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Lesson : 1
JOINT VENTURE
STRUCTURE
1.0
Objective
1.1
Introduction
1.2
Meaning of Joint Venture
1.3
Feature of a Joint Venture
1.4
Differences between Joint Venture, Partnership and Consignment
1.5
Methods of Recording Joint Venture Transactions
1.6
Summary
1.7
Keywords
1.8
Self Assessment Questions
1.9
Suggested Readings
1.0
OBJECTIVE
After reading this lesson, you should be able to
a)
Define a joint venture and explain its feature
b)
Differentiate between joint venture, partnership and consignment.
c)
Account for joint venture transactions under different methods.
1.1
INTRODUCTION
Complexities of a business as huge funds requirements, lack of technical
expertise, sometimes make it difficult to undertake a business assignment
individually like constructing a big building. The alternative available is that
two or more persons join hand to take up that assignment. Joining hand may be
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for finance, for technical know-how, for sharing risk etc. When two or more
persons join together to carry out a specific business and share the profits on
predetermined basis, it is known as a Joint Venture. Joint venture is defined as
a partnership confined to a particular adventure, speculation, course of trade
or voyage, and in which partners, either latent or known use no firm or social
name, and incur no responsibility beyond the limits of the adventure. For
example, Mr. John and Mr. Ibrahim agreed to construct a bridge for municipal
corporation. They pool their resources and technical know how. After they
completed this project, the profits arising thereof will be shared by them in
proportion to their contribution. Whey they are undertaking this project, they
are free to carry on their own business as usual unless otherwise agreed. As
the project ends, the relationship between the parties i.e. co-ventures ceases.
So life of joint venture depends on the duration in which a project completes.
Joint venture is neither a partnership nor it is consignment.
1.2
MEANING OF JOINT VENTURE
A joint venture is usually a temporary partnership without the use of a firm
name, limited to carrying out a particular business plan in which the persons
concerned agree to contribute capital and to share profits or losses. The parties
in a joint venture are known as co-venturers and their liability is limited to the
adventure concerned for which they agree to contribute capital and share profits
or losses. A joint venture may consist of a joint consignment of goods,
speculation in shares, underwriting of shares or debentures, construction of a
building, or any similar form of enterprise.
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1.3
FEATURES OF A JOINT VENTURE
The main features of a joint venture are specifically made clear.
F Two or more person are needed.
F It is an agreement to execute a particular venture or a project.
F The joint venture business may not have a specific name.
F It is of temporary nature. So the agreement regarding the venture
automatically stands terminated as soon as the venture is complete.
F The co-ventures share profit and loss in an agreed ratio. The profits
and losses are to be shared equally if not agreed otherwise.
F The co-ventures are free to continue with their own business unless
agreed otherwise during the life of joint venture.
1.4
DIFFERENCES BETWEEN JOINT VENTURE, PARTNERSHIP AND
CONSIGNMENT
In joint venture and partnership some business is carried on by two or
more persons and the profits are shared by all of them. But there are some
basic differences between the two which are given below:
Partnership Venture
Joint Venture
-A Partnership firm always has a name
There is no need of firm's name.
-It is of a continuous nature.
It comes to an end as soon as the work
is complete.
-Separate set of books have to be
maintained.
There is no need for a separate set
of books, the account can be
maintained even in one of the
co-venturer's books only.
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- No partner can carry on a similar business.
The co-venturers are free to carry
on the business of a similar nature.
-Though the registration of partnership is
not compulsory desirable
There no need for registration at all.
- A minor can also be admitted to the
benefits of the firm.
A minor cannot be a co-venturer
as he is incompetent to enter into a
contract.
Consignment and joint venture are in the nature of an agreement between
different parties but there are many points of differences between the two.
Some of these are given below :
Joint Venture
Consignment
-Number of co-ventures is usually
two but it can also be more than two.
Normally two persons are involved, the
consignor and the consignee.
- The relationship between co-venturers
is that of partnership. Co-venturers are
the owners.
The relationship between the consignor
and the consignee is that of principal and
agent.
- The relationship comes to an end as soon
as the venture is completed.
The arrangement may continue for a long
time.
- All the co-venturers contribute funds
to a common pool.
The funds are provided by the consignor.
- It may be for sale of goods or for
carrying on any other activity like
construction of building, investment in
shares etc.
It is generally connected with sale of
movable goods.
- The profit is shared by all the co-venturers.
The profit belongs to the consignor only.
The consignee is entitled only to his
commission.
- There is joint ownership
The consignor owns the goods.
Joint venturers as mentioned earlier are beneficial under the situations
where there are limitations which can not be overcome by single party. By
launching joint venture two or more parties can pool their financial resources
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to undertake a very big venture. Where experience or technical knowledge is a
limitation co-ventures can also pool their expertise. Since joint ventures are
normally big projects, if under unfavorable conditions there are losses then
these losses are also shared thus loss to individual party is lessened.
1.5
METHODS OF RECORDING JOINT VENTURE TRANSACTIONS
Joint venture accounts can be kept under any of the following three
methods :
A)
Each co-venture records the transaction in his own books and opens "Joint
Venture Account" and accounts of his fellow partners.
B)
One common Joint Venture Account on memorandum basis is prepared to
find the profit or loss made on trading. It is not a part of the double entry
system. Under this system each one of the partners open only one account
which is of the nature of personal account. The account is called. "Joint
venture with ...............a/c."
C)
Venturers agree to keep a separate set of books and a person is made incharge
of recording of all transactions. Generally this method is not adopted.
A)
Each co-venturer records the transactions
Under this system the "Joint Venture Account" is opened and debited with
the value of goods bought and expenses incurred. Cash account or the party
which has supplied the goods or incurred the expenses will be credited. When
the sales proceeds are received, the party receiving it, will debit cash (for
Debtors) account and credit the Joint Venture Account. The other parties will
debit the recipient party and credit the Joint Venture Account.
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Sometimes, a bill of exchange is drawn by one of the parties and is
discounted. In such a case the discount on the bill should be charged to Joint
Venture Account. Joint Venture Account will now show the profit or loss on
trading. Under this system, each (Joint venturer) partner will open two acconts
i.e. (i) Joint Venture Account (ii) The account of other parties.
Journal Entries : The following journal entries will be passed
1)
For Investment in Joint Venture
Joint Venture A/c
Dr.
To Cash/Good A/c
(Being the amount of goods supplied or cash put in for Joint Venture)
2)
As goods are supplied by the Co-venturer or cash is invested in Joint
Venture by him
Cash A/c (For cash sent)
Dr.
Joint Venture A/c
Dr.
To Co-venturer A/c (for goods sent)
(Being goods supplied or cash invested by the other partner)
3). For recording sale of joint venture goods
Cash A/c
Dr.
To Joint Venture A/c
(Being Sale of goods made)
3)
On sale of joint venture goods by the other party
Co-Venturer A/c
Dr.
To Joint Venture A/c
(Being Joint Venture goods sold by the other partner)
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5)
a)
For receipt of Bill of Exchange from the other partner
Bills receivable A/c
Dr.
To Co-Venturer A/c
(Being bill receivable received)
b)
For discounting the bill of exchange
Bank A/c
Dr.
Joint Venture A/c
Dr.
To Bills Receivable A/c
(Being bill discounted and discounting charges debited to Joint Venture A/c).
6)
Entries in the books of other partner Acceptor's books regarding
acceptance
of bills of exchange
Co-venturer A/c
Dr.
To Bills Payable A/c
(Being acceptance given)
7)
On discounting the bills of exchange by other party i.e. drawer
Joint venture A/c
Dr.
To Co-Venturer A/c
8)
On commission charged under Joint Venture
Joint Venture A/c
Dr.
To commission A/c
9)
On Commission charged by other partner
Joint Venture A/c
Dr.
To Co-Venturer A/c
(Being Commission on sale effected by other partners)
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10) When some products are left unsold and transferred to his own stock.
Purchase A/c
Dr.
To Joint Venture A/c
(Being the unsold goods taken)
11) If the other partner has taken the unsold goods, the entry will be:The Co-venturer A/c
Dr.
To Joint Venture A/c
(Being the unsold goods taken by the other partner)
12) Now Joint Venture Account will be closed. If it shows profit then the profit
will be divided in the agreed ratio. The entry will be
Joint Venture A/c
To P & L A/c (own share)
To Co-venturers A/c (their share)
(Being the profit on Joint Venture shared by the parties)
Format of Two accounts to be maintained
Joint Venture Account
Dr.
Particulars
To Cash A/c (purchased)
To Cash A/c (Expenses)
Cr.
Amount Rs.
To Purchase A/c (Material
supplied)
To Outstanding Expenses A/c
To Profit transferred to:
Profit & Loss A/c
Co-venturers A/c
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Particulars
Amount Rs.
By Cash A/c
By Co-venturer
A/c (Goods
taken over)
Co-venturer's Personal Account
Particulars
Rs.
To Joint Venture A/c
Particulars
Rs.
By Bills Receivables
(Good taken over)
To Cash a/c
By Joint Venture A/c
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Illustration - 1
X and Y entered into Joint Venture to sell a consignment of timber
sharing profits and losses equally. X provides timber from stock at mutually
agreed value of Rs. 50000. He pays expenses amounting to Rs. 2500. Y incurs
further expenses on cartage, storage and collieage of Rs. 6500 and receives
cash for sales Rs. 30,000. He also takes over goods to the value of Rs. 10000
for his own use. At the close, X takes over the balance stock in hand which is
valued at Rs. 11000.
Pass Journal Entries to record the above transactions and open the
necessary ledger accounts in the books of X and Y.
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Journal entries in the Books of X
Particulars
Joint Venture A/c
L.F.
Dr. Rs.
Dr.
Cr. Rs.
52,500
To Purchase A/c
50,000
To Bank A/c
2,500
(Being timber provided and
expenses incurred)
Joint Venture A/c
Dr.
6,500
To Y
6,500
(Being expenses incurred by Y)
Y
Dr.
30,000
To Joint Venture a/c
(Being the sale proceeds by Y)
Y
30,000
Dr.
10,000
To Joint Venture A/c
10,000
(Y takes over the goods for his use)
Purchase A/c
Dr.
11,000
To Joint Venture A/c
11,000
(Being unsold goods taken)
Y
Dr.
4,000
Profit and Loss A/c
Dr.
4,000
To Joint Venture A/c
8,000
(Being the loss on Joint Venture shared equally)
Bank A/c
Dr.
37,500
To Y
37,500
(Being draft received from Y)
10
Ledger Account
Joint Venture A/c
Particulars
Rs.
To Purchase
50,000
Particulars
Rs.
By Y (sale proceeds)
30,000
To Bank (expenses)
2,500
By Y (goods for his use)
10,000
To Y (expenses)
6,500
By Purchases (goods)
11,000
By Y (loss)
4,000
By Profit and Loss A/c
4,000
(Ratio being 1:1)
59,000
59,000
Y's Account
Particulars
To Joint Venture (Sale)
Rs.
30,000
Particulars
Rs.
By Joint Venture (Expenses)
To Joint Venture (goods) 10,000
By Bank
To Joint Venture (goods) 4,000
(Final Settlement)
37,500
44,000
Particulars
6,500
44,000
Journal Entries in the Books of Y
Dr.
L.F.
Rs.
Dr.
52,500
Joint Venture A/c
To X
(Being the goods supplied and expenses incurred)
Joint Venture A/c
Dr.
To Bank
(Being the expenses paid)
11
Cr.
Rs.
52,500
6,500
6,500
Bank
Dr.
To Joint Venture A/c
(Being the receipt of sale proceeds)
Drawing A/c
Dr.
To Joint Venture A/c
(Being the goods withdrawn for own use)
X
Dr.
To Joint Venture A/c
(Being the taking over the balance
stock in hand by X)
X
Dr.
Profit and Loss A/c
Dr.
To Joint Venture A/c
(For sharing of loss in equal ratio)
X
Dr.
To Bank
30,000
30,000
10,000
10,000
11,000
11,000
4,000
4,000
8,000
37,500
37,500
(Being the draft remitted X)
Ledger A/cs
Joint Venture A/c
Dr.
Particulars
To X (goods supplied)
Cr.
Rs.
50,000
Particulars
Rs.
By Bank (by sales)
30,000
To X (expenses)
2,500
By Drawing of goods
10,000
To Bank (expenses)
6,500
By (Balance stock taken by X)
11,000
By X
4000
P & LA/c
4000
(Loss)
59,000
8,000
59,000
12
X's A/c
Dr.
Cr.
Particulars
To Joint Venture A/c
Rs.
11,000
Particulars
By Joint Venture A/c
Rs.
52,500
(Good and expenses)
To Joint Venture A/c (Loss) 4,000
To Bank
32,500
52,500
52,500
B)
Memorandum Joint Venture Account Method
In the method discussed above each co-venturer records all transactions
relating to the joint venture in the Joint Venture Account opened in his books.
But, under the Memorandum Joint Venture Account Method each co-venturer
will record only those transactions relating to the joint venture which are
directly concerned with him and not those of others.
a)
Under this method each co-venturer opens a Joint Venture Account including
the name of the other co-venturer. The heading of the account is 'Joint Venture
with (name of coventurer) Account'. The Joint Venturer with (name of co-venturer)
Account is a personal account and it does not show any profit or loss. The
following entries will be made in this account :
i)
Joint Venture with..........................Account Dr.
To cash/Bank/Creditors Account
(Being payments by cheque or cash or liabilities incurred on Joint Venture)
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ii)
Cash/Debtors Accounts
Dr.
To Joint Venture............Account
(Being sale Cash/Credit made on account of Joint Venture)
b)
A separate 'Joint Venture Memorandum Account' is prepared to ascertain
profit or loss in Joint Venture. It is just like profit and loss account, all
the expenses and losses are debited to it and all incomes and gains are
credited to it. All the items of personal accounts will also appear on the
same side of 'Joint Venture Memorandum Account'. The balance of Joint
Venture Memorandum Account shows profits or loss on joint venture
and each party makes an entry for his share of profits or losses. The
journal entry is as under :
Joint Venture with.................Account Dr.
To Profit and Loss Account
(Being profit earned on Joint Ventures)
Or
Profit and Loss Account Dr.
To Joint Venture with................Account
(Being loss effected on Joint Venture)
Illustration - 2
A and B entered into a Joint venture involving the buying and selling of
old railway material with an agreement to share profit or loss equally. (The
amount is in Rs. Hundreds). The cost of the material purchased was Rs. 30,000
which was paid by A, who drew bill of Rs. 20,000 on B at three months' period.
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The bill was discounted by A at cost of Rs. 160. The transactions relating to
the ventures were:
1)
A paid Rs. 200 for carriage, Rs. 600 for commission on sales and Rs.
100 for travelling expenses (ii) B paid Rs. 80 for travelling expenses and Rs.
120 for sundry expenses (iii) Sales made by A amounted to Rs. 21,400 less
allowance for faulty goods Rs. 400 and (iv) Sales made by B were Rs. 15,000.
The remaining goods were retained by A and B for their private use and these
were charged to them as Rs. 1600 and Rs. 2400 respectively. A was credited
with sum of Rs. 300 to cover the cost for warehousing and insurance. The
expenses in connection with the discounting to the bill were to be treated as a
charge against the venture. Prepare the ledger accounts in the books of both
the parties and also the memorandum joint venture account.
Solution
Dr.
Memorandum Joint Venture A/c
Cr.
(Rs. In 000)
Particulars
Rs.
To Materials
30,000
Particulars
By Sales
To discount on Bill
160
(21000 + 15000)
To carriage
200
By stock taken by
To Commission
600
A 1600
To Travelling (100+8)
180
B 2400
To Sundry expenses
120
To Warehousing expenses
300
Rs.
36,000
4,000
To Profit A : 4220
B : 4220
8,440
40,000
40,000
15
In the Books of A
Joint Venture with B A/c
(Rs. in 000)
Dr.
Cr.
Particulars
Rs.
Particulars
Rs.
To Bank (material)
30,000
By Bank (sales)
21,000
To discount on bill
160
By Stock taken
1,600
By Balance c/d
12,980
To Bank
Carriage
200
Commission
600
Travelling exp. 100
Warehousing
300
1,200
By Profit & Loss A/c
4,220
35,580
To Balance b/d
35,580
12,980
In the Books of B
Joint Venture with A A/c
Dr.
Cr.
(Rs. in '000)
Particulars
Rs.
To Bank
Travelling Exp. 80
Sundry Exp.
120
200
To Profit & Loss A/c
4,220
To Balance c/d
Particulars
Rs.
By Bank (Sales)
15,000
By Stock taken
2,400
12,980
17,400
17400
By Balance b/d
16
12980
Sometimes the co-venturers invest money in Joint venture business and
receive back the amounts on different dates. It is quite usual for them to agree
to calculate interest at a certain rate. Each co-venturers is entitled to receive
interest on the amounts invested by him and pay interest on the amounts received
by him. Only net interest receivable from or payable to the conventurer is
recorded in the joint venture account. Thus, the net amount of interest is also
taken into amount before ascertaining the profit or loss on joint venture.
Illustration 3
A and B enter into a joint venture sharing profits and losses equally. A
purchased goods for Rs. 5,000 for cash on January 1, 1999. On the same day
Bought goods for Rs. 10,000 on credit and spend Rs. 1,000 on freight etc.
Further expenses were incurred as follows :
On 1.2.1999
Rs. 1,500 by B
On 12.3.1999
Rs. 500 by A
Sales were made by each one of them as follows :
15.1.1999
Rs. 3,000 by A
13.1.1999
Rs. 6,000 by B
15.2.1999
Rs. 3,000 by A
1.3.1999
Rs. 4,000 by B
Creditors for goods were paid as follows
1.2.1999
Rs. 5,000 by A
1.3.1999
Rs. 5,000 by B
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On March 31, 1999 the balance of stock was taken over by B at Rs. 9,000.
The accounts between the co-venturers were settled by cash payment on this
date. The co-venturers are entitled to interest at 12% per annum. Prepare
necessary ledger accounts in the books of venturers as per Memorandum Joint
Venture Account Method.
Solution
Memorandum Joint Venture Account
Dr.
Cr.
Particulars
Rs.
Particulars
Rs.
5,000
By A (sales)
6,000
To B (Cost of goods) 10,000
By B (sales)
10,000
To B (Freight etc.)
By B (interest)
To A (cost of goods)
1,000
To A (expenses)
500
To B (expenses)
1,500
To A (interest)
50
By B (stock taken)
9,000
135
Profit transferred
A : 3457
B : 3458
6,915
25,050
25050
Joint Venture with B Account
Dr.
Date
Cr.
Particulars
Rs.
Date
1999
Jan. 1
Particulars
Rs.
Jan 15 By Bank A/c
3,000
1999
To Bank A/c
5,000
(Purchase)
(Sales)
18
Feb. 1
To Bank A/c
5,000
Feb. 15 By Bank A/c
(Creditors)
Mar. 1
3,000
(Sales)
To Bank A/c
500
Mar. 15 By Bank A/c
(Expenses)
8,902
(Final settlement)
Mar. 31 To Interest a/c
135
Mar. 31 To Profit & Loss
A/c
3,457
14,092
14,902
B's Books
Joint Venture with A Account
Dr.
Date
Cr.
Particulars
Rs.
Date
1999
Jan 1
Particulars
Rs.
1999
To Bank A/c
1,000
Jan 31 By Bank (Sales)
6,000
(Freight)
Feb. 1
To Bank A/c (Exp)
1,500
Mar. 31 By Bank (sales)
4,000
Mar. 1
To Bank A/c (Crs)
5,000
Mar. 31 By Goods A/c
9,000
Stock taken over
Mar. 31 To Profit & Loss A/c 3,458
Mar. 31 To Bank A/c
Mar. 31 By Interest A/c
50
8,092
(Amt. Paid in
Final Statement)
19,050
19,050
19
Calculation of Interest :
Payment by A
Date
Amount
Month
Product (Rs.)
1.1.99
Rs. 5,000
3
15,000
(5,000 x 3)
1.3.99
Rs. 500
1
500
(500 x 1)
1.2.99
Rs. 5,000
2
10,000
(5,000 x 2)
25,000
Interest = 25,500 x 12 x 1
100
12
= Rs. 255
Receipts by A
15.1.99
Rs. 3,000
2.5
7,500
(3,000 X 2 ½)
15.2.99
Rs. 3,000
1.5
4,500
(3,000 x 1 ½)
12,000
Interest = 12,000 x 12/100 x 1/12 = 120
Net Interest due = 265 - 120 = Rs. 135
Payment by B
1.1.99
Rs. 1,000
3
3,000
1.2.99
Rs. 1,500
2
3,000
1.3.99
Rs. 5,000
1
5,000
11,000
Interest = 11,000 x 12/100 x 1/12 = Rs. 110
Receipts by B
31.1.99
Rs. 6,000
2
12,000
1.3.99
Rs. 4,000
1
4,000
16,000
Interest = 16,000 x 12/100 x 1/12 = Rs. 160
Net Interest due from B = 160 - 110 = Rs. 50
20
C)
Separate Books
Recording of transactions is done not in books of parties but in a separate
set of books. Co-venturer first contributes to a common bank account and then
all payments are made through it. Accounts of parties are also opened. Profit
or Loss on Joint Venture is transferred to the respective partner's accounts in
due ratios. Finally, the books are closed with the close of the venture.
Three main accounts opened under separate set of accounts are:
1.
Joint Venture Account
2.
Joint Bank Account, and
3.
Personal Capital Accounts of Joint Venturers.
The following entries will be passed under this system
1)
When cash is invested by Joint Venturer
Joint Bank A/c Dr.
To Capital Accounts of Joint Venturers.
(Being cash invested by Joint Venturers and deposited into the Bank)
2)
When purchases are made for joint venture out of bank A/c
Joint Venture A/c Dr.
To Joint Bank A/c
(Being Purchase made for Joint Venture)
3)
When expenses are incurred for joint venture out of Bank A/c
Joint Venture A/c Dr.
To Joint Bank A/c
(Being expenses incurred for Joint Venture Account)
21
4)
When sales are made
Joint Bank A/c Dr.
To Sales
(Being sales made and receipts from sales deposited into Bank)
5)
When some products are left unsold and are taken away by Joint Venturers
Capital accounts of Joint Venturer A/c
Dr.
To Joint Venture A/c
(Being unsold stock taken by Joint Venturers)
6 (a) For Profit on Joint Venture account
Joint Venture A/c Dr.
To capital accounts of Joint Venturers A/c
(Being profit earned on Joint Venturers)
6 (b) The reverse entry will be passed in cases of losses on Joint Venture.
Illustration 4
X and Y enter into joint venture to underwrite public issue of Reliance
Ltd. They agree to guarantee the subscription at par on 1,00,000 shares of Rs.
10 each of Reliance Ltd. and sharing profits and losses in the ratio of 2:3. The
terms with the company are 4.5 % commission payable in cash and 6,000 fully
paid shares of the company. They agreed to pay expenses in connection with
the issue of shares. The expenses incurred are advertisement Rs. 5,000; Printing
and stationery Rs. 2,000 and postage Rs. 600. All expenses are paid by X. The
public subscribed to 88,000 shares only. The remaining shares under the
agreement were duly taken by X and Y who provided the necessary cash equally.
The commission is received in cash and is shared by the co-venturers in the
22
ratio of 4:5. The entire holding of the joint venture is then sold in the market
through brokers as follows : 25% at a price of Rs. 9 per share, 50% at a price
of Rs. 8.75 per share, 15% at a price of Rs. 8.50 per share and the remaining
10% is taken over by A and B equally at an agreed price of Rs. 8 per share.
Prepare the Joint Venture Account, Joint Bank Account, Shares Account and
the Accounts of X and Y showing the final statement.
Solution
Joint Venture Account
Dr.
Cr.
Particulars
Rs.
To
Particulars
Rs.
By Joint A/c
45,000
Advertisement
5000
(commission)
Printing
2000
By shares a/c
Postage
600
To Shares A/c
7,600
60,000
(commission)
23,400
(Loss on sale)
To profit transferred to
X:
29,600
Y:
44,400
74,000
1,05,000
1,05,000
Joint Bank Account
Dr.
Particulars
Cr.
Rs.
Particulars
Rs.
To X (contribution)
60,000
By Shares A/c
To Y (contribution)
60,000
By X (commission)
20,000
To Joint Venture
45,000
By Y (commission)
25,000
23
1,20,000
(Commission)
By X (final settlement) 70,000
To Shares A/c (sale for
By Y (final settlement) 72,000
cash)
25%
40,500
50%
78,750
15%
22,950
1,42,200
3,07,200
3,07,200
Share Account
Particulars
To Joint Bank a/c
Rs.
1,20,000
Particulars
By Joint Bank A/c
Rs.
40,500
(Sale of Shares)
To Joint Venture
60,000
(commission)
By Joint Bank A/c
78,750
(sale of shares)
By Joint Bank A/c
22,950
(Sale of shares)
By X (shares taken over) 7,200
By Y (shares taken over) 7,200
By Joint Venture A/c
1,80,000
23,400
1,80,000
X's Account
Particulars
To Joint Bank A/c
Rs.
20,000
(Commission)
To Shares A/c
Particulars
By Joint Venture A/c
Rs.
7,600
(Expenses)
7,200
By Joint Bank A/c
60,000
(Commission)
To Joint bank A/c
70,000
(Final Settlement)
By Joint Venture A/c
29,600
(Profit)
97,200
24
97,200
Y's Account
Particulars
To Joint Bank A/c
Rs.
25,000
(Commission)
To Shares A/c
Particulars
By Joint Bank A/c
Rs.
60,000
(Commission)
7,200
By Joint Venture A/c
44,400
(Profit)
To Joint Bank A/c
72,200
(Final Settlement)
1,04,400
Working Notes
1.
Distribution of commission received in cash
4.5 % of Rs. 10,00,000 = Rs. 45,000
Xs shares 4/9 x 45,000 = Rs. 20,000
Y's shares 5/9 x 45,000 = Rs. 25,000
2.
Treatment of shares received
Shares received by way of commission
6,000
Shares not subscribed by public
12,000
Total Number of shares received
18,000
a)
Sold for cash
25% of 18,000 i.e. 4,500 shares sold @ Rs. 9 per share Rs.
40,500
50% of 18,000 i.e. 9,000 shares sold @ Rs. 8.75 per share
Rs. 78,750
25
1,04,400
15% of 18,000 i.e. 2,700 shares sold @ Rs. 8.50 per share
Rs. 22,950.
b)
Dividend amongst X and Y
10 % of the remaining shares i.e. 1,800 shares are taken over equally by
X and Y at an agreed price of Rs. 8 per share.
X : 900 shares @ Rs. 8 per share = Rs. 7200
Y : 900 shares @ Rs. 8 per share = Rs. 7200
1.6
SUMMARY
A joint venture is a contractual arrangement between two or more parties
to undertake an economic activity, which is subject to joint control, i.e., agreed
sharing of power to govern the financial and operating policies of an economic
activity, so as to obtain benefits from it. A joint venture arises because of the
limitations of a person due to constraint of available time, money expertise to
execute a job etc. Despite broad similarities between joint venture and
partnership, the two types of business differ considerably. A joint venture can
also be distinguished from the consignment although both forms of business
arise because of inherent limitations of a person to undertake a business
effectively on his own. It is necessary to maintain proper accounts of all
transactions of joint venture so that correct profit or loss on joint venture may
be ascertained. The main methods of recording joint venture transactions are
by creating an independent set of books of the joint venture which do not form
part of the accounting system of an co-venturer, to record all the transactions
of the joint venture, whether, entered by himself or by his co-venturer and to
record only those transactions of the joint venture in which he himself features.
26
1.7
KEYWORDS
Joint Venture: When two or more persons joint together to carry out a specific
business and share the profits or losses on predetermined basis, it is known as
a joint venture.
Co-venturer Account: It is a personal account and debited with sales made by
the co-venturer or goods taken by him and is credited with assets given by him
for the venture and expenses paid by him.
Memorandum Joint Venture Account: The profit or loss of the venture is
computed in an account which is not part of the double entry mechanism and is
termed as Memorandum Joint Venture Account.
1.8
SELF ASSESSMENT QUESTIONS
1.
Define a joint venture and give its various features. Name the different
methods used to record joint venture transactions.
2.
Distinguish joint venture from consignment and partnership.
3.
Give the various journal entries to be passed in case where separate set
of books are maintained for recording joint venture transactions.
4.
What is a Memorandum Joint Venture Account? Give the various journal
entries when accounts are maintained under this method.
5.
Give the various journal entries to be passed in case where no separate
set of books are maintained for recording joint venture transactions.
6.
Ramesh and Suresh entered into a joint venture to purchase and sell
hosiery goods. Profit and losses were to be shared equally. Ramesh
financed the venture and Suresh undertook the sales on a commission of
5% on the sales proceeds. Ramesh purchased goods to the value of Rs.
50,000 less 5% trade discount, paid freight Rs. 1,500 and advanced Rs.
1,200 to Suresh to meet expenses. Suresh expended for carriage Rs.
27
300, rent Rs. 450, advertisement Rs. 200 and sundries Rs. 150. Sales
made by Suresh amounted to Rs. 67,500. It was agreed that Ramesh
should receive Rs. 2,500 as interest.
Remaining unsold goods costing Rs. 2,500 were retained by Suresh and
those were charged to him at a price to show the same rate of gross
profit (without charging any expenditure) as that made on the total sales
(excluding those goods taken).
Give journal entries in the books of Ramesh and Suresh and also prepare
the necessary ledger accounts in their books.
7.
Vikas and Vishal entered into a joint venture of underwriting 1,00,000
shares of Rs. 10 each at par issued by a joint stock company. The
consideration for underwriting the shares was 2,500 other shares of Rs.
10 each fully paid to be issued to them.
The public took up 90,000 shares and the remaining 10,000 shares of
the guaranteed issued were taken up by Vikas and Vishal who provide
cash equally for the purchase of remaining shares. The entire share
holding of the joint venture was then sold through other brokers: 50% at
a price of Rs. 10 less brokerage 50 paise per share; 20% at Rs. 9.50 less
brokerage 50 paise per share and the balance were taken up by Vikas and
Vishal equally at Rs. 9 per share. Expenses on account of joint venture
were: advertisement Rs. 750 and other expenses Rs. 250. You are
required to prepare; (a) Joint Venture Account; (b) Joint Bank Account;
and (c) Accounts of Vikas and Vishal.
8.
A and B entered into a joint venture for the purchase and sale of materials
auctioned by the Government. A agreed to provide funds for the purchase
of materials, and B to devote his time. The profit and loss was to be
shared equally, subject to a credit of Rs. 500 to A by way of interest on
28
his capital. A purchased materials worth Rs. 50,000; and drew a bill at
two months for Rs. 20,000 on B which was duly accepted by the latter.
The bill was discounted at a cost of Rs. 260. The various expenses relating
to the venture were:
a)
A paid Rs. 250 for carriage, Rs. 100 for brokerage, and Rs. 50 for
miscellaneous expenses.
b)
B paid Rs. 300 for commission, Rs. 200 for insurance, and Rs.
100 for miscellaneous expenses.
The total sales amounted to Rs. 72,000 (cash). There was, however, some
stock of unsold goods which was taken over by both the parties, at Rs.
200 by A and at Rs. 300 by B. B paid the amount due to A. The expenses
in connection with the discounting of the bill were to be treated as a
charge against the venture. Prepare Joint Venture Account in the books
of A and B separately and a Memorandum Joint Venture Account.
9.
C of Calcutta and D of Delhi entered into a joint venture for the purpose
of buying and selling second-hand motor cars, C to make purchases and
D to effect sales. The profit or loss was to be shared as to C two-fifths
and D three-fifths. A sum of Rs. 10,000 was remitted by D to C towards
the venture.
C purchased 10 cars for Rs. 8,000, paid Rs. 4,350 for their reconditioning
and sent them to Delhi. His other expenses were -Buying Commission
2½ per cent and Sundry Expenses Rs. 350.
D took delivery of the cars by paying Rs. 750 for railway freight and Rs.
375 for octroi. He sold four cars at Rs. 1,600 each, two at Rs. 1,800
each and three at Rs. 2,250 each. He retained the remaining car for
himself at an agreed value of Rs. 2,100. His expenses were-Insurance
Rs. 150; Garage Rent Rs. 250; Brokerage Rs. 685; Sundries Rs. 450.
29
Each party's ledger contains a record of his own transactions on joint
account. Prepare a statement showing the result of the venture and the
account of the venture in each party's ledger as it will finally appear,
assuming that the matter was finally settled between the parties.
1.9
SUGGESTED READINGS
1.
Fundamentals of Accounting by R.L. Gupta and V.K. Gupta, Sultan Chand
and Sons, New Delhi.
2.
Advanced Accounting by R.L. Gupta and M. Radhaswamy, Sultan Chand
and Sons, New Delhi.
3.
Advanced Accounting by Ashok Sehgal and Deepak Sehgal, Taxmann
Allied Services Pvt. Ltd., New Delhi.
4.
Advanced Accounts by M.C. Shukla, T.S. Grewal and S.C. Gupta, S. Chand
and Co. Ltd., New Delhi.
5.
Fundamentals of Advanced Accounting by R.S.N. Pillai and V. Bagavathi,
S. Chand and Co. Ltd., New Delhi.
6.
Studies in Advanced Accounting by S.N. Maheshwari, Sultan Chand and
Sons, New Delhi.
7.
Financial Accounting by Shashi K. Gupta, Nisha Aggarwal and Neeti
Gupta, Kalyani Publishers, Ludhiana.
30
Lesson : 2
CONSIGNMENT ACCOUNTS
STRUCTURE
2.0
Objective
2.1
Introduction
2.3
Distinction between Consignment and Sale
2.4
Procedure to be followed in case of Consignment
2.5
Accounting Treatment of Consignment Transactions
2.6
Valuation of Stock on Consignment
2.7
Accounting for Loss of Goods
2.8
Invoicing goods higher than cost
2.9
Summary
2.10 Keywords
2.11 Self Assessment Questions
2.12 Suggested Readings
2.0
OBJECTIVE
After reading this lesson, you should be able to
a)
Understand the meaning of consignment and explain the difference
between consignment and sale
b)
Explain the accounting treatment of consignment transactions
c)
Account for normal and abnormal losses in consignment
1
2.1
INTRODUCTION
Now-a-days it is quite common that manufacturers or wholesale dealers
despatch goods to their agents at home and abroad to increase their sales. The
knowledge of the agent of the local conditions where he resides proves useful
in increasing the sales. Moreover it is very expensive for the manufactures to
sell the goods directly either in home market or in foreign market. Therefore,
different agents are appointed for different places.
2.2
MEANING OF CONSIGNMENT
It is common practice with practically all manufacturers or wholesalers
to sell goods through agents both within the country and abroad. The goods are
sent to be kept and sold on behalf of and at the risk of sender by the recipient.
The person who forwards the goods for sale is consignor, the person to whom
goods are forwarded for sale is ‘consignee’ and goods so sent are called ‘Goods
sent on Consignment’. Consignment is a means of facilitating sale but is not
actually a sale. Consignment is different from sales. A consignment is returnable
if goods are not sold but in case of sale, the goods are not returnable except
for special reasons, such as on account of damage or if below standard goods
are supplied. When goods are sold to a person the property in them passes to
that person, but when goods are consigned to a person the legal ownership of
the goods remains with the consignor. Hence when goods are sold the
relationship between two parties is that of a creditor and debtor but when the
goods are consigned relationship between the consignors and consignee is
that of ‘principal’ and ‘an agent’.
2.3
DISTINCTION BETWEEN CONSIGNMENT AND SALE
The following points summarize clearly, the difference between a
consignment and a sale.
2
Sr. Basis
Consignment
1. Property in goods Ownership remains with
i.e. Ownership
2. Relation
Sale
Ownership passed to
the consignor
the buyer
Consignee is the agent
Buyer is debtor of
of the consignor
seller until the
account is settled.
3. Risk and damage
Consignee holds the
Any subsequent
goods at the risk of the
damage to the goods
consignor therefore
is the loss of the
subsequent damage to
buyer
the goods is the loss of
the consignor
4. Return of goods
Goods may be returned if
Goods are not
not sold
returnable except for
special reasons e.g.
wrong kind or
defective goods etc.
5. Expenses after
delivery
Recoverable from the
To be borne by the
consignor
buyer
6. Forwarding letter Proforma invoice
3
Invoice
2.4
PROCEDURE TO BE FOLLOWED IN CASE OF CONSIGNMENT
When the goods are despatched by the consignor to the consignee, the consignor
makes out a statement known as ‘proforma invoice’ like a regular invoice giving
details about the consignment and price which is normally at cost, but
occasionally it may be at invoice price which is above the cost.
The consignee does not become liable for the payment of amount named
in the invoice, but as matter of advance for goods, he usually makes payment in
advance either by accepting a bill or by remitting a bank draft.
(a)
Account Sale : The consignee renders to his consignor regularly a
statement showing sales, expenses incurred, commission charged and
remittance made with the resultant balance due by him. This statement is known
as ‘Accounts Sales’.
