Credit Course

Effort only releases its reward after a person

refuses to quit
Accounting Module
 WHAT IS ACCOUNTING?

Accounting Principles can not be

discovered; they are created and developed.
Accounting is an information system that
helps in making decisions.
Types of Information
 Liquidity; cash flow
 Profitability ; Net Income
 Financial position; Balance sheet
 Plans for the future; strategic planning and
budget
The Purpose and Nature of Accounting

The underlying purpose of accounting is to

provide financial information for decision
making about an economic entity.

For example, management need answers to

such questions as
the profitability of each department of the
business,
the adequacy of the company’s cash position, and
the trend of earnings.
The Purpose and Nature of Accounting

Many businesses also compile non financial

information needed for decision making.

The use of computer makes possible the

operation of a management information system
(MIS) which provides decision makers with both
financial and non-financial information.

The accounting system is the most extensive

and important component of a management
information system because it is used by the
entire business entity and by outsiders as well.
 Helpful for people inside and outside
the enterprise

I N S I D E

 OWNER

 MANAGERS

 EMPLOYEES
 Helpful for people inside and outside
the enterprise

OUTSIDE

 CREDITORS
 INVESTORS
 COMPETITORS
 AUDITORS
 TAXING AGENCIES
 REGULATORY AGENCIES
 Financial Reporting

Financial Reports
Primary Users of Reports
Internal users, who are stockholders, managers and employees.

External users, who are creditors, potential investors, competitors,

auditors, tax authority and regulatory agencies.
Types and Frequency of Reports
Classified financial statements.
Issued monthly, quarterly and annually.
Purpose of Reports
To provide general-purpose information for all users.
 Financial Reporting

Financial Reports
Content of Reports
Pertains to entity as a whole and is highly aggregated

Limited to double-entry accounting system

Reporting standard is generally accepted accounting principles.

Verification Process
Annual audit and by independent external auditor

Illustration 1-1b
Generally Accepted Accounting Principles
(GAAP)

Many of life’s failures are men who didn’t

realize how close they were to success
when they gave up
 GAAP: The “Rules” of Financial
Reporting

• The standard format for recording and reporting

financial transactions is outlined in guidelines, or
rules, called Generally Accepted Accounting
Principles (GAAP).

• These guidelines are published by the accounting

profession in each country.

• They are intended to be the foundation upon which

report readers can appraise a company’s progress,
compare one company or one accounting period with
another, and generally judge the financial
effectiveness of its management efforts.
 FSs: Overview

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...and you will have a friend
1. Balance sheet
 Balance sheet

• An itemized statement that summarizes the

assets, the liabilities, and stockholders’
equity of a business as of a given date,
usually the end of a month, a quarter, or a
year.
 Balance sheet
Who funded the
Assets (Resources / resources
Future benefits)
Liabilities (outsiders)
Current Assets Current Liabilities
 Cash  Accounts Payable
 Inventory  Bank loans (Short-term loans)
 Accounts receivable  Accrued liabilities

=
 Marketable securities
Non-Current Liabilities
Non-Current Assets  Bank loans (Long-term loans)
 Land
 Buildings Owners’ Equity (insiders)
 Machinery
 Trucks
 Capital Stock
 Furniture and fixtures
 Additional paid in capital
 Retained Earnings
 Less: accumulated depreciation
More about Current and Non-Current
Assets & Liabilities

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and shadows will fall behind you
 I. Assets

Current Assets:
 An asset is classified as current when either:
a. It is expected to be realized in, or is intended for
sale or consumption within, the entity’s normal
operating cycle;
b. it is held primarily for the purpose of being traded;
c. it is expected to be realized within 12 months after
the balance sheet date; or
d. it is cash or cash equivalent.

 All other assets shall be classified as non-

current.
 II. Liabilities

Current Liabilities:
• A liability is classified as current when either:

a. The item is expected to be settled in the entity’s

normal operating cycle;
b. The item is expected to be settled within 12 months
of the balance sheet date.

• All other liabilities shall be classified as non-

current.
2. The Income Statement
 The Income Statement

A financial Income Statement

document that
summarizes the
profitability of a
business entity for
a specified period
of time.
 Income Statement

• A simple format for an income statement

is:

Revenues – Expenses = Net Income

3. Statement of Cash Flows

Cash in Cash out

Cash sales

Bills
collected

Assets
sold
 Overall Considerations

Going concern
Accrual basis Fair presentation

Consistency of Recognition &

presentation realization
FSs

Conservatism Materiality

Entity concept
 Going Concern

• When preparing FSs, management shall make

an assessment of an entity’s ability to
continue as a going concern.

• When there is a doubt on the entity’s ability to

continue as a going concern, this uncertainty
shall be disclosed.

• The going concern assumption is at least

twelve months from the balance sheet date.
 Fair Presentation and Compliance with EGY
GAAP

• Financial Statements (FSs) shall

present fairly the financial position,
financial performance and cash flows
of an entity.

