PRINCIPLES OF ACCOUNTS

Forms: 4 & 5
SECTION 1: ACCOUNTING AS A PROFESSION

Definition of Accounting
Accounting is the process by which certain methods and procedures are used to classify, analyze
and summarize the financial records of a business.

Principles of Accounting
These are the basic procedures, rules, guidelines and regulations governing the way in which
accounting is done

Purpose of Accounting
● Ascertain the value of assets and liabilities of a business.

● Provide financial information and control of a business.

● Ascertain the profit and loss of a business.

● Make budgetary plans.

● Provide accurate data for decision making.

Internal and External Users of Accounting Information

Internal Users External Users
Board of Directors Banks and other financial institutions

Owners Government agencies

Investors/Shareholders/Partners Prospective Investors

Managers Suppliers/Creditors

Supervisors Labour Unions

Employees The Press/Media

Customers/General Public
Careers in the field of Accounting
● Banking industry

● Hotel industry

● Insurance

● Entrepreneurship

● Management

Ethical Principles of Accounting

Principles that governs right or wrong actions. These include:
▪ Code of ethics
▪ Objectivity
▪ Professional competence
▪ Integrity
▪ Professional behavior
▪ Confidentiality

Examples of inappropriate application of Accounting Principles

▪ Fraud
▪ Tax evasion

Consequences of inappropriate action

● Law suits

● Loss of job

● Loss of integrity

● Closing down of businesses

● Fines

● Imprisonment
 SECTION 2: ACCOUNTING AS A SYSTEM

Accounting Concepts and Conventions

Are principles that guide the accounting process such as:
● Accrual

● Matching

● Prudence (conservatism)

● Separate entity

The Accounting Cycle

The cycle by which all transactions are recorded in a double entry set of books.
1. Source Documents – Documents that contain original evidence of a transaction. e.g.
receipt, invoice, debit and credit notes etc.

2. Journalizing – Recording transactions in the books of original entry.

e.g. journals (sales, purchases)

3. Posting to the Ledger – Transferring all debit and credit entries from the books of
original entry to the ledger.

4. Trial Balance – A list of debit and credit balances in the ledger.

5.
6. Adjustment and Closing Entries – Making allowances for accruals (owing) and
prepayment (pay in advance) before final accounts are prepared.

7. Final Accounts – The Preparation of the Trading account, Profit and Loss account and
the Balance Sheet
Source Documents
 Final Accounts Journalizing

Adjustments Posting to the ledger

and Closing entries

Trial Balance
Types of Business Organizations
1. Sole Trader
A person who owns and operates a business on his own.
2. Partnership
A business owned by 2 - 20 persons with an aim of making a profit.
3. Corporations ( Limited Liability Companies)
a. Private Limited Company – A business owned by 1 - 50 members who are called
shareholders.
b. Public Limited Company – A business owned by a minimum of 7 members
(shareholders) and no maximum limit.
4. Co-operative
A business owned an operated by a group of persons with a common interest to operate
the business for their mutual benefits. E.g. credit unions.
5. Non-Profit Organizations
These are clubs and associations that are run for the benefit of their members by engaging
in particular activities without making a profit.

Financial Statements prepared by Business Organizations

1. Income Statement (Trading and Profit and Loss a/c)
2. Income and Expenditure a/c
3. Balance Sheets
4. Cash Flow Statements

Accounting processes performed by the use of computers

● Payroll
 ● Inventory (Stock ) Control

● Receivables (Debtors) schedules

● Payables (Creditors) schedules

Softwares used in Accounting

● Acc Pac

● Quick Books

● Peach Tree

Advantages of using computers in accounting

1. Greater speed and accuracy
2. Simultaneous updating
3. Improve accessibility
4. More information available
5. Reduction in staffing (less wages to pay)

Disadvantages of using computers in accounting

1. Capital expenditure (increase costs to buy computers0
2. Training costs
3. Risk of loss of data
4. Maintenance and support costs
5. Period of transition

Definition of a Balance Sheet

The Balance Sheet is a statement showing the assets, liabilities and capital of a business.

The Balance Sheet Equation

 Assets = Liabilities + Capital
Liabilities = Assets - Capital
Capital = Assets – Liabilities

(Exercises will be done from text book)

Definition and Examples of Assets, Liabilities and Capital

Terms Definitions Examples

Assets The total amount owned by the Machinery, Motor Vehicle, Land,
business. Fixtures, cash, money in the bank,
Debtors (persons who owe the
business money)
Liabilities Anything that the business owes Loan, Bank overdraft,
for. Creditors (the person to whom the
business owes money)
Capital Money and other assets used by the
owner to start the business

Another name for Debtors is Accounts receivable (An asset)

Another name for Creditors is Accounts payable (A liability)

Assets are divided into two areas:

1. Fixed Assets/ Non- Current Assets

Assets bought which have a long life and are to be used in the business.
e.g. Machinery, Motor Vehicles, Building, Fixtures and Fittings, Premises, Land,
Fixtures etc.

2. Current Assets
Assets consisting of cash, goods for resale or items having a short life.
e.g. closing stock, debtors, bank, cash.
Liabilities are divided into two areas

1. Long Term Liabilities – Liabilities not having to be paid for in the near future.
e.g. loan, mortgage

2. Current/Short Term – Liabilities to be paid for in the near future.

e.g. creditors, bank overdraft.

Preparation of Balance Sheet

(Exercises will be done from text book)

The Balance Sheet can be drawn up or arranged in two ways:

1. Order of Permanence – This refers to assets that are not easily converted into cash.
The most permanent asset is listed first.

2. Order of Liquidity – This refers to assets which are easily converted into cash within
a year. Cash is the most liquid asset.

Effect of transactions on Balance Sheet items (showing increase or decrease)

Please note:
Re: Effects - Transactions will either have:

1. 2 assets - 1 increase and 1 decrease

2. 1 asset and 1 liability - 2 increases or 2 decreases

3. 1 asset and 1 capital - 2 increases or 2 decreases

(Exercises will be done from text book)

SECTION 3: BOOKS OF ORIGINAL ENTRY

Books of Original Entry

Are books where the first entry of a transaction is made.
Types of Books of Original Entry
1. Sales Journal
 2. Purchases Journal
3. Return Inward (Sales Return) Journal
4. Return Outward (Purchases Return) Journal
5. Cash Book
6. Petty Cash Book
7. General Journal

Books of Original Entry Uses Source Documents

Sales Journal Records goods sold on credit Sales Invoice

Purchases Journal Records goods purchased on Purchases Invoice

credit
Return Inwards Journal Records goods returned by Credit Note
customers
Return Outwards Journal Records goods returned to Debit Note
suppliers
Cash Book Records all cash and cheques Receipts, Cheques, Cash bills,
paid or received bank statements,
Petty Cash Book Records the receipts and Petty Cash vouchers
payments of small amounts of
cash
General Journal Records all other transactions Receipts, statements of
accounts

Cash and Credit Transactions

Forms of payment include:
1. Cash – This is money (notes and coins) used to make payments for goods and services.

2. Cheques – A written instruction to a bank to transfer a certain sum of money to the

payee (persons whose name is written on the cheque).

3. Credit Cards – Allow purchases to be made even if a customer does not have enough
deposit in the bank account. The credit offered to the customers will
have to be paid back to the bank with interest.
 4. Debit Cards – These are cards issued by banks to customers to allow them to make easy
payments for goods and services. Debit cards transfer money
immediately from a customer’s bank account into a business bank
account when goods are bought.

SOURCE DOCUMENTS RELATED TO BOOKS OF ORIGINAL ENTRY

1. Invoice – a document to the buyer showing full details of the goods sold and the prices
of the goods. To the seller it is known as a sales invoice. To the buyer it is
known as a Purchases invoice.

2. Credit Note - A note sent to the customer showing the amount of allowance given to us
in respect of the return of faulty goods. Credit notes are used with
return inwards.

3. Debit Note - A note sent to the supplier stating the amount of allowance to which the
firm returning the goods is entitled. Debit notes are used with
return outwards.

4. Petty Cash Vouchers – This shows details of the expenses incurred together with a
receipt (if possible), the amount spent and signed by the person
making the claim.

5. Receipt from cash transactions – A written document acknowledging the receiving of

money or goods.

6. Non-cash transactions – A financial activity that involves the capital and liability of a
business but has no effect on the inflows and outflows of cash.
THE BANKING SYSTEM

Types of Accounts

● Current or chequing a/c

● Deposit (savings) a/c

Current a/c - This is a bank account used for regular payments in and out of the bank.
No interest is given on this type of account. Acheque book is used in this
type of account.

Deposit a/c - This kind of account is one which will be concerned normally with putting
money into the bank and not withdrawing it for some time. Interest is
normally given on money deposited.

Bank Overdraft is when a person has taken more out of his bank account than what he has put
in it.

Drawer/Payer – The person making out a cheque and using it for payment.
Drawee/ Payee - The person to whom a cheque is paid to
Paying –in- slip - A form used for paying money into a bank a/c.

CASH BOOK
The cash book is a book which consist of the cash a/c and the bank a/c and sometimes the
discount allowed and discount received a/c.
There are two types of cash book:
 1. Two – column cash book
2. Three – column cash book

The cash book has two sides: A receipt side and a payment side.
Contra Entry – This occurs when the bank a/c and the cash a/c is affected in the same
transaction. e.g. Took $50 cash out of the bank.
N.B. Cash Sales directly into the bank is not a contra entry. The two accounts are sales and bank.

Types of Discount:
1. Trade Discount - A reduction given to a customer when calculating the selling price of
goods.

