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ACCOUNTING.
DEFINITION:
It is the art of recording classifying, and summarizing the business
transactions in the books of accounts, as per prescribed rules, which have financial
impact and finally, final accounts, are prepared to calculate profit/loss and to show
the financial position of the business at the end of year and results of the business
are interpreted to the management for decision making.

Explanation of definition:
RECORDING.

This is the basic function of accounting. Recording means to put the

transactions in writing in the books of accounts which have financial impact.
Recording is done in the book. Journal, Journal is the first book of accounting
and this book is further sub-divided into various subsidiary books such as cash
journal, purchases journal, sales journal etc. transactions will be recorded in detail
in the journal, i.e, date, amount, DR and CR etc.

CLASSIFYING:
Classification is the process of grouping of transaction or entries of one
nature at one place. The work of classification is the done in the book termed as
Ledger. Account wise record is maintained in ledger. Ledger is prepared from
journal. OR it can be prepared directly from available data/information. It is also
called T Accounts

SUMMARIZING:
Summarizing involves the preparation of TRIAL BALANCE and TRIAL
BALANCE is prepared from ledger by taking out debit and credit balance of
different accounts appearing in the Ledger.

FINAL ACCOUNTS.
It includes TRADING & PROFIT AND LOSS ACCOUNT and
BALANCE SHEET. Final accounts are prepared from Trial balance. Trading &

profit & loss A/C shows profit or loss of the business at the end of year and
BALANCE SHEET shows financial position of the business at the end of year.

Financial impact:
Accounting records only those transactions and events which have financial
impact. Transactions which are not of financial character are not recorded in the
books of accounts.

Interpretation:
This is final function of accounting. Accounting not only creates data
through recording, classifying and summarizing of events but also the recorded
financial data is interpreted to the management for decision making.

Prescribed rules:
Rules and regulation or by laws of accounting or procedures of accounting
normally called SSAPs (STATEMENTS OF STANDARD ACCOUNTING
PRACTICES.) May be called as ACCOUNTING STANDARDS.

Terminology.
Business.

Any activity carried out for earning of profits is called business but it

must be law full.

Business Transaction. Dealing of the business with other parties for sale or
purchase or goods, payment of wages, rent and rendering of services etc.
Purchases. Buying of goods & services for the business. It has two types.
I.

Cash purchase

Goods sold & cash is paid on the spot/occasion

II.

Credit purchase

Goods sold but cash will be received after few

days etc. (Debtors)

Return inwards / Sales return. If goods bought are returned back due to any
reason, it is called return outwards or purchase return.
Sales. Selling of goods & services by the business. It has also two types.
I.

Cash sale.

Goods sold & cash received on the spot.

II.

Credit sale. Goods purchased but payment will be made after few

days/month. (Creditors)
Return inwards /Sales return.

If goods sold are returned back to us due to any

reasons, it is called return inwards or sale return.

Asset. Resources of the business with the help of which business in carried out.
Examples

are

cash,

machinery,

furniture,

office

equipment,

vehicle,

lands/building, debtors, stock etc.

Assets has two types:
Fixed assets: Those assets which have a long life and are purchased for

I.

the purpose to use them in business. Examples are machinery, furniture,

office equipment, vehicle, lands/ building etc.
II.

Those assets which are purchased for the purpose of sale to earn profit.
OR those assets in which frequent changes occurred due to business
transaction. Examples are cash, debtors, stock etc.

Liability.

Obligations of the business.

Examples

are

creditors,

bankovedraft, loan, accrued salary etc liability has two types:

I.

Current liability:

those liabilities which are payable within a year.

Examples are creditors, bankoverdraft, accrued salary etc.

II.

Long term liability: those liabilities which are payable after a year.

Examples are loan, debentures etc.

Capital.

Investments by the owner in the business. Examples are cash

furniture, computer, machinery etc.

Income.

Earning of the business.

Examples are sale income, commission

received, discount received.

Expense.

Spending of the business. Examples are salary, wages, rent, utility

bills, office expenses. Advertisement, fuel, repair etc.

Drawings.

If the owner of the business draws something from the business for

his personal use it is called drawing. Examples are:

Cash withdrawn

Goods withdrawn

Personal bills paid out of the business cash.

Discount. Reduction in list price of the goods. It has two types.
1. Cash Discount:

Allowed by shopkeepers to customers. It may be

Discount allowed (expense) and discount received (income).

2. Trade discount:

Allowed by one trader to another trader on bulk buying.

It is not recorded in the books of accounts. It is only shown in invoices.

TYPES OF ACCOUNTS.

There are five types of accounts.

1. Asset

Cash, furniture, land, vehicles, machinery, debtors, stock.

2. Liability

Creditor, bank overdraft, loan, accured salary, rent payable.

3. Capital

Investment

4. Income

Sale, commission received, discount received.

5. Expense

Salary, rent, utility bills, insurance, advertising.

Rules of debit (Dr) & Credit (Cr)

Assets/Expenses
Capital/Liability/ Income

Increase

Dr

Decrease

Cr

Increase

Cr

Decrease

Dr

OR
Assets / Expenses
INCREASE

DECREASE

Capital / Liability/ Income

DECREASE

INCREASE

Note: Normally expenses are Debited and incomes are credited.

How to apply the rules of Dr & Cr.
Look at the transaction and trace two or more A/C in that transaction.

What is type of these accounts?

Apply the rules of Dr & Cr and entry should be completed.
Double entry system of accounting.

DEBIT MUST HAVE CREDIT FOR

THE EQUAL AMOUNT.

Journal.
Journal is the first book of accounting n which business transaction are
recorded chronologically (day by day or date-wise) in detail as per prescribed
procedure/format.
Source documents to record transactions in journal are the invoice / bills
etc.
Format of the journal
Date

Detail

1995

Purchases

Jan. 1

Cash

L.F Debit

Credit

XXX

Goods purchased for cash

XXX
Ledger.
It is second book of accounting.

It is prepared from journal or it can also be prepared directly from

transactions or data given. It is also called T- Form of Accounts

In ledger, record relating to a particular account is maintained in a classified

form OR Account wise record is kept.

Format of ---T. A/C.

Dr Side

Cash A/C

Cr. Side

19x5

19x5

Trial Balance.
It is a statement which is prepared form Ledger by taking out Debit and
credit balance different accounts appearing in the ledger.

If the Dr & Cr sides are equal in trial balance it means that accounting
records prepared/maintained so for is arithmetically accurate.

From trial balance we prepare final accounts at the end of year i.e. Trading
& profit and loss a/c and Balance sheet.

Format of the trial balance.

Serial

Name of Account

Debit

Credit

No.

Final accounts .
Finals accounts include the following.

Trading & profit and loss account.

Balance sheet.

Trading and profit & loss A/C

It shows gross profit or gross loss and net profit or net loss of the business
at the end of year respectively.

In T & P & L a/c income and expenses are shown.

Balance sheet.
It shows financial position of the business on a particular date.
Assets liabilities & capital are shown in balance sheet.
TRADING AND PROFT AND LOSS A/C FOR THE YEAR ENDED DED. 31, 19X5

Sale

xxx

Less: Return inwards/sale returns

xxx

Net sales

xxx

Less: cost of goods sold.

Opening stock

xxx

Add: Purchases

xxx

Less: Return outwards/purchase return

xxx

Add: Carriage inwards

xxx
xx

Less: Closing stock

xxx
xxx

xxx

Gross profit

xxx

Add: Discount received / rent received

xxx

Net profit

xxx

Less: Expenses

xxx

Rent

xxx

Salaries

xxx

Wages

xxx

Insurance

xxx

Advertising

xxx

Repair and maintenance

xxx

Bad debts

xxx

Depreciation on machinery

xxx

Van running cost

xxx

Fuel expenses

xxx

xxx

Net profit / net loss

xxx
Balance sheet as at December 31, 19X5

Fixed Assets.

Cost

Dep.

N.B.V

Plant and machinery

xxx

xxx

xxx

Building

xxx

xxx

xxx

Motor van

xxx

xxx

xxx

Furniture and fitting

xxx

xxx

xxx
xxx

Current assets.
Closing stock

xxx

Debtors

xxx

Cash in hand

xxx

Cash at bank / bank

xxx

Less: Current liabilities.

Creditors

xxx

Bank overdraft

xxx
xxx

Working capital

xxx

Capital employed

xxx

Financed by.
Capital

xxx

Add: Net profit

xxx

Less: Drawings

xxx

xxx

BOOKS OF ORIGINAL OR PRIME ENTRIES OR DAY BOOKS OR SUB

DIVISION OF JOURNAL.
1.

Cash journal / cash book. Only cash and bank transactions are recorded

2.

Sale journal.Only credit sale of goods are recorded.

3.

Purchase journal. Only credit purchases of goods are recorded.

4.

Return inward / sale return journal.

Only return inward or sale return

is recorded.
5.

Return outward / purchase return journal.

Only return outwards /

purchase return are recorded.

6.

General journal / The journal. All other transactions which cannot be

recorded in above journals should be recorded in the journal. i.e

Purchase and sale of fixed asset on credit.

Correction entries.
Entries of writing off bad debts.
Closing entries.
Types of ledger.
1.

There are three types of ledgers.

Sale ledger. Personal accounts of debtors are recorded in the sale ledger.
Debtors arises from the credit sale.

2.

Purchase ledger.

Personal accounts of creditors are recorded in the

purchase ledger. Creditors arises from credit purchase.

3.

General ledger.

All other accounts i.e Assets a/c, liabilities a/c,

incomes a/c, expenses a/c, capital a/c, sale a/c, purchase a/c, return inward
a/c, return outward a/c, etc. are recorded in the General ledger.

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Cash book OR cash journal OR cash day book.

Only cash and bank transactions are recorded in the cash book.

Cash transactions have two types.

1.

Cash and cheque received will be recorded on the Debit side.

2.

Cash and cheque paid will be recorded on the credit side.

Types of cash book.

1.

There are two types of the cash book.

Two column cash book.

In two column cash book, cash and bank

columns are created on the debit as well as on the credit side of the cash
book.
2.

Three column cash book. In three column cash book, cash, bank and
discount columns (discount allowed on the debit side and discount received
on the credit side) are created on the debit as well as on the credit side of
the cash book.

Contra entries.

Contra entries are recorded on DR as well as on CR sides of

cash book. There are two contra entries in the cash book.

When cash is deposited in to the bank.

Bamk
Cash

When cash is withdrawn from the bank for business use.

Cash
Bank
Format of the Three column cash book.
Date

Details

LF

Dist.

Cash

Bank

Date

Allowed

19x
5

Details L Dist.
F

19x5

Cash

Bank

Received

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Sale journal & sale ledger.

Sales journal OR Sales day book.

Only credit sales are recorded in the sale journal.

Source document/original document is sale invoice.

Entry

Debtor (x,y,z)
Sale.

Sale invoice. It shows details of quantity sold, unit price, total price, discount and
detail about seller and purchaser. It has a consecutive serial number.
Format of sales journal.
Date

Details

Invoice

LF Amount

No.
19x5

Jan 1

D Poole

051

500

Jan 12

T Cock

052

425

Jan 25

M Nelson

053

750

Jan 29

D Poole

054

945
2620

Total transferred to SALE a/c in the

GENERAL LEDGER.

Sales ledger. Personal accounts of debtors are prepared in the sales ledger.
D Poole
19x5

19x5
Jan 31

Jan 1

Sale

500

Jan 29

Sale

945
1445

Feb 1

Balance b/d

1445
D Cock

Balance c/d

1445
1445

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19x5
Jan 12

Sale

19x5

425

Jan 31

Balance c/d

425
425

425
Feb 1
Balance b/d
General ledger.

425
Sales a/c

19x5
Jan 31

Balance c/d

19x5

xxx

Jan 31

Total for month

xxx
xxx

xxx
Feb 1

Balance b/d

xxx

Purchases journal and purchases ledger.

Purchases journal OR purchases day book.
Only credit purchases of goods are recorded.
Original document /Source document is purchase invoice.
Entry

Purchase
Creditors (A, G, Z)

Purchases invoice. It shows details of quantity purchased, unit price, total price,
discount and details about the seller and purchase
Format of purchase journal.
Dated

Details

Invoice No.

L Amount
F

19x5

Jan 1

B small

014

435

Jna 10

D cross

015

220

Jan 27

M mark

019

425

Jan 29

B small

023

900

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Total transferred to purchase a/c in

the General ledger.
1980
Purchase ledger. Purchase accounts of creditors are maintained in the purchase
ledger.
B small
19x5
Jan 31 Balance c/d

19x5

1335

Jan 1

Purchases

435

1335

Jan 10

Purchase

900
1335

Feb. 1
D Cross
19x5
Jan 31

Balance c/d

19x5

220

Jan 10

Balance

1335

Purchase

220

220
220

Feb 1

Balance b/d

220

General ledger.
Purchases a/c
19x5

Jan 31 Total for month

19x5

1980

Jan 31

Balance c/d

1980

1980
1980

Feb 1 Balance b/d

1980
Returns inwards journal / Sales retruns journal OR day book.
Only Return inwards or sale returns are recorded in this journal.

Source document/ original document is Credit Note.

Entry

Return inwards
Debtors (A,G,Z)

Credit note: A credit note is sent to customers (Debtors) as an acknowledge of

returns inwards/ any others allowances/deductions agreed with customers.

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Format of the returns inwards journal.

