Unit 3.4 Final accounts

Question 1

what is a final account

Answer 1

published accounts of an organisation, made available to and used by different stakeholders

Question 2

what are the two final accounts

Answer 2

1. Profit and loss account (income statement)
   2.. Balance sheet

Question 3

Why would managers be interested in a final account (5)

Answer 3

-measure the performance of the business against organizational targets.

-benchmark key indicators (such as net profit figures) against those of rival businesses.

-help with decision-making, e.g., to assess whether the business has sufficient funds for new investment projects.

-set budgets and targets for the future, e.g., target profit.

-monitor and control business expenditure across the various departments in the organization.

Question 4

Why would employees be interested in a final account (2)

Answer 4

Employees can use final accounts to gauge the extent to which their jobs are secure; a profitable business with a healthy balance sheet will create improve job security and promotional opportunities.

Workers can use final accounts as part of the negotiation process with labour unions to discuss pay rises and conditions of employment; again, a profitable and healthy business helps workers to strengthen their case for job security and pay rises.

Question 5

Why would shareholders be interested in a final account (6)

Answer 5

-Measure whether the business is more or less profitable, and how this has changed over time.

-Measure the value of the business and judge whether this has increased over time.

-Calculate the return on their investment (refer to profitability ratios).

-Determine how much dividends (share of the organization’s profits) they receive.

-Decide whether the organization has prospects for growth and expansion.

-Compare the financial performance of different businesses in order to make rational investment decisions (whether to buy or sell any shares in the company).

Question 6

Why would financiers be interested in a final account (3)

Answer 6

-Decide whether to lend money to the business, and how much to lend, by judging the degree of risk involved.

-Check on the creditworthiness of the organization before overdrafts or loans are given.

-Assess the extent to which the business is able to pay back its borrowing (with interest).

Question 7

Why would suppliers be interested in a final account (3)

Answer 7

-Assess whether the business has sufficient liquidity to pay its debts (trade credit).

-Determine the creditworthiness of the business in order to gauge the level of risk involved.

-Negotiate improved credit terms, such as deciding whether to extend the trade credit period or to demand immediate cash payment.

Question 8

Why would customers be interested in a final account (2)

Answer 8

-Determine whether the business offers security and reliability in its services; otherwise, customers will go elsewhere and purchase by rival suppliers.

-Determine whether there will be future supplies of the product they are purchasing – this is particular important for customers that rely on a particular supplier or business.

Question 9

Why would the government be interested in a final account (4)

Answer 9

-To calculate and check (verify) the amount of tax that is due to be paid by the business.

-To measure the extent to which the business is able to expand and create jobs in the economy.

-To assess the liquidity position of the business, in case there is a threat of business closure, which could cause serious economic problems (depending on the size of the business and the market in which it operates).

-Yo ensure the business operates within the law, by adhering to the country’s accounting rules and laws.

Question 10

Why would competitors be interested in a final account (2)

Answer 10

-Being able to compare their own financial accounts with the business in question, in order to judge their own financial performances.

-Benchmark best practise by examining what the business does well, and determine how they themselves can improve.

Question 11

Intangible assets

Answer 11

are non-physical assets that have the ability to earn revenue for a business

Question 12

what are the five types of intangible assets

Answer 12

goodwill, patents, copyrights and trademarks, branding

Question 13

definition of good will

Answer 13

Goodwill is the reputation and established networks of an organisation, which adds significance above the market value of the firm’s physical assets.

It includes the willingness of employees to go above and beyond the call of duty, as they are devoted to the organisation

Question 14

Definition of patents

Answer 14

provide legal protection for investors, preventing others from copying their creation for a fixed number of years

Question 15

what do patents incentivise

Answer 15

patents acts as an incentive for firms to innovate, invest in research and etc
they allow the inventor to have exclusive rights to commercial production for a specified time period.

Question 16

definition of copy rights

Answer 16

give the registered owner the legal rights to creative pieces of work

Question 17

definition of trade marks

Answer 17

form of intellectual property. They give the listed owner the legal and exclusive commercial use of the registered brands, logos, and/or slogans (catchphrases).

form of intellectual property, the value of which may be reported on the balance sheet.

Question 18

Limitations of final accounts (3)

Answer 18

• human resources are ignored when examine final accounts
• final accounts do not reveal anything about the firm’s non-financial matter/priorities such as its organisational culture.
• there also needs to be access to the final accounts of other business in order to benchmark the financial performance with competitors in the industry
  -final accounts are historical accounts of the financial position of a business at one point in time.

Question 19

Definition of depreciation

Answer 19

Depreciation is the fall in the value of noncurrent assets over time

Question 20

what are the two reasons for depreciation

Answer 20

1.wear and tear
2. Obsolescence

Question 21

residual value

Answer 21

This is the value of the non-current asset at the end of its useful life, before it is replaced

Question 22

what are the two methods of measuring depreciation

Answer 22

1.the straight line method, and
2.the units of production method.

Question 24

formula of Net book value

Answer 24

Net book value (NBV) = Original cost of asset – Accumulated depreciation

Question 25

Formula of straight line method (annual depreciation)

Answer 25

Annual depreciation = Purchase cost – Residual value / Estimated useful lifespan

Question 26

Advantages of straight line method (5)

Answer 26

-The ease of calculating depreciation, as the same amount is deducted each year. This means depreciation is treated as a fixed cost and does not change with the level of output or production.

-It is suitable for depreciating assets that have a known useful shelf-life and can be estimated accurately.

-It is also suitable for assets that have a consistent usage rate over the lifetime of the asset, e.g., furniture or automated machinery.

-It is also easier to depreciate the value of assets until their scrap value is zero.

-As the same amount is charged to the profit and loss account each year, it is easier to make historical comparisons of the data.

Question 27

Disadvantages of straight line method (4)

Answer 27

-Many non-current assets, such as motor vehicles and computers, depreciate in value the most during the initial stages of their useful shelf life. Hence, using a uniform depreciation value can be misleading and inaccurate.

-In addition, many assets do not depreciate consistently as they become less efficient over time. For example, machinery, computers and vehicles tend to have higher repair costs over time. The depreciation expense does account for (higher) maintenance costs over time.

-it is not suitable or useful if the functional life span of the asset cannot be estimated accurately.

-Scrap values are only estimates of the future value of an asset. This makes the provisions for depreciation less accurate.

Question 28

formula of units of production rate

Answer 28

Units of production rate = (Cost of asset – Salvage value) / Estimated units of production

Question 29

formula of depreciation expense

Answer 29

Depreciation expense = Units of production rate × Actual units produced

Question 30

Advantages of units of production depreciation (3)

Answer 30

-For many businesses, it is more realistic or accurate to use this method to depreciate the value of an asset due to its usage than just the passing of time. In particular, it works well for businesses that use machinery or capital equipment to manufacture a product.

-Similarly, this method is more accurate for non-current assets that depreciate directly due to wear and tear, rather than the passage of time which eventually makes the product obsolete.

-It is useful for manufacturers that experience fluctuations in production, based on changes in consumer demand over time. Hence, depreciation is treated as a variable or direct cost that changes with the level of output or production.

Question 31

Disadvantages of units of production depreciation (3)

Answer 31

-It is more complicated to calculate than the straight line method of depreciation.

-There is a degree of subjectivity as the salvage value is subject to change and the estimated units of production is exactly that - an estimate only. Over- or under-estimating the figures will make the depreciation expense less accurate.

-Many tax authorities (such as the IRS in the US) do not allow the units of production depreciation method to be used for tax purposes. Hence, this method is primarily used for internal bookkeeping (accounting records).