TRIAL BALANCE

It is Statement which shows accounts balances at the end of year

P Hewitt (Owner or Business Name)

Trial balance as at 31 March 2008(Statement name, date & Year)

Account Title Debit $ Credit $
Cash(Assets) 840
Bank(Assets) 4243
F Tank(Receivable)(Assets) 645
Computer Assets) 700
C Biggins (Receivable)(Assets) 230
Stationary(Expenses) 200
Purchases(Expenses) 2100
Rent(Expenses) 225
Insurance(Expenses) 290
Expenses 32
wages(Expenses) 210
Sales return 1000
Drawing 2000
Sales(Revenue) 1615
Purchases Return 550
T Smart(Payable (Liabilities) 1550
Bank overdraft(Liabilities) 1000
Capital 8000
Total 12715 12715
 Books of original entry/Prime entry/Subsidiary books
Book name Transaction recorded
Sales book Credit sales
Purchases book Credit purchases
Sales return book Credit sales return
Purchases return book Credit purchases return
Cash book Receipts and payment of cash and cheque
General Journal All transactions which cannot be recorded in first
five books
E.g Purchase/sale of noncurrent assets on credit
Correction of errors
Depreciation/bad and doubtful debts

Format of first four books

Sales Book
Date Explanation Amount $
2021
March 1 B Hope 1000
March 3 T Fine 2000
March 31 Transferred to sales account 3000

Sales return Book

Date Explanation Amount $
2021
March 7 B Hope 200
March 10 T Fine 300
March 31 Transferred to sales account 500
 Types of ledger
Ledger name Accounts prepared
Sales Ledger Receivable accounts
Purchases ledger Payable accounts
General ledger All other accounts

Sales Ledger
B Hope Account

Date Explanation Amount Date Explanation Amount

2021 2021
1.3 Sales 1000 7.3 Sales return 200

General Ledger
Sales account
Date Explanation Amount Date Explanation Amount
2021
31.3 Total credit sales 3000

Sales return account

Date Explanation Amount Date Explanation Amount
2021
31.3 Total Sales return 500
 Purchases Book
Date Explanation Amount $
2021
May 1 F Bean 324
May 4 A Clerk 216
May 4 B Lock 322
May 10 B Lock 140
Ma31 Transferred to Purchases account 1002

Purchases Return Book

Date Explanation Amount $
2021
May 7 F Bean 56
May 7 A Clerk 28
May 25 B Lock 34
May 31 Transferred to Purchases Return A/C 118

Purchases Ledger
F BeanAccount

Date Explanation Amount Date Explanation Amount

2021 2021
7.5 Purchases return 56 1.5 Purchases 324

A ClerkAccount

Date Explanation Amount Date Explanation Amount

2021 2021
7.5 Purchases return 28 4.5 Purchases 216
 B LockAccount

Date Explanation Amount Date Explanation Amount

2021 2021
25.5 Purchase ret. 34 1.5 Purchases 322
10.5 Purchases 140

General Ledger
Purchases Account

Date Explanation Amount Date Explanation Amount

2021
31.5 Credit purchases 1002
for the month

Purchases Return Account

Date Explanation Amount Date Explanation Amount

2021
31.5 Credit sales return 118
for the month
 13.3 THREE COLUMN CASH BOOK
Date Explanation cash Bank Disc Date Explanation cash Bank Disc.
.
200 2008
8
1.3 Bal b/d 620 7142 4.3 rent 430
2.3 G Silk 247 13 8.3 R White 702 18
2.3 P Fish 304 16 8.3 G Green 936 24
2.3 T Old 399 21 8.3 L Flip 1560 40
6.3 F Blake 5000 10.3 Motor exp. 81
12.3 J Pie 88 2 15.3 Wages 580
18.3 A Pony 513 27 21.3 Cash © 400
18.3 B Line 665 35 24.3 Drawing 200
18.3 T Owen 494 26 25.3 W Peat 155 5
21.3 Bank © 400 29.3 Fixture 720
31.3 Commission 120 1016 4748
31.3 Bal c/d 4 10224
Total 102 14972 140 Total 1020 14962 87
0
200 Bal b/d 304 10224
8

General Ledger
Discount Allowed Account

Date Explanation Amount Date Explanation Amount

2007
31.3 Total for the 140
month
 Discount Received Account

Date Explanation Amount Date Explanation Amount

31.3 Total for the month 87

17.1 Journal

Date Explanation Debit $ Credit $

2008
May 1 Van 5395
Deedon Garage 5395
Purchase of van on credit
May 3 Bad debt 81
P knight 81
Bad debts written of
May 8 Timewas limited 610
Furniture 610
Furniture was returned to supplier
May 12 Bad debt(320-51) 269
R Twig 269
Bad debts written of
May 14 Drawing 22
Purchase 22
Owner took goods for own use
May 28 Drawing 62
Insurance 62
Owner personal expenses are paid from business
May 28 Machinery 1260
Electrotime 1260
 Purchase of machinery on credit

Accounting Concepts & Principles

Dual aspect/Duality

For every debit there is a credit

Accounting entity

The personal matters of owner should be kept separate from business.

Matching Principle

Final accounts should include all the cost and income for the accounting period to which they relate

Accounts should provide for all the accruals and prepayments

Money measurement(skill of worker and goodwill is not recorded)

Accounts should only include items with a monetary value/information expressed in monetary terms

Prudence

Accounts should provide for all probable loses and should not anticipate profit.

Do not overstate profits and assets

Consistency

Accounts should use the same methods from year to year

Transactions of similar nature should be recorded in the same way in the same accounting period and in
all future accounting periods

Realization

Profit is only recorded when it has actually been earned

Going concern (Assets are valued a Net Book value)

The business will continue to operate for an indefinite period of time

Historical cost

Assets and liabilities are recorded in the accounts at the actual amount of the transaction.

Materiality

While preparing financial statement items of small vale are not included in noncurrent assets

Accountingyear principle
Financial statements are prepared for a specific period so that business is able to compare his results
with competitor

Bank Reconciliation Statement

It is a statement which compares cash book with bank statement to reconcile both.

Causes of difference
Bank omissions

Bank lodgment not credited/Un-credited cheque

A cheque which was received from customer and the business deposited it with the bank on
that date; the bank did not receive the funds from customer bank

Treatment

It is added in bank reconciliation statement

Un-presented cheque/Outstanding cheque

A cheque had been paid to payable and he deposited it in his bank but his bank didn’t
collect the money from the business’s bank

Treatment

It is subtracted in bank reconciliation statement

Cash book omissions

Standing order

These are instructions given by firm to its bank to pay regular amounts of money at
stated dates to persons or firms.

Direct debit

This is permission to the creditor to obtain the money directly from your bank account.

Bank charges

These are deductions made by bank for providing services to customer E.g. Cheque book
charges

Dishonored cheque
A cheque returned by bank because of insufficient amount in account or technical reasons

Treatment

All above omissions are recorded in adjusted cash book credit side

Direct credit /credit transfer

Any amount directly deposited in to our account

Treatment

It is recorded in adjusted cash book debit side

Adjusted cash book

Explanation Amount Explanation Amount

Balance b/d X Balance b/d( In case of X
overdraft)
Credit transfer X Bank charges X
Direct credit X Standing order X
Any income received by bank X Direct debit X
Dishonored cheque X
Balance c/d( In case of X Balance c/d X
overdraft)
Total X Total X
Balance b/d x Balance b/d( In case of x
overdraft)

Bank reconciliation statement

Balance as per bank statement(Amount in () in case of x

overdraft)
Add un-credited cheque X
Less un-presented cheque (X)
Balance as per adjusted cash book X
 Control Accounts (Total accounts)
A control account controls by means of comparing balance on control account with balances in
the section the ledger it is controlling

There are two types of control accounts

1- Sales Ledger/Receivable/Debtor control account

2- Purchases ledger /Payable /Creditor control account

Sales Ledger/Receivable/Debtor control account

Explanation Amoun Explanation Amount

t
Balance B/d Balance B/d (Credit
balance)
Credit sales Cash received from
customer
Interest Charged to Cheques received From
customer Customer
Carriage Charged to Sales return
customer
Refund to customer Bad debt
Bad debt recovered Discount allowed
Dishonored cheque Contra/Set off
Balance C/d ( Credit) Balance C/d
Total Total
Balance B/d Balance B/d (Credit
balance)
 Purchases Ledger control Account

Balance B/d (Debit balance) Balance B/d

Cash paid to supplier Credit Purchases
Cheque given to supplier Interest Charged by
Supplier
Purchases return Carriage Charged by
supplier
Discount Received Refund from supplier
Contra/Set off Balance C/d (debit balance)
Balance C/d
Total Total
Balance B/d(debit balance) Balance B/d

How sales ledger control account and sales ledgers are reconciled.
(1) If a transaction is not recorded in any book then it will be recoded both in ledger
and control accounts E.g. Sales invoice is not recorded anywhere.
(2) If due to a transaction total of book is affected then it will be recorded in control
accounts e.g. a page of sales book is overstated.
(3) If a transaction is not recoded or wrongly recorded in personal account, then it will
be recorded in reconciliation statement e.g. sales are not recorded in personal
account.

Q.1 (14.5 from AS accounting by Nauman Malik)

J Peterson, a trader, sales ledger control account on 31 October has a balance of $ 11150 where
as total of sales ledger balances at the same date were amounting to $ 11000. Subsequently the
following errors were found:

(1) An invoice for a credit sale of $ 130 to Grey Manson had not been entered in the
sales journal
(2) One page of sales journal had been over added by $ 360.
(3) A cheque of $ 360 received from Henry Williams has been correctly entered in the
cash book but posted to Henry’s account in the sales ledger as $ 630.
 (4) A credit balance of $ 520 on Shaun Stokes in the purchases has been set- off against
his account in the sales ledger however no entry was passed in the control accounts.
(5) A credit note issued for sales return amounting to $ 500 was wrongly debited to the
customer’s account.

Required:
(a) The adjusted sales ledger control account for October 20x7.
(b) A statement to reconcile total of sales ledger balances with corrected sales ledger
control account balance.

Answer
Adjusted sales ledger control account

Date Explanation Amount Date Explanation Amount

2007 2007
31.10 Balance B/d 11150 31.10 Sales journal is 360
over added
31.10 Sales invoice 130 31.10 Contra omitted 520
omitted
31.10 Balance c/d 10400
Total 11280 Total 11280
2007
1.11 Balance B/d 10400

Reconciliation of sales ledger balance with sales ledger control account

Balance as per sales ledger $11000

Sales invoice omitted 130
Add cheque received over stated(630 -360) 270
Less sales return wrongly debited(500 x 2)=1000 (1000)
Corrected balance 10400
 Depreciation
Straight line method

Depreciation = Cost -Scrape value

Useful life

Question1

Cost $110000 Scrape value $10000 Life 5 years

Required

Calculate the depreciation using straight line method

OR

Depreciation = Cost X Rate of depreciation

Question2

Cost $100000 Rate 20% Life 5 years

Required

Calculate the depreciation using straight line method

Reducing balance method

Depreciation = Net book value x Rate of depreciation

Question3

Cost $150000 Scrape value $49152 Life 5 years Rate 20%

Required

Calculate the depreciation using Reducing balance method

Revaluation method
Depreciation = Value of asset at the start of year - Value of asset at the end of year

Question 4

Value of tools as at 1 January 2017 $15000

Value of tools as at 31 December 2017 $12000

Calculate depreciation using g Revaluation method

Depreciation on Noncurrent assets for partial year

If asset is purchased during the year or sold during the year then there are two methods to
calculate depreciation

(1) One month ownership, one month depreciation

In this method depreciation is charged on monthly basis

Example 1 Financial year of business ends on 31 December each year

A computer is purchased on 1 April 2017 for $100000 with no scrape value it will be used for 4
years

2 Full year depreciation on assets at the end of year

In this method depreciation is charged on for full year on all assets which are held at the end
of year

Full year depreciation is charged on assets purchased during the year

No depreciation is charged on assets sold during the year

Example 1 Financial year of business ends on 31 December each year

A computer is purchased on 1 April 2017 for $100000 with no scrape value it will be used for 4
years

Calculate depreciation for the year ended 31 December 2017

Double entry records of Depreciation
Machinery Account

Date Explanation Amount Date Explanation Amount

2019 2019
Balance B/d 100000 30 .9 Disposal account 20000
Cash/Bank/Payable 30000 31.12 Balance c/d 11000
Total 130000 Total 130000
2020 Balance B/d
1.1 Balance B/d 110000

Provision for Depreciation Account

Date Explanation Amoun Date Explanation Amount

t
2019 2019
30.9 Disposal 3000 1.1. Balance B/d 5000
31.12 Balance c/d 4000 31.12 Income 2000
Statement
Total 7000 Total 7000
2020
1.1 Balance B/d 4000

Disposal account

Noncurrent asset at cost 20000 Provision for Depreciation 3000

Income Statement(Profit on Bank 15000
disposal)
Income Statement(Loss on 2000
disposal)
Total 20000 Total 20000
 Statement of financial position (Extract)

Noncurrent assets

Noncurrent assets Cost Accumulated Net book

depreciation value
Furniture 100000 35000 65000

Correction of errors
Errors not effecting trial balance agreement
Due to these errors trial balance both side are still equal

Types of errors not effecting trial balance agreement

Errors of omission

When a transaction is completely omitted from the book. If we sold £90 goods to Ahmed, but
did not enter it in either the sales or Ahmed’s personal account, the trial balance would still
‘balance’.

