CHAPTER ONE
UNDERSTANDING ACCOUNTS
Executive Summary
A The profit and loss account includes the various components of sales, costs of sales, overheads and profit. The profit and loss account is referred to as a primary statement. It is for a period beginning on a certain date and ending on a later date. The profit and loss account does not reflect the cash effects of transactions but the economic effects: income is recognised when the sale is made and expenditure is recognised when the costs are incurred, without regard to the timing of the cash receipts and payments.
B The above approach to accounting is referred to as “matching” or the “accruals basis” and is one of the basic principles upon which accounts are built.
C The balance sheet is a second primary statement. It shows the assets and liabilities of an entity at a snapshot in time, namely the end of the accounting period.
D For non-accountants the proprietors’ funds (or the shareholders’ funds for the limited company) are conceptually the most difficult part of a balance sheet to grasp. “Funds” does not mean cash; reserves does not mean a chest full of treasure. These balances merely reflect the ownership interest: they are a statement of the total amounts that are invested in the business in the form of original capital and profits made and retained. They can be considered as a statement of the amount that the business “owes” to the proprietor or the shareholders.
E The word “capital” is probably one of the most confusing words in accounting as it has different meanings in different contexts.
F Accounts intended to give a true and fair view are prepared on the basis of substance over form.
G Accounts are fundamentally simple, once the concept of the bottom half of the balance sheet has been grasped.
H The financial statements of companies and groups include various assets and liabilities in respect of taxation which are payable or recoverable and also in respect of deferred tax.
1
Made with FlippingBook Learn more on our blog