Allmänt Flashcards
1
Q
Cite two different definitions of accounting
A
(1) Accounting is the language of business.
(2) Accounting is concerned with
collecting, analyzing & communicating
financial information
2
Q
Which four step process is shown as a summary of accounting?
A
- Information identification
- Information recording
- Information analysis
- Information reporting
3
Q
In which six domains do financial accounting and management accounting differ from one another?
A
- Nature of the reports produced
- Level of detail
- The existence of regulations
- Reporting interval
- Time orientation
- Range and quality of information
4
Q
Define “salvage value”
A
The estimated value that an asset will realize upon its sale at the end of its useful life.
5
Q
What does the cash flow statement do?
A
It Shows the entity’s cash flows (inflows and outflows) during a specific period
6
Q
What does the statement of profit or loss (Income statement) show?
A
It shows the entity’s net income (profit /loss) during a specific period
7
Q
What does the statement of financial position (Balance sheet) show?
A
Shows the entity’s assets and how they have been financed (shareholders’ equity and liabilities) at a given point in time
8
Q
What is the impact of “high value
of an asset”?
A
-> low expenses -> high profit for the year
9
Q
What is the impact of “low value
of an asset”?
A
-> high expenses -> low profit for the year
10
Q
What is a current asset?
A
An assets that the entity…
…expects to realize, sell or consume in its normal
operating cycle
…holds primarily for the purpose of trading
…expects to realize within twelve months after the
reporting period.
OR: the asset is cash or a cash equivalent
11
Q
What is a non-current asset?
A
Assets held for use in production or supply of goods or services, for rental to others, or for administrative purposes; and expected to be used during more than one period (definition of PPE)
12
Q
Which four properties should accounting information possess?
A
Accounting information should possess: • Relevance • Reliability • Comparability • Understandability
13
Q
What is the threshold of materiality?
A
Material = significant. We should ask whether its omission or misrepresentation in the accounting reports would really alter the decisions that users make. If so, it has crossed the threshold of materiality.
14
Q
For what reason is some accounting information sometimes not produced?
A
Because a particular item of accounting information should only be produced if the costs of providing it are less than the benefits, or value, to be derived from its use.
15
Q
Which six properties in total should characterize accounting information?
A
- Relevant
- Reliable
- Comparable
- Understandable
- Material (past the “materiality threshold”)
- Worth the cost associated with retrieving the information
16
Q
Who is management accounting aimed at?
A
Managers
17
Q
Who is financial accounting aimed at?
A
All other users (stakeholders) except for managers
18
Q
Apart from the six differences cited in the book, how do management accounting and financial accounting differ from one another?
A
Management accounting reports are more likely to produce reports that contain information of a non-financial nature, such as physical volume of inventories, number of sales orders received, number of new products launched, physical output per employee and so on.
Financial accounting places greater emphasis on the use of objective, verifiable evidence when preparing reports. (management accounting reports may use information that is less objective and verifiable)
19
Q
Which are the three arrangements for business ownership?
A
- Sole proprietorship
- Partnership
- Limited company
20
Q
What is sole proprietorship?
A
Sole proprietorship, as the name suggests, is where an individual is the sole owner of a business.
21
Q
What is a partnership?
A
A partnership exists where at least two individuals carry on a business together with the intention of making a profit. Partnerships have much in common with sole-proprietor businesses.
22
Q
What is a limited company?
A
Limited companies can range in size from quite small to very large; the number of individuals who subscribe capital and become the owners may be unlimited, which provides the opportunity to create a very large-scale business. The liability of owners, however, is limited (hence ‘limited’ company), which means that those individuals subscribing capital to the company are liable only for debts incurred by the company up to the amount that they have agreed to invest.
23
Q
Name three accounting-related requirements placed on limited companies
A
Part of the regulatory framework requires annual financial reports to be made available to owners and lenders, and usually an annual general meeting of the owners has to be held to approve the reports.
