ACCOUNTING UNIT 1 NOTES ADJUSTING EVENTS Events after the reporting period are those events, favourable and unfavourable, that occur between the statement of financial osition date and the date when the financial statements are authorised for issue! Adjusting events are those that provide that provide evidence of conditions that conditions that e"isted at the statement of financial osition date!
#! E"amle E"amless of ad$u ad$usti stin% n% event eventss inclu include& de& a! The settleme settlement nt of a court court case case 'which 'which be%un before before the the end of the the reortin% reortin% eriod( after the reortin% eriod) chan%e is made to the rovision for cash settlement b! The receit of information indicatin% that an asset was imaired at the end of the reortin% eriod 'e!%! ban*rut debtor or loss in value of stoc*( c! The determinat determination, ion, after after the accountin accountin% % eriod, eriod, of the cost cost of assets assets urchased urchased or receits from assets sold d! The determinat determination, ion, after after the reorti reortin% n% eriod, eriod, of the amount amount of rofit+ rofit+shari sharin% n% or bonus aments if the entit had an obli%ation before the end of the reortin% eriod to ma*e such aments e! The discove discover r of fraud fraud or or erro errors rs -! An e"amle e"amle of a non+ad$usti non+ad$ustin% n% event after after the reorti reortin% n% eriod is is a decline in in mar*et value of investments between the end of the reortin% eriod and the date when the financial statements are authorised for issue! The decline in mar*et value d oes not normall relate to the condition of the investments at the dated of the reortin% eriod, but reflects circumstances that have arisen subse.uentl! subse.uentl! /! If an entit declare declaress dividends dividends to holders holders of e.uit instrume instruments nts after after the reortin% reortin% eriod, eriod, the entit shall not reco%nise those dividends as a liabilit at the end of the reortin% eriod!
0! The followin% followin% are e"amles e"amles of non+ad$ust non+ad$ustin% in% events events after the reorti reortin% n% eriod that that would %enerall result in disclosure&
'a( a ma$or business combination after the reortin% eriod 'I12S / 3usiness 4ombinations re.uires secific disclosures in such cases( or disosin% of a ma$or subsidiar) 'b( announcin% a lan to discontinue an oeration) 'c( ma$or urchases of assets, classification of assets as held for sale in accordance with I12S 5 Non+current Assets 6eld for Sale and Discontinued 7erations, other disosals of assets, or e"roriation of ma$or assets b %overnment) 'd( the destruction of a ma$or roduction lant b a fire after the reortin% eriod) 'e( announcin%, or commencin% the imlementation of, a ma$or restructurin% 'see IAS /8() 'f( ma$or ordinar share transactions and otential ordinar share transactions after the reortin% eriod 'IAS // Earnin%s er Share re.uires an entit to disclose a descrition of such transactions, other than when such transactions involve caitalisation or bonus issues, share slits or reverse share slits all of which are re.uired to be ad $usted under IAS //() '%( abnormall lar%e chan%es after the reortin% eriod in asset rices or forei%n e"chan%e rates) 'h( chan%es in ta" rates or ta" laws enacted or announced after the reortin% eriod that have a si%nificant effect on current and deferred ta" assets and liabilities 'see IAS #Income Ta"es() 'i( enterin% into si%nificant commitments or contin%ent liabilities, for e"amle, b issuin% si%nificant %uarantees) and '$( commencin% ma$or liti%ation arisin% solel out of events that occurred after the reortin% eriod! ITE9S IN T6E 1INAN4IA: STATE9ENTS An entit shall disclose in the notes the amount a mount of dividends roosed or declared before b efore the financial statements were authorised for issue but not reco%nised as a distribution to owners durin% the eriod! ;Dividends aable< is a current liabilit! =27VISI7NS, 47NTINGENT :IA3I:ITIES AND 47NTINGENT ASSETS A rovision is a liabilit of uncertain timin% or amount! A liabilit liabilit is a resent obli%ation of the entit en tit arisin% from ast events, the settlement of which is e"ected to result in an outflow from the entit of resources embodin% economic benefits!
