Accounting Fundamentals July 2010 s and examiner s comments Important notice When reading these suggested answers, please note that the answers are intended as an indication of what is required rather than a definitive right answer. In many cases, there are several possible answers/approaches to a question. Please be aware also that the length of the suggested answers given here may be somewhat exaggerated compared with what might be achieved in the reality of an unseen, time-constrained examination. Examiner s general comments The pass rate for this paper increased to 74%, from 48% for the previous session. A competent group of candidates continue to provide a balanced set of answers across all three Sections of the paper. However, some candidates appeared to have been poorly prepared for the paper and need to reflect on their preparation strategy. Another group of candidates neglected to include workings in their final solution in parts of Section C. Candidates need to focus on the whole syllabus and not seek to overlook what may be deemed as minor areas, as any area from the whole syllabus could be used to write the examination questions at each sitting. ICSA, 2010 Page 1 of 17
Section A (Answer all parts of Question 1 Select only one of the options A,B,C or D for each part) 1. (i) The bookkeeper at Sundaye Bakers posted a 500 sales invoice to F. Smith in error. The invoice total was correct but it was for another debtor, T. Smith. This mistake is an error of which of the following kind? A. Principle B. Omission C. Commission D. Original Entry (ii) A closer examination of the records of Sundaye Bakers revealed that a 750 sales invoice to Barbi Khan was entered in the books as 570. This mistake is an error of which of the following kind? A. Principle B. Omission C. Commission D. Original Entry (iii) On 25 June 2010 Sundaye Bakers rent account had a 6,250 balance outstanding. The owner, Sundaye, was unable to find the business cheque book, so he paid the balance from his personal bank account. What would be the effect of this transaction on the accounting equation? A. Assets increase and liabilities decrease. B. Capital increases and liabilities decrease. C. Capital increases and assets decrease. D. Assets decrease and liabilities increase. (iv) At the year ended 30 June 2009 Sundaye Bakers provision for doubtful debt was 4,100. At 30 June 2010 the provision for doubtful debt was 1,950. What figure should the bookkeeper show in the profit and loss account for the year ended 30 June 2010? A. 2,150 expense B. 1,950 expense C. 1,950 income D. 2,150 income ICSA, 2010 Page 2 of 17
(v) The bank has agreed to provide Sundaye Bakers with a 15,000 loan. How should the bookkeeper record the loan in the books of the accounts? Debit Credit A. Loan Bank B. Bank Loan C. Capital Loan D. Loan Capital (vi) A review of the accounts for the year ended 30 June 2010 revealed the cost of sales was 35,750 and the turnover was 120,658. What was the gross profit percentage for the year? A. 29.63% B. 42.10% C. 70.37% D. 237.50% (vii) The bookkeeper did not include the owner s personal bank balance of 6,500 when drawing up the trial balance. The exclusion of the 6,500 was an example of which one of the following accounting concepts? A. Materiality B. Matching C. Entity D. Prudence (viii) Which one of the following items should Sundaye Bakers bookkeeper classify as capital expenditure? A. Payment to upgrade the oven 3,195 B. Payment for public liability insurance 3,220 C. Payment for accountancy fees 3,500 D. Payment to re-paint the offices 12,236 ICSA, 2010 Page 3 of 17
(ix) The trial balance drawn up by the bookkeeper at Sundaye Bakers for the year ended 30 June 2010 had the following entries: Dr Cr Plant at cost 12,800 Capital as at 30 June 2009 9,505 Cash 546 Bank 1,254 Provision for doubtful Debtors 29,567 debtors 1,399 Prepayments 698 Trade creditors 11,037 Drawings 15,792 Plant depreciation 4,608 Annual profit 29,434 Accruals 2,166 59,403 59,403 What is Sundaye Bakers capital at 30 June 2010? A. 14,955 B. 23,147 C. 29,412 D. 59,403 (x) The trial balance drawn up by the bookkeeper at Sundaye Bakers for the year ended 30 June 2010 had the following entries: Dr Plant at cost 12,800 Capital as at 30 June 2009 9,505 Cash 546 Bank 1,254 Provision for doubtful Debtors 29,567 debtors 1,399 Prepayments 698 Trade creditors 11,037 Drawings 15,792 Plant depreciation 4,608 Cr Annual profit 29,434 Accruals 2,166 59,403 59,403 What is the total of Sundaye Bakers net current assets as at 30 June 2010? A. 14,955 B. 23,147 C. 29,412 D. 59,403 (Total: 20 marks) ICSA, 2010 Page 4 of 17
