Accounting for Managers Assignment
1
The purpose of the financial statements is to provide information about a company.
There are four main financial statements; namely income statement, statement of cash
flow, statement of financial performance and statement of changes in equity which
provides assistant to external users in making informed decisions about the company
such as resource allocation like investment and financing. (IAS 1)
Question a
The income statement also known as the statement of profit or loss depicts the
performance of the company by showing the revenue generated, less the expenses
incurred to obtain the profits or losses during an accounting period which would should
the performance of the company. If the revenue of a company over a period of time is
higher than the expenses, there will be a profit. Similarly, if the revenue of a company
over a period of time is lower than the expenses, the company will incur a loss. The
income statement may be disclosed by monthly, quarterly, or yearly which helps external
users to predict the company’s future performance.
Few examples of external users who use the income statement are shareholders,
investors, and creditors or lenders. Investors use the income statement to determine if
the company provides a good return on their investment and thus, make decisions such
as whether to sell or keep the shares they own in the company. Good performance can
generate high revenue leading to high profits, which in turn results in higher dividend for
the investors. Alternatively, low performance leading to lower dividends might not attract
investors’ attention and may sequentially result in investors selling their shares.
Creditors or lenders will evaluate base on the income statement whether the company
has a good financial standing as they have to take into account the company’s ability to
pay back the loan and interest. Lenders are more liable to loan the company if the
company’s primary activities involves equity financing, as they have a higher assurance
that the loan can be repaid. Equity financing refers to raising capital from selling shares
of the company to the investors. Alternatively, if the company’s primary activities involves
debt financing whereby the company takes on more debt in order to finance its
operations, the lenders might not be keen to finance the company as there is no
assurance of the company’s ability to pay off all its loans and interests.
The statement of comprehensive income highlights the change in equity of the company
derived from the operating and financial events are transacted during the period. It
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Accounting for Managers Assignment
2
begins with the profit or loss derived from the income statement (i.e., net assets), which
then adds or deducts other items that are excluded from the income statement which are,
as yet unrealized. These other items are also called other comprehensive income such
as property plant and equipment, unrealized gains or losses from foreign currency
exchange to name a few (IAS 1).
With reference to the above, when the income statement and the statement of
comprehensive income are presented as a single statement, it is called the statement of
profit or loss and other comprehensive income. If it is presented as two separate
statements, it is called the income statement and the statement of comprehensive
income respectively (IAF 1).
“Income” in the income statement is the revenue derived from the sale of services or
goods of the company (Conceptual Framework for Financial Reporting, 2018). In other
words, the main activities of the company such as the sales, fees, dividends. Gain, on
the other hand, is resulted from an increased in profit due to other activities that are not
part of the company’s day to day recurrent operations. Example of other activity would be
the disposal of non-asset with excess carrying amount.
Expenses refers to the cost incurred from carrying out day-to-day business operations or
activities in order for the company to generate revenue such as salaries, utilities
(Conceptual Framework for Financial Reporting, 2018). Losses differs from expenses as
it is the decrease in net income outside of the daily operations of the company such as
the disposal of a non-current asset below its carrying cost. It can also be resulted when
expenses exceed revenue thereby incurring a loss.
Income is recognized in the income statement when there is an increase in economic
benefits during the accounting period in the form of inflows of assets and decrease of
liabilities. For example, when a sale is made, it results in a net increase in assets.
(Conceptual Framework for Financial Reporting, 2018).
Expenses is recognized when a decrease in economic benefits during the during the
accounting period in the form of outflows or depletions of assets or incurrences of
liabilities. These expenses include rent and other administrative and general expenses
(Conceptual Framework for Financial Reporting, 2018).
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Accounting for Managers Assignment
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The process of which the monetary amounts of the elements of the financial statements
are recognized, measured and presented is called measurement, and one of the
measurement basis is historical cost. Historical cost refers to the recorded price of an
asset bought by a company at the time of the acquisition (IFRS, 2018). An example trade
documents such as receipts.
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Accounting for Managers Assignment
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Question b
The statement of financial position or balance sheet, also known as financial condition
reflects the state of the affairs of a company at a point in time. It provides detailed
information about a company’s assets, liabilities, and equity and presents the net worth
of a company by taking the total value of all assets less the total value of all liabilities.
