3.1 Elements of financial statements

Question 1

How many elements of accounting are used to represent the financial effects of business transactions? What are they?

Answer 1

Five. They are:

1. Assets
2. Liabilities
3. Equity
4. Income
5. Expenses

Question 2

What are ‘assets’? Which financial report are assets recorded / found in?

Answer 2

Assets are resources usually owned or controlled by the business to carry out its business activities.
or
Assets are resources / items of value owned by (i.e. belonging to) a business.
or
Assets: Things of value owned by a business entity.
or
Assets are the things that a company owns, that can be sold to pay debts.

All assets are recorded / found in the Balance Sheet.

Question 3

What are assets expected to do?

Answer 3

Generate future benefits.

Question 4

Give examples of non-current assets (i.e. capital expenditures).
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Answer 4

To Memorise:
Non-Current Assets (i.e. Capital Expenditures) refer to:
1. Land
2. Property (comprises land and building)
3. Office Equipment (comprises computers, printers, machines and other equipment)
4. Fixtures and fittings (comprises furniture, shelves and lighting)
5. Motor vehicles (comprises trucks, vans, cars and motor cycles)
6. Plant and equipment (only plant machinery and plant equipment)

Question 5

Give examples of current assets.

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Answer 5

To Memorise:

1. Inventory (goods held for resale)
2. Trade receivables (amounts owed by debtors to whom the business sells goods and services on credit)
3. Other receivables (amounts owed by debtors for reasons other than the sale of goods and services on credit)
4. Income receivables (income earned that is not collected by the business yet)
5. Prepaid expenses (expenses paid by the business before they are incurred)
6. Cash at bank (money deposited with the bank)
7. Cash in hand (physical cash held on hand)

Question 6

Define ‘Goods’.

Answer 6

‘Goods’ is the general term for things that the business is buying and selling, as part of its main business activity.

Question 7

Define ‘Receivable’.

Answer 7

A ‘receivable’ means an amount owed to the business. The people who owe money to the business are called debtors.

Question 8

Defne ‘owe’.

Answer 8

Dictionary Definition: HAVE DEBTS. To need to pay or give something to someone because they have lent money to you, or in exchange for something they have done for you.
E.g. We still owe $1000 on our car = We still need to pay $1000 before we own our car.

Question 9

Define ‘own’.

Answer 9

Dictionary Definition: BELONGING. Belonging to or done by a particular person or thing; or to have something that legally belongs to you: We own our house.

Question 10

Is it important that the correct asset is recorded?

Answer 10

Yes. Whether an item is an inventory or not will depend on what the business is selling and buying.

Question 11

A furniture business owns a delivery truck. Should the furniture business record the delivery truck as as a non-current asset (i.e. capital expenditure and / or under motor vehicles) or as a current asset (under inventory, i.e. goods for resale)?

Answer 11

As a non-current asset. As the furniture business uses the delivery truck to transport goods to customers, the delivery truck should be recorded as an asset (non-current) called motor vehicle in the Balance Sheet; or
The delivery truck has been bought for use by the business and is not purchased for resale purposes. As such, it should be classified as a non-current asset.

Question 12

A used vehicle (i.e. second hand vehicle) business owns a delivery truck. Should the used vehicle business record the delivery truck as as a non-current asset (i.e. capital expenditure and / or under motor vehicles) or as a current asset (under inventory, i.e. goods for resale)?

Answer 12

Depends:
If the delivery truck is used to transport goods and other materials (i.e. purchased for use by the business), it should be recorded as a non-current asset called motor vehicle in the Balance Sheet.

If the used vehicle business will be selling the delivery truck just as it sells other used vehicles (i.e. the delivery truck is bought for resale purposes), the delivery truck should be recorded in the Balance Sheet as a current asset called Inventory.

Question 13

What are ‘liabilities’? Which financial report are liabilities recorded / found in?

Answer 13

Liabilities are amounts that the business owes to other businesses or people.
All liabilities are recorded / found in the Balance Sheet.

Question 14

Give examples of non-current liabilities (i.e. Capital Receipts).
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Answer 14

To memorise accurately:

1. Mortgage loan
2. Long Term Borrowings

Question 15

What is a ‘mortgage loan’?

Answer 15

Money borrowed to be repaid over more than a year, and an asset is used as collateral.

Question 16

What is ‘collateral’?

Answer 16

Dictionary meaning: valuable property owned by someone who wants to borrow money which they agree will become the property of the company or person who lends the money if the debt is not paid back.

Question 17

What is a ‘long-term borrowing’?

Answer 17

Money borrowed to be repaid over more than a year.

Question 18

Give examples of current liabilities.

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Answer 18

To memorise accurately:

1. Current portion of Long Term Borrowing
2. Short term borrowings (e.g. bank overdraft)
3. Trade payables
4. Other Payables / Accrued Expense / Expenses Payable
5. Income received in advance

Question 19

What are ‘trade payables’?

Answer 19

Trade payables are amounts owed to creditors (i.e. people to whom money is owed) by the business for buying goods and services on credit. It is a current liability recorded in the Balance Sheet.

Question 20

What are ‘other payables’?

Answer 20

Amounts owed to creditors for reasons other than buying goods and services on credit. It is a current liability recorded in the Balance Sheet.

Question 21

What is a ‘bank overdraft’?