In addition, a copy of the annual financial reports must be lodged with the Registrar of Companies for public inspection. In this way, the financial affairs of a limited company enter the public domain.
With the exception of small companies, there is also a requirement for the annual financial reports
to be subject to an audit.
24
Q
What are the three major tasks of a company board?
A
The board is charged with three major tasks:
- setting the overall direction and strategy for the business
- monitoring and controlling its activities
- communicating with owners and others connected with the business
25
What is the main objective of a business, within the scope of the accounting book?
A business is created to enhance the wealth of its owners.
26
how has financial accounting changed lately?
Financial accounting has improved its framework of rules and there has been greater international harmonisation of accounting rules.
27
How has management accounting changed lately?
Management accounting has become more outward looking and new methods for managing costs have emerged.
28
Who appoints the company board?
The owners (shareholders)
29
What is the purpose of producing accounting information?
The purpose of providing accounting information is to enable users to make more informed decisions and judgements about the organisation concerned. Unless it fulfills this objective, there is no point in providing it.
30
Financial accounting statements tend to reflect past events. In view of this, how can they be of any assistance to a user in making a decision when decisions, by their very nature, can only be made about future actions?
Since we can never be sure what is going to happen in the future, the best that we can do is to make judgements on the basis of past experience. Thus information concerning flows of cash and of wealth in the recent past is likely to be a useful source on which to base judgements about possible future outcomes.
31
What is commoditization?
In business literature, commoditization is defined as the process by which goods that have economic value and are distinguishable in terms of attributes (uniqueness or brand) end up becoming simple commodities in the eyes of the market or consumers.
32
What is often referred to as "the final accounts of the business"?
The financial statements (income statement, statement of cash flows and statement of financial position) are often referred to as the final accounts of the business.
33
What is the short definition of an asset?
An asset is essentially a resource held by the business.
34
Which characteristics must an item have to be considered an asset?
* A probable future benefit (future monetary value) must exist
* The business must have the right to control the resource.
* The benefit must arise from some past transaction or event.
* The asset must be capable of measurement in monetary terms.
NOTE: all four of these conditions must apply
35
What is a tangible asset?
Assets (such as inventories) that have a physical substance and can be touched are referred to as tangible assets.
36
What is an intangible asset?
Assets (such as patents) that have no physical substance but which, nevertheless, provide expected future benefits are referred to as intangible assets.
37
What is equity?
Equity represents the claim of the owner(s) against the business. This claim is sometimes referred to as the owner’s capital.
38
What are liabilities?
Liabilities represent the claims of all individuals and organisations, apart from the owner(s).
39
What is the only way a liability can be settled?
When a liability is settled it can only be through an outflow of assets (usually cash).
40
What is the simple formula for assets at the end of a period?
Assets (at the end of the period) = Equity (amount at the start of the period) + Profit (or − Loss) (for the period) + Liabilities (at the end of the period)
41
Which statement of financial position items are cumulative?
All of them
42
What is the short definition of a current asset?
Current assets are basically assets that are held for the short term.
43
Which conditions must an asset meet to be regarded as a current asset?
* they are held for sale or consumption during the business’s normal operating cycle
* they are expected to be sold within the next year
* they are held principally for trading
* they are cash, or near cash such as easily marketable, short-term investments
44
What is a non-current asset?
Non-current assets (also called fixed assets) are simply assets that do not meet the definition of current assets. They tend to be held for long-term operations.
45
Name six examples of assets which may be seen as non-current
```
Examples of assets that may be defined as being non-current are:
• property
• furniture
• motor vehicles
• computers
• computer software
• reference books.
```
46
What is the short definition of a current liability?
Current liabilities are basically amounts due for settlement in the short term.
47
Which conditions can a liability meet to be regarded as a current liability?
