Account 3 Marks Question

In the Order of Liquidity:
Current Assets:

• Cash in Hand
• Cash at Bank
• Bills Receivable
• Short Term Investments
• Sundry Debtors/ Book Debts
• Closing Stock
• Prepaid Expenses
• Accrued Income

Long Term Investments
Non-Current Assets:-

• Furniture
• Loose Tools
• Motor Vehicle
• Plant and Machinery
• Land and Buildings
• Patents and Trade Marks
• Goodwill

Indirect expenses are those expenses that are incurred to operate a business as a whole or a segment of a business, and so cannot be directly associated with a cost object, such as a product, service, or customer. A cost object is any item for which you are separately measuring costs. Examples of indirect expenses are:

1. Accounting, audit, and legal fees.
2. Business permits.
3. Office expenses.
4. Rent.

1. Capital Expenditure: Paid to make an asset ready to use.
2. Capital Expenditure: Paid to make an asset ready to use.
3. Revenue Expenditure: Made for the maintenance of asset.
4. Revenue Expenditure: Part of normal operating cost.
5. Capital Expenditure: Used in business for a number of years.

Operating Profit: Operating Profit is the profit earned through normal operating activities of the business. It is arrived at by deducting the operating expenses from gross profit. Expenses which are related to the main or normal activities of the business are called operating expenses. They include office and administrative expenses and selling and distribution expenses, discount, bad-debts etc. Operating Profit is also called 'Earning. Before Interest & Tax or EBIT'.

1. Capital Expenditure: Paid for the acquisition of new asset.
2. Capital Expenditure: Paid to make the asset ready to use.
3. Revenue Expenditure: Paid for the running and maintenance of car.
4. Revenue Expenditure: Paid for the maintenance of Building.
5. Revenue Expenditure: Part of normal operating cost.

Cost of goods sold (COGS) is the cost of merchandise that is sold to the customers. It includes cost of raw materials purchased, direct expenses incurred, value of opening stock, i.e., the value of the last year’s unsold stock and excludes closing stock if any, i.e., the value of current year’s unsold stock. The formula to calculate COGS is:
Cost of Goods Sold = Opening Stock + Purchases + Direct Expenses - Closing Stock.

Notes:

1. Freight and Carriage Outwards are indirect expenses, therefore it is not recorded in the Trading Account.
2. Closing Stock (i.e. ₹ 50,000) is not recorded in the Trading Account as it is already adjusted in the amount of Adjusted Purchases.

Cost of Goods Sold = Opening Stock + Purchases + Direct Expenses - Closing Stock

Cost of Goods Sold = 40,000 + 50,000 + 10,000 - 15,000 = ₹ 85,000

The balance in GST Accounts means either GST recoverable, if it has a debit balance or GST Payable, if it has a credit balance. Thus, it is neither revenue nor expense. Therefore, it is shown in the Balance Sheet.

1. Purchase of new machinery is a capital expenditure as it will result in increasing the earning capacity of the firm. Cost of installation will also be capitalized as it’s spent before machinery is put to use.
2. Since, the factory is been painted for the first time it will be treated as a capital expenditure.
3. Cost of erection of new machine will also be capitalized as it’s spent before machinery is put to use.
4. It is a capital expenditure as repairs are done before the generator is put to use.
5. Repairs are done on regular basis that is why it will be treated as revenue expenditure.
6. Expenses incurred on raising the capital will be treated as capital expenditure. Therefore, brokerage and other issue expenses are capital in nature.

Deferred Revenue Expenditure is that expenditure that is revenue in nature but the benefit of which extends beyond the accounting year in which it is incurred.
Example of Deferred Revenue Expenditure: Large expenditure incurred on advertising to introduce a new product in the market.

Cost of Goods Sold = Net Sales (i.e., Sales - Sales Return) - Gross Profit
= ₹ 15,000 - ₹ 6,000 = ₹ 9,000.
Cost of Goods Sold = Opening Stock + Net Purchases + Carriage Inwards - Closing Stock
₹ 9,000 = ₹ 5,000 + ₹ 9,100 (i.e., ₹ 10,000 - ₹ 900) + ₹ 1,000 Closing Stock
Closing Stock = ₹ 6,100.