Date

Details

Credit note

LF Amount

No.
19x5
Jan 5

D poole

71

50

Jan 18 T cock

72

45

Jan 28 M Nelson

73

25

Total transferred to return inwards A/C in

120

the GENERAL LEDGER.

Sales ledger.
D Poole
19x5

19x5

Jan 1

Sale

500

Jan 5

Return Inwards

Jan 29

Sale

945

Jan 31

Balance c/d

1445
Feb 1

Balance b/d

50
1395
1445

1445
T Cock

19x5
Jan 12
Feb 1

Sale
Balance b/d

19x5

425

Jan 18

425

Jan 31

Return Inwards
Balance c/d

425

45
380
425

General ledger.
Return inwards a/c
19x5
Jan 31

Total for the month 120

19x5
Jan 31

Balance c/d

120

15

120

120

Feb 1
Balance b/d
120
Returns outwards journal /purchase returns journal OR day book.

Only return outwards / purchase return are recorded in this journal.

Source document / origina document is debit note.

Entry

Creditor (A, G, Z)
Return outwards

Debit note:

A debit note is received from suppliers (creditors) as an

acknowledge for the goods returns to him or for any others allowances /
deductions obtained from suppliers.
Format or Returns outwards journal
Date

Details

Credit note

LF Amount

No.
19x5
Jan 7

B Small

214

35

Jan 15 D Cross

245

25

Total transferred to return outwards A/C in

60

the GENERAL LEDGER.

Purchases ledger.
B Small
19x5
Jan 7

Return outwards

Jan 31

Balance c/d

19x5

35

Jan 1

Purchases

435

Jan 29

Purchases

900

1300

16

1335

1335
Feb 1
D Cross

19x5
Jan 15

Return outwards

Jan 31

Balance c/d

19x5

25

Jan 10

Balance

1300

Purchases

220

195
220

220
Feb 1

Balance b/d

195

General ledger.
Return outwards a/c
19x5
Jan 31

Balance c/d

19x5

60

Jan 31

Total for the month

60

60
60

Feb 1
Balance b/d
60
General journal / The journal. All other transaction which cannot be recorded
in any other journals should be recorded in the journal. i.e
Purchase and sale of fixed asset on credit.
Correction entries.
Closing entries
Bad debts entries.

Format of the journal.

Date

Details

LF

1995
Jan 1

Machinery
Beta Ltd.
Purchased Machinery on credit.

Debit

Credit

xxx
xxx

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CAPITAL AND REVENUE EXPENDITURE

Expenditure means spending of money for the business. It has two types.
CAPITAL EXPENDITURE.

That expenditure which is beneficial to the

business for a long period of time or for more than one accounting period is called
capital expenditure.
OR
Capital expenditure is made when a business spends money for
a.

Purchase of fixed assets

b.

Addition to the value of existing fixed assets.

Included in such amounts should be those spent on:
Bringing them into the business.
Legal costs of buying buildings.
Carriage inwards on machinery bought.

Any other cost needed to get the fixed assets ready for use or cost
incurred on the business for increasing its earning capacity.

REVENUE EXPENDITURE.

That expenditure

which is beneficial to the

business for one accounting period or less than this is called revenue expenditure.
OR any expenditure made for running of day to day business is called revenue
expenditure.
Examples are payment of the rent, wages, salaries, advertising, insurance, utility
bills of the business etc.
NOTE:

All capital expenditures are placed in the balance sheet and all

revenue expenditures are placed in the trading & profit & loss A/C.
Depreciation

18

It is the gradual decrease in the value of fixed assets except land due to their
usage in the business with the passage of time.

It is allocation of cost of assets in to an expense over useful life of the

assets.

Factors of depreciation.
Cost of an asset
Useful life of the assets

Scrape value of the assets (Estimated value of asset which can be realized
by sale of asset at end of its useful life.
Depreciation is not charged on
scrape value of

asset.

Methods of depreciation
1. Straight line method / original cost method / fixed installment method.

Formula=

cost of asset----scrape value

Or % on the cost of asset.

Life of asset

Depreciation expense will be the same or equal for each year in this
method.

2. Reducing balance method/Diminishing balance method/written down value

method.

Normally a % is given in the questions.

Depreciation expense will be the decreased with the passage of time

because depreciation will be calculated on the reduced balance of the asset
in this method.

3. Machine hour method. For machinery, aircraft, ships etc. Depreciation is

calculated on the basis of machine hour worked. Formula for calculation of
depreciation is as under.
Depreciation=

Cost of asset

* number of hours used in current year

Estimated total hours of

Work during useful life

19

4. Sum of year digits method.

For various assets, depreciation is calculated

with this method. For example: cost of asset is 30,000. and estimated life is 5
years.
First of all sum (total) of years is made as: 1+2+3+4+5=15 and last fraction will be
used to calculated depreciation for first year and son on in the following way.
Year 1

5/15*30,000=10,000

4/15*30,000= 8,000

3/15*30,000= 6,000

2/15*30,000= 4,000

1/15*30,000= 2,000

PARTS EXCHANGE

This is when the business gives out an old fixed asset and in return gets a
new fixed asset. For example an old car is given in exchange of a new car.

The value of the asset being given out is decided by a mutual agreement.
This value is called as parts exchange value or trade-in-allowance.

Accounting treatment is just like treatment of disposal of assets.

DOUBLE ENTRY RECORD FOR DEPRECIATION.

Entry for depreciation.
P&L A/C
Provision for depreciation A/C

Current year depreciation is shown in P&L A/C & Accumulated

depreciation (Total Depreciation) in Balance Sheet.

Account to be Prepared.
1.

Asset account

(Plant, furniture, motor van)

2.

Provision for depreciation A/C

3.

Asset disposal A/C

4.

P&L A/C ---- Extracts

5.

Balance sheet----extracts.

20

Assets (Plant)
1995

Jan 1

Cash / Bank

xxx

Jul 1

Cash / Creditor

xxx

1995

Dec 31

Balance C/D

xxx
xxx

xxx
1996
Jan 1

1996
Balance B/D

July 1 Cash

xxx

Sep 1

Disposal a/c at (cost) xxx

xxx

Dec 31

Balance C/D

xxx
Provision for depreciation A/C
1995

Dec 31 Balance C/D

xxx

xxx
xxx

1995

Dec 31

P&L a/c (w-1)

xxx

xxx
xxx

1996
Sep 30 Disposal a/c

xxx

1996

Dec 31 Balanc C/D

xxx

Jan 1

xxx

Dec 31 P&L a/c (W-2)

Balance B/D

xxx
xxx
xxx

Asset Disposal A/C

1996

1996

Sep 1

Asset

xxx

Sep 1

Provision for Dep

xxx

Sep 1

P&L a/c (Profit)

xxx

Sep 1

Cash/parts exchange value xxx

xxx

Sep 1

P&L a/c (Loss)

xxx
xxx

P&L A/C ---- Extracts.

1995
Gross profit

NIL

21

Add: profit on disposal (if any)

xxx
xxx

Less expense
Provision for depreciation

xxx

Loss on disposal of asset (if any)

xxx

Balance sheet-----Extracts.
Cost

Depreciation

N.B.V. (Net Book Value)

1995
plant

xxx

xxx

xxx

xxx

(xxx)

xxx

1996
plant

Note: In balance sheet only balance C/D will be taken from asset a/c and
provision for depreciation a/c for each year.
Annual depreciation:

Cost of asset *Rate of depreciation

Rate of depreciation:

Annual depreciation *100

Cost of assets

Scrap value: Cost---Accumulated depreciation (Annual depreciation * useful life

Useful life:

CostScrape value
Annual Depreciation

Bad debts, bad debts recovered, provision for doubtful debts and
provision for discount on debtors.
Debtors.

It is current asset of the business. It arises from credit sales.

Entry

Debtor (x)
Sale

Bad debts.

That amount of debtors which are not received to the business

due to any reason. It is an expense (loss) of the business.

Entry.

Bad debts
Debtor (x)

22

At the end of year bad debt will be closed to P&L A/C

P&L A/C
Bad debts

Bad debts recovered (income). If amount of bad debts written off

previously is received to the business it is called bad debts recovered.
Accounting treatment of bad debts recovered.

Entry for reinstatement of debtor a/c

Debtor
Bad debts recovered.
Entry for cash received.
Cash
Debtor
At the end of year bad debt recovered will be closed to P&L a/c
Bad debts recovered
P&L a/c
Provision for doubtful debts.

For first time creation of provision OR for increase in provision.

Entry

P&L a/c
Provision for doubtful debts

NOTE:

First time creation of provision for doubtful debts OR for increase in

provision for doubtful devbts is an expense and should be charged to the P&L a/c
under the heading of expenses.
For decrease in provision
Provision for doubtful debts
P&L a/c
NOTE:

Decrease in provision for doubtful debts may be considered as

income (saving ) and should be added to the gross profit.

23

Provision for discount on debtor.

Debtors

10,000

Less 5% provision for doubtful debts

500
9,500

Less 10% provision for discount

950
8550

Accounts to be prepared.
Bad debts a/c
Bad debts recovered a/c
Provision for bad debts a/c
Provision for discount on debtors a/c
P&L --- Extracts
Balance sheet----Extracts.
Bad debts a/c
______________________________________________________________
1995

1995

Dec 31 Various debtors

xxx

Dec 31

P&L a/c

xxx
1996
Dec 31 various debtor/x

xxx
xxx

1996
xxx

Dec 31

P&L a/c

xxx

xxx
xxx

Bad debts recovered a/c

1995

1995

Dec 31 Balance C/D

xxx

Dec 31 P&L a/c (w-1)

xxx

xxx
1996

xxx
1996

Dec 31 P&L a/c (decrease)

xxx

Jan 1 Balance B/D

xxx

Dec 31 Balance C/D

xxx

Dec 31 P&L a/c (Increase) xxx

24

xxx

xxx

Provision for discount on debtors a/c

1995

1995

Dec 31 Balance C/D

xxx

Dec 31

P&L a/c

xxx

xxx
xxx

1996

1996

Dec 1 P&L a/c (decrease)

xxx

Jan 1 Balance B/D

xxx

Dec 31 Balance C/D

xxx

Dec 31 P&L a/c (Increase) xxx

xxx

xxx

P&L A/C --- Extracts

1995
Gross profit

NIL

Add: Bad debts recovered

xxx

Add: Decrease in provision for doubtful debts

xxx

Less Expense
Bad debts

xxx

Provision for doubtful debts

xxx

Balance sheet---Extracts
1995
Current Assets
Debtors

xxx

Less: provision for doubtful debts

xxx

xxx

Other adjustments for final accounts

Adjustments. If business transaction falls within two accounting periods that
transaction needs to be adjusted at the end of current year.
Accounting period means a period of twelve months.

Assume accounting period ends on Dec. 31, 1995 and on Sep 1. Paid rent
for a year 500 PM, this transaction has two parts on Dec 31, 1995

25

1995 Sep

to

Dec (expired)

1996 Jan

August (prepaid or unexpired)

NOTE: Every adjustments has double effect on the final accounts.

1. First on T&P&L a/c
2. Second on Balance sheet.
Types of adjustments.
1. Prepaid expenses

(asset)

That expense which has been incurred but paid in advance.

Effect:1. Deducted from concerned a/c in T&P&L a/c. (5000-500)
2. Shown as current asset in balance sheet.
2. Accured expenses/Owing/Outstanding.
That expense which has been incurred but still not paid.
Effect:1. Added to concerned a/c in T&P&L a/c (8000+2000)
2. Shown as current liability in balance sheet.
3. Depreciation.
Effect: 1. Shown as an expense in T&P&L a/c under the heading of expenses
(Only current year dep. Given in adjustments)
2. Deducted from concerned fixed asset in balance sheet. (Dep. Given I trial
balance + current year dep.)
4. Provision for doubtful debts.
Effect. 1. If increase shown as an expense in T&P&L a/c under the heading of
expenses. If decrease: Added to gross profit.
2. Deducted from debtor in balance sheet.
5. Closing stock.
Effect. 1. Shown in COGS in Trading a/c.
2. Show as current asset in the balance sheet.
6. Goods for own use. It means that if owner of the business takes goods for his
personal use. (drawing)
Effect.1. Deducted from purchases in trading a/c. (150,000-10,000)

26

2. Added to drawing in the balance sheet.

7. Treatment of insurance claim.

Insurance claim on account of loss due to

theft or fire to stock is an adjustment and will be treated in final accounts as

follows.
1.

Added to gross profit.

2.

Shown in current assets in balance sheet as Insurance claim for damaged

stock

TRADING AND PROFIT AND LOSS ACCOUNT INCLUDING ADJUSTMENT

Sale

xxx

Less: Return inwards/sale returns

xxx

Net Sales

xxx

Less: cost of goods sold.

Opening stock

xxx

Add: purchases

xxx

Less: Return outwards/purchase return

xxx

Add: Carriage inwards (See Note-1)

xxx
xxx

Less: closing stock

xxx
xxx

xxx

Gross profit

xxx

Add: Discount received/rent received

xxx

Add: Decrease provision for doubtful debts

xxx

Add: profit on disposal of asset or any other income

xxx
xxx

Less: expenses
Rent (10,000-2,000)

xxx

Salaries / wages (15,000+5,000)

xxx

Insurance

xxx

27

Advertising

xxx

Carriage outwards

xxx

Repair and maintenance

xxx

Bad debts

xxx

Increase in provision for doubtful debts

xxx

Provision for depreciation on machinery

xxx

Van running cost

xxx

Fuel expenses

xxx

Loss on sale of assets

xxx

xxx

Net profit/Net loss

Note-1

xxx

Freight charges / insurance on imported goods

Wages and testing expenses
Wages for preparing goods for sale
BALANCE SHEET AS AT DECEMBER 31, 19X5

Fixed assets.