On receipt of Account Sales the consignor shall make entries in his
books of account and complete the Consignment account and the Consignee’s
account.
(b)
Advance on Consignment : It is common practice for the consignor to
ask the consignee for some deposit as a security for goods sent on consignment
to the consignee. It may be paid by any mode of payment-cheque, cash or even
bills of exchange.
(c)
Commission : The consignee usually gets a commission for selling the
goods on behalf of the consignor as a fixed percentage on sales. So more the
sales more will be the commission earned by the consignor. But there are some
other kinds of commission which are sometimes given to the consignee for
4
extra burden and activities i.e. Del Credre Commission and over-riding
Commission.
(i)
Del Credre Commission : Ordinarily the consignee is not responsible
to the consignor for the payment of money by the purchasers but sometime he
undertakes to guarantee payment due for all the goods he sells on credit and
cash whether his customers pay him or not. In consideration of his this
warranting the solvency of the buyers, he is paid an extra commission called a
Del Credre Commission. The consignee will pay the consignor whether he
himself receives payment from debtors or not. The commission is payable on
total proceeds.
(ii)
Over-Riding Commission : It is an extra commission in addition to
ordinary commission. This commission is also calculated on sales like ordinary
commission. This commission is generally given by the consignor to the
consignee to enhance the sale or to boost up the sales of a new product.
(d)
Proforma Invoice : Since the goods sent on consignment can not be
treated as sales, the consignor does not prepare proper invoice. He simply
prepares a Proforma invoice and sends it to the consignee, alongwith the goods
despatched. This is prepared with a view to inform the consignee about price
of goods, expenses incurred, mode of transportation and the minimum sale
price at which the goods are to be sold.
(e)
Expenses : Expenses relating to consignment of goods are divided into
two categories vis. (i) Non-recurring expenses and (ii) Recurring expenses.
Non-Recurring Expenses : All the expenses which are incurred for bringing
goods to the godown of the consignee are non recurring in nature. Such
expenses are generally goods have reached the consignee’s place or godown.
5
They are recurring in nature because they may be incurred repeatedly by the
consignor and consignee. The examples of recurring expenses incurred by the
consignor are advertising, discount of bills, commission on collection of
cheques, travelling expenses of salesmen, bad debts etc. The examples of
recurring expenses incurred by the consignee are godown rent; godown
insurance, sales promotion etc.
2.5
ACCOUNTING TREATMENT OF CONSIGNMENT TRANSACTIONS
(A)
Books of the Consignor : The consignor opens three accounts in his
ledger.
(1)
Consignment Account : It is prepared to ascertain profit or loss on
each consignment e.g. Consignment to Bombay Acount. It is not a personal
account but a special Trading and Profit and Loss account or a nominal account.
(2)
Consignee’s Account : It is prepared to show the balance due to or
from consignee at a particular date. It is a personal account; and
(3)
Goods sent on Consignment Account : It is prepared to show the amount
of goods sent to the consignee. This is real account. The balance is credited to
Purchase or Trading Account.
Journal Entries
1
(a)
When the goods are sent on consignment at cost or at invoice
price:
Consignment A/c
Dr.
To Goods sent on consignment A/c
(Being goods sent on Consignment at cost)
6
(b)
If goods are sent at invoice price then one more entry is needed
for making the adjustments. The amount of this entry is the
difference between the invoice price and the cost price. The entry
will be:
Goods sent on consignment A/c
Dr.
To Consignment A/c
2.
When expenses are incurred by the Consignor:
Consignment A/c
Dr.
To Bank A/c
(Being expenses incurred)
3.
When the Account Sales is received from the Consignee :
(i)
Consignee A/c
Dr.
To Consignment A/c
(Being the total sales by consignee)
(ii)
Consignment A/c
Dr.
To Consignee A/c
(Being the expenses incurred by consignee and with his
Commission)
4.
When the consignee remits the cash or bills:
Bank A/c/ Cash A/c/Bills receivable A/c
To Consignee A/c
(Being Cash/B/R received)
7
Dr.
5.
When bills is discounted with Bank:
Cash A/c/ Bank A/c
Dr.
Discount A/c
To Bills receivable A/c
(Being B/R discounted with the Bank)
6.
For Stock remaining unsold:
Consignment stock A/c
Dr.
To Consignment A/c
(Being the value of stock plus proportionate expenses)
7.
For Abnormal Loss of stock:
General Profit & Loss Account A/c
Dr.
(with unrecoverable loss)
Insurance company A/c (with total recoverable loss)
Dr.
To Consignment A/c (with total loss)
(For the abnormal loss of stock, amount recoverable and amount not
recoverable)
8.
For Profit or loss on Consignment:
(i)
If there is profit on Consignment
Consignment A/c
Dr.
To general Profit and Loss A/c
(Being the Profit on consignment transferred to Profit and Loss A/c)
(ii)
If there is loss on Consignment
General Profit and loss Account
Dr.
To Consignment A/c
(Being the loss on Consignment transferred to Profit & Loss Account)
8
9.
For settlement of account with consignee:
Bank/Bills recoverable
Dr.
To Consignee A/c
(Being amount sent for final settlement)
The Goods sent on Consignment Account’ which shows credit balance
will now be transferred to the Trading Account. Then the entry is :
Goods sent on consignment Account
Dr.
To Trading A/c
(Being the goods sent on consignment account transferred to trading
account).
Ledgers
a)
Consignment Account : Consignor prepares this account in his ledger.
In it all transactions of a consignment are shown. This account discloses
profit or loss incurred by each consignment. Debit side shows goods
sent on consignment expenses incurred by consignor and consignee,
consignees commission, bad debts etc. Credit side shows total sales
(cash and credit), goods returned, and unsold stock etc. The difference
between the debit and credit totals of Consignment Account is regarded
as profit or loss which is transferred to the Profit and Loss Account and
the Consignment Account stands closed. It is infact a nominal account
and is just like Trading and Profit and Loss Account about which you
must have studied earlier in final accounts. Therefore the principles
applied to Trading and Profit and Loss Account hold good for this account
also. Like Trading and Profit and loss Account all expenses and purchases
are debited to this account and all sales and incomes are credited.
9
b)
Goods sent on consignment Account : This account shows the goods
transferred from the consignor to the consignee and goods returned by
the consignee to the consignor. All the goods consigned by the consignor
will be credited to this account and the goods returned by the consignee
are debited to this account. The balance represents the cost of goods
with consignee for sale, and is transferred to the Trading Account.
c)
Consignee’s Account : This account discloses what amount is due from
the consignee. The consignee’s account is debited with all cash and is
credited by sales effected by the consignee. The various expenses
incurred by the consignee, the commission charged by him as well as
the advance remitted by him are credited to this account. This account
usually shows a debit balance indicating the amount due from the
consignee. At times it may show credit balance, if the advance given by
the consignee is more than the sale affected by him. The balance revealed
by this account is shown in the balance sheet of the consignor.
Illustration 1 : Vimal Mills Ltd. sent 100 pieces of suiting to Lal Garments
House of Delhi on consignment basis. The consignees are entitled to receive
5 per cent commission plus expenses. The cost of Vimal Mills Ltd. is Rs.
200 per suiting. Lal Garments House pays following expenses :
Railway Freight
Rs. 500
Godown Rent & Insurance
Rs. 1,000
Vimal Mills Ltd. draw on the consignees a bill for Rs. 10,000
which is duly accepted. Subsequently it is discounted for Rs. 9,500. The
consignees informed the consignor of the sale of the entire consignment for
10
Rs. 28,500. Show journal entries and ledger accounts in the book of the
consignor.
Solution
Journal entries in the Book of Vimal Mills Ltd. (Consignor)
Date
Particulars
Dr.
Consignment A/c
Dr.
Cr.
20,000
To goods sent on
consignment A/c
20,000
(100 pieces of suiting consigned to Lal
Garments House at cost Rs. 200 per suiting)
Bill receivable A/c
Dr.
10,000
To Lal Garment House
10,000
(Being of the bills of exchange received from
consignee)
Cash Account
Dr.
9,500
Discount Account
Dr.
500
To bill receivable A/c
10,000
(being bill discounted with the bank)
Lal Garment House
Dr.
28,500
To Consignment A/c
28,500
(Being gross proceeds of the goods sold)
Consignment A/c
Dr.
To Lal Garment House
(being the expenses incurred
by Lal Garment house)
11
1,500
15,00
Consignment A/c
Dr.
1,425
To Lal Garment House
1,425
(Being Commission @ 5% on sales)
Consignment A/c
Dr.
5,575
To Profit & Loss A/c
5,575
(Being profit on consignment transferred)
Goods sent on
Consignment A/c
Dr.
30,000
To Trading A/c
30,000
(Being goods sent on consignment
A/c transferred to trading A/c
Ledger Accounts
Consignment Account
Dr.
Cr.
Particulars
To goods sent on
Rs.
Particulars
20,000
By Lal Garment House
consignment A/c
Rs.
28,500
(Sales)
To Lal Garments
1,500
To Lal Garment House
1,425
(commission)
To Profit & Loss A/c
5,575
(Profit on consignment)
28,500
12
28,500
Lal Garments House
Dr.
Cr.
Particulars
To consignment A/c
Rs.
Particulars
Rs.
28,500
By bills receivable
10,000
By Consignment A/c
1,500
(Expenditure)
By Consignment A/c
1,425
(Commission)
By Balance c/d
15,575
28,500
28,500
Goods Sent on Consignment Account
Particulars
To Trading A/c
Rs.
Particulars
Rs.
20,000
By Consignment A/c
20,000
(transferred)
20,000
20,000
B. Books of the Consignee
Consignee need not pass any entry in his books on the receipt of goods by
him or for expenses incurred by the consignor. He should, in principle, open
the Consignor’s Account in his books and route all the transactions through it
in the following manner:
1.
When cash is remitted or bill is accepted
Consignor A/c
Dr.
To Cash A/c/Bills payable A/c
(Being cash remitted or bills accepted).
13
2.
When expenses are incurred
Consignor A/c
Dr.
To Cash A/c
(Being expenses incurred on consignment)
3.
When sale is made on Consignment
(i)
For cash sales
Cash a/c
Dr.
To Consignor’s A/c
(ii)
For credit sales
Debtor’s A/c
Dr.
To Consignor A/c
(Being goods sold on credit)
4.
On remitting balance to consignor after commission
Consignor’s A/c
Dr.
To Cash A/c/Bank A/c
To Commission A/c
(Being cash remitted after commission)
Note : (A)
For unsold stock lying with consignee, no entry is to be
passed in his book of account.
(B)
Consignee does not pass any entry for profit or loss in his
books.
The consignee also prepares ledger accounts after passing all the journal
entries. The Consignor’s Account and Commission Account are the two
important account prepared by the consignee in his books. Of course he will
also do the postings to the other accounts such as Consignment Debtor’s
Account, Consignment Expenses Account and Bills Payable Account etc.
14
(a)
Consignor’s Personal Account : It is the main account of Consignee’s
books which is prepared for working out the amount due to the consignor.
Whatever amount he receives from sales of goods is credited to this account.
All expenses incurred by the consignor in relation to consignment the
commission due to him and the advance given by him to the consignor will be
debited to this account. Further, if the consignee does not get del credre
commission, the bad debts on account of credit sales are also debited to the
Consignor’s Account. The balance of this account indicates the amount payable
to the consignor. This account is just the opposite of the Consignee’s Account
in the books of the consignor.
(b)
Commission Account : It is nominal account. It shows the income
earned by the consignee for the services rendered by him. All types of
commission whether ordinary or special, due to the consignee is credited to
this account. The commission account will be debited with bad debts if the
consignee is to bear such loss because of del credre commission.
To continue with the same illustration No. 1, the consignee will have
the following journal entries and ledger accounts:
Journal Entries
Date
Particulars
L.F.
Dr.
Vimal Mills Ltd.
Dr.
10,000
To Bills payable A/c
Cr.
10,000
(Being bill accepted)
Vimal Mills Ltd.
Dr.
To Cash A/c
1,500
1,500
(Being expenses (incurred)
15
Cash A/c
Dr.
28,500
To Vimal Mills
28,500
(Being Sales proceeds
received on consignment)
Vimal Mills Ltd.
Dr.
1,425
To Commission A/c
1,425
(Being 5% commission on total sales)
B/P A/c
Dr.
10,000
To Cash A/c
10,000
(Being bill met on maturity)
Ledger Account
Vimal Mills Ltd. (Consignor)
Dr.
Cr.
Particulars
Rs.
Particulars
Rs.
To Bill payable A/c
10,000
By Cash (sale proceeds)
28,500
To Cash A/c (expenses)
1,500
To Commission A/c
1,425
To Balance c/d
15,575
28,500
28,500
Illustration 2. :- B. Ghosh of Bombay sent on consignment to Alok of Calcutta
300 cases @ Rs. 125 on 1st July 2006 to be sold on his account and at his risk
for 10% commission B. Ghosh incurred Rs. 3,000 expenses on dispatching
the goods to Alok. On July 10, 2006 B. Ghosh received a bill for Rs. 20,000 at
2 months from Alok. On September 30, 2006 Alok sent on account sales
disclosing that 200 cases have been sold for Rs. 160/- each and the remaining
16
cases @ Rs. 150/- each. The account sales also discloses that Alok has incurred
unloading expenses Rs. 600 and selling expenses Rs. 900. He sends a draft for
the net amount due.
You are required to :
(a)
Prepare the account sales; and
(b)
Enter the transactions in the books of both the parties.
Solution
Account sales of 300 cases received from B. Ghosh to be sold on
his account and risk.
200 cases @ Rs. 160
32,000
100 cases @ Rs. 150
15,000
47,000
Less : Expenses
Unloading expenses
600
Selling expenses
900
1,500
4,700
Commission @ 10% on sales
6,200
RS. 47,000 (Rs. 32,000 + Rs. 15,000)
40,800
Less Bill given as an advance
20,000
on 10.7.1999
Balance (draft enclosed herewith)
20,800
E & O. E.
Alok
Calcutta 30th Sept., 2006
17
Journal Entries in the Books of B. Ghosh (Consignor)
Journal
Date
Particulars
2006
Consignment A/c
July1
L.F.
Dr.
Dr.
Cr.
37,500
To goods sent on
consignment A/c
37,500
(Being 300 cases @ Rs. 125 sent
on consignment to Alok)
July 1
Consignment A/c
Dr.
3,000
To Bank A/c
3,000
(Being expenses incurred
on account of goods sent on
consignment)
Sep 10 Bills receivable A/c
Dr.
20,000
To Alok
20,000
(Being an acceptance
for 2 months bill from
Alok as an Advance)
Sep 13 Bank Account
Dr.
20,000
To Bills Receivable A/c
20,000
(Being the acceptance
of Alok on the due date)
Sep 30 Consignment A/c
Dr.
1,500
To Alok
1,500
(Being unloading expenses
Rs. 600 and selling expenses
Rs. 900/- incurred by Alok)
18
Sep 30 Alok
Dr.
47,000
To Consignment A/c
47,000
(Being goods sent on
consignment sold by
Alok-200 cases @ Rs. 160
and 100 case @ Rs. 150)
Sep. 30 Consignment A/c
Dr.
4,700
To Alok
4,700
(Being commission
payable to Alok @
10% on Rs. 47,000)
Sep 30 Bank A/c
Dr.
20,800
To Alok
20,800
(Being amount due from
Alok received)
Sep 30 Consignment A/c
Dr.
300
To Profit & Loss A/c
300
(Being profit on consignment
transferred to Profit
and Loss A/c)
Sep.30 Goods sent on
consignment A/c
37,500
Dr.
To Trading A/c
37,500
(Being goods sent on
consignment transferred
to Trading A/c)
19
Ledger
Consignment Account
Dr.
Date
Cr.
Particulars
Rs.
Date
Particulars
To good sent on
37,500 Sep 30 By Alok (Sales)
Rs.
2006
July1
consignment A/c
200 cases @ 160 32,000
100 case @ Rs. 150 15,000 47,000
July 1
To Bank A/c (Exp)
3,000
Sep 30
To Alok (Expenses)
1,500
Sep 30
To Alok (Commission)
4,700
Sep 30
To Profit transferred to
300
profit & loss a/c
47,000
47,000
Goods sent on Consignment Account
Dr.
Date
Cr.
Particulars
Rs.
Date
Particulars
Rs.
Sept30 To Trading A/c
37,500
July1
By Consignment to
37,500
Sept30 To Trading A/c
37,500
July1
By Consignment to
37,500
2006
Calcutta a/c
37,500
37,500
20
Bills Receivable Account
Dr.
Date
Cr.
Particulars
Rs.
Date
2006
Jul10
Particulars
Rs.
2006
To Alok
20,000
Sep.13 By Bank A/c
20,000
20,000
20,000
Alok
Dr.
Date
Cr.
Particulars
Rs.
2006
Sept 30
Date
Particulars
Rs.
By bills receivable
20,000
2006
To Consignment a/c
47,000
(Sales)
Jul 10
Sep 30 By consignment to
1,500
Calcutta C/c (Exp)
Sep 30 By Consignment A/c
4,700
(Commission)
Sep 30 By Bank a/c
47,000
20,800
47,000
Bank Account
Dr.
Date
Cr.
Particulars
Rs.
2006
July 1
Date
Particulars
Rs.
2006
To balance b/c
July 1
By consignment a/c 3,000
Sep 13 To Bills receivable 20,000
Sep. 30 To Alok
20,800 Sep.30
21
By Bal. c/d
Profit and Loss Account
2006
Sep 30 By Consignment to
300
Calcutta a/c
Entries in the Books of Alok (Consignee) Journal
Date
Particulars
Jul 10
B. Ghosh
Dr.
Dr.
Cr.
20,000
To Bills payable A/c
20,000
(Being acceptance of bill for 2 months given)
Ghosh
Dr.
1,500
To Bank A/c
1,500
(Being unloading expenses Rs. 600
and selling expenses Rs. 900
incurred on account of B. Ghosh)
Sep 13 Bills payable A/c
Dr.
20,000
To Bank A/c
20,000
(Being bill met on the due date)
Bank A/c
Dr.
47,000
To B. Ghosh
47,000
(Being goods sold on behalf of B. Ghosh)
Sep 30 B. Ghosh
Dr.
4,700
To Commission A/c
4,700
(Being 10% commission on
sales charged to B. Ghosh).
22
Sep 30 B. Ghosh
Dr.
20,800
To Bank A/c
20,800
(Being bank draft sent to B. Ghosh
for the amount due)
B. Ghosh
2006
Jul 10
To Bills payable A/c
20,000
To Bank A/c
1,500
By bank A/c (sales)
47,000
(expenses)
Sep 30 To commission A/c
4,700
Sep 30 To Bank A/c
20,800
47,000
47,000
Bills Payable Account
2006
Sep 13 To Bank Account
20,000 July 10
B. Ghosh
20,000
B. Ghosh
4,700
By B. Ghosh
1,500
By Bills payable
20,000
By B. Ghosh
20,800
Commission Account
2006
Sep 13
Bank Account
2006
July 1
To Balance b/d
To B. Ghosh
? ?
47,000 Sep 13
Sep 30
?
23
Illustration 3
Suresh and Co. of Bombay sent on consignment to Mahesh & Co. of
Delhi 60 cases cutlery goods costing Rs. 175 per case. Expenses incurred by
the consignor at Bombay were : Freight Rs. 275, insurance Rs. 55 and loading
charges Rs. 20.
Suresh & Co. draw on Mahesh & Co. 2 months bills at sight for Rs.
7,000 which the latter accepts. The charges paid by Mahesh & Co. at Delhi
were unloading Rs. 30, Storage Rs. 85, insurance Rs. 15, Commission is payable
to Mahesh & Co. at 2% on all sales in addition to 1½% del credere commission.
The consignee sells for prompt cash 30 cases @ Rs. 225 per case; 25
cases @ Rs. 250 per case and the balance @ Rs. 280 per case. The account was
settled immediately by means of a bank draft.
Write up the transactions and ledger acconts in the books of both the
parties.
Solution
Consignor’s Books Journal
Consignment to Delhi Account
Dr.
10,500
To Goods sent on consignment
10,500
Account
(60 cases consigned @ Rs. 175 per case)
Consignment to Delhi Account
To Bank
Dr.
350
350
(expenses on consignment paid)
24
Bills receivable Acount
Dr.
7,000
To Mahesh & Co.
7,000
(Being Expenses incurred by consignee)
Consignment to Delhi Account
Dr.
130
To Mahesh & Co.
130
(Being Expenses incurred by consignee)
Mahesh & Co.
Dr.
14,400
To Consignment to Delhi Account
14,400
(Sales affected by consignee)
Consignment to Delhi Account
Dr.
504
To Mahesh & Co.
504
(Being Commission due to
the consignee including del
credre commission on sales
i.e. 2% and 1½% of Rs. 14,400)
Bank Account
Dr.
To Mahesh & Co.
6,766
6,766
(Being Received bank draft
in settlement of the accounts)
25
Consignment to Delhi Account
Dr.
To General Profit & Loss a/c
2,916
2,916
(Being Goods sent on consignment
account closed)
Ledger Account
Consignment to Delhi Account
Dr.
July 1
Cr.
To goods sent ton
10,500 By Mahesh &
consignment a/c
To Bank (expenses)
14,400
Co. (sales)
350
To Mahesh & Co. 130
(Expenses)
To Mahesh & Co. 504
(Commission)
634
To General Profit &
Loss A/c
2,916
14,400
26
14,400
M/s Mahesh & Co’s Account
To consignment to Delhi
14,400 By B/R A/c
7000
A/c (sales)
By Consignment to
Delhi Account
Expenses
130
Commission
504
By Bank a/c
634
6,766
14,400
14,400
GOODS SENT ON CONSIGNMENT ACCOUNT
To Trading A/c (transfer) 10,500 By consignment to
10,500
Delhi A/c
Consignee’s Books
Journal
Suresh & Co.
Dr.
7,000
To Bills payable accepted
7,000
(Suresh & Co’s bill accepted)
Suresh & Co.
Dr.
To cash A/c
130
130
(Being cash sent on expenses)
27
Cash account
Dr.
14,400
To Suresh & Co.
14,400
(Sales effected on consignor’s behalf)
Suresh & Co.
Dr.
504
To Commission A/c
504
(Commission @ 2% and del credre
commission @ 1.5% on Rs. 14,400)
Suresh & Co.
Dr.
To Bank A/c
6,766
6,766
(Balance remitted vide draft
No._________ dt. _______ )
Ledger Accounts
M/s Suresh & Co’s Account
To bills payable A/c
7,000
To cash (expenses)
130
To Commission A/c
504
To Bank A/c (draft)
6,766
By cash (sales)
14,400
14,400
14,400
Till now we have presumed that all the gods consigned are sold. But in
practice we find that at the time of submitting the ‘account sale’, a part of
goods consigned may still be unsold and may be lying with the consignee. In
28
order to calculate the true profit or loss on consignment, the unsold stock
should be valued and accounted for.
2.6
VALUATION OF STOCK ON CONSIGNMENT
Valuations of unsold stock is usually done at cost. Cost, in case of
consignment stock, would include the cost at which the goods are consigned
plus, the proportionate non-recurring expenses. All the non-recurring expenses,
whether incurred by the consignor or by the consignees, are to be taken into
account. In the absence of details of expenditure incurred by the consignee,
all expenses incurred by him are to be taken as recurring expenses and thus are
not to be considered in the calculation of closing stock. In other words, while
valuing the closing stock we add such proportionate expenses to the cost price
that have been incurred upto the time the goods are brought to the place of the
consignee. Any other expenses paid by the consignor or the consignee after
this point will not be considered as these expenses do not add to the value of
the goods. Such expenses are godown rent, selling expenses, carriage outwards,
godown insurance, discount etc.
Usually following expenses are added for calculation of closing
stock : Carriage and Freight, Loading Charges, Custom Duty, Clearing Charges,
Dock Dues, Carriage paid upto the Godown, and Unloading charges.
Following are the expenses which are not considered for calculation
of closing stock : Godown rent, Discount, Bad Debts, Insurance of the goods
in the Godown, and Selling and Distribution expenses.
One can notice that all expenses incurred by the consignor are
considered for valuation of the closing stock. The problem arises only selecting
recurring expenses in case of consignee.
29
The value of unsold stock affects the profit or loss on any consignment
so its valuation and recording in the books of consignor is very important. It is
shown on the credit side of Consignment Account for which the journal entry
passed would be as :
Stock on Consignment A/c
Dr.
To Consignment A/c
(Being the values of sold stock)
On the other hand the Consignee, will not pass any entry for the
closing stock. It is because he is not the owner of the goods and does not pass
any entry even when the goods are received or he returns the goods.
2.7
ACCOUNTING FOR LOSS OF GOODS
Goods sent on consignment may be lost or damaged in transit. The
loss of goods may be either (i) normal or (ii) abnormal Treatment in the books
of accounts will depend upon the nature of loss.
Normal Loss : Loss of goods is sold to be normal when it is natural,
unavoidable and is due to inherent characteristic of the goods despatched like
evaporation, sublimation etc. The amount of stock to be carried down is the
proportion of the total cost that the number of units on hand bears to be the
total number units as diminished by loss.
Deficiency of Stock : When there is deficiency of stock at the time of stocktaking and the consignee is under a liability to account for the missing stock,
the entry will be:
30
Consignee
Dr.
To Consignment a/c
(Being the deficiency of stock charged to the consignee).
If, on the other hand, he is not liable, the stock of the consignment
will be shown at the gross figure and the consignment account will be debited
with the loss in stock.
Abnormal Loss : There are the losses which are accidental and not natural
like theft. Abnormal loss may occur in the godown of the consignee or in transit.
Let us see the effect of abnormal loss on the closing stock under both situations.
When the abnormal loss occurs in the godown of the consignee the
valuation of closing stock is not effected because the expenses incurred after
they reach the godown of the consignee are not to be taken into account for
the purpose. Hence, the normal formula will be followed for the valuation of
closing stock. Look at illustration 4 and see how the abnormal loss and the
value of closing stock is calculated when the abnormal loss occurs in the
godown of the consignee.
The treatment in accounts will depend upon whether the unforeseen
loss has been insured against or not. In case of insurance the consignment
account will be credited but the insurance companies or underwriter’s account
will be debited with the amount of loss (which shall be calculated like valuation
of stock on consignment i.e. including proportionate non-recurring expenses
of both the consignor and the consignee). If the goods are not insured, instead
of Insurance Company’s or Underwriter’s Accounts being debited, Profit and
Loss Account will be debited and consignment account will be credited. In
this way the final net profit on consignment is not adversely affected.
31
Illustration 4 : X of Calcutta sent on 15th January, 2006, a consignment of
500 toys bicycles costing Rs. 100 each. Expenses of Rs. 700 met by the
consignor. Y of Bombay spent Rs. 1,500 for clearance and the selling expenses
were Rs. 10 per bicycle.
Y sold, on 4th April 2006, 300 pieces @ Rs. 160 per piece and again
on 20th June 1999, 150 pieces @ Rs. 172.
Y was entitled to a commission of Rs. 25 per piece sold plus one
fourth of the amount by which the gross proceeds less total commission thereon
exceeded a sum calculated at the rate of Rs. 125 per piece sold. Y sent the
amount due to X on 30th June 2006.
You are required to show the Consignment Account and Y’s Account
in the books of X.
Solution
Consignment Account
2006
Rs.
Jan 15
To goods sent on
2006
50,000 Apr 4
consignment a/c 500
Rs.
By Y-sale of 300 48,000
pieces @ Rs. 160
@ Rs. 100
Jan 15
To Bank A/c - Exp.
700
June 20
By Y-sale of 150 25,800
Pieces @ 172
To Y-Clearing Exp
1,500
June 30 By consignment
5,220
stock A/c
Apr 4
To Y-selling Exp
3,000
Jun 20
To Y- selling Exp
1,500
Jun 30
To Commission A/c 12,510
June 30 To Profit & Loss A/c 9,810
Profit on Consignment
79,020
32
79,020
Y Account
2006
Rs.
Apr 4
2006
To Consignment A/c 48,000 ?
Rs.
By consignment A/c 1,500
(clearing exp.)
Jun 20
To Consignment A/c 25,800 Apr 4
By consignment A/c 3,000
(selling exp.)
June 20 By consignment A/c 1500
(selling exp.)
Jun 30 By consignment A/c 12,510
commission (2)
55290
By Bank A/c
73,800
73,800
Working Note
(1)
Valuation of Closing stock
50 pieces @ Rs. 100 each
Rs. 5,000
Plus : Proportionate Expenses
Expenses incurred by X on 500 pieces = Rs. 700
Clearing expenses incurred by Y
= Rs. 1500
Total Expenses
Rs. 2,200
Therefore, expenses on 50 pieces 2200x50/500
=
Rs. 220
Rs. 5,220
33
(2)
Calculation of Commission
Let Total Commission of Y be a
a = No. of pieces sold x Rs. 25 + ¼ [Gross sale proceeds - (Rs. 125x
No. of pieces sold] - (a)
a = 450 x Rs. 25 + ¼ [R. 73,800 - (Rs. 125 x 450] -a)
a = Rs. 45,000 + Rs. 17,500 -a
5a = Rs. 62, 550
Therefore : a = 62,550/5 = Rs. 12,510
2.8
INVOICING GOODS HIGHER THAN COST
Sometimes the goods sent on consignment are priced not at cost but
above cost i.e. at selling or near selling price. The purpose is to hide the real
profit on the consignment from the competitive eye of the consignee. It does
not affect the profits of the consignor. Here a few adjusting entries in respect
of goods sent on consignment and stock are to be made at the end of the financial
year. The entries are as follows :
To bring down the invoice of the goods sent on consignment to cost,
debit goods sent on consignment account and credit consignment account with
the difference in the invoice and the cost price.
(i)
Goods sent on consignment A/c
Dr.
To consignment A/c
(Being the excess of Invoice price written back)
To adjust the value of the stock lying unsold with the consignee, debit
the consignment account and credit ‘Stock Reserve Account’ with the difference
in prices.
34
(ii)
Consignment A/c
Dr.
To Consignment Stock Reserve A/c
(Being the excess of invoice price or value over cost
Price of unsold stock adjusted).
The balance of the goods sent on consignment account will be transferred
to the Trading Account as indicated earlier. The stock on consignment and Stock
Reserve Account will be closed and the balance will be shown in Balance sheet.
Next year the stock on consignment account will be transferred to the
debit of the ‘Consignment Account’ and Stock Reserve Account will be
transferred to the Consignment Account (of course at the end of the next year.)
Illustration 5
B. Ltd. of Delhi consigned 1,000 cases of milk powder to S. of Bombay.
The goods were charged at proforma invoice value of Rs 10,000 including a
profit of 25% on invoice price. The consignors paid Rs. 600 for freight and
insurance. Consignee paid import duty Rs. 1,000, Dock Dues Rs. 200 and sent
to the Consignors a bank draft of Rs. 4,000 as advance. They sold 80 cases for
Rs. 10,500 and sent for the balance due to the consignors after deducting
commission of 5% on gross sale proceeds. Show ledger accounts in the books
of the consignor.
35
Dr.
Consignment
2006
Rs.
To goods sent on
Cr.
2006
Rs.
10,000 By S of Bombay
10,500
(consignee)
consignment A/c 25%
over cost
To Bank Expenses
600
By Goods sent on
2,500
consignment
To S of Bombay (Exp) 1,200
By Consignment stock
2,360
To consignment stock 500
reserve A/c (25% of
stock Rs. 200
To Profit transferred
2,535
To P & L A/c
15,360
15,360
Dr.
S of Bombay (Consignee)
2006
Rs.
Cr.
2006
To Consignment A/c 10,500
Rs.
By Bank
4,000
By Consignment A/c
Expenses
1200
Commission 525 1725
By Bank
10,500
4,775
10,500
36
Dr.
Goods sent on Consignment
2006
Rs.
2006
Rs.
To consignment a/c
2,500
By Consignment a/c
10,000
To Trading a/c
7,500
10,000
Dr.
10,000
Consignment Stock A/c
2006
Rs
2006
To Consignment A/c 2,360
By balance c/d
2,360
Dr.
Cr.
Cr.
Rs.
2,360
2,360
Consignment Stock Reserves A/c
2006
To balance c/d
Cr.
Rs.
2006
Rs.
500
By consignment A/c
500
500
500
To balance b/d
500
Working Notes
Valuation of Stock
20 cases of Milk Rs. 100 = Rs. 2,000
Proportionate Expenses = Consignor expenses + Consignee
Expenses = Rs. 600 (freight and insurance + Rs. 1000 (Import
duty) + Rs. 200 (Dock Dues) = Rs. 1800
Expenses on unsold Stock
1800 x 20/100 = 360
Total value = Rs. 2000 + 360 = Rs. 2360
37
Adjustment Entries Excess of invoice price over cost price in case of goods sent on
consignment = 10,000 x 25/100 = Rs. 2500.
2.9
SUMMARY
Consignment is a specialised kind of transaction between consignor and
consignee, whereby consignor sends goods to consignee to be sold by the latter
on behalf of the former for a mutually agreed commission. The goods
consigned to the agent cannot be treated as sales at the time of the consignment,
they are treated as sales only when those are sold by the consignee. In a
consignment transaction, the consignor sends goods to the consignee and makes
a bill called Proforma Invoice. The value recorded in the proforma invoice
may be the actual cost to the consignor or actual cost to the consignor plus
mark-up. The objective of consignor in making accounts relating to consignment
are to ascertain the results of consignment and to make final settlement with
the consignee. To achieve this, he prepares consignment account and consignee
account. The consignee makes accounts relating to consignment relating to
consignment to effect the settlement with the consignor and to recognise his
commission entitlement as consignee.
2.10 KEYWORDS
Consignment: A shipment of goods by a manufacturer or wholesale dealer to
an agent to be sold by him on commission basis, on the risk and account of the
former, is known as consignment.
38
Consignor: The person who sends the goods to the agent to be sold by him as
commission basis is called the consignor.
Del Credere Commission: It is a commission which is paid by the consignor
to the consignee for taking additional risk of recovery of debts on account of
sales made on credit by the consignee on behalf of the consignor.
Account Sales: It is a statement which contains the details of sales, expenses
incurred and commission entitlement and balance due to the consignor.
Normal Loss: The normal loss is one which cannot be avoided because of the
basic nature of the goods/processes involved.
2.11 SELF ASSESSMENT QUESTIONS
1.
Define 'Consignment'. What is the difference between a consignment
and a sale of goods?
2.
Why goods are sent to consignee at invoice price? What adjustment
entries are recorded in the books of the consignor to find profit on
consignment when goods are invoiced at proforma prices?
3.
Give journal entries in respect of consignment transactions in the books
of consignor and consignee.
4.
Write short notes on:
a)
Del Credere Commission
b)
Treatment of normal and Abnormal Losses in Consignment
Account
c)
Valuation of Unsold Stock in Consignment
39
5.
On 1st July, 2006 Radio House of Delhi consigned 200 Radios to
Banerjee Bros. of the Calcutta. The cost of each radio was Rs. 400. Radio
House paid Rs. 5,000 for freight and insurance. On 7 July, 2006 Banerjee
Bros. accepted a 3 months bill drawn upon them by Radio House for Rs.
50,000, Banerjee Bros. paid Rs. 2,200 as rent and Rs. 1,300 for
advertisement and upto 31st December, 2006 (on which date Radio
House close their books) they sold 180 radios at Rs. 500 each. Banerjee
Bros. were entitled to a commission of 5% on sales.
Give Journal entries and prepare necessary accounts to record the above
transactions in the books of the parties.
6.
Arun sends goods on consignment to Seemu. The terms are that Seemu
will receive 10% commission on the price (which is cost plus 25%) and
20% of any price realised above the invoice price. Seemu will meet his
expenses himself, goods to be sent freight paid.
Arun sent goods whose cost was Rs. 16,000 and spent Rs. 1,500 on
freight, forwarding, etc. Seemu accepted a bill for Rs. 16,000
immediately on receiving the consignment. His expenses were Rs. 200
as rent and Rs. 100 as insurance. Seemu sold ¾ of the goods for Rs.
19,500. Part of the sales were on credit and one customer failed to pay
Rs. 400. Give Consignment Account and Seemu's Account in the books
of Arun and Arun's Account in the books of Seemu.
7.
Dutt of Delhi makes sewing machines at a cost of Rs. 120. On 1st January,
1994 he consigned 200 of them, invoice price Rs. 150 to Khan at Madras
to be sold on behalf of Dutt, Khan receiving a commission of 8% on
40
sales plus 2% del credere and 10% of any profit that may remain on the
basis of invoice price. Khan was to bear all expenses after the machines
reach his godown. Dutt incurred Rs. 500 as forwarding expenses and
insurance.
10 machines were damaged during transit for which Dutt received Rs.
1,050 from insurers. Khan took delivery of remaining machines paying
Rs. 1,140 as freight, octroi duty, cartage, etc. (Subsequently he also paid
Rs. 500 as storage and other charges).
