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INSTITUTE OF DISTANCE

LEARNING
KNUST
EXECUTIVE MBA/MPA
CEMBA/CEMPA 560
ACCOUNTING AND FINANCE
LECTURE ONE
BLOCK ONE – PREPARATION
OF FINANCIAL STATEMENTS

UNIT 1
TYPES AND FORMS
OF BUSINESS
CLASSIFICATION BY LEVEL
OF ACTIVITY
• Primary Firms
Involved in extractive industries such as
mining, agriculture, oil extraction etc
• Secondary Firms
Involved in processing and
manufacturing
• Tertiary Firms
Involved in the provision of services in
banking, insurance, education etc.
CLASSIFICATION BY SECTOR
• Public Sector Business Organisation
For profit or non-profit controlled by
government.

• Private Sector Organisations


Owned by the private sector. eg. Nestle
Ghana, Unilever
CLASSIFICATION BY LEGAL
STRUCTURE
1. Sole Proprietorship
 One-person business
1. Partnership
 Two or more and up to 20 persons
1. Limited Companies
 One or more persons (in Ghana) but
must have at least 2 directors.
SOLE PROPRIETORSHIP
FEATURES
• Easy formation
• Capital Provided by one person
• Secrecy
• Owner enjoys all profits and suffers losses
alone
• Small in size
• Unlimited liability
• Decision making is easier
PARTNERSHIP FEATURES
• Easy to set-up
• Shared work load , profits and risks
• Diversified pool of expertise is provided
• Unlimited liability
• Delay in decision making
• Two good heads are better than one.
• Lack of continuity
• Relatively larger capital base
PARTNERSHIP DEED
• Formation is based on agreement called a
partnership deed (constitution)
• The deed provides ,among others,
Name of Partnership
The nature of business
Profit and loss sharing ratio
Salary payment to active partner(s), if any.
Whether drawings should be allowed and
interest on drawings
LIMITED COMPANY
• A body corporate formed under the Companies
Code of 1963, Act 179 or an existing company.
(Ghana’s Companies Act)
• Justice John Marshal in 1819 defined a
corporation as
“an artificial being, invisible, intangible
and existing only in contemplation of law”
• Thus, a company is a legal person having many
rights and responsibilities.
Characteristics of a
Company
• Separate legal entity
• Limited Liability
• Transferability of shares
• Ability to acquire a broad capital
base
• Continuous existence
• Common Seal
Types of a company
• Private Company
Limited by shares
Limited by guarantee
Unlimited
• Public Company
Limited by shares
Limited by guarantee
Unlimited
Formation of a company
• Documents needed
Memorandum of Association
Articles of Association
• In Ghana these two are combined and
termed Regulations of a company
• These describe the nature, objects,
scope, the bye-laws governing the
conduct of business etc.
Classes of shares
Two main classes:
• Ordinary shares/ Equity shares
Entitles the holder to share in the residual
income and or capital of the company
Give the holder the right to vote
Give the holder pre-emptive rights
• Preference Shares
Carries fixed returns
Ranks first in dividend payments
Types of preference shares
• Cumulative Preference Shares
• Non-Cumulative Preference Shares
• Participative Preference shares
• Non-Participative preference Shares
• Redeemable Preference Shares
• Convertible Preference Shares
Issuance of Shares
• Shares may be issued at par value
or no par value
• The nominal value (par value) is
the price assigned to the share on
issue
• No par value Shares do have any
stated value assigned to the shares
UNIT 1.1
ACCOUNTING DEFINED
• In 1941, The American Institute of Certified
Public Accountants (AICPA) defined
accounting as:
“The art of recording, classifying and
summarizing in a significant manner and in
terms of money, transactions and events
which are, in part at least, of financial
character and interpreting the results
thereof”.
Definition of Accounting
(Cont.)
• American Accounting Association
defines Accounting as “the process
of identifying, measuring and
communicating economic
information to permit informed
judgment and decisions by the users
of the information.”
– The information is primarily financial,
stated in money terms.
FUNCTION OF ACCOUNTING
• AICPA in 1970 stated that the
function of Accounting is to
“ to provide quantitative information,
primarily financial in nature, about
economic entities that is intended to
be useful in making economic
decisions.”
ACCOUNTING HISTORY
• The first book describing the double entry
bookkeeping systems was written by an Italian
Renaissance Mathematician, Friar Luca Pacioli
and was published in 1494.
• The book named Summa de Arithmatica,
Geometrica, Proportioni et
Proportionalita was primarily a
mathematical work containing a section on
double entry bookkeeping.
ACCOUNTING
HISTORY(CONT.)
• Pacioli’s work discussed the rationale of
keeping accounting records and provided
detailed description and codification of the
double entry system.
• The emergence of joint stock companies in the
1600s and the New York Stock market crash in
the 1929 in which investors suffered heavy
losses marked the starting point of modern
accounting.
Accounting History
• The need to provide, disseminate
reliable and timely and useful
information led to the introduction of
what is termed “Generally Accepted
Accounting Principles” – (GAAP).
• These principles were developed with
the participation of Institute of
Chartered Accountants from other
countries.
ACCOUNTING
STANDARDS
• Accounting Standards are
pronouncements made by the standard
setters which are expected to be used in
the preparation of financial statements.
• The standard setters include Ghana
national Accounting Standards Board
(GNASB), Accounting Standards Board
(ASB) in the U.K, Financial Accounting
Standards Board (FASB)in the U.S.
• The international Accounting Standards
Board (IASB) constituting the professional
accounting bodies which are members of
international Federation of Accountants
(IFAC) such as ICA (Ghana), ACCA, ICA(Eng
&Wales), AICPA, ICA(Scotland), etc.
• Standards are not static; but are revised
continuously to suit changing business
environment.
USERS OF ACCOUNTING
INFORMATION
• Different groups have direct or indirect
interest in a business organisation and
for that matter accounting information.
• These groups include:
o The Equity Investor Group
Include existing and potential
shareholders who are concerned
with returns on their investments.
Users of Accounting
Information
o The Loan-Creditor Group
Interested in credit worthiness of the business
and long term solvency
o The Employees Group
Interested in profitability, stability and
vulnerability of the business since their
livelihood is tied to the success of the
business
o The Government
Interested for tax purposes, safeguarding the
interest of both lenders and investors
Users (Cont.)
o The Analyst Advisory Group
Includes financial Analysts, journalists,
credit-rating agencies &other groups of
advisory services.
Interested in general financial performance
of business and future prospects for use by
media, investors, competitors , etc.
o The Business-Contact Group
Includes customers, trade creditors and
suppliers and competitors etc.
MAJOR FIELDS OF
ACCOUNTING
Financial accounting
• is the preparation of financial statements
summarizing past events, usually in the
form of profit and loss accounts and
balance sheets.
• These historic statements are mainly of
interest to outside parties such as
investors, loan providers and suppliers
Major Fields of Accounting
(Cont.)
Management accounting
• The provision of much more detailed
information about current and future
planned events to allow management
to carry out their roles of planning,
control and decision-making.
• Cost Accounting and responsibility
accounting are two significant parts of
Management Accounting.
Major Fields of Accounting
(Cont.)
Tax Accounting
• Financial Statements are prepared using
GAAP. Accounting standards allow flexibility
in the treatment of different items which
may not acceptable to the tax authorities.
• The preparation of tax returns has become
a specialized field.
• Tax planning requires the thorough
knowledge of the tax laws
ACCOUNTING EQUATION
AND TRANSACTION
ANALYSIS
SOURCES OF FINANCE FOR A BUSINESS
• Assets of a business are financed from two sources.
– External &Internal
• External sources to finance a business’s assets are
referred to as Liabilities
• Internal Sources are contributions from owners-
owner’s equity.
• Assets = External sources + Internal Sources
Accounting Equation
• Assets = Liabilities + Capital
• Assets are the resources the business owns
which are expected to benefit it in future.
• Liabilities are creditors’ claims against the
assets of the firm.
• Capital is the claim of the owners against the
assets of the firm.
• The accounting equation will always remain
in balance
EFFECTS OF BUSINESS
TRANSACTIONS ON THE
ACCOUNTING EQUATION.
• For the equation to be in a balance,
whatever decreases or increases one
side of it must lead to a decrease or
an increase in the other side.
• That is the dual aspect concept.
ILLUSTRATION 1
• John started business with GH ¢ 15,000 and
deposited it in the business bank account
• Assets = Owner’s Equity (Capital)
GH ¢ 15,000 = GH ¢ 15,000
• Mr. John borrows GH ¢10,000 from Mr. Mills
and puts it into the bank Account of the
business.
Effects of Transactions on
the Accounting Equation
• His assets will increase to GH¢25,000 and the claims
against the resources by the owners and outsiders will
also be GH¢25,000. Therefore, the equation will be
shown as below.
• ASSETS = LIABILITIES + CAPITAL
Bank = Loan + Capital
¢25,000 = ¢10,000 + ¢15,000
• Mr. John used GH¢12,000 of the
money at the bank to purchase plant.
 The balance at the bank will decrease to
GH¢13,000 and
Plant will increase by GH¢12,000 without
changing the claims against the
business.
• The accounting equation will be
Illustration Cont.
ASSETS = LIABILITIES +CAPITAL
GH¢ GH¢ GH¢ GH¢
Bank + Plant = Loan + Capital
13,000 + 12,000 = 10,000 + 15,000

