17th October 2023

Financial Accounting
Lecture week 4
Finance & Accounting for Management (FAM)

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Key Accounting Concepts
• Financial transactions are accounted for on an accruals
basis and NOT a cash received/paid basis

• Income and expenses are reflected in the Income

Statement in the period in which they arose

• The corresponding asset or liability is properly reflected

in the Statement of Financial Position

• Income and expenditure is matched to year earned or

incurred whether or not cash has been received or paid
Cash vs. Profit example (Jan-Mar)
A company has two Revenue streams:
• Quarterly contracts paid in advance worth £300,000
• Project work carried out in March worth £50,000. The customer
receives one months credit

Expenses:
• Purchases relating to the contract are paid at the end of the quarter
£150,000 per quarter
• Salaries for employees working for this customer are paid monthly,
£30,000 per month
• Other expenses are paid monthly, £10,000 per month
• Cost of the project work is £60,000 and is paid in month the work is
carried out
Cash vs. Profit
£000’s CASH PROFIT/LOSS
Jan Feb Mar Total Jan Feb Mar Total
Contract 300 300 100 100 100 300
Project RECEIPTS 0 REVENUE 50 50
Total 300 0 0 300 100 100 150 350

Purchases (150) (150) (50) (50) (50) (150)

Salaries (30) (30) (30) (90) (30) (30) (30) (90)
Other expenses (10) (10) (10) (30) (10) (10) (10) (30)
Project expenses PAYMENTS (60) (60) EXPENSES (60) (60)
Total (40) (40) (250) (330) (90) (90) (150) (330)

Difference 260 (40) (250) (30) 10 10 0 20

NET RECEIPTS PROFIT/(LOSS)
Matching Expenses to Revenues: StarFish
• 40% customers pay their fees at the start of the term.
• Insurance of £5,000 is paid once a year in April.
Apr May Jun Total
Receipts £27,360 / 3 months =
Swimming lesson sales receipts: Credit (60%) 14,400 14,400 14,400 43,200
Swimming lesson sales receipts: cash with 5% discount (40%) 27,360 27,360 £9,120 per month
Sales of equipment 250 250 250 750 Income Statement
Total Receipts 42,010 14,650 14,650 71,310
Revenue
Payments
Teacher's wages 2,250 2,250 2,250 6,750
Swimming pool hire 62,400 62,400
Administration & equipment costs * 450 450 450 1,350
Insurances 5,000 5,000
Marketing costs 50 50 4,050 4,150 Non-current
Booking software costs 3,000 3,000
Total Payments 7,750 5,750 69,150 82,650
Asset
Net Receipts 34,260 8,900 (54,500) (11,340)
Opening cash balance 5,000 39,260 48,160 5,000
Closing cash balance 39,260 48,160 (6,340) (6,340)

£5,000 / 12 months = £416.67 per month. Income Statement Expense

Statement of Financial Position: April

40% customers pay their fees at the start of the term:

• Cash increases £27,360 = Current Asset
• Revenue April £9,120 = Retained profit increases in Equity
• Revenue received for May and June in advance £18,240 =
Current Liability

Every item has at least two accounting transactions to ensure the

Statement of Financial Position ‘balances’
Statement of Financial Position: April
Insurance of £5,000 is paid for once a year in April:
• Cash reduces by £5,000 = Current Asset
• Expenses increase by £416.67 = Retained profit
decreases in Equity
• Prepaid insurance services for May-Mar £4,583.33 =
Current Asset

Every item has at least two accounting transactions to ensure

the Statement of Financial Position ‘balances’
StarFish Income Statement: April-June
Swimming lesson sales 70,560 No outstanding customer debt at
Income from equipment sales 750 the end of the quarter
Total Revenue 71,310

Teachers wages 6,750

EXPENSES are recognised
Swimming pool hire 62,400
when lessons are delivered.
Administration & equipment costs 1,500 PAYMENTS in the cash
Insurances 1,250 budget are £82,650
Marketing 150
Total Costs 72,050
OVERDRAFT in the cash
Profit/(Loss) (740) budget is £(6,340)

How do we treat the software costs of £3,000 paid in May?

