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Principles
Accounting of 1. The fundamentals of accounting
Accounting is a process:
Khadheeja Mishfa
Huraa School
1/1/2020

Self-Study Guide
classifying &
all the cash details and Summarizing summarized data
DEFINITION
the credit details of the OF ACCOUNTING should be able to tell or
business “Accounting is concerned recorded data has to
with communicate
recording of data,to the
includes classifying
cash received and summarizing
be sorted out toof
make owners of the business
and paid, and goods data and communicating
or, to others allowed to
possible to work out
what
bought and sold has been learned from the data.”
how much profit or loss receive this information.
has been made during a
particular period.

Recording communicating
ACC

Accounting is divided into two sections: Book-keeping and accounting.

Book-keeping Accounting

The detailed recording of all the Using book-keeping records to

financial transactions of a business prepare financial statements
 Users of Accounting Statements
THE BASIC TERMS OF ACCOUNTING

Accounting Term Meaning

Book keeper The person who record the day-to-day accounting data

Accountant The person who prepares the financial statements of a

business.

Assets Resources owned by a business.

Example: cash in hand, cash at bank, trade receivables, land

and building, machinery etc.

Non-current Assets kept in the business for a few years at least.

assets Examples: land, premises, furniture, fixtures,
buildings fittings, plants, machineries, motor cars,
motor vehicles, motor lorries, goodwill etc.

Current assets The assets which change its form from day to day
are known as current assets. These are also known
as circulating assets. Examples: cash in hand, cash
at bank, inventory, trade receivables, expenses
prepaid, income accrued (other receivables) etc.

Liabilities Total of money owed for assets supplied to the business.

Example: bank loan, bank overdraft, Trade payables etc.

Non-Current The liabilities which are repayable after a long

liabilities
period are known as long term liabilities. Examples:
Internal External
loan from bank, loan from other institutions and

Owner(s) loan fromBank manager

any person.
Managers(s) Other lenders To check Financial ability to
pay back the loan
Current Tradewhich
Those liabilities payables
are repayable within the
liabilities Potential
near future are known buyers
as current liabilities.
Customers Interested in Liquidity position
Examples: Trade payables, bank overdrafts,
Employees and trade
expensesunions
owing, incomes receivedInterested
in advance in profitability
Government
(other payables) etc.
departments To check continuity of supplies in future
Capital Club
Total of resources supplied to amembers
business by its owner.
To know company is able to continue job security
Other name: Equity

Bank overdraft When we have paid more out of our bank account
To collect than
information we
of business
statistics for purposes like taxation
They are interested in all aspects
of the business, mainly to see if
the business is profitable or not To check whether the club is well
managed financially
 have paid into it.

Trade receivables A person who owes money to a business for goods or services
sold to him.

Trade payables a person to whom money is owed for goods and services.

Sales goods sold by the business, which were previously bought for
resale.

Returns Inwards/ Goods returned to the business by its customers

Sales returns

Purchases the purchase of goods for the purpose of selling.

Return Goods returned by the business to its suppliers

Outwards/Purchas
e returns
 ACCOUNTING EQUATION
The whole financial accounting expressed in an equation is called accounting
equation. It is expressed as follows:

Assets (A) Capital (C) Liabilities(L)

Liabilities(L) Assets(A) Capital(C)

Capital(C) Assets(A) Liabilities(L)

2 Sources and recording of data

DOUBLE ENTRY BOOKKEEPING:
A system where each transaction is entered
twice, once on the debit side and once on the
credit side.
Simplified DOUBLE ENTRY PRINCIPLES:
Increase Decrease
Assets Dr Cr
Liabilities Cr Dr
Capital Cr Dr
Expenses Dr Cr
Incomes Cr Dr

Summary of basic double entry transactions

Transaction A/C to be debited A/C to be credited
1 Introduce capital Bank/Cash/Asset Capital
2 Buy asset Asset Bank/Cash/Asset Trade payables

3 Sell Asset Bank/Cash/ Trade receivables Asset

4 Borrow Money Bank/Cash Loan

5 Repay Loan Loan Bank/Cash

6 Owner’s Drawings Drawings Bank/Cash/Purchases

7 Receive Income Bank/Cash Individual income

8 Pay Expenses Individual expense Bank/Cash

9 Withdraw money for office use Cash Bank

10 Pay cash into bank Bank Cash

11 Buy goods for resale Purchases Bank/Cash/ Creditor

12 Return inventory to supplier Bank/Cash/ trade payables Purchases Returns

13 Sell goods Bank/Cash/Trade receivables Sales

14 goods returned by customer Sales Returns Bank/Cash/Trade receivables

15 Payment to trade payables trade payables Bank/Cash

16 Receipt from Trade receivables Bank/Cash Trade receivables

17 Carriage on purchases Carriage Inwards Bank/Cash/ trade payables

18 Carriage on sales Carriage Outwards Bank/Cash

19 Discount to customers Discount Allowed Trade receivables

20 Discount from supplier trade payables Discount Received

21 Write off bad debt Irrecoverable debts Trade receivables

 Sales Ledger Purchases Ledger General Ledger
Where only trade Where only trade Where all other
receivabless accounts payables accounts are accounts other than
are maintained maintained Trade receivabless and
All transactions All transactions Trade payables are
regarding the specific regarding the specific recorded
customer is recorded supplier is recorded Accounts like sales,
(sales, sales returns, (purchases, purchase purchases, sales
cheques received, returns, cheques paid, returns, purchase
discounts allowed) discounts received) returns, assets etc.