Khan sold 160 machines @ Rs. 180; 100 of them on credit out of which
the proceeds of 5 machines could not be received because of the
disappearance of the customer. Khan remitted the amount due to Dutt.
You are required to prepare the Consignment to Madras A/c and Khan's
A/c in Dutt's Books.
2.12 SUGGESTED READINGS
1.
Fundamentals of Accounting by R.L. Gupta and V.K. Gupta, Sultan Chand
and Sons, New Delhi.
2.
Advanced Accounting by R.L. Gupta and M. Radhaswamy, Sultan Chand
and Sons, New Delhi.
3.
Advanced Accounting by Ashok Sehgal and Deepak Sehgal, Taxmann
Allied Services Pvt. Ltd., New Delhi.
4.
Advanced Accounts by M.C. Shukla, T.S. Grewal and S.C. Gupta, S. Chand
and Co. Ltd., New Delhi.
41
Lesson : 3
BRANCH ACCOUNTS
STRUCTURE
3.0
Objective
3.1
Introduction
3.2
Types of Branches
3.3.1 Branch not keeping full system of accounting
3.3.2 Branch keeping full system of accounting
3.3.3 Foreign Branches
3.4
Summary
3.5
Keywords
3.6
Self Assessment Questions
3.7
Suggested Readings
3.0
OBJECTIVE
After reading this lesson, you should be able to
a)
Explain the different types of branches
b)
Calculate branch profit in head office books on cast basis by using debtor
system, final account systems and stock and debtor system
c)
Convert into home currency the results of foreign branches
3.1
INTRODUCTION
As the business of a firm grows in size it open branches in order to
sell its product over a large territories. The main object of keeping branch accounts
is dependent on the nature of the business and specific need of a particular branch.
1
The object of keeping the branch accounts acceptable to all business are to evaluate
the progress and performance of each branch and to know the profit and loss of
each branch separately. By keeping branch accounts we can ascertain the financial
position of each branch on a particular date and know the cash and goods requirements
of various branches. It may be possible to give concrete suggestions for the
improvement in the working of various branches.
3.2
OBJECT OF BRANCH ACCOUNTING
The main object of keeping branch accounts is dependent on the nature
of the business and specific need of a particular branch. The objects of keeping the
branch accounts acceptable to all businesses are:
i)
To know the profit or loss of each branch separately.
ii)
To ascertain the financial position of each branch on a particular date.
iii)
To know the cash and goods requirements of the various branches.
iv)
To evaluate the progress and performance of each branch.
v)
To calculate commission for payment to the managers, if based on profits of
branch.
vi)
To know the profitability of each branch and type of business for expansion
of the business.
vii)
To give concrete suggestions for the improvement in the working of the
various branches.
viii)
To meet the requirements of specific enactments as all branches of a company
must keep the accounts for audit purposes.
2
3.3
TYPES OF BRANCHES
For the purposes of accounting, branches may be divided into three
classes namely :
1.
Branches which do not keep their accounting records, their accounting
is wholly performed at the Head office.
2.
Branches which keep their own accounting records independently; and
3.
Foreign branches
3.3.1 Branch not keeping full system of Accounting
The main features of these type of branches are as follows :
(a)
These branches sell only those goods which are supplied by the Head office.
These branches are not allowed to make any purchases from the outside market.
(b)
Head office supplies goods to these branches either at the cost price or
at the invoice price.
(c)
All expenses of a regular nature of the branch such as salary, rent,
advertisement etc. are paid by the Head Office.
(d)
Some petty expenses e.g. cartage, entertainment etc. are paid by
the branch manager out of the petty cash balance. Petty cash book
may be maintained by the branch either on sample basis or on
imprest system.
(e)
Such branches are required to deposit the cash collected by them either
by way of cash sales or cash collected from debtors into the bank account
opened in the name of the Head office.
(f)
Sales are made by the branch normally on a cash basis but sometimes
the branches are permitted to sell the goods on a credit basis also.
3
(g)
Such branches keep only some memorandum records e.g. stock registers.
A copy of the stock register is forwarded to the Head Office every week
or every month. This statement will show for each item, the opening
stock, the stock received during the period, sales during the period,
breakage losses etc. during the month and the closing stock. The sanction
of the Head Office will be necessary in order to write off the breakage
losses etc. The stock statement will serve the purpose of controlling
the stock at the branch and of the purpose of guiding the Head Office as
to which stocks should be replenished. This statement is normally
required to be submitted by branch to Head office by a fixed day.
Since these type of branches do not keep any account, accounts are
maintained by the Head Office. The system of maintaining accounts by the Head
office depends on the size of the branch, and the degree of control which the
Head office wants to exercise. Keeping in view the above factors the Head office
man maintain the accounts of the branch in any one of the following ways :
(i)
Debtors system : This system is generally adopted in the case of
concerns which are fairly of a small size. Under this system for each
branch a separate account is opened in the books of Head office in order
to record all transactions relating to that branch.
(ii)
Final Account System : Under this system the office opens a Branch
Trading and Profit and Loss Account and a branch account. Branch
account opened under this system is quite different from the branch
account opened under the debtors system.
(iii)
Stock and Debtors System : Under this system the head office opens
for each branch a Branch Stock Account, Branch Debtors Account, Branch
Expenses Account and Branch Adjustment Account in order to find out
the profit or loss made by the branch.
4
(iv)
Wholesale branch : This method is adopted when the goods are supplied
to the branch at the wholesale price i.e. at the price at which the goods
are supplied to the wholesalers.
All these systems are explained in the following pages :
1.
Debtors System
Under this system a separate account known as the Branch Account
is opened for each branch for the purpose of calculating the profit. Branch
account opened in the books of Head office is in the nature of a nominal
account. The salient features of this type of accounting are as follows :
1.
Stock in the beginning and at the end : Stock in the beginning of the period
is shown in the debit side of the branch account while stock at the end of the
period is shown on the credit side of the branch account. Stock is shown at
the cost price.
2.
Goods sent to the branch : Goods sent to the branch during the year is
shown on the debit side of the branch account at the cost price. If the
goods are returned by branch to the Head office it is shown in the credit
side of the Branch Account. Alternatively it can be shown by way of a
deduction from the 'Goods sent to the Branch' on the debit side of Branch
Account.
3.
Branch expenses paid by the Head Office : Branch expenses paid by
the Head office are shown in the debit side of branch account.
4.
Branch expenses paid by branch office : Expenses paid by the branch
do not appear anywhere because they reduce the balance of cash in hand.
Reduced balance of cash appears on the credit side of Branch Account.
5
5.
Treatment of branch expenses paid by office when petty cash system
is maintained on the imprest system : If petty cash is maintained at the
branch on the imprest system, then the petty expenses paid by the branch
manager are reimbursed by the Head office. These expenses then take
the form of expenses paid by the head office and are shown in the debit
side of the branch account. The petty cash balance at the end of the period
must be shown on the credit side of the branch account at the same figure
at which it appeared at the commencement of the period.
6.
Depreciation on the branch fixed assets : Depreciation on the branch
fixed asset is not shown anywhere in the branch account. Branch Account
is debited with the value of branch fixed asset at the commencement and
is credited with the adjusted value of branch fixed asset at the end.
7.
Bad debts, discount allowed, allowances etc. : Similarly bad debts, discount
allowed to customers, allowances, returns from customers are not shown in the
Branch Account because these accounts reduce the figure of debtors at the end.
8.
Cash sales and credit sales : The figure of cash and credit sales are not
shown in the Branch Account. These figures are replaced by remittances
which is calculated by adding cash sales and cash received from
customers.
9.
Purchase of fixed asset : Where some fixed asset is purchased by the branch it
increases the book value of the fixed asset on the one hand and reduces the
remittances (if purchased on cash) or increases the liabilities (if purchased on
credit.
10.
Sale of fixed asset : On the sale of the fixed asset by the branch, the
book value of the fixed asset is reduced on the one hand, and on the
other hand it increases either the remittances (if the sale is for cash) or
increases debtors at the end (if the sale is on credit).
6
Journal Entries : The following journal entries are passed under the Debtor
system :
1.
When goods are sent to branch
Branch Account
Dr.
To Goods sent to Branch Account
2.
When goods are returned by branch
Goods sent to Branch Account
Dr.
To Branch Account
3.
When cheque is sent to the branch for expenses
Branch Account
Dr.
To Bank Account
4.
When cash/cheque is received from the branch for remittances
Bank Account
Dr.
To Branch Account
5.
For closing balances of assets at the branch
Branch Assets Account
Dr.
To Branch Account
The closing balances of assets will be shown in the balance sheet
of the Head office. At the beginning of the next accounting period a reverse
entry will be passed.
7
Branch Account
Dr.
To Branch Assets Account
6.
For closing balances of liabilities at the branch
Branch Account
Dr.
To Branch Liabilities Account
Dr.
The closing balances of liabilities will be shown in the Balance
Sheet of the Head office. At the beginning of the next accounting period a
reverse entry will be passed.
Branch Liabilities Account
Dr.
To Branch Account
7.
For transferring profit or loss of the branch
Branch Account (Profit)
Dr.
To General Profit and Loss Account
In case of loss the above entry is reversed
General Profit and Loss Account
Dr.
To Branch Account (Loss)
8.
For goods sent to branch account
Goods sent to Branch Account
Dr.
To Purchases Account (in trading concerns)
To Trading Account (in manufacturing concerns)
8
Branch Account in the books of Head office will appear as under :
BRANCH ACCOUNT
Particulars
Rs.
Particulars
To Balance b/d
Rs.
By Balance b/d
(opening balances of assets)
(opening balances of liabilities)
Cash in hand
By Bank Account
Stock in trade (at cost)
Cash sales
Sundry debtors
Received from debtors
Furniture
By Balance c/d
Prepaid Insurance
(closing balances of assets)
To Goods sent to Branch A/c
Cash in hand
(at cost)
Stock in trade (at cost)
To Bank account
Sundry debtors
(Expenses paid by H.O.)
Furniture
To Balance c/d
Prepaid Insurance
(closing balance of liabilities)
By General Profit and Loss
To General Profit and Loss Account
Account (Loss)
(Profit)
Illustration 1 : ABC Co. of New Delhi opened a branch at Kanpur. The
following is the list of transactions between the Head office and the branch
for the year ending March 31, 2001
Rs.
Stock at Branch on Ist April, 2000
1,500
Goods supplied to Branch during the year
Cash sent to Branch for
9
24,000
– Salaries
1,200
– Rent
360
– Telephone expenses
100
– Petty Expenses
150
Remittances received from the branch during the year
27,500
Stock on 31st March,2006
1,250
Balance of Petty Cash
10
All the branch expenses are paid by Head office. Give journal
entries and show the Branch Account in the Head office books.
Solution
Journal
Particulars
Rs.
Branch Account
To Branch Stock Account
(Being the opening balance of branch stock transferred back)
Branch Account
To Goods sent to Branch Account
(Being the goods sent to the branch during the year)
Branch Account
To Cash Account
(Being the cash sent to branch to meet the following expenses
Salaries
1,200
Rent
360
Telephone expenses 100
Petty expenses
150
Cash Account
To Branch Account
(Being the cash received from the branch)
Branch Stock Account
Branch Petty Cash Account
To Branch Account
(Being the closing balances of stock and petty cash
Branch Account
To General Profit and Loss Account
(Being the profit at the branch transferred)
10
Dr.
Rs.
1,500
1,500
Dr.
24,000
24,000
Dr.
1,810
1,810
Dr.
27,500
27,500
Dr.
Dr.
1,250
10
1,260
Dr.
1,450
1,450
BRANCH ACCOUNT
Dr.
To Branch Stock Account
To Goods sent to Branch
To Cash Account
– Salaries
– Rent
– Telephone expenses
– Petty expenses
To General Profit and Loss Account
Cr.
1,500
24,000
1,200
360
100
150
1,450
By Bank Account
– Remittances from Branch
By Branch Stock Account
By Branch Petty Cash Account
28,760
27,500
1,250
10
28,760
When goods are sent to branch at Invoice Price
Goods are marked on invoice price in order to have effective
control on stock and to keep secret from the branch manager the cost price of
the goods and profit made, so that he may not start a competing business with
the concern. Head Office will maintain branch account on the same lines as
already discussed but the entries relating to goods sent to branch, goods
returned by the branch to head office, opening and closing stock at the branch
will be at invoice price and in order to calculate the net profit of the branch,
the following adjustment entries will have to be passed in the head office books
at the end of the accounting period:
(i)
For adjustment of excess price of the Opening Stock at Branch :
Stock Reserve Account
Dr.
To Branch Account
(ii)
For adjustment of excess price of goods sent to branch less returns to
head office :
Goods Sent to Branch Account
Dr.
To Branch Account
11
(iii)
For adjustments of excess price of the closing stock at the Branch :
Branch Account
Dr.
To Stock Reserve Account
Illustration 2 : From the following details prepare Branch Account in the
books of Head Office.
Rs.
Goods sent to Branch at cost
50,000
Goods returned by Branch at cost
3,000
Branch Credit Sales
51,000
Cash Sales at Branch
2,500
Cash remitted to H.O. by Branch
45,000
Expenses paid by H.O.
10,000
Discount allowed to customers by Branch
Closing stock with Branch at cost
1,800
17,000
Closing Debtors (Closing Balance)
7,700
Solution
In the books of Head Office
Dr.
BRANCH ACCOUNT
To Branch Stock at Cost
To Branch Debtors
To Goods sent to Branch A/c 50,000
Less : Goods returned to
H.O.
3,000
To Bank (Expenses paid
by H.O.)
To General Profit & Loss A/c
Profit)
Rs.
–
1,000*
47,000
10,000
11,700
69,700
12
Cr.
Rs.
By Remittances by the Branch :
Rs.
Cash Sales
2,500
Recd. from
Debtors
42,500*
By Branch stock at cost
By Branch Debtors
45,000
17,000
7,700
69,700
BRANCH DEBTORS ACCOUNT
To Balance c/d
To Credit Sales
Rs.
1,000
51,000
By Cash
By Discount
By Balance c/d
52,000
2.
Rs.
42,500
1,800
7,700
52,000
Final Account System
Sometimes it is required to calculate branch profit or loss by not
preparing Branch Account but preparing Trading and Loss Account at cost and
in addition to this, branch account to be prepared under such circumstances
will be personal account and not nominal account. The branch account will
generally have debit balance which will be equal to net worth at the end. The
working of this method will be clear from the following illustration.
Illustration 3 : A Delhi merchant has a Branch at Madras to which he charges
out the goods at cost plus 25%. The Madras Branch keeps its own Sales Ledger
and transmits all cash received to the Head Office every day. All expenses are
paid from the Head office. The transactions for the Branch were as follows :
Rs.
Stock 1.4.2005 at invoice price(IP)11,000
Debtors 1.4.2000
100
Petty Cash
100
Cash Sales
2,650
Credit Sales
23,950
Goods sent to Branch at I.P.
20,000
Collection on ledger accounts
21,000
Goods returned to H.O.
300
Bad Debts
300
Allowances to Customers
250
Returns Inwards
Cheques sent to Branch :
Rent
Wages
Salary and other expenses
Stock (31.3.2006)
Debtors
Petty Cash (31.3.2006) including
miscellaneous income Rs. 25
not remitted
(76)
13
Rs.
500
600
200
900
13,000
2,000
125
Prepare the Branch Trading and Profit and Loss Account and
Branch Account for the year 31.3.2006.
Solution :
BRANCH TRADING AND PROFIT AND LOSS A/C
for the ending 31.3.2006
Rs.
To opening Stock
(Rs. 11,000-2,200)
To Goods Sent to branch A/c
(20,000-4,000)
16,000
Less : Returns to H.O.
(300-600)
240
To Wages
To Gross Profit c/d
To bad Debts
To Allowances
To Rent
To Salaries and Other Expenses
To Net Profit
8,800
15,760
200
11,740
36,500
300
250
600
900
9,715
11,765
Rs.
By Sales :
Cash
Credit
Less: Returns
By Closing Stock
(13,000-2,600)
By Gross Profit b/d
By Accrued Income
2,650
23,950
26,600
500
26,100
10,400
36,500
11,740
25
11,765
BRANCH ACCOUNT (PERSONAL) A/C
Rs.
Rs.
To Opening Balances :
By Remittances (2,650+21,000) 23,650
Stock
8,800
B Balance c/d
Debtors
100
(10,400+2,000+125)
12,525
Petty Cash
100
To Goods Sent to Branch 16,000
Less Returns to H.O.
240 15,760
To Bank (Expenses)
1,700
To Profit
9,715
36,175
36,175
14
3. Stock and Debtors System
In case of this system, the Head Office maintains a number of
accounts for keeping a record of branch transactions in place of one branch
account. A brief description of each of these accounts is given below :
(i)
Branch Stock Account : This account is on the pattern of a goods account. The
account helps the Head Office in maintaining an effective control over the Branch
Stock. It tells about shortage or surplus of stock and the closing stock at the Branch.
(ii)
Branch Debtors Account : The account is maintained to keep a record
of all transactions related to Branch Debtors and ascertainment of the balance
of the debtors at the end of the accounting period.
(iii)
Branch Fixed Assets Account : A separate account for each of the
Branch fixed assets is maintained to record all transactions relating to each of
these fixed assets.
(iv)
Branch Cash Account : The account is maintained to record all cash
transactions of the Branch. This is particularly helpful in those cases where
the Branch is not required to send immediately all collections of cash made by
it but to remit money at regular intervals. The account helps the Head Office
in having control over Branch Cash.
(v)
Branch Expenses Account : The account is prepared to give to the Head
Office a summary picture of different expenses, bad debts and discounts etc.
incurred at the Branch.
(vi)
Branch Adjustment Account : The account is maintained for
ascertaining the gross profit made at the Branch. All loadings in the goods
sent to the branch, opening and closing stocks at the branch and shortage and
surplus of stock etc. are recorded in this account.
15
(vii) Branch Profit and Loss Account : The account is prepared to ascertain
profit or loss made at the Branch. The gross profit or loss from the Branch
Adjustment Account is transferred to this account. It is debited with all other
expenses and losses and credited with all gains and profits. The balance of the
account represents the net profit or loss.
(viii) Goods sent to the Branch Account : The account is prepared to ascertain
the net value of goods sent to the Branch. Goods sent to the Branch and goods
returned by the Branch and loading included in them are recorded in this account.
Journal Entries
The following Journal entries are passed in the books of the Head
Office in case the transactions are recorded according to the Stock and Debtors
System :
(i)
For goods sent to the Branch (at invoice price)
Branch Stock Account
Dr.
To Goods sent to the Branch Account
(ii)
For goods returned by the Branch to the Head Office (at invoice price)
Goods sent to the Branch Account
Dr.
To Branch Stock Account
(iii)
For Credit Sales at the Branch (at invoice price)
Branch Debtors Account
Dr.
To Branch Stock Account
(iv)
For Cash Sales at the Branch (at invoice price)
Cash Account
Dr.
To Branch Stock Account
16
(v)
For goods returned by Branch Debtors to the Branch (at invoice price)
Branch Stock Account
Dr.
To Branch Debtors Account
(vi)
For goods returned by Branch Debtors directly to the Head Office
(at invoice price)
Goods sent to the Branch Account
Dr.
To Branch Debtors Account
(vii) For Goods sent by one Branch to Another
It will be recorded as if the Branch has first returned the goods to the
Head Office and then the Head Office has sent goods to another Branch. For
example, if Branch X sends goods to Branch Y, the following entries will be
passed :
(a) Goods sent to Branch Account
Dr.
To X Branch Stock Account
(b)Y Branch Stock Account
Dr.
To Goods sent to Y Branch Account
(viii) For Bad Debts, Discount etc.
Branch Expenses Account
Dr.
To Branch Debtors Account
(ix)
For Expenses at Branch
Expenses Account
Dr.
To Bank Account
17
(x)
For Abnormal Shortage (or pilferage or loss) of Stock
Branch Adjustment Account
Dr.
(with the amount of loading)
Branch Profit and Loss Account
Dr.
(with shortage at cost)
To Branch Stock Account
(with the shortage at invoice price)
For surplus at Branch, a reverse entry will be passed.
Any amount received from the Insurance Company for abnormal
loss of stock (if insured), will be debited to Branch Cash Account and Credited
to Profit & Loss Account.
(xi)
For Normal shortage or loss of stock :
Branch Adjustment A/c
Dr.
To Branch Stock A/c
Any other difference in the Branch Stock Account may also be
transferred to Branch Adjustment Account.
(xii) For transfer of Branch Expenses
Branch Profit and Loss Account
Dr.
To Branch Expenses Account
(xiii) For adjustment for loading in the Opening Stock
Stock Reserve Account
Dr.
To Branch Adjustment Account
(xiv) For adjustment of loading in Closing Stock
Branch Adjustment Account
Dr.
To Stock Reserve Account
18
(xv)
For adjustment of loading in Net Goods sent to the Branch Account
(i.e. goods sent less goods returned by branch)
Goods sent to the Branch Account
Dr.
To Branch Adjustment Account
(xvi) For transfer of the balance in goods sent to the Branch Account
Goods sent to Branch Account
Dr.
To Purchases/Trading Account
(xvii) For Transfer of Gross Profit shown by the Branch Adjustment Account
Branch Adjustment Account
Dr.
To Branch Profit and Loss Account.
In case of gross loss, the entry will be reversed
(xviii) For transfer of Net Profit at the Branch
Profit and Loss Account
Dr.
To General Profit & Loss Account
In case of net loss, the entry will be reversed
Illustration 4 : On Ist April, 2006, goods costing Rs. 1,32,000 were invoiced
by Madras Head Office to its branch at Delhi and charged at selling price to
produce a gross profit of 25 per cent on the selling price. At the end of the
month the returns from Delhi Branch showed that the sales were Rs. 1,50,000.
Goods invoiced at Rs. 1,200 to Delhi Branch had been returned to Madras
Head Office. The closing stock at Delhi Branch was Rs. 24,000 at selling price.
Record the above transactions in the Branch Stock Account, Branch Adjustment
Account, Goods sent to Branch Account in the Head Office books and close
the said accounts on 30th April, 2006
19
Solution
IN THE BOOKS OF H.O.
BRANCH STOCK ACCOUNT
Rs.
To Goods sent to Branch A/c
Rs.
By Cash
(Rs. 1,32,000+1/3
1,50,000
By Branch Adjustment A/c
of Rs. 1,32,000)
1,76,000
Less : Returns to H.O.
1,200
(Loading)
1,74,800
By Branch P & L A/c (Cost)
By Balance c/d
1,74,800
200
600
24,000
1,74,800
BRANCH ADJUSTMENT ACCOUNT
To Stock Reserve
To Branch Stock A/c (Loading)
To Branch Profit & Loss A/c
(Gross Profit)
Rs.
6,000
200
By Goods Sent to Branch
(1/4 Rs. 1,74,800)
Rs.
43,700
37,500
43,700
43,700
BRANCH PROFIT & LOSS ACCOUNT
Rs.
To Branch Stock A/c (Cost)
To General P & L A/c (Net Profit)
600
36,900
Rs.
By Branch Adjustment A/c
(Gross Profit)
37,500
37,500
37,500
GOODS SENT TO BRANCH ACCOUNT
Rs.
To Branch Adjustment A/c
To Purchases A/c
43,700
Rs.
By Branch Stock A/c
1,74,800
1,31,100
1,74,800
20
1,74,800
Distinction between wholesale and retail profit at branch
Manufacturers, in addition to selling the goods through the
wholesalers, usually sell the goods directly to the consumers by opening retail
branches. In such a case good are supplied to the retail branches at the same
price at which these are supplied to the wholesalers. The branches in turn sell
the goods to the consumers at a price which is more than the wholesale price.
Difference between the wholesale price at which the goods are received by
these retail branches and the retail prices is the profit earned by these retail
branches. Suppose an article cost Rs. 100 to the Head Office which in turn
supplies these to the wholesalers and their retail branches as the wholesale
price of Rs. 180. The branches sell the goods to the consumers at Rs. 200. The
profit made by the retail branch would be Rs. 200-Rs. 180 i.e., Rs. 20.
Calculation of this additional profit is an important step due to the fact that it
points out that the manufacturers would loose this additional gain in case they
do not open retail branches. Also the comparison of the additional supervision
cost and additional gain may be of some help to the manufacturers to help in
the framing of future policy.
If whole of the goods which are sent by the Head Office to the
retail branches are sold out then there is no problem. But if some of the
goods remain unsold then the Head Office must create a proper reserve by
debiting its own profit and loss account in order to show the branch stock at
cost in the balance sheet. The point to note is that in order to find out the
wholesale profits of branch no reserve for stock are created in the Profit and
Loss Account of branch.
21
Illustration 5 : A Ltd. has a retail branch at Patna, goods are sold to the
customers at cost plus 100%. The wholesale price is cost plus 80%. Goods
are invoiced to Patna at wholesale price. From the following particulars find
out the profit made by Head Office and wholesale profits at branch for the
year ending 31st March, 2006.
Head Office
Branch
Rs.
Rs.
25,000
–
1,50,000
–
54,000
–
1,53,000
50,000
60,000
9,000
Stock on Ist April, 2005
Purchases
Goods sent to branch (at invoice price)
Sales
Stock on 31st March, 2006
Sales at Head Office are made only on wholesale and that at branch
only to retail customers. Stock at branch is valued at invoice price.
Solution
Trading Account for 2005-2006
Particulars
Head Branch
Particulars
Office
To Opening Stock
To Purchases
To Gross Profit
Branch
Office
Rs.
Rs.
25,000
–
By Sales
1,50,000
–
To goods received from
Head Office
Head
Rs.
Rs.
1,53,000
50,000
By Goods sent to Branch
54,000
–
By Closing Stock
60,000
9,000
2,67,000
59,000
– 54,000
92,000
5,000
2,67,000
59,000
22
Profit and Loss Account for 2005-2006
Particulars
Head
Office
Branch
To Stock Reserve against
Branch Stock
To Net Profit
Particulars
By Gross Profit
4,000
88,000
–
5,000
92,000
5,000
Head
Office
92,000
Branch
92,000
5,000
5,000
3.3.2 Branch keeping full system of accounting
Branches keeping full system of accounting or independent
branches are those branches which also purchase goods from the market besides
getting the goods from the head office. They can also supply goods to the head
office, pay expenses from the cash realised and deposit cash in their own
account. In other words, these branches operate as an independent unit for all
practical purposes but their only link with the head office is that they are owned
by the head office and whatever their profit or loss will be, that belongs to the
head office.
Such branches keep complete set of double entry books and
prepare their own trial balance, trading and profit and loss account and balance
sheet. Such branches open head office account in their books. This account is
debited by cash sent to the head office, goods supplied to head office, payment
made by the branch for purchase of assets and loss to be borne by the head
office and credited by cash received from the head office, goods received from
the head office, depreciation of branch fixed assets, charge made by head office
for rendering services and profit earned by the branch. Similarly the head office
will also maintain a branch account for each branch. This account will have the
same entries but on the reverse sides.
23
The certain transactions which require special attention are :
(i)
Purchase of Branch Fixed Assets : Generally the branch fixed assets
are maintained in the books of head office. When an asset is purchased, the
following entries are passed.
(a)
If the payment is made by the branch
Head Office Books
Branch Assets A/c
Dr.
To Branch A/c
Branch Books
Head Office A/c
Dr.
To Cash A/c
(b)
If the payment is made by the head office
Head Office Books
Branch Assets A/c
Dr.
To Bank A/c
Branch Books
No Entry
(ii)
Depreciation of Fixed Assets : As branch fixed assets are maintained in
the books of head office so entries relating to depreciation will also be passed
through head office account. The following entry will be passed :
H.O. Books
Branch Account
Dr.
To Branch Asset A/c
24
Branch Book
Profit & Loss A/c
Dr.
To Head Office A/c
(iii)
Head Office Expenses : If some services such as administration or
technical are rendered by the head office to the branch then a proportionate
charge for such expenses will be made to each branch by the head office and
entry for that will be as follows :
H.O. Books
Branch Account
Dr.
To Profit & Loss A/c
Branch Books
Profit & Loss A/c
Dr.
To Head Office A/c
(iv)
Reconciliation of transit items : The balance of head office account (in
branch books) and branch account (in head office books) should normally be
same and one will make debit and other will credit for all transactions affecting
these accounts. But these accounts may differ in balances because of the
following reasons :
(a)
Cash in transit : Sometimes the branch is remitting the cash to the head
office before the close of the accounting year, say on 28 th December, when the
accounts are closed on 31st December. While remitting the cash to the head
office the branch will debit the head office account but if the remittance is
received by the head office after the closing date of accounting year, say on
4th January, then head office will not give a credit for the same amount of
remittance on 31st December, so the two balances, i.e. H.O. A/c (in Branch
25
books) and Branch Account (in H.O. books) will differ. In order to reconcile
these balances, an adjusting entry will be passed in the books of branch or head
office (if the intimation of such remittance is received by the head office).
Branch Books
Cash in Transit A/c
Dr.
To Head Office A/c
OR
Head Office Books
Cash in Transit A/c
Dr.
To Branch A/c
(b)
Goods in transit : Similarly the two balances may differ because of
goods in transit. Suppose the head office sent goods to the branch on 28th
December but those goods were received by the branch on 4th January (next
year). Head office must have debited the account of branch in its books but
there will be no corresponding credit to head office account in the books but
there will be no corresponding credit to head office account in the books of
branch; so on the last day of accounting year, i.e., 31st December the head
office will pass the following adjusting entry :
Goods in Transit A/c
Dr.
To Branch A/c
Cash in transit or goods in transit will be shown as an asset in the
balance sheet.
(v)
Inter-branch transactions : If the head office has many branches and
there is a possibility that some branch may supply goods or send cash to the
other branch, such transactions among the branches are called inter branch
26
transactions. Such transactions may be recorded either by maintaining a current
account of a branch in another branch's books or such transactions may be
recorded by all branches by passing entries through head office account. For
example, of goods are supplied by Calcutta branch to Delhi branch and the
head office is at Bombay, then the following journal entries will be passed in
the books of head office and the branches:
Bombay Books
Delhi Branch A/c
Dr
To Calcutta Branch
Calcutta Books
Head Office A/c
Dr.
To Goods supplied to other branches A/c
Delhi Books
Goods received from other Branches A/c
Dr.
To Head Office A/c
(vi)
Cash paid by branch on behalf of Head Office : If the branch has paid
some cash (say for purchases made by Head Office) on behalf of Head Office,
then the following entries will be passed in the books of Head Office and the
branch :
Head Office Books
Purchases A/c
Dr.
To Branch A/c
Branch Books
Head Office A/c
Dr.
To Cash A/c
27
(vii) Cash collected by branch on behalf of Head Office : If the branch has
collected some cash on behalf of Head Office (say for calls in arrears from
the shareholders of Head Office) then the following journal entries will be
passed in the books of Head Office and the branch :
Head Office Books
Branch A/c
Dr.
To Calls in Arrears
Branch Books
Cash A/c
Dr.
To Head Office A/c
(vii) If a bill is drawn by one branch on another branch : If a bill is drawn
by Agra Branch on Bombay Branch and the Head Office is at Delhi, then the
following entries will be passed in the books of Head Office and branches :
Head Office Books
Agra Branch A/c
Dr.
To Bills Payable
B/R A/c
Dr.
To Bombay Branch
Agra Branch
B/R A/c
Dr.
To Head Office
Bombay Branch
Head Office A/c
Dr.
To B/P A/c
28
Illustration 6 : A Calcutta based firm whose accounting year ends on 31st
December has two branches - one at Agra and the other at Varanasi. The branches
keep a complete set of books. On 31st December, 2005, the Agra and Varanasi
Branch Accounts in the Calcutta books showed debit balances of Rs. 30,450
and Rs. 45,000 respectively before taking the following information into
account :
(a)
Goods worth Rs. 2,000 were transferred from Agra to Varanasi under
instructions from Head Office.
(b)
The Agra Branch collected Rs. 2,500 from an Agra customer of the Head Office.
(c)
The Varanasi Branch paid Rs. 5,000 for certain goods purchased by the
Head Office in Varanasi.
(d)
Rs. 5,000 remitted by the Agra Branch to Calcutta on 29th December,
2005 received in Calcutta on 3rd January next.
(e)
The Varanasi Branch received on behalf of the Head Office Rs. 1,500 as
dividend from a Varanasi Company.
(f)
For the year 2005, the Agra Branch showed a net loss of Rs. 1,250 and
the Varanasi Branch a net profit of Rs. 5,400.
Pass Journal entries to record these matters in the Head Office
books, and write up the two Branch Accounts therein.
Solution :
HEAD OFFICE JOURNAL
2005
Dec. 31
Varanasi Branch Account
To Agra Branch Account
(Being the Goods transferred from
Agra to Varanasi Branch)
29
Dr.
Rs.
2,000
Rs.
2,000
Agra Branch Account
Dr.
To Sundry Debtors Account
(Being debts collected Agra Branch)
Purchases Account
Dr.
To Varanasi Branch Account
(Being goods purchased paid for by
Varanasi Branch)
Cash in Transit Account
Dr.
To Agra Branch Account
(Being cash sent by Agra Branch still in transit)
Profit & Loss Account
Dr.
To Agra Branch
(Being Agra Branch Loss for 1998)
Varanasi Branch Account
Dr.
To Profit and Loss Account
(Being Varanasi Branch profit for 1998)
2,500
2,500
5,000
5,000
5,000
5,000
1,250
1,250
5,400
5,400
Agra Branch Account
2005
Dec.31 To Balance b/d
To Sundry Debtors
Rs.
30,450
2,500
2005
Dec.31
By Varanasi Branch
Account
By Cash in Transit Account
By Profit and Loss A/c
By Balance c/d
32,950
Rs.
2,000
5,000
1,250
24,700
32,950
Varanasi Branch Account
2005
Rs.
Dec.31 To Balance b/d
45,000
To Agra Branch A/c
2,000
To Dividend Account
1,500
To Profit and Loss A/c 5,400
2005
Dec.31
53,900
By Purchases A/c
By Balance c/d
Rs.
5,000
48,900
53,900
30
3.3.3 Foreign Branches
When a branch is located in a foreign country it is called a foreign
branch. Such branch will keep its books of accounts in foreign currency. The
main problem which the head office is to face under this type of branch is to
convert the branch trial balance from the foreign currency to the currency of
that country where a head office is working in order to incorporate the branch
trial balance in the books of head office. Otherwise for all purposes, this branch
is treated as an independent branch.
Rules for Converting the Branch Trial balance into the Books of Head Office
The following are the main rules which should be taken into
consideration while converting the figures of foreign trail balance in the books
of the head office for the purpose of their incorporation in the books of head
office :
(1)
If the fluctuations in the rate of exchange are neither frequent nor violent
the branch trial balance should be converted at a fixed rate of exchange.
(2)
If the rate of exchange is subject to frequent and violent fluctuations, then
the following rules should be adopted for converting the branch trail balance :
(i)
Fixed Assets and Fixed Liabilities : Fixed assets should be converted
at the rate of exchange prevailing on the day when these assets were purchased
or on the date of contract. Similarly fixed liabilities should be converted at
the rate of exchange ruling on the day when such liabilities were incurred or
the payment was made.
(ii)
Floating Assets/Liabilities : These should be converted at the rate of
exchange prevailing on the last day of the year.
31
(iii)
Revenue Items : These items should be converted at the average rate
of exchange ruling during the period under review. If fluctuations are violent
then these should be converted each month at the average rate prevailing
during that month.
(iv)
Head Office Account : It is converted at the same figure at which branch
account appears in the head office books.
(v)
Remittances : These are converted at the figures at which they appear in
the head office books.
(vi)
Opening and Closing Stock : Opening stock should be converted at the
rate of exchange prevailing in the beginning of the period and closing stock
should be converted at the rate prevailing on the last day of the period.
After converting the various items of the branch trial balance
according to the above rules, a new trial balance can be prepared but such trial
balance will seldom tally. In order to make it agree, sometimes the difference
is put against a separate account known as 'Difference in Exchange Account'.
If the difference is small, it is closed by transfer to profit and loss account but
if the difference is big, it should be put under a separate account called
'Exchange Fluctuations Account' and will be shown in the Balance Sheet either
as an asset or as a liability depending on whether its balance is debit or credit.
Illustration 7 : ABC Ltd. of Calcutta has a branch in London. The following
are the balances of London Branch on 31st March, 2006. The cash remitted
from London and the London Branch balance appeared in the Calcutta books at
Rs. 19,187 and Rs. 3,27,732 respectively. Convert at the fixed rate of exchange
of 1sh 6 d. to the rupee; make the necessary adjustments in the Calcutta books
and the Head Office Account in branch books.
32
London Branch
£
Head Office Account
Remittance to Calcutta
Creditors
Profit and Loss A/c
Profit for the year
Debtors
Furniture
Plant and Machinery
Stock on 31.3.2001
Cash at bank
Cash in Hand
£
24,579
1,440
32,805
2,973
2,433
25,167
1,410
14,973
16,161
3,492
327
62,790
62,790
Solution
LONDON BRANCH
Trial Balance as on 31st March, 2006
Rs.
