Accounting PDF

JADRANKA KAPIC, Ph.D.
ACCOUNTING
Professor Jadranka Kapic, Ph.D.
ACCOUNTING
Original title
Računovodstvo II izdanje
2011. godina
Publisher
Faculty of Economics Sarajevo
For publisher
Dean
Professor Veljko TRIVUN, Ph.D.
Reviewers
Professor Mehmed JAHIC, Ph. D.
Professor Selim DURMIC, Ph.D.
Translation by
Belma Hadzihalilovic-Kasumovic
Circulation:
100
CIP - Katalogizacija u publikaciji

Nacionalna i univerzitetska biblioteka
Bosne i Hercegovine, Sarajevo
657(075.8)
KAPIĆ, Jadranka
Accounting / Jadranka Kapić ; [prevela Belma
Hadžihalilović-Kasumović]. - Sarajevo : Faculty of
Economics, 2011. - 492 str. : graf. prikazi ; 24 cm
Prijevod djela: Računovodstvo. - Bibliografija:

str. 487-492.
ISBN 978-9958-25-062-0
COBISS.BH-ID 19039494
CONTENTS
PREFACE ......................................................................................................................... 13
CHAPTER ONE
ACCOUNTING FRAMEWORK
1. Introductory Review ……............................................................................................... 17

1.1. Historical Evolution of Accounting ......................................................................... 17
2. Definition and Structure of Accounting .......................................................................... 20
2.1. Definition of Accounting ......................................................................................... 20
2.2. Structure of Accounting ………............................................................................... 23
2.2.1. Business Objectives and Activities................................................................. 26
3. Forms of Organization of a Legal Entity ….......…………………………..................... 30
3.1. Sole Proprietorships ………………......................................................................... 30
3.2. Partnership ……....................................................................................................... 30
3.3. Corporation or Company (Joint-Stock Company) ……........................................... 31
3.3.1. Advantages of Joint-Stock Companies .......................................................... 32
3.3.2. Disadvantages of a Joint-Stock Company …………….................................. 33
4. Classification of Accounting ……………….................................................................. 35
5. Bookkeeping Systems ……………................................................................................ 39
5.1. Simple Bookkeeping System ................................................................................... 39
5.2. Cameral Bookkeeping System ….....…………….................................................... 43
5.3. Constant Bookkeeping System ....…………............................................................ 43
5.4. Double Entry Bookkeeping System …………….................................................... 45
CHAPTER TWO
SUBJECT OF ACCOUNTING COVERAGE
6. Elements of Financial Position ………........................................................................... 53

6.1. Assets ….................................................................................................................. 56
6.1.1. Fixed Assets …............................................................................................... 56
6.1.1.1. Fixed Intangible Assets …...……...................................................... 56
6.1.1.2. Fixed Tangible Assets …................................................................... 57
6.1.1.3. Long-Term Financial Assets ………................................................. 58
6.1.1.4. Fixed Assets, as Assets Held For Sale .……..................................... 59
6.1.2. Current Assets ................................................................................................ 60
6.1.2.1. Current Tangible Assets …............................................................... 60
6.1.2.2. Cash, Short-Term Receivables, Short-Term Financial Placements
And Prepayments and Accrued Income ........................................... 60
6.2. Liabilities ................................................................................................................. 60
6.2.1.Current Liabilities ……................................................................................... 60
5
6.2.2. Non-Current (Long-Term) Liabilities ............................................................ 61
6.3. Equity ...................................................................................................................... 61
7. Elements of Business Operations Performance……....................................................... 62
CHAPTER THREE:
ACCOUNTING PRINCIPLES AND STANDARDS AS FRAMEWORK
OF FAIR FINANCIAL REPORTING
8. Accounting Principles and Standards as Framework of Fair Financial Reporting ......... 73

8.1. Generally Accepted Concepts .................................................................................. 74
8.2. Generally Accepted Accounting Principles ……..................................................... 75
9. International Financial Reporting Standards (IFRS)
Including International Accounting Standards (IAS) …................................................. 78
CHAPTER FOUR
CONTENT OF BASIC FINANCIAL STATEMENTS
(BALANCE SHEET AND INCOME STATEMENT)
10. Concept of Financial Statements …………………...................................................... 87

10.1. Balance Sheet ................................................................................................….. 88
10.1.1. Principles of Balance Positions Entry ….............................................…. 90
10.1.2. Preparation and Content of Balance Sheet ……….............................….. 92
10.1.3. Problem of the Valuation of Balance Positions …............……................ 94
10.1.4. Basic Balance Changes ............................................................................ 97
10.1.4.1. Increase of Assets and Increase of Liabilities ............................ 97
10.1.4.2. Increase of Assets with Simultaneous Decrease of Assets ........ 98
10.1.4.3. Decrease of Assets and Decrease of Liabilities ......................... 99
10.1.4.4. Increase of Liabilities with Simultaneous
Decrease of Liabilities ............................................................. 100
10.1.5. Types of Balance Sheet .......................................................................... 101
11. Income Statement ....................................................................................................... 105
11.1. Concept and Content of Income Statement ........................................................ 105
11.1.1. Form and Preparation of Income Statement ........................................... 109
11.1.2. Components of Income Statement of Service and Trade Companies ..... 127
CHAPTER FIVE
CHARACTERISTIC, CONTENT AND PHASES OF ACCOUNTING PROCESS
12. Characteristic and Phases of Accounting Process ...................................................... 137

12.1. Business Transaction as an Input of Accounting Process .................................. 139
12.2. Bookkeeping Documents .................................................................................. 140
12.2.1. Classification of Bookkeeping Documents ............................................ 141
6
12.2.2. Validity of Bookkeeping Documents ..................................................... 143
12.2.3. Preservation of Bookkeeping Documents ............................................. 144
13. Bookkeeping Accounts .............................................................................................. 145
13.1. Concept and definition of Account ................................................................... 145
13.1.1. Types of Accounts ................................................................................. 146
13.1.2. Types of Bookkeeping Accounts ........................................................... 148
13.1.3. Explanation of concepts “payable” and “receivable” ............................. 150
13.1.4. Opening of Bookkeeping Accounts ....................................................... 154
13.1.5. Fundamental Rules of Recording Business Events.
in Bookkeeping Accounts ...................................................................... 155
13.1.6. Closure of Bookkeeping Accounts ......................................................... 156
13.1.7. Chart of Accounts .................................................................................. 158
14. Business Books .......................................................................................................... 162
14.1. Main Business Books ........................................................................................ 162
14.1.1. Day-Book ............................................................................................... 162
14.1.2. General Ledger ...................................................................................... 168
14.2. Sub-Ledger Business Books .............................................................................. 170
15. Financial Statements as Outputs of Accounting Process ........................................... 172
15.1. Pre-Conclusion Activities ................................................................................. 172
15.2. Inventory .......................................................................................................... 173
15.3. Bookkeeping Errors and Methods of Their Correction ...................................... 177
15.4. Gross Balance and Closing Sheet ...................................................................... 182
15.5. Preparation of Main Financial Statements ......................................................... 186
CHAPTER SIX
ACCOUNTING COVERAGE OF TYPICAL BUSINESS
EVENTS OF ACCOUNTING PROCESS
16. Accounting of Non-Current Assets ............................................................................ 197

16.1. Non-Current Intangible Assets .......................................................................... 197
16.1.1. Patents, Licenses, Concessions, Trademarks and Other Rights .............. 200
16.1.2. Foundation Costs / Costs of Foundation ................................................. 201
16.1.3. Development Costs ................................................................................ 203
16.1.4. Goodwill ................................................................................................ 205
16.2. Current Tangible Assets .................................................................................... 209
16.2.1. Land ....................................................................................................... 210
16.2.2. Property, Plants and Equipment ............................................................. 212
16.2.2.1. Acquisition of Construction Buildings From Own Assets ....... 214
16.2.2.2. Construction Buildings ........................................................... 216
16.2.2.3. Construction of Buildings From Own Assets .......................... 218
16.2.2.4. Acquisition of Plants and Equipment From Own Assets ......... 221
16.2.2.5. Acquisition of Plants and Equipment From Borrowed Funds,
use of bank loans .................................................................... 222
16.2.2.6. Acquisition of Non-Current Assets within
Gov. Grants and Gov. Assistance ........................................... 224
7
16.2.3. Subsequent Costs – Investment
In Assets (non-current intangible assets) ............................................... 227
16.3. Depreciation Cost .............................................................................................. 229
16.3.1. Elements Influencing Calculation Of Depreciation ................................ 230
16.3.2. Methods of Depreciation ........................................................................ 234
16.3.2.1. Linear Depreciation Method ................................................... 234
16.3.2.2. Digressive Depreciation Method ............................................. 235
16.3.2.3. Progressive Depreciation Method ........................................... 237
16.3.2.4. Functional Depreciation Method ............................................. 238
16.3.2.5. Calculation and Book Recording of Depreciation Costs ......... 238
16.4. Change of Depreciation rates ............................................................................. 240
16.5. Withdrawal from Use, Disposal and Removing from Books,
Property, Plants and Equipment ........................................................................ 242
16.5.1. Withdrawal of Assets from Use ............................................................. 242
16.5.2. Writing Off Property, Plants and Equipment ......................................... 243
16.5.3. Sale of Property, Plants and Equipment
not classified in Accordance with IFRS to be Held for Sale ................. 244
16.6. Long-Term Financial Investments ..................................................................... 247
16.6.1. Interests (Shares) in Associated Legal Entities ...................................... 248
16.6.2. Interests in Dependant Entities and Other Associated Legal Entities .... 248
16.6.3. Loans to Associated Legal Entities ........................................................ 249
16.6.4. Interests in Non-Associated Legal Entities ............................................ 249
16.6.5. Extended Loans ...................................................................................... 251
16.6.6. Investment in Debt Securities ................................................................ 251
16.7. Long-Term Receivables .................................................................................... 253
17. Accounting Coverage of Current Assets .................................................................... 255
17.1. Concept of Current Assets ................................................................................. 255
17.2. Accounting Monitoring of Cash and Cash Equivalents ..................................... 256
17.2.1. Petty Cash .............................................................................................. 257
17.2.2. Provisional Gyro Account ...................................................................... 259
17.2.3. Issued Foreign Exchange Letter of Credit .............................................. 261
17.2.4. Cheques ................................................................................................. 262
17.2.5. Bill of Exchange ..................................................................................... 263
17.3. Short-Term Financial Investments .................................................................... 268
17.3.1. Accounting Problems of Monitoring Extended Short-Term Loans ........ 269
17.4. Accounting Monitoring of Receivables from Buyers ........................................ 271
17.5. Accounting Monitoring of Inventories .............................................................. 272
17.5.1.Accounting Monitoring of Inventories of Material ................................. 272
17.5.1.1. Accounting Monitoring of Material
in phase of acquisition (purchase) and Storage ...................... 273
17.5.1.2. Book Recording and Calculation of Material
Acquisition cost, when Variable Costs are
Allocated to Several Types of Material .................................. 274
17.5.1.3. Material in Finishing Off and Processing ............................... 280
17.5.1.4. Accounting Monitoring of Material Consumption ................. 284
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17.5.1.5. Surpluses of Material in Warehouse ........................................ 293
17.5.1.6. Accounting Monitoring of Material Disposal ......................... 294
17.5.1.7. Accounting Monitoring of Inventories of Spare Parts
and Small Inventory ................................................................299
17.5.2. Accounting Coverage of Goods ............................................................. 302
17.5.2.1. Inventories of Goods in Wholesale Shop ................................ 305
17.5.2.2. Increase and Decrease of Selling Price .................................... 308
17.5.2.3. Goods in Shop ......................................................................... 309
17.6. Analysis of Inventories ...................................................................................... 310
17.7. Prepaid Costs of Future Period (Prepayments and Accrued Income) ................ 311
18. Accounting Coverage of Equity ................................................................................. 314
18.1. Concept of Equity .............................................................................................. 314
18.2. Shares as Financing Instrument of Joint-stock Company .................................. 315
18.3. Accounting Monitoring of Changes in Earned Equity ....................................... 322
18.3.1. Dividends ............................................................................................... 322
18.3.2. Declaration and Payment of Share Dividends ........................................ 325
18.4. Loss ................................................................................................................... 327
18.5. Earning per Share .............................................................................................. 329
19. Accounting Coverage of Liabilities ............................................................................ 333
19.1. Long-Term Liabilities ....................................................................................... 335
19.2. Current (Short-term Liabilities) ......................................................................... 342
CHAPTER SEVEN
COST ACCOUNTING
20. Cost Accounting ......................................................................................................... 349

20.1. Concept of Costs ............................................................................................... 349
20.1.1. Classification of Costs ........................................................................... 350
20.2. Accounting Monitoring of Costs Per Natural Types .......................................... 352
20.2.1. Costs of Material, Energy, Spare Parts and Small Inventory .................. 353
20.2.2. Costs of Employees ................................................................................ 358
20.2.3. Costs of Services .................................................................................... 361
20.2.4. Allocation of Costs ................................................................................. 371
20.3. Accounting Monitoring of Production Process .................................................. 375
20.3.1. Cost Calculation Methods and Systems ................................................. 378
20.3.1.1. Cost Calculation Methods ....................................................... 379
20.3.1.2. Transfer of Production Costs and Use of Calculation .............. 381
20.1.2.3. Calculation Methods ............................................................... 381
20.3.1.4. Accounting Monitoring of Final Products ............................... 387
20.3.2. Cost calculation Systems ....................................................................... 392
20.3.2.1. Cost Calculation Systems in Accordance with Actual Costs ... 393
20.3.2.2. Calculation System Per Standard Costs ................................... 404
20.3.2.2.1. Concept of Standard Costs .................................... 404
20.3.2.2.2. Calculation System per Standard Costs ................. 406
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CHAPTER EIGHT
ACCOUNTING COVERAGE OF REVENUES, EXPENSES
AND DETERMINATION OF FINANCIAL RESULTS
21. Accounting Coverage of Revenues ............................................................................ 425

21.1. Definition and Structure of Revenues ................................................................ 425
21.2. Measurement and Recognition of Revenues ...................................................... 426
21.3. Operating Revenues .......................................................................................... 429
21.3.1. Revenues From Sale of Products ............................................................ 429
21.3.2. Revenues From Provided Services......................................................... 432
21.3.3. Revenues from Sale of Goods ................................................................ 434
21.3.3.1. Revenues from Wholesale Goods ........................................... 434
21.3.3.2. Revenues from Sale of Goods in Transit ................................. 437
21.3.3.3. Revenues from Sale of Goods in Retail Shop .......................... 439
21.4. Financial Revenues ............................................................................................ 442
21.4.1. Revenues From Interests ........................................................................ 442
21.4.2. Positive Foreign Exchange Differences ................................................. 444
21.4.3. Revenues in the Amount of Realized Gains at Sale of Shares
and Business Interests ............................................................................ 446
21.4.4. Gains from Sale of Property, Plants and Equipment .............................. 448
21.5. Other Revenues ................................................................................................. 449
21.5.1. Revenues from Subsidies, Grants, Subventions, Incentives ................... 449
21.5.2. Revenues From Written-off Liabilities and Collected
Previously Written-Off Liabilities ......................................................... 451
21.5.3. Revenues from Penalties, Fines, Rewards, Withdrawal Fees ................. 451
21.5.4. Revenues from Sale of Material, Spare Parts and Small Inventory ........ 451
21.5.5. Other Revenues ...................................................................................... 452
21.5.5.1. Revenues from Cancellation of Value Correction
of Inventories .......................................................................... 452
22. Accounting Coverage of Expenses ............................................................................. 454
22.1. Definition and Structure of Expenses ................................................................ 454
22.2. Operating Expenses ........................................................................................... 456
22.2.1. Costs of Sold Products ........................................................................... 456
22.2.2. Costs of Provided (Calculated Services) ................................................ 457
22.2.3. Acquisition Cost (Acquisition Value)
of sold Goods as Expenses in Income Statement .................................. 457
22.2.4. Distribution Costs .................................................................................. 458
22.2.5. Costs of Management, Sale and Administration .................................... 459
22.2.6. Inventory Value Adjustment .................................................................. 460
22.2.7. Other Operating Expenses ...................................................................... 463
22.3. Financial Expenses ............................................................................................ 463
22.3.1. Interests .................................................................................................. 464
22.3.2. Negative Foreign Exchange Differences ................................................ 466
22.3.3. Losses From Impaired Value and Disposal of Fixed Assets ................... 469
10
22.3.3.1. Losses From Impairment and Disposal of Property,
Plants and Equipment ............................................................. 470
22.3.3.1.1. Losses From Impairment of Property,
Plants and Equipment ........................................... 470
22.3.3.1.2. Losses From Disposal (sale) of Property,
Plants and Equipment ........................................... 472
22.4. Other Expenses .................................................................................................. 473
22.4.1. Acquisition Value of Sold Material, Spare Parts and Small Inventory ... 474
22.4.2. Donation Expenses ................................................................................ 474
22.4.3. Shortages ............................................................................................... 475
22.4.4. Fines, Penalties and Damage Compensation .......................................... 477
22.4.5. Non-Performing Receivables Write-Off ................................................ 477
23. Determination of Financial Results ............................................................................ 483
Bibliography .................................................................................................................... 487
Other Material .................................................................................................................. 491
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PREFACE
The book entitled Accounting is primarily intended for the students of the School of Eco-
nomics and Business in Sarajevo, for studying the course of the same title, but those inter-
ested in the company accounting issues, may also use it. Taking this as a starting point, this
book is structured in an appropriate manner – comprised of eight chapters.
At the beginning of each chapter, the objective aims of studying have been indicated as
a notice to the readers as to what they can learn if they study that particular part of the book.
At the end of each chapter, check-up questions for verifying the knowledge and understand-
ing have been pointed out.
In the first chapter, introductory topics are discussed, such as an introduction to his-
torical evolution of accounting, defining accounting, structure of accounting, business aims
and activities, organization of legal entities, classification of accounting and book-keeping
systems.
The second chapter is devoted to the financial position elements and financial perfor-
mance of business operations of a legal entity. There is an approach of correct defining
and classification of assets, liabilities, equity, revenues, expenses and defining of operating
results.
The third chapter starts with accounting principles, assumptions and standards as frame-
works for preparing and presenting financial reporting.
The fourth chapter is devoted to the basic financial statements as a base for studying
accounting. The aim of these presentations is to acquaint the readers with the meaning and
use of balance sheet for assessing financial stability of a legal entity, and income statement
for assessing business profitability. This chapter elaborates the principles of the valuation
of balance positions. In this regard, there are special emphases on the link between basic fi-
nancial statements prepared on the basis of economic categories (balance sheet and income
statement). With this, main financial statements of manufacturing companies, which are
predominantly intended for the needs of external users, are completed. At the end of this
part of the book, the issue related to the components of income statement of service and
trading companies is elaborated.
The fifth chapter starts with the explanation of accounting process. It is conceived in a
manner that students can get acquainted with the basis of this process. Thus, we start with
the phases of accounting process (input, processing, output), which corresponds with the
approach of the book and preferring the accounting as a part of an information system of a
legal entity. The conceptual part elaborates business transactions and bookkeeping docu-
ments as evidence on validity of a business event occurrence and basis of data entry into
the accounting process (input). Following this, bookkeeping accounts and business books
as instruments of the accounting process, which perform pre-conclusion activities of the
process (inventory, error correction, preparing a trial balance) are elaborated and, at the
end, conclusion activities and preparation of main financial statements. In order to deepen
the acquired knowledge, a simplified example of preparing basic financial statements has
been provided in the book.
13
The sixth part of the book is related to the content of theory and application, with the
aim of deepening previously acquired knowledge about basic economic categories, their
phases and their undergoing processes, as well as the basis of the accounting coverage.
In that respect, the accounting issue of non-current assets is first elaborated. By following
the accounting process it is going through, this part also elaborates the accounting issue of
depreciation.
Following this, there is an explanation of the accounting issue of monitoring the process
within current assets. This part does not elaborate the accounting issue of monitoring the
production and final products, although these assets are included in current assets. Respect-
ing the logic of assets circulation, the accounting issue of monitoring production and final
products is elaborated in the part of the cost accounting. Starting from basic financial state-
ments as a base and a starting point of studying accounting, in further elaboration, focus is
on the accounting issue of equity and liabilities. In this part the acquired knowledge on the
accounting understanding of equity is extended, by elaborating the problem of the account-
ing monitoring of the paid shareholder’s equity, treasury shares, earned equity, as well as
loss and its coverage. This part of the book further elaborates the meaning of liabilities and
examples of liabilities classification are provided. The focus is on recognition and valua-
tion of liabilities, as well as the accounting treatment of provisions as “potential” liabilities.
The seventh chapter is planned for elaborating the basic problem, presentation of the ac-
counting information mainly for the needs of internal users. The focus of presentation is on
further elaboration of costs-related problem – classification of costs for the needs of internal
reporting, places and bearers of costs and cost calculation systems. At the end of this part
of the book, students shall get familiar with foundations of the accounting for the needs of
managing, i.e. managerial accounting. In that respect, fields related to standard costs and
areas of their application are elaborated, preparation of plans of legal entities, as well as
the possibility for monitoring the realization of the planned volumes. In the eighth part, the
accounting problem of monitoring the elements of income statement is elaborated, and is
divided into the areas of revenues, expenses and determining the operating results.
At last, I would like to thank Professor Mehmed Jahic, Ph.D. and Professor Selim Durmic,
Ph.D. for their efforts in reviewing the book, to the publisher School of Economics and
Business of Sarajevo University, which accepted publishing of this project, as well as to the
users of the book from whom I expect well-intentioned suggestions for improving quality
of this university book.
Sarajevo, 2011
Author
14
CHAPTER ONE
ACCOUNTING FRAMEWORK
Study objectives
1. Historical evolution of accounting

2. Defining accounting and its role in business decision-making
process
3. Forms of organization of legal entities
4. Accounting classification
5. Bookkeeping systems
1. INTRODUCTORY REVIEW
Major work in the world is performed in the companies. Companies are groups
of people that work together for achieving one or more objectives. In their work,
companies use resources – building, equipment, material and various services. All
these resources are to be paid and financed. For their work to be effective, people,
that is, managers in the company, require information on the values of mentioned
resources, ways of their financing and results achieved with their use. Stakeholders
outside the company need relevant information in order to make judgments about
the company. Accounting is a system which provides relevant information. Com-
panies may be classified as profit and non-profit companies. The main objective of
companies from the first group is achieving profit, while companies from the sec-
ond group have other objectives, such as: managing state-related issues, provision
of social services, education, etc. Out of total number of employees in developed
countries (eg.USA) almost two thirds work in profit companies, and one third in the
state and other non-profit companies. Accounting of profit and non-profit compa-
nies in basic lines is similar. Therefore, the focus of presentation is on the account-
ing of profit-making companies.
1.1. HISTORICAL EVOLUTION OF ACCOUNTING

Accounting dates back to many centuries. Naturally, we cannot know when people
started doing accounting in their heads. Through the history, it is known that 5 000
BC transactions between tribes of Sumerian civilization were recorded by using
symbols, also these symbols were used in Mesopotamia around 3 200 BC. Such
records were written on boards made of clay. Clerks in Babylon and Egypt ac-
quired formal accounting education before 3000 BC. Persia under Dario (521-486
BC) had government clerks who conducted “sudden audits” of the province ac-
counting, and in Jewish civilization similar audits were conducted, where the main
clerk was at the second ranking position in the Government. In Ancient Greece, in
1400 BC, it was usual that slaves were both clerks and auditors. Slaves could be
tortured, and it was supposed that reports of slaves were more realistic than reports
of free persons, as free persons were protected by law from drastic technique of
verification of correctness. Accounting in Greece got more important. On the state
buildings, records on expenditure of their construction were carved. For example,
a board on Parthenon displayed that it had cost 469 silver talents or around USD 2
million, at the current values. For comparison purposes, Keops Pyramid in Egypt
had cost 1 500 talents, and this data goes back to the accounting records carved on
the pyramid on which Herodot made reports. In the Roman Empire, in 200 BC,
17
treasurers (lat. Quaestor) (principals of office of the State Property Management) of
certain regions, were responsible for monitoring local state accountants. Treasurers
(quaestors) had themselves submitted reports, when they were questioned by exam-
iners, from which the modern expression ‘auditor’ (from Latin word audire which
means listening) originates. In the early 4th century, in Byzantine Empire, Konstan-
tin established a public administration school in which accounting was taught.
Roman Empire under Karlo the Great (742-814) applied Roman and Persian ex-
amples of state accountants and auditors. Following the King’s death, the Parliament
was dismissed, and the Empire collapsed.1 Special importance for the evolution of
accounting in the Middle Ages was introduction of Arabic numbers (Fibonacci, 12th
century), as well as discovery of mechanical movable type printing (Johannes Guten-
berg, early 15th century – first printing house in Mainz, Germany). Members of rich
classes of owners, traders and priests, above all, literate and privileged, were accoun-
tants in the Middle Ages. Evolution of accounting and accounting profession was
based on transfer of skill and tradition in keeping book records. At that time, there was
no education system for the accounting profession. Traditional transfer of accounting
skill, especially double-entry bookkeeping, was developed and maintained by well-
known Venetian, Genovian and Florentine families (Bracci, Lorenzo, Medici).
In the 15th century, branches of the family Medici Bank had to submit annual
balance sheet to the Main Office in Florence. In England, for example, Henri VII
supported accountants. In the accounting history, a special place is dedicated to
the double-entry bookkeeping. A large number of accounting historians, especially
Italians, explore occurrence and evolution of double-entry bookkeeping. Genova
and the 15th century are treated by Italian accountants as a place and time of emer-
gence of double-entry bookkeeping. Therefore, in Genova in 1340 the oldest Gen-
eral Ledger was found (Massari of Genova)2 in which trading transactions were
recorded in accordance with the double-entry bookkeeping principle. Italian Luka
Pacioli and Benko Kotrulic from Dubrovnik had a huge historical role in the evolu-
tion of accounting. Double-entry bookkeeping system, which represents a spine of
accounting, was published in a written form by Luca Pacioli in 1494 in the book
named Summa de arithmetica, geometria, proportioni, et proportionalita,3 printed
in Venice. Therefore, the work of Luca Pacioli is the first printed work in which
the author systematized and popularized double-entry bookkeeping method, and
accounting profession regards him as the “father of modern accounting”.
The latest research determined that the first written scientific document on dou-
ble-entry bookkeeping methods was written by Benko Kotrulic in Napoli in 1458
1
Willard E. Sone, Antecedents of the accounting profession, Accounting review, April 1969, page
284-290.
2
R. Riahi-Belkaovi, Accounting Theory, Business press, London, 2000, pg. 2
3
Gray / Needles, Financial Accounting, General approach, Banja Luka, 2002, pg. 56 (translation)
18
– “ On Trade and Perfect Trader” – and published in Venice in 1573. In its work,
the author explained accounting principles, and especially principles of accuracy,
promptness and disclosure of traders book.4
In 1605, Dutch engineer and mathematician S. Stevin made the first annual finan-
cial statement, and in 1673 French J. Savary prescribed creation of balance sheet every
two years under the influence of the French Trade Law (CODE DE COMMERCE).
At he end of the 17th and in the early 18th century, industrial revolution and
needs of international market imposed an imperative of a growing harmonization
of legal regulations in the accounting field. Evolution of accounting profession
limited further development of accounting, and thus creation of a good quality of
the accounting legislation. Market development required a systemic approach to
the education for the accounting profession only as from the 19th century. Precondi-
tions for development of the accounting profession were:
- development of professional associations and

- introduction of accounting at universities.
In England in 1854 the first association of accountants was established, and

in 1880 the Institute of Certified Public Accountants of England and Wales was
established.
In 1887, the first accounting association was established in the USA, American
Association of Public Accountants (AAPA) which, in its articles of association
clearly defined the accountants education programme. In 1896, The State of New
York passed the Law on Certification of Public Accountants (Certification of Pub-
lic Accountants). In 1900 School for Accounting, Finance and Trade was opened at
New York University and thereby the most important step was made in the Univer-
sity education of the accounting profession.
The twentieth century is the century of full development of the accounting pro-
fession. Technology revolution during the 20th century speeded up growth of finan-
cial markets and the need for harmonization of the accounting practice regulation
and reporting practice increased. At the end of the 20th and in the early 21st century,
globalization of world economy imposed an imperative for harmonized basis of fi-
nancial reporting. Although most countries had their national accounting standards
developed, for the reporting needs at the international markets, US Accounting
standards (USGAAP)5 or international financial reporting standards66 were used.
4
For further details see: M. Z ebic, Life and Work of Benko Kotrulic from Dubrovnik and his
records: On Trade and Perfect Trader, Titograd, 1963.
5
Georgette i. Bailey, Ken Wild, International Accounting standards: A guide to preparing accounts
accountancy books, Institute`s Publisher, Deloite & Touche, 1998.
6
B. Needles, Financial Accounting Houghton Mifflin, co., Boston, 1989, pp. 2-12.
19
2. DEFINITION AND STRUCTURE
OF ACCOUNTING
2.1. DEFINITION OF ACCOUNTING

In the course of a long historical evolution of accounting, its various definitions
have come up from a vast number of individuals and accounting institutions, as a
result of various approaches, technical basis of accounting, objectives and users of
reporting. Defining the accounting is often a research challenge, but is not an easy
task of the accounting researchers. Research of the role and structure of accounting
is a demanding research task, especially in the modern circumstances of globaliza-
tion of financial markets and modern information technology. The following as-
pects are most often mentioned in the accounting literature of developed countries:
 accounting as an art, technique or skill;
 accounting as a scientific discipline;
 accounting as a service function of a legal entity / company;
 accounting as a part of the management accounting system of a legal entity
/ company.
Accounting as an art, technique or skill

Accounting as an art, technique or skill is the oldest definition which, under ac-
counting, implies art or skill of recording business events. This definition dates back
to the period of medieval Italian families (the Florence family Medici is important).
A similar definition was made in 1941 by the American Institute of Certified Public
Accountants (AICPA), which defines accounting as ”an art of recording, classify-
ing and summarizing in terms of money expressed business transactions, as well as
interpretation of results of this art”7.
We often talk about accounting as a business language or language of financial deci-
sion-making process, and it needs to be learned with the aim of managing the company.
Accounting as a scientific discipline

The focus of many authors is defining accounting as a scientific discipline. E.S.
Hendriksen provided the most important definition of accounting as a scientific
discipline in which he claims: “ Accounting as a theory may be defined as a logi-
cal making of conclusions on the basis of establishing principles that provide a
7
B. E. Needles, Financial... quoted, pp. 2-3; W. B. Meigs, R. F. Meigs, Accounting: The basis for
business decision, McGraw Hill, New York, 1987.
20
framework in which accounting practice operates, but also a guide for development
of new practice and procedures.”8 According to the systematization of disciplines
“of economy and management studies”9, there are two fields of research with the
attached disciplines which include accounting:
1) functional accounting (finance, marketing, human resources management
and production management) and
2) instrumental accounting (a science about computers, management, manage-
ment economics and quantitative analysis).
Each of these scientific disciplines, including accounting, has its positive and
normative features.
Positive features of accounting, that is, accounting theory, , include all the exist-
ing knowledge on the accounting terms, categories, principles, procedures, meth-
ods and instruments. This is the knowledge about accounting category system.
Normative part of accounting means application of adopted accounting principles,
procedures, methods and instruments for achieving certain objectives. That part
of accounting includes positive legislative regulation from the field of accounting
and adopted accounting standards, which represent a framework for defining the
accounting policy. Accounting theory (principles, methods and similar) is created
on the basis of research of the accounting practice. Therefore, accounting practice
supplements the theory, and vice versa.
Accounting as service function

When a legal entity – company is observed as a group of functions, it is not
disputable that accounting is one of the service functions, which “generates” the
accounting information for its users. Thus, a group of authors emphasize the fol-
lowing definition:
”Accounting is a service function of a company. The function of accounting is
provision of accounting information on business events to the stakeholders such as
managers, investors and lenders.”10 Accounting as a service function that provides
relevant accounting information to the internal and external users is also defined
by AICPA, which claims that “accounting should ensure quantitative information,
primarily of financial nature on business operations of a company with the aim of
using them in business decision-making process”11.
8
E. S. Hendriksen, Accounting theory, R. D. Irwin, Illionois, 1963, pg. 1.
9
E. S. Hendriksen, Accounting theory, R. D. Irwin, Illionois, 1963, pg. 1.
10
L. G. Chasteen, R. E. Flaherty, m. C. O,connor, Intermediate Accounting, McGraw Hill, New
York, 1989, pg. 1.
11
AICPA: Statement of the accounting principles Board, No. 4., item. 40., New York, 1970.
21
Information provided by accounting for the purpose of decision-making process
should meet the following qualitative criteria:
– relevance,
– reliability,
– comparability and
– understandability.
Accounting as a part of management information system of a legal entity
With the development of information technology in the seventies and eighties12

there is a frequent definition of accounting as a part of information system.
One of the widely accepted definitions of accounting as a system is the follow-
ing: “Accounting is an information system. Accounting information system is a
sub-system of management information system”13.
This definition of accounting as an information system has been further pro-
cessed and put in more concrete context: “Accounting is information system which
measures business events, processes information into reports, and communicates
through the information with the decision makers of a legal entity”14.
Accounting, although treated as a sub-system of major management informa-
tion system, also represents a system with all the elements that are inter-linked
(input, process and output), and this is illustrated in the following manner15:
Figure 1. Accounting as an information system for business decision-making process of a legal entity
12
Gray / Needles: Financial...,quoted, pg.. 3.
13
Gray / Needles: Financial..., quoted, pg. 3.
14
Gray / Needles: Financial...,quoted, pg. 4.
15
Gray / Needles: Financial Accounting, A Global Approach Houghton Mifflin Company, Boston,
1999, pp. 3. and 4.
22
As shown on the figure, accounting as an information system is comprised of the
following elements:
– valuation, that is, measurement or quantification of business events in value

indicators, as well as their recording in the accounts (input),
– processing or data processing in business books and preparation of financial
statements, and
– disclosure of financial statements with which accounting communicates with
the internal and external users of financial statements and thus provides them
with the information necessary for business decision-making process (output).
2.2. STRUCTURE OF ACCOUNTING

A content or structure of accounting is a dynamic category. The content changed
as the environment changed, and thereby the concept of accounting. Content of
accounting is directly conditioned by the concept, that is, objectives of account-
ing, assumptions and accounting principles. Accounting concept, according to the
research conducted by the American AICPA in 1959, was developing from “tradi-
tional” to “modern”.16
According to the traditional concept, accounting was primarily classified in line
with the category system and accounting procedures in terms as to “what is ac-
counting”. According to this concept, the targeted orientation of accounting was of
secondary character.
Modern accounting concept, which has been dominating from early sixties until
now, subordinates the content of accounting to the objectives of the users of ac-
counting information. Information users (internal and external) in a modern ac-
counting concept, are at the first place. Starting from the users’ objectives, a mod-
ern functional structure (content) of accounting has also been determined. Accord-
ing to this concept, accounting performs several functions that may also be formed
as organizational parts of accounting, and those are17:
1) function of data processing in the future,
2) function of data processing in the past,
3) function of monitoring of data processing and
4) function of data analysis.
16
Report of AICPA, according to: E. S. Hendriksen, Accounting Theory, R. D. Irwin, Illionis, 1963,
pp. 6 and 7.
17
Evolution and Definition of Traditional Accounting Concept in Anglo-Saxon region according to:
E. S. Hendriksen, Accounting Theory, quoted, pp. 15-34.
23
Accounting theory and practice in the 1960s and `1970s in our region accepted
the structure of accounting, whose constituent parts are:
Figure 2. Structure (content) of accounting
– Accounting planning is focused on data processing in the future. For mak-

ing efficient business decisions, not only what happened in the past is relevant, but
we also require business information on how to channel business activities, how it
should be, how we would want it to be, and thus, we have accounting planning. On
the basis of relevant accounting information, though not only accounting informa-
tion, but also information from other functions, we plan data in accounting terms
that will be the subject of bookkeeping records.
The aim of accounting planning is projection and presentation of information
related to the future financial position, performance and changes of financial posi-
tion of a legal entity.
Results of accounting planning are different types of preliminary calculations,
planned calculations or reports, plans (estimates), etc.
Strategic planning is not accounting planning. It is conditioned by the evolution
of science and technology, etc. It is a long-term and medium-term planning.
Accounting planning is specific by its short-term nature within a business year,
which coincides with a calendar year (twelve months), so we reconcile a fiscal year
01. 01. – 31. 12. of a current year.
– Bookkeeping is the most important part of accounting according to this concept.

Bookkeeping records, in line with the double-entry bookkeeping, all the oc-
curred business events that fulfill the criteria to become the subject of the book-
keeping records. There are following conditions:
1) business events should occur – historical character;
2) they should be documented based on the valid document, i.e. in a form of
electric records;
3) they should be presented in value;
4) they should have an impact on a change of accounting categories (assets, li-
abilities, equity, revenue, expenses, financial result and its allocation).
Business events that meet the requirements of bookkeeping events shall be en-
tered into business books which are classified into basic books ( day-book and
24
general ledger) and sub-ledger records (petty-cash, inventory book and various
sub-ledger records). The final result of entire bookkeeping process is a compre-
hensive set of financial statements (balance sheet, income statement, statement on
equity changes, cash flow statements and records attached to financial statements).
Technique of bookkeeping data processing may be traditional (based on a sim-
ple manual processing, using simple tools) and modern (uses modern information
technology). After preparation, financial statements are disclosed to the internal
and external users.
– Accounting control is part of accounting which verifies accuracy and quality
of data contained in the results of the accounting planning and bookkeeping.
There are two aims of accounting control:
1) protection of assets from loss and theft and
2) provision of accuracy of accounting data.
Traditional concept of accounting control relates to the primary control of docu-
mentation (formal, material), and to the control of the accounting procedures from
data entry to their processing and reporting.
A modern concept of internal control systems, as well as monitoring system,
significantly differs in conceptual terms from the traditional one.
– Accounting analysis links the results of the planning process with the re-
sults of bookkeeping processing (estimates, calculations, financial statements, etc).
The aim of analysis is to determine discrepancies between the planned aims and
achieved results, as well as to determine the causes of the occurred discrepancies.
Only on the basis of a qualitative analysis of objectives (planning) and achieved
results (estimates and financial statements) management may undertake appropri-
ate measures for removing occurred discrepancies. Such a concept of accounting
analysis significantly differs in the objectives and structure from modern financial
analysis and analysis of financial statements (vertical and horizontal analysis, as
well as analysis of indicators).
– Accounting disclosure has a task to present the relevant accounting informa-
tion to the users, which is a result of planning process, bookkeeping, control and
analysis. Information should be relevant, reliable, comparable and understandable.
Users can receive such information in traditional forms (written report or verbal
information) or through modern media (internet or e-mail).
Accounting disclosure or, as we often come across in the literature, the account-
ing information is a part of the entire system of information and presents provi-
sion of accounting data and information to their users,18 especially to the company
management with the aim of achieving business objectives.
18
Mehmed Jahic Financial Accounting, Institute for Accounting and Audit of FBH, Sarajevo, 2003, pg. 8.
25
2.2.1. Business objectives and activities
“Business operations represent an activity of a legal entity whose aim is produc-

tion and sale of products, sale of goods or services to the buyers at prices that will
ensure an adequate return to its owners”.19 For example, some companies that sell
basic products, goods or services are:
– Volvo – cars, trucks and buses,
– Nike – sports wear and footwear,
– Sony – wholesale electric devices,
– Hilton hotels – hotel services,
– British Airways – services of passenger air-traffic.
Therefore, owners of initial capital (investors) invest capital (in a form of mon-
ey, objects, rights), establish a company with the aim of achieving a profit or re-
turn on invested capital (principal) by engaging into business activities. A need to
realize, that is, to earn a satisfactory profit, in order to attract and retain invested
capital, is an objective called profitability. Apart from this, business activities must
achieve the second objective, and that is liquidity. Liquidity is possession of suf-
ficient available financial means to pay out due debts. A company endeavors to
achieve business objectives (profitability, liquidity) by getting engaged in business
activities. It is often illustrated in the following manner20:
Figure 3. Business objectives and activities
19
Gray / Needles, Financial...,quoted, pg. 4.
20
Gray / Needles, Financial..., quoted, pg. 5.
26
Business activities within regular business operations of a company, respecting
business continuity principle, have three elements:
1) Financial activity – acquiring initial capital from owners or lenders / banks
in order to resume regular business operations.
Financial activity implies debt repayment to creditors and payment of
yield on investments / profit to the owners (eg. dividend payment, which may
be treated as investment in progress by shareholders).
2) Each company also needs to have investment activities. For the acquired
initial capital, a company purchases land, buildings and other resources, in
order to resume regular business operations, which belong to the field of
investment activities.
3) Each company also operates with regular activities; those are the so-called
operational activities – production and sale of products to buyers, acquisi-
tion and sales of goods, sales of services, employment of managers, employ-
ees and payment of taxes to the state.
Decision makers – users of accounting information
There are numerous users of accounting information on financial position, per-

formance and changes of financial position of a legal entity. It is often illustrated
as follows21:
Figure 4. Users of accounting informtion
21
Gray / Needles, Financial..., quoted, pp. 7-10.
27
The figure shows internal and external users of accounting information in order
to make decisions, and those are management, that is, persons that manage busi-
ness operations, as well as an entire number of stakeholders, including investors,
employees, lenders, suppliers and other trading creditors, customers, government
bodies and their agencies, as well as public.
Management (heads and administration) has the biggest responsibility for

preparation and presentation of a set of financial statements of a company, not only
for its own use, but also for other users that rely on financial statements, which are
their main source of information on financial position assessment, performance
and changes of financial position of a legal entity.
Lenders are interested in a full set of financial statements that will enable them
to determine whether their loans and the interest attached to them, will be paid
when due.
Investors are owners or potential owners of shares of a legal entity. They provide
risk capital, and are interested in the return on their investments, as well as in pos-
sible risks which such investment carries. Investors require accounting information
that will help them make a decision – to hold, purchase or sell shares of a legal entity.
Employees are interested in an indicator on financial position, that is, perfor-

mance of business operations and prospects of a company, its development from
the aspect of safe employment, level of salaries, working conditions.
Suppliers and other creditors are interested in information that enables them
to determine whether amounts owing to them will be paid when due. Creditors are
normally more interested in a short-period survival of a company, unless they con-
tinuously rely on a legal entity as their major customer.
Customers are interested in information on business continuity of a legal entity,

especially when they depend on it or they have long-term business relations.
Government and their agencies are interested in information on activities of

a company with the aim of distribution of resources, economic policy, possibility
of tax collection.
Public. Accounting information is important for informing the public and its
representatives. Thus, for example, a legal entity may contribute to local economy
development in several ways, such as employment of large number of people or
patronage of local suppliers.
28
It is relevant to note that companies worldwide prepare and present a full set
of financial statements for external users. Although financial statements, which
are compiled in different countries, look very similar, there are also many differ-
ences, which are a consequence of different economic, social, political, legislative
and cultural factors. In accounting terms, different countries have developed in
different directions, and, for example, at passing legislative regulation they had
different understanding on relative importance of some external users of financial
statements. So, for example, in Canada, USA or Great Britain, investors had the
biggest priority in accordance with relevant information on share market, unlike
France, Germany and Japan, where the interest of creditors and government agen-
cies is important, and especially tax agencies. So, in this respect, in 1973 a Com-
mittee for International Accounting Standards was established, while, International
Standards Accounting Board (ISAB), was established in London in 2001, with the
aim of reducing the differences in reporting through harmonization of accounting
practice at global terms.22
22
Also in BiH basis for harmonization are IFRS and IAS.
29
3. FORMS OF ORGANISATION
OF A LEGAL ENTITY
3.1. SOLE PROPRIETORSHIPS

A form of organization in the ownership of a single person is often referred to in
the literature as sole proprietorship or own legal entity.23 It is the most numer-
ous and the simplest form of organization of a legal entity, which in Anglo Saxon
countries encompasses 70 % of all legal entities. According to the American legis-
lation, there is no significant legal difference between the owner and a legal entity,
as overall assets, liabilities and equity are in the ownership of a single person. Sole
proprietorships are most often concentrated in trade and service sector. Owner as
a manager makes decisions without consultation with others. Namely, the owner
allocates profit or covers a loss and is responsible for settlement of all liabilities
arising from business operations.24 Therefore, sole proprietorship is responsible for
liabilities with all its property. In case of non-liquidity in liabilities payment, the
owner shall even sell its own property (house, furniture, etc.).
3.2. PARTNERSHIP
Partnership is a form of organization which occurs by joining two or more natural
persons who operate as co-owners. This is a traditional form of organization in
which those who provide service such as doctors, lawyers, auditors, etc. operate.
In Anglo Saxon countries, out of the total number of all legal entities, 20% relate
to the partnership.
There are following types of partnership:
– (general partnership);
– (limited partnership);
– (master limited partnership);
– (joint ventures).
General partnership is a form in which each of (general) partners is respon-

sible with its entire property for the liabilities of a legal entity.
23
24
30
Limited partnership is a type of organization with one or more general part-
ners, and one or more limited partners responsible for liabilities only up to the
amount of paid stakes.
Master Limited partnership operates mainly as joint-stock company, and trades

with stakes in the financial market. However, unlike joint-stock company, earnings
of partners are taxed only once, while with the joint-stock company, profit of a com-
pany is first taxed, and after that, cash dividends of shareholders are also taxed.
Joint ventures are contracting organizations, which include two or more physi-
cal entities with the aim of participating in the joint profit on the basis of incurred
costs or in line with some other criteria.
As specific forms of non-joint stock companies, which are a tradition of or-

ganization in the European countries (especially German and French legislative
regulation), and they are also widely spread in BIH, and those are companies with
limited liabilities (llc.)25.
Legal entities with a legal title of limited liability company (llc) are defined as
companies in which one or more legal or physical entities invest initial investments
with which they participate in the previously agreed initial capital. No founder can
undertake more initial stakes when establishing a company. If some member of a
company does not invest the initial stake for which it has a responsibility, other
members of a company are obliged to do so proportionally to their stakes in a
company. Significant feature of limited liability company is that members of a
company are not responsible for the liabilities of a company.26
3.3. CORPORATION OR COMPANY

(JOINT-STOCK COMPANY)
A Corporation or company (joint-stock company) is a legal entity, which exists sep-
arately from its owners – shareholders27. Joint-stock companies in developed world
nowadays create over 80% of world’s gross product, and they constitute around
20% in overall number of legal entities. The remaining gross product relates to
partnerships and sole proprietorships. Joint-stock companies are major companies.
25
Law on Enterprises, Official Gazette of the Federation of BIH, no. 23/99, 45/00, 2/02, 29/03.
26
Mehmed Jahic, Financial...,quoted, pp. 459-460.
27
Gray / Needles, Financial...,quoted, pp. 12-16.
31
Market value of some joint-stock companies in the financial markets at the end of
20th 28 and early 21st 29 century reached several hundreds of USD billion.
A joint-stock company has a legal status at the court, which means it may press
charges and charges may be pressed against it. As a legal entity, joint-stock com-
pany signs contracts and pays profit tax. In this type of company, a management
function is separated from the ownership function.
For the mentioned basic features, a joint-stock company has advantages and
disadvantages compared to other types of legal forms of companies. From the ac-
counting aspect, there are significant advantages and disadvantages of a joint-stock
company as a legal entity. From accounting point of view, joint-stock companies
in BIH do not differ crucially from other joint-stock companies elsewhere in the
world, because of the application of IFRS.30
3.3.1. Advantages of joint-stock companies
Advantages of organizing legal entities into joint-stock companies may be the

following31:
– there is no personal responsibility of shareholders;
– equity is more easily accumulated;
– easier transfer of ownership;
– continuity (permanency) of business operations;
– professional management.
When we speak about shareholders’ responsibility, we should bear in mind that

lenders of a joint-stock company (banks, suppliers, owners of bonds, etc.) have
receivables towards the property of the joint-stock company, and not towards their
own (private) property of shareholders. Invested amounts into shares of some com-
pany represent an investment risk for the shareholders; however, those investments
do not put at risk other property of shareholders. A large number of shareholders
represent a certain advantage of a joint-stock company. Easy equity accumulation
as an advantage of a joint-stock company is reflected in easy transferability of
28
29
For example at NYSE (New York Stock Exchange) in 2001, the value of Microsoft o r General
Electric exceeded USD 300 billion.
30
Differences in accounting monitoring of shareholder’s equity between some countries are mini-
mum nowadays, taking into account application of American Accounting Standards (US GAAP)
or International Financial Reporting Standards (IFRS).
31
R. Meigs, R. W. Meigs, Accounting, Foundation of business decision making process, ninth edition, Mate llc.,
Zagreb, 1999, pg. 650 (translation).
32
financial instrument called a share. A share is an ownership (principal) financing
instrument of a joint-stock company. With the issue and sale of shares, a joint-stock
company allows small or large shareholders to generate equity. Large joint-stock
companies with over a million of shareholders are usually referred to as ”public”,
and those with a small number of shareholders are referred to as “closed” joint-
stock companies. Shares as ownership instruments of financing, specific for joint-
stock companies used to create shareholders’ capital, are appropriate instrument
for transfer of ownership. Shares may change its owners (registered share or bearer
share) in the financial market without difficulties.
Change of an owner of a share (buying or selling of a share) takes place in an
organized financial market – a stock exchange.
With respect to business continuity, joint-stock companies, compared to other
types of legal entities, have relatively better stability. Ownership is transferred
without problems through shares trading and it is this feature of easy transfer of
ownership that provides business continuity of a joint-stock company. Other types
of legal entities do not have such a feature, for example, limited liability company,
etc. Namely, in other types of legal persons, with withdrawal or death of an owner
– individual business continuity or survival of a company comes under question.
Management of joint-stock companies is separated from owners and in the manag-
ing theory of a company, it is emphasized as a second important targeted group
(together with shareholders of joint-stock companies). Shareholders are owners32 of
a joint-stock company, but they cannot manage business activities of the joint-stock
company on a daily basis, so they transfer the management function to the manage-
ment, which they appoint, select or confirm every year at the annual shareholders’
assemblies. Governing boards or managements are appointed in the joint-stock
companies (bodies of managers or directors), which manage business operations of
the company. Shareholders cannot individually participate in managing a company,
but they realize this right with their votes in the work of a shareholder’s assembly.
3.3.2. Disadvantages of a joint-stock company
A joint-stock company, as a dominant legal entity in creating gross product at a

global level, has certain disadvantages, and we emphasize the following in particular:
32
Stake in the ownership of a joint-stock company is called a share. Contract on founding a com-
pany, that is, articles of association of a company, precisely provides a maximum number of shares
which a joint-stock company can issue. Number of shares in possession of shareholders, represents
equity in the possession of shareholders. It may be smaller than a number of shares defined by the
contract or decision on founding a company. A shareholder invests into a company cash or other
resources. In return, a shareholder gets shares, which represent proportional stake in the ownership
of a joint-stock company.
33
– double taxation problem,
– need for greater legislative regulation and
– separated ownership from control.
Taxation that relates to joint-stock companies is of aa more complex structure

than taxation related to other types of legal entities. Profit of a joint-stock company
is primarily taxed, and then dividends as an element of allocation of net profit,
which belongs to shareholders, are also taxed.
This practice of taxation, first profit of joint-stock company and then dividends
of shareholders, is sometimes referred to as double taxation. Founding and busi-
ness operations of joint-stock companies, especially when it comes to regulating
primary and secondary market, are legally better regulated than other types of
legal entities.33 Such “firmer” legislative regulation influences an increase of ad-
ministration, and thereby general costs of business operations of joint-stock com-
panies. Separation of ownership function from operational-control function is a
significant weakness of joint-stock companies, because of natural conflict between
shareholders and management. Control of daily business operations is performed
by management, which has different objectives from owners, whose control func-
tion is often reduced to voting in shareholders’ assembly.
33
In the Federation of BIH those are: Law on Accounting and Audit, Law on Enterprises , Law on
Securities, etc..
34
4. CLASSIFICATION OF ACCOUNTING
In accounting theory, and nowadays in accounting practice too, there is classifica-

tion of accounting from coverage aspect to:
a) micro accounting and
b) macro accounting.
“By observing tasks and a role of accounting from broader social aspect, macro
accounting represents a social accounting which can be national, state and interna-
tional accounting which, as an idea is more and more established in modern expert
literature.” 34
Micro accounting is business accounting, i.e. accounting of a company / com-
panies focused on achieving profit and it is often referred to as business language.
At the end of the 20th century, two targeted significant changes occurred which had
an impact on changes of company accounting. The first one relates to the world
economy globalization and an increase of requirements of users on business opera-
tions of companies. The second one relates to development of information technol-
ogy. Given these two main objectives, accounting of a company may be divided
into three specific parts: financial accounting, cost accounting and management
accounting. These three parts of business accounting, i.e. accounting of a company,
are inter-linked, and can be illustrated in the following way35:
Figure 5 Functional classification of business accounting
34
Janko Klobucar, Accounting, Faculty of Economics Sarajevo, Sarajevo, 2003 pg. 9.
35
T. C. Horngern, G. Foster, M. S. Datar, Cost Accounting, Prentice Hall, Englewood Cliffs, New
Yersey, 1994, pp. 4-5.
35
Financial accounting is a part of accounting which is primarily focused on
external users, such as owners, creditors and other. Thus, in practice it is referred
to as external accounting. In financial accounting, there are records of business
books, such as daybook, general ledger, sub-ledger records and other ancillary re-
cords. They are used to record, classify and sum up the data on the basis of which
a full set of financial statements is prepared. Prepared financial statements, after
conducted procedure of an audit by independent auditor, are disclosed and sent to
external users. Financial accounting provides historical data (eg. data on invento-
ries, customers, suppliers, investments, creditors), which are important both for
internal and external users.
Management Accounting36 is a part of accounting that provides information

primarily to internal users, such as management, at all levels of decision-making
process and responsibilities of a legal entity. The most important activities of man-
agement accounting are planning and control. In the planning process, objectives of
a legal entity are defined as well as parts of management accounting. An outcome of
planning are plans and calculations. Control is an activity of determining discrepan-
cies between objectives and achieved results. In a process of control, special reports
are compiled (eg. report on revenue execution, report on cost execution, etc.).
Management control, thus, assumes identification of responsibility area that
will enable its efficiency. Therefore, area of responsibility represents a homog-
enous segment of a company, within which its manager has authorities to make
certain decisions and responsibility for its successful functioning. Each area of
responsibility has its inputs and outputs from whose relation conclusions are made
about its performance. While inputs in all areas are expressed in costs, on the other
hand, outputs in some areas of responsibility may be expressed through selling
value and / revenues (sales department), while it is not possible in other depart-
ments (manufacturing departments of responsibility). A link between inputs (direct
material, direct labor, etc.) and outputs (final products) is strong and visible in man-
ufacturing departments, that is, in inputs and outputs within the production func-
tion. Thus, areas or centers of responsibility are formed within production function
and may include a small group of homogenous machines, entire production line
or entire manufacturing department. Thus, for example, in a control of daily con-
sumption of direct material, management assesses that there is an increase of direct
material consumption in manufacturing department. In analysis of discrepancy
cause, management possibly comes to a conclusion that supplied material has poor
quality or there was a discrepancy between direct material consumption as a result
36
A name originates from the word management and includes internal decision makers as major
users of internal accounting. For more details see T. C. Horngern, G. Foster, M. S. Datar, Cost ac-
counting, quoted, pg. 2.
36
of a fault on the machine or its obsoleteness, or non-adequate control and similar,
so there was unfavorable discrepancy of quantity consumption of direct material.
Certainly, management analyses favorable and unfavorable discrepancies from the
cost-benefit analysis aspect.37
Cost accounting has a wider importance than management accounting. It con-

tains all parts of management accounting and one part of financial accounting. The
most significant area of this accounting are costs, and those are: cost monitoring
in line with natural types, places and bearers, cost production planning, sale, ad-
ministration, methods and systems of cost calculation, etc. Thus, cost accounting
“undertakes” from financial accounting all the activities related to cost records,
as well as methods and systems of costs calculation of production and other costs.
As cost management is an important segment of success, cost accounting includes
activities of planning and control of costs. This means that cost accounting contains
historical information on costs, but also information on what those costs should have
been, which is important to the management for making business decisions.
Apart from classification of business accounting, i.e. accounting of a company
to financial, management and cost accounting, in practice we have other two types
of accounting, and it is more appropriate to observe them separately. Those are:
– fiscal accounting and
– internal audit.
“Fiscal accounting is accounting that should be involved in studying and ap-

plication of tax system, records and payment of tax liability.”38
Internal Audit is conducted in order to ensure that a full set of financial state-
ments is real, true and correct with the purpose of protecting companies’ resources
from excess spending, inadequate use and disposal, as well as to provide adequate
implementation of a business policy of a company at all business levels. Simply
said, the purpose of internal audit is to ensure protection of resources of a company
from unfair behavior of employees, protection of shareholders from unfair behav-
ior of managers (protection from various speculations of managers which damage
a company), protection of TOP-management from unfair behavior of managers at
lower levels, provision of fairness and correctness in the official financial state-
ments. Thus, for the mentioned objectives and features, internal audit should be
organized as a special field of accounting.
37
Jadranka Kapic, Valorization of inventories and their revalorization in the inflationary conditions,
Doctorial dissertation, Faculty of Economics, Sarajevo, 2003, pp. 220-250.
38
Mehmed Jahic, Financial..., quoted, pg. 17.
37
This is a classification of business accounting in stable conditions of mone-
tary currency. In inflationary conditions, accounting information loses its form
as a result of change in purchasing power of currency. Given that all the users of
accounting information require realistic figure of financial statements, it is neces-
sary to ensure harmonization of accounting information in accordance with the
new circumstances, i.e. inflationary circumstances.39
From the early 20th century, there is a mention in the accounting theory of
accounting in inflationary circumstances (i.e. inflationary accounting), and
it represents a special information accounting system of monitoring changes in
a company and its harmonization with the official price growth rates (inflation
or leveling) in line with market conditions of acquisition and sale. Adjustment of
accounting information in the inflationary circumstances is primarily conducted
with the aim of real presentation of financial position, performance and changes of
a financial position of a legal entity, that is, for the needs of current business opera-
tions and occasional comparative analysis.
39
The word inflation itself refers to the overstretched situation and originates from Latin word infla-
re meaning bloating, blowing. (B. Klaic, Big Dictionary of Foreign Words, Zagreb, 1972, pg. 553.)
In monetary economy, increase of money value is referred to as deflation, and decrease of money
value is referred to as inflation.
38
5. BOOKKEEPING SYSTEMS
Historical evolution of accounting was preceded by the evolution of bookkeeping.

According to the manner of book entry of business events, principles on which
book entries are based, the aim that is to be achieved, and business books records,
there are following basic bookkeeping systems:
a) simple bookkeeping system,

b) cameral bookkeeping system
c) constant bookkeeping system and
d) double-entry bookkeeping system.
5.1. SIMPLE BOOKKEEPING SYSTEM

Simple bookkeeping represents the first organizational system of records, which
was used already in ancient countries in their trade shops. The basic feature of sim-
ple bookkeeping is an isolated recording of changes of some property parts, change
of some balance of assets, or change of liabilities balance, which are presented in
special books that are not inter-linked. Characteristic of simple bookkeeping is that
it only records liabilities for the acquired property part, and it does not make re-
cords on private capital invested in a trade shop. Furthermore, simple bookkeeping
does not present revenues and expenses, which either increased or reduced private
capital. So, for example, in simple bookkeeping system, collection of receivables
in cash from rent of business premises is entered into books only as an increase of
cash in cashbook, while realized revenue is not registered.
Historical development of business events records system varied from simple
bookkeeping to the double entry bookkeeping. At the same time, simple book-
keeping with all its features has undergone evolution path, from non-organized, in
which only some events were recorded, which an owner wanted to preserve from
forgetting, to the organized, which represents more modern form of simple book-
keeping, but still does not register revenues and expenses and does not present
private capital.
Books of simple bookkeeping, which regularly make records, are:
– cashbook, which records incoming and outgoing payments of cash;
– book of debtors and creditors, which records all receivables and liabilities;
– inventory book.
39
Cash book had the following form:
INCOMING PAYMENT CASH BOOK OUTGOING PAYMENT

Event Event
Date Amount Date Amount
description description
Cashbook shows a balance and changes of cash balance in petty cash. Initial bal-
ance is shown on the left side, all incoming payments of cash are recorded on the
left side, and all outgoing payments are recorded on the right side. Debtor-creditor
relations with customers and suppliers are recorded in such a manner that for each
purchaser or supplier a new page in the book of debtors and creditors is opened.
Each page is divided vertically and has the left and right side. So, for example, the
balance of receivables from purchaser is determined by adding all increased debts
of a purchaser to the initial balance, which is recorded on the left side, and by de-
ducting all collections of receivables, which are recorded on the right side.
Balance of liabilities from a supplier is determined by adding all increases of
liabilities towards suppliers, which are recorded on the right side to the initial bal-
ance of liabilities, which are recorded on the right side, and by deducting all outgo-
ing payments, which are recorded on the left side.
Form of records of these books was following:
PAYABLE DEBTOR’S BOOK RECEIVABLE
Date Desc. Amount Date Desc. Amount
In its heading, debtor’s or creditor’s book had the title of debtors or creditors and
it was possible to assess a character of account by their initial balance. Calculation
of business operations results in simple bookkeeping system and cannot be deter-
mined directly based on book entry, as there are no records on incurred expenses
and revenues, but financial result is determined through conducting inventories,
that is, based on the book of inventories which is composed after stock taking in
trade shop.
Stocktaking is used to make inventory lists of the whole property of a single
trade shop on a certain date. This is normally done at the end of business year (31
December), since financial result is normally determined for a certain period of
time, i.e. for the past business year. On that occasion, an inventory list of all the
assets is conducted, which a trade shop disposes with: plants and equipment, goods
in a shop and in warehouse, cash, receivables from debtors (customers, banks and
others). Following this, stock taking of liabilities of a trade shop towards creditors
(suppliers, bank and other liabilities) is performed.
40
Determination of assets is conducted by counting and measuring in the shop and
warehouse, and determination of receivables and liabilities is performed on the basis
of records in the book of debtors and creditors, which is kept in trade shop. On the
basis of inventory taking, an inventory book of trade shop is compiled. The following
data are entered into a book of inventories: name of a trade shop and date on which
inventory list is being compiled, number, description and amount. In a column for
description, assets are first entered, i.e. assets of a shop classified by type, quantity
and value. Following this, liabilities are entered, i.e. liabilities of a shop, classified by
type and value indicators. At the end, recapitulation is compiled in which there are
total assets, total liabilities and own assets (net property) of a shop, which represent
a positive difference between total assets that the shop disposes with and its total li-
abilities towards creditors. Inventory book may be shown in the following:
Trade Shop “X”
Pg... Inventory book Date 31 Dec of current year

No Description amount
AUXILLIARY
MAIN COLUMN
COLUMN
I ASSETS
1. Petty Cash 20 000
Salt – 200 kilos per KM 1 200
Sugar – 300 kilos per Mm1 300
2. 40 000
Oil 100 l per KM 1.5 150
etc. ......
receivables from customers 5 000
cust. “a”
3. 10 000 50 000
cust. “b”
......
etc.
Total assets Xxxxx 110 000
II LIABILITIES
Loan from bank 50 000
3 000
1. Supplier “y” ......
etc. 30 000
Total liabilities Xxxxx 80 000
III RECAPITULATION
1. Total assets 110 000
2. Total liabilities 80 000
3. Private assets 30 000
41
In order to determine a financial results of a shop, it is necessary, apart from final
inventory on 31st December of the current year, to also have an initial inventory under
1st January of the current year. By comparing values of own assets (net property) at
the end of a period 31 December with the value of own assets (net property) at the be-
ginning of a period 1 January, financial result of that period is calculated. Therefore,
if a shop on 31 of December had its own assets in the amount of KM 30.000, if for
example at the beginning of the year, it had own assets in the amount of KM 20.000,
a positive financial result was achieved in the amount of KM 10.000. Otherwise, if
a shop, for example at the beginning of the year had its own funds in the amount of
KM 35.000, it has then achieved a negative result in the amount of KM 5.000.
General formula for calculating a financial results in simple bookkeeping:
Fr = S2 – S1
where:
S1 – own funds at the beginning of a period,
S2 – own funds at the end of the period,
Fr – financial result.
If: Fr (+) than S2 > S1 profit;

Fr (–) than S2 < S1 loss;
Fr (0) than S2 = S1 neutral...
These are the cases of the simplest calculation of financial result. However
when determining a financial result in simple bookkeeping, it is necessary to take
into consideration results that arise from regular business operations of a shop. For
example, it is necessary to allocate all additional incoming or outgoing payments
by the owner of a shop Up or all payments Ip or from a shop which does not have a
character of regular business operations, as they represent additional investments
or non-specific withdrawal by the owner of funds from a shop. Thus, in such a
situation it is necessary to include additional incoming or outgoing payments in
calculation of financial result, which we can present in the following manner:
S1 = Up + S1, i.e own funds at the beginning of a period increased by incoming payments,
S2 = Ip + S2, i.e. own funds at the end of a period increased by outgoing payments.
We calculate financial result in simple bookkeeping in situation when we have ad-

ditional incoming and outgoing payments in the accounts, by the following formula:
Fr = S2 – S1, so if
profit Fr (+) then S2 > S1
loss Fr (–) then S2 < S1
neutral Fr (0) then S2 = S1
42
Transitional form of simple bookkeeping in line with double entry bookkeeping
is an extended simple bookkeeping which, apart from books of some property parts
keeps records of some, for owners interesting expenses (for example, book of dis-
counts on goods40), but modern accounting theory does not pay such a big attention
to the mentioned phases, because of their non-applicability in modern conditions.
5.2. CAMERAL BOOKKEEPING SYSTEM

Cameral bookkeeping system was based on the simple bookkeeping, and was devel-
oped in the 17th century for the needs of monitoring state expenditure and revenues.
It was applied in public-legal institutions in which business operations were taking
place in line with the budget, and thus, in the past it was named budget bookkeep-
ing. Nowadays budget accounting is modernized and has all the features of double
entry bookkeeping system which, together with records of incurred expenses and
revenues also offers records of plan realization of all positions of expenses and
revenues. By making comparisons of realized revenues and expenses with planned
revenues and expenses, a surplus or deficit in the budget is determined.
In cameral bookkeeping, there is a general ledger of records:
a) expenses controller and
b) and revenues controller.
Also a book of inventories is compiled, which makes records of the property
of an institution. Along with these, there are also cashbooks, gyro-account books,
books of debtors, books of creditors, books of material. “Nowadays this system is
no longer in use.”41
5.3. CONSTANT BOOKKEEPING SYSTEM

Constant bookkeeping system is based on principles of double-entry bookkeep-
ing, and was developed in Switzerland in the 19th century. In its basis, it represents
an evolution of cameral bookkeeping and its transfer from book entry system in
line with simple bookkeeping principles into the system of book entry in line with
double-entry bookkeeping principles. In constant bookkeeping system, there are
records on all types of property as well as on expenses and revenues. In order to
40
M. Habek, Accounting, People’s Papers, Zagreb, 1984, pg. 102.
41
Mehmed Jahic, Financial..., quoted, pg. 22.
43
ensure a comparison of realized with the planned expenses and revenues, accounts
in general ledger are classified into three groups:
– planned or administrative or ordered accounts (of revenues and expenses),
– realized accounts of (revenues and expenses) and
– petty-cash account.
“A link between planned revenues and expenses and realized revenues and ex-
penses is established via cash account.”42
Description:
1) planned revenues
2) realized (collected) revenues
3) planned expenses
4) realized expenses (paid expenses)
Nowadays this system is no longer in use.
42
Mehmed Jahic: Financial..., quoted, pg. 23.
44
5.4. DOUBLE ENTRY BOOKKEEPING SYSTEM
Business transactions are business events which affect the sums presented in ac-
counting records of a legal entity. In order to systematically make records of
business events (business change), it is necessary to follow certain rules, and
rules of current bookkeeping records are included in the so-called double entry
bookkeeping.
Namely, the basic feature of double entry bookkeeping system or double en-
try bookkeeping is that it represents integral bookkeeping records of business
events on assets, liabilities, equity, revenues and expenses. It concerns a spe-
cific way of records in which occurred business events are recorded in a special
manner. Each business event has a double-side effect on accounting records, al-
though it is not visible straight away to someone who is just about to start studying
accounting.
Therefore, basic features of double entry bookkeeping system are:
1) each occurred business event is recorded double-sided, i.e. in two accounts:
on the left side of one account and on the right side of another account;
2) control of records which arise from double-sided records in double-entry
bookkeeping, i.e. a sum of left side of all accounts must be equal to a sum of
right side of all accounts;
3) comprehensive records;
4) permanent and systematic records.
In order to explain a concept of double-sided observation, let’s assume that Mrs.

Jones founded a company and that she opens a bank account in which she depos-
ited USD 40 000 of her own money. Double-sided aspect of this transaction is that
the company now has property, assets – money in the amount of USD 40 000, and
Mrs. Jones as an owner of a company has receivables towards those assets i.e. ini-
tial equity USD 40 000 (cash USD 40 000 = initial equity USD 40 000).
If in the following transaction the company takes a loan from a bank in the
amount of USD 15 000 the entity’s accounting records of a company would be
changed in two manners:
1) an increase of money by USD 15 000, which in total adds up to to USD 55 000;
2) a new liability towards a bank would be recorded (claim by the bank) in the
amount of USD 15 000. Under this item, accounting records of the company
would show the following43:
43
Adapted: Gray / Needles, Financial..., quoted, pg. 56.
45
To repeat, each transaction that was recorded in the accounts always has an
effect on two accounts. It cannot happen that a transaction causes only a single
change in the account. For making records of business events in the accounts, there
are certain rules that will be discussed in more detail later.
For the education needs, the so-called “T” accounts are normally used. “T” ac-
count is a double-sided account, that is, it is the account derived from real account.
It contains the most authentic parts of a real account, i.e. columns “debit” and
“credit”. It got the name as it looks like a letter “T”, which has two sides marked
with debit (D) and credit (c), as shown on the figure:
Therefore, each business event causes at least two changes of reverse character,
i.e. outflow of funds from one place means at the same time its inflow to another
place, and therefore it needs to be recorded at two places, that is, recorded into two
accounts.
Example 1: In case when we withdraw cash from a bank there is a decrease

of cash in the account of a bank by KM 2 000 and an increase
of cash in a petty cash of a company by KM 2 000, which, in
the accounts looks as follows:
46
Example 2: Acquisition of material from suppliers with the value of KM
3 000, we would record in the accounts in the following way:
In this case, we record arrival (acquisition) of material into our company on the
left or payable side, and we record outflow of material from our suppliers on the
right or receivable side. Here, we should note that an outflow of material from our
supplier to us actually means an increase of our liabilities towards the supplier,
which we record on the receivable side of the account.
A liability towards the supplier is comprised of provision of financial com-
pensation and when recording, the payment, book entry will be done in the op-
posite direction (account receivable – gyro account, and payable – account of
suppliers).
In this case, accounts show:
1. what we have (assets),
2. their origin (from a supplier, i.e. origin of assets / source of assets or liabilities).
As it may be noticed, recording is always conducted based on the same amount,

which we once record as payable and once as receivable.
From this, a basic rule of double entry bookkeeping arises:
PAYABLE = RECEIVABLE,
i.e. ASSETS = SOURCES OF ASSETS,
i.e. ASSETS = LIABILITIES.
A correct recording ensures an automatic balance of left and right side of an

account, which further refers to the correctness of recorded data. This is in par-
ticular important because of the fact that correct and reliable data can be a back-
ground for compiling financial statements, as well as making decision on their
basis.
From the aforementioned, we can list the rules of recording in the accounts of
assets and liabilities in accordance with sources of assets:
47
Apart from basic rules for recording business transactions on assets, liabilities
and equity, there are also recording rules on accounts of revenues and expenses,
in which a basic rule is that “revenues are always receivable”, and “expenses are
always payable”. Why it is like this, we should search for an answer in basic defi-
nitions of revenues and expenses, which we will thoroughly discuss further in the
text.
In double entry bookkeeping system, business events are recorded by their se-
quence of occurrence both by subject and character. Records as per sequence of
occurrence mean that business transactions are recorded in the order as they oc-
curred, i.e. chronologically. Recording of business transactions in line with sub-
ject and character arises from the main characteristic of double entry bookkeeping
– systematization. Systematization of a business event according to the subject
means that an accountant in creating orders for book entry determines which prop-
erty part of a business transaction it influences, that is, which accounts it concerns,
and in accordance with character it means to determine how business transaction
influences a property part, i.e. business transaction causes balance in the accounts,
an increase or decrease of balance in those accounts.
Double entry bookkeeping is also specific with comprehensive records of busi-
ness transactions that effect assets, liabilities, equity, revenues and expenses. In
accordance with the positive legislative regulation in BIH there is an obligation to
keep the records of the following business books:
a) day-book,
b) general ledger and
c) ancillary books of records.
Daybook is a basic business book in which all the bookkeeping business events
are recorded by chronological order, i.e. with such order as they occurred. General
ledger is a basic business book in which business events on assets, liabilities, eq-
uity, revenues and expenses are systematically and chronologically recorded. As
it encompasses changes on all accounting categories, general ledger, apart from
chronological and systematic features is also referred to as containing compre-
hensive records. Ancillary books are used for more thorough presentation of some
types of assets, liabilities, equity, revenues and expenses. They are used as a sup-
plement to the general ledger. Namely, although general ledger represents compre-
48
hensive records, it is however not so much thorough. Business books are closed
at the end of a business year and on their basis financial statements are prepared.
They are kept on the double entry bookkeeping principle, and are opened on the
basis of opening balance (balance sheet).
QUESTIONS FOR ASSESSING KNOWLEDGE AND UNDERSTANDING:
1. Which historical persons have contributed significantly to the evolution of double

entry bookkeeping?
2. List the features of accounting evolution from XVII century until early XX century.
3. Why is accounting regarded as information system?
4. Which decision makers use accounting information?
5. Why are investors interested in financial statements of a company?
6. What are the differences between sole proprietorship, partnership and corporation?
7. List the differences between management accounting and financial accounting.
8. List the main characteristics of double entry bookkeeping system.
49
CHAPTER TWO
SUBJECT OF ACCOUNTING
COVERAGE
Study objectives
1. Elements directly linked with measurement of financial position of

a legal entity
2. Definition, classification of assets, liabilities and equity
3. Elements directly linked with measurement of financial
performance of a legal entity
4. Definition, classification of revenues and expenses
5. Financial result – profit or loss
6. ELEMENTS OF FINANCIAL POSITION
Financial position of a company may be observed through the value of resources,

that is, through the value of total private equity.44 Elements directly related to me-
asuring (valuation) of financial position of a legal entity are: assets, liabilities and
equity,45 presented in balance sheet. An asset is a resource controlled by a legal
entity as a result of past events and from which an inflow of future economic be-
nefits into a legal entity is expected, and whose cost or fair value at the moment of
acquisition can be reliably and objectively measured.
There are three key determinants in this definition:
1) an asset must be a resource,
2) resource must be under control of a legal entity, and
3) cost or fair value at the moment of acquisition can be reliably and objectively
measured.
A resource is an asset if it provides a legal entity with future benefits. Resources
provide future benefits taking into account any of the following three conditions:
1) they are cash or may be converted into cash,
2) they are products for which there are expectations to be sold and to bring
cash, or
3) they are items expected to be used in future activities that will create a finan-
cial inflow to a legal entity.
Therefore, resources are assets – either cash, or items that will finally have an
inflow of cash as a consequence.
Example: A company “x” is a production-orientated company. Cash that it has
in a bank is an asset, as it (cash) may buy other resources. The sum which custo-
mers owe to the company is an asset, as cash is received with its collection. Pro-
ducts which a company produced and which are still in the warehouse are an asset,
as their sale is expected. Equipment and other production devices which a company
possesses are also an asset, as it is expected that they will be used for production
of new products. However, damaged products or trade goods which, as a result of
damage or obsolete cannot be sold are not assets, as they will not create cash, altho-
ugh they are in the ownership of a company.
44
45
International Financial Reporting Standards (MFRS) and International Accounting Standards
(IAS), Association of Accountants, Auditors and Financial Officers of FBiH, Mostar, 2011.
(translation). Framework for Preparation and Presentation of Financial Statements.
53
Control is an accounting concept which is similar, but not the same as legal
concept of ownership. When a company purchases a car at installments (for exam-
ple, pays KM 680 a month in the course of three years), it does not own a car in
legal terms, as ownership over a car does not go to the customer until the last in-
stallment is paid off. However, in case that a company is responsible for maintenan-
ce and insurance of a car, it is regarded that a car is under full control of a company
and that it is an asset. Therefore, possession or temporary controls are not sufficient
condition for some item to become an asset.
Example: An office space rented for the period of one year is not an asset, nor is an
asset a car or equipment rented for a short period of time. In both cases,
control of a legal entity over leased objects is only temporary.
In case that a company leases out a building or equipment for the peri-
od which is equal or almost equal to their useful period of use, such items
are assets, although a legal entity does not possess them.
Objective measuring – If a resource is acquired for cash or with the promise

that cash will be paid, it is an asset. If a company has produced or built a resource,
and costs of production or building are paid with cash, such a resource is also an
asset. If a resource is granted (donated), and a future benefit is expected from it,
it is an asset. Therefore, resources (items) donated to a company, and can fulfill a
definition of assets are an asset, as future benefits are expected, although an expen-
se has not yet incurred.46 On the other hand, a precious reputation is not an asset
if it occurs gradually, unless it was acquired in line with objectively measurable
cost.
Assets are normally classified into the categories: fixed (non-current) and cu-
rrent (short-term).
Fixed (non-current) assets have a life of use longer than one year. Current
(short-term) assets have a life of use shorter than one year. Liabilities are probably
future sacrifices of achieving economic benefits. A liability is a present obligati-
on 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
(Framework).
46
There is a narrow link between occurrence of expense and acquisition, but it does not have to
coincide necessarily. So, when a legal entity has expenses, that can provide evidences that future
economic benefits were demanded, but that is not final evidence that an object is acquired which
satisfies definition of assets. Similar to this, lack of the expense does not prevent an item to
satisfy a definition of assets and thereby becomes a candidate for recognition in balance sheet.
For example, items that were given to a company as a gift can satisfy a definition of assets.
54
Liabilities are classified as non-current (long-term) – due for the period longer
than a year and short-term (current) – due for the period of one year.
Value of a liability indicates to a balance sheet user which part of total assets is
not his own, i.e. which needs to be returned or paid.
According to IAS 1 – Presentation of Financial Statements, items from 66-76,
of a legal entity, which make reports in accordance with IFRS, in presentation of
balance sheet have a choice among alternatives:
 to separately present non-current and current assets and liabilities – a criteria

of life of use and maturity, or
 if a criteria of useful life for assets, or maturity is not adopted for liabilities,
assets and liabilities should be more thoroughly presented with the aim of
liquidity assessment.
If presentation is not performed in line with useful life, then current assets com-
prise the following positions (IAS 1, item 66):
 if it is expected to be realized or there is an intention to sell or use in its regu-

lar business cycle of a legal entity;
 if it is kept primarily with the aim to be traded;
 if it is expected to be realized within twelve months following reporting
period, or
 is cash or cash equivalent (as defined in IAS 7), unless a possibility for
exchange or use of assets for settlement of liabilities is limited in the period
of at least twelve months after reporting period.
All other assets should be classified as non-current, i.e. fixed.

Current liabilities comprise the following positions , if they fulfill some of the
following criteria (IAS 1, item 69):
 it is expected they will be settled during a regular business cycle of a legal

entity;
 are created primarily in trading process;
 are due for settlement within a period of twelve months after the end of a
period, or;
 legal entity does not have unconditional right to delay settlement of liabili-
ties for at least twelve months after reporting date.
All other liabilities should be classified as non-current, i.e. long-term liabilities.

