Accounting

Level 3

Model Answers
Series 2 2006 (Code 3001)

1 3001/2/06

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Accounting Level 3
Series 2 2006

How to use this booklet Model Answers have been developed by Education Development International plc (EDI) to offer additional information and guidance to Centres, teachers and candidates as they prepare for LCCI International Qualifications. The contents of this booklet are divided into 3 elements: (1) (2) Questions Model Answers reproduced from the printed examination paper summary of the main points that the Chief Examiner expected to see in the answers to each question in the examination paper, plus a fully worked example or sample answer (where applicable) where appropriate, additional guidance relating to individual questions or to examination technique

(3)

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Teachers and candidates should find this booklet an invaluable teaching tool and an aid to success. EDI provides Model Answers to help candidates gain a general understanding of the standard required. The general standard of model answers is one that would achieve a Distinction grade. EDI accepts that candidates may offer other answers that could be equally valid.

Education Development International plc 2006 All rights reserved; no part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise without prior written permission of the Publisher. The book may not be lent, resold, hired out or otherwise disposed of by way of trade in any form of binding or cover, other than that in which it is published, without the prior consent of the Publisher.

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SECTION A (Answer Questions 1 and 2 in Section A Compulsory) QUESTION 1 The Sales Ledger Control Account of Brodsworth showed a debit balance of 78,784 on 31 January 2006. On that date, the list of balances extracted from the Sales Ledger had a net total of 79,200 debit. Neither the Sales Ledger Accounts nor the Purchase Ledger Accounts are treated as part of Brodsworths double entry records. The auditors discovered the following errors:

(1) An invoice for 60 recorded in the Sales Day Book had not been posted to the customers account in the Sales Ledger (2) A page in the Sales Day Book had been under-added by 1,000 (3) A sales invoice for 926 had been completely omitted from the books (4) A debit balance of 300 in the list of Sales Ledger balances had been wrongly listed as a credit balance (5) Contras of 400 had been correctly recorded in the Purchase Ledger and Sales Ledger Accounts but no entries had been made in either Control Account (6) The discount allowed column in the Cash Book had been over-added by 26 (7) A cheque for 1,500 received from a customer had been entered in the customers account as 1,050

REQUIRED (a) Prepare Journal entries (without narratives) showing the corrections necessary to the double entry records. (8 marks) (b) Calculate: (i) the corrected Sales Ledger Control Account balance (ii) the corrected net total of the balances extracted from the Sales Ledger (9 marks) (c) Calculate the change to Brodsworths net profit as a result of the auditors discoveries (3 marks) (Total 20 marks)

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MODEL ANSWER TO QUESTION 1

SECTION A Questions 1 and 2 MUST be answered

(a) Journal Sales Ledger Control Sales Sales Ledger Control Sales Purchase Ledger Control Sales Ledger Control Sales Ledger Control Discounts Allowed

1,000 926

1,000 926

400 400 26 26

(b) (i) Sales Ledger Control Account balance per question ADD Sales Sales Discounts Allowed LESS Purchase Ledger Control Account Corrected Sales Ledger Control Account balance

78,784 1,000 926 26 (400) 80,336

(ii) Net Sales Ledger Account balances per question ADD Invoice omitted Invoice omitted Wrongly extracted balance (2 x 300) LESS Wrongly entered cheque (1,500 1,050) Corrected net total of Sales Ledger balances

79,200 60 926 600 (450) 80,336

(c) Change in net profit Sales under added Sales invoice omitted Discounts Allowed over-added Increase in net profit +1,000 +926 +26 1,952

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SECTION A CONTINUED QUESTION 2 The accountant of Buxton received the following print out of the Product X Stock Account for the year ended 31 December 2005. All the figures printed were correct, as were all the calculations. However, most of the figures (indicated by *s) were missing. Buxton uses the weighted average cost method for valuing stock. DATE UNITS PRICE PER UNIT 4.00 * 4.50 * * 4.50 * 4.80 * * * * 5.00 * * * * 5.30 5.06 * * VALUE 24,000 * * 1,350 * * * * 65,520 * 54,600 * * * * 1,000 * * * 6,072 *

