Accounting-Intro (Bookkeeping) - UVK · PDF fileThe ebook Accounting-Intro is ... are relevant to determine income taxes and deferred tax. ... We write the bookkeeping entries as debit

1

Carsten Berkau / Keabetswe Sylvia Lecholo

Accounting-Intro (Bookkeeping)

Berkau, C./ Lecholo, K.S.: Accounting-Intro (eBook) Release: 1.0.069

2 © UVK Verlagsgesellschaft mbH, Konstanz und München 2013

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Contents

(0) Introduction

(1) Conventions

Part (A): 1st Steps in Accounting

(2) Cafeteria Example for the Balance Sheet Preparation / Accounting Equation

(3) Example of McDonald’s Corporation

(4) Legal Aspects about Accounting

(5) The Excel-Accountant

Part (B): Easy Bookkeeping

(6) Introduction to Statements of Financial Position and Statements of Comprehensive Income

(7) Activities on the Asset Side

(8) Activities on both Sides of the Statement of Financial Position

(9) Profit and Loss Activities

(10) Introduction to T-Accounts

(11) T-Accounts for Profit and Loss

(12) Introduction to Bookkeeping Entries

(13) Special Asset Accounts

(14) Special Equity Accounts

(15) Special Liability Accounts

(16) Reconciliation Accounts

(17) Depreciation

(18) Further Expenses

(19) Accounting for Labour

(20) Trading Business: Purchases and Returns

(21) Trading Business: Purchases with Consideration of VAT

(22) Trading Business: Sales

(23) Activities in a Trading Business: Sales with consideration of VAT

(24) Privately Owned Businesses: Drawings

(25) Production Firms

(26) Preparing the Trial Balance

(27) Tax Calculation, Profit Appropriation, and Introduction to Statements of Changes in Equity

(28) Multi Period Bookkeeping

(29) Introduction to Statements of Cash Flows

Part (C): Advanced Bookkeeping

(30) Establishing a Business

(31) Liquidations

(32) Disposals

(33) Discounts

(34) Perpetual Inventory System



(35) Inventory Valuation / Manufacturing Accounting

(36) Cost Formulas

(37) Income Statement along the Cost of Sales Format

(38) Cash Book – Reconciliation to the Bank Statement

(39) Petty Cash Book

(40) Books of Original Entry

( ) Abbreviations



(0) Introduction

This ebook Accounting-Intro is a preparatory course that is linked directly to the text book Bilanzen (fi-

nancial accounting). We write this ebook Accounting-Intro to help students to learn making bookkeeping

entries and to achieve a basic knowledge of how to prepare financial statements. We see accounting as a

means to control the business and regard it as a business language and herewith offer you materials to

learn the basic vocabulary and grammar by this ebook Accounting-Intro.

Our accounting teaching experience tells us that most mistakes made by students in financial accounting

examinations are caused by weak knowledge of bookkeeping. German students often struggle to switch

from the German way of keeping bookkeeping records to the international one although the international

one is easier. Per syllabus regulations German bookkeeping courses are accepted as basis for international

financial accounting courses in most universities in Germany. For that reason we strongly recommend to

study this ebook Accounting-Intro as a preparation for international accounting that is focused on IFRSs

or US-GAAPs. You are going to find it easy to make bookkeeping entries along the international method

and might be relieved that accounting is easier as you might have thought before.

The best method to learn accounting is to practice as much as possible. If you visit our website on

www.uvk-lucius.de/Bilanzen you’ll find a whole lot of exercises and examination tasks including solutions

online that will help you.

This ebook Accounting-Intro is based on a lot of very easy case studies. We do not really explain account-

ing by rules or directions but show you how it is done. You can read additional accounting books or at-

tend university classes parallel to this ebook Accounting-Intro. By this introduction you are going to feel

like someone who observes a lot of accounting work being done in different companies. You’ll find a lot

of bookkeeping entries and exhibits that contain accounts and financial statements. We keep all examples

as easy as possible. Note, the examples need to be studied properly! Do not read the book without under-

standing the examples. In particular, do not skip exhibits. Rather study the examples than read the text if

you want to go quickly through the book. Try to make the bookkeeping entries on your own and draw the

accounts yourself. Make use of the exercises provided online! Do not read this ebook Accounting-Intro

just on a train or a bus ride. Sit down and draw accounts and use your calculator to compute the solutions.

From the point of view of the learning method we recommend to not study a variety of different account-

ing methods or different ways of how to write bookkeeping entries. In case you are used to another for-

mat just stick to! Do not switch between different methods of accounting when still learning accounting.

Choose one way and stay with it. Later you can find out what works best for you. We only will explain one

format for bookkeeping entries and one type of accounts: T-accounts which we have seen is the best way

for accounting students to catch accounting. They are closely linked to the balance sheet (now: statement

of financial position). Here, we draw statements of financial position as T-tables also to provide similarity.

The formats presented are not exactly the ones as many companies make use of but they are in accord-

ance with the IFRSs presentation regulations as laid out by IAS 1.

We further avoid referring to the standards IFRSs or to the national law like Handelsgesetzbuch, Aktieng-

esetz, etc. as much as we can. We do not want to mix accounting methods with law at this early stage. Our

aim is to provide a sound knowledge of accounting to help you to understand Bilanzen. Only later you

should combine this knowledge with accounting standards and law texts.

Many classes in Germany and in foreign countries are taught in English as classroom language. It makes

sense to learn international accounting in English as it keeps you away from switching between your



mother tongue and English at all times. We recommend learning all technical terms just in English. Do

not translate them back. In the text book Bilanzen that comes in German you’ll find the English technical

terms in brackets behind most of the German technical terms also. There is a vocabulary list for technical

accounting terms online. Furthermore, summaries of the chapters of text book Bilanzen are online availa-

ble as an English ebook, too.

We are writing this ebook Accounting-Intro as an international team of a native English speaking ac-

countant from South Africa and a German accounting professor with international teaching experience.

The ebook Accounting-Intro is available on electronic devices in order to meet the actual demands of

students to learn with their tablet computers or smart phones. In case you have comments and advices

you think we should consider for the next edition, pls., contact us at: [email protected] and:

[email protected].

We write this book in the “we”-format. We want you to feel advised by us and give you hints how to do

bookkeeping. We see ourselves as your instructors. The book is no academic book as bookkeeping is no

scientific subject and we don’t use academic writing therefore. It is intended to provide helpful materials

for studying accounting. At some times you’ll find useful hints in brackets always starting by “(Note, …)”.

These hints should help you getting closer to the subject accounting.

It is our aim to motivate you to study accounting by making financial accounting (Bilanzen) easier by this

ebook. We are sure after working through these materials you cannot fail an accounting exam!

Enjoy accounting!

Cape Town, in September 2013

Keabetswe Lecholo and

Prof. Dr. Carsten Berkau



(1) Conventions

In this ebook Accounting-Intro Accounting-Intro some conventions are made to simplify the text. We

want to focus on accounting principles not on single case studies. The conventions are about legal forms,

tax rates, formats, etc. They also apply for all examples and exercises you’ll find online on the UVK-

Lucius.de-website.

Companies:

In this ebook Accounting-Intro the legal form of companies doesn’t count much. Legal forms are coun-

try-wise different and are not subject to accounting. However, in contrast to IFRSs we do not refer to

companies as “entity”. The expression is legally motivated and doesn’t help you to understand accounting

better. When you take a look at one of the standards and read about entity just remember they are talking

about a company. The standards do so to avoid any aspects linked to national legal form of companies.

Even the expression company means in some countries some criteria have to be met to call it company.

Here, we use the technical term “the business” or “company”. We do not refer to any legal form.

Financial Statements for Taxation:

It is not intended to deepen your knowledge about tax statements by this course. However, tax statements

are relevant to determine income taxes and deferred tax. To keep examples simple the total income tax

rate here is always 30 %.

Quotation of Law Texts:

Law texts are quoted like § 266 II HGB or IAS 1.68. We use the original law name and do not translate.

So, the HGB is the German Civic Code, called in German: Handelsgesetzbuch (HGB).

Bookkeeping Entries:

We write the bookkeeping entries as debit entries and credit entries. DR stands for debit recorded and CR

for credit recorded. A bookkeeping entry shows the single entries by lines.

See, e.g. the acquisition of a motor vehicle:

DR Motor Vehicle .................... 20,000.00 EUR

DR VAT .............................. 4,000.00 EUR

CR Cash/Bank ........................ 24,000.00 EUR

When writing bookkeeping entries the names of the accounts always are written with capital letters. The

Motor Vehicle account is written by capital M and capital V.

If you are German pls. avoid the expression “to” as a kind of translation of the German “an”. There is no

direction of bookkeeping entries in mind.



Sequence of Bookkeeping Entries:

The sequence of bookkeeping entries is along the logical procedure prescribed by the examples. Some-

times this is not exactly the timely order. If there is an amount for an expense and the expense is paid for

the next accounting period too, the bookkeeping entries at the beginning of the year and at the year end

will be displayed together for one accounting period. It can happen that this looks like there was a bank

overdraft during the accounting period which we will ignore and won’t pay an interest thereon. If there is

the acquisition of assets and later on the assets are written off by depreciation we put these bookkeeping

entries next to each other although the acquisition might take place on 1.01.20XX and depreciation is

posted on 31.12.20XX.

Presentation of Accounts:

Accounts are displayed by the easiest possible format. See the accounts for the above mentioned

bookkeeping entry about the car:

D C D C

(1) 20,000.00 (1) 4,000.00

D C

(1) 24,000.00

Cash/Bank

P,P,E VAT

Exhibit 1.1: Accounts

In exhibits the accounts are often displayed by an abbreviation in order to provide a good overview. In-

stead of “Property, Plant, and Equipment” we write “P, P, E”. Names of accounts only start by a capital

letter then the remaining name is written in small letters. E.g.: Motor vehicle as the header of an account

in exhibits. Look at chapter 10 of this ebook Accounting-Intro for further formal aspects.

Currency Unit:

For all examples the currency unit will be the Euro (EUR). In case the EUR is multiplied by 1,000 it is

called tEUR.

Value Added Tax:

There is only one VAT account. (not like in Germany where input-VAT and output-VAT is kept separate

from each other). Make debit and credit entries in that single VAT account. The VAT rate for all case

studies and examples is 20 %.



Trade Tax:

The German trade tax is based on the location of the business. Different cities get different tax rates. The

trade tax in Osnabrück is 14.35 %. SUNNY AG case study in the text book Bilanzen applies that tax rate.

Corporate Tax:

The German corporate tax rate is 15 % and is based on the pre-tax profit of the company.

Total Income Tax:

All tasks and exams are based on a total income tax rate 30 %.

Tax on Capital Returns:

The tax on capital returns belongs to income taxes. The tax rate of tax on capital returns is 25 % based on

the capital return. Note, the tax on capital returns is no income tax for the company although it is paid by

the company on behalf of the shareholders.

German Reunion Tax:

The German reunion tax rate is 5.5 % based on the income taxes.

10-20-30 Rule:

In most examples the 10-20-30 rules applies. As long as not mentioned otherwise the interest rate is 10 %,

the VAT rate is 20 %, and the total income tax rate is 30 %.

Case Studies:

The case studies provided by this ebook Accounting-Intro are as easy as possible to keep the stories sim-

ple. Sometimes you’ll get the impression the examples are too easy or not realistic but we only focus on

bookkeeping not on good story telling.

Level of Precision:

The level of precision is 2 digits after the decimal point. Results from workings can be rounded also. You

can use rounded figures for further calculations. Sometimes we calculate by MS Excel; then the calculation

in the background is better than the one displayed and visible to you.

(Note, rounding is a minor problem for you.)



Calculations:

Calculations in the text will show the units only together with the results. E.g.: 10 +20.50 = 30.50 EUR.

Furthermore, the calculations are without any digits after the decimal point in case they are zero. The final

result is printed bold and comes always with two digits after the decimal point and the currency.

Payment Terms:

Payments for all kind of taxes and for dividends are due only in the next accounting period.

Deferred Payment of Income Taxes:

There are no deferred payments.

Precision of Depreciation:

Depreciation is accurate to the month. A month will count for depreciation if the asset is in possession of

the company for the major duration thereof. If the asset is bought on 6.01.20X1 the January will be rele-

vant for depreciation. If the asset is sold on 28.12.20X1 the December will be relevant for depreciation. If

the asset is sold on 5.12.20X1 December won’t count for depreciation.

Length of a Month:

1 month = 21.5 days = 4.3 weeks.

Cash Flow Separation:

Interest payments are always considered being a cash flow from financing activities.

Names:

We always use names for companies and write them by capital letters. E.g. SCHULZE-

BRAMMELKAMP Ltd. There are no links to actual existing persons or companies intended. In case

there are similarities it will be a coincident. In case we refer to actually existing firms we make that clear by

the text. You can search for the examples by your computer in case we refer to it.

Legal Forms of a Business:

For this ebook Accounting-Intro we normally use Ltd., (Pty) Ltd., AG, GmbH, Corp. to indicate that the

companies are limited companies. If nothing has been mentioned by the company’s name you can assume

the company is a privately owned business, like SANDPIPER BOOKS for a privately owned bookstore.



Writing “Accounting”:

We do not write accounting by capital letters as many other text books do. We see the subject being im-

portant enough to not highlight its name extra.

Notes:

In the ebook Accounting-Intro we sometimes give you some notes in brackets. They always start by

(Note, …) These are some additional hints to better understand our examples or some remarks why we

do something the way we do it. You do not have to learn theses “notes”.

Definitions:

We write some definitions in bold and copy them to the end of each chapter to make learning accounting

easier for you.

Learning Objectives and Summaries:

Every chapter starts by the learning objectives and ends by a summary.

Language:

We write this ebook Accounting-Intro in South African English.



Part (A):

1st STEPS IN ACCOUNTING

Learning Objectives:

By the following chapters we provide a short overview about accounting. We do not want to teach ac-

counting at this stage yet but we’ll give you enough information in order to that you can understand what

bookkeeping and accounting is about. Doing accounting only starts by part (B).

(2) Cafeteria Example for the Balance Sheet Preparation

Learning Objective:

In this chapter you’ll achieve a basic understanding for financial statements (balance sheet and income

statement) and learn the accounting equation.

In order to learn about the financial statements let’s observe an easy example of student Ingo Kensington:

He wants to establish his own business in the university. The concept for his company is a campus cafete-

ria.

Ingo Kensington doesn’t have enough money for financing the cafeteria alone. For that reason he asks his

classmates to contribute to the cafeteria business. He manages to find 20 fellow learners to put 30.00 EUR

into the business each. The students‘ funds add up to 20 x 30 = 600.00 EUR. This amount will be called

the owners’ capital. In case we take a look at the statement of financial position (balance sheet), the stu-

dents have to put the amount to its item issued capital.

Capital is the amount of funds that is assigned to the owners of a business. Here, the money put in

by the founders is the contribution to the business. The investors are to be seen as the owners of the cafe-

teria. The expression „issued capital” results from companies based on shares. In case of the cafeteria the

total capital will be at the amount of 600.00 EUR as invested by the students.

The amount of 600.00 EUR is an asset also and will be visible in the cafeteria’s Cash account. It is to be

displayed as the cash/bank item. The money is part of the assets. An asset is any item which is part of

the company’s resources. Most of the resources are physical but they can also be intangibles like rights.

Here, the money is cash and consists of EUR-bills and coins probably.

The next step for Ingo Kensington and his fellows is to get hold of more funds to finance the assets used

for the cafeteria. They want to spend money on a refrigerator, plates, and cutlery, and they have to pur-

chase bread, butter, and chocolate cream, etc. They realise that the money they contributed would not be

enough. They actually could find further students contributing but they do not want so many people in-

volved in the business. Neither do they want to contribute more money themselves. They decide to lend

money from the local bank.

KENSINGTON and fellows set up a business plan and pay the local bank a visit. The business plan

explains the business concept and in particular contains a calculation how the cafeteria is to be-

come a successful company and how will be financed.



It is assumed that the house bank likes the business concept and lends the cafeteria business money which

amounts to 400.00 EUR. The students get the money transferred from the bank and put it into the Cash

account. Cash now contains 600 + 400 = 1,000.00 EUR. We say the balancing figure of the Cash account

is 1,000.00 EUR.

The cafeteria’s situation can be described by the accounting equation. The accounting equation is the

basis of accounting. It states that the total of assets equals the total of capital and the total of lia-

bilities. The accounting equation is:

∑ ∑ ∑= = =

+=

n

i

m

j

l

k

kji LiabilityCapitalAsset1 1 1

(with: i = index for assets, i = 1 … n, j = index for capital, j = 1 …m, k = index for liabilities, k = 1 … l)

We rather write:

∑Assets = ∑Capital + ∑Liabilities

Here: 1,000.00 EUR = 600.00 EUR + 400.00 EUR

The accounting equation can be seen by the balance sheet also. The total of assets is on the left hand side

and capital and liabilities are listed on the right hand side. Observe the KENSINGTON CAFETERIA’s

balance sheet below.

A C, L

Non-current assets [EUR] Owners' capital [EUR]

P, P, E Issued capital 600.00

Intangibles Reserves

Financial assets R/E

Current assets Liabilities

Inventory Interest bear liab 400.00

A/R A/P

Prepaid expenses Provisions

Cash/Bank 1,000.00 Tax liabilities

1,000.00 1,000.00

Kensington Cafeteria's

STATEMENT of FINANCIAL POSITION

as at 31.12.20X0

Exhibit 2.1: KENSINGTON CAFETERIA’s statement of financial position (balance sheet)

(Note, only the items not greyed out are relevant for now.)

In exhibit 2.1 the assets contain cash only. The amount of 1,000.00 EUR is displayed as the cash/bank

item on the asset side (A). The capital is named owners‘ capital and contains 600.00 EUR. The bank loan

is displayed as the item interest bearing liability and amounts to 400.00 EUR. They have to pay an interest



on the loan. A liability represents funds coming from other parties than the owners of a business.

Typically, long-term liabilities are bank loans or bonds. Capital and liabilities are displayed on the capital

and liability side (C, L).

The accounting equation is fulfilled as long as the totals of both sides of the balance sheet equal. It means

that the funds on the capital and liability side have the same amount as the resources including cash/bank.

From now onwards the balance sheet will be used to display the fulfilment of the accounting equation.

The next step for Ingo Kensington and his fellow students is to invest their cash into equipment. They

spend 500.00 EUR on a refrigerator. The fridge is an asset and appears on the statement of financial posi-

tion. The item is called property, plant, and equipment (P, P, E). After spending the money on the fridge

the balance sheet for KENSINGTON CAFETERIA looks as below:

A C, L


P, P, E 500.00 Issued capital 600.00





A/R A/P


Cash/Bank 500.00 Tax liabilities

1,000.00 1,000.00



as at 31.12.20X0


As it can be observed by exhibit 2.2 the amount of cash has been reduced to 500.00 EUR by the spending.

There is a 500.00 EUR amount representing the refrigerator as part of the property, plant, and equipment

items. The accounting equation is still fulfilled as the total of assets now is 500 + 500 = 1,000.00 EUR

and the total of capital and liabilities is 600 + 400 = 1,000.00 EUR.

KENSINGTON CAFETERIA sells a roll at 0.75 EUR each. The materials are roll at 0.20 EUR/p, butter

at 2.00 EUR which lasts for 50 rolls (0.04 EUR/roll), and chocolate cream at 0.06 EUR/roll. Additionally,

to the materials the cafeteria business has to pay for labour. Labour contains the salary for 2 students but-

tering the rolls who earn 4.00 EUR/break. They only sell the sandwiches during the breaks. There are 2

breaks per day. Accordingly, there is 2 x 2 x 4 = 16.00 EUR/d direct labour cost for buttering the rolls.

The students prepare 100 rolls per day. For buying groceries one student is paid 8.00 EUR/day. Finally,

the cafeteria’s manager earns 120.00 EUR/month.

Rent for the cafeteria room is 100.00 EUR/month and paid to the university.

During the year the cafeteria is busy on 200 school days only. The exhibit below displays the concept they

earn money by the income statement for KENSINGTON CAFETERIA. Therein, the amount for mate-



rials is (0.20 + 0.04 + 0.06) x 100 x 200 = 6,000.00 EUR/y. Labour amounts to 16 x 200 + 8 x 200 + 120

x 12 = 6,240.00 EUR/y. Other expenses are for rent. It is 100 x 12 = 1,200.00 EUR/y. The last item is

for interest which is 15% based on the loan’s amount: 15% x 400 = 60.00 EUR/y.

For this chapter income taxes will be ignored.

[EUR]

Revenue 15,000.00

Other income

15,000.00

Materials 6,000.00

Labour 6,240.00

Depreciation

Other expenses 1,200.00

Earnings before int and taxes (EBIT) 1,560.00

Interest 60.00

Earnings before taxes (EBT) 1,500.00

Income tax expenses 0.00

Deferred taxes

Earnings after taxes (EAT) 1,500.00


STATEMENT of COMPREHENSIVE INCOME

for the year ended 31.12.20X0

Exhibit 2.3: KENSINGTON CAFETERIA’s statement of comprehensive income

As it can be seen from the income statement the cafeteria earns a profit of 1,500.00 EUR per year.

After making the profit the balance sheet looks as displayed by exhibit 2.4:

A C, L




Financial assets R/E 1,500.00



A/R A/P



2,500.00 2,500.00



as at 31.12.20X0




The profit made has been transferred to equity. Namely it is in the retained earnings (R/E) item of the

equity section of the statement of financial position. As there was no income tax to be considered the item

for tax liabilities is still blank.

We assume all business activities are on cash. So, cash increases by 1,500.00 EUR.

Observe that the accounting equation is still fulfilled. The total of assets equals the total of capital and

liabilities.


Now: 500.00 EUR + 2,000.00 EUR = 2,100.00 EUR + 400.00 EUR

The next step is to provide the owners a share of the profit. They are entitled to receive a share of the

profit according to the portion they own from the business. The company decides that half of the profit is

to be given to the proprietors and the other half should remain in the business for reinvestments. The

transfer of half of the amount of the profit after taxes to the owners can only be made after the financial

statements have been prepared, audited, and the distribution decision has been made. For that reason the

amount of 1,500/2 = 750.00 EUR is put to liabilities. These liabilities are short-term liabilities and called

payables. It is common practice for accountants to use the abbreviation A/R (accounts payables) for that

item. The other half of the profit is to be put to equity permanently. In case a company keeps the profit

they will put it into reserves. Reserves are part of the owners’ equity.

After the appropriation of the profit KENSINGTON CAFETERIA’s statement of financial position

looks as below:

A C, L



Intangibles Reserves 750.00

Financial assets R/E 0.00



A/R A/P 750.00



2,500.00 2,500.00



as at 31.12.20X0


Even now, the accounting equation is still fulfilled.




Now: 500.00 EUR + 2,000.00 EUR = 1,350.00 EUR + 1.150.00 EUR

We assume at the end of the first year KENSINGTON CAFETERIA pays a share of the profit made to

the owners. Then, every single owner gets a share of 1/20 of the distributed profit. The amount per own-

er is 750/20 = 37.50 EUR/owner.

Let’s observe the balance sheet after the payments:

A C, L



Intangibles Reserves 750.00

Financial assets R/E 0.00



A/R A/P 0.00



1,750.00 1,750.00



as at 31.12.20X0


The accounting equation is still fulfilled. Observe below:


Now: 500.00 EUR + 1,250.00 EUR = 1,350.00 EUR + 400.00 EUR

The total of equity often is seen as value of a business. The idea is that in case all assets are sold at the

amount as displayed on the face of the balance sheet and all liabilities are paid-off the remaining amount

will belong to the owners.

We now assume KENSINGTON CAFETERIA is liquidated after one year already. The fridge is sold for

500.00 EUR as it is its carrying amount. The carrying amount of an asset is the amount recorded by

accounting. The amount of cash after the disposal of the refrigerator is 1,250 + 500 = 1,750.00 EUR.

We further assume that cash is used to pay-off the debts. Here the amount of long-term liabilities results

from the bank loan. After being out of debts by paying the amount to the house bank there is still 1,750 –

400 = 1,350.00 EUR left. This amount equals equity: 600 + 750 = 1,350.00 EUR.

Accordingly, we can say KENSINGTON CAFETERIA’s value is 1,350.00 EUR after the first year. Con-

sider the reserves being part of equity and increasing the owners’ fortune. KENSINGTON



CAFETERIA’s owners hold an equal share of the company. For one single owner the share is worth

1,350/20 = 67.50 EUR.

We have to consider every owner having received a dividend of 750/20 = 37.50 EUR already. So every

owner has 67.50 + 37.50 = 105.00 EUR.

The same amount can be derived from the statement of financial position and the income statement. The

contribution of owners was 600 and the profit earned was 1,500. Accordingly, the owners’ share is (600 +

1,500)/20 = 105.00 EUR/owner.

Summary:

The balance sheet and the income statement can be used to describe the situation of a company. The bal-

ance sheet gives an overview about the assets and the financing of the business. The balance sheet repre-

sents the accounting equation. ∑Assets = ∑Capital + ∑Liabilities. The income statement displays how the

company earns its money. In the following chapter the financial statements are seen as a reporting instru-

ment which is used to inform the owners and the creditors about the situation of the company.

Working definitions:

Asset: An asset is any item which is part of the company’s resources.

Capital: Capital is the amount of funds that is assigned to the owners of a business.

Liabilities: A liability represents funds coming from other parties than the owners of a business

Business plan: The business plan explains the business concept and in particular contains a calculation

how the cafeteria is to become a successful company and how it will be financed.

Accounting equation: The accounting equation is the basis of accounting. It states that the total of as-

sets equals the total of capital and the total of liabilities.

Statement of financial position (balance sheet): Financial statement that compares the assets of a

business to the equity and liabilities at a special time. It is linked to the accounting equation. Normally, the

balance sheet is provided at the balance sheet date. In this book the balance sheet date always is 31.12. In

real companies it can be another day of the year.

Statement of comprehensive income (income statement): Comparison of revenue and expenses of a

business for an accounting period.

Carrying amount: The carrying amount of an asset is the amount recorded by accounting.



(3) Example of McDonald’s Corporation

Learning Objective:

We want to get the idea of accounting across from the point of view of investors. This should make ac-

counting much closer to someone studying accounting because it is close to his/her own involvement to

companies that are based on shares and publically listed.

McDonald’s Corp. is an American company based on shares. The concept of the company is similar to

KENSINGTON CAFETERIA as explained by the previous chapter.

The McDonald’s story is about the founders of the company who noticed a restaurant producing burgers

in a very short time (fast food) and to sell them successfully at a low price of $0.15. They bought the res-

taurant in Illinois and sold the burgers under the name McDonald’s and through a restaurant with the

golden arcs which is still the brand symbol for McDonald’s Corporation’s restaurants.

Today, McDonald’s Corporation is a company earning a revenue of $27,567 million and $8,964 million

thereof earned by franchising in 2012. McDonald’s Corporation is based on 1,660.6 million common

shares. Take a look at figures of McDonald’s Corporation copied from the annual report in exhibit 3.1:

McDonald's 6-year Summary

Dollars in millions, except per share data 2012 2011 2010 2009 2008 2007

Company-operated sales 18,603$ 18,293 16,233 15,459 16,561 16,611

Franchised revenues 8,964$ 8,713 7,842 7,286 6,961 6,176

Total revenues 27,567$ 27,006 24,075 22,745 23,522 22,787

Operating income 8,605$ 8,530 7,473 6,841 -1

6,443 3,879 -4

Income from continuing operations 5,465$ 5,503 4,946 4,551 (1,2)

4,313 -3

2,335 (4,5)

Net income 5,465$ 5,503 4,946 4,551 (1,2)

4,313 -3

2,395 (4,5,6)

Cash provided by operations 6,966$ 7,150 6,342 5,751 5,917 4,876

Cash used for investing activities 3,167$ 2,571 2,056 1,655 1,625 1,150

Capital expenditures 3,049$ 2,730 2,135 1,952 2,136 1,947

Cash used for financing activities 3,850$ 4,533 3,729 4,421 4,115 3,996

Treasury stock purchases(7) 2,605$ 3,373 2,648 2,854 3,981 3,949

Common stock cash dividends 2,897$ 2,610 2,408 2,235 1,823 1,766

Financial position at year end:

Total assets 35,386$ 32,990 31,975 30,225 28,462 29,392

Total debt 13,633$ 12,500 11,505 10,578 10,218 9,301

Total shareholders' equity 15,294$ 14,390 14,634 14,034 13,383 15,280

Shares outstanding in millions 1,003 1,021 1,054 1,077 1,115 1,165

Per common share:

Income from continuing operations-diluted 5.36$ 5.27 4.58 4.11 (1,2) 3.76 -3 1.93 (4,5)

Earnings-diluted 5.36$ 5.27 4.58 4.11 (1,2) 3.76 -3 1.98 (4,5,6)

Dividends declared 2.87$ 2.53 2.26 2.05 1.63 1.50

Market price at year end 88.21$ 100.33 76.76 62.44 62.19 58.91

Company-operated restaurants 6,598 6,435 6,399 6,262 6,502 6,906

Franchised restaurants 27,882 27,075 26,338 26,216 25,465 24,471

Total Systemwide restaurants 34,480 33,510 32,737 32,478 31,967 31,377

Franchised sales(8) 69,687$ 67,648 61,147 56,928 54,132 46,943

(1) Includes pretax income due to Impairment and other charges (credits), net of $61.1 million ($91.4 million after tax or $0.08 per share) primarily related to the resolution of certain liabilities retained in

connection with the 2007 Latin America developmental license transaction.

(2) Includes income of $58.8 million ($0.05 per share) for gain on sale of investment related to the sale of the Company’s minority ownership interest in Redbox Automated Retail, LLC.

(3) Includes income of $109.0 million ($0.09 per share) for gain on sale of investment from the sale of the Company’s minority ownership interest in U.K.- based Pret A Manger.

(4) Includes pretax operating charges of $1.7 billion ($1.32 per share) due to Impairment and other charges (credits), net primarily as a result of the Company’s sale of its businesses in 18 Latin American

and Caribbean markets to a developmental licensee.

(5) Includes a tax benefit of $316.4 million ($0.26 per share) resulting from the completion of an Internal Revenue Service examination of the Company’s 2003- 2004 U.S. federal tax returns.

(6) Includes income of $60.1 million ($0.05 per share) related to discontinued operations primarily from the sale of the Company’s investment in Boston Market.

(7) Represents treasury stock purchases as reflected in Shareholders' equity.

(8) While franchised sales are not recorded as revenues by the Company, management believes they are important in understanding the Company's financial performance because these sales are the

basis on which the Company calculates and records franchised revenues and are indicative of the financial health of the franchisee base. Franchised restaurants represent more than 80% of the McDonald's restaurants worldwide.

Exhibit 3.1: Data about McDonald’s Corporation (source: Annual report of McD’s Corp.)

We here take a look at McDonald’s from the investors’ point of view. We assume the student Joana buys

one McDonald’s share on 8.04.2008 at a share price 35.65 EUR as traded at the New York Stock Ex-

change (NYSE) that specific day. The face value of the share only is $0.01. McDonald’s Corporation pays

a quarterly dividend to the shareholders that amounts to 0.25 EUR on average. We further assume that



Joana sold her share in May 2013 at a share price of 78.10 EUR. We try to find out whether or not the buy

of the share was a good bargain.

The answer depends very much on the rate of interest that applies for her personal situation. The rate of

interest used for calculating the time value of money is the weighted average cost of capital which is rele-

vant for the shareholder.

The time value of money is a concept of discounting future payments. 100.00 EUR you hold today

is better than 100.00 EUR you only receive in 5 years’ time. The reason is that during the period of 5 years

you can pay 100.00 EUR into your bank account and earn an interest thereof. Alternatively, you could

invest the 100.00 EUR into a business and earn a return on your investment. The latter alternative is

linked to the risk that the company you invest into doesn’t make a profit or even files for bankruptcy.

Investors who take risks want to have a compensation for their risks taking. Accordingly, the return of the

investments in shares should be higher than the interest earned by paying the money into the bank ac-

count.

As the early 100.00 EUR are valued higher than the late ones we discount later receiving money by a rate

that represents the capital income. We assume that the rate used to discount is constant over the periods.

We assume the rate is i = 10 % than the 100.00 EUR received in 5 years’ time are worth 100 / (1 + 10%)5

= 62.09 EUR. In order to explain this concept we assume we invest the 62.09 EUR on the capital market

for the 1st year. The money we have at the end of this period will be the 62.09 EUR plus the return of

62.09 x 10% = 6.21 EUR. The total amount is 62.09 + 6.21 = 68.30 EUR. We repeat this investment and

increase our fortune to 68.30 x (1 + 10%) = 75.13 EUR. In the next year the fortune has increased up to

75.13 x (1 + 10%) = 82.64 EUR. In the next year we have already 90.90 EUR and in the last year we have

99.99 EUR.

(Note, we round off after each accounting period, so it is likely to face some rounding differences.)

Accountants love spread sheet programs. They use the formulas lying behind the cells to determine the

amounts. We want to analyse our investment of 62.09 EUR by using MS Excel. See the design of the excel

sheet in exhibit 3.2:

Exhibit 3.2: Calculation of an investment of 62.09 EUR



In the exhibit 3.1 the discount rate is 10 %. In a real business the rate used for discounting is based on the

average cost of capital. This rate is the average rate of equity cost and costs for debts that is weighted by

the portion of equity put in and debts made to finance the McDonald’s Corporation share buy. We here

assume that Joana has to lend 20.00 EUR from a bank at an annual rate of interest 4.50 %. Her total funds

required to buy the share is 35.65 – 0.25 – 0.25 – 0.25 = 34.90 EUR. Actually, she has to pay for the bank

loan 20 x 4.5% x (9/12) = 0.68 EUR interest in the first accounting period. So her equity should be 34.90

+ 0.68 – 20 = 15.58 EUR.

(Note, in this example we only calculate exact to the year. This means the share price has to be paid but

there are 3 dividends received also.)

Joana has 15.58 EUR and lends 20.00 EUR from the bank. In Joana’s example the weighted average cost

of capital are based on a portion of 15.58 EUR equity and 20.00 EUR debts. We further assume that the

return she could achieve on the capital market on alternative investments based on the same risk will be

3.00 %. The average costs of capital are not 4.00 % because Joana’s capital structure doesn’t not contain

equity and debts at the same percentage. However, the weighted average cost of capital for Joana amount

to (15.58 x 3% + 20 x 4.5%)/35.58 = 3.84%. (Note, the amount is rounded off.)

We now measure Joana’s share buy in order to determine whether the investment in McDonald’s Corpo-

ration was a good deal.

The return on the McDonald’s Corporation share is 0.25 EUR/quarter. In 20X8 she receives 3 quarterly

dividend payments. From 2009 until 2012 she is entitled to receive 4 quarterly dividends and she gets one

quarterly dividend payment at the end of the 1 quarter of 2013. In the last accounting period she sells the

share at 78.10 EUR. In the same accounting period she earns a dividend of 0.25 EUR, so the total money

she receives is 78.10 + 0.25 = 78.35 EUR.

We put all payments into a vector for the McDonald’s Corporation share payments which looks like this:

McD(t) = {-24.90; 1.00; 1.00; 1.00; 1.00; 78.35}. The first figure is the payment for the share acquisition

reduced by 3 quarterly dividends in 2008, the second figure is the dividend for 2009, the third figure the

dividend for 2010, the fourth figure the dividend for 2011, the fifth figure the dividend for 2012, and the

last figure is the total of one quarterly dividend plus the money achieved when the share was sold.

We further assume Joana pays off the bank loan at the end of the accounting period and puts money that

is left over at any time into her saver’s account at the local Sparkasse. She earns an annual interest of 1.2

%. Interest for the bank loan is what she pays every period. It amounts to 20 x 4.5% = 0.90 EUR. In

2008 the amount is 9 x 0.90 / 12 = 0.68 EUR, as the bank loan is taken for 9 months only. In 2013 inter-

est is 5 x 0.90 / 12 = 0.38 EUR. Observe the financial schedule set up for Joana’s share.



t=2008 t=2009 t=2010 t=2011 t=2012 t=2013

Equity 15.58

Investment at McD's Corp (34.90) 1.00 1.00 1.00 1.00 78.10

Bank loan 20.00 (20.00)

Interest on bank loan (0.68) (0.90) (0.90) (0.90) (0.90) (0.38)

Investment at Sparkasse (0.10) 0.10




0.00 0.00 0.00 0.00 0.00 58.13

Exhibit 3.3: Financial schedule for Joana’s McDonald’s Corporation share

As it can be seen by the schedule the dividend earned is just enough to pay the interest on the bank loan.

However, he deal becomes attractive as the share of McDonald’s increased in value.

The present value of the deal is (58.13 / (1 + 3.84%)5) – 15.58 = 33.57 EUR. We can say the opportunity

to buy the share of McDonald’s Corporation is at the same value as to receive 33.57 EUR on 8.04.2008

for free.

In case the share price would be predictable all people would have bought McDonald’s Corporation

shares on 8.04.2008.

(Note, before you start to invest you should take under consideration that buying shares cost you transac-

tion fees and that the banks charge you for the administration of a share depot.)

The example with McDonald’s Corporation shows 2 ways of earnings that result from shares.

(1) The first one is that the shareholder is owner of the company to the extent of his portion of the shares

and is entitled to earn a dividend. The dividend is based on the profit and the available amount of equity

for distribution.

(2) The other way to earn money with shares is to buy a share and hope to make a profit by the share

price increase. Share prices increases when they are under high demand by potential buyers. A company

that makes huge profits and pays constantly good dividends is more attractive to the shareholders than a

company suffering from losses.

The potential buyers of shares therefore listen to analysts who monitor the companies properly. One of

the basic sources of information for investors and analysts are the financial statements listed companies

have to prepare and publish quarterly. For non-listed companies annual financial statements will be re-

quired. The financial statements show how much profit was earned during the last accounting period and

give an indication about the financial position of the business. Investors can check the non-current assets

for example and derive estimates on how well the company will perform based on the investment returns

made in the past. The cash flow statement will provide information on the potential of future investments

and for example whether or not a company is able to finance a dividend payment.

Auditors check financial statements. So, readers of financial statements can rely on the correctness of the

financial statements. Auditing is prescribed by national law and by the regulations issued by the stock ex-

change the company’s shares are traded at.



Summary:

Companies like McDonald’s corporation are based on huge amount of shares which help them to finance

their business and to invest in business opportunities. Buying shares of companies offers the investor to

participate in the profit of the company by earning a dividend and to benefit from share price increases.

In business management payments at different times are made comparable by applying the time value of

money concept.

Working Definition:

Time Value of Money: The time value of money is a concept of discounting future payments.



(4) Legal Aspects about Accounting


We’ll introduce the basic legal aspects of accounting by this chapter. The chapter helps to get some orien-

tation to find regulations about accounting also.

Preparing financial statements gives helpful information about a company’s situation and about the way of

how the company earns its profit. Companies belong to their owners who often are not involved in the

daily business. They have a strong interest in understanding how their company is working out and want

to determine whether or not they can expect an appropriate return on their investments. In case you buy

shares of a company like McDonald’s Corporation you might want to know how this business works and

you want to be able to predict whether your total mix of investment is a good or a weak one. We’ll call it

your portfolio.

However, an owner of a company has not the right to drop by at any time at the company offices and

observe the transactions or even interfere with the company’s activities.

The main source of information for the owners of a business is the set of financial statements. It contains

a statement of financial position, a statement of comprehensive income, a statement of cash flows, and a

statement of changes in equity. The information provided by these statements results from records the

company has to keep by law. All transactions in a business that affect its financial position and/or its prof-

it/loss are recorded in the bookkeeping system. The basic format of these records is by accounts.

The law that requires providing information about the business’s well doing in Germany is the Han-

delsgesetzbuch which we refer to as the German Civic Code. The Handelsgesetzbuch applies for all sales-

persons doing trade and for all companies that are operated under the legal form of a limited company.

However, some doctor who runs a clinic, an attorney who runs his consultancy, or a craftsman who is

doing business by his own company (he is the single owner) have to provide information about the profit

also, but the reason therefore is determining profit and loss for taxation purposes. Tax statements are

financial statements like a balance sheet and an income statement prepared for tax declarations.

The taxing authorities need to know how much profit a business earns in order to determine income taxes

that are to be paid by the company or the owner thereof. The aim of the profit determination is to calcu-

late a fair amount of income taxes the companies have to pay. For this reason financial statement for taxa-

tion are required being set up by the companies. We do not deal with tax statements in this ebook Ac-

counting-Intro but the textbook Bilanzen does in chapter 7 and 12.

According to the German Handelsgesetzbuch a company is required to provide a list of all assets, of all

liabilities, and of all equity at the company’s transactions’ commencement and then at least after each and

every accounting period which normally is one year. § 238 of the Handelsgesetzbuch requires dealerships

keeping bookkeeping records.

(Note, the German Handelsgesetzbuch refers to Kaufmann. We translate the German word Kaufmann or

Handelsunternehmen by dealer, dealership, trading business, etc. We mean every kind of business where

goods are traded. A photographer who sells next to his photo studio frames or cameras will be seen as a

dealer e.g.)

§ 240 HGB requires that every salesman has to prepare a proper register of his land, his receivables and

payables, his money and all further assets and to provide exact information about their value at the begin-



ning of his business. He further has to prepare such a register after the end of each and every accounting

period.

(Note, § 241a Handelsgesetzbuch allows dealers who run their business under the legal form of a sole

tradership and who run a small company with regard to revenue and profit do not keep bookkeeping rec-

ords and prepare financial statements.)

There are special regulations for limited companies also. These regulations are about the form of financial

statements e.g. §§ 266 and 275 Handelsgesetzbuch. The regulations for limited companies start by the §

264 Handelsgesetzbuch.

§ 315 Handelsgesetzbuch requires financial statements to be audited for companies fulfilling special re-

quirements with regard to the size of the business. Auditing means that a qualified specialist in accounting

has to check the bookkeeping records and the financial statement to make sure the documents have been

prepared correctly. Correct preparation means that they have been set up along the common regulations

for bookkeeping and provide a fairly true view of the assets and their values, the financial position, and

the profit and loss situation of the company. A breach in favour of the company would mean to overesti-

mate assets e.g. Auditors do not check the financial statements completely but draw samples of the rec-

ords and check the preparation of the financial statements. They deliver a report about their auditing re-

sults and the process of auditing.

Besides owners there are a lot of other parties who have an interest in the company’s financial statements.

These are business partners in particular when they lend the business money, employees, the government

(taxing authorities), and other persons.

All companies in Germany have to provide the financial statements along the requirements of the Han-

delsgesetzbuch unless they are exempted by § 241a Handelsgesetzbuch.

The IFRSs contain accounting rules also but the regulations are sometimes different to the ones by Han-

delsgesetzbuch.

International accounting is relevant for companies that are involved in international business or are part of

groups. The regulations for international accounting are set up by the International Accounting Standards

Board IASB based in London, Cannon street. We call the IASB often the standard setter. In case you like

to know more about the IASB feel free to visit their website: www.ifrs.org.

The IASB issues standards to particular accounting problems which contain paragraphs. The standards

released are the result of international cooperative design work. The standards can be downloaded from

the website mentioned earlier also. The standards have numbers and are either called IAS or IFRS. In

order to refer to both of them we are going to use the abbreviation IFRSs. The structure of the IFRS is

subject to chapter 3 of the text book. At this stage the following standards have been issued (the standards

printed in bold are relevant for the text book Bilanzen):

IAS 1 – Presentation of Financial Statements

IAS 2 – Inventories

IAS 7 – Statements of Cash Flow

IAS 8 – Accounting Policies, Changes in Accounting Estimates and Errors

IAS 10 – Events after the Balance Sheet Date

IAS 11 – Construction Contracts

IAS 12 – IncomeTaxes



IAS 16 – Property, Plant, and Equipment

IAS 17 – Leases

IAS 18 – Revenue

IAS 19 – Employee Benefits

IAS 20 – Accounting for Government Grants and Disclosure of Government Assistance

IAS 21 – The Effects of Changes in Foreign Exchange Rates

IAS 23 – Borrowing Costs

IAS 24 – Related Party Disclosures

IAS 26 – Accounting and Reporting by Retirement Benefit Plans

IAS 27 – Consolidated and Separate Financial Statements

IAS 28 – Investments in Associates

IAS 29 – Financial Reporting in Hyperinflationary Economies

IAS 31 – Interests in Joint Ventures

IAS 32 – Financial Instruments: Presentation

IAS 33 – Earnings per Share

IAS 34 – Interim Financial Reporting

IAS 36 – Impairment of Assets

IAS 37 – Provisions, Contingent Liabilities and Contingent Assets

IAS 38 – Intangible Assets

IAS 39 – Financial Instruments: Recognition and Measurement

IAS 40 – Investment Property

IAS 41 – Agriculture

Standards issued after 2002 are called International Financial Reporting Standards IFRS.

IFRS 1 – First-Time Adoption of International Financial Reporting Standards

IFRS 2 – Share-Based Payment

IFRS 3 – Business Combinations

IFRS 4 – Insurance Contracts

IFRS 5 – Non-Current Assets Held for Sale and Discontinued Operations

IFRS 6 – Exploration for and Evaluation of Mineral Resources

IFRS 7 – Financial Instruments: Disclosures

IFRS 8 – Operating Segments

IFRS 9 – Financial Instruments

There further is a framework provided that describes the principles of international accounting.

Some countries nowadays apply the international accounting standards IFRSs completely other ones part-

ly. South Africa e.g. doesn’t have any own national regulations for accounting anymore and applies the

international accounting standards fully. The international standards are combined with the companies act

in and the corporate governance King III report.



Germany decided not to follow the IFRSs directly. However the Germans made recently some adjust-

ments to the Handelsgesetzbuch, the GmbHG, and the AktG, etc. by the BilMoG (BilanzModernisier-

ungsGesetz).

However, companies preparing group statements and being based in Europe have to apply the IFRSs in

case they participate in the financial market. A group consists of at least 2 companies which have a

parent subsidiary relationship to each other. Parent-subsidiary-relationships are ruled by the compa-

ny’s act in Germany, named AktG. Participation in the financial market means the companies or one of

the group members are listed publically with equity or liability instruments. Once one company of the

group issues shares that will be listed at a stock exchange for example the whole group has already quali-

fied to apply the international accounting standards. The same applies if a company issues bonds that are

publically traded.

A group has to prepare financial statements like a single company that shows the amounts for the whole

group. The group statements contain a set of financial statements for the whole group that are prepared

that way as if the group was a single company. The group members are then regarded as departments for

the group. E.g. we assume there is a group containing a parent in Germany and a Dutch subsidiary. The

German parent is listed at Frankfurt stock exchange and so participated in the capital market. In this case

the German parent will prepare its single financial statements along Handelsgesetzbuch and the Dutch

subsidiary along the woertbook van koophandel because both companies are separate firms and have the

obligation to prepare financial statements along their national laws. Additionally, the companies have to

prepare group statements along IFRSs that add up all items of the German and the Dutch company. As-

sume the German company has items of property, plant, and equipment of 1,000,000.00 EUR and the

Dutch one of 700,000.00 EUR. In the group statements the item of property, plant, and equipment will be

1,000,000 + 700,000 = 1,700,000.00 EUR. Group internal profits or group internal receivables/payables

and group internal proprietors’ relationships have to be adjusted or cancelled out - what we will refer to as

consolidation.

Before financial statements can be compared or summarized for the group statements preparation they

have to be transferred to the same law standard. Companies which are group members therefore trans-

form their single financial statements to IFRSs in case the group statements have to be prepared along

international accounting. The international version of the single statements prepared in accordance to the

IFRSs is called the financial statements number 2 (Handelsbilanz 2).

(Note, compare the preparation of preparing group statements to fractions. You first have to transfer the

single summands to the same denominator before you can add fractions. The same way you first have to

transform financial statements to the reporting standards of the group before you can prepare the group

statements.)

GAAPs are generally accepted accounting principles which apply for preparing financial state-

ments and keeping bookkeeping records. National GAAPs in Germany are national laws for account-

ing - in particular the Handelsgesetzbuch. Further GAAPs are UK-GAAPs, US-GAAPs, etc.

Normally, you might think the application of different laws won’t make a big difference but actually, it

does! Often the regulations along the national GAAPs and the IFRSs are very similar so that in about 95

% of the cases no difference exists. But when regulations are different the picture provided by the finan-



cial statements can totally change. E.g. the German GAAPs do not allow the recognition of development

expenses but IFRSs do. Assume a production firm like a car manufacturer which spends a lot of money

on the design of a new product (a car). Recognizing the development expenses or not will make a huge

difference and will be good for increasing the total of the balance sheet to the extent of almost double the

previous total amount.

The laws contain regulations which have different purposes. The German Handelsgesetzbuch aims to

protect the creditors of the business. In accordance to this principle the financial statements are required

being prepared to minimize the profit intentionally because a low profit leads to low dividends which is

the best for the creditors because the equity stays on a high level or will be increased. The shareholder

doesn’t see that the same way as cutting dividend short means a reduction of his/her return.

In contrast to the German Handelsgesetzbuch the international accounting standards follow the true and

fair view principle. The reporting purpose is to recognise the assets at the amount they have. We use an

example to get the point across. A company that takes a bank loan 100,000.00 EUR and has to pay-off the

amount in 20 years’ time has to recognise the bank loan on the credit side of the statement of financial

position because it is a liability. The true and fair view amount of the bank loan is its actual value. In case

the rate of interest on the capital market is 10 % (Note, that is very high!) the bank loans actual value to-

day will be 14,864.36 EUR only. Someone taking this amount of money and put it into a bank account

which earns an interest of 10 % will come up with 100,000.00 EUR at the end of 20 years. The IFRSs

therefore require discounting liabilities. However, the German Handelsgesetzbuch prescribes a loan

recognition at 100,000.00 EUR which is the most likely pay-off amount. Artificial increase of a liability

downgrades the company’s financial position. So, the Handelsgesetzbuch shows the business worse than it

really is for creditors’ protection reasons intentially.

Summary:

Financial statements have to be prepared along the national law. German companies have to prepare the

financial statements along the German Handelsgesetzbuch. However, there are countries that apply inter-

national accounting standards IFRSs for the single statements. European groups that participate in the

capital market have to prepare their group statements along IFRSs. Therefore, all group members have to

translate their financial statements to IFRSs.

Working Definitions:

GAAPs: GAAPs are generally accepted accounting principles which apply for preparing financial state-

ments and keeping bookkeeping records.

Tax Statements: Tax statements are financial statements like a balance sheet and an income statement

prepared for tax declarations.

Group: A group consists of at least 2 companies which have a parent subsidiary relationship to each oth-

er.

Group Statements: A group has to prepare financial statements like a single company that shows the

amounts for the whole group.



(5) The Excel Accountant


In this chapter you do not learn anything about accounting but you’ll get a file that helps you editing

bookkeeping entries for the university. This chapter also contains some hints for the use in later chapters

of the book. Do not confused when aspects are mentioned that will be covered later on.

In a real company the bookkeeper will have an accounting software application in use. The preparation of

the accounting software according to the requirements of the company and the adjusting process thereof

will be called customizing and is done by the accountants. There are a lot of parameters which have to be

set at first before the software can be used. The market leader of software for enterprise resource planning

systems (ERP-systems) is SAP AG. The software is based on transactions and the transaction FB50 for

instance will allow you to make a bookkeeping entry. Before you can do so there are settings for the com-

pany code, for the accounting area, for the bookkeeping type, for the chart of accounts, etc. to be made.

We here do not use SAP software for bookkeeping but MS Excel.

(Note, in the university you do not face mass data problems like in a real company. So, MS Excel will do

it. Furthermore, we think once you can do something by MS Excel you will be able to use real software

also. We regard MS Excel as a very valuable tool for accounting learners.)

On the UVK-Lucius.de-website you’ll find a file called AccountsAndStandards-FORMAT.xls. This file

has been used to prepare all financial statements and all accounts provided by this ebook Accounting-

Intro. We recommend using it also for your first steps in accounting. However we do not prescribe it

strictly for teaching but offer it to you as an additional service. Feel free to use any software or if you pre-

fer paper go for it as well. This only is an easy spread sheet.

The excel sheet has been prepared by an English MS-Excel system. According to this setting the digits

appear after the decimal point and not after the comma.

You can adjust MS-Excel to the English data format but consider this not being a file setting but a system

setting. This means once you change it to the German format all files you open will appear in the German

format again. See exhibit 5.1 for the adjustment window.



Exhibit 5.1: Excel options for adjustment of the data format

Another format is the style data appear in the tables. We use the format 1,000.00 EUR for a positive

amount and (1,000.00 EUR) for a negative one. In particular in a big venue the brackets are easier to see

than a minus sign. You can make these changes with the font menu.

(Note, in order to make figures appear in a column properly you should leave a blank after the positive

amount at the place where closing bracket for negative amounts appears.)

Exhibit 5.2: Format adjustment (fonts)



We recommend you adjusting your menu in MS excel that way that you can insert lines easily. There is a

function line insert you should add to the function bar.

The file AccountAndStatement-FORMAT.xls provides you a few tabs which contain templates for ac-

counting like:

- Accounts

- TB (trial balance)

- BS (statement of financial position)

- IS (statement of comprehensive income)

- CFS (statement of cash flows)

- SCE (statement of changes in equity)

- RoA (register of non-current assets)

- Int&PayOff (schedule for interest and pay-off scheduling)

- PCB (petty cash book)

- CB (cash book)

- BankStatement (bank statement)

Account:

The accounts are provided as T-accounts. The accounts do not contain any formulas as the accounts

length might vary.

The accounts come with a header which is centred and bold. On the left side there is a D for debit side

and on the right one a C for credit. The line in the middle is a very narrow field which is filled by black

colour. This way you can copy bookkeeping entries from the debit to the credit side without copying the

cell format also when preparing the entry in the contra account.

The style in the data cells is courier new so the figures all have the same distance to each other and can be

added easily.

If you add the accounts data use the sum function. See the account tab in exhibit 5.3.



Exhibit 5.3: Account tab

(TB) Trial Balance:

The trial balance tab is a list of the accounts. Transfer the names of the account tab into that list and enter

the balances brought down into the list. The total is calculated and should be the same on the debit and

the credit side of the trial balance. See exhibit 5.4 for the trial balance tab. The trial balance will be intro-

duced in chapter 26.

Exhibit 5.4: Trial balance tab

In case you have to prepare the adjusted trial balance it is recommended to just copy the trial balance to

the right and to strikethrough closed off accounts and to set their values to zero. Insert line for new ac-

counts required like Retained Earnings or Reserves account therein.



(BS) Statement of Financial Position:

The statement of financial position tab contains a template for the statement of financial position. The

total is calculated in the bottom line. All items can be adjusted by you and you can add further lines by the

insert line key. You have to adjust the statement of financial position depending on the legal form of the

business you report on. E.g. a sole dealership won’t show an issued capital item. See the statement of fi-

nancial position tab in exhibit 5.5.

Exhibit 5.5: Statement of financial position tab

(IS) Statement of Comprehensive Income:

The form for the statement of comprehensive income is provided along the nature of expense method.

You easily can adjust it to the cost of sales format if required. The statement of comprehensive income

along the cost of sales format is covered by chapter 37. For data input key in all figures positively. Do not

use a negative figure for expenses as the formulas provided will deduct expenses automatically. In exhibit

5.6 the revenue of 10,000.00 EUR is deducted by expenses 1,000.00 EUR; 2,000.00 EUR; etc.

In case the earnings before taxes are negative or zero the income taxes become zero also.

See below the statement of comprehensive income tab in exhibit 5.6:



Exhibit 5.6: Statement of comprehensive income tab

(CFS) Statement of Cash Flows:

The statement of cash flows tab contains some examples for cash flows. Feel free to change the items of

the cash flows in the MS Excel sheet. The formulas lying under the cells add up the cash flow from oper-

ating, investing, and financing activities to the right side and determine the total cash flow also. Key in

cash inflows as positive amounts and cash outflows as negative ones. In exhibit 5.7 we just keyed in a few

amounts 1,000.00 EUR; 2,000.00 EUR; etc.

The statement of cash flows is introduced by chapter 29.

Exhibit 5.7: Statement of cash flows tab



(SCE) Statement of Changes in Equity:

The statement of changes in equity requires that figures are added up in direction left-right and top-down.

The formulas have been laid underneath the cells already. In exhibit 5.8 some figures have been entered

into the form.

You have to make the right entries for the profit appropriation. If there is a profit transferred to reserves

it is required to make a negative entry in the retained earnings column and a positive one in reserves. A

profit paid to shareholders reduces equity and requires one negative figure entered in retained earnings

only as the Shareholder for Dividend account doesn’t belong to equity.

Exhibit 5.8: Statement of changes in equity tab

(RoA) Register of non-current Assets:

The register of non-current assets is required as part of the notes. Note, you have to enter the amounts for

accumulated depreciation and for accumulated impairment losses by negative amounts. See some fantasy

figures entered into the form in exhibit 5.9. See the register being in use in chapter 17.



Exhibit 5.9: Register of non-current assets tab

(Int&Pay-off) Interest and Pay-off Schedule:

In accounting it very often is required to determine the amount of interest and of pay-off for an account-

ing period. In particular when it comes to an annuity you should be able to retrieve the required amounts

quickly. Our recommendation for the procedure to calculate an annuity is as follows: (a) Enter the amount

for the annual payment directly. (b) Write the rate of interest somewhere above the column interest. (c)

Determine the amount of interest by multiplying the actual amount of the debts by the rate of interest. In

the formula you should fix the rate of interest by the F4-key. (d) Determine the amount for pay-off by

deducting interest from the annuity. (e) Go to the next line and add the formula for the actual amount

which is previous amount less pay-off. (f) Now you can determine all amounts by just copying cells! (g)

Adjust the last pay-off payment manually.

See the interest and pay-off tab in exhibit 5.10. See the interest calculation in the formula bar: “= C3 *

$D$1”.



Exhibit 5.10: Interest and pay-off tab

(PCB) Petty Cash Book:

The petty cash book can be set up easily be the tab PCB. You have to make the entries for the balancing

off manually. The petty cash book is covered by chapter 39 of this ebook Accounting-Intro and by chap-

ter 4 and 9 of the text book Bilanzen.

Exhibit 5.11: Petty cash book tab

(CB) Cash Book:

The cash book tab is similar to the one for the petty cash book. You have to add the figures for balancing

off also. In contrast to the other tabs the header has been kept very simple to give the cash book the look



of a normal account intentionally. The cash book is subject to chapter 38 of this ebook Accounting-Intro.

See exhibit 5.12.

Exhibit 5.12: Cash book tab

(BankStatement) Bank statement:

The statements prepared by the banks come by a different layout and normally the accountant doesn’t

have to write a bank statement. However we provide you a simple form for a bank statement you can use

for practicing bank reconciliations. Bank statement reconciliation is subject to chapter 38 of this ebook

Accounting-Intro.

Exhibit 5.13: Bank statement tab



Summary:

We provide you online a spread sheet you can use to prepare bookkeeping records. However this file is no

attempt to design bookkeeping software but a simple editor file used to prepare this ebook Accounting-

Intro and many of the sample solutions you’ll find online on www.uvk-lucius.de. It is the aim to make

bookkeeping more convenient for you



Part (B):

EASY BOOKKEEPING


We want to make you familiar with bookkeeping so you can prepare financial statements already after

these chapters. We try to refer as less as possible to laws or accounting standards, in order to keep ac-

counting easy. We do not start by bookkeeping intentionally to show that accounts and bookkeeping rec-

ords are just a means to make accounting easy to oversee. After this part of the ebook you can keep rec-

ords and prepare financial statements including the statement of cash flows. We are going to ignore all

specialities and difficult cases herein on purpose.

(6) Introduction to Statements of Financial Position and Statements of Comprehensive

Income


We are going to introduce the statement of financial position in order to explain the items therein. It is

intended to regard the statement of financial position as a valuable reporting instrument for owners, credi-

tors, and further parties interested in the business.

In this ebook Accounting-Intro we won’t introduce a format for financial standards which are in con-

formity to national or international GAAPs. We only will use a very simple form that is almost free of

GAAPs’ requirements. This format would be acceptable for financial statements along the IFRSs. For

German companies it won’t. §§ 266, 275 HGB apply instead.

The statement of financial position which is often named balance sheet looks as below:

A C, L


P, P, E Issued capital




Inventory Interest bear liab

A/R A/P


Cash/Bank Tax liabilities


as at 31.12.20X0

Exhibit 6.1: Statement of financial position



The statement of financial position has 2 sides:

(1) Asset side and

(2) Capital/Liability side.

Asset Side of the Statement of Financial Position:

The asset side is the left hand side of the statement of financial position. It displays the use of the

funds by the business.

The capital/liability side is the right hand side of the statement of financial position. It displays

where the funds come from: from the owners and/or the creditors of the business.

The asset side contains all assets of the business. In general, the assets are distinguished along of how long

they will remain in the company. Non-current assets are assets that are longer in use. The former expres-

sion fixed assets gives the impression assets cannot be changed at all anymore and is old fashioned among

accountants. Assets that are used for shorter periods are called current assets.

Non-current assets are property, plant, and equipment (P, P, E). Those items contain buildings, land, ma-

chinery, and equipment. The expression results from the header of IAS 16: Property, Plant, and Equip-

ment. Assets are to be shown at their carrying amount which is the actual value of the asset. In case a

value of an asset is decreased by depreciation the amount in the P, P, E item is to be recognised at the cost

of acquisition less any depreciation and impairment losses. An impairment loss is an extraordinary

depreciation. Along IFRSs there is an increase of assets possible also known as doing revaluations.

Companies have to recognise assets at their fair value. In cases the fair value exceeds the previously recog-

nised value the company has to revalue the asset and to put an amount into revaluation reserves to the

extent that the amount exceeds the previous valuation. E.g. company PEINE Ltd. has a machine that is

recognised at 1,200.00 EUR. The fair value of the machine is 1,500.00 EUR. PEINE Ltd. has to increase

the machine’s amount by 300.00 EUR. The amount is to be put into revaluation reserves. This will be

covered by chapter 7 of the text book Bilanzen.

Besides of P, P, E, a balance sheet contains intangible assets. Intangibles are assets that have no physi-

cal structure. Often these assets are rights, patents, etc. Financial assets are assets like shares, bonds, or

debentures a company holds. In case company DÖHREN AG buys shares of company CAMBS AG the

shares of CAMBS AG will be part of DÖHREN AG’s financial assets.

The current assets are assets that stay for a shorter period of time in the business. Inventories are raw

materials, work in progress, and finished goods. A production firm that buys materials will show these

materials as raw materials. Once the production starts all job orders together form the work-in-progress

item. Goods which have been produced already but not been sold yet are finished goods. Companies may

distinguish the three kinds of inventory on the face of the balance sheet or describe the single amounts as

part of the notes. The notes are explanations of accounting required by IFRSs. In latter case they

only recognise one item in the statement of financial position.

Further items of non-current assets are receivables (A/R). The accounts receivables (A/R) result from

payments from customers and are often part of the sales ledger. See chapter 16 and 40. The name indi-

cates that all customers will be represented by a single account which contains the name of the debtor. All

accounts together are referred to as the accounts receivables. Besides A/R there are notes receivables. A



company can have a claim to another person or company without trading therewith. If company ELZE

GmbH lends WORCESTER AG an amount of 100,000.00 EUR ELZE GmbH’s statement of financial

position will contain the amount as part of the A/R item and it is regarded as a note receivable.

Prepaid expenses are assets that result from prepayments. A company that pays rent in advance will rec-

ognise that amount as prepaid expenses in accordance to IFRSs. In contrast to the German Han-

delsgesetzbuch prepaid expenses are considered being assets. Along German Handelsgesetzbuch there is a

special item called Aktiver Rechnungsabgrenzungsposten (accruals) to be shown. Along IFRSs prepaid

expenses are just a non-current asset.

The item cash/bank contains all cash and bank accounts. In case a company uses several accounts at dif-

ferent banks the item cash/bank adds up all balancing figures of all the accounts thereof. The same ap-

plies for cash.

Capital and Liability Side of the Statement of Financial Position:

The capital and liabilities are often referred to as claims. They contain the funds provided by the owners

and the creditors of the business.

(Note, CL stands for capital and liabilities but not for claims.)

The equity section of the balance sheet contains the issued capital. Issued capital is the capital provided by

the owners when the company is established. In case of a company that is based on shares there is a share

issue of ordinary shares at the time of incorporation. Limited companies which are not based on shares

often call that item owners’ capital. The item reserves contain amounts that belong to the owners of the

business. Reserves can result from earnings, from capital, or from revaluations. Earnings reserves exist

when a business earned a profit and decides to keep that profit in the company. This can be seen as a kind

of reinvestment of profit. Alternatively, the company can pay the profit earned to its owners. The decision

of the appropriation of profit is made by the annual meeting or by the board of directors together with the

supervisors’ board. Capital reserves are linked to share issues. A company that issue shares at a premium

puts the share premium into the capital reserves. The face value is the nominal value of a share. A

share premium is the amount per share the issue price exceeds it face value. E.g.: company

HAGEN AG issues 100 shares at 7.80 EUR/share. The face value of the shares is 5.00 EUR/share. The

difference between the issue price and the face value of the shares is 7.80 – 5 = 2.80 EUR/share and is

called the share premium. In this case HAGEN AG has to put 100 x 2.80 = 280.00 EUR into capital

reserves.

In the liability section of the statement of financial position a company displays all amounts it owes their

creditors. A company that takes a bank loan has to recognise the loan as interest bearing liabilities. Bonds

and debentures are long-term debts also and require the payment of interest. In contrast short-term liabili-

ties often do not cause interest and are shown as payables (A/P). Besides payments to the suppliers the

A/P contain notes payables and any sorts of short-term liabilities, e.g. pay-off amounts for bank loans due

within the next accounting period. Because of the different calculation of liabilities that require paying

interest and those which are short-term liabilities there are two items on the face of the balance sheet.

Provisions are liabilities which are uncertain to a particular extend. E.g.: pensions, provisions for court

cases, etc. Liabilities for income taxes are to be recognised along IAS 12. The German Handelsgesetzbuch

requires raising a provision for income taxes also.



Statement of Comprehensive Income:

The format for the statement of comprehensive income is given by exhibit 6.2:

[EUR]

Revenue

Other income

0.00

Materials

Labour

Depreciation

Other expenses

Earnings before int and taxes (EBIT)

Interest

Earnings before taxes (EBT) 0.00


Deferred taxes

Earnings after taxes (EAT) 0.00



Exhibit 6.2: Income statement

The income statement or statement of comprehensive income compares the revenue earned by the com-

pany to the expenses. There is no difference whether or not revenue or expenses have been paid. The

amounts on the face of the income statement always are net amounts which means they are free of value

added tax (VAT).

Revenue - or also called sales - is the money or the equivalent thereof the company receives for selling

goods or rendering services. Some companies get other income when the company receives money or its

equivalent for activities which are not normal business, e.g. renting out some factory buildings for a pro-

duction firm.

Expenses contain materials which have been used for production or labour which has been paid for

workers producing goods or rendering services. Depreciation is the reduction of an asset’s value by its use

or by depletion. Often depreciation is calculated according the time an asset is in use. Assume company

KINDERHAUS GmbH bought a delivery van and paid 10,000.00 EUR therefore. The time

KINDERHAUS intends to use the van is 5 years. Assumed the van gets used to the same extend every

year the annual depreciation will be constantly 10,000/5 = 2,000.00 EUR/a. Other expenses are expenses

other than materials, labour, and depreciation. For example rent, fees, etc. If the profit is calculated before

interest has been deducted it will be called earnings before interest and taxes (EBIT).

After interest has been deducted from EBIT the remaining profit is called earnings before taxes.

After taxes have been deducted from EBT the profit for the period is called earnings after taxes (EAT) or

Annual surplus.



The different earnings calculations are made for different purposes. Assume a manager of a subsidiary

cannot make financial decisions because this is made by the group’s headquarter. You then cannot meas-

ure his performance under consideration of interest for financing the business because he cannot change

it. The same applies for taxes when the manager cannot change them because he cannot move the factory

to another location in another country.

After the financial statements as the balance sheet and the income statement have been introduced we

take a closer look at some business activities in the next 34 chapters and see how they affect the financial

statements (F/S).

Summary:

Companies prepare financial statements based on bookkeeping records in order to provide information

about the business to the owners, the creditors, the employees, the government, and anyone else who has

an interest on the company. The main financial statements are the statement of financial position and the

statement of comprehensive income. Before the revision of IAS 1 these statements were called balance

sheet and income statement. Many accountants still have the previous technical terms in use.

The statement of financial position compares all assets to the total of capital and liabilities. The statement

of comprehensive income shows how the business earns its profit by deducting all expenses from the

revenue made. The statements are linked together by the Retained Earnings account.


Asset side: The asset side is the left hand side of the statement of financial position. It displays the use of

the funds by the business.

Capital/liability side: The capital/liability side is the right hand side of the statement of financial posi-

tion. It displays where the funds come from: from the owners and/or the creditors of the business.

Impairment loss: An impairment loss is an extraordinary depreciation.

Notes: The notes are explanations of accounting required by IFRSs

Intangibles: Intangibles are assets that have no physical structure.

Face value: The face value is the nominal value of a share.

Share premium: A share premium is the amount per share the issue price exceeds it face value.



(7) Activities on the Asset Side


In this chapter we’ll learn about activities which cause changes on the asset side of the statement of finan-

cial position.

Activities affecting the asset side of the balance sheet only increase one asset and decrease another one

because the accounting equation applies. The transaction can be seen as a swop of assets. For now, we

won’t make bookkeeping entries yet. We’ll introduce bookkeeping entries in chapter 12 of this ebook

Accounting-Intro. However, we will observe changes that are caused with regard to asset items in the

statement of financial position. As right now only the asset side will be affected we ignore the credit side

of the statement of financial position. For that reason the capital and liability items in the statement of

financial position are shown as blank in the exhibits presented by this chapter.

For the explanations we’ll use an easy example ROHRBACH Ltd. which is a cell phone dealer. At the

beginning of fiscal year 20X5 ROHRBACH Ltd. has 250,000.00 EUR in the Cash/Bank account. Take a

look at the balance sheet in exhibit 7.1 and find the item cash/bank by the amount of 250,000.00 EUR.

(Note, obviously the money is either cash or it is in the bank account. We do not distinguish cash and

bank at this stage and consider it as one balance sheet’s item. This only will be done in chapter 38.)

A C, L


P, P, E Issued capital 250,000.00





A/R A/P



250,000.00 250,000.00

Rohrbach Ltd.'s


as at 31.12.20X5

Exhibit 7.1: ROHRBACH Ltd.’s statement of financial position (asset side)

We’ll now discuss some activities that change items displayed on the asset side of the statement of finan-

cial position.

- Activity 1: Purchase on cash

- Activity 2: Acquisition of equipment on cash

- Activity 3: Cash sale

- Activity 4: Disposal of non-current assets



Activity 1:

ROHRBACH Ltd. buys from its supplier STEHLE AG 1,000 smart phones at 150.00 EUR each on

3.01.20X5. The supplier’s bill is 1,000 x 150 = 150,000.00 EUR which is immediately due.

The delivery of the smart phones increases the amount of stock by 150,000.00 EUR. ROHRBACH Ltd.

pays 150,000.00 EUR per bank transfer into the supplier’s bank account. Cash decreases by this payment

to the extent of 150,000.00 EUR and now is 250,000 – 150,000 = 100,000.00 EUR.

(Note, as long as we write bank account by small letters we refer to the account at the bank of the busi-

ness partner. When we write it by capital B we mean the account in the bookkeeping records.)

Take a look at the balance sheet to observe the changes made.

A C, L






Inventory 150,000.00 Interest bear liab

A/R A/P



250,000.00 250,000.00

Rohrbach Ltd.'s


as at 31.12.20X5


Activity 2:

On 6.02.20X5 ROHRBACH Ltd. buys from another supplier 4 shelves for storing phones. The shelves

cost 1,175.00 EUR each. ROHRBACH Ltd. pays the amount 4 x 1,175 = 4,700.00 EUR immediately.

After delivery and payment of the phone shelves ROHRBACH Ltd.’s bank account contains 100,000 –

4,700 = 95,300.00 EUR. The phone shelves appear as an item of property, plant, and equipment in the

balance sheet.



A C, L


P, P, E 4,700.00 Issued capital 250,000.00





A/R A/P



250,000.00 250,000.00

Rohrbach Ltd.'s


as at 31.12.20X5


Activity 3:

ROHRBACH Ltd. sells 67 smartphones at 150.00 EUR each on 8.02.20X5. The money received by

ROHRBACH Ltd. is 67 x 150 = 10,050.00 EUR. The sale reduces the amount of smartphones still on

stock by 67 units which means a decrease of 10,050.00 EUR. According to the output the value of stock is

now 150,000 – 10,050 = 139,950.00 EUR. The amount of cash is 95,300 + 10,050 = 105,350.00 EUR.

A C, L







A/R A/P



250,000.00 250,000.00

Rohrbach Ltd.'s


as at 31.12.20X5




Activity 4:

On 22.03.20X5 ROHRBACH Ltd. sells 2 of the shelves at an amount of 1,175.00 EUR. This can be seen

as disposal of a non-current asset. The amount of property, plant, and equipment is reduced by 2 x 1,175

= 2,350.00 EUR. The remaining amount is 4,700 – 2,350 = 2,350.00 EUR. The amount for the disposal

of the phone shelves is received on cash by ROHRBACH Ltd. According to the cash inflow, the amount

of the cash/bank item is 105,350 + 2,350 = 107,700.00 EUR. See these amounts being displayed in the

statement of financial position by exhibit 7.5.

A C, L







A/R A/P



250,000.00 250,000.00

Rohrbach Ltd.'s


as at 31.12.20X5


The total amount of assets is 2,350 + 139,950 + 107,700 = 250,000.00 EUR. This equals to the amount

of the total of assets as at the beginning of the accounting period. Compare this to the amount displayed

by exhibit 7.1.

All activities affect 2 items of the statement of financial position on the asset side:

Activity 1 increases inventory and decreases cash/bank.

Activity 2 increases property, plant, and equipment and decreases cash/bank.

Activity 3 increases cash/bank and decreases inventory.

Activity 4 increases cash/bank and decreases property, plant, and equipment.

Summary:

Activities that affect the asset side increase one asset and decrease another one at the same time.



(8) Activities on both Sides of the Statement of Financial Position


In this chapter we introduce activities that affect both sides of the statement of financial position.

FLASSKAMP AG is established on 1.01.20X3. The company is a dealer for grass mowers. We’ll show the

following activities:

Activity 1: Founding the business

Activity 2: Purchase of goods

Activity 3: Lending money from the bank

Activity 4: Acquisition of non-current assets

Activity 5: Payment for debts

Activity 6: Selling goods

Activity 7: Receiving money from customers.

Activity 8: Payment for debts.

Activity 1:

The proprietors pay 500,000.00 EUR into the bank account on 1.01.20X3. The contribution of the pro-

prietors is to be shown as cash/bank on the asset side. At the same time the amount is to be displayed as

owners’ equity. The funds provided by the owners represent their claim against the company and are to be

shown as equity on the face of the statement of financial position. FLASSKAMP AG is a company based

on shares. The company issued 50,000 shares at a face value of 10.00 EUR per share. The share issue was

par value. Issuing shares par value means the issue price is the same as the face value of the

shares.

Observe FLASSKAMP AG’s statement of financial position as at 31.12.20X3 below.

A C, L







A/R A/P



500,000.00 500,000.00

Flasskamp AG's


as at 31.12.20X3

Exhibit 8.1: FLASSKAMP AG’s statement of financial position



Activity 2:

On 15.02.20X3 the company orders from their supplier 400 grass mowers at a price of 230.00 EUR. The

amount has not yet been paid. FLASSKAMP agrees with its supplier to pay the delivered mowers later.

Accordingly, FLASSKAMP AG owes the supplier 400 x 230 = 92,000.00 EUR. The mowers are

FLASSKAMP AG’s merchandise goods and will be recognised as inventory. Recognition means to put

something on the face of the balance sheet. It can be an asset that is to be shown as non-current

or current asset or capital or a liability. As there has not been a payment yet FLASSKAMP AG still

owes the supplier the amount of 92,000.00 EUR. The amount due is to be shown in the accounts payables

item of the statement of financial position.

A C, L







A/R A/P 92,000.00



592,000.00 592,000.00

Flasskamp AG's


as at 31.12.20X3

Exhibit 8.2: FLASSKAMP AG’s balance sheet

Activity 3:

FLASSKAMP AG takes a bank loan from their house bank in order to buy a new show room on

1.03.20X3. The bank loan taken is 200,000.00 EUR. The amount of the bank loan is paid into

FLASSKAMP AG’s bank account and will be visible in the Cash/Bank item. At the same time

FLASSKAMP owes the bank the amount of 200,000.00 EUR. Accordingly, the amount is to be displayed

as a liability on the credit side. The bank loan is considered being long-term and there is an interest to be

paid for the liability.



A C, L






Inventory 92,000.00 Interest bear liab 200,000.00

A/R A/P 92,000.00



792,000.00 792,000.00

Flasskamp AG's


as at 31.12.20X3


Activity 4:

FLASSKAMP AG acquires a new show room on 4.03.20X3. Acquisition is buying an asset that is

recognised as a non-current one. The show room costs 600,000.00 EUR. FLASSKAMP AG moves the

business into the new show room but didn’t pay the 600,000.00 EUR yet. The show room is an item of

property, plant, and equipment. The amount they owe the seller is regarded as a short-term liability be-

cause it is due in the next days. Short-term liabilities are due within a year.

A C, L







A/R A/P 692,000.00



1,392,000.00 1,392,000.00

Flasskamp AG's


as at 31.12.20X3




Activity 5:

FLASSKAMP pays the amount due to the seller of the show room by transferring the money by bank

transfer on 18.03.20X3. The amount paid reduces FLASSKAMP AG’s asset cash/bank and the short-

term liability at the same time:

A C, L







A/R A/P 92,000.00



792,000.00 792,000.00

Flasskamp AG's


as at 31.12.20X3


Activity 6:

On 16.05.20X3 FLASSKAMP AG sells 100 units of the grass mowers at 230.00 EUR each. (There is no

margin considered at this stage in order to keep the example easy which means to keep it free of profit

and loss.)

The customers do not pay immediately but buy the mowers on credit. The amount they owe

FLASSKAMP AG amounts to 100 x 230 = 23,000.00 EUR. As it has not been paid yet the amount is to

be recognised as an item of receivables (A/R). At the same time the amount of inventory decreases be-

cause the mowers have been taken out of the storage room.



A C, L







A/R 23,000.00 A/P 92,000.00



792,000.00 792,000.00

Flasskamp AG's


as at 31.12.20X3


Activity 7:

FLASSKAMP AG’s customers pay for the grass mowers 23,000.00 EUR on 9.06.20X3. The amount re-

duces the accounts receivables because they do not longer owe the money and it increases the cash/bank

item.

A C, L







A/R 0.00 A/P 92,000.00



792,000.00 792,000.00

Flasskamp AG's


as at 31.12.20X3




Activity 8:

On 11.06.20X3 FLASSKAMP AG pays the money they owe their mower supplier by bank transfer. This

activity will reduce the amount of cash/bank by 92,000.00 EUR because money is taken out of the bank

account and will dissolve the payment obligation by the same amount. The remaining amount in the

cash/bank item now is 123,000 – 92,000 = 31,000.00 EUR.

A C, L







A/R 0.00 A/P 0.00



700,000.00 700,000.00

Flasskamp AG's


as at 31.12.20X3


The activities above affect assets and capital/liabilities:

Activity 1 increases cash/bank and increases issued capital.

Activity 2 increases inventory and increases payables.

Activity 3 increases cash/bank and increases interest bearing liabilities.

Activity 4 increases property, plant, and equipment and increases payables.

Activity 5 decreases cash/bank and decreases payables.

Activity 6 decreases inventory and increases receivables.

Activity 7 decreases receivables and increases cash/bank.

Activity 8 decreases cash/bank and decreases payables.

The following rule applies: If the activities affect items on the same side of the balance sheet one item will

increase and the other one decrease. The total of increases and decreases will be zero. If the activities af-

fect items on different sides of the balance sheet both items will decrease or both sides will increase at the

same time.



Summary:

Activities that effect assets and capital/liabilities will affect both sides of the balance sheet. Increases of an

asset are combined by an increase of capital/liability or a decrease of another asset and vice versa.


Par value issue: Issuing shares par value means the issue price is the same as the face value of the shares.

Recognition: Recognition means to put something on the face of the balance sheet. It can be an asset

that is to be shown as non-current or current asset or an item of capital or of a liability.