An obli%atin% event is an event that creates a le%al or constructive obli%ation that results in an entit havin% no realistic alternative to settlin% that obli%ation! A le%al obli%ation is an obli%ation that derives from& 'a( a contract 'throu%h its e"licit or imlicit terms() 'b( le%islation) or 'c( other oeration of law! A constructive obli%ation is an obli%ation that derives from an entit
'a( rovisions > which are reco%nised as liabilities 'assumin% that a reliable estimate can be made( because the are resent obli%ations and it is robable that an outflow of resources embodin% economic benefits will be re.uired to settle the obli%ations) and 'b( contin%ent liabilities > which are not reco%nised as liabilities because the are either& 'i( ossible obli%ations, as it has et to be confirmed whether the entit has a resent obli%ation that could lead to an outflow of resources embodin% economic benefits) or 'ii( resent obli%ations that do not meet the reco%nition criteria in this S tandard 'because either it is not robable that an outflow of resources embodin% economic benefits will be re.uired to settle the obli%ation, or a sufficientl reliable estimate of the amount of the obli%ation cann ot be made(! It is onl those obli%ations arisin% from ast events e"istin% indeendentl of an entit
The best estimate of the e"enditure re.uired to settle the resent obli%ation is the amount that an entit would rationall a to settle the obli%ation at the end of the reortin% eriod or to transfer it to a third art at that time! USE2S 71 A447UNTING IN1729ATI7N
Internal users (Primary Users) of accountin% information include the followin%&
Management for anal@in% the or%ani@ations erformance and osition and ta*in%
aroriate measures to imrove the coman results!
Emplo!ees for assessin% comans rofitabilit and its conse.uence on their future
remuneration and $ob securit!
O"ners for anal@in% the viabilit and rofitabilit of their investment and determinin%
an future course of action! E#ternal users (Secondary Users) of accountin% information include the followin%&
Creditors for determinin% the credit worthiness of the or%ani@ation! Terms of credit are
set b creditors accordin% to the assessment of their customers financial health! 4reditors include suliers as well as lenders of finance such as ban*s!
Ta# Authorities for determinin% the credibilit of the ta" returns filed on behalf of the
coman!
Investors for anal@in% the feasibilit of investin% in the co man! Investors want to
ma*e sure the can earn a reasonable return on their investment before the commit an financial resources to the coman!
Customers for assessin% the financial osition of its suliers which is necessar for
them to maintain a stable source of sul in the lon% term!
$egulator! Authorities for ensurin% that the comans disclosure of accountin%
information is in accordance with the rules and re%ulations set in order to rotect the interests of the sta*eholders who rel on such information in formin% their decisions!
INTE2NATI7NA: A447UNTING STANDA2DS 37A2D The ob$ectives of the IAS3 are&
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1ormulate and ublish accountin% standards to be used in the resentation of financial
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statements =romote their worldwide accetance and observance ?or* to imrove and harmonise re%ulations, accountin% standards and rocedures
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The IAS3, b develoin% hi%h .ualit accountin% standards, see*s to address a demand for hi%h .ualit information that is of value to all users of financial statements! 6i%h .ualit information will also be of value to rearers of financial statements! The ob$ectives of the IAS4 1oundation and of the IAS3 are& 'a( to develo, in the ublic interest, a sin%le set of hi%h .ualit, understandable and enforceable %lobal accountin% standards that re.uire hi%h .ualit, transarent and comarable information in financial statements and other financial reortin% to hel articiants in the world
Accountin% standards allow for sstematic resentation of financial reorts b businesses all around the world! This enables comarabilit between businesses and over time! ?ell+reared financial statements also maintain investor confidence and ortra a transarent ima%e of the business! ?hen cororations and other or%anisations coml with accountin% standards, their % eneral urose financial statements should be more comarable than the would otherwise be! This allows investors and other users of the financial statements to better comare the or%anisations! Imortance of accountin% standards&
