Theory

Question 1

Explain the role of the Balance Sheet?

Answer 1

The balance sheet is accounting report that details the firm’s assets, liabilities and owner’s equity as a particular point of time?

Question 2

Referring to a Qualitative Characteristic, explain why the balance sheet should have classification headings?

Answer 2

Qualitative Characteristics: Understandability

Then link back to question - For example, Classification helps user of a balance sheet to distinguish between CA/NCA as well as CL/NCL/OE

Question 3

Explain what the information above reveals about the business?
(Shows High Debt Ratio)

Answer 3

The debt ratio measures the proportion of the firm’s assets that are funded by external source. The information provided shows that the business is becoming more heavily reliant on external finance.

Question 4

Discuss how a High Debt Ratio can have both a positive and negative effect on the liquidity of the business?

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Answer 4

A high debt ratio can have a positive effect on the liquidity of the business if the money was borrowed. Funds are being used to purchase revenue earning assets to expand operations which in turn will increase in cash fees providing more cash to meet short term debts as they fall due. However, a high debt ratio can also have negative impact on the business as the increased borrowing will need to be repaid along with interest cost, leaving less cash available to meet other short - term debts as they fall due.

Question 5

Why is the Balance Sheet is titled “As At?”

Answer 5

A balance sheet is titled “as at” because the information it provides is only accurate for the particular point in time. The balance sheet of assets, liabilities and owner’s equity are likely to change the following, meaning that information provided by the Balance Sheet is no longer relevant.

Question 6

List the three pieces of information that must be present in the title of each of Balance Sheet?

Answer 6

The three pieces of information are the name of the business, the phrase “as at” and the date

Question 7

Explain one limitation associated with Working Capital Ratio?
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Answer 7

The WCR is a static measure of liquidity as it measures at a single point in time and thus cannot show whether the business has generated enough cash to pay its short-term debts. For example, the WCR calculated 10 days ago may not reflect the future WCR of the business.

Question 8

Distinguish between a Deposit not yet credited and a direct credit?

Answer 8

Deposit not yet credited occurs when a cash deposit is yet to appear on the Bank Statement whilst a direct credit occurs when a deposit has directly input into a bank account

Question 9

Explain why cheques recorded in the order of Cash Payments Journal, does not appear in sequential order on the Bank Statement?

Answer 9

Cheques that are recorded in the order of the Cash Payments Journal, does not always appear in a sequential order on the Bank Statement as it takes time for the business to process the transaction. Some cheques do not appear at all as it is either unpresented cheques or not credited.

Question 10

State three benefits of making payments by cheque?

Answer 10

1. More secure
2. Can be cancelled if stolen
3. The eventual recipient of funds can be traced

Question 11

With the reference to one specific example from the Cash Budget, explain how preparing a Cash Budget will help the owner with his planning?
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Answer 11

A cash budget reports the estimated cash receipts and estimated cash payments for a budget period. This helps the owner plan and prepare in advance for any potential problems to be dealt with. Specifically, the Cash Budget will help with his planning terms of his available cash balances at any given time. Provide one example from the question.

Question 12

With reference to one specific example from the Cash Budget, explain how preparing a cash budget will help with decision-making?
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Answer 12

A cash budget provides a benchmark against which actual performance can be compared. This helps the owner with decision-making as problem areas can be idealised and action can be implemented. Specifically, the Cash Budget will help the owner to make a capital contribution of cash/take out a loan/arrange the bank overdraft during the budget period. The Cash Budget will help the owner determine if he needs to cut back on advertising on whether it is necessary to hire an additional employee. Provide example from the question.

Question 13

What is a variance report, and what does it help?

Answer 13

Variance reports is an accounting report that compares actual and budgeted figures, highlighting variances so that problems can be identified and corrective action can be taken. By comparing actual and budgeted figures, differences, problems in particular areas can be identified, allowing the owner to make decisions to improve the firm’s performance.

Question 14

Explain the importance of completing a physical stocktake?

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Answer 14

A physical stocktake involves a physical count of all items of inventory on hand, followed by the assignment of a cost price to these items. Physical stocktakes enhances the verifiability as it reflects the real life economic situation. A physical stocktake can be compared to the figure documented on the source document to implement a change in the inventory card to provide the epitome of both verifiability and efficiency.