Equity (principal) is the residual interest in the assets of the entity after deducting
all its liabilities (Framework).
55
6.1. ASSETS
6.1.1. Fixed assets
6.1.1.1. Fixed intangible assets
 Goodwill as a specific intangible asset can occur in business combinations,

i.e. acquiring control of one legal entity acquirer over one or more legal enti-
ties. Goodwill is initially valued as a positive difference between acquisition
cost and acquirer’s share in net fair value of recognizable assets, liabilities
and contingent liabilities of acquired legal entity. Goodwill as a fixed intan-
gible asset is elaborated in IFRS 3 – Business Combinations and IAS 36 –
Impairment of Assets. Therefore, a goodwill acquired in business merger is
not liable to depreciation. Instead, an acquirer will test goodwill on impair-
ment once a year, and even more often if events or changed circumstances
refer to a possible loss of value of a goodwill in accordance with IAS 36 –
Impairment of Assets, (IFRS 3, item 54 and B 63);
 patents, licenses and trademarks;
 development expenses – capitalized development expenses in accordance
with item 57, IAS 38 – Intangible assets;
 computer programmes(software);
 concessions and other assets;
 fixed intangible assets in preparation;
 advances for fixed intangible assets;
 other intangible fixed assets.
Fixed intangible assets are non-financial assets without physical features and
can be identified. Apart from this, in order for some asset to be recognized as in-
tangible fixed asset in balance sheet, it is necessary that a company controls reso-
urces from which future economic benefits, which can be ascribed to an asset, will
be flowing into a company, and that acquisition cost of such asset can be reliably
measured. Fixed intangible asset should be identified in order to be clearly diffe-
rentiated from a goodwill (IAS 38, item 11).
Fixed intangible assets should be depreciated with the best assessment of their
useful working life which, according to IAS 38 should not exceed 20 years, unless
there are convincing evidences for otherwise. IAS 38 in item 69 explicitly says that
expenses of initial activities (beginning of business operation costs) are recognized
as an expense, as new fixed intangible asset has not been created. Therefore, foun-
dation expenses, according to the provisions of IAS 38 cannot be recognized as a
property item in balance sheet.
56
6.1.1.2. Fixed tangible assets
Fixed tangible assets encompass:
 land;
 construction buildings;
 plants and equipment (machinery);
 tools, plant and office furniture and transport means;
 property, plants and equipment in preparation;
 residential buildings and apartments;
 advances for property, plants and equipment;
 biological assets;
 other fixed tangible assets;
 investments in property – investment property.
Fixed tangible assets in line with IFRS and IAS should be classified as:
– Fixed tangible assets in full ownership of a company which an owner uses

in production of products, shipment of goods, for various services or for
administrative purposes. Those are actually property, plants and equi-
pment regulated in accounting terms by IAS 16 – Property, Plants and
Equipment.
– Investment into a property for lease purposes in accordance with the provisi-
ons of IAS 40 – Investment in Property.
– Property, plants and equipment which a company acquired through a financi-
al lease (except for property for lease in accordance with IAS 40) according
to the provisions of IAS 17 – Lease. (It is entered into books in a group
together with assets, which are in the ownership, but items are separately
disclosed in line with item 31 and item 47 of IAS 17 – Leases).
– Fixed tangible assets held for sale and discontinued business operations
according to IFRS 5 – Fixed assets held for sale and discontinued operations.
– Biological assets related to agricultural activities - IAS 41.
– Agriculture.
– Land and forests are a specific type of fixed tangible assets, i.e., those are a
kind of natural treasures, which are in that part in which they represent assets
with unlimited useful life and are not liable to depreciation.
– individual parts of property, plants and equipment that fulfill requirements of
recognition in an asset should be initially measured per acquisition cost, i.e.
acquisition (IAS 16, item 15).
– amount which is depreciated is an acquisition cost of an asset or other amo-
unt which replaces it, reduced by residual value.
57
– Depreciation is a systemic allocation of the amount, which is depreciated
during its useful life.
Useful life of use is:
 period in which it is expected that a company shall use an asset, or

 number of products or similar units for which there is expectation that a com-
pany shall realize from that asset.
Biological assets – plants, living animals and forests in accordance with IAS
41 – Agriculture.
At initial recognition, and on each date of balance sheet, biological assets (pro-
perty) are valued at fair value deducted by an estimated sale costs. If a fair value
cannot be reliably measured, biological asset is valued at acquisition cost with the
depreciation calculation and testing on decreased values.
”Investment in property” according to IAS 40, item 5, represents a category
of fixed assets, which are presented in balance sheet as a separate item. Those are
assets comprised of land, or buildings, or both.
A company keeps them in:
– ownership or lease for the following reasons:
o to earn on lease of those property, or
o to increase the value of those property, or
o for both of the aforementioned.
Investment in property is initially measured at an investment cost.

Transaction costs are also included in acquisition value (IAS 40, item 20). If a
property is purchased, acquisition costs include a selling price, as well as all direct
costs related to the acquisition.
6.1.1.3. Long- term financial assets
Long-term financial assets represent investments with the aim of achieving futu-
re economic benefits, which are most often occurred in a form of profit or interests,
or certain indirect benefits, as it is a case with mandatory long-term investments.
In this case, period of return on investment is expected within a period longer than
one year.
Positions of long-term financial assets, definition, recognition and valuation
(measurement) are regulated with IAS 32 – Financial Instruments: Disclosure and
Presentation, IAS 39-Financial Instruments: Recognition and Measurement and
IFRS 7-Financial Instruments - Disclosure.
58
Long-term financial assets are:
 long-term financial placement

 long-term receivables
 deferred tax assets and long-term accruals.
6.1.1.4. Fixed assets as assets held for sale
Non-current assets held for sale and assets on which operations are discontinued
are elaborated in International Financial Reporting Standard 5 – Non-current assets
held for sale and discontinued operations.
Legal entity shall classify non-current assets (or a group for disposal) as an asset
held for sale if their carrying amount is mainly compensated through sale transac-
tion, and not with continuous use (item 6, IFRS 5).
According to the International Accounting Standard 1- Presentation of Financial
Statements, item 54 and International Financial Reporting Standard 5 – Non-cu-
rrent assets held for sale and discontinued operations, item 3 in non-current assets
held for sale, include the following types of non-current assets:
 intangible assets,
 tangible assets and
 financial long-term assets.
A legal entity shall not classify non-current assets (or a group for disposal) as an
asset held for sale if they are intended for write off (item 13, IFRS 5).
A legal entity shall not calculate non-current assets, which are currently out of
use if they were written off (item 14, IFRS 5).
Non-current assets classified for sale (or a group for disposal) are measured at
the carrying amount or at the fair value deducted by sale costs, depending on what
is the lower value (item 15, IFRS 5).
After non-current assets are classified for sale, a legal entity shall not do the
depreciation, and assets are subsequently measured at the fair value reduced by
sale costs.
Non-current assets which are classified for sale should be separately disclo-
sed in the balance sheet, and results of discontinued operations should be disc-
losed separately in the income statement. Main types of assets and liabilities
should be separately disclosed either on the front page or in the notes (item 38,
IFRS 5).
59
6.1.2. Current assets
6.1.2.1. Current tangible assets
Raw materials and material (basic and support material, semi-products, spare
parts, fuel and oil, small tools and inventory and parts originating from written off
non-current assets).
Production: non-finalized production at production spots; own semi-products
and parts held for production and wastage held for further production.
Products: objects which, from an aspect of legal entity are intended for sale.
Goods: objects, which a legal entity acquired and intended for sale.
Current tangible assets can be:

a) on stock: objects from current assets on stock;
b) in preparation: material and small inventory issued to processing or manipu-
lation, as well as semi-products and parts intended for further production;
c) in use: balance of production in progress and small inventory in use;
d) on the way: objects purchased from suppliers which have not yet reached a
legal entity, as well as objects that got out from a warehouse, and which have
not yet been taken over by a customer.
6.1.2.2. Cash, short-term receivables, short-term placements include:
 cash and cash equivalents;

 receivables from sale;
 receivables from specific activities;
 other short-term receivables;
 short-term financial placements;
 prepayments and accrued income
 receivables for value added tax – input tax;
 loss above the amount of equity.
6.2. LIABILITIES
6.2.1. Current liabilities

Current liabilities are:
 short-term financial liabilities;
 liabilities from operations;
60
 liabilities from specific activities
 liabilities related to salaries, fees and other income of employees;
 other liabilities;
 liabilities for VAT;
 liabilities for other taxes, contributions and other liabilities;
 accruals and deferred income.
6.2.2. Non-current (long-term) liabilities
Non-current (long-term) liabilities are:

 long-term liabilities;
 long-term accruals, provisions and deferred tax liabilities;
 long-term liabilities classified in a group with assets held for sale or disposal.
The main feature of a liability is its existence in the current period. It is nece-
ssary to make a distinction between the current and future liability. Decision of a
management of a legal entity to acquire an asset in future does not mean by itself
incurrence of a current liability. A liability occurs once an asset is delivered or
when a legal entity makes irrevocable agreement on acquisition of assets.
6.3 EQUITY
Equity implies the following:
- original equity,
- subscribed unpaid equity,
- reserves,
- revaluation reserves and unrealized gains and losses,
- accumulated profit,
- loss to the amount of equity,
- purchased own shares and stakes.
In American accounting theory and practice, retained earning is used in terms

of non-allocated profit.
Elements directly related to the measurement (valuation) of financial position of
a legal entity – company can be written down in a form of an accounting equation:
Assets = liabilities + initial equity + retained earning
61
7. ELEMENTS OF BUSINES OPERATIONS
PERFORMANCE
Elements, that is, components of a balance sheet, income statement directly related
to the measurement (valuation) of performance of operations of a legal entity are:
 Revenues are an increase of economic benefits during an accounting period
in a form of inflow or increase of assets or decrease of liabilities, which leads
to an increase of equity, except for those connected with payments of equity
participants. Revenues encompass revenues from a regular activity of a legal
entity and gains (Framework).
 Expenses are a decrease of economic benefit during the accounting period in
a form of outflow or decrease of assets or creation of liabilities, which leads
to decrease of equity, accept for those, which are linked with the allocation
of participants in equity. Expenses encompass expenses, which arise from a
regular activity of a legal entity and losses. (Framework).
 Profit is frequently used as a measure of performance or as the basis for
other measures, such as return on investment or earnings per share (Frame-
work, item 69).
 Profit is defined as a positive difference between a sum of revenues and sum
of expenses of a legal entity within an accounting period.
 Loss is a negative difference between a sum of revenue and sum of expenses
of a legal entity in the accounting period and is covered in accordance with
the Law.
Accounting profit is either profit or loss of a period before deducting a tax expense.
Therefore, elements directly linked with measuring performance of operations
are revenues and expenses.
Dividends are income from investing in shares. It is usual that they are paid out
to shareholders in cash on the basis of profitable business operations. In American
accounting theory and practice, payment of cash dividends to shareholders is ente-
red into accounting records at the account of retained earnings.
We can present elements of measuring a financial position and performance of
operations of a legal entity on the basis of extended accounting equation:
62
Example: Effect of ordinary business transactions on the accounting equation47
1. James and John Shanon are opening Real estate agency named Shanon property,
they are submitting an application and contract on foundation and getting an
approval. In order to resume their activities on 1st December of current year, they
invested in Shanon property 50 000 in return for 5 000 shares with nominal value
of 10 per share.
Business transactions after foundation:

2. After they found a location, a company is buying land and a small building.
Expense of land purchase amounted to 10 000, and building amounted to 25 000
and all was paid in cash.
3. A company buys at deferred payment, office supplies in the amount of 500.
4. A company settled a part of liabilities in cash, the amount of 200 (reference,
transaction 3).
5. A company sold a house to a client and at the account of service of sale of pro-
perty got the commission (fair value) in cash 1 500.
6. A company sold a house to some other client. Negotiated commission amounts
to 2 000 (fair value) and an invoice was submitted to a client.
7. Few days later, a company charges a client on the basis of invoiced commission,
1 000 (reference transaction 6).
8. A company leased equipment for office and pays expense for lease 1 000 in cash.
9. A company temporarily engaged a worker as an assistance and cost of salary was
assessed to 400, which represents an expense paid in cash.
10. A company receives an invoice 300, an expense of electricity for December of a
current year.
11. Dividend was disclosed in the amount of 600 and was paid by withdrawing funds
from a bank account of a company and payment to shareholders cash dividends
because of an investment to their private accounts.
Solution:
1) Foundation of a company
Assets = Private equity

Type of transaction
1. Gyro account Original equity
Shareholders investment
50 000 = 50 000 (5 000 × 10)
Foundation of a company. Opening balance sheet of a company. Assets are equal to

private equity.
47
63
2) Purchase of assets for cash:

Gyro account land buildings = Original capital Types of transaction
Balance 50 000
2. – 35 000 +10 000 +25 000 = 50 000 Purchase for cash
Balancedo 15 000 10 000 25 000 = 50 000
50 000 = 50 000
A transaction does not change total assets, liabilities or equity of a company, but
it does change the value structure in a way that cash in gyro account is reduced by
35 000, and a new item of assets, land and buildings occurred, for the same amount.
Both sides of an accounting equation remained in the same value amount.
3) Purchase of assets on deferred payment:
Assets = Liabilities + Private equity

office
Gyro account land buildings = Suppliers Equity Trans. type
supplies
Balance Liability
15 000 10 000 25 000 = 50 000
3. occurrence
+ 500 = + 500
Balance 15 000 500 10 000 25 000 = 500 50 000
50 500 = 50 500
A transaction increases assets, but also increases liabilities. Both sides of an

accounting equation were increased by the same amount of 500.
This transaction is recorded in the account of inventories of office supplies and
in the account of suppliers.
4) Liability payment:
Assets = Liabilities + Private equity

office
Gyro account land buildings = Suppliers Equity Trans. type
supplies
Balance
15 000 500 10 000 25 000 = 500 50 000
4.
liability
– 200 – 200
payment
Balance 14 800 500 10 000 25 000 = 300 50 000
50 300 = 50 300
64
Transaction had an effect on the accounting equation, so cash in gyro account
was reduced by 200, but also reduced liabilities by the same amount.
Both sides of accounting equation are equal, although now total amount is 50 300.
5) Revenues:
Assets = Liabilities + Equity
Gyro office Equity Trans.

land buildings = Suppliers retained
account supplies earning type
Balance
14 800 500 10 000 25 000 = 300 50 000
5.
earned
+1 500 +1 500
commiss
Balance 16 300 500 10 000 25 000 = 300 50 000 1 500
51 800 = 51 800
A company for trading real estates realizes revenues through a negotiated com-
mission in selling property to its clients. Depending on a case, that is, agreements, com-
mission is immediately paid in cash, and in some cases client agrees to pay commission
later. In either case, a commission which represents a revenue is recorded once it’s paid, that
is, when the revenues are earned, as it is the case in this transaction which increas-
es cash in gyro account, but also “generates revenues”, so the equity is increased
(retained earning).
6) Revenues:
Gyro office Equity retained Types of

supplies land buildings = Suppliers
account claims earning earning transac.
Balance
16 300 500 10 000 25 000 = 300 50 000 1 500
6.
earned
2 000 +2 000
commiss
Balance 16 300 2 000 10 000 25 000 = 300 50 000 3 500
53 800 = 53 800
Since the revenue was generated with the moment of invoice submission for
commission to client, at the account of house sale, this profitable transaction is recorded
in a manner that claims occur, i.e. increase of assets and increase of equity (retained earning).
Both sides of an accounting equation increased by the same amount (2 000) and
now amount to 53 800.
65
7) Collection of claims:
Gyro Office Original retained Types of

land buildings = Suppliers
account claims supplies Equity earning transac.
Balance
16 300 2 000 500 10 000 25 000 = 300 50 000 3 500
7.
collect of
+1 000 – 1 000
claims
Balance 17 300 1 000 500 10 000 25 000 = 300 50 000 3 500
53 800 = 53 800
With the collection of claims for the commission, cash in gyro account is
increased by 1 000, but also the amount of claims is reduced for the same amount. Therefore,
the value structure of of assets has changed. Thus, the aforementioned transaction does
not affect equity of a company, since the revenue from commission was already
recorded in transaction 6.
8) and 9) Expenses

claims land buildings = Suppliers
account supplies equity earning transac.
Balance 17 300 1 000 500 10 000 25 000 = 300 50 000 3 500 expenses
8. – 1 000 – 1 000
9. – 400 – 400
Balance 15 900 1 000 500 10 000 25 000 = 300 50 000 2 100
52 400 = 52 400
Revenues are recorded once they are earned, and expenses once they occur.
Expenses may be paid in cash at the moment of their occurrence, and in some cases,
upon agreement, even later. Transactions 8 and 9 reduce cash in gyro account,
but also private equity (retained earning). Thus, expenses (rents andsalaries),
reduce equity. Both sides of an accounting equation reduced by the same
amount.
66
10) Expenses:

Balance 15 900 1 000 500 10 000 25 000 = 300 50 000 2 100 Expens
for
10. – 1 000 + 300 – 300 electricity
Balance 15 900 1 000 500 10 000 25 000 = 600 50 000 1 800
52 400 = 52 400
Transaction had an effect on the accounting equation, so there was an increase of

liabilities, and an expense for electricity reduced private equity (retained earning).
11) Dividends

Balance 15 900 1 000 500 10 000 25 000 = 600 50 000 1 800 Disclosed
and paid
10. – 600 + 300 – 600 dividends
Balance 15 300 1 000 500 10 000 25 000 = 600 50 000 1 200
51 800 = 51 800
Payment of dividends reduces cash in gyro account and equity of a company

(retained earning).
We present a balance sheet and income statement from which we can see that the
previous records were correctly conducted. We see that from balance sheet in which
a sum of assets is 51 800, and presented liabilities and equity 51 800.
Thus, there is always a balance of an accounting equation.
67
68
Three types of transactions have an effect on retained earning48: revenues,
expenses and dividends, and we illustrate it in the following way:
1. Which elements are directly linked with the measurement of financial position of
a legal entity?
2. Explain definition of assets, liabilities and equity.
3. What are the criteria of classification of assets and liabilities?
4. List correct classification of intangible and tangible non-current assets.
5. Explain a correct classification of long-term financial assets.
6. What is the correct structure of private equity?
7. Corporation Arnold Smith,s has assets 22 000 and liabilities 10 000. On the
basis of an accounting equation calculate the amount of private equity.
8. Which elements are directly linked with the measurement of financial perfor-
mance of a legal entity?
9. What is the correct definition of revenues and expenses, profit or losses.
10. Provide two examples of transactions:
a) increase of assets and
b) decrease of assets.
48
69
CHAPTER THREE
ACCOUNTING PRINCIPLES AND

STANDARDS AS FRAMEWORK OF
FAIR FINANCIAL REPORTING
Study objectives
1. Explanation of the essence and objectives of American Generally

Accepted Accounting Principles.
2. Global study of International Financial Reporting Standards (IFRS)
which encompass International Accounting Standards (IAS).
8. ACCOUNTING PRINCIPLES
AND STANDARDS AS FRAMEWORK
OF FAIR FINANCIAL REPORTING
Accounting assumptions and principles determine the basic characteristics and

concepts of accounting that should be embodied into the accounting methods and
procedures, in order to ensure the required quality of outward information from
accounting processes. Certainly, in context of such information, the most important
place belongs to the financial statements under which we normally imply balance
sheet, income statement, report on all changes in owners equity, report on cash
flows and records with financial statements. Such financial statements provide a
number of various information for different users. Information provided in financi-
al statements should be: relevant, reliable, comparable and understandable.49 The-
refore, in context of ensuring a satisfactory level of quality of financial reporting,
a significant attention should be paid to the rules of preparation and presentation
of financial statements, i.e. rules contained and defined in Framework of Financial
Reporting. Thus, it is usual that most attention is paid to the accounting assumpti-
ons and accounting principles.
Worldwide, the most known and the most recognizable is a system of Ameri-
can accounting principles which acquired a status of generally accepted accounting
principles (GAAP)50.
They represent general rules used as a “guidelines in valuation, recording and
reporting on business activities”51. On the other hand, “they represent procedures
necessary for close studying and defining of accepted accounting practice in some
period”52. Systems of generally accepted principles are composed of:
49
International Financial Reporting Standards (IFRS) and International Accounting Standards
(IAS), Association of Accountants, Auditors and Financial Officers of FBIH, Mostar, 2011 (trans-
lation).
50
Need for determining and respecting accounting principles occurred in 30s when New York Stock
Exchange collapsed. Due to a lack of unified rules, financial statements were not compiled on
the same basis, thus, they were neither reliable nor comparable. Following this, according to the
recommendation of the expert association, all companies / joint-stock companies whose securities
were quoted at the stock exchange had to prepare financial statements in line with the determined
accounting principles.
51
K. D. Larson – W. W. Pyle, Fundamental Accounting Principles, Irwin, Homewood, Illionis,
1988, pg. 24.
52
J. L. Smith – R. m. Keith – W. L. Stephens, Financial Accounting, McGraw Hill Book Company,
New York, 1988, pg. 438.
73
– generally accepted concepts,
– generally accepted principles and
– generally accepted procedures53.
Generally accepted concepts represent certain assumptions, that is, theoretical

conditions for interpretation of financial statements, while generally accepted prin-
ciples assist in valuation, recording and reporting on business activities. In generally
accepted accounting concepts, we include the following accounting assumptions:
– business entity concept,
– continuity concept or continuing-concern concept,
– stable-dollar concept and
– time-period concept.
Generally accepted accounting principles include the following:

– acquisition cost principle,
– objectivity principle,
– realization principle,
– matching principle,
– materiality principle,
– full-disclosure principle,
– consistency principle and
– conservatism principle.
Generally accepted procedures are different methods of data processing for

obtaining accounting information and accounting reporting.
8.1. GENERALLY ACCEPTED CONCEPTS

One of the most important accounting assumptions relates to the subjectivity of
a legal entity as a separate entity. In that respect, we talk about a concept of legal
entity, according to which it implies that manufacturing, trade or service company
is a separate entity independent from other companies or owners. This means that a
legal entity when reporting on financial position and performance of operations in
the financial statements includes only those transactions that relate to the business
operations of a particular legal entity, independently from personal transactions of
owners or their own property, and regardless of other legal entities.
53
K. D. Larson – W. W. pyle, Fundamental Accounting Principles, quoted, pg. 13.
74
Therefore, revenues, cost and expenses are applied on a legal entity and not on
owners.
Business continuity concept
The accountant assumes when preparing financial statements for any legal enti-
ty, that a legal entity shall continue business operations in foreseeable future. This
assumption is contrary to the liquidation of a legal entity.
Stable currency concept, i.e. stable monetary unit, starts from an assumption
that a purchasing power of monetary unit does not change over the time.
It is assumed that a monetary unit is the best measure of business transactions.
Thus, only those transactions that can be measured in money are recorded. Finan-
cial statements are prepared for a certain period of time (one business year), which
means that in case of inflation/deflation, economic categories are not valued with
the monetary units of the same value within a certain period of time.
If a change of monetary unit occurs, positions of financial statements presen-
ted at the historical values shall be either appreciated or depreciated. Taking into
account the stable currency concept it is necessary to conduct adjustment, that is
revaluation (to repeat an assessment) of reporting positions with which they are
brought down to real money values. In doing a revaluation, it is necessary to take
into account specific features of some countries, and various methods can be used,
which are regulated by the Law or accounting standards. It is necessary to present
revaluation effects in basic or supplementary financial statements.
Time-period concept, i.e. of certain period, is attached to the continuity con-
cept or unlimited operations and this concept requires periodic reporting within a
certain reporting period. This can be one business (calendar) year, quarter, month,
decade, etc. Normally, for external users of financial statements, reporting period
is one year. In order for the accounting information to be used in decision-ma-
king process, for internal users, reporting in shorter reporting periods is necessary
(month, decade), in order to ensure relevant, prompt and actual information for the
management needs.
8.2. GENERALLY ACCEPTED ACOUNTING PRINCIPLES

Accounting principles are basic rules used by legal entities in presentation of
financial information.
Historical cost principle requires that business events are initially valued at the
historical cost, that is, acquisition value. Base for determining acquisition value is
a real financial expense, which occurred or will occur as a result of paying liability
75
when acquiring some asset. In line with this principle, when consuming assets,
acquisition value is allocated to such accounting periods in which benefits are rea-
lized from an expense for acquisition of assets.
Objectivity principle. Financial statements of legal entities, obtained on the
basis of business books, must be documented and in this respect, this principle is
linked with the historical cost principle.
Opposite to the requirements arising from historical cost principle and docu-
mentary principle in modern understanding of accounting, a lot of attention is paid
to the fair value, which is not based on actual costs and objective bookkeeping
documentation.
Realization principle, i.e. revenue acquisition
It is linked with the occurrence of business event and revenue recognition. Prac-
tically, revenue shall be entered into books on the basis of submitted invoice to the
purchasers, regardless of the fact that payment will follow later. Thus, for revenue
recognition, event principle is valid, and not cash principle. In sale for cash, reve-
nue shall be entered into books on the basis of collected cash. In recognizing reve-
nues, the following should be taken into consideration:
 that a product is indeed delivered to a purchaser, i.e. that some service was
provided,
 that ownership and risk transferred to the purchaser,
 that sale can be measured in values, and
 that there is no payment uncertainty.
Expenses are recognized at the moment of their occurrence regardless of whet-

her they are paid. Together with the acquisition principle, that is, revenue recogni-
tion normally is also linked matching principle of revenues and expenses, which
is linked to determining financial results of business operations. Since business
operations result is determined as a difference between revenues and expenses, it is
necessary, in calculation of results, to match, that is compare revenues and expen-
ses that caused them.
Principle of materiality or importance
This principle implies a relative importance of data. With the capability of jud-
ging, rather than with rigid rules of accountants, a decision is made whether acco-
unting information is more or less important. Full disclosure principle is closely
linked to this principle, which requires that financial statements contain all the rele-
vant information, necessary for the assessment of company operations.
76
Consistency principle
Requires a consistent application of adopted rules and procedures when compi-

ling and presenting financial statements. Therefore, consistent application of acco-
unting policies is a pre-condition of the true and fair preparation and presentation
of financial statements and represent basis of comparability of financial statements
during several reporting periods.
Conservation principle
Current theory advocates that, in cases where data are unclear and contradictory,
an accountant should decide to go rather for a lower value than higher value.
77
9. INTERNATIONAL FINANCIAL
REPORTING STANDARDS (IFRS)
INCLUDING INTERNATIONAL
ACCOUNTING STANDARDS (IAS)
With the aim of harmonizing accounting regulations at the international level, In-
ternational Accounting Standards – IAS were created.
With the aim of engaging an economy into world economic trends, amongst
other, also through harmonization of accounting regulation, appropriate accounting
regulation in a form of Code of Accounting Principles and Accounting Standards
of FBiH (“Official Gazette of the Federation of BiH”, No. 5/95; Official Gazette
of FBiH”, no. 50/98), in general, based on international accounting regulation, was
prepared and adopted. Some countries (eg. Slovenia, Czech Republic, Slovakia,
Turkey, Ireland, etc.) have their own national standards, based on IAS. Possible
application of International Accounting Standards is creation of national standards,
which contain reports on how these standards are harmonized with IAS. Such solu-
tions exist for example in Australia, Italy, Denmark, Hong Kong and other. Unlike
these, so far mentioned solutions, in some (developed) countries, for example, Au-
stria, Belgium, Canada, Finland, Germany, Japan, Luxembourg, Sweden, United
Kingdom and USA, develop their national standards regardless of international
accounting standards.54
Namely, in 2004 International Financial Reporting Standards (IFRS) commen-
ced developing.
Therefore, the Law on Accounting and Audit (“Official Gazette of FBIH”, no.
83/09) prescribes an obligation for all legal entities in preparing and presenting
financial statements, to apply accounting standards, which include:
1. International Accounting Standards (IAS) and International Financial Re-

porting Standards (IFRS);
2. (Accompanying instructions, explanations and guidelines adopted by the
Committee for International Accounting Standards ( ISAB).
International Standards Accounting Board (ISAB) was founded in 2001 in Lon-

don, and it succeeded International Standards Accounting Committee (ISAC), fo-
unded on 29 June 1973 with the contract signed by 10 national committees (Austra-
54
National solutions of the mentioned countries, especially USA, have a significant impact on devel-
opment of international accounting standards.
78
lia, Canada, France, Germany, Japan, Mexico, Netherlands, Great Britain, Ireland
and USA).
Objectives of ISAB:
a) to develop for the public interest a group of highly qualitative, understanda-
ble and globally enforced accounting standards that will be used in presen-
ting financial statements worldwide;
b) to objectively work on improving and harmonizing regulation, accounting
standards and procedures related to the presentation of financial statements.
Standards issued and adopted by ISAB are listed in the following two groups:
– new group of International Financial Reporting Standards now numbered
from IFRS 1 to IFRS 8;
– a group of International Accounting Standards issued by the International
Standards Accounting Committee (ISAC) and adopted or amended by the
International Standards Accounting Board (ISAB). They are numbered from
IAS 1 to IAS 41 and kept the form applied by ISAC.
Therefore, IFRS have developed totally new standards, but also include interna-
tional accounting standards.
The following IFRS were adopted:
IFRS 1 First application of International Financial Reporting Standards

IFRS 2 Share-based payment
IFRS 3 Business combinations
IFRS 4 Insurance contracts
IFRS 5 Non-current assets held for sale and discontinued operations
IFRS 6 Exploration for and evaluation of mineral resources
IFRS 7 Financial instruments: Disclosures
IFRS 8 Operating segments
The following International Accounting Standards are included in IFRS:
IAS 1 Presentation of financial statements

IAS 2 Inventories
IAS 7 Statement of cash flows
79
IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors
IAS 10 Events after the Reporting Period
IAS 11 Construction Contracts
IAS 12 Income Tax
IAS 14 Segment reporting
IAS 16 Property, Plant and Equipment
IAS 17 Leases
IAS 18 Revenue
IAS 19 Employee Benefits
Accounting for Government Grants and Disclosure of
IAS 20
Government Assistance
IAS 21 The effects of changes in foreign exchange rates
IAS 23 Borrowing costs
IAS 24 Related Party Disclosures
IAS 26 Accounting and Reporting by Retirement Benefit Plans
IAS 27 Consolidated and separate financial statements
IAS 28 Investments in Associates
IAS 29 Financial Reporting in Hyperinflationary Economies
Disclosures in the Financial Statements of banks and Similar
IAS 30
Financial Institutions
IAS 31 Interests in Joint Ventures
IAS 32 Financial Instruments: Disclosure and Presentation
IAS 33 Earnings per Share
IAS 34 Interim Financial Reporting
IAS 36 Impairment of Assets
IAS 37 Provisions, Contingent Liabilities and Contingent Assets
IAS 38 Intangible assets
IAS 39 Financial Instruments: Recognition and Measurement
IAS 40 Investment Property
IAS 41 Agriculture
80
Accounting principles
Accounting principles set out a concept of accounting and develop its basic cha-
racteristics, and form basis for accounting policy. Accounting principles are often
referred to as assumptions or concepts and are provided in the Framework. These
principles are further elaborated in IAS 1.
Valid significant assumptions of financial statements according to the Fra-

mework, are:
Event occurrence. According to this principle, effects of transactions and ot-
her events are recognized when they occur (and not when a cash flow occurred).
These effects are recorded and presented in financial statements of a period they
related to.
Continuous operations concept. It is assumed that a company shall continue
operating in a feasible future. Qualitative characteristics are the attributes that make
the information provided in financial reports useful to users.
Understandability. Information must be understandable to the users who have
reasonable knowledge of business and economic activities accounting and willin-
gness to study the information with reasonable diligence.
Relevance. Relevant information influences economic decisions of users by
helping them evaluate past, present or future events or confirming, or correcting,
their past evaluations. The relevance of information is affected by its nature and
materiality.
Materiality. Information is material if its omission or misstatement could in-
fluence the economic decisions of users taken on the basis of financial statements.
Reliability. Information is reliable when it is free from material error and bias,
and its characteristics are:
 faithful representation – To be reliable, information must represent faith-

fully the transactions. Thus, for example, a balance sheet should represent
faithfully the transaction that result in assets, liabilities and equity of the
entity at the reporting date, which meet the recognition criteria;
 Substance Over Form – if information is to represent faithfully the transac-
tions and other events that it purports to represent, it is necessary that they
are accounted for and presented in accordance with their substance and eco-
nomic reality and not merely their legal form;
 Neutrality – to be reliable, the information contained in financial reports
must be neutral, free from bias;
 Prudence – the exercise of prudence does not allow, the creation of hidden
reserves or excessive provisions, the deliberate understatement of assets or
income, or the deliberate overstatement of liabilities or expenses, because
81
the financial report would not be neutral and, therefore, not have the quality
of reliability;
 completeness – to be reliable, the information in financial reports must be
complete within the bounds of materiality and cost. An omission can cause
information to be false or misleading and thus unreliable and deficient in
terms of its relevance.
 Comparability – information need to be presented consistently through time,
so that users can make comparisons.
There are following constraints on relevant and reliable information:
Timelines. Delay in reporting may result in loss of relevance, but improves

reliability of information.
Balance between benefit and cost. The benefits derived from information sho-
uld exceed the cost of providing it.
Balance between Qualitative Characteristics. The aim is to achieve an appro-
priate balance among the characteristics in order to meet the objective of financial
reports.
The application of the principal qualitative characteristics and appropriate acco-

unting standards normally results in financial reports that convey fair presentation.
Fair presentation is achieved by presenting useful information (full disclosure)

in financial statements, whereby transparency is provided. With the assumption
that fair presentation is the same as transparency, a second objective of financial
statement can be defined: provision of transparency through full disclosure and
provision of fair presentation of useful information for the purpose of making
decisions.
Balance between qualitative characteristics. This aim should achieve a ba-
lance among the characteristics in order to meet the objective of financial reports.
Accounting standards represent elaboration of accounting principles in terms
of method of inclusion and processing of accounting data, creation of accounting
information, presentation and preservation of data and information.
Accounting Policies
Accounting policies relate to accounting content of economic categories and

their interpretation and presentation. Accounting policies are principles, basis, con-
ventions, rules and procedures adopted by the management when preparing and
presenting financial statements. Adoption and application of accounting policies
are regulated in IAS 8 – Accounting Policies, Changes in Accounting Estimates
82
and Errors. A legal entity should adopt an accounting policy for all items in which
a selection of accounting policy significantly influences financial statements. In
general, a legal entity shall adopt accounting policies for the following items:
– calculation of depreciation,
– calculation method of inventory consumption,
– provisions, etc.
The management of the company makes selection with the full responsibility,
at the proposal of the accounting experts, with the responsibility of the accounting
managers. Principal financial statements must be based on the selected accounting
policies. Accounting policies must be disclosed. They shall not be changed from
one period to another, except for when legal regulations are changed, national or in-
ternational standards, and if a change would more significantly effect improvement
of quality of financial statements. Application is binding also for other policies of
some functions of companies. Internal and external factors influence the selection
of accounting policies.
The fact that financial statements are composed in line with IFRS and IAS must
be publicly disclosed; disclosure is necessary, as it is believed that such reports
possess a satisfactory level of financial reporting quality.
1) Explain the system of American Generally Accepted Accounting Principles.

2) What is the importance of International Financial Reporting Standards?
3) What are the accounting principles?
4) Explain significant accounting assumptions of financial statements.
5) What are the qualitative characteristics of accounting information of financial
statements?
6) What are the accounting policies?
83
CHAPTER FOUR
CONTENT OF BASIC FINANCIAL

STATEMENTS (BALANCE SHEET
AND INCOME STATEMENT)
Study objectives
1. Concept and content of a full set of financial statements

2. Balance sheet, concept, relevance and preparation of balance sheet
3. Valuation of balance positions and types of balance sheet
4. Income statement, concept, content and preparation of balance,
linkage between balance sheet and income statement
5. Components of income statement of service and trade legal entities
10. CONCEPT OF FINANCIAL STATEMENTS
Financial statements are a product of accounting, and they are intended for the
internal and external users. Financial statements represent a structural presentation
of financial position and financial performance of a legal entity. The objective of
financial statements is to provide information about the financial position, financial
performance and cash flows of an entity that is useful to a wide range of users in
making economic decisions. Financial statements also present the results of the
stewardship of management, or accountability of management for the resources
entrusted to it. To achieve those objectives, financial statements of a legal entity
should provide information on:
a) assets,
b) liabilities,
c) private equity,
d) revenues and expenses, including gains and losses
e) other changes in equity, and
f) cash flows (IAS 1 – Presentation of Financial Statements , item 9).
A full set of financial statements include:

a) balance sheet – statement on financial position at the end of period;
b) income statement – statement on a comprehensive profit of period;
c) statement on changes in equity during a period;
d) statement on cash flows during a period;
e) records, including a short review of accounting policies and other
explanations;
f) statement on financial position at the beginning of the latest comparable pe-
riod, if a legal entity applies some accounting policy retroactively or retro-
actively corrects items in its financial statements or if it re-classifies items in
its financial statements (IAS 1, item 10).
Each of the mentioned basic financial statements represents a certain unity,

amongst them there is a strong inter-connection as they are mutually connected,
and they are also mutually supplemented and provide quality data and information
to the users. Financial statements should be presented at least once a year. When
the end of the reporting period of a legal entity is changing and when financial sta-
tements are presented for the period longer or shorter than one year, a legal entity
should also disclose, apart from the period which the financial statements relate to,
the following:
87
a) reason for using longer, that is, shorter period and
b) the fact that amounts presented in financial statements are not fully compa-
rable (IAS 1, item 36).
Financial statements (except for information on cash flows) are composed in

accordance with the accounting basis of occurrence of the event. Therefore, book
event is a subject of inclusion in the accounting when the event occurred, and not
when the incoming or outgoing payment was done (exception is cash flow state-
ments). Apart from basic financial statements, which are predominantly focused on
external users, accounting as service-information sub-system provides data and in-
formation to the internal users. Namely, in market conditions of earning, operations
are taking place with a lot of risk, uncertainty and cruelness.
For the risk to be reduced to as small level as possible, qualitative accounting
information is needed.
Namely, management of a legal entity requires data on costs from a different
aspect, data and information at lower organizational units, and important functi-
ons of management are planning and control. This refers to the consideration for
the needed financial (accounting) statements, which are a product of managerial
accounting and cost accounting. These financial (accounting) statements are used
for internal economy, therefore, users are primarily managers. Volume, forms and
content of internally orientated financial statements are in the field of managers.
Therefore, these financial statements for internal needs are not prescribed by the
Law on Accounting and Audit or similar Laws, nor accounting standards. Those
statements are not intended for the external users, so there is no need for them to
be standardized. Further in text, we present basic financial statements which legal
entities are obliged to prepare, present and disclose.
10.1. BALANCE SHEET

In order for a legal entity to perform its activity, it is necessary that it possesses
certain property. Business events which influence the change in structure of assets,
liabilities, equity, expenses and revenues and results of performance are the subject
of records in bookkeeping, as already mentioned. In case that business events are
not recorded in the accounts of a general ledger, a balance sheet could be created
after each transaction. In that case a balance sheet would be created on the basis of
inventory of assets and liabilities, i.e. based on determination of their actual balan-
ce. The difference from them is equity or net assets of owner. It would be irrational
and non-economical to create a balance sheet after each business transaction, so
it is composed in longer period intervals, with a note that only current balance of
88
assets, liabilities and equity are entered into balance sheet.
Given the significance of balance sheet, many authors have dealt with balance
and balancing.
In that respect, dominant balance theories are static and dynamic theories. We
shall mention some definitions:
“Dynamic theory indicates that balance exists in each moment regardless

of whether it is or not created in some form.” According to the static theory
“in balance sheet, assets and sources are declared as aggregates, which con-
ditions that this balance is presented only in value indicators... A balance
sheet can be created at any time during business operations, but, in general, it
is composed at the beginning of business operations, that is, at the beginning
of the year and at the end of business year.”55
“Balance sheet represents an accounting disclosure of balance and struc-
ture of assets and its sources of observed subject in certain period of time,
i.e. on certain day, expressed in financial terms.”56
The origin of word balance is not exactly known. However, there is an assump-
tion that it originates from a Latin word “bi” – double, “lanx” – plate on scales57,
which should mark scales with two plates or from Italian word “bilansia”, mea-
ning scales. In this respect, scales is metaphor, which reflects equality or balance
between left and right side, i.e. between assets according to their appearance forms
and assets in accordance with their origin, that is, sources of assets.
Therefore, basic accounting equality (equation) when creating a balance, says:
ASSETS = LIABILITIES, i.e. ASSETS = SOURCES OF ASSETS, i.e.

ASSETS = EQUITY + LIABILITIES
For a reader to understand accounting equality (equation), meanings of both si-

des of balance must be fully understandable. They can be explained from two basic
points of view, in which both points of view are correct.
a) Point of view of resources and receivables58
Economic resources of an entity are referred to as assets. Receivables of a credi-

tor, i.e. all except for the owners of a legal entity, are referred to as liabilities. Rece-
55
Janko Klobucar, Accounting, Economics Faculty, Sarajevo, 2003, pg. 53.
56
Vinko Belak, Managerial accounting, Zagreb, 1995, pg. 19.
57
A. Bracković; O. Zejcirović; K. Krajisnik; m. Sinanagic, Bookkeeping 1, Sarajevo, 1973, pg. 13.
58
89
ivables of owners of a legal entity toward the assets are referred to as private equity
(owner’s principal). Items presented on the side of assets are economic resources
of a legal entity on the balance date. Liabilities and equity are receivables to the
assets of a legal entity on the balance date. Liabilities are receivables of external si-
des, that is, amounts that a legal entity owes to the banks, suppliers, employees and
other creditors. Private equity indicates receivables of owners. Therefore, there are
someone’s receivables on overall assets (either owners, or creditors), but, if total
sum of receivables cannot exceed assets over which there is receivable, respecting
business continuity of a legal entity, implies that there is always a balance sheet
balance: assets = private equity + liabilities, as already mentioned. This accounting
equality (equation) is a formal expression of concept of double observation of do-
uble entry bookkeeping.
Therefore, explanation of a balance sheet from the point of view of resources
and receivables is not precise enough, especially in the part of records on assets
“over which there are receivables”, is more legal, and has major effect in liquida-
tion of a legal entity which went bankrupt, and that is not in accordance with the
unlimited time concept. Therefore, we are of the opinion that the second way of
explanation of balance, that is, accounting equality is of more importance.
b) Concept of asstest and sources of assets
According to this concept, basic accounting equality is based on “concept of

double assets observation” in balance. Namely, in the balance, under assets, i.e.
conceptual form of assets, implies ASSETS, and assets according to the origin of
assets are LIABILITIES. “Such a statement is above all based on the fact that all
assets have its ownership origin. This focuses our opinion on the interpretation of
dynamic theory of balance, that balance sheet represents balance continuity and
dynamics, which is happening at the time of business operations of a legal entity,
that it exists at each moment, regardless of whether it is created in written form or
not. This implies that at each moment there is a balance equilibrium that the value
of assets is equal to the value of liabilities (in wide or narrow terms), which is
confirmed with the static theory, as, every time we create a balance, the previously
mentioned statement will be confirmed.”59
10.1.1. Principles of balance positions entry
In entering certain balance positions in the balance sheet, there are certain legal
issues. In creating a balance sheet, an order of entry of some balance positions de-
59
For further details, see: Jadranka Kapic, Doctorial..., quoted, pp. 6-38.
90
pends on the principles that we take into account in creating a balance sheet. So, we
have:
a) liquidity principle and
b) functionality principle.
Liquidity principle requires that in the assets of balance sheet, assets are entered
in line with their degree of converting into cash, i.e. a degree of their conversion of
other forms of assets into cash form. Degree of liquidity can have a double effect:
declining or growing, depending on whether we start from the most liquid asset
(cash) and then go toward the less liquid asset, or vice versa. In liabilities, positions
are entered in accordance with the maturity of liabilities. Here, also, we have two
approaches: first enter current (short-term) liabilities, then long—term liabilities,
and, at the end, equity, and vice versa can be applied, and start first by entering
equity, then current (short-term) liabilities. Functionality principle is opposite to
the liquidity principle, as non-current assets are first entered under assets (land,
construction buildings, equipment, etc.) inventories, so at the end the most liquid
assets, i.e. cash is entered. In the liabilities, equity is entered first, and then long-
term and, at the end, current (short-term) liabilities. Given the order of the balance
positions entry in the balance sheet, in general terms, we can say that there is an
Anglo Saxon type, i.e. American type of balance sheet and European type of ba-
lance sheet.
In America, balance positions are entered in the assets according to the princi-
ple of declining liquidity, and in liabilities, according to the principle of increasing
maturity. In Europe, balance positions are entered in the assets of balance sheet
according to the principle of increasing liquidity. Thus, the least liquid assets (non-
current assets) are first entered, and at the end the most liquid assets (cash). In the
liabilities of the balance sheet, balance positions are entered on the basis of decli-
ning maturity principle. Therefore, equity is entered first, and at the end of liabiliti-
es of balance sheet, there are current (short-term) liabilities. In accordance with the
IFRS, balance sheet is a systematic review, of assets, liabilities and equity on the
certain date, presented in the value indicators. Balance sheet provides information
on financial position of a legal entity. From the data presented in the balance sheet,
we can see a financial composition, liquidity, solvency, as well as a capacity of a le-
gal entity to adjust to the changes that occur in its environment. Therefore, balance
sheet represents basic background for analysis of financial position, identification
of weaknesses and deficiencies in business operations, as well as forecast of the
future business operations.
Before creation of balance sheet takes place, it is necessary to conduct inven-
tory, thus, the inventory of assets and liabilities. Inventory is conducted in order to
harmonize the book balance of assets and liabilities with the actual balance, with
the aim of creating of realistic and true balance. The balance is composed based on
91
the account of general ledger, which presents assets, liabilities and equity, and in
which (accounts) there is a balance.
At the end of a business year, the account of assets, liabilities and equity is
closed, and balance is determined. In this, we have to take into account that this
concerns the accounts of balance, i.e. accounts of assets (which have a payable
balance) and accounts of liabilities (they have a receivable balance). Determined
balance on the accounts of general ledger, which can be payable with the account
of assets and receivable with the account of equity and liabilities, is verified with
the inventory and is entered into the balance sheet as balance position. In this way,
balance in the accounts of assets, liabilities and equity are the positions of a closing
balance on 31st December of current year.
The aforementioned balance positions are basis for opening the account of ge-
neral ledger as of 1st January of the following year in terms of business continuity
and accounting principle of netting the balance positions. Thereby, the balance
represents a balance of continuity, which nets the balance of assets, liabilities and
equity of the previous year with the current year, in which it presents opening ba-
lance (balances) and at the end records of business operations in the current year
are added to it. Therefore, on the basis of the annual balance sheet on 31 December
of the current business year, i.e. opening balance on 1 January of the following
business year, opening of the general ledger account is performed, which, actu-
ally, represents classification of balance and opening balance in the following bu-
siness year. A balance, that is, balance sheet can be presented horizontally, i.e.
in the form of a double-sided account and vertical presentation, i.e. single-sided
account.
10.1.2. Preparation and content of balance sheet
We present a shortened form and content of balance sheet in accordance with the
positive legislation:
92
Company “X”
Balance sheet on 31 Dec. of the current year
PREVIOUS CURRENT
ACCOUNT DESCRIPTION
YEAR YEAR
ASSETS
A. NON-CURRENT ASSETS AND
850 800 972 000
LONG-TERM PLACEMENT
1. INTANGIBLE ASSETS 25 200 24 800
2. TANGIBLE ASSETS 710 400 823 000
3. FINANCIAL ASSETS 115 200 124 200
B. CURRENT ASSETS 376 000 441 514
1. MONEY 5 000 15 000
2. INVENTORIES 123 600 131 500
3. RECEIVABLES 93 400 128 614
4. SHORT-TERM FINANCIAL
PLACEMENTS 67 000 87 000
5. AKTIVNA VREMENSKA
RAZGRANIČENJA 87 000 79 400
C. LOSS ABOVE EQUITY
TOTAL ASSETS 1 226 800 1 413 514
OFF-BALANCE RECORDS – –
LIABILITIES (EQUITY AND IABILITIES)
A. EQUITY 732 390 925 514
SHAREHOLDER’S EQUITY 435 360 435 360
SHAREHOLDERS PREMIUM – –
REVALUATED AND TRANSFERRED
RESERVES – –
OTHER RESERVES 93 130 142 504
NON-ALLOCATED PROFIT 203 900 347 650
PREVIOUS YEARS LOSS – –
PURCHASED PRIVATE SHARES _ _
B. LIABILITIES
1. LONG-TERM LIABILITIES 214 300 183 000
2. CURRENT LIABILITIES 280 110 305 000
TOTAL LIABILITIES
1 226 800 1 413 514
(EQUITY AND LIABILITIES)
OFF-BALANCE RECORDS – –
Assets = Equity + Liabilities, followed by Equity = Assets – Liabilities
93
10.1.3. Problem of the valuation
of balance positions
Valuation as a problem can represent the most controversial issue of accoun-

ting.60 Thus, showing a balance sheet realistically is very difficult. When defining
a balance, amongst other, we have stated that it shows the value balance of assets,
liabilities and equity, and is expressed in monetary terms.
To be recorded in the accounting, thereby recognized in the balance, a business
event must have the following important accounting information:
1. criteria of classification of certain components of a business event (classifi-
cation problem);
2. determining the time when a business event occurred (recognition problem);
3. cash amount to be attributed to a business event (problem of measurement,
that is, valuation).
Problem of classification, recognition and valuation is in the basis of almost

each relevant decision of managers, that is, accountant, and in considering the men-
tioned problems, respects basic accounting principles in context of international
financial reporting standards. According to IAS 1, legal entities, which report in
accordance with the IFRS, in presenting the balance, have a choice amongst the
alternatives:
– to separately present non-current and current assets and liabilities (criteria of
useful life and maturity), or
– if criteria of useful life for assets and maturity is not adopted, that is, dead-
line for settlement of liabilities, in that case assets and liabilities should be
presented separately with the aim of assessing liquidity.61
Recognition problem relates to making the right decision of managers on when

some business events should be recorded. Usually facts are known for some bu-
siness transaction, but a manager is doubtful as to when the transaction should be
recorded. A question arises as to when a transaction should be recognized. The an-
swer to this question is important as it has an effect on the amounts, that is, reality
of balance. Respecting the accounting tradition, a transaction is recorded when the
ownership over an asset is transferred from a seller to the purchaser, creating the
payment liabilities.
60
Gray / Needles, Financial, quoted, pg. 40.
61
If presentation on the basis of liquidity criteria provides important and more reliable information,
eg. in case of bank or other financial institution, disclosure of amount, which will be collected or
settled within twelve months, is required.
94
Namely, in the accounting, very heterogeneous content transactions are recor-
ded, as well as in different unit measures – quantitative. All the quantitative units
should, through an adequate price, be brought down to the equal measurable and
comparable sizes. It is exactly with bringing down quantitative units in accoun-
ting to the money expression that there are possibilities of application of various
valuation methods, i.e. application of various prices, even in the conditions of sta-
ble currency. Therefore, in theory and practice, there are different possibilities of
prices selection, that is, values in the balancing. This problem is also dealt with in
the international financial reporting standards. Related to this, there are different
methods of valuation of assets and liabilities, such as:
– acquisition cost (historical or acquisition cost),

– operating cost (price),
– replacement cost,
– market value,
– net value that can be realized,
– amount that can be compensated ,
– current value,
– fair value,
– value of settlement.
In general terms, we can value the assets at all mentioned methods, while lia-
bilities can be valued at: acquisition cost, current value, fair value and settlement
value. In accordance with the international financial reporting standards, legal enti-
ty can, with the accounting policy, that is, active policy of valuation, select certain
methods in the conditions when alternative solutions are allowed.
When founding a legal entity, company, an initial inventory is composed whi-
ch represents an inventory of assets and sources of assets. On the basis of initi-
al inventory, opening balance is produced, i.e. balance sheet. First business tran-
sactions normally occur just after foundation, i.e. foundation of a legal entity –
company.
Accounts as systematization elements are used for systematic recording of bu-
siness transactions. Therefore, accounts for recording the balance and transactions
in the basic categories must be opened just after foundation of legal entity. The
procedure of opening an account itself is nothing else but classification of balance
in accordance with its consisting parts. Let’s assume that we have a shortened and
simplified balance and that we have the following presentation of property in the
balance:
95
Balance on the day
Figure 6 Opening of account
As shown in the figure, each position of assets is recorded as an initial balance

on the payable side of appropriate account (assets), and each position of liabilities
on the receivable side of the account (liabilities and private equity). For those posi-
96
tions that will come up later in the course of a business year, accounts are opened
on the basis of a valid document on occurrence of the first cash business transacti-
on. Thus, the opening balance and all occurred business transactions are recorded
in the account, i.e. turnover during a reporting period. In general, normal business
period is one business year, in accordance with the positive legal regulation.
10.1.4. Basic balance changes
It was already stated that a legal entity in performing its function, causes busi-
ness transactions, that is, business events which have an effect on assets, liabilities
and equity. Since, after each business transaction, we can create a balance, it is re-
alistic that each bookkeeping-business event effects the change of property balance
and that there is continuous property transformation. There are numerous business
events, which are the subject of recording in bookkeeping evidence.
However, regardless of heterogeneity and frequency of events, all these busine-
ss events can be specified and summed up into typical bookkeeping transactions,
which also cause four basic balance changes, and those are:
a) increase of assets and increase of liabilities by the same amount,
b) increase of assets with simultaneous decrease of assets by the same amount
(without changes in liabilities),
c) decrease of assets and decrease of liabilities by the same amount,
d) increase of liabilities with simultaneous decrease of liabilities (without chan-
ge in assets).
10.1.4.1. Increase of assets and increase of liabilities
Examples:
1. Issued shares were sold for KM 100 000.

2. Invoice of suppliers for material KM 20 000.
Book entry in the accounts:
97
Balance following the transactions:
Balance on the day
ASSETS LIABIL
No Desc Amoun No Desc Amoun
1 Gyro acc. 140 000 1. Suppliers 150 000
2 Cash 10 000 2. Other liabilities 20 000
3 Purchaser 100 000 3. Long-term loans 90 000
4 Invent. of material 160 000 4. Shareholder’s 710 000
5 Prod. in progress 60 000 equity
6 Equipment 500 000
TOTAL ASSETS: 970 000 TOTAL LIABILITIES: 970 000
As can be seen from the shown balance, compared with the opening balance,
increase of assets and liabilities were recorded by the same amount. Therefore, qu-
antitative changes in the balance were recorded, that is, increase of assets, liabilities
and equity were recorded. In our example, assets increased in the form of material,
as well as money, with the simultaneous increase of sources, i.e. in our example
liability to the suppliers increased, and equity also increased. This has led to the
increase of potential strength of a legal entity.
10.1.4.2. Increase of assets with simultaneous decrease of assets
Business transactions affecting increase of assets and decrease of assets lead to

the changes in the structure of assets without changes in liabilities.
For example, when one position of assets increases with the simultaneous de-
crease of another position of assets, the sum of assets in that case does not chan-
ge. These changes can occur on the existing positions of assets. In that case the-
re is no change in the structure of assets in terms of type and number of positi-
ons, but only the change of value structure of assets. Apart from the change of
the value structure, change of assets structure occur when there are new positions
of assets, and other, for example, vanish or decrease, but normally by the same
amount.
Consequences of such structural changes in the assets of balance are strengt-
hening or weakening of financial strength of a legal entity. With the comparison
of data before and after occurred business transaction, good quality data are obta-
ined for economic analysis, relevant for making decisions in the field of financial
policy.
98
Examples:
1. We have issued material into production in the amount of KM 60 000.
2. Purchasers have transferred to the gyro account KM 50 000. Book entry in the
accounts is following:
Balance following the transactions:

Balance on the day
ASSETS LIABIL
2 Cash 10 000 2. Other liablities 20 000
5 Production in prog. 120 000 equity
6 Equipment 500 000
10.1.4.3. Decrease of assets and decrease of liabilities
Decrease of assets and liabilities by the same amount occurs when there is a
decrease of a position of assets with the simultaneous decrease of some position in
the sources of assets.
Example:
1. Other liabilities were paid in cash KM 5 000.
2. We have paid a part of liabilities to the suppliers in the amount of KM 55 000.
3. A part of a long-term loan was repaid in the amount of KM 10 000.
Book entry in the accounts:
99
Balance following these transactions:
Balance on the day
ASSETS LIABIL
2 Cash 5 000 2. Other liablities 15 000
5 Production in prog. 120 000 equity
6 Equipment 500 000
As it can be seen from the shown balance, both assets and liabilities were redu-
ced by KM 70 000 as an outflow of cash was recorded in assets, i.e. an outflow of
cash in gyro account and cash book was recorded, but, at the same time, liabilities
were reduced, i.e. liabilities towards suppliers recorded decrease, their liabilities
and liabilities related with long-term loans also decreased.
10.1.4.4. Increase of liabilities with simultaneous decrease of liabilities
Changes in the structure of liabilities, without changes in structure of assets are

recorded, when one position of liabilities is reduced with simultaneous increase of
another position of liabilities by the same amount (the sum of liabilities in that case
does not get changed).
These changes can be recorded in the existing positions of liabilities. In that
case, there is no change in structure in terms of type and number of positions, but
only the change of value structure of assets is recorded. Apart from the change of
value structure of liabilities, a change in the structure of liabilities in terms of type
and number of positions is recorded when new positions of liabilities occur, with
the simultaneous vanishing of the existing positions of liabilities.
100
Example:
1. From the approved short-term credit, a bank has paid other liabilities in the
amount of KM 15 000. Book entry in the accounts:
Balance following above-mentioned business event:

Balance on the day
ASSETS LIABIL
1 Gyro acc 125 000 1. Suppliers 95 000
2 Cash 5 000 2. Short-term credits 15 000
3 Purchaser 50 000 3. Long-term credits 80 000
5 Prod. in progress 120 000 equity
6 Equipment 500 000
As it can be seen from the shown balance of positions, other liabilities have been
totally “closed”, as a bank has settled those liabilities, and instead of this posi-
tion, a change of type of liability occurred, i.e. instead of other liabilities in the
amount of KM 15 000, a liability for short-term credit was created in the same
amount. The sum of liabilities has not changed. No changes were recorded
in assets.
10.1.5. Types of balance sheet

Depending on the content, time, legal entity or reasons for composing them, we
can classify:
– opening balance,
– trial balance,
– final or closing balance,
– consolidated balance,
– balance of merging,– balance of separation,
– recovery balance,
101
– bankruptcy balance and
– liquidation balance.
Opening balance is a balance created by a legal entity when founding it. Res-
pecting the business continuity principle, a legal entity creates a final (annual) or
closing balance on 31 December of the current year, which represents an opening
balance on 1 January of the following year.
Trial balance is created for control, that is, verification of correctness of conduc-
ted book entries in general ledger. Usually it is created at the end of the reporting
period, that is, once a month, and it is obligatory composed before preparation and
presentation of any of the aforementioned balance.
Creating a trial balance, implies the following steps:

1. each account of general ledger, which has a balance, is listed out, by recor-
ding payable balances on the left side, and receivables in the right column of
trial balance (list of accounts is created in accordance with the order as they
were entered into the general ledger);
2. each column is added up together;
3. total amounts of columns are compared.
In conducting procedures 1 and 2, we should bear in mind that the account in

general ledger has two columns, one for payable balances, and another one for
receivable balances. Usually, in the accounts recording increases as payables, nor-
mal (usual) balance is payable balance, and in the accounts in which increases are
recorded as increases, usual balance is receivable balance.
With the data processing by using computers, transfer from daybook into the
general ledger is performed automatically and trial balance can be easily done whe-
never needed.
All the accounts with abnormal balances should be recorded because of their
reexamining and harmonization. Some programme packages for small companies
in trial balance list the amounts in one column, with the balances receivable, which
have pre-sign minus. In such cases, a trial balance is balanced if total amount is
equal to zero (0).
Trial balance shows that general ledger is at balance, and this means that
the same book entries were recorded on the payable and receivable acco-
unts of all transactions, so that the total payable side is equal to the receivable
side. However, a trial balance does not prove that transactions were recorded
correctly in the appropriate accounts, or that some transactions have been left
out.
102
Example:
In the accounts of company Company “X”62

“X” on the day 31 Dec 2001 trial balance
following balance was recorded 31 Oct 2001
Desc Balance Balance

Liabilities ?
payable receivabl
Receivables 6 000 Prepaid insurance
Gyro account 18 000
costs 2 200
Land 10 400 Receivables 6 000
Non-allocated Prepaid
Building 68 000 profit 22 900 insurance costs 2 200
Land 10 400
Gyro account 18 000 Shareholder’s Building 68 000
equity 40 000 Equipment 24 000
Equipment 24 000 Liabilities 25 700
Liabilities for issued
Liabilities for bills of exchange 40 000
Issued bills
of exchange 40 000 Shareholder’s equit 40 000
Non-allocated profit 22 900
Make a trial balance of company “X” at the end of October
of current year. Total 128 600 128 600
Calculate the balance of the liabilities account.
Consolidated balance is created at the level of complex legal entities, that is,
a group. The group is composed of parent and all its subsidiaries that are under
control of their parent if the parent possesses more than 50% of voting power. The
aim of creating a consolidated balance is to provide information on financial po-
sition, performance and changes of financial position at the level of group, which
are useful to a wider specter of users for making economic decisions. Thus, when
compiling a consolidated balance, it is necessary to eliminate all inter-liabilities,
receivables, investments, as well as expenses and revenues. This means that all
inter-transactions should be eliminated within the group. Therefore, a consolidated
balance shows financial position, performance and changes of financial position of
a group, achieved in the relations with the external legal entities. Merging balan-
ce is created in special circumstances, when two or more legal entities are being
merged (integrated) into a single new legal entity. Separation balance is created in
separation of the existing legal entity into two or more individually legally inde-
pendent legal entities.
62
103
Recovery balance sheet is created for conditions when a legal entity is in case
of recovery procedure. Recovery balance sheet is used in that case as basis for
determining the incurred losses in business operations and measures for solving
them with the aim of improving (recovery) legal entity by potential entities wi-
lling to rehabilitate it. If a procedure of rehabilitation fails to succeed, bankruptcy
proceedings are initiated. Bankruptcy balance shows the values of property in the
bankruptcy procedure.
Liquidation balance is normally created by the legal entity, if it is going into
liquidation. Such balance is used as basis of determining liquidation value, from
which liabilities towards creditors are settled. Usually, liabilities of creditors are
partially settled from the liquidation value.
104
11. INCOME STATEMENT
11.1. CONCEPT AND CONTENT OF INCOME STATEMENT

In conceptual definition of income statement, the balance essence of loss and gain
are the starting point. Gain is increment (increase) of equity in the legal entities
arising from business and accompanying activities of a legal entity in the course
of reporting period. Loss is a decrease of private equity created on the same basis.
Equity changes on the basis of additional investments or withdrawal of a part of
equity by the owners / shareholders are not prescribed to the success (result) of a
legal entity. Profitability, that is, profit realizing (profit) is the aim of a legal entity,
it represents basis and framework of division to the stakeholders (country, compa-
ny, management, employees and shareholders), criteria of deciding on allocation,
reallocation of resources, the source of accumulation for the needs of growth and
development of a legal entity.
Under the influence of development of the accounting theory and practice, in-
come statement was created at the end of the 19th century, when legal entities were
not interested in finding out only total financial result (which could have been de-
termined also on the basis of balance sheet) but they requested provision of rele-
vant accounting information for the internal and external users on the structure of
revenues and expenses (we mean revenues of regular activities of a legal entity
and gains and expenses arising from regular activity and losses), to observe their
dynamics in the period of their occurrence, which normally ensures periodical and
constant presentation of performance of business operations of a legal entity.
The task of income statement is to calculate all the expenses and revenues in the
observed reporting period and to present the realized financial result and its distribu-
tion. Financial result is then integrated in the balance sheet as accumulated (retained)
profit in the liabilities within the position of equity or as accumulated (transferred)
loss as a deduction item to the equity in the liabilities of the balance sheet.
Income statement originates from balance sheet with the beginning of the bu-
siness year and enters balance sheet at the end of a business year, which means it
represents “an extracted and independent part of balance sheet”, and has strictly
temporary and specific-purpose character. Thus, balance sheet and income state-
ment make one unity, that is, at each moment of their presentation, they represent
unity of property of a legal entity. In those terms, for presentation of financial re-
sult, the concept income statement is used which “provides a summary presentation
of earned revenues and incurred expenses during regular business operations in a
certain period of time”.63
63
105
Income statement is comprised of revenues and expenses, and thus net result ac-
hieved during the period, that is, between the two balance periods (from 1 January
of current year until 31 December of current year).
Thus, net profit is net increase of private equity arising from regular business
operations of a company accumulated in the account as accumulated (retained)
profit. In the simplest form, net profit is measured as a difference of revenues and
expenses when revenues exceed expenses:
Net profit = revenues – expenses
When expenses exceed revenues, we have net loss64, which is presented in the
account as accumulated (transferred) loss and it is covered in accordance with the Law.
By its content, income statement is in its base a dynamic report.
In accordance with IAS 18 – Revenues, item 11, revenues are the amount of
cash or cash equivalents which is received or is receivable.
Revenues most often arise from:
– sale of products,
– provision of services,
– use of assets of a legal entity by others, whereby income from interests,
royalties and dividends are realized (IAS 18 – Revenues, item 1).
Therefore, revenues incurred from a regular activity of a legal entity occur al-
most all the time and in the value structure of revenues create its biggest part. The
amount of revenues itself in the simplest form is equal, i.e. is based on the confir-
med value of realized products, goods or provided services in the market. Financial
revenues are the result of a placement of excess of free available money. A legal en-
tity can invest a surplus of money into the shares, bonds, etc., or can simply lend the
money to those who need it. Thus, in those cases it acquires the right to compensa-
tion (eg. dividend, interest) which represents financial revenue. Financial revenues
also include positive foreign exchange differences which are the result of a change
of value of money against some foreign currency. Also, the use of assets by others
brings the revenue in the form of royalties as fees for the use of long-term assets
of a legal entity, such as: patents, trademarks, copyrights and computer software.
Revenues can also occur from:
 gains satisfying the definition of revenues,
 increase of assets,
 settlement and write off of liabilities.
64
106
Expenses according to the Framework encompass:
 expenses arising from regular activities of a legal entity and
 losses satisfying the definition of expenses.
Expenses arising from regular activities of a legal entity, include, for example:
– sales costs,
– salaries and
– depreciation.
Losses represent other items that satisfy the definition of expenses and can, but
don’t have to, arise from regular activities of a legal entity.
According to the Framework, losses represent a decrease of economic benefits
and as such, by nature are not different from other expenses.
Losses that satisfy the definition of expenses include (Framework):

 losses arising from disasters such as: fire, flood;
 losses from sale of long-lasting assets;
 non-realized losses arising from, for example, the effects of an increase of
foreign currency in regard to the indebtedness of a legal entity in foreign
currency.
Expenses are recognized in income statement when decrease of economic be-

nefits arises from:
 decrease of assets, or
 increase of liabilities, that can be reliably measured (Framework).
Expenses are recognized in the income statement on the basis of direct link
between incurred expenses and an item of revenue. Thus, for example, costs of
sold products are recognized as expenses at the same time with the revenues from
the sales of products. When it is expected that economic benefits will be flowing
in, during several accounting periods, and link with revenues can be determined
only in wider terms or indirectly, expenses are recognized in the expenses thro-
ugh systematic and rational allocation. It is often necessary when expenses rela-
ted with spending of assets are to be recognized, such as: property, plants, equi-
pment, patents, and trade marks. In such cases, expenses are called depreciation
costs of tangible and intangible assets. Expense is immediately recognized in in-
come statement when an expense does not carry any future economic benefits or
when to the amount to which future economic benefits do not fulfill the conditions
or they have seized to fulfill the conditions for their recognition in balance sheet
107
(Framework). Expenses represent a deductable item in the income statement. For
the needs of realistic balancing, it is necessary to classify operating costs, i.e. ex-
penses in the correct manner, in the following manner: The first category related
with the realized revenue from sale of products is referred to as costs of sold pro-
ducts or business expenses. Those expenses are the costs of production of final
products (production costs) contained in stored inventories of final products. Those
costs of sold products become expenses in the income statement, once the products
are sold.
The second category of expenses does not depend on the recognition of reve-
nues, i.e. from sale of products, but it is related to the costs of functioning of an
economic entity in certain period in terms of costs that occur except for costs from
sold products. Those are general costs of management, sale and administration of
some reporting period, which cannot be included into the inventory costs of final
products that are held at the warehouse. Thereby they are referred to as time costs,
i.e. cost of a reporting period or expenses of reporting period. Reporting period
costs become expenses of reporting period in which they incurred, regardless of
revenue recognition. Income statement should present fair financial performance
of a legal entity.
For this task to be fulfilled, income statement must satisfy conditions in accor-
dance with the international financial reporting standards. With regard to this,
income statement must provide the users with understandable, relevant, reliable,
comparable and fair information. This can be achieved with the selection of high
quality accounting policies in the field of revenues, expenses, thereby profit or
loss. With the comparison of revenues and expenses, profit or loss realized in cer-
tain reporting period is being determined. This reporting period can be a mon-
th, three months, six months or a year. For the joint-stock companies, in BiH, in
accordance with the positive legal regulation, there is an obligation of preparing
income statement on semi-annual basis and annual basis, and in complex forms of
organization of legal entities at the level of group of liabilities is to prepare once
a year consolidated income statement. It is necessary to emphasize that revenues,
expenses, profit and loss are formed in accordance with event occurrence principle,
therefore, on the basis of incurred and not cash basis.65 This means that revenu-
es shall be formed when business transaction occurred, and not when payment is
65
Profit measurement is based on the so-called accounting of business event occurrence. In the cen-
ter of the accounting of occurrence of business event (accrual accounting) is concept of real-
ization and matching. Accounting of business event occurrence measures a profit of period as
a difference of recognized revenues in the period and incurred expenses matched against these
revenues. Alternative way of measurement of profit is referred to as accounting based on cash.
According to this method, revenues from sale are recorded only once the cash is received. Similar
to this, expenses are deducted from revenues from sale, once they are settled with cash. Therefore, in cash
accounting, nor concept of realization or concept of matching are applied. In practice, we rarely come
across of “pure” cash accounting.
108
made. In simple terms, revenue shall be recognized when a legal entity had sold
and delivered final products, and not when the purchaser paid for it. That is exactly
the reason why presented and realized profit in income statement is not always
backed up with money, that is, at that moment it is not comprised of money. Thus,
accounting flow differs from cash flow. On the same accounting basis, incurred
expense is recognized which is matched with the revenue incurred in the same
period.
11.1.1. Form and preparation of income statement
Income statement (profit and loss account) can be presented in the two following
forms:
– as double-side account, or
– as single-side account.
Allocation of positions in the income statement when preparing and presenting

depends on the method of determination of profit or loss.
In section no 5 of the Fourth EU Directive, a possibility of use of the following
methods is foreseen:
– natural types of costs method and
– method of sold products costs.
IAS 1 – Presentation of Financial Statements equally presents both, above-men-

tioned methods. With this regard, in paragraph no 99 IAS 1 states: legal entity sho-
uld classify costs, i.e. expenses, by using classification based on either their natural
type or on the function within the legal entity depending on which one ensures
more reliable and more relevant information.
In item 102, IAS 1, first form of classification is in accordance with the method
of type of expenses. A legal entity unifies expenses in the income statement in
accordance with their type (for example depreciation, costs of raw materials and
material, transport costs, costs of employees recruitment and advertising costs) and
does not assign them to various functions of a legal entity. This method can be
simpler for application as it is not necessary to classify expenses in line with their
function.
109
Example of classification with the application of type of costs method.
Revenues X
Other revenues X
Change in inventories of final products X
Consumed material X
Recruitment of employees costs X
Depreciation costs of non-current tangible and intangible assets X
Other expenses X
Total expenses (X)
Profit before tax X
Type of expenses method is simpler for application as it does not require moni-
toring of expenses in accordance with the function of expenses. According to this
method, revenues are matched against expenses in relation with realization of these
revenues. The amount of expenses is determined by getting the natural types of co-
sts down to the position of expenses of the period with the correction with assistan-
ce from an item changes in values of inventories of final products and production
in progress. Change in value of inventories may mean an increase or decrease of
costs in getting them down to the expenses of period. If the inventories at the end of
reporting period are less than the inventories at the beginning of reporting period,
the difference is added to the costs for determining the expenses of reporting peri-
od, however, if the inventories at the end of the reporting period are higher than at
the beginning of the period, the difference is deducted from costs.
The second form of classification is according to the function of expenses or
method of „costs of sold products“, and expenses are classified according to their
function. Selection between method of sold products costs and method of types of
costs depends on historical factors, factors of economic sector and type of legal en-
tity for determining expenses of the reporting period. For the needs of creating the
income statement, both, in accordance with the types of costs method and method
of „costs of sold products“, distinction of costs of products and costs of reporting
period is required, in accordance with IAS 2 – Inventories, item 10.
Given that both methods of presentation of expenses have the features accepta-
ble for different legal entities, there is an option to select such method that will be
more appropriate to the fair presentation of legal entity performance.
Income statement in accordance with the method of sold products costs is spe-
cific to the calculation of financial result with the comparison of revenues from
sale of products with the costs of sold products requires a systemic monitoring of
110
business process as per phases, more precisely per functions and narrower parts, or
even more precisely per activities of costs and bearers of costs. Income statement
as per method of sold products costs corresponds with the presentation in a form of
single-side account.
Main advantages of the method of costs of sold products are:

– vertical classification of total business, that is, financial result and
– horizontal classification of business, that is, financial result.
In accordance with the method of costs of sold products, we can present inco-
me statement in the following manner:
Income statement for the period from 01 Jan to 31 Dec of current year
1. Revenue from sale 500 000
2. Costs of sold products 366 000
3. Gross profit / Gross profit from operating activities (1 – 2) 134 000
General costs of management, sale and administration 44 000
4.
4.0. Costs of management, sale and administration 44 000
5. Profit from activities / Profit from operating activities (3 – 4) 90 000
Net-financial expenses 28 000
6. 6.0. Financial revenues 12 000
6.1. Financial expenses 40 000
Expenses (losses) 12 000
7. 7.0. Revenues (gains) and value adjustment and other revenue
7.1. Expenses (losses) and value adjustment and other expenses 12 000
8. Profit (5 – 6 – 7) 50 000
With regard to the vertical classification, it is now obvious that the profit of
KM 50 000 is comprised of gross profit in the amount of KM 90 000 and deduction
of this result for net-expenses of financing in the amount of KM 28 000 and loss
in the amount of KM 12 000. Thus, because of calculation of costs which divides
costs per functions, that is, activities, classification of business result in the amount
KM 90 000 is visible on the gross operating result per cover of the production price
of sold products which amounts to KM 134 000 and to the reporting period costs
(management, sale and administration) which, with the moment of their incurren-
ce, are getting the feature of expenses and they are settled from gross profit, which
amounts to KM 44 000. An advantage of horizontal classification of company’s
results of production, legal entity relates only to the operating, i.e. financial result
111
(positions from 1 to 5 in the shown income statement). Thus, in the income state-
ment according to the method of costs of sold products, per products and through
them, per groups of products, markets of sale, etc. are classified non only revenues
from sale in the income statement, but also costs of sold products, and thus, opera-
ting, i.e. financial result of all levels, which is of special importance for the asses-
sment of performance of business operations of a legal entity based on the income
statement.
Further in text we provide a short chart of income statement in accordance with
positive legal regulation:
Income statement for period from 1 Jan to 31 Dec of current year

PREVIOUS CURRENT
No Account I Profit or loss of period YEAR YEAR
KM KM
1. Business revenues
2. Business expenses
3. Profit from business activities (1-2)
4. Loss from business activities (2-1)
5. Financial revenues
6. Financial expenses
7. Profit from financial activities (5-6)
8. Loss from financial activities (6-5)
Profit from regular activity
9.
(3-4+7-8)>0
Loss from regular activity
10.
(3-4+7-8)‹0
11. Other revenues and gains
12. Other expenses and losses
Profit based on other revenues and expenses
13.
(11-12)
Loss based on other revenues and expenses
14.
(12-11)
Revenues arising from adjustment of non-
15.
current assets value
Expenses arising from adjustment of non-
16.
current assets value
Increase in value of specific non-current
17.
assets
112
Decrease in value of specific
18.
non-current assets
Profit from value adjustment
19.
(15-16+17-18)>0
Loss from value adjustment
20.
(15-16+17-18)‹0
Profit from business continuity before tax
21.
(9-10+13-14+19-20) >0
Loss from business continuity before tax
22.
(9-10+13-14+19-20)‹0
23. Profit tax of business continuity
Net profit of business continuity
24.
(21-22-23) >0
Net loss of business continuity
25.
(21-22-23)‹0
Revenues and gains from sale and value ad-
26. justment of assets held for sale and business
discontinuity
Expenses and losses from sale and value ad-
27. justment of assets held for sale and business
discontinuity
28. Profit from business discontinuity (26-27)
29. Loss from business discontinuity (27-26)
30. Profit tax from business discontinuity
Net profit from business discontinuity
31.
(28-29-30)>0
Net loss from business discontinuity
32.
(28-29-30)‹0
Net profit of the reporting period
33.
(24-25+31-34)>0
Net loss of the reporting period (24-22+31-
34.
34)>0
II Profit or loss of the reporting period
1. Ascribed to the parent owners
2. Ascribed to the owners of minor interests
Note: Item under number II profit or loss of the reporting period is filled in by the compa-
nies which prepare consolidated financial statements.
113
We should emphasize once more that opening balance is prepared when founding
a company (eg. 1 January of the current year). At the end of the business year, that
is, on 31 December of the current year, income statement is prepared first, which,
with its results gets into the annual balance sheet on the day 31 December of the
current year. Annual balance sheet (31 December of the current year, respecting
the continuity principle of a legal entity, also represents opening balance sheet on 1
January of the following year.
We shall present the balance disequilibrium which occurs during a business year
and established balance equilibrium at the end of the year with the following
examples66:
a) Case of positive financial result
Opening balance sheet of a company:
Balancing at the end of a business year:
66
Jadranka Kapic, Valuation..., quoted, pp. 17-35.
114
b) Case of negative financial result
Opening balance sheet of the company:
Balancing at the end of the business year:
If we state that there are differences in single presentation of property, and if

we have determined that there is a correlation link if balance sheet and income
statement at the time of their existence, we can then claim that apart from formal
correlation, there is also an essential correlation of balance sheet and income state-
ments. This essential correlation, according to our opinion, is reflected in a form of
the value objectivity and correctness of the balance positions, both, of balance sheet
and income statement. This means that unrealistic valuation of balance sheet posi-
tion, automatically reflects upon non-realistic positions of income statement, and
vice versa; unrealistic presentation of income statement brings to the unrealistic
presentation of balance sheet which, at the end of the business year, once we come
to settling the balance to the single balance, reflect upon the reality of this balance.
This overvaluation, i.e. unrealistic improvement of financial result, can be achieved
in the following three different manners:
a) overvaluation of positive financial result, i.e. overvaluation of profit;
b) under-valuation of negative financial result, i.e. undervaluation of loss;
c) non-presentation of hidden negative financial result, i.e. hidden loss.
115
Undervaluation of assets and overvaluation of liabilities is reflected on under-
valuation of financial result in negative terms, i.e. unrealistic deterioration of real
financial result, which can be achieved in the following ways:
a) undervaluation of positive financial result, i.e. profit undervaluation;
b) overvaluation of negative financial result, i.e. loss overvaluation;
c) non-presentation of hidden positive financial result, i.e hidden profit.
I Overvaluation of assets
a) Overvaluation of profit
On the day 31 Dec 20... overvaluation of inventories was done for the amount
of KM 20 000. Realistic balance sheet should have looked in the following way:
i.e.: presented profit is over valuated by KM 20 000.
116
b) Undervaluation of loss
On the day 31 December 20... overvaluation of inventories was done by

KM 20 000. Real balance sheet should have looked in the following way:
i.e.: presented loss is under valuated by the amount of KM 20 000.
c) Hidden loss
On the day 31 Dec 20... inventories were over valuated by the amount of KM
20 000. Real balance sheet should have been:
117
i.e.: Presented profit, by the amount of KM 10 000 KM, hides two facts: profit is
entirely overvalueted, and loss is hidden in the amount of KM 10 000.
II Undervaluation of assets
a) Undervaluation of profit
On the day 31 Dec 20... inventories were undervaluated by the amount of

KM 20 000. Real balance sheet should have looked as following:
i.e.: Presented profit is undervaluated by the amount of KM 20 000.
118
b) Overvaluation of loss
On the day 31 Dec 20... inventories were undervaluated by KM 20 000. Real

balance sheet should have looked as follows:
i.e: Presented loss is overvaluated by the amount of KM 20 000.
c) Hidden profit
119
On the day 31 Dec 20... inventories were undevaluated by the amount of
KM 20 000. Real balance sheet should have looked as follows:
i.e: Presented loss in the amount of KM 10 000 hides two facts: the loss is entirely
overvaluated, and profit in the amount of KM 10 000 is hidden.
III Undervaluation of liabilities
a) Overvaluation of profit
On the day 31 Dec 20... liabilities were undervaluated by the amount of

120
i.e.: Presented profit is overvaluated by the amount of KM 20 000.
b) Undervaluation of loss
On the day 31 Dec 20... liabilities were undervaluated in the amount of

i.e: Presented loss is undervaluated by the amount of KM 20 000.
121
c) Hidden loss
On the day 31 Dec 20... liabilities were undervaluated in the amount of

i.e.: Presented profit of KM 10 000 hides two facts: profit is entirely overvaluated,
and loss in the amount of KM 10 000 is hidden.
IV Overvaluation of liabilities
a) Undervaluation of profit
122
On the day 31 Dec 20... liabilities were overvaluated by the amount of
i.e.: Presented profit is undervaluated by the amount of KM 20 000.
b) Overvaluation of loss
On the day 31 Dec 20... liabilities were overvaluated in the amount of

123
i.e.: Presented loss is overvaluated in the amount of KM 20 000.
c) Hidden loss
On the day 31 Dec 20... liabilities were overvaluated in the amount of

124
i.e.: Presented profit of KM 10 000 hides two facts: loss is entirely overvaluated,
and profit in the amount of KM 10 000 is hidden.
From all the aforementioned, we can conclude:
I If overvaluation of assets occurs, with liabilities remaining the same, the

following can happen:
a) overvaluation of profit,
b) undervaluation of loss, c) hidden losses.
II If undervaluation of assets occurs, with liabilities remaining the same, the

following can happen:
a) undervaluation of profit,
b) overvaluation of loss, c) hidden profit.
III If undervaluation of liabilities occurs, with assets remaining the same, the
following may happen:
a) overvaluation of profit,
b) undervaluation of loss c) hidden loss.
IV If overvaluation of liabilities occurs, with assets remaining the same, the

following may happen:
a) undervaluation of profit,
b) overvaluation of loss,
c) hidden profit.
Namely, combinations are possible in case of simultaneous changes of assets

and liabilities as a result of overvaluation and undervaluation. However, it is known
that closing balance sheet on 31 December of a current year is equal to the opening
balance sheet on 1 January of the following year, and overvaluation and underva-
luation of assets and liabilities influence not only the financial result at the end of
the current period, but also financial result at the end of the reporting period of the
following year.
125
Therefore:
Current year
Overvaluation of assets
Overvaluation of financial result
I
Following year
Real assets
Undervaluation of financial result
Current year
Undervaluation of assets
II
Following year
Real assets
Current year
Undervaluation of liabilities
III
Following year
Real liabilities
Current year
Overvaluation of liabilities
IV
Following year
Real liabilities
We can conclude that in the course of period of two years overvaluation and
undervaluation of profit will cancel one another, if assets and liabilities are reali-
stically valued.
I Over valuated financial result in the previous period = under valuated

financial result in the following period
II Under valuated financial result in the previous period = over valuated

financial result in the following period
126
11.1.2. Components of income statement of service
and trade companies
Some companies may engage in production, trade and /or service activities, as
already mentioned. With service provision companies, regardless of whether it con-
cerns “pure” services or “production” services, all the costs of the current period
are regarded as expenses.
We can show the chart of cost transformation into expenses in the service provi-
ded activities in the following figure:
Chart of cost transformation into expenses in service companies
Therefore, the chart of income statement creation for such companies looks as
follows:
Components of income statement of service companies67:
Income statement of Service Company

* Profit tax not included.
67
127
Retail shops, whole trade sellers, distributors who sell the goods are re-
ferred to as trading companies. Trading companies sell the goods in the same
physical form in which they were supplied (purchased). Thus, a cost of sold goods
represents acquisition cost (acquisition value) of the sold goods.
In the accounting, a word acquisition (purchase) does not refer to the reception
of the ordered order, but to the reception of the ordered products. When ordering
products, no book entry is performed in the accounting records. Book entry is con-
ducted when a seller transfers products to the buyer, i.e. once the products are in the
possession, i.e. ownership o the buyer. According to the trade laws, goods in transit
normally become the ownership as soon as they are delivered to the transporter, if
a provision “FOB place of loading” (if a buyer bears the transport costs). If a seller
bears the costs of transport (“FOB destination”), the ownership right is transferred to
the buyer, all until the goods reach its warehouse. Thus, trading goods are included
in the inventories at its own cost (acquisition value), which is in accordance with the
basic concept of cost. In accordance with IAS 2 – Inventories, acquisition of goods
cost (acquisition value) does no include only the invoice price, but also freight costs
and other transport costs incurred at the transport of goods until the point of sale, as
well as the cost of unpacking and placing the price on it, i.e. so called variable costs
of acquisition, whose structure depends on the agreement of the mentioned trading
provisions. Also, acquisition cost is adjusted (corrected) for the returns of goods and
approvals for cash discounts provided by the supplier of trading goods.
By observing the reporting period as a whole, valuation of trading goods at
the acquisition cost (acquisition value) and transformation of acquisition cost into
the costs of sold trading goods (once sale takes place), i.e. classification of cost
between balance sheet and income statement, we can show in the following68:
68
128
Costs, i.e. the value of inventories of goods available for sale during the period,
represent a sum of the initial inventories and acquisitions during the reporting peri-
od. The problem of valuation is how to split the goods available for sale between:
a) final balance of inventories and b) costs of sold goods. It is a big problem of
valuation, as its solution also has an impact on the sum of inventories presented
in the balance (balance sheet), as well as on the profit, i.e. profit presented in the
income statement.
There are two approaches to this issue:

1) we can determine final balance of the inventories of goods and derive from
it a cost of sold goods, by deducting the final balance of inventories of goods
available for sale. This is a periodical inventories keeping method.
2) we can value the quantity of the actually sold and delivered goods to the
buyers, and from it derive a final balance of inventories, by deducting a cost
of sold goods.
This is continuous record keeping of inventories method.

