Financial Reporting and Analysis Unit 2
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Questions and Answers

What event must take place before preparing the financial statements of an entity?

  • Transactions occur during the financial year
  • A trial balance is prepared to determine whether the double-entry principle has been correctly applied
  • Transactions are recorded in journals from the source documents
  • Adjustments are made to the amounts in the trial balance to comply with GAAP concepts (correct)

    • What is the primary purpose of a trial balance?

  • To list all the accounts and their balances
  • To check that the total of all debit entries is equal to the total of all credit entries (correct)
  • To comply with GAAP concepts
  • To prepare financial statements

    • In a pre-adjustment trial balance, where are debit balances listed?

  • In the middle column
  • In the left column (correct)
  • In the right column
  • At the top of the page

    • What is prepared at the end of an accounting period?

    <p>A pre-adjustment trial balance (A)</p> Signup and view all the answers

    What is necessary for preparing a pre-adjustment trial balance?

    <p>Information from journals posted to ledger accounts (D)</p> Signup and view all the answers

    In what order are accounts listed in a pre-adjustment trial balance?

    <p>In the order they appear in the general ledger (B)</p> Signup and view all the answers

    What is the main purpose of preparing a trial balance?

    <p>To check for mathematical accuracy (D)</p> Signup and view all the answers

    What type of accounts are used to prepare the statement of comprehensive income?

    <p>Nominal accounts (D)</p> Signup and view all the answers

    What does the capital account represent in the trial balance?

    <p>The amount invested by the proprietor plus the profits that have been retained in the business (B)</p> Signup and view all the answers

    What is the last step before preparing financial statements?

    <p>Making adjustments to the trial balance (B)</p> Signup and view all the answers

    What is the purpose of the adjustments made to the trial balance?

    <p>To comply with GAAP concepts (D)</p> Signup and view all the answers

    What is represented by the drawings account in the trial balance?

    <p>The cash and inventories withdrawn by the proprietor (D)</p> Signup and view all the answers

    What is the purpose of the balance sheet accounts section in the trial balance?

    <p>To prepare the statement of financial position (C)</p> Signup and view all the answers

    When is the pre-adjustment trial balance usually prepared?

    <p>At the end of an accounting period (D)</p> Signup and view all the answers

    What does the Accumulated depreciation on equipment account reflect?

    <p>The cumulative total of depreciation recorded on the equipment since its purchase (B)</p> Signup and view all the answers

    What is the purpose of the Provision for bad debts account?

    <p>To provide for the portion of debtors that the entity expects not to collect (D)</p> Signup and view all the answers

    What type of system is used when the cost of sales is recorded each time a sales transaction occurs?

    <p>Perpetual inventory system (D)</p> Signup and view all the answers

    What is the purpose of the Sales returns account?

    <p>To record the merchandise returned by debtors (A)</p> Signup and view all the answers

    What is the difference between Debtors control and Provision for bad debts?

    <p>Debtors control is the amount owing by debtors, while Provision for bad debts is the portion of debtors that the entity expects not to collect (C)</p> Signup and view all the answers

    What is the purpose of the Bank account?

    <p>To record the cash transactions of the entity (A)</p> Signup and view all the answers

    What is the purpose of the Creditors control account?

    <p>To record the amount owing to suppliers for credit purchases (D)</p> Signup and view all the answers

    What is the purpose of the Loan: Rio Bank (16% p.a.) account?

    <p>To record the amount owing by the entity to Rio Bank (B)</p> Signup and view all the answers

    What is the purpose of the Petty cash account?

    <p>To make payments for small amounts, in order to save on bank charges (A)</p> Signup and view all the answers

    What is the purpose of the Fixed deposit: Rio Bank (10% p.a.) account?

    <p>To record the investment made by the entity at Rio Bank, earning interest at 10% per annum (C)</p> Signup and view all the answers

    What is the purpose of making adjustments to accounts?

