REV 00
DEPRECIATION OF FIXED
ASSETS
•
•
•
•
•
•
Nature of fixed assets
Causes of depreciation
Methods of calculating depreciation charges
Other methods of calculating depreciation
Double entry records for depreciation
Disposal of fixed asset
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Nature of Fixed Assets
• Fixed assets are those assets of material
value which are:
Of long life
To be used in the business
Not bought with the main purpose of resale
• Depreciation is the part of original cost of the
fixed asset consumed during its period of use
by the firm.
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Causes of Depreciation
• Physical deterioration
Wear and tear.
Erosion, rust, rot and decay.
• Economic factors
Obsolescence.
Inadequacy.
• Time factor
• Depletion
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Methods of Calculating
Depreciation Charges
• Straight line method a.k.a fixed installment
method
Cost – Estimated Disposal Value
Number of expected years of use
• Reducing balance method a.k.a diminishing
balance method
r = 1 - n√s/c
n = the number of years c = cost of the asset
s = the net residual value r = rate of depreciation
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Other Methods of Calculating
Depreciation Charges
• Depletion method
Cost of fixed asset
Expected total
contents in units
x Number of units taken
in period
• Sum of the years’ digits – it provides for
higher depreciation to be charged early in the
life of an asset with lower depreciation in later
years.
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Other Methods of Calculating
Depreciation Charges
• Machine hour method – with a machine the
depreciation provision may be based on the
number of hours that the machine was
operated during the period compared with the
total expected running hours during the
machine’s life with the firm.
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Double Entry Records for
Depreciation
• The depreciation is shown accumulating in a
separate ‘provision for depreciation’ account.
• Double entry:
Debit: Profit and Loss Account
Credit: Provision for Depreciation Account
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Double Entry Records for
Depreciation
Example: In a business with financial years ended
31 December, a machine is bought for RM 2000 on
1 January 2000. It is to be depreciated at the rate
of 20% using the reducing balance method.
The records for three years are as below:
Machinery
2000
RM
Jan 1
Cash
2000
2000
Dec 31
2001
Dec 31
Provision for Depreciation Account
RM
2000
Balance
400 Dec 31 Profit &
c/d
loss
Balance
c/d
2001
720 Jan 1
Dec 31
2002
Dec 31
Balance
c/d
2002
976 Jan 1
Dec 31
RM
400
Balance
b/d
Profit &
loss
400
Balance
b/d
Profit &
loss
720
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320
256
8
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Double Entry Records for
Depreciation
Profit and Loss Account (extracts) for the year ended 31 December
RM
2000
Depreciation
400
2001
Depreciation
320
2002
Depreciation
256
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Double Entry Records for
Depreciation
Balance Sheet (extracts) as at 31 December
RM
2000
Machinery at cost
less: Depreciation
RM
2000
(400)
1600
2001
Machinery at cost
less: Depreciation
2000
(720)
1280
2002
Machinery at cost
less: Depreciation
2000
(976)
1024
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Disposal of Fixed Assets
• Accounting entries:
Transfer the cost price of the asset sold to an
assets disposal account:
Debit: Asset Disposal Account
Credit: Asset Account
Transfer the depreciation already charged to the
assets disposal account:
Debit: Provision for depreciation
Credit: Asset Disposal Account
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Disposal of Fixed Assets
For remittance received on disposal:
Debit: Cash book
Credit: Asset Disposal Account
Transfer difference (amount to balance the
account) to the profit and loss account. If the
asset disposal account shows a credit balance, it
is a profit on sale:
Debit: Asset Disposal Account
Credit: Profit and Loss Account
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Disposal of Fixed Assets
If the asset disposal account shows a debit
balance, it is a loss on sale:
Debit: Profit and Loss Account
Credit: Asset Disposal Account
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CORRECTION OF ERRORS &
SUSPENSE ACCOUNT
• Types of error and correction of errors
• Suspense accounts and error
• The effect of errors on profit
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Types of Error
• Errors of Omission – when a transaction has
been completely omitted from the books, it
can be corrected by simply making a double
entry to record the transaction.
• Error of Commission – a debit or credit entry
has been posted to the wrong account of the
same category.
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Types of Error
• Error of Principle – a debit or credit entry is
posted to an account of a different category.