Head Office Account
Remittance to Calcutta
19,187
Creditors
Profit and Loss Account
Profit for the year
Debtors
3,35,560
Furniture
18,800
Plant and Machinery
1,97,240
Stock on 31.3.2001
2,15,480
Cash at Bank
46,560
Cash in Hand
4,360
Difference in Exchange
25
8,37,212
33
Rs.
3,27,732
4,37,400
39,640
32,440
8,37,212
Calcutta Journal
2006
March 31
March 31
Difference in Exchange A/c
To London Branch
(Being the difference in exchange)
London Branch A/c
To Profit and Loss A/c
Rs.
25
Dr.
Rs.
25
Dr.
32,440
32,440
(Being London Branch profit fit for the year)
CALCUTTA LEDGER
LONDON BRANCH
2006
Mar.31 To Balance
b/d
"
To Profit &
Loss A/c
"
To Profit for
the year
April 1 To Balance
b/d
£
Rs.
24,579
3,27,732
2,973
39,640
2006
£
Rs.
Mar.31 By Remittance 1,440 19,187
"
By Difference
in exchange
–
25
"
By Balance c/d 28,545 3,80,600
2,433
29,985
32,440
3,99,812
29,985 3,99,812
28,545
3,80,600
LONDON LEDGER
CALCUTTA HEAD OFFICE A/C
2006
March 31
£
To Remittance
1,440
To Balance c/d
28,545
2006
March 31
£
By Balance b/d
24,579
By Profit & Loss A/c
2,973
By Profit for the year
2,433
29,985
29,985
April 1
34
By Balance b/d
28,545
3.4
SUMMARY
Sometimes business is carried on in different establishments
which may be in the same town or in various parts of a country or even in
distant countries of the world. The main establishment is called the Head Office
while the remaining ones are called branches. It is desirable to know the profit
or loss made by each branch so that if a branch does not yield into desired
result, steps can be taken to remedy the state of affairs. Hence it is necessary
to maintain the accounts of the branch in such a manner that profit or loss
made at a branch can be ascertained.
3.5
KEYWORDS
Debtor System: Under this system the head office opens a separate account
for each branch in order to record all transactions relating to a branch.
Final Account System: Under this system, head office opens a Trading and
Profit and Loss Account in order to find out profit or loss of each branch and
a branch account.
Stock and Debtors System: Under this system, head office will open various
accounts in order to find the profit or loss of each branch.
Foreign Branch: When a branch is located in a foreign country it is called a
foreign branch.
3.6
SELF ASSESSMENT QUESTIONS
1.
How are the figures in foreign branch trial balance converted in the Head
office books for the purpose of their incorporation in the Head Office
books.
35
2.
Explain fully the various debits and credits on the head office account
as would appear in the branch books where the branch maintains an
independent set of books.
3.
Explain the adjustments necessary if the goods are invoiced by a Head
Office at cost plus profit price to its branch
4.
Jain Bros. operate a retail branch at Delhi. All purchases are made by
the head office at Madras; goods being charged out to the branch at cost
price. All cash received by the branch is remitted to Madras. Branch
petty expenses are paid out of an imprest which is reimbursed by the
head office from time to time. From the following particulars relating
to Delhi branch, you are required to prepare branch account (for
calculating profit) in the books of head office.
Rs.
Rs.
April 1, 2006:
Stock at cost
Petty cash
Plant
8,000
800
branch out of imprest
700
10,000
Cash sales during the year
70,000
March 31, 2001 :
Stock at cost
Petty expenses paid by the
Sale of the plant on July 1, 2006
7,000
(book value of the plant on the
Goods sent to branch50,000
date of sale Rs. 900)
Expenses paid by the head office
It is required to write off the plant at 20% p.a.
36
800
5,000
5.
Shree Nanak of Bombay has a branch at Delhi. Goods are invoiced to the
Branch at cost plus 20%. The expenses of the Branch are paid from
Bombay and the Branch keeps a Sales Journal and the Debtor's Ledger
only. From the information supplied by the Branch, prepare Trading and
Profit and Loss Account of the Branch for the year ending 31st March,
2006 and show the account of the Branch as it would appear in the books
of the Head Office.
Rs.
Opening Stock (at invoice price)
12,000
Closing Stock (at invoice price)
9,000
Goods received from Head
Office
Credit Sales
20,500
Cash Sales
8,750
Office on 31st March, 2006
18,950
Expenses paid by Head Office
Receipts from debtors
Sundry Debtors on 31st March, 2006
6.
Rs.
4,580
15,000
Goods in Transit from Head
for the branch
1,800
5,200
On January 1, 2006 the goods invoiced by Calcutta Head Office of a
trader to its Madras Branch were Rs. 48,000 at selling price, being 33ÉÕ%
on cost price. For six months ended June 30, 2006, the branch return
showed that the sales were Rs. 29,00. The goods invoiced at Rs. 2,000
were returned by the Branch to the Head Office. The closing stock at
Madras Branch on June 30, 2006 was Rs. 16,800 at selling price.
Record the above transactions showing Madras Branch Stock
Account, Madras Branch Adjustment Account, Madras Profit & Loss A/c,
and Goods Sent to Branches Account in Calcutta Head Office Books
and balance them at June 30, 2006.
37
7.
A trading company has its Head Office in London and a trading branch at
Bombay The following is a list of balances on the Bombay books on
31st December, 2006, when the first year's trading ended :
Rs.
Rs.
London Account
2,08,000
General Expenses
31,248
Sales
2,25,676
Bank Account
12,641
Purchases
2,61,604
Cash in hand
1,563
Wages & Salaries
43,868
Sundry Debtors
Freight & Insurance
26,608
Sundry Creditors
1,06,462
50,318
Stocks at Bombay on 31st December was valued at Rs. 1,48,500.
The balance of the London Account represents remittances to Bombay
as follows :
8th January
Rs. 64,000
purchased at Is. 3 (3/4)d.
6th April
Rs. 96,000
purchased at Is. 2½d.
17th August
Rs. 48,000
purchased at Is. 3½d.
Give journal entries to incorporate the Bombay figures and show the
Bombay Branch Account in London books from Ist January to 31st
December.
3.7
SUGGESTED READINGS
1.
Advanced Accounting by Ashok Sehgal and Deepak Sehgal, Taxmann Allied
Services Pvt. Ltd., New Delhi.
2.
Advanced Accounts by M.C. Shukla, T.S. Grewal and S.C. Gupta, S. Chand and
Co. Ltd., New Delhi.
38
3.
Fundamentals of Advanced Accounting by R.S.N. Pillai and V. Bagavathi, S. Chand
and Co. Ltd., New Delhi.
4.
Studies in Advanced Accounting by S.N. Maheshwari, Sultan Chand and Sons,
New Delhi.
5.
Financial Accounting by Shashi K. Gupta, Nisha Aggarwal and Neeti Gupta,
Kalyani Publishers, Ludhiana.
6.
Financial Accounting by P.C. Tulsian, Pearson Education, New Delhi.
39
Lesson : 4
ROYALTY ACCOUNTS
STRUCTURE
4.0
Objective
4.1
Introduction
4.2
Difference between Royalty and Rent
4.3
Important terms in connection with Royalty
4.4
Accounting Procedure
4.4.1 Journal entries in the books of lessee
4.4.2 Journal entries in the books of landlord
4.5
Summary
4.6
Keywords
4.7
Self Assessment Questions
4.8
Suggested Readings
4.0
OBJECTIVE
After reading the lesson the students should be able to
(i)
Understand the meaning of royalty, differentiate royalty and rent, and explain
the various terms related to royalty accounts such as lessor, lessee, dead rent
and shortworking.
(ii)
Prepare the royalty accounts in the books of both lessor and lessee.
4.1
INTRODUCTION
Royalty is a periodical payment based on output or sale for the use of a
fixed asset or right to its owner. The payment which is made by one person to
1
another for the use of a certain asset is known as Royalty. The person who makes
the payment to the owner of the asset is known as lessee and the owner of the
asset to whom payment is made is called as lessor or landlord. Thus, royalty is
paid by the publisher to the writer of the book, by the manufacturer to the patentee
or to the owner of oil-wells.
According to J.R.Batliboi
“The term royalty expresses an amount payable by one person in return of some
special right or privilege conceded to him by another person, such as the right to publish a
book, or to manufacture and sell a patented article or to work a mine.”
Royalty account is a nominal account in nature and is synonymous with
rent account. Since, it is a nominal account, it is debited in the books of lessee as
ordinary business expenditure and credited in the books of landlord as income for
him. Royalty account is closed at the end of every accounting year by transferring
to Profit and Loss Account.
4.2
DIFFERENCE BETWEEN RENT AND ROYALTY
The major differences between rent and royalty are as follows:
1.
Rent is paid for the use of tangible assets such as building, machinery,
whereas royalty is paid for the use of intangible assets or special right
such as mines, patent right.
2.
Rent is fixed, but the amount of royalty is not fixed and depends on number
of articles produced or sold.
4.3
IMPORTANT TERMS IN CONNECTION WITH ROYALTY
1.
Landlord or lessor :- The person who is the owner of the assets and
surrender the right of its use to some other person and receives the
consideration as royalty is called ‘Lessor’.
2.
Lessee :- The person who pays the royalty in consideration for the use of
that asset is called ‘Lessee’.
3.
Minimum or Dead or Fixed Rent :- It is the minimum amount of rent which
the lessee is required to pay to landlord whether he (lessee) has desired any
2
benefit or not out of the right or property rented out to him by the lessor. Thus,
such minium rent is fixed at the time of agreement between the two parties. The
fixation of such a rent is in the interest of landlord because it guarantees the
receipt of the minimum amount in case of low output or sales. So a lessee has
to pay minimum rent or royalty, whichever is more. Minimum rent is generally
fixed that is why it may be known as Dead or Fixed or Flat Rent but some time it
may vary also according to the terms of the agreement.
4.
Shortworking :- The excess of minimum rent over royalty calculated on
the basis of output or sales is termed as short working.
Shortworking = Minimum Rent - Royalty
For example if minimum Rent is fixed Rs. 10,000 and actual royalty for Ist
and IInd year of output is Rs. 4,000 and 9,500/- respectively, so shortworking
will be Rs. 6,000/- and Rs. 500/- for Ist and IInd year respectively.
5.
Recoupment of shortworking :- Usually in the first few years of the
royalty agreement, the work does not gather the required momentum because
of the time taken in the preparation for starting the production, so
shortworkings may arise in first few years. Keeping this in view, royalty
agreement may contain a clause that shortworking can be recouped by the
lessee in the following manner:-
(i)
Without any time limit :- According to this clause in the agreement the
time limit for the recoupment of shortworkings is not mentioned. So, the
shortworkings, then, may be recouped throughout the period of the lease.
In such a case the amount of un-recouped shortworkings will be transferred
to the Profit & Loss Account only in the last year of the period of lease
and not earlier.
(ii)
When shortworkings can be recouped in a fixed period :- There may be a clause in
the agreement that the shortworkings can be recouped in the given first few years of
the lease such as first three years, first four years or first five years. For example if
a coal mine is leased on Ist Jan. 2000 for a period of 10 years and if shortworkings
can be recouped only during the first 4 years of the lease, the shortworkings will be
recouped upto 2003 only and not afterwards. The balance of shortworkings in 2003
and thereafter will be transferred to Profit & Loss Account.
3
(iii)
4.4
When shortworkings can be recouped in the next few years :- In this
clause of agreement, the period allowed for recoupment of each year’s
shortworking is calculated from the year during which the shortworkings
arose. For example, if a mine is leased on Ist Jan 1990 for a period of 20
years and if it is given in the agreement that shortworkings can be
recouped in the subsequent 3 years, then shortworkings of 1990 can be
recouped upto 1993 and shortworkings of 1991 can be recouped upto
1994 and of 1992 upto 1995 and so on. If shortworkings which could
not be recouped during the stipulated period of 3 years that shortworkings
will be transferred to Profit & Loss Account in the year in which the
right of recoupment lapses.
ACCOUNTING PROCEDURE
The following points need to be noted down before preparing the Royalty Accounts :1. Name of Landlord and Lessee.
2. Period of Lease.
3. Commencement of agreement.
4. Royalty Rates.
5. Minimum Rent.
6. Right of recoupment of shortworkings.
7. Mode of payment to Landlord.
A calculation table may be prepared before making the Journal entries
which makes easy solution, The format of table is as follows:Year Output Royalty
Rs.
Short
Shortwor- Unrecouped
Amount
working ing recou- shortworkings
paid to
ped
transferred to
Landlord
P&L Account
Rs.
Rs.
Rs.
Rs.
4
4.4.1 Journal entries in the books of lessee
There may be three types of situations in order to pass Journal entries in the
books of lessee:1.
When minimum Rent is more than Royalty.
2.
When minimum Rent is equal to Royalty.
3.
When minimum Rent is less than Royalty.
Ist Case
When Minimum Rent is more than Royalty :(i)
When Royalty is due :Royalty A/c
Dr.
Shortworkings A/c
Dr.
To Landlord A/c
(Being Royalty and Shortworkings due to Landlord)
(ii)
When payment is made :Landlord A/c
Dr.
To Cash/Bank
(Being Cash paid to Landlord)
(iii)
Closing entry at the end of the year :Profit & Loss A/c
Dr.
To Royalty A/c
(Being Royalty Account transferred to Profit & Loss A/c.)
5
IInd Case
When Minimum Rent and Royalty are equal
(i)
When Royalty is due :Royalty A/c
Dr.
To Landlord A/c
(Being Royalty due)
(ii)
When payment is made:Landlord A/c
Dr.
To Cash/Bank
(Being Payment made to Landlord)
(iii)
For closing Royalty A/c at the end of the year
Profit & Loss A/c
Dr.
To Royalty A/c
(Being Royalty Account transferred to Profit & Loss a/c.)
IIIrd Case
When Minimum Rent is less than Royalty and Shortworking recouped.
(i)
For Royalty due
Royalty A/c
Dr.
To Landlord A/c
(Being Royalty due to Landlord)
6
(ii)
For payment & recouped of shortworking
Landlord A/c
Dr.
To Cash/Bank
To Shortworking (Recouped)
(Being payment made to landlord and shortworking recouped)
(iii)
For closing Royalty a/c and unrecouped shortworking :Profit & Loss A/c
Dr.
To Royalty A/c
To Shortworking (Unrecouped)
(Being Royalty & Unrecouped shortworking transferred to Profit& Loss A/c.)
Kinds of Royalties
1.
Royalties in connection with mines.
2.
Royalties regarding oil-wells.
3.
Royalties regarding Brick Making
4.
Royalties regarding Patents.
5.
Royalties regarding copyright.
Illustration-1: Bengal Coal Ltd., leased in a colliery on Ist Jan. 2001 at a
minimum rent of Rs. 15,000 merging into a royalty of Re 1 per ton with a right to
recoup shortworkings over the first three years of the lease. The output for the
first four years of the lease was 8,000, 13,000, 21,000 and 18,000 tones
respectively. Pass necessary journal entries in the books of the company and
show the necessary ledger accounts.
7
Solution
Calculation Table
Year
Output
Royalty
2001
8,000
8,000
15,000
2002
13,000
13,000
2003
21,000
2004
18,000
2001
Dec 31
Minimum
Short
Rent
Workings
Short
Workings
Recouped
Unrecoued
S.W transfer
to P & L A/C.
Paid to
Landlord
7,000
-
-
15,000
15,000
2,000
-
-
15,000
21,000
15,000
-
6,000
3,000
15,000
18,000
15,000
-
-
-
18,000
Royalties A/c
Shortworking A/c
Dr.
Dr.
8,000
7,000
To Landlord A/c
(Being royalties and short
working due to landlord)
Dec 31
Landlord A/c
15,000
Dr.
15,000
To Cash A/c
(Being payment made to
landlord)
Dec 31
Profit & Loss A/c
15,000
Dr.
8,000
To Royalties A/c
(Being Royalties A/c transferred to Profit & Loss A/c.)
2002
Dec.31
Royalties A/c
Shortworking A/c
8,000
Dr.
Dr.
To Landlord A/c
(Being royalties and short
workings due to landlord)
13,000
2,000
15,000
8
Dec 31
Landlord A/c
Dr.
15,000
To Cash A/c
(Being cash paid to landlord)
Dec 31
Profit & Loss a/c
15,000
Dr.
13,000
To Royalties A/c
(Being Royalties A/c transferred
to Profit & Loss A/c)
2003
Dec 31
Royalties A/c
13,000
Dr.
21,000
To Landlord A/c
(Being royalties due to landlord)
Dec 31
Landlord A/c
21,000
Dr.
21,000
To Cash A/c
To Shortworking A/c
(Recouped)
(Being cash paid to landlord
& excess royalty utilized for
recouping the Shortworking)
Dec 31
Profit & Loss A/c
Dr.
15,000
6,000
24,000
To Royalties A/c
To Shortworking A/c
(Unrecouped)
(Being royalties & Unrecouped
shortworkings transferred to
Profit & Loss A/c)
2004
Dec 31
Royalties A/c
Dr.
21,000
3,000
18,000
To Landlord A/c
(Being Royalties due to landlord)
Dec 31
Landlord A/c
18,000
Dr.
To Cash A/c
(Being cash paid to landlord)
18,000
18,000
9
Dec 31
Profit & Loss A/c
Dr.
18,000
To Royalties A/c
(Being Royalty A/c. transferred to
Profit & Loss A/c)
Dec 31
Profit & Loss A/c
Dr.
18,000
24,000
To Royalties A/c
To Shortworking A/c
(Unrecouped)
(Being royalties & Unrecouped
shortworkings transferred to
Profit & Loss A/c)
2004
Dec 31
Royalties A/c
Dr.
21,000
3,000
18,000
To Landlord A/c
(Being Royalties due to landlord)
Dec 31
Landlord A/c
18,000
Dr.
18,000
To Cash A/c
(Being cash paid to landlord)
Dec 31
Profit & Loss A/c
18,000
Dr.
18,000
To Royalties A/c
(Being Royalty A/c. transferred to
Profit & Loss A/c)
18,000
Ledger Accounts
Royalties Account
2001
Dec.31
To Landlord A/c.
2002
Dec.31
To Landlord A/c.
2003
Dec.31
To Landlord A/c.
2004
Dec.31
To Landlord A/c.
Rs.
2001
8,000
Dec.31
8,000
2002
13,000
Dec.31
13,000
2003
21,000
Dec.31
21,000
2004
18,000
Dec.31
18,000
Rs.
By P & L a/c
8,000
8,000
By P & L a/c
13,000
13,000
By P & L a/c
21,000
21,000
By P & L a/c
18,000
18,000
10
Shortworking Account
2001
Dec 31 To Landlord A/c.
Rs.
7,000
7,000
2001
Dec 31
2002
Jan 1
To Bal. b/d
Dec 31 To Landlord A/c.
7,000
2,000
Dec 31
2003
Jan 1
9,000
9,000
2003
Dec 31
To Bal. b/d
By Bal. c/d
2002
Dec 31
Rs.
7,000
7,000
By Bal. c/d
By Landlord
A/c
By P & L A/c
9,000
9,000
9,000
6,000
3,000
9,000
Landlord Account
2001
Dec 31
To Cash A/c.
Rs.
2001
15,000
Dec 31
By Royalties A/c
8,000
Dec 31
By Short
7,000
15,000
2002
Dec 31
Rs.
Working A/c
15,000
By Royalties A/c
13,000
2002
To Cash A/c
15,000
Dec 31
By Short
15,000
2003
Dec 31
2,000
Working A/c.
15,000
By Royalties A/c
21,000
2003
To Cash A/c
15,000
To Short
6,000
Dec 31
Working A/c.
(recouped)
21,000
2004
Dec 31
21,000
2004
To Cash A/c
18,000
Dec 31
18,000
By Royalties A/c
18,000
18,000
11
Preparation of Minimum Rent A/c:- When it is asked to prepare a Minimum
Rent Account in the question, the first entry will be split into two journal entries
and other entries will remain same:Journal entries when Minimum Rent Account is to be opened:(i)
Royalties A/c
Shortworking A/c
Dr.
Dr.
To Minimum Rent
(Being Royalties A/c & Shortworking A/c transferred to Minimum Rent
A/c)
(ii)
Minimum Rent A/c
Dr.
To Landlord A/c
(Being Minimum Rent due to Landlord)
(iii)
Landlord A/c
Dr.
To Cash A/c
(Being Payment made to Landlord)
(iv)
Profit & Loss A/c
Dr.
To Royalties A/c
(Being Royalties A/c transferred to P & L A/c)
So, Minimum Rent Account is opened only for those years when Royalty
is less than Minimum Rent or Shortworking arises and this account is opened
only when it is asked to prepare in the question otherwise there is no need to
prepare it.
12
Payment of Royalty half yearly and payment of current year Royalty during
the next year
When Royalty is payable half yearly, Minimum Rent should also be
calculated for half year to compare it with Royalty. In such cases Royalty A/c and
Shortworking A/c are transferred to Profit & Loss A/c at the end of the year.
Similarly some times the current year Royalty is paid in the next year. In
such cases the entry of Royalty will be passed in the same year but actual payment
of Royalty will be made in the year of payment.
Illustration -2 : Hari Ltd., obtained a Coal mine on lease for 15 years from Ist
Jan 1990 on a Royalty of Rs. 2 per ton of the output, payable half yearly on 30th
June & 31st Dec. every year. The Minimum Rent was fixed at Rs. 8,000 per half
year with a power to recoup shortworkings over the first two years of the lease.
The output was as follows:30th June
1990
800 tons
31st Dec
1990
3600 tons
30th June
1991
5000 tons
31st Dec
1991
6000 tons
30th June
1992
3650 tons
31st Dec
1992
10,000 tons
Hari Ltd. prepare its final accounts annually on 31st Dec. every year and
the Royalty which was due on 31st Dec. 1991 was, infact, paid on 20th January,
1992. Prepare necessary ledger accounts in the books of Hari Ltd., and also show
the items in Profit & Loss A/c and Balance Sheet.
13
Solution
ANALYTICALTABLE
Half year
ending on
Output
in tonns
Royalty Minimum
@Rs.2/Rent
Per Ton
Rs.
Rs.
Short
Workings
Rs.
Short
Workings
Recouped
ed
Rs.
Unrecouped Payment
Shortworkings
to
transferred
Landto P&L A/c
lord
30.06.90
800
1,600
8,000
6,400
-
-
8,000
31.12.90
3,600
7,200
8,000
800
-
-
8,000
30.06.91
5,000
10,000
8,000
-
2,000
-
8,000
31.12.91
6,000
12,000
8,000
-
4,000
1,200
8,000
30.06.92
3,650
7,300
8,000
700
-
700
8,000
31.12.92
10,000
20,000
8,000
-
-
-
20,000
Books of Hari Ltd.
Royalty Account
1990
Rs.
1990
Dec 31
Jun 30
To Landlord A/c
1,600
Dec 31
To Landlord A/c
7,200
Rs.
By P & L A/c
8,800
8,800
8,800
1991
1991
Jun 30
To Landlord A/c
10,000
Dec 31
To Landlord A/c
12,000
Dec 31
By P & L A/c
22,000
22,000
22,000
1992
1992
Jun 30
To Landlord A/c
7,300
Dec 31
To Landlord A/c
20,000
Dec 31
27,300
By P & L A/c
27,300
27,300
14
Shortworking A/c
1990
Jun 30
Dec 31
1991
Jan 1
To Landlord A/c
To Landlord A/c
To Balance b/d
Rs.
6,400
800
7,200
1990
7,200
Rs.
Dec 31
By Balance c/d
7,200
7,200
1991
Jun 30
Dec 31
Dec 31
By Landlord A/c
By Landlord A/c
By P& L A/c
2,000
4,000
1,200
7,200
1992
Dec 31
By P & L a/c
7,200
1992
Jun 30
To Landlord A/c
700
700
Landlord A/c
1990
Jun 30
Dec 31
To Cash A/c
To Cash A/c
Rs.
8,000
8,000
1990
Jun 30
Jun 30
Dec 31
Dec 31
By Royalty A/c
By S.W. A/c
By Royalties
By S.W. A/c
1991
Jun 30
Dec 31
By Royalty A/c
By Royalty A/c
16,000
1991
Jun 30
Jun 30
Dec 31
Dec 31
To Cash A/c
To S.W.(recouped)
To S.W.(recouped)
To Bal. b/d
8,000
2,000
4,000
8,000
22,000
1992
Jan 20
Jun 30
Dec 31
To Cash A/c
To Cash A/c
To Cash A/c
Rs.
1,600
6,400
7,200
800
16,000
10,000
12,000
22,000
1992
Jan 01
Jun 30
Jun 30
Dec 31
8,000
8,000
20,000
36,000
By Bal. b/d
By Royalty A/c
By S.W. A/c
By Royalty A/c
8,000
7,300
700
20,000
36,000
15
Profit & Loss a/c
1990
Dec 31
Rs.
8,800
To Royalty a/c
8,800
1991
Dec 31
Dec 31
To Royalty a/c
To S.W. a/c
22,000
1,200
23,200
1992
Dec 31
Dec 31
To Royalty a/c
To S.W a/c
27,300
700
28,000
Balance Sheet as on 31st Dec. 1990
Rs.
Rs.
Shortworkings
(Balance)
7,200
Balance sheet as on 31st Dec. 1991
Rs.
Landlord (Amount Due)
8,000
16
Rs.
Recoupment of Shortworkings in the next or subsequent or following few
years
Illustration-3 : Bharat Coal Co. took a mine on lease from Vijay Yadav for a
period of ten years from 1st January 1991, upon the terms of a royalty of 75 paise
per ton with a minimum rent of Rs.15,000 in the first year and then increasing
every year by Rs.2,000 ,till it reaches Rs.19,000 when it becomes fixed for all
the coming years . Bharat Coal Co. was granted the right of recouping shortworkings
of any year in the subsequent three years .
The output was as follows :Years
Output
(in tons)
1991
8,000
1992
18,000
1993
24,000
1994
36,000
1995
44,000
Show Journal Entries in the books of Bharat Coal when :(a)
there is no Minimum Rent Account, and
(b)
there is a Minimum Rent Account .
Solution
Analytical Table
Year Output
in tons
1991
Royalty
Minimum
Rent
Rs.
Short
workings
Rs.
Rs.
S.W Recouped
Rs.
Unrecouped
S.W.transfer
to P&L a/c
Rs.
Payment
to Vijay
Yadav
Rs.
8,000
6,000
15,000
9,000
-
-
15,000
1992 18,000
13,500
17,000
3,500
-
-
17,000
1993 24,000
18,000
19,000
1,000
-
-
19,000
1994 36,000
27,000
19,000
-
8,000
1,000
19,000
1995 44,000
33,000
19,000
-
4,500
-
28,500
17
(a)
When there is no Minimum Rent a/c :-
In the Books of Bharat Coal Co.,
Journal
1991
Dec 31
Dec 31
Rs.
6,000
9,000
Royalties A/c
Dr.
Shortworking A/c
Dr.
To Vijay Yadav A/c
(Being Royalties & shortworkings due to landlord)
Vijay Yadav A/c
15,000
Dr.
15,000
To Cash A/c
(Being cash paid to landlord)
Dec 31
1992
Dec 31
Dec 31
Dec 31
1993
Dec 31
Profit & Loss A/c
Rs.
15,000
Dr.
6,000
To Royalties A/c
(Being Royalties A/c transferred
to Profit & Loss A/c)
6,000
Royalties A/c
Dr.
Shortworkings A/c
Dr.
To Vijay Yadav A/c
(Being Royalties & shortworkings due to landlord)
13,500
3,500
Vijay Yadav A/c
Dr.
To Cash A/c
(Being cash paid to landlord)
17,000
Profit & Loss A/c
Dr.
To Royalties A/c
(Being Royalties A/c transferred
to Profit & Loss A/c)
13,500
Royalties A/c
Dr.
Shortworkings A/c
Dr.
To Vijay Yadav A/c
(Being Royalties and shortworkings due to landlord)
18,000
1,000
17,000
17,000
13,500
19,000
18
Dec 31
Vijay Yadav A/c
Dr.
19,000
To Cash A/c
(Being cash paid to landlord)
Dec 31
Profit & Loss A/c
19,000
Dr.
18,000
To Royalties A/c
(Being Royalties A/c transferred
to Profit & Loss A/c)
1994
Dec 31
Royalties A/c
18,000
Dr.
27,000
To Vijay Yadav A/c
(Being Royalties due to landlord)
Dec 31
Vijay Yadav A/c
27,000
Dr.
27,000
To Cash A/c
To Shortworkings A/c
(Being cash paid to landlord and
shortworkings recouped)
Dec 31
Profit & Loss A/c
19,000
8,000
Dr.
28,000
To Royalties A/c
To Shortworkings A/c
(recouped)
(Being royalties A/c & Unrecouped
shortworkings transferred to Profit
& Loss A/c)
1995
Dec 31
Royalties A/c
Dr.
27,000
1,000
33,000
To Vijay Yadav A/c
(Being Royalties due to landlord)
Dec 31
Vijay Yadav A/c
33,000
Dr.
33,000
To Cash A/c
To Shortworkings A/c
(Being cash paid and shortworkings recouped)
Dec 31
Profit & Loss A/c
28,500
4,500
Dr.
33,000
To Royalties A/c
(Being Royalties A/c transferred
to Profit & Loss Account)
33,000
19
(b)
When there is a Minimum Rent Account:-
1991
Dec 31
Minimum Rent A/c
Dr.
15,000
To Vijay Yadav A/c
(Being minimum rent to
Landlord)
1991
Dec31
Royalties A/c
Shortworkings A/c
15,000
Dr.
Dr.
6,000
9,000
To Minimum Rent A/c
(Being Royalties A/c & shortwor-kings A/c transferred to Minimum
Rent A/c)
Dec 31
Vijay Yadav A/c
15,000
Dr.
15,000
To Cash A/c
(Being cash paid to landlord)
Dec 31
Profit & Loss A/c
15,000
Dr.
6,000
To Royalties A/c
(Being Royalties A/c transferred
to Profit & Loss A/c)
1992
Dec 31
Minimum Rent A/c
6,000
Dr.
17,000
To Vijay Yadav A/c
(Being Minimum Rent due to
landlord)
Dec 31
Royalties A/c
Shortworkings A/c
17,000
Dr.
Dr.
13,500
3,500
To Minimum Rent A/c
(Being Royalties A/c & shortworkings A/c transferred to Minimum
Rent A/c)
Dec 31
Vijay Yadav A/c
17,000
Dr.
17,000
To Cash A/c
(Being cash paid to landlord)
17,000
20
Dec 31
Profit & Loss A/c
Dr.
13,500
To Royalties A/c
(Being Royalties A/c transferred
to Profit & Loss A/c)
1993
Dec 31
Minimum Rent A/c
13,500
Dr.
19,000
To Vijay Yadav A/c
(Being minimum rent due to
landlord)
Dec 31
Royalties A/c
Shortworkings A/c
19,000
Dr.
Dr.
18,000
1,000
To Minimum Rent A/c
(Being Royalties & Shortworkings
A/c transferred to minimum rent
A/c)
Dec 31
Vijay Yadav a/c
19,000
Dr.
19,000
To Cash a/c
(Being cash paid to landlord)
Dec 31
Profit & Loss A/c
19,000
Dr.
18,000
To Royalties A/c
(Being Royalties A/c transferred to
Profit & Loss A/c)
18,000
Stoppage of work due to strike and lockout
If the minimum rent was not attained due to stoppage of work, the Royalty
agreements usually contain a provision that the amount of Minimum Rent will be
reduced for that year. Provision for the reduction of Minimum Rent may be
any of the following types:(i)
Minimum Rent is to be reduced proportionately according to the length of
stoppage of work due to strike or lockout.
(ii) In the year of stoppage, the Minimum Rent is to be reduced by a certain
percentage.
(iii) In some agreements, it is mentioned that in the year of strike, actual
royalties earned for the year will discharge all rental obligations.
21
Illustration- 4 : Haryana Steel Ltd., obtained a lease from Y Ltd., for a coal mine
on Ist Jan 1990 on the following terms:1.
2.
3.
4.
Royalty at Re. 1 per tonne.
Minimum Rent Rs. 12,000 p.a.
Recoupment of shortworkings of each year during three years following,
subject to a maximum of Rs. 2,500 p.a.
In the event of strike, the minimum rent would be taken pro-rata on the
basis of actual working days but in the event of lockout, the lessee would
enjoy a concession in respect of minimum rent for 50%of the period of
lockout.
Besides the above, Haryana Steel Ltd., have been granted a cash subsidy
equal to 25% of the unrecoupable shortworkings by the Central Govt.
5.
Working upto first 6 years is as follows:1990
Actual Royalty
Rs.
7,000
1991
Actual Royalty
Rs. 10,200
1992
Actual Royalty
Rs. 16,100
1993
Actual Royalty
Rs. 13,600
1994
Actual Royalty
Rs. 10,800(Strike for 73 days)
1995
Actual Royalty
Rs.
9,700(Lockout for 4 months)
Show the Ledger Accounts in the Books of Haryana Steel Ltd.
Solution
Analytical Table
Year Royalties
M.R.
S.W.
S.W.
S.W.
Cash
Recouped Unrecouped Subsidy
Transferred Payment
to P&l a/c to Lanlord
1990
7,000
12,000
5,000
-
-
-
-
12,000
1991
10,200
12,000
1,800
-
-
-
-
12,000
1992
16,100
12,000
-
2,500
-
-
-
13,600
1993
13,600
12,000
-
1,600
900
225[1]
675
12,000
1994
10,800
9,600[2]
-
1,200
600
150[1]
450
9,600
9,700 10,000[3]
300
-
-
-
-
10,000
1995
22
Notes:
(1) Cash Subsidy is 25% of Irrecoverable shortworkings.
(2) Minimum Rent is reduced for 73 days i.e.
12,000 x 73 = Rs. 2,400
365
Rs. 12,000 - Rs. 2,400 = Rs. 9,600
(3) Minimum Rent for lockout period for 4 months is
Rs. 12,000 x 4 = Rs. 4,000
42
Therefore, concession in Minimum Rent will be 50% of Rs.4,000 i.e. Rs. 2,000.
Rs. 12,000 - Rs. 2,000
= Rs. 10,000
Books of Haryana Steel Ltd.,
Royalties Account
1990
Dec 31
To Y Ltd.,
1991
Dec 31
To Y Ltd.,
1992
Dec 31
To Y Ltd.,
1993
Dec 31
To Y Ltd.,
1994
Dec 31
To Y Ltd.,
1995
Dec 31
To Y Ltd.,
7,000
1990
Dec 31
7,000
1991
10,200
Dec 31
10,200
1992
16,100
Dec 31
16,100
1993
13,600
Dec 31
13,600
1994
10,800
Dec 31
10,800
1995
9,700
9,700
Dec 31
23
By P & L A/c
7,000
7,000
By P & L A/c
10,200
10,200
By P & L A/c
16,100
16,100
By P & L A/c
13.600
13,600
By P & L A/c
10,800
10,800
By P & L A/c
9,700
9,700
Shortworkings Account
1990
Dec31
1991
Jan01
Dec31
1992
Jan01
To Y Ltd.
1990
Dec31
5,000
5,000
By bal. c/d.
5,000
5,000
By bal. c/d
6,800
6,800
By Y Ltd.
By bal c/d
2,500
4,300
6,800
1993
Dec31
Dec31
Dec31
Dec31
By Y Ltd.
By Cash (Subsidy)
By P & L A/c
By bal. c/d
1,600
225
675
1,800
4,300
1994
Dec31
Dec31
Dec31
By Y Ltd.
By Cash (Subsidy)
By P & L A/c
1,200
150
450
1,800
1995
Dec31
By bal c/d
1991
To bal. b/d
To Y Ltd.
To bal. b/d
5,000
1,800
6,800
Dec31
1992
Dec31
6,800
6,800
1993
Jan01
To bal. b/d
4,300
4,300
1994
Jan01
To bal. b/d
1,800
1,800
1995
Jan01
To Y Ltd.
300
300
300
300
Y Ltd. Account
1990
Dec31
To Cash A/c
1990
Dec31
Dec31
12,000
12,000
1991
Dec31
To Cash A/c
1991
Dec31
Dec31
12,000
12,000
24
By Royalties A/c
By shortworkings
A/c
7,000
5,000
12,000
By Royalties A/c
By shortworkings
A/c
10,200
1,800
12,000
1992
Dec31
1993
Dec31
1994
Dec31
1995
Dec31
To Cash A/c
To shortworkings
A/c
13,600
2,500
16,100
To Cash A/c
To shortworkings
A/c
12,000
1,600
13,600
To Cash A/c
To shortworkings
A/c
9,600
1,200
10,800
To Cash a/c
1992
Dec 31
By Royalties A/c
16,100
16,100
1993
Dec 31
By Royalties A/c
13,600
13,600
1994
Dec 31
By Royalties A/c
10,800
10,800
1995
Dec 31
10,000
By Royalties A/c
By S.W. A/c
10,000
9,700
300
10,000
4.4.2 Journal Entries in the Books of Landlord
In the books of the lessor or landlord the accounting treatment will be
the reverse of what we have done so far. The following entries will be recorded:
(I)
When the royalties received are less than the Minimum Rent and
shortworkings are recoverable out of future years
(a)
Lessee’s Account
Dr.
