F3 PDF

Financial accounting (F3/FFA)
Financial Accounting (F3/FFA)
WASEEM AHMAD QURASHI
Masters’ Academy of
professional studies
Jhelum
+923215040978
Masters’ Academy of professional studies +923215040978 Page 1
1st edition
Contents
Chapter 1 Introduction to financial accounting
Chapter 2 Application of Dr and Cr rules
Chapter 3 Capital and revenue expenditures
Chapter 4 Value added tax (VAT)
Chapter 5 Documents Primary books and Ledgers
Chapter 6 Governance
Chapter 7 The Regulatory Framework
Chapter 8 Provisions and contingent liabilities
Chapter 9 Errors
Chapter 10 Control accounts
Chapter 11 Bank Reconciliation Statement
Chapter 12 Petty Cash
Chapter 13 PPE (IAS 16)
Chapter 14 Intangible Assets (IAS 38)
Chapter 15 Inventories (IAS 2)
Chapter 16 Bad and doubtful debts
Chapter 17 Accrual and prepayments
Chapter 18 Capital structure and finance cost
Chapter 19 Events after reporting date (IAS 10)
Chapter 20 Revenue (IFRS 15)
Chapter 21 Disclosures
Chapter 22 Final Accounts
Chapter 23 Cash flow statement
Chapter 24 Consolidation
Chapter 25 Ratios

Chapter 1
Introduction to Financial Accounting
1 Purpose of Financial Accounting
1.1Businessman needs information
Let’s starts with simple example. Suppose you own a small retail shop in your
town. In your routine you come across the following transaction.
1. Sale of goods
2. Purchase of goods
3. Payment of rent
4. Payment of utility bills
At end of day or month you may need certain information about these
transactions.
1.2What information is needed
You may have sold goods on credit. It means cash is not immediately received. So
you must know how much different customers owe to you.
1.3How Financial Accounting helps
Financial accounting will help you to record these transactions in such a way that
all information you need is readily available
 Basic purpose of Financial Accounting is to provide information

• To owners (Regarding sales, stock, expenses, profit etc.)
 What are characteristics of good information

• Complete.
• Easily accessible.
1.3.1Complete Information
Let’s take an example of credit sales Business will need to record name of
customer, credit terms, etc.
1.3.2Easily accessible
Summarized and categorized

1.4How transactions are recorded
Now question is how transaction should be recorded? These should be recorded
in such a way that information related to this transaction must be quickly
accessible, accurate, understandable etc. For this purpose financial accounting
has its own set of rules called debit and credit rules which we will discuss in later
chapters.
1.5Definition of Transaction
Transaction can be defined as exchange of some property.
1.6Frequency of transactions
1.6.1Transactions that occur on daily basis
 Sale of goods
 Purchase of goods
 Payment for cash purchases
 Receipts of cash sales
 Petty expenses
1.6.2Transactions that occur on monthly basis
 Payroll or wages ( keep in mind that some workers are paid on daily or weekly basis)
 Payment for credit purchases or credit sales ( it depends on credit terms decided with
supplier)
 Rent, electricity bills etc.
1.6.3Transactions that occur in long term
 Purchase and sale of non-current assets
 Further investment by owner
1.7The dual effect of financial transactions
Double entry bookkeeping is based on the premise that every financial
transaction has a dual effect; a 'debit' and a 'credit' impact on aspects of the
business as recorded in the accounts
1.8Who will record transactions

Next question is who will record the transactions. When you think about normal
routine, it is done by accountant or businessman himself. However you have to
make it clear that for financial accounting purpose we assume that transactions
are recorded by business. It will help you understand debit and credit rules which
we will discuss later.

1.8.1Definition of business
Any legal activity which is performed, on consistent basis, to earn profit.
1.8.2 Business is an artificial person

We will consider business as an artificial person. Business has its own identity
and it is considered as separate from its owner.
So when business makes transactions even with its owner it will record these
transactions. Transactions made by owner in his personal capacity will not be
recorded by business.
Now onwards we will divide the transactions made by business with two parties
1. Transactions made with businessman

2. Transactions made with all other parties.
Also Differentiate between
 Transactions made by businessman in his personal capacity
 Transactions made by business
Note: Financial accounting is only concerned with transactions made by business
1.9 Control over Transactions

In a business everybody is not allowed to make transaction. In order to keep
check and balance a specified person is allowed to make a transaction.
1.9.1Components of control system

There are three components of control
1.9.1.1Authorization
Every transaction must be approved by an authorised person.
 Meaning of authorization
 Who will authorize transaction
 When authorization is required
1.9.1.2Documentation
 Every transaction must be documented

 Documents must be serially numbered
 Missing documents must have valid reason
1.9.1.3 Segregation of duties

Work must be divided between different employees. For example a person who
receives cash must not prepare receivable ledgers. Also a person who receives
cash must not be the same who deposits cash in bank. However this is not
possible in small business because they can’t hire employees.
1.10 An important distinction

“Goods” is a term used for those items which are purchased or manufactured by
business for resale purpose. For example
 Cloth for cloth shop

 Vehicles for Vehicles showroom
 Refrigerators for electronics shop
“Asset” is a term used for those items which are purchased for use in business. For
example, furniture purchased by furniture shop for resale purpose will be termed as
“Goods”, while furniture purchased for use in office will be termed as “Asset”
Types of business entity

There are three main types of business entity.
Sole traders.
A sole tradership is a business owned and run by one individual, perhaps employing
one or two assistants and controlling their work. The individual's business and
personal affairs are, for legal and tax purposes, identical. In law, a sole trader is not
legally separate from the business they operate. The owner is legally responsible for
the business.
Advantages of being a sole trader

This type of structure is ideal if the business is not complicated, and especially if it
does not require a great deal of outside capital. Advantages include:
(a) Limited paperwork and therefore cost in establishing this type of structure
(b) Owner has complete control over the business

(c) Owner is entitled to profits and the ownership of assets
(d) Less stringent reporting obligations compared with other business structures – no
requirement to make financial accounts publicly available, no audit requirement
(e) Can be highly flexible
Disadvantages of being a sole trader

(a) Owner is personally liable for all debts (unlimited liability)
(b) Personal property may be vulnerable for debts and other business liabilities
(c) Large sums of capital are less likely to be available to a sole trader, leading to
reliance on overdrafts and personal savings
(d) May lead to long working hours without the normal employee recreation leave
and other benefits
(e) May be issues of continuity of business in the event of death or illness of the
owner
Limited liability companies.

Limited liability status means that the business's debts and the personal debts of the
business's owners (shareholders) are legally separate. The shareholders cannot be
sued for the debts of the business unless they have given some personal guarantee.
This is called limited liability.
Limited liability companies are formed under specific legislation (eg in the UK, the
Companies Act 2006). A limited liability company is legally a separate entity from its
owners, and can confer various rights and duties.
There is a clear distinction between shareholders and directors of limited companies.
(a) Shareholders are the owners, but have limited rights as shareholders over the day
to day running of the company. They provide capital and receive a return (dividend).
(b) The board of directors are appointed to run the company on behalf of
shareholders. In practice, they have a great deal of autonomy. Directors are often
shareholders.
The reporting requirements for limited liability companies are much more stringent
than for sole traders or partnerships. In the UK, there is a legal requirement for a
company to:
 Be registered at Companies House

 Complete a Memorandum of Association and Articles of Association to be
deposited with the Registrar of Companies

 Have at least one director (two for a public limited company (PLC)) who may
also be a shareholder
 Prepare financial accounts for submission to Companies House
 Have its financial accounts audited (larger companies only)
 Distribute the financial accounts to all shareholders
Advantages of trading as a limited liability company

(a) Limited liability makes investment less risky than being a sole trader or investing in
a partnership. However, lenders to a small company may ask for a shareholder's
personal guarantee to secure any loans.
(b) Limited liability makes raising finance easier (eg through the sale of shares) and
there is no limit on the number of shareholders.
(c) A limited liability company has a separate legal identity from its shareholders. So a
company continues to exist regardless of the identity of its owners.
(d) There are tax advantages to being a limited liability company. The company is
taxed as a separate entity from its owners and the tax rate on companies may be lower
than the tax rate for individuals.
(e) It is relatively easy to transfer shares from one owner to another. In contrast, it may
be difficult to find someone to buy a sole trader's business or to buy a share in a
partnership.
Disadvantages of trading as a limited liability company

(a) Limited liability companies have to publish annual financial statements. This means
that anyone (including competitors) can see how well (or badly) they are doing. In
contrast, sole traders and partnerships do not have to publish their financial
statements.
(b) Limited liability company financial statements have to comply with legal and
accounting requirements. In particular, the financial statements have to comply with
accounting standards. Sole traders and partnerships may comply with accounting
standards, eg for tax purposes.
(c) The financial statements of larger limited liability companies have to be audited.
This means that the statements are subject to an independent review to ensure that

they comply with legal requirements and accounting standards. This can be
inconvenient, time consuming and expensive.
(d) Share issues are regulated by law. For example, it is difficult to reduce share capital.
Sole traders and partnerships can increase or decrease capital as and when the owners
wish.
Partnerships.
These are arrangements between individuals to carry on business in common with a
view to profit. A partnership, however, involves obligations to others, and so a
partnership is usually governed by a partnership agreement. Unless it is a limited
liability partnership (LLP), partners will be fully liable for debts and liabilities, for
example if the partnership is sued.
Advantages of partnerships
(a) Less stringent reporting obligations – no requirement to make financial accounts
publicly available, no audit requirement, unless the partnership has LLP status
(b) Additional capital can be raised because more people are investing in the
business
(c) Division of roles and responsibilities and an increased skill set
(d) Sharing of risk and losses between more people
(e) No company tax on the business (profits are distributed to partners and then
subject to personal tax)
Disadvantages of partnerships
(a) Partners are jointly personally liable for all debts (unlimited liability) unless they
have formed an LLP
(b) There are costs associated with setting up partnership agreements
(c) There may be issues of continuity of business in the event of death or illness of the
partners
(d) Slower decision making due to the need for consensus between partners
(e) Unless a clause is written into the original agreement, when one partner leaves,
the partnership is automatically dissolved and another agreement is required
between existing partners

Chapter end exercise
Q1 Eva wishes to set up a confectionery business. It is important to her that her
financial information remains confidential. Which type of business structure
is most appropriate for Eva?
A Sole trader
B Partnership
C Company
Q2 Which of the following statements are correct about sole traders and
companies?
1 The equity capital of a company is the amount of cash contributed to

the business by its shareholders.
2 Sole traders might be required to make their financial statements
available for public inspection.
3 The statement of financial position of a sole trader should not include
any noncurrent liabilities.
A Statement 1 only is correct.
B Statement 2 only is correct.
C Statement 3 only is correct.
D None of the statements are correct.
Q3 Is the following statement true or false?
Financial reporting by companies is more extensively regulated than financial

reporting by sole traders.
A True
B False

Chapter 2
Application of Dr and Cr Rules
We have already discussed that main purpose of financial accounting is to
provide useful information. To make information useful, Dr and Cr rules are used
to record it. Another important point is that transaction must be properly
categorized so that these can be easily accessed and understood. For this
purpose transactions are divided into five main categories.
1. Asset
2. Expenses
3. Liability
4. Income
5. Capital



Recording transactions step by step explanation
At first stage we will look at basic transactions carried on by a simplest form of business
which is a sole trader
Step 1 Acquisition of Assets

Business is an artificial person and it records all the transaction carried on by it. To make it is
easy consider you as business. Every business needs assets for its start. These assets are
building, cash, vehicles, etc.
Business has three options to acquire assets
1. From owner
2. Purchase on credit
3. Purchase on cash
In all three cases asset will increase and according to rules, asset will be debited. If business
acquires furniture, it means furniture is increased and we will debit furniture. If business
receives cash, cash is an asset which is increased and we will debit cash and so on. So debit
slot is filled. Now question is just about credit slot.
There were three ways of acquiring asset.
Asset acquired from owner

When business acquires asset from owner asset is increased so it will be debited. As a result
capital (which is owner’s investment) will increase hence it will be credited.
Examples:
Transaction 1 : Owner invested £1000 cash in business. It means cash increased in business
and as a result owner’s investment is also increased. Cash is an asset which is increased so it
is debited and capital is also increased so it is credited.
Cash 1000 Dr
Capital 1000 Cr
Transaction 2 : Owner invested £1200 in business bank account . It means bank balance of
business increased and as a result owner’s investment is also increased. Bank balance is an
asset which is increased so it is debited and capital is also increased so it is credited.

Bank 1200 Dr
Capital 1200 Cr
Transaction 3 : Owner took loan from his friend and invested £800 cash in business. Business
is not concerned about source from which owner received cash. Business made a transaction
with owner and treats it as cash received from owner. Cash increased in business and as a
result owner’s investment is also increased. Cash is an asset which is increased so it is
debited and capital is also increased so it is credited.
Cash 800 Dr
Capital 800 Cr
Conclusion
Whichever asset business receives from owner, end result is increase of asset
and capital. In generalized from transaction is recorded as
Asset Dr
Capital Cr
Asset purchased on credit
Second option for business is to purchase an asset itself on credit. It is important to note that
when name of a person or other business is mentioned in transaction it is normally a credit
transaction. When business purchase asset on credit dual impact will be increase in asset
and as a result increase in liability.
Examples:
Transaction1: Business purchased furniture for £250 from ABC furniture. Furniture is an asset
which is increased and £250 is now payable to ABC furniture hence liability is also increased
as a result of this transaction.
Furniture250 Dr
ABC Furniture 250 Cr

Transaction2: Business purchased vehicle for £350 from City Motors. Vehicle is an asset
which is increased and £350 is now payable to City Motors hence liability is also increased as
a result of this transaction.

Vehicle 350 Dr
City Motors 350 Cr

Conclusion
Whichever asset business purchase on credit, end result is increase of asset and
liability. In generalized from transaction is recorded as
Asset Dr
Liability Cr
Asset purchased on cash
Third option for business is to purchase an asset itself on cash. It is important to note that
when name of a person or other business is not mentioned in transaction it is normally a
cash transaction. When business purchase asset on cash dual impact will be increase in asset
and decrease in cash balance.
Examples:
Transaction1: Business purchased furniture for £250 . Furniture is an asset which is increased
and cash is decreased.
Furniture250 Dr
Cash 250 Cr
Transaction2: Business purchased Vehicle for £350 and paid amount by cheque. Vehicle is an
asset which is increased and bank balance is decreased.
Vehicle 350 Dr
Bank 350 Cr
Conclusion
Whichever asset business purchase on cash or by cheque, end result is increase
of asset and decrease in cash or bank balance. In generalized from transaction
is recorded as
Asset Dr
Cash/Bank Cr
Summary:

Asset acquired
Asset increased Dr
From owner
Purchased on credit Purchased on cash
Owner’s investment increased
Liability increased Cash decreased
Capital Cr
Liability Cr Cash Cr
Step 2 Purchase of goods

Term “Goods” is used for those items which are purchased for resale purpose. Whenever
goods are purchased purchases account is debited. Purchase of goods will result in increase
in inventory which as an asset.
Option 1 Goods purchased on cash

When goods are purchased on cash, purchases account is debited. Cash is paid so it is
decreased. Cash is an asset which is decreased hence credited.
Purchases Dr
Cash/Bank Cr
Option 2 Goods purchased on credit
When goods are purchased on credit, purchases account is again debited. Now an amount is
payable to supplier and amount payable is liability. Liability is increased so it is credited
Purchases Dr
Payables Cr
Other transactions with supplier
Advance paid to supplier
Sometimes business pays advance to supplier for purchase of goods. In this case payable
account is debited because at the time of payment amount is receivable from supplier and it
will create a temporary asset. Cash is paid which result in decrease in asset hence credited.

Payables Dr
Cash/Bank Cr
Cash refund from supplier
Later if business decides not to purchase goods and supplier returns advance, cash asset will
increase and temporary asset created in payable account will decrease.
Cash/Bank Dr
Payables Cr
Goods returned to supplier
When goods are returned to supplier it decreases liability as well as inventory. So payable
account is debited as decrease in liability. Business has two option either decrease reverse
the purchase account or record return of goods in purchase return account so that it can
track the value of goods returned. Normally return of goods is recorded in purchase return
account and decrease in inventory is credited as inventory is an asset.
Payables Dr
Purchase return Cr
Cash/Cheque paid to supplier
When goods are purchased on credit, supplier offers discount if amount is paid within
specified time period. For example supplier may offer 5% discount if amount is paid within 15
days. Suppose business has purchased goods costing £1000 and it pays the amount within 15
days it will get discount of £50 and has to pay £950, however liability will decrease by £1000.
Payables Dr £1000
Cash/Bank Cr £950
Discount received Cr £50
Step 3 Sale of goods

Whenever goods are sold sales account is credited as income. It is because
income is defined as value of goods or services provided
Option 1 Goods sold on cash
When goods are sold on cash, sales account is credited. Cash is received so it is increased.
Cash is an asset which is increased hence debited.

Cash/bank Dr
Sales Cr
Option 2 Goods sold on credit
When goods are sold on credit, sales account is credited. As amount is receivable and
amount receivable is an asset so it is increased hence debited.
Receivables Dr
Sales Cr
Other transactions with credit customer
Advance received from customer
Sometimes business receives advance to customer for purchase of goods. In this case
receivable account is credited because at the time of receipt amount is payable to customer
and it will create a temporary liability. Cash is received which result in increase in asset hence
debited.
Cash/Bank Dr
Receivable Cr
Cash refund to customer

If customer demands his cash, it is paid to him. Temporary liability created in receivable
account decreases and cash also decreases.
Receivables Dr
Cash/bank Cr
Cash received from customer
Cash/Bank Dr
Discount Allowed
Receivable Cr
Cheque received from customer later dishonoured

Most often business deals in cheque, however these cheques may dishonour. For example
business receives a cheque from Mr Ali. Business deposits this cheque into bank and increase
bank balance in its books. However cheque may have some problems like issue in signature
or there may not be enough amount in Mr Ali’s account. Business’s bank will return the

cheque and amount will not be transferred in business bank account. Business will increase
receivables and decrease bank
Receivable Dr
Bank Cr
Reasons for returned/dishonoured cheques
 Insufficient funds
There may not be enough money in the customer's account to cover the cheque. However if
amount of cheque is lower than cheque guarantee card it is normally paid by bank
 Stolen cheques and cheque guarantee cards
Stolen cheques are returned back even if all details agree with cheque guarantee
card
 Wrongly completed or out of date cheques
o Amount in figures and words differ
o Future dated cheque
o Time bared cheque
Interest charged for late payment

If a customer pays after due date business will charge interest to him. Receivable balance
will increase and interest will be treated as income.
Receivables Dr
Interest Cr
Goods returned by customer
When goods are returned by customer it decreases receivable and increase inventory. So
receivable account is credited as decrease in asset. Business has two option either decrease
or reverse the sales account or record return of goods in sales return account so that it can
track the value of goods returned. Normally return of goods is recorded in sales return
account and increase in inventory is debited as inventory is an asset.

Sales return Dr
Receivable Cr
Irrecoverable or bad debt

Sometimes a customer who owes money to business does not pay for long period of time.
Business may decide that debt (receivable) is no more recoverable and write it off. As it is a
loss so it will be treated as expense and receivable will decrease
Bad debt Dr
Receivable Cr
Another case of irrecoverable debts is bankruptcy of customer. Court may decide that
customer will pay only certain portion of debt he owes. For example a customer owes £100
to business and court decides that customer will pay only 30%.
Bad debt Dr 70
Cash Dr 30
Receivable Cr 100
Bad debts written of now recovered

Bad debts written off by business may later be recovered. At time of writing off of bad debts
these were treated as expense. Recovery of bad debts will be treated as income. Two entries
are passed in books
Receivables Dr
Bad debt recovered Cr

Cash Dr
Receivable Cr
Discounts, rebates and allowances

There are two kind of discount.
 Trade discount: a reduction in the cost of goods
 Cash (or settlement) discount: a reduction in the amount payable to the supplier

Trade discount It usually results from buying goods in bulk. For example
 A customer might be charged $2 per unit for a perfume, but a lower price of $1.5 per
unit if 100 units or more are purchased at a time.
 It may also be offered to regular or important customers without considering size of

order
 It is also used to clear seasonal stock
Cash (or settlement) discount
It is offered to credit customers to encourage early payments. For example goods are sold to
customer on credit and invoice of $100 is generated. However is offered a discount of 5% if
he pays within 15 days. So he has to pay $95 if he pays within 15 days or $100 if he pays
after 15 days
Note: Two types of questions are given in paper.

1. Amount given is before deducting discount, as in above example.
2. Amount given is after deducting discount. For example business paid

£900 after deducting discount of 10%
Amount is calculated using the following formula.
Amount paid = Total amount – discount
£900 = X - 10% of X
£900 = 0.9X
£900
0.9
=X
£1000 = X
Step 4Payment of expenses
At end of month business will pay expenses.
Expense Dr
Cash/bank Cr

Payment of rent
Rent Dr
Cash/bank Cr
Payment of Salary
Salary Dr
Cash/bank Cr
Payment of Insurance
Insurance Dr
Cash/bank Cr
Payment of utility bills
Electricity/telephone expense Dr
Cash/bank Cr
Repair of vehicle
Repair expense Dr
Cash/bank Cr
Transaction with owner
Personal expenses of owner paid from business cash or bank
Business is separate from owner so businessman’s personal expenses are not treated as
business expense. For example school fee of businessman’s children, rent of his house, utility
bills of his house are treated as drawings if paid out of business bank account or cash.
Drawings Dr
Cash/bank Cr
Owner took cash for personal use
Drawings Dr
Cash/bank Cr
Owner took goods for personal use
Drawings Dr
Purchases Cr
Note: Drawings is opposite to capital. Capital is investment in business whereas drawings
are withdrawal of that investment.

Accounting equation
𝐴𝑠𝑠𝑒𝑡 = 𝑒𝑞𝑢𝑖𝑡𝑦 + 𝑙𝑖𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
𝐴𝑠𝑠𝑒𝑡 + 𝑒𝑥𝑝𝑒𝑛𝑠𝑒 = 𝑒𝑞𝑢𝑖𝑡𝑦 + 𝑖𝑛𝑐𝑜𝑚𝑒 + 𝑙𝑖𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
𝐴𝑠𝑠𝑒𝑡 = 𝑒𝑞𝑢𝑖𝑡𝑦 + 𝑖𝑛𝑐𝑜𝑚𝑒 − 𝑒𝑥𝑝𝑒𝑛𝑠𝑒 + 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
𝐴𝑠𝑠𝑒𝑡 = 𝑒𝑞𝑢𝑖𝑡𝑦 + 𝑝𝑟𝑜𝑓𝑖𝑡 + 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
𝐴𝑠𝑠𝑒𝑡 = 𝑒𝑞𝑢𝑖𝑡𝑦 − 𝑙𝑜𝑠𝑠 + 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
Note: Another term used for equity is net assets or capital
𝐶𝑙𝑜𝑠𝑖𝑛𝑔 𝑐𝑎𝑝𝑖𝑡𝑎𝑙 = 𝑜𝑝𝑒𝑛𝑖𝑛𝑔 𝑐𝑎𝑝𝑖𝑡𝑎𝑙 + 𝑝𝑟𝑜𝑓𝑖𝑡 − 𝑑𝑟𝑎𝑤𝑖𝑛𝑔𝑠 + 𝑓𝑢𝑟𝑡ℎ𝑒𝑟 𝑖𝑛𝑣𝑠𝑡𝑒𝑚𝑒𝑛𝑡

Q1 Applying the accounting equation, which of the following might also occur when
the amount of a liability of a business entity is increased?
1 An expense is incurred.
2 Another liability is reduced in amount
3 An asset is reduced
A 1 and 2 only B 2 only
C 2 and 3 only D 1 and 3 only
Q2 The equity capital of a business would change as a result of:
A a liability being paid from cash in the business bank account
B a machine for use in the business being purchased on credit
C sundry expenses being paid in cash
D payment being received from a credit customer
Q3 Grane provides the following information about her business:
Net assets at 30 September 2010 23,900
Capital introduced in the year to 30 September 2010 1,000
Profits in the year 5,600
Drawings in the year 3,250
What was the balance on Grane’s capital account at 1 October 2009?
A $20,550 B $27,250
C $31,750 D $14,650

Q4 Butler provides the following information about his business:
Total assets at 31 August 2010 134,700
Capital at 1 September 2009 49,750
Drawings during the year ending 31 August 2010 12,000
Profit for the year ending 31 August 2010 35,000
Butler did not inject any further capital during the year.
Butler’s total liabilities at 31 August 2010 were:
A $72,750 B $61,950
C $49,750 D $84,950
Q5 Theo started a business on 1st January 2009 with $10,000 capital. During his first
year of trading he made a profit of $13,000 and paid a further $2,000 into the
business. He took goods costing $250 and with a selling price of $400 for personal
use and at the year end his assets totalled $54,000 and his liabilities totalled
$32,000.
What were Theo’s cash drawings during the year?
A $2,750 B $3,000
C $2,600 D $3,250
Q6 Which of the following provides the correct formula to find the drawings of the
proprietor of a business during a given period?
A Closing capital – Opening capital + Profit – Capital injections
B Change in net assets + Profit – Capital injections
C Opening net assets – Closing capital – Profit + Capital injections
D Profit + Capital injections – Increase in net assets

Q7 The following information is available for a sole trader who keeps no accounting
records.
Net business assets at 1 July 2009 186,000
Net business assets at 30 June 2010 274,000
During the year ended 30 June 2010:
Cash drawings by proprietor 68,000
Additional capital introduced by proprietor 50,000
Business cash used to buy car for the proprietor’s wife, who takes no part in the business
$20,000
Using this information, what is the trader’s profit for the year ended 30 June 2010?
A $126,000 B $50,000
C $86,000 D $90,000
Q8 Chris started a washing and ironing business by transferring her washing machine,
worth $200, into the business. How should this transaction be recorded?
A Dr Capital $200, Cr Machine $200
B Dr Machine $200, Cr Drawings $200
C Dr Machine $200, Cr Capital $200
D Dr Machine $200, Cr Bank $200
Q9 Andy started a business and introduced capital of $10,000. He also obtained a loan
of $6,000 to purchase non-current assets.
What is the value of Andy’s opening net assets?
A $4,000 B $6,000
C $10,000 D $16,000

Q10 A trader's net profit for the year may be computed by using which of the
following formulae?
A Opening capital + Drawings – Capital introduced – Closing capital
B Closing capital + Drawings – Capital introduced – Opening capital
C Opening capital – Drawings + Capital introduced – Closing capital
D Closing capital – Drawings + Capital introduced – Opening capital
Q11 On 23 May 20X7, Julie used cash to pay the rent on her business premises for
the three months to 31 August 20X7 in advance. On 23 May, how is Julie's
accounting equation affected by this transaction?
Assets Liabilities Capital
A Unchanged Unchanged Unchanged
B Unchanged Reduced Reduced
C Reduced Unchanged Unchanged
D Reduced Unchanged Reduced
Q12 The profit made by a business in 20X7 was $35,400. The proprietor injected
new capital of $10,200 during the year and withdrew a monthly salary of $500.
If net assets at the end of 20X7 were $95,100, what was the proprietor's capital at the
beginning of the year?
A $43,500 B $55,500 C $63,900 D $126,300
Q13 A business had net assets at 1 January and 31 December 20X9 of $75,600 and
$73,800 respectively. During the year, the proprietor introduced additional capital
of $17,700 and withdrew cash and goods to the value of $16,300.
What was the profit or loss made by the business in 20X9?
A $3,200 loss B $3,200 profit
C $400 loss D $400 profit

Q14 Which of the following is a bank overdraft an example of?
A Asset B Liability
C Income D Expense
Q15 A business borrowed $1,700 from its bank, and used the cash to buy a new
computer. How was the accounting equation affected by these transactions?
Assets Liabilities
A Unchanged Decreased
B Unchanged Increased
C Increased Increased
D Increased Decreased
Q16 Which of the following correctly calculates the difference between closing
capital and opening capital?
A Profit – Capital introduced – Drawings
B Profit + Capital introduced + Drawings
C Profit – Capital introduced + Drawings
D Profit + Capital introduced – Drawings
Q17 At the start of the year, the balance on David's capital account was $85,872.
During the year David made drawings of $19,500 and the net loss for the year was
$1,700. He introduced capital of $5,300
What is the closing balance on David's capital account at the year end?
A $73,372 B $69,972
C $98,372 D $62,772

Q18 The net assets of Kate's business were $16,100 at 1 January 20X3 and $27,600
at 31 December 20X3. During the year Kate paid personal funds of $2,950 into the
business bank account and withdrew $1,450.
What was the net profit for the year ended 31 December 20X3?
A $11,950 B $13,000
C $7,100 D $10,000
Q19 The owner of a small business, which does not have an overdraft facility,
draws out some money for personal use.
Which of the following correctly states the effect of the drawings upon the accounting
equation?
A Assets increase, capital increases
B Assets decrease, capital increases
C Assets decrease, capital decreases
D Assets decrease, liabilities decrease
Q20 A sole trader had opening capital of $10,000 and closing capital of $4,500.
During the period, the owner introduced capital of $4,000 and withdrew $8,000 for
their own use.
Their profit or loss during the period was
A $9,500 loss B $1,500 loss
C $7,500 profit D $17,500 profit
Q21 The profit made by a sole trader in 20X7 was $35,400. The owner injected
new capital of $10,200 during the year and withdrew a monthly salary of $500.
If net assets at the end of 20X7 were $95,100, what was the capital at the beginning of the
year?
A $50,000 B $55,500 C $63,900 D $134,700

Chapter 3 Capital and revenue

expenditure
Capital and revenue Expenditure
For simplicity consider expenditure as payment of cash. However it is not necessary that
business always pays cash for expenses like rent etc. Cash is also paid for purchase of
assets or payment of liabilities. So expenditures by business are divided into two broad
categories, revenue and capital. Revenue expenditures are treated as expense and capital
expenditures are added to cost of asset. In other words if expenditure is revenue
expenditure expense account is debited and if it is capital expenditure asset account is
debited
The IASB defines ‘capitalisation’ as recognising a cost as an asset or part of the cost of as
asset. So when an item of cost is ‘capitalised’ it is treated as an asset rather than an
expense.
Capital expenditure: Following expenditures on non-current assets are treated as capital

expenditures and included in cost of asset
 Any expenditure on asset before its usage

For example installation expense, Repair of vehicle before using it, first
time painting of building, painting logo of company on new vehicle,
carriage inward, additional wages paid to workers involved in
installation process, registration expenses of vehicle, non-refundable
duties and taxes, legal expenses related to acquisition of asset.
 Any expenditure on asset which increases its efficiency e-g antivirus,
safety equipment, overhauling of engine.
 Any expenditure on asset which increase its value. Building new story
Note: Capital expenditure are not treated in income statement rather they are depreciated
overtime,
Revenue expenditure: which relate to one year and generates revenue in year when
it is incurred. Revenue expenditure is treated in income statement. All expenditures
other than capital expenditure are revenue expenditures

Revenue receipts and capital receipts
Revenue receipt is income arising from the business operations of an entity or from
its investments (such as interest received on cash savings). This is reported in the
income statement or within profit and loss in the statement of comprehensive
income.
Capital receipts are receipts of ‘long term’ nature, such as money from a bank loan,
or new money invested by the business owners (which is called ‘capital’). Capital
receipts affect the financial position of an entity, but not its financial performance.
Capital receipts are therefore excluded from the income statement or statement of
comprehensive income.

Q 1 Which of the following is a revenue expense?
A acquisition of another business
B auditor's fees
C legal expenses on purchase of property
D purchase of premises
Q 2 Which payment should be treated as revenue expenditure in the accounts of a

hotel?
A installation cost of a new alarm
B legal fees for debt collection
C legal fees incurred in the purchase of the hotel
D purchase of a computer
Q 3 On 1 January 2001 a second-hand truck was bought for $15 000.It was
discovered on the date of purchase that the truck's engine did not work. The
table shows work subsequently carried out on the truck.
Date Work $
3 January 2001 engine replaced 8500
15 January 2001 shelving fitted 2100
10 October 2001 gear box replaced 1800
How much should be debited to the truck account?
A $15 000 B $17100
C $25600 D $27 400
Q 4 What is an example of capital expenditure?
A payment of an electricity bill B purchase of a brand name
C payment of employee's wages D purchase of inventories

Q 5 Which item is revenue expenditure?
A cost of painting new office premises during construction
B cost of repairs to factory plant and machinery
c legal fees for the purchase of new factory premises
D wages of a company's own workmen for building an office extension
Q 6 A business that purchases a shop incurs the following costs,
Purchase price of the shop 680 000
Legal fees Incurred In the purchase of the shop 7200
Cost of initial inventory 12 500
Cost of installing air conditioning 47 300
Which amount will be capitalised as the cost of the shop?
A $680 000 B $687 200 C $734 500 D $747 000
Q 7 Which item should be treated as capital expenditure?
A the addition of a back-up system on an existing computer at a cost of $900
B costs incurred In repairing a car when the costs cannot be recovered from the
insurance company
C rent paid on a factory, whilst the company negotiated the purchase of that same
factory
D the replacement of a wooden fence with a new fence
Q 8 A Spender owns a road haulage business. Which would be classified as capital

expenditure?
A purchase of number plates for new lorries
B purchase of replacement fuel pump for lorries
C purchase of replacement tyres for lorries
D purchase of road tax licence

Q 9 A business purchases a new van. The table shows the purchase invoice details:
Purchase price 13 000
Delivery charge 500
Sign writing 200
Road tax 200
Tank of fuel 50
How much should be debited to the motor van account?
A $13 500 B $13 700 C $13 900 D $13 950
Q 10 Which Item should be treated as capital expenditure?
A cost of carriage on the purchase of a non-current asset
B cost of replacement of part of a non-current asset
C depreciation of a non-current asset
D repairs to a non-current asset
Q 11 What would be treated as part of the capital cost of the purchase of a

building?
1 legal costs of the purchase
2 redecoration of the building
3 installation of air conditioning needed for the machinery in the building
A 1 only B 1 and 3 only C 2 and 3 only D 1, 2, & 3
Q 12 Which of the following statements about capital expenditure is correct?
A It is expenditure on non-current assets, including repairs and maintenance
B It is expenditure on expensive assets
C It is expenditure relating to the issue of share capital
D It is expenditure relating to the acquisition or improvement of non-current assets

Q 13 Which one of the following costs on the invoice for a new company car would
be classified as revenue expenditure?
A Road tax B Number plates
C Parking sensors D Delivery costs
Q 14 Ian is entering an invoice in the accounts. The invoice shows the following
costs:
Manufacturing equipment $39,900
Delivery $1,000
Maintenance charge $3,980
Sales tax $7,854
Invoice total $52,734
What is the total value of capital expenditure on the invoice?
A $39,900 B $40,900
C $44,880 D $52,734
Q 15 Esther is recording the invoice for the purchase of a new non-current asset. As
well as the basic cost of the asset, the invoice shows the following items:
Delivery, Installation Maintenance
Which of the costs should be treated as revenue expenditure?
A Delivery only B Installation only
C Maintenance only D All of the costs

Q 16 In the year to 31 October 20X6, Nadine recorded some revenue expenditure as
capital expenditure.
What is the effect on her profit for the year to 31 October 20X6 and her net assets at that
date?
Profit Net assets
A Overstated Overstated
B Overstated Understated
C Understated Overstated
D Understated Understated
Q 17 Which of the following transactions is revenue expenditure?
A Expenditure resulting in improvements to property
B Expenditure on heat and light
C Purchasing a non-current asset
D Installation costs of a non-current asset

Chapter 4 VAT (Value Added Tax )

Sales Tax requirements
 Registration number is unique for each business and it indicates that the business
is registered for sales tax purpose. This number must be printed on sales invoice.
 Tax point on an invoice is the date when transaction has taken place for tax
purposes. It enables business to record sales in correct tax period. It is usually
invoice date.
 Rate of sales tax must also be shown on invoice.
General journal Entries

1. Purchase of goods
Purchases Dr
Sales Tax Dr
Payables Cr
2. Purchases return
Payables Dr
Return outwards Cr
Sales Tax Cr
3. Sales of goods
Receivables Dr
Sales Cr
Sales Tax Cr
4. Sales Return
Sales Return Dr
Sales Tax Dr
Receivables Cr
5. Tax paid to Government(HMRC)
Sales Tax Dr
Cash Cr
6. Tax Refund from government
Cash Dr
Sales Tax Cr

Sales Tax Ledger
b/d (Receivable from Govt) XXX b/d(Payable to govt) XXX
Payables (on purchases) XXX Payables (On purchases Return) XXX
Receivables (On Sales Return) XXX Receivables (On Sales ) XXX
Cash(Tax Paid) XXX Cash(Tax Refund) XXX
c/d (Payable to govt) XXX c/d (Receivable from Govt) XXX
Gross value = Net value + Tax
Note: Tax on purchases is called Input tax and tax on sales is called output tax
Note: If input tax is less than output tax business has to pay the balance to
government
Note: If Input tax is greater than output tax balance is refundable
Impact of Registration and non-registration

Case 1: Registered person purchasing from registered person and selling to
registered person
 Sales tax will be recorded separately

Case2: Registered person purchasing from non-registered person and selling to
registered person
 No input tax
 Output tax will be calculated
 All output tax collected will be paid to govt
Case3: Registered person purchasing from registered person and selling to non-
registered person
 Input tax will be calculated and recorded

 Output tax will be calculated
Case 4: Non registered person purchasing from registered person
 Tax element will be included in cost of purchases

 Output tax can’t be charged

Q1 If registered person sells goods to non-registered person, then non registered person
can claim input tax. Is this statement true
Q2 If registered person sells goods to non-registered person, then registered person can
claim input tax. Is this statement true
Q3 if registered person sells goods to non-registered person, then registered person will
include vat in sales revenue. Is this statement true
Q4 VAT is debited as an expense in income statement. Is this statement true?
Q5 VAT is debited as an asset and treated as non-current asset. Is this statement true?
Q6 If output VAT is higher than input VAT business has to pay VAT to government. Is this
statement true?
Q7 If non registered person purchase goods from registered person he can also charge
output VAT on sales. Is this statement true?
Q8 If non registered person purchase goods from registered person VAT is treated as cost
of purchases. Is this statement true?
Q9 Mr Ali is non-registered person for vat purpose. He sold goods for $1000(exclusive of
vat during the month. If tax rate is 20% how much he has to pay to government.
Q10 Mr suffyan is a registered person for VAT. He purchased goods for $1200
exclusive of VAT. If tax rate is 20% calculate VAT.
inxclusive of VAT. If tax rate is 20% calculate VAT.
inclusive of VAT. If tax rate is 17.5% calculate VAT.
exclusive of VAT. If tax rate is 9% calculate VAT.
inclusive of VAT. If tax rate is 5% calculate VAT.
Q15 Mr Noman is a registered businessman for VAT. He made following
transactions during the month
1. Purchased goods $1450 inclusive of VAT
2. Sold goods $2000 exclusive of VAT
3. Return inwards $250 inclusive of VAT
4. Return outwards $180 exclusive of VAT
If tax rate is 17.5% calculate tax payable/refundable from government.

Q16 Mr Noman is a registered businessman for VAT. At start of month he has DR
balance of $150 in VAT account. He made following transactions during the month
Q17 Mr Noman is a registered businessman for VAT. At start of month he has Cr

Q18 Mr Noman is a registered businessman for VAT. At start of month he has DR

5. Cash paid to government $300
If tax rate is 17.5% calculate closing balance and indicate whether it is debit or credit.

4. Closing balance $350 Dr
If tax rate is 17.5% calculate VAT on return outwards.


4. Closing balance $350 Dr
If tax rate is 17.5% calculate tax exclusive value of return outwards
Q21 Mr Abuzar is a registered businessman. He sold goods valuing $1200 (tax

exclusive). If tax rate was 17.5% make journal entry for sales.
inclusive). If tax rate was 17.5% make journal entry for sales.
exclusive). If tax rate was 20% make journal entry for sales. He offered customer 5%
cash discount if payment is made within 15 days. Make journal entry in the books of
Mr abuzar if customer settles his account within 10 days.
exclusive). If tax rate was 20% make journal entry for sales. He offered customer 5%
cash discount if payment is made within 15 days. Make journal entry in the books of
Mr abuzar if customer does not settle his account within 15 days.
Q25 Mr X sold goods to Mr Y $1800 (tax inclusive). If mr y get bankrupt and only
75% is recovered make journal entry in the books of Mr X
Q26 Eric is registered for sales tax. During October, he sold goods with a tax
exclusive price of $800 to Kevin on credit. As Kevin is buying a large quantity of
goods, Eric reduced the price by 8%. He also offers a discount of another 3% if Kevin
pays within 10 days. Kevin does not pay within the 10 days. If sales tax is charged at
25%, what will be the gross value of the sales invoice prepared by Eric?
Q27 Erin is registered for sales tax. During May, she sold goods with a
list price of $600 , excluding sales tax, on credit to Kyle. As Kyle was buying a
large quantity of goods, Erin applied a trade discount of 5% of the norm al list price
. If sales tax is charged at 15%, what will be the gross value of the sales invoice
prepared by Erin?
Q28 At 1 December 20X5, Laure owes the sales tax authorities $23,778.
During the month of December, she recorded the following transactions:
•Sales of $800,000 exclusive of 17.5% sales tax.
•Purchases of $590,790 inclusive of sales tax.
What is the balance on Laurel's sales tax account at the end of December?

Q29 If sales (including sales tax) amounted to $27,612.50, and purchases
(excluding sales tax) amounted to $18,000., the balance on the sales tax account,
assuming all items are subject to tax at 17.5%, would be:
Q30 In the quarter ended 31 March 20X2, Chas had taxable sales , net of
sales tax, of $90,000 and taxable purchases, net of sales tax, of $72,000. If the rate
of sales tax is 10%, how much sales tax is due?
Q31 A summary of the transactions of Ramsgate, who is registered for sales tax at
17.5%, shows the following for the month of August 20X9. Outputs $60,000 (exclusive
of tax} Inputs $40,286 (inclusive of tax) At the beginning of the period Ramsgate
owed $3,400 to the authorities, and during the period he has paid $2,600 to them.
What is the amount due to the tax authorities at the end of the month?
Q32 The sales account is:
A credited with the total of sales made, including sales tax
B credited with the total of sales made, excluding sales tax
C credited with the total purchases made, including sales tax
D credited with the total expenses, excluding sales tax
Q33 A business sol d goods that had a net value of $600 to Lucid. What entries are
required to record this transaction if sales tax is payable at 17.5%?
A Dr Lucid $600, Dr Sales tax $105, Cr Sales $705
B Dr Lucid $705, Cr Sales tax $105, Cr Sales $600
C Dr Lucid $600, Cr Sales tax $105, Cr Sales $600
D Dr Sales $600, Dr Sales tax $105, Cr Lucid $705
Q34 Laker, a customer, returned goods that had a net value of $200.What entries
are required to record this transaction if sales tax is payable at 17.5%?
A Dr Returns inward $200, Dr Sales tax $35, Cr Laker $235
B Dr Returns inward $235, Cr Sales tax $35, Cr Laker $200
C Dr Purchases $200, Dr Sales tax $35, Cr Laker $235
D Dr Laker $235, Cr Returns inward $200, Cr Sales tax $35

Q35 Stung, which is registered for the purposes of sales tax, bought furniture on
credit terms at a cost of $8,000, plus tax of $1,200. What are the correct account
entries to record this transaction?
A Debit Furniture 9,200 Credit Supplier 9,200
B Deb it Furniture 8,000 Credit Sales tax 1,200 Credit Supplier 6,800
C Debit Furniture 8,000 Credit Supplier 9,200 Debit Sales tax 1,200
D Debit Furniture 8,000 Credit Supplier 8,000
Q36 Which of the following statements are true?

1 Sales tax is a form of indirect taxation.
2 If input tax exceeds output tax the difference is payable to the authorities.
3 Sales tax is included in the reported sales and purchases of the business.
4 Sales tax cannot be recovered on some purchases.
A 1 and 4 B 1 and 2
C 2 and 3 D 3 and 4
Q37 Which of the following statements is true regarding the relationship

between businesses registered for sales tax and the relevant tax authority?
A Businesses should pay over the input tax on purchases to the tax authority
B Tax authorities should refund to businesses the value of the output tax shown on their
sales tax return to the extent it exceeds their input tax
C Businesses submit periodic sales tax returns to the tax authorities showing output and
input tax, and make a payment to the tax authority when output tax exceeds input tax
for the period
D Businesses submit periodic sales tax returns to the tax authorities showing output and
input tax, and make a payment to the tax authority when input tax exceeds output tax
for the period

Q38 Which of the following are valid reasons for a business to register for
sales tax in a country which permits voluntary registration?
(i) Exempt sales exceed a limit for compulsory registration set by the tax authorities
(ii) Taxable sales exceed a limit for compulsory registration set by the tax authorities
(iii) The business falls under any specified limits but makes standard rated supplies and
is not charged input tax by its suppliers
(iv) The business falls under any specified limits but makes zero rated supplies and is
charged input tax by its suppliers
A (i) and (ii) B (i) and (iii)
C (iii) and (iv) D (ii) and (iv)
Q39 In the context of sales tax, which of the following statements is false?
A Errors on sales tax returns should be reported to the tax authorities as soon as they
are discovered, to minimise penalties and interest payments
B A business making only exempt supplies must register for sales tax
C Sales relating to zero rated and reduced rate supplies should be included when
completing a sales tax return
D Computerised accounting packages can help to extract the figures needed for
inclusion on sales tax returns more quickly

Chapter 5 Documents, Primary books and

ledgers
Documentation of credit Transactions
 Credit transactions normally take place between businesses
 To encourage customer to pay early a discount is offered which is called cash
discount or settlement discount. Cash discount is recorded in books
 There is another discount which is given on list price called trade discount. Trade
discount is not recorded in books. Purchases and sales are recorded net of trade
discount
 Sales tax is calculated on amount net of trade and cash discount.
 Extension of credit limit both in days and amount must be authorised
Credit sales
Purchase order
Business will receive written order called purchase order. It is also considered as
sales order by business.
Dispatch note and delivery note
Sales department will issue dispatch note to warehouse and store room will
deliver goods along with delivery note. Sometimes dispatch note is treated as
delivery note. Customer is asked to sign a copy of delivery note which is kept by
supplier as evidence.
Sales invoice: An invoice is a demand for payment.
 Purchase order is used to generate sales invoice. One copy of sales invoice is sent
to customer and one or more copies are kept by business.
 Sales invoice is used to record details of sales, amount due by customer, date of
payment and conditions for settlement discount.
 Sales invoice is also used as evidence in the event of dispute. Sales invoice should
not be sent to customer unless authorised by relevant person.
 When customer pays the invoice it is stamped as “PAID”
 Payment by customer is usually accompanied by remittance advice. It contains
the details of payment including invoice number
 When goods are to be paid in advance Pro forma invoice is issued
Information on sales Invoice
Sales invoice contain following information

1. Customer name and address
2. Name of supplier, address and phone number
3. Invoice number and date of invoice
4. Purchase order number
5. Reference number of account of customer
6. Quantity, description, and price of items and total value
7. Trade discount if any
8. Final total value
9. Settlement or credit terms
10. Sales tax registration number and rate of sales tax
11. Tax point
12. For credit transactions normally credit terms are predefined. These terms are
written on invoice in following technical way “2/10, n/30, 2%”. It means 2%
discount will be given if paid within 10 days, no discount will be given if paid
within 30 days and 2% interest will be charged if paid later than 30 days.
13. “net 30 days ” means no discount is offered and invoice must be paid maximum
in 30 days.
14. “E&OE” means errors and omissions excepted and seller reserves the right to
amend the invoice.
15. “ex works” means price quoted does not include price of delivery. The customer
has to pay delivery expenses
16. 'FOB' stands for 'free on board', and may be found on import or export invoices.
'FOB shipping point' means that the supplier pays all costs of carriage (shipping,
insurance and freight for example) up to the point of shipping but the customer
will have to pay any subsequent carriage costs.
Types of Invoice
Receipt: invoice marked by restaurant as 'paid with thanks'
A transaction is settled immediately in cash, with the invoice created as evidence
of expense/receipt of payment
Cash on delivery (COD) invoice

An invoice is sent from seller to buyer, and is paid on receipt of the goods using
cheque or cash

Credit invoice
An invoice is sent after goods have been delivered, with request to pay within a
certain time
Finding information for sales invoice

After authorisation sales invoice will be prepared by accounts department. The
information for preparing invoice could come from several different sources, such
as
 Purchase order
o It is used to find quantity, description, item code, and price of
goods.
o Dispatch note or delivery notes can also be used if purchase
order is not suitable
 Sales order
o Sometimes, in case of telephonic orders, details of order are
entered on sales order form. This form can later be used for
preparation of sales invoice.
 Quotation
o In case of one off transaction detail can be found on
quotation sent to customer
Note: In case of regular customers, price can be checked on price list finalised
with customer.
Note: If services are supplied instead of goods time sheet or job sheet can be
used to ascertain number of hours worked for particular customer.
Checking and approving a completed invoice

When invoice is prepared it should be checked against source document to find
any error. Normally accounts supervisor is responsible for checking invoice.
Coding of sales invoice

 Coding of sales invoice is required so that transaction can be recorded properly in
nominal ledger and record of money owed by individual customer must be kept.
 In manual accounting system code number of sales account, and sales tax
account in nominal ledger is required. Also code of customer in sales ledger is
also required. It is called sales ledger account code.
Credit and debit note

 Credit note is issued by supplier when customer returns goods. So credit note
issued means sales return. Credit not is similar to invoice however it contains
reference number of invoice against which it is issued.
 Credit note may also be issued when invoice is over charged. It happens when
number of items included in invoice is greater than those actually ordered or
price is charged higher. Customer may also issue goods returned note and
receives credit note in return. Credit note decreases the amount owed by
customer.
 Debit note is issued by supplier to customer to rectify the invoice which is
undercharged.it happens either due to number of units or cost per unit is
included at lessor value in invoice. It increases the balance owed by the customer.
Debit note has reference number of original invoice.
Details of credit note
 Detail of customer can be found from file of customer records or copy of original
invoice
 Detail of goods returned must be recorded on goods returned noteincluding
reasons for goods returned
 For purpose of price, price list or quotations can be used.
 If credit note is issued for correction of invoice then correspondence with
customer like letter email etc can be a useful resource.
 When credit note is issued amount of sales tax should also be reduced.
 Credit note must be authorised by appropriate person.
Coding of credit note
 Coding of credit note is required so that transaction can be recorded properly in
nominal ledger and record of reduction in money owed by individual customer
must be kept.
 In manual accounting system code number of sales account, and sales tax
account in nominal ledger is required. Also code of customer in sales ledger is
also required. It is called sales ledger account code.
Coding invoices and credit notes - Grid box stamp
 Companies use a stamp to put a grid or table on invoice and fill that box with
codes.
 Grid box is stamped on the invoice and all relevant codes are entered before
invoice or credit note is entered in day books
 Checklist of procedures and codes are entered in the box to make sure that
proper procedures are followed for entering data in accounting system
 When invoice or credit note is entered in day book, the final grid box is initialled
so that same document is not entered twice.
Statement of account
Statement of account is sent to customer on regular basis. It shows the detail of
 opening balance of the period,

 invoices during the period,
 credit note issued to customer during period,
 settlement discount taken by customer
 payments made by customer during the period and
 closing balance.
Sometimes remittance advice is prepared by supplier when customer does not
prepare it.
Credit purchases
Purchases must be authorised. If it is not so there are chances of fraud and
misuse of funds.
Purchase Requisition
Person wanting to purchase an item have to fill a form called purchase
requisition. It is signed by the person who authorise purchases. Purchase
requisition is issued to purchases department to purchase goods where order is
placed to supplier. It is an authorising document for expenditure.
Stores Requisition
If someone wants goods which are already in stores he may fill a form called
stores requisition. It is also called material requisition in case of manufacturing
organisation.
Purchase Order
Purchase order is sent to selected supplier after negotiation about price and
credit terms have been completed. For large expenditures organisation may ask
one or more supplier for price quotations. It is also called bidding and lowest-
priced bid is accepted
Purchase order has a unique number.it contains following information
1. Business name

2. Registered office and company registration number
3. Supplier name and address
4. Purchase order number
5. Business contact
6. Delivery date
Delivery note / advice note and goods received note
When supplier delivers the goods they are accompanied with delivery note. A
person from stores department checks the actual goods with the detail
mentioned on delivery note. Details of delivery note are copied on goods received
note. Goods received note is an internal document. Additional details may be
added on goods received note for example item codes. Goods received note is
also checked against purchase order to ensure that correct items and quantity is
delivered. Any difference in quantity, quality or type of item mentioned on
delivery note and actual delivery should be noted and mentioned on delivery note
Purchase Invoice
Purchase invoice contain details of item type, quantity, unit cost, total cost, credit
terms etc. it may also contain purchase order number. Purchase invoice goes to
accounts department. Before recording it is compared with purchase order for
price and with delivery note for quantity. Once it is checked and authorised it is
entered in system.
If business want to enter some additional information on purchase invoice it can

be done by stamping grid line box or stick on label on invoice. Additional
information may include
 Signature or initials of person who checked invoice

 Code identifying nature of expense
 Code identifying supplier
 Signature or initials of person who authorize or approve invoice.
Note: Sales invoices issued by business are all identical. However they are
sequentially numbered. Purchase invoices come from different vendors so they
are different in sizes and colours.
Credit and debit note
 Credit note is received by customer when customer returns goods. So credit note
received means purchase return. Credit not is similar to invoice however it
contains reference number of invoice against which it is issued.