Acquisition: Acquisition is buying an asset that is recognised as a non-current one. (Buying a current

asset in particular inventory is called a purchase.)

Short-term liabilities: Short-term liabilities in general are due within a year. If the amount is due in a

longer period of time it will be called long-term. (Note, some bank loans contain a short-term portion and

a long term one.)



(9) Profit and Loss Activities


This chapter introduces activities that effect assets, capital and liabilities and profit and loss as well. It will

be used to explain how activities affect the equity section of the balance sheet. Only very simple revenue

and expense activities will be in use in order to prepare the income statement (= statement of comprehen-

sive income).

(Note, the technical term income statement or profit and loss statement is accounting slang. The interna-

tional accounting standards use statement of comprehensive income along IAS 1. The expression results

from the previous income statement that was completed by a statement of other comprehensive income.

The latter one is in use for expenses and or revenues caused by extraordinary activities. The two state-

ments are combined now and named statement of comprehensive income. We’ll use income statement as

an expression in the text and refer to the statement itself by statement of comprehensive income. You’ll

see the official expression as header of the statements displayed in the exhibits. The expression profit and

loss statement is the American technical term for the income statement and refers to US-GAAPs.)

An income statement determines the company’s profit by subtracting all expenses from the revenues

earned. Revenue is an increase of resources flowing to the company as a compensation for goods

sold or service rendered. Often revenue is linked to a payment or to an entry in receivables. E.g. a com-

pany that rents out an office block will receive money from its tenant which is classified as revenue. For

revenue that is obtained by selling goods the expression sales or sales revenue is common among account-

ants. However, expenses are all kind of resources’ use by the company’s activity by which the val-

ue of the resources decreases. For now we can say expenses often mean to consume resources.

This can be materials used up in a production process, labour paid to employees, fees paid to other com-

panies, depreciation on machinery, interest paid for bank loans, etc. Not all payments are seen as an ex-

pense. We observed in chapter 7 ROHRBACH Ltd. buying equipment. This is not an expense yet. Only

when ROHRBACH Ltd. writes off the phone shelves depreciation will become an expense. Furthermore,

an expense only exists once the resource is used up of loses its value. Land cannot be written off as it

keeps its value. There is no depreciation on land possible therefore.

(Note, a proprietor of land and buildings has to split the assets to calculate depreciation because the build-

ing loses value by its use whereas land does not. If you buy property, you only get one agreement of pur-

chase containing one amount for land and building together. You have to go to the deed’s office (in Ger-

man: Katasteramt) in order to gain information about the value of the plot.)

We now go through activities that are linked to revenue and to expenses and will explain their effects on

profit. The aim is to show the profit calculation by the company’s income statement. We further transfer

the profit to the equity section of the statement of financial position in order to explain how profit in-

creases the owners’ funds.

The company PELZERHAGEN (Pty) Ltd. is established on 1.01.20X7. The company is a hairdresser

salon. The company offers haircuts and gets the money from their customers generally on cash.

PELZERHAGEN (Pty) Ltd.’s owners contribute 100,000.00 EUR (all together) and put it into the com-

pany’s bank account. After the foundation of the business its statement of financial position looks as fol-

lows:



A C, L







A/R A/P



100,000.00 100,000.00

Pelzerhagen (Pty) Ltd.'s


as at 1.01.20X7

Exhibit 9.1: PELZERHAGEN (Pty) Ltd.’s statement of financial position

We are discussing the effects of equity increasing and decreasing activities by the activities below:

- Activity 1: Payment for an expense

- Activity 2: Paying for another expense: labour

- Activity 3: Acquisition of equipment on credit followed by depreciation on the equipment bought

- Activity 4: Service rendered and receiving payments on cash

Activity 1:

PELZERHAGEN (Pty) Ltd. rents a shop in a shopping mile and pays 3,400.00 EUR rent by bank trans-

fer on 2.01.20X7 for the whole year. This amount affects PELZERHAGEN (Pty) Ltd.’s income state-

ment and the asset side on the statement of financial position. Rent is an expense and is going to reduce

the profit earned by PELZERHAGEN (Pty) Ltd. After rent was paid the cash/bank item is reduced by

the amount of the payment which is 3,400.00 EUR. Cash/bank now is 100,000 – 3,400 = 96,600.00

EUR. The income statement contains an item of other expenses that contains all expenses other than

material expenses, labour, and depreciation. The rent is part of other expenses to the extent of 3,400.00

EUR. It is common to combine some expenses in order to provide a good overview about the expenses.

Companies could show all different kind of expenses by their income statement but they actually do not

want to reveal too much information on how they earn profit. They rather keep the income statement

simple and do not go into the details. However, there is no problem in providing a very detailed income

statement which displays a lot of items instead of an aggregated item for other expenses.

(Note, for class room examples and examinations we like to prepare more detailed statements of compre-

hensive income to show the contribution of revenue and expenses to profit.)



[EUR]

Revenue

Other income

0.00

Materials

Labour

Depreciation


Earnings before int and taxes (EBIT) (3,400.00)

Interest

Earnings before taxes (EBT) (3,400.00)


Deferred taxes

Earnings after taxes (EAT) (3,400.00)




Exhibit 9.2: PELZERHAGEN (Pty) Ltd.’s statement of comprehensive income

Activity 2:

PELZERHAGEN pays the salary for the hairdressers of 48,000.00 EUR per bank transfer on 30.06.20X7.

(Note, in order to keep the example simple we assume the amount was paid in the middle of the year. The

date of payment is 30.06.20X7 therefore.)

The amount of 48,000.00 EUR is reduced from the item cash/bank in the balance sheet and is an expense

with regard to the statement of comprehensive income at the same time. On the statement of financial

position the item for cash/bank now is 96,600 – 48,000 = 48,600.00 EUR. The income statement con-

tains another expense which is labour: 48,000.00 EUR.



[EUR]

Revenue

Other income

0.00

Materials

Labour 48,000.00

Depreciation



Interest



Deferred taxes






Activity 3:

On 3.01.20X7 the hairdresser salon PELZERHAGEN (Pty) Ltd. buys equipment at cost of acquisition

being 50,000.00 EUR and agrees with its supplier to pay the amount in the next year. The statement of

financial position from now on displays an item of property, plant, and equipment and a short-term liabil-

ity as well. The acquisition itself is not affecting profit and loss yet. PELZERHAGEN (Pty) Ltd. only

exchanged a liability to property. The business now got equipment and has created an obligation to pay

for it. Only the use of the equipment is regarded as an expense, see below:

The equipment bought can be used over the next 5 periods. Furthermore, PELZERHAGEN (Pty) Ltd.

assumes that the use of the equipment will reduce its value in a constant pattern. This means the reduction

of the equipment’s value amounts to the same extent every year. After 5 years of use there won’t be any

value assigned to the assets anymore. This means the equipment totally get finished up. According to this

information, the company considers an expense called depreciation being 50,000 / 5 = 10,000.00 EUR

every year. The company shows depreciation as an expense in the statement of comprehensive income as

at 31.12.20X7 – observe below.



[EUR]

Revenue

Other income

0.00

Materials

Labour 48,000.00

Depreciation 10,000.00



Interest



Deferred taxes





Exhibit 9.4: PELZERHAGEN (Pty) Ltd.’s income statement

Activity 4:

PELZERHAGEN (Pty) Ltd. renders services as haircuts to its customers and earns 130,000.00 EUR rev-

enue. We assume this activity only takes place on 20.12.20X7. The money is paid by their customers on

cash immediately. The amount of cash/bank in the balance sheet increases by this activity. The new

amount is 48,600 + 130,000 = 178,600.00 EUR (after the transaction). The amount for the revenue is to

be shown in the first line of the statement of comprehensive income.

All activities are considered by the income statement by now.

The income statement further contains a line for income tax expenses. Taxes are paid proportionally de-

pending on the profit. The total income tax rate here amounts to 30 % of the profit before taxation –

called pre-tax profit also. According to the tax calculation, PELZERHAGEN (Pty) Ltd. has to pay 0.30 x

68,600 = 20,580.00 EUR on taxes. The amount is due in the next year. (Compare this to the conventions

described in the first chapter!) So, PELZERHAGEN (Pty) Ltd. will show a liability for income taxes that

amounts to 20,580.00 EUR in their balance sheet.

(Note, privately owned companies do not pay taxes. The amount for taxation is linked to the owners tax

statement and depends on their private tax payment obligation.)



[EUR]

Revenue 130,000.00

Other income

130,000.00

Materials

Labour 48,000.00




Interest


Income tax expenses 20,580.00

Deferred taxes






The profit earned by the company increases the owners’ funds. It is to be transferred to equity on the

balance sheet accordingly. This means there is an increase of the company’s value also because equity can

be seen as the company’s value in terms of company valuation.

Note, there are further methods to determine the company’s amount like the discounted cash flow meth-

od but measuring equity is the simplest one.)

Observe the statement of financial position of PELZERHAGEN (Pty) Ltd.

Note, the amount for the equipment therein is the cost of acquisition less depreciation: 50,000 – 10,000 =

40,000.00 EUR.

A C, L







A/R A/P 50,000.00


Cash/Bank 178,600.00 Tax liabilities 20,580.00

218,600.00 218,600.00



as at 31.12.20X7




Summary:

Activities that affect profit/loss of a business are shown on the statement of comprehensive income. The

difference between revenue and expenses is the profit. A negative profit is called a loss. Income taxes here

amount to a constant percentage of the pre-tax profit. Losses do not cause income taxes. The earnings

after taxes (EAT) increase the owners’ equity in the balance sheet when positive.

Definitions:

Revenue: Revenue is an increase of resources flowing to the company as a compensation for goods sold

or service rendered.

Expenses: Expenses are all kind of resources’ use by the company’s activity by which the value of the

resources decreases. Expenses often mean to consume the resources.



(10) Introduction to T-Accounts


In this chapter we’ll introduce T-accounts to support the preparation of financial statements as introduced

so far (statement of financial position and statement of comprehensive income). The use of accounts will

make the preparation of financial statements much easier.

The activities discussed in the previous chapters all change items of the balance sheet and/or the income

statement. It would be possible to make those changes on the financial statements after each and every

activity but it would keep the bookkeeper quite busy. In order to simplify the process of preparing finan-

cial statements companies use accounts. The accounts form the bookkeeping records. All changes caused

by business activities will be posted to the accounts in the first place. Only at the end of the accounting

period the accounts are balanced off and their balancing figures will be copied to the financial statements.

(Note, the German way of bookkeeping is different. Accounts are closed off to the closing account and

then transferred to the financial statements.)

In order to understand bookkeeping procedures we introduce T-accounts. They got two sides. One side

contains all increases and the opposite side displays all decreases. We now are going to introduce a Cash

account. The account got an opening value of a 100.00 EUR. It will look as below.

D C

OV 100.00

Cash

Exhibit 10.1: T-Account „Cash“

Every account gets a name. The account is identified by this name and often by an ID number. All names

of accounts are listed by a chart of accounts. A chart of accounts is necessary in order to use the same

account names over different companies. Companies that belong to a group will use the same chart of

accounts therefore. There are standard chart of accounts for different kind of companies available. We do

not use any chart of accounts in this ebook Accounting-Intro to keep bookkeeping simple.

The account’s name in exhibit 10.1 is Cash.

The left hand side of the account is called debit side and the opposite one is called the credit side. We

have to mention the currency unit and the level of rounding for the account being used. This already has

been done by the conventions for this ebook Accounting-Intro so we won’t mention it again: The curren-

cy of all accounts in the ebook Accounting-Intro is EUR and the amounts are displayed by two digits after

the decimal point. In case of the Cash account the opening value (OV) amounts to 100.00 EUR.

From the previous chapters we know already that cash is an asset and accordingly the account belongs to

an item on the asset side of the balance sheet.



An asset account is an account which belongs to an asset item on the balance sheet. The opening

amount of asset accounts is always shown on the debit side when positive. The account will show

any increases on the debit side and any decreases on the credit side.

We now observe a few changes of the account:

(1) Input 200.00 EUR

(2) Another input 400.00 EUR

(3) Output 130.00 EUR

(4) Another output 40.00 EUR

(5) Another output 125.00 EUR

D C

OV 100.00 (3) 130.00

(1) 200.00 (4) 40.00

(2) 400.00 (5) 125.00

Cash


The account now contains a few debit entries and a few credit entries. The narrative information given

here is only the reference number of the entries (1) ... (5). We now want to determine how much is in the

Cash account. We say we want to know the account’s balance or the balancing figure of the Cash account

after the entries (1) ... (5) have been made. It is the opening amount plus all increases minus all decreases.

This amounts to 100 + 200 + 400 - 130 – 40 – 125 = 405.00 EUR.

To balance off an account means to determine the balancing figure of an account. The process of

balancing off an account doesn’t affect the value of the account and balancing off can be made at

any time and as often as necessary. The process of balancing off only enters a debit entry and

another credit entry in the same account by the same amount.

When we balance off an account the balancing figure is entered into the account by the reference „balance

carried down“ or „Bal c/d“ or just „c/d“. After we entered the balancing figure into the account on the

credit side the total of the debit side equals to the total of the credit side. Both sums are 700.00 EUR. We

write the balancing figure as opening amount for the next accounting period to the opposite side of where

the entry for the balance carried down has been made. It is called the „balance brought down“ or „Bal

b/d“ or just „b/d“.



D C

OV 100.00 (3) 130.00

(1) 200.00 (4) 40.00

(2) 400.00 (5) 125.00

c/d 405.00

700.00 700.00

b/d 405.00

Cash


In case we want to show the balancing figure of the Cash account on the face of the balance sheet we

make an entry according to the balance brought down in the balance sheet. It would look like below:

A C, L


P, P, E Issued capital





A/R A/P


Cash/Bank 405.00 Tax liabilities

405.00


as at 31.12.20X0

Exhibit 10.4: Cash amount displayed on the balance sheet.

All accounts that are linked to balance sheet’s items on the asset side got the same structure as the Cash

account. They show a positive amount on the debit side, they increase on the debit side and they decrease

on the credit side.

Accounts that are linked to items of the balance sheet’s credit side are inverted. They show the opening

amount on the credit side and increases there also. Decreases are represented by debit entries in those

accounts.

Accounts which are linked to the balance sheet are called real accounts.

Accounts linked to the income statement are called nominal accounts. They can be seen as subor-

dinated accounts to the Retained Earnings account. Remember, the Retained Earnings (R/E) account is

on the credit side. Increases of retained earnings mean revenue is earned. Revenues are represented by

credit entries in revenue accounts. According to that expense accounts will be debited for each and every

expense in the business.



In order to start with accounting we assign one account to each item of the balance sheet and to each item

of the income statement. Accordingly, the accounts in use will be:

(1) Property, plant, and equipment

(2) Intangibles

(3) Financial assets

(4) Inventory

(5) Accounts receivables

(6) Prepaid expenses

(7) Cash/bank

(8) Issued capital

(9) Reserves

(10) Retained earnings

(11) Interest bearing liabilities

(12) Accounts payables

(13) Provisions

(14) Tax liabilities

(15) Revenue

(16) Other income

(17) Materials

(18) Labour

(19) Depreciation

(20) Other expenses

(21) Interest

(22) Income tax expenses

(23) Deferred taxes

The list of accounts is referred to as the chart of accounts. Here, the chart of the accounts is a very

easy one but we’ll stick to it. Later we will use more accounts and will face a 1:n-relationship between

items of financial statements and accounts. This means there can be more than one account for

Cash/Bank e.g. All accounts based on the chart of accounts form the general ledger. A general ledger

contains the basic accounts without any subordinated accounts.

(Note, we’ll introduce subordinated accounts in chapter 16 of this ebook.)

We start to make entries for the cell phone dealer ROHRBACH Ltd. as introduced in chapter 6:

ROHRBACH Ltd. has the following asset accounts in use:

- Property, plant, and equipment

- Inventory

- Cash/bank

We set up the accounts and enter an opening value 250,000.00 EUR for the Cash/Bank account.



D C D C

D C

OV 250,000.00

Cash/Bank

P,P,E Inventory

Exhibit 10.5: ROHRBACH Ltd.‘s accounts

The activities are as follows:

(1) Purchase of 1,000 smart phones and payment by bank transfer of 150,000.00 EUR on 3.01.20X5

(2) Acquisition of 4 shelves at 4,700.00 EUR and payment thereof on 6.02.20X5

(3) Sales of 67 phones and receiving money 10,050.00 EUR on 8.02.20X5. Note, the smart phones were

sold at the same price as they have been bought from the supplier. Accordingly, there is no profit or loss

for this example.

(4) Disposal of 2 shelves on 22.03.20X5. The money obtained amounts to 2,350.00 EUR. Note, the

shelves were sold at the same price as the have been bought at. There is no profit either.

For the entries in the accounts it is common use to mention the date and the contra account. So, the ac-

counts look as displayed by exhibit 10.6:



D C

Cash/Bank 6.02.20X5 4,700.00 Cash/Bank 22.03.20X5 2,350.00

Bal c/d 31.12.20X5 2,350.00

4,700.00 4,700.00

Bal b/d 1.01.20X6 2,350.00

D C

Cash/Bank 3.01.20X5 150,000.00 Cash/Bank 8.02.20X5 10,050.00

Bal c/d 31.12.20X5 139,950.00

150,000.00 150,000.00

Bal b/d 1.01.20X6 139,950.00

D C

OV 1.01.20X5 250,000.00 Inventory 3.01.20X5 150,000.00

Inventory 8.02.20X5 10,050.00 P,P,E 6.02.20X5 4,700.00

P,P,E 22.03.20X5 2,350.00 Bal c/d 31.12.20X5 107,700.00

262,400.00 262,400.00

Bal b/d 1.01.20X6 107,700.00

Inventory

Cash/Bank

P,P,E

Exhibit 10.6: ROHRBACH Ltd.’s accounts

For this ebook Accounting-Intro we are going to simplify the display of the accounts. The bookkeeping

entries only will be identified by the bookkeeping number, here (1) ... (4). The date is mentioned within

the text, so we won’t enter it into the accounts either. The bookkeeping entries made in the accounts for

ROHRBACH Ltd. accordingly look like below:

D C D C

(2) 4,700.00 (4) 2,350.00 (1) 150,000.00 (3) 10,050.00

c/d 2,350.00 c/d 139,950.00

4,700.00 4,700.00 150,000.00 150,000.00

b/d 2,350.00 b/d 139,950.00

D C

OV 250,000.00 (1) 150,000.00

(3) 10,050.00 (2) 4,700.00

(4) 2,350.00 c/d 107,700.00

262,400.00 262,400.00

b/d 107,700.00

Cash/Bank

P,P,E Inventory

Exhibit 10.7: ROHRBACH Ltd.’s accounts



The format used in exhibit 10.7 is very easy to handle and provides you a quick way of making bookkeep-

ing entries in exams also.

(Note, there is no law prescribing regulations about how to make bookkeeping entries. The only require-

ment is that bookkeeping entries have to be made in a clear manner.)

If you compare the balancing figures in ROHRBACH Ltd.’s accounts (check the balances brought down)

you’ll find the same amounts as provided by the balance sheet.

A C, L







A/R A/P



250,000.00 250,000.00

Rohrbach Ltd's


as at 31.12.20X5


We are going to apply the knowledge about accounts for the second example FLASSKAMP AG. In con-

trast to the previous example FLASSKAMP AG has got accounts in use that are linked to the capi-

tal/liability side of the statement of financial position also. We stick to our easy account display as intro-

duced above.

For the example we introduce capital/liability accounts. Capital/liability accounts are linked to capital

or to liabilities will show the opening values on the credit side. They are real accounts. They show

any increases on the credit side and will decrease by entries made on the debit side. Before study-

ing the FLASSKAMP AG case study we observe an account for a bank loan. We want to show an ac-

count continued over more than 1 year thereby. The bank loan is represented by an account interest bear-

ing liabilities and belongs to the capital/liability side of the statement of financial position.

Assume the bank loan’s amount is 100,000.00 EUR and every year there is an amount of 5,000.00 EUR to

be paid-off. Paying-off debts means to pay the money back to the bank which lent us the money. This will

decrease the liabilities.

In this case taking the bank loan gives us an opening value of 100,000.00 EUR that is to be displayed on

the credit side, because the account for interest bearing liabilities is linked to the IBL item on the credit

side of the statement of financial position. The pay-off bookkeeping entries reduce the obligation to pay

money back to the bank and are to be made on the debit side. Every year’s pay-off is 5,000.00 EUR in this

example. Observe the first 2 years of the bank account to understand the way accounts work when they

belong to the capital/liability side and study the difference to asset accounts.



Here, the balances brought down are on the credit side always. This means there is a loan still existing.

Payments to reduce the liabilities are made by debiting the amounts to the account, see bookkeeping entry

(1) and (2). After the first accounting period the balance of the IBL account is 95,000.00 EUR. After 2

years it is 90,000.00 EUR.

D C

(1) 5,000.00 OV 100,000.00

c/d 95,000.00

100,000.00 100,000.00

(2) 5,000.00 b/d 95,000.00

c/d 90,000.00

95,000.00 95,000.00

b/d 90,000.00

Interest bearing liabilities

Exhibit 10.9: Liability account

After 2 years the bank loan is worth 90,000.00 EUR. That is the amount to be displayed on the balance

sheet also.

The sum of the debit and credit entries is shown below a line and is underlined twice. Every account that

has a balancing figure will show this one as balance brought down. If an account is “empty” in the mean-

ing of balanced to zero there won’t be a balancing figure. The sum line will be the last one then.

After we learned the way capital/liability accounts work we’ll go to apply this knowledge for the

FLASSKAMP AG case study. FLASSKAMP AG has to make entries for 8 activities:

(1) Activity 1: Share issue of 50,000 ordinary shares on 1.01.20X3. The issued shares amount to

500,000.00 EUR.

(2) Activity 2: Purchase of 400 grass mowers on credit 92,000.00 EUR on 15.02.20X3.

(3) Activity 3: Taking a bank loan 200,000.00 EUR on 1.03.20X3.

(4) Activity 4: On 4.03.20X3 FLASSKAMP buys a new show room at 600.000,00 EUR and agrees to pay

later.

(5) Activity 5: On 18.03.20X3 FLASSKAMP AG pays the amount due for the show room into the seller’s

bank account. It is 600,000.00 EUR.

(6) Activity 6: FLASSKAMP AG sells 100 grass mowers on credit on 16.05.20X3. The amount is

23,000.00 EUR.

(7) Activity 7: On 9.06.20X3 FLASSKAMP AG’s customers pay 23,000.00 EUR for the grass mowers

into the company’s bank account.

(8) Activity 8: On 11.06.20X3 FLASSKAMP AG pays the amount of 92,000.00 EUR owing the grass

mower’s supplier into his bank account.

The accounts in use for FLASSKAMP AG case study are:




- Inventory

- Accounts receivables

- Cash/bank

- Issued capital

- Interest bearing liabilities

- Accounts payables.

Observe the accounts and their entries in the exhibit 10.10 below yourself:

D C D C

(4) 600,000.00 c/d 600,000.00 c/d 500,000.00 (1) 500,000.00

b/d 600,000.00 b/d 500,000.00

D C D C

(2) 92,000.00 (6) 23,000.00 c/d 200,000.00 (3) 200,000.00

c/d 69,000.00 b/d 200,000.00

92,000.00 92,000.00

b/d 69,000.00

D C D C

(6) 23,000.00 (7) 23,000.00 (5) 600,000.00 (2) 92,000.00

(8) 92,000.00 (4) 600,000.00

692,000.00 692,000.00

D C

(1) 500,000.00 (5) 600,000.00

(3) 200,000.00 (8) 92,000.00

(7) 23,000.00 c/d 31,000.00

723,000.00 723,000.00

b/d 31,000.00

Cash/Bank

Inventory Interest bearing liabilities

A/R A/P

P,P,E Issued Capital

Exhibit 10.10: FLASSKAMP AG’s accounts

Compare the balancing figures in the accounts to the balance sheet items. In order to provide a better

overview the asset accounts have been placed to the left hand side and the capital/liability accounts to the

right hand side in exhibit 10.8.

(Note, in general we place the accounts by the order they got used. Only in exhibit 10.10 we provide a

debit-credit-structure for accounts as a kind of extra service.)



A C, L







A/R 0.00 A/P 0.00



700,000.00 700,000.00

Flasskamp AG's


as at 31.12.20X3


Summary:

Accounts will be used to record activities in a business. They contain a debit and a credit side. Entries for

increases of assets will be made on the debit side. Reductions of the assets lead to credit entries in the

asset accounts. Entries for increases of capital or of liability will be made on the credit side. Reductions of

capital and liabilities lead to debit entries in the capital/liability accounts. The balance of the real accounts

is displayed as balance brought down and is copied into the statement of financial position.

Definitions:

Real Account: Accounts which are linked to the balance sheet are called real accounts.

Nominal Account: Accounts linked to the income statement are called nominal accounts.

General Ledger: A general ledger contains the basic accounts without any subordinated accounts.

Asset Account: An asset account is an account which belongs to an asset item on the balance sheet. The

opening amount of asset accounts is always shown on the debit side when positive. The account will show

any increases on the debit side and any decreases on the credit side.

Capital/Liability Account: Capital/liability accounts are linked to capital or to liabilities will show the

opening values on the credit side. They are real accounts. They show any increases on the credit side and

will decrease by entries made on the debit side.

Balancing off an Account: To balance off an account means to determine the balancing figure of an

account. The process of balancing off an account doesn’t affect the value of the account and balancing off

can be made at any time and as often as necessary. The process of balancing off only enters a debit entry

and another credit entry into the same account by the same amount.

Chart of Accounts: The list of accounts is referred to as the chart of accounts.



(11) T-Accounts for Profit and Loss


In this chapter we’ll deal with nominal accounts representing income and expenses. The outcome of the

chapter is to learn how to make bookkeeping entries for profit relevant activities and how to use the Profit

and Loss account.

So far we only used real accounts. Therefore, no profit and loss calculation could be made based on

bookkeeping records yet. We’ll start to use revenue and expense accounts by now. Revenue will increase

the profit of the business. Revenue entries are made on the credit side. All expenses will reduce the profit.

Bookkeeping entries for expenses will be debit entries. Remember, equity changes through the Retained

Earnings account when resulting from profit or loss at first.

The PELZERHAGEN (Pty) Ltd case study is about profit and loss. In order to understand accounts that

are linked to the income statement it is necessary to understand that the difference between revenues and

expenses is closed off to equity later. A revenue is therefore a contribution to equity. As equity is on the

capital/liability side of the balance sheet revenues are entered on the credit side of the account. Every

expense will reduce the profit and the equity. As it is so, all expenses require making debit entries in the

accounts.

Another difference between real and nominal accounts is the fact that revenue and expenses cannot be

stored as they are of no physical nature. For that reason expenses and revenues need to be transferred to

an account called Profit and Loss account (P&L account). The Profit and Loss account gathers all revenue

and expenses of the accounting period. We close off all nominal accounts to the Profit and Loss account

which means we transfer all revenues and expenses to the Profit and Loss account at the end of the ac-

counting period. The balancing figure of the P&L account then is transferred to Retained Earnings on the

balance sheet. If you understand this process you’ll easily realize why revenues are always credited and why

expenses are always debited to the accounts.

We now go through the PELZERHAGEN (Pty) Ltd. case study which is about the hairdressers salon. It

will show us the bookkeeping entries for revenue and expenses and the closing-off to the Profit and Loss

account. The case study contains 4 activities:

(1) Paying rent 3,400.00 EUR by bank transfer on 2.01.20X7.

(2) Paying salaries 48,000.00 EUR by bank transfer on 30.06.20X7.

(3a) Acquisition of equipment 50,000.00 EUR on credit on 3.01.20X7 and (3b) depreciating on equipment

on 31.12.20X7.

(4) Earning revenue 130,000.00 EUR on 20.12.20X7.

PELZERHAGEN (Pty) Ltd. has the following accounts in use:


- Cash/bank

- Issued capital

- Revenue

- Other expenses (rent)



- Salaries

- Profit and Loss account

- Income tax expenses

At the beginning of the year PELZERHAGEN (Pty) Ltd.’s balance sheet looks as below:

A C, L







A/R A/P



100,000.00 100,000.00



as at 1.01.20X7


The first step for the accountant is to transfer the opening values into the accounts. It gives entries for

opening values (OV). In a normal business that would be already be done and the opening amounts will

appear as balances brought down. Here and very often in exam tasks the accounts won’t be given to you.

In order to start bookkeeping do not forget to transfer the opening amounts provided by the statement of

financial position to the accounts as opening values or as balances brought down. In the

PELZERHAGEN (Pty) Ltd. case study there are opening values for the Cash/Bank account and for is-

sued capital. You are supposed to transfer them to the T-accounts, namely to the Cash/Bank account and

the Issued Capital account.

(Note, at this stage we are using a very simple structure for accounting. E.g. we do not distinguish be-

tween cash and bank. For the case studies the entries all are made in one account. The same applies for

the issued capital. We have one account in use only. In real companies there can be more accounts for

different sorts of shares. PELZERHAGEN (Pty) Ltd. is no company based on shares.



D C D C

OV 100,000.00 (1) 3,400.00 c/d 100,000.00 OV 100,000.00

(4) 130,000.00 (2) 48,000.00 b/d 100,000.00

c/d 178,600.00

230,000.00 230,000.00

b/d 178,600.00

D C D C

(3a) 50,000.00 (3b) 10,000.00 (1) 3,400.00 c/d 3,400.00

c/d 40,000.00 b/d 3,400.00 P&L 3,400.00

50,000.00 50,000.00

b/d 40,000.00

D C D C

(2) 48,000.00 c/d 48,000.00 c/d 10,000.00 (3a) 50,000.00

b/d 48,000.00 P&L 48,000.00 b/d 50,000.00

D C D C

c/d 130,000.00 (4) 130,000.00 Sal. 48,000.00 Rev 130,000.00

P&L 130,000.00 b/d 130,000.00 Depr 10,000.00

Rent 3,400.00

EBT c/d 68,600.00

130,000.00 130,000.00

ITL 20,580.00 b/d 68,600.00

R/E 48,020.00

68,600.00 68,600.00

D C D C

c/d 48,020.00 P&L 48,020.00 c/d 20,580.00 P&L 20,580.00

b/d 48,020.00 b/d 20,580.00

D C

(3b) 10,000.00 c/d 10,000.00

b/d 10,000.00 P&L 10,000.00

R/E Income tax liabilities

Depreciation

Revenue Profit and Loss

P,P,E Rent

Salaries A/P

Cash/Bank Issued Capital

Exhibit 11.2: PELZERHAGEN (Pty) Ltd.’s accounts

Observe all bookkeeping entries made for the activities. They can be identified by the ID numbers of the

activities (1) ... (4) in the accounts. After making the bookkeeping entries all real accounts are balanced off

and the balancing figure is taken to the statement of financial position. E.g. the Cash/Bank account’s bal-

ancing figure is 178,600.00 EUR. The amount for the balance brought down is on the debit side of the

Cash/Bank account. We call an account like that one a debit balanced account. In case of the Cash/Bank



account this means PELZERHAGEN (Pty) Ltd. has money on cash or in the bank. A credit balanced

account indicates an overdraft of the bank account. On the face of the balance sheet the amount for

Cash/Bank is visible as an item as well. Observe below.

After making bookkeeping entries for the 4 activities the nominal accounts will be closed off to the Profit

and Loss account. This affects the Rent account, the Salary account, the Revenue account, and the Depre-

ciation account. E.g. the amount for rent is 3,400.00 EUR. There is an entry in the Rent account at the

amount of 3,400.00 EUR on the debit side. The ID for that entry is (1). The account later is balanced-off

and reveals a balance brought down on the debit side. All expense accounts are debit balanced. See the

Salary account and the Depreciation account also. In contrast the Revenue account is credit balanced.

Observe the balance brought down at an amount of 130,000.00 EUR being on the credit side therein.

Balancing-off Rent and to close off to another account means to transfer its balancing figure to the ac-

count which the Rent account is closed off to. Here the balance is transferred to the Profit and Loss ac-

count. See the entry P&L on the credit side of the Rent account. By this transfer the Rent account has no

balancing figure anymore because it is zero. The account can be deleted. It is closed-off. The balancing

figure now is in the Profit and Loss account. See its 3rd line. The reference there is Rent account. The

transfer means a debit entry in the Profit and Loss account and a credit entry in the Rent account with the

same amount. Here, the amount is 3,400.00 EUR.

The Profit and Loss account receives all revenues and expenses. Here, it got debit entries for Salaries, for

Depreciation, and Rent. The total of the expenses the Profit and Loss account gets is 48,000 + 10,000 +

3,400 = 61,400.00 EUR. Furthermore, the Profit and Loss account receives the revenue from the Reve-

nue account being 130,000.00 EUR. The pre-tax profit amounts to 130,000 – 61,400 = 68,600.00 EUR.

The amount is calculated by balancing-off the Profit and Loss account. The Profit and Loss account

shows the pre-tax profit called EBT c/d to indicate that the amount has been calculated by balancing off

the account.

The Profit and Loss account contains the same information as the income statement. Compare the ac-

count to the income statement below:



[EUR]

Revenue 130,000.00

Other income

130,000.00

Materials

Labour 48,000.00




Interest



Deferred taxes






For tax calculation see the statement of comprehensive income at first! The income tax is deducted from

the earnings before taxes (= pre-tax profit) in order to arrive at the earnings after taxes. Along the conven-

tions agreed on for this ebook Accounting-Intro the total income tax rate is 30 %. In the income state-

ment the amount for taxes is deducted from earnings before taxes. The result is the annual surplus also

known as earnings after taxes.

We now continue the Profit and Loss account the same way we did with the interest bearing liability ac-

count in exhibit 10.9.

The debit entry in the Profit and Loss account represents income tax expenses which amount to 68,600 x

0.3 = 20,580.00 EUR. The contra entry is in the Income Tax Liability account. The remaining amount for

the earnings after taxes is transferred to the Retained Earnings account. You can see the debit entry with

the reference R/E therefore. The Retained Earnings account is a real account. It belongs to the credit side

of the statement of financial position. The amount transferred 48,020.00 EUR can be observed on the

face of the statement of financial position as part of the equity section.

See below the statement of financial position:



A C, L







A/R A/P 50,000.00



218,600.00 218,600.00



as at 31.12.20X7


Summary:

Accounts help to prepare financial statements. The accounts are linked to items of the balance sheet and

to items of the income statement. The income statement is prepared by the Profit and Loss account. All

accounts that represent revenues will be credited – all accounts for expenses will be debited.

The amount of earnings after taxes in the Profit and Loss account is transferred to the Retained Earnings

account. Income tax expenses require being credited to the Income Tax Liability account on the statement

of financial position.



(12) Introduction to Bookkeeping Entries


We here introduce bookkeeping entries as the language for accounting. We also explain the double entry

system as an underlying concept of how to make bookkeeping entries.

In the previous chapters we made entries in items of the statement of financial position and in the state-

ment of comprehensive income and later in accounts already. At first we made entries in the asset ac-

counts. We saw that activities always triggered at least two entries. Once one asset increases another one

decreases. Later we made entries in asset, capital, and liability accounts. When an activity causes an asset to

increase another asset decreases or a capital or liability increase. In the last chapter we made entries in

nominal accounts, too. So far we just made the entries in the statements or in the accounts but we did not

write down the entries. However, we are going to start writing and learning complete bookkeeping entries

from this chapter onwards. Furthermore, we’ll acknowledge that a lot of similar activities exist that lead to

the same kind of bookkeeping entry.

(Note, after a while you know the bookkeeping entries by heart without learning them.)

Bookkeeping entries contains the information

- which account is affected,

- on which side an entry is made (debit or credit side),

- which amount is recorded, and

- when the recording is made.

(Note: in German we talk about a bookkeeping entry when we mean the whole recording linked to an

activity. According to that understanding the bookkeeping entry contains Soll- and Habenbuchung. In

English we call the debit entry an entry already. So does the credit entry also. So, the activity causes at least

two entries, one debit entry and one credit entry. When we want to refer to both entries we call them

bookkeeping entry. Otherwise we say/write debit or credit entry.)

The grammar for bookkeeping entries is:

Recording on the debit or credit side: We indicate by writing debit entry or credit entry which side of the

account is increased. There are no deductions in accounts possible. Bookkeepers only add to accounts.

They add to the debit side or the credit side.

Account’s name: The account name is written into the bookkeeping entry. In case we have a chart of ac-

count in use which contains numbers for identifying accounts the ID number is written down also. E.g.

3100 Bank account.

Amount recorded: the amount is written down correctly and in full. There no rounding or whatsoever

allowed. Bookkeeping entries are at the exact amount which contains the full EUR amount plus two digits

for the EUR-cent.

(Note, we sometimes observe students rounding figures to the next 1,000.00 EUR in exams and later

claim the problems being caused are subject to rounding differences. That will be a no-go. Don’t waste

your exam results by something like that!)



The bookkeeping entries for activities contain debit and credit entries. At least there is one debit entry and

one credit entry. In case of compound bookkeeping entries that contain more than one debit entry or

more than one credit entry the sum of debit entries equals to the total of credit entries.

Date: the date of the bookkeeping entry is mentioned next to the bookkeeping entry. The date is exact to

the day. No time is required to record.

It is common bookkeeping rule that a bookkeeping entry never get changed. This comes from the time

bookkeeping entries were made on paper. There is no changing or correcting of entries allowed. Once the

entry is made it stays as it is. You can make further entries to compensate a wrong entry but you can never

delete or modify a bookkeeping entry. However, if the bookkeeping entry is wrong with regard to the

grammar it has to be corrected. Today’s software applications don’t allow you to make wrong bookkeep-

ing entries. They check the entries before posting. However you’ll make entries on paper in the university

and maybe on MS Excel also which means you make bookkeeping entries without pre-checking.

There is a special concept for making bookkeeping entries we have obeyed in the last chapters already.

The concept is called the double entry system and is closely linked to the accounting equation we intro-

duced in chapter 2 by the KENSINGTON CAFETERIA case study. The accounting equation states that

the total of assets equals to the total of capital and liabilities. Accordingly, there is no way to make only

one entry. Assume you added some amount to the Cash account. Immediately, the total of asset would

exceed the total of capital and liabilities. This means a breach of the accounting equation. Because the

accounting equation applies an increase in the Cash account strictly requires a decrease in another asset

account or an increase in a capital or liability account. For that reason, every bookkeeping entry contains

at least two entries.

We take a further look at the accounting equation. We acknowledged that an increase of an asset requires

a decrease of another one or an increase in capital or liabilities at the same time for the sake of the ac-

counting equation’s fulfilment. The first increase of an asset would be a debit entry. The following de-

crease of another asset or increase of a capital account or increase of a liability account all causes credit

entries.

We now understand why a bookkeeping entry always contains a debit entry and a credit entry.

We soon will introduce compound bookkeeping entries where more than one debit entry or more than

one credit entry is made. For now we focus on the activities we learned about in the previous chapters.

They only contain single bookkeeping entries which contain one debit entry and one credit entry.

Check all entries we made so far in the previous chapters and you will see that we always made for each

and every activity one entry in an account on the debit side and a contra entry in another account on the

credit side. If you follow this rule strictly the debit side and the credit side of the balance sheet will equal

to each other. This concept of making debit entries and credit entries together is referred to as the double

entry system. The concept is based on the accounting equation as explained above.

In order to describe the bookkeeping entries it is common language to name the debit entry first. The

debit entry is followed by the credit entry. In case there are more than one debit entry or more credit en-

tries the debit entries are mentioned at first followed by the credit entries. Within the debit entries and

within the credit entries there is no rule about the sequence. The debit entry is introduced by the abbrevia-

tion DR that stands for debit recorded. It is followed by CR (for credit recorded).



In this ebook we describe bookkeeping entries always in a bold style to highlight them within the text. We

further use a non-proportional style (Courier new) to write the figures at the same position always. This

helps you to add up the debit and credit entries.

(Note, you should do so in exams also. Students recording bookkeeping entries chaos like are likely to

make mistakes therefore often.)

We observe the first example ROHRBACH Ltd. At the beginning of the fiscal year ROHRBACH has an

amount of 250,000.00 EUR in the bank account. The activity (1) is about the purchase of cell phones

which are put on stock on 3.01.20X5. The bookkeeping entry is as below:

(1) Purchase of material on 3.01.20X5

DR Inventory ........................ 150,000.00 EUR

CR Cash/Bank ........................ 150,000.00 EUR

(Note that we do not write the date into the bookkeeping entries as this has been mentioned by the text.)

All entries made with regard to activities are identified by a number displayed in brackets. The bookkeep-

ing description always contains the date. Bookkeeping entries made in order to prepare the financial

statements are referred to as adjustments. They do not have an ID number. Their date is in general the

31.12. of the year called the balance sheet day. For quarterly statements it will be the quarter’s last day, as

the 31.03., the 30.06., or the 30.09.

(Note, per conventions we do not prepare quarterly reports nor do we prepare financial statements on

other dates than 31.12.)

Furthermore, we do not indent credit entries as many accounting text books do.

DR Inventory 150,000.00 EUR

CR Cash/Bank 150,000.00 EUR

Only for the sake of the format of the paperback text book Bilanzen we write bookkeeping entries at the

same position as the credit entries. If you find it more easy to use indentions for the credit entries feel free

to do so!

It is important to check whether or not the amount of all debit entries equals to the sum of all credit en-

tries. As for now only one debit entry and one credit entry has been made it is easy to check. For com-

pound bookkeeping entries you always should make sure you still follow the double entry system by add-

ing debit entries and comparing them to the total of credit entries. This is the reason why bookkeepers

normally are used to write credit entries a few centimetres more to the right.

If you compare the accounts for the ROHRBACH Ltd. case study you’ll see that the bookkeeping entries

(1) are one debit entry in the Inventory account and a contra entry on the credit side of the Cash/Bank

account.

The second activity is about the acquisition of the shelves:

(2) Acquisition of shelves 4,700.00 EUR on 6.02.20X5:

DR PROPERTY, PLANT, AND EQUIPMENT ... 4,700.00 EUR

CR Cash/Bank ........................ 4,700.00 EUR



The third entry is about the sales of the smart phones at 10,050.00 EUR. Note, at this stage we do not

consider revenue or profits and therefore only make ROHRBACH Ltd. sell the phones at their purchase

price.

(3) Sales of phones on 8.02.20X5

DR Cash/Bank ........................ 10,050.00 EUR

CR Inventory ........................ 10,050.00 EUR

The last bookkeeping entry for ROHRBACH Ltd. is the disposal of a non-current asset, two phone

shelves in particular. The company sold 2 of the shelves on 22.03.20X5. The amount paid by the buyer

was at the cost of ROHRBACH Ltd.’s acquisition. So, ROHBACH Ltd. did not earn a profit by the dis-

posal of the shelves. The bookkeeping entry is:

(4) Disposal of shelves on 22.03.20X5

DR Cash/Bank ........................ 2,350.00 EUR

CR P, P, E .......................... 2,350.00 EUR

These were all bookkeeping entries ROHRBACH Ltd. makes in chapter 7.

The bookkeeping entries for the FLASSKAMP AG case study are a few more. In contrast to the

ROHRBACH Ltd. case study they consider the asset side of the statement of financial position and the

credit side (for capital and liabilities) as well. Furthermore, the FLASSKAMP AG example can be used to

explain the double entry system better than ROHRBACH Ltd. because the case study starts from the

scratch on.

The first bookkeeping entry made for FLASSKAMP AG is the share issue on 1.01.20X3. FLASSKAMP

AG issued 50,000 ordinary shares at 10.00 EUR each. The money obtained by the share issue increases

the Cash/Bank account by 50,000 x 10 = 500,000.00 EUR. At the same time the capital of the business

increases. The Issued Capital account belongs to the credit side of the statement of financial position. For

that reason the account is to be credited. The bookkeeping entry is:

(1) Share issue 500,000.00 EUR on 1.01.20X3:

DR Cash/Bank ........................ 500,000.00 EUR

CR Issued Capital ................... 500,000.00 EUR

We quickly check the fulfilment of the accounting equation. The total of assets is 500,000.00 EUR. So is

the total of capital and liabilities.

The next bookkeeping entry FLASSKAMP AG makes is about purchasing inventory. The business buys

grass mowers on credit. This means there is an obligation to pay the amount later. Here, the amount of

current assets (grass mowers) increases by 92,000.00 EUR and the short-term liability to pay the supplier’s

bill increases also.

(2) Purchase of inventory 92,000.00 EUR on 15.02.20X3:

DR Inventory ........................ 92,000.00 EUR

CR Accounts Payables ................ 92,000.00 EUR



We are going to check the accounting equation again. Now the total of assets amounts to 92,000 +

500,000 = 592,000.00 EUR. The total of capital and liabilities is 500,000 + 92,000 = 592,000.00 EUR.

The accounting equation still is fulfilled after making bookkeeping entry (2).

Later FLASSKAMP AG takes a bank loan. The amount is put into the bank account and is a payment

obligation at the same time because FLASSKAMP AG has to pay off the amount later.

(3) Taking a bank loan 200,000.00 EUR on 1.03.20X3:

DR Cash/Bank ........................ 200,000.00 EUR

CR Interest Bearing Liabilities ..... 200,000.00 EUR

We check again the fulfilment of the accounting equation at this stage. The total of assets is 92,000 +

700,000 = 792,000.00 EUR. The total on the credit side of the balance sheet is 500,000 + 200,000 +

92,000 = 792,000.00 EUR.

(Note, the bank account is displayed at the amount which is to be paid-off later. There is no discounting

for liabilities at this stage of the ebook Accounting-Intro. Acknowledge further, although a bank loan

contains an obligation to pay interest the payment for interest is not subject to a credit entry in a liability

account. However, interest is a payment paid out of the future cash flows.)

FLASSKAMP AG uses the money obtained by the bank loan and provided by its shareholders to buy a

show room. A show room is a non-current asset and is an item of property, plant, and equipment. The

acquisition increases the assets and increases the payables at the same time.

(4) Acquisition of a show room 600,000.00 EUR on 4.03.20X3:

DR Property, Plant, and Equipment ... 600,000.00 EUR

CR Account Payables ................. 600,000.00 EUR

Once more we check the accounting equation. The total of assets now is 600,000 + 92,000 + 700,000 =

1,392,000.00 EUR. The total of capital and liabilities is 500,000 + 200,000 + 692,000 = 1,392,000.00

EUR.

On 18.03.20X3 FLASSKAMP AG pays the amount owing the show rooms seller by bank transfer. This

transaction reduces the amount of money in the Cash/Bank account. It will be credited for that reason.

The payment dissolves the liability also which leads to a debit entry because the Accounts Payables ac-

count is on the credit side and decreases of liabilities are made by debiting the account. See the bookkeep-

ing entry as below:

(5) Pay-off of the short term liabilities for the show room on 18.03.20X3:

DR Accounts Payables ................ 600,000.00 EUR

CR Cash/Bank ........................ 600,000.00 EUR

We check the accounting equation again. The total of assets now is 600,000 + 92,000 + 100,000 =

792,000.00 EUR. The total of capital and liabilities is 500,000 + 200,000 + 92,000 = 792,000.00 EUR.

FLASSKAMP AG sells goods for 23,000.00 EUR on 16.05.20X3. The money has not yet been paid by

the customers. Accordingly, FLASSKAMP AG makes an entry in the Accounts Receivables account

which means the company still requests the money transfer from its customers. The Accounts Receivables

is an asset as it represents a claim against the customers to pay for the goods.



(Note, the expression „on credit“-sales for a sale which is not on cash sounds wrong as there is a debit

entry to be made in the Accounts Receivables account.)

(6) Sales of goods on 16.05.20X5 at an amount of 23,000.00 EUR on credit

DR Accounts Receivables ............. 23,000.00 EUR

CR Inventory ........................ 23,000.00 ERU

The accounting equation is still fulfilled after this bookkeeping entry. The total of assets is 600,000 +

69,000 + 23,000 + 100,000 = 792,000.00 EUR. The total of the capital and liability accounts amounts to

500,000 + 200,000 + 92,000 = 792,000.00 EUR.

The money for the goods sold (grass mowers) is paid by FLASSKAMP AG’s customers on 9.06.20X3.

This means an increase of money in the Bank account and the balancing-off of the Accounts Receivables

account. Increase of an asset means a debit entry (in the Cash/Bank account) and to dissolve the Ac-

counts Receivables account requires crediting the amount to the account.

(7) Payment of 23,000.00 EUR received from customers on 9.06.20X3:

DR Cash/Bank ........................ 23,000.00 EUR

CR Accounts Receivables ............. 23,000.00 EUR

The accounting equation is fulfilled. The total of assets is 600,000 + 69,000 + 123,000 = 792,000.00

EUR. The total of capital and liability accounts amounts to 500,000 + 200,000 + 92,000 = 792,000.00

EUR.

The last bookkeeping entry for FLASSKAMP AG is the payment for the delivered grass mowers. The

payment puts FLASSKAMP AG out of the short-term debts as the Accounts Payables account will be

balanced-off. Paying money means a decrease of cash or bank and deleting the Accounts Payables ac-

counts requires debiting it.

(8) Paying-off debts 92,000.00 EUR on 11.06.20X3:


CR Cash/Bank ........................ 92,000.00 EUR

Now the accounting equation looks as follows 600,000 + 69,000 + 31,000 = 500,000 + 200,000 =

700,000.00 EUR. The total of assets is on the left hand side of the equation and the total of capital and

liabilities is on the right side thereof.

Compare the bookkeeping entries made in this chapter to the accounts displayed in exhibit 10.8!

From now on we trust in the correct way of making bookkeeping entries along the double entry system.

We do not further check the fulfilment of the accounting equation for the following case studies there-

fore.

The next case study PELZERHAGEN (Pty) Ltd. contains bookkeeping entries that affect profit and loss.

There are nominal accounts involved.

In contrast to real accounts nominal accounts are closed off to the Profit and Loss account. To close off

an account to another one means to balance off an account and to transfer the balancing figure

into another account. Here, closing off to the Profit and Loss account means the balance of an expense



account and of a revenue account will be transferred to the Profit and Loss account. For this we use some

bookkeeping entries which are not linked to the original activities but to adjustments. We mark the origi-

nal bookkeeping entries by numbers like bookkeeping (1): DR Rent 3,400.00 EUR – CR Cash/Bank

3,400.00 EUR. In case we close off the Rent account we don’t use ID numbers but enter an abbreviation

for the contra account in the Rent account. Go back to exhibit 11.2. Look at the Rent account. You’ll find

a credit entry therein named P&L which stands for Profit and Loss account.

We now take a closer look at the PELZERHAGEN (Pty) Ltd. case study and the bookkeeping entries

thereof. At the beginning of the fiscal year PELZERHAGEN (Pty) Ltd. has an amount of 100,000.00

EUR in the bank account. The item cash/bank shows 100,000.00 EUR. The same amount is in issued

capital on the credit side of the statement of financial position. The amounts were given to be opening

values for the case study and are marked by OV which is the abbreviation for opening value.

PELZERHAGEN (Pty) Ltd.‘s first activity takes place on 2.01.20X7. PELZERHAGEN (Pty) Ltd. pays

rent to an extent of 3,400.00 EUR. Paying rent is an expense. All expenses will decrease the profit which is

linked to the Retained Earnings account. R/E is an item on the credit side of the statement of financial

position. According to that position, there is a debit entry to be made in the expense account. As rent has

been paid by bank transfer the Cash/Bank account is credited.

(1) Rent of 3,400.00 EUR paid by bank transfer on 2.01.20X7:

DR Rent ............................. 3,400.00 EUR

CR Cash/Bank ........................ 3,400.00 EUR

On 30.06.20X7 PELZERHAGEN (Pty) Ltd. pays 48,000.00 EUR salaries by bank transfer. We are going

to explain the amounts for labour in chapter 19 of this ebook Accounting-Intro in more detail. Right now

we see labour as an expense paid to the employees. We call it salaries here.

The amount for labour will decrease the profit as it is an expense. There is a debit entry to be made in the

Labour account. The Cash/Bank account is credited because PELZERHAGEN (Pty) Ltd. pays by trans-

ferring the amount into their employees’ accounts.

(2) Paying for labour on 30.06.20X7:

DR Salaries ......................... 48,000.00 EUR

CR Cash/Bank ........................ 48,000.00 EUR

The next activity is linked to the non-current assets. It contains two bookkeeping entries. The first one is

for the acquisition of the equipment and the second one is linked to the depreciation thereof. We firstly

focus on the acquisition of the equipment. Equipment is seen as a long term asset as we expect equipment

to stay longer than 1 year in the business. The one-year distinction comes from IAS 1. Right now, we

acknowledge that equipment is to be seen as long-term asset. Accordingly to that classification we use the

expression „acquisition“ instead of buying the asset. All assets that are acquired will go to the Property,

Plant, and Equipment account. PELZERHAGEN (Pty) Ltd.’s acquisition is made on credit. This requires

crediting the Accounts Payables (A/P) account. Observe bookkeeping entry 3a made by

PELZERHAGEN (Pty) Ltd:

(3a) Acquisition of equipment on 3.01.20X7




CR A/P .............................. 50,000.00 EUR

After PELZERHAGEN (Pty) Ltd. bought the equipment its value is decreased by use. Normally, ac-

countants strictly don’t want to be seen as valuers for assets. They make bookkeeping entries for subse-

quent valuations - like depreciation, impairment losses, and revaluations - and recognize revalued assets

for showing the effect on the financial statements’ face. The valuation itself is made by qualified valuers,

not by accountants. Here, the equipment got a useful life to be 5 years. The time an asset can be used is

derived from the experience made in previous accounting periods. In Germany there are so called Afa-

tables which do not apply for this ebook Accounting-Intro as it is about international accounting.

The use of the equipment reduces its value. After the useful life the asset’s value is going to be nil.

PELZERHAGEN (Pty) Ltd. writes-off the amount for equipment by bookkeeping entry (3b). The date

for that bookkeeping entry is 31.12.20X7 because the accountants normally write-off assets at the year end

when they are busy doing adjustments.

Depreciation is an expense. Note, there is no money flow linked to depreciation. You won’t see deprecia-

tion in the cash flow statement therefore. The contra entry has been made in the Property, Plant, and

Equipment account. Again, later we’ll have a special account called Accumulated Depreciation in use for

that. Right now, we are happy with crediting the amount to the P, P, E account.

(Note, this is the only credit entry made in the ebook Accounting-Intro and in the text book Bilanzen for

depreciation. Otherwise we use the Accumulated Depreciation account.

(3b) Depreciation of equipment on 31.12.20X7

DR Depreciation ..................... 10,000.00 EUR

CR Property, Plant, and Equipment ... 10,000.00 EUR

On 20.12.20X7 PELZERHAGEN (Pty) Ltd. makes a bookkeeping entry for revenue. Revenue will in-

crease the profit of the business and leads to a credit entry in the Revenue account. The revenue is earned

on cash by PELZERHAGEN (Pty) Ltd. So, there is a debit entry in the Cash/Bank account. This entry

indicates that cash was received from customers and the amount in the Cash/Bank account increases.

(4) Revenue earned on cash on 20.12.20X7:

DR Cash/Bank ........................ 130,000.00 EUR

CR Revenue .......................... 130,000.00 EUR

By now, the original activities have been posted by PELZERHAGEN (Pty) Ltd.‘s bookkeeper fully.

The next step is about the adjustments. All nominal accounts are either debit balanced or credit balanced.

All expense accounts as Rent, Labour, and Depreciation are debit balanced. All income/revenue accounts

as the Revenue account are credit balanced. Nominal accounts cannot be recognised on the face of the

statement of financial position because they do not represent assets, or equity, or liabilities. They are

closed off to the Profit and Loss account.

The bookkeeping entries for these adjustments are as follows:



DR P&L-Account ...................... 3,400.00 EUR

CR Rent ............................. 3,400.00 EUR

DR P&L-Account ...................... 48,000.00 EUR

CR Salaries ......................... 48,000.00 EUR

DR P&L-Account ...................... 10,000.00 EUR

CR Depreciation ..................... 10,000.00 EUR

DR Revenue .......................... 130,000.00 EUR

CR P&L-Account ...................... 130,000.00 EUR

In the Profit and Loss account you can observe the entries made. “Sal” stands for Salaries, “Depr” stands

for Depreciation, and “Rev” stands for Revenue.

The balancing figure in the Profit and Loss account is called earnings before taxes because the tax reduc-

tion is still to be made. It can be observed as EBTc/d. The “c/d” indicates that the amount is the balance

in the account at this stage. Pre-tax profit is an alternative name for this amount often. Here earnings be-

fore taxes are 130,000 – 3,400 – 48,000 – 10,000 = 68,600.00 EUR. The balance brought down is marked

by b/d.

In order to keep the examples simple we assume the income tax rate to be 30 %. The income taxes re-

quired amount to 0.3 x 68,600 = 20,580.00 EUR. The remaining amount is earnings before taxes less

income taxes 68,600 – 20,580 = 48,020.00 EUR. Do never forget to credit taxes to the Income Tax Lia-

bilities account and to credit the earnings after taxes to the Retained Earnings account because you’ll cause

a breach with the accounting equation otherwise. If the company made a loss you have to debit the loss to

the Retained Earnings account because it decreases equity.

(Note, students often forget to make the contra entries in the Income Tax Liability account and in the

Retained Earnings account.)

DR P&L .............................. 20,580.00 EUR

CR Income Tax Liabilities ........... 20,580.00 EUR

DR P&L .............................. 48,020.00 EUR

CR Retained Earnings ................ 48,020.00 EUR

Right now, all bookkeeping entries have been made.

Compare the real accounts and the recognitions made on the face of the statement of financial position.

You’ll find a 1:1 relationship. All nominal accounts have been closed off to the Profit and Loss account.

The Profit and Loss account is closed off to the Income Tax Liability account and the Retained Earnings

account. As PELZERHAGEN (Pty) Ltd. earns a profit after taxes to be 48,020.00 EUR the equity ac-

counts will increase by the same amount.



Summary:

Bookkeeping entries contain debit entries and credit entries. Bookkeeping follows the double entry system

in order to fulfil the accounting equation. A bookkeeping entry is described by DR/CR, the account

name, the amount, and the date of recording. There is at least one debit entry and one credit entry. Com-

pound bookkeeping entries can have more than one debit entry or more than one credit entry. The total

of debit entries must equal to total of credit entries within one bookkeeping entry.

There are real accounts and nominal accounts. All real accounts are linked to the statement of financial

position and represent assets, equity, or liabilities. Nominal accounts affect the profit of the business. Ex-

penses lead to debit entries and income is credited in income/revenue accounts.

All nominal accounts are closed off to the Profit and Loss account. The profit after taxes is transferred to

the equity section of the statement of financial position. It increases the item retained earnings.

Definitions:

Closing off an account to another one: To close off an account to another one means to balance off an

account and to transfer the balancing figure into another account.



(13) Special Asset Accounts


In this chapter we now introduce some further asset accounts. It is intended to get more familiar with

assets and bookkeeping entries related to assets. We are going to follow the asset structure of the balance

sheet.

Assets are resources from which a future economic benefit is expected to flow to the company. A

future economic benefit can result from the asset’s use in production or from rendering a service or from

using it for administration. Another means to gain an economic benefit is to sell the asset. Along IFRSs

assets are to be displayed on the statement of financial position as long-term and short-term assets. Ac-

cording to that distinction there are accounts for long-term assets and short-term assets. One of the main

differences about long-term and short-term assets is the fact of how long the assets are used. Non-current

assets are investments. They are intended to stay longer in the business and form its main resources.

Long-term assets often are written-off by use whereas short-term assets will be used up by production like

materials for instance. Some assets like land won’t be depreciated at all because they do not loose value by

being in possession of the company and some other assets cannot even be recognised like self-generated

goodwill. We’ll take a closer look at assets in this chapter.

When assets are bought the accountant has to make a decision whether or not those assets are considered

being long-term. The official technical term for long-term assets is non-current assets along IFRSs. The

previous expression fixed assets is no longer in use in order to indicate that assets can be changed. In

general, all items of assets that stay longer than one year/one period within the business are clas-

sified as non-current assets. Examples are land, machinery, equipment, financial assets, and intangible

assets. All assets that stay for shorter than one period in the company are regarded as current assets. So, all

inventories, securities, prepaid expenses and cash will be recognised in the current asset section of the

statement of financial position. Normally, all sorts of inventory are seen as short-term in general. There is

no check whether special slow moving goods stay longer than one period in the business. Furthermore,

cash/bank always qualifies as being a short-term asset.

Non-current Assets:

When a company buys property a debit entry will be made in the Property, Plant, and Equipment account.

There might be the exceptional situation that property counts as investment property. This is land

and/or buildings that are for renting out or hold to make a profit by capital appreciation. They

have to be posted to an extra account called Investment Property account. If and once a business intents

to use the property, it is or will become P, P, E. There are special regulations how an asset is to be reclassi-

fied from investment property to property, plant, and equipment.

POLLOK Ltd. buys land and an office block which is built on that plot. The cost of acquisition is

1,000,000.00 EUR. The land and the building are for POLLOK Ltd.‘s use. The accountant makes the

bookkeeping entry below on 3.05.20X4.

DR P, P, E .......................... 1,000,000.00 EUR

CR Cash/Bank ........................ 1,000,000.00 EUR



LINTON Ltd. acquires a business car on cash. The car obviously is for business use. The car was bought

at the local car dealer at 25,000.00 EUR. The car is like a machine and is put into the P, P, E account. The

accountant makes a bookkeeping entry as below on 4.02.20X6:


CR Cash/Bank ........................ 25,000.00 EUR

NEWTON (Pty) Ltd. buys office furniture on 3.03.20X4. The cost of acquisition is 13,500.00 EUR. The

furniture is bought on credit. That means NEWTON (Pty) Ltd. has to pay the amount later. The furniture

is for use in the business. NEWTON (Pty) Ltd.‘s bookkeeper posts the furniture into the Property, Plant,

and Equipment account on 3.03.20X4 by the bookkeeping entry below:



When a company uses rights in order to produce a product under license they buy the right and have to

recognise it as an intangible asset. The asset’s use can be limited for a particular period of time. An intan-

gible asset is an asset without physical nature. Examples for intangible assets are licenses, warranties,

patents, software, etc. Special intangibles cannot be recognised as there is a prohibition by law. E.g. cus-

tomer lists, patients’ data, etc. cannot be recognised.

Recognizing is an accounting technical term. The accountant understands by recognizing to put an item

into an asset account. Its value will be shown on the statement of financial position. Only those items are

to be recognised the company gains control over.

MISSIONVALE Ltd. intends to produce staplers. There is a company that holds a patent on the special

mechanism for staplers MISSIONVALE Ltd. wants to produce. In order to produce the staplers

MISSIONVALE Ltd. buys a license from the patent holder at 10,000.00 EUR on 6.02.20X3. The patent is

paid by bank transfer. The bookkeeping entry is linked to the intangible asset which is classified as a non-

current one. The bookkeeping entry is made on 6.02.203:

DR Intangible Assets ................ 10,000.00 EUR

CR Cash/Bank ........................ 10,000.00 EUR

KABEGA Ltd. buys shares of McDonald’s Corporation on 24.11.20X6. The company intends to hold the

shares for a longer period of time and expects to benefit from the dividend declared by McDonalds. The

shares are sold at a share price 72.00 EUR/share. KABEGA Ltd. buys 2,000 shares through its house

bank. The face value of the McDonald’s Corporation’s share is 0.01 US-$/share. The price KABEGA

Ltd. paid for the share is relevant for the initial recognition of the asset in KABEGA Ltd.’s records. The

shares value is 2,000 x 72 = 144,000.00 EUR. The bookkeeper puts the shares into the Financial Instru-

ments account on 24.11.20X6.

DR Financial Instruments ............ 144,000.00 EUR

CR Cash/Bank ........................ 144,000.00 EUR

When a company sells assets the asset account will be credited. The amount of money received will be

added to the Cash/Bank account.



SCHAUDER Ltd. owns a truck. Its value is 67,000.00 EUR as recognised on the statement of financial

position. SCHAUDER Ltd. sells the vehicle at a net selling price of 67,000.00 EUR on 4.02.20X6. The

money is received on cash from the buyer when he comes and fetches the truck. The bookkeeper of

SCHAUDER Ltd. makes a bookkeeping entry for the disposal of the truck on 4.02.20X6:

DR Cash/Bank ........................ 67,000.00 EUR


Current Assets:

Current assets are inventories, receivables and cash/bank.

GOVAN Ltd. is a table cloths manufacturer. The company sells on 5.04.20X1 finished goods to a whole

seller at 35,000.00 EUR. The money is received by bank transfer.

DR Cash/Bank ........................ 35,000.00 EUR

CR Inventory ........................ 35,000.00 EUR

When companies make payments in advance – so called prepayments - and the time the service is used is

after the balance sheet’s day they have to transfer them into the Prepaid Expenses account. Examples for

prepaid expenses are rent, labour, insurances, etc.

ALBANS Ltd. orders a magazine from the local book store. The magazine is issued every month. The

magazine is to be paid for a year in advance. The cost for one year is 120.00 EUR. ALBANS Ltd. buys the

magazine on 1.07.20X4 and makes the payment through the bank account. The contract starts on

1.07.20X4 and ends on 30.06.20X5. During that period of time an issue of the magazine is sent to

ALBANS Ltd. every month. The balance sheet date of ALBANS Ltd. is 31.12. The contract for the maga-

zine is recorded by two bookkeeping entries on 1.07.20X4 and 31.12.20X4:

DR Magazine Expenses ................ 120.00 EUR

CR Cash/Bank ........................ 120.00 EUR

DR Prepaid Expenses ................. 60.00 EUR

CR Magazine Expenses ................ 60.00 EUR

The second bookkeeping entry is made as part of the adjustments at the end of the accounting period.

When a business distinguishes different bank accounts and runs one or more cash accounts the

Cash/Bank account is split up into different subordinated accounts. The total of all balances will be dis-

played on the statement of financial position.

SCHOENMAKERSKOP Ltd. runs an account at A-Bank, another one at B-Bank. Furthermore

SCHOENMAKERSKOP Ltd. uses a Cash account. On 1.01.20X6 the opening value for the account with

A-Bank is 54,000.00 EUR and for the account with B-Bank is 300 EUR. The company has 4,000.00 EUR

on cash. On the statement of financial position SCHOENMAKERSKOP Ltd. displays 54,000 + 4,000 +

300 = 58,300.00 EUR. On 23.01.20X6 SCHOENMAKERSKOP Ltd. receives 6,000.00 EUR from a

customer. The customer transfers the money into SCHOENMAKERSKOP Ltd.‘s A-Bank account.



SCHOENMAKERSKOP Ltd. withdraws 500.00 EUR and puts it into cash two days later. Observe the

bookkeeping entries and accounts made on 23.01.20X6 and 25.01.20X6:

DR A-Bank ........................... 6,000.00 EUR


DR Cash ............................. 500.00 EUR

CR A-Bank ........................... 500.00 EUR

The transfers can be overseen by the T-account display better:

D C D C

OV 54,000.00 (2) 500.00 OV 4,000.00 c/d 4,000.00

(1) 6,000.00 c/d 59,500.00 b/d 4,000.00

60,000.00 60,000.00

b/d 59,500.00

D C D C

OV 300.00 OV 6,000.00 (1) 6,000.00

(2) 500.00 c/d 800.00

800.00 800.00

b/d 800.00

Cash A/R

A-Bank B-Bank

Exhibit 13.1: SCHOENMAKERSKOP Ltd.‘s accounts

The amount to be displayed on the statement of financial position is now 59,500 + 4,000 + 800 =

64,300.00 EUR.

Summary:

Asset accounts are for non-current and current assets. The accounts will increase by debit entries and

decreased by credit entries. Some special accounts are P, P, E, Investment Property, Intangible Assets,

Financial Assets, Inventory, Accounts Receivables, Prepaid Expenses, and Cash/Bank.

Definitions:

Asset: Assets are resources from which a future economic benefit is expected to flow to the company.

Non-current Asset: All assets which stay longer than one year/one period within the business are classi-

fied as non-current assets.

Investment Property: Investment property is land and/or buildings that are for renting out or hold to

make a profit by capital appreciation.

Intangible Assets: An intangible asset is an asset without physical nature.



(14) Special Equity Accounts


In this chapter some special equity accounts we need for accounting will be introduced. We provide an

overview on issued capital and reserves. Additionally, the use of the Retained Earnings account will be

explained.

The owners’ equity is split up in three major accounts: Issued Capital account, Reserves account, and Re-

tained Earnings account.

The issued capital is the amount of its shares times the face value thereof. This is the amount the

company at least is hold responsible for.

Reserves are parts of the company’s equity that results from earnings, share issues, and revalua-

tions and that increases the value of the company.

The Retained Earnings account receives any earnings after taxes from the profit and loss account

and eventually consists of all earnings which have not been appropriated yet.

When a business is established the proprietors contribute money to the business. The amount might be

prescribed by national laws like the company’s act. The funds put into the business is the amount by

which the company is hold responsible for its actions. The issued capital cannot be changed except of

further share issues or share redemptions. The issued capital is always to be displayed at its face value.

The face value of a share is its nominal amount. The nominal amount is credited to the Issued Share

account. Any share issues at an issue price that exceeds the face value require putting the difference be-

tween issue price and face value into a share premium account.

PLEASANT Ltd. is founded by their proprietors contributing 50,000.00 EUR (all together) on 1.01.20X1.

The money is paid into PLEASANT Ltd.’s Bank account.

DR Cash/Bank ........................ 50,000.00 EUR


ARLINGTON Ltd. is based on shares. The company is founded on 1.01.20X5 by a share issue of 20,000

shares at 5.00 EUR each. The shareholders pay the amount by bank transfer through a bank. The issued

capital amounts to 20,000 x 5 = 100,000.00 EUR.

DR Cash/Bank ........................ 100,000.00 EUR


MALABAR Ltd. is a production firm based on shares. The company is established on 1.01.20X3 by an

issue of 100,000 ordinary shares. The face value of the shares is 1.00 EUR. The issue price of each share is

1.34 EUR. The amount contributed by the shareholders amounts to 134,000.00 EUR. As this amount

exceeds the face value of all shares the difference on funds is put into the Share Premium account.

DR Cash/Bank ........................ 134,000.00 EUR


CR Share Premium .................... 34,000.00 EUR



The potential use of share premiums depends on national legal regulations. In most countries the amount

is transferred to the Capital Reserves account. Capital reserves belong to equity like issued capital.

DR Share Premium .................... 34,000.00 EUR

CR Capital Reserves ................. 34,000.00 EUR

The amount for the issued capital never is changed. Even in case the company makes a loss the amount is

still recognized at the face value. The share price as traded at a stock exchange does not affect the issued

capital.

VANSTADENS Ltd. is established on 1.01.20X5 by a share issue of 50,000 ordinary shares at 1.45 EUR

as to be the face value. The issue price per share was 1.70 EUR. At the year end the shares are traded at

the national stock exchange at 2.50 EUR each. The issued capital amounts to 50,000 x 1.45 = 72,500.00

EUR. The capital reserves are (1.70 – 1.45) x 50,000 = 12,500.00 EUR.

At the time of the establishment of the business the bookkeeper credits the Issued Capital account and

the Share Premium account:

DR Cash/Bank ........................ 85,000.00 EUR


CR Share Premium .................... 12,500.00 EUR

DR Share Premium .................... 12,500.00 EUR

CR Capital Reserves ................. 12,500.00 EUR

Although the shares‘ value increased and amounts to 2.50 EUR at the end of the year the Issued Capital

account and the Capital Reserves account remain unchanged at 72,500.00 EUR and 12,500.00 EUR. The

issuing shares company does not directly depend on the share price traded at a stock exchange e.g. It only

suffers from a low share price as it is easy for other parties to take over control of the business by buying

its cheap shares and to obtain the majority of the amount of issued shares.

A business that makes profits during the year increases its equity. The increase will be made by crediting

the reserves account. The profit for the period will be transferred to the Retained Earnings account. In

case the company does not pay the annual surplus or parts thereof to the proprietors the profit is trans-

ferred to earnings reserves or will be carried forward to the next accounting period.

SLOVO Ltd. earned a profit after taxes in 20X5 of 300,000.00 EUR. The company decides to not declare

a dividend and to keep the profit for reinvestments. That way the profit earned increases the company’s

equity. On 31.12.20X5 SLOVO Ltd.‘s accountant makes the bookkeeping entries as below:

DR P&L .............................. 300,000.00 EUR


DR Retained Earnings ................ 300,000.00 EUR

CR Earnings Reserves ................ 300,000.00 EUR



A company that declares a dividend to the extent of the total profit earned won’t increase its equity. The

reason is that the Shareholder for Dividend account belongs to the payables. Declaring a dividend means

to transfer the profit from equity to liabilities.

(Note, the company’s equity represents the value of the business.)

BRAMHOPE Ltd. earned a profit after taxes of 100,000.00 EUR in 20X4. The amount is declared as a

dividend to BRAMHOPE Ltd.‘s shareholders. On 31.12.20X4 BRAMHOPE Ltd.‘s bookkeeper credits

the profit to the Accounts Payables account. The amount won’t increase the equity of the business then.

DR P&L .............................. 100,000.00 EUR



CR A/P (Sh4D) ....................... 100,000.00 EUR

The account which keeps the dividend declared to the shareholder is a subsidiary account to the payables.

The name is Shareholder for Dividend Account.

(Note, the company cannot pay the dividend directly and immediately because the financial statements

have to be prepared, audited and approved at first.)

A company also can keep the profit earned in the Retained Earnings account. This means it will carry the

profit forward to the next accounting period.

ARCADIA Ltd. earns a profit after taxes of 30,000.00 EUR in 20X6. The amount is displayed as the bot-

tom line of the Profit and Loss account as the item named earnings after taxes. On 31.12.20X6 the

bookkeeper transfers the amount to the equity section of the statement of financial position by closing off

the Profit and Loss account to the Retained Earnings account. As there is no further bookkeeping entry

made the profit remains in the Retained Earnings account. That is where the name „Retained Earnings“

comes from. A company can carry forward the profit and can make a decision about the appropriation

thereof in later accounting periods. It can even carry forward the profit for more than one period.

DR P&L .............................. 30,000.00 EUR


In case a company makes losses equity will decrease. We assume RENSBURG Ltd. got the following

amounts in its accounts at the beginning of the accounting period: Issued Capital account = 100,000.00

EUR, Earnings Reserves account 200,000.00 EUR and Retained Earnings account 100,000.00 EUR which

results from previous accounting periods. RENSBURG Ltd. made a loss in 20X7 that amounts to

45,000.00 EUR. It comes from a revenue of 200,000.00 EUR which is reduced by expenses for labour

100,000.00 EUR, depreciation 55,000.00 EUR, and rent 90,000.00 EUR. The loss is 200,000 – 100,000 –

55,000 – 90,000 = -45,000.00 EUR. The amount is at the bottom line of the statement of comprehensive

income and called earnings after taxes. There are no income taxes to be paid by RENSBURG Ltd.

As the balancing figure of RENSBURG Ltd.‘s Profit and Loss account is on the credit side the bookkeep-

ing entry now looks twisted and the amount is debited to the Retained Earnings account. This decreases

the profit carried forward from previous accounting periods:




CR P&L .............................. 45,000.00 EUR

A debit entry in the Retained Earnings account decreases the equity of the business. After the bookkeep-

ing entries RENSBURG Ltd.‘s equity amounts to 100,000 + 200,000 + 55,000 = 355,000.00 EUR. In the

previous year it was still 400,000.00 EUR.

See RENSBURG Ltd.‘s accounts below:

D C D C

c/d 100,000.00 OV 100,000.00 c/d 200,000.00 OV 200,000.00

b/d 100,000.00 b/d 200,000.00

D C D C

P&L 45,000.00 OV 100,000.00 Labour 100,000.00 Rev 200,000.00

c/d 55,000.00 Depr 55,000.00

100,000.00 100,000.00 Rent 90,000.00 EBTc/d 45,000.00

b/d 55,000.00 245,000.00 245,000.00

b/d 45,000.00 R/E 45,000.00

R/E P&L

Issued Capital Earnings Reserves

Exhibit 14.1: RENSBURG Ltd.‘s accounts

(Note, The German Handelsgesetzbuch uses the Annual Surplus account in a different way.)

Summary:

Equity contains issued capital, reserves, and retained earnings. Issued capital is the amount obtained from

share issues. Profits and losses change the total amount of equity. They are transferred to Retained Earn-

ings. A company that keeps the profit earned will transfer it to the earnings reserves.

Definitions:

Face value: The face value of a share is its nominal amount. This amount is credited to the Issued Capital

account.

Issued Capital: The issued capital is the amount of its shares times the face value thereof. This is the

amount the company at least is hold responsible for.

Reserves: Reserves are parts of the company’s equity that results from earnings, share issues, and revalua-

tions and that increases the value of the company.

Retained Earnings: The Retained Earnings account receives any earnings after taxes from the profit and

loss account and eventually consists of all earnings which have not been appropriated yet.



(15) Special Liability Accounts


In this chapter we’ll introduce some liability accounts and give examples for bookkeeping entries linked to

these accounts. The aim is to get you more familiar with the liability section of the statement of financial

position.

A liability is an obligation to pay an amount of money or to deliver goods/services. The IFRSs and

many national GAAPs require distinguishing between long-term and short term liabilities. The reason is

that long-term liabilities are to be discounted in many countries and along IFRSs in order to present them

by the fair value amount. In Germany § 253 HGB only requires discounting for provisions. Discounting

means a liability will be recognised at its present value. A payment obligation 100,000.00 EUR that is due

in 20 years’ time - provided the rate of interest is 10 % - is worth 100,000 x (1 + 10%)-20 = 14,864.36

EUR. A debtor who has to pay 100,000.00 EUR in 20 years’ time could just put 14,864.36 EUR in a bank

account and wait 20 years to achieve the 100,000.00 EUR.

For now, we do not discount liabilities. This will be done once you learned chapter 14 of the text book

Bilanzen. For now, we deny the discounting and recognize liabilities at their settlement amount. But we

are going to make bookkeeping entries that way that long-term and short-term liabilities will be kept sepa-

rate from each other in the accounting records. This means we have an account for long-term liabilities

and another one for short-term liabilities. As far as we make use of the simplified structure of the state-

ment of financial position as introduced in the previous chapters the account for long-term liabilities is the

Interest Bearing Liabilities account and the one for short-term liabilities is just the Accounts Payables

account.

(Note, interest to be paid along a bank loan agreement or a bond is not subject to liabilities but is regarded

as expenses for the upcoming accounting periods. We don’t show liabilities for future interest payments

therefore.)

A company that buys some goods on credit will show the liability as a short-term liability (payables).

JEGESVILLE Ltd. buys a business car Mercedes c-class on credit from the local car dealership on

18.05.20X3. The amount is to be paid later. JEGESVILLE Ltd.‘s bookkeeper makes a bookkeeping entry

for the car being recognised as an asset and for the short-term liability on 18.05.20X3.



On 30.05.20X3 JEGESVILLE Ltd. pays the amount due to the local car dealership by bank transfer. This

way the payment obligation ceases to exist.


CR Cash/Bank ........................ 60,000.00 EUR

Liabilities that require the payment of interest normally are long-term liabilities. Those liabilities are bank

loans for example. The amount due in later accounting periods is classified as a long-term liability. Ac-

cordingly, the long-term liability is credited to the Interest Bearing Liability account.



SLAMMERT Ltd. takes a bank loan from their house bank on 1.07.20X5. The amount the bank lends

SLAMMERT Ltd. is 100,000.00 EUR. It is agreed that SLAMMERT Ltd. pays-off the loan in 10 years’

time. The bookkeeper at SLAMMERT Ltd. makes the following bookkeeping entry on 1.07.20X5 which

indicates that the business received the amount of 100,000.00 EUR by bank transfer in their account and

created a payment obligation at the same time.

(Note, there is no discounting for liabilities in this ebook Accounting-Intro to keep the case studies sim-

ple. For Discounting see chapter 14 of the text book Bilanzen. By the way, many international accounting

text books ignore discounting of liabilities for the sake of an easy accounting.)

DR Cash/Bank ........................ 100,000.00 EUR


The fact that the bank requires a rate of interest to be 6 % on the amount of the bank loan is to be seen as

an expense for the actual accounting period. The amount is to be paid at the year end as agreed by the

contract and is an expense for 20X5. As the bank loan was taken in the middle of the year interest is only

half of the annual amount. SLAMMERT Ltd. pays 100,000 x 6%/2 = 3,000.00 EUR. The bank deducts

the amount from SLAMMERT Ltd.’s bank account (not the liability account). The cash/bank item in the

statement of financial position is affected thereby.