To be more precise, they are liabilities that meet any of the following conditions
* they are expected to be settled within the business’s normal operating cycle
* they are held principally for trading purposes
* they are due to be settled within a year after the date of the relevant statement of financial position
* there is no right to defer settlement beyond a year after the date of the relevant statement of financial position
48
What is a non-current liability?
Non-current liabilities represent amounts due that do not meet the definition of current liabilities and so represent longer-term liabilities.
49
In what order are assets typically listed?
Within each category of asset, items are listed in reverse order of liquidity (nearness to cash).
50
When does the accounting year end and begin in the UK?
In the UK, businesses are free to choose their accounting year.
51
What does the Business entity convention imply?
The business and its owner(s) are treated as being quite separate and distinct. The business entity convention must be distinguished from the legal position that may exist between businesses and their owners.
52
What does the Historic cost convention imply?
The historic cost convention holds that the value of assets shown on the statement of financial position should be based on their acquisition cost (that is, historic cost).
53
Name two ways to derive a current value
Two ways of deriving a current value are to find out…
…how much would have to be paid to buy vans of a similar type and condition; or
…how much a motor van dealer would pay for the vans, were the business to sell them.
54
What is the upside of reporting historic costs?
Reporting in this way reduces the need for judgements, as the amount paid for a particular asset is usually a matter of demonstrable fact.
55
What does the Prudence convention imply?
The prudence convention holds that caution should be exercised when making account- ing judgements. This means that liabilities and losses should not be understated while assets and profits should not be overstated.
56
How are losses and gains treated in different ways, in accordance with the prudence convention?
All losses are recorded at once and in full; this refers to both actual losses and expected losses. Profits, on the other hand, are recognised only when they actually arise.
57
Why was the prudence convention developed?
The prudence convention evolved to counteract the excessive optimism of some managers and owners and is designed to prevent an overstatement of financial position.
58
What has happened to usage of the prudence convention over the past few years?
In recent years, the prudence convention has weakened its grip on accounting and has become a less dominant force.
59
What does the Going concern convention imply?
The going concern convention holds that the financial statements should be prepared on the assumption that the business will continue operations for the foreseeable future, unless this is known not to be true. In other words, it is assumed that there is no intention, or need, to sell off the non-current assets of the business.
60
Why is the Going concern convention important?
The convention is important because the market (sale) value of many non-current assets is often low in relation to the values at which they appear in the statement of financial position.
61
What does the dual aspect convention assert?
The dual aspect convention asserts that each transaction has two aspects, both of which will affect the statement of financial position.
62
Which are the five key accounting conventions?
```
• Business entity convention
• Historic cost convention
• Prudence convention
• Going concern convention
• Dual aspect convention
```
63
What is an arms-lenght transaction?
An ‘arm’s-length’ transaction is one that is undertaken between two unconnected parties.
64
How is a non-current intangible asset (e.g. goodwill) handled when a business i acquired?
If goodwill is acquired when taking over another business, or if a business acquires a particular product brand from another business, these items will be separately identified and a price agreed for them.
65
How is the value of a non-current intangible asset usually measured in an arms-length transaction?
Usually, the valuation will be based on estimates of future earnings from holding the asset
66
What risk does high inflation pose to statements of financial position?
High rates of inflation can result in statements of financial position which are prepared on a historic cost basis reflecting figures for assets that were much lower than if current values were employed.
67
What do tangible non-current assets normally consist of?
Tangible non-current assets normally consist of property, plant and equipment.
68
How are PPE described in the book?
As the ‘tools’ used by the business to generate wealth, that is, they are used to produce or supply goods and services or for administration purposes.
69
For how long are PPE typically held?
They tend to be held for the longer term, which means for more than one accounting period.
70
What is "asset value - depreciation" typically called?
This net figure (that is, the cost of the asset less the total depreciation to date) is referred to as the carrying amount, net book value, or written down value.
71
Describe the alternative to recording PPE using historic cost (minus depreciation)
Property, plant and equipment can be recorded using fair values, provided that these values can be measured reliably. The fair values, in this case, are the current market values (that is, the exchange values in an arm’s-length transaction).