2. Cash Discount - A reduction in the sum paid if payment is made within a specific time
period.
There are two types of cash discount:
● Discount Allowed - Is cash discount allowed by a firm to its customers when
they pay their accounts quickly. (this is an expense)
● Discount Received - Is cash discount received when the firm pays their accounts
quickly. (this is a revenue)

3. Quantity Discount – Discount given when goods are bought in bulk or large quantities.

PETTY CASH
A petty cash is a book used to record small cash payments and the money received to make these
payments.
An imprest or float is a sum of money which is set aside for a particular purpose. In this case, it
is set aside for petty cash that is used to meet business expenses which requires the use of small
cash.
The main cashier gives the petty cashier the imprest from which he/she makes up these
payments. The petty cashier makes up the petty cash book to show exactly how the money was
spent.

Accounting for Petty Cash

When the imprest is given to the petty cashier, the following entries are made:
Debit: Petty Cash Book
Credit: Cash Book

The Petty cash book is divided into a debit and credit side. The debit side is a single column
where a few entries are made. The credit side on the other hand has several columns. The two
sides are separated by the date and the details column. The number of analysis columns
(expense columns) in the petty cash book varies from business to business depending on their
particular needs. These columns are used to record several expenses. There is usually a column
for ledger accounts, this ledger column is used to make entry in any personal account and on rare
occasions any nominal account that has not been given its own column in the petty cash book.

Balancing the Petty Cash and restoring the Imprest

A petty cash book may be balanced weekly, fortnightly or monthly. All the columns must be
totaled to calculate the total amount of petty cash spent.

SECTION 4: LEDGERS AND THE TRIAL BALANCE

Classification or Types of Accounts

1. Personal accounts – Accounts for debtors and creditors.

2. Impersonal Accounts. –
a. Real - Accounts in which property is recorded. e.g buildings, machinery, fixtures and
stock.

b. Nominal– Accounts in which expenses, income and capital is recorded.

Different Types of Ledgers

1. Sales ledger - used for customers’ personal accounts e.g. debtors.

2. Purchases ledger - used for suppliers personal accounts e.g. creditors.

3. Cash Book - used for cash and bank transactions.

4. General Ledger – used for fixed assets, loan, capital expenses, revenues, drawings,
sales, purchases etc.
 N.B. Items in the sales journal and return inwards journal goes in the sales ledger.
Items in the purchases journal and return outwards journal goes in the purchases ledger.

Double Entry System

Is a system where transaction is recorded twice, once on the debit side and once on the credit
side. The debit side is the left hand side of the account while the credit side is the right hand side
of the account in the double entry.
N.B. Every debit entry has a corresponding credit entry and vice-versa.

Rules of Double Entry

1. When Assets increase, it is debited, when it decreases it is credited.

2. When Liabilities and Capital increases it is credited, when it decreases it is debited.
Every different kind of asset and liability each has its own separate accounts.

Double Entry for Asset of Stock

1. Purchases – Goods bought by the business for the purpose of resale.

2. Sales - Goods sold by the business.

3. Return Inwards/Sales Return – Goods returned to the business by its customers.

4. Return Outwards/Purchases Return – Goods returned by the business to its supplier.

N.B. Purchases a/c and Return Inwards a/c are always debited.
Sales a/c and Return Outwards a/c are always credited.

Double Entry for Expenses and Revenues

Expenses – Are those services that you use and pay for. e.g. rent, rates, electricity, insurance,
wages and salaries, telephone, discount allowed, stationery etc.

Revenues – are money received as a result of trading.

e.g. rent received, discount received, commission received etc.

N.B. All expenses a/cs are debited.

All revenues a/cs are credited.

Drawings – Money taken out of the business by the owner for personal or private use.
Drawings a/c is always debited.
Balancing Off Accounts

● Balance Carried Down (c/d) figure is the difference between the debit side and credit side
of an account.

● The Balance c/d is the same as the Balance Brought Down (b/d) figure.

● The Balance c/d figure is always on the opposite side of the Balance b/d figure.

● The Balance c/d figure is always written on the last day of the month.

● The Balance b/d figure is always written on the first day of the following month.

● The Balance c/d is always on the lesser side of the account.

● If both sides equal the same then there is no balance.

Trial Balance

● Is a list of balances in the books, shown in debit and credit columns. Debit balances must
equal to the credit balances.

● Trial Balance is always written on the last day of the month.

● If the b/d figure is on the debit side in the ledger then the figure is put in the debit column
of the trial balance.

● If the b/d figure is on the credit side then it goes in the credit column of the Trial Balance.

● Only the b/d figure is transferred to the Trial Balance. All your b/d figure on your debit
side of your personal a/c are added up and call “Debtor”. It is written on the debit side.

● All the b/d figure on the credit side of the personal accounts are added up and called
“Creditors”. This figure goes in the credit column.

Uses of the Trial Balance

1. To check that the books balance i.e. that every debit entry has a corresponding credit
entry.
2. To ascertain the net amount of the errors, if any.
 3. As a basis for the preparation of the Final Accounts.

Limitations of a Trial Balance

1. The complete omission of a transaction, because neither a debit nor a credit entry is
made.
2. The posting of a debit or credit entry to the correct side of the ledger, but to a wrong
account.
3. Compensating errors (e.g. an error of $100 is exactly cancelled by another $100 error
elsewhere).
SECTION 5: THE PREPARATION AND ANALYSIS OF FINANCIAL STATEMENTS
OF THE SOLE TRADER

Purpose of preparing Financial Statements

-Is to provide information about the financial position, performance and changes in financial
position of a business that is useful to a wide range of users in making economic decisions.
Financial statements should be relevant, reliable and comparable.

Components of the Financial Statements

1. Trading a/c
2. Profit and loss a/c
3. Balance Sheet

Trading, Profit and Loss Account

Trading a/c –
An account which is used to calculate gross profit.

Profit and Loss a/c –

An account which is used to calculate Net Profit.

Gross Profit is profit before expenses are taken out.

OR
The excess of sales less Cost of Goods Sold.
Gross Profit = Net Sales – Cost of Goods Sold (COGS)

Net Purchases = Purchases + Carriage Inwards - Return Outwards

Cost of Goods Available for sale is COGAFS

COGAFS = Opening Inventory (stock) + Net Purchases

COGS = COGAFS – Closing Stock.

Net Profit is profit after expenses are taken out.

Net Profit = Gross Profit - Expenses

Closing Inventory (Stock) are goods that were not sold in the period.

Opening Inventory (Stock) is stock that is used to start the business.

N.B. The Closing stock of one period becomes the opening stock of the next period. Opening
stock is on the first day of the month. Closing Stock is on the last day of the month.

Carriage Inwards – Cost of transporting goods into the business.

Carriage Outwards - Cost of transporting goods to customers. (it is an expense)

Balance Sheet
Is a statement showing the assets, capital and liabilities of a business.

Working Capital is the capital of a business which is used in its day to day trading operations.
It is calculated as: Current Assets – Current Liabilities
 FORMAT FOR TRADING, PROFIT AND LOSS A/C
A. Williams
Trading, Profit & Loss a/c for year ended Dec. 31, 2000
$ $ $
Opening Inventory (Stock) xx Sales xx
Purchases xx Less Return Inwards -xx
Add Carriage Inwards + xx Net Sales xx
xx
less Return Outwards - xx
Net Purchases +xx
Cost of Goods available for sale xx
Less Closing Inventory (Stock) -xx
Cost of Goods Sold (COGS) xx
Gross Profit c/d +xx ___
xx xx

less Expenses: Gross Profit b/d xx

Carriage Outwards xx Add revenues:
Discount Allowed xx Rent received xx
Rent xx Discount Received xx
Sundry expenses xx xx
Rates +xx
Total expenses xx __
Net Profit +xx xx
xx
 FORMAT FOR BALANCE SHEET

A. Williams
Balance Sheet as at Dec. 31, 2000
Fixed Assets $ $ $ $
Land xx Capital xx
Motor Vehicle +xx Add Net Profit +xx
xx xx
less Drawings - xx
Current Assets xx
Stock (Closing Inventory) xx Long Term Liability
Debtors xx Loan xx
Bank xx
Cash + xx Current Liabilities
+ xx Creditors xx
Bank Overdraft xx
+xx
xx
xx

ACCOUNTING RATIOS
Reasons why ratios are important
- To measure the financial performance of the business.
- To use the information to make certain business decisions.
- To compare the financial performance of the firm with other business.
- To compare the financial performance of different accounting periods to see if there has
been any significant changes.
INTERPRETATION OF TRADING & PROFIT AND LOSS A/CS
1. Gross Profit percentage
Gross Profit x 100
Net Sales

2. Gross Profit on cost

Gross Profit x 100
C.O.G. S.

3. Net Profit Percentage

Net Profit x 100
Net Sales

4. Expense to Turn-Over ratio

Total Expenses x 100
Net Sales
5. Rate of /Stock Turn over
C.O.G.S.
Average Stock

*Average Stock = Opening Stock + Closing Stock

2

INTERPRETATION OF THE BALANCE SHEET

1. Fixed Capital = Total Fixed Assets
2. Floating or Circulating Capital = Total Current Assets
 3. Liquid Capital = Current Assets – Closing Stock
4. External Liabilities = Current Lia. + Long Term Lia.
5. Capital Employed = Total Assets - Debtors
6. Capital Owned = Capital + Net Profit – Drawings
7. Return on Capital Invested = Net Profit x 100
Capital at Start

SOLVENCY
Is the ability of the business to pay their debts as they fall due.
Solvency can be tested by calculating the following:

1. Working Capital = Current Assets – Current Liabilities

2. Working Capital Ratio/ Current Ratio = Current Assets

Current Liabilities

3. Acid Test Ratio/ Liquid Capital Ratio = Current Assets - Stock

Current Liabilities

REPORTING ON PERFORMANCE USING RATIOS

In order to examine the key aspects of the performance of a business, it is usual to calculate
ratios using some of the key figures contained in financial statements.