Cost

Dep.

B.B.V

Plant and machinery

xxx

xxx

xxx

Building

xxx

xxx

xxx

Motor van

xxx

xxx

xxx

Furniture and fitting

xxx

xxx

xxx
xxx

Current assets.
Closing stock

xxx

Debtors

xxx

Less: provision for doubtful debts

(xxx)

xxx

Cash in hand

xxx

Cash at bank

xxx

Prepayment

xxx

28

xxx
Less current liabilities.

xxx

Creditors

xxx

Accrued expenses

xxx

xxx

Working capital

xxx

Capital employed

xxx

Financed by
Capital

xxx

Add net profit

xxx

Less drawings

xxx

xxx

Add long term liabilities

xxx

Loans

xxx

Debentures

xxx
xxx

BANK RECONCILIATION STATEMENT

BANK STATEMENT. A statement issued by the bank which shows the details of
deposits, withdrawals and balance of the particular bank account at the end of month/ year.
ACCOUNT HOLDER RECORD. That record which is maintained by the customer
(Account Holder) and this record is normally maintained in a portion of Checque book.
NOTE. The record maintained by the customer (Account Holder) and by the bank
should be equal, if there is any difference , the following can be reasons:.
Reasons of difference between customer record and bank record.
1. Unpresented cheque.
for the payment.

Cheques issued for payment but not presented to bank

29

2. Bank lodgments. Cheques deposited for collection but not collected by the bank
so far. (uncredited cheques)
3. Standing order If on instructions of the customer, bank makes regular payments
for the school fee, bills, Subscription etc. and charged (Debit) to the Account of the
customer, it is called Standing order. It is expense/payment of the customer
4. Direct Debits. If bank Debit the the account of the customer for the bank charges,
commision charges etc. it is called direct Debit. It is expense/payment of the customer.
5. Direct credit / Credit transfer. If bank Credit the the account of the customer for the
Interest
received, Dividend received or for any other Transfer into customer Account, it is
called direct credit. It is income / receipt of the customer.
.
6. Errors. Will be treated as per situation of errors.
What to do.
1. Cash book up date.
2. Bank reconciliation statement.
Rules for preparation of cahs book up date and bank reconciliation statement
I. If Cash book balance has a Dr balance, than balance of bank statement balance
will be CR. And If Cash book has a Cr balance(O/D), than balance of bank
statement balance will be DR.
II. Except the following two transactions all other transactions will be recorded
in the Cash book up date, and these two transactions will be recorded in
the Bank Reconciliation Statement.
1. Unpresented cheque
2. Bank lodgements / uncredited cheque
III.

Cash book Dr. balance

Unpresented cheques +

Cash book Cr. Balance (O/D)

---

30

Bank lodgments

---

Format of cash book up-date (DR. Balance)

1995

1995

Jan 1

Balance b/d

xxx

Jan 8

Bank charges

xxx

Jan 5

Credit transfer

xxx

Jan 15

Bank commission

xxx

Jan 12 Dividend received

xxx

Jan 25

Standing orders

xxx

Jan 17 Direct credit

xxx

Jan 28

Direct debit

xxx

xxx

Jan 31

Balance c/d

xxx
xxx

BANK RECONCILIATION STATEMENT

Balance as per cash book (Dr)

xxx

Add: Unpresented cheques

xxx
Xxx

Less bank lodgements / uncredited cheques

Balance as per bank statement (Cr)

xxx
xxx

Format of the cash book up date (overdraft) (Cr. Balance)

1995

1995

xxx

Jan 1

Bank b/d (O/D)

xxx

Jan 12 Direct credit

xxx

Jan 8

Bank charges

xxx

Jan 23 Dividend received

xxx

Jan 15

Bank commission

xxx

Jan 25 Balance c/d

xxx

Jan 18

Standing orders

xxx

xxx

Jan 29 Direct debit

Jan 7

Credit transfer

xxx
xxx

Format of bank reconciliation statement

31

Balance as per cash book, O/D (Cr)

xxx

Less: unpresented cheques

xxx
Xxx

Add bank lodgements/uncredited cheques

xxx

Balance as per bank statement (Dr)

xxx

Control accounts.
Sale ledger control a/c total debtors a/c
1995
Jan 1

Balance b/d

1995

xxx Jan 1

Bank b/d (if any)

xxx

Jan 5 Credit sales /sale journal

xxx

Jan 4

Cash /Bank

xxx

Jan 8 Dishonoured cheques

xxx

Jan 8

Return inwards

xxx

Jan 13 Refund to customers

xxx

Jan 14

Discontent allowed

xxx

Jan 17 Interest on overdue debtors xxx

Jan 22

Bad debit w/off

xxx

Jan 25 Bad debts recovered

xxx

Jan 25

Set off (Purchase ledger)xxx

Jan 31 Balance c/d (if any)

xxx

Jan 28

Cash (from bad debts)

Recovered)

xxx

Jan 31

xxx

Balance c/d

xxx
xxx

Purchase ledgers controls account/Total creditors a/c.

1995

1995

Jan 1

Balance b/d (if any)

xxx

Jan 1

Bank b/d

Jan 4

Cash / Bank

xxx

Jan 5

Credit purchases/purchase journal xxx

Jan 10 Return outwards

xxx

Jan 11

Refund to suppliers

xxx

Jan 16 Discount received

xxx

Jan 17

Interest on overdue accounts

xxx

Jan 20 Set off (slaes ledger)

xxx

Jan 31

Balance c/d (if any)

xxx

Jan 31 Balance c/d

xxx
xxx

xxx

xxx

32

NOTE: Cash sales, cash purchases, provision for doubtful debts and trade
discount are not recorded in the control accounts.
ERRORS AND SUSPENSE ACCOUNT
Errors has following two types.

Errors not affecting trial balance agreement

Errors affecting trial balance agreement

Types of errors not affecting trial balance agreement.

1. Errors omission. If any transaction has taken place but that is not recorded in
the books of accounts.
2. Errors of commission.

Amount is correct
Account is wrong

3. Errors of principle.

If capital expenditures are treated as Revenue

expenditures and vice versa. It is called errors of principle.

4. Errors of original entry. Original amount is incorrect
Account is correct
5. Complete reversal of entries.

Where correct accounts are used but each item

is shown on the wrong side of the account. Fro example, cash received from D
recorded as cash paid to D
6. Compensating errors.

Where two errors of equal amounts, but on the

opposite sides of the accoints, cancel out each other, as illustrated below.
Sale

50 (Dr)

50(Cr)

Errors and suspense A/C

Errors which affects the agreement of trial balance are the following.

Incorrect addition in any a/c

Entry on only one side of a/c i.e Dr. side or Cr side.

Entering different amount on Dr and Cr sides of an account

Trial Balance
Dr

Cr

33

Total so for

50000

Suspense a/c

48000
2000

50000

50000

Suspense a/c
It is an account opened at the time of need for the time being and deleted
from books of accounts when errors have been located and corrected in the record.
What to do.

Journal entries including suspense entries.

Suspense a/c
Revised profit statement.
Revised profit statement.

Net profit before correction of errors

xxx

Add: increase in sale / discount received and other income

xxx

Decrease in purchases/expenses
Less: Decrease in sale / discount received any other income
Decrease in purchases /expenses
Corrected net profit

xxx
(xxx)
(xxx)
xxx

NOTE:
1.

Sale, discount received or any other income, purchases, expenses if credited

added to profit.

2.

Sale, discount received or any other income, purchases, expenses---if

debited--- deducted from profit.

3.

Personal accounts (debtors & creditors) assets, liabilities and capital ---- no
effect on profit.

Accounts from incomplete records / single entry system

Definition:

It is difficult to define single entry system, however, broadly

speaking, it is a defective double entry system. Under this method, sometimes both

34

the aspects of transactions are recorded, sometimes only one aspect is recorded or
sometimes no aspect of transaction is recorded in the books.
In short, single entry system may be defined as a system which does not
strictly conform to the double entry system of book keeping. Under this system
what is found in practice is an intermixture of single entry, double entry and no
entry.
Defects/disadvantages of single entry system.

The defects of this system are as

follows.
1.

Under this system only partial and incomplete record is kept because
two fold aspects of transactions are generally ignored.

2.

As the two fold aspects of every transition are not recorded, a trial
balance cannot be drawn up to test the arithmetical accuracy of the
record.

3.

As nominal accounts (income and expenses) are not maintained, a profit

and loss account cannot be prepared.

4.

As no real accounts are maintained the preparation of a balance sheet is

not possible.

Mark-up and margin concept.

Mark-up is gross profit expressed as a percentage or fraction of cost of sales.

cost price of goods

100

selling price

125

gross profit

25

Gross profit
Cost price

25
100=

100

100= 25% OR

Margin is gross profit expressed as a percentage or fraction of selling price.

Gross profit

25

selling price 100=

125

100= 20% OR

1/5

35

Conversion of mark up into margin

If mark up =1/3, margin will be

OR

2/7

OR

1/5

OR

2/3

3+1
Conversion of mark up into margin
If margin = 1/6, mark up will be

1
6-1

If margin = 2/5, mark up will be

2
5-2

Ascertainment of profit and loss:The following two methods are available to calculate profits when the
accounting records of a trader are not maintained properly.
First Method-

Comparison of opening and closing capitals (Statement of

affairs)
In this method the STATEMENT OF PROFIT / LOSS is prepared in the
following format.
STATEMENT OF PROFIT / LOSS
Closing capital

xxx

Less: opening capital

xxx

Less: additional capital

xxx

Add: drawings

xxx
xxx

NOTE:

If capital is not given, it can be calculated as follows.

Opening capital=

Opening assets---opening liabilities

Closing capital=

closing assets--- closing liabilities

STATEMENT OF PROFIT /LOSS FOR THE YEAR ENDED ON DECEMBER

31. 19X5 CAPITAL AS AT DECEMBER 31, 19X5
Assets.

(closing)

Plant and machinery

xxx

36

Building

xxx

Motor van

xxx

Furniture

xxx

Closing stock

xxx

Debtors

xxx

Cash in hand

xxx

Cash at bank

xxx

Prepayments

xxx

Less liabilities.

xxx

(Closing)

Creditors

xxx

Bank overdraft

xxx

Accrued expenses

xxx

xxx

Less capital as at January 1, 19x5

Assets (Opening)
Plant and machinery

xxx

Building

xxx

Motor van

xxx

Furniture

xxx

Closing stock

xxx

Debtors

xxx

Cash in hand

xxx

Cash at bank

xxx

Prepayments

xxx

Less liabilities (Opening)

Creditors

xxx

xxx

xxx

37

Bank overdraft

xxx

Accrued expenses

xxx

xxx

xxx

Less additional capital

xxx

Add drawing

xxx

Profit (Loss)

xxx

PROFIT CAN BE CALCULATED BY PREPARATION OF STATEMENT OF

AFFAIRS AS ILLUSTRATED BELOW:
Format of statement of affairs.
Fixed assets.

Cost

Dep.

N.B.V

Plant and machinery

xxx

xxx

xxx

Building

xxx

xxx

xxx

Motor van

xxx

xxx

xxx

Furniture and fitting

xxx

xxx

xxx

CURRENT ASSETS.
Closing stock

xxx

Debtors

xxx

Cash in hand

xxx

Cash at bank

xxx

Prepayment

xxx

xxx

CURRENT LIABILITIES
Creditors

xxx

Bank overdraft

xxx

Accrued expenses

xxx

xxx

Working capital

xxx

Capital employed

xxx

38

FINANCED BY.
Capital

xxx

Add: profit (Loss)

?
?

Less drawing

xxx

SECOND METHOD-CONVERSION INTO DOUBLE ENTRY:Conversion of books from single entry to double entry is possible, when
missing figures are calculated from the available records and FINAL ACCOUNTS
are prepared to calculate profit/loss.
Missing figures can be calculated as follows.
Sales ledger controls a/c OR total debtors a/c
Opening debtors
Closing debtors
Credit sales

Cash /cheques received from debtors

Purchase ledger controls a/c. OR total creditors a/c

Opening creditors
Closing creditors
Credit purchases
Cash / cheques paid to creditors.
Cash / Bank a/c
Opening balance
Closing balance

Drawings

Receipts & Payment a/c and Income & Expenditure a/c,

Non Trading organization / business,

Objective of this organization is not to earn profit, but to serve the community in
different areas, Education in far away areas, Health facilities, Recreation facilities,

39

Sports facilities etc. These organizations arc called N.G.O. Examples are
Libraries, Sports club, Social club, Social societies etc.
Accounts maintained during the year:
1. Receipts & Payment a/c.

(Cash book)

It is just like cash book. Any cash/ cheque received is recorded on the debit side
and any cash /
cheque paid is recorded on the credit side.
Sources of Receipts/ Incomes.
Subscription income.
t Donations income.
Li fc membership fee.
Registration fee.
Sale of old newspapers/books.
Any other income.
Ancillary ActivitiesNon trading organizations often engage in activities which
are ancillary to their main object in order to increase their income; and these activities
includes sale of old newspapers, old equipments and publications and specially provide
Bar facilities, Provision of refreshment and rallies scheme. For this purpose a
separate Trading a/c should be prepared and profit or loss on this account will be
transferred to Income & Expenditure a/c.