To Royalties Receivable A/c
To Royalties Reserve A/c
(Being Minimum Rent due from Lessee)
(b)
Cash A/c
Dr.
To Lessee’s A/c
(Being cash received from Lessee)
25
(c)
Royalty Receivable A/c
Dr.
To Profit & Loss A/c
(Being Royalty receivable A/c transferred to Profit
& Loss a/c)
(II)
When Royalties and Minimum Rent both are equal
(a)
Lessee’s A/c
Dr.
To Royalties Receivable A/c
(Being Royalties due from Lessee)
(b)
Cash A/c
Dr.
To Lessee’s A/c
(Being cash received from Lessee)
(c)
Royalty Receivable A/c
Dr.
To Profit & Loss A/c
(Being Royalties A/c transferred to Profit
& Loss A/c)
(III)
When the Royalties received are more than the Minimum Rent
and power to recoup the shortworkings
(a)
Lessee’s A/c
Dr.
To Royalties Receivable A/c
(Being Royalties due from Lessee)
(b)
Cash A/c
Royalties Reserve A/c
Dr.
Dr.
To Lessee’s A/c
(Being cash received & shortworkings recouped)
26
(c)
Royalties Receivable A/c Dr.
Royalties Reserve A/c
Dr.
To Profit & Loss A/c
(Being royalty & unrecouped shortworkings transferred to
Profit & Loss A/c)
Illustration-5 : On Ist Jan., a Coal Co., took a Coal mine on lease for 15 years
as the terms of paying a Minimum Rent of Rs. 10,000 per year, merging into a
royalty of 50 paise per tonne. The output was as under:Year
Ist
2nd
3rd
4th
Output(in tonne)
16,000
18,000
20,000
22,000
In terms of the lease provided that the dead rent not merged in Royalty
could be deducted out of future royalty in excess of the minimum, provided this
recovery was made in the three years following the year in which the shortworking
arose. Record these transactions in the books of the landlord.
Solution
CALCULATION TABLE
Year
Output
Royalty
(in tonnes) Receivable
Minimum
Royalty
Rent
Reserve
Royalty Reserve
Utilised
@.50p per
Transferred
Amount
Received
to P & L A/c
Ton
Rs.
Rs.
Rs.
Rs.
Rs.
1.
16,000
8,000
10,000
2,000
-
-
10,000
2.
18,000
9,000
10,000
1,000
-
-
10,000
3.
20,000
10,000
10,000
-
-
-
10,000
4.
22,000
11,000
10,000
-
1,000
1,000
10,000
27
Books of Landlord (lessor)
JOURNAL
1st Year
Dec31
Lessee’s A/c
Dr.
10,000
To Royalty Receivable A/c
To Royalty Reserve A/c
(For amount of royalty receivable
earned and the excess of minimum
rent transferred to royalty reserve A/c)
Dec31
Cash A/c
8,000
2,000
Dr.
10,000
To Lessee’s A/c
(For amount received from the lessee)
Dec31
Royalty receivable A/c
10,000
Dr.
8,000
To Profit & Loss A/c
(For royalty receivable account
transferred to Profit & Loss A/c)
2nd year
Dec31
Lessee’s A/c
8,000
Dr.
10,000
To Royalty Receivable A/c
To Royalty Reserve A/c
(For amount of royalty receivable
earned and the excess of minimum
rent transferred to royalty reserve a/c)
Dec31
Cash A/c
9,000
1,000
Dr.
10,000
To Lessee’s A/c
(For amount received from the lessee)
Dec31
Royalty receivable A/c
10,000
Dr.
To Profit & Loss A/c
(For royalty receivable account
transferred to Profit & Loss A/c)
28
9,000
9,000
3rd year
Dec31
Lessee’s A/c
Dr.
10,000
To Royalty Receivable A/c
(For royalty receivable earned)
Dec31
10,000
Cash A/c
Dr.
10,000
To Lessee’s A/c
(For amount received from the lessee)
Dec31
Royalty receivable A/c
10,000
Dr.
10,000
To Profit & Loss A/c
(For royalty receivable account
transferred to Profit & Loss A/c)
4th year
Dec31
Lessee’s A/c
10,000
Dr.
11,000
To Royalty receivable A/c
(For royalty receivable earned)
Dec31
11,000
Cash A/c
Royalty Reserve A/c
Dr.
Dr.
10,000
1,000
To Lessee’s A/c
(For royalty reserve written off to the
extent of shortworkings recouped by
lessee and the balance received in
cash)
Dec 31
Royalty Receivable A/c
Royalty reserve A/c
11,000
Dr.
Dr.
To Profit & Loss A/c
(For royalty receivable and the amount
of royalty reserve A/c to the extent of
irrecoverable shortworkings transferred
to Profit & Loss A/c)
29
11,000
1,000
12,000
Ledger
Lessee’s A/c
Dr.
1st year
Dec31
2nd year
Dec31
3rd year
Dec31
4th year
Dec31
Cr.
Rs.
To Royalty
Receivable A/c
To Royalty
Reserve A/c
To Royalty
Receivables A/c
To Royalty
Reserve A/c
1st Year
Dec31
By Cash A/c
Rs.
10,000
8,000
2,000
10,000
10,000
2nd year
Dec31
By Cash A/c
10,000
9,000
1,000
10,000
10,000
3rd year
To Royalty
Receivable A/c
10,000
Dec31
By Cash A/c
10,000
By Cash A/c
By Royalty
Reserve A/c
10,000
1,000
4th year
To Royalty
Receivable A/c
11,000
Dec31
11,000
11,000
Royalty Receivable Account
1st year
Dec31
To P & L A/c
2nd year
Dec31
To P & L A/c
Rs.
8,000
8,000
9,000
9,000
3rd year
Dec31
To P & L A/c
10,000
10,000
4th year
Dec31
To P & L A/c
11,000
11,000
30
1st year
Dec31
Rs.
8,000
8,000
By Lessee’s A/c
2nd year
Dec31
By Lessee’s A/c
9,000
9,000
3rd year
Dec31
By Lessee’s A/c
10,000
10,000
4th year
Dec31
By Lessee’s A/c
11,000
11,000
Royalty Reserve Account
1st year
Dec31
2nd year
Dec31
To bal c/d
To bal c/d
Rs.
2,000
1st year
Dec31
By Lessee’s A/c
3,000
2nd year
Jan 1
Dec31
By bal b/d
By Lessee’s A/c
2,000
1,000
3,000
3rd year
Jan 1
By bal b/d
3,000
4th year
Jan 1
By bal. b/d
3,000
3,000
3rd year
Dec31
4th year
Dec31
Dec31
Dec31
To bal c/d
To Lessee’s A/c
To P & L A/c
To bal c/d
3,000
1,000
1,000
1,000
3,000
Rs.
2,000
3,000
5th year
Jan 1
By bal b/d
1,000
Sub lease
Some times the terms of the original lease may empower the lessee to
sublet a part of the land or mine to another person as a sub-lease.
It is usual that the terms of agreement between A(original lessee) and
B (original lessor) will be quite different to those between A (original lessee)
and C (sub lessee).
The position of A will be two-fold: as lessee paying royalties to B as
landlord receiving royalties to C. First, as lessee A will prepare the following
Accounts:
(i)
(ii)
(iii)
(i)
(ii)
Royalty payable Account.
Lessor or landlord’s Account i.e., the account of B.
Shortworkings Recoverable Account.
Secondly, as landlord A will maintain the following accounts:Royalty Receivable Account.
Sub-lessee Account i.e. the account of C.
31
(iii)
Royalty Reserve Account.
A will prepare two analytical tables in his books. First Analytical Table
for the calculation of the royalties payable to B and the second Analytical Table
for the calculation of royalties receivable from C.
Illustration-6 : A obtained on Ist Jan 1990, from B a lease of some coal bearing
land. The term being a royalty of Rs. 0.50 per ton of coal raised subject to a
minimum rent of Rs. 2,000 p.a. with a right of recoupment of shortworkings over
the first four years of the lease.
A granted a sub-lease of part of the land to C and a royalty of Rs. 0.75
per ton merging into a minimum rent of Rs. 1,000 p.a. with a right of recoupment
of shortworkings during the two years following the shortworkings.
The output for the first five years as follows:
Year
A(tons)
C(tons)
1990
2,200
800
1991
2,320
1,080
1992
2,600
1,400
1993
2,800
1,800
1994
3,600
2,400
Give the necessary Ledger Accounts in the books of A .
Total output(tons)
3,000
3,400
4,000
4,600
6,000
Solution
Royalties Payable Account
1990
Dec31
Rs.
To B (@ 50P.on
2,200 + 800 tons)
1990
Dec31
1,500
Rs.
By Royalties receiveable A/c (@ 50P.
on 800 tons)
By Production A/c
1,500
1991
Dec31
To B (@50P.on
2,320 + 1,080 tons)
1991
Dec31
1,700
1,700
32
By Royalties receiveable A/c (@ 50P.
on 1,080 tons)
By Production A/c
400
1,100
1,500
540
1,160
1,700
1992
Dec31
To B (@50P. on
2,600 + 1,400tons)
1992
Dec31
2,000
By Royalties receiveable A/c
By Production A/c
2,000
1993
Dec31
To B (@50P. on
2,800 + 1,800tons)
1993
Dec31
2,300
By Royalties receiveable A/c
By Production A/c
2,300
1994
Dec31
To B (@50P. on
3,600 + 2,400tons)
1994
Dec 31
3,000
By Royalties receiveable A/c
By Production A/c
3,000
700
1,300
2,000
900
1,400
2,300
1,200
1,800
3,000
The royalties paid on account of production done by C has been credited to
Royalties payable account so that amount application on own production (i.e.
production done by A) only is transferred to the Production Account)
Shortworkings Account
1990
Dec31
1991
Jan01
Dec31
To B (Rs.2,000
- Rs.1,500)
To bal b/d
To B (Rs.2,000
- Rs. 1,700)
Rs.
1990
500
500
Dec31
By bal c/d
500
500
1991
Dec31
By bal c/d
800
500
Rs.
300
800
1992
Jan01
To bal b/d
800
800
1993
Jan01
To bal b/d
800
800
1992
Dec31
1993
Dec31
Dec31
800
By bal c/d
800
800
By B
By P & L A/c
(Irrecoverable
Shortworkings)
300
500
800
33
B’s Account
1990
Dec31
Rs.
2,000
To Bank a/c
1990
Dec31
2,000
1991
Dec31
Rs.
2,000
To Bank A/c
1991
Dec31
2,000
1992
Dec31
To Bank A/c
1992
Dec31
2,000
Rs.
By Royalty
Payable A/c
By Short Workings
A/c
Rs.
By Royalty
Payable A/c
By Short Workings
A/c
By Royalty
Payable A/c
2,000
1993
Dec31
Dec31
1994
Dec31
To Short Workings
A/c
To Bank A/c
To Bank a/c
1993
Dec31
300
1,500
500
2,000
By Royalty
Payable A/c
2,000
2,300
1,700
300
2,000
2,000
2,000
2300
2,300
1994
Dec31
3,000
By Royalty
Payable a/c
3,000
Royalties Receivable Account
1990
Dec31
Dec31
1991
Dec31
Dec31
Rs.
To Royalties Payable A/c
To P & L A/c
To Royalties Payable A/c
To P & L A/c
1990
Dec31
400
200
600
Rs.
By C(on 800 tons
@ 75P.)
600
600
1991
Dec31
540
270
810
By C(on 800 tons
@ 75P.)
810
810
34
1992
Dec31
Dec31
1993
Dec31
Dec31
1994
Dec31
Dec31
To Royalties Payable A/c
To P & L A/c
To Royalties Payable A/c
To P & L A/c
To Royalties Payable A/c
To P & L A/c
1992
Dec31
700
350
1,050
By C(on 800 tons
@ 75P.)
1,050
1,050
1993
Dec31
900
450
1,350
By C(on 800 tons
@ 75P.)
1,350
1,350
1994
Dec31
1,200
600
1,800
By C(on 800 tons
@ 75P.)
1,800
1,800
Shortworkings Suspense Account
1990
Dec31
1991
Dec31
To Bal. c/d
To Bal. c/d
Rs.
400
400
1990
Dec31
1991
Jan 1
Dec31
590
Rs.
By C
(Rs.1,000-600)
By Bal. b/d
By C
(Rs.1,000-810)
590
1992
Dec31
1993
Dec31
To C
To P & L A/c(Irrecoverable shortworkingss of 1990)
To Bal c/d
To C
1992
Jan 1
50
By Bal. b/d
350
190
590
400
400
400
190
590
590
590
Rs.
190
190
1993
Jan 1
35
By Bal. b/d
Rs.
190
190
C’s Account
1990
Dec31
Dec31
1991
Dec31
Dec31
1992
Dec31
Rs.
To Royalty Receivable A/c
To Shortworkings
Suspense A/c
To Royalty Receivable A/c
To Shortworkings
Suspense A/c
To Royalty Receivable A/c
1990
Dec31
By Bank A/c
600
400
1,000
1,000
1991
Dec31
By Bank A/c
To Royalty Receivable A/c
190
1,000
1,000
1992
Dec31
1,050
By Shortworkings
Suspense A/c
By Bank A/c
1993
Dec31
1,350
By Shortworkings
Suspense A/c
By Bank A/c
1,350
1994
Dec31
To Royalty Receivable A/c
1,000
810
1,050
1993
Dec31
Rs.
1,000
1994
Dec31
By Bank A/c
50
1,000
1,050
190
1,160
1,350
1,800
1,800
1,800
1,800
Production Account
1990
Dec 31
1991
Dec 31
1992
Dec 31
Rs.
To Royalty Payable A/c
1,100
To Royalty Payable A/c
1,160
To Royalty Payable A/c
1,300
Rs.
36
1993
Dec 31
1994
Dec 31
To Royalty Payable A/c
1,400
To Royalty Payable A/c
1,800
Profit & Loss Account
Rs.
1990
Dec31
1991
Dec31
1992
Dec31
Dec31
1993
Dec31
Rs.
To Shortworkings
1993
Dec31
500
1994
Dec31
Rs.
By Royalty Receiable A/c
200
By Royalty Receiable A/c
270
By Royalty Receiable A/c
By Shortworkings
Suspense A/c
350
350
Rs.
By Royalty Receiable A/c
450
By Royalty receiable a/c
600
Royalties regarding Brick-making and Nazrana paid to landlord
The royalty for brick-making is paid on sand taken out at the rate of per
cubic feet to the owner of the land.
Sometimes, in addition to royalty, landlord charges from the lessee a
lumpsum amount in the very beginning which is known as Nazrana or Advance
Royalty. In such a case a Nazrana Account is opened separately and whole of the
amount divided by the period of the lease is debited to Profit & Loss A/c every
year the amount so arrived.
37
Illustration-7 : A Brick Co., acquired on a 20 years lease, a large plot of land
from Anoop for the purpose of geeing earth. The lease provides that:(a)
A premium or Nazrana of Rs. 10,000 is to be paid to the landlord on
Ist Jan, 1982 when the period of the lease commenced; and
(b)
An annual royalty of 20 paise per 100 cubic feet of earth taken out is
to be paid to him subject to a minimum rent of Rs. 2,000 per year,
any shortworkings to be recouped out of future excess royalty. This
annual royalty is to be paid on 31st Dec. each year.
The quantity of earth extracted by the lessee in 1982, 1983 and 1984 was
8,00,000; 9,00,000 and 12,00,000 cubic feet respectively.
Enter these transactions in the ledger of the three years in the books of A
Brick Co.
Solution
Analytical table
Year
Output
1982
8,00,000
1983
1984
Royalties
Minimum
Rent
S.W.
S.W.
recouped
Unrecouped
S.W transferred to P & L
a/c
Payment
to land
lord
1,600
2,000
400
-
-
2,000
9,00,000
1,800
2,000
200
-
-
2,000
12,00,000
2,400
2,000
-
400
-
2,000
Lease premium or Nazrana Account
Dr.
1982
Jan01
Cr.
To Cash A/c
Rs.
10,000
1982
Dec31
Dec31
10,000
By P & L A/c
By Bal c/d
Rs.
500
9,500
10,000
38
1983
Jan01
To Cash A/c
9,500
1983
Dec31
Dec31
By P & L A/c
By Bal c/d
500
9,000
9,500
1984
Dec31
Dec31
By P & L A/c
By Bal c/d
500
8,500
9,000
9,500
1984
Jan01
To Cash A/c
9,000
9,000
Royalties Account
Dr.
Cr.
1982
Dec31
To Anoop
Rs.
1,600
1,600
1983
Dec31
To Anoop
1,800
1,800
1984
Dec31
To Anoop
2,400
2,400
1982
Dec31
By P & L a/c
Rs.
1,600
1,600
1983
Dec31
By P & L a/c
1,800
1,800
Dec31
By P & L a/c
2,400
2,400
Shortworking Account
Dr.
Cr.
1982
Dec31
To Anoop
1983
Jan01
Dec31
To Bal b/d
To Anoop
1984
Jan01
To Bal b/d
Rs.
400
400
400
200
600
1982
Dec31
By Bal. c/d
Rs.
400
400
1983
Dec31
By Bal. c/d
600
600
1984
Dec31
Dec31
600
600
39
By Anoop
By Bal c/d
400
200
600
Anoop’s Account
Dr.
1982
Dec31
Cr.
To Cash A/c
Rs.
2,000
1982
Dec31
Dec31
By Royalties A/c
By S.W. A/c
2,000
1983
Dec31
1983
To Cash A/c
2,000
Dec31
Dec31
By Royalties A/c
By S.W. A/c
1,800
200
2,000
1984
Dec31
By Royalties A/c
2,400
2,000
1984
Dec31
Dec31
Rs.
1,600
400
2,000
To S.W.A/c
To Cash A/c
400
2,000
2,400
2,400
No right to recoup shortworkings
Sometimes nothing is mentioned in the question about the recoupment
of shortworkings. In such cases, shortworkings account is not to be opened at all
and the landlord is to be paid the amount of royalties or the minimum rent,
whichever be the higher. There is no need to calculate the short-workings in such
type of problems.
4.5
SUMMARY
Royalty is a periodical payment based on output or sale for the use of a
certain asset or right like mine, copyright or patent to its owner. Royalty account
is a nominal account in nature and is synonymous with rent account. Before
preparing the royalty accounts, a few points like name of landlord and lessee,
period of lease commencement of agreement, royalty rates, minimum rent, right
of recoupment of shortworkings and mode of payment to landlord should be noted
down. While passing journal entries in the books of lessee, these may be three
40
situations- when minimum rent is more than royalty equal to royalty and less than
royalty. In the books of the lessor or landlord, the accounting treatment will be
the reverse of lessee. Sometimes, the terms of the original lease may empower
the lessee to sublet a part of land or mine to another person as a sub-lease.
4.6
KEYWORDS
Royalty: It is a periodical payment based on output or sale for the use of a fixed
asset or right to its owner.
Lessor: The person who is the owner of the assets and surrenders the right to its use
to some other person and receives the consideration as royalty is known as lessor.
Minimum Rent: It is the minimum amount that the lessor or landlord must receive
whatever be the production or sales in a particular year.
Shortworking: The excess of minimum rent over royalty calculated on the basis
of output or sales is known as shortworking.
Lessee: The person who pays the royalty in consideration for the use of that asset
is called lessee.
4.7
1]
SELF ASSESSMENT QUESTIONS
(a) What do you understand by Royalty ? How does it differ
from Rent?
(b) What is shortworking ? Give the rules of accounts in
this connection.
2]
Explain the following terms:
(a)
Minimum Rent
(b)
Sub -Lease
(c)
Royalty Reserve
(d)
Advance Royalty
(e)
Re-coupment of Shortworkings
41
3]
4]
Pass the journal entries in the books of Lessee when :
(a)
Royalty is more than the minimum rent .
(b)
Royalty is less than the minimum rent .
Parbhat Coal Company took a lease of coal mine for a period of 10 years
from 1st January, 1979 upon the terms of a royalty of 80 paise per ton with a
minimum rent of Rs. 10,000 per annum with power to recoup shortworking over
the first five years of the lease.
Output are as follows:
1979
4,000tons 1981
1980
6,000tons 1982
10,000tons 1983
16,000tons
1984
25,000tons
30,000tons
Prepare journal entries and ledger accounts in the books of Parbhat Coal Company.
5]
On Ist January, 1978 Manoj Coal Co., Ltd. took a lease of Coal Mine from
X at a Royalty of 50 paise per ton raised with a minimum rent of Rs. 5,000 per
year and with a right to recoup shortworkings during the first four years of the
lease. During the first five years, the output were as follows:
Years
1978
1979
1980
1981
1982
Output(Tons)
6,000
7,000
10,200
12,000
14,000
Give journal entries and write up the Minimum Rent A/c, Royalty
A/c, Landlord’s A/c and Shortworkings A/c in the books of Manoj Coal Co.
6]
Rama Coal Company took a coal mine on lease for a period of 20 years
from 1st Jan., 1992 on a royalty of Rs. 2 per tonne of the output payable half
yearly on 30th June and 31st December. The Minimum Rent was fixed at Rs.
24,000 per year with power to recoup shortworkings over the first three years
of the lease.
42
The output was as follows:Half year ending 30th June, 1992
2,000tons
Half year ending 31st December, 1992
2,500tons
Half year ending 30th June, 1993
5,000tons
Half year ending 31st December, 1993
8,000tons
Half year ending 30th June, 1994
11,000tons
Half year ending 31st December, 1994
4,500tons
Rama Coal Company prepares its final accounts annually on 31st Dec. every
year and the royalty which was due on 31st Dec., 1993 was in fact paid on 10th
Jan. 1994.
You are required to record the above transactions in the ledger of the Rama
Coal Company and also to show the items in the Profit & Loss A/c and Balance
Sheet.
7]
X leased a coal mine from Y on a royalty of 75 paise per ton with a minimum
rent of Rs. 24,000 per annum. Each year’s excess of minimum rent over the actual
royalties was recoupable during the subsequent three years.
The lease, however, stipulated that in the event of strike, the minimum rent
would be reduced proportionately.
The output was as follows:
1989
6,000tons
1990
18,000tons
1991
36,000tons
1992
50,000tons
1993
44,000tons(Strike for 2 months)
1994
20,000tons(Strike for 73 days)
Prepare necessary accounts in the books of X. Also show the amounts in
each year’s P & L A/c and Balance sheet.
43
8]
The Binnie Colliery Company are lessee of a mine at a dead rent of Rs.
2,000 per annum merging into a royalty of 35 paise per ton. Dead Rent paid in
excess of actual royalties is recoupable thereout during the five years succeeding
the year in respect of which such excess was paid. In the event of a strike if the
actual royalty was less than the dead rent, it was to discharge all rental obligations.
The first year in respect of which the dead rent was payable expired on 31st
December 1980. The excess paid in comparison to royalty in respect of first
year was Rs. 2,000 excess paid in second year was Rs. 1,450 and excess paid third
year was Rs. 350. In the fourth year actual royalties amounted to Rs. 2,750, in
the fifth year Rs. 3,250, in the sixth year Rs. 3,600 and in the seventh year (in
consequent of a strike) Rs. 1,850 only. Pass the necessary journal entries to
record these transactions in the books of Binnie Colliery Company.
9]
On 1st Jan., 1990 Tagore & Co., took a mine on lease. Under this lease
there is payable a royalty of 80 paise per ton merging in a minimum rent of Rs.
10,000 per year with a right to recoup shortworkings over the first five years of
the lease, but (1) the right to recoup shortworkings will not be in that year in
which output will be less than 6,000tons. (2) In the year in which royalty will be
more than minimum rent, only 40% of the excess will be used for recoupment of
shortworkings.
During the first five years the coal raised was as below:Year
Output in tons
1990
1991
1992
1993
1994
5,000
8,000
12,000
15,000
20,000
Prepare necessary accounts in the books of Tagore & Co.
10]
X Co. Ltd. hold a lease of minerals from Y for a period of 20 years from
1st Jan., 1989. Under this lease there is payable a royalty of 25 paise a ton merging
in a minimum rent of Rs. 1,000 a year, payable half-yearly on 30th June and 31st
Dec. They granted a sub-lease for 15 years from 1st July, 1989 to Z Co. Ltd., of
44
one-half of the area for a royalty of 50 paise a ton merging in a minimum rent of
Rs. 750 a year, payable half-yearly on 30th June and 31st Dec.
X Co. Ltd. are entitled under the lease from Y to recoup Shortworkings out
of subsequent excess workings throughout the term of lease, but the sub-lease
only allows Z Co. Ltd. to recoup shortworkings out of excess workings, in any of
the three half-years immediately following that in which the shortworkings
occurred. Minerals were worked as follows:
By X Co. Ltd.
By Z Co. Ltd.
Half-year ended 30.06.1989
500tons
-
Half-year ended 30.12.1989
625tons
375tons
Half-year ended 30.06.1990
2,150tons
450tons
Half-year ended 30.12.1990
3,150tons
450tons
Half-year ended 30.06.1991
2,800tons
900tons
Show the necessary accounts in the Books of X which are balanced on 30th
June.
11]
On 1st January, 1981, Shri Som Nath acquired on lease certain oil wells at
a minimum rent of Rs. 24,000 per annum, merging into a royalty of Re.1 per ton
of oil taken out. The shortworkings were recoverable in the next two years, but
on the condition that if full shortworkings could not be recovered in the next year
of the shortworkings, Som Nath will lose his right to recover 50% of the
unrecovered balance of shortworkings.
The output of the first four years was 6,000 tons in first year, 15,000 tons
in the second year, 30,000 tons in the third year and 28,000 tons in the fourth
year.
Open the necessary accounts in the books of Shri Som Nath.
45
12] X, the owner of a patent of Sewing Machines, granted on 1st July, 1985, a
licence for its manufacture to Y at a royalty of Rs. 20 per machine manufactured
subject to a minimum rent of Rs. 50,000 per annum for the first two years and Rs.
60,000 per annum thereafter. If in any year the royalties calculated on the machines
manufactured amounted to less than the minimum rent, Y has the right to recoup
from the surplus during the next two years.
Number of machines manufactured was follows:
Upto 30th June, 1986
2,000 Machines
Upto 30th June, 1987
2,200 Machines
Upto 30th June, 1988
2,750 Machines
Upto 30th June, 1989
3,300 Machines
Upto 30th June, 1990
3,500 Machines
Assuming that the annual accounts are closed on 30th June, pass the journal
Entries in the books of Y and prepare shortworkings account.
4.8
SUGGESTED READINGS
1.
Financial Accounting by Shashi K. Gupta, Nisha Aggarwal and Neeti Gupta, Kalyani
Publishers, Ludhiana.
2.
Financial Accounting by P.C. Tulsian, Pearson Education, New Delhi.
3.
Principles of Financial Accounting by P.C. Gupta and C.L. Chaturvedi, Shree Mahavir
Book Depot, New Delhi.
4.
Financial Accounting by A. Karim, S.S. Khanuja and Piyush Mehta, Sahitya Bhawan
Publishers, Agra.
46
LESSON : 5
ACCOUNTING FOR PARTNERSHIP : BASIC
CONCEPTS AND COMPUTATIONS, ADMISSION OF
NEW PARTNER
STRUCTURE
1.0
Objective
5.1
Introduction
5.2
Essential Features of a Partnership
5.3
Partnership Deed
5.4
Peculiar Aspects of Accounting for Partnership Firms
5.5
Admission of a Partner
5.6
Summary
5.7
Keywords
5.8
Self Assessment Questions
5.9
Suggested Readings
5.0
OBJECTIVE
After reading this lesson, you should be able to
a)
Explain the important clauses in a partnership deed.
b)
Understand the peculiar points relating to accounting for partnership
firms.
c)
Compute the value of goodwill of the firm.
5.1
INTRODUCTION
The Indian Partnership Act of 1932 contains the main provisions
which are applicable to partnership firms working in India. According to
this Act "Partnership is the relation between persons who have agreed to
share the profit of the business carried on by all or any of them acting for
1
all". Individually the persons who work in the firm are called partners and the
name with which all partners work collectively is called the firm's name. For
example, A, B and C working in a firm will be called partners and 'ABC & Co.',
the name with which these partners work collectively will be called firm's name.
5.2
ESSENTIAL FEATURES OF A PARTNERSHIP
The following are the essential features of a partnership firm:
i)
Persons: In order to constitute a partnership firm, there must be at least
two persons. The maximum number in partnership is 20 in case the firm
is doing ordinary business and 10 in case the firm is engaged in banking
business. This is as per Section 11 of the Companies Act, 1956.
ii)
Agreement: In order to have a partnership, it is necessary that there
must be an agreement between partners.
iii)
Sharing of profits: It is one of the important terms to constitute a
partnership firm. Generally sharing of profits (or losses) is one of the
important element to constitute a firm.
iv)
Business: It includes trade, covation and profession. The firm must be
engaged in a lawful business.
v)
Management: The management of the partnership firm will be done
either by all the partners or any one of them on behalf of all other
partners. There is mutual agency among the partners.
Following are the characteristics of partnership :
1.
It is a contract between two or more than two persons.
2.
A contract is necessary for division of profits/losses.
3.
The business may be carried on by all or any of them acting for
all.
2
5.3
PARTNERSHIP DEED
A document in which the terms and conditions of partnership are given
is called Partnership Deed. In a partnership deed, the rights and duties of
partners are given. If there is no partnership deed of a firm, all the provisions
of Partnership Act, 1932 will be applicable with regard to duties, rights and
liabilities of partners. A partnership deed should contain the following
points :
1.
Date of agreement.
2.
Name and address of the partnership firm.
3.
Name and address of the partners.
4.
Nature and place of business.
5.
Period of partnership, if any.
6.
Capital of partners.
7.
Profit sharing ratio.
8.
Drawings of partners.
9.
Interest on capital and on drawings.
10.
Salary and commission of partners, if any.
11.
Rights, duties and functions of partners.
12.
Method of valuation of goodwill.
13.
Accounting method at the time of retirement or death of a partner.
14.
Arbitration clause to settle disputes among the partners.
15.
Method of distribution of assets on the dissolution of the firm.
16.
Accounting treatment or procedure at the time of dissolution.
17.
Accounting procedures.
18.
Any other provision.
3
5.4
PECULIAR ASPECTS OF ACCOUNTING FOR PARTNERSHIP
FIRMS
In sole trading, there is only one owner who invests the capital. The
Capital and Drawing accounts are opened in his name. But in partnership,
Capital Account, Current Account and Drawings account of each partner are
opened separately.
In a partnership contract, all terms and conditions on the basis of which
partnership is started are defined. This contract may be oral or written. To avoid
future disputes, the contract should be in writing, which is called the partnership
deed. In the absence of a written contract, the following rules apply :
1.
Distribution of profit and loss among the partners will be equal.
2.
No interest on capital will be allowed.
3.
No interest will be charged on drawings.
4.
No salary is allowable to any partner for doing work in the
capacity of a partner.
5.
Interest on loan other than capital is allowed @ 6% per annum.
6.
Every partner can equally share the assets of firm at the time of
dissolution.
Profit and Loss Appropriation Account
In partnership, the method of preparing final accounts is the same as for
sole trading. However, in a partnership firm, Profit and Loss Appropriation
Account is required to be prepared to distribute the profits among the partners.
The format of the Profit and Loss Appropriation Account is as under :
4
Profit and Loss Appropriation Account
Rs.
Rs.
To Profit and Loss A/c, if any -------
By Profit and Loss A/c
-------
(current year loss)
(Profit for current year)
-------
To Interest on Capital
-------
By Interest on Drawings
-------
To Salary to Partners
-------
By Capital Accounts or
-------
To Commission to Partners
-------
Current Account of Partners
To Interest on Partner's Loan ------To Capital or Current
(Division of Loss)
-------
Accounts of Partners
(Division of Profit)
Fixed and Fluctuational Capitals
Capital Accounts of partners may be fixed or fluctuating. If Capital
Accounts are fixed, two accounts are prepared for each partner: (i) partner's
Capital Account and (ii) partner's Current Account.
In case of fixed capital, partners' Capital Account are credited only with
that amount of capital at which business is started. Later on, if additional capital
is invested, the capital account is credited and it is debited with the amount
withdrawn permanently. No other adjustment is made in this account.
In partners' Current Accounts, all adjustments regarding interest on
capital, salaries, share of profit and drawings are shown. The balance of this
account always varies and that of Capital Account remains the same.
In case of fluctuating capital, only one account is prepared, which is
called Capital Account. In this account, all items relating to additional capital,
5
interest, drawings, share of profit and salaries, etc. are shown. The balance of
this type of Capital Account in the beginning and in the end will be different
and, as such, it is called Fluctuating Capital Account.
Interest on Capital and Drawings
Interest on capital is allowed only if it is allowed and interest on drawings
is charged only if there is an agreement in this regard. Interest is calculated by
considering the interest rate and time. Interest on capital is written on the Debit
side of Profit and Loss Adjustment Account and Credit side of partners' Capital
Account or Current Account. On the other hand, interest on drawings is written
on the Credit side of Profit and Loss Adjustment Account and again on Debit
side or Capital Account of Current Account.
Illustration 1: A and B are partners and they had Rs. 1,50,000 and Rs. 2,50,000
in their Capital Accounts as on 1st January, 1993. A paid a further sum of Rs.
50,000 on 1st July, 1993 and another Rs. 25,000 on November 1, 1993. B paid
Rs. 1,00,000 on April 1, 1993 and another Rs. 25,000 on August 1, 1993.
A withdrew Rs. 1,000 per month at the beginning of every month and B
Rs. 1,000 at the end of every month. 5% per annum interest on capital and on
drawings is to be considered. Calculate the interest payable and chargeable.
Solution
Interest on Capital :
A
Interest on Rs. 1,50,000 of one year = 1,50,000 × 5/100 = Rs. 7,500
Interest on Rs. 50,000 for 6 months = 50,000 ×1/2×5100 = Rs. 1,250
Interest on Rs. 25,000 of 2 months = 25,000×2/12×5/100= Rs. 208.33
8958.33
6
Alternative Method
Product Method:
Under this method the product of capital invested and the number of months
for which it remained in business are determined first and then interest is
calculated for one month on the product. In the above case during first 6 months
capital was Rs. 1,50,000, for next four months it was Rs. 2,00,000 and for the
last two months it was Rs. 2,25,000. Hence, calculation of interest by product
method are as under : Interest (Rs. 150000 × 6 + 200000 × 4 + 225000 × 2)
for one month at 5% per annum.
=(900000 + 800000 + 450000) 5/100 ×1/12 = Rs. 8958.33
B
Interest on Rs. 1,00,000 for 9 months = Rs. 100000×5/100×9/12
= Rs. 3,750.00
Interest on Rs.2,50,000 for one year = Rs. 250000×5/100
Interest on Rs.25000 for 5 months = Rs. 25000×5/100×5/12
= Rs. 12,500.00
= Rs. 520.83
----------16,770.83
------------
Alternative Method
Product Method :
(250000×3 + 350000×4 + 375000×5) for 1 month at 5% per annum.
= (750000 + 1400000 + 1875000) 5/100 × 1/12 = Rs. 16770.83
Interest on Drawings
Because the same amount either at the beginning or at the end or each
month is withdrawn by a partner, the interest can be calculated by the following
simple formula :
A.
n(n+1)
2
Where, n = the number of months for which interest is payable for the
The number of months for which interest is to be calculated =
7
first installment, here, n = 12
=12(12+1) =
2
78 months
Interest = Rs. 1000 × 78/12 × 5/100 = Rs. 325
B
or = (Rs. 1000 × 12) 6½ × 5/100 = Rs. 325
12
Number of months = n(n+1)
where n = 11, because the amount
2
is withdrawn at the end of every months.
= 11 × 12/2 = 66 months
Interest = Rs. 1000 × 66/12× 5/100 = Rs. 275
or = (Rs. 1000 × 12) × 5½ × 5/100 = Rs. 275
12
Notes
1.
If the same amount is withdrawn at the beginning of every month, then
6½ month's interest will be calculated on total drawings.
2.
If the amount is withdrawn at the end of every month, the interest is
calculated on total drawings for 5½ months.
3.
If the amount is withdrawn in the middle of every months, 6 months'
interest is calculated on total drawings.
4.
If interest on drawings is being calculated but dates of withdrawal are
not given, then 6 months interest will be calculated on total drawings.
Minor Partner
A partner who has not attained the age of majority is called a minor partner. As
8
no agreement can be entered into with a minor, he can only be admitted to the
benefits of an existing partnership with the consent of all the partners. A minor
partner is not personally liable for the debts of the partnership firm but his
share in the partnership property and profits of the firm will be liable for firm's
debts and obligations. He will not be personally liable for any debt of the firm
until he attains the age of majority. He is not liable to share the loss if there is
any. Within six months of his attaining majority or when he comes to know that
the enjoys the benefits of partnership (whichever date is later), he has to elect
whether or not he wants to continue as a partner. He must give public notice if
he dos not want to continue as a partner otherwise he will be deemed to have
elected to be a partner. He will become liable for the debts of the firm since
he was admitted to the benefits of the partnership firm on his election as a
partner.
