application ( for 10Mn shares x Rs.25 each = 250Mn)
Bank Account Debit Rs. 250Mn
Application and Allotment Account Credit Rs.250Mn
Allotment of Shares (10Mn shares x Rs.25 each = 250Mn)
Application and Allotment Account Debit Rs. 250Mn
Stated Capital Account Credit Rs. 250Mn
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Application Allotment Account
Stated Capital Account 250Mn Bank Account 250Mn
250Mn 250Mn
Stated Capital Account
Balance C/F 250Mn Application and
Allotment Account
250Mn
250Mn 250Mn
Balance B/F 250Mn
Example 2
Big Plc issues 20Mn shares at a price of Rs. 25 each. Applications had been received for
30Mn shares and the excess application money was rejected when allotting shares.
Prepare the book-keeping entries to record this share issue.
Answer
Receipts of consideration on application ( for 30Mn shares x Rs.25 each = 750Mn)
Bank Account Debit Rs. 750Mn
Application and Allotment Account Credit Rs.750Mn
Allotment of Shares (10Mn shares x Rs.25 each = 250Mn)
Application and Allotment Account Debit Rs. 250Mn
Stated Capital Account Credit Rs. 250Mn
Application Allotment Account
Bank Account 250Mn Bank Account 750Mn
Stated Capital Account 500Mn
750Mn 750Mn
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Stated Capital Account
Sometimes, shares may not be paid in full upon issue. The consideration for a share may
be called in number of steps such as on application, on allotment and on series of calls.
Balance C/F 500Mn Application and
Allotment Account
500Mn
500Mn 500Mn
Balance B/F 500Mn
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Additional Content for Chapter 18
Preparation of Financial Statements for Companies
Learning Outcome 4.1.2/4.1.3
Format to be used in preparing the financial statements for internal use is given below with two
examples.
Specimen statement of Profit & Loss Account for Internal Management purpose.
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XYZ Plc
Statement of profit & Loss Account for the year ended March 31, 2016
Rs. Rs.
Revenue xxxx
Less: cost of sales
Stocks as at April 1, 2015 xxxx
Add: Purchases xxxx
Carriage inwards xxxx
xxxx
Less: closing stock (xxxx)
Stocks lost (xxxx)
Cost of Sales (xxxx)
Gross profit xxxx
Add: Other income xxxx
Less : expenses
Administration expenses
Building rent (xxxx)
Staff wages (xxxx)
Insurance (xxxx) (xxxx)
Selling & distribution expenses (xxxx)
Commissions (xxxx)
Advertising cost (xxxx)
Salaries and wages – sales and delivery staff (xxxx)
Finance cost (xxxx)
Interest paid on loan (xxxx)
xxxx
Profit before tax xxxx
Less: income tax (xxxx)
Profit for the year xxxx
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Example 1
Hiruka (Pvt) Ltd has been carrying on a business of importing, local buying, whole sale and
retail selling of motor vehicle spare parts. Following trial balance was extracted from the
books of Hiruka (Pvt) Ltd as at March 31, 2012.
Trial balance as at March 31, 2012 (Rs. ‘000)
Particulars Debit
(Rs. ‘000)
Credit
(Rs. ‘000)
Stated capital 50,000 Retained profit 18,240 Land 10,500 Buildings 20,500 Motor vehicles 27,700
Equipment, tools and computers 18,500 Sales 275,120 Cash in hand 275 Salaries and wages – sales and delivery
Office
12,750 - Office staff 4,500
Stock as at April 1, 2011 77,400 Provisions for depreciation as at April 1, 2011
- Buildings 6,800
- Motor Vehicles 11,400 - Equipment, tools and computers 13,500
Purchases - Imports 124,350 - Local purchases 15,530
Income tax 1,750
Overtime - sales staff 2,750 Import duty and clearance 2,450 Fixed deposit (12%) 25,000 Trade debtors 28,500 Insurance- Building 500
Motor Vehicles 750 Equipment and computers 200
Sales promotion 12,850 Business promotion expenses 2,550 Bank overdraft 1,650 Creditors control account 37,250 EPF & ETF - sales and delivery
- office
1,830 - Office 640
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Electricity 2,670
Water 550 Security charges 2,440 Stationery 1,230 Building maintenance 122 Fuel expenses 7,430 Vehicle maintenance 5,350 Donation 500 Audit fees 250 Provision for bad debts 2,250 Discounts 600 VAT payable 1,290 Carriage inwards 320 Overdraft Interest 280 Bad debts written off 2,210 Sales returns 120 Telephone 198 Other administration expenses 1,455
417,500 417,500
The following information is also available for your consideration.
