CIMA revision cards fundamentals of financial accounting c02 by henry lunt

CIMA REVISION CARDS Fundamentals of Financial Accounting Henry Lunt CIMA Certificate in Business Accounting C02 AMSTERDAM l BOSTON PARIS l SAN DIEGO l HEIDELBERG SAN FRANCISCO l l l LONDON l SINGAPORE l NEW YORK SYDNEY l l OXFORD TOKYO Elsevier Butterworth-Heinemann Linacre House, Jordan Hill, Oxford OX2 8DP 30, Corporate Drive, Burlington, MA 01803 First published 2006 Copyright ß 2006, Elsevier Ltd All rights reserved No part of this publication may be reproduced in any material form (including photocopying or storing in any medium by electronic means and whether or not transiently or incidentally to some other use of this publication) without the written permission of the copyright holder, except in accordance with the provisions of the Copyright, Designs and Patents Act 1988, or under the terms of a licence issued by the Copyright Licensing Agency Ltd, 90 Tottenham Court Road, London, England W1T 4LP Applications for the copyright holder’s written permission to reproduce any part of this publication should be addressed to the publisher Permissions may be sought directly from Elsevier’s Science & Technology Rights Department in Oxford, UK: phone: (+44) 1865 843830, fax: (+44) 1865 853333, e-mail: permissions@elsevier.co.uk You may also complete your request on-line via the Elsevier homepage (http://www.elsevier.com), by selecting ‘Customer Support’ and then ‘Obtaining Permissions’ 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 catalogue record for this book is available from the Library of Congress ISBN 10: 7506 8104 ISBN 13: 978 7506 8104 For information on all Elsevier Butterworth-Heinemann publications visit our website at http://books.elsevier.com Printed and bound in Great Britain Welcome to CIMA’s Official Revision Cards These cards have been designed to: Save you time by summarising the syllabus in a concise form Jog your memory through the use of diagrams and bullet points Follow the structure of the CIMA Official Learning Systems Refer to relevant questions found within the Preparing for the Examination section of the Learning System Provide you with plenty of exam tips and hints Ensure exam success by revising with the only revision cards endorsed by CIMA TABLE OF CONTENTS 10 11 12 13 14 About the assessment v The accounting scene Framework of financial statements (FS) Accounting system in action 13 Summarising the ledger accounts 19 Further aspects of ledger accounting 27 Accounting for non-current assets 37 Preparation of financial statements with adjustments 43 Organising the bookkeeping system 49 Controlling the bookkeeping system 61 Regulatory framework 71 Incomplete records, I&E FS 79 Manufacturing a/c 85 Financial statements of limited companies 91 Interpretation of financial statements 101 About the Assessment Taking the exam Weighting of subjects About the Assessment K K K K KK Weighting of subjects Computer-based assessment lasting two hours Attempt all questions There are 50, mostly worth marks each, with a few longer questions worth or marks You are allowed to take a non-programmable calculator into the assessment You will be provided with paper for workings and the following tables:- Logarithms; Normal Distribution; Present Values; Cumulative Present Values You will also be provided with a list of key formulae The questions in the assessment closely mirror the weighting of subjects Conceptual and regulatory framework Accounting systems Control of accounting systems Preparation of accounts for single entries 20% 20% 15% 45% Try the online demo at www.cimaglobal.com/mail/ prospective/where/studying/cba or purchase the interactive testing CD’s at www.cimapublishing.com The Accounting Scene Examining the objectives of accounting information Topics Key learning system questions 1.12 1.13 Users Characteristics Who uses financial statements (FS)? Qualitative characteristics of FS Financial vs management accounting What is a business organisation? The Accounting Scene Who uses FS? KKKKKKKKK User groups Existing and potential shareholders Existing and potential lenders Employees Analysts Customers Suppliers Government General public Strategic/Tactical/Operational management Definition Accounting provides information (financial position, performance and cash flow) regarding the business to its users Study tip Learn definitions, as many form the basis for single part questions The Accounting Scene Qualitative characteristics of FS KKKKKKK Features include: Accuracy Reliability Relevance Timeliness User friendliness Comparability Cost-effectiveness Definition Exception reporting – giving information to management on a need to know basis only Financial Statements of Limited Companies K Shareholders have fixed return and priority on break-up but not involved in the management of the business Dividend charge ¼ %  share nominal value Learning System (LS) assumes all preference shares are irredeemable; preference dividends in the LS will always be paid; no need to make any adjustment for accruals Reserves KK K K Equity shareholders often entitled to vote but risk no dividend return and no priority over funds on break-up Dividend charge ¼ number of shares  dividend per share Show called up share capital and share premium as separate figures in BS Authorised share capital ¼ amount the company is allowed to issue ¼ for information only KK Preference share capital K Ordinary share capital K Sources of finance Capital and statutory (non-distributable) Revenue (distributable) 94 Financial Statements of Limited Companies Proformas X (X) X (X) (X) X X (X) X (X) X K Turnover Cost of sales Gross profit Distribution costs Administrative expenses Operating profit Interest receivable Interest payable Profit before tax Income tax Profit for the period Calculations K Income statement Expenses should ideally be split into factory (cost of sales), sales and marketing (distribution) and others (administration) but this is not essential Taxation may include accrual for the current year adjusted by over/under provision for the previous year 95 Financial Statements of Limited Companies Proformas Statement of changes in equity K K Balance at start of period Profit for the period Dividends paid/declared Transfer to General Reserve Issue of shares Balance at end of period Share Capital X Share Premium X X X X X General Reserve X X Retained Earnings X X (X) (X) X X Total X X (X) X X Dividends could include: interim paid current year; final declared current year (if any); final proposed last year, paid in current year Dividends will not include any proposed dividends in the current year 96 Financial