Thus, costs contained in the inventories of trading goods are not expenses
until the goods are sold. Once the goods are sold, costs of sold goods become
expenses.
General operating costs of period (costs of regular business operations) become
operating expenses with the moment of their incurrence and are included in the
income statement, because they are not contained in the cost of goods, i.e. they
become directly expenses of the period in which they incurred.
Therefore, another relevant problem of valuation remains, and it is as to how
to measure the inventories and cost of sold goods when a unit cost of one or more
objects of inventories of goods changes during the accounting period.
There are several acceptable methods for resolving this problem, for example
FIFO, method of average costs, i.e. specific identification method.
Selection of the mentioned methods significantly influences the presented pro-
fit, and selection is depending on case to case and is included in the field of the
accounting policies. Of course, decisions from the field of the accounting policies
cannot be in conflict with the decision on basic principles of business policy in an
overall management process of legal company.
Further below, we illustrate components of income statement of trading
company.69
69
129
Income statement of trading companies
Further below we present income statement of the company Fenwich Fashions

as follows70:
70
130
FENWICH FASHIONS COMPANY
Income statement for the year ending on 31 Dec 20X2
Net revenues from sale (net sale)

Revenues from sale (gross sale) 246 350
Return from sale and corrections (7025)
Net revenues from sale (net sale) 239 325
COST OF SOLD GOODS
Inventories on 31 Dec 20X2 52 800
Acquisition (purchase) 126 400
less return of sold goods and corrections (7 776)
Net acquisition and purchase 118 624
Freight included 8236
Net cost of acquisition (purchase) 126860
Available for sale in total (acquisition cost) 179 660
less final inventories 31 Dec (48 300)
Costs from sold goods 131360
Gross profit (gross margin) Operating costs 107 965
Costs of sale
Costs of salaries of employees engaged in sale 22 500
Freight costs 5 740
Advertising costs 10 000
Insurance costs (sale) 1 600
Costs of sale material 1540
Total sale costs 41 380
General and admin. costs
Admin. salaries costs 26 900
Costs for general insurance 4 200
Costs for material 1 204
Building depreciation cost 2 600
Depreciation cost
Office equipment 2 200
Total general and admin costs 37104
Total operating costs (78484)
Profit before tax payment 29 481
Profit tax (5 000)
NET PROFIT 24 481
Revenues from sale (gross sale)

In the part of income statement related to the revenues from sale (gross sale)
occasionally several separate items are presented, whose net amount provides net
revenues from sale (net sale).
131
In the shown income statement of Fenwich Fashions company the following
was presented:
Revenues from sale (gross sale) 246 350

Minus: return from sale and adjustment (corrections) (7 025)
Net revenues from sale (net sale) 239 325
Revenue from sale or gross sale is total invoice value of delivered goods. Re-
turns of sold goods and adjustments (corrections) are the value of sold goods, whi-
ch the purchasers returned and approvals given to the purchasers because of faults
on goods, or selling discounts given to the purchasers for quick payment (occa-
sionally referred to as cash discounts). These amounts can be deducted directly
from revenues from sale or gross sale without special presentation in the income
statement. However, information on their size is often regarded as significant and
separate presentation in the income statement is required.
Costs of sold goods

It is necessary to emphasize that costs of sold goods become expenses regardle-
ss of when the goods were acquired, i.e. regardless of whether they were acquired
in the current year or in the previous years. Namely, the value of goods acquired in
the previous years, which was not sold, becomes an item of assets in the balance
of the current year, together with the goods acquired in the current year. When the
goods are sold, assets are decreased, and for the same amount there is burdening of
costs for sold goods which are becoming expenses in the income statement.
Usually, revenues from sale of goods are recognized in the period in which the
goods were sold and they are matched against costs of sold goods (expenses) which
had caused it.
Gross profit (or gross margin) is the difference of net revenues from sale (net
sale) and costs of sold goods. For the traders to be successful, gross profit must be
large enough to pay operating costs and to ensure the profit, i.e. profit following the
payment of profit tax.
Operating costs
The following component of income tax of a trading company is operating co-
sts, which are directly included in the income statement and represent expenses of
period. Operating costs, that is, expenses, in large number of income statements,
especially those created for external use, include general selling and (management)
administrative costs, that is, expenses and they are sub-classified into their consi-
sting parts.
132
Costs of sale encompass warehousing costs, costs of preservation and prepara-
tion of goods for sale: exhibition, advertising and other promotional costs of sale,
sale performance, costs of delivery goods to the purchasers (if delivery cost is paid
by a purchaser). This cost is often referred to as expense of freight cost. In general
and administrative costs we include costs related to the overall business operations.
Those are the costs of salaries, lease, insurance, electricity, etc. careful planning
of operating costs, that is, expenses, can significantly improve profitability of the
company.
Profit before tax payment

It represents the difference between gross profit and operating costs (expenses),
and makes a very important measure of success. Profit before tax is also referred to
as operating profit or profit from regular business operations. Profit tax is separa-
tely presented in the income statement, as it is prescribed by the law. Net profit in
the income statement is relevant measure of performance of business operations of
the company, as it represents the amount of retained earning, following payments
of dividends to the shareholders.
Management of the company is interested in performance of business operati-
ons. Thus, for the needs of internal users, when analyzing income statement, per-
centages are often analyzed. Usually, 100% is taken as net revenues from sale (net
sale). Then, each item in the income statement is expressed as a percentage of net
revenues from sale (net sale).
The most important percentage is gross profit (gross margin) and profit margin.
Percentage of gross profit is calculated by dividing the amount of gross profit with
net revenues from sale (net sale). In the case of observed company, the amount of
gross profit is 107 965, and percentage 45.1 % (107 965 : 239 325). This informa-
tion is useful when planning business operations. Percentage of the profit margin is
calculated by dividing net profit, i.e. with net revenues from sale (net sale).
In the presented income statement, net profit is 24 481, and percentage is
10.22 % (24 481 : 239 325). Profit margins vary in different sectors. For exam-
ple, in the USA, retail shops have profit margin of 15 %, and production activity
has 8 %.
133
1) What does a full set of financial statement include?

2) What are the balance theories, principles of balancing and forms of creation of
balance sheets?
3) What are the principles of measurement, i.e. valuation of balance positions?
4) What types of balance are there?
5) What is the definition of income statement?
6) Explain the definition of revenue, recognition, measurement of revenues in
accordance with IAS 18 - Revenues.
7) What do the revenues from regular activity and gains encompass?
8) When are the expenses recognized and measured?
9) What do the expenses from regular activities and losses encompass?
10) What are the methods of correct classification of costs, i.e. expenses in accor-
dance with item 88, IAS 1 – Presentation of Financial Statements?
11) Components of income statement of service orientated companies and trading
companies?
12) How undervaluation of assets and overvaluation of liabilities in the income
statement influence a real calculation of financial result?
134
CHAPTER FIVE
CHARACTERISTIC,
CONTENT AND PHASES OF
ACCOUNTING PROCESS
Study objectives
1. Phases and main characteristics of accounting process

2. Conceptual definition of bookkeeping documents, types, content
and control
3. Concept, importance and business book records
4. Bookkeeping errors and methods of correction of bookkeeping
errors
5. Definition and preparation of trial balance
6. Example of balance preparation
12. CHARACTERISTIC AND PHASES
OF ACCOUNTING PROCESS
Below we provide brief accounting process:
137
The first phase and the most important part of the accounting process is analysis
of occurred business transactions. Why analysis of occurred business transactions?
That is a principle that the subject of book records is business transaction which
had really occurred, i.e., that it has a historical character and that it is based on the
valid document. Thus, a valid document is a written book document which contains
evidence that the transaction occurred, and which, amongst other, contains records
of what actually happened, when it happened, the value of transaction, etc. There-
fore, the bookkeeping document is used as a basis for data collection on occurred
business transactions. It is significant that book document is created at the place
and moment, i.e. following occurrence of business transaction, and that it contains
all the relevant elements, required for subsequent processing, i.e. preparation of
accounting information required by the users.
It is obvious that in this phase it is necessary to make a selection of information
on the basis of correct classification of business transactions. Apart from informa-
tion arising from the accounting information system, there are also some non-qu-
antitative information, which are also important for making some business decisi-
ons, for example, the taste, satisfaction of consumers, technical characteristics of
equipment, etc. Such information shall be processed in some other records. Thus,
that is why it is necessary to conduct analysis in this phase, i.e. to correctly classify
business transactions that will be the subject of accounting records and those that
are processed in some other records.
Therefore, occurred business transactions represent an input of accounting
process, and they may occur within the legal entity itself, between the compani-
es and environment, or in the environment of the company. This process requires
knowledge related to the accounting principles, but also decision making process,
in order to present business transaction in the proper way in business books.
Business transaction is a business event which occurred, and which influences
the property of a legal entity and at the same time represents the bookkeeping event.
In the following phase, recording of business events is conducted in business bo-
oks. Basic business books are day-book and general ledger. Day-book represents
records of the original entry of accounting data. Business events are recorded chro-
nologically, i.e. with the time order as they occurred.
General ledger is a comprehensive, systematized and chronological records of
business events. General ledger contains all the accounts of one legal entity. Given
that day-book and general ledger present the same business events, it is clear that
also the values of presented in those records must be identical. This enables control
of correctness of conducted book entries and correctness of data and presented
information.
Thus, at the end of the accounting period, and usually just before preparation of
financial statements, it is necessary to verify whether business events are correctly
recorded in business books. In that respect, it is an obligation of each legal entity
138
to conduct the procedure of inventory of all the property at the end of a business
year. Results of the inventory, that is, inventory of real balance of property, repre-
sent basis for comparison of balance in the business books. Determined possible
differences ought to be re-entered into books with the aim of an overall adjustment
of real balance of property with the balance in business books.
Apart from this, trial balance, that is, gross balance has a control role from the
aspect of book entry technique itself. It represents a recapitulation of balance and
turnover of all accounts of general ledger.
The form of trial balance, that is, gross balance, is not standardized and may be
in a form of working table, which is the case, for example, in the USA companies.
Trial balance, that is, gross balance, is usually prepared once a month, as in this
way, errors are more easily detected and corrected.
After adjustments of all the records, that is, once it is determined that all the data
in accounting records are correct, the last phase of accounting process follows, and
that is preparation of financial statements.
12.1. BUSINESS TRANSACTION AS AN INPUT

A business transaction is a business event which by its occurrence has an effect
on assets, liabilities, equity, expenses, revenues and result. Thus, business event
or business transaction is also referred to as book event, and which must have the
basic characteristics, in order to be the subject of book records. What characteristics
are they? Book event has the following characteristics:
– it really occurred;
– it can be expressed in monetary units;
– it changes positions of assets, liabilities, equity, expenses and revenues;
– it has proper book document as evidence that it possesses the aforementioned
characteristics.
We note here that in case of book off-balance records, there is deviation from
these characteristics of book event. In that case, a characteristic of effect on posi-
tions is left out, while other characteristics are present. Therefore, the unit of book
record is data arising from really occurred event (historical character) and repre-
sents its quantification on the positions.
However, business events might be different and may relate to different positions.
In that respect, we can talk about existence of different criteria about what really
happened. Thus, for example, consumption of material, we express in different
139
quantity units of measure (kilo, piece or liter), consumption of electricity, we expre-
ss in kilo-vats, and quantity measure of consumption of labor is number of working
hours. Thus, because of large number of different units of measure, it is impossible
to prepare a single report that would show all the necessary data. For the quantity
data to be comparable amongst one another, through the price they are converted
into the value as a common denominator of comparability. In this way, business
events may be presented as a summary, also on the synthetic accounts, i.e. various
financial statements. Quantity data remain recorded within various sub-ledger re-
cords and thereby accounting information does not lose its quality. On contrary, the
value expression arising from the occurred business event represents its quantifica-
tion on the positions and basis of preparing financial statements. Book documents
present and provide evidence for the event.
12.2. BOOKKEEPING DOCUMENTS

A bookkeeping document is a written proof on occurred business event, and
is used as a foundation for data entry into business books and monitoring over
carrying out business activities in accordance with the Law.
Bookkeeping documents should be distinguished from business documents, al-
though they are their consisting part. Business documentation (documents) in wi-
der terms includes all written documents on initiating, preparation, performing and
control of some business activities, which are realized by the caught property and
carrying out of business policy of a legal entity. In wider terms, business documen-
tation also contains correspondence with partners, communication of organizatio-
nal parts within the legal entity, normative acts, business plans, technical-feasibility
documentation, order-making documents for performance of business activities,
documents on provision of evidence of performing a business event and other.
Bookkeeping documents are such business documents with whose assistance
accounting of legal entity collects data. In that respect, a document individualizes
and proves a business event with the aim of bookkeeping, monitoring and control
of data, which are the change in balance of property.
The data entered into business books on the basis of the bookkeeping docu-
ments, create basis for creation of financial statements on financial position, per-
formance and changes of financial position of a legal entity.
Bookkeeping documents have the following tasks:

 basis for control of correctness of occurred business event,
 basis for data entry into business books,
 one of the basis of financial statements audit.
140
Therefore, we may conclude that documents are the basis for internal control,
especially in capacity of management. Let’s just try to globally consider internal
control procedure and its conditionality by the bookkeeping documents. For exam-
ple, conduct of regular inventories. If documents on business events for concrete
positions of property are not appropriately and timely entered into books, we are
not in a position to determine exact balance, i.e. possible differences of real and
book balance which is based on documentations. A double-book entry nowadays in
the world is a dominant bookkeeping system and one of its main characteristics and
starting points is provision of documentation of each data recording into business
books. Therefore, no data is entered without proper and valid document, regardless
of whether the data arose from business or book transactions.
12.2.1. Classification of bookkeeping documents
Accounting theory and practice has several classification criteria of bookkee-

ping documents.
Amongst them are the following criteria:

 place of occurrence,
 purpose of document and
 comprehensiveness of business events, i.e. content.
According to the place of occurrence criteria, i.e. presentation of documents, we

can divide documents into:
 internal and
 external, which we can show:
141
According to the purpose, from the point of bookkeeping:
 orders for execution of business event and
 justification documents, that is, documents proving the executed business
event.
This division is significant for identifying the purpose of these two types of
bookkeeping documents. Order for execution is used for the operating purposes
of business event execution, while justification document contains evidence that
a business event occurred and it is basis of recording in the bookkeeping records.
Therefore, orders for execution appear, i.e. order for a business event to happen,
which within the company shall influence the changes of assets, liabilities, equity,
occurrence of expenses and revenues. As for the business partners, ordered event
may create either assets or liabilities.
Most often we come across the following orders: order for issuance of material,
order for placing small inventory in use, working order in production, order for
dispatch of final products, cash payment order, etc.
Orders for execution are issued to business partners outside the company. They
are issued in a written form which order for a business event to be performed at the
burden or in favor of the company. This concerns business relations with banks,
stock exchanges, trade mediators, etc. On the basis of execution order, a justificati-
on document is prepared and it contains a proof (that an order was performed, i.e.
that the event occurred) for bookkeeping records of data. However, because of the
fact that with some business events, there are two documents, execution order and
justification document, often from rationality aspect one, combined document is
used. When preparing t such document, the order of signature entry is important, so
it is first signed by the authorized person of issuance of execution order, followed
by persons who executed a business event.
According to the criteria of inclusion of business events, we classify bookkee-
ping documents as follows:
 individual (original, fundamental, primary) documents and
 aggregate (derived) documents.
Individual (original) bookkeeping documents contain data on a single business

event. The original bookkeeping documents are prepared in the company and ne-
arby the company. Thus, for example, individual documents may be: invoices of
suppliers (inward invoices), invoices to purchasers (outward invoices), warehouse
receipts, delivery notes, etc.
Aggregate bookkeeping documents contain several, the same type business
events and they are prepared on the basis of higher number of original bookkeeping
documents. Aggregate bookkeeping documents are very often used in the bookkee-
142
ping records of occurred events, in order to have rationalization of work in the
bookkeeping. For example, payment of a number of employees’ salaries, which
represents an aggregate bookkeeping document, is created on the basis of the ori-
ginal (basic) bookkeeping documents – accounting list of salaries per an employee
for the reporting period. Besides, this may also be recapitulation of consumed raw
materials and material, gyro account statement, recapitulation of inward and ou-
tward invoices, etc. The bookkeeping documents are prepared at the place and time
of occurrence of a business event.
12.2.2. Validity of bookkeeping documents
Important elements of a bookkeeping document enter its content and make it

valid for proving a business event.
Content of a bookkeeping document (internal and external) must be such that
without any doubts and truly presents a business event and that it encompasses all
the data needed for their entry into business books.
Starting from the world and domestic practice, there are following relevant ele-
ments of bookkeeping document: title and address of a legal entity which issued a
document, name of document (eg. account), delivery note, date, place, number of
issued documents and a code, to see a date of occurrence of business event, value,
quantity (should be expressed in the way that suits the nature of performed work),
signatures of persons authorized for issuance and signing of concrete document,
and stamp (if it concerns an external document).
The aforementioned content of bookkeeping documents is a relevant element
for formal correctness of the document. The document should also have other su-
pplementary elements in order to be correct in material terms.
Therefore, a bookkeeping document is written with a pen, ink pen, ancillaries
and computer. If documents are issued in more copies, it must be recorded which
copy represents basis for recording.
Corrections, either in text or in figures, are performed in a way that possible
errors are crossed out over the initial text or number, by writing the correct text
or number over the crossed out. Such correction may be performed only by such
person that issued a document. Cash and other monetary documents must not be
corrected, but must be cancelled and new should be issued; empty spaces in the
document are cancelled. Sums on the document must be written in numbers and
letters. Therefore, if a document is materially and formally correct, it represents
a valid bookkeeping document and should timely be submitted for processing in
order to maintain update of data processing.
Internal act of a company precisely defines authorities and responsibilities of
persons in charge of issuance of documents. Responsibility for document is proved
by placing a signature. To achieve an optimal promptness of bookkeeping data
143
processing, it is possible with application of electronic devices, computer data pro-
cessing, and with such organization of documents flow, which lead to shortening
of communication channels with the application of terminological connections for
data entry in the computer at the location where the business event is taking place.
In the company which does not have data entry at the place of document occurren-
ce, it is necessary, together with the inventory of bookkeeping documents, which
are used as foundation of primary data entry, to compose an instruction of docu-
ments flow, that would contain, for example, type of documents, documents flow
and time of transfer, responsible persons for respecting transfer deadlines, persons
for including external documents for communication channels of the company, etc.
Controllers – liquidators may perform control of documents in the liquidation de-
partment. Depending on the size of the company, control of documents also may be
performed by persons located in different parts of company, and this is prescribed
by the internal act of the company.
Control of documents in the application of computer data processing has the same
objectives as in the classic keeping of book records. In the computer data proce-
ssing conditions, control of documents relates to the primary data entry. By ente-
ring the data into business books with the computer, book entry order is issued,
usually, for primary data entry – original document, and for the derived documents,
book entry order is not issued, as it is already included in the computer programme.
Book entry order could have the following content:
No of order __________________________________
Date ________________________________________
Business event sum ____________________________
Account payable ______________________________
Account receivable ____________________________
Issued by ____________________________________
Entered by ___________________________________
12.2.3. Preservation of bookkeeping documents
Depending on the type and character of bookkeeping documents, they may be

preserved for the shorter or longer period of time, which is determined by the in-
ternal document of the company on the basis of the Law on Accounting and Audit
and other tax legislation.
144
13. BOOKKEEPING ACCOUNTS
13.1. CONCEPT AND DEFINITION OF ACCOUNTS

The name account originates from the Italian word “conto”, which we can tran-
slate into “account”.71
Since the term account has many other meanings in everyday language, the
expression account is used in practical accounting language in order to clearly and
without any doubts mark that it concerns a bookkeeping and not other account. Bo-
okkeeping account presents the basis of the entire double book entry of bookkee-
ping. Accounts as parts of classification of balance represent the basic instrument
for systematic monitoring of business events which occur on the basic economic
categories, i.e. assets, liabilities, equity, revenues and expenses.
Thus, the bookkeeping account first presents an adequate opening balance of
economic category, followed by occurred business events.
For accounting, it is crucial, at data entry into the accounts, to recognize to
which positions of economic category, a business event relates to, and what is the
nature of effect to those positions. Influence of a business event is expressed with
the increase or decrease of the existing balance of the position in the account. From
this, logically arises that each bookkeeping account in double-entry bookkeeping
has basic elements:
1. name of account, i.e. position it concerns;
2. columns “payable” and “receivable”;
3. the sum it concerns;
4. description of business event;
5. date of business event;
6. newly occurred balance, i.e. balance of account.
Depending on the necessary data, account is being extended and modernized,

so, to the basic elements of the account, a number (code) of the account is added,
in order to make its recognition easier, as well as book entry and calculation tech-
nique. All until the early 20th century, accounts were not coded, nor was there chart
of accounts.
There are various types and forms of accounts depending on from what aspect
we observe the account, that is, depending on what type of records they are inten-
ded for.
71
B. Klaic, Big Dictionary of Foreign Words, Zora, Zagreb, 1972., pg. 693.
145
13.1.1. Types of accounts
With most of legal entities, in reality, number of accounts is determined to one

thousand. Accounts as data bearers have an important role. With the aim of easier
understanding and monitoring, usual systematization of accounts is in accordance
with certain criteria. Each accountant should have the knowledge about types of
accounts.
Each type of account has its specific characteristics from which are arising cri-
teria of control of correct recording of business events in the accounts. Usual
criteria are:
1) according to the quality of presented balance – permanent accounts
a) accounts of assets
b) accounts of liabilities
2) according to the performance elements – provisional accounts
a) accounts of revenues
b) accounts of expenses
3) according to independence
a) independent accounts
b) dependant accounts
4) according to classification of turnover and balance
a) ledger accounts
b) sub-ledger accounts
5) according to the balance position
a) balance accounts
b) off-balance accounts.
Accounts of assets are those which normally have balance payable, and are used
for record keeping of assets. If a balance is at receivable side, this refers to an error
in record keeping.
Accounts of liabilities are those which normally have balance receivable, and
are used for the records of liabilities and equity. Rules that accounts of assets sho-
uld have balance payable and accounts of liabilities balance receivable, arise from
bookkeeping rules, that we shall explain thoroughly further in the book.
According to the performance elements, we can divide accounts to accounts of
revenues and accounts of expenses. Revenues represent a positive, and expenses
represent a negative component of financial result, thus, arise rules of record kee-
ping in the accounts of revenues and expenses.
Accounts presenting performance elements, i.e. provisional accounts are, for
example, revenues from sale, costs of sold products, costs of sold goods, costs of
sold services, etc.
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Independent accounts represent accounts that can “stand” independently, whi-
le“ dependant” accounts are formed with the purpose of supplementing the data
that are presented in the basic account. Those are most often corrective accounts
which correct the value presented on the basic, i.e. main account. A typical example
of such account is account – value correction of assets or price discrepancy, calcu-
lated price difference, etc.
According to the possibility of classification of turnover and balance, i.e. compre-
hensiveness of data, we can classify accounts to the ledger and sub-ledger accounts.
Ledger accounts are accounts comprised of several sub-ledger accounts, and
which enable sub-classification to the consisting parts. Ledger accounts are used
for presenting the entire business operations, i.e. for composing basic financial sta-
tements. Although sub-ledger data are intended primarily for external users, usu-
ally, internal users also use the data, especially management of the legal entity.
Sub-ledger accounts represent a part of ledger accounts which they were deri-
ved from. Thus, sub-ledger accounts represent thorough records of some position.
Book-recording at the ledger account requires parallel book recording in the sub-
ledger accounts, such that total turnover at the payable and receivable side of all
sub-ledger accounts is always equal to total turnover of appropriate ledger account.
Therefore, balances also must be equal.
So, for example, for each buyer a separate sub-ledger account shall be created,
that will record all important data and business events related to this buyer, such
as account code (of a buyer), name, address, ID number, date of event, name and
number of document used for book entry (invoice, gyro-account statement), value of
receivables, date of maturity of receivables, data on collection of receivables, balance
of account, etc. Therefore, with the aim of ensuring detailed data on certain position
of assets, liabilities, equity, revenues or expenses, ledger records are organized, which
is used for the requirements of internal users. Thus, number and content of sub-ledger
accounts depends on the internal users. Apart from the above described accounts,
there are balance and off-balance accounts. As its name says, balance accounts are
accounts that are entered in the balance of legal entity. Such accounts record occurred
business events which influence property of a legal entity, i.e. which satisfy all the
considered conditions in order to be the subject of records in business books.
Off-balance accounts are defined as accounts that are not entered in the balance
of a legal entity. Apart from the past, i.e. occurred business events which had an
impact on the balance in the balance sheet, there are also events which did not occur
yet, but there is a reasonable assessment of an accountant that it will have an impact
on the presented balance in the balance sheet. Examples of such business events
are received notifications on opened letters of credit, borrowed tangible property,
rights, issued but unsold securities, etc. Such values of future business events are
normally not recorded in the balance, but in the off-balance accounts. In accordance
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with the principle of double-sided observation of an event, off-balance accounts
are always opened in the par accounts of assets and liabilities character, normally
in line with the symmetry system. In the statement itself, i.e. balance, they are pre-
sented at the end, following entry of the last balance item, as off-balance records.
13.1.2. Types of bookkeeping accounts
Forms and content of bookkeeping accounts have been occurring through hi-
story, and with their enhancements, we now have modern forms of accounts used
by legal entities.
1) Single-sided form of account or account per pagina (lat. pagina – side) is an
account which presents all the necessary elements at one side. Exactly for the rea-
son of rationalizing in creating the necessary content, single-sided form of account
is appropriate for all types of data processing. Nowadays accounts, which are used
in business practice, start from this model of single-sided account, and possibly
supplement it with other necessary data. Single-sided form of account (account per
pagina) looks as in the figure below:
Pg. 1.
year Name of account No of account
Date of
Order Desc. of book entry Payable Receivable
entry
Figure 7 Account per Pagina
2) Double-sided type of account or account per folio (lat. folio – leaf) is charac-
terized by separate book entry of date of entry, description and amount of payable
turnover, and date, description and amount of receivable book entry. Records were
kept in bounded leafs, from which the main disadvantage arises – not appropriate
for the copy book keeping records.
Chart presentation of account per Folio, we show below:
Payable Name of account Receivable

Date Desc. Pg. Amount Date Desc. Pg. Amount
Figure 8 Account per Folio
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Account per foil is no longer in use nowadays, as it was appropriate type for the
accounts which are now no longer in use.
3) Grading form of account is the oldest type of account, and it dates back to
the record keeping of the then debtor-creditor relations, which are regarded as first
book recording of organized bookkeeping. Graded form of account we present in
the figure below:
Date SIGN
Desc. Amount
of entry D (+) or C (–)
01. 01. Opening balance + 50 000
10. 01. For payment – 20 000
31. 01. Balance + 30 000
Figure 9 Graded form of account
From this type of account, today’s type of account for book entry of saving de-
posits has developed which, however, looks different. Account for book entry of
saving deposits today looks as on the figure below:
Date Inc. paym Out. paym. Balance Verif of bank
Figure 10 Account for book entry of saving deposits
4) Tabular type of account (American journal) enables simultaneous chronologi-

cal and systematic book entry of business events. It, therefore, represents a combina-
tion of day-book and general ledger. Tabular type of account has a column for date,
description of book entry, the amount that is entered into books, followed by classi-
fication as per positions from which each item has a column payable and receivable.
Tabular type of account we present in the figure below:
Company Company
Amount “A” “B”
Date Order Desc
Total
D C D C
Figure 11 Tabular type of account
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Because of such content, this type of account may be appropriate for presentati-
on of some specifications, i.e. sub-ledger records.
5) Combined type of account is most often combination of single-sided and
graded type of account, and retains all the advantages of single-sided type of acco-
unt, by enabling an insight into the balance after each business transaction. One of
possible types of combined type of account, we present in the figure below:
Date of turnover balance

Order Desc of book entry
entry Debit Credit Debit Credit
Figure 12 Combined type of account
6) “T”-account
For the needs of education in resolving practical problems of book entries, so
called “T”-account is usually used. It is presented in a form of letter “T”.
In the simplest form “T”-account has three parts: name of position (name of
account) which it concerns, and left side “payable” and right side “receivable” in
which sums of balance and changes are recorded. “T”-account is graphically pre-
sented as follows:
Figure 13 “T”-account
Therefore, expression “payable” marks book entries at the left side of the acco-
unt, and expression “receivable” marks the book entry at the right side.
13.1.3. Explanation of concepts “payable” and “receivable”
There are different theories which explain when certain positions are entered
into books as “payable” and when as “receivable”.
Terms payable and receivable are normally accompanied with mathematical
signs (+) and (–). However, also signs (+) and (–) in different theories are assigned
to the left and right side of account in different matters.
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In the past, when marking left and right sides of account with (+) and (–) unique
rule was used that left side of all accounts is marked with (+), and receivable side
is marked with (–).
However, in modern accounting of most advanced accounting countries, espe-
cially in the USA, mathematical rules of book entries marked with (+) and (–) are
different. Those rules will also be used as they are easily understandable.72
Concepts “payable” and “receivable”, and associated mathematical signs (+)
and (–) are most easily to understand if accounts are classified in the accounts of
assets, accounts of liabilities, as well as accounts of costs, expenses and revenues.
While concepts “payable” and “receivable” are always connected for marking the
left and right side of each account, at the same time pre-signs (+) and (–) change
the side depending on which accounts in the balance it concerns. Namely, in the
accounts of assets, payable side is marked with (+), and receivable with (–), and in
the accounts of liabilities is vice versa, payable side is marked with (–), and recei-
vable with (+).
All increases in the accounts of assets are entered into books as payable and are
marked with (+). With the decrease in the accounts of assets it is vice versa. Decre-
ases are recorded in books as receivables and are marked with (–).
All the increases in the accounts of liabilities are recorded in books as recei-
vable and are marked with (+). With the decreases in the accounts of liabilities, it
is vice versa. Decreases are recorded in books as payable and are marked with (–).
Rules of book recording “payable” and “receivable” and signs (+) and (–) in the
balance accounts, we show in the figure below:
Figure 14 Rules of book records in the balance accounts
72
Gray / Needles, Financial…, quoted, pp. 46-53.
151
Successful accounts which belong to the balance (income statement), in terms
of determining pre-signs (+) and (–), are liable to the logic of liabilities for a reason
that the result obtained from the difference of expenses and revenues, either incre-
ases or decreases equity.
That is why in the mathematical form of balance, revenues are added up with
equity (in liabilities), and expenses are deducted from equity.
Since there is a pre-sign (–) before the account of expenses, according to the
mathematical rules for resolving the pre-sign in the expressions placed in brackets
in front of which there is a pre-sign (–), items in brackets change the pre-signs.
Thus, payable side of the account of expenses instead of a pre-sign (–) will get a
pre-sign (+), and receivable side instead of a pre-sign (+) will get a pre-sign (–).
A full mathematical form which is applied in the book records in the account, we
show with the following figure:
Figure 15 Mathematical form for book recording in the accounts
Costs which precede to the expenses have the same book recording rules as ex-
penses. Thus, costs are recorded as payable and this transaction is mathematically
recorded with (+).
Based on the previous interpretations the following book recording rules may
be defined:
1) Increase in all accounts of assets is recorded as “payable” (+);
[decrease is recorded as receivable (–)]
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2) Increase in all accounts of liabilities (liabilities and equity) is recorded as
“receivable” (+);
[Decrease of equity and liabilities is recorded as payable.]
3) Revenues are recorded as receivable (+) as they increase private equity;
4) Profit is recorded as receivable as it increases equity;
5) Costs are recorded as payable as they are either current or future expenses
that decrease equity;
6) Expenses are recorded as payable as they reduce equity;
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7) Loss is recorded as payable as it reduces equity.
13.1.4. Opening of bookkeeping accounts
Opening of accounts for systematic recording of occurred business events on

assets, liabilities and equity is usually performed on the basis of opening balance sheet.
With the newly established legal entity, accounts are opened with opening ba-
lance, based on the inventory of property on the day of acquiring a status of legal
entity. First business events occur, usually, straight after establishing a legal entity.
With the legal entity with business continuity, background for opening account is
balance of the previous period, which, at the same time represents opening balance
for the current period. The procedure itself of opening the account of assets and
liabilities is nothing else but sub-classification of balance into its consisting parts.
Thus, opening of account and first book recording is performed on the basis of
an opening balance and valid document on occurrence of first business event. This
means that, when we are opening an account during the business year, on the basis
of occurrence of business event, which requires opening of new account, in that
case on the basis of valid document on the event, we do so.
When it comes to opening of accounts at which occurrence of revenues and ex-
penses are monitored (accounts of position of performance) in that case we should
take into account the fact that these positions cannot be transferred from one busi-
ness year into another. Therefore, accounts of revenues and expenses are opened
during the year on the basis of valid document on first business event which relates
to a concrete element of expenses or revenues. There is analogous procedure of
opening an account of financial result, only that document for their opening is cal-
culation and allocation of difference of revenues and expenses.
Each account should contain the title which needs to be adequate to the content
of that account. This means that name of the account must be clear and doubtless,
as it reflects not only the content, but also characteristic of the account. Name of
the account enables fast performance of book recording of occurred business events
and easier finding of way in searching for bookkeeping accounts.
According to the aforementioned, we may conclude that accounts are opened
at the beginning of the business year (1 January, i.e. on the day of foundation of
a legal entity) or on the day of occurrence of first business event, which causes
a change in some position, and that an opening balance (for the positions which
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exist in the balance sheet), is used as background, i.e. valid bookkeeping document
which describes occurrence of first such business event. Following opening of boo-
kkeeping accounts, recording of occurred events follows, according to the rules for
recording of business events.
Opening of bookkeeping accounts on the basis of opening balance was presen-
ted in the previous (fourth chapter).
13.1.5. Fundamental rules of recording business events

in the bookkeeping accounts
In the double-entry bookkeeping, fundamental rule is that each business event

must be recorded with at least two positions, from which one is recorded as paya-
ble, and another one as receivable. Thus, each recording implies entry of position
and simultaneous at least one counter-position, as noted earlier in the text. Howe-
ver, one recorded position may have two or more contra-positions.
Therefore, it is necessary to emphasize basic models of recording:

1. Recording of position and counter-position in the same amount, and
2. recording of more counter-positions for one position.
1) Book entry of position and counter position in the same amount
If, for example, increase in some position of assets occurs with simultaneous
increase of liabilities by the same amount of KM 10 000, it shall be recorded as:
2) Recording of more counter-positions for one position
Book entry rules in double-entry bookkeeping allow that for one position two or
more counter-positions are recorded, but under the condition that the sum of paya-
ble and receivable positions is equal.
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So, for example, if the account (invoice) of supplier is recorded for consumed
electricity, partly on the costs of production and partly on the administration costs,
there will be one receivable book entry in the account of Liabilities towards su-
ppliers, as well as all payable book entries, will be recorded in various accounts of
costs.
If it is assumed that received invoice of supplier for electricity in the amount of
KM 5 000, plus 17 % VAT, in the amount of KM 850, should be recorded 80 % on
production costs and 20 % on costs of management, sale and administration, book
entry will look as follows:
13.1.6. Closing of bookkeeping accounts
Usually, at the end of each year, which in our case matches the calendar year,
closure of accounting accounts is conducted. However, occasionally accounts are
also closed during the business year, and exceptionally in cases of statutory changes
(dissolution, merger, liquidation of legal entity). Thus, at the end of each business
year, calculation of business operations is performed, which is to determine the ba-
lance of assets, liabilities and equity, as well as performance of business operations.
In order to determine balance in the accounts, at the end of reporting period,
accounts are being closed. The procedure itself of closing the account depends on
the type, i.e. category which the account identifies.
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Accounts of revenues and expenses are closed with mutual matching when de-
termining performance of business operations. In the essence, it does not concern a
classic closing of account, as there is no closing balance here, but we can talk about
settlement of results that influences the amount of equity. Therefore, the difference
between revenues and expenses (profit or loss) corrects the value of equity and is
recorded in the balance (balance sheet of legal entity). Exactly for these reasons,
accounts of revenues and expenses do not have an opening balance in the future
period.
Accounts of assets and liabilities are closed in the following manner: first paya-
ble and receivable turnover of accounts is determined, and after that, settlement
balance is determined as a difference between payable and receivable side. Settle-
ment balance, or so called closing balance, is recorded for formal reasons at the side
with minor turnover (although it belongs to the side of major turnover). Following
these activities, balanced turnover of payable and receivable side is recorded and is
underlined with double line as a sign of closing of account.
Example of closing of gyro account and account of suppliers at the end of the
reporting period and opening of the same accounts at the beginning of the reporting
period are shown below on the chart:
Piture 16 Closure of account
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From this example it is obvious that settlement balance, i.e. CLOSING BA-
LANCE at the end of the year, at the same time is OPENING BALANCE in the
same account, but following year. This means that by breaking down turnover in
the account, opening balance of a legal entity is determined, which is continuously
running its business operations.
Determined closing balances are recorded in balance sheet, after conducted inven-
tory, i.e. inventory with which bookkeeping balance is brought down to the real ba-
lance. The aim of closing the account is to enable preparation of mandatory financial
statements. It is maybe necessary to emphasize once more that opening balances in
the account of assets, liabilities and equity are opened on the basis of opening balance
sheet. During the reporting period, in the accounts of assets, liabilities and equity,
revenues and expenses, events arising from occurred transactions are recorded.
At the end of the reporting period, closing balances are determined in the acco-
unts of assets, liabilities and equity and they are recorded in the closing balance on
31 December of the current year, and which represent opening balance on 1 January
of the following year.
In modern circumstances, most legal entities dispose with good computer and
programme support, so this procedure of closure and simultaneous opening of
account in business books is performed within the programme according to the
order by authorized person.
13.1.7. Chart of Accounts
Chart of accounts is a written document in which, with a code and name, acco-
unts for presentation of assets, accounts for presentation of liabilities, accounts
for presentation of equity, accounts for presentation of expenses and accounts for
presentation of revenues are recorded.
Chart of accounts appeared in the accounting practice at the end of XIX century.
Its worldwide application took place between the two world wars, and its blooming
took place after 1950s of XX century.
In the past, in our region, chart of accounts was prescribed and all the legal en-
tities, regardless of their activity, had to apply it. Mandatory application of a single
chart of accounts was a consequence of regulations on single-entry bookkeeping,
adopted in 1945 after the Second World War.
Such prescribed chart of accounts represented criteria of systematization, but
also criteria of disclosure for the needs of the state and other external institutions.
However, by passing the Law on Accounting in 1995, our accounting endeavored
to get closer as much as possible to the accounting regulation of developed world.
In those, terms, provision on mandatory single-entry bookkeeping was cancelled, so
in creating such important organizational tool, there was consideration that in some
countries, obligation of application of chart of accounts is different, in a way that:
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 contents of chart of accounts mandatory applicable, are prescribed;
 they prescribe mandatory chart of accounts for which a chart framework is
determined, and management of the company is responsible for developing
its content;
 application of chart of accounts is recommended.
When creating a chart of accounts, it is necessary to take into account provisions

of the Law on Accounting and Audit of the Federation of Bosnia and Herzegovi-
na (“Official Gazette FBIH”, no. 83/09), requirements of International Financial
Reporting Standards (IFRS), which also encompass international accounting stan-
dards, it is also necessary to define requests of managers for information and other.
Given that there are many such requests, it will be necessary to organize a large
number of accounts, and that means to create and associate a number of meaningful
numbers, that is, codes of accounts.
For the code to be a good instrument of systematization, that is, a good address
with whose assistance we can easily get to the requested recorded position, it is
necessary to associate the numbers in accordance with some principle. This means
that for those who will decide to go for establishing an individual (their own) chart
of accounts, it is necessary to emphasize that because of numeral marking of acco-
unt, they first need to determine its formal framework, and then material content.
Formal framework is tied to the formal appearance of the chart of accounts,
systematization criteria and break down of accounts.
In the accounting theory and practice, applicable systematization criteria are

following:
 decade,
 alphabetic and
 combined system.
Decade criteria, that is, decade system is the most known and most spread in the
world. The main characteristic of decade system is related to classification on the
basis of number 10. According to it, the whole chart of accounts is divided into 10
classes (sections). The sign of class has only one figure (digit), from 0 to 9. Each
class is divided into 10 groups of accounts (two digits), and each group further to
10 basic, i.e. ledger accounts (three digits), each ledger account into 10 sub-ledger
accounts (four digits) etc.
In short, it is possible to write:

 chart of accounts has 10 classes, from 0 to 9;
 each class has 10 groups of accounts, from 00 to 99;
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 each group of accounts has 10 ledger accounts, from 000 to 999;
 each ledger account encompasses 10 sub-ledger accounts, from 0000 to 9999;
 each sub-ledger account encompasses 10 sub sub-ledger accounts, from
00000 to 99999;
 etc.
With large legal entities, sub-ledger accounts are normally further classified, so
it is possible that number of account has 5, 6, 7, or even more digits.
Unlike decade system, with alphabetic system criteria, number 10 is not a base,
but alphabet. According to these criteria, accounts are systematized in accordance
with the first letter of alphabet (from A to Z). These criteria of systematization may
be useful in some cases, such as, for example, for the needs of systematization of
account of purchasers or suppliers.
Apart from these two systems, combined system may also be used, in which
accounts are systematized both according to the number and alphabet criteria.
From all the aforementioned systems, in the world, the most applicable system
is the one which is simplest to use, and that is the system of number 10, so called
decade system.
In further phase of creating the chart of accounts, material content is determi-
ned, first of class, followed by group of accounts, and at the end, account. Thus,
in this phase it should be determined in which class from 0 to 9 will be presented
assets, liabilities, equity, costs, expenses, revenues, business result. In that respect,
in practice, functional, balance and combined principles are applied.
Therefore, in BiH, allocation of accounts in the chart of accounts / framework is
based on the functional or balance principle, but also on the combination of these
principles. In that respect, positions are also classified within all 10 classes, but in
the following manner:
Class 0 Non-current assets and long-term placements

Class 1 Inventories and assets held for sale
Class 2 Cash, sort-term receivables and short-tem placements
Class 3 Equity
Class 4 Liabilities, provisions and accruals
Class 5 Expenses
Class 6 Revenues
Class 7 Opening and closing of balance sheet and income statement
Class 8 Off-balance records
Class 9 Calculation of costs and outputs
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Each class is divided into groups (double-digit number); each group is divided
to the ledger three-digit accounts which form basis of ledger records of general
ledger. With the internal act, legal entity precisely divides ledger accounts to the
adequate number of sub-ledger accounts, which it breaks down to decades of com-
bined method, and legal entities select the most appropriate one. This entirely re-
lates to class 8, which is free, and legal entity uses it entirely for its internal needs.
It means that a legal entity creates its internal (it’s own) chart of accounts which
is binding within a legal entity and as such provides homogeneity in business books
records, in accordance with positive legislative regulations.
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14. BUSINESS BOOKS
Business books are records of data on occurred business events which are formed
with recording the data in accordance with some accounting principles, standards
and techniques.
By registering at the Court Registry, a company acquires a status of legal entity
and amongst other, has an obligation to keep business book records in accordance
with the principles of double-entry bookkeeping. The form itself of business books
depends on the technique on which data processing is based. It is necessary to note
that business books do not necessarily have to be in the form of book, but those are
mainly separate leafs (accounts) which need to be bounded at the end of the year,
and thereby we get the appearance of real book. Also, in case of computer data
processing, business books at the end of the year must be printed out and bounded.
These records are kept for one business year which matches the calendar year.
Following the expiry of business year, business books are closed and financial sta-
tements are made on their basis.
Business books are divided into:
A) MAIN RECORDS
 day-book and
 general ledger;
B) SUB-LEDGER RECORDS
 sub-ledger records and
 other ancillary books.
14.1. MAIN BUSINESS BOOKS

14.1.1. Day-book
Day-book is the main business book which records business events with chro-
nological order, i.e. they are recorded in the order as they occurred. Day-book is
organized as a single business book (which is more often in practice), but may also
be organized as several books specialized for business events in certain groups of
the accounts of balance or off-balance records.
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If a day-book is organized in a form of several specialized books, most often the
following types of day-books are recorded:
 day-book of financial bookkeeping and
 day-book of sub-ledger book-keepings (day-book of purchasers, day-book
of suppliers,
 day-book of material bookkeeping, day-book of non-current assets, etc.).
Main methods of entering the data in day-book and their transfer to general
ledger are:
a) transfer method,
b) copy method and
c) electronic data processing method.
a) Transfer method is characterized with data recording first in day-book in chro-

nological order, and then in the accounts of general ledger or other business records.
This method appears in manual bookkeeping, and nowadays in practice of legal en-
tities is rarely used, normally in very small legal entities. Disadvantage of transfer
method is that it is slow, and error possibility is huge. Transfer method is now wide-
ly used in education programme of accountants’ beginners, i.e. at the courses from
accounting in high schools, at under-graduate programme and master studies. We
can show bookkeeping scheme by using transfer method in the following chart:
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Explanation of signs: (1), (2), (3) and (4) mark the order of data entry in the day-
book and their transfer to the accounts of general ledger.
Although nowadays in practice of legal entities, transfer method is very rare, it
shall remain in the future as fundamental method in the programme of education
and creation of professional instructions.
b) Copy method is a method of manual book entry. Application of copy method
has developed as a result of discovery of carbon paper, which enables provision of
copy of records of occurred business event. It means that with copy method, there is
a simultaneous bookkeeping both in day-book and general ledger, at which, in day-
book, events remain recorded in chronological order, and in general ledger events
are systematized in accordance with type of assets, liabilities, equity, revenues and
expenses. Application of copy method requires for the day-book and general ledger
to be identical. Thus, day-book and general ledger should be in a form of separate,
i.e. free pages which are bounded together at the end of the year, and get the appe-
arance of real business book.
Day-book and account-cards of general ledger are manual data proce-
ssing in which copy method is applied and they must contain the minimum
elements:
– date of book entry of business event,

– document on whose basis business event is recorded,
– description of business event and
– value of business event at the side payable and receivable.
Although not forbidden by the law, manual data processing is rarely appli-
ed. Development of technique and technology, as well as increased num-
ber of business events, has conditioned the application of electronic data
processing.
c) Electronic data processing method implies use of computers and special
accounting programmes. This method is nowadays used in the accounting practi-
ce without any exception. In the circumstances of computer data processing, bu-
siness books do note lose its significance, but they only change they way they
look.
Main data are entered into the computer by using keyboard. The computer im-
plies machine (hardware) and programme (software). Data which are entered are
controlled on the computer screen. Entered data are processed with the help of
computer by issuing appropriate orders. Main data on business events are entered
into the computer base, and programme automatically creates day-book and gene-
ral ledger. It is necessary to note that in the circumstances of electronic data pro-
cessing, electronic recording is conducted only once and further with programme
164
orders it is transferred into all the necessary records. It is significant that computer
data processing enables presentation of entered business events, apart from chrono-
logical, also systematized as per accounts, and per many other criteria, for example
per date of document, various specifications, which is important from aspect of
control of performed book records.
Both in the circumstances of manual data processing and in the circumstances of
computer data processing, the rule is applied that the sum of payable, i.e. receivable
side of day-book should be equal to the sum of payable, i.e. receivable sides in the
accounts of general ledger.
Day-book has a significant control function which arises from the fact that the
same business events are simultaneously recorded also in general ledger; a lo-
gical conclusion is that the value of business events recorded in day-book sho-
uld be equal to the value of events recorded in general ledger. If the method of
double-entry bookkeeping is correctly applied, total payable turnover at the end
of the page of day-book shall be equal to the total receivable turnover. Therefo-
re, taking into account the fact that the same business event is first recorded in
day-book in chronological order, and then in general ledger, only systematized
in different manner, leads to the requirement that the value of presented turnover
of payable and receivable side of day-book must be identical to the value of the
turnover presented in the accounts of general ledger. Therefore, the first is tho-
rough control of book records, whether payable turnover is equal to receivable
turnover.
Apart from a significant control rule, day-book also has other rules, for example,
it makes easier to identify book errors, in case of destruction of general ledger, it
enables its reconstruction, it enables determination of current number of bookkee-
ping approaches, it has an evidence power as data entry on occurred business event
is based on the bookkeeping documents, etc.
In professional circles of electronic bookkeeping data processing, there are pro-
posals for abrogating day-book as it is regarded as unnecessary business book.
However, its control role which influences the quality of accounting information
provides justification of existence of day-book as business book.
Further below, the manner of bookkeeping in day-book we shall present on the
basis of the following example, by using a form of Italian day-book which is used
at school because of its educational capacity.
Balance sheet of a company “Sarajevo” in Sarajevo on the day 01 January of
current year was following:
165
ASSETS: Construction buildings 240 000
Equipment 160 000
Gyro account 50 000
Petty cash 1 000
Purchases 14 800
Inventories of material 26 000
Production in progress 34 000
Inventories of final products 40 000
TOTAL ASSETS 565 800
LIABILITIES: Subscribed paid original equity 320 000

Liabilities on long-term credits 165 000
Suppliers 20 800
Liabilities on short-term credits 60 000
TOTAL: EQUITY AND LIABILITIES 565 800
Business events in January:
3 Jan. Per invoice no. 10 material was acquired from 2 000

suppliers at acquisition cost, plus VAT 17 %. 340
Material was received in warehouse
5 Jan we withdrew from gyro account cheque no F7227480

cash for the needs of petty cash 1 000
7 Jan via gyro account we transferred to the suppliers amount of 2 340
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Book entry in day-book:
Company “Sarajevo” – Sarajevo
Diary for January of current year Page 1

TURNOVER
No Date Desc Call
PAYABLE RECEIVABE
1. 1. Ac. Buildings 1 240 000
Ac. Equipment 2 160 000
Ac. Gyro account 3 50 000
Ac. Petty cash 4 1 000
Ac. Buyers 5 14 800
Ac. Inventories of material 6 26 000
Ac. Production 7 34 000
Ac. Inventories of final products 8 40 000
Ac. Shar Eq 9 320 000
Ac. Liabilities on long-term credits 10 165 000
Ac. Suppliers 11 20 800
Ac. Liabilities on short-term credits 12 60 000
For opening balance in line with balance sheet
2. 3. Ac. Inventories of material 6 2 000

Ac. Receivable for input tax 13 340
Ac. Suppliers 11 2 340
For acquisition of material
3. 5. Ac. Petty cash 4 1 000

Cash withdrawal from gyro account
4. 7. Ac. Suppliers 11 2 340

For paid liabilities

Sum of page 571 480 571 480
Transfer from previous page – –
Transfer to the following page 571 480 571 480
We open a day-book at the beginning of the business year and we keep records
continuously until the end of business year. Chronological recording of business
events implies that we make records in accordance with the day of their occurrence
and by page.
167
Column of ordinal number if bookkeeping item. Bookkeeping item is rounded
unity of book recording of occurred business event, so in day-book we have enti-
rely presented business event, respecting the principle of double-sided book recor-
ding in double-entry bookkeeping.
Date column is used for recording the time, i.e. date when a business event
occurred. In the title itself of day-book we record a business year to which the day-
book relates, and it might be a month too. If in the title itself of day-book we recor-
ded month and year which the day-book refers to, then in date column, we record a
date, i.e. the day of occurrence of business event.
If in the title of day-book we record only a business year, then in date column
we record the day and month of occurrence of business event.
Description column is used for conducting book recording of a business event.
In which way? We first record accounts payable and then accounts receivable, de-
pending on whether it concerns single-entry bookkeeping item or multi-entry bo-
okkeeping item, and at the bottom we record description of a business event. It is
logical that we first record opening balances in the accounts on the basis of opening
balance and we first record payable records. Payable sums appear in left column of
turnover “payable”. Account(s) receivable appear below payable records and they
are drawn in, and receivable sums appear in right column of turnover “receivable”.
At the bottom is description that this is an opening balance in line with balance
sheet and we continue recording occurred business events by chronological order.
Call column is used for recording the number of account in which we shall
record business events in general ledger. This data is entered at the moment of
transfer, i.e. data entry to appropriate “T”-accounts in general ledger. Therefore,
numbers in call column indicate that book records were performed in appropriate
“T”-accounts. They, also, leave traces for audit, i.e. they present the manner of
monitoring the sum in general ledger back to its source.
Turnover of day-book is accumulated. This means that book recording is perfor-
med as per pages, so when we fill in one page of day-book, we continue recording
on the following page, so the turnover of day-book is accumulated per pages in two
ways. Therefore, when recording on each following page, we transfer the sum from
the previous page of day-book and we continue recording, or total turnover from
the previous page is added to turnover of each page and it is summed up and in this
way turnover of day-book is accumulated. Thus, at each moment we dispose with
total turnover of day-book, which may be used for sub-ledger purposes.
14.1.2. General ledger
We record the same business events in the general ledger, as in day-book, only
that here we make their break-down per subject, i.e. positions they relate to. Thus,
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there is another name for this main business book “systemic records”. Since it
encompasses transactions on all economic, i.e. accounting categories, apart from
its systemic and chronological characteristic, there is a saying that it represents
comprehensive records. General ledger occurs by breaking down balance sheet
to its consisting parts. For each position of balance, a separate ledger account is
opened which records business events during the reporting period. General ledger
represents a group of ledger accounts. Allocation of accounts in general ledger is
based on, in advance prepared chart of accounts. We can present the general ledger
printed on separate pages as follows:
Figure 17 General ledger
General ledger is comprised of two mutually autonomous parts, as follows:

 balance records and
 off-balance records.
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General ledger of balance records encompasses all balances and flows in the
accounts of assets, sources of assets, costs, expenses and revenues of a legal entity.
General ledger of off-balance records encompasses some business events which,
at the moment of their occurrence do not have any influence on changes in balance,
but provide additional information on use of borrowed property, for example, rights
and liabilities which, in the future may have an impact on changes in balance and
similar. Data recorded in general ledger may, depending on needs of users them-
selves, be printed out in the course of business year. At the end of the year, general
ledgers are bounded together, and are kept in accordance with deadlines set out by
internal act.
14.2. SUB-LEDGER BUSINESS BOOKS

Sub-ledger records are those which are organized with the aim of further brea-
kdown of some account of general ledger, or which, with the data, supplement some
accounts of ledger records. Therefore, we have the following sub-ledger records:
 sub-ledger records and
 other ancillary records.
In sub-ledger records, for each of them, applies the rule that they have the
same subject of recording, as well as main account in general ledger, with a note
that the sum of turnover and balances of all sub-ledger accounts in some records is
equal to the turnover and balance of appropriate ledger account. Some sub-ledger
records get the title, depending on the balance position, which is recorded in the
main account of general ledger. So, in practice, there are sub-ledger records: of ma-
terial investments, material, production, final products, goods, employees’ salaries,
buyers, suppliers, etc.
Introduction of sub-ledger records with the assistance of computer does not
always condition forming a special file. Namely, preparation of an application pro-
gramme may be connected both in terms of ledger account of general ledger and
its sub-ledger break down. With sub-ledger records, successful connection of sub-
ledger programmes and operating records may be performed. It is important that,
when needed, it can be listed on the computer, i.e. that content of data may be read
on screen, which is specific for concrete sub-ledger records and that control may be
performed of this part of business operations.
Other ancillary records are those which supplement data on some positi-
on in general ledger, or which provide any other data according to the effective
accounting legislation: cash book, inventory book of non-current assets, book of
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inward invoices, book of outward invoices, book of foreign exchange currencies,
book of bill of exchange maturity, book of shareholder’s equity, etc.
Opening and closing of business books
Fundamental rule is that business books are opened at the beginning of business
operations of a legal entity, i.e. at the beginning of a business year. Business year,
in accordance with positive legislative regulation matches with the calendar year,
i.e. 1 January – 31 December of current year. This means that at the end of each bu-
siness year, settlement of business operations should be performed, which, means
that at the end of the year, business books should be closed. Since business books
represent a group of accounts, the manner of closing business books is tied to the
manner of closing an account shown in the part “Bookkeeping accounts”. Electro-
nic data processing requires that at the end of business year, following completion
of closure, business books are printed out and bounded together. In this way, clo-
sed and bounded business books must be kept in respectable deadlines determined
with the internal documents of legal entity in accordance with positive legislation
deadlines.
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15. FINANCIAL STATEMENTS
AS AN OUTPUT
15.1. PRE-CONCLUDING ACTIVITIES

Fundamental periodic or final financial statements must provide true, fair, reliable
and impartial review of assets, liabilities, equity, assessment of financial position
and performance of business operations, i.e. profit or loss. In order to ensure high-
quality features of financial statements at the end of reporting period, it is necessary
to perform final settlements of all costs and carry out appropriate adjustments in
the positions of assets and liabilities, as well as in the positions of receivables and
liabilities in regard to taxes.
Typical example of such settlement is calculation of depreciation. It is known
that equipment during its use is being consumed. It is necessary to note that, at the
beginning of the year, on the basis of selected settlement methods, pro forma in-
voice of depreciation is created, which is used as basis for recording and preparing
periodic financial statements.
Therefore, at the end of the year, it is mandatory to conduct final calculati-
on of depreciation, which presents all the changes occurred during the year on
non-current assets, regardless of whether it concerns new acquisitions or occurred
disposal.
On the basis of final calculation of depreciation, recorded amount of deprecia-
tion is corrected (increases or decreases) and in that way, it is brought down to real
value. In order to provide real data in business books, it is necessary to conduct
some other calculations, for example, calculation of time accruals of costs, expen-
ses and revenues. Performance of final calculations is only one of pre-concluding
activities. At the end of the year, adjustment of sub-ledger records with ledger
records should be performed.
Thus, data should be transferred from sub-ledger bookkeeping into general
ledger, with the aim of verifying identicalness and correctness of data in those
records.
Apart from the mentioned procedures, at the end of reporting period,
i.e. before preparing basic financial statements, it is necessary to verify the
correctness of data in business books, on whose basis statements are prepa-
red. For those reasons, so called gross (trial) balance, that is, closing sheet is
created. One of the ways of checking the correctness of data is by performing
inventory.
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15.2. INVENTORY
Inventory is a list of assets and liabilities, whose aim is adjustment of real balan-
ce with the bookkeeping balance.
Normally, inventory is performed in the following cases:
 at the beginning of business operations,
 at the end of each business year,
 once statutory changes occur,
 when change in prices of products or goods occur, and
 in case of opening the procedure of bankruptcy and liquidation.
Management, by its own will, may implement a full or partial inventory, outside
the deadlines and cases mentioned above. The inventory identifies a real balance of
the positions of assets and liabilities, which is then used for adjustment of balances
recorded in business books with this real balance. Inventory is, therefore, a control
procedure, with whose implementation, bookkeeping-records of continuous busi-
ness have the irreplaceable task.
This task is achieved in the fact that bookkeeping balance says “how much of
something should be there” in legal entity, and conducted inventory says “how
much indeed of something there is”. By comparing the needed balance determined
in such manner with actual determined balance, if they are equal, we confirm the
correctness, i.e. the authenticity of bookkeeping balance and there are no inventory
differences. If, however, by comparing real (inventory) balance with the bookkee-
ping balance, we determine that there are discrepancies, then the difference of hi-
gher inventory (real) balance represents “inventory surplus”, and lower balance re-
presents “inventory shortage”. In organizing inventory, it is necessary to determine
which type of inventory is the most appropriate in order to achieve the objective of
inventory, observed in line with the period of performance and in line with covera-
ge of assets and liabilities.
Starting from the period of performing inventory, we differ:
 ordinary inventory,
 extra-ordinary inventory and
 current (continuous) inventory.
According to the criteria of inventory coverage, we differ:

– full inventory and
– partial inventory.
So, for example, inventory at the end of the business year is ordinary and full as
far as its coverage is concerned. Inventory, conducted as a result of change in price
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is an extraordinary inventory, and by coverage criteria, it is partial, etc. Inventory
procedure is performed in several phases:
 preparatory activities (organization of inventory commissions, preparation
of inventory lists, preparation of warehouse for inventory);
 determining real balance and its comparison with the balance in bookkeep-
ing records;
 preparing inventory reports;
 consideration and making decisions regarding inventory reports..
For conducting inventory of assets and liabilities in a legal entity, the necessary
number of standing (most often with continuous type of inventory) or interim com-
missions are established. Each inventory commission should have three members,
that is, chairman and two members.
Relevant body of a legal entity makes a decision on appointing a chairman and
members of certain commissions. This can be either director or management. The
decision appointing chairman and members of the commission, for each commi-
ssion must contain subject and place of inventory, tasks of commission members,
time, that is, day of inventory taking, deadline for submission of inventory report,
responsible person for organization and professional supervision of inventory in a
legal entity, etc.
Inventory commission, in accordance with the decision of a legal entity, with
the plan of inventory or some other act, may hire an expert for assessing qualities
and values of some forms of assets, receivables and liabilities. These persons, are
normally not (but can be) members of commission, but are they are assisting the
commission by providing an expert opinion in their inventory taking.
When determining composition of certain commissions, it is necessary to note
that persons materially or financially in charge for property, which is being the su-
bject of inventory and their direct superiors cannot be appointed for the inventory
taking of this property.
Preparatory activities for regular inventory of assets and liabilities include ma-
king a decision on inventory or plan of inventory.
In these and other internal documents of a legal entity, it is necessary to deter-
mine and specify tasks of certain inventory commissions on one side, then tasks of
some heads, persons materially responsible of assets which are the subject of inven-
tory, and tasks of employees responsible for the bookkeeping records. Preparation
of inventory commissions includes informing all the members about the purpose of
inventory, about the content of their task, their responsibility, and similar.
Instruction in a written form prepared by the person responsible for organization
and implementation of inventory, may be used as a way of preparing members of
the inventory commissions. Heads of some units and persons responsible for the
assets that are the subject of inventory, must prepare assets for inventory – to group
174
the same kinds of use values, to separate non-usable and damaged use values, to
separate possible borrowed assets, to resolve the issues of complaints, to shed ma-
terials that cannot be weighted (coal, sand, sugar beet and similar) and prepare them
for estimating quantity, to organize work in such manner that will enable undistur-
bed inventory taking, to prepare the inventory lists which might have the following
form and content:
Warehouse: Inventory commission

Warehouseman: 1.
Inventory began: 2.
Inventory completed: 3.
REAL BOOK difference

Unit of BALANC BALANCE
No code Name SURPLUS SHORTAG
measur
Objection
Quan Amount Quan Amount Quan Amount Quan Amoun
Completed under number Signature of members of inventory

commission
1.
Signature of warehouseman: 2.
3.
Figure 18 Inventory list
We have to note that inventory lists are entered into the bookkeeping balance on
the day 31st December of current year, which means that this balance implies ba-
lance determined after all business events, which occurred by that day, are recorded
in bookkeeping records.
Therefore, the task of each inventory commission is to determine the real ba-
lance of assets with physical inventory taking, to record the data on real balance
into the inventory lists. Together with the real balance, inventory commission also
records in the inventory lists, data on balance in bookkeeping, and determines and
presents in the lists inventory differences, i.e. surpluses and shortages.
175
It is understandable that with counting, weighing or measuring they can make
an inventory of positions of tangible assets. It should particularly be noted that data
from bookkeeping department are not entered into the inventory lists by employees
from this department, but by the inventory commission.
Legal entity, holding borrowed assets, for example, assets taken for preservati-
on, repair, products and goods in the commission and similar, is obliged to make a
separate inventory of such assets for each person, i.e. legal entity which these assets
belong to. Inventory of receivables from buyer of liabilities towards suppliers is
not conducted by summing up or by repeated verification of all issued or received
invoices, but with verification, that is, with comparison, i.e. adjustment with the
records in bookkeeping department of business partner.
This adjustment is most frequently conducted through the statement of open
items (inventory of unsettled items, closed items) which the buyer either confirms
or makes an objection, which is further verified until final adjustment. This is also
referred to as confirmation or balance confirmation. In this way, the total value
amount of receivables from a buyer is determined. Apart from total amount of
receivables, inventory commission should also assess their reality for payment co-
llection and possibly suggest their write-off.
The last phase of inventory is report writing on completed inventory, and we
believe that it should contain the following:
 opinion of commission, and especially of employees handling material and
monetary values regarding determined shortages or surpluses, about causes
and adequacy of these discrepancies, types of available assets, turnover vol-
ume, etc;
 opinion and data on actual outage, ullage, defect and breakage and
discrepancies compared to the allowed sizes in accordance with the internal
act and tax aspect;
 proposal for value correction and permanent write-off, i.e. writing off of
some assets with the explanation;
 opinion on appropriateness and timelines of undertaken measures for collec-
tion of due but not collected receivables, with a special reference and presen-
tation of receivables facing difficulties in collection. It is also necessary to
provide, for such receivables, proposals of value corrections and permanent
write-off with a special presentation of obsolete receivables;
 all the aforementioned for receivables should also be done for liabilities;
 proposal for the way of recording inventory differences, i.e. surpluses and
shortages;
Organizational-control objections and proposals relevant for internal control

over tangible assets, money, liabilities and receivables of a legal entity.
176
Reports on performed inventory, together with the inventory lists are submitted
to the management for consideration and decision making process in appropriate
deadline for producing financial statements which are determined by the internal
document.
Governing, supervisory board or some other merit-based authority of a legal
entity considers the report and discusses the performed inventory, with obligatory
presence of members of commission and heads of accounting departments, with
the aim of reporting about completed inventory. Following management’s conside-
ration on completed inventory, report, together with the inventory lists, decisions,
conclusions and decisions is submitted to the accounting department of a legal en-
tity for bookkeeping purposes of the discrepancies and adjustment of bookkeeping
balance with the actual balance in line with the inventory.
Thus, inventory has a significant control role, and thus it should not be under-
stood exclusively as legal obligation, but also as corrective and protective measure
that is used to achieve a benefit.
15.3.BOOKKEEPING ERRORS
AND METHODS OF THEIR CORRECTIONS
In business books, numerous occurred business events are recorded, which need
to be correctly and truly presented to match the actual balance.
However, sometimes errors might occur, regardless of the fact that many con-
trols are embodied into the accounting process. Errors make a disorder with the
correctness of presented balance, so we are obliged to find a way to remove them.
The essence of each bookkeeping error is that it is accidentally, i.e. not on purpose
done, and as such it reflects negatively on the correctness of accounting informa-
tion.
If it concerns intentionally made errors, which intentionally change the data,
then such errors are considered as forgery and they are legally sanctioned. Errors
that occur in the accounting may occur for different reasons, i.e. they are of diffe-
rent nature, and according to the criteria of possibility of their occurrence, there are
formal and material errors.
Formal errors occur by violating the principle of double-entry bookkeeping on
double-sided observation of occurred business event and they are relatively easy to
detect and remove. Normally, they occur with the replacement of place of digits,
for example, in one account at the payable side, the amount KM 4 680 was recor-
ded, while in another account at the receivable side, the amount of KM 4 580 was
recorded. Concrete detection of this error, at first sight looks difficult. However,
177
recorded equality will be spotted if not before, then latest at producing trial, i.e.
gross balance. Formal errors are very frequent in traditional bookkeeping in cases
of manual data processing.
Material errors are not related to the violation of double-entry bookkeeping
principle, but they may occur in one of the following cases:
 business event is not recorded at all (book entry omitted, or it was partially
recorded, or it was recorded twice);
 the amount from bookkeeping document is not correctly transferred into
business books;
 recording was performed in the wrong account;
 accounts are correct but the sides of account, i.e. payable and receivable
are swapped.
Therefore, material errors are much more complex and are more difficult to
remove. There are different methods for identifying material errors.
The safest way of finding material errors is by conducting inventory, also by
comparing bookkeeping documents with recorded positions in one-day book, ge-
neral ledger and sub-ledger records, composition of trial balance, confirmation
(comparison) of the account of buyers, suppliers, gyro-account and similar, with
records of business partners. In terms of preventing occurrence of material errors or
bringing them down to the least possible number, manager, i.e. accountant should
define the order of steps of preventive control procedures.
Each error in bookkeeping, when detected, has to be corrected obligatorily. In
theory and practice, following methods for correcting bookkeeping errors are
known:
 crossing out,
 cancellation and
 supplementary book entry.
Crossing out method is normally used when there is wrongly recorded amount
in day-book and general ledger, then errors in recording if detected immediately,
soon after their occurrence. Crossing out method corrects an error in a way that the
falsely recorded amount is crossed out, but in a way that it is visible, and a correct
amount is recorded above it with the initials of a person who corrected it.
Cancellation method of bookkeeping errors may be performed in two manners:
 black cancellation method or
 red cancellation method.
178
Method of cancellation of bookkeeping errors represents neutralization of its
effect, while the error itself still remains visible.
Black cancellation method corrects an error in a way that falsely recorded amo-
unt is also recorded on the opposite side of the account and in that way it neutralizes
its effect, and after this, book recording is performed in correct manner.
As with the application of black cancellation method, neutralization is perfor-
med by recording at the counter side of the account, there is an impression of an
increase of turnover in which the error was made.
Therefore, although the balance of account following application of black can-
cellation is correct, increased turnover in the account is not natural. Thus, normally
another method is used, that is used to correct an error, but turnover in the account
is not increased. This is referred to as red cancellation method and is most used
even today as with its application error is corrected, but turnover of account is not
increased.
The essence of red cancellation method is that neutralization is not performed
at the counter side of the account from where an error occurred, but on the same
side of the account. In that case, cancelled recorded positions represent negative
amount of records compared to other positions. Such amount is recorded with red
color and framed, which straight away refers that it concerns correction of error.
Such recorded correction has a counter pre-sign, so the balance of account remains
correct, and at the same time, there are no records of additional turnover which did
not occur. Red cancellation method was named after its red color, but today, in the
circumstances of electronic data processing, instead of red color, pre-sign minus
(–) is used.
Supplementary book entry method – this method is most often used with ma-
terial errors, when, in both corresponding accounts, smaller amounts are recorded
than the actual ones. We do the correction by adding certain difference and at doing
this, the balance remains correct. With the application o this method, one business
event is recorded on two occasions which may lead to a wrong conclusion that it
maybe concerns two business events, and not one. Exactly for this reason, in prac-
tice of legal entities, the most frequently used method is the one which refers to the
fact that this concerns error correction and does not record additional turnover, and
that is red cancellation method.
On the example below, we illustrate cancellation method:
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Example 1: small inventories in the value of 250 were purchased from supplier. By
mistake, event was recorded in the account of inventories of material. Amount is
correctly recorded, but in the wrong account.
a) correction - black cancelation method
(1) False recording in the account of inventories of material, and event was correctly
recorded at the receivable side of the account - Suppliers.
(2) Correction of false book entry and presentation of correct book entry.
b) red cancellation method
(1) False recording in the account of inventories of material, and event was correctly
recorded at the receivable side of account - Suppliers.
(2) Correction of false book entry and presentation of correct book entry.
Following correction of error, balance in the falsely used account of inventories of

material is equal to zero, regardless of what method we have used. With the method
of black cancellation, in the account of inventories of material, there is turnover,
which refers to the false conclusion that we have acquired inventories of material in
the amount of 250 and at the same time that we have used 250, which is not correct.
With the application of red cancellation in the account of inventories of material, we
do not have presented any kind of turnover (payable 250 and payable minus 250),
i.e. not payable nor receivable, and this indicated the reality in comparison with the
black cancellation method. Thus, it is visible from the example that red cancellation
method is visible straight away and indicates that it concerns correction of error, and
does not create non-existed turnover. Therefore, red cancellation method is most
often applied in practice. It concerns a partial black or red cancellation, as presented
example indicates an error, made only on one account. (One account correctly credi-
ted and another one falsely debited, and it should have been vice versa).
180
It is normal to have cases of errors in both accounts at the same time, with totally
false book recording. The situation is possible to have payable equal to receivable,
and that, for example, when making an inventory of assets, and adjustment with the
balance in business records, we stated that some business event was recorded twice,
or accounts were correctly credited, but amounts were false, etc. In such cases, it
concerns full black or red cancellation as it is necessary to correct an error in both
accounts.
Example 2: Material was purchased at the acquisition cost of 25 000. With recording
in the account of inventories of material, by mistake a business event was recorded
at the receivable side, and in the account of suppliers, also falsely at the payable side.
Correct recording should be presented at the payable side of the account of invento-
ries of material and receivable side of the account of suppliers.
a) black cancellation method-corr.
(1) False book entry.

(2) Correction of false book entry. (3) Correct book entry.
b) red cancellation method - correction
(1) False book entry.