(1) Value of physical stocks as at March 31, 2012 was Rs. 71,550,000.
Spare parts stocks costing Rs.2, 500,000 (sold for Rs. 5,000,000 to a wholesale
customer) awaiting collection by the wholesale customer was included in the above
closing stock of the business as at March 31, 2012.
(2) Annual insurance premium of Rs. 300,000 was paid for building insurance for the
period December 1, 2011 to November 30, 2012, and this amount has been debited
to the building insurance account.
(3)
(4)
New oil filters used for three wheelers costing Rs. 50,000 were distributed during
the year as free samples. However no entries have been recorded in the financial
statements in this regard.
A motor lorry that had a cost of Rs. 8 Mn and accumulated depreciation of Rs. 3.2
Mn as at April 1, 2011 was given in part exchange for a new motor lorry costing Rs.
10 Mn on October 1, 2011, and an invoice for the net amount payable of Rs. 4 Mn was
paid by a cheque. The accountant has debited the motor vehicle maintenance account
with Rs. 4 Mn and credited the bank account with Rs.4 Mn and no other entries
have been recorded in the books of account.
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(5) Depreciation should be provided at the following rates per annum on straight line
basis.
Buildings - 2% Equipment, tools and computers - 20% Motor vehicles - 20%
(6) The following expenses need to be accrued as at March 31,2012.
Rs.
Electricity 550,000
Security 120,000
Water 20,000
(7) Bank balance shown in the trial balance was extracted prior to the preparation of bank
reconciliation statement for the month of March 2012. Upon preparing the bank
reconciliation the followings were noted.
A cheque received from a debtor amounting to Rs. 500,000 was deposited in
the bank on March 25, 2012. This cheque has been dishonoured by the bank on
March 28, 2012 and a bank charge of Rs. 3,000 has been charged as a fee.
However none of the above actions have been recorded in the books of the
business.
Overdraft interest amounting to Rs. 25,000 has been charged by the bank for
the month of March 2012. This has not been recorded in the books of the
business.
A cheque payment made to a supplier amounting to Rs. 250,000 has been
debited to the Hiruka’s business bank account as Rs. 520,000 by the bank.
(8) Trade debtors shown in the trial balance include debts outstanding for more than one
year amounting to Rs. 2.7 Mn. It was identified that Rs. 1.7 Mn of the above is not
recoverable and needs to be written off. Further it was decided to provide a specific
bad and doubtful debt provision of 50% for a customer whose outstanding balance as
at March 31, 2012 was of Rs.1Mn.
General provision for debts should be made for the total debtors outstanding except
above Rs. 2.7 Mn at 10%.
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(9) The trade creditors control account balance included in the trial balance does not agree
with the totals of the creditor’s ledger. The followings were noted during the review of
creditors control account and the creditor’s ledger.
A batch total of local credit purchases of spare parts amounting to Rs. 875,000 have
been entered in the double entry system as Rs. 785,000. However, individual ledger
account entries were done correctly in the creditor’s account.
Interest charged by the suppliers for delay in payments amounting to Rs. 50,000 has
not been recorded in the control account. However, this transaction has been correctly
recorded in the creditor’s ledger.
Discount received from the suppliers for prompt payments amounting to Rs. 100,000
has not been recorded in the creditor’s ledger, even though this has been correctly
recorded in the creditor’s control account.
(10) Fixed deposit balance shown in the trial balance was the balance held as at April 1,
2011. Interest on this fixed deposit for the financial year 2011/2012 has not been
recognised in the books of accounts.
Required,
Prepare the followings for the use of internal management of the business.
(a) Statement of profit & loss and other comprehensive income for the year ended
March 31, 2012.