Correction

By making double entry to record transaction

Example

A cash purchase of goods for $2000 has omitted from books

Explanation Debit $ Credit $

(a) Purchases 2000
Cash 2000
Purchase of goods on cash not recorded(Omission))

Errors of commission

This type of error occurs when the correct amount is entered in same type but in the wrong
person’s account, e.g. where a sale of £11 to C Green is entered in the account of K Green. It
will be noted that the correct class of account was used; both the accounts concerned being
personal accounts.

Correction
Reverse the entry in the wrong account and to post the correct entry.

Example

A sale of 5000 to Ahmed has been posted in Kaman account

Explanation Debit $ Credit $

(a) Ahmed 5000
Kaman 5000
Sale of goods to Ahmed wrongly written in
Karman(Comission))

Errors of Principle

An entry has been posted to the wrong account of a different category.

E.g. if purchase of a fixed asset, such as a van, is debited to an expenses account, such as motor
expenses account.

Correction

Reverse the entry in the wrong account and to post the correct entry.

Example

A repair to vehicle for $3000 had been posted to vehicle account

Explanation Debit $ Credit $

(a) Motor vehicle repair 3000

Motor vehicle 3000

A repair to vehicle wrongly posted to vehicle

account(Principle)

Errors of Original entry

A wrong amount is recorded in a book of original entry or a document such as an invoice and
subsequently posted to the ledger accounts. E.g. Goods sold to Ahmed for 1500 are written as
150
Correction

To correct the difference in the correct and wrong amount accordingly.

Example

A sale of $2,100 o Ahmed by Kaman has been entered in the sales Journal and postedto the
ledger as $2,010.

Explanation Debit $ Credit $

(a) Ahmed(2100-2010) 90
Sales 90
Sales to Ahmed under cast (Original entry)

Errors of Transposition

Sequence of digits is changed while recording in a book of original entry or a document

. E.g. Goods sold to Ahmed for 465 are written as 456

Correction

To correct the difference in the correct and wrong amount accordingly.

Example

A purchase of $2,100 from Ahmed by Kaman has been entered in the Purchases Journal and
postedto the ledger as $2,010.

Explanation Debit $ Credit $

(a) Ahmed(2100-2010) 90
Sales 90
Sales to Ahmed under cast (Transposition error)

Compensating error

An error on the debit side is compensated by an error of equal amount on the credit side.If the
sales account was added up to be £10 too much and the purchases account was also added up
to be £10 too much, then these two errors would cancel out in the trial balance.

Example

Rent received $340 is correctly debited to the Cash Account but posted as $350 to Rent
Revenue Account. Similarly, wages paid a sum of $590, is correctly credited to the Cash Account
but posted as $600 to Wages Account.

Explanation Debit $ Credit $

(a) Rent received(350-340) 10
Wages(600-590) 10
Rent revenue and wages are over cast
(Compensating error)

Error of complete reversal

In this error the correct accounts are used but each item is shown on the wrong side of the
account. Suppose we had paid a cheque to Ahmed for £200, the double entry of which is Cr
Bank £200, Dr D Williams £200 but in error it is entered as Cr Ahmed £200, Dr Bank £200. The
trial balance totals will still agree.

Correction

It is corrected by making the necessary posting of an amount double the amount of the original
error.

Example

Cash paid to Ahmed $300 was written in Debit of cash account and credit of Ahmed account

Explanation Debit $ Credit $

(a) Ahmed (300 x2 ) 600
Cash 600
Payment to Ahmed posted on opposite side
(Complete reversal)

Suspense Account

Explanation Amount Explanation Amount

Purchases 20 Balance B/d 40
Payable 9
Sales 11
Total 40 Total 40

Adjustment
1-Accrued Expense/Outstanding Expenses
These are expenses that have been incurred for the accounting year but amount is not
yet paid by the business

Treatment in Financial Statements

It is added in to expenses in Income Statement and written as current Liability in

Statement of financial Position

Accrued expense Account

Dat Explanation Amount Date Explanation Amount

e
31.1 Bank 8000 1.1 Balance B/d 1000
31.1 Balance C/d 2000 31.1 Income Statement(b.f) 9000
Total 10000 Total 10000
1.2 Balance B/d 2000

2-Prepaid expense /Payment in advance

These are expenses that are paid in advance but not yet incurred for the current year
 Treatment in Financial Statements

It is deducted from expenses in Income Statement and written as current assets in

Statement of financial Position

Prepaid expense Account

Dat Explanation Amount Date Explanation Amount

e
1.1 Balance B/d 5000 31.1 Income Statement(b.f) 16000
31.1 Bank 20000 31.1 Balance C/d 9000
Total 25000 Total 25000
1.2 Balance B/d 9000

3-Accrued/Outstanding Revenue

Revenue earned but not received yet

Treatment in Financial Statements

It is added in to income in Income Statement and written as current assets in Statement

of financial Position

Accrued income Account

Dat Explanation Amount Date Explanation Amount

e
1.1 Balance B/d 10000 31.1 Bank 25000
31.1 Income Statement(b.f) 23000 31.1 Balance C/d 8000
Total 33000 Total 33000
1.2 Balance B/d 8000

4-Income Received in Advance/pre-received income

These are the income which have been received in the current year but are still to be
earned or services are still to be rendered

Treatment in Financial Statements

 It is deducted from income in Income Statement and written as current Liability in
Statement of financial Position

Pre-received Account

Dat Explanation Amount Date Explanation Amount

e
31.1 Income Statement(b.f) 21000 1.1 Balance B/d 6000
31.1 Balance C/d 7000 31.1 Bank 22000
Total 28000 Total 28000
1.2 Balance B/d 7000

5 - Stationary Account

Date Explanation Amount Date Explanation Amount

1.1 Balance B/d 700 31.12 Income Statement(b.f) 5400
31.12 Bank 5300 31.12 Balance C/d 600
Total 6000 Total 6000

Final accountswithadjustment
Q 1(Q 1.5.3 Ch 15 from AS accounting Nauman Malik Book)

Steve boon

Income Statement for the year ended 31 December 2000

Sales/Revenue 195300
Less Cost of sales
Opening Stock/Inventory 9600
Add Purchases 88500
Less Closing Inventory (10800) (87300)
Gross profit 108000
Less Expenses
Repair 6800
Salaries and wages
34200
Add Accrued 36000
1800
Insurance
12500
Less prepaid 12000
(500)
Electricity
9800
Add Accrued 10000
200
General expenses 7200
Depreciation on Machinery 9040
Depreciation on Furniture 4060 (85100)
Profit for the year 22900

Steve boon

Statement of Financial Position as at 30 December 2000

Noncurrent Assets Cost Depreciation N.B.V $

$
Machinery and Equipment 45200 (9040) 36160
Furniture and Fixtures 40600 (4060) 36540
85800 (13100) 72700
Current Assets
Closing Stock/Inventory 10800
Debtor/Trade Receivable 22100
Other Receivable (Prepaid rent) 500
Cash and Bank balance 4700 38100
Total assets 110800
Owners equity and Liabilities
Owners equity
Capital 97500
Add Net Profit 22900
Less Drawing (24700)
95700
Current Liabilities
Creditors/Trade Payable 13100
Other payable (Accrued Telephone + 200 2000 15100
Wages) +1800=
Total Owners equity and Liabilities 110800
Bad debt
A debt that is not recoverable after all efforts have been made for its collection/It is an
amount owing to the business which the debtor is unable or unwilling to pay

Double entry records of bad debt

Debit Credit
Double entry to record of bad debt
Bad debt xx
Receivable xx
Bad debt written off
Double entry to transfer of bad debt to I/S

Income statement xx
Bad debt xx
Bad debt transferred to income statement

Example

On 1 January 2012 goods are sold on credit to Ahmed for $10000. He paid $4000 on 31
Jan 2012 by cheque. On 31 Dec. it was decide to write of his reaming balance as bad
Debt.

On 1 March 2012 goods are sold on credit to Musa for $20000. He paid $6000 on 31
May 2012 by cheque. He also paid $10000 by cash on 31 August. On 31 Dec. it was
decide to write of his reaming balance as bad Debt.

Required;

 Ahmed Account

 Musa account
  Bad Debt

 Income Statement Extract

Statement of financial Position Extract

Ahmed account

Date Explanation Amount Date Explanation Amount

2012 2012
1.1 Sales 10000 31.1 Bank 4000
31.12 Bad debt 6000
Total 10000 Total 10000

Musa account

Date Explanation Amount Date Explanation Amount

2012 2012
1.3 Sales 20000 31.5 Bank 6000
31.8 Cash 10000
31.12 Bad debt 4000
Total 20000 Total 20000

Bad debt account

Date Explanation Amount Date Explanation Amount

2012 2012
31.12 Ahmed 6000
31.12 Musa 4000 31.12 Income statement 10000
Total 10000 Total 10000

Income statement (extract)

Gross profit X
Less expenses
Bad debt 10000
Provision for doubtful debt

 It is estimated amount of bad debts which may occur.

 It is usually based on percentage of total debtors

Treatment of Provision for doubtful debt

Increase/Decrease in provision for doubtful Debts are written in Income Statement and
Deducted from Receivable in Statement of Financial Position.

Double entry records of provision for doubtful

Debit Credit
Double entry to record creation/ increase in
provision

Income statement xx
Provision for xx
doubtful debt

Double entry to record Decrease in

provision

Provision for doubtful debt xx

Income statement xx

Statement of financial position

Current assts $ $
Receivable 10000
Less provision for doubtful debt (1000) 9000
Incomplete records
Incomplete records mean a part of record is destroyed due to theft, flood, or fire. Now we have
to construct complete set of final accounts from available data

Different steps in preparation of incomplete records

Step 1 Prepare a statement of Affairs to find owners equity

Frank
Statement of Affairs as at 31 December 2020

Noncurrent Assets $ $
Premises 92000
Motor vehicles 8000
Fixtures 20000
120000
Current Assets
Closing Stock/Inventory 45000
Debtor/Receivable 35000
Cash at Bank 20000
Cash in hand 10000 110000
Total assets 230000
Less liabilities
Noncurrent Liabilities
Loan 20000
Current Liabilities
Creditors/Payable 10000 (30000)
Owners equity 200000

Step 2 Prepare receivable/sales ledger control account to find credit sales

Sales ledger control account
Explanation Amount Explanation Amount
Balance b/d(opening 1000 Bank (receipts from 28000
receivable) receivable)
Credit sales( Balancing 29000 Balance c/d(Closing 2000
figure) receivable)
Total 30000 Total 30000

Total sales =Credit sales + cash sales

=29000 +10000 =39000

Step 3 Prepare Payable/Purchases ledger control account to find credit purchases

Purchases ledger control account

Explanation Amount Explanation Amount

Bank (Payments to 15000 Balance b/d(opening 3000
payable) payable)
Balance c/d(Closing 5000 Credit purchases( Balancing 17000
payable) figure)
Total 20000 Total 20000

Total Purchase =Credit purchase + cash purchases

=17000 +5000 =22000

Step 4 Prepare accounts for adjustment (prepaid and accrued)

Step 5 Prepare Noncurrent asset account at net book value for calculation of depreciation if
rate or life is not given

Noncurrent asset account at net book value

Explanation Amount Explanation Amount

Balance b/d 50000 Disposal(at Net book value) 30000
Bank (Purchase of NCA) 150000 Depreciation( Balancing 30000
figure)
Balance c/d 140000
Total 200000 Total 200000

Step 6 Prepare cash account to find out cash sales, cash received from debtor, cash stolen or
cash drawing
Cash A/C

Explanation Amount Explanation Amount

Balance b/d Payments
Receipts Cash stolen( Balancing figure)or
Cash received from Cash drawing( Balancing
receivable( Balancing figure)or
figure)
Balance c/d
Total Total

Q1: Eric is a retailer who does not maintain accounting records. However he has supplied th3e following
the following you with the following information relating to his assets and liabilities at certain dates

31 March 2020 31 March 2021

Inventory 5750 6150
receivable 4800 5500
Payable 6250 6900
Premises at cost 18000 18000
Fixture at net book value 1600 1200
Rates paid in advance 200 250
Wages accrued 300 200
Bank 500 ?