• A fair presentation is achieved by

compliance with EGY GAAP.
 Accrual Basis VS Cash Basis

• In order to meet their objectives, FSs are

prepared on the accrual basis of
accounting.

• The effects of transactions and other

events are recognized when they occur
(and not as cash or its equivalent is
received or paid).
 Recognition & Realization

Recognition
• Process of formally recording an item in
the financial statements.

Realization
• Process of converting non-cash resources
and rights into money through the sale of
assets for cash or claims to cash.
 Consistency of Presentation

• The presentation and classification of items in

the FSs shall be retained from one period to the
next.

• An entity changes the presentation of its FSs

only when this is more reliable and relevant to
FSs’ users.

• When Presentation or classification of items in

the FSs is amended, comparative amounts shall
be reclassified.
 Materiality

• Disregard insignificant matters, and disclose

important matters.
 Conservatism

• When in doubt, accountants should choose

the procedure that will be least likely to
overstate assets and income.
 Entity concept

• Accounts are kept for entities as

distinguished from the persons who own
those entities.
 FSs: Comprehensive

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1. Balance Sheet and the Accounting
Equation

Assets Liabilities
Current Liabilities
Current Assets  Accounts Payable
 Cash  Bank loans (Short-term loans)
 Inventory  Accrued liabilities
 Accounts receivable

=
 Marketable securities Non-Current Liabilities
 Bank loans (Long-term loans)
Non-Current Assets
 Land
 Buildings

 Machinery
Owners’ Equity
 Trucks
 Capital Stock
 Furniture and fixtures
 Additional paid in capital
 Retained Earnings
 Less: accumulated depreciation
• Every business transaction, no matter how
simple or complex, can be expressed in
terms of its effect on the accounting
equation.
Effects of Business Transactions on the BS
& Accounting Equation

• Assume Roberts company for real estate

brokerage began its business on
September 1, 2005 by depositing $180,000
in a bank account in the name of the
business ‘Roberts Real Estate Company’.

• The initial BS of the new business then

appeared as follows:
 Roberts Real Estate Company
Balance Sheet
September 1, 2005

Assets Owner’s Equity

Cash.............$180,000 Capital…………$180,000
• On Sep. 3, Roberts comp. purchased a suitable
land as a site for the office. The land price was
$141,000 and payment was made in cash.
• The BS on Sep. 3 appeared as follows:

Assets Owner’s equity

Cash…………...$39,000 Capital……….$180,000
Land……….…..141,000
Total……….…$180,000 Total….………$180,000
• On Sep. 5, Roberts comp. purchased a building from Kent
comp. at $36,000 and payment was made as follows:
• $15,000 in cash.
• $21,000 due in 90 days
• The BS on Sep. 5 appeared as follows:

Assets Liabilities & Owner’s equity

Cash……………………………...$24,000
Land…….………………… …...141,000
Building…………………………… 36,000
Liabilities
Accounts payable.........................$21,000
Owner’s equity
Capital………………………….. ...$180,000

Total………………..………..…$201,000 Total………………………….…….$201,000
• On Sep. 10, Roberts comp. sold unused part of the
land with a cost of $11,000 for the same amount (i.e.,
no profit or loss). It was agreed that the full amount
would be paid within 3 months.
• The BS on Sep.10 appeared as follows:
Assets Liabilities & Owner’s equity

Cash…………………....................$24,000
Accounts
receivable….………………………..11,000
Land……………………………......130,000
Building………………………………36,000
Liabilities
Accounts payable.......................$21,000
Owner’s equity
Capital………………….………..$180,000

Total…………………….……..…$201,000 Total……………..…..……….…$201,000
• On Sep. 20, cash in the amount of $1,500 was
received as partial settlement of the accounts
receivable.
• The BS on Sep.20 appeared as follows:

Assets Liabilities & Owner’s equity

Cash……………………..............$25,500
Accounts
receivable…………………………...9,500
Land……………………………....130,000
Building………………………….....36,000
Liabilities
Accounts payable....................$21,000
Owner’s equity
Capital…………….…………..$180,000

Total…………………………..…$201,000 Total…….………………….…$201,000
• On Sep. 30, cash in the amount of $5,000 was paid
to Kent comp. as partial settlement of the accounts
payable.
• The BS on Sep. 30 appeared as follows:

Assets Liabilities & Owner’s equity

Cash…………………….....$20,500 Liabilities
Accounts Accounts
receivable………………..…...9,500 payable…...........................$16,000
Land……….…………….....130,000
Building…….………………..36,000 Owner’s equity
Capital……………………..$180,000

Total………………………$196,000 Total………………….….…$196,000
 Work-It-Together Example

• During the month of January, Mr. Alan Bagon, Lawyer,

1. Invested $5,000 to open his law practice.
2. Bought supplies (stationery, forms, pencils, etc.) for cash,
$300.
3. Bought office equipment from Altway Furniture Company on
account, $2,500.
4. Received $2,000 in fees earned during the month
5. Paid office rent for January, $500.
6. Paid salary for part-time help, $200
7. Paid $1,000 to Altway Furniture Company.
8. After taking an inventory at the end of the month, found he
had used $200 worth of supplies.
Case Study
 Current Asset Items

Examples include:
•Cash

•Accounts receivable

•Short-term notes receivable

•Inventory

•Short-term investments

•Prepaid expenses

•Non trade receivable

•Prepayment to suppliers, and

•Deferred tax asset .