(b) Statement of Financial Position as at March 31, 2012
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Example 2
Haymal (Pvt) Ltd has been in the business of manufacturing and selling of components
used in washing machines. The trial balance of his business as at March 31, 2016 is as
follows.
Haymal’s Business (Pvt) Ltd
Trial Balance as at March 31, 2016
Debit
(Rs. '000)
Credit
(Rs. '000)
Stated Capital 150,000
Retained Profit 22,400
Land 57,500 Office building 25,000
Plant & Machinery 62,500
Motor vehicles 18,200
Equipment 5,400 Accumulated Depreciation – April 1, 2016
- Office building
- Plant & Machinery
- Motor vehicles
- Equipment
12,000 34,600 11,800
2,700
Inventories – April 1, 2016
- Raw materials
- Finished goods
- Work in progress
16,400 73,800
4,100
Purchases – raw materials 193,200 Sales 419,600 Provision for bad debts 7,200 Sales returns 12,400 Trade receivables / Trade payables 93,500 47,700 Purchase returns 8,200 Wages 48,400 Administration salaries 6,250 Electricity 37,400
Machinery maintenance 11,380
Insurance 7,800 Security 5,500
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Sales promotion 9,200 Discounts 2,630 3,800
Other factory overheads 12,480 VAT payable 18,320 Disallowed input VAT 2,220 Sale of plant 7,500 Long term loan 40,000 Loan interest 6,850 Staff loan 2,800 Rent of factory building 7,200 Other administration expenses 11,500 Other selling expenses 14,600 Wages of maintenance staff 2,860 Import duty & carriage inwards 4,650 Investment in fixed deposit 25,000 Cash & cash equivalents 2,500 Suspense account 2,600
785,820 785,820
The following additional information is also available for your consideration.
1. Value of inventories as at March 31, 2016 was as follows.
Raw materials - Rs. 23.7 Mn
Work in progress - Rs. 2.2 Mn
Finished goods - Rs. 7.5 Mn
1.1 The above raw materials include damaged materials costing Rs.4 Mn. Managing
Director is of the view that these materials could not be used in production. However,
he is confident that he could sell these materials for Rs. 1.5 Mn after incurring a selling
cost of Rs. 100,000.
1.2 A customer returned finished goods sold at a price of Rs. 1.2 Mn on March 30, 2016.
However, this event was not recorded in the books of accounts of the business even
on March 31, 2016. But the value of these goods has been included in the above
finished goods at the above price. Haymal maintains a gross profit of 20% on the cost
of products sold. The above amount is shown under trade receivables as at March
31, 2016 as an amount receivable from the customer.
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1.3 Finished goods costing Rs. 2 Mn was set aside in the stores for a special order placed
by one of the customers. Sale transaction relating to the above took place on April 1,
2016, where the business raised an invoice for the customer amounting to Rs. 2.4
Mn. However, the value of this stock has not been included in the balance of
finished goods shown above.
2. Goods costing Rs. 2 Mn was robbed while in transit from factory to stores on
February 20, 2016. Stocks in transit have been insured for Rs. 1.5 Mn. Insurance
company has confirmed that it will pay the sum insured in full. Accounting entries
relating to above events have not been recorded in the books of accounts of the
business.
3. Trial balance of Haymal’s as at March 31, 2016 did not agree, and the difference was
transferred to a suspense account. Subsequently the following errors were identified
in reviewing the accuracy of accounting records.
(i) Electricity bill paid in the month of January 2016 amounting to Rs. 2.8 M n had
been recorded in the electricity account as Rs. 8.2 Mn
(ii) Factory rent paid amounting to Rs. 1.2 Mn had been omitted from factory rent
account.
(iii)Credit purchases amounting to Rs. 5.7 Mn from Saman were recorded in Trade
payables account as Rs. 7.5 Mn. However this transaction has been correctly
recorded in the purchase account.
(iv) Rs.5 Mn received from a debtor of the business has been credited twice to debtors
control account.
4. Trade receivables amounting to Rs. 8 Mn need to be written off as bad debts.
Provision for bad debts should be kept at 5% of the trade receivables (net) outstanding
as at March 31, 2016.