2005 1 Jan 4 Feb Balance b/d Creditors * 6,000 * 20 Mar Cost of goods sold * * 15 Apr Creditors * 12,000 18 May Creditors * * 25 June Cost of goods sold 2,400 * 3 July Creditors 3,000 * 10 Aug Cost of goods sold 3,000 * 19 Sept Cost of goods sold * * 2 Oct Creditors * * 5 Nov 31 Dec Cost of goods sold Balance c/d * *

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SECTION A CONTINUED QUESTION 2 CONTINUED REQUIRED (a) Copy the Product X Stock Account into your answer book, replacing the *s with the appropriate figures for units, price and value. (11 marks) You are given the following ratios relating to the most recent accounts of three companies: HALLAM plc Net profit to sales Return on capital employed Stock turnover Debtors collection Creditors settlement 10% 15% 19 times 0 days 51 days SHEFFIELD plc 5% 35% 26 times 6 days 22 days GLAPWELL plc 4% 36% 32 times 0 days 29 days

REQUIRED (b) Using the ratios given above and the background information given below, identify which company is Company A, which company is Company B and which company is Company C. Give reasons for each of your choices. (9 marks) Company A is a food supermarket, operating from rented stores and selling only for cash. Company B is a food supermarket, which also sells a small range of clothes, (which offer a higher mark up than food). It offers some credit and operates from rented premises. Company C is a food supermarket, which also sells a large range of clothes. It sells only for cash and owns its own premises. It is currently experiencing cash flow difficulties. (Total 20 marks)

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MODEL ANSWER TO QUESTION 2 (a) Product X Stock Account Year Ended 31 December 2005 DATE UNITS PRICE PER UNIT 4.00 5.00 4.50 4.50 4.50 4.50 4.50 4.80 4.55 4.55 4.55 6.80 5.00 5.00 5.00 5.00 5.00 5.30 5.06 5.06 5.06 VALUE 24,000 30,000 54,000 1,350 52,650 1,350 54,000 11,520 65,520 10,920 54,600 20,400 75,000 15,000 60,000 1,000 59,000 15,635 74,635 6,072 68,563

2005 Jan 1 Feb 4 Mar 20 Apr 15 May 18 June 25 July 3 Aug 10 Sept 19 Oct 2 Nov 5 Dec 31

Balance b/d Creditors Cost of goods sold Creditors Creditors Cost of goods sold Creditors Cost of goods sold Cost of goods sold Creditors Cost of goods sold Balance c/d

6,000 6,000 12,000 300 11,700 300 12,000 2,400 14,400 2,400 12,000 3,000 15,000 3,000 12,000 200 11,800 2,950 14,750 1,200 13,550

(b) Company A = Glapwell Ltd Selling food only would lead to highest stock turnover Selling food only would give lowest net profit to sales Rented stores could give high return on capital employed Cash sales gives 0 days debt collection

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SECTION A CONTINUED MODEL ANSWER TO QUESTION 2 CONTINUED

(b)

Company B = Sheffield plc The only company offering credit and therefore has a debt collection period As it sells only a few clothes it has the middle stock turnover ratio As it sells only a few clothes it has the middle net profit to sales ratio Selling from rented stores has generated a relatively high return on capital employed

Company C = Hallam plc The only company with cash flow problems. It has the longest creditors settlement period Selling a lot of clothes leads to the lowest stock turnover ratio The only company owning its own stores. It has the lowest return on capital employed Selling a lot of clothes gives the highest net profit to sales ratio

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SECTION B (Answer any THREE questions from Section B) QUESTION 3 The following are extracts from the Balance Sheet of Selby plc at 31 December 2005: 000 CAPITAL AND RESERVES 20,000,000 Ordinary Shares of 0.25 each 1,200,000 10% Preference Shares of 1.00 each Share Premium Retained Earnings CREDITORS: AMOUNTS FALLING DUE AFTER ONE YEAR 15% Debentures 5,000 1,200 1,400 700 8,300 1,000

