Pauline Weetman Financial and Management Accounting Financial and Management Accounting Fourth Edition Fourth Edition ISBN 0-273-70369-2 9 780273 703693 Additional student support at www.pearsoned.co.uk/weetman www.pearson-books.com This revised and fully updated edition continues to provide students with a clear and well-structured introduction to financial and management accounting. It retains all of the classic features that have contributed to the book’s success: clarity of expression, the focus on the accounting equation, stu- dent activities and real-life commentaries running through each chapter, and the inclusion of the Safe and Sure Annual Report as a real world example of a listed company. New to the fourth edition: ■ Fully in line with IFRS, but provides comparative analysis with UK GAAP where relevant. ■ New case study material including extracts from annual reports for companies such as The Body Shop, Sainsbury's, British Airports Authority, Matalan, Argos, Homebase, Burberry, Ottakers, Carphone Warehouse and BP. ■ Experience-driven conversations between two managers appear at intervals throughout the text, providing a valuable insight into the type of interpretative comment which the reader may find more taxing. These discussions allow a more candid examination of issues and problems within the subject. ■ Fully redesigned text to aid navigation and understanding for students, including a unique colour- coding system to make technical material more accessible. ■ Activity-based costing, strategic management accounting, the balanced scorecard and bench- marking are included in the main management accounting chapters. ■ The approach to teaching and learning focuses on subject-specific knowledge outcomes and generic skills outcomes, with end-of-chapter self-evaluation. ■ Questions are graded to test student understanding of chapter content, as well as skills in straightforward application of knowledge, and skills of problem solving and evaluation. Financial and Management Accounting: An Introduction is aimed at first-level undergraduates on business studies degrees taking introductory financial accounting and management accounting classes; first-level specialist accounting undergraduate students; introductory core accounting for MBA and postgraduate specialist Masters students (e.g. finance, actuarial studies), focusing on analysis through the accounting equation and a questioning approach to problem solving; and professional courses where accounting is introduced for the first time. The book is accompanied by a comprehensive support package for lecturers, arranged on a chapter-by-chapter basis and comprising the following: student lecture notes on a ‘fill the gaps’ basis; matching PowerPoint slides; graded questions to supplement those in chapters, including multiple choice questions; and solutions to questions in the book. The author Pauline Weetman BA, BSc (Econ), PhD, CA, FRSE, is Professor of Accounting at the University of Strathclyde, and has extensive experience of teaching at undergraduate and postgraduate level, with previous chairs held at Stirling and Heriot-Watt Universities. She received the Distinguished Academic Award of the British Accounting Association in 2005. She has convened the examining board of the Institute of Chartered Accountants of Scotland and was formerly Director of Research at ICAS. an imprint of Cover image © Superstock An Introduction An Introduction Pauline Weetman 0273703692.qxd 18/4/06 10:53 Page 1 FINANCIAL AND MANAGEMENT ACCOUNTING An Introduction Visit the Financial and Management Accounting: An Introduction, fourth edition Companion Website at www.pearsoned.co.uk/weetman to find valuable student learning material including: l Multiple choice questions to test your learning l Extensive links to valuable resources on the web l An online glossary to explain key terms FAM_A01.qxd 12/4/06 13:37 Page i We work with leading authors to develop the strongest educational materials in business and finance, bringing cutting-edge thinking and best learning practice to a global market. Under a range of well-known imprints, including Financial Times Prentice Hall, we craft high quality print and electronic publications which help readers to understand and apply their content, whether studying or at work. To find out more about the complete range of our publishing, please visit us on the World Wide Web at: www.pearsoned.co.uk FAM_A01.qxd 12/4/06 13:37 Page ii Fourth Edition FINANCIAL AND MANAGEMENT ACCOUNTING An Introduction Pauline Weetman Professor of Accounting University of Strathclyde FAM_A01.qxd 12/4/06 13:37 Page iii To my parents, Harry and Freda Weetman Pearson Education Limited Edinburgh Gate Harlow Essex CM20 2JE England and Associated Companies throughout the world Visit us on the World Wide Web at: www.pearsoned.co.uk First edition published under the Financial Times Pitman Publishing imprint in 1996 Second edition published in 1999 Third edition published in 2003 Fourth edition published in 2006 © Pearson Education Limited 1996, 1999, 2003, 2006 The right of Pauline Weetman to be identified as author of this work has been asserted by her in accordance with the Copyright, Designs and Patents Act 1988. All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without either the prior written permission of the publisher or a licence permitting restricted copying in the United Kingdom issued by the Copyright Licensing Agency Ltd, 90 Tottenham Court Road, London W1T 4LP. ISBN-13: 978-0-273-70369-3 ISBN-10: 0-273-70369-2 British Library Cataloguing-in-Publication Data A catalogue record for this book is available from the British Library Library of Congress Cataloging-in-Publication Data A catalog record for this book is available from the Library of Congress 10987654321 10 09 08 07 06 Typeset in 9.5/12pt Palatino by 35 Printed and bound by Mateu Cromo, Madrid, Spain FAM_A01.qxd 12/4/06 13:37 Page iv Preface to the fourth edition xx Guided tour of the book xxvi FINANCIAL ACCOUNTING Part 1 A conceptual framework: setting the scene 3 1 Who needs accounting? 