5. A plant which was acquired on April 1, 2016 for Rs. 20 Mn was disposed of Rs. 7.5 Mn
on December 3 1 , 2015. Sale proceeds received have been debited to cash book and
credited to sale of plant account. No other entries have been made in the books of
account of the business in this regard.
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6. Property, plant & equipment should be depreciated using straight line method
at following rates.
Office building - 5% per annum
Plant & Machinery - 12.5% per annum
Motor vehicles - 20% per annum
Equipment - 25% per annum
7. The followings need to be accrued as at 31/03/2016.
Electricity - Rs. 2.3 Mn
Security - Rs. 0.8 Mn
Insurance - Rs. 1.2 Mn
8. The following expenses are to be apportioned as follows.
Factory Administration Sales
Electricity 60% 30% 10%
Security 50% 40% 10%
Insurance 40% 30% 30%
Maintenance wages 60% 40% -
9. Investment in fixed deposit was made on January 1, 2016. Bank has offered an
interest at the rate of 16% per annum. However, no interest income has been
recognised in the 2015/2016 financial statements of the business.
You are required to prepare the followings for the use of internal management of the
business.
(a) Manufacturing Account for the year ended on March 31, 2016
(b) Statement of Comprehensive Income for the year ended on March 31, 2016
(c) Statement of Financial Position as at March 31, 2016
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Heading: 10 Consolidated financial statement (Learning Outcome 3.2.4) Page No. 466
Further details related to consolidated financial statement is discussed below with
examples.
Consolidated financial statements
Many large business organisations consist of several companies controlled by one central
or administrative company. These companies put together are called a group. The
controlling company is called the parent/holding company and it will own all or some
shares in other companies, called subsidiaries. In Sri Lanka, companies Act No 07 of 2007
requires that the results of a group should be presented as a single economic entity.
There are many reasons for one company to buy shares in another company.
Some of them include;
A company may acquire shares in a supplier to ensure continued supply.
A company may buy shares in a customer to secure a distribution network
Tax or legal reasons
Where one company controls another, there is a parent subsidiary relationship. In most
cases, control is achieved where the parent company owns a majority of the ordinary
shares in the subsidiary. SLFRS 10 requires that the results of a parent company and its
subsidiaries are consolidated and consolidated financial statements to be prepared.
Consolidated financial statements are the financial statements of a group which the
assets, liabilities, equity, income, expenses and cash flows of the parent and its
subsidiaries are presented as those of a single economic entity. When a parent issues
consolidated financial statements, it should consolidate all subsidiaries, both foreign and
domestic.
Process of consolidation
The consolidation process involves adding together the assets, liabilities, equity, income
and expenses of the parent company and subsidiaries on a line by line basis.
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Process of preparing consolidated statement of financial position
The statement of financial position of a parent and its subsidiaries are combined on a line
by line basis by adding together the items like assets, liabilities and equity.
The following two procedures are then performed in order to prepare the consolidated
statement of financial position.
(a) Take the individual accounts of the parent company and each subsidiary and
cancel items which appear as an asset in one company and a liability/ equity on
another.
(b) Add together all the uncancelled assets and liabilities throughout the group.
Items requiring cancellation may include the following;
I. The asset “investment in subsidiary companies” which appears in the parent
company’s accounts will be cancelled with the equity “Stated capital” in the
subsidiaries accounts.
II. There may be intra group trading within the group. For example, parent company
may sell goods on credit to subsidiary company. As a result subsidiary company
would be a receivable one in the accounts of the parent company, while the parent
company would be a payable one in the accounts of the subsidiary company.
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Example:
The statement of financial position of parent company (P PLC) and subsidiary company
(S PLC) as at March 31, 2015 is given below;
P PLC acquired 100% of equity capital of S PLC from the date of incorporation of S PLC. P
PLC sells goods on credit to S PLC.
Statement of financial position as at March 31, 2015.
