Question

George has sought your advice regarding a business that he intends purchasing. An Extract from
the balance sheet of the business shows total assets and liabilities as listed below:
Assets
Cash 20,000
Accounts receivable 200,000
Inventory 250,000
Building $500,000
Less:
Accumulated depreciation $100,000
400,000
Goodwill 130,000
Total Assets 1000,000
Liabilities
Accounts payable 50,000
Income tax payable 25,000
Bank loan 525,000
Total liabilities 600,000
A review of the business operations shows that building was bought 4 years ago and is reported
at carrying amount $400,000, the current market value of the building is $800,000. Inspection of
inventory reveals that 10% of the inventory is obsolete, for which there is limited demand.
Further 10% of the accounts receivable is overdue by more than 90 days. The accounts receivable
and inventory are carried at their gross amount and cost value respectively on the balance sheet.
A review of Income statement reveals that business has not provided for any bad debt expense
and downward revision of inventory.
As you are an accounting student, you have been asked to advise George on the following
issues:
a. Explain to George the form of organisation he can adopt for the business? Briefly discuss
the advantages and disadvantages of the form of organisation being suggested.
b. George has a very limited understanding of the term Assets. Explain to him how goodwill
can be listed as Asset and how this relates to businesses past investing decisions.
c. Based on the information provided, George believes the business is worth $400 000.
Advise him on the accuracy of his assessment.
d. Explain to George how the accounts receivable and inventory should be valued on the
balance sheet. If the business was to apply the correct measurement basis, determine
the effect on: (1) profit and (2) assets.
HC1010 Accounting for Business Group Assignment Page 3 of 12
HC1010 Accounting for Business
e. If George decides to buy the business explain to him the impact of business’s financing
decision
Please outline your responses to the above issues and provide your advice and
recommendations to George in a report.

Answer 1

a. George can adopt various forms in order to operate its business. He can adopt, partnership form, LLP, Company etc.

1. Partnership form :- Under this form 2 or more partners are come together to operate the busines.

• Advantages :- Easy to form, less legal formalities to be follow, Easy to operate business.
• Disadvantages:- Unlimited liability, Conflict between the partners result in business closure etc.

2. Company form :- Under this form, there may be one person company, private company or public company form.

• Advantages :- So many shareholders, Business operate by qualified personnels, Separate legal entity, Limited liability.
• Disadvantages:- Conflict between operations of mgt and shareholders, follow many Legal compliances etc.

b. Assets means the undisputed premises or the investments that belongs to the company and for which company can sale for collecting cash whenever they required.

Goodwill is considered as an intangible assets which shows the value of the business which company earns over the period of time. Business are ready to pay extra over the fair value of the company to purchase business of that company. That extra portion is considered as extra investment made to purchase th other brand value and such brand value consider as goodwill. The purchased goodwill amount accounted in books of accounts.

c. Fair value of the Business

Assets :-

Cash = 20,000

Account receivable (2,00,000 - 10%*2,00,000) = 1,80,000

Inventory (2,50,000 - 10%*2,50,000) = 2,25,000

Building (fair value) = 8,00,000

Goodwill = 1,30,000

Total Assets (A) = 13,55,000

Total Liabilities (B) = (6,00 000)

Fair valur of thr business (A-B) = 7,55,000

d. The Inventory has been devalued 10 % less since the inventory has been degraded and that 10 % degraded value should be charged from Inventory and Debit side of P&L

Inventory Loss A/c dr 25000

to Inventory A/c 25000

Statement of P&L A/c Dr. 25000

to Inventory Loss A/c dr 25000

The Account receivable has been devalued 10%, since payment has not been received form last 90 days( we consider it as bad debts) , so provision of Bad debts needed to be made and charges to P&L

Bad Debts A/c dr. 20,000

to Accounts receivable A/c 20,000

Statement of P&L A/c Dr. 20000

to Bad Debts A/c dr 20000

e. George can buy the buisiness through many financing options. He can buy the business by issuing equity shares of their company or by issuing debentures or bond. he can make the full payme nt at once also. After buying the business, all the assests and liabilities of the purchasing business belongs to george and he need to consolide the books of their subsideries at each year. Add purchasing business assets in its ow assets and liabilities it own liabilities.