Erics receipts and payment account for the year ended 31 March 2021 were as follows

Receipts $ Payments $
Cash sales 20800 Payment to payable 28950
Receipts from receivable 30650 Rates 2200
wages 3600
 general expenses 3720
drawings 4200
Motor vehicle 8300

The following additional information is also available;

(a) Eric pays all cash direct into bank and makes all payments by cheque
(b) Depreciation is charged on fixture @25% on book value at the beginning of the year.
(c) The vehicle is purchases on I October 2021 and is written of over five years with easale
value of $1300

Required:

(a) Prepare a statement of affairs as at 31 March 2020

(b) Draw up a summarized bank account.
(c) Find total sales and total purchases
(d) Prepare a income statement for the year ended 31 March 2021
(e) Prepare a statement of financial position as at 31 March 2021

Eric
Statement of Affairs as at 31 March 2020

Noncurrent Assets $ $
Premises 18000
Fixtures 1600
19600
Current Assets
Closing Stock/Inventory 5750
Debtor/Receivable 4800
Other receivables (Prepayment) 200
Cash at bank 500 11250
Total assets 30850
Less liabilities
Current Liabilities
Creditors/Payable 6250
Other payables (Accrued) 300 (6550)
Owners equity 24300

Step 2 Prepare receivable/sales ledger control account to find credit sales

Sales ledger control account

Explanation Amount Explanation Amount

Balance b/d(opening receivable) 4800 Bank (receipts from 30650
receivable)
Credit sales( Balancing figure) 31350 Balance c/d(Closing 5500
receivable)
Total 36150 Total 36150

Total sales =Credit sales + cash sales

=31350 +20800 =52150

Step 3 Prepare Payable/Purchases ledger control account to find credit purchases

Purchases ledger control account

Explanation Amount Explanation Amount

Bank (Payments to 28950 Balance b/d(opening 6250
payable) payable)
Balance c/d(Closing 6900 Credit purchases( Balancing 29600
payable) figure)
Total 35850 Total 35850

Step 4 Prepare accounts for adjustment (prepaid and accrued)

Prepaid rate account

Explanation Amount Explanation Amount

Balance b/d(opening 200 Income 2150
receivable) statement(Balancing)
Bank 2200 Balance c/d(Closing 250
receivable)
Total 2400 Total 2400

Accrued wages account

Explanation Amount Explanation Amount

Bank 3600 Balance b/d(opening 300
payable)
Balance c/d(Closing 200 Income 3500
payable) statement(Balancing)
Total 3800 Total 3800

Step 5 Prepare Noncurrent asset account at net book value for calculation of depreciation if
rate or life is not given

Fixture account at net book value

Explanation Amount Explanation Amount

Balance b/d 1600 Depreciation( Balancing 400
figure)
Balance c/d 1200
Total 1600 Total 1600

Depreciation on motor vehicle:

Depreciation = (Cost –resale value)/useful life

= (8300 -1300)/5 =$1400 per year

For the year ended 31 March 2021 =$1400 X6/12 (From oct to March) =$700

Step 6 Prepare Bank account to find out cash sales, cash received from debtor, cash stolen or
cash drawing
 Bank A/C

Explanation Amount Explanation Amount

Balance b/d 500 Payment to payable 28950
Receipts from receivable 30650 Rates 2200
Cash sales 20800 wages 3600
general expenses 3720
drawings 4200
Motor vehicle 8300
Balance c/d 980
Total 51950 Total 51950

Eric
Income statement for the year ended 31 March 2021

Sales/ Revenue 52150

Less: cost of goods sold.

Opening Inventory 5750

Plus purchases 29600
Less closing inventory (6150) (29200)
Gross profit 22950
Less Expenses
wages (3600+200-300) 3500
Rates(2200-250+200) 2150
General expenses 3720
Depreciation :Fixture 400
Vehicle 700 (10470)
Profit for the year 12480
 RahailAnwer

Statement of Financial position as at 31 December 2020

Noncurrent Assets Cost $ Acc. Dep. $ NBV $

Premises 18000 18000
Fixure 1200
Vehicle 8300 (700) 7600
26800
Current Assets
Inventory 6750
rade Receivable 5500
Other Receive able(prepaid ) 250
Cash a bank 980 12880
Total assets 39600
Equity and Liabilities
Capital 24300
Add net profit 12480
Less drawing (4200)
32580
Payable 6900
Other payable( Accexp) 200
Bank overdraft 7100
Total Equity and Liabilities 39600
Partnership Account.

Accounts to be prepared

1. Income statement & appropriation a/c

2. Partners current a/c
3. Statement of financial position
P & L Appropriation A/C for the year ended.

Profit for the year X

Add interest on drawings : A X
:B X X
Less interest on capital :A X
:B X (X)
Less Partners salaries :A X
:B X (X)
Residual profit X
Profit share :A X
( As per ratio) :B X (X)
0

PARTNERS CAPITAL A/C(If current account is made)

A B A B
Transfer to loan a/c X X Balance b/d X X
Balance c/d X X Additional capital X X
Total X X Total X X
Balance b/d X X

PARTNERS CURRENT A/C

A B A B
Balance b/d (if any) X X Balance b/d X X
Drawings X X Interest on capital X X
Interest on drawing X X Partners Salary X X
Balance c/d X X Share of profit X X
Interest on loans (if X X
not paid
Balance c/d(If) X X Balance c/d X X
Total X X Total X X
Balance b/d Balance b/d

Partners current A/C can also prepared in column form in Statement of financial
positions financed by section as under.

A $ B $
Balance b/d (Opening balance X X
Add interest on capital X X
Partners Salary X X
Add Profit share X X
Less Drawing (X) (X)
Less interest on drawing (X) (X)
Balance c/d X X
 Statement of Financial position-extracts.

Owners Equity $ $
Capital :A X
:B X X
Current account :A X
:B X X

Partnership Changes
(1) Change in profit sharing ratio
(2) Admission of new partner
(3) Retirement of partner
Goodwill retained in business

Goodwill Account

Explanation Amount $ Explanation Amount

$
Capital of A
Capital of B Balance carried down
Total Total
Balance Brought down

Capital Accounts

Explanation A$ B$ Explanation A$ B$
Balance Brought
down
Balance carried down Goodwill
Total Total
Balance Brought
down

Statement of financial position

Noncurrent assets (other than Goodwill)

 Goodwill

Current assets

Total Assets

Equity A

Current Liabilities

Total

Goodwill not retained in business

Goodwill Account

Explanation Amount $ Explanation Amount $

Capital of A(In before change Capital of A(In after change
ratio) ratio)
Capital of B (In before change Capital of B (In after change
ratio) ratio)
Total Total

Capital Accounts

Explanation A$ B$ Explanation A$ B$
Goodwill Balance Brought
down
Balance carried Goodwill
down
Total Total
Balance Brought
down

Statement of financial position

Noncurrent assets (other than Goodwill)

Current assets

Total Assets
 Equity A

Current Liabilities

Total

Revaluation accounts

Explanation Amoun Explanation Amount

t
If value of asset increases If value of asset increases
Difference is divided in Difference is divided in partner
partner capital in profit capital in profit sharing ratio
sharing ratio

Partnership dissolution
Realization accounts (to find out profit/loss on sale of partnership)

Explanation Amount Explanation Amount

(1)All asset at net book (2)Trade payable (from SOFP)
value (from SOFP) except
bank
(3)Bank(Sale of assets)
(5) Bank (Paymentto (4)Capital of Partner(Assets
payable) taken bypartner at agreed value)
(6) Bank (Payment of
expenses)
Difference is divided in Difference is divided in partner
partner capital in profit capital in profit sharing ratio
sharing ratio
Capital of W Capital of W
Capital of y Capital of y
Total Total

Capital Accounts(to find out amount payable to each partner)

Explanation W Y Explanation W y
Current A/c Balance B/d
(negative)
Assets taken by Current
partner A/c(Positive)
Realization(If Loss) Realization(If
Profit)
Bank (balance)
Total Total

Bank Account

Explanation Amount Explanation Amount

Balance B/d Balance B/d(Overdraft)
Sale of assets PaymenttoPayable
Payment ofExpenses
Capital of W
Capital of Y
Loan repayment
Total Total
 CompanyAccounts
Company Final accounts

Income statement for the year ended 31 December 2020

Sales XX
Less cost of sales (XX)
Gross profit XX
Less operating expenses
Selling and distribution Expense X
Administration Expense X (XX)
Operating expenses XX
Less Finance cost (interest) (XX)
Profit after interest XX
Less tax (XX)
Profit for the year XX

Statement of changes in equity

Ordinary Revaluation Share General Retained Total

share reserve premium reserve profit
capital
Balance b/d xx xx xx xx xx xx
Profit for the year xx xx
Interim dividend (xx) (xx)
paid
Last year final (xx) (xx)
dividend paid
Transfer to general xx (xx) -
reserve
Issue of share at xx xx xx
premium
Issue of bonus xx (xx) if (xx)
shares needed
Revaluation of xx xx
assets
Balance c/d xx xx xx xx xx xx

Statement of financial position as at 31 December 2020

Noncurrent Assets (as earlier) XX

Current Assets (as earlier) XX
Total assets XX
Equity and Liabilities
Share capital and reserves
Share capital (no. x face value)(50000 shares @ $1 ) 50000
Share Premium xxx*
Revaluation reserve Xxx*
General reserve Xxx*
Retained profit xxx* xxx
(*Above values from Statement of changes and xxx
equity)
Noncurrent Liability
% Debenture Repayable in 2025 xxx
Current Liability(as earlier) xxx
Total of equity and liabilities
 Issue of shares
Double entry records issue of shares

Debit Credit
Double entry to record receipts of
application

Bank xx
Share application xx
Application for issue of shares
Double entry to record return of extra
money

Share application xx
Bank xx
Extra amount is returned
Double entry to record issue of share

Share application xx
Share capital xx
Share premium xx
Shares are issued
 Ratio Analysis
Types of Ratio

1) Profitability
2) Liquidity
3) Efficiency

Profitability Ratios

These ratios tell us about financial performance of the business. These ratios tell us about how
much profit the business makes in relation to its sales or assets.

i. Gross Profit Ratio/ Margin (Gross Profit Percentage) = Gross Profit x 100 =
Answer in %
Net Sales (revenue)

 If this ratio has increased it is better. It can change because of selling price and
cost of goods sold change.
ii. Gross Profit Markup = Gross Profit x 100 = Answer in %
Cost of Sales

iii. Profit Margin Ratio = Profit for the year(after Interest) x 100 = Answer in %
Net Sales (revenue)
  If this ratio has increased it is better. It can change because of gross profit and
operating expenses.

iv. Return on Capital Employed Ratio (ROCE)= Profit before interest and tax x 100 =
Answer in %
Capital Employed

 If this ratio has increased it is better. It can change because of change in profit
margin ratio and asset turnover ratio.

Note: Capital Employed = Total Assets – Current Liability

OR

Capital Employed = Noncurrent Liability + Capital + Reserves

v. Return on Equity Ratio (ROE)= Net Profit after Preference Dividend x 100 = Answer in
%
Equity

 If this ratio has increased it is better. It can change because of change in net
profit, interest expense.

Note: Equity = Total Assets – Current Liability- Long Term Liability

Or

Equity = Capital + Reserves

vi. Return on Total Assets Ratio= Profit before interest and tax x 100 = Answer in %
Total Assets

Note: Total Assets = Fixed Assets + Current Assets

 If this ratio has increased it is better. It can change because of change in net
profit or total assets. This ratio shows that how much returns we are earning
on our total investments.

Operating Expense Ratio= Operating Expense x 100 = Answer in %

Sales (Revenue)
  If this ratio is less than previous year then it is better. It can change because of
change in sales, change in the operating expenses. This ratio shows that how
much expenses are incurred for current year sales.
vii. Expense Ratio= Expense x 100 = Answer in %
Sales (Revenue)

If this ratio is less than previous year then it is better. It can change because of
change in sales, change in the operating expenses. This ratio shows that how much expenses
are incurred for current year sales

2) Liquidity/Working Capital/Short Term Solvency Ratios

 Liquidity
Liquidity is ability of company to meet its short term obligations.

 Working Capital
It is cash tied up in the day to day operations of the business.

i. Current Ratio = Current Asset = answer : 1

Current liability

 There is no hard and fast rule about this ratio. It depends on the type of
organization that how much this ratio should be. (Generally accepted ratio is
2:1). If this ratio is too high, it is not good because the company is losing the
opportunity to earn profit by investing this money elsewhere. If this ratio is too
low then there is a danger that payable cannot be paid on time and company
can be declared as bankrupt.

ii. Quick/Acid Test/ Liquid Ratio = Current Asset – Inventory = answer : 1

Current liability

 There is no hard and fast rule about this ratio. It depends on the type of
organization that how much this ratio should be.(Generally accepted ratio is
1:1) This ratio is called acid test ratio because it is very stringent test of
liquidity in that it takes into account only the more liquid assets by exclusion of
stocks and short term investments which are not easily convertible into cash.
This ratio excludes stock because it cannot be converted into cash without loss.