P PLC
(Rs 000)
S PLC
(Rs 000)
No current assets
Property plant & equipment 50,000 30,000
Investment in S PLC (3Mn shares @
10% each)
30,000 -
Current assets
Inventories 24,000 6,000
Receivable from S PLC 5,000 -
Other trade receivables 18,000 4,000
Cash and cash equivalents 3,000 5,000
50,000 15,000
Total assets 130,000 45,000
Equity
Stated capital 75,000 30,000
Retained profit 15,000 5,000
90,000 35,000
Current liabilities
Payable to P PLC - 5,000
Other trade payables 40,000 5,000
40,000 10,000
Total equity & liabilities 130,000 45,000
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You are required to prepare the consolidated statement of financial position of P PLC as
at March 31, 2015.
Solution
The cancelling items are;
a) P PLC’s asset “investment in shares of S PLC’s” amounting to Rs. 30 Mn should be
cancelled with S PLC’s stated capital of Rs. 30 Mn.
b) P PLC’s assets “recivable from S PLC" amounting to Rs. 5 Mn should be cancelled
with S PLC’s payable to P PLC amounting to Rs. 5 Mn”
The remaining assets and liabilities are added together to produce the following
consolidated statement of financial position.
P PLC,
Consolidated statement of financial position as at March 31, 2015
Rs. 000
Non-current assets
Property plant & equipment 80,000
Current assets
Inventories 30,000
Other trade receivables 22,000
Cash and cash equivalents 8,000
60,000
Total assets 140,000
Equity
Stated equity 75,000
Retained earnings 20,000
95,000
Current liabilities
Other trade payables 45,000
Total equity & liabilities 140,000
Consolidated statement of profit or loss
The statement of profit or loss of a parent company and its subsidiaries are added on a
line by line basis by adding together the items of income and expenditure. Consolidation
adjustment may then be required.
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Example 1:
P PLC acquired 100% of the ordinary shares of S PLC on that company’s incorporation on
April 1, 2014. The statement of profit or loss of the two companies for the year ended on
March 31, 2015 is set out below.
P PLC (Rs 000) S PLC (Rs 000)
Revenue 80,000 50,000
Less: Cost of sales (45,000) (28,000)
Gross profit 35,000 22,000
Less: Expenses
Administration expenses (12,000) (8,000)
Selling and distribution
expenses
(8,000) (5,000)
Finance cost (5,000) (1,000)
Profit before tax 10,000 8,000
Income tax (2,000) (1,000)
Profit for the year 8,000 7,000
You are required to prepare the consolidated statement of profit or loss for P PLC group,
for the year ended March 31, 2015.
Answer
P PLC, Consolidated statement of profit or loss for the year ended March 31, 2015
Rs. 000
Revenue 130,000
Less: Cost of sales (73,000)
Gross profit 57,000
Less: Expenses
Administration expenses (20,000)
Selling and distribution expenses (13,000)
Finance cost (6,000)
Profit before tax 18,000
Income tax (3.000)
Profit for the year 15,000
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Consolidation adjustments
1. Non-controlling interest
When the parent company does not own 100% of ordinary shares of a subsidiary, non-
controlling adjustment needs to be done. For example if the parent company owns
80% of ordinary shares of a subsidiary, balance 20% of ordinary shares are owned by
non-controlling shareholders. Therefore 20% of the profit earned by the subsidiary
belongs to non-controlling shareholders. As a result profit belonging to non-
controlling shareholders needs to be shown separately in the consolidated statement
of profit or loss.
2. Intra group trading
The consolidated statement of profit or loss should be dealt with the results of the
group as those of a single entity. When one company of a group of companies sells
goods to another company, the relevant amount is added to the sales revenue of the
first company and to the cost of sales of the second company. However this is a
transaction taking place within the group of companies.
The consolidated figures for sales revenue and cost of sales should represent sales to
the outsiders and purchase from the outsiders. An adjustment is therefore required to
reduce the sales revenue and cost of sales by the value of intra group sales during the
year.
Example:
P PLC acquired 80% of ordinary shares of S PLC on April 1, 2014, the date S PLC was
incorporated as a limited liability company. The statement of profit or loss of the two
companies for the year ended on March 31, 2015 is set out below.
P PLC (Rs 000) S PLC (Rs 000)
Revenue 80,000 50,000
Less: Cost of sales (45,000) (28,000)
Gross profit 35,000 22,000
Less: Expenses
Administration expenses (12,000) (8,000)
Selling and distribution expenses (8,000) (5,000)
Finance cost (5,000) (1,000)
Profit before tax 10,000 8,000
Income tax (2,000) (1,000)
Profit for the year 8,000 7,000
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During the year ended on March 31, 2015 P PLC sold goods worth of Rs. 10 Mn to S PLC.