Question 15

Other than identifying an inventory loss or inventory gain, state one benefit of the perpetual system of inventory recording?
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Answer 15

• Assists in the re-ordering of inventory
• Fast and slow moving lines of inventory can be identified
• Interim reports can be prepared without the need for physical stocktakes

Question 16

Explain how “Inventory” is classified in the balance sheet?

Answer 16

Current Asset - Inventory is classified in the Balance Sheet as a current asset as it is a present economic resource controlled by the entity, as a result of past events, that has the potential to produce economic benefit. It is expected to be converted to cash, sold or consumed by a business within 12 months. If not the business would have tremendous inventory turnover problems.

Question 17

Referring to one Qualitative Characteristic, explain the function of stocktake in the perpetual system of recording?
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Answer 17

A stocktake can be compared against the perpetual system of recording to verify if the figures reported are accurate. Verifiability helps to assure users that information represents what is purports to represent. Financial information is supported by evidence and independent individuals can check them to see whether such information is faithfully represented.

Question 18

Explain why businesses adopt the FIFO method of Inventory recording?
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Answer 18

• Simple
• Logical
• Convenient
• Cheaper than using barcodes

Question 19

Explain why a credit sale is a classified as a revenue?

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Answer 19

As with a cash sale, a credit sale increases revenues because it creates an inflow of economic benefit in the form of an increase in assets that leads to an increase in Owner’s Equity

Question 20

Explain how Accounts Receivable Records can be used to aid accounts receivable management?
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Answer 20

Accounts Receivable records details each individual transaction with each individual debts. By examining these records, the owners can identify slow-paying accounts receivable and then take the step to recover the cash. This includes issuing invoices, collecting and making remainder calls to those who are overdue.

Question 21

List the strategies a business could use to improve its accounts receivable turnover in order which they should be implemented?
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Answer 21

• Sending remainder notes
  
  • Threatening legal action
  • Employing a debt collection agency
  • Withdrawing credit facilities

Question 22

Explain the relationship between Inventory and Accounts Receivable Turnover and Accounts Payable Turnover?
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Answer 22

The firm’s ability to pay its accounts payable will rely heavily on its ability to generate cash from its inventory. This means accounts payable is reliant on Inventory Turnover and Accounts Receivable Turnover. If the inventory is sold and cash is collected from customers quickly, then accounts payable can be paid on time. If no debts may become overdue and a whole variety of liquidity problems may result.

Question 23

Explain your treatment of “Cartage Inwards?”

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Answer 23

Carthage Inwards is treated as a Cost of Goods Sold expense as it is essential to the process of getting inventory into condition ad location to be ready to be sold.

Question 24

Explain two strategies of Accounts Payable Turnover:

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Answer 24

Payment to account payable relies heavily on the money received by accounts receivable, therefore two ways to improve accounts payable turnover is:
• Offering discounts for quick settlement to encourage debtors to pay not only on time, but even early.
• Issuing invoices promptly once a sale is made so that the customer is immediately aware of the amount owing and the repayment date.
• Conducting extensive credit checks and then only offering credit to customerswho have a proven record of repaying on time.
• Sending reminder notices when debtors have amounts overdue, progressing from friendly reminders (such as a copy of the invoice) to threats of legal action.
• Threatening legal action to recover overdue amounts. (The amount to be recovered would have to be more than the legal costs involved.)
• Employing a debt collection agency.
• Withdrawing credit facilities until the amount outstanding is received.

Question 25

Explain two strategies to improve Inventory Turnover?

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Answer 25

If Inventory Turnover is too slow, it could be improved by:

1. Increasing the level of sales to increase Cost of Sales and reduce the number of days taken to sell stock. This could be achieved by improving the stock mix, increasing marketing or advertising, or discounting slow lines of stock.
2. Decreasing stock holdings to reduce the amount of stock on hand. This could be done by purchasing less stock (but perhaps more frequently through just-in-time ordering) and discontinuing slow selling stock items.