3) Efficiency/Activity/Performance Ratios
These ratios are calculated to evaluate the performance of management. These ratios tell that
how effectively and efficiently current assets and liabilities are managed.
 i. Rate of Inventory Turnover Ratio = Cost of Sales = Answer in Times
Average Inventory

 This ratio tells that how many times inventory is converted into sales during
the year. If this ratio is high it is better because it means Inventory is managed
efficiently.

/Inventory Turnover/Average Holding period = Average Inventory x365 = Answer inDays

Cost of Sales

 This ratio tells that after how many days on average Inventory is converted into
sales during the year. If this ratio is low it is better because it means Inventory
is managed efficiently.

Average Collection period/ Receivable Turnover Ratio=NetTrade receivable x365 = Answer

inDays
Credit Sales

 This ratio tells that after how many days receivable made their payments
during the year. If this ratio is low it is better because it means receivable are
managed efficiently.

ii. Average Payment period/ Payable Turnover Ratio = Trade payable x365 =
Answer inDays
Credit Purchases

 This ratio tells that after how many days we are making payments to payable
during the year. If this ratio is high it is better because it means creditors are
managed efficiently.
iii. Noncurrent Asset Turnover Ratio = Net Sales (revenue) = Answer in Times
Net book value of noncurrent assets

 This ratio tells that with the help of noncurrent how much sales are made
during the year. If this ratio is high it means that company is making more sales
by using less resource. It means that noncurrent assets are utilized efficiently.

Hints:

 If it is not mentioned that sales are made on cash basis or credit basis, then we assume that
it is made on credit basis.
 If averages can not be calculated then use closing figures for calculation.
  In case of non availability of credit purchases cost of goods sold can use in “Payable Turn”
over Ratio.

Limitation of ratios analysis

(1)It uses historical information.

(2) Does not take seasonality into account

(3) May use subjective data

(4) Based on purely quantitative information

(5) Does not explain the cause

(6) Does not take inflation into account

Break Even Analysis

1. Contribution per unit = selling Price per unit – variable cost per unit = Ans. $ per unit

2. Contribution Margin Ratio or Profit Volume Ratio = 1 – Variable Cost x100 = Ans. In %
Sales

3. Break Even Point in Units = Fixed Cost = Ans. In unit

Selling Price per unit – variable cost per unit

4. Break Even Point In $ = Fixed Cost

1 – Variable Cost = Ans. In $

Sales

5. Units Required to Earn A target Profit = Fixed Cost + target Profit = Ans. In
unit
Selling Price per unit – variable cost per unit
6. Sales in $ required to Earn A target Profit = Fixed Cost + target Profit = Ans. In $
1 – Variable Cost

Sales

7. Profit From Given Number of Units Formula # 5 will be used for this purpose. As
number of units will be given, we will solve formula for target profit.

8. Profit From given amount of Sales Formula # 6 will be used for this purpose. As the
value of sales will be given, we will solve formula for target profit.

9. Margin Of Safety in Units

=Actual or budgeted Sales in Units – breakeven Sales in Units = Ans. In unit

10. Margin Of Safety in $

=Actual or budgeted Sales in $ – breakeven Sales in $ = Ans. In $

11. Margin Of Safety Ratio

= Actual or budgeted Sales in Units – breakeven Sales in Units x 100 = Ans. In
%

Actual or budgeted Sales in Units

Or

= Actual or budgeted Sales in $ – breakeven Sales in $ x 100 = Ans. In %

Actual or budgeted Sales in $

12. Contribution Margin Ratio Of Company = Total Contribution from All Products
Total Sales from All Products

assumptions Limitations
Cost can be divided into fixed and There is semi variable cost
variable
Fixed cost in total will remain same Not same because of step cost
 selling price per unit will be same Not same because of bulk discount
variable cost per unit will be same Not same because of bulk discount
There is no opening/closing inventory Production is not equal to sales
Product mix will remain same Not same

Marginal Costing

In marginal costing total cost is divided between Variable Cost and Fixed Cost .

Calculation of Profit

Sales(No of Units Sold × Per Unit Selling XXXX

Price)
Less variable cost of sales
Opening Inventory (at Variable production xxxx
cost)
Plus Variable production cost xxxx
Direct material xxxx
direct labour xxxx
Variable overhead xxxx (xxxx)
xxxx
Less closing Inventory (xxxx)
xxxx
Add variable nonproduction cost xxxx (xxxx)
Contribution xxxxx
Less Fixed cost
Fixed production over head(Normal units xxxx
x O.A.R)
Fixed Selling Cost xxxx
Fixed Administration xxxx (xxxx)
Profit for the ear xxxxx

Note 1:

 Value of closing stock = number of units in closing stock × per unit variable cost.
 Units of closing stock can be calculated by following equation.

Units in opening stock + units produced = units sold + units in closing stock

 Per unit variable cost = Total variable cost of current year*

No of units Produced

Note 2: Number of units in closing stock in one year will become units of opening stock in next
year.

Value of closing stock in one year will become value of opening stock in next year.

Absorption Costing

In absorption costing total cost is divided between Production Cost and non-Production Cost.

Calculation of Profit

Sales(No of Units Sold × Per Unit Selling XXXX

Price)
Less cos of sales
Openinginventor (a full production cos) xxxx
Plus production cost xxxx
Directmaterial xxxx
Direct labour xxxx
Variable overhead xxxx
Fixed overhead xxxx (xxxx)
xxxx
Less closing invenor (xxxx)
xxxx
Add under/(Over absorbed) fixed xxxx (xxxx)
overhead
Gross profit xxxxx
Less expenses(Non production cost)
Selling Cost (Fixed + variable) xxxx
Administration (Fixed + variable) xxxx (xxxx)
Profit for the ear xxxxx

Absorption Costing/ Overhead

Cost
The amount of expenditure incurred on, or distributed to specific of activity.

Cost Unit
A unit of product or service in relation to which costs are ascertained.

Cost Center
A production or service location function, activity or item of equipment whose

cost may be attributed to cost unit.

Overhead
It is the cost incurred in the course of making a product, providing a service or

running a department, but which cannot be traced directly and in full to the

product, service or department.

Cost Classification
Cost can be classified into the following
 1) Production Cost -Direc and indirect cos
2) Non production cos -(Administration and Selling and distribution cost

Production Cost
It consist of direct cost and indirect cost

Direct Cost = Direct material + Direct labor + Direct Expense

Indirect Cost = Indirect material + Indirect labor + Indirect Expense

Prime or direct Cost

The cost which can easily and economically identified within a

Product or service.

Indirect Cost or Overhead

The cost which cannot easily and economically identified within a

Product or service.

Conversion Cost
It consist of direct labor and factory overhead

Different steps in absorption Costing

1) Allocation
2) Apportionment of Cost between all departments (primary
apportionment)
3) Apportionment of Service department Cost between production
department (secondary apportionment)
4) Calculation of overhead absorption rate
5) Absorption of Overhead
6) Calculation of under or over absorbed Overhead
7) Adjustment of Profit
Allocation
It is a process of assigning cost to cost center.

Apportionment
It is a procedure where the indirect cost (overhead) spread fairly between costs

centers.

Primary Allocation
Sharing out common cost between all cost centers.

Question 1
Prime electronics Ltd is a manufacturing company having five departments P,Q,R,S, .

Prime electronics Ltd had estimated the following production indirect costs for the following year

$
Indirect labour 25000
rent and insurance 55000
Heating and lighting 24000
canteen 9000
Power 36000
depreciation of plan 25000
The relevant data needed to apportion indirect overhead amongst the departments are given
below

P Q R Total
Floor area 3500 4000 2500 10000
Number of employs 20 16 9 45
Power (KWH) 5000 4000 3000 12000
Cost of plant 50000 30000 20000 100000
Indirect labour cost 10460 8310 7380 35000
($)

Required: prepare overhead analysis sheet.

Overhead analysis sheet

Overhead Basis Total P Q R

Indirect labour Allocation 26150 10460 8310 7380

rent and insurance Area 55000 19250 22000 13750

(55000/10000)
x3500
Heating and Area 24000 8400 9600 6000
lighting
(24000/10000)
x3500
canteen Employee 9000 4000 3200 1800
(9000/45) x 20

Power KWH 36000 15000 12000 9000

 (36000/12000) x
5000
depreciation of Cos 25000 12500 7500 5000
plant
(25000/100000) x
50000
Total 175150 69610 62610 42930

Secondary Allocation
It means apportioning cost of service department or center to

Production cost center.

Types of Departments

1) Production Department
2) Service Department

1) Production Department
The department in which production is actually taken place is

called production department. e.g. (Waving department, dying

department, finishing department of a textile mill.

2) Service Department
It provides services and facilities which are ancillary to the

Production of goods and services to production department and

Other service departments.e.g canteen department, stores

department, finance department, human resource department

 (personals)

Absorption
A process whereby overheads cost allocated and apportioned to production cost
centre are added to unite, job or process

. Overhead absorption rate or overhead recovery Rate = Budgeted Overhead

Budgeted Base

Normally used Bases

1) Direct Material Cost

2) Direct Labor Cost
3) Prime Cost
4) Number of Unit Produced
5) Number of Machine Hours
6) Number of Direct Labor Hours

Overhead Absorption Rate Formulas

1) Overhead Absorption Rate by using direct material cost as a base

O.A.R = Budgeted Overhead x 100 = Answer % of direct material cost

Budgeted Direct Material

2) Overhead Absorption Rate by using direct labor cost as a base

O.A.R = Budgeted Overhead x 100 = Answer % of direct labor cost

Budgeted Direct Labor

3) Overhead Absorption Rate by using prime cost as a base

O.A.R = Budgeted Overhead x100 =Answer % of prime cost

Budgeted Prime Cost

 4) Overhead Absorption Rate by using Machine hours as a base

O.A.R = Budgeted Overhead =Answer $ per machine hour

Budgeted Machine hours

(5) Overhead Absorption Rate by using Labour hours as a base

O.A.R = Budgeted Overhead =Answer $ per machine hour

Budgeted Labour hours

(6)Overhead Absorption Rate by using units of production hours as a base

O.A.R = Budgeted Overhead =Answer $ per unite

Budgeted Units

Example
Budget Dept. A Dept. B
Overhead cost $36000 $5000
Direct Material cost $32000
Direct Labour cost $40000
Machine hours 10000
Direct labour hours 18000
Units of production 1000

Overhead Absorption Rate by using direct material cost as a base

(1) O.A.R = Budgeted Overhead x 100 = Answer % of direct material cost

 Budgeted Direct Material

=$36000/$32000 x 100 = 112.5 % of direct material cost

2 Overhead Absorption Rate by using direct labor cost as a base

O.A.R = Budgeted Overhead x 100 = Answer % of direct labor cost

Budgeted Direct Labor

=$36000/$40000 x 100 =90% of direct labor cost

3 Overhead Absorption Rate by using prime cost as a base

O.A.R = Budgeted Overhead x100 =Answer % of prime cost

Budgeted Prime Cost

$36000 /($32000 +$40000) x 100 = 50% of prime cost

4 Overhead Absorption Rate by using Machine hours as a base

O.A.R = Budgeted Overhead =Answer $ per machine hour

Budgeted Machine hours

$36000 /10000= $3.6 per machine hour

5 Overhead Absorption Rate by using Labour hours as a base

O.A.R = Budgeted Overhead =Answer $ per machine hour

Budgeted Labour hours

$36000 /18000= $2 per Labour hour

6 Overhead Absorption Rate by using units of production hours as a base

O.A.R = Budgeted Overhead =Answer $ per unite

Budgeted Units
 $5000 /1000= $5 per unite

Question 2(25.8 from As Accounting byNauman Malik

The fermile enterprise has three production departments, Matching, finishing and assembly
supported by two service departments repairs and canteen.

Fermileenterprize Ltd had estimated the following production indirect costs for the following
year

Overhead $
Rent and rates 65000
Heating and lighting 19500
supervision 10000
Indirect wages 50000
Power 49000
Depreciation of Equipment 18000
Total 211500

The relevant data needed to apportion indirect overhead amongstthe departments are given below

Machining Finishin Assembly Repair Canteen Total

g
Floor area 4000 3400 2800 700 2100 13000
Number of 24 20 17 9 1080
employs
Power (KWH) 6100 3200 2400 1050 1250 14000
Cos of 45000 25000 20000 20000 10000 120000
equipment
Indirect wages($) 15200 12370 11385 5920 5125 50000
Machine hours 32000 21000 19000 16000 2000 90000
Labour hours 22000 40000 12000 - - 74000

Required:

(a) Determine the total overhead cost for each department. Apportion the overhead
between departments using the most suitable basis.
 (b) Allocate the canteen department overhead amongst all other departments on the basis
of number of employees and allocate the repairs department overhead amongst all the
productions departments on the basis of machine hours.
(c) Calculate overhead recovery rates for each department :
(1) Machining d department as per machine hour
(2) Finishing department as per labour hour
(3) Assembly department as a rate per machine hour
(d) Cost data related to job 313 is as follows
Direct material 5 kilograms @$3

Direct Labour 4 hours @$2

2 machine hors are used in Machining department while 3 machine hors are used in
Machining department.4 labour hours are used in finishing department.