DR Interest ......................... 3,000.00 EUR

CR Cash/Bank ........................ 3,000.00 EUR

A bank loan at a constant payment for interest and pay-off is called an annuity. The agreement is about

the amount to be paid which contains interest and pay-off as well. If the rate of interest is constant the

amount for interest is going to decrease by the time as the debtor pays-off the loan every year. The inter-

est is an amount that is based on the rate of interest as given as percentage and the basis the interest is

calculated on. On the other side the amount for pay-off will increase year by year as the debtor pays less

interest by the years. In case of an annuity the amount to be paid-off in the next accounting period is con-

sidered being short-term. It has to be transferred from the Interest Bearing Liability account to the Ac-

counts Payables account.

CHATTY Ltd. takes an annuity from their local bank of 25,000.00 EUR on 1.01.20X3. The contract

states that the rate of interest is 4.5 % and that the constant payment CHATTY Ltd. has to make is

2,500.00 EUR/a which is to be paid at each year end.

When the bank loan is taken the bookkeeper has to make the entries below:

DR Cash/Bank ........................ 25,000.00 EUR

CR Interest Bearing Liability ....... 25,000.00 EUR

In order to oversee the payments we draw a payment schedule for CHATTY Ltd.‘s bank loan. Observe

the payment schedule as shown in exhibit 15.1:



0.045

Year Opening amount Interest Pay-off Annuity Rest

20X3 25,000.00 1,125.00 1,375.00 2,500.00 23,625.00

20X4 23,625.00 1,063.13 1,436.88 2,500.00 22,188.13

20X5 22,188.13 998.47 1,501.53 2,500.00 20,686.59

20X6 20,686.59 930.90 1,569.10 2,500.00 19,117.49

20X7 19,117.49 860.29 1,639.71 2,500.00 17,477.77

20X8 17,477.77 786.50 1,713.50 2,500.00 15,764.27

20X9 15,764.27 709.39 1,790.61 2,500.00 13,973.67

20Y0 13,973.67 628.81 1,871.19 2,500.00 12,102.48

20Y1 12,102.48 544.61 1,955.39 2,500.00 10,147.09

20Y2 10,147.09 456.62 2,043.38 2,500.00 8,103.71

20Y3 8,103.71 364.67 2,135.33 2,500.00 5,968.38

20Y4 5,968.38 268.58 2,231.42 2,500.00 3,736.96

20Y5 3,736.96 168.16 2,331.84 2,500.00 1,405.12

20Y6 1,405.12 63.23 1,405.12 1,468.35 (0.00)

Exhibit 15.1: CHATTY Ltd.‘s annuity payment schedule

The amount of interest in the first year 20X3 is 25,000 x 4.5% = 1,125.00 EUR. As per agreement the

amount paid at every year end is 2,500.00 EUR and contains interest and pay-off. The pay-off amount in

20X3 amounts to 2,500 – 1,125 = 1,375.00 EUR.

The bookkeeper has to make bookkeeping entries for interest and pay-off on 31.12.20X3:

DR Interest ......................... 1,125.00 EUR

DR Interest Bearing Liability ....... 1,375.00 EUR

CR Cash/Bank ........................ 2,500.00 EUR

At this stage the balancing figure in the Interest Bearing Liability account is 25,000 – 1,375 = 23,625.00

EUR.

In the next year 20X4 the liability is 23,625.00 EUR which is the amount interest is based on. So, interest

in 20X4 is 23,625 x 4.5% = 1,063.13 EUR. The amount for pay-off increases compared to the previous

year. It is now 2,500 – 1,063.13 = 1,436.88 EUR.

(Note, the exact amounts are 1,063.125 EUR and 1,436.875 EUR. In exhibit 15.1 both figures are dis-

played at an accuracy of 2 digits after the decimal point which means they are rounded to the next EUR-

cent. But the MS Excel spread sheet program added the amounts correctly ignoring the display thereof.

So, the amount paid is 1,063.13 + 1,436.88 = 2,500.00 EUR - not 2,500.01 EUR. In an exam you can

make bookkeeping entries and any calculations based on rounded figures also.)

Before 20X4’s bookkeeping will be made the bookkeeper transfers the amount due in the next year to

short-term liabilities on 31.12.20X3. At this time the amount of 1,436.88 EUR is regarded as short-term

liability because it’s due in less than 1 year.

DR Interest Bearing Liabilities ..... 1,436.88 EUR




No payment has been made with regard to the annuity for 20X4 yet. There is only a swop of accounts to

keep the liabilities. The amount for pay-off-20X4 has been transferred from long-term to short-term liabil-

ity.

In order to see CHATTY Ltd.‘s annuity take a look at the accounts involved.

D C D C

(1) 25,000.00 (2) 2,500.00 (2) 1,125.00 P&L 1,125.00

c/d 22,500.00

25,000.00 25,000.00

b/d 22,500.00

D C D C

(2) 1,375.00 (1) 25,000.00 c/d 1,436.88 (3) 1,436.88

(3) 1,436.88 b/d 1,436.88

c/d 22,188.12

25,000.00 25,000.00

b/d 22,188.12

Cash/Bank Interest

Interest bearing liabilities Accounts payables

Exhibit 15.2: CHATTY Ltd.‘s accounts

In case a business has to pay an amount that is not certain it has to raise a provision. A provision is an

uncertain liability. It can be uncertain with regard to the amount, to the due date, or even uncer-

tain to occur. Examples for provisions are payments that result from court cases which are not certain

with regard to the amount or the occurrence. Pensions are also a reason for raising provisions as the

length of the payment to the pensioner is not clear. Check IAS 37 for provisions!

ALBANS Ltd. got accused because it manufactures a product another business holds a patent on. The

fine to be paid is 200,000.00 EUR in case ALBANS Ltd. is found guilty. The accountant assumes that the

probability to get sued is 50 %. The amount of 200,000.00 EUR is no liability because the payment is not

certain at this stage. The court case is expected to take place on 13.02.20X8. For that reason the company

has to raise a provision on 31.12.20X7. The amount is based on the expected value of the fine which is

50% x 200,000 = 100,000.00 EUR.

DR Other Expenses ................... 100,000.00 EUR

CR Provision ........................ 100,000.00 EUR

The provision is to be dissolved in case the verdict is in ALBANS Ltd.‘s favour. Otherwise, ALBANS Ltd.

has to dissolve the provision also but has to pay the amount for the fine. In case ALBANS Ltd. is found

guilty and the judge orders to pay a fine of 200,000.00 EUR the bookkeeper has to make entries as below:

DR Provision ........................ 100,000.00 EUR


CR Cash/Bank ........................ 200,000.00 EUR



(Note, in Germany provisions are to be raised for income tax obligations also. However, along interna-

tional GAAPs (IFRSs) there is a liability to be posted. We follow international law and international stand-

ards here.)

ESTERHUIZEN Ltd. earns a pre-tax profit 450,000.00 EUR in 20X8. The amount for income taxes is

450,000 x 30% = 135,000.00 EUR. The amount is short-term and to be credited to a special account

along IAS 12 on 31.12.20X8. We call it Income Tax Liabilities.

(Pls., make sure to not credit VAT to this account! VAT is no income tax.)

DR P&L .............................. 135,000.00 EUR


When ESTERHUIZEN Ltd. pays its income taxes the tax liability account is closed off. The bookkeeping

entries made on 10.01.20X9 by ESTERHUIZEN Ltd.‘s bookkeeper are:

DR Income Tax Liabilities ........... 135,000.00 EUR

CR Cash/Bank ........................ 135,000.00 EUR

Summary:

Liabilities can be short-term and long-term. They are kept in different accounts. In case a liability is uncer-

tain a provision is raised. Dissolving or reducing liabilities means to make a debit entry in the liability ac-

count. Liabilities are to be discounted along IFRSs in order to recognize them at their fair value.

Definitions:

Liability: A liability is an obligation to pay an amount of money or to deliver goods/services.

Provision: A provision is an uncertain liability. It can be uncertain with regard to the amount, to the due

date, or even uncertain to occur.



(16) Reconciliation Accounts


In this chapter we introduce reconciliation accounts. The aim is to understand the concept behind a 1 : n

relationship between accounts and items of the statement of financial position

In accounting it is often useful to split up one account into different subordinate accounts. The total of

subordinated accounts that belong to an item of financial statements is a subsidiary ledger. So far

we made only use of accounts which are linked directly to an item of the statement of financial position or

the statement of comprehensive income. These accounts are linked to the general ledger. The general

ledger is a set of accounts without any subordinated accounts. It is often based on the chart of ac-

counts or here in this ebook Accounting-Intro on the total of items of the statement of financial position

and the statement of comprehensive income.

However, we want to get single information about some items represented by the accounts. For that rea-

son we are going to split up these accounts. One of the items often split up is property, plant, and equip-

ment. It makes sense to use a special account for each item of P, P, E in order to determine its single val-

ue e.g. In case a company does so they call it running an asset management. Asset management is a

subsidiary ledger where instead of making bookkeeping entries in one P, P, E account every item

of property, plant, and equipment is represented by its own account. The reconciliation account is

an account that is superior to the subordinate asset accounts. A reconciliation account is a summary

account for a subsidiary ledger. It shows the amount of all items together. The reconciliation account

for the asset management is the Property, Plant, and Equipment account.

DAGBREEK Ltd. has a business car in use. To keep the case study simple we ignore VAT. The car’s

license plate is OS-S 2344. The car’s value as in the bookkeeping records is 12,000.00 EUR on 1.01.20X7.

DAGBREEK Ltd. buys an additional business car on 28.1.20X7 and pays it by bank transfer. The license

plate of the new car is on OS-B 4095. The cost of acquisition for the car is 53,000.00 EUR. The

bookkeeper makes the following bookkeeping entry on 1.02.20X7:

(1) Acquisition of the car OS-B 4095 on 28.01.20X7:

DR P, P, E – OS-B 4095 .............. 53,000.00 EUR

CR Cash/Bank ........................ 53,000.00 EUR

We are taking a look at DAGBREEK Ltd.‘s accounts:

D C D C

OV 12,000.00 (1) 53,000.00

D C D C

OV ... (1) 53,000.00 OV 12,000.00

(1) 53,000.00

P,P,E - OS-S 2344 P,P,E - OS-B 4095

Cash/Bank P,P,E

Exhibit 16.1: DAGBREEK Ltd.‘s accounts as at 1.02.20X7



DAGBREEK Ltd.‘s reconciliation account is the Property, Plant, and Equipment account. It is the bot-

tom right account in exhibit 16.1. The figures therein are greyed out in order to avoid double debiting.

(Note, the accounts are not balanced off at this stage as no depreciation has been considered yet.)

The reconciliation account represents the amounts of all items of property, plant, and equipment. Often

accountants tend to close off the subordinate accounts to the reconciliation account. We don’t do that

here because the reason for the subordinated accounts is to keep them and to make use of the infor-

mation therein. Along international bookkeeping standards real accounts will be continued in the next

accounting period. To close them off to the reconciliation account does not make sense then. We see the

reconciliation account as a means to determine the value to be displayed by the balance sheet’s item prop-

erty, plant, and equipment. See the example RETIEF (Pty) Ltd. below:

RETIEF (Pty) Ltd. is in the transport business. The company runs 4 trucks (A, B, C, and D) each bought

in 20X4. The value of these trucks as at 1.01.20X7 is 120,000.00 EUR each. On 5.01.20X7 RETIEF (Pty)

Ltd. buys a new one (E) at cost of acquisition of 230,000.00 EUR. The deal was closed by paying the

amount of 230,000.00 into the dealership’s bank account.

The new truck E replaces truck A, which is sold at 120,000.00 EUR on 20.01.20X7. The bookkeeper

makes the entries below:

(1) Acquisition of truck E on 5.01.20X7:

DR P, P, E – Truck E ................ 230,000.00 EUR

CR Cash/Bank ........................ 230,000.00 EUR

(2) Disposal of truck A on 20.01.20X7:

DR Cash/Bank ........................ 120,000.00 EUR

CR P, P, E – Truck A ................ 120,000.00 EUR

By the last bookkeeping entry the account Property, Plant, and Equipment – truck A is no longer needed.

The accountant might delete the account after the accounting period. Right after the sale of the truck the

account’s balance is nil.

In order to understand the concept of reconciliation take a look at RETIEF (Pty) Ltd.‘s accounts below as

at 20.01.20X7.



D C D C

OV 120,000.00 (2) 120,000.00 OV 120,000.00

D C D C

OV 120,000.00 OV 120,000.00

D C D C

OV 480,000.00 (2) 120,000.00 OV ... (1) 230,000.00

(1) 230,000.00 c/d 590,000.00 (2) 120,000.00

710,000.00 710,000.00

b/d 590,000.00

D C

(1) 230,000.00

P,P,E Cash/Bank

P,P,E - Truck E

P, P, E - Truck C P,P,E - Truck D

P,P,E - Truck A P, P, E - Truck B

Exhibit 16.2: RETIEF (Pty) Ltd.‘s accounts

The P, P, E account is the reconciliation account for all trucks RETIEF (Pty) Ltd. has in use. The opening

value is the amount retrieved from all its subordinated accounts. It is 120,000 + 120,000 + 120,000 +

120,000 = 480,000.00 EUR. After the bookkeeping entries for the acquisition of truck E and the disposal

of truck A the amount is 0 + 120,000 + 120,000 + 120,000 + 230,000 = 590,000.00 EUR.

(Note, the accounts are not balanced off yet as there has no entry for depreciation been made.)

(Note further, that in some examples we don’t provide full accounts in order to keep the examples simple.

Sometimes an amount not specified appears as “…”. We did here with the opening amount in the

Cash/Bank account.)

The reconciliation account can be seen as a parallel account which provides the sum of all single accounts.

In order to indicate the account is no account along the double entry system the bookkeeping entries

made therein are greyed out here.

The same concept of subsidiary ledgers applies for receivables and payables also. A further subsidiary

ledger is the pay-roll which represents labour paid to single employees. Actually, the name of the item on

the face of the statement of financial position for receivables and payables indicates already that these

accounts are reconciliation accounts because they are named “Accounts …”.

E.g. Accounts Receivables is the reconciliation account for all debtors’ accounts. The single accounts for

receivables are often linked to the name of the business partner and are therefore referred to as personal-

ized accounts.

DESPATCH Ltd. is a dealer for printer/fax machines/scanners. At the beginning of 20X2 the business

has inventory of 100,000.00 EUR on stock. DESPATCH Ltd. sells its goods on credit to their customers

and offers them to pay their bills in a year’s time. Most customers do so. During 20X2 DESPATCH Ltd.

sold 20 printers to customer HEUWEL (on 2.03.20X2). The printer’s net selling price is 130.00 EUR



each. They further sold a fax machine (255.00 EUR) to CAMPHER on 4.05.20X2 and 12 scanners to

BOTHASRUS on 29.06.20X2 at 138.00 EUR each. Observe the bookkeeping entries in 20X2:

(1) Printer sold to HEUWEL on 2.03.20X2: 20 x 130 = 2,600.00 EUR.

DR A/R – HEUWEL ..................... 2,600.00 EUR

CR Inventory ........................ 2,600.00 EUR

(2) Fax machine sold to CAMPHER on 4.05.20X2

DR A/R – CAMPHER .................... 255.00 EUR

CR Inventory ........................ 255.00 EUR

(3) Scanners sold to BOTHASRUS at 12 x 138 = 1,656.00 EUR on 29.06.20X2:

DR A/R – BOTHASRUS ................. 1,656.00 EUR

CR Inventory ........................ 1,656.00 EUR

Observe the accounts to get the full picture below:

D C D C

OV 100,000.00 (1) 2,600.00 (1) 2,600.00 c/d 2,600.00

(2) 255.00 b/d 2,600.00

(3) 1,656.00

c/d 95,489.00

100,000.00 100,000.00

b/d 95,489.00

D C D C

(2) 255.00 c/d 255.00 (3) 1,656.00 c/d 1,656.00

b/d 255.00 b/d 1,656.00

D C

(1) 2,600.00

(2) 255.00

(3) 1,656.00 c/d 4,511.00

4,511.00 4,511.00

b/d 4,511.00

Inventory A/R - HEUWEL

A/R

A/R - CAMPHER A/R - BOTHASRUS

Exhibit 16.3: DESPATCH (Pty) Ltd.’s accounts

The accounts A/R – HEUWEL, A/R – CAMPHER, and A/R – BOTHASRUS form the sales ledger.

The sales ledger is a subsidiary ledger to the Accounts Receivables account.

In the next year DESPATCH (Pty) Ltd.’s customers pay their open bills. The bookkeeping entries are:

(A) Payment received from HEUWEL on 2.03.20X3:

DR Cash/Bank ........................ 2,600.00 EUR

CR A/R – HEUWEL ..................... 2,600.00 EUR



(B) Payment received from CAMPHER on 4.05.20X3

DR Cash/Bank ........................ 255.00 EUR

CR A/R – CAMPHER .................... 255.00 EUR

(C) Payment received from BOTHASRUS on 29.06.20X3:

DR Cash/Bank ....................... 1,656.00 EUR

CR A/R – BOTHASRUS .................. 1,656.00 EUR

(Note, that the identifiers for bookkeeping entries are (A), (B), and (C) in 20X3 in order to not mix ac-

counting periods in this example.)

Observe the accounts in 20X3 for DESPATCH (Pty) Ltd as at on 31.12.20X3:

D C D C

OV 100,000.00 (1) 2,600.00 (1) 2,600.00 c/d 2,600.00

(2) 255.00 b/d 2,600.00 (A) 2,600.00

(3) 1,656.00

c/d 95,489.00

100,000.00 100,000.00

b/d 95,489.00

D C D C

(2) 255.00 c/d 255.00 (3) 1,656.00 c/d 1,656.00

b/d 255.00 (B) 255.00 b/d 1,656.00 (C) 1,656.00

D C D C

(1) 2,600.00 OV ...

(2) 255.00 (A) 2,600.00

(3) 1,656.00 c/d 4,511.00 (B) 255.00

4,511.00 4,511.00 (C) 1,656.00

b/d 4,511.00 (A) 2,600.00

(B) 255.00

(C) 1,656.00

4,511.00 4,511.00

A/R Cash/Bank

A/R - CAMPHER A/R - BOTHASRUS

Inventory A/R - HEUWEL

Exhibit 16.4: DESPATCH (Pty) Ltd.’s accounts

The concept described works for the purchase ledger also. Its reconciliation account is the Accounts Pay-

ables account.

WINTERHOEK Ltd. is a production firm. On 4.07.20X5 WINTERHOEK buys 2 drilling machines on

credit from its supplier VALLEISIG at the cost of acquisition of 3,500.00 EUR each. Furthermore,

WINTERHOEK Ltd. orders material from supplier DeMIST at 50,000.00 EUR purchase price on

8.09.20X5. It is agreed to pay the amount immediately at half and the other half portion later. On

10.10.20X5 WINTERHOEK Ltd. pays the amount 63,000.00 EUR it owes its supplier KRUIS since last

year. WINTERHOEK Ltd.’s bookkeeper makes the entries below:



(1) Acquisition of drilling machines 2 x 3,500 = 7,000.00 EUR from VALLEISIG on credit on

4.07.20X5:


CR A/P – VALLEISIG .................. 7,000.00 EUR

(2) Purchase of materials from DeMIST half/half on 8.09.20X5. Purchase price is 50,000.00 EUR. Half of

it is 50,000/2 = 25,000.00 EUR.

DR Inventory ........................ 50,000.00 EUR

CR A/P – DeMIST ..................... 25,000.00 EUR

CR Cash/Bank ........................ 25,000.00 EUR

(3) Payment of the amount owed KRUIS on 10.10.20X5:

DR Cash/Bank ........................ 63,000.00 EUR

CR A/P – KRUIS ...................... 63,000.00 EUR

Observe WINTERHOEK Ltd.‘s accounts as at 31.12.20X5:

D C D C

(3) 63,000.00 OV 63,000.00 (3) 63,000.00 OV 63,000.00

(1) 7,000.00

c/d 32,000.00 (2) 25,000.00

95,000.00 95,000.00

b/d 32,000.00

D C D C

(1) 7,000.00 c/d 7,000.00 (2) 50,000.00 c/d 50,000.00

b/d 7,000.00 b/d 50,000.00

D C D C

c/d 7,000.00 (1) 7,000.00 c/d 25,000.00 (2) 25,000.00

b/d 7,000.00 b/d 25,000.00

D C

OV ... (2) 25,000.00

(3) 63,000.00

A/P - VALLEISIG A/P - DeMIST

Cash/Bank

PPE Inventory

A/P - KRUIS A/P

Exhibit 16.5: WINTERHOEK Ltd.‘s accounts

A company that uses different bank account with different banks will use the Cash/Bank account as rec-

onciliation account also. Compare the example SCHOENMAKERSKOP Ltd. in chapter 13 of this ebook

Accounting-Intro.



Summary:

Reconciliation accounts are summary accounts. They will be used parallel to the double entry system. A

subsidiary ledger helps to keep the overview about single items, like assets, bank accounts, debtors, credi-

tors, and employees.

Definitions:

Subsidiary Ledger: The total of subordinated accounts that belong to an item of financial statements is a

subsidiary ledger.

General Ledger: The general ledger is a set of accounts without any subordinated accounts.

Asset Management: Asset management is a subsidiary ledger where instead of making bookkeeping

entries in one P, P, E account every item of property, plant, and equipment is represented by its own ac-

count.

Reconciliation Account: A reconciliation account is a summary account for a subsidiary ledger.



(17) Depreciation


In this chapter we introduce depreciation. It is a basic expense we should consider when preparing finan-

cial statements. We are going to introduce the Accumulated Depreciation account as the contra account

for depreciation.

Depreciation is a technical term in accounting for an expense that describes the loss in value by

the use or by the time of non-current assets. Most of the assets a business has in use will loose their

value by using them. Although some of them won’t. E.g. land doesn’t loose its value by use. Some assets

loose value just by the time. Leave your car for 1 year in the garage without driving it and you’ll experience

that its value dropped.

For now, we only want to consider straight line method for depreciation. This method is in use when the

curve of the carrying amount after depreciation over the time forms a straight line. The implication is that

the amount of value lost during the accounting periods is constant. The useful life is the time an asset can

be used before not working anymore.

To calculate the annual depreciation charge along straight line method is simple. We take the amount the

asset was acquired at and divide it by the years the asset will be used along its useful life. The useful life

of an asset is the time the asset can be used.

DODD Ltd. acquires a saw machine at 120,000.00 EUR on 3.01.20X4. The saw is paid by bank transfer

immediately. The useful life of the saw is 5 years. Depreciation along straight line method is 120,000/5 =

24,000.00 EUR/a. Along to the conventions in this ebook Accounting-Intro we apply depreciation accu-

rately to the month. This rule means that a month counts for depreciation as long as the asset was more

than half of the month in use or better in possession of the company. A buy on 10.02.20X9 will make the

February 20X9 count for depreciation. A sale on 28.12.20X8 will make the December 20X8 count for

depreciation also. However, a disposal of an asset on 9.07.20X7 won’t make July 20X7 become relevant

for depreciation.

DODD Ltd.’s saw is in use for 12 months in 20X4. Accordingly, depreciation amounts to 24,000.00 EUR

in 20X4.

In contrast to the PELZERHAGEN (Pty) Ltd. case study we are going to modify the bookkeeping entries

slightly. We will use an Accumulated Depreciation account. This account is linked to every asset we de-

preciate. This is done along the concept of asset management.

We assume DODD Ltd. makes a bookkeeping entry when it bought the saw as below under consideration

of an asset management:

(1) Saw acquisition at 120,000.00 EUR on 3.01.20X4:

DR P, P, E – Saw Machine ............ 120,000.00 EUR

CR Cash/Bank ........................ 120,000.00 EUR

(2) Depreciation on the saw machine 24,000.00 EUR on 31.12.20X4:


CR Acc. Depr. – Saw Machine ......... 24,000.00 EUR



The account Accumulated Depreciation is applied because it is helpful to prepare the register of non-

current assets later on. The register of non-current assets is much easier to set up if the company uses an

asset management. The asset management contains special P, P, E accounts and special Accumulated

Depreciation accounts for every single item of property, plant, and equipment.

In order to demonstrate the use of the Accumulated Depreciation account we make a bookkeeping entry

for the 20X5 accounting period also. As we apply straight line method for depreciation the amount for the

expense (depreciation) will be the same as in 20X4.

(A) Depreciation on the saw machine 24,000.00 EUR on 31.12.20X5


CR Acc. Depr. – Saw Machine ......... 24,000.00 EUR

We are going to take a closer look at the accounts after two years.

D C D C

(1) 120,000.00 c/d 120,000.00 c/d 24,000.00 (2) 24,000.00

b/d 120,000.00 b/d 24,000.00

c/d 48,000.00 (A) 24,000.00

48,000.00 48,000.00

b/d 48,000.00

D C D C

(2) 24,000.00 P&L_X4 24,000.00 (A) 24,000.00 P&L_X5 24,000.00

D C

OV ... (1) 120,000.00

P,P,E - saw Acc depr - saw

Cash/Bank

Depreciation 20X4 Depreciation 20X5

Exhibit 17.1: DODD Ltd.’s accounts as at 31.12.20X5

As we can see with the accounts the value of the asset is the amount in the Property, Plant, and Equip-

ment account less Accumulated Depreciation: 120,000 – 48,000 = 72,000.00 EUR. It almost goes without

writing that there is no sense in closing off the Accumulated Depreciation account to the Property, Plant,

and Equipment account. This would destroy the chance to set up a register of non-current assets straight

away.

Companies have to prepare the register of non-current assets for the notes to provide information about

their non-current assets. The register of non-current assets gives information about the cost of acquisition

and any reduction of this amount that has occurred during its lifetime. The carrying amount is the

amount the asset is to be recognized at. DODD Ltd.’s saw machine is valued at 72,000.00 EUR. The

initial amount of 120,000.00 EUR has been decreased by depreciation of 24,000 + 24,000 = 48,000.00

EUR.



Other reasons why an asset’s value can decrease are impairment losses. An impairment loss is a carry-

ing amount deduction that does not occur on a regular basis, accidents or price drops for in-

stance.

The carrying amount at historical cost is computed as the cost of acquisition less any accumulated depre-

ciation and less any accumulated impairment loss. This is the main reason why you should run an asset

management and make use of the Accumulated Depreciation account linked to single assets.

Later (in the textbook Bilanzen, chapter 7), we’ll learn about valuations at the fair value that require reval-

uating assets as it is prescribed by IFRSs. A revaluation is an increase of an asset’s carrying amount.

The register of non-current assets for DODD Ltd. looks as below:

Asset

Cost of

acquisition Acc. depr.

Acc. impairm.

losses Carrying amount

saw machine 120,000.00 (48,000.00) 72,000.00

72,000.00

Dodd Ltd.'s

REGISTER of NON-CURRENT ASSETS

as at 31.12.20X5

Exhibit 17.2: DODD Ltd.’s register of non-current assets

Bookkeeping entries for depreciation are made at the end of the accounting period. Although an asset has

been disposed before the year end a pro rata depreciation charge is to be considered along the conven-

tions in this ebook Acocunting-Intro.

FAIRBRIDGE Ltd. is a pizza delivery service. The delivery vans are VW Polos. The Polo that is licensed

with OS-FB 333 was bought on 2.01.20X2 at 18,000.00 EUR. The useful life for a delivery van is 4 years.

The annual depreciation of the VW Polo is 18,000/4 = 4,500.00 EUR. The monthly depreciation charge

is 4,500/12 = 375.00 EUR. On the 1.01.20X4 the car is 2 years old. Its carrying amount is 18,000 - 9,000

= 9,000.00 EUR. The other VW Polo with license plates OS-FB 222 is in use since 2.07.20X0. The cost

of acquisition and the useful life are the same as for OS-FB 333. Its value as at 1.01.20X4 is 18,000 –

15,750 = 2,250.00 EUR.

See FAIRBRIDGE Ltd.’s register of non-current assets as at 1.01.20X4:

Asset

Cost of


Acc. impairm.


VW Polo OS-FB 222 18,000.00 (15,750.00) 2,250.00

VW Polo OS-FB 333 18,000.00 (9,000.00) 9,000.00

11,250.00

Fairbridge Ltd.'s


as at 31.12.20X3

Exh€ibit 17.3: FAIRBRIDGE Ltd.’s register of non-current assets as at 31.12.20X3



FAIRBRIGDE continues to use the VW Polo OS-FB 222 until 31.03.20X4. The car has been used 3 years

and 9 months by then. The carrying amount of the car is 18,000 – 16,875 = 1,125.00 EUR.

FAIRBRIDGE Ltd. sells the car at 1,125.00 EUR on 31.03.20X4. On 1.04.20X4 FAIRBRIDGE buys a

new VW Polo at 20,000.00 EUR. Its useful life is 4 years. The car is licensed under OS-FB 444.

The annual depreciation of the new VW Polo is 20,000/4 = 5,000.00 EUR. Depreciation charge for 9

months is (3/4) x 5,000 = 3,750.00 EUR.

The bookkeeping entries for FAIRBRIDGE Ltd.’s VW Polos in 20X4 are as follows:

(1) Depreciation for VW Polo OS-FB 222 on 31.12.20X4:


CR Acc. Depr. OS-FB 222 ............. 1,125.00 EUR

(2) Sale of the VW Polo OS-FB 222 on 31.03.20X4 at 1,125.00 EUR:

DR Cash/Bank ........................ 1,125.00 EUR

DR Acc. Depr. OS-FB 222 ............. 16,875.00 EUR

CR P, P, E - OS-FB 222 .............. 18,000.00 EUR

(3) Acquisition of the new VW Polo OS-FB 444 on 1.04.20X4:

DR P, P, E - OS-FB 444 .............. 20,000.00 EUR

CR Cash/Bank ........................ 20,000.00 EUR

(4) Depreciation on the new VW Polo for 9 months on 31.12.20X4. Depreciation charge amounts to 9 x

20,000/(4 x 12) = 3,750.00 EUR.


CR Acc. Depr. - OS-FB 444 ........... 3,750.00 EUR

(5) Depreciation on the VW Polo OS-FB 333 for one year on 31.12.20X4:


CR Acc. Depr. - OS-FB 333 ........... 4,500.00 EUR

Observe FAIRBRIDGE Ltd.’s accounts as at 31.12.20X4 below:



D C D C

OV 18,000.00 (2) 18,000.00 (2) 16,875.00 OV 15,750.00

(1) 1,125.00

16,875.00 16,875.00

D C D C

OV 18,000.00 c/d 18,000.00 OV 9,000.00

b/d 18,000.00 c/d 13,500.00 (5) 4,500.00

13,500.00 13,500.00

b/d 13,500.00

D C D C

(3) 20,000.00 c/d 20,000.00 c/d 3,750.00 (4) 3,750.00

b/d 20,000.00 b/d 3,750.00

D C D C

(1) 1,125.00 P&L 9,375.00 OV ... (3) 20,000.00

(4) 3,750.00 (2) 1,125.00

(5) 4,500.00

9,375.00 9,375.00

PPE OS-FB 222 Acc depr OS-FB 222


Depreciation 20X4 Cash/Bank


Exhibit 17.4: FAIRBRIDGE Ltd.’s accounts

We now set up the register of non-current assets for FAIRBRIDGE Ltd.’s delivery cars. Observe below:

Asset

Cost of


Acc. impairm.


VW Polo OS-FB 222 disposed disposed disposed

VW Polo OS-FB 333 18,000.00 (13,500.00) 4,500.00

VW Polo OS-FB 444 20,000.00 (3,750.00) 16,250.00

20,750.00

Fairbridge Ltd.'s


as at 31.12.20X4

Exhibit 17.3: FAIRBRIDGE Ltd.’s register of non-current assets as at 31.12.20X3

In chapter 7 of the text book you’ll learn further details about depreciation.

Summary:

Depreciation is an expense that takes the reduction of a non-current asset’s value under consideration.

Most non-current assets loose value by use or by the course of time. Depreciation is an expense without



payment linked thereto. The contra account for depreciation is the Accumulated Depreciation account.

The overview about an assets value is provided by the register of non-current assets.

Definitions:

Depreciation: Depreciation is an expense that describes the loss in value by the use or by the time of

non-current assets.

The useful life of an asset: The useful life of an asset is the time the asset can be used.

Carrying amount: The carrying amount is the amount the asset is to be recognized at.

Impairment Loss: An impairment loss is a carrying amount deduction that does not occur on a regular

basis, accidents or price drops for instance.

Revaluation: A revaluation is an increase of an asset’s carrying amount.



(18) Further Expenses


In this chapter we introduce some activities to get more familiar with a statement of comprehensive in-

come. In particular the accrual principle - which applies when payments are made in the actual accounting

period for expenses that count for the next accounting period - is subject to our attention.

Expenses in the business will be considered by making debit entries. Expenses are an outflow or a de-

pletion of assets or result from taking services from other parties e.g. All expenses will reduce the

profit no matter of whether or not a payment has been made for them. Expenses are debited to nominal

accounts, like labour, rent, depreciation, internet fees, etc.

SIMONI Ltd. is a game shop for computer games. The business rents a sales room in a mall and pays

1,500.00 EUR rent monthly. The payment is to be made in advance before the month starts. On

1.01.20X4 SIMONI Ltd. starts its business and pays rent on 1.01.20X1 accordingly. Otherwise, the pay-

ments always take place on the 28th of the previous month as agreed with the landlord. SIMONI Ltd. pays

the rent by bank transfer. The business installed a stop order with their house bank. This means the same

amount is paid every month into the landlord’s account until SIMONI Ltd. directs the bank to stop the

transfers. Stop-orders will be defined by chapter 38 of this ebook.

SIMONI Ltd.’s bookkeeper makes the bookkeeping entries for rent as follows:

(1) Posting rent on 1.01.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(2) Posting February rent on 28.01.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(3) Posting March rent on 28.02.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(4) Posting April rent on 28.03.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(5) Posting May rent on 28.04.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(6) Posting June rent on 28.05.20X4



DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(7) Posting July rent on 28.06.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(8) Posting August rent on 28.07.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(9) Posting September rent on 28.08.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(10) Posting October rent on 28.09.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(11) Posting November rent on 28.10.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(12) Posting December rent on 28.11.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

(13) Posting January 20X5 rent on 28.12.20X4

DR Rent ............................. 1,500.00 EUR

CR Cash/Bank ........................ 1,500.00 EUR

We take a look at the Rent and at the Cash/Bank account assuming the opening value in the Cash/Bank

account was 75,000.00 EUR:



D C D C

(1) 1,500.00 OV 75,000.00 (1) 1,500.00

(2) 1,500.00 (2) 1,500.00

(3) 1,500.00 (3) 1,500.00

(4) 1,500.00 (4) 1,500.00

(5) 1,500.00 (5) 1,500.00

(6) 1,500.00 (6) 1,500.00

(7) 1,500.00 (7) 1,500.00

(8) 1,500.00 (8) 1,500.00

(9) 1,500.00 (9) 1,500.00

(10) 1,500.00 (10) 1,500.00

(11) 1,500.00 (11) 1,500.00

(12) 1,500.00 (12) 1,500.00

(13) 1,500.00 (13) 1,500.00

c/d 55,500.00

75,000.00 75,000.00

b/d 55,500.00

Rent Cash/Bank

Exhibit 18.1: SIMONI Ltd.’s accounts

Obviously, the rent paid exceeds the amount of rent that is relevant for the accounting period 20X4. The

amount is 13 x 1,500 = 19,500.00 EUR. In case SIMONI Ltd. transfers the full amount as being in the

Rent account (for 13 months) to the Profit and Loss account the January 20X5’s rent will count as an

expense for 20X4.

For this reason the bookkeeper accrues the amount for January 20X5. The amount is “parked” in an extra

Prepaid Expense account in the statement of financial position. The bookkeeping entry (14) transfers the

rent into that account:

(14) Transfer of next year’s rent into Prepaid Expenses on 31.12.20X4:

DR Prepaid Expenses ................. 1,500.00 EUR

CR Rent ............................. 1,500.00 EUR

We now take a closer look at the accounts again and prepare the financial statements.



D C D C

(1) 1,500.00 (14) 1,500.00 OV 75,000.00 (1) 1,500.00

(2) 1,500.00 (2) 1,500.00

(3) 1,500.00 (3) 1,500.00

(4) 1,500.00 (4) 1,500.00

(5) 1,500.00 (5) 1,500.00

(6) 1,500.00 (6) 1,500.00

(7) 1,500.00 (7) 1,500.00

(8) 1,500.00 (8) 1,500.00

(9) 1,500.00 (9) 1,500.00

(10) 1,500.00 (10) 1,500.00

(11) 1,500.00 (11) 1,500.00

(12) 1,500.00 (12) 1,500.00

(13) 1,500.00 c/d 18,000.00 (13) 1,500.00

19,500.00 19,500.00 c/d 55,500.00

b(d 18,000.00 P&L 18,000.00 75,000.00 75,000.00

b/d 55,500.00

D C D C

Rent 18,000.00 EBTc/d 18,000.00 (14) 1,500.00 c/d 1,500.00

b/d 18,000.00 R/E 18,000.00 b/d 1,500.00

D C D C

P&L 18,000.00 c/d 18,000.00 c/d 75,000.00 OV 75,000.00

b/d 18,000.00 b/d 75,000.00

R/E Issued Capital

P&L Prepaid expenses

Rent Cash/Bank

Exhibit 18.1: SIMONI Ltd.’s accounts

(Note that we balance off the Rent account first and then transferred the balance (18,000.00 EUR) to the

Profit and Loss account. In particular, when many entries have been made in an account the bookkeeper

first balances it off of in order to detect the balancing figure before the amount is put into the Profit and

Loss account e.g.)

Observe the statement of financial position below:



A C, L




Financial assets R/E (18,000.00)



A/R A/P

Prepaid expenses 1,500.00 Provisions


57,000.00 57,000.00

Simoni Ltd.'s


as at 31.12.20X4

Exhibit 18.2: SIMONI Ltd.’s statement of financial position as at 31.12.20X4

(Note, the German Handelsgesetzbuch requires a special item called Aktiver Rechnungsabgrenzung-

sposten (accrual) for this prepayment. The special item on the German Bilanz indicates that accruals are

not regarded as being assets and are therefore listed below the asset section of the balance sheet. Germans

consider prepaid rent, prepaid insurance or prepaid labour being uncertain and not being tradable because

it won’t be paid back in case of a business partner closes down his/her company.)

SIMONI Ltd.’s statement of comprehensive income for 20X4 looks as below. In particular it shows the

rent for 12 months being 12 x 1,500 = 18,000.00 EUR.

[EUR]

Revenue

Other income

0.00

Materials

Labour

Depreciation



Interest



Deferred taxes


Simoni Ltd.'s



Exhibit 18.3: SIMONI Ltd.’s statement of comprehensive income for 20X4



Summary:

Rent, insurance, labour, etc. are often paid in advance. In order to assign the correct expenses to the

statement of comprehensive income accruals are required. Along the accrual principle expenses are to be

assigned to the accounting period they belong to and not to the period of payment.

Definitions:

Expenses: Expenses are an outflow or a depletion of assets or result from taking services from other

parties e.g.



(19) Accounting for Labour


In this chapter we’ll take a closer look at the accounting for labour.

Labour is often paid in advance also. In order to keep the examples simple we assume labour to be paid at

the 15th of each month for the month it is paid for.

Often labour payments are combined with payments for social security and with taxes to be paid on la-

bour. The special rules for German companies will be explained in the text book Bilanzen by chapter 4.

For now, we just use simple percentages and assume payments are to be made at the month end.

The payment for labour contains labour taxes on behalf of the employee and social security. Latter ones

consist of insurance for unemployment, of pension funds contributions, and of health care coverage. The

labour costs contain all of the above. In most countries, the payment for the employee is called gross sala-

ry. The gross salary contains taxes to be paid by the employee for getting paid, and – in Germany – half of

the social security. The portion which the employee has to cover is called employee’s contribution to so-

cial security. The other half thereof is paid by the company. It is not included in the gross salary. For this

ebook Accounting-Intro we make assumptions for the amounts as follows: Social security is 25 % of the

gross salary and taxes on labour amount to 20 % of the gross salary. The taxes on labour will be deducted

from the money the employee gets paid. The company owes the authorities the taxes on labour.

The calculation for labour is explained by the following case study: SUIDERLAND Ltd. has an employee

LAMPEN-KÖTTER on its payroll who earns a monthly gross salary of 3,500.00 EUR. The taxes on la-

bour are deducted and the social security calculated by 25 % of the gross salary LAMPEN-KÖTTER has

to pay by half. LAMPEN-KÖTTER’s net salary is the amount he gets paid after deducting tax and half of

the social security. LAMPEN-KÖTTER’s net salary amounts to 3,500 – 20% x 3,500 – 25% 3,500/2 =

2,362.50 EUR. Accordingly, the taxes amount to 20% x 3,500 = 700.00 EUR. The half of social security

amounts to 25 % x 3,500 x (1/2) = 437.50 EUR. It is assumed that the net salary is paid on the 15th of

every month. However, the amounts for social security and for taxes are due on month ends.

SUIDERLAND Ltd. makes the bookkeeping entries in January for LAMPEN-KÖTTER’s salary:

(1) Posting net salary and putting taxes on labour and half of the social security to payables on

15.01.20X3:

DR Labour ........................... 3,500.00 EUR

CR A/P (Taxes on Labour) ............ 700.00 EUR

CR A/P (Social Security 50%) ........ 437.50 EUR

CR Cash/Bank ........................ 2,362.50 EUR

(2) Putting SUIDERLAND Ltd.’s contribution to LAMPEN-KÖTTER’s social security into Accounts

Payables on 31.01.20X3:

DR Labour ........................... 437.50 EUR

CR A/P (Social Security 50%) ........ 437.50 EUR

(3) Payment of taxes and social security on 31.01.20X3:



DR A/P (Taxes on Labour) ............ 700.00 EUR

DR A/P (Social Security 100%) ....... 875.00 EUR

CR Cash/Bank ........................ 1,575.00 EUR

Observe the accounts for the payments

D C D C

(1) 3,500.00 (3) 875.00 (1) 437.50

(2) 437.50 P&L 3,937.50 (2) 437.50

3,937.50 3,937.50 875.00 875.00

D C D C

(3) 700.00 (1) 700.00 OV ... (1) 2,362.50

(3) 1,575.00

Taxes payables Cash/Bank

Labour Social securities payables

Exhibit 18.4: SUIDERLAND Ltd.’s accounts

Summary:

Some expenses will be paid in advance. In accounting we make entries in prepaid expenses therefore. The

Labour account contains bookkeeping entries for taxes on labour and for social security. These amounts

normally will be put to payables at first when they are not paid at the same time as the net salary. The

payables are dissolved once due.



(20) Trading Business: Purchases and Returns


In this chapter we are going to learn some basic activities for dealerships. There will be purchases and

returns in particular. We introduce the Returns Inwards account also.

A dealership has normal activities like rent, insurance, labour, depreciation as we covered by the previous

chapters already. We now focus on inventory movements in particular.

A company that deals with goods buys these goods from a supplier and sells them to their customers.

Sometimes the customers are companies also. In that case we call the dealership a B2B-dealer – as: Busi-

ness – to – Business dealer. For our further consideration the customers will become relevant when it

comes to sales in chapter 22.

A business that buys goods in order to sell them to their customers uses a special account called Purchase

account. All goods bought will be put to the Purchase account at first. For now we introduce a periodic

inventory system. Along that system the dealer only makes bookkeeping entries for purchases. At the end

of the accounting period the business runs a stock count in order to determine how many goods are left

on stock. As the stock is counted only once in the accounting period the inventory system is named peri-

odic system.

(Note, the alternative method called “perpetual system” will be introduced in the text book Bilanzen in

chapter 9 and in this ebook by chapter 34.)

All purchases will be entered into the Purchase account. The bookkeeping entry for purchases on cash or

per bank transfer always is:

DR Purchase .........................

CR Cash/Bank ........................

In case the purchase is made on credit the bookkeeping entry is:

DR Purchase .........................

CR Cash/Bank ........................

APPLEDENE (Pty) Ltd. is a local grocery dealer. The business buys fruits, meat, bread, etc. from its sup-

pliers and sells them to their customers in their corner shop. On 1.01.20X7 APPLEDENE (Pty) Ltd. is

founded by the proprietors’ contribution that amounts to 80,000.00 EUR. The manager makes the

bookkeeping entry below:

(1) Establishment of the business on 2.01.20X7:

DR Cash/Bank ........................ 80,000.00 EUR


APPLEDENE (Pty) Ltd. rents the shop from its landlord. The contract states that on every 3.01. the full

annual rent is to be paid by bank transfer. Rent amounts to 24,000.00 EUR/a. The manager makes the

bookkeeping entry as follows.

(2) Payment for the annual rent on 4.01.20X7.



DR Rent ............................. 24,000.00 EUR

CR Cash/Bank ........................ 24,000.00 EUR

APPLEDENE (Pty) Ltd. weekly buys bread from the bakery and pays the amount due per bank transfer.

The weekly purchases are for 250.00 EUR. The manager makes the bookkeeping entries as below:

(3) … (54) Purchase of bread every week at 250.00 EUR

DR Purchase ......................... 250.00 EUR

CR Cash/Bank ........................ 250.00 EUR

APPLEDENE (Pty) Ltd. further buys fruits from the fruit supplier and pays the amount on cash. In the

first week the purchases were for 400.00 EUR. Accordingly, the manager makes the bookkeeping entry as

follows:

(55) Purchase of fruits on 5.01.20X7

DR Purchase ......................... 400.00 EUR

CR Cash/Bank ........................ 400.00 EUR

The fruit purchases take place every week during 20X7 at the same price. The bookkeeping entries (56) …

(106) look the same as bookkeeping entry (55).

The contract with the butchery states that APPLEDENE (Pty) Ltd. gets meat delivered every day and has

to pay the amount due at the end of the week. The daily delivery is for 100.00 EUR. The manager makes

the bookkeeping entries as below:

(107) Purchase of meat every day:

DR Purchase ......................... 100.00 EUR

CR Accounts Payables ................ 100.00 EUR

(138) Payment for the meat:

DR Accounts Payables ................ 700.00 EUR

CR Cash/Bank ........................ 700.00 EUR

At the end of the year APPEDENE (Pty) Ltd. runs a stock count and detects bread for 250.00 EUR and

meat for 1,400.00 EUR. There are no fruits left over.

The expenses for the groceries are the purchases less the closing stock. APPLEDENE (Pty) Ltd. got ex-

penses for goods 52 x 250 + 52 x 400 + 365 x 100 – 250 – 1,400 = 68,650.00 EUR. This is the amount to

appear on the face of the statement of comprehensive income.

There are situations when a buyer sends back goods he/she bought. In these situations the receiver of the

goods will make an entry in the Returns Outwards account. (Note, the name of the account is Returns

Outwards – plural - as there can be more than one return posted during the accounting period with that

account.) The contra entry is in the Cash/Bank account as long as the buyer receives the money back

immediately. Mostly, the seller will send a voucher or will reduce the amount to be paid still by the cus-



tomer. Then, the buyer will debit the amount to Accounts Payables (which is a reduction) or makes a debit

entry in the Accounts Receivables for a voucher.

KLIPFONTEIN Ltd. is established on 1.01.20X5 and is a dealer for kitchen tools. The business is based

on shares and is founded by an issue of 100,000 ordinary shares at 1.00 EUR each. The issue price equals

the face value.

(1) Establishing KLIPFONTEIN Ltd. by a share issue on 1.01.20X5:

DR Cash/Bank ........................ 100,000.00 EUR


KLIPFONTEIN Ltd. orders from a pot factory 130 5l-pots with a glass lit at 23.00 EUR each. The pots

are paid by bank transfer on 2.01.20X5. The amount to be paid is 130 x 23 = 2,990.00 EUR. In order to

simplify the case study we ignore VAT.

(2) Purchase of 5l-pots with a glass lit on 2.01.20X5:

DR Purchase ......................... 2,990.00 EUR

CR Cash/Bank ........................ 2,990.00 EUR

Half of the 5l-pots with a glass lit have scratches on the lit. KLIPFONTEIN Ltd. calls the supplier’s man-

ager and sends back the damaged pots. The supplier immediately transfers half of the purchase price into

KLIPFONTEIN Ltd.’s bank account on 9.01.20X5.

(3) Return of 65 damaged 5l-pots with a glass lit on 9.01.20X5:

DR Cash/Bank ........................ 1,495.00 EUR

CR Returns Outwards ................. 1,495.00 EUR

(Note, the international chart of accounts doesn’t contain a Return Outwards account. Companies will

credit the returns to the Purchase account instead when they use the international chart of accounts.)

On 10.01.20X5 KLIPFONTEIN Ltd. orders from another supplier 200 26cm-pans at 31.00 EUR each. It

is agreed that KLIPFONTEIN Ltd. will pay the purchase price 200 x 31 = 6,200.00 EUR on 1.02.20X5.

(4) Purchase of 26cm-pans on 10.01.20X5 on credit.

DR Purchase ......................... 6,200.00 EUR


The quality management detects one box including 6 pans which are only 22 cm of the size.

KLIPFONTEIN Ltd.’s purchase manager calls the supplier and agrees to send the 6 pans back. The sup-

plier adjusts the bill sent to KLIPFONTEIN Ltd. earlier according to the return. The amount due is

dropped to 6,200 – 6 x 31 = 6,014.00 EUR. The bookkeeping entry made is about the returns outwards

only. The returns outwards amount to 6 x 31 = 186.00 EUR. They are debited to the Accounts Payables

account for the supplier.

(5) Return of 6 small pans on 15.01.20X5:




CR Returns Outwards ................. 186.00 EUR

KLIPFONTEIN Ltd. pays the amount due to the supplier as agreed on 1.02.20X5.

(6) Payment of purchase price on 1.02.20X5:


CR Cash/Bank ........................ 6,014.00 EUR

On 3.02.20X5 KLIPFONTEIN Ltd. orders 500 24-piece-cutlery sets at 19.50 EUR/p from their supplier

and puts the amount due in the supplier’s bank account by electronic bank transfer. The cutlery sets are

delivered a few days later. The quality management detects the sets only contain 18 pieces because the tea

spoons are missing. KLIPFONTEIN Ltd. sends back the whole delivery and gets a voucher from the

supplier with his apologies.

(7) Order of 24-piece-cutlery sets at 500 x 19.50 = 9,750.00 EUR on 3.02.20X5:

DR Purchase ......................... 9,750.00 EUR

CR Cash/Bank ........................ 9,750.00 EUR

(8) Return of incomplete cutlery sets on 7.02.20X5:



On 23.02.20X5 KLIPFONTEIN Ltd. orders 120 exclusive 12-steak-knife-sets from the supplier who

delivered the cutlery recently. The steak knife sets are 36.00 EUR each. The amount for the steak knives is

120 x 36 = 4,320.00 EUR. The amount is not paid because KLIPFONTEIN Ltd. uses a portion of its

voucher for payment. The amount still open is 9,750 – 4,320 = 5,430.00 EUR. The bookkeeper makes

the bookkeeping entry (9):

(9) Purchase of 120 steak knife sets on 23.02.20X5:

DR Purchase ......................... 4,320.00 EUR


On 3.04.20X5 KLIPFONTEIN Ltd. orders 450 steal made salad bowls at 25.00 EUR/p from the supplier

that delivered the cutlery and the steak knives earlier. The amount due is 450 x 25 = 11,250.00 EUR. The

amount is paid partly by the voucher and by a money transfer on 5.04.20X5. The money put into the sup-

plier’s bank account amounts to 11,250 – 5,430 = 5,820.00 EUR.

(10) Purchase of steal bowls on 5.04.20X5:



DR Purchase ......................... 11,250.00 EUR


CR Cash/Bank ........................ 5,820.00 EUR

In order to retrieve all bookkeeping entries take now a look at KLIPFONTEIN Ltd.’s accounts below:

D C D C

(1) 100,000.00 (2) 2,990.00 c/d 100,000.00 (1) 100,000.00

(3) 1,495.00 (6) 6,014.00 b/d 100,000.00

(7) 9,750.00

(10) 5,820.00

c/d 76,921.00

101,495.00 101,495.00

b/d 76,921.00

D C D C

(2) 2,990.00 (3) 1,495.00

(4) 6,200.00 (5) 186.00

(7) 9,750.00 c/d 11,431.00 (8) 9,750.00

(9) 4,320.00 11,431.00 11,431.00

(10) 11,250.00 c/d 34,510.00 b/d 11,431.00

34,510.00 34,510.00

b/d 34,510.00

D C D C

(5) 186.00 (4) 6,200.00 (8) 9,750.00 (9) 4,320.00

(6) 6,014.00 (10) 5,430.00

6,200.00 6,200.00 9,750.00 9,750.00


Accounts Payables Accounts Receivables

Purchase Returns Outwards

Exhibit 20.1: KLIPFONTEIN Ltd.’s accounts in 20X5

At the end of the accounting period there are no goods left on stock at KLIPFONTEIN Ltd.’s store. The

material expenses amount to the amount purchased less the amount for returns outwards. The total ex-

penses as in the above example are 34,510 – 11,431 = 23,079.00 EUR.

In order to check the amount we calculate the amounts purchased but not sent back: 1,495 + 6,014 +

4,320 + 11,250 = 23,079.00 EUR.

Summary:

A trading business that buys goods makes debit entries in the Purchase account therefore. Goods sent

back are considered by credit entries in the Returns Outwards account. The total amount of the goods

bought is the difference between the balancing figure in the Purchase account and the Returns Outwards

account.



(21) Trading Business: Purchases with Consideration of VAT


In this chapter we’ll introduce value added tax (VAT). In order to keep the example simple we are going

to use the same examples as in chapter 20: APPLEDENE (Pty) Ltd. and KLIPFONTEIN Ltd.

In most countries there is a tax on purchases/sales called value added tax VAT. The VAT rate differs

from country to country. VAT is a tax the consumer pays when he/she buys a product. Companies that

make purchases are seen as consumers also and have to pay the amount of VAT. Actually, they pay the

price of the good they purchase plus a surcharge for VAT. A buyer who buys a product at 200.00 EUR

pays 200 + VAT rate x 200. In this text book the VAT rate is 20 %. Accordingly, a payment to buy a

product at 200 will be 200 + 20% x 200 = 240.00 EUR.

(Note, there are different VAT rates for different countries. Germany’s tax rate is 19 %. Furthermore,

there are some goods that go with a lower VAT rate, e.g. books, groceries, drugs, etc. Consider the nation-

al law of the country you are in for details.)

Normal buyers pay the amount including VAT because they consume. When you go into a shop you are

supposed the pay the amount including VAT. This is what we refer to as the gross amount. The price tags

show you gross amounts always. The amount excluding VAT is called the net amount. Only in wholesale

prices are printed ex VAT on the price tags.

The VAT tax you pay when you buy goods is called input-VAT.

Companies are not the final consumers. For that reason, they are entitled to get the amount paid for VAT

refunded by the taxing authorities. We think of a product produced in several production steps each of

them taking place in a different company. The first company sells the semi-finished good to the second

one and gets the amount including VAT paid for the sale. The second one sells the good at the gross price

also. If there was no refunding system products would get more and more expensive because of VAT. As

more production steps occur as more expensive the product becomes. There would even be a VAT based

on VAT paid for the previous production step. For that reason, VAT will be refunded for companies.

This means, all VAT paid by buying materials or other goods will be reported and put onto a VAT-

statement later. In the next accounting period the amount for VAT paid will be refunded. Companies use

a VAT account in order to gather the amounts paid on VAT.

Companies have to register for VAT reduction as described above. They do so with the taxing authorities.

A company that is registered for VAT reduction pays VAT on goods that they buy. They claim the

amount back at the end of the accounting period.

Whenever there is a bookkeeping entry for purchases the amount for VAT will be debited in the VAT

account.

(Note, along the IFRSs there are some definitions as we introduce them here: The cost of purchase and

the cost of acquisition are always net amounts. The prices for a product are always including VAT. The

latter one means they are gross amounts.)

We now go again through the previous examples APPLEDENE (Pty) Ltd. and KLIPFONTEIN Ltd. and

consider VAT.



APPLEDENE (Pty) Ltd. is the grocery dealer covered by chapter 20. APPLEDENE (Pty) Ltd. registered

for VAT reduction. The bookkeeping entry for founding the business is not affected by VAT. On

1.01.20X7 APPLEDENE (Pty) Ltd.’s manager makes the bookkeeping entry below:

(1) Establishment of the business on 2.01.20X7:

DR Cash/Bank ........................ 80,000.00 EUR


APPLEDENE (Pty) Ltd. rents the shop from its landlord. In case the landlord did not apply for VAT

reduction rent stays free of VAT. APPLEDENE (Pty) Ltd.’s landlord is a private owner. The rule is as

follows: In case landlord and tenant are both registered for VAT reduction rent is VAT relevant. Here

only APPLEDENE (Pty) Ltd. can reduce VAT. So, rent is not VAT relevant here. The manager makes

the bookkeeping entry as follows.

(2) Payment for annual rent on 4.01.20X7.

DR Rent ............................. 24,000.00 EUR

CR Cash/Bank ........................ 24,000.00 EUR

APPLEDENE (Pty) Ltd. weekly buys bread from the bakery and pays the amount due per bank transfer.

The bakery is a VAT registered business and sells the bread at the gross amount to APPLEDENE (Pty)

Ltd. The weekly purchases are 250 + 50 = 300.00 EUR. The manager makes the bookkeeping entries as

below:

(3) … (54) Purchase of bread every week at 350.00 EUR

DR Purchase ......................... 250.00 EUR

DR VAT .............................. 50.00 EUR

CR Cash/Bank ........................ 300.00 EUR

Observe the accounts at this stage for APPLEDENE (Pty) Ltd.



D C D C

(1) 80,000.00 (2) 24,000.00 (1) 80,000.00

(3) 300.00

(4) 300.00

... ...

(54) 300.00

D C D C

(2) 24,000.00 (3) 250.00

(4) 250.00

... ...

(54) 250.00

D C D C

(3) 50.00

(4) 50.00

(54) 50.00


VAT Acc

Rent Purchase

Exhibit 21.1: APPLEDENE (Pty) Ltd.’s accounts after 54 bookkeeping entries

(Note, the accounts in exhibit 21.1 have not been balanced off.)

APPLEDENE (Pty) Ltd. further buys fruits from the fruit supplier and pays the amount on cash. In the

first week the purchases were 400.00 EUR. The amount to be paid is 400 + 80 = 480.00 EUR. Accord-

ingly, the manager makes the bookkeeping entry as follows:

(55) … (106) Purchase of fruits on 5.01.20X7

DR Purchase ......................... 400.00 EUR

DR VAT .............................. 80.00 EUR

CR Cash/Bank ........................ 480.00 EUR

The contract with the butchery states that APPLEDENE (Pty) Ltd. gets meat delivered every day and has

to pay the amount due at the end of the month. The daily delivery is at 100.00 EUR. The gross amount is

100 + 20 = 120.00 EUR. The manager makes the bookkeeping entries as below:

(107) Purchase of meat every day:

DR Purchase ......................... 100.00 EUR

DR VAT .............................. 20.00 EUR




(138) Payment for the meat for the full week amounts to 7 x 120 = 840.00 EUR:


CR Cash/Bank ........................ 840.00 EUR

At the end of the year APPEDENE (Pty) Ltd. runs a stock count and detects bread for 250.00 EUR and

meat for 1,400.00 EUR. There are no fruits left over. As you can see the amounts in the bookkeeping

records like inventory and property, plant, and equipment always are net amounts. Check the previous

debit entries for the purchases!

The expenses for the groceries are the total of the purchases less the closing stock. APPLEDENE (Pty)

Ltd. got expenses for goods 52 x 250 + 52 x 400 + 365 x 100 – 250 – 1,400 = 68,650.00 EUR..

When companies return goods to their supplier an adjustment is to be made in the VAT account also.

Returns outwards are treated like negative purchases. See for further details the KLIPFONTEIN Ltd. case

study from chapter 20:

KLIPFONTEIN Ltd. is established on 1.01.20X5.

(1) Establishing KLIPFONTEIN Ltd. by a share issue on 1.01.20X5:

DR Cash/Bank ........................ 100,000.00 EUR


KLIPFONTEIN Ltd. orders from a pot factory 130 5l-pots with a glass lit at 23.00 EUR each. The price

is given as the net amount. In order to calculate the price to be paid KLIPFONTEIN Ltd. has to multiply

the amount by 120 %: 23 x 120% = 27.60 EUR. The amount to be paid is 130 x 27.60 = 3,588.00 EUR.

(2) Purchase of 5l-pots with a glass lit on 2.01.20X5:

DR Purchase ......................... 2,990.00 EUR

DR VAT .............................. 598.00 EUR

CR Cash/Bank ........................ 3,588.00 EUR

Half of the 5l-pots with a glass lit are returned by KLIPFONTEIN Ltd. The supplier immediately trans-

fers half of the purchase price (gross amount) into KLIPFONTEIN Ltd.’s bank account on 9.01.20X5.

KLIPFONTEIN Ltd. makes a correction of VAT also.

(3) Return of 65 damaged 5l-pots with a glass lit on 9.01.20X5:

DR Cash/Bank ........................ 1,794.00 EUR

CR VAT .............................. 299.00 EUR


On 10.01.20X5 KLIPFONTEIN Ltd. orders from another supplier 200 26cm-pans at 31.00 EUR (pur-

chase cost) each. The gross amount is 31 x 1.2 = 37.20 EUR. It is agreed that KLIPFONTEIN Ltd. will

pay the purchase price 200 x 37.20 = 7,440.00 EUR on 1.02.20X5.



(4) Purchase of 26cm-pans on 10.01.20X5 on credit.

DR Purchase ......................... 6,200.00 EUR

DR VAT .............................. 1,240.00 EUR


KLIPFONTEIN Ltd.’s sends back 6 pans. The supplier adjusts the bill sent to KLIPFONTEIN Ltd.

earlier. The amount due is 7,440 – 6 x 37.20 = 7,216.80 EUR. The bookkeeping entry made is about the

returns outwards only. They amount to 6 x 37.20 = 223.20 EUR.

(5) Return of 6 small pans on 15.01.20X5:


CR VAT .............................. 37.20 EUR


KLIPFONTEIN Ltd. pays the amount due to the supplier as agreed on 1.02.20X5.

(6) Payment of purchase price on 1.02.20X5:


CR Cash/Bank ........................ 7,216.80 EUR

On 3.02.20X5 KLIPFONTEIN Ltd. orders 500 24-piece-cutlery sets at cost of purchase 19.50 EUR/p

from their supplier and pays the amount due (500 x 19.5 x 120 % = 11,700.00 EUR) into the supplier’s

bank account by electronic bank transfer. The cutlery sets are delivered a few days later. The quality man-

agement detects all sets only contain 18 pieces because the tea spoons are missing. KLIPFONTEIN Ltd.

sends back the whole delivery and gets a voucher from the supplier.

(7) Order of 24-piece-cutlery sets at 11,700.00 EUR on 3.02.20X5:

DR Purchase ......................... 9,750.00 EUR

DR VAT .............................. 1,950.00 EUR

CR Cash/Bank ........................ 11,700.00 EUR

(8) Return of incomplete cutlery sets on 7.02.20X5:


CR VAT .............................. 1,950.00 EUR


On 23.02.20X5 KLIPFONTEIN Ltd. orders 120 exclusive 12-steak-knives-sets from the supplier who

delivered the cutlery recently. The steak knife sets are at a net amount of 36.00 EUR each. The amount for

the steak knives to be paid is 120 x 36 x 120% = 5,184.00 EUR. The amount is not paid because

KLIPFONTEIN Ltd. uses a portion of its voucher for payment. The amount still open is 11,700 – 5,184

= 6,516.00 EUR. The bookkeeper makes the bookkeeping entry (9):

(9) Purchase of 120 steak knife sets on 23.02.20X5:



DR Purchase ......................... 4,320.00 EUR

DR VAT .............................. 864.00 EUR


On 3.04.20X5 KLIPFONTEIN Ltd. orders 450 steal made salad bowls at 25.00 EUR/p (net amount)

from the supplier that delivered cutlery and steak knives earlier. The amount due is 450 x 25 x 120% =

13,500.00 EUR. The amount is paid partly by the voucher and by a money transfer on 5.04.20X5. The

money put into the supplier’s bank account amounts to 13,500 – 6,516 = 6,984.00 EUR.

(10) Purchase of steal bowls on 5.04.20X5:

DR Purchase ......................... 11,250.00 EUR

DR VAT .............................. 2,250.00 EUR


CR Cash/Bank ........................ 6,984.00 EUR

In order to retrieve all bookkeeping entries take now a look at KLIPFONTEIN Ltd.’s accounts below:

D C D C

(1) 100,000.00 (2) 3,588.00 c/d 100,000.00 (1) 100,000.00

(3) 1,794.00 (6) 7,216.80 b/d 100,000.00

(7) 11,700.00

(10) 6,984.00

c/d 72,305.20

101,794.00 101,794.00

b/d 72,305.20

D C D C

(2) 2,990.00 (3) 1,495.00

(4) 6,200.00 (5) 186.00

(7) 9,750.00 c/d 11,431.00 (8) 9,750.00

(9) 4,320.00 11,431.00 11,431.00

(10) 11,250.00 c/d 34,510.00 b/d 11,431.00

34,510.00 34,510.00

b/d 34,510.00

Cash/Bank Issued capital

Purchase Returns outwards

Exhibit 21.1: KLIPFONTEIN Ltd.’s accounts



D C D C

(5) 223.20 (4) 7,440.00 (8) 11,700.00 (9) 5,184.00

(6) 7,216.80 (10) 6,516.00

7,440.00 7,440.00 11,700.00 11,700.00

D C

(2) 598.00 (3) 299.00

(4) 1,240.00 (5) 37.20

(7) 1,950.00 (8) 1,950.00

(9) 864.00

(10) 2,250.00 c/d 4,615.80

6,902.00 6,902.00

b/d 4,615.80

Accounts payables Accounts receivables

VAT

Exhibit 21.1: KLIPFONTEIN Ltd.’s accounts (continued)

At the end of the accounting period there are no goods left on stock at KLIPFONTEIN Ltd.’s store. The

material expenses amount to the amount purchased less returns outwards. The total material expenses as

in the above example are 34,510 – 11,431 = 23,079.00 EUR.

In order to check the amount we calculate the amounts purchased but not sent back: 1,495 + 6,014 +

4,320 + 11,250 = 23,079.00 EUR.

Summary:

VAT is a tax based on the purchase price of goods bought. VAT registered companies claim back VAT

paid at the end of an accounting period. When buying goods companies debit the amount they claim from

the tax authorities to the VAT account. When returning goods to suppliers companies have to adjust the

VAT account by making credit entries.


Input VAT: Input VAT is the VAT tax you pay when you buy goods.



(22) Trading Business: Sales


In this chapter bookkeeping entries for sales in a dealership will be introduced. The sales will be combined

with a periodic system for inventory. Furthermore, the Trading Account will be used to determine the

gross profit.

A trading company buys goods and sells them to their customers. By the previous chapters, we only cov-

ered purchases intentionally. Now, we are going to introduce sales also. This will complete our view on

trading businesses. However, we will make bookkeeping entries for receiving cash or its equivalents but

won’t make bookkeeping entries for the goods given to customers at first. As we apply a periodic invento-

ry system we can determine the closing stock of inventory at the end of the accounting period to calculate

the value of goods sold. Later we will learn another concept for inventories. An inventory system is how

to make bookkeeping entries for inventory movements. Some companies make bookkeeping entries

for inventory inputs and count stock at the end of the accounting period in order to determine the total of

inventory outputs – other companies make bookkeeping entries for inventory input and outputs. Invento-

ry systems are subject to chapter 34 of this ebook Accounting-Intro.

For sales we credit the sales account. The name revenue or sales revenue is common for this account also.

There is no difference between these technical terms so far to be considered. For dealerships sales is more

appropriate. For this reason we will use that expression for trading businesses and will use revenue for

production firms. The debit entry is in the Cash/Bank account or in receivables depending on the way the

customers pay for their sales.

In order to determine the profit we will now consider purchases and sales for a company together. Similar

to returns outwards there can be returns inwards when customers send back goods to the company they

bought them from.

The following example is without VAT. In the next following chapter 23 the examples CORNFLOWER

Ltd. and DURANT (Pty) Ltd. will be discussed again with the consideration of VAT.

CORNFLOWER Ltd. is a car dealership for all makes. The business is established on 1.01.20X9 by an

issue of 20,000 ordinary shares at 5.00 EUR/share. The share issue is par value. This means the shares

were issued at the face value amount.

(1) Issue of shares on 1.01.20X9:

DR Cash/Bank ........................ 100,000.00 EUR


The rent for the show room is paid for the full year in advance. There are no accruals relevant. The rent

for the show room, car yard, and workshop is 36,000.00 EUR/a. CORNFLOWER Ltd. pays the amount

per bank transfer on 1.01.20X9.

(2) Rent payment on 1.01.20X9:

DR Rent ............................. 36,000.00 EUR

CR Cash/Bank ........................ 36,000.00 EUR



On 2.01.20X9 the purchase manager buys 3 used VW Polos built in 20X7 at 16,000.00 EUR each. The

previous owners get paid by paying the purchase price into their bank accounts the next day. The

bookkeeper makes the bookkeeping entry below:

(3) Purchase of VW Polos at 3 x 16,000 = 48,000.00 EUR.

DR Purchase ......................... 48,000.00 EUR

CR Cash/Bank ........................ 48,000.00 EUR

On 12.01.20X9 one of the VW Polos is sold at 17,500.00 EUR. The sale is on cash.

(4) Sale of the VW Polo at 17,500.00 EUR on 12.01.20X9:

DR Cash/Bank ........................ 17,500.00 EUR

CR Sales ............................ 17,500.00 EUR

On 14.01.20X9 CORNFLOWER Ltd. buys a Mercedes B-class from 20X8 at 20,000.00 EUR. The deal is

on credit and CORNFLOWER Ltd. has to pay during the next week.

(5) Purchase of a Mercedes B-class on 14.01.20X9:

DR Purchase ......................... 20,000.00 EUR


CORNFLOWER pays one week later the Mercedes B-class.

(6) Payment for Mercedes B-class on 21.01.20X9:


CR Cash/Bank ........................ 20,000.00 EUR

The next day the Mercedes B-class is sold at 22,000.00 EUR. The customer pays a downpayment of

5,000.00 EUR on cash and agrees to pay the remaining amount within 3 days’ time.

(7) Sale of Mercedes B-class on 22.01.20X9:

DR Cash/Bank ........................ 5,000.00 EUR


CR Sales ............................ 22,000.00 EUR

On 24.01.20X9 the buyer of the Mercedes B-class pays the remaining amount into CORNFLOWER

Ltd.’s bank account.

(8) Receiving the amount of 17,000.00 EUR from the Mercedes B-class sale on 24.01.20X9:

DR Cash/Bank ........................ 17,000.00 EUR


Before we explain the calculation of profit by the Trading account we take a look at the accounts at this

stage.



D C D C

(1) 100,000.00 (2) 36,000.00 c/d 100,000.00 (1) 100,000.00

(4) 17,500.00 (3) 48,000.00 b/d 100,000.00

(7) 5,000.00 (6) 20,000.00

(8) 17,000.00 c/d 35,500.00

139,500.00 139,500.00

b/d 35,500.00

D C D C

(2) 36,000.00 (3) 48,000.00

(5) 20,000.00

D C D C

(4) 17,500.00 (6) 20,000.00 (5) 20,000.00

(7) 22,000.00

D C

(7) 17,000.00 (8) 17,000.00

Sales Accounts payables

Accounts receivables

Rent Purchase


Exhibit 22.1: CORNFLOWER Ltd.’s accounts

We already saw how the companies earn revenue. The revenue is the money that flows to the company

for selling the goods. The total revenue amounts to the balancing figure in the Sales account 17,500 +

22,000 = 39,500.00 EUR.

The gross profit for a dealership is the revenue less material expenses. Here, we have to deduct the

cost of purchase from the revenue. The cars sold were bought at 16,000 + 20,000 = 36,000.00 EUR.

Accordingly, the gross profit of the cars sold amounts to 39,500 – 36,000 = 3,500.00 EUR. The example

is easy to understand because the gross profit earned by the cars is already known. It is 17,500 – 16,000 =

1,500.00 EUR for the VW Polo and it is 22,000 – 20,000 = 2,000.00 EUR for the Mercedes B-class.

However, the profit for the whole accounting period is negative because we have to take the show

room/car yard/workshop rent into consideration also. CORNFLOWER Ltd.’s loss is 3,500 – 36,000 =

32,500.00 EUR.

We now take a closer look at the accounts and learn a straight forward way how to determine the gross

profit and the net profit.

For the gross profit we use a Trading account (T/A). The Trading account is an account that displays

on the debit side the opening value of inventory, all purchases, and all returns inwards. On the

credit side there is sales, closing stock, and all returns outwards. The balancing figure of the

Trading account is the gross profit. If the balancing figure (balance c/d) of the Trading account is on

the credit side the trader made a loss. We call it gross loss then.

CORNFLOWER Ltd.’s Trading account contains on its debit side: No opening value for inventory. The

total of purchases amounts to the cost of purchase of the VW Polos and the Mercedes B-class: 48,000 +

20,000 = 68,000.00 EUR. On the credit side we observe the total of sales 39,500.00 EUR. The closing

stock consists of the two VW Polos which have not been sold yet at 2 x 16,000 = 32,000.00 EUR. The



balancing figure in the Trading account is the gross profit. It amounts to 39,500 + 32,000 - 68,000 =

3,500.00 EUR. The gross profit as balance carried down appears on the debit side of the Trading account.

So far we did not make any bookkeeping entry with regard to inventory. CORNFLOWER Ltd. applies a

periodic inventory system and has to post the closing stock still. A periodic inventory system doesn’t make

bookkeeping entries for releases from stock. So, the stock is to be counted at the period end and to be

posted to inventory. This means to debit the amount of closing stock to the Inventory account. As there is

a credit entry in the Trading account already the contra entry is to be made still. The bookkeeping entry is

made on 31.12.20X9:

DR Inventory ........................ 32,000.00 EUR

CR Trading Account .................. 32,000.00 EUR

Observe the accounts:

D C D C

(1) 100,000.00 (2) 36,000.00 c/d 100,000.00 (1) 100,000.00

(4) 17,500.00 (3) 48,000.00 b/d 100,000.00

(7) 5,000.00 (6) 20,000.00

(8) 17,000.00 c/d 35,500.00

139,500.00 139,500.00

b/d 35,500.00

D C D C

(2) 36,000.00 c/d 36,000.00 (3) 48,000.00

b/d 36,000.00 P&L 36,000.00 (5) 20,000.00 c/d 68,000.00

68,000.00 68,000.00

b/d 68,000.00 T/A 68,000.00

D C D C

(4) 17,500.00 (6) 20,000.00 (5) 20,000.00

c/d 39,500.00 (7) 22,000.00

39,500.00 39,500.00

T/A 39,500.00 b/d 39,500.00

D C D C

(7) 17,000.00 (8) 17,000.00 Purch 68,000.00 Sales 39,500.00

GP c/d 3,500.00 Inv 32,000.00

71,500.00 71,500.00

P&L 3,500.00 b/d 3,500.00


Accounts receivables Trading account

Rent Purchase





D C D C

T/A 32,000.00 c/d 32,000.00 Rent 36,000.00 T/A 3,500.00

b/d 32,000.00 NL c/d 32,500.00

36,000.00 36,000.00

b/d 32,500.00 R/E 32,500.00

D C

P&L 32,500.00 c/d 32,500.00

b/d 32,500.00

R/E

Inventory Profit and Loss

Exhibit 22.2: CORNFLOWER Ltd.’s accounts (continued)

The procedure to calculate the profit at the end of the accounting period is described in detail below. All

bookkeeping entries are made on 31.12.20X9:

After balancing off all accounts the balancing figure of the Sales account is transferred to the Trading

account:

DR Sales ............................ 39,500.00 EUR


The total of purchases is transferred to the Trading account also:

DR Trading Account .................. 68,000.00 EUR

CR Purchase ......................... 68,000.00 EUR

In this example the stock count is quite easy. There are still two VW Polos in the show room left. The

valuation of inventory is at the cost of purchase. Here the amount is 2 x 16,000 = 32,000.00 EUR. At this

stage the bookkeeping entry has been made already. See the previous page.

(Note, the entries for purchases and closing stock of inventory represent the material expenses. They

amount to 68,000 – 32,000 = 36,000.00 EUR.)

The balancing figure of the Trading account is named gross profit. The amount is displayed as GP c/d in

order to indicate the amount has been calculated by balancing off the account.

The Trading account’s balance is transferred to Profit and Loss:


CR Profit and Loss .................. 3,500.00 EUR

In the Profit and Loss account bookkeeping entries resulting from other activities than trading are consid-

ered. The rent for the show room/car yard/workshop is relevant. The balancing figure of the Rent ac-

count is transferred to Profit and Loss.

DR Profit and Loss .................. 36,000.00 EUR

CR Rent ............................. 36,000.00 EUR



The Profit and Loss account is balanced off. The account is debit balanced. This indicates a net loss. Net

loss is a technical term used for a negative profit after taxes. Net profit stands for a positive amount. A

net profit is the sales less all expenses (income tax expenses exempted) that occurred during the

accounting period. It is the same as earnings before taxes.

(Note, the expressions net loss and net profit gives probably trouble as students tends to get confused

with VAT because amounts ex VAT are named net also. Normally, we try to avoid the expressions net

loss and net profit but in account displays they are easy to use because the abbreviation is quite short.)

CORNFLOWER Ltd.’s net loss amounts to 32,500.00 EUR. The amount is transferred to the Retained

Earnings account:



Observe the financial statements for CORNFLOWER Ltd. which are linked to the business activities

discussed above.

[EUR]

Revenue 39,500.00

Other income

39,500.00

Materials 36,000.00

Labour

Depreciation



Interest



Deferred taxes


Cornflower Ltd.'s



Exhibit 22.3: CORNFLOWER Ltd.’s statement of comprehensive income for 20X9



A C, L







A/R A/P



67,500.00 67,500.00

Cornflower Ltd's


as at 31.12.20X9

Exhibit 22.4: CORNFLOWER Ltd.’s statement of financial position as at 31.12.20X9

The CORNFLOWER Ltd. case study is easy to oversee as the amount of cars on stock is easy to count

and to valuate. During the whole case study we were able to determine the profit made by one car and to

calculate the amount of goods that are on stock.

With regard to the valuation of goods on stock IAS 2 and § 255 HGB apply: The valuation is at cost of

purchase always. This means no further additions are allowed to be made.

We are now going through a case study where the amounts are not that easy to see which applies in most

trading companies. Furthermore, we want to consider returns. There will be returns inwards and returns

outwards. The first ones result from customers who send back the goods bought at the dealership.

Again we are going to make the bookkeeping entries and will make use of the Trading account to calculate

the gross profit. The gross profit is an important ratio used in trading businesses. It shows how much the

traders business processes can cost at a maximum in order to still make profits.

DURANT (Pty) Ltd. provides the statement of financial position at the beginning of 20X7:



A C, L







A/R A/P 50,000.00



200,000.00 200,000.00

Durant (Pty) Ltd.'s


as at 1.01.20X7

Exhibit 22.5: DURANT (Pty) Ltd.’s statement of financial position

DURANT (Pty) Ltd. is a dealership for photo equipment. The company trades with cameras, video re-

corders, tripods, photo frames, photo printers, etc. The figures presented result from the previous years.

(a) property, plant, and equipment: DURANT (Pty) Ltd. bought a shop in a mall at 100,000.00 EUR. The

shop has been depreciated already by 20,000.00 EUR. (b) Inventory results from 65 cameras at 536.00

EUR/p, from 52 video cameras at 254.00 EUR, from 304 photo frames at 19.00 EUR/p, and from 8 x

photo printers at 647.00 EUR/p. The amount for the inventory item is 65 x 536 + 52 x 254 + 304 x 19 +

8 x 647 = 59,000.00 EUR. (c) Issued capital: DURANT (Pty) Ltd. was founded by a contribution of the

proprietors 100,000.00 EUR. (d) Retained earnings: The company made a profit before taxes 50,000.00

EUR in 20X6 which is 35,000.00 EUR after taxes. The income tax liabilities are 15,000.00 EUR. (e) Ac-

counts payables: There are still bills open to suppliers which total to the payables displayed.