INDICATORS OF GOOD PERFORMANCE

Ratios can be used to analyze how well or badly a business has been performing and to provide a
basis for helping business owners and managers to make improvements. It is usual to consider
three important matters when reporting on performance:

1. Profitability - Are the owners and managers of a business successful in increasing the
business 's value overtime through trading or providing a service?
 2. Liquidity - Are the resources of the business well managed so that debts are settled on
time and so that the owner can receive a reasonable income.

3. Efficiency - Are the owners and managers of the business controlling key resources so
that the maximum benefit is derived from the funds tied up in them.

POSITIVE PERFORMANCE AND INCOME STATEMENT RATIOS

It is possible to comment on the performance of a business based on income statement ratios.

However, it is important to have equivalent ratios for a previous year or years and/or for a similar
business. Here are some ideas about performance that can be identified from income statements
ratios.

1. Gross Profit percentage and mark up percentage

If these figures are increasing this is usually seen as good news for a business, because it
means more gross profit is being made in relation to sales or cost of sales (goods sold).

2. Rate of inventory (stock) turnover

An increase in the rate of inventory turnover should be welcome news for the owner of a
business because it could result from selling goods more quickly, so profit is being made
on a greater volume of sales. However, it could result from holding a smaller average
Inventory, which could reduce customer choice.

3. Net Profit Percentage

An increase in this percentage will mean that a business is making more profit on each
item sold indicating a strength in the performance of the business.

POSITIVE PERFORMANCE AND BALANCE SHEET RATIOS

1. Current Ratio
If the ratio is in line with the norm of the type of business being reviewed, it means that
the business is well placed to meet its commitment and has just the right amount of net
current assets/ working capital.

2. Acid Test Ratio

If the ratio is in line with the norm of the type of business being reviewed, it means that
the business is well placed to meet its commitment and has just the right amount of liquid
assets.
 3. Return on capital investment
If the percentage is increasing this would signal an improving performance and a more
effective use of all resources of the business.

How can a business improve its Profitability

You may be asked to make a few recommendations. Here are a few ideas:
1. Improving sales: for example;
a) Reviewing pricing policies to make the business more competitive.
b) Considering the quality or range of the products sold.
c) Reviewing marketing strategies.
d) Reviewing the products on sales such as adding new lines and dropping slow
selling lines.

2. Reducing costs: for example;

a) Reducing wastage
b) Finding cheaper suppliers of goods and other services.

3. Making the best use of resources: for example;

a) Whether the business has the right assets to achieve the desired level of profit.
b) Whether any of the assets are being underused.

How can a business improve its Liquidity

The following ideas may be helpful.

1. Increasing profit: for example;

Increasing sales but also keeping control of costs, resulting in increased cash
flowing into the business. This may not be immediate because of course the
business will have to wait on Debtors (Accounts Receivables) to pay.

2. Reducing Drawings
If the owner can take less cash from the business for his personal use, this will have a
positive impact on liquidity. However, the owner's personal commitments may not make
this possible.

3. Increasing Non-Current Liabilities:

Arranging a long term loan would instantly boost liquidity. However, loans have to be
repaid and interest charges could be high and would of course reduce profits.
4. Delaying expenditure on Non-Current (Fixed) Assets:
a) The owner of the business could delay plans to replace or increase fixed assets. This
would mean that cash is retained within the business which would otherwise be spent.
However, the delay could have a negative impact on the quality of the business
operations.
b) Selling off unused fixed assets.

5. Introduce more Capital.

How can a business improve its Efficiency

a) In general, an increase in the rate of inventory turnover is a strength for a business,

because it means inventory is sold more quickly, every time an item is sold, some profit
will be made.

b) Generally, the more quickly customers pay the better. It is a particular strength if
customers are paying a business more quickly than the business is paying its suppliers
(creditors), because the flow of cash through the business is improved. Normally, the
longer it takes to pay your suppliers (payables) the better but, of course, it is important
not to upset suppliers by delaying too long.

How to write a simple report on a business performance

The following steps should be taken when reviewing the performance of a business:

Step 1: Look at the trend in sales - Is it upward or downward? Often

the trend in sales figures is the most important key to
understanding all the other aspects of a business
performance.

Step 2: What has happened to each of the other ratios? Look at

profitability, liquidity and efficiency as separate categories.
What trend emerges in each case? Is the overall picture one
of improving or declining ratios - or is the picture more mixed.

Step 3: Make it clear what are the strengths and weaknesses for the
 business.

Step 4: Overall, do you feel the business is improving? Make

suggestions as to how the business could improve its
performance by recommending actions that could help
overcome any weaknesses.

SECTION 6: ACCOUNTING ADJUSTMENTS

Accounting Concepts that underpin the need for adjustments

1. Prudence
An accountant should always be on the side of caution; this is known as Prudence.
Prudence convention means that, normally, accountants will take the figure that will
understate rather than overstate the profit. Thus, they should choose the figure that will
cause the capital of the firm to be shown at a lower amount rather than at a higher one.
They will also normally make sure that all losses are recorded in the books, but profits
should not be anticipated by recording them before they are realized.

2. The Accruals (Matching) Concept

The Accruals concept (Sometimes referred to as matching concept) establishes that, when
calculating profits and losses for a certain period (normally a year), only the revenue and
other income for that period should be included and it should be ‘matched’ to the expenses
for the same period, whether or not all the amounts concerned have actually been
received/paid. Revenue, income and expenses relating to goods and services supplied or
received during other financial periods should not be included.

3. Consistency
This Convention says that when a business has a fixed method for the accounting
treatment of an item, it will enter all similar items in exactly the same way when
preparing the financial statements in following years. Thus a business should not use one
method in one year and another method in the next year because constantly changing
methods would lead to misleading profits, therefore the concept of consistency is used.
However it does not mean that a business has to follow the same method until the firm
closes down.
Examples of when the Consistency concept is used includes:
 a) Depreciation
b) Inventory (stock) valuation

Accounting Concepts which affects the way in which income statements are
prepared.

● The Accruals/matching Concept

● The Prudence Concept
● The Consistency Concept
● The True and Fair Principle

Why are expenses adjusted?

The rule when preparing an income statement is that it is important to ensure that any
expense item represents the amount to that expense for that year – whether paid or not. As a
result, some expenses need adjusting at the year end because there is an amount due but
unpaid when the financial statements are prepared. The amount entered into the income
statement (trading and profit and loss account) is the amount that has been incurred during
the year, even if it has not all been paid for. The amount due but unpaid is referred to as an
accrual. This is an application of the accruals concept.

Therefore when preparing an income statement, adjustments have to be made for expenses
and income for the period that are not yet paid (expense accruals/income due) and expenses
and income relating to next period that have been paid in advance (expense
prepayments/income received in advance).

There are 3 adjustments that we will focus on, when making adjustments to Final
Accounts:
1. Accruals and Prepayments
2. Bad Debts
3. Depreciation

1. Accruals and Prepayments

Adjustments to expenses

Expense Accruals
This is the term used when expense is not fully paid at the year end, leaving an amount that is
due but unpaid.

● At the year end the amount of an expense accrual is added to find the correct amount
to be charged to the income statement for that expense.
 ● An accrual is recorded as a credit balance (when brought down) in an expense
account as it is a current liability.

Expense prepayments
When a prepayment for an expense covers more than the year under review, i.e. part of the
payment made for an expense covers the business at the beginning of the next financial year,
it is called a prepayment.

● The amount of any prepayment must be deducted to find the correct value of the
expense to be charged to the income statement.

● A prepayment is recorded as a debit balance (when brought down) on an expense

account as it represents a current asset.

Adjustments to income

Sometimes businesses receive income not just from sales (revenue) but also from some activities,
such as rent received when a business lets out (rent) part of its premises to a tenant, and interest
received on investments and savings. Other income items are added to gross profit in the second
part of the income statement.

Income due

This is the income that has yet to be received at the year end.

● The amount of any income due at the year end is added to find the correct amount of
income to be shown in an income statement.

● Income due is recorded as a debit balance (when brought down) in an income account as
it is a current asset.

Advanced income

● This is the amount of any income received that covers more than the year under review,
i.e. part of the amount covers the beginning of the next financial year. It is necessary to
deduct the amount of any income received in advance at the year end to find the correct
value to be shown in an income statement.

● Advanced income is recorded as a credit balance (when brought down) on an income

account as it represents a current liability.

NB All transfers to the income statement from expense accounts and income accounts will
first be recorded in the general journal.
The following table is a summary of how expense and income adjustments are treated in the
statement of financial position (balance sheet):

Adjustment Shown under…..

Expense accrual Current liabilities
Prepaid expense Current assets*
Income due Current assets*
Income received in advance Current liabilities

*Place immediately after accounts receivable when assets are recorded in order of
permanence.

In Summary

Accruals (Owing) are expenses that are owed for at a given period of time.
Prepayments (Payments in advance) are expenses that are paid in advance or before time

Illustration of how details will appear in the expense and income accounts.
Any Expense Account
Cash Prepayment c/d
Accrual (Owing) c/d) Accrual (Owing) b/d
Prepayment b/d

Any Revenue (Income) Account

Prepayment c/d Cash
Accrual (Owing) b/d) Accrual (Owing) c/d
Prepayment b/d

N.B. c/d is the same year or current year

b/d is the year before

Illustration of how details will appear in the income statement and statement of financial
position (balance sheet).