A uniform mark up of 20 % is used.

Required:

Calculate selling price of job 313

Overhead analysis sheet

Overhead Total Machining Finishin Assembl Repair Cantee

g y n
Rent and 65000 20000 17000 14000 3500 10500
rates
65000/13000
x4000
Heating 19500 6000 5100 4200 1050 3150
19500/13000
x4000
supervision 30000 9000 7500 6375 3375 3750
30000/80 x 24
Indirect 50000 15200 12370 11385 5920 5125
wages
Power 49000 21350 11200 8400 3675 4375
49000/14000
x6100
Depreciation 18000 6750 3750 3000 3000 1500
18000/120000x450
00
Total 78300 56920 47360 28400
Apportionme 9737 8114 6897 3652 (28400
nt of canteen )
28400/70 x24
Total 88037 65034 54257 24172
Apportionme 10743 7050 6379 (2417
nt of repair 2)
24172/72000
x32000
Total 23150 98780 72084 60636
0

Machining department

O.A.R = Budgeted Overhead =Answer $ per machine hour

Budgeted Machine hours

=98780/32000 = $3.09 per machine hour

Finishing department

O.A.R = Budgeted Overhead =Answer $ per Labour hour

Budgeted Labour hours

=72084/40000 = $1.80 per Labour hour

Assembly department

O.A.R = Budgeted Overhead =Answer $ per machine hour

Budgeted Machine hours

=60636/19000 = $3.19 per machine hour

Calculation of selling price

Direct material 5 kilograms @$3 =$15

Direct Labour 4 hours @$2 =$8

Overhead

Machining department 2@ hours@3.09 =6.18

Finishing department 4@ hours@1.80 =7.2

Assembly department 3@hours@3.19 =9.57

Total cost 45.95

Add profit 945.95 20%) =9.19 selling price =55.14

Calculation of under or over absorbed overhead

Absorbed Overhead = Actual base x Overhead Absorption Rate

If number of units is used as a base for the calculation of overhead absorption

Rate then actual # of units produced will be multiplied with overhead absorption rate.
Example
Frank Ltd has budgeted production $50000 and Budgeted activity of 25000 direct labour hours

Required

(A)Overhead absorption rate

Answer

$50000/25000 =$ 2 per machine hour

(b) Calculate the under/ over absorbed overhead if

(1) Actual overhead cost $47000 and 25000 direct labours are worked

Actual overhead $47000

Absorbed overhead(25000 hours x $50000
$)2
Over absorbed overhead $3000

(2) Actual overhead cost $50000 and 21500 direct labours are worked

Actual overhead $50000

Absorbed overhead(21500 hours $43000
x $)2
Under absorbed overhead $7000

(3) Actual overhead cost $50000 and 25000 direct labours are worked

Actual overhead $50000

Absorbed overhead(25000 hours x $50000
$)2
 Under absorbed overhead $0

(4) Actual overhead cost $47000 and 21500 direct labour hours are worked

Actual overhead $47000

Absorbed overhead(21500 hours x $43000
$)2
Under absorbed overhead $4000

Adjustment of cost of sales

In case of over absorbed overhead, it will be subtracted from cos.

In case of under absorbed overhead, it will be added in cost of sales.

Adjustment of Profit
In case of over absorbed overhead, it will be added to profit

In case of under absorbed overhead, it will be subtracted from profit.

Limiting factor
Q.26.24
 The following information is obtained from the cost of records of a factory:

Product P Product Q Product R

Selling price per unit ($) 115 101 120
Raw material Cost (@ $5 per kilo 35 33 34
Direct labour cost (@ $ 4 per labour hour 30 24 28
Overheads: Variable 23 20 23
Fixed 12 13 19
Profit 15 11 16

Maximum production possible (units) 6000 4000 3000

The company has been advised by its personnel manager that due to opening of two new
factories in the same locality in which the business’ factory is located, the monthly regular
labour availability for the following month will be reduced by 20 %.

Required

(a) Calculate contribution margin per direct labour hour (key factor).
(b) Suggest the product-mix which will give maximum profit within the given
Constraint (with shortage of limiting factor).
Number of hours per unit =total labour cost per unit/rate per hour
Product P $30/$4 per hour =7.5 hours
Product Q $24/$4 per hour =6 hours
Product R $28/$4 per hour =7 hours

Total number of hours needed

Product P 6000 units @7.5 hours per unit =45000 hours

Product Q 4000 units @6 hours per unit =24000 hours
Product R 3000 units @7 hours per unit =21000 hours
=90000 hours
Decrease in labour hours =9000x 20% = (18000)
Hours available =72000

Product P Product Q Product R

Selling price 115 101 120
Less variable cost
Material 35 33 34
labour 30 24 28
Overhead 23 (88) 20 (77) 23 (85)
=Contribution/unit 27 24 35
/Limiting factor(hours) 7.5 6 7
=Contribution/Limiting Factor $3.6 per kilos $4 per kilos $5 per kilos
Ranking 3 2 1

Product Units Use Available

72000 kilos
R 3000 3000x7=21000 72000-21000-51000
Q 4000 4000x6=24000 51000-24000=27000
P 6000 6000x7.5=45000 Not possible
P 3600 27000/7.5=3600
Theory

AS THEORY
 Index
Basics
Books
Bank reconciliation
Control account
Accounting concepts
Bad and doubt full debt
Adjustment
Capital and revenue
Depreciation
Errors
Partnership final accounts
Partnership Changes
Partnership Dissolution
Sources of finance
Company accounts
Ratios
Inventory valuation
Breakeven
Marginal costing
Absorption costing
Budgetary control
Labour accounting

Basics
Q1. State three benefits a business gains from maintaining a system of double
entry book-keeping.(3) (6t)
Answer: Assists with the preparation of the trial balance. Assists with the
preparation of the financial statements, Reduces the risk of errors, Reduces the risk
of fraud, Improves the accuracy of accounting records, Balances on individual
accounts are available throughout the year..

Q2. Advise Bilal whether or not he should maintain a full set of accounting
records. Give reasons for your answer.

Yes he should maintain a full set of accounting records (1).

(2 Times) Reasons Advantages (Max 2) Business is growing fast Enables closer

monitoring of performance Enables Bilal to control the business performance
Enable Bilal to maximize opportunities.

Disadvantages (Max 2) More time consuming ,Need to employ specialist staff

Q.3 State two reasons why the owner of a small business may decide not to
maintain full accounting records

Answer: May not have the skills/time to prepare full accounting records
(1) ,Maybe content with the information provided by her current accounting
records (1) Maybe cannot afford the services of a bookkeeper/accountant or
accounting software (1) Maybe business too small to warrant full accounting
records (1)

Q3. Identify two external stakeholders. Explain why they may be interested in the
financial statements of a business.(4)

Answer: (Potential) investors (1) – to assess return on investment (1) Providers of

finance (1) – to assess whether loans / interest will be repaid (1) Government (1) –
to ensure taxation liabilities will be paid (1) Suppliers (1) - to assess whether or not
to continue to supply and whether or not they will get paid (1) Customers (1) – to
assess continuity of supply (1) Trade unions (1) – to assess the wellbeing of
members (1)

Q4. Suggest four possible reasons for the increase in the bank overdraft.(4)

Answer; Inventory increased by almost $21 000 (1) Trade receivables increased
from $22 460 to $29000 (1) Trade payables reduced from $12 770 to $11 060 (1)
Non-current assets expenditure of $5200 (1) Prepayments increased.

Q5. Advise the partners of three ways in which they could improve the cash
position of the business.
Answer: The partners could reduce their salaries. (1) The partners could reduce
their drawings. (1) Additional capital could be introduced by the existing partners.
(1) A new partner, or partners, could be admitted to the partnership. (1) A loan
could be negotiated. (1) The partnership could dispose of surplus/unused non-
current assets. (1)

Books
Q1. State two types of entries, other than the correction of errors, which would
usually be recorded in the general journal.( 2 times)

Answer:

Opening entries (1) Purchase and sale of non-current assets (1) Non-regular
transactions (such as year-end transfers) (1) Calculating opening capital (1) Write
off bad debts (1) Depreciation (1)

Bank reconciliation statements

Q2. State two reasons why a business would prepare a bank reconciliation
statement.(2) (2 times)

Answer:. To identify errors in the cash book (1) To identify errors on the bank
statement (1) To identify un-cleared lodgments (1) To identify un-presented
cheques (1) To verify accuracy of accounting records (1) To update the cash book
with transactions only on the bank statement (1) To identify out of date cheques (1)

Q3. State two differences between a bank standing order and a direct debit. (2)

Answer: Standing order is for a fixed amount; amount of direct debit varies (1)
Bank triggers payment of standing order; recipient triggers payment of direct debit
(1) Standing order is paid at fixed intervals; direct debit payments occur irregularly
(1)

Control account
Q1. State three advantages to a business of maintaining a sales ledger control
account.(3) (6 times)
Answer: Accuracy / errors (1) Prevention of fraud (1) Total for trade receivables /
final accounts (1)

Q2. Explain two benefits to a business of maintaining control accounts.

Answer: Provides an arithmetical check on the accuracy of the ledgers (1), as the
balances on each control account should agree with the total of balances in each
ledger. (1) Helps prevent fraud (1) as the work of those employees working on
each ledger is independently checked by another employee. (1) Provides a figure
for total trade receivables and total trade payables (1) aiding preparation of
financial statements. (1)

Q3. State two types of errors that will not be identified by producing a sales ledger
control account.

Answer: Error of omission (1) Error of commission (1) Compensating error (1)
Error of original entry (1)

Q, State one limitation of preparing a control account.

Answer: Does not identify all types of error / only proves the arithmetical accuracy
of the ledger (1)

Q4. State three reasons why there might be a credit balance on a customer’s
account in the sales ledger.(3)

Answer: A customer has overpaid in error, A credit has been given and the
customer has not taken, A contra has been put through but the customer has
ignored it. A customer has paid in advance Not taking a discount. There is a
deposit on goods. Customer paid for the goods before returning them. Customer
overpaid and invoice.

Q5. Advise Meena whether or not she should charging interest on the full account
balances of her customers who do not pay promptly.. Justify your answer.(3)

Answer: May improve trade receivables collection period. Improve cash flows but
Meena may lose customers May need tighter credit control which may increase
cost
Accounting concepts
Q1. Explain the accounting concepts of business entity.

Answer: Business entity: a business has its existence separate from its owners (1)
only transactions that affect the business should be recorded in the accounting
records (1)

Q2. Explain the accounting concepts of substance over form.

Answer: Substance over form: financial statements must give a complete and
accurate picture of events (1) so economic impact is taken into account and legal
form is disregarded (1)

Q.3 Explain how these accounting concepts are applied when a business prepares
financial statements. Matching and Prudence

Answer:

Matching requires costs and revenues to be matched for a financial period (1)
irrespective of amounts received or paid (1).

Prudence requires losses to be realised as soon as they are anticipated (1) to avoid
profits and assets being overstated/losses and liabilities being understated (1).

Q.4 Explain how these accounting concepts are applied when a business prepares
financial statements.

Answer:

Consistency – requires policies to be used in the same way each accounting

period (1) so that valid comparisons can be made of figures (1)

Realisation: revenue should only be recognised when goods are invoiced or

money received (1) to ensure that reported profits are based on certainty (1)

Materiality: financial statements only record information which is significant (1).

Something is material only if its exclusion would be misleading (1)
Bad and doubtful debt
Q1. Explain why a business may create a provision for doubtful debts.

Answer: Application of concept of prudence (1) Application of matching concept

(1) Profit may be overstated in the event of irrecoverable debts (1) Trade
receivables / current assets may be overstated (1)

Q2. Explain one accounting concept which is applied when making a provision for
doubtful debts.(3 times)

Answer: Prudence (1) Profit/current assets/trade receivables should not be

overstated (1) OR Matching / accruals (1) Revenue of an accounting period is
matched against the costs of the same period (1)

Q3. (a) State the journal entry to write off an irrecoverable debt.

Answer: r Irrecoverable debts (1) Cr Receivable

Q4. State two factors that a business could consider when setting a rate for
provision for doubtful debts. ( 2 Times)

Answer: The businesses past experience of irrecoverable debts (1) The usual rate
applied for businesses of this type (1) Analysis of the existing debts and how long
they have been outstanding/based on ageing schedule of trade receivables (1)

Q. State two ways in which the risk of irrecoverable debts may be reduced..

Answer: Reduce credit sales (1) • Better credit control (1) • Regular telephone
contact with customers (1) • Credit checks on customers (1) • Issue regular
statements of account/invoices (1) • Setting credit limits for customers (1) • Stop
supply to late paying customers (1)

Adjustments.
Q1. Explain the accounting treatment at the year-end in the income statement and
statement of financial position of: Prepayments and accruals

Answer: Prepayments: Deducted from expenses (1) and shown as a current asset
(1)

OR Added to income (1) and shown as a current liability (1)

 Accruals: Added to expenses (1) and shown as a current liability (1) OR Deducted
from income (1) and shown as a current asset (1)

Capital and revenue

Q1. Define the term ‘revenue expenditure’.

