Partnerships (Chapter 6-8) [P1] Flashcards
1
Q
Stock turnover rate / stock on hand formula
A
Cost of sales ÷ average trading stock
2
Q
Cost of sales ÷ average trading stock
A
Stock turnover rate / stock on hand
3
Q
Average trading stock formula
A
Cost of sales ÷ 2
4
Q
Cost of sales ÷ 2
A
Average trading stock
5
Q
Stock holding period formula
A
(Average trading stock ÷ cost of sales) × 365
Or
(Average trading stock ÷ cost of sales) × 12
6
Q
(Average trading stock ÷ cost of sales) × 365 or (Average trading stock ÷ cost of sales) × 12
A
Stock holding period
7
Q
Average debtors collection period formula
A
(Average debtors ÷ credit sales) × 365
8
Q
(Average debtors ÷ credit sales) × 365
A
Average debtors collection period
9
Q
Average creditors payment period formula
A
(Average creditors ÷ credit purchases) × 365
10
Q
(Average creditors ÷ credit purchases) × 365
A
Average creditors payment period
11
Q
Debt : equity ratio formula (gearing)
A
Non-current assets : owner’s equity
Or
Longterm liabilities : owner’s equity
12
Q
Non-current assets : owner’s equity or long-term liabilities : owner’s equity
A
Debt : equity ratio
13
Q
Return on partners’ equity formula
A
(Net profit ÷ average owners equity) × 100
14
Q
(Net profit ÷ average owners equity) × 100
A
Return on partners’ equity
15
Q
Average owner’s equity formula
A
½ (owner’s equity at beginning of year + owner’s equity at end of year)
16
Q
% gross profit on cost of sales formula
A
(Gross profit ÷ cost of sales) × 100
17
Q
(Gross profit ÷ cost of sales) × 100
A
% gross profit on cost of sales
18
Q
% gross profit on sales (TO) formula
A
(Gross profit ÷ sales) × 100
19
Q
(Gross profit ÷ sales) × 100
A
% gross profit on sales (TO)
20
Q
% operating profit on sales formula
A
(Operating profit ÷ sales) × 100
21
Q
(Operating profit ÷ sales) × 100
A
% operating profit on sales
22
Q
% net profit on sales formula
A
(Net profit ÷ sales) × 100
23
Q
(Net profit ÷ sales) × 100
A
% net profit on sales
24
Q
% operating expenses on sales formula
A
(Operating profit ÷ sales) × 100
25
(Operating profit ÷ sales) × 100
% operating expenses on sales
26
Current ratio formula
Current assets : Current liabilities
27
Current assets : Current liabilities
Current ratio
28
Acid test ratio formula
(Current assets - inventory) : Current liabilities
Or
(Trade and other receivables + cash) : Current liabilities
29
(Current assets - inventory) : Current liabilities
or
(Trade and other receivables + cash) : Current liabilities
Acid test ratio
30
Inventory formula
Trading stock + consumables on hand
31
Trading stock + consumables on hand =
Inventory
32
Solvency ratio formula
Total assets : total liabilities
33
Total assets : total liabilities
Solvency ratio
34
Capital applied formula
Owners equity + long-term liabilities
35
Owner's equity + long-term liabilities =
Capital applied
36
Define the analysis and interpretation of financial statements
It is an evaluation process, aimed at evaluating the current and previous financial position and results of the business.
37
What is the primary purpose of the analysis and interpretation of financial statements?
To make informed decisions and estimates about the future position and results of the business.
38
Give three limitations of financial impact
- financial statements are historical documents
- inflation isn't taken into account
- other information, such as technological changes, changes in consumer preference, economic environment, tendencies in the business sector and changes in the business, should also be taken into account
39
List and explain three external users of financial statements
- **Investors** are interested in the profitability and financial position and stability of the business.
- **Short-term credit providers** are interested in the liquidity of the business; in other words, their ability to settle short-term obligations.
- **Long-term credit providers** will be interested in the solvency ratio; in other words, whether the business is financially healthy and has enough security.
40
List and explain two internal users of financial statements
- **Management** will analyse and interpret financial statements in order to determine if all sections were run effectively. They will also use these figures for future planning.
- **Internal financial analysts** provide information to management for decision-making purposes
41
What is the analysis of financial information?
It includes the further investigation and processing of this information to provide specific information to a decision maker
42
What is the interpretation of financial information?
It includes determining the reasons for the financial situation and the results it might imply in the future
43
List and explain four basic measuring standards of financial results
- a target, pre-calculated standard or budget
- historical information of the business (current figures can be compared to previous years')
- figures from similar businesses / businesses in the same business sector
- empiric accepted standards (include the experience and background of the analyst themself)
44
What is stock turnover rate used for?
It is used to determine how often stock is replenished or purchased and will be compared to previous year's figures as well as to some of the business's objectives.
45
Why do businesses use the stock turnover rate formula?