 Credit note may also be received when invoice is over charged. It happens when
number of items included in invoice is greater than those actually ordered or
price is charged higher. Customer may also issue goods returned note and
receives credit note in return. Credit note decreases the amount owed by
customer.
 Debit note is issued by customer for request of credit note
Payment to supplier and remittance advice
 Purchase invoice is checked against purchase order for quantity, item type, and
cost. If it is ok then it is sent for authorization. A manager authorises it by signing
it.
 The details of authorised invoices are then recorded in system and payment is
made when agreed credit period reaches.
 Along with payment remittance advice is sent to supplier which contains the
invoice numbers (of invoices which are paid) and detail of discount deducted.
 Remittance advice is not mandatory. It is sent in courtesy and help supplier to
identify invoices which are paid.
 Sometimes statement of account is sent to supplier along with payment. In this
case statement of account act as remittance advice.
 Statement of account is regularly checked with ledgers prepared by business so it
is an external check on control system.

Primary books
Primary book Purpose Source Document

Sales day book Credit sales invoices, credit notes
sent
Sales returns day book Sales returns credit notes
Purchase day book Credit purchase invoices, credit notes
received
Purchase returns day book Purchase returns credit notes received
Cash book Cash paid and received, Cash receipt voucher
Cheques received and Cash payment voucher
issued, Discount allowed
and received
Petty cash book Petty Expenses Petty cash vouchers
General Journal year-end adjustments Journal voucher
– depreciation charge for
the year
– irrecoverable debt write-
off
– record the movement in
the allowance for
receivables
– accruals and
prepayments
– closing inventory
• acquisitions and
disposals of non-current
assets
• opening balances for
statement of financial
position items
• correction of errors.
Note: Sales returns and purchase returns could be shown as bracketed

figures in the sales day book and purchase day book respectively,
instead of in separate books of prime entry. It happens company does
not maintain separate record for purchase return and sales return

Note: Treatment in the cash book
Cash purchases The columns for cash purchases are analysed by type of
purchase because this is the first record of the purchases in the
accounts.
Payments to payables These are not analysed and come under a single
column. The analysis is made in the purchase day book when the credit
purchase is made, not when cash is paid.
Sales tax Input tax on purchases made on credit will have been
recorded in the purchases day book and so will not appear in the cash
book. Tax on cash purchases must be recorded in the cash book as it is
not recorded elsewhere in the accounts.
Cancelled cheques These should be entered in the cash book, even if

they were never used, to allow a complete sequence check, and to make
sure the cheque does not pass through the account. Unused cheques
should be spoiled but retained.
Extent of analysis This cash book is analysed in quite a lot of detail. This
is not always necessary, but it makes things easier when it comes to
posting to the ledger accounts as only the totals need to be posted.
Non-cheque payments The standing orders, direct debits and other

similar items have been entered at the end of the page, even though
some of the transactions are dated earlier in the month. This is
acceptable and it shows that this information is being extracted from
the bank statements only monthly. The validity of all standing orders
and direct debit payments should be checked against a control list.
This list would be a complete record of all current standing orders and
direct debits; it should be maintained by a responsible person.
Note: The journal keeps a record of unusual movement between

accounts. It is used to record any double entries made which do not
arise from the other books of prime entry. A narrative explanation must
accompany each journal entry. It is required for audit and control, to
indicate the purpose and authority of every transaction which is not first
recorded in a book of prime entry.
Note. Suppliers who have supplied non-current assets are included

amongst sundry payables, as distinct from payables who have supplied

raw materials or goods for resale, who are trade accounts payable. It is
quite common to have separate 'total payables' accounts, one for trade
payables and another for sundry other payables.
Note: The journal can be used to record corrections to errors that have
been made in writing up the general ledger accounts.
Note: A journal voucher is used to record the equivalent of one entry in the journal.
The use of journal vouchers is fairly widespread.
(a) The repetitive nature of certain journal entries means

vouchers can be pre-printed to standardise the narrative of
such entries, and to save time in writing them out.
(b) A voucher is able to hold more information than a conventional journal

record.
Sales Day Book

Date Detail Invoice Number Net Value Sales Tax Total
21/06/2018 Mr Ali 1001 $150 $30 $180
23/06/2018 Mr Suffyan 1005 $180 $36 $216
26/06/2018 Mr Aqib 1008 $130 $26 $156
05/07/2018 Mr Usman 1010 $210 $42 $252
15/07/2018 Mr Ahmad 1020 $180 $36 $216
Total $1020
Purchase Day Book
Date Detail Invoice Number Net Value Sales Tax Total
21/06/2018 Mr Hanan AA1 $100 $20 $120
23/06/2018 Mr Kazim SS2 $50 $10 $60
26/06/2018 Mr Qasim 120 $120 $24 $144
05/07/2018 Mr Mudassar QQ9 $110 $22 $132
15/07/2018 Mr Tauqeer 1A23 $150 $30 $180
Total $636

Sales Return Day Book
Date Detail Credit Note number Net Value Sales Tax Total
21/06/2018 Mr Ali 20 $15 $3 $18
23/06/2018 Mr Suffyan 30 $30 $6 $36
26/06/2018 Mr Aqib 40 $20 $4 $24
Total $78
Purchase Return Day Book

Date Detail Credit Note Number Net Value Sales Tax Total
21/06/2018 Mr Hanan AA123 $10 $20 $30
23/06/2018 Mr Kazim SS245 $50 $10 $60
26/06/2018 Mr Qasim 120CC $20 $24 $44
Total $134
Cash Book
Discount Discount
Date Detail Cash Bank allowed Date Datail Cash Bank Received
Capital $2000 $3000 Mr Hanan $30 $5
Mr Ali $160 $20 Mr Kazim $25
Mr Aqib $90 $10 Furniture $500
Mr Usman $210 Drawings $200
Loan $500 City motors $300
Bank $200 Rent $250
Wages $300
Cash $200
General Journal
Vehicle Dr $550
City Motors Cr $ 550
Drawings Dr $550
Purchases Cr $ 550

Ledgers
 Receivables ledger/ Sales ledgers/ Individual customer
account
 Payables ledger/Purchase ledgers/ Individual supplier
account
 General ledger/ Nominal Ledgers
Note: Sales and purchase ledgers are also called personal accounts. Personal accounts
include details of transactions which have already been summarised in ledger accounts (eg
sales invoices are recorded in sales and total receivables, payments to suppliers in the cash
and total payables accounts). The personal accounts do not therefore form part of the
double entry system, as otherwise transactions would be recorded twice over (ie two debits
and two credits for each transaction). They are memorandum accounts only.
Note: A control account is an account in the general ledger in which a record is kept of the
total value of a number of similar but individual items. Control accounts are used chiefly for
receivables and payables. They should agree with the total of the individual balances and act
as a check to ensure that all transactions have been recorded correctly in the individual
ledger accounts. Although control accounts are used mainly in accounting for receivables
and payables, they can also be kept for other items, such as inventories of goods, wages and
salaries and sales tax. The same principles apply to all the other control accounts in the
general ledger.
Aged receivable analysis
 An aged receivable analysis is a report listing all receivable of a business, how
much they owe, and for how long money is owed.
 Management want this report to analyse the efficiency of counts or credit control
department and identifying late payers.
 Business has definite procedures to check and overdue payments and taking
measures to persuade customers to pay.
Aged receivable analysis as at 31st Dec 2016
Credit Customer Total Owing Outstanding for

Less than 30 30-60 days 60-90 days More than 90
days days
$ $ $ $ $
T Grainger 551.86 279.30 272.56
C N Lawson 713.59 - - 279.03 434.56
Burden & Co 518.47 219.50 248.30 50.67 -
Total 1783.92 498.80 520.86 329.70 434.56

The Trial Balance
A trial balance is a list of ledger balances shown in debit and credit columns.
A suspense account is an account showing a balance equal to the difference in a

trial balance.
A suspense account is a temporary account which can be

opened for a number of reasons. The most common reasons are
as follows.
(a) A trial balance is drawn up which does not balance (ie total debits do not
equal total credits).
The bookkeeper of a business knows where to post the credit side of a transaction, but
does not know where to post the debit (or vice versa). For example, a cash payment
might be made and must obviously be credited to cash. But the bookkeeper may not
know what the payment is for, and so will not know which account to debit

Q 1 Which of the following are source documents?
(i) Sales day book

(ii) Credit note from supplier
(iii) Trial balance
(iv) Invoice
A (i) and (iii) B (i) and (ii)
C (ii) and (iii) D (ii) and (iv)
Q 2 Which of the following would be recorded in the purchase day book?
A Cheques paid to a supplier B Purchase invoices

C Trade discounts received D Credit notes received
Q 3 Which of the following statements is true?
A A debit records an increase in liabilities.

B A debit records a decrease in assets.
C A credit records an increase in liabilities.
D A credit records an decrease in capital.
Q 4 Which one of the following statements best describes the purpose of a goods
despatched note?
A It is issued by a customer returning faulty goods to their supplier.

B It is issued by a customer to their supplier and specifies the quantity and type of
goods they require to be despatched.
C It is issued by a supplier to their customer and specifies the quantity and type of
goods delivered to that customer.
D It is issued by a supplier to their customer and specifies what goods will be provided
to them at a specified future date.

Q 5 An invoice is best defined by which one of the following st atements?
A An invoice is raised by a business and confirms only the amount due to be paid for
goods and services provided.
B An invoice is raised by business and issued to a supplier as recognition of goods and
services received from that supplier.
C An invoice is raised by a business and issued to a customer to confirm amounts not
yet paid.
D An invoice is raised by a business and issued to a customer to request payment for
goods and services provided.
Q 6 Which of the following best describes the purpose of a purchase invoice?
A Issued by a supplier as a request for payment

B Sent to supplier as a request for a supply
C Issued by supplier listing details of recent transactions
D Sent to the supplier as notification of payment
Q 7 What is the primary function of a credit sales invoice which a customer has
received from a supplier?
A It is a receipt for money paid
B It is a demand for immediate payment by the supplier
C It is a record of goods purchased by the customer
D It is a demand for payment within an agreed time from the supplier
Q 8 Which of the following correctly describes the function of a credit note issued
by a supplier to one of its customers?
A A demand for payment
B An agreed allowance which can be deducted from the next invoice payment
C A loan available to the customer
D A document used by the supplier to cancel part or all of a previously issued
invoice

Q 9 Which of the following correctly describes the term 'debit note'?
A It is issued by a supplier to a customer to demand payment in full for goods
supplied
B It is issued by a customer to a supplier to request a credit note
C It is issued by a customer when goods are delivered
D It is issued by a customer to a supplier to cancel an invoice received
Q 10 Which of the following is not a valid reason for using a cheque
requisition form to initiate a payment?
A Some suppliers do not issue invoices
B The accounts department has lost the invoices
C The invoice has not been received but the supplier must be
paid immediately
D It is necessary to send a cheque with the order for suppliers
Q 11 What is a 'pro forma' invoice?
A This is a document provided by a supplier to acknowledge an order
B A document which is provided by a supplier where payment with order
is required
C A document which is issued when the purchaser and supplier have not
finally settled a price
D One used for export sales
Q 12 What is a 'remittance advice'
A A document which is sent to a supplier containing detailed delivery
instructions
B A document used to confirm a telephone order
C A document sent with a payment explaining what a payment
represents
D A document prepared by a supplier on a regular basis listing the
outstanding amounts and payments received in the most recent trading
period
Q 13 If goods are to be paid for in advance, the seller may issue which
document?
A A debit note
B A statement
C A pro-forma invoice
D A goods received note

Q 14 Which document will the warehouse issue when deliveries are received?
A A receipt
B A purchase order
C A goods received note
D A remittance advice
Q 15 Manish buys goods on credit from Lisa but finds that some of them are
faulty. What document would Manish return to Lisa with the faulty goods?
A Statement
B Debit note
C Sales invoice
D Purchase invoice
Q 16 What business document provides proof of payment for a business
transaction?
A Invoice
B Receipt
C Claim
D Debit note
Q 17 If goods are bought on credit, the seller issues which document?
A A debit note
B A statement
C An invoice
D A goods received note
Q 18 Which document will a business issue to a cash customer?
A A receipt
B A purchase order
C A goods received note
D A remittance advice
Q 19 Anna sends a cheque to a supplier and encloses with it a document
detailing the invoice being paid. What is this document called?
A Supplier’s statement
B Debit note
C Remittance advice
D Remittance list

Q 20 What Is the purpose of a credit note?
A It acknowledses a purchase on credit.

B It is a reference from an agency detailing the creditworthiness of a new customer.
C It is issued when a deposit is paid on goods.
D It is issued to cancel all or part of a sales invoice.
Q 21 Which of the following ls not an internal document for purchases?
A Supplier list
B Delivery note
C Goods received note
D Purchase order
Q 22 What is a remittance advice for?
A To indicate items now paid

B To identify goods received
C To advise remittances received
D For notification of goods dispatched
Q 23 What ls the purpose of a purchase invoice?
(i) To claim back the sales tax

(ii) To identify the goods bought
(iii) To record how much is owed to the supplier
(iv) To record how much is owed from the customer
A (i), (ii) and (iii) only
B All
C (ii) and (iii) only
D (i) and (ii) only
Q 24 In the purchasing procedure, which document will usually follow the

goods received note?
A Delivery note
B Invoice
C Statement
D Advice note

Q 25 Keith received a document from Cullen's Stationery Supplies for 8 reams
of paper which they supplied three days ago. How would Keith refer to this
document?
A It is a goods received note

B It is a receipt
C It i.s a purchase invoice
D It is a credit note.
Q 26 Which of the following is a source document for financial transactions?
A Statement B Paying in slip

C Delivery note D Goods received note
Q 27 Which of the following is authorised so that a business can settle an

outstanding invoice
A A credit note B A debit note

C A remittance advice D An internal cheque requisition
Q 28 What will a sales Invoice from a supplier be treated as by their

customer?
A Credit note B Debit note

C Purchase invoice D Receipt
Q 29 Why must a business retain documents?
A Because it has always been done

B for historical purposes
C It is a requirement of tax law
D To facilitate planning
Q 30 Which is of the following Is the logical order In which the given

documents would appear In a business system?
A Purchase requisition, delivery note, purchase order, goods received note

B Purchase order, delivery note, purchase requisition, goods received note
C Purchase requisition, purchase order, delivery note, goods received note
D Purchase requisition, purchase order, goods received note, delivery note

Q 31 Which of the following is NOT a purpose of a purchase invoice?
A To record the amount of the sales tax on the purchase

B To post the sales tax to the purchases returns day book
C To state the date that payment is due
D To record the amount and type of goods that were purchased
Q 32 Which of the following details would be Inappropriate on a purchase

order sent by one company to another, both of which are registered for sales
tax purposes?
A Registered office and company registration number

B Sales tax registration number
C Quantity and price of goods ordered
D Sales tax on goods ordered
Q 33 If an Invoice states that the settlement terms are 'net 30 days', what
does it Indicate?
A That the invoice amount, net of sales ta><, is payable 30 days from receipt of the
goods
B That the invoice amount, net of sales tax, is payable 30 days from the invoice date
C That the invoice amount$ gross of sales tax, is payable 30 days from receipt of the
goods
D That the invoice amount, gross of sales tax, is payable 30 days from the invoice date
Q39 A document sent to customers at the end of a month to show the

transactions that have occurred and the amount owed is known as what?
A Sales analysis
B Age analysis of receivables
C Statement of account
D Receivables control account

Q 40 A business has a bank balance of $4 800. It pays for material invoiced at $3
000 less trade discount of 30% and settlement discount of 10%. A cheque for $450
is received from a trade receivable. What is the bank balance after these
transactions?
A $2 250 B $3 360 C $3 450 D $3 500
Q 41 The following debit balance appears on a trial balance at 31 December 1999,

after the preparation of the company's annual accounts.
Stationery $8 000
What is the stationery item?
A an amount due to the company's stationery supplier
B the annual stationery charge for 1999
C an accrual for stationery at 31 December 1999
D stationery inventory in hand at 31 December 1999
Q 42 Which statement is correct?
A carriage inward is a credit

B purchases return is a debit
C carriage outward is a debit
D sales return is a credit
Q 43 A customer paid a deposit in advance for goods to be supplied at a later date.
How should this be recorded in the seller's books?

Debit Credit
A cash customer
B cash sales
C customer prepayment
D customer sales

Q 44 In the books of Y how could a credit entry of $500 in X's account have arisen?
A X bought goods from Y B X returned goods to Y

C Y made a payment to X D Y returned goods to X
Q 45 The following debit balance appears on a trial balance after preparing the
manufacturing account for the year.
Loose tools $18 000

What Is this item?
A a liability for loose tools B a prepayment for loose tools
C the annual charge for loose tools D inventory of loose tools
Q 46 A business has a bank overdraft of $4 800. It pays for materials invoiced at $3

000 less a trade discount of 20% and a settlement discount of 5%. A cheque for
$500 is received from a trade receivable. What is the bank balance after these
transactions?
A $2 020 overdraft B $6 580 overdraft

C $7 150 overdraft D$7 580 overdraft
Q 47 Which transaction would increase the current assets of a business?
A paying invoices $950, after receiving $50 cash discount

B purchasing a machine on credit for $1200
C purchasing inventory for $1100 cash and selling it on credit for $1 500
D selling inventory with an original cost of $800 at below cost price

Q 48 Who issues a goods delivery note and what is its purpose?
A It is issued by the customer. Its purpose is to check against the purchase order and actual
goods received
B It is issued by the supplier. Its purpose is to check against the sales order and actual goods
to be delivered
C It is issued by the customer. Its purpose is to check against the sales order and actual goods
to be delivered
D It is issued by the supplier. Its purpose is to check against the purchase order and actual
goods received
Q 49 Don sold goods on credit to VJ but VJ returned them because they were faulty.
Which of the following statements would be true?
A Don would send a credit note to VJ B Don would send a statement to VJ
C VJ would send a credit note to Don D VJ would send an invoice to Don
Q 50 Applying the accounting equation, which of the following might

also occur when the amount of a liability of a business entity is
increased?
1 An expense is incurred.
2 Another liability is reduced in amount
3 An asset is reduced
A 1 and 2 only B 2 only
Q 51 Which ONE of the following is not a book of prime entry?
A Journal B Purchases returns day book
C Receivables ledger D Petty cash book

Q 52 Chris started a washing and ironing business by transferring her washing
machine, worth $200, into the business. How should this transaction be recorded?
A Dr Capital $200, Cr Machine $200 B Dr Machine $200, Cr Drawings $200
C Dr Machine $200, Cr Capital $200 D Dr Machine $200, Cr Bank $200
Q 53 For which of the following journal entries is the narrative description correct?
Transaction Debit Credit
$ $
1 Receivables 21,700
Sales 21,700
Sales for cash
2 Sales returns 1,400
Purchases 1,400
Return of goods to suppliers
3 Bank 3,700
Drawings 3,700
Drawings from the business by the owner
4 Bank 800
Electricity charges 800
Refund of overpayment of electricity charges from the electricity company
A Transaction 1 B Transaction 2
C Transaction 3 D Transaction 4

Q 54 For which of the following journal entries is the narrative description correct?
Transaction Debit Credit
$ $
1 Receivables 950
Discounts allowed 950
Discounts allowed to customers for early payment
2 Motor vehicles 80,000
Bank 20,000
Payables 60,000
Purchase of a new car, part with cash and part on credit
3 Bank 10,000
Interest charges 500
Loan 10,500
Repayment to bank of loan with interest
4 Capital 15,000
Bank 15,000
New capital introduced to the business by the owner
A Transaction 1 B Transaction 2
C Transaction 3 D Transaction 4

Q 55 The following balances have been extracted from the main ledger accounts of
Hudd, but the figure for bank loan is missing. There are no other accounts in the
main ledger.
Receivables 33,000
Plant and equipment 120,000
Capital 66,000
Purchases 140,000
Sales 280,000
Other expenses 110,000
Purchase returns 2,000
Payables 27,000
Bank (cash in bank) 18,000
Bank loan ?
What is the balance on the bank loan account?
A $32,000 credit B $36,000 credit
C $46,000 credit D $50,000 credit
Q 56 In which of the following books of original entry would the purchase of a non‐
current asset on credit be initially recorded?
A Purchase day book B Cash payments book
C The journal D Non-current asset register

Q 57 Which of the following statements about books of prime entry is true?
A A business can only have a maximum of five books of prime entry
B Source documents are recorded in the books of prime entry
C Credit notes received are recorded in the sales returns day book
D The journal is not a book of prime entry
Q 58 Goods costing $500 have been purchased on credit and delivered to a

business. On inspection 25% of these goods are found to be faulty and these are
returned to the supplier.
Which of the following journal entries correctly records this return?
A Dr Purchases $500, Cr Payables $500 B Dr Payables $125, Cr Purchases $125
C Dr Cash $125, Cr Purchases $125 D Dr Payables $500, Cr Purchases $500
Q 59 Helen buys goods for her business with a list price of $450 for cash. She
receives a 10% trade discount. Which of the following journal entries correctly
records this transaction?
A Dr Purchases $450, Cr Cash $450

B Dr Purchases $405, Cr Payables $405
C Dr Purchases $450, Cr Cash $405, Cr Discounts received $45
D Dr Purchases $405, Cr Cash $405
Q 60 Goods costing $300 have been sold on credit to a customer. The customer has
returned 10% of these goods for a refund and a credit note has been issued for
these goods. Which of the following journal entries correctly records this return?
A Dr Sales $30, Cr Receivables $30 B Dr Sales $30, Cr Cash $30

C Dr Receivables $30, Cr Sales $30 D Dr Sales $300, Cr Receivables $300

Q 61 Which of the following would be recorded in the purchase day book?
A Cheques paid to a supplier B Purchase invoices

C Trade discounts received D Credit notes received
Q 62 What does a credit balance of $917 brought down on Y's account in the books
of X mean?
A X owes Y $917 B Y owes X $917 C X has paid Y $917 D X is owed $917 by Y
Q 63 What does a credit balance on a ledger account indicate?
A An asset or an expense B A liability or an expense

C An amount owing to the organization D A liability or a revenue
Q 64 Which of the following results in a credit entry of $450 on X's account in the
books of Y?
A X buying goods on credit from Y B Y paying X $450

C Y returning goods to X D X returning goods to Y
Q 65 Joe has prepared the following journal entry:
Debit Cash $850

Credit T Sugden $850
Which of the following is the correct narrative for the journal entry?
A Cash sale to T Sugden B Cash purchase from T Sugden
C Cash payment to T Sugden D Cash receipt from T Sugden

Q 66 Jenny has recorded the following journal entry:
Debit Purchases $1,500

Credit Stationery $1,500
What is the correct narrative for Jenny's journal entry?
A Being cash purchase of stationery
B Being credit purchase of stationery
C Being correction of error – purchases originally recorded as stationery
D Being correction of error – stationery originally recorded as purchases
Q67 What is the purpose of the sales day book?
A It records all cash and credit sale transactions in a sequential order so that they may be
summarised and the totals posted to the nominal ledger at appropriate intervals.
B It records all credit sales transactions in a sequential order so that they may be
C It records of all cash sale transactions in a sequential order so that they may be
summarised and the totals posted into the nominal ledger.
D It records all credit sates transactions and all returns outwards transactions in a sequential
order so that they may be summarised and the totals posted to the nominal ledger at
appropriate intervals.

Q68 What is the purpose of the journal?
A It records transactions that have not been captured or recorded in any other book of prime
entry.
B It captures all credit transactions in a sequential order so that they may be
C It captures all cash transactions in a sequential order so that they may be
summarised and the totals posted into the nominal ledger.
D It captures all credit transactions and all returns outwards inwards and outwards
transactions in a sequential order so that they may be summarised and the totals posted to
the nominal ledger at appropriate intervals.
Q69 Which of the following Is not a valid statement In relation to the reasons to
dose off the ledger accounts and produce a trial balance?
A It is part of the double-entry accounting system.

B It is a control to ensure that all transactions have been posted correctly to the correct
ledger accounts.
C It is a control to ensure that that the ledger accounts do not contain any errors.
D It is a control to ensure that an equal value of debits and credits has been posted into the
ledger accounts, but that there may still be errors within the ledger accounts.
Q70 What Is the purpose of producing a trial balance?
A It confirms that there are no errors in the accounting records.

B It is a preliminary step prior to preparing financial statements to ensure that there are no
obvious errors or omissions within the ledger accounts, although they may still contain
errors.
C It confirms whether or not the business has made a profit or loss for the year.
D It confirms the proprietor's capital account balance at the end of theyear.

Q71 A trial balance is made up of a list of debit balances and credit balances.
Which of the following statements Is correct?

A Every debit balance represents an expense
B Assets are represented by debit balances
C liabilities are represented by debit balances
D Income is included in the list of debit balances
Q72 Which of the following best describes the entries that are made using the
sales day book totals at the end of each month?
A Debit sales with total net sales, credit receivables ledger control with total gross sales and
credit sales tax with total sales tax.
B Debit sales with total gross sales, credit receivables ledger control with total net sales and
C Debit receivables ledger control with total net sales, debit sales tax with total sales tax and
credit sales with total gross sales.
D Debit receivables ledger control with total gross sales, credit sales with total net sales and

Q73 Which of the following best describes the entries In respect of the totals from
the receipts side of the cash book?
A Debit bank with total receipts, credit cash sales, receivables ledger control and other with
totals received, debit discounts allowed with total cash discount and credit receivables ledger
control with total cash discount.
B Debit bank with total receipts, credit cash sales, receivables ledger control and other with
totals received, credit discounts allowed with total cash discount and debit receivables ledger
C Credit bank with total receipts, debit cash sales, receivables ledger control and other with
totals received, credit discounts allowed with total cash discount and debit receivables ledger
D Credit bank with total receipts, debit cash sales, receivables ledger control and other with
totals received, debit discounts allowed with total cash discount and credit receivables ledger

Chapter 6 Governance
 Corporate governance is the system by which companies and other entities are
directed and controlled.
 Good corporate governance is important because the owners of a company and the
people who manage the company are not always the same, which can lead to
conflicts of interest.
 Those charged with governance of a company are responsible for the preparation of
the financial statements.
Governance should not be confused with management.
„ Management is concerned with running the business operations of a company.
„ Governance is about giving a lead to the company and monitoring and controlling
management decisions, so as to ensure that the company achieves its intended purpose and
aims.
Corporate governance is concerned with matters such as:

 „ In whose interests is a company governed?
 Who has the power to make decisions for a company?
 For what aims or purposes are those powers used?
 In what manner are those powers used?
 Who else might influence the governance of a company?
 Are the governors of a company held accountable for the way in which they use their
powers?
 How are risks managed?
When exercising this duty directors should consider:
 The consequences of decisions in the long term

 The interests of their employees
 The need to develop good relationships with customers and suppliers
 The impact of the company on the local community and the environment
 The desirability of maintaining high standards of business conduct and a good
reputation

 The need to act fairly as between all members of the company
Responsibility for the financial statements

 The preparation of the financial statements of the company in accordance with
the applicable financial reporting framework (eg IFRSs) and legal requirement
 The internal controls necessary to enable the preparation of financial statements
that are free from material misstatement, whether due to error or fraud
 The prevention and detection of fraud
 Directors should explain their responsibility for preparing accounts in the
financial statements.
 They should also report that the business is a going concern, with supporting
assumptions and qualifications as necessary.
Audit
 Companies over a certain size limit are subjected to an annual audit of their
financial statements.
 An audit is an independent examination of the accounts to ensure that they
comply with legal requirements and accounting standards.
 Note that the auditors are not responsible for preparing the financial statements.
The findings of an audit are reported to the shareholders of the company.
 An audit gives the shareholders assurance that the accounts, which are the
responsibility of the directors, fairly present the financial performance and
position of the company. An audit therefore goes some way in helping the
shareholders assess how well management have carried out their responsibility
for stewardship of the company's assets.

Chapter 7 The regulatory framework

Financial statements are prepared on the basis of a number of fundamental accounting
assumptions and conventions. Many figures in financial statements are derived from the
application of judgment in putting these assumptions into practice.
(a) Valuation of buildings in times of rising property prices
(b) Research and development: is it right to treat this only as an expense? In a sense it is an
investment to generate future revenue
(c) Accounting for inflation
In an attempt to deal with some of the subjectivity, and to achieve comparability between
different organisations, accounting standards were developed. These are developed at both
a national level (in most countries) and an international level. The F3/FFA syllabus is
concerned with International Financial Reporting Standards (IFRSs).
IFRSs are produced by the International Accounting Standards Board (IASB).
Why a regulatory framework is necessary

A regulatory framework for the preparation of financial statements is necessary for a
number of reasons:
 To ensure that the needs of the users of financial statements are met with at least a
basic minimum of information.
 To ensure that all the information provided in the relevant economic arena is both
comparable and consistent. Given the growth in multinational companies and global
investment this arena is an increasing international one.
 To increase users’ confidence in the financial reporting process.
 To regulate the behaviour of companies and directors towards their investors.
The International Accounting Standards Board (IASB)

The International Accounting Standards Board (IASB) is an independent, privately funded
body that develops and approves IFRSs.
Prior to 2003, standards were issued as International Accounting Standards (IASs). In 2003
IFRS 1 was issued and all new standards are now designated as IFRSs.

The members of the IASB come from several countries and have a variety of backgrounds,
with a mix of auditors, preparers of financial statements, users of financial statements and
academics.
The IASB operates under the oversight of the IFRS Foundation.
The IFRS Foundation

The IFRS Foundation (formally called the International Accounting Standards Committee
Foundation or IASCF) is a not for profit, private sector body that oversees the IASB.
The objectives of the IFRS Foundation are to:
 Develop a single set of high quality, understandable, enforceable and globally

accepted IFRSs through its standard-setting body, the IASB
 Promote the use and rigorous application of those standards
 Take account of the financial reporting needs of emerging economies and small and
mediumsized entities (SMEs)
 Bring about convergence of national accounting standards and IFRSs to high quality
solutions
The IFRS Foundation is made up of several trustees, who essentially monitor and fund the
IASB, the IFRS Advisory Council and the IFRS Interpretations Committee. The Trustees are
appointed from a variety of geographical and functional backgrounds.
IFRS Advisory Council

The IFRS Advisory Council (formerly called the Standards Advisory Council or SAC) is
essentially a forum used by the IASB to consult with the outside world. It consults with
national standard setters, academics, user groups and a host of other interested parties to
advise the IASB on a range of issues, from the IASB's work program for developing new IFRSs
to giving practical advice on the implementation of particular standards.
The IFRS Advisory Council meets the IASB at least three times a year and puts forward the
views of its members on current standard-setting projects.
IFRS Interpretations Committee

The IFRS Interpretations Committee (formerly called the International Financial Reporting
Interpretations Committee or IFRIC) was set up in March 2002 and provides guidance on

specific practical issues in the interpretation of IFRSs. Note that despite the name change,
interpretations issued by the IFRS
Interpretations Committee are still known as IFRIC Interpretations. In your exam, you may
see the IFRS
Interpretations Committee referred to as the IFRS IC.
The IFRS Interpretations Committee has two main responsibilities.
 To review, on a timely basis, newly identified financial reporting issues not specifically
addressed in IFRSs
 To clarify issues where unsatisfactory or conflicting interpretations have developed,
or seem likely to develop in the absence of authoritative guidance, with a view to
reaching a consensus on the appropriate treatment
Development of an IFRS Standard

The procedure for the development of an IFRS Standard is as follows:
 The Board identifies a subject and appoints an advisory committee to advise on the
issues.
 The Board publishes an exposure draft for public comment, being a draft version of
the intended standard.
 Following the consideration of comments received on the draft, the Board publishes
the final text of the standard.
 At any stage the Board may issue a discussion paper to encourage comment.
 The publication of an IFRS Standard, exposure draft or IFRIC interpretation requires
the votes of at least eight of the 15 Board members.
The IASB's Conceptual Framework

 The IASB's Conceptual Framework is the basis on which IFRSs are formulated.
 The main underlying assumption for financial statements is going concern.
 The Conceptual Framework for Financial Reporting ('Conceptual Framework') is a set
of principles which underpin the foundations of financial accounting.
 It is a conceptual framework on which all IFRSs are based and hence determines how
financial statements are prepared and the information they contain.
 The Conceptual Framework is not an accounting standard in itself.

Going concern
Under IAS 1 the going concern concept implies that the business will continue to operate for
the foreseeable future. The relevant time period is at least 12 months from the balance
sheet date.
The main significance of the going concern concept is that the assets should not be valued at
their 'break-up' value (the amount they would sell for if they were sold off piecemeal and the
business were broken up) or forced sale value.
If the going concern assumption is not followed, that fact must be disclosed, together with
the following information.
(a) The basis on which the financial statements have been prepared
(b) The reasons why the entity is not considered to be a going concern
Accruals basis and matching concept

 Entities should prepare their financial statements on the basis that transactions are
recorded in them, not as the cash is paid or received, but as the revenues or expenses
are earned or incurred in the accounting period to which they relate.
According to the accruals assumption, in computing profit revenue earned must be matched
against the expenditure incurred in earning it. This is also known as the matching
convention.
𝑅𝑒𝑣𝑒𝑛𝑢𝑒 − 𝑒𝑥𝑝𝑒𝑛𝑠𝑒𝑠 = 𝑝𝑟𝑜𝑓𝑖𝑡
Note: Going concern and accrual are interrelated that’s why closing inventory prepaid
expenses etc are carried forward to next year
Prudence concept
The inclusion of a degree of caution in the exercise of the judgments needed in making the
estimates required under conditions of uncertainty, such that assets or income are not
overstated and liabilities or expenses are not understated’
Prudence concept is now replaced by neutrality.

The qualitative characteristics of financial information
The Conceptual Framework states that qualitative characteristics are the attributes that
make the information provided in financial statements useful to users.
 The two fundamental qualitative characteristics are relevance and faithful

representation.
 Enhancing qualitative characteristics are comparability, verifiability, timeliness and
understandability.
Fundamental qualitative characteristics
Relevance
 Relevant information is capable of making a difference in the decisions made by
users.
 Financial information is relevant if it has predictive value, confirmatory value or both.
o Predictive value helps users in predicting or anticipating future outcomes for
example future profits of entity.
o Confirmatory values enable users to check and confirm earlier predictions or
evaluations.
The relevance of information is affected by its nature and materiality. Information is material
if omitting it or misstating it could influence decisions that users make on the basis of
financial information about a specific reporting entity.
Note: Materiality is an entity specific concept. It means what is material to one entity may
not be material to another entity. For example a bad debt of $1000 is material item for an
entity whose net assets are $10000 is material while it is immaterial for an entity with net
assets of $1 million. So determination of materiality threshold is subjective exercise.
Note: Material items should be disclosed separately and should not be grouped.
Faithful representation
It means financial statement should show what actually is present and what actually
happened. For example real value of assets, sales that actually happened etc.
To be faithful representation information must be complete, neutral and free from error.
A complete depiction includes all information necessary for a user to understand the
phenomenon being depicted, including all necessary descriptions and explanations.

A neutral depiction is without bias in the selection or presentation of financial information.
This means that information must not be manipulated in any way in order to influence the
decisions of users.
Free from error means there are no errors or omissions in the description of the
phenomenon and no errors made in the process by which the financial information was
produced. It does not mean that no inaccuracies can arise, particularly where estimates have
to be made.
Note
Faithful representation of a transaction is only possible if it is accounted for according to its

substance and economic reality (Substance over form)
In simple words we consider economic reality of a transaction and prefer it over its legal
position. For example an asset is owned by entity A but it is used by entity B and all benefits
related to asset are in control of entity B, entity A cant present it as an asset in its statement
of financial position.
Enhancing qualitative characteristics
Comparability
 Comparability is the qualitative characteristic that enables users to identify and
understand similarities in, and differences among, items. Information about a
reporting entity is more useful if it can be compared with similar information about
other entities and with similar information about the same entity for another period
or date.
 To make the financial statements comparable accounting policies should be
consistent. It refers to the use of the same methods for the same items (ie consistency
of treatment) either from period to period within a reporting entity or in a single
period across entities.
 The disclosure of accounting policies is particularly important here. Users must be
able to distinguish between different accounting policies in order to be able to make
a valid comparison of similar items in the accounts of different entities.
 Comparability is not the same as uniformity. Entities should change accounting
policies if those policies become inappropriate.

Verifiability
Verifiability helps assure users that information faithfully represents the economic
phenomena it purports to represent. It means that different knowledgeable and independent
observers could reach consensus that a particular depiction is a faithful representation
Timeliness.
 Timeliness means having information available to decision-makers in time to be
capable of influencing their decisions. Generally, the older information is the less
useful it is.
 Information may become less useful if there is a delay in reporting it. There is a
balance between timeliness and the provision of reliable information.
 If information is reported on a timely basis when not all aspects of the transaction are
known, it may not be complete or free from error.
Understandability.
Classifying, characterising and presenting information clearly and concisely makes it
understandable.
Other accounting concepts
Fair presentation
Financial statements are required to give a fair presentation or present fairly in all material
respects the financial results of the entity. Compliance with IFRSs will almost always achieve
this.
The following points made by IAS 1 Presentation of financial statements expand on this
principle.
(a) Compliance with IFRSs should be disclosed
(b) All relevant IFRSs must be followed if compliance with IFRSs is disclosed
(c) Use of an inappropriate accounting treatment cannot be rectified either by disclosure of

accounting policies or notes / explanatory material
There may be (very rare) circumstances when management decides that compliance with a
requirement of an IFRS would be misleading. Departure from the IFRS is therefore required to
achieve a fair presentation.

IAS 1 states what is required for a fair presentation.
(a) Selection and application of accounting policies
(b) Presentation of information in a manner which provides relevant, reliable, comparable

and understandable information
(c) Additional disclosures where required
The historical cost concept

The need for this has already been described in the textbook valuation example. It means
that assets are normally shown at cost price, and that this is the basis for valuation of the
asset.
The money measurement concept

Accounting information has traditionally been concerned only with those facts covered by (a)
and (b) which follow:
(a) it can be measured in monetary units, and
(b) most people will agree to the monetary value of the transaction.
This limitation is referred to as the money measurement concept, and it means that
accounting can never tell you everything about a business. For example, accounting does not
show the following:
(c) whether the business has good or bad managers,
(d) whether there are serious problems with the workforce,
(e) whether a rival product is about to take away many of the best customers,
(f ) whether the government is about to pass a law which will cost the business a lot of extra
expense in future.
The business entity concept

The business entity concept implies that the affairs of a business are to be treated as
being quite separate from the non-business activities of its owner(s).

The items recorded in the books of the business are, therefore, restricted to the
transactions of the business. No matter what activities the proprietor(s) get up to
outside the business, they are completely disregarded in the books kept by the
business.
The only time that the personal resources of the proprietor(s) affect the accounting
records of a business is when they introduce new capital into the business, or take
drawings out of it.
The dual aspect concept

This states that there are two aspects of accounting, one represented by the assets of
the business and the other by the claims against them. The concept states that these
two aspects are always equal to each other. In other words, this is the alternate form
of the accounting equation:
Assets = Capital + Liabilities
The main elements of financial reports
Statement of financial position
Assets
An asset is something valuable which a business owns or can use. The IASB's Conceptual
framework for financial reporting defines an asset as follows.
An asset is a resource controlled by an entity as a result of past events and from which future
economic benefits are expected to flow to the entity.
Liabilities
A liability is something which is owed to somebody else. 'Liabilities' is the accounting term for
the debts of a business. The IASB's Conceptual framework for financial reporting defines a
liability as follows.
A liability is a present obligation of the entity arising from past events, the settlement of
which is expected to result in an outflow from the entity of resources embodying economic
benefits.

Capital or equity
The amounts invested in a business by the owner are amounts that the business owes to the
owner.
This is a special kind of liability, called capital. In a limited liability company, capital usually
takes the form of shares. Share capital is also known as equity. The IASB's Conceptual
framework for financial reporting defines equity as follows.
Equity is the residual interest in the assets of the entity after deducting all its liabilities
Statement of profit or loss

A statement of profit or loss is a record of income generated and expenditure incurred over a
given period. The statement shows whether the business has had more revenue than
expenditure (a profit) or vice versa (loss).
The IASB's Conceptual framework defines income, revenue and expenses as follows.
Income is increases in economic benefits during the accounting period in the form of inflows
or enhancements of assets or decreases of liabilities that result in increases in equity, other
than those relating to contributions from equity participants.
Revenue is the gross inflow of economic benefits (cash, receivables, other assets) arising
from the ordinary operating activities of an enterprise (such as sales of goods, sales of
services, interest, royalties and dividends).
Expenses are decreases in economic benefits during the accounting period in the form of
outflows or depletions of assets or incurrences of liabilities that result in decreases in equity,
other than those relating to distributions to equity participants.

Users of financial statements and accounting information
The following people are likely to be interested in financial information about a large
company with shares that are listed on a stock exchange.
 Managers of the company are appointed by the company's owners to
supervise the day to day activities of the company. They need information
about the company's financial situation as it is currently and as it is expected
to be in the future. This is to enable them to manage the business efficiently
and to make effective decisions.
 Shareholders of the company, ie the company's owners, want to assess how
well its management is performing. They want to know how profitable the
company's operations are and how much profit they can afford to withdraw
from the business for their own use.
 Trade contacts include suppliers who provide goods for the company on
credit and customers who purchase the goods or services provided by the
company. Suppliers want to know about the company's ability to pay its
debts; customers need to know that the company is a secure source of supply
and is in no danger of having to close down.
 Providers of finance to the company might include a bank which allows the
company to operate an overdraft, or provides longer-term finance by
granting a loan. The bank wants to ensure that the company is able to keep
up interest payments, and eventually to repay the amounts advanced.
 The taxation authorities want to know about business profits in order to
assess the tax payable by the company, including sales taxes.
 Employees of the company should have a right to information about the
company's financial situation, because their future careers and the size of
their wages and salaries depend on it.
 Financial analysts and advisers need information for their clients or
audience. For example, stockbrokers need information to advise investors.
Credit agencies want information to advise potential suppliers of goods to
the company. Journalists need information for their reading public.
 Government and their agencies are interested in the allocation of resources
and therefore in the activities of business entities. They also require
information in order to provide a basis for national statistics.
 The public. Entities affect members of the public in a variety of ways. For
example, they may make a substantial contribution to a local economy by

providing employment and using local suppliers. Another important factor is
the effect of an entity on the environment, for example as regards pollution

Q1 Which of the following groups of external users of financial statements need financial
information about a company to assess its ability to pay dividends in the future?
A Investors and potential investors B Employees

C Customers D The government
Q2 Which of the following bodies deals with any uncertainty as to how IFRS should be
applied?
A IASCF B IASB
C SAC D IFRIC
Q3 What is the role of the International Accounting Standards Board?
A To enforce the application of international financial reporting standards by

companies globally
B To develop and encourage the adoption of international financial reporting
standards by companies globally
Q4 Which of the following statements about the IASB Framework are true?
(1) The Framework is not an accounting standard.

(2) The Framework aids in the harmonisation of accounting practice.
(3) The Framework provides guidance on the most appropriate accounting treatment
of an item where no relevant accounting standard exists.
(4) The Framework assists users in the interpretation of financial statements.
A (1) (2) (3) and (4) are all correct. B (2), (3) and (4) only are correct.
C (2) and (4) only are correct. D (1) and (3) only are correct

Q5 When an item of expense is capitalised, it is:
A excluded from the statement of financial position

B paid for out of the capital of a business entity
C treated as a liability in the statement of financial position
D treated as an asset in the statement of financial position.
Q6 Which of the following most closely describes the meaning of prudence, as the term is
defined in the IASB’s Framework for the Preparation and Presentation of Financial
Statements?
A The use of a degree of caution in making estimates required under conditions of

uncertainty
B Ensuring that accounting records and financial statements are free from material
error
C Understating assets and gains and overstating liabilities and losses
D Ensuring that financial statements comply with all accounting standards and legal
requirements
Q7 Which, if any, of the following statements about accounting concepts and the
characteristics of financial information are correct?
(1) The concept of substance over form means that the legal form of a transaction
must be reflected in financial statements, regardless of the economic substance.
(2) The historical cost concept means that only items capable of being measured in
monetary terms can be recognised in financial statements.
(3) It may sometimes be necessary to exclude information that is relevant and reliable
from financial statements because it is too difficult for some users to understand.
A 1 and 2 only B 2 and 3 only
C 1 and 3 only D None of these statements are correct

Q8 Listed below are some comments on accounting concepts.
(1) In achieving a balance between relevance and reliability, the most important
consideration is satisfying as far as possible the economic decision-making needs of
users.
(2) Materiality means that only items having a physical existence may be recognized
as assets.
(3) The substance over form convention means that the legal form of a transaction
must always be shown in financial statements, even if this differs from the
commercial effect.
Which, if any, of these comments is correct, according to the IASB’s Framework for
the Preparation and Presentation of Financial Statements?
A 1 only B 2 only
C 3 only D None of them
Q9 Listed below are some characteristics of financial information:
(1) neutrality
(2) prudence
(3) completeness
(4) timeliness.
Which of these characteristics contribute to reliability, according to the IASB’s
Framework for the Preparation and Presentation of Financial Statements?
A 1, 2 and 3 only B 1, 2 and 4 only
C 1, 3 and 4 only D 2, 3 and 4 only

Q10 Which of the following four statements about accounting concepts or
principles are correct?
(1) The money measurement concept is that items in accounts are initially measured
at their historical cost.
(2) In order to achieve comparability it may sometimes be necessary to override the
prudence concept.
(3) To facilitate comparisons between different entities it is helpful if accounting
policies and changes in them are disclosed.
(4) To comply with the law, the legal form of a transaction must always be reflected
in financial statements.
A 1 and 3 B 1 and 4
C 3 only D 2 and 3
Q11 Which of the following statements about accounting concepts and

conventions are correct?
(1) The money measurement concept requires all assets and liabilities to be
accounted for at historical cost.
(2) The substance over form convention means that the economic substance of a
transaction should be reflected in the financial statements, not necessarily its legal
form.
(3) The realisation concept means that profits or gains cannot normally be recognised
in the income statement until realised.
(4) The application of the prudence concept means that assets must be understated
and liabilities must be overstated in preparing financial statements.
A 1 and 3 B 2 and 3
C 2 and 4 D 1 and 4

Q12 Which one of the following statements is correct?
A Items must be excluded from the financial statements if they are immaterial.
B It is a legal requirement that the legal form of a transaction must always be shown in the
financial statements of a company.
C In times of rising prices, the use of historical cost accounting will tend to overstate profits
and understate assets.
D Unless financial information is provided in a timely manner, it might lose its relevance.
Q13 Is the following statement true or false?
Financial statements presented on the going concern basis show assets at their realisable
value
A True B False
Q14 The IASB Framework identifies two assumptions that underlie the preparation
of the financial statements. They are:
A going concern and prudence B accruals and consistency

C going concern and accruals D accruals and prudence
Q15 Which of the following is an application of the business entity concept?
A A sole trader paying their personal tax bill from the business bank account accounts for it
as drawings
B Each transaction has an equal and opposite effect
C The directors of a company are treated as employees for the purpose of accounting
D Separate capital and current accounts are maintained for each partner

Q16 Which of the following items might need to be changed in value if the going
concern assumption for a business entity is no longer appropriate?
1 Non-current assets
2 Inventory
3 Trade payables
4 Bank loan
A 1 only B 1 and 2 only
C 1, 2 and 3 only D 1, 2, 3 and 4
Q17 Whose needs are general purpose financial statements intended to meet?
A Shareholders of incorporated entities

B The general public
C Users of financial statements
D Regulatory authorities
Q18 Which body develops International Financial Reporting Standards?
A IASB B IFRS Foundation

C IFRS IC D IFRS Advisory Council
Q19 According to the International Accounting Standards Board, in whose

interests are financial reporting standards issued?
A Company directors B The public

C Company auditors D The government

Q20 Which of the following are roles of the IASB?
(1) Responsibility for all IFRS technical matters

(2) Publication of IFRSs
(3) Overall supervision and governance of the IFRS Advisory Council
(4) Final approval of interpretations by the IFRS Interpretations Committee
A 2 only B 1 and 2 only
Q21 The issue of a new IFRS means that:
(1) An existing standard may be partially or completely withdrawn

(2) Issues that are not in the scope of an existing standard are covered
(3) Issues raised by users of existing standards are explained and clarified
(4) Current financial reporting practice is modified
Which combination of the above will most likely be the result of issuing a new IFRS?
Q22 Which of the following are stages in the due process of developing a new
International Financial Reporting Standard?
(1) Issuing a discussion paper that sets out the possible options for a new standard
(2) Publishing clarification on the interpretation of an IFRS
(3) Drafting an IFRS for public comment
(4) Analysing the feedback received on a discussion paper

Q23 Which of the following bodies has responsibility for encouraging global
convergence of international financial reporting standards?
A The International Financial Reporting Standards Interpretations Committee

B The International Financial Reporting Standards Foundation
C The International Accounting Standards Board
D The International Accounting Standards Committee
Q24 Which of the following most closely describes the meaning of relevance in the
IASB’s “Conceptual Framework for Financial Reporting”?
A It makes information provided in the financial statements useful to primary users

B It ensures that accounting records and financial statements are free from bias
C It provides a predictive or confirmatory value that can make a difference in a
decision
D It ensures that financial statements comply with all accounting standards and legal
requirements
Q25 Which of the following statements about accounting concepts and the
characteristics of financial information is correct?
(1) The concept of substance over form means that the legal form of a transaction
must be reflected in financial statements, regardless of the economic substance.
(2) Under the recognition concept only items capable of being measured in monetary
terms can be recognised in financial statements.
(3) It may sometimes be necessary to exclude information that is relevant and reliable
from financial statements because it is too difficult for some users to understand.
A 1 only B 2 only
C 3 only D None of these statements

Q26 Which of the following statements about accounting concepts are correct?
(1) The entity concept requires that a business is treated as being separate from its
owners.
(2) The prudence concept means that the lowest possible values should be applied to
income and assets and the highest possible values to expenses and liabilities.
(3) The money measurement concept means that only assets capable of being
reliably measured in monetary terms can be included in the financial statements.
C 2 and 3 only D All three statements
Q27 Which of the following statements about accounting concepts are correct?
(1) The money measurement concept requires all assets and liabilities to be
accounted for at original (historical) cost.
(2) The substance over form convention means that the economic substance of a
transaction should be reflected in the financial statements, not necessarily its legal
form.
(3) The realisation concept means that profits or gains cannot normally be recognised
in profit or loss until realised.
(4) The application of the prudence concept means that assets must be understated
and liabilities must be overstated in preparing financial statements.
A 1 and 3 B 1 and 4
C 2 and 3 D 2 and 4
Q28 A company includes in inventory goods received before the year end for which
invoices are not received until after the year end.
Which of the following concepts is the company applying?

