Lesson aims
- Discuss the purpose of accounts for different stakeholders
- Examine the principles and ethics of accounting practice
- Prepare and interpret final accounts (income statement and balance sheet)
- Describe different types of intangible assets
- Calculate, distinguish, and explain strengths and weaknesses between straight-line and reducing-balance depreciation method (HL only)
The purpose of final accounts to different stakeholders
Internal stakeholders
Parties within the business that are interested in the final accounts, i.e.:
Management - officials in the organisation that are responsible for planning, organising, coordinating and controlling the activities in the business.
Shareholders and owners - the various individuals and organisations that have invested by buying shares in the company.
Employees - the people who work in the firm.
External stakeholders
Parties outside the business that are interested in the final accounts of a business, i.e.:
Government - the national authorities of the country that a firm operates in.
The registrar of companies - government office reponsible for registering companies in the country and legally requires that all registered companies submit a copy of their annual final accounts in order to ensure that the business is conducting its financial affairs with honesty and integrity and therefore safeguards the interests of all the stakeholders explained in this section.
Competitors - the rival firms in the market.
Financiers - sources of finance such as banks.
Suppliers - businesses that supply goods and services to the firm.
The media - entities that broadcast news through radio, television, online, newspapers etc.
The principles and ethics of accounting practice
Integrity -
Objectivity -
Professional competence and due care -
Confidentiality -
Professional behaviour -
Profit and loss account
Opening stock - the quantity of goods produced/owned by the business that are unsold in the previous accounting period and therefore available for sale at the beginning of the current accounting period.
Closing stock - the quantity of goods produced/owned by the business after sales at the close of the accounting period such as a year.
Purchases - quantities of goods bought by the business for resale during the accounting period.
Gross profit - the profit made by a company, calculated by deducting the Cost of Goods Sold from the revenue generated from the sale of the goods or services.
Expenses - costs such as administrative staff salaries, lighting and advertising incurred by a firm to operate effectively.
Net profit - the positive difference between a company's gross profit and its expenses. Net profit = gross profit – expenses
Example IB prescribed format of profit and loss account
Task
Balance sheet
Balance sheet - a statement of the financial position of a business in terms of assets, liabilities and owner's equity at a particular point in time such as at the end of a financial year.
Assets - all items of value that are owned by the firm, such as cash or buildings.
Current assets - items of value owned by the company that can be converted into cash in the short term, i.e. within 12 months.
Fixed assets - long-term tangible items of value owned by the company that are not purchased for resale but to contribute to the operations of the business, and have a lifespan of over 12 months or are not sold within a year.
Liabilities - all funds owed by the company to financial and other institutions, such as banks and suppliers respectively.
Current liabilities - funds that a company owes to individuals or institutions that should be paid within 12 months.
Long-term liabilities - funds that a company owes individuals and/or institutions that are payable in periods of over 12 months.
Equity - the funds invested in a business by the shareholders plus retained profits.
Cash - includes cash in hand and the firm's bank account balances that it has ready access to.
Debtors - individuals or institutions that owe money to the business; for example, by buying goods on credit from the firm for which they have to pay the debt within 12 months.
Stock or inventory - unsold goods, raw materials or work-in-progress that the company has in hand at the end of the trading period.
Liquidity - describes the degree to which an asset or security can be quickly bought or sold in the market and therefore converted into cash without affecting the asset's price.
BalanceSheet_Explanations.pdf
To correctly construct the balance sheet in the report format the following steps need to be followed:
- The fixed assets need to be identified, itemised and summed up.
- The current assets in turn need to be identified and summed up.
- Note the current liabilities and sum them up.
- The value for the net current assets is the determined by subtracting the current liabilities from the current assets.
- The total assets less current liabilities are determined by adding all the fixed assets and current assets and then subtracting the current liabilities.
- Determine the Capital Employed by adding the long term share capital, loans, and retained profit.
Summary GESS Group Balance Sheet as at 31st July 2018
Tasks
- Using information from Table 1, construct a fully labelled balance sheet for Company X for the end of 2017. [5]
- Using information from Table 2:
- Calculate the values of X and Y in Table 1 (no working required). [2]
- Construct a profit and loss account for Company Y for 2015 and 2016. [4]
Table 2: Select financial information for Company Y for 2015 and 2016. Figures in $000000.
Table 1: Revenue and expense information for Company VT for the year 2017 and balance sheet items at 31 December 2017
Intangible assets
Intangible assets - non-physical items of value owned by the firm that have a lifespan of over a year.
Intellectual property - commercially valuable ideas that have monetary value in the market.
Patents - legal protection given to an inventor of a product to safeguard it from being copied for a specified number of years.
Copyrights © - a form of legal protection given to the producers of literary or artistic works.
Brand - a good or service that is distinguishable in the market due to its unique characteristics that satisfy consumer needs or wants.
Registered trademark ® - a distinctive mark, sign or symbol that a company or individual uses to identify or brand itself to distinguish itself from competitors, after registration with the relevant government entity.
Goodwill - the intangible value of a company derived from its 'good nature' in business.
Tasks - the world's most valuable brand
According to Forbes magazine, as of 2017 Apple Inc is the world's most valuable brand, valued at $170 billion, overtaking other big brands such as Google, Microsoft, Facebook, and Coca-Cola to name a few. This is the seventh year in a row that Apple tops Forbes' annual study of the most valuable brands in the world. Apple's brand value is up 10% over last year and represents 21% of Apple’s recent market value of $806 billion. Most companies crave brand value, having a valuable brand generates demand and creates pricing power for a company. The full Forbes list of brands can be found here.
- Explain how branding is an intangible asset for Apple Inc.
- How do you think Apple Inc protects its brand?
Depreciation (HL)
Depreciation - the loss in the value of a fixed asset over time. A non-cash expense that is recorded in profit and loss account.
Causes of depreciation of fixed assets
Wear and tear - gradual deterioration or damage to a fixed asset such as plant and equipment (i.e. factory and machinery) as it is in use.
Obsolescence - occurs when innovation to the existing technology embodied in machinery or totally new inventions replace the machinery currently in use.
Methods of calculating depreciation
The straight line method - depreciation is calculated by spreading the fall in value of the asset evenly over its useful life.
Advantages:
- Easy to calculate and apply as it is a predictable expense that is spread over a number of years.
- The same depreciation amount is deducted in the profit and loss account, thus making profit comparisons over time easy.
- Because the asset can be depreciated to its scrap value or totally, the full cost of the asset to the firm can be accounted for.
Limitations:
- Assumes that the asset will be used equally over the years of its useful life, especially because maintenance and repair costs will be higher in the later years of the asset. The equal amounts of depreciation over the years is therefore inaccurate for very long term assets like plant and equipment.
- Because the useful life of some assets cannot be easily predicted, the straight line method cannot be used.
- The useful life and residual value of the asset are estimates so the figure is not completely accurate.
Reducing/declining balance method - uses a fixed percentage to calculate the value of depreciation used to reduce the book value of the fixed asset over its useful life, resulting in a reducing balance of the book value of the asset over its useful life.
Advantages:
- It is easy to understand and apply.
- It is more realistic for assets which have a higher utility in the earlier years of their life, such as computers, which are more efficient in the first few years compared with several years later when they could in fact become obsolete due to the rapid advances in technology.
Limitations:
- Deciding the percentage to use for depreciation is subjective.
- The percentage of depreciation to be applied would have to be very high if the company wants to reduce the book value to zero.
Depreciation rate = 1 - N SQRT (residual value / cost of fixed asset)
Task
Business Management Revision.docxAnswers to Revision .xlsx