Treatment of special items

Some times items like Donations, Life membership may be treated as per instruction
given in. the question. Normally they arc treated as income of the organization.
Accounts to be prepared at the end of year.
1. Bar .Trading a/c.
2. Income & expenditure a/c
3. Balance Sheet
FORMAT OF BAR TRADING ACCOUNT

40

Sale

Less cost of goods sold

xxx

Opening stock

xxx

Add purchases (see note)

xxx

Add carriage inwards

xxx

Less return outwards /purchase return

xxx
xxx

Less closing stock

xxx

xxx

Gross profit

xxx

Add any other income

xxx
xxx

Less expenses

xxx

Bar salaries

xxx

Bar wages

xxx

Net profit/Net loss

xxx
xxx

NOTE: For calculation of bar purchases, always creditors a/c may be prepared
19x5

19x5

Dec 31 cash / bank

xxx

Jan 1

Balance b/d

Dec 31 balance c/d

xxx

Dec 31 Purchases (Bal. Fifure) xxx

xxx

xxx

FORMAT OF INCOME & EXPENDITURES ACCOUNT.

INCOME.

Subscription income (W-1)

xxx

Donations income

xxx

Life membership fee.

xxx

Registration fee.

xxx

xxx

41

Sale of old newspapers/books.

xxx

Profit on bar trading a/c or any other income

xxx
xxx

LESS: EXPENDITURES.
Rent

xxx

Salaries / wages

xxx

Insurance

xxx

Advertising

xxx

Repair and maintenance

xxx

Bad debts

xxx

Depreciation on machinery

xxx

Fuel expenses

xxx

Loss on bar trading a/c or any other loss xxx

xxx

Surplus/Deficiency

xxx

Surplus:

Excess of income over expenditures

Deficiency: Excess of expenditures over income

Subscription account
19x5

19x5

Jan 1 Balance b/d Opening (Arrears/Due) xxx

Jan 1 Balance b/d opening (in advance) xxx

Dec 31 Refund

xxx

Dec 31 Income & Expenditure a/c

xxx

Dec 31 Bank

xxx

Dec 31 Balance c/d closing (in advance) xxx

Dec 31 Balance c/d Closing (Arrears/Due)xxx

xxx

xxx

BALANCE SHEETEXTRACTS.
FINANCED BY.
Capital fund/ accumulated fund

xxx

Add surplus / deficiency

xxx

xxx

If capital fund / accumulated fund is not given, it can be calculated as:

42

Opening assets-opening liabilities in the following format.

Opening assets.

Plant and machinery

xxx

Building

xxx

Motor van

xxx

Furniture and fitting

xxx

Closing stock

xxx

Debtors

xxx

Cash in hand

xxx

Cash at bank

xxx

Prepayment

xxx

xxx

Less Opening liabilities:

Creditors

xxx

Bank overdraft

xxx

Accrued expenses

xxx

Capital fund / accumulated fund

xxx
xxx

Manufacturing Accounts. It is prepared by Manufacturing business which are

engaged in the Production of certain goods. It shows the costs of the Production of
goods, i.e. cost of materials, labours and factory overheads. It is an? expense/ cost account.
Manufacturing cost/Elements of cost: . There are following three elements of costs.
1. Material cost. Material costs has following two types.

Direct material cost. Cost of that material which is basic requirement/need for

the production of a product. For example wood for furniture making.

Indirect material cost. Cost of that material which is helping element for the

completion of a product. For example paint or glue or steel-bar used in furniture making.
2. Labour cost.

Labour costs has following two types.

43

Direct labour cost. Cost of that labour which is directly engaged in the production
of a product. For example labour directly engaged for conversion of wood into furniture
as per design.
Indirect labour cost. Cost of that labour which is engaged for the help of direct
labour in the production of a product. For example store man, security guard, -cleaner
sand other helping labour.
3. Factory overhead. All indirect manufacturing costs of a product. Examples includes:
Indirect material cost
Indirect labour cost
Deprecation of factory machinery/building.
Rent of factory building
Fuel expenses

Utility bills of factory

Repair and maintenance of factory
Insurance of factory machinery/ building
Stocks in the manufacturing business.
manufacturing
Business.

There are three types of stocks in

-|

1. Raw material stock

2. Work in progress (incomplete goods)
3. Finished goods (Goods ready for sale)
Accounts to be prepared.
Manufacturing a/c
Trading & Profit and loss a/c
Balance sheet
Manufacturing account

Opening stock of raw material

xxx

Add purchase of raw material

xxx

44

Less return outwards/ P/Return

xxx

Add carriage inwards

xxx
xxx

Less closing stock of raw material

xxx
xxx

Cost of raw material used

xxx

Add direct labor cost / direct wages / factory wages /mft. Wages

xxx

Add direct expense (if any) (Royalty)

xxx

Prime cost

xxx

Add F.O.H

xxx

Indirect material cost

xxx

Indirect labour cost

xxx

Depreciation of factory machinery/building

xxx

Rent of factory building

xxx

Fuel expenses

xxx

Utility bills of factory

xxx

Repair and maintenance of factory

xxx

Loose tools expenses

xxx

Insurance of factory machinery /building

xxx

xxx

Total factory cost

xxx

Add W.I.P Opening stock

xxx
xxx

Less W.I.P closing stock

xxx

Production cost of goods completed

xxx

TRADING AND PROFIT AND LOSS ACCOUNT FOR THE YEAR ENDED 19X5

Sale

xxx

Less return inwards /sale returns

xxx

Net sale

xxx

45

Less cost of goods sold

Opening stock of finished goods

xxx
xxx

Less closing stock of finished goods

xxx

xxx

Gross profit

xxx

Add discount received / rent received

xxx
Xxx

Less: expenses
Rent

xxx

Salaries

xxx

Wages

xxx

Insurance

xxx

Advertising

xxx

Carriage outwards

xxx

Repair and maintenance

xxx

Bad debts

xxx

Provision for bad debts

xxx

Van running cost

xxx

Fuel expenses

xxx

Net profit / Net loss

xxx
xxx

Balance sheet
Current assets
Stock of raw material (closing)

xxx

Work in progress

(closing)

xxx

Finished goods

(closing)

xxx

Per unit cost=

total cost of production

Number of units produced

Prime cost=

direct material cost + direct labour cost

Conversion cost=

direct labour cost + FOH

46

Total factory cost= direct material cost + direct labour cost + FOH
DEPARTMENTAL ACCOUNTS:
If a business has different departments, then at the end of year trading &
profit & loss a/c is prepared department wise in columns form in this type of
business expenses has two types.

Direct expense:

All direct expense are charged to the particular

department.

Common expense: These expenses are allocated/distributed among

the department on certain basis given in the question or equally.
Examples of these expenses are:

Rent

utility bills

Advertising fuel expenses

salaries expense

insurance

repair and maintenance

For example, there are three department i.e A,B, V. Rent of 50,000 is
distributed in the ratio of 2:2:1 in the following way.

A2/5=

50,000*2/5=20,000

B2/5=

50,000*2/5=20,000

C2/5=

50,000*2/5=20,000

For example repair is 30,000 and is distributed equally in the following

way.

10,000

10,000

10,000

For example repair is 30,000 and is distributed in the following way on %

basis. A 50%, B20%, C 30%.

(30,000*50%)

15,000

(30,000*20%)

6,000

(30,000*30%)

9,000

47

DEPARTMENTAL TRADING & PROFIT & LOSS ACCOUNT

A Deptt

Sale

B Deptt.

xxx

Total

xxx

xxx

Less: cost of goods sold.

Opening stock

xxx

xxx

xxx

Add: purchases

xxx

xxx

xxx

Add: carriage inwards/tpt.expenses.

xxx

xxx

xxx

Less: return outwards/purchase return

xxx

xxx

xxx

Less: Closing stock

xxx

xxx

xxx

xxx

xxx

xxx

xxx

xxx

xxx

Gross profit

xxx

xxx

xxx

Add: discount received/rent received

xxx

xxx

xxx

xxx

xxx

xxx

Less expenses

xxx

xxx

xxx

Rent

xxx

xxx

xxx

Salaries

xxx

xxx

xxx

Wages

xxx

xxx

xxx

Insurance

xxx

xxx

xxx

Advertising

xxx

xxx

xxx

Repair and maintenance

xxx

xxx

xxx

Bad debts

xxx

xxx

xxx

Depreciation on machinery

xxx

xxx

xxx

Van running cost

xxx

xxx

xxx

Fuel expenses

xxx

xxx

xxx

Net profit/net loss

xxx

xxx
xxx

xxx

xxx
xxx

xxx

xxx
xxx

48

NOTE: For all departments one balance sheet will be prepared.

Partnership Account.
Partnership.
When two or more than two persons carry out business for earning profit it is
called partnership.
Partnership agreement /Deed

(from book)

Main points of consideration in partnership.

1. Capital contribution.
Amount invested by the each partner in the business.
A

50,000

100,000

70,000

2. Profit or loss sharing ratio.

It must be agreed among the partners and it can be on following basis.
On the basic of capital
Equally

% basic, A.40%, B.40%, C.20%

Proportion

2/5

2/5

1/5

3. Interest on drawing.
Income of business
Expense of partners
4. Interest on capital.
Expense of business
Income of partners
5.

Salary/Bonus/Commission of partners
Expense of business

49

Income of partners
Accounts to be prepared
1. Trading & profit & loss appropriation a/c
2. Partners current a/c (Represented a/c of partners)

3. Balance sheet
T & P & L Appropriation A/C.

Net profit

xxx

Add interest on drawings A

xxx

xxx

xxx

xxx
xxx

Less interest on capital

xxx

xxx

xxx

xxx
xxx

Less salary/Bonus

xxx

xxx

xxx

xxx

Less Good will written off (if any)

xxx
xxx

Less Share of profit.

xxx

xxx

(As per ratio)

xxx

xxx

PARTNERS CURRENT A/C

A

Balance b/d (if any)

xxx

xxx

Balance b/d

xxx

xxx

Drawings

xxx

xxx

Interest on capital

xxx

xxx

Interest on drawing

xxx

xxx

Salary/Bonus

xxx

xxx

Balance c/d

xxx

xxx

Share of profit

xxx

xxx

Interest on loans

xxx

xxx

50

xxx

xxx

Xxx

Partners current A/C can also prepared in column form as under.

A

Balance b/d (Opening balance)

xxx

xxx

Add interest on capital

xxx

xxx

Add salary / Bonus

xxx

xxx

Add interest on loans

xxx

xxx

xxx

xxx

Less Drawing

xxx

xxx

Less interest on drawing

xxx

xxx

Balance c/d

xxx

xxx

xxx

xxx

xxx

xxx

Balance sheet-extracts.
Finance by
Capital

Current A/C
Add: Long term liabilities.
Loan
Partnership Changes.

The partnership changes includes the following

1.

Admission of a new partner

2.

Retirement or death of and existing partner

3.

Changes in profit & loss sharing ratio among the existing partner

xxx

51

When above mentioned partnership changes take place, the following two issues
should be properly treated in the books of accounts
I.

Revaluation of assets

II.

Goodwill

Revaluation of assets
On a change in the partnership business , assets are revalued and increase or
decrease in the value of assets are recorded in a revaluation account and profit
or loss on revaluation account will be transferred to capital account of partners.
(Profit on credit side of capital a/c and loss on debit side of capital a/c)
Entries for revaluation of assets
Nature of transaction
1. Increase in value
of asset

Details
Assets a/c

Debit
xxx

Revoluation a/c

2. Decrease in

Revoluation a/c

values of assets

xxx
xxx

Asset a/c

3. Provisions for

xxx

Provision of

depreciation on

xxx

depreciation

revalued asset

Credit

xxx

Revaluation a/c

4. Profit on

Revaluation a/c

revoluation

xxx

Capital a/c of partner

5. Loss on

Capital a/c of partner

revoluation

xxx
xxx

Revaluation

xxx

a/c
After1-3 Revaluation a/c will be prepared in the following format.
Revaluation a/c
19x5

19x5

Jan31 Decreasein assets

Jan31

Capital a/c

xxx
xxx

Jan 31

Increase in assets

xxx

Jan 31

Capital a/c

xxx

52

xxx

(if loss)

xxx

xxx
If Cr side is greater than Dr side, there is profit on revolution a/c and vice
versa.
Profit or loss on revaluation a/c will be distributed among partner in old ratios.
Good-will :Reputation of business among the customers or good image/good
name of
Business among by customers.
Calculation of good-will :
Purchaser price /purchase consideration

xxx

Less: Net wroth /value of business

xxx

Good-will

xxx

Net wroth /value of business

Assets---Liabilities

(Takeover)

Treatment of goodwill on a change in a partnership

Goodwill should be valued and the following accounting entries are made in
partnership books.
Nature of transaction
A. If goodwill

Details
Goodwill

Debit
xxx

Credit
xxx

is to be
retained

Partners capital a/c(old

/shown

ratio)

/opened in

Capital a/c credited and

the books.

goodwill shown in B/sheet

under fixed assets

B. If goodwill

I. Good will

is not to be

Partners capital a/c (old

retained

ratio)

xxx
xxx
xxx

xxx

53

/shown
/opened in

II Capital a/c

the books.