A Historical cost B Accruals
C Going concern D Substance over form

Q 29 Which one of the following best describes the objective of management’s
stewardship of a company?
A Profit maximization B Safeguarding cash

C Accountability for company’ assets D High dividends for shareholders
Q30 Which of the following are necessary characteristics of “faithful

representation” of information?
(1) Information is free from bias.

(2) Information is complete within the bounds of materiality and cost.
(3) Information is free from material error.
C 2 and 3 only D 1, 2 and 3
Q31 The IASB’s Conceptual Framework for Financial Reporting (the Conceptual
Framework) sets out the concepts that underlie the preparation and presentation of
financial statements for external users.
According to the Conceptual Framework, which of the following describes the

inclusion of an amount in the financial statements”?
A Disclosure B Faithful presentation
C Measurement D Recognition

Q32 Which of the following statements is correct?
A Profit is the amount by which the value of assets only have increased during the
year
B Profit is the amount by which the value of liabilities only have decreased during the
year
C Profit is not related to changes in the value of assets and liabilities
D Profit is the amount by which the increase in the value of assets exceeds the
increase in the value of liabilities during the year
Q33 Which of the following is the basis on which allowance for depreciation is
charged to the statement of profit or loss?
A Accruals B Going concern

C Prudence D Historical cost
Q34 Consider the following statements:
(1) Items are reported in the statement of financial position based on the
presumption that the entity will not be required to significantly reduce the scale of its
operations
(2) Non-current assets are always valued at historical cost in the statement of
financial position
Which of the following is correct?
Statement (1) Statement (2)
A Describes the accruals concept Is true
B Describes the going concern concept Is true
C Describes the accruals concept Is false
D Describes the going concern concept Is false

Q35 The residual interest in the assets of the entity after deducting all its liabilities.
What is represented by the residual?

A Income B Profit
C Gains D Equity
Q36 Consider the following statements about the IASB’s Conceptual Framework
for Financial Reporting (the Conceptual Framework):
(1) As it sets out underlying concepts, the Conceptual Framework will not be changed
(2) The Conceptual Framework is intended to assist users in interpreting financial
statements
(3) The Conceptual Framework is an International Financial Reporting Standard
Which of the above statements is/are true?
A 1 only B 2 only
Q37 What is defined by the following statement?
“A resource controlled by an entity as a result of past events and from which future
economic benefits are expected to flow to the entity.”
A Income B An expense
C A liability D An asset
Q38 When the owner of a business takes goods from inventory for his own
personal use, which of the following accounting principles should be considered?
A Consistency B Going concern

C Money measurement D Business entity

Q39 Items should be included in the financial statements if their omission would
mislead the users of the financial statements.
Which one of the following accounting principles governs this?

A Consistency B Accruals
C Materiality D Money measurement
Q40 A business owns a non-current asset which cost $4,000 and is recorded at its
net book value in the financial statements.
Which of the following accounting principles has been applied?

A Going concern B Business entity
C Consistency D Money measurement
Q41 Paul has been told that 'Costs should be taken into account in the same period
as the associated revenue.'
Which fundamental accounting principle does this reflect?

A Going concern B Accruals
C Materiality D Consistency
Q42 According to The Conceptual Framework, which of the following are

fundamental characteristics of financial information?
(i) Relevance
(ii) Faithful representation
A (i) and (ii) B (i) only C Neither (i) nor (ii) D (ii) only
Q43 What accounting principle states that 'For accounting purposes, a business is
separate from its owners’?
A Going concern B Materiality

C Business entity D Comparability

Q44 A number of users would broadly agree that faithful representation has been
achieved. Which qualitative characteristic of financial information is described by this
statement?
A Comparability B Understandability
C Verifiability D Relevance
Q45 A business applies the same depreciation policy to all of its computers.
Which accounting principle does this treatment follow?

A Accruals B Comparability
C Money measurement D Business entity
Q46 Transactions are stated at the value at which they occurred and are not
adjusted at the end of the year. Which accounting principle is described by this
statement?
A Business entity B Historical cost

C Materiality D Going concern
Q47 Which qualitative characteristic of financial information can be achieved

through a combination of consistency and disclosure?
C Verifiability D Relevance
Q48 Information may become less useful if there is a delay in reporting it.
Which qualitative characteristic of financial information is described by this

statement?
C Verifiability D Timeliness

Q49 A Company decides to change from the straight-line method of depreciation
to the
reducing balance method.
Which accounting concept does this proposal contravene?

A. consistency
B. going concern
C. historic cost
D. materiality
Q50 The capitalisation of development costs is an example of the convention of
A. business entity
B. matching
C. prudence
D. substance over form
Q51 Which of the following is an example of the accounting principle of substance
over form?
A. accruing expenses in order to match items with the related revenues
B. capitalising a motor vehicle bought on hire purchase
C. capitalising goodwill on acquisition of a business entity
D. not depreciating freehold land
Q52 Which of the following is an example of the application of the accounting
principle of substance over form?
A. capitalising assets held under finance leases
B. charging operating leases rental to Income statement
C. providing for expenses not yet paid
D. recognising a contingent liability
Q53 Which accounting convention is observed when leased assets are shown In
the Balance Sheet?
A. Accruals
B. Materiality
C. Prudence

Q54 A machine acquired on hire purchase legally belongs to the seller until the
final hire purchase instalment has been paid. However it is treated for accounting
purposes as a non-current asset in the books of the hire purchaser.
This is an example of
A. matching
B. prudence
C. materiality
Q55 There is great uncertainty about the continuance of a business. This has
caused the proprietor to make a large reduction in the valuation of the year-end
inventory.
Which accounting concept does this illustrate?
A. going concern
B. materiality
C. matching
Q56 The treasurer of a club has decided not to Include subscriptions owing by
members in the Balance Sheet at the year-end. Which accounting concept is being
applied?
A. accruals
B. going concern
C. money measurement
D. prudence
Q57 Accountants prefer the commercial reality of a transaction to a strictly legal
approach. This is an example of
A. consistency
B. prudence
C. materiality ·
Q58 Which of the following is the definition of a business as a going concern?
A. the assets owned by the business exceed its liabilities.
B. the business has accumulated revenue reserves.
C. the business is currently liquid and able to pay its trade payables.
D. the business will continue in operational existence for the foreseeable future.

Q59 A sole trader pays private expenses from the business bank account and
records them as drawings. Which accounting principle is applied?
A. business entity
B. matching
C. going concern
D. prudence
Q60 A business values obsolete inventory at net realisable value. Which
accounting principle has been applied?
A. consistency
B. materiality
C. going concern
D. prudence
Q61 A pocket calculator costs $9.50 and as a useful life of 5 years. The bookkeeper
has decided to treat the purchase of the calculator as revenue expenditure.
Which accounting concept has been applied?

A. accruals
B. prudence
C. materiality
Q62 What does the 'going concern' principle mean?
A. a business is profitable
B. a business will continue to operate for the foreseeable future
C. the assets of a business exceed its liabilities
D. the assets of a business should be valued at disposal value
Q63 When a businessman introduces capital into his business, the transaction is
debited in the Cash Book and credited to his Capital account. Of which accounting
principle is this an example?
A. enitity
B. matching
C. going concern
D. prudence

Q64 A company does not include the value of skills gained by Its employees from
training programmes In Its financial statements.
Which accounting principle Is being applied?
A. consistency
B. money measurement
C. materiality
Q65 Of which concept is the writing off of a bad debt an example?
A. going concern
B. matching
C. prudence
Q66 A company purchases machinery on hire purchase over four years but does
not own the machinery until the final payment has been made.
At the end of year 1 the company shows the machinery in its Balance Sheet as a non-current
asset and also records the liability for the amount still owed.
Which accounting principle is being applied?
A. Consistency
B. Prudence
C. Materiality
D. Substance over form
Q67 Businesses anticipate losses but not profits in preparing their annual accounts.
Which accounting concept is being applied here?
A. Accruals
B. going concern
C. consistency
D. Prudence
Q68 What is an example of the application of the concept of accounting for
substance over form?
A. accounting for inventory losses
B. recording an asset acquired under a hire purchase agreement as a non-
current asset
C. recording the premium on the issue of ordinary shares in a share premium
account
D. writing off a debt from a customer in liquidation

Q69 A business sells its freehold premises to a bank and agrees to repurchase
them in five years' time. The business continues to use the premises on lease from the
bank. The premises remain in the balance sheet of the business. What is the reason
for this accounting treatment?
A. the asset must be treated in the same way from year to year
B. the commercial reality of the transaction is that the business still owns the
asset
C. the cost of the asset must be matched with the periods expected to benefit
from its use
D. the income from the sales proceeds must not be anticipated.
Q70 A company excludes from its Balance Sheet machinery for which spare parts
are no longer obtainable. Which concept is being applied by the company?
A. going concern
B. materiality
C. prudence
Q71 Which accounting policies illustrate the matching principle?

1. charging depreciation on non-current assets
2. revaluing non-current assets on a regular basis
3. using the reducing balance method of depreciation
A. 1, 2 and 3
B. 1 and 2 only
C. 1 and 3 only
D. 2 and 3 only

Q72 The following information relates to a company's non-current assets at 31
December.
cost price($) disposal value ($)
motor vehicles 25,000 18,000
equipment . 48,000 3,6000
fixtures and fittings 12,000 5,000
The company has a serious cash shortage and will cease to trade within the next two
months.
What is the total value for non-current assets in the company's Balance Sheet at 31
December?
A. $26,000
B. $59,000
C. $85,000
D. $144,000
Q73 An item of inventory originally cost $5,000, but has deteriorated badly and is
written down to its estimated net realisable value of $2,000.
Which accounting principle has been applied?

A. consistency
B. prudence
C. materiality
Q74 Which accounting treatments illustrate the use of the matching principle?
• valuation of inventory at net realisable value rather than cost
• using the First In First Out method of valuation each year
• charging depreciation on non-current assets
A. 1, 2 and 3
B. 1 and 3 only
C. 2 only
D. 3 only

Q75 Which transaction applies the matching concept?
A. a machine acquired on long-term rental is included in non-current assets
B. computer equipment is depreciated over two years
C. a building is revalued following a fall in property prices
D. a waste-paper basket is treated as revenue expenditure
Q76 In preparing the income statement, only realised profits and not anticipated
profits must be brought Into account. In addition, all possible losses must also be
taken into account. Which accounting principle does this describe?
A. accruals
B. going concern
C. consistency
D. prudence
Q77 A business Is separate from Its owner. This results In only business
transactions being recorded in the accounts. Which accounting principle applies?
A. business entity
C. materiality
D. prudence
Q78 The personal spending of the owner of a business Is not recognised as a
business expense. Which accounting principle is being applied?
A. business entity
C. consistency
D. prudence
Q79 A business obtained a machine by means of a hire purchase agreement. It
showed the machine in its balance sheet at the cash price of $30 000 although only
$10 000 has been repaid.
Which accounting principle is Involved?
A. accruals
B. prudence
C. materiality
Q80 What does the application of the accounting principle of consistency ensure?
A. that all losses are provided for
B. that assets are recorded at their actual cost
C. that financial statements are produced annually
D. that profits are calculated the same way each year

Q81 A company values its loose tools for inclusion in its balance sheet.
The tools are not very valuable and the company uses estimating when valuing them. Which
accounting principle is being applied?
A. accruals
B. going concern
C. consistency
D. materiality
Q82 A business buys a machine on hire purchase for $50 000.
Although it will not own the machine until it has paid the final installment, it has made the
following entries:
debit credit
Machinery account $50000 Bank account $5000
Finance company account $45 000
Which accounting principle is being applied?
A. accruals
B. going concern
C. consistency
D. materiality
Q83 A trader recently purchased a non-current asset for his business at a cost of
$6 500. A friend told him he could buy a similar asset on-line for $5 000. The trader Is
now unsure how to value the asset In the books of account.
Which principle should the trader apply?
A accruals C historical cost
B business entity D materiality

Chapter 8
Provisions and contingencies
Liabilities and provisions
Definition of a liability
A liability is defined by the IASB Framework as a
 Present obligation arising as a result of a

 Past transaction or event.
 The settlement of a liability will result in an outflow of resources or economic benefit,
such as the payment of cash.
The main elements in this definition are as follows.
Obligation:
Legal obligation
It is normally contractual obligation to pay a supplier for the purchase of goods or services or
it may arise due to decision of court against business for example in case of unfair dismissal.
Constructive obligation
It arises out of an established past practice or a valid expectation or declared policy of the
businessentity - such as a promise by the business entity to refund the price of goods
tocustomers if the customers are dissatisfied.
„The obligation exists now.

The obligation is a present obligation. It is not an obligation that will or might occur in the
future. The payment will occur in the future, but the obligation to pay already exists.
Outflow of economic benefits.

The obligation will result in an outflow of economic benefits at some time in the future. This
will normally take the form of payments in cash, or the transfer of an asset other than cash.
Examples of liabilities are loans from a bank, bonds issued by a company, trade payables, tax
payable to the government, and accrued expenses.

Accounting treatment of liabilities
IAS 1 states that liabilities should normally be shown in the statement of financial position as
either current liability (payable within 12 months or within the normal trading cycle of the
entity) or non-current liability ( these are all liabilities that are not current).
Provisions
IAS 37 Provisions, contingent assets and contingent liabilities defines a provision as ‘a
liability of uncertain timing or amount’.
Accounting for provisions

When a provision is created
 Provision for warranty cost, legal charges etc
Expense Dr
Provision Cr
 Provision for dismantling or decommissioning

Asset Dr
Provision Cr
Note: Provision is either treated as current liability if it is payable within one year or non-
current liability if it is payable after one year.
Example
A company has recently been sued by one of its employees for unfair dismisal. The lawyer of
the company said that it is probable that company will lose the case and have to pay $
150000 as compensation. So company has to create a provision of $150000 and will have to
make a payment in the future to settle the dispute. As at the end of its financial year, Year 1,
the amount of the payment is uncertain, but it has been estimated as $150,000.
The company should create a provision for the liability arising to settle the legal dispute:
Legal costs (expense) $150,000 Dr
Provision for legal costs (liability) $150,000. Cr
If settlement is expected in Year 2, the provision will be reported within current liabilities.

Future treatment of provision
Settlement of provision
In case of above example, company may have to pay damages in year 2. There may be three
cases
Case 1 company has to pay $150000

Provision Dr $150000
Cash Cr $ 150000
Case 2 Company has to pay $ 180000

Income statement Dr $ 30000
Cash Cr $ 180000
Case 2 Company has to pay $ 130000

Income statement Cr $ 20000
Cash Cr $ 130000
Provision has to be re-estimated at end of year 2

If liability is not settled at end of year 2 company has to re-estimate it at end of year 2
There may be two cases.
Increase in provision
At end of year 2 lawyer of company said that company had to pay $180000
Legal cost Dr $30000
Provision Cr $ 30000

Decrease in provision
At end of year 2 lawyer of company said that company had to pay $110000
Provision Dr $40000
Legal cost Cr $ 40000 (Treated as income in income statement)
Provision for tax

Company estimates tax payable at end of every year and create a provision for tax.
Next year actual tax payable may be higher than estimated value (under
provision). It will create a debit balance of provision at end of year 2 in trial
balance. Next year actual tax payable may be lower than estimated value (over
provision). It will create a credit balance of provision at end of year 2 in trial
balance.
Tax account (Income statement purpose)
Balance b/d (Trial balance fig) XXX Balance b/d (Trial balance fig) XXX
Income statement (bal fig) XXX
Balance c/d (provision for current
year) XXX
XXX XXX
Tax account (for cash flow)

Balance b/d (SOFP fig) XXX
Cash paid (bal fig) XXX Income statement XXX
Balance c/d (SOFP fig) XXX
XXX XXX
Recognition and measurement of provisions

IAS 37 seeks to prevent the use of provisions to manipulate or ‘window dress’ financial
statements.
Recognising provisions
IAS 37 states that a provision should only be recognised if the following conditions are met:
 The entity has a present obligation arising out of a past event or transaction.
 It is probable that an outflow of economic resources (such as cash payments) will be
required to settle the obligation. ‘Probable’ means more likely than not.

 Although the amount of the obligation is uncertain, there is a reliable estimate of
what it will be. This estimate might be based on a range of probable outcomes.
Examples of events or transactions that might result in a provision are:
 an obligation to settle a legal dispute, where the legal case has already been lost but
the amount of the settlement has not yet been decided
 an obligation to pay clean-up costs for causing environmental damage
 an obligation to pay decommissioning costs to take an asset out of service at the end
of its useful life (for example a provision for decommissioning a nuclear reactor).
IAS 37 specifically deals with certain situations where provisions may or may not be created.
 A provision cannot be made for future operating losses. There is no present

obligation arising out of past events; therefore a provision cannot be made. If a
company expects to make an operating loss in the next financial year, it cannot make
a provision and take the loss in the current year instead.
 A provision can be made for future restructuring costs, when an entity closes down a
part of its business operations, or re-organises its management structure, or decides
to relocate operations to another country or region. However, a provision may only
be made if there is a detailed formal plan for the restructuring and there is an
expectation that the restructuring will take place. If the reorganisation plan has been
agreed but has not been formally announced and employees have not yet been told,
a provision cannot be made.
Note: provision can’t be created if reliable estimate can’t be made even it is probable that it
has to be settled.
Measurement of provisions/ expected value

Example
A company sells its products under warranty. It promises to bear the costs of repairing any
goods that it has sold, within a 12-month period after the time of sale.
The company has estimated that the average cost of a repair is $150, and that if all the
goods it sold in the past months needed repair under warranty, the total cost of repairs
would be $3,000,000. It has also estimated that the probability that goods will be returned
for repair under warranty is 4%.

A provision should be recognised. The amount of the provision will be measured as $120,000
(= 4% × $3,000,000).
Contingent liabilities
Definition of contingent liabilities and contingent assets

‘Contingent’ means ‘dependent on something happening’.
„ A contingent liability is a liability that will only occur if something happens in the future. It
can be defined as a possible obligation arising from an event that has already happened, and
whose existence will only be confirmed by the occurrence or non-occurrence of an uncertain
future event. This uncertain future event should be not wholly within the control of the
company to make it happen.
„ A contingent asset is an asset that will arise (such as cash income) or a benefit that will
occur only if something happens in the future. It is similar to a contingent liability, except
that it is a possible benefit rather than a possible obligation.
Examples of contingent liabilities

 The outcome of a legal dispute, in which the company might be required tomake a
large payment to settle the dispute (contingent liability) or might receive a
substantial amount of money in settlement (contingent asset). The legal decision has
not yet been made; therefore it is too soon to make a provision.
 The possibility of having to pay a fine to a regulating body for a breach of regulations
(contingent liability).
 The possibility of having to meet an obligation under a guarantee given to a bank on
behalf of another company. A contingent liability exists when there is a risk that this
other company will fail to repay the loan and the bank will call on the guarantee. The
guarantee might therefore be a contingent liability.
Contingent liabilities vs provision or actual liability

A decision has to be made whether an item is a contingent liability or not.
Contingent liability
 The obligation is a possible obligation, but not a probable obligation (so that
it is less than 50% likely to happen), or

 there is an obligation but a reliable estimate of the amount of the obligation
cannot be made.
Note: If outflow of resources is possible (5-50 %) or probable (51-95%) but reliable estimate
can’t be made it should be disclosed as contingent liability
Note: if outflow is probable and reliable estimate can also be made provision should be
created.
Contingent assets
There are similar problems with contingent assets. Is the item a contingent asset or not?
 Is it a contingent asset, or is it an actual asset? If the future benefit is certain or

‘virtually certain’ (more than 95% chance) it is an actual asset and the item should be
‘recognised’ in the financial statements. It should be included as an actual asset in
the statement of financial position.
 If inflow of economic benefits related to contingent asset is probable it should be
disclosed
 If inflow of economic benefits related to contingent asset is possible or remote it
should be ignored

Q1 Should a provision be created in each of the following situations?
(1) to provide for future anticipated operating losses of $100,000
(2) to provide for restructuring costs of $200,000 when the restructuring has
been announced to the employees and has been formally planned by the
directors.
A Yes in situation 1, No in situation 2 B Yes in situation 1, Yes in

situation 2
C No in situation 1, No in situation 2 D No in situation 1, Yes in

situation 2
Q2 A company is facing a legal case for serious injuries supposedly caused by one of its
products. The claims total $1 million of damages.
At 31 December Year 1 the company lawyers believe that it is probable that the company will
not be found liable, although the likelihood of an obligation arising is stronger than ‘remote’.
However as the case continued by 31 December Year 2 the lawyer’s advice was that the
company will probably be found liable.
What is the accounting treatment in the financial statement s for each of years 1 and 2?
A Ignore in Year 1, disclose a contingent liability in Year 2
B Disclose a contingent liability in Years 1 and 2
C Disclose a contingent liability in Year 1 and recognise a provision in Year 2
D Recognise a provision in Year 1 and continue to recognise it in Year 2

Q3 Blog is a limited liability company. It has to deal with the following items at the end
of its financial year.
(1) Blog has provided a guarantee for a bank loan to another business entity. The likelihood
of a liability actually arising from the guarantee is assessed as ‘possible’.
(2) Blog provides warranties to customers for its products. Experience shows that about 4%
of sales give rise to a claim under a warranty.
How should these items be reported (if at all) in the financial statements?
A (1) should be disclosed as a contingent liability and a provision should be made for (2).
B (1) and (2) should both be treated as provisions.
C (1) should not be disclosed at all and a provision should be made for (2).
D (1) and (2) should both be treated as contingent liabilities.
Q4 Which of the following statements are correct about the requirements of IAS37:
Provisions, contingent liabilities and contingent assets?
(1) Contingent assets must not be recognised in financial statements unless an inflow of
economic benefits is virtually certain to arise.
(2) A contingent asset must be disclosed in a note if an inflow of economic benefits is

probable.
(3) No disclosure is required for a contingent liability if the likelihood of a transfer of

economic benefits arising is remote.
A 1 and 2 only are correct. B 1 and 3 only are correct.
C 2 and 3 only are correct. D All three statements are correct.

Q5 A company is in a legal dispute with a supplier. The supplier is making a claim for
losses suffered as a result of an alleged breach of contract by the company. The
supplier is claiming $750,000. The company has denied any liability but has offered
$100,000 as an out-of-court settlement. The company’s lawyers have advised that if
the case goes to court, the most likely outcome is that the company will lose the case
and will be required to pay $400,000 in compensation to the supplier.
What amount should be provided in respect of the claim by the supplier?
A Nothing, because there is only a contingent liability B $100,000
C $400,000 D $750,000
Q6 Which of the following statements are correct about provisions and contingent
liabilities?
1 If it is probable that a liability will occur and result in an outflow of economic benefits, but
its value is not certain, a provision should be created.
2 A reduction in a provision increases profit for the year.
3 A provision can be made for future reorganisation costs, but only if certain conditions are
met.
4 A provision can be made for future operating losses, but only if certain conditions are met.
A 1 and 2 only are correct B 1, 2 and 3 only are correct
C 1 and 4 only are correct D 2, 3 and 4 only are correct.

Q7 Which of the following statements about contingent assets and contingent liabilities
are correct?
(1) A contingent asset should be disclosed by note if an inflow of economic benefits is

probable.
(2) A contingent liability should be disclosed by note if it is probable that a transfer of

economic benefits to settle it will be required, with no provision being made.
(3) No disclosure is required for a contingent liability if it is not probable that a transfer of
economic benefits to settle it will be required.
(4) No disclosure is required for either a contingent liability or a contingent asset if the
likelihood of a payment or receipt is remote.
C 2, 3 and 4 D 1, 2 and 4
Q8 In preparing the financial statements of a company, the following items have to be

considered:
(1) The company offers a one-year warranty to purchasers, undertaking to replace an item if
a defect occurs. Past experience suggests that claims under the warranty will probably arise.
(2) The company has an action pending against it for damages for wrongful dismissal of a
director. The company’s legal advisor considers it improbable that the action will be
successful.
(3) The company intends to close down a division in the next financial year. As a result
significant costs will be incurred. As yet the board of directors has not made or announced a
formal plan for this.
How should these items be reflected in the financial statements, if at all?
A All three should be disclosed by note
B A provision should be created for the best estimate of the liability in 1, and items
2 and 3 should be disclosed by note

C A provision should be created for the best estimate of the liability in 1, item 2 should be
disclosed by note and item 3 not disclosed at all
D A provision should be created for the best estimate of the liabilities in 1 and 2 and item 3
should be disclosed by note
Q9 Which of the following is not a requirement for a provision to be made according to

IAS 37?
A A reliable estimate of the amount
B A probable outflow of benefits
C A present obligation as the result of a past event
D A virtually certain outflow of benefits
Q10 Mikhail wishes to recognise a provision for warranties of $13,400 in his

statement of financial position. In the previous year’s balance sheet, a provision of
$15,600 was recognised.
What is the correct entry in Mikhails’s accounts?
Debit Credit
A Income statement $2,200 Provision $2,200
B Income statement $13,400 Provision $13,400
C Provision $2,200 Income statement $2,200
D Provision $13,400 Income statement $13,400
Q11 Ives sells electrical appliances, offering a one-year repair warranty with each
item sold. There is a 3% chance of an item needing major repairs in the first year after
sale and a 10% chance of an item needing minor repairs. If all items needed a major
repair, the cost to Ives would be $150,000; if all items needed a minor repair, the cost
to Ives would be $90,000.
What amount should Ives make a provision for?
A Nil – the conditions of IAS 37 are not met B $150,000

C $17,700 D $13,500
Q12 At 30th June 2010, L had the following issues:
(1) A customer was suing the company for $30,000 damages as a result of faulty goods. L’s
legal team has suggested that there is a 45% chance that they will win the case.
(2) After a separate incident, L is suing another supplier for breach of contract. The legal
team has advised that in this case the action is virtually certain to succeed.
How should these matters be accounted for?
A (1) should be a provision and (2) an asset.
B (1) should be a contingent liability and (2) an asset.
C (1) should be a provision and (2) a contingent asset.
D (1) should be a contingent liability and (2) a contingent asset.
Q13 In which of the following circumstances would a provision be made by a

company in its financial statements in accordance with IAS 37 Provisions, contingent
liabilities and contingent assets in the financial statements?
1 The company expects to make operating losses from a new business operation next year.
The losses are expected to be $3 million.
2 The company has just purchased a new asset and it is expected that when the asset is
decommissioned in ten years’ time, the company will be required under current
environmental laws to incur $4 million in decontamination costs.
3 A decision was made by the board of directors to shut down one of its business divisions.
The closure is likely to cost $8 million. Details of the closure arrangements have been
announced to the employees and the media.
C 2 only D 3 only

Q14 Which of the following statements about contingent assets and contingent
liabilities are correct?
(1) A contingent asset should be disclosed by note if an inflow of economic benefits is

probable.
(2) A contingent liability should be disclosed by note if it is probable that a transfer of

economic benefits to settle it will be required, with no provision being made.
(3) No disclosure is required for a contingent liability if it is not probable that a transfer of
economic benefits to settle it will be required.
(4) No disclosure is required for either a contingent liability or a contingent asset if the
likelihood of a payment or receipt is remote.
A 1 and 4 only B 2 and 3 only C 2, 3 and 4 D 1, 2 and 4
Q15 In preparing the financial statements of a company, the following items have
to be considered:
(1) The company offers a one-year warranty to purchasers, undertaking to replace an item if
a defect occurs. Past experience suggests that claims under the warranty will probably arise.
(2) The company has an action pending against it for damages for wrongful dismissal of a
director. The company’s legal advisor considers it improbable that the action will be
successful.
(3) The company intends to close down a division in the next financial year. As a result
significant costs will be incurred. As yet the board of directors has not made or announced a
formal plan for this.
How should these items be reflected in the financial statements, if at all?
A All three should be disclosed by note
B A provision should be created for the best estimate of the liability in 1, and items 2 and 3
C A provision should be created for the best estimate of the liability in 1, item 2 should be
disclosed by note and item 3 not disclosed at all

D A provision should be created for the best estimate of the liabilities in 1 and 2 and item 3
Q16 Greensleeves, a company has announced that it will be shutting down its
operations in Transylvania in the coming year. It has recognised a provision for the
associated costs in accordance with IAS 37.
A provision can be recognised because Greensleeves has:
A a legal obligation B a constructive obligation.
Q17 Which of the following is not a requirement for a provision to be made

according to IAS 37?
A A reliable estimate of the amount B A probable outflow of benefits
C A present obligation as the result of a past event D A virtually certain outflow of benefits
Q18 Mikhail wishes to recognise a provision for warranties of $13,400 in his

statement of financial position. In the previous year’s balance sheet, a provision of
$15,600 was recognised. What is the correct entry in Mikhails’s accounts?
Debit Credit
A Income statement $2,200 Provision $2,200
B Income statement $13,400 Provision $13,400
C Provision $2,200 Income statement $2,200
D Provision $13,400 Income statement $13,400
Q19 Ives sells electrical appliances, offering a one-year repair warranty with each
item sold. There is a 3% chance of an item needing major repairs in the first year after
sale and a 10% chance of an item needing minor repairs. If all items needed a major
repair, the cost to Ives would be $150,000; if all items needed a minor repair, the cost
to Ives would be $90,000. What amount should Ives make a provision for?
A Nil – the conditions of IAS 37 are not met B $150,000
C $17,700 D $13,500

Q20 At 30th June 2010, L had the following issues:
(1) A customer was suing the company for $30,000 damages as a result of faulty goods. L’s
legal team has suggested that there is a 45% chance that they will win the case.
(2) After a separate incident, L is suing another supplier for breach of contract. The legal
team has advised that in this case the action is virtually certain to succeed.
How should these matters be accounted for?
A (1) should be a provision and (2) an asset.
B (1) should be a contingent liability and (2) an asset.
C (1) should be a provision and (2) a contingent asset.
D (1) should be a contingent liability and (2) a contingent asset.
Q21 In which of the following circumstances would a provision be made by a

company in its financial statements in accordance with IAS 37 Provisions, contingent
liabilities and contingent assets in the financial statements?
1 The company expects to make operating losses from a new business operation next year.
The losses are expected to be $3 million.
2 The company has just purchased a new asset and it is expected that when the asset is
decommissioned in ten years’ time, the company will be required under current
environmental laws to incur $4 million in decontamination costs.
3 A decision was made by the board of directors to shut down one of its business divisions.
The closure is likely to cost $8 million. Details of the closure arrangements have been
announced to the employees and the media.
A 1 and 2 only
B 2 and 3 only
C 2 only
D 3 only

Chapter 9 Errors
ERRORS
Errors of transposition
An error of transposition is when two digits in a figure are accidentally recorded
the wrong way round.
For example, suppose that a sale is recorded in the sales account as $6,843, but it
has been incorrectly recorded in total receivables account as $6,483. The error is
the transposition of the 4 and the 8.
The consequence is that total debits will not be equal to total credits. You can
often detect a transposition error by checking whether the difference between
debits and credits can be divided exactly by 9. For example, $6,843- $6,483 =
$360 ÷ 9 = 40.
Error of omission
An error of omission means failing to record a transaction at all, or making a
debt or credit entry, but not the corresponding double entry.
Here is an example.
a) If a business receives an invoice from a supplier for $250, the transaction might
be omitted from the book entirely. As a result, both the total debts and the total
credits of the business will be incorrect by $250.
b) If a business receives an invoice from a supplier for $300, the payables control
account might be credited, but the debit entry in the purchases account might be
omitted. In this case , the total credit would not equal to total debits (because
total debits are $300 less than they ought to be).
Error of principle
An error of principle involves making a double entry in the belief that the
transaction is being entered in the correct account, but subsequently finding out
that the accounting entry breaks the ‘rules’ of an accounting principle or concept.
A typical of such an error is to treat certain revenue expenditure incorrectly as

capital expenditure.

a) For example, repairs to a machine costing $150 should be treated as revenue
expenditure, and debited to a repairs account. If, instead, the repair costs are
added to the cost of the non-current asset (capital expenditure) an error of
principle would have occurred. As a result, although total debits still equal total
credits, the repairs account is $150 less than it should be and the cost of non-
current asset is $150 greater than it should be.
b) Similarly, suppose that the proprietor of the business sometimes takes cash out
of the till for his personal use and during a certain year these withdrawals on
account of profit amount to $280. The bookkeeper states that he has reduced
cash sales by $280 so that the cash book could be made to balance. This would
be an error of principle, and the result of it would be that the withdrawal account
is understated by $280, and so is the total value of sales in the sales account.
Error of commission
Errors of commission are where the bookkeeper makes a mistake in carrying out
his or her task of recording transactions in the account.
Here are two common types of errors of commission.
a) Putting a debit entry or a credit entry in the wrong account. For example, if
telephone expenses is of $540 are debited to the electricity expenses account, an
error of commission would have occurred. The result is that although total debits
and total credits balance, telephone expenses are understated by $540 and
electricity expenses are overstated by the same amount.
b) Error of costing (adding up). The total daily credit sales in the sales day book
should be $28,425, but are incorrectly added up as $28,825. The total sales in the
sales day book are then used to credit total sales and debit total receivables in
the ledger accounts. Although total debits and total credits are still equal, they
are incorrect by $400.
Compensating errors
Compensating errors are errors which are, coincidentally, equal and opposite to
one another.
For example, two transposition errors of $540 might occur in extracting ledger
balance, one on each side of the double entry. In the administration expenses
account, $2,282 might be written instead of $2,822, while in the sundry income
account, $8,391 might be written instead of $8,931. Both the debits and credits
would be $540 too low, and the mistake would not be apparent when the trial

balance is cast. Consequently, compensating errors hide the fact that there are
errors in the trial balance.
Summary: errors that can be detected by a trial balance

• Errors of transposition
• Errors of omission (if the omission is one-sided)
• Errors of commission (if one-sided, or two debit entries are made, for example)
Other errors will not be detected by extracting a trial balance, but may be
spotted by other controls (such as bank or control account reconciliations).

Q1 Which of the following items appear on the same side of the trial balance?
A Carriage inwards and rental income B Drawings and accruals
C Opening inventory and purchase returns D Carriage outwards and accrued

income
Q2 Which one of the following would result in a trial balance not balancing?
A A casting error in the sales day book
B Debiting both the cash and sales account to record a cash sale
C Failure to record a transaction
D Debiting the purchase of a motor vehicle to the purchases account, while correctly
crediting the cash account.
Q3 A business income statement for the year ended 31st December 2009 showed a
net profit of $83,600. It was later found that $18,000 paid for the purchase of a
motor van had been debited to motor expenses account. It is the company’s
policy to depreciate motor vans at 25% per year, with a full year’s charge in the
year of acquisition. What would the net profit be after adjusting for this error?
A $106,100 B $70,100 C $97,100 D $101,600
Q4 A trial balance extracted from a sole trader’s records failed to agree, and a
suspense
account was opened for the difference.
Which of the following errors would require an entry in the suspense account in correcting
them?
(1) Discount allowed was mistakenly debited to discount received account.
(2) Cash received from the sale of a non-current asset was correctly entered in the cash book
but was debited to the disposal account.

(3) The balance on the rent account was omitted from the trial balance.
(4) Goods taken from inventory by the proprietor had been recorded by crediting drawings
account and debiting purchases account.
A All four items B 2 and 3 only
Q5 A company’s trial balance failed to agree, the totals being:
Debit $815,602 Credit $808,420
Which one of the following errors could fully account for the difference?
A The omission from the trial balance of the balance on the

insurance expense account $7,182 debit
B Discount allowed $3,591 debited in error to the discount

received account
C No entries made in the records for cash sales totalling $7,182
D The returns outwards total of $3,591 was included in the trial

balance as a debit balance
Q6 A company’s trial balance totals were:
Debit $387,642 Credit $379,511
A suspense account was opened for the difference. Which ONE of the following errors would
have the effect of reducing the difference when corrected?
A The petty cash balance of $500 has been omitted from the trial balance
B $4,000 received for rent of part of the office has been correctly recorded in the cash book
and debited to rent account
C No entry has been made in the records for a cash sale of $2,500
D $3,000 paid for repairs to plant has been debited to the plant asset account

Q7 When Q’s trial balance failed to agree, a suspense account was opened for the
difference. The trial balance totals were:
Debit $864,390 Credit $860,930
The company does not have control accounts for its receivables and payables ledgers.
The following errors were found:
(1) In recording an issue of shares at par, cash received of $333,000 was credited to the
ordinary share capital account as $330,000.
(2) Cash $2,800 paid for plant repairs was correctly accounted for in the cash book but was
credited to the plant asset account.
(3) The petty cash book balance $500 had been omitted from the trial balance.
(4) A cheque for $78,400 paid for the purchase of a motor car was debited to the motor
vehicles account as $87,400.
(5) A contra between the receivables ledger and the payables ledger for $1,200 which should
have been credited in the receivables ledger and debited in the payables ledger was actually
debited in the receivables ledger and credited in the payables ledger.
Which of these errors will require an entry to the suspense account to correct them?
A All five items B 3 and 5 only
C 2, 4 and 5 only D 1, 2, 3 and 4 only
Q8 What will the balance on the suspense account be after making the necessary
entries to correct the errors affecting the suspense account?
A $2,440 Debit B $15,560 Credit
C $13,640 Debit D $3,440 Debit

Q9 The trial balance totals of Gamma at 30th September 2010 are:
Debit $992,640
Credit $1,026,480
Which TWO of the following possible errors could, when corrected, cause the trial balance to
agree?
(1) An item in the cash book $6,160 for payment of rent has not been entered in the rent
payable account.
(2) The balance on the motor expenses account $27,680 has incorrectly been listed in the
trial balance as a credit.
(3) $6,160 proceeds of sale of a motor vehicle has been posted to the debit of motor vehicles
asset account.
(4) The balance of $21,520 on the rent receivable account has been omitted from the trial
balance.
A 1 and 2 B 2 and 3
C 2 and 4 D 3 and 4
Q10 The trial balance of Delta, a limited liability company, did not agree and a
suspense account was opened for the difference. The following errors were
subsequently found:
(1) A cash refund due to customer A was correctly treated in the cash book and then credited
to the accounts receivable ledger account of customer B.
(2) The sale of goods to a director for $300 was recorded by debiting sales revenue account
and crediting the director’s current account.
(3) The total of the discount received column in the cash book had been credited in error to
the discount allowed account.
(4) Some of the cash received from customers had been used to pay sundry expenses before
banking the money.

(5) $5,800 paid for plant repairs was correctly treated in the cash book and then credited to
plant and equipment asset account.
Which of the above errors would require an entry to the suspense account as part of the
process of correcting them?
A 1, 3 and 5 B 1, 2 and 5
C 1 and 5 D 3 and 4
Q11 Which of the following type of error will result in an imbalance on the trial
balance?
A Error of omission B Error of commission
C Compensating error D Extraction error
Q12 Which one of the following is an error of commission?
A The recording of a motor repair as an addition to the motor vehicles account
B The purchase of a new piece of machinery has been recorded in the premises account
C The payment of a supplier debited to the cash and supplier account
D The correct recording of a cash sale, but for the wrong amount
Q13 Oswald made a contra entry for $120 between the accounts in the sales
ledger and purchases ledger for Razek. He recorded the transaction by debiting
the account in the sales ledger and crediting the account in the purchase ledger
with $120. Oswald does not maintain control accounts.
Which of the following statements is correct?
A The errors should be corrected, but neither the profit nor the net assets are overstated
B Unless the error is corrected, net assets will be overstated by $240
C Unless the error is corrected, profit will be overstated by $240
D Unless the error is corrected, net assets will be overstated by $120

Q14 At the year end, Iris extracts her trial balance and finds that a suspense
account of $3,690 (Cr) is needed in order to make it balance.
She also discovers the following errors:
(1) Goods costing $188 that Iris took for her own use have not been recorded. Iris uses a
mark-up of 50%.
(2) The receipt of $270 from a customer has been debited to their account in the sales ledger.
(3) Depreciation for the year of $2,180 has been debited to the provision for depreciation
account.
Iris maintains control accounts.
What is the balance on the suspense account after the above errors have been corrected?
A $3,690 Cr B $1,510 Cr C $1,210 Dr D $670 Dr
Q15 A limited liability company’s trial balance does not balance. The totals are:
Debit: $393,130
Credit: $398,580
A suspense account is opened for the difference.
Which of the following pairs of errors could clear the balance on the suspense account when
corrected?
A Debit side of cash book undercast by $10,000; $6,160 paid for rent correctly entered in
cash book but entered in the rent account as $1,610.
B Debit side of cash book overcast by $10,000; $1,610 paid for rent correctly entered in cash
book but entered in the rent account as $6,160.
C Debit side of cash book undercast by $10,000; $1,610 paid for rent correctly entered in
cash book but entered in the rent account as $6,160.
D Debit side of cash book overcast by $10,000; $6,160 paid for rent correctly entered in cash
book but entered in the rent account as $1,610.

Q16 A company’s draft financial statements for 2009 showed a profit of $630,000.
However the trial balance did not agree, and a suspense account appeared in
the company’s draft statement of financial position.
Subsequent checking revealed the following errors.
1 The cost of an item of plant $48,000 had been entered in the cash book and in the plant
account as $4,800. Depreciation at the rate of 10% per year ($480) had been charged.
2 Bank charges of $440 appeared in the bank statement in December 2009 but had not been
entered in the company’s records.
3 One of the directors of the company paid $800 due to a supplier in the company’s payables
ledger by a personal cheque. The bookkeeper recorded a debit in the supplier’s ledger
account but did not complete the double entry for the transaction. (The company does not
maintain a payables ledger control account.)
4 The payments side of the cash book has been understated by $10,000.
Which of the above items would require an entry to the suspense account in correcting
them?
C 2 and 3 only D 1, 2 and 4 only
Q17 A company’s profit and loss for the year ended 31 December 2010 showed a
net profit of $76,800. It was later discovered that $32,000 paid for an item of
office equipment had been debited to the office administration expenses
account. It is the company’s policy to depreciate office equipment at 20% per
year on the straight line basis, with a full year‘s charge in the year of
acquisition.
What should be the net profit after adjusting for this error?
A $108,800 B $115,200
C $102,400 D $38,400

Q18 An invoice from a supplier of office equipment has been debited to the
stationery account. Which of the following describes this error?
A An error of omission B An error of original entry
C An error of commission D An error of principle
Q19 Which of the following error categories describes an error where a transaction
is entered into the correct ledger accounts, but the wrong amount is used?
A Omission B Original entry
C Commission D Principle
Q20 Which ONE of the following is an error of principle?
A An amount paid for gas credited to the gas account and debited to the bank account
B The purchase of a non-current asset credited to the asset account and debited to the
supplier's account
C The purchase of a non-current asset debited to the purchases account and credited to the
supplier's account
D The payment of wages debited and credited to the correct accounts, but using the wrong
amount
Q21 A purchase return of $48 has been wrongly posted to the debit side of the
sales returns account, but has been correctly entered in the supplier's account.
Which of the following statements is correct in respect of the trial balance totals?
A The credit side will be $48 more than the debit side
B The debit side will be $48 more than the credit side
C The credit side will be $96 more than the debit side
D The debit side will be $96 more than the credit side

Q22 Chan's bookkeeper has posted an invoice for motor repairs to the motor
vehicles at cost account.
What term is used to describe this type of error?
A Error of omission B Error of commission
C Error of principle D Error of transposition
Q23 Which of the following errors should be detected by preparing a trial balance?
A A credit entry made on the debit side of the correct account
B A credit entry made on the credit side of the wrong account
C A transaction for which no entries were made
D A transaction entered in the general ledger twice
Q24 Which two of the following errors will be revealed by extracting a trial
balance?
(i) Error of single entry (ii) Error of commission
(iii) Error of omission (iv) Error of transposition
A (i) and (ii) B (ii) and (iii) C (iii) and (iv) D (i) and (iv)
Q25 When Fred's trial balance was extracted, the debit total was $400 less than
the credit total.
Which of the following errors could have caused this difference?
A A sales invoice for $200 was debited to both the sales account and the receivables ledger
control account
B A cheque received for $200 was entered twice in the general ledger
C A cheque for expenses for $200 was credited to both the expense account and the bank
account in the general ledger
D The purchases account was undercast by $200

Q26 When Mervyn's trial balance was extracted, the total of the debit balances
was $500 more than the total of the credit balances.
Which of the following errors is a possible explanation for the difference?
A A cash sale for $250 had not been recorded
B A cash sale for $250 had been recorded twice
C A cash sale for $250 had been posted to the credit side of both the sales account and the
cash account
D A cash sale for $250 had been posted to the debit side of both the sales account and the
cash
Account
Q27 At 30 November 20X5 Jenny had a bank loan of $8,500 and a balance of $678
in hand in her bank account.
How should these amounts be recorded on Jenny's opening trial balance at 1 December
20X5?
A Debit $7,822
B Credit $7,822
C Credit $8,500 and Debit $678
D Debit $8,500 and Credit $678
Q28 Bert has extracted the following list of balances from his general ledger at 31
October 20X5:
Sales 258,542
Opening inventory 9,649
Purchases 142,958
Expenses 34,835

Non-current assets (NBV) 63,960
Receivables 31,746
Payables 13,864
Cash at bank 1,783
Capital 12,525
What is the total of the debit balances in Bert's trial balance at 31 October 20X5?
A $267,049 B $275,282
C $283,148 D $284,931
Q29 Two types of common errors in bookkeeping are:
Errors of principle
Errors of transposition
Which of the following correctly states whether or not these errors will be revealed by
extracting a trial balance?
Errors of principle Errors of transposition
A Will be revealed Will not be revealed
B Will be revealed Will be revealed
C Will not be revealed Will not be revealed
D Will not be revealed Will be revealed
Q30 Colin bought stationery on credit for $430 but recorded it as $340. When he
extracted his trial balance, the total of the debit balances was $157,728.
When the error is corrected, what is the revised total of the debit balances?
A $157,388 B $157,638
C $157,818 D $157,728

Q31 Which of the following is a valid reason for an accountant to close off the
general ledger accounts and produce a trial balance?
A The trial balance produced will highlight all errors so the accountant can be sure every
account balance is correct
B The trial balance contains exactly the same headings as included in the statement of profit
or loss and statement of financial position making it easy to produce the final accounts
C It will enable the accountant to establish whether or not the value of all the debits is equal
to the value of all the credits before proceeding with the preparation of the final accounts
D Accountants are required by law to produce a trial balance so the accountant must
produce one as part of the preparation of the final accounts
Q32 A sales invoice for $3,450 was recorded in Susan's general ledger as follows:
Debit Sales $3,540
Credit Trade receivables $3,540
If the errors are not corrected before the final accounts are drafted, how will Susan's net
profit be affected?
A Understated by $90 B Overstated by $90
C Understated by $6,990 D Overstated by $6,990

Chapter 10 Control accounts

Control Accounts
Internal check
What is internal check?
Internal check is concerned with the maintenance of accounting records. Internal
checks, sometimes known as internal controls, ensure that transactions to be
recorded and processed have been authorised, that they are all included and that
they are correctly recorded and accurately processed.
Types of internal check

You have already met some types of internal check in earlier chapters. Examples
are as follows.
(a) A trial balance is a type of internal check. If a trial balance does not balance,
you know that an error has been made. As you may remember, a trial balance
will not pick up every error.
(b) Bank reconciliations, discussed in Chapter 11, are a check on the accuracy of
the cash book.
(c) Control account reconciliations. Below is a brief reminder of control accounts

which you met earlier in your studies. The balance on the control account should
ideally be the same as the total of the sales or purchase ledger balances. In
practice, it rarely is. However, it should reconcile
(d) Segregation of duties is another form of internal check. For example, the
person preparing a cheque should not be the person who signs it.
(e) Authorisation. All transactions should require authorisation or approval by an

appropriate responsible person. The limits for these authorisations should be
specified.
What are control accounts?