Answer: Revenue expenditure is money spent: on the day-to-day running expenses

of the business; (1) on resources that will generally be used up within one year.

Q2. State the difference between capital and revenue expenditure.(2)

Answer : Capital expenditure is expenditure on non-current assets (1) with an

expected life of more than 12 months (1) Max 1 Revenue expenditure is
expenditure on running costs to generate income / day-to-day operating expenses
(1) Max 1

Q3 State one example of a:

(i) Capital receipt

(ii) Revenue receipt

Answer (i) Capital introduced / Cash introduced / Sale proceeds from disposal of
non-current asset / Receipt of loan finance

(ii) Rents
received / Interest received / Commission received / Sales of goods / Fees
received / Discounts received

Depreciation
Q1. State what is meant by depreciation of non-current assets.(1)

Answer: Depreciation is the allocation of the cost of a (non-current) asset over its
expected working life. (1) The allocation of the cost of using the asset over the
year (1)

Q2. Explain why a company should provide for depreciation on its non-current
assets.(4)

Answer: To comply with the matching / accruals concept (1) Accounts for that part
of the asset used up in the accounting period (1) The value of assets falls due to
wear and tear, obsolescence, technological change, etc. (1) Avoids overstating the
net assets / non-current assets of the business (1) Ensures that the statement of
financial position shows a true and fair view (1)

Q3. State three causes of depreciation of non-current assets.(3) (2 imes)

Answer: wear and tear ,obsolescence, technological advance ,passage of time,

depletion, economic reasons

Q4. Identify and explain one accounting concept relating to depreciation (5 Times)

Answer:

Consistency (1) • to assist comparisons of performance between years. (1) • using

the same depreciation method each year. (1)

OR Prudence (1) • avoid overstating profits / net assets (1) • charging depreciation
as an expense and so not overstating profits (1)

OR Accruals / matching (1) • match the cost of an asset with the income generated
from its use (1) • matching wear and tear of the asset against the reduction in value
(1)

Q5. Explain why a business may use reducing balance method of depreciation for
plant and machinery. (2) (2 imes)

Answer: Plant and machinery often loses more value in the earlier years of its life
(1) due to usage (1) and maintenance costs may be higher in the later years (1)

Q6. Explain two accounting treatments for loose tools.

Answer: It is written off as an expense (1) If the cost of the item is not material (1)
The revaluation method should be used (1) If the cost is significant (1)

Q7. Explain why the revaluation method of depreciation is appropriate for assets
such as loose tools

Answer: It is not worthwhile keeping individual records of loose tools (1) as they
are usually many small value items (1) and are difficult to keep track of. (1) They
are easily broken, damaged or lost and have to be regularly replaced. (1)

Q8. Advise the directors whether or not they should decrease the depreciation
rates. Justify your answer
Answer: Reasons for: Profit would increase in the short term. The capital base
/asset base of the company would rise in the short term. Reasons against: The
change would not be in accordance with the accounting concept of consistency.
The change would not be prudent / against prudence concept. Assets/profit could
be overstated. Lower depreciation charges would mean higher losses on disposal.
The change would not help profit in the long term.

Q9. Explain one advantage and one disadvantage to a business of using the
reducing balance method of depreciation. (4)

Answer: Advantage: Provides a more realistic charge against profits (1) as some
assets lose more value in their first years (1)/as the asset reduces in value so the
depreciation charge reduces (1).

Disadvantage’s : more complicated to calculate (1) as the charge changes each year
because it is based on the decreasing net book value at the beginning of each year
(1) rather than the more straightforward equal charge per year when using the
straight-line method (1)

Errors
Q1. Explain what is meant by the term ‘error of commission’.

Answer: A transaction recorded in the wrong account of the same class (1) but
using the correct amount and on the correct side. (1)

Q2. State the use of a suspense account.(2) (2 Times)

Answer: A suspense account is a temporary account used to balance the trial

balance (1) Used to help correct errors when the trial balance / books of account do
not balance (1) The bookkeeper does not know where to post an entry. (1) In order
to prepare draft financial statements. (1)

Q3. State four types of error that will not be revealed by the trial balance. (2
Times)

Answer: Error of omission Error of commission Error of principle Compensating

error Error of original entry Error of reversal

Q4. Explain why a trial balance may be arithmetically correct even though errors
have been identified.
Answer: Some errors (e.g. omission, commission, principle, original entry,
reversal, compensating) will not show in the trial balance (1) as a result the trial
balance will still balance despite errors being present (1).

Partnership Final accounts

Q1. State three items that may appear in a partnership agreement. (2 Times)

Answer: Profit / loss sharing ratios ,Interest on capital, Interest on drawings,

Partners’ salaries, Limits on drawings ,Partners’ responsibilities

Q2. Explain two reasons why you would recommend partners to have a written
agreement, other than stating a ratio for sharing profits and losses.

Answer: Avoidance of disputes (1). The deed usually states management

responsibilities (1) and also agreed limits on drawings and agreed amounts of fixed
capital (1). Ensure partners are properly rewarded (or penalised) for their
contributions (1). The deed may include rewards for partners who have undertaken
more management responsibilities/provided more capital/and penalised partners
whose drawings have been the most (1)

Q3. State two reasons why partners may agree to provide interest on capital.

Answer: To reward partners for their fixed investment in the business (1) To
encourage further capital investment in the business (1)

Q4. State two reasons why partners may agree to charge interest on drawings.

Answer: To discourage large amounts of drawings by the partners (1) To penalise

partners who make excessive drawings (1)

Q5. State two further terms that may appear in a partnership agreement.
Answer: The amount of salary payable to partners (1) Rate of interest on partners’
loans (1) Management responsibilities of partners (1) Any limits on partners’
drawings (1) Amount of partners’ capital (1)

Q6. State two items which may be included in a partnership agreement (other than
the share of profit) which will affect the appropriation account.(2)

Answer: Interest on capital ,Partners’ salaries, Interest on drawings

Q7. Which will not affect the appropriation account?

Answer: Interest on loans, Amount of fixed capital, Annual limit on drawings

Q8. State three items that may be included in the appropriation account before the
division of residual profit.

Answer: Interest on capital (1) Interest on drawings (1) Partners’ salaries (1)

Q9. State four provisions which would apply in the absence of a partnership
agreement.

Answer: Share profits and losses equally (1) Partners are not entitled to salaries (1)
Partners are not charged interest on their drawings (1) Entitled to contribute
equally to the capital of the partnership (1) Partners are not entitled to interest on
the capital they have contributed (1) Partners are entitled to interest at 5% per
annum on loans they make to the partnership

Q10. State two reasons why a partner may have an overdrawn current account.(2)

Answer: They may have drawn more than the profits earned (1) Partnership may
have sustained losses. (1)

Q11. State why partnerships maintain separate capital accounts for each partner.(1)

Answer: They will need to keep their investments separate to distinguish between
individual partners. (1) To calculate interest on capital. (1)

Q12. State three advantages to a sole trader of forming a partnership.(3)

Answer : Access to increased capital. Increased knowledge expertise, Losses

shared by all partners, Able to offer greater range of services, Availability of cove,r
Shared responsibilities
Q13. Explain three disadvantages of operating as a partnership rather than being in
business as a sole trader.(6)

Answer :

Profits will be shared in the partnership (1), whereas sole traders would be entitled
to all the profits (1). Decision making may take longer as both partners will need to
agree (1), whereas sole traders can make instant decisions (1). There is the risk of
disagreement/conflict between partners (1), whereas sole traders would make
decisions on their own (1). Each partner’s actions are binding on all partners (1),
whereas a sole trader has to account to no other parties for his actions (1) Control
of the business by each partner maybe difficult (1) whereas the sole trader retains
control over the business (1).

Q14. Advise the partners whether or not they should convert the partnership into a
limited company.. Justify your answer. (5)

Answer :

Remaining as a partnership Disadvantages: The partners usually have unlimited

liability Profits need to be shared with other partners There is the possibility of
disputes between the partners Decisions made by one partner are legally binding
on the others Partnership will need to be dissolved if partner dies 1 mark per valid
point Max 2 marks Becoming
a limited company Disadvantages: Potential loss of control as additional
shareholders invest There will be costs associated with setting up the company
More detailed financial information Available for public scrutiny

Q15. State three reasons why partnerships maintain separate capital accounts and
current accounts for each partner.(3) (3 Times)

Answer: To keep capital invested separate from profit and drawings ,To help avoid
the possibility of partners overdrawing ,To reward the partner who has invested
more capital with interest on the amount invested, To identify partners’ drawings
in order to calculate interest on drawings

Partnership Changes
Q1. State what is meant by goodwill.(1)

Answer: Goodwill is the excess of the valuation of a whole business over the net
book value of its net assets (1)
Q2. State three factors which affect the value of goodwill.(3)

Answer: Reputation (1) customer base/monopoly (1) location (1) quality product
(1) skilled workforce (1)

Q3. State two reasons why assets are revalued on the change of a partnership.(2)

Answer: To give the benefit of the change in value of the business to the existing
partners and any partner who may be retiring. (1) So that the statement of financial
position on the entry of the new partner shows a true and fair view. (1)

Q4. Identify two situations where the capital accounts of partners may be adjusted
for goodwill.(2)

Answer; On the introduction of a new partner. (1) On the retirement of an existing

partner. (1) On a change in the profit sharing ratio. (1)

Q5. Assess the impact of Alice’s retirement on the partnership’s statement of

financial position.(4)

Answer: Reduced cash flow after paying Alice to leave the business in view of the
current overdraft (1) Having to raise additional finance to pay Alice off (1) Impacts
on profitability having to raise additional capital (1) Lower capital investment in
the business (1) Difficult to raise additional finance to pay to Alice due to the
current overdraft (1)

Q6. Explain the difference between a realisation account and a revaluation

account.

Answer: Realization account: Used to close the books of account (1) on the
dissolution of a partnership. Revaluation account: Used to record changes in the
value of assets and liabilities on changes in a partnership. (1)

Q. State two possible disadvantages to existing partners of admitting a new partner.

Answer: Profits have to be shared (1) Decision making may take longer as there
will now more partners who need to agree (1) Risk of disagreements (1)

Partnership dissolution
Q1. State two reasons why a partnership may be dissolved.(2) (4 times)
Answer: Disagreements between partners ,Death or retirement of a partner
Bankruptcy

Q2. Explain what would happen if the dissolution of the partnership resulted in a
debit balance on a partner’s capital account.

Answer: This means that the partner owes money to the partnership (1) The partner
must use his personal funds to repay the partnership bank account (1) in order that
funds owing to other partners may be repaid (1)

Sources of finance
Q1. Explain two advantages to the company of obtaining a long-term bank loan to
raise additional capital. (4)

Answer: Interest on loan is fixed (1) whereas dividends are discretionary (1)
Ownership remains the same therefore (1) No loss of control to existing
shareholders (1) Funds received quicker (1) than a share issue (1) Repayments are
fixed (1) enabling future planning (1)

Q2. Bank overdraft must be repaid in full as soon as possible. following possible
solutions are available. Option 1 Take a repayable in five equal annual installments
of $5000 each (including interest) 2 Enter into a formal partnership with his
brother: Advise Maneesh which option he should choose. Justify your answer.(7)

Answer: Loan (Max 3) Will cost $5000 in interest over the 5 years Means
Maneesh will keep all future profit earned Loan has to be repaid

Partnership (Max 3) Brother may bring in additional expertise Will be able to share
workload Maneesh will lose 10% of profits earned Brother will bear 10% of any
losses Capital does not have to be repaid

Q3. Discuss the impact of each option on the future profits of Bayliss Limited.

1 Issue 160000 ordinary shares of $0.50 each.

2 Issue a further debenture of $80 000.

Answer:
Ordinary shares: Dividends paid to ordinary shareholders do not affect profit (1)
they reduce retained earnings (1) in the statement of changes in equity (1). Does
not appear in the income statement (1).

Debenture :Interest paid to debenture holders is charged to the income statement

(1) reducing the profit for the year (1).

Q4. Advise the directors which option they should choose. Give reasons for your
decision

Answer : Interest on the debentures must be paid whether the company makes a
profit or a loss (1). Ordinary share dividends are paid at the discretion of the
directors (1). Debentures are a non-current liability (1) and weaken the statement
of financial position and increase gearing (1) whereas ordinary shares are part of
the permanent capital of the company (1).

Q5. Discuss two possible sources of finance which could be used to fund the
purchase of the additional non-current assets.(6)

Answer: Possible options could include: • External loan • Partner’s loan •

Introduce new partner • Partner introduces additional capital • Sale of unused non-
current assets • Hire purchase

Bank loan (1) Has to be paid back with interest at either a fixed or variable rate (1).
May require security / collateral to cover the possibility of loan default (1).

