Accounting Principles Question Paper, Answers and Examiners

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Accounting Principles Question Paper, Answers and Examiners Comments

Level 3 Diploma

PQP/7B/Jan 2013

January 2013

 Copyright of the Institute of Credit Management
Institute of Credit Management The Water Mill, Station Road, South Luffenham, Oakham, Leicestershire LE15 8NB Bookshop Tel: 01780 722901. Education Tel: 01780 722909 Switchboard Tel: 01780 722900. Fax: 01780 721333
PQP/7B/Jan 2013

Accounting Principles questions, answers and examiners’ comments


Instructions to candidates Answer any FIVE questions.

All questions carry equal marks.

Time allowed: 3 hours

All ledger accounts must be prepared in continuous balance format Final accounts must be prepared in vertical format
Where appropriate, VAT is to be calculated at 20%
Questions start on the next page

A good paper including a range of questions to cover the syllabus and which gave the more able the chance to gain high marks - highest = 83. The paper really tested the less well prepared (lowest mark 6). Candidates generally appeared prepared to deal with the mix of numerical and written questions and the overall standard achieved was in line with expectations.
The majority of candidates appeared to have sufficient time to complete the questions, with one candidate attempting 6 questions, another answering all 8 questions set which clearly wasted time. However approx 10% of candidates only attempted 3 or 4 of the set questions, which does affect the marks awarded. Candidates are encouraged to attempt the required 5 questions so that they can be awarded marks for their ability. Candidates should also attempt all parts of each question which some candidates did not; this restricted the marks they could achieve.
Some candidates still do not include their workings which doesn’t allow the examiner to award any marks whilst one or two still use ‘T’ account format when the study text and exam paper make it clear that the continuous balance format is a requirement.

PQP/7B/Jan 2013

1. a) Read the following cutting from the financial press, and then answer the questions
which follow:

‘Profits Warning at Leading Cars: From Ivor Pound, Financial Correspondent’

The share price of Leading Cars plc, the car retailing group, dipped sharply in January to 456p from its high of 587p last month following a profits warning from the company’.


How might the following users of these accounts be affected if Leading Cars plc does, in fact, make a loss?  Shareholders

 Managers

 Suppliers.

(6 marks)

b) When preparing final accounts it is important to distinguish between capital and revenue


i) Define capital expenditure using two appropriate examples.

(3 marks)

ii) Define revenue expenditure using two appropriate examples.

(3 marks)

iii) Explain why it is important to classify these types of expenditure correctly in the accounting


(4 marks)

iv) Show the relevant double entries for the following expenditure:
 A business purchases a new air conditioning system costing £15,000 paying by cheque, receiving a cash settlement discount of 5% for immediate payment

 The businesses’ employees are used to install the new air conditioning system. Included in total wages is the cost of £1,000 for labour costs

 Plumbing and other materials cost of £1,500 was included in total purchases. (4 marks)

Total 20 marks

Question aims

To test the candidate’s ability to:  Describe the requirements of the different users of accounting information and their
application of the data  Describe the difference between capital and revenue expenditure and give examples of

PQP/7B/Jan 2013

Suggested answer
a) Shareholders:
 As there has been a profits warning they will want to understand that their money is safe and that there is a prospect of the company returning to previous levels of profit and paying dividends
 In the worst case scenario, shareholders could loose their investment if the company makes a loss or becomes insolvent.
Managers  Managers, and employees are interested in information about the stability and
profitability of their employer
 They need to assess the likelihood of future employment as they might lose their jobs if Imperial Cars continues to make a loss
 Firms that operate profitably are more likely to offer job security including promotion/advancement
 Managers might also be concerned about the ability of the firm to offer pay increases and/or bonuses in the future
 They will also be interested in the ability of the firm to continue to offer retirement benefits.
Suppliers  These are people the business owes money to and they will be concerned about the
ability of Leading Cars to make payment within agreed credit terms
 Suppliers might lose their money and future business/trading opportunities with the firm
 If Leading Cars is their major customer, then the suppliers will be concerned about the long term survival of the business, as failure of this business will ultimately affect the trading success/profitability of their own firm.
b) i)  Capital expenditure results in the acquisition of fixed assets, or an improvement in their
earning capacity
 Capital expenditure can be defined as expenditure incurred on the purchase, alteration or improvement of fixed assets, e.g. land and buildings; motor vehicles; fixtures and fittings; plant and machinery; computers)
 Fixed assets are ’permanent’ assets of the business, which will be used for a number of years to generate profit and thus the funds to buy these assets will be tied up for a long time
 If expenditure improves a fixed asset i.e. by making it superior to what it was when it was first owned by the business (e.g. building an extension to a warehouse) then it is treated as capital expenditure
 Included in capital expenditure are costs such as Delivery of fixed assets; Installation of fixed assets; Improvements (but NOT repair) of fixed assets; Legal costs of buying property; Carriage inwards on machinery bought.
PQP/7B/Jan 2013

ii)  Revenue expenditure is for the purpose of the trade of the business or to maintain the existing earning capacity of fixed assets

 Revenue expenditure is expenditure incurred on running expenses i.e. the day-to-day expenses of a business, e.g. the cost of petrol or diesel for a motor vehicle or repairs to a building

 This is because the expenditure is used up in a short time, and does not add to the value of the fixed assets

 Included in revenue expenditure are the costs of maintenance and repairs of fixed assets; administration of the business; selling and distribution of the goods or products in which the business trades.