Income statement (extract) for the year ended 31

December 2019

$ $ $
Gross Profit xxx

Add: Interest received xxx

rent received xxx

+xxx

xxx

Less Expenses:

Insurance xx

Add accruals +xx

xxx

wages xx

Less prepayment -xx

xxx

other expenses +xxx

Total Expenses - xxx

Profit for the year xxx

Statement of financial position (balance sheet) (extract) as at 31 December 2019

$ $ $
CURRENT ASSETS
Inventory xxx
Accounts receivables xxx
Income due (revenue owing) xxx
Prepaid expenses xxx
Cash at bank xxx
Total Current assets xxx

CURRENT LIABILITIES
Accounts payable xxx
Income received in advance (revenue prepaid) xxx
Accruals (expense owing) xxx
Total Current Liabilities - xxx
WORKING CAPITAL/NET CURRENT ASSETS xxx

2. BAD DEBTS AND PROVISION FOR DOUBTFUL DEBTS

Sometimes businesses face the serious problems that an accounts receivable is unable or
unwilling to pay the amount due. This might arise when the customer concerned disputes the
amount owed or when the customer has gone out of business. Why is this serious? The answer is
that a business, faced with what is called a bad debt, is going to lose not only some of the profit
it had expected to make, but also the cash that the accounts receivable should have been paying.
When this situation arises, it is important that action is taken promptly and the amount due is
written off.

When businesses experience bad debts during the course of the year, it is likely that the total of
accounts receivable to be shown at the end of year statement of financial position could easily
overstate the amount that will actually be received during the next financial period. To ensure
that this is avoided, Statements of Financial Position record the total of accounts receivable less
an estimate for future bad debts. The estimate is called a Provision for Doubtful Debts. This
procedure is a good example of applying three of the accounting rules that underpin the need for
adjustments:
● Accruals (matching) Concept
● The Prudence Concept
● The Principle that all financial statements should show a true and fair view of the affairs
of the business.

Bad Debts
A debt that we will not be able to collect.
OR
An amount owed by an accounts receivable that will not be paid. The bad debts account is an
expense account.

Reasons for bad debts

1. The debtor has lost his job or has become bankrupt thus he can't pay his debt.
2. Conflict or disputes may arise as to the actual amount being owed, thus causing the
debtor not to pay the full amount or none at all.

Provision for doubtful/bad debts

An account showing the expected amounts of debtors at the balance sheet date who will not be
able to pay their accounts.
OR
An amount set aside from profits to take account of the likelihood that some accounts receivable
will not pay the amount due.

N.B.
Re: Provision for doubtful debts
1. When there is an increase you CREDIT
2. When there is a decrease you DEBIT

Bad debts Recovered

There are times when, after the business has written off a debt as bad, the debtor pays the debt or
a portion of the debt afterwards.
There are 2 types of Recovery:
1. Partial recovery - paying a portion of the amount owed.
2. Full Recovery - the total amount owed is now paid.

How to write off bad debts

Accounting records need amendment when a bad debt occurs so that the account of the accounts
receivable is closed and (eventually) profits are reduced.

The entries required in the books of account are; starting with a journal entry:

1. Bad Debts
Debit: Bad Debts a/c
Credit: Accounts Receivable/Debtors a/c

2. Provision for Doubtful/Bad Debts

Debit: Income Statement/Profit and Loss a/c
Credit: Provision for doubtful debts a/c

3. Bad Debts Recovered

Debit: Cash Book
Credit: Bad debts recovered a/c
3. Depreciation

Depreciation is the part of the cost price of the fixed assets consumed during its period of use by
the firm. (the value of the assets goes down or decreases).
OR
The loss in value of a non-current(fixed) asset over its useful life.

Depreciation is an expense.

Depreciation uses the Consistency and Matching/Accrual concept

Only fixed assets depreciate. However, the only fixed asset that does not depreciate is
LAND,(except where the land is used for mining and quarrying purposes). Land appreciates.

Provision for Depreciation

This is when you provide for a particular fixed asset when it depreciates.

Causes of Depreciation

1. Physical Deterioration e.g. wear and tear, overuse of the asset, rust, rot, decay, improper
care.
 2. Time Factor - the length or period of time the asset is in use causes the asset to lose value.

3. Depletion of mines and quarries.

4. Economic Factors such as:

a. Obsolescence (obsolete)- the asset has become outdated because of technological
changes thus equipment are unable to meet the needs of the business.
b. Inadequacy - the asset is unable to cope with the increased demand if the business
rapidly grew in size.

Factors to be considered when calculating Depreciation

1. Cost
2. Estimated useful life (how long the asset is being in use before it is sold)
3. Scrap value (what the asset is being sold for)

Methods of calculating depreciation

There are many ways to calculate depreciation but these two are commonly used:
1. Straight line method
- A depreciation calculation which remains at an equal
amount each year.
- Straight line can be calculated using a formula or
percentage.
Formula for Straight Line Method
Cost Price - Scrap Value
Estimated life (# of years)

2. Reducing Balance/Diminishing Balance Method

- A depreciation calculation which is at a lesser amount every year.
- Only percentages are used to calculate this method.

Journal Entries for recording Depreciation

1. Debit: Asset a/c

Credit: Cash a/c
 2. Debit: Income statement/Profit and Loss a/c
Credit: Provision for Depreciation a/c

Additional key terms used with Depreciation

1. Net book value (NBV) - The amount the asset would be sold
for that year, if it was to be sold.

2. Disposal - the amount the asset is sold for. (when the

business sells the asset)

Capital Expenditure and Revenue Expenditure

Capital expenditure is money spent by a firm to buy or add value to a fixed asset.
Revenue expenditure is expenses needed for the day to day running of the business.

Capital receipts are receipts from the sale of a fixed asset while Revenue receipts are all receipts
that have not come from the sale of fixed assets, additional capital or loan.
THE PREPARATION OF ADJUSTED FINAL ACCOUNTS

Final Accounts or Financial Statements includes:

1. Trading, Profit and Loss a/c (Income Statement)
2. Balance Sheet (Statement of Financial Position)

FORMAT
VERTICAL STYLE – FINAL ACCOUNTS

A. Martin
Trading, Profit and Loss a/c for year ended Dec. 31, 2001
$ $ $
Sales xx
Less Return Inwards -xx
Net Sales xx
Less Cost of Goods Sold:
Opening Stock xx
Add Purchases xx
Add Carriage Inwards +xx
xx
Less Return Outwards -xx
Net Purchases +xx
Cost of Goods avail. for sale xx
Less Closing Stock -xx
Cost of Goods Sold -xx
Gross Profit xx
Add:
Revenues (discount received) xx
Revenue owing xx
Reduction in provision for bad debts +xx
xx
Less Expenses
Carriage Outwards xx
Discount Allowed xx
Depreciation xx
Bad Debts xx
Increase in provision for bad debts xx
Revenue prepaid xx
Rent xx
Add accrual +xx
xx

Rates xx
Less prepayment -xx
xx
General expenses xx
Salaries + xx
-xx
Net Profit xx
 A. Martin
Balance Sheet as at Dec. 31, 2001
$ $ $
Fixed Assets
Land xx
Motor Vehicle xx
Less depreciation -xx
+xx
xx
Current Assets
Stock xx
Debtors xx
Less prov. for bad debts -xx
xx
Bank xx
Cash xx
Prepaid expenses xx
Revenue owing +xx
xx

Less Current Liabilities

Creditors xx
Bank overdraft xx
Expenses owing xx
Revenue prepaid +xx
- xx
Working Capital +xx
Net Assets xx

Financed by:

Capital xx
Add Net Profit +xx
xx
Less Drawings -xx
xx

Long Term Liabilities

Loan +xx
xx
SECTION 7: CONTROL SYSTEMS

The Need for Control Systems

Control Systems are the policies and procedures used to ensure accuracy and reliability across
accounting reports. The purposes of implementing accounting controls in a firm is to ensure that
all areas in an organization avoid fraud and other issues thus the need is there for accounting
systems to make:
1. Accurate judgements about the performance of a business.
2. Informed decisions about the future of the organization.

Uses of Control Systems

● Prevent fraud

● Generate timely and reliable reporting

● Measure progress towards business objectives and goals

● Comply with applicable laws and regulations

● Locate errors
 ● Secure the firm’s assets

Common Control Systems and their purposes

CONTROL SYSTEMS PURPOSES
Trial Balance To check the arithmetical accuracy of the double entry
records
Suspense Accounts To record any difference in the totals of a trial balance
and part of the double entry recording corrections of the
errors that caused the totals to disagree
Control Accounts To check the arithmetical accuracy of the sales and
purchases ledger accounts
Bank Reconciliation Statements To ensure the bank columns in the cash book are up to
date and agree with the banks record of the current
account of the business

It is important to note that the techniques of the Control Systems are not perfect. They help
reduce errors and fraud but they do not eliminate the risk of errors and fraud altogether.

Types of Errors

A. Errors NOT affecting the Trial Balance Agreement

The Trial Balance total will not agree when any of the following types of errors are made:

1. Error of Omission
Where a transaction is completely omitted from the books and was never posted
in the ledger.

2. Error of Commission
This is where the correct amount is entered but in the wrong person’s account.
e.g. C. Dee paid us $200 in cash was entered in C. Bee’s account.
 3. Error of Principle
This is where an item is entered in the wrong class of account. e.g. If a fixed asset
is debited in error to an expense account.

4. Compensating Errors
Where two unconnected errors happen to cancel out each other. e.g. If the sales
a/c is added up $10 too much and the purchases a/c is added $10 too much. These
two errors will cancel out each other in the Trial Balance.
● Overcast/Overstated

● Undercast/Understated

5. Errors of Original Entry

Where the original figure is incorrect yet double entry is still observed. (Figures
reversed). e.g. Sold goods in cash for $518 was entered both places as $581.
6. Complete Reversal of Entries
Where the correct accounts are used but each item is showed on the wrong side of
the accounts. When this occurs, the figure is doubled. e.g. Paid cheque to A.
Williams $200: $200 was debited to bank a/c and $200 was credited to A.
Williams a/c.