If Inventory Turnover is too fast it could improved by:
Stock Turnover could be too fast , meaning that costs such as delivery may be higher (because deliveries are more frequent) and the business could lose the possibility of earning discounts for buying in bulk. The owner must therefore strike a balance between ordering enough stock to meet demand, and not ordering so much that storage costs and stock losses (through theft and damage) increase.

Question 26

What is the purpose of using Journals in the recording process?

Answer 26

A journal is simply an accounting record (in a manual system, like a ruled book) in which transactions are written down in an organised format. By recording the cash transactions in a Cash Receipts Journal and a Cash Payments Journal, the raw data contained on the source documents is classified and summarised so that it becomes information, which can be presented in accounting reports

Question 27

Explain three stages of the accounting process (inputs, processes, and outputs) using examples for each one?

Answer 27

Stage 1 - Collecting Source Documents (Also known as the input stage, this is where the business collects the source documents relating to its transactions.)
Ex. Receipts, cheque butt

Stage 2 - Recording (Once the source documents have been collected, the information they contain must
be written down or ‘recorded’. This is also known as the processing stage)
Ex. Journals

Stage 3 - Reporting (The output stage of the accounting process involves taking the information that has been generated by the accounting records (the journals) and ‘reporting’ that financial information to the owner of the business in a form that he or she can understand.)
Ex. Balance, Statement of Receipts and Payments and Income Statement

Question 28

Benefit of why subsidiary records for Accounts Receivable and Accounts Payable?

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Answer 28

The main benefits of using subsidiary records for debtors and creditors are:
1. Management of debtors/creditors
The records of individual transactions with each individual debtor/creditor allow for better management by helping to ensure that invoices are sent, debts are collected from debtors and paid to creditors on time, and late paying debtors are followed up.
2. Detection of errors
By checking the balance calculated using the formula against the Debtors/Creditors schedule errors can be detected, helping to ensure that the figures used in the Balance Sheet are Reliable, or free from bias.
3. Ease of reporting
By preparing a schedule, only one figure needs to be reported in the Balance Sheet, with insignificant details omitted. These details – like the names and balances of individual debtors/creditors – would not affect decision-making, so in reporting just the total, Relevance is upheld.

Question 29

Purpose of Budgeting?

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Answer 29

The purpose of budgeting like all accounting reports, budgeted reports have a role in both planning and decision making:

1. Budgetingassists planning by predicting what is likely to occur in the future. This allows the owner to prepare in advance so that possible problems may be managed, and possible opportunities may be taken.
2. Budgeting aids decision-making by providing a standard (a benchmark or yardstick) against which actual performance can be measured. This allows the owner to identify areas in which performance is unsatisfactory, so that remedial action can be taken.

Uses of Budgeted Income Statement?
Budgeted Income Statement which shows all expected revenues and expenses, and thus the firm’s expected Net Profit for the budget period.

Question 30

Uses of Income Statement?

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Answer 30

The specific benefits of preparing an Income Statement are to:
1. aid decision-making about the firm’s operations by measuring the firm’s performance. Detailing revenues and expenses (and ultimately profit) allows the owner to identify where changes may be necessary.

2. assess whether the business is meeting its revenue and expense targets by comparing the Income Statement against budgeted (or expected) performance.
3. assist in planning for future service activities by providing a basis for the next budgeted Income Statement, which will set targets for the future. This may include setting targets to achieve a certain level of fees, staffing requirements, or advertising expenditure.
4. assess the performance of management in operating the business, primarily relating to generating sales and controlling expenses.

Question 31

State 3 forms of Cash Control?

Answer 31

· All payments should be made by cheque because they are more secure (allowing large payments to be made without the risk of carrying cash), they can be cancelled if lost or stolen, and the eventual recipient of the funds can be traced if necessary. In addition, the cheque butt allows for the recording of the details of the transaction.

• Payments should not be made directly from the till because the owner cannot verify how much has been taken, or if it is being used for proper purposes.
• Cash in registers should be verified against the cash register roll to ensure that all cash received is accounted for

Question 32

State 3 Internal Control Mechanisms?

Answer 32

• Physical safeguards prevent unauthorised people from accessing a particular asset through barriers such as fences, padlocks or locked storerooms, and for cash in particular, through the use of safes, lock-boxes and lockable cash drawers. If people
  cannot touch the asset, they have less chance of misusing or misappropriating it.

• Preventative safeguards involve dissuading misuse or theft of assets through the
threat of apprehension. Systems such as alarms and security cameras (open, hidden
and even dummy) work on the premise that people are less likely to attempt theft if
they are concerned they will be caught.

• Separation of duties involves ensuring that no one employee (except the owner) has
complete control over a particular type of asset, so their actions are open to scrutiny
by another employee. The more people involved in the process, the less chance
there is of collusion occurring.

Question 33

Uses of the Statements of Receipts and Payments?

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Answer 33

The Statement of Receipts and Payments is more useful for decision-making than the cash journals because it summarises all the information relating to the firm’s cash position. It can then be used to help the owner make decisions about the fi rm’s receipts, payments and its level of cash on hand.

Question 34

Referring to one QC, explain the role of source documents in the accounting process?

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Answer 34

QC - Verifiability
They provide the verifiable evidence of the details of a transaction, thus ensuringR that the information in the accounting reports will be reliable ; that is, free from bias or subjectivity. They provide the evidence that is required by the Australian Tax Office (ATO) relating to the firm’s income tax and Goods and Services Tax (GST) obligations.

Question 35

Explain the effect of Financing Cash Inflows on the Debt Ratio?

Answer 35

The effect of Financing Cash Flows will increase Debt Ratio as it is the only eternal sources that is injecting cash into the business. Implying, the business has more reliance on external sources.

Question 36

Explain how the Cash Flow Statement, fulfils the QC of Understandability?

Answer 36

Fulfils the characteristics of Understandability, as reports should be presented in a manner that makes it easy for users to comprehend the meaning. This is achieved through headings and sub-headings (operating, investing and financing) relating to various kinds of transactions within a firm and totals and sub-totals. By using, headings to separate and classify the cash inflows and outflows it makes easier for the user to comprehend their meaning.

Question 37

Explain a positive impact on a profit on negative investing activities?

Answer 37

Negative investing activities would indicate the firm has purchases more non-current assets than it has sold. These will be used to potentially generate more revenue for the firm, therefore will net profit figures in the future.

Question 38

Explain a negative impact on the profit of the business financing activities?

Answer 38

Positive financing activities may be as a result of taking out a loan. This will loan will incur interest which is an expense therefore the expense at the firm will increase, negative impacting on net profit.

Question 39

Explain, using an example, why the Net Profit amount is different the Net Increase in Cash Position amount of the year?

Answer 39

Cash and Profit are two different resources. Net Profit measures the difference between revenues earned and expenses incurred whereas the change in cash position measures the difference between cash inflows and cash outflows. Not all Cash Payments are expenses. E.g the purchase of office equipment is a cash outflow that decrease the cash position, but is not classified as an expense therefore has no effect on net profit. Ex. GST Settlement and Drawings

Question 40

Explain meaning of “Net Cash Flows from Operations?”

Answer 40

Net Cash Flows from the operations is difference between Cash Inflow and Cash Outflow relating to day to day transactions of firms.

Question 41

Explain how a business is able to earn a profit despite suffering a cash deficit?
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Answer 41

• Credit Sales > Receipt from Accounts Receivable (For example, credit sales increases revenues by a large than the receipt from A/C Receivable)
  
  • Cash Drawings
  • COS < Payments to A.P
  • Purchase of NCA
  • Prepayment
  • Loan Repayment
  • GST Paid > GST Received

Opposite for Cash Surplus
(For example, depreciation is contributed as an expense but does not involve a flow of cash as a result the business might suffer a net loss, but generate a cash surplus)

Question 42

The specific benefits of preparing a Cash Flow Statement?

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Answer 42

· To aid decision making about the firm’s cash activities
· To assess whether the business is meeting its short-term targets
· To identify whether business is generating enough money from its operating activities to fund its investing and financing activities

Question 43

Define the purpose of the Cash Flow Statement?

Answer 43

The purpose of the Cash Flow Statement is to provide information about cash is more useful for decision making if it classifies common sources and uses of cash and separately identifies their effect on the bank balance.

Question 44

Explain the difference between a prepaid expense and an accrued expense?

Answer 44

Prepaid expenses is an expense that has been paid yet to be consumed whilst, accrued expenses is an expense that has been incurred yet to be paid

Question 45

Explain the impact of trend in the Inventory Turnover on the liquidity of the business?
(Positive Trend)
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Answer 45

The trend in the Inventory Turnover indicates it is converting inventory into sales faster, this will impact the liquidity of the business as cash is being received quicker allowing the business to use these funds to meets its short terms debts as they fall due.

Question 46

Explain the difference between “residual value” and “carrying value” of an non-current asset?

Answer 46

Residual value is the estimated value of a non-current asset before the end of its life whilst carrying value is the value of non-current asset that is yet to be consumed. It is allocated as an expense, plus residual value

Question 47

Define the term “accrual accounting?”

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Answer 47

Accrual accounting of matching revenues earned and expenses incurred over a certain period in order to determine an accurate profit.

Question 48

Explain how Depreciation ensures Relevance in the accounting reports?
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Answer 48

Depreciation ensures relevance it is capable of making of difference to the decision made by the user. Relevance requires financial information to an economic decision. Relevance is applied to determine which revenues and expenses will be included in calculating an accurate profit or loss figure. Even though, depreciation is based on estimate and cannot be verified this is acceptable, because it is outweighed by the demand that all relevant information must be included in the firm’s reports to ensure profit determination which will be useful for decision-making. The demands of relevance outweigh the concept of not being able satisfy verifiability.

Question 49

Explain how depreciation undermines the verifiability for accounting reports?
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Answer 49

Verifiability helps to assure users that the information represents faithfully what it purports to represent. Financial information is supported by evidence and independent individuals can check them see whether such information is faithfully represented. As depreciation is based on the estimates for residual value and useful life, the amount written of each year in a questionable as it cannot be verified evidence

Question 50

Explain the process, for calculating depreciation when the firm has had control of the asset for less than year?

Answer 50

This is because the life of the asset is usually measured in years, the formulas will calculate depreciation expense per annum. However, if at the time the reports are prepared the firm has had control of the asset for less than a year, the depreciation expense figure will need to be applied on the business.

Question 51

Referring to an Accounting assumption, explain why the withdrawal of inventory is not treated as an expense?

Answer 51

The withdrawal of inventory by the owner is not treated as an expenses as the records of assets, liabilities and business activities are kept completely separate to those of the owners and those of the entities.

Question 52

Referring to one Accounting principle, explain why it is not always accurate to report depreciation expense per annum?

Answer 52

Period Assumption - Period Assumption divides the indefinite life of a business into period of time over which its performance can be measured. The maximum period of time is one year, due to taxation requirements. Depending on the length of the reporting period, only the amount of depreciation relevant to that period should be included in the Balance Sheet.

Question 53

Explain the effect of Accounts Payable Turnover trend on the liquidity of the business? (If business is paying accounts payable faster than accounts receivable)
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Answer 53

As the business is paying their average accounts payable faster than the previous reporting period and within the credit terms offered, the liquidity of the business may worsen

Question 54

Explain why a prepaid expense is classified as a current asset?

Answer 54

The amount that remains prepaid, that is, still to be used will be reported in the Balance Sheet as a Current Asset as it is an economic resource controlled by the entity as a result of past events that will be consumed within the next 12 months.

Question 55

Explain the purpose of balance day adjustments?

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Answer 55

The purpose of balance day adjustments is to ensure that profit can be calculated accurately, by comparing revenues earned against expenses incurred in the current reporting period.

Question 56

Explain the purpose of preparing schedules at the end of each reporting period?

Answer 56

The sum of individual accounts receivable subsidiary ledgers provides a cross-checking mechanism as this balance of the closing accounts receivable. If there is a discrepancy an error can be detected and promptly rectified. Enables the business to know who owes the business and now much they owe at any point in time.

Question 57

Referring to one Qualitative Characteristic, explain why individual accounts receivable and accounts payable are not reported in the Balance Sheet?

Answer 57

Reports are to include all timely information that is useful for decision making. The listing of individual accounts receivable and accounts payable is not required as this information would not improve decision-making. The required as this information could be shown with one accounts receivable or accounts payable figure and have the same impact on decisions