S PLC sold all goods purchased from P PLC, as of March 31, 2015.
Prepare the consolidated statement of profit or loss of P PLC group for the period ended
on March 31, 2015.
Answer
P PLC
Consolidated statement of profit or loss for the year ended on March 31, 2015
Rs’ 000
Revenue 120,000
Less: Cost of sales (63,000)
Gross profit 57,000
Less: Expenses
Administration of expenses (20,000)
Selling & Distribution expenses (13,000)
Finance cost (6,000)
(39,000)
Profit before tax 18,000
Income tax (3,000)
Profit for the year 15,000
Profit attributable to non-controlling shareholders 1,400
Profit attributable to parent 13,600
15,000
Workings
1. Consolidated Revenue = Revenue of P PLC + Revenue of S PLC –
Inter-company sales
= 80,000 + 50,000 - 10,000
= 120,000
2. Consolidated cost of sales = Cost of sales of P PLC + Cost of sales of S PLC –
Inter group purchases
= 45,000 + 28,000 - 10,000
= 63,000
Profit attributable to non-controlling interest shareholders
Profit of S PLC for the year = 7,000
Non-controlling interest = 20%
Profit attributable to non-controlling interest shareholders = 7,000 x 20%
= 1,400
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Heading 8 : LKAS 18 Learning Outcome 4.3.1 Page No.458
Criteria to be satisfied to recognise revenue from, the sale of goods and rendering of sources
are explained. Furthermore, how to recognise interest, dividend and royalties income are
also explained in this document.
Revenue Recognition (LKAS 18)
Identification of transactions
The recognition criteria in this standard are usually applied separately to each
transaction. In certain circumstances, it is necessary to apply the recognition criteria
to the separately identifiable components of a single transaction in order to reflect
the substance of the transaction. For example, when the selling price of a product
includes an identifiable amount for subsequent servicing, that amount is deferred and
recognised as revenue over the period during which the service is performed.
Conversely, the recognition criteria is applied to two or more transactions together
with which they are linked in such a way that commercial effect can not be understood
without reference to the series of transactions as a whole.
For example, an enterprise may sell goods and at the same time enter into a separate
agreement to purchase the goods at a later date, thus negating the substantive effect of
the transaction. In such a case, the two transactions are dealt together.
Sale of goods
Revenue from sale of goods should be recognised when all the following conditions
are satisfied.
a) The enterprise has transferred to the buyer the significant risks and rewards of
ownership of the goods.
b) The enterprise retains neither continuing managerial involvement to the degree
usually associated with ownership nor effective control over the goods sold.
c) The amount of revenue can be measured reliably.
d) It is probable that economic benefits associated with the transaction will flow to the
enterprise.
e) The cost incurred or to be incurred in respect of the transaction can be measured
reliably.
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The assessment of when an enterprise has transferred the significant risks and
rewards of ownership to the buyer requires an examination of the circumstances of
the transaction. In most of the cases, the transfer of the risks and rewards of ownership
coincides with the transfer of risk of the legal title or the passing of possession to the
buyer. This is the case for most retail sales. In other cases, the transfer of risks and
rewards of ownership occurs at a different time from the transfer of legal title or the
passing of possession.
If the inflow of economic benefit is confirmed, revenue should be recognised. However,
if the realisation of revenue value included in the revenue is doubtful, the amount that
may not be realised has to be treated as an expense and not permitted to be adjusted
for the already identified revenue.
As an example, the revenue of a transaction of sale of a particular good is recognised
as Rs 100,000 and if it is expected that Rs 75,000 which has not been received as yet
is not receivable even in future, this Rs 75,000 should be treated as an expense and not
be adjusted for the income.
If there are revenue and expenditure to a particular transaction, the identification of
both revenue and expenditure should be made simultaneously. This process is known as
matching the revenue and expense. If it is difficult to identify reliably the expenditure of
a transaction, the corresponding income should not be recognised and if there is any
receipt collected in advance, it should be considered as a liability.