Introduce new partner (1) Would introduce capital which doesn’t need to be repaid
(1). The partner would however expect a share of the profits (1)

Q6. Identify three ways, other than using bank finance, in which a partnership
could raise funds to purchase a non-current asset.

Answer: Partners increase capital (1) Partners reduce/not taking drawings/salaries

(1) Partners introduce a loan (1) New partner introduced (1) Sale of surplus non-
current asset (1) Loan from family members (1)

Q7. Wiggins wishes to expand his business by taking a bank loan of $30000
repayable over five years. Advise Wiggins whether or not he should take the loan.
Justify your answer.(4)

Answer: For (Max 2) A long term loan will allow Wiggins to plan repayments over
five years (1) Enables Wiggins to repay the bank overdraft (1) Loan is cheaper
than bank overdraft (1) Against (Max 2) Wiggins already has a bank
overdraft of $19 000 (1) Wiggins may be charged a higher interest rate on loan (1)
Bank loan will increase its gearing ratio (1) Bank may require security for a loan
(1)

Q8. Advise whether or not they should agree for the payment of the balance on his
loan account as soon as possible.. Justify your answer. (2 Times)

Answer: Depends on the agreement on the initial loan Current loan is free of
interest May need additional capital Partnership has insufficient liquid assets at
present May have to take loan / overdraft which will be charged interest ,Interest
would reduce the future profit May require security for loan

Company accounts
Q1. State two advantages to a partnership of converting to a limited company. (2
times)

Answer: Separate entity ,Limited liability, for owners Ability to raise finance

Q2. Identify two internal stakeholders with an interest in the financial statements
of a limited company

Answer: Shareholders (1) Directors/employees (1)

Q3. Suggest two reasons why the balance on a retained earnings account may be
lower than the profit for the year.

Answer: Previous loss brought forward (1) Payment of dividends (1) Bonus issue
of shares .

Q4. Explain the difference between a capital reserve and a revenue reserve.(4) (4
Times)

Answer:

Capital reserves are not normally created by transfer from profits (1). They usually
represent gains that have not been realised (1). Capital reserves cannot be used to
pay dividends (1).

Revenue reserves are created by transfer from profits (1). They may be created for
a specific purpose (1), or simply to strengthen the financial position of the
company (1). Revenue reserves may be used to pay dividends (1).
Q5. State one example of a capital reserve.

Answer: Revaluation reserve, share premium.

Q6. State why the directors decided to create a general reserve.

Answer: to retain profits for reinvestment in the business (1)

Q7. State two reasons why capital reserves may be used before revenue reserves to
fund a bonus issue of shares for a limited company.

Answer: To retain reserves in the most distributable or flexible form (1) Revenue
reserves are needed to fund the payment of dividends (1)

Q8. Explain why the company should not use its revaluation reserve to pay
dividends to shareholders.

Answer: The revaluation reserve is a capital reserve. (1) Capital reserves are not
allowed to be used for the payment of a cash dividend. (1) The creation of a
revaluation reserve is not a cash transaction as no cash has been generated for the
payment of dividends. (1) The capital reserve will increase the asset value (1) of
the company and the shareholders interest and is in the accounts to reflect a true
and fair view of the company accounts.(1) Cash gain can only be realised if the
asset is sold. (1)

Q9. Name one capital reserve..(1)

Answer: Share premium Revaluation reserve

Q10. State two uses of a share premium account.

Answer: Issue bonus shares (1) Write off formation/preliminary expenses (1)

Q11. Explain why a long-term bank loan was not recorded in the statement of
changes in equity

Answer: because the loan is a non-current liability/loan capital (1) and does not
affect equity (1)

Q12. State the difference between a bonus issue of shares and a rights issue of
shares.(3 times)
Answer: A bonus issue of shares is a capitalisation of reserves (1) Free issue of
shares/ no cash (1) A rights issue is to existing shareholders (1) A rights issue
generates cash for the business (1)

Q13. State two benefits to a limited company of making a rights issue.

Answer: Quicker and cheaper than a new share issue (1) More likely to be fully
subscribed than a new share issue (1) Results in a cash inflow (1) Does not have to
be repaid (1) Would avoid any dilution of ownership (1)

Q14. State one limitation to a limited company of making a rights issue.

Answer: Can lead to a fall in the share price (1)

Q15. Describe one way in which a shareholder can benefit from taking up a rights
issue.

Answer: Opportunity to purchase additional shares at a favourable price (1) as

issue price is usually below market price (1) • Can maintain same degree of control
(1) in the company as shareholder will own same proportion of issued capital (1)

Q16. Advise the directors whether or not they should make a rights issue of
ordinary shares torepay the debentures. Justify your answer.
Answer:
The rights issue would raise the $60 000 required to repay the debentures. (1)
Payment of dividends on ordinary shares is discretionary (1)
Would avoid the payment of interest. (1)
Repayment would increase profit for the year by $3600 (1)
However Would rights issue be fully subscribed? (1, But if finance required in the
future would interest be more than 6%? (1)
But debenture is not repayable for another 3 years. (1)

Q17 State three advantages and one disadvantage to a limited company of making
a bonus issue of shares. (4) (4Times)

Answer:

Advantages (Maximum 3) Can be issued instead of paying dividends and so cash

flow is not reduced. (1) Keeps existing shareholders satisfied as there is no dilution
of ownership. (1) Retains cash in the business for reinvestment. (1) Gives a
positive sign to potential shareholders. (1) Enables company to release its capital
reserves. (1)
Disadvantage No cash raised from selling the shares.

Q17. State two differences between ordinary shares and debentures. (2 Times)

Answer:

Ordinary shares Debentures

Variable returns Fixed returns
Owners Creditors
Receive dividend Receive interest
Paid dividend after debenture holders Paid interest before ordinary
shareholders
Voting rights No voting rights
Not repaid Must be repaid
In case of liquidation paid last In case of liquidation paid first

Q18. Explain two differences between ordinary shares and preference shares. (2)
(2 Times)

Answer:

Preference shares: Ordinary shares

Receive a fixed rate of dividend Dividend varies
No voting rights Have voting rights
Not owner of the company Are owners of the company
Priority for dividend Receive dividend after preference
shareholders

Q19. State the significance of Debentures (2018–2020)

Answer: The debenture loan is repayable between the years 2018 and 2020 (1)

Q20. State why an issue of debentures does not appear in the statement of changes
in equity.

Answer: Because it is a long term liability (1) and is shown as a non-current

liability in the statement of financial position. (1)

Q. Identify three factors that directors of a company should consider when

deciding on the amount of a proposed dividend
Answer: The profits available for distribution (1) The cash available to pay
dividends (1) Shareholders’ expectations (1)

Q. Explain two reasons why a company may make a rights issue of shares rather
than an issue of debentures.

Answer: Rights issue is a permanent source of capital (1) on which dividends are
paid (1) whereas debentures are a liability that must be repaid at a future date (1)
with interest which will reduce profits (1)

Ratios
Q1. State three benefits to a business of using ratios.(3) (2 Times)

Answer: Compare the results of the business over time Compare the performance
of businesses of different sizes Compare the performance of the business with the
market leader Compare the performance of the business against industry averages

Q2. Explain three limitations of ratio analysis.(6) (6 Times)

Answer : Only relevant when comparing like with like (1) (same industry, same
size business etc.) (1) Uses historical data (1), therefore gives no indication of
future performance (1) Only concerned with financial data (1), ignores non-
financial aspects such as staff morale, quality of management etc (1) Does not
provide causes / reasons for changes (1) – therefore must deduce reasons (1) 1
mark for stating limitation plus 1 mark for development.

Q3. Explain the difference between gross margin and mark-up.

Answer: the gross margin looks at gross profit in relation to revenue (1) whereas
mark-up looks at gross profit in relation to cost of sales. (1)

Q4. Suggest two reasons why H Limited’s gross margin may have been higher
than the previous year

Answer: increase in selling price combined with constant purchase price (1)
decrease in purchase price with no change in selling price (1) change in product
mix (1)

Q5. Jing calculated the gross margin and the profit margin for his business. He
discovered that the gross margin had decreased for the year ended 30 April 2015.
For the same period the profit margin had increased.(8)
Answer:

Gross profit: Jing may have had to pay higher prices from his usual suppliers but
have been unable to pass on these higher prices to his customers. Or Jing may have
had to purchase from new suppliers who were more expensive. To be competitive
with other businesses, Jing may have had to reduce his prices and therefore his
gross margin has reduced Jing may have introduced some new products at a lower
introductory price. To increase his volume of sales, Jing may have had more
seasonal sales promotions Jing’s closing inventory has reduced significantly so
there may have been out-of-date inventory that he wanted to clear at reduced
prices. Jing’s inventory control may not have been as good and if more inventory
was being lost, damaged or stolen, this would increase his cost of sales. Closing
inventory may be understated/miscalculated.

Profit for the year: Valid comments may include The increase in the profit margin
could have resulted from Jing controlling his overheads better The increase in the
profit margin could have resulted from a decrease in total overheads Most
overheads, including rent, do not normally increase in proportion to sales Jing may
have moved to smaller premises such that his rent has reduced compared to the.

Q6. Suggest ways in which the partnership liquidity may be improved.

Answer:

The partners may need to consider introducing some additional capital (1) or Max
could reduce his salary in exchange for a higher profit share. (1) if there are any
surplus non-current assets in the partnership, these could be sold. (1) The
partnership may need to negotiate a non-current loan. (1) the partners should
review their credit control policy and make any necessary improvements such as
sending statements or telephoning ahead of the due date and promptly chasing
overdue accounts. (1) the partners could consider offering cash discounts for early
settlement, charging interest on overdue amounts and refusing further sales unless
overdue debts are cleared. (1) to help with liquidity, if debtors are taking longer to
pay then the partners could consider taking longer to pay their trade payables. (1)

Q7. Identify three drawbacks for a business of holding too much inventory. (3)

Answer: Theft (1) Storage costs (1) Insurance (1) Obsolescence (1) Damage (1)
Opportunity cost (1)

Inventory valuation
Q1. State what is meant by net realisable value.

Answer: Selling price less cost to completion less selling expenses.

Q2. Explain two advantages and one disadvantage of using the AVCO method of
inventory valuation.

(2 Times))

Answer;

Advantages (max 4, 1 + 1 for development)

• Averaging smoothes out fluctuations in costs making comparison between

periods more valid

• Averaged prices used to value closing inventory likely to be closer to latest prices

• Avoids identical items being charged to a job at different prices

Disadvantages (max 2, 1 + 1 for development)

• Average price has to be re-calculated after each purchase – time consuming

• Average price does not represent any price actually paid

Breakeven
Q1. State what is meant by break-even point.(1)

Answer: the point at which a product makes neither a profit or a loss. total costs
equal total revenue ,total contribution equals fixed costs. Max 1 mark.

Q2. Explain what is meant by contribution. (3)

Answer: Contribution is the amount remaining after all variable costs have been
subtracted from revenue (1). This amount is available to service the fixed costs (1).
The amount remaining after this is the profit (1).

Q3. State the meaning of C/S ratio. (1)

Answer: It shows how much contribution is earned from each $1 of sales revenue
(1)

Q4. Explain the purpose of cost -volume -profit- analysis. (4 Times)

Answer: Used to determine the effect that changes in costs and volume (1) will
have on the company’s operating income and net income (1)

Q5. State three benefits to a business of break-even analysis

Answer: Identifies point at which product will make a profit (1) • Identifies margin
of safety (1) • Helps cost control by showing relative importance of fixed costs and
variable costs (1) • Provides information in a concise/straightforward/easy to
understand format (1)

Q6. Define the term ‘margin of safety’. (1) (2 times)

Answer: Margin of safety is the difference between a given volume of sales (1) and
break-even point (1). It can be expressed in units or as a percentage of sales (1)

Q7. Explain the usefulness of margin of safety to a company. (4)

Answer: Margin of safety provides an assessment of risk (1) by indicating the

extent to which expected output can fall (1) before a loss is made (1). It shows the
ability to withstand adverse trading conditions (1)

Q8. State the name given to the difference between the budgeted total sales units
and the budgeted break-even sales units.(1)

Answer: It represents the margin of safety (1)

Q9. Explain the significance of this difference to a business.(2)

Answer: The amount by which actual sales can fall short of the budgeted sales
before he reaches break-even point (1) and then makes no profit (1).

Q10. State four assumptions of cost- volume –profit analysis.(4) (3 Times)

Answer: Sales price per unit is constant (1) Total fixed costs are constant (1)
Variable cost per unit is constant (1) All production is sold (1) If the company sells
more than one product, the product mix remains constant (1) Costs are only
affected as a result of changes in activity (1)

Q11. State three limitations of a break-even analysis.(3) (4 Times)

Answer: Some costs are not easily classified as fixed or variable. • Some costs are
semi-variable. • It assumes fixed costs stay the same. • Straight lines can be
misleading – discounts can cause curved lines. • A chart can be time consuming to
prepare. • It assumes the selling price is constant at all levels of output. • It can be
misleading for those with limited accounting knowledge. • Can only be applied to
one product at a time.