N.B. Two accounts must be affected for the Trial Balance to still balance.
Errors are correct via the general journal.

B. Errors Affecting Trial Balance Agreement

Errors not revealed by a trial balance should be corrected by means of entries in the general
journal.

SUSPENSE ACCOUNTS
 A Suspense Account is an account showing the balance equal to the difference in
the Trial Balance. It is a temporary account used to make the totals of a trial
balance agree.
The Suspense account is open only when one account is affected.
Typical examples of errors affecting the Trial Balance Agreement are:
1. Incorrect Addition – Either totals too great or too small in any one account.
2. Entering an item on only one side of the books. e.g. The debit entry is made but not the
credit entry.
3. Entering one figure on one side of the books but another figure on the other side of the
books.

N.B.
overcast undercast

Any account that has a credit debit

debit balance e.g.
purchases, expenses,
assets, drawings etc.
Any account that has a debit credit
credit balance e.g. sales,
revenue, capital etc.

Effect of Errors on the Income Statement and the Balance Sheet

Once an error has been made in the ledger it will affect the profitability of the business either
positively or negatively, thus a statement of corrected profit needs to be done to make the
necessary corrections.
Only accounts that would normally be found in the Income statement (Trading, Profit & Loss
a/c) would be affected here. If that account is debited in the General Journal, the figure will be
subtracted from the Incorrect net profit figure likewise, if the account is credited in the Journal
the figure will be added to the Incorrected Net Profit figure.

CONTROL ACCOUNTS

This is simply a memorandum account, which summarizes the transactions that take place in the
subsidiary ledger during the month. It does not form a part of the double entry system but is
used as a means of classifying that the entries are made in the subsidiary ledger.
TYPES OF CONTROL ACCOUNTS
There are two types of control a/cs:
1. Accounts Receivable (Debtors or Sales Ledger) Control Account
- This contains a summary of all the transactions that takes place with all the debtors
during the month.
2. Accounts Payable (Creditors or Purchases Ledger) Control Account
- This summarizes all the transactions that take place with all the creditors during
the month.

CONTRA ENTRIES/SET OFF/OFF SET

This comes about in control accounts only if a person is a debtor and a creditor at the same time.
Uses of Control Accounts
- To calculate debtors and creditors figure

- To calculate sales and purchases figure

- To prevent fraud

- To locate errors

Sources of Information for entries in Control Accounts

Accounts Receivable Control Account

Transaction Source of Information
Total credit sales Sales Journal

Total Receipts from Accounts Receivable Cash Book

(Debtors)
Total Discount Allowed Cash Book

Total Return Inwards Return Inwards Journal

Total of Bad Debts written off General Journal

Dishonoured cheques received from a credit Cash Book

customer
Interest charged by credit customers overdue General Journal
balances
Contra Entries General Journal

Accounts Payable Control Account

Transaction Source of Information

Total credit purchases Purchases Journal

Total payments to Accounts Payable Cash Book

(Creditors)
Total Discount Received Cash Book

Total Return Outwards Return Outwards Journal

Interest charged by credit suppliers on General Journal

overdue balances
Contra Entries General Journal
FORMAT FOR DEBTORS CONTROL A/C
-Opening dr. bal. -Opening credit bal.
-Sales to debtors -Cash and cheques received
-Debit note entries for transport, -Discount allowed
insurance interest on overdue a/cs. -Credit note entries i.e. return
-Returned cheques inwards and allowances
-Closing credit bal. c/d -Bad debts written off
-Contra entries: debit bal. offset
against credit bal.
-Closing debit bal. c/d

FORMAT FOR CREDITORS CONTROL A/C

-Opening debit bal. -Opening credit bal.
-Payments to creditors -Purchases from creditors
-Discount received -Debit note entries
-Credit note entries: i.e. return -Closing debit bal. c/d
outwards and allowances
-Contra Entry
-Closing credit bal. c/d

N.B. If the opening balance does not state which side the figure should go, the following
should always be done:
Sales ledger (Debtors Control) opening balance should always be DEBITED
Purchases ledger (Creditors Control) opening balance should always be CREDITED
N.B.

▪ If there is credit balance on any debtors account, the debtor may have overpaid or
return goods without receiving payment.
▪ On rare occasions, it is possible to have a debit balance in the creditors account, if
he has been overpaid or if the goods were returned to him after they have been
paid for.

BANK RECONCILIATION STATEMENT

Bank Reconciliation is a statement comparing and verifying the cash book balance with the bank
statement balance.

Steps in preparing a bank reconciliation statement

1. Check the bank statement and the cash book

2. Revise the cash book

3. Prepare a bank reconciliation statement.

N.B. All debits in the cash book should be credited on the bank statement and vice-versa.

Things to check

1. The items that appear in the cash book but not on the bank statement and vice-versa

2. Any errors that have been made

Revising the Cash Book

1. Start with the cash book balance at the end of the month.

2. Enter all items that appear on the bank statement but not in the cash book

3. Correct any errors that may have been in the cash book.

Examples of errors:

1. If a receipt has been understated, debit the bank account with the understated amount or
if a receipt has been overstated, credit the bank account with the overstated amount.
 2. If a payment has been understated, credit the bank a/c; if overstated debit the bank a/c
with the amount.

3. If a receipt has been entered as a payment, double the amount of money and debit the
bank account. If a payment has been entered as a receipt, double the amount of money
and credit the bank a/c.

Technical Terms used in Bank Recon.

1. Unpresented cheques - A cheque which has been to the bank but has not yet gone
through the banking system.

2. Credit Transfer - An amount paid by some-one directly into your bank a/c

3. Dishonoured cheque (Returned Cheque)– A cheque that is found to be worth nothing.

4. Standing Order - When a customer ask the bank to make payments on their behalf.

5. Direct Debit - This is when the customer ask their creditor to go to the bank and collect
payment.

6. Bank Charges – When the bank charges the customer for a particular service.

7. Bank Lodgement/ Late Lodgement/ Unrecorded Deposits - This occurs when there is a
time lag between the recording in the cash book and the recording of the deposit at the
bank.

N.B.
 Any figure on the credit side of the cash book but not on the debit side of the bank statement
is called unpresented cheque.

Any figure which is on the debit side of the cash book but not on the credit side of the bank
statement is called bank lodgement.

Any figure that is not ticked off in the cash book goes to the bank reconciliation statement.

Any figure that is not ticked off in the bank statement goes to the revised cash book.

FORMAT FOR BANK RECONCILIATION STATEMENT

Balance as per cash book

add unpresented cheques
less bank lodgement
equals Balance as per bank statement
OR
Balance as per bank statement
add bank lodgement
less unpresented cheques
equals Balance as per Cash Book
FORMAT FOR OVERDRAFT
Balance as per cash book overdraft
add bank lodgement
less unpresented cheques
equals Balance as per bank statement overdraft

FORMAT FOR REVISED CASH BOOK

Revised Cash Book

Bal b/f Standing Order
Credit Transfer Bank Charges
Interest Dishonoured cheque
Dividends
 SECTION 8: ACCOUNTING FOR PARTNERSHIPS

A partnership is a form of business in which 2 -20 persons own the business with a view of
making profit.

Comparison of Partnership with other forms of Business such as:

Sole Trader – Also known as sole proprietorship is a simple business structure in which one
individual run and owns the entire business.

Corporations – A large company or group of companies authorized to act as a single and legal
entity that is separate and distinct from its owners.

Types of Partners

1 Limited Partners – one or more partners has limited liability for the debts of the business,
meaning they can only lose the amount they invested in the business should it fail.
Limited partners cannot take part in the day-to-day decision making of the partnership.

2 Unlimited Partners – Where the owners of a business are responsible for all the debts of
the business and may lose all the investment in the business, and private possessions as
well, in order to pay off the debts of the business.

Features of a Partnership

▪ A partnership is a voluntary association, i.e. a business where a group of individuals join

together on the basis of common objectives.
 ▪ Unless it is a limited partnership, each partner will have unlimited liability for the debts
of the business. This is exactly the same disadvantage that is experienced by a sole
trader.
▪ This is one example of mutual agency, whereby each partner has the power to make
contracts on behalf of the partnership and is bound by the other partners’ actions in the
normal running of the partnership.
▪ All the partners are joint responsible for the debts of the partnership, even if an individual
partner played no direct part in incurring the debt.

Reasons for Formation of Partnership

Partnerships enjoy some important advantages that do not apply to the sole trader such as:

▪ Raising more capital because several owners can contribute.

▪ Sharing ideas and expertise
▪ Sharing the workload involved in running a business.

There are however some drawbacks/disadvantages that are faced by partnerships such as
▪ Decision making can be more difficult because every partner must agree to important
proposals about how to run a business.
▪ Each partner must follow any agreements made by the partners.
▪ Each partner is jointly responsible for the debts of the partnerships.
▪ Partnership businesses can be short-lived, because they may have to close on the
retirement or death of a partner.
▪ There is always the risk that partners will disagree and that relationships may break
down, possibly bringing the partnership to an end.
Features of partnership agreement

Partners usually make a formal agreement when the agreement is established. The agreement
may be merely spoken or may be written down in the form of a deed of partnership.

Agreements often include:

▪ How much capital is to be contributed by each partner.
▪ The rate of interest, if any to be paid on capital before the profits are shared.
▪ The responsibilities of each partner in running the business.
▪ A limit on each partner’s drawings
▪ A rate of interest if any to be charged on the partners drawings.
 ▪ Salaries to be paid to partners.
▪ Arrangement for the admission of a new partner.
▪ How profits and losses are to be shared.
Note: where partners do not have a formal agreement about sharing profit and losses, the law
requires profits and losses to be shared equally.