- Increase in stock TO rate has a positive effect on the business liquidity
- It helps to check stock-control policy, operating efficiency and sales volume moving out of the business.
46
What is the stock holding period?
The number of days'/months' stock on hand will vary from one business to the next, depending on the type of business and products they sell
47
What should a business be careful of when holding stock?
- Too much stock on hand can lead to over-investment in stock, which has a negative effect on the liquidity of the business. A business should also be careful of stock becoming obsolete or old
- Too little stock on hand can have a negative effect on sales, when customers rather purchase from competitors because their stock is more readily available.
48
What is average debtors collection period?
- roughly shows how often debtors are turned into cash
- how long debtors take to settle their debt
- a business should try to collect debtors within 30 days
- figure is compared to the previous financial year
49
How do you improve credit control?
A decrease in the debtors collection period
50
List three ways to improve the collection of debtors
- screening new debtors
- charging interest
- setting credit limits
51
What is the average creditors payment period?
- shows how long it takes the business to pay creditors
- a business should negotiate a 60-90 day payment period with creditors
52
Why should a business ensure that creditors are paid on time?
- to prevent interest charged on overdue accounts
- an increase in the amount of days a business takes to pay creditors could indicate that the business has liquidity problems
53
What is the debt : equity ratio for?
- it gives an indication of how the business is financed
- a business that relies mainly on own capital is seen as low-risk and obtains loans more easily
- a business with a ratio under 0.5 : 1 is low-geared and credit worthy, while business with a ratio above 1 : 1 is high-geared
54
What is own capital?
Capital provided by the partners
55
What is foreign capital?
Funds borrowed from other institutions
56
What is return on owner's equity formula for?
- gives an indication of how much return the owners earned on the capital they invested in the business
- allows the owners to compare the rate of return in the business woth the rate of return on alternative investments, such as a fixed deposit
57
List three factors that could influence the return on partners' equity
- how long the business has been running
- the current economic climate
- whether the owner increased their capital during the year
58
State three guidelines that should be followed when commenting on a ratio:
- state whether ratio has increased or decreased in comparison to the previous year and quote figures
- state the possible reasons for the increase or decrease
- reach a conclusion on the company's performance (it's liquidity, profitability, solvency, gearing, return on investment)
59
What financial indicators are used to interpret profitability?
- % GP on COS
- % GP on TO
60
What financial indicators are used to indicate efficiency?
- % OP on TO
- % NP on TO
- % OE on TO
61
What financial indicators are used to indicate liquidity?
- current ratio
- acid test ratio
- rate of stock turnover
- no. of days'/months' stock on hand
- debtors collection period
- creditors payment period
62
What financial indicators are used to indicate solvency?
Solvency ratio
63
What financial indicator is used to indicate risk?
Debt : equity ratio
64
What financial indicators are used to indicate return?
- return on owner's equity
- % earnings by partner
65
Reasons for profitability being below the expected profit margin
- discount was allowed on sales to increase TO
- mistakes were made calculating prices in source documents or entries in the books
- strong competition pushed SP down
- suppliers increased prices, thereby increasing CP
- normal stock losses were incurred, including theft (periodic stock system)
66
Define entity
An entity is any business that does transactions and runs a business. They can buy and sell goods/deliver services and aim to either make a profit or serve the community but not make a profit
67
Define sole trader
A business run by only one owner; no strict laws on how the accounting records should be presented
68
Define partnership
Similar to sole trader except run by more than one owner; profits and losses are shared according to partnership agreement
69
Define close corporation
CC is a legal entity and regulated by law on Close Corporations. Profits are distributed to members as profit sharing and is run by its members
70
Define company
A company has strict regulations on how financial statements should be presented according to the Companies Act and is a legal entity. According to law, a company should be audited annually by an external auditor and can be private or public. The shareholders receive dividends and the business is run by directors
71
Define not-for-profit organizations
Clubs are not-for-profit organizations and provide facilities and enable members to take part in sport or other community recreation activities
72
Characteristics of a sole trader
- one owner
- one *capital* account
- one *drawings* account
- NP is posted from *Profit and Loss* account to *Capital* account
- *drawings* account is closed off to *Capital* account at end of financial year
- *Capital* account balance will vary each year as NP is added and drawings deducted
73
Characteristics of partnership
- minimum of 2 partners
- *Capital* account for each partner
- *drawings* and *current* account for each partner
- NP is posted from *Profit and Loss* account to *Appropriation* account, where it's shared amongst partners according to partnership agreement
- *drawings* account is closed off to *current* account of each partner at end of financial year
- balance of *Capital* account will only vary/change if partner increases or decreases their capital
74
What is a partnership agreement?
A partnership is a legal relationship, arising from an agreement between two or more people. Agreement between partners can be verbal, but should preferably be in written form, known as partnership agreement.