On 1 January 2006, the directors of Selby plc intend to raise 1,800,000 and invest it in a project which they believe will increase operating profit by 400,000 per year for the foreseeable future. They are considering three possible methods of raising the 1,800,000: (1) A rights issue of ordinary shares at 0.45 each (2) Issuing more 10% preference shares at 1.20 each (3) Issuing 15% Debentures at 0.90 for 1.00 nominal

REQUIRED (a) Prepare Journal entries (including narratives) showing the effect of each of the three possible ways of raising finance (10 marks) (b) Calculate the increase in earnings per ordinary share resulting from implementing methods (2) and (3) (6 marks)

The Managing Director of Selby plc has suggested two additional ways of raising the finance: (1) Making a bonus (capitalisation) issue of ordinary shares (2) Arranging a bank overdraft with a current rate of interest of 12% per year

REQUIRED (c) Briefly discuss the Managing Directors suggestions (4 marks) (Total 20 marks)

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MODEL ANSWER TO QUESTION 3

(a) Bank Ordinary Share Capital (1,800 0.45 x 0.25) Share Premium (1,800 1,000) Issue of Ordinary Shares at 0.45 (ii) Bank 10% Preference Share Capital (1,800 1.2) Share Premium (1,800 1,500) Issue of Preference Shares at 1.20 (iii) Bank Share Premium (2,000 1,800) 15% Debentures (1,800/.90) Issue of Debentures at 0.90 (i)

000 1,800

000 1,000 800

1,800 1,500 300

1,800 200 2,000

(b) Increase in earnings per share: (i) (400,000 150,000) / 20,000,000 = 0.013 = 0.005

(ii) (400,000 300,000) / 20,000,000

(c) (i) Converting reserves into share capital does not result in the receipt of cash, so the suggestion is inappropriate. (ii) A bank overdraft is currently cheaper than the debentures though this could change. A bank overdraft is repayable on demand so it could be dangerous to use an overdraft to finance a long term project.

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SECTION B CONTINUED QUESTION 4 Following are the two most recent Balance Sheets of Thackley Ltd together with the most recent Income Statement: Thackley Ltd Balance Sheet as at 31 March 2005 FIXED ASSETS Tangible at cost Accumulated depreciation Investments at cost CURRENT ASSETS Stock Debtors Bank CREDITORS: AMOUNTS FALLING DUE WITHIN ONE YEAR Creditors Proposed dividend NET CURRENT ASSETS 78,000 24,200 53,800 112,500 166,300 55,080 71,420 39,580 166,080 161,187 146,703 72,150 380,040 2006 71,700 24,600 47,100 125,100 172,200

79,280 13,000 92,280 73,800 240,100

96,140 16,000 112,140 267,900 440,100

CREDITORS: AMOUNTS FALLING DUE AFTER ONE YEAR Debentures

100,000 140,100 50,000 12,000 78,100 140,100

86,000 354,100 62,000 22,000 270,100 354,100

FINANCED BY: Ordinary Shares of 1.00 each Share Premium Retained earnings

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SECTION B CONTINUED QUESTION 4 CONTINUED Income Statement for Thackley Ltd Year Ended 31 March 2006 Sales Cost of sales Gross profit Distribution expenses Administrative expenses Net operating profit Debenture interest Dividends paid and proposed Retained profit 490,000 170,000 320,000 101,000 219,000 7,000 212,000 20,000 192,000

64,000 37,000

NOTES RELATING TO THE YEAR ENDED 31 MARCH 2006: (1) Tangible fixed assets costing 30,000 (accumulated depreciation 21,000) were sold for 5,000. The loss on disposal was included in administrative expenses. (2) A bonus (capitalisation) issue of 2,000 shares was made, utilising the share premium account and further shares were issued for cash. (3) Fixed asset investments costing 6,000 were sold for 7,000. The profit on disposal was deducted from administrative expenses. (4) Debentures were redeemed at par. REQUIRED (a) Prepare a statement reconciling the net operating profit for the year with the net cash inflow from operating activities (8 marks) (b) Prepare the Cash Flow Statement of Thackley Ltd for the year ended 31 March 2006 (12 marks) (Total 20 marks)