In situations like DURANT (Pty) Ltd.’s it is helpful to transfer the opening amounts to the accounts at

first. We do that now and show the accounts in exhibit 22.6:

D C D C

OV 100,000.00 OV 20,000.00

D C D C

OV 59,000.00 OV 61,000.00

D C D C

OV 100,000.00 OV 35,000.00

P,P,E Acc depr

Issued capital R/E

Inventory Cash/Bank

Exhibit 22.6: DURANT (Pty) Ltd.’s accounts



D C D C

OV 50,000.00 OV 15,000.00

Accounts payables Tax liabilities IAS 12

Exhibit 22.6: DURANT (Pty) Ltd.’s accounts (continued)

The amount for property, plant, and equipment results from 2 accounts: Property, Plant, and Equipment

account and from the Accumulated Depreciation account both linked to the shop.

(Note, along international bookkeeping standards income tax liabilities are recognized as liabilities but not

as provisions.)

On 2.01.20X7 DURANT (Pty) Ltd. pays the income tax liabilities from the last accounting period.

(1) Payment for income taxes on 2.01.20X7:


CR Cash/Bank ........................ 15,000.00 EUR

On 3.01.20X7 DURANT (Pty) Ltd. pays-off some short-term debts to their camera supplier. The amount

is 34,840.00 EUR.

(2) Pay-off of short-term liabilities on 3.01.20X7:


CR Cash/Bank ........................ 34,840.00 EUR

On 14.01.20X7 DURANT (Pty) Ltd. sells 12 cameras at 700.00 EUR each on cash.

(3) Sale on cash 12 x 700 = 8,400.00 EUR on 14.01.20X7:

DR Cash/Bank ........................ 8,400.00 EUR

CR Sales ............................ 8,400.00 EUR

On 15.01.20X7 DURANT (Pty) Ltd. sells 34 photo frames at 30.00 EUR each on credit. The customer

agreed to pay the amount due within the next days per bank transfer.

(4) Sale on credit 34 x 30 = 1,020.00 EUR on 15.01.20X7:


CR Sales ............................ 1,020.00 EUR

The money from the customer who bought the frames is received on 18.01.20X7.

(5) Payment from customer received on 18.07.20X7:

DR Cash/Bank ........................ 1,020.00 EUR


However, the customer with the frames sends one frame back because it has a broken glass. The customer

gets a voucher in return. DURANT (Pty) Ltd. doesn’t repair the frame and throws it away.



(Note, throwing away an item of inventory means an expense. The frame putting to scrap means it won’t

count for the stock count at the accounting period’s end.)

(6) Return inwards of one frame and giving away a voucher in order to compensate the customer on

23.01.20X7.

DR Returns Inwards .................. 30.00 EUR


DURANT (Pty) Ltd. orders 100 tripods from their supplier at 134.00 EUR each. The deal is on credit on

1.02.20X7. The amount is 100 x 134 = 13,400.00 EUR.

(7) Purchase of tripods on 1.02.20X7:

DR Purchase ......................... 13,400.00 EUR


On 4.02.20X7 DURANT (Pty) Ltd. sells 22 video cameras at 320.00 EUR each on cash.

(8) Sale of video cameras 22 x 320 = 7,040.00 EUR on 4.02.20X7:

DR Cash/Bank ........................ 7,040.00 EUR

CR Sales ............................ 7,040.00 EUR

One of the tripods ordered from the supplier doesn’t work. DURANT (Pty) Ltd.’s quality manager de-

tects the faulty tripod and sends it back. The supplier adjusts the bill therefore by a 134.00 EUR reduction.

(9) Return outwards of one tripod on 6.02.20X7:



On 8.02.20X7 DURANT (Pty) Ltd. pays the amount they owe the tripod supplier by bank transfer. The

amount is 7,040 – 134 = 6,906.00 EUR.

(10) Payment of the tripods’ bill on 8.02.20X7:


CR Cash/Bank ........................ 6,906.00 EUR

On 31.12.20X7 DURANT (Pty) Ltd. depreciates the store by 2,000.00 EUR.

(11) Depreciation of the store on 31.12.20X7:


CR Accumulated Depreciation ......... 2,000.00 EUR

After making the bookkeeping entries the accounts look as displayed by exhibit 22.7.



D C D C

OV 100,000.00 c/d 100,000.00 OV 20,000.00

b/d 100,000.00 c/d 22,000.00 (11) 2,000.00

22,000.00 22,000.00

b/d 22,000.00

D C D C

OV 59,000.00 OV 61,000.00 (1) 15,000.00

(3) 8,400.00 (2) 34,840.00

(5) 1,020.00 (10) 6,906.00

(8) 7,040.00 c/d 20,714.00

77,460.00 77,460.00

b/d 20,714.00

D C D C

c/d 100,000.00 OV 100,000.00 OV 35,000.00

b/d 100,000.00

D C D C

(2) 34,840.00 OV 50,000.00 (1) 15,000.00 OV 15,000.00

(9) 134.00 (6) 30.00

(10) 6,906.00 (7) 13,400.00

c/d 21,550.00

63,430.00 63,430.00

b/d 21,550.00

D C D C

(3) 8,400.00 (4) 1,020.00 (5) 1,020.00

(4) 1,020.00

c/d 16,460.00 (8) 7,040.00

16,460.00 16,460.00

b/d 16,460.00

Sales Accounts receivables

P,P,E Acc depr

Issued capital R/E


Inventory Cash/Bank

D C D C

(6) 30.00 c/d 30.00 (7) 13,400.00 c/d 13,400.00

b/d 30.00 b/d 13,400.00

D C D C

c/d 134.00 (9) 134.00 (11) 2,000.00 c/d 2,000.00

b/d 134.00 b/d 2,000.00

Returns inwards Purchases

Returns outwards Depreciation


(Note, some accounts as Retained Earnings account, Inventory account, etc. have not been balanced off

as they will be debited or credited by the profit calculation.)



In order to prepare the Trading account DURANT (Pty) Ltd. runs a stock count. The result is 53 cameras,

30 video cameras, 270 photo frames, 99 tripods, and 8 photo printers. The inventory valuation gives an

amount as closing stock of 53 x 536 + 30 x 254 + 270 x 19 + 99 x 134 + 8 x 647 = 59,600.00 EUR.

Observe the calculation of gross profit and net profit by exhibit 22.8:

D C D C

OV 100,000.00 c/d 100,000.00 OV 20,000.00

b/d 100,000.00 c/d 22,000.00 (11) 2,000.00

22,000.00 22,000.00

b/d 22,000.00

D C D C

OV 59,000.00 T/A 59,000.00 OV 61,000.00 (1) 15,000.00

T/A 59,600.00 c/d 59,600.00 (3) 8,400.00 (2) 34,840.00

118,600.00 118,600.00 (5) 1,020.00 (10) 6,906.00

b/d 59,600.00 (8) 7,040.00 c/d 20,714.00

77,460.00 77,460.00

b/d 20,714.00

D C D C

c/d 100,000.00 OV 100,000.00 OV 35,000.00

b/d 100,000.00 c/d 36,234.80 P&L 1,234.80

36,234.80 36,234.80

b/d 36,234.80

D C D C

(2) 34,840.00 OV 50,000.00 (1) 15,000.00 OV 15,000.00

(9) 134.00 (6) 30.00 c/d 529.20 P&L 529.20

(10) 6,906.00 (7) 13,400.00 15,529.20 15,529.20

c/d 21,550.00 b/d 529.20

63,430.00 63,430.00

b/d 21,550.00

D C D C

(3) 8,400.00 (4) 1,020.00 (5) 1,020.00

(4) 1,020.00

c/d 16,460.00 (8) 7,040.00

16,460.00 16,460.00

T/A 16,460.00 b/d 16,460.00

D C D C

(6) 30.00 c/d 30.00 (7) 13,400.00 c/d 13,400.00

b/d 30.00 T/A 30.00 b/d 13,400.00 T/A 13,400.00


P,P,E Acc depr


Issued capital R/E


Inventory Cash/Bank




D C D C

c/d 134.00 (9) 134.00 (11) 2,000.00 c/d 2,000.00

T/A 134.00 b/d 134.00 b/d 2,000.00 P&L 2,000.00

D C D C

Inv 59,000.00 Sales 16,460.00 Depr 2,000.00 GP (T/A) 3,764.00

Purch 13,400.00 Inv cl st 59,600.00 NP c/d 1,764.00

R.I. 30.00 R.O. 134.00 3,764.00 3,764.00

GP c/d 3,764.00 R/E 1,234.80 b/d 1,764.00

76,194.00 76,194.00 TL 529.20

P&L 3,764.00 b/d 3,764.00 1,764.00 1,764.00


T/A Acc


The financial statements for DURANT (Pty) Ltd. follow:

A C, L







A/R A/P 21,550.00


Cash/Bank 20,714.00 Tax liabilities 529.20

158,314.00 158,314.00

Durant (Pty) Ltd.'s


as at 31.12.20X7




[EUR]

Revenue 16,430.00

Other income

16,430.00

Materials 12,666.00

Labour


Other expenses


Interest



Deferred taxes


DURANT (Pty) Ltd.'s



Exhibit 22.10: DURANT (Pty) Ltd. statement of comprehensive income

The amount for revenue is sales less returns inwards: 16,460 – 30 = 16,430.00 EUR. The amount for

material expenses is opening value for inventory plus purchases less closing stock of inventories less re-

turns outwards: 59,000 + 13,400 – 59,600 – 134 = 12,666.00 EUR.

As the example is quite simple we can determine the profit directly also. We just do that in order to proof

the calculation correct.

(Note, this would not be the appropriate way to determine the earnings after taxes in a real business.)

DURANT (Pty) Ltd. made a profit from selling the goods at a higher price as it purchased them. The

profit accordingly is the sum of the amounts of goods sold times the difference between sales prices less

costs of purchases. In particular DURANT (Pty) Ltd. sold 12 cameras, 34 – 1 = 33 photo frames, and 22

video cameras. One photo frame was damaged and has to be written off. The purchase of tripods is not

relevant for the profit. The same applies for the return outwards thereof. The gross profit amounts to 12 x

(700 – 536) + 33 x (30 – 19) – 19 + 22 x (320 – 254) = 3,764.00 EUR.

The net profit which is the same as the earnings after taxes is the gross profit less any further expenses. In

this case study only depreciation is to be deducted: 3.783 – 2,000 = 1,764.00 EUR.

The income tax liabilities are to be deducted from the net profit in order to calculate the annual surplus

1,764 x (1 – 30%) = 1,234.80 EUR.

(Note, annual surplus is another technical term for earnings after taxes.)

Summary:

In a trading business the gross profit is calculated by the Trading account. The net profit which is the

same as earnings after taxes is calculated via the Profit and Loss account.




Inventory System: An inventory system is how to make bookkeeping entries for inventory movements.

Gross Profit: The gross profit for a dealership is the revenue less material expenses.

Trading Account: The Trading account is an account that displays on the debit side the opening value of

inventory, all purchases, and all returns inwards. On the credit side there is sales, closing stock, and all

returns outwards. The balancing figure of the Trading account is the gross profit.

Net Profit: A net profit is the sales less all expenses (income tax expenses exempted) that occurred during

the accounting period.



(23) Trading Business: Sales with consideration of VAT


We are now going through the same case studies CORNFLOWER Ltd. and DURANT (Pty) Ltd. and will

consider VAT for purchases and sales. We are going to learn that VAT doesn’t affect the profit of the

business but will change the amounts paid and payables (or receivables) in the balance sheet.

CORNFLOWER Ltd. is established on 1.01.20X9 by an issue of 20,000 ordinary shares at 5.00

EUR/share. The share issue is par value. VAT is not relevant for share issues at all.

(1) Issue of shares on 1.01.20X9:

DR Cash/Bank ........................ 100,000.00 EUR


The rent for the show room is paid for the full year in advance. The rent for the show room, the car yard,

and the workshop together is 36,000.00 EUR/a. CORNFLOWER Ltd. and its landlord are VAT regis-

tered companies. The amount paid for rent is VAT relevant therefore.

(Note, in order to compare the case studies we assume the same expenses as in chapter 22. Accordingly,

the payment for rent is increased by the consideration of VAT. This is part of the case study’s story. Al-

ternatively, we could have assumed the amount stays but contains VAT now.)

CORNFLOWER Ltd. pays the amount for rent 36,000 x 120% = 43,200.00 EUR per bank transfer on

1.01.20X9.


DR Rent ............................. 36,000.00 EUR

DR VAT .............................. 7,200.00 EUR

CR Cash/Bank ........................ 43,200.00 EUR

On 2.01.20X9 the purchase manager buys 3 used VW Polos built in 20X7 at 16,000.00 EUR each. The

amount is the net purchase price. The payment required is increased by VAT. 16,000 x 120% = 19,200.00

EUR/car. The previous owners get paid by paying the amount into their bank accounts the next day. The

bookkeeper makes the bookkeeping entry below:

(3) Purchase of VW Polos at 3 x 16,000 x 120% = 57,600.00 EUR.

DR Purchase ......................... 48,000.00 EUR

DR VAT .............................. 9,600.00 EUR

CR Cash/Bank ........................ 57,600.00 EUR

On 12.01.20X9 one of the VW Polos is sold at 17,500.00 EUR net selling price. The sale is on cash. The

buyer pays 17,500 x 120% = 21,000.00 EUR. When we sell an asset being a VAT registered company it is

required crediting the output VAT to the VAT account. So, the payment obtained from the customer is

increased by VAT. It is the gross selling price. The VAT tax received from customers is called output-

VAT. Entries in the Sales account belong to the statement of comprehensive income and always contain

the net amounts for the sales. The net amount for selling a good is called the net selling price. When a



company registered for VAT earns a revenue the VAT account will be credited. The amount for VAT is

to be transferred to the taxing authorities later (in the next accounting period).

(4) Sale of VW Polo at 21,000.00 EUR on 12.01.20X9:

DR Cash/Bank ........................ 21,000.00 EUR

CR VAT .............................. 3,500.00 EUR

CR Sales ............................ 17,500.00 EUR

On 14.01.20X9 CORNFLOWER Ltd. buys a Mercedes B-class from 20X8 at 20,000.00 EUR (net

amount). The deal is on credit and CORNFLOWER Ltd. has to pay during the next week 20,000 x 120%

= 24,000.00 EUR.

(5) Purchase of Mercedes B-class on 14.01.20X9:

DR Purchase ......................... 20,000.00 EUR

DR VAT .............................. 4,000.00 EUR


CORNFLOWER pays one week later the Mercedes B-class. Payments are along the agreed price. There is

no entry in the VAT account relevant. All amounts are the gross amounts.

(6) Payment for Mercedes B-class on 21.01.20X9:


CR Cash/Bank ........................ 24,000.00 EUR

The next day the Mercedes B-class is sold at 22,000.00 EUR net selling price. The amount to be trans-

ferred amounts to 22,000 x 120% = 26,400.00 EUR. The customer pays a downpayment of 5,000.00

EUR on cash and agrees to pay the remaining amount within 3 days’ time. The remaining amount is high-

er than in the previous chapter’s example.

Even in case the business receives the amount for the item sold later the credit entry in the VAT account

is made in full. See the entry (7.3). This means also that in case the customer doesn’t pay as agreed the

amount for VAT will be due with regard to the payment terms of the taxing authorities.

(7) Sale of Mercedes B-class on 22.01.20X9:

DR Cash/Bank ........................ 5,000.00 EUR


CR VAT .............................. 4,400.00 EUR

CR Sales ............................ 22,000.00 EUR

On 24.01.20X9 the buyer of the Mercedes B-class pays the remaining amount into CORNFLOWER

Ltd.’s bank account.

(8) Receiving amount of 21,400.00 EUR from the Mercedes B-class sale on 24.01.20X9:

DR Cash/Bank ........................ 21,400.00 EUR




Before we explain the calculation of profit by the Trading account we take a look at the accounts at this

stage.

D C D C

(1) 100,000.00 (2) 43,200.00 c/d 100,000.00 (1) 100,000.00

(4) 21,000.00 (3) 57,600.00 b/d 100,000.00

(7) 5,000.00 (6) 24,000.00

(8) 21,400.00 c/d 22,600.00

147,400.00 147,400.00

b/d 22,600.00

D C D C

(2) 36,000.00 (3) 48,000.00

(5) 20,000.00

D C D C

(4) 17,500.00 (6) 24,000.00 (5) 24,000.00

(7) 22,000.00

D C D C

(7) 21,400.00 (8) 21,400.00 (2) 7,200.00 (4) 3,500.00

(3) 9,600.00 (7) 4,400.00

(5) 4,000.00 c/d 12,900.00

20,800.00 20,800.00

b/d 12,900.00



Accounts receivables VAT

Rent Purchase


We now calculate CORNFLOWER Ltd.’s profit.

After balancing off all accounts the balancing figure of the Sales account is transferred to the Trading

account:

DR Sales ............................ 39,500.00 EUR


The total of purchases is transferred to the Trading account also:


CR Purchase ......................... 68,000.00 EUR

As we run a periodic inventory system it is required to transfer the closing stock of inventory to the credit

side of the Trading account. There are 2 cars left at this stage, worth 16,000.00 EUR each. So, closing

stock amounts to 2 x 16,000 = 32,000.00 EUR. This amount is not affected by VAT as inventory is val-

ued at net amounts always.



DR Inventory ........................ 32,000.00 EUR


The balancing figure of the Trading account is named gross profit. The Trading account’s balance is trans-

ferred to the Profit and Loss account:



In the Profit and Loss account bookkeeping entries resulting from other activities than trading are consid-

ered. The rent for the show room/car yard/workshop is relevant. The balancing figure of the rent account

is transferred to the Profit and Loss account.


CR Rent ............................. 36,000.00 EUR

The Profit and Loss account is balanced off. CORNFLOWER Ltd.’s net loss amounts to 32,500.00 EUR.

The amount is transferred to the Retained Earnings account:



D C D C

(1) 100,000.00 (2) 43,200.00 c/d 100,000.00 (1) 100,000.00

(4) 21,000.00 (3) 57,600.00 b/d 100,000.00

(7) 5,000.00 (6) 24,000.00

(8) 21,400.00 c/d 22,600.00

147,400.00 147,400.00

b/d 22,600.00

D C D C

(2) 36,000.00 c/d 36,000.00 (3) 48,000.00

b/d 36,000.00 P&L 36,000.00 (5) 20,000.00 c/d 68,000.00

68,000.00 68,000.00

b/d 68,000.00 T/A 68,000.00

D C D C

(4) 17,500.00 (6) 24,000.00 (5) 24,000.00

c/d 39,500.00 (7) 22,000.00

39,500.00 39,500.00

T/A 39,500.00 b/d 39,500.00


Rent Purchase





D C D C

(7) 21,400.00 (8) 21,400.00 (2) 7,200.00 (4) 3,500.00

(3) 9,600.00 (7) 4,400.00

(5) 4,000.00 c/d 12,900.00

20,800.00 20,800.00

b/d 12,900.00

D C D C

Purch 68,000.00 Sales 39,500.00 Rent 36,000.00 T/A 3,500.00

GP c/d 3,500.00 Inv 32,000.00 NL c/d 32,500.00

71,500.00 71,500.00 36,000.00 36,000.00

P&L 3,500.00 b/d 3,500.00 b/d 32,500.00 R/E 32,500.00

D C D C

P&L 32,500.00 c/d 32,500.00 T/A 32,000.00 c/d 32,000.00

b/d 32,500.00 b/d 32,000.00

R/E Inventory

Accounts receivables VAT

Trading account Profit and Loss

Exhibit 23.2: CORNFLOWER Ltd.’s accounts (continued)

Observe the financial statements for CORNFLOWER Ltd. which are linked to the business activities

discussed above.

[EUR]

Revenue 39,500.00

Other income

39,500.00

Materials 36,000.00

Labour

Depreciation



Interest



Deferred taxes


Cornflower Ltd.'s



Exhibit 23.3: CORNFLOWER Ltd.’s statement of comprehensive income for 20X9

The statement of comprehensive income is not affected by VAT. All amounts are net amounts therein.

There are only changes to the previous chapter’s statement of financial position with regard to the

Cash/Bank account and the Accounts Receivables account.



The amount for VAT is debit balanced. This results from purchases exceeding the sales in this case study.

They bought 4 cars but sold only 2 ones. Accordingly, CORNFLOWER Ltd. is going to claim a VAT

refund. On the face of the statement of financial position this is shown as an asset. The VAT claim is an

item of the receivables. It is a subordinated account to the Accounts Receivables account.

(Note, this is not an asset along IAS 12 because VAT is no income tax!)

A C, L







A/R 12,900.00 A/P



67,500.00 67,500.00

Cornflower Ltd's


as at 31.12.20X9

Exhibit 23.4: CORNFLOWER Ltd.’s statement of financial position as at 31.12.20X9

CORNFLOWER Ltd. will prepare a VAT statement at the end of the accounting period and applies for a

VAT refund. The bookkeeping entry for the VAT claim clearance will be:

(A) VAT refund on 1.01.20Y0:

DR Cash/Bank ........................ 12,900.00 EUR

CR VAT .............................. 12,900.00 EUR

We now go through the DURANT (Pty) Ltd. case study and consider VAT also. This example contains

returns which require making an adjustment for VAT as well.

DURANT (Pty) Ltd. trades with cameras, video recorders, tripods, photo frames, photo printers, etc. The

figures provided come from the statement of financial position at the beginning of 20X7:



A C, L







A/R A/P 50,000.00



200,000.00 200,000.00

Durant (Pty) Ltd.'s


as at 1.01.20X7


The opening values are the same as in the previous chapter and are transferred to the accounts. See exhibit

23.6:

D C D C

OV 100,000.00 OV 20,000.00

D C D C

OV 59,000.00 OV 61,000.00

D C D C

OV 100,000.00 OV 35,000.00

D C D C

OV 50,000.00 OV 15,000.00

P,P,E Acc depr

Issued capital R/E


Inventory Cash/Bank


On 2.01.20X7 DURANT (Pty) Ltd. pays the income tax liabilities from the previous accounting period.

(1) Payment for income taxes on 2.01.20X7:


CR Cash/Bank ........................ 15,000.00 EUR

On 3.01.20X7 DURANT (Pty) Ltd. pays-off some short-term debts to their camera supplier. The amount

is 34,840.00 EUR.



(2) Pay-off of short-term liabilities on 3.01.20X7:


CR Cash/Bank ........................ 34,840.00 EUR

On 14.01.20X7 DURANT (Pty) Ltd. sells 12 cameras at 700.00 EUR each on cash. As DURANT (Pty)

Ltd. is a VAT registered company the prices have to contain VAT. For this chapter we assume the same

net prices as in the previous chapter. Accordingly, the amount customers pay is higher than in the previ-

ous chapter.

(Note, the price calculation is part of the case study. Alternatively, the company could take the 700.00

EUR/p as gross selling price. In order to make the example comparable to the previous chapter we con-

sider the amount 700.00 EUR/p as net selling price.)

(3) Sale on cash 12 x 700 x 120% = 10,080.00 EUR on 14.01.20X7:

DR Cash/Bank ........................ 10,080.00 EUR

CR VAT .............................. 1,680.00 EUR

CR Sales ............................ 8,400.00 EUR

On 15.01.20X7 DURANT (Pty) Ltd. sells 34 photo frames at 36.00 EUR each on credit. 36.00 EUR is the

gross selling price. The customer agreed to pay the amount due within the next days per bank transfer.

(4) Sale on credit 34 x 30 x 120% = 1,224.00 EUR on 15.01.20X7:


CR VAT .............................. 204.00 EUR

CR Sales ............................ 1,020.00 EUR

The money from the customer who bought the frames is received on 18.01.20X7.

(5) Payment from customer received on 18.07.20X7:

DR Cash/Bank ........................ 1,224.00 EUR


However, the customer with the frames sends one frame back because it has a broken glass. The customer

gets a voucher in return. DURANT (Pty) Ltd. doesn’t repair the frame but throws it away. The return and

refund activities are VAT relevant. The throwing away activity is not. DURANT (Pty) Ltd. has the right to

claim back the amount of VAT credited to the VAT account for 6.00 EUR that are refunded to the cus-

tomer. So, there is no need to pay these 6.00 EUR to the taxing authorities anymore. The credit entry as

part of the bookkeeping entries (4) cannot be changed. The amount has to be compensated therefore. See

bookkeeping entry (6).

(6) Return inwards of one frame and giving away a voucher in order to compensate the customer on

23.01.20X7.



DR Returns Inwards .................. 30.00 EUR

DR VAT .............................. 6.00 EUR


DURANT (Pty) Ltd. orders 100 tripods from their supplier at 134.00 EUR each. The amount of 134.00

EUR is the unit cost of purchase. The money to be paid for each and every tripod amounts to 134 x 120%

= 160.80 EUR. The deal is on credit on 1.02.20X7. The amount is 100 x 134 x 120% = 16,080.00 EUR.

(7) Purchase of tripods on 1.02.20X7:

DR Purchase ......................... 13,400.00 EUR

DR VAT .............................. 2,680.00 EUR


On 4.02.20X7 DURANT (Pty) Ltd. sells 22 video cameras at a net selling price 320.00 EUR each on cash.

(8) Sales of video cameras 22 x 320 x 120% = 8,448.00 EUR on 4.02.20X7:

DR Cash/Bank ........................ 8,448.00 EUR

CR VAT .............................. 1,408.00 EUR

CR Sales ............................ 7,040.00 EUR

One of the tripods ordered from the supplier is sent back to the supplier. The supplier adjusts the bill

therefore by 160.80 EUR.

(9) Return outwards of one tripod on 6.02.20X7:


CR VAT .............................. 26.80 EUR


On 8.02.20X7 DURANT (Pty) Ltd. pays the amount they owe the tripod supplier by bank transfer. The

amount is 16,080 – 160.80 = 15,919.20 EUR.

(10) Payment of the tripods’ bill on 8.02.20X7:


CR Cash/Bank ........................ 15,919.20 EUR

On 31.12.20X7 DURANT (Pty) Ltd. depreciates the store by 2,000.00 EUR. Depreciation is not VAT

relevant. The acquisition of the asset leads to an entry for the asset in the Property, Plant, and Equipment

account that always is at the cost of acquisition. Costs of acquisition are always net amounts. Depreciation

means to reduce these net amounts. Depreciation is an expense. Expenses are free of VAT.

(Note, the cost of acquisition is defined by IAS 16 and § 255 HGB.)

(11) Depreciation on the store on 31.12.20X7:





After making the bookkeeping entries the accounts look as displayed by exhibit 23.7.

D C D C

OV 100,000.00 c/d 100,000.00 OV 20,000.00

b/d 100,000.00 c/d 22,000.00 (11) 2,000.00

22,000.00 22,000.00

b/d 22,000.00

D C D C

(6) 6.00 (3) 1,680.00 OV 61,000.00 (1) 15,000.00

(7) 2,680.00 (4) 204.00 (3) 10,080.00 (2) 34,840.00

(8) 1,408.00 (5) 1,224.00 (10) 15,919.20

c/d 632.80 (9) 26.80 (8) 8,448.00 c/d 14,992.80

3,318.80 3,318.80 80,752.00 80,752.00

b/d 632.80 b/d 14,992.80

D C D C

c/d 100,000.00 OV 100,000.00 OV 59,000.00

b/d 100,000.00

D C D C

(2) 34,840.00 OV 50,000.00 (1) 15,000.00 OV 15,000.00

(9) 160.80 (6) 36.00

(10) 15,919.20 (7) 16,080.00

c/d 15,196.00

66,116.00 66,116.00

b/d 15,196.00

D C D C

(3) 8,400.00 (4) 1,224.00 (5) 1,224.00

(4) 1,020.00

c/d 16,460.00 (8) 7,040.00

16,460.00 16,460.00

T/A 16,460.00 b/d 16,460.00

Cash/Bank


P,P,E Acc depr

Issued capital Inventory


VAT




D C D C

(6) 30.00 c/d 30.00 (7) 13,400.00 c/d 13,400.00

b/d 30.00 b/d 13,400.00

D C D C

c/d 134.00 (9) 134.00 (11) 2,000.00 c/d 2,000.00

b/d 134.00 b/d 2,000.00

D C

OV 35,000.00

Return outwards Depreciation

R/E

Return inwards Purchases


In order to prepare the Trading account DURANT (Pty) Ltd. runs a stock count. The result is 53 cameras,

30 video cameras, 270 photo frames, 99 tripods, and 8 photo printers. The inventory valuation gives an

amount of closing stock 53 x 536 + 30 x 254 + 270 x 19 + 99 x 134 + 8 x 647 = 59,600.00 EUR.

(Note, the amount is the same as in chapter 22 because inventory always is valued by net amounts because

the purchase costs are entered into the inventory accounts.)

Observe the calculation of gross profit and net profit by exhibit 23.8:

D C D C

OV 100,000.00 c/d 100,000.00 OV 20,000.00

b/d 100,000.00 c/d 22,000.00 (11) 2,000.00

22,000.00 22,000.00

b/d 22,000.00

D C D C

(6) 6.00 (3) 1,680.00 OV 61,000.00 (1) 15,000.00

(7) 2,680.00 (4) 204.00 (3) 10,080.00 (2) 34,840.00

(8) 1,408.00 (5) 1,224.00 (10) 15,919.20

c/d 632.80 (9) 26.80 (8) 8,448.00 c/d 14,992.80

3,318.80 3,318.80 80,752.00 80,752.00

b/d 632.80 b/d 14,992.80

D C D C

c/d 100,000.00 OV 100,000.00 OV 59,000.00 T/A 59,000.00

b/d 100,000.00 T/A 59,600.00 c/d 59,600.00

118,600.00 118,600.00

b/d 59,600.00

P,P,E Acc depr

Issued capital Inventory

VAT Cash/Bank




D C D C

(2) 34,840.00 OV 50,000.00 (1) 15,000.00 OV 15,000.00

(9) 160.80 (6) 36.00 c/d 529.20 P&L 529.20

(10) 15,919.20 (7) 16,080.00 15,529.20 15,529.20

c/d 15,196.00 b/d 529.20

66,116.00 66,116.00

b/d 15,196.00

D C D C

(3) 8,400.00 (4) 1,224.00 (5) 1,224.00

(4) 1,020.00

c/d 16,460.00 (8) 7,040.00

16,460.00 16,460.00

T/A 16,460.00 b/d 16,460.00

D C D C

(6) 30.00 c/d 30.00 (7) 13,400.00 c/d 13,400.00

b/d 30.00 T/A 30.00 b/d 13,400.00 T/A 13,400.00

D C D C

c/d 134.00 (9) 134.00 (11) 2,000.00 c/d 2,000.00

T/A 134.00 b/d 134.00 b/d 2,000.00 P&L 2,000.00

D C D C

OV 35,000.00 Inv 59,000.00 Sales 16,460.00

b/d 36,234.80 P&L 1,234.80 Purch 13,400.00 Inv cl st 59,600.00

36,234.80 36,234.80 R.I. 30.00 R.O. 134.00

b/d 36,234.80 GP c/d 3,764.00

76,194.00 76,194.00

P&L 3,764.00 b/d 3,764.00

D C

Depr 2,000.00 GP (T/A) 3,764.00

NP c/d 1,764.00

3,764.00 3,764.00

R/E 1,234.80 b/d 1,764.00

TL 529.20

1,764.00 1,764.00

R/E



Profit and Loss



Trading account


The financial statements for DURANT (Pty) Ltd. follow. The amount for VAT is put to Accounts Paya-

bles account.



A C, L







A/R A/P 15,828.80


Cash/Bank 14,992.80 Tax liabilities 529.20

152,592.80 152,592.80

Durant (Pty) Ltd.'s


as at 31.12.20X7


There are no changes with regard to the statement of comprehensive income. Observe the statement of

comprehensive income and compare it to chapter 22’s one.

[EUR]

Revenue 16,430.00

Other income

16,430.00

Materials 12,666.00

Labour


Other expenses


Interest



Deferred taxes


DURANT (Pty) Ltd.'s



Exhibit 23.10: DURANT (Pty) Ltd. statement of comprehensive income

In the next accounting period DURANT (Pty) Ltd. is obliged to pay the amount for VAT.

(A) Payment for VAT from last year on 1.01.20X8:

DR VAT .............................. 632.80 EUR

CR Cash/Bank ........................ 632.80 EUR



Summary:

VAT registered companies have to credit output-VAT to the VAT account once they make the bookkeep-

ing entry for sales. Returns outwards are similar to a sale and require crediting the VAT account also.

Crediting the VAT account means an obligation to pay VAT in the next accounting period to the taxing

authorities. This obligation is not affected by the payment of the customers.

The consideration of VAT affects the Cash/Bank account, receivables, and payables. The statement of

comprehensive income is not affected by VAT.


Output-VAT: The VAT tax received from customers is called output-VAT.



(24) Privately Owned Business: Drawings


In this chapter we’ll show how an owner of a company gets an income out of his business by withdrawing

money. We further will demonstrate that the use of assets or the taking out of goods from stock is also a

kind of benefit withdrawn from the business.

Companies that are based on shares and earning a profit either distribute this profit to their shareholders

or they keep it in the business for reinvestments. Privately owned companies don’t declare dividends but

the owners will make drawings. A drawing is taking out assets (e.g. materials or cash) of a business

or using business assets privately.

Making a drawing will decrease the business’ equity. Therefore, the bookkeeping entry has to be a debit

entry in an account linked to the equity section. For privately owned businesses we will use the Drawings

account. It is important to realize that a drawing made cannot be regarded as being relevant for profit or

loss. Drawings like using assets for private use must not go through the profit and loss account. Not post-

ing drawings through profit and loss makes sure that drawing won’t be seen as an expense. This is relevant

for the fair calculation of income taxes as well.

On the other side – better the contra entry to be considered – a drawing will reduce the amount of assets

taken away. Furthermore, it is relevant to make an adjustment in the VAT account accordingly. A drawing

made based on taking out materials for example does not allow the owner of the business to claim input-

VAT for that asset because by taking it out of the business the owner becomes a consumer in terms of

national VAT law.

Just think about the following: An owner of a company orders himself a new car and pays 84,000.00 EUR.

He then claims the input VAT from the taxing authorities and draws the car out. If he doesn’t adjust the

VAT account accordingly, he “buys the car free of VAT”. This would be seen as theft (what it actually is)

and therefore there is an obligation of making adjustments in the VAT account for input VAT when tak-

ing assets out.

We are going to observe a privately owned company in the following case study:

VANGUARD is established in 20X5 by its owner T.L. VanGuard. VANGUARD is privately owned by

T.L. VanGuard. We deliberately do not add a legal form’s abbreviation to the company’s name therefore.

T.L. VanGuard pays 60,000.00 EUR into the company’s bank account. VANGUARD is a pie baking and

selling business. The company is based in a local mall near the entrance of a big grocery shop. The con-

cept is to bake a variety of pies (different fillings, as steak & kidney, chicken & mushroom, etc.) and to sell

these freshly baked pies to the customers who enter or leave the grocery store. T.L. VanGuard uses a pie

oven and a keep-it-warm-stove in his shop. The shop itself is rented.

On the 1.01.20X9 VANGUARD presents the statement of financial position as provided by exhibit 24.1.

(Note, VANGUARD is a trading business and has to prepare financial statements by law, even as it is no

limited company by legal form.)



A C, L


P, P, E 54,000.00 Owner's capital 60,000.00





A/R A/P



100,000.00 100,000.00

VANGUARD's


as at 1.01.20X9

Exhibit 24.1: VANGUARD’s statement of financial position

(Note, the statement of financial position doesn’t display issued capital. There was no issue of shares of

the business by foundation. Instead, the account is called owner’s capital.)

It is advised to transfer the opening amounts into the company’s accounts for making further bookkeep-

ing entries. This is done as it can be seen in exhibit 24.2:

D C D C

OV 90,000.00 OV 36,000.00

D C D C

OV 10,000.00 OV 36,000.00

D C D C

OV 60,000.00 OV 28,000.00

D C

OV 12,000.00

Owner's capital R/E

Income tax liabilities

Inventories Cash/Bank

P, P, E Acc depr

Exhibit 24.2: VANGUARD’s accounts

(Note, the information about the non-current assets was added to the example here when preparing the

accounts. It is assumed the oven and the keep-it-warm-stove were bought at a cost of acquisition of

90,000.00 EUR. The annual depreciation amounts to 9,000.00 EUR.)

At the beginning of 20X9 VANGUARD pays the income taxes from last year due right now by bank

transfer.



(1) Payment of income taxes on 4.01.20X9


CR Cash/Bank ........................ 12,000.00 EUR

VANGUARD is a VAT registered company. The landlord also is registered for VAT reduction. When

VANGUARD pays the amount for rent VAT will is to be considered. The annual rent is 30,000.00 EUR

(net amount). The amount is paid by bank transfer on 7.01.20X9.


DR Rent ............................. 30,000.00 EUR

DR VAT .............................. 6,000.00 EUR

CR Cash/Bank ........................ 36,000.00 EUR

VANGUARD further purchases materials which is dough and ingredients for the pies’ fillings. The

amount is 55,200.00 EUR (ex VAT). The purchase is paid by bank transfer on 9.01.20X9.

(3) Purchase of materials on 9.01.20X9:

DR Purchase ......................... 55,200.00 EUR

DR VAT .............................. 11,040.00 EUR

CR Cash/Bank ........................ 66,240.00 EUR

The sales person earns an annual income of 28,800.00 EUR. The amount includes taxes and social securi-

ty. The amount can be considered being the total amount of labour therefore. It is paid on 15.01.20X9 by

bank transfer.

(4) Payment of labour on 15.01.20X9:

DR Labour ........................... 28,800.00 EUR

CR Cash/Bank ........................ 28,800.00 EUR

VANGUARD bakes a pie with any filling at a unit cost of 2.00 EUR.

(Note, the cost do not contain the salary for the sales person working in the shop.)

The net selling price per pie is 3.50 EUR. VANGUARD sells during the year 48,960 pies. All customers

are supposed to pay on cash as VANGUARD doesn’t offer a credit card machine payment service. The

simplified bookkeeping entry for the revenue earned is made on 30.06.20X9. The gross amount of cash is

48,960 x 3.50 x 120% = 205,632.00 EUR.

(Note, in order to keep the example as easy as possible we assume one customer buys all pies in the mid-

dle of the year. Feel free to imagine the sales are spread over the full year and cause 48,960 bookkeeing

entries made on 365 days.)



(5) Revenue earned by pie selling on 30.06.20X9:

DR Cash/Bank ........................ 205,632.00 EUR

CR VAT .............................. 34,272.00 EUR

CR Sales ............................ 171,360.00 EUR

On 1.07.20X9 T.L. VanGuard takes money out of the company. He pays himself a profit of 30,000.00

EUR every 6 months. The taking out of the money is no expense even as it reduces the amount of the

Cash/Bank account. It won’t be seen on the face of the statement of comprehensive income later on ei-

ther. We use the Drawings account for this transaction.

(6) Drawing of 30,000.00 EUR on 1.07.20X9:

DR Drawing .......................... 30,000.00 EUR

CR Cash/Bank ........................ 30,000.00 EUR

On 31.12.20X9 VANGUARD makes a bookkeeping entry for depreciation. The amount is 9,000.00 EUR.

The cost of acquisition (net amount) for the oven and the stove were 90,000.00 EUR and the useful life

was estimated to be 10 years. VANGUARD applies straight line method for depreciation. Annual depre-

ciation is 90,000 / 10 = 9,000.00 EUR/a.

(7) Depreciation recorded on 31.12.20X9:



T.L. VanGuard loves the taste of his own products and eats every day 4 pies himself. He works in his

shop at 260 days/year. So, he eats 4 x 260 = 1,040 pies per accounting period.

We assume all cost for making the pies contain VAT. The machines that are depreciated for the produc-

tion process, the ingredients, and rent all are VAT relevant. Although depreciation itself is not relevant to

VAT the adjustment requires reducing the input VAT claim on the machines bought by T.L. VanGuard.

The cost for the sales person is not relevant for the pies that he eats himself because the pies are not sold

to him. The unit cost for a pie amounts to 2.00 EUR. The costs for the pies he eats on all days amount to

260 x 4 x 2 = 2,080.00 EUR. We have to consider a credit entry in the VAT account to reduce the

amount of input-VAT for the the activities acquisition, purchase, and rent. The gross amount for the pies

eaten are 2,080 x 120% = 2,496.00 EUR.

In order to make the bookkeeping entry VANGUARD has to make a calculation for the pies. The cost of

baking pies contain per annum: depreciation for the oven and stove, materials and rent: 9,000 + 61,000 +

30,000 = 100,000.00 EUR.

(Note, the amount for materials is not the same as for the purchases, but VANGUARD had an amount of

10,000.00 EUR in the Inventory account at the beginning of the accounting period. The calculation be-

comes relevant for the drawing. Otherwise VANGUARD could just run a stock count and calculate the

material cost per pie by the Trading account.)

The amount to be reduced for VAT is 2,496 – 2,080 = 416.00 EUR.

VANGUARD doesn’t run an inventory system which shows the amount of pies on stock. For that rea-

son, VANGUARD has to reduce the expenses for the pies for each item of expenses. The amounts are



for depreciation: 1,040 x 9,000 / 50,000 = 187.20 EUR; for materials: 1,040 x 61,000 / 50,000 = 1,268.80

EUR, and for rent: 1,040 x 30,000 /50,000 = 624.00 EUR. Taking out these costs of 187.20 + 1,268.80 +

624 = 2,080.00 EUR means they do not count as expenses for Profit and Loss.

(8) Making bookkeeping entries for taking out pies on 31.12.20X9.

DR Drawings ......................... 2,496.00 EUR

CR VAT .............................. 416.00 EUR

CR Depreciation ..................... 187.20 EUR

CR Materials ........................ 1,268.80 EUR

CR Rent ............................. 624.00 EUR

At the end of the year T.L. VanGuard takes out another amount of 30,000.00 EUR.

(9) Drawing of 30,000.00 EUR on 31.12.20X9:

DR Drawing .......................... 30,000.00 EUR

CR Cash/Bank ........................ 30,000.00 EUR

We take a look at VANGUARD’s accounts now:

D C D C

OV 90,000.00 c/d 90,000.00 OV 36,000.00

b/d 90,000.00 c/d 45,000.00 (7) 9,000.00

45,000.00 45,000.00

b/d 45,000.00

D C D C

OV 10,000.00 OV 36,000.00 (1) 12,000.00

(5) 205,632.00 (2) 36,000.00

(3) 66,240.00

(4) 28,800.00

(6) 30,000.00

(9) 30,000.00

c/d 38,592.00

241,632.00 241,632.00

b/d 38,592.00

D C D C

c/d 60,000.00 OV 60,000.00 OV 28,000.00

b/d 60,000.00


P, P, E Acc depr

Owner's capital R/E




D C D C

(1) 12,000.00 OV 12,000.00 (2) 30,000.00 (8) 624.00

c/d 29,376.00

30,000.00 30,000.00

b/d 29,376.00

D C D C

(2) 6,000.00 (5) 34,272.00 (3) 55,200.00 c/d 55,200.00

(3) 11,040.00 (8) 416.00 b/d 55,200.00

c/d 17,648.00

34,688.00 34,688.00

b/d 17,648.00

D C D C

(4) 28,800.00 c/d 28,800.00 c/d 171,360.00 (5) 171,360.00

b/d 28,800.00 b/d 171,360.00

D C D C

(6) 30,000.00 (7) 9,000.00 (8) 187.20

(8) 2,496.00 c/d 8,812.80

(9) 30,000.00 c/d 62,496.00 9,000.00 9,000.00

62,496.00 62,496.00 b/d 8,812.80

b/d 62,496.00

D C

(8) 1,268.80

Rent

VAT Purchase

Material expenses

Drawing Depreciation

Labour Sales


Exhibit 24.3: VANGUARD’s accounts (continued)

Before VANGUARD can calculate the profit it is necessary to run a stock count. The amount of ingredi-

ents still on stock is 4,200.00 EUR. The amount was to be expected as there was an opening amount

10,000.00 EUR and VANGUARD bought materials at 55,200.00 EUR. We know already that the materi-

als used up were 61,000.00 EUR. So, the closing stock amounts to 10,000 + 55,200 – 61,000 = 4,200.00

EUR.

VANGUARD has to deduct the materials for the pies eaten by T.L. VanGuard in the Trading account.

(Note, the amounts for opening value for inventory, purchases, and closing stock of inventory represent

material expenses in a business that runs a periodic system.)

D C D C

OV 90,000.00 c/d 90,000.00 OV 36,000.00

b/d 90,000.00 c/d 45,000.00 (7) 9,000.00

45,000.00 45,000.00

b/d 45,000.00

P, P, E Acc depr




D C D C

OV 10,000.00 T/A 10,000.00 OV 36,000.00 (1) 12,000.00

T/A 4,200.00 c/d 4,200.00 (5) 205,632.00 (2) 36,000.00

14,200.00 14,200.00 (3) 66,240.00

b/d 4,200.00 (4) 28,800.00

(6) 30,000.00

(9) 30,000.00

c/d 38,592.00

241,632.00 241,632.00

b/d 38,592.00

D C D C

c/d 60,000.00 OV 60,000.00 OV 28,000.00

b/d 60,000.00 c/d 59,248.00 P&L 31,248.00

59,248.00 59,248.00

b/d 59,248.00

D C D C

(1) 12,000.00 OV 12,000.00 (2) 30,000.00 (8) 624.00

c/d 13,392.00 P&L 13,392.00 c/d 29,376.00

25,392.00 25,392.00 30,000.00 30,000.00

b/d 13,392.00 b/d 29,376.00 P&L 29,376.00

D C D C

(2) 6,000.00 (5) 34,272.00 (3) 55,200.00 c/d 55,200.00

(3) 11,040.00 (8) 416.00 b/d 55,200.00 T/A 55,200.00

c/d 17,648.00

34,688.00 34,688.00

b/d 17,648.00

D C D C

(4) 28,800.00 c/d 28,800.00 c/d 171,360.00 (5) 171,360.00

b/d 28,800.00 P&L 28,800.00 T/A 171,360.00 b/d 171,360.00

D C D C

(6) 30,000.00 (7) 9,000.00 (8) 187.20

(8) 2,496.00 c/d 8,812.80

(9) 30,000.00 c/d 62,496.00 9,000.00 9,000.00

62,496.00 62,496.00 b/d 8,812.80 P&L 8,812.80

b/d 62,496.00

Drawing Depreciation

Labour Sales

Owner's capital R/E

Income tax liabilities Rent


VAT Purchase




D C D C

T/A 1,268.80 (8) 1,268.80 Inv ov 10,000.00 Sales 171,360.00

Purch 55,200.00 Inv cl st 4,200.00

GP c/d 111,628.80 Mat exp 1,268.80

176,828.80 176,828.80

P&L 111,628.80 b/d 111,628.80

D C

Depr 8,812.80 T/A 111,628.80

Labour 28,800.00

Rent 29,376.00

NP c/d 44,640.00

111,628.80 111,628.80

R/E 31,248.00 b/d 44,640.00

ITL 13,392.00

44,640.00 44,640.00

Material expenses Trading account

P&L


VANGUARD’s financial statements follow:

The income statement is free of expenses made for T.L. VanGuard drawings (money taken out and pies

he eats). Observe below:

[EUR]

Revenue 171,360.00

Other income

171,360.00

Materials 59,731.20

Labour 28,800.00




Interest



Deferred taxes


Vanguard's



Exhibit 24.5: VANGUARD’s statement of comprehensive income

The amount for materials is 61,000 – 1,268.80 = 59,731.20 EUR.

(Note, the statement of financial position doesn’t contain any offsetting in order to make the Drawings

visible. Alternatively, one Owner’s Capital account would do it also.)



A C, L



Intangibles Drawings (62,496.00)




A/R A/P 17,648.00



87,792.00 87,792.00

VANGUARD's


as at 1.01.20X9

Exhibit 24.6: VANGUARD’s statement of financial position

Summary:

Taking assets out of a business is called drawings. Drawings are to be deducted from expenses posted

through the Profit and Loss account as they do not contribute to the business. In case assets other than

cash are taken out input-VAT is to be adjusted.

Drawings is an item of the equity section. Companies offset Drawings with Retained Earnings and Own-

ers’ capital before they prepare the statement of financial position. Thus they only recognise one account

named owner’s equity which would have been 60,000 – 62,496 + 59,248 = 56,752.00 EUR in

VANGUARD’s case.

Working Definition:

Drawing: A drawing is taking out assets (e.g. materials or cash) of a business or to use business assets

privately.



(25) Production Firms


In a production firm inventory valuation becomes relevant because it is required to calculate the amount

of goods on stock at the year end. The reason is that in cases the production amounts differs from the

sales amounts there will be increases or decreases of stock of finished goods. The inventory of finished

goods is to be valued at their costs of manufacturing. We’ll introduce the basics of manufacturing ac-

counting that allows calculating the unit cost of finished goods’ items in this chapter. The unit cost of

manufacturing will be used to compute the value of finished goods’ inventories. The costs of manufac-

turing therein are the costs that occur when a good is produced. All cost like materials, labour, and

indirect costs like depreciation on production facilities and supervisor’s salary count for the cost of manu-

facturing. Administration costs and cost for distribution and advertising don’t.

We refer to chapter 9 of the text book Bilanzen for further consideration. It is the aim to get the idea

across not to teach bookkeeping entries for special situations of manufacturing accounting at this stage.

In a production firm different sorts of stock accounts are in use. Mostly, there are accounts for raw mate-

rials, for work in progress, and for finished goods. Some companies put semi-finished goods on stock and

have a Semi-Finished Goods account in use.

When companies need to valuate inventories purchases won’t be transferred to the Trading account but to

the Raw Materials Inventory account. Once material has released for a job order it will be assigned to

Work in Progress (WIP). Finished goods are put into the Finished Goods Inventory account after produc-

tion is completed and until they are sold. Once goods are sold they will be expensed. To expense goods

means they will be debited to an expense account called Cost of Goods Sold account and a credit entry is

made in the Finished Goods Inventory account.

The costs of goods sold are the costs of manufacturing for those goods that have been sold dur-

ing the accounting period.

We are going to explain the basic bookkeeping entries in this chapter by an easy case study of a bicycle

assembling firm.

REGENT BIKE (Pty) Ltd. is a bicycle assembling firm. The company is established on 1.01.20X2 when

the proprietors pay 50,000.00 EUR into the bank account.

(1) Establishment of the company on 1.01.20X2:

DR Cash/Bank ........................ 50,000.00 EUR


REGENT BIKE (Pty) Ltd. registers for VAT reduction.

REGENT BIKE (Pty) Ltd. rents a complete workshop at 1,000.00 EUR/month and pays rent in advance

for the whole year on 2.01.20X2. The landlord is a private person. Accordingly, rent is not VAT relevant

for REGENT BIKE (Pty) Ltd. The payment for rent is made by bank transfer into the landlord’s account.




DR Rent ............................. 12,000.00 EUR

CR Cash/Bank ........................ 12,000.00 EUR

On 3.01.20X2 REGENT BIKE (Pty) Ltd. buys 40,000 wheels at 21.00 EUR (net amount) each. Further-

more REGENT BIKE (Pty) Ltd. buys 30,000 frames at 56.00 EUR (net amount) each. The net amount

of the purchases is 40,000 x 21 + 30,000 x 56 = 2,520,000.00 EUR. The amount including VAT is

2,520,000 x 120% = 3,024,000.00 EUR. REGENT BIKE (Pty) Ltd. pays it by a bank transfer.

(3) Purchase of wheels and frames on 3.01.20X2:

DR Purchase ......................... 2,520,000.00 EUR

DR VAT .............................. 504,000.00 EUR

CR Cash/Bank ........................ 3,024,000.00 EUR

The purchase is transferred to the Raw Materials Inventory account immediately.

(4) Putting materials on stock on 3.01.20X2:

DR Raw Materials .................... 2,520,000.00 EUR

CR Purchase ......................... 2,520,000.00 EUR

(Note, all internal bookkeeping entries with regard to materials or goods are made on a net amount basis.)

REGENT BIKE (Pty) Ltd. pays salaries for the assembling team. For the sake of a simplification of this

example we ignore taxes on labour and social security and assume the workers are employed on a free-

lancer’s basis. This means they will receive the money and take care of labour taxes and social security

themselves. The amount for the workers’ payment is 96,000.00 EUR. REGENT BIKE pays the amount

in the middle of the year in full.

(5) Payment for labour on 1.07.20X2:

DR Labour ........................... 96,000.00 EUR

CR Cash/Bank ........................ 96,000.00 EUR

During the year REGENT BIKE (Pty) Ltd. produces 20,000 bicycles. The bookkeeping entries with re-

gard to the annual production are linked to the WIP account. They are made on 2.02.20X2. The amount

for labour is the full annual amount which is 96,000.00 EUR. The amount for rent is considered in full

also. For materials we consider 40,000 wheels and 20,000 frames being released from stock. The EUR-

amount is 40,000 x 21 + 20,000 x 56 = 1,960,000.00 EUR.

(6) Production of 20,000 bicycles on 2.02.20X2:



DR WIP .............................. 2,068,000.00 EUR

CR Raw Materials .................... 1,960,000.00 EUR

CR Labour ........................... 96,000.00 EUR

CR Rent ............................. 12,000.00 EUR

All bicycles are finished on 4.12.20X2 and put on stock. This means the bicycles were physically put into

the storage room and with regards to the accounting system it means they are transferred to the Finished

Goods Inventory account.

(7) Completion of 20,000 bicycles on 4.12.20X2

DR Finished Goods Inventory ......... 2,068,000.00 EUR

CR WIP .............................. 2,068,000.00 EUR

A valuation of one bicycle produced can be made easily by dividing all cost of manufacturing by the lot

size which is the amount of bicycles completed by a particular job order. Here the costs are 2,068,000 /

20,000 = 103.40 EUR/u.

(Note, the abbreviation per product is /u and means per unit.)

During the Christmas sale REGENT BIKE (Pty) Ltd. sells 17,500 bicycles at a net selling price of 200.00

EUR/u to a wholesale. The transaction is made on 4.11.20X2 and the customer pays by bank transfer.

The net amount is 17,500 x 200 = 3,500,000.00 EUR. The amount including VAT is 3,500,000 x 120% =

4,200,000.00 EUR.

(8) Sale of 17,500 bicycles on 4.11.20X2:

DR Cash/Bank ........................ 4,200,000.00 EUR

CR VAT .............................. 700,000.00 EUR

CR Sales ............................ 3,500,000.00 EUR

The previous bookkeeping entry only considers the money that flows to REGENT BIKE (Pty) Ltd. No

release of bicycles from inventory of finished goods has been posted yet.

Now, we are going to post the material flow for the bicycles delivered to the customer. For transactions

like these we debit the amount of goods released from stock to the Cost of Goods Sold account. This

means making a bookkeeping entry for expenses which are linked to the finished goods that are sold and

crediting the same amount to the inventory account for the stock reduction.

(Note, Cost of Sales (COS) is another technical term for the Cost of Goods Sold account. We stick to

Cost of Goods Sold account but use the abbreviation COS which is more common in accounting.)

The credit entry is made in the Finished Goods account once the bicycles are released from stock. The

bookkeeping entry is made on the same day as the sales take place. The valuation is at unit costs of 103.40

EUR. The costs of sales amount to 103.40 x 17,500 = 1,809,500.00 EUR.

(9) Releasing 17,500 bicycles from stock on 4.11.20X4:



DR Cost of Goods Sold ............... 1,809,500.00 EUR

CR Finished Goods ................... 1,809,500.00 EUR

The cost for distribution and for administration are 10,000.00 EUR/a and 30,000.00 EUR/a respectively.

The amounts are paid on cash on 31.12.20X2.

(10), (11) Distribution and administration expenses posted on 31.12.20X2:

DR Distribution ..................... 10,000.00 EUR

CR Cash/Bank ........................ 10,000.00 EUR

DR Administration ................... 30,000.00 EUR

CR Cash/Bank ........................ 30,000.00 EUR

Before we determine the profit earned by REGENT BIKE (Pty) Ltd. we take a look at the accounts and

retrieve the bookkeeping entries as described above. Observe exhibit 25.1:

D C D C

(1) 50,000.00 (2) 12,000.00 c/d 50,000.00 (1) 50,000.00

(8) 4,200,000.00 (3) 3,024,000.00 b/d 50,000.00

(5) 96,000.00

(10) 10,000.00

(11) 30,000.00

c/d 1,078,000.00

4,250,000.00 4,250,000.00

b/d 1,078,000.00

D C D C

(2) 12,000.00 (6) 12,000.00 (3) 2,520,000.00 (4) 2,520,000.00

D C D C

(3) 504,000.00 (8) 700,000.00 (4) 2,520,000.00 (6) 1,960,000.00

c/d 196,000.00 c/d 560,000.00

700,000.00 700,000.00 2,520,000.00 2,520,000.00

b/d 196,000.00 b/d 560,000.00

VAT RM Inventory

Rent Purchase


Exhibit 25.1: REGENT BIKE (Pty) Ltd.’s accounts



D C D C

(5) 96,000.00 (6) 96,000.00 (6) 2,068,000.00 (7) 2,068,000.00

D C D C

(7) 2,068,000.00 (9) 1,809,500.00 (8) 3,500,000.00

c/d 258,500.00

2,068,000.00 2,068,000.00

b/d 258,500.00

D C D C

(10) 10,000.00 (11) 30,000.00

D C

(9) 1,809,500.00

Cost of goods sold

Labour WIP

Distribution Administration

FG Inventory Sales

Exhibit 25.1: REGENT BIKE (Pty) Ltd.’s accounts (continued)

The accounts have been balanced off partially already. In particular it is not necessary to run a stock count

as the inventory movements were recorded by the accounting system already. The closing stock of the raw

materials inventories is 140,000.00 EUR. This amount equals to the value of 10,000 frames: 10,000 x 56 =

560,000.00 EUR. The balancing figure in the Cost of Goods Sold account results from 2,500 bicycles:

2,500 x 103.40 = 258,500.00 EUR.

The next step is to close-off the Cost of Goods Sold account to the Profit and Loss account.

The earnings after taxes will be transferred to retained earnings after the income tax reduction later on.

The pre-tax profit calculated by deducting the cost of goods sold (COS), distribution, and administration

from Sales: 3,500,000 – 1,809,500 - 10,000 – 30,000 = 1,650,500.00 EUR. It is not necessary to consider

sales, purchase, and opening and closing amount for inventories as this has been done already by the WIP

account.

A calculation of profit applying the cost of goods sold is called an income statement along the cost of

sales format. It requires bookkeeping entries made permanently for each and every stock release. In con-

trast to the previous statements of comprehensive income the single expenses are not displayed but the

total cost of the goods that have been sold. Observe exhibit 25.3 to make yourself familiar with the new

structure for the income statement.

(Note, non-manufacturing activities like distribution and administration are not mingled with cost of

goods sold.)

In chapter 9 of the text book Bilanzen production firms and inventory valuation is discussed in more de-

tail.

See the profit calculation in exhibit 25.2:



D C D C

(1) 50,000.00 (2) 12,000.00 c/d 50,000.00 (1) 50,000.00

(8) 4,200,000.00 (3) 3,024,000.00 b/d 50,000.00

(5) 96,000.00

(10) 10,000.00

(11) 30,000.00

c/d 1,078,000.00

4,250,000.00 4,250,000.00

b/d 1,078,000.00

D C D C

(2) 12,000.00 (6) 12,000.00 (3) 2,520,000.00 (4) 2,520,000.00

D C D C

(3) 504,000.00 (8) 700,000.00 (4) 2,520,000.00 (6) 1,960,000.00

c/d 196,000.00 c/d 560,000.00

700,000.00 700,000.00 2,520,000.00 2,520,000.00

b/d 196,000.00 b/d 560,000.00

D C D C

(5) 96,000.00 (6) 96,000.00 (6) 2,068,000.00 (7) 2,068,000.00

D C D C

(7) 2,068,000.00 (9) 1,809,500.00 P&L 3,500,000.00 (8) 3,500,000.00

c/d 258,500.00

2,068,000.00 2,068,000.00

b/d 258,500.00

D C D C

(10) 10,000.00 c/d 10,000.00 (11) 30,000.00 c/d 30,000.00

b/d 10,000.00 P&L 10,000.00 b/d 30,000.00 P&L 30,000.00

D C D C

(9) 1,809,500.00 P&L 1,809,500.00 COS 1,809,500.00 Sales 3,500,000.00

c/d 1,690,500.00

3,500,000.00 3,500,000.00

Distr 10,000.00 b/d 1,690,500.00

Admin 30,000.00

NP c/d 1,650,500.00

1,690,500.00 1,690,500.00

R/E 1,155,350.00 b/d 1,650,500.00

ITL 495,150.00

1,650,500.00 1,650,500.00


Cost of goods sold Profit and Loss

VAT RM Inventory

Labour WIP

Rent Purchase

FG Inventory Sales

AdministrationDistribution

Exhibit 25.2: REGENT BIKES (Pty) Ltd.’s accounts



D C D C

c/d 1,155,350.00 P&L 1,155,350.00 c/d 495,150.00 P&L 495,150.00

b/d 1,155,350.00 b/d 495,150.00

R/E Income tax liabilities

Exhibit 25.2: REGENT BIKES (Pty) Ltd.’s accounts (continued)

The financial statements follow:

[EUR]

Revenue 3,500,000.00

Other income

3,500,000.00

Cost of goods sold 1,809,500.00

Margin 1,690,500.00

Distribution 10,000.00

Administration 30,000.00

Earnings before int and taxes (EBIT) 1,650,500.00

Interest

Earnings before taxes (EBT) 1,650,500.00


Deferred taxes

Earnings after taxes (EAT) 1,155,350.00

Regent Bikes (Pty) Ltd.'s



Exhibit 25.3: REGENT BIKES (Pty) Ltd.’s statement of comprehensive income

REGENT BIKES (Pty) Ltd.’s statement of financial position is displayed in exhibit 25.4. The amount for

Inventory results from raw materials and finished goods: 560,000 + 258,500 = 818,500.00 EUR. The

amount for Accounts Payables results from VAT/payables.



A C, L




Financial assets R/E 1,155,350.00



A/R A/P 196,000.00


Cash/Bank 1,078,000.00 Tax liabilities 495,150.00

1,896,500.00 1,896,500.00

Regent Bikes (Pty) Ltd.'s


as at 31.12.20X2

Exhibit 25.4: REGENT BIKES (Pty) Ltd.’s statement of financial position

Summary:

Production firms use different Inventory accounts. There is a Raw Materials Inventory account, a Work in

Progress account, and a Finished Goods Inventory account. Cost of goods produced will be allocated on

the WIP account until the production process is completed. Then, the costs will be transferred to the

Finished Goods Inventory account. When goods are sold the finished goods will be expensed. In order to

do so the Cost of Goods Sold (COS) account is debited and Finished Goods Inventory account is credit-

ed.

(Note, we abbreviate cost of goods sold by COS which stands for cost of sales.)


Cost of Manufacturing: The costs of manufacturing are the costs that occur when a good is produced.

Cost of Goods Sold: The costs of goods sold are the costs of manufacturing for those goods that have

been sold during the accounting period.



(26) Preparing the Trial Balance


In this chapter we learn how to derive profit via the trial balance. The concept of the trial balance will help

to avoid bookkeeping entry mistakes.

When you learn accounting it makes sense to just use one approach to prepare your financial statements.

We do not recommend using a variety of ways until you feel really safe in accounting. We now introduce

the easiest and most safe method to prepare financial statements, no matter what company for and how

complicated the bookkeeping entries are. Applying the trial balance shows you already at the beginning of

the accounting procedure whether or not you made a mistake. You avoid in exams to continue wrong

calculations because you’ll have a few checks on the way to your financial statements.

The method trial balance and the adjustments of the trial balance will be introduced by a case study again.

(Note, in the textbook (chapter 4) you’ll find a table based method for the trial balance. We do not use

that one at this stage.)

The example we have in use is a production firm that does trading also. The example is more complicated

than the previous ones in order to show you the power of the trial balance concept.

We start by making bookkeeping entries linked to the activities of the company PENTZ Ltd. Later we’ll

prepare a trial balance based on the accounts balanced off. We further will make bookkeeping entries for

adjustments and derive the Profit and Loss account. After that step we’ll prepare the adjusted trial balance.

In total our procedure has the following steps:

Step (A): Making bookkeeping entries

Step (B): Preparing the trial balance

Step (C): Making adjustments

Step (D): Preparing the adjusted trial balance

Step (E): Deriving financial statements

Step (A): Making Bookkeeping Entries:

PENTZ Ltd. is a production firm for surfboards. The company deals with surf materials as protection

bags, sun glasses, wet suits, etc. also. PENTZ Ltd. is based on shares and is founded on 1.01.20X4.

PENTZ Ltd. issues 20,000 ordinary shares at 5.00 EUR/share. The share issue is at face value.

(1) Share issue on 1.01.20X4:

DR Cash/Bank ........................ 100,000.00 EUR

CR Share Capital .................... 100,000.00 EUR

PENTZ Ltd. rents a surf shop at the beach from its landlord. Although PENTZ Ltd. is a VAT registered

company it doesn’t consider VAT for rent because the landlord is a private person. The rent amounts to

5,000.00 EUR/quarter and is to be paid in advance. The payment dates are 2.01.20X4, 31.03.20X4,

30.06.20X4, 30.09.20X4, and 31.12.20X4. The last payment is for the first quarter 20X5. PENTZ Ltd.

pays the rent by bank transfer.



(2) … (6) Payment for rent on 2.01.20X4, 31.03.20X4, 30.06.20X4, 30.09.20X4, and 31.12.20X4:

DR Rent ............................. 5,000.00 EUR

CR Cash/Bank ........................ 5,000.00 EUR

DR Rent ............................. 5,000.00 EUR

CR Cash/Bank ........................ 5,000.00 EUR

DR Rent ............................. 5,000.00 EUR

CR Cash/Bank ........................ 5,000.00 EUR

DR Rent ............................. 5,000.00 EUR

CR Cash/Bank ........................ 5,000.00 EUR

DR Rent ............................. 5,000.00 EUR

CR Cash/Bank ........................ 5,000.00 EUR

On 3.01.20X4 PENTZ Ltd. buys a workshop for shaping and painting the surfboards. The workshop

contains a workbench, shaping tools, brushes and spray paint equipment. The workshop cost 21,500.00

EUR (net amount). The workshop is paid half by bank transfer and the other portion is to be paid in the

next year.

(7) Acquisition of the workshop on 3.01.20X4:


DR VAT .............................. 4,300.00 EUR

CR Cash/Bank ........................ 12,900.00 EUR


(Note, the payment terms do not affect the claim on VAT.)

The workshop is intended to be in use until 31.12.20X7. So, the useful life of the items of property, plant,

and equipment is 4 years. PENTZ Ltd. applies straight line method for depreciation. Accordingly, the

depreciation charge for 20X4 is 21,500 / 4 = 5,375.00 EUR. Although depreciation is subject to adjust-

ments PENTZ Ltd. makes a bookkeeping entry for depreciation right away. The date is 31.12.20X4.

(8) Depreciation on workshop on 31.12.20X4:


CR Acc. Depr. ....................... 5,375.00 EUR

PENTZ Ltd. buys materials for the production of surfboards. The surfboard’s materials are the PE-body

(not yet shaped), resin, and paint. PENTZ Ltd. purchases 150 bodies at a net purchase price of 200.00

EUR each, 100 litre of resin at 1,350.00 EUR (net amount), and 400 cans of paint 500ml at 7.00 EUR

each (ex VAT). The materials are paid by bank transfer on 14.01.20X4. The gross prices are for the bodies



150 x 200 x 120% = 36,000.00 EUR, for the resin 1,350 x 120% = 1,620.00 EUR, and for the paint 400

x 7 x 120% = 3,360.00 EUR.

(9) … (11) Purchase of materials on 14.01.20X4:

DR Purchase ......................... 30,000.00 EUR

DR VAT .............................. 6,000.00 EUR

CR Cash/Bank ........................ 36,000.00 EUR

DR Purchase ......................... 1,350.00 EUR

DR VAT .............................. 270.00 EUR

CR Cash/Bank ........................ 1,620.00 EUR

DR Purchase ......................... 2,800.00 EUR

DR VAT .............................. 560.00 EUR

CR Cash/Bank ........................ 3,360.00 EUR

For production PENTZ Ltd. uses a set of raw material accounts (RM). In order to distinguish the

amounts of stock there is a RM-Body account, a RM-Resin account, and a RM-Paint account. On

15.01.20X4 the bookkeeper makes the bookkeeping entries (12) … (14).

(12) … (14) Putting materials on stock and transferring them to raw materials on 15.01.20X4:

DR RM-Bodies ........................ 30,000.00 EUR

CR Purchase ......................... 30,000.00 EUR

DR RM-Resin ......................... 1,350.00 EUR

CR Purchase ......................... 1,350.00 EUR

DR RM-Paint ......................... 2,800.00 EUR

CR Purchase ......................... 2,800.00 EUR

PENTZ Ltd. intends to build 125 surfboards per year. Depreciation per board is 5,375 / 125 = 43.00

EUR. The amount of resin is 500 ml per board. Resin expenses per board are 0.5 x 1,350 / 100 = 6.75

EUR/board. The paint used per board is 2 cans. Costs per board are 2 x 7 = 14.00 EUR/board.

Labour linked to production is for a famous surfer who works exclusively for PENTZ Ltd. He claims

350.00 EUR per board.

In the first year PENTZ Ltd. produces 125 boards and pays for the shaping and painting specialist 125 x

350 = 43,750.00 EUR. The amount includes the total labour cost. The surfboard designer gets paid on

cash in the middle of the year.

(15) Accounting for labour on 30.06.20X4:

DR Labour ........................... 43,750.00 EUR

CR Cash/Bank ........................ 43,750.00 EUR



PENTZ Ltd. produces 125 surfboards and transfers the cost of manufacturing to the WIP account. La-

bour is direct labour only and amounts to 43,750.00 EUR. Depreciation is 5,375.00 EUR. The materials

are bodies 125 x 200 = 25,000.00 EUR, resin 125 x 6.75 = 843.75 EUR, and paint 125 x 14 = 1,750.00

EUR. Accordingly the total cost of production amounts to 43,750 + 5,375 + 25,000 + 843.75 + 1,750 =

76,718.75 EUR.

(16) Production on 1.07.20X4.

DR Work in Progress ................. 76,718.75 EUR

CR Labour ........................... 43,750.00 EUR


CR RM-Bodies ........................ 25,000.00 EUR

CR RM-Resin ......................... 843.75 EUR

CR RM-Paint ......................... 1,750.00 EUR

PENTZ Ltd. completes all surfboards and puts them on stock on 30.09.20X4.

(17) Surfboards completed and transferred to finished goods on 30.09.20X4:

DR Finished Goods Inventory ......... 76,718.75 EUR

CR Work in Progress ................. 76,718.75 EUR

The unit costs for each surfboard are 76,718.75 / 125 = 613.75 EUR. As all costs of manufacturing are

direct costs the amount is easy to confirm: 200 + 350 + 43 + 6.75 + 14 = 613.75 EUR.

(Note, cost of manufacturing is a technical term in accounting. It contains all costs that are directly linked

to the production of a good.)

PENTZ Ltd. sells 100 surfboards to customers on 2.11.20X2. Half of the customers pay on cash and the

other half agreed to pay in 20X5. The net selling price for one surfboard is 1,100.00 EUR. The amount of

sales is 100 x 1,100 = 110,000.00 EUR. The gross amount is 110,000 x 120% = 132,000.00 EUR.

(18) Sales of 100 surfboards on 2.11.20X4:

DR Cash/Bank ........................ 66,000.00 EUR


CR VAT .............................. 22,000.00 EUR

CR Sales ............................ 110,000.00 EUR

At the same time PENTZ Ltd. has to expense the surfboards taken from stock (finished goods). The

amount is 100 x 613.75 = 61,375.00 EUR. These costs are the manufacturing cost of the goods that are

sold.

(Note, there is a technical term for these costs: Cost of goods sold (COS) are the manufacturing costs of

the goods that are sold during the accounting period.

(19) Expensing cost of goods sold on 2.11.20X4:

DR Cost of Goods Sold ............... 61,375.00 EUR

CR Finished Goods ................... 61,375.00 EUR



Besides the production PENTZ Ltd. is a trading business. On 3.11.20X4 PENTZ Ltd. buys 50 wet suits

at 76.00 EUR/u (ex VAT) and pays for the goods received by bank transfer. The cost of purchase are 50 x

76 = 3,800.00 EUR. The gross amount is 3,800 x 120% = 4,560.00 EUR. In order to not mix materials

for production and merchandise goods PENTZ Ltd. uses a special account Merchandise Inventory.

(20) and (21) Purchase of merchandise goods on 3.11.20X4:

DR Purchase ......................... 3,800.00 EUR

DR VAT .............................. 760.00 EUR

CR Cash/Bank ........................ 4,560.00 EUR

DR Merchandise Goods ................ 3,800.00 EUR

CR Purchase ......................... 3,800.00 EUR

On 15.11.20X4 PENTZ sells 20 wet suits on cash. The net selling price for one wet suit is 230.00 EUR.

The sales amount to 20 x 230 = 4,600.00 EUR. The amount received is 4,600 x 120% = 5,520.00 EUR.

(22) Sales on cash on 15.11.20X4:

DR Cash/Bank ........................ 5,520.00 EUR

CR VAT .............................. 920.00 EUR

CR Sales ............................ 4,600.00 EUR

PENTZ Ltd. pays for labour in the surf shop 90,000.00 EUR on 2.12.20X4.

(23) Payment for the sales person’s labour on 2.12.20X4:

DR Labour ........................... 90,000.00 EUR

CR Cash/Bank ........................ 90,000.00 EUR

As rent was paid in advance for 20X5 PENTZ Ltd. makes a bookkeeping entry for an adjustment already.

The rent for quarter I/20X5 is transferred to prepaid expenses.

(23) Accrual of quarter I/20X5’s rent on 31.12.20X4:


CR Rent ............................. 5,000.00 EUR

We now balance off all accounts and take a look at the exhibit 26.1:



D C D C

(1) 100,000.00 (2) 5,000.00 c/d 100,000.00 (1) 100,000.00

(18) 66,000.00 (3) 5,000.00 b/d 100,000.00

(22) 5,520.00 (4) 5,000.00

(5) 5,000.00

(6) 5,000.00

(7) 12,900.00

(9) 36,000.00

(10) 1,620.00

(11) 3,360.00

(15) 43,750.00

(20) 4,560.00

c/d 45,670.00 (23) 90,000.00

217,190.00 217,190.00

b/d 45,670.00

D C D C

(2) 5,000.00 (24) 5,000.00 (7) 21,500.00 c/d 21,500.00

(3) 5,000.00 b/d 21,500.00

(4) 5,000.00

(5) 5,000.00

(6) 5,000.00 c/d 20,000.00

25,000.00 25,000.00

b/d 20,000.00

D C D C

(7) 4,300.00 (18) 22,000.00 c/d 12,900.00 (7) 12,900.00

(9) 6,000.00 (22) 920.00 b/d 12,900.00

(10) 270.00

(11) 560.00

(20) 760.00

c/d 11,030.00

22,920.00 22,920.00

b/d 11,030.00

D C D C

(8) 5,375.00 (16) 5,375.00 c/d 5,375.00 (8) 5,375.00

b/d 5,375.00

D C D C

(9) 30,000.00 (12) 30,000.00 (12) 30,000.00 (16) 25,000.00

(10) 1,350.00 (13) 1,350.00 c/d 5,000.00

(11) 2,800.00 (14) 2,800.00 30,000.00 30,000.00

(20) 3,800.00 (21) 3,800.00 b/d 5,000.00

37,950.00 37,950.00

Purchase RM-Bodies


VAT Accounts payables

Depreciation Acc depr

Rent P,P,E

Exhibit 26.1: PENTZ Ltd.’s accounts



D C D C

(13) 1,350.00 (16) 843.75 (14) 2,800.00 (16) 1,750.00

c/d 506.25 c/d 1,050.00

1,350.00 1,350.00 2,800.00 2,800.00

b/d 506.25 b/d 1,050.00

D C D C

(15) 43,750.00 (16) 43,750.00 (16) 76,718.75 (17) 76,718.75

D C D C

(17) 76,718.75 (19) 61,375.00 (18) 110,000.00

c/d 15,343.75 c/d 114,600.00 (22) 4,600.00

76,718.75 76,718.75 114,600.00 114,600.00

b/d 15,343.75 b/d 114,600.00

D C D C

(18) 66,000.00 c/d 66,000.00 (19) 61,375.00 c/d 61,375.00

b/d 66,000.00 b/d 61,375.00

D C D C

(21) 3,800.00 c/d 3,800.00 (24) 5,000.00 c/d 5,000.00

b/d 3,800.00 b/d 5,000.00

D C

(23) 90,000.00 c/d 90,000.00

b/d 90,000.00

Labour WIP

RM-Resin RM-Paint

Labour - Sales person

FG-Inventory Sales

Accounts receivables Cost of goods sold

Merchandise inventory Prepaid expenses

Exhibit 26.1: PENTZ Ltd.’s accounts (continued)

Step (B): Preparing the Trial Balance:

The bookkeeping entries and the accounts look already complex enough to explain the benefit of the trial

balance. At this stage we might be uncertain whether or not we made a bookkeeping error.

In order to check the so far made bookkeeping entries with regard to the double entry system we set up a

trial balance. A trial balance is a list of all accounts with their balances brought down. At the bottom

line the total of the debit entries and the total of the credit entries are given. Both sums have to be the

same. In case they do not equal there is a mistake with regard to the double entry system.

(Note, the total of debit entries and credit entries equalling doesn’t guarantee the bookkeeping entries are

correct.)

Exhibit 26.2 displays the PENTZ Ltd.’s trial balance:



Account Debit entries Credit entries

Cash/Bank 45,670.00

Issued Capital 100,000.00

Rent 20,000.00

Property, Plant, and Equipment 21,500.00

VAT 11,030.00

Accounts Payable 12,900.00

Depreciation 0.00 0.00

Accumulated Depreciation 5,375.00

Purchase 0.00 0.00

Raw Materials - Bodies 5,000.00

Raw Materials - Resin 506.25

Raw Materials - Paint 1,050.00

Labour (Production) 0.00 0.00

Work in Process 0.00 0.00

Finished Goods Inventory 15,343.75

Sales 114,600.00

Accounts Receivables 66,000.00

Cost of Goods Sold (COS) 61,375.00

Merchandise Inventory 3,800.00

Prepaid Expenses 5,000.00

Labour (Sales Person) 90,000.00

Total: 289,575.00 289,575.00

Pentz Ltd.'s

TRIAL BALANCE

as at 31.12.20X0

Exhibit 26.2: PENTZ Ltd.’s trial balance

The amounts for the accounts used in production are zero as these accounts have been closed off to the

Work in Progress (WIP) account already. This applies for labour (production), purchase, and depreciation.

As all surfboards have been completed there is no closing stock in the WIP account either.

The trial balance being in a good condition means we can continue our procedure to prepare the financial

statements.

Make sure the entries in the trial balance are in accordance with exhibit 26.3:




non-current assets (e.g. PPE) x

Accumulated Depreciation x

current assets (e.g. Inventory) x

Accounts Receivables x (x)

Cash/Bank x x

Capital (e.g. Issued Capital) x

Retained/Earnings -x x

Liabilities (e.g. IBL) x

Accounts Payables (x) x

Expenses (e.g. Labour) x

Revenue x

Total: sum sum

TRIAL BALANCE

as at 31.12.20X0

Exhibit 26.3: A good trial balance

The amounts for assets should be on the debit side. This means the account is debit balanced. There can

be exceptions for Cash/Bank and for Accounts Receivables.

The amount for Accumulated Depreciation always has to be on the credit side. There is no negative de-

preciation possible.

The amounts for the accounts on the credit side of the statement of financial position should be on the

credit side. This means the accounts are credit balanced. There is no negative capital possible. The only

exception that exists is negative Retained Earnings. This amount will indicate a loss then.

(Note, in Germany a loss that exceeds the owners’ capital needs further explanation otherwise the compa-

ny has to close down. The amount of loss is to be transferred to the debit side of the balance sheet to the

extent that it exceeds the equity of the business along § 269 Handelsgesetzbuch.)

Liabilities are credit balanced also. There can be an exception about the Accounts Payables. A debit bal-

anced Account Payables account means the company is to receive money from its suppliers for example.

That can happen when the supplier sent vouchers e.g.

The total of the debit entries has to equal the total of the credit entries.

Only in case the trial balance fulfils these requirements you should continue the accounting procedures.

Breaches with this rules means that your bookkeeping entries are faulty!

Step (C): Making Adjustments:

Although some adjustments like depreciation and accruals (Prepaid Expense account) have been made

already there are still some adjustments required.

