Introduction to Accounting and Finance - Lecture 3

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Questions and Answers

Which of the following items is NOT included in the calculation of cost of sales?

  • Purchases (after deducting returns)
  • Advertising expenses (correct)
  • Opening inventory
  • Carriage In

The cost of sales represents the direct expenses associated with producing or acquiring the goods sold.

True (A)

What is the purpose of the income statement?

The income statement summarizes the revenues and expenses of a business over a specific period, resulting in the net income or loss for that period.

The cost of sales is calculated by subtracting the ______ from the cost of goods available for sale.

<p>closing inventory</p> Signup and view all the answers

Match the following terms with their definitions:

<p>Income statement = A financial statement that summarizes a company's financial position at a specific point in time. Balance sheet = A financial statement that summarizes a company's revenues and expenses over a specific period of time. Trial Balance = A list of all account balances in the general ledger, used to ensure the accounting equation remains balanced. Accruals = Expenses that have been incurred but not yet paid. Prepayments = Expenses that have been paid in advance but not yet used or consumed.</p> Signup and view all the answers

Depreciation is an expense that reflects the gradual decrease in the value of a fixed asset over its useful life.

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

Explain the difference between accruals and prepayments.

<p>Accruals are expenses incurred but not yet paid, while prepayments are expenses paid in advance but not yet used. Accruals are recorded as an expense, while prepayments are initially recorded as an asset.</p> Signup and view all the answers

What is the purpose of a trial balance?

<p>To ensure the accounting equation (Assets = Liabilities + Equity) balances (B)</p> Signup and view all the answers

What is the formula for calculating net book value (NBV) of an asset?

<p>NBV = Cost - Accumulated depreciation (D)</p> Signup and view all the answers

The straight line method of depreciation results in varying amounts of depreciation expense each year.

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

What two methods are widely used for calculating depreciation?

<p>Straight line method and reducing balance method</p> Signup and view all the answers

The depreciable amount of an asset is calculated by subtracting its estimated _______ from its historical cost.

<p>residual value</p> Signup and view all the answers

Match the following terms with their relevant definitions:

<p>Historical cost = The original purchase price of an asset Accumulated depreciation = Total depreciation expense recognized over time Net Book Value = Cost minus accumulated depreciation Residual value = Estimated value at the end of an asset's useful life</p> Signup and view all the answers

Which of the following statements is true regarding accumulated depreciation?

<p>It decreases the net book value of the asset. (D)</p> Signup and view all the answers

Land and investment properties are included in the requirement to depreciate all tangible non-current assets.

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

How is an annual depreciation expense recorded in the financial statements?

<p>It is recorded as an expense in the Profit and Loss (P&amp;L) account.</p> Signup and view all the answers

What is the correct calculation for accumulated depreciation of the sold vehicles?

<p>£540,000 (C)</p> Signup and view all the answers

A company incurs a loss on the disposal of assets if the sale proceeds are greater than the net book value.

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

What is the annual depreciation charge for the remaining motor vehicles?

<p>£130,000</p> Signup and view all the answers

The net book value of the vehicles sold before the sale was _____

<p>£110,000</p> Signup and view all the answers

Match the following vehicle details with their corresponding values:

<p>Total Vehicles Sold = 5 Cost per Vehicle = £650,000 Total Proceeds from Sale = £1,690,000 Total Cost of Vehicles = £3,250,000</p> Signup and view all the answers

If a machinery's expected residual value is estimated at £343, what is the correct calculation for the annual depreciation?

<p>£219 (A)</p> Signup and view all the answers

Depreciation is charged in the year of disposal for assets.

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

What impact does the sale of the vehicles have on the bank account?

<p>Increase by £1,690,000</p> Signup and view all the answers

Flashcards

Residual Value

The value of an asset at the end of its useful life.

Depreciation

The process of allocating the cost of a tangible asset over its useful life.

Net Book Value (NBV)

The cost of an asset less its accumulated depreciation.

Straight-Line Method

A depreciation method where the same amount of depreciation is charged each year.

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Reducing Balance Method

A depreciation method where a higher depreciation charge is applied in the early years of an asset's life.

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Useful Economic Life

The period over which an asset is expected to be used by a business.

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Accumulated Depreciation

The total depreciation charged to an asset since its acquisition.

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Historical Cost

The original cost of an asset when it was acquired.

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Straight-line depreciation

A method of depreciation where the same amount of depreciation is charged each year over the asset's useful life.

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Profit or Loss on Disposal

The difference between the proceeds of sale and the net book value of an asset.

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Proceeds of Sale

The amount of money received from selling an asset.