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MODEL ANSWER TO QUESTION 4 (a) Reconciliation: Net operating profit Loss on disposal of tangible fixed assets (30,000 21,000) 5,000 Profit on disposal of investments (7,000 6,000) Depreciation (24,600 24,200 + 21,000) Increase in stock (161,187 55,080) Increase in debtors (146,703 71,420) Increase in creditors (96,140 79,280) NET CASH FLOW FROM OPERATIONS (b) Thackley Ltd Cash Flow Statement year ended 31 March 2006 Net cash flow from operating activities (as above) OF 78,870 219,000 4,000 (1,000) 21,400 (106,107) (75,283) 16,860 78,870

Returns on investment and servicing of finance Debenture interest paid Capital expenditure and financial investment Sale of investments Sale of tangible fixed assets Purchase of investments (125,100 112,500 + 6,000) Purchase of tangible fixed assets (71,700 78,000 + 30,000) Net cash outflow 7,000 5,000 (18,600) (23,700) (30,300) (7,000)

Equity dividends paid (13,000 + 20,000 16,000) Net cash inflow before financing Financing Issue of shares (62,000 50,000 2,000) + (22,000 12,000 + 2,000) Repayment of debentures (100,000 86,000) Net cash inflow Net increase in cash (72,150 39,580) 22,000 (14,000)

(17,000) 24,570

8,000 32,570

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SECTION B CONTINUED QUESTION 5 Following is the summarised Consolidated Balance Sheet of Pickering Ltd and its subsidiary Goole Ltd at 31 December 2004: Tangible fixed assets 170,100 Goodwill on consolidation 18,000 Net current assets 112,200 300,300 100,000 176,300 24,000 300,300

Share Capital Retained earnings Minority interest

Pickering Ltd acquired 80% of Goole Ltds ordinary shares on 1 January 2001. Pickering Ltds policy is to write goodwill off evenly over five years. Goole Ltd has an issued ordinary share capital of 20,000 1.00 ordinary shares. Its retained earnings on 1 January 2001 were 36,000. No dividends have been paid or proposed by either Pickering Ltd or Goole Ltd since Goole Ltd became a subsidiary company. REQUIRED Calculate: (a) The goodwill arising on the acquisition of Goole Ltd (b) The total net profit made by Goole Ltd in the four years to 31 December 2004 (c) The retained earnings of Pickering Ltd (alone) at 31 December 2004 (3 marks) (4 marks) (3 marks)

On 1 January 2005, Pickering Ltd acquired 70% of Maltby Ltds ordinary shares. Maltby Ltd has an issued ordinary share capital of 4,000 1 ordinary shares. Its retained earnings at 1 January 2005 were 16,000. Following is the summarised Consolidated Balance Sheet of Pickering Ltd and its subsidiaries Goole Ltd and Maltby Ltd at 31 December 2005: Tangible fixed assets 248,100 Goodwill on consolidation 46,000 Net current assets 146,300 440,400 100,000 302,600 37,800 440,400

Share capital Retained earnings Minority interest

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SECTION B CONTINUED QUESTION 5 CONTINUED No dividends were paid or proposed by any group company in the year ended 31 December 2005. Goole Ltds net profit for the year was 10,500. REQUIRED Calculate: (d) The goodwill arising on the acquisition of Maltby Ltd (e) The net profit made by Maltby Ltd in the year ended 31 December 2005 (3 marks) (7 marks) (Total 20 marks)

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MODEL ANSWER TO QUESTION 5 (a) Goodwill on the acquisition of Goole Ltd Goodwill at 31 December 2004 (1/5) Goodwill written off (4 x 18,000) Goodwill on acquisition 18,000 72,000 90,000

(b) Total net profit of Goole Ltd since acquisition Minority interest Share capital (20% x 20,000) Retained earnings (R)

4,000 20,000 24,000 100,000 36,000 64,000

Retained earnings at 31 December 2004 (5 x 20,000) Retained earnings at 1 January 2001 Total net profits since acquisition