75
Partnership agreement should contain:
- names of partnership and partners involved
- business aim and product/service provided
- amount of capital, work, labour, knowledge, skills, goodwill each partner will contribute to business
- each partner's portfolio; in other words, a specific job description for each partner
- to which extent the partners will be liable for debts or losses
- ratio according to which NP is shared among partners
- any other stipulations with regards to changes in capital, drawings, retirement, withdrawal from the partnership
76
Meaning of an active partner
- makes contribution in the form of capital, labour, skills
- physically works for partnership
- is known to public
- is fully liable for debts or losses
77
Meaning of a sleeping partner
- makes contribution in the form of capital, labour, skills
- no longer physically works for business (often retired)
- is known to public
- is fully liable for debts or losses
78
Meaning of anonymous partner
- makes contribution in form of capital, labour, skills
- doesn't physically work for business
- isn't known to public
- is fully liable for debts or losses
79
Meaning of Commanditarian partner
- makes contribution in form of capital
- doesn't physically work for business
- isn't known to public
- liability is limited to amount invested by partner
80
Meaning of limited partner
- makes contribution in form of capital
- physically works for business
- is known to public
- liability is limited to amount invested by partner
81
Meaning of Quasi-partner
- has provided capital to business in form of loan, on which business pays interest at rate that varies according to NP generated
- doesn't physically work for business
- isn't known to public
- liability is limited to amount invested by partner
82
Advantages of partnership
- relatively easy to form
- bigger capital amount
- more talent
- competition is limited
83
Disadvantages of partnership
- unlimited liability
- lack of continuity
- behaviour and attitude of 1 partner could negatively influence entire business
- each partner had power to bind business contractually but partnership is liable for any contracts signed as a whole
- arguments could affect trust relationship and smooth running of business
84
Why does each partner have their own Capital account?
- amount of capital contributed by each partner could have an effect on profit sharing
- partners won't be able to change Capital contributions at will, partnership agreement will stipulate capital provided by each partner
- if partners want to increase or decrease their capital contribution, partnership agreement will be redrafted
- not possible to close off NP and Drawings to Capital accounts, so for a partnership we use a current account to close off net profit and drawings
85
What are the two steps used in the distribution of net profit?
- primary distribution
- final/secondary distribution
86
How to calculate primary distribution
Salary + bonuses + interest on capital
87
How to calculate final distribution
Profit and loss (NP) - primary distribution
88
List the accounting cycle
1. Source documents
2. Supplementary journals
3. Posting to ledgers
4. Pre-adjustment trial balance
5. End-of-year adjustments
6. Post-adjustment trial balance
7. Closing transfers and final accounts
8. Post-closing trial balance
9. Financial statements
89
What is a prepaid expense?
An amount that has already been paid in the current financial year, but the expense relates to the next financial year; in other words, an expense that is paid in advance
90
What is an accrued expense?
An amount that relates to the current financial year, but will only be paid in the next financial year, the expense is accrued using a journal entry. This entry is reversed in the next financial year when the expense is actually paid
91
What is accrued income?
An amount that was earned in the current financial year but has not yet been received. To show this income in the correct financial year, the income is accrued using a journal entry. This entry is then reversed in the next financial year when the income is actually received
92
What is Income received in advance?
An amount that has already been received during the current financial year, but relates to an income that's only going to be earned during the next financial year
93
What is provision for bad debts?
A negative asset
94
Simple interest formula
A = P (1 + i.n)
Final amount = original amount (1 + interest rate . number of periods)
95
Compound interest formula
A = P (1 + i)^n
96
Steps included in final accounts
1. Closing transfers
2. Trading account (TO-COS=GP)
3. Profit and Loss account (GP+other income-expenses=NP)
4. Appropriation account
97
Steps in closing transfers
1. Close off debtors allowances to Sales
2. Close off sales and COS to trading account
3. Calculate GP in trading account
4. Transfer GP from trading account to Profit and Loss account
5. Close off all income to credit side of Profit and Loss account
6. Close off all expenses to debit side of Profit and Loss account
7. Calculate NP in Profit and Loss account
8. Transfer NP to Profit and Loss account to Appropriation account
9. Close off Drawings accounts to Current accounts
98
Qualitative properties of financial statements
- intelligibility (information should be intelligible to users)
- applicability (users should be able to use information for decision-making purposes)
- reliability (information is reliable if it's free from mistakes and is unbiased, prudent and complete)
- compatibility (business should be able to compare statements from 1 year to the next. Similar entities should be able to compare statements to evaluate performance)
99
Reasons financial statements are used
- partners use it to see how the business has fared and what the business status is
- credit providers and the bank use it to see whether the business will be able to repay a loan and whether it's creditworthy to grant overdraft facilities
- SARS use it for tax purposes
- auditor uses financial statements to ensure sound GAAP is applied
- possible buyer will want to see statements to determine whether its a good buyer and to find out whether SP is justified
100
List three components of financial statements
- income statement
- balance sheet
- statement of change in owner's equity
101
Equity formula
Assets - liabilities
102
Equity formula
Assets - liabilities
103
Subcategories of equity
- drawings
- income
- capital
- expenses
(DICE affects owner's equity)