s (i) C Commission The entry has been posted to the correct side of the ledger but the incorrect account. (ii) D Original Entry The incorrect amount has been posted in the accounts. (iii) B Capital increases and liabilities decrease. When Sundaye pays the rent he introduces cash into the business and the capital of the business is increased. The rent is a liability and discharging the 6,250 the liability of the business is being decreased. (iv) D 2,150 income Provision for doubtful debts account Date Details Dr Cr Bal 30.06.09 Balance b/d 4,100 (4,100) 31.12.03 Profit & loss account 2150 (1,950) (v) B Debit Bank Credit Loan The bank is an asset account and will increase as a result of receiving the loan. The loan, which is a liability account, will increase as a result of loan being given to Sundaye Bakers. In short the bank receives the value hence the debit entry and the loan provides the value thus the credit entry. ICSA, 2010 Page 5 of 17
(vi) C 70.37% Turnover 120,658 CoS 35,750 Gross Profit 84,908 GPM = Gross Profit Turnover x 100 84,908 120,658 70.37% (vii) C Entity A business is separate from its owners or managers. The concept applies regardless of whether the business is a limited company or a sole trader. Therefore, the owner s bank balance must not be included in the trial balance of the business. (viii) A Payment to upgrade the oven 3,195 Capital expenditure is expenditure which results in the acquisition of a fixed asset or an improvement in its earning capacity. The upgrade of the oven is the only expenditure that satisfies these criteria. The alternatives are revenue expenditures. (ix) B 23,147 Capital 30 June 2009 9,505 Annual Profit 29,434 Less Drawings 15,792 Capital 30 June 2010 23,147 ICSA, 2010 Page 6 of 17
(x) A 14,955 Current Assets Debtors 28,168 Cash 546 Prepayments 698 29,412 Current Liabilities Bank 1,254 Trade Creditors 11,037 Accruals 2,166 14,457 Net Current Assets 14,955 Examiner s comments Section A continues to assess knowledge of the breadth of the syllabus with the use of multiplechoice questions. Overall, the performance was good and many candidates scored high marks. ICSA, 2010 Page 7 of 17
Section B (Answer all five questions) 2. With the aid of one suitable example of each, explain: (a) (b) The going concern concept. The money measurement concept. (3 marks) (3 marks) Going Concern: A business will continue in operation for the foreseeable future and that there is no intention to put the business into liquidation or to make drastic cutbacks to its operations. A balance will show debtors and creditors at the year end because it is expecting the business to receive and settle these balances in the next accounting period. Money Measurement: Accounts will only deal with those items which have a monetary value assigned to them. The balance sheet records the fixed assets monetary value adjusted for depreciation. There is no place for the value of staff. 3. Giving one suitable example of each, provide three corrections and adjustments made to the cashbook when doing a bank reconciliation. (6 marks) Automated bank payments made to a supplier or from a debtor but not recorded in the cashbook. Bank interest and bank charges not entered in cashbook. Dividends received direct into the bank and not yet entered in cashbook. ICSA, 2010 Page 8 of 17