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Zero-Scrap Value Depreciation

A method of calculating depreciation that assumes a zero scrap value at the end of the asset's useful life.

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Cost of Sales (CoS)

The value of goods sold during a period. It represents the cost of goods that were removed from inventory and transferred to the cost of goods sold account.

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Opening Inventory

The starting inventory value at the beginning of the accounting period.

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Purchases

The value of goods purchased during the accounting period. This includes any purchases made to replenish inventory.

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Closing Inventory

The ending inventory value at the end of the accounting period. This represents the remaining unsold goods in inventory.

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CoS Formula

The formula used to calculate Cost of Sales (CoS). It involves adding opening inventory to purchases, then subtracting closing inventory.

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Cost of Goods Available for Sale

The value of goods available for sale during the accounting period. It is the sum of opening inventory and purchases.

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Converting Inventory to Expense

The process of converting the value of inventory from an asset to an expense. This happens when goods are sold.

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Recording CoS on Income Statement

It is the process of recording the value of goods that have been sold on the income statement.

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Study Notes

Introduction to Accounting and Finance - Lecture 3

  • The lecture covered preparing financial statements, including income statements (profit & loss accounts) and statements of financial position (balance sheets).
  • Adjustments were also discussed, such as cost of sales, depreciation of fixed assets, and fixed asset disposal

Cost of Sales

  • Cost of sales (CoS) represents the value of goods removed from inventory due to being sold.
  • It transforms the asset (inventory) into an expense.
  • Key calculation components for Cost of Sales are shown in the following equation:
    • Opening Inventory + Purchases – Closing Inventory = Cost of Sales

Calculation of Cost of Sales

  • The calculation involves opening inventory, purchases (less returns), carriage inwards, and closing inventory.

Cost of Sales Example

  • A company produced 200 pens at a cost of £500.
  • Expenses were £250.
  • 100 pens were sold.
  • Cost of sales: Cost of goods sold = (Cost of Goods available for sale) – (Closing inventory).

Examples of Cost of sales calculations

  • One example used pens costing £2 each, with initial inventory being 50 pens, 150 new purchases and free delivery. There was 100 pens left over. The total cost of goods available for sale was £400 and the cost of sales was £200

Cost of Sales Example

  • Opening inventory: 10
  • Purchases: 20
  • Closing inventory: 12
  • Cost of Sales: 18

Income Statement Structure

  • The income statement shows revenue less the cost of sales to determine the gross profit.
  • Selling, distribution, administrative, finance costs are then deducted from the gross profit to determine the net profit (loss).

Depreciation & Non-Current Assets

  • IFRS (International Financial Reporting Standards) allows two methods to value non-current assets: a historical cost accounting method and a fair value method.

Historical Cost Accounting

  • In this method, non-current assets are written down by their costs less their accumulated depreciation (from acquisition until financial statement is generated) making up the net book value (NBV).
  • NBV is reported as an asset in the statement of financial position.

Example of Historical Cost Accounting Calculation

  • A machine was bought three years ago for £30,000.
  • Annual depreciation charge: £3,000
  • NBV after 3 years: £21,000
  • Accumulated depreciation: £9,000

Depreciation Nature

  • IAS 16 mandates that all tangible non-current assets (except land and investment properties) are subject to depreciation.

Accounting for Depreciation

  • The annual depreciation expense is recorded as an expense in the profit and loss account.
  • Net Book Value (NBV) is calculated by subtracting accumulated depreciation from the original cost.

Depreciation Methods

  • Common methods used to calculate depreciation include straight-line and reducing balance methods.

Straight-Line Method

  • A constant depreciation expense is recognised annually throughout the asset's usable life.
  • Annual depreciation = (Asset cost - Residual value)/ Useful economic life

Reducing Balance Method

  • This method deducts a certain percentage of the current book value for the depreciated item each year.
  • This leads to a higher depreciation expense in the initial years of an asset's life & lower expense in later years

Disposals of Non-Current Assets

  • Profit or loss is recognised upon asset disposal if the proceeds of sale exceed or fall short of the net book value (NBV).

Example of Profit on Disposal

  • A machine costing £1,000, expected to last for 3 years, with a residual value of £343, and using a straight-line method.
  • The machine was sold for £400 resulting in a profit of £57.

Student Activity

  • S. Mann, an accountant, had an opening inventory of £55,000 on May 1, 20X0.
  • Purchases were £500,000 and sales revenue was £775,000 for the year ending April 30, 20X1.
  • Closing inventory was £80,000 on April 30, 20X1.
  • The gross profit for the year was £300,000

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