TYPES OF LEDGER:

TYPES OF DISCOUNTS

offered by the seller to

encourage the buyer
to pay promptly
BUSINESS DOCUMENTS:

Cheque: The document used for withdrawing cash by the customer

of a bank from his bank account.

Paying-in-slip: A form used for paying (deposit) money into a bank

account.

Debit Note: The document sent to a supplier sent by the customer,

showing the details of goods returned

Credit Note: This is the document sent to a customer showing

allowances given by a supplier for the goods returned by the
customer

Purchase Invoice: A document received by a purchaser showing

details of goods bought and their prices.

Sales Invoice: A document showing details of goods sold and the

price of those goods.

Receipt: This is the document given to the customer as proof of the

cash received from him. One copy of the receipt will be kept in the
business.

Voucher: This is the document in support of small payments made

by a business. Usually vouchers are kept for recording those
transactions recorded in petty cash book.

Bank Statement: This is the copy of our current account (Bank

account) given to us by our banker.

Cheque counterfoil: This is the part of a cheque leaf remaining in

the cheque book after the issue of that cheque. It is evidence for
the cheque payment

Statement of account: A copy of customer’s personal account

taken from the supplier’s book.
 BOOKS OF PRIME ENTRY

Sales Journal The book used to record the transactions related to credit sale of goods.
This information is taken from Sales Invoice

Purchases Journal The book used to record the transactions related to credit purchases
This information is taken from Purchases Invoice

Sales returns/ Returns Book for goods returned by the credit customers/Trade receivabless to the
Inwards Journal business.
This information is taken from Credit Notes

Purchase returns/Returns Book for goods returned to the credit suppliers/Trade payables by the
Outwards Journal business.
This information is taken from Credit Notes

The book to record the transactions other than goods or cash. Also known as
The Journal General Journal.
NARRATION/NARRATIVE is required. A description and explanation of the

Cash Book A book of original entry for cash and bank receipts and payments.
This information is taken from Cheque, Receipts, Pay in slips etc.

The book of prime entry for small cash expenses of the

Petty Cash book business
Follows the imprest system

FORMAT
purchases, sales, purchase returns and sales returns journal
Invoice Amount
Date Details Folio
No $

Transfer to specific account in general __________

ledger
Note: Invoice number and folio column is not always required. *
 CASH BOOK (two columns)
Date Details/Receipts Cash $ Bank Date Details/Payments Cash $ Bank $
$
Balance b/d xxx xxx

Cash Cheques Cash Cheques

received received
Paid issued

Balance c/d xxx xxx

Balance b/d

CASH BOOK (three columns)

Date Details/ Discount Cash Bank Date Details/ Discount Cash Bank
Receipts Payments
balance b/d xxx xxx

Discount Cash Cheques Discount Cash Cheques

allowed received received received paid issued

xxx xxx
Balance c/d

balance b/d
xxx Xxx

FORMAT OF THE JOURNAL

Date Details Debit $ Credit $
Account to be debited xxx
Account to be credited xxx
(brief description of transaction)
Format of petty cash book

DOUBLE ENTRY, BOOKS OF ORIGINAL ENTRY & SOURCE DOCUMENTS

# Transaction Account to Account Source Book of
be debited to be document original
credited entry
1. Bought goods on credit from Purchase Mohamed Purchase Purchases
Mohamed $2,500 Invoice Journal
$2,500 $2,500
2. Bought goods for cash $6,300 Purchases Cash Receipt Cash Book
$6,300 $6,300
3. Bought goods by cheque Purchases Bank Cheque Cash Book
$1,300 counter foil
$1,300 $1,300

4. Bought equipment on credit Equipment Ahsan Invoice General

from Ahsan $8,500 Journal
$8,500 $8,500
5. Reema returned goods to us $ Sales Reema Credit Note Sales
210 returns returns
$ 210
journal
$ 210
6. Sold goods on credit to Moosa Moosa Sales Sales Sales
$1,200 Invoice Journal
$1,200 $1,200
 3 Verification of accounting records

(name of business)
Trial balance as at (date)
Details Debit
A list of account titles and $ balances Credit
their in the $
Trial balance books, on a specific date, shown in debit and credit
columns.

To check the arithmetical accuracy of Ledger

Purpose
ERROR OF OMISSION:
Omitting a transaction to be Accounts
ERROR OF COMMISSION:
Entering
Helpsanin
item
ERROR OF PRINCIPLE:
in wrongfinancial Entering
preparing statemetsan item in wrong
recorded in the books of person's account. type / class of account.
account. ______________ _____________

Errors which do NOT affect a trial balance COMPLETE REVERSAL

COMPENSATING ERROR: ENTRY:
Two errors of same amount ERROR OF ORIGINAL ENTRY:
Errors which does affect
Anaitem
trialentered
balance wrongly Where the transaction is
but on opposite sides (amount) in both accounts recorded in correct accounts
compensate each other. but on wrong sides of both
accounts
 When trial balance is not balancing, that means there are mistakes while
entering balances of various accounts to trial balance.
Usually the following type of errors effect the agreement of trial balance:
When a trial balance fails to agree, a Suspense Account needs to be open.