• Compensating Error – a wrong amount is
recorded in a subsidiary book or a document
such as an invoice and subsequently posted
to the ledger accounts.
• Complete Reversal of Entries – when
recording a transaction, the debit entry and
the credit entry are reserved.
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Correction of Errors
1. Error of Omission
A cash payment of RM 250 to a creditor, Jerry has been
omitted from the books.
Correction:
Jerry
Cash
RM
250
Cash
Jerry
RM
250
2. Error of Commission
A sale of RM 150 to Beetle Brothers has been posted
to Battle Brothers.
Correction:
Sales (error)
Battle Brothers
Battle Brothers
RM
250
Beetle Brothers
RM
250
Beetle Brothers
RM
250
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Correction of Errors
3. Error of Principle
Repairs to vehciles amounting RM 1000 has been posted to
Vehicles Account.
Correction:
Cash
(error)
Vehicles
RM
1000
Repairs (correction)
Vehicles (correction)
RM
1000
Cash
RM
1000
4. Error of Original Entry
A purchase of RM 665 from Andy Papers Ltd has been entered
in the Purchases Account and posted to the ledger as RM 656.
Correction:
Andy (error)
Andy (correction)
Purchase
RM
656
9
Andy Papers Ltd
Purchase (error)
Purchase (correction)
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RM
656
9
18
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Correction of Errors
5. Compensating Error
Rent received RM 340 is correctly debited to the cash account,
but posted as RM 350 to Rent Received Account.
Correction:
Suspense
Rent Received Account
RM
10
Cash (error)
RM
350
Suspense Account
Rent received (correction)
RM
10
6. Completer Reversal of Entries
A payment of RM 700 to a creditor, Salmah which should be
debited to Salmah's account and credited to the cash account
are reversed.
Correction:
Salmah (error)
Cash (correction)
Cash Account
RM
700
Salmah (correction)
Salmah
RM
1400
Cash (error)
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RM
1400
RM
700
19
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Suspense Accounts and Error
• When trial balance totals are not equal, and
errors are not found, the trial balance totals
should be made to agree with each other by
inserting the amount of difference between
the two sides in a suspense account.
• Suspense account will only be included in the
Balance Sheet, if the errors are not found
before final accounts are prepared.
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Suspense Accounts and Error
• If the balance is a credit balance, it should be
included on the capital and the liabilities side
of the balance sheet. When the balance is a
debit balance it should be shown on the
assets side of the balance sheet.
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The Effect of Errors on Profit
• If an error affects item only in the Balance
Sheet, the original calculated profit will not
need altering.
• If the error is in one of the figures shown in
the Trading, and Profit and Loss Accounts,
the original profit will need altering.
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MANUFACTURING ACCOUNT
•
•
•
•
Division of cost
Format of financial statements
Work in progress
Apportionment of expenses
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Division of Cost
Direct materials
Direct labour
Direct expenses
PRIME COST
Add:
Factory overhead expenses
Administrative expenses
Selling and distribution
expenses
PRODUCTION COST
RM
MMM
LLL
EEE
RM
PCPC
OHH
AEA
SDS
TOTAL COST
PRPR
TCTC
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Division of Cost
• Direct costs – possible to trace the costs of
production to the product being
manufactured. Example: carriage inwards on
raw materials.
• Indirect costs – impossible to trace the costs
of production to the products being
manufactured. Example: wages of foreman
in charge of many men on different jobs.
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Division of Cost
• Factory overhead costs – all costs which
occur in the factory where production is being
done, but which cannot be easily traced to
the products being manufactured. Example:
factory power.
• Administration expenses – consist of such
items as managers’ salaries and the
depreciation of accounting machinery.
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Division of Cost
• Selling and distribution expenses – are items
such as advertising and display expenses,
carriage outwards and depreciation of
delivery vans.
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Format of Financial Statements
Manufacturing account
RM
Production costs for the period:
Direct materials
Direct labour
Direct expenses
Production costs of goods completed c/d
xxx
xxx
xxx
xxx
Trading account
RM
Sales
Less: Production cost of goods sold
Opening stock of finished goods
Add: Production cost of goods
completed b/d
Less: Closing stock
RM
xxxx
xxx
xxx
xxxx
(xx)
(xxx)
xxx
Gross Profit
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Format of Financial Statements
• Manufacturing account – debited with the
production cost of goods completed during
the accounting period.
