Conceptual framework
- Recognition: faithfully represented and relevance (materiality)
- Definition criteria
o Asset: present economic resource, can produce future economic
benefit, controlled by entity, from past events
Receivables
o Liability: present obligation, transfer economic resource, from past
event
Payables
o Equity: assets – liability
o Income: increases in assets/decreases in liabilities that result in
increases in equity or than things relating to contributions from
holders of equity claims
Opposite for expenses
- Enhancing characteristics: understandability, comparability (consistent
policies) , verifiability, timeliness
Assumptions, concepts & principles
- Monetary, accounting entity, acc period, growing concern, historical costs,
full disclosure
Assets = liabilities + equity
Assets + expense + drawings = liabilities + income + capital
Accrual accounting: recognises income when earned and expenses when
incurred
Cash accounting: recognises income/expense when cash changes hands
Balance day adjustments
1. Accrual
2. Prepayments
3. Depreciation
a. Acc depreciation (-A)
b. Acc depreciation expense (E)
4. Doubtful debts (may not be collectable)
a. Bad debt (uncollectable)
b. Debt write off
i. No allowance made in advance
ii. Bad debt (E)
iii. Accounts receivable (A)
c. Debt allowance
i. Proportion of accounts receivable is doubtful
ii. Doubtful debts (E)
iii. Allowance for doubtful debts (-A)
1. When customer is a bad debt, debt is written off
2. Ledgers are decreased
3. Estimating allowance
a. Based on credit sales/service income
b. Based on a % of accounts receivable
Inventory
1. Specific identification
2. First in = first out (FIFO)
3. Weighted average
- Sales
o Selling price: price customer paid for
o Cost price: price entity paid to supplier for product
Inventory (A)
Cost of sales (E)
- Counting inventory
o Periodic method: expense approach, cannot determine loss/gain
o Perpetual method: asset approach, cost of sales recorded each
time sales occurs
Ledgers show what should be on hand
Can determine loss/gain
- Sales return
o Selling price: price refunded by business to customer
o Cost price: price entity paid to supplier for product
Inventory (A)
Sales returns (-I)
- Net realisable value (NRV)
o Is cost higher or NRV
o Higher of the two is recorded
Non current assets
- Provide benefits > 12 months
- Not intended for resale
- Used in revenue earning processes
o Property/plant/equipment = tangible
- Determining costs
o Includes costs to do with getting asset ready for use
E.g. installation
- Depreciation: systematic allocation of depreciable amount of an asset
over its useful life
- Useful life: period over which an asset is expected to be available for use
by an entity
- Residual value: estimated amount an entity would currently obtain from
disposal of asset at the end of its useful life
- Depreciable amount: cost of an asset, or other amount substituted for
its cost, less than its residual value
- Carrying amount = value – depreciation
- Unit of production: deprecation based on expected output compared to
output of asset life
o Formula
1. Cost model: carrying amount vs recoverable amount
a. CA > RA = record impairment loss (E)
i. Acc impairment loss (-A)
b. Determine carrying amount
c. Determine recoverable amount
d. Is CA > RA
i. if yes, record impairment loss
e. Adjust depreciation
2. Revaluation model: materiality (>10%)
a. Revaluation surplus increases (OE)
i. Asset increases
b. CA < FV = upwards revaluation
c. CA > FV = downwards revaluation
i. Expense increases
d. Determine CA and RV
e. Is it material?
i. If yes, write in revaluation
f. Adjust deprecation
g. Disposal of assets
i. If proceeds > CA = gain
ii. If proceeds < CA = loss
Liabilities
- Disclosed = meets definition but not recognition criteria
o Put in notes of financial statement
- Ledgers
o Provision for warranty/entitlements (L)
o Provision expense (E)
o When provision is used
Provision for warranty/entitlement (L)
Cash/inventory decreases OR payable increases
- GST = 10%
o GST collected (L)
o GST paid (A)
Equity
1. Share capital
2. Retained savings (after tax profit is in here)
3. Reserves
- Dividends (current L)
o Come from reserves (E)
o Dividend payable (L)
Ratios
- Liquidity: short term ability to pay obligations & meet unexpected cash
needs
1. Current: curent assets/curent liabilities (asset : liability)
2. Quick: current assets – inventory – prepaid / current liabilities
a. Most liquid assets
3. Receivables turnover: net credit sales/average acc receivables
a. X times = no of times receivable is collected
b. Higher = collecting faster from customer
4. Average collections period = 365 /receivables turnover
5. Inventory turnover = cost of sales/average inventory
a. X times
6. Average days in inventory = 365/inventory turnover
- Solvency: ability to survive over a long period of time
1. Debt ratio: total liabilities / total assets
a. Higher: more risk of not meeting maturing obligations
2. Interest coverage ratio: earnings before interst&tax / interest
expense
a. X times: more times profit can cover interest is better
- Profitability: success of entity for a period
1. Return on equity: profit available / average shareholders’
equity %
a. Profit earned on each $ invested
2. Return on assets: profit after tax / average total assets %
3. Profit margin: profit after tax / net sales %
a. Amount of each $ of sales that results in profits
4. Gross profit margin: gross profit/ net sales %
a. Gross profit = cost of sales – amount paid to supplier
5. Asset turnover: net sales / average total assets
a. How efficient assets are in generating income
