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These are mirror terms of the above for liabilities, where the 1-year rule
applies. Equity is also a long-term liability, where the expected time of
repayment isnever! People often dont call equity a liability and treat it
as though it is a special type of account. This only serves to confuse
many people accounting is very simplethere are only asset or liability
accounts.
6. Give the name used:
a) By accountants in the UK to describe "Accounts receivable"?
Debtors
b) By accountants in the US to describe "Creditors"?
Accounts payable
c) By accountants in the UK to describe "Inventory"?
Stocks
d) By accountants in the US to describe "Shares"?
Stocks!
7. Which financial statement reconciles:
a) The retained earnings number from one year to the next
Profit and Loss statement (In US, Income Statement does not record
dividends which cause a movement in Retained Earnings another
statement is used to include this)
b) The cash balance from one year to the next
The cash flow statement however try as you like, you can rarely see this
working with the reported financial statements of major companies
8. Newtons third law of motion states: For every action, there is an equal and
opposite reaction. This sounds similar to an accounting principal we discussed:
Every accounting entry has an equal and opposite entry Accountants call this
Double Entry
Date
1/1/1998
To 31/12/1998
To 31/12/1998
To 31/12/1998
To 31/12/1998
To 31/12/1998
To 31/12/1998
To 31/12/1998
To 31/12/1998
To 31/12/1998
To 31/12/1998
To 31/12/1998
To 31/12/1998
To 31/12/1998
a)
b)
b)
c)
c)
c)
d)
d)
d)
e)
e)
f)
g)
Transaction
(6,000)
(10,000)
Total
assets = 23,375
------------800
-------------
(11,200)
(20,000)
12,000
20,000
5,000
---------7,000
----------
Fixed
Accounts Prepaym
Asset Inventories receivable
ent
4,000
1,000
500
2,000
(500)
17,500
11,200
(1,000)
(625)
(1,000)
(5,000)
----------- ---------- ----------9,075
4,000
2,500
----------- ---------- -----------
20,000
(17,500)
Cash
2,500
500
ASSETS
Total
Liabilities =
------------3,500
-------------
Share
Capital
3,500
LIABILITIES
23,375
------------16,875
-------------
12,000
(6,000)
20,000
(10,000)
------------3,000
-------------
(1,000)
------------0
-------------
(1,000)
17,500
(17,500)
-------0
--------
(625)
Retained
Accounts
Earnings Loan Capital Payable Accruals
875
4,000
1,000
625
31/12/1998
31/12/1998
31/12/1998
31/12/1998
31/12/1998
31/12/1998
31/12/1998
31/12/1998
31/12/1998
31/12/1998
Date
1
2
3
3
4
5
6
7
8
200
2,500
Total 16,425
9,075 4,000
(2,000)
------------150
-------------
(400)
(250)
800
3,500
16,875
(2,000)
(500)
(2,000)
(2,500)
(4,000)
(1,500)
(250)
(1,000)
(200)
3,000
1,000
4,000
1,500
500
Total
16,425
(2,000)
(2,500)
7,000
Fixed
Accounts
Share Retained Loan Accounts
Note Cash Asset Inventories receivable Prepayment Capital Earnings Capital Payable Accruals
NOTE:
The phrases matching, recognition, accruals principal are synonymous.
Some people treat them as though they mean different things. However,
sometimes one phrase sounds more appropriate than another
1. The cost (or cost less expected residual value) of the truck should not be
expensed in the period it is bought but matched over its useful life to
the company. Annual charge is $2,000.
2. Interest should not be expensed when the cash flow occurs. It should be
matched to the time when the benefit was received. The benefit here
is benefit of receiving cash upfront via a loan.
3. Lets take this as 2 entries. Firstly we know that the prepayment asset
from previous year will have expired so we have to expense the asset
matching it over time up to 30th June 1998.
Secondly, we need to expense/ match the rent expense over the time it
relates to up to end of the year. As this inherently affects the balance on
the prepayment asset account it implicitly affects our recognition of the
asset on the prepayment account.
Note that we had already recognised the asset in part g) of Homework
2.
4. The tax on 1998s profit wont be paid until 1999. However, they must be
expensed in 1998 to match the expense with the profits made in that
year.
5. Dividends are paid after the period to which they relate. However, the
expense should be matched to the period of the profits they are paid
out of. Note in US-style income statements this item is not shown as an
expense, but as a movement of the Retained Earnings reserves
elsewhere.
6. When a company goes bust owing money, the prudent thing to do is not
expect to get any money or have your products returned. Although in
this circumstance it may not have become apparent that the customer
went bust until after the end of the financial year it would be prudent to
assume that the conditions that made the customer go bust had probably
already taken hold before the end of the year. As such we should
match the expense in the period in which it occurred.
