Essay on Working Capital Current Assets Minus Current Liabilities Accounting
Working capital: Current assets minus current liabilities.
Working capital measures how much in liquid asset as company has available to
build its business. The number can be positive or negative, depending on how
much debt the company is carrying. In general, companies that have a lot of
working capital will be more successful since they can expand and improve their
operations. Companies with negative working capital may lack the funds
necessary for growth. also called net current assets or current capital.
Current Assets: Current assets are those assets
that are expected to be used (sold or consumed) within a year,
unlike fixed assets. Current assets are shown on the balance sheet,
and are listed in order of increasing liquidity (i.e. how easy they are to
convert to cash). Usually stocks will be listed first, followed by debtors,
with cash last.
Current Liabilities: Liabilities that will be
due within a short time (less than one year) and that are to be paid out of
current assets are called current liabilities. The most common liabilities in
this group are notes payable and account payableasubmitted to us by a student in order to help you with your
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(c) The
man problem that a business may face if there is no enough working capital is
financial difficulties. With out proper funding a business cannot meet there
day to day operations. Every business need some amount to purchase the raw
material. Rate of return on investments also fall with the shortage of working
capital. Excess working capital may result into over all inefficiency in
organization. Excess working capital means idle funds which earn but no
profits. If there is no profit in business it is not possible to run a business
for a long time. If there is no enough working capital the owner may face
unlimited liabilities and it is difficulties to obtain external finance
(d)A sole trader can increase their working
capital by increasing their current assets and putting more money to business
which includes the cash in the bank and the small cash in hand. And for
increasing the working capital they can take bank loan which they have to pay
back within one to three years or they can take mortgage loan which is a
contract in which the provision that title reverts o the borrowers when the
loan is fully paid back. It is usually a long term loan with the repayment
period usually exceeding more than five years. it can also can called long term
liabilities.
QUESTION:2
(A) (a) Distinguish accrual-basis accounting from cash-basis accounting
The cash method.
Cash basis is used, revenue are reported in the
period in which cash s received, and expenses are reported in the period in
which cash is paid. For example, sales is only recorded only when cash is
received from the customers, and salaries expense is only recorded when the
salary is pad to the employee. Net income would be the difference between cash
receipts and the cash disbursements.
The accrual method. Under the accrual
method, revenues are recognized in the period earned and expenses are
recognized in the period incurred in the process of generating revenues
(b)
Explain what is meant by Prepayments and Accruals by giving examples of each
Accruals
An expense or revenue that are gradually
increase with the passage of time. These accounts include, among many
others, accounts payable, accounts receivable, goodwill, future tax
liability and future interest expense.
Cash actually paid
- Any accrual brought forward from the previous
period
+The accrual at the end of the period
Prepayments
Prepayments are included within debtors on the
balance sheet, as an asset.
This is where money is paid in advance period
before the one to which the
expense relates. In other words, it is something
that has been paid in
advance.
The total amount included as an expense in the
period would be:
Cash actually paid
+ Any prepayment brought forward from the
previous period
- The prepayment at the end of the period
An example of prepayment
An Agency pays $120,000 (GST exclusive) for
software licence and support services for six months in advance on 1 April X2.
This transaction was initially (and incorrectly) fully recorded as an expense
in the month in which the payment was made. Initial journal to record six
months licence and support services as an expense:
DR Licensing Charges Expense
(Increase in Expense – Operating Statement)
$120,000
CR Cash at Bank (Decrease in Asset – Balance
Sheet) $120,000
The following journal is processed to correctly
recognise the prepayment, along with a reduction in
expenses:
DR Other Prepaid Expenses (Increase in Asset –
Balance Sheet) $120,000's worisclaimer
This essay has been submitted to us by a student
in order to help you with your studies. This is not an example of the work
written by our professional essay writers.
CR Licensing Charges Expense
(Decrease in Expense – Operating Statement)
$120,000
The monthly journal to recognise a reduction in
a prepayment and recognition of an expense would be:
DR Licensing Charges Expense
(Increase in Expense – Operating
Statement)
$20,000
CR Other Prepaid Expenses (Decrease in Asset –
Balance Sheet) $20,000
(c) Describe and explain with examples Matching
concept and Historical Cost concept.
Matching Concept
Under this concept coasts are matched with
revenue such that coast are related to the product sold or serviced rendered.
Similarly, costs are related to the time period during which revenue is earned.
This concept is fundamental to the accrual basis of accounting
For Example: - the salaries of the manager
or the administrative staff. The best course is to charge these expenses in the
Income Statement of the Accounting period in which they are incurred. Such
expenses are designated as period expenses as distinct from those expenses
known as product expenses which can be related to products.
The justification for the matching concept
arises from the accounting period concept. The profits of the accounting period
are calculated after deducting the costs of the period from the Revenues of the
same period. Any costs which cannot be associated with the future revenues are
written off as they are incurred.
Historical cost
Historical cost is relevant in making economic
decisions. As managers make decisions concerning future commitments, they need
data on past transactions. They must be able to review their past efforts, and
the measure of this efforts is historical cost.
For example, land purchased in 2009at cost of
$90,000 and still owned by the buyer will be reported on the buyer’s balance
sheet at its cost or historical cost of $90,000 even though its current
cost, replacement cost, and inflation-adjusted cost is much higher today.
The cost principle or historical cost principle
states that an asset should be reported at its cost (cash or cash equivalent
amount) at the time of the exchange transaction and should include all costs
necessary to get the asset in place and ready for use.
(d) Monetary concept: Money is used as the basic
measuring unit for financial reporting. An implicit assumption made is that the
accounting is only as accurate as the dollar is a stable unit of value.
Intangible assets such as the goodwill of the company is also not measured.
(e) objectivity concept: All information must be
maintained objectively, which means that it is free of bias and subject to verification.
Objectivity is closely tied to reliability. Objective evidence consists of
anything that can be physically verified such as a bill, check, invoice, or
bank statement. In the event something cannot be supported objectively, a
number of subjective methods are used to develop an estimate. The determination
of items such as depreciation expense and allowance for doubtful accounts are
based on subjective factors. Still even subjective factors are influenced by
objective evidence such as past experience.
Consistency concept : The consistency concept
implies that a particular accounting method, once adopted , will not be changed
from period to period. It does not prohibit a company from changing from one to
another acceptable method if this will better reflect the company’s activity,
but it does prohibit frequent or opportunistic change
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