Exercise 1.1
Order b a d c The accounting process Collecting source documents like receipts and cheque butts Recording transactions in the journals and stock cards Preparing financial reports Providing advice to the owner of the business
Exercise 1.2
Action Preparing a Profit and Loss Statement Filing sales invoices Entering transactions in a cash journal Presenting the owner with alternative sources of finance Accounting Process Reporting Collecting Source Documents Recording Advice Stage Output Input Processing Advice
Exercise 1.3
a. Principle Explanation Entity The owner and the business are separate accounting entities and therefore the
firmss assets (bank account) should not be used for personal purposes. This payment should be recorded as drawings by the business as the owner has taken business funds for personal use. b. Principle Explanation Reporting period The business is deemed to be a going concern. Michael cannot wait until the end
of the firms life to calculate profit as that may never come. Therefore the life of the business must be broken up into periods so that performance can be determined. Also, the tax office would require the firms financial statements at the end of the financial year.
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c. Principle Explanation Historical cost The Musical instruments must be valued at their original purchase price as this
value is verified by source document evidence. Valuing the instruments at their perceived market value estimates their worth which may be swayed by the owners opinion of their value and thus make the valuation biased and unreliable. d. Principle Explanation Monetary unit This principle states that all items must be recorded and reported in the currency
of the country of location where the reports are being prepared. Recording the tours earnings in yen would make it impossible to use with the existing financial information. The tours earnings should be converted from yen to Australian dollars and then incorporated in the financial reports. e. Principle Explanation Consistency This principle states that accounting methods used by the business should be
consistent to allow the comparison of reports from one period to the next. If Michael were to change accounting methods every year he would not know whether the business improved due to changes in business performance or the changes in accounting methods. f. Principle Explanation Going concern The business is deemed to have a continuous life and its records should be kept
on that basis. Michael cannot list a three-year loan as current because that implies that this liability and all others will have to be paid within 12 months. This is not the case, as the business should be able to distinguish between which liabilities are current (to be paid within 12 months) and those that do not have to be paid for a period greater than 12 months i.e. non-current.
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Exercise 1.4
a. Qualitative characteristic Explanation Relevance
Pat does not need to list all 35 individual debtors as this information would not
be seen as material; that is, it would not aid or improve decision-making. In fact, it would probably have the opposite effect because it would make the Balance Sheet more difficult to read. The same information could be shown with one debtors figure and have the same impact on decisions. b. Qualitative characteristic Explanation Comparability
The accounting methods used by the business should be consistent from one
period to the next to allow the comparison of reports. If Pat was to change accounting methods every year he would not know whether the business improved due to changes in business performance or the change in accounting method. The change in accounting method should be disclosed in the financial reports of the business. c. Qualitative characteristic Explanation Reliability
Pat has recorded the electricity as an estimate and hence this information is
unreliable as there is no source document evidence to verify the amount and thus the information contained in the reports will not be free from bias.
Pat has paid for business expenses using his personal cheque book, which means
that the reports of the business will not include all information that will be useful for decisionmaking. He will need to record these transaction as a capital contribution as he is a separate accounting entity to the business e. Qualitative characteristic Explanation Reliability
The plumbing equipment must be valued at its original purchase price as this
value is verified by source document evidence. Valuing the instruments at their perceived market value estimates their worth, which may be swayed by the owners opinion of their value and thus make the valuation biased and unreliable.
Simmons, Hardy 2006 Cambridge University Press 3
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Pat should include only information that relates to the current Reporting period,
which will help us to determine the firms performance and provide information useful for decision-making. The amount received has yet to be earned and thus does not relate to this Reporting period but should be reported in the next Reporting period.
Exercise 1.5
a. Principle Explanation Historical cost Betty must keep all the firms source documents as these provide the evidence
of the assets original purchase prices. This is the only evidence that can be verified to ensure that the figures in the Balance Sheet are accurate and free from bias.
Betty must keep the source documents as they provide verifiable evidence
of transactions and this ensures that all information contained in the financial reports are
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Exercise 1.6
a. Qualitative characteristic Explanation Relevance
The owner should include only information that relates to the current Reporting
period that will help to determine the firms performance and provide information useful for decision-making. The receipt is two years old and may have already been recorded. This transaction does not relate to the current Reporting period and if included would alter the final result and may mislead decision-makers. b. Principle Explanation Reporting period The business should have recorded and reported the cash receipt two years ago,
in the Reporting period in which the transaction occurred. Then the financial reports would have included all significant information for decision-making.
Exercise 1.7
a. Principle Explanation Entity The owner and the business are separate accounting entities and therefore the
firms assets (bank account) should not be used for personal purposes. Berias payment should be recorded as Drawings by the business as the owner has taken business funds for personal use. b. Qualitative characteristic Explanation Relevance
If this transaction is not recorded or reported then the reports of the business will
not include all information that will be useful for decision-making. Beria has withdrawn business assets for personal use, and this must be recorded from the firms perspective because the business and Beria are separate accounting entities. By making Drawings she has reduced her claim on the assets of the business.