(including new ratio)

Goodwill a/c
xxx
OR

xxx

Capital a/c (including new

partner /new ratio)
Partner capital a/c (old
ratio)
(In B situation goodwill may be adjusted as illustrated below)
Assume goodwill is 50,000 and old ratio is equal between A &B. On
admission of C, new ratio is 2/5,2/5&1/5.
Partner

Old ratio

New ratios

25,000

20,000

25,000

20,000

______

10,000

With old ratios capital a/c of old partner will be credited and with new ratios
capital a/c of all partner (including new)will be debited.
Capital Account of partners
19x5
A
Loss on revaluation xxx

B
xxx

a/c

19X5
Balance b/d

A
xxx

B
xxx

Profit on

xxx

xxx

revaluation a/c
Goodwill (new

xxx

xxx

ratio)
xxx
Balance c/d

xxx

xxx

xxx Bank (new

partner capital)

____xxx

xxx

xxx

xxx

xxx Goodwill (old

ratio)-A
Goodwill (old

54

ratio-B)
Profit or loss on revaluation account and goodwill treatment is always shown
in partner capital account .
Format of the balance sheet.
On amalgations the following accounting procedure will be observed .
For each firm
1.Partner,s capital accounts will be adjusted for the following
For goodwill __ as already done
Profits of losses on revaluation of assets ___as already done
Current accounts of partners are closed to capital accounts.
Assets taken over by partner should be debited to their capital accounts at the
agreed values
Profit or loss on disposal of assets should be transferred to capital accounts in the
partner old profit sharing ratios.
Adjustments of capital account balance for new firm by the introduction or
withdrawal of cash.
2. The adjusted balance sheets may be prepared.
Capital Account of partner
195

195

55

Current a/c (if any)

Loss on revolution a/c

xxx

xxx

xxx

Balance b/d

xxx

xxx

xxx

xxx

xxx

---

Profit on revolution a/c

xxx

xxx

xxx

Profit on sale of assets ( if

xxx

xxx

xxx

Good will( old ratio)- A

xxx

xxx

---

Good will ( old ratio) B

xxx

xxx

---

Bank ( Balancing figures)

---

---

xxx

xxx

xxx

xxx

xxx Current a/c

Loss on sale of assets (

if any)

xxx

xxx

xxx

Good will ( new ratio)

B

any)
xxx

xxx

xxx

Car ( taken over by

partner)

---

---

xxx

Bank ( balancing
figures)

xxx

xxx

--

Balance c/d
Given to partners

xxx

xxx

Taken from partners

x
xx

xxx

xxx

xxx

Dissolution of partnerships
Partnership assets are sold out profits or losses on realization are apportioned to
the partners capital accounts in their profit sharing ratio. The balance of cash is

56

used to pay creditors and expenses of dissolution and finally to repay the balance
on their capital accounts to the partners.
Note:
Unrecorded goodwill and assets revaluation are not relevant in this topic.
Transfer the balances on the partners current accounts to their capital accounts as
current accounts are no more required as business is ended.
Accounts to be prepared on dissolution
1.

Realization account

2.

Capital a/c of partners

3.

Bank

First of all open a realization account to record the sale of assets and proceed to
make the accounting entries in the following order.
Nature of transaction
1. Transfer of asset at to

Details
Realization a/c

realization a/c(All fixed

Debit
Xxx

Asset a/c

Credit
Xxx

asset and stock at

NBV)
2. Proceeds of sale of
assets
3. Assets taken over by

Bank (cash )
a/c

dissolution

Xxx
Xxx

concerned

Xxx
Realization

Xxx

a/c

Xxx

Realization a/c
Bank a/c

Xxx

5. Payment of creditors
and discount received
from creditors.

Xxx
Xxx

Creditors a/c
Bank
Realization a/c

6. Cash received from

Xxx

Capital a/c of partner

partner (at valuation)

4. Cost /Expenses of

Realization

Xxx
Xxx

Xxx
Xxx

57

debaters and for bad

Bank

debts and discount

Realization a/c

allowed
7. Credit balance on

Xxx

Debtors a/c
Realization a/c

realization a/c (profit )

Xxx
Xxx

Partner capital a/c

Xxx

8. Debit balance on

Partner ,s capital a/c

realization a/c (profit)

9. Repayment of partner

Xxx

Realization a/c
Partner loan a/c

loan to firm

Xxx
xxx

Bank
xxx

10. Repayment of partners

Partner capital a/c

capital debit balance on

Bank

partners capital

Note : Bank a/c , Debtors , creditors , loan should be dealt directly in bank a/c.
After making entries 1-6 realization a/c will be prepared and profit or loss
on realization a/c will be transferred to partners capital account on basis of
existing ratios.
Dissolution of partnerships
Partnership assets are sold out profits or losses on realization are apportioned to
the partners capital accounts in their profit sharing ratio. The balance of cash is
used to pay credit and expenses of dissolution and finally to repay the balance on
their capital account to the partners.
Note:
Unrecorded goodwill and asset revelation are not relevant in this topic.

58

Transfer the balance on the partner, s current account to their capital

accounts as current accounts are no more required as business is ended.
Accounts to be prepared on dissolution
Realization accounts
1. Capital a/c of partners
2. Bank
First of all open a Realization account to record the sale of assets and proceed
to make the Accounting entries in the following order.
Nature of transaction
Details
1. Transfer of assets at to realization a/c( all Realization a/c
fixed assets and stock at NBV)

Debit Credit
xxx
Asset a/c

xxx

Realization a/c xxx

xxx

2.

Proceeds of sale of assets

3.

Assets taken over by partner( at valuation)

Bank ( cash)

4.

Cost / Expenses of dissolution

Capital a/c of partner concerned

5.

Payment

of

creditors

and

discount

Realization a/c

xxx

xxx

Bank account

xxx

xxx

xxx

xxx

received from creditors

6.

Cash received from debtors and for bad Realization a/c

debts and discount allowed.

7.

Credit balance on realization a/c ( Profit)

8.

Debit balance on Realization a/c ( Loss0)

9.

Repayment of partners loan to firm.

Creditors a/c
Bank Realization
a/c

10. Repayment of partners capitals debits

balance on partners capital a/c

xxx
xxx

Bank Realization a/c

xxx

xxx

Debtors a/c
xxx
Realization a/c

xxx
Partner capital a/c

Partner capital a/c

Partner loan a/c

xxx

Realization a/c
Bank

xxx
xxx

xxx

59

Partner capital a/c

xxx
Bank

xxx

Note: Bank a/c debtors Creditors loans should be dealt directly in bank a/c.
After making entries 1-6 Realization a/c will be prepared or loss on Realization a/c
will be transferred to partner capital account on basis of existing ratios.
Realization Account
195

195

xxx

Dec 3 Bank (Sale of assets)

Dec 31 Plant

xxx

Machinery

xxx

Stock
Dec 31 Debtors( Dist. Allowed/ bad debts)
Dec 31 Bank ( dissolution expenses)
Dec 31 Capital:

xxx

Partners capital a/c

(asset takeover)

xxx

Creditor( Dist. Received)

xxx

Dec 31 Capital:

xxx

xxx

xxx
xxx

xxx

xxx

xxx

xxx
195
Current a/c ( if any)

A
-

Loss on Realization a/c

xxx

Realization a/c car

xxx

B
-

C
xxx

195

xxx

Balance b/d

xxx

xxx

xxx

Current a/c

xxx

xxx

----

Profit on realization

xxx

xxx

xxx

a/c
Bank ( balancing figure)

xxx

xxx

Bank (balancing

60

figure)
xxx

xxx xxx
Bank Account

19x5

xxx

xxx

xxx

19x5

Dec 31

Balance b/d

Dec 31 Balance b/d (if any-O/D) xxx

xxx

Creditors (cash paid)

Dec 31 Realization a/c (sale of assets

xxx

Dec 31 Debtors (cash received)

xxx

xxx
Loan a/c

xxx

Realization a/c-dissolution exp

Dec 31 Capital:

xxx

xxx
Dec 31

Capital:

xxx
xxx

xxx
xxx
Sale of partnership to limited company OR Conversion of partnership into
limited company
A partnership may be sold to an existing limited company or the partners
may from a limited company and sell the partnership business to it in order to
obtain the benefits of limited liability. In either case it makes no difference to the
entries required in the partnership books.
The limited company may pay for the partnership business in cash or by
issuing shares (Ordinary & Preference) and possibly to the partners or by a
combination of cash, shares and debentures.
Accounting entries of the dissolution of a partnership still apply but the procedure
which follower after the is modified as follows.
Nature of Transaction

Details

Debit

1. Purchase consideration

LTD Co. a/c

xxx

Credit

61

Realization a/c
2. Payment in cash

Bank

xxx
xxx

LTD Co. a/c

3. Payment in preference shares

Preference shares in LTD

xxx

xxx

LTD Co. a/c

4. Payment in ordinary shares

Ordinary shares in LTD

xxx
xxx

LTD Co. a/c

5. Payment in debenture

Debenture in LTD

xxx

xxx

LTD Co. a/c

6. Closure of partners capital a/c

Partners capital a/c

xxx
xxx

LTD Co. a/c

Distribution of shares, debentures and cash to the partners as per direction in the
question.
Note: In the absence of any directions in the question, where the partners are to
continue as directors of the limited company, receiving salaries and shares of
profits, us the following procedure:
Partners salaries
A ward the partners, directors salaries equal to their partnership a loan
which will be transferred to the limited company. Where rate of interest on the
debentures is different from that paid on the loan the amount of the debentures

xxx

62

allocated to the partner must be such as will give him the same amount of interest
each ear as he received from the partnership.
Interest rate of loan
Formula to convert loan into debenture: Amount

of

loan

Interest

rate

of

Debenture
Partnership shares of profit
Preserve the partners profit sharing ratio by allocation ordinary shares in their
respective capital/profit sharing ratio so that the balance on the capital account
of the partner with the lowest capital/profit sharing ratio is satisfied in fully by his
allocation of ordinary shares. Satisfy any balances remaining on partners capital
accounts with preference shares (or cash).
Accounts to be prepared
1.

Realization Account

2.

Limited Company Account

3.

Capital Account of Partners

Steps to prepare Realization Account:

1.

Transfer all assets on Dr. side of Realization Account:

2.

Transfer all liabilities on Cr side of Realization Account. (Taken over)

3.

Purchase price on Fr side of Realization Account

4.

Calculate profit or loss on Realization Account

Realization Account

19x5

19x5

Dec 31

Plant

Dec 31

Creditors

xxx

Co. LTD

xxx

xxx
Machinery
xxx
Stock

63

xxx

Dec 31

Capital:

xxx

Debtors
xxx

B
Bank

xxx
xxx
Dec 31

Capital:

xxx
B
xxx
Xxx
CO. LTD
Realization

xxx

Ordinary shares

xxx

10% Preference shares

xxx

8% Debenture

xxx

xxx

xxx

Partners capital account

A

64

Current a/c (if any)

..

..

xx

Balance b/d

xxx

xxx

xxx

Current a/c

xxx

xxx

..

x
Loss on Realization a/c

xxx

xxx
xx

Ordinary shares

xxx

xxx

Profit on realization a/c

xxx

xxx

xxx

Preference shares

xxx

..

xx

Loan

xxx

xxx

xxx

xxx

(Balancing figure)
Debenture

x
xxx

..

xx
x

.
.

xxx

xxx

xx

x
Ordinary shares
CO. LTD

xxx

Capital:

xxx
xxx
xxx

___

___

xxx
10% Preference shares
CO. LTD

xxx

___

Capital:

xxx
A

xxx

xxx
___

65

xxx

xxx

8% Debenture
CO. LTD

CO. LTD

xxx

Capital:

xxx

___

___

xxx
Loan A/C

xxx

xxx

xxx

Capital:

___

___

xxx

xxx

Introduction to the final accounts of limited company.

Features of a company.
It is establish ed by a group of people who are called shareholder (owner) of a
company
Separate legal entity (name) from its owners.
Minimum 2, Maximum No limit , in case of plc and 2 to 50 in case of pvt. Ltd
Perpetual life
Capital contributed by purchase of shares.
Profit distributed to owners is called dividend
Board of director elected by share holder s will responsible for running of day to
day affairs of the business.
Types of company.
The following are two types of company
1.

Public limited company.

66

Minimum number of shareholders 2, Maximum no limit.

Capital should be at least 50000/
Shares are transferable to any body/shares are traded at stock
exchange.
Private limited company.
Minimum number of shareholders 2, max. 50.
Capital can be less than 50000/
Shares are not transferable/shares are not traded at stock Exchange.
It is also called family business
Share.

A share is a share in the share capital of a company .(owner

ship certificates)
Types of share

the following are two types of shares.

1. Preference shares
Rate of dividend is fixed .10%,20%
At the time of payment of dividend preference will be given to
shareholder
2. Ordinary share or common share.
Rate of dividend is not fixed it is decided by board of
directors at the end of year in annual general meeting (AGM)
considering profit of company in that particular year.
After payment to preference shareholders dividend id paid to
ordinary shareholders
Capital structure
Capital structure of limited company is consisted of following
three components.
Total number of share(Ordinary /common or preference)
Face value per share

67

Total amount of share capital (ordinary /common or

preference)
Types of capital .
The following are the types of capital .
1.Authorsed share capital ./Registered capital .
Total capital of the company which is allowed by the gov,t,to
subscribe/issue

2.

10%50,000 preference shares@1 each

50,000

100,000 Ordinary shares @1each

100,000

Issued share capital

That part of authorized capital which is issued to public

for subscription .
10%,40,000 preference shares @1each40,000
50,000 Ordinary share @1 each

50,000

Dividend :That portion of profit which is distributed

among shareholder is called dividend

.Dividend is

always calculated on issue share capital . (Ordinary

/common or preference).
Dividend is of two types
I Interim dividend :Declared and paid during the year:
II Proposed /final dividend : Declared at end of year and
paid in the next year thats why it is also current liability
of business
Accounts to be prepared.
1. T &P&L Appropriation A/C
2. Balance sheet
FORMAT OF TRADING AND PROFIT & LOSS APROPRIATION A/C

68

Sale

xxx

Less :Returned /sale returns

xxx

Net sales

xxx

Less: cost of goods sold.