• • • •
4omarabilit > The facilitatin% of comarabilit encoura%es forei%n investment! Transarenc > =revents accountants from hidin% certain information 2elevance > E"lains what reorts should show Enables information to be useful for all users
1inancial statements also rovide one means b which the mana%ement and %overnin% bod of an or%anisation are accountable to those who rovide resources to the or%anisation! The rovision of information for accountabilit uroses is a articularl imortant asect of financial reortin% b ublic sector or%anisations and not+for+rofit entities in the rivate sector
The main urose of the IAS3 accountin% concetual framewor* is to& •
Assist IAS3 and national accountin% standard+settin% bodies in develoin% ac countin%
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standards Assist IAS3 in romotin% harmonisation of accountin% standards and rocedures Assist ractitioners to reare financial statements in accordance with IASs Assist auditors in formin% an oinion as to whether the financial statements reared
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conform with IASs Assist users of financial statements in interretin% the information resented in the
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financial statements 67? STANDA2DS A2E DEVE:7=ED International 1inancial 2eortin% Standards 'I12S( are develoed throu%h an international consultation rocess, the Bdue rocessB, which involves interested individuals and or%anisations from around the world! The due rocess comrises si" sta%es, with the Trustees of the I12S 1oundation havin% the oortunit to ensure comliance at various oints throu%hout& #! Setting the agenda > The IAS3 evaluates the merits of addin% a otential item to its a%enda, also *now as the wor* lan, mainl b reference to the needs of investors! The IAS3 considers&
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• • • •
the relevance to users of the information and the reliabilit of information that could be rovided) whether e"istin% %uidance is available) the ossibilit of increasin% conver%ence) the .ualit of the standard to be develoed) and resource constraints!
To hel the IAS3 in considerin% its future a%enda, its staff are as*ed to identif, review and raise issues that mi%ht warrant the IAS3
%rou ma be established and a team is selected for the ro$ect! The ro$ect mana%er draws u a ro$ect lan under the suervision of those Directors of Technical Activities and 2esearch! /! (eveloping and pu)lishing the (is&ussion %aper* in&luding pu)li& &onsultation '
Althou%h a Discussion =aer is not mandator, the IAS3 normall ublishes it as its first ublication on an ma$or new toic to e"lain the issue and solicit earl comment from constituents! Ticall, a Discussion =aer includes a comrehensive overview of the issue) ossible aroaches in addressin% the issue) the reliminar views of its authors or the IAS3) and an invitation to comment! All discussions of technical issues related to the draft aer ta*e lace in ublic sessions! 0! (eveloping and pu)lishing the E#posure (raft* in&luding pu)li& &onsultation – Irresective
of whether the IAS3 has ublished a Discussion =aer , an E"osure Draft is
the IAS3
the IAS3 considerin% issues on the basis of staff research and recommendations) comments received on an Discussion =aer) and su%%estions made b the I12S Advisor 4ouncil, 4onsultative %rous and accountin% standard+setters, and arisin% from ublic education sessions! After resolvin% issues at its meetin%s, the IAS3 instructs the staff to draft the E"osure Draft! ?hen the draft has been comleted, a nd the IAS3 has balloted on it, the IAS3 ublishes it for ublic comment! 5! (eveloping and pu)lishing the Standard > The develoment of an I12S is carried out durin% IAS3 meetin%s, when the IAS3 considers the comments received on the E"osure Draft! After resolvin% issues arisin% from the E"osure Draft, the IAS3 considers whether it should e"ose its revised roosals for ublic comment, for e"amle b ublishin% a second E"osure Draft! If the IAS3 decides that re+e"osure is necessar, the due rocess to be followed is the same as for the first E"osure Draft! ?hen the IAS3 is satisfied that it has reached a conclusion on the issues arisin% from the E"osure Draft, it instructs the staff to draft the I12S! A re+ballot draft is usuall sub$ect to e"ternal review, normall b the I12I4! Shortl before the IAS3 ballots the Standard, a near+final draft is osted on eI12S! 1inall, after the due rocess is comleted, all outstandin% issues are resolved, and the IAS3 members have balloted in favour of ublication, the I12S is issued!
6.