    <p>To reflect the correct amounts in determining the profit and financial position of a business (A)</p> Signup and view all the answers

    What happens when an account is written off as a bad debt?

    <p>Bad debts expense account is increased and debtors control account is decreased (B)</p> Signup and view all the answers

    What is the purpose of making a provision for bad debts?

    <p>To reflect the possibility of not collecting debts in the next financial year (D)</p> Signup and view all the answers

    What is depreciation?

    <p>An expense related to the use of an asset over its expected economic life (A)</p> Signup and view all the answers

    What is the effect of accrued income on the financial statements?

    <p>It increases the income account and accrued income (D)</p> Signup and view all the answers

    What is accrued expense?

    <p>An expense that has been incurred but not yet paid (D)</p> Signup and view all the answers

    What is the purpose of making adjustments for prepaid expenses?

    <p>To reflect the part of the expense that relates to the next accounting period (B)</p> Signup and view all the answers

    What is the effect of depreciation on the financial statements?

    <p>It increases the expense account and accumulated depreciation (B)</p> Signup and view all the answers

    What is the difference between provision for bad debts and bad debts?

    <p>Provision for bad debts is an estimate of future bad debts and bad debts is the actual amount written off (B)</p> Signup and view all the answers

    Why are adjustments necessary?

    <p>To reflect the correct financial position of the business (B)</p> Signup and view all the answers

    What is the purpose of adjusting prepaid expenses in the current financial year?

    <p>To match the expense with the current financial year's revenue (D)</p> Signup and view all the answers

    What is included in the statement of financial position as part of 'Trade and other receivables' under current assets?

    <p>Prepaid expenses (C)</p> Signup and view all the answers

    What is the basis of measurement used by Madida Traders in preparing its financial statements?

    <p>Historical cost (A)</p> Signup and view all the answers

    Why is an adjustment necessary for consumable inventory?

    <p>Because the unused consumable items cannot be regarded as an expense for the current financial year (A)</p> Signup and view all the answers

    How is equipment depreciated in Madida Traders?

    <p>Using the diminishing balance method at 10% p.a. (A)</p> Signup and view all the answers

    What is the purpose of preparing financial statements from a pre-adjustment trial balance and additional information?

    <p>To prepare the financial statements urgently for decision-making purposes (A)</p> Signup and view all the answers

    What is the treatment of consumable stores in Madida Traders' financial statements?

    <p>Treated as a current asset (C)</p> Signup and view all the answers

    What is included in the notes to the financial statements under Inventories?

    <p>Consumable inventory (B)</p> Signup and view all the answers

    What is the next step after preparing the formats of the financial statements?

    <p>Take the figures from the pre-adjustment trial balance and write them down next to the relevant detail in the financial statements (A)</p> Signup and view all the answers

    What is the treatment of an investment at Ben Bank in Madida Traders' financial statements?

    <p>Accrued interest is provided for (C)</p> Signup and view all the answers

    What is the term used to describe income received in the current financial year but relating to the next accounting period?

    <p>Deferred income (C)</p> Signup and view all the answers

    What is the impact of the rent increase on Madida Traders' financial statements?

    <p>An increase in rent expense from R6 000 to R6 600 (C)</p> Signup and view all the answers

    What is the effect of adjusting income received in advance?

    <p>Income account -, Income received in advance + (B)</p> Signup and view all the answers

    What should be done with the debit order for R500 for the insurance of the proprietor’s home?

    <p>Reverse the entry and correct it (A)</p> Signup and view all the answers

    What is the accounting treatment for the debtor's account with a credit balance of R200?

    <p>Transfer it to the creditors’ ledger (A)</p> Signup and view all the answers

    What is the purpose of making adjustments in the financial statements?

    <p>To match the expense with the current financial year's revenue (A)</p> Signup and view all the answers

    What is the accounting treatment for the debtor who was declared insolvent?