4. On 1 July 2009 Merci Less Designs had fixed assets at cost of 195,680 and provision for depreciation balance of 89,750. On 15 June 2010 an item of machinery purchased for 60,000 with accumulated depreciation of 29,280 was sold for 30,000. Prepare the fixed asset account, the provision for depreciation account and the fixed asset disposal account for Merci Less Designs for the year ended 30 June 2010. (6 marks) Fixed Assets 1-Jul-09 Balance b/d 195,680 195,680 15-Jun-10 Disposal Account 60,000 135,680 30-Jun-10 Balance c/d 135,680 Disposal Account 15-Jun-10 Fixed Asset 60,000 60,000 15-Jun-10 Provision for depreciation 29,280 30,720 15-Jun-10 Cash 30,000 720 30-Jun-10 Profit and loss account 720 0 60,000 60,000 Provision For Depreciation 1-Jul-09 Balance b/d 89,750 89,750 15-Jun-10 Disposal Account 29,280 60,470 30-Jun-10 Balance c/d 60,470 5. With the aid of one suitable example of each, explain the difference between a prepayment and an accrual. (6 marks) Accrual: An expense incurred during the accounting period but remaining unpaid at the end of the period. Accruals are shown on the balance sheet as a current liability. For example, unpaid suppliers who have supplied goods during the year. Prepayment: A payment made in one accounting period but chargeable to profit of a later period. Prepayments are shown on the balance sheet as a current asset. For example, the advance payment of an expense such as telephone bill. ICSA, 2010 Page 9 of 17
6. Monica Lott commenced her small business on 1 June 2010 with a cash balance of 1,900. The transaction in her first month included the following: 2 June Receive 10,000 loan from her father 5 June Paid landlord 3,000 for the month s shop rent 8 June Purchased 12,000 stock on credit from t-shirt designs 13 June Received telephone enquiry from client which would result in sales of 4,528 19 June Purchased shop fittings for cash 1,798 27 June Sold 9 t-shirts at 21 each settled by cheque Prepare the ledger accounts to record the above transactions. Unless otherwise directed, all transactions were made through the bank account. (6 marks) Capital 1-Jun-10 Balance b/d 1,900 1,900 30-Jun-10 Balance 1,900 Cash 1-Jun-10 Balance b/d 1,900 1,900 19-Jun-10 Shop fittings 1,798 102 30-Jun-10 Balance 102 Sales 27-Jun-10 Bank 189 189 30-Jun-10 Balance 189 Bank 2-Jun-10 Loan 10,000 10,000 5-Jun-10 Rent 3,000 7,000 27-Jun-10 Sales 189 30-Jun-10 Balance 7,189 Loan 2-Jun-10 Bank 10,000 10,000 30-Jun-10 Balance 10,000 Rent 5-Jun-10 Bank 3,000 3,000 30-Jun-10 Balance 3,000 ICSA, 2010 Page 10 of 17
T Shirt Designs 8-Jun-10 Stock 12,000 12,000 30-Jun-10 Balance 12,000 Stock 8-Jun-10 T Shirt Designs 12,000 12,000 30-Jun-10 Balance 12,000 Shop Fittings 19-Jun-10 Cash 1,798 1,798 30-Jun-10 Balance 1,798 Examiner s comments The combination of numerical and qualitative-based short-answer questions in Section B continues to assess candidates broad understanding of the syllabus. The spread of the answers provided demonstrated that some concepts such as prepayment and accrual were readily understood and well explained, whereas other terms such as money measurement presented a greater challenge. Many candidates are not demonstrating fundamental bookkeeping skills when managing routine transactions such as disposal of fixed assets as found in question 4. Candidates scored best in question 5 and scored poorly in question 3. ICSA, 2010 Page 11 of 17
Section C (Answer two questions only) 7. (a) Identify nine groups who might be interested in financial information about a public company. (9 marks) (b) Managers Shareholders Trade contacts Providers of capital Tax authorities Employees Financial analysts/advisers Government agencies Public For eight of the above groups, discuss their interest in financial information about a public company. (16 marks) Any eight of the following: Managers of the company: These are people appointed by the company's owners to supervise the day-to-day activities of the company. They need information about the company's financial situation as it is currently and as it is expected to be in the future. This is to enable them to manage the business efficiently and to take effective control and planning decisions. Shareholders of the company, i.e. the company's owners: These will want to assess how effectively management is performing its stewardship function. They will want to know how profitably management is running the