 Non-Current Asset Items

• Comprise the remainder of the assets.

These include accounts such as:
•Long-term investments

•Long-term notes receivables

•Non trade receivable

•Fixed assets

•Intangibles, and

•Deferred tax assets.

 Current Liability Items

Examples include:
•Accounts payable

•Short-term notes payable

•Loan payable (short-term portion)

•Deferred revenue

•Non trade payable

•Taxes payable, and

•Deferred tax liability

 Long-Term liability Items

Examples include:
•Loan payable (long-term portion)

•Non trade payable

•Bonds payable, and

•Deferred tax liability

 Stockholders’ Equity Items

• Include such accounts as:

• Contributed capital
• Reserves
• Retained earnings, and
• Accumulated other comprehensive income.
 Balance sheet (horizontal form)

Assets Liabilities
Current Liabilities
Current Assets  Accounts Payable
 Cash  Bank loans (Short-term loans)
 Inventory  Deferred revenues
 Accounts receivable

 Marketable securities Non-Current Liabilities

Non-Current Assets
 Long term receivables
 Long term investments

 Fixed assets
=  Bank loans (Long-term loans)

Owners’ Equity
 Intangible assets
 Capital Stock
 Reserve
 Retained Earnings
 Less: accumulated depreciation  Accumulated other
& amortization comprehensive income
 Balance sheet (vertical form)

• Non-current Assets
Property, plant & equip. 61,228,014
Intangible assets 1,259,284
Total NCA 62,487,298
• Current assets
Investment property 1,250,000
Inventory 25,955,194
Receivables & prepayments 26,417,200
cash and bank balances 2,792,594
Total CA 56,414,988
 Balance sheet - vertical form
(continued)

• Current liabilities
Provisions 3,160,000
Borrowings 44,623,354
Creditors and other
credit balances 16,380,110
Total CL 64,163,464
Net WC (deficit) (7,748,476)
Net invested funds 54,738,822
 Balance sheet - vertical form (continued)

• Represented in:
• Shareholders’ equity
Share capital 10,000,000
Legal reserve 4,175,642
Retained earnings 24,515,115
Total SE 38,690,757

• Non-current liabilities
Long-term loan 13,148,065
Deferred tax liability 2,900,000
Total NCL 16,048,065
Total equity & non-current
liabilities 54,738,822
Balance Sheet

Balance Sheet Data

($ millions)
Short-term Loans 25
Intangibles 25
Accounts Receivable 100
Accounts Payable 100
Long-term Loans 50
Cash 25
Inventory 50
Net PP&E 50
 The Role of Accounting Records

• Many businesses enter into thousands of

business transactions daily and it wouldn’t be
practical to prepare a BS after each
transaction

• Instead, the many individual transactions are

recorded in the accounting records, and, at
the end of the month, a balance sheet is
prepared from these records.
 The Accounting Cycle

Journalize
Post entries to the Prepare trial
transactions.
ledger accounts. balance.

Prepare after closing trial Journalize and post Prepare financial

balance. closing entries. statements.
 Recording in Books

• Assets are always Debit.

• Liabilities and owners’ equity are always

Credit.
 Double Entry System

• Requires that the total dollar amount of

the debit side must equal to the total
credit side for each transaction.

Total Debits = Total Credits

 The Journal

In an actual accounting system, transactions

are initially recorded in the journal.

JOURNAL
Date Account Titles and Explanation Debit Credit
2005
Sep 1 Cash 180,000
Capital 180,000
Owners invest cash in the business.
 The Ledger Accounts

Ledger Accounts are

Cash individual records
showing increases
Accounts
and decreases.
Payable
The entire group of
Capital ledger accounts is
Stock referred to as the
ledger.
 Posting to the Ledger Accounts

Posting
involves
copying
information
from the
journal to the
ledger
accounts.
 Posting Journal Entries to the Ledger
Accounts

JOURNAL
Date Account Titles and Explanation Debit Credit
2005
Sep 1 Cash 180,000
Capital 180,000
Owners invest cash inSubsidiary
the business.Ledger
Cash
Date Debit Credit Balance
2005
Sep 1 180,000 180,000
 Ledger Accounts After Posting

Subsidiary Ledger
Cash
Date Debit Credit Balance
2005
Sep 1 180,000 180,000
3 141,000 39,000

This ledger format is referred to as a

running balance (as opposed to simple
T accounts).
 Posting Journal Entries to the Ledger
Accounts

JOURNAL
Date Account Titles and Explanation Debit Credit
2005
Sep 1 Cash 180,000
Capital 180,000
Owners investSubsidiary
cash in the business.
Ledger
Capital
Date Debit Credit Balance
2005
Sep 1 180,000 180,000
 The Trial Balance

• Since equal dollar amounts of debits and credits

are entered in the ledger accounts for every
transaction recorded, then the sum of all debits in
the ledger must be equal to the sum of all credits.