Wrong additions in the accounts.

Either debit or credit item of a transaction not recorded.

Written different amount for same transaction in both the accounts.

Suspense account is an account which shows the
balance equal to the difference in trial balance.

When correcting errors,

TYPE OF ACCOUNT Balance To increase To
shows decrease
Purchase/Return inwards/ Dr Dr Cr
assets/expenses/ drawings
Sales/Return outwards/ Cr Cr Dr
capital/revenues/liabilities/ provisions
* When an amount is entered on the wrong side of an account, to correct the
error, double the amount should be recorded on the correct side.
* When an amount is entered twice on the correct side, to correct the error,
one amount should be recorded on the opposite side of the same account.
EFFECT OF ERRORS ON PROFITS
Of all the errors, some errors will affect the profit calculated and some errors
will not.
 Direct Debits Where we give permission for an organization to collect
For example, if any expense is overstated
amounts owingautomatically the
direct from our net profit
account. willbe
This will bedebited in
decreased; as well if any expense is understated the net profit will be more
than the actual profit. In such cases the correct profit needs to be found.
Standing Orders Instructions to our bank to pay specified amount at given
dates. This will be debited in bank statement.
BANK RECONCILIATION STATEMENT
BANK RECONCILIATION STATEMENT: It is a calculation comparing the cash book balance
Dishonoured
with the bankcheque
statement. A cheque which is found to be worth nothing. On such
cheques bank will not pay money. When a deposited cheque
UPDATED CASH BOOK: Taking cash book (bank columns) closing balance and writing
transactions that are recorded in bank statement and were not recorded in cash book.
Bank Charges The service charges of bank which is directly deducted from
BANK STATEMENT: Copy of our current account
our account and it to
given appears on the
us by our debit side of bank
bank.
USE: When cash book (bank columns) balance and bank statements are different, i.e. when
Bank some
Girotransactions are recorded in either
(Direct) Credit be
book only,
An amount
credited
paida by
in bank
bank reconciliation
someone
statement.
statement
direct into is
our account. It will
prepared.
The following are some reasons for difference between bank statement balance and cash

(1) ITEMS RECORDED IN BANK STATEMENT AND NOT RECORDED IN CASH

BOOK: These items should be recorded in updated cash book.
 (2) ITEMS RECORDED IN CASH BOOK AND NOT RECORDED IN BANK
STATEMENT: These items will be recorded in bank reconciliation statement
Bank reconciliation statement format
$ $
Balance as per (updated) cash book XXX
Add: Unpresented cheques xxx
Add: Other items credited in cash but not debited on
bank statement

XXX
Less: Uncredited cheques
xxx
Less: Items debited in cash book but not credited on
xxx (xxx)
bank statement
Balance as per Bank Statement XXX

Control Account
Control Accounts are the total accounts used for checking the arithmetical accuracy of each of ledger
separately.
A control account contains the same information as the individual ledger accounts which it controls, but
in total.
Purposes of control accounts
1. To act as a check on the accuracy of the totals of the balances in the sales and purchases
ledgers.
2. To provide totals of debtors and creditors quickly when a trial balance is being prepared.
3. To identify the ledger(s) in which errors have been made when there is a difference on the trial
balance.
4. To act as an internal check on the work of the sales and purchases ledger clerks – to detect
errors and deter fraud, under the charge of a responsible person
The format of sales ledger control account
Balances b/d (opening debit) xxx balances b/d (opening credit) xxx

Unpresented Cheques A cheque which has been paid/issued to the third party
but has not yet gone through the bank account of the receiver of

Uncredited Cheques When cheques received from customers are deposited in to the
bank, but not credited in our bank account. These transactions
 Credit sales xxx Cash/cheque from debtors xx
Returned cheque (Unpaid chequ ) xx Discount allowed xx
Interest charged to debtors xx Sales returns xx
Cash refunds to customers xx Irrecoverable debts xx
Balances c/d (closing debit balance)xx Set off / contra entries / Transfer xx
Balances c/d (closing credit) xx
xxx xxx
Balances b/d (closing debit balance) xx Balances b/d (closing credit balance) xx

The format of purchase ledger control account

Balance b/d (small balance opening) x Balances b/d (opening credit balances) xx
Discount received xxx Credit purchases xx
Return outward (purchase return) xx Interest charged by Creditors xx
Transfer /set off / contra entries xx Refunds from suppliers xx
Bank / cash paid to creditors xx
Balance c/d (closing debit balance) xx Balances c/d (small closing balance) xx
xxx xxx
Balances b/d (closing debit balance) xx Balances b/d (closing credit balance) x

Set off / contra entries: Sometimes, the same person may be a debtor as well as a
creditor for the business. At the end of the month, the smaller amount in his account
from one ledger is transferred to his account in the ledger with large amount. The entry
passed for recording this transfer is known as set off or contra entry.