Methods of sharing profit/loss

● Equally
● Ratios e.g. 3:2:1
● Percentage
● In proportion to their capital

Partners Capital Accounts

In many cases, partners agree to contribute a fixed amount of capital that cannot be changed
except by agreement of all the partners. Where this is the case, separate accounts called current
accounts are maintained to record day to day changes in the partners’ investment in the
partnership. Alternatively, in some partnerships all these records are kept in what are called
fluctuating capital accounts. Fluctuating capital account combines all the information about a
partners investment in one account.

Significance of the Debit and Credit balances brought down on the Current Account

The balance on the Current Account can be:

A Debit: where the partners drawings have exceeded the share of profits i.e. the partner is in
debt to the partnership
A Credit: Where the partners share of profits has exceeded drawings, i.e. the partnership is in
debt to the partner.

Treatment of Current Account Balances on the Balance Sheet

1 If a partner’s current account has a credit balance, you add it to the capital figure.
2 If a partner’s current account has a debit balance, you subtract it from the capital figure

FORMAT FOR PARTNERSHIP

 A. Williams
Profit and loss Appropriation a/c for year ended Dec 31 …….

$ $ $
Net Profit xxx
Add: Interest on Drawings: A xx
B +xx
+xx
xxx

Less: Salary: A xx
B +xx
xx

Less: Interest on Capital: A xx

B +xx
+xx
-xx
xxx

Share of Profit: A xxx

B +xxx
xxx

CURRENT ACCOUNT
Details A B Details A B
$ $ $ $
Drawings xx xx Bal b/f xx xx
Interest on Drawings xx xx Salary xx xx
Interest on Capital xx xx
Share of Profit xx xx
 BALANCE SHEET EXTRACT
Financed By:
$ $
Capital a/c: A xx
B +xx
xx

Current a/c: A xx
B +xx
+xx
xx

SECTION 9: ACCOUNTING FOR LIMITED LIABILITY COMPANIES,

CO-OPERATIVES AND NON-PROFIT ORGANIZATIONS

LIMITED LIABILITY COMPANIES

A limited company is a form of business organization whose capital is divided into units called
shares.
This is an organization owned by its shareholders, whose liability is limited to their share capital.
In other words, a limited liability company is a business whose owner’s liability for the
business’s debts is limited to the amount of money that they invested in shares in the business, so
their personal possessions cannot be lost.
A limited company has a separate legal entity from that of its shareholders in that, it can sue, and
be sued.
Those who invest in a company own shares and are referred to as shareholders.

Features of limited companies:

● Unlimited ownership (shareholders)

● Limited liability
● Shareholders receive a dividend as their share of profit
● Risk is limited to the amount invested in shares
● Limited company has separate legal entity from its owners
● Limited company must have an audit and publish accounts
● The company is run by directors who are not necessarily shareholders
● Capital is raised on the issue of shares
● Directors are appointed by shareholders to have the ideas and take on the workload

Types of Limited Liability Companies

1. Private Limited Companies
● A private limited company is one where the ownership of shares is restricted to
members of a family, friends and possibly employees
● They are generally small organizations with few shareholders.

● Members of the general public cannot invest in a private limited company.

● Shares in a private limited company are bought and sold privately and only with
the consent of all the existing shareholders.
● A private limited company could have just one shareholder.

● The abbreviation ‘Ltd’ appears in the title of a private limited company.

2. Public Limited Companies

● A public limited company is one in which the general public can invest.

● Shares in a public limited company are traded on stock exchanges.

● They are large organizations with hundreds or even thousands of shareholders

● The abbreviation ‘plc’ appears in the title of a public limited company.

Advantages:

● The advantage of limited liability

● The company can raise large amounts of finance because there is the potential to have
many shareholders
● The company can call upon the expertise of a wider group of individuals to help manage
and develop the company.
● The company can continue to operate, despite changes in the individuals who own shares.

Shares in the company are freely transferable, subject to certain conditions, no

shareholder is permanently or necessarily wedded to a company. Therefore, the
shareholders of a company may keep on changing from time to time, but that does not
affect life of the company. Neither does the insolvency or death of a member affect the
existence of the company itself.

Disadvantages:

● Companies are subjected to many legal requirements (for example, they are required to
follow strict procedures when they are set up, and they must follow detailed and complex
rules when preparing their annual accounts for publication)
● Companies are subject to change in control, if, for example, an individual or a particular
group of shareholders acquires sufficient shares to control more than 50% of the voting
rights.

Types of Shares, their rights and privileges

1. Ordinary shares:
Shares entitled to dividends after the preference shareholders have been paid their dividends.
Ordinary shares receive a variable rate of dividends dependent on the level of profit. Ordinary
shares normally carry voting rights.

Preference shares:
Shares entitled to a fixed rate of dividend that is appropriated ahead of any ordinary share
dividend. Normally, preference shares are seen as low risk and do not carry voting rights.

Preference shares can be either cumulative or non-cumulative. If dividends are not paid in one
year due to lack of funds or profit, then in the case of cumulative preference shares the
shareholders carry forward their right to the dividend to the next year, and so on, until the
accumulating dividend rights can be paid. Non-cumulative preference shares do not have this
advantage.

Methods of raising capital

i. Issuing of Preference and Ordinary Shares
ii. Debenture - A form of loan to a company with a fixed rate of interest over a
period of time. Th interest is paid before any dividends are paid out to
shareholders. Usually debentures are secured against the value of assets so that if
the company defaults on an interest payment then the asset can be taken as
payment instead. These are called mortgage debentures. Debentures without
security are referred to as simple or naked debentures.

iii. Bank Loan

iv. Selling stocks
v. Reinvesting profits

Shareholders’ Equity

Elements of shareholders equity are

● Share Capital
● Reserves - profit not distributed to shareholders but set aside for future use.

Types of Share Capital

Authorised share capital:

The maximum amount of share capital that a limited company is allowed to issue under its
constitution.

Issued share capital:

The amount of share capital that the company has actually issued, which cannot exceed the
authorized amount.

Called-up capital:
Where only part of the amounts payable on each share has been asked for; the total amount
requested on all the shares in known as the called-up capital.

Uncalled capital:
The amount that is to be received in future, but which has not yet been requested.

Calls in arrear:
The amount for which payment has been requested (i.e. called for), but has not yet been paid by
shareholders.

Paid-up capital:
The total of the amount of share capital that has been paid for by shareholders.

Types of Reserves

Capital reserves:
profits that arise from non-trading activities, they may not be used to finance the payment of
dividends to shareholders. Example share premium

Revenue reserves:
profits that arise from trading activities; directors may use these reserves to finance the payment
of dividends to shareholders. Example general reserves and retained earnings (retained profits)

Key terms:

Limited liability:
The liability of any shareholder to the debts of the company is limited to the
amount of their fully paid-up shares.
Shareholders:
The owners of the shares of a limited company

Directors:
Officials appointed by the shareholders to manage the company for them. A
director can be, but does not have to be, a shareholder.

Shares:
The capital of a limited company is split into parts called shares.

Nominal value:
The price description of an issued share under the company’s constitution. The
‘face value’ of shares is called nominal value.

Par value:
When a company first starts up in business, any shares that are issued to
shareholders will be issued at par. If shares are issued at their nominal value, they
are referred to as “issued at par”. The ‘par value’ means that, for instance, a $1
share will be issued for $1. So, a shareholder buying 50 of such shares will pay
$50.

If a company loses all its assets, shareholders will lose their investment. If a
shareholder has paid in full for his shares then his liability is limited to what he
has paid, whereas a shareholder who has not yet paid in full for his shares can
only be asked to pay any balance outstanding. Hence the term limited liability.

Dividend:
The amount given to shareholders as their share of the profits of the company.

Proposed dividends:
The amount of dividend suggested to shareholders by the board of directors
(BOD) for approval at the annual general meeting (AGM).

Share premium:
The difference between the nominal value of shares and the price at which they
are issued.

Auditors:
External independent checkers of the accounting information used to prepare the
financial statements. They are independent are appointed to report back to the
shareholders at the AGM on whether the accounts are ‘true and fair”.
 Their fees are recorded as auditors’ fees as an expense in the income statement,
and if unpaid and owing for that financial period it is shown as a current liability
in the statement of financial position.

Stewardship:
The idea that managers, directors, etc. are responsible to the owners of a business
for the efficient use of a business’s resources.

All the monies paid to directors (such as fees, salaries, etc) are referred to as
directors’ remuneration and are recorded as an expense in the income statement.
Once again, if any remuneration is outstanding and unpaid at the year end, it is
recorded in the current liabilities in the statement of financial position.

PREPARING THE JOURNAL ENTRIES REQUIRED TO RECORD THE ISSUE OF

SHARES (CAPITAL).

A limited company has authorized share capital of 200 000 ordinary shares of $1 each and
100000 8% preference shares of $2 each.

The company decided to issue 100 000 ordinary shares at $1.30 and 50000 8% preference shares
at $2.20. These shares are fully subscribed and paid up.

Looking first at the issue of ordinary shares:

Step 1: Work out how much money will be raised: 100000 x $1.30 = $130 000.

Step 2: Separate out the face value of the shares from the share premium:

Face value: 100000 shares x $1 face value = $100000

Share premium: 100000 shares x 30 cents premium = $30000.

Following the same procedure in the case of the issue of preference shares:

Step 1: work out how much money will be raised: 50000 x $2.20 = $110000

Step 2: Separate out the face value of the shares from shares premium

Face value: 50000 shares x $2 face value = $100000

Share premium: 50000 x shares x 20 cents premium = $10000

The journal entries needed to record this issue of shares is as follows:

Journal
Date Details Debit Credit
 Bank 240000
Issued share capital:
Ordinary shares 100000
Preference shares 100000
Share premium 40000
Issue of ordinary and preference shares at a premium

Note: Share capital (always at face value) and share premium are recorded in the
shareholders’ equity section of the statement of financial position (balance sheet). The
money received for the issue is recorded within the bank account in current assets.

