1. Fundamental Accounting Concepts and Recording Financial Information

Question 1

Explain basic accounting principles

Question 2

What does accounting mean?

Answer 2

Accounting is the process of recording financial data in a system (the accounting system).

Question 3

What are the main financial statements?

Answer 3

1) Statement of Financial position (BS)
2) Statement of Financial Performance (P&L)

Question 4

What is an entity?

Answer 4

The entity is the business for which accounting records are being recorded.

Question 5

What is financial reporting?

Answer 5

This is the reporting of financial data to the stakeholders of the business. It can also be called ‘financial accountin

Question 6

Describe the process for the preparation of financial statements

Question 7

What is the process for preparing financial statements?

(5 steps)

Answer 7

Step 1) Recording financial data using invoices/cash etc

Step 2) Journal entries - carry out the double entry for the transaction

Step 3) Nominal ledger (General Ledger) - Post the journal entry to the general ledger

Step 4) Trial balance - List of the nominal/general ledger accounts

Step 5) Financial statements - use the TB to produce the statements for the entity.

Question 8

What are the advantages of computerised accounting systems?

Answer 8

1) Easily automate various accounting processes, = faster and efficient and less human error.

2) Maintains an audit trail of all financial transactions. Making it easier to track and verify changes and corrections.

3) The ability to generate a wide range of financial reports quickly and accurately which can be customised to meet specific business needs.

4) Cloud based accounting systems provide a real time access to financial data. Enabling businesses to make timely and informed decisions. Updates and changes are reflected immediately.The systems enable remote access to financial data, allowing for work from anywhere with an internet connection

Question 9

What are the dis-advantages of computerised accounting systems?

Answer 9

1) Computerised accounting systems can be expensive to implement and maintain. There would be initial and ongoing training and support costs and software licensing costs.

2) Employees may require training to use software effectively. The learning curve can temporarily reduce productivity. Software updates may also cause potential disruptions.

3) Most systems are off the shelf packages, and therefore not tailored to the business. Adapting pre-packaged accounting software to meet specific business needs can be challenging and costly.

4) Businesses become heavily dependent on the reliability of the software and hardware. System failures or malfunctions can disrupt operations. While most systems have backup options, there is still a risk of data loss in the event of a catastrophic event, system crash, or inadequate backup procedures.

Question 10

Describe how financial data is initially recorded in the accounting records.

Question 11

How is financial data recorded initially?

(4 steps)

Answer 11

1) Identifying - An entity must identify the economic events relevant to its business

2) Measuring - The economic events must be quantified (given a monetary value) in order to record them as transactions

3) Recording - Invoice is used to record e.g. These documents provide a historical record, as well as evidence of each transaction.

4) Communicating - the communication of the collected information to users of the financial information. (aka prep of financial statements)

Question 12

What is a sole trader?

Answer 12

A business run by an individual (the sole trader) who is liable for any debts incurred by the business. It is not a separate legal entity. A sole trader may have employees.

Question 13

What is a Partnership?

Answer 13

A business run by two or more individuals in partnership. It is not a separate legal entity, and all partners are jointly and severally liable for any debt

Question 14

What is a Limited liability company?

Answer 14

This is a separate legal entity owned by shareholders who have limited liability, which means that they are not responsible for company debts.

Question 15

What is a Limited liability partnership?

Answer 15

This is a partnership, but a separate legal entity, so the liability of the partners is limited.

Question 16

What is a Community Interest company (CIC)?

Answer 16

A CIC is a special type of limited company that exists to benefit the community.

Question 17

Describe the impact of processing journal entries on the financial statements

Question 18

State all the headings of the SoPL for limited companies.

Answer 18

Revenue - income generated from the operating activities of the company, ie selling goods or services.

Cost of sales - cost/expense relating to the goods or services that have generated revenue. It might include purchase costs of goods or staff costs. Gross profit

Gross profit - subtotal. It is the profit from selling goods/services and is calculated as revenue less cost of sales.

Other income - A business might generate income from other sources, eg interest or dividends from investments, or gains.

Distribution costs - Expenses relating to the transport or distribution of goods and services. (Delivering to customers)

Administrative expenses - This heading can include lots of different expenses, eg office stationery expenses, heat and light expenses, staff costs.

Finance costs - These are the costs relating to financing the business, eg bank interest.

Profit before tax - This is another subtotal and is required by accounting regulations.

Taxation - Corporation tax estimate for the year based on PBT.

Profit for the year - Overall profit made by the company in a year. If the company was loss making, this would be a loss for the year

Question 19

State all the headings of the SoFP for limited companies.

Answer 19

Title - The date for the statement of financial position is a point in time, the last day of the reporting period covered by the statement of profit or loss, in this case 31 December 20X8.

Assets - The top half of the statement shows all the different assets of the company.

Non-current assets - These are assets that are controlled and used by the business over a number of years.

Current assets - These are more short-term assets, including inventories (stock) and cash.

Total assets This is the total of the current and non-current assets and completes the top half of the financial statement.

Non-current liabilities - These are long-term debts of the company. In this case, there is a loan and also some bonds.

Current liabilities - These are the short-term debts of the company.

Total liabilities - This is the total of the current and non-current liabilities.

Total equity and liabilities - This total should always be equal to total assets.

Equity - The first section of the bottom half is equity, which represents the shareholders’ investment in the company.

Question 19

What are the 5 “elements” of financial statements?

(and which related to SoPL and SoFP)

Answer 19

3 elements related to Financial position:
1) Assets
2) Liabilities
3) Equity

2 elements related to Financial performance:

4) Income
5) Expenses

Question 19

What is the accounting period concept?

Answer 19

An accounting period is the period of time covered by an entity’s financial statements, which is normally 12 months

(aka Reporting period)

Question 20

What is the “Accrual accounting” principle?

Answer 20

Principle is when the effect of the transaction needs to be for the reporting period it relates to, even if the resulting cash receipts and payments occur in a different period.

Question 20

What is the “Prudence” concept?

Answer 20

Prudence is the exercise of caution when making judgements under conditions of uncertainty.

Question 21

What are examples of cash transactions?

Answer 21

• Payment of wages and salaries to employees
• Receipt/payment of bank interest and payment of bank charges
• Receipts and payments relating to bank loans

Question 21

What is the “matching” concept?

Answer 21

Income earned and the related expenses incurred should be matched against each other in the same accounting period.

Question 22

What are examples of non-cash transactions?

Answer 22

• Depreciation of property, plant and equipment.
• Accruals and prepayments
• Adjustments to trade receivables and inventories

Question 22

What are adjustments in an accounting system?

Answer 22

Adjustments needed to correct any errors that have been made