4 Accounting procedures
CAPITAL AND REVENUE EXPENDITURE & RECEIPTS

CAPITAL EXPENDITURE: REVENUE EXPENDITURE:

When a business spends Expenses needed for the
money to buy or add day-to-day running of the
value to a fixed asset. It is business. It is usually
taken to the debit side of taken to the debit side of
the relevant asset account revenue (Trading profit
E.g. bought machinery on credit and loss) account
or carriage inwards to bring the E.g. rent, insurance, telephone
machinery in to the business. bills, motor repairs

REVENUE RECEIPT: CAPITAL RECEIPT: Amount

Income related to normal received on sale of capital
activities of the business.. expenditure item. It is
E.g. Revenue from sale of goods. taken to the credit side of
It is usually taken to the credit the relevant ledger
side of revenue (Trading profit account.
and loss) account. E.g. Rent E.g. Sale of old furniture.
received, interest received, etc
Depreciation – is the reduced value of fixed asset; it is a non-cash expense,
and part of the profit and loss account.
Reasons for accounting for depreciation

● Physical deterioration

● Time lapse

● Economic Factors such as recession or boom

● Depletion

Methods of Depreciation
Straight Line Method
Using this method, every year the same depreciation is taken against the assets.
However, the depreciation calculation can be as percentage of fixed asset or the following
formula is used: Cost – Residual / Scrap/ Disposal Value
-------------------------------------------------------
Useful life of the asset
Reducing Balance Method
Using this method, in the first year given percentage of depreciation is calculated against the
cost of the fixed asset, and in the following years, the given percentage is calculated against
the net book value of the fixed assets.
Under reducing balance method, in the beginning depreciation will be high and in later years
it falls as amount of net book value decreases.
Revaluation Method
Under this method, the addition of fixed asset is added to the opening value of fixed assets,
and deducted the closing value of fixed assets; the balance is depreciation for the current
year.
Suitability of Method of Depreciation
(1) Straight Line Method: Used for the assets which do not have large variations or every
year a new model or version does not arrive in the market.
(2) Reducing (or diminishing) Balance Method: Used for the assets which have a new
arrival every year and previous models of such assets lose their value drastically.
(3) Revaluation Method: Used for the assets which gets lost very often or they are loosely
used such as loose tools including pliers, or screw drivers.
Accounting Treatment for Depreciation
Income statement (Dr)
Provision for Depreciation (Cr)
Other payables and other receivables

ACCRUAL (outstanding, unpaid, owing, due).

An accrual is an amount due in an accounting period which is unpaid at
the end of that period.

PREPAYMENT (prepaid, paid in advance)

A prepayment is a payment made in advance of the accounting period to

which it relates.

Meaning of Accrued and Prepaid Expenses

ACCRUED EXPENSES: expenses that the firm has used up, but which has
not yet been paid for are called accrued expenses.

In the final accounts accrued expenses are:

* Added to the expenses from the trial balance before listing it in the
income statement.

* Shown as a current liability in the year end statement of financial

position as other payables.
PREPAID EXPENSES: Expenses to be used up in a following period, but
which has been paid in advance.

In the final accounts prepaid expenses are:

* Deducted to the expenses from the trial balance before listing it in the
income statement.

* Shown as a current asset in the year end statement of financial position

as other receivables.

The reason for dealing with accruals and prepayments in this way is
to make sure that the income statement records the cost that has
been incurred for the year, instead of simply the amount that has
been paid.
 Example:
Trial balance as at 31st December 2020.
Dr ($) Cr ($)
Salaries 500
Rent 350
Adjustments:
a. Prepaid salaries $100.
b. Accrued rent $50.
* Show the entries in the income statement and in the statement of financial
position

Meaning of Accrued Incomes and Prepaid Incomes

ACCRUED INCOMES: incomes that the firm has used up, but which has
not yet been received is called accrued incomes.

In the final accounts accrued incomes are:

* Added to the incomes from the trial balance before listing it in the profit
and loss account.

* Shown as a current asset in the year end statement of

financial position as other receivables.

PREPAID INCOMES: incomes to be received in a following period, but

which has been received in advance.

In the final accounts prepaid incomes are:

* Deducted from the incomes amount from the trial balance before listing
it in the income statement.

* Shown as a current liability in the year end statement of

financial position as other payables.

Example:

Trial balance as at 31st December 2020.

Dr ($) Cr ($)
Commission 300
 received 250
Rent received
Adjustments:
a. Commission received in advance $50.
b. Accrued rent received $100.
* Show the entries in the income statement and in the statement of financial
position

IRRECOVERABLE DEBTS
A debt that we will not be able to collect. It is an expense. When irrecoverable
debts occur Trade receivabless will be decreased and irrecoverable debts
expenses will be increased.
WHEN IRRECOVERABLE DEBTS OCCUR:
Irrecoverable debts Dr xxx
Trade receivabless Cr xxx
TO TRANSFER IRRECOVERABLE DEBTS TO PROFIT AND LOSS ACCOUNT:
Profit and loss account Dr xxx
Irrecoverable debts account Cr xxx
PROVISION FOR DOUBTFUL DEBTS (PFDD)
This is an account showing the expected amounts of Trade receivabless at the
Statement of financial position date who will not be able to pay their accounts.
CREATION OF PFDD:
Profit and loss account Dr xxx
Provision for doubtful debts account Cr xxx
 (Trade receivabless x rate / 100)
INCREASE IN PFDD:
Profit and loss account Dr xxx
Provision for doubtful debts account Cr xxx
(Trade receivabless x rate / 100) – old PFDD
DECREASE IN PFDD:
Provision for doubtful debts account Dr xxx
Profit and loss account Cr xxx
(old PFDD – (Trade receivabless x rate / 100)

● Creation/Increase in PFDD and PFDOD is an expense.