company's operations and how much profit they can afford to withdraw from the business for their own use. Trade contacts: Trade contacts including suppliers who provide goods to the company on credit and customers who purchase the goods or services provided by the company. Suppliers will want to know about the company's ability to pay its debts; customers need to know that the company is a secure source of supply and is in no danger of having to close down. Providers of finance to the company: These might include a bank which permits the company to operate an overdraft, or provides longer-term finance by granting a loan. The bank will want to ensure that the company is able to keep up with interest payments, and eventually to repay the amounts advanced. Tax Authorities: Tax Authorities will want to know about business profits in order to assess the tax payable by the company. ICSA, 2010 Page 12 of 17
Employees of the company: These should have a right to information about the company's financial situation, because their future careers and the size of their wages and salaries depend on it. Financial analysts and advisers: Financial analysts and advisers need information for their clients or audience. For example, stockbrokers will need information to advise investors in stocks and shares; credit agencies will want information to advise potential suppliers of goods to the company; and journalists need information for their reading public. Government and their agencies: Governments and their agencies are interested in the allocation of resources and therefore in the activities of enterprises. They also require information in order to provide a basis for national statistics. The public: Enterprises affect members of the public in a variety of ways. For example, enterprises may make a substantial contribution to a local economy by providing employment and using local suppliers. Another important factor is the effect of an enterprise on the environment, for example, with regard to pollution. The following scenario applies to questions 8 and 9. Brent Wood owns a computer supplies business called HD-Byte ( HD ), selling mainly to trade customers. Brent manages the business with the assistance of his partner who oversees all the finances and bookkeeping. HD s trading year-end is 30 June. Set out below is HD s trial balance, plus notes detailing the adjustments needed before the year-end 30 June 2010 accounts can be prepared. Dr Cr Sales 105,000 Stock at 1 July 2009 14,700 Purchases 29,000 Salaries 13,000 Telephone 3,000 Motor expenses 7,800 Administration 980 Premises 55,000 Computers at cost 14,000 Plant & equipment at cost 16,000 Provision for doubtful debtors 500 Debtors and creditors 4,800 16,400 Bank 1,560 Cash 620 Drawings 11,000 Capital 42,060 Provision for depreciation: Computers 3,500 Plant & equipment 4,000 171,460 171,460 ICSA, 2010 Page 13 of 17
Notes to the trial balance: (i) Stock at 30 June 2010 was valued at 9,000. (ii) Telephone charges for the year to 30 September 2010 were 2,800. (iii) Computers are depreciated on a straight line basis over 4 years with a residual value of 4,000. (iv) A heating bill of 880 for the year was outstanding at 30 June 2010. (v) (vi) Bad debts of 300 are to be written off. Plant & equipment is depreciated at 25% on the reducing balance basis. (vii) Provision for doubtful debts is to be maintained at 10% of debtors. 8. (a) Prepare HD s trading profit and loss account for the year ended 30 June 2010. HD-Byte s Trading Profit & Loss Account For the year ended 30 June 2010 Sales 105,000 Opening Stock 14,700 Purchases 29,000 43,700 Closing Stock (9,000) Cost of Sales 34,700 Gross Profit 70,300 Expenses Salaries 13,000 Telephone 2,300 Motor Expenses 7,800 Administration 980 Depreciation Computers 2,500 Plant & Equipment 3,000 Heating 880 Bad debt 300 PDD (50) 30,710 39,590 (10 marks) ICSA, 2010 Page 14 of 17