The closing stock of merchandise goods is still unknown. PENTZ Ltd. runs a stock count and detects 30

wetsuits bought at 76.00 EUR each. Accordingly the closing stock is 30 x 76 = 2,280.00 EUR. The

amount shown in the account is the amount of the purchases. This amount is transferred to the Trading

account.




CR Merchandise Goods ................ 3,800.00 EUR

Furthermore, Sales resulting from trading are transferred to the Trading account.

DR Sales ............................ 4,600.00 EUR


The closing stock of Merchandise Goods is posted also.

DR Merchandise Goods ................ 2,280.00 EUR


The gross profit calculated is 3,080.00 EUR. The balancing figure is transferred to Profit and Loss:



In the Profit and Loss account the sales from the surfboards and the cost of goods sold and further ex-

penses for labour are considered.

DR Sales ............................ 110,000.00 EUR



CR Cost of Goods Sold ............... 61,375.00 EUR


CR Labour ........................... 90,000.00 EUR

After the adjustments have been completed the profit will be calculated. It amounts to 3,080 + 110,000 –

61,375 – 90,000 – 20,000 = -58,295.00 EUR. The amount is transferred to Retained Earnings.



Observe the Profit and Loss account in exhibit 26.4:



D C D C

(1) 100,000.00 (2) 5,000.00 c/d 100,000.00 (1) 100,000.00

(18) 66,000.00 (3) 5,000.00 b/d 100,000.00

(22) 5,520.00 (4) 5,000.00

(5) 5,000.00

(6) 5,000.00

(7) 12,900.00

(9) 36,000.00

(10) 1,620.00

(11) 3,360.00

(15) 43,750.00

(20) 4,560.00

c/d 45,670.00 (23) 90,000.00

217,190.00 217,190.00

b/d 45,670.00

D C D C

(2) 5,000.00 (24) 5,000.00 (7) 21,500.00 c/d 21,500.00

(3) 5,000.00 b/d 21,500.00

(4) 5,000.00

(5) 5,000.00

(6) 5,000.00 c/d 20,000.00

25,000.00 25,000.00

b/d 20,000.00 P&L 20,000.00

D C D C

(7) 4,300.00 (18) 22,000.00 c/d 12,900.00 (7) 12,900.00

(9) 6,000.00 (22) 920.00 b/d 12,900.00

(10) 270.00

(11) 560.00

(20) 760.00

c/d 11,030.00

22,920.00 22,920.00

b/d 11,030.00

D C D C

(8) 5,375.00 (16) 5,375.00 c/d 5,375.00 (8) 5,375.00

b/d 5,375.00

D C D C

(9) 30,000.00 (12) 30,000.00 (12) 30,000.00 (16) 25,000.00

(10) 1,350.00 (13) 1,350.00 c/d 5,000.00

(11) 2,800.00 (14) 2,800.00 30,000.00 30,000.00

(20) 3,800.00 (21) 3,800.00 b/d 5,000.00

37,950.00 37,950.00

Purchase RM-Bodies


VAT Accounts payables


Rent P,P,E

Exhibit 26.4: PENTZ Ltd.’s accounts



D C D C

(13) 1,350.00 (16) 843.75 (14) 2,800.00 (16) 1,750.00

c/d 506.25 c/d 1,050.00

1,350.00 1,350.00 2,800.00 2,800.00

b/d 506.25 b/d 1,050.00

D C D C

(15) 43,750.00 (16) 43,750.00 (16) 76,718.75 (17) 76,718.75

D C D C

(17) 76,718.75 (19) 61,375.00 (18) 110,000.00

c/d 15,343.75 c/d 114,600.00 (22) 4,600.00

76,718.75 76,718.75 114,600.00 114,600.00

b/d 15,343.75 T/A 4,600.00 b/d 114,600.00

P&L 110,000.00

114,600.00 114,600.00

D C D C

(18) 66,000.00 c/d 66,000.00 (19) 61,375.00 c/d 61,375.00

b/d 66,000.00 b/d 61,375.00 P&L 61,375.00

D C D C

(21) 3,800.00 c/d 3,800.00 (24) 5,000.00 c/d 5,000.00

b/d 3,800.00 T/A 3,800.00 b/d 5,000.00

T/A 2,280.00 c/d 2,280.00

6,080.00 6,080.00

b/d 2,280.00

D C D C

(23) 90,000.00 c/d 90,000.00 Merch 3,800.00 Sales 4,600.00

b/d 90,000.00 P&L 90,000.00 GP c/d 3,080.00 MG cl st. 2,280.00

6,880.00 6,880.00

P&L 3,080.00 b/d 3,080.00

D C D C

COS 61,375.00 T/A 3,080.00 P&L 58,395.00 c/d 58,395.00

Labour 90,000.00 Sales 110,000.00 b/d 58,395.00

Rent 20,000.00 NL c/d 58,295.00

171,375.00 171,375.00

b/d 58,395.00 R/E 38,395.00

Labour - Sales person Trading Account

Profit and Loss Retained Earnings

FG-Inventory Sales

Accounts receivables Cost of goods sold

Merchandise inventory Prepaid expenses

Labour WIP

RM-Resin RM-Paint

Exhibit 26.4: PENTZ Ltd.’s accounts (continued)



Step (D): Preparing the Adjusted Trial Balance:

After calculating the profit for the period (loss) we set up the trial balance again. A trial balance that is

drawn after adjustments have been made is an adjusted trial balance. You’ll see that all accounts

that are linked to profit and loss have been balanced off now. All these are the nominal accounts. It is

common accounting procedure to strike through those accounts or to delete them.

Observe the adjusted trial balance for PENTZ Ltd. below:


Cash/Bank 45,670.00


Rent 0.00 0.00


VAT 11,030.00

Accounts Payable 12,900.00



Purchase 0.00 0.00

Raw Materials - Bodies 5,000.00

Raw Materials - Resin 506.25

Raw Materials - Paint 1,050.00

Labour (Production) 0.00 0.00

Work in Process 0.00 0.00


Sales 0.00 0.00


Cost of Goods Sold (COS) 0.00 0.00

Merchandise Inventory 2,280.00


Labour (Sales Person) 0.00 0.00

Retained Earnings 58,295.00

Total: 174,975.00 174,975.00

Pentz Ltd.'s

ADJUSTED TRIAL BALANCE

as at 31.12.20X0

Exhibit 26.5: PENTZ Ltd.’s adjusted trial balance

The amount for merchandise inventory has been changed to the actual amount after the loss has been

calculated. The new amount is 2,280.00 EUR.

The amount for retained earnings is on the debit side. That indicates a loss.

Step (E): Deriving Financial Statements:

In the last step the financial statements are prepared. The adjusted trial balance is very close to the state-

ment of financial position. For the financial statements some minor adjustments are to be made:



The amount for property, plant, and equipment is calculated by two accounts: Property, Plant, and

Equipment and Accumulated Depreciation account. The value to be recognized is 21,500 – 5,375 =

16,125.00 EUR.

The amount for Cash/Bank is negative. There cannot be any negative amounts on the face of the state-

ment of financial position except of retained earnings. The amount has to be transferred to short-term

liabilities. There is no bookkeeping entry for that as the Cash/Bank account is to be continued in the next

accounting period. The amount for payables is 11,030 + 12,900 + 45,670 = 69,600.00 EUR.

The amount for inventory combines some Inventory accounts. It is 5,000 + 506.25 + 1,050 + 2,280 +

15,343.75 = 24,180.00 EUR.

Observe PENTZ Ltd.’s statement of financial position as below:

A C, L







A/R 66,000.00 A/P 69,600.00


Cash/Bank 0.00 Tax liabilities 0.00

111,305.00 111,305.00

PENTZ Ltd.'s


as at 31.12.20X4

Exhibit 26.6: PENTZ Ltd.’s statement of financial position

The statement of comprehensive income is derived from the Profit and Loss account directly. The

amount for merchandise sold is the purchase less closing stock: 3,800 – 2,280 = 1,520.00 EUR. The

amount represents 20 wet suits bought at 76.00 EUR each: 20 x 76 = 1,520.00 EUR.



[EUR]

Revenue 114,600.00

Other income

114,600.00

Cost of goods sold 61,375.00

Merchandise goods used 1,520.00

Labour (sales person) 90,000.00



Interest



Deferred taxes


PENTZ Ltd.'s



Exhibit 26.7: PENTZ Ltd.’s statement of comprehensive income

Summary:

The trial balance is a list of accounts and their balancing figures. The trial balance can be used to check for

errors with the double entry systems. Many companies use the trial balance as an overview about the ac-

counts in particular during the time when the financial statements have not been prepared yet.


Trial Balance: A trial balance is a list of all accounts with their balances brought down.

Adjusted Trial Balance: A trial balance that is drawn after adjustments have been made is an adjusted

trial balance.



(27) Tax Calculation, Profit Appropriation, and Introduction to Statements of Changes

in Equity


In this chapter we’ll introduce the way companies pay a dividend to their shareholders and/or keep funds

in the business in order to reinvest. The appropriation of profit is its use for declaring dividends, for

putting it into reserves, and/or for carrying it forward to the next accounting period.

The owners’ reason to run a business is to earn money. The company is to be seen as an investment op-

portunity by them. Investors compare the amount put into the business to the return they receive later. As

there is a time value of money to consider the calculation of the investor is based on the present value

concept. Amounts received later will be discounted by being multiplied by (1 + i)-t. I is the rate of interest

per period and t is the amount of periods. E.g., the rate of interest is 10 %. Then, 100 EUR received in 2

periods’ time are valued by 100 / (1 + 10%)2 = 82,64 EUR.

An owner of a business request a return for his money invested. Therefore a share of the profit has to

flow to the owner. Otherwise, the owner considers the investment being weak and will withdraw his/her

funds from the company.

Companies which are limited companies cannot apply the drawing concept as introduced in chapter 24.

There are more owners, sometimes a few thousand of shareholders who own the business all together.

Limited companies declare dividends. A dividend is a share of the profit earned in the last or previ-

ous accounting periods that is paid to the shareholders. Privately owned limited companies also de-

clare dividends but won’t call them dividend. They call them a distribution of the profit. When a company

shares the profit among its owners the Retained Earnings account is debited and the Cash/Bank account

is credited. This reflects the fact that by paying money to the owners the company straight away reduces

its equity.

In most of the cases the companies do not pay a dividend at the yearend but have to prepare the financial

statements at first. For that reason the credit entry is made in the Dividends Payables account. This indi-

cates that the dividend is to be paid later once the financial statements have been audited.

The auditing of the financial statement means an independent auditor will check the bookkeeping records

and the financial statements. Unrestricted access to financial records and further information is to be giv-

en to the auditors. The auditing of financial statements is required by national law. In Germany § 316

HGB applies. Along that paragraph no financial statements will be accepted and therefore no dividend

can be paid as long as the financial statements have not been audited. The paragraph requests auditing for

limited companies that are not classified as small ones in accordance to the criteria named by § 267 I

HGB.

We take a closer look to a limited company to explain the tax calculation and the appropriation of profit

along IFRSs. There is a more in deepen discussion in chapter 12 of the text book Bilanzen.

RAATS Ltd. is a company based on shares. The company is established by an issue of 100,000 ordinary

shares at 1.50 EUR each. See the financial statements as at 31.12.20X6 for RAATS Ltd. displayed by ex-

hibit 27.1:



A C, L



Intangibles Reserves 20,000.00




A/R 22,000.00 A/P



270,000.00 270,000.00

Raats Ltd.'s


as at 31.12.20X6

Exhibit 27.1: RAATS Ltd.’s statement of financial position

The financial statements as at the year end 20X6 are the same as the financial statement at the beginning

of the accounting period 20X7.

In order to focus on taxes and the appropriation of profit we shorten the activities of RAATS Ltd:

At the beginning of the accounting period RAATS pays income tax liabilities 30,000.00 EUR

(1) Payment of income tax liabilities on 1.01.20X7:

DR Tax Liabilities .................. 30,000.00 EUR

CR Cash/Bank ........................ 30,000.00 EUR

For the sake of simplifying the case study we assume RAATS earns a cash revenue 260,000.00 EUR and

spends 150,000.00 EUR on cash for other expenses in the middle of the accounting period. Assume the

amounts are net amounts. The gross amounts are 260,000 x 120% = 312,000.00 EUR and 150,000.00 x

120% = 180,000.00 EUR.

(Note, this example contains VAT in order to show the difference between VAT and income taxes.)

Assume the opening value of the VAT account is nil.

(2) and (3) Earning a cash revenue 260,000.00 EUR and spending 150,000.00 EUR on expenses on

1.07.20X7:

DR Cash/Bank ........................ 312,000.00 EUR

CR VAT .............................. 52,000.00 EUR

CR Sales ............................ 260,000.00 EUR


DR VAT .............................. 30,000.00 EUR

CR Cash/Bank ........................ 180,000.00 EUR

Observe below RAATS Ltd.’s accounts in exhibit 27.2:



D C D C

OV 158,000.00 c/d 158,000.00 OV 22,000.00 c/d 22,000.00

b/d 158,000.00 b/d 22,000.00

D C D C

OV 90,000.00 (1) 30,000.00 c/d 150,000.00 OV 150,000.00

(2) 312,000.00 (3) 180,000.00 b/d 150,000.00

c/d 192,000.00

402,000.00 402,000.00

b/d 192,000.00

D C D C

OV 20,000.00 OV 70,000.00

D C D C

(1) 30,000.00 OV 30,000.00 (3) 30,000.00 (2) 52,000.00

c/d 22,000.00

52,000.00 52,000.00

b/d 22,000.00

D C D C

c/d 260,000.00 (2) 260,000.00 (3) 150,000.00 c/d 150,000.00

b/d 260,000.00 b/d 150,000.00

P,P,E Accounts receivables

Reserves Retained earnings

Income tax liabilities VAT


Sales Other expenses

Exhibit 27.3: RAATS Ltd.’s accounts

(Note, some accounts have not been balanced off as they will be used for profit calculation still.)

RAATS Ltd.’s manager prepares the trial balance as displayed in exhibit 27.4:






Cash/Bank 192,000.00


Reserves 20,000.00


Income Tax Liabilities 0.00 0.00

VAT 22,000.00

Sales 260,000.00

Other Expenses 150,000.00

Total: 522,000.00 522,000.00

Raats Ltd.'s

TRIAL BALANCE

as at 31.12.20X7

Exhibit 27.4: RAATS Ltd.’s trial balance

The profit calculation is easy for RAATS Ltd.: The company made a pre-tax profit of 260,000 – 150,000 =

110,000.00 EUR.

The calculation of income taxes is a country specific issue. We assume RAATS Ltd. is a German compa-

ny. The German tax law (Einkommensteuergesetz) requires an income tax that contains business tax

(Gewerbesteuer), corporate tax (Körperschaftsteuer), and a surcharge for the German Reunion tax (Soli-

daritätszuschlag). For RAATS Ltd. we assume the tax rates to be 14.17 % for the business tax, 15 % for

the corporate tax, and 5.5 % surcharge on the corporate tax for the German Reunion tax.

(Note, the business tax being 14.17 % means the Gewerbesteuerhebesatz is slightly above 404 %. This is

close to the median value for that local rate that differs from city to city in Germany. The median value is

400 %.)

The total income taxes to be paid is for RAATS Ltd.: 110,000 x (14.17% + 15% x (1 + 5.5%)) =

32,994.50 EUR. We round up the total income tax rate which is 29.995 % to the nearest integer which is

30 %. The income tax rate now is 110,000 x 30% = 33,000.00 EUR.

Furthermore, there is a dividend tax (Kapitalertragsteuer). This tax is based on capital gains. The share-

holder’s income resulting from holding shares is the net amount of the dividend. The company doesn’t

pay the gross dividend to shareholders living permanently in the country where the dividend is paid but

only the net dividend. This means, the dividend tax is withheld by the company and paid straight to the

taxing authorities. A withholding tax is payable by the company on behalf of the recipient of the

funds, here the dividend tax is paid by the company on behalf of the shareholders. In Germany the

tax dividend amounts to 20 % of the net dividend. We do not consider dividend tax here but in the text

book in chapter 12.

(Note, for the business it doesn’t matter whether funds are paid to shareholders or to the taxing authori-

ties, both count as a liability and will be recognized in the Accounts Payables account.)

When we prepare the Profit and Loss account we put the income tax amount on the debit side of the

Profit and Loss account.

Observe the profit calculation in exhibit 27.5:



D C D C

OV 158,000.00 c/d 158,000.00 OV 22,000.00 c/d 22,000.00

b/d 158,000.00 b/d 22,000.00

D C D C

OV 90,000.00 (1) 30,000.00 c/d 150,000.00 OV 150,000.00

(2) 312,000.00 (3) 180,000.00 b/d 150,000.00

c/d 192,000.00

402,000.00 402,000.00

b/d 192,000.00

D C D C

c/d 20,000.00 OV 20,000.00 OV 70,000.00

b/d 20,000.00 c/d 147,000.00 P&L 77,000.00

147,000.00 147,000.00

b/d 147,000.00

D C D C

(1) 30,000.00 OV 30,000.00 (3) 30,000.00 (2) 52,000.00

c/d 33,000.00 P&L 33,000.00 c/d 22,000.00

63,000.00 63,000.00 52,000.00 52,000.00

b/d 33,000.00 b/d 22,000.00

D C D C

c/d 260,000.00 (2) 260,000.00 (3) 150,000.00 c/d 150,000.00

P&L 260,000.00 b/d 260,000.00 b/d 150,000.00

D C

O. exp 150,000.00 Sales 260,000.00

NP c/d 110,000.00

260,000.00 260,000.00

IT exp 33,000.00 b/d 110,000.00

R/E 77,000.00

110,000.00 110,000.00



Profit and Loss





See also the adjusted trial balance after preparing the Profit and Loss account and transferring its balanc-

ing figure to the Retained Earnings account:








Reserves 20,000.00


Income Tax Liabilities 33,000.00

VAT 22,000.00

Sales 0.00

Other Expenses 0.00

Total: 372,000.00 372,000.00

Raats Ltd.'s

TRIAL BALANCE

as at 31.12.20X7

Exhibit 27.6: RAATS Ltd. adjusted trial balance

The amount that can be paid to the shareholders is the total amount in the Retained Earnings account

here.

(Note, RAATS Ltd. could even dissolve the reserves but this won’t be considered here.)

We assume that RAATS Ltd. declares a dividend to be 40 % of the distributable amount. The distribut-

able amount is the amount that is available to be paid to the shareholders without further reserves

being dissolved and after all deductions that are relevant have been taken out. These reductions

can be preference dividends or reserves required by the company’s act (AktG) in Germany. Here there are

no deductions and the distributable amount is 147,000.00 EUR. The dividend won’t be paid out directly

but put into the Shareholder for Dividend account which is an alternative name for Dividends Payables

account or to the Accounts Payables account. This Shareholder for Dividend account belongs to Ac-

counts Payable and contributes to the amount of the payables item on the face of the statement of finan-

cial position. The amount that will go to the shareholders is 40% x 147,000 = 58,800.00 EUR. The

amount is not payable to the shareholders unless the financial statements have been audited.

(4) Crediting the dividend to Dividends Payables on 31.12.20X7:


CR Dividends Payables ............... 58,800.00 EUR

(Note, the debit entry often is a special account Dividends which later is offset against retained earnings.

So, the bookkeeping entry in a real business would be DR Dividends – CR Shareholder for Dividend. We

keep the chart of accounts simple and make the debit entry directly in the Retained Earnings account.)

RAATS Ltd. plans further to put 35 % of the distributable amount into reserves and to carry forward the

remaining portion of 25 % to the next accounting period. The latter one doesn’t require a bookkeeping

entry as the amount just stays in the Retained Earnings account.

(Note, this is where the name for this account comes from.)



(5) Crediting 35% x 147,000 = 51,450.00 EUR to the Reserves account on 31.12.20X7:


CR Reserves ......................... 51,450.00 EUR

Observe the accounts after this transaction has been made as shown in exhibit 27.7.

D C D C

OV 158,000.00 c/d 158,000.00 OV 22,000.00 c/d 22,000.00

b/d 158,000.00 b/d 22,000.00

D C D C

OV 90,000.00 (1) 30,000.00 c/d 150,000.00 OV 150,000.00

(2) 312,000.00 (3) 180,000.00 b/d 150,000.00

c/d 192,000.00

402,000.00 402,000.00

b/d 192,000.00

D C D C

OV 20,000.00 OV 70,000.00

c/d 78,800.00 R/E 58,800.00 c/d 147,000.00 P&L 77,000.00

78,800.00 78,800.00 147,000.00 147,000.00

b/d 78,800.00 Res 58,800.00 b/d 147,000.00

Div/p 51,450.00

c/d 36,750.00

147,000.00 147,000.00

b/d 36,750.00

D C D C

(1) 30,000.00 OV 30,000.00 (3) 30,000.00 (2) 52,000.00

c/d 33,000.00 P&L 33,000.00 c/d 22,000.00

63,000.00 63,000.00 52,000.00 52,000.00

b/d 33,000.00 b/d 22,000.00

D C D C

c/d 260,000.00 (2) 260,000.00 (3) 150,000.00 c/d 150,000.00

P&L 260,000.00 b/d 260,000.00 b/d 150,000.00









D C D C

OV 20,000.00 OV 70,000.00

c/d 78,800.00 R/E 58,800.00 c/d 147,000.00 P&L 77,000.00

78,800.00 78,800.00 147,000.00 147,000.00

b/d 78,800.00 Res 58,800.00 b/d 147,000.00

Div/p 51,450.00

c/d 36,750.00

147,000.00 147,000.00

b/d 36,750.00


Exhibit 27.7: RAATS Ltd.’s accounts (continued)

Companies use to prepare the financial statements under consideration of the appropriation of the profit.

The statements are labelled “after appropriation of profit” then.

The financial statements for RAATS Ltd. after appropriation of profit look as below:

[EUR]

Revenue 260,000.00

Other income

260,000.00

Materials

Labour

Depreciation



Interest



Deferred taxes


to reserves (§ 150 AktG) 0.00

to other earnings reserves 51,450.00

to shareholders 58,800.00

carried forward to next period 36,750.00

Raats Ltd.'s



Exhibit 27.8: RAATS Ltd.’s prolonged statement of comprehensive income

The prolonged statement of comprehensive income is ruled by § 158 AktG for German companies based

on shares. The bottom part of the statement shows where the distributable amount goes to.

(Note, in exhibit 27.8 the profit after taxes amounts to 77,000.00 EUR. The distributable amount results

from retained earnings and is 147,000.00 EUR. So is the sum of the amounts in the bottom part of the

prolonged statement of comprehensive income: 51,450 + 58,800 + 36,750 = 147,000.00 EUR.)

The statement of financial position looks as displayed by exhibit 27.9:



A C, L







A/R 22,000.00 A/P 80,800.00



372,000.00 372,000.00

Raats Ltd.'s


after appropriation of profit

as at 31.12.20X6

Exhibit 27.9: RAATS Ltd.’s statement of financial position after appropriation of profit

The amount for reserves is the opening amount plus the portion that goes to reserves by the appropria-

tion of profit: 20,000 + 51,450 = 71,450.00 EUR. The amount for accounts payables contains liabilities

for VAT and the claims of the shareholders with regard to the dividend: 22,000 + 58,800 = 80,800.00

EUR.

Along international accounting standards the equity section of the balance sheet needs to be displayed by

an extra statement called the statement of changes in equity. Here the changes result from the profit

earned and its appropriation. Other changes in equity can be share issues or redemption thereof and re-

valuations along IAS 7. Dissolving reserves can be a further change made to equity of the business.

RAATS Ltd. earns a profit of 110,000.00 EUR before taxes. The amount which increases equity is the

earnings after taxes which amounts to 77,000.00 EUR.

The appropriation of profit is 51,450.00 EUR to be transferred into the Reserves account and 58,800.00

EUR declared as a dividend. The latter one counts as equity reduction. The profit carried forward amount

is not seen as a change in equity and doesn’t need a special entry in the statement of changes in equity.



Share capital Reserves R/E total

as at 1.01.20X7 150,000.00 20,000.00 70,000.00 240,000.00

Profit 20X7 77,000.00 77,000.00

Dividend 20X7 (58,800.00) (58,800.00)

Addition to res 51,450.00 (51,450.00) 0.00

as at 31.12.20X7 150,000.00 71,450.00 36,750.00 258,200.00

Raats Ltd.'s

STATEMENT of CHANGES in EQUITY

as at 31.12.20X7

Exhibit 27.10: RAATS Ltd.’s statement of changes in equity.

Summary:

Companies have to pay taxes based on the pre-tax profit. In Germany the total income tax rate depends

on the location of the company. The amount is close to 30 % for limited companies.

The appropriation of profit consists of paying a dividend to the shareholders, putting amounts into Re-

serves, or carrying forward the profit to the next accounting period.

Companies can prepare the financial statements under consideration of the distributable amount being

used. The financial statements will be called “after appropriation of profit” then. An appropriation of

profit requires auditing by national law.

The statement of changes in equity lists all increases of decreases which occurred during the last account-

ing period in a list. The shareholder can observe in which way the value of the company changes.


Appropriation of Profit: The appropriation of profit is its use for declaring dividends, for putting it into

reserves, and/or for carrying it forward to the next accounting period.

Dividend: A dividend is a share of the profit earned in the last or previous accounting periods that is paid

to the shareholders.

Distributable amount: The distributable amount is the amount that is available to be paid to the share-

holders without further reserves being dissolved and after all deductions that are relevant have been taken

out also.

Withholding tax: A withholding tax is payable by the company on behalf of the recipient of the funds,

here the dividend tax is paid by the company on behalf of the shareholders.



(28) Multi Period Bookkeeping


In this chapter we’ll introduce a method how to continue real accounts over more than one accounting

period. We’ll use a 2 year example to illustrate and prepare the financial statement as at the end of the 2

year period.

In contrast to the German bookkeeping procedure real accounts will be continued over several accounting

periods along the international method. This is possible as no closing and opening period accounts

(Schlussbilanz- und Eröffnungsbilanzkonto) are used.

The real accounts just get balanced off and the balance brought down is regarded as the opening value for

the next accounting period. Accountants are used to write next to the balancing figure the date. This one

will be the 31.12. for the balance carried down and the 1.01. for the balance brought down.

Nominal accounts are not continued. They are closed off to the Trading account or the Profit and Loss

account.

We are using a simple example of the consultancy GOUSBLOM Ltd. to illustrate the use and continua-

tion of accounts.

GOUSBLOM Ltd. is established on 1.01.20X7 by a share issue. GOUSBLOM Ltd. issues 500,000 ordi-

nary shares at 1.00 EUR/share par value. The amount of the capital issued is 500,000 x 1 = 500,000.00

EUR.

(1) Share issue on 1.01.20X7:

DR Cash/Bank ........................ 500,000.00 EUR


GOUSBLOM Ltd. is registered for VAT reduction.

The company pays rent for an office block for one year in advance on 2.01.20X7. The amount is free of

VAT as the landlord is renting out his property privately. Rent amounts to 48,000.00 EUR/a and is paid

by bank transfer. The next year’s rent is due at the end of December 20X7. For that reason the second

payment needs to be accrued by the bookkeeper.

(2) Payment for 20X7’s rent on 2.01.20X7:

DR Rent ............................. 48,000.00 EUR

CR Cash/Bank ........................ 48,000.00 EUR

(3) Payment of 20X8’s rent on 20.12.20X7:

DR Rent ............................. 48,000.00 EUR

CR Cash/Bank ........................ 48,000.00 EUR

(4) Accrual of 20X8’s rent on 31.12.20X7:


CR Rent ............................. 48,000.00 EUR



GOUSBLOM Ltd. buys 36 laptops for its consultants at 4,000.00 EUR (net amount) each. The acquisi-

tion of laptops took place on 8.01.20X7 and GOUSBLOM Ltd. intents to use the computers for 4 years.

Depreciation accordingly is 4,000 / 4 = 1,000.00 EUR/(a x computer). At the date of acquisition - that

is the same as the date of the payment by bank transfer - the bookkeeper makes a bookkeeping entry as

below:

(5) Acquisition of laptops at a gross amount being 36 x 4,000 x 120% = 172,800.00 EUR.


DR VAT .............................. 28,800.00 EUR

CR Cash/Bank ........................ 172,000.00 EUR

Depreciation is 1,000 x 36 = 36,000.00 EUR/a. The bookkeeping entry is as below:

(6) Depreciation on computers on 31.12.20X7:


CR Acc. Depr. ....................... 36,000.00 EUR

GOUSBLOM Ltd.’s annual expenses for labour for the 30 consultants amount to 1,500,000.00 EUR. We

ignore labour tax and social security for this example. Furthermore, the payment is just made in the mid-

dle of the year by bank transfer.

(7) Payment for labour on 1.07.20X7:

DR Labour ........................... 1,500,000.00 EUR

CR Cash/Bank ........................ 1,500,000.00 EUR

The company’s revenue earned by billable consultation days is 4,000,000.00 EUR and received by the

clients’ bank transfers on 30.06.20X7.

(8) Revenue earned on 30.06.20X7:

DR Cash/Bank ........................ 4,800,000.00 EUR

CR VAT .............................. 800,000.00 EUR

CR Revenue .......................... 4,000,000.00 EUR

GOUSBLOM Ltd.’s bookkeeper balances off all accounts and prepares a trial balance as displayed by

exhibit 28.1 and 28.2:

(Note, we write c/d_X7 to indicate the accounts were balanced off on 31.12.20X7. We write b/d_X8 for

balance brought down 1.01.20X8. This only applies for real accounts.)



D C D C

(1) 500,000.00 (2) 48,000.00 c/d_X7 500,000.00 (1) 500,000.00

(8) 4,800,000.00 (3) 48,000.00 b/d_X8 500,000.00

(5) 172,800.00

(7) 1,500,000.00

c/d_X7 3,531,200.00

5,300,000.00 5,300,000.00

b/d_X8 3,531,200.00

D C D C

(2) 48,000.00 (4) 48,000.00 (4) 48,000.00 c/d_X7 48,000.00

(3) 48,000.00 c/d 48,000.00 b/d_X8 48,000.00

96,000.00 96,000.00

b/d 48,000.00

D C D C

(5) 144,000.00 c/d_X7 144,000.00 (5) 28,800.00 (8) 800,000.00

b/d_X8 144,000.00 c/d_X7 771,200.00

800,000.00 800,000.00

b/d_X8 771,200.00

D C D C

(6) 36,000.00 c/d 36,000.00 c/d_X7 36,000.00 (6) 36,000.00

b/d 36,000.00 b/d_X8 36,000.00

D C D C

(7) 1,500,000.00 c/d 1,500,000.00 c/d 400,000.00 (8) 4,000,000.00

b/d 1,500,000.00 b/d 4,000,000.00


PPE VAT


Rent Prepaid expenses

Labour Revenue

Exhibit 28.1: GOUSBLOM Ltd.’s accounts 20X7




Cash/Bank 3,531,200.00


Rent 48,000.00



VAT 771,200.00



Labour 1,500,000.00

Revenue 4,000,000.00

Total: 5,307,200.00 5,307,200.00

Gousblom Ltd.'s

TRIAL BALANCE

as at 31.12.20X7

Exhibit 28.2: GOUSBLOM Ltd.’s trial balance 20X7

The next step is to prepare Profit and Loss. The profit earned before taxation amounts to 4,000,000 –

48,000 – 36,000 – 1,500,000 = 2,416,000.00 EUR. The bookkeeper balances off all expense and revenue

accounts and transfers them to the Profit and Loss account:


CR Rent ............................. 48,000.00 EUR



DR Profit and Loss .................. 1,500,000.00 EUR

CR Labour ........................... 1,500,000.00 EUR

DR Revenue .......................... 4,000,000.00 EUR

CR Profit and Loss .................. 4,000,000.00 EUR

The amount for income taxes amounts to 2,416,000 x 30% = 724,800.00 EUR. The amount is taken out

of the Profit and Loss account and transferred to the Income Tax Liabilities account. The remaining

amount goes to the Retained Earnings account.


CR Tax Liabilities .................. 724,800.00 EUR


CR Retained Earnings ................ 1,691,200.00 EUR



GOUSBLOM Ltd.’s accountant prepares an adjusted trial balance after making the bookkeeping entries

for the profit calculation. Observe the accounts and the adjusted trial balance below:

D C D C

(1) 500,000.00 (2) 48,000.00 c/d_X7 500,000.00 (1) 500,000.00

(8) 4,800,000.00 (3) 48,000.00 b/d_X8 500,000.00

(5) 172,800.00

(7) 1,500,000.00

c/d_X7 3,531,200.00

5,300,000.00 5,300,000.00

b/d_X8 3,531,200.00

D C D C

(2) 48,000.00 (4) 48,000.00 (4) 48,000.00 c/d_X7 48,000.00

(3) 48,000.00 c/d 48,000.00 b/d_X8 48,000.00

96,000.00 96,000.00

b/d 48,000.00 P&L 48,000.00

D C D C

(5) 144,000.00 c/d 144,000.00 (5) 28,800.00 (8) 800,000.00

b/d 144,000.00 c/d_X7 771,200.00

800,000.00 800,000.00

b/d_X8 771,200.00

D C D C

(6) 36,000.00 c/d 36,000.00 c/d_X7 36,000.00 (6) 36,000.00

b/d 36,000.00 P&L 36,000.00 b/d_X8 36,000.00

D C D C

(7) 1,500,000.00 c/d 1,500,000.00 c/d 4,000,000.00 (8) 4,000,000.00

b/d 1,500,000.00 P&L 1,500,000.00 P&L 4,000,000.00 b/d 4,000,000.00

D C D C

Rent 48,000.00 Rev 4,000,000.00 c/d_X7 1,691,200.00 P&L 1,691,200.00

Depr 36,000.00 b/d_X8 1,691,200.00

Labour 1,500,000.00

NP c/d 2,416,000.00

4,000,000.00 4,000,000.00

ITL 724,800.00 b/d 2,416,000.00

R/E 1,691,200.00

2,416,000.00 2,416,000.00

Profit and Loss R/E

Labour Revenue


PPE VAT






D C

c/d_X7 724,800.00 P&L 724,800.00

b/d_X8 724,800.00

Tax liabilities

Exhibit 28.3: GOUSBLOM Ltd.’s accounts 20X7 (continued)

The amounts of the balancing figures can be observed in exhibit 28.4, too.


Cash/Bank 3,531,200.00


Rent 0.00 0.00



VAT 771,200.00



Labour 0.00 0.00

Revenue 0.00 0.00


Retained Earnings 1,691,200.00

Total: 3,723,200.00 3,723,200.00

Gousblom Ltd.'s


as at 31.12.20X7

Exhibit 28.4: GOUSBLOM Ltd.’s adjusted trial balance

GOUSBLOM Ltd. declares a dividend for 20X7 to the extent of 0.50 EUR/share. As there are 500,000

shares outstanding the dividend totals to 500,000 x 0.50 = 250,000.00 EUR.

1,000,000.00 EUR is transferred to the Reserves account and the remaining amount is carried forward to

the next accounting period. Observe the bookkeeping entries made:


CR Dividends Payables (A/P) ......... 250,000.00 EUR

DR Retained Earnings ................ 1,000,000.00 EUR

CR Reserves ......................... 1,000,000.00 EUR



D C D C

(1) 500,000.00 (2) 48,000.00 c/d_X7 500,000.00 (1) 500,000.00

(8) 4,800,000.00 (3) 48,000.00 b/d_X8 500,000.00

(5) 172,800.00

(7) 1,500,000.00

c/d_X7 3,531,200.00

5,300,000.00 5,300,000.00

b/d_X8 3,531,200.00

D C D C

(2) 48,000.00 (4) 48,000.00 (4) 48,000.00 c/d_X7 48,000.00

(3) 48,000.00 c/d 48,000.00 b/d_X8 48,000.00

96,000.00 96,000.00

b/d 48,000.00 P&L 48,000.00

D C D C

(5) 144,000.00 c/d_X7 144,000.00 (5) 28,800.00 (8) 800,000.00

b/d_X8 144,000.00 c/d_X7 771,200.00

800,000.00 800,000.00

b/d_X8 771,200.00

D C D C

(6) 36,000.00 c/d 36,000.00 c/d_X7 36,000.00 (6) 36,000.00

b/d 36,000.00 P&L 36,000.00 b/d_X8 36,000.00

D C D C

(7) 1,500,000.00 c/d 1,500,000.00 c/d 4,000,000.00 (8) 4,000,000.00

b/d 1,500,000.00 P&L 1,500,000.00 P&L 4,000,000.00 b/d 4,000,000.00

D C D C

Rent 48,000.00 Rev 4,000,000.00 c/d 1,691,200.00 P&L 1,691,200.00

Depr 36,000.00 Div/P 250,000.00 b/d 1,691,200.00

Labour 1,500,000.00 Res 1,000,000.00

NP c/d 2,416,000.00 c/d_X7 441,200.00

4,000,000.00 4,000,000.00 1,691,200.00 1,691,200.00

ITL 724,800.00 b/d 2,416,000.00 b/d_X8 441,200.00

R/E 1,691,200.00

2,416,000.00 2,416,000.00

Profit and Loss R/E


PPE VAT



Labour Revenue




D C D C

c/d_X7 724,800.00 P&L 724,800.00 c/d_X7 250,000.00 R/E 250,000.00

b/d_X8 724,800.00 b/d_X8 250,000.00

D C

c/d_X7 1,000,000.00 R/E 1,000,000.00

b/d_X8 1,000,000.00

Tax liabilities Dividends payables (A/P)

Reserves


Observe the financial statements as set up after appropriation of profit as at 31.12.20X7 below:

A C, L



Intangibles Reserves 1,000,000.00




A/R A/P 1,021,200.00



3,687,200.00 3,687,200.00

Gousblom Ltd.'s


as at 31.12.20X7

Exhibit 28.6: GOUSBLOM Ltd.’s statement of financial position

On the face of the statement of financial position the amount for property, plant, and equipment is the

cost of acquisition less accumulated depreciation: 144,000 – 36,000 = 108,000.00 EUR.

The amount for accounts payables is dividend to be paid to shareholders plus VAT/payables: 250,000 +

771,200 = 1,021,200.00 EUR.

The exhibit 28.7 displays the statement of comprehensive income.



[EUR]

Revenue 4,000,000.00

Other income

4,000,000.00

Materials

Labour 1,500,000.00




Interest



Deferred taxes



to other earnings reserves 1,000,000.00



Gousblom Ltd.'s



Exhibit 28.7: GOUSBLOM Ltd.’s statement of comprehensive income

When the next accounting period starts the real accounts will be continued. The 20X7’s nominal accounts

won’t be used anymore. They do not appear in the exhibit 28.8 accordingly.

In 20X8 GOUSBLOM Ltd. dissolved the prepaid expenses at first. The amount is transferred to the Rent

account and will count as an expense for 20X8.

(Note, to keep the example simple we don’t pay rent for 20X9 in advance.)

(A) Dissolving prepaid expenses on 1.01.20X8

DR Rent ............................. 48,000.00 EUR

CR Prepaid Expenses ................. 48,000.00 EUR

GOUSBLOM Ltd. pays the amount due for income taxes, for VAT, and the dividend declared. The

bookkeeping entries are identified by capital letters to indicate they are linked to another accounting peri-

od.

(Note, there are national deadlines set for the payment of taxes.)

(B) Payment for income taxes on 10.01.20X8:


CR Cash/Bank ........................ 724,800.00 EUR



(C) Payment for VAT on 10.01.20X8:

DR VAT .............................. 771,200.00 EUR

CR Cash/Bank ........................ 771,200.00 EUR

(D) Payment for dividend declared on 31.01.20X8:

DR Dividends Payables (A/P) ......... 250,000.00 EUR

CR Cash/Bank ........................ 250,000.00 EUR

The amount for depreciation remains unchanged with regard to the previous accounting period. The

bookkeeping entry is the same as before.

(E) Depreciation on laptops on 31.12.20X8:



The payment for labour in 20X8 is 1,700,000.00 EUR. We pretend it is paid on 1.07.20X8. The payment is

made by bank transfer.

(Note, we change the amounts slightly to not take a 20X7’s account for a 20X8’s one.)

(F) Payment for labour on 1.07.20X8:

DR Labour ........................... 1,700,000.00 EUR

CR Cash/Bank ........................ 1,700,000.00 EUR

In 20X8 GOUSBLOM Ltd. earned a revenue 4,100,000.00 EUR. The customer pay on cash the gross

amount which is 4,100,000 x 120% = 4,920,000.00 EUR.

(G) Posting 20X8’s revenue on 30.06.20X8:

DR Cash/Bank ........................ 4,920,000.00 EUR

CR VAT .............................. 820,000.00 EUR

CR Revenue .......................... 4,100,000.00 EUR

GOUSBLOM Ltd.‘s accountant balances off all accounts and prepares the trial balance at the year end.

Exhibit 28.8 shows the accounts and the following exhibit 28.9 contains the trial balance as at 31.12.20X8.



D C D C

(1) 500,000.00 (2) 48,000.00 c/d_X7 500,000.00 (1) 500,000.00

(8) 4,800,000.00 (3) 48,000.00 b/d_X8 500,000.00

(5) 172,800.00

(7) 1,500,000.00

c/d_X7 3,531,200.00

5,300,000.00 5,300,000.00

b/d_X8 3,531,200.00 (B) 724,800.00

(G) 4,920,000.00 (C) 771,200.00

(D) 250,000.00

(F) 1,700,000.00

c/d_X8 5,005,200.00

8,451,200.00 8,451,200.00

b/d 5,005,200.00

D C D C

(A) 48,000.00 c/d 48,000.00 (4) 48,000.00 c/d_X7 48,000.00

b/d 48,000.00 b/d_X8 48,000.00 (A) 48,000.00

D C D C

(5) 144,000.00 c/d_X7 144,000.00 (5) 28,800.00 (8) 800,000.00

b/d_X8 144,000.00 c/d_X7 771,200.00

800,000.00 800,000.00

(C) 771,200.00 b/d_X8 771,200.00

c/d_X8 820,000.00 (G) 820,000.00

1,591,200.00 1,591,200.00

b/d_X9 820,000.00

D C D C

(E) 36,000.00 c/d 36,000.00 c/d_X7 36,000.00 (6) 36,000.00

b/d 36,000.00 b/d_X8 36,000.00

c/d_X8 72,000.00 (E) 36,000.00

72,000.00 72,000.00

b/d_X9 72,000.00

D C D C

(F) 1,700,000.00 c/d 1,700,000.00 c/d_X7 4,100,000.00 (G) 4,100,000.00

b/d 1,700,000.00 b/d_X8 4,100,000.00


PPE VAT



Labour Revenue




D C D C

c/d_X7 250,000.00 R/E 250,000.00 c/d 1,691,200.00 P&L 1,691,200.00

(D) 250,000.00 b/d_X8 250,000.00 Div/P 250,000.00 b/d 1,691,200.00

Res 1,000,000.00

c/d_X7 441,200.00

1,691,200.00 1,691,200.00

b/d_X8 441,200.00

D C D C

c/d_X7 724,800.00 P&L 724,800.00 c/d_X7 1,000,000.00 R/E 1,000,000.00

(B) 724,800.00 b/d_X8 724,800.00 b/d_X8 1,000,000.00

Tax liabilities Reserves

Dividends payables (A/P) R/E


The trial balance is derived directly from the accounts. See exhibit 28.9:


Cash/Bank 5,005,200.00


Rent 48,000.00

Prepaid Expenses 0.00 0.00


VAT 820,000.00



Labour 1,700,000.00

Revenue 4,100,000.00



Reserves 1,000,000.00

Total: 6,933,200.00 6,933,200.00

Gousblom Ltd.'s

TRIAL BALANCE

as at 31.12.20X8

Exhibit 28.9: GOUSBLOM Ltd.’s trial balance

The accountant calculates profit to be 2,316,000.00 EUR. The bookkeeping entries are therefore:


CR Rent ............................. 48,000.00 EUR






CR Labour ........................... 1,700,000.00 EUR

DR Revenue .......................... 4,100,000.00 EUR


D C D C

(1) 500,000.00 (2) 48,000.00 c/d_X7 500,000.00 (1) 500,000.00

(8) 4,800,000.00 (3) 48,000.00 b/d_X8 500,000.00

(5) 172,800.00

(7) 1,500,000.00

c/d_X7 3,531,200.00

5,300,000.00 5,300,000.00

b/d_X8 3,531,200.00 (B) 724,800.00

(G) 4,920,000.00 (C) 771,200.00

(D) 250,000.00

(F) 1,700,000.00

c/d_X8 5,005,200.00

8,451,200.00 8,451,200.00

b/d 5,005,200.00

D C D C

(A) 48,000.00 c/d 48,000.00 (4) 48,000.00 c/d_X7 48,000.00

b/d 48,000.00 P&L 48,000.00 b/d_X8 48,000.00 (A) 48,000.00

D C D C

(5) 144,000.00 c/d_X7 144,000.00 (5) 28,800.00 (8) 800,000.00

b/d_X8 144,000.00 c/d_X7 771,200.00

800,000.00 800,000.00

(C) 771,200.00 b/d_X8 771,200.00

c/d_X8 820,000.00 (G) 820,000.00

1,591,200.00 1,591,200.00

b/d_X9 820,000.00

D C D C

(E) 36,000.00 c/d 36,000.00 c/d_X7 36,000.00 (6) 36,000.00

b/d 36,000.00 P&L 36,000.00 b/d_X8 36,000.00

c/d_X8 72,000.00 (E) 36,000.00

72,000.00 72,000.00

b/d_X9 72,000.00

D C D C

(F) 1,700,000.00 c/d 1,700,000.00 c/d_X7 4,100,000.00 (G) 4,100,000.00

b/d 1,700,000.00 P&L 1,700,000.00 P&L 4,100,000.00 b/d_X8 4,100,000.00


PPE VAT



Labour Revenue




D C D C

c/d_X7 250,000.00 R/E 250,000.00 c/d 1,691,200.00 P&L 1,691,200.00

(D) 250,000.00 b/d_X8 250,000.00 Div/P 250,000.00 b/d 1,691,200.00

Res 1,000,000.00

c/d_X7 441,200.00

1,691,200.00 1,691,200.00

b/d_X8 441,200.00

D C D C

c/d_X7 724,800.00 P&L 724,800.00 c/d_X7 1,000,000.00 R/E 1,000,000.00

(B) 724,800.00 b/d_X8 724,800.00 b/d_X8 1,000,000.00

c/d_X8 694,800.00 P&L 694,800.00

1,419,600.00 1,419,600.00

b/d_X9 694,800.00

D C

Rent 48,000.00 Rev 4,100,000.00

Depr 36,000.00

Labour 1,700,000.00

NP c/d 2,316,000.00

4,100,000.00 4,100,000.00

ITL 694,800.00 b/d 2,316,000.00

R/E 1,621,200.00

2,316,000.00 2,316,000.00

Tax liabilities Reserves

Profit and Loss

Dividends payables (A/P) R/E


The adjusted trial balance then looks as displayed by exhibit 28.11:




Cash/Bank 5,005,200.00


Rent 0.00 0.00

Prepaid Expenses 0.00 0.00


VAT 820,000.00



Labour 0.00 0.00

Revenue 0.00 0.00


Retained Earnings 2,062,400.00

Reserves 1,000,000.00

Total: 5,149,200.00 5,149,200.00

Gousblom Ltd.'s


as at 31.12.20X8

Exhibit 28.11: GOUSBLOM Ltd.’s adjusted trial balance

GOUSBLOM Ltd. decides to carry forward the profit to the next accounting period. There are no

bookkeeping entries to be made for the appropriation of profit as the amount stays in the Retained Earn-

ings account.

(Note, the bookkeeping entries along German HGB are different, see § 268 I HGB.)

The statement of financial position as at 31.12.20X8 looks as below:

A C, L



Intangibles Reserves 1,000,000.00




A/R A/P 820,000.00



5,077,200.00 5,077,200.00

Gousblom Ltd.'s


as at 31.12.20X8

Exhibit 28.12: GOUSBLOM Ltd.’s statement of financial position



Observe the income statement also:

[EUR]

Revenue 4,100,000.00

Other income

4,100,000.00

Materials

Labour 1,700,000.00




Interest



Deferred taxes



to other earnings reserves

to shareholders

carried forward to next period 1,621,200.00

Gousblom Ltd.'s



Exhibit 28.12: GOUSBLOM Ltd.’s statement of comprehensive income

(Note, the amount carried forward to the next accounting period is the amount carried forward from

20X8. The amount displayed in the balance sheet contains the amount carried forward from 20X7 also

and is 1,621,200 + 441,200 = 2,062,400.00 EUR (retained earnings).

Summary:

In contrast to the German system of bookkeeping entries real accounts are continued to the next account-

ing period.



(29) Introduction to Statements of Cash Flows


In this chapter we introduce the statement of cash flows. The statement of cash flows belongs to the set

of financial statements along IAS 1.10. The cash flow statement shows increases or decreases on

cash/bank by the categories cash flows for operating activities, cash flow from investing activi-

ties, and cash flow from financing activities. Along Handelsgesetzbuch the statement of cash flows is

not prescribed for single statements. Only in case the company participates on the capital market a state-

ment of cash flows is required by § 264 Handelsgesetzbuch.

A cash flow statement displays all payment activities sorted by the nature of payment. There are different

methods to prepare a cash flow statement as explained in the text book Bilanzen in chapter 10.

We here introduce the direct method to set up a cash flow statement. The cash flows are to be classified

into categories:

- cash flows from operating activities,

- cash flows from investing activities, and

- cash flows from financing activities.

The statement of cash flow is ruled by IAS 7.

Cash flows from operating activities are all cash flows that are not linked to financing activities or

investing activities.

(Note, as in this ebook Accounting-Intro payments for VAT are due in the next year the statements of

cash flows are prepared based on the gross amounts.)

We’ll go through a small case study MANSELL Ltd. which is a book store to explain the statement of

cash flows. We are going to explain the cash flow from each and every business activity with regard to the

type of cash flow.

MANSELL Ltd. is founded by a share issue on 1.01.20X4. The company issued 20,000 ordinary shares at

5.00 EUR each par value. The bookkeeping entry is cash relevant as there is a debit entry in Cash/Bank.

The money flow into the business is seen as a cash flow from financing activities because issuing shares is

financing the business.

(1) Share issue 20,000 x 5 = 100,000.00 EUR on 1.01.20X4

DR Cash/Bank ........................ 100,000.00 EUR


MANSELL Ltd. further takes a bank loan. The money lent from the bank is 40,000.00 EUR. The rate of

interest is 4.25 %. The bank requires that every year an amount of 2,000.00 EUR is to be paid off.

MANSELL takes the bank loan on 3.01.20X4 and has to pay the amount for interest 4.25% x 40,000 =

1,700.00 EUR and for pay-off 2,000.00 EUR at the end of the year. The bookkeeping entries are:

(2) Taking a bank loan on 3.01.20X4



DR Cash/Bank ........................ 40,000.00 EUR


The debit entry in Cash/Bank is a cash flow from financing activities as lending money is financing the

business. The same category applies for the interest payment and the pay-off. They both are financing

activities.

(3) Paying interest on 31.12.20X4

DR Interest ......................... 1,700.00 EUR

CR Cash/Bank ........................ 1,700.00 EUR

(4) Paying debts off on 31.12.20X4


CR Cash/Bank ........................ 2,000.00 EUR

At the end of the accounting period MANSELL Ltd. transfers short-term liabilities into an extra account

for short-term liabilities, here: Accounts Payables account. Compare the CHATTY case study in chapter

15 with regard to keep long-term and short-term liabilities separate from each other.

(5) Transferring next year’s pay-off amounts to Accounts Payables on 31.12.20X4:



Bookkeeping entry (5) does not contain a cash flow. It won’t appear in the statement of cash flows for

that reason. The Cash/Bank account is not affected.

MANSELL Ltd. rents a book shop from its landlord. The landlord is a private person. Therefore, rent is

free of VAT. Rent of 24,000.00 EUR is paid for the full year and is to be considered as a cash flow from

operating activities. Paying rent is no investment or an activity linked to financing the business.

(6) Payment for rent on 4.01.20X4:

DR Rent ............................. 24,000.00 EUR

CR Cash/Bank ........................ 24,000.00 EUR

MANSELL Ltd. buys 26 book shelves at 535.00 EUR each (ex VAT). The bookshelves will be used for

more than a year and are considered being property, plant, and equipment therefore. MANSELL Ltd. is

registered for VAT reduction and pays the gross selling price half way only. The payment is 8,346.00

EUR. The remaining portion is to be paid in the next accounting period 20X5. The payment for the book

shelves is regarded as a cash flow from an investing activity. The cash flow is negative as it goes out of

MANSELL Ltd. The acquisition is made on 5.01.20X4.



(7) Acquisition of book shelves 26 x 535 x 120% = 16,692.00 EUR on 5.01.20X4:


DR VAT .............................. 2,782.00 EUR

CR Cash/Bank ........................ 8,346.00 EUR


MANSELL Ltd. plans to use the book shelves for 10 years. Their useful life is 10 years also. Depreciation

on the book shelves is 13,910 / 10 = 1,391.00 EUR/a. Depreciation is not linked to cash flows.

(8) Depreciation of book shelves on 31.12.20X4:


CR Acc. Depr. ....................... 1,391.00 EUR

On 8.01.20X4 MANSELL Ltd. buys 4,000 novels at a purchase price of 8.16 EUR each. The amount

includes VAT. The total amount paid is 4,000 x 8.16 = 32,640.00 EUR. The net amount is 32,640 /

120% = 27.200.00 EUR. The purchase of books is a deal on cash. The books are no investment but the

purchase of merchandise is seen as an operating activity. The payment of 32,640.00 EUR is a cash flow

from operating activities.

(9) Purchase of books on 8.01.20X4:

DR Purchase ......................... 27,200.00 EUR

DR VAT .............................. 5,440.00 EUR

CR Cash/Bank ........................ 32,640.00 EUR

On 5.04.20X4 MANSELL Ltd. sells 2,900 books at a net selling price of 14.50 EUR/u on cash. The net

amount of the sales is 2,900 x 14.50 = 42,050.00 EUR. The amount received from customers is 42,050 x

120% = 50,460.00 EUR. The cash flowing to MANSELL Ltd. is a cash flow from operating activities.

(10) Sales on cash on 5.04.20X4:

DR Cash/Bank ........................ 50,460.00 EUR

CR VAT .............................. 8,410.00 EUR

CR Sales ............................ 42,050.00 EUR

Take a look at MANSELL Ltd.’s account at this stage in exhibit 29.1:



D C D C

(1) 100,000.00 (3) 1,700.00 c/d 100,000.00 (1) 100,000.00

(2) 40,000.00 (4) 2,000.00 b/d 100,000.00

(10) 50,460.00 (6) 24,000.00

(7) 8,346.00

(9) 32,640.00

c/d 121,774.00

190,460.00 190,460.00

b/d 121,774.00

D C D C

(4) 2,000.00 (2) 40,000.00 (3) 1,700.00 c/d 1,700.00

(5) 2,000.00 b/d 1,700.00

c/d 36,000.00

40,000.00 40,000.00

b/d 36,000.00

D C D C

(5) 2,000.00 (6) 24,000.00 c/d 24,000.00

c/d 10,346.00 (7) 8,346.00 b/d 24,000.00

10,346.00 10,346.00

b/d 10,346.00

D C D C

(7) 13,910.00 c/d 13,910.00 (7) 2,782.00 (10) 8,410.00

b/d 13,910.00 (9) 5,440.00

c/d 188.00

8,410.00 8,410.00

b/d 188.00

D C D C

(8) 1,391.00 c/d 1,391.00 c/d 1,391.00 (8) 1,391.00

b/d 1,391.00 b/d 1,391.00

D C D C

(9) 27,200.00 c/d 27,200.00 c/d 42,050.00 (10) 42,050.00

b/d 27,200.00 b/d 42,050.00

Purchase Sales

Accounts payables Rent

Property, plant, and equipment VAT

Interest bearing liabilities Interest



Exhibit 29.1: MANSELL Ltd.’s accounts

To check the consistency with the double entry system MANSELL Ltd.’s accountant prepares a trial bal-

ance as displayed by exhibit 29.2:






Interest Bearing Liabilities 36,000.00

Interest 1,700.00

Accounts payables 10,346.00

Rent 24,000.00


VAT 188.00



Purchase 27,200.00

Sales 42,050.00

Total: 189,975.00 189,975.00

Mansell Ltd.'s

TRIAL BALANCE

as at 31.12.20X4

Exhibit 29.2: MANSELL Ltd.’s trial balance

For the calculation of profit MANSELL Ltd. has to run a stock count. The accountant detects a closing

stock of books to be 1,100 novels at 1,100 x 8.16 / 120% = 7,480.00 EUR. Observe the profit calculation

by the Trading account and the Profit and Loss account in exhibit 29.3:

D C D C

(1) 100,000.00 (3) 1,700.00 c/d 100,000.00 (1) 100,000.00

(2) 40,000.00 (4) 2,000.00 b/d 100,000.00

(10) 50,460.00 (6) 24,000.00

(7) 8,346.00

(9) 32,640.00

c/d 121,774.00

190,460.00 190,460.00

b/d 121,774.00

D C D C

(4) 2,000.00 (2) 40,000.00 (3) 1,700.00 c/d 1,700.00

(5) 2,000.00 b/d 1,700.00 P&L 1,700.00

c/d 36,000.00

40,000.00 40,000.00

b/d 36,000.00






D C D C

(5) 2,000.00 (6) 24,000.00 c/d 24,000.00

c/d 10,346.00 (7) 8,346.00 b/d 24,000.00 P&L 24,000.00

10,346.00 10,346.00

b/d 10,346.00

D C D C

(7) 13,910.00 c/d 13,910.00 (7) 2,782.00 (10) 8,410.00

b/d 13,910.00 (9) 5,440.00

c/d 188.00

8,410.00 8,410.00

b/d 188.00

D C D C

(8) 1,391.00 c/d 1,391.00 c/d 1,391.00 (8) 1,391.00

b/d 1,391.00 P&L 1,391.00 b/d 1,391.00

D C D C

(9) 27,200.00 c/d 27,200.00 c/d 42,050.00 (10) 42,050.00

b/d 27,200.00 P&L 27,200.00 P&L 42,050.00 b/d 42,050.00

D C D C

Purch 27,200.00 Sales 42,050.00 T/A 7,480.00 c/d 7,480.00

GP c/d 22,330.00 Inv 7,480.00 b/d 7,480.00

49,530.00 49,530.00

P&L 22,330.00 b/d 22,330.00

D C D C

Int 1,700.00 T/A 22,330.00 c/d 4,761.00 P&L 4,761.00

Rent 24,000.00 b/d 4,761.00

Depr 1,391.00 NL c/d 4,761.00

27,091.00 27,091.00

b/d 4,761.00


Trading account Inventory

Profit and Loss Retained earnings

Purchase Sales

Accounts payables Rent

Property, plant, and equipment VAT

Exhibit 29.3: MANSELL Ltd.’s accounts (continued)

MANSELL Ltd. made a loss in 20X4. The adjusted trial balance is prepared to check the profit calculation

and is shown by exhibit 28.4:







Interest 0.00 0.00

Accounts payables 10,346.00

Rent 0.00 0.00


VAT 188.00



Purchase 0.00 0.00

Sales 0.00 0.00

Inventory 7,480.00


Total: 147,925.00 147,925.00

Mansell Ltd.'s


as at 31.12.20X4


The financial statements are presented by the exhibits below. There is no appropriation of profit to be

considered for this case study as this won’t affect the cash flow statement as long as no dividend paid out.

As MANSELL Ltd. made a loss no dividend is declared.

The material expenses shown by the income statement are 27,200 – 7,480 = 19,720.00 EUR.

[EUR]

Revenue 42,050.00

Other income

42,050.00

Materials 19,720.00

Labour




Interest 1,700.00



Deferred taxes


Mansell Ltd.'s



Exhibit 29.5: MANSELL Ltd.’s statement of comprehensive income



The statement of financial position is derived directly from the adjusted trial balance. See below:

A C, L







A/R A/P 10,534.00



141,773.00 141,773.00

Mansell Ltd.'s


as at 31.12.20X4

Exhibit 29.6: MANSELL Ltd.’s statement of financial position

The item for property, plant, and equipment is 13,910 -1,391 = 12,519.00 EUR. The item for accounts

payables contains the amount owed the supplier, short term liabilities resulting from the bank loan, and

VAT: 2,000 + 8,346 + 188 = 10,534.00 EUR.

The cash flow amounts to all changes of the cash/bank item. At the beginning of the accounting period

there was no opening amount. Accordingly, the total cash flow is the same as the closing balance of the

Cash/Bank account which is 121,774.00 EUR.

The statement of cash flows shows where cash flows result from. Observe below MANSELL Ltd.’s

statement of cash flows:



Cash flow from operating acitivities

Materials bought (32,640.00)

Sales 50,460.00

Rent (24,000.00)

(6,180.00)

Cash flow from investing activities

Investment in book shelves (8,346.00)

(8,346.00)

Cash flow from financing activities

Share issue 100,000.00

Bank loan paid 40,000.00

Interest (1,700.00)

Pay-off (2,000.00)

136,300.00

121,774.00

Mansell Ltd.'s

STATEMENT of CASH FLOWS

for the period ended 31.12.20X4

Exhibit 29.7: MANSELL Ltd.’s statement of cash flows

As you can see the cash flow statement doesn’t require new bookkeeping entries. It can be derived directly

from the Cash/Bank account. The statement of cash flows assigns cash flows to the categories cash flow

from operating activities, cash flow from investing activities, and cash flow from financing activities.

Summary:

The set of financial statements along IAS 1 contains a statement of cash flows. The cash flow results from

changes in the Cash/Bank account. It can be prepared directly from the Cash/Bank account.


Statement of Cash Flows: The cash flow statement shows increases or decreases on cash/bank by the

categories cash flows for operating activities, cash flow from investing activities, and cash flow from fi-

nancing activities.

Cash Flow from Operating Activities: Cash flows from operating activities are all cash flows that are

not linked to financing activities or investing activities.



Part (C):

ADVANCED BOOKKEEPING


In this part of the ebook Accounting-Intro we are going to introduce some aspects of financial accounting

and of cost accounting which are not subject to GAAPs or to the IFRSs.

E.g. there is no accounting regulation about how to liquidate a business or how to make bookkeeping

entries for receiving a discount.

However, these aspects are important to understand in case you are learning accounting. Some of the

aspects are subject to national company’s acts like the AktG in Germany. Others are bookkeeping proce-

dures which have been developed and continued in accounting.

We’ll explain these aspects in single chapters. The chapters do not follow a strict sequence, so you can

read them in an order you might be interested in.

(30) Establishing a Business


We are going to introduce some activities linked to the incorporation of a business. It is intended to give

you a short overview about bookkeeping entries which are made when founding a privately owned busi-

ness, a sole partnership, and a public company. However, we won’t cover all legal forms of a business.

This is subject to your management class. Here, we will discuss a single business which sells snacks to

students during the breaks. The concept is a kind of cafeteria business. The company starts as a privately

owned trading business, it will be transferred into a partnership and eventually it will be a public company.

Even when the legal form changes the activities remain similar to each other. We are going to focus on the

profit calculation and how the owners get of a portion of the profit as return on his/her investment. Tax

payments will be another aspect we are going to refer to.

In order to describe the forming of a company we use a snack selling business as example. The concept is

very simple and maybe some aspects won’t be described in full. We start the description of the business as

a sole trader and continue by founding a partnership and in the last step observe this company going pub-

lic. However, the detailed description about accounting for companies along IFRSs and German civic

code HGB is covered by chapter 2 of the text book Bilanzen.

Stephen Saldanha is an accounting student. As he always feels hungry in the university during the breaks

he asks the president of his university for permission to sell some snacks on campus to his classmates. He

gets approval and agrees to pay 100.00 EUR/month to the university. Stephen Saldanha withdraws his

whole savings from his bank account in order to buy a small sale shack and the first month’s goods. He

hopes to earn enough revenue during the month to purchase the next month’s groceries. His business is

no separate legal entity to him as it is linked to his person. Stephen SALDANHA is liable for the business



all alone. Money earned by him will be his personal income. Taxable profit earned will be count as his

personal taxable income and has to be declared as profit resulting from self-employment’s work. Stephen

SALDANHA will be liable for the business by all his personal assets. In particular when the company

doesn’t perform as planned and cannot pay off its debts Stephen Saldanha can be charged in full. The

snack trading business is classified as a sole dealership.

The wooden stand (sale shack) costs 6,000.00 EUR including VAT. Stephen SALDANHA pays the shack

on cash. He further purchases snacks like chocolate bars, sweets, crackers, etc. for 3,000.00 EUR and

starts to sell the goods to his classmates on campus. He sells the snacks for double the amount he pur-

chased them at. In particular: The gross selling price is double of the purchase costs. In accordance to IAS

2, the purchase cost always is the net amount. As an accounting student he properly keeps track of his

business by recording his activities. He keeps financial records by making bookkeeping entries. There is no

need for him to record his transactions as his company is a very small business according to the German

law. Since BilMoG small companies are exempted from keeping bookkeeping records. But Saldanha has

to prepare a tax statement which requires a 4.3 Gewinnermittlungs-statement. A 4.3 Gewinnermittlung

is a statement along the German income tax law that requires calculating profit by comparison of

payments that go into the business and cash outflows. It refers to § 4 III EStG. We here do not

follow that concept but voluntarily prepare financial statements like a statement of financial position and a

statement of comprehensive income along IFRSs.

When Stephen Saldanha starts his business he counts the money he has on the bank before starting any

business activity. He has got 9,000.00 EUR that he uses for the business.

(1) He makes a bookkeeping entry in his records on 1.01.20X1 for the start of his business

DR Cash/Bank ........................ 9,000.00 EUR

CR Owner’s Capital .................. 9,000.00 EUR

His company is registered for VAT reduction. This makes sense to him because he can deduct input VAT

paid to his supplier. When he invests and purchases the goods he makes the bookkeeping entries as be-

low:

(2) The investment in the sale shack takes place on 2.01.20X1 at 6,000.00 EUR. The net amount is 6,000 /

120% = 5,000.00 EUR. Stephen Saldanha pays the seller of the shack per bank transfer immediately.


DR VAT .............................. 1,000.00 EUR

CR Cash/Bank ........................ 6,000.00 EUR

(3 … 14) The purchase of the goods takes place every month. The first month SALDANHA orders

snacks at a purchase price of 3,000.00 EUR which includes VAT. In the following months the orders are

reduced to 2,400.00 EUR only.

DR Purchase ........................ 2,500.00 EUR

DR VAT .............................. 500.00 EUR

CR Cash/Bank ........................ 3,000.00 EUR

The following purchases are on 1.02.20X1 to 1.12.20X1:



DR Purchase ........................ 2,000.00 EUR

DR VAT .............................. 400.00 EUR

CR Cash/Bank ........................ 2,400.00 EUR

The amount of rent is free of VAT as the university is a non-profit body. Stephen Saldanha pays 12 x 100

= 1,200.00 EUR rent on 30.06.20X1 as agreed with the university president.

(15) Payment for rent on 30.06.20X1

DR Rent ............................. 1,200.00 EUR

CR Cash/Bank ........................ 1,200.00 EUR

In the first month SALDANHA sells 80 % of the snacks. He decides to keep his stock at a constant level

of 500.00 EUR and purchases in February … December goods at 2,400.00 EUR/month and sells them

all. Sales amount for all month to 12 x 2,000 x 200% = 48,000.00 EUR. The net amount thereof is 48,000

/ 120% = 40,000.00 EUR.

To keep the case study simple we only consider one bookkeeping entry for all sales made at the year end:

(16) Sale of snacks on 31.12.20X1

DR Cash/Bank ........................ 48,000.00 EUR

CR VAT .............................. 8,000.00 EUR

CR Sales ............................ 40,000.00 EUR

Observe the accounts so far.

SALDANHA also prepares a trial balance to check whether his records are still consistent to the double

entry system.



D C D C

(2) 5,000.00 c/d 5,000.00 c/d 9,000.00 (1) 9,000.00

b/d 5,000.00 b/d 9,000.00

D C D C

(1) 9,000.00 (2) 6,000.00 (2) 1,000.00 (16) 8,000.00

(16) 48,000.00 (3) 3,000.00 (3) 500.00

(4) 2,400.00 (4) 400.00

(5) 2,400.00 (5) 400.00

(6) 2,400.00 (6) 400.00

(7) 2,400.00 (7) 400.00

(8) 2,400.00 (8) 400.00

(9) 2,400.00 (9) 400.00

(10) 2,400.00 (10) 400.00

(11) 2,400.00 (11) 400.00

(12) 2,400.00 (12) 400.00

(13) 2,400.00 (13) 400.00

(14) 2,400.00 (14) 400.00

(15) 1,200.00 c/d 2,100.00

c/d 20,400.00 8,000.00 8,000.00

57,000.00 57,000.00 b/d 2,100.00

b/d 20,400.00

D C D C

(3) 2,500.00 (16) 40,000.00

(4) 2,000.00

(5) 2,000.00

(6) 2,000.00

(7) 2,000.00

(8) 2,000.00

(9) 2,000.00

(10) 2,000.00

(11) 2,000.00

(12) 2,000.00

(13) 2,000.00

(14) 2,000.00 c/d 24,500.00

24,500.00 24,500.00

b/d 24,500.00

D C

(15) 1,200.00

P, P, E Owner's capital

Purchase Sales

Rent

Cash/Bank VAT

Exhibit 30.1: SALDANHA’s accounts

It is to be seen that the company has a positive cash flow and has to pay money to the taxing authorities

for VAT.



The trial balance provides a more detailed overview about the business. Observe exhibit 30.2:



Owner's Capital 9,000.00

Cash/Bank 20,400.00

VAT 2,100.00

Purchase 24,500.00

Sales 40,000.00

Rent 1,200.00

Total: 51,100.00 51,100.00

SALDANHA's

TRIAL BALANCE

as at 31.12.20X1

Exhibit 30.2: SALDANHA’s trial balance

Stephen Saldanha makes adjustments at the end of the accounting period to prepare a proper overview

about his business. In particular he makes bookkeeping entries for accruals.

When Stephen Saldanha runs a stock count at the end of the year it reveals that there are still snacks for

500.00 EUR on stock. This is the amount which was intended to be on stock all the times.

We now observe the profit calculation according a periodic system for Saldanha’s shop.

As part of the adjustments Saldanha makes a bookkeeping entry for the closing stock which is 500.00

EUR on 31.12.20X1

DR Inventory ........................ 500.00 EUR

CR Trading Account .................. 500.00 EUR

Furthermore, the Purchase account and the Sales account are closed off to the Trading account on

31.12.20X1:


CR Purchase ......................... 24,500.00 EUR

DR Sales ............................ 40,000.00 EUR


The Trading account is closed off to the Profit and Loss account. The gross profit earned by Stephen

Saldanha during the accounting period 20X1 is 40,000 – 24,000 = 16,000.00 EUR. Consider that the ma-

terial expenses only are 24,000.00 EUR because there is still a closing stock of 500.00 EUR.

Closing off to Profit and Loss account on 31.12.20X1 is done by the bookkeeping entry below.


CR P&L Account ...................... 16,000.00 EUR



As Stephen Saldanha doesn’t prepare a 4.3 Gewinnermittlungs-statement but prepares voluntarily financial

statements along IFRSs he must consider depreciation as an expense. He intends to use the sale shack for

5 years and writes it off by 5,000 / 5 = 1,000.00 EUR/a.

On 31.12.20X1 he depreciates the sale shack.



The further expenses are considered for the Profit and Loss account when calculating the profit.

DR P&L Account ...................... 1,200.00 EUR

CR Rent ............................. 1,200.00 EUR

DR P&L Account ...................... 1,000.00 EUR


We take a look at the accounts to understand how well Stephen Saldanha’s business performs.

In particular we analyse the Trading account and the Profit and Loss account. As SALDANHA is private-

ly owned Stephen Saldanha has to declare income taxes along the profit earned by his business and in case

there is any by his other income. The profit earned with the sales of snacks in the university amounts to

13,800.00 EUR.

SALDANHA transfers the profit to the Owner’s Capital account.

(Note, there is only one owner for a sole trader. For that reason we are writing “owner’s capital”.)

DR P&L .............................. 13,800.00 EUR

CR Owner’s Capital .................. 13,800.00 EUR

We observe the accounts after the calculation of profit by taking a close look to exhibit 30.3:

D C D C

(2) 5,000.00 c/d 5,000.00 c/d 9,000.00 (1) 9,000.00

b/d 5,000.00 b/d 9,000.00

c/d 22,800.00 P&L 13,800.00

22,800.00 22,800.00

b/d 22,800.00





D C D C

(1) 9,000.00 (2) 6,000.00 (2) 1,000.00 (16) 8,000.00

(16) 48,000.00 (3) 3,000.00 (3) 500.00

(4) 2,400.00 (4) 400.00

(5) 2,400.00 (5) 400.00

(6) 2,400.00 (6) 400.00

(7) 2,400.00 (7) 400.00

(8) 2,400.00 (8) 400.00

(9) 2,400.00 (9) 400.00

(10) 2,400.00 (10) 400.00

(11) 2,400.00 (11) 400.00

(12) 2,400.00 (12) 400.00

(13) 2,400.00 (13) 400.00

(14) 2,400.00 (14) 400.00

(15) 1,200.00 c/d 2,100.00

c/d 20,400.00 8,000.00 8,000.00

57,000.00 57,000.00 b/d 2,100.00

b/d 20,400.00

D C D C

(3) 2,500.00 Purch 24,500.00 Inv clst 500.00

(4) 2,000.00 GP c/d 16,000.00 Sales 40,000.00

(5) 2,000.00 40,500.00 40,500.00

(6) 2,000.00 P&L 16,000.00 b/d 16,000.00

(7) 2,000.00

(8) 2,000.00

(9) 2,000.00

(10) 2,000.00

(11) 2,000.00

(12) 2,000.00

(13) 2,000.00

(14) 2,000.00 c/d 24,500.00

24,500.00 24,500.00

b/d 24,500.00 T/A 24,500.00

D C D C

(15) 1,200.00 c/d 1,200.00 T/A 40,000.00 (16) 40,000.00

b/d 1,200.00 P&L 1,200.00

D C D C

T/A 500.00 c/d 500.00 AccDepr 1,000.00 c/d 1,000.00

b/d 500.00 b/d 1,000.00 P&L 1,000.00

D C D C

Depr 1,000.00 Depr 1,000.00 T/A 16,000.00

Rent 1,200.00

NP c/d 13,800.00

16,000.00 16,000.00

Owner 13,800.00 b/d 13,800.00

Accumulated depreciation Profit and Loss

Purchase Trading account

Rent Sales

Cash/Bank VAT

Inventory Depreciation

Exhibit 30.3: SALDANHA’s accounts (continued)



The adjusted trial balance looks as below:



Owner's Capital 22,800.00

Cash/Bank 20,400.00

VAT 2,100.00

Purchase 0.00 0.00

Sales 0.00 0.00

Rent 0.00 0.00


Inventory 500.00


Total: 25,900.00 25,900.00

SALDANHA's


as at 31.12.20X1

Exhibit 30.4: SALDANHA’s adjusted trial balance

Stephen Saldanha takes out 10,000.00 EUR of his business and posts a drawing of 10,000.00 EUR.

DR Drawing .......................... 10,000.00 EUR

CR Cash/Bank ........................ 10,000.00 EUR

He wants to benefit from the profit earned and he has to pay his personal tax. It is assumed that his in-

come tax rate is 22.5 %. Accordingly, he owes 0.225 x 13,800 = 3,105.00 EUR the taxing authorities. He

has to declare the full profit made by the business by his personal tax declaration. It is not relevant how

much he took out of the business as the business is no legal entity. The full profit earned counts as his

income and is subject to taxation.

(Note, he doesn’t make a bookkeeping entry for paying income taxes because this is his personal thing.

His business is not taxable but he is.)

Furthermore, Stephen Saldanha has to pay VAT liabilities in the next year. He makes another drawing to

the extent of the amount of 2.100.00 EUR therefore. He uses that money for paying VAT liabilities at the

beginning of the next accounting period.

(Note, he doesn’t make a bookkeeping entry for VAT either. But he has to do that in the next year to

dissolve the liability.)

After the drawings the accounts look as below:



D C D C

(2) 5,000.00 c/d 5,000.00 c/d 9,000.00 (1) 9,000.00

b/d 5,000.00 b/d 9,000.00

c/d 22,800.00 P&L 13,800.00

22,800.00 22,800.00

Drawing 12,100.00 b/d 22,800.00

c/d 10,700.00

22,800.00 22,800.00

b/d 10,700.00

D C D C

(1) 9,000.00 (2) 6,000.00 (2) 1,000.00 (16) 8,000.00

(16) 48,000.00 (3) 3,000.00 (3) 500.00

(4) 2,400.00 (4) 400.00

(5) 2,400.00 (5) 400.00

(6) 2,400.00 (6) 400.00

(7) 2,400.00 (7) 400.00

(8) 2,400.00 (8) 400.00

(9) 2,400.00 (9) 400.00

(10) 2,400.00 (10) 400.00

(11) 2,400.00 (11) 400.00

(12) 2,400.00 (12) 400.00

(13) 2,400.00 (13) 400.00

(14) 2,400.00 (14) 400.00

(15) 1,200.00 c/d 2,100.00

c/d 20,400.00 8,000.00 8,000.00

57,000.00 57,000.00 b/d 2,100.00

b/d 20,400.00 Drawing 10,000.00

Drawing 2,100.00

c/d 8,300.00

20,400.00 20,400.00

b/d 8,300.00

D C D C

(3) 2,500.00 Purch 24,500.00 Inv clst 500.00

(4) 2,000.00 GP c/d 16,000.00 Sales 40,000.00

(5) 2,000.00 40,500.00 40,500.00

(6) 2,000.00 P&L 16,000.00 b/d 16,000.00

(7) 2,000.00

(8) 2,000.00

(9) 2,000.00

(10) 2,000.00

(11) 2,000.00

(12) 2,000.00

(13) 2,000.00

(14) 2,000.00 c/d 24,500.00

24,500.00 24,500.00

b/d 24,500.00 T/A 24,500.00

Purchase Trading account

Cash/Bank VAT





D C D C

(15) 1,200.00 c/d 1,200.00 T/A 40,000.00 (16) 40,000.00

b/d 1,200.00 P&L 1,200.00

D C D C

T/A 500.00 c/d 500.00 AccDepr 1,000.00 c/d 1,000.00

b/d 500.00 b/d 1,000.00 P&L 1,000.00

D C D C

c/d 1,000.00 Depr 1,000.00 Depr 1,000.00 T/A 16,000.00

b/d 1,000.00 Rent 1,200.00

NP c/d 13,800.00

16,000.00 16,000.00

Owner 13,800.00 b/d 13,800.00

D C

C/B 10,000.00

C/B 2,100.00 c/d 12,100.00

12,100.00 12,100.00

b/d 12,100.00 Owner 12,100.00

Drawing

Accumulated depreciation Profit and Loss

Rent Sales

Inventory Depreciation

Exhibit 30.5: SALDANHA’s accounts (continued)

Stephen Saldanha finds that his business works out very well. He thinks about to expand the business and

to sell snacks in all faculty buildings of his university. Additionally, he thinks of selling his snacks at the

other branches of the university also. In total he wants to sell snacks at 7 university locations in the future.

Stephen Saldanha discusses his plans with some classmates and they decide to work together with him and

to invest money into the business also. In particular, there are 2 friends who are prepared to form a part-

nership together with Stephen Saldanha. The process of founding the partnership starts after the friends

made the decision to work together on 1.01.20X2. The concept of the business to sell snacks to students

in the university stays the same.

The friends reserve a name for the new business. It should no longer be SALDANHA because the other

investors don’t accept the partnership being dominated by Stephen Saldanha’s name. Instead they call the

business now SNACKY-TICKY-shop. The name indicates that the snacks are sold for small money. The

name is submitted to the authorities and gets approved because it is not the same or similar to any other

already existing firms.

The legal form of the business is a sole partnership. The company’s purpose is achieving financial gain by

dealing with food. By forming a partnership, the SNACKY-TICKY-shop doesn’t become a legal entity.