%ro&edures after an I+$S is issued – After an I12S is issued, the staff and the IAS3
members hold re%ular meetin%s with interested arties, includin% other standard+settin% bodies, to hel understand unanticiated issues related to the ractical imlementation and otential imact of its roosals! The I12S 1oundation also fosters educational activities to ensure consistenc in the alication of I12Ss! An alternative standard settin% rocess ma be listed as follows& • • • • •
The IAS3 sets u a steerin% committee! The steerin% committee identifies issues! The steerin% committee studies national and re%ional re.uirements and ractice! The steerin% committee resents a oint outline! The oint outline is converted into an e"osure draft, which is sent out for discussion!
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After comments and revisions, the e"osure draft becomes an IAS 'uon aroval b the committee(!
A447UNTING IN T6E 4A2I33EAN The I4A4 asires to& The ob$ectives of the I4A4 are to& •
=romote internationall accetable standards of best ractice for the accountanc rofession in the 4aribbean re%ion!
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1oster a stron%, cohesive and self re%ulated re%ional accountanc rofession!
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Imlement and coordinate an effective re%ional monitorin% ro%ramme for racticin% accountants in the re%ion
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=romote an institutional framewor* throu%h its annual conference for a ccountants in the re%ion to articiate for mutual rofessional and fraternal benefit
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Standardi@e .ualification entr re.uirements and rules of rofessional conduct a mon% member Institutes
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=rovide leadershi on emer%in% issues as the affect the accountanc rofession in the re%ion!
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=romote, foster and maintain a decorous ima%e of the accountanc rofession in the
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4aribbean Establish rofessional levels of cometence, character and inte%rit within accoun tants =romote the hi%hest standards of ethical conduct within the re%ion
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rofession in order to serve the ublic
:ocal accountanc institutions have the followin% resonsibilities&
C
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Issues ractisin% certificates to members and renews them annuall Involved in the draftin% of laws ertainin% to b usiness and accountin% in the countr 6olds seminars to ensure that members are able to meet the continuin% rofessional education re.uirements Investi%ates accountin% issues in the countr Issues accountin% standard and auditin% %uidelines to a ssist local comanies in followin% them
:imitations of accountin% information&
#! 7nl ta*es into account transactions which can be measured in monetar terms -! The recordin% of financial transactions at historical cost in the boo*s /! Influenced b the ersonal $ud%ment of the accountant, for e"amle, in the method of dereciation selected and aro"imations for rovisions and intan%ible assets Si%nificance of accountin% information& #! -! /! 0!
Allows for decision+ma*in% =rovides for detection of inefficiencies =rovides accountin% data to the Government to facilitate the ament of ta"es Summarises all financial information relatin% to the coman and can be used to assess how efficientl the firm is wor*in%
7b$ectives of financial reortin% include& #! is useful to e"istin% and otential investors and creditors and other users in ma*in% rational investment, credit, and similar decisions) -! hels e"istin% and otential investors and creditors and other users to assess the amounts, timin%, and uncertaint of rosective net cash inflows to the enterrise) /! Identifies the economic resources of an enterrise, the claims to those resources, and the effects that transactions, events, and circumstances have on those resources!
