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FinAcc 188 Notes (Chapters 10-20)

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Course
FinACC 188 (188)

Institution
Stellenbosch University (SUN)

This set of notes includes chapters 10 to 20 of the FinAcc 188 course. It includes diagrams, explanations, helpful tips, and much more. I personally use these notes to study and they have proved very useful in the past. I used the textbook, lecture slides and class notes to compile this document. T...

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Chapter 10 (profit determination & closing
process)
Notes:
● Profit - the difference between the amount received for the selling of goods or
provision of a service (income) and the amount paid for the goods, including all
expenses incurred or the amount spent in providing the service (expenses)
● Main objective of business - MAKE A PROFIT

2 types of companies:
● Trading entities
○ Trades in products to make a profit
○ Assets & expenses utilised to trade products
○ Sale of assets (inventory) = primary activity
○ Determining profit of a trading entity:

Sales (sales less sales returns) xxx
Less Cost of sales (CoS) (xxx)
Gross profit xxx
Plus other income (interest/sales of asset) xxx
Less trade expenses (xxx)
Net profit/loss for period xxx

● Service entities:
○ Delivers a service in return for income
○ Assets & expenses utilised to render services
○ Operating income from delivering services = primary activity
○ Determining profit of a service entity:

Income (opening income - services) xxx
Plus other income (interest/sale of assets) xxx
Less expenses (xxx)
Net profit/loss for period xxx

,Important formulas & calculations:

● Gross profit = Sales - Cost of sales

GP = SP - CP

● Sales (net) = Sales (SJ & CRJ) - Sales returns (SRJ & CPJ)

● Cost of Sales (CoS) = O/B + Purchases (PJ & CPJ) - Purchases returns
(PRJ) + other costs - C/B

● Profit/Net profit = end result of all incomes - expenses

The closing process:
● At the end of the financial period the ledger accounts regarding income
statement items are merged into convenience accounts to calculate the
profit/loss for the period which has an increase or decrease in equity as a result

● During the closing-off process certain convenience accounts are created in the
ledger to make reporting easier. The different types of convenience accounts are
set out below:

Convenience Items included in the Purpose of account:
account: account:
Cost of sales (CoS) ● Opening inventory Determine CoS
● Purchases
● Closing inventory
● Other items that
affect cost of
inventory

Trade account ● Sales Determine gross profit
● CoS

Profit & loss account ● Gross profit Determine profit for the
● Income period
● Expenses

, ● CoS & sales closed-off to Trade Account
● Trade Account & all operating income & expenses closed-off to Profit and Loss
account
● Profit and Loss account, CC and Capital withdrawals closed-off to Capital
Account

CoS
Trade account

Trade Account
Cost of sales Sales
Profit and loss
Profit & Loss
Other expenses Trade account
Other income

, Chapter 11 (inventory)
Notes:
Definition of inventory:
● Assets purchased/manufactured to sell @ highest price (trading inventory/
finished goods)
● In process of production for such sale (work in progress WIP)
● Consumed in the production process of the rendering of goods/services
(consumables)

Recognition criteria:
● Expenses (I/S) when inventory is sold and inventory losses
● Asset (B/S) when inventory is unsold, unused and unfinished (recognise as a
current asset)

Measurement and valuation:
● Inventory is measured on the historical cost basis at the lowest of cost or net
realisable value
● Inventory measured at the LOWEST of historical CP or NRV
○ Inventory can become obsolete, damaged or out of fashion → causes SP
(realisable value) to decline below CP
○ Cannot realise the CP anymore

● Cost price:
○ Total costs incurred to bring inventory to their present location & condition
(ready for sale)
○ Cost price = invoice amount + costs incurred to make inventory ready for
sale
● Net realisable value (NRV):
○ Estimated selling price in the ordinary course of business less estimated
costs necessary to procure the sale
○ NRV = expected selling price - total production and selling costs
○ The "NRV" test:
1. Calculate CP
2. Calculate NRV
3. Compare!!! (choose smallest amount)
4. Journal
○ If CP<NRV leave at CP
○ If CP>NRV decrease inventory by the difference between CP and NRV (CP
- NRV) (don't want to overstate value of assets) → DR CoS & CR Inventory

, Measurement rule:
● When inventory is left over at end of the period, it is measured using the CP or
NRV of the product
○ Whichever is the lowest of CP or NRV is the VALUE of the inventory

Inventory systems:
● Periodic inventory system
● Perpetual inventory system

, Cost formulas:
● First-in-first-out (FIFO)
○ This method is based on the principle that inventory that is bought first will
be sold first

Purchase 10 items @ R10 R100

Purchase 10 items @ R15 R150

Balance 20 items R250
Sells 12 items 10 of R10 (100)
2 of R15 (30)

Balance 8 items @ R15 R120

● Weighted average
○ The average cost price (total price ÷ total quantity) can be recalculated
after each new purchase, or on a regular basis (e.g. after each month’s
purchases)

Purchase 10 items @ R10 R100
Purchase 10 items @ R15 R150

Balance 20 items @ R12.5 R250

The weighted average price =
R250 ÷ 20 = R12.5

Sells 12 items of R12.5 R150

Balance 8 items @ R12.5 R100

● Specific identification
○ This method can only be applied if the inventory is of such a nature that a
specific cost price can be linked to a specific unit over the course of time
(e.g. yachts or other expensive items)

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