    <p>Write off the bad debt and recognize a loss (C)</p> Signup and view all the answers

    What is the recommended method for preparing financial statements from a pre-adjustment trial balance and additional information?

    <p>Drawing up the financial statements in a logical manner from the adjustments and information provided (D)</p> Signup and view all the answers

    Study Notes

    Financial Statement Preparation

    • Before preparing financial statements, certain events must have taken place, including:
      • Occurrence of transactions during the financial year
      • Entering transaction data on source documents
      • Recording transactions in journals from source documents
      • Posting information from journals to ledger accounts
      • Preparing a trial balance to ensure correct application of the double-entry principle

    Pre-Adjustment Trial Balance

    • A pre-adjustment trial balance is a list of accounts and their balances at a given time
    • It is usually prepared at the end of an accounting period
    • Accounts are listed in the order they appear in the general ledger
    • The trial balance includes:
      • Debit balances in the left column
      • Credit balances in the right column
    • The main purpose of the trial balance is to ensure that:
      • The total of all debit entries equals the total of all credit entries after posting is completed

    Preparing Financial Statements

    • The process of preparing financial statements involves several stages, including:
      • Transactions occurring during the financial year
      • Recording transactions in source documents and journals
      • Posting information from journals to ledger accounts
      • Preparing a trial balance to check for errors
      • Making adjustments to the trial balance to comply with GAAP concepts
    • A pre-adjustment trial balance is a list of accounts and their balances at a given time, usually prepared at the end of an accounting period
    • The trial balance includes debit balances listed in the left column and credit balances in the right column, with the totals of the two columns being equal

    Trial Balance Accounts

    • Balance sheet accounts:
      • Capital: represents the amount invested by the proprietor plus retained profits
      • Drawings: refers to cash or goods taken by the proprietor for personal use
      • Land and buildings, Equipment, and Vehicles at cost: reflect the purchase price of these assets
      • Fixed deposit: represents an investment account earning interest
      • Accumulated depreciation: represents the cumulative total of depreciation recorded on assets
      • Trading inventory: represents the cost price of merchandise purchased for resale
      • Debtors control: represents the amount owing by customers
      • Provision for bad debts: represents the expected amount of bad debts
      • Bank and Petty cash: represent cash balances
      • Creditors control: represents the amount owing to suppliers
      • Loan: represents a loan from a bank or other lender
    • Nominal accounts:
      • Sales: include cash and credit sales made during the year
      • Cost of sales: represents the cost price of merchandise sold
      • Sales returns: represents merchandise returned by debtors
      • Advertising and other expenses: represent other expenses incurred by the entity
      • Discount received, Interest on fixed deposit, and Rent income: represent other income accounts

    Year-End Adjustments

    • Adjustments are necessary to ensure that financial statements accurately reflect the financial position and performance of the entity
    • Types of adjustments include:
      • Bad debts: writing off debtors who are unlikely to pay
      • Provision for bad debts: making a provision for expected bad debts
      • Depreciation: providing for the wear and tear of assets
      • Accrued income: recognizing income earned but not yet received
      • Accrued expenses: recognizing expenses incurred but not yet paid
      • Prepaid expenses: recognizing expenses paid for in advance
      • Income received in advance: recognizing income received but not yet earned
      • Consumable inventory: recognizing unused consumable items

    Preparing Financial Statements from a Pre-Adjustment Trial Balance

    • Financial statements can be prepared directly from the pre-adjustment trial balance and additional information
    • The recommended method involves:
      1. Preparing the formats of the financial statements without entering any amounts
      2. Taking the figures from the pre-adjustment trial balance and writing them down next to the relevant detail in the financial statements
      3. Studying each adjustment and making the necessary adjustments to the pre-adjusted amounts
      4. Entering the final figures and completing the financial statements with the necessary calculations

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    Description

    Learn about the steps that occur before preparing financial statements, including transactions, journal entries, and trial balances.

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