• Trading account – will disclose the gross
profit.
• Profit and loss account – will show the net
profit.
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Work in Progress
• It is production cost from previous accounting
period whereby the goods were not yet
completed but completed in the current
accounting period.
Total production costs expended this year
Add: Opening Work in Progress
Less: Closing Work in Progress
Production costs of goods completed
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FINANCIAL ACCOUNTING 2
RM
xxx
xxx
(xx)
xxx
30
REV 00
Apportionment of Expenses
• Example: Rent expense is paid without
indication as to how much is for the factory
part and how much is for the administration
part. Methods that may be used to apportion
the expense are:
By floor area.
By property valuations of each part of the
buildings and land.
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DEPARTMENTAL ACCOUNTS
• Use of departmental accounts
• Allocation of expenses
• Inter-departmental transfer
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Use of Departmental Accounts
• For a retail store, it is better to know the gross
profit for each department rather that the
overall gross profit for the store.
• Actions to be taken to increase the overall
profitability of the business cannot be
considered until the departmental gross
profits or losses are known.
• Departmental accounts need to be prepared
to know the business’ profitability.
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Allocation of Expenses
• Each expense is divided between the
departments on what is considered to be the
most logical basis. This will differ between
businesses.
• Cost splits in the Trading, Profit and Loss
Accounts:
First section: Direct costs allocated entirely to the
department and which would not be paid if
department closed down.
Second section: Costs not directly traceable to the
department or which would still be payable even if
the department closed down.
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Inter-Departmental Transfer
• Purchases made for one department may be
subsequently sold in another department.
• In such a case, the items should be deducted
from the figure for purchases of the original
purchasing department, and added to the
figure for purchases for the subsequent
selling department.
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BRANCH ACCOUNTS
• Branch maintains full accounting records
• Items in transit
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Branch Maintains Full Accounting
Records
• More common in a firm with just a few
branches, and if a branch is large enough to
warrant employing a separate accounting
staff.
• A branch cannot operate on its own without
resources.
• A firm will want to know how much money it
has invested in each branch, and from this
arises the concept of branch and head office
current accounts.
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Branch Maintains Full Accounting
Records
• The current account shows the branch as the
debtor in the head office records, while the
head office is shown as a creditor in the
branch records.
• The current accounts are used for
transactions concerned with supplying
resources to the branch or in taking back
resources.
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Items in Transit
• Example: Goods sent from head office to
branch office will not be done in the same day
and the records will not show identical
figures.
• This means balances on the current accounts
will not be equal to one another.
• However, it is necessary for the current
accounts to have same balances as they will
be cancelled out when the balance sheet is
prepared.
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Items in Transit
• Items in transit are shown as debit balances.
• It must be appreciated that goods (including
returns) and money in transit are assets of
the firm at the end of a financial period.
• It merely stipulating that the assets are
neither at the head office nor at the branch.
(for further detail please refer to pages 11-12 in Wood, F &
Sangster, A. (2002). Business Accounting 2 (9th ed). London:
Court Road)
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PARTNERSHIP ACCOUNTS: AN
INTRODUCTION
• Introduction & contents of partnership
agreement
• The financial statement
• Goodwill for sole traders and partnership
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Introduction to Partnership
• Characteristics of partnership:
It is formed to make profits.
It must obey the law as given in the Partnership
Act 1961 (Act 1935).
Minimum two and maximum 20 partners.
Each partner must pay their share of any debts
that the partnership could not pay.
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Introduction to Partnership
• Characteristics of limited partners:
Their liability for the debts of the partnership is
limited to the the capital they have put in.
They are not allowed to take part in the
management of partnership business.
All the partners cannot be limited partners, so that
there must be at least one partner with unlimited
liability.
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Contents of Partnership
Agreement
• The usual accounting contents are:
Capital to be contributed by each partner.
Ratio in which profits or losses are to be shared.
Rate of interest (if any) to be paid on capital
before the profits are shared.
Rate of interest (if any) to be charged on partners’
drawings.
Salaries to be paid to partners.
Arrangements for the admission of new partners.