Illustration 2: Since 1st January, 1996 A, B and minor C are equal partners.
Their Balance Sheet as on 31-12-1999 is as follows:
Liabilities
Rs.
Assets
Rs.
Sundry Creditors
40,000
Cash in hand
15,000
Accumulated Balance in
60,000
Cash at Bank
25,000
Sundry Debtors
40,500
Profit & Loss A/c
Capital Accounts:
A
40,000
Stock in Trade
24,500
B
40,000
Plant & Machinery
35,000
C
20,000
Land & Building
60,000
1,00,000
2,00,000
9
2,00,000
(i)
Accumulated balance in Profit and Loss Account as given in the Balance
Sheet consists of the following:
Profit of 1997 Rs. 36,000, Loss of 1998 Rs. 18,000, and Profit of 1999 Rs.
42,000.
(ii)
Analysis of the books of accounts disclosed the following errors:
(a) A machinery costing Rs. 12,000 purchased in 1998 was debited to
Repairs Account. 10% depreciation on reducing balance method is provided
on plant and machinery.
(b) Rs. 1,080 being the fixed deposit interest due to the firm used by A
for his personal expenses in 1999.
(c) Goods costing Rs. 12,000 sent on sale or return basis have been
recorded as credit sale. The firm's gross profit ratio is 20% on sales.
Prepare Partners' Capital Accounts and Balance Sheet of the firm as on
31-12-1999 giving effect to the above adjustments.
Solution
Calculation of correct profit for various years
Profit (Loss) as given
1997
1998
1999
Rs.
Rs.
Rs.
36,000
(18,000)
42,000
Add: Machinery wrongly debited to Repairs A/c
12,000
Add: Fixed deposit interest of the firm used by A
1,080
for personal expenses
36,000
(6,000
43,080
-
(1,200)
1,080
36,000
(7,200)
42,000
-
-
3,000
Correct Profit (Loss)
36,000
(7,200)
39,000
A
12,000
(3,600)
13,000
B
12,000
(3,600)
13,000
C (Minor Partner)
12,000
-
13,000
Less: 10% Depreciation on WDV of Machinery
Less: Gross Profit on Rs. 12,000 (Goods on sale or
return basis wrongly treated as sale) not yet
realised @ 25% on cost
Share of:
10
C being minor partner will not share the loss of 1998 as a minor partner
can be admitted to the benefits of the firm.
Partners' Capital Accounts
A
B
C
A
B
C
Rs.
Rs.
Rs.
Rs.
Rs.
Rs.
40,000
40,000
20,000
21,400
21,400
25,000
61,400
61,400
45,000
To Fixed Deposit
By Balance b/d
Interest
1,080
To Balance c/d
60,320
-
-
61,400 45,000
(Opening Capital)
By Profit/Loss
(Transfer)
(for 3 years)
61,400
61,400 45,000
Balance Sheet of A, B and C as at 31-12-1999
Liabilities
Sundry Creditors
Rs.
40,000
Capital Accounts:
Assets
Rs.
Cash in hand
15,000
Cash at Bank
25,000
A
60,320
Sundry Debtors (1)
25,500
B
61,400
Stock in Trade (2)
36,500
C
45,000
Plant & Machinery
44,720
(35,000+12,000–1,200–1,080)
Land & Building
2,06,720
60,000
2,06,720
11
(1)
Sundry Debtors as given
40,500
Less: Goods on approval basis wrongly treated as credit sale
(Cost Rs. 12,000+Rs. 3,000 Profit = Rs. 15,000 sale)
Debtors
(2)
15,000
25,500
Stocks as given
24,500
Add: Cost of goods sent on approval basis
12,000
Closing Stock
36,500
Past Adjustments
Sometimes after closing the accounts of a partnership firm, it is
discovered that there was some error or omission in those accounts. For
example, interest o capitals or drawings may have been omitted at all, charged
or allowed at high or too low a rate, profits and losses may have been distributed
among the partners in a wrong proportion and so on. In order to correct these
errors and omissions, adjustment entries are to be passed in the usual way.
Illustration 3: A and B had been in partnership for many years as valuers,
sharing profits equally, it had been their custom to ignore fee, earned on
uncompleted matters, when preparing annual accounts. On 1st January, 1996
they entered into a new partnership agreement under which the profits earned
in any year were to be distributed as follows:
Up to Rs. 8,000 – equally.
Excess over Rs. 8,000 – one-third to A and two-third to B.
Although they shared profits in accordance with new agreement, they continued
to prepare their accounts upon the old basis, i.e., ignoring fees earned on
uncompleted work. At the end of 1998, it was pointed out to them that they
were not following the terms of their agreement, and it was agreed that such
12
correcting entries as might be necessary should be put through as on 31st
December, 1998. The profits already dealt with were as follows:
1996 – Rs. 7,500, 1997– Rs. 8,2010; 1998– Rs. 9,350.
The outstanding fees not brought into accounts were:
Rs.
On 31st December 1995
960
On 31st December 1996
1,280
On 31st December 1997
1,550
On 31st December 1998
920
Assuming that the books were duly closed at the end of each year, give the
entries necessary to correct the partners' accounts.
Solution
As the fees outstanding had not been brought into accounts, the profit
already dealt with the wrong. The correct profits after taking these fees into
account would be as follows:
Year
Profit
Add Fees outstanding
Less Fees outstanding at
as given
at the end of the year
the beginning of the year
(2)
(3)
(4)
(5)=(2)+(3)–(4)
Rs.
Rs.
Rs.
Rs.
1995
-
960
-
960
1996
7,500
1,280
960
7,820
1997
8,210
1,550
1,280
8,480
1998
9,350
920
1,550
8,720
(1)
Correct Profit
The profit already distributed and the profit as should have been
distributed are given in the following Table:
13
Year
Profits as already distributed
Profit as should have been distributed
Profit as
A's
B's
Correct
A's
B's
given
share
share
Profits
share
share
Rs.
Rs.
Rs.
Rs.
Rs.
Rs.
1995
-
-
-
960
480
480
1996
7,500
3,750
3,750
7,820
3,910
3,910
1997
8,210
4,070
4,140
8,480
4,160
4,320
1998
9,350
4,450
4,900
8,720
4,240
4,480
Total
25,060
12,270
12,790
25,980
12,790
13,190
A has been credited with Rs. 12,270 while he ought to have been credited
with Rs. 12,790. Thus he should be credited with Rs. 520 (Rs. 12,790 – Rs.
12,270) more.
B has been credited with Rs. 12,790 while he ought to have been credited
with Rs. 13,190. Thus he should be credited with Rs. 400 (Rs. 13,190 – Rs.
12,790) more.
The following entry is required to correct the Partners' Accounts.
Rs.
Fee outstanding account
Dr.
Rs.
920
To A's Capital Account
520
To B's Capital Account
400
(Being outstanding fee brought into account)
Guarantee
Sometimes, a partner is taken into the firm on the guarantee that he shall
be given a minimum amount of the profits of the firm oven if there are no
14
profits or his share of profit falls short of the guaranteed amount. This guarantee
to the new partner can be given by one of the existing partners or all the existing
partners. For accounting purposes, the guaranteed amount due to the new partner
should be deducted out of the total profits. Then profits of the remaining
partners should be ascertained from the residue (i.e. total profit minus the
guaranteed amount payable to the new partner) and divide the same in the new
profit sharing ratio of the existing partners. This will be more clear from the
following illustrations.
Illustration 4: Red, White and his son Blue were partners in the firm of M/s
Red and White. On 1st April, 1998 Green the Manager was admitted as a partner.
Profits and losses in the new partnership were to be shared as follows:
Red 4/10, White 3/10, Blue 2/10 and a salary of Rs. 600 per annum, and
Green 1/10.
Green has previously been paid a salary of Rs. 1,000 per annum and a
commission of 3 per cent of the profits, after changing his salary and
commission, but before charging any partner's salary.
It was agreed that for the first year of the new partnership, any excess of
his share of the profit over the sum he would have earned had he remained
Manager increased by Rs. 700, should be charged to Red's share of profit.
On considering the draft accounts for the year ended 31st March, 1999,
the partners agreed to the following adjustments:
(a) to provide for a staff bonus of Rs. 5,500.
(b) That Red's son Grey, an employee of the partnership, should receive
an additional bonus of Rs. 250 chargeable against his father's share of profit.
(c) that Rs. 500 of White's share of profit should be credited to his son
Blue.
15
The profits for the year, before making the above adjustments and before
charging Blue's salary amounted to Rs. 32,000.
You are required to prepare a statement showing the division of profits
between partners.
Solution
Profit and Loss Adjustment Account
for the year ended 31st March, 1999
Rs.
To Green's Capital A/c
To Balance c/d
2,590
Rs.
By Net Profit (i)
25,900
23,310
25,900
To Red's Capital A/c (4/9)
10,425
To White's Capital A/c (3/9)
7,819
To Blue's Capital A/c (2/9)
5,213
25,900
By Balance b/d
23,310
By Red's Capital A/c
(Amount of Guarantee) (iii)
147
23,457
23,457
Statement showing the final summary of division of profit
Red
White
Blue
Green
Rs.
Rs.
Rs.
Rs.
-
-
600
-
10,425
7,819
5,213
2,590
-
(-) 500
(+) 500
-
(-) 250
-
-
-
(-) 147
-
-
-
10,028
7,319
6,313
2,590
Salary
Profits
Transfer from White to Blue
Bonus payable to Grey
Excess amount debited for the
guarantee given
16
Working Notes
(i)
Distributable Profit:
Rs.
Profit as disclosed by accounts
Less: Staff Bonus
32,000
5,500
26,500
Salary to Blue
600
Profit to be distributed among partners
600
25,900
(ii)
Remuneration which Green would have received as Manager:
Salary
1,000
Commission: (26,500 – 1,000) 3/103
743
1,743
(iii)
Amount now being paid to Green:
1/10 of Profits (Rs. 25,900)
2,590
Excess amount [2,590 – (1,743 + 7000)] debited to Red
5.5
147
ADMISSION OF A PARTNER
Sometimes a running business may require new partner for the
following reasons :
1.
Need of more capital for expansion of business.
2.
Need of expertise in managerial or technical field for running
the business.
3.
For growth of the business by admitting a reputed person as partner.
4.
To admit a new partner in place of an old retiring partner.
When a new partner is admitted in business, he gets two types of rights.
17
1.
Right to Share Future Profit-Loss of the Business
When a new partner is admitted in the business, he gets the right to
receive profit in an agreed ratio. This share in profit is sacrificed by the old
partners. To compensate the old partners for this sacrifice, the new partner
pays a price in the form of goodwill adjustment. The method of valuation of
goodwill is usually given in the partnership contract. When new partner comes
into partnership, the profit sharing ratio of old partners is changed.
2.
Right to Share in Assets of the firm
When a new partner is admitted in the firm, he also becomes the owner
of firm's assets as per his share, for which he brings in the required capital.
Hence, at the admission of a new partner, revaluation of assets and liabilities
becomes necessary so that there should be no loss to the old partners or the
new partner. At the time of admission of a new partner, the following are the
main considerations which must be settled between the old and the new partners:
1.
Determination of new profit sharing ratio.
2.
Determination of the value of goodwill and its allocation
among old partners.
3.
Revaluation of assets and liabilities of the existing business.
4.
Distribution of accumulated profits, reserves and losses.
5.
Determination of the capital to be brought in by the new
Partner. Each point is discussed in detail in the following pages :
Determination of New Profit Sharing Ratio
When a new partner joins the firm, the share of old partners is reduced
because they sacrifice some part of their share to the new partner.
The determination of new profit-sharing ratio depends upon the
agreement among the old and new partners. In what ratio the new partner gets
18
his share from the old partners depends upon their agreement. Thus on admission
of a new partner, what the new ratio of all the partners will be is an important
question. In various circumstances, the calculation of new profit-sharing ratio
is made as follows :
If Share of New Partner is Given :
When the share of new partner is given and in the absence of any
direction, the old partners will continue to share the remaining share in their
old profit sharing ratio after deducting the share of the new partner.
Illustration 5
Yogu and Ankit are partners sharing profits and losses in the ratio of
3:2. They admit Atul as a partner for one fourth share in the future profits.
Calculate the new profit-sharing ratio of partners.
Solution
Atul's share is 1/4
Thus remaining share = 1 - ¼ = ¾
Hence Yogu's share = ¾ × 3/5 = 9/20
Now Ankit's share = ¾ × 2/5 = 6/20
and Atul's share = ¼ or 5/20
= 9/20 : 6/20 : 5/20
Hence, the new profit sharing ratio will be = 9 : 6 : 5.
When the New Partner Purchases His Share From Old Partners in a
Certain Ratio
In this case, the share of old partners will be calculated by deducting
that portion which they have sacrificed in favour of a new partner. The remaining
19
share will be treated as the share of old partners. This will be clear from the
following example :
Illustration 6
A and B are partners in a firm sharing profits and losses in the ratio of
3: 2. A new partner C is admitted. A surrenders 1/5 share of his profit in favour
of C, and B surrenders 2/5 of his share in favour of C. Calculate the new profitsharing ratio of the partners.
Solution
Sacrifice by A to C
=
3/5 × 1/5
= 3/25
Sacrifice by B to C
=
2/5 × 2/5
= 4/25
Share of C
=
3/25 + 4/25 = 7/25
A's new share
=
3/5 - 3/25
= (15-3)/25 = 12/25
B's new share
=
2/5 - 4/25
= (10-4)/25 = 6/25
Share of A, B and C
=
12/25 : 6/25 : 7/25
=
12 : 6 : 7
When Sacrificing Ratio is given
In this case, the sacrifice made by old partners towards the new partner
is given. This is clear from the following example :
Illustration 7
A and B are partners sharing profit or loss in the ratio of 7:5. They admit
their manager C into partnership who is to get one sixth share in the profits.
He acquires his share as 1/24 from A and 1/8 from B. Calculate the new profit
sharing ratio
20
Solution
(Old Ratio - Share given to new partner)
A = 7/12 - 1/24 = (14-1)/24 = 13/24
B = 5/12 - 1/8 = (10-3)/24 = 7/24
C = 1/6
New ratio
= 13/24 : 7/24 : 1/6
= 13 : 7 : 4
Sacrificing Ratio When Old and New Ratios are Given
In case, when old and new ratios of partners after admission of a partner
are given, it is necessary to calculate the sacrificing ratio of the old partners
by the formula:
Sacrificing Ratio = Old Ratio - New Ratio.
Illustration 8
X and Y are partners sharing profits or losses in the ratio of 4:3. Z is
admitted and the new ratios are X-7, Y-4 and Z-3 (7:4:3:). Calculate the
sacrificing ratio.
Solution
Sacrificing Ratio = (Old Ratio - New Ratio)
X's sacrifice = 4/7-7/14 = (8-7)/14 = 1/14
Y's sacrifice = 3/7 - 4/14 = (6-4)/14 = 2/14
Thus, sacrificing ratio is 1:2 for X and Y.
Goodwill
Goodwill is the value of the reputation of a firm. When a new partner is
admitted in the partnership, he starts getting share in the profits of the firm
immediately on his entrance. He gets the benefit of the firm's reputation which
has been developed by old partners through their hard work and efforts. Hence,
21
the old partners want some compensation for their previous labour or efforts
made by them to build the firm's reputation. The amount of compensation given
by the new partner to old partners is called goodwill. It is an intangible asset
which is not visible and touchable, but it is subject to fluctuations.
In the words of Lord Macnaugten, "Goodwill is a thing very easy to
describe, very difficult to define. It is the benefit and advantage of the good
name, reputation and connection of a business. It is the attractive force which
brings in customers. It is the thing which distinguishes an old established
business from a new business at first start.....Goodwill is composed of a variety
of elements. It differs in its composition in different trades and in different
business in the same trade."
"The probability that the old customers will report to the old place" is
called goodwill - Lord Alden.
When a new partner gives money for goodwill, he hopes that he would
receive some extra profit from this amount,. If a new partner starts a new
business, he will have to put in a lot of hard work and face difficulties to create
and maintain customers. But when he becomes partner in an old established
business, he does not face any such problem, and is therefore, wiling to pay
for the effort and money spent on establishing the business and providing
credibility to the firm. Thus, we can say that goodwill is the value of the
reputation of a firm which is concerned with the earning capacity of the
business.
Element of Goodwill
Goodwill means the capacity of the business to earn more than normal
profit. In other words, it is the value of reputation of the business. It attracts
more customers. It is an intangible asset of the business. When the reputation
22
of business gets established, its earning capacity becomes automatic. It takes
time to develop goodwill which depends on many factors, mentioned as under:
1.
Personal reputation of the owners and manager.
2.
Speciality of goods or services provided.
3.
Favourable location or site.
4.
Patents, Copyrights or Trade Marks.
5.
Advantage of an important license with the firm.
6.
Advantage of selling a special type of product or raw material
For the above reasons, the firm gets or earns more profit and the one
who purchases the goodwill of firm also purchases the name of the firm. It is
important to note that goodwill exist only when the business is running in
profit. In a business which is running at a loss, there will be no goodwill because
the value of goodwill arises from the future possibility of the firm to earn
profit.
Need for valuation of goodwill of a firm :
1.
On Admission of a New Partner : When a new partner comes into the
firm, he gets a share in the future profits. The share of the old partners is
consequently reduced. So, the new partner has to pay for the goodwill besides
his capital. The amount paid for goodwill is distributed among old partners in
their sacrificing ratio. Valuation of goodwill depends on the agreement among
old and new partners.
2.
On Retirement or Death of a partner : As a new partner brings in the
amount of goodwill, in the same way, at the time of retirement, a partner receives
his share of goodwill of the firm. At the time of death, the deceased partner's
share of goodwill is to be given to his legal representatives. For this, the need
for valuation of goodwill arises.
23
3.
On the Amalgamation of firms : When two or more than two firms are
merged and a new firm is formed, it is called amalgamation. At the time of
amalgamation, like other assets and liabilities, goodwill is also value and
becomes the part of purchase consideration like other assets.
4.
On Sale of firm's business to another firm or company, it is very
important to value the firm's goodwill.
5.
When profit sharing ratio of the partners is changed, there is a need to
evaluate the goodwill so that the losing partners could be compensated.
Methods of Evaluating Goodwill
The following are the important methods of valuation of goodwill :
(A)
Average Profits Method
Under this method, the average of the profits of last three or four years
is calculated. The average profits is multiplied by number of years in which
the anticipated profits will be available. If the goodwill is twice the average
profits of last three years, it is to be valued at two years's purchase of the last
three years average profit.
Value of Goodwill = Average profit × Number of year's purchased.
Formula =
Total profits
× No. of years purchased
No. of years
The following points need to be considered for valuation of average
profit:
1.
Abnormal Profit : If in any year, a firm earns abnormal profits, then it is
to be deducted from the firm's profits because it is not or usual or recurring
nature. For example, profit due to rise in prices at the time of war of after
24
floods, etc.
2.
Abnormal Loss : If in any year, a firm incurred any abnormal losses,
them it is added back to the profits. These abnormal losses include loss of
stock due to fire, theft or floods, etc.
3.
Normal Expenses : If there are any normal expenses which are of
recurring nature and are not deducted from the firm's profit, these should be
deducted, such as insurance premium, etc.
(B)
Super Profit Method
In this method, super profit is calculated and it is multiplied with a
specific number to find out the goodwill. Super profit is the profit above the
normal profit being earned by other firms engaged in the same business.
If any old firm is earning equal to the profits being earned by other new
firms engaged in the same type of business, there will be no value of the goodwill
of the old firm. If the old firm is earning more profits than the new firm, there
will be value of the goodwill of the old firm. The greater the difference in such
profits, the higher will be the value of goodwill.
For example, if the investment in the business is of Rs. 5,00,000 and
the rate of profit considered appropriate in similar business is 15%, the normal
profit will be Rs. 75,000 (5,00,000 ×15/100). This normal profit is compared
with the actual profit earned. If the actual profit is more than the normal profit,
it will be called super profit. Suppose further that the actual profit is Rs.
1,00,000, then (1,00,000 - 75,000) Rs. 25,000 is super profit.
Goodwill = Super profit × No. of years purchased.
If the super profit will be available for three years, the value of
25
goodwill will be :
Rs. 25,000 × 3 = Rs. 75,000
Goodwill = Super profit × No. of years purchased
Super Profit = Actual or Average Profit - Normal Profit
Normal Profit = Capital Invested × Normal Rate of Return/100
(C)
Capitalisation Method
Under this method, it is assumed that if capital invested by the
firm earns a normal profit, there is no goodwill, but if firm earns more than
normal profit, excess capital which might be invested to earn that excess profit
is called goodwill. There are two ways of finding out goodwill under this method:
1.
Capitalisation of Average Profit
Under this method goodwill is calculated as :
Goodwill = Normal Capital Employed - Actual Capital Employed
Normal Capital Employed =
Profit or Average Profit
X 100
Normal Rate of Return
Suppose the normal rate of profit is 10 per cent and the firm earns Rs.
10,000. If the actual capital employed is Rs. 80,000, then normal capital
employed is calculated as under:
Normal Capital Employed
=
10,000 (Profit)×100
10 (Normal rate of return)
=
Rs. 1,00,0000
Goodwill = Normal Capital Employed - Actual Capital Employed
= 1,00,000 - 80,000 = Rs. 20,000
Thus, the excess of normal capital employed over actual capital is the
value of goodwill.
26
2.
Capitalisation of Super Profit
Under this method, first the super profit is capitalized and on that
basis the value of goodwill is determined. Here, super profit is :
=
Actual Profit - Normal Profit
After this goodwill is ascertained with the help of following formula :
Goodwill =
Super Profit × 100
Normal rate of return
Methods of Recording Goodwill on the Admission of a New Partner
Various methods of recording goodwill at the time of admission in a
firm are as under :
1.
The amount of goodwill is paid by new partner to old partners outside
the business.
2.
Amount of goodwill is brought in cash by new partners in the firm and is
withdrawn by the old partners. In this way, it does not affect the capitals of
partners.
3.
When amount of goodwill is bought in cash and retained in the business,
it will increase the capital of the firm.
4.
The new partners does not bring in the goodwill in cash but the goodwill
account is raised in the books. Under this method Goodwill Account is debited
and old partners' Capital Accounts are credited in their old profit-loss sharing
ratio. In this case, Goodwill Account will be shown in the Balance Sheet. If
Goodwill Account is written off among all partners in new ratio, it will not be
shown in Balance Sheet.
Treatment of Goodwill in Account
1.
When goodwill is paid by new partner to old partners outside the business:
When the amount of goodwill is received by old partners privately or outside
27
the business in case, no entry will be made in the books of firm.
2.
When goodwill is brought by new partner and is withdrawn by old
partners: In such a cash, the receipt of goodwill money is recorded in the books
of firm and is transferred to Capital Accounts of old partners in their sacrificing
ratio. The amount, thus, transferred is immediately withdrawn by old partners.
The following entries are recorded in firm's books in the above case :
i)
When goodwill is brought in cash
Cash Account
Dr.
To Goodwill Account
(Being amount of goodwill brought in cash )
ii)
Transferring Goodwill old partners in their sacrificing ratio :
Goodwill Account
Dr.
To Old Partners' Capital Account
(Being amount of goodwill transferred to Capital Account)
iii)
On withdrawn of goodwill by old partners :
Old Partners' Capital Account
Dr.
To Cash Account
(Being goodwill withdrawn)
Alternative Method
Under this method, Cash Account is debited with the amount of goodwill
and new partner's Capital Account is credited. Then new partner's Capital
Account is debited and old partner's Capital Accounts are credited in the
sacrificing ratio.
On bringing the goodwill in cash :
i)
Cash Account
Dr.
To New Partner's Capital Account
28
(Being brought by new partner for goodwill)
ii)
On transferring the goodwill to old partner's Capital Accounts :
New Partner's Capital Account
iii)
Dr.
To old partners' Capital Accounts
(Being amount of goodwill distributed by old partner' in their sacrificing
ratio).
Old Partners' Capital Account
Dr.
To Cash Account
(Being amount of goodwill withdrawn by old partners)
Now the question arises as to the ratio in which goodwill is to be
distributed among old partners when a new a new partner is admitted. Goodwill
will be distributed to old partners in their sacrificing ratio. For example, X
and Y are partners sharing profits and losses in the ratio of 3:2. After admission
of Z as a partner, their new ratio is 2:2:1. Here, the scarifying ratio of X and Y
will be calculated. The scarifying ratio will be calculated as under :
X sacrifices = 3/5 - 2/5 =1/5
Y sacrifices= 2/5 = 2/5= 0
In the above case, the amount of goodwill will be given only to X because
he has sacrificed it to Z and Y will not get any amount of goodwill as he did not
sacrifice any share. If new ratio is not given in the question and it is said that
the new partner will be given 1/5 share, it is assumed that old partners sacrifice
in their old ratio.
3.
Amount of Goodwill retained in the Business : In this method the amount
of goodwill is retained in the business. For this, the following entries will be
made :
i)
When amount of goodwill is brought in :
Cash Account
Dr.
29
To Goodwill Account OR
To New partner's Capital Account
(Being amount of goodwill received)
ii)
Amount of goodwill transferred to old partners' Capital Accounts:
New partner's Capital Account
Dr.
OR
Goodwill Account
Dr.
To Old Partners' Capital Account
(Being amount of goodwill transferred to old partners
Accounts in sacrificing ratio)
4.
Raising Goodwill Accounts : Sometimes, the amount of goodwill is not
brought in cash by the new partner. Hence, goodwill account is raised with full
value of firm's goodwill and capital account of old partners are credited in the
old profit sharing ratio.
a)
When goodwill is raised :
Goodwill Account
Dr.
To Old Partners' Capital Account
(Being Goodwill Account raised in the books of the firm in old ratio)
b)
When goodwill is written off :
All partners' (including new partner)
Capital Accounts
Dr.
To Goodwill Account
(Being Goodwill Account transferred to all partners' Capital
Account in the new profit sharing ratio)
When goodwill already appears in the books : If goodwill already appears
in the books, it is transferred to old partner's Capital Accounts in their old
ratio at the time of admission of a new partner. The only entry will be :
30
Old Partners Capital Accounts
Dr.
To Goodwill Account
(Being goodwill appeared in B/S is written-off in old ratio)
After this, the entries for goodwill brought in by the new partner will
be passed.
When Goodwill is not brought in Cash and Goodwill Account is raised :
When new partner does not bring goodwill in cash and goodwill already appears
in the Balance Sheet, goodwill will be dealt with as under :
Change in Profit Sharing
Sometimes, partners change their profit-loss sharing ratio. In such a case
to treat the amount of goodwill, the following entries will be made :
1.
Raising Goodwill Account : First of all, goodwill is to raised by debiting
the Goodwill Account with full value and crediting all partner's capital accounts
in their old ratio :
Goodwill Account
Dr.
To All Partners' Capital Account
(Being Goodwill Account raised in old ratio)
2.
Writing off the Goodwill Accounts : After having raised the goodwill,
Goodwill Account will be written off by debiting all partners' Capital Accounts
in the new ratio.
All Partners' Capital Accounts
Dr.
To Goodwill Account
(For Goodwill written off in the new ratio)
Revaluation of Assets and Liabilities
Revaluation Account is prepared to revalue various assets and liabilities
of the firm. When a new partner is admitted into a partnership concern, he
31
acquires the ownership rights in the assets of the firm and is also responsible
for the liabilities of the firm. It is, therefore, desirable from the point of view
of the incoming partner as well as the existing partners that the assets and
liabilities as appearing in the Balance Sheet on the date of admission of the
new partner should be properly valued.
It is possible that some of the assets might have appreciated in value or
some of the assets have been shown more than their realizable values. Hence,
these assets must be shown at lower values. Some of the liabilities may not
have been shown in the books, though they will be paid. Thus, if the values of
assets and liabilities as shown in the books of accounts are different than their
actual values, adjustments will have to be made.
For the adjustment of various assets and liabilities, a Profit and Loss
Adjustment or Revaluation Account is prepared. On its debit side is shown
decrease in assets, outstanding expenses and increases in liabilities, and on
the credit side, increase in assets, prepaid expenses and decrease in liabilities
are shown. The balance of this account is transferred to Capital Accounts of
old partners in their old ratio.
Adjustment for Undistributed Profits or Losses and Reserves
i)
When a new partner is admitted in the firm, reserves, undistributed
profits and credit or debit balance of Profit and Loss Account are transferred
to old partners' Capital Accounts in their old ratio. For this purpose, the
following journal entries are passed.
Profit and Loss Account (if Profit)
Dr.
General Reserve Account
Dr.
To old partners' Capital Accounts
(Being profits & reserve distributed in old partners in old ratio)
32
ii)
If the debit balance of Profit and Loss Account is shown in the
Balance Sheet, then it will also be transferred to old partners' Capital Accounts
in old ratio.
Old Partners' Capital Accounts
Dr.
To Profit and Loss Account
Preparation of Memorandum Revaluation Account
Sometimes, the partners agree that the value of assets and liabilities are
not to be altered and these are to be shown in the books at their old values. In
such a case, increase or decrease in the amount of assets and liabilities will
be recorded in a special account known as Memorandum Revaluation Account.
No corresponding entry is made in assets and liabilities to record changes in
their values. This Memorandum Account is divided into two parts :
i)
In the first part, Revaluation Account is prepared in the usual way
as explained earlier and profit or loss is distributed to old partners in old
ratio.
ii)
In the second part, all the entries which were shown in the
Revaluation Account will be reversed. It means those items which were shown
on the Debit side of Revaluation Account will now be placed in the credit side
of Memorandum Revaluation Account, and all credit items of Revaluation
Account will be shown in the Debit side of Memorandum Revaluation Account.
Thus, whatever the result (profit or loss) may be, it will be distributed among
all the partners (including the new partner) in new profit sharing ratio.
It is important to keep in mind that, after preparation of Memorandum
Revaluation Account, the result (Profit or Loss) will be reversed as shown by
Revaluation Account. If Revaluation Account show profit, the Memorandum
Revaluation Account will show loss and vice-versa. Secondly, while preparing
the Balance Sheet, all the fixed assets and liabilities (expect cash in hand and
33
bank) are to be shown at original figures. But in capital accounts of partners,
adjustments will be made for profit/loss of both the parts of Memorandum
Revaluation Account.
5.6
SUMMARY
Partnership is the relation between persons who have agreed to share
the profits of a business carried on by all or any one of them acting for all. The
document which contains the terms and conditions regarding the conduct of
partnership business is called partnership deed. The capital accounts of the
partners may be fixed or fluctuating. A minor partner is not personally liable
for the debts of the partnership firm but his share in the partnership property
and profits of the firm will be liable for firm's debts and obligations. The
guarantee of the new partner can be given by one or all the existing partners.
Whenever a partner is admitted into partnership firm, he acquires two rights
namely the right to share in the assets of the partnership and the right to share
in the profits of the business. The main points which require attention at the
time of admission of a partner are calculation of new profit sharing ratio,
revaluation of assets and liabilities, treatment of goodwill adjustment of
undistributed profits and losses and adjustment of capitals in order to bring
these in proportion to profit sharing ratio.
5.7
KEYWORDS
Partnership: It is the relation between persons who have agreed to share the
profits of a business carried on by all or any of them acting for all.
Partnership Deed: A document which contains details of an express written
agreement between the partners is called partnership deed.
34
Minor Partner: A parties who has not attained the age of majority is called a
minor partner.
Sacrificing Ratio: It means the forgoing a fraction of share in favour of a new
partner by the old over.
Goodwill: Goodwill is the value of the reputation of a firm in respect of profits
expected in future over and above the normal rate of profits.
5.8
SELF ASSESSMENT QUESTIONS
1.
P, Q and R are in the partnership and on 1st January, 1995 their respective
capitals were Rs. 20,000, Rs, 12,000 and Rs, 10,000. Q is entitled to a
salary of Rs. 2,500 and R Rs. 2,000 per annum, payable before division
of profits. Interest is allowed on capital @ 5% per annum but is not
charged on drawings. Of the net divisible profits of first Rs. 10,000; P
is entitled to 40%, Q to 35% and R to 25% and over that amount profits
are shared equally. The profit for the year ended 31st December, 1995
after debiting partnership salaries, but before charging interest on
capitals, was Rs. 18,000 and partners had withdrawn Rs. 800 each.
Prepare partners' accounts for the year.
2.
Kakku and Polu started a partnership business on 1st January, 1985. They
contributed Rs. 80,000 and Rs. 60,000 respectively, as their capitals.
The terms of the partnership agreement are as under :
(a)
Interest on capital and drawings @ 12% per annum.
(b)
Kakku and Polu to get a monthly salary of Rs. 2,000 and Rs. 3,000
respectively.
(c)
Sharing of profit or loss to be in the ratio of their capital
contribution.
35
The profit for the year ended 31st December, 1985 before making above
appropriations was Rs. 1,00,300. The drawings of Kakku and Polu were Rs.
40,000 and Rs. 5,000 respectively. Interest on drawings amounted to Rs. 2,000
for Kakku and Rs. 2,500 for Polu.
Prepare the Profit and Loss Appropriation Account and partners' Capital
Account assuming that their capitals are fluctuating.
3.
Explain goodwill and describe various methods of valuing goodwill.
4.
Explain the treatment of goodwill in case of admission of a new partner
with journal entries.
5.
What is Revaluation Account ? How is it prepared ? How is it different
from Memorandum Revaluation Account ?
6.
A and B share profits in the proportions of 3/4th and 1/4. Their Balance
Sheet as on 31st December, 1990 was as follows :
Liabilities
RS
Assets
Sundry Creditors
41,500
Cash at Bank
22,500
Bills Receivable
3,000
Capital Accounts
Rs
A
30,000
Debtors
16,000
B
16,000
Stock
20,000
Fixtures
1,000
Land & Building
25,000
87,500
87,500
36
On January 1, 1991, C was admitted into partnership on the following terms :
i)
That C pays Rs. 10,000 for goodwill. Half of this sum is to be
withdrawn by A and B . He pays for 1/5 share Rs. 7,500.
ii)
The stock and fixtures are to be reduced by 10 per cent. 5%
provision for doubtful debts is to be created on Sundry Debtors
and Bills Receivable.
iii)
That the value of Land and Building is to be appreciated by 20%
iv)
There being a claim against the firm for damages, a liability to
the extent of Rs. 1,000 should be created.
v)
An item of Rs. 650 included in Sundry Creditors is not likely to
be claimed and hence should be written back.
Draws up Capital Account, Cash Account, Profit and Loss Adjustment
Account and the Balance Sheet of A, B and C. Also indicate the future sharing
ratio, assuming the profit sharing ratio between A and B has not changed.
7.
The following was the Balance Sheet of Anurag and Bhawna who were
sharing profits in the ratio of 2/3 and 1/3 on 31st December, 1990.
Liabilities
Creditors
Rs.
65900
Capitals :
Assets
Rs.
Cash at Bank
1,200
Sundry Debtors
9,700
Anurag
30,000
Stock
20,000
Bhawna
20,000
Plant & Machinery
35,000
Building
50,000
1,15,900
1,15,900
37
They agreed to admit Monika into partnership on the following terms :
a)
Monika was to be given 1/3 share in profits, and was to bring Rs.
15,000 as capital and Rs. 6,000 as share of goodwill.
b)
The value of stock and plant were to be reduced by 10%.
c)
A provision of 5% was to be created for doubtful debts.
d)
The building account was to be appreciated by 20%
e)
The goodwill amount was to be withdrawn by the old partners.
f)
Investment worth Rs. 1,400 (not mentioned in the Balance Sheet
were to be taken into account.
Show the Revaluation Account, Capital Accounts and prepare the opening
Balance Sheet of the new firm.
5.9
SUGGESTED READINGS
1.
Advanced Accounting by R.L. Gupta and M. Radhaswamy, Sultan
Chand and Sons, New Delhi.
2.
Advanced Accounting by Ashok Sehgal and Deepak Sehgal,
Taxmann Allied Services Pvt. Ltd., New Delhi.
3.
Fundamentals of Advanced Accounting by R.S.N. Pillai and V.
Bagavathi, S. Chand and Co. Ltd., New Delhi.
4.
Studies in Advanced Accounting by S.N. Maheshwari, Sultan Chand
and Sons, New Delhi.
5.
Financial Accounting by Shashi K. Gupta, Nisha Aggarwal and
Neeti Gupta, Kalyani Publishers, Ludhiana.