(c) Retained earnings of Pickering Ltd at 31 December 2004 Retained earnings as per Balance Sheet LESS: Group share of Goole Ltds profits (0.80 x 64,000) ADD: Goodwill written off Retained earnings of Pickering Ltd

176,300 51,200 125,100 72,000 197,100

(d) Goodwill on the acquisition of Maltby Ltd Goodwill attributable to Goole Ltd Goodwill attributable to Maltby Ltd (4/5) Goodwill written off (0.25 x 46,000) Goodwill on acquisition

NIL 46,000 11,500 57,500

(e) Net profit of Maltby Ltd since acquisition Minority interest Share Capital Goole Ltd (20% x 20,000) Share Capital Maltby Ltd (30% x 4,000) Retained earnings Goole Ltd [20,000 + (20% x 10,500)] Retained earnings Maltby Ltd (R)

4,000 1,200 22,100 10,500 37,800 35,000 16,000 19,000

Retained earnings at 31 December 2005 (10,500 x 10/3) Retained earnings at 1 January 2005 Net profit of Maltby Ltd - year to 31 December 2005

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QUESTION 6 Blackpool has sold tables for many years. On 1 January 2005 he opened his first branch in Fleetwood. All double entry records are kept at the head office. All tables are purchased by head office and invoiced to Fleetwood at selling prices fixed to give a gross profit of 30% on sales revenue. All sales are for cash. In the year ended 31 December 2005, the following occurred: (1) Head office sent 480 wooden tables costing 91 each and 125 metal tables costing 63 each to the Fleetwood branch. (2) The Fleetwood branch returned 60 wooden tables and 5 metal tables to head office as they were the wrong colour. (3) At 31 December 2005, 50 wooden tables and 6 metal tables remained in stock at the Fleetwood branch. (4) Head office made the following payments on behalf of the Fleetwood branch: 5,000 rent for the fifteen month period to 31 March 2006; 50 per month for sundry expenses; 20 per week for the wages of part time staff; 300 per month for the managers salary. At 31 December 2005 it was discovered that no stock had been damaged, lost or stolen. The part time staff were entitled to a commission equal to 5% of sales revenue. The manager was entitled to a bonus equal to 4% of the branch net profit before charging the bonus. REQUIRED (a) Prepare the following accounts for the year ended 31 December 2005, as they would appear in the head office books of Blackpool: (i) Branch Stock (ii) Branch Stock Adjustment (iii) Branch Profit and Loss (18 marks) It is unusual for a retail outlet to have no stock losses. REQUIRED (b) Suggest one reason why no stock losses occurred at the Fleetwood branch. (2 marks)

(Total 20 marks)

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MODEL ANSWER TO QUESTION 6 (a) (i)

Branch Stock Account 43,680 18,720 7,875 3,375 5,460 2,340 315 135 48,100 10,260 6,500 540 73,650

Goods sent to branch (480 x 91) Branch stock adj. (480 x 39) Goods sent to branch (125 x 63) Branch stock adj. (125 x 27)

Goods sent to branch (60 x 91) Branch stock adj. (60 x 39) Goods sent to branch (5 x 63) Branch stock adj. (5 x 27) Bank (370* x 130) Bank (114** x 90) Balance c/d (50 x 130) Balance c/d (6 x 90)

2 2

73,650

* 480-60-50 = 370 ** 125-5-6 = 114

(ii) Branch stock Branch stock Profit and loss (R) Balance c/d (50 x 39) Balance c/d (6 x 27)

Branch Stock Adjustment Account 2,340 Branch stock 135 Branch stock 1 17,508 1 1,950 1 162 22,095

18,720 3,375

22,095

(iii) Rent (5,000 x 12/15) Sundry (50 x 12) Wages (20 x 52) Salary (300 x 12) Comm. (0.05 x 58,360) Profit before bonus Bonus (0.04 x 5,350) Net profit

Branch Profit and Loss Account 1 4,000 Branch stock adjustment 600 1,040 3,600 2,918 5,350 17,508 214 Profit before bonus 5,136 5,350

17,508

17,508 5,350 5,350 (18 marks)

(b) Large items like tables are easy to count and difficult to lose or steal.

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