Opening stock

xxx

Add: purchases

xxx

Add; carriage inward

xxx

Less: Returned outwards/ purchases return

xxx
xxx

Less closing stock

xxx

xxx

Gross profit

xxx

Add: Discount received / Rent received

xxx

Add: Decrease in provision for doubtful debted

xxx

Add: profit on disposal of asset or Any other income

xxx
xxx

Less: Expenses
Rent

xxx

Salaries

xxx

Wages

xxx

Insurance

xxx

Advertising

xxx

Repair and maintenance

xxx

Bad debts

xxx

Increase in provision for doubtful debt

xxx

Carriage inwards

xxx

Depreciation on machinery

xxx

Van running cost

xxx

69

Fuel expenses

xxx

Loss on disposal of assets

xxx

xxx

Net profit for the year before taxation

xxx

Less: corporation tax

xxx

Net profit for the year after tax

xxx

Less: Appropriation
Transfer to general reserve
Interim dividend : Preference shares
Proposed Dividend :

xxx

Ordinary shares

xxx

Preference shares

xxx

Ordinary shares

xxx

xxx

Retained profit for the year

xxx

Add: Retained profit of last year (if any)

xxx

Retained profit for the year C/D

xxx

Fixed Assets,
Cost

Dep.

N.B.V

Plant and machinery

xxx

xxx

xxx

Building

xxx

xxx

xxx

Motor Van

xxx

xxx

xxx

Furniture and fitting

xxx

xxx

xxx

xxx

CURRENT ASSETS
Closing stock

xxx

Debtors

xxx

Less;: Provision for doubtful debts

xxx

xxx

70

Cash in hand

xxx

Cash at bank/ Bank

xxx

Prepayment

xxx

Less: Creditors due within one years:

Credit

xxx

Bank Overdraft

xxx

Accrued Expenses

xxx

Taxation

xxx

Proposed dividend

xxx

Proposed dividend on preference shares

xxx

Proposed dividend on ordinary shares

xxx

xxx
xxx
xxx

Less: Credit due after one years.

Loans

xxx

Debentures

xxx

xxx
xxx

Capital and Reserves.

10%, 40,000 preference shares@ 1 each

xxx

50,000 Ordinary shares @ 1 each

xxx

General Reserve

xxx

Share Premium

xxx

Profit& loss A/c

xxx

Reserves

xxx

71

This is a form capital is internally generated not provided by the shareholders.

They are either created out of profit or through various adjustments to capital
structure of a company or through the valuation of fixed assets.
Reserves has two types. I.
1.

Revenue Reserves II.

Capital Reserves

Revenue Reserves . Revenue reserves are created by voluntary/ transfer

from P&L appropriation A/C into particular reserve. Examples include General
Reserves, Assets replacement reserve, foreign exchange reserve and profit & loss
a/c (Retained profits). Profit retained for business are not distributed among
shareholder are Revenue which are also called distribution reserves, which means
that dividend can be paid out of these reserves.
Entry

P&L appropriation a/c

Revenue Reserves

II.

Capital Reserves.
These reserves are not created out of profits of a

company but are required by law under different circumstances. They are also
Statutory Reserves|
They include share premium Asset revolution reserve and Capital redemption
reserves. They are non- distributable reserves and divided can not be paid out of
these reserves.
Revenue Reserves

Bonus share
Dividend

Capital Reserves

ISSUE OF SHARES
The sequence of transaction is as follow both for ordinary and preference
shares.
Nature of transaction
1. Issue of prospectus

Details
No entry

2. Receipt of application Bank a/c

With application

Debit

Credit

Xxx

Xxx

72

money

Application &

3. Refund of application

Xxx

allotment a/c

money to

Xxx

Bank a/c

unsuccessful

Bank a/c

applications

Xxx

Application and

4. Receipt of allotment

allotment a/c

money & shares to

Application and

the applicants

allotment a/c

5. Transfer of

Xxx
Xxx

Capital a/c

application money to

Xxx

Share premium a/c

Xxx

capital a/cOR
Share premium a/c

Bank a/c
1st call or 2nd call

Xxx

Xxx

xxx

Xxx

a/c
6. Receipt of 1st call or

2nd

1st call or 2nd call a/c

Call money.

xxx

capital a/c
share premium a/c

7. Transfer of call
money to capital a/c
(ordinary or
preference )OR share
premium a/c

Ordinary or preference share capital account

Balance c/d

Application & allotment

xxx

First & final call

xxx

Share premium account

Ordinary share capital

xxx

Application & allotment

xxx

73

Balance c/d

xxx

First &final

xxx

xxx

xxx

Bank Account
Application &allotment

xxx

Application & allotment

xxx

Application& allotment

xxx

Balance c/d

xxx

Call

xxx
xxx
Application and allotment account

Ordinary Share Capital a/c

xxx

Share Premium a/c

xxx Bank (allotment money)

Bank (Refund)

xxx

Bank (application money)

xxx
xxx

xxx
First or Second call Account

Ordinary Capital /Share premium a/c xxx Bank

xxx

Xx
x
BONUS SHARES

x
xx

Company reserves belong to the ordinary shareholders. Director of a

company may transfer with the agreement of the shareholders some of the balance
on the reserves to the Ordinary share capital account. The directors will then issue
to the ordinary shareholders additional share certificate equal to the amount of the
reserves transferred in proportion to the shares they already hold. These new
shares are known as bonus shares because the shareholders do not pay any
additional cash for them .An issue of bonus shares is also known as a scrip issue.
The accounting entries for issue of Bonus Shares are:
Share Premium
Profit & loss a/c

74

Bonus shares a/c

2.

Bonus shares a/c

Ordinary shares capital account
OR
Share premium
Profit & loss a/c
Ordinary share capital account

Effect of bonus on shares on Balance sheet

I

Reserves will decrease

II

Ordinary share capital will increase

The reason why directors may propose a bonus issue is:

1.

Theses reserve must be considered as part of the long term of the capital
of the company. If they are returned in the balance sheet as reserve real
capital employed in the business is obscured.

2.

The reserve may be capital reserve which cannot be distributed to the

shareholders as cash dividends.

3.

It may not be financially product to distribute the revenue reserves as

cash dividends because the liquidity position of the company may not
permit this sort of distribution anyway.

Rights Issue
The preliminary formalities involved in issuing shares to the general public
can be a very expenses matter. A private company may not make such an offer
in any case. The directors may therefore decide to raise additional capital by a
right issue for which the formalities are less demanding.
A right issue is one in which shares are offered to existing shareholder not
to general public. The expenses and inconvenience of preparing a full
prospectus as for the public issue.

75

An additional advantage of a right issue is that control of the company

remains with the existing shareholders. Normal accounting entries will be
passes on the occasion
Of right issue.
Effect of issue of right shares on balance sheet.
I

Cash will increase

II

Ordinary share capital will increase

Convertible loan stock:

Gives the holders the opportunity at a future date to convert the loan into
Ordinary shares of the company at a predetermined price. If, when the time arrives
for the stock holders to exercise their option, the market value of the shares is
higher than the predetermined price, the debenture holders could find the exchange
attractive. On the other hand, if the share value is below the predetermined price,
they would be unlikely to exercise their option.
Advantages of exercising the option are:
1.

The debenture holders continue to have an interest in the company and

will be

Able to attend and vote at company meetings.

2.

Dividends on shares may be likely to exceed the interest on debentures.

3.

There is also possibility that value of shares should be increased with

passage of time in a healthy company.

Effect of conversion of convertible loan stock into Ordinary shares on Balance

Sheet.
I

convertible loan stock will decrease

II ordinary Share Capital will increase

Redemption and purchase of own shares by a company
A company is permitted by the companies Act, 1985, to issue redeemable
preference shares.
A company may issue redeemable preference shares because

76

1They may be redeemed when there is a surplus of capital and the

surplus funds cannot be put to profitable use.
Capital may be needed in the medium term for a project but the
project may be expected to generate sufficient funds in due course to enable
the capital to be repaid.
If a shareholder in a family company dies his personal
representatives may require money as a matter of some urgency to pay
taxes.
Companies are permitted to redeem their own shares in the
following two methods:
1

Out of the proceeds of a new issue of shares.

In this method cash is made available for redemption of shares by
issue of new shares and share premium a/c is used if shares are to be
redeemed at premium.
The amount of the premium which may be debited to share premium
accounts limited to:
The premium on the shares when they were issued and,
The balance presently standing to the credit of the share premium
account (i.e. the share premium account must not end up with a debit
balance)
Entry
Redeemable preference shares a/c ***
Premium on redemption shares a/c
Profit & loss a/c

***
Cash a/c

***
***

By capitalizing profits that would otherwise be distributable to the

shareholders.

77

In this method first of all capital Redemption Reserve will be created from
General reserves. Shares may be redeemed at a premium, the premium on
redemption may charges to share premium account only if:
1

The shares to be redeemed were originally issued at a premium and

The shares are to be redeemed out of the proceeds of a new issue of

shares.

The accounting enteries for Redemption of shares are:

1.

For creation of Capital Redemption Reserve

General Reserve
Profit &loss a/c
Capital Redemption Reserve a/c

2.

For redemption of shares &payment of cash

Redemabe Preference shares a/c
Premium on redemption of shares a/c
Profit &loss a/c
Cash a/c

For capitalization of Capital Redemption Reserve

Capital Redemption Reserve a/c
Ordinary Share Capital Account

Effect of redemption of preference shares on Balance Sheet:

I

Redeemable preference shares capital will be decreased

Share Premium a/c will be decreased (if needed)

II

Cash will be decreased

Debentures
A debenture is a document containing details of a loan obtained by a
company. The loan may be secured on the assets of the company. Debenture
carries a fixed rate of interest.
Debenture is usually redeemable on or before a specified date.
Debenture holders are Creditors, not owners of the company as shareholders are.

78

Debenture should always be shown as long term liabilities (amounts falling due
after one year)
Redemption Of Debentures----Same like redemption of preference shares
Effect of Redemption of Debenture on Balance Sheet.
I
II

Debenture will be decreased

Cash be decreased

Share Premium a/c OR Profit & loss a/c will be decreased (if needed)
Cash flow statement for the year ended 31December 19-3
1.

Net cash inflow (outflow) from operating activities (W-1)

xxx

2. Returns on investments and servicing of finance

4.

5.

Interest received

xxx

Interest paid

xxx

Drawing (if any)

xxx

Net cash inflow (outflow) from ROI & SOF

xxx

3. Taxation paid (Previous year)

xxx

Investing activities/Capital expenditure

Purchase of tangible fixed assets

xxx

Sale of plant and machinery

xxx

Net cash inflow (outflow) from investing activities

xxx

Payments of Divends
Interim divided paid

xxx

Proposed dividend (previous year)

xxx

Net cash inflow (outflow) before financing activities

xxx

6. Financing activities
Issue of Ordinary /Preference share capital

xxx

Sale of debenture of goes getting loans

xxx

79

Redemption of debenture

xxx

Repayment of loans

xxx

Net cash inflow (outflow) from financing activities

Increase / (Decrease) in cash

xxx
xxx

(W-1)

Cash flow from operating activities

Operating profit /Net profit before interest & tax

xxx

Add: Depreciation for year

xxx

Loss on sale of fixed assets

xxx

Goodwill written-off

xxx

Increase in provision for doubtful debts

xxx

Reserve ((if any)

xxx

Less: profit on sale of tangible fixed assets

Decrease in provision for doubtful

xxx
xxx

Less increase in current assets

xxx

Add: Decrease in current assets

xxx

Less Decrease in current liabilities

xxx

Add: Increase in current liabilities

xxx

Net cash inflow (outflow) from operating activities

xxx

Analysis of changes in cash and equivalents during the year

Balance at 1January

xxx

Net cash inflow (Outflow)

xxx

Balance at 31December
Interpretation of Accounts /Accounting OR Financial Ratio

80

Accounting Ratio:
Accounting ratios are calculated from Trading & profit & loss account and
Balance sheet.
It is the relationships among figure appearing in the final accounts of a
listed Company. It can be expressed in terms of %, proportion or in times. It is
normally used for analysis and decision making purpose.
Types of Ratio.

There are main four types of ratio.

1.

Profitability ratio

2.

Financial ratio

3.

Investment ratio

4.

Utilization of ratio

1. Profitability ratio
I. Gross profit ratio =

Gross profit*100
Sale

II.Net profit ratio

Net profit*100
Sale

III. ROCE
(Return on capital employed )

=Profit before interest &Tax*100

Capital employed

IV. Return on Equity = Profit before tax & after preference divided *100

Ordinary share capital +Reserve

V. Expenses/operating expenses =particulars expenses*100
Sale

2. Financial ratios.
Current ratio or working capital ratio =

Current assets
Current liability
Standard ratio: 2:1

II. Liquid ratio/Acid test ratio /Quick ratio=

Current assets closing stock

81

Current liabilities
Standard ratio:1:1
III.

Stock Turnover ratio =

Cost of goods sold = Times

Average stock

Average stock
IV.

Debtors ratios.

Opening stock + closing stock

2
Average number of days in which debtors pay to the

business.
V.

Creditor

Creditor

* 365 = xxx days.