72
What are small and medium-sized entities, according to the lecture?
Small and medium-sized entities…
(a) do not have public accountability
(b) publish general purpose financial statements for
external users.
73
What is the lecture definition of an asset?
An asset is a resource controlled by the entity as a result of past events and from which future economic benefits are expected to flow to the entity.
74
What is the lecture definition of a liability?
A liability is a present obligation of the entity arising from past events, the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits.
75
What is the lecture definition of equity?
Equity is the residual interest in the assets of the entity after deducting all its liabilities.
76
What is the lecture definition of income?
Income is increases in economic benefits during the accounting period in the form of inflows or enhancements of assets or decreases of liabilities that result in increases in equity, other than those relating to contributions from equity participants.
77
What is the lecture definition of expenses?
Expenses are decreases in economic benefits during the accounting period in the form of outflows or depletions of assets or incurrences of liabilities that result in decreases in equity, other than those relating to distributions to equity participants.
78
When should an item (the meets the definition of an element) be recognized?
An item that meets the definition of an element should be recognised if:
* it is probable that any future economic benefit associated with the item will flow to or from the entity
* the item has a cost or value that can be measured with reliability
79
Two qualitative aspects of accounting reports are mentioned as fundamental in the lecture - which are they?
It is fundamental that accounting reports are relevance and a faithful representation.
80
Which are the seven things in the diagram of IFRS measures of assets?
```
Inventories
PPE
Investment property
Intangibles
Financial instruments
Deferred tax
Pensions
```
81
Which are the seven things in the diagram of IFRS measures of liabilities?
```
Deferred tax
Leases
Pensions
Provisions
Contingent liabilities
Financial liabilities
```
82
What is the lecture definition of an asset?
A resource controlled by the enterprise, as a result of past events, from which future economic benefits are expected to flow to the enterprise
83
What is the lecture definition of the operating cycle?
The average time require to make an initial outlay of cash to produce goods, sell goods and receive cash from the customer.
84
Which are the six steps in the operating cycle (from the lecture)?
```
Cash
Purchases
Inventory
Sales on account
Account receivable
Collections
```
85
What is the lecture definition of PPE?
PPE are tangible items that…
a) Are held for use in the production or supply of goods or services, for rental to others, or for administrative
purposes, and…
b) are expected to be used during more than one period.
86
Which four points are the lecture definition of financial asset?
Cash
Equity instruments of another entity
Contractual right to…
…receive cash or another financial asset from another entity
…exchange financial assets or financial liabilities with another entity under conditions that are potentially favourable to the entity
Contract that will or may be settled in the entity's
own equity instruments and isr …
87
What is (one of the) lecture definition(s) of goodwill?
Goodwill is the remaining part of the acquisition cost of another company (subsidiary) that cannot be allocated to identifiable and recognizable assets and liabilities.
88
What is the lecture definition of liability?
A present obligation of the entity arising from past events the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits.
89
What is the lecture definition of provision?
Liabilities that are…
…certain or probable in terms of existence
…uncertain with respect to amount or settlement period
90
What is the most common provision?
Deferred taxes
91
Which types of provisions, apart from deferred taxes, are mentioned in the lecture?
* Retirement obligations
* Warranties
* Clean-up costs
* Restructurings
92
What is the lecture definition of equity?
Equity is the residual interest in the assets of the entity after deducting all its liabilities
93
What is share issue?
"= new resources to the company"
94
What is the lecture definition of income?
Income is increases in economic benefits during the accounting period in the form of inflows or enhancements of assets or decreases of liabilities that result in increases in equity, other than those relating to contributions from equity participants.
95
What is the lecture definition of revenue?
Revenue is the gross inflow of economic benefits during the period arising in the course of the ordinary activities of an enterprise when those inflows result in increases in equity, other then increases relating to contributions from equity participants
96
When should revenue be recognized?