Statements of Limited Companies Proformas Balance sheet Assets Non-current assets – tangible Non-current assets – intangible Current assets Inventories Receivables Bank X X X X X X X X X X X X X X Equity and liabilities Share capital Share premium Retained earnings Non-current liability Debenture Current liabilities Trade payables Income tax Declared dividends X X X X Study tip Take care with current liabilities as this is the most common area for errors 97 Financial Statements of Limited Companies Cash flows statements KK KK Cash flows from operating activities Start cash flow with actual cash from operations Note that profit does not equal cash due to e.g accruals, depreciation, raising of finance Direct method ¼ use bank and cash a/cs Indirect method ¼ use IS profit figure and then adjust to get the cash figure (preferred method) Reconciliation proforma Cash flows from operating activities Operating profit Depreciation Amortisation X X X Loss on disposal Decrease in inventories Decrease in receivables Increase in payables Cash generated from operations Interest paid Income tax paid X X X X X (X) (X) X Cash flows from investing activities Purchase of non-current assets (X) Proceeds sale of non-current assets X Interest received X X Dividends received X 98 Financial Statements of Limited Companies Net increase/decrease in cash Cash at beginning of period Cash at end of period X X (X) (X) K Cash flows from financing activities Proceeds from issue of shares Proceeds from issue of loans Repayment of loans Dividends paid K Cash flows statements Each figure should be the actual cash paid or received so a working may be necessary to adjust the IS figure by any accruals Using the movement on the bank and cash a/cs it is possible to check the final net increase X X X X K Calculations The CFS adds back to the profit figure items not realised in cash The items would be deducted if they were the opposite movements e.g increase in inventories 99 This page intentionally left blank Interpretation of Financial Statements Examining basic ratios Key learning system questions 2.13 3.15 4.13 4.14 4.15 10 19 Efficiency Efficiency Profitability Capital structure Liquidity Profitability Various ratios Topics Ratio analysis Profitability ratios Liquidity ratios Efficiency ratios Capital structure ratios 101 Interpretation of Financial Statements KKK To give additional information to different users of the FS Calculated ratios þ meaning ¼ interpretation K K Calculations K Types K Why? K Ratio analysis Profitability or performance Liquidity or solvency Efficiency – non-current assets and working capital (employment of assets) Capital structure (long-term liquidity) Compare to budget or government statistics or another time period or another company Use % or X:1 or times 102 Interpretation of Financial Statements Gross profit/sales  100 Increase could be due to e.g selling price increase, cost reduction, discounted materials KK Operating profit margin Operating profit/sales  100 Increase could be due to above and/or decrease in other expenses e.g bad debt write offs, advertising spend, legal fees K Return on capital employed (ROCE) Increase could be due to higher profits (as above) or lower capital employed e.g repayment of debentures Return on equity (ROE) KK KK Gross profit margin K Profitability ratios Profit for the period/equity Decrease could be due to lower profit, or higher equity e.g after issue of shares Study tip Check the question carefully to see which return on capital ratio is required Operating profit/(equity þ debentures)  100 103 Interpretation of Financial Statements Quick ratio/liquid ratio/acid test K Current assets/current liabilities : High ratio implies the future cash outlays can easily be met with the incoming cash but it depends on the make up of assets and liabilities and may imply inefficient use of working capital K Current ratio/working capital ratio KK Liquidity ratios (Current assets À inventories)/Current liabilities : This has a similar interpretation to above but excludes slow cash conversion item of inventories 104 Interpretation of Financial Statements Sales/assets High figure means high sales are generated from the asset base and could imply good use of resources or low assets due to high depreciation or lack of investment K K Inventories days Average inventories/cost of sales  365 ¼ inventories days Cost of sales/average inventories ¼ times per annum Increase in inventories days may be due to holding inventories for longer to satisfy new customers, reduce ordering costs, a change in buying patterns It can lead to higher insurance costs, risk of obsolescence etc Receivables days KK KK Asset turnover K Efficiency ratios Receivables/sales  365 Increase may be due to poor debt collection, inaccurate invoicing, new customers, extended credit terms, changes in regulations such as sales tax 105 Interpretation of Financial Statements Total working capital K Trade payables/purchases  365 Increase may be due to taking advantage of longer credit terms etc., but could lead to problems such as supply stoppages and court action for recovery of cash KK Payables days KK Efficiency ratios Inventories days þ receivables days À payables days Reflects the cash conversion cycle Increase may indicate a need to raise finance 106 Interpretation of Financial Statements Gearing ratio ¼ debt/(debt þ equity)  100 Alternative gearing ratio ¼ debt/equity  100 Reflects the interest-bearing debt sourced finance (e.g debentures) to equity sourced finance (e.g ordinary share capital þ reserves) High gearing implies greater risk to the ordinary shareholder since profits will be used to pay interest payments first Loans may also be secured on non-current assets Management should make extra effort to create profits to cover these fixed charges and also maintain the non-current asset base This could mean that ordinary shareholders gain high returns Interest cover KK K KKK Gearing ratios K Capital structure ratios Operating profit/interest payable Reflects how comfortably the business is able to meet its interest charges 107 This page intentionally left blank .. .CIMA REVISION CARDS Fundamentals of Financial Accounting Henry Lunt CIMA Certificate in Business Accounting C02 AMSTERDAM l BOSTON PARIS l SAN DIEGO l... exam success by revising with the only revision cards endorsed by CIMA TABLE OF CONTENTS 10 11 12 13 14 About the assessment v The accounting scene Framework of financial statements... Britain Welcome to CIMA s Official Revision Cards These cards have been designed to: Save you time by summarising the syllabus in a concise form Jog your memory through the use of diagrams and