Contingent Liabilities: These are the liabilities which will become payable 1 only on the happening of some specific event, otherwise not. The best example would be amount to be paid as compensation to some party if the company in question loses a certain case in court (ex-case related to extra payments to labourers). In this situation, two things may happen:

1. If the company loses the case, it will have to pay the compensation.
2. If it wins, no compensation will be paid,

Thus since the amount cannot be treated with certainty as liabilities (the compensation amount), it will be shown as contingent liabilities as a footnote in the balance sheet.

Cost of Good Sold = Net Sales - Gross Profit
= 15,000 - 6,000
= ₹ 9,000
Cost of Good Sold = OPening Stock + Net Purchase + Direct Expenses - Closing Stock
9,000 = 5,000 + (10,000 - 900) + 1,000 - Closing Stock
Closing Stock = 15,100 - 9,000
= ₹ 6,100

Operating Profit = Net Profit − Non-Operating Income + Non-Operating Expenses Non-Operating Income = Dividend Received + Rent Received = 6,000 + 24,000 = 30,000 Non-Operating Expenses = Loss on Sale of Furniture + Loss by Fire + Interest on Loan + Donation = 12,000 + 50,000 + 10,000 + 5,100 = ₹ 77,100 ∴ Operating Profit = 5,00,000 − 30,000 + 77,100 = ₹ 5,47,100 Note: Salary being an operating expense was already taken into account while determining net profit, thus, it will be ignored now.

Assets in the order of Permanence:

1. Goodwill.
2. Land and Building.
3. Plant and Machinery.
4. Motor Vehicle.
5. Loose Tools.
6. Furniture.
7. Investment (Long-term).
8. Stock.
9. Sundry Debtors.
10. Marketable Securities (Short-term).
11. Cash at Bank.
12. Cash in Hand.

List in order of permanence:

• Land and Building.
• Plant and Machinery.
• Furniture.
• Investments.
• Stock.
• Sundry Debtors.
• Cash at Bank.
• Cash in Hand.

As adjusted purchases is given, it means opening and closing stock are already adjusted. So, these two stocks will not be considered while calculating Gross Profit.

Cost Of Gold Sold = Net Sales + Gross Loss
= (3,60,000 - 5,000) + 20,000
= ₹ 3,75,000
Cost of Good Sold = Opening Stock + Net Purchase + Direct Expenses - Closing Stock
3,75,000 = 38,000 + (3,40,000 - 4,000) + 26,000 - Closing Stock
Closing Stock = 4,00,000 - 3,75,000
= ₹ 25,000

Note: Closing Stock will not be shown on the Credit side of Trading Account since it has already been adjusted while calculating adjusted purchases.
Adjusted Purchases = Opening Stock + Net Purchases - Closing Stock

Preparation of Trading Account is the first stage of preparing final accounts. It is the financial statement which shows result of buying and selling of goods and/ or services during an accounting period.
It is credited with sales, services rendered and closing stock or inventory. Opening stock or inventory, net purchases and other direct expenses are debited in the account. The difference in two sides is either Gross Profit or Gross Loss.

Net Sales = Sales - Sales Return = ₹ 16,000 - ₹ 1,000 = ₹ 15,000
Cost of Goods Sols = Net Sales - Gross Profit = ₹ 15,000 - ₹ 6,000 = ₹ 9,000
Cost of Goods Sols = Opening Stock + Purchases - Purchases Return + Carriage Inwards - Closing Stock,
₹ 9,000 = ₹ 5,000 + ₹ 10,000 - ₹ 900 + ₹ 1,000 - Closing Stock
Closing Stock = ₹ 15,100 - ₹ 9,000 = ₹ 6,100.

Indirect Expenses are those expenses which are not directly associated with manufacturing or sale of goods. They include administrative, selling and distribution expenses such as salaries, rent and taxes, postage and stationery, insurance, depreciation, interest paid, office lighting, advertising, packing, carriage outwards, etc. Losses include items like loss by fire, loss by theft, etc.

1. It is a revenue receipt as it is received in normal course of business.
2. It is a capital receipt as it is a capital gain which arose by selling of machinery.
3. It is a revenue receipt as it is received in normal course of business over exchange of goods.
4. It is a capital receipt as it will improve the financial position of the company of the company.
5. It is a capital receipt as it will enhance the productivity of the company.
6. It is a revenue receipt as it is received regularly from the government.
7. It is a capital receipt as it is received for construction and will it will result in increasing the earning capacity of the firm.

List in order of liquidity:

• Cash in Hand.
• Cash at Bank.
• Sundry Debtors.
• Stock.
• Investments.
• Furniture.
• Plant and Machinery.
• Land and Building.

A profit from business operations (gross profit operating expenses) before deduction of interest and taxes.
According to Investopedia> Operating profit is the profit earned from a firm's normal core business operations. This value does not include any profit earned from the firm's investments (such as earnings from firms in which the company has partial interest) and the effects of interest and taxes.
Also known as "earnings before interest and tax" (EBIT) or "operating income".

Profït and Loss Account does not show the financial position of an enterprise. It shows the financial performance, i.e., net profit earned or net loss incurred by an enterprise during a particular period.

1. ₹ 20,000 is capital expenditure as it will result in double output of the firm. Repairs and replacement of worn out parts is revenue in nature as it is done on regular basis.
2. Repairs of ₹ 40,000 is revenue in nature as it is done on regular basis and ₹ 1,60,000 is done on improvements which will give future benefits, therefore its capital expenditure.
3. Compensation and remuneration to employees are done in normal course of business, therefore it is revenue expenditure.
4. It is a capital expenditure. Any expenses incurred on bringing the asset into operation will be capitalized.
5. Compensation and remuneration to employees are done in normal course of business, therefore it is revenue expenditure.
6. It is deferred revenue expenditure as the benefit will be derived over a number of years.

6. Cash in hand

9. Cash at bank

2. Bills Receivable

7. Short-term Investments

1. Debtors

4. Closing Stock

5. Prepaid insurance

8. Loose Tools

10. Plant

3. Goodwill

The process of transferring the transaction written in the Journal to a Ledger is called posting. In other words, the process of transferring of debits and credits from the Journal to the Ledger Accounts is called posting. Posting is necessary as it summarises all transactions relating to the account at one place and also shows how transactions have changed the account balances.

1. Current Assets: Current Assets are those which are either in the form of cash or can be easily converted into cash within one year of the date of Balance Sheet. In the words of Hovard & Upton:

'The Current Assets are usually defined as those assets which are convertible into cash through the normal course of business within a short time ordinarily in a year.'

Current Assets include Cash, Bills Receivable, Short Term Investments, Debtors, Prepaid Expenses, Accrued Income, Closing Stock etc. While valuing these assets, Closing Stock is valued at cost or realisable value whichever is less and a reasonable provision for doubtful debts is deducted out of Sundry Debtors.

2. Non-Current Assets: Non-Current Assets are those which are acquired for continuous use and last for many years such as Land and Building, Plant and Machinery, Motor Vehicles, Furniture etc. According to Finney and Miller:

“Non-Current Assets are assets of a relatively permanent nature used in the operations of business and not intended for sale”.

As the purpose of keeping such assets is not to sell but use them, changes in their market values are ignored and these are always shown in the Balance Sheet at cost less depreciation.

Closing Stock may appear in the Trial Balance if an adjustment entry relating to Closing Stock is already passed. If the Closing Stock appears in the Trial Balance it will be shown only on the assets side of the Balance Sheet.

Net profit = operating profit + Non-operating Income - Non-operating expenses
= 17,00,000 + 1,50,000 - 3,75,000
= ₹ 14,75,000
Net profit earned by M/s Arora and sachdeva in 2016-17 is ₹ 14,75,000.