● Decrease in PFDD and PFDOD is an income.

FINAL ACCOUNTS – ADJUSTMENTS – ACCOUNTING TREATMENT

Adjustments Accounting treatment (Steps)
Entry in Income statement Entry in statement
of financial position
1 Accrued Expenses Add to expense Show under C.L
(owing/arrears/due/
unpaid/outstanding/to be
paid)
2 Prepaid expenses Deduct from expense Show under C.A
(paid in advance/overpaid)
3 Accrued income Add to income Show under C.A
(owing/arrears/due/
unpaid/outstanding/to be
received)
4 Prepaid income Deduct from income Show under C.L
 (paid/received in advance)
5 Depreciation of non-current Show (current year's) Deduct the total
assets depreciation under expenses depreciation from
non-current asset.
6 Provision for doubtful debts Show the created or increased Deduct the new
i.e. difference (new-old) as balance from trade
expense receivables under
C.A
And Decreased i.e. difference
(old-new) as income
7 Unrecorded drawings of Deduct from purchases Add to drawings/
goods deduct from capital
8 Unrecorded drawings of No entry Deduct from
cash/bank and,
Cash/bank
Add to drawings/
deduct from capital
9 Unrecorded bank charges Show as / add to expense Deduct from bank
balance/add to
bank overdraft
10 Unrecorded expenses Show as / add to expense Show under C.L
11 Unrecorded income Show as / add to income Show under C.A
12 Misplaced invoice for goods Add to purchases Add to creditors
bought on credit/ under C.L
unrecorded credit purchases
13 Misplaced invoice for goods Add to purchases Deduct from cash/
bought for cash/ by cheque bank under C.A
Final Accounts: income statement and the statement of financial position.
FORMAT
Name of business
Income Statement for the year ended_______
$ $ $
Revenue xxxx
(-)Returns Inwards/Sales Returns xxx Xxxx
LESS: Cost of Goods Sold:
Opening inventory xxxx
Add: Purchases xxxx
Add: Carriage inwards xxxx
Add: Air, Freight charges xxx
Add: Customs/import duties xxx
Add: Packing/Repacking expenses xxx__
xxxx
Less: Returns outwards (xxx)__
xxxx
Less: Unrecorded drawings of goods (xxx)__ xxxx
Less: Closing Inventory (xxxx)__ (xxxx)_
GROSS PROFIT XXXX
ADD: Incomes:
Discount received xxx
Commission received xxx
Rent received xxx
Interest received xxx
Decrease in PFDD (Old-New) xxx
Other incomes xxx_ xxxx__
xxxx
LESS: Expenses
Salaries and Wages xxx
Postage and Stationary xxx
 Rent, Rates and Insurance xxx
Motor Vehicle repairs / expenses xxx
Advertising xxx
Telephone expenses xxx
Irrecoverable debts xxx
Increase in PFDD (New-Old) xxx
Depreciation on Non-current assets xxx
Carriage Outwards / Carriage on Sales xxx
Discount Allowed xxx
Interest paid xxx
Commission paid xxx
All other Expenses xxx__ (xxxx)_
Profit for the year XXXX_

Statement of financial position: A statement showing the assets, capital and

liabilities of a business.
Purpose of Statement of financial position: To show the financial position of
the business.
FORMAT

Name of business
Statement of financial position as at_________
COST DEP N.B.V.
Non-current ASSETS
Premises xxxx (xx) xxxx
Land and Buildings xxxx (xx) xxxx
Motor Vehicles xxxx (xx) xxxx
Furniture and Fittings xxxx (xx) xxxx
xxxx__ (xx)__ xxxx
CURRENT ASSETS
Inventory xxx
Trade receivabless xxx
Less: PFDD (xxx)_ xxxx
Other receivables xxx
Cash at bank xxx
Cash in hand xxx_ Xxxx
Total Assets xxxxx
Capital and liabilities
Capital xxxxx
Add: Profit for the year xxxx
Less: Drawings xxxx
(+)unrecorded Drawings xxx_ (xxxx)
Non-Current Liabilities: XXXX_
Loans (payable after 1 year xxxx
Current Liabilities:
Trade payables xxx
Other payables xxx
Short Term Loans xxx
Bank Overdraft xxx xxx__ Xxxx
Total capital and liabilities XXXX

FORMATS
Non-current ASSET ACCOUNT
Date Details $ Date Details $
2020 2020
Jan 1 Bank xxx Dec 31 Balance c/d xxx

XXX XXX
2021 2021
Jan 1 Balance b/d xxx Dec 31 Disposal (cost xxx
price)
Dec 31 xxx
Balance c/d
XXX XXX

2022
Jan 1 Balance b/d
xxx

PROVISION FOR DEPRECIATION ACCOUNT

Date Details $ Date Details $
2020 2020
Dec 1 Balance c/d xxx Dec 31 Profit and Loss xxx

XXX XXX
2021 2021
Jan 1 Disposal (total Dec 31 Balance b/d xxx
 dep. of sold asset) xxx Dec 31 Profit and Loss xxx
Dec 31 Balance c/d xxx

