Question

1. a) A B and C are partners sharing profit and losses in the ratio of
     2:2:1 respectively. For the year ended 31st December 2002 their
     Capital accounts remained fixed at the following:
A 600,000
B 400,000
C 200,000
They have agreed to give each other 10% per annum interest on capital accounts. In addition partnership salaries of sh 300,000 for B and sh 100,000 for C are to be charged. The net profit of the partnership before taking any of the above into account was sh 2,520,000

Required:
Draw up the profit and loss appropriation account the partnership for the year ended 31 December 2012. (7 Marks)

b) Discuss the limitations of ratios as a proforma indicator of a
    business entity. (7 Marks)


c) Outline the users of accounting information and their information
    needs. (7 Marks)

d) With examples discuss
i)   Direct cost. (4 Marks)
ii) Indirect cost. (4 Marks)
iii) Share premium.

Answer 1

A.

Profit and loss appropriation account

For year end December 2013.

Interest on capital Net profit $2,520,000.

A $60,000 ( as per P&L)

B $40,000

C $20,000 $120,000

Salary

B $300,000

C $100,000 $ 400,000

Share of Profit

A $800,000

B $800,000

C $400,000 $2,000,000

$2,520,000 $2,520,000.   

B. Limitation of ratio analysis

1. Use of accounting estimate.

The accounting itself uses the estimate which may or may not be reflect the true picture of the economy

Example in A/R turnover ratio use of net A/R balance. Use of allowance of bad debts which is estimate only.

2. Focus on quantity only.

The ratio completely ignores the use of quality measures to indicate performance of the company

Primary focus is use of quantitative information to measure and indicate the performance.

3. It ignores the effect of changes in price.

4. Management can make changes in amount to give nice picture of the operation and position like window dressing.

5. Lack of standardisation in calculation.

C. Different users of financial information

A. shareholders - to know the results of operations and position to determine return on investment.

B. Management - it enables the management to take key business decisions on the basis of information.

C. Creditors and lenders - to determine the creditworthiness of the company.

D. Government- for tax calculation purpose.

E. Employees- to determine the amount of bonus.

F. Potential investors- to determine the financial solvency of the company and make decisions about the potential investment.

d.

I. Direct cost

Costs which are incurred as part of production process and which is directly traceable to the product.

Example direct material which is directly traceable to the product suppose plastic in manufacturing of markers. Wood in manufacturing of furniture.

II. Indirect cost

Cost which are incidental to production of product and directly traceable to the product.

Example : Depreciation or administrative expenses. Salary of supervisors and foreman and insurance etc.

III. Share Premium

Premium is excess of par value of charged by company during issue or reissue of the common and preferred stock.

Example say par value of stock is $ 100 and selling price $ 140 the excess $40 is premium charged the company

Share premium is generally charged by company whose shares are in high demand.

Accounting treatment

There is separate account is created for share premium. It is to be shown in balance sheet as addition to the shareholders equity.