However, all partners are owners of the business and will have unlimited liability for debts of the business

or any other damage caused by running the business. In other words they can be hold responsible for the

business by their total private assets. If the SNACKY-TICKY-shop becomes unable to pay its debts the

creditors can claim the personal assets of each and every owner. The concept of being liable is called joint-

ly and severally liability. This means a partner can be sued alone for the debts of the business or for any



other payment obligation which results from the business like fines or fees. This becomes relevant when

the business doesn’t fulfil its duties, like declaring taxes or paying for employees etc. The claims against

one partner are not limited to his/her share of the business but to the entire business. Furthermore, every

partner can make contracts in behalf of the business as long as the agreements are in accordance with the

purpose of the business. Further regulations are subject to a partnership agreement set up between the

partners at the time of commencement of the partnership.

The friends set up a partnership agreement. This agreement states that the contribution of the two new

partners should be as high as Stephen Saldanha’s one. For that reason the partners agree that everyone

contributes by the same share to the business. Stephen Saldanha puts in his old business and all assets

linked to it. Namely this is the sale shack with a carrying amount of 4,000.00 EUR, the inventory of 500.00

EUR, and the amount of cash which is 8,300.00 EUR. He doesn’t have to deduct VAT payables because

he withdrew money from the business with the intention to pay off the VAT liabilities. He pays for the

VAT liabilities according to his intention in January 20X2. So, the value of his contribution is 4,000 + 500

+ 8,300 = 12,800.00 EUR. The other partners agree to contribute the same amount on cash. They pay

the amount into the partnership’s bank account.

The partnership agreement states the profit sharing rate also. For the SNACKY-TICKY-shop it is agreed

that the profit will be divided equally among the partners. This means every partner receives 1/3 of the

business’s income. As the partnership is no legal entity every partner has to pay taxes on his personal in-

come according to his/her personal income tax rate. The agreement by the partnership contract is relevant

to proof every partner’s share of the taxable income of the business.

(Note, it is assumed that the partners are living in a country where a progressive tax rate applies. This

means that depending on their other income the income tax rate can vary.)

The partners agree further that all profit will be paid out to the partners at the end of each year and that all

investments have to be made at an equal and extra contribution of every partner. The partners do not

work for their partnership as employees. If so, a special contract will be set up. The agreement states fur-

ther that leaving the partnership and adding new partners requires an unrestricted agreement of all remain-

ing partners.

The SNACKY-TICKY-shop prepares financial statements in order to inform the partners about the

company and to make the decisions easier for the them. In particular regulations between the partners

require a proper and complete overview about the business. On 1.01.20X2 the partners prepare a state-

ment of financial position as below:



A C, L

Non-current assets [EUR] Equity [EUR]

P, P, E 4,000.00 Partners' capital 38,400.00

Intangibles

Financial assets


Inventory 500.00 Interest bear liab

A/R A/P


Cash/Bank 33,900.00

38,400.00 38,400.00

SNACKY-TICKY-shop's


as at 1.01.20X2

Exhibit 30.6: SNACKY-TICKY-shop’s statement of financial position

The partners’ capital amounts to the total of their single contribution: 3 x 12,800 = 38,400.00 EUR.

The bookkeeping records are prepared based on the statement of financial position. See below the open-

ing amounts are transferred into the single accounts.

(Note, the SNACKY-TICKY-shop doesn’t continue Stephen Saldanha’s accounts.)

D C D C

OV 4,000.00 OV 38,400.00

D C D C

OV 500.00 OV 33,900.00

P, P, E Partners' Capital

Inventory Cash/Bank

Exhibit 30.7: SNACKY-TICKY-shop’s accounts

In 20X2 the following transactions occur. The SNACKY-TICKY-shop takes a bank loan of 20,000.00

EUR. The rate of interest agreed with the local bank is 5 %. All partners can be held liable for the bank

loan by their personal assets. The pay-off payments amount to 2,000.00 EUR per annum – interest and

pay-off are payable at the end of the year.

(1) Taking the bank loan on 1.01.20X2

DR Cash/Bank ........................ 20,000.00 EUR


The bookkeeping entries for interest and pay-off and for transferring the pay-off amount for 20X3 to

short term liabilities are as below:



(2) Paying interest on 31.12.20X2

DR Interest ........................ 1,000.00 EUR

CR Cash/Bank ........................ 1,000.00 EUR

(3) Pay-off payment on 31.12.20X2


CR Cash/Bank ........................ 2,000.00 EUR

(4) Transferring 20X3’s pay-off payment to short-term liabilities on 31.12.20X2


CR Short-term Liabilities ........... 2,000.00 EUR

(Note, in this example the bookkeeping entries are explained in a logical order but not in a chronological

order.)

The SNACKY-TICKY-shop buys 6 sale shacks at 5,400.00 EUR (gross amount) each. The net amount is

6 x 5,400 / 120% = 27,000.00 EUR. The amount for VAT is 27,000 x 20% = 5,400.00 EUR.

(5) Investment on new sale shacks on 1.01.20X2


DR VAT .............................. 5,400.00 EUR

CR Cash/Bank ........................ 32,400.00 EUR

Depreciation on the sale shacks is 1,000.00 EUR for the old shack which has been taken over at a carrying

amount of 5,000.00 EUR and a remaining useful life of 5 years and 5,400 / 5 = 900.00 EUR for each of

the new ones.

(6) Depreciation on the sale shacks on 31.12.20X2 is 1,000 + 6 x 900 = 6,400.00 EUR.



The rental agreement with the university got enhanced to the other locations at even better conditions.

The university requests 500.00 EUR as a monthly payment for all sales shacks together. The amount is

paid in the middle of the year.


DR Rent ............................. 6,000.00 EUR

CR Cash/Bank ........................ 6,000.00 EUR

The purchases of snacks are similar to the old business concept. The first purchase is fairly higher to start

with a stock level of 500.00 EUR. According to this plan the SNACKY-TICKY-shop orders sweets,

crackers, and chocolate bars for 2,400 + 6 x 3,000 = 20,400.00 EUR in January and for 7 x 2,400 =

16,800.00 EUR in the later months. The amounts are gross amounts.



(Note, the location of Stephen Saldanha’s trading business is continued by the SNACKY-TICKY-shop

and uses the already existing stock level.)

(8 … 20) Purchase on cash on 3.01.20X2 to 1.12.20X2

DR Purchase ......................... 17,000.00 EUR

DR VAT .............................. 3,400.00 EUR

CR Cash/Bank ........................ 20,400.00 EUR

And later:

DR Purchase ......................... 14,000.00 EUR

DR VAT .............................. 2,800.00 EUR

CR Cash/Bank ........................ 16,800.00 EUR

In this example the gross selling price is 220 % of the net purchase price. The SNACKY-TICKY-shop

sells snacks at 369,600.00 EUR. To keep the example simple there is only one bookkeeping entry to be

made.

(21) Sales of snacks at a gross amount of 7 x 2,000 x 12 x 220% = 369,600.00 EUR on 1.07.20X2.

DR Cash/Bank ........................ 369,600.00 EUR

CR VAT .............................. 61,600.00 EUR

CR Sales ............................ 308,000.00 EUR

The SNACKY-TICKY-shop employs a few students to sell the snacks to their classmates. During the

accounting period it pays 24,000.00 EUR to the sales people.

(22) Payment of employees on 31.12.20X2

DR Labour ........................... 24,000.00 EUR

CR Cash/Bank ........................ 24,000.00 EUR

Before the adjustments are made the trial balance is set up. Observe the accounts and the trial balance

below:

D C D C

OV 4,000.00 c/d 38,400.00 OV 38,400.00

(5) 27,000.00 c/d 31,000.00 b/d 38,400.00

31,000.00 31,000.00

b/d 31,000.00





D C D C

OV 500.00 c/d 500.00 OV 33,900.00 (2) 1,000.00

b/d 500.00 (1) 20,000.00 (3) 2,000.00

(21) 369,600.00 (5) 32,400.00

(7) 6,000.00

(8) 20,400.00

(9) 16,800.00

(10) 16,800.00

(11) 16,800.00

(12) 16,800.00

(13) 16,800.00

(14) 16,800.00

(15) 16,800.00

(16) 16,800.00

(17) 16,800.00

(18) 16,800.00

(19) 16,800.00

(20) 16,800.00

(22) 24,000.00

c/d 136,100.00

423,500.00 423,500.00

b/d 136,100.00

D C D C

(3) 2,000.00 (1) 20,000.00 (2) 1,000.00 c/d 1,000.00

(4) 2,000.00 b/d 1,000.00

c/d 16,000.00

20,000.00 20,000.00

b/d 16,000.00

D C D C

c/d 2,000.00 (4) 2,000.00 (5) 5,400.00 (21) 61,600.00

b/d 2,000.00 (8) 3,400.00

(9) 2,800.00

(10) 2,800.00

(11) 2,800.00

(12) 2,800.00

(13) 2,800.00

(14) 2,800.00

(15) 2,800.00

(16) 2,800.00

(17) 2,800.00

(18) 2,800.00

(19) 2,800.00

(20) 2,800.00

c/d 19,200.00

61,600.00 61,600.00

b/d 19,200.00

D C D C

(6) 6,400.00 c/d 6,400.00 c/d 6,400.00 (6) 6,400.00

b/d 6,400.00 b/d 6,400.00

Depreciation Accumulated depreciation


Short-term liabilities VAT

Inventory Cash/Bank

Exhibit 30.8: SNACKY-TICKY-shop’s accounts (continued)



D C D C

(6) 6,400.00 c/d 6,400.00 c/d 6,400.00 (6) 6,400.00

b/d 6,400.00 b/d 6,400.00

D C D C

(7) 6,000.00 c/d 6,000.00 (8) 17,000.00

b/d 6,000.00 (9) 14,000.00

(10) 14,000.00

(11) 14,000.00

(12) 14,000.00

(13) 14,000.00

(14) 14,000.00

(15) 14,000.00

(16) 14,000.00

(17) 14,000.00

(18) 14,000.00

(19) 14,000.00

(20) 14,000.00 c/d 185,000.00

185,000.00 185,000.00

b/d 185,000.00

D C D C

c/d 308,000.00 (21) 308,000.00 (22) 24,000.00 c/d 24,000.00

b/d 308,000.00 b/d 24,000.00

Sales Labour

Rent Purchase





Partners' Capital 38,400.00

Inventory 500.00



Interest 1,000.00

Short-term Liabilities 2,000.00

VAT 19,200.00



Rent 6,000.00

Purchase 185,000.00

Sales 308,000.00

Labour 24,000.00

Total: 390,000.00 390,000.00

Snacky-Ticky-shop's

TRIAL BALANCE

as at 31.12.20X2

Exhibit 30.9: SNACKY-TICKY-shop’s trial balance



At the end of the accounting period 20X2 there are snacks on stock being worth 6,000.00 EUR. Observe

the bookkeeping entries in order to understand the profit calculation.

DR Trading Account .................. 500.00 EUR

CR Inventory ........................ 500.00 EUR


CR Purchase ......................... 185,000.00 EUR

DR Sales ............................ 308,000.00 EUR


DR Inventory ........................ 6,000.00 EUR



CR P&L Account ...................... 128,500.00 EUR

DR P&L Account ...................... 1,000.00 EUR

CR Interest ......................... 1,000.00 EUR

DR P&L Account ...................... 6,400.00 EUR


DR P&L Account ...................... 6,000.00 EUR

CR Rent ............................. 6,000.00 EUR

DR P&L Account ...................... 24,000.00 EUR

CR Labour ........................... 24,000.00 EUR

DR P&L .............................. 91,100.00 EUR

CR Partners’ Capital ................ 91,100.00 EUR

As the partners agreed on they will share the profit made by the business equally. The partnership agree-

ment states that all profit is distributed to the partners equally and fully. The amount every partner re-

ceives is 91,100 / 3 = 30,366.67 EUR. The partners make 3 drawings at this amount’s value.

DR Drawings ......................... 30,366.67 EUR

CR Cash/Bank ........................ 30,366.67 EUR



Eventually, the Drawings account is closed off to the Partners’ Capital account on 31.12.20X2

DR Partners’ Capital ................ 91,100.00 EUR

CR Drawings ......................... 91,100.00 EUR

D C D C

OV 4,000.00 c/d 38,400.00 OV 38,400.00

(5) 27,000.00 c/d 31,000.00 Draw 91,100.00 b/d 38,400.00

31,000.00 31,000.00 c/d 38,400.00 P&L 91,100.00

b/d 31,000.00 129,500.00 129,500.00

b/d 38,400.00

D C D C

OV 500.00 c/d 500.00 OV 33,900.00 (2) 1,000.00

b/d 500.00 T/A 500.00 (1) 20,000.00 (3) 2,000.00

T/A 6,000.00 c/d 6,000.00 (21) 369,600.00 (5) 32,400.00

6,500.00 6,500.00 (7) 6,000.00

b/d 6,000.00 (8) 20,400.00

(9) 16,800.00

(10) 16,800.00

(11) 16,800.00

(12) 16,800.00

(13) 16,800.00

(14) 16,800.00

(15) 16,800.00

(16) 16,800.00

(17) 16,800.00

(18) 16,800.00

(19) 16,800.00

(20) 16,800.00

(22) 24,000.00

c/d 136,100.00

423,500.00 423,500.00

b/d 136,100.00 Draw 30,366.67

Draw 30,366.67

Draw 30,366.67

c/d 45,000.00

136,100.00 136,100.00

b/d 45,000.00

D C D C

(3) 2,000.00 (1) 20,000.00 (2) 1,000.00 c/d 1,000.00

(4) 2,000.00 b/d 1,000.00 P&L 1,000.00

c/d 16,000.00

20,000.00 20,000.00

b/d 16,000.00



Inventory Cash/Bank

Exhibit 30.10: SNACKY-TICKY shop’s accounts



D C D C

c/d 2,000.00 (4) 2,000.00 (5) 5,400.00 (21) 61,600.00

b/d 2,000.00 (8) 3,400.00

(9) 2,800.00

(10) 2,800.00

(11) 2,800.00

(12) 2,800.00

(13) 2,800.00

(14) 2,800.00

(15) 2,800.00

(16) 2,800.00

(17) 2,800.00

(18) 2,800.00

(19) 2,800.00

(20) 2,800.00

c/d 19,200.00

61,600.00 61,600.00

b/d 19,200.00

D C D C

(6) 6,400.00 c/d 6,400.00 c/d 6,400.00 (6) 6,400.00

b/d 6,400.00 P&L 6,400.00 b/d 6,400.00

D C D C

(7) 6,000.00 c/d 6,000.00 (8) 17,000.00

b/d 6,000.00 P&L 6,000.00 (9) 14,000.00

(10) 14,000.00

(11) 14,000.00

(12) 14,000.00

(13) 14,000.00

(14) 14,000.00

(15) 14,000.00

(16) 14,000.00

(17) 14,000.00

(18) 14,000.00

(19) 14,000.00

(20) 14,000.00 c/d 185,000.00

185,000.00 185,000.00

b/d 185,000.00 T/A 185,000.00

D C D C

c/d 308,000.00 (21) 308,000.00 (22) 24,000.00 c/d 24,000.00

T/A 308,000.00 b/d 308,000.00 b/d 24,000.00 P&L 24,000.00

Rent Purchase

Short-term liabilities VAT


Sales Labour

Exhibit 30.10: SNACKY-TICKY-shop’s accounts (continued)



D C D C

Inv 500.00 Sales 308,000.00 Int 1,000.00 T/A 128,500.00

Purch 185,000.00 Inv 6,000.00 Depr 6,400.00

GP c/d 128,500.00 Rent 6,000.00

314,000.00 314,000.00 Labour 24,000.00

P&L 128,500.00 b/d 128,500.00 NP c/d 91,100.00

128,500.00 128,500.00

Owner 91,100.00 b/d 91,100.00

D C

C/B 30,366.67

C/B 30,366.67

C/B 30,366.67 c/d 91,100.00

91,100.00 91,100.00

b/d 91,100.00 Owner 91,100.00

Drawings



(Note, in exhibit 30.10 the formula for 91,100 / 3 has been entered into the MS Excel sheet instead of the

rounded figure of 30,366.67 EUR. This explains the rounding in the Drawings account and in the

Cash/Bank account.)

Observe the adjusted trial balance for SNACKY-TICKY-shop in exhibit 30.11.



Partners' Capital 38,400.00

Inventory 6,000.00

Cash/Bank 45,000.00


Interest 0.00 0.00

Short-term Liabilities 2,000.00

VAT 19,200.00



Rent 0.00 0.00

Purchase 0.00 0.00

Sales 0.00 0.00

Labour 0.00 0.00

Total: 82,000.00 82,000.00

Snacky-Ticky-shop's


as at 31.12.20X2

Exhibit 30.11: SNACKY-TICKY-shop’s adjusted trial balance



The partners get an amount of 30,366.67 EUR each. They have to pay taxes on their income. In case the

personal income tax rate is 22.5 % the amount to be paid to the taxing authorities by one partner will

amount to 22.5% x 30,366.67 = 6,332.50 EUR.

The following exhibits show the financial statements for the SNACKY-TICKY-shop:

A C, L


P, P, E 24,600.00 Partners' capital 38,400.00

Intangibles

Financial assets



A/R A/P 21,200.00


Cash/Bank 45,000.00

75,600.00 75,600.00

SNACKY-TICKY-shop's


as at 1.01.20X2

Exhibit 30.12: SNACKY-TICKY-shop’s statement of financial position

The amount for the payables results from VAT (19,200.00 EUR) which is still to be paid in the next ac-

counting period and from short-term liabilities (2,000.00 EUR) resulting from the pay-off amount of the

bank loan.

[EUR]

Revenue 308,000.00

Other income

308,000.00

Materials 179,500.00

Labour 24,000.00




Interest 1,000.00


Snacky-Ticky-shop's



Exhibit 30.13: SNACKY-TICKY-shop’s statement of comprehensive income



The amount for materials therein results from the opening amount plus purchases less closing stock as:

500 + 185,000 – 6,000 = 179,500.00 EUR. The amount for other expenses contains only rent.

Stephen SALDANHA and his partners are excited about the way their business works out and the money

they earned during the last accounting period. They think about to enlarge the business and to become a

country wide university snack provider. They get an offer about a snack vending machine which costs

12,800.00 EUR. The vending machine will be able to sell the same amount of snacks as the sales persons

do. The business concept will be selling snacks in all universities of the country and in all faculties thereof.

After visiting the universities they come up with a plan of 56 locations for vending machines. The rent for

one location is 35.00 EUR/month. The business concept requires investments of 56 x 12,800 x 120% =

860,160.00 EUR for the machines. Furthermore, there is a monthly snack purchase of 56 x 2,500 x 120%

= 168,000.00 EUR for the first time’s filling up of the vending machines. The total of the funds requested

amounts to 860,160 + 168,000 = 1,028,160.00 EUR. The partnership SNACKY-TICKY-shop cannot

provide an amount that high. The partners plan to start a company which is based on shares. For that

reason they plan to issue 100,000 shares at 10.00 EUR each. They liquidate the partnership. Every partner

has an amount of 12,800.00 EUR thereafter.

(Note, liquidations are subject to the next chapter.)

Every partner gets 3,840 / 3 = 1,280 shares of the new company. All of them use their private assets re-

sulting from the 20X2-year’s profit to buy further shares. Every previous partner wants to buy 2,350 fur-

ther shares. This is the amount of shares they can buy after deducting their personal income taxes (here:

22.5 %) from the drawings made. The amount is calculated as follows: 91,100 / (3 x 10) x (1 – 22.5%) =

2,353.42 shares. It is rounded off to 2,350 shares. The total amount of (1,280 + 2,350) x 3 = 10,890

shares gives the partners a fairly higher than 10 % portion of the new business’ voting rights. The previ-

ous partners loose control over their business to the new shareholders by the share issue.

Companies can be owned by the state or being privately owned. Privately owned companies are private

companies ((Pty) Ltd.), public companies (Ltd.), and personal liability companies (Inc.). A private compa-

ny has restrictions on how to attract new shareholders and on how to sell shares. Shares can be issued

through an intermediary (in particular through a bank). Furthermore, there is a restricted transferability of

shares for privately owned companies. This means the memorandum of incorporation can state that

shares only can be sold if the sale is approved by the other shareholders and/or have to be offered to the

remaining shareholders at first. However, public companies can raise capital from the general public and

the shares are freely transferable. A privately owned company gives the founders more control but it is

more difficult for the shareholders to sell the shares once the company underperforms for example.

Shares of a public company are more popular therefore and are traded higher.

The legal form for the snack shop is a public company and goes with the name SNACKY-TICKY Ltd.

The name requires being reserved what is done for SNACKY-TICKY Ltd.

The memorandum of incorporation is a document that sets out the rights and duties of the shareholders

and directors. It is to be signed by the founders of the company. The company must be registered. By the

date of incorporation the company is regarded as a legal entity. The expression limited indicates that the

shareholder’s liability is limited to the equity in total and that every shareholder is liable with his/her share



of the equity. In other words the highest loss that can occur to a shareholder is to loose his/her share.

He/she is not liable for any losses exceeding the amount of equity.

(Note, this is the reason why along § 268 III HGB a loss that exceeds equity is to be recognized as “nicht

durch Eigenkapital gedeckter Fehlbetrag” underneath the asset side of the balance sheet. The expression

underneath is in use to indicate that in no case this loss is to be regarded as an asset.)

In the memorandum of incorporation it is ruled what the purpose of the company is, aspects of dissolving

the company, the way how to choose the board of directors, the annual meetings, the power of directors,

the shareholders’ rights, the authorization of shares, etc.

(Note, the memorandum of incorporation is subject to national law.)

After preparing the share issue for SNACKY-TICKY Ltd. the shares are offered to the public through a

bank. The shares will be applied by the subscribers by paying the money into the bank account. After the

company receives the applications the shares will be allotted to the applicants.

When SNACKY-TICKY Ltd. is founded 100,000 shares are applied for. The money is received and the

first bookkeeping entry is made on 1.01.20X3:

(1) Cash received on receipt of applicants or shares on 1.01.20X3

DR Cash/Bank ........................ 1,000,000.00 EUR

CR Application and Allotment ........ 1,000,000.00 EUR

In case of SNACKY-TICKY Ltd. there is no under- and no over-subscription of shares and the share

issue is par value. Under-subscription of shares happens when less shares are applied for than of-

fered to the public. Over-subscription is a share issue with more applicants than share offers. In

that case of over-subscription the money paid in by applicants who did not receive shares has to be re-

funded. A par value share issue is a share issue at the nominal amount of the shares. Share issues at

an issue price exceeding the nominal value require putting the difference between the issue price and the

shares’ nominal value to a Share Premium account which is to be closed off to the Capital Reserves ac-

count along AktG.

As all applicants become subscribers the Application and Allotment account can be closed off.

(2) Share allotted to subscribers and closed off to Share Capital account on 1.01.20X3

DR Application and Allotment ........ 1,000,000.00 EUR

CR Share Capital .................... 1,000,000.00 EUR

(Note, it is often accounting slang to name the Share Capital account SCap.)

D C D C

(1) 1,000,000.00 (2) 1,000,000.00 (1) 1,000,000.00

D C

(2) 1,000,000.00

Cash/Bank Application and allotment

Share capital

Exhibit 30.14: SNACKY-TICKY Ltd.‘s accounts



At the time of incorporation the opening statement of financial position looks as displayed by exhibit

30.15.

A C, L


P, P, E Share capital 1,000,000.00





A/R A/P


Cash/Bank 1,000,000.00 Tax liabilities

1,000,000.00 1,000,000.00

Snacky-Ticky Ltd.'s


as at 1.01.20X3

Exhibit 30.15: SNACKY-TICKY Ltd.’s statement of financial position

The board of directors is elected and the new CEO is Stephen Saldanha. The company SNACKY-TICKY

Ltd. is registered for VAT reduction. On the first board meeting the decision is made to acquire the vend-

ing machines and to place them at 56 university locations.

The acquisition of vending machines is made on 10.01.20X3 at a gross purchase price of 56 x 12,800 x

120% = 860,160.00 EUR. The price includes the placement of the vending machines by the seller.

(3) Acquisition of vending machines on 10.01.20X3

DR Property, Plant and Equipment .... 716,800.00 EUR

DR VAT .............................. 143,360.00 EUR

CR Cash/Bank ........................ 860,160.00 EUR

The company takes a bank loan which is to be paid off at the end of the year. The amount is 50,000.00

EUR. The rate of interest is 6 %. As the bank loan is to be paid back within an accounting period the loan

is classified as a short-term one.

(4) Taking a bank loan on 11.01.20X3 at an amount of 50,000.00 EUR

DR Cash/Bank ........................ 50,000.00 EUR

CR Short-term Liabilities ........... 50,000.00 EUR

(5) Payment of interest on 31.12.20X3

DR Interest ......................... 3,000.00 EUR

CR Cash/Bank ........................ 3,000.00 EUR



(6) On 31.12.20X3 the company pays itself out of debts.

DR Short-term Liabilities ........... 50,000.00 EUR

CR Cash/Bank ........................ 50,000.00 EUR

SNACKY-TICKY Ltd. negotiates with the snack supplier that he delivers the snacks directly to the vend-

ing machines and fills them up. The purchase price is the same as the partnership paid. SNACKY-TICKY

Ltd. orders January’s snacks at a purchase price 56 x 2,500 = 140,000.00 EUR.

(7) Purchase of snacks on 12.01.20X3

DR Purchase ......................... 140,000.00 EUR

DR VAT .............................. 28,000.00 EUR

CR Cash/Bank ........................ 168,000.00 EUR

For the other months SNACKY-TICKY Ltd. orders a lower amount of 2,000.00 EUR/m and machine.

The purchase price is 56 x 2,000 = 112,000.00 EUR/month.

(8 …18) Purchase of snacks on 1.02.20X3 … 1.12.20X3

DR Purchase ......................... 112,000.00 EUR

DR VAT .............................. 22,400.00 EUR

CR Cash/Bank ........................ 134,400.00 EUR

The amount of rent is paid in the middle of the year. According to the offer the rent is 35.00 EUR per

month and location. The total amount of rent is 56 x 35 x 12 = 23,520.00 EUR. Universities are not VAT

registered. According to that fact rent is free of VAT.

(19) Payment of on 30.06.20X3

DR Rent ............................. 23,520.00 EUR

CR Cash/Bank ........................ 23,520.00 EUR

The sale of snacks is at a gross selling price which is 180 % of the net purchase price. SNACKY TICKY

Ltd. sells in every month 2,000 x 180% = 3,600.00 EUR. During the first month SNACKY-TICKY only

sold 80 % of the snacks purchased.

(Note, the purchase amount is higher in January therefore.)

The level of stock remains constant after January 20X3. The total of sales is posted on 1.07.20X3 in order

to keep the case study simple and amounts to 3,600 x 12 x 56 = 2,419,200.00 EUR.

(20) Sales of snacks at a net selling price of 2,419,200 / 120% = 2,016,000.00 EUR on 31.12.20X3

DR Cash/Bank ........................ 2,419,200.00 EUR

CR VAT .............................. 403,200.00 EUR

CR Sales ............................ 2,016,000.00 EUR



SNACKY-TICKY Ltd.’s writes off the vending machines along straight line method over a useful life to

be 5 years. Annual depreciation is 56 x 12,800 / 5 = 143,360.00 EUR. No residual value is to be consid-

ered for the vending machines.

(21) Depreciation on vending machines on 31.12.20X3



The bookkeeper balances off all accounts and prepares the trial balance. Observe in the following exhibits

the accounts of SNACKY-TICKY Ltd. and its trial balance.

D C D C

(1) 1,000,000.00 (3) 860,160.00 (2) 1,000,000.00 (1) 1,000,000.00

(4) 50,000.00 (5) 3,000.00

(20) 2,419,200.00 (6) 50,000.00

(7) 168,000.00

(8) 134,400.00

(9) 134,400.00

(10) 134,400.00

(11) 134,400.00

(12) 134,400.00

(13) 134,400.00

(14) 134,400.00

(15) 134,400.00

(16) 134,400.00

(17) 134,400.00

(18) 134,400.00

(19) 23,520.00

c/d 886,120.00

3,469,200.00 3,469,200.00

b/d 886,120.00

D C D C

c/d 1,000,000.00 (2) 1,000,000.00 (3) 716,800.00 c/d 716,800.00

b/d 1,000,000.00 b/d 716,800.00


Share capital P, P, E

Exhibit 30.16: SNACKY-TICKY Ltd.’s accounts



D C D C

(3) 143,360.00 (20) 403,200.00 (7) 140,000.00

(7) 28,000.00 (8) 112,000.00

(8) 22,400.00 (9) 112,000.00

(9) 22,400.00 (10) 112,000.00

(10) 22,400.00 (11) 112,000.00

(11) 22,400.00 (12) 112,000.00

(12) 22,400.00 (13) 112,000.00

(13) 22,400.00 (14) 112,000.00

(14) 22,400.00 (15) 112,000.00

(15) 22,400.00 (16) 112,000.00

(16) 22,400.00 (17) 112,000.00

(17) 22,400.00 (18) 112,000.00 c/d 1,372,000.00

(18) 22,400.00 c/d 14,560.00 1,372,000.00 1,372,000.00

417,760.00 417,760.00 b/d 1,372,000.00

b/d 14,560.00

D C D C

(6) 50,000.00 (4) 50,000.00 (5) 3,000.00 c/d 3,000.00

b/d 3,000.00

D C D C

(19) 23,520.00 c/d 23,520.00 c/d 2,016,000.00 (20) 2,016,000.00

b/d 23,520.00 b/d 2,016,000.00

D C D C

(21) 143,360.00 c/d 143,360.00 c/d 143,360.00 (21) 143,360.00

b/d 143,360.00 b/d 143,360.00

Rent Sales


VAT Purchase

Short-term liabilities Interest

Exhibit 30.16: SNACKY-TICKY Ltd.’s accounts (continued)





Applicants and Allotment 0.00 0.00

Share Capital 1,000,000.00


VAT 14,560.00

Purchase 1,372,000.00

Short-term Liabilities 0.00 0.00

Interest 3,000.00

Rent 23,520.00

Sales 2,016,000.00



Total: 3,159,360.00 3,159,360.00

Snacky-Ticky Ltd.'s

TRIAL BALANCE

as at 31.12.20X3

Exhibit 30.17: SNACKY-TICKY Ltd.’s trial balance

(Note, already closed off accounts are crossed out in exhibit 30.17.)

The bookkeeper makes the following adjustments at the end of the accounting period 20X3:

The calculation of profit is based on a periodic inventory system. The stock count reveals a closing stock

of 56 x 500 = 28,000.00 EUR. The amount is transferred to the Trading account.

DR Inventory ........................ 28,000.00 EUR


The calculation of the gross profit is made via the Trading account:

DR Trading Account .................. 1,372,000.00 EUR

CR Purchase ......................... 1,372,000.00 EUR

DR Sales ............................ 2,016,000.00 EUR

CR Trading Account .................. 2,016,000.00 EUR

The gross profit earned in 20X3 by SNACKY-TICKY Ltd. amounts to 672,000.00 EUR. The Trading

account is closed off to the Profit and Loss account.


CR P&L Account ...................... 672,000.00 EUR

Calculating the profit interest, rent, and depreciation are considered.

DR P&L Account ...................... 3,000.00 EUR

CR Interest ......................... 3,000.00 EUR



DR P&L Account ...................... 23,520.00 EUR

CR Rent ............................. 23,520.00 EUR

DR P&L Account ...................... 143,360.00 EUR


The pre-tax profit is 502,120.00 EUR. As SNACKY-TICKY Ltd. is a legal entity the company has to pay

taxes. The total income tax rate in this ebook Accounting-Intro is assumed to be 30 %. According to this

rate the tax liabilities amount to 502,120 x 30% = 150,636.00 EUR. The remaining amount is 502,120 –

150,636 = 351,484.00 EUR and is transferred to the Retained Earnings account.

DR P&L Account ...................... 150,636.00 EUR

CR Tax Liabilities .................. 150,636.00 EUR

DR P&L Account ...................... 351,484.00 EUR

CR R/E .............................. 351,484.00 EUR

On the annual meeting SNACKY-TICKY Ltd.’s shareholders agreed on a dividend to be 0.50

EUR/share. The total amount of 0.50 x 100,000 = 50,000.00 EUR is transferred to the Shareholder for

Dividend account.

DR R/E .............................. 50,000.00 EUR

CR Shareholder for Dividend ......... 50,000.00 EUR

Along a further agreement the amount of 200,000.00 EUR is transferred to the Earnings Reserves ac-

count.

DR R/E .............................. 200,000.00 EUR

CR Earnings Reserves ................ 200,000.00 EUR

The remaining amount is carried forward to the next accounting period. It is 351,484 – 50,000 – 200,000

= 101,484.00 EUR.

Observe SNACKY-TICKY Ltd.’s accounts as displayed in exhibit 30.18.



D C D C

(1) 1,000,000.00 (3) 860,160.00 (2) 1,000,000.00 (1) 1,000,000.00

(4) 50,000.00 (5) 3,000.00

(20) 2,419,200.00 (6) 50,000.00

(7) 168,000.00

(8) 134,400.00

(9) 134,400.00

(10) 134,400.00

(11) 134,400.00

(12) 134,400.00

(13) 134,400.00

(14) 134,400.00

(15) 134,400.00

(16) 134,400.00

(17) 134,400.00

(18) 134,400.00

(19) 23,520.00

c/d 886,120.00

3,469,200.00 3,469,200.00

b/d 886,120.00

D C D C

c/d 1,000,000.00 (2) 1,000,000.00 (3) 716,800.00 c/d 716,800.00

b/d 1,000,000.00 b/d 716,800.00

D C D C

(3) 143,360.00 (20) 403,200.00 (7) 140,000.00

(7) 28,000.00 (8) 112,000.00

(8) 22,400.00 (9) 112,000.00

(9) 22,400.00 (10) 112,000.00

(10) 22,400.00 (11) 112,000.00

(11) 22,400.00 (12) 112,000.00

(12) 22,400.00 (13) 112,000.00

(13) 22,400.00 (14) 112,000.00

(14) 22,400.00 (15) 112,000.00

(15) 22,400.00 (16) 112,000.00

(16) 22,400.00 (17) 112,000.00

(17) 22,400.00 (18) 112,000.00 c/d 1,372,000.00

(18) 22,400.00 c/d 14,560.00 1,372,000.00 1,372,000.00

417,760.00 417,760.00 b/d 1,372,000.00 T/A 1,372,000.00

b/d 14,560.00

D C D C

(6) 50,000.00 (4) 50,000.00 (5) 3,000.00 c/d 3,000.00

b/d 3,000.00 P&L 3,000.00


VAT Purchase

Short-term liabilities Interest

Share capital P, P, E

Exhibit 30.18: SNACKY-TICKY Ltd.’s accounts



D C D C

(19) 23,520.00 c/d 23,520.00 c/d 2,016,000.00 (20) 2,016,000.00

b/d 23,520.00 P&L 23,520.00 T/A 2,016,000.00 b/d 2,016,000.00

D C D C

(21) 143,360.00 c/d 143,360.00 c/d 143,360.00 (21) 143,360.00

b/d 143,360.00 P&L 143,360.00 b/d 143,360.00

D C D C

Purch 1,372,000.00 Inv 28,000.00 T/A 28,000.00 c/d 28,000.00

GP c/d 672,000.00 Sales 2,016,000.00 b/d 28,000.00

2,044,000.00 2,044,000.00

P&L 672,000.00 b/d 672,000.00

D C D C

Int 3,000.00 T/A 672,000.00 c/d 150,636.00 P&L 150,636.00

Rent 23,520.00 b/d 150,636.00

Depr 143,360.00

NP c/d 502,120.00

672,000.00 672,000.00

Tax 150,636.00 b/d 502,120.00

R/E 351,484.00

502,120.00 502,120.00

D C D C

SH4D 50,000.00 P&L 351,484.00 c/d 50,000.00 P&L 50,000.00

ERes 200,000.00 b/d 50,000.00

c/d 101,484.00

351,484.00 351,484.00

b/d 101,484.00

D C

c/d 200,000.00 P&L 200,000.00

b/d 200,000.00


Rent Sales

Earnings reserves

Trading account Inventory

P&L Tax liabilities

R/E Shareholder for dividend (A/P)

Exhibit 30.18: SNACKY-TICKY Ltd.’s accounts (continued)

The adjusted trial balance after appropriation of profit is to be seen in exhibit 30.19.





Applicants and Allotment 0.00 0.00

Share Capital 1,000,000.00


VAT 14,560.00

Purchase 0.00

Short-term Liabilities 0.00 0.00

Interest 0.00

Rent 0.00 0.00

Sales 0.00 0.00



Inventory 28,000.00


Tax Liabilities 150,636.00

Earnings Reserves 200,000.00

Shareholder for Dividend (A/P) 50,000.00

Total: 1,645,480.00 1,645,480.00

Snacky-Ticky Ltd.'s

TRIAL BALANCE

as at 31.12.20X3

Exhibit 30.19: SNACKY-TICKY Ltd.’s adjusted trial balance

As SNACKY-TICKY Ltd. is a public company it has to provide a full set of financial statements along

IAS 1 which contains a statement of financial position, a statement of comprehensive income, a statement

of cash flows, and a statement of changes in equity. See the exhibits 30.20 to 30.23 for the financial state-

ments.

(Note, no notes are considered for this case study. For notes read the text book Bilanzen - in particular

chapter 6.)



A C, L


P, P, E 573,440.00 Share capital 1,000,000.00




Inventory 28,000.00 Interest bear liab 0.00

A/R 14,560.00 A/P 50,000.00



1,502,120.00 1,502,120.00

Snacky-Ticky Ltd.'s


as at 31.12.20X3

Exhibit 30.20: SNACKY-TICKY Ltd.’s statement of financial position

The amount for property, plant, and equipment is 716,800 – 143,360 = 573,440.00 EUR. The amount for

accounts receivable is the claim for input VAT.

(Note, in contrast to the previous statements of financial position this one now contains the items re-

serves and retained earnings.)



[EUR]

Revenue 2,016,000.00

Other income

2,016,000.00

Materials 1,344,000.00

Labour




Interest 3,000.00



Deferred taxes



to other earnings reserves 200,000.00



SNACKY-TICKY Ltd.'s



Exhibit 30.21: SNACKY-TICKY Ltd.’s statement of comprehensive income



Cash flow from operating acitivities

Materials bought (1,646,400.00)

Sales 2,419,200.00

Rent (23,520.00)

749,280.00

Cash flow from investing activities

Investments (860,160.00)

(860,160.00)

Cash flow from financing activities

Share issue 1,000,000.00

Bank loan received 50,000.00

Interest (3,000.00)

Pay-off (50,000.00)

997,000.00

886,120.00

Snacky-Ticky Ltd.'s

STATEMENT of CASH FLOWS

for the period ended 31.12.20X3

Exhibit 30.22: SNACKY-TICKY Ltd.’s statement of cash flows

Share capital Reserves R/E total

as at 1.01.20X3 1,000,000.00 0.00 0.00 1,000,000.00

Profit 20X3 351,484.00 351,484.00

Dividend 20X3 (50,000.00) (50,000.00)

Reserves 200,000.00 (200,000.00) 0.00

as at 31.12.20X3 1,000,000.00 200,000.00 101,484.00 1,301,484.00

Snacky-Ticky Ltd.'s

STATEMENT of CHANGES in EQUITY

as at 31.12.20X3

Exhibit 30.23: SNACKY-TICKY Ltd.’s statement of changes in equity

In case the shareholder Stephen Saldanha wants to determine his fortune he calculates as follows: He

owns 10,890 x ((1,301,484 / 100,000) + 0.50) = 141,731.61 EUR. The earnings per share are 351,484 /

100,000 = 3.51 EUR/share. Earnings per share is a ratio defined by IAS 33. It is the amount of the

earnings distributable to the shareholders divided by the average amount of shares outstanding. It

indicates how much a 100 % dividend declaration would be. The earnings per share are used as the de-

nominator in the price-earnings-ratio.



Summary:

For business different legal forms are possible. We observed a similar business performed as a sole trader,

a partnership and a public company. The public company is a legal entity and has to pay taxes. There is a

request of preparing a full set of financial statements for a public company.


4.3 Gewinnermittlungs-statement: A 4.3 Gewinnermittlung is a statement along the German income

tax law that requires determining profit by comparison of payments that go into the business and cash

outflows. It refers to § 4 III EStG.

Par value share issue: A par value share issue is a share issue at the nominal amount of the shares.

Under- and over subscription: Under-subscription of shares happens when less shares are applied for

than offered. Over-subscription is a share issue with more applicants than share offers.

Earnings per share EPS: Earnings per share is the amount of the earnings distributable to the share-

holders divided by the average amount of shares outstanding.



(31) Liquidations


We introduce some aspects of dissolving a business here. We intend to provide an idea what a liquidation

of a business means and present some basic activities of how to do that. In particular we are going to in-

troduce the Liquidity account as a means for liquidations.

Liquidations will be required to be made if the business activities are not continued any more. This doesn’t

mean the business is filing for bankruptcy, it also can happen that for instance a partnership is dissolved

because one of the partners intends to withdraw his/her contributed funds and follows another business

opportunity, maybe invests his/her money in another business for instance.

The liquidation of a business means that all assets are sold. They are converted into cash. As cash is re-

garded to be easily exchanged we say that cash is liquid. Turning assets to cash means the assets are con-

verted to a more liquid form. On the other side of the balance sheet all liabilities are paid off to the credi-

tors. The remaining amount of funds after settling all liabilities is paid to the owners of the business. By

this the company ceases to exist.

We are going through an easy example to get across the idea of the liquidation process. MOSSEL

SPORTS is a fitness centre. The company is privately owned by Marco Mossel. He prepared the statement

of financial position as below:

A C, L



Intangibles R/E 35,000.00

Financial assets


Inventory Interest bear liab 15,000.00

A/R 10,000.00 A/P 50,000.00


Cash/Bank 90,000.00

220,000.00 220,000.00

MOSSEL SPORTS'


as at 1.01.20X5

Exhibit 31.1: MOSSEL SPORTS’ statement of financial position

(Note, the company is not obliged to prepare financial statements by law. The owner did that to provide

an overview for himself in particular.)

(Note, the company doesn’t recognize tax liabilities as it is privately owned. The taxes are based on the

owner’s income and have to be paid by the owner. The tax payment obligation depends on the income

earned by the business. So, the owner owes the money but not the company.)

In the MOSSEL SPORTS case study the amount in the Property, Plant, and Equipment account results

from treadmill equipment that was bought in 20X1 and written off by an amount of 20,000 every year.



The carrying amount is 200,000 – 20,000 – 20,000 – 20,000 – 20,000 = 120,000.00 EUR. The balancing

figure in the Property, Plant, and Equipment account is 200,000.00 EUR and the balance of the Accumu-

lated Depreciation account is 80,000.00 EUR. The amount in the Accounts Receivables account results

from claims against those customers who still have to pay their annual exercising fees for 20X5. MOSSEL

SPORTS’ equity contains the owner’s contribution at the time of incorporation plus reinvested earnings.

The amount in the Retained Earnings account is the last year’s profit.

The exhibit 31.2 displays the accounts for MOSSEL SPORTS.

D C D C

OV 200,000.00 OV 80,000.00

D C D C

OV 10,000.00 OV 90,000.00

D C D C

OV 120,000.00 OV 35,000.00

D C D C

OV 15,000.00 OV 50,000.00

PPE Acc Depr

Owner's capital Retaines earnings


Accounts receivables Cash/Bank

Exhibit 31.2: MOSSEL SPORTS’ accounts

The liquidation bookkeeping entries are described below:

The owner of MOSSEL SPORTS decides to give up his fitness centre, to grab his money, and to start a

scuba diving school on Mauritius.

For the liquidation of MOSSEL SPORTS a Liquidation account is used. This Liquidation account is a

temporary account that is used to record all liquidation activities. Later all accounts of MOSSEL

SPORTS will be closed off to the Liquidation account and the company won’t exist any longer.

MOSSEL SPORTS sells the treadmills with a carrying amount 120,000.00 EUR for 105,000.00 EUR. The

payables are settled fully. Also the bank loan is paid off completely. The still outstanding exercising fees

are claimed from the customers and are paid to an extent of 80 % only by them. For MOSSEL SPORTS

there is no use in going after the other outstanding fees because the effort is too high for the uncertain

outcome. They just write them off as bad debts. Bad debts are receivables that a business is probably

not able to collect.

At the time of liquidation on 3.01.20X5 the owner makes the bookkeeping entries as below:

(1a, 1b) Disposal of treadmills on 3.01.20X5 at 105,000.00 EUR

DR Accumulated Depreciation ......... 80,000.00 EUR

DR Liquidation ...................... 120,000.00 EUR




DR Cash/Bank ........................ 105,000.00 EUR

DR Loss on Disposal ................. 15,000.00 EUR

CR Liquidation ...................... 120,000.00 EUR

(2a, 2b) Dissolving the Accounts Receivables account on 3.01.20X5 and receiving money by customers.

You can see that the amount paid by the customers doesn’t cover all receivables yet. This results in a loss

on settlement.

DR Liquidation ...................... 10,000.00 EUR


DR Cash/Bank ........................ 8,000.00 EUR

DR Loss on Settlement ............... 2,000.00 EUR

CR Liquidation ...................... 10,000.00 EUR

(3) Settlement of the bank loan liabilities on 3.01.20X5


CR Cash/Bank ........................ 15,000.00 EUR

(4) Settlement of outstanding payables in full on 3.01.20X5


CR Cash/Bank ........................ 50,000.00 EUR

In order to analyse the situation we take a closer look at the accounts after the bookkeeping entries are

made in exhibit 31.3:

D C D C

OV 200,000.00 (1a) 200,000.00 (1a) 80,000.00 OV 80,000.00

D C D C

OV 10,000.00 (2a) 10,000.00 OV 90,000.00 (3) 15,000.00

(1b) 105,000.00 (4) 50,000.00

(2b) 8,000.00 c/d 138,000.00

203,000.00 203,000.00

b/d 138,000.00


PPE Acc Depr

Exhibit 31.2: MOSSEL SPORT’s accounts



D C D C

OV 120,000.00 OV 35,000.00

D C D C

(3) 15,000.00 OV 15,000.00 (4) 50,000.00 OV 50,000.00

D C D C

(1a) 120,000.00 (1b) 120,000.00 (1b) 15,000.00

(2a) 10,000.00 (2b) 10,000.00

130,000.00 130,000.00

D C

(2b) 2,000.00

Loss on settlement

Owner's capital Retained earnings


Liquidation Loss on sale

Exhibit 31.3: MOSSEL SPORTS’ accounts (continued)

At this stage of the process the amount in the Cash/Bank account is 138,000.00 EUR. This is the amount

which is distributable to the owner and that is the total of capital.

The total of MOSSEL SPORTS capital is the total of the Owner’s Capital account plus Retained Earnings

account less Loss on Disposal account and less Loss on Settlement account: 120,000 + 35,000 – 15,000 –

2,000 = 138,000.00 EUR.

(5) The final bookkeeping entry for liquidation is made on 3.01.20X5

DR Owner’s Capital .................. 120,000.00 EUR


CR Loss on Disposal ................. 15,000.00 EUR

CR Loss on Settlement ............... 2,000.00 EUR

CR Cash/Bank ........................ 138,000.00 EUR

The credit entry in the Cash/Bank account means that the owner is paid 138,000.00 EUR. The amount is

lower than the equity amounts at the beginning of the accounting period. The reason is that MOSSEL

SPORTS made losses by disposal of the treadmills and by the disposal of settlement of receivables.

Observe that all accounts have been balanced and closed off.



D C D C

OV 200,000.00 (1a) 200,000.00 (1a) 80,000.00 OV 80,000.00

D C D C

OV 10,000.00 (2a) 10,000.00 OV 90,000.00 (3) 15,000.00

(1b) 105,000.00 (4) 50,000.00

(2b) 8,000.00 c/d 138,000.00

203,000.00 203,000.00

b/d 138,000.00 (5) 138,000.00

D C D C

(5) 120,000.00 OV 120,000.00 (5) 35,000.00 OV 35,000.00

D C D C

(3) 15,000.00 OV 15,000.00 (4) 50,000.00 OV 50,000.00

D C D C

(1a) 120,000.00 (1b) 120,000.00 (1b) 15,000.00 (5) 15,000.00

(2a) 10,000.00 (2b) 10,000.00

130,000.00 130,000.00

D C

(2b) 2,000.00 (5) 2,000.00

Loss on settlement

Owner's capital Retained earnings



Liquidation Loss on sale

PPE Acc Depr

Exhibit 31.4: MOSSEL SPORTS’ accounts

By this MOSSEL SPORTS cease to exist.

Liquidations of partnerships and of public companies work similar. In contrast to MOSSEL SPORTS the

liquidation pays an agreed amount to the proprietors/shareholders with regard to the agreement by the

memorandum of corporation.

Summary:

The liquidation is the process of dissolving a business. All assets are sold and converted into cash or cash

equivalents. All debts are paid off. The remaining amount is the value of the business and is paid to the

owners. Profit and losses on liquidation will increase or decrease the owners’ capital and the amount paid

to them.


Bad Debts: Bad debts are receivables that a business is probably not able to collect.



Liquidation Account: The Liquidation account is a temporary account that is used to record all liquida-

tion activities.



(32) Disposals


Disposals of assets occur when an asset is no longer in use and gets sold or is way given away by any other

way. Disposals also occur if an asset is totally destroyed. We are going to explain the Realization account

as a means to make bookkeeping entries for disposals. Posting disposals is similar to liquidate the busi-

ness.

Along IFRSs an asset is an item that causes future economic benefits flowing to the business that owns it.

Only if there is a benefit the asset should be recognized. This means an asset that provides no benefit

anymore has to be taken out of the bookkeeping records. No future economic benefit means the asset

cannot be sold or used in any way.

The bookkeeping entries for the disposal could be made by one bookkeeping entry only. It is easier to use

a Realization account. A realization account is a temporary account that is used to record all activi-

ties which are linked to the disposal of the asset. The Realization account is for all entries to be re-

garded as the contra account. We explain the use of the Realization account by a small case study.

WADRIF Ltd. has 4 business cars in use at the beginning of the accounting period 20X3 (1.01.20X3). The

cars are written off along straight line method over a useful life of 5 years. There is no residual value ex-

pected after the useful life is over. The car “OS-W 100” is bought on 1.01.20X0, “OS-W 200” and “OS-W

300” are bought on 2.10.20X1, “OS-W 400” is bought on 1.01.20X2, and “OS-W 500” is bought on

1.07.20X2.

The register of non-current assets is displayed by exhibit 32.1:

Asset

Cost of


Acc. impairm.


Car "OS-W 100" 35,000.00 (21,000.00) 0.00 14,000.00

Car "OS-W 200" 40,000.00 (10,000.00) 0.00 30,000.00

Car "OS-W 300" 40,000.00 (10,000.00) 0.00 30,000.00

Car "OS-W 400" 35,000.00 (7,000.00) 0.00 28,000.00

Car "OS-W 500" 60,000.00 (6,000.00) 0.00 54,000.00

156,000.00

Wardrif Ltd.'s


as at 1.01.20X3

Exhibit 32.1: WARDRIF Ltd.’s register of non-current assets

Observe the accounts as at 1.01.20X3 in exhibit 32.2.



D C D C

b/d 35,000.00 b/d 21,000.00

D C D C

b/d 40,000.00 b/d 10,000.00

D C D C

b/d 40,000.00 b/d 10,000.00

D C D C

b/d 35,000.00 b/d 7,000.00

D C D C

b/d 60,000.00 b/d 6,000.00

P, P, E - car "OS-W 100" Acc depr "OS-W 100"





Exhibit 32.2: WARDRIF Ltd.’s accounts

In order to show some profit for the company it is assumed that WARDRIF Ltd. earns a revenue of

200,000.00 EUR and has other expenses to be 50,000.00 EUR. There are no other accounts considered by

now. The revenue and the other expenses are paid through WARDRIF Ltd.’s bank account.

(1) Posting revenue on 31.12.20X3

DR Cash/Bank ........................ 240,000.00 EUR

CR VAT .............................. 40,000.00 EUR

CR Revenue .......................... 200,000.00 EUR

(2) Posting other expenses on 31.12.20X3


DR VAT .............................. 10,000.00 EUR

CR Cash/Bank ........................ 60,000.00 EUR

On 25.06.20X3 WARDRIF Ltd. sells the cars “OS-W 200” and “OS-W 300” to a dealership. The dealer

values the vehicles and finds that they are in different working and body conditions. He pays for “OS-W

200” 31,050.00 EUR and for “OS-W 300” 31,890.00 EUR. The amounts are gross amounts as

WARDRIF Ltd. and the dealer are both registered for VAT reduction. In order to post the sales

WARDRIF Ltd.’s accountant makes use of a Realization account for each sale.

As we can see at this stage already the car “OS-W 200” is sold for an amount below its carrying amount

whereas “OS-W 300” is sold above its carrying amount. Accordingly, there will be a loss on disposal and a

profit on disposal for the other car. The carrying amount of both cars (each) is cost of acquisition less

accumulated depreciation until the date of sale. Both cars were sold after being 21 months in use. The



carrying amount is 40,000 – 21 x (40,000 / (5 x 12)) = 26,000.00 EUR. The net selling prices are 31,050 /

120% = 25,875.00 EUR and 31,890 / 120% = 26,575.00 EUR.

By using a Realization account all bookkeeping entries are made by using the realization account as the

contra account. We observe the sale of the car “OS-W 200”.

(3) Receiving money on 25.06.20X3

DR Cash/Bank ........................ 31,050.00 EUR

CR Realization ...................... 31,050.00 EUR

(4) Posting VAT for the money obtained by selling the car to the dealership on 25.06.20X3. The amount

is 25,875 x 20% = 5,175.00 EUR.

DR Realization ...................... 5,175.00 EUR

CR VAT .............................. 5,175.00 EUR

The sold car “OS-W 200” is to be taken out of the bookkeeping records. Accordingly, there is an entry

required in the Property, Plant, and Equipment account and in the Accumulated Depreciation account.

The amounts represent the carrying amount. The carrying amount is the cost of acquisition less any accu-

mulated depreciation. The cost of acquisition is 40,000.00 EUR. The calculation of the amount of accu-

mulated depreciation requires making an entry for depreciation at first. The car was in use for 6 months

during 20X3. Depreciation is 6 x (40,000 / (5 x 60)) = 4,000.00 EUR.

(5) Depreciation on “OS-W 200” on 25.06.20X3



(Note, WARDRIF Ltd. runs an asset management. This means the account Accumulated Depreciation is

linked to the assets directly. However, the Depreciation account is in use for all assets together.)

After making the bookkeeping entry for depreciation the taking out of the financial records can be done.

(6) Deleting the car from the Property, Plant, and Equipment account means to close the account off to

the Realization account. This posting is done on 25.06.20X3.


CR P, P, E – “OS-W 200” ............. 40,000.00 EUR

(7) Closing off Accumulated Depreciation „OS-W 200“ to the Realization account on 25.06.20X3



We see that the Realization account is debit balanced. This means WARDRIF Ltd. made a loss on dispos-

al. In exhibit 32.3 the abbreviation LoD is in use. The c/d indicates that the amount has been calculated

by balancing off the account.

The Realization account for the car “OS-W 200” is closed off to the Profit and Loss account.



DR Realization “OS-W 200” ........... 125.00 EUR

CR P&L Account ...................... 125.00 EUR

The sale of the second car is similar. In contrast WARDRIF Ltd. made a profit on disposal.

(8) Receiving money on 25.06.20X3

DR Cash/Bank ........................ 31,890.00 EUR


(9) Posting VAT for the money obtained by selling the car to the dealership on 25.06.20X3. The amount

is 26,575 x 20% = 5,315.00 EUR.


CR VAT .............................. 5,315.00 EUR

The sold car “OS-W 300” is taken out of the bookkeeping records. Its depreciation is 6 x (40,000 / (5 x

60)) = 4,000.00 EUR.

(10) Depreciation on “OS-W 300” on 25.06.20X3



After making the bookkeeping entry for depreciation the taking out of the financial records takes place.

(11) The Property, Plant, and Equipment account for the car is closed off to the Realization account. This

posting is done on 25.06.20X3.


CR P, P, E – “OS-W 300” ............. 40,000.00 EUR

(12) Closing off Accumulated Depreciation „OS-W 300“ to the Realization account on 25.06.20X3



We see that the Realization account is credit balanced. This means WARDRIF Ltd. made a profit on dis-

posal. In exhibit 32.3 the abbreviation PoD is in use.

The Realization account for the car “OS-W 300” is closed off to the Profit and Loss account.

DR P&L Account ...................... 575.00 EUR

CR Realization ...................... 575.00 EUR

WARDRIF Ltd. has a collision with the expensive car OS-W 500 on 4.10.20X3. The car is totalled and

has no value after the crash anymore. However, the scrap dealer pays an amount of 600.00 EUR (gross

amount) for the car wreck. In order to determine the damage we calculate its carrying value at the time

just before the car accident. The vehicle was in use for 6 + 9 = 15 months. Its carrying amount at the time

just before the damage is 60,000 – 15 x (60,000 / (5 x 12)) = 45,000.00 EUR.



(Note, we do not consider any insurance plan paying for the damage here.)

WARDRIF Ltd. has to post an impairment loss on the car. The bookkeeping entries are based on the use

of the Realization account again.

Before we make the bookkeeping entries we make a bookkeeping entry for depreciation.

(13) Depreciation on the car “OS-W 500” with an amount of 9 x (60,000 / (5 x 12)) = 9,000.00 EUR.



As the value of the car after the crash is zero the bookkeeper makes an entry for an impairment loss to the

extent of 45,000.00 EUR: The fact that the car later is sold at 500.00 EUR (net amount) doesn’t indicate

the value of the car wreck. It is to be seen as a lucky sale.

(14) Posting an impairment loss on 5.10.20X3

DR Impairment Loss .................. 45,000.00 EUR

CR Accumulated Impairment Losses .... 45,000.00 EUR

The next bookkeeping entries are based on the Realization account. At first the payment of the scrap yard

owner is considered and VAT is to be taken under consideration.

(15) Posting revenue from the car wreck sale on 6.10.20X3

DR Cash/Bank ........................ 600.00 EUR

CR Realization ...................... 600.00 EUR

(16) VAT consideration on 6.10.20X3

DR Realization ...................... 100.00 EUR

CR VAT .............................. 100.00 EUR

(17 … 19) Closing off Property, Plant, and Equipment account, Accumulated Depreciation account, and

Accumulated Impairment Losses account to the Realization account on 6.10.20X3.


CR P, P, E “OS-W 500” ............... 60,000.00 EUR



DR Accumulated Impairment Losses .... 45,000.00 EUR


The revenue earned by selling the car wreck is a taxable profit that results from the disposal of the vehicle.

The amount of 500.00 EUR are revealed by the Realization account and indicated as PoD c/d. The

amount is transferred to the Profit and Loss account.



DR Realization ...................... 500.00 EUR

CR P&L Account ...................... 500.00 EUR

The remaining cars are depreciated at the end of the accounting period.

(20) Depreciation on car “OS-W 100” to the extent of 35,000 / 5 = 7,000.00 EUR on 31.12.20X3



(21) Depreciation on car “OS-W 400” to the extent of 35,000 / 5 = 7,000.00 EUR on 31.12.20X3



In the next steps we calculate WARDRIF Ltd.’s profit based on its Profit and Loss account.

(Note, for this example we do not prepare a full set of financial statements. The example only covers the

profit calculation and the asset recognition by the register of non-current assets.)

For profit calculation we close off all nominal accounts to the Profit and Loss account.

DR P&L Account ..................... 31,000.00 EUR


DR P&L Account ...................... 45,000.00 EUR

CR Impairment Loss .................. 45,000.00 EUR

DR P&L Account ...................... 50,000.00 EUR

CR Other Expenses ................... 50,000.00 EUR

DR Revenue .......................... 200,000.00 EUR

CR P&L Account ...................... 200,000.00 EUR

(Note, the money received when selling cars and car wrecks is not going through the revenue account as it

is not WARDRIF Ltd.’s business to deal with cars. So, the amount is not to be shown in the statement of

comprehensive income as revenue but as other income.)

Observe the accounts displayed by exhibit 32.3.



D C D C

b/d 35,000.00 c/d 35,000.00 b/d 21,000.00

b/d 35,000.00 c/d 28,000.00 (20) 7,000.00

28,000.00 28,000.00

b/d 28,000.00

D C D C

b/d 40,000.00 (6) 40,000.00 (7) 14,000.00 b/d 10,000.00

(5) 4,000.00

14,000.00 14,000.00

D C D C

b/d 40,000.00 (11) 40,000.00 (12) 14,000.00 b/d 10,000.00

(10) 4,000.00

14,000.00 14,000.00

D C D C

b/d 35,000.00 c/d 35,000.00 b/d 7,000.00

b/d 35,000.00 c/d 14,000.00 (21) 7,000.00

14,000.00 14,000.00

b/d 14,000.00

D C D C

b/d 60,000.00 (17) 60,000.00 (18) 15,000.00 b/d 6,000.00

(13) 9,000.00

15,000.00 15,000.00

D C D C

b/d 0.00 (2) 60,000.00 (2) 10,000.00 (1) 40,000.00

(1) 240,000.00 (4) 5,175.00

(3) 31,050.00 (9) 5,315.00

(8) 31,890.00 c/d 40,590.00 (16) 100.00

(15) 600.00 c/d 243,540.00 50,590.00 50,590.00

303,540.00 303,540.00 b/d 40,590.00

b/d 243,540.00


Cash/Bank VAT





Exhibit 32.3: WARDRIF Ltd.’s accounts



D C D C

c/d 200,000.00 (1) 200,000.00 (2) 50,000.00 c/d 50,000.00

P&L 200,000.00 b/d 200,000.00 b/d 50,000.00 P&L 50,000.00

D C D C

(4) 5,175.00 (3) 31,050.00 (5) 4,000.00

(6) 40,000.00 (7) 14,000.00 (10) 4,000.00

LoD c/d 125.00 (13) 9,000.00

45,175.00 45,175.00 (20) 7,000.00

b/d 125.00 P&L 125.00 (21) 7,000.00 c/d 31,000.00

31,000.00 31,000.00

b/d 31,000.00 P&L 31,000.00

D C D C

(9) 5,315.00 (8) 31,890.00 R ...200 125.00 R ...300 575.00

(11) 40,000.00 (12) 14,000.00 Depr 31,000.00 R ...500 500.00

PoD c/d 575.00 IL 45,000.00 Rev 200,000.00

45,890.00 45,890.00 Other 50,000.00

P&L 575.00 b/d 575.00 NP c/d 74,950.00

201,075.00 201,075.00

Tax 22,485.00 b/d 74,950.00

R/E 52,465.00

74,950.00 74,950.00

D C D C

(19) 45,000.00 (14) 45,000.00 (14) 45,000.00 P&L 45,000.00

D C D C

c/d 52,465.00 P&L 52,465.00 (16) 100.00 (15) 600.00

b/d 52,465.00 (17) 60,000.00 (18) 15,000.00

PoD c/d 500.00 (19) 45,000.00

60,600.00 60,600.00

P&L 500.00 b/d 500.00

D C

c/d 22,485.00 P&L 22,485.00

b/d 22,485.00

R/E Realization "OS-W 500"

Tax liabilities

Acc impairment losses "OS-W 500" Impairment loss

Revenue Other expenses

Realization "OS-W 200" Depreciation

Realization "OS-W 300" Profit and Loss

Exhibit 32.3: WARDRIF Ltd.’s accounts (continued)

The register of non-current assets only contains the remaining cars. See exhibit 32.4.



Asset

Cost of


Acc. impairm.


Car "OS-W 100" 35,000.00 (28,000.00) 0.00 7,000.00

Car "OS-W 200" disposed


Car "OS-W 400" 35,000.00 (14,000.00) 0.00 21,000.00


28,000.00

Wardrif Ltd.'s


as at 31.12.20X3

Exhibit 32.4: WARDRIF Ltd.’s register of non-current assets

The statement of comprehensive income displays normal income and gains resulting from the dispos-

als/sales. Observe the other income resulting from the gains/losses to be: 575 - 125 + 500 = 950.00

EUR.

[EUR]

Revenue 200,000.00

Other income 950.00

200,950.00

Materials

Labour


Impairment losses 45,000.00



Interest 0.00



Deferred taxes


Wardrif Ltd.'s



Exhibit 32.5: WARDRIF Ltd.’s statement of comprehensive income

The statement of comprehensive income displays a regular income as other expenses and depreciation and

impairment losses as well as extraordinary gains resulting from the disposal of assets.



Summary:

A company that disposes assets uses a Realization account for each asset disposed. The profit or loss on

disposal is to be recognized in the statement of comprehensive income under the item other income.

Working Definition:

Realization Account: A realization account is a temporary account that is used to record all activities

which are linked to the disposal of the asset.



(33) Discounts


When a company receives or allows a discount the amount of purchases or sales and the amount of VAT

are affected. We introduce the basic bookkeeping entries for discounts by this chapter.

Discounts are mentioned by the IFRSs when it comes to the initial valuation of non-current assets and

when inventories are valued. The standards IAS 2 and IAS 16 request all valuations are to be made after

discounts have been deducted. In other words the bookkeeping records are free of discounts with regard

to the assets.

The easiest way to make a bookkeeping entry for a discount is to reduce the amount immediately. We’ll

show this method by a few examples below:

MELKBOS Ltd. is a grocery store. It purchases 2,500 litre of milk at 1.00 EUR each (net amount) from

its supplier. The supplier allows MELKBOS Ltd. a discount 4 % on the complete sale. MELKBOS Ltd.

simply calculates the new price and prepares the bookkeeping entries.

(a) Purchase of goods at the reduced price of 2,500 x 1 x (1 – 4%) = 2,400.00 EUR on 5.04.20X5

DR Purchase ......................... 2,400.00 EUR

DR VAT .............................. 480.00 EUR

CR Cash/Bank ........................ 2,880.00 EUR

When MELKBOS Ltd. sells the groceries it gives a discount of 5 % to customers who buy the goods after

20h00. A customer who buys the milk at a normal price of 1.60 EUR/l (gross amount) now will pay 1.60

x (1 – 5%) = 1.52 EUR/l. Ingo SCHULZE-BRAMMELKAMP buys 3 litres of milk and waits until it is

20h01 at the cashpoint. He pays 3 x 1.52 = 4.56 EUR. The net amount of his milk is 4.56 / 120% = 3.80

EUR. MELKBOS Ltd. posts the sale as below:

(b) Sale of goods under consideration of a 5 % discount on 6.04.20X5:

DR Cash/Bank ........................ 4.56 EUR

CR VAT .............................. 0.76 EUR

CR Sales ............................ 3.80 EUR

The consideration of a discount received or allowed that affects immediately is fairly simple.

If the discount is provided or received later the bookkeeping entries become more complicated. Some

companies offer a discount only after the sale has been made. For instance they offer a discount once a

particular amount of goods has been bought by the customer. Or they use the means of discount to com-

pensate an unsatisfied customer in order to avoid goods being returned. In these situations a discount is

posted to a special Discount account. When a customer receives a discount the account’s name is Dis-

count Received. A company that sells goods to a reduced price uses the Discount Allowed account. A

Discount account is a temporary account to enter discounts. It has to be closed off to Purchases,

Sales, and/or VAT. Discounts received will be posted to the Discount Received account. Dis-

counts provided to customers will lead to credit entries in the Discount Allowed account.



Be advised that the Discount account cannot be transferred to the statement of financial position. In any

case all discount accounts must be closed off to other accounts.

We’ll show the use of the Discount accounts and their dissimilation by the example HETKRUIS Ltd. The

company is dealer for car parts and offers a 5 % discount for customers who spend more than 25,000.00

EUR within 1 year’s time. The discount applies for all goods bought within that particular year. FIXCARS

(Pty) Ltd. is a car repair shop and buys its spare and replacement parts with HETKRUIS Ltd. During the

last year FIXCARS (Pty) Ltd. spent

- 10,000.00 EUR on parts in January 20X4,

- 8,000.00 EUR in April 20X4, and

- 12,000.00 EUR in December 20X4.

All amounts are net amounts. The payments have not been made yet and payables have been recognized.

Observe the bookkeeping entries made by FIXCARS (Pty) Ltd. below:

(1) Purchase of parts on 5.01.20X4

DR Purchase ......................... 10,000.00 EUR

DR VAT .............................. 2,000.00 EUR



DR Purchase ......................... 8,000.00 EUR

DR VAT .............................. 1,600.00 EUR



DR Purchase ......................... 12,000.00 EUR

DR VAT .............................. 2,400.00 EUR


It is obvious that the amounts purchased exceed the amount that qualifies for a discount. According to

this situation FIXCARS (Pty) Ltd. is entitled to receive a 5 % discount on all parts and claims the discount

from HETKRUIS Ltd.

(4) Posting the discount received from HETKRUIS Ltd on 15.12.20X4. It amounts to 5 % of the amount

due which is 5% x (12,000 + 9,600 + 14,400) = 1,800.00 EUR.

DR Discount Received ................ 1,800.00 EUR




(5) Payment of the amount due which is 36,000 – 1,800 = 34,200.00 EUR by bank transfer on

16.12.20X4


CR Cash/Bank ........................ 34,200.00 EUR

Take a look at exhibit 33.1 which displays the accounts of FIXCARS (Pty) Ltd.

D C D C

(1) 10,000.00 (1) 2,000.00

(2) 8,000.00 (2) 1,600.00

(3) 12,000.00 (3) 2,400.00

D C D C

(4) 1,800.00 (1) 12,000.00 (4) 1,800.00

(2) 9,600.00

c/d 34,200.00 (3) 14,400.00

36,000.00 36,000.00

(5) 34,200.00 b/d 34,200.00

D C

... (5) 34,200.00

Cash/Bank

Purchase VAT

Accounts Payables Discount received

Exhibit 33.1: FIXCARS (Pty) Ltd.’s accounts

At this stage the amounts in the Purchase account are overestimated. Along IAS 2 inventories are to be

recognized at the amount of the purchase price (net amount) less any discounts. However, FIXCARS

(Pty) Ltd. displays the amounts which still contain the discount. For that reason the amounts are to be

adjusted. We assume that the purchases can be identified separately and make 3 bookkeeping entries

linked to the 3 purchases. Note, we adjust the VAT account also. The claim of VAT is based on the

amount charged which is here the discounted amount.

(6, 7) Discount of purchase (1) on 16.12.20X4 which is 10,000 x 5% = 500.00 EUR. Adjustment for VAT

is 2,000 x 5% = 100.00 EUR.

DR Discount Received ................ 500.00 EUR

CR Purchase ......................... 500.00 EUR


CR VAT .............................. 100.00 EUR

(8, 9) Discount of purchase (2) on 16.12.20X4 which is 8,000 x 5% = 400.00 EUR. Adjustment for VAT

is 1,600 x 5% = 80.00 EUR.




CR Purchase ......................... 400.00 EUR


CR VAT .............................. 80.00 EUR

(10, 11) Discount of purchase (3) on 16.12.20X4 which is 12,000 x 5% = 600.00 EUR. Adjustment for

VAT is 2,400 x 5% = 120.00 EUR.


CR Purchase ......................... 600.00 EUR


CR VAT .............................. 120.00 EUR

Observe the accounts in exhibit 33.2.

D C D C

(1) 10,000.00 (6) 500.00 (1) 2,000.00 (7) 100.00

(2) 8,000.00 (8) 400.00 (2) 1,600.00 (9) 80.00

(3) 12,000.00 (10) 600.00 (3) 2,400.00 (11) 120.00

c/d 28,500.00 c/d 5,700.00

30,000.00 30,000.00 6,000.00 6,000.00

b/d 28,500.00 b/d 5,700.00

D C D C

(4) 1,800.00 (1) 12,000.00 (6) 500.00 (4) 1,800.00

(2) 9,600.00 (7) 100.00

c/d 34,200.00 (3) 14,400.00 (8) 400.00

36,000.00 36,000.00 (9) 80.00

(5) 34,200.00 b/d 34,200.00 (10) 600.00

(11) 120.00

1,800.00 1,800.00

D C

... (5) 34,200.00

Cash/Bank

Purchase VAT

Accounts Payables Discount received

Exhibit 33.2: FIXCARS (Pty) Ltd.’s accounts

The purchases have been valuated down to the amount which is free of discount. It is now 28,500.00

EUR by which it will be considered in the Trading account. Also VAT has been adjusted to the right

amount along the tax law. VAT can only be claimed to the extent of it has been charged. The total

amount paid by FIXCARS (Pty) Ltd. is (1 – 5%) x (10,000 + 8,000 + 12,000) x 120% = 34,200.00 EUR.

The amount of input VAT therein is 20% x 34,200 / 120% = 5,700.00 EUR.



(Note, in case FIXCARS (Pty) Ltd. considered the discount immediately the bookkeeping entry would

have been made as

DR Purchase ......................... 28,500.00 EUR

DR VAT .............................. 5,700.00 EUR

CR Accounts Payables ................ 34,200.00 EUR)

We now check the accounts at HETKRUIS Ltd.

HETKRUIS Ltd. sells the goods to FIXCARS (Pty) Ltd. and hasn’t received money yet. They make a

bookkeeping entry for receivables therefore.

(Note, in order to not get confused with the bookkeeping entries we use capitals to identify HETKRUIS

Ltd.’s bookkeeping entries.)

(A) Sale of parts on 5.01.20X4


CR VAT .............................. 2,000.00 EUR

CR Sales ............................ 10,000.00 EUR

(B) Sale of parts on 9.04.20X4


CR VAT .............................. 1,600.00 EUR

CR Sales ............................ 8,000.00 EUR

(C) Sale of parts on 14.12.20X4


CR VAT .............................. 2,400.00 EUR

CR Sales ............................ 12,000.00 EUR

After making bookkeeping entry (C) the sales manager at HETKRUIS Ltd. notices that FIXCARS (Pty)

Ltd. qualifies for the discount. He sends a letter of notification to FIXCARS (Pty) Ltd. which allows them

to deduct 5 % of the billed amounts.

(D) Posting the discount of 5% x (12,000 + 9,600 + 14,400) = 1,800.00 EUR on 15.12.20X4

DR Discount Allowed ................. 1,800.00 EUR

CR Accounts Receivable .............. 1,800.00 EUR

Observe HETKRUIS Ltd.’s accounts in exhibit 33.3:



D C D C

(A) 10,000.00 (A) 2,000.00

(B) 8,000.00 (B) 1,600.00

(C) 12,000.00 (C) 2,400.00

D C D C

(A) 12,000.00 (D) 1,800.00 (D) 1,800.00

(B) 9,600.00

(C) 14,400.00

Accounts receivables Discount allowed

Sales VAT

Exhibit 33.3: HETKRUIS Ltd.’s accounts

The payment from FIXCARS (Pty) Ltd. is received on 16.12.20X4. The amount transferred is 36,000 –

1,800 = 34,200.00 EUR.

(E) Money received from the customer FIXCARS Ltd. on 16.12.20X4.

DR Cash ............................. 34,200.00 EUR


The amount for the sales still contains the discount. So does the one for VAT liabilities. HETKRUIS Ltd.

makes the adjustments below to display the correct amounts.

(F, G) Discount of sale (1) on 16.12.20X4 which is 10,000 x 5% = 500.00 EUR. Adjustment for VAT is

2,000 x 5% = 100.00 EUR.

DR Sale ............................. 500.00 EUR

CR Discount Allowed ................. 500.00 EUR

DR VAT .............................. 100.00 EUR


(H, I) Discount of sale (2) on 16.12.20X4 which is 8,000 x 5% = 400.00 EUR. Adjustment for VAT is

1,600 x 5% = 80.00 EUR.

DR Sale ............................. 400.00 EUR


DR VAT .............................. 80.00 EUR


(J, K) Discount of sale (3) on 16.12.20X4 which is 12,000 x 5% = 600.00 EUR. Adjustment for VAT is

2,400 x 5% = 120.00 EUR.

DR Sales ............................ 600.00 EUR




DR VAT .............................. 120.00 EUR



D C D C

(F) 500.00 (A) 10,000.00 (G) 100.00 (A) 2,000.00

(H) 400.00 (B) 8,000.00 (I) 80.00 (B) 1,600.00

(J) 600.00 (C) 12,000.00 (K) 120.00 (C) 2,400.00

c/d 28,500.00 c/d 5,700.00

30,000.00 30,000.00 6,000.00 6,000.00

b/d 28,500.00 b/d 5,700.00

D C D C

(A) 12,000.00 (D) 1,800.00 (D) 1,800.00 (F) 500.00

(B) 9,600.00 (E) 34,200.00 (G) 100.00

(C) 14,400.00 (H) 400.00

36,000.00 36,000.00 (I) 80.00

(J) 600.00

(K) 120.00

1,800.00 1,800.00

D C

...

(E) 34,200.00

Accounts receivables Discount allowed

Sales VAT

Cash/Bank

Exhibit 33.4: HETKRUIS Ltd.’s accounts

Now, the amounts in the Sales account and in the VAT account are correct and can be transferred to the

Profit and Loss account or to the statement of financial position.

Summary:

Discounts can be received or allowed. The consideration of discounts is required along the IFRSs and the

German HGB also. It rules that the entries are made that way that the amounts displayed in the Purchase

account, in the Sales account, and in the VAT account are free of discounts. Discounts received are like a

gain and posted to the credit side of the Discount account. Discounts allowed look like expenses and

debit the Discount account.

Definition:

Discount Account: A Discount account is a temporary account to enter discounts. It has to be closed off

to Purchases, Sales, and/or VAT. Discounts received will be posted to the Discount Received account.

Discounts provided to customers will lead to credit entries in the Discount Allowed account.



(34) Perpetual Inventory System


In this chapter we are going to introduce a more sophisticated inventory system that allows determining

the stock level based on the bookkeeping records at any time.

When we calculated the profit for a trading business we used the Purchase account and closed it off to the

Trading account at the end of the accounting period. We computed the material expenses as opening

amount of the inventories plus all purchases less the closing stock and less any returns inwards. In order

to determine the closing stock a stock count is done. As the stock count takes place only once at the end

of the accounting period the inventory system is called a periodic inventory system. A periodic inventory

system is a method to determine material expenses that is based on a stock count at the end of

the accounting period.

Many companies want to know the actual level of goods on stock at any time. A trading company for

example wants to know about the amount of goods that are still on stock or in the store in order to know

when they have to re-order items.

(Note, when you go shopping in a department store you can see that the cash point uses scanners for the

prices. This is not only something to make the cashiers’ lives more comfortable because he/she doesn’t

have to key in the prices anymore. The scanned information contains the goods identification number and

is used to deduct the good sold from inventory and to transfer the information to the accounting system.)

A perpetual inventory system is a method to determine material expenses and to adjust stock

levels at any time based on information about stock releases. In contrast to the periodic inventory

system a perpetual inventory system makes additional bookkeeping entries once a good is taken out of

stock.

(Note, most companies nowadays have a perpetual inventory system in use.)

In order to explain a perpetual inventory system we’ll use an example of a dealership. We first will explain

the example by the periodic system and later will use the same example again but applying the perpetual

inventory system. This way you are able to see the difference clearly.

Periodic Inventory System:

WITSAND (Pty) Ltd. is a bed store. It sells double beds (160 x 200), queen size beds (140 x 200), single

beds (90 X 200) and beds for kids (80 x 150). The purchase prices (net amounts) for the beds are 200.00

EUR/u for a double bed, 190.00 EUR/u for a queen size bed, 180.00 EUR for a single bed, and 150.00

EUR for a kid’s bed. At the beginning of the accounting period WITSAND (Pty) Ltd. has 3 double beds

and 14 kids’ beds on stock. The opening amount for stock is 3 x 200 + 14 x 150 = 2,700.00 EUR.

The opening statement of financial position for WITSAND (Pty) Ltd. as at 1.01.20X3 is provided by ex-

hibit 34.1.



A C, L


P, P, E 25,000.00 Share capital 50,000.00





A/R A/P



50,000.00 50,000.00

Witsand (Pty) Ltd.'s


as at 1.01.20X3

Exhibit 34.1: WITSAND (Pty) Ltd.’s statement of financial position

The accounts at the beginning of the accounting period look as displayed in exhibit 34.2.

D C D C

OV 25,000.00 OV 2,700.00

D C D C

OV 22,300.00 OV 50,000.00

P,P,E Inventory


Exhibit 34.2: WITSAND (Pty) Ltd.’s accounts

WITSAND (Pty) Ltd. purchases beds in January. It buys 15 double beds at a purchase price of 200.00

EUR/u, 20 queen size beds at a purchase price of 190.00 EUR/u, 30 single beds at a purchase price of

180.00 EUR/u and 25 kids’ beds at 150.00 EUR/u. All above amounts are net amounts. The payments

are made by bank transfer immediately. So, the contra account always is the Cash/Bank account.

