Unit 2

Basic Princes of Preparing Final Account

Capital Expenditures (CAPEX or capex) are expenditures creating future benefits. It is incurred when a
business spends money either to buy fixed assets or to add to the value of an existing fixed asset with a
useful life that extends beyond the taxable year. Capex are used by a company to acquire or upgrade
physical assets such as equipment, property or industrial building.
In accounting CAPEX is added to an asset account (capitalized), thus increasing asset basis. Capex
commonly found on the cash flow statement as Investment in Plant Property and Equipment
Capital Expenditures are amounts spent on:
Acquiring fixed, and in some cases, intangible assets
Fixing problems with an asset that existed prior to acquisition if it results in a superior fixture
Preparing an asset to be used in business
Restoring property or adapting it to new on different use
Starting or acquiring a new business
Costs that are capitalized are amortized over multiple years (whereas costs that are expensed in a
particular month simply appear on the financial statement as a cost that was incurred that month)
The counterpart of capital expenditure is Operational Expenditure

Revenue Expenditure

1. Revenue expenditure is the expenditure which benefits in the current accounting year. It is not
carried forward to the next year or years.
2. It is the expenditure which is incurred in the normal course of business to run the business and to
maintain the fixed assets of business.
3. It is the expenditure which is incurred on purchase of goods meant for resale or to purchase
materials which will be used to convert them into final product.

Therefore, revenue expenditure is a recurring expenditure made to maintain the business. The amount
spent is generally small and the benefit is for a short period which is not more than a year. All
revenue expenditure are charged to trading and profit and loss account.
Following is the difference between capital and revenue expenditures.
Capital Expenditures Revenue Expenditures
1 Its effect is long term i.e., it is not
exhausted within the current account
year. Its benefit is enjoyed in future
year or years also.
1 Its effect is temporary, i.e., it is
exhausted within the current
accounting year.
2 An asset is acquired or the value of an
asset is increased as a result of this
expenditure.
2 Neither an asset is acquired nor the
value of an asset is increased.
3 It does not occur again and again - it is
non-recurring and irregular.
3 It occurs repeatedly - It is recurring
and regular.
4 Generally, it has physical existence i.e.,
it can be seen with eyes.
4 It has no physical existence, i.e., it
cannot be seen with eyes.
5 This expenditure improves the position
of the concern
5 This expenditure helps to maintain the
concern
6 A portion of this expenditure is shown
in the trading and profit and loss
account or income and expenditure
account as depreciation.
6 The whole amount of this expenditure
is shown in trading and profit and loss
account or income and expense
account. But deferred revenue
expenditures and prepaid expenses
are not shown.
7 It appears in balance sheet until its
benefit is fully exhausted.
7 Appears in Trading, Profit & Loss
account.
8 It does not reduce the revenue of the
concern. Purchase of fixed assets does
not affect revenue.

8 It reduces revenue. Payment of
salaries to employees decreases
revenue.

Deferred Revenue Expenditure
Deferred revenue expenditure is the expenditure which is originally revenue in nature but the amount
spent is so large that the benefit is received for not a year but for many years. A proportionate
amount is charged to profit and loss account of each year and balance is carried forward to
subsequent years as deferred revenue expenditure. It is shown as an asset in the balance sheet, e.g.,
heavy expenditure incurred on advertisements.

Capital Receipts
Capital receipts are the receipts which are not received in the ordinary course of business. These are
non-recurring receipts. Money obtained from the sale of fixed assets or investments, issue of shares
or debentures, loans taken are some of the examples of capital receipts. Capital receipts are shown as
liability reduced from assets appearing in the balance sheet.

Revenue Receipts
Revenue receipts are receipts obtained in the normal course of business. It is a receipt against supply
of goods or services. The money obtained from sales, interest, dividend, Commission & Fees etc. are
examples of revenue receipts. Revenue receipts are credited to profit and loss account.


