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NCERT Class 11 Accountancy Chapter 8 Financial Statements – I
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Financial Statements – I
Chapter: 8
| PART – II |
| Short Answers |
1. What are the objectives of preparing financial statements?
Ans: The basic objectives of preparing financial statements are:
(a) To present a true and fair view of the financial performance of the business.
(b) To present a true and fair view of the financial position of the business, and For this purpose, the firm usually prepares the following financial statements:
(i) Trading and Profit and Loss Account.
(ii) Balance Sheet.
2. What is the purpose of preparing trading and profit and loss accounts?
Ans: The firm usually prepares the following financial statements:
(i) Trading and Profit and Loss Account.
(ii) Balance Sheet.
Trading and Profit and Loss account, also known as Income statement, shows the financial performance in the form of profit earned or loss sustained by the business.
3. Explain the concept of cost of goods sold?
Ans: If there is no opening or closing stock, the total of purchases and direct expenses is taken as Cost of goods sold.Cost of goods sold (COGS) refers to the direct costs of producing the goods sold by a company. This amount includes the cost of the materials and labor directly used to create the goods.
4. What is a balance sheet? What are its characteristics?
Ans: The balance sheet is a statement prepared for showing the financial position of the business summarising its assets and liabilities at a given date. The assets reflect debit balances and liabilities (including capital) reflect credit balances. It is prepared at the end of the accounting period after the trading and profit and loss accounts have been prepared. It is called a balance sheet because it is a statement of balances of ledger accounts that have not been transferred to trading and profit and loss accounts and are to be carried forward to the next year with the help of an opening entry made in the journal at the beginning of the next year.
The main characteristics of balance sheet are:
(i) it is a statement of balances of ledger accounts that have not been transferred to trading and profit and loss accounts.
(ii) It is prepared for showing the financial position of the business summarising its assets and liabilities at a given date.
(iii) The total of Assets sides must be equal to Liabilities sides.
5. Distinguish between capital and revenue expenditure and state whether the following statements are items of capital or revenue expenditure:
Ans:
| Capital expenditure | Revenue expenditure |
| Capital expenditure increases the earning capacity of a business. | Revenue expenditure is incurred to maintain the earning capacity. |
| Capital expenditure is incurred to acquire fixed assets for operation of business. | Whereas revenue expenditure is incurred on day-to-day conduct of business. |
| Capital expenditure is non-recurring by nature. | Revenue expenditure is generally recurring expenditure. |
| Capital expenditure benefits more than one accounting year. | Whereas revenue expenditure normally benefits one accounting year. |
| Capital expenditure (subject to depreciation) is recorded in the balance sheet. | Whereas revenue expenditure (subject to adjustment for outstanding and prepaid amount) is transferred to trading and profit and loss accounts. |
(a) Expenditure incurred on repairs and whitewashing at the time of purchase of an old building in order to make it usable.
Ans: Capital Expenditure.
(b) Expenditure incurred to provide one more exit in a cinema hall in compliance with a government order.
Ans: Revenue Expenditure.
(c) Registration fees paid at the time of purchase of a building.
Ans: Capital Expenditure.
(d) Expenditure incurred in the maintenance of a tea garden which will produce tea after four years.
Ans: Capital Expenditure.
(e) Depreciation charged on a plant.
Ans: Revenue Expenditure.
(f) The expenditure incurred in erecting a platform on which a machine will be fixed.
Ans: Capital Expenditure.
(g) Advertising expenditure, the benefits of which will last for four years.
Ans: Capital Expenditure.
6. What is an operating profit?
Ans: It is the profit earned through the normal operations and activities of the business. Operating profit is the excess of operating revenue over operating expenses. While calculating operating profit, the incomes and expenses of a purely financial nature are not taken into account. Thus, operating profit is profit before interest and tax (EBIT). Similarly, abnormal items such as loss by fire, etc. are also not taken into account. It is calculated as follows:
Operating profit = Net Profit +Non Operating Expenses – Non Operating Incomes.
| Long Answers |
1. What are financial statements? What information do they provide?
Ans: Financial statements are a set of documents that show your company’s financial status at a specific point in time. The income statement, balance sheet, and statement of cash flows are required financial statements. Financial statements are written records that convey the financial activities of a company. It has been emphasised that various users have diverse informational requirements. Instead of generating particular information useful for specific users, the business prepares a set of financial statements, which in general satisfies the informational needs of the users.
After the agreement of the trial balance, a business enterprise proceeds to prepare financial statements. Financial statements are the statements, which present periodic reports on the process of business enterprises and the results achieved during a given period. Financial statements includes trading and profit and loss account, balance sheet and other statements and explanatory notes, which form part thereof. Information provided by financial statements is useful to management to plan and control the business operations. Financial statement are also useful to creditors, shareholders and employees of the enterprise.
2. What are closing entries? Give four examples of closing entries.
Ans: The preparation of trading and profit and loss accounts requires that the balances of accounts of all concerned items are transferred to it for its compilation. Opening stock account, Purchases account, Wages account, Carriage inwards account and direct expenses account are closed by transferring to the debit side of the trading and profit and loss account.
Example: This is done by recording the following entry:
Trading A/c Dr.
To Opening stock A/c
To Purchases A/c
To Wages A/c
To Carriage inwards A/c
To All other direct expenses A/c
The purchases’ returns or return outwards are closed by transferring its balance to the purchases account.
The following entry is recorded for this purpose:
Purchases return A/c Dr.
To Purchases A/c
Similarly, the sales returns or returns inwards account is closed by transferring its balance to the sales account as:
Sales A/c Dr.
To Sales return A/c
The sales account is closed by transferring its balance to the credit side of the trading and profit and loss account by recording the following entry:
Sales A/c Dr.
To Trading A/c
3. Discuss the need of preparing a balance sheet.
Ans: The purpose of a balance sheet is to reveal the financial status of an organisation, meaning what it owns and owes. Here are its other purposes, Determine the company’s ability to pay obligations. The balance sheet includes information about a company’s assets and liabilities. A balance sheet can help you tracking the performance of your company, for example, your company’s ability to meet financial obligations. All the accounts of assets, liabilities and capital are shown in the balance sheet. Accounts of capital and liabilities are shown on the left hand side, known as Liabilities. Assets and other debit balances are shown on the right hand side, known as Assets. There is no prescribed form of Balance sheet, for proprietary and partnership firms. (However, Schedule III Part I of the Companies Act 2013 prescribes the format and the order in which the assets and liabilities of a company should be shown).
4. What is meant by Grouping and Marshalling of assets and liabilities. Explain the ways in which a balance sheet may be marshalled.
Ans: A major concern of accounting is about preparing and presenting the financial statement. The information so provided should be a decision useful for the users. Therefore, it becomes necessary that the items appearing in the balance sheet should be properly grouped and presented in a particular order.
Marshalling of Assets and Liabilities:
In a balance sheet, the assets and liabilities are arranged either in the order of liquidity or permanence. Arrangement of assets and liabilities in a particular order is known as Marshalling.
In case of permanence, the most permanent asset or liability is put on the top in the balance sheet and thereafter the assets are arranged in their reducing level of permanence.
In the balance sheet of Ankit you will find that furniture is the most permanent of all the assets. Out of debtors, bank and cash, debtors will take maximum time to convert back into cash. Bank is less liquid than cash. Cash is the most liquid of all the assets. Similarly, on the liabilities side, the capital, being the most important source of finance, will tend to remain in the business for a longer period than the long-term loan. Creditors being a liquid liability will be discharged in the near future.