A control account is an account in the general ledger in which a record is kept of
the total value of a number of similar but individual items. Control accounts are
used chiefly for receivables and payables.

 A receivables control account is an account in which records are kept of
transactions involving all receivables in total. The balance on the
receivables control account at any time will be the total amount due to
the business at that time from its customers.
 A payables control account is an account in which records are kept of

transactions involving all payables in total, and the balance on this
account at any time will be the total amount owed by the business at that
time to its suppliers
Receivable ledger control account

Balance b/d XXX Balance b/d XXX
Sales XXX Sales return XXX
Sales Tax (on sales) XXX Sales tax (on sales return) XXX
Interest (Charged on late payment) XXX Bank XXX
Bank (Dishonoured cheque) XXX Discount allowed XXX
Bad debts recovered XXX Bad debts XXX
Cash (advance or refund) XXX Contra/Set off XXX
Balance c/d XXX Balance c/d XXX
XXX XXX
Note. Opening credit balances are unusual in the receivables control account.
They represent customers to whom the business owes money, probably as a
result of the over payment of debts or for advance payments of debts for which
no invoices have yet been sent. In these unusual circumstances where opening
credit balances exist these should be brought forward as separate credit balances
and not netted off against debit balances.
Payable ledger control account

Purchase return XXX Purchases XXX
Sales tax (on purchases return) XXX Sales tax (on purchases) XXX
Cash/Bank XXX Cash (advance or refund) XXX
Discount Received XXX XXX
Contra/Set off XXX XXX
XXX XXX

Note. Opening debit balances in the payables control account are unusual but
may occur in certain circumstances. They would represent suppliers who owe the
business money, perhaps because debts have been overpaid or because debts
have been prepaid before the supplier has sent an invoice. Where there are
opening debit balances, these should be carried down as separate debit balances
and not netted off against the credit balances.
Procedure for preparing sales ledgers/purchase ledgers

1. Transactions are entered in primary books from source documents
2. Individual transactions are then transferred to individual ledgers
3. Individual ledgers are balanced
4. A list of balances is extracted
5. Total of list
Possible errors in total of list

1. A transaction is omitted from primary books
2. Wrong amount entered in individual ledgers
3. Transaction not posted to individual ledger
4. Transaction posted on wrong side of individual ledger
5. Balance of individual ledger is wrong
6. Cr balance entered as Dr in list of receivables and Dr balance entered as Cr in

list of payables
7. Error in totalling the list
Procedure for preparing control accounts

1. Transaction is entered in primary books
2. Primary books are totalled
3. Total of primary books entered in control account

Possible errors in control accounts
1. A transaction is omitted from primary books
2. Total of primary books is incorrect
3. A total not posted to control account
Reasons for having control accounts

 They provide a check on the accuracy of entries made in the personal
accounts in the receivables ledger and payables ledger. It is very easy to
make a mistake in posting entries, because there might be hundreds of
entries to make. Figures might get transposed. Some entries might be
omitted altogether, so that an invoice or a payment transaction does not
appear in a personal account as it should.
o Compare the total balance on the receivables control account with
the total of individual balances on the personal accounts in the
receivables ledger
o Compare the total balance on the payables control account with
the total of individual balances on the personal accounts in the
payables ledger It is possible to identify the fact that errors have
been made.
 The control accounts could also assist in the location of errors, where
postings to the control accounts are made daily or weekly, or even
monthly. If a clerk fails to record an invoice or a payment in a personal
account, or makes a transposition error, it would be a formidable task to
locate the error or errors at the end of a year, say, given the hundreds or
thousands of transactions during the year. By using the control account, a
comparison with the individual balances in the receivables or payables
ledger can be made for every week or day of the month, and the error
found much more quickly than if control accounts did not exist.
 Where there is a separation of clerical (bookkeeping) duties, the control
account provides an internal check. The person posting entries to the
control accounts will act as a check on a different person whose job it is to
post entries to the receivables and payables ledger accounts.
 To provide receivables and payables' balances more quickly for producing
a trial balance or statement of financial position. A single balance on a
control account is obviously extracted more simply and quickly than many
individual balances in the receivables or payables ledger. This means also
that the number of accounts in the double entry bookkeeping system can
be kept down to a manageable size, since the personal accounts are
memorandum accounts only and the control accounts instead provide the
accounts required for a double entry system.
However, particularly in computerised systems, it may be feasible to use receivables and

payables ledgers without the need for operating separate control accounts. In such a system,
the receivables or payables ledger printouts produced by the computer constitute the list of
individual balances as well as providing a total balance which represents the control account
balance.

Q1 Alpha received a statement of account from a supplier Beta, showing a balance to be
paid of $8,950. Alpha’s payables ledger account for Beta shows a balance due to Beta
of $4,140.
Investigation reveals the following:
(1) Cash paid to Beta $4,080 has not been allowed for by Beta.
(2) Alpha’s ledger account has not been adjusted for $40 of cash discount disallowed by
Beta.
(3) Goods returned by Alpha $380 have not been recorded by Beta.
What discrepancy remains between Alpha’s and Beta’s records after allowing for these
items?
A $9,310 B $390 C $310 D $1,070
Q2 Max is a supplier to Eddie’s cake making business. At 31 August Max sent a

statement to Eddie showing a balance due of $2,300. On the same date, Max’s
account in Eddie’s records showed a balance of $2,100.
Which of the following could account for the difference in full?
A Max has issued a credit note to Eddie for $200 but Eddie has not yet received it
B The credit side of Max’s account in Eddie’s ledger has been overcast by $200
C The debit side of Max’s account in Eddie’s ledger has been undercast by $200
D An invoice for $100 from Max has been treated as a credit note by Eddie
Q3 The payables ledger control account of Hermione showed a credit balance of

$465,800. The individual supplier accounts in her payables ledger totalled $470,500.
Which of the following could account in full for the difference?
A Discounts received of $4,700 have not yet been recorded
B A supplier account showing a debit of $2,350 has been listed as a credit
C An invoice of $4,700 has not been recorded in the purchase day book

D A contra of $2,350 has been recorded as a credit in the control account
Q4 Ferris is performing a receivables ledger reconciliation. The balance on his receivables

ledger control account is $231,780 and the total of the balances on his receivables
ledger accounts is $227,900.
After accounting for the following errors, what difference remains between the control
account and receivables ledger total?
(1) An invoice for $430 was omitted from the sales day book.
(2) The sales day book was overcast by $2,100.
(3) A credit note for $200 in the favour of a customer was debited to the customer’s account
in the receivables ledger.
A $2,310 B $1,880 C $1,680 D $2,110
Q5 The following errors are found when producing a receivables ledger reconciliation:
(1) A contra agreed with a customer who is also a supplier has not been recorded in the
accounts.
(2) The discounts allowed column in the cash book has been undercast.
(3) A credit balance on a customer’s account has been included as a debit balance.
(4) A cheque from a customer has been entered in the cash book at the wrong amount.
Which of these errors requires an entry in the receivables ledger to make the correction?
A 1, 3 and 4 only B 2 and 4 only
Q6 Clarabel received a statement from Annie, her supplier, showing a balance of $4,500.
Clarabel’s records show that she owes Annie $4,230. Clarabel discovers the following:
(1) She has recorded a settlement discount of $100 twice in her purchases ledger.
(2) Annie has not accounted for the same discount at all.
(3) Annie has not allowed for a cheque for $40 sent by Clarabel.

After allowing for these items, what discrepancy remains?
A $510 B $310 C $30 D $230
Q7 Alpha buys goods from Beta. At 30 June 2010 Beta’s account in Alpha’s records
showed $5,700 owing to Beta. Beta submitted a statement to Alpha as at the same
date showing a balance due of $5,200. Which one of the following would explain the
difference between the two balances?
A Alpha has sent a cheque to Beta for $500 which has not yet been received by Beta.
B The credit side of Beta’s account in alpha’s records has been undercast by $500.
C An invoice for $250 from Beta has been entered in Alpha’s records as if it had been a credit
note.
D Beta has issued a credit note for $500 to Alpha which Alpha has not yet received.
Q8 Ordan received a statement from one of its suppliers, Alta, showing a balance due of
$3,980. The amount due according to the payables ledger account of Alta in Ordan’s
records was only $230. Comparison of the statement and the ledger account revealed
the following.
1 A cheque sent by Ordan for $270 has not been allowed for in Alta’s statement.
2 Alta has not allowed for goods returned by Ordan $180.
3 Ordan made a contra entry, reducing the amount due to Alta by $3,200, for a balance due
from Alta in Ordan’s receivables ledger. No such entry has been made in Alta’s records.
What difference remains between the two companies’ records after adjusting for these
items?
A $460 B $640
C $6,500 D $100
Q9 You were given the following information:
Receivables at 1 January 20X3 $10,000
Receivables at 31 December 20X3 $9,000

Total receipts during 20X3 (including cash sales of $5,000) $85,000
What was the value of credit sales in the year to 31 December 20X3?
A $81,000 B $86,000 C $79,000 D $84,000
Q10 George is preparing the general ledger journal entry to write off an
irrecoverable debt. He knows that the debit entry should be made in the receivables
expense account.
In which general ledger account should the credit entry be made?
A Sales account B Bank account
C Receivables account D Receivables allowance account
Q11 Which of the following are reasons for maintaining control accounts?
(i) To simplify the preparation of final accounts
(ii) To check the accuracy of postings
(iii) To confirm the value of sales
(iv) To assist in locating errors in posting
A (i), (ii) and (iii) B (i), (iii) and (iv) C (i), (ii) and (iv) D (ii), (iii) and (iv)
Q12 When posting an invoice for car repairs, $870 was entered on the correct side
of the motor expenses account. The invoice was for $780.
What correction should be made to the motor expenses account?
A Debit $90 B Credit $90 C Debit $1,650 D Credit $1,650
Q13 Shirley has prepared the following reconciliation of the balance on the
receivables ledger control account in her general ledger to the total of the list of
balances on customers' personal accounts:

$
Balance on general control account 35,776
Less balance omitted from list of balances 452
35,324
Add sales day book undercast 900
Total of list of balances 36,224
What is the correct balance of receivables to be reported on the statement of financial

position?
A $35,324 B $35,776 C $36,224 D $36,676
Q14 Tony made one error when he posted the total value of invoices from the
purchase daybook to the general ledger. He posted $274,865 to the debit side of the
purchases account. The correct total was $274,685.
How is the trial balance affected by this error?
A The total of the debit balances and the total of the credit balances will agree, but will be
overstated
B The total of the debit balances and the total of the credit balances will agree, but will be
understated
C The total of the debit balances will exceed the total of the credit balances
D The total of the credit balances will exceed the total of the debit balances
Q15 The balance on Jane’s payables ledger control account is $31,554. Jane has
discovered that she has not recorded:
(i) A settlement discount of $53 received from a supplier; and
(ii) A supplier’s invoice for $622.
What amount should be reported for payables on Jane’s statement of financial position?
A $30,879 B $30,985 C $32,123 D $32,229

Q16 Anne has prepared the following reconciliation between the balance on her
trade payables ledger control account in her general ledger and the list of balances
from her suppliers ledger:
Balance on general ledger control account 68,566
Credit balance omitted from list of balances from payables ledger (127)
68,439
Undercasting of purchases day book 99
What balance should be reported on Anne’s statement of financial position for trade
payables?
A $68,439 B $68,538
C $68,566 D $68,665
Q17 A suspense account shows a credit balance of $130.
This balance could be due to which of the following?
A Omitting a sale of $130 from the receivables account
B Recording a purchase of $130 twice in the purchases account
C Failing to write off a bad debt of $130
D Recording an electricity bill paid of $65 by debiting the bank account and crediting the
electricity account.
Q18 When Nicola extracted her trial balance, the total of the debit balances
exceeded the total of the credit balances by $1,000. She opened a suspense account
to make the two totals equal. She then discovered that an invoice received for
property repairs for $1,500 was entered as $500 on the credit side of the property
repairs account.

What is the revised balance on the suspense account when Nicola corrects this error?
A $Nil B $2,000 debit C $2,000 credit D $3,000 credit
Q19 Which of the following statements is/are correct?
(i) A separate suspense account should be opened for each error in the ledgers.
(ii) A suspense account is sometimes opened to complete postings while more information is
sought on a transaction.
A Neither (i) nor (ii) B (i) only
C (ii) only D (i) and (ii)
Q20 Norma's trial balance includes a suspense account with a credit balance of
$280. She has discovered that a supplier's invoice for $140 was entered twice in the
purchase day book.
What is the balance on the suspense account after this error is corrected?
A $Nil B $140 credit
C $280 credit D $420 credit
Q21 When Jan's trial balance was extracted, the total of the debit balances was
$450 less than the total of the credit balances so a suspense account was opened.
When she checked, Jan found that:
(i) A supplier's invoice for $225 had been debited to both the expense account and the
payables control account.
(ii) A cash sale for $900 had been omitted from the accounting records.
When these errors are corrected, what is the balance on the suspense account?
A $900 debit B $900 credit
C $1,800 debit D $1,800 credit

Q22 When Pete’s trial balance was extracted, the total of the debit balances was
$420 less than the total of the credit balances. He opened a suspense account while
he checked the entries. He then found that:
(i) A cash sale for $80 was entered correctly in the cash account, but no entry was made in
the sales account.
(ii) When journal entries were posted to the general ledger, a debit entry of $100 for
expenses was incorrectly posted as a credit entry of $700.
When Pete corrects these errors what is the balance on his suspense account?
A $300 credit B $460 credit
C $1,140 debit D $1,300 debit
Q23 When Keith's trial balance was extracted, a suspense account was opened as
the total of the debit column was $400 greater than the total of the credit column.
Keith then found that a cash purchase of stationery for $200 was correctly entered in
the cash account, but was entered on the wrong side of the stationery account.
When the error is corrected, what is the balance on the suspense account?
A $Nil B $200
C $600 D $800
Q24 Which of the following would require an adjustment to be made to both the
receivables ledger control account and the list of balances?
A The sales day book being undercast by $900
B The failure to record anywhere in the books a contra entry between Mr. Gibson's
receivables ledger account and his payables ledger account
C The posting of an invoice for $150 to the account of Mr Jones rather than Mr Johns
D The figure for the sums received from customers of $3,214 in the cash received day book
being posted to the receivables ledger control account as $2,314

Q25 Fred is reconciling the balance on his payables ledger control account with the
total of the list of balances from his payables ledger. A debit balance of $200 on a
supplier's account has been included in the list of balances as a credit balance.
What adjustment(s) should be made for this error?
Control account List of balances
A Credit $400 Increase total by $200
B Credit $200 Reduce total by $400
C No adjustment Reduce total by $400
D Debit $400 No adjustment
Q26 Ned is reconciling the balance on his payables ledger control account with the
total of the list of balances from his payables ledger. The purchases day book has
been overcast by $1,000.
What adjustment(s) should be made for this error?
Control account List of balances
A Debit $1,000 No adjustment
B Debit $2,000 Reduce total by $2,000
C Credit $1,000 No adjustment
D No adjustment Increase total by $1,000
Q27 Carol has prepared the following reconciliation of the balance on the payables
ledger control account in her general ledger with the list of balances on the payables
ledger:
Total list of balances 86,579
Balance omitted from list 1,385
Balance on control account 87,964

What should be reported in Carol's statement of financial position for trade payables?
A A current asset of $86,579 B A current liability of $86,579
C A current asset of $87,964 D A current liability of $87,964
Q28 The balance on Amy's receivables ledger control account in the general ledger
is $100 more than the total listing of the balances on the personal accounts.
Which of the following treatments of an invoice for $100 could have caused this difference?
A The invoice was entirely omitted
B The invoice was entered on the credit side of the personal account
C The invoice was not entered in the personal account
D The invoice was entered twice in the personal account
Q29 How should the balance on the receivables ledger control account be reported
in the final accounts?
A As an expense account B As a non-current asset
C As a current asset D As a current liability
Q30 At 1 November 20X4 Brian owed $28,754 to his suppliers. During the year he
paid his suppliers a total of $185,844. At 31 October 20X5 he owed $26,189.
What was the value of Brian's credit purchases in the year to 31 October 20X5?
A $130,901 B $183,279 C $188,409 D $240,787
Q31 Which of the following statements is/are correct?
(i) The receivables ledger control account balance must be correct if it agrees with the total
of the list of balances from the receivables ledger.
(ii) If there is a difference between the balance on the receivables ledger control account and
the total of the list of balances from the receivables ledger, the balance on the control
account is always correct.
A Both (i) and (ii) B Neither (i) nor (ii) C (i) only D (ii) only

Q32 y's bookkeeper has prepared the following trade payables ledger
reconciliation:
Balance on general ledger control account 78,553
Less discount not recorded in general ledger 128
78,425
Add debit balance of $100 included on list of balances as credit balance 200
What is the correct payables balance to be reported in the statement of financial position?
A $78,425 B $78,553 C $78,626 D $78,753
Q33 When carrying out the reconciliation of the balance on the receivables ledger
control account with the list of balances from the receivables ledger, Tom found the
following:
(i) The total of the sales day book was overcast by $90.
(ii) A sales invoice for T. Blair was posted to J. Blair's account.
(iii) An invoice to a customer for $650 had been recorded as $560 in the sales day book.
Which of the errors will require an entry in the general ledger?
A (i), (ii) and (iii) B (i) and (ii) only
C (i) and (iii) only D (ii) and (iii) only
Q34 While carrying out the reconciliation of the balance on the payables control
account in the general ledger with the list of balances from the payable ledger, Celine
discovered the following errors:
(i) A payment of $1,700 in full settlement of a balance of $1,714 was correctly recorded on
the supplier's account but only $1,700 was posted to the control account.
(ii) The total of the purchase day book was understated by $900.

(iii) A supplier's credit note was incorrectly recorded the daybook as an invoice.
(iv) No entries were made to record an arrangement to offset a balance of $620 against a
balance in the receivables ledger.
Which of the above errors require a correcting entry in the general ledger?
A (i) and (ii) only B (ii) and (iii) only
C (iii) and (iv) only D (i), (ii), (iii) and (iv)
Q35 Which of the above errors should be dealt with as an adjustment to the list of
balances from the payables ledger?
A (i) and (ii) only B (ii) and (iii) only
C (iii) and (iv) only D (i), (ii), (iii) and (iv)
Q36 When preparing the reconciliation between the balance on the receivables
ledger control account in her general ledger and the total of the list of balances from
the personal ledger, Avril discovered the following errors:
(i) An invoice for $375 was entered in the daybook as a credit note.
(ii) An addition error meant that a customer's balance was understated in the personal
ledger.
(iii) Avril agreed to offset a balance in the receivables ledger against a balance in the
payables ledger, but no entries were made.
Which of the errors require an entry in the general ledger?
A (i), (ii) and (iii) B (i) and (ii) only
C (ii) and (iii) only D (i) and (iii) only

Chapter 11 Bank Reconciliation statement

Bank reconciliation statement
 When deposit cash in bank we Dr the bank account in cash book because
bank is an asset which increases. At the same time bank Cr our account
because liability of bank increases
 When we withdraw cash from bank we Cr the bank account in cash book
because bank is an asset which decreases. At the same time bank Dr our
account because liability of bank decreases
 At the end of month bank balance in cash book is either Dr (Normal) or Cr

(Overdraft). Bank statement shows normal balance as Cr and overdraft as
Dr
 There may be difference in balance in cash book and that shown in bank
statement.
Reasons for differences

Entries made by bank but not by business and errors in cash book
There may be certain transactions that are not recorded in cash book or there
may be errors in cash book. These are to be treated in revised cash book
1. Bank charges Cr
Bank deducts service charges from the account of business and debit the business bank
account (decrease in bank liability) but it is not recorded in cash book. When cash book
is revised bank charges are credited in cash book.
2. Standing order Cr
Standing order is payment (Rent salaries etc) by bank from business bank account on
instruction of bank. Amount and time of payment is decided by business (payer)
3. Direct debit Cr
Direct debit is also payment (utility bills) by bank on behalf of business. Timing and
amount is decided by receiver.

4. Dishonoured Cheque Cr
When business receives cheque from customer and deposits it in bank, bank account is
debited. However if a cheque dishonours later on bank is credited
5. Any other payment by bank Cr
6. Traders credit or credit transfer Dr
It is amount directly deposited in bank so bank is debited
7. Dividend received Dr
8. Any other receipt Dr
9. Error in cash book Dr/Cr
Entries made by business but not by bank and errors in bank statement
There may be certain transactions that are not recorded in bank statement or
there may be errors in bank statement. These are to be treated in bank
reconciliation statement
1. Unpresented cheques Dr
2. Uncredited Cheques Cr
3. Errors in bank statement Dr/Cr
Un-presented cheques are those cheques which are issued by business and credited in cash
book but not debited in bank statement
Uncredited cheques are those cheques which are received by business and debited in cash
book but not credited in bank statement

1 Balance as per cash book (unadjusted balance) Dr/Cr
Bank charges Cr
Standing order Cr
Direct debit Cr
Dishonoured Cheque Cr
Any other payment by bank Cr
Traders credit or credit transfer Dr
Dividend received Dr
Any other receipt Dr
Error in cash book Dr/Cr
2 Balance as per revised cash book (Adjusted balance) Dr/Cr
Unpresnted cheques Dr
Uncredited Cheques Cr
Error in bank statement Dr/Cr
3 Balance as per bank statement Dr/Cr
Note: Revised cash book balance is taken to trial balance or statement of financial position.

Q1 At 31 December 1997, a customer's bank statement shows that his bank
account is overdrawn by $10 136. At that date, cheques drawn on his account,
but not yet presented to the bank, totaled $4 998 and cheques paid into his
account, but not yet credited by the bank, totalled $5 896. His bank statement
shows that interest of $181 has been charged, but this has not yet been entered
in the cash book.
What is the correct bank balance to be shown in the balance sheet at 31 December 1997?
A $9 057 overdrawn B $9 238 overdrawn
C $10 853 overdrawn D $11034 overdrawn
Q2 The table shows extracts from business bank reconciliation.
Cash book balance in hand at.31 December $2075
Balance as per bank statement at 31 December $2250
Bank charges per bank statement not entered in cash book $150
Outstanding cheques not presented at the year end $325
What is the bank balance to be shown in the financial statements?
A $1600 B $1925 C $2075 D$2 225
Q3 In the cash book of a company the 'bank account showed a credit balance of $5
000. There were unpresented cheques amounting to $1 500. The bank
statement showed bank charges of $700 not in the cash book.
What is the balance on the bank statement?
A $3 300 debit B $4 200 debit
C $4 200 credit D $5 800 credit
Q4 The balance at bank In X's cash book at 30 April is $12 460 debit. However, a
cheque for $14 470 received from Yanda cheque for $1 740 paid to Z appears in
the cash book but not on the bank statement.

Bank charges of $4 500 have not been entered in the cash book..
What is the balance shown on the bank statement at 30 April?
A $4 770 credit B $4770 debit C $20 690 credit D $20 690

debit
Q5 A bank reconciliation statement shows a credit balance of $400 in the Cash

Book and a balance in hand of $100 in the bank statement.
The bank reconciliation statement includes unpn3ented cheques of $700 in addition to

cheques banked and not yet credited in the bank statement.
What is the total of cheques banked and not yet credited?
A $200 B $400 C $1000 D $1200
Q6 A bank statement shows a credit balance of $8 360. Comparison with the cash
book reveals:
• Cheques totaling $18 725, sent to suppliers, have not been presented.
• Cheques totaling $16 223, received from customers, have not been credited by the bank.
• Bank charges of $124 have not been entered in the cash book.
What is the correct cash book balance?
A $5734 credit B $5734 debit
C $5858 debit D$10986 credit
Q7 The bank statement of a business shows an overdraft of $250 at the year end.
There are cheques written but not yet cleared by the bank amounting to $140.
Lodgments not yet credited by the bank amount to $220.
How would the balance in the cash book be shown in the balance sheet?
A current asset 170 B current asset 330
C current liability 170 D current liability 330

Q8 At the year-end a cash book shows a credit balance of $4 800.
The bank statement included bank charges of $25 which had not been included in the cash
book. Cheque payments entered in the cash book before the year end to the value of $250
had not yet cleared the bank.
How would the bank balance be shown in the balance sheet?
A current asset 4 775 B current liability 4825
C current asset 5 025 D current liability 5 075
Q9 The cash book of a business shows a credit balance of $12 500 at 30 June. Bank
charges of $2000 have not yet been entered in the cash book.
A cheque for $20 000 received from a debtor, and a cheque for $3000 paid to a creditor have
been entered in the cash book, but have not yet been shown on the bank statement.
What is the balance shown on the bank statement at 30 June?
A $2 500 credit · B $2500 debit
C $31500 credit D$31500 debit
Q10 The following items are recorded in the cash book of a business but not yet
recorded in its bank statement:
Cheques drawn 3000
Amounts banked 250
The cash book shows a bank overdraft of $2 600. What is the balance on the bank
statement?
A $150 in hand B$150 overdraft
C $400 in hand D $400 overdraft
Q11 At the financial year end of a business the fowling information is available.
Debit balance on the bank statement #1000
unpresented cheques $300

uncleared lodgments $600
Bank charges and interest charged not yet entered in the cash book $150
What is the current balance in the cash book?
A $400 credit B $400 debit C $550 credit D $550 debit
Q12 A business is preparing a bank reconciliation and finds the following.
unpresented cheques $3190
uncredited bankings $1949
The cash book has a debit balance of $5 000.
Which adjustments should be made to the cashbook balance to reconcile It to the bank
statement?
A minus $3 190, minus $1 949 B plus $3 190, minus $1 949
C minus $3 190, plus $1 949 D plus $3 190, plus $1 949
Q13 The following bank reconciliation statement has been prepared for a
company:
Overdraft per bank statement 39,800
add: Deposits credited after date 64,100
–––––––
103,900
less: Outstanding cheques presented after date 44,200
–––––––
Overdraft per cash book 59,700
Assuming the amount of the overdraft per the bank statement of $39,800 is correct,

what should be the balance in the cash book?
A $158,100 overdrawn B $19,900 overdrawn
C $68,500 overdrawn D $59,700 overdrawn as stated
Q14 Listed below are five potential causes of difference between a company’s cash
book balance and its bank statement balance as at 30th November 2009:
(1) Cheques recorded and sent to suppliers before 30th November 2009 but not yet
presented for payment.
(2) An error by the bank in crediting to another customer’s account a lodgement made by the
company.
(3) Bank charges.
(4) Cheques paid in before 30th November 2009 but not credited by the bank until 3rd
December 2009.
(5) A cheque recorded and paid in before 30th November 2009 but dishonoured by the bank.
Which of the following alternatives correctly analyses these items into those requiring an
entry in the cash book and those that would feature in the bank reconciliation?
Cash book entry Bank reconciliation
A 1, 2, 4 3, 5
B 3, 5 1, 2, 4
C 3, 4 1, 2, 5
D 2, 3, 5 1, 4
Q15 In preparing a company’s bank reconciliation statement at March 2010, the

following items are causing the difference between the cash book balance and
the bank statement balance:
(1) Bank charges $380

(2) Error by bank $1,000 (cheque incorrectly debited to the account)
(3) Lodgements not credited $4,580
(4) Outstanding cheques $1,475
(5) Direct debit $350
(6) Cheque paid in by the company and dishonoured $400
Which of these items will require an entry in the cash book?
A 2, 4 and 6 B 1, 5 and 6
C 3 and 4 D 3 and 5
Q16 In reconciling a business cash book with the bank statement, which of the
following items could require a subsequent entry in the cash book?
(1) Cheques presented after date
(2) A cheque from a customer which was dishonoured
(3) An error by the bank
(4) Bank charges
(5) Deposits credited after date
(6) Standing order entered in bank statement
A 2, 3, 4 and 6 B 1, 2, 5 and 6 C 2, 4 and 6 D 1, 3 and 5
Q17 The following bank reconciliation statement has been prepared for Sprout:
Overdraft per bank statement 68,100
Deposits not credited 141,200
Outstanding cheques ?
–––––––
Balance per cash book 31,300

Which of the following is the correct missing figure?
A $178,000 B $104,400 C $41,800 D $240,600
Q18 Sigma’s bank statement shows an overdrawn balance of $38,600 at 30 June

2010. A check against the company’s cash book revealed the following
differences.
1 Bank charges of $200 have not been entered in the cash book.
2 Lodgements recorded on 30 June 2010 but credited by the bank on 2 July 2010 $14,700.
3 Cheque payments entered in cash book but not presented for payment at 30 June 2010
$27,800.
4 A cheque payment to a supplier of $4,200 charged to the account in June 2010 recorded in
the cash book as a receipt.
Based on this information, what was the cash book balance BEFORE any adjustments?
A $43,100 overdrawn B $16,900 overdrawn
C $60,300 overdrawn D $34,100 overdrawn
Q19 The following bank reconciliation statement has been prepared by an

inexperienced bookkeeper at 31 December 2009.
Bank reconciliation statement
Balance per bank statement (overdrawn) 38,640
Add: Lodgements not credited 19,270
57,910
Less: Unpresented cheques 14,260
Balance per cash book 43,650
What should the final cash book balance be when all the above items have been properly
dealt with?
A $43,650 overdrawn B $33,630 overdrawn C $5,110 overdrawn D $72,170 overdrawn

Chapter 12 Petty cash

What items are paid for out of petty cash?
 Travel expenses of employee on official business

 Weekly milk bill
 Items from local shop, eg tea, coffee emergency stationery stamps
 Monthly office window cleaner
Security and control of petty cash
The petty cashier

(a) The petty cashier has to make sure that the cash is held in a safe place.
(b) He or she will make the actual payments of cash.
(c) He or she must ensure that all payments are properly authorised and are being made for
valid reasons.
The petty cash box

Petty cash must be kept secure. It is usual to keep it in a lockable box or tin, and to keep the
box or tin a locked drawer.
Authorisation and authorisation limits

Payments out of petty cash should be properly authorised by the appropriate person.
(a) The petty cashier might be permitted to authorise individual payments up to a certain
limit, (b) For payments in excess of the petty cashier's authorisation limit, the authorisation
should be made by the petty cashier's supervisor (or perhaps other nominated individuals),
(c) In exceptional cases, a petty cash payment in excess of the maximum limit might be
permitted, subject to authorisation by a nominated senior person in the organisation.
Receipts
If there is no receipt to support a claim for payment, the petty cashier should refer the claim
to his or her supervisor.

Sales tax receipts
If there is an amount for sales tax in a payment, and the tax can be claimed back from the
authorities, the receipt must be a sales tax receipt, showing these details.
 The total payment

 The tax paid
 The supplier's name, address and sales tax registration number
 The date of the transaction
No available receipts
Payments out of petty cash will sometimes be requested by individuals who do not have a
receipt to back up their request for cash. The payment should be sanctioned by an authorised
person, perhaps by the supervisor or manager of the individual who is asking for the cash
The imprest system

The imprest system is a system in which there is a maximum amount of money in petty cash,
the imprest amount. The imprest amount varies from one organisation to another, and
might be enough to make petty cash payments for about one month.
Topping up petty cash

Notes and coins in petty cash box X
plus IOUs X
plus payment vouchers X
less receipt vouchers (X)
equals imprest amount X
Prepare cheque requisition
Imprest amount X
less Cash in petty cash box (X)
Cheque requisition X

Non-imprest methods
Some companies do not operate a strict imprest system. For example, they may reimburse
petty cash with $100 whenever the float gets low. This is quite acceptable as long as the
float is balanced and the petty cash book is correctly written up.
Petty cash vouchers

The petty cashier is responsible for keeping a record of all the payments that are made out of
petty cash.
The initial record of payment is the petty cash voucher.
When completed, a voucher should contain the following details.
 Details of the payment (the purpose for which the payment has been made)
 The amount paid
 The name and signature of the person receiving the cash
 The authorising signature of the person who has authorised the payment
 The date of payment
 The number of the voucher (see Paragraph 4.2 below)
 The relevant receipt(s) stapled to it
Voucher numbers
Every petty cash voucher must be given a unique voucher number. It is normal to number
them in sequence, starting at 1 and going on (into thousands or tens of thousands). Usually,
vouchers are numbered in sequence for each year, starting at 1 with the first voucher each
year.
Petty Cash payments for expenses not yet incurred

There will be occasions when someone needs petty cash to go out and buy an item, because
he or she does not have enough cash to buy the item first and then claim back from petty
cash.
(a) Payments in advance must be authorised by a supervisor or office manager.
(b) The petty cashier should write out a petty cash voucher, but insist that the person who is
given the cash should provide a receipt and give back any change as soon as possible.

(c) When the voucher and the change are eventually received, the petty cashier should alter
the voucher to show the exact amount of the payment.
Checks on petty cash and vouchers

Each week, the petty cashier will probably write out a large number of petty cash vouchers
and make a large number of payments. For security and control reasons, there ought to be
regular checks on the float, perhaps once a week.
Notes and coins in petty cash box X
plus total value of vouchers in the petty cash box X
equals imprest amount X
IOUs and petty cash

In some organisations, some individuals are permitted to borrow money from petty cash for
a day or so, but they must of course pay the money back. When someone borrows cash, he
or she must put an IOU into the petty cash box.

Q1 Which of the following describes the term 'petty cash'?
A Small payments in cash not dealt with through the business bank account
B A small float accessible by all members of staff for minor expenditure
C Used to reimburse employees for expenditure undertaken for business purposes
D Expenditure not subject to limits
Q2 Which of the following is an example of a payment which could be made out of petty
cash? (The petty cash float is $100.)
A Payment of an employee's parking fine whilst on company business – $25
B Purchase of a concrete mixer – $275
C The first instalment of a lease agreement ($15 per month) for office equipment
D Purchase of postage stamps – $7.57
Q3 A petty cash imprest is $500. A spot check by the auditors of the petty cash revealed
cash in hand of $45. In addition valid vouchers to the value of $395 were produced by the
cashier. How much cash is missing?
A $60 B $455
C $395 D $350
Q4 Your company has a petty cash imprest of $750, this is to be increased to $800. At the
end of the month the cash in hand was $57 and receipts and vouchers totalled $673. In
addition the cash box contained an IOU from a member of staff for $20. How much cash is
withdrawn from the bank to restore and increase the imprest?
A $723 B $800
C $743 D $653

Q5 A petty cash purchase is made costing $79.20, inclusive of sales tax at 20%. Which of
the following entries is correct?
A DR expense $66.00, DR sales tax $13.20 CR cash $79.20
B DR cash $79.20, CR sales tax $13.20, CR expense $66.00
C DR expense $63.36, DR sales tax $15.84, CR cash $79.20
D DR cash $79.20, CR sales tax $15.84, CR expense $63.36
Q6 Which of the following items will not appear on a petty cash voucher?
A Purpose of the expenditure and details
B Name and signature of petty cashier
C Name and signature of recipient
D Name and signature of person authorising payment
Q7 A petty cash imprest system is in operation with a float of $150 being maintained.
There are voucher in the box totalling $76 and IOUs totalling $35. There is $29 in the box and
$10 travel advance has just been given to a member of staff.
How much should be drawn from the bank to restore the imprest?
A $110 B $120
C $76 D $121
Q8 Which of the following items would be likely to be paid out of petty cash?
(i) Payment to window cleaner $10
(ii) Hire purchase payment for a delivery van $123
(iii) A payment for postage stamps $11.60
(iv) A payment to a supplier for goods bought on credit of $65
A All of the above B (i), (iii) and (iv)
C (i) only D (i) and (iii)

Q9 On the first day of every month cash is drawn from the bank to restore the petty cash
imprest level to $75. The opening balance on 1 November was $22; on that date $53 was
drawn from the bank and expenditure during the month was £16
How much should be drawn from the bank to restore the imprest level on 1 December?
A $75 B $53
C $37 D $16
Q 10 The source document for recording petty cash transactions is:
A An invoice
B A till receipt
C A petty cash IOU
D A petty cash voucher
Q11 What is the prime document used to record petty c.ash transactions in the
petty cash book?
A An invoice B A till receipt
C A petty cash I.O.U. D A petty cash voucher
Q12 A petty cash system operates on a $120 lmprest system. At the end of a
month there Is $67.23 of valid petty cash vouchers in the petty cash box. How much
cash should be taken out of the bank account In order to restore It to the correct
amount?
A $52.77 B $67.23
C $120.00 D $187.23

Q13 A cash advance of $20 is taken out of the petty cash box by an employee for
refreshments for a client and an authorised voucher for $20 put into the petty cash
box. The employee only spends $17.65 on refreshments.
What Is the petty cash procedure required?
A The employee keeps the change of $2.35
B The employee keeps the change of $2.35 and the petty cash voucher is altered to read
$17.65
C The employee returns the $2.35
D The employee returns the $2.35 and the petty cash voucher is altered to read $17.65
Q14 A petty cash system Is run on an imprest system of $100. At the end of March
the cash in the petty cash box totalled $36.58 and the vouchers totalled $53.42.
Which of the following would NOT be a valid reason for the difference?
A Money had been taken out of the petty cash box without an authorised voucher to support
it.
B The incorrect amount of cash had been paid out of the petty cash box in for an authorised
voucher.
C A petty cash voucher had been made out for the wrong amount but the amount of cash
paid out agreed with the voucher.
D A petty cash voucher had been made out for the wrong amount but the correct amount of
cash had been paid out.
Q15 Henry is preparing a bank paying· in slip at the end of the day in his shop. His t
ill roll shows sales of $193.24. Henry always maintains a float of $25 in the till and
takes $20 each day as his wages.
How much will Henry pay Into the bank today?
A $213.24 B $193.24
C $173.24 D $148.24

Q16 For which of the following payments would petty ca.sh NOT normally be
used?
A $9.50 for cleaning the shop windows
B $26.00 for coffee and tea for office staff
C $125.00 invoice for postage via a courier
D $37.00 train fare to a business conference
Q17 At the beginning of March, the petty cash tin contained a float of $65. During
the month, petty cash payments totalled $64 and a cheque for $50 was cashed at
the bank to replenish the float.
What was the float at the beginning of April?
A $1 B $51
C $75 D $80
Q18 Where should the petty cash tin be kept?
A In a drawer B On the desk
C In a safe D On a cabinet
Q19 What is the purpose of petty cash?
A To act as a cash float
B To cover all out of pocket expenses
C To pay small and/or irregular amounts
D To finance the office parties

Q20 How can you ensure that petty cash payments have been made for authentic
expenditure?
A By recording the vouchers immediately in the petty cash book
B By ensuring the petty cash vouchers are signed
C By stapline appropriate receipts to the vouchers
D Allowing only certain employees to have access to petty cash
Q21 What is the double entry to record the reimbursement of the petty cash float?
A Debit : petty cash Credit: cash
B Debit: expenses Credit : cash
C Debit: cash Credit: petty cash
D Debit: cash Credit: expenses

Chapter 13 PPE IAS 16

What is an asset
 A resource
 Controlled by entity
 Usage of which results in future economic benefit
What is depreciation
IAS 16 Property Plant and Equipment defines depreciation as ‘the systematic allocation of
the depreciable amount of an asset over its useful life' (IAS 16 para 6).
In simple terms, depreciation spreads the cost of the asset over the period in which it will be
used.
Depreciation must also be matched to the pattern of use of the asset.
According to IAS 16, the estimated useful life of items of property, plant and equipment must
be regularly reviewed and may be changed if the method no longer matches the usage of the
asset.
IAS 16 says that 'the depreciation method applied to an asset should reflect the pattern in
which the assets future economic benefits are expected to be consumed' (IAS 16 para 60).
Why cost is spread over years rather than treating it as expense

Matching principal
Methods of depreciation
There are two methods which are most commonly used
 Straight line method

 Reducing balance method

Straight line method
Percentage not given
𝐶𝑜𝑠𝑡 − 𝑅𝑒𝑠𝑖𝑑𝑢𝑎𝑙 𝑣𝑎𝑙𝑢𝑒

𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛 𝑓𝑜𝑟 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟 =
𝑈𝑠𝑒𝑓𝑢𝑙 𝑙𝑖𝑓𝑒
Percentage given
𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛 𝑓𝑜𝑟 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟 = %𝑎𝑔𝑒 (𝐶𝑜𝑠𝑡 − 𝑅𝑒𝑠𝑖𝑑𝑢𝑎𝑙 𝑣𝑎𝑙𝑢𝑒)
Reducing balance method
𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛 𝑓𝑜𝑟 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟 = %𝑎𝑔𝑒 (𝐶𝑎𝑟𝑟𝑦𝑖𝑛𝑔 𝑣𝑎𝑙𝑢𝑒)
Where carrying value is
𝐶𝑎𝑟𝑟𝑦𝑖𝑛𝑔 𝑣𝑎𝑙𝑢𝑒 = (𝐶𝑜𝑠𝑡 − 𝐴𝑐𝑐𝑢𝑚𝑢𝑙𝑎𝑡𝑒𝑑 𝑑𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛)
Accumulated depreciation is total depreciation of all preceding years.
NOTE Asset is either depreciated on year wise basis or month wise basis. In case of year wise
depreciation full year depreciation is charged in the year of purchase and no depreciation is
charged in the year of sale. In month wise case asset is depreciated on the basis of months of
use. Month wise base is also called pro rata basis.
Q1 An asset was purchased on 1st April 2010 for $4000. It was sold on 30th june 2013 for
$1200. Calculate profit or loss if
a) Asset is depreciated @20% straight line basis year wise policy
b) Asset is depreciated @20% straight line basis month wise policy
c) Asset is depreciated @25% reducing balance method year wise policy
d) Asset is depreciated @25% reducing balance method month wise policy

Journal entries and ledgers of PPE
Ledger maintained at historical cost

1) Purchase of asset
Asset Dr
Cash/Payable Cr
2) Purchase of asset part exchange
Sometimes an old asset is traded in against new asset. For example a new asset is
purchased for $3000 and old is value at $800. Business has to pay $2200 in cash
Asset Dr 3000
Cash Cr 2200
Disposal Cr 800
3) Asset revalued
When fair market value of an asset is greater than its carrying value and asset may
be revalued.
IAS 16 says that 'If an asset’s carrying amount is increased as a result of a
revaluation, the increase shall be recognised in other comprehensive income and
accumulated in equity under the heading of revaluation surplus' (IAS 16, para 39).
This gain is not recorded in the statement of profit or loss because it is unrealized.
Note that the revaluation surplus within equity is an accumulated revaluation
surplus. The amount recognised within other comprehensive income is the
revaluation surplus accounted for in that year. IAS 16 says that 'if an item of
property, plant and equipment is revalued, the entire class of property, plant and
equipment to which that asset belongs shall be revalued' (IAS 16, para 37). IAS 16
permits a class of assets to be revalued on a rolling basis, provided the valuations are
kept up to date and they are performed within a short period.
IAS 16 says that 'the gain or loss arising from the derecognition of an item of
property, plant and equipment shall be determined as the difference between the net
disposal proceeds, if any, and the carrying amount of the item' (IAS 16, pars 71).
Additionally, IAS 16 says that 'the revaluation surplus included in equity in respect of
an item of property, plant and equipment may be transferred directly to retained
earnings when the asset is derecognised'
Cost 12000
Accumulated depreciation 5000
Fair market value 10000

Carrying value is cost less accumulated depreciation so it is 7000 while fair market
value is 10000 so asset is revalued by 3000
Accumulated dep Dr 5000
Asset Cr 5000
Asset Dr 3000
Revaluation surplus Cr 3000
Combine entry
Acc dep Dr 5000
Asset Cr 2000
Revaluation surplus Cr 3000
4) Asset disposed Off (IAS 16 says that 'the carrying amount of an item of property,
plant and equipment shall be derecognised on disposal or when no future economic
benefits are expected from its use or disposal')
Cost 6000
Acc dep 4200
Sale price 2000
Disposal Dr 6000
Asset Cr 6000
Disposal Cr 4200
Cash Dr 2000
Disposal Cr 2000
Note Balancing figure in disposal account is profit or loss
Combine entry
Cash Dr 2000
Asset Cr 6000
Income statement Cr 200

5) Depreciation for the year
Dep Dr
Accumulated dep Cr
6) Incremental depreciation on revalued asset
Revaluation surplus Dr
Retained Earnings Cr
Note: same entry is passed to transfer balance of revaluation surplus to retained earning if
revalued asset is disposed of.
Question
An asset was purchased for $3000 and depreciated @20% reducing balance method. At end
of year 3 the fair market value of asset was $ 1800.
a) Calculate revaluation surplus at end of year 3 and make journal entries.

b) Calculate incremental depreciation of year 4 and calculate remaining balance of
revaluation surplus at end of year 4 and make journal entries
c) If asset is sold for $ 300 at end of year 5 make journal entries.
7) Provision for dismantling cost
Sometimes it is an obligation of entity to dismantle asset after useful. In that case
provision is created at present value of estimated dismantling cost. Every year
finance cost related to provision is also recorded.
Asset Dr
Provision Cr
Finance cost Dr
Provision Cr
𝐸𝑠𝑡𝑖𝑚𝑎𝑡𝑒𝑑 𝑑𝑖𝑠𝑚𝑎𝑛𝑡𝑙𝑖𝑛𝑔 𝑐𝑜𝑠𝑡
𝑃𝑟𝑒𝑠𝑒𝑛𝑡 𝑣𝑎𝑙𝑢𝑒 𝑜𝑓 𝑑𝑖𝑠𝑚𝑎𝑛𝑡𝑙𝑖𝑛𝑔 𝑐𝑜𝑠𝑡 =
(1 + 𝑖)^𝑛
Where
i = cost of capital
n= number of years after which asset has to be dismantled

Example: An entity has to dismantle a building after 20 years. Cost of building is
$20000 and dismantling cost is estimated to be $5000. Make journal entries for year
1 to 4
Ledgers
Asset account maintained at historical cost

Asset account
Balance b/d XXX
Cash/Bank Payable XXX Disposal (cost value) XXX
Part Exchange Acc Dep (revalued asset) XXX
Bank/Cash XXX
Disposal XXX XXX
Revaluation surplus XXX
Provision (for dismantling cost) XXX Balance c/d XXX
XXX XXX
Accumulated depreciation account
Balance b/d XXX
Asset (of asset revalued) XXX Depreciation(for the year) XXX
Disposal (of asset disposed off) XXX
Balance c/d XXX
XXX XXX
Disposal account
Accumulated depreciation XXX
Asset XXX Cash/Asset XXX
Profit (bal fig XXX Loss ( bal fig) XXX
XXX XXX
Question : On 1st jan 2017 books of Y ltd had following balances of non-current assets
Cost $180000
Accumulated depreciation $60000
On 1 april 2017 an asset which was purchased on 1st july 2014 for $40000 was sold
st
for $12000. On 1st September 2017 an asset was purchased for $60000.
Prepare ledgers in following cases

a) Asset is depreciated @20% straight line basis year wise policy
b) Asset is depreciated @20% straight line basis month wise policy
c) Asset is depreciated @25% reducing balance method year wise policy
d) Asset is depreciated @25% reducing balance method month wise policy
Ledger maintained at Carrying Value

Asset account
Balance b/d (carrying value) XXX
Cash/Bank Payable XXX Disposal (carrying value) XXX
Part Exchange Dep (for the year) XXX
Bank/Cash XXX
Disposal XXX XXX
XXX XXX
Disposal account

XXX XXX
Non-current asset registers

Non-current asset registers are, as the name suggests, a record of the noncurrent
assets held by a business. These form part of the internal control system of an
organisation.
Details held on such a register may include:
• cost
• date of purchase
• description of asset
• serial/reference number
• location of asset
• depreciation method
• expected useful life
• carrying amount (net book value)
A non-current asset register is maintained in order to control non-current assets and
keep track of what is owned and where it is kept.

Q 1 Depreciation under straight line method is higher in initial years and lower in later
years. Is this statement true or false?
Q 2 Business depreciates assets @20% straight line basis. It is policy of business to charge
full year depreciation in the year of purchase and none in the year of sale. An asset
was purchased on 1st march at a cost $15400 in 2014. Calculate depreciation for the
year of 2014, 2015, 2016 and 2017 and book value of asset if business prepares its
final accounts on 31st December.
Q 3 Business depreciates assets @20% reducing balance method. It is policy of business
to charge full year depreciation in the year of purchase and none in the year of sale.
An asset was purchased on 1st march at a cost $15400 in 2014. Calculate
depreciation for the year of 2014, 2015, 2016 and 2017 and book value of asset if
business prepares its final accounts on 31st December.
depreciation on prorate basis. An asset was purchased on 1st march at a cost $15400
in 2014. Calculate depreciation for the year of 2014, 2015, 2016 and 2017 and book
value of asset if business prepares its final accounts on 31st December.
to charge depreciation on prorate basis. An asset was purchased on 1st march at a
cost $15400 in 2014. Calculate depreciation for the year of 2014, 2015, 2016 and
2017 and book value of asset if business prepares its final accounts on 31st December.
to charge depreciation on prorate basis. An asset was purchased on 1st march at a
cost $15400 in 2014. Calculate profit or loss on sale of asset if it was sold for $5900
on 30th June 2017. Also pass journal entries for disposal
to charge full year depreciation in the year of purchase and none in the year of sale.
An asset was purchased on 1st march at a cost $15400 in 2014. Calculate profit or
loss on sale of asset if it was sold for $5900 on 30th June 2017. Also pass journal
entries for disposal
full year depreciation in the year of purchase and none in the year of sale. An asset
was purchased on 1st march at a cost $15400 in 2014. Calculate profit or loss on sale
of asset if it was sold for $5900 on 30th June 2017. Also pass journal entries for
disposal

depreciation on prorate basis. An asset was purchased on 1st march at a cost $15400
in 2014. Calculate profit or loss on sale of asset if it was sold for $5900 on 30th June
2017. Also pass journal entries for disposal
Q 10 An asset was sold for $2750 at a profit of $500. Calculate book value of asset
Q 11 An asset was sold for $2750 at a loss of $700. Calculate book value of asset
Q 12 An asset was sold for $2750 at a profit of $950. Calculate book value of asset
Q 13 An asset was sold for $2750 at a loss of $500. Calculate book value of asset
Q 14 An asset was sold for $2750 at a profit of $500. Calculate cost of asset if
accumulated depreciation was $2400
Q 15 An asset was sold for $2750 at a loss of $800. Calculate cost of asset if
accumulated depreciation was $2400
Q 16 An asset with a book value of $2750 at a profit of $500. Calculate cash
received.
Q 17 An asset with a book value of $2750 at a loss of $900. Calculate cash received.
Q 18 For which of the following is ‘accruals’ the most relevant concept?
(1) Depreciation
(2) The recording of opening and closing inventory in the income statement
(3) The recording of deferred income
(4) The valuation of inventory at the lower of cost and net realisable value
A All of them B 1 and 3 only
C 2 and 3 only D 1, 2 and 3
Q 19 At 31st December 2009 Q, a limited liability company, owned a building that

had cost $2,000,000 on 1st January 2005. It was being depreciated at 2% per year.
On 31st December 2009 a revaluation to $3,000,000 was recognised. At this date the
building had a remaining useful life of 40 years.
Which of the following pairs of figures correctly reflects the effects of the revaluation?