Procedures to be carried out when a partner
retires or dies.
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The Final Statement
• The trading and profit and loss account would
be identical with that as prepared by sole
trader.
• Extra section which is the profit and loss
appropriation account, where it shows the
distribution of profits.
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The Final Statement
Business' Name
Trading, and Profit & Loss Accounts for the year ended ..
RM
(Trading account - same as for sole trader)
(Profit and Loss account - same as for sole trader)
RM
Net profit
Interest on drawings:
Partners' names
RM
RM
xxx
xx
xxx
xxxx
Less:
Interest on capitals:
Partners' names
Salary:
Partners' names
xx
xx
(xxx)
xxxx
Balance of profits shared:
Partners' names
xxx
xxx
xxxx
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Goodwill for Sole Traders and
Partnerships
• Goodwill is the excess amount that has to be
paid to acquire a part or the whole of a
business as a going concern, over and above
the value of the net assets owned by the
business.
Purchased Goodwill = Total Price less value
of identifiable assets
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Goodwill for Sole Traders and
Partnerships
• Few possible reasons for paying goodwill:
The business has a good reputation.
The business is situated in a good location.
It has good contacts with suppliers.
It has experienced, efficient and reliable
employees.
A large number of regular customers who will
continue to deal with the new owner.
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Goodwill for Sole Traders and
Partnerships
• Goodwill is not entered in a sole trader’s
accounts unless he has actually bought it.
This will show he has bought an existing
business.
• A partner will own a share in the goodwill in
the same ratio in which he shares profits
(unless stated otherwise).
(for further details refer to pages 449 – 458 Wood, F & Sangster
A. (1999). Business Accounting 1 (8th ed). London: Long Acre)
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REVALUATION OF PARTNERSHIP
ASSETS
• Accounting for revaluation
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Introduction to Revaluation
• When a business is sold, and if the sale price
exceeds the book values, the profit will be
shared between the partners (based on the
profit and loss sharing ratio).
• Revaluation of assets need to be done when:
A new partner is admitted.
A partner leaves the firm.
The partners change profit and loss sharing ratios.
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Accounting for Revaluation
• For each asset showing a gain on revaluation:
Debit: Asset account with gain
Credit: Revaluation account
• For each asset showing a loss on revaluation:
Debit: Revaluation account
Credit: Asset account with loss
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Accounting for Revaluation
• Increase in total valuation of assets:
Debit: Profit to revaluation account
Credit: Old partners’ capital accounts in old
profit and loss sharing ratios
• A fall in total valuation of assets:
Debit: Old partners’ capital accounts in old
profit and loss sharing ratios
Credit: Loss to revaluation account
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PARTNERSHIP DISSOLUTION
• Need for dissolution
• Accounting for partnership dissolution
• The rule in Garner v Murray
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Need for Dissolution
• Reasons for dissolution:
The partnership is no longer profitable.
The partners cannot agree between themselves
how to operate the partnership.
Factors such as ill-health or old age.
• Any profit or loss on dissolution would be
shared by all the partners in the profit and
loss sharing ratios.
• Profits would increase capitals repayable to
partners and vice versa for losses.
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Accounting for partnership
dissolution
• Transfer book values of all assets to the
realisation account:
Debit: Realisation account
Credit: Asset accounts
• Amounts received from disposal of assets:
Debit: Bank account
Credit: Realisation account
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Accounting for partnership
dissolution
• Values of assets taken over by partner
without payment:
Debit: Partner's capital account
Credit: Realisation account
• Creditors paid:
Debit: Creditors’ accounts
Credit: Bank account
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Accounting for partnership
dissolution
• Costs of dissolution:
Debit: Realisation account
Credit: Bank account
• Profit or loss on realisation to be shared
between partners in profit and loss sharing
ratios:
If a profit:
Debit: Realisation account
Credit: Partners’ capital accounts
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Accounting for partnership
dissolution
If a loss:
Debit: Partners’ capital accounts
Credit: Realisation account
• Pay to the partners their final balances on
their capital accounts:
Debit: Capital accounts
Credit: Bank account
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Rule in Garner v Murray
• If a partner’s capital account has a debit
balance, normally the partner will pay in
amount to clear his indebtedness to the firm.
Sometimes he will unable to pay all or part of
his debts.