iii)  Revenue expenditure is charged as an expense to the profit and loss account, provided that it relates to the trading activity and sales of that particular period, which reduces the net profit

 Capital expenditure is charged to the balance sheet and results in the addition of fixed assets to the business

 Depreciation reduces the fixed asset value, and is treated as revenue expenditure, although no ‘cash’ transaction takes place
 Getting the classification wrong will affect the reported profits as well as the asset values (and capital account) in the financial statements

 If expenditure is treated as revenue expenditure, then it reduces the profit immediately by the amount spent. However, if this is treated as capital expenditure, then the reported profits are higher as the expense is shown as an asset on the balance sheet

 Following the dual-entry concept, if the fixed asset values are over-stated (i.e. because revenue expenditure is treated as capital expenditure) then the profits will also be over-stated

 If the expenditure also affects items in the trading account, then the gross profit figure will also be incorrect.

iv) This is capital expenditure and should increase fixed assets because it is an addition
to the property.

Dr Fixed Assets (air conditioning)


Cr Bank account


Cr Cash discount received


Wages should be reduced by £1,000 and Materials reduced by £1,500

Dr fixed assets (air conditioning)


Cr wages


Cr purchases


PQP/7B/Jan 2013

This was a popular choice, with a good range of marks being achieved. Part a) Although some candidates were clearly not prepared for a question which required them to explain how a ‘profits warning’ would affect users of the accounts, more able candidates gave fully developed explanations. Weaker candidates did not answer the question as set, for example incorrectly explaining how managers would need to review budgets and cash flow by arranging overdraft facilities and how Leading Cars would need to change to cheaper supplies. Part (b) Should have been expected and many candidates were able to correctly define both capital and revenue expenditure giving two valid examples. However, the majority of candidates did not fully appreciate the need to classify these correctly so that both gross and net profits and fixed assets are correctly stated in the financial statements. The final part of this question required candidates to apply concepts already covered when dealing with capital expenditure. Although more able candidates showed correct entries, weaker candidates did not recognise that the £750 discount would be deducted from the payment, showing the gross figure of £15,000 as a credit to the bank account. Weaker candidates were also confused by the mis-posting of wages and purchases by showing these as debit entries to each account and then credit to the bank account in error. As the payment had already been in the relevant costs, the correct entries increase (debit) fixed assets and reduce (credit) costs.
PQP/7B/Jan 2013

2. a) The following balances were extracted from the books of Graham Weston, a sole trader,
as at 31October 2012:

Trade creditors Stock held at 31 October 2012 Wages owing Premises Cash Trade debtors Furniture and fittings - cost Furniture and fittings - accumulated depreciation Motor vehicles - cost Motor vehicles - accumulated depreciation Plant and machinery - cost Plant and machinery - accumulated depreciation Bank overdraft Insurance paid in advance 5 year loan from Loamshire Finance Co Drawings Net profit for the year ended 31 October 2012 Capital

£ 2,065 3,073 225
27,400 500
5,127 5,000 1,925 10,000 3,900 20,000 6,160 1,875
50 7,500 10,800 12,970

No provision for depreciation has yet been made for the year ending 31October 2012.

Depreciation is to be provided using reducing balance method as follows:

Motor vehicles

25% per annum

Plant and machinery

15% per annum

Furniture and fittings

20% per annum

PQP/7B/Jan 2013


a) i) Prepare the balance sheet for Graham Weston as at 31 October 2012. Note: An amended trial balance is not required.

(11 marks)

ii) What is the meaning of the words ‘as at’ for the balance sheet heading?

(1 mark)

b) Graham Weston keeps referring to the motor vehicle as my car. His accountant has told him that the car does not belong to him but to the firm. He replies that of course it belongs to him, and furthermore, if the firm went bankrupt he would be able to keep the car.

Use the appropriate accounting concept to help explain to Graham whose approach is


(3 marks)

c) Graham Weston informs you that his business will use depreciation as a means to set aside cash each year so that it eventually has the funds to purchase a replacement car when this becomes necessary.

i) Comment briefly on the above statement.

(2 marks)

ii) Use an appropriate accounting concept to help explain why a business will provide for


(3 marks)

Total 20 marks

Question aims To test the candidate’s ability to:  Construct a balance sheet for a sole trader business including both accruals and
prepayments, from information in a trial balance  State the purpose of a balance sheet  Explain the reasons for a depreciation provision  Calculate and include depreciation in the balance sheet of a business  Identify and explain relevant accounting concepts.

Suggested answer

Starts on next page

PQP/7B/Jan 2013

a) Workings - full trial balance not required – for information only

Trade creditors

Stock held at 31 October 2012


Wages owing





Trade debtors


Furniture and fittings – cost


Furniture and fittings – accumulated depreciation

Motor vehicles – cost


Motor vehicles – accumulated depreciation

Plant and machinery - cost


Plant and machinery – accumulated depreciation

Bank overdraft

Insurance paid in advance


5 year loan from Loamshire Finance Co



Net profit for the year ended 31 October 2012

Capital = balancing figure


Motor vehicles Plant and machinery Furniture and fittings

Cost £10,000 – 3,900 = £6,100 x 25% Cost £20,000 – 6,160 = £13,840 x 15% Cost £5,000 – 1,925 = £3,075 x 20%

= 1,525 = 2,076
= 615 4,216

£ 2,065 225
1,925 3,900 6,160 1,875 7,500 12,970 45,330 81,950

PQP/7B/Jan 2013

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Accounting Principles Question Paper, Answers and Examiners