Depreciation charge for year Revaluation reserve as at
ended 31st December 2010 31st December 2009
$ $
A 60,000 1,000,000
B 60,000 1,200,000
C 75,000 1,000,000
D 75,000 1,200,000
Q 20 A business purchased a motor car on 1st July 2009 for $20,000. It is to be

depreciated at 20% per year on the straight line basis, assuming a residual value at
the end of five years of $4,000, with a proportionate depreciation charge in the year
of purchase. The $20,000 cost was correctly entered in the cash book but posted to
the debit of the motor vehicles repairs account. How will the business profit for the
year ended 31st December 2009 be affected by the error?
A Understated by $18,400 B Understated by $16,800
C Understated by $18,000 D Overstated by $18,400
Q 21 At 30th September 2008, the following balances existed in the records of Lam:
Plant and equipment: cost 860,000
Accumulated depreciation 397,000
During the year ended 30th September 2009, plant with a written down value of $37,000
was sold for $49,000. The plant had originally cost $80,000. Plant purchased during the year
cost $180,000. It is the company’s policy to charge a full year’s depreciation in the year of
acquisition of an asset and none in the year of sale, using a rate of 10% on the straight line
basis.
What net amount should appear in Lam’s statement of financial position at 30th September
2009 for plant and equipment?
A $563,000 B $467,000 C $510,000 D $606,000

Q 22 Which of the following statements is correct?
A Where assets are revalued, the valuation must be reviewed each year
B If a company adopts a revaluation policy, this must be applied to all non-current assets
C When a revalued asset is disposed of, the revaluation gain becomes realised and should be
transferred to retained earnings
D The revaluation surplus account is a distributable reserve
Q 23 On 23rd January 2010, Tractors bought a machine for use in the production of
its tractors and farm equipment.
The following costs were incurred:
Purchase price 230,000
Sales tax 23,000
Delivery to factory 1,200
Modifications to factory required to install machine 12,000
Maintenance cover for 1 year 10,000
The sales tax payable is recoverable by Tractors.
What amount should be capitalised in the financial statements of Tractors?
A $266,200 B $253,000
C $243,200 D $252,000

Q 24 On 31 May 2009, Ariadne disposed of a non-current asset by way of a part-
exchange agreement. Details were as follows:
Cost of old asset, purchased on 31 May 2001 46,000
Part exchange allowance 5,000
Cost of new asset 50,000
Ariadne depreciates similar assets straight line over ten years on a pro rata basis, to a nil
residual value.
What is the loss on disposal of the old asset and what should be the recorded cost of the new
asset?
A Loss on disposal $4,200: new asset recorded at $45,000
B Loss on disposal $4,200: new asset recorded at $50,000
C Loss on disposal $5,500: new asset recorded at $45,000
D Loss on disposal $5,500: new asset recorded at $50,000
Q 25 IAS 16 Property, Plant and Equipment requires the depreciation of non-current

assets to start when:
A the asset is delivered B the asset is installed and ready for normal use
C the asset starts to be used D the asset is purchased
Q 26 Which of the following statements is correct?
(1) Depreciation aims to ensure that the carrying value of a non-current asset reflects its fair
value.
(2) All non-current assets must be depreciated.

(3) The depreciable amount of a non-current asset is its cost less any residual value.
A All of them B 1 and 3
C 1 and 2 D 3 only
Q 27 The reducing balance method of depreciating non-current assets is more

appropriate than the straight line method when:
A the useful life is infinite
B the asset decreases in value more in the earlier years of use
C the expected residual value is nil
D it is expected that the asset will be replaced within a short period of time
Q 28 A non-current asset register is:
A another name for the non-current asset cost ledger account
B the book of prime entry in which the acquisition and disposal of non-current assets is
recorded
C a detailed list of non-current assets held by the business to help track what is owned and
where it is held
D a list of repairs and maintenance carried out to non-current assets and the associated
costs
Q 29 The following information is available about the business of Dore at 31 August

2010:
Balance on non‐current assets cost account 345,400
Balance on accumulated depreciation account 198,700
Carrying value shown in non‐current asset register 70,300
The following errors have been found:

(1) A disposal has not been recorded in the ledger accounts. The asset had a carrying value
at the date of disposal of $18,400 and was sold for $19,400.
(2) A revaluation has occurred during the year and was not recorded in the register. The
surplus is $50,000.
(3) A new asset costing $10,000 has not been recorded in the register.
Dore charges 20% straight line depreciation with a full charge in the year of acquisition and
none in the year of disposal.
What should be the value of non-current assets in the statement of financial position at 31
August 2010?
A $128,300 B $130,300
C $136,300 D $146,700
Q 30 Grantham’s non-current asset register shows a balance of $345,000 and his

ledger accounts a non-current asset carrying value of $348,000. Which of the
following would explain this discrepancy in full?
A An addition of $15,000 has not been recorded in the register and depreciation of $12,000
has not been recorded in the ledger account
B A disposal was recorded in the ledger accounts at proceeds of $22,000 rather than carrying
value of $10,000. In the register, depreciation of $9,000 on an asset has not been recorded
C An addition of $15,000 has not been recorded in the register and a disposal was deducted
as proceeds of $12,000 rather than carrying value of $22,000. In the ledger accounts, the
depreciation charge of $2,000 relating to an asset was charged twice
D Depreciation of $18,000 has been recorded in the ledger accounts twice and the disposal
of an asset with carrying value of $15,000 has not been recorded in the register
Q 31 Jeremy disposes of an asset during the year ended 31st December 2009. The
following information is relevant:
Cost on 31st December 2007 $45,000
Proceeds on 1st August 2009 $32,000

Jeremy’s depreciates similar assets at 20% reducing balance on a pro rata basis. What is the
charge/credit to the income statement in the year ended 31st December 2009 for the above?
A $4,000 Dr B $4,400 Dr
C $200 Cr D $4,000 Cr
Q 32 The non-current assets of a business entity had a carrying value of $340,000.

An asset which had cost $23,000 was sold for $15,000, at a profit of $2,000.
What is the revised carrying value of non-current assets?
A $317,000 B $327,000
C $323,000 D $325,000
Q 33 A company purchased an asset on 1 January 2007 at a cost of $80,000. The

asset had an expected life of eight years and a residual value of $20,000. Straight-line
depreciation is used. The company’s financial year ends on 31 December. At 31
December 2009, the estimated remaining life of the asset from that date is now
expected to be only three more years, but the residual value is unchanged.
What will be the net book value of the asset as at 31 December 2009, for inclusion in the
statement of financial position?
A $48,750 B $53,750 C $51,250 D $57,500
Q 34 A company purchased an asset on 1 January 2008 at a cost of $800,000. It is

depreciated over 50 years by the straight line method (nil residual value), with a
proportionate charge in the year of acquisition and the year of disposal. The company
uses the revaluation model for this category of non-current assets, and at 31
December 2009 the asset was revalued to $960,000.
The asset was sold on 31 March 2010 for $980,000.
What gain on disposal of the asset will be reported in profit and loss for the year ended
31 December 2010?
A $20,000 B $25,000
C $217,000 D $180,000

Chapter 14 Intangible assets IAS 38

IAS 38 Intangible Assets defines an intangible asset as 'an identifiable non-monetary asset
without physical substance'
 it is a resource controlled by the entity from which the entity expects to derive future
economic benefits,
 it lacks physical substance, and
 it is identifiable and separately distinguishable from goodwill.
In order to meet the definition of an intangible asset, expenditure on an item must be

separately identifiable in order to distinguish it from goodwill. An asset meets the
identifiability criterion when it
 Is capable of being separated from the entity and sold, transferred, licensed, or
rented either individually or in combination with a related contract, asset, or liability
 Arises from contractual or other legal rights, regardless of whether those rights are
transferable or separable from the entity or other rights or obligations
An item may be recognized as an intangible asset when it meets the definition of an

intangible asset (see previous) and meets these recognition criteria
 It is probable that the expected future economic benefits that are attributable to the
asset will flow to the entity.
 The cost of the asset can be measured reliably.
Initially, intangible assets shall be measured at cost. The cost of separately acquired
intangible assets comprises
 Purchase price, including any import duties and nonrefundable purchase taxes, less
discounts and rebates.
 Directly attributable costs of preparing the asset for use.
Directly attributable costs can include employee benefits, professional fees, and costs of
testing.
Costs that cannot be included are
 Costs of introducing new products or services, such as advertising

 Costs of conducting new business
 Administration costs
 Costs incurred while an asset that is ready for use is awaiting deployment
 Costs of redeployment of an asset
 Initial operating losses incurred from operation
Internally Generated Intangible Assets

The Standard sets out rules for the recognition of other internally generated intangible
assets and broadly defines such expenditures as research and development. It proscribes the
recognition of internally generated brands, mastheads, publishing titles, customer lists, and
similar items, because expenditure thereon, like expenditure on internally generated
goodwill, cannot be distinguished from the cost of developing the business as a whole and is
therefore not separately identifiable.
Research and development expenditures

IAS 38 defines research as 'original and planned investigation undertaken with the prospect
of gaining new scientific or technical knowledge and understanding' (IAS 38, para 8).
Development is defined as 'the application of research findings or other knowledge to a plan

or design for the production of new or substantially improved materials, devices, products,
processes, systems or services before the start of commercial production or use' (IAS 38, para
8).
In order to determine whether an internally generated intangible asset qualifies for

recognition, its generation is divided into a research phase and a development phase. If the
two phases cannot be distinguished, then the entire expenditure is classified as research.
Expenditure on research (or the research phase of an internal project) is to be written off as
an expense as and when incurred, as it is not possible to demonstrate that an asset exists
that will generate future economic benefit. Examples include
 Activities aimed at obtaining new knowledge

 The search for, evaluation, and selection of applications of research findings or
knowledge
 The search for alternatives for materials, devices, products, systems, or processes

 The formulation, design, evaluation, and selection of possible alternatives for new or
improved materials, devices, products, systems, or processes
Development expenditure may be recognized as an intangible asset when, and only when, all
of the following can be demonstrated:
 The technical feasibility of completing the asset so that it will be available for use or
sale
 The intention to complete the asset and use or sell it
 The ability to use or sell the asset
 How the asset will generate probable future economic benefit, including
demonstrating a market for the asset’s output, or for the asset itself, or the asset’s
usefulness
 The availability of sufficient technical, financial, and other resources to complete the
development and to use or sell the asset
 The ability to reliably measure the expenditure attributable to the asset during its
development
Examples of activities that may be recognized as intangible assets include
 The design, construction, and testing of pre use prototypes or models

 The design of tools and jigs involving new technology
 The design, construction, and operation of a pilot plant that is not capable of
commercial production
 The design, construction, and testing of a chosen alternative for new or improved
materials, devices, products, systems, or processes
Example: Extreme Inc. is a newly established enterprise. It was set up by an entrepreneur

who is generally interested in the business of providing engineering and operational support
services to aircraft manufacturers. Extreme Inc., through the contacts of its owner, received
a confirmed order from a well-known aircraft manufacturer to develop new designs for
ducting the air conditioning of their aircraft. For this project, Extreme Inc. needed funds
aggregating to $1 million. It was able to convince venture capitalists and was able to obtain
funding of $1 million from two Silicon Valley venture capitalists.
The expenditures Extreme Inc. incurred in pursuance of its research and development project
follow, in chronological order:

 January 15, 20X9: Paid $175,000 towards salaries of the technicians (engineers and
consultants)
 March 31, 20X9: Incurred $250,000 towards the cost of developing the duct and
producing the test model
 June 15, 20X9: Paid an additional $300,000 for revising the ducting process to ensure
that product could be introduced in the market
 August 15, 20X9: Developed, at a cost of $80,000, the first model (prototype) and
tested it with the air conditioners to ensure its compatibility
 October 30, 20X9: A focus group of other engineering providers was invited to a
conference for the introduction of this new product. Cost of the conference
aggregated to $50,000.
 December 15, 20X9: The development phase was completed and a cash flow budget
was prepared. Net profit for the year 20X9 was estimated to equal $900,000
Required
What is the proper accounting treatment for the various costs incurred during 20X9?
Solution
Treatment of various costs incurred during 20X9 depends on whether these costs can be
capitalized or have to be expensed as per IAS 38. Although IAS 38 is clear that costs incurred
during the research phase should be expensed, it is important to note that not all
development costs can be capitalized. In order to be able to capitalize costs, strict criteria
established by IAS 38 should be met. Based on the criteria prescribed by IAS 38, these five
conclusions can be drawn
1. It could be argued that the technical feasibility criterion was established at the end of
August 20X9, when the first prototype was produced.
2. The intention to sell or use criterion was met at the end of August 20X9, when the sample
was tested with the air-conditioning component to ensure it functions. But it was not until
October 20X9 that the product’s marketability was established. The reason is attributable to
the fact that the entity had doubts about the new models being compatible with the air
conditioners and that the sample would need further testing, had it not functioned.
3. In October 20X9, the existence of a market was clearly established.

4. The financial feasibility and funding criterion was also clearly met because Extreme Inc.
has obtained a loan from venture capitalists and it had the necessary raw materials.
5. Extreme Inc. was able to measure its cost reliably, although this point was not addressed
thoroughly in the question. Extreme Inc. can easily allocate labor, material, and overhead
costs reliably.
Therefore, the costs that were incurred before October 20X9 should be expensed. The total
costs that should be expensed = $175,000 + $250,000 + $300,000 + $80,000 = $805,000.
The costs eligible for capitalization are those incurred after October 20X9. However,
conference costs of $50,000 would need to be expensed because they are independent from
the development process.
Thus there are no total costs to be capitalized in terms of IAS 38.
Example
Costs generally incurred by a newly established entity include
1. Preopening costs of a business facility
2. Recipes, secret formulas, models and designs, prototype
3. Training, customer loyalty, and market share
4. An in-house-generated accounting software
5. The design of a pilot plan
6. Licensing, royalty, and stand-still agreements
7. Operating and broadcast rights
8. Goodwill purchased in a business combination
9. A company-developed patented drug approved for medical use
10. A license to manufacture a steroid by means of a government grant
11. Cost of courses taken by management in quality engineering management
12. A television advertisement that will stimulate the sales in the technology industry

Required
Which of the previously mentioned costs are eligible for capitalization according to IAS 38,
and which of them should be expensed when they are incurred?
Solution
Costs that are eligible for capitalization include items 2., 5., 6., 7., and 8.; for item 10., after
initial recognition at cost, both the asset and the grant can be recognized at fair value.
These costs are eligible for capitalization under IAS 38 because
 They meet the criteria of “identifiability” (i.e., they are separable or they arise from
contractual rights).
 It is probable that future economic benefits will flow to the entity.
 These costs can be measured reliably.
 These costs can be measured reliably.
Costs that should be expensed because they do not meet the criteria under IAS 38 include
items 1., 3., and 4. Item 9. is a case of an internally generated intangible asset that can be
capitalized only provided it meets the development criterion. The main issue with item 11. is
that the entity does not have “control” over its workforce. Despite the obvious benefit of
item (l) to the business, such expenditure on advertisement does not meet the criterion of
“control.”
Subsequent treatment of capitalised development expenditure

If a policy of capitalisation is adopted, it should be applied to all projects that meet the
criteria.
 The asset should be amortised over the period that is expected to benefit. This
ensures that costs are matched to the revenue in the statement of profit or loss.
 Amortisation should commence with commercial production and charged over the
period over which the business expects to generate economic benefits.
 Each project should be reviewed at the year end to ensure that the ‘SECTOR’ criteria
are still met. If they are no longer met, the previously capitalised expenditure must be
written off to the statement of profit or loss immediately

Amortisation of an intangible asset
If the useful life of an intangible asset is finite, the capitalized development costs must be
amortised once commercial exploitation begins.
The amortisation method used should reflect the pattern in which the asset’s economic
benefits are consumed by the enterprise. If that pattern cannot be determined reliably, the
straight-line method should be used.
An intangible asset with an indefinite useful life should not be amortised.
An asset has an indefinite useful life if there is no foreseeable limit to the period over which
the asset is expected to generate net cash inflows for the business. Instead, it should be
subject to an annual impairment review.
Measurement of intangible assets
Initial recognition and measurement

IAS 38 Intangible Assets says that 'an intangible asset shall be measured initially at cost' (IAS
38, para 24).
Subsequent measurement
IAS 38 permits either the cost model or the valuation model to be used for subsequent
measurement. If the cost model is applied, an intangible asset 'shall be carried at its cost,
less any accumulated amortisation and any accumulated impairment losses'
For the valuation model to be applied, 'fair value should be measured by reference to an
active market' (IAS 38, para 75). In effect, this requires the intangible assets to be
homogeneous (i.e. identical) in nature. This is very rarely the case and therefore, to all
intents and purposes, intangible assets are accounted for using the cost model. In practical
terms, capitalised development costs would not meet the criteria for the valuation model to
apply and the cost model should always be applied.
In rare situations where the valuation model can be applied, in a similar way to IAS 16
dealing with revaluation of property, plant and equipment, any upward revaluation is
recorded as an item of other comprehensive income for the year and taken to a separate
revaluation surplus for intangible assets within equity on the statement of financial position

Q1 Which of the following four statements are correct?
A If all the conditions specified in IAS 38 Intangible assets are met, the directors can chose
whether to capitalise the development expenditure or not.
B Amortisation of capitalised development expenditure will appear as an item in a

company’s statement of changes in equity.
C Capitalised development costs are shown in the statement of financial position as non-
current assets.
d Capitalised development expenditure must be amortised over a period not exceeding five
years.

Chapter 15 Inventory and incomplete

records
Inventory consists of:
 goods purchased for resale

 consumable stores (such as oil)
 raw materials and components (used in the production process)
 partly-finished goods (usually called work in progress – WIP)
 finished goods (which have been manufactured by the business).
𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠 − 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑠𝑎𝑙𝑒𝑠 = 𝐺𝑟𝑜𝑠𝑠 𝑝𝑟𝑜𝑓𝑖𝑡
𝑁𝑒𝑡 𝑠𝑎𝑙𝑒𝑠 = 𝑆𝑎𝑙𝑒𝑠 − 𝑆𝑎𝑙𝑒𝑠 𝑟𝑒𝑡𝑢𝑟𝑛
𝐶𝑜𝑠𝑡 𝑜𝑓 𝑆𝑎𝑙𝑒𝑠 = 𝑂𝑝𝑒𝑛𝑖𝑛𝑔 𝑖𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 + 𝑛𝑒𝑡 𝑝𝑢𝑟𝑐ℎ𝑎𝑠𝑒𝑠 − 𝑐𝑙𝑜𝑠𝑖𝑛𝑔 𝑖𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦
𝑁𝑒𝑡 𝑝𝑢𝑟𝑐ℎ𝑎𝑠𝑒𝑠
= 𝑃𝑢𝑟𝑐ℎ𝑎𝑠𝑒𝑠 − 𝑝𝑢𝑟𝑐ℎ𝑎𝑠𝑒𝑠 𝑟𝑒𝑡𝑢𝑟𝑛 − 𝐷𝑟𝑎𝑤𝑖𝑛𝑔𝑠 𝑜𝑓 𝑔𝑜𝑜𝑑𝑠
− 𝑎𝑏𝑛𝑜𝑟𝑚𝑎𝑙 𝑙𝑜𝑠𝑠 + 𝑐𝑎𝑟𝑟𝑖𝑎𝑔𝑒 𝑖𝑛𝑤𝑎𝑟𝑑𝑠
Relationship between items

 Higher the value of closing inventory lower will be cost of sales and higher will be
gross profit
 Lower the value of closing inventory higher will be cost of sales and lower will be
gross profit
Cost of inventory
IAS 2 states that ‘the cost of inventories shall comprise all costs of purchase, costs of
conversion and other costs incurred in bringing the inventories to their present location and
condition.
Purchase cost
The purchase cost of inventory will consist of the following:
 the purchase price

 plus import duties and other non-recoverable taxes (but excluding recoverable /
adjustable sales tax)
 plus transport, handling and other costs directly attributable to the purchase
(carriage inwards), if these costs are additional to the purchase price.
Conversion costs
When materials purchased from suppliers are converted into another product in a
manufacturing or assembly operation, there are also conversion costs to add to the purchase
costs of the materials. Conversion costs must be included in the cost of finished goods and
unfinished work in progress.
Conversion costs consist of:
 costs directly related to units of production, such as costs of direct labour (i.e. the cost
of the labour employed to perform the conversion work)
 fixed and variable production overheads, which must be allocated to costs of items
produced and closing inventories. (Fixed production overheads must be allocated to
costs of finished output and closing inventories on the basis of the normal production
capacity in the period.)
 other costs incurred in bringing the inventories to their present location and
condition.
Production overheads include:
 costs of indirect labour, including the salaries of the factory manager and factory
supervisors
 depreciation costs of non-current assets used in production
 costs of carriage inwards, if these are not included in the purchase costs of the
materials
Only production overheads are included in costs of finished goods inventories and work-in-
progress. Administrative costs and selling and distribution costs must not be included in the
cost of inventory.
Examples of costs excluded from the cost of inventories and recognised as expenses in the
period in which they are incurred are:
(a) abnormal amounts of wasted materials, labour or other production costs;

(b) storage costs, unless those costs are necessary in the production process before a further
production stage;
(c) administrative overheads that do not contribute to bringing inventories to their present
location and condition; and
(d) selling costs.
Cost Vs NRV (net realizable value)

The value of closing inventory is calculated by physical stock taking. Some items of inventory
may be damaged or obsolete which results in decline in their sale price and business has to
bear more expenses (repair etc) to sell them. It may result in loss in future. However items
are damaged in current year and according to accrual concept loss should be recognized in
current year (by decreasing value of closing inventory and increasing cost of sales).
According to prudence concept that asset should not be overstated value of inventory has to
be adjusted to NRV.
IAS 2 requires that inventory should be valued at lower of
 Cost or
 NRV
𝑁𝑅𝑉 = 𝑆𝑎𝑙𝑒 𝑝𝑟𝑖𝑐𝑒 − 𝑠𝑒𝑙𝑙𝑖𝑛𝑔 𝑒𝑥𝑝𝑒𝑛𝑠𝑒𝑠 − 𝑟𝑒𝑝𝑎𝑖𝑟 𝑒𝑥𝑝𝑒𝑛𝑠𝑒𝑠
Treatment of abnormal loss

There are two types of losses
 Normal loss which is already anticipated by business

 Abnormal loss which is unexpected
Normal loss is simply ignored and it is automatically treated when value of closing inventory
decreases and cost of sales increases
Abnormal loss is subtracted from purchases to avoid it to be treated as cost of sales and
charged as an expense against gross profit
Abnormal loss Dr

Purchases Cr
Income statement Dr
Abnormal loss Cr
Inventory may be insured and business can claim insurance against loss. It is contingent
asset and insurance can only be recognized as receivable if virtually certain to be received.
Insurance receivable Dr
Insurance income Cr
Inventory valuation policies

Inventory is valued using
 FIFO (First in first out)

 Weighted average method
Weighted average method can be split into
 Periodic weighted average

 Continuous or accumulative weighted average
Question
1st Jan 100 units opening inventory @ $10/unit
5th Jan Purchased 50 units @ $12/unit
7th Jan Purchased 80 units @ $14/unit
9th Jan sold 60 units @ $ 20/unit
12th Jan Purchased 70 Units @ $16 per unit
15th Jan sold 120 units @ $22/unit
Calculate cost of sales, value of closing inventory and gross profit under

1. FIFO
2. Periodic weighted average
3. Continuous weighted average
Impact of price changes

You can observe from above solution if prices are increasing value of closing inventory will
be in following order
Highest in FIFO, then continuous weighted average and then periodic weighted average
Now conclude the order of profit.
Year-end adjusting entries

Cost of sales Dr
Inventory (opening) Cr
Cost of sales Dr
Purchases Cr
Inventory (closing) Dr
Cost of sales Cr
Markup and Margin

Markup: Gross profit expressed as percentage of cost of sales
𝐺𝑟𝑜𝑠𝑠 𝑝𝑟𝑜𝑓𝑖𝑡
𝑀𝑎𝑟𝑘𝑢𝑝 = ∗ 100
𝐶𝑜𝑠𝑡 𝑜𝑓 𝑆𝑎𝑙𝑒𝑠
Margin: Gross profit expressed as percentage of sales
𝑀𝑎𝑟𝑔𝑖𝑛 = ∗ 100
𝑆𝑎𝑙𝑒𝑠

𝑁𝑒𝑡 𝑆𝑎𝑙𝑒𝑠 − 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑠𝑎𝑙𝑒𝑠 = 𝑀𝑎𝑟𝑘𝑢𝑝 𝑜𝑟 𝑀𝑎𝑟𝑔𝑖𝑛
Case 1
Sales $2000 Margin 20% Find cost of sales
Net Sales-Cost of sales =Markup or Margin
2000-X= 20% of 2000
2000-X= 400
X= 2000-400
X = 1600
Case 2
Sales $2000 Markup 25% Find cost of sales
2000-X= 25% of X
2000 = X+.25X
1.25X= 2000
X = 2000/1.25
=1600
Case 3
Cost of Sales $1600 markup 25% Find sales
X-1600= 25% of 1600
X-1600= 400

X= 1600+400
X = 2000
Case 4
Cost of Sales $1600 Margin 20% Find sales
X-1600= 20% of X
X-1600= 0.20X
X-0.20X=1600
0.80X=1600
X=1600/0.80
X=2000
Conversion of Markup into margin

𝑀𝑎𝑟𝑘𝑢𝑝
𝑀𝑎𝑟𝑔𝑖𝑛 = ∗ 100
1 + 𝑀𝑎𝑟𝑘𝑢𝑝
Conversion of Margin into Markup

𝑀𝑎𝑟𝑔𝑖𝑛
𝑀𝑎𝑟𝑘𝑢𝑝 = ∗ 100
1 − 𝑀𝑎𝑟𝑔𝑖𝑛
Application of markup or Margin in case of incomplete records
Inventory destroyed or stolen

Sales $2000
Markup 25%
Purchases $1200
Opening inventory $900

Closing Inventory $200
Step 1 Find Cost of sales using markup or margin
2000-X= 25% of X
2000 = X+0.25X
1.25X= 2000
X = 2000/1.25
=1600
Step 2 Find closing inventory using cost of sales figure from step 1
Cost of sales = opening inventory + purchases – closing inventory
1600 = 900+1200-X
= 500
Step 3 compare closing inventory in step 2 with closing inventory given in question
500-200=300
So inventory destroyed or stolen is $300
Amount received from debtors/closing balance/credit sales not known

Step 1 Find purchases through payables control account
Step 2 Find cost of sales
Step 3 Find sales using markup/margin
Note: This figure is of total sales. Subtract cash sales figure if given in question to find credit
sales.
Step 4 Prepare receivable control account to find missing figure
Cash drawings/theft

Step 1 Find purchases through payables control account
Step 2 Find cost of sales
Step 3 Find sales using markup/margin
Note: This figure is of total sales. Subtract cash sales figure if given in question to find credit
sales.
Step 4 Prepare receivable control account to find amount received from debtors
Step 5 Prepare bank account to find amount deposited or withdrawn from bank
Step 6 Prepare cash account to find cash drawings or cash theft
Stock not taken on due date and errors in closing inventory

In financial accounting value of closing stock is calculated by physical stock taking. This
method is called periodic inventory system. Sometimes stock is not taken on due date
Stock taken before year end

Suppose financial year of business ends on 31st December but due to some reasons stock was
taken on 22nd December that is before year end
Stock at 22nd Dec XXX

Less Sales till 31st December (find cost using markup/margin (XXX)
Less Drawings of goods (cost value) (XXX)
Less Purchase return (XXX)
Add Purchases XXX
Add Sales return (cost value) XXX
Stock at 31st Dec XXX
Stock taken after year end

Suppose financial year of business ends on 31st December but due to some reasons stock was
taken on 10th jan that is after year end
Stock at 10th Jan XXX

Add Sales till 10th Jan (find cost using markup/margin XXX
Add Drawings of goods (cost value) XXX
Add Purchase return XXX
Less Purchases (XXX)

Less Sales return (cost value) (XXX)
Stock at 31st Dec XXX
Errors in closing inventory
Sale or return basis

Business sometimes sells goods on sale or return basis. it means the customer has the right
to return the goods if these remain unsold. At time of sales business record it as sales
however at end of year adjustment has to be made for those items for which customer has
not made any confirmation that he will purchase them. These items should be included in
closing inventory and sale should be cancelled
Closing inventory XXX

Adjustment for cost vs NRV rule (XXX)
Add goods sold on sale or return basis (cost value) XXX
Less goods included in inventory but does not belong to business (XXX)
Adjusted inventory XXX

Q1 Opening inventories at 1 January $38,000
Closing inventories at 31 December $45,000
Purchases $637,000
Gross profit percentage on sales 30%
Based on this information, what was the trader’s sales figure for the year?
Q2 Inventory increased by $12000 during the month. If sales during the month were
$120000 and markup was 25% calculate purchase figure for moth
Q3 Inventory increased by $12000 and payable decreased by $ 5000 during the month. If
sales during the month were $120000 and markup was 25% calculate amount paid to
creditors
Q4 Inventory decreased by $10000 and payable increased by $ 15000 during the month.
If sales during the month were $120000 and markup was 25% calculate amount paid
to creditors. Note that 20% of purchases were on cash
Q5 Which of the following factors could cause a company’s gross profit percentage on
sales to fall below the expected level?
A Overstatement of closing inventories
B The incorrect inclusion in purchases of invoices relating to goods supplied in the

following period
C The inclusion in sales of the proceeds of sale of non-current assets
D Reduction of overheads incurred in the production process
Q6 The following information is available about the transactions of Hamayun, a sole

trader who does not keep proper accounting records:
Purchases 713,000
Sales 935,000

Mark up on sales 20%
Based on this information, what should be the cost of Razil’s closing inventory?
Q7 Plym is a retailer which is registered for sales tax which is at the rate of 20%. For the year
to 30 June 2016 Plym paid $69,600 to suppliers in respect of goods for resale and showed
$89,400 revenue in the statement of profit or loss. There was no change in the figures for
inventory and trade payables in the statements of financial position as at 30 June 2015
and
2016. What was Plym’s gross profit for the year ended 30 June 2016?
Q8 Paul is a sole trader whose accounting records are incomplete. All the sales are cash
sales and during the year $50,000 was banked, including $5,000 from the sale of a
business car. He paid out $12,000 wages in cash and withdrew $2,000 per month for
his living expenses. Cash in hand at the beginning and end of the year was $300 and
$400 respectively. What were Paul’s sales for the year?
Q9 Opening Stock Rs 120000
Purchases Rs 560000
Sales Rs 1050000
Normal GP margin is 25 %
40% of goods were sold on normal profit margin
60% of remaining sales were made at 25% markup
40% of remaining sales were made at 10 % below normal selling price
Find Closing Stock.
Q10 In January furqan brothers made sales valuing Rs 1530000
Normal selling price was established by adding margin of 20% of sales
However goods costing 60000 were sold at 20% markup.
Sales valuing Rs 56000 were made to special customer at margin of 10%
Find Cost of sales.

Q11 Raheem brothers took physical inventory on 31st December. Value of stock
shown by inexperienced accountant was Rs 480000.
Following points were considered by finance manager while calculating correct value
1. Goods sold to customer not yet delivered Rs 30000. Confirmation is not yet received
from customer
2. Goods sold to customer not yet delivered Rs 20000. Ownership has already been
transferred to customer.
3. A purchase invoice of Rs 45000 has been received and recorded as purchases. Stock is
not yet received. Damages belong to supplier.
4. An item costing Rs 20000 is also included in stock. Normal selling price of the item is
Rs 30000. However it was damaged and can be sold in current condition for Rs 12000. If
it is repaired then it can be sold at normal selling price. Repair expenses are 10000.
5. Certain items costing Rs 60000 were taken by owner for personal use not taken in
stock.
6. Goods sold on sale or return basis valuing Rs 75000. One third of these were sold by
customer till 31st December.
Adjust relevant points to find corrected closing stock (markup is 20%)
Q12 Eloise started a small pottery business on 1 January 2010. She provides the
following information for her first year of trading:
Sales 34,900
Pottery in inventory at the year end 2,700

Note 1
Purchases of materials 17,950

Note 2
Note 1: Included within this figure are ten cracked vases. They cost $100 each to make and
Eloise expects to sell them for $20 each.

Note 2: Included in the cost of materials is $500 which Eloise paid to her supplier for delivery.
What is Eloise’s gross profit for 2010?
Q13 Hamish Duncan runs a sole trader business selling office furniture. On 12th
August 2010, he employed his wife as a marketing assistant for the business and took
a desk from the store room for her to use in the office.
What is the double entry for this transaction?
Q14 The inventory value for the financial statements of Q for the year ended 31st
December 2009 was based on an inventory count on 4th January 2010, which gave a
total inventory value of $836,200.
Between 31st December and 4th January 2010, the following transactions took place:
Purchases of goods 8,600
Sales of goods (profit margin 30% on sales) 14,000
Goods returned by Q to supplier 700
What adjusted figure should be included in the financial statements for inventories at 31st
December 2009?
Q15 A company with an accounting date of 31st October carried out a physical
check of inventory on 4th November 2010, leading to an inventory value at cost at
this date of $483,700.
Between 1st November 2010 and 4th November 2010 the following transactions took place:
(1) Goods costing $38,400 were received from suppliers.
(2) Goods that had cost $14,800 were sold for $20,000.
(3) A customer returned, in good condition, some goods which had been sold to him in
October for $600 and which had cost $400.
(4) The company returned goods that had cost $1,800 in October to the supplier, and
received a credit note for them.

What figure should appear in the company’s financial statements at 31st October 2010 for
closing inventory, based on this information?
Q16 Which of the following costs should be included in valuing inventories of

finished goods held by a manufacturing company, according to IAS 2 Inventories?
(1) Carriage inwards
(2) Carriage outwards
(3) Depreciation of factory plant
(4) Accounts department costs relating to wages for production

employees
C 1, 3 and 4 only D 1 and 4 only
Q17 Which of the following are correct?
1 The value of inventory in the statement of financial position must be as close as possible to
net realisable value.
2 The valuation of finished goods inventory should include production overheads.
3 Production overheads included in valuing inventory should be calculated by reference to

the company’s normal level of production during the period.
4 In assessing net realisable value, inventory items must be considered separately, or in

groups of similar items, not by taking the inventory value as a whole.
Q18 What journal entry is required to record goods taken from inventory by the
owner of a business, assuming a period-end system of accounting for inventory?
A Debit Drawings, Credit Purchases B Debit Sales, Credit Drawings
C Debit Drawings, Credit Inventory D Debit Purchases, Credit Drawings

Q19 IAS2 Inventories defines the extent to which overheads are included in the
cost of inventories of finished goods.
Which of the following statements about the IAS2 requirements in this area are correct?
1 Finished goods inventories may be valued on the basis of labour and materials cost only,
without including overheads.
2 Carriage inwards, but not carriage outwards, should be included in overheads when
valuing inventories of finished goods.
3 Factory management costs should be included in fixed overheads allocated to inventories

of finished goods.
A All three statements are correct
B 1 and 2 only
C 1 and 3 only
D 2 and 3 only
Q20 At 30th September 2009 the closing inventory of a company amounted to

$386,400. The following items were included in this total at cost:
(1) One thousand items which had cost $18 each. These items were all sold in
October 2009 for $15 each, with selling expenses of $800.
(2) Five items which had been in inventory since 1988, when they were
purchased for $100 each, sold in October 2009 for $1,000 each, net of selling
expenses.
What figure should appear in the company’s statement of financial position at 30th
September 2009 for inventory?
Q21 In preparing its financial statements for the current year, a company’s closing
inventory was understated by $300,000.
What will be the effect of this error if it remains uncorrected?
A The current year’s profit will be overstated and next year’s profit will be understated

B The current year’s profit will be understated but there will be no effect on next year’s profit
C The current year’s profit will be understated and next year’s profit will be overstated
D The current year’s profit will be overstated but there will be no effect on next year’s profit
Q22 A company received a delivery of goods on 28 December 2009 which was

included in inventory at 31 December 2009. The invoice for the goods was recorded in
January 2010. What effect does this have on the business?
A The profit for the year to 31 December 2009 will be overstated and inventory at 31
December 2009 will be stated correctly.
B The profit for the year to 31 December 2009 will be overstated and inventory at 31
December 2009 will be overstated.
C The profit for the year to 31 December 2010 will be overstated and inventory at 31
December 2009 will be stated correctly.
D The profit for the year to 31 December 2010 will be overstated and inventory at 31
December 2009 will be overstated.
Q23 The closing inventory at cost of a company at 31 January 2010 amounted to

$284,700.
The following items were included at cost in the total:
(1) 400 coats that had cost $80 each and normally sold for $150 each. Owing to a defect in
manufacture, they were all sold after the balance sheet date at 50% of their normal price.
Selling expenses amounted to 5% of the proceeds.
(2) 800 skirts that had cost $20 each. These too were found to be defective. Remedial work in
February 2010 cost $5 per skirt, and selling expenses for the batch totalled $800. They were
sold for $28 each.
What should the inventory value be according to IAS 2 Inventories after considering the
above items?

Q24 Which of the following inventory valuation methods is likely to lead to the
lowest figure for closing inventory at a time when prices are rising?
A Average cost
B First in, first out (FIFO)
Q25 Which of the following statements are correct for the purpose of inventory
valuation in the statement of financial position?
1 Finished goods inventories may be valued on the basis of labour and materials cost only,
without including overheads.
2 It may be acceptable for inventory to be valued at selling price minus the estimated profit
margin.
3 Inventory should be valued at the lowest of net realisable value, replacement cost and
historical cost.
4 According to IAS2 Inventories, both average cost and first-in, first-out (FIFO) are acceptable
methods of deciding the cost of inventories.
A 1 and 2 only are correct. B 1 and 3 only are correct.
C 2 and 4 only are correct. D 3 and 4 only are correct.
Q26 The following has been extracted from Kerenza’s inventory records for the
month of April:
Opening inventory 15 units at $4.80 each
1st April Purchase 10 units at $5.30 each
6th April Sale 8 units @ $7.5
15th April Purchase 8 units at $5.50 each
27th April Sale 10 units @ 7.5
What is the value of Kerenza’s inventory at 30th November?
Calculate value of closing inventory, Cost of sales and gross profit using

1. FIFO
Note: observe values and conclude impact of changing prices
Q27 Inventory movements for product G during the last quarter were as follows:
October Purchases 15 items at $9.80 each
November Sales 10 items at $30 each
December Purchases 20 items at $12.50
Sales 5 items at $31 each
Opening inventory at 1st October was 15 items valued at $7.60 each
Calculate value of closing inventory, Cost of sales and gross profit using
1. FIFO

Chapter 16
Bad debts and doubtful debts
Bad debts
When a business sells goods or services on credit, there is an unavoidable risk that the
customer will not pay, in spite of all the efforts that are made to obtain payment.
A bad debt is an amount owed by a customer that the business decides it will never be able
to collect. It gives up any hope of collecting the debt and ‘writes it off’. The amount
receivable is removed from the receivables ledger and the statement of financial position.
Bad debts given in question may be of two types
 Written off during the year

 Decided at end of year and still to be written off
In both cases bad debt is an expense. However no entry has been made in the books for bad
debts which are decided to be written off at end of year.
Doubtful debts
A doubtful debt is different. Doubtful debts arise when there is a high risk that some debts
will become bad. The business has not yet given up hope of collecting the amount receivable,
and it does not write off the debt and eliminate it from the receivables ledger.
However, applying the concept of prudence to preparing financial statements, and basing
the estimate on historical evidence of what has happened in the past, an allowance is made
for the probability that some debts will eventually become bad debts at some time in the
future.
Bad debts and doubtful debts are accounted for differently, although there is often just a
single ‘irrecoverable debts’ expense account in the main ledger.
An allowance is created for doubtful debts. Allowance may be specific (created against
receivable of particular debtor) or it may be general.

Calculation of general allowance
Trade receivables A
Less: unadjusted bad debt (B)
Less: receivable for which specific allowance is created (C)
Allowance %age (A – B - C)
Increase or decrease in allowance

Allowance for doubtful debt is calculated at end of every year. It may increase or decrease
from previous year allowance. For example allowance at start of year was $200 and
allowance at end of year is $250, there is an increase of $50 in allowance. Increase in
allowance is treated as expense hence $50 will be treated as expense in income statement. If
allowance at end of year is lower than opening allowance difference is treated as income in
income statement.
Increase in allowance
Bad debt Dr
Allowance for doubtful debt Cr
Decrease in allowance
Allowance for doubtful debt Dr
Bad debt Cr
Trade receivables A
Less: unadjusted bad debt (B)
Less: Allowance for irrecoverable debts (C)
Net receivables (shown in statement of financial position) A–B- C

Specific allowance and settlement of debt
Cash Dr
Allowance for doubtful debt Dr
Expense (bal figure) Dr
Receivable Cr
Income (bal fig) Cr
Total charge/Credit to income statement

Bad and doubtful debt = Bad debts + unadjusted bad debts - bad debt recovered - decrease
in allowance
Bad and doubtful debt = Bad debts + unadjusted bad debts - bad debt recovered+ increase in
allowance
 If answer is positive it is expense and charged to income statement

 If answer is negative it is income and credited to income statement

Q1 At 31st December 2009 a company’s trade receivables totalled $864,000 and the
allowance for irrecoverable debts was $48,000.
It was decided that debts totalling $13,000 were to be written off, and the allowance for
irrecoverable debts adjusted to 5% of the receivables.
What figures should appear in the statement of financial position for trade receivables (after
deducting the allowance) and in profit and loss (the income statement) for the total of bad
and doubtful debts?
Income statement Statement of financial position
Bad and doubtful debts Net trade receivables
$ $
A 8,200 807,800
B 7,550 808,450
C 18,450 808,450
D 55,550 808,450
Q2 At 1st July 2009 a limited liability company had an allowance for irrecoverable debts
of $83,000.
During the year ended 30th June 2010 debts totalling $146,000 were written off. At
30th June 2010 it was decided that an allowance of $218,000 was required for irrecoverable
debts.
What figure should appear in the company’s income statement (profit and loss) for the year
ended 30th June 2010 for bad and doubtful debts?
A $155,000 B $364,000
C $281,000 D $11,000

Q3 At 31st December 2009 a company’s receivables totalled $400,000 and an allowance
for irrecoverable debts of $50,000 had been brought forward from the year ended
31st December 2008.
It was decided to write off debts totalling $38,000 and to adjust the allowance for
irrecoverable debts to 10% of the receivables.
What charge for bad and doubtful debts should appear in the company’s income statement
for the year ended 31st December 2009?
A $74,200 B $51,800
C $28,000 D $24,200
Details of Ajay’s trade receivables are as follows:
Allowance at 1st January 2009 $27,000
Trade receivables at 31st December 2009 $655,900
Allowance at 31st December 2009 $34,000
Ajay also wished to write off $12,500 of debts which he believed to be irrecoverable.
What amounts should be included in Ajay’s financial statements for the year ended
31st December 2009?
Allowance for receivables Net trade receivables Irrecoverable debt

expense
$ $ $
A 61,000 621,900 12,500
B 34,000 621,900 19,500
C 61,000 609,400 12,500
D 34,000 609,400 19,500

Q4 Eric has found out that a customer has been declared bankrupt and will be unable to
pay any of his debts. Eric had previously provided for this irrecoverable debt. Which of
the following is the correct double entry?
Dr Cr
A Receivables Irrecoverable debts
B Allowance for receivables Receivables
C Irrecoverable debts account Receivables
D Receivables Allowance for receivables
Q5 Which of the following statements about an aged receivables analysis is true?
(1) Its purpose is to keep track of outstanding debts and highlight those which must be
followed up.
(2) It is used to help estimate the allowance for receivables.
(3) Its main purpose is to assist in the process of setting credit limits.
(4) Only those debts that are overdue are included.
A 1 and 2 B 2 and 3
C 1, 2 and 4 D 2, 3 and 4
Q6 At 31 December 2009, the total receivables account of BV Supplies shows a balance

of $27,800. The following amounts are now deemed irrecoverable:
$460 owed from J, who has been declared bankrupt
$60 from E, who has disappeared
BV Supplies also wishes to make an allowance for 5% of outstanding debts and discovers
that, as a result, the allowance is 10% greater than at the previous year end (31 December
2008).
What is the balance on the irrecoverable debts expense account at the year end?
A $644 Dr B $1,864 Dr C $396 Dr D $ 381 Dr

Q7 At 1 January 2009 a company had an allowance for receivables of $18,000
At 31 December 2009 the company’s trade receivables were $458,000. It was decided:
(a) to write off debts totalling $28,000 as irrecoverable
(b) to adjust the allowance for receivables to the equivalent of 5% of the remaining
receivables based on past experience.
What figure should appear in the company’s income statement for the total of debts written
off as irrecoverable and the movement in the allowance for receivables for the year ended 31
December 2009?
A $49,500 B $31,500
C $32,900 D $50,900
Q8 The figures show a calculation of the provision for doubtful debts.

1 July 97 30 Jun 98
$ $
Trade receivable X 750 Nil
Trade receivable Y 1,000 2,000
Trade receivable Z Nil 1,500
1,750 3,500
General Provision 4,150 7,200
Total Provision 5,900 10,700
During the period, X was made bankrupt and a final payment of $50 was received. What is
the charge for the year to 30 June 1998 for bad and doubtful debts?
A. $3,050
B. $4,750
C. $4,800
D. $5,500
Q9 A company increases Its provision for bad debts by$ 1 600 from $3,000.
What will be the effect of this adjustment on the year-end balance sheet?
Net profit Net trade receivables
A. decrease by $1,600 decrease by $1,600
B. decrease by $1,600 decrease by $4,600
C. increase by $1,600 decrease by $1,600
D. increase by $1,600 decrease by $4,600

Q10 A Company's year-end Sales Ledger balances are shown below.
Debit $14,240
Credit $960
When preparing the annual accounts, it was decided to write off bad debts of $200 and to
maintain the provision for doubtful debts at 2.5%.
What will be the provision for doubtful debts at the year-end?

A. $151
B. $327
C. $332
D. $351
Q11 At the beginning of the year a company has a provision for doubtful debts of
$1,000. At the end of the year required provision is $2,500. During the year debts of
$1,500 are written off and $100 is received in respect of a debt written off many
years ago.
What is the net amount charged to the Income statement for bad and doubtful debts?
A. $1,500
B. $2,500
C. $2,900
D. $3,000
Q12 The writing off of a bad debt is an example of the

A. going concern concept
B. matching concept
C. prudence concept
D. substance over form concept
Q13 The table shows Information about a business.

$
Provision for Doubtful Debts at 1 January 2000 700
Trade receivables at 31 December 2000 (after writing off bad debt of $30 15,000
Charge to Income statement for bad and doubtful debts for the year ended 31
December 2000 (including bad debts written off $30 200

What is the percentage provision that has been made for doubtful debts at 31 December
2000?
A. 3.3%
B. 4.7%
C. 5.8%
D. 6.0%
Q14 A trial balance at 30 April 2003 before making end of year adjustments,
showed:
Debit($) Credit($)
Trade receivables 17,800 -
Provision for doubtful debts - 580
At 30 April 2003 it was decided to write off a bad debt of $800 and to make a provision for
doubtful debts of 2% of trade receivables. During the year an amount of $200 was received
from a customer relating to a debt that was written off in the year ended 30 April 2002.
What was the total bad and doubtful debt expense for the year ended 30 April 2003?
A. $360
B. $560
C. $940
D. $1,140
Q15 At the beginning of the year a business has a provision for doubtful debts of
$2 600. At the year end the provision is to be 5% of trade receivables.
The balance on the Trade receivables Control account at the year-end is $69 200, before
writing off a bad debt of $480. The business operates a separate Bad Debts accounts.
What is the entry in the Income statement for the provision for doubtful debts?
A. $836 debit
B. $860 debit
C. $836 credit
D. $860 credit
Q16 At the end of a financial period, a business has the following balances.
$
Total trade receivables balances 10,620
Bad debt not yet written off 260

Provision for doubtful debts brought forward 460
What should the business do If it wishes to maintain the bad debt provision at 5% of trade
receivables
A. decrease the existing provision by $58
B. increase the existing provision by $58
C. decrease the existing provision by $71
D. increase the existing provision by $71
Q17 A company has the following balances .
$
Trade receivables at 31 December 2003 125,400
Provision for doubtful debts at 1 January 2003 1,800
During the year ended 31 December 2003 bad debts of $20,500 were written off. The
company provides for 5% of trade receivables at each year-end.
What Is the doubtful debts expense for the year ended 31 December 2003?
A. $3,445
B. $4,470
C. $5,245
D. $6,270
Q18 A business makes a provision for doubtful debts equal to 5% of its trade
receivables. At 31 March 2003 net trade receivables were shown in the Balance Sheet
as $17 100.
At 31 March 2004 the balance on its Sales Ledger Control account was $19 000.In the year
ended 31 March 2004 a bad debt of $800 had been written off.
How much should be debited in the Income statement for the year ended 31 March 2004 for
the provision for doubtful debts?
A. $10
B. $50
C. $55
D. $95

Q19 On 30 September 2005 a manufacturer's current assets totalled $28,000. The
next day only two transactions took place.
1. Inventory bought for cash. The list price of $2,000 was subject to a trade
discount of 20% and a cash discount of 5%. Payment was made immediately.
2. A bad debt of $400 was written off.
What was the total of current assets on 2 October 2005?