(2) Correction of false book entry.
(3) Correct book entry.
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The same as in the first example, the disadvantage of application of entire black
cancellation is in the fact that when correcting an error, turnover is increased in the
accounts without any justification. Application of entire red cancellation eliminates
excess turnover and following correction of error, and correct recording, turnover
is such, as if bookkeeping error had never been made. In both cases, error was
corrected and after that, correct book recording was performed. It is visible from
example that application of red cancellation contributes to the quality of accounting
information.
15.4. GROSS BALANCE AND

CLOSING SHEET
Before preparation of financial statements and after conducting pre-closing ac-
tivities, it is necessary to create a closing sheet, with the aim of preparing reliable
data for preparing balance sheet and income statement. Closing sheet represents a
picture of the entire business operations at the end of reporting period, i.e. at the
end of the business year.
In those terms, it is necessary to verify the correctness of conducted records and
to separate balance sheet accounts from income statement accounts. Gross balance
is used for additional evaluation of correctness of conducted records in the repor-
ting period. The aim of preparing gross balance is verification of correctness of
conducted records. Occasionally, especially in the American accounting theory and
practice, we talk about trial balance.
Gross balance represents presentation of balance and turnover of all accounts
of general ledger. It is known that occurred business events in business books are
recorded in accordance with the method of double-entry bookkeeping. Thus, bu-
siness event is recorded at least in the two accounts, once at payable side, and
another time in the same value at the receivable side. From the aspect of double-
sided observation of a business event, the rule arises that the total amount at the
payable side must be equal to the amount at the receivable side. Thus, verification
of formal correctness of general ledger i.e. equality of payable and receivable sides
is possible with creating recapitulation of records of all occurred business events in
the reporting period in so called gross balance. Formal form of gross balance is not
prescribed by the law. Normally, it is presented in the form of working table, whose
creation enables the accountant to verify the entire accounting process. Therefore,
gross balance has a control role, and depending on concrete needs of control, gross
balance may be prepared in the course of a business year. It is comprised of names
of accounts and following columns:
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 balance at the beginning of reporting period (opening balance),
 turnover during the reporting period,
 total turnover and
 balance of accounts at the end of the reporting period (closing balance).
Therefore, gross balance presents balance of accounts at the beginning of the

reporting period and at the end of the reporting period, and changes between the
two periods. Normally, for gross balance it is said that it is comprised of opening
balance and turnover balance, which encompasses changes during the period, and
closing balances. Thus, gross balance presents overall records of occurred business
events and if records are correctly recorded, payable shall be equal to receivable, as
per all presented elements (columns of gross balance).
Therefore, it follows that in each pair of columns in gross balance, payable sum
must be equal to the receivable sum. If it is not so, it concerns a bookkeeping error
which needs to be detected and removed.
If we make a horizontal breakdown of gross balance into two or more parts, total
sum of such determined inter-sums shall always, because of application of rules of
double-entry bookkeeping method, provide the value presented in the last gross
balance (in the row referred to as total).
Apart from horizontal breakdown of gross balance, it is possible to perform a
vertical breakdown too, i.e. to separate the accounts of balance sheet and income
statement in a way that accounts of balance sheet and income statement are pre-
sented in separate columns. Past accounting regulations referred to such manner of
breakdown of gross balance as “closing sheet”.
Therefore, in the closing sheet, accounts of gross balance are systematized into
the accounts of balance sheet (accounts of assets and liabilities), i.e. positions of
balance sheet and in the performance accounts (accounts of expenses and revenu-
es), i.e. positions of income statement. After such conducted systematization of
accounts, it is obvious that there will be a difference that will refer either to profit
or loss. By recording such difference, settlement of business operations shall be
“closed”. On the hypothetical example, we illustrate gross balance of a legal enti-
ty “X” and we assume that at the end of the reporting period, there are following
data:
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Turnover
Opening balance Total turnover closing balance
Name in period
of account
d C d C d C d C
Equipment 40 000 – 204 000 – 244 000 – 244 000 –
Receivables from
buyers – – 30 000 18 000 30 000 18 000 12 000 –
Given short-term
loans – – 40 000 – 40 000 – 40 000 –
Gyro account 10 000 – 218 000 60 000 228 000 60 000 168 000 –
Electricity costs – – 4 600 – 4 600 – 4 600 –
Transport costs – – 2 400 – 2 400 – 2 400 –
Other business
costs – – 1 000 – 1 000 – 1 000 –
Salary costs – – 8 000 – 8 000 – 8 000 –
Original equity – 50 000 – – – 50 000 – 50 000
Liabilities on – – – 200 000 – 200 000 – 200 000
long-term loans
Suppliers – – – 192 000 – 192 000 – 192 000
Liabilities for
salaries – – – 8 000 – 8 000 – 8 000
Revenues from
sale – – – 30 000 – 30 000 – 30 000
Total: 50 000 50 000 508 000 508 000 558 000 558 000 480 000 480 000
Figure 19 Gross balance of legal entity “X”
From the presented gross balance, payable is equal to receivable on all bases,
and this means that formal book recording in the reporting period was correctly
conducted. It is obvious that result of business operations cannot be identified stra-
ight away from gross balance. For those reasons, accounts are systematized into
the balance accounts and successful accounts. Balance accounts are recorded in
the balance sheet, and successful accounts are recorded in the income statement.
Therefore, it concerns a vertical breakdown of gross balance, that is, closing sheet
which we illustrate in the following figure:
184
Total turnover Closing balance
Balance sheet Income statement
(turnover balance) (balance)
Name
of account
d C d C
d C d C
(ASSETS) (LIAB) (EXPENSES) (REVENUE
Equipment 244 000 – 244 000 – 244 000 – – –
Receivables from
buyers 30 000 18 000 12 000 – 12 000 – – –
Given short-term
loans 40 000 – 40 000 – 40 000 – – –
Gyro account 228 000 60 000 168 000 – 168 000 – – –
Electricity costs 4 600 – 4 600 – – – 4 600 –
Transport costs 2 400 – 2 400 – – – 2 400 –
Other business
costs 1 000 – 1 000 – – – 1 000 –
Salary costs 8 000 – 8 000 – – – 8 000 –
Original equity – 50 000 – 50 000 – 50 000 – –
Liabilities on –
200 000 – 200 000 – 200 000 – –
long-term loans
Suppliers – – –
192 000 – 192 000 – 192 000
Liabilities for –
salaries – 8 000 – 8 000 – 8 000 –
Revenues from
sale – 30 000 – 30 000 – – – 30 000
TOTAL: 558 000 558 000 480 000 480 000 464 000 450 000 16 000 30 000
DIFFERENCE
14 000 (14 000)
Profit transfer
TOTAL: 464 000 464 000 16 000 16 000
Figure 20 Closing sheet of legal entity “X”
From the presented closing sheet, it is visible that following systematization of

closing balances in the positions of balance sheet and income statement, there was
disequilibrium. It is visible that assets are higher than liabilities by 14 000 (464 000 –
450 000) at the end of the reporting period, and that an increase of assets is a result of
successful business operations, and at the same time, revenues are higher by 14 000
than expenses. Therefore, the difference in closing sheet appears in two places, once
as the difference in balance sheet, and second time as difference in the income state-
185
ment. The amount of determined difference in both cases must be equal, but with the
opposite pre-sign. Determined difference represents the closing amount which balan-
ces payable and receivable side of closing sheet and indicates business performance
of legal entity. Presented form of closing sheet is attached to gross balance, but for the
purposes of clearness of accounts, in closing sheet we systematize them in different
way, i.e. into the accounts of balance sheet and income statement. The difference
in closing sheet indicates performance of business operations, either profit or loss.
Presentation of business performance is the purpose of preparing the closing sheet.
15.5. PREPARATION OF MAIN FINANCIAL STATEMENTS

In order to understand better the problem of account opening, rules of recording
business events in the accounts of general ledger and preparation of parts of finan-
cial statements as outputs of accounting process, further in text, this problem shall
be illustrated on the hypothetical example of company “A”.
Example:
Company “A” at the beginning of the period has the following balance of assets,
liabilities and equity:
 Equipment 200 000

 Value correction of equipment 50 000
 Interests in associated legal entities 70 000
 Inventories of material 40 000
 Inventories of final products 80 000
 Receivables from buyers 130 000
 Gyro account 5 000
 Liabilities towards suppliers 95 000
 Liabilities on short-term loans 120 000
 Liabilities for taxes 20 000
 Liabilities for dividends 40 000
 Shareholder’s equity 110 000
 Non-distributed profit 90 000
During reporting period, the following business events were recorded:

1) Receivables from buyers were collected in the amount of 95 000, 60 000 of
which relates to sold products, and 35 000 to sold equipment.
2) Invoice was received in the amount of 10 000 for consumed electricity in
production.
186
3) 60 000 was received for the approved long-term loan.
4) Material was issued in production in the value of 30 000.
5) Tax liability was paid in the amount of 20 000.
6) Liabilities towards suppliers were settled in the amount of 15 000.
7) Shares of legal entity “B” were purchased for 30 000.
8) Salaries of employees in production were calculated from the past month in
the amount 40 000.
9) Salaries were calculated for the employees of management, sale and admi-
nistration for the past month in the amount of 12 000.
10) Depreciation of equipment in production was calculated in the amount of 6 000.
11) Depreciation of equipment of management, sale and administration was
calculated in the amount of 1 000.
12) Dividends were paid out in the amount of 40 000.
13) Part of salaries was paid in the amount of 25 000.
14) Invoice received for consumed electricity of management, sale and admini-
stration in the amount of 2 000.
15) Transfer of production costs is completed.
16) Transfer of reporting period costs was completed (general costs of manage-
ment, sale and administration).
17) During a reporting period, 60 pieces of products “x” were finalized. Calcu-
lation determined that costs on finalized products amount to 60 000.
18) A part of short-term loan in the amount of 30 000 was repaid, 3 000 of which
refers to interest.
19) 50 pieces of product “x” were sold and invoice was issued to the buyer in
the amount of 140 000.
20) Decrease of inventories of products was recorded for the sold quantity.
21) Buyers have paid 15 000 for their debts.
22) Financial result was determined. Tax base is equal to the determined acco-
unting base. Tax rate is 10 %.
Further below we will present recording of the mentioned business events in the acco-
unts of general ledger, and create main parts of financial statements. For better under-
standing and monitoring, accounts are classified into three groups, i.e. accounts of assets,
liabilities and equity, and accounts of costs, expenses and revenues. Individual accounts
of costs are neutralized with the account of allocation (transfer) of costs and at the end of
the year are mutually closed, and at the end of the reporting period (end of business year)
balances of these accounts are equal to zero. Successful accounts of expenses and reve-
nues are also provisional (accounting) accounts. At the end of the reporting period, they
are mutually matched and their difference represents either profit or loss of a legal entity
(accounts of liabilities). Normally, accounts of assets and sources of assets are closed at
the end of the year. In order not to lose clearness of accounts, this has not been done here.
On the basis of conducted records, income statement and balance sheet were
prepared: Recordings in the accounts of general ledger:
187
188
189
Income statement of company“A”
for period 1 Jan – 31 Dec 2010
as per method of sold products costs
1. Revenues from sale 140 000
2. Costs of sold products 50 000
3. Gross profit (1 – 2) 90 000
4. General costs of management, sale and administration 15 000
5. Profit from financial activities (3-4) 75 000
6. Financial expenses 3 000
6.0. Financial revenues
6.1. Financial expenses from interest 3 000
7. Profit before taxation (5 – 6) 72 000
8. Profit tax 7 200
9. Net profit (7 – 8) 64 800
190
Income statement of company „A“
for period 01 Jan – 31 Dec 2010
- as per method of types of expenses -
1. Revenues from sale 140 000
2. Expenses from sale (3+4-5) 65 000
3. Initial value of inventories of production

and final products 80.000
4. Operation costs 101 000

30 000
4.0. Consumed material
12 000
4.1. Consumed electricity
52 000
4.2. Costs of salaries
7 000
4.3. Depreciation costs
5. Final value of inventories of production

and final products (116 000)
6. Profit from business activities (1-2) 75 000
7. Financial expenses 3 000

7.0. Financial revenues -
7.1. Financial expenses from interest 3 000
8. Profit before taxation (6-7) 72 000
9. Profit tax 7 200
10. Net profit (8-9) 64 800
191
Balance sheet of company“A”
on the day 31 Dec 2010
2009 2010
ASSETS
475 000 545 000
A. NON-CURRENT ASSETS 220 000 243 000
I INTANGIBLE ASSETS
II TANGIBLE ASSETS 150 000 143 000

1. Equipment 200 000 200 000
2. Value correction of equipment (50 000) (57 000)
III FINANCIAL ASSETS 70 000 100 000

1. Interests in associated legal entities 70 000 100 000
B. CURRENT ASSETS 255 000 301 000

and INV. 120 000 126 000
1. Inventories of material 40 000 10 000
2. Production in progress – 26 000
3. Inventories of final products 80 000 90 000
II RECEIVABLES 130 000 160 000
1. Receivables from buyers 130 000 160 000
III INVESTMENTS – –
IV CASH AND CASH EQUIVALENTS 5 000 15 000
1. Gyro account 5 000 15000
TOTAL ASSETS (ASSETS) 475 000 544 000
LIABILITIES 475 000 544 000
A. EQUITY 200 000 250 400
1. Shareholder’s equity 110 000 110 000
2. Non-allocated profit 90 000 90 000
3. Profit of current fin. year – 64 800
60 000
B. LONG-TERM LIABILITIES –
1. Liabilities on long-term loans – 60 000
C. CURRENT LIABILITIES 275 000 233 600

1. Suppliers 95 000 92 000
2. Liabilities on short-term loans 120 000 93 000
3. Liabilities for taxes 20 000 7 200
4. Liabilities for dividends 40 000 –
5. Liabilities towards employees – 27 000
TOTAL LIABILITIES (EQUITY AND LIABILITY) 475 000 544 000
192
QUESTIONS FOR ASSESSING KNOWLEDGE
AND UNDERSTANDING:
1. What are the phases and main characteristics of accounting process?

2. What is a business transaction, recognition and measurement (valuation)
in business books?
3. What is an authentic document?
4. What are the criteria of correct classification of bookkeeping
documents?
5. Types of bookkeeping accounts and rules of recording in the bookkee-
ping accounts?
6. Forms of bookkeeping accounts?
7. Explain the types of business books.
8. Explain the definition of day-book and significance of day-book keeping
of records.
9. What is a general ledger and what is the significance of keeping records
in general ledger?
10. Explain the concept, types, significance and keeping of sub-ledger
records.
11. What types of material errors are there?
12. Explain the methods of detecting bookkeeping errors and methods of
their correction.
13. When is trial balance created?
14. Explain the difference between trial balance and closing sheet.
193
CHAPTER SIX
ACCOUNTING COVERAGE
OF TYPICAL BUSINESS EVENTS
Study objectives
1. Definition of types of non-current intangible assets and identification

of transactions in relation with types of these assets
2. Explanation of characteristics, types and forms of record keeping
on non-current tangible assets
3. Methods of acquisition of non-current tangible assets
4. Concept of depreciation, useful life, depreciation calculation
methods and methods of book recording depreciation
5. Definition of main forms of long-term financial investments, long-
term receivables and identification of transactions in regard to these
forms of assets
6. Definition of current assets, types and significance
7. Accounting transactions of cash, cash equivalents, short-term
financial investments and short-term receivables
8. Valuation of material in acquisition process, valuation methods of
material consumption and disposal
9. Accounting transactions related to the acquisition and storage of
trading goods, discount, price increase of trading goods and sale of
trading goods
10. Valuation methods of acquisition costs of trading goods and final
inventories of trading goods
11. Accounting transactions of prepaid costs – short-term prepayments
and accrued income
12. Definition of concept of equity and equity structure
13. Shares as an instrument of financing the joint-stock companies
14. Profit and its distribution
15. Loss and cover of loss
16. Earning per share
17. Concept of liabilities, recognition and valuation of liabilities
18. Accounting transactions related to long-term and current liabilities
19. Accounting transactions related to long-term provisions
16. ACCOUNTING OF NON-CURRENT ASSETS
16.1. NON-CURRENT INTANGIBLE ASSETS
Non-current intangible assets are non-monetary assets without physical substance

which may be identified (recognized). For the non-current intangible assets to be
recognized as an asset, it is necessary that a legal entity controls resources, that
there is a probability that future economic benefits shall flow in legal entity and
that cost of such assets may be reliably measured, i.e. valued. In item 11, IAS 38–
Intangible assets, it is required that intangible asset is identified in a way that it
clearly differs from goodwill, the standard says that assets fulfill requirement of
recognition from the definition of intangible asset, when an asset is:
– separable intangible asset and
– non-separable intangible asset.
It means that separable intangible asset may be recognized, i.e. identified as an

item separate from legal entity, and that it can be acquired or sold separately from
legal entity as a whole. Based on these directions, separable intangible assets, nor-
mally include all types of intangible assets except goodwill, as goodwill may not
be acquired nor sold separately from a legal entity. Separable intangible assets are
treated in IAS 38 – Intangible Assets. Non-separable intangible asset (goodwill) is
treated in IFRS 3 – Business Combinations and IAS 36 – Impairment of Assets.
Non-current intangible assets are:
1. patents, licenses, concessions, trademarks, development costs, computer
programmes-software (if they are not a part of hardware);
2. advances for non-current intangible assets and other non-current intangible
assets;
3. goodwill (good vote), if acquired with the payment.
We can acquire intangible non-current assets from other legal entities or we can
develop them internally, i.e. produce them in the company.
Non-current intangible assets, when acquired from others, in accordance with
IAS 38, are classified into following groups:
– intangible assets acquired separately (IAS 38, items 25-33);
– intangible assets acquired through government assistance (IAS 38, item
44);
197
– intangible assets acquired through exchange for another asset (IAS 38, items
45-47);
– intangible asset acquired in business combination in accordance with IFRS 3
– Business Combinations (IAS 38, items 33-43).
For the non-current intangible asset, which is separately acquired, to be reco-

gnized and to be presented in the balance sheet, the following conditions should
be fulfilled:
– that this is a separable asset expected to have an inflow of future economic
benefit in a legal entity and
– that acquisition cost may be reliably measured.
Acquisition cost (acquisition value) includes: purchasing price, non-refundable

taxes after deducting trade discounts and rebates and all the costs, i.e. expenses
that may be ascribed directly to the preparation of asset for intended use.
Non-current intangible assets, acquired through government assistance, are
most often acquired for free, or for nominal fee, normally through the concession,
for example, different rights on use of land, airports, and licenses for work of radio
and television stations, etc.
In accordance with IAS 20 – Accounting for Government Grants and Disclosu-
re of Government Assistance, acquired non-current intangible assets may be reco-
gnized as a balance item at fair value or nominal value increased by all expenses
that can be ascribed to the preparation of asset for intended use.
For non-current intangible asset, acquired through exchange for another asset,
acquisition cost at which it will be presented in the balance, is measured at the fair
value which is equal to the fair value of provided asset.
Internally developed non-current intangible assets of a legal entity are classified
into two groups:
– non-current intangible assets derived from development (or phase of internal
project) of a legal entity and which are recognized as balance item of a legal
entity that developed them;
– internally developed non-current intangible assets which are not recognized
as a balance item of a legal entity, but are recognized as a cost of period, of
internally developed (produced) non-current intangible asset in which they
were developed.
In accordance with IAS 38, item 57, internally developed non-current intangible
assets are recognized as balance item if following conditions are met:
– technical quality of finalizing intangible assets is such that assets will be
possible either to use or sell;
198
– there are appropriate technical, financial and other resources for finishing
development and for either use or sale of intangible assets;
– there is an intention to use or sell finalized intangible assets;
– there is a possibility to use or sell intangible assets;
– there is a possibility to measure expenses.
Therefore, for each internal project which creates non-current intangi-

ble asset, research phase and development phase should be separated one from
another. Research costs are treated as an expense in accordance with IAS 38,
item 54.
Internally developed non-current intangible assets which, according to IAS 38
(item 48 and item 63) are not recognized as balance item are:
– internally provided goodwill,
– internally received trade marks, signs, headings of newspapers, headings of
publications, inventories of buyers and other similar items.
This means that internally developed goodwill cannot be recognized as balance

item, as its acquisition cost cannot be reliably measured.
According to IAS 38, item 50, the difference between market value of a legal
entity and bookkeeping value does not represent an acquisition cost (acquisition
value) if it is not market-confirmed in business combinations.
The cost of internally developed, that is, produced non-current intangible asset,
is initially measured at the cost which is comprised of the sum of costs incurred
from the date when intangible asset fulfilled the conditions for recognition in
accordance with IAS 38, items 65 and 66. The cost of internally produced non-cu-
rrent intangible asset encompasses all the direct costs that can be directly ascribed
on reasonable and consistent basis for production and preparation of assets for their
intended use. Examples of such direct costs are:
– costs of material or services used or consumed in creating intangible asset;
– salaries and other costs of employees included in creating such intangible
asset, for example professional fees for registration of rights, depreciation of
patents and licenses used for creating intangible asset;
– general costs necessary for creating intangible asset, and which may be
allocated on reasonable basis to the items of intangible assets, for example,
allocation of depreciation of property, plants and equipment, insurance pre-
miums and leases (items 66 and 67, IAS 38).
According to IAS 38, item 97, intangible assets with limited useful life are
depreciated in a way that depreciation amount is systematically allocated du-
ring its useful life. Depreciation begins when intangible asset is available for use.
199
Depreciation discontinues once the asset is either depreciated or discontinues ear-
lier if an asset is correctly classified as held for sale in accordance with IFRS 5
– Non-Current Assets held for Sale and Business Discontinuity, or if it is sold, or
donated, or given in financial lease. Depreciation is not calculated if non-current
intangible asset is in preparation phase. According to IAS 38, item 117, depreciati-
on does not discontinue if an asset is withdrawn from use.
16.1.1. Patents, licenses, concessions, trade marks and other rights
Legal person acquires the aforementioned, with the aim to use it in the period
longer than one year. Patent is an exclusive right of inventor whose registration at
the responsible state authority is protected by the law. Owner of patent reserves an
exclusive authorization of use, production, supply and sale of its innovated patent.
License is an exclusive right of purchase of use of someone else’s right - patent.
Thus, purchase of license is purchase of right to production of some product for
certain period of time.
Concession, in its broadest terms, is an act with which the government pro-
vides some legal or physical entity with the authorization to perform certa-
in business activities for certain period of time. Concession is granted with
a contract which is made between the government authority, on one side,
and concession receiver on the other side. Concession is normally divided
into:
 those that relate to public benefits (eg. construction of roads, railways or
similar) and
 those that relate to the use of natural wealth (mine wealth, oil, gas, salt, sea,
ballast, etc.).
Receiver of concession is obliged, by the contract, to pay the government a

certain fee, either in several payments or single payment. Legal entity may in-
vest in the mentioned intangible assets with the purpose of performing economic
activity.
Example:
A legal entity purchased a license for production of a product for the period of
four years in the amount of KM 40 000, plus KM 6 800 of VAT. License is put in
use. Invoice is paid.
Book entry in the accounts of general ledger looks as follows:
200
Acquisition process of intangible assets is conducted through the account (Non-
current intangible assets in preparation). In this account, acquisition cost is created.
Once the acquisition process is completed, intangible asset is put in use in the
account of patents, licenses and trademarks. Once intangible asset is put in use,
obligation for depreciation of asset begins. Intangible assets are depreciated within
their estimated useful life.
16.1.2. Foundation costs / costs of foundation
Foundation investments occur when founding a company and they may be a

consequence of actual monetary costs or costs in the accounts of suppliers that will
be paid at a later stage and will subsequently become expenses.
Those are normally costs or fees for the project and other documentation related
to the foundation, lawyer services, registration costs, creation of trademark and
similar fees, when the company is undergoing its foundation process.
In accordance with IAS 38, item 69, it is stated that fees of initial activities (fo-
undation fees), i.e. costs of resuming business activities, are recognized as expen-
ses once they occur, as non-current intangible asset has not been created.
Example:
1) The owner purchased forms for registration of limited liability company and he
the invoice in the amount of KM 100 plus 17 KM VAT in cash from own funds.
2) The owner paid lawyer’s services based on invoice, in cash, in the amount of
KM 2 500 plus KM 425 of VAT-paid from own funds.
201
3) The owner paid from his own funds the invoice for creating investment elabora-
tion in the amount of KM 5 000 plus KM 850 of VAT.
4) The owner paid original capital in the amount of KM 10 000.
Book entry in the accounts of general ledger:
Explanation:
(1) invoice payment of registration forms from own funds.
(2) payment of lawyer services from own funds.
(3) payment of investment elaboration services from own funds.
(4) Payment of original equity.
Therefore, foundation fees are recognized as an expense, i.e. cost in the acco-
unt – Foundation costs of the period in which they were incurred. Since, before its
registration, the company was not in the taxpayers’ registry, input tax cannot be
deducted at that moment, nor can the refund be requested. Therefore, it is recorded
in the books in the account of receivables for input tax which is not yet recognized.
At the moment when the company becomes a taxpayer, on the basis of investments
into foundation of a company, these investments should be transferred into the
account - receivable for input tax. Foundation costs may be compensated to the
owners of limited liability companies, if foreseen by the foundation contract, but
not from the funds that were paid as original equity, but later, from funds that will
be realized on the basis of the results of business operations, with the aim of avoi-
ding impairment of original equity at the moment of resuming business activities
of a limited liability company. Therefore, if the contract on foundation of limited
202
liability company foresees that owner or owners are compensated for foundation
costs, owners may, apart from original equity, also pays a loan in the amount of
foundation costs, or settle the invoices from their own funds.
Joint-stock company, may also compensate foundation costs to the shareholders
or third entities, but the article of association should state particularly the costs and
fees of foundation, if the company is compensating them to the shareholders or
third entities. It means that, if this is not mentioned, costs and fees relating to the
foundation may not be paid.
16.1.3. Development costs
Development costs include costs incurred for research and development of new
products and technology, the results of which are expected to be useful in the pe-
riod longer than one year. According to IAS 38, item 8, research and development
are defined in the following manner:
Research is considered as original and planned research undertaken with the
aim of achieving new scientific or technical knowledge and understanding.
Research implies application of research findings or other knowledge in the
planning and projecting of new or essentially improved material, devices, products,
processes, systems or services before resuming commercial production or sale.
The reason why research costs cannot be recognized as non-current intangi-
ble asset, but as expense, is that in the research phase of project of a legal entity,
it cannot prove existence of non-current intangible asset that will provide future
economic benefits.
Examples of research activities are (IAS 38, item 56):
– activities whose aim is obtaining new knowledge;
– examination, assessment and final selection of application of research re-
sults and other knowledge;
– finding alternative solutions for material, innovations, products, processes,
systems or services;
– shaping, projecting, assessment and final selection of possible alternatives
for new improved materials, devices, products, processes, systems and services.
Development phase is far more advanced than research phase, and legal entity
may identify non-current intangible asset.
Examples of development phase activities (item 59, IAS 38):
– projecting, construction and testing of proto-types and models before pro-
duction and before use;
– projecting of tools, samples, models and patterns in accordance with new
technology;
203
– projecting, construction and preparation of pilot-plant which is not economi-
cally feasible for commercial production;
– projecting, construction and testing of selected alternative for new or impro-
ved materials, devices, production processes, systems or services.
If a legal entity meets the conditions for recognition of internally produced non-
current intangible asset, according to item 57, IAS 38, the following costs are reco-
gnized (IAS 38, item 66):
– costs of material and services used or consumed in creating intangible asset;
– salaries and other costs of employed staff who are directly involved in crea-
ting the intangible asset;
– professional fees for registration of legal right: depreciation of patents and
licenses used for creating intangible asset.
In accordance with item 11, IAS 23 – Borrowing costs, interest may be recogni-
zed as a cost element of internally produced intangible asset.
In accordance with definition of revenues from IAS 18 and IAS 1, which is
orientated only to an increase of equity which does not happen here, arises that
costs of internally produced intangible asset would directly be recorded in books
as non-current intangible assets in preparation (investments in progress), without
recognition of current year costs and counter items of revenue.
Example:
Material directly consumed for production of new product amounts to 18 000.
Depreciation of equipment used for development of new product amounts to 7. 200.
Salaries of employees engaged in development 52 500 (net salaries 30 000, taxes
and contributions 22 500). Taxes, contributions and salaries to employees are paid.
Transfer into use.
204
We have conducted book recording process of development costs, which are
recognized as intangible asset, through the account Non-current intangible assets
in preparation, in a way that account is debited in line with structure of costs, i.e.
costs occurred on the development of new product with crediting corresponding
accounts: inventories of material, value correction of equipment, liability towards
employees (for net salaries), Liability for taxes and contributions from salaries and
on salaries. With item (4), liabilities are paid for net salaries of employees, taxes
and contributions, so we debited account Liability to employees and account Liabi-
lity for taxes and contributions on and from salaries, with the corresponding credit
book recording in the account Gyro account. With item (5) intangible asset was put
into use (account payable – development costs, and account receivable-Non-cu-
rrent intangible assets in preparation). By placing into use, depreciation obligation
becomes effective. For example, if intangible asset is depreciated in the period of
five years, calculated annual amount of depreciation (77 700 : 5 = 15 540) we will
record in books in a way that account payable – Depreciation costs, and account
receivable – Value correction of non-current intangible assets.
16.1.4. Goodwill
Goodwill (good voice, reputation) marks a higher value of legal entity which
it has, because of its reputation of concrete position, high-quality employees, etc.
Goodwill occurs in a procedure of acquiring another legal entity, i.e. as a con-
sequence of business mergers, in using purchasing method and is recognized as
non-current intangible asset. If acquisition costs (fee for the purchase and related
costs) are higher than fair value of net property, the difference represents goodwill.
Therefore, in a case that an acquirer is prepared to pay a higher amount than fair
value of net property (the difference between assets and liabilities), goodwill appe-
ars, from which a future economic benefit is expected.
205
Company “X” Company “Y”
No Decscription Carrying Carrying Fair estimated
amount amount (market) value
1. Construction build. 180 000 60 000 65 000
2. Equip. 260 000 120 000 160 000
3. Accumulated
depreciation (75 000) (30 000) (30 000)
4. Inventories 145 000 40 000 65 000
5. Receivables from
custom 35 000 – –
6. Cash in gyro account
And in petty cash 320 000 10 000 10 000
TOTAL ASSETS 865 000 200 000 270 000
7. Shareholder’s equity 325 000 50 000
8. Shareholder’s premium
200 000 100 000
9. Non-allocated profit
190 000 10 000
10. Liabilities
on long
term loans 100 000 –
11. Suppliers 50 000 40 000 (40 000)
TOTAL LIABILITIES 865 000 200 000 (40 000)
Fair estimated
(market) value
of net property
230 000
Cost of acquisition
(purchase) 275 000
Goodwill 45 000
Example:
The company “X” is entering a business merger with the company “Y”, so that the
company “X” is becoming the owner of company “Y”. For this business merger, pur-
chasing method is applied. Merger was performed on 01 January of the current year,
and fee for the purchase was provided in cash in the amount of 275 000. Following
this transaction, regular (ordinary) shares of the company “Y” were withdrawn from
use, and company was liquidated as legal entity. Balance of company “X” and compa-
ny “Y” before merger transaction: By merging company “Y” with company “X” the
whole net property of company “Y” was transferred into the company “X”. Transfer
of net property of company “Y” (assets – liabilities) into the business records of com-
pany “X” is performed with the purchasing method per fair estimated (market) value.
Fair (market) value of company “Y” = fair (market) value of assets – liabilities = 270
000 – 40 000 = 230 000.
Value of goodwill is determined in the following way:
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Purchasing price – fair (market) value of company “Y” (investment in the shares
of company “Y” presented in cash):
275 000 – 230 000 = 45 000.
Goodwill is 45 000. This is overdraft of acquisition cost above the fair value of
acquired net property. Goodwill must be presented as a separate position of non-
current intangible assets in accordance with IFRS 3 – Business Combinations.
Book entries in company “X”
Amou
No Desc.
Payable Receivable
1. Construction buildings 1 65 000
Equipment 2 160 000
Accumulated depreciation 3 30 000
Inventories 4 65 000
Gyro account and petty cash 6 10 000
Suppliers 10 40 000
Goodwill 13 45 000
Gyro account of company “X” for 6 275 000
records of transfer of acquired assets and
liabilities of company “Y”
Balance sheet of company X” after acquisition (purchase)

of company „Y” (compensation in cash)
No Desc. Amount
1. Goodwill 45 000
2. Construction buildings 245 000
3. Equipment 420 000
4. Accumulated depreciation (105 000)
5. Inventories 210 000
6. Receivables from buyers 35 000
7. Gyro account 55 000
TOTAL ASSETS 905 000
8. Shareholder's equity 325 000
9. Shareholder's premium 200 000
10. Non-allocated profit 190 000
11. Liabilities on long-term loans 100 000
12. Suppliers 90 000
TOTAL LIABILITIES 905 000
Value in the balance after acquisition is determined as a sum of bookkeeping

value of company “X” and purchasing price of company “Y” (and that is fairly
assessed, i.e. market value of some property parts increased for the paid goodwi-
ll). Balance of company “X” after acquisition of company “Y” is changed in the
207
structure. Cash in gyro account is replaced with intangible and tangible forms of
assets. Compensation for purchase may be in cash, but also in securities or some other
form of property. According to IFRS 3 – Business Combinations, goodwill acquired
in business merger is not depreciated (IFRS 3, item 55). Following the initial recogni-
tion, an acquirer should evaluate goodwill acquired in business merger at the cost de-
creased by accumulated losses from impaired values (IFRS 3, item 54). With business
transactions, related to acquisition of intangible assets, there can be also advances for
intangible assets. Thus, if a legal entity pays in advance to the supplier for acquisition
of intangible assets before their overtaking, i.e. acquisition, advance payments occur.
Example:
1) Based on pro forma invoice, legal entity “A” for acquisition of bookkeeping pro-
gramme (software) made an advance payment in the amount of KM 1 500 plus
17 % of VAT in the amount of KM 255, total KM 1 755.
2) Supplier delivered intangible non-current asset (bookkeeping programme) and
issued an invoice in the amount of KM 1 500 plus 17 % of VAT in the amount of
KM 255, total KM 1 755.
3) Legal entity “A” closed an actual liability towards supplier and given advance
payment for the acquisition of bookkeeping programme.
4) Transfer into use, balance of gyro account is KM 50 000.
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Explanation:
(1) For the advance paid from own funds.

(2) For received invoice and software.
(3) For closing the advance payment and real liabilities.
(4) For transfer into use.
According to the aforementioned, the account – Non-current intangible assets

in preparation, recorded intangible assets in preparation until the moment of pre-
paredness of intangible assets for use. Via this account, each acquisition of non-
current intangible assets may be recorded in books, even those which are ready for
use straight after acquisition. In that case, this account provides information on
totally acquired non-current intangible assets in the reporting period, which is use-
ful for preparing statistical report and represents relevant accounting information
to the management.
16.2. NON-CURRENT TANGIBLE ASSETS

Non-current tangible assets encompass:
– land;
– construction building;
– plants and equipment (machines);
– tools, plant and office furniture;
– transport means;
– property, plants and equipment in preparation;
– residential buildings and apartments;
– advance payments for property, plants and equipment;
– biological means (property);
– investments in property.
According to the IFRS, which also include IAS, non-current tangible assets
should be classified as following:
1) property, plants and equipment regulated by IAS 16;
2) investment in property with the aim of lease in accordance with IAS 40;
3) property, plants and equipment which legal entity acquired through financi-
al lease (except for property for lease in accordance with IAS 40) in line with
IAS 17;
209
4) biological assets related to agricultural activities in accordance with IAS 41;
5) non-current assets held for sale and discontinued business in accordance
with IFRS 5, as already mentioned (in chapter two).
For the position to be classified and recognized as non-current tangible asset,

the following requirements must be met:
 legal entity possesses this asset and uses it in production of products or ship-
ment of goods or services for lease to others, or for administrative purposes
(IAS 16, item 6);
 it is an asset for which it is expected to be in use longer than a year (IAS 16,
item 6);
 individual value is higher than 250 (in accordance with positive legislation
of FBIH);
 it is probable that future economic benefits related to the asset shall flow into
legal entity (IAS 16, item 7);
 cost (acquisition value) of assets can be reliably measured (IAS16, item 7).
Positions of non-current tangible assets (property, plants, equipment) acquired

for further sale, are classified and calculated as inventories, and not as property,
plants and equipments in accordance with IAS 2. Item 8, IAS 2 – Inventories – emp-
hasizes that “inventories encompass also land and buildings held for further sale”.
16.2.1. Land
Land is natural wealth and represents a specific type of non-current tangible

assets, as it has unlimited useful life and therefore is not liable to calculation of
depreciation.
In accounting terms, land is recorded in books separately from construction
buildings on that land, regardless of the fact that they might be acquired together,
as they are separate types of assets. It is appropriate to present and depreciate su-
bsequent investments in land, which have limited useful life, which are conducted
with the aim of improving the land. Such investments are various refurbishments
of land, drainage channels, concrete cover of paths, parking, i.e. ennobling. Thus,
the improvement itself through investing into land, which is already in busine-
ss assets, should be separately presented in the account of improvements on the
land, and depreciated as the sum of investments. Since land is a good of general
importance, turnover, i.e. purchase-sale of land is not in VAT system, so the VAT
is not calculated on sale of land. Turnover of land is regulated with the special
tax regulations related to the turnover of property. Sales tax is paid at the rate
of 5%.
210
A taxpayer of sales tax on property is an acquirer of property, as he cannot have
a tax refund from tax authorities (as it is the case with VAT), so sales tax is included
in acquisition cost. Base for sales tax on land is market value of land at the moment
of acquisition which was determined with the assessment conducted by authorized
tax administration.
Therefore, assessed market value represents a base on which sales tax on proper-
ty is paid, and usually it can differ from actual paid fee for the acquisition of pro-
perty. In accordance with IAS 16, item 16, acquisition cost (acquisition value) may
also include costs of land preparation with the aim of bringing it to the intended use.
Example:
1) A legal entity has purchased from another legal entity construction land. The
value of land on the basis of contract is KM 200 000.
2) Tax Administration has assessed the value of land to the amount of KM 250 000
and calculated sales tax of 5 % (250 000 KM × 0,05 = 12 500).
3) Tax was paid from gyro account.
4) Invoice from supplier was received for improving the land in the amount of KM
10 000, plus VAT in the amount of KM 1 700, with the aim of improving the
land, total KM 11 700.
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Explanations:
(1) Invoice for purchase of land.
(2) For liability – sales tax on property.
(3) For sales tax payment.
(4) Invoice for improvement on land.
(5) For placing the land and improvements into use.
16.2.2. Property, plants and equipment
IAS 16 – Property, plants and equipment (which was revised in 2004 and in BIH
is applied as of 1 January 2007) in accounting terms, regulates property, plants
and equipment which a legal entity uses in business process. According to the new
IFRS and revised IAS from this group, assets which are within financial lease are
separated (IAS 17) property used for lease (IAS 40) and non-current assets held
for sale (IFRS 5).
In relation with the correct accounting coverage, IAS 16, item 6, defines the
following expressions:
– Bookkeeping value is the amount at which some asset is recognized in balan-
ce sheet after deducting accumulated depreciation and accumulated losses
from impairment.
– Acquisition value is the amount of paid cash or cash equivalents, or fair
value of other fee, which was given for the acquisition of assets at the time
of its acquisition or construction, or, where possible, the amount that can be
ascribed to this asset at the initial recognition in accordance with specific
requirements of IFRS, for example IFRS 2 – Share based payments.
– Depreciation amount is acquisition value of assets, or some other amount
that replaces acquisition value deprived by its residual value.
– Depreciation is an integral allocation of depreciation amount of assets du-
ring its useful life.
– Specific value for legal entity is current value of monetary flows for which
the legal entity expects that will occur from continuous use of assets and
212
from its disposal at the end of its useful life, or expects that it will occur once
the liability is settled.
– Fair value is the amount for which the asset could be exchanged amongst
known, willing and independent parties in independent transaction.
– Loss from impairment is the amount for which the carrying value of assets
exceeds its recoverable value.
– Recoverable value is the higher amount when comparing net selling price of
assets and its value in use.
– Residual value of an asset is assessed amount, which the legal entity would
receive today if it would dispose with asset after assessed costs of disposal,
that the asset is already at the end of its useful life and in condition which is
expected at the end of its useful life
– Useful life is:
a) time period within which it is expected that legal entity shall use the
asset; or
b) number of products or similar units which the legal entity expects to rea-
lize with that asset.
Non-current assets may be acquired by: purchase (acquisition), construction,

i.e. construction at its own funding, exchange for other assets, donation, may occur
as a surplus of inventory and similar.
Individual items of property, plants and equipment which fulfill the criteria of
recognition into the assets should be initially valued (measured) at their acquisition
cost, i.e. acquisition (acquisition value), (IAS 16, item 15).
Cost (acquisition value) includes:
– purchasing price,
– taxes which cannot be refunded from tax authorities,
– direct costs of labor in creating or acquiring assets
– costs of preparation of places,
– shipment and handling costs,
– costs of installation, placing and releasing,
– costs for expert advices of architects and engineers, and
– other costs that can be directly ascribed to bringing the asset to the location
and working condition for intended use (IAS 16, items 16 and 17).
Trade discounts are deducted from the aforementioned amounts, and we get
acquisition cost (acquisition value). Acquisition cost does not include general ma-
nagerial and administrative costs. Recognition of costs in the acquisition value of
property, plants and equipment stops when the asset is brought to the location and
prepared for intended use (IAS 16, item 20). Cost of assets which are built, i.e. pro-
213
duced in own scenario is equal to the production cost of assets intended for sale and
it is determined in the same manner as inventory cost. Therefore, internal profits are
excluded. Depreciation is calculated on assets which are systematically being used.
After initial valuation (measurement), taking into account performing of busi-
ness activity, value of property, plants and equipment is being changed. In relation
to this, we need to say that property, plants and equipment after initial recognition
and valuation are assessed, i.e. valued at the acquisition cost deprived by value
correction (accumulated depreciation) and accumulated losses from impairment or
at fair value. This means that after initial recognition, the company should chose
either cost model or revaluation model, as its accounting policy for the items of
property, plants and equipment as well as apply this accounting policy on entire
group of property, plants and equipment (IAS 16, items 29-31).
16.2.2.1. Acquisition of construction buildings from own assets
Construction buildings are assets: business buildings, factory halls and wor-
kshops, business buildings of shops, hotel buildings, motels and restaurants, ware-
houses, grain elevators, garages, dry-kilns, refrigeration plants, greenhouses and
assembly premises, roads, bridges, factory yards, parking spaces, paths. Overpa-
sses and concrete or metal constructions, sewage premises and similar.
Construction premises are initially valued at acquisition cost (acquisition va-
lue). The acquisition cost includes purchasing price, i.e. costs of construction, all
the costs that may be associated with the acquisition and taxes which cannot be
refunded from tax authorities. If newly built building is being purchased, than
turnover of the building is included in the VAT system, and turnover of land is
included in the system of sales tax on property. When a legal entity (taxpayer) can
deduct VAT as a receivable for input tax, it is not included in the acquisition value.
Sales tax on land is included in the acquisition value. Construction buildings and
land are separate assets and in accounting terms they are recorded separately even
in cases when they are purchased together.
Example:
1) Legal entity purchased from another legal entity newly built building intended
for management and administration, and received invoices in the amount of KM
500 000, plus KM 85 000 of VAT for the building and KM 80 000 for land on
which it is built.
2) Tax administration has assessed the land to KM 80 000 and calculated sales tax
on property in the amount of KM 4 000 (80 000 × 0,05 = 4 000).
3) Tax was paid from gyro-account.
4) Governing and administrative building is put in use.
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Explanation:
(1) Invoice for purchase of management and admin building
(2) For sales tax liability.
(3) For payment of sales tax.
(4) For putting in use manag. and admin. building.
215
16.2.2.2. Construction buildings
Example:
Contract was concluded for the construction of management building between
the investors and contractors to the total pro forma invoice gross value with VAT (net
KM 400 000 plus KM 68 000 of VAT). Business events in the accounting of investor:
1. As per contract, contractor received advance payment from gyro account in the
amount of KM 67 000, and another KM 50 000 as advance payment was paid
by the bank from approved long-term loan.
2. From contractor, invoice was received for advance payment in the amount of
KM 100 000 plus KM 17 000 of VAT.
3. Costs of project documentation as per calculation of suppliers amount to KM 23 400
(KM 20 000 plus KM 3 400 of VAT). This invoice was settled from gyroaccount.
4. First provisional transaction was received in the amount of KM 257 400
(KM 220000 plus KM 37 400 of VAT). This invoice was settled by the bank
from approved loan.
5. The second provisional transaction was received in the amount of KM 117 000
(KM 100 000 plus KM 17 000 of VAT). Advance payment was calculated and
input tax was cancelled.
6. The final transaction was received on total value of the premises in the amount
of KM 514 800 (KM 440 000 plus 74 800 of VAT).
7. The difference after final calculation was paid from a loan.
8. Calculation of interest was received from the bank, relating to the period of
construction works in the amount of KM 12 500. Interests in (example) are not
capitalized, but burden the costs of period, i.e. expenses of period.
9. Invoice was received for improving nearby neighborhood in the amount of KM
70 200 (KM 60 000 KM plus KM 10 200 of VAT). It was paid via gyro account.
10. Contributions for the shelter amount to KM 4 680 (KM 4 000 plus KM 680 of VAT).
11. The building was completed and put in use KM 504 000.
Balance in gyro account is KM 300 000.
Book records in the accounts of general ledger:
216
Explanation:
(1) For advance payment from own funds and from loan.
(2) For received invoice for advance payment.
(3) For received invoice of projecting.
(3a) For settled invoice of a projecting from own funds.
(4) For received first temporary situation.
(4a) For settled first temporary situation from a bank’s loan
(5) For received second temporary situation.
(5a) For calculation of advance payment and cancellation of input tax.
6) Difference after final calculation.
(7) Bank settled the difference after final calculation from a loan.
(8) For calculation of interest at the burden of period costs
(9) For received invoice for improvement of neighborhood.
(9a) For settlement of invoice for neighborhood from own funds.
(10) For reception of invoice for contributions of shelter.
(10a) For settlement of invoice for contributions of shelter from own funds.
(11) For transfer into use.
For the example of building construction premises, we provide additional

interpretations. Signed contract of contractors and investor contains: subject of
217
contract, agreed amount, method and period of payment time of submission of
temporary accounting situations in accordance with the degree of work completion
in the course of construction of premises. Investor, in accordance with the law, and
based on the contract, provides advance payment to the contractor when it comes
to significant amounts and when period of construction s very long. Temporary
accounting situations have a feature of invoice. Final accounting situation contains
in itself all temporary accounting situations, so that is the reason for deducting and
recording only the difference from final amount.
Once the construction process is completed, construction premises are tran-
sferred into use. In the example, construction of premises was assumed from own
funds as well as from credit funds provided by the bank, and under the assumption
of investment justification evaluated by the management. The question arises in
regard to treatment of interest cost. Namely, IAS 16 in item 16 foresees a possibility
of capitalization of borrowing costs, i.e. borrowing in accordance with the alterna-
tive procedure from IAS 23 – Borrowing costs. This actually concerns possibilities
and conditions for recognition of borrowing costs in the acquisition cost (acquisi-
tion value), but only during the construction process, i.e. acquisition. This arises
from provisions of IAS 23 which analyses seizure of capitalization of borrowing
costs (interests), and those are items from 22 to 25.
In IAS 23 – Borrowing costs, there is no insisting on capitalization of these
costs as a procedure of their involvement in acquisition cost (value of investments
of acquisition value). In IAS 23 as main procedure is stated the procedure at which
borrowing costs are recognized as expenses of the period in which they were in-
curred (debit entry of current costs, i.e. result). In this respect, this standard insists
on disclosure of accounting policy which is adopted for treating borrowing costs.
Thus, management o legal entity should make a decision on capitalization of
these costs and this decision should be explained together with the financial state-
ments. Therefore, interests should be especially identified as borrowing costs for a
certain asset, which means that acquisition value as borrowing cost should include
only those interests that relate to the period of construction, but not those interests
which relate to the period after completion of construction.
With the VAT taxpayers, VAT is not included in the acquisition value of assets,
but it is separated as a receivable for input tax.
16.2.2.3. Construction of buildings from own funds
One of possible ways of acquiring (acquisition) of premises is construction,

i.e. building from own funds. Since in this case turnover is not taking place in the
market, the acquisition costs cannot be expressed with the exchange price. Instead
of acquisition price at the market, for the constructed premises from own funds,
production costs of certain premises must be recognized.
218
Therefore, in case of production of non-current assets from own funds, acquisition
cost of assets is also normally equal to the production cost of assets intended for sale;
internal profits and amounts for unusual material consumption are excluded, labor
or other resources occurred in production for the incurred needs (item 22, IAS 16).
Borrowing costs (interests and other costs incurred in the company in associ-
ation with the borrowing of financial funds) that can be directly ascribed to the
acquisition, construction or production of qualified asset, may be capitalized in
accordance with IAS 23 – Borrowing Costs. Therefore, borrowing costs are such
costs that could be avoided if there was no cost for this qualified asset. In accor-
dance with IAS-23, item 14, borrowed funds are capitalized if they were received
with the aim of acquiring a qualified asset, but also borrowing costs for general
purposes in the amount of borrowed financial funds intended for general purposes,
and which are used for acquisition of a qualified asset.
Qualified asset is such asset which requires longer period of construction in
order to be prepared for intended use or sale. Capitalization of actual borrowing
costs seizes as soon as the asset is prepared for intended use.
Administrative and general costs are not included in property cost (IAS 16,
item 19 d). Normally, cost of acquisition, i.e. cost of construction from own funds
is compared with the price / costs of acquiring an equivalent asset at the market.
When there are differences between the mentioned amounts, the cost is determined
in the amount of lower value.
Construction of new property is included in VAT system. Model of book entry
of capitalized costs of construction of premises from own funds, we show below:
Example:
Construction company is building premises (business building) from own funds.
1. Invoice was received for supplied construction material in the amount of
KM 150 000 plus KM 25 500 of VAT.
2. Invoice was settled from gyro ccount.
3. Material is gradually being consumed at the construction plant and all was
consumed for construction of business premises.
4. Invoices were received for the services provided by others in the amount of
KM 160 000 KM plus KM 27 200 of VAT.
5. Invoices were paid via gyro account.
6. Salaries were calculated for the workers on the construction premises in gross
amount of KM 138 000 (net salaries KM 70 000, and taxes and contributions in
the amount of KM 68 000).
7. Depreciation of equipment consumed at the construction plant was calculated in
the amount of KM 58 000.
8. Contribution for shelter is KM 5 000 plus KM 850 of VAT.
9. Constructed business building in use.
219
10. Liabilities were settled for taxes and contributions, net salaries of employees and
contributions for the shelter (reference of transaction 6 and 8).
Balance of gyro account is KM 550 000.
220
Therefore, in case that legal entities, for their own needs, construct a building
from their own funds, all the costs incurred in the construction process of con-
struction premises, are recorded in books as acquisition costs, i.e. acquisition of
the construction building in the account Investments in progress – Construction
premises.
In case of purchase of finished construction building, acquisition cost is recorded
in books in the account Investments in progress – Construction premises and local
suppliers. It is important to note that contribution for shelter should not be paid.
16.2.2.4. Acquisition of plants and equipment from own funds
Plants and equipment are classified in long lasting tangible assets. Those are
assets such as technical plants, production lines, cooling plants, transport lines, equ-
ipment in plants and workshops, office equipment, shop equipment, catering and
tourism, work protection equipment, tools and transport means and similar assets.
IAS 16 – Property, Plants and Equipment defines the accounting coverage of
plants and equipment. Plants and equipment are initially valued at the acquisiti-
on cost (acquisition value). Acquisition cost of plants and equipment encompasses
purchasing price, including the import duties and non-refundable taxes, and all
direct costs associated with bringing the plants and equipment into the working
condition for intended use (IAS 16, item 16).
Administrative and general costs are not an integral part of acquisition cost.
Initial business losses in accordance with IAS 16, item 18, incurred before the asset
achieved planned capacity cannot be ascribed to the costs of bringing them into the
working condition, but they are recognized as an expense. Borrowing costs may
be included in the acquisition value of plants and equipment only if they meet the
requirements of IAS 23– Borrowing costs. If a longer period is not needed for the
asset to be prepared for intended use or sale, borrowing costs are not capitalized.
However, costs of releasing an asset in operation and initial costs of testing it,
before release of an asset into operations, are recognized in acquisition cost. With
the VAT taxpayers, VAT is not included in the acquisition cost, but it is neutral
from acquisition cost, i.e. it is separated as a receivable for input tax.
Example:
Invoice of a supplier for supplied machine amounts to KM 25 000 plus
KM 4 250 of VAT. Invoice of supplier for transport of machine amounts to
KM 3 000 plus KM 510 of VAT. Invoice of supplier for installation of machine
amounts to KM 2 000 plus KM 340 of VAT. Machine was put in use. Payment was
made to suppliers. Balance in gyro accounts amounts to KM 60 000.
221
As is clearly visible from the example of book recording, acquisition process
of plants and equipment in accounting terms is taking place via the account in-
vestments in progress – Equipment. In the mentioned account, acquisition cost is
created, which, in this example is comprised of purchasing price (supplier’s invoice
for purchased machine) and variable acquisition costs (invoices of suppliers for
transport and invoices of suppliers for installation). The mentioned variable acqu-
isition costs are comprised of costs which can be directly ascribed to bringing the
machine into the working condition for intended use. Therefore,
ACQUISITION COST = PURCHASING PRICE +VARIABLE ACQUISITION COSTS.
Once the process of machine acquisition is completed, the machine is ready for
performing intended functions and is placed in use. This business event is recorded
in such way with account payable – Equipment (in use) and account receivable –
Investments in progress - Equipment. This event is important as it is the point when
obligation for calculating depreciation begins.
16.2.2.5. Acquisition of plants and equipment from

borrowed funds – use of bank loans
Non-current tangible assets of relatively high values are acquired from appro-
ved bank loan. Normally, a bank does not allocate funds to the gyro account of
investor, but it directly pays the contractor.
222
Therefore, in this case, liabilities towards suppliers seize to exist, and liability
occurs towards the bank which paid the invoice of the supplier from approved loan.
When it comes to the assets which are quickly prepared for use, borrowing costs
are not capitalized into acquisition cost, as interests are usually paid once the asset
is placed in use.
Example:
1) Legal entity / company has agreed to the acquisition of equipment with local
supplier, which delivered the equipment and issued an invoice in the amount of
KM 150 000 plus KM 25 500 of VAT.
2 Bank has approved a long-term loan to the investor, with the repayment period
of three years. Loan is to be repaid in six semi-annual installments with the
annual interest of 8 %. The bank has settled the invoice to the supplier in the
amount of KM 175 500 from approved loan.
3) Invoice was received from supplier for transport of equipment in the amount of
KM 5 000 plus KM 850 of VAT.
4) Invoice was received from supplier for installation of equipment in the amount
of KM 8 000 plus KM 1 360 of VAT.
5) Equipment was put in use.
Explanation:
(1) Invoice of equipment supplier.
(2) Bank pays supplier from approved loan.
(3) Invoice for transport of equipment.
(4) Invoice for installation of equipment.
(5) For placing in use.
223
16.2.2.6. Acquisition of non-current assets within government
grants and government assistance
Accounting of government grants and government assistance is regulated with

IAS 20 – Accounting coverage of Government Grants and Disclosure of Gover-
nment Assistance.
Government grants is assistance provided by the government in a form of tran-
sfer of assets to a legal entity in exchange for the past or future satisfying of certain
conditions that are associated with the legal entity. They exclude the forms of go-
vernment assistance, for which the value cannot be objectively determined, as well
as business activities associated with the government, which do not differ from
ordinary business transactions of legal entity (IAS 20, item 3).
The government assistance is a procedure conducted by the government, whose
aim is provision of economic benefits, specific for certain legal entities or a group
of legal entities which fulfill certain criteria. It does not include such benefits whi-
ch are provided only indirectly, with the procedures that influence general business
conditions, such as provision of infrastructure in the developing regions or intro-
duction of trade limitations for the competition (IAS 20, item 3).
Government grants, associated with the assets, including non-monetary grants at
fair value, should be recognized in the balance sheet by presenting accrued (deferred)
income, or by deducting the grant from asset’s carrying amount (IAS 20, item 24).
“Government grants are recognized as revenues during the period, necessary
for matching against related costs which need to be covered systematically from
that revenue. (IAS 20, item 12).
“Government grant may be in a form of transfer of non-monetary asset, such
as land or other resources, in order to be used by the legal entity. In such cases,
assessment of fair value of non-monetary asset is normally performed, and in acco-
unting terms it is presented at fair value of grants and assets. Alternative procedu-
re, which is sometimes applied, is that both, the asset and grant are presented in
nominal amount.” (IAS 20, item 23).
Thus, we can receive land also in a form of grant (gift, etc.). Unlike this, su-
bsequent investments in these assets for their improvement which have limited
useful life, should be presented and depreciated separately. Such investments are
various improvements of land, drainage channels, laying concrete on paths, par-
king space, that is, ennobling. Thus, the improvement itself through investments in
the land which is already in business assets, should be separately presented in the
account - land and it should be depreciated as a sum of investment.
Example:
1) The company received a grant from the government in a form of agricultural
land at fair estimated (market) value of KM 20 000.
224
2) Invoice was received from a supplier for improving the land in the amount of
KM 5 000 in order to put the land into use.
3) Transfer in use.
Explanation:
(1) For free admission of land.
(2) Invoice for land improvement.
(3) For transfer to use.
Thus, we recorded admission of granted land in accordance with IAS 20 – Acco-

unting coverage of Government Grants and Disclosure of Government Assistance,
item 15.a., in which it is regulated that grants are recognized as revenue during the
period73, i.e. in line with so called gain approach.
As one of possible ways for acquiring non-current assets (property, plants,
equipment), there is acquisition, i.e. acquiring of assets by receiving them as
a gift.
Assets acquired in this way are acquired for good and for free, i.e. without obli-
gation for counter compensation in monetary funds (cash or cash equivalents) or
providing some other service.
For the asset which was received as gift, there is no acquisition cost. For such
acquired asset, it is necessary to assess fair market value which represents basis for
recording and recognition of assets in business records and financial statements.
Thereby, fair market value of assets received as gift represents basis for calculation
of depreciation of such asset.
73
Fiscal aspect of grants is regulated by domestic law.
225
Example:
Legal entity “A” received equipment as assistance for faster development from
the government in a form of gift. Estimated value of the equipment is KM 25 000,
and estimated useful life is 10 years.
According to IAS 20 calculation of grant, i.e. gift, increases the value of non-
current assets with the simultaneous increase of revenues. We should note that
grant is gradually turned into revenue, depending on the extent of costs incurred
in a certain period. With the non-current assets, grant is included in the revenue
depending on time and extent of depreciation. Therefore, grant is deferred income
which is, every year brought down to income, depending on the extent of depreci-
ation costs (IAS 20, items 12 and 24).
Generally speaking, if non-current assets are acquired through the government
grants and government assistance, the mentioned transaction is occurring at so
called revenue, i.e. profit approach. According to this approach, calculation of de-
preciation increases non-current assets in the legal entity, with the simultaneous
226
increase of deferred income which are recognized in income on the systematic and
rational base during useful life of assets (IAS 20, item 26).
16.2.3. Subsequent costs – Investment in assets

(non- current tangible assets)
Non-current assets (construction premises, plants and equipment) are assets

that have limited useful life. With the aim of ensuring continuous use in evaluated
useful life, premises, plants and equipment need to be maintained, i.e. the work
should be performed on them. For these works, it is often difficult to determine as
to whether subsequent costs related to the existing assets should be presented as an
increase of assets (investments) or as a cost, i.e. expense.
IAS 16 states that subsequent costs shall be recognized in the carrying amount
if criteria from item 7 of IAS 16 are met, only and only if:
a) it is probable that future economic benefits related with these assets will
flow in the legal entity;
b) asset cost may be reliably measured.
In accordance with item 12 of IAS 16, if subsequent cost does not increase but
only maintain or restore the existing function of non-current assets, such fees have
a character of costs, i.e. expenses, and from aspect of frequency of appearance and
significance of amounts, they are classified as follows:
 costs of current (daily) maintenance which are equally and continuously in-
curred during the period of use of assets, with the aim of performing daily
functions of assets;
 costs of “repair and maintenance” which incur unevenly in longer a c -
counting periods in terms of their amount, represent significant amounts
of costs.
Legal entity may record significant parts of property, plants and equipment,
if they have a different useful life from useful life of assets they are related to, as
separate assets and depreciate them separately (IAS 16, item 44). In this case, su-
bsequent costs which incur at the replacement of those significant parts meet the
criteria for recognition in accordance with item 7 of IAS 16.
IAS 16 does not treat the cases which assume realization of future economic be-
nefits, which is the main criteria for recognition of subsequent costs into the acqu-
isition value (carrying amount), however, we can say that this criteria is met if it:
 extends useful life of assets,
 enhances quality of its output,
227
 increases its capacity,
 significantly reduces production costs.
Example:
Machine for production was recorded in books at the acquisition cost of KM 100 000.
Useful life of machine was estimated to 10 years, so the equipment is depreciated
at the rate of 10%.
Equipment is in use 4 years, so accumulated depreciation is KM 40 000.
1) In the reconstruction of machine KM 40 000 was invested.
Following reconstruction, it is expected that useful life will be extended and
legal entity recognizes subsequent costs in the carrying amount.
2) Invoice was received from suppliers for services and material for performed
reconstruction in the amount of KM 40 000 plus KM 6 800 of VAT.
3) Investment was activated.
Explanation:
(1) Investment in equipment.
(2) Invoice of supplier for reconstruction.
(3) For activating subsequent investment.
228
Reconstruction meets the requirements in accordance with IAS 16 for recogni-
tion in the asset and we recorded it in the account Investments in progress – In-
vestment in equipment. Non-depreciated amount (carrying amount) was increased
from KM 60 000 to KM 100 000.
Change of base for depreciation calculation (carrying amount increased by re-
construction costs, in the example: 60 000 + 40 000 = 100 000) might require chan-
ge of depreciation rate, so that calculated depreciation in useful life for the asset
on which additional investment was performed would also include the amount of
additional investment, i.e. reconstruction.
16.3.DEPRECIATION COST
Depreciation is a cost, i.e. expense74 which is incurred as a consequence of gradu-
al consumption (use, exhaustion) of economic benefits contained in assets which
have limited useful life. Gradual use of economic benefits of non-current assets is
related with their use and revenue generation, which means that the allocation itself
of total depreciated amount to some years in useful life should enable as objective
as possible matching of depreciation as a cost, i.e. expense against generated in-
come. This general requirement on allocation of acquisition cost as depreciation is
expressed and contained in the definition of item 6 of IAS 16, where depreciation
is defined as systemic allocation of depreciated amount of assets which is depreci-
ated during its useful life. Assets which have unlimited useful life and thus, do not
consume economic benefits in them, are not depreciated:
 Land (construction, agricultural); separate from land, there are investments
in irrigation, roads, bridges which have limited useful life which is liable to
depreciation;
 forests and similar restored natural resources;
 books in libraries which have permanent value, cultural monuments and oth-
er states of art and permanent values.
Normally, for the listed assets, there is an assumption that a return of money in the
amount of acquisition cost shall be realized from revenues from sale of those assets.
Assets which, according to the criteria of limited useful life, are depreciated in
accordance with general criteria for incurrence of expenses, consumption of eco-
74
If an asset is used in production process, it is correct to present its depreciation as an item of
product cost which, at the beginning of the period, is ascribed to the inventories of non-finalized
production, then to the inventories of final products, after which it becomes an expense (cost of
sold products) in the period in which the product was sold.
229
nomic benefits contained in the asset, arises that until the beginning of useful life,
assets which are normally liable to depreciation, will not be depreciated.
Thus, depreciation starts to be calculated from handing over assets to the use
(beginning of consumption of economic benefit). Normally, depreciation is to start
being calculated from the first following month after the month in which asset
was placed in use. Land, construction premises and equipment held for sale are pre-
sented as inventories of trading goods. Calculation of depreciation seizes when the
carrying amount (acquisition cost minus accumulated depreciation – accumulated
depreciation includes calculated depreciation and value adjustment) is equalized with
estimated residual value. With the assets whose residual value has not been estimated,
calculation of depreciation seizes when carrying amount is brought down to zero, i.e.
when accumulated depreciation is equalized with acquisition cost. In these two men-
tioned cases, there is an assumption that the asset was used within estimated useful
life. For the asset which is temporarily out of use, because of stoppage in production
or production pre-orientation or similar, normally, calculation of depreciation does
not seize. We should note that in some cases it is necessary to assess as to whether
temporary non-use of assets influences extension of estimated useful life. For the
assets, which are permanently out of use, i.e. without perspective to be used, calcula-
tion of depreciation in the legal entity seizes. Thus, for such asset there should be an
assessment as to whether it is possible to compensate non-depreciated amount with its
sale in the future. The amount that will not be possible to compensate, is written off
at the burden of expenses as value adjustment, i.e. losses from impairment of assets.
16.3.1. Elements influencing calculation of depreciation
Taking into account general definitions and principles on calculation of depre-

ciation (IAS 16, IAS 38) each legal entity in its internal act must determine all the
necessary elements for calculation of depreciation.
Thus, basic elements that influence the amount of depreciation cost are:
 depreciation calculation as per subject,
 useful life,
 depreciation calculation base and
 depreciation calculation method.
Depreciation is most often calculated for each individual asset. In the USA “big
companies shall, with the aim of calculating depreciation, group similar items in
accordance with types of assets, such as trucks, electric networks, office equi-
pment, or transformations. Group depreciation is widely used in all fields of indu-
stry and business operations”.75
75
Gray / Needles, Financial…, quoted, pg. 267.
230
For each depreciation group, it is necessary to assess useful life and on the
basis of this assessment, to determine annual depreciation rates. Useful life may
be expressed in the number of years or quantity of products, i.e. outputs, which
are expressed in certain units of measure. In determining useful life of assets, i.e.
depreciation rates, we need to pay attention to the expected physical consumption
of assets, obsolete and legal limitations. From tax aspect, maximum depreciation
rates are prescribed, which are recognized as a tax expense.
Acquisition cost of asset, for which depreciation is calculated, is most often
taken as a base for depreciation calculation for some financial year. Although the
aforementioned manner is used in practice, however, accounting principles on cal-
culation of depreciation both in IAS 16 and in IAS 38 start from the assumption
that depreciation in useful life of some asset is not equal to its acquisition cost. This
principle is expressed in the definitions of the amount which is depreciated, i.e.
depreciated amount of some asset, in item 6 of IAS 16 and item 8 of IAS 38
According to these definitions, the amount that is depreciated or depreciated
amount is acquisition cost of asset deducted for residual value. Normally, (and in
accordance with items of the mentioned standards) that is the amount which legal
entity expects to achieve with the sale of assets at the end of their assessed useful
life upon reception of expected costs of sale.
The application of definition, i.e. principle on depreciated amount (depreciation
cost and useful life) and the manner of depreciation calculation, we will explain on
the example for legal entity “A” and legal entity “B”.
Example:
Legal entity “A” from Sarajevo for the transport of passengers at the destination
Sarajevo – Istanbul acquired four new busses, “Mercedes” type, for which acquisi-
tion cost is 3 200 000. Legal entity “B” from Sarajevo for the transport of passen-
gers at the inter-city destination in BiH acquired four busses “Mercedes” type for
which acquisition cost is also 3 200 000.
Calculation of depreciation in accordance with the management decisions:
a) Legal entity “A”

useful life and annual depreciation rate:
According to the management decision – for the transport of passengers, busses
older than 4 years shall not be used. For the acquired 4 busses useful life was de-
termined 4 years, from which arises that annual depreciation rate is 25 % (100/4).
assessed residual value:
Management made an assessment that busses which are 4 years old may be sold,
so reasonable assessment is that with the sale of 4 busses, at the end o 4 years,
revenue generated from sale should be 1 000 000.
231
depreciation amount, i.e. depreciation cost in assessed useful life:
– acquisition cost 3 200 000
– minus assessed residual value at the end of useful life (1 000 000)
– depreciation amount, i.e. depreciation cost in useful life

(base for depreciation calculation) 2 200 000
2 200 000  25
annual amount of deprec = 550 000
100
b) Legal entity“B”
useful life and annual depreciation rate:
According to the experience so far, with regular maintenance, management has
determined useful life of 10 years, from which annual depreciation rate arises
to 10 % (100/10).
assessed residual value:
Management made an assessment that busses may be sold after 10 years, and
that for 4 busses, income from sale may be expected in the amount of 250 000.
depreciation amount, i.e. depreciation cost in assessed useful life:
– acquisition cost 3 200 000
– minus assessed residual value 250 000
– depreciation amount, i.e. depreciation cost in useful life

(depreciation calculation base) 2 950 000
2 950 000  10
annual amount of deprec = 295 000
100
In the example of legal entity “A” and legal entity “B” presented assessment of
depreciation cost in useful life requires a certain sequence of steps in the assessment.
In the first step before assessment of residual value, it is necessary to assess
expected useful life of some asset in accordance with the conditions of use and
other factors in legal entity and outside it, which influence the expected useful
life, i.e. period in which legal entity shall use the asset. In our example of asset, i.e.
busses with entirely same characteristics, have, as a result of business policy and
to certain extent different conditions of use at the market of tourist turnover and
line transport, different useful life for two legal entities. Taking into consideration
the residual value in calculation of depreciation in useful life (use of assets), as the
example shows, is an instrument of more objective depreciation cost. A need for
respecting the residual value is justified with the assets which have relatively shor-
ter useful life. This is confirmed with the example of legal entity in which, if the
residual value was not respected, annual amount of depreciation would not be 550
000 but 800 000 (3 200 000 × 25 / 100).
232
In that case, at the moment of sale, at the end of the fourth year, with the sale of
four busses, legal entity would generate income in the amount of 1 000 000, which
would represent profit, as sold busses are entirely depreciated within the four years.
Of course, this gain does not have a character of real earning. That is the amount for
which depreciation should normally be corrected for the previous four years. Depre-
ciation should have been smaller in the first four years, each year per 250 000. For
this amount, already in the first year, assets are undervaluated and hidden reserve of
profit was created. This was repeated also in the remaining three years of useful life.
Respecting and non-respecting of assessment of the residual value in longer useful
life, i.e. use (for the assets which, in technical terms have the same useful life) has a
smaller influence on objectivity of determining total amount of depreciation in use-
ful life and its allocation to the certain periods. This is shown in the example of legal
entity “B”, with which, with respecting assessed residual value, annual depreciation
is 295 000, and without respecting the residual value, annual depreciation is 320 000.
Application of prudence principle, according to which it is not acceptable to over-

valuate assets and revenues, and under-valuate liabilities and expenses, justifies, but
not always, negligence of the assessment of residual value in determining the base
for calculation of depreciation, i.e. depreciation cost in useful life. In the explana-
tion for application of depreciation principle in IAS 16 it is stated that legal entity
should determine the remaining units of property, plants and equipment with the
assessment, as the amount which it expects to get immediately for this asset at the
end of its useful life. We are of the opinion that with the plants, equipment, vehicles,
i.e. movable assets, assessment is less reliable and less significant or it is totally
insignificant when useful life is longer. However, also with the assets with shorter
useful life, such as furniture, computers, etc. due to non-existence of market and
impossibility of sale of such used assets, negligence of residual value is justified.
For the construction premises, especially business premises, (offices, shops, com-
mercial banks and similar) in the towns, at so called attractive locations, assessment
of the residual value in determining depreciation base, thus, depreciation cost in the
assessed useful life, is necessary for objective presentation of depreciation cost.
In practice, the simplest solution to apply is acquisition cost as depreciation
base, and without verification of possible residual value, and this can be justified
with lack of reliability in assessment of residual value. Although in practice, in
many examples this will indeed be justified and objective, however management
of a legal entity in internal acts emphasizes provision which may state: acquisition
cost is used as depreciation base for assets which are liable to depreciation.
According to IAS 17, item 27, depreciation seizes:
 when non-current assets are given to someone else according to the financial
lease contract.
233
According to IAS 16, item 55, depreciation seizes earlier in case:
 when assets are classified to be held for sale in accordance with IFRS 5;
 when there is no production (within used depreciation method, depreciation
cost may be zero).
However, according to IAS 16, item 55, depreciation is not seized when an asset
is not sufficiently used or when it is withdrawn from active use, except for assets
which are entirely depreciated, as already mentioned.
16.3.2. Depreciation methods

In theory and practice, there are two main depreciation methods:
 functional and time.
With the time depreciation method, crucial factor that is evaluated is useful
life of intangible and tangible assets. It is on this useful life that depreciation rate
depends on. Calculation of depreciation in line with the time is performed with the
three main depreciation methods (of time) as follows:
 linear depreciation method,
 Digressive depreciation method and
 Progressive depreciation method.
16.3.2.1. Linear depreciation method
According to one principle, non-current assets are used equally. This means that
use of assets (gained benefit) is equal every year during useful life of assets. This
principle brings us to linear method on whose basis, every year, equal portion of
assets is recognized as cost. For the part of equipment whose cost (of acquisition) is
10 000, and expected useful life 10 years, 1 / 10 of 10 000 (= 1 000) is depreciation
cost in the first year, 1 / 10 depreciation cost also in the second year, etc. In another
words, depreciation rate of equipment is 10 % anually, and is calculated as a recipro-
cal value of expected useful life.76 Depreciation is normally calculated in unchanged
amounts. Since certain accounting periods are burdened with the same amounts, co-
sts shall be even, so the depreciation cost shall evenly burden the revenues. Accor-
ding to this, we get to the depreciation amount by using the following formula:
76
234
16.3.2.2. Digressive depreciation method
The second principle emphasizes that the benefit gained from the equipment
does not have to be evenly allocated. On the contrary, benefit from equipment may
be the highest during the first year of its use, and the lowest during the last year of
its use. Such model may occur because mechanical efficiency of assets normally
declines as years go on, as maintenance costs normally increase, or because of
growing possibility for the assessment of acquiring better equipment, whereby the
existing equipment shall become obsolete. Thus, it is claimed that when acquiring
assets, a possibility should be taken into account that the benefit from assets will
be higher in the earlier than later periods, and depreciation method should reflect
this fact. Such way of thinking leads to a reasonable assessment by managers, i.e.
accountant to prefer model of digressive, i.e. accelerated depreciation, according to
which, in the first years, more costs are recognized as costs, than in later years.77
Thus, different methods of depreciation calculation are:
 method of digressive rate on the same base,
 method of equal rate on digressive base,
 method of double digressive base or method of double rate of linear depre-
ciation on the digressive base, and
 method of sum of number of years (or method of parts).
Example for method of digressive rate on the same base:
77 Gray / Needles, Financial..., quoted, pg. 266.
235
For the application of method of equal rate on digressive base carrying amo-
unt must be determined (acquisition cost minus accumulated depreciation). Depre-
ciation rate is determined on the basis of formula:
t = useful life
In the USA, some companies apply digressive, i.e. accelerated method for the
needs of financial reporting since 1954, when its application was permitted for the
first time for the needs of profit tax. Further in text, we will explain description of
two methods, method of double regression base or method of double rate of linear
depreciation on the digressive base, and method of the sum of number of years (or,
simply, the sum of years).
Result of application of either of these methods is write off of approximately
two thirds of assets cost in the first half of assessed useful life of assets, unlike
linear method, according to which half of cost is written off in the half of assessed
useful life of assets. Thus, if accelerated method is applied, depreciation cost is
higher in the first years, and lower in late years compared with the linear method.
With the method of double digressive base (double rate of linear depreciation
on digressive base), the sum of depreciation for each year is determined with the
application of certain rate on the carrying amount of assets at the beginning of
the year. (With the linear method, depreciation rate is applied on the initial cost of
assets, and not on the carrying amount). The rate applied in the method of double
digressive base, percentage of linear depreciation rate is presented. So, for the asset
for which useful life is 10 years, (linear depreciation rate is 100 % / 10 years is
10 %), method of double digressive base with the rate of 200 % would be used with
depreciation rate 20 % (200 % /10 years). Similar to this, method of double digre-
ssive base with the rate of 150% would apply depreciation rate of 15 %. Therefore,
method of double digressive base is also referred to as method of double linear
depreciation rate on the digressive base because depreciation rate is as double as
higher than linear depreciation rate.
After several years, annual depreciation rate, with the application of double
digressive base method, will be lower than annual depreciation rate with the appli-
cation of linear depreciation. It is normal, at that moment, to replace the method
of double digressive base with the method of linear depreciation for the remaining
useful life of assets.
With the method of the sum of years numbers 1, 2, 3, … n are added, and n pre-
sents assessed years of useful life. This sum may be determined with the following
equation (taking 10 years as an example):
236
Depreciation rate of each year is a fraction in which denominator is the sum of
years, and numerator for the first year n, for the second year n – 1, for the third year
n – 2, etc. Therefore, for the asset with useful life of 10 years, depreciation rate is
10 / 55 first year, 9 / 55 second year, 8 / 55 third year, etc.
The same as with linear method, the rate is applied on cost of assets or cost
decreased by the residual value). Therefore, annual depreciation for the first year
(10 / 55) × 10 000 = 1 818,20, for the second year (9 / 55) × 10 000 = 1 636,40, for
the third year (8 / 55) × 10 000 = 1 454,50, etc. The following figure presents the
manner of operation of three methods of depreciation in the example of equipment
with acquisition cost of 10 000, assessed useful life is 10 years, and there is no
residual value:
Linear method Double digressive base Method of

(rate 10 %) method (rate 20 %) sum of years
Annual Carrying amount Annual Carrying amount Annual Carrying amount

Year depreciation Rate
31. 12. depreciation 31. 12. depreciation 31. 12.
0 10 000 10 000 10 000

1 1 000 9 000 2 000 8 000 10 / 55 1 818,20 8 181,80
2 1 000 8 000 1 600 6 400 9 / 55 1 636,40 6 545,40
3 1 000 7 000 1 280 5 120 8 / 55 1 454,50 5 090,90
4 1 000 6 000 1 024 4 096 7 / 55 1 272,70 3 818,20
5 1 000 5 000 819,20 3 276,80 6 / 55 1 090,90 2 727,30
6 1 000 4 000 655,40 2 621,40 5 / 55 909,10 1 818,20
7 1 000 3 000 655,40 1 966,00 4 / 55 727,30 1 090,90
8 1 000 2 000 655,40 1 310,60 3 / 55 545,50 545,50
9 1 000 1 000 655,40 655,20 2 / 55 363,60 181,80
10 1 000 0 655,20 0 1 / 55 181,80 0
10 000 10 000 10 000
Figure 21. Comparison of depreciation methods
16.3.2.3. Progressive depreciation method
Progressive method of depreciation calculation is procedure opposite to the digre-

ssive method. In this method, there is an assumption that economic and physical
use are highest at the end of useful life of intangible and tangible assets. This met-
hod is not very much present in theory, and it has very little meaning in practice,
too. IAS does not allow application of this method.
237
16.3.2.4. Functional depreciation method
The following depreciation model also assumes that intangible and tangible
assets are a group of units for use. However, it is not assumed that these performan-
ce units shall be allocated in accordance with mathematical time sample, as it is
assumed with linear and digressive, i.e. accelerated method. Moreover, according
to this model, depreciation for certain period is tied to the number of performan-
ce unit of use of assets of such period. The result of such way of observation is
functional method, according to which the cost of each unit of use is equal to the
acquisition cost of assets divided by the total number of units. Thus, the sum of de-
preciation for a certain period is a number of units of use in that period multiplied
by the cost of one unit.
Therefore, methods of functional depreciation are:
 method of calculation at the unit of functional capacity;
 method of calculation depending on the effective duration of process ex-
pressed with the planned number of hours of their work.
For example, if assumed cost of truck is 60 000, and it is estimated that the truck
will pass over 300 000 kilometers, depreciation would be calculated at the rate of
0,20 convertible marks per kilometer (60 000 : 300 000). Depreciation cost for the
year in which the truck passed over 50 000 kilometers would be KM 10 000.78
In the application of depreciation calculation, with the use of functional depreci-
ation method, we should pay attention that total amount of depreciation correspon-
ds to the amount of depreciation which is obtained with the application of adopted
time depreciation methods.
16.3.2.5. Calculation and book recording of depreciation costs
Lets assume that on 1 January 2001, company “X” purchased a building for 1 000
000, whose estimated useful life is 40 years, and the residual value is zero. Com-
pany “X” has decided to linearly depreciate this building, per 25 000 annually.
Depreciation cost may be recorded in books in the accounting records in a way to
reduce the value of assets by 25 000 annually and to present only the residual sum
in balance sheet, which, at the end of 2001 would amount to 975 000. However,
this is not normally the case. Instead of this, a separate counter account of assets
for cumulative sum of depreciation is kept. This account is normally referred to
as accumulated depreciation or value correction (of tangible or intangible assets).
78
Adapted Gray / Needles, Financial..., quoted, pg. 257.
238
American Generally Accepted Accounting Principles (US GAAP) require disc-
losure of the sum of accumulated depreciation, either in balance or in the records
attached to the balance sheet. In the balance itself, there are normally both, the sum
of acquisition cost and sum of accumulated depreciation.
For company “X” data on the day 31 Dec 2001 are as follows:
Constructions at cost 1 000 000

Minus – value correction of
property, plants and equipment
(accumulated depreciation) (25 000)
Constructions, carrying amount 975 000
On the day 31 Dec 2002 depreciation for another year would be added, and
balance would then show the following:
Construction at cost 1 000 000

Minus – value correction of
property, plants and equipment
(accumulated depreciation) (50 000)
Constructions, carrying amount 950 000
The above mentioned sums may be interpreted in the following way:
Initial acquisition cost of constructions (build.) 1 000 000
A part of initial cost, shown as cost, i.e. expense

for all the periods so far (50 000)
Part of initial cost that will be recognized as cost,

i.e. expense in future periods 950 000
The sum of 950 000 is carrying amount (cost of assets minus value correction).
The aim of concept carrying amount is to emphasize the fact that this sum is not
an assessment or market value.
In the income statement of company „X” on 31 Dec 2001, item of depreciation
cost of building in the amount of 25 000 will become expense through the costs of
sold products, and the same in the following year, until the building is fully depre-
ciated or disposed.
239
Book recording of depreciation cost in the accounts of general ledger:
Explanation:
(1) For book recording of depreciation cost in the first year of estimated useful
life (31. 12. 2001).
(2) Book recording of depreciation cost in the second year of estimated useful
life (31. 12. 2002.)
Items (3), (4), (5) etc. would repeat also in the following years, until the building
is fully depreciated or disposed.
16.4. CHANGE OF DEPRECIATION RATES

Depreciation costs are sometimes not correctly estimated, as annual depreciation
rates are calculated on the basis of estimated useful life of non-current tangible and
non-tangible assets. Such a situation may occur as a result of overvaluation or un-
dervaluation of useful life. In case that it is estimated that, due to smaller intensity of
use of equipment, initially estimated useful life should be changed (revised), useful
life should be re-estimated, i.e. initially determined annual depreciation rates should
be revised, due to which costs of depreciation will either decrease or increase.79
Principle on systematic allocation of depreciation during useful life of some
asset, stated in item 50 IAS 16 – Property, Plants and Equipment, does not require
application of initially determined annual depreciation rate from the beginning to
the end of useful life continuous. Thus, principle on systematic allocation of depre-
ciation should be applied together with the stated requirement, also in item 60 of
IAS 16, that used depreciation method should reflect the use of economic benefits
of assets, used by the legal entity. For example, decision of the management of the
company that as a result of less intensity of use of equipment annual depreciation
rate for the current year should be decreased, is a systematic approach, as depreci-
ation in the current year is adjusted with the intensity of consumption of economic
benefits of assets. Of course, this decrease of rates is justified and possible, if, in
the remaining useful life, the fee of non-depreciated amount of assets will be en-
sured with the application of those or increased depreciation rates (IAS 16, item
79
240
61). Such change should be presented as changes in the accounting assessments in
accordance with the item 32 of IAS 8 – Accounting Policies, Changes of Accoun-
ting Assessments and Errors.
Example:
Initially estimated useful life of equipment of company “X” is 6 years, according
to which depreciation rate is 16,666 %. Acquisition cost, determined as depreciation
base is 125 000. At the end of the third year, the management has, in the procedure of veri-
fication of initial assessment, determined that it is objective to expect useful life of 8 years.
In accordance with this assessment, management has determined that in accordance
with newly estimated useful life, depreciation is calculated for the third year and
other years in useful life.
On the basis of the mentioned data, depreciation will be allocated to the years in
useful life in the following way:
 initial assessment
125 000 . 16, 666
annual amount of depreciation = 20 832,50
100
depreciation in first year 20 832,50
depreciation in second year 20 832,50
Total calculation of depreciation in the first two years 41 665

 changes of initial depreciation at the end of the current year
balance on the day 1 Jan of the third year 125 000
calculated depreciation in the first two years 41 655
Non-depreciated amount (carrying amount) 83 335

83 335
Annual amount of depreciation = = 13 889,17
6
Annual rate of depreciation
13 889,17
in the remaining useful life = × 100 = 11,111 %
125 000
125 000 × 11, 111
Depreciation in the third year = = 13 889,17
100
The example shows that in accordance with the new assessment of useful life, at
the end of the third year, annual depreciation rate should be 12,5 % (100 / 8 = 12,5 %).
However, since calculation of depreciation is being corrected for the first two years,
depreciation rate of 12,5 % annually cannot be applied for the calculation of depre-
ciation for the third year and remaining years of depreciation life. Annual amount of
241
depreciation for the third year and other years is determined by dividing non-depre-
ciated amount at the beginning of the third year, with the remaining years of newly
estimated depreciation life, i.e. by 6 (8 – 2 = 6). From such determined amount of
depreciation, annual depreciation rate is determined of 11, 111 %, with the assump-
tion that depreciation base remains initially determined acquisition cost of 125 000.
16.5. WITHDRAWAL FROM USE,DISPOSAL AND REMOVING