• Before using the ledger to prepare a balance sheet,

it is desirable to prove that the total of accounts
with debit balances is in fact equal to the total of
accounts with credit balances.

• This proof of equality is called the “Trial Balance”.

• A trial balance taken from the ledger of Roberts Real
Estate comp. appears as follows:

Acc. Acc. Beginning Up-to-date Ending

code title balance transactions balance
Dr Cr Dr Cr Dr Cr
Cash 0 0
AR 0 0
Land 0 0
Build 0 0
AP 0 0
Capital 0 0
Total 0 0
2. The Income Statement
The Income Statement: A Preview

A financial Income Statement

document that
summarizes the
profitability of a
business entity for
a specified period
of time.
 Income Statement

• A simple format for an income statement

is:

Revenues – Expenses = Net Income

 Income Statement

• Revenues are earned for the sale of goods or

rendering of services. Note that revenues
occur when the sale is made. The payment
may or may not have been received.

Examples of revenues include sales,

service revenue and interest revenue.
 Income Statement

• Expenses are recorded when incurred. The

payment may or may not have been made.

Examples of expenses include salaries expense,

utility expense and interest expense.
 Income Statement

• Most businesses require more information

from their businesses than a simple income
statement can provide. Therefore, they use a
multi-step income statement format.

• A format for a multi-step income statement

is:
 Income Statement
Sales Revenue $550,000
Cost Of Goods Sold 400,000
Gross Profit 150,000
Operating expenses
Selling and marketing expense 25,000
General and administrative expense 15,000 40,000
=Operating profit (loss) 110,000
+ Other revenues and gains:
Interest revenue 10,000
Dividend revenue 10,000
Unrealized gain on trading securities 10,000
Foreign exchange gain 10,000
Gain on sale of FA or investments… 10,000
Investment income from associates… 10,000
Income from investment property 10,000 70,000
 Income Statement - Continued
-Other expenses and losses
Interest expense 5,000
Unrealized loss on trading securities 5,000
Foreign exchange loss 5,000
Loss on sale of FA or investments… 5,000
Investment loss from associates… 5,000
Loss from investment property 5,000
Impairment Loss…. 5,000 (35,000)
Income (loss) from continuing operations
before tax 145,000
Less: Provision for income tax
Current income tax 14,500
Deferred income tax 5,500 (20,000)
Income from continuing operations 125,000
+ Income (loss) Discontinued Operations (net of tax) 9,000
=Net Income (Loss) $134,000
+ Other Comprehensive Income
Unrealized gain or loss on available for sale investments 3,000
Translation adjustments 3,000
Comprehensive income $140,000

Basic earnings per share = Net income for the period .

Weighted average no. of common
shares outstanding
 Activity
Income statement data:
• Interest expense $8,000
• Cost of goods sold 150,000
• Selling expenses 14,000
• Tax expense 4,000
• Gain on sale of fixed asset 20,000
• Sales revenue 190,000
• Administrative expenses 12,000
 Income statement

Sales revenue …
- Cost of goods sold …
=Gross profit …
- Operating expenses …
Selling & marketing expenses …
General & administrative expenses … _
=Operating income …
+Other revenues & gains …
- Other expenses & losses …
=Net income before tax …
- Tax expense …
=Net income …
Requirement:
Prepare income statement
Any Questions
 Dr & Cr Rules for Rev. & Exp

• Revenue increases owners’ equity, while

expense decreases owners’ equity.

• Increases in owners’ equity are recorded by

credits; therefore revenues are recorded by
credits.

• Decreases in owners’ equity are recorded by

debits; therefore expenses are recorded by
debits.
 Statement of Changes in
Stockholders’ equity

Capital stocks R.E. Total

Balances 1/1/05 $1,500 $500 $2,000

Issuance of stocks 1/7/05 900

Repurchase of stocks 1/8/05 (250)

Dividends paid 1/9/05 (400)

Net income 31/12/05 700 _

Balances 31/12/05 2,150 800 2,950
 Relationship Among the FSs

• The BSs presented for the current and

previous periods show the amounts of
owners’ equity at the respective balance
sheet dates.

• The statement of owners’ equity summarizes

the changes in owners’ equity occurring
between these two balance sheet dates.