0! 6els mana%ers to mana%e the business more efficientl but helin% them to ma*e informed decisions
Understandabilit The information rovided in financial statements should be resented in a wa that ma*es it comrehensible b users who have a reasonable *nowled%e of business and economic activities and accountin% and a willin%ness to stud the information with reasonable dili%ence! 6owever, the need for understandabilit does not allow relevant information to be omitted on the %round s that it ma be too difficult for some users to understand! 2elevance The information rovided in financial statements must be relevant to the decision+ma*in% needs of users! Information has the .ualit of relevance when it is caable of influencin% the economic decisions of users b helin% them evaluate ast, resent or future events or confirmin%, or correctin%, their ast evaluations! 9aterialit Information is materialand therefore has relevanceif its omission or misstatement could influence the economic decisions of users made on the basis of the financial statements! 9aterialit deends on the si@e of the item or error $ud%ed in the articular circumstances of its omission or misstatement! 6owever, it is inaroriate to ma*e, or leave uncorrected, immaterial deartures from the I12S for S9Es to achieve a articular resentation of an entit The information rovided in financial statements must be reliable! Information is reliable when it is free from material error and bias and reresents faithfull that which it either urorts to reresent or could reasonabl be e"ected to reresent! 1inancial statements are not free from bias 'ie not neutral( if, b the selection o r resentation of information, the are intended to influence the ma*in% of a decision or $ud%ement in order to achieve a redetermined result or outcome! Substance over form
Transactions and other events and conditions should be accounted for and resented in accordance with their substance and not merel their le%al form! This enhances the reliabilit of financial statements! =rudence The uncertainties that inevitabl surround man events and circumstances are ac*nowled%ed b the disclosure of their nature and e"tent and b the e"ercise of rudence in the rearation of the financial statements! =rudence is the inclusion of a de% ree of caution in the e"ercise of the $ud%ements needed in ma*in% the estimates re.uired under conditions of uncertaint, such that assets or income are not overstated and liabilities or e"enses are not understated! 6owever, the e"ercise of rudence does not allow the deliberate understatement of assets or income, or the deliberate overstatement of liabilities or e"enses! In short, rudence does not ermit bias! 4omleteness To be reliable, the information in financial statements must be comlete within the bounds of materialit and cost! An omission can cause information to be false or misleadin% and thus unreliable and deficient in terms of its relevance! 4omarabilit Users must be able to comare the financial statements of an entit throu%h time to identif trends in its financial osition and erformance! Users must also be able to comare the financial statements of different entities to evaluate their relative financial osition, erformance and cash flows! 6ence, the measurement and disla of the financial effects of li*e transactions and other events and conditions must be carried out in a consistent wa throu%hout an entit and over time for that entit, and in a consistent wa across entities! In addition, users must be informed of the accountin% olicies emloed in the rearation of the financial statements, and of an chan%es in those olicies and the effects of such chan% es! Timeliness To be relevant, financial information must be able to influence the economic dec isions of users! Timeliness involves rovidin% the information within the decision time frame! If there is undue dela in the reortin% of information it ma lose its relevance! 9ana%ement ma need to balance the relative merits of timel reortin% and the rovision of reliable information! In achievin% a balance between relevance and reliabilit, the overridin% consideration is how best to satisf the needs of users in ma*in% economic decisions! 3alance between benefit and cost The benefits derived from information should e"ceed the cost of rovidin% it! The evaluation of benefits and costs is substantiall a $ud%emental rocess! 1urthermore, the costs are not
necessaril borne b those users who en$o the benefits, and often the benefits of the information are en$oed b a broad ran%e of e"ternal users! 1inancial reortin% information hels caital roviders ma*e better decisions, which results in more efficient functionin% of caital mar*ets and a lower cost of ca ital for the econom as a whole! Individual entities also en$o benefits, includin% imroved acce ss to caital mar*ets, favourable effect on ublic relations, and erhas lower costs of caital! The benefits ma also include better mana%ement decisions because financial information used internall is often based at least artl on information reared for %eneral urose financial reortin% uroses!
479=UTE2ISED A447UNTING SSTE9S 'a%e 0-( The advancements in information technolo% have eventuall led to the introduction of 4omuterised Accountin% Sstems to hel roduce relevant and faithful reresentative financial reorts for both mana%ement and e"ternal users for decision ma*in%! These are associated with a numbers of benefits li*e seed of carrin% out routine transactions, timeliness, .uic* analsis, accurac and reortin%! =ostin% transactions to the led%er, the rincile of double entr can lar%el be automated when done throu%h the use of comuteri@ed accountin% sstem! There is a ris* of imroer human intervention with the comuter ro%rams and comuter files! Emloees in the or%ani@ation ma temer with the co muter ro%rams and comuter based records for the urose of deliberatel falsifin% accountin% information! 2ESE2VES 2evenue reserves are funds set aside out of undistributed rofits from the retained earnin%s account! The are sometimes formed to maintain dividends at current rates even if rofits fall in the future or for future e"ansion while minimi@in% the source of e"ternal funds in the future! 2evenue reserves ma be secific reserves or %e neral reserves! Amounts arisin% from the issue of shares at a remium or the revaluation of fi"ed assets are classified as caital reserves! 4aital reserves are not available for distribution as dividends! ?hile the formation of revenue reserves do not increase the net assets of the coman, the formation of caital reserves do!