Q 12. Define the following terms: (i) Direct costs and (ii) Stepped costs.

Answer: Direct costs are those which can be identified with a product unit (1).

Stepped costs are fixed up to a certain level (1) at which point they will increase
(1).

Q.13State what is meant by fixed cost , variable cost and semi variable cost

Answer: Variable Costs that vary in direct proportion to the level of activity (1)
Fixed Costs that remain the same irrespective of the level of activity.
Semi variable Costs that are partly fixed and partly variable. (1)

Marginal costing
Q1. State three short-term decisions, other than limiting factor decisions, where
marginal costing would be useful.

Answer: Make or buy decisions. (1) Special order decisions. (1) Decide whether or
not to cease manufacturing of a product. (1) Decide whether to close a department.
(1)

Q2. Define the term Variable cost. (1)

Answer: Those costs which vary in direct proportion to production (1)

Q3. Define the term Semi variable cost. (1)

Answer: Those costs which are partially fixed and partially variable (1).

Q4. Define the term Fixed cost. (1)

Answer: Those costs which remain the same at all levels of production (1).

Q5. Rahel has to meet the forecast demand in April as she has contracts with her
customers. In order to achieve this she has two alternatives.

1 Ask the workers to work overtime.

2 Buy in the products from another supplier.

REQUIRED (h) Advise Rahel which option she should choose. Justify your
answer.(5)

Answer:

Overtime: Disadvantages : Workers may refuse, Possibility of lower quality

Reduce contribution . Additional other costs

Advantages :Rahel knows ability of workers Rahel knows quality of work . Will
meet demand

Buy-in: Disadvantages: Doesn’t know quality / reliability of supplier, May be more

expensive, , May allow competition into market

Advantages: Will meet demand, May obtain better price 1 mark for decision and 4
marks for justification

Q6. The company has two possible options to enable it to achieve the budgeted
production.

Option 1 Pay existing staff overtime.

. Option 2 Buy in the required products from an external supplier

. REQUIRED (c) (i) Evaluate the options available to the company to achieve the
budgeted production.

Answer:

Calculation (Max 2) Contribution would be an extra $1050 (2 / 1OF) OR profit

would be $37 200 (2 / 1OF)

Evaluation (Max 3) • Quality / reputation is maintained via in house production

(1) • Will quality and productivity be affected by working overtime (1) • There
would be no delivery implications due to in-house production (1) • Positive
contribution / increased profit, but less than the outsourcing option (1) • Will staff
be willing to work overtime (1) (3 marks + 2 marks for calculation) Max 5

Option 2 Calculation (Max 2) Contribution would be an extra $2000 (2 / 1OF) OR

profit would be $38 150 (2 / 1OF) Evaluation (Max 3) • Need to consider the
reliability of supply and delivery (1) • Need to consider the quality of the products
(1) • Higher risk but larger financial returns (1) • Effect on morale of staff if using
external supplier (1) • Possibility of loss of market to competitor (1) (3 marks + 2
marks for calculation) Max 5

Q7. Advise the directors whether or not they should proceed with the additional
order for the retailer at lower price than normal. Give reasons for your answer.

Reasons for proceeding: • Additional $13 520 profit • Utilisation of spare capacity
• Less reliant on only one customer • Only small increase in fixed costs • Positive
contribution

Reason for not proceeding • Dando plc may cause problems due to lower price
being offered to retailer • Competitors may lower price and start price war

Q8. State one advantage and one disadvantage of marginal costing.

Answer:

Advantage Good for short term decision (1) because it only considers variable
costs (1) Good for special orders (1) enables accurate price to be set (1) Make or
buy (1) enables comparison (1) Disadvantage: Inaccurate / harder to calculate /
time consuming (1) because it is difficult to split costs into fixed and variable (1)
Not useful for financial statements (1) because the inventory value would be
understated (1) Max 1 mark for stating and 1 for development.

Q9. Rajesh has been advised to change to a marginal costing system. Advise
whether or not he should change. Justify your answer.

Answer:

Reasons to change to marginal costing: (max 2) • simple and quick to operate • no

apportionment of fixed costs • fixed costs are treated as period costs and so remain
unchanged at different activity levels • no over/under absorption of overhead costs
to calculate • no further adjustment needed in the income statement for over/under
absorption • closing inventory is realistically valued at variable production cost •
allows easy calculation of profit when changes in activity occur • great aid in
decision making/pricing/make or buy situation.

Reasons to keep absorption costing: (max 2) • it shares fixed production costs to

units of production, which is fair as these costs are incurred in order to make the
output • it is easier to determine profitability of several products as they include a
share of fixed overheads. • it values closing inventory fairly

Q10. Advise Ken whether or not he should increase the selling price taking into
account both financial and non-financial factors

Answer:

Proceed because • It covers the budgeted total costs and provides a profit. • It
provides a positive contribution.

Need to bear in mind • The market price of similar products. • How innovative is
his product to justify the price increase / will customers expect higher quality for
higher price. • Will customers accept the increase or go elsewhere / decrease in
demand. • Fixed costs are covered for now but they may change in the future. •
Short term view – he could lose profit in the long term.

Q11. Advise the directors whether or not they should hire the replacement
machine. Justify your answer by considering both advantages and disadvantages of
hiring the replacement machine.

Answer:

Advantages (Maximum 2) Will enable company to fulfil maximum demand. (1)

Will enable full utilisation of resources. (1) Disadvantages (Maximum 2) Will
reduce profit. (1) Forecast maximum demand may not be achieved thus reducing
profit even further. (1

Q12. Advise Zinan whether or not he should go ahead with the marketing
campaign. Justify your answer using both financial and non-financial factors.

Answer: Proceed or not (1)

The campaign will result in a loss of profit but will still have positive contribution.
How short term is the price decrease / is it only for this one order? Will it affect
year 2 profits? Will fixed costs be covered in the long term? Will the increase in
advertising be enough to generate the expected level of demand? What will the
existing customers reactions be to the price decrease for new customers?
If they do not get new customers:

What will the morale of the existing workers be like after staff reduction? Will the
quality of the goods go down if there are fewer workers? How temporary will the
loss of staff be? Will Zinan be able to re-recruit the skilled staff in year 2 when
new orders come in? At what extra cost?

Q13. State three issues the directors should consider before changing a supplier.
(3)(2 times)

Answer: Will new supplier offer the same quantity discount? (1) How certain is the
possibility of the shortfall? (1) Will the quality of the material from the new
supplier be acceptable? (1) How reliable will the new supplier be? (1) How long
will new supplier maintain the same price? (1) Will the new supplier offer the
same credit terms? (1)

Q. Advise Mandeep whether or not he should purchase all future supplies of material from the
overseas supplier. Justify your answer

Answer:

If Mandeep does purchase from the overseas supplier (Max 3)

Enables full maximum demand to be met. (1)
Will result in cost saving of $1300 per month. (1)
Will ensure no idle time. (1)

But:
Will quality be up to Mandeep’s expectation? (1)
Will delivery be guaranteed on time? (1)
Will exchange rates affect the quoted price? (1)
Does price quoted include delivery / customs charges? (1)

If Mandeep does not purchase from the overseas supplier (Max 3)

Cannot meet maximum demand. (1)
May affect sales of the other products. (1)
Will result in lost revenue and profit. (1)
May result in redundancies. (1)

Q. Explain the term ‘limiting factor’ when using marginal costing

Answer: A limiting factor is anything that limits the activity of a business (1), such
as a shortage of a resource. (1)

Absorption costing
Q1. State what is meant by overhead costs.(2) ( 2 Times)

Answer: a cost incurred which cannot be traced directly (1) to a product, service or
department (1) an indirect cost (

Q2. State what is meant by allocation.(1) (2 times)

Answer: The process of charging whole costs directly to a cost unit or cost centre

Q3. State the meaning of Apportionment

Answer: Charging overheads/costs that cannot be clearly identified with a specific

cost centre (1), to cost centres on an appropriate basis. (1)

Q4. State the meaning of Absorption

Answer: Where the total of allocated and apportioned overheads/costs (1) is

charged to units of production. (1)

Q5. Explain why overhead costs are re-apportioned from service cost centres.(2)

Answer: So that each unit of production (1) contains a share of total overhead
costs. (1)

Q6. The directors are considering changing from departmental overhead absorption
rates to one factory-wide rate. Advise the directors whether or not they should
make this change. Justify your answer.

Answer:

Easier to calculate, Cheaper to calculate, Some products may require more labour
hour/machine hours, Less accurate, Different products may spend different time in
each department. 1 mark for decision and 1 mark for each valid point

Q7. Explain why a business calculates separate overhead absorption rates for each
production department rather than a single rate for the whole factory. (4)

Answer: The overhead absorption rate should be chosen to reflect the activity of
that department (1). If the department is machine-intensive then machine hours
should be chosen / If the department is labour intensive then labour hours should
be chosen (1) This should lead to a more accurate absorption of overheads (1)
which in turn leads to a more accurate cost figure / selling price (1)
Q8. Explain two drawbacks for a business of using a budgeted overhead absorption
rate.(4)

Answer: Estimated figures used may be inaccurate (1) leading to under or over
absorption of overheads (1) Over absorption of overheads may lead to prices being
set too high (1) which may lead to loss of customers (1) Under absorption of
overheads may lead to prices being set too low (1) which would result in lower
profits (1)

Q9. Explain how over absorption and under absorption of overheads can affect the
profit of a manufacturing business.(6)

Answer; Over absorption of overheads will mean that too much overhead is
charged to the product (1). This means that a higher price is charged to the
customer (1) leading to increased profits (1). Or Over absorption of overheads
could also lead to a higher selling price (1) leading to lower demand (1) and lower
profits (1). Under absorption of overheads could lead to insufficient overhead
being charged to a product (1). This means a lower price is charged to the customer
(1) which fails to cover costs and reduces profit (1). Or Under absorption of
overheads could also lead to a lower selling price (1) leading to higher demand (1)
and higher profits (1).

Q10. State three advantages to a business of using a system of absorption costing.

(3) (2 times)

Answer: Enables selling prices to be set, because all costs are included in the
pricing of a product. (1) Supports long-term planning, because this depends on
revenue. It must cover not just direct costs but overhead costs as well. (1)
Absorption costing conforms to the accruals concept, because the total cost of
unsold inventory is charged to the period in which it is sold. (1)

Q11. State two limitations of absorption costing. (2) (3 Times)

Answer: It is more time consuming to calculate the overhead absorption rate and
adjust for over / under absorption. It is more complicated to calculate and
managers may need training. It is irrelevant in short term decision making as fixed
costs don’t change. Fixed costs relate to a period in time and so can be misleading
to charge to production units. The basis used to apportion and absorb overheads
may be arbitrary.
Q12. Explain why profit calculated using absorption costing would be different to
profit calculated using marginal costing. (3) (2 Times)

Answer: Using marginal costing Closing inventory is valued at variable production

cost and so shows a lower closing inventory value. (1) Fixed overheads are treated
as period costs (1) and are written off in the period’s income statement. (1) Using
absorption costing Closing inventory is valued at full production cost and so shows
a higher closing inventory value. (1) Fixed overheads are treated as part of
production costs (1) and are carried forward as part of the inventory value. (1)

Q13. State two possible reasons why overheads may be under absorbed. ( 2
Times)

Answer: Overheads may be under-absorbed because: actual overheads exceed

forecast overheads (1); actual production is less than forecast production (1)
calculation error (1).

Budgetary control
Q1. State three advantages of budgetary control.(3) (5 times)

Answer:

Assists with planning for the future (1) • Helps to monitor performance (1) •
Compares budget and actual, identifying, variances enabling corrective action to be
taken (1) • Enables delegation to departments (1) • Assists with decision making
(1) • Helps with responsibility accounting / enables assessment of managers (1) •
May motivate staff (1)

Q2. State three disadvantages of budgetary control. (3) (5 Times)

• Budgets are an estimate and could be inaccurate (1) • Budget are time consuming
and/or expensive to create and monitor (1) • Could lead to conflict between
departments (1) • Could demotivate employees (1) • May have to employ specialist
staff (1) • Budget may be set an unrealistic level (1) • Does not take account of
unforeseen circumstances (1) • Can restrict staff innovation (1)

Q3. Explain three ways in which the introduction of a system of budgetary control
will affect the departmental managers of a business.

Answer: Managers could be involved in setting targets/budgets for their areas of

responsibility (1) resulting in possible increase in motivation (1) If managers are
not involved in setting targets/budgets motivation could be reduced (1) especially
if targets are seen to be unachievable/unrealistic (1) Managers’ efficiency could be
improved (1) as a result of having clear objectives/targets (1) However, budgetary
control might prove to be restrictive (1) resulting in otherwise beneficial
opportunities being rejected by managers(1)

Labour accounting
Q1. State what is meant by ‘piecework payments’.

Answer: Payment to employee is based on the number of completed units they

produce (1)