• The income statement provides a detailed

explanation of the most important changes in
owners’ equity (i.e., the changes in net
income or net loss for the period).
 Receivables
They are classified into accounts and notes.
Accounts Receivable:
• They are just a promise to pay for goods or services
delivered, usually have a repayment period of 30 to
60 days (current). Also called open accounts.
Notes Receivable:
• They are enforced by a formal instrument like a
promissory note so it has a stronger legal status,
they are usually interest bearing because they are
considered longer term receivables than accounts.
 Bad debts

• The allowance method:

1. Income statement approach

2. Balance sheet approach

 The Allowance Method

• Simply we make an estimate of the usually periodic

uncollectible accounts as a percentage of sales or A/R, and
given the following accounting treatment the A/R is not affected
when an account is written off as the net effect of the entry on
assets is zero.
1. The adjusting entry to set up the allowance:

Bad debts expense (estimated)

Allowance for bad debts (estimated)

2. The entry to write off bad debts:

Allowance for bad debts (actual default)

AR (actual default)
 1 – The Income Statement
approach
The bad debts expense is a function of sales or credit sales if available
Example:
You have the following data

Opening balances:
A/R 100,000

Current year transactions:

• Allowance for doubtful accounts 1600 (Dr)

• Sales on credit 500,000

• The company have been experiencing 2% bad debts out of credit

sales.

What should be recorded to treat the above info? ( show ledgers )

Entries to record the sale and write-off part of the
allowance:

1. A/R 500,000
Sales 500,000

2. Allowance for uncollectible accounts 1,600

A/R 1,600

Year end Adjustment:

1. Bad debt Expenses 10,000

Allowance for uncollectible accounts 10,000
 A/R Allowance
1,600
100,000 1,600 10,000
500,000

598,400 Net 590,000 8,400

sales Bad debt expenses

500,000 10,000
 2 – The Balance Sheet
approach
• The allowance is adjusted periodically to reflect a
percentage of the A/R.

Step 1 : Age your A/R balances.

Step 2 : Apply uncollectible % to each balance at each age.

• The out come will be the amount that should appear in the
allowance account.

• If you have any balance in the allowance account you

should make your expense entry so that the ending
balance in the allowance account reflects the newly
calculated amount.
 Example: You have the following data:

Opening balances:
• Allowance for doubtful accounts 1600 (Cr)

Current year transactions:

• A/R 306,320
• And you have the following information for the age of the A/R

Balance 31-60 61-90 91-120 Over

days days days 120
Ahmed 54,880 44,800 10,080
Mohamed 179,200 179,200
Ali 30,800 30,800
Hassan 41,440 33,600 7,840
Total $ 306,320 $ 257,600 $ 10,080 $ 7,840 $ 30,800
 First we apply uncollectible percentage to the different categories.

Age Balance % Required balance in

estimated the allowance
uncollectibl account
e
31-60 $ 257,600 5% $ 12,880
61-90 $ 10,080 15% $ 1,512
91-120 $ 7,840 20% $ 1,568
120 & more $ 30,800 25% $ 7,700
Total $ 306,320 $ 23,660

• The required balance in the allowance account at the year end is

23,660 credit and we have a credit balance of 1,600 then the
expense is 22,060.
 2 – The Balance sheet approach:

A/R Allowance
306,320 1,600

22,060

306,320 Net 282,660 23,660

Bad debt expenses

22,060

22,060
 Bad Debts.

Remember the entry to write off bad debts:

Allowance for bad debts XXXX.

AR XXXX.

If a client actually comes and pay the amount after it is written off:

AR XXXX.
Allowance for bad debts XXXX.

To restore written off Accounts Receivables:

Cash XXXX.
AR XXXX.

• The amount restored into the allowance is used to absorb future

uncollectible accounts.
 Exercise
Wren Company had the following account balances at
December 31, 2002:
• Accounts receivable $900,000
• Allowance for doubtful accounts
(before any adjustments for 2002
doubtful accounts expense) 16,000
• Credit sales for 2002 1,750,000

• Wren is considering the following methods of estimating

doubtful accounts expense for 2002:
• Based on credit sales at 2%
• Based on accounts receivable at 5%
• What amount should Wren charge to
doubtful accounts expense under each
method?

Percentage of Percentage of
Credit Sales Accounts Receivable
a. $51,000 $45,000
b. $51,000 $29,000
c. $35,000 $45,000
d. $35,000 $29,000
 Inventories

Definition
Inventory is defined as tangible personal
property:

1. Held for sale in the ordinary course of business (finished

goods inventory), or

2. In the process of production for such sale (WIP inventory),

or

3. To be used currently in the production of items for sale

(raw materials inventory).
 Inventory Cost

• All costs necessary to prepare the goods for

sale.