When…
• the amount can be measured reliably and
• it is probable that the economic benefits will be received
97
Why is cash so important to a business?
* The reason for the importance of cash is that people and organisations will not normally accept anything other than cash in settlement of their claims.
* During an economic downturn, the ability to generate cash takes on even greater importance.
98
What is a cash equivalent?
Cash equivalents are short-term, highly liquid investments that are readily convertible to known amounts of cash and which are subject to an insignificant risk of changes of value.
99
Why are cash equivalents held?
Cash equivalents are held for the purpose of meeting short-term cash commitments rather than for invest- ment or other purposes.
100
Which three cash flows are presented in a cash flow statement?
* Cash flows from operating activities
* Cash flows from investing activities
* Cash flows from financing activities
101
What are cash flows from operating activities?
It is…
…the net inflow or outflow from trading operations, after tax payments (or receipts) and cash paid to meet financing costs.
…equal to the sum of cash receipts from trade receivables and cash receipts from cash sales, where relevant, less the sums paid to buy inventories, to pay rent, to pay wages and so on. From this are also deducted payments for interest on the business’s borrowings, corporation tax and dividends paid.
102
What are cash flows from investing activities?
1. Cash payments made to acquire additional non-current assets
2. Cash receipts from the disposal of non-current assets.
(These non-current assets will tend to be the usual items such as buildings and machinery. They might also be loans made by the business or shares in another company bought by the business.)
3. Cash receipts arising from financial investments (loans and equities) made outside the business.
103
What are cash flows from financing activities?
Long-term financing of the business.
* borrowings (other than very short-term borrowings)
* finance from share issues
* repayment/redemption of finance
104
Where in the cash flow statement are dividend payments included, if not in "cash flows from operating costs"?
It is permissible under IAS 7 to include dividend payments made by the business here, as an alternative to including them in ‘Cash flows from operating activities’.
105
In what direction do "cash flows from operating activities" usually go?
Normally ‘operating activities’ provide positive cash flows
106
In what direction do "cash flows from investing activities" usually go?
Investing activities typically cause net negative cash flows.
(in net terms the cash flows are normally negative with cash spent on new assets outweighing that received from disposal of old ones)
107
In what direction do "cash flows from financing activities" usually go?
Financing can go in either direction, depending on the financing strategy at the time
108
What is the direct method for deriving "cash flows from operating activities"?
The direct method involves an analysis of the cash records of the business for the period, picking out all payments and receipts relating to operating activities.
109
What is the indirect method for deriving "cash flows from operating activities"?
The indirect method relies on the fact that, broadly, sales revenue gives rise to cash inflows and expenses give rise to outflows. Since businesses have to produce an income statement in any case, information from it can be used as a starting point to deduce the cash flows from operating activities.
(The indirect method is the more popular method)
110
How can accounting be seen as a service?
Management accountants provide economic information to their ‘clients’, the managers, to meet their need of relevant information.
111
What is described in the book as phase 1 of management accounting development?
* Until 1950
* Weak competition >> limited need for information
* Focus on internal processes
112
What is described in the book as phase 2 of management accounting development?
* 1950s and 1960s
| * Shift toward emphasis on producing info for short-term planning and control
113
What is described in the book as phase 3 of management accounting development?
* 1970s and 1980s
* Rapid development + market turmoil
* Computers >> better information
* Focus on information system design
114
What is described in the book as phase 4 of management accounting development?
* 1990s and 2000s
* More outwardly focused
* Information is vital in competition
115
In which four areas are management accounting information valuable
* Developing objectives and plans
* Performance evaluation and control
* Allocating resources
* Determining costs and benefits
116
What is a KPI?
Key performance indicator
117
What is the gross profit?
The gross profit represents the profit from buying and selling goods, without taking into account any other revenues or expenses associated with the business
118
What is the operating profit?
The operating profit is the gross profit minus other expenses (overheads) that have been incurred in operating the business (salaries and wages, rent and rates and so on).