XXX XXX
2022 xxx
Jan 1 Balance b/d

ASSET DISPOSAL ACCOUNT

Date Details $ Date Details $
2020 2020
Dec 31 Asset (cost price) xxx Dec 31 Pro. for Dep. (total
Dep. of sold asset)
Dec 31 Profit and Loss xxx xxx
(profit) Cash / bank (sale
Dec 31 xxx
price)
Dec 31 xxx
Profit and Loss
XXX (loss) XXX

MANUFACTURING ACCOUNTS
MANUFACTURING ACCOUNT: An account in which production cost is
calculated.
DIRECT COSTS: Costs that can be traced to the item being manufactured. They
are:
1) Direct Material – cost of raw materials consumed
2) Direct Labour / Direct Wages
3) Direct Expenses: e.g. Royalties, Hire of Special
Machinery for a job.
PRIME COST: The sum of Direct Material plus Direct Wages plus Direct
Expenses.
FACTORY OVERHEAD EXPENSES / WORKS OVERHEAD EXPENSES / INDIRECT
COSTS: Production cost in the factory which cannot be traced to the item being
manufactured.
e.g. factory lighting, factory insurance, general factory expenses, factory
rent, etc.
WORK-IN-PROGRESS: Items not completed at the end of a period.
PRODUCTION COST: Prime cost plus factory overheads (or)
The sum of Direct Material plus Direct Wages plus Direct Expenses plus
Factory Overheads.
FORMAT
MANUFACTURING ACCOUNT FOR THE YEAR ENDED …………
$ $
Opening Inventory of Raw Materials xxx
Add: Purchases of Raw Materials xxx
Add: Carriage Inwards on Raw Materials xxx_
xxx
Less: Closing Inventory of Raw Materials (xxx)_
COST OF RAW MATERIALS CONSUMED xxx
Direct/Factory/Production/Manufacturing Wages xxx
Factory Direct Expenses (e.g. Royalties) xxx_
PRIME COST xxxx
Add: Factory/works overheads expenses/indirect cost:
Factory Fuel and Power xxx
Factory Lighting and Heating xxx
Indirect Wages/Factory Supervisor salary xxx
 Factory overheads xxx
Lubricants xxx
Internal Transport Expenses xxx
Factory Rent xxx
Depreciation on Equipment xxx
Depreciation on Plant and Machinery xxx
Factory Insurance xxx
General Factory Expenses xxx_ xxxx_
xxxx
Add: Work-in-Progress at the beginning of the year xxx_
xxxx
Less: Work-in-Progress at the end of the year (xxx)_
PRODUCTION COST OF GOODS COMPLETED XXXX

PARTNERSHIP FINAL ACCOUNTS

PROFIT AND LOSS APPROPRIATION ACCOUNT:
Profit and loss appropriation account is continuation of the profit and loss
account. This account is prepared to show the appropriation of net profit ascertained from
the profit and loss account.

FORMAT
PROFIT AND LOSS APPROPRIATION ACCOUNT (Vertical)
$ $
Profit for the year xxx
Add Interest on Drawings:
A (Drawings x rate %) xx
B (Drawings x rate %) xx xxx
 xxx
Less Interest on capitals:
A (capital x rate %) xx
B (capital x rate %) xx (xxx)

Salary to partners:
A xx
B xx (xxx)

Bonus, Commission to partners:

A xx
B xx (xxx)

Profit to be shared XXX

Share of profits
A xx
B xx xxx

XXX

FORMAT
CURRENT ACCOUNT / CAPITAL ACCOUNT
A B A B
Drawings xx xx Balance b/d xx xx
Interest on drawings xx xx Interest on capitals xx xx
Salary xx xx
Bonus, Commission xx xx
 Balance c/d xx xx Share of profit xx xx

xxx xxx xxx xxx

Balance b/d xx xx

Statement of financial position (Extract)

$ $ $
Financed by:
Capitals:
A xx
B xx xxx

Current accounts: (cr. balance)

A xx
B xx xxx

xxx
Add: Long-term liabilities xxx

XXX

Non-Trading Organizations - Clubs & Societies

Clubs, societies and associations formed to cater and promote the sporting, cultural and
recreational interests of its members. They are not formed with the purpose of making
profits.

Other types of businesses Clubs & Societies

Trading Account Bar Trading A/c

Gross Profit = Net Sales – Cost of Sales Trading profit =

Trading Revenue -Trading Expenses

 Cash or Bank Account: Receipts & Payments Account:

Records cash inflows & outflows Is actually a cash book by another name

Income Statement Income & Expenditure Account

Records net profit or loss Same principle as Income Statement

Records surplus or deficit

Statement of financial position Statement of financial position

Assets = Owner’s Equity + Liabilities Assets = Accumulated Fund + Liabilities

Differentiation of Accounts prepared:

Comparison of accounting Terms used by business and clubs:

Trading Business Clubs & Societies

Cash book Receipts and payments account

Income statement Income and expenditure account

Profit for the year Surplus

Loss for the year Deficit

Capital Accumulated fund

Difference between receipts and payments account and income and expenditure account

Receipts and payments Income and expenditure

Similar to cash book. Similar to income statement

 Summary of total receipts and Summary of the operating expenses
payments of cash and cheques and revenue items.

Makes no distinction between capital Records revenue and not capital

and revenue income/expenditure.
expenditure/income.

May have opening/closing balances. Shows a surplus/deficit.