Credit Purchase
Investment ratios
1.

Gearing ratio =

Fixed cost capital * 100

Total capital

Note:

Fixed cost capital includes long term loan, preference shares and

bank overdraft.
Total Capital:
II.

Ordinary share capital + Reserves + Fixed cost capital.

Earning per share. ( EPS)

Earning for ordinary.

Number of ordinary shares

Note : Earning means profits after tax and divided on preference shares.
III.

Price earning ratio (PER) Market price of share

EPS

IV.

Dividend covers

Profit available to pay ordinary dividend

Ordinary divined.

V.

Dividend yield

Declared rate of dividend* Nominal value of share

Market price of shares

VI.

Earning Yield

I.
II.

Dividend yield dividend cover.

Earnings
Market price per shares * Number of

shares

82

VII.

Interest cover =

Profit before interest & tax

Interest charges

4.

Utilities of resources ratio.

1.

Utilities of capital employed =

Sale

Times

Capital employed
II.

Utilization of total assets =

Sale

Times

Total asset
Total assets include fixed assets and current assets.
III.

Utilization of fixed assets =

Sale

Times

Times

Fixed assets
IV.

Utilization of current assets =

Sale
Current assets

COST AND MANAGEMENT ACCOUNTING.

Cost Accounting is classifying, recording and a appropriate a allocation of
expenditures for the determination of the costs of products of services, and for the
presentation of arranged data for purpose of control and guidance of management .
It includes the ascertainment of the cost of every order ,job , contract, process,
service or unit as may be appropriate. It deals with the cost of production ,selling
and distribution of the product
Cost Accounting is the application of costing and cost accounting principles,
methods and techniques to control cost and ascertainment of profitability.
The following are the main objectives of cost accounting :
:To ascertain the cost per unit of different products manufactured by a business .
: To provide a correct analysis of cost by different elements of cost both by
processes or operations.
:To disclose souse of source of wastage whether of material , time or expenses or
in the use machinery , equipment and tools and to prepare such reports which may
be necessary to control such wastage.

83

:To provide requisite data and service as a guide to price fixing of products
manufactured or services rendered.
:To ascertain the profitability of each product and advice the management as to
how these profits can be maximized.
:To revel sources for economy by installing and implementing a system of cost
control for materials , labour and overheads.
:To present and interpret data for management planning ,decision making and
control .
:To help in the preparation of budgets and implementation of budgetary control.
:To organize an effective information system so that different levels of
management may get the required information at the right time in right from for
carrying out their individual responsibilities in an efficient manner.
:To guide management in the formulation and implementation of incentive bonus
plans based on productivity and cost saving.
:To supply useful data to the management to take various financial decisions such
as introduction of new products, replacement of lab our by machine etc.
:To organize the internal audit systems to ensure effective working of different
departments.
: To provide specialized services of cost audit in order to prevent the errors and
frauds and to facilitate prompt and reliable information to the management.
Broadly speaking , the above objective can be regrouped under the following
three heads :
1. Ascertainment and analysis of cost and income by product, function and
responsibility.
2. Accumulation and utilization of cost for control purpose to have the minimum
possible cost consistent with maintenance of quality. This objective is achieved
through fixation of targets, ascertainment of actual and targets and reporting
deviations to the management for decisions making.
3. Providing useful data to the management for decisions making .

84

Cost classification
Cost classification is the process of grouping costs according to their common
characteristics. The important ways of classification are:
1.

By Nature of Element

2.

By Functions

3.

As Direct and Indirect

4.

By Variability

5.

By controllability

6.

By Capital or Revenue

7.

By Time

8.

According to Planning and control

Now few classification will be discussed in detail.

By Nature or Element. According to this classification, the costs are divided into
three categories i.e. (elements of product cost)
I Materials: Material cost has following two types.

Direct materials cost. Cost of that material which is basic requirement /need
for the production of a product . For example wood for Furniture making.

Indirect materials cost. Cost of that material which is helping element for
the completion.
II

Labour cost has following two types

Direct labour cost . Cost of that labour which is directly engaged for

conversion of wood into furnitures as per design.

Indirect labour cost. Cost of that labour which is engaged for the help of
direct labour in the production of a product . For example store man, security
guard, cleaners, and other helping labour.
III

FOII :All indirect manufacturing cost of products. Example includes:

Indirect material cost
Indirect labour cost
Deprecation of factory machinery /building
Rent of factory building
Fuel expenses
Utility bills of factory

85

Repair and maintenance of factory

Insurance of factory machinery /building
As direct and indirect. Accounting to this classification, total cost is divided into
direct costs and indirect costs.
Direct cost are those which are incurred for and may be conveniently identified
with a particular cost centre or cost unit. Example are:
I

Direct Materials cost.

II

Direct labour cost

III

Direct expenses

IV

Loose tool expenses

By variability .Accounting to this classification, costs are classified

according to their behavior in relation to change in the level of activity or volume

of production. On this basis, costs are classified into three groups .i.e. fixed,
variable and semi-variable
I Fixed Costs (period Costs) Costs are commonly described as those which
remain fixed in total irrespective of increase or decrease in the volume of output or
productive activity for a given period of time . Fixed cost per unit decrease as
production increases and increases as production decline .These costs are known
as period costs because these are dependent on time rather than on output .
Examples pf foxed costs are: Rent, Maintenance cost Insurance of factory
building, Deprecation (if straight line method is used)
II Variable Costs (direct costs) Costs are those which vary in total in direct
proportion to the volume of output. Such costs are known as product costs because
they depend on the quantum of output rather than on time. Examples are:
i.

Direct Materials cost.

ii.

Direct Labour cost.

iii.

Direct expenses.

iv.

Variable FOH.

86

iii.

Semi- variable Cost are those which are party fixed and partly variable.

For example telephone expenses include a fixed portion of monthly charge plus
variable charge according to calls; thus total telephone are semi- variable.

Manufacturing Accounts. It is prepared by Manufacturing businesses

which are engaged in the production of certain goods. It show the cost of the
production of goods i.e. cost of materials labors and factory overheads. It is and
expense/ cost account.

Manufacturing cost/ Elements of cost.

1.

Material cost.

Material costs has followings two types.

Direct material cost. cost of that material which is basic

requirement/ need for the production of a product. For example wood for furniture
making.

Indirect material cost. Cost of that material which is helping

element foot the completion of a product. For example paint or glue or steel- bar
used in furniture making.
2.

Labor cost.

Labor cost has following two types.

Direct labor cost. Cost of that labor which is directly engaged in

the production of a product. For example labor directly engaged for
conversion of wood into furniture as per design.

Indirect labor cost. Cost of that labour which is engaged for the
help of direct labour in the production of a product. For example
store men security guard cleaner sand other helping labour.

3.

Factory overhead.

All indirect manufacturing costs of a product.

Example includes:

Indirect material cost

Indirect labour cost.

Deprecation of factory machinery/ building.

87

Rent of factory building.

Fuel expenses
Utility bills of factory
Repair and maintenance of factory
Loose tools expenses
Insurance of factory machinery/ building

Stock in the manufacturing business.

1.

Raw martial stock.

2.

Work in progress( incomplete goods}

3.

Finished goods (Goods ready for sale}

Main Points
Profit/ loses on manufacturing.
The difference between cost of manufacturing and cost of bought- in goods
is a factory profit or profit on manufacturing and increases the profits of the firm
and if the cost of production exceeds the cost of similar bought in goods, a
factory loses on manufacturing
Manufacturing profit OR factory profit
i.

Added to cost of production

ii.

Added to net profit

Manufacturing loss OR factory loss

i.
II.

Deducted from cost of production.Ii.

Deducted from net profit

Elimination of unrealized manufacturing profit on unsold stock of

finished goods.
The prudence concept requires that profit shall not be anticipated before it
is realized. If the valuation of closing stock of finished goods includes an element
of factory profit this unrealized profit must be laminated in the profit and loss
account and balance sheet by making an appropriate provision.
i.

Creation/ increase in provision.

Profit and loss account.

88

Provision account ( with the amount of creation or increase)

Decrease in provision:
Provision account;
Profits and loss account ( with the amount of decrease)
ii.

In balance sheet ; deduct provision from stock of closing finished

goods.

Accounts to be prepared.
Manufacturing a/c
Trading& P&L a/c
Balance Sheet.
Manufacturing account.
Opening stock of raw material

xxx.

Add : purchase of raw material

xxx.

Add : carriage inwards

xxx.

Less : Return outwards/P/return

xxx.
xxx.

Less closing stock of raw material

xxx

Cost of raw material used

Add: direct labor cost/ direct wages/ factory wags/ Mfg. wages
Add: direct expenses ( if any) ( Royalty)
Prime cost
Add: F.O.H
Indirect material cost

xxx.

Indirect labor cost

xxx.

Deprecation of factory machinery/ building

xxx.

Rent of factory building

xxx.

Fuel expenses

xxx

Utility bills of factory

xxx

89

Repair and maintenance of factory

xxx

Loose tools expenses ( opening stock + purchases closing stock)

Insurance of factory machinery / building

xxx

xxx
xxx

Total factory cost/ total manufacturing cost

xxx

Add : factory profit or manufacturing profit ( loss)

xxx

Trading & Profit & Loss A/C

Sales

xxx

Less: cost of goods sold.

Opening stock of finished goods

xxx

Add: Production cost of goods completed

xxx

Less: closing stock of finished good

xxx

Gross Profit

xxx

Add ; Rent received/Discount received

xxx

Add : Decrease in provision for unrealized profit on unsold stock.

xxx
xxx

Less; Expenses
Rent

xxx

Salaries/ Wages

xxx

Insurance

xxx

Advertising

xxx

Bad debts

xxx

Depreciation on Furniture

xxx

Fuel. Expenses

xxx

Increase in provision for unrealized profit on unsold stock

xxx

xxx

90

Net profit/ Net loss

xxx

Add: Factory profit or manufacturing profit ( loss)

xxx

xxx

Balance sheet
Current assets
Stock of raw Material ( closing)

xxx

Work in progress

( closing)

xxx

Finished goods

( closing)

xxx

Loose tools

( closing)

xxx

Matrial / Stock costing

There are two system of material costing or inventory control.
Perpetual inventory system.

A Perpetual inventory system is one in which a running balance is

maintained of stock
After every purchase and sale of stock in Material card or store card or Bin
card.

This system is normally adopted permanently by the big business units

which have a lot of daily transactions.( purchase/ sale)

Expensive system because certain employed to be engaged for maintaining

record of stock transactions and stationary will also be consumed largely.
Following three methods are used in this system:
o FIFO
o LIFO
o Average cost method
Proper material. Card/Bin card to be prepared

Format of bin card/ material card

Date

Purchase/Receipts
Units

Unit cost Total cost

Sale/Issue
Units

Unit cost

Total cost

Balance
Units

Unit

Total

cost

cost

91

Periodic inventory system

2.

A periodic inventory system is one in which only the totals of purchases

and sales are record at the end of each accounting period and a new balance
is calculated at the end of particular period.

This system is normally adopted by small business units which have few
transactions over a particular period.( purchase/ Sale)

Less expensive because no need to engage employees for maintaining

record of stock transaction.
Following three methods are also used in this system:
o FIFO
o LIFO
o Average cost method
Advantages and disadvantages at page No 324 of Randal book.
To be prepared
Calculation of profit

Calculation of value of closing stock under FIFO, LIFO, AVCO.

Stock valuation statement.

Format of calculation of profit ( trading and profit & loss account)
FIFO
Sales

LIFO
xxx

AVCO.
xxx

xx
x

Less: cost of goods

sold
Opening Stock
Add :Purchases
Less : closing stock

xxx
xxx
xxx

xxx
xxx
xxx xxx

xxx
xxx
xxx

xxx

xxx

92

Gross profit

xxx

Rent
Advertising
Depreciation

xx

xxx
xxx
xxx

x
xxx
xxx
xxx

xx
xxx
xxx
xxx

(xxx)

(xxx)

(xxx)

Net profit

xx

x
Format of stock valuation statement

xx
x

Stock ( at cost ) as on 10-1-06

xxx
Add: item which were in stock on 31-12-05 ( at cost)
Sales
xxx
Goods sent to customer on approval
xxx
Purchase made but not received
xxx
Damaged stock (

xxx
Purchase return/ Return outwards
xxx
Stock sheet understated
xxx
Less: item which are not in stock on ====(at cost)
Purchases
xxx
Sales return /Return inwards
xxx

xx
x

93

Stock sheet overstated

xxx
Stock in hand as at 31-12-2004

xxx
Absorption costing:

This is a technique of costing in which all cots of a

product are considered the product cost and it includes direct material cost, direct
labour cost, direct expenses and fixed & variable overheads.
Profit statement under absorption costing
Sale
Less: Cost of goods sold
Direct Material Cost

xxx

Direct labour cost

xxx

Direct expenses (if any)

xxx

FOH Fixed

xxx

Variable

xxx

Add. Opening stock

xxx

Less closing stock (To be calculated)

xxx

Gross profit

xxx

Overheads

It means all direct costs of production and it includes indirect

material cost, indirect labour , factory repair , factory fuel expenses , factory rent
,factory utility bills, looses tool expenses, factory insurances , depreciation of
factory machinery , depreciation of factory building etc. For distribution of
overheads Departments of a business can be divided into two types:
I

Production departments----Engaged in production of certain products.

II

Service departments --------Supporting to production departments

Overheads can be divided into two ways.