119
What is the profit for the year?
The profit for the year is the operating profit, plus any non-operating income (such as interest receivable) and deduct any interest payable on borrowings made by the business. This is also called the net profit.
120
How can the cost of sales (or cost of goods sold) figure for a period be identified?
(1) In some businesses, the cost of sales amount for each individual sale is identified at the time of the transaction.
(2) Other businesses that sell a relatively small number of high-value items (for example, an engineering busi- ness that produces custom-made equipment) also tend to match sales revenue with the cost of the goods sold, at the time of the sale.
121
How can the cost of sales be derived after the end of the accounting period?
(Opening inventories + purchases) - closing inventories = cost of sales
122
How are expenses classified?
This is often a matter of judgement, but "expense items of material size" will usually be shown separately.
123
When should revenue for goods be recognized?
* When it is probable that economic benefits will flow to the entity
* When the amount can be measured reliably
* When the entity has transferred to the buyer the significant risks and rewards of ownership of the goods
* When no continuing managerial involvement or effective control over the goods sold
* When the costs can be measured reliably
124
When should revenue for services be recognized?
When the outcome of the transaction can be estimated reliably, revenue should be measured by reference to the stage of completion
125
When is revenue recognized in relation to delivery, installation and inspection?
Revenue is normally recognised when the buyer accepts delivery, and installation and inspection are complete.
However, revenue is recognised immediately upon the buyer’s acceptance of delivery when:
(i) the installation process is simple in nature, for example the installation of a factory tested television receiver which only requires unpacking and connection of power and antennae; or
(ii) the inspection is performed only for purposes of final determination of contract prices, for example, shipments of iron ore, sugar or soya beans.
126
How is the closing balance of inventory valued?
At "Lower of Cost or Market"
127
What is included in cash flow from operating activities?
+ Operating profit
± Adjustment for non-cash items, e.g. depreciation
± Change in working capital (excl. cash)
128
Why is frequency of asset revaluation important, after tangible non-current assets are revalued?
Because using out-of-date revaluations on the statement of financial position is the worst of both worlds; it lacks the objectivity and verifiability of historic cost, as well as the realism of current values.
129
When is an asset said to be impaired?
When a fall in value leads to the carrying amount, or net book value, of the asset being higher than the amount that could be recovered from the asset through its continued use or through its sale.
130
What is the general rule when reporting the value of an impaired asset?
The general rule is to reduce the value on the statement of financial position to the recoverable amount.
131
Intangible, non-current assets with infinite lives must be tested annually to see whether there has been any impairment. Does this also apply to any other non-current assets?
Yes. Other non-current assets must be tested where events suggest that impairment has taken place.
132
How should inventories be valued if the net realisable value (that is, selling price less any selling costs) falls below the historic cost?
If the net realisable value (that is, selling price less any selling costs) falls below the historic cost of inventories held, the former should be used as the basis of valuation.
133
How does control of one company over another typically arise?
Control typically arises because the first company (the parent company) owns more than 50 per cent of the ordinary (voting) shares of the second company (the subsidiary company), leading to the directors of the parent company being able to appoint the directors of the subsidiary company and, therefore, being able to dictate its policies.
134
What do IFRS standards require of groups of companies?
IFRS normally require that a set of financial statements is drawn up annually not only for each individual company, but also for the group taken as a whole.
135
Through which two mechanisms can one company own another?
1. The parent company creates a new company to operate some part of its business, perhaps a new activity.
2. The parent company buys a majority, perhaps all, of the shares of some other existing company – that is, a ‘takeover’.
136
Which are the two reasons (benefits) for a company to have subsidiaries?
1. Each individual company has limited liability. If there is a financial failure of one subsidiary, neither the assets of other subsidiaries nor those of the parent could be legally demanded by any unsatisfied claimants (lenders, trade payables and so on) against the failed company.