Cash at bank / bank overdraft

Record purchase or sale of non- Includes depreciation of non-current

current assets. assets

ACCOUNTING RATIOS
The relationship between two amounts expressed in another number is called
ratio. Ratios in accounting are used to enable us to analyze and interpret
accounting statements.
Types of ratios:
1.Profitability Ratios:
(a) Gross profit ratios
i.Mark-up
ii.Margin
(b) Profit Margin
(c) Return on capital employed

1. Mark-up/Gross profit mark-up/ Gross Profit to Cost of goods sold Ratio

= Gross Profit x 100

Cost of goods sold
2. Margin/Gross profit margin/Gross profit to sales ratio
 = Gross Profit x 100
Sales
3. Net Profit/net profit to sales ratio = Net Profit x 100
Sales
4. Expenses ratio/expenses to sales ratio = Total expenses x 100
Sales
Note: The above ratios are expressed in terms of %.
5. Return on capital Employed = Net Profit x 100 (expressed in %)
Capital Employed
Note: Regarding ROCE, the more the ratio the better it is.

● If capital employed is more ROCE would be less.

● If capital employed is less ROCE would be more.

2.Liquidity Ratios:
(a)Current ratio: the ideal current ratio is 2:1. If the ratio falls below 2:1 that
means the business is facing serious problems with short working capital.

(b)Quick ratio: The ideal quick ratio is 1:1. If the ratio falls below 1:1 that
means the business is not in a position to pay off the creditors (Current
Liabilities) when they become due.

1. Current Ratio/Working capital ratio/Current assets to Current Liabilities

= Current Assets (Required ratio 2:1)
Current liabilities
2. Liquid Ratio/Liquid capital ratio/Acid test ratio/Quick ratio = Quick assets
(Required ratio 1:1) Current liabilities

(c)Rate of inventory turnover

Rate of inventory Turnover/Inventory velocity = Cost of goods sold
Average inventory
average inventory = Opening inventory + closing inventory
 2
Note: Rate of inventory turnover is expressed in number of times.
The important formulas based on financial accounts (accounting statements):
From trading account:
1.Gross profit = (net) sales – Cost of goods sold
2.Sales = Gross Profit + Cost of goods sold
3.Cost of goods sold = Sales – gross profit
4.Cost of goods sold = Opening stock + (net) purchase –Closing
stock
5.Purchases + Cost of goods sold – Opening stock + closing stock
From Income statement:
6.Net profit = Gross profit + income – expenses
7.Net profit (if no incomes are given) = Gross profit – expenses
8.Expenses = Gross profit – net profit
9.Gross profit = Net profit + expenses

From statement of financial position:

10. Net assets/Capital employed = Non-current assets + current
assets – current liabilities
11.Net assets/ Capital employed = Non-current assets + working
capital
12.Net assets/capital employed = capital/owner's equity (if, no long
term liabilities)
13.Working capital = current assets – current liabilities
14.Capital employed = owner's equity + long term liabilities

Working capital: the capital (funds) required for day-to-day running of the
business. It is calculated by subtracting current liabilities from current assets.
Working capital = Current assets – Current liabilities
Importance of working capital
It is needed to meet the day-to-day expenses.
E.g. To pay the creditors and other short term loans, to buy inventory.
To pay the expenses e.g. insurance, insurance etc
To earn profit
Reasons for decrease in working capital:
i. Buying non-current assets on by paying cash or cheque
ii. Buying non-current assets on short term credit.
iii. Owner taking more goods or cash for his personal use.
iv. By making loss on trading.
v. By a company declaring dividend to its shareholders which
has the effect of increase in current liabilities.

Reasons for/uses of rate of inventory turnover

❖ To know how many times average inventory is sold in a year

❖ To compare the results with previous years results

❖ To compare the results with similar other businesses

Reasons for the fall in the rate of inventory turn over

❖ Sales activities are gone down

❖ Keeping higher inventory levels than is really necessary

Steps to improve rate of inventory turn over

❖ Increasing sales by offering discounts or by reducing the sale price

(sales management)
❖ Keeping the inventory level to the required level

SAMPLE QUESTIONS
1. Give two reasons for keeping control accounts. Or Identify two
advantages of preparing control accounts.
❖Control accounts helps to eliminate unnecessarily detailed information from
the general ledger.
❖Control accounts make possible the preparation of trial balance without
referring to the subsidiary ledgers.
❖Enables the counter-checking of sales ledger and purchases ledger individual
balances.
❖To check the accuracy of postings in the ledger.

❖Provides easy reference for information.

❖Localize errors.

❖Enable the general ledger to be self-balanced.

2. Explain three possible reason s why the bank account is overdrawn

although the business has made a profit during the year. Assume that there
has not been any fraud or mistake.
❖ More payment made to creditors. (Creditors balance will be low)

❖ Sales are made on credit rather than cash.

❖ Purchasing inventory for cash rather than on credit.

3. Although there is high net profit there is a small bank balance. Give
reasons. Or identify two problems a business may have if current
liabilities are greater than current assets. Suggest a possible solution for
each problem.
❖ Drawings of the owner would be high.

❖ Huge amount of liquid cash would have been tied with inventory.

❖ Fixed assets have been brought for cash.

4. How is working capital calculated? State three disadvantages of a

business having too little working capital.
Working capital = Total current assets – total current liabilities

5. Explain why a business needs to show depreciation accounts.

❖ To reveal correct profit or loss.