7. It sounds as if the company will end up owing money, hence it must owe
money already! Auditors have basic tests on whether such liabilities are
just possible or are actually probable. The company should recognise a
liability as the misdemeanour occurred in the past. As there is no asset
associated with these that we can recognise we must expense this,
matching the expense with the period in which it occurred.
8. A standard trick to massage end of years sales upwards is to accelerate
sales invoicing even for goods not yet shipped. This is not easy to spot,
but isnt that rare. The goods need to be recognised as assets again by
making an adjustment to the accounts and the profit needs to be
adjusted and matched with the correct time period of the sale which
would be in 1999.
This would be an example of an automatically reversing accounting entry
because the auditors arent disputing that a sale was made, just when it
was made. Therefore the asset would be removed and profit recorded
immediately after the adjustments above are recorded.
Even more bizarre; company accounts normally have 12 accounting
periods per year (1 per month!). The reversal of the profit and
restatement of the nets as assets on the accounts would often be
recorded in period13!
------------10,000
------------16,425
Total Liabilities
3,500
875
3,500
2,925
Common Stock
Retained Earnings
3,000
2,000
Long-term debt
1,000
625
1,000
------------10,000
-------------
------------16,425
------------0
7,000
1,000
4,000
2,000
8,000
(4,000)
-------------
2,500
500
1,000
2,000
As at 12/31/97
Accounts Payable
Accruals
Current maturities of notes and loans
Total Assets
8,000
(6,000)
-------------
9,075
150
2,700
2,500
As at 12/31/98
US Balance Sheet
Net Assets
Current Assets
3,500
875
------------4,375
------------4,375
-------------
------------6,425
------------3,500
2,925
------------6,425
-3,000
(1,000)
(625)
(1,000)
-------------2,625
2,500
1,000
2,500
------------6,000
4,000
As at 31/12/97
-2,000
0
(7,000)
(1,000)
-------------8,000
2,650
2,700
9,075
------------14,425
2,000
Current Assets
Debtors*
Stocks
Cash and equivalents
As at 31/12/98
1,875
4,000
------------5,875
------------1,500
4,375
------------5,875
-------------
(1,650)
2,000
------------350
------------(6,075)
6,425
------------350
-------------
NET DEBT
EQUITY
* Debtors and accounts receivable arent exactly the same. Debtors would include prepayments.
Invested Capital
Capital Employed
FIXED ASSETS
WCR
As at 31/12/97
As at 31/12/98
HOMEWORK 5: Profit and loss Statements Solutions
These questions ask you to continue from Homework 2,3 and 4 based upon
Newark Nets (NN).
1. Where should you allocate the costs of materials you sell in a profit and loss
statement?
a)
b)
c)
d)
e)
reported with many different names meaning same thing, such as
exceptional items.
4. Which line(s) in the Profit and Loss statement is affected by discovery that a
customer has gone bust whilst still owing money to the company?
a)
b)
c)
d)
e)
6. Using the following format, create a Profit and loss Statement for 1998 for
Newark Nets
Sales
Cost of sales
Gross Profit
Admin Expenses
Operating profit
Other
Profit before interest and tax
Interest expense
Profit before tax
Taxation
Net profit
Dividends
Retained Earnings
HOMEWORK 6: Cash Flow Statements
Solutions
These questions ask you to continue from Homework 2, 3, 4 and 5 based upon
Newark Nets (NN).
1. Which of the following isnt an accruals adjustment for the US-style cash flow
statement?
a)
b)
c)
d)
CapEx
Movement in interest accrual
Movement in tax accrual
Depreciation charge
CapEx
Movement in interest accrual
Movement in tax accrual
Depreciation charge
3.Using the following format, create a US-style cash flow statement for 1998 for
Netwark Nets
Year ended 31/12/98
Operating
Net Income (profit)
Change in account receivables
Change in account payables
Change in inventories
Change in other operating assets/liabilities
Add back depreciation
Operating cash flow
Investing
CAPEX
Financing
Debt repayments
Dividends
Net inflow/(outflow)
3,550
350
(1,000)
(1,700)
4,375
2,000
------------7,575
(1,000)
0
------------6,575
-------------
4.Using the following format, create a UK-style cash flow statement for 1998 for
Netwark Nets
Year ended 31/12/98
Operating
Operating profit
Change in debtors
Change in creditors
Change in stocks
Change in other operating assets/liabilities
Add back depreciation
Operating cash flow
Financing
Interest paid/received
Dividends
9,050
(150)
(1,000)
(1,700)
0
2,000
------------8,200
(625)
0
-------------
Investing
CAPEX
Capital Raising
Change in debt
Net inflow/(outflow)
(1,000)
------------6,575
-------------