Final Accounts
Introduction:
The last step of accounting process is preparation of final accounts.
In Trading Organization final accounts are Trading Account and P&L Account
In Educational Institution or Club final accounts are Receipt & Payment account and Income &
Expenditure Account
In case of Manufacutring unit it is Manufacturing Account and also P&L
Balance sheet closely (it is not an account) with all these accounts. Balance Sheet is a statement of
assets & liabilities of business organization prepared at the final stage of the accounting process.
Trading Account:
Trading account shows gross profit or gross loss arising out of trading activities. Trade means buying
and selling. The account mainly focuses on finding the results of goods bought and goods sold.
Steps for preparing Trading Account:
1. Identify the items of expenses relating to trading and show them on the debit side of the trading
account
2. Effect the adjustments such as outstanding or prepaid to the relevant items of expenses
3. Show the sales of less returns and closing stock on the credit side of trading account
4. The difference is gross profit if credit total is more than debit and gross loss if the debit total is
more than credit
5. Transfer the gross profit or gross loss to P&L Account as the case may be.

Profit and Loss Account:
P&L account is an important final account in the sense that the net result of the business in the form of
net profit or net loss is disclosed by preparing the same.
Steps to prepare P&L Account:
1. Identify the expenses and bring them to debit side
2. Identify the revenue incomes and put them on the credit side
3. Check whether all adjustments like outstanding, prepaid, pre received expenses and incomes as
the case may be are brought to the account
4. Check the transfer of reserves to the relevant sides of the account
5. Transfer net profit/net loss to the capital account
Balance Sheet:
The difference between the two sides of the Trading Account indicates either Gross Profit
or Gross Loss. If the total on the credit side is more, the difference represents Gross Profit. On
the other hand, if the total of the debit side is high, the difference represents Gross Loss. The
Gross Profit or Gross Loss is transferred to Profit and Loss A/c

Steps involved
1. Identify all assets from the trial balance (assets shown on debit side of trial balance)
2. Identify all liabilities from the trial balance (credit side)
3. Make a mark of items with respect to which adjustments are given outside trial balance
4. All adjustments should find place in two places, one either in Trading Account or in P & L
account and another invariably Balance sheet

Adjustment before preparing final accounts:
If the accrual basis (as per GAAP-Generally Accepted Accounting principles) is used, adjusting entries are
required at the end of the period to record any changes in assets, liabilities, revenue incomes, revenue
expenses, previously unrecognized.
1. Outstanding Expenses
2. Prepaid Expenses
3. Accrued Income
4. Income received in advance
5. Depreciation
6. Bad Debts
7. Provision for Doubtful debts
8. Reserved for discount on debtors
9. Reserved for discount on creditors
10. Closing stock

Management Accounting:
It is an accounting service to the management
It assists managers in the formulation of policy, decision, control of execution
It focuses in increasing managerial efficiency
It is also called as Accounting for Management

Meaning and Scoping:
Based on financial data
It is concerned with future
Uses information available from different walks of like Political Science, Statistics, Maths,
Economics, Cost Accounting and Fin Accounting
Its main purpose is to utilize information in solving the business problems and taking scientific
decisions

The main scope is;
1. To identify and calculate costs of production (cost accounting)
2. To provide estimates for future expenses & revenues (budgeting)
3. To identify inefficiencies within the organization
4. To control costs and manage the flow of cash
5. To seek opportunities

The main management accounting techniques are;
1. Breakeven analysis
2. Costing
3. Budgeting
4. Ratio Analysis
5. Variance analysis

Function of Management Accounting:
Include all activities with collecting, processing, interpreting and presenting information to
management. More specifically, the functions are as follows:

1. Forecasting and Planning
2. Organizing
3. Coordinating
4. Controlling Performance
5. Communication
6. Other functions

Special Features of Management Accounting:
Selective in nature
Provides data
Future oriented
Cause and effect relationship
Non Adherence of rules
Economic Reality
Goal congruence
Information system
Quantitative techniques