Allocation (Direct expenses ): Expenditure are allocated to a cost centre when it
was made specifically for that cost centre. Examples of expenditure which can be
allocated are:

94

Expenditure

Cost centre

Lubricating oil

Machine shop

Repairs to racking

Stores

Food

Canteen
Apportionment (indirect expenses) :Expenditure which are made for the

benefit of the business generally cannot be allocated ; it is apportioned on some

equitable basis. Such expenditure are rent, rates insurances heating and lighting
etc.
Apportionment of indirect expenses to cost centre must be made on fair and
reasonable bases.
Bases for appointment of overheads:
Overheads
Building, rent, rates, maintenance,

Basis for apportionment to cost

centers
Depreciation, Insurance

On floor area of each cost

Heating, lighting

On floor area of each cost centre

Plant, machinery and equipment

depreciation On cost or book value of Asset

Plant, machinery and equipment

insurance

On replacement or cost value of

asset
Cost of store keeping

On number or value of

stores requisition
Raised by each cost centre
Cost of canteen, personnel/administration .Deptt on number of personal
/employees of cost
Centre
To be done
GOH Distribution sheet

95

Transfer of Services Department cost to production departments

Calculation of FOH Rate or OAR
FOH Distribution sheet
Cost element

Basis of

Tota Maching

Apportionme l

Assemb Painting

Packing

ly

nt
Indirect material cost Allocated

xxx

Xxx

Xxx

Xxx

Xxx

indirect labour cost

Allocated

xxx

Xxx

Xxx

Xxx

Xxx

Factory

Floor area

xxx

Xxx

Xxx

Xxx

Xxx

repairs/maintenance

Floor area

xxx

Xxx

Xxx

Xxx

Xxx

heating

Floor area

xxx

Xxx

Xxx

Xxx

Xxx

Plant depreciation

Cost of plant

xxx

Xxx

Xxx

Xxx

Xxx

Plant insurance

Replacement

xxx

Xxx

Xxx

Xxx

Xxx

xxx

Xxx

Xxx

Xxx

Xxx

xxx

Xxx

Xxx

Xxx

Xxx

xxx

Xxx

Xxx

xxx

Xxx

xxx

xxx

xxx

value of
plant
Storekeeping

No. of
requisitions
Total

1st . Apportionment
(packing Dept)

2nd Apportionment
(paint Dept)

96

FOH Rate OR(Overhead Absorption Rate)

Estimated FOH of

department
Base
Base for (calculation of FOH Rate)
1. Direct labour hours
2. Machine hours
3. units of producaton
4. Direct material cost
5. Direct labour cost
6. Prime cost
Over/under recovery of overheads
Overheads absorption rate are based upon budgeted level of activity and if
actual expenditure and activity are equal to budget the overheads will be recovered
exactly and if actual activity does not correspond to the budget the cover/under
recovery of overheads will be resulted.
Budgeted/estimated overheads

50,000

Actual overheads

60,000

Under estimated

10,000

If actual overheads are than budget/ estimated overheads, it is under

esteemed and will be added to cost of production
If actual overheads are less than budgeted/estimated overheads , it is over
estimated and will be deducated from cost of production
Marginal Costing
In this techniques of costing only VARIABLE COSTS are considered
product cost.i.e.Direct material cost, Direct expenses and variable
costs are considered period cost i.e fixed FOH
Profit statement under Marginal Costing
Sale

xxx

FOH. Fixed

97

Less; Variable Cost of goods sold

Direct Material Cost

xxx

Direct Labour Cost

xxx

Direct expenses (if any)

xxx

Add. Opening stock

xxx

Less closing stock (To be calculated)

xxx
xxx

Contribution Margin (sales-variable costs)

xxx

Less

xxx

Fixed overheads

Net Profit

xxx

Profit statement under Absorption costing /Marginal costing

Absorption costing

Marginal costing

Sale
Less: cost of goods sold

xxx

Direct Material cost

xxx

Direct expenses

xxx

xxx

FOH :variable

Xxx

Xxx

Fixed

Xxx

Xxx

Xxx

Xxx

Xxx

Xxx

Add. Opening stock

Less closing stock

Xxx

Xxx

xxx

Gross profit /contribution Margin

Less: Fixed FOH

xxx

Xxx
Xxx

Profit

xxx

98

Break even analysis.

1. Break even (units)

=Fixed cost
=C.M per unit

Break even (Currency) =Fixed cost

x Sale price per unit xxx

C.M. per unit

2. Target profit:

=Fixed cost+target profit

=xxx

C.M. per unit

3. Margin of sagety =Total /current sale-break even sale
500,000-450,000=50,000
CM=

Contribution Margin

CM=

Sale Variable Cost

Process Costing.

In this techniques of costing cost of production is

charged to particular department or cost centre by preparation of process a/c for

that cost centre.
Process

costing is used when goods or service are produced in a series of

continuous or respective operations or process . Process costing is appropriate for

an industry, such as the manufacture , chemical manufactute etc .
Assume production for 2000 units is started and following results obtained:
Finished Goods

1500

Work in Progress

400

Unit lost

100
2000

Important points
1. Stage of Compleion of WIP.

It means that how many units of WIP are

completed with reference to material ,
labour and FOH. For example
Material

100

Labour

80

FOH

50

99

3. Losses/gains:
I.

Normal loss -5%,10%

II.

Abnormal loss-controllable loss

III.

Abnormal gain : 100-105=5 units

Normal loss:

Some loss of material may be expected in the course of

processing .This may result from spolage , evaporation or other wastage.

Experience will show what percentage of wastage may be expected under normal
conditions and this is regarded as normal wastage inherent in the process. The
cost of such waste will be borne by good production /output.
Abnormal losses and grains: Any wastage in excess of normal is treated as
abnormal loss and written off to profit and loss account via abnormal loss
account .
Calculations of per unit cost:
There are two ways to calculate per unit cost in process costing.
1.

Calculations of per unit cost If closing WIP is not existed in the

questions:
Total cost ---sale recovery of normal loss units
GOODS UNITS
Good units: All units will be considered good units except normal
loss units

II. If closing WIP is existed in the questions per unit cost will be calculated
by preparation of analysis of equivalent units of production in the
Following format
Cost elements

Finished Good +Abnormal

WIP

Total

Total

P.U

Loss-abnormal gain

Units

units

cost

Cost

Labour

1500

400

1900

8000

4.22

FOH

1500

320

1820

7500

4.11

1500

200

1700

6000

3.52

Material

100

11.85
STEPS
1.

Normal loss units

2.

Finished Good /WIP

3.

Abnormal Loss/Gain.
Process Account-I

Direct Material Cost

xxx

Normal Loss (note-i)

Xxx Xxx

Finished goods

Xxx Xxx

Additional Mat. Cost if any

xxx

Direct labour cost

xxx

Direct expenses

xxx

FOH

xxx

Abnormal loss

Xxx Xxx

xxx

WIP(Balancing figure)

Xxx Xxx

Abnormal Gain

Note.1

xxx

Recovered amount by sale of scrape units/normal loss units should be

shown in the cost column

Process Account-2
Direct Material Cost

xxx

Normal Loss

Xxx Xxx

Finished goods

Xxx Xxx

Additional Mat. Cost if any

xxx

Direct labour cost

xxx

Direct expenses

xxx

FOH

xxx

Abnormal loss

Xxx Xxx

xxx

WIP(Balancing figure)

Xxx Xxx

Abnormal Gain

xxx

Abnormal loss a/c

Process-1

xxx

Scape value(Recovery)

xxx

101

xxx
Joint product:

P&L
Abnormal gains a/c

xxx

Two or more different products may results from one

process .They are not recognizable as different products until they emerge at the
point of separation. If the products are known each have a significant sales value,
either at the point of separation or after further processing, they are known as joint
products are :
Example of joint products are :
Coal gas production : (I) coal gas
Oil refining :

(I) petrol

(II)coke
(II) Diesel oil

(III) Lubricants

Methods for calculation of joint products cost.

1. Units of output/ physical units
2. Sale value of the product
By products:

A by product is produced in a similar manner to a join

product, but it has a low sales value compared to the sales values(s) of other
man products(s) resulting from the process.
Example of by-products are:
Garment manufacture: Remain of material (can be sold for various uses.)
Founding: Slag (used in construction industries )
Joint cost includes by product cost
Total cost

150,000

Less: By product cost

20,000

Joint cost

130,000

Budget
Estimate of income and expenses of a business over a particular
period on the basic of estimated activity.
Types of budget
1. Cash budget
2. sale budget

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3. production budget
4. Master budget
Project trading and profit & Loss a/c
Project balance sheet
Cash budget
Cash budget
III.

Receipts schedule

IV.

Payment schedule.

V.

Cash budget

Format of cash budget

Receipts

January

February

March

Cash sale

xxx

xxx

xxx

Received from debtors

xxx

xxx

xxx

Sale of fixed assets

xxx

xxx

xxx

Loan obtained

xxx

xxx

xxx

Any other cash received

xxx

xxx

xxx

xxx

xxx

xxx

Cash purchased

xxx

xxx

xxx

Paid to creditors

xxx

xxx

xxx

Expenses paid

xxx

xxx

xxx

Drawings

xxx

xxx

Payments

Purchased of fixed assets xxx

xxx

Loan repaid

xxx

Any other cash paid

xxx

xxx
Net receipts (payments)
Balance b/d ( opening)

xxx

xxx
xxx

xxx

xxx
xxx

xxx

xxx

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xxx

xxx

xxx

xxx

xxx

xxx

Cash budget
Opening balance of cash/
Balance b/d

xxx

xxx

xxx

Recipts

xxx

xxx

xxx

- Payment

(xxx)

(xxx)

(xxx)

Balance c/d

xxx

xxx

xxx

Production budget -------------------------from book ----------page 399

Flexible budget:
A budget is prepared on the basis of a pre- determined level of activity,
however, management may anticipate the actual level of activity being greater or
less than budget. The budget may, therefore be flexed i.e prepared for various
level of activity to enable realistic comparisons of actual and budget result.
Note:

The most important thing in budget questions in policy of sales

purchases, payment of expenses and their calculations.

Project trading profit trading and profit & less account and projected
balance sheet will be prepared as already done.
Standard Costing.

It is the pretermined cost of a product. It includes

direct material cost,direct labour cost direct expenses and FOH.

Assume standard units are 500 units and standard per unit cost is estimated as
under:
Material

3 met 2 each

Labour

2 Houm@2 per hour

FOH

100% OF D.labour

Standard cost per unit

Actual data after completion of period OR work
Actual output

480

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Actual cost
Material

xxx

Labour

xxx

FOH

xxx

Variance Analysis
Material Variance
1.

Total material cost variance OR overall material variance

standard cost of material actual cost of material
(St.Qty x. price)-(Actual Qtyx actual price)

2.

Material price variance

standard price actual price x actual Qty purchased or used

Material usage /Quantity varience .

(Standard quantity actual quantity ) x standard price
Labour variance

1.

Total labour cost variance OR Overall labour variance

Standard labour cost---Actual hours cost.
3.

Labour Rate /wages varience

Standard Rate Actual rate x Actual hours worked.

4.

Labour Efficienvy Variance

Standard hours allowed actual hours worked x standard rate

Sale Variance
1.

Total sale variance OR overall sale variance

Standard sale price- actual sale price
(standard sale quantity x standard sale price)-(Actual sale quantity x
actual sale price)

2.

Sale price variance

Standard sale price-actual sale price x actual quantity sold

3.

Sale Volume variance

Standard sale quantity actual sale quantity x standard sale price

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Investment Appraisal OR Capital Expenditures

1.

ARR

Accounting or Average rate of return

Net profit
100 = %
Average capital employed
average capital employed: of capital employed + working capital.
Accounting rate of return (ARR)
accounting rate of return calculates average annual profit as a percentage of
average capital employed.
Accounting capital is calculated as one half of the capital outlay on the
project based on the assumption that the fixed assets will be completely
deprecation by the end of the project. the return on capital from the project will be
compared with the return being earned on the capital already invested in the
business.
2.

Payback period.

Risk is an important factor to be considered in capital expenditure decisions. the

sooner the outlay on a project is an a project is covered by the inflow of cash the
better this is the payback period. A long period increase the risk that the outlay
will not be recouped. The payback period is measured in years. Only cash paid or
received enters into the calculated and non-cash item such as deprecation and
accruals and prepayment are ignored.
Comparison of the payback period of two projects
Project 1

Project 2

Cash ( out flow)

Cash ( outflow)

Inflow

Inflow

Years

Balance

(100-000)

Balance

(100-000)

(100,00)

(100,00)

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20,000

(80,000)

15,000

(85,000)

40,000

(40,000)

20,000

(65,000)

40,000

25,000

(40,000)4

3.

IRR

30,000
-

(10,000)5
30,000

20,000

Internal Rate of return.

IRR= x + pq AC
Ad

X = Rate giving positive NPV

pq = Distance between two rates used to give NPVs
Ac = The positive + negative value
Internal rate of return ( IRR)
The net present value of a project is calculated by discounting net receipts
at rate equivalent to the cost of capital. This shows whether or not future net
receipts, when discounted will be at least to the in initial outlay in learns of the
present value of money.
If a company is to make a profit, it must earn a higher rate of return on an
investment than cost of its capital. Management needs to know what rate of return
an investment will yield. The expected yield can capital be compared with the rate
carned on its other capital. The rate is found by calculated the Internal Rate of
Return.
The Internal Rate of Return is the discounting rate which equates the
discounted net receipts from a project to its cost, i.e. the rate which produces a nil
NPV.
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