Accounting Flashcards
Explain your understanding of the term depreciation and the tax benefits?
- Declining value of an asset is offset against a companies taxable profit
- Depreciation in value can be recorded as an expense to reduce the amount of taxable income
- Can be on plant, tools, vehicles, furniture, buildings
What are overheads?
- Operating costs of business incurred on an ongoing basis
- Fixed - rent, building insurance, not changeable each month
- Variable - depend on business activity e.g. delivery or utility
What is an escrow account?
- Contractual agreements used as financial instruments within a transaction
- Asset / currency being transferred between 2 parties, is held by an intermediate 3rd party
- Currency being exchanged is held securely by 3rd party until each of the 2 parties have met their contractual obligations
- e.g. mortgage lenders
Name 3 types of accounting ratios
Liquidity
- consider ability to pay debt obligations and margin of safety by looking at metrics such as operating cash against short term debts
Profitability
- ability to generate profits from sales operations & shareholding equity. Indicates how efficiently a company is generating profit
Gearing
- compare capital within company against its debts. Measures financial leverage and what proportion of activities is covered by shareholder funds vs creditor funds
Why does a business keep company accounts?
- Record & measure profitability
- Assist with tax calculation and taxable deductions
- Legislation often requires companies to keep accurate records
- Business growth is encouraged by identifying profitable operations and minimising loss making activities
What is financial leverage?
- Concept of using borrowed funds in the form of debt to enhance business operations & increase companies profitability & rates of return
- If the rate of return invested via borrowed funds is higher than the interest on those funds, more profit can be generated
What are capital allowances?
- Allow tax payers to gain tax relief by using their expenditure to be deducted from taxable income
- Expenditure used to lower taxable income is only allowed on certain categories of cost e..g plant / machinery / R&D / patents
What is the difference between a current asset vs fixed asset?
Current
- Can usually be converted into cash within 1 financial year and allow day to day operation of business
- E.g. money owed to the company following sales of products or services, inventory, prepaid expenses
Fixed
- Cannot be converted in 1 year
- Recoded on balance sheet as fixed
- E.g. Vehicles, office furniture, machinery, buildings & land
What are the different types of company you are aware of?
- PLC - Public Limited Company - sell shares to public
- LLP - Limited Liability Partnership - 2+ partners, liable for own conduct but not liable for partners or debts / damages of business
- Private ltd - owned privately, shares handled privately. Individual responsibility fixed to extent they invest
What are ratio analysis?
Methods to evaluate operating and financial performance
How is liquidity calculated?
Current ratio = current assets/ current liabilities
Test capability to pay off current liabilities by converting assets to cash
<0.75 is an early indicator of insolvency
- It tests the ability to pay debts
What is an Acid Test?
current assets (excluding stock)/ current liabilities
- it shows liquidity
What is a fixed asset?
Asset retained for the benefit of the business and classed as either:
o Tangible: Land and buildings
o Intangible: Patents or trademarks
What is a Fixed liability?
Debt or other obligations which are not due within 12 months ie mortgage, loans & bonds
What are signs a contractor may about to become insolvent?
- Rumours
- Overvalued valuations
- Reduced labour on site
- Cash flow front loading
- Liquidity ratio of less than 0.75
As a result need to secure site and materials and inform the client, withhold payments
What is insolvency?
The state of being unable to pay money owed by a person or company on time
What’s the purpose of accounting
- Enables a business to monitor and measure their success in terms of profits and allows them to manage their funds to maximize profitability
- Also allows to asses performance and facilitate decision making
When do surveyors use accounts?
- Own business accounts
- To assess strengths of tenants and landlords
- Assess strength of contractors
- Assessing competition
What must be provided annually as a business?
- Balance Sheet
- P and L Account
- Cashflow
- Notes about the accounts
- Directors Reports
- Issued to shareholder, companies house, HMRC
What is the difference between profit and loss account and balance sheet?
A profit and loss account shows the income, expenditure and profit or loss of the company and the balance sheet shows what a company owns (assets) and what it owes (liabilities) at a given point in time.
You mention that you understand the basic principles of profit & loss and balance sheets. Could you tell me the difference?
Profit & loss
o Shows income and outgoings over period of time (usually annually)
o Indicates performance in that period
o Includes summary of invoices raised and cost of goods and work in progress that is yet to be invoiced
o Not indicative of a business financial state as does not record whether invoices raised/ received have been paid.
Balance sheet
- What a company owns (assets) and what it owes (liabilities) at a given point in time
o Detailed account of a company,
o Shows assets, liabilities and what equity owners or shareholder have.
o Snapshot of the value of the business at a specific time
o are a measure of a business
What is a Balance Sheet
Freezes the financial position of a give moment in time. Summarizes where all money relating to the business is and what the business owes and owns.
Main headings includes
Assets – Resources owned (property, plant, equipment)
Liabilities – financial obligations to others (Debt, salaries, leases, taxes)
Equities
What are the different assets and liabilities you would expect to se on a balance sheet
Fixed / non current asset – Property of possessions for business benefit such as machinery and vehicles
Current asset – such as cash
Fixed non current liability -debt or obligation not sure in next 12 months such as mortgage
Current liability – owed in 12 months such as creditors expense or overdraft
What is a profit and loss sheet?
Summary of earnings over a period of time which is the different between income and expenditures and shows if the company is profitable. Measure different things
2 types of profit; gross – sales total – the cost of sales
and net – final profit after tax, interest and operating costs are deducted
Measures over a period of time
Used to calculate profit margins
