Chapter 1 - Intro

Question 1

What are financial statements?

Answer 1

• financial records of an organisation

Question 2

What do financial statements primarily comprise of?

Answer 2

• P&L
• balance sheet

Question 3

What does accounting represent?

Answer 3

• the techniques involved in recording the transactions of the business on a regular basis

Question 4

What does bookkeeping refer to?

Answer 4

• process of recording financial transactions

Question 5

The actual system of accounting chosen by the business should be able to determine?

Answer 5

• whether the business is operating a profit
• can the business meet its liabilities as they fall due

Question 6

What 3 questions must the accounting system be able to answer?

Answer 6

1. How well is the business doing (is it profitable?)
2. What does the business own (assets)
3. How much does the business owe (liabilities)

Question 7

Why might the owners of the business use financial statements?

Answer 7

• to see how their investment is performing

Question 8

Why might management within a business use financial statements?

Answer 8

• to see if they are running the business profitably and efficiently

Question 9

Why might employees be interested in financial statements?

Answer 9

• to know if their jobs are secure

Question 10

Why might creditors be interested in a business’ financial statements?

Answer 10

• to see if the business can pay the amounts owed and on time

Question 11

Why would HMRC be interested in a business’ financial statements?

Answer 11

• informs them how much tax should be paid on the business transactions

Question 12

Why would banks other lenders be interested in a business’ financial statements?

Answer 12

• to assess whether it is safe to lend to the business

Question 13

Tax legislation dictates the adjustments that are made to the accounting figures produced from the records , what are these adjustments known as?

Answer 13

• adjustments to profit

Question 14

What is the starting point for adjustments to profit?

Answer 14

• net profit/loss as calculated from the financial statements

Question 15

What do accounting standards require regarding the preparation of accounts?

Answer 15

• prepared on an accrual basis
• same basis used for tax purposes

Question 16

What is cash basis?

Answer 16

• income is accounted for when it is actually received and allowable expenses are deduced when the cash is paid

Question 17

What businesses are eligible to use cash basis?

Answer 17

• unincorporated business’
• I.e a sole trader or partnership with income < £150,000
• limited liability partnerships are ineligible to use the cash basis as are partnerships where one or more of the partners is a company

Question 18

Describe a sole trader

Answer 18

• business and personal affairs of the sole trader are not distinguished in any way
• sole trader can be required to use personal assets to repay business debts

Question 19

Describe a partnership

Answer 19

• two or more persons associated for the purpose of a business or profession
• business and personal affairs are not separate
• in Scotland, however, partnership is regarded as a legal seperate entity, I.e partners have limited liability

Question 20

Describe a company

Answer 20

• distinct legal ‘person’ created in order to separate responsibility for the affairs of a business from the personal affairs of the individuals who own the business
• owners have limited liability - will not be required to contribute further towards the liabilities of the company

Question 21

Describe a LLP

Answer 21

• Like a company liability of members to contribute to the LLP’s debts is limited to the LLP’s assets
• governed internally by an agreement between members which will perform the function of a partnership agreement

Question 22

For accounting purposes the individual business is always regarded as an entity in its own right, why?

Answer 22

• necessary to know the business itself aside from the owners personal affairs
• easy to achieve in a company and LLP
• with a sole trader and partnership the business element must keep separate records distinct from private affairs

Question 23

What is the balance sheet?

Answer 23

• summarises assets, liabilities and capital of a business at a particular date

Question 24

What is an asset

Answer 24

• something that is owned by the business and use used by the business on an ongoing basis to help generate profit
• e.g premises, vehicles, stock, debtors, cash

Question 25

What is a liability?

Answer 25

- amount that owed by the business to people outside the business - e.g overdrafts, loans, trade creditors

Question 26

What is capital?

Answer 26

- the sum that is owed by the business to the owner/proprietor

Question 27

What are fixed assets?

Answer 27

- assets that are used within the business on a long term basis and are used to help the business trade - land, buildings, plant, machinery,

Question 28

What are current assets?

Answer 28

- increase or decrease daily and in theory can be easily converted into cash - e.g stock, debtors, cash - current assets are always shown in this order, starting with least liquid

Question 29

What are creditors?

Answer 29

- someone who is owed an amount by the business - amount is split between amounts due within one year and amounts due more than one year from balance sheet date

Question 30

How do we calculate net current assets?

Answer 30

- CA-Creditors due within one year

Question 31

How do we calculate overall total of net assets?

Answer 31

FA - net current assets ( CA-ST creditors) - LT creditors

Question 32

Describe the bottom half of the balance sheet

Answer 32

- consists of the capital at the start of the trading period plus any profits / minus any losses which have been made during the accounting period less any amounts which have been withdrawn by the owner of the business (drawings)

Question 33

What does the total of proprietors funds show?

Answer 33

- how the business was able to afford its net assets - should always equal the top half of the balance sheet - represent the amount which is owed by the business back to the owners

Question 34

What is the P&L account?

Answer 34

- summarises all the income and expenditure which has arisen during a trading period

Question 35

What is gross profit?

Answer 35

Sales - cost of sales - direct profit made from trading activities

Question 36

What is net profit/loss?

Answer 36

Gross profit - day to day running expenses of the business - e.g heat, light, wages, insurance, asset depreciation etc. - not all expenses are necessarily allowable for tax purposes