2. Individual identity. A sense of independence and autonomy may be created that could, in turn, increase levels of commitment among staff.
137
Apart from cash, what are shareholders often offered in a takeover?
In many takeovers, the parent offers its own shares as all, or part of, the bid consideration. This means the target company shareholders who accept the offer will exchange their existing shares for shares in the parent.
138
Company A controls Company B, even though it only owns 34% of the shares directly. How could this be?
Company A owns more than 50% of shares in Company C, which in turn owns for than 50% av shares in Company B.
139
What is the short book definition of goodwill arising on consolidation?
Goodwill arising on consolidation represents the difference between the cost of acquiring the shares in a subsidiary and the fair value of the net assets acquired (based on all of the identifiable assets - tangible and intangible - of the subsidiary)
140
In the context of consolidation, what is the typical relationship between carrying amounts and fair values of assets, and what is the consequence for calculation of goodwill?
The values at which assets are shown in the statement of financial position (carrying value) are typically lower because accounting conventions such as prudence and historic cost conspire to produce a conservative bias.
This means that, to calculate goodwill arising on consolidation, we cannot rely on statement of financial position values. We must find out what the fair values of the assets acquired really are.
141
How must non-current assets of the subsidiary be identified in the group statement of financial position, at the date of the takeover?
Intangible assets of the subsidiary, at the date of the takeover, such as brand values and patent rights, must be separately identified at their fair value. These assets must then be incorporated at those values in the group statement of financial position.
The non-current assets of the subsidiary that have finite lives should have a depreciation (or amortisation) charge, based on their fair values, in the group income statement.
142
How often must the value of goodwill be reviewed?
The value of goodwill should be reviewed annually, or even more frequently if circumstances dictate.
143
Does goodwill arising on consolidation appear in the statements of financial position for the subsidiary company or the parent company?
No. Goodwill arising on consolidation does not appear in the statements of financial position either of the parent or the subsidiary. It only appears on the group statement of financial position.
144
What should be done when goodwill on consolidation is negative?
Where negative goodwill on con- solidation arises, IFRS 3 says that fair values of all assets and liabilities of the subsidiary concerned should be reassessed.
If this reassessment still results in negative goodwill, the amount of this negative goodwill should be credited immediately to the group income statement of the year of the acquisition of the subsidiary.
145
How many directors must be on the company board?
By law there must be at least one director for a private limited company and two for a public limited company.
146
Equity can be subdivided into two parts; which are they?
Equity is divided between shares (for example, the original investment), on the one hand, and reserves (that is, profits and gains subsequently made), on the other.
147
Are profit and share capital presented separately or jointly?
We do not simply merge the profit with the share capital: we must keep the two amounts separate to satisfy company law.
148
What are ordinary shares?
They are the most basic type of company share.
* Ordinary shares are often known as equities.
* All companies issue ordinary shares.
* The nominal value of such shares is at the discretion of the people who start up the company.
149
What does the act of (1) splitting and (2) consolidating shares imply?
1. Splitting means increasing the number of shares while decreasing their nominal value
2. Consolidation is the opposite, meaning a decrease an number of shares and an increase in nominal value?
150
Why is share splitting typically done?
The objective is often to avoid individual shares becoming too valuable (because of a rise in share value) and therefore unwieldy.
151
What is the purpose of preference shares?
Preference shares guarantee that if a dividend is paid, the preference shareholders will be entitled to the first part of it up to a maximum value.
152
In which two categories are reserves classified?
Reserves are classified as either revenue reserves or capital reserves.
153
What is the revenue reserve?
The revenue reserve represents the company’s retained trading profits and gains on the disposal of non- current assets.
154
Capital reserves arise for which two main reasons?
* issuing shares at above their nominal value (for example, issuing £1 shares at £1.50)
* revaluing (upwards) non-current assets
155
What is the share premium, and where is it shown in the statement of financial position?
The share premium is the new share value minus the current nominal share value.