(b) Prepare HD s balance sheet as at the year ended 30 June 2010. (15 marks) HD-Byte s Balance Sheet As at the year ended 30 June 2010 Fixed Assets Cost Depn NBV Premises 55,000 55,000 Computers 14,000 6,000 8,000 Plant & Equipment 16,000 7,000 9,000 72,000 Current Assets Stock 9,000 Debtors 4,500 Less provision 450 Prepayment 700 Bank 1,560 Cash 620 15,930 Current Liabilities Creditors 16,400 Accruals 880 17,280 Net Current Assets (1,350) Net Assets 70,650 Capital Bal bf 42,060 Annual Profit 39,590 81,650 Drawings (11,000) Owners Fund 70,650 ICSA, 2010 Page 15 of 17
9. (a) Show how each of the adjustments contained in notes (ii) to (vii) to HD s trial balance would be recorded in its ledger accounts. Where relevant, include the opening and closing balances and any transfers to the profit and loss account. Prepayment 30-Jun-10 Telephone 700 700 (13 marks) Accumulated Depreciation - Computers 30-Jun-09 Balance b/d 3,500 3,500 30-Jun-10 P&L a/c 2,500 6,000 Accumulated Depreciation - Plant & Equipment 30-Jun-09 Balance b/d 4,000 4,000 30-Jun-10 P&L a/c 3,000 7,000 Accruals 30-Jun-10 Heating 880 880 Bad Debts 30-Jun-10 Debtors 300 300 30-Jun-10 Balance 300 Debtors 30-Jun-09 Balance b/d 4800 4,800 30-Jun-10 Bad Debt 300 4,500 Provision for doubtful debts 30-Jun-09 Balance b/d 500 500 30-Jun-10 Profit & Loss Account 50 450 ICSA, 2010 Page 16 of 17
(b) Explain the reasons why HD has control accounts. (12 marks) They provide a check on the accuracy of entries made in the personal accounts in the sales ledger and purchase ledger. It is very easy to make a mistake in posting entries, because there might be hundreds of entries to make. Figures might get transposed. Some entries might be omitted altogether so that an invoice or a payment transaction does not appear in a personal account as it should. The control accounts could also assist in the location of errors, where postings to the control accounts are made daily or weekly or even monthly. If an entry is not recorded in a personal account, or a transposition error occurs, it would be a formidable task to locate the errors or errors at the end of a year given the volume of transactions during the year. By using the control account, a comparison with the individual balances in the sales or purchase ledger can be made on a regular basis and speeds up the finding of any errors. Where there is a separation of clerical (bookkeeping) duties, the control account provides an internal check. The person posting entries to the control accounts will act as a check on a different person whose job it is to post entries to the sales and purchase ledger accounts. To provide debtors' and creditors' balances more quickly for producing a trial balance or balance sheet. A single balance on a control account is obviously extracted more simply and quickly than many individual balances in the sales or purchase ledger. This means also that the number of accounts in the double-entry bookkeeping system can be kept down to a manageable size, since the personal accounts are memorandum accounts only and the control accounts instead provide the accounts required for a double-entry system. Examiner s comments Question 7 was the most popular question in Section C and generally very well answered. Question 9 was the least popular question with few candidates scoring good marks. Question 8 required candidates to produce a profit and loss account and balance sheet from a trial balance and a set of notes to the trial balance. This question was also popular and generally answered well. However, the following points were noted: Some candidates were unable to treat revenue and capital items appropriately in the profit and loss account. Some candidates appeared not to know the importance of labelling cost of sales, gross profit or operating profit. Inappropriate location of items in each financial statement. The omission or non-treatment of notes to the trial balance. Overall, it was noted that the performance of candidates is not split between numerical and nonnumerical questions but between particular topics within the syllabus. The scenarios included here, except where expressly identified, are entirely fictional. Any resemblance of the information in the scenarios to real persons or organisations, actual or perceived, is purely coincidental. ICSA, 2010 Page 17 of 17