• For a manufacturing entity:

• Direct material
• Direct labor
• Direct & indirect factory overhead
• For a merchandising entity:
• Purchase price of goods
• Freight-in
• Insurance
• Warehousing
• Any other costs incurred in the preparation of goods
for sale
 Inventory Recording

1. Periodic system
• Inventory is physically counted at the end of
the reporting period and then priced.

• A “purchases account” is used and BI balance

is unchanged during the period.
• the entry to record purchases is:
Purchases xx
Cash/AP xx
• The entry to record EI is:
EI xx
COGS (plug)
BI xx
Purchases xx
 Inventory Recording

2. Perpetual system
• In a perpetual inventory system, purchases
are recorded directly in the inventory
account.

• Cost of goods sold is debited and inventory

is credited as goods are sold.
Inventory Valuation Techniques
 1. Weighted average

WA cost/unit = BI($) + Purchases($)

BI (units) + Purchases (units)

Units Price per Unit Amount

BI 100 $2 $200
PUR 150 2.1 315
PUR 50 1.7 85

• Calculate the weighted average cost per unit of COGS

and EI.
 Answer

• Ending inventory (and CGS) are priced at

$2/unit ($600÷ 300 units).
 2. First-in, first-out (FIFO)

• Considers the first goods purchased to be

the first goods sold.

• The main benefit of FIFO is that EI is made

up of the latest purchases which reflects a
more current value of inventory on the BS.
 Case 1

Date Description Units Cost/unit

Jan 1 BI 1000 $1
Jan 7 Purchases 600 3
Jan 20 Sales 900
Jan 27 Purchases 400 5

• Calculate closing inventory on Jan. 31 using

FIFO valuation.
 Answer

• Inventory at Jan 31
= [(100 units X $1)+(600 units X $3)+(400 units X $5)]
= $100 + $1800 + $2000
= $3900
 Case 2

Date Tons $ Total $ per ton

Opening
1-Jul Inventory 10 200 20

4-Jul Production 8 176 22

6-Jul Sale -9

15-Jul Production 6 144 24

18-Jul Sale -11

23-Jul Production 4 104 26

Closing
31-Jul Inventory 8

• Value EI using FIFO.

 Answer

The FIFO cost formula will result in closing

inventory (8 Tons) being made up of the
most recent production: (4 x 26) + (4 x 24)
= $ 200
 3. Last-in, first-out (LIFO)

• Considers the most recent purchases to be

sold first. Accordingly, ending inventory is
priced at the cost of beginning inventory
and the earliest purchases.

• The main benefit of LIFO is that it matches

current costs with revenues.

• The use of LIFO as a valuation technique

has been prohibited by the IFRS.
 Case 3

Date Description Units Cost/unit

Jan 1 BI 1000 $1
Jan 7 Purchases 600 3
Jan 20 Sales 900
Jan 27 Purchases 400 5

• Calculate closing inventory on Jan. 31 using

LIFO valuation.
 Answer

• Inventory at Jan 31
= [(700 units X $1)+(400 units X $5)]
= $700 + $2000
= $2700
 4. Market method

• Inventory can be valued at market even if it

is above cost. This usually occurs when:

• Disposal is assured and market price

is known (e.g., precious metals).

• No basis for cost allocation exists.

Work-It-Yourself
Examples
• Examples 1, 2 and 3 are based on the following data:

Addison hardware began the month of November with 150

large brass switchplates on hand at a cost of $4.00 each. These
switchplates sell for $7.00 each. The following schedule
presents the sales and purchases of this item during the month of
November.

Date of Quantity received Unit cost Units sold

transaction
Nov. 5 100
Nov. 7 200 $4.20
Nov. 9 150
Nov. 11 200 $4.40
Nov. 17 220
Nov. 22 250 $4.80
Nov. 29 100
 Example 1
If Addison uses FIFO inventory pricing, the
value of the inventory on November 30
would be
a. $936
b. $1,012
c. $1,046
d. $1,104
 Example 2
If Addison uses weighted average
inventory pricing, the gross profit for
November will be
a. $1,482
b. $1,516
c. $1,528
d. $1,574
 Example 3
If Addison uses LIFO inventory pricing, the
value of the inventory at November 30 will
be
a. $936
b. $1,012
c. $1,046
d. $1,076
Examples 4 and 5 are based on the following information:
Thomas Engine company is a wholesaler of marine engine parts.
The activity of carburetor 2642J during the month of March is
presented in the following table:

Date Balance or Units Unit cost Unit

Transaction Sales Price
March 1 Inventory 3,200 $64.30 $86.5
March 4 Purchase 3,400 $64.75 $87.00
March 14 Sales 3,600 $87.25

March 25 Purchase 3,500 $66.00 $87.25

March 28 Sales 3,450 $88.00

 Example 4
• If Thomas uses a first-in, first-out inventory
system, the total cost of the inventory for
carburetor 2642J at March 31 is:
A. $196,115
B. $197,488
C. $201,300
D. $263,825
 Example 5
• If Thomas uses a weighted-average
periodic inventory system, the total cost of
the inventory for carburetor 2642J at March
31 is:
A. $194,200
B. $198,301
C. 198,374
D. $199,233
 Example 6
• The weighted average method of measuring
ending inventory is applicable to which of
the following inventory systems

