9. ML1 Accouting Principles

Question 1

WHAT IS A PROFIT & LOSS ACCOUNT

Answer 1

A profit and loss statement (P&L) is a financial statement which summarises the revenues, costs and expenses incurred during a specific period (e.g. annually / quarterly) and can determine (as the name suggests) if a company has been making a profit or loss over that given time.
It is a statement which adds up all the Gross Profits made by the company and deducts all losses e.g. expenses, overheads, taxes and other outgoings. This provides the Nett Profit value for the given time period.

Question 2

What is a balance sheet?

Answer 2

A balance sheet is a snapshot of a company’s accounts and determines a company’s worth at a certain point in time.
They can be generated at any time (i.e. do not accept BS’s that are not up to date).
A BS is a statement of a company’s Assets, Liabilities and Equity.
Assets = Liabilities + Equity
The total assets must be equal to Liabilities + Equity (hence the phrase balances the books).

Question 3

What is a cash flow statement

Answer 3

• It is the summary of the actual and anticipated ingoing and outgoing of cash in a firm over the accounting period.
• It measures the short-term ability of a firm to pay off its bills.

Question 4

What is taxation?

Answer 4

A compulsory financial contribution imposed upon a taxpayer by a governmental organization in order to fund various public expenditures, based on workers’ income and business profits, or added to the cost of some goods, services or transactions.

Question 5

What are the key financial statements that companies provide?

Answer 5

The key financial statements a re:-
o Profit and loss accounts.
o Balance sheets.
o Ca sh flow statements?

Question 6

What is the difference between management and financial accounts?

Answer 6

• Management accounts are for the internal use of the management team.
• Financial accounts are the company accounts that are required by UK law.

Question 7

What is the difference between a profit and loss account and a balance sheet?

Answer 7

A profit and loss account shows the incomes and expenditures of a company and the resulting profit or loss.

The balance sheet shows what a company owns (it’s assets) and what it owes (its liabilities) at a given point in time.

Question 8

Explain your understanding of the following Terminology?

Capital Allowances -

Answer 8

Capital Allowances - Tax relief on certain items purchased for the business for example
tools and equipment.

Question 9

Explain your understanding of the following Terminology?

Sinking Funds

Answer 9

• Sinking Finds – Funds that are set aside for future expenses or long-term debt.

Question 10

Explain your understanding of the following Terminology?

Insolvency –

Answer 10

Insolvency – An inability to pay debts where liabilities exceed assets.

Question 11

What are Liquidity ratios?

Answer 11

• Liquidity rations me a sure the ability of a company to pay off its current liabilities by
converting its current assets into cash.
• Liquidity ratio ca lcula tion = current assets / current liabilities.
• The ratio is usually around 1 .5 but it depends on the sector of activity.
• For example house build e rs often operate on a liquidity ratio over 3 because they retain high-value assets in the form of unsold houses.
• A liquidity ratio of less than 0.75 can be an early indicator of insolvency.

Question 12

What are Profitability ratios?

Answer 12

Profitability ratios measure the performance of a company in generating its profits.
The trading profit margin ratio = turnover – (cost of sales/turnover).
Low margins may be due to a growth strategy from the company and do not always result from bad management.

Question 13

What are Financial Gearing Ratios?

Answer 13

• These measures the financial structure of the company which are crucial indicators for the external suppliers of debt and equity as well as for internal management.

• They help to measure solvency.
• Highly geared companies rely mainly on borrowing.
• The payment of interests reduces the profit.

Question 14

Why do chartered quantity surveyors need to understand and be able to interpret company accounts?

Answer 14

• To aid in preparing their own business accounts.
• Fo r assessing the financial strength of contractors and those tendering for contracts.
• For assessing competition.

Question 15

What is a Financial Statement?

Answer 15

Forecasts of income and expenditure can be used as an analytical tool to identify potential shortfalls and surpluses.

Question 16

What are Management Accounts?

Answer 16

• The accounts prepared by a company for internal management use.
• Accounts prepared for a lender, such as a bank to evaluate how you will be able to repay the funding.
• These accounts are not audited externally.

Question 17

What is a Cash Flow forecast?

Answer 17

A cash flow forecast summarises the amount of cash or cash equivalents entering and leaving a company or project entity.

On construction projects, they usually show as an n ‘S’ curve.

There is typically a small financial outlay at the start, a steep increase during the
midway point and a taper towards the end.

Question 18

What are Escrow Accounts?

Answer 18

A separate account owned by a third party is held on behalf of two other parties.
A bank a ccount with defined contractual conditions for the relea se of funds.
They can be used as a project bank account.

Mechanisms must be in place for the release of funds such as payment certificates.

Question 19

When have you used company accounts in your work?

Answer 19

To assess the financial strength of contractors at Pre -Qualification Stage and tender stages

Question 20

Why would you not recommend the appointment of a contractor with a low credit rating?

Answer 20

There may be an increased risk of the contractor not performing satisfactorily.
It could present an increased risk of the contractor failing to deploy sufficient resources and materials to the project.

It could increase the risk of the contractor’s insolvency.