INTE2NA: 47NT27: SSTE9S 7b$ectives of these include& • • • •
9iti%ation of ris*s > safe%uardin% of assets =revention and detection of errors > documentation =revention and detection of theft and fraud > searation of duties Increased efficienc of bud%etar rocedures
3enefits of these include& • •
2eliable financial information =rotection of assets of the business
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Adherence of laws and re%ulations Effective and efficient oerations
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Authorisation, validation, recordin%, reconciliation, safe%uardin% of assets
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AUDIT72S
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Internal > e"amine and evaluate the or%anisation
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mana%ement rocedures, adherence to cororate olicies and rocedures, and internal controls to ensure that records are accurate and controls are ade.uate to detect and rotect a%ainst fraud and waste of resources E#ternal > e"amine and evaluate the or%anisation
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financial ear and chec* if a coman
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:oo* at concetual framewor* of accountin%
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=A2TNE2S6I=S
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Admission of a =artner
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Accountin% for the admission of a artner ma be done in various was&
#! Contri)ution of assets to an e#isting partner > There is no need to record the actual assets aid to the e"istin% artner as this is a ersonal transaction! The onl entr to be made is to show the chan%e in caital! Dr =artner
,- Contri)ution of intangi)le assets to.%ur&hasing of interest in an e#isting partnership > This method re.uires that e"istin% assets of the ori%inal artnershi be revalued, reviousl unrecorded intan%ible assets be traced to the ori%inal artnershi and other intan%ible assets be traced to a new artner! a- /onus method i- 4alculate the boo* value of the new artnershi after the in$ection of cash! ii- 4alculate the new artner
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)- Good"ill method > Goodwill is the difference between the value of a business as a whole and the a%%re%ate fair values of the searate net assets! i- 4alculate the imlied caital of the new artnershi based on the amount of cash contributed for a certain ercent interest! ii- 4alculate %oodwill as the difference between this imlied caital and the actual boo* value of the new artnershi! iii- Allocate %oodwill to e"istin% artners! 1- If a %oodwill account is not maintained in the boo*s, credit it in the old rofit sharin% ratio and debit it in the new rofit sharin% ratio! •
2etirement of a =artner
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Accountin% for the retirement of a artner ma be done in different was&
#! Sale of interest to another partner > There is no need to record the actual assets aid to the retirin% artner as this is a ersonal transaction! The onl entr to be made is to show the chan%e in caital! Dr =artner
-! Sale of interest to the partnership 0)onus method > The interest of the artnershi sold will result in a decrease in both cashFban* and the caital of the retirin% artner! The difference between the cash received b the retirin% artner and the interest in the artnershi is termed a bonus and is allocated to the other e"istin% artners! •
/! Sale of interest to the partnership 0good"ill method a! 2ecordin% of %oodwill attributable onl to retirin% artner > The e"cess of the cashFban* aid over the actual caital is treated as the %oodwill of the retirin% artner and credited to the retirin% artner The e"cess of cashFban* aid over the actual caital is treated as the %oodwill of the retirin% artner! 1rom this, total %oodwill can be calculated and recorded! • •
?hen a artner retires, his current account b alance must be transferred to his caital
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account! If %oodwill is not recorded in the boo*s, the %oodwill must be reallocated in the new rofit sharin% ratio between the e"istin% artners!
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4han%e in the =rofit+sharin% 2atio of a =artnershi
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?hen %oodwill is recorded in the boo*s > Allocate e"istin% %oodwill to artners in the old rofit sharin% ratio
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?hen %oodwill is not recorded in the boo*s > Allocated e"istin% %oodwill in the old rofit sharin% ratio and write it off in the new rofit sharin% ratio
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Allocate chan%e in the value of assets to artners in the old rofit+sharin% ratio!
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2evaluation of assets and %oodwill
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?hen this occurs, the %oodwill account ma be debited in the old rofit+sharin% ratio and credited in the new! 3oth of these entries are transferred to the caital account!
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Alternativel, the revaluation account can be credited with the total %oodwill amount and the caital account debited in the new ratio!
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An chan%es in the revaluation account are also recorded in the caital account!