Merits
1. Efficient and palling
2. Maximum return on capital
3. Better and improved services to customers
4. Removes unacceptable standards or substandard
5. Improved industrial relations
6. Elimination of various types of wastages, defectives and other related work deficiencies
7. Economic uplift of community and development of nations economy
Demerits
1. Data accuracy and fairness of original records
2. Decisions & conclusions are insignificant unless properly executed
3. Its only tool, cant substitute management
4. Still in its evolutionary stage, hence there is an uncertainty in its use
5. Installation is costly affair and as such it has very limited scope for its use

Management Accounting Principal:
Management Accounting employs three principal devices from cost accounting:
1. Forward looking principle: based on the past & all other available data, forecasting, the future
and recommending wherever appropriate the course of action for the future
2. Target setting principle: Fixation of an optimum target which is variously known as standard,
budget etc. and through continuous review ensuring that the target is achieved
3. The principle of exception: practice where only significant deviations from a budget or plan are
brought to the attention of management.

Limitations of Management Accounting:
Management accounting, being comparatively a new discipline, suffers from certain limitations, which
limit its effectiveness. These limitations are as follows:
Based on Accounting Information/Historical Data: Historical data is used to make future
decisions. Correctness & effectiveness of managerial decisions will depend upon quality of data
on which decisions are based
Lack of Knowledge: The use of management accounting requires the knowledge of number of
related subjects. Deficiency in knowledge in related subjects like accounting principles, statistics,
economics, principle of management etc. will limit the use of management accounting.
Intensive decisions: Decision taking based on management accounting that provide scientific
analysis of various situations will be time consuming one. As such management may avoid
systematic procedures for taking decision and arrive at decision using intuitive. And intuitive
limit the usefulness of management accounting.
Management Accounting is only a tool: The tools and techniques of management accounting
provide only information and not decisions. Decisions are to be taken by the management and
implementation of decisions are also done by management
Personal Prejudice and Bias: The interpretation of financial info depends on the personal
judgment of the interpreter. Personal prejudice and bias affect the objective of decisions

Functions of Management Accountant/Controller:
Planning: He has to establish, coordinate and administer as an integral part of management, an
adequate plan for the control of the operations. Such a plan would include profit planning,
programmes of capital investment and financing, sales forecasts, expenses budgets and cost
standards.

Controlling: He has to compare actual performance with operating plans and standards and to
report and interpret the results of operations to all levels of management and the owners of the
business. This id done through the compilation of appropriate accounting and statistical records
and reports.
Coordinating: He consults all segments of management responsible for policy or action. Such
consultation might concern any phase of the operation of the business having to do with
attainment of objectives and the effectiveness of the organizational structures and policies.
Other functions:
o He administers tax policies and procedures.
o He supervises and coordinated the preparation of reports to governmental agencies.
o He ensures fiscal protection for the assets of the business through adequate internal
control and proper insurance coverage.
o He carries out continuous appraisal economic and social forces and the government
influences, and interprets their effect on the business.

MEANING AND SCOPE OF COST ACCOUNTING:

Cost Accounting is the process of determining & accumulating the cost of product or activity
Process of incurrence and the control of cost
Covers classification, analysis and interpretation of cost
Measures the operating efficiency of the enterprise
Accounting for cost aimed at providing cost data, statement and reports for the purpose of
managerial decision making

Scope of cost accounting is broader than that of costing
1. Cost book-keeping : Double entry system
2. Cost system : system and procedures
3. Cost ascertainment
4. Cost analysis
5. Cost comparisons
6. Cost control
7. Cost reports

Objectives of cost accounting:
1. Determining selling price
2. Controlling cost
3. Providing information for decision making
4. Ascertaining costing profit
5. Facilitating preparation of financial and other statements

Importance of Cost Accounting
Limitations of financial accounting has made the management to realize the following importance of
cost accounting
Importance to management
o Helps in ascertainment of cost
o Aids in price fixation
o Helps in cost reduction
o Elimination of wastages
o Helps in identifying unprofitable activities
o Helps in checking the accuracy of financial account
o Helps in fixing selling price
o Helps in inventory control
o Helps in estimate
Importance to Employees
Cost Accounting and creditors
Importance to National economy
Data base for operating policy

Limitation of Cost Accounting: