Accounting

Question 1

a. The 4 factors that one should consider before deciding on what form of

business structure to operate under are expenses, liabilities, money and competition.

An expense in accounting is the money spent or cost incurred in an entity’s

efforts to generate revenue. Expenses represent the cost of doing business where

doing business is the sum total of the activities directed towards making a profit. A

business incurs expenses such as operating expenses, or selling, general and

administrative expenses, including marketing, rent, utilities and salaries. Interest on

any debt financing and income taxes also counted as expenses too.

A liability is an obligation and it is reported on a company’s balance sheet.

Accounts payable is one of the common examples of liability. Liability is a source of

funds for a company, and the company will use the fund to enhance the business.

Liabilities are contractual obligations and companies are required to honor their

liability contracts face legal suits.

Money is also a key point before deciding what form of business structure

should be operated under. Revenue is the total amount of money received from selling

products or providing services. It is also called as sales and it is measured over a

specific period of time. Revenue shows how much money the business is making. The

cost of goods sold includes everything directly related to producing a product or

service such as raw materials, direct labour costs and overhead related to producing

the product. Total costs also play an important role in deciding business structure

before operating. They include direct costs and other business costs like taxes,

interests, administrative expenses, selling expenses and license fees. Lastly, how

much money the company keeps are very important before deciding the business

structure. Gross profit refers to the money the company still have, after subtracting

what it cost to produce the product or service, while net profit refers the money the

company holding, but after subtracting all the expenses. Nevertheless, profit margin

helps the company to see how much money the business is keeping. It tells that how

much the profit is for every dollar invested in the business.

Besides, competitions between companies are also important before deciding

the business structure. Competition is the rivalry among sellers trying to achieve goals

such as increasing profit, market share and sales volume by varying the elements of

the marketing mix: price, product, distribution and promotion. Competition leads to

innovation. It helps a business to improve by producing new products or services in

order to achieve a higher level of results than other competitors do.

b. One of the major differences between a public company limited by shares and

a proprietary company is that a public company must have at least three directors

and at least one company secretary while proprietary companies must have at least

one director and need not have a company secretary. Besides, public companies

must hold an AGM once a year no later than five months after the end of the

company’s financial year and a proprietary company has no obligation to hold an

AGM unless the constitution requires it. Lastly, proprietary companies are restricted

to having no more than 50 non-employee shareholders. Proprietary companies are

also divided into large and small companies. Companies that are not proprietary

companies are all limited or public companies. Public companies can be classified

into the following types: limited by shares, limited by guarantee, unlimited with

shares or a no liability company. A company limited by shares is “a company

formed on the principle of having the liability of members limited to the amount (if

any) unpaid on the shares respectively held by them”.

c. From the information given in the balance sheet, the $125000 is not how much

the business worth. It is the owner’s equity of the business. Given that the business

has $200000 of assets and $75000 of liabilities, so $200000 - $75000 = $125000. So

from the accounting equation, $125000 represents the owner’s equity of the

business.

Other than that, he should ask the seller about the investments by the owner

because these investments may increase the owner’s equity. Besides, income is also

the gross increase in owner’s equity resulting from business activities entered into

for the purpose of earning profit. Other than the causes that increase the owner’s

equity, he should also ask about the causes that will decrease the owner’s equity.

One of the causes is the drawings. An owner may withdraw cash or other assets for

personal use. These withdrawals could be recorded as a direct decrease of owner’s

equity. Nevertheless, it is generally considered preferable to use a separate

classification called drawings to determine the total withdrawals for each accounting

period. Lastly, expenses also decrease owner’s equity. Expenses are the cost of

assets consumed or services used in the process of earning income. They are

decreases in owner’s equity that result from operating the business. Expenses

represent the actual or expected cash outflow.

In conclusion, owner’s equity is increased by an owner’s investments and by

income from business operations whereas owner’s equity is decreased by drawings

and expenses. These are the other important information that should be clearly

understood before any purchasing of a business made.

d. Should or should not?

Question 2

a)

1. Revenue

2014 2013 2012 2011 2010$115750 $117564 $88263 $93575 $ 85651135.14% 137.26% 103.05% 109.25% 100.00%

2. Profit before tax and finance costs

2014 2013 2012 2011 2010$30032 $33785 $23079 $24592 $24843

120.89% 135.99% 92.90% 98.99% 100.00%

3. Profit after tax

2014 2013 2012 2011 2010$18222 $20885 $14860 $15660 $14636

124.50% 142.70% 101.53% 107.00% 100.00%

b)

1. Return on assets = Profit

Average assets

= $ 18222

($161985+$148168)/2

= 11.8%

2. Inventory turnover = Cost of sales

Average inventory

= $ 60750

($24625+$18454)/2

= 2.82 times

Average days to sell the inventory =3652.82

= 129 days

3. Current ratio = Current assetsCurrent liabilities

= $71333$54050

= 1.32 times

4. Interest coverage ratio = Profit before income taxes∧interest ex pense

Interest expense

= $30032$8500

= 3.53 times

5. Profit margin = ProfitNet sales

= $18222$115750

= 15.7%

6. Asset turnover = Net sales

Average assets

= $115750

($161985+$148168)/2

= 0.75 times

7. Receivables turnover = Net credit sales

Average receivables

= $115750

($21750+$23675)/2

= 5.1 times

Average days to collect money from customers = 3655.1

= 72 days

8. Creditors turnover = Net credit purchaseAverage trade creditors

= $ 113825

($28450+$22642)/2

= 4.46 times

Average days to pay its supplier = 3654.46

= 82 days

c)

Liquidity ratios measure the short-term ability of the entity to pay its maturing

obligations and to meet unexpected needs for cash. How quickly an entity can convert its

current assets into cash is a measure of liquidity. Current ratio, receivables turnover,

inventory turnover and creditors turnover has been calculated from the information given.

Current ratio is a liquidity ratio that measures a company’s ability to pay short-term

obligations. Vintage Wines Ltd has a current ratio of 1.32:1 means that for every dollar of

current liabilities, it has $1.32 of current assets. The ratio used to assess the liquidity of the

receivables is receivable turnover. It measures the number of times, on average;

receivables are collected during the period. Vintage Wines Ltd has a receivable turnover

of 5.1; the average day for the company to collect money from its customers is 72 days.

Inventory turnover measures the number of times on average the inventory is sold during

the period. It provides insight into the liquidity of the inventory. Vintage Wines Ltd has an

inventory turnover of 2.82, the average days to sell inventory is 129 days. So, the cash or

operating cycle is therefore 201 days. It means from the date an item of inventory arrives

in the warehouse, it takes an average of 201 days to convert the inventory into cash.

Creditors turnover measures the time it takes to make payment following the credit

purchase of inventory. Vintage Wines Ltd has a creditors turnover of 4.46, the average

days to pay back its supplier is 82 days.

Solvency ratios measure the ability of an entity to survive over a long period of time.

Vintage Wines Ltd has showed the interest coverage ratio. Interest coverage ratio provides

an indication of the entity’s ability to meet interest payments as they full due. It is

calculated by dividing profit before interest expense and income taxes by interest expense.

Vintage Wines Ltd’s profit before income taxes and interest expense covers its interest

expense 3.53 times.

Profitability ratios are a class of financial metrics that are used to assess a business’s

ability to generate earnings as compared to its expenses and other relevant costs incurred

during a specific period of time. Having a higher value relative to a competitor’s ratio or

the same ratio from a previous period is indicative that the company is doing well. Asset

turnover, profit margin and return on assets are calculated from the information given.

Return on assets (ROA) is a measure of management’s efficiency in managing the assets

of the business. It shows the entity every $1 of assets, how much is its return. Vintage

Wines Ltd’s return on assets is 11.8%. For every dollar carrying amount of Vintage Wines

Ltd’s assets, the company generated 11.8 cents of profit. Profit margin is a measure of the

percentage of each dollar of sales that results in profit. Its profit margin is 15.7%. Vintage

Wines Ltd generated 15.7 cents of profit for every dollar of net sales. Asset turnover

measures how efficiently a company uses its assets to generate sales. It shows the dollars

of sales produced by each dollar invested in assets. Asset turnover shows that Vintage

Wines Ltd generated sales of $0.75 for each dollar it had invested in assets. It means that

the entity is not efficiently using the assets to generate profit.

Question 3

a. This is not a business transaction. It has not resulted in an exchange of goods

occurring between the business entity and an outside entity. It is just a negotiation

at this stage. If the entity decides to go ahead with the lease, then the correct entry

will be to record the asset and the associated present value of the future lease

payments.

b. This is a business transaction. It has resulted in an exchange of goods occurring

between the business entity and outside entity. The sole trader will receive the

stock which will be recorded as an asset and also will record the purchase as

reduction in cash at bank.

c. This is not a business transaction. It is just a contract at this stage and has not

resulted in an exchange of goods occurring between the business entity and an

outside entity. Once the director commences employment and wages expense has

been incurred or paid then a business transaction can be recorded.

d. This is a business transaction. There is an exchange of goods between the business

entity and the internet provider. The business entity has consumed the internet and

has now incurred a debt associated with this usage.

e. This is a business transaction. There is an exchange of goods between the business

entity and the internet service provider. In this transaction the entity is paying the

provider the outstanding debt.

f. This is a business transaction. This event results in a change in the entity’s

financial position as the withdrawal of office equipment reduces the entity’s

equity. It also reduces the assets of the entity.

g. This is not a business transaction. It is a negotiation between two parties. It will

remain unrecorded by the entity until the discount has actually been applied to

goods or services.

h. This is not a business transaction because the personal funds are used by the

business partner. It does not impact on the entity’s accounting equation or financial

position.

Question 4

a.Schedule of Receipts from Debtors

Quarter1 2 3 4

Accounts receivable, 31/12/11 $150000First quarter ($600000) 420000 $180000Second quarter ($700000) 490000 $210000Third quarter ($800000) 560000 $240000Fourth quarter ($850000) 595000 Total collections $570000 $670000 $770000 $835000

b.Database LtdCash Budget

for the year ending 31 December 2012

Quarter1 2 3 4

Beginning cash balance $ 18260 $ -27240 $ 2260 $ 151760Add: Receipts Receipts from debtors 570000 670000 770000 835000Total available cash 588260 642760 772260 986760

Less: Disbursements Purchases 385000 410000 390000 420000 Marketing and administration expense 150000 150000 150000 175910 Occupancy expense 68000 68000 68000 68000 Depreciation expense 12500 12500 12500 12500 Total disbursements 615500 640500 620500 676410

Ending cash balance $ -27240 $ 2260 $ 151760 $ 310350

Question 5

a.

Activity Overhead Numbers of drivers Cost per driversOrders processing $200000 450 orders $444.44 per orderReturns processing 50000 100 returns $500 per returnDelivery 100000 700 deliveries $142.86 per deliveryRush orders 70000 50 rush orders $1400 per rush orderSales visits 20000 100 visits $200 per visit

b.

Supermarket customer 1

Orders processing 300 @ $444.44 $133332Returns processing 50 @ $500 $25000Delivery 400 @ $142.86 $57144Rush orders 10 @ $1400 $14000Sales visits 50 @ $200 $10000

Total Cost: $239476


Orders processing 100 @ $444.44 $44444Returns processing 25@ $500 $12500Delivery 200 @ $142.86 $28572Rush orders 20 @ $1400 $28000Sales visits 25 @ $200 $5000

Total Cost: $118516


Orders processing 50 @ $444.44 $22222Returns processing 25 @ $500 $12500Delivery 100 @ $142.86 $14286Rush orders 20 @ $1400 $28000Sales visits 25 @ $200 $5000

Total Cost: $82008

c. Customer 1

$300000 - $ 239476 = $60524

Customer 2

$150000 - $118516 = $31484

Customer 3

$200000 - $82008 = $117992

d. advise the management of the Pua cheesecake company as to whether any changes should be made in its relationships with customers

Documents

Accounting