Answer 21

Money owed to the bank when the bank account is overdrawn. It refers to an overdrawn cash at bank. It is a current liability recorded in the Balance Sheet.

Question 22

What is ‘income received in advance’?

Answer 22

Income not earned yet but has already been collected by the business. It is a current liability recorded in the Balance Sheet.

Question 23

What are ‘accrued expenses’?

Answer 23

Expenses incurred but not invoiced / billed by the suppliers and / or no paid by the business yet. It is a current liability recorded in the Balance Sheet.

Question 24

What is ‘equity’?

Answer 24

The amount contributed (i.e. capital) by the owners and the profit generated by the business.

Question 25

What is ‘capital’?

Answer 25

Capital is any resources contributed by the owner to the business.

Question 26

What is equity known as in a sole proprietorship?

Answer 26

Owner’s equity.

Question 27

What is the equity of a sole proprietorship made up of?

Answer 27

Capital, drawings and profit for the period.

Question 28

Recap: What are ‘drawings’?

Answer 28

Drawings are assets taken from a business by its owner for personal / own / private use.

Question 29

To memorise:
Formula #1:
What is the formula to remember for equity (sole proprietorship)?

Answer 29

Very important. Please memorise accurately!!!
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Equity (sole proprietorship) = Capital + Profit - Drawings or
Equity (sole proprietorship) = Capital - Loss - Drawings
or
Owner’s equity = Total Assets - Total Liabilities

Question 30

What is equity known as in a company?

Answer 30

Equity in a company is known as shareholders’ equity.

Question 31

List the equity items found in a company.

Answer 31

1. Issued share capital
2. Retained earnings
3. Dividends

Question 32

What is issued share capital?

Answer 32

Issued share capital is the resources contributed by the shareholders.

Question 33

What are retained earnings?

Answer 33

Profits that are not distributed to the company’s shareholders.
Retained earnings = Profit - Dividends

Question 34

What are dividends?

Answer 34

Profits that are distributed to the company’s shareholders.

Question 35

To memorise:
Formula #2:
What is the formula to remember for equity (company)?

Answer 35

Very important. Please memorise accurately!!!
HOM: Striving for accuracy.
Equity (company) = Issued share capital + Profit - Dividends

Question 36

Define ‘income’.

Answer 36

Income consists of revenue, other income and other gains. Incomes are revenue receipts.

Question 37

How many types of revenue are there?

Answer 37

1 Sales revenue

2. Service fee revenue
3. Other income

Question 38

What is sales revenue?

Answer 38

Sales revenue is the amount a trading business earns from selling goods. For example, when a candy shop sells candies to customers, the selling price is the sales revenue.

Question 39

What is service fee revenue?

Answer 39

Service fee revenue is the amount a service business earns from providing services.

Question 40

Give examples of service fee revenue.

Answer 40

1. Hairstyling fee revenue earned by a hairdressing salon
2. Fare revenue by a business company
3. Legal fee revenue earned by a law firm
4. Dental fee revenue earned by a dental clinic

Question 41

How do I distinguish sales revenue and service fee revenue from other income?

Answer 41

Sales revenue and service fee revenue are earned from the main activities of a business. Other income are incomes not earned from normal sale of goods and services.

Question 42

What is ‘other income’?

Answer 42

Income not earned from normal sale of goods and services. For example, a candy shop may have deposited excess cash with the bank which earns interest income. This interest income is treated as other income of the business.

Question 43

What are ‘other gains’?

Answer 43

Other gains refer to gains that arise when the business sells its assets. For example, a business can sell its used equipment and has a gain on sale of equipment.

Question 44

Why does a business incur expenses?

Answer 44

So as to generate income.

Question 45

Do the benefits generated from expenses last into the future?

Answer 45

No.

Question 46

What are expenses?

Answer 46

Resources used up by the business operations of a business in a given period to earn income. Expenses are revenue expenditures.

Question 47

Give some examples of common expenses.
(To memorise at least 32 types of expenses.)
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Answer 47

1. Cost of sales (value of goods sold in a trading business)
2. Salaries or wages (amount incurred to employ staff)
3. Rental expense (amount incurred to rent a shop or office space)
4. Utilities (amount incurred for water and electricity used by the business)
5. etc (at least another 27 types of expenses that you must know and commit to your memory.)

Question 48

Does any reduction in the value of an asset become an expense?

Answer 48

Yes.

Question 49

Give some more examples of expenses.

Answer 49

1. Impairment loss on trade receivables (reduction in value of current asset: trade receivables.)
2. Depreciation (reduction in value of non-current assets such as property, plant and equipment, etc.)
3. Impairment loss on inventory (reduction in value of current asset: inventory.)

Question 50

Can the expenditure incurred by a business be classified as either an asset or as an expense?

Answer 50

Yes. This classification will depend on the benefits that can be enjoyed by the business. Benefits from assets last longer than benefits from expenses.

Question 51

Is the following to be classified as an asset or as an expense?
Candy business owns a shop which is sited on a piece of land with a lease term of 99 years. It can operate its business from the shop for as long as it wants, up to 99 years.

Answer 51

Non-current asset.

Question 52

Is the following to be classified as an asset or as an expense?
Candy business rents a shop from the landlord. It can operate its business from the shop as long as it pays rent to the landlord. If the shop is rented for a month, then the candy business can only stay for a month.

Answer 52

Expense.