38
LESSON : 6
RETIREMENT AND DEATH OF A PARTNER
STRUCTURE
6.0
Objective
6.1
Introduction
6.2
Accounting Procedure at the time of retirement of a Partner
6.2.1 Treatment of Goodwill
6.2.2 Revaluation of Assets and Liabilities
6.2.3 Adjustment of Accumulated Reserves and Losses
6.2.4 Calculating the amount due to the retiring partner and its payment
6.3
Death of a Partner
6.3.1 Calculation of Deceased Partner's Share of Profit
6.3.2 Treatment of Life Policy
6.4
Summary
6.5
Keywords
6.6
Self Assessment Questions
6.7
Suggested Readings
6.0
OBJECTIVE
After reading this lesson, you should be able to
a)
Discuss the accounting procedure at the time of retirement of a partner.
b)
Explain the procedure of calculation of profit and treatment of life policy at the
time of death of a partner.
6.1
INTRODUCTION
A new partner is admitted in the firm when such a need arises, the same way, a
partner may like to retire after giving due notice. His accounts are settled upto the date
on which he retires. He will have his share of profit (or loss) upto that date, a share in
1
the old reserves and the Goodwill of the firm. A balance sheet is prepared on the day of
his retirement and his capital account is completed upto the date. Either he is paid cash
in full for his capital account or partly he is paid with a promise to pay the balance at a
future date. In such a case his capital account is transferred to the Loan A/c and shown
as a liability in the balance sheet. It may be paid in instalments afterwards.
Usually, the manner, in which a partner shall retire is mentioned in the partnership
deed. When a partner retires he is entitled to his share in the following accounts:
1.
The retiring partner is entitled to his share out of the past accumulated profits
and reserves in his profit-sharing ratio.
2.
He is also entitled to his share of profit upto the date of his retirement. Suppose
the books of accounts of the firm are closed on 31st March every year and the partner
is retiring on 30th June. He is entitled to his share of profit for this 3 months' period
i.e., from 1st April to 30th June.
3.
When a partner retires he is paid for his share of goodwill in the firm.
4.
According to the terms of the Partnership Deed the value of all assets and
liabilities are revalued on the retirement of a partner. For this purpose, a Revaluation
Account is prepared. He is entitled to his share of profit (or loss) on the revaluation of
assets and liabilities.
In the absence of any agreement to the contrary, the profit sharing ratio between the
remaining partners remains unchanged after his retirement.
6.2
ACCOUNTING PROCEDURE AT THE TIME OF RETIREMENT OF A
PARTNER
The following problems arise when a partner retires from the firm and remaining
partners continue with the business :
2
1.
Treatment of goodwill
2.
Revaluation of assets and liabilities
3.
Adjustments of accumulated reserve and losses
4.
Calculating the amount due to the retiring partner and its payment.
6.2.1 Treatment of Goodwill
When a partner retires from the firm remaining partners are benefitted because
future profit is shared only by them. For example, if A, B and C are partners and their
profit sharing ratio is 2 : 2: 1. If B retires from the firm, A and C will distribute the
profits in 2:1 ratio or a new ratio.
A and C will get share of B. Hence, A and C will compensate the retiring partner
B in the gaining ratio. When a new partner is admitted in the firm, he pays the amount of
goodwill and if a partner retires from the firm, the remaining partners compensate the
retiring partner by paying for the goodwill.
Gaining ratio is the difference of new ratio and old ratio. If there is no other
agreement, remaining partners will share the profits in the same ratio in which they
shared earlier before the retirement of a partner. In such a situation, the gaining ratio of
the remaining partners would be their old ratio.
For example, A B and C are sharing profits in the ratio 3:2:1. C retires from the
firm. In this case, new ratio of A and B will be 3:2.
Illustration 1
i)
A, B and C were sharing profit and loss in the ratio of 2:3:1. Calculate the new
ratio and the gaining ratio when (a) A retires, (b) B retires and (c) C retires.
ii)
A, B and C were partners sharing profit and loss in the ratio of 2:3:1. C retires
and A and B decide to share future profit and loss in the ratio of 3:4. Calculate the
gaining ratio.
3
iii)
A, B and C were partners sharing profit and loss in the ratio of 2:3:1. C retires
and his share is taken by A and B in the ratio of 2:1. Find the new ratio.
Solution
i)
(a)
When A retires, the new ratio of B and C will be 3:1.
This will also be their gaining ratio.
(b)
When B retires, the new ratio of A and C will be 2:1.
This will also be their gaining ratio.
(c)
When C retires, the new ratio of A and B will be 2:3
This will also be their gaining ratio.
ii)
Gaining Ratio = New Ratio —Old Ratio
Gain of A = 3/7 - 2/6
=
4/42
Gain of B = 4/7 - 3/6
=
3/42
Thus, the gaining ratio of A and B is 4/42 : 3/42 or 4:3
iii)
Share got by A from C = 1/6 × 2/3 = 2/18
Share got by B from C = 1/6 × 1/3 = 1/18
New ratio of A = 2/6 + 2/18 = 8/18
New ratio of B = 3/6 + 1/18 = 10/18
Hence, new ratio of A and B = 8/18 : 10/18 or 8 : 10 or 4 : 5
Adjustment of Goodwill
Having understood the gaining ratio of new partners, let us discuss how the
goodwill will be adjusted in accounts. The following are the methods of treating goodwill
in books in case of retirement :
1.
When Goodwill account is raised with full value
Under this method, Goodwill Account is debited with full value of Goodwill
and the partners’ Capital Accounts, including retiring partner’s Capital Account are
credited in the old ratio. Goodwill will be show in the Balance Sheet at full value.
4
2.
When goodwill account is raised with full value and written off by
remaining partners
Under this method, first of all Goodwill Account is debited with full value and
all partners (including retiring partner) Capital Accounts are credited in the old ratio.
Secondly, remaining partners’ Capital Accounts are debited in new ratio and Goodwill
Account is credited. Hence, the Goodwill Account is closed. It will be shown in Balance
Sheet.
3.
When goodwill is raised only with the share of the retiring partner
and then written off by remaining partners
In this case, firstly Goodwill Account is debited and retiring partner’s Capital
Account is credited with his share of goodwill. Secondly, Capital Accounts of remaining
partners are debited in their gaining ratio and Goodwill Account is credited. Hence,
Goodwill Account will be closed.
4.
When retiring partner’s share of Goodwill is to be adjusted in the Capital
Accounts of remaining partners without raising Goodwill Account
In this case, the retiring partner’s share of goodwill is calculated and debited to
continuing partners Capital Accounts in their gaining ratio with corresponding credit
being given to retiring partner’s Capital Account.
Note : From the above explanation, it is clear that when we deal with the total
value of goodwill (Opening Goodwill Account or Closing Goodwill Account), we should
use either the old ratio or the new ratio. If we adjust the share of goodwill of the retiring
partner only we should use only the gaining ratio.
Illustration 2
A, B and C are partners sharing profits and losses in the ratio of 4:3:2. B retires
and on retirement the goodwill of the firm is valued at Rs. 43,200, No goodwill appears
5
in the books. A and C agree to share future profits in the ratio of 5:3. Find the gaining
ratio and pass the journal entries for goodwill in each of above cases.
Solution
Old ratio between A, B and C = 4:3:2
New Ratio between A and C = 5:3
Gaining ratio = New ratio — old ratio
A = 5/8 - 4/9 = (45 - 32)/72 = 13/72
C = 3/8 - 2/9 = (27 - 16)/72 = 11/72
Hence, A and C will compensate B in the ratio of 13 : 11
(a)
When the full value of goodwill is raised in the books :
Goodwill A/c
To A’s Capital A/c
To B’s Capital A/c
To C’s Capital A/c
(Goodwill raised and credited to
partners capital accounts in old ratio)
Dr.
Rs.
43,200
Rs.
19,200
14,400
9,600
Note : Goodwil will appear in the Balance Sheet as an asset until it is written off.
(b)
When the full value of goodwill is raised in the books and written off :
Goodwill A/c
To A’s Capital A/c
Dr.
Rs.
43,200
Rs.
19,200
To B’s Capital A/c
To C’s Capital A/c
14,400
9,600
(Being the Goodwill credited to all
partners in old ratio)
A’s Capital A/c
C’s Capital A/c
Dr.
Dr.
To Goodwill A/c
(Being the Goodwill written off in the new ratio)
6
27,000
16,200
43,200
(c)
When the retiring partner’s share of goodwill is raised and written off :
Rs.
Goodwill A/c
Dr.
Rs.
14,400
To B’s Capital A/c
14,400
(Being B’s share of Goodwill)
A’s Capital A/c
Dr.
7,800
C’s Capital A/c
Dr.
6,600
To Goodwill A/c
14,400
(Goodwill written off in the gaining
ratio of 13:11)
(d)
When the goodwill is adjusted in Capital Account without opening a Goodwill
Account :
Rs.
A’s Capital A/c
Dr.
7,800
C’s Capital A/c
Dr.
6,600
To B’s Capital A/c
Rs.
14,400
(Being due to B adjusted between A and C in
their gaining ratio)
Note : In all the above cases, B gets a credit for Rs.14,400 being his share of
goodwill of the firm which comes from A and C in their gaining ratio of 13:11.
When goodwill already exists in the books at the time of retirement, the need
for its revaluation arises to find out increase or decrease in its value. If the value has
increased, Goodwill Account will be debited and Capital Accounts of all partners will
be credited in their old ratio with the amount of increase. On decrease in its value, a
reverse entry will be made.
7
6.2.2 Revaluation of Assets and Liabilities
Revaluation of assets and labilities is also required at the time of retirement of
a partner in the same way as it is done in case of admission of a partner. The profit or
loss which results from revaluation will be transferred to all partners’ Capital Accounts
in their old profit sharing ratio. For this purpose, a “Revaluation Account” or “Profit
and Loss Adjustment Account” is prepared. If the remaining partners wish to show
assets and liabilities at their old values Memorandum Revaluation Account will be
prepared.
6.2.3 Adjustment of Accumulated Reserves and Losses
At the time of retirement, if general reserve, credit balance of Profit and Loss
Account or other undistributed profits are given in the Balance Sheet, they are credited
in the old partners’ Capital Accounts in old profit sharing ratio. For this, the following
journal entry is made:
Reserve or Profit and Loss A/c
Dr.
To Partners’ Capital A/c
(Old ratio)
If the partners want that only retiring partner’s Capital Account be credited with
his share in undistributed profits, then the following entry will be made.
Reserves or Profit and Loss A/c
Dr.
To Retiring Partner’s Capital A/c
(With the share of retiring partner)
Remaining undistributed profits will be shown in the Balance Sheet after
retirement.
If the remaining partners want that, without changing the amount of reserves or
profit, share be given to retiring partner, the following entry will be made :
8
Continuing Partner’s Capital A/c
Dr.
(In their gaining ratio)
To Retiring Partner’s Capital A/c
6.2.4 Calculating the amount due to the retiring partner and its payment
The retiring partner’s Capital Account is credited with his share of capital, share
of goodwill, share of profit on account of revaluation and undistributed profits and
reserves of last years. This account will be debited with his drawings, share in revaluation
loss and other losses. If payment is no made to the retiring partner, the amount due is
transferred to his loan account. According to Section 37 of Partnership Act, the retiring
partner can have either interest @ 6% per annum on this amount due or the profit
earned by remaining partners with the help of this amount from the date of retirement.
For this, the journal entry will be :
Retiring Partner’s Capital A/c
Dr.
To Retiring Partner’s Loan A/c
If remaining partners bring cash to pay off the retiring partner then, journal
entry will be :
Bank A/c
Dr.
To Continuing Partner’s Capital A/c
(For cash brought in by partners in the agreed
ratio to pay off the retiring partner)
Payment in Instalments
Capital Account of the retiring partner is settled as per agreement. It may be
settled in two ways :
1)
Payment in instalments with interest
2)
Payment in a fixed number of instalments of equal amount (including interest).
Amount of instalment can be calculated with the help of Annuity Table.
9
Note : In the absence of any information, balance of retiring partner’s Capital Account
will be transferred to his Loan Account.
Illustration 3
A, B and C were carrying on business in partnership sharing profits and losses in
the ratio of 3 : 2 : 1, respectively. On 31st December, 1985, the Balance Sheet of the
firm stood as follows :
Liabilities
Rs.
Assets
Rs.
Sundry Creditors
13,590
Cash
5,900
Debtors
8,000
A : 15,000
Stock
11,690
B : 10,000
Building
23,000
Capital Accounts :
C : 10,000
35,000
48,590
48,590
B retires on the above mentioned date on the following terms :
(i)
Building be appreciated by Rs. 7,000.
(ii)
Provision for bad debts be made @ 5% on Debtors.
(iii)
Goodwill of the firm be valued at Rs. 9,000 and adjustment in respect be
made without raising a Goodwill Account.
(iv)
Rs. 5,000 be paid to B immediately and the balance due to him be treated
as loan carrying interest @ 6% per annum. Such loan is to be paid in
three equal annual instalments together with interest.
Pass the journal entries to record the above mentioned transactions and show
the Balance Sheet of the firm as it would appear immediately after B’s retirement.
Prepare B’s Loan Account till it is finally closed.
10
Solution
Journal
Particulars
Building A/c
Dr.
Dr.
Cr.
Rs.
Rs.
7,000
To Revaluation A/c
7,000
(Being appreciation in the value of Building)
Revaluation A/c
Dr.
400
To Provision for Bad Debts
400
(Being provision for bad debts created on debtors)
Revaluation A/c
Dr.
6,600
To A’s Capital A/c
3,300
To B’s Capital A/c
2,200
To C’s Capital A/c
1,100
(Being profit on revaluation credited to
old partners)
A’s Capital A/c
Dr.
2,250
C’s Capital A/c
Dr.
750
To B’s Capital A/c
3,000
(Being B’s share of goodwill adjusted in gaining
ratio of 3:1 in A and C)
B’s Capital A/c
Dr.
5,000
To Bank A/c
5,000
(Being the amount paid to B on retirement)
B’s Capital A/c
Dr.
To B’s Loan A/c
(Balance of amount due to B transferred to
his loan account)
11
10,200
10,200
Balance Sheet
as on 1st January, 1986
Liabilities
Rs.
Assets
Rs.
Sundry Creditors
13,590
Cash
900
B’s Loan A/c
10,200
Debtors
Less : Prov. for bad debts 400 7,600
Capital Accounts :
A : 16,050
B : 10,350
8,000
Stock
26,400
Building
11,690
23,000
Add : Appreciation 7,000
50,190
30,000
50,190
B’s Loan Account
1986
Rs.
1986
Dec.31 To Bank
3,816
Jan. 1
By Balance b/d
10,200
6,996
Dec. 31 By Interest A/c
612
To Balance c/d
Rs.
10812
1987
10,812
1987
Dec. 31 To Bank
To Balance c/d
3,816
Jan. 1
By Balance b/d
6,996
3,600
Dec.31 By Interest A/c
420
7,416
1988
7,416
1988
Dec.31 To Bank
3,816
Jan. 1
By Balance b/d
3,600
Dec. 31 By Interest A/c
216
3,816
3,816
Working Notes
(i)
New Profit-Loss sharing Ratio :
Old Profit-sharing Ratio of A, B and C = 3/6 : 2/6 : 1/6, After B’s
retirement the ratio between A & C will be = 3 : 1 or 3/4 : 1/4
12
(ii)
Gaining Ratio of A and C :
Gain to A = 3/4 - 3/6 = (18-12)/24 = 6/24
Gain to C = 1/4 - 1/6 = (6-4)24 = 2/24
Hence the gaining ratio is 6/24 : 2/24 or 3 : 1
(iii)
According to Annuity Table .37410981 should paid every your to repay
rupee one with 6 per cent interest in 3 years. The annual instalment for
payment of Rs. 10,200 comes to Rs. 10,200 × .37410981 = Rs. 3,816
Illustration 4
P and Q were working in partnership profits and losses equally. On 31 December,
1996, P decided to retire and in his place his son R was admitted as partner from 1
January, 1997, with 1/3 share of profit.
Balance Sheet
as on December 31, 1996
Liabilities
Rs.
Assets
Sundry Creditors
14,700
Goodwill
15,000
Land & Building
40,050
Motor Car
12,000
Furniture
9,300
Capital Accounts :
P : 54,300
Q : 48,000
1,02,300
Rs.
Sundry Debtors
24,150
Cash at Bank
16,500
1,17,000
1,17,000
It was decided that:
a)
The goodwill would be raised to Rs. 20,000.
b)
The car would be taken over by P at its book value.
c)
The value of land and buildings would be increased by Rs. 8,280.
13
d)
Q and R would introduce sufficient capital to pay off P and to leave
thereafter a sum of Rs. 7,350 as bank balance, so as to make their capital
proportionate to their share of profits.
e)
The Capital payable by R was to be gifted to him by his father.
f)
The new partners decided not to show goodwill as an asset.
The new arrangements were duly complied with. Show the partners Capital
Account and the Bank Account.
Solution
Capital to be brought in by the partners :
Total Capital of the new firm :
Rs.
Goodwill
20,000
Land and Buildings
48,330
Furniture
9,300
Sundry Debtors
24,150
Cash at Bank
7,350
Total Assets
1,09,130
Less : Creditors
14,700
Total Capital of Q and R
94,430
Q’s Capital = 94,430 × 2/3
62,953
R’s Capital = 94,430 × 1/3
31,477
Amount payable to P :
Rs.
P’s Capital
54,300
His share of profit on revaluation :
Goodwil
5,000
Land & Buildings
8,280
13,280 ×1/2 =
14
6,640
60,940
31,477
Less : Capital of R to be gifted by P
29,463
12,000
Less : Car taken over
17,463
Balance payable in cash
Amount to be brought in by Q :
Rs.
Q’s Capital
48,000
6,640
His share, 1/2 of profit on revaluation
Existing Capital
54,640
Q’s share in the new firm
62,953
Cash to be brought in by Q = Rs. 62,953 - Rs. 54,640 = Rs. 8,313
Capital Accounts
P
Q
R
P
Q
R
Rs.
Rs.
Rs.
Rs.
Rs.
Rs.
To R’s Capital A/c
31477
-
-
By Balance b/d
To Motor Car A/c
12000
-
-
By Revaluation A/c
To Bank A/c
17463
-
-
By Bank A/c
6667
By P’s Capital A/c
To Goodwill A/c
-
13333
To balance c/d
-
49620 24810
60940 62953 31477
54300 48000
6640
-
6640
-
-
8313
-
-
-
31477
60940 62953 31477
Bank Account
Rs.
To Balance b/d
To Q’s Capital A/c
16500
8313
Rs.
By P’s Capital A/c 17463
By Balance c/d
24813
7350
24813
15
Illustration 5
A, B and C share profits and Losses as 1 : 2 : 2. On 31 st December, 1989 when
A decided to retire, their capitals were Rs. 27,000; Rs. 54,000 and Rs. 54,000
respectively. A agreed to keep his capital in the firm as a loan subject to 6% per annum
interest. However, he was to receive a share in the profits after charging interest on
capital and loan of new firm for the year 1990, of only an amount equal to 1/3 of his
share in the old firm. On 1st January, 1990 D was admitted who paid Rs. 18,000 for his
capital and Rs. 12,000 for his 1/7 share of goodwill. The goodwill was shared by B and
C in their respective ratios.
In 1990, the firm earned a profit of Rs. 67,020, before charging interest on
loan of A and on capital @ 5 percent. Show the profit sharing ratios for the year 1990.
Also show the Capital of the partners on 31st December. 1990.
Solution
Profit and Loss Account
for the year ended 31st December, 1990
Particulars
To interest on A’s Loan
(6% on Rs. 27,000)
To Interest on Capital :
(@ 5%)
B on Rs. 60000 3000
C on Rs. 60000 3000
D on Rs. 18000 900
To A’s Loan A/c
(1/15 of Rs. 58,500)
To Profit Transferred to
Capital Accounts
B : 3/7
23400
C : 3/7
23400
D : 1/7
7800
Rs.
1620
Particulars
By Net profit
Rs.
67020
6900
3900
54600
67020
67020
16
Capital Accounts
P
Q
R
P
Q
R
Rs.
Rs.
Rs.
Rs.
Rs.
Rs.
1990
1990
Dec. 31
Jan. 1
To Balance c/d
86400 86400 26700
By Balance b/d
54000 54000 -
By Goodwill A/c
By Cash
6000
-
6000 -
18000
Dec. 31
86400 86400 26700
By Interest A/c
3000
3000
900
By P & L A/c
23400 23400 7800
86400 86400 26700
Working Notes
(1)
A is entitled to 1/3 of his previous share = 1/5 × 1/3 = 1/15
(2)
Profit sharing ratio among B, C and D for 1990 and 1991 and 1991
will be 3/7, 3/7 and 1/7 respectively, calculated as :
B + C = 1 - 1/7 = 6/7
B’s Share = 6/7 × 1/2 = 3/7
C’s Share = 6/7 ×1/2 = 3/7
(3)
A’s share in firm’s profit = Rs. (Rs. 67,020 - Rs. 1,620 - Rs. 6,900) ×
1/15 = Rs. 3,900
6.3
DEATH OF A PARTNER
The accounting treatment at the time of death of a partner is same as at the time
of retirement. Main difference between the two is that of closing of the account of
business. Deceased partner’s capital account is credited with his opening capital, interest
on capital up to his death, his share in undistributed profits, revaluation profits, firm’s
17
profits from the date of the last balance sheet up to his death and with his share of
goodwill. Drawings, interest on drawings and losses are debited in the deceased partner’s
Capital Account and the remaining amount is transferred to his legal representative’s
account. Legal representative can receive either interest at 6 per cent per annum, on
the amount due from the date of death to the date of settlement or the profit earned
with the help of that amount.
Most of the points have already been discussed in the retirement of a partner
but the following two points require special attention:
i)
Calculation of deceased partner's share of profit.
ii)
Treatment of life policy or policies.
These will be discussed one by one.
6.3.1 Calculation of Deceased Partner's Share of Profit
The deceased partner's share of profit is to be determined either on the basis of
time or turnover.
(a)
On the basis of time: In this case, it is assumed that the profit during the
previous year has been earned uniformly in all months during the year, provided previous
year is taken as the base for calculation of profit. Sometimes average profits of the
past three or four years is taken as base rather than the previous year. Whatever base
may be taken, it is to be multiplied by the period for which the deceased partner remained
in the firm and also his profit sharing ratio at the time of his death. For example A, B,
and C are partners in a firm sharing profits and losses in the ratio of 3 : 2 : 1. B dies on
14th March, 1996. The average of the last three years is Rs. 30,000. B's share of profit
on the basis of time is calculated as under:
Average yearly profit = Rs. 30,000
Profit for 73 days i.e., Jan. 1 to March 14, 1996 =
B's share = 2/6 × 6,000 = Rs. 2,000
18
Rs. 30,000 × 73
= Rs. 6,000
365
(b)
On the basis of turnover: In this method, average past profit is divided
into two portions i.e., before the death and after the death on the basis of ratio of
turnover to the date of death to average turnover and then deceased partner's share is
calculated and credited to his capital account. For example, A, B and C are partners in
a firm sharing profits and losses in the ratio of 3 : 2 : 1. B dies on 14th March, 1996.
Turnover from 1st January, to 14th March, 1996 is Rs. 42,000. Average turnover of the
last three years is Rs. 60,000 and profit is Rs. 30,000. B's share of profit on this basis
will be calculated as under:
Average turnover = Rs. 60,000
Sales to the date of death = Rs. 42,000.
Profit to the date of death = Rs. 42,000 × ……. = Rs. 21,000
B's share of profit =
× 21,000 = Rs. 7,000.
6.3.2 Treatment of Life Policies
1
To make an arrangement for the payment
of amount belonging to deceased partner
3
to his legal representative, the firm can get insured the life of all the partners jointly or
individually. Premiums on life policies are paid out of firm’s funds and this is debited
to firm’s Profit and Loss Account. Amount received in the form of claim from the life
insurance company is credited to all the partners in their profit/loss sharing ratio. In
the case of individual policies also, the deceased partner is entitled to his share in the
surrender value of policies of all the partners. Other partners are also entitled to their
respective share in the amount of policy of the deceased partner.
Illustration 6
Brown and Smith are partners. The partnership deed provides inter alia:
i)
That the Account be balanced on 31st December each year.
ii)
That the profits be divided as follows : Brown 1/2; Smith 1/3 and carried
to a Reserve account 1/6.
19
iii)
That in the event of the death of a partner, his executors be entitled to be
paid :
(a)
The capital to his credit at the date of death.
(b)
His proportion of reserve at the date of last balance sheet.
(c)
His proportion of profit to date of death based on the average profits of
the last three completed years.
(d)
By way of goodwill his proportion of the total profits for the three
preceding years.
On 31st December, 1989, the Ledger balance were :
Rs.
Rs.
Brown’s Capital
9,000
Smith’s Capital
6,000
Reserve
3,000
Creditors
3,000
Bills Receivable
2,000
Investments
5,000
Cash
14,000
21,000
21,000
The profit for three years were :
1987 Rs. 4200, 1988 Rs. 3900, 1989 Rs. 4500. Smith died on 1st May, 1990
Show the accounts as between the firm and Smith’s died on 1st May, 1990
Solution
Effective profit sharing ratio between Brown and Smith is 3 : 2 Smith’s share in
the profits to the date of death :
20
Rs.
Profit for 1987
4,200
Profit for 1988
3,900
Profit for 1989
4,500
Total Profits
12,600
Average = Rs. 12,600/3 = Rs. 4,200
Profit for 4 months upto May 1, 1990 = 4,200 × 1/3 = Rs. 1,400
Smith’s share therein = Rs. 1,400 × 2/5 = 560
Smith’s share in Goodwill :
Goodwill = Rs. 12,600
Smith’s share = Rs. 12,600 × 2/5 = Rs. 5,040
Smith’s Capital Account
Rs.
Rs.
1990
1990
May, 1
May 1
To Smith’s Executors’ A/c
12,800
By Balance b/d
6,000
By Reserve A/c
1,200
By P & L suspense A/c
560
(Profit upto death)
By Goodwill A/c
12,800
5,040
12,800
Smith’s Executors’ Account
Rs.
1990
May 1
By Smith’s Capital A/c
12,800
12,800
21
Joint Life Policy
Accounting treatment of Joint Life Policy may be done by any of following
methods:
1.
First Method: When payment of premium is considered as a business
expenditure
Under this method, the amount of premium is charged to Profit and Loss Account
of each year and the amount received from insurance company on the death of any
partner is treated as income. Bank Account will be debited and Joint Life Policy Account
will be credited with the amount received from the insurance company on the death of
a partner. Then Joint Life Policy Account is closed by transferring it to all the partners
Capital Accounts (including the deceased partner) in their profit sharing ratio. The
main problem in this method is that no surrender value of policy is shown in the books.
2.
Second Method : When surrender value is treated as an asset
In this method at the time of payment of premium, the Joint Life Policy Account
is debited and Bank Account is credited. That amount of premium which is more than
surrender value at the end of year, it is assumed as loss with which Profit and Loss
Account is debited and Joint Life Policy Account is credited. Joint Life Policy Account
(Surrender Value) is shown as asset in the Balance Sheet.
At the time of death of any partner, Bank Account is debited and Joint Life
Policy Account is credited with the amount received. Credit balance of Joint Life Policy
Account is considered as profit and transferred to all partners’ capital accounts in their
profit-loss sharing ratio.
The main advantage of this method is that surrender value is considered
as an asset and disadvantage is that the premium is not shown fully as an expense in
Profit and Loss Account.
22
3.
Third Method : When premium is considered as an asset
With the amount of premium paid, Joint Life Policy Account is debited and
Bank Account is credited. Joint Life Policy Account is shown as an asset in the Balance
Sheet. At the time of death of any partner, Bank Account is debited and Joint Life
Policy Account is credited. After his, if there is any credit balance in Joint Life Policy
Account, it is distributed among all partners in their profit sharing ratio.
4.
Fourth Method : When payment of premium is treated as an investment
and a Reserve Account is opened 1.
Premium is debited to Joint Life Policy Account.
2.
Every year amount equal to the premium is debited to Profit and Loss
Appropriation Account and credited to Joint Life Policy Reserve Account.
3.
Joint Life Policy Account and Joint Life Policy Reserve Account are
adjusted in such a way that the balance in each account is equal to
surrender value of the policy.
4.
At the death of a partner Joint Policy Account is credited with the amount
received. Credit balance of Joint Policy Reserve Account is transferred
to Joint Life Policy Account and Joint Life Policy Account is closed by
transferring to Capital Accounts of all the partners in their profit sharing
ratio.
Under this method, surrender value is shown on the assets side and Joint Life
Policy Reserve Account on liabilities side of Balance Sheet.
Main advantage of this method is that surrender value is shown in Balance Sheet
and all premium is charged from Profit and Loss Appropriation Account.
Illustration 7: (a) A and B are partners in a firm. On April 1, 1997 they took
out a Joint Life Policy without profits for Rs. 30,000 upon which an annual premium
of Rs. 1,400 is payable. A and B share profits in the ratio of 2 : 1. On March 31, 1998
23
B died and Rs. 30,000 is received from the Insurance Company.
Journalise the above transactions. Premium is to be adjusted through Profit and
Loss Account.
(b) A and B who shared profits in the ratio of 3 : 2 took a joint life policy on
May 1, 1995 for Rs. 30,000. The annual premium was Rs. 1,300. The surrender value
of the policy was:
1995 Nil; 1996 Rs. 400; 1997 Rs. 900; 1998 Rs. 1,450
B died on September 15, 1995 and the amount of the policy was received on
Dec. 341, 1998. The books are closed on Dec. 31, each year.
Show Joint Life Policy Account and Joint Life Policy Reserve Account assuming that premiums were written off through Joint life Policy Reserve Account.
Solution
Journal Entries
1997
Rs.
April 1 Joint Life Policy Premium A/c
Dr.
Rs.
1,400
To Bank A/c
1,400
(Being the payment of annual premium)
1998
Mar. 31 Profit and Loss Account
Dr.
1,400
To Joint Life Policy Premium A/c
1,400
(Being Premium charged to P & L A/c)
Mar. 31 Insurance Company A/c
Dr.
To Joint Life Policy A/c
30,000
30,000
(Being the amount of J.L.P. due for receipt)
24
Mar. 31 Bank Account
Dr.
30,000
To Insurance Company A/c
30,000
(Being the receipt of claim from Insurance Company)
Mar. 31 Joint Life Policy A/c
Dr.
30,000
To A’s Capital A/c
20,000
To B’s Capital A/c
10,000
(Being the amount of policy distributed between
partners in the ratio of 2 : 1)
(b)
Joint Life Policy Account
1995
May 1
Rs.
To Bank A/c
1,300
1996
May 1
1995
Dec. 31
Rs.
By J.L.P. Reserve A/c
1,300
By J.L.P. Reserve A/c
900
By Balance c/d
400
1996
To Bank A/c
1,300
Dec. 31
1,300
1997
1,300
1997
Jan. 1
To Balance b/d
May 1
To Bank A/c
400
Dec. 31
1,300
By J.L.P. Reserve A/c
800
By Balance c/d
900
1,700
1998
1,700
1998
Jan. 1
To Balance b/d
May 1
To Bank A/c
900
Sept. 15
1,300
By Bank A/c
By J.L.P. Reserve A/c
30,000
900
Dec. 31 To Capital A/c:
A
17,220
B
11,480
30,900
30,900
25
Joint Life Policy Reserve Account
1995
Rs.
Dec. 31
To Joint Life
Policy A/c
1995
Dec. 31
1,300
1996
Rs.
By P & L
Approp. A/c
1996
Dec. 31
To Joint Life
Dec. 31
Policy A/c
900
To Balance c/d
400
By P. & L
Approp. A/c
1,300
1997
1,300
1,300
1997
Dec. 31
To Joint Life
Dec. 31
Policy A/c
800
To Balance c/d
900
1998
By Balance b/d
By P & L Approp. A/c
1,700
400
1,300
1,700
1998
Sept. 15
To Joint Life
Policy A/c
6.4
1,300
Sept. 15 By Balance b/d
900
900
SUMMARY
The only difference between admission and retirement of a partner is that in
case of the former, the new partner joins the firm whereas in case of retirement, an old
partner leaves the firm because of certain reasons. The main points which require
attention in case of retirement of partner are treatment of goodwill, revaluation of
assets and liabilities, adjustment of accumulated reserves and losses, and calculation
of total amount due to the retiring partner. The problems which arise in case of death of
a partner are similar to those of a retiring partner except that the death of a partner may
occur at any time whereas the retirement of a partner is planned. The points which
26
require special attention at the time of death of a partner are calculation of deceased
partner's share of profit and treatment of life policy or policies
6.5
KEYWORDS
Gaining Ratio: The ratio in which the continuing partners acquire the outgoing partner's
share is called as gaining ratio. Surrender value: It is the value which is payable
immediately to the insured on surrendering all rights of the policy (policies) to the
insurer.
Memorandum Revaluation Account: Sometimes it may be derived not to alter the
value of assets and liabilities in the books, a Memorandum Revaluation Account will
be opened.
6.6
SELF ASSESSMENT QUESTIONS
1.
What is goodwill ? Explain the different methods of treating goodwill in accounts
at the retirement of a partner.
2.
What is a joint life policy? What is its objectives? Discuss the various methods
of recording joint life policy amount in partnership books.
3.
A, B and C were partners sharing profit and losses in the ratio of 1:2:1
respectively. The following are some of the particulars relating to the firm :
a)
The firm had taken life insurance policy on their lives independently; A
for Rs. 5,000; B for Rs. 7,500 and C for Rs. 5,000
b)
The partnership Deed provides that in the event of death of a partner, his
share of profits for the portion of the current year in which the partner
was alive should be calculated on the basis of the average profit of the
previous two completed years.
d)
Goodwill should be calculated on the basis of two yours’ purchase of
average profit of the previous two completed years.
27
e)
The capitals of the partners as on December 31, 1983 were- A : Rs.
25,000; B : Rs, 37,500 and C : Rs. 22,500 carrying 6 per cent per annum
interest on capital.
C died on April, 1984 and had drawn Rs. 3000 from 1st January to the date of
his death. The Insurance Company paid the amount due on C’s Policy on 1st June, 1984
and the surrender value of the remaining policies was one-fifth of the sums assured.
The firm’s profits for the previous three years were; 1981 Rs. 10,500, 1982 Rs.
11,000 and 1983 Rs. 11,500.
Prepare the Capital Account of C and also ascertain the amount due to his legal
representative.
4.
Ravi, Shanker and Sastry are partners sharing profits and losses as 6:5:4. They
have a Joint Life Policy for Rs. 2,00,000 on which they pay Rs. 7,500 per annum as
premium and debit the same to Profit and Loss Account as premium. Accounts are
closed annually on 31 December.
Shanker died on 1st April, 1995 and his legal representatives are entitled to :
i)
His capital as appearing in the last Balance Sheet.
ii)
Interest on capital at 6 per cent per annum to the date of death.
iii)
His share of profit calculated till date of his death on the basis of the
previous years profit; and
iv)
His share of goodwill calculated as two years purchase on the average of
the last three years’ profit before inclusion of the policy premium as
business expense.
Shanker’s drawing in 1995 amounted to Rs. 3000. His capital shown in 1994
Balance Sheet was Rs. 80000. The profit for the three years 1992, 1993 and 1994 after
inclusion of the policy premium as business expense amounted to Rs. 65000, Rs. 64000
and Rs. 69000 respectively.
Prepare Shanker’s Capital Account
28
5.
A, B and C were carrying on business with the following assets with effect from
1-1-1980; Furniture Rs. 18,000; Machinery Rs. 72,000, Cash Rs. 10,000, Debtors Rs.
20,000. Their profit-sharing ratio was 5 : 3 : 2. Capital is also shared in the same ratio.
B died on 30-6-80. His son claimed his father’s interest in the firm.
The following was the settlement :
a)
Allow his capital to his credit on the date on death.
b)
Give 5% per annum interest on his capital.
c)
He had been drawing at Rs. 600 per month which he with drew in the beginning
of each month. He be allowed to retain these drawings as a part of his share of
profit.
d)
Interest at 6% per annum be charged on his drawings.
e)
They had separate life policies for which the premium had been paid out of
Profit and Loss Account of the firm : A Rs. 50,000; B Rs. 60,000 and C Rs.
30,000. The surrender value of A’s policy was 50 per cent whereas of C’s policy
it was 40 per cent.
f)
Goodwill was evaluated twice the average of profits which were Rs. 3,600.
Prepare B’s Personal Account.
6.
Azad, Binod and Chandan sharing profits in the ratio of 2 : 2 : 1 took out a joint
life policy in 1995 for Rs. 3,00,000. A premium of Rs. 18,000 being paid
annually on January 1. The surrender value of the policy on 31st December of
various years was as follows:
1995
Nil
1996
Rs. 5,400
1997
Rs. 12,000
1998
Rs. 23,400
1999
Rs. 40,000
Binod died on May 15, 1998.
29
Prepare the necessary ledger accounts along with journal entries assuming:
(i) no joint life policy account is maintained, (premium paid is treated as on expense).
(ii) Joint life policy account is maintained as an asset at surrender value.
(iii) Joint life policy is maintained on as asset at surrender value along with a joint life
policy reserve account.
6.7
SUGGESTED READINGS
1.
Fundamentals of Accounting by R.L. Gupta and V.K. Gupta, Sultan Chand and
Sons, New Delhi.