THE DIVIDENDS TO BE PAID ON ORDINARY SHARES CAN BE CALCULATED IN

DIFFERENT WAYS:

CALCULATE DIVIDENDS ON ORDINARY SHARES USING PERCENTAGE

A limited company has 100 000 ordinary shares of $1 each. A dividend is declared at 6%.

A shareholder with 1000 shares would receive a dividend of 6% of the face value of the
shareholder’s investment:

1000 x 6 = $60
100

CALCULATING DIVIDENDS ON ORDINARY SHARES USING A RATE PER SHARE

A limited company has 100 000 ordinary shares at $1 each. A dividend is declared at 8cents per
share.

A shareholder with 1000 shares would receive a dividend of

1000 x $0.08 = $80

CALCULATING DIVIDENDS ON ORDINARY SHARES WITH A NOMINAL VALUE

OF LESS THAN $1.

A limited company has raised $200 000 from issuing ordinary shares with a nominal value of
50cents each. A dividend is declared of 2cents per share.
The number of issued share is $200 000 = 400 000 shares
$0.50

The total dividend is 400 000 x $0.20 = $8000.

CALCULATING DIVIDENDS ON PREFERENCE SHARES

A limited company has 200 000 8% preference shares of $1 each. A dividend is declared.

A shareholder with 1000 shares would receive a dividend of 1000 x 8 = $80

100

CALCULATING INTERIM AND FINAL DIVIDENDS ON PREFERENCE SHARES

AND ORDINARY SHARES

A limited company has issued share capital consisting of 100 000 ordinary shares of $2 each and
50 000 6% preference shares of $1 each.

During the financial year, an interim dividend of 5cents pr share is paid on the ordinary shares as
well as a final dividend of $1500 is paid to the preference shareholders, with the remainder paid
as a final dividend at the end of the year.

Here are the dividend calculations.

Interim dividend Final dividend Total dividend

$ $ $
Preference shares 1500 1500 300
($50 000 x 6%)
Ordinary shares 5000 1000 15000
(100 000 x 5cents) (100 000 x 10cents)
The maximum amount of dividend that the preference shareholders can receive in this example is
$3000. The directors have decided to divide the total dividend into two payments of equal
amounts. Ordinary shareholders have no maximum or minimum amount or dividend, as their
dividend depends on the level of profitability.

Appropriation of profits
The Appropriation Account
The financial statements of a limited company include an appropriation account that shows the
decisions made by the directors about the profits of the company. The account includes:
 ● The profit or loss for the year, transferred from the income statement.

● Any profits made in the past that were not distributed (sometimes called the opening
balance or ‘retained profits carried forward’)
● Proposed dividends

● The transfer of some of the profits to a general reserve or any other reserve.

● The closing balance of profits that have not been distributed. (sometimes called ‘retained
profits carried forward’).

FINANCIAL STATEMENTS FOR LIMITED LIABILITY COMPANIES:

● The income statement

● The appropriation account: once net profit has been calculated in the income statement,
the appropriation account is prepared to show how the net profit is distributed and to
whom.
● The statement of financial position: this is very similar to that of sole proprietor in layout,
except that the simple capital section (opening capital + profit – drawings) is replaced
with an equity section that includes details of shares and reserves.

COMPANY ACCOUNT FORMAT

A Williams
 Profit & Loss Appropriation a/c for year ended ………..
$ $ $
Gross Profit x
Less Expenses
Director’s remuneration x
Debenture Interest x
Corporation tax +x
-x
Net Profit x
Add retained profit from last year +x
x
Less
Transfer to Reserves x
Preliminary expenses x
Proposed Dividends:
Preference Share x
Ordinary Share x
Goodwill written off x
-x
Retained Profit c/f x

A Williams
Balance Sheet as at ………..
$ $ $
Intangible Assets
Goodwill x

Fixed Assets x

Current Assets x

Less Current Liabilities

Creditors x
Proposed Dividends +x
-x
Working Capital +x
x
Less Long Term Liabilities
Debentures x
Loan +x
Net Assets x

Financed by:
Authorized Share Capital x
Issued Share Capital x
Reserves
General Reserves x
Foreign Exchange x
Retained Profit +x
+x
x
CO-OPERATIVES
A co-operative is a business organization which is owned by its members with the main aim of
providing goods and services.
Terms
✔ Honoraria – Voluntary payment to members of committees that run the co-operatives as a
form of thanks for their assistance.
✔ Affiliation Fees – Membership fees paid to local, regional or international co-operative
societies.
Features of Co-operatives
It is run and owned by members

Provide goods and services to members

Payment of membership fees

Give voluntary payments

Principles of Co-operatives
❖ Open membership – membership is open to anyone regardless of their social, political,
religious or racial background.
❖ Democratic Control – Each member has an equal say in the running of a co-operative
society, because each member has just one vote, irrespective of the number of shares
held.
❖ Limited return on share capital – The key objective is always to provide a service for
members, so dividends as a reward for membership are likely to be small and in some
years non-existent.
❖ Patronage refund – All surpluses or profits made by a co-operative belong to the
members. Remaining surpluses can be used for the further development of the co-
operative and can be distributed to members.
❖ Continuous education – Co-operatives societies have a duty to provide continuous
education for their members to ensure that they are in a position to participate effectively
in the control and management of their society.
❖ Co-operation among co-operatives – co-operatives societies are expected to work
together locally, nationally and internationally, to share ideas and experience for the
mutual benefit of all.
Types of Co-operatives
● Service co-operatives e.g. Credit Unions

● Agricultural co-operatives

Methods of Raising Capital

▪ Members’ contributions
▪ Subscription fees
▪ Offering stocks
▪ Re-investment

Accounts of Co-operatives Societies

▪ Income and expenditure a/cs
▪ Cash Flow statements
▪ Statements of Financial Position

FORMAT FOR CO-OPERATIVES

 A Williams
Profit & Loss Appropriation a/c for year ended ………..
$ $ $
Surplus xx
add undistributed surplus b/f +xx
xx
Less:
Transfer to reserves xx
Proposed dividend xx
Donations +xx
-xx
Undistributed surplus c/f xx

A Williams
 Balance Sheet as at ………..
$ $ $
Non-Current/Fixed Assets
Long Term Investment xx
Loan to members +xx
xx
Current Assets xx

Less Current Liabilities

Membership deposits xx
Proposed Dividend +xx
-xx
Working Capital +xx
Less Long-Term Liability
Loan from …. -xx
Net Assets xx

Financed by:
Share Capital xx
Reserves xx
Surplus c/f +xx
xx

NON-PROFIT ORGANIZATIONS
Non-profit organizations are organizations whose objective is not to make profit but instead
provide facilities for their members to pursue hobbies, sporting activities and provide voluntary
services.
These clubs and associations do not prepare a trading and profit and loss account since they are
not formed to carry on trading and making profits.

ACCCOUNTS OF NON-PROFIT ORGANIZATIONS

▪ Receipts and Payments a/c
▪ Income and Expenditure a/c

Receipts and Payments Account

- This is a summary of the cash book of a non-profit organization. e.g. clubs, churches,
schools etc.
- Receipts and payments accounts are usually prepared by the treasurer of the club or
association.
Receipts
- Non-profit organizations may receive money from a variety of sources:
● Subscriptions or dues (money received from members

● Money from fund raising activities

● Loans

● Gifts or Donations

● Sales or Takings

Payments
- Non-Profit organizations are also responsible to make the following payments
● Running costs

● Expenses of fund-raising activities

● Purchase of fixed assets and stocks

● Repayment of loans and interest on loans

 ● Honorarium or Pay (Wages)

Income and Expenditure Account

- This is an account for a non-profit making organizations to find the surplus or deficit
made during a period.
- Surplus or Profit occurs when income is greater than expense.
- Deficit occurs when expense is greater than income.

An Accumulated Fund is a capital account for a non-profit organization.

Subscription account is the money received from each club members. (It is a revenue account)

Note: In the Receipts and Payment a/c, the subscription figure is what you actually received.
In the Income and Expenditure a/c, the subscription figure is what you should have
Received.
Subscription owing is a current asset
Subscription in advance is current liability.

Comparison of Terms

Profit-Making Organizations Non-Profit Organizations

Trading a/c Bar Trading a/c

Profit & Loss a/c Income & Expenditure a/c

Cash Book Receipts & Payments a/c

Sales Takings

Net Profit Surplus or Income over Expenditure

Net Loss Excess of Expenditure over income

SECTION 10: MANUFACTURING AND INVENTORY CONTROL

MANUFACTURING ACCOUNT
- A Manufacturing account is an account in which production cost is calculated.
The following costs are relevant when calculating production costs:
● Raw Materials

● Labour Cost i.e. payments to those who are engaged in making the product, e.g. tools,
machinery etc.
● Factory costs/Manufacturing overhead i.e. the cost of operating a workshop, production
area or perhaps a factory building e.g. electricity, insurance, depreciation, rent of
production area.
All these costs added together make it possible to calculate total production costs or total
manufacturing costs.

Direct and Indirect Costs

Direct Costs are the cost incurred in manufacturing that can be associated with an individual
product: raw materials and wages paid. These two direct costs are sub-totalled and added
together and is called Prime Cost. The direct cost of materials is based on purchases of raw
materials, with adjustments made for opening and closing inventories of raw materials, to give a
figure called the Cost of Raw Materials Consumed.