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Dissolution of a =artnershi
#! All asset account balances other than cash are closed to the realisation account! -! The roceeds from the disosal of the assets are credited to the realisation account and debited to cash 'e"cet if a artner ta*es an asset(! /! All liabilit account balances are closed to the realisation account! 0! The ament made to creditors would be recorded in the realisation and cash accounts! 5! All li.uidation e"enses must be made and recorded in the realisation and cash accounts! H! ?here a artner wishes to ta*e an asset for ersonal use, his caital account is debited and that asset account credited and closed off! 'This ma have to ass throu%h the realisation account since the mar*et value of the asset is used!( 8! All current accounts must be closed to the caital accounts! ! The realisation account must be closed off to the artners< caital accounts in their rofit+ and+loss sharin% ratio! ! An outstandin% loans to the artners must be aid off! #K! 4lose off the cash and caital accounts!
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?hen a artnershi is sold, debit the caital account and credit the realisation account!
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Incororatin% a =artnershi
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All accounts are ad$usted b the increases or decreases where necessar and the total difference is transferred to the artners< caital accounts in their rofit+sharin% ratio! A temorar account called a valuation ad$ustment account is used to facilitate this!
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The accumulated dereciation account is written off to the valuation ad$ustment account!
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The balance in the valuation ad$ustment account is transferred to the artners< caital account!
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To record the issue of shares, debit the ori%inal caital account and credit the share caital accounts!
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?hen the cororation retains the artnershi boo*s, the assets and liabilities are ad$usted to their fair value and a valuation ad$ustment account is created to accumulate the %ains and losses! This valuation account is then closed to the artners< caital account in their rofit and loss ratio! These caital accounts are then closed to the share caital account!
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4AS6 1:7? STATE9ENT
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4ash e.uivalents are short+term, hi%hl li.uid investments that are readil convertible to *nown amounts of cash and which are sub$ect to an insi%nificant ris* of chan%es in value!
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A sin%le transaction ma include cash flows that are classified differentl! 1or e"amle, when the cash reament of a loan includes both interest and caital, the interest element ma be classified as an oeratin% activit and the caital element is classified as a financin% activit!
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7eratin% activities > rincile revenue+roducin% activities of the enterrise and other
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activities that are not investin% or financin% activities) indicator of the e"tent to which the oerations of the entit have %enerated sufficient cash flows to rea loans, maintain the oeratin% caabilit of the entit, a dividends and ma*e new investments without recourse to e"ternal sources of financin%) useful in forecastin% future oeratin% cash flows Investin% activities+ the ac.uisition and disosal of lon%+term assets and other investments not included in cash) the cash flows reresent the e"tent to which
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e"enditures have been made for resources intended to %enerate future income and cash flows 1inancin% activities+ activities that result in chan%es in the si@e and comosition of e.uit caital and borrowin%s of the enterrise) useful in redictin% claims on future cash flows b roviders of caital to the entit
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2easons for roducin% a cash flow statement&
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enables users to evaluate o the chan%es in net assets of an entit o the financial structure 'includin% its li.uidit and solvenc( of the entit o the abilit of the entit to affect the amounts and timin% of cash flows in order to adat to chan%in% circumstances and oortunities
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useful in assessin% the abilit of the entit to %enerate cash and cash e.uivalents and enables users to develo models to assess and comare the resent value of the future cash flows of different entities
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enhances the comarabilit of the reortin% of oeratin% erformance b different entities because it eliminates the effects of usin% different accountin% treatments for the same transactions and events
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historical cash flow information is often used as an indicator of the amount, timin% and certaint of future cash flows
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e"aminin% the relationshi between rofitabilit and net cash flow and the imact of chan%in% rices
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Interest aid and interest and dividends received ma be classified as oeratin% cash flows because the enter into the determination of rofit or loss! Alternativel, interest aid and interest and dividends received ma be classified as financin% cash flows and investin% cash flows resectivel, because the are costs of obtainin% financial resources or returns on investments! Dividends aid ma be classified as a financin% cash flow because the are a cost of obtainin% financial resources! Alternativel, dividends aid ma be classified as a comonent of cash flows from oeratin% activities in order to assist users to determine the abilit of an entit to a dividends out of oeratin% cash flows!