A. $27,680
B. $28,080
C. $29,520
D. $29,600
Q20 A trial balance shows:
Dr ($) Cr ($)
provision for doubtful debts trade
1,200
receivables 28,000
$2 100 of the trade receivables are irrecoverable and are to be written off. The owner of the
business wishes to make the provision for doubtful debts equal to S % of his outstanding
trade receivables.
What is the amount debited to the income statement for the provision for doubtful debts?
A. $95
B. $1,295
C. $1,400
D. $2,600
Q21 A trial balance at 30 June, before making end of year adjustments, showed:
debit($) credit($)
trade receivables 35,600 -
provision for doubtful debts - 1,160
At 30 June, it was decided to write off a bad debt of $1 600 and to make a provision for
doubtful debts equal to 2% of trade receivables.
What was the total expense in the income statement for bad and doubtful debts for the year
ended 30 June?
A. $680
B. $1,120
C. $2,080
D. $2,280

Q22 A business makes a provision for doubtful debts equal to 5 % of its trade
receivables.
• At 31 March 2008 the provision for doubtful debts was $850.
• At 31 March 2009 the trade receivables after the provision for doubtful debts
were $17,100.
How much is the increase in the provision for doubtful debts for the year ended 31 March
2009?
A. $45
B. $50
C. $850
D. $900
Q23 What is the main use of a computerised age analysis of trade receivables?
A. aid debt collection procedures
B. match sales Invoices against orders
C. reconcile sales ledger balances
D. show credit notes issued
Q24 Who is most likely to use an age analysis of debtors?
A. cashier
B. credit controller
C. sales ledger supervisor
D. sales manager
Q25 A business is reviewing credit limits for its customers.
What would result in a customer's credit limit being reduced?
A. Cash discounts are always taken by the customer.
B. Sales have increased to that customer.
C. The customer always pays their debt on time.
D. The customer has lost a major contract.
Q26 Which statement is correct?
A. The balance on the bad debts recovered account is carried down to the next
accounting period.
B. The balance on the bad debts recovered account is credited to the income
statement.
C. The balance on the provision for doubtful debts account is calculated before
the deduction of bad debts.
D. The balance on the provision for doubtful debts account is not included in a
trial balance.

Q27 At the end of its financial year a business had trade receivables of $16 000
and had provision for doubtful debts of $640. The provision is to be maintained at
5%. Which amount is shown in the income statement?
A. $160 credit
B. $800 credit
C. $160 debit
D. $800 debit
Q 28 Allowance at start of year was $1200 and it was $1800 at end of years. Make
double entry to record the allowance
Q 29 Allowance at start of year was $1800 and it was $1800 at end of years. Make
double entry to record the allowance
Q 30 Receivables at end of year were $40000 before writing of bad debts of $800.
Calculate value of closing allowance @5%
Q 31 Receivables at end of year were $40000 before writing of bad debts of $800. A
debtor who owes business $ 3000 is in financial difficulties and it is considered that
40% will not be recovered. Calculate value of closing allowance if general allowance
is created @5%
40% will be recovered. Calculate value of closing allowance if general allowance is
created @5%
40% will not be recovered. Calculate amount to be charged/credited to income
statement if general allowance is created @5% and opening allowance was $1200
Q 34 Receivables at end of year were $40000 before writing of bad debts of $800.
Bad debts written of during the year were $600 and a debt of $550 which was
previously written of is now recovered A debtor who owes business $ 3000 is in
financial difficulties and it is considered that 40% will not be recovered. Calculate
amount to be charged/credited to income statement if general allowance is created
@5% and opening allowance was $1200
Q 35 A debtor Mr X owes business $2000 and a specific allowance was created
@40%. He settled his account by paying $250. Make journal entry
@40%. He settled his account by paying 60%. Make journal entry

@40%. He settled his account by paying 30%. Make journal entry
@40%. He settled his account and 25p out $ was recovered. Make journal entry
Q 39 Sales during the year amounted to $120000 and receivables are 40% of sales
and it is decided to write off 2% of receivable as bad debt. Allowance for doubtful
debt is created @5% which is 10% higher than previous year. Calculate amount to be
treated in statement of comprehensive income and statement of financial position
Q 40 Sales during the year amounted to $120000 and receivables are 40% of sales
and it is decided to write off 2% of receivable as bad debt. Allowance for doubtful
debt is created @5% which is 10% lower than previous year. Calculate amount to be
treated in statement of comprehensive income and statement of financial position
Q 41 Sales during the year amounted to $120000 of which 10% are cash sales and
receivables are 40% of credit sales. it is decided to write off 2% of receivable as bad
debt. Allowance for doubtful debt is created @5% which is 10% lower than previous
year. Calculate amount to be treated in statement of comprehensive income and
statement of financial position
Q 42 Receivables at start of the year were $20000 and these increased by 20%, if
sales during the year were $100000 and amount received from debtors was $93800
including bad debt recovered of $800 calculate value of bad debts written off.
including bad debt recovered of $800 calculate value of bad debts written off. Also
calculate amount to be charged to statement of comprehensive income if allowance
is created @5% which is 10% higher than opening allowance.
including bad debt recovered of $800 calculate value of bad debts written off. Also
calculate amount to be charged to statement of comprehensive income if allowance
is created @5% which is 10% lower than opening allowance.
Q 45 Eric has found out that a customer has been declared bankrupt and will be
unable to pay any of his debts. Eric had previously provided for this irrecoverable
debt. Which of the following is the correct double entry?

Dr Cr
A Receivables Irrecoverable debts
B Allowance for receivables Receivables
C Irrecoverable debts account Receivables
D Receivables Allowance for receivables
Q 46 Which of the following statements about an aged receivables analysis is true?

(1) Its purpose is to keep track of outstanding debts and highlight those which must be
followed up.
(2) It is used to help estimate the allowance for receivables.
(3) Its main purpose is to assist in the process of setting credit limits.
(4) Only those debts that are overdue are included.
A 1 and 2
B 2 and 3
C 1, 2 and 4
D 2, 3 and 4
Q 47 At 31 December 2009, the total receivables account of BV Supplies shows a

balance of $27,800. The following amounts are now deemed irrecoverable: $460
owed from J, who has been declared bankrupt $60 from E, who has disappeared BV
Supplies also wishes to make an allowance for 5% of outstanding debts and discovers
that, as a result, the allowance is 10% greater than at the previous year end (31
December 2008). What is the balance on the irrecoverable debts expense account at
the year end?
Q 48 The receivables ledger control account below contains several incorrect
entries.
Receivables ledger control account
$ $
Opening balance 138,400 Credit sales 80,660
Cash received from credit customers Contras against credit balances in
78,420 1,000
payables ledger
Discounts allowed to credit
1,950
customers
Bad debts written off 3,000
Dishonoured cheques from credit
850
customers
Closing balance 129,360
216,820
216,820
What should the closing balance be when all the errors are corrected?

Q 49 A trainee accountant has prepared the following receivables ledger control
account to calculate the credit sales of a business which does not keep proper
accounting records (all sales are on credit).
$ $
Opening receivables 148,200 Credit sales 870,800
Cash received from customers 819,300
Discounts allowed to credit customers 16,200
Irrecoverable debts written off 1,500
Returns from customers 38,700 Closing receivables 153,100
1,023,900 1,023,900
The account contains several errors.

What is the sales figure when all the errors have been corrected?
Q 50 The following receivables ledger control account has been prepared by a

trainee accountant:

2010 $ 2010 $
1st Jan Balance 318,650 31st Jan Cash from credit customers 181,140
Credit sales 161,770 Interest charged on 280
overdue accounts
Bad debts written off 1,390
Cash sales 84,260 Sales returns from credit 3,990
customers
Discounts allowed to 1,240 Balance 379,120
credit customers
–––––––– ––––––––
565,920 565,920
–––––––– ––––––––
What should the closing balance at 31st January 2010 be after correcting the errors in the account?
Q 51 Which of the following items could appear on the credit side of a receivables
ledger control account?
(1) Cash received from customers
(2) Bad debts written off
(3) Increase in allowance for irrecoverable debts
(4) Discounts allowed
(5) Sales

(6) Credits for goods returned by customers
(7) Cash refunds to customers
A 1, 2, 4 and 6
B 1, 2, 4 and 7
C 3, 4, 5 and 6
D 5 and 7
Q 52 At start of year allowance for doubtful debt was $1200. Bad debts written off
during the year were $250 and at end of year it was decided to write of bad debt
$300. A customer whose debt of $300 was written of previous year settled his
account in current year. If total amount charged to statement of comprehensive
income was $2200 calculate closing allowance.
account in current year by paying 80%. If total amount charged to statement of
comprehensive income was $2200 calculate closing allowance.
Q 54 At end of year allowance for doubtful debt was $3200. Bad debts written off
account in current year by paying 80%. If total amount charged to statement of
comprehensive income was $2200 calculate opening allowance.
Q 55 At end of year allowance for doubtful debt was $3200. Bad debts written off
income was $2200 calculate opening allowance.
income was $2200 calculate percentage of allowance if Receivables before writing of
year end bad debts were $56000.
income was $2200 calculate percentage of allowance if Receivables after writing of
year end bad debts were $56000.
Q 58 At end of year allowance for doubtful debt was $3200 and start of year it was
$ 1200. Bad debts written off during the year were $250 and at end of year it was

decided to write of bad debt $300.. If total amount charged to statement of
comprehensive income was $2200 calculate bad debts recovered.
Q 59 At end of year allowance for doubtful debt was $3200 and start of year it was
$ 1200. Bad debts written off during the year were $250 and debts of $800 which
was previously written of is now recovered. If total amount charged to statement of
comprehensive income was $2200 calculate bad debts written off at end of year.
Q 60 Following information is provided to you at start of year
Detail Amount receivable Allowance

Mr X $1000 100%
Mr Y $2000 50%
Mr Z $1500 20%
Other Receivables $80000 5%
During the year Mr X settled his account by paying 20% and Mr Y 30% of his
debt as final settlement. Receivables at end of year amounted to $ 85000
(excluding debt of Mr Z and including debt of Mr A $2500). It was decided do
to write of bad debts $1200 and create allowance of 30% related to Mr A. if
general allowance is created @5% calculate amount charged to statement of
comprehensive income and amount to be shown in statement of financial
postion.

Chapter 17
Accrual and prepayments
Expense account
Opening prepaid XXX Opening unpaid XXX
Cash XXX Income statement XXX
Closing unpaid XXX Closing prepaid XXX
XXX XXX
Income account
Opening receivable XXX Opening Advance XXX
Income statement XXX Cash XXX
Closing advance XXX Closing receivable XXX
XXX XXX
Note: Put assumed figures of opening and closing balances and check what will happen to
income statement figure if opening or closing balances are over or understated.
Year-end adjustments
Expense
Case 1 Prepaid expenses
Rent for the year $10000
Rent paid $12000
If rent paid is treated as prepaid at time of payment entry will be
Prepaid Rent Dr $12000
Cash Cr $12000

Year-end adjusting entry
Rent Dr $10000
Prepaid rent Cr $10000
If rent paid is treated as expense, at the time of payment entry will be
Rent Dr $12000
Cash Cr $12000
Year end adjusting entry will be
Prepaid rent Dr $2000
Rent Cr $2000
Case 2 unpaid expenses
Rent for the year $13000
Rent paid $9000
Rent Dr $9000
Cash Cr $9000
Year end adjusting entry will be
Rent Dr $3000
Unpaid Rent Cr $2000
Income
Case 1 Prepaid/Advance received income
Commission for the year $10000
Commission received $12000
If commission received is treated as prepaid at time of payment entry will be

Cash Dr $12000
Unearned Commission Cr $12000
Year-end adjusting entry
Unearned commission Dr $10000
Commission Cr $10000
If commission received is treated as income at time of payment entry will be
Cash Dr $12000
Commission Cr $12000
Year-end adjusting entry will be
Commission Dr $2000
Unearned commission Cr $2000
Case 2 Accrued income
Commission for the year $13000
Commission received $9000
Cash Dr $9000
Commission Cr $9000
Year-end adjusting entry will be
Accrued Commission Dr $3000
Commission Cr $2000
Note: Accrued expense means expense payable and accrued income means income
receivable.

Q 1 While preparing financial statements for year ending 30th June 2017 an
inexperienced accountant overstated prepayments by $1200 and understated the
accrued income by $500
What will be net impact on profit and net assets?
Q 2 Unearned income is treated as
a. Current asset in statement of financial position and adjusting entry will
increase profit
b. Current asset in statement of financial position and adjusting entry will
decrease profit
c. Current liability in statement of financial position and adjusting entry will
increase profit
d. Current liability in statement of financial position and adjusting entry will
decrease profit
Q 3 Business prepares its financial statements at 30th September each year. It entered
into insurance agreement and paid advance premium for the year ending 30th june
2017 amounting $12000. For the year ending 30th june 2018 premium increased by
10%
Calculate figures for income statement and statement of financial position for the
year 2017 and 2018
Q 4 Business prepares its final accounts on 31st March 2018. It sublets a property on 1st
May 2016 at annual rent of $8000 with predetermined terms that it will increase by
10% every year and will be paid quarterly in advance.
Calculate figures to be treated in income statement and statement of financial
position in year ending 31st march 2018
Q 5 Business prepares its final accounts on 31st March 2018. It sublets a property on 1st
May 2016 at annual rent of $8000 with predetermined terms that it will increase by
10% every year and will be paid quarterly in arrears.
Q 6 Business prepares its final accounts on 31st March 2018. It took a property on rent on
1st May 2016 at annual rent of $8000 with predetermined terms that it will increase
by 10% every year and will be paid quarterly in advance.

Q 7 Business prepares its final accounts on 31st March 2018. It took a property on rent on
1st May 2016 at annual rent of $8000 with predetermined terms that it will increase
by 10% every year and will be paid quarterly in arrears.
Q 8 Business paid insurance of $ 13200 on 1st May 2018 which is 10% higher than
previous year. If company prepares its accounts on 30th September each year
calculate figures to be treated in income statement and statement of financial
position for the year ending 30th September 2018.
Q 9 At start of September business has following balances
Prepaid rent (4months) $320
Unpaid rates (3 months) $480
Rates paid during moth (for six months) $ 1200
Calculate amounts to be treated in income statement and statement of financial
position under the head rent and rates for September.
Q 10 Accountant forgets to enter opening balance of prepaid rent in rent account.
What will be impact on profit and net assets? And what will be balance in suspense
account Dr or Cr
Q 11 Accountant forgets to enter opening balance of unpaid rent in rent account.
account Dr or Cr
Q 12 Accountant forgets to enter opening balance of accrued income in income
account. What will be impact on profit and net assets? And what will be balance in
suspense account Dr or Cr
Q 13 Accountant forgets to enter opening balance of advance (unearned) income in
income account. What will be impact on profit and net assets? And what will be balance
in suspense account Dr or Cr
Q 14 Accountant forgets to enter closing balance of accrued income in income
account. What will be impact on profit and net assets? And what will be balance in
suspense account Dr or Cr
Q 15 Accountant forgets to enter closing balance of advance (unearned) income in
income account. What will be impact on profit and net assets? And what will be balance
in suspense account Dr or Cr

Q 16 Accountant forgets to enter closing balance of prepaid rent in rent account.
account Dr or Cr
Q 17 Accountant forgets to enter closing balance of unpaid rent in rent account.
account Dr or Cr
Q 18 A property company received cash for rent totalling $628,950 in the year
ended 31 May 2009. Figures for rent in advance and in arrears at the beginning and
end of the year were:
31 May 31 May
2008 2009
$ $
Rent received in advance 76,950 66,525
Rent in arrears (all subsequently 31,725 36,300
received)
What amount should appear in the company’s income statement for the year ended 31 may
2009 for rental income?
Q 19 At 1 July 2014 a company had prepaid insurance of $8,200. On 1 January 2015

the company paid $38,000 for insurance for the year to 30 September 2015. What
figures should appear in company’s financial statements for the year ended 30 June
2015?
Q 20 A company sublets part of its office accommodation. In the year ended 30

June 2015 cash received from tenants was $83,700. Details of rent in arrears and in
advance at the beginning and end of the year were:
In In
arrears advance
$ $
30 June 2014 3,800 2,400
30 June 2015 4,700 3,000
All arrears of rent were subsequently received.

What figure for rental income should be included in the company’s profit or loss for the year
ended 30 June 2015?
Q 21 Prepaid expense is treated as

increase profit

decrease profit
increase profit
decrease profit
Q 22 Accrued income is treated as
increase profit
decrease profit
increase profit
decrease profit
Q 23 Unpaid expense is treated as
increase profit
decrease profit
increase profit
decrease profit
Q 24 Following errors were extracted after preparation of trial balance
Opening balance of prepaid expense overstated by $1000
Closing balance of accrued income understated by $800
What will be net impact of correction of these errors on profit and net
asserts? What will be original balance in suspense account in profit and loss
account?
Opening balance of unpaid expense overstated by $1000

account?
Opening balance of unearned income overstated by $1000
account?
Opening balance of prepaid expense understated by $1000
Closing balance of accrued income overstated by $800
account?
Opening balance of unearned income overstated by $1000
What will be net impact of these errors on profit and net asserts? What will
be original balance in suspense account in profit and loss account?
Opening balance of accrued expense overstated by $1000
What will be net impact these errors on profit and net asserts? What will be
original balance in suspense account in profit and loss account?
Opening balance of prepaid income overstated by $1000
Closing balance of accrued expense understated by $800
account?

Q 31 A business sublets part of its office accommodation. The rent is received
quarterly in advance on 1 January, 1 April, 1 July and 1 October. The annual rent has
been $24,000 for some years, but it was increased to $30,000 from 1 July 2015.
What amounts for this rent should appear in the company’s financial statements
for the year ended 31 January 2016?
Q 32 During 2015, Benz paid a total of $60,000 for rent, covering the period from 1
October 2014 to 31 March 2016.
What figures should appear in the company’s financial statements for the year
ended 31 December 2015?
Q 33 Jam is preparing its financial statements for the year ended 30 June 2015. Its
draft trial balance includes:
A balance for office expenses (including rent) paid in the financial year of
$89,100.
A balance for prepayment of rent at 1 July 2014 of $9,500.
On 31 May 2015 Jared paid three months’ rent in advance of $15,300. What figure for
office expenses in Jam’s statement of profit or loss for the year ended 30 June 2015?
Q 34 Brindal acquired five apartments on 1 June 2014 and immediately rented

them out to different tenants. Brindal has a credit balance on its rent receivable
account in the trial balance extracted as at 31 May 2015 of $22,850. The bookkeeper
has calculated that rents in arrears as at 31 May 2015 amounted to $4,490 and rents
in advance at the same date amounted to $7,720. What was Brindal’s rental income
for the year ended 31 May 2015?
Q 35 Holly began trading on 1 July 2014. The business is now preparing its accounts
for the year ended 30 June 2015. Rent is charged for the year from 1 April to 31
March, and was $1,800 for the year ended 31 March 2015 and $2,000 for the year
ended 31 March 2016. Rent is payable quarterly in advance on 1 March, 1 June, 1
September and 1 December.
What is the charge to Holly’s statement of profit or loss for rent for the year ended
30 June 2015?
Q 36 At 31st March 2009 a company had oil in hand to be used for heating costing
$8,200 and an unpaid heating oil bill for $3,600. At 31st March 2010 the heating oil
in hand was $9,300 and there was an outstanding heating oil bill of $3,200.
Payments made for heating oil during the year ended 31st March 2010 totalled
$34,600. Based on these figures, what amount should appear in the company’s profit
and loss (income statement) for heating oil for the year?

Q 37 A company receives rent for sub‐letting part of its office block.

Rent, receivable quarterly in advance, is received as follows:
Date of receipt Period covered: $

1st October 2008 3 months to 31st December 2008 7,500
28 December 2008 31st March 2009 7,500
4th April 2009 30th June 2009 9,000
1st July 2009 30th September 2009 9,000
1st October 2009 31st December 2009 9,000
What figures, based on these receipts, should appear in the company’s financial or the
year ended 30th November 2009?
Q 38 Theta prepares its financial statements for the year to 30th April each year.
The company pays rent for its premises quarterly in advance on 1st January, 1st April,
1st July and 1st October each year. The annual rent was $84,000 per year until 30th
June 2009. It was increased from that date to $96,000 per year. What rent expense
and end-of-year prepayment should be included in the financial statements for the
year ended 30th April 2010?
Q 39 Which of the following is not an example of a year‐end adjustment?

(1) Recording the disposal of a non-current asset
(2) Recording the write off of an irrecoverable debt
(3) Recording the drawings of a sole trader
(4) Transferring opening inventory to the income statement
Q 40 Bathsheba pays rent on her office in advance and telephone bills in arrears.
The balance on these accounts at 1 January 2010 was:
Rent $12,800 Dr
Telephone $450 Cr
During the year ended 31 December 2009, Bathsheba paid $78,000 to her landlord and
$6,250 to her telephone provider.
Included in the $78,000 paid to her landlord was a bill for $19,500 covering the period 1
December 2009 to 28 February 2010.
On 7 January 2010, Bathsheba received a telephone bill for $589 to cover the month of
December 2009.

What is the charge to profit and loss for each of these items for the year to 31 December
2009?
Q 41 At 1 July 2009 a company had prepaid insurance of $8,200. On 1 January 2010

the company paid $38,000 for insurance for the year to 30 September 2010.
What figures should appear for insurance in the company’s financial statements for the year
ended 30 June 2010?
Q 42 A business sublets part of its office accommodation. The rent is received

quarterly in advance on 1 January, 1 April, 1 July and 1 October.
The annual rent has been $24,000 for some years, but it was increased to $30,000 from 1
July 2009. What amounts for this rent should appear in the company’s financial statements
for the year ended 31 January 2010?
Q 43
The electricity account for the year ended 30 June 20X1 was as
follows.
Opening balance for electricity accrued at 1 July 20X0 $ 300

Payments made during the year
1 August 20X0 for three months to 31 July 20X0 600
1 November 20X0 for three months to 31 October 20X0 720
1 February 20X1 for three months to 31 January 20X1 900
30 June 20X1 for three months to 30 April 20X1 840
1 August 20X1 for three months to 31 July 20X1 840
What is the appropriate entry for electricity in financial
statements?
Q 44 The yearend of M Inc is 30 November 20X0. The company pays for its gas by a
standing order of $600 per month. On 1 December 20W9, the statement from the gas
supplier showed that M Inc had overpaid by $200. M Inc received gas bills for the four
quarters commencing on 1 December 20W9 and ending on 30 November 20X0 for
$1,300, $1,400, $2,100 and $2,000 respectively.
What correct charge for gas in M Inc's statement of profit or loss for the year ended 30
November 20X0?
Q 45 The trainee accountant at Judd Co has forgotten to make an accrual for rent
for December in the financial statements for the year ended 31 December 20X2. Rent
is charged in arrears at the end of February, May, August and November each year.
The bill payable in February is expected to be $30,000. Judd Co’s draft statement of
profit or loss shows a profit of $25,000 and draft statement of financial position
shows net assets of $275,000.
What is the profit or loss for the year and what is the net asset position after the accrual has
been included in the financial statements?

Q 46 Buster's draft accounts for the year to 31 October 20X5 report a loss of
$1,486. When he prepared the accounts, Buster did not include an accrual of $1,625
and a prepayment of $834.
What is Buster's profit or loss for the year to 31 October 20X5 following the inclusion of the
accrual and prepayment?
Q 47 Bookz Co pays royalties to writers annually, in February, the payment

covering the previous calendar year. As at the end of December 20X2, Bookz Co had
accrued $100,000 in royalties due to writers. However, a check of the royalty
calculation performed in January 20X3 established that the actual figure due to be
paid by Bookz Co to writers was $150,000. Before this under-accrual was discovered,
Bookz Co's draft statement of profit or loss for the accounting year ended 31
December 20X2 showed a profit of $125,000 and their draft statement of financial
position showed net assets of $375,000.
What will Bookz Co's profit and net asset position be after an entry to correct the under-
accrual has been processed?

Chapter 18
Capital structure and finance costs
There are two components of equity
𝐸𝑞𝑢𝑖𝑡𝑦 = 𝑆ℎ𝑎𝑟𝑒 𝑐𝑎𝑝𝑖𝑡𝑎𝑙 + 𝑅𝑒𝑠𝑒𝑟𝑣𝑒𝑠
Share capital
Shares are of two types
1. Ordinary shares
2. Preference shares
Ordinary shares are equity shares, and in the financial statements ordinary shares are
shown as part of equity
A company might have other classes of shares called preference shares (or ‘preferred
stock’).
Most classes of preference shares are either redeemable or irredeemable.
 Redeemable preference shares will be bought back by the company at a date in the
future, and cancelled. When a company buys back and cancels shares, the shares are
‘redeemed’. Shares might be redeemed at their nominal value (par value) but the
redemption price might be higher. Redeemable preference shares are usually treated
as debt capital in financial reporting. Dividends paid to the redeemable preference
shareholders are reported as a finance cost in the income statement, similar to
interest costs on a loan.
 „ Irredeemable preference shares will not be redeemed. Like ordinary shares, they
are ‘permanent’ share capital. In practice most preference shares issued by
companies are redeemable. Irredeemable preference shares are likely to be included
in equity Dividends paid to the irredeemable preference shareholders are reported as
a dividend in the statement of changes in equity, ordinary dividend.
Nominal value of shares

All shares have a nominal value or face value. (This is not the price at which they are issued,
nor their market value.) if shares are issued at more than par value excess is called premium.

Nominal value is very important in calculation of number of shares. You need to know
number of shares issued by entity at multiple stages of your syllabus
𝑇𝑜𝑡𝑎𝑙 𝑣𝑎𝑙𝑢𝑒 𝑜𝑓 𝑠ℎ𝑎𝑟𝑒𝑠

𝑇𝑜𝑡𝑎𝑙 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑠ℎ𝑎𝑟𝑒𝑠 =
𝑓𝑎𝑐𝑒 𝑣𝑎𝑙𝑢𝑒 𝑝𝑒𝑟 𝑠ℎ𝑎𝑟𝑒
Authorised, issued, called up and paid up

There is a difference between authorised and issued share capital.
1. „ The authorised share capital of a company is the maximum number of shares that
the company is permitted to issue. This maximum limit on share issues is set by the
company’s constitution.
2. „ The issued share capital is the nominal value of the shares that have actually been
issued. Dividends are paid on issued shares. Issued share capital cannot exceed the
authorised share capital.
„ When new shares are issued, it is usual to ask shareholders to pay the full issue price
immediately, when the shares are issued. Occasionally, a company might ask for the price of
the shares to be paid in instalments.
3. The called-up part of the share capital might therefore be less than the full nominal
value. The called-up share capital is the amount of the nominal value of issued shares
that the shareholders have been asked to pay so far.
4. „ Paid-up share capital is the amount of called-up capital that has actually been paid
by the shareholders. If all the shareholders have not yet paid what they owe for their
shares, paid-up share capital is less than the called-up share capital.
Reserves
There are two broad categories of reserves in the statement of financial position of a
company:
Capital reserves:
These are reserves representing long-term capital of the company, from which dividends
cannot be paid. Capital reserves include the share premium account and the revaluation
reserve. „

Revenue reserves:
These are accumulated retained profits of the company. Revenue reserves can be paid out as
dividends, if required. Revenue reserves are usually all included in a single retained earnings
reserve or accumulated profits reserve.
So extending the equation
𝐸𝑞𝑢𝑖𝑡𝑦 = 𝑂𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒 𝑐𝑎𝑝𝑖𝑡𝑎𝑙 + 𝑖𝑟𝑟𝑒𝑒𝑑𝑒𝑚𝑎𝑏𝑙𝑒 𝑝𝑟𝑒𝑓𝑒𝑟𝑒𝑛𝑐𝑒 𝑠ℎ𝑎𝑟𝑒𝑠

+ 𝑠ℎ𝑎𝑟𝑒 𝑝𝑒𝑟𝑚𝑖𝑢𝑚 + 𝑟𝑒𝑡𝑎𝑖𝑛𝑒𝑑 𝑒𝑎𝑟𝑛𝑖𝑛𝑔𝑠 + 𝑟𝑒𝑣𝑎𝑙𝑢𝑎𝑡𝑖𝑜𝑛 𝑠𝑢𝑟𝑝𝑙𝑢𝑠
Issuance of shares
Rights issues
In a rights issue the existing shareholders have the right to purchase the new shares in
proportion to their existing shareholding.
Example
Bunker Company has 4 million shares of $1 each in issue. These shares are traded on the
stock market at a current market price of $4 each. The company now decides to make a 1 for
4 rights issue at $3.20 per share.
This means that the company will issue 1,000,000 new shares (4,000,000 × 1/4) at $3.20
each. The shares will be offered to the existing shareholders, who are given the opportunity
to buy one new share for every four shares that they currently own.
The nominal value is $1 per share, therefore the share premium is $2.20 per share.
The total amount of cash raised from the share issue is $3,200,000 (1,000,000 shares ×
$3.20).
This should be accounted for as follows:
„ Debit: Bank account $3,200,000
„ Credit: Ordinary share capital $1,000,000 (1,000,000 shares at nominal value)
„ Credit: Share premium $2,200,000 (1,000,000 × $2.20).

Advantages and disadvantages of rights issues

Advantages of a rights issue
There are several advantages with issuing shares in the form of a rights issue.
 „ A rights issue is a method of raising new capital in the form of cash. Companies
might need new capital to expand their business.
 Existing shareholders have the opportunity to buy a proportion of the new shares, so
that they retain the same proportion of the total shares in the company as before. „
Since the price of the new shares is below the current market price, the issue should
be attractive to shareholders.
Disadvantages of a rights issue
There are also some disadvantages with rights issues.
 „ A rights issue usually involves raising a large amount of cash. When a company
does not need a large amount of cash, it will try to persuade the shareholders to
permit a different method of issuing shares to raise the cash required.
 „ A rights issue might be unsuccessful when the stock market is depressed and share
prices are falling.
 A rights issue can be expensive. It is usually cheaper to obtain new finance by
borrowing.
Bonus issue of shares (capitalisation issue)

A bonus issue of shares (also called a capitalisation issue) is an issue of free new shares to
existing shareholders in proportion to their existing shareholding. For example, if there is a 1
for 3 bonus issue, shareholders will receive one new share free of charge for every three
shares they currently hold.
 „ The company raises no money from a bonus issue.

 „ A bonus issue is simply a way of converting reserves into share capital.
A bonus issue is accounted for in the main ledger as follows:
„ Debit: Reserves (with the nominal value of the new shares)
„ Credit: Ordinary share capital

The reserve that is reduced (debited) is normally the share premium. If the share premium is
not big enough, it is reduced to zero, and any remaining reduction of reserves is made by
reducing retained earnings.
Example
Giveaway Company has 12,000,000 ordinary shares of $0.50 in issue, and a share premium
of $7,000,000. It decides to make a 1 for 2 bonus issue.
The effect of the bonus issue is as follows:
„ The issued share capital before the bonus issue is 12,000,000 shares of $0.50 = $6,000,000.
„ 6,000,000 new shares are issued (12,000,000 × 1/2). These have a nominal value of
$3,000,000 (6,000,000 × $0.50).
Share capital Share premium
$ $
Before the bonus issue 6,000,000 7,000,000
Bonus issue 3,000,000 (3,000,000)
After the bonus issue 9,000,000 4,000,000
Advantages and disadvantages of bonus issues

Advantages of a bonus issue
 A company whose shares are traded on a stock market can use a bonus issue to
increase the number of shares in issue. This will bring down the share price and might
help to make the shares more marketable.
 A bonus issue can be used to reduce the share premium account, or even remove the
share premium account entirely from the statement of financial position.
Disadvantages of a bonus issue
Except for the advantages listed above, a bonus issue serves no practical purpose.
 No cash is raised from the issue.

 If a bonus issue exceeds the size of the share premium account, retained earnings will
be reduced by the issue. This would convert profits that are distributable as profits
into long-term share capital that cannot be distributed.
Dividends
Classification on bases of payment
Interim dividend
Dividend announced and paid during the year is called interim dividend.
Final dividend
Final ordinary dividend is either announced before end of accounting period or after end of
accounting period.
Ordinary vs preference dividend
Preference dividend
Preference shares has fixed rate of dividend. These shares are presented as
6% preference shares of 50c each $20000
Here 6% is rate of dividend (6 % of $20000 = $1200) and 50c is par value per share.
Percentage is always applied on total value of shares to calculate total preference dividend.
If shares are redeemable it is treated as finance cost in income statement and if shares are
irredeemable it is treated in statement of changes in equity.
If $400 is paid as interim dividend final dividend will be $800. So
Final dividend = Total dividend – interim dividend
Ordinary dividend
Ordinary shares do not have fixed rate of dividend. It is announced as %age or as per share.
For example 5% or 5c per share.
If it is announced as %age, the percentage applies to total value of shares. If it is announced

as per share, then
Dividend = total number of shares * dividend per share

As there is no fixed rate of dividend so there is no relationship between interim dividend and
final dividend. We don’t subtract interim dividend to calculate value of final dividend.
Final dividend may be announced before year end or after year end and treated accordingly.
Case 1 Announced and approved before year end

If for example 2018 ordinary dividend is announce and approved before 31st December 2018
it will be treated as dividend in statement of changes in equity of 2018 and will be paid in
2019
Case 2 Announced and approved after year end

If for example 2018 ordinary dividend is announce and approved after 31st December 2018 it
will be treated as dividend in statement of changes in equity of 2019 and will be paid in 2019
Note: In 2018 statement of changes in equity, dividend related to 2017 will be treated
Loan Capital
Features of loans and loan notes

‘Loan capital’ is long-term borrowing. A loan is a liability, and is included in noncurrent
liabilities in the statement of financial position provided that repayment of the loan will not
fall due within the next 12 months.
Loan capital takes two main forms:
 „ bank loans
 „ loans in the form of a borrowing instrument, such as bonds or notes.
Longer-term bank loans to business entities are usually at a variable rate of interest, so the
interest rate payable on the loan rises or falls with changes in the market rates of interest.
Bonds and notes are financial instruments issued by companies that enable them to borrow
from investors. Companies issue bonds or notes and these are purchased by investors. In
return the company promises to:
 „ pay interest on the face value of the bonds or notes and

 „ redeem the bonds or notes at a date in the future.
 Interest is usually at a fixed annual rate of interest.

The difference between bonds and loan notes is the time to redemption when they are
issued. Loan notes are usually redeemable within up to about seven years from the date of
their issue. Bonds are usually longer-term and redeemable after ten years or more.
Statement of changes in equity

Ordinary Shares Preference Retained Revaluation Premium
Shares Earnings Surplus
Balance b/f XXX XXX XXX XXX XXX
Shares XXX XXX XXX
Issued(Right
and public)
Share issued XXX (XXX) (XXX)
(Bonus)
Profit after tax XXX
Dividend (XXX)
Incremental XXX (XXX)
depreciation
Revaluation XXX
Revalued asset XXX (XXX)
disposed of
Balance c/f XXX XXX XXX XXX XXX

Q1 Which of the following items should appear as items in a company’s statement of
changes in equity?
1 Equity dividends paid 2 Income from investments
3 Profit for the financial year after tax 4 Gain on revaluation of non-current assets
Q2 The following information relates to dividends declared and paid by a company,

whose financial year ends on 30 June. 2009
$
November Paid final dividend for year ended 30 June 2009. (Declared August 2009)
800,000
2010
April Paid interim dividend

200,000
November Paid final dividend for year ended 30 June 2010. (Declared August 2010)
900,000
What figures (if any) should be included in the income statement of the company for the year
to 30 June 2010 and in the statement of financial position as at that date?
Income statement Statement of financial position: liability
A $1,100,000 deduction $900,000
B $1,000,000 deduction Nothing
C Nothing $900,000
D Nothing Nothing
Q3 Which of the following statements are correct?

1 When a company makes a bonus issue of shares, the total of share capital plus reserves
remains unchanged.
2 A company’s statement of changes in equity must include the proceeds from any share
issue during the period.
A 1 only is correct B 2 only is correct
C 1 and 2 are both correct. D Neither statement is correct.
Q4 At 1 July 2009 a limited liability company’s capital structure was as follows:
$000
Share capital: Ordinary shares of $1 each 200,000
Share premium account 160,000
In the year ended 30 June 2010 the company made the following share issues.
1 December 2009
A bonus issue of one share for every two held, using the share premium account.
1 February 2010
A rights issue of two shares for every five held at that date, at $2 per share.
What will be the balances on the company’s share capital and share premium accounts at 30
June 2010 as a result of these issues?
$000 $000
A 420,000 180,000
B 420,000 120,000
C 540,000 60,000
D 540,000 160,000

A limited liability company issued 400,000 ordinary shares of 50c each at a premium of $2
per share. The cash proceeds were correctly recorded but the full amount was credited to the
sales account.
Which of the following journal entries is needed to correct this error?
Debit Credit
$ $
A Sales 1,000,000
Share capital account 200,000
B Share capital account 200,000
Sales 1,000,000
C Sales 1,000,000
Share capital account 1,000,000
D Share capital account 1,000,000
Sales 1,000,000
Q5 A limited liability company issued 50,000 ordinary shares of 25c each at a premium of
50c per share. The cash received was correctly recorded but the full amount was
credited to the ordinary share capital account.
Which of the following journal entries is needed to correct this error?
Debit Credit
$ $
A Share premium account 25,000
Share capital account 25,000

B Share capital account 25,000
C Share capital account 37,500
D Share capital account 25,000
Cash 25,000
Q6 At 30th June 2009 a company had $1m 8% loan notes in issue, interest being paid
half yearly on 30th June and 31st December.
On 30th September 2009 the company redeemed $250,000 of these loan notes at
par, paying interest due to that date.
On 1st April 2010 the company issued $500,000 7% loan notes, interest payable
halfyearly on 31st March and 30th September.
What figure should appear in the company’s income statement for interest payable in
the year ended 30th June 2010?
A $88,750 B $82,500 C $65,000 D $73,750
Q7 A company made an issue for cash of 1,000,000 50c shares at a premium of 30c per
share. Which of the following journal entries correctly records the issue?
Debit Credit
$$
A Share capital 500,000
Share premium 300,000
Bank 800,000

B Bank 800,000
Share capital 500,000
C Bank 1,300,000
Share capital 1,000,000
D Share capital 1,000,000
Bank 1,300,000
Q8 Allegra, a limited liability company, provides the following information about

dividends in the year ended 31 August 2010:
21 Sept 2009 Final equity dividend for year ended 31 August 2009 declared $26,000
21 Oct 2009 Final equity dividend for year ended 31 August 2009 paid
31 March 2010 Interim equity dividend for the year ended 31 August 2010 paid
$17,000
18 August 2010 Final equity dividend for year ended 31 August 2010 proposed
$28,000
20 August 2010 Final equity dividend for year ended 31 August 2010 declared
$28,000
What amounts should be disclosed in the statement of changes in equity and

statement of financial position of Allegra for the year ended 31 August 2010?
Statement of changes in equity Statement of financial

position
A $43,000 Nil
B $43,000 $28,000

C $45,000 $28,000
D $45,000 Nil
Q9 Which of the following is not normally a characteristic of a preference share?
A Dividends are fixed
B Dividends are paid before any equity dividends
C It entitles the holder to a vote
D Dividends are paid on specific dates
Q10 A company has in issue 30,000 ordinary shares of $1 nominal value. To date,
shareholders have been asked to pay 50c per share – a total of $15,000, and have
paid 30c per share – a total of $9,000.
$15,000 is
A the authorised share capital
B the called-up share capital
C the issued share capital
D the paid-up share capital
Q11 At 1 July 2009 a limited liability company’s capital structure was as follows:
Share capital: 1,000,000 shares of 50c each 500,000
In the year ended 30 June 2010 the company made the following share issues.
1 January 2010 :A bonus issue of one share for every four in issue at that date, using
the share premium account.
1 April 2010 : A rights issue of one share for every ten in issue at that date, at $1.50
per share.

What will be the balances on the company’s share capital and share premium
accounts at 30 June 2010 as a result of these issues?
$ $
A 687,500 650,000
B 675,000 375,000
C 687,500 150,000
D 687,500 400,000
Q12 Which of the following statements are correct?
1 A company might make a rights issue if it wished to raise more equity capital.
2 A rights issue might increase the share premium account whereas a bonus issue is
likely to reduce it.
3 A bonus issue will reduce the gearing (leverage) ratio of a company.
4 A rights issue will always increase the number of shareholders in a company

whereas a bonus issue will not.
A 1 and 2 B 1 and 3 C 2 and 3 D 3 and 4
Q13 A company prepares an income statement separate from a statement of

comprehensive income. In which statement should there be disclosure of tax on profit
for the current period and unrealised gains on the revaluation of properties?
Tax on profit for current period Unrealised gains on revaluation
A Income statement Income statement
B Income statement Statement of comprehensive income
C Statement of comprehensive income Income statement
D Statement of comprehensive income Statement of comprehensive

income

Q14 Which of the following items should appear in a company’s statement of
changes in equity?
1 Preference dividends paid
2 Interest payable on loans
3 Profit for the financial year before tax
4 Bonus issue of shares
A 1, 2 and 4only B 2 and 3 only
C 3 and 4 only D 4 only
Q15 Which of the following could appear as separate items in the statement of
changes in equity required by IAS I Presentation of Financial Statements as part of a
company’s financial statements?
(1) Gain on revaluation of land (2) Loss on sale of investments
(3) Prior year adjustments (4) Proceeds of an issue of ordinary shares
(5) Dividends proposed after the year end
C 1 and 3 only D All five items
Q16 At 30th June 2009 a company’s capital structure was as follows:
Ordinary share capital
500,000 shares of 25c each 125,000
In the year ended 30th June 2010 the company made a rights issue of 1 share for
every

2 held at $1 per share and this was taken up in full. Later in the year the company
made a bonus issue of 1 share for every 5 held, using the share premium account for
the purpose. What was the company’s capital structure at 30th June 2010?
Ordinary share capital Share premium account
$ $
A 450,000 125,000
B 225,000 250,000
C 225,000 325,000
D 212,500 262,500
Q17 At 31st December 2009 the capital structure of a company was as follows:
Ordinary share capital
100,000 shares of 50c each 50,000
During 2010 the company made a bonus issue of 1 share for every 2 held, using the
share premium account for the purpose, and later issued for cash another 60,000
shares at 80c per share.
What is the company’s capital structure at 31st December 2010?
Ordinary share capital Share premium account
$ $
A 130,000 173,000
B 105,000 173,000
C 130,000 137,000
D 105,000 137,000

Q18 Which of the following might appear as an item in a company’s statement of
changes in equity?
(1) Profit on disposal of properties
(2) Surplus on revaluation of properties
(3) Equity dividends proposed after the reporting period
(4) Issue of share capital

Chapter 19
Events after the reporting period (IAS 10)
IAS 10 Events After the Reporting Period defines events after the reporting period as 'those
events, favourable and unfavourable, that occur between the end of the reporting period
and the date when the financial statements are authorised for issue' (IAS 10, para 3).
 Adjusting event if conditions prevail at reporting date. Financial statements

must be adjusted to reflect these events.
 Non adjusting event is that event for which conditions did not exist at
reporting date. It can be subcategorized into
o One which have an impact on going concern assumption. Adjust
financial statements to show on breakup basis
o One which does not have any impact on going concern assumption.
Financial statements should not be adjusted. Disclosures are provided
as notes to financial statements.
Examples of adjusting events

1. The settlement after the reporting date of a court case which confirms a year end
obligation.
2. The receipt of information after the reporting date that indicates that an asset was
impaired at the reporting date.
3. The bankruptcy of a customer after the reporting date that confirms that a year-end
debt is irrecoverable.
4. The sale of inventories after the reporting period at a price lower than cost.
5. The determination after the reporting date of the cost of assets purchased or
proceeds from assets sold before the reporting date.
6. The discovery of fraud or errors showing that the financial statements are incorrect.
Examples of non-adjusting events

1. Announcing a plan to discontinue an operation.
2. Major purchases of assets.
3. The destruction of assets after the reporting date by fire or flood.
4. Entering into significant commitments or contingent liabilities.
5. Commencing a court case arising out of events after the reporting date.

Q 1 IAS 10 Events After the Reporting Period defines the extent to which events after the
reporting period should be reflected in financial statements. Five such events are
listed below:
(1) Merger with another company
(2) Insolvency of a customer
(3) Destruction of a major non-current asset
(4) Sale of inventory held at the end of the reporting period for less than cost
(5) Discovery of fraud.
Which three of the listed items are, according to IAS 10, normally to be classified as
adjusting?
A 1, 2 and 3 B 2, 4 and 5
C 1, 2 and 5 D 1, 4 and 5
Q 2 Which of the following events occurring in the period between the end of the
reporting period (31st December) and the approval of the accounts (3rd March)
requires adjustment to the accounts?
A The announcement on 2nd January of a plan to discontinue a division
B A fire in a warehouse on 5th February
C The commencement of a legal action on 31st January relating to an event in the previous
November
D The purchase of a major new factory on 5th January
Q 3 Which of the following statements about financial accounting for a limited liability
company is true?
A A revaluation surplus arises when a non-current asset is sold at a profit
B The authorised share capital of a company is the maximum nominal value of shares the
company may issue

C The notes to the financial statements must contain details of all adjusting events as
defined in IAS 10 Events After the Reporting Period
D The dividend paid in the year cannot exceed the profits of that year
Q 4 The draft financial statements of a limited liability company are under consideration.
The accounting treatment of the following material events after the reporting period
needs to be determined:
(1) The bankruptcy of a major customer, with a substantial debt outstanding at the end of
the reporting period.
(2) A fire destroying some of the company’s inventory (the company’s going concern status is
not affected).
(3) An issue of shares to finance expansion.
(4) Sale for less than cost of some inventory held at the end of the reporting period.
According to IAS 10 “Events After the Reporting Period”, which of the above events require
an adjustment to the figures in the draft financial statements?
A 1 and 4 only B 1, 2 and 3 only
Q 5 In finalising the financial statements of a company for the year ended 30 June 2016,
which of the following material matters should be adjusted for?
(1) A customer who owed $180,000 at the 30 June 2016 went bankrupt in July 2016.
(2) The sale in August 2016 for $400,000 of some inventory items carried in the statement of
financial position at $500,000.
(3) A factory with a value of $3,000,000 was seriously damaged by a fire in July 2016.
The factory was back in production by August 2016 but its value was reduced to $2,000,000.
(4) The company issued 1,000,000 ordinary shares in August 2016.
A 1 and 2 only B 1 and 4 only C 2 and 3 only D 3 and 4 only

Q 6 Which of the following events occurring after the reporting period are classified as
adjusting, if material?
(1) The sale of inventories valued at cost at the end of the reporting period for a figure in
excess of cost.
(2) A valuation of land and buildings providing evidence of an impairment in value at the
year end.
(3) The issue of shares and loan notes.
(4) The insolvency of a customer with a balance outstanding at the year end.
A 1 and 3 B 1 and 4
C 2 and 3 D 2 and 4
Q 7 Which of the following events between the end of the reporting period and the date
the financial statements are authorised for issue must be adjusted in the financial
statements?
(1) Declaration of equity dividends.
(2) Decline in market value of investments.
(3) The announcement of changes in tax rates.
(4) The announcement of a major restructuring.
A 1 only B 2 and 4
Q 8 Which TWO of the following events after the reporting period would normally qualify
as adjusting events according to IAS 10 “Events After the Reporting Period Date”?
(1) The bankruptcy of a credit customer with a balance outstanding at the end of the
reporting period.
(2) A decline in the market value of investments.
(3) The declaration of an ordinary dividend.

(4) The determination of the cost of assets purchased before the end of the reporting period.
A 1 and 2 B 1 and 4
C 2 and 3 D 3 and 4
Q 9 On 7 November 2015 there was a fire in the warehouse of Yorkfab, in which inventory
valued at $120,000 was destroyed. This represented 30% of the company’s inventory.
Under the terms of the insurance contract, the insurance company has stated that it
will only pay out the first $30,000 of the claim.
How should this be reported in the financial statements for the year to 31 October 2015?
Statement of profit or loss Disclosure in the notes
A $nil None
B $nil A loss of $90,000
C $120,000 A receivable of $30,000
D $90,000 loss None
Q 10 On 20 May 2016 the finance director of Orajee reported to the board of

directors that the company’s financial statements for the year to 31 March 2016
reported a profit of $3,528,650.
On 26 May 2016 the directors were informed of the following:
(1) A flood on 25 May 2016 in one of the company’s warehouses damaged inventory valued
at $330,000. All inventory was uninsured against flood damage. It will cost $20,000 to
dispose of the damaged items and clear up the affected part of the warehouse.
(2) An insurance claim in respect of inventory which was stolen on 2 April 2016 was settled
for $250,000. The finance director had anticipated that the claim would be settled for
$270,000.
What is Orajee’s reported profit for the year to 31 March 2016 when these events have been
accounted for?
A $3,198,650 B $3,178,650 C $3,428,650 D $3,528,650

Q 11 On 1 December 2015, after Flower’s draft financial statements for the year to
30 September 2015 had been prepared, the accountant received a letter regarding an
accident which had taken place on 14 September 2015.
The accident had destroyed a machine with a carrying amount of $275,000. The first
$30,000 of any claim is not covered under the company’s insurance policy. The
accountant had treated this correctly when drafting the financial statements.
The letter now informs Flower that as the accident was due to negligence, the entire
loss is uninsured. How does the information in the letter affect the draft financial
statements?
A $245,000 loss should be disclosed in a note
B $275,000 loss should be disclosed in a note
C $245,000 should be expensed to profit or loss
D $275,000 should be expensed to profit or loss
Q 12 On 6 March 2015, there was a fire in Tingle’s factory. Tingle incurred

$125,000 in repairing the damage. As Tingle had insurance cover, $125,000 was
reported as a receivable in the draft financial statements for the year to 30 April
2015. In May 2015, the insurance company advised that due to non-compliance with
the terms of the insurance contract, only $12,500 of the repair costs would be
reimbursed.
Which of the following is the correct accounting treatment for the repair costs in the
financial statements for the year to 30 April 2015?
A Only a disclosure note is required
B Only an expense of $112,500 should be recognised
C Only a receivable for $12,500 should be recognised
D Both an expense of $112,500 and a receivable for $12,500 should be recognized

Q 13 Which of the following statements is/are correct?
1 IAS 37 requires disclosure in the notes to the financial statements of the uncertainties
affecting the outcome of a provision
2 IAS 10 requires disclosure of the nature and financial effect of a non-adjusting event after
the reporting period in the notes to the financial statements
A 1 only B 2 only
C Both 1 and 2 D Neither 1 or 2
Q 14 The accounts of Overexposure Inc for the year ended 31 December 20X1 are
to be approved on 31 March 20X2. Before they are approved, the following events
take place.
1 On 14 February 20X2 the directors took the strategic decision to sell their
investment in Quebec Inc despite the fact that this investment generated material
revenues.
2 On 15 March 20X2, a fire occurred in the eastern branch factory which destroyed a
material amount of inventory. It is estimated that it will cost $505,000 to repair the
significant damage done to the factory.
3 On 17 March 20X2, a customer of Overexposure Inc went into liquidation.
Overexposure has been advised that it is unlikely to receive payment for any of the
outstanding balances owed by the customer at the year end
How should these events reflected in the financial statements at 31 December 20X1?
Adjust Disclose Do nothing
A 3 2,3 1
B 2, 3 1 –
C 3 1, 2 –
D 2 3, 1
Q 15 Which of the following events between the reporting date and the date the
financial statements are authorised for issue must be adjusted in the financial
statements?
1 Declaration of equity dividends 2 Decline in market value of investments
3 The announcement of changes in tax rates 4 The announcement of a major

restructuring

A 1 only B 2 and 4
Q 16 Which of the following is the correct definition of an adjusting event after the
reporting period?
A An event that occurs between the reporting date and the date on which the financial
statements are authorised for issue that provides further evidence of conditions that existed
at the reporting date
B An event that occurs between the reporting date and the date on which the financial
statements are authorised for issue that provides evidence of conditions that arose
subsequent to the reporting date
C An event that occurs after the date the financial statements are authorised for issue that
provides further evidence of conditions that existed at the reporting date
D An event that occurs after the date the financial statements are authorised for issue that
provides evidence of conditions that arose subsequent to the reporting date
Q 17 If a material event occurs after the reporting date but before the financial
statements are authorised for issue outside the organisation, and this event does
NOT require adjustment, what information should be disclosed in the financial
statements?
A The nature of the event and an estimate of the financial effect (or a statement that such
an estimate cannot be made)
B The nature of the event only
C An estimate of the financial effect (or a statement that such an estimate cannot be made)
only
D No disclosure required
Q 18 Which of the following statements are correct based upon the requirements
of IAS 10 Events after the Reporting Period?
(1) Details of all adjusting events must be disclosed by note to the financial statements.

