Understanding Bookkeeping

WHAT ARE CURRENT ASSETS?

Current assets are assets:

• that are expected to be realised in, or is held for sale or consumption in, the normal course of the enterprise’s operating cycle ; or

• is held primarily for trading purposes or for the short term and expected to be realised with twelve months of the balance sheet date ; or

• Is cash or a cash equivalent asset which is not restricted in its use

Current Assets

Description

Cash

Funds that are readily available for distribution.

Marketable Securities

Investments that are both readily marketable and expected to be converted into cash within one year

Inventories

Consists of raw materials, work-in-progress and finished goods. Aggregate of items either held for sale in the ordinary course of the business, in process of production for such sale, or soon to be consumed in production

Accounts Receivable

Amounts owed to the entity by its customers

Prepaid expenses

Assets paid in advance whose usefulness will expire in the near future

Deposits

Deposits are assets which are monies paid to landlord, government authorities and others. These monies are paid in advance but are recoverable in the near future.

Other Debtors

Amount owing by the entity’s non customers like staff advances, etc

A BALANCE SHEET IS A:

SNAPSHOT of the financial position of an entity.

This snapshot is at a point of time.

Say, as at 7 May 2006, you look at Company A’s balance sheet, it reflects the financial position as at that day. After that day, the financial position company A can change to a better or worse situation.

Also, remember that in the Balance Sheet, we have the three (3) key components:

ASSETS= Liabilities + Owner’s Equity

( Refer to my illustration for the Dual Aspect Concept)

DEFINE WHAT ARE THE CHARACTERISTIC OF ASSETS?

resource controlled by the entity as a result of past events

and

      from which future economic benefits are expected to flow to the entity

WHAT ARE THE MAJOR COMPONENTS OF THE TOTAL ASSETS?

Comprises:

1. Current Assets

2. Property, plant and equipment

3. Investments

4. Intangible Assets

THE COMPONENTS OF FINANCIAL STATEMENTS are:-

Balance Sheet

Income Statement

A statement showing either:

• All changes in equity, or
• Changes in equity other than those arising from capital transactions with owners and distribution to owners.

Accounting policies and explanatory notes.

Voluntary disclosure, outside the financial statements, a financial review on the main features of financial performance and financial position and the principal uncertainties:

• Main factors and influences on performances, changes in environment, enterprise’s responses, policy on investments and dividends;
• Sources of funding, policy on gearing and risk management;
• Strengths and resources whose value is not reflected in the balance sheet.

COMPONENTS IN THE INCOME STATEMENT:

Net Revenue A

Cost of Goods B

Gross Margin C=A-B

NET REVENUE:

NET REVENUE are the list prices of the goods and/services less any discounts offered to the customer to induce purchase.

Don’t forget that these revenue is recognized in the period in which goods and services are sold, not necessarily the period in which cash is received which follow strictly to the matching and accrual accounting concept.

COST OF GOODS SOLD

COST OF GOODS comprise the TOTAL COST OF THE PRODUCT BEING SOLD.

Originally, when the manufacturer made the product, all the cost related to the product are added to the value of the inventory. When the product is sold, these costs of inventory are then expensed through the Income Statement as cost of goods sold.

GROSS PROFIT MARGIN

GROSS PROFIT MARGIN is simply Net Revenues less Cost of Goods Sold

The higher the gross margin, it means that there is a higher MARK-UP on the costs of Goods Sold .

Of course, a higher gross profit margin is favourable.

The higher the gross profit margin, it means that the company can absorb more overheads and can sustain longer when there is a period of recession where business dropped

AN INCOME STATEMENT:-

Reports ONLY the PROFITABILITY of a business

Unlike a Balance Sheet, which is a snapshot of a point of time, Income Statement reflects the profitability of a business FOR A SPECIFIC PERIOD OF TIME (monthly, quarterly or yearly).

In the Income Statement, MATCHING/ACCRUALS/REVENUE RECOGNITION concepts/principles will prevails:

Revenue is recognized in the period in which goods and services are sold, not necessarily the period in which cash is received.

Expense is recognized in the period in which goods and services are used, not necessarily the period in which cash is paid.

A few years ago, this Income Statement is called PROFIT & LOSS Statement.

Nowadays, it is called Income Statement or Earnings Statement

The basic equation for the Income Statement is:

Revenue less Costs & Expenses = Income

When Revenue is MORE than Costs & Expenses = Income/Profit/Earnings

( The term Income or Profit or Earnings has the same meaning)

When Revenue is LESS than Costs & Expenses = Loss

The Normal Format Of An Income Statement is as follows:

INCOME STATEMENT FOR THE PERIOD FROM 1/1/06 TO 31/12/06

Net Revenue                   A

Cost of Goods                  B

Gross Margin                   C=A-B

General & Administrative   D

Sales & Marketing            E

Research & Development  F

Operating Expenses         G= D+E+F

Income From Operations  H =C-G ( Gross margin less Operating Expenses)

Interest                          I

Income before taxes        J=H-I

Net Income after taxes     K

UNDERSTANDABLE & USEFUL

• Accounting information should be readily understandable to the intended users of the information.

• This is a function of both the intended users and the intended uses of the information. Accounting systems that define either the users or uses narrowly may justify more complex information requirements and standards. Accounting systems that envision a broad body of users and/or uses would tend towards less complexity in published information and standards.

• Typically the belief that, for information to be understandable, information contained in the various financial disclosures and reporting must be transparent (i.e., clearly disclosed and readily discernable).

RELEVANT

The information should be relevant to the decision-making users of the information. It should make a difference in their decisions. Typically, this means the information must be:

• Timely
• Have predictive value
• Provide useful feedback on past decisions

RELIABLE

The information should be reliable and dependable. This usually includes the concepts of:

• Representational faithfulness - the information represents what it claims to represent. For example, if the reported value of a common stock holding purports to be the current market value, that value should be approximately what the stock could be sold for by the company holding it.

• Verifiability - another person or entity should be able to recreate the reported value using the same information that the reporting entity had.

• Completeness - the reported information should not be missing a material fact or consideration that would make the reported information misleading.

• The concept of neutrality is sometimes incorporated into the concept of reliability.

COMPARABLE AND CONSISTENT

• For accounting information to be usable, it must allow for comparisons across time and across competing interests (such as competing companies or industries).

• This leads to a need for some consistency, wherever such comparisons are to be expected. For example, comparisons of two companies would be very difficult and potentially misleading if one discounts all its liabilities while the other discounts none of its liabilities.

UNBIASED

• Information that is biased can be misleading.

• Biased information is not useful unless the users understand the bias, any bias is consistently applied across years/firms/industries, and the users can adjust the reported results to reflect their own desired bias.

• When faced with uncertainty, there is a need to either require reporting of unbiased values accompanied with sufficient disclosure, or require the reporting of biased (prudent or œconservative) values with the bias determined in a predictable, consistent fashion.

COST-BENEFIT EFFECTIVE

• General understanding that the development of accounting information consumes resources.

• As such, the cost of producing such information should be reasonable in relation to the expected benefit.

• Use the materiality accounting rule - may not have to be fully followed for immaterial items if full compliance would result in unwarranted higher costs.