Indirect Costs are the other costs linked to the manufacturing process, i.e. the costs of operating
the production area, which may be a workshop or factory. Indirect costs include all the cost
arising from having machinery and equipment as well as electricity, insurance, rent etc. Also
included in this category would be wages and salaries (indirect labour) paid to staff who are not
directly involved in production e.g. Supervisors and factory managers. These costs are sub-
totalled to give a figure for total indirect costs.
. POINTS TO NOTE:
- Production cost is the cost of manufacturing the goods.
- It is calculated by adding prime cost and factory overheads
- Prime cost are the direct materials plus direct labour plus expenses.
- Factory overheads are expenses that are incurred within the factory.
- Total Cost is the production cost plus admin expenses plus selling and distribution
expenses plus financial charges.
There are three (3) types of stock:
● Raw Materials

● Work in Progress

● Finished Goods

Total Cost Calculation:

Direct Materials + Direct Labour + Direct Expenses = Prime Cost
Prime Cost + Indirect Manufacturing Costs (Factory Overheads) = Production Cost
Production Cost + Admin exp. + Selling & Distribution expenses + Financial Charges= Total
Cost
Formulas
● Production Cost per unit = Production cost
# of units produced

● Profit per unit = Profit

# of units produced

FORMAT FOR MANUFACTURING ACCOUNT

A Williams
Manufacturing a/c for the year ended ………..
$ $
Opening Stock of Raw Materials xx
Add Purchases of Raw Materials xx
Add Carriage Inwards on Raw Materials xx
Cost of raw Materials available for sale xx
Less Closing Stock of raw materials -xx
Cost of Raw materials used or consumed xx
Add Direct Expenses +xx
PRIME COSTS xx
Add Factory Overheads
Factory light xx
Depreciation of factory equipment/plant xx
Indirect factory expenses +xx
xx
Add Work in progress at start +xx
xx
Less Work in Progress at close -xx
PRODUCTION COST xx

A Williams
Trading & Profit and Loss a/c for the year ended ………..
$ $ $
Sales xx
Opening Stock of Finished Goods xx
Add Cost of production xx
Purchases of Finished Goods +xx
Cost of Goods available for sale xx
Less Closing Stock of Finished Goods -xx
Cost of Finished Goods Sold -xx
Gross Profit xx
LESS EXPENSES
Administrative Expenses
Depreciation of Office Equipment xx
Office Lighting xx
Office Rent xx
Insurance +xx
Total Admin Expenses xx
Selling & Distribution Expenses
Salesman Salary xx
Commission paid xx
Carriage Outwards +xx
Total Selling & Distribution expenses xx
Financial Charges
Bank Charges xx
Discount Allowed xx
Loan Interest +xx
Total Financial Charges +xx
Total Expenses -xx
NET PROFIT xx
Basic Costing Principles
Cost-Plus Pricing or Mark-Up Pricing
- Is a costing method used for determining the selling price for goods and services. With
this method, the direct material cost and direct labour cost is added to the overhead costs
for a product. To the total of these costs, a percentage mark up is added, which gives a
profit margin, to arrive at the selling price of the product.
e.g.
Moon supplies Ltd. Designs and manufactures household light bulbs. The cost for producing
100 light bulbs are as follows:
$
Direct materials 200
Direct labour 250
Overhead expenses 100
 550
The company uses cost-plus pricing and adds 20% of the cost to calculate a selling price. The
selling price will be:
(20% x $550) + 110
Total Cost 660

Cost per unit = Total Cost = 660 = $6.60

No. of units produced 100

Absorption Costing
- Refers to a method of costing to account for all the costs of manufacturing. The
management uses this method to absorb the costs incurred on a product. The costs
include direct costs and indirect costs. Direct cost includes materials and labour used in
production.
The technique requires a number of steps:
Step 1: Set up a table with a column for each department
Step 2: Allocate costs – Record any indirect costs that can be easily attributed to a particular
department. (e.g. the department manager’s salary)
Step 3: Apportion costs – Divide any indirect costs that apply to the business as a whole on some
rational basis between the departments
Step 4: Total all the indirect costs
Step 5: Calculate the absorption rate
- Divide the total indirect costs by the number of labour hours or machine hours available
in the department. The choice depends on which is the more dominant factor in the
department.

STOCK VALUATION
Stock Valuation is the method by which closing stock is valued
METHODS OF INVENTORY VALUATION
1 First In, First Out (FIFO)
2 Last In, First Out (LIFO)
3 Average Cost Method (AVCO)

Re: Average Cost Method

*When you sell, the average cost does not change
* When you buy, the average cost changes

- When you buy, to calculate the Average Cost

= Total Value of Stock
# of units in stock
- When you sell, to calculate total value of stock
= Average Cost x Number of units

SECTION 11: ACCOUNTING FOR THE ENTREPRENEUR

Methods of Payment
● Cheques

● Cash

● Standing Order

● Direct Debit

● Credit Transfer

● Electronic Fund Transfer at Point of Sale (EFTPOS) e.g. Debit Cards and Credit Cards

PAYROLL
 - Is a list of employees specifying the pay due to each on a weekly, fortnightly or monthly
basis.
- Pay is the employees’ earnings. It can also be called wages and salaries.
- A payroll register is a record of all pay details for employees during a specific pay period.
- Gross Pay is the pay before deductions are taken out.
- Gross pay comprises of:
❖ Normal Pay (Normal hours worked x normal rate)

❖ Overtime Pay (Excess hours worked)

Overtime hours x normal rate x overtime
(overtime can be paid at: time and a half (1 ½ ), Double time (2), Triple Time (3)
❖ Commission (based on the amount of sales)
- Deductions are money taken out of your pay.
There are two (2) types of deductions:
1. Statutory – compulsory by law e.g. NIS, Education Tax, Income
Tax (PAYE), NHT etc.
2. Non-Statutory or Voluntary – Not compulsory by law e.g. trade
union dues, insurance, pension dues etc.
- Net Pay is pay after deductions are taken out (Gross Pay – Total Deductions).

Main Accounting Software used for Payroll

1 Quick Books
2 Peach Tree Accounting

Basic Source Documents of the Payroll

 ✔ Employees contract – that provide details of pay rates and voluntary deductions to which
the employee has agreed.
✔ Time Cards – Is a method for recording or tracking the amount of time an employee
spends on the job.
✔ Time Books – Is an outdated accounting record, that registers the hours worked by an
employee.
✔ Electronic clock-in-cards – A document that gives details of the number of hours an
employee has worked, obtained by using a special clocking in/out machine or time
recorder.
✔ Time Sheet – A document that records the hours worked by an employee who works off-
site.
✔ Piecework Ticket – A document that records the number of products an employee has
made
✔ Employee earning records – A document that shows the full details of the employee
earnings on a week-by-week basis. This is similar to a Payroll register except that each
sheet will be for a separate employee.

CASH FLOW PROJECTION

- One of the most important documents to prepare is a cash flow projection (also called a
cash flow forecast).
- A cash flow details the expected cash/bank receipts (inflows) and payments (outflows) on
a month-by-month basis, for the next three, six or twelve months.
- It shows the times when cash is coming into the business (cash inflows) and when cash is
going out of the business (cash outflows). This will then show the estimated bank
balance at the end of each month throughout the period.
Preparing A Cash Flow Projection
A cash flow forecast has three sections:
1 Cash inflows – money received by the business from sales, investments and other
sources.
2 Cash outflows – money paid out by the business on wages, raw materials and other items.
3 Balances – the opening and closing balance on a monthly basis.

Step-by-step guide to preparing a cash flow projection using a worked example:

Step 1: Ascertain the opening bank balance and note this inclusion on the cash flow projection
form
Step 2: Enter all the cash inflows in the appropriate month when the receipt is expected. e.g.
● Cash sales

● Receipts from customers

● Tax refunds

● Loans

● Injections of capital from new investor or new partner

● Any other sources of income for example interest

● Sale of Assets,
Step 3: Enter all the cash outflows and list them in detail, including when they are expected to
be paid. e.g.
● Expenses

● Paying suppliers for goods or services

● Purchase of assets

● Payment of taxes

● Repayment of loans
 ● Investing surplus cash
Step 4: Add up each monthly column of both the cash inflows and cash outflows.
Step 5: At the foot of the cash flow projection, complete the balancing summary.
Step 6: Repeat the above procedure for each of the remaining months.

SALES AND PRODUCTION BUDGETS

SALES BUDGET
A Sales Budget provides an estimate of the volume of goods and services that a company
proposes to sell in a future period.
Formula for Sales Budget = Expected Sales (units) x Selling price per unit

PRODUCTION BUDGET
A Production Budget is used to calculate the number of units that the factory can produce in a
specific period to meet expected sales.
Formula for Production Budget :
Sales xx
Less Opening Inventory -xx
xx
Add Closing Inventory +xx
Production xx

PREPARING A SIMPLE BUSINESS PLAN

- A Business Plan is a document which states the details of your business, the products or
services you sell or supply, who you are targeting as customers, your goals and how to
achieve those goals.
 - When planning to set up a business, it is important that ideas about the venture are
carefully thought through. A business plan should make it clear what the business will do
and how it will be successful.

The Key Elements of a Business Plan are:

● Executive Summary – A concise statement about the key features of the venture, i.e.
what the business will do, how it will make money, how it will attract customers and the
amount of finance required.
● Company Background – Who the owners are and the other key personnel, their skills,
experiences and qualifications.
● Marketing Plan – Answering questions about who will be the customers for the goods
or services being offered and whether this target group will increase in the future.
● Marketing Analysis – Identifying the likely competitors and how the venture will ensure
that customers are attracted away from the competition.
● Financial Plan – Including detailed statements about the capital required to set up and
run the business, a forecast of profits based on details about revenues, expenses, etc., cash
flow projections and other budgets.

Reasons for preparing a Business Plan

▪ To assess the viability of starting a business
▪ To obtain a loan from the bank, local credit union and other financial institutions.
▪ To apply for grant funding.
▪ To encourage others to join you in the business as partners or investors.
▪ To make plans for expansion if already running a business.
▪ For decision making purposes.