Periodic Perpetual

a. Yes Yes
b. Yes No
c. No Yes
d. No No
 Example 7
• Nest Corp. recorded the following inventory information
during the month of January:
Units Unit cost Total cost Units on hand

Balance on 1/1 2,000 $1 $2,000 2,000

Purchased on 8/1 1,200 $3 3,600 3,200

Sold on 23/1 1,800 1,400

Purchased on 28/1 800 $5 4,000 2,200

• Nest uses the LIFO method to cost inventory.
What amount should Nest report as
inventory on January 31?
a. $2,600
b. $5,400
c. $4,200
d. $5,280
 Example 8
• During January 2007, Metro Co., which maintains a
periodic inventory system, recorded the following
information pertaining to its inventory:
Units Unit cost Total cost Units on hand
Balance 1/1/07 1000 $1 $1,000 1,000
Purchased on 7/1/07 600 3 1,800 1,600
Sold on 20/1/07 900 700
Purchased on 25/1/07 400 5 2,000 1,100

• Under the weighted average method, what amount

should Metro report as inventory at January 31,
2007?
 Investments in Trading
Securities
Definition Balance Sheet Presentation of unrealized
Presentation gain (loss) in the income
statement

Stocks or bonds •Reported at FMV as •Unrealized gains are

of other entities current assets recognized in other revenues
bought and held and gains.
principally for •The valuation method
the purpose of applied is called: Cost •Unrealized losses are
selling them in adjusted for fair value recognized in other expenses
the near term method, or Mark-to-market and losses.
method)
•Note: remeasurement to fair
value is made at each BS
date.
 Investments in Held-to-
maturity Securities
Definition Balance Sheet Presentation of unrealized
Presentation gain (loss) in the income
statement

Investment in •Reported at amortized cost •Unrealized gains (losses) are

bonds of other as current or non-current not reported.
entities that the based on the maturity date.
organization has
the positive •The valuation method
intent and ability applied is called: Cost
to hold to the method
maturity date
 Investments in Available-for-
sale Securities
Definition Balance Sheet
Presentation
Investment in •Reported at FMV as current
stocks or bonds or non current assets on an
of other entities individual basis based on
that are not management's intent
classified as concerning the holding period.
trading or held to
maturity •The valuation method
applied is called: Cost
adjusted for fair value
method, or Mark-to-market
method).
Presentation of unrealized
gain (loss) in the income
statement
•Unrealized gains (losses) are
reported as other
comprehensive income.
•The accumulated unrealized
gains (losses) are presented as
accumulated other
comprehensive income in
stockholders' equity.
•Note: remeasurement to fair
value is made at each BS date.
 Investments where significant
influence exists (investment in
associates)

• The “equity method” is required to account for

investments whenever an investor exercises
significant influence over the operating and
financial policies of the investee.

• Significant influence results from ownership of 20% or

more of outstanding voting stock.
• The equity method should not be used when
the investment of more than 20% is judged to be
temporary.

• In such a case, the "cost adjusted for fair

value method" is used to account for the
investment.
 Example

• Assume company A purchased 20 shares of

company B's 100 common shares, for $24,000
when the par value per share was $100. The
book value of B’s net worth (i.e., stockholder's
equity) at the date of the investment was
$120,000.

• Company B earned $10,000 income for the year

and paid $6,000 in dividends .

• Prepare the appropriate journal entries using

equity method.
• Journal entries:-
1- Investment in Associate 24,000
Cash 24,000
(To record purchase of 20% interest)

2- Investment in associate 2000

Investment income from associate 2000
(To record the investor's share in the investee’s reported income)

3- Cash 1,200 ($ 6000 x 20%)

Investment in associate 1,200
(To record investor’s share in dividends distributed)
Cases
 • The following data pertains to Tyne Co.’s
investments in marketable equity securities:

Market Value

Cost 31/12/02 31/12/01

Trading $150,000 $155,000 $100,000

Available 150,000 130,000 120,000

for sale
1. What amount should Tyne report as unrealized
holding gain in its 2002 income statement?
a. $50,000
b. $55,000
c. $60,000
d. $65,000
2. What amount should Tyne report as net
unrealized loss on marketable equity securities at
December 31, 2002, in stockholders’ equity?
a. $0
b. $10,000
c. $15,000
d. $20,000
3. Data regarding Ball Corp.’s available for sale
securities follow:
Cost Market value
December 31, 2001 $150,000 $130,000
December 31, 2002 150,000 160,000
• Differences between cost and market values
are considered temporary. Ball’s 2002
adjustment to the investment account would be
a. $30,000
b. $20,000
c. $10,000
d. $0
134
4. An investment in trading securities is measured
on the balance sheet at
a. Cost to acquire the asset
b. Accumulated income minus accumulated
dividends since acquisition
c. Lower of cost or market
d. Fair value
5. An investment in available-for-sale securities is
measured on the balance sheet at
a. Cost to acquire the asset
b. Accumulated income minus accumulated
dividends since acquisition
c. Fair value
d. Par or stated value of securities
 Cases 6 – 8 are based on the
following data