• The business bought goods on credit from a supplier


costing Gh¢5,500
• Both assets and claims against the
business will increase by Gh¢5,500.
• Stock will increase by Gh¢5,500 and
Creditors will also increase by Gh
¢5,500.
• The transaction will affect the
equation as follows:
ASSETS = LIABILITIES +CAPITAL
GH¢ GH¢ GH¢ GH¢ GH¢ GH¢
Bank + Plant + stock = Loan + Creditors + Capital
13,000 +12,000 +5,500=10,000 +5,500 + 15,000

• NOTE: Payment for expenses decreases Assets and decreases


capital
• Revenues increase Assets and increase Capital
• The business paid for an expense of
Gh¢500 by cheque.
• Assets(bank) will reduce by Gh¢500
and Capital will also reduce by the
same amount.
• The effect of the transaction will be
as follows:
ASSETS = LIABILITIES +CAPITAL
GH¢ GH¢ GH¢ GH¢ GH¢ GH¢
Bank + Plant + stock = Loan + Creditors + Capital
13,000 +12,000 +5,500=10,000 +5,500 + 15,000
(500) 0 0 0 0 (500)
12,500 +12,000+5,500= 10,000+5,500+14,500
• The Accounting equation is
expressed in a financial statement
called the balance sheet.
• Mr. John’s balance sheet will
therefore be as shown in the next
slide.
John’ Enterprise
Balance Sheet as at 31st December, 20..
GH¢ GH¢
Assets:
Capital Plant 12,000
14,500 Stock 5,500
Creditor 5,500 Bank 12,500
Loan (Mills) 10,000

30,000
30,000
Illustration 2
The following information relates to Ashili Enterprise
for the month of January, 2008.
a) Started business with GH¢25,000cash.
b) Deposited GH¢15,000 in a newly opened bank
account.
c) Bought goods costing GH¢5,500, on credit from Jalal.
d) Purchase machinery GH¢10,000 paying GH¢7,000
immediately by cheque.
Illustration (Cont.)
e) Sold goods costing GH¢2500 to Zidan on
credit for GH¢3, 000.
f) Borrowed GH¢4,000 cash from Sham.
g) Cash purchases of goods GH¢5,300,
h) Zidan paidGH¢2,200, cash in partial
settlement of his debt.
i) Goods withdrawn for personal use GH¢500.
• Required:
show the effect of each transaction
on the accounting equation and
prepare a balance sheet as at 31st
January, 2008.
Analysis of Illustration 2
Started business with GH¢25,000cash
a) ASSETS = LIABILITIES + CAPITAL
Cash = 0 + Capital
¢25,000 = ¢ 0 + ¢25,000
Deposited GH¢15,000 in a newly opened bank account.
b) Cash + Bank = Capital
Old bal. 25,000 + 0 = 25,000
Effects (15,000) + 15,000 0
10,000 + 15,000 25,000
Analysis (Cont.)
Bought goods costing GH¢5,500, on credit from Jalal.
c) Cash + Bank + Stock = Creditors + Capital
Old bal. 10,000 + 15,000 + 0 = 0 + 25,000
Effect 0 + 0 + 5,500 = 5,500 + 0
New 10,000 15,000 5,500 5,500 25,000

Purchase machinery GH¢10,000 paying GH¢7,000 immediately by


cheque.
d) Cash + Bank + Stock + Machinery= Creditors + Capital
Old bal. 10,000 + 15,000 + 5,500 + 0 = 5,500 + 25,000
Effects 0 + (7,000) + 0 + 10,000 3,000 + 3,000
New 10,000 8,000 5,500 10,000 8,500 + 25,000
 
Sold goods costing GH¢2500 to Zidan
on credit for GH¢3, 000.
e) Cash + Bank + Stock + Machinery + Debtors = Creditors+ Capital
Old bal. 10,000 + 8,000 + 5,500 + 10,000 + 0 = 8,500 + 25,000
Effects 0 + 0 (2,500) + 0 + 3,000 = + 0 + 500
10,000 8,000 3,000 10,000 3,000 8,500 25,500
 
Borrowed GH¢4,000 cash from Sham.

f) Cash + Bank + Stock + Machinery + Debtors= Creditors + Loan+ Capital


Old bal. 10,000 + 8,000 + 3000 + 10,000 + 3,000 = 8,500 + 0 + 25,500
Effects 4,000 + 0+ 0+ 0 + 0 = 0 + 4,000 + 0
New 14,000 8,000 3,000 10,000 3,000 8,500 4,000 25.500
 
Cash purchases of goods GH
¢5,300,
g)
Cash + Bank + Stock + Machinery + Debtors=
Creditors + Loan+ Capital
Old bal.14,000 + 8,000 + 3000 + 10,000 + 3,000 = 8,500
+ 0 + 25,500
Effects (5,300) + 0 + 5,300 + 0 + 0 = 0
+ 4,000 + 0
New 8,700 8,000 8,300 10,000 3,000 8,500
4,000 25.500
 
Zidan paidGH¢2,200, cash in partial
settlement of his debt.

h)
Cash + Bank + Stock + Machinery + Debtors= Creditors +
Loan+ Capital
Old bal.8,700 + 8,000 + 3000 + 10,000 + 3,000 = 8,500
+ 0 + 25,500
Effects 2,200 + 0 + 5,300 + 0 + (2,200) = 0
+ 4,000 + 0
New 10,900 8,000 8,300 10,000 800 8,500
4,000 25.500
 
Goods withdrawn for personal use
GH¢500.

i)
Cash + Bank + Stock + Machinery + Debtors=
Creditors + Loan+ Capital
Old bal.10,900 + 8,000 + 8300 + 10,000 + 3,000 = 8,500
+ 0 + 25,500
Effects 0+ 0+ (500) + 0 + 0 =
0 + 4,000 + (500)
New 10,900 8,000 7,800 10,000 3,000 8,500
4,000 25.000
 
Ashili Enterprise
Balance Sheet as at 31 January 2008
GH¢
GH¢ GH¢
Capital Fixed Assets
25,000 Machinery
  10,000
Long term Liabilities: Current Assets:
Loan Stock
4,000 7,800
  Debtors
800
Current Liabilities: Bank
8,000
Creditors Cash
8,500 10,900

37,500
27,500
UNIT 1.2 :
The Recording Process
• Most companies employing more than a handful
of staff use the system of recording called
double entry bookkeeping.
• This system records both cash and credit
transactions as they occur at their different
times.
• The name double entry derives from the fact
that each individual transaction is entered
twice, recognizing two aspects.
• These two aspects are referred to by
accountants as debits and credits.
To Summarize:
DEBIT SIDE CREDIT SIDE
• Expenses • Income
• Increase in Assets • Liabilities
( including ( including owing to
customers debts) suppliers)
• Decrease in • Decrease in Assets
liabilities • Cash Payments
• Cash receipts
• AN ACCOUNT
• An account is a statement, which records all the
transactions of a specific class, which have taken place
during a given period.
• Account in its simplest form, has three elements:
– (1) a title consisting of a particular assets, liability or owner’s
equity;
– (2) a left side, which is called debit side; and
– (3) a right side, which is called the credit side
This form of account, illustrated below, is
called a T account because of its
resemblance to the letter T.
  Account Title
Left or debit side Right or credit side
 
CLASSIFICATION OF ACCOUNT
• Personal and Impersonal Account
(divided into Real and Nominal Accounts) 
• Ledger accounts which bear the names of
individuals, partnerships or companies are
called PERSONAL ACCOUNTS;
• All other accounts are called IMPERSONAL
ACCOUNTS.
• Impersonal accounts may be further
sub-divided into two classes:
– Real Accounts – Recording transactions in
property and material objects. (E.g. motor
van, Land and Building, stock, cash etc)
– Nominal Accounts – records expenses,
losses, revenue, incomes or gains. (E.g.
sales, purchases, rent and rates, interest
paid and receive, etc)
Accounting Cycle
1.The process of recording, classifying and
summarizing which is repeated in the same
order each accounting period is referred to as
the ACCOUNTING CYCLE.
2. Several steps are involved from recording of
transactions, analysis of those transactions to
the generation of financial statements.
These steps are collectively called the
Accounting Cycle.
Accounting Cycle (Cont.)
• Analyse the transactions in terms of its
effects on the accounting equation
• Pass the entry in the journal
• Post the entry to the ledger
• Balance accounts and extract trial balance
• Pass and post adjusting entries
• Prepare financial statements
The Journal
• THE GENERAL JOURNAL
• Many businesses maintain several types
of journals.
• The nature of operation and the volume
of transactions in a particular business
determine the number and types of
journals needed.
• The simplest form of journal is general
journal  
General Journal
• The general journal has two money columns, one
for debits and the other for credits
• It may be used for recording any type of
transaction in an organisation.
• The process of a recording transaction in a
journal is called journalizing the transaction.
 
Format of General Journal

Date Descripti Post Ref. Dr. Cr.


on

• Journal entries are illustrated using the


transactions of B. Hanan enterprise in the
illustrations following:
Illustration
• The following transactions took place in the books
of B. Hanan Enterprise for the month of July, 2008
July 1. Started business with GH¢4,230 cash
3. Bought goods for cash GH¢1,755
8. Bought goods on credit GH¢2,000 from
Lincoln
10. Sold goods for cash GH¢3,000
Illustration (Cont.)
July 14. Deposited GH¢1,800 in a newly opened
bank Account
15. Bought motor van by cheque GH¢820
16. Sold goods on credit to Saani GH¢8,000
17. Received cheque GH¢6,000 from Saani as
part-payment of his account
20. Paid for stationary GH¢1,150 by cash
Illustration (Cont.)
July 22. Paid GH¢1,200 cheque to Lincon as part
– payment of his account
25. Paid Wages and salaries by cheque
GH¢3,500
27. Cash withdrawn by the proprietor for
his personal use GH¢250
31. Paid the following expenses by cash;
electricity GH¢25 and insurance GH¢30
Illustration (Cont.)
• Requirement:
Journalise the above transactions and
post in a ledger account, balance off
the accounts and extract a trial
balance.
General Journal Example
Date Description Post Dr. Cr.
Ref

1/7/08 Cash a/c 4,230


Capital a/c 4,230
(Being cash invested
by the owner)
3/7/08 Purchases a/c 1,755
Cash a/c 1,755
(Being cash purchase
of goods)
8/7/08 Purchases a/c 2,000
Creditor (Lincoln ) a/c 2,000
(Being goods bought
on credit from Lincoln)
Journal (Cont.)
Date Description Post Dr. Cr.
Ref.
10/7/08 Cash a/c 3,000
Sales a/c 3,000
(Being goods sold for
cash)
14/7/08 Bank a/c 1,800
Cash a/c 1,800
(Being cash deposited in
a newly open bank) a/c

15/7/08 Motor van a/c 820


Bank a/c 820
(Being motor van bought
by cash)
16/7/08 Debtor (Saani) a/c 8,000
Sales a/c 8,000
(Being credit sales of
goods to saani)
17/7/08 Bank a/c 6,000
Debtor (Saani) a/c 6,000
(Being part payments of
goods sold to Saani)
Journal (Cont.)
Date Description Post Dr. Cr.
Ref.
20/7/08 Stationery a/c 1,150
Cash a/c 1,150
(Being stationery bought
in cash)
22/7/08 Creditor (Lincoln) a/c 1,200
Bank a/c 1,200
(Being part payment of
goods bought on credit)
25/7/08 Wages and salaries a/c 3,500
Bank a/c 3,500
(Being wages paid by
cheque)
27/7/08 Drawings a/c 250
Cash a/c 250
(Being cash withdrawn by
the business owner)
31/7/08 Electricity a/c 25
Insurance a/c 30
Cash a/c 55
(Being electricity and
insurance paid by cash)
THE LEDGER
• The record used to keep track of the
increases and decreases in a single item
in a balance sheet is called a ledger
account, or simply an account.
• The entire group of accounts is kept
together in account records called the
ledger.
POSTING ENTRIES TO THE
LEDGER
• Posting refers to transferring
accounting entries from the journal on
to the ledger.
• As a matter of fact, every debit entry
has a corresponding credit entry and
vice versa.
• Account titles take name of the
corresponding entry.
The General Ledger
Capital Account

GH¢ GH¢
31/7/08 Balance c/d 4,230 1/7/08 Cash 4,230
4,230 4,320
1/8/08 Balance b/d 4,320
Cash Account
GH¢ GH¢
1/7/08 Capital 4,230 3/7/08 Purchases 1,755
10/7/08 Sales 3,000
14/7/08 Bank 1,800

20/7/08 Stationery 1,150

27/7/08 Drawings 250

31/7/08 Electricity 25

31/7/08 Insurance 30

31/7/08 Balance c/d 2,220


7,230 7,230

1/8/08 Balance b/d 2,220


Purchases Account
GH¢ GH¢
3/7/08 Cash 1,755

8/7/08Lincoln(creditor) 2,000 31/7/08 Balance c/d 3,755


3,755 3,755
1/8/08 Balance b/d 3,755
Lincoln (Creditor) Account
GH¢ GH¢

22/7/08 Bank 1,200 8/7/08 Purchases 2,000

31/7/08 Balance c/d 800


2,000 2,000
1/8/08 Balance b/d 800
Sales Account
GH¢ GH¢
31/7/08 Balance c/d 11,000 10/7/08 Cash 3,000

16/7/08 Saani (Debtor) 8,000


11,000 11,000
1/8/08 Balance b/d 11,000
Bank Account
GH¢ GH¢
14/7/08 Cash 1,800 15/7/08 Motor Van 820

17/7/08 Saani 6,000 22/7/08 Lincoln (creditor) 1,200

25/7/08 Wages and Salar. 3,500

31/7/08 Balance c/d 2,280


7,800 7,800
1/8/08 Balance b/d 2,280
Motor Van Account
GH¢ GH¢
15/7/08 Bank 820 31/7/08 Balance c/d 820
820 820
1/8/08 Balance b/d 820
Saani’s (debtor) Account

GH¢ GH¢
16/7/08 Sales 8,000 17/7/08 Bank 6,000

. . 31/7/08 Bal. c/d 2,000


8,000 8,000
1/8/08 Balance b/d 2,000
Stationery Account
GH¢ GH¢
20/7/08 Cash 1,150 31/7/08 Balance c/d 1,150
1,150 1,150
1/8/08 Balance b/d 1,150
Wages and Salaries Account

GH¢ GH¢
25/7/08 Bank 3,500 31/7/08 Balance c/d 3,500
3,500 3,500
1/8/08 Balance b/d 3,500
Drawings Account
GH¢ GH¢

27/7/08 Cash 250 31/7/08 Balance c/d 250


250 250
1/8/08 Balance b/d 250
Electricity Account

GH¢ GH¢
31/7/08 Cash 25 31/7/08 Balance c/d 25
25 25
1/8/08 Balance b/d 25
Insurance Account
GH¢ GH¢
31/7/08 Cash 30 31/7/08 Balance c/d 30
30 30
1/8/08 Balance b/d 30
B. HANAN ENTERPRISE
Trial Balance at 31st July, 2008

PARTICULARS DEBIT CREDIT


GH¢ GH¢
Capital 4,230
Cash 2,220
Purchases 3,755
Creditor – Lincoln 800
Sales 11,000
Bank 2,280
Motor Van 820
Debtor – Saani 2,000
Stationery 1,150
Wages and Salaries 3,500
Drawings 250
Electricity 25
Insurance 30 . ..
16,030 16,030
UNIT 1.3
FINANCIAL STATEMENTS
COMPONENTS OF
FINANCIAL STATEMENTS
• The International Financial Reporting Standards
(IFRS) states the complete set Financial
Statement as follows:
 Statement of Financial Position (Balance Sheet)
 Statement of Comprehensive Income (Income
Statement)
 Statement of Changes in Equity
 Cash Flow Statements
 Accounting Policies & Notes
Objectives of F. S

• Provision of information about


• Financial position
• Financial Performance
• Changes in Financial Position

• To help users in making


economic decisions
Objectives of F.S (Cont.)

• Show the results of Management Stewardship


of resources entrusted to it.
• Helps users of financial statements in
predicting the entity’s future cash flows and in
particular, the timing and certainty.
• These objectives are achieved
through fair presentation of financial
statements.
Fair Presentation
Achieved through the provision of
useful information in the financial
statement, where transparency is
secured

Fair Presentation = Transparency


Transparency = Full Disclosure+ Fair
Presentation
QUALITATIVE
CHARACTERISTICS OF
FINANCIAL STATEMENTS
Qualitative Characteristics
of F.S
Reliability
Should be free from material error and bias and
can be depended upon by users to represent
faithfully that which it either purports to represent
or could reasonably be expected to represent.
Key ingredients of reliability:
Completeness, neutrality, faithful representation,
substance over form
Qualitative Characteristics
• Comparability
Should be presented in a consistent
manner over time to enable users
make significant comparison.
– To be comparable, financial statements
must show consistency, uniformity
and accounting policies fully
disclosed.
Other Characteristics of F. S
Materiality (Threshold quality)
• Information is material if its omission
or misstatement could influence
economic decision of users taken on
the basis of the financial statement.
Materiality depends on nature and
size of the item.
Characteristics (cont.)
Substance Over Form
• Transactions and other events be accounted for
and presented in accordance with their
substance and economic reality and not merely
their legal form.
Disclosure
• Users must be informed of the accounting
policies employed in preparing F.S., any
changes and the effects of those changes.
Characteristics (cont.)
Prudence
• The inclusion of degree of caution in
the exercise of judgements needed in
making the estimates required under
the condition of uncertainty such that
assets or income are not over stated
and liabilities or expenses are not
under stated.
Characteristics (cont.)
Consistency
• Measurement and display of financial
effects of like transactions and other
events must be carried out in a
consistent way through out an
enterprise and over time for that
enterprise and in a consistent way
for different enterprises.
BASIS OF ACCOUNTING
1. Cash Basis
2. Accrual Basis

Cash basis
Revenues are recorded when cash is
receive and expenses when cash is
paid. The net income or loss is the
difference of cash inflows from revenue
and cash outflow for expenses.
Basis of Accounting (Cont.)
Accrual basis
Revenues are recognised in the
period in which they are earned and
expenses when they are incurred
KEY ASSUMPTIONS
UNDERLYING

PREPARATION
Accounting Entity
OF FS.
The business entity is treated as a separate entity
apart from its owners and other entities.
It is important in order to evaluate the
performance of the business.
An entity owns its assets and incurs its liabilities.

• Going Concern
The entity will continue to operate for the
foreseeable future
• Accrual basis
Effects of transactions and other events are
recognized when they occur (not when the cash
flows).
The effects are recorded and reported in the
financial statements of the periods to which
they relate.
Assumptions (Cont.)
• Cost Principle
States that acquired assets and services
should be recorded in the books of accounts at
their exchanged price (called historical cost)
agreed by the parties.
• Stable Currency Assumption
Assumes that money’s purchasing power is
relatively the same.
ELEMENTS OF FINANCIAL
STATEMENTS
1. Assets 4. Income
2. Liabilities 5.Expenses
3.Equity

The first three are The last two are


directly related to directly related to
the measurement the measurement
of financial position of financial
performance
Assets
 Resources controlled by the
enterprise as a result of past
events and from which future
economic benefits are expected
to flow to the enterprise.
 Assets are classified as current
and noncurrent.
Assets (Cont.)
Non current Assets
are expected to be in the business
for more than one year (12 calendar
months) are referred to noncurrent
assets. Eg. Equipment, plant, Land
and buildings, Investment property
etc.
Assets (Cont.)
Current Assets are
• expected to be realized or intended for
sale or consumption in the entity’s
normal operating cycle
• Assets held primarily for trading
• Assets expected to be realized within 12
months after balance sheet date.
• Cash or cash equivalents
Liabilities
 An entity’s indebtedness to third
parties.
 Claims against the assets of the
business by outsiders
 Liabilities can be current or noncurrent
Current Liabilities are:
 liabilities expected to be settled in
the entity’s normal operating
cycle
 liabilities held primarily for trading
 Liabilities due to be settled within
12 months after the balance sheet
date.
Noncurrent Liabilities
• Liabilities due to be settled more than 12 months after
the balance sheet date
• Long-term interest-bearing liabilities to be settled
within 12 months after the balance sheet date can be
classified as noncurrent if
 the original term is greater than 12 months
 it is the intention to refinance or reschedule the obligation
 The agreement to refinance or reschedule is completed on
or before the balance sheet date
Profit and Loss Account
• Displays business’s revenues and
expenses
• Displays net profit or loss for a specific
period
• Difference between revenues and
expenses results in either profit or a loss
• Profit increases capital
• Loss decreases capital
Revenues and expenses:
Some examples
REVENUES EXPENSES
• Sales • Cost of Goods Sold
• Interest Income • Salary expense
• Fees • Rent expense
• Tax expense
• Interest expense
P&L Account (Cont.)
• A proper heading for the Income Statement
will have three lines: the name of the
company, the name of the statement, and
the period of time the statement covers. Eg.
Haneef Company Ltd.
Income Statement
For the Year Ended December 31, 2006
Income Statement Example
Haneef Company Ltd.
Income Statement
For the Year Ended December 31, 2006
Revenues:
Sales ¢250,000
Interest income 500
Total revenue ¢250,500

Expenses:
Wages and salaries ¢125,000
General expenses 20,000
Rent 10,000
Telephone 7,000
Office supplies 3,000
Total expenses ¢165,000
Net income ¢ 85,500
Balance Sheet
• The Balance Sheet lists the assets, liabilities,
and equity accounts of the company.
• The Balance Sheet is prepared ‘‘as on’’a
particular day, and the accounts reflect the
balances that existed at the close of business
on that day.
• The Balance Sheet is prepared on the last day
that the Income Statement covers.
Balance Sheet (Cont.)
• If the Income Statement is for the period
ending December 31, 2006, the Balance
Sheet would be as on December 31, 2006.
• The date can be stated in a variety of
formats. All of the following are acceptable:
– As on December 31, 2006
– December 31, 2006
– On December 31, 2006
– As at 31st December, 2006
Typical accounts that are classified as assets, liabilities, and equity accounts.
Assets Liabilities Equity

Cash Accounts payable Ordinary share


Capital

Accounts receivable Salaries payable Paid-in capital

Prepaid expenses Taxes payable Retained earnings

Inventory Unearned revenue

Land Notes payable

Building Bonds payable

Equipment Mortgage payable

Vehicles
A good general rule of
Thumb
• Any account that has the word receivable
in its title will be an asset,
• Any account that has the word payable in
its title will be a liability.
• Any account that has the word expense in
its title is likely to be classified as an
expense on the Income Statement, except
for the account Prepaid expenses, which is
an asset.
Rule of Thumb (cont.)
• Any account with the word income
or revenue in its title is classified as
revenue on the Income Statement,
except for the account Unearned
revenue, which is a liability.
• A sample Balance Sheet is shown in
the next slide.
Haneef Company Ltd.
Balance Sheet as at December 31, 2006
Assets:
Noncurrent Assets
Property, Plant &Equipment ¢ 110,000
Current Assets
Inventory 90,000
Accounts receivable 25,000
Prepaid expenses 50,000
Cash 75,000
Total Assets ¢350,000

Liabilities:
Accounts payable ¢50,000
Salaries payable 75,000
Notes payable 65,000
Total Liabilities (i) ¢190,000

Owners’ Equity:
Ordinary Shares ¢ 10,000
Income surplus 150,000
Total Owner’s Equity (ii) ¢160,000
Total Liabilities and Owner’s Equity (i)+(ii) ¢350,000
Balance Sheet
• On the Balance Sheet, the largest numbers in
each section are not necessarily listed first.
• On the asset side of the Balance Sheet, the
accounts are listed in order of their liquidity.
Liquidity means nearness to cash.
• Cash is listed first, since cash is already cash.
• Each current asset is then listed in the order in
which it is expected to become cash.
• Accounts receivable comes second, since this
company believes that its accounts receivable
will be collected prior to the other assets being
turned into cash.
• On the liability side, the accounts are listed in the
order in which they are expected to be satisfied
(a fancy way of saying paid).
• In a classified Balance Sheet, the assets are
separated into current and noncurrent (or long-
term)
Balance Sheet (Cont.)
• Liabilities are similarly classified as
current and noncurrent.
Adjustments to Final
accounts
• Items requiring adjustments
• Accrued expenses
• Accrued income
• Prepaid expenses
• Prepaid revenue (unearned revenue)
• Depreciation
• Bad debts and doubtful debts
provisions
Accrued Expenses
• Unpaid expenses: economic benefit
has already been acquired but
payment has not yet been made.
• An expense and a liability is to be
recognised.
Adjustments
Expense Account
Amount per Trial balance X
Add expense owing at close X
B/S
X
Less Expense owing at start (X)
X I/S
Prepaid Expense
Expense Account
Amount per Trial balance X
Add expense prepaid at start X
X
Less expense prepaid at close (X)
B/S
X I/S
Prepaid Revenue
Revenue Account
Amount per Trial balance X
Add unearned revenue at start X
X
Less unearned revenue at close (X) B/S
X I/S
Accrued Income
• Income earned but not yet recorded
Adjustments
Revenue Account
Amount per Trial balance X
Add accrued income at end X B/S
X
Less accrued income at start (X)
X I/S
Depreciation
• Fixed Assets are long-lived assets and
benefit several accounting periods
• Their costs therefore need to allocated
as an expense over their useful life.
• The systematic allocation of this cost is
called depreciation.
• The recognition of depreciation means
the recognition of an expense and the
decrease in the value of an asset.
• The decrease in the value of an asset
is not recorded directly in the asset;
rather a contra account “provision for
depreciation” is opened.
• The original cost of an asset is an
objective measure where as provision
for depreciation is an estimate
• The balance sheet discloses the
original cost and the provision for
depreciation (or called
Accumulated depreciation)
• The resulting figure is the book
value
• Bad Debts: Credit sales have
become a must these days and bad
debts occur when there are credit
sales.
• Bad Debt is a loss to the business
and a gain to the debtor.
• Bad debts are charged to income
statement.
P&L Example
ILLUSTRATION

The following trial balance was extracted from the records of Asana, a petty trader at 31st December 2007.
DR CR
GH¢ GH¢
Capital 43,235
Drawings 6,150
Stock in trade (1st January 2007) 2,100
Purchases 40,500
Sales 94,400
Returns outwards 1,300
Carriage outwards 860
General expenses 1,250
Motor expenses 1,900
Salaries 26,500
Discount allowed 350
Discount received 240
Rent and rates 950
Insurance 500
Bad debt written off 1,200
Provision for bad and doubtful debt 750
Premises at cost 25,000
Furniture and fixtures 15,000
Motor van at cost 9,000
Cash in hand 250
Cash at Bank 4,970
Debtors and Creditors 20,500 17,055
156,980 156,980
The following information should be taken into consideration.
( i ) Stock in trade at 31st December, 2007 was GH¢ 3,500
(ii) Provision of doubtful is to be adjusted to 5% of debtors
(iii) Prepaid insurance GH¢50: Motor expenses outstanding GH¢40
(iv). during the year Asana withdrew goods costing GH¢200 for his private use. No entries have been made in the books for the
withdrawal.
(iV) Provide for depreciation for the year: furniture and Fixtures GH¢3,000 and Motor van 15% on cost.
You are required to prepare:
(a) Trading and profit and loss account for the year ended 31st December, 2007.
Workings
1. Provision for doubtful debts

Amount in Trial balance (old)


750
New Provision (5% *20,500)
1025 B/S
Increase in provision
725 I/S
Workings (cont.)
2. Insurance expense
Amount in the trial balance 500
Less prepaid at close 50 B/S
Insurance expense 450 I/S

3. Motor Expenses
Amount in trial balance 1900
Amount outstanding 40 B/S
Motor Expense 1940 I/S
Workings (Cont.)
4. Drawings
Amount in trial balance 6,150
Goods withdrawn 200 Trading
Total 6,350 B/S

5. Purchases 40,500
Less goods drawings 200
Net purchases 40,300
Workings (Cont.)
6.Depreciation:
– Furniture & Fittings 3,000
– Motor Van (15% of 9000) 1,350
4,350 I/S
ASANA ENTERPRISE
TRADING AND PROFIT AND LOSS ACCOUNT
FOR THE YEAR ENDED 31ST DECEMBER 2007

GH¢ GH¢ GH¢


Sales 94,400
Less cost of sales:
Opening stock 2,100
Add purchases (w5) 40,300
Less Returns outwards 1,300 39,000
Cost of goods available for sale 41,100
Less Closing stock 3,500
Cost of goods sold 37,600
Gross Profit 56,800
Discount s received 240
57,040
Profit and Loss account (Cont.)
Gross Profit 57,040
Discount Allowed 350
Rent and Rates 950
Insurance (W 2) 450
Bad Debts written off 1,200
Motor Expenses (W3) 1,940
Provision for doubtful debt (W1) 275
General Expenses 1,250
Salaries 26,500
Carriage outwards 860
Depreciation (W6) 4,350
38,125

Net Profit 18,915


ASANA ENTERPRISE
BALANCE SHEET AS AT 31ST DECEMBER,2007

Fixed Assets Cost Depreciation Net Book Value


GH¢ GH¢ GH¢
Premises 25,000 - 25,000
Furniture & Fixtures 15,000 1,350 13,650
Motor van 9,000 3,000 6,000
49,000 4,350 44,650
Current Assets
Stock 3,500
Debtors 20,500
Less Provision 1,025 19,475
Cash at bank 4,970
Cash in hand 250
Prepaid insurance 50
Current Liabilities 28,245
Creditors 17,055
Outstanding motor expenses 40 17,095
11,150
Financed by: 55,800
Capital
Add net profit 43,235
Less Drawings 18.915
62,150
6,350
55,800
IAS 7:
CASH FLOW STATEMENT
• Cash generally refers to cash in hand and
all current and deposit account with the
bank less all bank overdrafts.
• A cash flow statement will therefore
explain the changes during a particular
period (normally an accounting period)
between the opening and closing balances
on the cash position.
Cash Flow Statement
• On September 1991, the Accounting Standards
Board (ASB) of Great Britain and Ireland issued the
Financial Reporting Standard No. 1 – Cash Flow
Statement (FRS 1) to “be adopted as soon as
possible and regarded as standard in respect of
financial statements relating to accounting periods
ending on or after 23 March 1992”.
 
• FRS 1 superseded SSAP 10. The
International Accounting Standards
Committee has also issued a new
standard (revised) International
Accounting Standard – Cash Flow
Statements (IAS 7).
IAS7 DEFINITIONS
• Cash – cash in hand and deposits repayable
on demand with any bank or other financial
institutions. Cash includes cash in hand and
deposits denominated in foreign currencies.
• Cash equivalents – short – term, highly liquid
investments which are readily convertible into
known amounts of cash and which are subject
to an insignificant risk of changes in value.
IAS 7 DEFINITIONS (CONT.)
• Cash equivalents include
investments and advances
denominated in foreign currencies
provided that they fulfill the above
criteria.
• Cash flows – are inflows and outflows
of cash and cash equivalents.
IAS7 DEFIINTIONS(Cont.)
• Cash flows exclude movements between items
that constitute cash or cash equivalents
because these components are part of the cash
management of an entity rather than part of its
operating, investing and financing activities.
• Cash management includes the investment of
excess cash in cash or cash equivalent.
 
The cash flow statement of this Unit
is based on the provisions of IAS 7.
OBJECTIVE OF IAS 7
• To require reporting entities falling
within its scope to report on a standard
basis their cash generation and cash
absorption for a period.
• To this end reporting entities are
required to providing a primary
financial statement analyzing cash
flows under the standard headings.
Standard Headings of C.F.S
a) Operating activities
b) Investing activities,
c) Financing activities
OPERATING ACTIVITIES
• Cash flows from operating activities are in general the
cash effects of transactions and other events relating to
operating or trading activities.
• Net cash flow from operating activities represents the
net increase or decrease in cash and cash equivalents
resulting from the operations shown in the profit and
loss account in arriving at operating profit.
Operating Activities (Cont.)
• Cash flow from the primary revenue-
producing activities of the entity.
INVESTING ACTIVITIES
• The cash inflows included in the
investing activities are those related
to the acquisition or disposal of any
asset held as a fixed asset or as a
current asset investment (other than
assets included within cash
equivalents).
FINANCING ACTIVITIES
Financing activities of companies
include receipts from or payments to
external providers of finance of
amounts in respect of principal
amounts of finance.
Interest, Taxes and
Dividends
Interest and taxes paid are treated
as part of operating activities under
IAS 7 while dividends paid can
regarded as operating or financing
activities whichever is suitable
FORMAT
Cash Flow Statement For The Year Ended 31st December 2002
¢m ¢m
Operating Activities
Net Cash Flow from Operating Activities XXX

Investing Activities:
Payments to acquire intangible fixed assets (XXX)
Payment to acquire tangible fixed assets (XXX)
Receipts from sale of tangible fixed asset XXX
Net cash Outflow from investing activities (XXX)

Net Cash Inflow Before Financing XXX


Financing:
Issue of equity shares XXX
Issue of treasury shares XXX
Repurchase or acquisition of shares (XXX)
Redemption of Debent. or redeemab.prf.share (XXX)
Net cash inflow from financing XXX
Increase in cash and cash equivalents XXX
INDIRECT METHOD
NOTES
Reconciliation of operating profit to net cash
inflow/outflow from operating activities

¢ million
Operating profit XXX
Depreciation charges XXX
Loss on sale of tangible fixed Assets XXX
Increase in stock (XXX)
Increase in debtors (XXX)
Increase in creditors XXX

Cash generated from operations XXX


Interest received XXX
Interest Paid (XXX)
Company Tax Paid (XXX)
Dividends Paid (XXX)
Net cash in(out)flow from operating activities XXX
ILLUSTRATION

The following summarized balance sheets relate to ABC Co. Ltd.

BALANCE SHEET AS AT 31ST DECEMBER 2006/2007


2006 2007
Fixed Assets GH¢’000 GH¢’000
Fixed Assets at cost 500 650
Less Accum Depreciation 200 300
• 300 350
Investment at cost 200 50
Total Fixed Assets 500 400

Current Assets:
Stocks 400 700
Debtors 1,350 1,550
Cash and Bank 100 -
Total Current Assets 1,850 2,250

Current Liabilities
Bank Overdraft - 60
Creditors 650 790
Taxation 230 190
Proposed Dividends 150 130
Total current Liabilities 1,030 1,170
Net Current Assets 820 1,080
Total Assets 1,320 1,480

Represented by:
Stated Capital 500 750
Capital Surplus 150 200
Income Surplus 670 530
1,320 1,480
ILLUSTRATION (CONT.)
Additional Information:

i) During the year to 31st December 2007, some fixed assets originally
costing GH¢25,000 with depreciation of GH¢10,000 had been sold for GH
¢20,000 in cash. Similarly, some of the investments originally costing Gh
¢150,000 had been sold for cash at their book value.

ii)The taxation balance disclosed in the above balance sheets represents


the actual amount agreed with IRS. All taxes were paid on their due
dates.

iii)No interim dividend was paid during the year to 31st December 2007

iv) During the year to 31st December 2007, the company made 1-for-2
right issues of 250 equity shares at 120 GHp per share.

Required:
Prepare a cash flow statement for the company for the year to 31st
December 2007 in accordance with the requirements of IAS7.
WORKINGS
ABC COMPANY LTD, BALANCE SHEET
ANALYSIS
2006 2007 INFLOWS OUTFLOWS
FIXED ASSETS 500 650 150
Less Accum.. Depr 200 300 100
300 350
Investment 200 50 150
CURRENT ASSETS
Stocks 400 700 300
Debtors 1,350 1,550 200
Cash and Bank 100 - 100
CURRENT LIABILITIES
Bank Overdraft - 60 60
Creditors 650 790 140
Taxation 230 190 40
Proposed Dividends 150 130 20
1,030 1,170
Net Current Assets 820 1,080
Total Assets 1,320 1,480
Represented by:
Stated Capital 500 750 250
Capital Surplus 150 200 50
Income Surplus 670 530 140

1,320 1,480 850 850


Fixed Assets Accounts

Balance b/f 500,000 Sales 25,000

Purchases 175,000 Bal c/d 650,000


675,000 675,000
Depreciation Provision Accounts
On disposal 10,000 Bal b/d 200,000
Bal c/d 300,000 charged in the year 110,000
310,000 310,000
Investment s Accounts
Gh¢ Gh¢

Cost 200,000 Disposal 150,000


Bal c/d 50,000
200,000 200,000
Profit on sale of fixed assets

GH¢
Cost 25,000
Acc. Depr. 10,000
Book Value 15,000
Profit 5,000
Sales Proceeds 20,000
Computations of Profit
before Tax
Loss as per the Accounts - 140
Add: back proposed dividends 130
Provisions for tax 190
Profit before tax 180
ABC COMPANY LIMITED
CASH FLOW STATEMENT FOR THE YEAR ENDED 31ST DECEMBER 2007

OPERATING ACTIVITIES
Net cash flows from operations 180
Add: back depreciation charges 110
Less profit on sale of fixed assets -5
Increase in Stock -300
Increase in debtors -200
Increase in Creditors 140
Cash generated from operations -75
Dividends paid -150
Income Tax paid -230
Net Cash outflow from operating activities -455

INVESTING ACTIVITIES:
Purchase of fixed Assets -175
Sale of Investment 150
Sale of fixed Assets 20
Net cash outflow from investing activities -5
NET CASH OUTFLOW BEFORE FINANCING -460
CASH FLOW STATEMENT(CONT.)

NET CASH OUTFLOW BEFORE FINANCING -460

FINANCING
Stated Capital –issue of equity shares 250
Increase in Capital surplus 50 300
NET CASH OUTFLOW FOR THE YEAR -
160
ANALYSIS OF CHANGES IN CASH

31/12/2006 cash balance 100


Overdraft -

100
Net cash outflow during the year -160
-60

31/12/2007 Cash balance -


Overdraft -60
Bank balance as at 31/12/2007 - 60
Computation of dividend and tax paid
Dividend Tax
Balance as at 31/12/2006 150 230
Agreed for 2007 130 190
Expected balance for 2007 280 420
But actual balance 130 190
Therefore amount paid 150 230

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