Rendering of Services
When the outcome of a transaction involving the rendering of services can be
estimated reliably, revenue associated with the transaction should be recognised by
reference to the stage of completion of the transaction at the Statement of Financial
Position date. The outcome of a transaction can be estimated reliably when all the
following conditions are satisfied.
a) The amount of revenue can be measured reliably.
b) It is probable that the economic benefits associated with the transaction will flow
to the enterprise.
c) The stage of completion of the transaction at the balance sheet date can be
measured reliably.
d) The cost incurred for the transaction and the cost to complete the transaction can
be measured reliably.
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The completed level of a transaction is considered at the Statement of Financial Position
date by using the percentage of completion method. According to this method, revenue
relevant for the period during which the service is rendered is properly identified and
this method is recommended even by LKAS 11. Revenue should be recognised only
when the receipt of economic benefits is confirmed. However, if there is a doubt of
realising the amount of revenue already recognised as revenue, that amount of revenue
should not be adjusted for the revenue already identified and it has to be treated as an
expenditure.
There are so many methods for computing the completion percentage of a transaction
and the most reliable method should be applied by the enterprise to estimate the value
of the services already rendered.
Following are some methods that can be used according to the nature of the
transaction.
a) A certificate issued by some expert regarding the work completed up to now.
b) Considering the already provided service as a percentage of total service to be
rendered.
c) Considering the provided service up to the Statement of Financial Position date as
a percentage of total service to be rendered.
If a particular activity is more important when comparing with the other activities,
revenue recognition is deferred till the completion of that special activity. In a
transaction relating to providing the service and if it is difficult to estimate the
value of final product, only the identified expenses and the probable receipts
can be recognised as the revenue. As an example, the expenses incurred up to
now are only Rs 500,000 of a project of which the final outcome cannot be
identified as yet and if the recoverability of that amount is confirmed, only that
amount [ Rs 500,000] can be recognised as the revenue.
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Interest, Dividends and Royalties
This revenue is recognised only,
a) It is probable that the economic benefits associated with the transaction will flow
to the enterprise.
b) The amount of the revenue can be measured reliably.
Revenue should be recognised on the following basis.
a) Interest should be recognised on a time proportion basis that takes into
account the effective yield on the asset.
b) Royalties should be recognised on an accrual basis in accordance with
the substance of the relevant agreement.
c) Dividends should be recognised when the shareholders' right to receive
payment is established.
When unpaid interest is accrued before the acquisition of an interest bearing
investment, the subsequent receipt of interest is allocated between pre acquisition and
post-acquisition periods. Only the post-acquisition portion is recognised as revenue.
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Additional Content for Chapter 27
Interpretation of Financial Statements
Profitability & Return
Profitability ratios
(a) Gross profit as a percentage of sales
(b) Net profit as a percentage of sales
(c) Asset turnover ratio
Gross profit as a percentage of sales
This measures the gross margin earned on revenue by a company before taking into
account of overhead costs. This can be computed as follows.
Gross profit ratio = Gross profit x 100
Sales
Example
The following data relates to Big PLC for the year ended on 31st March 2016.
Sales / Revenue Rs. 500 Mn
Cost of Sales Rs. 200 Mn
Gross profit Rs. 300 Mn
Compute the gross profit ratio
Gross profit ratio = 300 Mn x 100
500 Mn
= 60%
This means the business earns a gross profit of Rs. 60 from every sale of Rs. 100.
Generally this ratio does not fluctuate from year to year. If there is a charge in gross
profit ratio, the reasons for it should be investigated.
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Net profit as a percentage of sales
This ratio shows the relationship between the net profit and sales. It is calculated as
follows.
Net profit ratio = Net profit x 100
Sales
Example: The following data relates to Big PLC
Sales Rs. 500 Mn
Net profit Rs. 100 Mn
Compute the net profit ratio
Net profit ratio = 100 x 100
500
= 20%
This means that the business earns a net profit of Rs. 20 from a sale of 100.
Assets Turnover ratio
This ratio measures the efficiency of generating sales from the assets invested in a
company. It can be calculated as follows.
Asset Turnover ratio = Sales
Average total assets