(2) A material loss arising from the sale, after the reporting date of inventory valued at cost
at the statement of financial position date must be reflected in the financial statements.
(3) If the market value of investments falls materially after the reporting date, the details
must be disclosed by note.
(4) Events after the reporting period are those that occur between the statement of financial
position date and the date when the financial statements are approved.
A (1) and (2} only B (1), (3) and (4) only
C (2) and (3} only D (2), (3) and (4) only
Q 19 Brakes Co had a reporting date of 30 September 20X8. The financial

statements for that year were approved by the directors on 14 December 20X8 and
issued to shareholders on 17 January 20X9. Details of several events which occurred
after the reporting date of 30 September 20X8 are as follows :
(1) On 3 October 20X8 a fire destroyed all inventory on the premises with the consequence
that it was unlikely Brakes would be able to continue as a going concern.
(2) A credit customer with an outstanding balance at 30 September 20X8 was declared
bankrupt on 12 December 20X8.
(3) An ordinary dividend of 6c per share was declared on 1 December 20X8.
(4) Inventory valued at a cost of $800 at the year-end was sold for $650 on 11 November
20X9.
Which of the items above are non-adjusting events?
A All of the items are non-adjusting events
B Item (3) only is a non-adjusting event
C Items (3) and (4} only are non-adjusting events
D Items (1) and (3) only are non-adjusting events

Q 20 Where there are material non-adjusting events, a note to the financial
statements should disclose:
A The nature of the event and the estimated financial! effect
B A letter from the solicitor
C Nothing
D Where the event took place
Q 21 Viola has an accounting year-end of 31 January 20X4. Which of the following

events, if they occurred before the financial statements were approved, would be
classified as adjusting event s in accordance with IAS 10 Events after the Reporting
Period?
(1) Viola paid an equity dividend of $10,000 on 28 February 20X4. The dividend had been
proposed by the directors on 20 January 20X4
(2) Notification of a compensation claim from a customer was received on 15 February which
related to a faulty product sold by Viola in January 20X4
(3) Viola received notification on 5 February that a major credit customer was insolvent A
(1}, (2) and (3) are adjusting events
B (2} and (3) are adjusting events
C (1) and (3) are adjusting events
D (2} only is an adjusting event

Chapter 20 Revenue IFRS15

IFRS 15 Revenue from Contracts with Customers provides a five-step approach to revenue
recognition and clarifies when revenue from various sources may be recognised. This should
help entities to determine revenue recognition on a more consistent and comparable basis.
Revenue is defined as 'income arising in the course of an entity's ordinary activities' IFRS 15,
Appendix A)
The five-step approach for revenue recognition

Revenue from the sale of goods and/or provision of services should be recognised based
upon application of the five-step approach:
(1) Identify the contract
(2) Identify the separate performance obligations within a contract
(3) Determine the transaction price
(4) Allocate the transaction price to the performance obligations in the contract
(5) Recognise revenue when (or as) a performance obligation is satisfied
At a point in time or over a period of time

Revenue is recognised either at a point in time or over a period of time (IFRS 15, para 32).
According to IFRS 15, an entity satisfies a performance obligation and recognises revenue
over time, if one of the following criteria is met:
(a) The customer simultaneously receives and consumes the benefits provided by the entity’s
performance as the entity performs its obligations, or
(b) The entity’s performance creates or enhances an asset (for example, work in progress)
that the customer controls as the asset is created or enhanced, or
(c) The entity’s performance does not create an asset with an alternative use to the entity
and the entity has an enforceable right to payment for performance completed to date.

Control of an asset refers to the ability to direct the use of, and obtain substantially all of the
remaining benefits (inflows or savings in outflows) from, the asset. Control includes the
ability to prevent other entities from obtaining benefits (i.e. using or selling) an asset.
The following are indicators of the transfer of control:
• The entity has a present right to payment for the asset
• The customer has legal title to the asset
• The entity has transferred physical possession of the asset
• The customer has the significant risks and rewards of ownership of the asset
• The customer has accepted the asset.
If revenue is not recognised over time, then it must be recognized at a point in time (IFRS 15,
para 38).
This is more likely to apply to the provision of services over a period of time.
According to IFRS 15, revenue is to be recognised at a point in time, an entity must be able to
determine when control over goods or assets supplied has been transferred.

Q 1 Details of two of Clooney's transactions in the year ended 31 August 20X7 are as
follows:
(1] Clooney has sold a food processing machine to a customer, Pitt. The machine is in transit
to Pitt who will not pay for the machine until it is safely delivered and installed.
{2) Clooney has sold a number of food mixers to another customer, Damon, on credit.
These have been delivered but Damon has not yet paid
For which of the transactions should sales revenue be recognised?
A (1) only
B (2) only
C Both (1) and (2)
D Neither (1) nor (2)
Q 2 Kaplin publishes study materials and runs courses for students studying for
professional accountancy examinations. Details of two transactions that occurred in
December 20X8 were as follows:
1 Ten students enrolled on a course due to commence in January 20X9 at a price of
$1,000 per student and paid their fees in advance.
2 Kaplin sold study materials to forty self-study students at a price of $400 per student who
will receive no further support with their studies.
What sales revenue should Kaplin recognise in the financial statements for the year ended 31
December 20X8?
Q 3 Vostok sells computer games and is the sole distributor of a new game 'Avalanche'.
Customer demand for the new game has resulted in lots of advance orders pending release
of the game later in the year. As at 31 July 20X2, Vostok had received customer orders and
deposits received amounting to $500,000. Vostok anticipates that all orders will be
despatched to customers by 1 December 20X2.

What sales revenue can Vostok recognise in the financial statements for the year ended
31 July 20X2?
Q 4 Scrubber provides contract cleaning services in commercial office premises. Scrubber

charges each business an annual fee of $1,200, based upon providing an agreed level
of service each month. In one office block there are twelve businesses which use
Scrubber to provide cleaning services. At 1 April 20XS four businesses had paid one
month in advance and two customers were in one month in arrears. With effect from
31 August 20XS, one customer terminated their agreement with Scrubber, whilst two
additional contracts were signed to take effect from 1 December 20XS. At 31 March
20X6, the same four businesses had paid one month in advance and two customers
were in arrears by one month.
What sales revenue can Scrubber recognise in the financial statements for the year ended
31 March 20X6?
Q 5 Hamilton provides internet and website support services to its customers. On 1 May
20X7,
Hamilton agreed a three-year support service agreement with a customer at a total price of
$2,250.
How much revenue can be recognised from this transaction for the year for the year ended
31 March 20X7?

Chapter 21 Disclosures
The notes to the financial statements comprise a statement of accounting policies and any
other disclosures required to enable to the shareholders and other users of the financial
statements to make informed judgements about the business. The notes to the financial
statements are usually more detailed and extensive for limited liability company financial
statements, rather than for the accounts of a sole trader or partnership.
IAS 2 disclosure requirements

According to IAS 1 Presentation of Financial Statements companies are required to disclose
the accounting policies adopted in preparing their financial statements, including those used
to account for inventories. IAS 2 also requires that the total carrying amount of inventories
are broken down into appropriate sub-headings or classifications and that the total amount
of inventory carried at net realisable value is disclosed.

According to IAS 16 Property Plant and Equipment, there are a number of disclosure
requirements relating to non-current assets. The principal disclosure requirements include:
(1) The measurement bases used for arriving at the carrying amount of the asset (e.g. cost or
valuation). If more than one basis has been used, the amounts for each basis must be
disclosed.
(2) Depreciation methods used, with details of useful lives or the depreciation rates used.
(3) The gross amount of each asset heading and its related accumulated depreciation
(aggregated with accumulated impairment losses) at the beginning and end of the period.
(4) A reconciliation of the carrying amount at the beginning and end of the period, showing:
• Additions
• assets classified as held for sale
• disposals
• revaluations
• depreciation.

(5) Any commitments for future acquisition of property, plant and equipment.
(6) If assets are stated at revalued amounts, the following should be disclosed:
• the effective date of the revaluation

• whether an independent valuer performed the valuation
• the methods and assumptions applied in estimating the items’ fair value
• the carrying amount that would have been recognised had the assets been carried at
cost
• the revaluation surplus, indicating the change for the period.
If there has been a revaluation of property, plant and equipment in the year, this may be
performed by either an employee or director of the company, or by an independent third
party. Who performed the valuation is regarded as relevant or useful information to those
who make investment decisions based upon the content of the financial statements. If the
valuation was performed by an employee or director of the company, although it is
permitted by IAS 16, there is potential for objectivity to be compromised, and therefore
details of the valuer should be disclosed in the notes to the financial statements.

According to IAS 38, Intangible Assets, the financial statements should disclose the following
for capitalised development costs and other intangible assets:
In addition, the financial statements should also disclose the total amount of research and
development expenditure recognised as an expense during the period.
• the amortisation method used and the expected period of amortisation
• a reconciliation of the carrying amounts at the beginning and end of the period, showing
new expenditure incurred, amortisation and amounts written off because a project no longer
qualifies for capitalisation
• amortisation during the period.

According to IAS 37 the following are the key disclosure requirements relating to provisions,
contingent liabilities and contingent assets:
 when the requirement is to provide for a contingent liability, the liability is reflected
in the financial statements, but called a provision in order to highlight the uncertainty
surrounding it
 the movement in this provision is recorded in the financial statements each year.
 when disclosure is made by note, the note should state:
o the nature of the contingency
o the uncertain factors that may affect the future outcome
o an estimate of the financial effect, or a statement that such an estimate
cannot be made.

According to IAS 10, if a non-adjusting event is identified and it is material (i.e. significant to
the decision making of users) it should be disclosed by way of a note to the financial
statements. The note should describe:
(i) The nature of the event
(ii) An estimate of the financial effect, or a statement that such an estimate cannot be made.
IFRS 15 disclosure requirements

According to IFRS 15 Revenue from Contracts with Customers, the following are the key
disclosure requirements relating to revenue recognition:
• The accounting policy for revenue recognition should be disclosed.
• Significant judgements made to apply the 5-step approach required by IFRS 15 should be
disclosed.
• The total amount of revenue recognised, broken down into significant categories should be
disclosed.

IAS1 disclosure requirements
Items requiring separate disclosure

Certain items need to be separately disclosed on the face of the statement of profit or loss so
that they are clearly visible to the users of the financial statements. The main items requiring
such treatment are significant, one-off transactions or events. They need to be disclosed
because they are not part of the normal trading activity of the business and could
significantly distort the reported profits or losses for the year.
They include:
 Restructuring or reorganisation of the company

 Profits or losses on disposal of property, plant and equipment (or investments), and
 Impairments of inventory, property, plant and equipment.
All such items should be included on their own, separate line in the statement of profit or
loss.

Q1 Which of the following should be disclosed in the notes to the financial statements
relating to intangible assets?
(1] Accumulated amortisation charges at the start and at the end of the reporting period
(2] A reconciliation of the movement in the net carrying amount of intangible assets for the
reporting period
(3] A statement from the directors, explaining whether or not they believe that capitalised
development costs will be recovered at some future date.
A (1) only B (2) only C (1) and (2) D (2) and (3)
Q2 Which of the following would be a suitable accounting policy note for disclosure in
the financial statements relating to intangible assets?
A The entity has some intangible assets accounted for using the cost model and other
intangible assets accounted for using the valuation model, based upon the judgement of the
directors. All intangible assets are written off over their expected useful lives to the business.
B The entity accounts for intangible assets using the cost model. All intangible assets are
amortised over their expected useful lives to the business, between five and fifteen years, on
a straight-line basis.
C The entity accounts for intangible assets using the valuation model, based upon a
valuation estimated by the directors. All changes in the carrying valuation from one
reporting date to the next are accounted for in the statement of profit or loss.
D The entity uses the same accounting policy for tangible and intangible non-current assets
the financial statements relating to land and buildings?
A Land and buildings are accounted for at cost and are written off over their expected useful
life of fifty years on a straight-line basis.
B Land and buildings are accounted for at cost and are not depreciated as the directors
believe that the market value of land and buildings will increase over time.
C Land and buildings are accounted for at cost, and the buildings are written off over their
expected useful life of fifty years on a straight-line basis.
D The entity uses the same accounting policy for land and buildings as it does for intangible
assets
the financial statements relating to inventory?
A Inventory is valued at the lower of total cost and total net realisable value.
B Inventory is valued at the lower of cost and net realisable value for each separate product
or item.
C Inventory is valued at the higher of cost and net realisable value for each separate product
or item.
D Inventory is valued at cost for each separate product or item
Is the following statement true or false?
86
Q5 Non-adjusting events can be ignored when preparing the annual financial statements
and supporting disclosure notes.
A True B False
Q6 When dealing with non-adjusting events what information should be disclosed in the
notes to the financial statements?
(1) The nature of the event.
(2) The names of those with responsibility for the event
(3) The geographical location of the event
(4) An estimate ofthe financial effect of the event
A (1) and (2) B (1), (3) and (4) C (2), (3) and (4) D (1) and (4)

Q7 In relation to non-current assets, which of the following items should be disclosed in
the notes to the financial statements?
(1) Reconciliation of carrying amounts of non-current assets at the beginning and end of
period
(2) Useful lives of assets or depreciation rates used
(3) Increases in asset values as a result of revaluations in the period
(4] Depreciation expense for the period
A (1) and (2) only B (1) and (3) only
C (2), (3) and (4) only D (1), (2), (3) and (4)
Q8 lAS 1 Presentation of financial statements requires certain items to be presented on

the face of the statement of profit or loss for the year. Which THREE of the following
items must be disclosed on the face of the statement of profit or loss for the year?
(1) Revenue (2) Closing inventory
(3) Finance costs (4) Dividends paid
(S) Tax expense (6) Depreciation charge for the year
Q9 Which one of the following statements is true in relation to disclosure requirements?
A Disclosure requirements consist only of monetary disclosures
B Disclosure requirements consist only of narrative disclosures
C Disclosure requirements consist of both monetary and narrative disclosures
D Disclosure notes do not form part of the annual f inancial statements
Q10 When considering disclosures required in the financial statements relating to

property, plant and equipment, is the following statement true or false? The
estimated useful lives of the property plant and equipment and the depreciation rates
used must be disclosed
A True B False

Q11 When making disclosures required in the financial statements relating to
provisions, which of the following needs to be disclosed?
(1) The nature of the obligation
(2) Expected timing of any payment
(3) The name of the party to whom the obligation is owed
(4} The nature of any uncertainties which may affect the amount to be paid
A (1), (2) and (3) B (2), (3) and (4)
C (1), (3) and (4) D (1), (2), and (4)
Q12 When considering disclosures required in the financial statements in relation

to provisions, is the following statement true or false?
An entity need only state the carrying amount of the obligation at the beginning and end of
the accounting period, without providing a reconciliation of the movement in the provision
during the year.
A True B False
Q13 In relation to non-current assets, which of the following items must be

disclosed in the notes to the financial statements of an entity which complies with
international accounting standards?
(1] The depreciation charge on property, plant and equipment for the year
{2] The amortisation charge on intangible assets for the year
{3] The date of any revaluation of property plant and equipment made during the accounting
year.
(4] Whether an independent valuer was used in the revaluation of property, plant and
equipment during the accounting year.
A (1], (2) and (3] only B (2], {3) and (4) only
C (1), {3) and (4) only D (1), {2), (3) and (4)

Q14 How are intangible assets disclosed in the statement of financial position?
A Cost only without any recognition of amortisation or impairment
B Cost or valuation -amortisation - impairment = Carrying amount
C The amortisation amount only
D At the disposal proceeds value

Chapter 22
Income statement and statement of
financial position
The statement of profit or loss and other comprehensive income
Statement of profit or loss and other comprehensive income for XYZ for the year ended 31 December XXXX
$m
Revenue X
Cost of sales (X)
––––
Gross profit X
Distribution costs (X)
Administrative expenses (X)
––––
Profit from operations X
Investment income X
Finance costs (X)
––––
Profit before tax X
Tax expense (X)
––––
Net profit for the period X
Other comprehensive income
Gain/loss on property revaluation in the year X/(X)
––––
Total comprehensive income for the year X
––––

Statement of financial position of XYZ as at 31 December Year 1
Assets
Non‐current assets
$m $m
Property, plant and equipment XXX
Intangible assets XXX
Investments XXX
Current assets
Inventories XXX
Trade and other receivables XXX
Cash XXX
Total assets XXX
Equity and liabilities
Capital and reserves
Issued capital XXX
Share premium XXX
Revaluation reserve XXX
Retained earnings XXX
Non‐current liabilities
Long‐term loans XXX
Long‐term provisions XXX
Current liabilities
Trade and other payables XXX
Short‐term borrowings (bank overdraft) XXX
Current tax payable XXX
Short‐term provisions XXX
Total equity and liabilities XXX
 If the income statement is shown separately, the statement of comprehensive income

shows ‘other comprehensive income’ during the period, including any related tax.
(A single statement of comprehensive income simply combines these two statements into
one.

 If an examination question refers to a statement of comprehensive income, it will be
referring to a single statement, combining the income statement elements and the
other comprehensive income.
If an examination question refers to an income statement, this will mean the statement
from ‘revenue’ to ‘profit or loss for the year’.
Examples of other comprehensive income

There are several examples of ‘other comprehensive income’ but the most significant for the
purpose of your examination is unrealised gains or losses on the revaluation of non-current
assets (which add to other comprehensive income).
Definition of total comprehensive income

Total comprehensive income during a period is the sum of:
 The profit or loss for the period and

 Other comprehensive income.
Information to be presented on the face of the statement of comprehensive income

As a minimum, IAS 1 requires that the statement of comprehensive income should include
line items showing the following amounts for the financial period:
(a) Revenue
(b) Finance costs (for example, interest costs)
(c) Tax expense (i.e. tax on profits for the year)
(d) Profit or loss
(e) Each component of ‘other comprehensive income’
(f) Total comprehensive income.
When an entity presents an income statement separately from the statement of

comprehensive income, the income statement must include the items listed above as (a) to
(d).

Recognition in profit or loss
With the introduction of a requirement to present a statement of comprehensive income, it is
necessary to distinguish between:
 Items that should be included in the section of the statement between ‘revenue’ and
‘profit’, and
 Other comprehensive income.
Information to be shown on the face of the statement of comprehensive income (or the
income statement, if separate) or in the notes
The following information may be shown either on the face of the statement of
comprehensive income or in a note to the financial statements:
 Material items of income and expense

 An analysis of expenses, providing either:
o expenses analysed by their nature, or
o expenses analysed by the function that has incurred them.
IAS 1 encourages entities to show this analysis of expenses on the face of the statement of
comprehensive income (or income statement), rather than in a note to the accounts.
Material items that might be disclosed separately include:
 A write-down of inventories from cost to net realisable value, or a write-down of

items of property, plant and equipment to recoverable amount
 The cost of a restructuring of activities
 Disposals of items of property, plant and equipment
 Litigation settlements
 A reversal of a provision.
Analysis of expenses by their nature

When expenses are analysed according to their nature, the categories of expenses will vary
according to the nature of the business.
In a manufacturing business, expenses would probably be classified as:
 Raw materials and consumables used

 Staff costs (‘employee benefits costs’)
 Depreciation

 Other expenses.
There will also be an adjustment for the increase or decrease in inventories of finished goods
and work-in-progress during the period.
Analysis of expenses by their function

When expenses are analysed according to their function, the functions are commonly ‘cost of
sales’, ‘distribution costs’, ‘administrative expenses’ and ‘other expenses’. This method of
analysis is also called the ‘cost of sales method’. In practice, most entities use this method.

Q 1 The following information relates to Minnie's hairdressing business in the year ended
31 August 20X7:
Expenses 7,100
Closing inventory 900
Purchases 12,950
Gross profit 12,125
Inventory drawings of shampoo 75
What is the sales figure for the business?
A $32,700 B $25,600
c $25,675 D $25,750
Q 2 Astral Co has a debit balance relating to income tax of $500 included in its trial
balance extracted on 30 June 20X4. Astral estimated that its income tax liability for
the year ended 30 June 20X4 was $8,000.
What amounts should be included in Astral Co's financial statements for the year ended
30June 20X4?
Statement of profit or loss Statement of financial position
A $8,000 $8,000
B $8,500 $8,000
c $7,500 $8,500
D $8,000 $7,500

Q 3 Arthur had net assets of $19,000 at 30 April 20X7. During the year to 30 April 20X7,
he introduced $9,800 additional capital into the business and his profit for the year
was $8,000. During the year ended 30 April 20X7 he withdrew $4,200.
What was the balance on Arthur's capital account at 1 May 20X6?
A $5,400 B $13,000
c $16,600 D $32,600
Q 4 The capital of a business would change as a result of:
A a supplier being paid by cheque
B raw materials being purchased on credit
C non-current assets being purchased on credit
D wages being paid in cash
Q 5 A draft statement of financial position has been prepared for Lollipop, a sole trader. It
is now discovered that a loan due for repayment by Lollipop fourteen months after
the reporting date has been included in trade payables.
The necessary adjustment will:
A have no effect on net current assets
B increase net current assets
C reduce net current assets
D increase current assets but reduce net current assets
Q 6 The profit of a business may be calculated by using which one of the following
formulae?
A Opening capital- drawings+ capital introduced- closing capital
B Closing capital+ drawings - capital introduced- opening capital
C Opening capital+ drawings- capital introduced - closing capital

D Closing capital- drawings+ capital introduced- opening capital
Q 7 Which accounting concept requires that amounts of goods taken from inventory by
the
proprietor of a business are treated as drawings?
A Accruals
B Prudence
C Separate entity
D Substance over form
Q 8 State the amount that will be included in other comprehensive income of Zappa Co
for the year ended 30 June 20X4 based upon the following information.
There was a revaluation surplus of $70,000 arising on revaluation of land and buildings
during the year.
The depreciation charge for the year relating to buildings was $20,000.
During the year, there was a gain on disposal on disposal of motor vehicles of $1,000.
Q 9 State the total amount that will be charged as an expense In the statement of profit
or loss of Clapton Co or the year ended 30 September 20X6 based upon the following
information.
Clapton Co incurred development expenditure during the year of $50,000.
The amortisation charge on intangible assets for the year was $15,000.
During the year, there was a loss on disposal on disposal of plant and equipment of $3,000.

Chapter 23
Cash flow statement
Indirect method
Cash flow statement
XYZ ltd
For the year ending 31st December 2018
Cash flow from operating activities

profit before tax XXX
Add depreciation for the year XXX
Add interest expense XXX
Add loss on disposal XXX
less profit on disposal (XXX)
less interest income (XXX)
less dividend received (XXX)
Working capital changes
Increase in current asset (XXX)
Decrease in current asset XXX
Increase in current liability XXX
Decrease in current liability (XXX)
Cash flow from operations XXX
interest paid (XXX)
Tax paid (XXX)
Net Cash flow from operating activities XXX
Cash flow from investing activities
Purchase of non-current asset (XXX)
sale of non-current asset XXX
interest received XXX
dividend received XXX
Net Cash flow from investing activities XXX
Cash flow from Financing activities
Shares issued/further investment XXX
loan taken XXX
loan repaid (XXX)
Drawings (XXX)
Net cash flow from financing activities XXX

Net cash flow for the year XXX
Cash and cash equivalent at start XXX
Cash and cash equivalent at end XXX
Note: if you are given balance of
 Dividend (receivable or payable)

 Interest (receivable or payable)
 Bank (normal or overdraft)
 Short term investments
Don’t treat it in change in working capital portion
Note: Always have a look at change in revaluation surplus in two SOFPs. It may not be
specifically given in question.
Note: if profit is not given in question use following formula to find profit after tax and
then add tax for the year to find profit before tax
𝐶𝑙𝑜𝑠𝑖𝑛𝑔 𝑟𝑒𝑡𝑎𝑖𝑛𝑑 𝑒𝑎𝑟𝑛𝑖𝑛𝑔

= 𝑜𝑝𝑒𝑛𝑖𝑛𝑔 𝑟𝑒𝑡𝑎𝑖𝑛𝑑 𝑒𝑎𝑟𝑛𝑖𝑛𝑔 + 𝑝𝑟𝑜𝑓𝑖𝑡 𝑎𝑓𝑡𝑒𝑟 𝑡𝑎𝑥 − 𝑑𝑖𝑣𝑖𝑑𝑒𝑛𝑑 𝑝𝑎𝑖𝑑
+ 𝑖𝑛𝑐𝑟𝑖𝑚𝑒𝑛𝑡𝑎𝑙 𝑑𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛
− 𝑟𝑒𝑎𝑡𝑖𝑛𝑒𝑑 𝑒𝑎𝑟𝑛𝑖𝑛𝑔 𝑢𝑠𝑒𝑑 𝑖𝑛 𝑏𝑜𝑛𝑢𝑠 𝑖𝑠𝑠𝑢𝑒
𝑝𝑟𝑜𝑓𝑖𝑡 𝑏𝑒𝑓𝑜𝑟𝑒 𝑡𝑎𝑥 = 𝑝𝑟𝑜𝑓𝑖𝑡 𝑎𝑓𝑡𝑒𝑟 𝑡𝑎𝑥 + 𝑡𝑎𝑥 𝑓𝑜𝑟 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟
Note: if profit is given in question you may not be given dividend. Use the same formula
given above to find dividend.
Note: Eliminate the bonus issue factor before finding cash received from issuance of
shares.

Asset account maintained at historical cost
Asset account
Balance b/d XXX
Cash/Bank Payable XXX Disposal (cost value) XXX
Part Exchange Acc Dep (revalued asset) XXX
Bank/Cash XXX
Disposal XXX XXX
XXX XXX
Accumulated depreciation account
Balance b/d XXX
Asset (of asset revalued) XXX Depreciation(for the year) XXX
Disposal (of asset disposed off) XXX
Balance c/d XXX
XXX XXX
Disposal account
Accumulated depreciation XXX
XXX XXX

Ledger maintained at Carrying Value
Asset account
Balance b/d (carrying value) XXX
Cash/Bank Payable XXX Disposal (carrying value) XXX
Part Exchange Dep (for the year) XXX
Bank/Cash XXX
Disposal XXX XXX
XXX XXX
Disposal account

XXX XXX
Tax account
Opening payable(SOFP fig) XXX
Closing payable (SOFP fig) XXX
XXX XXX
Interest expense /dividend account

Opening payable (SOFP fig) XXX
Closing payable (SOFP fig) XXX
XXX XXX
Interest/dividend income account

Opening receivable (SOFP fig) XXX
Income statement XXX Cash paid (bal fig) XXX
XXX Closing receivable (SOFP fig)
XXX XXX
XXX XXX

Indirect method
Cash flow statement
XYZ ltd
For the year ending 31st December 2018
Cash flow from operating activities

Cash received from customers XXX
less cash paid to suppliers (XXX)
less cash paid to employees (XXX)
less cash paid for other expenses (XXX)
Cash flow from operations XXX
interest paid (XXX)
Tax paid (XXX)
Net Cash flow from operating activities XXX
Cash flow from investing activities
Purchase of non-current asset (XXX)
sale of non-current asset XXX
interest received XXX
dividend received XXX
Net Cash flow from investing activities XXX
Cash flow from Financing activities
Shares issued/further investment XXX
loan taken XXX
loan repaid (XXX)
Drawings (XXX)
Net cash flow from financing activities XXX
Net cash flow for the year XXX
Cash and cash equivalent at start XXX
Cash and cash equivalent at end XXX

Step 1 find cash received from customer by preparing receivable control account
0B
Receivable ledger control account

Sales XXX Sales return XXX
Sales Tax (on sales) XXX Sales tax (on sales return) XXX
Interest (Charged on late payment) XXX Bank XXX
Bank (Dishonoured cheque) XXX Discount allowed XXX
Bad debts recovered XXX Bad debts XXX
Cash (advance or refund) XXX Contra/Set off XXX
XXX XXX
𝐶𝑎𝑠ℎ 𝑟𝑒𝑐𝑒𝑖𝑣𝑒𝑑 𝑓𝑟𝑜𝑚 𝑐𝑢𝑠𝑡𝑜𝑚𝑒𝑟𝑠 = 𝑐𝑎𝑠ℎ 𝑟𝑒𝑐𝑒𝑖𝑣𝑒𝑑 𝑓𝑟𝑜𝑚 𝑐𝑟𝑒𝑑𝑖𝑡 𝑐𝑢𝑠𝑡𝑜𝑚𝑒𝑟𝑠 + 𝑐𝑎𝑠ℎ 𝑠𝑎𝑙𝑒𝑠
Step 2 find cash paid to suppliers

1B
 Find purchase figure by preparing inventory account
inventory account
Opening inventory (SOFP fig) XXX
Purchases XXX Cost of sales XXX
XXX Closing inventory (SOFP fig)
XXX XXX
XXX XXX
 Subtract cash purchases from total purchase figures to find credit purchases
Payable ledger control account
Purchase return XXX Purchases XXX
Sales tax (on purchases return) XXX Sales tax (on purchases) XXX
Cash/Bank XXX Cash (advance or refund) XXX
Discount Received XXX XXX
Contra/Set off XXX XXX
XXX XXX
Cash paid to supplier=cash paid to creditors +cash purchases

Step 3 cash paid to employees/for other expenses
Expense account
Opening prepaid XXX Opening unpaid XXX
Cash (bal figure) XXX Income statement XXX
Closing unpaid XXX Closing prepaid XXX
XXX XXX

Q 1 A draft statement of cash flows contains the following calculation of net cash inflow
from operating activities.
$m
Operating profit 13
Depreciation 2
Decrease in inventories (3)
Decrease in trade and other receivables 5
Decrease in trade payables 4
Net cash flow from operating activities 21
Which of the following corrections need to be made to the calculation?
1 Depreciation should be deducted, not added.
2 Decrease in inventories should be added, not deducted
3 Decrease in receivables should be deducted, not added.
4 Decrease in payables should be deducted, not added.
A 1 and 3 B 2 and 3
C 1 and 4 D 2 and 4

Q 2 An extract from a statement of cash flows prepared by a trainee accountant is shown
below.
Cash flows from operating activities
$m
Net profit before taxation 28
Adjustments for:
Depreciation (9)
Operating profit before working capital changes 19
Decrease in inventories 13
Increase in receivables (4)
Increase in payables (8)
Cash generated from operations 20
Which of the following criticisms of this extract are correct?
(1) Depreciation charges should have been added, not deducted.
(2) Decrease in inventories should have been deducted, not added.
(3) Increase in receivables should have been added, not deducted.
(4) Increase in payables should have been added, not deducted.
A 2 and 4 B 2 and 3
C 1 and 3 D 1 and 4
Q 3 Which of the following items could appear in a company’s statement of cash flows?
(1) Proposed dividends
(2) Rights issue of shares
(3) Bonus issue of shares

(4) Repayment of loan
A 1 and 3 B 2 and 4
C 1 and 4 D 2 and 3
Q 4 In preparing a company’s statement of cash flows complying with IAS 7 Statements

of
Cash Flows, which, if any, of the following items could form part of the calculation of cash
flow from financing activities?
(1) Proceeds of sale of premises
(2) Tax paid
(3) Bonus issue of shares
A 1 only B 2 only
C 3 only D None
Q 5 Which of the following assertions about statements of cash flows is/are correct?
(1) A statement of cash flows prepared using the direct method produces a different figure
for operating cash flow from that produced if the indirect method is used.
(2) Rights issues of shares do not feature in statements of cash flows.
(3) A surplus on revaluation of a non-current asset will not appear as an item in a statement
of cash flows.
(4) A profit on the sale of a non-current asset will appear as an item under Cash
Flows from Investing Activities in a statement of cash flows.
A 1 and 4 B 2 and 3
C 3 only D 2 and 4

Q 6 In the course of preparing a company’s statement of cash flows, the following figures
are to be included in the calculation of net cash from operating activities:
Depreciation charges 980,000
Profit on sale of non‐current assets 40,000
Increase in inventories 130,000
Decrease in receivables 100,000
Increase in payables 80,000
What will the net effect of these items be in the statement of cash flows?
A Addition to operating profit 890,000
B Subtraction from operating profit 890,000
C Addition to operating profit 1,070,000
D Addition to operating profit 990,000
Q 7 A statement of cash flows prepared in accordance with IAS7 Statements of Cash

Flows opens with the calculation of cash flows from operating activities from the net
profit before taxation. Which of the following lists of items consists only of items that
would be added to net profit before taxation in that calculation?
A Decrease in inventories, depreciation, profit on sale of non-current assets
B Increase in trade payables, decrease in trade receivables, profit on sale of noncurrent

assets
C Loss on sale of non-current assets, depreciation, increase in trade receivables
D Decrease in trade receivables, increase in trade payables, loss on sale of noncurrent assets

Q 8 The following information has been extracted from the accounting records of Potter,
a company:
Cash sales 13,780
Profit before tax 25,600
Receivables at start of period 10,540
Receivables at end of period 29,140
Credit sales 164,300
Payables at start of period 9,380
Payables at end of period 23,460
Credit purchases 81,290
Inventory at start of period 11,700
Inventory at end of period 12,560
Expenses paid in cash 18,230
Amounts paid to staff 45,000
What amount of cash is generated from operations?
Q 9 Extracts from the financial statements of Deuce Co showed balances as follows:
20X9 20X8
$1 Share capital 300,000 120,000
Share premium 260,000 100,000
A bonus issue of 1 share for every 12 held at the 20X8 year-end occurred during the year and
loan notes of $300,000 were issued at par. Interest of $12,000 was paid during the
year.
What is the net cash inflow from financing activities?

A $480,000 B $605,000
C $617,000 D $640,000
Q 10 Nobus Co is producing its statement of cash flows for the year ended 31
December 20X5.
The accountant has identified the following balances in the financial statements:
Interest accrual b/f 4900
Interest accrual c/f 1200
Interest payable 20000
Interest receivable 13000
Preference dividend payable b/f 120000
Preference dividends payable c/f 140000
Dividends (statement of changes in equity) 600000
What is the net cash flow from investing activities?
A {$10000) B $13,000 C ($603, 700) D ($590, 700)
 Which of the f ollowing items could appear as items in an entity's st at ement of cash
flows?
(1) A bonus issue of shares.
(2) A rights issue of shares.
(3) The revaluation of non-current assets.
(4) Dividends paid.
A All four items B (1), (3) and (4) only
C {2) and (4) only D {3) only

Q 11 Where, in an entity's financial statements, complying with International
accounting standards, should you find the proceeds of non-current assets sold during
t he period?
A Statement of cash flows and statement of financial position
B Statement of changes in equity and statement of financial position
C Statement of profit or loss and other comprehensive income and cash flow statement
D Statement of cash flows only
Q 12 A business's bank balance increased by $750,000 during its last financial year.
During the same period it issued shares, raising $1 million and repaid a loan of
$750,000. It purchased non-current assets for $200,000 and charged depreciation of
$100,000. Receivables and inventory increased by $575,000.
What was the profit for the year?
A $1,175,000 B $1,275,000 C $1,325,000 D $1,375,000
Q 13 A business had non-current assets with a carrying amount of $50,000 at the

start of the financial year. During the year the business sold assets that had cost
$4,000 and had been depreciated by $1,500. Depreciation for the year was $9,000.
The carrying amount of assets at the end of the financial year was $46,000.
How much cash has been invested in non-current assets during the year?
A $4,000 B $7,500 C $9,000 D $10,000
Q 14 A business has made a profit of $8,000 but its bank balance has fallen by
$5,000.
This could be due to:
A depreciation of $3,000 and an increase in inventories of $10,000
B depreciation of $6,000 and the repayment of a loan of $7,000
C depreciation of $12,000 and the purchase of new non-current assets for $25,000
D the disposal of a non-current asset for $13,000 less than its book value

Q 15 A Co made a profit for the year of $18,750, after accounting for depreciation
of $1,250. During the year, non-current assets were purchased for $8,000, receivables
increased by $1,000, inventories decreased by $1,800 and payables increased by
$350.
What was A Co's increase in cash and bank balances during the year?
A $10,650 B $10,850
C $12,450 D $13,150
Q 16 A statement of cash flows prepared in accordance with the indirect method

reconciles profit before tax to cash generated from operations.
Which of the following lists of items consists only of items that would be ADDED to profit
before tax?
A Decrease in inventory, depreciation charge, profit on sale of non-current assets
B Increase in payables, decrease in receivables, profit on sale of non-current assets
C Loss on sale of non-current assets, depreciation charge, increase in receivables
D Decrease in receivables, increase in payables, loss on sale of non-current assets
Q 17 In relation to statements of cash flows, which, if any, of the following

statements are correct?
(1) The direct method of calculating net cash from operating activities leads to a different
figure from that produced by the indirect method, but this is balanced elsewhere in the
statement of cash flows.
(2) An entity making high profits must necessarily have a net cash inflow from operating
activities.
(3) Profits and losses on disposals of non-current assets appear as items under investing
activities in the statement of cash flows.
A Statement (1) only B Statement (2) only
C Statement (3) only D None of the statements

Q 18 Which of the following is not an advantage of the statement of cash flows?
A It highlights the effect of non-cash transactions
B It helps an assessment of the liquidity off a business
C The numbers within it cannot be manipulated through the adoption of beneficial

accounting policies
D It helps users to estimate future cash f lows
Q 19 Grainger makes all sales for cash and is preparing its statement of cash flows
using the direct method. Grainger has compiled the following information:
Cash sales 212500
Cash purchases 4600
Cash expenses 11200
Payables at start and at the end of the year 12300 and 14300
Credit purchases 123780
Wages and salaries due at start and at the end of the year 1,500 and 2300
Wages and salaries expense 34600
Inventory at start and ay the end of the year 23,000 and 17800
What is the cash generated from operations by Grainger?
A $35,520 B $46,320
C $74,920 D $41,120

Q 20 Howard Co provided the following extracts from the statement of financial
position for the years ended 31 December:
20X6 20X7
$000 $000
Accumulated profits 72,000 82,000
10% Loan notes 30,000 40,000
Tax payable 12,000 15,000
Dividends payable 1,200 1,600
All dividends were declared and proposed before the year end. There was no adjustment for
under/over provision for tax in the year ended 31 December 20X7. No interim dividends
were paid during the year. The additional10% loan notes were issued on 1 January
20X7.
What is Howard Co's operating profit (profit before interest and tax) for the year ended 31
December 20X7?
A $29,600 B $27,200
C $30,600 D $102,600
Q 21 In the year ended 31 May 20x2, Galleon purchased non-current assets at a

cost of $140,000, financing them partly with a new loan of $120,000. Galleon also
disposed of noncurrent assets with a carrying amount of $50,000, making a loss of
$3,000. Cash of $18,000 was received from the disposal of investments during the
year.
What is Galleons net cash inflow or outflow from investing activities to include in the
statement of cash flows?
Q 22 Carter Co has non-current assets with a carrying amount of $2,500,000 on 1

December 20X7. During the year ended 20 November 20X8, the following occurred:
(1) Depreciation of $75,000 was charged to the statement of profit or loss
(2) Land and buildings with a carrying amount of $1,200,000 were revalued to $1,700,000

(3) An asset with a carrying amount of $120,000 was disposed of for $150,000
The carrying amount of non-current assets at 30 November 20X8 was $4,200,000.
What amount should be shown for the purchase of non-current assets in the statement of
cash flows of Carter Co for the year ended 30 November 20X8?
Q 23 Which THREE of the following items would you expect to see included within
the operating activities section of a statement of cash flows prepared using the direct
method?
(1) Payments made to suppliers
(2] Increase or decrease in receivables
(3] Receipts from customers
(4) Increase or decrease in inventories
(5) Increase or decrease in payables
(6) Finance costs paid
Q 24 When comparing two statements of cash flows, one prepared using the direct
method and the other prepared using the indirect method, the only differences
between the two statements relate to the presentation of items within 'cash flows
from operating activities'.
Is the above statement true or false?
A True B False
Q 25 When preparing a statement of cash flows using the direct method in

accordance with lAS 7, the depreciation charge for the year is disclosed as an
adjustment to reported profit for the year within 'cash flows from operating
activities'.
Is the above statement true or false?
A True
B False

Chapter 24
Consolidation
Consolidated financial statements
The financial statements of a group of entities presented as those of a single economic

entity.
Group:
A parent and its subsidiaries.
Subsidiary:
An entity which is controlled by another entity (the parent).
Parent:
An entity which has one or more subsidiaries.
Control:
Control over an investee arises when an investor is exposed, or has rights, to variable returns
from its involvement with the investee and has the ability to affect those returns through its
power over the investee.
IFRS uses the term "power" to consider whether an investor is a parent having control over a
subsidiary. Control can be achieved by:
 Holding more than 50% of the voting rights; or

 Controlling appointments to and removals from the board of directors; or
 Having the majority of votes to cast at board meetings; or
 A legal right to govern financial and operating policies of the investee.
Non-controlling interest:
The equity in a subsidiary which is not attributable, directly or indirectly, to a parent.

Trade investment:
An investment in another company which does not give control or significant influence
(usually a shareholding less than 20%).
Significant Influence
Control is achieved when an entity has power over another entity (a subsidiary).
 The power to participate in financial and operating policy decisions without control is
called significant influence.
 The distinction between control and significant influence is important in determining
how to account for an investment in another entity.
 Significant influence gives rise to an associate undertaking
Consolidated Financial Statements
A company which has a subsidiary at the end of its reporting period (i.e. a parent) must
prepare consolidated financial statements in addition to its separate financial statements in
accordance with IFRS 10. In practice, a parent will usually prepare (and publish):
 Its own statement of financial position with relevant notes; and

 Consolidated versions of its statement of financial position, statement of
comprehensive income and statement of cash flows, all with relevant notes.
Exception to Consolidation
Some subsidiaries are not consolidated. This occurs when control of the subsidiary is only of a
temporary nature and the parent is actively looking to sell the subsidiary.
This exception does not apply to subsidiaries acquired years ago, only to those acquired
where management has the intention of an immediate resale.
Step 1: Determination of Share

• On basis of number of shares acquired
• On basis of dividend

Step 2:
At Acquisition At Reporting Change
Share Capital Xxx xxx
Share Premium Xxx Xxx
Revaluation Surplus
At Acq.
Incorporated Xxx Xxx
Un-incorporated Xxx Xxx
Post Acq.
Un-incorporated Xxx xxx
Retained Earning Xxx Xxx xxx
Unrealised Profit (xxx) (xxx)
(If S is seller)
Xxx Xxx Xxx
Step 3: Calculation of Goodwill
Case-1 :: NCI at Fair Market Value.
Consideration Xxx
Add: Fair market value of NCI Xxx
Xxx
Less: Net Assets at acquisition (xxx)
Goodwill (company) Xxx
Case-2 :: NCI as share of net assets
Consideration Xxx
Add: %age share of NCI in Net Assets at Xxx
acquisition
Xxx
Less: Net Assets at acquisition (xxx)
Goodwill (Parent) Xxx
Step 4: NCI
Value at acquisition Xxx
(%age x (Total of change column.) Xxx
Xxx
Step 5: Group Reserve
Parent’s Retained Earnings Xxx
Unrealised Profit (If P is seller) (xxx)
Add: %age share of parent (Change in RE- xxx

Unrealized profit if subsidiary is seller)
xxx

Step 6: Revaluation Surplus
Parent xxx
Add: Share in post-acquisition revaluation surplus of subsidiary xxx
xxx
Types of questions
1. Acquisition since incorporation
Opening retained earnings are zero
2. 100% acquisition
NCI is zero
3. Mid year acquisition
Calculation of opening retained earning
4. Share issuance not incorporated
Update share capital and share premium of parent
Consolidated income statement
parent company name
for the year ending --------
Sales (P+S-intragroup sales) XXX

less cost of sales (P+S-Intra group sales+ unrealized profit (XXX)
Gross profit XXX
Less Expenses (P+S) (XXX)
Net profit XXX
Profit attributable to parent XXX
NCI XXX
Total profit XXX

Consolidated statement of finacial position
parent company name
as at -------
Non-current asset
PPE ( P+ S+ Revaluation surplus) XXX
Goodwill XXX
Current assets
Inventory (P+S- unrealized profit) XXX
Bank (P+S) XXX
Receivable (P+S-intragroup receivable) XXX
Less Current liabilities
Bank overdraft (P+S) (XXX)
Payables (P+S-intragroup payables) (XXX)
XXX
Equity and Non-current liability
Share capital (parent only) XXX
Share premium (Parent only) XXX
Revaluation surplus (as calculated in working XXX
Retained earning (as calculated in working) XXX
NCI ( as calculated in working) XXX
Loan (P+S) XXX
XXX
Investments in Associates
Equity Method
A different model of accounting is required for this relationship.
IAS 28 requires that the equity method of accounting be used to incorporate the results of
the associate into consolidated financial statements.
Consolidated Statement of Financial Position

 Individual assets and liabilities of the associate are not included in the consolidated
statement of financial position, as they are not subject to control.
 Under the equity method a single asset, investment in associate, is included within
non-current assets.

 This asset is calculated as
Original cost of the investment
plus the parent's share of the associate's post-acquisition profits
less any impairment of goodwill.
Consolidated Profit or Loss

 No items of revenue or costs of the associate are included in the consolidated profit
or loss.
 Under the equity method a single line item, share of profit of associate, is included
above the profit before tax total.
 This line item is calculated as the investor's share of the associate's after-tax profit or
loss.