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1INAN4IA: 2ATI7S
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Solvenc refers to an enterrises caacit to meet its lon%+term financial commitments! :i.uidit refers to an enterrise
2i3uidit! $atios
Current Assets Current Liabilities
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4urrent 2atio L
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This ratio measures the abilit of the entit to meet its short+term obli%ations with its current assets! A %eneral rule of thumb is that the current ratio should be -&#! 6owever,
this ratio does not tell the whole stor as not all current assets ma be easil converted into cash as .uic*l as needed! Quick Assets Current Liabilities
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Muic*F Acid Test 2atio L
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Muic* assets include cash, mar*etable securities, accounts receivable and current notes receivable but do not include inventor and reaid e"enses!
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This ratio rovides a more ri%orous test of an entit
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=rofit is a function of sales and of how mana%ement uses its assets in %eneratin% rofits!
Gross profit #KK Sales
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Gross mar%in ercenta%e L
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This ratio measures the amount of returns an entit receives from sales b deductin% its cost of sales!
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Net income Net income ercenta%e L #KK Sales
This ratio measures the amount of returns an entit receives from sales b deductin% its cost of sales and e"enses!
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Net income+ Effect of interest expense 2eturn on assets '27A( L Average totalassets
#KK
This ratio measures the amount of returns an entit receives from investment in assets! It is a measure of oeratin% erformance that indicates how effectivel the assets have been emloed durin% the ear!
Net income Capital employed #KK
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2eturn on caital emloed '274E( L
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;4aital emloed< includes common stoc*, reserves, and lon%+term liabilities!
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This ratio measures the amount of returns an entit receives from its caital emloed, both owner+sulied funds and creditors!
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The followin% rofitabilit ratios are of %reat concern to investors!
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Earnin%s er share 'E=S( L
Net income available ¿ commonstockholders
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Average number of common stock ∈ issue
Net income available to common stoc*holders L =rofit after Ta" > =reference Dividends This ratio measures the earnin% caacit of a share!
Market price of share =rice Earnin%s 2atio '=E(F Earnin%s multile L Earnings per share
This ratio informs investors of the amount of rofits the share rice reresents! It shows the amount the investor can receive 'or the number of times over the investor can receive dividends er share( if shares are traded on the oen mar*et! A hi%h =E ratio indicates it is e"ected that the coman
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otalcommon stock dividends Dividend er share L Number of common stock ∈issue
Dividend a+out ratio L
Net income available otal commonstock dividends common stockholders ¿ ¿
#KK
L
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!ividends per share of common shares #KK Earnings per share
'when to and bottom are divided b common stoc* in issue(
This ratio shows the roortion of income that is aid to the common shareholder in the form of dividends! The dividend a+out ratio that is b est for the coman deends on its oortunities for %rowth, and the needs of the coman for reinvestment! Solven&! $atios
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The de%ree to which an investor or business is utili@in% borrowed mone! 4omanies that are hi%hl levera%ed ma be at ris* of ban*rutc if the are unable to ma*e aments on their debt) the ma also be unable to find new lenders in the future!
Debt to asset ratio L
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otal liabilities otal assets
A levera%e measure, this ratio measures the ercenta%e of a coman
Debt to e.uit ratio L
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otal liabilities otal e"uity
The debt+to+e.uit ratio 'DFE( is a financial ratio indicatin% the relative roortion of shareholders e.uit and debt used to finance a comans assets!
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Times interest earned L
#perating profit + other revenues $nterest expense
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This ratio measures the firm
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A&tivit! $atios
Cost of goods sold Average inventory
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Inventor turnover L
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This ratio measures the number of times that the entit urchases inventor in the eriod!
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Average accountsreceivable Avera%e collection eriod L /H5 Credit sales
This ratio reresents the avera%e len%th of time that a business must wait after a credit sale before receivin% cash!
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Average accounts payable Avera%e ament eriod L /H5 Cost of goods sold
This ratio reresents the avera%e len%th of time that a business ta*es before ma*in% a cash ament to creditors!
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