FROM BOOKS OF PROPERTY, PLANTS AND EQUIPMENT
16.5.1. Withdrawal of assets from use
Non-current tangible assets may be withdrawn from use temporarily or perma-
nently. If assets are temporarily withdrawn from use, the reason for that might be
that they will temporarily not be used or they are intended for sale. When non-cu-
rrent tangible assets are temporarily not in use, they are not excluded from balance
sheet, but they are transferred into the account Construction premises out of use,
account - plants out of use, account - equipment out of use. In accordance with IAS
16 – Property, Plants and Equipment, item 55, depreciation does not seize when
assets are temporarily not in use. The same applies also to non-current intangible
assets, according to IAS 38, item 117. When non-current assets are withdrawn
from use and are held for sale or business discontinuity occurs, calculation of de-
preciation seizes in accordance with IFRS 5, item 25, and these assets should be
transferred to a separate balance item. In accordance with IAS 36 – Impairment
of Assets, item 63, the legal entity, at least at the end of the financial year, tests the
asset in order to impair it and to recognize the loss.
Example:
Acquisition cost of equipment amounts to KM 50 000, and calculated depreciation
until the end of the period in which equipment is temporarily not used is KM 40 000.
Equipment is temporarily withdrawn from use and is transferred to the assets out of
use. Book entry in the accounts of general ledger:
242
Explanation:
(1) For transfer of equipment out of use which is temporarily not being used
If the equipment is activated again, it should be transferred back to the account
Equipment, at the value of KM 50 000 and written off value (accumulated depreci-
ation) of KM 40 000, if value adjustment has not been performed.
If value adjustment incurred, the value of equipment should be reduced for the amo-
unt of value adjustment.
16.5.2. Writing off property, plants and equipment
In accordance with IAS 16, item 67, “carrying amount of property, plants and
equipment should seize to recognize”:
a) at the moment of disposal, or
b) in case when future economic benefit is not expected from their use or disposal.
Therefore, in case when future economic benefits are not expected from assets,
either from sale or further use, the asset should be closed in the balance sheet, if
the asset is written off or if it is not entirely written off, i.e. depreciated. For the
asset which is being withdrawn from use or is being sold before closure in books,
depreciation should be calculated for the month in which it was in the function.
Depreciation is calculated until the end of the month in which the asset was with-
drawn from use.
Example:
At the end of the current year, equipment was written off. Acquisition cost of
equipment is KM 50 000, and value correction of equipment (accumulated depre-
ciation) is 50 000 KM.
(1) for removal from books / writing off equipment
243
In the example, acquisition costs are equal to the value correction and non-
written off value is equal to zero. Account of value correction of equipment is de-
pendant, i.e. correction account and should be observed together with the account
of equipment. In our example, amount in the account of equipment of 50 000 is a
base for depreciation calculation. Therefore, in estimated useful life of equipment,
book recording is performed every year, so that the account Depreciation costs is
payable, and the account value correction - receivable. After its useful life, equi-
pment is fully depreciated, and at the same time, as a result of being worn out, it
is not capable for further use, so it needs to be written off. By writing it off, we
have removed the equipment from books and put it out of use, and simultaneously
we have removed the account - value correction of equipment, from books. In that
way, there is no equipment in book records nor in the balance sheet.
In the mentioned example, we should assume that writing off the equipment sho-
uld have been conducted before the equipment was fully depreciated. Non-depreci-
ated, i.e. non written-off value of equipment amounts to 5 000 (50 000 – 45 000 = 5
000). Taking into consideration that acquisition cost is 50 000 with the value correc-
tion, i.e. with depreciation, was transferred to new products or services only in the
amount of 45 000, the amount of KM 5 000 should be recorded at the expenses.
16.5.3. Sale of property, plants and equipment which is not

classified in accordance with IFRS to be held for sale
In accordance with IAS 16, item 68, “gains or losses arising from seizure of
recognition of items of property, plants and equipment, should be included in profit
or loss when their recognition seized (unless IAS 17 requires differently)”. Gains
are not classified as revenue.
However, gains are not classified as revenue in accordance with IAS 18, but
according to the Framework they are classified as revenue from sale of non-current
assets, as they are included in gains which meet the criteria for recognition of revenue.
In accordance with IAS 16, item 71, “gains or losses arising from seizure of
recognition of some property, plant and equipment, should be determined as a dif-
ference between the net amount of receivables from disposal and carrying amount
of assets”. In some cases, property, plants and equipment may be sold at the prices
(in accordance with IAS 16):
 with the sale there is a price which is equal to non written-off value (carrying
amount) of property, plants and equipment;
 the sale achieves a price which is higher than non written-off value (carrying
amount) of property, plants and equipment;
 the sale achieves a price which is lower than non written-off value (carrying
amount) of property, plants and equipment.
244
Example:
Equipment is being sold whose acquisition cost is KM 80 000, and value correc-
tion (accumulated depreciation) is KM 70 000. Equipment was sold to the buyer for
KM 10 000 plus KM 1 700 of VAT, total KM 11 700. The buyer paid.
Explanation:
(1) For sale of equipment removal from books.
(2) Buyers paid.
From the transaction, it is visible that in this case there are no revenues (gains)
nor expenses (losses), and removal from books is completed with the selling price.
Example:
Equipment is being sold whose acquisition cost is KM 80 000, and value correction
(accumulated value) is KM 70 000. Equipment is sold to the buyer for KM 15 000 plus
KM 2 550 of VAT. Total amount is KM 17 550. The buyer paid.
245
Explanation:
(1) For sale of equipment and removal from books.
(2) Buyers paid.
In comparison with the previous examples, only gain in the amount of

KM 5 000 is recorded in revenue.
Example:
Equipment is being sold whose acquisition cost is KM 80 000, and value correc-
tion (accumulated depreciation) is KM 70 000. Equipment was sold to the buyer for
KM 7 000 plus 1 190 of VAT. Total amount is KM 8 190. The buyer paid.
Explanation:
(1) For sale of equipment and removal from books.
(2) Buyers paid.
246
In the above mentioned example, loss in he amount of KM 3 000 is recorded at
the burden of expenses, i.e. losses which meet the definition of expenses in accor-
dance with items 79 and 80 of the IFRS Framework.
16.6. LONG-TERM FINANCIAL INVESTMENTS

Long-term financial investments are financial assets invested for the period
longer than one year. Legal entity, with the aim of achieving some revenue, i.e.
profit, invests into financial assets.
One company may invest into another company by purchasing bonds or shares.
All the long-term investments in shares will be initially valued and recorded at the
acquisition value. Treatment of investments in the accounting records after initial
purchase depends on to which extent the company which invests can make a signi-
ficant influence or control over operating and financial policies of another company.
IAS 28 – Investments in Associated Entities, in item 2 defines conditions of
significant influence and control. Significant influence is a power of participating
in making financial and business decisions of a legal entity, in which the inves-
tment was made, but not the control or joint control over those policies. Capability
of influence of one company may be presented when it has a power over more
than a half of voting rights on the basis of agreement with other investors, power
of managing financial and business policies on the basis of agreement or Artic-
les of Association, power of appointment or dismissal of majority of members of
the governing board or managing body, power of channeling majority voices of
governing board members or managing body and when there is a technological
dependence. Committee for International Accounting Standards has decided that
possession of 20 percent of votes may be regarded as significant influence of the
company which the shares relate to.
Joint control is defined as “mainly defined division of control over some eco-
nomic activity”. It is normally stated that control exists when a company which
invests possesses more than 50 % of shares with the voting right of the company
in which investment was made. Opposite to this, investments which do not provi-
de the influence or control would be investment in less than 20 % of shares with
voting right. Investments which ensure the influence, but not control, would be
investments to the extent of 20% to 50 % of shares. And investment which ensures
control would be the one which amounts to more than 50 % of shares. Accounting
records for each type of mentioned investments is different.
Long-term financial investments include:
 interests (shares) in associated legal entities;
 interests shares in dependant companies and other associated legal entities;
 interests in non-associated legal entities (participating interests);
247
 given loans;
 given deposits, retained and paid guarantees;
 investment in debt securities;
 other long-term investments.
In item 68 A, of IAS 1 – Presentation of Financial Statements, requires a separate

disclosure of assets of long-term financial investments classified as assets held for
sale or they are a part of group for disposal, and which are classified in accordance
with IFRS 5 – Non-current Assets Held for Sale and Business Discontinuity. The
problem of long-term financial investments is elaborated in IAS 31 – Shares in Jo-
int Ventures, IAS 32 – Financial Instruments: Disclosure and Presentation and IAS
39 – Financial Instruments: Recognition and Measurement.
16.6.1. Interests (shares) in associated legal entities
Associated legal entity occurs when one legal entity has a possibility of control
over another legal entity, or has a significant influence over it. Thus, if one legal
entity has more than 20% of interests (or shares) in another legal entity, has a cha-
racteristic of associated legal entity. This issue is regulated in IAS 24 – Disclosure
of Associated Entities.
16.6.2. Interests in dependant entities and other associated legal entities
Investment which ensures control is investment on whose basis an investor has

the right to manage the financial and business policy of the company in which the
investment was made. In some cases, investor which possesses less than 50 % of
shares with voting right in some company, may have a powerful influence so that
for all practical purposes it controls financial and business policies of another com-
pany. Normally, it is implied that control exists when an investor possesses more
than 50 % of shares with voting right. When there is an interest for control on the
basis of agreement or Articles of Association, the relationship is created between
the parent and subsidiary of the company. The company which invests is known as
parent company, and the company in which the investment was made is regarded
as dependant company, i.e. subsidiary company.
Given that both companies are legally separate entities, each of them prepa-
res separate financial statements. However, given their specific mutual relation,
for the needs of transparent financial reporting on financial position, performance
and changes in the financial position, they are treated as a single economic group
which includes parent company and all its dependant companies. This means that
they consolidate their financial statements into a single set of financial statements,
248
which are referred to as consolidated financial statement. Accounting for consoli-
dated financial statements is complex.
However, most major public companies have their dependant entities, and pre-
paration of consolidated financial statements is necessary. Thus, it is important to
have understanding of the accounting for consolidation. We can show appropriate
accounting treatment of long-term investments in shares as following:
Degree of investment % of invest. on voting right Consolidated procedure
Initial acquisition value

Investments without
Less than 20 % decreased by decrease of
influence and control
market value
Share method, investment
is valued at acquisition
Investment with influence,
From 20 to 50 % value, plus share in profit
but without control
(or decrease because of loss)
minus received dividends
Investment ensuring Consolidated financial
More than 50 %
control statements
Figure 22. Accounting treatment of long-term investments in shares
Accounting treatment of long-term investments is regulated by IAS 27, IAS 28

and IAS 39.
16.6.3. Loans to associated legal entities
If a legal entity provides loans to legal entities which have a characteristic of

legal entities, such a financial placement has a characteristic of loans to associated
legal entities.
16.6.4. Interests in non-associated legal entities
A company purchases shares of other legal entities for different reasons, but
most often for realizing the earning per dividends of those companies or re-sale of
shares. As these securities may be acquired for long-term business operations of a
company, but also for sale, their usual classification is to long-term securities and
securities in a form of current assets. International Accounting Standard 39 – Fi-
nancial Instruments: Recognition and Measurement, treats the issue of accounting
249
coverage of long-term financial investments. Acquisition of financial assets is ini-
tially recognized and measured at fair value in accordance with item 43, IAS 39.
For accounting of investments in the companies, in which an investor does not
have a significant influence, i.e. less than 20 % of interests, IAS 28, item 18, indi-
rectly refers to the use of fair value method in accordance with IAS 39. Therefore,
if there is an active market, fair value of financial instruments, that is, current price
of supply, quoted at the active market, can regularly and quickly be obtained from
stock exchange, dealers, brokerages, economic group of services engaged in deter-
mining the price, or regulatory agency. In case of non-existence of active market,
investments in shares, whose price is not traded at the stock exchanges, at the initial
recognition and after initial recognition, they are measured at the acquisition cost.
Equity investments in other legal entities are realized, depending on their legal
form, as purchase of ordinary shares, if it concerns shareholders companies, as
purchase of interests in the original capital, if it concerns limited liability compani-
es, that is, as purchase of interests in legal entities. With this purchase, a portion of
monetary assets is transferred into interests. When purchasing shares and interests,
acquisition costs may occur, such as commission fee of stock exchange dealers,
stock exchange taxes, etc. These costs, together with the paid price of shares, that
is, interests, make the value, that is, acquisition cost, and we have account payable
- Interests in non-associated legal entities, and account receivable - Gyro account.
Example:
1. With the purchase of ordinary shares of legal entity “A” at the stock exchange,
less than 20 % of equity of legal entity was acquired. 1 000 shares were pur-
chased through the brokerage agency at the price of KM 100 per share. Total
value is KM 100 000. Commission fee of brokerage agency amounts to KM 2
per share. Total amount paid was KM 102 000. Book entry in the accounts of
general ledger:
Explanation:
(1) For acquiring interests in non-associated legal entities.
250
Owners of interests are entitled to participate in profit distribution of legal enti-
ty in whose equity they participate. In joint-stock companies, part of profit which
belongs to the owners of shares is referred to as dividend, as we already mentioned
earlier in the text. We will talk in more details about accounting coverage of divi-
dends, in considering financial revenues of legal entity.
16.6.5. Extended Loans
Under long-term financial placements we imply monetary loans of one legal

entity to another legal entity acquired on the basis of contract, with repayment pe-
riod longer than one year. Loan provider charges an interest on the funds placed in
a form of loan, which, for loan provider represents a financial revenue. Payment of
approved long-term loan causes decrease of cash and increase of long-term finan-
cial placements in the amount of paid amount and is recorded by debiting account
- given loans and crediting account – gyro account.
Example:
1) According to the bank statement, KM 10 000 was paid from gyro account for
approved long-term loan (credit) for current assets.
Repayment of these loans is performed on the basis of agreed contract, either in

annuities or as single payment after certain period of time.
16.6.6. Investment in debt securities
A legal entity may invest a surplus of financial assets in debt securities, such
as bonds, treasury bills and other securities. Investment in debt securities differs
from investment in owner’s securities in terms of yield. When investing in busi-
ness interests and shares, no earning is ensured for the investor. The amount of
earning depends on generated profit of a legal entity in which financial funds were
invested, as well as of the decision of shareholder’s assembly. Therefore, if there is
no profit, there is no dividend, that is, no yield. With financial investments in debt
securities, interests are agreed on, and after this investment the investor generates
revenue from interests, regardless of the business operations results in which finan-
cial funds were invested.
251
Example:
Legal entity “A” purchased bonds issued by the legal entity “B” at par value in
the amount of KM 70 000. Maturity period of bonds is 3 years. Annual interest
amounts to KM 4 480 and was collected. Balance at gyro account is KM 120 000.
Explanation:
(1) Records of bonds purchase.
(2) Due annual interest.
(3) Interest collection from investment in bonds.
In our example, legal entity “A” invests in bonds of legal entity “B”. Business
transaction is recorded at nominal value of bond in the amount of KM 70 000.
From title of investment in bonds, legal entity “A” is entitled to the annual interest
in the amount of KM 4 480, which represents revenue of legal entity. Interests are
recorded as revenue in line with the time basis period, in accordance with IAS 18
– Revenues.
Therefore, every year, the investor is entitled to the interest in the amount of
KM 4 480. Legal entity may purchase a bond with discount. In that case, bonds are
purchased below nominal value.
Example:
Legal entity “A” purchases bonds of legal entity “B” for KM 60 000 with re-
payment period of 3 years. Nominal value of bond is 72 000. Balance in gyro account is
KM 100 000.
252
Explanation:
(1) For purchased bond.
(2) Accrual of total discount in favor of income for the first year.
From the example, it is visible that total discount, based on the principles of
time proportionality, is every year recorded in revenue (KM 12 000 : 3 = KM 4
000 annual revenue). Generally, following bond maturity, and in our example it is 3
years, the legal entity which issued the bond should repurchase bonds, and on that
occasion, should pay the nominal amount of bond and residual interests. Transacti-
ons related to other debt securities are recorded in a similar manner.
16.7. LONG-TERM RECEIVALES

Long-term assets also encompass long-term receivables from associated entiti-
es, and especially from other legal entities. For example, those are receivables on
the basis of sale on loan and other receivables.
Example:
Legal entity sells final products on trade loan with repayment period of two
years. Based on sale contract and conducted shipment, invoice was issued in the
amount of KM 55 000 plus 17 % of VAT in the amount of KM 9 350. At the end of
the first six months, installment in the amount of KM 16 000 was settled, of which
interest is KM 3 000. Calculated VAT on interest amounts to KM 510 and was
paid.
253
Explanation:
(1) For invoice – products sold on long-term loan.
(2) For calculated interest and VAT.
(3) For collected first annuity of approved long-term trade loan.
After the sale of final products, revenue is recognized to the legal entity with
the obligation of VAT payment. Interests for the current period, with the obligation
of VAT payment, are recognized to the legal entity selling final products on credit.

1. Explain the main characteristics of non-current assets.
2. What are the recognition requirements in order for items of non-current
intangible assets to be recognized in balance sheet?
3. List the types of non-current intangible assets and their accounting coverage.
4. Define the goodwill, recognition, valuation measurement)and whether
goodwill is liable to calculation of depreciation.
5. Explain the correct classification of non-current tangible assets.
6. What is acquisition cost of non-current intangible asset acquired by
purchase comprised of?
7. Concept and role of depreciation of tangible and intangible assets.
8. What is the base for calculation of depreciation and what are the met-
hods of calculation of depreciation?
9. Explain the withdrawal from use, disposal and removal from books of
property, plants and equipment.
10. Under what conditions long-term financial investments in other legal
entities have a character of interest?
11. What aims does a legal entity realize by purchasing securities?
254
17. ACCOUNTING COVERAGE
OF CURRENT ASSETS
17.1. CONCEPT OF CURRENT ASSETS

In accordance with item 66, IAS 1 – Presentation of Financial statements, an asset
should be classified as current:
 asset expects to be realized or is intended for sale or consume in its regular
business cycle,
 asset is primarily held for trading,
 asset is expected to be realized within twelve months after reporting period or
 cash or cash equivalent (as set out in IAS 7), unless a possibility for ex-
change or use of assets for settlement of liabilities is limited in the period of
at least twelve months after reporting period.
All other assets should be correctly classified as non-current assets. Thus, for
distinguishing non-current from current assets, it is significant that current assets
change its initial appearance form within twelve months or, however, in regular
business process (cycle), as shown in the figure below80:
Figure 23. Cycle of current assets in regular business process.
80
Herve Stolowy, Michael J. Lebac, Corporative Financial Reporting, Global Perspective, Asso-
ciation of Auditors and Accountants, Banja Luka, 2003., pg. 101. (translation)
255
Current assets may appear in several natural appearance forms, as mentioned,
and here we shall mention only the most significant forms:
 cash and cash equivalents,
 short-term investments (given advance payments, given short-term loans),
 receivable from purchasers and other debtors,
 inventories( of material, small inventory, spare parts, non-finalized produc-
tion, final products and goods),
 prepaid costs (short-term accruals).
17.2. ACCOUNTING MONITORING

OF CASH AND CASH EQUIVALENTS
According to item 6, IAS 7 – Statement of Cash Flows, cash encompasses cash
in petty cash and demand deposits. Cash in banks and in petty cash is a part of cu-
rrent assets of a legal entity. Monetary assets and business events related to them, are
recorded and monitored at the monetary (transaction) accounts in banks – “at gyro
account”, opened letters of credit in domestic currency, petty cash, foreign exchange
account, opened letters of credit in foreign currency, foreign exchange petty cash.
Cash in gyro account, in accounting terms, is defined as a vista deposit. A
legal entity opens a gyro account (transaction account) in the authorized financial
institution for performing payment operations. i.e. banks on the basis of request
for opening accounts, with the attached valid documentation at the prescribed and
determined procedure in accordance with positive legislation. Legal entity may
open an account with several commercial banks, so, in that respect, it establishes
appropriate sub-ledger records within the ledger account – gyro account.
For monitoring of turnover and balance of cash in gyro account, a bank submits
statement on transactions to the legal entity. Turnover is comprised of non-cash
incoming payments and outgoing payments, and balance represents available fun-
ds in gyro account. In essence, manner of payment is non-cash payment, with the
issuance of transfer order from the account of creditor to the account of debtor.
Transfer order contains the main data on name and number of transaction account
of the order issuer (by whom payment is being made) and order receiver (to whom
transaction is being made), purpose of transfer, value amount, the place, date of
payment, signature and stamp of order issuer.
Apart from this, legal entity should normally dispose with certain quantity of
cash that it will hold „just in case” or, as it is called in accounting terms, only petty
cash. Usually, only a small quantity of paper and coin money should be kept in petty
cash, which is used for making minor cash payments (acquisition of cleaning me-
ans, payment of postage service, payment of current maintenance costs), or, if the
payment is not made for something, an order should be issued for (non-cash) transfer
via gyro account. Cash equivalents are short-term highly liquid investments which,
256
in a short period (up to three months) may, without bigger risk be transferred into
cash and be used for payment (cheques, bills of exchange received for collection,
current investments in securities, precious metals, various securities, etc).
17.2.1. Petty cash

Depending on petty cash operations, payments may be made via one or several
cash counters. If, within the legal entity, there is only one cash counter, it, as the
main cash counter, encompasses all the petty cash operations and is directly linked
with financial book keeping records.
If there is more than on cash counter, legal entity shall form the main cash
counter, which means that it is necessary to establish also appropriate sub-ledger
records within the ledger account of petty cash, except for petty cash opened for
expenditure of funds of letter of credit for the needs of business units. Legal entity
sets out organization of petty cash operations with the internal act, with precisely
determined authorities in terms of liquidation and execution of orders for incoming
and outgoing payments from petty cash and the amount of the petty cash maxi-
mum, for the circumstances regulated by the law.
We should note here that there are currently no regulations in Bosnia and Her-
zegovina which regulate the amount of petty cash maximum, i.e. the amount of
permitted cash payments. The cash book records inflows and outflows of money
from petty cash. Fundamental documents on whose basis records are made in this
sub ledger book, are cash order form (Order to the petty cash – Collect the money)
and petty cash outgoing payment order (Order to the petty cash – pay it out).
It is necessary to note that paid-in slips i.e. orders for payment and paid-out
slips, i.e. order for paying out, represent derived documents which are created on
the basis of the original documents.
Until the moment of performing either incoming payment or outgoing payment,
they represent executive documents, i.e. orders, and at the moment when perfor-
mance of concrete incoming or outgoing payment is confirmed with the signatu-
re, they represent justification document. On the basis of those documents, cash
operator “justifies” the residual balance in petty cash, which needs to be equal to
the difference of total inflows and total outflows of cash. It is for these reasons,
that day book is closed at the end of every working day. Fundamental aim of this
closure is verification as to whether there is such amount of money in petty cash
that should be there on the basis of incoming and outgoing payment slips. This
sub-ledger book is comprised of bound leafs, and has the appearance of book and it
keeps records for each financial year, in which pages are marked from the current
number 1, and further on. These records may be performed in the computer too.
Since this book, in fact, shows recapitulation of cash turnover through the petty
cash, this recapitulation is at the same time cash report used for control purposes,
but also as basis for book records in chronological and systematic records, that is,
in day book and general ledger.
257
Example for cash book:
Balance of cash on the day 21 October of current year amounted to KM 160. Cash in-
coming and outgoing payments on the day 22 October of current year were following:
1. With cash cheque, the amount of KM 2 000 was withdrawn from gyro account
and was paid in petty cash on the basis of payment order no 72.
2. On the basis of outgoing payment order no. 460 advance payment was made to the
employee (travel order no. 184) for business trip to Zenica in the amount of KM 200.
3. The invoice “R-1” no 88 – “Kopy servis” d.o.o. Sarajevo was paid out in cash
for repair of photocopying machine in the amount of KM 500 on the basis of
outgoing payment order no. 461.
4. The employee returned from business trip from Zenica and submitted calculati-
on of travel order in the amount of KM 160. On the basis of incoming payment
order no. 73, the difference was paid in the amount of KM 40 KM, the amount
that exceeded the payment for the business trip costs.
5. On the basis of outgoing payment order no. 462, the amount of KM 1 000 was
paid out from petty cash and deposited in gyro account. (Incoming payment was
made in gyro account on the basis of general payment slip.)
Cash book records from 21 October until 22 October of current year:
Order
No
Paym-IN Pay out Desc. Inflow Outflow
1. 72 Payment into petty cash from gyro account 2 000
Advance payment to employee for business
2. 460 200
trip
3. 461 “Kopy-servis”, “R-1” no. 88 500
4. 73 Calculation of trip expenses of employee 40
Payment from petty cash and deposit
5. 462 1 000
to gyro account
CONVERTIBLE MARK Turnover of petty cash 2 040 1 700
Piece. Nominal Sum
amou Balance on 21. 10. of current year 160
5 10 50 Total inflow 2 200

10 10 100 Minus total outflow (1 700)
3 50 150 Balance on the day 22 October of current
500
year
2 100 200 In letters:
TOTAL: 500 Controlled by Cash oper
258
Thus, incoming and outgoing cash slips are created for each incoming or outgo-
ing cash payment in petty cash, in order to clearly distinguish between cash inflows
and outflows and thereby, in a certain way, to reduce the possibility of error in
recording those business events.
17.2.2. Provisional gyro account
With the corresponding two cash accounts (such as gyro account and petty
cash) in recording their relationship, a provisional account is used, which is called
provisional gyro account. This provisional account is needed because the petty
cash is closed on the basis of its autonomous valid documentation and at the mo-
ment when petty cash is being closed it is not confirmed as to whether the cash was
withdrawn or deposited in gyro account. That’s why the relationship of petty cash
with gyro account is first recorded in the provisional gyro account, in the same
manner as a gyro account. Given that book records are performed on the basis of
daily statements from gyro account, this means that gyro account is recorded in
accordance with the statement and is linked to the provisional gyro account. On the
balance date, the provisional gyro account should not have a balance. If, however,
the balance occurs, this means that some statement is not recorded or that, simply
stated, an error incurred which needs to be corrected.
259
Example: Cash withdrawal from gyro account and payment into petty cash:
1) With the cash cheque we withdrew from gyro account, the amount of KM 2 000
KM on 22 October of current year and paid it into petty cash.
2) The statement arrived from gyro account on 23 October of current year, confir-
ming that cash was withdrawn in the amount of KM 2 000.
Example: cash deposit from petty cash to gyro account:

1) From petty cash on 22 Oct of current year the amount of KM 1 000 was paid out
and deposited into gyro account.
2) Gyro account statement no. 50 from 23 Oct of current year confirmed that the
amount of KM 1 000 was paid into the gyro account.
260
17.2.3. Issued foreign exchange letter of credit
Besides domestic currency (account: Issued letter of credit), letter of credit may
also be issued in foreign currency (account: Issued foreign exchange letter of credit).
Documentary irrevocable letter of credit is a written document with which issu-
ing bank, at the request of debtor and at his expense authorizes another bank, in
accordance with conditions from letter of credit, (submission of documents to the
bank, proving that delivery was done in accordance with the contract) to pay the
creditor the issued sum. Companies most often issue letters of credit in foreign
currencies at the request of international suppliers, who, in that way, ensure that
the payment will be made. Documentary irrevocable letter of credit for ensuring
payments of material, equipment, goods, services, etc., at the order of debtor (im-
porter) is issued by domestic bank at the international bank. This letter of credit is
referred to as “nostro letter of credit” (our letter of credit).
Exporters ensure their collections with letter of credit, which, at the order of a fo-
reign purchaser, foreign bank opens at the bank in Bosnia and Herzegoina. This letter
of credit is referred to as “loro letter of credit” (their letter of credit). Importer issues
a letter of credit at the bank with the order no 1458: Order for issuing letter of credit
– “nostro letter of credit”. The letter of credit at the moment of its issuing may be
either covered or non-covered. Not-covered letter of credit is recorded in off balance
records. With the covered letter of credit, funds are transferred to a foreign bank
immediately after issuing a letter of credit. After a supplier collects a letter of credit,
on the basis of the bank’s report, a domestic bank notifies the company that letter of
credit is used. According to this notification, the company settles the liability to the
supplier. Since the invoice of supplier (which is recorded at middle foreign exchange
rate) may be recorded either at lower or higher exchange rate than the exchange rate
which is applied for recording letter of credit, there may be either positive or negative
foreign exchange difference, i.e. revenues or expenses from financing.
Example: Issuing of covered letter of credit and invoice payment of foreign supplier:
1) Legal entity issued an order to the bank for issuing a letter of credit for paying
foreign supplier for the consulting services costs. Letter of credit was issued
at the amount of USD 10 000. Legal entity paid a counter value to the bank, in
convertible marks at the selling foreign exchange, KM 1,667 898 for USD 1,00,
i.e. in the sum of KM 16 678,98.
2) Legal entity received an invoice of foreign supplier in the amount of USD
10 000. The invoice was recorded at the middle exchange rate of KM 1,672 078
for USD 1,00 i.e. in the amount of KM 16 720,78.
3) Bank sent a notification that letter of credit was used. Liability towards foreign
supplier in the amount of KM 16 678,98 was closed by letter of credit, and the
difference of KM 41,80 was recorded as positive FX difference in the revenues.
4) VAT was calculated and paid from the basis of foreign services in the amount of
(16 720,78 × 17 % : 100) = KM 2 842,55.
261
Issuing a foreign exchange letter of credit is performed with transfer of funds

either from foreign exchange account (Foreign exchange account - receivable) or,
as in our example, with the purchase of foreign exchange currencies which are
transferred to the letter of credit (Gyro account - receivable, and Issued letter of
credit - payable).
17.2.4. Cheques
Cheque is a security by which the cheque issuer (drawer of a cheque) orders
another entity (drawee of the cheque) to pay out from its coverage in the account
a certain amount of money to the cheque user (recipient of a payment). From as-
pect of creditor (recipient of a payment) a cheque may be issued as non-negotiable
cheque, cheque to bearer, or there might be some sign on it, which then represents
cheque to order.
As a security, cheque may be used as a payment instrument, and in that case, it is
correctly classified as cash equivalent. Cheque is paid out from drawer of a cheque’s
cover, and because of that, the cheque which is payable in the country may be drawn
only at the bank in which drawer of a cheque (issuer) has an opened account.
Thus, the cheque as payment insurance instrument, the debtor provides the cre-
ditor, with the aim of settling the liabilities. Creditor, at the moment when cheque
is due, submits the cheque to the collection to the cheque drawer (bank, cheque’s
issuer).
262
Example: Book entry of received cheque and its collection with legal entity / creditor:
Example: Book entry of issued cheque and its payment with legal entity / debtor:
17.2.5. Bill of Exchange
Bill of exchange is a short-term security which is written on certain amount of

money and which, to its holder, provides a right to collect this sum from the person
who is mentioned in it as bill of exchange’s debtor.
Significance of bill of exchange is reflected in the fact that, simultaneously, it
can be payment insurance instrument, lending instrument and instrument of non-
cash payments, that is, for payments to suppliers of goods and services.81 In practi-
ce, we come across different types of bills of exchange. They are most often classi-
81
263
fied in accordance with the following criteria: according to the way of issuance and
number of bills of exchange payers, according to the way of maturity and important
elements. According to the way in which bill of exchange was issued and number
of bills of exchange payers, bills of exchange are classified as:
 draft note and
 promissory note
Draft note bill of exchange is the one in which issuer of bill of exchange, orders
the third entity / to accept the obligation of bill of exchange and when due to pay
the person marked on the bill of exchange – bill of exchange creditor.
In case of promissory note we have one bill of exchange payer which is at the
same time also issuer of bill of exchange and person that will pay the bill of exchange.
Therefore, in promissory note there is no unconditional order to pay a certain
amount of money nor the names of person who should pay the bill of exchange, as
the bill of exchange is paid by the person who issued it. Thus, instead of unconditi-
onal order „to pay” in promissory note the obligation says “I will pay”. Promissory
note looks like in the following example:82 In the mentioned example of PROMI-
SSORY NOTE, Samuel Mason is issuer of bill of exchange /drawer and at the same
time he is bill of exchange payer / drawee. He received from County bank / payee,
cash in the amount of 1 000 and for the received value in cash, on 20the May 2001
issued promissory note which commits him that he will pay the received amount on
18th August 2001. The bill of exchange bears an interest rate of 8 %. Promissory
note may be issued on the bill of exchange blank form or on “ordinary paper”, as
shown in the figure:
Figure 24 (PROMISSORY NOTE)
82
Gray / Needles, Financial...,quoted, pp. 246-250.
264
Bill creditor / payee, all the received promissory note, that is, own bills of exc-
hange classifies into receivables for received bills of exchange which mature in the
period shorter than one year, that is, three months, and recognizes them in balance
sheet as current asset. One of the advantages of promissory notes is that they carry
income from interest. In the accounting book records there are significant data:
date of maturity, duration of bill of exchange, interest and interest rate and value
on maturity date.
Maturity date is the date on which bill of exchange must be settled. Maturity
date must be mentioned on the bill of exchange or determinable on the basis of facts
mentioned on the bill of exchange. The most frequent mentions of maturity date are:
1. Bill of exchange on certain period of time from the day of issuance, e.g
“three months from the day of bill of exchange issuance”.
2. Certain number of days from the date of bill of exchange, eg. “60 days from
the day, you should pay”.
3. Bill of exchange on particular day, eg. “14th November of current year.
So, for example, if bill of exchange was issued on 20th January, and maturity period
is two months, then bill of exchange is due on 20the March. If maturity of bill of exchan-
ge is a certain number of days from the day of bill of exchange issuance, then maturity
of bill of exchange must be determined on the basis of exact number of days. We should
note here that in this case date of bill of exchange issuance is left out. So, for example,
bill of exchange carries the date 20th May of current year, and matures in 90 days, i.e.
matures on 18th August of current year, which is calculated in the following manner:
Remaining days in May (31 – 20) 11
Days in June 30
Days in July 31
Days in August 18
Total days 90
Duration of bill of exchange

Determining the number of days of duration of bill of exchange is a problem op-
posite to the date of maturity of bill of exchange. To know the length of duration of
bill of exchange is significant, as interest is calculated for exactly a certain number of
days. There is no problem in case when maturity date of bill of exchange is stated as
a certain number of days from the date of bill of exchange issuance. However, if ma-
turity date is stated as concrete date, the exact number of days must be calculated. For
example, the bill of exchange was issued on 10th May of current year, and it matures
on 10th August of current year.Duration of bill of exchange is determined as follows:
Remaining days in May 31 – 10) 21
Days in June 30
Days in July 31
Days in August 10
Total days (duration of bill of ex) 92
265
Thus, interest would be calculated for the period of duration of bill of exchange,
and in the mentioned example it is 92 days.
Interest and interest rate

Interest is a price of borrowed money or return from money given as loan, de-
pending on whether it concerns lender o or borrower. Amount of interest is calcu-
lated with the following formula:
Normally, interest rate is determined for one year. For example, principal, (no-
minal value of bill of exchange) is 1 000 with 8 % of annual interest rate and dura-
tion of bill of exchange of 90 days is calculated in the following manner:
Value on maturity date

Value on the maturity day represents total monetary inflows from the bill of
exchange basis on the day of its maturity. That is, actually, principal, i.e. nominal
value of bill o exchange, plus interest. Value on maturity day for nominal value of
bill of exchange of 1 000 for 90 days, with 8 % of interest is:
Value on maturity date = principal + interest
= 1 000 + 20
= 1 020
There are also bills of exchange which do not bear interest. In that case, value
on the maturity date is the nominal value, or amount of principal.
Example: Book records of received bill of exchange and its collection from legal
entity /creditor:
266
Example:Book records of issued bill of exchange and its payment at legal entity
/ debtor:
Bill endorsement
A legal entity which received a bill of exchange from its debtor may transfer the
rights from the bill to another entity, i.e. may endorse received bill of exchange to
its creditor and thus settle its liability towards it.
Book entries would be as follows:
Example: The bill of exchange which encompasses principal and interest:

Legal entity “A” on 1st June, from the buyer, legal entity “B”, received a bill
of exchange with conditions: 12 % interest and 30 days for settlement of existing
receivable in the amount of KM 4 000.
267
Book records of legal entity „A” / creditor:
When the nominal value of bill of exchange contains, apart from principal, also
interest, the interest is then recorded in books of creditor as revenue.
With the debtor, interest represents a liability, which he records at the expense
of costs, i.e. expenses.
Book records of legal entity “B”:
17.3.SHORT-TERM FINANCIAL INVESTMENTS

As already mentioned, cash equivalents are highly liquid investments which,
in a relatively short period of time, without major risk, may be converted in the
known amount of cash. A legal entity may invest short-term available funds in
treasury and commercial bills. Benefits realized on these investments are interests.
268
If funds are invested in shares with the aim of resale and not acquiring of con-
trol and management, these investments are also treated in accounting terms as
current investments in securities. The benefit realized on this occasion is the diffe-
rence between purchasing and selling price.
Example:
At the stock exchange on 14th June of current year, 50 shares were purchased
of company“ABC” j.s.c. at the market price of KM 200 per share. Nominal value of
shares is KM 200. On the day of 24th August of current year, 40 shares of “ABC”
company were sold at the market price of KM 220 per share. Balance of gyro acco-
unt is 50 000.
17.3.1. Accounting problems of monitoring extended short-term loans
Within short-term investments, we may also include given short-term loans

and credits. Loan implies ceding a certain amount of money by credit provider
(creditor / lender) to some legal or physical entity (debtor / loan taker) with the
obligation of repayment within agreed period of time. Normally accrued interest is
also paid.
For the company, given loans do not represent cost nor expense, but outflow of
cash, i.e. conversion of monetary assets into receivable. Normally, accrued interest
is also paid to the given loans which represent income for the company. If loans are
approved to the banks on the interest, VAT is not paid. If loans are given to other
companies or construction plants, the company is obliged to calculate and pay VAT
on the interest for each past tax reporting period of VAT.
269
Example:
1) Legal entity “A” gave a short-term financial credit to the legal entity “B” in the
amount of KM 20 000 with the repayment period of two months and fixed inte-
rest rate of KM 200.
2) At the end of the first month, invoice was issued for the interests in the amount
of KM 100, plus KM 17 of VAT.
3) VAT is balanced out, there was no input tax.
4) VAT was paid.
5) At the end of the second month, invoice was issued for the interest in the amount
of KM 100, plus KM 17 of VAT.
6) Upon expiry of set date, legal entity “B” (credit receiver) repaid the credit in the
amount of KM 20 000 KM and paid interest together with VAT in the amount
of KM 234. Balance of gyro account of legal entity „A” is KM 100 000 Book
records in the accounts of general ledger:
Explanation:
(1) For extended short-term credit.
(2) Invoice – accrued interest for the first month.
(3) Settlement of VAT.
(4) For payment of VAT liability.
(5) Invoice–accrued interests for the second month.
(6) For repaid credit and paid interests with VAT.
270
OF RECEIVABLES FROM BUYERS
Receivables from buyers occur as a consequence of the sales of products, goods
or services on credit. Therefore, there is no direct exchange of products, goods or
services for cash, as it is case with cash sale. Receivables from buyers are normally
highly liquid, as they are collected within an agreed repayment period, but longest
up to one year.
Figure 25 Transformation of products into cash through the receivables
In accounting terms, we can show the problem of transformation of products

into cash via receivables rights in the following example:
Example:
Final products were sold to the buyers and invoice was issued in the amount
of KM 50 000, plus VAT of KM 8 500, total KM 58 500. Production price of sold
products is 40 000. Buyers allocated (paid) the amount of invoice.
271
17.5. ACCOUNTING MONITORING OF INVENTORIES
Inventories are material form of current assets. The most important types of
inventories are: inventories of material, spare parts, non-finalized production, final
products and trading goods. Therefore, under inventories we may imply all types
of material form of current assets in the company, intended for production, sale to
buyers or provision of services.
In accordance with item 6, of IAS 2 – Inventories are assets:
a) held in sale in regular business operations
b) in process of production for such sale or
c) in the form of material or parts of inventories that will be used in production
process or in the procedure of provision of services.
In accordance with generally accepted accounting principles at the initial valu-

ation (measurement) of inventories, we respect the rule of lower value83:
– cost (historical), or
– net sale (market) value depending on “what is lower of the two”.
Inventories are most often “available” in the warehouse, plant or in the shop.
17.5.1. Accounting monitoring of inventories of material
Inventories of material are current assets of the company. The characteristic of

current assets of inventories of material arises from the fact that their entire value
is carried over to the product, service or costs of the period during their issuance
into the production process and business operations at once, and not gradually over
several years, as it is with non-current assets.
Inventories are assets which are presented in the balance sheet.
Material in its flow process, undergoes through several phases for which diffe-
rent accounting monitoring is needed. The most important phases are:
 acquisition (purchase) and storage,
 consumption,
 disposal.
83
272
17.5.1.1. Accounting monitoring of material
in phase of acquisition (purchase)and storage
In this phase acquisition cost or acquisition value of material is created. Acqu-

isition cost is determined with the calculation of acquisition price, and elements of
this calculation are:
1. net invoice value of supplier 10 000
2. variable acquisition costs 1000
3. acquisition cost (acquisition value) 11 000
Variable acquisition costs include all the costs related with the acquisition proce-
ss and they are necessary in order to enable material for its function. Variable costs
include, for example, costs of loading, transport, unloading, freight and other costs
necessary for bringing the material into function which they were acquired for.
Inclusion of variable costs into acquisition cost depend on the contract provisions:
 f. c. o. – warehouse of supplier (f. c. o. = place of taking over),
 f. c. o. – warehouse of buyer unloaded,
 f. c. o. – border of importer and
 f. c. o. – railway station of buyer, etc.
Value Added Tax (VAT) is not included in acquisition cost (acquisition value)
of material as it is neutral from that process and represents a receivable from the
government for paid input tax.
Therefore, acquisition cost is valued (measured) and presented in actual purcha-
sing prices respecting the historical cost. This means that book records of material
may be performed at actual acquisition costs. However, if in the accounting sy-
stem we introduce planned (permanent) costs, i.e. standard costs, in the acquisition
phase, material is valued at planned, i.e. standard acquisition prices. Taking into
account that acquisition price contains only invoice value and variable acquisition
costs, the planning, i.e. standardization of price is performed with standardization
of elements of this price. Efficiency of performing acquisition activity is expressed
with determination of discrepancy of prices of acquired material in total and at
the price composition. Thus, valuation of inventories of material is performed at
variable acquisition costs.
Bookkeeping records of acquisition process at actual acquisition costs, we can
show below as scheme:
273
Explanation of book records:
(1) Recording of invoice of supplier for received material.
(2) Recording of variable acquisition costs (invoice for transport services)
(3) Storage of acquired material.
(4) Liability settlement towards suppliers.
Once the acquisition process is completed, material is stored in the warehouse.

Document on whose basis storage of material in the warehouse is recorded is ware-
house receipt. Thus, material is appropriately received in the warehouse, kept and
issued with the aim of achieving outputs or provision of services.
Valid document on whose basis warehouseman issues material from the ware-
house into the production process is delivery note. Warehouseman keeps operating,
that is, warehouse records on reception and issuance of material. In these records,
changes are recorded only in quantity terms. In sub-ledger material book records,
changes are recorded in quantity terms and price, i.e. value. In the ledger accounts,
changes are recorded in value terms. Connection of these records shall be elabora-
ted at the end of this chapter.
17.5.1.2. Book recording and calculation of material acquisition costs,

when variable costs are allocated to several types of material
When several types of material are purchased simultaneously from a single

supplier, it is normal to issue a single invoice for all types of acquired material. Be-
sides, with the aim of rationalizing variable costs, it is probable that entire material
shall be transported together. Variable costs in that case, if they incur, should be
allocated to all types of acquired material according to some rational basis. With
the aim of correct allocation of variable costs to certain types of material, we need
to find causes of variable costs. The most frequent basis for allocation of variable
costs are:
 value of material and

 weight of material.
274
Example: Allocation of variable costs on the basis of value of material.
1. Legal entity acquired from the same supplier “a” 1000 kilos of material . Invoice
from supplier was received in the amount of KM 42 000 for material “a” and
KM 8 000 KM for material “b”, plus VAT of KM 8 500, that is, total KM 58 500.
2. Invoice was received from suppliers for transport services of material in the
amount of KM 6 000, plus KM 1 020 of VAT, that is, total KM 7 020.
3. Invoice was received from suppliers for services of loading and unloading in the
amount of KM 2 000, plus KM 340 of VAT, i.e. total KM 2 340.
4. Invoice was received from insurance company for transport insurance in the
amount of KM 1 600.
5. Material “a” and “b” are received in the warehouse according to the calculation
of acquisition costs and invoices of suppliers.
Calculation of acquisition and allocation of variable costs – book recording of

actual values.
For allocation of variable costs on the basis of value of material, share value of
each material should be determined in the total value of acquired material. This is
achieved with the following proportion:
X : 100 = part : entirety
X = percentage share of value of particular material in 100 %;
part = value of each individual material;
entirety = total value of acquired material.
On the basis of set proportion, the following formula is set for calculating the
percentage share of value of each type of material in total accounting value:
value of material . 100 %
X=
total invoice value
Therefore, share of value of material “a” in total accounting value is:
42 000 . 100 %
Xa = = 84 % (or 0, 84)
50 000
Share of value of material “b” in total value is:
8 000 × 100
Xb = = 16 % (0,16)
50 000
Variable costs of material “a” and material “b” shall be allocated to material “a”
84 % and material “b” 16 %, i.e. in the following calculation:
275
Calculation of material acquisition no. / 2007.
VARIABLE COSTS
Acquisition costs
Acquisition costs
Transport costs
unloading cos
Variable costs
Unit of meas
Invoice value
Loading and
Transport,
insurance
Name of
per unit.
material
% share
Quan.
total
total
No.
1 2 3 4 5 6 7 8 9 10 11 12
1. Material “a” kg 1 000 42 000 84 % 5 040 1 680 1 512 8 232 50 232 50,23
2. Material “b” kg 1 000 8 000 16 % 960 320 288 1 568 9 568 9,57
Total
3. costs – – 50 000 100 % 6 000 2 000 1 800 9 800 59 800
4. VAT – – 8 500 1 020 340 1 360 9 860
Total
with VAT
5.
(suppliers) 58 500 7 020 2 340 1 800 11 160 69 660
Recording in the accounts of general ledger:

(1) Recording of supllier’s invoice for received material “a” and “b” (invoice value
of 50 000 + 8 500 of VAT = 58 500).
(2) Records of variable costs – transport costs (invoice for transport
6 000 + VAT 1 020 = 7 020).
(3) Records of variable costs – costs of loading and unloading (invoice for loading
and unloading 2 000 + 340 VAT = 2 340).
(4) Records of variable costs – insurance costs (invoice for insurance 1 800).
(5) Storage of acquired material.
(6) Payment of liabilities to suppliers.
276
The weight of material as base for allocation of variable costs should be applied
when it is the major cause of these costs, and value of material does not have such
big influence. If, for example, package of metals and cardboard with approximately
the same volume and value is transported, when choosing the type of transport,
the weight of metal packaging shall be the decisive factor, which will condition
selection of a truck with bigger capacity. In that case, it is more rational to allocate
the costs according to the weight. If we assume that the weight of metal packaging
is 15 tons, and weight of cardboard packaging 5 tons for the same volume, and that
variable costs are 9 800, the allocation of variable costs will be as follows:
15 x 100 %
Share of metal packaging in total weight = = 75 %
20
5 x 100 %
Share of cardboard packaging in total weight = = 25 %
20
Variable costs allocated to metal packaging = 9 800 × 75 % = 7 350.
Variable costs allocated to cardboard packaging = 9 800 × 25 % = 2 450.
Book recording is the same as in the previous example, but we will not describe it here.
Example: Book recording and calculation of actual acquisition cost when own
variable costs are included:
1. For acquisition of material, advance payment was made to the supplier in the
amount of KM 80 000, plus VAT KM 13 600, total KM 93 600.
2. According to the supplier’s invoice, value of supplied material is KM 80 000
KM, plus KM 13 600 for VAT, total KM 93 600.
3. Transport of material was done in own truck. Internal calculation of transport
costs was done in the amount of KM 4 500.
4. Liabilities towards supplier were settled by closing the given advance payment.
5. Mat.received in warehouse.
277
Explanation of book recording:
(1) Recording of advance payment.
(2) Recording of invoice of supplier for received material (invoice value of material
80 000 + 13 600 PDV = 93 600).
(3) Recording of recognition of own transport costs into inventory cost.
(4) Settlement of actual liability towards the suppliers from made advance payment.
(5) Storage of supplied material.
In recognizing own variable costs into the inventory cost, the following rules
must be followed:
 to produce internal calculation,
 internal gains should not be included in own variable costs,
 own variable costs which are included in inventory cost should not be higher
than ordinary (normal) costs for concrete type of costs and should not exceed
the market value of such cost,
 own variable costs should not exceed actually incurred costs.
If inventories of material are valued and recorded at the planned, i.e. standard
prices, records should also include the account – Price discrepancy.
Example: Book recording at planned values:

In order to avoid textual repetition of the previous example, it is enough to su-
pplement the previous example with the data, that planned value of inventories
amounts to 90 000.
278
From (1) to (4) the same as in the previous example.
(5) Storage of supplied material at planned acquisition prices.
This is an example for the case when discrepancy is positive (planned acquisition
prices higher than actual prices – discount). If discrepancy for prices were negative
(if planned acquisition prices would be lower than actual prices – excess), the dis-
crepancy would be recorded at the payable side of the account – Price discrepancy.
As we can see clearly from the example, account Price discrepancy (of material)
is dependant account, i.e. correction account. Balance of this account, which may
be either payable or receivable, shows how much planned acquisition cost of inven-
tories of material (planned acquisition value of inventories of material), presented
as balance in the account – Inventories of material, differs from actual acquisition
cost of inventories. We get to the actual acquisition cost of inventories of material,
in this case indirectly, by correcting their planned acquisition cost. Payable balance
of the account – Price discrepancy shows that actual acquisition cost on average
was higher than planned acquisition costs, and that the value of inventories, cal-
culated at the planned acquisition cost is lower for the amount of this balance than
their actual acquisition cost. Thus, in preparing the balance, payable balance of the
account – price discrepancy (of material) is added to the planned acquisition cost
of inventories (balance of account – Inventories of material), so that in the balance,
inventories of material are presented at the actual acquisition cost. Receivable ba-
lance in the account – price discrepancies occurs in case when actual acquisition
cost on average is lower than planned acquisition cost. Thus, in preparing the ba-
lance, receivable balance of account – Price discrepancy (of material) is deducted
from planned acquisition cost of inventories (balance of account – Inventories of
material), so that in balance, inventories are presented at the actual acquisition cost.
279
17.5.1.3. Material in finishing off and processing
Material purchased from a supplier and received in the warehouse is occasio-

nally sent, before it is forwarded to production, to other legal entities for finishing
off and processing.
Additional finishing off, that is, processing, appears as the condition for use
of given material in the production process. Thus, costs of finishing off and pro-
cessing are regarded as constitutive element of acquisition cost of material. Given
that material is sent from warehouse to the finishing off and processing, such tran-
saction causes decrease in inventories of material, on one side, and appearance of
new form of assets, on the other side. Following completion of finishing off and
processing, material is brought back to the inventories. The account of Inventories
of material is debited for the value of material returned from finishing off and
processing, as well as for the costs which it caused. These costs, apart from fees
for the services of finishing off, that is, processing, also include other costs, which
were caused by sending the material to finishing off and processing, such as, for
example, transport costs. In this, account material in processing and finishing is
receivable, for the value of material which was the subject of finishing off or pro-
cessing, and account Local suppliers, for the amount of invoice for the services of
finishing off or processing, that is, costs caused by finishing off or processing.
Recording is to some extent different when inventories of material are valued
and recorded at the planned acquisition cost. Sending of material to finishing off
and processing is then recorded by debiting the account of material in finishing off
and processing for the planned acquisition cost of handed material, and the account
of Inventories of material is credited. Bearing in mind, namely, that the material
following finishing off and processing is received in the inventories again, as well
as that supplier is not debited for the value of sent material, as this material, in the
process of finishing off, i.e. processing is kept in records as property part, it is not
necessary that in sending the material to finishing off and processing, its planned
acquisition cost is brought down to the actual acquisition cost.
After completion of finishing off or processing, reception of material is recor-
ded in a way that account of Inventories of material is debited for planned acquisi-
tion cost of processed, i.e. finished material, and the account - material in finishing
off and processing is credited for the amount of planned acquisition cost of given
material before sending it to finishing off and processing. Account – Local suppli-
ers is credited, i.e. receivable for the costs of finishing off and processing, if the
invoice was received for them, and account Petty cash or Gyro account is credited,
if costs are paid in cash, i.e. in non-cash.
The difference between previous planned acquisition cost of material increased
for costs of finishing off and processing, on one side, and planned acquisition cost
of processed or finished material, on the other side, are recorded in books on the
side payable or receivable account – Price discrepancy, depending on whether it
concerns an excess or discount.
The chart of book recording is as follows:
280
a) Inventories of material are kept in records at actual acquisition cost:
Explanation:
(1) Dispensing material to finishing off and processing.
(2) Costs conditioned by finishing off or processing (according to the invoice, paid
with payment order via gyro account, paid in cash) and reception of material
from finishing off and processing.
281
b) Inventories of material are kept in records at planned acquisition cost:
Example:
Balance in the account of Inventories of material is KM 50 000.
1) Material was sent to the legal entity “B” for finishing off in value of KM 25 000
2) Material was brought back from finishing off. In regard to this, suppliers sub-
mitted the following invoices: invoice no. 11 in the amount of KM 2 000 KM for
transport costs and invoice no. 8 in the amount of KM 11 000 for finishing off
costs.
Book recording in the accounts of general ledger:
282
Explanation:
(1) For issued material in finishing. (2) For material brought back from finishing off.
(3) For invoice of transport costs of material from finishing off. (4) For invoice of
finishing off material costs.
Example:
Balance in the account of inventories of material is KM 54 000, and in the acco-
unt Price discrepancies is KM 4 000 (discount).
1) Material with the value of KM 27 000 was sent for finishing off.
2) Material was received from finishing off. For the transport costs, invoice was
received in the amount of KM 3 000, and finishing off costs in accordance
with the invoice 29 amount to KM 6 000. Planned acquisition cost of recei-
ved material amounts to KM 38 000. Book entry in the accounts of general
ledger:
Explanation:
(1) For issued material to finishing.
(2) For material returned from finishing off.
283
17.5.1.4. Accounting Monitoring of Material Consumption
Under the term consumption we imply a physical consumption of material with

the aim of creating outputs. Consumption is expressed in natural units of measu-
re, eg. in liters, hectoliters, grams, kilos, tons, pairs and other. Consumptions are
outputs from a business process in which material is invested. Those are products
and services. Cost is a value presentation of consumption with the aim of achieving
outputs, therefore, cost of material is obtained when consumption is multiplied
by acquisition price (acquisition cost). The problem of valuation of material con-
sumption is in choosing the actual acquisition price (acquisition cost), when they
are different. If the actual acquisition prices are the same, we cannot talk about the
problem of valuation of material consumption, as we get the same results.
Consumption of material may be valued with the application of:
a) FIFO method,
b) method of average weighted acquisition prices (acquisition cost),
c) method of specific identification.
We can calculate values of inventories by applying acquisition cost, that is,

acquisition price, as base, in accordance with periodic system and continuous sy-
stem84 of inventory taking, and in accordance with the chosen methods of valuati-
on, FIFO, average weighted acquisition prices, specific identification.
FIFO method – valuation of consumed material (first in – first out) assumes
that consumption of material is valued at the prices (acquisition cost) of material,
and at such price which was first acquired (first acquisition price). When the first
acquisition is consumed, consumption of material is valued at the prices of second,
which is now first, and so on. In the circumstances of growing acquisition costs
(acquisition cost), the remaining inventories at the end of the period (the difference
between acquired and consumed material) are valued at the last input prices.
Method of average weighted acquisition prices (historical cost) assumes that
consumption of material is multiplied by average weighted acquisition price (histo-
rical cost), which is calculated as follows:
Method of specific identification requires calculation of consumption of ma-

terial from which consumption of material originates.
Thus, selection of actual unit cost for valuation of consumption of material
at this method is based on the actual physical flow of material. Consumption of
84
Jadranka Kapic, Valuation of inventories and their revaluation in inflationary circumstances,
pp. 140-152.
284
material is valued exactly at such acquisition cost at which this material was acqu-
ired, so, therefore, the remaining inventories shall be valued exactly at the acquisi-
tion cost at which they were acquired.
We shall present application of the mentioned methods on simplified example.
We will conduct book entry in ledger bookkeeping of material “a” and in the acco-
unts of general ledger. We shall exclude book entry of VAT as it was shown in the
previous examples and is not important for the problem of valuation of consumpti-
on of material. It would maybe only get it more complicated.
Example:
1.1. Balance of material “a” at the beginning of the year: 20 kilos per price of KM
20 and 30 kilos per price of KM 24 per kilo.
6.1. 40 kilos of material “a” was acquired at the price of 30 KM per kilo.
10.1. In production 20 kilos of material “a” was consumed.
12.1. In production, 30 kilos of material “a” was consumed.
15.1. 50 kilos of material “a” was acquired at the price of KM 36 per kilo.
a) FIFO method – sub-ledger bookkeeping of material“a”
Invoice no. year
Material unit measure
Date Document Desc. Input Output Bal Price Payable Receivabl Balan
20 – 20 20 400 – 400
1. 1. Inventory
30 – 50 24 720 – 1 120
6. 1. Receipt Acquired 40 – 90 30 1 200 – 2 320
10. 1. Delivery note Consumpt. – 20 70 20 – 400 1 920
22. 1. Delivery note Consumpt. – 40 80 30 – 1 200 3 000
28. 1. Delivery note Consumpt. – 30 30 36 – 1 080 1 200
285
Control of final balance:
Total (initial balance and acquisitions) 190 k KM 6 520
Total consumption 140 k KM 4 120
Inventories at the end of the period:
Acquis. from 20. 1. 30 k × KM 40 = KM 1 200
Acquisf. from 31. 1. 20 k × KM 60 = KM 1 200
Total KM50 KM 2 400
We have previously presented mechanisms and effects of FIFO method in continu-
ous (current) valuation system of material consumption and remaining inventories of
material. In line with the periodic valuation of inventories system, and in accordance
with FIFO method, we would have completely the same effects on the consumption
of material and remaining inventories at the end of the reporting period. Advantage of
FIFO method is that it is easy to use. In the circumstances of increase of acquisition pri-
ces of Material (acquisition cost), characteristic of this method, compared with LIFO, is:
 consumption of material is valued at first input prices, which are less than
current (market) prices, so the costs of material are under valuated, and the result
of business operations of the period is over valuated;
 higher profit tax is paid on over valuated result of business operations;
 remaining (final) inventories of material are presented at the latest input prices,
so they are closer to the current, that is, market prices.
FIFO method – book entry in the accounts of general ledger
b) Average weighted acquisition costs method

Application of method of average weighted acquisition costs (historical costs)
is widely used. Popularity amongst managers, i.e. accountants is due not only to its
internal logic, but especially to its favoring in tax legislation. Valuation of material
consumption by using the method of average weighted acquisition costs is applied
in accordance with:
 continuous (current) valuation and
 periodic valuation.
Current valuation of material consumption at average weighted acquisition costs
represents continuous (permanent) coverage of material per quantity and value not only
286
when material is entering the warehouse but also when it is dispensed into production
process. Thus, each consumption of material during the period is valued and re-
corded at the acquisition cost (actual acquisition price) which arises from available
acquisitions until that very moment. Therefore, after each acquisition, new average
weighted acquisition cost is calculated, that will be used for valuation of future
consumption of material until new acquisition.
Invoice no Year
Material Unit of measure
Date Document Desc Input Output Bal. Price Payable Receivable Balance
20 – 20 20 400 – 400
1.1. Inventory Status
30 – 50 24 720 – 1 120
6.1. Receipt Acquired 40 – 90 30 1 200 – 2 320
10.1. Delivery note Consumpt – 20 70 25,80 – 516 1 804
22.1. Delivery note Consumpt – 40 80 33,60 – 1 344 2 686
28.1. Delivery note Consumpt – 30 30 33,60 – 1 008 1 006
Control of final balance of material “a”, method of weighted m average acquisi-

tion costs (continuous system of keeping inventories):
Total (initial status and acquisitions) 190 kg 6 520 KM
Total consumption 140 kg 4 314 KM
Inventories at the end of the period:
– 50 kg
TOTAL 50 kg 2 206 KM
The illustrated example is based on the flow of material for the same accoun-
ting period as in the previous examples. In the same manner, initial balance was
taken over, and there is no difference in coverage of material acquisition. Howe-
ver, method of average acquisition costs for valuation of material consumption
assumes calculation of average acquisition cost after each input. Following recor-
ding of initial balance, average acquisition cost amounted to {(20 kg × 20 KM) +
(30 kg × 24 KM)} : 50 kg = 22,40 KM, but was not at all used for valuation of ma-
terial consumption as there was no consumption before the following acquisition.
After acquisition, under transaction no 6. 1.) average acquisition cost was calculated
{(50 kg × 22,40 KM) + (40 kg × 30 KM)} : 90 kg = 25,80 KM, which was used
for valuation of consumption until the following acquisition, i.e. for calculati-
on of material consumption under transactions 10. 1. and 12. 1. following these
consumptions 40 kg per 25,80 KM = 1 032 KM remained. After coverage of the
following acquisition under transaction 15. 1. new acquisition cost was calculated
{(40 kg × 25,80 KM) + (50 kg × 36 KM)} : 90 kg = 30,46 KM, which was not used
287
at the outward side since there was no consumption of material before acquisition
under item 20. 1., when average acquisition cost was calculated of {(90 kg × 30,46
KM) + (30 kg × 40 KM)} : 120 kg = 33,60 KM, which was used for valuation of all
the following material expenditures until the next acquisition and change of average
acquisition cost. Remaining (final) inventories are valued at the average acquisition
cost. For the remaining quantities, after previous changes of status and newly acqui-
red quantity under item 31. 1., calculation was made as follows: {(30 kg × 33,60 KM)
+ (20 kg × 60 KM)} : 50 kg = 44,12 KM.
Valuation of material consumption and remaining inventories of material using

the method of average acquisition cost in case of continuous (current) valuation
requires a lot of work, especially in the circumstances of wide range of material,
so we are of the opinion that it is more appropriate to apply the second option of
average acquisition cost method, i.e. significantly easier procedure is periodic valu-
ation of material consumption and final inventories in accordance with the method
of average acquisition cost. With the periodic valuation of material consumption,
and in the circumstances of application of average acquisition costs method, at the
outward side of sub-ledger account of material, only quantities of material con-
sumption in the accounting period are continuously covered, and at the entry side,
actual acquisition costs, while average acquisition cost is calculated at the end of the
period. We get to the average acquisition cost by dividing total acquisition cost of
material for the accounting period by totally acquired quantities during the period,
including the initial status of material. In this way, calculated average unit acqu-
isition cost is applied on the consumption during the period and at the end of the
consumption of inventories of material.
Procedure of periodic valuation of material consumption at the method of ave-
rage acquisition cost, we will show on the hypothetic example with the use of the
same data which we have used until now:
Invoice no Year
Date Document Desc Input Outpu Bal. Price Payable Receivable Bal.
20 – 20 20 400 – 400
1. 1. Inventory Status
30 – 50 24 720 – 1 120
31. 1. Delivery note Consumed - 140 50 34,32 – 4 804 2 216
288
Control of final balance of material “a”, method of weighted average acquisition
costs (periodic system of inventory keeping):
Total (initial balance and acquisitions) 190 kg 6 520 KM

Total expenditure per 34,32 140 kg 4 804 KM
Inventories at the end of period:
– 50 kg per 34,32
Total 50 kg 1 716 KM
Book entry of input (acquisition) and output(consumption) of material in materi-

al bookkeeping and general ledger does not differ from the previous methods. The
only difference is in cost valuation. In the application of this method, consumption
is valued at the average weighted acquisition cost (historical cost) at the end of the
accounting period, which is calculated as follows:
Continuous system of keeping inventories of material, in accordance with the

method of weighted average acquisition costs, requires continuous physical moni-
toring of flow of inventories of material, i.e. requires that acquisition process and
consumption process of material are monitored both, at quantity and cost.
Influence of valuation method of inventories of material on the result of busi-
ness operations and valuation of inventories at the end of period (final inventories)
is different. From previous examples, it is visible that there is no difference in book
entry of material acquisition between FIFO method and method of average weigh-
ted acquisition costs. Fundamental difference is in the manner of valuation of ma-
terial consumption, i.e. valuation of consumption at the first input price or average
weighted price. In the circumstances of inflation and deflation, whose explanation
is less present than inflation, those prices are different. From previous examples it
is easy to note that costs of material are different. In relation to this, valuation of
material consumption is related through inclusion into production flows, also costs
of sold products with determining results of business operations of the period of its
taxation and valuation of inventories at the end of the period. Influence of valuation
of material consumption on the value of remaining (final) inventories, and later on
the result of business operations of the period, we can show as follows:
289
Continuous valuation Continuous valuation system
Elements system FIFO average weighted acquisition
method cost method
1. Material consumption 4 120 4 314
2. Value of final inventories 2 400 2 206
3. Total acquisition cost 6 520 6 520
Specific identification method requires calculation of consumed quantities of

material at specific acquisition cost of certain acquisitions of the same material
from which the consumed material originates. Therefore, selection of the actual
unit cost for valuation of material consumption in accordance with this method, is
based on actual physical flow of material. Material consumption is valued exactly
at the acquisition cost at which this material was acquired, so, therefore, final in-
ventories shall be valued exactly at the cost, at which they were acquired. Valuation
of material consumption and final inventories of material in line with the method
of specific identification, we will present on one sub-ledger account of material “a”,
on the example:
Invoice no Year
Date Document Desc Input Output Bal Price Payable Receivabl Bal
20 – 20 20 400 – 400
1. 1. Inventory Status
30 – 50 24 720 – 1 120
10. 1. Delivery note Consumed – 20 70 24 – 480 1 840
12. 1. Delivery note Consumed – 30 40 30 – 900 940
22. 1. Delivery note Consumed – 40 80 36 – 1 440 2 500
Control of final status of material “a”, specific identification method:

Inventories at the end of period:
Balan. 1.1. 10 kg 24 KM = 240
Remaining acquisition 6.1. 10 kg 30 KM = 300
Remaining acquisition 15.1. 10 kg 36 KM = 360
Remaining acquisition 31.1. 20 kg 60 KM = 1 200
Total 50 kg 2 100 KM
290
Specific identification method of valuation of material consumption and re-

maining (final) inventories is complex, requires a lot of work, so that is why it is
applied for valuable material with rare acquisition in small quantities.
Valuation of material consumption

by applying the method of planned acquisition costs
Advantage of this method is that it is simple for application. Another advantage

of method of planned acquisition prices is prompt calculation of material consump-
tion at the planned acquisition prices, as well as possibility for control of costs.
We show the method of planned acquisition costs in the example, if we start from
previously used actual data, planned acquisition prices (planned acquisition cost)
for material “a” of, for example, KM 36, as follows:
Invoice no Year
Date Document Desc Input Output Bal. Price Payable Receivabe Bal.
1. 1. Inventory Balance 50 50 50 36 1 800 – 1 800
10. 1. Delivery note Consumed. – 20 70 36 – 720 2 520
31. 1. Receipt Acquired 20 – 50 36 720 – 2 800
291
Control of final balance of material “a”, method of planned acquisition costs
(planned acquisition cost):

Inventories at the end of period 50 kg 1 800 KM
Invoice no Year
Price discrepancies
Per acquisition (20. 1.) 120 At initial bal. (1. 1.) 680
Per acquisition (31. 1.) 480 At acquisition (6. 1.) 240
Total incurred discrepancies 600 Total incurred discrepancies 920
transfer of discrepancy related to
consumption of material 235
Part of discrepancy for invent 85
Total 320
Thus, if a company values inventories of material in acquisition process at pla-

nned acquisition costs (planned acquisition cost), and thereby records them at pla-
nned acquisition costs, the discrepancy from planned acquisition prices and actual
acquisition prices, depending on the character of discrepancy, is presented either at
the payable or receivable side of account – Price discrepancies, as already menti-
oned. In that case, consumption of material is valued at planned acquisition costs,
and, for example, in decades or monthly, depending on the character of discrepancy
of planned consumption of material, compared with the actual expenditure of ma-
terial, a proportional part of discrepancy of material consumption is calculated and
recorded in the account of calculated price discrepancies (for consumed material).
Material Final
Elements Total
consumpt. invent.
1. Planned acquisition cost 5 040 1 800 6 840
2. Positive discrepancies from planned acquisition cost (235) (85) (320)
3. Total acquisition cost 4 805 1 715 6 520
292
Calculation of proportional part of discrepancy of material consumption:
Obtained percentage of discrepancy is applied on the value of issued material of

certain type during accounting period and in that way the part that is dropped off
of discrepancy for material consumption in that accounting period, is calculated.
In our example:
Depending on the character of discrepancy, either positive or negative, dropping

off amount of discrepancy of planned material consumption from actual consumpti-
on is recorded either on the payable or receivable side of correction account – Calcu-
lated price discrepancies (for consumption of material), with the corresponding book
entry at the correction account – Price discrepancies (in inventories) and in this way
planned material consumption and final inventories of material are corrected and
brought down to actual acquisition value. In our example, calculated discrepancy
of actual from planned consumption of material in the accounting period is positive
(planned consumption of material higher than actual consumption of material), so
we performed recording in a way account payable – Price discrepancy (in the inven-
tories), and account receivable – Calculated price discrepancies (for consumption of
material). In case of negative discrepancy (planned consumption of material less than
actual consumption) opposite recording is performed in the mentioned accounts.
17.5.1.5. Surpluses of material in warehouse
When inventory balance of material in bookkeeping is compared with the ac-

tual balance, which is determined on the basis of inventory, we may have surplus
of material. Surplus of material in the warehouse may occur for different reasons,
293
eg. not precise measurement when issuing material from warehouse, calculati-
on errors, bigger quantity of material delivered from supplier compared with the
agreed and input was not controlled, etc.
Surplus of material is entered in books as new indebtedness in warehouse, and
counter item is revenues, the account – Surpluses – revenues. In book entry of re-
venues, VAT is not calculated. For valuation (measurement) of material as surplus,
we may use the price of last acquisition or fair estimated (market) value.
Example:
With the regular stock taking of inventory of material, surplus of material was
determined in the quantity of 100 kilos. It is assumed that the surplus incurred as
a result of non-precise measurement when issuing it from warehouse. Market price
on the balance day is KM 50. Order for book entry of surplus was given in the amo-
unt of 5 000. Surplus was received in the warehouse.
17.5.1.6. Accounting monitoring of disposal of material
Material is acquired with the main purpose of its consumption in production

process or provision of services. If it is not so, we talk about disposal of material.
Thus, under the term disposal, i.e. “liquidation” of material, we imply getting of
material beyond its main purpose for which it was acquired.
The most significant forms of disposal are:
 inventory shortage,
 destruction as a result of elementary disasters,
 sale,
 write-off.
Inventory shortage is determined when the actual (inventory) balance of ma-
terial is less than bookkeeping balance. Book entry of inventory shortage depends
on whether it is justified or not. If shortage is justified, it is entered into books as
expense, as follows:
294
Explanation:
1) Book entry of inventory shortage of material is determined by multiplying
the quantity shortage with its acquisition cost in accordance with the method
of average weighted acquisition cost (historical cost).
If shortage of material is not justified, i.e. shortage for which responsible person
is charged, VAT liability incurs. Non-taxable shortage of material in the warehouse
includes the following categories (Book of Rules on VAT, Article 11):
 Exceptionally incurred expense on the basis of outage, ullage, defect, and
breakage to the prescribed amount and shortage of goods that can be justified
by force majeure (flood, fire, earthquake, war destructions and similar) on
the basis of act of responsible authority.
 The amount of permitted expense on the basis of outage, ullage, defect
and breakage is determined with the normative provision for determining
expenses, on which , VAT is not paid.
 For materials which are not included in the normative provision of expenses,
quantity of expenses is determined in accordance with the normative provi-
sion of taxpayer.
 Shortage as a result of inadequate quality, date of expiry passed (under con-
dition that date of expiry is printed on the package of the product or is de-
termined by the producer), VAT is not paid, and during the destruction of
mentioned goods, representative of sanitary inspection is present.
Example:
On the basis of inventory, shortage of 20 000 of material in the inventories was
determined.
a) permitted value of shortage calculated on the basis of prescribed rates for outa-
ge, ullage, defect and breakage is KM 13 000.
b) excess shortage of material above permitted outage, ullage, defect and breakage
amounts to KM 7 000. VAT in the amount of KM 1 170 is calculated on the
value of shortage.
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Shortage of material on the basis of prescribed rates of outage and breakage is
entered into books at the expense of costs. The amount of shortage for excess outa-
ge, ullage, defect and breakage, with calculated legal tax, is entered in books at the
burden of expenses, with creating liability for VAT and dispense of warehouse for
normal and excess determined outage, ullage, defect and breakage.
If an inventory shortage is unjustified, it may be entered into books at the ex-
pense of responsible person. In this case, in accounting records, receivables are
created towards responsible person (with legal regulation).
Example:
On the basis of inventory in the warehouse, shortage of material incurred with
the value of KM 1 000. Shortage below permitted amount. Decision was made that
warehouseman was responsible for incurred shortage and that he has to compensate
it from his salary. VAT in the amount of KM 170 was calculated on shortage.
Destruction of material as a result of elementary disasters may appear due

to force majeure – floods, fire, earthquake. Normally, legal entities ensure them-
selves with insurance companies from these risks. In that case, assessors of in-
surance company shall assess the extent of damage. Possible difference to the
carrying amount is entered in books at the account payable Other expenses –
Losses.
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Example:
Material was destroyed in fire in the amount of KM 10 000. Insurance company
assesses the damage and at the account of partial damage compensation, recognizes
KM 5 000.
Book entry in the accounts of general ledger
(1) Inventories of material are dispensed at average weighted acquisition costs, and
account payable – Other short-term receivables for the amount of recognized
damage, and the difference is entered in books at the account payable - Other
expenses – Losses.
Material write-off is most often performed when material is no longer capable

for use, that is, for its consumption in production or performing services. For exam-
ple, we have material write-off in case of passed date of expiry and inappropriate
quality. In these cases, it does not concern the value adjustment, but entire material
write off, that should be thrown away, i.e. destructed.
Example:
Due to the damage and obsolete, material was written off in the value of KM
5 000. Book entry in the accounts of general ledger:
Explanation:
(1) Inventory write-off at the burden of expenses due to obsolete of inventories.
297
Write-off may take place at inventory taking, and we charge it as inventory
shortage. Material is not acquired to be sold, such as for example, trade goods,
but because of its consumption in production process or in provision of services.
However, in case that company disposes with surplus of material compared with
the needs or material is no longer used in production, the interest is to sell it.
Example:
Material was sold to the buyers from warehouse in the value of KM 50 000 KM.
Price difference is 20 % and VAT of 17 %, so that the retail value amounted to KM
70 200. Buyers have paid. Book entry in the accounts of general ledger:
Explanation:
(1) Indebtedness of buyers at selling price with calculated VAT
(2) Dispense of inventories of material at acquisition cost.
(3) Collection of receivables from buyers.
Balance and flow of material is monitored at the three places and in three manners:
 in warehouse records,
 in sub-ledger bookkeeping records (material bookkeeping),
 in general ledger.
298
Therefore, in warehouse records, changes are recorded for each type of material
only in quantity, and, in material bookkeeping, they are recorded both in quantity
and value, and in general records, they are recorded in collective form for all chan-
ges on materials, but only with value, which is shown below:
Therefore, sub-ledger bookkeeping of material is a link between warehouse re-

cords and ledger account of inventories of material in general ledger. Usually, book
entries are controlled in a way that quantity changes (input, output, balance) are
compared, and in that way sub-ledger accounts of warehouse records are adjusted
to sub-ledger accounts of bookkeeping records. Apart from this, total value chan-
ges from day-book of sub-ledger bookkeeping of material (value input or payable,
value output or receivable and balance value) are compared with payable and rece-
ivable turnover of ledger account of inventories of material in the general ledger.
Since the same changes are entered in books at three places, correctness of book
entry and balance should be ensured. If it is not so, it concerns a bookkeeping error
which needs to be detected and corrected.
17.5.1.7. Accounting monitoring of inventories of spare parts

and small inventory
Spare parts are consistent part of non-current tangible assets. Spare parts are
final elements, assemblies or devices that we embody in the machines or devices
in order to repair them, i.e. for maintenance reasons. In this, value of spare parts
burdens the costs of current period or production costs.
Therefore, spare parts are consumed and carry over their value from the account –
Inventories of spare parts to the account – Costs of spare parts or account – Costs of
services. If they are consumed in the process of reconstruction of non-current assets
and if they meet the conditions in accordance with IAS 16 that they are calculated
in changed value of non-current assets, they will then not be entered in books at
the costs, but as an increase of depreciation base of non-current assets. Accounting
coverage and tax treatment of spare parts at acquisition is the same as with material.
299
Small inventory are assets which are consumed at one sitting in business ope-
rations process, and their useful life may be longer than one year from the moment
of their issuance into use. However, these assets, because of the application of
criteria of small value are not classified in non-current assets, but they are kept in
current assets, i.e. small inventory. In accordance with positive legislative regula-
tion in FBiH, assets whose single acquisition value is less than KM 250 and use-
ful life longer than one year, are correctly classified into current assets, i.e. small
inventory. Small inventory in acquisition process (purchase) are initially valued
at acquisition cost (invoice value + variable costs). Write-off of small inventory
stocks incurs at the moment of issuance of small inventory into use. Methods of
small inventory write-off are:
a) full write-off (100 %),
b) 50 % write-off (direct and indirect method),
c) calculation write-off.
Example:
1) 10 pieces of hand-drill were acquired with individual acquisition cost of KM
200 and invoice from supplier was received in the amount of KM 2 000, plus 17 %
of VAT in the amount of KM 340, total KM 2 340.
2) On the basis of delivery note, 6 pieces of hand-drills were issued in use.
Do the following book entry:
a) if write-off is 100 %;
b) if write-off is 50 %, direct method;
c) if write off is 50 %, indirect method;
d) calculation write-off (assessed useful life is 4 months).
Acquisition and a) Write-off 100 %:
300
Explanation:
(1) Recording of supplier’s invoice.
(2) Write-off 100 % (one sitting) of small inventory and disposal.
b) Write-off 50 %, direct method:
Explanation:
(1) When placing in use, by applying the method of 50 % – write off (direct method
small inventory is written off in 50 % amount in the given accounting period.
(2) Final write-of of small inventory and disposal.
c) Write-off 50 %, indirect method:
Explanation:
(1) Issue of small inventory in use.
(2) 50 % write-off.
(3) Final write-off.
(4) Write-off and removing small inventory in use from book records.
301
d) Calculation small inventory write-off:
Explanation:
With the application of calculation write-off, small inventory costs are evenly
averaged during the assessed useful life. In the example, assessed useful life is four
months. Monthly write-off of small inventory is calculated as follows:
In the mentioned example, small inventory costs for the accounting monthly
period amount to 1 200 : 4 = 300 KM.
 Item (1) Book entry of issuance of small inventory in use.
 Items (2), (3), (4), (5) Book entry of calculation write-off for the accounting
period (we performed monthly book entry), account payable - Costs of small
inventory and account receivable – Value correction of small inventory.
 Item (6) Book entry at the moment of write-off of small inventory and re-
moving from books small inventory from use.
17.5.2. Accounting coverage of goods
Concept of goods in accounting practice is used together with the trade activity,
the same as concept of final product is used with the production activity.
The main activity of companies dealing with trade is acquisition (purchase) and
sale of goods, and performing trade intermediary in domestic and foreign market.
Trade activity may be performed as wholesale trade, retail trade and intermediary
in trade. Since goods are acquired for further sale, with the aim of generating
302
profit, goods seize to be part of assets at the moment of sale, i.e. delivery to the
buyers. Sale of goods is a process, in which, together with revenues, expenses are
also incurred, and either profit or loss are generated.
Goods as part of non-current tangible assets, i.e. inventories of company, are
presented from the moment of acquisition at the acquisition cost. Inventory cost,
that is, acquisition cost of trade goods, according to the standard in item 10 and
explanations in item 11 of International Accounting Standard of IAS 2 – Invento-
ries is:
– acquisition cost (purchase price) decreased by rebate and similar discounts,
presented in the supplier’s account,
– taxes except for those taxes that may be refunded from tax authorities,
– transport costs and other costs of delivery of goods to the warehouse point
or sale.
Normally, before the goods are acquired in the trade company, in wholesale
shop or retail shop, conclusion of contract in certain form is made (written, ver-
bal, acceptance of offer, etc.) with the delivery entity – supplier, directly or via
representative. Acquisition costs of goods, which the traders, in accordance with
the contract, that is, order, deliver to the supplier, are normally known example
of goods reception. Decision on order or conclusion of contract on acquisition of
certain type and quantity of goods from certain trader is based on pre-calculation
of selling price, which is comprised of the following elements:
– acquisition costs and
– price difference.
Pre-calculation, that is, pro forma invoice (planned calculation) of acquisition

costs, includes the amounts of all expected costs which are included in acquisition
cost. Price difference is the element from which a trader achieves cover of opera-
ting costs, i.e. activity expenses and profit. Although price difference in calculation
of sale price is most often added to the acquisition cost, i.e. acquisition price of
goods, however, because of limits of selling price, with the market competition,
trader is interested in minimizing costs.
Although, generally, acquisition cost and expected price difference and possible
selling price are known for each order, before arrival of goods in trade company,
accounting determines and records only actually incurred costs of acquisition
for actually received types and quantities of goods. Acquisition costs of received
goods are determined and recorded in the bookkeeping on the basis of valid docu-
ments which prove actually incurred acquisition costs. On the basis of these data,
data on actually incurred acquisition costs for each type and quantity of acquired
goods is presented in the receipt.
303
Receipt is a document which presents calculation elements of actual acquisition
costs of purchased goods. In cases when inventories of goods are recorded at the
selling price, in the receipt, along with the acquisition costs (acquisition value of
goods), data on the amount of price difference, selling price and value added tax
are also presented. Because of such content, these receipts are in practice referred
to as receipt– calculation, and are most often used in taking over the goods directly
in the shop. In presenting data in the receipt for acquired goods, certain additional
accounting procedures should be implemented in cases when a certain amount of
actually incurred so called variable acquisition costs, such as, for example, costs of
transport, loading, unloading and similar, relate to several types of goods. For the
allocation of these costs, various methods are used. Allocation of variable acqui-
sition costs, in practice, is performed in a way that, in accordance with in advance
determined percentage of price of supplier, the amount of variable acquisition costs
is determined.
By observing the accounting period as a whole, valuation of trade goods and
accruals of acquisition value of goods available for sale between the income state-
ment (costs of sold goods) and balance sheet (remaining, i.e. final inventories) we
present as follows85:
85
304
Selected applicable periodic or continuous system of inventory keeping pre-
sents information support to balancing, in terms of classification of value between
balance sheet and income statement, depending on method of valuation of costs
of sold goods and final inventories – FIFO, method of average weighted acquisiti-
on cost and specific identifications. (methods: FIFO, average weighted acquisition
cost and specific identifications are elaborated within the topic of Material, so we
do not elaborate them separately here.) Furthermore, at the end of the accounting
period, acquisition cost is compared with net selling (market) value, and the lower
value is recognized in balance in accordance with IAS 2, item 9.
17.5.2.1. Inventories of goods in wholesale trade
In wholesale trade, goods in bookkeeping are recorded as per type, quantity

and value. Accounting coverage of acquisition, storage and sale of goods may be
organized in various specific ways, but it is usual that changes are recorded in the
following manner:
 in the accounts of general ledger;
 in trade (sub-ledger) bookkeeping per type, quantity and value;
 in warehouse records per type and quantity.
Accounting coverage of goods in wholesale trade shown on the figure below:
Acquisition of trade goods, in accounting terms, is taking place via the account
of calculation of costs of acquisition of goods, which records the structure of acqu-
isition costs. Therefore, account – calculation of goods acquisition costs has the
function of collecting all the costs related to the acquisition (purchase) of goods,
such as: invoice (purchase) price, transport, loading, unloading and possible special
305
packaging costs. Generally, in the account of calculation of acquisition cost of
goods, acquisition cost (purchase) is created.
ACQUISITION COST = INVOICE (PURCHASE) PRICE + VARIABLE

ACQUISITION COSTS – DISCOUNTS
Example:
1) We have received goods in wholesale warehouse at the acquisition cost (acqui-
sition price) according to the received invoice in the amount of KM 25 000 for
goods, plus 17 % of VAT in the amount of KM 4 250.
Item (1) Reception of goods in warehouse at acquisition cost. Example:
1) 10 pieces of trade good “a” were acquired with individual acquisition value in the
amount of KM 2 500 and invoice was received from supplier in the amount of
KM 25 000, plus 17 % of VAT in the amount of KM 4 250. Trade goods were re-
ceived in wholesale warehouse at the selling price with 30 % of price difference.
Calculation – receipt may look as follows:
Calculation – receipt no. for wholesale trade
Name Unit of Acquis. Margin Selling Selling

No Quan Price
of goods meas. value % Amo. value price
Goods
1. Piece 10 2 500 25 000 30 % 7 500 32 500 3 250
“a”
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Example:
1) 50 pieces of trade good “b” of the same type were acquired at the price of KM
3 000 per piece. Invoice was received from supplier in the amount of KM 150
000 KM, plus 17 % of VAT in the amount of KM 25 500, total amount of KM
175 500.
2) Invoice was received from supplier for transport costs in the amount of
KM 8 000, plus KM 1 360 of VAT, total KM 9 360.
3) Invoice was received from supplier for loading costs in the amount of KM 4 000,
plus KM 680 of VAT, total KM 4 680.
4) Invoice was received for transport insurance in the amount of KM 2 000.
5) Goods were received in the warehouse with 25 % of price difference.
307
Explanation:
In case of acquisition of one type of goods, with several invoices of suppli-
ers (invoice for acquisition, i.e. purchasing price and other variable costs), it is
necessary to create calculation of acquisition cost and enter it in books. When
invoices relate to only one type of good, it is not necessary to allocate variable
acquisition costs, as it is the case when variable costs relate to several types of
goods.
Item (1) Book entry of supplier’s invoice for goods.