• Grant Co. obtained 30% of South’s Co.’s voting stock for

$200,000 on January 2, 2001. Grant’s 30% interest in
South gave Grant the ability to exercise significant
influence over South’s operating and financial policies.
During 2001, South earned $80,000 and paid dividends
of $50,000. South reported earnings of $100,000 for the
six months ended June 30, 2002, and $200,000 for the
year ended December 31, 2002. On July 1, 2002, Grant
sold half of its stock in South for $150,000 cash. South
paid dividends of $60,000 on October 1, 2002.
6. What amount should Grant include in its 2001
income statement as a result of the
investment?
a. $15,000
b. $24,000
c. $50,000
d. $80,000
7. In Grant’s December 31, 2001 balance sheet,
what should be the carrying amount of this
investment?
a. $200,000
b. $209,000
c. $224,000
d. $230,000
8. In its 2002 income statement, what amount
should Grant report as gain from the sale of
half of its investment?
a. $24,500
b. $30,500
c. $35,000
d. $45,500
 Long-Lived Assets

Fixed assets acquired through purchase:

• Recorded by all expenditures incurred in
acquiring the asset and preparing it for use.

Self constructed assets:

• Recorded by the lesser of actual cost or FMV.
 Costs incurred after acquisition

• Capitalized if increase efficiency,

productivity, or useful life.

• Not capitalized if were ordinary, but recorded

as an expense.
 Depreciation

• Is a process that systemically and rationally

allocates the historical cost of a tangible
asset to the periods benefited.

• Depreciation are:
1. Straight-line Method
2. Units of Production Method
3. Double declining Balance
 1. Straight-line(SL) method

• Used when benefits from the asset are uniform

over its life.

• Depreciation expense = Cost – Salvage value

Useful life
 2. Double declining balance (DDB)

• Used when asset is more productive in earlier years

than in later years.

• Depreciation expense = Cost – Acc. Dep. X SL % X 2

 3. Units of production

• Depreciation expense =
Cost – salvage v. X Current activity or output _
Total expected activity or output
 IAS 36 – Impairment of Assets
• Impairment is a loss in the value of an asset, i.e. its
carrying amount recognized in the balance sheet is
greater than its recoverable amount.

• The Recoverable amount of an asset: is that which can

be recovered through continuing to use the asset or by
selling it.

• An entity is required to assess at each reporting date

whether there is an indication of an impairment. If such
an indication is identified, the asset’s recoverable
amount should be calculated and compared to its
carrying amount.
Key stages in the Impairment
Process

1. Assess whether there is an indication that an asset may

be impaired. If there is no such indication, then no
further action is required.

2. If there is an indication of impairment, then measure the

asset’s recoverable amount; and

3. Reduce the asset’s carrying amount to its recoverable

amount, usually by treating the loss as a separate
disclosed expense in the income statement.
Stage 1 – Measuring Recoverable amounts

• If Carrying Amount > Recoverable amount

Therefore, there is impairment
• The Recoverable Amount of an asset is the higher of:

FV Less Costs to Sell Value in Use

(Is a measure of the future cash
flows expected to be derived from
an individual asset or a cash-
generating unit. These cash flows
should be discounted)
 Stage 2 – Recognizing an Impairment Loss

• If the Recoverable amount < the carrying amount,

therefore the asset should be reduced to its recoverable
amount.

• The difference is an impairment loss.

• An Impairment loss is recognized immediately in the

income statement.
• Following the recognition of an impairment loss,
any depreciation charged in respect of the asset in
future periods will be based on the revised
carrying amount, less any residual value
expected, over the remaining useful life of the
asset as per IAS 16, PPE.
 Illustration
• A piece of machinery was originally acquired
for $100,000. It was expected to have a useful
life of 10 years and no residual value. At the
start of year 6, there was a downturn in
demand due to a competitor product entering
the market, and this had led to an impairment
of the asset. The impairment has been
calculated as being $20,000, although it is
expected that the asset will continue to have a
remaining 5 year life.

• Calculate the depreciation expense in year 6.

 Answer

• At the end of year 5, the asset had a carrying

value of $50,000 ($100,000 x 5/10 years). The
impairment reduces the carrying amount of
the asset to 30,000 (50,000 less $20,000)
which should be depreciated over the
remaining life of 5 years.

• Therefore, depreciation expense in year 6

equals $30,000 / 5 yrs = $6,000.
Thank You

“They can because they think they can.”

Virginia Woolf