(1) Purchase of 15 double beds on 4.01.20X3 at cost of purchase of 15 x 200 = 3,000.00 EUR

DR Purchase ......................... 3,000.00 EUR

DR VAT .............................. 600.00 EUR

CR Cash/Bank ........................ 3,600.00 EUR

(2) Purchase of 20 queen size beds on 4.01.20X3 at cost of purchase of 20 x 190 = 3,800.00 EUR

DR Purchase ......................... 3,800.00 EUR

DR VAT .............................. 760.00 EUR

CR Cash/Bank ........................ 4,560.00 EUR



(3) Purchase of 30 single beds on 4.01.20X3 at cost of purchase of 30 x 180 = 5,400.00 EUR

DR Purchase ......................... 5,400.00 EUR

DR VAT .............................. 1,080.00 EUR

CR Cash/Bank ........................ 6,480.00 EUR

(4) Purchase of 25 kids’ beds on 4.01.20X3 at cost of purchase of 25 x 150 = 3,750.00 EUR

DR Purchase ......................... 3,750.00 EUR

DR VAT .............................. 750.00 EUR

CR Cash/Bank ........................ 4,500.00 EUR

The net selling prices at WITSAND (Pty) Ltd. are

- double bed: 350.00 EUR/u

- queen size bed: 300.00 EUR/u

- single bed 250.00 EUR/u

- kid’s bed 200.00 EUR/u

On 8.01.20X3 WITSAND (Pty) Ltd. sells 2 double beds, 5 queen size beds and 10 kids’ beds on cash. The

bookkeeping entries are as below:

(5) Sale of 2 double beds, 5 queen size beds and 10 kids’ beds on 8.01.20X3 at a net selling price of 2 x

350 + 5 x 300 + 10 x 200 = 4,200.00 EUR. The gross amount is 4,200 x 120% = 5,040.00 EUR.

DR Cash/Bank ........................ 5,040.00 EUR

CR VAT .............................. 840.00 EUR

CR Sales ............................ 4,200.00 EUR

On 9.02.20X3 WITSAND (Pty) Ltd. sells 8 double beds, 7 queen size beds and 15 single beds on

9.02.20X3 at a net selling price of 8 x 350 + 7 x 300 + 15 x 250 = 8,650.00 EUR. The gross amount is

8,650 x 120% = 10,380.00 EUR.

(6) Sale of beds on 9.02.20X3

DR Cash/Bank ........................ 10,380.00 EUR

CR VAT .............................. 1,730.00 EUR

CR Sales ............................ 8,650.00 EUR

On 7.03.20X3 WITSAND (Pty) Ltd. orders 20 double beds and pays the amount of 240.00 EUR/u on

cash. The total net amount of the purchase is 20 x 200 = 4,000.00 EUR. The gross amount is 4,000 x

120% = 4,800.00 EUR.

(7) Purchase of 20 double beds on 7.03.20X3



DR Purchase ......................... 4,000.00 EUR

DR VAT .............................. 800.00 EUR

CR Cash/Bank ........................ 4,800.00 EUR

On 9.07.20X3 WITSAND (Pty) Ltd. sells 24 double beds, 8 queen size beds, 5 single beds, and 29 kids’

beds on cash. The net selling price is 24 x 350 + 8 x 300 + 5 x 250 + 29 x 200 = 17,850.00 EUR. The

gross amount is 17,850 x 120% = 21,420.00 EUR.

(8) Sale of beds on 9.07.20X3

DR Cash/Bank ........................ 21,420.00 EUR

DR VAT .............................. 3,570.00 EUR

CR Sales ............................ 17,850.00 EUR

We assume there is only one further activity at WITSAND (Pty) Ltd. The company pays 2,000.00 EUR

rent per bank transfer. For rent no VAT is relevant because the landlord is not registered for VAT reduc-

tion.

(9) Rent on the shop (31.12.20X3)

DR Rent ............................. 2,000.00 EUR

CR Cash/Bank ........................ 2,000.00 EUR

The accountant balances off all accounts (exhibit 34.3) and prepares a trial balance for WITSAND (Pty)

Ltd. Observe the accounts in exhibit 34.3 and the trial balance in exhibit 34.4.

D C D C

OV 25,000.00 c/d 25,000.00 OV 2,700.00 c/d 2,700.00

b/d 25,000.00 b/d 2,700.00

D C D C

OV 22,300.00 (1) 3,600.00 c/d 50,000.00 OV 50,000.00

(5) 5,040.00 (2) 4,560.00 b/d 50,000.00

(6) 10,380.00 (3) 6,480.00

(8) 21,420.00 (4) 4,500.00

(7) 4,800.00

(9) 2,000.00

c/d 33,200.00

59,140.00 59,140.00

b/d 33,200.00

P,P,E Inventory





D C D C

(1) 600.00 (5) 840.00 (1) 3,000.00

(2) 760.00 (6) 1,730.00 (2) 3,800.00

(3) 1,080.00 (8) 3,570.00 (3) 5,400.00

(4) 750.00 (4) 3,750.00

(7) 800.00 (7) 4,000.00 c/d 19,950.00

c/d 2,150.00 19,950.00 19,950.00

6,140.00 6,140.00 b/d 19,950.00

b/d 2,150.00

D C D C

(5) 4,200.00 (9) 2,000.00 c/d 2,000.00

(6) 8,650.00 b/d 2,000.00

c/d 30,700.00 (8) 17,850.00

30,700.00 30,700.00

b/d 30,700.00

VAT Purchase

Sales Rent

Exhibit 34.3: WITSAND (Pty) Ltd.’s accounts (continued)



Inventory 2,700.00

Cash/Bank 33,200.00


VAT 2,150.00

Purchase 19,950.00

Sales 30,700.00

Rent 2,000.00

Total: 82,850.00 82,850.00


TRIAL BALANCE

as at 31.12.20X3

Exhibit 34.4: WITSAND (Pty) Ltd.’s trial balance

At the end of the accounting period 20X3 WITSAND (Pty) Ltd. runs a stock count. It reveals that there

are still 3 + 15 – 2 – 8 + 20 – 24 = 4 double beds on stock. There are 20 – 5 – 7 – 8 = 0 queen size

beds left. The amount of single beds is 30 – 15 – 5 = 10 single beds and there are no kids’ beds left: 14 +

25 – 10 – 29 = 0 kid’s bed. So, the closing stocks’ value is 4 x 200 + 10 x 180 = 2,600.00 EUR.

WITSAND (Pty) Ltd. prepares the Trading account for the calculation of the gross profit. According to a

periodic inventory system the amount of inventory, the purchases, and the closing stock are transferred to

the Trading account. They represent the material expenses. Furthermore, the Sales account is closed off to

the Trading account.

DR T/A .............................. 2,700.00 EUR

CR Inventory ........................ 2,700.00 EUR



(Note, applying a periodic inventory system means to always make a bookkeeping entry considering the

open amount of Inventory account, not the closing amount.)

DR T/A .............................. 19,950.00 EUR

CR Purchase ......................... 19,950.00 EUR

DR Inventory ........................ 2,600.00 EUR

CR T/A .............................. 2,600.00 EUR

(Note, the last bookkeeping entry is linked to the closing stock determined by stock count. See the Trad-

ing account for details.)

DR Sales ............................ 30,700.00 EUR

CR T/A .............................. 30,700.00 EUR

The gross profit of WITSAND (Pty) Ltd. amounts to 30,700 + 2,600 - 2,700 + 19,950 = 10,650.00 EUR.

This amount is transferred to the Profit and Loss account.

DR T/A .............................. 10,650.00 EUR

CR P&L Account ...................... 10,650.00 EUR

The Rent account is closed off to the Profit and Loss account.

DR P&L Account ...................... 2,000.00 EUR

CR Rent ............................. 2,000.00 EUR

The earnings before taxes are 10,650 – 2,000 = 8,650.00 EUR. The amount for income taxes is 8,650 x

30% = 2,595.00 EUR and for retained earnings 8,650 – 2,595 = 6,055.00 EUR and are transferred to the

Income Tax Liability account and the Retained Earnings account.

DR P&L .............................. 2,595.00 EUR


DR P&L .............................. 6,055.00 EUR


Observe the accounts in exhibit 34.5 and the adjusted trial balance in exhibit 34.6.



D C D C

OV 25,000.00 c/d 25,000.00 OV 2,700.00 c/d 2,700.00

b/d 25,000.00 b/d 2,700.00 T/A 2,700.00

T/A 2,600.00 c/d 2,600.00

5,300.00 5,300.00

b/d 2,600.00

D C D C

OV 22,300.00 (1) 3,600.00 c/d 50,000.00 OV 50,000.00

(5) 5,040.00 (2) 4,560.00 b/d 50,000.00

(6) 10,380.00 (3) 6,480.00

(8) 21,420.00 (4) 4,500.00

(7) 4,800.00

(9) 2,000.00

c/d 33,200.00

59,140.00 59,140.00

b/d 33,200.00

D C D C

(1) 600.00 (5) 840.00 (1) 3,000.00

(2) 760.00 (6) 1,730.00 (2) 3,800.00

(3) 1,080.00 (8) 3,570.00 (3) 5,400.00

(4) 750.00 (4) 3,750.00

(7) 800.00 (7) 4,000.00 c/d 19,950.00

c/d 2,150.00 19,950.00 19,950.00

6,140.00 6,140.00 b/d 19,950.00 T/A 19,950.00

b/d 2,150.00

D C D C

(5) 4,200.00 (9) 2,000.00 c/d 2,000.00

(6) 8,650.00 b/d 2,000.00 P&L 2,000.00

c/d 30,700.00 (8) 17,850.00

30,700.00 30,700.00

T/A 30,700.00 b/d 30,700.00

D C D C

Inv 2,700.00 Sales 30,700.00 Rent 2,000.00 T/A 10,650.00

Purch 19,950.00 Inv 2,600.00 NP c/d 8,650.00

GP c/d 10,650.00 10,650.00 10,650.00

33,300.00 33,300.00 Tax 2,595.00 b/d 8,650.00

P&L 10,650.00 b/d 10,650.00 R/E 6,055.00

8,650.00 8,650.00


VAT Purchase

Sales Rent

P,P,E Inventory





D C D C D

c/d 2,595.00 P&L 2,595.00 c/d 6,055.00 P&L 6,055.00

b/d 2,595.00 b/d 6,055.00

Income tax liabilities Retained earnings




Inventory 2,600.00

Cash/Bank 33,200.00


VAT 2,150.00

Purchase 0.00 0.00

Sales 0.00 0.00

Rent 0.00 0.00



Total: 60,800.00 60,800.00



as at 31.12.20X3

Exhibit 34.6: WITSAND (Pty) Ltd.’s adjusted trial balance

Observe the financial statements as at 31.12.20X3 for WITSAND (Pty) Ltd. in exhibit 34.7 and exhibit

34.8. The amount for payables in the statement of financial position results from VAT payables.

A C, L







A/R A/P 2,150.00



60,800.00 60,800.00

Witsands (Pty) Ltd.'s


as at 1.01.20X3




The statement of comprehensive income shows material expenses resulting from the opening value of

stock plus purchases less closing stock as 2,700 + 19,950 – 2,600 = 20,050.00 EUR.

[EUR]

Revenue 30,700.00

Other income

30,700.00

Materials 20,050.00

Labour

Depreciation



Interest 0.00



Deferred taxes





Exhibit 34.8: WITSAND (Pty) Ltd.’s statement of comprehensive income

Perpetual Inventory System:

With a perpetual inventory system the bookkeeping entries for material inputs are the same. In contrast to

the periodic inventory system there are bookkeeping entries for releasing goods from stock as well.

(Note, the numbers of the bookkeeping entries will change slightly. Therefore and in order to not confuse

you, the example with the perpetual inventory system identifies the bookkeeping entries by letters.)

The accounts at the beginning of the accounting period look as in exhibit 34.9. In contrast to exhibit 34.2

there are special accounts for the different sorts of beds now. The amount for double beds is 3 x 200 =

600.00 EUR and for kids’ beds 14 x 150 = 2,100.00 EUR.

D C D C

OV 25,000.00 OV 600.00

D C D C

OV 0.00 OV 0.00

P, P, E Inventory - double bed

Inventory - queen size Inventory - single bed




D C D C

OV 2,100.00 OV 22,300.00

D C

OV 50,000.00

Inventory - kid's bed Cash/Bank

Issued capital


When making bookkeeping entries in a perpetual system the amounts will be transferred to the Inventory

account immediately.

WITSAND (Pty) Ltd. purchases beds 15 double beds at a purchase price of 200.00 EUR/u, 20 queen size

beds at a purchase price of 190.00 EUR/u, 30 single beds at a purchase price of 180.00 EUR/u and 25

kids’ beds at 150.00 EUR/u. All amounts are net amounts. The payments are made by bank transfer im-

mediately. So, the contra account always is the Cash/Bank account.

(a, b) Purchase of 15 double beds on 4.01.20X3 at cost of purchase of 15 x 200 = 3,000.00 EUR

DR Purchase ......................... 3,000.00 EUR

DR VAT .............................. 600.00 EUR

CR Cash/Bank ........................ 3,600.00 EUR

DR Inventory – Double Bed ........... 3,000.00 EUR

CR Purchase ......................... 3,000.00 EUR

(c, d) Purchase of 20 queen size beds on 4.01.20X3 at cost of purchase of 20 x 190 = 3,800.00 EUR

DR Purchase ......................... 3,800.00 EUR

DR VAT .............................. 760.00 EUR

CR Cash/Bank ........................ 4,560.00 EUR

DR Inventory – Queen Size ........... 3,800.00 EUR

CR Purchase ......................... 3,800.00 EUR

(e, f) Purchase of 30 single beds on 4.01.20X3 at cost of purchase of 30 x 180 = 5,400.00 EUR

DR Purchase ......................... 5,400.00 EUR

DR VAT .............................. 1,080.00 EUR

CR Cash/Bank ........................ 6,480.00 EUR

DR Inventory – Single Bed ........... 5,400.00 EUR

CR Purchase ......................... 5,400.00 EUR



(g, h) Purchase of 25 kids’ beds on 4.01.20X3 at cost of purchase of 25 x 150 = 3,750.00 EUR

DR Purchase ......................... 3,750.00 EUR

DR VAT .............................. 750.00 EUR

CR Cash/Bank ........................ 4,500.00 EUR

DR Inventory – Kid’s bed ............ 3,750.00 EUR

CR Purchase ......................... 3,750.00 EUR

When selling the goods there will be two bookkeeping entries to be made. The first one is the same as for

a periodic inventory system and is linked to the cash or its equivalents received. The second one is to re-

lease the sold goods from stock. The latter one is based on the net purchase price. The contra account is

the Cost of Goods Sold account where the amount is debited to as an expense.

On 8.01.20X3 WITSAND (Pty) Ltd. sells 2 double beds, 5 queen size beds and 10 kids’ beds on cash. The

bookkeeping entries are as below:

(i, j) Sale of 2 double beds at a net selling price of 2 x 350 = 700.00 EUR on 8.01.20X3. The gross

amount is 700 x 120% = 840.00 EUR. Releasing the 2 double beds from stock reduces inventory by an

amount of 2 x 200 = 400.00 EUR.

DR Cash/Bank ........................ 840.00 EUR

CR VAT .............................. 140.00 EUR

CR Sales ............................ 700.00 EUR

DR Cost of Goods Sold ............... 400.00 EUR

CR Inventory – Double Bed ........... 400.00 EUR

(k, l) Sale of 5 queen size beds at a net selling price of 5 x 300 = 1,500.00 EUR on 8.01.20X3. The gross

amount is 1,500 x 120% = 1,800.00 EUR. Releasing the 5 queen size beds from stock reduces inventory

by an amount of 5 x 190 = 950.00 EUR.

DR Cash/Bank ........................ 1,800.00 EUR

CR VAT .............................. 300.00 EUR

CR Sales ............................ 1,500.00 EUR


CR Inventory – Queen Size ........... 950.00 EUR

(m, n) Sale of 10 kids’ beds on 8.01.20X3 at a net selling price of 10 x 200 = 2,000.00 EUR. The gross

amount is 2,000 x 120% = 2,400.00 EUR. Releasing the 10 kids’ beds from stock reduces inventory by 10

x 150.00 EUR = 1,500.00 EUR.



DR Cash/Bank ........................ 2,400.00 EUR

CR VAT .............................. 400.00 EUR

CR Sales ............................ 2,000.00 EUR


CR Inventory – Kid’s Bed ............ 1,500.00 EUR

On 9.02.20X3 WITSAND (Pty) Ltd. sells 8 double beds, 7 queen size beds and 15 single beds on

9.02.20X3

(o, p) Sale of 8 double beds on 9.02.20X3 at a net selling price of 8 x 350 = 2,800.00 EUR. The gross

amount is 2,800 x 120% = 3,360.00 EUR. Releasing the 8 double beds from stock reduces inventory by 8

x 200.00 EUR = 1,600.00 EUR.

DR Cash/Bank ........................ 3,360.00 EUR

CR VAT .............................. 560.00 EUR

CR Sales ............................ 2,800.00 EUR


CR Inventory – Double Bed ........... 1,600.00 EUR

(q, r) Sale of 7 queen size beds on 9.02.20X3 at a net selling price of 7 x 300 = 2,100.00 EUR. The gross


by 7 x 190.00 EUR = 1,330.00 EUR.

DR Cash/Bank ........................ 2,520.00 EUR

CR VAT .............................. 420.00 EUR

CR Sales ............................ 2,100.00 EUR


CR Inventory – Queen Size ........... 1,330.00 EUR

(s, t) Sale of 15 single beds on 9.02.20X3 at a net selling price of 15 x 250 = 3,750.00 EUR. The gross

amount is 3,750 x 120% = 4,500.00 EUR. Releasing the 15 single beds from stock reduces inventory by

15 x 180.00 EUR = 2,700.00 EUR.

DR Cash/Bank ........................ 4,500.00 EUR

CR VAT .............................. 750.00 EUR

CR Sales ............................ 3,750.00 EUR


CR Inventory – Single Bed ........... 2,700.00 EUR



At this stage the accountant wants to know about the stock levels and balances off all inventory accounts.

Observe the display of the accounts in exhibit 34.10.

D C D C

OV 25,000.00 c/d 25,000.00 OV 600.00 (j) 400.00

b/d 25,000.00 (b) 3,000.00 (p) 1,600.00

c/d 1,600.00

3,600.00 3,600.00

b/d 1,600.00

D C D C

OV 0.00 (l) 950.00 OV 0.00 (t) 2,700.00

(d) 3,800.00 (r) 1,330.00 (f) 5,400.00 c/d 2,700.00

c/d 1,520.00 5,400.00 5,400.00

3,800.00 3,800.00 b/d 2,700.00

b/d 1,520.00

D C D C

OV 2,100.00 (n) 1,500.00 OV 22,300.00 (a) 3,600.00

(h) 3,750.00 c/d 4,350.00 (i) 840.00 (c) 4,560.00

5,850.00 5,850.00 (k) 1,800.00 (e) 6,480.00

b/d 4,350.00 (m) 2,400.00 (g) 4,500.00

(o) 3,360.00

(q) 2,520.00

(s) 4,500.00 c/d 18,580.00

37,720.00 37,720.00

b/d 18,580.00

D C D C

c/d 50,000.00 OV 50,000.00 (a) 3,000.00 (b) 3,000.00

b/d 50,000.00 (c) 3,800.00 (d) 3,800.00

(e) 5,400.00 (f) 5,400.00

(g) 3,750.00 (h) 3,750.00

15,950.00 15,950.00


Issued capital Purchase






D C D C

(a) 600.00 (i) 140.00 (i) 700.00

(c) 760.00 (k) 300.00 (k) 1,500.00

(e) 1,080.00 (m) 400.00 (m) 2,000.00

(g) 750.00 (o) 560.00 (o) 2,800.00

(q) 420.00 (q) 2,100.00

(s) 750.00 c/d 12,850.00 (s) 3,750.00

c/d 620.00 12,850.00 12,850.00

3,190.00 3,190.00 b/d 12,850.00

b/d 620.00

D C

(j) 400.00

(l) 950.00

(n) 1,500.00

(p) 1,600.00

(r) 1,330.00

(t) 2,700.00 c/d 8,480.00

8,480.00 8,480.00

b/d 8,480.00

VAT Sales

Cost of goods sold (COS)


The amounts of the inventory account can be used to determine the amount of beds still available. There

are 1,600 / 200 = 8 double beds, 1,520 / 190 = 8 queen size beds, 2,700 / 180 = 15 single beds, and

4,350 / 150 = 29 kids’ beds available. The sales manager finds the amount of double beds to low and

plans to order further beds.

On 7.03.20X3 WITSAND (Pty) Ltd. orders 20 double beds and pays the amount of 240.00 EUR/u on

cash. The total net amount of the purchases is 20 x 200 = 4,000.00 EUR. The gross amount is 4,000 x

120% = 4,800.00 EUR.

(u, v) Purchase of 20 double beds on 7.03.20X3. The beds are added to stock.

DR Purchase ......................... 4,000.00 EUR

DR VAT .............................. 800.00 EUR

CR Cash/Bank ........................ 4,800.00 EUR

DR Inventory – Double Bed ........... 4,000.00 EUR

CR Purchase ......................... 4,000.00 EUR

On 9.07.20X3 WITSAND (Pty) Ltd. sells 24 double beds, 8 queen size beds, 5 single beds, and 29 kids’

beds on cash.

(w, x) Sale of 24 double beds on 9.07.20X3 at a net selling price of 24 x 350 = 8,400.00 EUR. The gross

amount is 8,400 x 120% = 10,080.00 EUR. Releasing the 24 double beds from stock reduces inventory by

24 x 200.00 EUR = 4,800.00 EUR.



DR Cash/Bank ........................ 10,080.00 EUR

CR VAT .............................. 1,680.00 EUR

CR Sales ............................ 8,400.00 EUR



(y, z) Sale of 8 queen size beds on 9.07.20X3 at a net selling price of 8 x 300 = 2,400.00 EUR. The gross


by 8 x 190.00 EUR = 1,520.00 EUR.

DR Cash/Bank ........................ 2,880.00 EUR

CR VAT .............................. 480.00 EUR

CR Sales ............................ 2,400.00 EUR



By this bookkeeping entry the queen size beds are finished up.

(A, B) Sale of 5 single beds on 9.07.20X3 at a net selling price of 5 x 250 = 1,250.00 EUR. The gross

amount is 1,250 x 120% = 1,500.00 EUR. Releasing the 5 single beds from stock reduces inventory by 5 x

180.00 EUR = 900.00 EUR.

DR Cash/Bank ........................ 1,500.00 EUR

CR VAT .............................. 250.00 EUR

CR Sales ............................ 1,250.00 EUR


CR Inventory – Queen Size ........... 900.00 EUR

(C, D) Sale of 29 kids’ beds on 9.07.20X3 at a net selling price of 29 x 200 = 5,800.00 EUR. The gross

amount is 5,800 x 120% = 6,960.00 EUR. Releasing the 29 kids’ beds from stock reduces inventory by 29

x 150.00 EUR = 4,350.00 EUR.

DR Cash/Bank ........................ 6,960.00 EUR

CR VAT .............................. 1,160.00 EUR

CR Sales ............................ 5,800.00 EUR



By this bookkeeping entry the Inventory –Kid’s Bed account is closed off. The beds are finished up.



WITSAND (Pty) Ltd pays 2,000.00 EUR rent per bank transfer.

(E) Rent on the shop (31.12.20X3)

DR Rent ............................. 2,000.00 EUR

CR Cash/Bank ........................ 2,000.00 EUR

The accountant balances off all accounts (exhibit 34.11) and prepares a trial balance for WITSAND (Pty)

Ltd. Observe the trial balance in exhibit 34.12.

D C D C

OV 25,000.00 c/d 25,000.00 OV 600.00 (j) 400.00

b/d 25,000.00 (b) 3,000.00 (p) 1,600.00

c/d 1,600.00

3,600.00 3,600.00

b/d 1,600.00 (x) 4,800.00

(v) 4,000.00 c/d 800.00

5,600.00 5,600.00

b/d 800.00

D C D C

OV 0.00 (l) 950.00 OV 0.00 (t) 2,700.00

(d) 3,800.00 (r) 1,330.00 (f) 5,400.00 c/d 2,700.00

c/d 1,520.00 5,400.00 5,400.00

3,800.00 3,800.00 b/d 2,700.00 (B) 900.00

b/d 1,520.00 (z) 1,520.00 c/d 1,800.00

2,700.00 2,700.00

b/d 1,800.00






D C D C

OV 2,100.00 (n) 1,500.00 OV 22,300.00 (a) 3,600.00

(h) 3,750.00 c/d 4,350.00 (i) 840.00 (c) 4,560.00

5,850.00 5,850.00 (k) 1,800.00 (e) 6,480.00

b/d 4,350.00 (D) 4,350.00 (m) 2,400.00 (g) 4,500.00

(o) 3,360.00

(q) 2,520.00

(s) 4,500.00 c/d 18,580.00

37,720.00 37,720.00

b/d 18,580.00 (u) 4,800.00

(w) 10,080.00 (E) 2,000.00

(y) 2,880.00

(A) 1,500.00

(C) 6,960.00 c/d 33,200.00

40,000.00 40,000.00

b/d 33,200.00

D C D C

c/d 50,000.00 OV 50,000.00 (a) 3,000.00 (b) 3,000.00

b/d 50,000.00 (c) 3,800.00 (d) 3,800.00

(e) 5,400.00 (f) 5,400.00

(g) 3,750.00 (h) 3,750.00

15,950.00 15,950.00

(u) 4,000.00 (v) 4,000.00

D C D C

(a) 600.00 (i) 140.00 (i) 700.00

(c) 760.00 (k) 300.00 (k) 1,500.00

(e) 1,080.00 (m) 400.00 (m) 2,000.00

(g) 750.00 (o) 560.00 (o) 2,800.00

(q) 420.00 (q) 2,100.00

(s) 750.00 c/d 12,850.00 (s) 3,750.00

c/d 620.00 12,850.00 12,850.00

3,190.00 3,190.00 b/d 12,850.00

b/d 620.00 (w) 1,680.00 (w) 8,400.00

(u) 800.00 (y) 480.00 (y) 2,400.00

(A) 250.00 (A) 1,250.00

c/d 2,150.00 (C) 1,160.00 c/d 30,700.00 (C) 5,800.00

3,570.00 3,570.00 30,700.00 30,700.00

b/d 2,150.00 b/d 30,700.00

VAT Sales






D C D C

(j) 400.00 (E) 2,000.00 c/d 2,000.00

(l) 950.00 b/d 2,000.00

(n) 1,500.00

(p) 1,600.00

(r) 1,330.00

(t) 2,700.00 c/d 8,480.00

8,480.00 8,480.00

b/d 8,480.00

(x) 4,800.00

(z) 1,520.00

(B) 900.00

(D) 4,350.00 c/d 20,050.00

20,050.00 20,050.00

b/d 20,050.00

Cost of goods sold (COS) Rent




Inventory - Double Bed 800.00

Inventory - Queen Size 0.00

Inventory - Single Bed 1,800.00

Inventory - Kid's bed 0.00

Cash/Bank 33,200.00


Purchase 0.00 0.00

VAT 2,150.00

Sales 30,700.00

Cost of Goods Sold 20,050.00

Rent 2,000.00

Total: 82,850.00 82,850.00


TRIAL BALANCE

as at 31.12.20X3

Exhibit 34.12: WITSAND (Pty) Ltd.’s trial balance

At the end of the accounting period 20X3 WITSAND (Pty) Ltd. prepares the Trading account for the

calculation of the gross profit. The Cost of Goods Sold account is closed off to the Trading account. The

expenses are material expenses. Furthermore, the Sales account is closed off to the Trading account.

DR T/A .............................. 20,050.00 EUR




DR Sales ............................ 30,700.00 EUR

CR T/A .............................. 30,700.00 EUR

The gross profit of WITSAND (Pty) Ltd. amounts to 30,700 – 20,050 = 10,650.00 EUR. This amount is

transferred to the Profit and Loss account.

DR T/A .............................. 10,650.00 EUR

CR P&L Account ...................... 10,650.00 EUR

The Rent account is closed off to the Profit and Loss account.

DR P&L Account ...................... 2,000.00 EUR

CR Rent ............................. 2,000.00 EUR

The earnings before taxes are 10,650 – 2,000 = 8,650.00 EUR. The amount for income taxes is 8,650 x

30% = 2,595.00 EUR and for retained earnings 8,650 – 2,595 = 6,055.00 EUR and are transferred to the

Income Tax Liability account and the R/E account.

DR P&L .............................. 2,595.00 EUR


DR P&L .............................. 6,055.00 EUR



D C D C

OV 25,000.00 c/d 25,000.00 OV 600.00 (j) 400.00

b/d 25,000.00 (b) 3,000.00 (p) 1,600.00

c/d 1,600.00

3,600.00 3,600.00

b/d 1,600.00 (x) 4,800.00

(v) 4,000.00 c/d 800.00

5,600.00 5,600.00

b/d 800.00

D C D C

OV 0.00 (l) 950.00 OV 0.00 (t) 2,700.00

(d) 3,800.00 (r) 1,330.00 (f) 5,400.00 c/d 2,700.00

c/d 1,520.00 5,400.00 5,400.00

3,800.00 3,800.00 b/d 2,700.00 (B) 900.00

b/d 1,520.00 (z) 1,520.00 c/d 1,800.00

2,700.00 2,700.00

b/d 1,800.00






D C D C

OV 2,100.00 (n) 1,500.00 OV 22,300.00 (a) 3,600.00

(h) 3,750.00 c/d 4,350.00 (i) 840.00 (c) 4,560.00

5,850.00 5,850.00 (k) 1,800.00 (e) 6,480.00

b/d 4,350.00 (D) 4,350.00 (m) 2,400.00 (g) 4,500.00

(o) 3,360.00

(q) 2,520.00

(s) 4,500.00 c/d 18,580.00

37,720.00 37,720.00

b/d 18,580.00 (u) 4,800.00

(w) 10,080.00 (E) 2,000.00

(y) 2,880.00

(A) 1,500.00

(C) 6,960.00 c/d 33,200.00

40,000.00 40,000.00

b/d 33,200.00

D C D C

c/d 50,000.00 OV 50,000.00 (a) 3,000.00 (b) 3,000.00

b/d 50,000.00 (c) 3,800.00 (d) 3,800.00

(e) 5,400.00 (f) 5,400.00

(g) 3,750.00 (h) 3,750.00

15,950.00 15,950.00

(u) 4,000.00 (v) 4,000.00

D C D C

(a) 600.00 (i) 140.00 (i) 700.00

(c) 760.00 (k) 300.00 (k) 1,500.00

(e) 1,080.00 (m) 400.00 (m) 2,000.00

(g) 750.00 (o) 560.00 (o) 2,800.00

(q) 420.00 (q) 2,100.00

(s) 750.00 c/d 12,850.00 (s) 3,750.00

c/d 620.00 12,850.00 12,850.00

3,190.00 3,190.00 b/d 12,850.00

b/d 620.00 (w) 1,680.00 (w) 8,400.00

(u) 800.00 (y) 480.00 (y) 2,400.00

(A) 250.00 (A) 1,250.00

c/d 2,150.00 (C) 1,160.00 c/d 30,700.00 (C) 5,800.00

3,570.00 3,570.00 30,700.00 30,700.00

b/d 2,150.00 T/A 30,700.00 b/d 30,700.00

VAT Sales






D C D C

(j) 400.00 (E) 2,000.00 c/d 2,000.00

(l) 950.00 b/d 2,000.00

(n) 1,500.00

(p) 1,600.00

(r) 1,330.00

(t) 2,700.00 c/d 8,480.00

8,480.00 8,480.00

b/d 8,480.00

(x) 4,800.00

(z) 1,520.00

(B) 900.00

(D) 4,350.00 c/d 20,050.00

20,050.00 20,050.00

b/d 20,050.00 T/A 20,050.00

D C D C

COS 20,050.00 Sales 30,700.00 Rent 2,000.00 T/A 10,650.00

GP c/d 10,650.00 NP c/d 8,650.00

30,700.00 30,700.00 10,650.00 10,650.00

P&L 10,650.00 b/d 10,650.00 Tax 2,595.00 b/d 8,650.00

R/E 6,055.00

8,650.00 8,650.00

D C D C

c/d 2,595.00 P&L 2,595.00 c/d 6,055.00 P&L 6,055.00

b/d 2,595.00 b/d 6,055.00


Cost of goods sold (COS) Rent







Inventory - Double Bed 800.00

Inventory - Queen Size 0.00

Inventory - Single Bed 1,800.00

Inventory - Kid's bed 0.00

Cash/Bank 33,200.00


Purchase 0.00 0.00

VAT 2,150.00

Sales 0.00 0.00

Cost of Goods Sold 0.00 0.00

Rent 0.00 0.00



Total: 60,800.00 60,800.00



as at 31.12.20X3

Exhibit 34.14: WITSAND (Pty) Ltd.’s adjusted trial balance

Observe the financial statements as at 31.12.20X3 for WITSAND (Pty) Ltd. in exhibit 34.15 and exhibit

34.16. The amount for payables in the statement of financial position results from VAT payables. Inven-

tory is linked to the single accounts for beds and amounts in total to 800 + 1,800 = 2,600.00 EUR.

A C, L







A/R A/P 2,150.00



60,800.00 60,800.00

Witsands (Pty) Ltd.'s


as at 1.01.20X3


The statement of comprehensive income shows material expenses resulting from the cost of goods sold.



[EUR]

Revenue 30,700.00

Other income

30,700.00




Interest 0.00



Deferred taxes





Exhibit 34.16: WITSAND (Pty) Ltd.’s statement of comprehensive income

Summary:

Applying different inventory system doesn’t change the financial statements. When applying a perpetual

inventory system the company doesn’t have to run a stock count any more (only to verify the bookkeep-

ing records). The perpetual inventory system provides information about the stock amount at any time. It

is used by most companies.


Periodic Inventory System: A periodic inventory system is a method to determine material expenses

that is based on a stock count at the end of the accounting period.

Perpetual Inventory System: A perpetual inventory system is a method to determine material expenses

and to adjust stock levels at any time based on information about stock releases.



(35) Inventory Valuation / Manufacturing Accounting


In this chapter the basics of manufacturing accounting will be laid out. Manufacturing accounting is about

how to use the Work-In-Progress account and different Inventory accounts. The main idea of manufac-

turing accounting is to calculate the products produced by a business.

Inventory valuation is ruled by IAS 2 and § 255 HGB. Inventories are to be valued by their purchase price

which is the actual net amount they have been bought at. In case a company produces products finished

goods and goods not yet completed are to be valued at their cost of manufacturing. The costs of manufac-

turing are the costs that occur when a good is produced. Manufacturing costs are the cost for materials

which go into the product, labour which is linked to the production process, depreciation on manufactur-

ing machines like workshop depreciation, supplies, etc. Any costs that are not linked to the production of

the goods like accounting costs, marketing costs etc. must not be added to the cost of manufacturing. The

latter one are called non-manufacturing costs.

Production firms take materials and transform them into products. The production process is represented

by a Work-In-Progress account. This account can be seen like an internal job order which collects costs

from each and every cost centre the good is produced in. Some companies call the internal job orders cost

collectors.

The cost of manufacturing can be divided in direct costs like direct labour cost or direct materials and

overheads. The first category of costs is transferred to the Work-In-Progress account directly. The costs

are called direct costs because they can be allocated directly to the product produced by the company.

The Work-In-Progress account is an account used by production firms to allocate costs to the

products. It supports the calculation.

(Note, the calculation is the process to determine the unit cost of products produced in a firm. The unit

cost are the total cost of manufacturing that occurred by the production process divided by the amount of

products produced by the order. The amount of products produced by an order is called its lot size.)

However, all indirect costs cannot be traced to products that easily and need an allocation procedure to be

charged to products. We will name them overheads and put them into the Manufacturing Overhead ac-

count. A Manufacturing Overhead account is an account where all manufacturing costs that are

no direct costs are put into. In many companies the Manufacturing Overhead account is linked to cost

centres clearly. There often is a 1:1 relationship between cost centres and Manufacturing Overhead ac-

counts which means every cost centre gets its own Manufacturing Overhead account. Later the cost of the

cost centres which are the cost in the Manufacturing Overhead account will be transferred to the Work-

In-Progress account. This means the Manufacturing Overhead account will be closed off to the Work-in-

Progress accounts.

(Note, in some cases the Manufacturing overhead account cannot be cleared totally or there are too many

costs transferred to the Work-In-Progress account. The latter one is called over-application of overheads.)

The process of transferring costs from the Manufacturing Overhead account to the Work-In-

Progress account is called overhead application.

The balance of the Work-In-Progress account represents the cost of the products produced. To determine

the balancing figure of the Work-In-Progress account means to calculate the product. By dividing the

balance of the Work-in-Progress account by the amount of products produced one arrives at the unit cost.



The concept of manufacturing accounting becomes clearer once we observe an example.

We’ll illustrate the concept by an example which contains only 1 Work-In-Progress account and 2 Manu-

facturing Overhead accounts. For further details pls., check the chapter 9 of the text book Bilanzen.

RECTANGA Ltd. is an assembling firm for bicycles. The production process contains the assembling of

wheels, steer bars and saddles. Later the breaks are adjusted and quality control takes place. Cost centre 1

is called assembling-CC and cost centre 2 is fixing/quality management. In order to consider non-

manufacturing costs we assume there are 20,000.00 EUR advertising costs per year.

RECTANGA Ltd. provides the opening statement of financial position as displayed in exhibit 35.1.

A C, L







A/R A/P



150,000.00 150,000.00

Rectanga Ltd.'s


as at 1.01.20X9

Exhibit 35.1: RECTANGA Ltd.’s statement of financial position

The items of property, plant, and equipment are assembling and testing/checking devices acquired in

20X8 at cost of acquisition of 100,000.00 EUR. The amount is depreciated along straight line method

over a useful life of 5 years. This means that there is 100,000.00 EUR in the Property, Plant, and Equip-

ment account and 20,000.00 EUR in the Accumulated Depreciation account.

We transfer the opening amounts to the accounts as shown by exhibit 35.2:

D C D C

OV 100,000.00 OV 20,000.00

D C D C

OV 17,000.00 OV 53,000.00

P, P, E Acc depr

Raw materials inventory Cash/Bank

Exhibit 35.2: RECTANGA Ltd.’s accounts



D C D C

OV 100,000.00 OV 35,000.00

D C

OV 15,000.00

Issued capital Reserves


Exhibit 35.2: RECTANGA Ltd.’s accounts (continued)

The first bookkeeping entry is the payment of income taxes due from income taxes for the last year.

(1) Payment of income tax liabilities on 1.01.20X9

DR Tax Liabilities .................. 15,000.00 EUR

CR Cash/Bank ........................ 15,000.00 EUR

On 4.01.20X9 RECTANGA Ltd. buys raw materials. It buys 6,000 frames at 34.00 EUR/u (net amount),

13,000 wheels at 9.00 EUR/u (net amount), 10,000 steering bars at 5.50 EUR/u (net amount), and 7,000

saddles at 12.00 EUR/u (net amount). The opening amount of inventory contains 500 frames at 34.00

EUR/u. The purchases are made with one supplier and they agreed on a payment in the next year. The

total of purchase net amounts is 6,000 x 34 + 13,000 x 9 + 10,000 x 5.50 + 7,000 x 12 = 460,000.00

EUR. The gross amount is 460,000 x 120% = 552,000.00 EUR. As RECTANGA Ltd. runs a perpetual

inventory system we add the purchased materials to inventory directly.

(2) Purchases on credit on 4.01.20X9

DR Inventory ........................ 460,000.00 EUR

DR VAT .............................. 92,000.00 EUR


RECTANGLE Ltd. produces 6,000 bicycles during 20X9. For the production 6,000 frames, 12,000

wheels, 6,000 steering bars, and 6,000 saddles are released from stock. The amount of direct materials

amounts to 6,000 x 34 + 12,000 x 9 + 6,000 x 5.50 + 6,000 x 12 = 417,000.00 EUR. The amount is put

into the Work-In-Progress (WIP) account therefore.

(3) Releasing raw materials from stock on 5.01.20X9

DR WIP .............................. 417,000.00 EUR

CR Inventory ........................ 417,000.00 EUR

During 20X9 RECTANGA Ltd. has labour cost of 180,000.00 EUR and depreciation of 20,000.00 EUR.

See the bookkeeping entries below which takes place in the middle of the year to keep the example easy.

(4) Posting labour on 30.06.20X9

DR Labour ........................... 180,000.00 EUR

CR Cash/Bank ........................ 180,000.00 EUR



(5) Posting depreciation on 31.12.20X9



Labour and depreciation are indirect cost and are linked to the cost centres. In cost centre assembling

there is an amount of 120,000.00 EUR/a for labour and in cost centre fixing/quality management it is

60,000.00 EUR. The amount of depreciation is divided on a half : half ratio between the two cost centres.

RECTANGA Ltd. uses 2 Manufacturing Overhead accounts (MOH) which takes the name of the cost

centre:

(6 … 9) Indirect labour costs and depreciation are posted on 30.06.20X9 to the Manufacturing Overhead

accounts

DR MOH Assembling ................... 120,000.00 EUR

CR Labour ........................... 120,000.00 EUR

DR MOH Fixing/QM .................... 60,000.00 EUR

CR Labour ........................... 60,000.00 EUR

DR MOH Assembling ................... 10,000.00 EUR


DR MOH Fixing/QM .................... 10,000.00 EUR


On 1.10.20X9 the production of the bicycles is finished and the manufacturing overheads are applied in

full. There is the transfer of manufacturing overheads from the assembling department and another one

from the fixing/QM department.

(10, 11) Application of overheads on 1.10.20X9

DR WIP .............................. 130,000.00 EUR

CR MOH Assembling ................... 130,000.00 EUR

DR WIP .............................. 70,000.00 EUR

CR MOH Fixing/QM .................... 70,000.00 EUR

As the production has been completed the Work-in-Progress account is closed off to the Finished Goods

Inventory account.

(12) Closing off WIP account on 1.10.20X9

DR FG Inventory ..................... 617,000.00 EUR

CR WIP .............................. 617,000.00 EUR



On 20.12.20X9 RECTANGA sells 5,700 bicycles at 210.00 EUR net selling price each. This leads to 2

bookkeeping entries. One is for the money received and the next one is for the bicycles taken from stock

(FG Inventory account). The use of the products produced before is seen as an expense. For these kinds

of expenses the Cost of Goods Sold account is in use. The production of bicycles is not seen as an ex-

pense as long as the products stay still on stock. Once they get sold a bookkeeping entry for expenses is to

be made. The expenses will be transferred to the Profit and Loss account later. The second bookkeeping

entry is for the consideration of the money received from the customers.

RECTANGA Ltd. has cost of goods sold to the extent of 5,700 x (617,000/6,000) = 586,150.00 EUR.

(13) Expensing 5,700 finished goods on 20.12.20X9


CR FG Inventory ..................... 586,150.00 EUR

The balancing figure of the Finished Goods Inventory account represents the closing stock of assembled

and fixed bicycles. It amounts to 617,000 – 586,150 = 30,850.00 EUR. We are aware that there are 300

bicycles on stock. The average costs for one bicycle which is still on stock amount to 30,850 / 300 =

102.83 EUR. The same amount could be retrieved by taking the total of the Work-In-Progress account

and divide it by the amount of bicycles produced: 617,000 / 6,000 = 102.83 EUR.

(Note, this example is fairly easy as there is only one job order to produce bicycles. In case a company

runs more orders every job order is linked to an own account. The reconciliation account for all job or-

ders will be the Work-In-Progress account. See chapter 9 of the text book Bilanzen for further details.)

The other bookkeeping entry is about the sale of the bicycles. The net selling price amounts to 5,700 x 210

= 1,197,000.00 EUR. The amount of cash received is 1,197,000 x 120% = 1,436,400.00 EUR.

(14) Sale on bicycles on 20.12.20X9

DR Cash/Bank ........................ 1,436,400.00 EUR

CR VAT .............................. 239,400.00 EUR

CR Sales ............................ 1,197,000.00 EUR

There are further expenses for advertising that amount to 20,000.00 EUR/a and are paid in the middle of

the year. These expenses are non-manufacturing expenses and must not count for the inventory valuation.

(15) Posting advertising on 30.06.20X9

DR Advertising ...................... 20,000.00 EUR

CR Cash/Bank ........................ 20,000.00 EUR

The bookkeeper of RECTANGA Ltd. balances off all accounts and prepares a trial balance. Observe the

accounts and the trial balance in the exhibits 35.3 and 35.4:



D C D C

OV 100,000.00 c/d 100,000.00 OV 20,000.00

b/d 100,000.00 c/d 40,000.00 (5) 20,000.00

40,000.00 40,000.00

b/d 40,000.00

D C D C

OV 17,000.00 (3) 417,000.00 OV 53,000.00 (1) 15,000.00

(2) 460,000.00 c/d 60,000.00 (14) 1,436,400.00 (4) 180,000.00

477,000.00 477,000.00 (15) 20,000.00

b/d 60,000.00 c/d 1,274,400.00

1,489,400.00 1,489,400.00

b/d 1,274,400.00

D C D C

c/d 100,000.00 OV 100,000.00 c/d 35,000.00 OV 35,000.00

b/d 100,000.00 b/d 35,000.00

D C D C

(1) 15,000.00 OV 15,000.00 (2) 92,000.00 (14) 239,400.00

c/d 147,400.00

239,400.00 239,400.00

b/d 147,400.00

D C D C

c/d 552,000.00 (2) 552,000.00 (3) 417,000.00 (12) 617,000.00

b/d 552,000.00 (10) 130,000.00

(11) 70,000.00

617,000.00 617,000.00

D C D C

(4) 180,000.00 (6) 120,000.00 (5) 20,000.00 (8) 10,000.00

(7) 60,000.00 (9) 10,000.00

180,000.00 180,000.00 20,000.00 20,000.00

D C D C

(6) 120,000.00 (10) 130,000.00 (7) 60,000.00 (11) 70,000.00

(8) 10,000.00 (9) 10,000.00

130,000.00 130,000.00 70,000.00 70,000.00

Labour Depreciation

MOH assembling MOH fixing/QM

P, P, E Acc depr


Accounts payables WIP






D C D C

(12) 617,000.00 (13) 586,150.00 (13) 586,150.00 c/d 586,150.00

c/d 30,850.00 b/d 586,150.00

617,000.00 617,000.00

b/d 30,850.00

D C D C

c/d 1,197,000.00 (14) 1,197,000.00 (15) 20,000.00 c/d 20,000.00

b/d 1,197,000.00 b/d 20,000.00

FG Inventory Cost of Goods Sold

Sales Advertising





Raw Materials Inventory 60,000.00

Cash/Bank 1,274,400.00


Reserves 35,000.00


VAT 147,400.00

Accounts Payables 552,000.00

WIP 0.00 0.00

Labour 0.00 0.00


MOH Assembling 0.00 0.00

MOH Fixing/QM 0.00 0.00


Cost of Goods Sold 586,150.00

Sales 1,197,000.00

Advertising 20,000.00

Total: 2,071,400.00 2,071,400.00

Rectanga Ltd.'s

TRIAL BALANCE

as at 31.12.20X9

Exhibit 35.4: RECTANGA Ltd.’s trial balance

The profit and loss is calculated based on bookkeeping entries for manufacturing accounting and accounts

for non-manufacturing expenses. IAS 2 requires the valuation of inventories.

Here, there are 300 bicycles still on the finished goods stock which require a valuation along the cost of

manufacturing. Non-manufacturing costs like advertising must not be part of the cost of manufacturing.

The profit calculation is based on the Profit and Loss account. The following bookkeeping entries are

made therein.



DR Sales ............................ 1,197,000.00 EUR



CR Cost of Goods Sold (COS) ......... 586,150.00 EUR


CR Advertising ...................... 20,000.00 EUR

RECTANGA Ltd. earned a profit of 590,850.00 EUR. The amount of income taxes is 590,850 x 30% =

177,255.00 EUR. The remaining amount is transferred to the Retained Earnings account.

The inventory valuation displays an amount of 30,850.00 EUR. Per bicycle the inventory is 30,850 / 300

= 102.83 EUR. These are the costs of manufacturing per finished good.

(Note, in case a business is not able to close off the Work-In-Progress account to the Finished Goods

Inventory account the balancing figure of the Work-In-Progress represents the value of goods which are

still under production. Companies represent them on the face of the statement of financial position as an

item called Work-In-Progress.)


D C D C

OV 100,000.00 c/d 100,000.00 OV 20,000.00

b/d 100,000.00 c/d 40,000.00 (5) 20,000.00

40,000.00 40,000.00

b/d 40,000.00

D C D C

OV 17,000.00 (3) 417,000.00 OV 53,000.00 (1) 15,000.00

(2) 460,000.00 c/d 60,000.00 (14) 1,436,400.00 (4) 180,000.00

477,000.00 477,000.00 (15) 20,000.00

b/d 60,000.00 c/d 1,274,400.00

1,489,400.00 1,489,400.00

b/d 1,274,400.00

D C D C

c/d 100,000.00 OV 100,000.00 c/d 35,000.00 OV 35,000.00

b/d 100,000.00 b/d 35,000.00


P, P, E Acc depr





D C D C

(1) 15,000.00 OV 15,000.00 (2) 92,000.00 (14) 239,400.00

c/d 177,255.00 P&L 177,255.00 c/d 147,400.00

b/d 177,255.00 239,400.00 239,400.00

b/d 147,400.00

D C D C

c/d 552,000.00 (2) 552,000.00 (3) 417,000.00 (12) 617,000.00

b/d 552,000.00 (10) 130,000.00

(11) 70,000.00

617,000.00 617,000.00

D C D C

(4) 180,000.00 (6) 120,000.00 (5) 20,000.00 (8) 10,000.00

(7) 60,000.00 (9) 10,000.00

180,000.00 180,000.00 20,000.00 20,000.00

D C D C

(6) 120,000.00 (10) 130,000.00 (7) 60,000.00 (11) 70,000.00

(8) 10,000.00 (9) 10,000.00

130,000.00 130,000.00 70,000.00 70,000.00

D C D C

(12) 617,000.00 (13) 586,150.00 (13) 586,150.00 c/d 586,150.00

c/d 30,850.00 b/d 586,150.00 P&L 586,150.00

617,000.00 617,000.00

b/d 30,850.00

D C D C

c/d 1,197,000.00 (14) 1,197,000.00 (15) 20,000.00 c/d 20,000.00

P&L 1,197,000.00 b/d 1,197,000.00 b/d 20,000.00 P&L 20,000.00

D C D C

CoS 586,150.00 Sales 1,197,000.00 c/d 413,595.00 P&L 413,595.00

GM c/d 610,850.00 b/d 413,595.00

1,197,000.00 1,197,000.00

Adv 20,000.00 b/d 610,850.00

NP c/d 590,850.00

610,850.00 610,850.00

ITL 177,255.00 b/d 590,850.00

R/E 413,595.00

590,850.00 590,850.00

Accounts payables WIP


Labour Depreciation

MOH assembling MOH fixing/QM

FG Inventory Cost of Goods Sold

Sales Advertising

Profit and Loss R/E


The adjusted trial balance looks as displayed in exhibit 35.6.




Property, Plant, and Equipment 100.000,00

Accumulated Depreciation 40.000,00

Raw Materials Inventory 60.000,00

Cash/Bank 1.274.400,00

Issued Capital 100.000,00

Reserves 35.000,00

Income Tax Liabilities 0,00 177.255,00

VAT 147.400,00

Accounts Payables 552.000,00

WIP 0,00 0,00

Labour 0,00 0,00

Depreciation 0,00 0,00

MOH Assembling 0,00 0,00

MOH Fixing/QM 0,00 0,00

Finished Goods Inventory 30.850,00

Cost of Goods Sold 0,00 0,00

Sales 0,00 0,00

Advertising 0,00

Retained Earnings 413.595,00

Total: 1.465.250,00 1.465.250,00

Rectanga Ltd.'s


as at 31.12.20X9

Exhibit 35.6: RECTANGA Ltd.’s adjusted trial balance

RECTANGA Ltd.’s financial statements look as below: The amount for inventories in the statement of

financial position contains raw materials and finished goods. It is 60,000 + 30,850 = 90,850.00 EUR. The

amount for payables contains the open bill from the supplier and VAT payables: 552,000 + 147,400 =

699,400.00 EUR.

(Note, the statement of financial position has been prepared without consideration of the appropriation of

profit. It is not required for this example and would have made the case study more complicated than

necessary.)



A C, L


P, P, E 60.000,00 Share capital 100.000,00

Intangibles Reserves 35.000,00

Financial assets R/E 413.595,00


Inventory 90.850,00 Interest bear liab

A/R A/P 699.400,00


Cash/Bank 1.274.400,00 Tax liabilities 177.255,00

1.425.250,00 1.425.250,00

Rectanga Ltd.'s


as at 31.12.20X9

Exhibit 35.7: RECTANGA Ltd.’s statement of financial position

The statement of comprehensive income is prepared along the cost of sales format. Observe below:

[EUR]

Revenue 1,197,000.00

Other income

1,197,000.00




Interest



Deferred taxes


Rectanga Ltd.'s



Exhibit 35.8: RECTANGA Ltd.’s statement of comprehensive income

Summary:

Production firms calculate products they produce by the Work-In-Progress account. All direct expenses

are debited to this account. Furthermore, the total of applied overheads is transferred to the Work-In-

Progress account from the Manufacturing Overheads accounts. The finished goods are put to a special

inventory account called Finished Goods Inventory account.

Manufacturing accounting is required by IAS 2 and §§ 253, 255 HGB for inventory valuation. The total

amount of inventory is the sum of raw materials, finished goods and work-in-progress.



Definitions:

Overhead Application: The process of transferring costs from the Manufacturing Overhead account to

the Work-In-Progress account is called overhead application.

Work-In-Progress Account: The Work-In-Progress account is an account used by production firms to

allocate costs to the products. It supports the calculation

Manufacturing Overhead Account: A Manufacturing Overhead account is an account where all manu-

facturing costs that are no direct costs are put into.



(36) Cost Formulas


In this chapter we’ll introduce the use of cost formulas by an easy example to get the concept of inventory

valuation understood. We’ll show that the application of different formulas will lead to different inventory

valuations.

In general valuations are to be done individually. All items of non-current assets and all items of current

assets will be valuated separately. However, in case an individual valuation is not possible or economically

not applicable companies are allowed to value equal or very similar assets together and to assume a partic-

ular order the assets are used by. This is very often the case when items of inventory are bought during the

accounting period at different prices and it is not possible to find out which of the items has been released

from stock at first. Think of a box of screws in workshop department. The screws might have been

bought at different purchase prices but they are all the same. Whenever new packages of screws are

bought they are put into the box. After a while the screws in the box are mixed and it is no longer possible

to determine at which price a particular screw has been purchased. A similar situation applies for tanks

where fluids are filled in. You do not know which fuel is used by your car when you filled it up at different

prices provided you do not empty your tank completely.

The change of applied formulas is not allowed in accounting. If the formula has to be changed it normally

has to be done for all similar assets together and there has to be an important reason to do so.

The most popular cost formulas are first-in-first-out (FIFO), last-in-first-out (LIFO), and weighted aver-

age. A company that applies the first-in-first-out cost formula assumes that the items of inventory will be

used in the same sequence as they have been bought. FIFO is allowed along IFRSs and HGB. Last-in-

first-out applies when it can be assumed that the items are piled up and the goods released from stock will

be taken from the top of the pile. Last-in-first-out only is to be applied in case the real order of consump-

tion follows this principle. Think about a company that deals with steal mats which are very heavy and

actually piles up the steal mats on the floor. It is very unlikely that the steal mats lying at the bottom of the

pile will be used before not all other ones which lay on top thereof have been finished up.

(Note, most of the people use LIFO as a sequence they take plates out of the cupboard. The plate on the

bottom is the one that hasn’t been in use for a while.)

Weighted average method means that the average of the assets on stock will be calculated before each and

every take-out.

We’ll explain the application of different cost formulas by the example MALGAS (Pty) Ltd. which is a

local fashion store (trading business). As the cost formulas affect the profit we are going to explain the use

of the formulas by an example which includes the profit calculation as well.

MALGAS (Pty) Ltd. shows the statement of financial position as provided by exhibit 36.1.



A C, L







A/R A/P 50,000.00



150,000.00 150,000.00

Malgas (Pty) Ltd.'s


as at 31.12.20X3

Exhibit 36.1: MALGAS (Pty) Ltd.’s statement of financial position

The opening value of the stock results from 10 dresses at a purchase price of 700.00 EUR each. On

2.02.20X4 MALGAS (Pty) Ltd. buys further 50 dresses at a net amount of 710.00 EUR/u on cash. The

net amount is 50 x 710 = 35,500.00 EUR. The gross amount is 35,500 x 120% = 42,600.00 EUR.

(1) Purchase of 50 dresses on 2.02.20X4

DR Purchase ......................... 35,500.00 EUR

DR VAT .............................. 7,100.00 EUR

CR Cash/Bank ........................ 42,600.00 EUR

The dresses are transferred to inventory because MALGAS (Pty) Ltd. has a perpetual inventory system in

use.

(2) Transfer purchases to inventory on 2.02.2013

DR Inventory ........................ 35,500.00 EUR

CR Purchase ......................... 35,500.00 EUR

MALGAS (Pty) Ltd. sells on 4.04.20X4 28 dresses at a net selling price 990.00 EUR on cash. See

bookkeeping entry (3, 4) below. The bookkeeping entry (4) differs depending on the cost formula applied.

It will be shown further down in this chapter and the bookkeeping number will indicate which the cost

formula in use.

For bookkeeping entry (3) the amount of sales is 28 x 990 = 27,720.00 EUR. The gross amount is 27,720

x 120% = 33,264.00 EUR.

(3) Sale of 28 dresses on 4.04.20X4.

DR Cash/Bank ........................ 33,264.00 EUR

CR VAT .............................. 5,544.00 EUR

CR Sales ............................ 27,720.00 EUR



On 5.5.20X4 MALGAS (Pty) Ltd. purchases another 50 dresses at 720.00 EUR/u. The net amount is 50 x

720 = 36,000.00 EUR. The gross amount is 36,000 x 120% = 43,200.00 EUR.

(5) Purchase of 50 dresses on 5.05.20X4 on cash.

DR Purchase ......................... 36,000.00 EUR

DR VAT .............................. 7,200.00 EUR

CR Cash/Bank ........................ 43,200.00 EUR

(6) Putting the purchases on stock on 5.05.20X4

DR Inventory ........................ 36,000.00 EUR

CR Purchase ......................... 36,000.00 EUR

MALGAS (Pty) Ltd. sells 53 dresses on 6.06.20X4 at a net selling price of 990.00 EUR/u on cash. The

amount of sales is 53 x 990 = 52,470.00 EUR. The gross amount is 52,470 x 120% =62,964.00 EUR.

(7) Sale of 53 dresses on 6.06.20X4

DR Cash/Bank ........................ 62,964.00 EUR

CR VAT .............................. 10,494.00 EUR

CR Sales ............................ 52,470.00 EUR

The bookkeeping entry (8) depends on the cost formula applied. See it further down in this chapter.

We now apply different cost formulas for the stock releases. These formulas are (A) weighted average

method, (B) first-in-first-out, and (C) last-in-first-out.

Weighted Average (A):

When MALGAS (Pty) Ltd. applies the weighted average method the dresses sold on 4.04.20X4 are valued

at the average price taking under consideration the different amounts of dresses at different prices. The

unit costs are (10 x 700 + 50 x 710)/60 = 708.33 EUR/u. The release from stock is then 28 x 708.77 =

19,833.33 EUR.

(A4) Releasing dresses from stock on 4.04.20X4


CR Inventory ........................ 19,833.33 EUR

The amount of the dresses sold on 6.06.20X4 is 53 x (((60 – 28) x 708.33 + 50 x 720)/((60 – 28) + 50)) =

37,918.63 EUR. One dress is worth (((57 – 28) x 708.77 + 50 x 720)/((57 – 28) + 50)) = 715.45 EUR/u.

(A8) Releases from stock on 6.06.20X4


CR Inventory ........................ 37,918.63 EUR



The accountant balances off all accounts and prepares the profit and loss account. Observe the accounts

in exhibit 36.2:

D C D C

OV 100,000.00 c/d 100,000.00 OV 7,000.00 (A4) 19,833.33

b/d 100,000.00 (2) 35,500.00 (A8) 37,918.63

(6) 36,000.00 c/d 20,748.04

78,500.00 78,500.00

b/d 20,748.04

D C D C

OV 43,000.00 (1) 42,600.00 c/d 100,000.00 OV 100,000.00

(3) 33,264.00 (5) 43,200.00 b/d 100,000.00

(7) 62,964.00 c/d 53,428.00

139,228.00 139,228.00

b/d 53,428.00

D C D C

c/d 50,000.00 OV 50,000.00 (1) 35,500.00 (2) 35,500.00

b/d 50,000.00 (5) 36,000.00 (6) 36,000.00

71,500.00 71,500.00

D C D C

(1) 7,100.00 (3) 5,544.00 (3) 27,720.00

(4) 7,200.00 (7) 10,494.00 c/d 80,190.00 (7) 52,470.00

c/d 1,738.00 80,190.00 80,190.00

16,038.00 16,038.00 P&L 80,190.00 b/d 80,190.00

b/d 1,738.00

D C D C

(A4) 19,833.00 COS 57,751.63 Sales 80,190.00

(A8) 37,918.63 c/d 57,751.63 NP c/d 22,438.37

57,751.63 57,751.63 80,190.00 80,190.00

b/d 57,751.63 Tax 6,731.51 b/d 22,438.37

R/E 15,706.86

22,438.37 22,438.37

D C D C

c/d 6,731.51 P&L 6,731.51 c/d 15,706.86 P&L 15,706.86

b/d 6,731.51 b/d 15,706.86


P, P, E Inventory


Cost of goods sold (COS) Profit and Loss

Accounts payables Purchase

VAT Sales

Exhibit 36.2: MALGAS (Pty) Ltd. accounts (A)

Observe the statement of comprehensive income in exhibit 36.3:



[EUR]

Revenue 80,190.00

Other income

80,190.00

COS 57,751.96


Interest 0.00



Deferred taxes


Malgas (Pty) Ltd.'s



Exhibit 36.3: MALGAS (Pty) Ltd.’s statement of comprehensive income

The statement of financial position is given by exhibit 36.4. Note the amount for inventories depends on

the valuation along the cost formula. Here the amount is (10 + 50 – 28 + 50 – 53) x 715.45 = 20,748.05

EUR.

A C, L







A/R A/P 51,738.00



174,176.04 174,176.04

Malgas (Pty) Ltd.'s


as at 31.12.20X3

Exhibit 36.4: MALGAS (Pty) Ltd.’s statement of financial position (A)

First-In-First-Out (B):

When applying the first-in-first-out formula the dresses sold at first are valued at their purchase costs. The

first dresses are valued at 700.00 EUR/u and the next ones at 710.00 EUR/u. The cost of goods sold are

then 10 x 700 + 18 x 710 = 19,780.00 EUR/u.



(B4) Releasing dresses from stock on 4.04.20X4


CR Inventory ........................ 19,780.00 EUR

After that release there are still 32 dresses at 710.00 EUR/u on stock. For the second release the value is

32 x 710 + (53 – 32) x 720 = 37,840.00 EUR.

(B8) Releasing 53 dresses from stock on 6.06.20X4


CR Inventory ........................ 37,840.00 EUR

Observe the accounts for MALGAS (Pty) Ltd. in exhibit 36.5.

D C D C

OV 100,000.00 c/d 100,000.00 OV 7,000.00 (A4) 19,780.00

b/d 100,000.00 (2) 35,500.00 (A8) 37,840.00

(6) 36,000.00 c/d 20,880.00

78,500.00 78,500.00

b/d 20,880.00

D C D C

OV 43,000.00 (1) 42,600.00 c/d 100,000.00 OV 100,000.00

(3) 33,264.00 (5) 43,200.00 b/d 100,000.00

(7) 62,964.00 c/d 53,428.00

139,228.00 139,228.00

b/d 53,428.00

D C D C

c/d 50,000.00 OV 50,000.00 (1) 35,500.00 (2) 35,500.00

b/d 50,000.00 (5) 36,000.00 (6) 36,000.00

71,500.00 71,500.00

D C D C

(1) 7,100.00 (3) 5,544.00 (3) 27,720.00

(4) 7,200.00 (7) 10,494.00 c/d 80,190.00 (7) 52,470.00

c/d 1,738.00 80,190.00 80,190.00

16,038.00 16,038.00 P&L 80,190.00 b/d 80,190.00

b/d 1,738.00


VAT Sales

P, P, E Inventory


Exhibit 36.5: MALGAS (Pty) Ltd.’s accounts (B)



D C D C

(A4) 19,780.00 COS 57,620.00 Sales 80,190.00

(A8) 37,840.00 c/d 57,620.00 NP c/d 22,570.00

57,620.00 57,620.00 80,190.00 80,190.00

b/d 57,620.00 Tax 6,771.00 b/d 22,570.00

R/E 15,799.00

22,570.00 22,570.00

D C D C

c/d 6,771.00 P&L 6,771.00 c/d 15,799.00 P&L 15,799.00

b/d 6,771.00 b/d 15,799.00



Exhibit 36.5: MALGAS (Pty) Ltd.’s accounts (B) (continued)

The statement of comprehensive income displays a slightly higher profit now compared to the weighted

average method.

[EUR]

Revenue 80,190.00

Other income

80,190.00

COS 57,620.00


Interest 0.00



Deferred taxes


Malgas (Pty) Ltd.'s



Exhibit 36.6: MALGAS (Pty) Ltd.’s statement of comprehensive income (B)

Observe the statement of financial position in exhibit 36.7. The amount of closing stock in the statement

of financial position now is 29 x 720 = 20,880.00 EUR.



A C, L







A/R A/P 51,738.00



174,308.00 174,308.00

Malgas (Pty) Ltd.'s


as at 31.12.20X3

Exhibit 36.7: MALGAS (Pty) Ltd.’s statement of financial position (B)

Last-In-First-Out (C):

The last-in-first-out formula is not the one that normally is in use. It only can be used exceptional.

The first stock release will be taken from the first input, so it amounts to 28 x 710 = 19,880.00 EUR.

(C4) Release of 28 dresses on 4.04.20X4


CR Inventory ........................ 19,880.00 EUR

The second release is taken from the second purchase and to the extent of 3 dresses from the second

purchase. The amount is 50 x 720 + 3 x 710 = 38,130.00 EUR.

(C8) Second release of dresses on 6.06.20X4


CR Inventory ........................ 19,880.00 EUR




D C D C

OV 100,000.00 c/d 100,000.00 OV 7,000.00 (A4) 19,880.00

b/d 100,000.00 (2) 35,500.00 (A8) 38,130.00

(6) 36,000.00 c/d 20,490.00

78,500.00 78,500.00

b/d 20,490.00

D C D C

OV 43,000.00 (1) 42,600.00 c/d 100,000.00 OV 100,000.00

(3) 33,264.00 (5) 43,200.00 b/d 100,000.00

(7) 62,964.00 c/d 53,428.00

139,228.00 139,228.00

b/d 53,428.00

D C D C

c/d 50,000.00 OV 50,000.00 (1) 35,500.00 (2) 35,500.00

b/d 50,000.00 (5) 36,000.00 (6) 36,000.00

71,500.00 71,500.00

D C D C

(1) 7,100.00 (3) 5,544.00 (3) 27,720.00

(4) 7,200.00 (7) 10,494.00 c/d 80,190.00 (7) 52,470.00

c/d 1,738.00 80,190.00 80,190.00

16,038.00 16,038.00 P&L 80,190.00 b/d 80,190.00

b/d 1,738.00

D C D C

(A4) 19,880.00 COS 58,710.00 Sales 80,190.00

(A8) 38,830.00 c/d 58,710.00 NP c/d 21,480.00

58,710.00 58,710.00 80,190.00 80,190.00

b/d 58,710.00 Tax 6,444.00 b/d 21,480.00

R/E 15,036.00

21,480.00 21,480.00

D C D C

c/d 6,444.00 P&L 6,444.00 c/d 15,036.00 P&L 15,036.00

b/d 6,444.00 b/d 15,036.00



VAT Sales

P, P, E Inventory



Exhibit 36.8: MALGAS (Pty) Ltd.’s accounts (C)

Now, the profit of MALGAS (Pty) Ltd. is lower. Observe the statement of comprehensive income in

exhibit 36.9:



[EUR]

Revenue 80,190.00

Other income

80,190.00

COS 58,710.00


Interest 0.00



Deferred taxes


Malgas (Pty) Ltd.'s



Exhibit 36.9: MALGAS (Pty) Ltd.’s statement of comprehensive income (C)

In the balance sheet the closing stock of inventories is about the opening value of 7,000.00 EUR plus the

amount which is left over from the first purchase. These are 50 – 28 – 3 = 19 dresses. The closing stock

therefore is 10 x 700 + 19 x 710 = 20,490.00 EUR.

A C, L







A/R A/P 51,738.00



173,918.00 173,218.00

Malgas (Pty) Ltd.'s


as at 31.12.20X3

Exhibit 36.10: MALGAS (Pty) Ltd.’s statement of financial position (C)

The last-in-first-out method reduces the profit in case of increasing prices. A company could decrease its

profit substantially by just buying a lot of inventory. This is one of the reasons why you should only make

use of this method exceptional for commercial financial statements and the tax statements.



Summary:

When items of inventory are similar or equal each other and the effort to track the purchase prices is too

high the financial statements can use cost formulas to simplify the accounting process. The most popular

formulas are weighted average method, first-in-first-out, and exceptionally: last-in-first-out formula.



(37) Income Statement along the Cost of Sales Format


In this chapter we’ll introduce another format for the statement of comprehensive income. We’ll show

how to retrieve the income statement’s information from the bookkeeping records.

Many companies use the statement of comprehensive income for making management decisions. The

comparison of revenue and expenses shows how the business earns its money. There are two ways to set

up a statement of comprehensive income: the nature of expense method and the cost of sales format.

However, both formats will give the same profit before taxes, so it doesn’t really matter which format a

company uses.

The difference between the formats only is relevant once a company produces more or less goods than it

sells during the accounting period. In this situation there will be changes in terms of the finished goods’

inventory amount. As the statement of comprehensive income has to compare revenues and expenses

both amounts should be linked to the same quantity of goods. In case the company changes inventories of

finished goods or of work-in-progress the comparison requires either adjusting the revenue or the expens-

es to achieve proper information about the profit. The nature of expense method adjusts revenues by

adding or deducting changes in inventory of finished or semi-finished goods whereas the cost of sales

format adjusts the expenses so that only expenses of goods sold will be taken into consideration.

A statement of comprehensive income along the nature of expense method calculates profit by

deducting all expenses that occurred during the accounting period from the revenue and adjusts

the revenue by adding changes of inventories when there is an increase thereof and deducting

changes of inventories when there is a decrease thereof.

A statement of comprehensive income along the cost of sales format calculates profit by deduct-

ing those expenses that are caused by the purchase or production of goods sold from the revenue.

Very often companies that prepare the income statement along the cost of sales format use the Cost of

Goods Sold (COS) account. The huge advantage of the statement of comprehensive income along the

cost of sales format is the chance to prepare a statement that differs along different products, customer

groups, regions, or market segments. It tells the company the contribution margin of its products which is

relevant for making marketing decisions about the product mix or about the priority of products for the

company. A contribution margin is a product’s revenue less its proportional costs. The contribution

margin gets its name from the fact that the contribution margins of all products should cover all fixed

costs in order to earn a profit. In other words: the contribution margin is the product’s portion to cover

the fixed costs of the whole business.

We now explain the difference between the formats for the statement of comprehensive income by a case

study of a production firm that produces more goods than it can sell. We first prepare the statement of

comprehensive income along the nature of expense method as we are used to do. In the next step we are

going to prepare the same statements along the cost of sales format. At the beginning we are going to

make the bookkeeping entries that are the same for both methods. Later we will use bookkeeping entries

for the nature of expense method and for the cost of sales format separate to each other.

ASHTON Ltd. is a wine farm. The company produces pinotage and merlot wine. The business is estab-

lished on 1.01.20X4 by an ordinary share issue of 100,000 shares at 10.00 EUR each.



(1) Share issue on 1.01.20X4

DR Cash/Bank ........................ 1,000,000.00 EUR

CR Issued Capital ................... 1,000,000.00 EUR

The business concept is to use land and plant vines thereon, to harvest the grapes, to put them into barrels

and to fill them into bottles. The business process requires resources as land, labour, and materials like

vines and bottles.

On 3.01.20X4 ASHTON Ltd. takes a bank loan for financing its business of 500,000.00 EUR from their

house bank. The rate of interest is 5 % and there is an amount of 50,000 EUR to be paid-off every year.

(2) Lending 500,000.00 EUR from the bank on 3.01.20X4

DR Cash/Bank ........................ 500,000.00 EUR


(3, 4) Paying interest and pay-off for the bank loan on 31.12.20X4. Interest is 5% x 500,000 = 25,000.00

EUR.

DR Interest ......................... 25,000.00 EUR

CR Cash/Bank ........................ 25,000.00 EUR


CR Cash/Bank ........................ 50,000.00 EUR

ASHTON Ltd. buys land and vines at 2,000,000.00 EUR (net amount). The land cost 40 % thereof.

ASHTON pays for the pinotage vines 40 % more than for the merlot vines even as the amount of plants

is the same. Do not depreciate land as it lasts forever and won’t get deployed. The vines can be used for

10 years and are depreciated along straight line method.

(5) Acquisition of land and vines on 5.01.20X4, the land at first

DR P, P, E - Land ................... 800,000.00 EUR

DR VAT .............................. 160,000.00 EUR

CR Cash/Bank ........................ 960,000.00 EUR

Buying vines at a ratio 140 : 100, which is 7 : 5. According to this ratio the pinotage vines costs 7 x 60% x

2,000,000 / 12 = 700,000.00 EUR. The merlot vines are 700,000 / 140% = 500,000.00 EUR.

(6, 7) Acquisition of vines on 5.01.20X4

DR P, P, E – Pinotage ............... 700,000.00 EUR

DR VAT .............................. 140,000.00 EUR

CR Cash/Bank ........................ 840,000.00 EUR



DR P, P, E – Merlot ................. 500,000.00 EUR

DR VAT ............................. 100,000.00 EUR

CR Cash/Bank ........................ 600,000.00 EUR

Depreciation on pinotage vines amounts to 700,000 / 10 = 70,000.00 EUR. Depreciation on merlot vines

is 500,000 / 10 = 50,000.00 EUR.

(8, 9) Depreciation on vines posted on 31.12.20X4


CR Acc. Depr. – Pinotage ............ 70,000.00 EUR


CR Acc. Depr. – Merlot .............. 50,000.00 EUR

ASTHON Ltd. buys 10 barrels at 50,000 litres each at cost of acquisition of 400,000.00 EUR (all together)

on 6.01.20X4. The amount is net of VAT, however you have to consider input VAT still. The barrels can

be used over a period of 20 years. The depreciation method is straight line method without any residual

value.

(10) Acquisition of barrels on 6.01.20X4

DR P, P, E – Barrels ................ 400,000.00 EUR

DR VAT .............................. 80,000.00 EUR

CR Cash/Bank ........................ 480,000.00 EUR

The depreciation on the barrels amounts to 400,000 / 20 = 20,000.00 EUR/a.

(11) Depreciation on barrels on 31.12.20X4


CR Acc. Depr. – Barrels ............. 20,000.00 EUR

ASHTON spends 250,000.00 EUR on the harvest process and the filling of the barrels (together). The

amount of pinotage equals to the amount of merlot wines. So do the harvesting and filling expenses. In

order to keep the case study simple the amount is paid in the middle of the accounting period.

(12) Paying for labour on 30.06.20X4

DR Labour ........................... 250,000.00 EUR

CR Cash/Bank ........................ 250,000.00 EUR

After the maturating process ASHTON fills the wine into bottles, labels, and corks them. ASHTON

spends on the bottle filling/labelling/corking process 150,000.00 EUR for labour and buys 500,000 glass

bottles at 0.36 EUR/u (gross amount) also.



(13) Paying for labour on 30.06.20X4

DR Labour ........................... 150,000.00 EUR

CR Cash/Bank ........................ 150,000.00 EUR

The total amount for the purchase price of the bottles is 500,000 x 0.36 / 120% = 150,000.00 EUR. The

gross amount is 150,000 x 120% = 180,000.00 EUR.

(14) Purchase of bottles on 30.01.20X4

DR Purchase ......................... 150,000.00 EUR

DR VAT .............................. 30,000.00 EUR

CR Cash/Bank ........................ 180,000.00 EUR

ASHTON Ltd. sells 230,000 bottles of merlot wine at a net selling price of 4.80 EUR/u on a bulk sale and

180,000 bottles of pinotage wine at 5.10 EUR/u through their own farm shop. We calculate the net selling

price of the sales: The merlot wine is sold at 230,000 x 4.80 = 1,104,000.00 EUR and the pinotage wine at

180,000 x 5.10 = 918,000.00 EUR. The gross amounts are for the merlot wine: 1,104,000 x 120% =

1,324,800.00 EUR and for the pinotage wine 918,000 x 120% = 1,101,600.00 EUR.

(15) Sale of merlot wine on 31.12.20X4

DR Cash/Bank ........................ 1,324,800.00 EUR

CR VAT .............................. 220,800.00 EUR

CR Sales ............................ 1,104,000.00 EUR

(16) Sale of pinotage wine on 31.12.20X4

DR Cash/Bank ........................ 1,101,600.00 EUR

CR VAT .............................. 183,600.00 EUR

CR Sales ............................ 918,000.00 EUR

(Note, even as you know better this whole process is to be considered taking one accounting period only.)

Take a look at ASHTON Ltd.’s accounts so far in exhibit 37.1. The accounts have not yet been balanced

off because they will be continued.

D C D C

(1) 1,000,000.00 (3) 25,000.00 (1) 1,000,000.00

(2) 500,000.00 (4) 50,000.00

(15) 1,324,800.00 (5) 960,000.00

(16) 1,101,600.00 (6) 840,000.00

(7) 600,000.00

(10) 480,000.00

(12) 250,000.00

(13) 150,000.00

(14) 180,000.00


Exhibit 37.1: ASHTON Ltd.’s accounts



D C D C

(4) 50,000.00 (2) 500,000.00 (3) 25,000.00

D C D C

(5) 800,000.00 (5) 160,000.00 (15) 220,800.00

(6) 140,000.00 (16) 183,600.00

(7) 100,000.00

(10) 80,000.00

(14) 30,000.00

D C D C

(6) 700,000.00 (8) 70,000.00

D C D C

(7) 500,000.00 (9) 50,000.00

D C D C

(8) 70,000.00 (10) 400,000.00

(9) 50,000.00

(11) 20,000.00

D C D C

(12) 250,000.00 (11) 20,000.00

(13) 150,000.00

D C D C

(15) 1,104,000.00 (14) 150,000.00

(16) 918,000.00

Sales Purchase

Depreciation P, P, E - barrels

Labour Acc depr - barrels


P, P, E - merlot Acc depr - merlot

P, P, E - land VAT

P, P, E - pinotage Acc depr - pinotage


We now prepare the statement of comprehensive income along the two alternative methods.

Nature of Expense Method (NoE):

In order to determine the profit for ASHTON Ltd. we are going to use the Trading account and the Prof-

it and Loss account as well.

Along the nature of expense method all nominal accounts will be balanced off and closed off to either the

Trading account or the Profit and Loss account. For this example we are going to do this in one step in

contrast to the previous examples in this ebook, to point out the concept of closing all nominal accounts

along the nature of expenses method. This is done by the bookkeeping entries below:



DR P&L Account ...................... 25,000.00 EUR

CR Interest ......................... 25,000.00 EUR

DR P&L Account ...................... 140,000.00 EUR


DR P&L Account ...................... 400,000.00 EUR

CR Labour ........................... 400,000.00 EUR

DR Sales ............................ 2,022,000.00 EUR

CR Trading Account .................. 2,022,000.00 EUR


CR Purchase ......................... 150,000.00 EUR

(Note, all bookkeeping entries are made without splitting up expenses to different products.)

On the debit side the Trading account contains the opening value for inventory, the purchases, and the

returns inwards. The credit side takes the sales, the closing stock of inventory, and the returns outwards.

ASHTON Ltd. doesn’t have any return and opening stock of whatsoever. But there is a closing stock of

70,000 bottles pinotage wine and 20,000 bottles merlot wine. The knowledge about the amount of bottles

isn’t enough to determine the closing stock. ASHTON Ltd. has to calculate the cost of manufacturing for

each product. These are the unit costs of a bottle pinotage and a bottle merlot wine. The calculation is to

be prepared by a working and is not part of the bookkeeping records.

