Alternative workings for (b) Purchases and cost of sales (before deducting goods taken by Bob) Purchases $408,100 – $68,100 + $77,100 + $14,200 Cost of sales $431,300 + $38,000 – $46,000 Calculation of goods taken by Bob Cost of sales allowing for 50% mark-up $604,200 x 2/3 Cost of sales as above Goods taken by Bob therefore total Purchases total becomes $431,300 – $20,500
Headings The amortisation of deferred development expenditure ($100,000) and the research expenditure ($140,000) and the depreciation of the research equipment ($136,000) will appear in the income statement under cost of sales. The total deferred development expenditure ($1,350,000) will appear in the balance sheet under intangible non-current assets. (b)
Disclosure notes Income statement The aggregate amount of research and development expenditure recognised as an expense during the period was $376,000, all charged in cost of sales. Balance sheet Movements on deferred development expenditure during the year were:
Balance at 1 October 2003 Year ended 30 September 2004 Amortisation New expenditure
Cost $ 1,400,000
250,000 –––––––––– 1,650,000 ––––––––––
Amortisation $ (200,000)
Net book value $ 1,200,000
(100,000) 250,000 –––––––––– 1,350,000 ––––––––––
––––––––– (300,000) –––––––––
The use of historical cost accounting can mislead users when prices are rising in the following ways: (i)
Depreciation is based on the original cost of non-current assets and thus understates the true value obtained by the business from the use of these assets. The result is that profit is overstated.
Inventory is often valued at cost, using FIFO or average costs. If prices are rising, sales in current terms are matched with cost of sales in historical cost terms. Profit is again overstated.
(iii) Balance sheet values of assets may become seriously below their current value. (iv) The combined effects of the above three factors mean that return on capital employed is overstated. (v)
Year on year comparison of results is likely to be misleading as figures will show an automatic increase as prices rise, when in real terms sales and profits may have risen far less, or even have fallen.
Any four points needed for full marks.
Part 1 Examination – Paper 1.1 (INT) Preparing Financial Statements (International Stream)
December 2004 Marking Scheme
Section B 1
Heading and layout
sales 4 x 1/2 cost of sales purchases as balancing figure expenses 6 x 1/2 2 x 1/2
Calculation of purchases Correct method (subtraction of net purchases)
Opening balances Prior year adjustment Share issue Surplus on revaluation transferred Net profit for year Dividends paid
Goodwill Minority interest Accumulated profits Balance sheet Share capital Sundry net assets Revaluation reserve B/S layout heading