Accounting for Assets
Sky Network Television Limited Balance Sheet

Source : Sky Network Television Limited Annual Report (2020), p.43

Accounting for Assets
• Finite vs. Indefinite Life
• Tangible vs. Intangible
• Cost vs. Fair Value
• Prudence
“
Routine depreciation arises from ‘wear and
tear’ of the asset and/or the passage of time.
Impairment results from a fundamental shift
in market conditions or technological

”
obsolescence.

Source: McLaney, E. and Atrill, P., Accounting and Finance: An

Introduction (2020), 10th Edition, Pearson Education, p.73
Depreciation of Assets
• Non-Current Assets have the potential to gain economic benefits
• Used up or ‘worn out’ on an ongoing basis
• Their value must go down or ‘depreciate’ over time

What would the Accruals Concept tell us to do?

1. Match income with expenses that have been used

to create the income
2. Consider the value of the asset in the Statement of
Financial Position
Depreciation example
SSK Ltd buys a new car for its fleet of company cars:
• The car cost £20,000 to buy
• It will be kept by the business for 3 years
• It will then be sold for approximately £8,000

Two approaches:
1. The Straight Line Method
2. The Diminishing Balance Method
Straight Line Method

Cost of Car £20,000 - Residual Value £8,000

Useful Life 3 years

= £4,000 per annum

This is an EXPENSE in the Income Statement

 Straight Line Method
What is the VALUE of the car in the Statement of Financial Position?

Cost Depreciation Net Book Value

Year 1 £20,000 £ 4,000 £16,000
Year 2 £20,000 £ 8,000 £12,000
Year 3 £20,000 £12,000 £ 8,000

The value of the car is reducing in a linear fashion.

Each year the depreciation amount is the same.
 Diminishing Balance Method
A fixed % is applied each year to the Net Book Value

Let’s choose 20%

Cost/NBV Depreciation Net Book Value

Year 1 £20,000 £ 4,000 £16,000
Year 2 £16,000 £ 3,200 £12,800
Year 3 £12,800 £ 2,560 £10,240

Assets depreciate faster in the earlier years of their life

Selling a Non-Current Asset
Let’s say the car is sold as expected for £8,000 cash

But, if the ‘Diminishing Balance’ method was used:

Non-Current Asset Net Book Value £10,240
Cash received for the sale of the car £ 8,000
Loss on sale of Asset £ 2,240

• The loss represents the shortfall in depreciation

• Not enough expense has be allocated to the Income Statement
• It will now be allocated as a one-off expense
• Result = A drop in profits
Sky Network Television Limited
Income Statement

Goodwill is 'an asset representing the future economic

benefits arising from other assets acquired in a business
combination that are not individually identified and
separately recognised' (IFRS 3 Appendix A).

Source : Sky Network Television Limited Annual Report (2020), p.41

Sky Network Television Limited
Balance Sheet

Source : Sky Network Television Limited Annual Report (2020), p.43

Sky Share Price

Net Worth in Financial Statements

June 2023 = NZD439m

June 2020 1.25NZD 2.49NZD

Source : Financial Times online 5th Oct 2023

Sky Valuation
Net Worth Financial Statements
June 2020 = NZD375m
June 2023 = NZD439m

Sources : Financial Times online 5th Oct 2023

Peer Analysis

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Next Steps this week…
Complete the activities in the menu labelled Week 4: Financial Accounting
= Watch the Cash Flow Statement video

= Explore the Sky Annual Report sections (do not read all of it!)

= Prepare for next week’s seminar on Burberry

= Prepare for the Marvel case study session

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Looking ahead to week 5…

= Week 5 topic: Performance Analysis

= Week 5 menu will be released on Friday

= Seminar: Burberry performance analysis
= Marvel Case Study Session

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