ASHTON Ltd.’s calculation of the unit costs contains portions of the expenses for labour, for deprecia-

tion, and for the glass bottles. The interest here is regarded as a non-manufacturing expense.

The costs of manufacturing for a bottle of pinotage wine are: 400,000 / 500,000 + (70,000 + 10,000) /

250,000 + 0.30 = 0.80 + 0.32 + 0.30 = 1.42 EUR. Labour is relevant for all wines to the same extent.

Depreciation is considered for the pinotage vines separately. The 10,000.00 EUR further depreciation

results from half of the barrels because the amount of wines is split up on a half : half ratio. The closing

stock of pinotage wine is 70,000 x 1.42 = 99,400.00 EUR.

The costs of manufacturing for a bottle of merlot are: 400,000 / 500,000 + (50,000 + 10,000) / 250,000 +

0.30 = 0.80 + 0.24 + 0.30 = 1.34 EUR. Labour is relevant for all wines to the same extent. Depreciation

is considered for the merlot vines separately. The 10,000.00 EUR further depreciation results from half of

the barrels because the amount of wines is split up at on a half : half ratio. The closing stock of merlot

wine is 20,000 x 1.34 = 26,800.00 EUR.

The closing stock of wines is posted by the next bookkeeping entries.

DR Inventory ........................ 99,400.00 EUR




DR Inventory ........................ 26,800.00 EUR


The gross profit for ASHTON amounts to 1,998,200.00 EUR and is transferred to the Profit and Loss

account by closing off the Trading account.

DR Trading Account .................. 1,998,200.00 EUR

CR P&L Account ...................... 1,998,200.00 EUR

The balancing figure of the Profit and Loss account gives the pre-tax profit which is 1,433,200.00 EUR.

The income taxes due are 1,433,200 x 30% = 429,960.00 EUR. The retained earnings are 1,433,200 –

429,960 = 1,003,240.00 EUR.

Observe ASHTON Ltd.’s account to get the full picture in exhibit 37.2:

D C D C

(1) 1,000,000.00 (3) 25,000.00 c/d 1,000,000.00 (1) 1,000,000.00

(2) 500,000.00 (4) 50,000.00 b/d 1,000,000.00

(15) 1,324,800.00 (5) 960,000.00

(16) 1,101,600.00 (6) 840,000.00

(7) 600,000.00

(10) 480,000.00

(12) 250,000.00

(13) 150,000.00

(14) 180,000.00

c/d 391,400.00

3,926,400.00 3,926,400.00

b/d 391,400.00

D C D C

(4) 50,000.00 (2) 500,000.00 (3) 25,000.00 c/d 25,000.00

c/d 450,000.00 b/d 25,000.00 P&L 25,000.00

500,000.00 500,000.00

b/d 450,000.00

D C D C

(5) 800,000.00 c/d 800,000.00 (5) 160,000.00 (15) 220,800.00

b/d 800,000.00 (6) 140,000.00 (16) 183,600.00

(7) 100,000.00

(10) 80,000.00

(14) 30,000.00 c/d 105,600.00

510,000.00 510,000.00

b/d 105,600.00

D C D C

(6) 700,000.00 c/d 700,000.00 c/d 70,000.00 (8) 70,000.00

b/d 700,000.00 b/d 70,000.00



P, P, E - land VAT





D C D C

(7) 500,000.00 c/d 500,000.00 c/d 50,000.00 (9) 50,000.00

b/d 500,000.00 b/d 50,000.00

D C D C

(8) 70,000.00 (10) 400,000.00 c/d 400,000.00

(9) 50,000.00 b/d 400,000.00

(11) 20,000.00 c/d 140,000.00

140,000.00 140,000.00

b/d 140,000.00 P&L 140,000.00

D C D C

(12) 250,000.00 c/d 20,000.00 (11) 20,000.00

(13) 150,000.00 c/d 400,000.00 b/d 20,000.00

400,000.00 400,000.00

b/d 400,000.00 P&L 400,000.00

D C D C

(15) 1,104,000.00 (14) 150,000.00 c/d 150,000.00

c/d 2,022,000.00 (16) 918,000.00 b/d 150,000.00 T/A 150,000.00

2,022,000.00 2,022,000.00

T/A 2,022,000.00 b/d 2,022,000.00

D C D C

Purch 150,000.00 Sales 2,022,000.00 Int 25,000.00 T/A 1,998,200.00

Inv 99,400.00 Depr 140,000.00

GP c/d 1,998,200.00 Inv 26,800.00 Labour 400,000.00

2,148,200.00 2,148,200.00 NP c/d 1,433,200.00

P&L 1,998,200.00 b/d 1,998,200.00 1,998,200.00 1,998,200.00

Tax 429,960.00 b/d 1,433,200.00

R/E 1,003,240.00

1,433,200.00 1,433,200.00

D C D C

T/A 99,400.00 c/d 429,960.00 P&L 429,960.00

T/A 26,800.00 c/d 126,200.00 b/d 429,960.00

126,200.00 126,200.00

b/d 126,200.00

D C

c/d 1,003,240.00 P&L 1,003,240.00

b/d 1,003,240.00

Inventory Income Tax Liability

Retained earnings

Sales Purchase





Exhibit 37.2: ASHTON Ltd.’s accounts (continued)



The accountant prepares the financial statements for ASHTON Ltd. See the statement of comprehensive

income along the nature of expense method and the statement of financial position below in exhibit 37.3

and exhibit 37.4.

[EUR]

Revenue 2,022,000.00

Changes in inventory 126,200.00

2,148,200.00

Materials 150,000.00

Labour 400,000.00


Other expenses 0.00


Interest 25,000.00



Deferred taxes


Ashton Ltd.'s



Exhibit 37.3: ASHTON Ltd.’s statement of comprehensive income (NoE)

The amount of changes in inventory is the closing stock of wines. It amounts to 99,400 + 26,800 =

126,200.00 EUR. The amount is seen like revenue because the wines produced but not sold yet are on the

credit side of the Trading account. The valuation is strictly along the cost of manufacturing along IAS 2.

The consideration of the changes in inventory of finished goods (wines) can be seen as taking out the

expenses for unsold wines.

Once the statement of comprehensive income is prepared along the nature of expense method you cannot

see the contribution of different products to the profit.



A C, L


P, P, E 2,260,000.00 Share capital 1,000,000.00





A/R 105,600.00 A/P



2,883,200.00 2,883,200.00

Ashton Ltd.'s


as at 31.12.20X4

Exhibit 37.4: ASHTON Ltd.’s statement of financial position

The amount for property, plant, and equipment is the total of the carrying amounts of land, vines, and

barrels: 800.000 + 630,000 + 450,000 + 380,000 = 2,260,000.00 EUR. The receivables result from the

balancing figure in the VAT account.

Cost of Sales Format (COS):

When we prepare the statement of comprehensive income it is advised to split up cost along the products.

We make use of subordinated Work-In-Progress accounts and the Manufacturing Overhead account. The

subordinated Work-In-Progress accounts are for pinotage and merlot wines and will be named WIP -

Pinotage account and WIP - Merlot account.

Direct costs are bottle costs. They are firstly transferred to an inventory account and then put into the

WIP accounts.

DR Inventory – Bottles .............. 150,000.00 EUR

CR Purchase ......................... 150,000.00 EUR

DR WIP - Pinotage ................... 75,000.00 EUR

CR Inventory – Bottles .............. 75,000.00 EUR

DR WIP - Merlot ..................... 75,000.00 EUR

CR Inventory – Bottles .............. 75,000.00 EUR

As the vines are used for one product only they are classified as direct costs also. They get transferred to

the WIP accounts.



DR WIP – Pinotage ................... 70,000.00 EUR


DR WIP – Merlot ..................... 50,000.00 EUR


The depreciation on barrels and the labour costs are manufacturing overheads. The accounts are closed

off to the Manufacturing Overhead account.

DR Manufacturing Overheads .......... 420,000.00 EUR


CR Labour ........................... 400,000.00 EUR

The manufacturing overheads occur for both products to the same extent. The overheads are split up on a

half : half ratio to the WIP accounts therefore. The portion for each product is 420,000 / 2 = 210,000.00

EUR.

DR WIP – Pinotage ................... 210,000.00 EUR

CR Manufacturing Overheads .......... 210,000.00 EUR

DR WIP – Merlot ..................... 210,000.00 EUR

CR Manufacturing Overheads .......... 210,000.00 EUR

(Note, in many companies the application of overheads is based on a predetermined overhead allocation

basis. You’ll learn about that in your Management Accounting class.)

The WIP accounts are closed off to the Inventory of Finished Goods account. Here, we use two different

accounts – one for pinotage and the other one for merlot wines.

DR FG Inventory – Pinotage .......... 355,000.00 EUR

CR WIP – Pinotage ................... 355,000.00 EUR

DR FG Inventory – Merlot ............ 335,000.00 EUR

CR WIP – Merlot ..................... 335,000.00 EUR

When ASHTON Ltd. sells the wines they have to make bookkeeping entries for releasing the bottles sold

from stock. The portion of pinotage wines sold is (180,000/250,000) x 355,000 = 255,600.00 EUR. The

amount is transferred to the Cost of Goods Sold account.


CR FG Inventory – Pinotage .......... 255,600.00 EUR

Similar to the pinotage wine the portion of merlot wine is calculated as follows: (230,000/250,000) x

335,000 = 308,200.00 EUR.




CR FG Inventory – Merlot ............ 308,200.00 EUR

The profit is calculated in the Profit and Loss account. The costs of goods sold cover all manufacturing

expenses. Interest is considered as non-manufacturing expenses. The bookkeeping entries for sales, cost

of goods sold, and interest are as follows.

DR Sales ............................ 2,022,000.00 EUR

CR P&L Account ...................... 2,022,000.00 EUR

DR P&L Account ...................... 563,800.00 EUR


DR P&L Account ...................... 25,000.00 EUR

CR Interest ......................... 25,000.00 EUR

The pre-tax profit is the same as along the nature of expense method. We do not repeat the income tax

calculation therefore.

Observe the accounts in exhibit 37.5 to get the full picture.



D C D C

(1) 1,000,000.00 (3) 25,000.00 c/d 1,000,000.00 (1) 1,000,000.00

(2) 500,000.00 (4) 50,000.00 b/d 1,000,000.00

(15) 1,324,800.00 (5) 960,000.00

(16) 1,101,600.00 (6) 840,000.00

(7) 600,000.00

(10) 480,000.00

(12) 250,000.00

(13) 150,000.00

(14) 180,000.00

c/d 391,400.00

3,926,400.00 3,926,400.00

b/d 391,400.00

D C D C

(4) 50,000.00 (2) 500,000.00 (3) 25,000.00 c/d 25,000.00

c/d 450,000.00 b/d 25,000.00 P&L 25,000.00

500,000.00 500,000.00

b/d 450,000.00

D C D C

(5) 800,000.00 c/d 800,000.00 (5) 160,000.00 (15) 220,800.00

b/d 800,000.00 (6) 140,000.00 (16) 183,600.00

(7) 100,000.00

(10) 80,000.00

(14) 30,000.00 c/d 105,600.00

510,000.00 510,000.00

b/d 105,600.00

D C D C

(6) 700,000.00 c/d 700,000.00 c/d 70,000.00 (8) 70,000.00

b/d 700,000.00 b/d 70,000.00

D C D C

(7) 500,000.00 c/d 500,000.00 c/d 50,000.00 (9) 50,000.00

b/d 500,000.00 b/d 50,000.00

D C D C

(8) 70,000.00 (10) 400,000.00 c/d 400,000.00

(9) 50,000.00 b/d 400,000.00

(11) 20,000.00 c/d 140,000.00

140,000.00 140,000.00

b/d 140,000.00 WIP-pt 70,000.00

WIP-ml 50,000.00

c/d 20,000.00

140,000.00 140,000.00

b/d 20,000.00 MOH 20,000.00


P, P, E - land VAT








D C D C

(12) 250,000.00 c/d 20,000.00 (11) 20,000.00

(13) 150,000.00 c/d 400,000.00 b/d 20,000.00

400,000.00 400,000.00

b/d 400,000.00 MOH 400,000.00

D C D C

(15) 1,104,000.00 (14) 150,000.00 c/d 150,000.00

c/d 2,022,000.00 (16) 918,000.00 b/d 150,000.00 Inv 150,000.00

2,022,000.00 2,022,000.00

P&L 2,022,000.00 b/d 2,022,000.00

D C D C

Inv 75,000.00 Inv 75,000.00

Depr 70,000.00 Depr 50,000.00

MOH 210,000.00 c/d 355,000.00 MOH 210,000.00 c/d 335,000.00

355,000.00 355,000.00 335,000.00 335,000.00

b/d 355,000.00 FG-pt 355,000.00 b/d 335,000.00 FG-ml 335,000.00

D C D C

Purch 150,000.00 WIP-pt 75,000.00 Depr 20,000.00

WIP-ml 75,000.00 Labour 400,000.00 c/d 420,000.00

150,000.00 150,000.00 420,000.00 420,000.00

b/d 420,000.00 WIP-pt 210,000.00

WIP-ml 210,000.00

420,000.00 420,000.00

D C D C

WIP-pt 355,000.00 COS 255,600.00 WIP-ml 335,000.00 COS 308,200.00

c/d 99,400.00 c/d 26,800.00

355,000.00 355,000.00 335,000.00 335,000.00

b/d 99,400.00 b/d 26,800.00

D C D C

FG-pt 308,200.00 COS 563,800.00 Sales 2,022,000.00

FG-ml 255,600.00 c/d 563,800.00 Int 25,000.00

563,800.00 563,800.00 NP c/d 1,433,200.00

b/d 563,800.00 P&L 563,800.00 2,022,000.00 2,022,000.00

Tax 429,960.00 b/d 1,433,200.00

R/E 1,003,240.00

1,433,200.00 1,433,200.00


Sales Purchase

WIP-pinotage WIP-merlot

Inventory bottles Manufacturing Overheads

FG inventory - pinotage FG inventory - merlot





D C D C

c/d 429,960.00 P&L 429,960.00 c/d 1,003,240.00 P&L 1,003,240.00

b/d 429,960.00 b/d 1,003,240.00



The exhibit 37.6 displays the statement of comprehensive income along the cost of sales format.

[EUR]

Revenue 2,022,000.00

Other income

2,022,000.00



Interest 25,000.00



Deferred taxes


Ashton Ltd.'s



Exhibit 37.6: ASHTON Ltd.’s statement of comprehensive income (COS)

The statement of financial position is the same as in exhibit 37.4.

The advantage of the cost of sales format is that the contribution margin can be displayed for each prod-

uct separately. We display the statement of comprehensive income again with revenue and cost of goods

sold split up amongst the wines in exhibit 37.7.

[EUR] Pinotage Merlot

Revenue 918,000.00 1,104,000.00

Other income

918,000.00 1,104,000.00

Cost of goods sold 308,200.00 255,600.00

Contribution margin 609,800.00 848,400.00

Total EBIT

Interest

Earnings before taxes (EBT)

Income tax expenses

Deferred taxes

Earnings after taxes (EAT)

Ashton Ltd.'s



1,003,240.00

1,458,200.00

25,000.00

1,433,200.00

429,960.00

Exhibit 37.7: ASHTON Ltd.’s income statement (management accounting)



Summary:

Companies can prepare the statement of comprehensive income along the nature of expense method or

the cost of sales format. The nature of expense method considers all expenses and makes adjustments to

the revenue by changes in inventory. The cost of sales format for the income statement is based on the

revenue less cost for the goods that have been sold during the accounting period. The cost of sales format

is often used for management accounting purposes as it provides information about the contribution mar-

gin of products, customers, marketing segments, etc.

IFRSs and Handelsgesetzbuch do not prescribe the method to be used for preparing the statement of

comprehensive income.


Statement of Comprehensive Income along the Nature of Expense Method: A statement of com-

prehensive income along the nature of expense method calculates profit by deducting all expenses that

occurred during the accounting period from the revenue and adjusts the revenue by adding changes of

inventories when there is an increase thereof and deducting changes of inventories when there is a de-

crease thereof.

Statement of Comprehensive Income along the Cost of Sales Format: A statement of comprehen-

sive income along the cost of sales format calculates profit by deducting those expenses that are caused by

the purchase or production of goods sold from the revenue.

Contribution Margin: A contribution margin is a product’s revenue less its proportional costs.



(38) Cash Book: Reconciliation to the Bank Statement


In this chapter we want to point out that sometimes the bookkeeping entries are not totally consistent to

the bank statements as some information doesn’t go to the accounting department directly or there exists

timely differences between payments and the transactions in the company.

A bank statement is a summary of all activities with the bank over an accounting period. Mostly

bank statements will be printed on demand or will be sent out monthly by the bank.

(Note, we’ll consider accounting periods for one year only to keep the examples simple in this ebook Ac-

counting-Intro.)

The bank account comes normally in the form of a 3-column account and not as a T-account like we are

used to it. Furthermore, consider the bank statement being prepared from the bank’s point of view. This

means money you have in the bank account is seen as some sort of payables from the bank’s point of

view as it has to pay it back to you. Do not get confused that bank deposits will be printed on the credit

side of the bank statement and withdrawals on the debit side.

We are going to take a closer look at a bank statement issued by the PROTEM BANK Ltd. for

KRAGGA CONSULTANTS (Pty) Ltd. on 31.12.20X5. KRAGGA CONSULTANTS are established on

3.01.20X5 by a share issue of 100,000 ordinary shares at 1.00 EUR each. The company opened an account

with PROTEM BANK on 3.01.20X5 and put in the funds achieved by the share issue.

Date Description/narrative Fees Debits Credits Balance

3.01.20X5 Opening account 50.00 (50.00)

3.01.20X5 Deposit 100,000.00 99,950.00

7.01.20X5 Insurance 23049234 (stop order) 1.00 100.00 99,849.00

8.01.20X5 Debit order 4564684 60,000.00 39,849.00

9.01.20X5 Payment to 3rd party: Cell phone 0.50 360.00 39,488.50

24.03.20X5 Deposit 565432 240,000.00 279,488.50


8.04.20X5 Withdrawal ATM 1.00 5,000.00 274,386.50

30.06.20X5 Service fees I-VI/20X5 6.00 274,380.50


9.07.20X5 Deposit 015824 6,000.00 280,279.50

12.07.20X5 Cheque 546431 6,500.00 273,779.50


25.11.20X5 EFT deposit 902323 54,000.00 327,678.50

25.11.20X5 EFT charges 2.00 327,676.50

20.12.20X5 Labour (stop order) 10.00 170,000.00 157,666.50

31.12.20X5 Service fees VII-XII/20X5 6.00 157,660.50

31.12.20X5 Interest income 2,969.85 160,630.35

31.12.20X5 Closing balance 160,630.35

PROTEM BANK LIMITED

Registered Bank - Reg. no. 451/5413/078

STATEMENT / TAX INVOICE

Kragga Consultants (Pty) Ltd.

as at 31.12.20X5

Exhibit 38.1: KRAGGA CONSUTANTS (Pty) Ltd.’s bank statement



The bank statement shows a few bank transactions of KRAGGA CONSULTANTS (Pty) Ltd. as we are

going to explain right now:

A deposit is any transaction to put money into your bank account. A deposit can be made by

yourself or by a customer for example. It can be done by going to a bank branch and filling a deposit

slip. Or you can make an electronic fund transfer (EFT) by using internet banking. Receiving a stop order

(see below) can be another way to receive deposits.

A stop order is an agreement with the bank to pay regularly money into another account. A stop

order can be for monthly payments, for quarterly payments, etc. The order is called stop order as it con-

tinues until you stop it.

A debit order is an order to let someone draw money from your account. It means the party that

issues the debit order allows the bank of the receiving party to withdraw a certain amount of money from

his/her account.

A cheque is an alternative way of payment also. One party that issues (draws) a cheque allows the

receiving party to withdraw money from his/her account. If there are sufficient funds the bank will

transfer the money. Otherwise they will resend the cheque marked as R/D = Refer to drawer. A returned

cheque is called bounced or dishonoured. In case a cheque has not been cleared for more than 6 months it

will expire. The technical term for such a cheque will be a stale cheque. Cheques also can be cancelled by

the issuer for example when a customer doesn’t receive the goods ordered he makes use of the possibility

to cancel the cheque.

Service fees are bank fees for running an account.

A withdrawal is taking money out of an account. This can be done in the bank or through an au-

tomatic teller machine (ATM).

An EFT transfer is a transfer made by internet banking. EFT stands for electronic funds transfer.

EFT charges mean that the bank charges a transfer fee for using internet banking. Some banks

charge the customer by every transaction made.

Interest income is revenue earned by keeping money in the account. The banks determine the

amount by an annual interest rate pro rata to the time the money is in the account. (Note, here the interest

received has been calculated based on a 1.5 %/a basis pro rata (daily).)

At the end of the accounting period the bank statement indicates a closing balance for KRAGGA

CONSULTANTS (Pty) Ltd. of 100,603.23 EUR.

Before we start the reconciliation process we take a closer look at KRAGGA CONSULTANTS (Pty)

Ltd.’s bookkeeper’s work. We’ll use his/her Cash/Bank account to compare it to the bank statement later

on.

KRAGGA CONSULTANTS (Pty) Ltd. issues 100,000 1.00 EUR ordinary shares par value on 3.01.20X4.


DR Cash/Bank ........................ 100,000.00 EUR


KRAGGA CONSULTANTS (Pty) Ltd. agrees on an insurance contract to cover risks which results from

faulty consultation. The insurance fees are 100.00 EUR per quarter payable on 7th of each quarter.



(2, 5) Insurance payments take place on 7.01.20X5, 7.04.20X5, 7.07.20X5, and 7.10.20X5.

DR Insurance ........................ 100.00 EUR

CR Cash/Bank ........................ 100.00 EUR

DR Insurance ........................ 100.00 EUR

CR Cash/Bank ........................ 100.00 EUR

DR Insurance ........................ 100.00 EUR

CR Cash/Bank ........................ 100.00 EUR

DR Insurance ........................ 100.00 EUR

CR Cash/Bank ........................ 100.00 EUR

On 8.01.20X5 KRAGGA CONSULTANTS (Pty) Ltd. buys computers and printers and pays 60,000.00

EUR by allowing the supplier to draw the money from their bank account. The firm issues a debit order.

(6) Acquisition of computers on 8.01.20X5


DR VAT .............................. 10,000.00 EUR

CR Cash/Bank ........................ 60,000.00 EUR

(7) On 9.01.20X5 KRAGGA CONSULTANTS (Pty) Ltd. buys a prepaid phone and pays 360.00 EUR via

bank transfer.

DR PROPERTY, PLANT, AND EQUIPMENT ... 360.00 EUR

DR VAT .............................. 60.00 EUR

CR Cash/Bank ........................ 300.00 EUR

On 24.03.20X5 a customer transfers 240,000.00 EUR into KRAGGA CONSULTANTS (Pty) Ltd.’s bank

account for consultancy.

(8) Rendering service on 24.03.20X4

DR Cash/Bank ........................ 240,000.00 EUR

CR VAT .............................. 40,000.00 EUR

CR Revenue .......................... 200,000.00 EUR

On 8.04.20X5 the bookkeeper withdraws money from the bank account and puts it into cash. He uses a

special account for cash called petty cash book which is physically a box with money therein. (Note, we’ll

introduce the petty cash book in the next chapter 39.) Right now the Petty Cash Book account is a further

cash account for us.



(9) Withdrawal of money on 8.04.20X5.

DR Petty Cash Book .................. 5,000.00 EUR

CR Cash/Bank ........................ 5,000.00 EUR

(10) On 9.07.20X5 a customer deposits 6,000.00 EUR in the bank account for consultancy.

DR Cash/Bank ........................ 6,000.00 EUR

CR VAT .............................. 1,000.00 EUR

CR Revenue .......................... 5,000.00 EUR

On 12.07.20X5 KRAGGA CONSULTANTS (Pty) Ltd. pays rent. There is no VAT to be considered.

KRAGGA CONSULTANTS (Pty) Ltd. sends a cheque to its landlord.


DR Rent ............................. 6,500.00 EUR

CR Cash/Bank ........................ 6,500.00 EUR

On 25.11.20X5 KRAGGA CONSULTANTS (Pty) Ltd. receives 54,000.00 EUR per electronic bank

transfer from a customer for consultancy.

(12) Revenue received on 25.11.20X5

DR Cash/Bank ........................ 54,000.00 EUR

CR VAT .............................. 9,000.00 EUR

CR Revenue .......................... 45,000.00 EUR

KRAGGA CONSULTANTS (Pty) Ltd. pays their employees by a stop order. The total payment amounts

to 230,000.00 EUR. The money is paid off on 20.12.20X5.

(13) Payment for labour by stop order on 20.12.20X5

DR Labour ........................... 230,000.00 EUR

CR Cash/Bank ........................ 230,000.00 EUR

At this stage the bookkeeper has not yet seen the bank statement and balances off all the accounts as they

are. See the accounts in exhibit 38.2:



D C D C

(1) 100,000.00 (2) 100.00 c/d 100,000.00 (1) 100,000.00

(8) 240,000.00 (3) 100.00 b/d 100,000.00

(10) 6,000.00 (4) 100.00

(12) 54,000.00 (5) 100.00

(6) 60,000.00

(7) 360.00

(9) 5,000.00

(11) 6,500.00

(13) 170,000.00

c/d 157,740.00

400,000.00 400,000.00

b/d 157,740.00

D C D C

(2) 100.00 (6) 50,000.00

(3) 100.00 (7) 300.00 c/d 50,300.00

(4) 100.00 50,300.00 50,300.00

(5) 100.00 c/d 400.00 b/d 50,300.00

400.00 400.00

b/d 400.00

D C D C

(6) 10,000.00 (8) 40,000.00 (8) 200,000.00

(7) 60.00 (10) 1,000.00 (10) 5,000.00

c/d 39,940.00 (12) 9,000.00 c/d 250,000.00 (12) 45,000.00

50,000.00 50,000.00 250,000.00 250,000.00

b/d 39,940.00 b/d 250,000.00

D C D C

(9) 5,000.00 c/d 5,000.00 (11) 6,500.00 c/d 6,500.00

b/d 5,000.00 b/d 6,500.00

D C

(13) 170,000.00 c/d 170,000.00

b/d 170,000.00

Labour

VAT Sales

Petty cash book Rent


Insurance P, P, E

Exhibit 38.2: KRAGGA CONSULTANTS (Pty) Ltd.’s accounts

The Cash/Bank account displays a balancing figure of 157,740.00 EUR. This is 160,630.35 – 157,740 =

2,890.35 EUR less than displayed by the bank statement in exhibit 38.1.

In order to explain the difference and once detected to adjust the bookkeeping records, we run a bank

statement reconciliation. The reason for the bank reconciliation process is that the reporting company has

to ensure that the amount displayed by the bank item in the statement of financial position is correct.

The reconciliation process in particular makes sure that all available information provided by the bank

statement is used to determine the correct amount for the cash/bank item on the face of the statement of



financial position. Reconciliation items therefore are those items which only appear in the Cash/Bank

account or in the bank statement but not in both together.

We start to compare the Cash/Bank account and the bank statement. We compare the debit entries in the

bank account to the credit entries in the bank statement and vice versa. The differences in KRAGGA

CONSALTANTS (Pty) Ltd.’s case are marked in the following exhibit 38.3:

D C

(1) 100,000.00 (2) 100.00

(8) 240,000.00 (3) 100.00

(10) 6,000.00 (4) 100.00

(12) 54,000.00 (5) 100.00

(6) 60,000.00

(7) 360.00

(9) 5,000.00

(11) 6,500.00

(13) 170,000.00

c/d 157,740.00

400,000.00 400,000.00

b/d 157,740.00

Cash/Bank

Exhibit 38.3: KRAGGA CONSULTANTS (Pty) Ltd.’s Cash/Bank account

Date Description/narrative Fees Debits Credits

3.01.20X5 Opening account 50.00

3.01.20X5 Deposit 100,000.00

7.01.20X5 Insurance 23049234 (stop order) 1.00 100.00

8.01.20X5 Debit order 4564684 60,000.00

9.01.20X5 Payment to 3rd party: Cell phone 0.50 360.00

24.03.20X5 Deposit 565432 240,000.00


8.04.20X5 Withdrawal ATM 1.00 5,000.00

30.06.20X5 Service fees I-VI/20X5 6.00


9.07.20X5 Deposit 015824 6,000.00

12.07.20X5 Cheque 546431 6,500.00


25.11.20X5 EFT deposit 902323 54,000.00

25.11.20X5 EFT charges 2.00

20.12.20X5 Labour (stop order) 10.00 170,000.00

31.12.20X5 Service fees VII-XII/20X5 6.00

31.12.20X5 Interest income 2,969.85

31.12.20X5 Closing balance

PROTEM BANK LIMITED

Registered Bank - Reg. no. 451/5413/078

STATEMENT / TAX INVOICE

Kragga Consultants (Pty) Ltd.

as at 31.12.20X5

Exhibit 38.4: KRAGGA CONSULTANTS (Pty) Ltd.’s bank statement



Here, there are no reconciliation items in the Cash/Bank account but in the bank statement. These items

are for bank fees as they do not get billed extra but just get deducted from the bank account. The ac-

countant of KRAGGA CONSULTANTS (Pty) Ltd. makes an adjustment bookkeeping entry on

31.12.20X5 for all bank charges. The amount is 50 + 1 +0.50 + 1 +1 +6 + 1 + 1 + 2 + 10 +6 = 79.50

EUR. The bookkeeping entry according to this calculation is as follows:

DR Bank Fees ........................ 79.50 EUR

CR Cash/Bank ........................ 79.50 EUR

There is another entry in the bank statement which is for interest earned. The bank pays for money kept

in the bank account an annual rate of interest 1.5 %. The interest is earned pro rata which means in ac-

cordance to the time the money is in the account. The daily rate of interest is 1.5%/365 = 0.000041

EUR/d (rounded off). The interest earned is calculated based on the balances provided by the bank

statement. Take the first balance which is 99,950.00 EUR. The amount is in the bank account for 4 days

(from the 3.01.20X5 until 7.01.20X5). The interest earned during this days is 99,950 x 4 x 1.5% / 365 =

16.43 EUR.

(Note, it is not the task of the accountant to monitor the bank’s interest calculation. But based on a spread

sheet program it is fairly easy to determine the amount for earned interest. The amount here is 16.43 +

4.10 + 1.64 + 24.34 + 149.32 + 11.48 + 981.03 + 78.93 + 22.54 + 34.56 + 1,035.11 + 202.45 + 336.65 +

71.27 = 2,969.85 EUR.)

The interest earned is credited to the Interest Earned account by the following bookkeeping entry:

DR Cash/Bank ........................ 2,969.85 EUR

CR Interest Earned .................. 2,969.85 EUR

After these adjustments have been made KRAGGA CONSULTANTS (Pty) Ltd.’s accounts look as dis-

played by exhibit 38.5.

D C D C

(1) 100,000.00 (2) 100.00 c/d 100,000.00 (1) 100,000.00

(8) 240,000.00 (3) 100.00 b/d 100,000.00

(10) 6,000.00 (4) 100.00

(12) 54,000.00 (5) 100.00

(6) 60,000.00

(7) 360.00

(9) 5,000.00

(11) 6,500.00

(13) 170,000.00

c/d 157,740.00

400,000.00 400,000.00

b/d 157,740.00 Recon1 79.50

Recon2 2,969.85 c/d 160,630.35

160,709.85 160,709.85

160,630.35





D C D C

(2) 100.00 (6) 50,000.00

(3) 100.00 (7) 300.00 c/d 50,300.00

(4) 100.00 50,300.00 50,300.00

(5) 100.00 c/d 400.00 b/d 50,300.00

400.00 400.00

b/d 400.00

D C D C

(6) 10,000.00 (8) 40,000.00 (8) 200,000.00

(7) 60.00 (10) 1,000.00 (10) 5,000.00

c/d 39,940.00 (12) 9,000.00 c/d 250,000.00 (12) 45,000.00

50,000.00 50,000.00 250,000.00 250,000.00

b/d 39,940.00 b/d 250,000.00

D C D C

(9) 5,000.00 c/d 5,000.00 (11) 6,500.00 c/d 6,500.00

b/d 5,000.00 b/d 6,500.00

D C D C

(13) 170,000.00 c/d 170,000.00 Recon1 79.50 c/d 79.50

b/d 170,000.00 b/d 79.50

D C

c/d 2,969.85 Recon2 2,969.85

b/d 2,969.85

Interest earned

Insurance P, P, E

Labour Bank fees

VAT Sales


Exhibit 38.5: KRAGGA CONSULTANTS (Pty) Ltd.’s accounts (continued)

As you can observe the balancing figure of the Cash/Bank account now is 160,630.35 EUR – same as by

the bank statement.

KRAGGA CONSULTANTS (Pty) Ltd.’s accountant prepares the financial statements as you can see

below.

Closing off expense accounts to the Profit and Loss account:

DR P&L Account ...................... 400.00 EUR

CR Insurance ........................ 400.00 EUR

DR P&L Account ...................... 6,500.00 EUR

CR Rent ............................. 6,500.00 EUR

DR P&L Account ...................... 170,000.00 EUR

CR Labour ........................... 170,000.00 EUR



Closing off the Sales account and Interest Earned Account to the Profit and Loss account:

DR Sales ............................ 250,000.00 EUR

CR P&L Account ...................... 250,000.00 EUR

DR Interest Earned .................. 2,969.85 EUR

CR P&L Account ...................... 2,969.85 EUR

The earnings before taxes amount to 75,990.35 EUR. The amount for income tax expenses is along the 30

% tax rate 30% x 75,990.35 = 22,797.11 EUR. The remaining amount is 75,990.35 – 22,797.11 =

53,193.24 EUR.

See again KRAGGA CONSULTANTS (Pty) Ltd.’s accounts in exhibit 38.6:

D C D C

(1) 100,000.00 (2) 100.00 c/d 100,000.00 (1) 100,000.00

(8) 240,000.00 (3) 100.00 b/d 100,000.00

(10) 6,000.00 (4) 100.00

(12) 54,000.00 (5) 100.00

(6) 60,000.00

(7) 360.00

(9) 5,000.00

(11) 6,500.00

(13) 170,000.00

c/d 157,740.00

400,000.00 400,000.00

b/d 157,740.00 Recon1 79.50

Recon2 2,969.85 c/d 160,630.35

160,709.85 160,709.85

160,630.35

D C D C

(2) 100.00 (6) 50,000.00

(3) 100.00 (7) 300.00 c/d 50,300.00

(4) 100.00 50,300.00 50,300.00

(5) 100.00 c/d 400.00 b/d 50,300.00

400.00 400.00

b/d 400.00 P&L 400.00

D C D C

(6) 10,000.00 (8) 40,000.00 (8) 200,000.00

(7) 60.00 (10) 1,000.00 (10) 5,000.00

c/d 39,940.00 (12) 9,000.00 c/d 250,000.00 (12) 45,000.00

50,000.00 50,000.00 250,000.00 250,000.00

b/d 39,940.00 P&L 250,000.00 b/d 250,000.00


Insurance P, P, E

VAT Sales




D C D C

(9) 5,000.00 c/d 5,000.00 (11) 6,500.00 c/d 6,500.00

b/d 5,000.00 b/d 6,500.00 P&L 6,500.00

D C D C

(13) 170,000.00 c/d 170,000.00 Recon1 79.50 c/d 79.50

b/d 170,000.00 P&L 170,000.00 b/d 79.50 P&L 79.50

D C D C

c/d 2,969.85 Recon2 2,969.85 Ins 400.00 Sales 250,000.00

P&L 2,969.85 b/d 2,969.85 Rent 6,500.00 Int Earn 2,969.85

Labour 170,000.00

Fees 79.50

NP c/d 75,990.35

252,969.85 252,969.85

Tax 22,797.11 b/d 75,990.35

R/E 53,193.25

75,990.35 75,990.35

D C D C

c/d 22,797.11 P&L 22,797.11 c/d 53,193.25 P&L 53,193.25

b/d 22,797.11 b/d 53,193.25

Interest earned Profit and Loss


Labour Bank fees


Exhibit 38.6: KRAGGA CONSULTANTS (Pty) Ltd.’s accounts (continued)

See below the financial statements for KRAGGA CONSULTANTS (Pty) Ltd.

Interest earned is categorized as other income. The bank fees count as other expenses. They cannot be

financial costs like interest because they are fees. They are to be seen as 3rd party expenses. The other ex-

penses contain fees for the bank, insurance, and rent: 79.50 + 6,500 + 400 = 6,979.50 EUR.



[EUR]

Revenue 250,000.00

Other income 2,969.85

252,969.85

Materials 0.00

Labour 170,000.00

Depreciation 0.00



Interest 0.00



Deferred taxes


Kragga Consultants (Pty) Ltd.'s



Exhibit 38.7: KRAGGA CONSULTANTS (Pty) Ltd.’s statement of comprehensive income

In the statement of financial position the amount for cash/bank is 160,630.35 + 5,000 = 165,630.35 EUR

because the petty cash book is considered being a cash account also.

(Note, it can happen that companies have more than one bank account at different banks. In that case the

item on the face of the balance sheet represents all bank accounts balances plus any amount of cash.)

The amount for payables contains VAT to an extent of 39,940.00 EUR.

A C, L







A/R A/P 39,940.00



215,930.35 215,930.36

Kragga Consultants (Pty) Ltd.'s


as at 31.12.20X5

Exhibit 38.8: KRAGGA CONSULTANTS (Pty) Ltd.’s statement of financial position



Summary:

The bank statement reveals further information which is not always directly available to the bookkeeper at

first. Also, items can be missing in the bank statements which have been posted in the accounting records

already due to timely differences. The reconciliation process compares the bookkeeping records to the

bank statement and contains adjustments that make sure all actual information for the cash and cash

equivalent item of the statement of financial position and for the income statement is considered when

preparing the financial statements.


Bank Statement: A bank statement is a summary of all activities with the bank over an accounting peri-

od.

Deposit: A deposit is any transaction to put money into your bank account. A deposit can be made by

yourself or by a customer for example.

Stop order: A stop order is an agreement with the bank to pay regularly money into another account.

Debit order: A debit order is an order to let someone draw money from your account.

Cheque: A cheque is an alternative way of payment also. One party that issues (draws) a cheque allows

the receiving party to withdraw money from his/her account.

Service Fees: Service fees are bank fees for running an account.

Withdrawal: A withdrawal is taking money out of an account. This can be done in the bank or through

an automatic teller machine (ATM).

EFT Transfer: An EFT transfer is a transfer made by internet banking. EFT stands for electronic funds

transfer.

EFT Charges: EFT charges mean that the bank charges a transfer fee for using internet banking.

Interest Income: Interest income is revenue earned by keeping money in the account.



(39) Petty Cash Book


In this chapter we’ll introduce the concept of the petty cash book. We are going to explain how to apply

this concept by an easy example.

Not all activities of purchase and acquisition will go through the bank account or will lead to payables.

Sometimes activities are of lower value/meaning and will be bought on cash. Often minor office expenses

are made just on cash when someone of the employees goes to a stationary shop and buys some pencils

e.g.

From the point of bookkeeping it is necessary to assign these costs to expense accounts also. It is required

to keep a record of those allegedly less important buys.

It is common practice to run a petty cash book. The petty cash book is an amount of cash used for

minor purchases. After the buys have been made the receipts will be allocated to expense ac-

counts and the petty cash book is filled up again. The person who is responsible for the petty cash

book is called petty cashier. Companies use to run several petty cash books for different departments.

We are going to explain the petty cash book by an easy example which contains some expenses that go

through it and some other expenses that do not apply the petty cash book. We want to show how expens-

es that were posted differently will be mingled for the profit and loss calculation later on.

SWARTKLIP Ltd. is an accounting firm. The company prepares financial statements for its customers.

SWARTKLIP Ltd. is established on 1.01.20X7 by a share issue. It issued 50,000 ordinary shares at 1.00

EUR each. The funds are put into the Bank account.

(Note, in order to distinguish properly the locations for the money we are going to run one Bank account,

one Cash account, and the petty cash book.


DR Bank Account ..................... 50,000.00 EUR


On 2.01.20X7 SWARTKLIP Ltd. takes a bank loan for financing its business from their local bank.

SWARTKLIP Ltd. lends 100,000.00 EUR. The annual rate of interest is 3.5 % and is deducted from the

Bank account at the end of year. So is the pay-off amount which is 5,000.00 EUR every year. When the

bank loan is paid to SWARTKLIP Ltd. the amount is transferred into their Bank account. The first year’s

interest amounts to 3.5% x 100,000 = 3,500.00 EUR.

(2, 4) Payments resulting from the bank loan on 2.01.20X7 (the first one) and 31.12.20X7 (the latter ones)



DR Interest ......................... 3,500.00 EUR

CR Bank Account ..................... 3,500.00 EUR





On 3.01.20X7 SWARTKLIP Ltd. acquires computers and printers at a total amount of 84,000.00 EUR

(net amount). The payment is made through the Bank account.

(5) Acquisition of computer hardware on 3.01.20X7


DR VAT .............................. 14,000.00 EUR


The computer hardware is written off at an annual basis along straight line method. The useful life of

hardware is estimated to be 3.5 years. The depreciation amount for 20X7 is 70,000 / 3.5 = 20,000.00

EUR/a.

(6) Depreciation on computer hardware on 31.12.20X7


CR Acc. Depr. ....................... 20,000.00 EUR

SWARTKLIP Ltd. pays rent for the offices they use on 6.01.20X7 to an extent of a full year’s rent. The

landlord is not registered for VAT reduction. The amount for rent is 10,000.00 EUR. SWARTKLIP Ltd.

transfers the amount via internet banking into the landlord’s bank account.

(7) Rent payment on 6.01.20X7

DR Rent ............................. 10,000.00 EUR


SWARTKLIP Ltd.’s accountant withdraws 1,000.00 EUR on 15.01.20X7 at an automatic teller machine

(ATM). The amount is put into cash.

(8) Money withdrawn on 15.01.20X7

DR Cash ............................. 1,000.00 EUR


In the back office the employee Ms DANA works. On 20.01.20X7 she is appointed petty cashier for the

back office department. The accountant gives her the petty cash float of 500.00 EUR. The petty cash

float is the initial amount of the petty cash book. Later on the petty cash book will be filled up to

that amount at the end of every accounting period.

(9) Paying the petty cash float into the petty cash book on 20.01.20X7

DR Petty Cash Book .................. 500.00 EUR

CR Cash ............................. 500.00 EUR

On 21.01.20X7 Ms DANA buys office materials at the local stationary shop like punchers, staplers, and

pencils. The amount she pays at the cash point of the stationary store is 240.00 EUR. She takes the receipt

and keeps it for later refunds.



Ms Dana got a form from her accountant in order to enter the purchase of stationary therein. The form is

based on MS Excel and looks as in exhibit 39.1.

She enters the amounts as net amounts and VAT separately into the petty cash book form.

Date Narrative Input VAT Stationary Catering Decoration Business car

20.01.20X7 Opening PCB 500.00

21.01.20X7 Buying stationary, receipt_001 (40.00) (200.00)

500.00 (40.00) (200.00) 0.00 0.00 0.00

Swartklip Ltd.'s (back office)

PETTY CASH BOOK

as at 31.12.20X7

Exhibit 39.1: SWARTKLIP Ltd.‘s petty cash book

Ms DANA also purchases paper at the stationary shop on 30.01.20X7. In contrast to the stationary tools

she orders the paper and asks for delivery into the office. The stationary store delivers the paper and sends

the bill which is transferred to the accountant after Ms DANA confirmed the receipt of the goods. He

pays the paper bill by internet banking on 2.02.20X7. Its net amount is 120.00 EUR

(10) Purchase of paper on 30.01.20X7

DR Purchase ......................... 100.00 EUR

DR VAT .............................. 20.00 EUR


(11) Payment for the paper bill on 2.02.20X7


CR Bank Account ..................... 120.00 EUR

(12) The paper is transferred to an account called Stationary Expenses account which is for all kind of

office material expenses on 2.02.20X7. The name expenses indicates that these items are considered being

short-term assets. This means that the puncher or stapler won’t get depreciated but will be expensed in

20X7 already in full.

DR Stationary Expenses .............. 100.00 EUR

CR Purchase ......................... 100.00 EUR

(Note, SWARTKLIP Ltd. runs a perpetual inventory system for office materials.)

On 24.02.20X7 SWARTKLIP Ltd. expects a new customer coming for a meeting into the office. Ms Da-

na has to go to the flower shop and buy some flowers at a cash price of 27.00 EUR. She further goes to

the fruit shop and buys some fruits to be offered during the meeting. The fruits cost 12.00 EUR. At the

local grocery store she buys biscuits and instant coffee. The receipt she got in the grocery shop is 18.00

EUR. Back in the office she enters her errands into the petty cash book form. It looks now as shown in

exhibit 39.2:




20.01.20X7 Opening PCB 500.00


24.02.20X7 Flowers, receipt_002 (4.50) (22.50)

24.02.20X7 Fruits, receipt_003 (2.00) (10.00)

24.02.20X7 Groceries, receipt_004 (3.00) (15.00)

500.00 (49.50) (200.00) (25.00) (22.50) 0.00


PETTY CASH BOOK

as at 31.12.20X7

Exhibit 39.2: SWARTKLIP Ltd.’s petty cash book

On 4.03.20X7 Ms DANA has to fill up the car and to buy some ball pens at the stationary shop on her

way back to the office. Filling up the car costs 69.00 EUR and she pays 30.00 EUR at the stationary shop.

Now, the petty cash book looks like shown in exhibit 39.3:


20.01.20X7 Opening PCB 500.00



24.02.20X7 Fruits, receipt_003 (2.00) (10.00)


4.03.20X7 Gas station, receipt_005 (11.50) (57.50)

4.03.20X7 Stationary shop, receipt_006 (5.00) (25.00)

500.00 (66.00) (225.00) (25.00) (22.50) (57.50)


PETTY CASH BOOK

as at 31.12.20X7


Later Ms DANA presents all receipts to the accountant. The total of gross amounts in the petty cash book

adds up to an amount of 240 + 27 + 12 + 18 + 69 + 30 = 396.00 EUR. The bookkeeper pays the

amount of 396.00 EUR into the petty cash book on 5.03.20X7. He actually takes the amount out of cash

and gives it to Ms DANA.

(13) Refund petty cash book for expenses on 5.03.20X7

DR Petty Cash Book .................. 396.00 EUR

CR Cash ............................. 396.00 EUR

In case the total of the last line is summarized the amount will be 896 – 66 – 225 – 25 – 22.50 – 57.50 =

500.00 EUR again. This is the amount of the petty cash float. Observe the petty cash book in exhibit

39.4:




20.01.20X7 Opening PCB 500.00



24.02.20X7 Fruits, receipt_003 (2.00) (10.00)


4.03.20X7 Gas station, receipt_005 (11.50) (57.50)

4.03.20X7 Stationary shop, receipt_006 (5.00) (25.00)

5.03.20X7 Refunding all expenses so far 396.00

896.00 (66.00) (225.00) (25.00) (22.50) (57.50)


PETTY CASH BOOK

as at 31.12.20X7


In order to assign the expenses paid on cash (see the petty cash book) and recorded by Ms DANA it is

important posting the expenses to the expense accounts they belong to. It is the advantage of the petty

cash book that only the totals of the expenses are to be posted by the bookkeeping records. This easy

example doesn’t really demonstrate this advantage because there are only a few errands run by Ms DANA.

The bookkeeper takes the petty cash book form filled by Ms DANA and makes the bookkeeping entries

below.

(14, 18) Booking expenses and VAT paid on cash on 5.03.20X7

DR VAT .............................. 66.00 EUR

CR Petty Cash Book .................. 66.00 EUR

DR Stationary Expenses .............. 225.00 EUR


DR Catering Expenses ................ 25.00 EUR


DR Decoration Expenses .............. 22.50 EUR


DR Business Car Expenses ............ 57.50 EUR


By these entries the input VAT SWARTKLIP Ltd. is entitled to get refunded is debited to the VAT ac-

count. The other expense accounts are charged by the amount paid thereon.

On 5.04.20X7 SWARTKLIP Ltd. receives a payment for revenue made with a customer. The amount is

75,000.00 EUR and includes VAT.



(19) Posting revenue on 5.04.20X7


CR VAT .............................. 12,500.00 EUR

CR Revenue .......................... 62,500.00 EUR

(20) SWARTKLIP Ltd. pays for labour 50,000.00 EUR per bank transfer.

DR Labour ........................... 50,000.00 EUR


Observe the accounts after their balancing off in order to achieve the full picture of SWARTKLIP Ltd.’s

financial situation in exhibit 39.5.

(Note, the balancing figure of the Petty Cash Book is 500.00 EUR.)

D C D C

(1) 50,000.00 (3) 3,500.00 c/d 50,000.00 (1) 50,000.00

(2) 100,000.00 (4) 5,000.00 b/d 50,000.00

(19) 75,000.00 (5) 84,000.00

(7) 10,000.00

(8) 1,000.00

(11) 120.00

(20) 50,000.00

c/d 71,380.00

225,000.00 225,000.00

b/d 71,380.00

D C D C

(4) 5,000.00 (2) 100,000.00 (3) 3,500.00 c/d 3,500.00

c/d 95,000.00 b/d 3,500.00

100,000.00 100,000.00

b/d 95,000.00

D C D C

(5) 70,000.00 c/d 70,000.00 (5) 14,000.00 (19) 12,500.00

b/d 70,000.00 (10) 20.00

(14) 66.00 c/d 1,586.00

14,086.00 14,086.00

b/d 1,586.00

P, P, E VAT

Bank Issued capital


Exhibit 39.5: SWARTKLIP Ltd.’s accounts



D C D C

(6) 20,000.00 c/d 20,000.00 c/d 20,000.00 (6) 20,000.00

b/d 20,000.00 b/d 20,000.00

D C D C

(7) 10,000.00 c/d 10,000.00 (8) 1,000.00 (9) 500.00

b/d 10,000.00 (13) 396.00

c/d 104.00

1,000.00 1,000.00

b/d 104.00

D C D C

(9) 500.00 (14) 66.00 (10) 100.00 (12) 100.00

(13) 396.00 (15) 225.00

(16) 25.00

(17) 22.50

(18) 57.50

c/d 500.00 D C

896.00 896.00 (20) 50,000.00 c/d 50,000.00

b/d 500.00 b/d 50,000.00

D C D C

(11) 120.00 (10) 120.00 (12) 100.00

(15) 225.00 c/d 325.00

325.00 325.00

b/d 325.00

D C D C

(16) 25.00 c/d 25.00 (17) 22.50 c/d 22.50

b/d 25.00 b/d 22.50

D C D C

(18) 57.50 c/d 57.50 c/d 62,500.00 (19) 62,500.00

b/d 57.50 b/d 62,500.00

Rent Cash


Petty cash book Purchase

Accounts payables Stationary expenses

Labour

Catering expenses Decoration expenses

Business car expenses Revenue

Exhibit 39.5: SWARTKLIP Ltd.’s accounts (continued)

By the next steps the profit for SWARTKLIP Ltd. is calculated. All nominal accounts are closed off to the

Profit and Loss account. See the bookkeeping entries below and the accounts displayed by exhibit 39.6.

(Note, SWARTKLIP Ltd. is no trading business. There is no need to prepare a Trading account.)

DR P&L Account ...................... 3,500.00 EUR

CR Interest ......................... 3,500.00 EUR



DR P&L Account ...................... 20,000.00 EUR


DR P&L Account ...................... 10,000.00 EUR

CR Rent ............................. 10,000.00 EUR

DR P&L Account ...................... 325.00 EUR

CR Stationary Expenses .............. 325.00 EUR

DR P&L Account ...................... 25.00 EUR

CR Catering Expenses ................ 25.00 EUR

DR P&L Account ...................... 22.50 EUR

CR Decoration Expenses .............. 22.50 EUR

DR P&L Account ...................... 57.50 EUR

CR Business Car Expenses ............ 57.50 EUR

DR P&L Account ...................... 50,000.00 EUR

CR Labour ........................... 50,000.00 EUR

DR Revenue .......................... 62,500.00 EUR

CR P&L Account ...................... 62,500.00 EUR

D C D C

(1) 50,000.00 (3) 3,500.00 c/d 50,000.00 (1) 50,000.00

(2) 100,000.00 (4) 5,000.00 b/d 50,000.00

(19) 75,000.00 (5) 84,000.00

(7) 10,000.00

(8) 1,000.00

(11) 120.00

(20) 50,000.00

c/d 71,380.00

225,000.00 225,000.00

b/d 71,380.00

Bank Issued capital

Exhibit 39.6: SWARTKLIP Ltd.’s accounts



D C D C

(4) 5,000.00 (2) 100,000.00 (3) 3,500.00 c/d 3,500.00

c/d 95,000.00 b/d 3,500.00 P&L 3,500.00

100,000.00 100,000.00

b/d 95,000.00

D C D C

(5) 70,000.00 c/d 70,000.00 (5) 14,000.00 (19) 12,500.00

b/d 70,000.00 (10) 20.00

(14) 66.00 c/d 1,586.00

14,086.00 14,086.00

b/d 1,586.00

D C D C

(6) 20,000.00 c/d 20,000.00 c/d 20,000.00 (6) 20,000.00

b/d 20,000.00 P&L 20,000.00 b/d 20,000.00

D C D C

(7) 10,000.00 c/d 10,000.00 (8) 1,000.00 (9) 500.00

b/d 10,000.00 P&L 10,000.00 (13) 396.00

c/d 104.00

1,000.00 1,000.00

b/d 104.00

D C D C

(9) 500.00 (14) 66.00 (10) 100.00 (12) 100.00

(13) 396.00 (15) 225.00

(16) 25.00

(17) 22.50

(18) 57.50

c/d 500.00 D C

896.00 896.00 (20) 50,000.00 c/d 50,000.00

b/d 500.00 b/d 50,000.00 P&L 50,000.00

D C D C

(11) 120.00 (10) 120.00 (12) 100.00

(15) 225.00 c/d 325.00

325.00 325.00

b/d 325.00 P&L 325.00

D C D C

(16) 25.00 c/d 25.00 (17) 22.50 c/d 22.50

b/d 25.00 P&L 25.00 b/d 22.50 P&L 22.50

Catering expenses Decoration expenses

Petty cash book Purchase

Accounts payables Stationary expenses

Labour


Rent Cash

P, P, E VAT





D C D C

(18) 57.50 c/d 57.50 c/d 62,500.00 (19) 62,500.00

b/d 57.50 P&L 57.50 P&L 62,500.00 b/d 62,500.00

D C D C

Interest 3,500.00 Rev 62,500.00 P&L 21,430.00 c/d 21,430.00

Depr 20,000.00 b/d 21,430.00

Rent 10,000.00

Stat 325.00

Cater 25.00

Deco 22.50

Car 57.50

Labour 50,000.00 NL c/d 21,430.00

83,930.00 62,500.00

b/d 21,430.00 R/E 21,430.00

Business car expenses Revenue



For the statement of comprehensive income the expenses for rent, stationary, catering, decoration, and

for the business car are added up and displayed as the other expense item: 10,000 + 325 + 25 + 22.50 +

57.50 = 10,430.00 EUR. The statement of comprehensive income is displayed by exhibit 39.7.

[EUR]

Revenue 62,500.00

Other income

62,500.00

Materials 0.00

Labour 50,000.00




Interest 3,500.00



Deferred taxes


Swartklip Ltd.'s



Exhibit 39.7: SWARTKLIP Ltd.’s statement of comprehensive income

For the preparation of the statement of financial position the items cash, bank, and petty cash book are

combined. The amount is 71,380 + 104 + 500 = 71,984.00 EUR. The item receivables results from VAT.

The amount for the item property, plant, and equipment is 70,000 – 20,000 = 50.000.00 EUR.

See the statement of financial position in exhibit 39.8.



A C, L






Inventory Interest bear liab 95,000.00

A/R 1,586.00 A/P



123,570.00 123,570.00

Swartklip Ltd.'s


as at 31.12.20X7

Exhibit 39.8: SWARTKLIP Ltd.’s statement of financial position

Summary:

The petty cash book is used to record purchases and expenses paid on cash. The concept guarantees that

VAT and the expenses are recorded and allocated correctly. Instead of posting each and every buy or

expense the petty cash book gathers expenses and allows making one bookkeeping entry for expenses of

the same kind together.

It is required posting the items in the general ledger’s expense accounts in order to make them count.


Petty Cash Book: The petty cash book is an amount of cash used for minor purchases. After the buys

have been made the receipts will be allocated to expense accounts and the petty cash book is filled up

again.

Petty Cash Float: The petty cash float is the initial amount of the petty cash book. Later on the petty

cash book will be filled up to that amount at the end of every accounting period.



(40) Books of Original Entry


To our knowledge you can survive as an accountant without books of original entry. Nowadays, we do

not have the need to make use of this concept because you’ll make bookkeeping entries by computer

software. So you can make as many bookkeeping entries as you want. We only write this chapter with the

intention to make you familiar with the concept of books of original entry in case you see it being applied

in a company.

(Note, books of original entry are covered by chapter 4 of the text book Bilanzen but we often skip the

chapter in class.)

Books of original entry are documents to gather purchases or sales for example. They are in use to keep

the bookkeeping records free of too many bookkeeping entries. A huge production company like Siemens

AG might have a thousand bookkeeping entries for purchases during a day. In the old days of bookkeep-

ing when the bookkeeper made the entries on paper the huge amount of bookkeeping entries would have

filled the accounts very fast. It makes sense to gather the bookkeeping entries in a separate document that

is outside of the bookkeeping records and to make bookkeeping entries for a few hundred of purchases

together e.g.

In order to understand the concept of books of original entry think about a small paper block you keep in

the glove compartment of your car. Every time when you go to a gas station to fill up your car you write

the amount you paid on the paper block and you keep the receipt also. At the end of the month you might

have a few entries and a few receipts in your car and you will add up the petrol purchases. You then make

only one bookkeeping entry for all petrol purchases together. You debit the net amount to the Petrol Ex-

pense account and the VAT to your VAT account and you make a credit entry in the Bank account –

provided you always pay by your visa or master card at the gas station. Your paper block will be regarded

as a book of original entry already.

A book of original entry is a list for similar bookkeeping entries like purchases, sales, labour, etc.

Only the total of the entries will be entered into the bookkeeping records whereas the book of

original entry that contains the single entries will be kept as additional document. Books of origi-

nal entry often are called journals. E.g. purchase journal for a book of original entry that contains purchas-

es.

Companies use books of original entry for purchases, for sales, for the cash book, for returns inwards and

for returns outwards. In case a company uses books of original entry the cash book dominates the other

ones! This means the purchases are only entered in the purchase journal in case they have been made on

credit. If there is a buy on cash it will go to the cash book.

The cash book is different to other books of original entries. It actually replaces the Cash/Bank account.

It often contains columns for different banks and a cash column. A company that banks with Com-

merzbank AG and with Sparkasse Osnabrück will use 1 column for cash, one for Commerzbank AG and

another one for Sparkasse Osnabrück.

The format for the books of original entries which represent items on the debit side (e.g. purchase journal,

cash book) is DR(CR). This means debit entries will be shown as positive amounts and credit entries are

negative.



(Note, the complete concept of books of original entries is covered by chapter 4 of the text book Bilan-

zen.)

If you compare the concept to the previous chapter you will easily understand that the petty cash book is a

book of original entry also.

We explain the concept of books of original entries by a case study. MUIRFIELD (Pty) Ltd. is a CD store

in a local mall. The company is established by an accounting student who is a music expert. He buys CDs

from different suppliers and runs a purchase ledger. This means he wants to know from which supplier he

bought CDs and whether or not the bill is still outstanding. However, he is not very much interested in

recording his customers, as he only accepts sales on cash. For this reason he applies the purchase journal,

a purchase ledger, and a cash book. See the bookkeeping records of his company below:

MUIRFIELD (Pty) Ltd. is established by issuing ordinary shares on 1.01.20X2. There are 50,000 ordinary

shares issued at 1.00 EUR each. The shares are not traded publically. MUIRFIELD (Pty) Ltd. uses a cash

book which replaces the Cash/Bank account.


DR Cash Book (Bank) ................. 50,000.00 EUR


(Note, we mention the column within the cash book in brackets.)

The cash book is an account but it isn’t displayed as a T-account. See the cash book being displayed by

exhibit 40.1 as a two column ledger in the DR(CR) format:

Date Narrative Cash Bank

1.01.20X2 Share issue 50,000.00

Cash Book

Exhibit 40.1: MUIRFIELD (Pty) Ltd.’s cash book

Because the cash book is regarded as an account there is no reason to close it off to a further account. In

contrast the other books of original entry won’t be seen as accounts and the total of the items is to be

transferred to an account therefore. Compare to this the purchase journal further down and the

bookkeeping entry (4) to transfer the total of purchases and the total of input VAT to the Purchase ac-

count and the VAT account.

On 2.01.20X2 MUIRFIELD (Pty) Ltd. pays rent for the accounting period 20X2. Rent for the store

amounts to 12,000.00 EUR per year and is paid by internet banking. There is no VAT to be considered

for rent as the landlord is a private person. The cash book is to be used because this is a transaction affect-

ing the Bank account which means the amount is credited to the cash book’s bank column.




DR Rent ............................. 12,000.00 EUR

CR Cash Book (Bank) ................. 12,000.00 EUR

On 3.01.20X2 MUIRFIELD (Pty) Ltd. buys music compact disks. MUIRFIELD (Pty) Ltd. orders from

different suppliers:

- from AFRICAN MUSIC Ltd. 1,000 house music compact disks at a net purchase price of 8.00 EUR/u

The total purchase price amounts to 8.00 x 1,000 = 8,000.00 EUR. The gross amount is 8,000 x 120% =

8,160.00 EUR.

- from MUSIC IMPORT (Pty) Ltd. 800 jazz music compact disks at a net purchase price of 8.50 EUR/u.

The total purchase price amounts to 8.50 x 800 = 6,800.00 EUR. The gross amount is 6,800 x 120% =

8,160.00 EUR.

- from AFRICAN MUSIC Ltd. 500 R&B music compact disks at a net purchase price of 7.75 EUR/u The

total purchase price amounts to 7.75 x 500 = 3,875.00 EUR. The gross amount is 3,875 x 120% =

4,650.00 EUR.

- from eMUSIC Corp. 600 Hip-Hop music compact disks at a net purchase price of 10.50 EUR/u. The

total purchase price amounts to 10.50 x 600 = 6,300.00 EUR. The gross amount is 6,300 x 120% =

7,560.00 EUR.

On 4.01.20X2 MUIRFIELD (Pty) Ltd. returns 100 scratched jazz music compact disks to the supplier

MUSIC IMPORT (Pty) Ltd. The supplier allows MUIRFIELD to deduct the amount from the still out-

standing bill.

The return can be posted to a returns outwards journal or as a negative amount to the purchase journal.

MUIRFIELD (Pty) Ltd. follows the latter method and makes a negative entry in the purchase journal.

On 7.02.20X2 MUIRFIELD (Pty) Ltd. orders 2,000 sampler music compact disks from eMUSIC Corp. at

a net purchase price of 6.75 EUR/u. The total purchase price amounts to 6.75 x 2,000 = 13,500.00 EUR.

The gross amount is 13,500 x 120% = 16,200.00 EUR.

All of the above orders do not go through the accounts yet but require making an entry in the purchase

ledger. The total of the net purchases and the input VAT will be transferred later to the Purchase account

and the VAT account.

On 9.02.20X2 MUIRFIELD (Pty) Ltd. orders 200 house music compact disks from AFRICAN MUSIC

Ltd. at a net purchase price of 8.00 EUR. MUIRFIELD (Pty) Ltd. pays via the internet immediately. As

the payment takes place directly at the time of the purchase the transaction is a bank transaction and re-

quires no entry in the purchase journal. However, the cash book is affected and the amount is credited to

the cash book’s bank column. The total purchase price amounts to 8.00 x 200 = 1,600.00 EUR. The gross

amount is 1,600 x 120% = 1,920.00 EUR. MUIRFIELD (Pty) Ltd. has to make a bookkeeping entry as

the cash book is now affected.



(3) Purchase of compact disks on cash on 9.02.20X2

DR Purchase ......................... 1,600.00 EUR

DR VAT .............................. 320.00 EUR


On 12.02.20X2 MUIRFIELD buys 500 kids‘ music on compact disks from RAINBOW MUSIC Ltd. at a

unit purchase price of 5.75 EUR. The total purchase price amounts to 5.75 x 500 = 2,875.00 EUR. The

gross amount is 2,875 x 120% = 3,450.00 EUR. The purchase is on credit and the purchase journal is

affected therefore.

At this stage all purchases have been made for the accounting period 20X2. See the purchase journal as

displayed by exhibit 40.2:

Date Narrative Net amount VAT Gross amount

3.01.20X2 1,000 House music-CDs from AFRICAN MUSIC Ltd 8,000.00 1,600.00 9,600.00

3.01.20X2 800 JAZZ music-CDs from MUSIC IMPORT (Pty) Ltd 6,800.00 1,360.00 8,160.00

3.01.20X2 500 R&B music-CDs from AFRICAN MUSIC Ltd 3,875.00 775.00 4,650.00

3.01.20X2 600 HipHop music-CDs from eMusic Corp 6,300.00 1,260.00 7,560.00

4.01.20X2 Return of 100 jazz music-CDs to MUSIC IMPORT (Pty) Ltd (800.00) (160.00) (960.00)

7.2.20X2 2,000 samler music -CDs from eMusic Corp 13,500.00 2,700.00 16,200.00

12.02.20X2 500 kids' music-CDs from RAINBOW MUSIC Ltd. 2,875.00 575.00 3,450.00

40,550.00 8,110.00 48,660.00

Purchase Journal

Exhibit 40.2: MUIRFIELD (Pty) Ltd.‘s purchase journal

At the end of the accounting period MUIRFIELD (Pty) Ltd. transfers the total of purchases and the total

of input VAT to the Purchase account and to VAT account. The credit entries are made in personalised

payables accounts for supporting an open item bookkeeping system. An open item bookkeeping sys-

tem is a purchase, sales, or human resource ledger as a subsidiary ledger where every supplier,

customer, or employee has a special account. This way it becomes easy to observe which payment to

which supplier, from which customer, or to which employee is still outstanding (= open).

The bookkeeping entries for the purchases are made with regard to purchases and VAT all together. The

crediting to the payables is to the personalised payables accounts like to A/P (eMUSIC) account. See be-

low the bookkeeping entry made on 31.12.20X2.

(Note, we pull forward the bookkeeping entry (4) because it belongs to the activities on 3.01.20X2,

4.01.20X2, 7.02.20X2, and 10.02.20X2 as mentioned above.)



(4) Purchases from the purchase ledger on 31.12.20X2

DR Purchase ......................... 40,550.00 EUR

DR VAT .............................. 8,110.00 EUR

CR A/P (AFRICAN MUSIC) .............. 9,600.00 EUR

CR A/P (MUSIC IMPORT) ............... 8,160.00 EUR

CR A/P (AFRICAN MUSIC) .............. 4,650.00 EUR

CR A/P (eMUSIC) ..................... 7,560.00 EUR

DR A/P (MUSIC IMPORT) ............... 960.00 EUR

CR A/P (eMUSIC) ..................... 16,200.00 EUR

CR A/P (RAINBOW) .................... 3,450.00 EUR

The 7th entry is a debit entry because it is linked to a return outwards.

(Note, it would have been better accounting style pulling the 7th entry up to the other debit entries. We

didn’t do that for didactical reasons. In exhibit 40.4 the entries in the purchase ledger got further numbers

like (4.1).)

On 5.01.20X2 MUIRFIELD (Pty) Ltd. sells 200 music compact disks. The gross selling price is 15.90

EUR/u. The sale is on cash and requires making an entry in the cash book. The total gross amount is

15.90 x 200 = 3,180.00 EUR. As the cash book is a real account the debit entry can be made directly. See

bookkeeping entry (5).

(5) Sale of 200 CDs on 5.01.20X2 on cash

DR Cash Book (Cash) ................. 3,180.00 EUR

CR VAT .............................. 530.00 EUR

CR Sales ............................ 2,650.00 EUR

The bookkeeping entry identification number (here: (5)) is shown in the narrative column in the cash

book. See exhibit 40.3. The credit entries are made in the T-accounts as displayed in exhibit 40.4.


EUR/u. The sale is on cash and requires making an entry in the cash book. The total gross amount is

15.90 x 150 = 2,385.00 EUR.



CR VAT .............................. 397.50 EUR

CR Sales ............................ 1,987.50 EUR




EUR/u. The sale is on cash and requires an entry in the cash book. The total gross amount is 15.90 x 800

= 12,720.00 EUR.



CR VAT .............................. 2,120.00 EUR

CR Sales ............................ 10,600.00 EUR

On 16.01.20X2 MUIRFIELD pays 10,000.00 EUR into their bank account. The money is taken out on

cash. The transaction only is to be seen in the cash book as two columns of the cash book are involved.

No other account is affected.

(8) Cash payment into the bank account on 16.01.20X2

DR Cash Book (Bank) ................. 10,000.00 EUR

CR Cash Book (Cash) ................. 10,000.00 EUR

MUIRFIELD (Pty) Ltd. pays the amount owing eMUSIC Corp on 10.02.20X2 per bank transfer. The

amount is 7,560 + 16,200 = 23,760.00 EUR.

(9) Payment of payables to eMUSIC Corp on 10.02.20X2

DR A/P (eMUSIC) ..................... 23,760.00 EUR


On 15.02.20X2 MUIRFIELD (Pty) Ltd. pays for labour 5,000.00 EUR by internet banking.

(10) Payment for labour on 15.02.20X2

DR Labour ........................... 5,000.00 EUR


See the cash book and the other accounts in exhibit 40.3 and 40.4.

Date Narrative Cash Bank

1.01.20X2 Share issue (1) 50,000.00

2.01.20X2 Paying rent (2) (12,000.00)

5.01.20X2 200 CDs sold at 15.90 EUR/u (5) 3,180.00

9.01.20X2 150 CDs sold at 15.90 EUR/u (6) 2,385.00

15.01.20X2 800 CDs sold at 15.90 EUR/u (7) 12,720.00

16.01.20X2 Paid 6.000.00 EUR into the bank (8) (10,000.00) 10,000.00

9.02.20X2 Purchase of 200 house music-CDs (3) (1,920.00)

10.02.20X2 Paid bills from eMUSIC Corp 23,760.00 EUR (9) (23,760.00)

15.02.20X2 Payment for labour (10) (5,000.00)

31.12.20X2 Balance c/d (8,285.00) (17,320.00)

0.00 0.00

1.01.20X3 Balance b/d 8,285.00 17,320.00

Cash Book

Exhibit 40.3 MUIRFIELD (Pty) Ltd.‘s cash book



D C D C

c/d 50,000.00 (1) 50,000.00 (2) 12,000.00 c/d 12,000.00

b/d 50,000.00 b/d 12,000.00

D C D C

(3) 320.00 (5) 530.00 (3) 1,600.00

(4) 8,110.00 (6) 397.50 (4) 40,550.00 c/d 42,150.00

(7) 2,120.00 42,150.00 42,150.00

c/d 5,382.50 b/d 42,150.00

8,430.00 8,430.00

b/d 5,382.50

D C D C

(4.1) 9,600.00 (4.5) 960.00 (4.2) 8,160.00

c/d 14,250.00 (4.3) 4,650.00 c/d 7,200.00

14,250.00 14,250.00 8,160.00 8,160.00

b/d 14,250.00 b/d 7,200.00

D C D C

(9) 23,760.00 (4.4) 7,560.00 c/d 3,450.00 (4.7) 3,450.00

(4.6) 16,200.00 b/d 3,450.00

23,760.00 23,760.00

D C D C

(5) 2,650.00 (10) 5,000.00 c/d 5,000.00

(6) 1,987.50 b/d 5,000.00

c/d 15,237.50 (7) 10,600.00

15,237.50 15,237.50

b/d 15,237.50

Issued capital Rent

VAT Purchase

Sales Labour

A/P (AFRICAN MUSIC) A/P (MUSIC IMPORT)

A/P (eMUSIC) A/P (RAINBOW)

Exhibit 40.4: MUIRFIELD (Pty) Ltd.‘s accounts (cash book in exhibit 40.3)

In order to check the consistence with the double entry system and instead of preparing a trial balance we

simply add all debit balances and deduct all credit balances: 8,285 + 17,320 – 50,000 + 12,000 + 5,382.50

+ 42,150 – 14,250 – 7,200 – 15,237.50 + 5,000 = 0.00 EUR. The total of debit entries equals to total of

the credit entries.

(Note, this way we are running a „light“ trial balance because making bookkeeping entries in 2 exhibits is

likely to become faulty. We recommend you doing this in exams also before profit calculation. Just take a

calculator and go through all accounts adding the debit balanced accounts‘ balancing figures and subtract

the credit balanced ones.)

MUIRFIELD (Pty) Ltd. runs a periodic inventory system and needs to count stock at the end of the ac-

counting period. It reveals that there are 900 house music compact disks, 600 jazz music compact disks,



250 R&B music compact disks, 350 Hip Hop music compact disks, 1,950 sampler music compact disks,

and 300 kids‘ music compact disks left. The value of the closing stock is 900 x 8 + 600 x 8.50 + 250 x 7.75

+ 350 x 10.50 + 1,950 x 6.75 + 300 x 5.75 = 32,800.00 EUR.

(Note, so far we did not consider which music on compact disks are sold. All compact disks in this exam-

ple are sold at the same selling price.)

The closing stock is credited to the Trading account.

DR Inventory ........................ 32,800.00 EUR


All nominal accounts are closed off to the Trading account or the Profit and Loss account.

DR Sales ........................... 15,237.50 EUR



CR Purchase ......................... 42,150.00 EUR

The purchases are purchases from the purchase journal plus the purchases bought on cash. There is no

difference between the purchases in terms of profit calculation.

The amount for the gross profit is 42,150 – 15,237.50 – 32,800 = 5,887.50 EUR. The amount is trans-

ferred to the Profit and Loss account by the next bookkeeping entry:


CR P&L-Account ...................... 5,887.50 EUR

Further accounts are closed off to the Profit and Loss account:

DR P&L Account ...................... 12,000.00 EUR

CR Rent ............................. 12,000.00 EUR

DR P&L Account ...................... 5,000.00 EUR

CR Labour ........................... 5,000.00 EUR

MUIRFIELD (Pty) Ltd. comes up with a net loss of 11,112.50 EUR. The amount is transferred into the

Retained Earnings account. As it is a loss the Retained Earnings Account is debited.


CR P&L-Account ...................... 11,112.50 EUR

Observe MUIRFIELD (Pty) Ltd.‘s accounts after the profit calculation (rather: loss calculation) in exhibit

40.5:



D C D C

c/d 50,000.00 (1) 50,000.00 (2) 12,000.00 c/d 12,000.00

b/d 50,000.00 b/d 12,000.00 P&L 12,000.00

D C D C

(3) 320.00 (5) 530.00 (3) 1,600.00

(4) 8,110.00 (6) 397.50 (4) 40,550.00 c/d 42,150.00

(7) 2,120.00 42,150.00 42,150.00

c/d 5,382.50 b/d 42,150.00 T/A 42,150.00

8,430.00 8,430.00

b/d 5,382.50

D C D C

(4.1) 9,600.00 (4.5) 960.00 (4.2) 8,160.00

c/d 14,250.00 (4.3) 4,650.00 c/d 7,200.00

14,250.00 14,250.00 8,160.00 8,160.00

b/d 14,250.00 b/d 7,200.00

D C D C

(9) 23,760.00 (4.4) 7,560.00 c/d 3,450.00 (4.7) 3,450.00

(4.6) 16,200.00 b/d 3,450.00

23,760.00 23,760.00

D C D C

(5) 2,650.00 (10) 5,000.00 c/d 5,000.00

(6) 1,987.50 b/d 5,000.00 P&L 5,000.00

c/d 15,237.50 (7) 10,600.00

15,237.50 15,237.50

T/A 15,237.50 b/d 15,237.50

D C D C

Purch 42,150.00 Sales 15,237.50 T/A 32,800.00 c/d 32,800.00

GP c/d 5,887.50 Inv 32,800.00 b/d 32,800.00

48,037.50 48,037.50

P&L 5,887.50 b/d 5,887.50

D C D C

Rent 12,000.00 T/A 5,887.50 c/d 11,112.50 P&L 11,112.50

Labour 5,000.00 NL c/d 11,112.50 b/d 11,112.50

17,000.00 17,000.00

b/d 11,112.50 R/E 11,112.50

Trading Inventory


Issued capital Rent

VAT Purchase

Sales Labour

A/P (AFRICAN MUSIC) A/P (MUSIC IMPORT)

A/P (eMUSIC) A/P (RAINBOW)

Exhibit 40.5: MUIRFIELD (Pty) Ltd.‘s accounts (cash book in exhibit 40.3)

The financial statements are presented by the exhibits 40.6 and 40.7.



In the statement of financial position the amount for receivables results from the VAT claims. The

amount for cash/bank is drawn from the cash column and the bank column of the cash book. It is 8,285

+ 17,320 = 25,605.00 EUR. The payables are the debts MUIRFIELD (Pty) Ltd. owes its suppliers:

14,250 + 7,200 + 3,450 = 24,900.00 EUR. See the statement of financial position in exhibit 40.6:

A C, L


P, P, E Share capital 50,000.00





A/R 5,382.50 A/P 24,900.00



63,787.50 63,787.50

Muirfield (Pty) Ltd.'s


as at 31.12.20X2

Exhibit 40.6: MUIRFIELD (Pty) Ltd.‘s statement of financial position

In the income statement the amount for materials is calculated as all purchases less the closing stock:

42,150 – 32,800 = 9,350.00 EUR. The returns do not have to be considered separately as they have been

credited in the purchase journal already. See the statement of comprehensive income in exhibit 40.7:

[EUR]

Revenue 15,237.50

Other income

15,237.50

Materials 9,350.00

Labour 5,000.00

Depreciation 0.00



Interest 0.00



Deferred taxes


Muirfield (Pty) Ltd.'s



Exhibit 40.7: MUIRFIELD (Pty) Ltd.‘s statement of comprehensive income



Summary:

Books of original entry are documents to gather items resulting from a whole lot of transactions, like pur-

chases, sales, returns, etc. The books of original entry allow to only making bookkeeping entries for a sum

of activities. Only the cash book is regarded as a real account. The other books of original entry are no

accounts. The total of the items needs to be posted to accounts like the total of purchases in the purchase

journal is to be debited to the Purchase account.

(Note, accounting teachers tend to give high marks for the transfer of bookkeeping entries to make sure

students do not forget to make these bookkeeping entries in the general ledger. Some exam marking con-

cepts gives you the same amount for the purchase journal as for the bookkeeping entry in the Purchase

account.)

Definitions:

Books of Original Entry: A book of original entry is a list for similar bookkeeping entries like purchases,

sales, labour, etc. Only the total of the entries will be entered into the bookkeeping records whereas the

book of original entry that contains the single entries will be kept as additional document.

Open Item Bookkeeping System: An open item bookkeeping system is a purchase, sales, or human

resource ledger as a subsidiary ledger where every supplier, customer, or employee has an special account.



( ) Abbreviations

A/P Accounts Payables

A/R Accounts Receivables

/a per annum, per year

BoE Books of original Entry

b/d Balance brought down

B/S Balance Sheet

CB Cash Book

c/d Balance carried down

c/f carried forward (Profit)

CFS Statement of Cash Flows

COS Cost of Sales

CR Credit Recorded

D Debit

/d per day

DR Debit Recorded

EAT Earnings After Taxes

EBIT Earnings Before Interest and Taxes

EBT Earnings Before Taxes

EUR Euro

IAS International Accounting Standards

IASB International Accounting Standards Board

IFRS International Financial Reporting Standards

I/S Income Statement

Ltd. Limited company

LoD Loss on Disposal

/m per month

NoE Nature of Expense method

P&L Profit and Loss

PCB Petty Cash Book

PoD Profit on Disposal

P, P, E Property, Plant, and Equipment

(Pty) Ltd. Privately limited company

SCE Statement of Changes in Equity

R/D Refer to Drawer

R/E Retained Earnings

Sh4D Shareholder for Dividend

T/A Trading account

/u per unit

Documents

Accounting-Intro (Bookkeeping) - UVK · PDF fileThe ebook Accounting-Intro is ... are relevant to determine income taxes and deferred tax. ... We write the bookkeeping entries as debit