Item (2) Invoice for supplier for transport.
Item (3) Book entry of invoice of supplier for services of loading and unloading.
Item (4) Invoice for transport insurance of goods.
Item (5) Reception at the warehouse.
17.5.2.2. Increase and decrease of selling price
Example:
Bal In the wholesale warehouse, there are 10 pieces of trade goods “a” of indi-
vidual acquisition cost in the amount of KM 2 000, i.e. total acquisition value of
KM 20 000. Goods were received in the warehouse with 20 % of margin (price
difference), i.e. at the selling price of KM 2 400, i.e. KM 24 000 of selling value.
1) Six pieces of trade good “a” were sold and delivered and the invoice was issued
to the buyer in the amount of KM 14 400, plus 17 % of VAT in the amount of
KM 2 448, total KM 16 848.
2) Warehouse of wholesale trade was dispensed in line with the method of average
weighted price.
3) For the remaining 4 pieces of trade good, the company decided to increase the
selling price in the amount of KM 2 600, i.e. margin increase from 20 % to
30 %. Additional book entry was made related to margin increase in the amount
of (200 KM / piece × 4 pcs. = 800) 800 KM.
4) Three pieces of trade good “a” were sold and delivered, and invoice was issued
to the buyer in the amount of KM 7 800, plus 17 % of VAT in the amount of KM
1 326, i.e. total KM 9 126.
5) Warehouse of wholesale trade was dispensed for the sold goods.
6) For the remaining trade good “a” in the warehouse, the company decided to
reduce the selling price from KM 2 600 to KM 2 200. Margin in the amount of
KM 400 was cancelled.
308
Explanation:
(1) Book entry of sale – buyer’s invoice.
(2) (2a) dispense of warehouse and margin.
(3) Book entry of selling price increase.
(4) Book entry of sale – buyer’s invoice.
(5) Dispense of warehouse and margin.
(6) Decrease of selling price.
17.5.2.3. Goods in shop
Goods in a shop may be directly acquired from suppliers; however, goods may
also be transported from warehouse to the shop. If goods are brought to the shop
from warehouse, book entry depends on the way of records of goods in warehouse
(acquisition cost or selling price). If a shop acquires trade goods directly from su-
ppliers, then the book entry is most often performed through the account of shop
on the basis of calculation. We should note here that goods in shop are recorded at
the selling price, which also contains value added tax.
309
Example:
Invoice of supplier for acquired goods in wholesale trade amounts to KM 90 000
(invoice value KM 80 000, plus variable acquisition costs KM 10 000), plus 17 %
of VAT in the amount of KM 15 300, total KM 105 300. Goods are stored at selling
price. Margin (price difference) amounts to 20 % of acquisition cost. Value added
tax is 17 % and amounts to KM 18 360.
Calculation:
1. Invoice (purchase) price 80 000

2. Variable costs 10000
3. Acquisition cost 90 000
4. Price difference / margin 20 % 18000
5. Selling price without VAT 108 000
6. Value added tax 17 % 18360
7. Selling price with VAT 126 360
Explanation:
(1) Reception of goods in the shop at the selling price with VAT.
17.6. ANALYSIS OF INVENTORIES

Turnover of inventories
Indicator most often used in analysis of size of certain items of inventories is

coefficient of inventory turnover86:
86
310
So, for example, if a cost of sold goods in one year is one million USD, and in-
ventories are USD 250 000, inventories have been turned over four times. It is gene-
rally stated that inventories are turned over once in three months (quarterly). Some
companies calculate this indicator on the basis of initial and final balance, and some
on the basis of average balance of inventories. Therefore, we can calculate average
inventories on the basis of the sum of initial and final balance of inventories by di-
viding them with two, or, on the basis of average of monthly balance of inventories.
Turnover of inventories differs to a great extent, taking into account the type
of activity of companies. The number of turnovers should be high for shop which
sells fresh goods. The number of turnovers in shops may be near 50, and with oil
refinery, it is 20. On the other hand, a jewelry store with large choice of expensive
and unusual items will maybe make a turnover of its inventories only once a year,
and with most art galleries number of turnovers is far less than 1. Inventory turnover
indicates the speed at which trade goods flows through the company. The number
of turnovers is reduced either due to inventory increase because of expected higher
sale, or because of decrease of sale, when surplus of goods remain in the inventories.
Days of inventory linkage. Equal proportion of days of inventory linkage. If
we have already computed number of inventory turnovers, days of inventory linka-
ge are simply computed as 365 : number of inventory turnovers.
Days of inventory linkage may be directly computed in the following manner:
Of course, chosen inventory cost method influences the calculated number of

inventories and the days of inventory linkage.
17.7. PREPAID COSTS OF FUTURE PERIOD

(PREPAYMENTS AND ACCRUED INCOME)
This concerns a provisional form of current assets. The reasons for this is that
costs are paid in advance which relate to the future periods, and not acquired assets.
Therefore, monetary expense succeeds the operating cost, which relates to the fu-
ture accounting period and not to the purchase of assets. The most frequent types
of natural costs are: rent, insurance and similar.
For example, a legal entity paid the rent in advance on 1 September 2010, in the
amount of KM 24 000, which, according to the contract, expires on 28 February
2011 (six months). The event in 2010 will be entered in books as follows:
311
Explanation of book entries:
(1) Prepaid rental costs.
(2) Accrual of rental costs for Sept. 2010.
(3) Accrual of rental costs for Oct. 2010.
(4) Accrual of rental costs for Nov. 2010
(5) Accrual of rental costs for Dec. 2010.
On the balance date (31. 12. 2010) a legal entity will, within its current assets,
present the position of prepaid costs (of future period – short-term accruals) or
prepayments and accrued income, in the amount of KM 8 000 (in the example of
the balance of the account – Prepaid rental costs). Thus, amount in the balance on
31. 12. 2010 we refer to as “transitional or provisional assets”, as they represent a
paid cost, since, in conceptual term it is not a “resource” from which in the future
we expect economic benefits, but operating cost or expense. In 2011, a legal entity
will, in January and February enter in books calculation of rental costs (as in the
example under items 2, 3, 4 and 5), and thus, this event is entered in books in the
shown manner, and not on the date of rent payment (1. 9. 2010.) to entirely burden
rental costs of the period (2010). For example:
This book entry is not in accordance with the comparability principle of revenues
and expenses, event occurrence, reality of balance sheet and income statement.
Comparability principle of revenues and expenses requires that realized revenues
are compared with expenses that have caused them. This, in the concrete case me-
ans that revenues may only be matched against expenses incurred in 2010 (i.e. rent
for September, October, November and December 2010), and not total amount of
paid rent. If the total amount of paid rent (KM 24 000) was entered in books as cost
in 2010, in that year, the financial result would be unrealistically presented (under
valuated) by KM 8 000 (prepaid costs related to 2011).
312
AND UNDERSTANDING:
1. Define current assets, types and their significance.

2. Define cash equivalents and their accounting coverage.
3. What is own bill of exchange?
4. Explain the significant data for accounting records of bill of exchange.
5. Explain short-term securities and their accounting coverage in acquisi-
tion process.
6. Define inventories in accordance with IAS 2 – Inventories.
7. Explain valuation methods and manners of recording inventories of
material in acquisition process.
8. What is the structure of acquisition costs and what does inclusion of
variable acquisition costs in calculation of acquisition cost depends on?
9. Is VAT included in calculation of acquisition cost?
10. What are the methods of valuation of material consumption and at
which moment are they applied?
11. Explain transactions related to the disposal of inventories of material
and their accounting coverage.
12. When are the inventories of material obsolete, what valuation method is
applied and when?
13. Explain where the trend and flow of material is monitored and in what
manner.
14. What are the methods of inventories write-off of small inventory and
their accounting coverage?
15. Explain the structure of acquisition costs of trade goods.
16. How are trade goods valued in wholesale trade and in retail shop?
17. Normally, account – Calculated price difference has receivable turno-
ver. Why is it so?
18. Explain the indicators in analysis of inventories items.
19. Explain the transitional form of current assets –PAI – Prepaid costs
313
18. ACCOUNTING COVERAGE OF EQUITY
18.1. CONCEPT OF EQUITY

Total assets at disposal of legal entity come from the two main sources, from
borrowed sources and own sources. Therefore, property of legal entity is comprised
of assets in line with appearance forms and assets in accordance with the original
of source. Value of assets from borrowed sources appears in large number of posi-
tions which, in balance sheet, are presented under their joint name - liabilities. All
liabilities have their maturity period, i.e. period in which borrowed assets should be
returned, for example to suppliers, banks and other creditors. Period of return may
be up to one year (short-term liabilities) and over one year (long-term liabilities),
as mentioned earlier.
“Equity or principal is residual of assets of a legal entity after deduction of all
its liabilities.”87 Therefore, equity represents the difference between assets and li-
abilities and is normally calculated from the accounting (balance) equation (assets
= liabilities+ equity, i.e. equity = assets – liabilities), and in theory it is also called
net property (pure property).
Structure of equity or principal depends on agreed form of legal entity. The Law
on Enterprises of the Federation of BiH sets out that the set-up equity for joint-
stock company amounts to KM 50 000, and for limited liability company, it is KM
10 000. Foundation of limited liability company in the ownership of one person
requires payment in the amount of KM 2 000 of set-up equity. Original equity of
limited liability company is split into stakes, and in the joint-stock company it is
split into shares. Joint-stock companies have the most complex structure of equity.
Namely, regardless of the forms of organization of legal entity, equity is comprised
of two parts:
 subscribed paid-in equity (original equity) and
 earned equity.
Subscribed paid-in equity represents a share of equity which the owners bro-
ught into the legal entity. It is the part of equity paid in cash (purchase of shares or
stakes of legal entity) or brought in the form of objects, rights.
Earned equity is a result of profitable business operations. Therefore, it incu-
rred from the difference of revenues and expenses after deducting profit tax. Thus,
earned equity represents net profit. Its amount depends on allocation of net-profit
87
Framework.
314
into dividends and possible cover of losses. Structure of earned equity depends on
the concept of its increase. Therefore, there are two types of presentation of earned
equity:
1. according to the Anglo-Saxon concept, earned equity is presented in the po-
sition retained earning and that is the only position of earned equity.
2. according to the Fourth Directive of EU, i.e. according to the European
concept, earned equity is comprised of two parts: accumulated (retained)
profit and reserves.
In accordance with the positive legal regulations in the Federation of BiH, i.e.
chart of accounts of the company, equity is comprised of the following groups of
accounts:
 original equity
 subscribed unpaid equity
 reserves
 revaluation reserves and unrealized gains and losses
 non-allocated profit
 loss up to the amount of equity
 repurchased own shares and stakes.
Equity expresses carrying amount of legal entity. It is the value at which the va-
lue of equity is presented in books on the balance date. Carrying amount of equity
is taken as base for calculating carrying amount per share, which is compared with
nominal and market value of share. Therefore, legal entity may have market value,
which is expressed in market value of share or stake.
18.2. SHARES AS FINANCING INSTRUMENT

OF JOINT-STOCK COMPANY 88
Ownership over a joint-stock company is proved with the owner’s (principal’s)
security, i.e. share, with which shareholders prove their stake in the equity (princi-
pal or net property) of joint-stock company. These shares may be either ordinary or
priority (preference shares). Each joint-stock company, in its act on foundation
has an authorization to issue the maximum number of shares that may be issued
88
According to item 11 IAS 32 – Financial Instruments: Disclosure and Presentation, owner’s
(principal’s) instrument is each contract which proves stakes in residual assets of some legal entity
after revocation of all its liabilities. In the world financial and accounting literature, financial in-
struments are referred to as shares.
315
in accordance with the authorization of responsible authority, i.e. shareholder’s
assembly, if assembly authorizes it. Those are so called authorized (approved)
shares89. Supervision of the shares authorization is within the competency of Secu-
rities Commission of the Federation of BiH in accordance with the Law on Securi-
ties. Issued shares are authorized (approved) shares and they are sold for cash or
exchanged for non-monetary forms of assets or services.
Non-issued shares are part of authorized (approved) shares which are not sold
for cash nor exchanged for non-monetary forms of assets or services, i.e. they are
not released into turnover. Nominal value of share is the value marked on the share
itself, such as KM 10 (in FBIH). There might be also shares without nominal value;
however, it enables certain speculations, so, normally, legislation of the countries
forbids issue of shares without nominal value.
Market value of shares is value at which share is sold at the equity market, and
is normally contained in the stock exchange markets reports.
Shareholder’s premium (premium on issued shares) is the amount which is
achieved with the sale of shares above nominal value.
Carrying amount of share is the value at which shares are kept in records of a
joint-stock company. This value is calculated in a way that the whole amount of
equity (nominal value) increased by shareholder’s premium, reserves and retained,
i.e. accumulated profit, is divided by number of principal shares.90 Principal shares
are all the issued shares reduced by own (treasury) shares.
Own (treasury) shares are issued and paid shares which a joint-stock company
acquired with their purchase at the equity market, that is, with call off, and which
were not withdrawn from circulation. Reason for keeping these shares is possibility
for increasing the equity of a joint-stock company in the future and their re-sale at
the equity market, that is, achieving equity gains.
Ordinary and preferred shares
Shares are divided into two following typical types91:

 regular or ordinary shares and
 preferred shares.
89
90
91
Gray / Needles, Financial..., quoted. , pg. 316 or see Meigs: Accounting foundation of business de-
cision making process, ninth edition, Mate l.l.c. Zagreb, pp. 659-663 (translation from English).
316
In accordance with the legislation of the Federation of BIH, joint-stock compa-
nies may issue regular or ordinary shares with nominal value of KM 10. Shares,
regular and preferred may be issued at the name and bearer.
Regular or ordinary shares
They are the financial instrument of generation of shareholder’s equity. Those

are the shares which represent equal portions in equity of joint-stock companies.
Owners of shares or shareholders hold the shares as a verification on invested funds
in the joint-stock company. Owners of shares on their basis realize certain rights,
and those are voting right, that is, the right to manage the joint-stock company,
right to participate in the financial result, that is, the right to voted dividends as
an element of distribution of net profit to the shareholders, right to the stake in the
residual salvage value of a joint-stock company and, in case of any additional issue
of shares, shareholders are entitled to priority subscription of new issue in order to
keep the existing owner’s stake, and thereby ownership structure.
Preferred shares
Those are long-term securities which, by their characteristics are between sha-
res and bonds. Their owners have the right to priority collection of dividends,
which are normally calculated at fixed rate (similar to interest rate), then, they
bear cumulative right for collection of all unpaid dividends, and they normally
do not carry the voting right on issues related to the managing of joint-stock
company.
Issue of regular shares and their sale for cash
Issued shares at the market may be exchanged for cash or other forms of assets
and rights. Normally, sale takes place in exchange for monetary assets. At the fo-
undation assembly of the company or main assembly of the company, decision is
made on total sum, at which shares are issued and nominal sum of share (not less
than KM 10).
Example: Issue of regular shares and sale for cash
The joint-stock company “Bradly” issued and sold 10 000 regular shares at the
name, whose nominal value is KM 10 per share. Shareholders, on 1 January 2010
before registration in the court registry, paid the entire nominal amount.
317
Explanation:
(1) Account of gyro account is payable by KM 100 000 (10 000 shares × KM 10),
and account Subscribed paid in original equity (Shareholder’s equity – regular
shares)92 is receivable for the same amount.
In the previous case, shareholders have paid the entire nominal amount of sha-
res before registration in the court registry.
Issue of new shares and sale with premium
Example:
The joint-stock company “Bradly” issued and sold 10 000 new shares with no-
minal value of KM 10 per share. On the day 1 January 2010, 10 000 shares were sold
at the price of KM 12 per share.
Explanation:
(1) For sale and collection of shares.
Often new shares are issued and sold at the price which is higher than nominal
value. The amount achieved with the sale above nominal value is normally called
premium and is separately recorded in the account of equity, that is, in the account –
Shareholder’s premium. Issuance and sale of new shares, is performed with the aim
of increasing the value of equity, that is, with the aim of acquiring new financial
funds at especially prescribed procedure. In the world, shares are rarely issued and
92
318
sold at the price below nominal value. However, if it concerns such transactions,
they are recorded in the following manner:
Issue of shares and discount sale
Example:
The joint-stock company “Bradly” issued and sold 10 000 new shares in nomi-
nal value of KM 10 per share. On the day 1 January 2010, 75 % of nominal value per
share was sold, which was accepted as final market value (7 500 × 10 = 75 000 KM).
Explanation:
(1) For sale and collection of shares.
Issue and sale of shares below nominal value is not permitted in most countries.
This transaction with shares at the primary issue is not permitted in the Federation
of BiH in accordance with the Law on Enterprises.
Issue of shares and their exchange for non-monetary assets and services
Issued shares are normally paid in cash. However, if shares cannot be sold for cash,
legislation, normally permits exchange for non-monetary assets and services. In
this case, difficulties appear in relation with real assessment of exchange value, at
which shares are exchanged for non-monetary assets, i.e. objects or rights or ser-
vices which are the subject of exchange. Exchange value may be market value of
shares (nominal or amount higher than nominal value), or market value of objects,
or rights, or services which are the subject of exchange.93
93
319
Example:
The joint-stock company “Bradly” issued 10 000 shares at the name, whose
nominal value is KM 10 per share. Shares were sold for cash and the amount from 5
000 shares was collected, and 5 000 shares were exchanged for business premises.
Invoice for business premises is KM 70 000. Invoice value of business premises was
agreed as exchange value.
Explanation:
(1) Collection of shares in cash.
(2) Exchange of 5 000 shares for business premises. (3) Business premises in use.
Own shares
Treasury shares are shares of joint-stock company which are issued and subsequ-
ently redeemed Thus, significant place in transactions with securities also holds re-
demption of own shares which are also referred to as treasury shares. A joint-stock
company normally obtains own shares with redemption at the equity market.
Reasons for redemption of own shares may be:
 to reduce the volume of business activity of joint-stock company,
 to reduce the danger from competition take over,
 to reduce the number of own shares with the aim of increasing profit (earn-
ing) per share and market value per share,
320
 to redeem ownership interests of one or several shareholders,
 to maintain favorable market for shares of joint-stock company.
Own share is certainly not the resource of legal entity. A joint-stock company
cannot possess the part of itself. Thus, own shares are not property and do not have
voting right, dividend, or any other shareholders’ rights. Instead, in balance sheet,
they are presented as decrease of equity, that is, decrease of number and carrying
amount of principal shares. Two manners of entering own shares in books are per-
mitted. In given situation, either methods provide the same effect on equity.
Redemption effect of own (treasury) shares is a decrease of assets and decrease
of equity in circulation, that is, withdrawal from market.94
Example:
Redemption of own shares: on 15 September 2010, the joint-stock company “Ca-
proch” redeemed 1 000 shares at the market, which were issued at nominal value
of KM 50 per share. The joint-stock company paid the redemption at the nominal
amount. The joint-stock company had previously issued 10 000 ordinary shares.
Explanation:
Under item (1), redemption of own shares is recorded in accordance with Anglo
Saxon practice. In accordance with the regulation in the Federation of BiH, redemption
of own shares is recorded in the account Own shares and, in the essence, the transac-
tion represents decrease of own equity. According to the Law on Enterprises, value of
acquired own shares cannot be higher than 10 % of the original equity value. Value of
redeemed own shares in the account Own shares may be presented as follows:
– at acquisition cost, or
– at nominal value.
Explanation:
(1) Redemption of own shares.
94
321
Sale of acquired own shares is recorded at the value at which shares are redee-
med, i.e. at the acquisition cost.
Example:
On 15 November 2010, the joint-stock company “Caproch” sold 1 000 own sha-
res issued at KM 50 per share. Selling price is KM 60 per share.
Explanation:
(1) Sale of own shares above nominal value.
18.3. ACCOUNTING MONITORING OF

CHANGES IN EARNED EQUITY
18.3.1. Dividends
A dividend represents a return to the shareholders of a part of investment in

owner’s securities (shares).95 Management of the joint-stock company declares
payment of dividends, which are normally paid as a result of profitable business
operations, that is, they are paid out from net profit accumulated in the account of
retained earnings or non-allocated profit.
Dividends may be declared either quarterly or semi-annually, which is up to the
management to make the decision. They are normally declared just before annual
financial reporting or just afterwards. How many times a joint-stock company is
going to declare a dividend, depends on performance of business activities and
provisions of Articles of Association.
95
322
There are three significant dates for declaring and payment of dividends, and
those are:
 Date of declaration is the date when management of joint-stock company
formally declares that dividends will be paid out. Management precisely de-
termines as to which part of net profit or retained earning (non-allocated
profit) will be paid out to shareholders, that is, the amount is determined per
share, individual amount that will be paid out to each shareholder, and total
amount that will be paid out in a form of dividend to the shareholders.
 Date of records. Who is entitled to dividends? As we know, there is fre-
quent change of owner of shares because of daily purchase and sale at the
share market. The problem is resolved in a way that management determines
the date of determining the balance in shareholder’s book, that is, exact lists
of shareholders to whom dividends shall be paid out.
 Payment date is the date when dividend is paid out to shareholders in ac-
cordance with records. On the payment date, dividends are paid in cash (cash
dividends) or dividends in shares, that is, in a form of non-monetary assets
and services.
Depending on the method of payment, dividends may be monetary and non-

monetary.96
Non-monetary dividends we have in case of distribution of dividend shares, in
form of tangible assets and services.
Example: declaration of payments of monetary (cash) dividends

On 1 June, management of the joint-stock company disclosed dividends in the
amount of KM 100 per share. Owners of ordinary shares are paid out on 1 August
according to the records from shareholder’s book on the day of 1 July. On the date
of determining the balance in shareholder’s book, there are 1 000 ordinary shares
in the ownership of shareholders .
96
Meigs / Meigs, Accounting..., quoted, pp. 700-702.
323
Explanation:
(1) Book entry on 1 June (date of dividends declaration) by the management (1 000
shares × KM 100 = KM 100 000).
1 July is record date, that is, determining the balance in shareholder’s register
and this is not entered in books.
(2) Book entry on 1 August – payment of monetary dividends.
Account for Liabilities for monetary dividends is account of liabilities. Sin-

ce liabilities for dividends are settled within a short period of time, it concerns a
short-term liability. Previous example of declaration and payment of dividends is
in accordance with Anglo-Saxon practice. However, in the countries of European
Union, especially in Germany, France, Austria, there is a partial legal influence on
distribution of net profit. Such practice also exists in the Federation of BIH, where
there is a legal influence over distribution of net profit into reserves. According
to the Law on Enterprises, shareholder’s companies must allocate from their net
profit 10% from reserves, until they reach the amount of at least 25 % of original
equity. Joint-stock companies, apart from legal reserves, according to the Articles
of Association, if they adopt it, also allocate statutory reserves, and other reserves.
Example:
Joint-stock company, according to the income statement for 2010, presented a net
profit in the amount of KM 200 000. Shareholders’ assembly in February 2011 adopted
annual financial statement and made the following decision: “Realized profit in 2010
in the amount of KM 200 000 is distributed in the following way: KM 50 000 to re-
serves, KM 80 000 of net profit was declared for dividends, and residual is transferred
to accumulated profit.” Dividends were paid out to shareholders from gyro account.
324
Explanation:
(1) Distribution of net profit into reserves.
(2) Declaration of dividends for ordinary shares.
(3) Transfer of residual net profit to accumulated profit
(4) Payment of dividends from gyro account.
18.3.2. Declaration and payment of share dividends
Share dividend is the expression used to describe declaration and distribution

of dividends in a form of additional shares to the shareholders proportionally to
their share in the ownership of joint-stock company.
Sometimes the company keeps the assets in business operations in order to fi-
nance extension of activity, which does not prevent it from payment of monetary
dividends. However, a company makes decision for its shareholders to receive
some type of dividend. Such companies may declare dividend in shares, which
increases a number of shares of each shareholder by certain percentage. So, for
example, if a dividend is declared in shares of 5 %, owner of 100 shares would
receive additional 5 shares of joint-stock company (either newly issued or own).
Since for the same proportion ownership was increased of each shareholder, pro-
portion in the company remains unchanged. Although a dividend in shares does not
change profit of joint-stock company, its assets or proportional stake in the princi-
pal of each shareholder, it increases number of shares in circulation. In theory, such
dividend should reduce market price of share. So, for example, 5 % of dividend in
shares, if price before dividend was USD 10,50 per share, it should also theoreti-
cally decrease to USD 10 = 10,50 / 105 %, following declaration of dividend in
shares.97
Management may have several reasons for declaration of share dividends:
 retaining money with the aim of expansion of joint-stock company at the
market,
 with additional issue of share dividends, there is an impact on decrease of
share market value,
 with declaration of share dividends, shareholders avoid tax payment on divi-
dends compared with declaration and payment of monetary dividends.
97
Gray / Needles, Financial..,quoted, pg. 345 or see Meigs / Meigs, Accounting..., quoted, pp.
701-703.
325
Example: declaration and distribution of share dividends
A joint-stock company for 2010 presented net profit in the amount of KM 250 000.
According to the decision of shareholder’s assembly, and in line with the Law on
Enterprises, 10 % was allocated into reserves. The assembly made a decision on
distribution of share dividends in the following way: 10 % from 10 000 issued ordi-
nary shares, which is 1 000 shares. Market value of shares on the date of additional
issue. Market value of shares on date of additional issue is KM 110 (nominal value
of those shares is KM 100).
Share dividends were distributed. Residual net profit is transferred to accumu-
lated (retained) profit.
Explanation:
(1) Distribution of net profit from reserves.
(2) Declaration of share dividends.
(3) Distribution of share dividends.
(4) Transfer of residual net profit to accumulated profit.
326
18.4. LOSS
Legal entity in balance sheet presents performance of business operations as
positive (profit) or negative (loss) operating result. Profit increases equity, and
loss decreases equity. Operating result, net profit and loss presented in income
statement are carried forward into the following year, and in opening balance
(on 1 January) they will be presented as accumulated profit or loss of previous
years.
Shareholders’ assembly makes a decision on method of profit distribution and
on coverage of loss in the following year.
Loss carried over may be:
 loss above equity and is normally presented in assets of balance sheet in the
position Loss above equity, as corrective position of assets, since balance of
equity is zero, and liabilities are higher than values of assets in assets
 loss up to the amount of equity is presented in liabilities within the positi-
ons of equity, in the positions Loss from previous years and current year’s
loss.
Thus, for example, loss realized in 2010, is covered in the following year on 1
January 2011. by debit entry of retained, that is, accumulated profit from previous
years. If accumulated profit is not enough, it is covered from reserves. If a legal en-
tity did not cover a loss up to the amount of equity of current period, it is transferred
into the account - loss of current financial year, and it is covered in the following
accounting periods in accordance with the continuity principle, that is, unlimited
business operations period.
Example: Cover of accumulated loss of previous years from net profit of

current year
The joint-stock company in 2010 realized net profit in the amount of
KM 250 000. The company carried over into 2010 from previous years loss in the
amount of KM 100 000. In the following year, shareholders’ assembly made a deci-
sion that realized profit in the amount of KM 100 000 should be used for covering
the loss from previous years (book entry in 2011). After coverage of loss, sharehol-
ders’ assembly made a decision to allocate 10 % into reserves. Residual profit is
transferred into accumulated profit.
327
Explanation:
1) Loss coverage of previous years from net profit of the current year.
2) Distribution of residual net profit into reserves.
3) Transfer of net profit into accumulated profit.
Example: Coverage of previous years’ loss from reserves

The joint-stock company in 2010 realized net profit in the amount of KM 60 000.
The company carried over into 2010 the loss of previous years in the amount of
KM 100 000. In the following year, decision was made by shareholders’ assembly
to use the entire realized profit for covering losses of previous years, and the diffe-
rence of KM 40 000 KM shall be covered from reserves. Balance in the account of
reserves is KM 100 000 .
Explanation:
(1) Coverage of loss of previous years from net profit and reserves.
328
Example:
The joint-stock company declared a loss of current year in the income statement
for 2010, in the amount of KM 20 000. Balance in the account – Accumulated pro-
fit amounts to KM 40 000. According to the decision of shareholders’ assembly,
current year’s loss is covered from non-distributed profit. Book entry in the acco-
unts of general ledger:
Explanation:
(1) Coverage of current year’s loss from accumulated profit.
Example: increase of loss, carried over from previous years

The joint-stock company presented in its income statement for 2010 a loss of
current year in the amount of equity value, and the loss amounted to KM 10 000.
Accumulated profit and reserves were previously used for coverage of loss. Assem-
bly of the company in 2011 concluded that for 2010, the loss was presented in the
amount of KM 10 000, by which the loss from previous years has been increased.
Transfer of current year’s loss to the account Loss from previous years is entered in
books (1 January), and balance from previous years is KM 20 000.
18.5. EARNING PER SHARE

In analyzing financial statements of joint-stock companies, users of financial
statements, especially shareholders, pay a significant attention to the sum which is
329
referred to as earning per share, with the aim of assessing the performance of joint-
stock company.
Financial Accounting Standards Board requires that significant accounting in-
formation of earning per share should be disclosed at the front page of income
statement.98
Earning per share is earned net profit per ordinary share. Calculation of earning
per share refers only to ordinary shares in accordance with International Accoun-
ting Standard IAS 33 – Earnings Per Share items 9, 10 and 12, and is based on the
amount of net profit, dividends that belong to preferred shares and weighted num-
ber of ordinary shares in circulation.
When calculating earning per share, annual net profit applicable to ordinary sha-
reholders is divided by average number of ordinary shares in circulation. Concept
of earning per share is applied only on ordinary shares. Preferred shares are not
entitled to earning above agreed preferred dividends.99
It is the simplest to calculate earning per share in case when joint-stock compa-
ny sells only ordinary shares, and number of shares in circulation does not change
in the course of the year. In such situation, annual net profit by dividing number of
shares in traffic at the end of the year is equal to the earning per share.
Example: Earning per share – number of ordinary shares is the same during the
year
The joint-stock company presented net profit in income statement for 2010 in
the amount of KM 366 000. During the year, company had 100 000 shares in cir-
culation. What is the earning per share? Earning per share is calculated as follows:
However, in joint-stock’ companies, number of shares in circulation changes

once or several times during the year. In that case, it is necessary to calculate wei-
ghted average of shares in circulation for the current year.100
98
FASB requires that earning per share is disclosed in income statement and it provided thorough
guidelines for this calculation.
99
Meigs / Meigs, Accounting..., quoted, pg. 695.
100
330
Example: earning per share – weighted average of ordinary (main) shares
The joint-stock company presented net profit in income statement for 2010 in
the amount of KM 366 000. During the year, the company had in circulation ordi-
nary shares as follows:
January – March 100 000 shares

April – September 120 000 shares
October – Decemb. 130 000 shares
It is necessary to calculate earning per share on the basis of weighted average

number of shares in circulation.
Calculation of weighted average of ordinary shares in circulation and earning
per share will be determined in the following manner:
100 000 shares x ¼ year 25 000

120 000 shares x ½ year 60 000
130 000 shares x ¼ year 32 500
weighted average of ordinary
(main) shares in circulation 117 500
366 000 KM
earning per share =
117 500 shares
= KM 3,11 / per share
Explanation:
Weighted average number of ordinary shares in a year is determined with mul-
tiplying number of ordinary shares in circulation by the part of year in which a
number of shares in circulation remained unchanged.
This procedure provides more significant accounting information on earning
per share, than if we used total number of ordinary shares in circulation during
the year. By using the weighted average number of ordinary shares in circulation,
we notice significant accounting information about revenues from sale of 20 000
shares in the period from April to September, while information from sale of 10
000 shares was available only during the last three months for generating earnings.
Although weighted average number of shares in circulation must be used in cal-
culating earning per share, this number is not presented in the owner’s equity in
balance sheet. Balance at the end of the year presents actual number of shares in
circulation on that day, regardless of when the shares were sold. When a company
has preferred shares in circulation, preferred shareholders participate in net profit
up to the amount of dividends on preferred shares. In order to determine earnings
331
applicable on ordinary shares, we first deduct from net profit the amount of divi-
dends on preferred shares for the current year. So, for example, joint-stock company
has preferred shares, on which annual dividend is KM 23 500. In that case, earning
per share on ordinary shares would be KM 2,91 (366 000 – 23 500 / 117 500 shares).

AND UNDERSTANDING:
1. Define equity and explain structure of equity.

2. Define shares and explain essential characteristics of shares.
3. What is the share premium, recognition and its accounting coverage?
4. What are own shares and their accounting coverage?
5. What are the reasons for declaration and distribution of dividends in
form of shares?
6. Explain the coverage of loss.
7. Define earning per share and state important elements for calculating
earning per share in accordance with IAS 33 – Earnings Per Share.
332
OF LIABILITIES
Liabilities are one of the three main parts of balance sheet101 (assets = liabilities
+ equity). Therefore, liabilities and equity are sources of assets, as already menti-
oned in second chapter, which are used for financing of investments of legal entity
into assets. In the second chapter, liabilities are defined as debts towards external
parties arising from already incurred transactions.
In accordance with item 10 of IAS 37 – Provisions, Contingent Liabilities and
Contingent Assets “liability is a present obligation of the legal entity arising from
past events, the settlement of which is expected to result in an outflow from the
legal entity of resources embodying economic benefits”. Therefore, the essential
characteristic of liabilities is that the legal entity has a present obligation. An obli-
gation is a duty or responsibility to act or perform in a certain way. Obligations may
be legally enforceable as a consequence of a binding contract or statutory require-
ment.102 Thus, liabilities represent broader term than monetary liabilities. Namely,
if a legal entity has received advance payment for ordered goods or services, then
the same legal entity has an obligation to deliver the goods or services. It is neces-
sary to make a distinction between a present obligation and future commitment103,
which is closely related with the assessment of profitability and liquidity of the
company. Thus, for example, a decision by the management of a legal entity to
acquire assets in the future does not, of itself, give rise to a present obligation. An
obligation normally arises only when the asset is delivered.
Liabilities are recognized in business books, and thereby in balance sheet, if
the following conditions are met:
 obligation is present,
 there is reasonable assessment by managers, i.e. accountant that outflow of
cash or other assets or provision of services will occur on the exactly set date,
 obligation is a result of past events.
Omitted recognition and recording of liabilities also means omitted recording

of expenses. The result, that is, the consequence of such omitted recording, are
smaller expenses and false or wrong presentation of operating result.
101
Gray / Needles, Financial...,quoted, p. 335.
102
Framework.
103
Framework.
333
So, for example, a legal entity may conclude a contract with another legal entity,
in accordance to which, in the following two years, it will purchase goods annually
in the amount of KM 100 000. This contract, although signed and although it defi-
nes a liability that will occur in future, is not recognized and recorded in business
books as present obligation. Why? Because a business event, delivery of goods to
the warehouse from which the current liability would arise, has not occurred yet,
and thus, there are no bases for recognition in business books of something that
has not happened yet. Therefore, when a business event occurs, which requires
payment at certain date and there is reliable assessment that the payment will be
made, it is the liability which should be recognized and presented in business bo-
oks, and thereby in the balance.
Legal entity performs valuation (measurement) of liabilities simultaneously
with valuation of assets. According to the International Financial Reporting Stan-
dards, valuation of liabilities is conducted with respecting the following principles:
 historical cost of liabilities – amount of cash or cash equivalents, expected to
be paid to satisfy the liability in the normal course of business;
 current cost of liabilities – undiscounted amount of cash or cash equivalents
that would be required to settle the obligation currently;
 present value of liabilities – present discounted value of future monetary
expenses that are expected to be required to settle the liabilities in the normal
course of business;
 fair value – marketable securities may be presented at market value;
 settlement value – liabilities are carried at their settlement values, that is,
the undiscounted amounts of cash or cash equivalents expected to be paid
to satisfy the liabilities in the normal course of business (item 100, IFRS,
Framework).
The amount which needs to be settled in the future, for most liabilities is defi-
nitely known. Settlement of a present liability may be performed in the following
ways:
 payment of cash,
 transfer of other assets,
 provision of services,
 replacement of that obligation with another obligation,
 conversion of the obligation to equity (Framework).
However, specific items of liabilities include long-term provisions for risks. Tho-
se are liabilities of indefinite time settlement and their amount should be assessed.
From aspect of maturity, liabilities are classified as follows: 1) current (short-
term) liabilities and 2) long-term liabilities, as noted.
334
19.1. LONG-TERM LIABILITIES
Long-term liabilities are such liabilities (debt) whose repayment period is lon-
ger than one year, starting from balance date. The most frequent long-term liabili-
ties are liabilities for received long-term loans and liabilities for issued long-term
bonds, other long-term financial liabilities and long-term accruals and provisions.
Long-term loans are liabilities of a legal entity which are qualified in passive
financial activities, and they are most often undertaken with the aim of financing
construction or acquisition of non-current and current assets.
At the prescribed position of liabilities, within long-term liabilities, liabili-
ties on issued securities are also presented which mature following expiry of one
year (12 months). With the issue of long-term securities and their sale to the purc-
hasers (investors with available cash), legal entity / issuer resumes obligation, the
return of invested money to the purchasers with appropriate fee, i.e. interest. The
most frequent type of long-term security which is being sold, is bond, however, the-
se may also be treasury bills and other long-term securities. Significant advantages
of issue of debt securities / bonds are104:
 holders of bonds of some company and other creditors do not have influence
on the company (voting right) as shareholders, holders, that is, owners of
shares which have a significant influence or control over company;
 Interests on issued bonds are tax- recognized expenses, and dividends are not;
 burdening financial result with interests on issued bonds may be lower than
distribution of dividends to shareholders;
 effective, that is, current market interest rate may be more preferred than
market price of share.
Despite mentioned advantages, issue and sale of debt securities / bonds also has
its disadvantages for the company which issues them, and those are:
– necessary provision of cash by the company in charge of paying out annu-
al, that is, semi-annual due interests on issued bonds, as well as ensuring
debt repayment / due principal, which normally significantly influences cash
flow, that is, liquidity of that company;
– if a company is making losses, it may be in danger of not managing to settle
its liabilities and normally, holders (owners) of bonds may undertake control
over company.
The value at which the bond is issued is nominal value. The issuer records bonds
at their nominal value, and that is the amount which the issuer must pay at the end
104
335
of bond’s maturity, that is, when it is due, to the holders, that is, to the owners of
bond. Market value of bond depends on market interest rate which is created at
capital market. Market value of bond may be equal, higher or lower than nominal
value.
Example: Bonds sold at nominal value

1) On 1 January 2010, company “A” issued 1 000 bonds with nominal value of KM
100 per bond for the period of five years and annual interest of 9 %. Company
“A” sold the bonds for KM 100 per bond. Interests shall be calculated on 30 June
and 31 December, and principal is repaid at the end of the fifth year.
(1) For sale of bonds at nominal value (1 000 × 100 = KM 100 000).
(2) For calculation of interest on 30 June (100 000 × 9 % : 2).
(3) For payment of interests on 30 June (of first year).
(4) For interest calculation on 31 December(100000 × 9 % : 2).
(5) For interest payment on 31 December (of first year).
However, if bonds are issued with the premium, it means they are sold at the
price higher than nominal value. On contrary, if bonds are issued with discount,
it means they are sold at the price lower than nominal value. Normally, bonds are
issued and sold for cash. Issued bonds which are sold with premium or discount
are depreciated during their useful life until their maturity date. With the issue and
sale of bonds with premium and subsequent depreciation of premium, expenses
from interests of the bond issuer, decrease. Unlike this, with the sale of bonds with
discount, and with subsequent depreciation of discount, expenses from interests
of bond issuer, increase. Depreciation of bonds issued with the premium or dis-
count is performed with the application of linear method or method of effective
interests.
336
Example: Linear method of premium depreciation
1) The company “A” issued on 1 January 2010, 1 000 bonds whose nominal value
was KM 100 per bond to the period of five years with the annual interest of
9 %. The company “A” sold them at the price of KM 104,10 per bond. Interests
are calculated on semi-annual basis on the dates 30 June and 31 December, and
principal is repaid at the end of the fifth year.
Nominal value of bond 1 000 × 100 = 100 000
Acquisition cost (of fair value) 1 000 × 104,10 = 104 100
Premium 4 100
Depreciation plan created by the bonds issuer is following:
Depreciation of bond issue with premium – linear method
Non-
Semi-annual Monetary Nominal Carrying
Interest Depreciated depreciated
payment expense for value of amount of
expense premium residual of
period interest bonds issued bonds
premium
(1) (2) (3) (4) (5) (6)
01. 01. 200. – – – 100 000 4 100 104 100
30. 06. 2001 4 090* 4 500(0) 410(1) 100 000 3 690(2) 103 690(3)
31. 12. 2001 4 090 4 500 410 100 000 3 280 103 280
30. 06. 2002 4 090 4 500 410 100 000 2 870 102 870
31. 12. 2002 4 090 4 500 410 100 000 2 460 102 460
... etc. ... … … … …
*
4 090 = 4 500 – 410
(0)
4 500 = 100 000 × 9 % : 2
(1)
410 = 4 100 : 10
(2)
3 690 = 4 100 – 410
(3)
103 690 = 100 000 + 3 690
337
Explanation:
(1) For bond issue with premium (01. 01. 2010).
(2) For interest calculation and linear depreciation of premium on 30 June (of the
first year).
(3) Interest payment on 30 June (of the first year).
(4) For calculation of interests and linear depreciation premium on 31 December (of
first year).
(5) Interest payment on 31 December (of first year).
With linear depreciation premium, interest expenses are decreased for each pe-
riod by the same amount (in example KM 410), etc.
Example: Depreciation of bonds premium – effective interests method

1) Company “A” on 01. 01. 2010 issued 1 000 bonds whose nominal value is KM
100 per bond for the period of five years with annual interest of 9%. Company
“A” sold bonds at the price of KM 104,10 per bond. Interests are calculated on
semi-annual basis on 30 June and 31 December, and principal is repaid at the
end of the year.
Nominal bond value 1 000 × 100 = 100 000
Acquisition cost (fair value) 1 000 × 104,10 = 104 100
Premium 4 100
Depreciation plan created by bond issuer:
Depreciation of bond issue with premium – effective interests method
Non-
Semi-annual Monetary Nominal Carrying
Interest Depreciated depreciated
payment expense value of amount
expense premium residual of
period forinterest bonds of bond
premium
(1) (2) (3) (4) (5) (6)
01. 01. 2001 – – – 100 000 4 100 104 100
30. 06. 2001 4 164* 4 500(0) 336(1) 100 000 3 764(2) 103 764(3)
31. 12. 2001 4 150 4 500 350 100 000 3 414 103 414
30. 06. 2002 4 136 4 500 364 100 000 3 050 103 050
31. 12. 2002 4 122 4 500 378 100 000 2 672 102 672
... etc. ... … … … …
*
4 164 = 104 100 × 8 % : 2
(0)
4 500 = 100 000 × 9 % : 2
(1)
336 = 4 500 – 4 164
(2)
3 764 = 4 100 – 336
(3)
103 764 = 100 000 + 3 764
338
Explanation:
(1) For bond issue with premium on 01. 01. 2010
(2) For interest calculation – effective interest method on 30 June (first year).
(3) Interest payment on 30 June (in first year).
(4) For interest calculation – effective interests method on 31 December (in first year).
(5) Interest payment on 31 December (in first year), etc.
Depreciation of discount would be performed in the same manner. The diffe-

rence is in the fact that with depreciation of discount, expenses of bond issuer shall
be increased. With the linear method, the expenses from interests will be increased
in the same amounts, while with the application of effective interests rate method,
expenses from interests of issuer will increase.
Specific categories of long-term liabilities include long-term accruals and pro-
visions for the period of 12 months. Group of accounts – Long-term accruals may
occur both in expenses and in revenues. So, for example, accrued, but unpaid ex-
penses incurred in the accounting period, we record in the Account – Accrued un-
paid expenses, and which will finally be accrued, invoiced and paid subsequently
in the period longer than 12 months.
Characteristic example of prepaid and deferred income which are deferred for
the period longer than 12 months is a grant of non-current assets. In the following
accounting periods, appropriate amounts from the account – Prepaid and deferred
income are transferred to the appropriate success account of income, depending on
what kind of income it concerns.
Long – term provisions occur in business operations of a legal entity in case
when business events occur, which effect liabilities incurrence, which need to be
recognized as current liability and they should be disclosed. In accounting stan-
dards and literature, especially in the American, those future events which cause
recognition of current liabilities are presented as provisions. So, for example, a
339
construction company constructed a bridge, and ended up in the court as, appa-
rently, in constructing the bridge it used the material of poor quality. Past transacti-
on is a bridge construction. Future (potential) event is the outcome of court dispute
which is still unknown.105 Therefore, because of probability of occurrence of these
events in the period longer than one year, they are most often treated as long-term
provisions and are presented within long-term liabilities. Provisions are liabilities
which are recognized if the following conditions are fulfilled106:
 a legal entity has present obligation (legal or constructive) which has arisen
a result of past events;
 it is probable that outflow of resources which contains economic benefits
will be required for settlement of liabilities;
 the amount of liability can be estimated reliably.
If the mentioned conditions are not fulfilled, provisions should not be recognized.
A typical example of provisions is when a legal entity, producer of cars, agrees
on repairs, and spare parts within warranty period. With the delivery of car, risk
of car’s fault occurs, and producer makes provisions, that is, estimates the amo-
unt and time of incurred liability. Similar provisions are related to the investment
maintenance, court disputes, severance pay, provisions for costs of restoration and
improvement of natural wealth.
For example, it is considered that costs of servicing sold products within the
warranty period were incurred as a consequence of the event of sale of those pro-
ducts, so they should be payable in the period when these products were sold, and
not when the fault occurred. Costs of repair of final products in warranty period
occur after sale of final products. Since these costs relate to the products, whose
sale generated revenue in the given financial year, then, in accordance with the
matching principle, with the aim of calculating real financial result, they should
be included in the production price. Given that the actual amount of these costs
at the moment of their inclusion in production price is not known, their amount is
determined with the assessment based on experience. At the end of the period, for
the amount of estimated costs, account of costs of Provisions for risks in warranty
period is payable and account – Accrued provisions for risks in warranty period is
receivable. At the moment when the repair of final products takes place, for the
amount of incurred cost, account – Provisions is payable, and account – Suppliers
or Gyro account or account of Assets is receivable.
Apart from costs which incurred in current and will be presented in following
years, account of long-term provisions also includes losses which are conditioned
with business decisions made in the given accounting period, and which will incur
105
106
Item 14 IAS 37. Provisions, Contingent Liabilities and Contingent assets.
340
in the following years. If, as a result of work concluded in this year, with high de-
gree of certainty, due to changed circumstances in the future, we could expected
loss, this loss should burden the financial year in which the work was concluded,
and not the year in which the loss will be realized. In order for the loss to be calcu-
lated in given financial, which is in line with prudence principle, long-term provi-
sions are used.
In compliance with the aims, creation, book entry of provisions is performed by
debiting corresponding accounts of costs or expenses, and by crediting the accounts
of provisions.
Example:
1. Legal entity produces and sells final products with the warranty period of 18
months. Repair costs within warranty period in the following year according to
the assessment, amount to KM 24 000.
2. At the name of costs of repair within warranty period, invoices in the amount of
KM 18 000 were received from authorized service shop.
Explanation:
(1) Book entry for creation of provisions per warranty.
(2) Book entry of invoice reception.
Balance of account – Long term accrued provisions for risks in warranty pe-
riod presents residual amount of provisions. This balance will, if provisions are
not renewed, be transferred to the group of accounts – Other revenue (if cre-
ated provisions are higher than used amount) or group of accounts – Other ex-
penses (if created provisions are lower than the amount which was on its basis
paid out).
341
19.2. CURRENT (SHORT-TERM) LIABILITIES
Current (short-term) liabilities are such liabilities whose settlement, counting
from balance date, is expected within a period shorter than one year.
The most frequent and most important current (short-term) liabilities are fo-
llowing: liabilities for received short-term loans (trade, financial), liabilities towar-
ds suppliers, liabilities for issued short-term securities, current maturity of long-
term liabilities, liabilities for dividends, liabilities for interests, liabilities for taxes,
liabilities for salaries to employees, short-term accruals (accruals and deferred
income).
Liabilities towards suppliers are most often for delivered assets (material, equ-
ipment, goods, etc.) and executive services (transport, maintenance, etc.) and lia-
bilities towards suppliers are most often settled with payment from gyro account.
Liabilities for issued cheques and bills of exchange are also part of short-term li-
abilities. They incur with issuance of cheque and bill of exchange, and they are
settled when a creditor (supplier or financial institution) collects these short-term
instruments from gyro account of an issuer.
Short-term accruals
Accounts of short-term accruals must be used for accruals of costs, that is, ex-
penses and revenues between two annual income statements, but they can also be
used for accruals (adjustment) of costs, that is, expenses and revenues within a
single annual income statement.
Example of book entry of accrued costs, for which invoice has not been recei-
ved, and their subsequent corrections:
1) Advertising services were requested from another legal entity, which were
performed during December 2010. Until the date of accrual, invoice has
not been received for advertising services, so the amount was estimated to
KM 4 000.
Business events in January 2011:
a) In the following year, invoice from suppliers was received in the amount of
KM 4 500 KM, plus 17 % of VAT in the amount of KM 765, total KM 5 265.
b) In the following year, invoice was received in the amount of KM 3 600, plus
17 % of VAT in the amount of KM 612, total amount KM 4 212.
Book entry in the acc ounts of general ledger:
342
Explanation:
(1) Book entry of advertising costs in current year for which invoice has not been
received.
(2) Book entry of subsequently received invoice in the following year – closure of
account of short-term accruals, the difference of less accrued costs in the previ-
ous year upon reception of invoice is entered into books by debiting expenses in
the account Other expenses.
Explanation:
(1) Book entry of advertising costs in current year for which invoice was not received.
(2) Book entry of subsequently received invoice in the following year.
(3) For closure of account – short-term accruals – difference of more accrued costs
in the previous year at the reception of invoice is entered in books by crediting
revenues in the account – Other revenues.
343
In the group accounts of accruals and deferred income, with appropriate ledger,
that is, sub-ledger classification, we record prepaid income, that is, income of the
future period (for example, prepaid interests, rent and similar) which is necessary to
adjust for the accounting period which it relates to, with the aim of real presentation
of balance.
Example:
Legal entity collected the rent for business premises for 12 months on 1 July
2010 in the amount of KM 14 000, plus 17 % of VAT in the amount of KM 2 380.
The amount of KM 7 000 becomes income in current period (from 1 July 2010 until
31 December 2010).
Explanation:
(1) Book entry of prepaid income.
(2) Accruals (adjustment) of income for accounting period.
When an invoice is issued for the services that will be rendered through the
several accounting periods, tax liability for accrual and payment of VAT incurred
just at the end of the period in which invoice was issued, that is, once service is
collected.
344
QUESTIONS FOR VERIFICATION
AND UNDERSTANDING OF KNOWLEDGE:
1. Define liabilities, recognition and valuation of liabilities.

2. What are the criteria for classification of liabilities?
3. Explain advantages and disadvantages of issue of debt securities /bonds
4. What are the methods of premium depreciation and discount of bonds?
5. Explain long-term provisions, recognition, valuation and their accoun-
ting coverage.
6. Explain the significance of ADI – accrued, but unpaid costs and prepaid
income – short-term accruals.
345
CHAPTER SEVEN
COST ACCOUNTING
Study objectives
1. Concept and classification of costs

2. Accounting monitoring of costs per natural types
3. Accounting monitoring of production process
4. Cost calculation methods
5. Accounting monitoring of final products
6. Cost calculation systems at actual costs
7. Concept of standard costs and cost calculation system at standard
costs
20. COST ACCOUNTING
20.1.CONCEPT OF COSTS
In order to understand the concept of costs, we will start with one general defi-
nition. Cost is a measure in monetary amount, the sum of resources used for some
purpose. This definition includes three ideas. First and most important to notice is
that the cost measures the use of resources. Elements of production costs of materi-
al products or non-material services are natural units of quantity of material, labor
hours and quantity of other resources. The cost measures how many such resources
have been used.
The second idea is to express the measure of cost in monetary units. Money is
a joint denominator, which allows for the quantities of some resources, of which
each is measured in accordance with its own scale, are combined in such manner in
order to determine the total sum of these resources. Five kilos of material and one
hour of work cannot be summed up in order to obtain the sum with meaning. But,
if the sum is converted into monetary expression, eg. KM 2 for kilo of material or
KM 17 for one hour of work, their summing up will create a total cost of KM 27.
Thirdly, cost measurement is always related to some aim. There is a linkage
between cost and aim which is expressed in various ways, so, for example, mana-
gers should know how much is the acquisition cost, of equipment, material, produc-
tion cost for produced quantity of products, costs of sold products, cost of project
creation or any other activity, etc.
Thus, “accounting defines a cost as a source sacrificed or given for reaching
a special aim”.107 The most general defined costs represent value expression of
resources expenditure, that is, production factors with the aim of producing and
selling the output of the company and profit generation on those bases.108 The
word expense is often related with the word of cost. For correct understanding of
relationship cost-expense, classification of costs to non-due and due costs is im-
portant. Under non-due costs, we imply costs from which future economic benefits
are expected. Those are the costs which are included in asset acquisition costs, for
example, equipment cost, cost of material or cost of products, that is, assets that are
being produced.
Therefore, costs included in assets become expenses in the period when the
asset is sold, destroyed, donated and similar. Those assets costs have become due
107
Horngern Foster G; Datar S., Cost Acounting s Managerial Emphasis, tenth edition, Prentice
Hall Upper Sadle River, Nj 07458, 2001., pg. 36.
108
J. Kapic, Doctorial..., pg. 79.
349
costs, that is, expenses, as they are compensated from revenue. Costs incurred du-
ring the period, which are not included in acquisition costs of assets or costs of
products, are due costs, that is, expenses. Those costs, for example, general costs of
sale, management and administration, in the period of incurrence, represent costs of
period, i.e. expenses as, they are compensated in total amount from the revenue of
the same period. Expenses also include amounts of fees which have a characteristic
of cost, eg. penalties, damage compensation, supplementary failures, write-off of
non-performing receivables, value adjustment, that is, impairment of assets, nega-
tive foreign exchange differences and similar.
20.1.1. Classification of costs
In general, costs may be observed from several aspects, which conditions dif-
ferent information about costs for different needs. Company managers, as decision
makers are very often in a position to require data on total costs for some volume
and structure of activities of a company or its part. In that respect, the most signi-
ficant classification of costs is in accordance with reacting to the activity changes,
that is, degree of employment and use of capacity, which has a special meaning for
planning and making decisions. According to the reaction to the change of activity
degree, there are variable and fixed costs.
Variable (proportional) costs are costs of such type, whose total amount is
proportional to the quantity of outcomes (quantity of production, that is, quantity
of produced products or provided services), that is, volume of activities. Thus, they
are not conditioned by available capacity, but by the use of capacity, that is, by the
degree of employment of available capacity. At each volume of activity, that is, de-
gree of capacity use, average (variable) costs, i.e. proportional (variable) costs per
unit of output, that is, unit of produced products, are the same, unchanged.
Fixed costs are types of costs for whose total amount it is expected to remain
unchanged in short period of time. It concerns costs whose total amount is mainly
conditioned by the available capacity. That is why they are often referred to as ca-
pacity costs. As a result of no change in their total amount and variability of degree
of their employment, that is, capacity use, average fixed costs per outcome unit,
that is, unit of produced products, are variable. At the increase of activity volume
(higher quantity of production) they decrease, which is called digression of average
fixed costs. On the other side, at the decrease of activity volume (lower quantity
of production), they increase. With the mentioned characteristics of variable and
fixed costs, we should emphasize that the equal amount of variable costs per unit
of product and equal total amount of fixed costs are linked to certain degree of
activity, that is, capacity.
350
What is the degree, that is, volume of production activity (degree of capacity
use) which managers take? Managers take normal capacity. After the change of
employment degree, that is, change in volume of production activity, there is a
change in total fixed costs, and variable costs per unit of product vary in the same
way and with the same intensity as volume of activities.
Above all, we should bear in mind that activity volume is determined on one
side with the possibility for products placement, and on the other side, capacity
possibilities (non-current assets).109 If possibilities for placement are above pro-
duction possibilities, capacity in the assumed case represents marginal point above
which it is not possible to go. Therefore, in that case, for increase of production,
additional investments in capacity are needed, which is the consequence of increase
of fixed costs. Thus, management assesses total expected fixed costs and variable
costs per unit of activity measure, for normal degree of capacity use.110
In financial statements of companies which perform production activity, costs
incurred during the accounting period are classified into production costs and time
costs, i.e. costs of period. Classification of costs to production costs and period co-
sts is determined with the functional classification of costs, i.e. future expenses in
accordance with IAS 1 – Presentation of Financial Statements, in accordance with
the selected and applicable method of calculation of operations performance and
applied cost calculation system in accordance with IAS 2 - Inventories.
Production costs are such costs which are calculated on the inventories of pro-
duction unit, i.e. products. Production costs (conversion costs) incur in production
consumption. Those are costs of direct material, direct labor and general production
costs. These costs, through the costs of sold products, are included in performance
measurement of operations, i.e. they become expenses in income statement and
they are compensated from selling value of products, that is, revenues.
Residual amount of costs incurred in the accounting period is not calculated at
the unit of production, that is, product, and is treated as time costs, i.e. expenses of
the period and is compensated from gross profit (gross margin) in the period when
costs incurred. These general costs include general costs of sale, management and
administration.
Direct costs (direct material, direct labor) of costs bearers are elements of cost
which are specially referred to the bearer or they are caused by this cost bearer.
Thus, at the moment of occurrence it can be determined which bearer of costs it
refers to.
Indirect costs are elements of costs which are linked with bearers or they are
caused by two or more bearers of cost together, but they do not relate directly to any
109
J. Kapic, Doctorial..., quoted, pp. 108-109.
110
For more details see: J. Kapic, Doctorial..., quoted, pp. 231-245.
351
of them individually. Nature of indirect cost is such that it is not possible, or at least
it is not feasible, to measure directly how many of these costs relate to individual
bearer of costs. In general, examples of indirect costs are general production costs
and general costs of management, sale and administration.
In accounting theory and practice, criteria of cost classification as per natural
types is also applied, which is in accordance with IAS 1. Costs are correctly classi-
fied at natural types, and each type of costs is recorded separately in the separate
bookkeeping account. Classification of costs in accordance with criteria of natural
type of costs is required for management of each company. Needs of management
are significantly more extensive, that is, management requires data on significantly
more thorough structure of costs according to this criteria, classification from stati-
stics requests, tax authorities and other external users of financial statements. Whi-
le, in general, all external users of information are interested only in data on costs
incurred during business period, for the production company as a whole, manage-
ment of each production company needs more data on costs, both, in line with this
criteria of classification, and at the lower organizational levels, most often referred
to as places of production costs and selling activities. In production companies,
material costs (costs of material) will have a high share in total costs, while in trade
and service companies, salaries costs and costs of services will have relatively hi-
gher share in total costs. Although a type of activity impacts relative share (impor-
tance) of some types of costs in total costs, the presentation procedure itself, that is,
recording in bookkeeping in the accounts of costs per natural types of costs, is not
different due to different activity.
20.2. ACCOUNTING MONITORING OF COSTS

PER NATURAL TYPES
So, in production companies, we will classify costs per natural types as follows:
 costs of material and other inventories,
 electricity costs,
 depreciation costs,
 costs of salaries and salary compensation,
 costs of production and non-production services,
 costs of production financing (costs of financial transactions related to
production),
 costs reserved for risks and liabilities.111
111
M. Jahic, Financial...,quote, pp. 351-352.
352
20.2.1. Costs of material, energy, spare parts and small inventory
In accounting, the expression material costs, is used for the type of costs which
include acquisition costs of consumed material, energy costs, spare parts costs,
write-off of small inventory, package and car tires. Material costs also include costs
of outage, ullage, defect and breakage in accordance with prescribed internal docu-
ment of production company.
Therefore, for the needs of supervision, and with the aim of presenting costs of
material, the following sub-ledger accounts in production companies are opened:
 basic material,
 support material,
 lubricants,
 material for maintenance and cleaning,
 office supplies,
 other operating supplies,
 outage, ullage, defect and breakage,
 material for safety at work,
 calculated price discrepancies (for consumed material).
Before issue of material into production process, with the aim of consumption,
materials are initially valued and recorded as assets, that is, inventories. With the
issue of material into process of production consumption, in accounting, on the ba-
sis of delivery note, decrease of inventories and increase of operating costs are re-
corded in the account Costs of material, that is, in the account Consumed material.
On the basis of delivery note, account Consumed material is further sub-classified
into certain number of sub-ledger accounts according to the type and purpose of
material. In sub-ledger bookkeeping of material, on daily basis, there is an update
of book entry on the basis of delivery note, and decrease of inventories in the acco-
unt of some types of material is recorded. In general ledger, increase of material
costs and decrease of inventories of material is entered into books, usually as an
aggregate amount.
Example: Book entry of costs of material in general ledger with sub-ledger classifi-
cation of the account Consumed material.
1) Based on delivery note, the following materials were issued from warehouse
into production process:
* basic material 10 000
* support material 1 500
Total 11 500
353
Example: Outage, ullage, defect and breakage
1) Balance of inventories of material is KM 200 000. On the receivable side of
the account, inventories of material, the following transactions are entered into
books:
 material issued in the amount of KM 150 000.
 material sold in the amount of KM 22 000.
By doing inventory (stock taking) on 31 December 2010 inventory balance was
determined in the amount of KM 15 000. Permitted ullage in accordance with the
internal book of rules is 2 %, and VAT is 17 %.
Outage, ullage, defect and breakage are calculated on the amount of material
consumed in production process and represent material costs on which permitted
outage, ullage, defect and breakage are calculated in accordance with legislative
regulation (150 000 × 2 % / 200 = KM 3 000). Outage, ullage, defect and breakage
are not calculated for the amount of sold material as it is contrary to the principle
that material is acquired for production consumption. Amount of calculated excess
(above prescribed) outage, ullage, defect and breakage in accounting terms is trea-
ted as VAT payment. With the assumption that there was actual disposal of mate-
rial, (responsibility of warehouseman), receivable is created towards the employee
with the obligation of VAT payment.
354
Energy costs
Energy costs include costs for consumption of electricity, gas, steam, engine
fuel, diesel fuel, and material for production of energy.
Example:
1. Invoice was received from electric power plant for consumption of electricity
for the accounting period (month)
price of electricity 2 000
value added tax 17 % 340
Total: 2 340
2. Invoice was received from Sarajevo Gas for gas consumption in the accounting
period (month):
price of gas 1 000
Total: 1 170
3. Invoice was received from Energopetrol for fuel for transport mean (truck):
price of fuel 500

Total: 585
Book entry:
355
Consumption of energy is presented only up to the amount of liability for energy
without inclusion of value added tax. The amount of value added tax is presented as
increase of assets, i.e. as receivable for input tax, as a manufacturing company, as
VAT taxpayer, is entitled to refund of this tax. In the amount of paid liabilities from
gyro account, item (4), with the fee for delivered energy, gas and fuel, the amount
of value added tax was paid, which suppliers included in their calculation on the in-
voices. Suppliers / deliverers will have to settle calculated liabilities for value added
tax within a legal deadline, by making a payment to gyro account of the budget, re-
gardless of whether they have or haven’t collected their receivable from customers,
in which VAT was included. Accounts of short-term accruals can be used also in
consumption of electricity (payable, in case of accrued and unpaid costs, and recei-
vable, in case of prepaid costs for the accounting period of, for example three mon-
ths). In the accounts of accruals and deferred income, accrued costs for the current
accounting period (one month) should be presented, for which we have not received
invoice. In the accounts of prepaid prepayment and deferred income, for prepaid co-
sts, adjustment of costs should be performed for the current period (one month) with
respecting accounting principle on even averaging of costs during the business year.
Example:
On 31 December 2010, we estimated costs of consumed electricity for Decem-
ber in the amount of KM 3 000, but we have not received the invoice.
On 3 January 2011, we received invoice from Electric Power Plant for consump-
tion of electricity for December 2010.
price of electricity 3 500
Total: 4 095
Book entry:
356
Explanation:
(1) Book entry of accrued and unpaid costs of electricity on 31 January 2010.
(2) In the following year (3 January 2011) upon reception of invoice, book entry
was performed in such manner with account payable – Other expenses, for ne-
gative difference and calculated electricity costs, account payable – Accrued
but unpaid electricity costs, and for value added tax, receivable was created
(account payable – receivable for input tax), with corresponding book entry in
the account – Local suppliers, for the amount of invoice for consumed electricity
in December 2010, plus VAT (total KM 4 095).
Spare parts costs
Manufacturing company purchases spare parts and presents acquisition cost in

the account – Inventories of spare parts. Consumption of spare parts is recorded on
the payable side of the account – Consumed spare parts. If we use spare parts for
reconstruction of our own assets, the value of consumed spare parts is not recorded
in the account – Consumed spare parts. In that case, we record them in the account
– Investments in progress, that is, their value increases the base of tangible non-
current asset by calculated depreciation.
In accordance with IAS 16 – Property, Plants and Equipment, major spare parts
are correctly classified into fixed assets and they are depreciated in accordance with
estimated useful life.
Small inventory costs
In accordance with accounting principles on correct classification of assets to

non-current and current, objects that are not consumed at once and whose useful
life is up to twelve months, regardless of individual acquisition cost, is presented as
small inventory. According to the positive legislation in the Federation of BiH, and
possibility of write-off at one sitting, small inventory may include objects whose
useful life is longer than twelve months, if individual cost is KM 250. As a result of
lower individual acquisition cost and manner of consumption for packaging (crates,
bottles, etc.), either method of write-off at once or method of 50% write-off may
be applied. Manufacturing legal entities deliver the so-called separable recyclable
packaging to their customers, so the customers should return them to the supplier,
and in this case, the packaging is recorded in off-balance records. If the value of car
tires is over KM 250, they are correctly classified into non-current assets in accor-
dance with IAS 16; if the value of car tires is up to KM 250, they are written off in
accordance with the write-off methods, which we explained in the part related to
small inventory.
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20.2.2. Costs of employees
For accounting aspect it is important that costs of employees are classified in
the following manner:
 salaries for work, as compensation for work;
 salary compensation, in certain cases and circumstances (during annual
leave, sick leave, education and professional training, public holidays, etc.);
 other costs of employees (warm meal allowance, transport to work, allow-
ance for annual leave, etc.).
Gross salary of employees, for their regular and overtime work and all allowan-
ces on salaries for special and difficult working conditions, for example, allowance
for night work, for work on Sundays and on public holiday, allowance for shift
work, are all presented in the account of salaries as compensation for work.
In the account – Compensation of salaries, costs are presented in gross amount.
Those are situations in which an employee, for justified reasons, is absent from
work in accordance with regulation at work, for example, salary compensation for
annual leave, during education and professional training, for public holidays, non-
working days as prescribed by the law, salary compensation for sick leave at the
expense of an employer, stoppage at work without fault of an employee, and other.
Obligations of employer for payment of salaries for work and salary compensation
to the employee are determined by:
 Labor Law,
 Collective contract which is binding for employers ,
 Book of Rules at Work, which employers are obliged to adopt,
 Work contract which was signed by the employee and employer.
On the basis of the aforementioned documents, for each period (one month) for
each employee, and for all employees, gross amount of liabilities is determined for
salaries for completed work with all allowances and gross amount of liabilities for
salary compensation in the same period. Following calculation of salaries in gross
amount, structure of financial liability is presented, that is, earmarked structure
of gross salary and gross salary compensation. Therefore, in accordance with the
effective regulation, salary cost for work and compensation for work are presen-
ted in gross amount with all the attached liabilities for income tax, as well as for
contributions for social insurance of employees(contributions for pension-invalid
insurance, health insurance and unemployment insurance). Normally, taxes and
contributions are always calculated and paid out by employer, regardless of whet-
her those liabilities are calculated from gross salaries, that is, at the expense of
salaries or on gross salaries. Payment of liabilities for net salaries to employees and
contributions from and on salaries, should normally be simultaneous.
358
However, in case of seizure of gyro account, the enforced collection of contri-
butions could be applied. Legislation which regulates obligation for contribution
payment, determines that the employer, as a payee of salaries, is obliged to calcu-
late and pay contributions, equally for contributions arising from salaries and on
salaries. Taxpayer of net income tax is an employee, but employer, as a payee at
paying out salaries, is obliged to seize the attached part of calculated income tax
and to pay it into the budget account.
If an employer, as a result of lack of liquidity, does not pay out the salaries for
work and salary compensations in the current period (one month), it is obliged to
record those costs and liabilities for each accounting period. With book entry of
costs of salaries for work and salary compensations, as well as liabilities for salaries
for work and salary compensations in general ledger, it is also necessary to record
salaries for work and salary compensations in sub-ledger records in accordance
with specific needs of the company. The content and form of these records are
normally adjusted to the legislative regulation (tax regulations, provisions which
regulate the rights of employees in the pension-invalid system, health insurance
and other).
Records on salaries for work and salary compensations, paid out to employees
are permanently kept. Period for which the salary is paid, should not be longer than
one month.
Manufacturing companies should classify costs of gross salary in the following
manner:
 part which they calculate per products, i.e. the amount which is included in
product costs i.e. which is transferred into the accounts of production and is
calculated in accordance with place of costs (activities) and per bearers of
costs;
 part which is not calculated per products, but is treated as time cost and is
directly transferred to expenses of the period.
Example:
1) Salaries of manufacturing workers were calculated in net amount of KM 31 000,
income tax amounts to KM 1 550 and total contributions on salaries amount to
KM 19 830.
Salaries of employees, attached to production, were calculated in net amo-
unt of KM 5 440, income tax KM 272 and total contributions KM 3 480.
Salaries of employees in management and administration were calculated in
net amount of KM 20 000, income tax amounts to KM 1 000 and total contribu-
tions amount to KM 12 795.
2) Salaries were paid out via gyro account into current accounts of employees.
359
Book entry:
Explanation:
(1) Calculation of salaries.
(2) For payment of salaries and liabilities for taxes and contributions.
The account Other costs of employees is sub-classified in sub-ledger records

into a certain number of accounts and these accounts record employer’s costs for
transport to work and from work, allowance for annual leave, and similar.
Example:
Monthly tickets for transport of employees to work and from work were purcha-
sed from city transport company for the following month, invoice was received in
the amount of KM 5 000, plus 17 % of value added tax in the amount of KM 850,
total KM 5 850. Invoice was paid from gyro account.
360
Book entry:
Explanation:
(1) For received invoice from city transport company.
(2) Settlement of invoice.
Use of receivables in terms of input tax per this invoice is not possible, as it con-
cerns costs, which, in terms of VAT are regarded as an expense that should burden
employees, but, in this case, the expense was incurred by the employer.
Such costs should be classified into production and administrative costs, that is,
into the part which is included in the value of production. This is ensured through
sub-ledger accounts.
20.2.3. Costs of services
Costs of services are incurred as an increase of liabilities for the used servi-
ces, which one legal entity provides to another legal entity in regard with business
operations. Usually, every legal entity, for its needs, opens a sufficient number of
accounts for presentation of costs in accordance with types of services, taking into
account the significance of costs of certain type of services. The most frequent do-
cuments for book entry of service costs are invoices of suppliers.
The group of services of manufacturing company includes:
 services on processing and finishing off the output,
 transport services,
 maintenance services,
 advertising costs,
 exhibit costs,
 costs of lease of premises, equipment and similar,
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 insurance costs,
 bank services and payment operations fees,
 representation costs,
 per diems for official trips and trip-associated expenses,
 fees to employees and population,
 taxes, contributions, membership fees, stamp duties and other payments re-
gardless of financial result,
 postal and telecommunication services,
 other financing costs.
Costs associated with processing and finishing off the output
If services were used for processing of products, and, for example, such services
have been provided through the contract, we will then debit the account – Costs
associated with processing and finishing off the output and we will credit the acco-
unt – Local suppliers.
If processing of output is performed in own manufacturing departments, and in-
ventories were used, we will then record such costs in the accounts – Consumption
of material, Spare parts costs, Small inventory costs, depending on what type of
inventories it concerns, and costs of labor, as services at own cost, are presented as
liabilities for salaries, salary compensations, etc.
Total costs, presented on this basis, are transferred into the accounts of produc-
tion in progress, at the end of the period.
Transport services
Under transport services, we imply services of all types of transport (by railway,
by road, sea, air, pipe-transport).
Due to a different nature of services, transport costs which are included in the
cost of acquisition of assets, transport costs associated with business trips, transport
costs of employees to and from work and postal costs, are usually excluded from
transport services.
Example:
1. For transport costs of sold products to customer, invoice was received from legal
entity “X”.
fee KM 1 000
value added tax 17 % KM 170
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Book entry:
Explanation:
(1) Book entry of received invoice.
(2) Payment of invoice.
Maintenance costs
Maintenance costs include costs of current and investment maintenance, that is,
costs of construction premises repair, repair of plants and equipment in the amount
of liability to suppliers for provided services. Current maintenance costs are nor-
mally entirely recorded under the costs of current period.
Services of current maintenance may relate to those works which maintain cu-
rrent production function of plants and equipment, and with construction premises,
operating repairs, painting, etc. Works, that is, services which have the characte-
ristic of investment maintenance, we can regard with the equipment, replacement
of major parts (repairs) which, in general terms, maintain functional capability and
previously estimated useful life.
Investment maintenance costs in construction buildings, include: renewal of
facade, replacement of floors, replacement of construction joiner’s trade, replace-
ment of installations and similar. In manufacturing companies, which most often
have significant investment maintenance costs, and which do not incur evenly over
the year, accounts of accruals are used for including these costs into production
costs, for book entries during the business year. Account of prepayments and accru-
ed income is used when actual cost, in a significant amount, was incurred at the
beginning of the year, and its inclusion in production costs is accrued to the whole
year. In case that actual works, which are planned for the business year, are per-
formed later or in the second half of the year, in that case inclusion of investment
maintenance costs into production costs from the first month is based on planned
amount of costs for business year. Here, for book entry of investment maintenance
costs, the account of accruals and deferred income is applied.
363
Example for investment maintenance costs:
1) Legal entity “X” conducted general repair of machine for processing certain mate-
rial in January 2010. Replacement of parts (knives) provides the work for the period
of 2 years. Invoice was received in the amount of KM 20 000, plus 17 % of VAT in
the amount of KM 3 400, total KM 23 400.
Invoice was paid from gyro account. Accounting policy determined accrual of
incurred costs for the period of 2 years (2 × KM 10 000).
Book entry:
Explanation:
(1) Book entry of invoice plus VAT.
(2) Payment of invoice.
(3) For costs of current period.
Investment maintenance costs are recorded in the account PAI – Long-term

accrued costs of investment maintenance (payable), and in the account receiva-
ble - Local suppliers. With item (3), accrual of investment maintenance costs for
the current period (book entry in 2010) is recorded, and it will be repeated in the
following year, and thereby, investment maintenance costs are averaged evenly
during the current period.
364
In presenting maintenance costs of property, plants and equipment, it is nece-
ssary to take into account whether expense is burdening costs or carrying amount
of assets should be increased by that amount, that is, whether they represent inves-
tment (reconstruction). Criteria on correct accrual between investment maintenan-
ce costs and supplementary costs / investments, is determined in items 12, 13 and
14 of IAS 16, which we elaborated thoroughly in the part related to non-current
tangible assets.
Exhibit costs
Costs of participating at exhibits include: costs of lease of exhibit space, prepa-

ring the space for author’s performance to designers, installation, cleaning, etc.
Example:
Invoice was received from company “Y” from abroad for exhibit space in the
amount of 10 000 € (KM 19 558,30).
Book entry:
This service for a domestic legal entity is non-taxable, as it concerns the lease
of business premises abroad, and that is the service related to property, and such
service is taxed in accordance with the location where the property is (and that is
abroad). Exhibit costs which are only related to participation at exhibits, eg. tran-
sport, representation, per diems, adverts, etc. are not included in exhibit costs.
Rental fees
The fee that is paid for use of someone else’s assets / business premises, is pre-
sented as rental fee (lease fee). The concept rent sis used for real estate, and term
lease or movable assets.
In the account – Rental costs in current business year, costs are presented, but
not the costs for the future period. However, in practice, it often happens that rent is
paid in advance for a certain period which does not have to coincide with business
year. Therefore, in that case, a legal entity shall present prepaid rent as an asset in
365
the account Prepaid rental costs, with corresponding presentation in the account
of Local suppliers. In current year, rental costs should be included in the costs, by
doing a transfer from account Prepaid costs to the account of costs of current year.
In the following year, rental costs of current period will be debited for the atta-
ched part of prepaid rental costs.
The accounting issue of leases is defined in IAS 17 – Lease. There are financial
and operational leases.
Financial lease is a transaction, that is, a contract in which all risks and bene-
fits associated with the ownership over the asset, are mostly transferred to lessees.
Financial lease is actually purchase of long-term tangible assets on credit (loan),
and payment is entered in books as repayment of annuity debt. Costs of used asset,
acquired through financial lease occur as appearance form of depreciation and
interests.
Operational lease is a contract between lessee and lessor which transfers the
right to use of some asset for certain period of time with lease fee which does not
have a characteristic of financial lease, as risk and benefit associated with owners-
hip are not transferred to lessee.
In case of financial lease, lessee should present leased asset in balance sheet
(equipment, etc.) and as long-term liability at fair value of leased asset. If there
is a reliable assessment that the asset after agreed period will be in the owner-
ship of lessee, then the asset will be depreciated, in accordance with estimated
useful life and in accordance with accounting policy, with similar asset, which
a legal entity has in its ownership. Otherwise, period of depreciation is period
of lease.
Advertising costs
This account records costs of services of advertising in press, radio, television,

leaflets, catalogues and other advertising activities.
Example:
1. Invoice was received from advertising agency for advertisement in public me-
dia, in the amount of KM 100 000, plus 17 % of VAT in the amount of KM 1 700,
total amount KM 11 700.
2. 1 000 pieces of pens were acquired with the logo of the company for advertising
reasons with information on address and telephone. Invoice was received in
the amount of KM 2 000, plus 17 % of VAT in the amount of KM 340, in total
KM 2 340.
3. Pens were issued to be distributed for commercial purposes. VAT was calcula-
ted in the amount of 17 %, in the amount of KM 340.
366
Book entry:
Explanation:
(1) Book entry of advertising services – invoice plus VAT.
(2) Book entry of service of producing commercial material (pens) – invoice plus
VAT. (3) Calculation of VAT at the expense of advertising costs when issuing
pens for commercial purposes.
Insurance costs
The value of accrued or paid insurance premiums of property and persons and
other insurance costs with the purpose of continuous business operations, in acco-
unting terms, represents insurance cost. Thus, a legal entity concludes insurance
contracts of non-current and current assets with the insurance company, and on
the basis of received invoice, records insurance costs. Usually, insurance costs
are paid periodically, so it is necessary to split the costs in time terms for their
even distribution, i.e. transfer of insurance costs to the production costs of current
period.
Depending on, in which period insurance premiums are paid and depending on
total period of accruals, we will use accounts of (long-term and short term) accru-
als, which we have already elaborated.
Bank services
In the account of Costs of bank services, fees for paid bank services are entered
in books, also costs of payment operations with abroad, fees for conversion acti-
vities and other costs which the bank collected for performing services for a legal
entity (except for costs of interests and foreign exchange differences). Apart from
these costs, on regular basis, there are costs related to payment operations.
367
Example:
1. Along with the statement from gyro account, the bank “A” submitted an invoice
for performing services of payment operations in the amount of KM 100.
2. The fee was paid to the bank “B” for making international payment, in the
amount of KM 50.
Book entry:
Explanation:
(1) For invoice.
(2) For the service of making a payment abroad.
Representation costs
They occur as a consequence of wish for creating better business relations with
business partner. The form of representation costs may be, for example, purchase of
various products that are given in a form of gift and use of own products, goods and
services for the representation purposes and all types of used services for the needs
of representation in the country and abroad. The Law on VAT implies obligation
of VAT calculation for use of own products and goods for representation purposes
(giving gifts whose individual price does not exceed KM 20 with the aim of impro-
ving business operations is exempted from VAT payment according to Article 5,
paragraph 2, item 2 of the Law on VAT).
Accrual of representation costs and advertising costs and propaganda, we can
find in the Law on Profit Tax. Representation costs are entered in books with acco-
unt payable – Representation costs and account receivable – Local suppliers.
Per diems for business trips and trip expenses
Per diem expenses and other expenses which employees had on their official
(business) trip in the country and abroad are recorded in the account - Per diems
for business trips and travel expenses. Travel expenses include: transport costs on
business trip, accommodation costs on business trip, per diems, road tolls , bridge
tolls, taxi for tunnel passages, fee for use of personal car during business trip.
368
Example:
Advance payment was made to the employee on the basis of decision on busi-
ness trip (trip order) in the amount of KM 500. Upon return from business trip, the
employee submitted calculation of trip order according to which per diems were
calculated in the amount of KM 180, transport costs KM 150 and accommodation
costs KM 200. The difference of KM 30 after processing trip order was paid to the
employee from petty cash.
Book entry:
Explanation:
(1) Book entry of advance payment to the employee.
(2) Book entry of total costs of business trip and payment of difference from petty cash.
If advance payment was not made before trip order, in that case final calculation
of travel expenses is entered in books with account payable – Per diems for busine-
ss trips and travel expenses, and account receivable – Petty cash.
Fees to the employees and population (costs)
The account – Fees to the employees and population, records costs, which em-
ployer has in association with employees (except for costs for warm meal, transport
to work, allowance for annual leave, per diems and other costs during business
trip), and which arise from work contract, collective agreements, decisions of em-
ployers or internal documents of legal entity.
Those are mainly fees which include:
 field allowance,
 separate life allowance,
 child’s allowance,
 author’s fee royalties,
369
 service contract fees,
 fees as per contracts on occasional and temporary activities,
 fees to the members of the governing board, supervisory board, audit com-
mittee, commissions, etc.
 severance pay,
 appropriate and anniversary rewards to employees,
 fees for innovations, technical advancements, and
 other payments to employees and population.
Book entry of these costs is performed with account payable - Fees (costs),
and account receivable – Liabilities towards employees (or account – Liabilities
towards other persons).
Contributions, membership fees and other fees (costs)
The account – Contributions, membership fees and other fees, records costs
which a legal entity pays during the year at the expense of contributions (except for
contributions on salaries and other similar fees on the basis of statutory orders (as
well as mandatory contributions and membership fees) or on the basis of contracts
on membership in associations, chamber of commerce, clubs, which are recorded
directly in the books (in line with the statement) at the expense of this account, or
on the basis of previous calculations, they may be recorded in the books with acco-
unt receivable – Suppliers for services and use of membership services.
Taxes not dependant on financial result and fees (costs)
This account records tax on the company, that is, name, property tax, adverti-
sing, propaganda, representation, real estate turnover, fees (administrative, court,
utilities), special fees (fees to water plants, fees for use of land and other utilities),
and also other liabilities which a company pays during its business operations, and
which do not depend on business result.
Postal and telecommunication services
Given the different forms of transport and communication, the most frequent
costs related to the postage and telecommunication services used by the company
are telephone services (with internet services) and services of postal shipments. The
accounts – Costs of postal services and costs of telecommunication services, make
records on the basis of issued invoices of postal and telecommunication service
and they are usually paid out from the account – Petty cash, and may be entered in
books as liability towards suppliers or as accruals and deferred income.
370
Other financing costs
The account – Other financing costs records all other costs and fees which a
legal entity had on the basis of acquisition of financial assets for the needs of bu-
siness operations, and which may be included in the value of product through the
account – Other financing costs. For example, those may be various premiums,
commissions, discounts, compensations and fees related with the need of acquiring
financial assets.
Book entry of incurrence of mentioned costs is conducted on the basis of invo-
ice with account payable – Other financing costs, and account receivable – Local
suppliers.
Included provisions for risks, costs and liabilities
General principles on provisions contained in IAS 37 – Provisions, Contingent

