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Incomplete records

by Philip Dunn

CAT syllabus for Maintaining Financial Records and Accounts includes, in the content analysis of objectives, the following statement – “methods of restructuring accounts from incomplete records”. The purpose of this paper is to cover these concepts in a way which will enable students to develop competence in this important examinable area.

Many small businesses do not keep complete double entry records. For them, a simple cash book to record receipts and payments may be enough. A system complete with day books and ledgers would provide better information and be less susceptible to undetected error; but there is no law which says books must be double entry. Even the tax authorities expect many businesses to run happily with less.

The trouble with incomplete records, when it comes to preparing period end financial statements, is that they do not tell the whole story. There is no record of outstanding debtors or creditors, nor of stock, nor, without analysis, of for what receipts and payments have been received and paid, or, in some cases, of the split between revenue and capital items.

In a double entry system these would all be represented by ledger balances. In an incomplete system the figures must be calculated, extrapolated, or extracted – in the case of creditors and debtors by making ‘accruals’ and ‘pre-payment’ calculations.

Arriving at the year-end profit and loss account and balance sheet will rely heavily on application of the concept of the ‘accounting equation’. This is defined as: assets equal proprietors’ capital plus liabilities. Thus the value of capital can be determined at any point in time.

Examination questions on incomplete records – a frequent feature of the CAT, B1 level, tend to focus on either sole trader or partnership accounts. In such instances any change in capital structure will be influenced by any one or a combination of the following transactions, events or results:

  • introduction of capital;
  • drawings; and/or
  • trading profits or losses.

Using the accounting equation, and given the values of opening and closing capital together with drawings and the amounts of any capital introductions, the value of profit or loss can be determined – as is illustrated below.

Example 1
Tony Cook is a self employed plumber. His financial details for the years ended 1999 and 2000 showed:

  1999 2000
Assets:    
Motor Vehicle 6,500 5,500
Equipment 2,500 2,000
Stock 750 1,650
Cash at Bank 900 1,300
  10,650 10,450
Less Creditors 750 650
  £9,900 £9,800

Tony’s drawings for the year were £10,650. He had sold some shares for £1,050, the proceeds of which he had paid into his business bank account.

Thus, profit for the year can be calculated as:

  £
Capital at start of the period 9,900
Add capital introduced (sale of shares) 1,050
  10,950
Drawings for period 10,650
  300
Capital at the end of the period 9,800
Net profit 9,500
  £
so: Capital at start of year 9,900
Add capital introduced 1,050
  10,950
Add profit for year 9,500
  20,450
Less drawings 10,650
Capital at end of year 9,800

The balance sheet figures should be supported by reconciled bank statements, unpaid sales invoices totalling the sum included as debtors, unpaid purchase invoices totalling creditors, and receipts for payments for fixed assets along with depreciation calculations.

Example 2
A similar approach can be used to determine sales and purchases totals, when given a cash book showing receipts and payments, together with opening and closing debtors and creditors. The following illustrates the use of such techniques.

John Risdon is a self employed motor engineer. He maintains a cash book to record his business receipts and payments. The following is a summary of the cash book for year ended 31 December 2000:

Cash Book
  £
Balance b/d 1,500
Cash received
from work done
39,300
Sale of own car
4,000
   
   


 
   
   
  £44,800
  £
Drawings 14,100

Materials
17,300
Van running
expenses
4,100
Wages, trainee 5,100
Admin 250
Tools and
consumables
600
General expenses 350
Balance c/d 3,000
  £44,800

Assets and liabilities at 31 December 1999 and 2000 were:

  1999
£
2000
£
Motor van 7,500 5,000
Stock materials 1,350 1,450
Debtors for work done 3,400 3,750
Creditors for supplies 1,250 1,450
Van insurance pre-paid 160 170

The motor vehicle had been purchased second hand on 1 January 1999 for £10,000 and is subject to depreciation at 25% per annum, straight line, (that is, it is being written off over four years, its expected useful economic life).

This information can be used to produce statements for the year ended 31 December 2000.
Opening capital can be arrived at by using the “accounting equation”.

  £
Assets:  
Motor van 7,500
Stock 1,350
Debtors 3,400
Cash at bank 1,500

Pre-payments

160
  13,910
Less creditors 1,250
Capital £12,660
(see cash book summary)
   
Work done during the year:  
  £
Cash received during the year 39,300
Less owed at start of the year 3,400
  35,900
Add owed at end of the year 3,750
  £39,650

This can also be shown in the form of a control account:

Sales Ledger Control
2000 £

Balance b/d

3,400
2000 Work done 39,650
  43,050
2001 Balance b/d 3,750
2000 £
Receipts from
debtors (cash book)
39,300
Balance c/d 3,750
  43,050
   

Likewise the purchases and motor van running costs (where, because opening and closing creditors and debtors, the insurance pre-payment; and the actual amounts paid are all known, the charge for the year can be calculated).

Purchase Ledger Control
  £
2000 Payments to creditors for
materials
17,300
   
Balance c/d 1,450
  18,750
   
  £
2000 Balance b/d
1,250
2000 Purchases 17,500
   
  18,750
2001 Balance b/d 1,450

 

Motor Van Running Costs
  £
2000 Balance b/d (pre-payment) 160
2000 Payments 4,100
  4,260
2001 Balance b/d 170
  £
2000 Charge for year 4,090
Balance c/d 170
  4,260
   

Notes for Preparation of the Final Accounts
NB: The difference between the opening and closing motor van valuation (£7,500 – £5,000 = £2,500, is the depreciation charge for the year, ie: (£10,000 x 25% per annum).

The proceeds from the sale of the personal motor vehicle, which were paid into the business bank account, represent capital introduced. Other costs are shown in the summary cash book extract.

We can now draft the final accounts for the year ended 31 December 2000.

Trading and Profit and Loss Account of J Risdon for Year Ended 31 December 2000

    £
Work done   39,650
Opening stock of materials 1,350  
Add purchases 17,500  
  18,850  
Less closing stock of materials 1,450  
Cost of materials used   17,400
Gross Profit   22,250
Wages 5,100  
Motor vehicle running costs 4,090  
Administration 250  
Tools and consumables 600  
General expenses 350  
Depreciation motor van 2,500  
    12,890
Net profit for year   £9,360

Balance Sheet as at 31 December 2000

  Cost
£
Depreciation
£
Net Book
£
Fixed assets:      
Value      
Motor van 10,000 5,000 5,000
Current assets:      
Stock   1,450  
Debtors   3,750  
Cash at bank   3,000  
Pre-payment   170  
    8,370  
Less:      
Current liabilities:      
Creditors   1,450  
       
Net current assets     6,920
Total assets
less current liabilities
    11,920
Financed by:      
Opening capital     12,660
Add capital introduced     4,000
      16,660
Add profit for year     9,360
      26,020
Less drawings     14,100
      11,920

I hope that this overview helps you to develop further your competence in this important topic area.

Dr Philip E Dunn, Esk Valley Business School