4 2 A systematic approach to financial reporting: the accounting equation 26 3 Financial statements from the accounting equation 50 4 Ensuring the quality of financial statements 73 Part 2 Reporting the transactions of a business 101 5 Accounting information for service businesses 102 6 Accounting information for trading businesses 131 Part 3 Recognition in financial statements 157 7 Published financial statements 158 8 Non-current (fixed) assets 196 9 Current assets 234 10 Current liabilities 263 11 Provisions and non-current (long-term) liabilities 282 12 Ownership interest 304 Part 4 Analysis and issues in reporting 333 13 Ratio analysis 334 14 Reporting corporate performance 361 15 Reporting cash flows 393 MANAGEMENT ACCOUNTING Part 5 Setting the scene and defining the basic tools of management accounting 421 16 Functions of management accounting 422 17 Classification of costs 447 18 Product costs: materials, labour and overheads 469 Contents in brief FAM_A01.qxd 12/4/06 13:37 Page v Contents in briefvi Part 6 Product costs and stock valuation 505 19 Job costing 506 Part 7 Decision making 529 20 Breakeven analysis and short-term decision making 530 Part 8 Planning and control 559 21 Preparing a budget 560 22 Standard costs 598 23 Performance evaluation and feedback reporting 628 Part 9 Capital investment appraisal and business strategy 651 24 Capital investment appraisal 652 25 Business strategy and management accounting 682 Financial accounting terms defined G1 Management accounting terms defined G11 Appendices I Information extracted from annual report of Safe and Sure plc, used throughout Financial Accounting A1 II Solutions to numerical and technical questions in Financial Accounting A15 III Solutions to numerical and technical questions in Management Accounting A39 Index I1 FAM_A01.qxd 12/4/06 13:37 Page vi Preface to the fourth edition xx Guided tour of the book xxvi Publisher’s acknowledgements xxviii FINANCIAL ACCOUNTING Part 1 A conceptual framework: setting the scene Chapter 1 Who needs accounting? 4 Real World Case 4 Learning outcomes 5 1.1 Introduction 5 1.2 The development of a conceptual framework 7 1.3 Framework for the preparation and presentation of financial statements 8 1.4 Types of business entity 8 1.5 Users and their information needs 12 1.6 General purpose or specific purpose financial statements? 17 1.7 Stewards and agents 17 1.8 Who needs financial statements? 18 1.9 Summary 19 Further reading 20 Questions 20 A Test your understanding 20 B Application 21 C Problem solving and evaluation 21 Activities for study groups 22 Notes and references 22 Supplement: Introduction to the terminology of business transactions 24 Test your understanding 25 Chapter 2 A systematic approach to financial reporting: the accounting equation 26 Real World Case 26 Learning outcomes 27 2.1 Introduction 28 2.2 The accounting equation 28 Contents FAM_A01.qxd 12/4/06 13:37 Page vii Contentsviii 2.3 Defining assets 29 2.4 Examples of assets 31 2.5 Recognition of assets 33 2.6 Defining liabilities 35 2.7 Examples of liabilities 36 2.8 Recognition of liabilities 37 2.9 Defining the ownership interest 39 2.10 Recognition 39 2.11 Changes in the ownership interest 39 2.12 Assurance for users of financial statements 41 2.13 Summary 42 Further reading 44 Questions 44 A Test your understanding 44 B Application 45 C Problem solving and evaluation 45 Activities for study groups 46 Notes and references 46 Supplement: Debit and credit bookkeeping 47 Test your understanding 49 Chapter 3 Financial statements from the accounting equation 50 Real World Case 50 Learning outcomes 51 3.1 Introduction 51 3.2 Who is in charge of the accounting rules? 52 3.3 The accounting period 52 3.4 The balance sheet 53 3.5 The income statement (profit and loss account) 57 3.6 The cash flow statement 59 3.7 Usefulness of financial statements 62 3.8 Summary 63 Questions 63 A Test your understanding 63 B Application 64 Activities for study groups 65 Supplement: Using the accounting equation to analyse transactions 66 Test your understanding 72 Chapter 4 Ensuring the quality of financial statements 73 Real World Case 73 Learning outcomes 74 4.1 Introduction 75 4.2 Qualitative characteristics of financial statements 75 4.3 Measurement in financial statements 79 4.4 Views on prudence 82 FAM_A01.qxd 12/4/06 13:37 Page viii Contents ix 4.5 Regulation of financial reporting 84 4.6 Reviewing published financial statements 92 4.7 Summary 97 Further reading 98 Questions 98 A Test your understanding 98 B Application 99 C Problem solving and evaluation 99 Activities for study groups 100 Notes and references 100 Part 2 Reporting the transactions of a business Chapter 5 Accounting information for service businesses 102 Real World Case 102 Learning outcomes 103 5.1 Introduction 103 5.2 Analysing transactions using the accounting equation 104 5.3 Illustration of accounting for a service business 107 5.4 A process for summarising the transactions: a spreadsheet 111 5.5 Financial statements as a means of communication 113 5.6 Summary 116 Questions 116 A Test your understanding 116 B Application 117 Supplement: Recording transactions in ledger accounts – a service business 118 Test your understanding 130 Chapter 6 Accounting information for trading businesses 131 Real World Case 131 Learning outcomes 132 6.1 Introduction 133 6.2 Goods purchased for resale 133 6.3 Manufacturing goods for resale 135 6.4 Illustration of accounting for a trading business 138 6.5 A process for summarising the transactions: a spreadsheet 142 6.6 Financial statements of M. Carter, wholesaler 144 6.7 Summary 146 Questions 147 A Test your understanding 147 B Application 148 Supplement: Recording transactions in ledger accounts: a trading business 149 Test your understanding 156 FAM_A01.qxd 12/4/06 13:37 Page ix [...]... solving and evaluation Cases for study groups 693 693 693 694 694 Note and reference 694 Financial accounting terms defined Management accounting terms defined G1 G11 Appendices I II Information extracted from annual report of Safe and Sure Group plc, used throughout Financial Accounting A1 Solutions to numerical and technical questions in Financial Accounting A15 III Solutions to numerical and technical... understanding B Application C Problem solving and evaluation 413 414 414 415 Notes and references 417 MANAGEMENT ACCOUNTING Part 5 Setting the scene and defining the basic tools of management accounting Chapter 16 Functions of management accounting 422 Real World Case Learning outcomes 422 423 16.1 16.2 16.3 16.4 16.5 16.6 16.7 424 426 427 432 435 440 441 Introduction Meeting the needs of internal users Management. .. particular it makes use of the Framework for the Preparation and Presentation of Financial Statements which is used by the International Accounting Standards Board in developing and reviewing accounting standards That Framework is intended to help preparers, users and auditors of financial statements to understand better the general nature and function of information reported in financial statements Aim... responsibility for the careful management of the assets and operations of the organisation The way in which the managers of an organisation use financial information is very much contingent on the purpose for which the information is intended Management accounting is a specialist area of study within accounting more generally Ideally, management accounting and financial accounting would coalesce if the... strategy and management accounting 682 Real World Case Learning outcomes 682 683 25.1 25.2 25.3 25.4 25.5 25.6 25.7 25.8 683 684 685 686 687 688 689 692 Introduction Strategic management accounting The just-in-time approach Value chain analysis Total quality management and cost of quality Business process re-engineering E-business and e-commerce Summary Further reading 692 Questions A Test your understanding... accountants In order to learn about, and understand, accounting by taking a critical approach to the usefulness of the current processes and seeing its limitations and the potential for improvement, it is preferable to reverse the order of the questions and start by specifying the users of financial information and the judgements and decisions they make Once the users and their needs have been identified,... Meeting the needs of internal users Management functions Role of management accounting Judgements and decisions: case study illustrations The language of management accounting Summary Further reading 441 Questions A Test your understanding B Application C Problem solving and evaluation Cases for study groups 441 441 442 443 446 Notes and references 446 Chapter 17 Classification of costs 447 Real World... classification The meaning of ‘activity’ and ‘output’ Variable costs and fixed costs Direct costs and indirect costs Product costs and period costs Cost classification for planning, decision making and control Cost coding Cost selection and reporting Summary Further reading 464 FAM_A01.qxd 12/4/06 13:37 Page xv Contents Questions A Test your understanding B Application C Problem solving and evaluation Cases for study... emphasis on understanding and interpretation In teaching and learning management accounting various combinations are possible, depending on course design and aims Chapters 16, 17 and 18 provide an essential set of basic tools of analysis but thereafter some flexibility is feasible For applications in job costing, Chapter 19 provides further material For concentrating on decision making and awareness of... under the authority of UK company law The Financial Reporting Council oversees the UK Accounting Standards Board which sets accounting standards for companies that are complying with UK company law The Financial Reporting Review Panel takes action against companies whose annual reports do not comply with the relevant accounting system (IASB or UK company law) The Financial Services Authority regulates . Pauline Weetman Financial and Management Accounting Financial and Management Accounting Fourth Edition Fourth Edition ISBN 0-273-70369-2 9 780273. investment appraisal and business strategy 651 24 Capital investment appraisal 652 25 Business strategy and management accounting 682 Financial accounting terms defined G1 Management accounting terms. Safe and Sure plc, used throughout Financial Accounting A1 II Solutions to numerical and technical questions in Financial Accounting A15 III Solutions to numerical and technical questions in Management