Liabilities and Contingent Assets are elaborated in the part related to liabilities.
20.2.4. Allocation of costs
So far, it has been explained that the basic criterion of correct classification of
costs of business operations is the criterion of natural type of costs. However, a
task is set before the accounting of the company to present total incurred number of
costs during the accounting period (one month) at the level of the entire company
and at the sub-ledger level at the places of costs and other units and bearers in line
with the needs of the company. Thus, allocation of costs should be conducted, and
it should define as to what we include in so called production costs, that is, costs of
products, and which costs should be directly included in determining the financial
result (time costs, that is, expenses of period), i.e. which should be matched against
current revenues.
With the accounting policies, management defines and makes a decision as to
which costs are calculated, that is, which costs make production costs and the-
reby, at the same time, it is determined which costs make “non-production” co-
sts in accordance with principles contained in IAS 2 – Inventories and IAS 23
– Borrowing Costs.
In accordance with item 10, IAS 2 – Inventories, inventory cost encompasses
acquisition costs, costs of production (conversion) and other costs incurred in pro-
cess of bringing inventories to their present location and to present condition. This
definition usually determines the structure of costs of inventories which are acqu-
ired, such as material and trade goods, but also inventories which are being produ-
ced, such as semi-final products and final products. From such broad coverage of
371
the definition of costs of inventories, arises that costs of inventories of non-finali-
zed production, parts of own production and final products make acquisition costs
(acquisition price) of consumed direct material and costs of production (conversi-
on). As the word itself refers, costs of production (conversion) include costs incurred
in process of production consumption, that is, costs incurred in conversion process
of material into final products. According to item 12, IAS 2– Inventories, production
costs include costs of direct material, direct labor and general costs of production.
Figure 26 Cost structure with two and three elements
Accounting system, especially its part related to cost accounting, changes over
the period in accordance with certain trends in monitoring and classification of
costs. So, nowadays, classic classification of costs into three parts, as a result of
decreasing participation of direct labor costs and increasing share of general pro-
duction costs, leaves more and more space for classification of costs into two parts.
Direct labor costs are declining or almost vanishing with automatism of production.
More and more, instead of classic direct or production workers in the plant, we
have controllers. Their work is of indirect character as it cannot be directly distri-
buted to some parts.112
Thus, in determining product costs in manufacturing companies, general pro-
duction costs are indirect costs, which, in the companies which produce two or
more products, are allocated to products, in calculations.
In accordance with item 12, IAS 2 – Inventories, in including general production
costs into product costs, classification of these costs is required into:
112
Kapic J., Doctorial..., quoted, pg. 155.
372
 general fixed production costs and
 general variable production costs.
According to item 12, IAS 2 – Inventories, general fixed production costs are:
depreciation, maintenance costs of production premises and equipment, as well as
cost of management and administration of plants. According to the same item, IAS 2
– Inventories, as general variable costs indicate indirect material and indirect labor.
In accordance with item 13, IAS 2 – Inventories, costs of product should include
only a part of fixed production costs for used normal capacity. Part of general fixed
production costs for unused capacity is treated as expenses and is compensated
from current revenues. Therefore, in accordance with requirements of IAS 2 – In-
ventories, out of total general production costs, costs of inventories of non-finalized
production, semi-products, parts of own production and inventories of final pro-
ducts, include total amount of general variable production costs and part of general
production costs for used normal capacity.
From principle IAS 2 – Inventories, arises that calculation of costs which are
included in costs of inventories of production and inventories of final products, has
the following elements:
1. Direct material costs XX
2. Direct labor costs (wages) XX
3. General variable production costs XX
4. General fixed costs for used normal capacity XX
5. Total product costs
(production costs) XX
According to the aforementioned, at the end of the accounting period, costs of

current year, i.e. costs per type should be allocated to provisional accounts - Allo-
cation of costs for calculation of output and Allocation of costs in calculation of
business result:
 Costs for calculation of production which according to IAS 2 – Inventories,
may be treated as inventories of production in progress and in calculation
terms may be allocated to final products, are allocated to the account – Al-
location of costs in calculation of business result.
 General costs for covering managerial, sale and administrative costs, which
are treated as time costs (costs of period) are allocated to the account – Alloca-
tion of costs in calculation of business result, and they are directly included in
calculation of business result and they are compensated from current revenues.
Transfer and further flow of costs which are calculated as per products and costs
of period in manufacturing companies, we present with the following chart:
373
374
Figure 27 Flow of operating costs of manufacturing companies
The presented flow of operating costs of manufacturing companies is in accor-
dance with selected and applicable absorption costs calculation system. Total cost
calculation system starts from the so-called production concept of manufacturing
companies in terms of costs calculation and believes that operating costs incurred
as a result of production processes within business operations of the company and,
in accordance with this, it calculates all incurred costs on the final product as defi-
nitive cost bearer. This means that all total costs, which are included in calculation
of financial result are created through the costs of sold products, so, therefore, in
determining financial result, they are compared with the realized value of sale (re-
venue from sale) of current accounting period.
Variable cost calculation system was initially named “direct costing”, the name
given after by its founder Jonathana N. Harris. This term stayed for long period
of time in American professional literature as an exclusive name for marking cost
calculation system, according to which, for inventories of production, and thereby
for inventories of final products, only direct costs are calculated (direct material
and direct labor – salaries), plus general variable production costs and general va-
riable managerial and sale costs, while all other general costs with fixed nature are
directly included in calculation of financial result in the current period in which
they incurred,113 which we will consider in more details in the part Cost calculation
systems.

OF PRODUCTION PROCESS
Manufacturing companies in their accounting must ensure data on production
costs for each type of products and other production outputs, as it was mentioned
(in the last sub-title). In that respect, products and other production outputs are
regarded as costs bearers. Therefore, because of determining costs per bearers of
costs, but also for determining responsibility for outputs (products, activities and si-
milar) and for costs, in the accounting of all manufacturing companies, monitoring
of costs in accordance with their place of occurrence is also organized.
In each manufacturing company, depending on type and organization of pro-
duction, number of places of costs are determined by space, functional and respon-
sibility area for which the costs are planned, recorded and about which reports are
made to the management.
In the reports of the accounting production, incurred costs are linked with types
and quantities of products and other outputs (certain activities, etc.) and they are
113
Kapic J., Doctorial..., quoted, pp. 187-199.
375
compared with planned, that is, standard costs. Incurred costs are allocated to bea-
rers of costs, products and outputs in order to make an assessment of profitability
of products, of group of products with the aim of making business decisions on
selection of assortment of production, selling prices and other.
Information on costs in manufacturing companies have the following aims114:
 valuation, that is, presentation in balance sheet of inventories of production
in progress and final products (management must be informed as to which
costs are included in costs of inventories, that is, in costs of products);
 determining business result, that is, costs which are compensated from cur-
rent revenue of accounting period (management must be informed as to
which costs are presented as an expense through the costs of sold products
and costs which are covered from gross margin, that is, gross profit in deter-
mining business result);
 financial planning (management uses information on costs in making plans
and setting the financial objectives);
 control of business operations (management requires information on actual
costs for assessment of execution compared with the planned, that is, stan-
dard costs),
 decision-making process (management uses information on costs in making
certain business decisions).
The structure of place of costs in manufacturing companies, that is, costs which
are calculated per products and which are not calculated per products, depends on
the applicability of cost calculation system.
Thus, recording of costs per natural types and determination of totally incurred
costs which relate to the accounting period in the accounts of costs per natural
types, is the first phase in production cost calculation. Therefore, production cost
calculation process, includes the following phases:
 classification of costs and recording per natural types in the accounts of costs
per natural types,
 allocation and recording of costs in accordance with place of occurrence of
costs,
 calculation of internal outputs and allocation of secondary costs to the places
of costs,
 allocation of costs to bearers of costs,
114
Horngern T. Charles; Sundem L. Gary; Strraton O. William, Introduction to Management
Accounting, eleventh edition, Prentice Hall, Upper Sadle River, New Yersey 07458, 2001.,
pp. 569-579.
376
 calculation of costs for finalized production during the period, that is, for
production in progress at the end of period (transfer of costs for finalized
products from account of production in progress to the account inventories
of final products).
Description and sequence of phases, in production cost calculation, express dif-

ferent aspects of consideration of the same amount of production costs. In technical
terms, with use of computers in accounting, first and second phase are usually
melted together. Incurred amounts of costs are recorded directly at the place of
costs, according to natural types of costs, which are determined in sub-ledger cla-
ssification of accounts of costs for manufacturing company. Total incurred costs at
the level of manufacturing company, in a certain period, for all accounts of natural
types of costs are determined as a sum presented at all places of costs. At the level
of manufacturing company, all accounts of types of costs have a characteristic of
ledger accounts, for which sub-ledger accounts are all the accounts of the same type
of costs of all places of costs.
In the third phase of cost calculation, costs from ancillary places of costs are
usually allocated to the places of costs of basic activity and to other places of costs.
Part of costs of ancillary places of costs, for example, costs of workshop for equi-
pment maintenance, which is allocated to the place of production, will be included
in costs of products, usually, as a part of general costs of production. Structure of
costs of ancillary places of costs per natural types of costs is presented in sub-ledger
records in the accounts of costs of each ancillary place of costs.
In the fourth phase of cost calculation, costs of place of costs of basic activity –
production are allocated to the bearers of costs, i.e. to the production of certain pro-
ducts during the period. The costs which, from these places of costs are transferred
to the bearers of costs, along with general production costs, may also include direct
material costs and costs of salaries of direct labor.
If direct material costs and direct salary costs are not recorded at the places of
costs, but they are straight away recorded on the bearers of costs (production pro-
cess of certain products), in that case, only general production costs are transferred
from the place of production costs to the bearers of costs (in assumed case of selec-
ted and applicable absorption cost calculation system).
In the fifth, last phase of production cost calculation, at the end of period, as
already mentioned, total production costs which, together with costs incurred in
period, also include costs of production in progress at the beginning of the year, are
allocated to production in progress and finalized production at the end of accoun-
ting period.
377
20.3.1. Cost calculation methods and systems
The difference between systems and methods of cost calculation and their in-
ter-connection, which make an integral part in accounting terms, we can show as
follows:
There is a direct link between systems and methods:

a) without defined cost calculation system, there is no cost calculation method,
b) without certain method of cost calculation, the system would be useless.
Thus, cost calculation methods are the way of channeling costs towards bearer.
Therefore, finding the costs of production, that is, costs of products, i.e. unit cost of
product in optimum manner, which implies the quickest, the easiest manner, which
requires the minimum investment of funds and labor, is performed in accordance
with usual cost calculation methods.115
115
Kaic J., Doctorial..., quoted, pg. 156.
378
20.3.1.1. Cost calculation methods
In calculating costs of products, there are two basic methods of calculation.

Those are:
1) cost calculation method in production per order or calculation method in accor-
dance with working order, and
2) calculation method in processing production or processing calculation.
The differences in these calculation methods arise from specificities, that is,
differences in manner and organization of production and characteristics of pro-
ducts or services. The task and aim of both cost calculation methods are actually
the same. Cost calculation method in accordance with working order, that is, in
production in line with order, is applied for cost calculation in production of ships,
planes, all types of construction buildings, furniture, clothes, plants, equipment and
similar. In service activity, it is applied on all types of repairs and maintenance
of services of installation, graphic services, projecting, health services, legal and
accounting services, including the audit, etc. In this cost calculation method, cost
bearer is individual object, or service, or ordered quantity of products for known
customer (it may be non-ordered quantity, for example in production of furniture or
building of apartments for market and similar), or, with service activity, agreed ser-
vice for certain customer, as services cannot be produced for inventories. Thus, in
this cost calculation method, bearer of costs is certain working order, that is, work.
Processing method of production calculation is applied in so called processing
production, such as, for example, production of alcohol free products, paper, texti-
le, sugar, tires, glass, paints, fuel, gas, production of plastic products, buttons, pro-
duction of so called assembling products, such as TV’s, all electrical appliances,
cars, computers, etc.
In this calculation method, cost bearer is production process of some product, or
similar products, or part of process in certain period. Further in text, after described
comparison of features of cost calculation in production per order and processing
production, we provide a chart with costs flow in these two methods116:
116
Horngern, C. T.; Foster, D.; Datar, S., Cost Accounting,quoted, pp. 121-159.
379
380
20.3.1.2. Transfer of production costs and use of calculation
Transfer of product costs, with the aim of production calculation, as mentioned,

is recorded in books as follows:
Explanation:
(1) Book entry of transfer of products costs for calculation of production.
(2) Book entry of costs of finalized production to warehouse. For calculation of
price of products, calculation is used.
20.3.1.3. Calculation methods
The word calculation originates from Latin word “calculus” which means a
little stone which was used as an object for calculations. Calculation is a calculating
procedure for calculating prices. Document on calculated prices is called calcula-
tion. Calculation is probably the highest information output from cost calculation
and outputs regardless of the fact which calculation system it is based on. On the
other side, change of calculation task, under influence of practice requirements,
influences the cost calculation system and their development.
Calculation of price of products is used in manufacturing and service compani-
es. Its aim is to determine the price of products or services. A more usual name in
practice for the price of products or services is “cost price of products or services”.
According to the manner of calculating the price of products and technological pro-
duction process, there are various calculation methods for prices of products. Two
basic methods of calculation are:
a) divisional calculations
b) additional calculations.117
Characteristic of divisional methods is that unit price of products is calculated

by dividing costs of finalized production (total or partial) by produced outputs, that
is, bearers of costs.
117
Kapić, J., Valuation..., quoted, pp. 116-128.
381
Meaning of symbols:
p = unit price of product,
t = costs of finalized production which are included in the product price
(total or partial),
u = quantity of outputs.
Within divisional calculations, depending on technological process of produc-
tion, we may use:
 pure / simple / ordinary divisional calculation,
 multi-phase divisional calculation,
 calculation based on equivalent numbers (of relations),
 calculation of linked (byproducts) products.
They are most often used in the calculation method in processing production or
processing calculation.
Pure, simple or ordinary divisional calculation is used in cases when one product
is produced, most often in large series. In its basics, it is simple, so the unit price is
calculated by dividing total costs of finalized production with the quantity of output.
Accounting coverage of this calculation is simple and shown in transfer of costs of
products with book entry under item (2), with credit entry in the account of produc-
tion in progress and debit entry in the account of inventories of final products.
Multiphase divisional calculation is used in production of a single product, but,
because of technological process, control of costs or other factors, it is produced
in several phases. For each phase, the price of semi-product is determined. In final
phase, actual price of final product is calculated by dividing costs of final produc-
tion with produced outputs
Below, we show accounting coverage of this calculation:
382
Explanation of book entry:
(1) transfer of product costs with the aim of production calculation (process1.).
(2) transfer of finalized semi-products from process 1 to process 2. Balance
in the account – production in progress – process 1 represents the value of
non-finalized production.
(3) transfer of values of finalized semi-products for finalization into process
3. Balance in the account – production in progress - process 2 represents the
value of non finalized production.
(4) transfer of value of finalized products from process 3 to the warehouse.
It is recorded in books on the basis of calculation.
Calculation based on equivalent numbers (relations) is used in cases of creating
related products. In essence, it concerns products of the same quality, which mu-
tually differ in natural indicators (numbers, sizes and similar). For example, iron
made or copper-made sheet metal of various profiles, the same type of sportswear
various sizes and other. In application of this calculation, it is relevant to determine
the relationship of costs amongst related products. This relationship may be deter-
mined by using one of the following methods:
 natural indicators,
 standard costs, or
 selling prices of related products.
In all cases, for base (weight) one related product is selected. Usually, this pro-
duct is produced in major quantities. Other related products are measured by it,
either in natural indicators, (kilos, liters and similar), or in the amounts of standard
direct costs or selling prices. So, for example, let’s assume that product “x” weighs
100 kilos, product “y” 120 kilos, and product “z” 80 kilos. With the application of
natural indicators method, cost relations are calculated as follows:
“x” = “x” / ”x” = 100 / 100 = 1.00
“y” = “y” / ”x” = 120 / 100 = 1.20
“z” = “z” / ”x” = 80 / 100 = 0.80
In the application of direct cost standards or selling prices, procedure of calcu-
lating costs relations is the same, but, instead of natural elements, selected values
are included in the calculation.
Below, we show the procedure of calculating prices of related products. Calcu-
lation based on equivalent numbers:
Types of Values of Value of
produced Relation Equivalent Price per unit
related equivalent finalized
quantity of costs unit of product
products units production
1 2 3 4 = (2 × 3) 5=6/4 6 = (4 × 5) 7=6/2
“x” 15 000 1,00 15 000 7.0 105 000 7.0
“y” 12 000 1,20 14 400 7.0 100 800 8.4
“z” 13 000 0,80 10 400 7.0 72 800 5.6
TOTAL 39 800 7.0 278 600
383
Explanation:
Characteristics of this calculation are significant. The first characteristic is that

the value of equivalent unit (7.0) is equal to unit price of basic related product (pro-
duct “x” = KM 7.0). Unit prices of other related products compared with product “x”
(basic) are in the same proportion as their relations of costs. For example, the price
of product “x” is KM 7.0 × 1.20 (ratio of costs of product “y” against “x”), so the
unit price of product “y” is their product of multiplication, i.e. KM 8.4. That is why
it is important to determine real cost ratios of related products and to respect them.

(1) Transfer of production costs into their calculation.
(2) Transfer of fantailed production costs and storage of final products on the
basis of calculation. If balance in the account of production in progress
occurs, it represents non-finalized production, i.e. the difference between
total production costs and total costs of finalized production.
384
Calculation of related (purchasing) products is used in cases when, together
with the basic product, due to technological procedure of production, by-product or
by-products are produced. For example, production of sugar as main or basic product
and molasses as by-product, or metal wastage in metal industry. In this calculation,
it is necessary to assess the value of by-products, as costs of finalized production are
the same for basic product and by-product. In this, there is relevant limitation that
assessment of unit price of by-products may be performed most up to the level of net
selling (market) price. For example, up to the level of net selling (market) price of
molasses or for example metal wastage. Production quantity of by-products (which
is known) is multiplied by assessed unit price and we get the assessed value of by-
products. From total costs of finalized production, assessed value of by-products
is deducted and the difference represents the costs of finalized production of basic
product. After previous calculation, costs of finalized production of basic product
are divided by produced quantity, and we get the unit price of basic product.
Additional calculation method is applied in circumstances of the so-called in-
dividual production. The type of individual production is present in the companies
of service activities, in companies producing series of products, parts, components,
products made by order, in companies whose production is based on contracts on
construction of premises, etc. It concerns production in line with working orders.
Working order is an instrument initiating all the activities related to individual out-
puts and it is a tool for recording production costs incurred as a result of the wor-
king order, or which are allocated to concrete output. The basic characteristic of
additional calculation is comprised of direct linkage of direct costs with working
orders and indirect adding of differently segmented general production costs to the
working orders through adequate addition rates, that is, general production costs
are allocated (distributed) to the bearers on the basis of direct costs, that is, on the
basis of some other key for allocation of general production costs. Thus, the method
itself of adding direct costs (GPC) to the direct costs, may be different.
Therefore, additional calculation methods are classified into summary and se-
lective. Characteristic of summary method is that for allocation of indirect costs of
production (plant) on outputs (or adding general costs of plant production to direct
costs) one key is used, for example, direct material, (material processing costs),
direct labor (salary costs and salary compensations), total direct costs. In selective
method, for allocation of indirect costs, that is, general production costs, several
different keys are used.
Example for additional summary calculation:

Manufacturing company produces different products “a” and “b” in the plant.
Costs of direct material (Costs of material processing – direct cost) amount to
KM 40 000 of which, according to the accounting report, KM 10 000 is allocated to
product „a“ and KM 30 000 is allocated to product „b“.
385
Direct labor costs (Salary costs and salary compensation – direct cost) amount to
KM 60 000 in total, of which, for product “a” KM 20 000, and for product “b” KM
40 000. General production costs (of plant) / GPC amount to KM 20 000 and they are
allocated to the products “a” and “b” (costs bearers on the basis of total direct costs).
Non-finalized production is assessed to KM 10 000, of which for product “a” KM 6
000, and for product “b” KM 4 000. Per 1 000 pieces of products “a” and “b” were
produced. It is necessary to calculate unit prices of products “a” and “b”.
Additional calculation:
Product Product
No Elements of structural price Total
“a” “b”
1 Direct material 10 000 30 000 40 000
2 Direct labor 20 000 40 000 60 000
3 Total costs 30 000 70 000 100 000
4 GPC 20 % 6 000 14 000 20 000
5 Product costs 36 000 84 000 120 000
6 Non-finalized production (6 000) (4 000) (10 000)
7 Costs of finalized production 30 000 80 000 110 000
8 Produced quantity 1 000 piec. 1 000 piec.
Costs per unit 30 80
Explanation:
Amount of direct costs (direct material and direct labor) per bearers is known
from accounting records coverage of costs per working orders. Namely, direct co-
sts at the moment of incurrence or their documentation are encompassed by costs
bearers, i.e. per products or working orders. Indirect costs, that is, general produc-
tion costs (of plant) GPC at the moment of their incurrence or their documentation
are encompassed per places of incurrence (in our example in the plant) and in our
example they amount to KM 20 000. The essence of this calculation is in the fact as
to how to allocate KM 20 000 of GPC on product “a” and “b”. In summary calcu-
lation, a unique key (base) is applied. In our example, allocation key are total direct
costs. Percentage of GPC allocation on products may be calculated in several ways.
Allocation of GPC with the application of mutual calculation:
Non-finalized production is assessed on the basis of incomplete working orders.

The transaction of coverage of direct costs according to working orders, coverage
of GPC in accordance with their place of occurrence, and calculation of GPC allo-
cation in accordance with products, are most often recorded in cost accounting.
386
Explanation:
(1) Transfer of total production costs for calculation of production. (2) Transfer of
finalized products to warehouse.
In the account production in progress, balance of KM 10 000 relates to non-fi-

nalized production for product “a” in the amount of KM 6 000 and product “b” in
the amount of KM 4 000. These individual data and coverage of direct costs in line
with working orders (product “a” and “b”), coverage of GPC in accordance with the
plant and transfer of calculation, are included in cost accounting.
20.3.1.4. Accounting monitoring of final products
Final products are the result of production, and they are intended for sale. The-
refore, they undergo the following phases:
 storage and
 sale.
Final products are recorded at the production price (of products). Balance and
flow of inventories of final products in the warehouse is recorded, in the same
manner as material, at three places and three different ways, and those are: in the
warehouse only in quantity, in sub-ledger bookkeeping of final products, both qu-
antity and value, and in the ledger account of inventories of final products, they are
recorded in general ledger only in value terms.
387
Recording of sale of final products to customers, we present as follows:
(1) Recording of sale of final products to customers at selling price. If VAT

is calculated, account – Local customers is debited for the selling price,
increased by VAT, account – revenue from sale is debited for selling price
without VAT, and calculated VAT is recorded in the account receivable –
Liabilities for VAT.
(2) Dispensing of warehouse for sold final products and valuation of sold pro-
ducts costs (expenses) from the basis of sale of final products is implemented
with the application of already known methods FIFO and average weighted
price of final products, in case when different prices of products occur.
Example:
1) Balance of inventories of final products is 10 pieces of final products at produc-
tion of KM 1 000 per one piece, that is, total value of KM 10 000 KM.
In current year, 6 pieces of final products were sold and delivered to the
customer, at the selling price of KM 1 500 per piece.
Invoice was issued in the amount of KM 9 000 plus KM 1 530 of VAT.
2) Final products were dispensed from warehouse at production price (6 pieces ×
KM 1 000 / piece. = KM 6 000).
3) Production in progress was finalized in the value of KM 23 600. Twenty pieces
of final products were produced (20 pieces × KM 1 180 / piece. = KM 23 600).
4) In current year, 16 pieces of final products were sold and delivered to the custo-
mer at the selling price of KM 1 500 / piece.
Invoice was issued in the amount (KM 1 500 / piece × KM 16) KM 24 000,
plus KM 4 080 of VAT.
5) Warehouse of final products was dispensed for sold products.
388
We have applied the method of average weighted price of final products for
valuation of costs of sold final products, as follows:
Residual 4 pieces × KM 1 000 / piece = KM 4 000
Residual 20 pieces × KM 1 180/ piece = KM 23 600
Total value of final products = KM 27 600
Average weighted price:
Dispensing warehouse for sold final products:
16 pieces × KM 1 150 / piece = KM 18 400.
Dispensing of warehouse, we may calculate with the percentage of sold quantity

of final products, as follows:
Dispense in inventories by 66 % of sold final products:

27 600 × 0,66 = KM 18 400.
389
Explanation:
(1) For issued invoice.
(2) For dispensing the of warehouse for sold final products.
(3) For transfer of production in progress to the inventories of final products.
(4) For issued invoice.
(5) For dispensing the warehouse for sold final products.
Production price for dispensing the warehouse may also be calculated on the ba-
sis of data from sub-ledger records of final products. However, if number of pieces
is known, i.e. quantity of final products in warehouse, average weighted price may
be calculated on the basis of balance of the value of final products in the account of
inventories of final products before dispensing, as follows:
If a legal entity, within adopted accounting policies, decides to go for FIFO

method (first in – first out), calculation would then be as follows:
6 pieces × 1 000 KM / piece = 6 000 KM

Total dispense = 24 160 KM
Therefore, with the application of FIFO method, inventories of final products

would be dispensed for KM 24 160 instead of KM 18 400, for which inventories
of final products are dispensed in accordance with the method of weighted average
price.
Valuation of costs of sold products and final inventories in line with the method
of weighted average price is popular amongst accountants as tax regulations reco-
gnize it.
390
Usually, legal entity sells current final products with agreed conditions of ad-
vance payment.
Example:
Customer, legal entity “B” on the basis of contract and our issued invoice, made
an advance payment to us in the amount of KM 25 000, plus KM 4 250 of VAT for
purchase of final products. After advance payment was made, we delivered final
products and issued an invoice at the selling price in the amount of KM 25 000,
plus KM 4 250 of VAT. Production price of final products amounts to KM 18 000.
Explanation:
(1) For received advance payment.
(2) For sold final products.
(3) For dispense of warehouse at production prices.
(4) For closing advance payment.
391
20.3.2. Costs calculation systems
Fast and efficient business decision making process is conditioned by promptne-

ss of adequate and qualitative information. Accounting possibilities in that respect
are huge, but it is necessary to set the accounting in organizational terms that at the
right moment and right place, it provides relevant data and thereby enables genera-
tion of qualitative information. In a row of data, which may and should be provided
by the accounting, data and information of cost accounting are emphasized. Cost
calculation system represents a creative part of cost calculation and financial result,
it is directly reflected, that is, it creates all consisting parts of cost accounting (bo-
okkeeping, planning, analysis, control and disclosure), and cost calculation method
represents the application side of calculation system, that the company decides to
go for.
Cost calculation systems are based on defining the structure and size of opera-
ting costs which, on one side, will be calculated for inventories in terms of their
valuation and which will be included in calculation of operating financial result
through the costs of sold outputs, that is, final products and, on the other side, de-
termining operating costs which have a time character and as such they will be en-
tirely included in calculation of operating financial result in the accounting period,
which they incurred in, regardless of sold final products.
Theory and practice recognize different systems of planning and calculation of
costs. Each of them represents an adequate phase in development of planning and
calculation of costs. They were changing in accordance with the requirements of
economic life, as requirements from accounting theory and practice were such, to
find the system of planning and calculating the costs, that will have a maximum
focus on the present and future, and as less focus as possible on the past.
Systems of planning and calculation of costs, in general terms, were developing
under the influence of increasing requirements in terms of information from aspect
of real balancing, calculation, costs policy (prices), control and analysis of business
operations and managing the business policy of the company.
In resolving these requirements in planning and calculating the costs, certain
methodological solutions were made, characteristic for certain planning and cal-
culation systems. Amongst several cost calculation systems, known in theory and
practice, two main aspects are emphasized, and those are the following:
a) total costs calculation system,
b) absorption cost calculation system and
c) variable cost calculation system.
From aspect of the way of determining costs:

a) actual cost calculation systems,
392
b) calculation systems with the use of planned, that is, standard costs, in which
valuation of inventories is performed in standard costs.
Presented classifications should be understood as complementary, which means

that each cost calculation system from first classification group may be implemen-
ted with the use of only actual costs.
If standard costs are included in the accounting system in capacity of inventory
valuation, and not only in capacity if cost control, we can then talk about calculation
system with the use of standard costs which will, also depend on basic system menti-
oned in the first classification. This means that calculation system according to stan-
dard costs may be applied within the system of total costs calculation, absorption sy-
stem of cost calculation and system of variable costs calculation in all their options.118
20.3.2.1. Calculation system in accordance with actual costs
Calculation system in accordance with actual costs represents a group of prin-

ciples, methods and procedures of actual costs calculation and outputs in line with
actual costs, with the aim of satisfying certain information needs of managers, with
the aim of making decisions and initiating processes, as mutually related activiti-
es which add the value to input on the way to transforming into output, in order
to achieve a certain business purpose. Therefore, total costs calculation system
(with the use of actual costs) in production output costs (of some basic and support
activities and the entire process) include all types, that is, groups of homogenous
costs of production activities and actual amounts of all types, that is, homogenous
groups of costs of the management activities (general costs of management, sale
and administration).
Calculation system of total costs starts from so called production concept of
manufacturing companies in terms of costs calculation and believes that operating
costs incurred as a result of production processes within business operations of a
company and, in accordance with that, it calculates all operating costs on the final
product as final costs bearer. This means that operating costs which are included in
calculation of operating financial results are created through the costs of sold final
products, so, therefore, in determining operating financial result, they are compared
with the realized sale value of given accounting period.
This means that valuation of non-finalized and finalized production, that is, of
final products, would be performed in accordance with total costs, that is, their part
which relates to those inventories. We will show a generalized form of total cost
calculation system in the following example:
118
Kapic, J., Valorization..., quoted, pp. 184-208.
393
Example 1:
A company produces a product “a”. In the accounting period, the following
costs are realized:
Direct material KM 70 000

Direct labor KM 55 000
– Total direct costs 125 000 KM
– Total general production costs 50 000 KM
– Total general costs of management, sale and admin. 25 000 KM
Total costs 200 000 KM
During the accounting period, 10 000 pieces of product “a” were produced. Ac-
tivity measurement on which calculation of general costs is based, are total direct
costs. At the beginning of the period, there was no non-finalized production. At the
end of the accounting period, 5 000 pieces of product “a” remained non-finalized.
Non-finalized production is in the status of 50% of non-finalization (assessment
made on the basis of direct costs). During the accounting period, 7 500 pieces of the
product were sold at the selling price of KM 25 / piece. General costs are calculated
on the basis of the activity measure ment– direct costs:
– Direct costs for the unit of final products (10 000 pcs. + 50 % of 5 000 pcs.)
– Cost calculation of finalized production:

Direct costs 10 000 × 10 100 000 KM
Plus 40 % general production costs 40 000 KM
Plus 20 % general costs of manag., sale and admin. 20 000 KM
Total costs: 160 000 KM
– Cost calculation of non-finalised production:

Direct costs (50 % of 5 000) × 10 25 000 KM
Plus 20 % general costs 5 000 KM
Total costs of non-finalized production: 40 000 KM
394
– Average unit cost of product:
– Costs of sold products

(7 500 piece × 16 KM / piece) = 120 000 KM
Income from sale
(7 500 pcs. × 25 KM/ piece.) = 187 500 KM
Profit before tax = 67 500 KM
The chart presentation, presenting the structure of actual production costs as
well as the flow of calculation and recording of business events:
We present the character of financial result with the following formula:
Meaning of symbols:
Fr = financial result
C = selling price per unit of product
Cp = average unit cost of product
qr = quantity of sold products
Fc = fixed costs
cv = variable costs per unit
395
Therefore, we can show cost recording of production and final products, as well
as their realization when the inventories are valued in the system of calculation of
total costs with the use of actual costs, as follows:
According to the absorption cost calculation system, non-finalized production

and final products are valued at operating production costs. Total operating costs,
beforehand, must be classified into two groups, and those are: the first group is
comprised of costs which will be included in the valuation of non-finalized pro-
duction, and thereby, inventories of final products, and those are direct costs (direct
material and direct labor) and general production costs (general costs of processing
or general plant costs), i.e. indirect costs.
The second group is comprised of general costs of management, sale and admi-
nistration (general non-production costs), which are not allocated to the product,
they do not follow the product during the production process, which means that
396
they are not included in the inventory valuation procedure, i.e. they do not occur in
production costs. These costs are treated as time costs and they are directly inclu-
ded in the calculation of financial result.
Therefore, valuation of non-finalized production and final products is perfor-
med in accordance with operating production costs (direct material, direct labor,
and general production costs), and general operating costs of management, sale
and administration are treated as time costs and they are included in calculation of
financial result in the accounting period they incurred in.
Presentation of valuation of non-finalized production and inventories of pro-
ducts in absorption cost calculation system:
Example 1:
– Direct unit cost of finalized production:
125 000
= 10 KM / piece
12 500
– % general production costs:
50 000
× 100 = 40 %.
125 000
Direct costs 10 000 × 10 100 000 KM
Total costs of finalized production: 140 000 KM
– Cost-calculation of non-finalized production:

Direct costs (50 % of 5 000) × 10 25 000 KM
– Unit cost of product:
140 000
= 14 KM / piece
10 000

(7 500 pieces × 14 KM / piece 105 000 KM
Income from sale
(7 500 pieces × 25 KM / piece) 187 500 KM
Gross profit (gross margin) 82 500 KM
– Minus time costs / general
costs of manag., sale and admin. (25 000) KM
Profit before tax 57 500 KM
397
Presentation of the structure of production costs, calculation flow and recording
of business events.
We can show the character of financial result with the following formula:
P = selling price of product
cp = average unit cost of product
GCSA = general costs of management, sale and administration
GPC = general production costs
cv = variable costs
398
We present the process in the accounts as follows:
Therefore, the essence of absorption system of cost calculation with the use
of actual costs is in the fact that non-finalized production and inventories of final
products are valued and presented in accordance with operating production costs
(balance sheet) which, through the costs of sold products will be included in calcu-
lation and determination of financial result (income statements). General costs of
management, sale and administration are treated as time costs and they are included
directly in calculation of financial result in the accounting period in which they
incurred (income statement).
399
Variable costs calculation system was initially called “direct costing ”, the
name initiated by the founder of this system Jonathan N. Harris. This term in Ame-
rican professional literature remained for long period of time as an exclusive name
for marking the cost calculation system, according to which, in the procedure of va-
luation of inventories of production and final products, only operating production
costs that have variable character, are included. However, it could be noticed that
at that time, many objections were made against the adequacy of this name of the
system, which go in the direction that it includes only variable costs in the calcula-
tion. So, Ch. Horngern in his book states the following:
“It is much more correct to call the calculation of direct costs as calculation of
variable or marginal costs, as, in the essence, it includes only variable operating
costs in the operating costs of product”.119
So, in England, this calculation is referred to as “marginal costing”. This term
was used by English authors Lawrence and Humpheys in their book120, which is
regarded as first complete work from this field in England.121
Application of variable cost calculation system assumes that total incurred ope-
rating costs should be classified into two components, and those are proportionally
variable costs and absolutely fixed costs.
Only variable costs would be basis for calculation, that is, valuation of invento-
ries, while fixed costs are regarded as time costs and they are entirely included in
calculation of financial result for the period in which they incurred.
For presentation of variable costs calculation system, we use data from exam-
ple 1, with the assumption that all general costs have fixed character. Therefore,
calculation is as follows:
– Direct unit cost of finalized production:

125 000
= 10 KM / piece.
12 500
Direct costs 10 000 × 10 100 000 KM
Total costs of finalized production: 100 000 KM
– Cost-calculation of non-finalized production:

Direct costs (50 % of 5 000) × 10 KM 25 000 KM
119
Charles T. Horngern, Cost Accounting – a managerial emphasis, prentice hall Englewood Cliffs
1967., pg. 306.
120
Lawrence E. C.; Humpheys E.N., Marginal costing, London, 1947.
121
For more details see: Kapic, J., Valorization..., quoted, pp. 199-205.
400
– Unit cost of product:
100 000
= 10 KM / piece.
10 000
(7 500 piece × 10 KM / piece) 75 000 KM
Income from sale
(7 500 piece × 25 KM / piece) 187 500 KM
Contribution 112 500 KM
– Minus time costs / general (50 000) KM

General production costs (all fixed)
General costs of manag., sale and admin. (25 000) KM
Profit before tax 37 500 KM
Therefore, fixed and variable components of costs are recorded in separate acco-
unts, in which only variable costs are included in valuation of production, that is,
products, while all fixed costs are entirely treated as time costs and they are directly
included into financial result. Such procedure with costs also enables determining
of specific structure of results compared with presentation of results in total costs
calculation system. This means that variable costs would be included through the
costs of sold products in calculation of financial result (income statement) in order
to get so called contribution (marginal result), that is, contribution (margin), and
then by deducting fixed costs from contribution yield, we get to “pure” financial
result, i.e. profit or loss in given accounting period. The scheme presentation of
variable cost calculation would be the following122:
122
Klobucar, J., Methods and systems..., pg. 41.
401
We can present the character of financial result with the following formula:
(±) Fr = (P – cv) × qr –  Fc
Fr = (25 – 10) × 7 500 – 75 000
(+) Fr = 37 500 profit
Meaning of symbols:
C = selling price per unit
cv = unit variable costs
 Fc = total fixed costs
402
In previous considerations, devoted to the essence of costing system, with the
use of actual costs, we determined the elements, i.e. the structure of production
costs, that is, costs of products, the issue of valuation of inventories and metho-
dology of determining financial result with the use of certain costing systems, and
this means that we can analyze and explain the influence of certain costing systems
on the amount of financial result and value of inventories of unsold products and
inventories of non-finalized production in the observed accounting period on the
previous example 1, as follows:
Comparative review of effects of the application of presented costing systems.

Inventory valuation and financial result:
Inventory bal of Inventory bal. of Financial result

Systems
product. in progress final products (+) profit
Total costing
1.
system 40 000 40 000 67 500
Absorption
2. costing system 35 000 35 000 57 500
3. Variable costing system 25 000 25 000 37 500
The differences of the amount and character of financial result and inventory
values, with the application of different costing systems, occurs as a result of their
conceptual differences in treating general costs in terms of (non) inclusion in the
procedure of valuation of non-finalized production and final products inventories.
This means that, if there are no inventories or if there are no inventory changes,
403
there is no impact of application of certain costing systems on the amount of finan-
cial result. After this, considerations as to whether some costing systems transfer
their characteristics and whether they provide a specific meaning of enabling the
influence and Costs – Volume – Profit relationships, will follow. Analysis of cost
– volume – profit (C. V. P.) is often referred to as break-even point, and it can be
presented in both manners, mathematically and graphically, in order to stress out
the point in which business operations move from the field of loss into the field of
profit. Break-even point may be defined as a level of activity in which business
profit is equal to zero, that is, income is equal to the sum of variable and fixed costs.
Therefore, break-even point indicates achieving certain financial results. Realizing
the conditions of break-even point indicates realization of financial result, which is
neutral by its character, and which also, represents reflection of certain activity of
the company.123
20.3.2.2. Standard costing system
20.3.2.2.1. Concept of standard costs
Standard costs124 imply anticipated costs which, in business process of compani-

es (manufacturing companies) should be incurred in accordance with the foreseen
objectives. It means that standard costs are the costs set in advance, they do not
represent a historic element, but prospect for the future, as they (standard costs)
are not determined on the basis of average of realized costs, but on the basis of sci-
entific studies of all the data which relate to the business process in the following,
determined business period.
Therefore, standard costs are not costs of previous period, but they indicate as
to what kind and how much of these costs will be incurred and they represent an
objective measurement for control of costs. Thus, the primary purpose of standard
costs as control means, as emphasized by Henrici – is to create a level (i.e. unit of
measurement) which should be a starting point in cost measurement.
The author sees the meaning and content of standard costing in the following:
1) standard costs are operating costs, as they are determined for each operation;
2) standard costs represent realization of optimum efficiency;
3) standard costs represent evaluation for valuation of direct Material with the
purpose of identifying differences or discrepancies in terms of quantities
and prices;
123
For details see: Kapic, J., Valorization..., pp. 209-214.
124
Kapic, J., Valorization..., quoted, pp. 218-252.
404
4) standard costs may be contained in appropriate accounts in bookkeeping, as
control indicators for comparison with realized costs;
5) standard costs are used as basis for valuation of non-finalized production and
final products;
6) standard costs enable comparison with realized costs, to determine the di-
fferences or discrepancies, which are analyzed and appropriate actions are
taken.
The concept of planned costs represents a broader concept, and standard costs re-
present a type or option of planned costs. In another words, standard costs are always
planned costs, while planned costs do not necessarily have to be standard costs.
Standard costs are scientifically pre-determined costs of production of one unit
or several units of products during a certain period of time in near future.
So, L. L. Kohler under standard costs imply “such costs which indicate, that
with foreseen conditions on how the costs should be created and which provide a
base for control of costs, and finally, in comparing with actual costs of measure-
ment for evaluation of achieved productivity”.
Also Mellerowich definition is similar: “Standard costs are determined in ad-
vance with scientific methods of directing costs (Richt Kosten) with the character of
applied standards with the aim of control, disposition and output encouragement”.
So, for a example, also Professor Turk says that “standard costs are a result
of scientific results on necessity of input and price justification. Standard costs
are such costs which in the presented amount, in the accounting period which
we consider, are scientifically justified”. We also quote the definition: “Standard
costs – planned costs that should incur in normal circumstances of efficiency”
(meigs; meigs).
Professor V. Belak says: “Standard costs are costs calculated on the realization
of some output in certain conditions. Standard costs are determined per unit of
some output, with the use of scientific methods, assessments and on the basis of
experienced data.”125 Professor J. Klobucar says: “...standard costs represent pla-
nned costs determined in special manner, with the application of scientific-research
methods in their creation. That is what their essential meaning is, while their quan-
tification depends on the tasks set before them.”
In relation with closer defining of standard costs, it is necessary to note that
in American professional literature which we consulted, there is a distinction in
regard to the type of standard costs. Accepted practice of American companies,
where the system in accordance with standard costs is mostly spread, in terms of
application, group the standard costs in two manners: standard costs in regard to
the time for which they are determined, and standard costs in regard to the aims of
125
Belak, V., Managerial..., pg. 207.
405
their application. According to the first classification, within standard costs, there
are following special categories:
– base standard costs and
– current standard costs.
Characteristic of base standard costs is that they rarely change and they are de-
termined for the longer period of time, while current standard costs have the task of
channeling, that is estimation of costs for shorter period of time.
Current standard costs are set with three degrees of precisions:
1) standards of required quantities of direct material and direct labor (quantity
component),
2) standards of prices of direct material and direct labor (price component),
3) standards of general costs which are determined on the basis of rates of ge-
neral production costs for one-year period with different options of volumes
of operations, that is, capacity use, so the standard costs are determined for
normal capacity.
Current standard costs are classified into:
1) ideal standard costs;
2) normal standard costs;
3) realistically anticipated standard costs.
In selecting between ideally standard and realistically anticipated standard costs,

advantage is given to realistically anticipated standard costs. They have advantage
as plan of costs is created in accordance with expected rational input and output,
taking into account expected conditions of production in the following period.
20.3.2.2.2. Calculation system per standard costs
Given the fact that standard costs relate to the future, in the presentation of calculati-
on system per standard costs, it is necessary to start from the plan of costs. It means that
standardization department creates the card of standard costs, in which each product is
classified into elements and for each operation, quantity and price standards are deter-
mined, that is, standard cost per unit of product. Basic determinants of standard costs
are derived from standardization of procedure in business operations of a manufactu-
ring company, which assumed exact determination of business process, determination
of working methodology and entire business operations and on those bases, determined
outputs of assets, direct material and direct labor (quantity and price) on the basis of
examination and measurement. Elements determined in such manner are adjusted to
the existing organization, that is, manufacturing company and they are embodied in bu-
siness process, that is, business operations. Below, we provide the following example:
406
Company “W” produces final product “z”, which has the following standard
specification of direct material:
– Standard price of direct material per unit (m) .......... 30 KM / m
– Standard quantity of direct
material per unit of product ...................................... 2m
Standard cost of direct material (30 × 2) .................. 60 KM / unit of prod.
Data on actual amounts

– Acquired quantity of direct material ......................... 22 200 m
– Actual costs of direct material................................... 621 600 KM
– Actual price of direct material per m ........................ 28 KM / m
– produced quantity of units (pieces) ........................... 10 000 pieces
– Consumed quantity of direct material for production
of 10 000 pieces of products ...................................... 22 200 m
Quantity discrepancy of direct Material:
Quantitative discrepancy of direct material is obtained if determined difference

between actually consumed quantity of direct material and standard quantity of
direct material is multiplied by standard integral part per unit of direct material.
Obtained quantitative discrepancy amounts to KM 66 000 and is unfavorable,
as actual consumed quantity of direct material (22 200 m) is higher than standard
quantity of direct material (20 000 m).
407
In the procedure of price discrepancy calculation, actual price paid per unit of
direct material should be compared with standard price of direct material. Unlike
quantitative discrepancy whose calculation has two steps, price discrepancy has
only one step, whether it concerns price discrepancy determined in the material
acquisition phase, or price discrepancy which relates to consumed material. Calcu-
lation of price discrepancy of material for consumed direct material:
Price discrepancy for consumed direct material is favorable as actual price is

lower than standard price of direct material per 1 m.
Namely, total quantitative and price discrepancy, i.e. discrepancy of actual from
standard costs of direct material “may be performed with application of method of
two discrepancies”.
In regard to this, in the analysis of direct material discrepancy, management will

be provided with the assessment of relations between the quantity of consumed di-
rect material compared with the size of new product in the accounting period, with
different discrepancy of actual quantity of consumed direct material from standard
(discrepancy in the efficiency, i.e. effectiveness).
408
Management analyses both favorable and unfavorable discrepancies, but it
does not analyze such discrepancies from aspect of rationality where more time
and money will be consumed, than it is actually worth. So, for example, possibly
in analysis of discrepancy causes, the management came to the conclusion that
acquired material is poor quality or there was possible difference in direct material
consumption because of fault on machine or obsolete or inadequate maintenance
or because of inadequate control of output or similar, so unfavorable discrepancy
of quantitative consumption of direct material incurred. In the analysis of price
discrepancy of direct material, management analyses all the elements of standard
price per structure (invoice value, transport, insurance, etc.), so gets to the conclu-
sion that favorable discrepancy in price of direct material is caused, for example,
by the reduction of transport costs, or acquisition manager provided a discount for
purchase in pieces, for several order forms, so it purchased bigger quantity which is
required for short period, which resulted in excess inventories, or supply manager
accepted the bid of supplier with the lowest price after minimum efforts regarding
verification of procedure of monitoring supplier’s quality and similar.
Therefore, when material acquisition process is recorded at standard costs (stan-
dard quantity × standard price) in the account of inventories of material, it then
significantly simplifies calculation of consumption of direct material in the account
of production in progress. Thus, if valuation of inventories is performed in accor-
dance with standard costs, then, all discrepancies of actual from standard costs
(except for price discrepancies) would represent the income statement component,
and valuation of inventories would be conducted at standard costs.
Therefore, favorable price discrepancy, either determined in material acquisi-
tion phase or in direct material consumption phase, will be included in valuation
of inventories, and quantitative unfavorable discrepancy (excess) in our example,
will be included directly in calculation of financial results. Operating costs of direct
labor, which would be included in valuation process of inventories, would be stan-
dard costs. Data on standards:
– Standard price of direct labor .............................. 20 KM / hour
– Standard quantity of direct labor
per unit of product................................................ 0,80 hrs / unit of product
Standard input of direct labor (20 × 0,80) ........... 16 KM / unit of product
Data on actual amounts

– produced quantity in units ............. ..................... 10 000 pcs.
– Total hours of direct labor ................................... 9 000 hrs.
– Price per hour of direct labor .............................. 22 KM / hour
Total actual cost of direct labor
(9 000 hours × 22 KM / hour ............................... KM 198 000
409
Quantitative discrepancy of direct labor, is calculated in two steps:
Quantitative discrepancy of direct labor is unfavorable as total number of actu-

ally consumed hours of direct labor is higher than total number of standard direct
hours of labor.
Price discrepancy of direct labor is calculated in one step, the same as with
direct material:
Price discrepancy of direct labor is unfavorable as actual price of direct labor is

higher than standard price of direct labor per consumed hour.
Total quantitative and price discrepancy of direct labor, that is, method for
determining discrepancies from standard costs of direct labor is “method of two
discrepancies for direct labor”, and may be presented in the following manner:
410
Total quantitative and price discrepancy:
Actual realized quantity of direct labor
Quantitative discrepancy of direct labor may occur for a variety of reasons,

for example, faults on equipment, change of qualification structure, poor qu-
ality of direct material, etc. Price discrepancies of direct labor may be for vari-
ety of reasons: payment of workers per hour which is different from determi-
ned standards, or changes in labor cost index were not taken into account, and
similar.
Based on the previous example, we may present book entries in the acco-
unts of general ledger. Inventories of production and final products are va-
lued at the amount of operating standard costs of direct material and direct
labor:
411
Fundamental principle of valuation of inventories of production and final pro-
ducts is that they are valued at operating production costs whose structure depends
on, as already mentioned, applicable costing system.
Apart from direct costs (direct material and direct labor), inventories are valued
at general production costs or at general plant costs (GPC).
We present below flexible plan of general production costs: Accounting of com-
pany “W” – budget of flexible plan for department – operation of finalization from
1 January to 31 December of current year for product “z”.
412
Flexible plan of production unit of finalization
1. Jan – 31 Dec of current year (in KM)
Variable costs
Type of cost Fixed costs
per hour of mac. labor
Control 1 449 000
Depreciation 1 863 000
Indirect labor 11,25 KM / hour
Indirect material 10 KM / hour
lubricants 8,75 KM / hour
TOTAL 3 312 000 KM 30 KM / hour
Total expected
fixed and variable
costs per unit
of meas. activity = 3 312 000 KM × 30 KM / hour of mach. labor
Management assesses for each position of general production costs, its fixed,
variable component. In our example of company “W” costs of production control
are entirely fixed, and indirect labor is has variable character.
– Accounting of company “W” disposes with the following data from 1 Jan –
31 Dec of current year
Company “W”, estimated data:
– total expected fixed

costs and variable
costs per unit of activity
measurement = 3 312 000 KM + 30 KM / hour of machine labor
– estimated annual
production volume = 144 000 pcs.
– standard quantity
of machine labor per unit
of product =0,40 hours
– total standard quantity of hours of machine

labor = 144 000 × 0,40 = 57 600 standard hours of machine labor
413
Calculation of general production costs rate based on previous data:
Assessed annual general production costs are obtained on the basis of flexible
plan:
Calculation of fixed and variable component from which general production

costs rate is comprised, based on mentioned data:
On the basis of general production costs rate, per standard hour of machine
labor and number of standard hours of machine labor per unit of product, we cal-
culate standard general production costs per unit of product:
Standard general production costs per unit of product amount to KM 35.

Company “W” will use the amount of total general production costs of KM 3
(23 KM – fixed part and 12 KM – variable part) per unit of product in annual and
monthly planning of production and sale, and flexible monthly plan of production
and sale is 10 000 pieces of product “z”.
414
Discrepancy from standard general production costs, as already mentioned, re-
presents either shortfall or overreaching, which depends on as to whether standard
general production costs are higher or lower tan actual general production costs.
We will show these discrepancies on the example of company “W”:
Company “W” – realized results for one month 1 April – 31 April of current
year:
1. Realized quantity of products ............................................. 10 000 pcs.
2. Standard quantity of machine labor..................................... 0,40 hours
3. Total standard hours of mach. labor (1 × 2)......................... 4 000 hours
4. realized machine hours…….. .............................................. 4 500 hours
Realized general production costs from

1 April – 30 April of current year
Standard general costs per unit amount to:
10 000 pcs. × 35 KM / unit = 350 000 KM or:
Analysis of total discrepancy is the difference between total realized general

production costs and total standard general production costs.
415
Therefore, for company “W” total discrepancy in the accounting period from 1
April – 30 April will be:
Apart from the presented method of one discrepancy, in literature there are met-
hods of two, three or four discrepancies, according to which further sub-ledger
classification of general production costs is performed for the needs of cost control
and management. Further in text we will talk more about integrated analysis of
general production costs discrepancies.
Calculation of discrepancies for variable general production costs and fixed ge-
neral production costs differs. Variable general production costs do not have dis-
crepancies in production volume, and fixed general production costs do not have
discrepancies in efficiency. We calculate integrated recapitulation of discrepancies
per certain components of general production costs, with the use of standard costs
at the end of current month, which we can show in the following manner:
1) Variable general production costs
416
2) Fixed general production costs
There is analysis of three discrepancies:

Volume
Consumption disc. Efficiency disc.
production disc
Total general
production costs (U) 4 500 (U) 15 000 (U) 46 000
Two consumption discrepancies from analysis of four discrepancies is combi-

ned in the analysis of three discrepancies. The only loss of information in analysis
of the three discrepancies is in the field of consumption discrepancy, as separate
discrepancy for fixed component of general costs has not been provided (unfavo-
rable discrepancy 9 000 KM) and variable component of general costs (favorable
discrepancy 4 500 KM) of production, so this analysis of three discrepancies is
sometimes referred to as “Combined discrepancy analysis”.
Analysis of four discrepancies:
Consumpt. Efficiency Volume production
discrepancy discrepancy discrepancy
Variable general
(f) 4 500 (U) 15 000 Never discrepancy
production costs
Fixed general
(U) 9 000 Never discrepancy (U) 46 000
production costs
417
Analysis of four discrepancies are two discrepancies of fixed general produc-
tion costs (unfavorable discrepancy in consumption and unfavorable discrepancy
in volume production) and two discrepancies of variable general production costs
(favorable discrepancy in consumption and unfavorable discrepancy in efficiency).
There is never any discrepancy of variable general production costs from volume
of production. Why? The amount of allocated variable general costs is always the
same as flexibly planned amount. There is never discrepancy of fixed production
costs from efficiency. Why? Because a degree of operational efficiency never ef-
fects given group of fixed costs in given period of time.
Analysis of two discrepancies:
Production volume
Flexibly planned disc.
discrepancy
Total general
(U) 19 500 (U) 46 000
production costs
From analysis of the three discrepancies, discrepancy in consumption and effici-

ency, are combined in analysis of two discrepancies.
Analysis of one discrepancy:
Total discrepancy of
general production costs
Total general production costs (U) 65 500
Total discrepancy of standard general costs in the amount of KM 65 500 units

is unfavorable, and in analysis of single discrepancy, represents the sum of discre-
pancies from efficiency and consumption and discrepancy of volume production in
analysis of two discrepancies. Therefore, total discrepancy of standard general pro-
duction costs is the difference between realized general production costs (130 500
KM variable part + 285 000 KM fixed part) and allocated standard general costs on
the basis of flexible plan (120 000 + 230 000 = 350 000 KM) for actual produced
units (10 000 pieces).
Opposite to the accounting records of standard costs of direct material and stan-
dard costs of direct labor, general production costs may also be recorded.
418
1) Recording of actually incurred general production costs. (2) Recording of
standard general production costs (4 000 × 87,50 == 350 000 KM).
(3) Concluding general production costs and recording of discrepancies from
general production costs.
Therefore, balance of the account of production in progress represents producti-

on valued with operating standard costs, and discrepancies of actual from standard
general costs would be included entirely in calculation of financial result (income
statement).
Management, sale and administration costs are not included in operating costs
of inventories, and they are treated as time costs and they are directly transferred to
successful accounts and they are included in calculation and determining of finan-
cial result in the period in which they incurred. Therefore, for periodicities of costs
and results, and in regard with this, above all, differences between certain cost cal-
culation systems are expressed, so classification of costs is important, to the costs
which, at the valuation of inventories are included in operating costs (direct mate-
rial, direct labor and general production costs) and that is possible balance value
of inventories, and to the operating costs of management, sale and administration,
which are not included in balance value of inventories (balance sheet) but they are
included directly in calculation of financial result (income statement), which means
that they are treated as time costs.
419
In consideration, we would only like to mention the most important advantages
and disadvantages of calculation system in accordance with standard costs.
The advantage of standard cost calculation which are based on planned costs
is important, and which are determined with precise examination and setting the
measures on the basis of scientific achievements.
With the scientific-research procedures, costs should be determined, which may
be realized under certain circumstances, with the assumption of rational use of
assets and labor, that is, all factors of business process. Objectivity of standard co-
sts may be realized with precise examination and scientific measurement, bearing
in mind scientific achievements and business conditions which can be expected in
the period for which standards are set.
The most important characteristics of standard costs are:
– they are objective, that is, real costs;
– they are used for calculation as per operations and bearers of costs;
– they have control function;
– discrepancies are determined by comparing standard and realized costs.
Therefore, orientation of costs control in calculation system per standard costs

is very sharply directed to exceptions, to discrepancy of actually incurred costs
from standard costs. Standard costs are the aim which all levels of associations
want to get closer to. Thus, discrepancies are actually “exceptions” in realizing the
mentioned aim. They indicate negative trends and direct to detecting the causes of
such trends. Relating the responsibility to certain discrepancies is significant, if it
concerns unfavorable discrepancies. Favorable discrepancies in calculation system
per standard costs indicate that standards are not “strictly” enough set.
Detecting the causes of all the mentioned discrepancies is precious data for ma-
nagement and, in relation with this, for making appropriate decisions, with which
weaknesses at the critical areas, would be removed. For achieving such aim, the
most appropriate system is calculation system per standard costs, which has an
important place in managerial accounting. Managerial control, thus, assumes iden-
tification of responsibility area which will enable its efficiency. In functionally
structured company, those responsibility areas are centers of standard costs. It me-
ans that responsibility area represents a homogenous segment of company, within
which its manager has authorities to make certain decisions and responsibility for
its successful functioning. Each responsibility area has its inputs and its outputs,
from whose relation conclusions are made about its performance. While on one
side inputs in all areas are expressed in costs, on the other side, outputs in some
responsibility areas may be expressed via revenues from sale (sales departments),
which, in other, is not possible (responsibility of manufacturing departments).
Besides, relationship between the mentioned inputs (direct material, direct labor
and other) and outputs (final products) is so strong and so noticeable (inputs and
420
outputs within the production function). Area of responsibility in which connection
between inputs and outputs is obvious, but outputs are not expressed in a form of
value of sale, but in form of costs, represents the area of responsibility for standard
costs. Such areas or centers are formed within production function and may encom-
pass a small homogenous group of machines, the entire production line or the entire
manufacturing department.
Standards are a basis for creating a business plan of company, whether it con-
cerns main financial plan or flexible plans of company and centers of responsibi-
lity. Superficial and irresponsibly set standards have direct consequences on the
creation of plan and control of plan implementation of the company. Setting up
quantity and price standards represents initial part on which real application of
systems of calculation per standards cost depends. Especially, complex segment of
calculation system per standard costs relates to setting and applying standards of
general production costs. Unrealistically set standards may have consequences in
cost accounting, i.e. in valuation of production inventories and inventories of final
products.
Thus, additional prudence is required in interpretation of obvious advantages
of standard costs and cost calculation based on them (standard costs), conditioned
with assumptions on sufficiently objective, that is, real standard costs and assumed
good structure of internal calculation.

AND UNDERSTANDING:
1. Explain the concept and classification of costs.

2. What are the types of natural costs?
3. Explain the types and main characteristics of calculation methods.
4. Accounting coverage of sale of final products.
5. What are the valuation methods of costs of sold final products?
6. Explain the main characteristics of cost calculation system in accordance
with actual costs.
7. Concept of standard costs.
8. Explain advantages and disadvantages of cost calculation system in
accordance with standard costs.
421
CHAPTER EIGHT
ACCOUNTING COVERAGE
OF REVENUES, EXPENSES
AND DETERMINATION
OF OPERATING RESULT
Study objectives
1. Definition and structure of revenues

2. Accounting coverage of operating revenues, financial revenues and
other revenues
3. Definition and structure of expenses
4. Accounting coverage of operating expenses, financial expenses and
other expenses
5. Determination of operating results
21 ACOUNTING COVERAGE OF REVENUES
21.1. DEFINITION AND STRUCTURE OF REVENUES

Revenues are one of the elements of measurement of performance of business ope-
rations of legal entities. Revenues are an increase of economic benefits during the
accounting period in a form of inflow or increase of assets or decrease of liabilities,
which leads to the equity increase, except for those linked with the payments of
equity participants (IAS 18 – Revenues, item 7.).
Revenues do not include increase of assets or decrease of liabilities directly
linked with equity payments. Definition of revenues should be interpreted in accor-
dance with double entry bookkeeping principle on double-sided observation of
occurred business event. From definition of revenue it follows that each increase
of assets or decrease of liabilities does not lead to occurrence of revenues. So,
for example, definition of revenues does not include occurred business event of
assets acquisition whose consequence is increase of assets, but also increase of
liabilities.
Payment of liabilities to the suppliers on the basis of payment operations do-
cument has a consequence of decrease of assets, but also decrease of liabilities
in by same amount. None of the occurred events meets the definition of revenues
and expenses as they do not have an effect on equity, that is, they do not change
the balance of equity. However, definition of revenues and expenses encompasses
occurred business events related to sale of goods or services. So, for example, sale
of products is a business event, whose consequence is decrease and increase of
assets, but which, for the consequence also has increase or decrease of equity or its
retention at the same level.
Amount of decrease in sale is not a measure for the amount of assets increase,
and vice versa, the amount of assets increase is not a measure for decrease of assets.
Decrease of assets, when the sale in the amount of costs of sold products occurs, is
a measure for expense. Increase of assets, realized with the sale in the amount of
received money or increase of receivables, is a measure for revenues. If cash inflow
or receivable includes also value added tax, in that case, liabilities are increased for
the amount of tax. Increase of economic benefits from revenues in a form of liabi-
lities decrease, occurs at the moment of delivery of products, goods or completion
of services, for which advance payment was previously received from a customer.
Revenue realized from an increase of economic benefits in a form of liabilities
decrease, occurs in case of liabilities write off, for which statute of limitation ex-
pired from creditor or when creditor subsequently decreases liability. From the
definition of revenues and described events arises that in the system of double entry
425
bookkeeping, occurrence and increase of revenues are presented simultaneously
with increase of assets or decrease of liabilities.
Revenues, in accordance with item 1 of International Accounting Standard 18 –
Revenues, most often occur from the following business events:
a) sale of products and goods
b) service provision, and
c) use of assets of legal entity by others, whereby revenues from interests,
royalties and dividends are generated.
So, revenue s arising from regular activities of legal entities, are:

 revenue from sale of products – production activity;
 revenue from sale of trade goods – trade activity;
 revenue from provided services – service activity.
Use of assets of legal entity by others, whereby the following is earned:

 interests – fees for the use of cash and cash equivalents or amounts owed to
the legal entity;
 royalties – fees for the use of long-term assets of a legal entity, such as, for
example, patents, trade marks, copy rights and computer software;
 dividends – profit allocation to the owners of equity proportionally to their
share in the principal of certain type of equity (item 5, IAS 18 –Revenues).
Gains represent other items which meet the definition of revenues and can, but
don’t have to, arise from regular activities of a legal entity. Gains represent an in-
crease of economic benefit and as such, by their nature, they are not different from
revenue (Framework). Gains, for example, include:
 unrealized gains, for example gains occurred from revaluation of marketable
securities and gains arising from increase of book value of fixed assets;
 gains which satisfy the definition of revenues, are also those arising from
sale of fixed assets, and they are usually recognized in accordance with so
called net basis, after deduction for certain expenses (Framework).
21.2. MEASUREMENT AND RECOGNITION OF REVENUES

Revenue is measured at the fair value of received fee and receivables (item 9,
IAS 18 – Revenues). Fair value is the amount for which the asset could be exchan-
ged or settle the liabilities between informed and ready persons in transaction befo-
426
re bargain (item 7, IAS 18 – Revenues). Revenues include only those gross inflows
of economic benefits, which a legal entity receives or claims for own account.
Amounts collected for the account of third persons are not recognized as revenue
(item 8, IAS 18 – Revenues).
Along the basic principle that revenues are recognized, that is, included in reali-
zed revenues of a legal entity, when it is possible that upon incurrence of business
event, future economic benefits will flow into legal entity and that benefits can be
reliably measured for certain forms of earned revenues in the international acco-
unting standard 18 – Revenues, additional requirements have been set for certain
form of revenues. With minor differences in IAS 18 – Revenues, revenues from
sale of goods are separately determined, which includes sale of products, special
circumstances for recognition of revenues from provided services and special cir-
cumstances for recognition of revenues of use of assets of legal entity by others.
In the International Accounting Standard 11 – Construction Contracts, conditions
for recognition of revenues in Construction Contracts are precisely defined, and
conditions for recognition of revenue from leases are precisely defined in IAS 17
– Lease. Revenues from sale of products and goods is recognized in accounting
records and balance sheet when the following conditions are satisfied:
– legal entity transferred to the customer all significant risks and benefits of
ownership over the products, that is, goods;
– legal entity does not retain the effect on management to the extent which is nor-
mally related with the ownership, nor control over sold products, that is, goods;
– amount of revenues may be reliably measured;
– it is probable that transaction will be followed by inflow of economic benefit
into legal entity;
– costs which incurred or will incur in relation with transaction, may be reliably
measured.
If a legal entity retains significant ownership risks, transaction is not a sale and
revenue is not recognized.
Examples of such cases are:
 when a legal entity retains liability for unsatisfactory performance which is
not covered by usual provisions at the name of guarantee;
 when an inflow of revenues from some sale is conditioned with revenue
which the customer is only to achieve from sale of products, that is, goods;
 when products are delivered for installation, and installation is a significant
part of contract which a legal entity did not complete;
 when a customer has a right to withdraw from purchase for a reason listed in
the Sales Contract, and legal entity is not certain about possibility of product
return, that is, return of goods (item 16, IAS 18 – Revenues).
427
However, conditions for recognition of revenues are satisfied with the moment
of delivery of goods, so, at that moment, the revenue is recognized. But, in accor-
dance with item 22, IAS 18 – Revenues and item 38, IAS 8 – Accounting Policies,
changes of accounting assessments and errors, when uncertainty occurs in terms of
collection of the amount of already included revenue, this non-collectable amount
is recognized as an expense in current period, and not as correction of originally re-
cognized revenue. Application of revenue recognition criteria from sale of products
and goods provides an answer to the question as to when it is possible to include
revenue and expense related to it, into calculation of business result. In item 20,
IAS 18 – Revenues, for presentation of revenues from provided services, recom-
mended is application of method of degree of completion of services. According
to this method, revenues from provided services are recognized when a degree of
completion of services can be reliably assessed on the balance date. When a result
of transaction cannot be certainly assessed, revenue is recognized only in the amo-
unt of recognized expenses, that can be refunded (IAS 18, item 26).
In accordance with item 20, IAS 18 – Revenues, result of a transaction compri-
sed of provision of services to another legal entity, may be reliably assessed if the
following conditions are met:
 amount of revenues can be reliably measured;
 it is probable that the transaction shall be followed by an inflow of economic
benefit into legal entity;
 degree of service completion may be reliably determined on the balance
sheet date;
 costs incurred for completion of services, can be reliably measured.
If the above mentioned conditions are met, revenues from provided services are
recognized. In item 29, IAS-18 – Revenues, conditions are determined for recogni-
tion of revenues arising from use of assets of a legal entity by other legal entities,
and which provide interests, royalties and dividends. Such financial revenues will
be recognized, if it is probable that the transaction will be followed with an inflow
of economic benefit into legal entity and if the amount of revenues may be relia-
bly measured. Revenues from interests, royalties and dividends in accordance with
item 30, IAS 18 – Revenues, are recognized on the following basis:
– interests are recognized with the use of effective interest rate of yield method
in accordance with item 9, IAS 39 and Instructions for application of IAS 39,
items 5-8;
– royalties are recognized in accordance with transaction incurrence principle,
in accordance with the essence of appropriate agreement;
– dividends are recognized when the right of shareholders to the collection of
dividends is determined.
428
21.3. OPERATING REVENUES
21.3.1. Revenues from sale of products
Revenues from sale of products are realized during the business year with the
assumption that conditions are met for recognition of revenues and on the basis of
valid documents, they are recorded in the accounting records.
Example:
1) We sold final products to the customer and issued an invoice – selling value KM
100 000, plus KM 17 000 of VAT.
2) Production price of final products amounts to KM 80 000.
3) Receivable was collected from gyro account.
Explanation:
Under item one, account – Local customers is payable for the selling value after
deduction of amounts which are calculated and collected on behalf of third entities
(taxes, VAT), and account receivable – Revenues from sale of final products for the
selling value and account receivable– Liabilities for VAT for calculated VAT.
Under item two we have dispensed warehouse at production prices, account
receivable – Inventories of final products and account payable – Costs of sold final
products. Under item three, on the basis of bank statement from gyro account, we
recorded collection of receivables, so that there is account payable – Gyro account
429
and account receivable – Local customers. Discounts approved to the customer at
the point of sale (presented in the invoice itself) reduce revenues from sale and
liabilities for VAT, at the point of the book entry of invoice, i.e. approved discounts
at the point of invoice issue are cancelled at the invoice issue and they are not se-
parately entered into books as only the value of net invoice is entered into books.
Discounts after invoice issue reduce the revenues and they are recorded in books
with cancellation of revenues and receivables (if book entry is performed in the
same accounting period), or by debiting other expenses (if they are credited and
entered into books in the following year). Quantity or cumulative discounts per
certain period or sold quantity are usually entered into books when conditions are
created for that, that is, most often at the end of the year. Regardless of the manner
of calculation, subsequent discounts are entered into books as a decrease of revenu-
es, and at the end of the business year, there must be correction in tax calculation,
that is, value added tax because of approved and realized discounts.
Within the basic account, revenues from sale of products, sub-ledger account
may be opened for sale of products on loan. With regard to recognition of revenues
from sale of products, it is necessary to stick to the principles prescribed by IAS 18
– Revenues. Approved loan to a customer is only one of the ways of collection of
receivables, and usually, agreed interest is calculated on approved trade loan. With
the sale of products on loan, we should, in accordance with IAS 18 – Revenues,
distinguish revenue from sale of products from revenue from interests. Revenue
from sale of products is recognized entirely at the point of products delivery to the
customer, regardless of payment method. Unlike this, revenue from interest should
be recognized in time lag period, so that the actual yield on assets is taken into
account. For a seller, who is in VAT system, two liabilities for calculation of value
added tax occur. The first liability relates to 17 % of VAT, and which is calculated
on the selling value of delivered products and it occurs with the expiry of accoun-
ting period in which delivery was made, that is, invoice issued. Repayment period
and deferred payment or crediting, do not have an effect on occurrence of VAT
liability. The second liability relates to 17 % of VAT which is calculated on agreed
interest on loan and occurs at the expiry of each accounting period, and it is deter-
mined on the sum of agreed monthly interest, with the application of 17 % of VAT.
Example:
1) Final products were sold on loan to the customer with the repayment period of
two years. Annual interest is 8 %. Invoice was issued on selling value in the
amount of KM 60 000, plus 17 % of VAT in the amount of KM 10 200, total
KM 70 200. Interest is calculated for the entire period of lending and amounts to
KM 9 600, plus 17 % of VAT in the amount of KM 1 632. Customer is repaying
a loan in 24 equal installments in accordance with repayment plan.
2) Production price of sold final products amounts to KM 50 000.
430
3) We issued the invoice for interest in the amount of KM 400, plus 17 % of VAT
in the amount of KM 68, total KM 468.
4) Customer paid the first repayment installment in the amount of KM 2 500, plus
17 % of VAT in the amount of KM 425 and KM 400 of interests, plus 17 % of
VAT on interests in the amount of KM 68, total KM 3 393.
431
Explanation:
(1) For sold products on long-term loan and interest calculation.
(2) For dispensing product inventories.
(3) For issued invoice for interest and VAT.
(3a) For dispensing realized product from interests and VAT for accounting period.
(4) For collection of annuity and VAT for long-term loan.
For the example of book entry, we provide additional explanation:

Revenues and VAT are recognized at delivery (issued invoice) and in case of
sale of products on loan. Selling value and accrued interests are entered into books
under long-term receivables, and VAT under long-term accruals from the basis of
sale on loan. Accrued interests for the whole period of crediting, are entered in bo-
oks under prepaid and deferred income (long-term accruals and deferred income),
and VAT in the account – Accrued but unpaid VAT. Revenue from interest is reco-
gnized in revenues in the accounting period. On the balance date (31 Dec) a part of
long-term receivables from the basis of products sale on loan, and which are due in
the following business year up to 12 months, should be transferred from account –
Long term receivables from basis of sale on loan to Short-term receivables.
21.3.2. Revenues from provided services

Example:
Invoice was issued for performed bookkeeping services for May of the current
year in the amount of KM 800, plus 17 % of VAT in the amount of KM 136, in total
KM 936. With subsequent control, it was determined that the invoice in the amo-
unt of KM 936 was falsely issued to the customer, as agreed value of bookkeeping
services in the amount of KM 700 was increased by 17 % of VAT, in the amount of
KM 119, total KM 819. Thus, to the user of bookkeeping service, KM 117 is appro-
ved (value of service KM 100 + 17 % of VAT, KM 17) on the basis of bookkeeping
notification. User of bookkeeping services submitted a receipt of correction of input
tax in its tax records. Book-entry in the accounts of general ledger:
432
Explanation:
(1) For invoice for provided service.
(2) For cancellation of falsely issued invoice.
When the account is being corrected for provided service in another accounting
period (business year), it is then not possible to directly correct revenue, but the
correction is performed in the appropriate account of expenses.
Example: recognition of revenues from partially performed non-invoiced services

1) We have agreed with the customer, the repair of machine, whose price cannot
be reliably determined, as fault is not entirely known. Final price of repair on
the basis of contract, shall be determined after dismantling of machine and pre-
cisely identifying the fault and price of spare parts replacement. In the contract,
it was agreed, that service should be performed during December of current
year, and that it should be completed in January of the following year. Given
that transaction cannot be assessed with certainty, we have recognized revenue
in the amount of costs of dismantlement of machine, which incurred until 31
December of current year in the amount of KM 5 000.
2) In January of the following year, machine was entirely repaired and we issued
an invoice in the amount of KM 20 000, plus 17% of VAT in the amount of KM
3 400, total amount KM 23 400.
Book entry in the accounts of general ledger in December of current year:
(1) For recognized revenues from non-invoiced services in accordance with item
26, IAS 18 – Revenues in December of current year.
Book entry in the accounts of general ledger in January of the following year:
(1) For invoice to the customer and difference of revenue recognition in the fo-
llowing year, plus VAT.
433
21.3.3. Revenues from sale of goods
21.3.3.1. Revenues from wholesale of goods
Under trade goods, we imply tangible assets acquired from a legal entity dealing
in trade activity for further sale. Calculation and book entry of business events rela-
ted to trade goods depend on whether the trade is taking place either in retail shop
or wholesale shop. In regard to the wholesale of goods, following book entries are
performed in the accounts:
 account payable – Local customers (selling value, plus VAT for VAT tax-
payers), with simultaneous recognition of revenues (if all the conditions are
met in accordance with IAS 18 – Revenues) at selling price, account receiv-
able – revenues from wholesale of goods and account receivable – Liabilities
for VAT for the amount of calculated VAT;
 there is simultaneous book entry of decrease of inventories of trade goods,
with the account receivable – Goods in warehouse, and account payable –
Cost of acquisition of goods for the cost of sale of trade goods. In this, it is
significant that inventories are recorded at acquisition or selling price and in
accordance with selected method of cost calculation of inventories in accor-
dance with IAS 2 – Inventories.
If the goods in the wholesale warehouse was received at acquisition value (acqu-
isition cost) it will be dispensed at the acquisition value, regardless of the amount
of selling value. If the inventories in wholesale warehouse are recorded at selling
value, then the goods in warehouse were then received at selling value (acquisition
price plus the price difference is equal to selling price), it is then dispensed at the
selling value. Dispensing of selling value is recorded in books in a manner that the-
re is account receivable – Goods in warehouse, and account payable – Acquisition
cost of sold goods. There is simultaneous book entry of consisting part of calcu-
lated price difference, so that account payable – Calculated price difference and
account receivable – Acquisition cost of sold goods. Therefore, actual acquisition
value of sold goods is the difference between the selling value and calculated, that
is, realized price difference and it is presented as balance in the account – Acqu-
isition cost of sold goods. In presentation of revenues and expenses and financial
result of trade activity, the most important items are presented through successful
accounts of revenues from sale of goods and account – Acquisition cost of sold
goods (Costs for sold goods), and in the successful account – Distribution costs –
operating expenses of trade activity are presented, which, in accordance with IAS 2
– Inventories cannot be included in the value of inventories of goods. Operating co-
sts which occur in trade activity, are presented in the accounts of Class costs and at
the point of business result calculation are directly transferred through the account
Distribution of costs in calculation of business result to the account – Distribution
costs, that is, expenses of period, and will entirely be compensated at the expense
of financial result of the accounting period in which they incurred.
434
Example:
1) Goods were acquired from supplier in accordance with the invoice and in the
amount of KM 52 650 (value of delivery KM 45 000, plus 17 % of VAT, in the
amount of KM 7 650). Invoice of transport company for transporting goods to
warehouse amounts to KM 5 850 (value of service KM 5 000, plus 17 % of VAT
in the amount of KM 850).
2) Goods were received in wholesale warehouse at the acquisition cost.
3) Goods were sold and invoiced in 60 % of value of goods to the customer, from
wholesale warehouse at the selling value in the amount of KM 39 000, plus
17 % of VAT in the amount of KM 6 630, total KM 45 630.
4) Wholesale warehouse was dispensed for sold and delivered goods at acquisition
cost.
5) Receivable was collected from customer (bank statement on turnover in gyro
account).
435
Explanation:
(1) and (1a) for calculation of acquisition of goods.
(1) For dispensing the warehouse.
(2) For selling value of goods.
(3) For dispensing the warehouse at acquisition cost.
(4) For collection from customer.
Example:
1) Goods were acquired from supplier with the invoice in the amount of
KM 52 650 (value of delivery KM 45 000, plus 17 % of VAT KM 7 650). Invo-
ice of transport company for transport of goods to the warehouse amounts to
KM 5 850 (value of service KM 5 000, plus 17 % of VAT, KM 850). Calculated
price difference 15 000 (i.e. margin 30 %).
2) Goods were received in wholesale warehouse at selling value.
3) Goods were sold and invoiced to the customer in 60 % of value of goods from
wholesale warehouse at the selling value in the amount of KM 39 000, plus
17 % of VAT in the amount of KM 6 630, total KM 45 630.
4) Wholesale warehouse was dispensed at the selling value.
5) Receivable from customer was collected (bank statement on turnover in gyro
account).
436
Explanation:
(1) and (1a) for calculation of acquisition of goods.
(2) For dispensing the warehouse.
(3) For selling value of goods.
(4) and (4a) for dispensing the warehouse and realized 60 % of price difference.
21.3.3.2. Revenues from sale of goods in transit
Unlike usual business operations of a legal entity dealing in trading activities,

for which it is characteristic that acquisition of goods is performed for inventories,
and then inventories are delivered to customers, in transition trade traffic, sequence
of business events is different. Wholesale trade, for the known customer and with
whom Sales Contract has been agreed on, on certain type and quantity of goods,
makes a contract on acquisition of given type and quantity of goods with its suppli-
ers. Since it concerns the goods for which the customer is already known, in this
contract, wholesale trade, as place of delivery, mentions warehouse of the customer
for which the goods are acquired. It means that goods which are the subject of acqu-
isition by the wholesale trade, do not get delivered to it nor does it influence the
extent of its inventories. It is exactly this fact, that wholesale trade acquires goods
for which it already has agreed sale, that is, it performs at the same point in time
both acquisition and sale of goods, provides such manner of sale with the charac-
ter of transitional trade traffic from the point of wholesale trade. When a supplier
conducts delivery of goods, as, for him the customer is wholesale trade, it issues
the invoice to it, for delivered goods. Wholesale trade then creates a new invoice,
in accordance with contract which it made with the customer, and submits it to
the customer. From aspect of customer, it concerns usual acquisition. From aspect
of supplier, which has Sales Contract with wholesale trade, it concerns usual sale.
437
Circumstances that goods were delivered not to the warehouse of wholesale
shop but to some other place, designated by wholesale shop, do not at all influence
the character of this sale nor its accounting coverage.
Example:
1) The wholesale shop “A” sells goods in transition to the customer “B”. Delivery
is agreed as fco warehouse of the customer “B”. Acquisition value of these go-
ods according to the supplier’s invoice is KM 10 000, plus 17 % of VAT in the
amount of KM 1 700, total amount KM 11 700, and realized price difference is
KM 3 000 (30 %). Payment of supplier’s invoice and collection from customer
have been performed within agreed period of time.
438
Explanation:
(1) For book entry of goods in transit.
(2) For sold goods in transit.
(3) For costs of sold goods.
(3a) For dispensing the costs of sold goods for realized price difference.
(4) For payment of supplier’s invoice.
21.3.3.3. Revenues from sale of goods in retail shop
In retail shop, the trader most often acquires goods either from producer or trader
from wholesale trade and sells it to the final customer. In the account – Goods in
the shop, goods are presented at selling value, that is, the price with included value
added tax, so called retail price. With regard to valuation of inventories of goods in
retail trade, also requirement of IAS 2 – Inventories, must be satisfied, that invento-
ries are valued at acquisition cost (acquisition value) or net selling value that can be
realized. That is why, together with the account – Goods in the shop, where the go-
ods are presented at selling price with VAT included, there are also always so called
corrections, that is dependant accounts – Calculated price difference in shop and
Calculated VAT in selling price. In balancing, their receivable balance is corrected
for debiting the shop (payable balance of the account – Goods in the shop) and thus
gets the value of trading goods in the shop down to the acquisition cost.
Example:
1) We acquired goods in the value of KM 90 000, variable acquisition costs are KM
10 000. Invoice of supplier amounts to KM 100 000, plus 17 % of VAT in the amo-
unt of KM 17 000, in total, KM 117 000. We received the goods in retail shop with
30 % of price difference in the amount of KM 30 000, and 17 % of VAT is included,
439
so that retail value amounts to KM 152 100. We sold (for cash) 40 % of value of
goods for KM 60 840, where price difference amounts to KM 12 000, and VAT
amounts to KM 8 840.
Explanation:
(1) For calculation of acquisition of goods.
(2) For reception at the shop.
(3) For value of sold goods.
(4) For dispensing from the shop at retail value.
(5) For dispensing of acquisition cost of sold goods for realized VAT.
(6) For dispensing of acquisition cost of sold goods for achieved price difference.
Legal entities registered for the activity of acquisition and sale of wholesale tra-
de and retail trade, usually, at the acquisition, store and receive goods in wholesale
440
warehouse, and only after that, deliver them to shops. Business events in opposite
direction are also possible, in case that goods are again returned to the wholesale
warehouse.
Example:
1) Balance of goods in wholesale warehouse per acquisition cost is KM 200 000.
Goods were issued into the shop in the value of KM 150 000 with the price dif-
ference of KM 30 000 and calculated VAT in the amount of KM 30 600.
2) Goods were sold in shop in 60 % in cash.
3) We deposited cash from sale into gyro account.
4) From shop, goods were returned to the warehouse in the value of 20%.
441
Explanation:
(1) For issued goods in shop.
(2) For realized sale.
(2a)For dispensing the shop at retail values.
(2b)For dispensing of acquisition cost of sold goods for realized VAT and price
difference.
(3) For payment into gyro account.
(4) For goods returned from shop into warehouse.
21.4. FINANCIAL REVENUES

Under financial revenues of legal entity, we imply revenues generated from
ceding assets for use to other entities. These revenues include:
– interests realized on the basis of given loans and credits, including interests
realized on the basis of investments in bonds,
– dividends and interests in profit,
– interests, regular and default, on the basis of receivables from customers and
other receivables,
– positive foreign exchange differences,
– gains from sale of shares and business stakes,
– gains on the basis of value change and disposal of fixed assets,
– other revenues on the basis of placements and financial transactions.
21.4.1. Revenues from interests
In accordance with IAS 18 – Revenues, revenues from interest are recognized

on time proportionally basis, taking into account actual yield on ceded assets, as
already mentioned.
Balance:
Balance in gyro account of legal entity “A” is KM 100 000.
1) Legal entity “A” gave a loan to legal entity “B” in the amount of KM 50 000 with
the repayment period of 3 months with annual interest rate of 12 %. On the basis
of contract, after 3 months, legal entity “B” will repay the loan and pay interests
with VAT. Legal entity “A” issues the invoice to legal entity ”B” for VAT on
calculated interest in order to be entitled to input tax.
442
2) For the first month, legal entity “A” recognized revenue for non-invoiced, but
accrued interest in the amount of KM 500 and issued an invoice to legal entity
„B” for VAT on interests in the amount of KM 85.
3) For the third month, the legal entity “A” recognized revenue for non-invoiced,
but accrued interests in the amount of KM 500 and issued an invoice to the legal
entity “B” for VAT on interests in the amount of KM 85.
4) For third month, legal entity “A” recognized revenue for non-invoiced, but
accrued interests in the amount of KM 500 and issued invoice to the legal entity
“B” for VAT on interests in the amount of KM 85.
5) Legal entity “A” issued an invoice to legal entity “B” for accrued interests for 3
months in the amount of KM 1 500.
6) Legal entity “B” repaid the loan in the amount of KM 50 000, paid interests in
the amount of KM 1 500, plus VAT on interests in the amount of KM 255, total
amount of KM 51 755.
Explanation:
(1) For given loan.
(2) For recognition of accrued, but non-invoiced revenue from interests for first month.
(2a) For issued invoice for first month for VAT on accrued interests.
(3) For recognition of accrued, but non-invoiced revenue from interest for second
month.
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(3a) For issued invoice for second month for VAT on accrued interests.
(4) For recognition of accrued, but non-invoiced revenue from interests for second
month.
(4a) For issued invoice for third month for VAT on accrued interests.
(5) For invoice for accrued interests.
(6) For repaid loan and paid interests, plus VAT.
21.4.2. Positive foreign exchange differences
Positive foreign exchange differences also represent financial revenue. For po-
sitive or negative foreign exchange differences to occur, a legal entity must have
receivables or liabilities in foreign currency and there must be a change in foreign
exchange of domestic currency against the foreign currency. IAS 21 – The Effects
of Changes in Foreign Exchange Rates, prescribes accounting procedure for tran-
sactions in foreign currencies. The basic questions asked in relation with this, are:
 what exchange rate to apply for measurement and recognition of foreign
exchange transactions and
 how to recognize financial output of foreign exchange differences in finan-
cial statements.
In item 8, IAS 21 domestic (national) currency is regarded as functional curren-
cy. In Bosnia and Herzegovina, all transactions are expressed in convertible marks,
and in that respect, transactions expressed in foreign currency are converted into
domestic currency, i.e. into convertible marks, that is, counter value of convertible
marks. Transactions in foreign currencies denominated in foreign currency, and
relate to:
 purchase or sale of product, goods or services;
 borrowing or lending funds;
 completion of non-realized contract in foreign currency;
 acquisition or sale of assets;
 occurrence or payment of liabilities (item 20, IAS 21).
In accordance with items 21 and 22, IAS 21 – The Effects of Changes in Foreign
Exchange Rates, transactions in foreign currencies (if conditions for recognition of
transaction are met in accordance with IFRS) at the initial recognition, recognitions
should be measured in domestic currency with the application of spot foreign exc-
hange rate on the transaction date. For practical reasons, often, average weekly or
monthly foreign exchange rate is used, which is close to the actual exchange rate on
the date of transaction, for example, for all transactions and for all currencies whi-
ch occur in that period. However, if foreign exchange rates change, application of
444
average rate is not appropriate, so the spot exchange rate is applied. The spot exc-
hange rate is defined in item 8, of IAS 21, as exchange rate which is applied on de-
liveries which are taking place immediately. It means that this is the spot rate which
is applied not at the same point, but at the moment of occurrence of transaction.
According to item 8, IAS 21, Monetary items are foreign exchange accounts, re-
ceivables and liabilities, long-term liabilities, provisions. Non-monetary items are,
for example, owner’s securities, inventories, advance payments, property, plants,
equipment and related accounts, goodwill and intangible assets. On each balance
date in item 23, IAS 21, it is required:
 monetary items in foreign currency which were not settled in the same ac-
counting period in which they incurred, they are converted according to clos-
ing exchange rate;
non-monetary items recorded under:
 acquisition costs in foreign currency, presented with the application of for-
eign exchange rate of foreign currency on the transaction date;
 fair value in foreign currency, presented with the application of foreign
exchange rate of foreign currency on the date when the fair value was
determined.
It means that non-monetary items, for example property, plants and equipment,
which are initially recognized and measured at acquisition cost, presented in fore-
ign currency on transaction date, are not subsequently corrected as a result of fo-
reign exchange rate change. Monetary items, for example foreign exchange acco-
unts, receivables and liabilities in foreign currency are corrected in line with closing
foreign exchange rate on the balance date. Closing rate is a spot rate of exchange
on the date of balance sheet (item 8, IAS 21). Usually, in calculating foreign exc-
hange differences, middle, buying and selling rates are used. Middle rate is usually
determined at foreign exchange market. In the accounting, counter values of con-
vertible marks against foreign exchange assets are calculated in accordance with
middle rate. Middle rate is used on balance date in adjusting monetary assets pre-
sented in foreign currencies during period, that is, on balance date. Buying rate is
applied when legal entities sell foreign exchange assets to the bank (commercial
banks and Central Bank of Bosnia and Herzegovina). Selling rate is applied when
legal entities purchase foreign exchange assets from banks. In the account, positive
foreign exchange differences, calculated positive foreign exchange differences are
recorded. In accordance with items 28 and 29, IAS 21 – The Effects of Changes
in Foreign Exchange Rates, positive foreign exchange differences are recognized
in income statement, that is, they represent revenues of accounting period in whi-
ch they incurred. Positive foreign exchange differences as effects, we will achie-
ve if legal entity possesses receivable in foreign currency, i.e. receivables towards
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foreign buyers, in that case, positive foreign exchange difference will occur in case
of devaluation of domestic currency, as, for the same amount of foreign currency, hi-
gher amount in domestic currency will be collected. Opposite to this, in order to have
positive foreign exchange differences in occurrence of foreign liabilities, it is needed
that the rate of domestic currency against foreign currency increases, that is, to have
revaluation, so that settlement of foreign liability requires less domestic currency.
Example:
Customer from USA owes, on the basis of delivered goods, USD 15 000, which,
in accordance with foreign exchange rate, at the point of incurrence of debt-credi-
tor relationships, amounts to KM 18 600. According to the statement from foreign
exchange account, customer paid USD 15 000, which, calculated in accordance
with foreign exchange rate, on the payment day amounts to KM 18 750, as, in the
meantime, foreign exchange rate of convertible mark against USD was changed.
The change of KM 150 represents positive foreign exchange difference.
Explanation:
(1) For positive foreign exchange differences.
21.4.3. Revenues in the amount of realized gains

at sale of shares and business interests
A company purchases shares of other legal entities for various reasons, but most
often for realizing earning per dividends of these companies or resale of shares. As
they may be acquired for long-term business operations of a company, but also for
sale, usual classification of these securities is to long-term securities and securities
which are current assets.
446
Shares classified as long-term financial investments can be subsequently sold.
International Accounting Standard 39 – Financial Instruments: Recognition and
Measurement, treats the problem of accounting coverage of long-term financial
investments. Acquired financial assets are initially recognized and measured at fair
value in accordance with item 43, IAS 39 – Financial Instruments: Measurement
and Recognition. Therefore, if there is active market of fair value financial instru-
ments, that is, shares, it is market price, that is, current price of bid which is quoted
at the active market and which may be regularly and quickly obtained from stock
exchange, dealers, brokerages, economic group, services engaged in determining
price, or regulatory agency. In case of non-existence of active market of investment
in shares, whose price is not quoted at stock exchanges at initial recognition and
after initial recognition, they are measured at the acquisition cost (IAS 39, item 46
c). With the sale, recognition of financial assets entirely seizes, and the difference
between the carrying amount and received fee is recognized in income statement
(IAS 39, item 26), if asset was not previously revalued. This means that in accoun-
ting coverage of sale of shares, so called net principle is respected, so that revenues
from sale of shares, which incur on the basis of sale of shares and expenses related
with sale of shares are not covered at separate accounts, but only the difference is
determined in the account – Losses from sale of shares (when expenses are higher
than revenues) or in the account – revenues in the amount of realized gains from
sale of shares (if expenses are lower than revenues incurred on the date of sale).
Example:
1) Legal entity possesses shares of other legal entities at the acquisition value
(1 000 × 100), KM 100. Through brokerage house, 500 pcs. of shares were sold
for the amount of KM 65 000. Commission of brokerage house amounts to
KM 2 000. Commission was received in gyro account.
Explanation:
(1) For sale and collection of sold shares and book entry of gains.
447
If, at the sale of shares, commissions were collected in the amount lower than
book value of shares, for example KM 45 000, legal entity would present losses
from sale of shares (expenses).
21.4.4. Gains from sale of property, plants and equipment
In accordance with item 67, IAS 16 – Property, Plants and Equipment, book
value of property, plants and equipment should be removed from books at the point
of disposal, which may occur for a number of reasons, for example sale, donation.
Gains or losses which incur at removal from books of some item of property, plants
and equipment, should be included in profit or loss, at the points when this item is
removed from books. Gains are not classified as revenue (item 68, IAS 16). Thus,
in selling property, plants and equipment, revenues and expenses from regular ac-
tivity will not be recognized, and this means that they will be recognized either as
gains or losses which satisfy the definition of revenues or expenses in accordance
with the Framework. Therefore, gains or losses arising from seizure of recognition
of some items of property, plants and equipment, should be determined as the di-
fference between net revenues from disposal and carrying amount of assets (item
71, IAS 16).
Example:
1) Acquisition value of machine is KM 100 000, unwritten-off value (accumulated
depreciation) is KM 80 000. Machine was sold to the customer in line with the
invoice: selling value amounts to KM 30 000, plus 17 % of VAT in the amount
of KM 5 100, total amount KM 35 100.
Explanation:
(1) For sale and removal of equipment from book records.
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21.5. OTHER REVENUES
Some items of revenues which are separately disclosed, are precisely defined in
item 89, IAS 1– Presentation of Financial Statements. In the legal entity, other re-
venues, by their size, may represent significant items, and they are usually allocated
in separate items. Those are:
– revenues from subsidies, grants, subventions, incentives, etc.;
– revenues from written off liabilities;
– surpluses;
– revenues from sale of material, spare parts and small inventory;
– revenues from collection from insurance company;
– revenues from penalties, fines, rewards, withdrawal fees, etc.;
– collected written-off receivables;
– revenues from cancellation of long-term provisions;
– revenues from previous years;
– other revenues.
21.5.1. Revenues from subsidies, grants, subventions, incentives
Accounting of revenues from subsidies, grants and incentives is regulated with

the International Accounting Standard 20 – Accounting For Government Grants
and Disclosure of Government Assistance. Government grants (subventions) are
sometimes named differently, such as, for example, monetary assistance, subsidies
or premiums (item 6, IAS 20). There are many forms of government assistance
which differs in accordance with the type of assistance and conditions related to
the assistance.
Assistance, donations, non-refundable loans may be received in a form of cash
and material values, and they can be from the government, government agency and
similar bodies at local, state or international level. Government grants are measured
at fair value and they are recognized if there is reasonable belief that:
 legal entity will meet the conditions set for provision of assistance and
 assistance is received (item 7, IAS 20).
Government grants are recognized as revenue during period and it is neces-

sary to relate them with the related costs, which need to be covered systematically
from revenues (item 12, IAS20). Government grant, which is received as fees for
expenses and losses which had already incurred, or with the aim of providing im-
mediate financial assistance to the legal entity without future costs on that basis,
is recognized as expense in the period in which it was received (item 20, IAS 20).
449
Government grants related with assets, including non-monetary grants at fair value,
should be recognized in balance sheet by presenting accrued (deferred) revenue
(item 24, IAS 20).
Example:
Legal entity received machine as a grant. Estimated fair value is KM 20 000,
and estimated useful life is 5 years.
Explanation:
(1) For received grant in equipment.
(2) For depreciation of first year.
(3) For transfer into revenues of first year.
Book entry of items (2) and (3) would repeat until full write-off of equipment in
estimated useful life. We conducted book entry in accordance with item 24, IAS-20.
Thus, gift is deferred revenue which every year is brought down to revenue depen-
ding on the amount of depreciation costs.
450
21.5.2. Revenues from written-off liabilities, surpluses and
collected previously written off receivables
According to the provisions of IAS 8, extraordinary revenues cannot include

inventory surpluses, liabilities write-off, collected written-off receivables, etc. This
type of revenue occurs rarely in practice, so that is why it is unusual item in income
statement. IAS-1 item 87 „legal entity shall not present any item from income sta-
tement or from records under extraordinary items“.
21.5.3. Revenues from penalties, fines, rewards, withdrawal fees
Example:
1) Revenues in the amount of KM 600 were collected from supplier, as he failed to
meet the agreed delivery deadline (statement from gyro account).
2) Cash reward was received from Chamber of Commerce for the most successful
design in 2010, in the amount of KM 10 000.
Explanation:
(1) For collected penalties.
(2) For received reward.
21.5.4. Revenues from sale of material, spare parts

and small inventory
Sale of material is not included in usual activities of legal entity. The need for
sale of material occurs occasionally when, as a result of change of assortment,
some previously acquired material for legal entity loses its use value. Keeping such
material, on the one hand, implies storage costs, insurance costs, and the material
itself with the passage of time losses its value. On the other hand, the value of this
material includes immobilized assets of legal entity which, in monetary form could
451
be invested and could generate revenue in form of interest. That is why it is appro-
priate to sell the inventories of material which is not needed. In accounting cove-
rage of sale of material, so called gross principle is applied, although it does not
concern operating revenues. This means that selling value of material, as revenue
which occurs on the basis of sale of material, and expenses related with this revenue
(acquisition value of sold material) are covered with separate accounts. It means
that the account of expenses – Acquisition value of sold material will be payable,
and account of Inventories of material will be receivable. If inventories prior to
their sale, were recorded at planned prices, account – Acquisition value of sold ma-
terial would be corrected for the discrepancy from the account – Price discrepancy.
Examples for book entry of sale of material are provided in the sixth chapter.
In the assumed case, sale of spare parts and small inventory is also performed in
accordance with gross principle; these revenues from sale of spare parts and small
inventory should be matched against expenses, and we will record them in the
account – Acquisition value of sold spare parts and small inventory. This account
will be payable and account – Inventories of spare parts or small inventory will
be receivable. In accordance with item 59, IAS 37 and item 98, IAS 1, arises that
cancelation of provisions is recognized as revenue and represents significant item
which should be presented separately.
21.5.5. Other Revenues
Apart from the aforementioned, in business operations of legal entity, some

other revenues may occur related with the activity of legal entity, which we record
in the account – Other revenues. For example, those are:
– revenues from subsequently approved discounts, rebate and other discounts;
– revenues based on returned sold products and goods (which were sold in the
previous year);
– revenues from receivables of some persons for shortages;
– revenues from cancellation of revaluation reserves;
– revenues generated on the basis of accounting assessment;
– revenues from cancellation of value correction of inventories, etc.
21.5.5.1. Revenues from cancellation of value correction of inventories
In accordance with item 28, IAS 2 – Inventories, inventories should be written

off below the cost p to the net selling value, if, at the end of the current business
year, net selling value is lower. With respecting prudence principle, that is, lower
value in the following business year, new assessment of the inventories value is
452
conducted. When there are no longer circumstances which, in the previous acco-
unting period, conditioned inventories write off below the cost up to the net selling
value, or when there are clear evidences on increase of net selling value as a result
of changed economic circumstances, written off amount is cancelled, so that the
new bookkeeping value is equal to inventories cost presented in the previous acco-
unting period or net selling value, depending on what is lower from those two at
the point of re-assessment (item 33, IAS 2). In determining items of other revenues,
the main condition for recognition is that, as a consequence, they had an increase of
economic benefits in a form of increase of assets or liabilities.

AND UNDERSTANDING:
1. Define the concept of revenues and explain recognition and valuation of

revenues.
2. How do we classify revenues correctly?
3. Explain the transactions which, as a consequence, have recognition of
regular revenues.
4. What are the gains?
5. Explain the revenues from interests, royalties and dividends.
6. Explain positive foreign exchange differences.
7. What is the condition for recognition of items of other revenues?
453
OF EXPENSES
22.1. DEFINITION AND STRUCTURE OE EXPENSES

Expenses are one of the elements of measuring business performance of legal en-
tities. Expenses are decreases of economic benefits during the accounting period
in a form of outflow, or depletion of assets or incurrence of liabilities, which leads
to equity decrease, except those associated with the allocation of participants in
equity, as already mentioned (Framework).
From the definition of expenses arises that each decrease of assets or increase
of liabilities does not have a characteristic of expense. This characteristic applies
only to those decreases of assets or increases of liabilities, which, as a consequence,
have decrease of economic benefits. Definition of expenses should be interpreted
in accordance with double entry bookkeeping principle on double-sided observati-
on of occurred business event. In double entry bookkeeping system, expenses are
presented simultaneously with decrease of assets or increase of liabilities which, as
a consequence have and outflow of economic benefit in a form of equity decrease.
But, it is exactly double sided observation of occurred business event in double en-
try bookkeeping system, that requires a response for each business event which, as
a consequence has an outflow or decrease of assets or increase of liabilities, also as
a consequence has occurrence of the concept - expenses. So, for example, decrease
of assets / cash in gyro account as a result of liabilities settlement towards suppli-
er, for a consequence, does not have incurrence of expenses, but only decrease of
liabilities This occurred business event, as a consequence has a decrease by the
same amount of economic benefits in available assets (cash outflow) and increase
of economic benefit as a result of liabilities decrease. But, payment of interests le-
ads to decrease of assets / cash, and as a consequence, has incurrence of expenses.
Balance of assets / cash is a measure of expenses. With the liabilities, for example,
increase of liabilities towards the supplier on the basis of invoice for received mate-
rial, does not have incurrence of expenses as a consequence, but increase of assets,
or increase of liabilities towards the supplier for default interest, has a consequence
of incurrence of expenses. Increase of liabilities for dividend, on the basis of the
decision of shareholder’s assembly, does not have incurrence of expenses as a con-
sequence, but decrease of equity on the basis of distribution to the shareholders.
Definition of expenses encompasses expenses arising from regular activity and
losses which satisfy the definition of expenses, and may, but don’t have to arise
from regular activities of a legal entity, as already mentioned. So, expenses ari-
sing from regular activity of a legal entity are, for example, depreciation costs,
454
salaries costs and costs of sold product. They, are usually in a form of fee or de-
crease of assets, such as cash and cash equivalents, property, plants, equipment,
inventories.
Non-realized losses satisfy the definition of expenses, as they lead to decrease of
assets or increase of liabilities, for example, losses arising from foreign exchange
rate, associated with the relations of legal entity with foreign suppliers or foreign
customers. Losses which satisfy the definition of expenses are also those arising
from sale of long-term assets and they are usually recognized and presented at
so called net basis, after deduction by appropriate revenues. Losses, include, for
example, also losses occurred as a consequence of disasters, fires, floods, and they
are not arising from regular activity of the legal entity, which usually has a form of
expenses.
For legal entity to ensure more reliable and more relevant information, further
classification of costs is conducted, that is, expenses, with the aim of emphasizing
performance components, according to the natural types of costs method or cost
method of sold products (102, MIAS 1). As already mentioned, for the needs of
balancing classification of expenses according to the function, that is, “costs of sold
products” method, the following types of expenses are mentioned:
 costs of sold products,
 distribution costs,
 administrative costs and
 other expenses.
As the minimum information, a legal entity should disclose in its income sta-
tement costs of sold products separately from other costs, that is, expenses. Costs
of sold products, that is, expenses, are associated with realized revenues from sale
which caused them in the accounting period when the products were sold.
Time costs, that is, expenses of period, regardless of revenues from sale of pro-
ducts, burden the period in which they incurred. Method and criteria of classifica-
tion of costs are determined with the type of activity which legal entity performs.
In classification of expenses, in all activities, principle that structure of expenses is
usually adjusted to the structure of revenues is taken into account. According to the
activity, and in accordance with the principle, we present comparative structure of
expenses and revenues:
PRODUCTION ACTIVITY
EXPENSES REVENUES
Costs of sold products
Revenues from sale of products
Costs of period
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TRADE ACTIVITY
EXPENSES REVENUES
Acquisition cost for sold goods

Revenues from sale of goods
Trade costs (distribution)
SERVICE ACTIVITY
EXPENSES REVENUES
 Costs of provided services Revenues from provided services
Legal entities performing all the aforementioned activities, will classify expen-
ses and revenues in the mentioned manner, as management requires information
on performance of certain activities. With the mentioned classification of expen-
ses and revenues, which is determined by the activity that legal entity performs in
all legal entities, usually, mutually associate and classify the following types of
expenses and revenues:
Operating expense Operating revenues

Financial expenses Financial revenues
Other expenses Other revenues
22.2. OPERATING EXPENSES

22.2.1. Costs of sold products
Value of inventories of final products is transferred, that is, recorded in bo-

oks on the expenses through the account – Costs of sold products at the point
when final products are sold, that is, when the revenues are also recognized on the
basis of sale of final products. Usually, expenses are recognized at the moment
of their incurrence, but significant condition for recognition of expenses is that
customer was enabled to dispose with sold and delivered goods, that is, there is
significant transfer of risk and benefit from ownership over products to the cu-
stomer. It can happen that also for sold, but undelivered final products, expen-
ses and revenues should be recognized. In these cases, warehouse of final pro-
ducts should be discharged, and final products which have become someone else’s
asset, should be recorded in off balance records until physical take over by the
customer.
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Recognition of expenses based on costs of sold products, we show as follows:
22.2.2. Costs of provided (calculated) services
Legal entities engaged in service activity, at the end of the accounting period,
that is, at the end of the business year, transfer totally incurred costs presented in
the accounts of natural types of costs, in which operating costs are presented throu-
gh the account – Allocation of costs, to the account of expenses, whose title is Costs
of provided services. Costs of provided services are recognized in expenses when
the conditions are met for recognition of revenues from provision of services. Usu-
ally, costs of provided services will be recognized, once the service is completed.
Exceptionally, legal entities which generate revenues by providing services (under
service companies, we do not imply construction, installation and similar) may, at
the end of the business year, in the account of assets Inventories of non-finalized
services, maintain costs which do not relate to partially completed services which
are not calculated, that is, for which the revenue was not recognized in the same
period. Costs of inventories of non-calculated services, do not include managerial
and sales costs. However, if there is a reliable possibility to measure the degree
of completion of services on the balancing day with partially completed services,
costs of provided services will be calculated and recognized proportionally to the
percentage of recognized revenues.
22.2.3. Acquisition cost (acquisition value)

of sold goods as expenses in income statement
Acquisition costs of sold goods, as expenses, are recorded in the account Acqu-
isition cost (acquisition value) of sold goods. Property and artistic products which
are held for further sale are recorded the same as trade goods. Acquisition cost of
sold goods is recognized at the point of sale and delivery of goods, that is, when
the conditions are met for recognition of revenues from sale of goods. Significant
condition for transfer of acquisition cost to expenses, i.e. recognition of revenues is
also in the fact that significant part of risk and benefit from ownership over goods
has been transferred to the customer. However, it can happen that also for sold, and
non-delivered goods expenses and revenues should be recognized, so in that case,
457
inventories of trade goods should be discharged, and goods which became some-
one else’s asset, should be recorded in off balance records, until physical takeover
of goods by the customer. In case that goods are on the way to the customer, and
significant part of risk and benefit from ownership over goods was not transferred
to the customers, warehouse of goods for issued goods should be discharged, and
account – Goods in transit should be payable. Expense is recognized at the point of
meeting the conditions for recognition of revenues from sale of goods.
22.2.4. Distribution costs
In accordance with item 10, IAS 2 – Inventories, cost of inventories of goods

should include all the costs of acquisition of trade goods which incurred by getting
inventories to the current location and current balance for intended sale. In item 12,
IAS 2 – Inventories, it is stated that general costs of trade activity are not inclu-
ded in the acquisition cost of trade goods, as they do not contribute to getting the
inventories into the condition for sale. Those are distribution costs, for example,
depreciation of building and equipment in trade, salaries of employees in the shop,
transport costs of goods to the customer, costs of loading and unloading of goods to
the customer and other costs related to sale and distribution of goods.
General costs of trade activity during period are presented at the moment of in-
currence according to the criteria of natural type of costs in the accounts of certain
natural type of costs, for which general title of costs or operating costs, is accepted.
General trade costs, are transferred through the account – Allocation of costs in cal-
culation of business result, to the account – Distribution costs, that is, they become
expenses directly in income statement of the period in which they incurred.
Example:
1) General costs of trade activity in total amount of KM 20 00 were recorded in the
accounts of costs per natural types. General costs should be transferred at the
expense of the account – Distribution costs in calculation of business result.
458
Explanation:
(1) For transfer of distribution costs.
(2) For closing account – General trade costs.
22.2.5. Costs of management, sale and administration

In accordance with items 10 and 12, IAS 2 – Inventories, inventories of non-fina-
lized production and final products are initially valued at production costs (conversi-
on costs). According to item 16, IAS 2 – Inventories, production costs of inventories
do not include general costs of management, sale and administration, as they do not
contribute directly to the production process, but they are recognized as expenses
of period in the period in which they incurred, which we elaborated thoroughly in
the chapter related to cost accounting. These costs include general sales costs (costs
of selling section, commercial costs, costs of transport of products to the customer
and similar costs) and managerial costs and other administrative costs (accounting,
finance, acquisition and other). These costs, during the period, that is, during the bu-
siness year, are recorded at the moment of their incurrence, in the accounts of costs
per natural types, at which general management, sales and administration costs are
presented. In calculation of business result, usually, at the end of the business year,
totally incurred general costs of management, sale and administration, through the
account – Allocation of costs for calculation of business result are transferred to the
account of expenses – Costs of sale, management and administration and they are
covered from realized revenues from sale of final products.
Example:
During the accounting period, accounts of costs per natural types recorded ge-
neral costs of management, sale and administration in the amount of KM 15 000.
Make a transfer of general costs by debiting the account of expenses – Costs of
management, sale and administration with the aim of calculating business result.
459
Explanation:
(1) For transfer of general costs of management, sale and administration.
(2) For closing the account – General costs of management, sale and administration.
The amount of fixed general production costs for unused normal capacity is in-
cluded in the costs which are compensated from realized revenues in the period in
which they incurred. In accordance with item 12, IAS 2 – Inventories, the amount
of fixed general production costs for used normal capacity is included in the costs
of products. The amount of fixed general production costs for unused capacity is
transferred through the account – Allocation of costs in calculation of business
result, to the account – Fixed costs for unused normal capacity, that is, they are
recognized as expenses of period in which they incurred.
22.2.6. Inventory Value Adjustment

In accordance with item 9, IAS 2 – Inventories, inventories should be presented
at the cost of net selling value, depending on which amount is lower. Therefore, at
the end of the year, presented costs of inventories in bookkeeping should be com-
pared with net selling value of these inventories. In accordance with item 6, IAS
2 – Inventories, net selling value implies estimated selling price during regular bu-
siness operations, decreased by estimated costs of finalization and estimated costs,
necessary for sale to take place. The need for getting inventories to the lower selling
(market) value may be a consequence of price decline, damage, partial or entire
obsolete. For application of the lower value principle, legal entities usually have to,
at the end of the year, compare book values for certain types of material with esti-
mated, at the market, possible net selling value. For material, spare parts and small
inventory, market price is the price of new acquisition with included acquisition
costs, as they, if they exist, are included in the bookkeeping value. Comparison of
these values is conducted individually for each type of material.
In comparing book value and net selling value of inventories of material, legal
entity should not make corrections from higher values to lower market values, if it
concerns quantities of inventories intended for production of products for which the-
re is expectation that, with included bookkeeping values of material, final products
will be sold at the price higher than product costs (item 32, IAS 2 – Inventories).
With this assumption, acquisition cost, presented in bookkeeping, will be compen-
sated from revenues from sale for whose production material is used. It means that
in this case losses are not transferred into balance sheet under item of inventories.
Stock taking of material with data on type of material, quantity of inventories,
bookkeeping values and net selling values and the sum for which value correction
would be corrected, is approved by the management and responsible authorities
and they then represent a document for book entry in accounting records.
460
Example:
On the basis of stock taking and material analysis, that is, by comparing carrying
amounts with net selling values at the end of the year, materials have been selected,
on which decrease of carrying amounts should be presented as follows:
Value adjustment
for unit of measur
Types of material
Carrying amount
Reason for value

Acquisition cost
Unit of measure
for inventories
Market value
-expenses -
correction
Quantity
Material A kilo 100 30 3 000 Price decl 1 000 2 000

Material B piece 40 20 8 000 damage 2 000 6 000
Material C kilo 200 10 2 000 obsolete 0 2 000
Total 13 000 3 000 10 000
Explanation:
(1) For value adjustment of inventories of material on 31 December of current year.
Decrease of bookkeeping values based on damages and obsolence we presented
directly in the account – Inventories of material. For these types of material, value
correction should also be recorded in sub-ledger bookkeeping records. We presen-
ted value correction as a result of price decline in the account – Value correction of
inventories of material. In this way, bookkeeping provides data for possible correc-
tions in the following year in case of upward price change. Also, data on acquisition
cost is kept in bookkeeping, also correction of that cost and on the amount of net
selling (market) value on which acquisition cost was corrected. In case that increase
461
of market price occurs in the following year, another increase of inventories value
of material may be performed only up to the amount of recognized initial acquisiti-
on cost. (book entry would be performed in a way that account of value correction
of inventories of material is payable, and account Other revenues is receivable).
Therefore, general approach in item 34, IAS 2 – Inventories, that “amount of any
write off (value) of inventories on the net selling value and all possible losses of
inventories is entered in books as expense in the period in which write off and loss
occurred”, is practically applied also on inventories of non-finalized production,
final products and trade goods.
Thus, in the bookkeeping of presented costs of inventories with net selling va-
lues, correction should be carried for each type of inventories of non-finalized pro-
duction and final products. Value correction of inventories of non-finalized produc-
tion and final products is conducted if net selling (market) value is lower than the
amount presented in bookkeeping records. Carrying amounts at which inventories
of non-finalized production and inventories of final products are recorded, are the
amounts of product costs for certain type of inventories. Procedure of comparing
carrying amounts with estimated market values is more difficult for inventories
of non-finalized production, as, usually the price of final products is known at the
market. With the aim of comparing with net selling price of final product, in this
case, estimated costs required for completion of that final product, are added to the
actual amounts of costs of non-finalized product. In determining net selling value,
selling price, at which certain final products are sold, should be reduced for costs
that the producer will have, and they are directly associated with sale, for example,
transport costs to the customer, packaging and similar. Comparison of carrying
amount for inventories of non-finalized production and final products, at the end of
the business year, with net selling (market) prices, we show as following:
Bookkeeping value
Value correction
Type of product
selling price for

unit of product
sellin price of
Estimated net
Estimated net
of products costs
– expenses –
inventories
Quantity
Actual costs
finalization
production
Estimated
Total
costs
costs
Non-final.
20 12 000 9 000 21 000 900 18 000 3 000
products A
Final
50 40 000 – 40 000 900 45 000 –
products A
Non-final.
10 7 000 3 000 10 000 1 100 11 000 –
products B
Final
30 35 000 – 35 000 1 100 33 000 2 000
products B
Total 94 000 12 000 106 000 107 000 5 000
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Explanation:
(1) Value adjustment of non-finalized products and final products.
22.2.7. Other operating expenses
In the account – Other operating expenses, replacement costs of final products

and trade goods within warranty period, will be recorded. At the end of the acco-
unting period, such costs will be entirely transferred to the account payable – Other
operating expenses and account of Inventories of final products or Inventories of
trade goods will be receivable. In accordance with item 16, IAS 2 – Inventories,
costs excluded from inventory cost, and which are recognized as expense of peri-
od, for example, unusual amount of wastage of material, costs of goods or other
costs exceeding determined standards will be transferred into the account Other
operating expenses. Such costs, at the end of the accounting period, are entirely
transferred to the account payable – Other operating expenses, and account recei-
vable – Allocation of costs in calculation of business result.
22.3. FINANCIAL EXPENSES

Within expense financing (cost financing), amounts of losses are presented,
when legal entity holds shares or business interests in associated and non-asso-
ciated companies. Financial expenses also occurs on the basis of use of borrowed
463
sources of assets. Expense financing, that is, borrowing costs are amounts of fees
paid by the legal entity as interests for use of loans and credits from relationship
with associated companies.
Expenses (losses) are also recognized from investments in non-associated
companies, for example, investments in shares and interests of non-associated
companies, discounts at sale of securities, expenses from interests for use of lo-
ans and credits taken from non-associated companies, negative foreign exchange
differences, expenses (losses) from sale of shares and business interests and dis-
counts (losses) in receivables before contract is due and other financial expenses,
for example default interests as a result of deferred payment of liabilities towards
suppliers and other liabilities (salaries to employees, taxes and other), liabilities
associated with currency provision of stock exchange services, issue of securities
and other.
Principles on recognition of financing costs, that is, borrowing costs in ex-
penses of legal entity are contained in the International Accounting Standard 23
– Borrowing Costs. According to so called basic procedure, borrowing costs are
presented as expenses of period in which they incurred, that is, which they re-
late to. Permitted alternative procedure may be applied with certain conditions.
Borrowing costs, usually interests, according to the allowed procedure, may, with
certain conditions, be included in inventories and in cost of fixed assets. This pro-
cedure is referred to as capitalization of borrowing costs. Their recognition in re-
venues is deferred until sale of inventories takes place and in the period of depre-
ciation, when they are included in acquisition costs of assets which are liable to
depreciation.
22.3.1. Interests
Interests, regular and default, which a legal entity pays to other entities, have
a characteristic of fee for borrowed financial assets. The characteristic of use of
borrowed assets also exists in each deferred payment of liabilities towards suppliers
and other creditors which may, but don’t have to, have as a consequence, payment
of default interests. Interests also encompass expenses incurred on the basis of re-
valuation, that is, application of currency provision of agreed liability. Interests are
expenses, which are included in expenses of period, on time proportional basis, i.e.
in accordance with the period of time they relate to.
Default interests are interests paid by the debtor who is late with fulfillment of
monetary liability, so, apart from the principal, the debtor also owes default inte-
rests at the rate determined by the law. In accordance with principle of including
the interests into expenses, on time proportional basis, legal entity, at the end of
the period, that is, at the end of the business year, must calculate interests on used
464
borrowed assets, that is, for all liabilities, on which interests should be paid, regular
or default, proportionally to the period of time that has passed, regardless of whet-
her payment of interest was agreed in that period.
Interest on long-term loans is paid together with the installment, that is, at the
payment of annuity, which means on semi annual basis. However, it is necessary
to calculate and record the amount of interests which belong to each month, at the
expense of financial expenses. Liability for payment of this interest is recorded in
the account ADI – Accrued interests.
Described book entries may be presented as follows:
In business practice, liabilities for interests are entered in books in double

manner or in the separate account of liability, or, however, in the same account,
in which initial (main) liability has been recorded. Occasionally, there are rea-
sons for merging liabilities into a single account in order to have an insight in
total debt at one place. Therefore, in organizational terms, accounting may be set
up in such manner that they are monitored in sub-ledger accounts, while acco-
unt of financing sources provides and insight in overall liabilities with interest
included.
Example:
1) calculation of interests was received from suppliers for agreed liability with
basis of purchase of goods with deferred payment of 120 days. Interest for this
period is 2 %, that is, KM 2 000 from principal, which amounts to KM 100 000.
VAT was calculated in the amount of KM 340.
465
Explanation:
(1) For costs of interests according to the calculation of supplier.
Example:
1) Calculation of default interests was received from insurance company, due to

non timely payment of insurance, in the amount of KM 1 740.
Explanation:
(1) For expenses of default interests.
22.3.2. Negative foreign exchange differences
Liabilities agreed in foreign means of payment (foreign exchange) can represent

a basis for occurrence of negative foreign exchange differences. Negative foreign
exchange differences occur when liabilities towards foreign creditors or foreign-su-
ppliers, previously recorded at one exchange rate, and paid or balanced at another,
higher exchange rate. Change of foreign exchange rate occurs either as a result of
466
devaluation of national currency, in which book records are kept, or as a result of
application of market, that is, fluctuating, foreign exchange rate (so called floating
rate). The difference between the amount at which liability was recorded and amo-
unt of liability obtained with application of new higher exchange rate, at which
liability must be paid or balanced, represents financial expense of period in which
change of exchange rate occurred. For the amount of negative FX difference, the
amount of liabilities and financial expenses should be increased.
The scheme presentation of book entries may be presented as follows:
Example:
1) Debt towards foreign supplier amounts to USD 10 000, that is, KM 12 400,
calculated in accordance with foreign exchange rate on the day of liability incu-
rrence. On the day of liability settlement, foreign exchange rate of USD amo-
unts to KM 1,25 for dollar. Calculate negative FX difference.
1) According to the statement from foreign exchange account, KM 12 500, that is,
USD 10 000 was paid out and calculated in accordance with foreign exchange
rate of USD 1,25 for KM 1. Calculation of negative FX difference:
1 Dec 10 000 × 1,24 = 12 400
15 Dec 10 000 × 1,25 = 12 500
Negative FX is KM 100.
467
Negative foreign exchange differences may occur on the basis of receivables
presented in foreign exchange currencies. Namely, if revaluation of national cu-
rrency occurs, or, on the other hand, if floating foreign exchange rate declines, the
exchange rate at which receivables will be collected or balanced, will be lower
than exchange rate used in their book entry. Negative foreign exchange difference
which occurs as a consequence, is financial expense of accounting period. In balan-
cing foreign receivables, for the amount of negative foreign exchange difference,
decrease of receivables and increase of financial expenses is recorded in books, and
collection of receivables at the exchange rate lower than exchange rate applied at
previous balancing, is recorded in the following manner:
1) Receivables from foreign customers amount to USD 8 000, which, re-calcu-

lated at the exchange rate on the day of incurrence of receivables, amounts to
KM 10 000. Receivable, for the needs of balancing, is calculated at the exchange
rate of KM 1,24 for 1 USD, which is effective on the day 31 December. Calcu-
late and enter in books negative foreign exchange difference:
01 Dec. 8 000 × 1,25 = 10 000

31 Dec. 8 000 × 1,24 = 9 920
Negative FX difference is KM 80
Explanation:
(1) For negative FX differences.
468
Foreign exchange receivables and foreign exchange liabilities are presented in
accounting records both in foreign currency and convertible marks, with the appli-
cation of middle FX rate issued by the Central Bank of Bosnia and Herzegovina.
Although in foreign exchange liabilities and receivables, FX differences occur at
each change of middle rate, from provisions of foreign exchange regulation and
from International Accounting Standard 21 – The Effects of Changes in Foreign
Exchange Rates, arises that legal entities are obliged to present foreign exchan-
ge liabilities and foreign exchange receivables at the middle rate of foreign cu-
rrency, effective on the last day of the accounting period, that is, year (spot FX
rate on balance date) only at the end of the accounting period and at the end of
the year.
22.3.3. Losses from impaired value and disposal of fixed assets
Accounting principles on value adjustment of assets, that is, on expenses (lo-

sses) on the basis of impairment of assets, are contained in International Accoun-
ting Standard – Impairment of Assets and in several other international accounting
standards.
Although by its title, International Accounting Standard 36 refers to the fact
that it concerns a general standard which is applied on all forms of assets, it is not
the case, as in item 2 of this standard, it is stated that it is applied in accounting for
impairment of all assets, except in following cases:
a) inventories on which international accounting standard 2 is applied – In-
ventories;
b) assets arising from construction contracts on which International Accounting
Standard 11 is applied – Construction contracts;
c) deferred tax assets, on which Accounting Standard 12 is applied – Profit
Tax;
d) assets arising from employee benefits on which International Accounting
Standard 19 is applied – Employees benefits;
e) financial instruments encompassed within a scope of International Accoun-
ting Standards 39 – Financial Instruments: Recognition and Measurement;
f) investments in property, which are measured at fair value on which Interna-
tional Accounting Standard 41 is applied – Investments in Property ;
g) biological assets associated with agricultural activity, carried at fair value de-
creased by estimated costs of sale on which International Accounting Stan-
dard 41 is applied – Agriculture;
h) deferred acquisition costs and intangible assets related with insurance and
contract rights within insurance contract which are encompassed within a
scope of IFRS 4 – Insurance Contracts;
469
i) non-current assets (or group for disposal) classified as assets held for sale in
accordance with IFRS 5 – Non-Current Assets Held for Sale and Disconti-
nued Operations.
It follows from the aforementioned that International Accounting Standard 36

– Impairment of Assets is practically applied on tangible non-current assets and
intangible non-current assets and in accordance with item 4, IAS 36, is applied on
financial assets classified as:
a. dependant companies, as defined in IAS 27 – Consolidated and Separate
Financial Statements,
b. associated companies, as defined in IAS 28 – Investments in Associates, and
c. joint investments, as defined in IAS 31 – Interests in Joint Ventures.
IAS 39 is applied for value impairment of other financial assets. Although in

items 2 and 4 of International Accounting Standard 36 – Impairment of Assets is
not explicitly mentioned, however, from the content itself, generally arises that this
standard is not applied on receivables from customers. Principles of Accounting
Standard 18 – Revenues, are applied on these assets, which expresses principles
on recognition of revenues on the basis of sale of products, goods and provision of
services.
22.3.3.1. Losses from impairment and disposal of property,

plants and equipment
22.3.3.1.1. Losses from impairment of property, plants and equipment
For value adjustment of property, plants and equipment, after initial recogni-
tion, elements of International Accounting Standard 36 – Impairment of Assets
should be respected. Lower value principle is also applied here, which means that
in accounting records, the value, i.e. carrying amount is compared with recoverable
amount. In item 6 of International Accounting Standard 36 – Impairment of Assets,
recoverable amount of assets is the higher amount between selling value of asset
and its value in use. For application of this definition of recoverable value, in the
same item of International Accounting Standard 36 – definitions of net selling va-
lue and value in use are also provided.
Net selling value (fair value less costs of sale) is the amount that can be obta-
ined from sale of some asset, in market transaction between knowledgeable and
willing parties, less costs of sale. Sale costs include direct costs of dismantlement
and similar.
470
Value in use is current value of estimated future cash flows expected from use
of assets. For estimate of future cash flows and calculation of their current value,
principles of calculation contained in definitions of items 30-57 of International
Accounting Standard 36 – Impairment of Assets, are applied. For explanation of
lower value principle for property, plants and equipment, we will use the example,
in which we will assume that value in use is comprised of nominal amounts of de-
preciation in remaining useful life and nominal amount of estimated revenue at the
end of useful life, that will be realized from sale.
For items and objects used in legal entity as fixed assets and for which it is
assumed that they will be used in planned useful life, usually, while they are
in use, there will be no need for downward correction of net carrying amount,
as return of that amount is ensured in estimated useful life. The need for va-
lue adjustment may occur most often with equipment or buildings, in which
the previously estimated depreciation life has been decreased, for example, as
a result of economic or ecologic reasons or damages or technical-technological
obsolete.
Example:
In legal entity “A” on the day 31 December of current year, equipment is in
use for which initially estimated useful life was 10 years, and annual depreciation
rate is 10 %. On the day 31 December of current year, three years of use passed.
Carrying amounts on the day 31 December of current year.
– Acquisition value (gross carrying amount) 112 000
– Minus value correction (accumulated depreciation) (33600)
– Carrying value (net carrying value) 78 400
On the day of 31 December of current year (day of assessment verification) it

is estimated that due to its obsolete, equipment will be in use five years the most.
Previous estimate of useful life of 10 years was reduced to 8 years. On the basis of
these data, the amount of return should be verified for this equipment, that is reco-
verable amount. We will apply the following formula:
By comparing calculated recoverable amount with net carrying amount on

the day 31 December of current year, we see that recoverable amount is lower by
471
(78 400 – 70 000), KM 8 400. In the example we assumed that at the end of useful
life insignificant amount of revenues will be realized from sale, so it is neglected.
From example arises that the company should, on the day 31 December of current
year present expenses from value adjustment of equipment , that is, losses from
impairment of equipment value. In item 59 of International Accounting Standard
36 – Impairment of Assets, requirements are presented that, if and only if reco-
verable value of assets is lower than its carrying value, carrying value should be
decreased to recoverable value. This decrease represents the loss because of value
impairment. In accordance with items 60 and 61, IAS 36 – Impairment of Assets,
loss as a result of impairment of value of non-revalued asset, should be recognized
immediately as an expense in income statement.
In presented example, given that new estimated useful life was decreased from
10 to 8 years, for calculation of depreciation in remaining useful life, instead of
depreciation rate of 10 %, rate of 12.5% was applied.
22.3.3.1.2. Losses from disposal (sale) of property, plants and equipment
A legal entity has an interest to sell its non-current assets which it no longer
needs. By selling them, it avoids future costs such as depreciation, maintenance
and insurance, for example, and gets a possibility to invest the funds invested in
them, in the interest or to use them in different manner. Sale is performed based on
the decision of management, which also determines the manner of sale in accor-
dance with legislative regulation. Selling value usually differs from carrying value
of property, plants and equipment. If sale takes place at the value which is lower
than carrying value of property, plants and equipment, losses are recognized to the
amount of the difference between higher carrying value and lower selling value of
property, plants and equipment (IAS 16, item 71).
Sale of property, plants and equipments with loss, is covered in accounting terms
by debiting the account – Customers for selling value, account – Value correction
of property, plants and equipment for written off value, account – Losses from sale
of property, plants and equipment for the difference between carrying value and
selling value, while for acquisition value, we credit the account – Property, plants
and equipment.
472
Book entries are presented as follows:
(1) sale of property, plants and equipment with loss.
22.4. OTHER EXPENSES

Expenses which are separately disclosed are precisely defined in item 103, IAS
1 – Presentation of Financial Statements. Other expenses may represent significant
items in total expenses of legal entity, and they are usually allocated to the separate
group of expenses – Other expenses.
Those are:
– acquisition value of sold material, spare parts and inventory,
– donation expenses,
– shortages,
– fines, penalties and damage compensation,
– approved subsequent discounts to customers,
– write-off of non-performing receivables and
– other expenses.
473
22.4.1. Acquisition value of sold material,
spare parts and small inventory
Items related to acquisition value of sold material, spare parts and small inven-
tory were elaborated earlier in the book.
22.4.2. Donation expenses
This account is used in case of donations, that is, grants. In accordance with
legal regulation, VAT is calculated on donation.
Example:
The machine was donated with the acquisition value of KM 10 000. Value
correction (accumulated depreciation) amounts to KM 7 000. We calculated 17% of
VAT on carrying value of machine, in the amount of KM 510.
Explanation:
(1) For removal of donated equipment from book records.
(2) For calculation of VAT at the burden of expenses.
If we grant an asset without bookkeeping records, that is, an asset from off-ba-
lance records, we will remove an asset from off-balance records on the basis of the
decision made by the management of legal entity, and market value at the point of
grant provision, is taken as base for calculation of VAT.
474
22.4.3. Shortages
The actual balance of legal entity is determined with stock taking which is
performed by inventory commissions. With making comparisons of bookkeeping
balance with actual balance, determined with stock taking, the commission de-
termines inventory differences as surplus or shortage of property. Inventory lists
have characteristics of bookkeeping documents. Shortage of assets, for example,
non-current tangible assets, inventories, cash and cash equivalents, with which
the balance presented in bookkeeping records is higher than actual determined
balance with the inventory. The difference between these two balances is shor-
tage for which, in the accounts of assets, decrease of assets is presented, and in
the account of expenses – shortages, increase of expenses is recorded. After re-
cording shortage in books, bookkeeping balance is adjusted to actual balance de-
termined in inventory. For occurred shortage, responsible person might be held
as responsible, so in that assumed case, account of receivables from employees
for shortages will be payable for the missing amount of money or for non wri-
tten off value of tangible non-current assets and inventories, with prescribed
calculated liabilities for VAT, for which account – Liability for VAT, will be
receivable.
Example:
Stock tacking determined shortage of goods in the retail shop at the retail value
of KM 1 404 with calculated price difference in the amount of KM 200 KM and
VAT in the amount of KM 204. For determined shortage, the following is burdened:
a) expense,
b) responsible person.

a)
475
Explanation:
(1) For shortage, debit entry of expenses.
b)
Explanation:
(1) For shortage at the expense of responsible person.
(2) For collection of receivables.
(3) For cash payment in gyro account.
(4) For paid VAT liability.
476
It is necessary to note that shortages are calculated and recognized in accor-
dance with the method of average weighted prices from tax regulation aspect. The
shortage does not encompass the value of calculated outage, ullage, defect and
breakage up to the amount determined with appropriate standards in accordance
with tax regulations determined by the Book of Rules on Accounting, which are
recorded by debiting appropriate accounts of costs per natural types.
22.4.4. Fines, penalties and damage compensation
Fines for economic offence, penalties, freights and damage compensations to

legal and physical entities, which a legal entity perpetrates by its activities, damage
compensation to its employees and similar fees that may occur in its business ope-
rations, and which a legal entity pays out at its expense, are presented as other ex-
penses. Legal entity shall compensate for such payments from revenues of period in
which such expenditure incurred. Expense should be presented before the payment
itself, when liability occurs. Expenses encompass total gross amounts of damage
compensations, penalties and fines for which there is a decision, contract, decision
from which it is probable that there will be outflow of resources from legal entity,
on the basis of those documents. Book entry may be performed in such manner that
groups of accounts of Other expenses are payable, that is, account – Fines, penalties
and damage compensation, and that account of liabilities is receivable or imme-
diate receivable of the account of monetary assets (for paid fines, damages, etc.).
Subsequent discounts to customers also have a characteristic of other expenses.
22.4.5. Non-performing receivables write-off
Although legal entities monitor certainty of receivables collection during the

year, for reality of financial statements for business year, assessment of collectable
receivables is important on the day of 31 December. Thus, at the end of the year,
there is a regular assessment of quality of receivables of a legal entity. According
to the quality, receivables may be classified as:
 good quality receivables,
 impaired receivables and
 non-performing receivables.
It is considered that receivable is of good quality, if its repayment may be expec-

ted in the full amount within due period. In the account Customers, and major part
of receivables of a legal entity are receivables from customers, only good quality
receivables should be presented. Impaired, or, as referred to in practice bad de-
477
bts, are such receivables with which there is no certainty in terms of amount that
will be collected nor in terms of repayment period or, more often, not in terms of
amount nor period of collection. This group of receivables includes such recei-
vables of a legal entity towards customers, i.e. debtors over whom, bankruptcy
proceedings have been initiated and receivables due to whose collection, procee-
dings have been initiated with the responsible court. Receivables from debtors over
whom bankruptcy procedure has been initiated, are referred to as doubtful rece-
ivables. Namely, bankruptcy proceedings are initiated against such a legal enti-
ty which lost capability for settling its liabilities; those legal entities are often so
indebted, that their liabilities exceed assets at their disposal, so that a legal entity
will certainly not collect receivables within the period after completion of ban-
kruptcy proceedings, and in many cases receivables are only partially collected.
This means that a legal entity is recording loss in the amount of non-collected part
of receivables. At the end of the year, with the purpose of presenting real property,
over valuated loss, in accordance with prudence principle, should be recognized,
and the amount of receivables should be brought down to the amount of expected
collection. From the aforementioned presentation, it can be concluded that in re-
gard with doubtful receivables, the following economic transactions are recorded
in books:
1) Occurrence of doubtful and disputed receivable, that is, transfer of doubtful
and disputed receivable from the account – Customers, to another account –
Doubtful and disputed receivables.
2) Write off of the part of doubtful and disputed receivables, whose collection
is not expected.
3) Collection of doubtful and disputed receivables.
Occurrence of doubtful and disputed receivables is entered in books by debi-

ting the account of the same name, and account – Purchasers is receivable. With
book entering of write off of a part of doubtful and disputed receivable, whose
collection is not expected, two objectives should be achieved: on one side, loss
should be recognized, and on the other side, the amount of doubtful and disputed
receivable should be brought down to the amount , whose collection is expected
on the basis of assessment. Given that the amount of loss is being assessed and
that it is necessary to preserve the data about the entire amount of receivables and
the amount of performed write off, write off is performed in a way that there is a
record of account payable – Other expenses, account – write off of non-collec-
table receivables and account receivable – Value correction of receivables from
customers.
Collected amount of receivables may be equal, higher or lower than the amount
of expected collection. If the collected amount is higher, the difference is recorded
in the group of accounts – Other revenues, that is, account – Collected receivables
478
which were previously written off, or as a decrease of the group of accounts – Other
expenses, that is, account – Write off of non-collectable receivables, if write off of
receivables and collection occur in the same year, as it is obvious that the amount
of receivables which was written off, was too high. If a lower amount than expected
is collected, the difference is then recorded in the group of accounts – Other expen-
ses, that is, account – Write off of non-performing receivables, whereby additional
write off is performed.
Described book entries presented on the chart:
Explanation:
(1) For allocation of doubtful and disputed receivables from the account of custo-
mers. (2) For assessed amount of receivables that will not be collected.
(3) and (4) for collection of doubtful receivables, when collected amount is lower
than the amount of non-written off receivables.
(3) and (5) for collection of doubtful receivables, when collected amount is higher
than the amount of non written-off receivables.
Example:
1) Bankruptcy proceedings have been initiated against the customer who owes
KM 45 000.
2) On the basis of information, provided by the debtor, management has made a de-
cision to write off 30 % of doubtful and disputed receivables as non-performing
receivables.
3) According to the bank statement, KM 30 000 was paid in gyro account at the
name of final collection of doubtful and disputed receivables.
479
Example:
1) Legal proceedings were initiated against customer “A”, Sarajevo, for refusing to
pay the debt in the amount of KM 30 000. Costs for initiating legal proceedings
were paid from petty cash and they amount to KM 1 000.
2) On the basis of information provided by legal department, proceedings will be
partially lost, so the management made a decision to write off KM 10 000 in a
form of non-performing receivables.
3) In accordance with the court decision, customer “A”, at the name of final settle-
ment of its liability in the same year paid into gyro account the amount of KM
25 000.
480
Explanation:
(1) For initiating legal proceedings for collection of receivables.
(2) For write off of doubtful and disputed receivables.
(3) For final collection of doubtful and disputed receivables.
Receivables, that become obsolete, and that means that legal entity, due to sta-
tute of limitation, cannot require collection through the court, no longer present re-
ceivables, but loss in the entire amount. Write off of these receivables is performed
with direct method: Account payable – Non-performing receivables write off and
account receivable – Local customers.
Example:
1) With the insight in sub-ledger records of customer “B”, it was determined that
receivables in the amount of KM 1 000 KM are obsolete. At the proposal of legal
department, management made the decision to write off the entire amount of
receivables.
Explanation:
(1) For obsolete receivables write off.
All other expenses that occur in business operations of a legal entity, and which
entirely burden financial result of accounting period, are recorded in the account –
Other expenses. For example, those expenses are:
 subsequently determined costs from previous years;
481
 subsequently determined liabilities (for taxes, contributions, etc.);
 errors correction from previous years;
 costs of subsequent complaints;
 costs of subsequent warranties for sold goods and services;
 expenses (losses) occurred as a result of force majeure;
 expenses arising from change of accounting assessment;
 other expenses.

AND UNDERSTANDING:
1) Define the concept of expenses.

2) How do we classify expenses correctly?
3) Explain transactions which, as a consequence have recognition of
regular expenses.
4) What are the losses?
5) Explain negative foreign exchange differences.
6) Explain tax aspect of occurred shortages.
7) Explain non-performing receivables write-off and their accounting
coverage.
482
23. DETERMINATION OF BUSINESS
OPERATIONS RESULTS
Determining business results of legal entities, in accordance with the method of

sold products, matches realized revenues in the accounting period against realized
expenses. Gross financial result (profit or loss before tax) is determined in the acco-
unt – Difference between revenues and expenses. In accounting-technical terms,
total amounts of realized revenues and total amounts of realized expenses are tran-
sferred from the account of revenues and account of expenses to the aggregate
account – the difference between revenues and expenses. Following the transfer
from revenues and expenses to the aggregate account – Difference between revenu-
es and expenses, accounts of expenses and revenues are mutually closed. Following
this, the difference is transferred from the account – Difference between revenues
and expenses to the account – Profit before tax or to the account - Loss.
Below, we present the chart of the procedure of determining business results:
483
The chart shows an example in which total revenues exceed total expenses, so
the difference of revenues over expenses has been transferred to the account – Pro-
fit before tax. In reverse case, when expenses exceed revenues of the accounting
period, that is, of the business year, the difference of expenses over revenues repre-
sents loss of the current year and it is transferred into the account - Loss. Normally,
when profit for the business year is presented before tax, a legal entity, in a tax form
for profit for the business year, determines the tax base and amount of liabilities
for profit tax for the business year. In the first phase of profit allocation from the
current year profit, before tax, the amount for settling liabilities on profit tax is allo-
cated. In the accounting, transfer of profit is presented, in the amount of liabilities
for profit tax, from the account – Profit before tax, to the account Liabilities for
profit tax. Residual profit represents net-profit of legal entity, which is transferred
to the account – Profit of current financial year.
In balance sheet, on the day 31 December of business year, net profit is presen-
ted as part of equity under the name of item – Profit of current financial year. It is
the amount for which equity has been increased from financial result for the busine-
ss year. Shareholders’ Assembly makes a decision on allocation and earmarking of
net profit of current financial year, in the following financial year. Profit allocation
is presented in the accounting of the financial year in which decision was made on
profit allocation. According to the earmarking sequence, in allocation of net profit
of current financial year, loss from previous years is first covered from profit. Fo-
llowing loss cover from previous year (if a legal entity presented uncovered loss),
residual net profit is allocated first for legal reserves, then for statutory and other
reserves in accordance with Articles of Association, for dividends, that is, interests
in profit and residual for accumulated profit.
If the loss is presented in the financial year before profit tax, the amount of dif-
ference of expenses over revenues is transferred from aggregate account of loss to
the account – Loss of the financial year. If, according to the profit tax form, a legal
entity which presented a loss before tax determines that it has a tax liability, loss of
the financial year is increased for the amount of tax.
In the balance sheet, on the day 31 December of the financial year, the amount
of the current year’s loss is presented as deprived item of equity. If the amount of
loss exceeds equity value, the difference of loss above equity is presented in assets
under the item – Loss above the amount of equity. The loss of financial year is first
covered from accumulated profit, then from other reserves, statutory reserves and,
after that, from legal reserves.
484
Chart of the procedure for determining business results in accordance with the
method of natural types of expenses, we show below:
If a legal entity presents revenues and expenses from regular, and accompanying
activities, in that case, result is separately determined for business operations from
regular, and separately for accompanying activities. Therefore, account – differen-
ce of revenues and expenses may be split into the account – difference of revenues
and expenses from regular activities, and account – difference of revenues and ex-
penses from accompanying activities. Logic of transfer of revenues and expenses to
these two accounts is identical to determining business results in accordance with
the method of costs of sold products.
It means that we should pay attention that business and financial expenses, thus,
regular expenses, are transferred to the accounts of difference of revenues and ex-
penses from regular activities, and other revenues and expenses are transferred into
485
the accounts of differences of revenues and expenses from accompanying activiti-
es. Business result, determined from regular and accompanying activities in case
when revenues exceed expenses, makes profit before tax. In the reverse case, when
expenses exceed revenues of the accounting period, the difference of expenses over
revenues is current year’s loss and is transferred into the account - Loss. Logic of
allocation of current year’s profit or cover of loss of current year of a legal entity,
is identical to determining business results in accordance with the method of costs
of sold products.

AND UNDERSTANDING:
1) Explain why accounts of revenues and expenses do not have closing

balance?
2) Explain matching, that is, comparison of revenues and expenses of manu-
facturing legal entities.
3) What is profit before tax?
486
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490
OTHER USED MATERIAL
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491
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492
Mehmed Jahic, Ph.D.
To the Publishing House of

Economics Faculty in Sarajevo
REVIEW
of the Book of Professor Jadranka Kapic Ph.D., entitled
„ACCOUNTING“
It is certainly an honor to have an opportunity to provide an opinion about the
book, published in the second edition within a short period of time, the book that
will remain to the generations to use it in their education, and to preserve it as an
important literature from the field of accounting. So, it is the honor to provide my
own opinion, in a form of review for the book – textbook “Accounting” of the au-
thor of Professor Jadranka Kapic, Ph.D., which is published in its second edition.
The book has been written in accordance with the syllabus of Economics Facul-
ty in Sarajevo for the subject “Accounting”, and we believe that this requirement
has been entirely satisfied.
With the scarcity of literature for this subject at the Faculty of Economics in
Sarajevo, but certainly at other Economics Faculties too, we regard this book as
very important, from which, coming generations will be studying accounting. By
its content, the book “Accounting” is comprehensive and written in light of IAS
and IFRS, so, it is structured on the basis of modern accounting principles.
It is certain that this book, apart from its main purpose, to be the textbook for
the subject “Accounting”, will find its application also in economy, education of
accountants, as well as non-economists who want to acquire accounting skills. I am
grateful to the author of the book, who made an effort to supplement the accounting
literature with such needed and important book for education of, above all, students
and wider, and thereby we recommend it as the textbook of accounting to all who
study accounting, regardless of at faculties or business schools they acquire their
accounting knowledge.
Unlike the first edition, the second revised and updated edition elaborates far
more thoroughly accounting categories, which implies the continuous need for
studying accounting, which, the author of this book, has indeed performed.
Reviewer
Professor Mehmed Jahic, Ph.D.
493
Professor Selim Durmic, Ph.D.
To the Publishing House

of Economics Faculty in Sarajevo
REVIEW
of the Book of Professor Jadranka Kapic, Ph.D., entitled
„ACCOUNTING“
The book „Accounting” of Professor Jadranka Kapic, is the second edition har-
monized with the syllabus of the subject “Accounting”, according to which, classes
are structured at the Faculty of Economics in Sarajevo, and the syllabus itself is
harmonized with the syllabus reform program from the accounting and finance
field, which was implemented in co-operation with USAID /IBTCI.
Given the sound pedagogical and scientific-research experience of the Author

of the book, the book, that is, the textbook, is based on a broad variety of foreign
and domestic literature from the field of accounting, and it is also based on the
International Financial Reporting Standards (IFRS) and International Accounting
Standards (IAS). The textbook is written in understandable language and it is adju-
sted to the students, who are for the first time coming across the basic accounting.
The Author, unlike the first edition, in this, revised and updated edition, elabora-
tes far more thoroughly economic, that is, accounting categories and presents them
correctly, starting from simplest forms and going towards more complex, skillfully,
in approachable manner, by combining techniques and methods that were used in
her elaboration.
Number of practical examples, chart presentations and check-up questions re-

present a particular quality of this book, which have enriched theoretical elaborati-
ons of the author, and brought them closer to the reader in the practical manner, by
integrating theory and practice.
Apart from students, the textbook is also intended to the persons from practi-
ce, who want to extend their theoretical knowledge from the accounting field and
who want to apply the acquired knowledge and skills in concrete practice. Taking
into consideration, all the aforementioned, it is with pleasure that I recommend
publishing of the second revised and updated edition of the book-textbook, entitled
“Accounting” of the Author Professor Jadranka Kapic, Ph.D.
Reviewer
Proffesor, Selim Durmic, Ph.D.
494
Code of course:
Course name: Accounting
EiM-111 ;BUS -111
Level:
Number of ECTS
undergraduate Year: I Semester: II credits: 5
studies
Status: common, Total number of

Number of hours per week: 5 hours: 75
compulsory
Lecturer: Professor, Jadranka Kapic, Ph.D.
The objective of the “Accounting” course “is that stu-

dents learn that acquiring knowledge about main finan-
cial statements, that is, financial reporting, in context of
International Accounting Standards, is of crucial impor-
tance for vast majority of students in the world, who are
engaged in studying business operations of a company.
Our approach has the following main objective, to:
1. Provide global perspective, relevance and authori-

tativeness of use of the International Accounting
Standards
1. COURSE
2. To provide the students of Economy and Manage-
OBJECTIVE
ment and students of School of Economics and
Business, with basic, but, complete introductory
information from the accounting field in a written
form, with the emphasis on the role of the account-
ing data in the decision making procedure.
3. Emphasise both, theoretical and practical content,
which reflects real situations.
4. Provide pedagogical approach with strong empha-
sis on self-learning method application, through the
framework of the topic units integrated in the text
of the literature as per objectives, through the mate-
rial for practice exercise.
5. To develop extensive and flexible materials for ex-
ercising and resolving tasks.
495
1. Framework of Accounting
2. Subject of accounting coverage
3. Accounting principles and standards, as a frame-
work of real financial reporting
4. Content of main financial statements (balance sheet
and income statement).
5. Characteristics, content and phases of accounting
process
1.1. Main topic units
6. Accounting coverage of typical events of accounting
process:
• Accounting of non-current assets
• Accounting coverage of current assets
• Accounting coverage of equity
• Accounting coverage of liabilities and
7. Cost Accounting
8. Accounting coverage of revenues, expenses and de-
termining operating results
After passing accounting course, students will be able

to:
1. Describe many characteristics that should provide
global perspective, relevance and authoritativeness
of use of IAS .
1.2.Study results 2. Demonstrate foundations of accounting and compil-
ing of main financial statements, and their applica-
tion in real business environment in accordance with
IAS and effective regulation. 3.Become intelligent
users of accounting information in making business
decisions, as internal users, but also of management.
496
2 MANNER OF TEACHING ORGANISATION
-----------------------------------------------------------------------------------------------
Activity description (%)
2.1. Manner of 1. lectures 1. 80%

performing 2. discussions 2. 10%
classes 3. visiting lecturers 3. 10%
Share in final grade (%)
1. First partial exam 1. 20 % (20 scores)

2. Second partial exam 2. 20 % (20 scores)
2.2. Grading system 3. Final exam 3. 50 % (50 scores)
4. Quiz 4. 5 % ( 5 scores)
5. Presentation 5. 5 % (5 scores)
1. Jadranka Kapic, Ph.D.: Accounting II Revised and

Updated edition, Economics Faculty, Sarajevo, 2011.
3. LITERATURE 2. Sidney J. Gray, Belverd E. Needles, Jr.: Financial
Accounting A global approach, Houghton Mifflin
Company, Boston, New York,1999.
497

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JADRANKA KAPIC, Ph.D.

CIP - Katalogizacija u publikaciji

Prijevod djela: Računovodstvo. - Bibliografija:

1. Introductory Review ……............................................................................................... 17

6. Elements of Financial Position ………........................................................................... 53

8. Accounting Principles and Standards as Framework of Fair Financial Reporting ......... 73

10. Concept of Financial Statements …………………...................................................... 87

12. Characteristic and Phases of Accounting Process ...................................................... 137

16. Accounting of Non-Current Assets ............................................................................ 197

20. Cost Accounting ......................................................................................................... 349

21. Accounting Coverage of Revenues ............................................................................ 425

Bibliography .................................................................................................................... 487

Other Material .................................................................................................................. 491

1. Historical evolution of accounting

1.1. HISTORICAL EVOLUTION OF ACCOUNTING

- development of professional associations and

In England in 1854 the first association of accountants was established, and

2.1. DEFINITION OF ACCOUNTING

Accounting as an art, technique or skill

Accounting as a scientific discipline

Accounting as service function

Accounting as a part of management information system of a legal entity

With the development of information technology in the seventies and eighties12

– valuation, that is, measurement or quantification of business events in value

2.2. STRUCTURE OF ACCOUNTING

Figure 2. Structure (content) of accounting

– Accounting planning is focused on data processing in the future. For mak-

– Bookkeeping is the most important part of accounting according to this concept.

“Business operations represent an activity of a legal entity whose aim is produc-

Figure 3. Business objectives and activities

Decision makers – users of accounting information

There are numerous users of accounting information on financial position, per-

Figure 4. Users of accounting informtion

Management (heads and administration) has the biggest responsibility for

Employees are interested in an indicator on financial position, that is, perfor-

Customers are interested in information on business continuity of a legal entity,

Government and their agencies are interested in information on activities of

3.1. SOLE PROPRIETORSHIPS

General partnership is a form in which each of (general) partners is respon-

Master Limited partnership operates mainly as joint-stock company, and trades

As specific forms of non-joint stock companies, which are a tradition of or-

3.3. CORPORATION OR COMPANY

3.3.1. Advantages of joint-stock companies

Advantages of organizing legal entities into joint-stock companies may be the

When we speak about shareholders’ responsibility, we should bear in mind that

3.3.2. Disadvantages of a joint-stock company

A joint-stock company, as a dominant legal entity in creating gross product at a

Taxation that relates to joint-stock companies is of aa more complex structure

In accounting theory, and nowadays in accounting practice too, there is classifica-

Figure 5 Functional classification of business accounting

Management Accounting36 is a part of accounting that provides information

Cost accounting has a wider importance than management accounting. It con-

“Fiscal accounting is accounting that should be involved in studying and ap-

Historical evolution of accounting was preceded by the evolution of bookkeeping.

a) simple bookkeeping system,

5.1. SIMPLE BOOKKEEPING SYSTEM

INCOMING PAYMENT CASH BOOK OUTGOING PAYMENT

PAYABLE DEBTOR’S BOOK RECEIVABLE

Date Desc. Amount Date Desc. Amount

Trade Shop “X”

Pg... Inventory book Date 31 Dec of current year

If: Fr (+) than S2 > S1 profit;

We calculate financial result in simple bookkeeping in situation when we have ad-