❖ To show correct financial position.

 ❖ To make provision for replacement of asset.

❖ To show the allocation of the depreciable amount of its assets over their
estimated useful lives.
Reasons for depreciation:

● Wear and tear

● Erosion, rust, rot and decay.

● Obsolescence (becoming out of date)

● Inadequate for the needs of the business.

● Depletion (for natural resources)

6. Describe three features of each of the following different types of capital.

a) Ordinary shares b) Preference shares
c) Debentures d) Authorized share capital
e) Issued share capital f) Called-up share capital

a) Ordinary shares are certificates of ownership to a company. In case of

bankruptcy these shareholder will get a balance from the remaining
amount, if any, after paying to creditors and preference shareholders. If
the company is making good profits after payment of interest and
dividend to preference shareholders the remaining profits will belong to
these shareholders only.

b) Preference shares attract fixed dividends. They have no right to vote. In

the event of bankruptcy of the company they are entitled to be returned
their investment in priority to ordinary shareholders.

c) Debentures are an acknowledgement of dept taken by a company. It

pays a fixed rate of interest to the holder, whether the company is
making profits or not. A debenture holder has certain rights and
privileges over both ordinary and preference shareholders. They will be
repaid first in cases of bankruptcy.
 d) Authorized share capital is the maximum share capital that a company
can call up or issue. This amount is specified in the Memorandum of
Association of the company. The amount can only changed upon
registration with the Registrar of Companies

e) Issued share capital is the amount of share capital actually issued by the
company to its members or public investors to raise funds. The called-up
share capital cannot be more than the Authorized share capital

f) Called-up share capital is a part of issued share capital. Sometimes the

company does not require the shares to be fully paid at one time. It may
decide to set payment in installments and at specific dates; the
shareholders will be called up to pay the specified installment.

7. Ordinary shares differ from debentures. Describe two features of each.

ii. Ordinary shares are certificates of ownership to a company i.e. ;
ordinary shareholders are owners of the company. While
debentures are long term loans which means that the holders are
not owners but long term creditors of the company.
iii. Ordinary shareholders are paid dividends as and when the directors
recommend i.e. when the company is making profits. However, a
fixed rate of interest must be paid on the debentures every year
whether or not the company makes profits.

8. Explain how the amounts of the following items are calculated?

i.Working capital ii. Owner's capital iii. Capital employed

i. Working capital can be found by subtracting current liabilities from

current assets.
ii.Owner's capital can be found by taking total assets less total liabilities.
iii. Total capital employed is value of total net assets.
9. Explain how a person should value these:
i. Non-current assets: Cost less accumulated depreciation.
ii. Inventory: the lower of cost price or market price (Net realizable
value)
iii. Trade payables: Outstanding debtors less provision for bad debts
less provision for discount on debtors.

10. What conclusion do you draw from the following relating to accounts of a
person? Assume that the ledger is balanced and the final accounts are
prepared.
a) Dariens's accounts in purchases ledger has a credit balance: The person
owes his creditor Darien.
b) P Green's account in sales ledger has a credit balance: The person owes his
debtor P Green.
c) There is a debit balance on the insurance account: The balance indicates
insurance prepaid amount which is a current asset.
11. State the uses of the trial balance.

❖ A trial balance is an easy way to check for double entry errors, i.e.
whether all transactions have been posted and recorded correctly or
not.
❖ To list all the accounts that is in the ledger.

12. List five errors which do not affect the trial balance.
1. Errors of omission
2. Errors of commission
3. Errors of principle
4. Compensating errors
5. Errors of original entry
6. Complete reversal entry

13. Give the basis for the valuation of inventory. Suggest why businesses use
this basis.
The usual basis for the inventory valuation that is included in the year end final
account is the lower of the cost price or market/net realizable value.
The reason for choosing this basis is to observe the concept of conservatism
(prudence)
This concept calls for to provide for all losses but anticipate no gain.
14. Why does a business create a provision for doubtful debts? (or)
Explain the relevance of two accounting concepts of principles that must be
followed when setting a provision for doubtful debts.
In order to get as accurate a figure as possible for debtors which appear in the
Statement of financial position as an asset it is essential to provide for doubtful
debts. By providing for doubtful debts the profit automatically decreases which
is the correct account practice.
The two relevant accounting principles to be followed while providing PFDD:
Matching Principle: when providing for doubtful debts this principle is adhered
to so that a certain amount of expected expense is matched against the
current revenues instead of waiting till bad debts are known in the future
period.
Principle of Conservatism (Prudence concept): according to this concept all
expected losses are provided but not all expected gains. Likewise if there is any
amount is expected doubtful from the remaining debtors after writing off the
bad debts the businessman should provide for PFDD which reduces the profit
and thus reduces the debtors in the Statement of financial position.
15. Explain why partners are often allowed interest on capital.
If the partners invest their capital in another business or elsewhere they would
be getting some interest (returns) from the investments. Hence partners would
expect the same interest from the business before they share profits. The rate
of interest is a matter of agreement between the partners, but it should be
equal the return which they would have received if they had invested the
capital elsewhere.
16. Explain how the cash book is both a book of prime entry and a ledger
account.
✔ The cash book is the book of original entry for cash and bank
transactions, recorded from source documents like cheques and
receipts.
✔ It contains ledger accounts for cash and bank.