• In Garner v Murray, the court ruled that,
subject to any agreement to the contrary,
such a deficiency was to be shared by the
other partners.
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Rule in Garner v Murray
• The sharing must be in the ratio of their last
agreed capitals.
• It means, the credit balances on their capital
accounts in the normal balance sheet drawn
up at the end of their last accounting period.
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LIMITED COMPANIES
•
•
•
•
Need for limited companies
Public and private companies
Share capital and different meanings
The issues of shares
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Need for Limited Companies
• The growth in the size of businesses need to
have a lot of people investing in them and
those who would not be able to take part in its
management.
• Capital of limited company is divided into
shares.
• If a shareholder has paid in full for the shares,
his liability is limited to those shares.
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Public and Private Companies
• A company having a share capital may be
incorporated as a private company if its
memorandum or articles Restricts the right to transfer its shares.
Limits to not more than 50 members.
Prohibits any invitation to the public to subscribe for
any shares or debentures.
Prohibits any invitation to the public to deposit
money with the company.
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Public and Private Companies
• A public company is defined as one which
fulfils the following conditions:
Its memorandum states that it is a public company.
Minimum membership is two.
Its name must end with the words ‘Berhad’.
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Share Capital: Different Meanings
• Authorised share capital – a.k.a registered
capital or nominal capital. The total of the
share capital which the company is allowed to
issue to shareholders.
• Issued share capital – total of the share
capital actually issued to shareholders.
• Called-up capital – only part of the amounts
payable on each share has been asked for.
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Share Capital: Different Meanings
• Uncalled capital – total amount which is to be
received in future, but not yet asked for.
• Calls in arrears – total amount for which
payment has been asked but has not yet
been paid by shareholders.
• Paid-up capital – total amount of share capital
which has been paid for by shareholders.
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Share Capital: Different Meanings
• Debenture is used when a limited company
receives money on loan.
A.k.a loan stock or loan capital.
Interest will be paid to the holder, the rate of
interest being shown on the certificate.
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Issue of Shares
• Shares can be issued being payable for:
Immediately on application
By instalments.
• Issue of shares may take place on the
following terms connected with the price of
shares:
Shares issued at par (at nominal value).
Shares issued at premium.
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Issue of Shares
• Various stages after initial invitation to the
public to buy shares:
Applications are received together with the
application monies.
Applications are vetted and the shares allotted,
letters of allotment being sent out.
Excess application monies are returned.
Allotment monies are received.
The next instalment, known as the first call is
requested.
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Issue of Shares
The monies are received from the first call.
The next instalment, known as the second call, is
requested.
The monies are received from the second call.
• If a shareholder fails to pay the calls
requested, the company will have his shares
forfeited, provided that certain safeguards for
his protection are fully observed.
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Issue of Shares
• After the forfeiture, the company may reissue
the shares, unless there is a provision in the
Articles of Association to prevent it.
• The amount received on the reissue plus the
amount received from original shareholder
should at leas equal:
Called up value where the shares are not fully
called up.
The nominal value where the full amount has been
called up.
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LIMITED COMPANIES: FINANCIAL
STATEMENTS
• Trading, and profit and loss accounts
• Balance sheet
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Trading, and Profit and Loss
Accounts
• Trading account for a limited company is no
different from that of a sole trader or a
partnership.
• Two main differences in the profit and loss
account:
Directors’ remuneration
Debenture interest
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Trading, and Profit and Loss
Accounts
• Under the profit and loss account, is a section
called the profit and loss appropriation
account. It shows how the net profits are to
be appropriated.
• Credit side – net profit for the year and
balance brought forward from last year.
• Debit side – transfer to reserves, amounts
written off as goodwill, preliminary expenses,
taxation payable on profits, dividends,
balance carried forward to next year.
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Balance Sheet
• Fixed assets should normally be shown either
at cost or some other valuation.
• Total depreciation from date of purchase to
the date of the balance sheet should be
shown.
• The authorised share capital, is shown as a
note.
• Disclose amount of shares that are actually
called up.
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Balance Sheet
• Reserves consist of either of those unused
profits remaining in the appropriation account
or those transferred to a reserve account.
• Share capital and reserves should be totaled
so as to show the book value of all the shares
in the company.
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