Q 1 On 31 July 20X7 P acquired 60% of the 100,000 $1 ordinary shares of S for a sum of
$240,000. S had accumulated profits at 1 January 20X7 of $200,000 and during the
year to 31 December 20X7 made a profit of $60,000.
What is the figure for purchased goodwill attributable to the equity owners of P that should
appear in the consolidated statement of financial position at 31 December 20X7?
A $60,000 B $39,000
C $95,000 D $24,000
Q 2 P acquired 400,000 ordinary $1 shares in S on I January 20X5 for $850,000. At that

date the share capital of S was 500,000 $1 ordinary shares and accumulated profits
of $400,000. The net assets of S at 1 January 20X5 were generally at fair value with
the exception of a property which had a fair value of $100,000 in excess of its book
value.
The fair value of the non-controlling interests at the date of acquisition by P is $200,000.
The company estimates the life of goodwill to be 10 years.
What is the amount of goodwill attributable to the equity owners of P that should appear in
the consolidated statement of financial position as at 31 December 20X7?
A $40,000 B $50,000
C $130,000 D $110,000
Q 3 P acquired 75% of the 600,000 $1 ordinary shares in S on 1 January 20X4. At that

date S had accumulated profits of $350,000 and a share premium account balance of
$100,000. P paid $840,000 for the shares in S. At 31 December 20X7 S had
accumulated profits of $500,000 and P had accumulated profits of $800,000.
What are the consolidated accumulated profits as at 31 December 20X7?
A $1,145,000 B $920,000
C $912,500 D $882,500

Q 4 Consider the following statements:
1 In order for an entity to be a subsidiary of another entity the investing entity must own at
least 50% of the share capital of the investee.
2 If the investing entity loses control of a subsidiary then it need no longer consolidate that
subsidiary.
Which of these statements is correct?
A 1 only is correct. B 2 only is correct
C Both statements are correct. D Neither statement is correct.
Q 5 Pride acquired 80% of the equity shares in Sense on 30 September Year 3 at a cost of
$600,000. The following information has been extracted from the financial
statements of Sense.
31 December Year 3 31 December Year 2
$000 $000
Equity share capital 200 200
Retained profits 220 160
Other reserves 90 90
Sense did not pay any dividend during Year 3.
The valuation of the assets and liabilities of Sense reflect their fair value. Pride prepares its
financial statements to 31 December each year. The fair value of non-controlling interests at
the date of acquisition is
What is the value of the purchased goodwill in the consolidated statement of financial
position at 31 December Year 3?
A $204,000 B $228,000
C $276,000 D $332,000

Q 6 On 1 March Year 2, Pack acquired 70% of the share capital of Sack at a cost of
$215,000.
At that date the fair value of the net assets of Sack were $250,000. Transaction costs
incurred in making the acquisition were $25,000. Pack has decided to account for the
business combination using the full goodwill or fair value method, by attributing some
goodwill to the non-controlling interests in Sack. It is estimated that at 1 March Year 2 the
fair value of the non-controlling interests in Sack was $85,000.
What was the total amount of goodwill recognised on the acquisition of Sack by Pack?
A $40,000 B $50,000
C $65,000 D $75,000
Q 7 Cheap and its subsidiary Chips have the following results for the year 20X4.
Cheap Chips
Revenue $500,000 $250,000
Cost of sales $250,000 $130,000
–––––––– ––––––––
Gross profits $250,000 $120,000
–––––––– ––––––––
During the year, Cheap sold goods to Chips for $50,000, making a profit of $10,000.
None of these goods remain in inventories at the year end.
What will be shown as revenue and gross profit in the 20X4 consolidated income statement?
A Revenue- $700,000 Gross profit - $370,000
B Revenue- $700,000 Gross profit - $365,000
C Revenue- $750,000 Gross profit - $370,000
D Revenue- $750,000 Gross profit - $365,000

Q 8 Park acquired 60% of the issued capital of Sand on 1st April 20X4 when Sand's
retained profits were $100,000.
Goodwill arising on the acquisition amounted to $30,000. No impairment has been

recognised since the acquisition.
During the accounting period to 31st March 20X5, Sand sold goods to Park for $160,000
making a mark-up of 25% on cost.
At the end of this accounting period, Park included in its inventory value $10,000, being the
price paid for goods purchased from Sand.
At 31st March 20X5, the retained profits in the statements of financial position of the
individual companies are: Park $200,000; Sand $150,000.
Based on the information above, what figure will appear as group retained profits in the
consolidated statement of financial position of the Park Group as at 31st March 20X5?
A $320,000 B $230,000
C $228,800 D $198,800
Q 9 Boo is a subsidiary of Betty. At the year end Boo has a current account balance debit
balance of $50,000, but Betty has a current account credit balance of only $40,000.
Which of the following two reasons might explain the difference?
1 Boo had posted a cheque for $10,000 to Betty on the last day of the year
2 Betty had posted a cheque for $10,000 to Boo on the last day of the year
3 Betty had despatched $10,000 of inventory to Boo on the last day of the year
4 Boo had despatched $10,000 of inventory to Betty on the last day of the year
A 1 and 3 B 1 and 4
C 2 and 3 D 2 and 4

Q 10 Basil has an 80% subsidiary Brush. In the last month of the year, Basil sold
inventory to Brush for $12,000, making a mark up of 20% on cost. The goods are still
held by
Brush at the year end.
If Basil has an inventory balance of $90,000 and Brush has $60,000, what will be the
inventory figure in the consolidated statement of financial position?
A $180,000 B $148,000
C $147,600 D $148,400
Q 11 Jack has owned a 90% subsidiary John for many years, but then purchased a
75% subsidiary Jim half way through this year. The revenue of each company is as
follows:
Jack $100,000
John $90,000
Jim $80,000
During the year, John sold goods to Jack for $20,000. These items were then sold outside of
the group by Jack just before the end of the year.
What is the consolidated revenue figure for the year?
A $250,000 B $210,000
C $230,000 D $270,000
Q 12 Bill sells inventory costing $20,000 to his subsidiary Ben for $30,000. By the
end of the year, Ben has just half of this inventory remaining.
If the sales of the two companies were: $100,000 and $80,000 respectively, and the cost of
sales were $50,000 and $40,000, calculate the consolidated revenue and profit for the year.
A Revenue $150,000; Profit $85,000 B Revenue $180,000; Profit $85,000
C Revenue $150,000; Profit $80,000 D Revenue $180,000; Profit $80,000

Q 13 Hali owns 55% of Fax. In 20X8 Fax made a profit after tax of $40,000. During
the year. Hali sold goods costing $20,000 to Fax at a mark up of 40%. Two thirds of
these goods had been sold outside of the group by the year end.
Calculate the non-controlling interest to be shown in the consolidated profit for 20X7.
A $14,400 B $15,600 C $16,800 D $18,000
Q 14 Palli acquired 25% of the equity capital of Alli on 1 January 20X4 at a cost of
$120,000. At this date the retained profits of Alli were $100,000.
The issued capital of Alli has remained unchanged since this date at $200,000.
The investment has suffered an impairment of $10,000 since the date of acquisition.
The net assets of Alligator at 31 December 20X4 amount to $360,000.
What is the equity value of the investment in the consolidated statement of financial position
as at 31 December 20X4?
A $90,000 B $125,000 C $54,000 D $81,000
Q 15 Which of the following is the IAS 28 definition of an ‘associate’?
A An entity in which an investor has significant influence but not control or joint control
B An entity in which an investor has influence but not control or joint control
C An entity in which an investor has influence
D An entity in which the investor has joint control
Q 16 IAS 28 defines significant influence in relation to associates as:
A Power to participate in policy decisions
B Power to participate in financial and operating policy decisions but not control them
C Power to participate in policy decisions but not control them
D Power to participate in financial and operating policy decisions

Q 17 Which of the following investments should be accounted for by Company X as
associates?
I 18% of the equity capital of Company A. Company X is the largest shareholder in this
company, has a director on its board, and provides management expertise.
II 23% of the equity share capital of Company B. Company X has no representative on the
board and takes no part in the management of Company B
The majority shareholders in Company B have historically used their combined voting rights
to keep any nominee of Company X off the board.
III 50% of the equity share capital of Company C. The remaining 50% is held by an unrelated
company. Policy decisions relating to Company C must be agreed to by both of its
shareholders.
IV 46% of the equity share capital of Company D. The other shareholdings are split between
various small investors. Company X nominates eight of the ten directors on the board of
Company D, under a written agreement between the two companies.
A I only B I and II only
C I, II and III only D All four investments
Q 18 Matthew has held a 90% subsidiary, Mark, for many years, and 3 months
before the year end, acquired a 40% associate, Luke.
Their turnover figures for the year were:
Matthew $200,000
Mark $150,000
Luke $100,000
Calculate the turnover figure to appear in the consolidated income statement for the group.
A $350,000 B $390,000
C $360,000 D $375,000

Q 19 When accounting for an associate, which of the following methods is used:
A Acquisition accounting
B Proportionate consolidation
C Equity accounting
D Pooling of interests
Q 20 Two years ago Bill purchased 60% of Bob and 10% of Ben. Bill is not able to
exert significant influence over its investment in Ben. Revenue for the three
companies for the year to 30th June 20X0 was:
Revenue Bill Bob Ben
$100,000 $80,000 $60,000
The group revenue in the consolidated income statement is:
A $148,000 B $154,000
C $180,000 D $240,000
Q 21 Hill owns 70% of Slope and 30% of Bend. The tax charge for each company for
the year is Hill $50,000, Slope $40,000 and Bend $30,000 respectively.
What should be shown as the tax charge in the consolidated income statement?
A $78,000 B $90,000
C $99,000 D $120,000
Q 22 Yves has an 80% subsidiary, Saint and a 40% associate, Laurent. The three
companies have revenue of $100,000 each. What should be shown as the revenue
figure in the consolidated income statement?
A $200,000 B $220,000
C $240,000 D $300,000

Q 23 Big has a 60% subsidiary Medium and a 40% associate Small. The three
companies have profits after tax of $100,000 each.
Calculate the profit after tax for the period that will be shown in the consolidated income
statement.
A $190,000 B $200,000
C $240,000 D $300,000
Q 24 EV Company has three investments. In each company it has a seat on the

board of directors. Which of the investments would be considered to be an associate?
(1) 35% investment in Tom. All other shareholders have investments of less than 10%
(2) 25% investment in Dick. Another shareholder has a 75% stake in Dick
(3) 25% investment in Harry which was purchased with the intention to sell it within 12 m of
the date of purchase. A buyer is actively being sought.
A (1) and (2) B (1) and (3)
C (1) only D (1), (2) and (3)
Q 25 When equity accounting for an associate, which of these statements are

correct?
(1) The parent’s share of the associate's statement of comprehensive income and statement
of financial position is accounted for on a line-by-line basis
(2) The associate’s goodwill is disclosed as an intangible non-current asset
(3) Balances due between parent and associate should not be cancelled on consolidation
A (1) and (2) are correct. B (2) and (3) are correct.
C (2) only is correct. D (3) only is correct.
Q 26 At 1 January 20X4 Yogi acquired 80% of the share capital of Bear for
$1,400,000. At that date the share capital of Bear consisted of 600,000 ordinary
shares of SOc each and its reserves were $50,000. The fair value of the non-
controlling interest was valued at $525,000 at the date of acquisition.

In the consolidated statement of financial position of Yogi and its subsidiary Bear at 31
December 20X8, what amount should appear for goodwill?
A $1,575,000 B $630,000
C $1,050,000 D $450,000
Q 27 At 1 January 20X8 Tom acquired 80% of the share capital of Jerry for
$100,000. At that date the share capital of Jerry consisted of 50,000 ordinary shares
of $1 each and its reserves were $30,000. At 31 December 20X9 the reserves of Tom
and Jerry were as follows:
Tom $400,000
Jerry $50,000
In the consolidated statement of financial position of Tom and its subsidiary Jerry at 31
December 20X9, what amount should appear for group reserves?
A $400,000 B $438,000
C $416,000 D $404,000
Q 28 At 1 January 20X6 Fred acquired 75% of the share capital of Barney for
$750,000. At that date the share capital of Barney consisted of 20,000 ordinary
shares of $1 each and its reserves were $10,000. The fair value of the non-controlling
interest was valued at $150,000 at 1 January 20X6.
In the consolidated statement of financial position of Fred and its subsidiary Barney at 31
December 20X9, what amount should appear for goodwill?
A $150,000 B $720,000
C $870,000 D $750,000

Q 29 At 1 January 20X6 Gary acquired 60% of the share capital of Barlow for
$35,000. At that date the share capital of Barlow consisted of 20,000 ordinary shares
of $1 each and its reserves were $10,000. At 31 December 20X9 the reserves of Gary
and Barlow were as follows:
Gary $40,000
Barlow $15,000
At the date of acquisition the fair value of the non-controlling interest was valued at
$25,000.
In the consolidated statement of financial position of Gary and its subsidiary Barlow at
31 December 20X9, what amount should appear for non-controlling interest?
A $25,000 B $27,000 C $28,000 D $31,000
Q 30 At 1 January 20X8 Williams acquired 65% of the share capital of Barlow for
$300,000. At that date the share capital of Barlow consisted of 400,000 ordinary
shares of SOc each and its reserves were $60,000. At 31 December 20X9 the reserves
of Williams and Barlow were as follows:
Williams $200,000
Barlow $75,000
The fair value of the non-controlling interest was valued at $50,000 at the date of acquisition.
In the consolidated statement of financial position of Williams and its subsidiary Barlow at
31 December 20X9, what amount should appear for non-controlling interest?
A $55,250 B $50,000
C $76,250 D $5,250
Q 31 Salt owns 70% of Pepper and sells goods to Pepper valued at $1,044 at a
mark-up of 20%. 40% of these goods were sold on by Pepper to external parties at
the year end.
What is the provision for unrealised profit (PURP) adjustment in the group financial
statements?

A $69.60 B $104.40 C $125.28 D $83.52
Q 32 IFRS 10 Consolidated financial statements specify three necessary elements to

determine whether or not one company controls another.
Which one of the following is not one of the three necessary elements to determine whether
one entity has control of another?
A Power over the other entity
B Exposure or rights to variable returns from involvement in the other entity
C The ability to use power over the other entity to affect the amount of investor returns
D The ability to exercise significant influence over another entity
Q 33 Which of the following would normally indicate that one entity has significant
influence over the activities of another?
A Ability to appoint the majority of the board of directors of that other entity
B Ability to appoint at least one person to the board of directors of that other entity
C Ability to request that a director is appointed to the board of directors of that other entity
D Ability to submit requests regarding corporate policy to the board of directors of that other
entity
Q 34 Which of the following would normally indicate that one entity has control of
another?
A Ownership of the majority of the equity share capital of that other entity
B Ownership of between twenty per cent and fifty per cent of the equity share capita l of that
other entity
C Ownership of less than twenty per cent of the equity shares of that other entity
D Ownership of some of the shares of that other entity - the precise percentage of shares
held is not relevant

Q 35 Entity A acquired sixty per cent of the issued equity shares of entity B by
exchanging three shares in entity A for every two shares acquired in entity B. At that
date, entity B had issued equity capital of one hundred thousand shares. At the date
of acquisition, the fair value of an equity share in entity A was $3.50 and the fair
value of an equity share in entity B was $2.00. The nominal value per share of both
entities was $1.00 per share.
What was the fair value of consideration paid by entity A to gain control of entity B?
A $80,000 B $90,000
C $180,000 D $315,000
Q 36 Entity C acquired eighty per cent of the issued equity shares of entity D by
paying cash of $3.00 per share plus exchanging three shares in entity C for every five
shares acquired in entity D. At that date, entity D had issued equity capital of two
hundred and fifty thousand shares. At the date of acquisition, the fair value of an
equity share in entity C was $3.50 and the fair value of an equity share in entity D
was $2.00. The nominal value per share of both entities was $1.00 per share.
What was the fair value of consideration paid by entity C to gain control of entity D?
A $840,000 B $1,020,000
C $1,267,000 D $1,767,000
Q 37 Entity X acquired sixty per cent of the issued equity shares of entity Z on 1
October 20X3. During the year ended 31 December 20X3, X and Z had sales revenue
of $2 million and $1.5 million respectively. During the post-acquisition period, X made
sales to Z of $0.1 million.
What is the group sales revenue figure for the year ended 31 December 20X3?
A $2.275 million B $2.375 million
C $3.4 million D $3.5 million

Q 38 Entity T acquired eighty per cent of the issued equity shares of entity S on 1
July 20X6. The sales revenue for the year ended 31 March 20X7 for entity T and entity
S was $5 million and $3 million respectively. During the post-acquisition period, S
made sales to T of $0.5 million.
What is the group sales revenue figure for the year ended 31 March 20X7?
Q 39 Entity F acquired eighty per cent of the issued equity shares of entity G on 1
July 20X6. The cost of sales for the year ended 31 March 20X7 for entity F and entity
G were $10 million and $4 million respectively. During the post-acquisition period, F
made sales to G of $1.6 million. The intra-group sales were made at a mark-up of
twenty-five per cent. At the year end, one quarter of the goods sold by F toG
remained within G's inventory.
What was the group cost of sales figure for the year ended 31 March 20X7?
Q 40 On 1 June 20X4 Hightown acquired control of Southport. For the year ended
30 September 20X5, Hightown and Southport had cost of sales of $10 million and $6
million respectively.
During the post-acquisition period, Hightown had sales to Southport of $1.8 million. These
sales had been made at a mark-up of twenty per cent and at the year end, one third of the
goods remained within Southport's inventory.
What was the group cost of sales figure for the year ended 30 September 20XS?

Q 41 On 1 July 20X4 Lion paid $20 million to acquire seventy per cent of the issued
equity capital of Tiger. For the year ended 31 December 20X4, Tiger had earned profit
after tax of $2 million. Tiger had retained earnings of $10 million at 1 January 20X4.
At the date of acquisition, Tiger had issued equity capital of $8 million and the fair
value of the noncontrolling interest at that date was $6 million.
Based upon the available information, what was goodwill on acquisition of Tiger for inclusion
in the Lion consolidated financial statements for the year ended 31 December 20X4?
Q 42 Pole acquired eighty per cent of the issued equity shares of Rod for $43 million
on 1 March 20X8. Rod had retained earnings of $15 million at 1 July 20X7 and made a
profit after tax of $6 million for the year ended 30 June 20X8. At the date of
acquisition, Rod had issued share capital of $25 million and the fair value of the non-
controlling interest was $10 million. On 1 March 20X8 the fair value of freehold land
and buildings owned by Rod was $1 million in excess of their carrying amount.
Based upon the available information, what was goodwill an acquisition of Rod for inclusion
in the Pole consolidated financial statements for the year ended 30 June 20X8?
Q 43 Plank acquired sixty per cent of the issued equity share capital of Splinter on 1
January 20X2. On that date, Plank paid $3 cash per share acquired and also issued
two shares (nominal value $1 per share) in exchange for each Splinter share acquired.
At the date of acquisition, Splinter had ten million equity shares of $1 nominal value
in issue, plus a share premium account balance of $10 million and had retained
earnings of $50 million. The fair value of the non-controlling interest in Splinter at the
date of acquisition was $14 million. The fair value of an equity share in Plank and
Splinter were $4.50 and $1.50 respectively at 1 January 20X2.

What was goodwill on acquisition of Splinter for inclusion in the consolidated financial
statements of Plank for the year ended 31 December 20X2?
A $2 million B $4 million
C $16 million D $26 million
Q 44 On 1 October 20XS, Luton acquired seventy-five per cent of the issued equity
capital of Bedford. In exchange for gaining control of Bedford, Luton made immediate
cash payment of $4.50 per share acquired and also issued one new share for each
share acquired. At the date of acquisition, Bedford had issued share capital of fifteen
million shares of $1 nominal value and a share premium account balance of $5
million. On 1 October 20X5, Bedford had retained earnings of $76.875 million and the
fair value of the non-controlling interest in
Bedford was $27 million. Bedford had a freehold factory that had a fair value of $2 million in
excess of its carrying amount at the date of acquisition. The fair value of a $1 equity share of
Luton at the date of acquisition was $5.00 per share.
What was goodwill on acquisition of Bedford for inclusion in the consolidated financial
statements of Luton for the year ended 30 September 20X6?
Q 45 On 1 January 20X3, Hyndland acquired ninety per cent of the issued equity
capital of Shawfield. In exchange for gaining control of Shawfield, Hyndland made
immediate cash payment of $3 per share acquired and also issued one new share of
$0.5 nominal value per share for each share acquired. At the date of acquisition,
Bedford had issued share capital of 200,000 shares of $1 nominal value, a share
premium account balance of $100,000 and retained earnings of $590,000. On 1
January 20X3, the fair value of the non-controlling interest in Shawfield was $75,000.
In addition, at the date of acquisition, Shawfield had several items of property plant
and equipment which together had a fair value of $90,000 and a carrying amount of
$70,000. The fair value of a $0.5 equity share of Hyndland at 1 January 20X3 was
$2.00 per share.

What was goodwill on acquisition of Shawfield for inclusion in the consolidated financial
statements of Hyndland for the year ended 30 September 20X6?
Q 46 On 1 July 20X5 Huyton acquired sixty per cent of the equity shares of Speke.
For the year ended 31 December 20X5, Huyton made a profit after tax of $600,000
and Speke had a profit after tax of $400,000. During the post-acquisition period,
Huyton sold goods to Speke which included a profit element of $20,000. At the year-
end, one quarter of the goods sold by Huyton to Speke remained within the inventory
of Speke.
What was the non-controlling interest share of the group profit after tax for the year ended
31 December 20X5?
A $75,000 B $80,000
C $120,000 D $160,000
Q 47 Which of the following investments of Coffee should be equity accounted in

the consolidated financial statements?
(1) 40% of the non-voting preference share capital in Tea Co
(2] 18% of the ordinary share capital in Cafe Co with two of the five directors of Coffee
Co on the board of Cafe Co
(3] 5O% of the ordinary share capital of Choc Co, with five of the seven directors of
Coffee Co on the board of Choc Co
A (1] and (2]
B (2) only
C (1) and (3) only
D (2) and (3) only

Chapter 25 Ratios
Purpose
Calculating and analysing the ratios for a company can help financial statement users by:
 Providing a uniform measurement which will act as an indicator of: areas for further
investigation in the current period; and the pattern of results over a series of periods
(i.e. trend analysis).
 Summarising large quantities of financial data into information that can be used to
make qualitative judgments about an entity's financial performance.
 Reducing financial data to fewer expressions of variables which is useful when the
relationship between amounts is of interest (rather than absolute monetary
amounts); and the information generated will be reviewed over time (as in trend
analysis).
 Indicating areas in which the entity may be strong or weak (rather than evaluate
financial performance in "good/bad" terms).
Comparisons
Typically comparisons are made between:
• Previous and current periods (historical comparison);
• Target or budgeted (and/or standard) and actual figures; and
• Other companies/industry averages, etc (market comparison). For comparisons to be

meaningful they should be based on amounts that are functionally related. For example, bad
debt expense is a function of accounts receivable rather than revenue (so a percentage of
accounts receivable will be preferable for analysis).

1 Profitability ratios
𝑀𝑎𝑟𝑔𝑖𝑛 = × 100
𝑀𝑎𝑟𝑘𝑢𝑝 = × 100
𝐶𝑜𝑠𝑡 𝑜𝑓 𝑆𝑎𝑙𝑒𝑠
Where:
 Revenue (or turnover) is net of volume discounts, customer returns, etc.

 Gross profit = Revenue – Cost of goods sold
 Cost of goods sold (or Cost of sales):
For a trading company = Opening inventory + Purchases – Closing inventory
Purpose
 This general measure of profitability shows the margin on each $1 of revenue. This is
an indication of the extent to which selling prices may be reduced without incurring
operational losses.
 The margin must be sufficient to cover all operational expenses and meet
management's requirements for increasing reserves (retained earnings) and
shareholder's requirements (for dividends).
Meaning
Gross profit percentage provides insight into the relationship between

purchasing/production costs and revenues. A low or declining gross profit is usually a "bad"
sign.
The decline may be due to any of the following:
 a fall in selling prices (e.g. due to increased competition);

 a change in sales mix;
 an increase in purchase costs (e.g. due to a fall in discounts received if management
is unable to buy sufficient bulk);

 an increase in production costs (materials, labour, overheads);
 an overstatement of opening inventories (e.g. due to error in counting/valuation or
inventory losses); and/or
 an understatement of closing inventories.
A decline, however, does not always reflect a problem. For example, a decline may be due to
the launch of a new product at a low (penetration) price or an attempt to increase market
share.
An increase in the gross profit margin may signal, for example:
 an increase in selling price without corresponding increase in cost;

 a decrease in costs which has not been passed on proportionately to customers;
and/or
 an understatement of opening inventory or overstatement of closing inventory.
𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑝𝑟𝑜𝑓𝑖𝑡
𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑃𝑟𝑜𝑓𝑖𝑡 𝑀𝑎𝑟𝑔𝑖𝑛 = × 100
𝑆𝑎𝑙𝑒𝑠/𝑅𝑒𝑣𝑒𝑛𝑢𝑒
𝑁𝑒𝑡 𝑝𝑟𝑜𝑓𝑖𝑡
𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡 𝑀𝑎𝑟𝑔𝑖𝑛 = × 100
𝐸𝑥𝑝𝑒𝑛𝑠𝑒
𝐸𝑥𝑝𝑒𝑛𝑠𝑒 𝑡𝑜 𝑠𝑎𝑙𝑒𝑠 = × 100
𝑅𝑒𝑣𝑒𝑛𝑢𝑒
𝐴𝑠𝑠𝑒𝑡 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 = × 100
𝐶𝑎𝑝𝑖𝑡𝑎𝑙 𝑒𝑚𝑝𝑙𝑜𝑦𝑒𝑑
Purpose
Net profit shows overall profitability of the business after deducting all expenses.
Meaning
This ratio is an indicator of the control of operating expenses (e.g. if gross profit % increases
but net profit % falls).
Analysis

This ratio may be investigated further by calculating specific expense items as a percentage
of sales
𝑅𝑂𝐶𝐸 = × 100
𝑅𝑂𝐶𝐸 = 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑝𝑟𝑜𝑓𝑖𝑡 𝑚𝑎𝑟𝑔𝑖𝑛 × 𝐴𝑠𝑠𝑒𝑡 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟
Purpose
This master ratio shows how productively (efficiently and effectively) a business has deployed
its available resources, irrespective of how those resources have been financed. It relates
overall profit performance to the amount of capital employed in the business.
Meaning
If ROCE is low/falling:
 This is usually a sign that the entity is not using its resources efficiently. A low return
may result in a loss if the economy deteriorates.
 Management will need to investigate further as there may be a need to increase
operating profit or sell some assets and invest the proceeds elsewhere to earn a
higher return.
Comparisons
Any trend that emerges by making comparisons with previous years' ROCE may be distorted
by:
 assets which are written down to low book value (overstating ROCE);
 revaluations which will depress ROCE (i.e. high capital � high depreciation � low
profit);
 timing of share/debt issues; and
 changes in accounting policies.
If a part of the business does not meet the entity's target ROCE (i.e. budget),
management may decide to dispose of it.
𝑁𝑒𝑡 𝑝𝑟𝑜𝑓𝑖𝑡
𝑅𝑂𝐸 = × 100
𝐸𝑞𝑢𝑖𝑡𝑦

Purpose
 This ratio measures residual profit in relation to owners' investment.

 ROE shows the extent to which the entity has been able to achieve its objective of
earning a satisfactory net income (i.e. profit after interest and tax).
 A prospective investor calculates ROE to determine whether the return is worthwhile.
Short term liquidity

𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑎𝑠𝑠𝑒𝑡𝑠
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑟𝑎𝑡𝑖𝑜 =
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
Purpose
The current ratio measures the adequacy of current assets to meet short-term liabilities
(without having to raise additional finance). This ratio is an overall measure of liquidity and
state of trading.
Meaning
The higher the ratio the more liquid the business. As liquidity is essential to business survival
a higher ratio is normally preferable to a lower one.
 If low/declining, the entity may be unable to meet its shortterm obligations as they
become due.
 A high/increasing ratio might suggest over-investment in current assets (e.g.
inventories, receivables or cash).*
Analysis
 A ratio of 1.5:1 is usually taken as the "norm" (to maintain creditworthiness).*

 The current ratio treats all assets alike though they are not equally or readily
realisable. In particular, the nature of inventories should be considered. If inventories
are slow moving, the quick ratio is a better indicator of more immediate solvency.
 If there are concerns about liquidity, the level at which the business is operating any
overdraft should be compared with the limit on the overdraft facility. (Though highly
relevant to decision-making, this fact is unlikely to be disclosed in financial
statements and hence will be known only to management

𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑎𝑠𝑠𝑒𝑡𝑠 − 𝑖𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 − 𝑝𝑟𝑒𝑝𝑎𝑖𝑑 𝑒𝑥𝑝𝑒𝑛𝑠𝑒𝑠

𝑄𝑢𝑖𝑐𝑘 𝑟𝑎𝑡𝑖𝑜 =
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑙𝑖𝑎𝑏𝑖𝑙𝑡𝑖𝑒𝑠
Purpose
The quick ratio measures immediate liquidity by eliminating from current assets the least
liquid assets (inventories).
Meaning
The ratio indicates the sufficiency of resources (receivables and cash) to settle short-term
liabilities (trade payables in particular).
Analysis
 A ratio of 1:1 to 0.7:1 is usually taken as the "norm".

 Industries which have high cash sales and high inventory turnover (e.g.
supermarkets) have very low quick ratios.
 A manufacturing entity with seasonal sales but steady production is likely to have a
lower ratio when sales volume is low (i.e. lower receivables and cash) and a higher
ratio when sales are high.
 When analysing the quick ratio, an entity's operating overdraft and facilities
available should be considered. For example, an entity with a low quick ratio may
have no problem settling current liabilities if it has adequate overdraft facilities.
Window Dressing
Care must be taken when assessing liquidity using balances extracted from the statement of
financial position as this information presents only a snapshot and may not be
representative of liquidity on a day-to-day basis (e.g. due to seasonal factors affecting
amounts of current assets).
 Window dressing is a particular type of creative accounting which is used to present

the financial statements in a more favourable light. For example, to:
 obtain funding/borrow money;
 reduce tax payments;
 smooth profits; or
 hide liquidity/profitability problems that might reflect poor management decisions.

 Various actions may be taken to create the desired effect.
For example, to improve liquidity, trade payables may be treated as paid at the end of the
reporting period although they are not settled until a later date.
Efficiency
𝐴𝑠𝑠𝑒𝑡 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 =
Purpose
Asset turnover shows the efficiency of an entity's ability to use its assets to generate sales.
Meaning
 This ratio shows the number of times that the carrying value of assets is turned over
in generating revenue in the period.
 For businesses in the same industry, the higher the ratio the more efficiently the
assets appear to be used.
 Much more analysis will, however, be needed in comparing ratios between
companies in different industries.
 Investigation will be needed if this ratio declines (i.e. into the components of assets -
long term, inventories, receivables, etc.)
𝐿𝑜𝑛𝑔 𝑡𝑒𝑟𝑚 𝐴𝑠𝑠𝑒𝑡 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 =
𝑁𝑜𝑛 𝑐𝑢𝑟𝑟𝑒𝑛𝑡 𝑎𝑠𝑠𝑒𝑡𝑠
Purpose
Long-term asset turnover shows the efficiency (or otherwise) of the use of long-term assets
to generate revenue. It is the number of times non-current assets are turned over in a year.
Meaning
 Shows turnover generated by each $1 of non-current assets.

 If declining, management may consider realising some of the long-term assets (i.e. if
they are in excess of required and not generating revenue).

 Possible distortions include low carrying amounts of assets (increasing the ratio) or
revaluations (decreasing the ratio).
𝐶𝑜𝑠𝑡 𝑜𝑓 𝑠𝑎𝑙𝑒𝑠
𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 = (𝑎𝑛𝑠𝑤𝑒𝑟 𝑖𝑛 𝑡𝑖𝑚𝑒𝑠)
𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦
𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦
𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 = × 365 (𝑎𝑛𝑠𝑤𝑒𝑟 𝑖𝑛 𝑑𝑎𝑦𝑠)
𝐶𝑜𝑠𝑡 𝑜𝑓 𝑠𝑎𝑙𝑒𝑠
Purposes
Inventory turnover shows how many times inventories were turned over during the period.
The second formula shows the number of days inventories, at cost, held by the business.
These ratios measure operational and marketing efficiency.
Meaning
 A high ratio generally indicates efficiency in selling goods quickly.

 If declining, inventories are turning over less quickly.
 Bad reasons may be: fall in demand for goods; poor inventory control (i.e. storage
and insurance cost increases); over investment in inventory in relation to immediate
requirements; and carrying obsolete inventory (possibly resulting in writeoffs).
 Good reasons may be: bulk buying to take advantage of trade (bulk) discounts; and
increasing inventory levels to avoid stockouts (e.g. due to erratic demand or where
supply is unreliable).
Analysis
 Days inventory can vary considerably:
A fishmonger—1 or 2 days.
A building contractor—200 days.
 For manufacturing companies, inventory turnover should closely relate to production

time.
 Higher turnover may not mean higher profits as volume may be increased through
reduced profit margins.
 Further investigation can be made by looking at a breakdown

𝐶𝑟𝑒𝑑𝑖𝑡 𝑆𝑎𝑙𝑒𝑠
𝑅𝑒𝑐𝑒𝑖𝑣𝑎𝑏𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 = (𝑎𝑛𝑠𝑤𝑒𝑟 𝑖𝑛 𝑡𝑖𝑚𝑒𝑠)
𝑅𝑒𝑐𝑒𝑖𝑣𝑎𝑏𝑙𝑒
𝑅𝑒𝑐𝑒𝑖𝑣𝑎𝑏𝑙𝑒
𝑅𝑒𝑐𝑒𝑖𝑣𝑎𝑏𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 = × 365 (𝑎𝑛𝑠𝑤𝑒𝑟 𝑖𝑛 𝑑𝑎𝑦𝑠)
𝐶𝑟𝑒𝑑𝑖𝑡 𝑆𝑎𝑙𝑒𝑠
Purpose
Accounts receivable days shows the (average) time it takes to receive payment from credit
customers (i.e. the number of calendar days over which receivables are uncollected).
Meaning
 As a measure of the liquidity of receivables, this ratio should not exceed a reasonable
proportion of sales. The longer the period, the greater the expense in trying to collect
slow-paying or uncollectible accounts.
 An increasing ratio may be due to:
o weak credit control (e.g. lack of effective collection procedures);
o a deliberate policy to extend credit to attract more trade; or
o major customer(s) being allowed different credit terms (e.g. three months
interest-free credit).
 Although a decrease in this ratio over time is generally a positive move, occasionally
it could signal a cash shortage.
Analysis
 The ratio should be compared with stated credit policy (e.g. 30 days) as set out in terms
and conditions (on invoices).
 It may be negligible (e.g. for supermarkets, retailers and other cash-based businesses
that do not have credit sales).
 It may be distorted for comparative purposes by:
 VAT or other sales taxes;
 debt-factoring arrangements; and
 seasonal trading (e.g. a December year end may have lower receivables due to
falling trade in the holiday period).
𝐶𝑟𝑒𝑑𝑖𝑡 𝑃𝑢𝑟𝑐ℎ𝑎𝑠𝑒𝑠
𝑃𝑎𝑦𝑎𝑏𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 = (𝑎𝑛𝑠𝑤𝑒𝑟 𝑖𝑛 𝑡𝑖𝑚𝑒𝑠)
𝑃𝑎𝑦𝑎𝑏𝑙𝑒
𝑃𝑎𝑦𝑎𝑏𝑙𝑒
𝑃𝑎𝑦𝑎𝑏𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 = × 365 (𝑎𝑛𝑠𝑤𝑒𝑟 𝑖𝑛 𝑑𝑎𝑦𝑠)
𝐶𝑟𝑒𝑑𝑖𝑡 𝑃𝑢𝑟𝑐ℎ𝑎𝑠𝑒𝑠

Purpose
Accounts payable days represents (average) time (i.e. number of days) it takes to pay for
supplies received on credit.
Meaning
An increasing ratio may be due to:
 liquidity problems, resulting in:

o poor reputation as a slow payer (may not be able to find new suppliers);
existing suppliers withdrawing supplies (or demanding "cash on delivery");
and inability to take advantage of cash discounts (can be an expensive means
of finance).
o a deliberate policy to take advantage of interest-free credit (management
must take care to not incur late-payment penalties).
Analysis
 Comparison should be made with average suppliers' credit terms (on invoice) or the
credit terms of major suppliers.
 Distortion may arise if amounts due to suppliers include capital acquisitions.
𝑊𝑜𝑟𝑘𝑖𝑛𝑔 𝑐𝑎𝑝𝑖𝑡𝑎𝑙 𝑐𝑦𝑐𝑙𝑒 𝑜𝑟 𝑐𝑎𝑠ℎ 𝑜𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑐𝑦𝑐𝑙𝑒

= 𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 𝑑𝑎𝑦𝑠 + 𝑅𝑒𝑐𝑒𝑖𝑣𝑎𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 𝑑𝑎𝑦𝑠 − 𝑝𝑎𝑦𝑎𝑏𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟 𝑑𝑎𝑦𝑠
Purpose
The working capital cycle shows the amount of time (in days) that it takes an entity to
convert resource inputs (i.e. inventory) to cash receipts. Essentially it is the time period in
days from when cash is spent on purchases to when cash is collected from customers.
Meaning
 Working capital is the difference between current assets and current liabilities.
 If the cycle is increasing it may be due to:
o poor working capital control; or
o a deliberate policy to build up finished goods inventory or
o attract more customers by giving a longer credit period.
Analysis

 Working capital requirements are very dependent on the type of business (e.g. a
supermarket may well have a negative cycle as the supermarket receives cash before
paying suppliers).
 Working capital is an indicator of the level of cash that is required to maintain the
operating capacity of the business. For example, the shorter the cycle the less reliance
on external finance (e.g. an overdraft).
 Excessive working capital represents excessive interest paid (or loss of interest
income) and lost opportunities (in investing funds for a higher return).
Financial position
𝐿𝑜𝑛𝑔 𝑡𝑒𝑟𝑚 𝑑𝑒𝑏𝑡
𝐺𝑒𝑎𝑟𝑖𝑛𝑔 𝑟𝑎𝑡𝑖𝑜 =
𝐸𝑞𝑢𝑖𝑡𝑦
𝐿𝑜𝑛𝑔 𝑡𝑒𝑟𝑚 𝑑𝑒𝑏𝑡

𝐺𝑒𝑎𝑟𝑖𝑛𝑔 𝑟𝑎𝑡𝑖𝑜 =
𝐸𝑞𝑢𝑖𝑡𝑦 + 𝐿𝑜𝑛𝑔 𝑡𝑒𝑟𝑚 𝑑𝑒𝑏𝑡
Purpose
The gearing ratio measures the proportion of borrowed funds (which earn a fixed return) to
equity capital (shareholders' funds) or total capital and provides information about the
financial risk of a company. Borrowings incur commitments to pay future interest and capital
repayments, which can be a financial burden and increase the risk of insolvency.
High gearing suits entities with relatively stable profits (to meet interest payments) and
suitable assets for security (e.g. those in the hotel/leisure service industry).
Meaning
Main advantage is that debt finance is cheaper than equity (as interest is tax deductible).
Main disadvantage is that debt finance increases risk to shareholders (as interest must be
paid regardless of profits earned).
Analysis
 Preferred shares are generally treated as debt if redeemable. Otherwise, classify as

equity.
 Bank borrowings (loans and operating overdraft) are usually regarded as debt.

 Financial balance means having long-term capital for longterm investments. A
permanent expansion should not be financed by short-term borrowings.
𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑐𝑜𝑣𝑒𝑟 =
𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑒𝑥𝑝𝑒𝑛𝑠𝑒
Purpose
Interest cover measures the ability to pay interest on outstanding debt from profits
generated during the period. It is an indicator of the protection available to loan providers
and is often used by lenders when making loan approval decisions.
Meaning
 If profit is adequate to cover interest expense, interest cover will be greater than 1.0.
 Interest cover below 1.0 indicates that interest obligations cannot be met.
 A ratio of less than 2.0 is generally considered unsatisfactory.
Analysis
 Interest must be paid even if profits fall.

 Low or falling interest cover may indicate:
o potential difficulty financing debts if profits fall;
o doubts about going concern; or
o increased risk to shareholders of falling dividends.

Q 1 The acid test or quick ratio should include which of the following?
(1) Finished goods
(2) Trade receivables
(3) Bank overdraft
(4) Accruals
A (1), (2), (3) and (4) B (1), (2) and (3) only
C (1), (2) and (4) only D (2), (3) and (4) only
Q 2 Apple has net current liabilities in its statement of financial position. It decides to pay
off its trade payables using surplus cash. What effect will this have upon the current
ratio?
A Decrease B Increase
C No effect D The ratio could either increase or decrease
Q 3 Extracts from the income statement and statement of financial position of the Apricot
Company are shown below:
Revenue from sales (all on credit) 500,000
Cost of goods sold 420,000
Purchases (all on credit) 280,000
Receivables 62,500
Trade payables 42,000
Inventory 185,000

What is the length of the working capital cycle (also known as the operating or cash cycle) to
the nearest day?
A 170 days B 152 days
C 261days D 60 day
Q 4 The following information relates to Damson, a small company:
31st December 20X4 31st December 20X5
$ $
Non current assets 20,000 34,000
Inventory 10,000 13,000
Accounts receivable 14,000 11,000
Bank balance 3,000 2,000
Accounts payable 11,000 9,000
Sales on credit 140,000 120,000
Purchases on credit 80,000 60,000
Which of the following statements are correct?
I Net current assets have increased between the two years
II The quick (acid test) ratio has improved between the two years
III Customers are paying more quickly in 20X5 than in 20X4
IV Damson is paying her suppliers more quickly in 20X5 than in 20X4
A Statements I and II only
B Statements I and III only
C Statements I and IV only
D Statements II and III only

Q 5 Extracts from statement of financial position of Egremont at 31 March 20X4 are
presented below:
$000
Loans due in more than one year 20
5% loan notes 15
Ordinary shares - $1 each fully paid 50
6% redeemable preferred shares, $1 each fully paid 10
Retained profits 65
Revaluation reserve 25
––––
185
––––
The gearing ratio is (to one decimal place):
A 18.9% B 24.3%
C 28.1% D 43.8%
Q 6 The acid test or quick ratio should include
A stock of finished goods
B raw materials and consumables
C long-term loans
D trade creditors

Q 7 The accounts of S Ltd, which has a year end of 30 June, includes the following items.
20X5 20X6
£000 £000
Receivables
Sale of fixed assets 20 30
Sale ledger 60 40
—— ——
80 70
—— ——
Sales for the year amounted to £350,000, of which £50,000 were cash sales.
The average receivables turnover during the year ended 30 June 20X6 was
A7 B6
C5 D4
Q 8 T Ltd produces a single product with a mark-up of 25%.
Total sales for the year £250,000
Receivables collection period 40 days
Average receivables £20,000
The value of inventory held during the year was constant.
The cost of credit sales was
A £200,000
B £187,500
C £146,000
D £136,875

Q 9 The following are extracts from the financial statements of L Ltd for the year ended
31 December 20X2.
Statement of financial position Income statement
£ £
Issued share capital 2,000 Operating profit 795
Reserves 1,000 Less Debenture interest (120)
——— ——
3,000 675
12% debenture stock 20X8 1,000 ——
———
4,000
———
What is the return on long-term funds?
A 22.5% B 19.9%
C 16.9% D 16.6%
Q 10 W Ltd buys and sells a single product. The following is an extract from its
statement of financial position at 31 December 20X7.
20X7 20X6
£ £
Inventory 50 40
Receivables 16 24
Sales and purchases during 20X7 were £200,000 and £120,000 respectively. 20% of sales
were for cash.

What were the average receivables collection period and gross profit percentage for the year
ended 31 December 20X7?
Average receivables collection period Gross profit percentage
A 37 days 35% B 37 days 45%
C 46 days 35% D 46 days 45%
Q 11 The asset turnover of T Ltd is 110% of that of S Ltd.
The return on capital employed by T Ltd is 80% of that of S Ltd.
T Ltd’s profit margin expressed as a percentage of that of S Ltd is
A 73% B 88% C 95% D 138%
Q 12 M Ltd has a current ratio of 2:1.
This ratio will decrease if M Ltd
A receives cash in respect of a long-term loan
B receives cash in respect of a short-term loan
C pays an existing trade payable
D writes off an existing receivable against the provision for doubtful debts
H Ltd has positive working capital.
Q 13 What effect will the payment of a proposed dividend using cash balances
have upon the current ratio and working capital?
Current ratio Working capital
A Increase Increase
B Increase No effect
C No effect No effect
D Decrease Decrease

Q 14 After proposing a final dividend, K Ltd has a current ratio of 2.0 and a quick
asset ratio of 0.8.
If the company now uses its positive cash balance to pay that final dividend, what will be the
effect upon the two ratios?
Current ratio Quick asset ratio
A Increase Increase
B Increase Decrease
C Decrease Increase
D Decrease Decrease
Q 15 The draft accounts of S Co for the year ended 31 December 20X1 include the
following.
Revenue £240 million
Gross profit £60 million
It was subsequently discovered that the revenue was overstated by £30 million and the
closing inventory understated by £10 million.
After correction of these errors the gross profit percentage will be
A 9.5% B 19.0%
C 23.8% D 33.3%
Q 16 Paulo is a retail trader with a gross profit rate of 25%. The unit cost of his
purchases falls by 8%. As a result he proposes to decrease his unit selling price by 10%
and anticipates that this will result in an increase in the volume of sales of 15%.
What would be the effect of the above on Paulo’s gross profit rate and on his absolute level
of gross profit?

Gross profit rate Absolute level of gross profit
A Lower Lower
B Lower Higher
C Higher Lower
D Higher Higher
Q 17 The Port Elisabeth fishmonger and the Port Elisabeth bookseller both operate
on a 50% mark-up on cost. However, their gross profit ratios are as follows.
Fishmonger 25%
Bookseller 33%
The highest gross profit ratio of the bookseller may be because
A there is more wastage with fish stocks than with book stocks
B the fishmonger has a substantial bank loan whereas the bookseller’s business is entirely
financed by her family
C the fishmonger has expensive high street premises whereas the bookseller has cheaper
back street premises
D the fishmonger’s turnover is declining whereas that of the bookseller is increasing
Q 18 W Co had sales of $20,000 and cost of sales of $15,400.
What was the gross profit margin?
A 77% B 129%
C 43% D 23%
Q 19 Given selling price of $700 and gross profit mark-up of 40%, what is the cost
of an item?
A $280 B $420
C $500 D $980

Q 20 A Co had sales of $220,000 and purchases of$160,000, together with opening
inventory and closing inventory of $24,000 and $20,000 respectively.
What was inventory holding period in days (based on the average level of inventory for the
period)?
A 44.5 days B 22.2 days
C 53.4 days D 49.0 days
Q 21 B Co had the following details extracted from its statement of financial

position:
$000
Inventory 3,800
Receivables 2,000
Bank overdraft 200
Payables 2,000
What was the current ratio based upon the available information?
A 1.72:1 B 2.90:1
C 2.64:1 D 3.00:1
Q 22 D Co's gearing ratio would rise if:
A a decrease in long-term loans is less than a decrease in shareholder's funds
B a decrease in long-term loans is more than a decrease in shareholder's funds
C interest rates rose
D interest rates fell

Q 23 Extracts from the financial statements of Miller for the year ended 31 May
20X2 are shown below:
$000
Revenue 475
Cost of sales (342)
Gross profit 133
Expenses (59)
Finance cost (26)
Profit before tax 48
What was the interest cover ratio for the year ended 31 May 20X2?
A 2.85 B 1.85
C 5.12 D 0.35
Q 24 An increase in the gearing ratio could be caused by the issue of ordinary

shares for cash during the year.
Is the statement above true or false?
A True B False
Q 25 An increase in return on capital could be caused by an increase in long-term

loans taken out by the business during the year.
A True B False
Q 26 A reduction in the unit purchase cost of raw materials whilst the unit selling
price remains unchanged will increase the gross profit margin.
A True B False

Q 27 Which one of the following is likely to increase the trade receivables collection
period?
A Offering credit customers a significant discount for prompt payment within seven days of
receipt of invoice
B Paying trade suppliers within seven days of receipt of invoice
C Poor application of credit control procedures by a business
D An increasing volume of credit sales during an accounting period
Q 28 Which one of the following is likely to reduce the trade payables payment
period?
A Offering credit customers a significant discount for prompt payment within seven days of
receipt of invoice
B Paying trade suppliers within seven days of receipt of invoice to obtain a discount
C Poor application of credit control procedures by a supplier
D An increasing volume of credit purchases during an accounting period
Q 29 Which one of the following is likely to increase the inventory holding period?
A Building up inventory levels in preparation of a sales and marketing campaign later in the
year
B Scrapping of old and obsolete items of inventory
C Only ordering goods from a reliable supplier upon receipt of a customer order
D Implementation of effective goods requisitioning and ordering policies
Q 30 You have been advised that a business has an inventory turnover of 8.49.
What is the average number of days that inventory is retained in the business prior to its
sale?

Q 31 During the year, A Co made a bonus issue of shares to its shareholders.
What is the impact of this upon the gearing ratio?
A The gearing ratio will increase
B The gearing ratio will decrease
C There will be no change to the gearing ratio
D It is not possible to determine the impact on the gearing ratio as there is insufficient
information available
Q 32 Which of the following statements could explain why return on capital for an
entity increased from 20% in 20X7 to 25% in 20X8?
(1) The entity reduced long-term borrowings during 20X8
(2) The entity managed to increase in profit margin during 20X8
(3) The entity made an issue of shares for cash during 20X8 to finance capital expenditure
A None of the above B 2 and 3 only
Q 33 During the year, B Co made a rights issue of shares to its shareholders.
What was the impact of this upon the gearing ratio?
A It is not possible to determine the impact on the gearing ratio as there is insufficient
B The gearing ratio increased
C The gearing ratio decreased
D The gearing ratio remained unchanged

Q 34 In an attempt to increase sales revenue during the year, C Co offered
extended credit terms to its major customers. Whilst many major customers took
advantage of the extended credit period, C Co did not increase its volume of sales.
What impact did this have upon the current ratio?
A There was no change to the current ratio
B It is not possible to determine the impact on the current ratio as there is insufficient
C The current ratio increased
D The current ratio decreased
Q 35 On 1 July 20XS, D Co raised $5 million from an issue of ordinary shares. D Co

then immediately used this cash to repay a loan of $5 million, which was not due for
repayment until 30 June 20X9.
What impact did this have upon the debt/equity ratio?
A It is not possible to determine the impact on the debt/equity ratio as there is insufficient
B The debt/equity ratio increased
C The debt/equity ratio decreased
D There will be no change to the debt/equity ratio
Q 36 XVZ Co has the following working capital ratios:
20X9 20X8
Current ratio 1.2:1 0.9:1
Receivables days 60 days 50 days
Payables days 45 days 35 days
Inventory turnover 36 days 45 days
Which of the following statements regarding XYZ Co is true?

A XYZ Co is taking longer to pay suppliers in 20X9 than in 20X8
B XYZ Co is suffering a worsening liquidity position in 20X9
C XYZ Co is managing inventory less efficiently in 20X9 in comparison with 20X8.
D XYZ Co is reiving cash from customers more quickly in 20X9 than in 20X8
Q 37 State whether each of the following statements is true or false.
(1) A statement of cash flows prepared using the direct method produces a different figure
for investing activities in comparison with that produced if the indirect method is used
(2) A bonus issue of shares does not feature in a statement of cash flows
(3) The amortisation charge for the year on intangible assets will appear as an item under
'Cash flows from operating activities' in a statement of cash flows
(4) Loss on the sale of a non-current asset will appear as an item under 'Cash flows from
investing activities' in a statement of cash flows
Q 38 Which one of the following statements is true?
A Analysis of financial performance should include both financial and non-financial

B An entity will always have a poor quick or acid test ratio if is highly geared
C The use of financial ratios to evaluate performance is not appropriate for sole traders
D Calculation of financial ratios for one accounting period only provides sufficient
information to assess financial performance

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Financial accounting (F3/FFA)

Financial Accounting (F3/FFA)

WASEEM AHMAD QURASHI

Masters’ Academy of professional studies +923215040978 Page 2

1.2What information is needed

1.3How Financial Accounting helps

 Basic purpose of Financial Accounting is to provide information

 What are characteristics of good information

Masters’ Academy of professional studies +923215040978 Page 3

1.8Who will record transactions

Masters’ Academy of professional studies +923215040978 Page 4

1.8.2 Business is an artificial person

1. Transactions made with businessman

 Transactions made by businessman in his personal capacity

 Transactions made by business

Note: Financial accounting is only concerned with transactions made by business

1.9 Control over Transactions

1.9.1Components of control system

 Who will authorize transaction

 When authorization is required

Masters’ Academy of professional studies +923215040978 Page 5

 Missing documents must have valid reason

1.9.1.3 Segregation of duties

1.10 An important distinction

 Cloth for cloth shop

Types of business entity

Advantages of being a sole trader

Masters’ Academy of professional studies +923215040978 Page 6

Disadvantages of being a sole trader

Limited liability companies.

 Be registered at Companies House

Masters’ Academy of professional studies +923215040978 Page 7

Advantages of trading as a limited liability company

Disadvantages of trading as a limited liability company

Masters’ Academy of professional studies +923215040978 Page 8

Masters’ Academy of professional studies +923215040978 Page 9

1 The equity capital of a company is the amount of cash contributed to

Q3 Is the following statement true or false?

Financial reporting by companies is more extensively regulated than financial

Masters’ Academy of professional studies +923215040978 Page 10

Masters’ Academy of professional studies +923215040978 Page 11

Masters’ Academy of professional studies +923215040978 Page 12

Masters’ Academy of professional studies +923215040978 Page 13

Step 1 Acquisition of Assets

Business has three options to acquire assets

There were three ways of acquiring asset.

Asset acquired from owner

Masters’ Academy of professional studies +923215040978 Page 14

ABC Furniture 250 Cr

Masters’ Academy of professional studies +923215040978 Page 15

City Motors 350 Cr

Masters’ Academy of professional studies +923215040978 Page 16

Step 2 Purchase of goods

Option 1 Goods purchased on cash

Masters’ Academy of professional studies +923215040978 Page 17

Step 3 Sale of goods

Masters’ Academy of professional studies +923215040978 Page 18

Cash refund to customer

Cheque received from customer later dishonoured

Masters’ Academy of professional studies +923215040978 Page 19

Reasons for returned/dishonoured cheques

 Stolen cheques and cheque guarantee cards

 Wrongly completed or out of date cheques