£1 a share of the £1.50 is the nominal value and will be included with share capital in the statement of financial position.
The remaining £0.50 is share premium. It will be shown as a capital reserve known as the share premium account.
156
When are companies allowed to take reserves of any kind and turn them into share capital?
It is always open to a company to take reserves of any kind (irrespective of whether they are capital or revenue) and turn them into share capital.
157
What do you call the new shares arising when reserves of any kind are turned into share capital?
New shares arising from such a conversion are known as bonus shares.
158
What is the name for share capital that has been issued to shareholders?
Share capital that has been issued to shareholders is known as the issued share capital (or allotted share capital).
159
Once the company has made its initial share issue to start business (usually soon after the company is first formed) it may decide to make further issues of new shares. Which may they be?
They may be:
* Rights issues – issues made to existing shareholders, in proportion to their existing shareholding
* Public issues – issues made to the general investing public
• Private placings – issues made to selected individuals who are usually approached and
asked if they would be interested in taking up new shares.
160
What are two other names of loan notes?
Loan notes are often known as loan stock or debentures.
161
What is the difference between shares and loan notes?
It is the shareholders who own the company and, therefore, who share in its losses and profits.
Holders of loan notes lend money to the company under a legally binding contract that normally specifies the rate of interest, the interest payment dates and the date of repayment of the loan itself.
162
The total of revenue reserves appearing in the statement of financial position is rarely the total of all trading profits and profits on disposals of non-current assets generated by the company. This total will normally have been reduced by at least one of three factors. Which are they?
* corporation tax paid on those profits
* any dividends paid
* any losses from trading and the disposal of non-current assets
163
What constitutes the non-withdrawable part of shareholder equity?
The non-withdrawable part consists of share capital plus profits arising from shareholders buying shares in the company, and from upward revaluations of assets still held.
164
What is "profit before taxation"?
Profit before taxation is the operating profit minus interest charges.
165
What is often listed under "general reserves", and for what reason?
The general reserve, if included, normally consists of trading profits that have been transferred to this separate reserve for reinvestment (‘ploughing back’) into the operations of the company.
The most plausible explanation seems to be that directors feel that placing profits in a separate reserve indicates an intention to invest the funds, represented by the reserve, per- manently in the company and, therefore, not to use them to pay a dividend.
166
From where are dividend payed out?
Dividends are paid out of the revenue reserves and should be deducted from these reserves (usually retained earnings) when preparing the statement of financial position.
167
Share capital + reserves = ?
Share capital + reserves = equity
168
Which criteria must be fulfilled for a provision to be recognized?
A provision shall be recognized if the following criteria are fulfilled:
1. an entity has a present obligation as a result of a past event
2. it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation
3. a reliable estimate can be made of the amount of the obligation
169
Why doesn't the statement of financial position show what the business if worth?
1. Only those items that can be measured reliably in monetary terms are shown on the statement of financial position. Thus, things of value such as the reputation for product quality, skills of employees and so on will not normally appear in the statement of financial position.
2. The historic cost convention results in assets normally being recorded at their outlay cost rather than their current value. In the case of certain assets, the difference between historic cost and current value may be significant.
170
Which are the equations for the two different accounting layouts?
For the standard layout, it is:
Assets (current and non-current) = Equity + Liabilities (current and non-current)
For the alternative layout mentioned in the chapter, the equation is:
Assets (current and non-current) − Liabilities (current and non-current) = Equity
171
"Depreciation is not linked to the value of the asset" - why is this statement true?
Depreciation does not attempt to measure the fall in value of the asset during a particular accounting period. The carrying amount of the asset appearing on the statement of financial position normally represents the unexpired cost of the asset rather than its current market value.
172
In which way is an asset similar to an expense?
An expense is that element of the cost incurred that is used up during the accounting period. An asset is that element of cost which is carried forward on the statement of financial position and which will normally be used up in future periods. Thus, both assets and expenses arise from costs being incurred.