(U.S, SEC, 2017)
An example would be when borrowing money from a bank. The bank uses the
information breakdown of the company’s significant assets and liabilities disclosed in the
financial position to assess the strength of the company. The bank will assess the quality
of assets such as vehicles and properties and place a value on them and also ensures
that the liabilities, such as mortgage and credit card debt, are appropriately disclosed
and fully valued. Thereafter, determine if the company would be able to take on more
loans.
Another example of the use of statement of financial position would be for internal users
such as managers and, or directors of a company to determine the company’s ability to
pay and provide other benefits to its employees.
An asset is a resource that has value and is owned or controlled by a company that can
be used to generate future revenues or to maintain its operations (Conceptual
Framework for Financial Reporting, 2018). They can be either sold or used by the
company to make products or be used to provide services. Assets include physical
property, such as plants, equipment, inventory, and cash. It also includes intangible
assets such as trademarks and patents (IAS 1).
It is recognized in the statement of financial position when it is likely that there will be an
inflow of future economic benefits to the company and that the cost or value of the asset
can be measured reliably (Conceptual Framework for Financial Reporting, 2018).
Assets are based on how quickly they will be converted into cash (IAS 1). Current assets
are things a company expects to convert into cash within one year such as through the
sale of inventory. Non-current assets are things a company does not expect to convert to
cash within one year, or that would take longer than one year to sell. Non-current assets
include fixed assets. Fixed assets are those assets used to operate the business, but
that is not available for sales, such as vehicles, construction in progress, office furniture
and land.
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Accounting for Managers Assignment
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Liabilities are amounts of money that a company owes to lenders and suppliers such as
money borrowed from a bank to launch a new product, rent for the use of a building,
money owed to suppliers for materials, payroll a company owes to its employees,
environmental cleanup costs, or taxes owed to the government (Conceptual Framework
for Financial Reporting, 2018). Liabilities also include obligations to provide goods or
services to customers in the future.
Current liabilities are obligations a company expects to pay off within the year such as
accounts payable to suppliers, employee benefits while non-current liabilities also called
long-term liabilities are long-term financial obligations that are not due for settlement
within one year (IAS 1). Examples would be leases and mortgage loans.
It is recognized in the statement of financial position when it is likely that there will be an
outflow of future economic benefits from the company and that the cost or value of the
asset can be measured reliably (Conceptual Framework for Financial Reporting, 2018).
Equity is also called net worth or capital. It refers to the difference between the value of
the assets and the value of liabilities of something owned. For example, the company
bought a photocopier worth $8,000 which is referred to as an asset and owes $3,000 on
loan against that photocopier, therefore, a liability. The photocopier represents $5,000 of
equity. Alternatively, it can also refer to shareholders’ equity, (i.e. the shareholders’ claim
on the remaining capital after all liabilities have been paid (U.S. SEC, 2007).)
There are three main types of business organizations; sole proprietorship, partnership,
and corporation, also call a company. A corporation is further divided into two categories,
which are listed and non-listed companies.
Sole proprietorship and partnerships are businesses in which the owners of the
businesses draw from their own personal savings to fund their businesses. Contrary to
sole proprietor and partnerships, corporation draw its capital mainly from equity financing
whereby the corporation sell its shares (or the selling of the ownership of the corporation)
to interested parties in return for funds to operate the business. The personal assets of
shareholders are not liable for the debts and losses of the business as the company and
the shareholders are separate legal entities.
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Accounting for Managers Assignment
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While a private company may be operated with the funds of private investors and venture
capital, a listed company sells its registered shares to the general public on the stock
exchange (Susan Ward, 2018).
As mentioned above, one of the measurement basis of financial statement is historical
cost whereby it refers to the recorded price of an asset bought by a company at the time
of the acquisition. The other three basis are current cost, fair value and realizable value
(IFRS, 2018).
Current cost or present value shows the current amount of cash or cash equivalents that
would be paid to acquire an equivalent asset currently (IFRS, 2018).
Fair value is the present discounted price agreed between both the buyer and seller that
the asset is expected to generate, in the normal course of business (IFRS, 2018).
Examples would be bonds and commodities.
Realizable value is the value of an asset that can be realized upon its sale (IFRS, 2018).
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Accounting for Managers Assignment
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Question c
Accrual basis is a method of recording accounting transactions regardless of when cash
transactions occur. The accrual basis is based on the concept of matching principal
whereby it matches revenues to related expenses at the time in which the transaction
occurs regardless of when the payment is made or received. An example of accrual
basis accounting is to record revenue as soon as the related invoice is issued to the
customer. This gives a more accurate picture of a company’s current financial condition
as the business transactions of a company can be seen within a single reporting period.
The alternative method for recording accounting transactions is the cash basis which is
the opposite of accrual basis as it only recognizes transactions only when there is an
exchange of cash such as when revenues are recognized when cash is received, and
expenses are recognized when paid. For example, a supplier made a delivery of goods
of $3,000.00 on the 25th of March to its client. The client receives the bill and makes the
cash payment on the 20th of April. The revenue generated by the supplier will only be
recognized under the cash method when the money is received by the company.
Therefore, the supplier that uses the cash accounting method will record $3,000.00
revenue on 20th April.
The four underlying principles for accruals basis and cash basis are; historical cost, time
period, revenue recognition principle and expense recognition principle.
Historical cost is the original cost of an asset based on its purchase price as recorded in
a company’s accounting records and time period refers to the reporting of revenues
divided by standard accounting time periods, such as fiscal quarters or fiscal years (IAS
1).
Revenue recognition principle is whereby the revenue of a business transaction was
recorded regardless of when cash transactions occur. For example, a company recorded
its transaction of delivering goods on 3rd March, but the payment for the company’s
service was received on 10th August.
Expense recognition principle refers to only recognizing business transactions only when
there is an exchange of cash. For example, when a company delivered supplies to a
customer, the company’s revenue will increase, and the inventories will decrease. The
reduction of the inventories which corresponds to the revenues is called the cost of
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Accounting for Managers Assignment
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goods sold. By the concept of expense recognition principle, the cost of goods sold will
be recorded in the period in which the revenues are earned.
The cost of sales adjustment refers to the adjustment made in the current cost of
inventories at the date of sale to the amount charged as the cost of goods sold in
computing the historical cost profit.
An example would be when XYZ Pte Ltd purchases 12,000 calculators at $25 each,
totaling to $300,000 in sale. Thereafter, they sold 10,500 calculators at $37 each. Profit
equals to the sale less the cost of sales. In this scenario, if we take the sale of 12,000
calculators sold at $37 each, less the cost of sales of $300,000, we would have a profit
of $144,000. This is an error of overstating the profit as only 10,500 calculators were sold.
If the cost of sale is not adjusted, it will lead to a higher cost of sale leading to a lower
profit. Therefore, taking the revenue from the sale of 10,500 calculators less $300,000,
there is a profit of $88,500.
Similarly, if the cost of sale is not adjusted, there will be an understated inventory of
1,500 calculators. Therefore, the financial statements will be misrepresented.
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Accounting for Managers Assignment
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Reference List 1. IAS 1. “Presentation of Financial Statements”. Retrieved Feb 27, 2019, from
https://www.iasplus.com/en/standards/ias/ias1
2. IAS Plus. “Conceptual Framework for Financial Reporting 2018”. Retrieved March 2, 2019,
from https://www.iasplus.com/en/standards/other/framework
3. IFRS, March 2018. “Conceptual Framework for Financial Reporting”. Retrieved March 2,
2019, https://www.ifrs.org/-/media/project/conceptual-framework/fact-sheet-project-
summary-and-feedback-statement/conceptual-framework-project-summary.pdf
4. U.S. Securities and Exchange Commission (SEC), February 5, 2007. “Beginners’
Guide to Financial Statement.” Retrieved Feb 27, 2019, from
https://www.sec.gov/reportspubs/investor-publications/investorpubsbegfinstmtguidehtm.html
5. Susan Ward, March 12, 2018. ‘Forms of Business Ownership in Canada’
Retrieved Feb 28, 2019, from
https://www.thebalancesmb.com/choosing-a-form-of-business-ownership-2947251
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