2.
Advanced Accounts by M.C. Shukla, T.S. Grewal and S.C. Gupta, S. Chand and
Co. Ltd., New Delhi.
3.
Fundamentals of Advanced Accounting by R.S.N. Pillai and V. Bagavathi, S. Chand
and Co. Ltd., New Delhi.
4.
Studies in Advanced Accounting by S.N. Maheshwari, Sultan Chand and Sons,
New Delhi.
5.
Financial Accounting by Shashi K. Gupta, Nisha Aggarwal and Neeti Gupta,
Kalyani Publishers, Ludhiana.
6.
Financial Accounting by P.C. Tulsian, Pearson Education, New Delhi.
30
LESSON : 7
AMALGAMATION OF PARTNERSHIP FIRMS
STRUCTURE
7.0
Objective
7.1
Introduction
7.2
Accounting Treatment in the Books of the Amalgamating Firms
7.3
Books of the New Firm
7.4
Summary
7.5
Keywords
7.6
Self Assessment Question
7.7
Suggested Readings
7.0
OBJECTIVE
After reading this lesson you should be able to know
(a)
Accounting entries to be passed to close the books of the amalgamated
firms.
(b)
Treatment of assets and liabilities not taken over by the new firms in the
books of amalgamated firms
7.1
INTRODUCTION
Amalgamation of firms takes place when two or more firms working
independently amalgamate themselves and in their place a new firm is formed to take
over their businesses. This is done to avoid competition, to reduce unnecessary
advertisement expenditure, to gain monopoly in the market, to have more capital and
skill and to have internal and external economies of large scale production.
The following problems may arise when existing firms are amalgamated to form
a new company:
1
(a)
The new firm may take over some assets and liabilities at book value and
some assets and liabilities at revised values.
(b)
The new firm may not take over some assets and liabilities of the existing
firms.
(c)
The new firm may agree to pay some amount for the goodwill which may
be more or less than the amount of goodwill, if any, already appearing in
the books of the existing firms.
7.2
ACCOUNTING TREATMENT IN THE BOOKS OF THE
AMALGAMATING FIRMS
The following steps may be taken to close the books of the old firms:
(i)
All assets and liabilities should be revalued in order to ascertain the true capital
brought by each partner into the new firm. For this purpose each firm will prepare a
revaluation account relating to its own assets and liabilities and profit or loss on
revaluation will be transferred to the partners capital accounts in the profit sharing
ratio. This revaluation is done in the same way as was done at the time of admission or
retirement of a partner.
(ii)
All reserves, profits and losses appearing in the balance sheets of old firms are
transferred to the partners’ capital accounts in their profit sharing ratio.
(iii)
If some assets and liabilities are not taken over by the new firm, these are closed
by transfer to capital accounts of the partners in the ratio of their capitals and not in the
profit sharing ratio. Division of assets and liabilities taken over by the partners is done
in the ratio of capitals because it amounts to return or addition of Capital.
(iv)
Goodwill, if valued, should be raised in the firm’s books by passing necessary
entries.
(v)
New firm’s account is debited with the difference of assets and liabilities taken
over by passing the following entry:
2
New Firm’s A/c
Dr.
Liabilities A/c
Dr.
To Assets A/c
Assets and liabilities are taken at revised values for the purpose of the above
entry.
(vi)
Partners’ capital accounts (i.e. final amount due) are closed by transfer to the
new firm’s account by passing the following entry:
Partners’ Capital A/cs
Dr.
To New Firm’s A/c
7.3
BOOKS OF THE NEW FIRM
Books of the new firm are opened by passing the following entries:
(i)
Assets (taken over)
Dr.
To Liabilities (taken over)
To Capital A/cs of the Partners
as calculated in step (vi) above.
(ii)
Adjust capital accounts of the partners in the light of the requirements of the
new firm such as a partner brings in capital or withdraws it; entry for that is passed.
Illustration 1
On 1st January, 1985, A & B and X & Y who had previously been engaged in
competitive business agreed to amalgamate. The Balance Sheets of the two firms on
31st December, 1984 were as follows :
3
Liabilities
A&B
X&Y
Rs.
Rs.
Creditors
1500
12500
B/P
3000
Bank Overdraft
Assets
A&B
X&Y
Rs.
Rs.
Stock
15500
22000
----
Debtors
24500
38000
----
5150
Building
10000
----
A's Capital
25000
----
Plant &
2500
10000
B's Capital
25000
---
Machinery
X's Capital
----
26250
Bank
750
----
Y's Capital
----
26250
Furniture
250
150
National
1000
----
Saving
Certificate
54500
70150
54500
70150
A valuation of assets of both the firms was made, and it was agreed that the
building and plant and machinery belonging to A & B should be taken over by the new
firm at Rs. 12500 and Rs. 5000 respectively. X & Y were to be credited with Rs. 2500
as the value of certain patent rights they possessed became the property of the
partnership and were not included in their Balance Sheet. All the other assets and
liabilities were taken over at the values stated in the respective Balance Sheet except
the National Saving Certificate belonging to A & B, which were not taken over. It was
agreed that A & B should introduce cash to make their capital equal to total of X & Y.
Pass Journal entries in the books of the old firms and opening entries in the
books of the new firm. Also prepare the Balance Sheet of the new amalgamated firm.
4
Solution
Books of A & B
Journal Entries
Dr.
Particulars
Rs.
Building Account
Dr.
2500
Plant & Machinery A/c
Dr.
2500
To Revaluation Account
Cr.
Rs.
5000
(Being increase in the value of assets)
Revaluation Account
Dr.
5000
To A's Capital Account
2500
To B's Capital Account
2500
(Being profit on revaluation transferred to
Capital Accounts in equal ratio)
M/s. A & B, X & Y Account
Dr.
58500
To Building Account
12500
To Plant & Machinery Account
5000
To Furniture Account
250
To Stock Account
15500
To Debtors Account
24500
To Bank Account
750
(Being Assets taken over transferred to new firm)
A's Capital Account
Dr.
500
B's Capital Account
Dr.
500
To NSC Account
1000
(Being taking NSC by A & B in the ratio of their Capitals)
A's Capital Account
Dr.
27000
B's Capital Account
Dr.
27000
To A & B, X and Y Account
54000
(Being transfer of Capital of A & B to new firm)
5
Books of X & Y
Journal Entries
Patents Account
Dr.
Dr.
Cr.
Rs.
Rs.
2500
To X's Capital Account
1250
To Y's Capital Account
1250
(Being unrecorded patents created in books in
Profit and Loss Ratio)
M/s. A & B, X & Y Account
Dr.
72650
To Stock Account
22000
To Debtors Account
38000
To Plant & Machinery Account
10000
To Furniture Account
150
To Patents Account
2500
(Being assets take over by new firm)
Creditors Account
Dr.
12500
Bank Overdraft
Dr.
5150
To M/s. A & B, X & Y Account
17650
(Being liabilities transferred to new firm)
X's Capital Account
Dr.
27500
Y's Capital Account
Dr.
27500
To M/s A & B, X & Y Account
55000
(Being transfer of Capital Accounts of X and Y new firm)
6
Books of A & B, X, & Y
Journal Entries
Particulars
Dr.
Cr
Rs.
Rs.
Bank Account
Dr.
750
Building Account
Dr.
12500
Plant & Machinery Account
Dr.
5000
Furniture Account
Dr.
250
Stock Account
Dr.
15500
Debtors Account
Dr.
24500
To Creditors Account
1500
To B/P Account
3000
To A's Capital Account
27000
To B's Capital Account
27000
(Being Assets and Liabilities of M/s. A & B and
Capital Accounts taken over by new firm recorded)
Stock Account
Dr.
22000
Debtors Account
Dr.
38000
Plant & Machinery Account
Dr.
10000
Furniture Account
Dr.
150
Patents Account
Dr.
2500
To Bank Overdraft
5150
To Creditors Account
12500
To X's Capital Account
27500
To Y's Capital Account
27500
(Being Assets and Liabilities of M/s X & Y and
Capital Accounts taken over by new firm recorded)
Bank Account
Dr.
1000
To A's Capital Account
500
To B's Capital Account
500
(Being Cash brought by A & B)
7
Balance Sheet of M/s A & B, X & Y
as on 1st January 2005
Liabilities
Rs.
Capital Accounts
Assets
Rs.
Stock
37500
62500
A
27500
Debtors
B
27500
Furniture
X
27500
Patents
2500
Y
27500
Building
12500
Plant & Machinery
15000
Bank Overdraft
3400
Creditors
14000
B/P
3000
130400
400
130400
Illustration 2
The balance sheets of M/s A & B and M/s C & D as on December 31, 1996 were
as follows :
Liabilities
A&B
C&D
Rs.
Rs.
Assets
Capital A/c
Land &
A
10000
-----
Workshop
B
10000
-----
Machinery
C
-----
10000
& Tools
D
-----
10000
Furniture
Creditors
15000
10000
& Fixtures
Loan
-----
10000
Outstanding
2000
3000
Expenses
A&B
C&D
Rs.
Rs.
10000
12000
7000
8000
3000
3500
Debtors
6000
8500
Cash at
3000
1000
8000
10000
Bank
Stock
37000
43000
37000
8
43000
The two firms decided to amalgamate to form ABCD & Co. on 1 January, 1997.
The partners continue to share equally as they were doing before the merger. Prior to
amalgamation the following revaluation of assets and liabilities should be made:
A&B
C&D
Land and Workshop
10000
10000
Machinery and tools
7000
8000
Furniture and Fixtures
2500
2500
Debtors
5500
7000
Stock
8000
8000
Outstanding Expenses
2000
2000
In addition, the following things are to be carried out :
a)
The new firm will not take over the loan of C & D.
b)
The goodwill of A and B and that of C and D should be valued initially at Rs.
10000 and Rs. 5000 respectively, but for the purpose of the new firm, the
combined goodwill of the firm should be Rs. 12000/-
e)
Each partner should have Rs. 14000 as capital in the new firm and that cash
should be brought in, if necessary.
Show :
i)
The Two Revaluation accounts
ii)
Capital Accounts before and after the amalgamation
iii)
The Opening Balance Sheet of the new firm.
9
Solution
In the Books of A&B
Revaluation Account
Dr.
Cr.
Particular
Rs.
Particular
Rs.
To Furniture &
500
By Goodwill Account
10000
Fixtures Account
To Debtors Accounts
500
To Profit:
A 4500
B 4500
9000
10000
10000
Capital Accounts
Dr.
Particulars
To ABCD &
Cr.
A
B
Particulars
Rs.
Rs.
14500
14500
Co. Account
A
B
Rs.
Rs.
By Balance c/d
10000
10000
By Revaluation
4500
4500
14500
14500
Account (Profit)
14500
14500
In the Books of C & D
Revaluation Account
Rs.
To Land &
Rs.
2000
By Goodwill Acount
Workshop A/c
To Furniture &
5000
By Loss :
1000
C 1000
Fixtures Account
D 1000
To Debtors Account
1500
To Stock Account
2000
2000
To Outstanding
Expenses Account
500
7000
10
7000
Capital Account
Dr.
Cr.
Particulars
To Revaluation A/c
C
D
Particulars
Rs.
Rs.
1000
1000
By Balance c/d
(Loss)
C
D
Rs.
Rs.
10000
10000
5000
5000
15000
15000
By Loan Account
To ABCD & Co.
14000
14000
15000
15000
In the Books of ABCD & Co.
Capital Accounts
Dr.
Cr.
Particulars
To Goodwill
A
B
C
D
Rs.
Rs.
Rs.
Rs.
750
750
750
750
Particulars
Account
To Balance c/d
A
B
C
D
Rs.
Rs.
Rs.
Rs.
By Sundries
14500
14500 14500 14500
By Cash
250
250
14750
14750 14750 14750
250
250
14000 14000 14000 14000
14750 14750 14750 14750
Balance Sheet of ABCD & Co.
as on January, 1997
Liabilities
Rs.
Capital Accounts
Assets
Rs.
Goodwill
12000
A
14000
Land & Workshop
20000
B
14000
Machinery & Tools
15000
C
14000
Furniture & Fixtures
5000
D
14000
Debtors
25000
Less : Provision 2000
Creditors
Outstanding Exps.
5500
Stock
14500
18000
Less : Provision 2000
Cash
86500
Note : Since the goodwill of the new firm is Rs. 12000, Rs, 3000 has been
written off.
11
12500
16000
6000
86500
Illustration 3
Two partnership firms, carrying on business under the names of Black & Co.
and White & Co., decide to amalgamate into Grey & Co. with effect from April 1,
1999. The respective Balance Sheets as on March 31, 1999 are given below :
Balance Sheet of Black & Co.
as on March 31, 1999
Liabilities
Rs.
Assets
Rs.
B's Capital A/c
19000
Plant & Machinery
20000
Sundry Creditors
10000
Stock in trade
20000
Bank Overdraft
15000
A's Capital A/c
44000
4000
44000
A and B share profits and losses in the proportion of 1:2.
Balance Sheet of White & Co.
as on March 31, 1999
Liabilities
Rs.
Assets
Rs.
X's Capital A/c
10000
Goodwill
10000
Y's Capital A/c
2000
Stock in trade
28000
Sundry debtors
Sundry Creditors
5000
10000
Cash in hand
6000
Cash at bank
9000
40000
40000
X and Y share profits and losses equally.
The following further information is given :
1.
All fixed assets are to be devaluated by 20%
2.
All stock in trade is to be appreciated by 50%
3.
Black & Co. owe Rs. 5000 to White & Co. as on March 31, 1999
4.
Goodwill is to be ignored for the purpose of amalgamation.
5.
The fixed Capital Account in the new firm are to be :
12
Rs.
6.
Rs.
A
2000 ;
B
3000
B
1000 ;
Y
4000
B takes over the bank overdraft of Black & Co., and gifts to A the amount
of money to be brought in by A to make up his capital contribution.
7.
X is paid off in cash from White & Co., and Y brings in sufficient cash to
make up his required capital contribution.
Pass journal entries to close the books of both the firms as on March 31, 1999
Solution
Journal Entries in the books of Black & Co.
Dr.
Particulars
Revaluation A/c
Rs.
Dr.
Cr.
Rs.
2000
To Plant & Machinery A/c
2000
(Being plant and Machinery devalued by 20%)
Stock in Trade A/c
Dr.
10000
Sundry Creditors A/c
Dr.
3000
To Revaluation A/c
13000
(Being appreciation in stock in trade
and gain in settling debt)
Revaluation A/c
Dr.
11000
To A's Capital A/c
3667
To B's Capital A/c
7333
(Being the profit on revaluation)
Bank Overdraft A/c
Dr.
To B's Capital A/c
15000
15000
(Being the bank overdraft taken by B)
13
B's Capital A/c
Dr.
2333
To A's Capital A/c
2333
(Being the deficiency of A's Capital A/c
made good by B to have a balance of
Rs. 2000 in A's Capital A/c)
Grey & Co. A/c
Dr.
41000
Sundry Creditors A/c
Dr.
7000
To Plant & Machinery A/c
8000
To Stock in trade A/c
30000
To Sundry Debtors A/c
10000
(Being the assets and liabilities transferred
to Grey & Co. for closing the books of the firm)
A's Capital A/c
Dr.
2000
B's Capital A/c
Dr.
39000
To Grey & Co.
41000
(Being the Capital Account of the partners
closed by transferring to Grey & Co.)
Journal Entries in the books of White & Co.
Dr.
Particulars
Stock in Trade A/c
Rs.
Dr.
Cr.
Rs.
2500
To Revaluation A/c
2500
(Being the appreciation in the value of stock in trade)
Revaluation A/c
Dr.
To Sundry Debtors A/c
13000
3000
To Goodwill A/c
10000
(Being debt due from Black & Co.
settled at the concession of Rs. 3000
and goodwill written off)
14
X's Capital A/c
Dr.
5250
Y's Capital A/c
Dr.
5250
To Revaluation A/c
10500
(Loss transferred to Capital Account)
X's Capital A/c
Dr.
3750
To Cash A/c
3750
(Being excess capital refunded to X)
Cash A/c
Dr.
7250
To Y's Capital A/c
7250
(Being cash brought by Y to make his capital of Rs. 4000)
Grey & Co. A/c
Dr.
5000
Sundry Creditors A/c
Dr.
28000
To Stock in trade A/c
7500
To Sundry Debtors A/c
7000
To Cash in hand A/c
9500
To Cash at Bank A/c
9000
(Being the assets and liabilities transferred
to Grey & Co. to close the books of the firm)
X's Capital A/c
Dr.
1000
Y's Capital A/c
Dr.
4000
To Grey & Co.
5000
(Being Partners' Capital Account closed
by transferring to Grey & Co.)
Note : The excess amount of Rs. 36000 in B's Capital Account will be treated as loan
from B in the books of Grey & Co. as the company has no liquid assets from
which this amount can be paid to A.
15
Illustration 4
The balance sheets of two firms M/s Good & Better and M/s Slow & Fast, as on
January 1, 1999 were :
Balance Sheet
Good & Slow &
Good & Slow &
Better
Fast
Better
Fast
Liabilities
Rs.
Rs.
Assets
Rs.
Rs.
Creditors
12500
10000
Building
18750
----
Reserves
7500
----
Plant
25000
----
Stock
12500
32500
Capital A/c :
Good
25000
-----
Debtors
6250
18750
Better
18750
----
Cash
1250
8750
Fast
----
12500
----
37500
63750
60000
63750
60,000
Good & Better shared profits in the ratio of 3 :2 and Slow & Fast in the ratio of
5 :3. The two firms decided to amalgamate and the new profit sharing ratio among
Good, Better, Slow and Fast was to be 3:2:3:2. The other terms were:
1.
Goodwill of M/s Good & Better was valued at Rs. 25000/- and that of M/s Slow
& Fast at Rs. 18750/-. The new firm was not to retain goodwill in the books.
2.
Stock of M/s Slow & Fast was valued at Rs. 31250 and a provision of 5% was
required against the debtors.
3.
In the case of M/s Good & Better, Rs. 750 of the debtors was to be written off.
Building were valued at Rs. 25000 and the Plant at Rs. 22500.
4.
The total capital of the firm was fixed at Rs. 1,00,000 to be contributed by
partners in their profit sharing ratio and necessary adjustments were to be made
in cash. Show the incorporating entries and the Balance Sheet of the new firm
called M/s Good and Fast.
16
Solution
Journal Entries in the books of Good and Fast
Dr.
Particulars
Cr.
Rs. Rs.
Goodwill A/c
Dr.
25000
Building A/c
Dr.
25000
Plant A/c
Dr.
22500
Stock A/c
Dr.
12500
Debtors A/c
Dr.
5500
Cash A/c
Dr.
1250
To Creditors A/c
12500
To Goodwill A/c
46300
To Better's Capital A/c
32950
(Being the assets and liabilities taken
over from Good and Better)
Goodwill A/c
Dr.
18750
Stock A/c
Dr.
31250
Debtors A/c
Dr.
18750
Cash A/c
Dr.
8750
To Creditors A/c
10000
To Reserve for bad debts A/c
938
To Slow's Capital A/c
47851
To Fast's Capital A/c
18711
(Being the assets and liabilities taken
over from Slow and Fast)
17
Good's Capital A/c
Dr.
13125
Better's Capital A/c
Dr.
8750
Slow's Capital A/c
Dr.
13125
Fast's Capital A/c
Dr.
8750
To Goodwill A/c
43750
(Being the goodwill written off)
Cash A/c
Dr.
10039
To Fast's Capital A/c
10039
(Being the cash brought in by Fast
to adjust his capital)
Good's Capital A/c
Dr.
3175
Better's Capital A/c
Dr.
4200
Slow's Capital A/c
Dr
4726
To Cash A/c
12101
Balance Sheet
as on January 1, 1999
Liabilities
Rs.
Assets
Rs.
Sundry Creditors
22500
Building
25000
Plant
22500
43750
Capital Account :
Good
30000
Stock
Better
20000
Debtors
Slow
30000
Less : Provision 938
Fast
20000
Cash
122500
18
24250
23312
7938
122500
Working
Good
Better
Slow
Fast
Rs.
Rs.
Rs.
Rs.
Capital before adjustment
25000
18750
37500
12500
Profit on revaluation
16800
11200
10351
6211
Reserve
4500
3000
Capital on the date of amalgamation
46300
32950
47851
18711
M/s Good and Fast
Cash Account
Dr.
Cr.
Particulars
Rs.
Particulars
Rs.
To Good and Better
1250
By Good's Capital A/c
3175
To Slow and Fast
8750
By Better's Capital A/c
4200
To Fast's Capital A/c
10039
By Slow's Capital A/c
4726
By Balance c/d
7938
20039
20039
Illustration 5
X and Y are partners of X & Co. sharing profits and losses in the ratio of 3:1 and
Y and Z are partners of Y & Co. sharing profit and losses in the ratio of 2:1. On 31st
March, 1998 they decide to amalgamate and form a new firm M/s XYZ & Co., where
X, Y and Z would be partners sharing profits and losses in the ratio of 3:2:1. The Balance
Sheets of two firms on the above date are as under :
19
Balance Sheet
X & Co. Y & Co.
Liabilities
Rs.
Rs.
Capital
X & Co. Y & Co.
Assets
Rs.
Rs.
Fixed Assets :
X
480000
---
Building
Y
320000
400000 Machinery
300000
320000
Z
---
200000 Furniture
40000
12000
Reserves
100000
300000 Current Assets :
Creditors
240000
232000 Stock
240000
280000
Due to X & Co.
---
200000 Debtors
320000
400000
Bank Loan
160000
---
Cash at Bank
60000
180000
Cash in Hand
40000
20000
Due from
100000
---
200000
---
---
120000
1300000
1332000
Y & Co.
Advances
1300000 1332000
The amalgamated firm took over the business on the following terms
(a)
Building of X & Co. was valued at Rs. 200000, (b) Machinery of X &
Co. was valued at Rs. 450000 and that of Y & Co. at Rs. 400000, (c) Goodwill valued
X & Co. Rs. 100000 and Y & Co. Rs. 82000 but the same will not appear in the books
of XYZ & Co., (d) Partners of the new firm will bring the necessary cash to pay other
partners to adjust their capitals according to the profits sharing ratio. Show journal
entries in the books of M/s. XYZ & Co. and prepare the Balance Sheet as on 31.3.1998.
20
Solution
Particulars
Dr. (Rs.)
Goodwill A/c
Dr.
100000
Building A/c
Dr.
200000
Machinery A/c
Dr.
450000
Furniture A/c
Dr.
40000
Stock A/c
Dr.
240000
Debtors A/c
Dr.
320000
Cash at Bank A/c
Dr.
60000
Cash in Hand A/c
Dr.
40000
Due from Y & Co. A/c
Dr.
200000
Cr. (Rs.)
To Creditors A/c
240000
To Bank Loan A/c
160000
To X's Capital A/c
817500
To Y's Capital A/c
432500
(Being the Assets and Liabilities
of X & Co. taken over)
Goodwill A/c
Dr.
82000
Machinery A/c
Dr.
400000
Furniture A/c
Dr.
Stock A/c
Dr.
280000
Debtors A/c
Dr.
400000
Cash at Bank A/c
Dr.
180000
Advances A/c
Dr.
120000
Cash in Hand A/c
Dr.
20000
12000
To Creditors A/c
232000
To Due to X & Co. A/c
200000
To Y's Capital A/c
708000
To Z's Capital A/c
354000
(Being the Assets and Liabilities of Y & Co. taken over)
21
X's Capital A/c
Dr.
91000
Y's Capital A/c
Dr.
60667
Z's Capital A/c
Dr.
30333
To Goodwill A/c
182000
(Being Goodwill written off)
Bank A/c
Dr.
369833
To X's Capital A/c
338500
To Z's Capital A/c
31333
(Being the cash brought in by X and Z
to make capital proportionate)
Y's Capital A/c
Dr.
369833
To Bank A/c
369833
(Being the excess capital withdrawn by Y)
Due to X & Y Co.
Dr.
200000
To Due from Y & Co. A/c
200000
(Being the elimination of mutual indebtedness
of the merged firm X & Co. and Y & Co.)
Balance Sheet of M/s XYZ & Co.
as on 31.3.98
Liabilities
Capital :
Rs.
Assets
Building
2,00,000
X
10,65,000
Machinery
Y
7,10,000
Furniture
Z
Rs.
8,50,000
52,000
3,55,000
Stock
5,20,000
Creditors
4,72,000
Debtors
7,20,000
Bank Loan
1,60,000
Advances
1,20,000
Cash at Bank
2,40,000
Cash in hand
60,000
27,62,000
27,62,000
22
Working Notes
(i)
Statement showing the Computation of Purchase Consideration :
Particulars
Dr. (Rs.)
Cr. (Rs.)
Assets
Rs.
Goodwill
100000
82000
Building
200000
----
Machinery
450000
400000
Furniture
40000
12000
Stock
240000
280000
Debtors
320000
400000
Cash at Bank
60000
180000
Cash in Hand
40000
20000
Rs.
Due from Y & Co.
200000
----
Advances
----
120000
1650000
1494000
Creditors
240000
232000
Due to X & Co. ----
200000
Bank Loan
160000
----
400000
432000
1250000
1062000
Liabilities
Purchase Consideration
(assets - liabilities)
(ii)
Statement showing the Computation of Proportionate Capitals
Particulars
Rs.
M/s XYZ & Co. (Rs. 1250000 + 1062000) 2312000
Less : Goodwill Adjustment
182000
Total Capital of new firm
2130000
X's proportionate Capital (Rs. 2130000 x 3/6)
10,65,000
Y's proportionate Capital (Rs. 2130000 x 2/6)
7,10,000
Z's proportionate Capital (Rs. 2130000 x 1/6)
3,55,000
23
(iii)
Statement showing the Computation of Capital Adjustments :
Particulars
X
Y
Z
Total
Rs.
Rs.
Rs.
Balance transferred from X & Co.
817500
432500
----
1250000
Balance transferred from Y & Co.
----
708000
354000
1062000
817500
1140500
354000
2312000
in the ratio of 3 : 2 : 1
91000
60667
30333
182000
a) Existing Capital
7,26,500
10,79833
3,23,557
21,30,000
b) Proportionate Capital
10,65,000
7,10,000
3,55,000
21,30,000
338500
[369833]
31333
----
Rs.
Less : Goodwill written off
c) Amount to be paid in
[paid off] (a - b)
Capital Account (In the Books of X & Co.)
Dr.
Particulars
To Capital A/c
Cr.
X.
Y
Rs.
Rs.
Particulars
817500 432500 By Balance b/d
X
Y
Rs.
Rs.
480000 320000
M/s XYZ & Co.
By Reserve (3:1)
(transfer)
By Goodwill ( 3:1) 75000
By Realisation A/c*
817500 432500
*For Building Rs. 100000 and Machinery Rs. 150000
24
75000
187500
25000
25000
62500
817500 432500
Capital Account (In the Books of Y & Co.)
Dr.
Cr.
Particulars
To Capital A/c
X.
Y
Rs.
Rs.
Particulars
708000 354000 By Balance b/d
M/s XYZ & Co.
By Reserve (2:1)
(transfer)
By Goodwill (2:1)
X
Y
Rs.
Rs.
400000 200000
200000 100000
54667
By Realisation A/c* 53333
708000 354000
27333
26667
408000 354000
*For Machinery Rs . 80000
7.4
SUMMARY
When two or more firms carrying on business of same or similar nature, it
would be natural if they amalgamate their business to avoid competition. It involves
closure of old firms and birth of a new firm. The accounting implication of this exercise
is the closing of the books of the amalgamating firms and opening of the books of the
new firm. The new firm taken over the assets/liabilities of the amalgamating firms at
their current net worth and values them accordingly. The assets/liabilities not taken
over by the new firm are realised by the partners of amalgamating firms themselves.
7.5
KEYWORDS
Amalgamation of Firm: It takes place when two or more firms working independently
amalgamate themselves and in their place a new firm is formed to take over their
business.
Amalgamating Firm: In case of amalgamation, the firms amalgamating (old firms)
are known as amalgamating firms.
25
7.6
SELF ASSESSMENT QUESTIONS
1.
Define amalgamation of firms? What entries are passed to close the books of
the firms which are amalgamated.
2.
How will you treat asset and liabilities not taken over by the new firms in the
books of the amalgamated firms?
3.
The Balance Sheet of two firms M/s Slow & Speed and M/s Sure & Steady as on
January 1, 1995 were:
Balance Sheet
Liability
Creditors
Slow &
Speed
Rs.
10000
Reserves
6000
Sure &
Steady
Rs.
8000
----
Capital
Assets
Building
Slow&
Speed
Rs.
15000
Surr &
Steady
Rs.
----
Plant
20000
----
Stock
10000
26000
Slow
20000
----
Debtors
5000
15000
Speed
15000
----
Cash
1000
7000
Sure
----
30000
Steady
---
10000
51000
48000
51000
48000
Slow & Speed shared profits in the ratio of 3 :2 Sures Steady shared profits in
the ratio of 5:3. The two firms decided to amalgamate and the new profit sharing ratio
among Slow & Speed, Sure & Steady was to be 3:2:3:2. The other terms were :
a.
Goodwill of Slow & steady was valued at Rs. 2000 and that of Sure & Steady at
Rs. 15000. The new firm was not to retain goodwill in the books.
b.
The stock of Sure & Speed was valued at Rs. 20,000 and a provision of 5% was
required against their debtors.
c.
In the case of Slow & Speed, Rs. 600 of the debtors was to be written off.
Building were valued at Rs. 20000 and plant at Rs. 18000.
d.
The total capital of the firm was fixed at Rs. 80000 to be contributed by partners
in their profit sharing ratio and necessary adjustments were to be made by cash.
4.
M/s Mani & Co. having Vairamani and Velumani as equal partners, decided to
amalgamate with M/s Swami & Co. having Radhaswami and Rangaswamy as equal
partners on the following terms and conditions :
26
a.
The new firm named M/s Mani Swami & Co., to take over the investments at
10% depreciation; land at Rs. 40,000; premises at Rs. 22,500; machinery at Rs.
4500 and to take over only the trade liabilities of both the firms. The debtors is
taken at book value including reserve.
b.
M/s Mani Swami & Co. to pay Rs. 6000 to each firm for goodwill.
c.
Typewriters at the written off value of Rs. 400 belong to Swami & Co. and not
appearing in the Balance Sheet, were not taken over by the new firm.
d.
It was also agreed that the furniture belonging to both the firms should not be
taken over by the new firm.
e.
All the four partners in the new firm to bring Rs. 80000 as capital in equal share.
f.
The following were the Balance Sheets of both the firms on the date of
amalgamation :
Balance Sheet
Liabilities
Mani
& Co.
Rs.
Swami
& Co.
Rs.
Assets
Mani
& Co.
Rs.
Swami
& Co.
Rs.
S. Creditors
10000
5000
Cash at Bank
7500
4000
Bills Payable
2500
----
Investments
5000
4000
Bank Overdraft
1000
5000
Debtors 5000
Vairamani's Loan
3000
----
Less :
4500
4000
Capital A/c
----
----
Reserve
Vairamani
17500
----
Furniture
6000
3000
Velumani
11000
----
Premises
15000
----
Radhaswami
----
18000
Land
----
25000
Rangaswami
----
10000
Machinery
7500
----
1500
Goodwill
4500
----
50000
40000
General Reserve 4000
Investment
1000
500
50000
40000
500
Fluctuation fund
Pass journal entries in the books of both the firms and show the Balance Sheet
of M/s. Mani Swami & Co.
27
5.
B and S are partners of S & Co. sharing profits and losses in the ratio of 3:1 S
and T are partners of T & Co. sharing profits and losses in the ratio of 2:1.
On October 31, 1999 they decided to amalgamate and form a new firm M/s B S
T & Co. wherein B, S and T would be partners sharing profits and losses in the ratio of
3 : 2 : 1.
Balance Sheet
Liabilities
S & Co.
T & Co.
Rs.
Rs.
Assets
S & Co.
T & Co.
Rs.
Rs.
Due to X & Co.
40000
----
Cash in hand
10000
5000
Due to S & Co.
----
50000
Cash at bank
15000
20000
Other Creditors
60000
58000
Due from T&Co.
50000
----
Reserve
25000
50000
Due from S&Co. ----
30000
Stock
60000
70000
Other Debtors
80000
100000
10000
3000
Capital A/c
B
120000
S
80000
T
----
325000
----
100000 Furniture
50000 Vehicles
----
80000
Machinery
75000
----
Building
25000
----
325000
308000
308000
The amalgamation firm took over the business on the following understanding :
1.
Goodwill of S & Co. was worth Rs. 60000 and that of T & Co. Rs. 50000,
Goodwill account was not to be opened in the books of the new firm, the
adjustments being recorded through Capital Accounts of the partners.
2.
Building, Machinery and Vehicles were taken over at Rs. 50000, Rs. 90000 and
Rs. 100000, respectively.
3.
Provision for doubtful debts has to be carried forward at Rs. 4000 in respect of
the debtors of S&Co. and Rs. 5000 in respect of the debtors of T & Co.
28
It is requested to :
(a)
Compute the adjustment necessary for goodwill.
(b)
Pass Journal entries in the books of M/s BST & Co., assuming that excess/
deficit capital (taking T's capital as base) with reference to share in profits are
to be transferred to Current Accounts.
7.7
SUGGESTED READINGS
1.
Advanced Accounting by Ashok Sehgal and Deepak Sehgal, Taxmann Allied
Services Pvt. Ltd., New Delhi.
2.
Advanced Accounts by M.C. Shukla, T.S. Grewal and S.C. Gupta, S. Chand and
Co. Ltd., New Delhi.
3.
Fundamentals of Advanced Accounting by R.S.N. Pillai and V. Bagavathi, S. Chand
and Co. Ltd., New Delhi.
4.
Financial Accounting by Shashi K. Gupta, Nisha Aggarwal and Neeti Gupta,
Kalyani Publishers, Ludhiana.
5.
Financial Accounting by P.C. Tulsian, Pearson Education, New Delhi.
6.
Principles of Financial Accounting by P.C. Gupta and C.L. Chaturvedi, Shree
Mahavir Book Depot, New Delhi.
29
LESSON : 8
DISSOLUTION OF THE FIRM
STRUCTURE
8.0
Objective
8.1
Introduction
8.2
Modes of Dissolution of Firm
8.3
Settlement of Accounts on Dissolution
8.4
Accounting Treatment on Dissolution of a Partnership Firm
8.5
Summary
8.6
Keywords
8.7
Self Assessment Questions
8.8
Suggested Readings
8.0
OBJECTIVE
After reading this lesson, you should be able to
(a)
Do the settlements as per Section 48 of the Indian Partnership Act, 1932.
(b)
Pass journal entries and close the books of the firm in case of dissolution
of a partnership firm.
8.1
INTRODUCTION
The Indian Partnership Act, 1932 recognizes the difference between the
'dissolution of partnership' and dissolution of firm'. The dissolution of partnership
between all the partners of a firm is called the dissolution of the firm. Thus, it is the
complete breakdown of a partnership and partners do not continue them. On the other
hand, dissolution of the partnership means a reconstitution of the firm due to the
retirement of a partner or the insolvency of a partner or the death of a partner and the
1
remaining partners provide for the continuance of the firm in pursuance of an express
or implied agreement to that effect. On dissolution of a firm the firm's assets are
realised and the liabilities are discharged because the firm is to be closed, whereas on
dissolution of a partnership, the share of the outgoing partner is ascertained and the
firm is not closed.
8.2
MODES OF DISSOLUTION OF FIRM
The various ways in which a firm may be dissolved are given as under:
(1) Dissolution by agreement. A firm is dissolved when all the partners agree
that it should be dissolved. A partnership firm is the creation of an agreement; similarly
a firm can be dissolved by an agreement.
(2) Dissolution on the happening of contingencies. A firm is dissolved in
any of the following ways unless there is a contract between the partners to the contrary.
These are: (i) by the expiry of the term of duration of the firm, (ii) by the completion
of the adventure for which the firm was constituted, (iii) by the death of a partner, and
(iv) by the adjudication of a partner as insolvent.
(3) Dissolution by notice of partnership at will. When the partnership is at
will, the firm may be dissolved at any time by any partner giving notice in writing to all
the other partners of his intention to dissolve the firm.
(4) Compulsory dissolution or dissolution by the operation of law. A firm
is compulsorily dissolved-different ways as: (i) When all the partners except one
become insolvent. (ii) When all the partners become insolvent. (iii) When the business
becomes illegal. (iv) Where the number of partners exceed twenty in case of ordinary
business or ten in case of banking business.
(5) Dissolution by the court. At the suit of a partner, a court may order the dissolution
of the firm in different ways as: (i) when a partner becomes of unsound mind, (ii) when
2
a partner suffers from permanent incapacity and becomes incapable of performing his
duties as a partner, (iii) when a partner is guilty of misconduct affecting the business of
the firm, (iv) when a partner commits wilful or persistent breaches of agreement, (v)
when a partner has transferred the whole of his interest in the firm to a third party or
when his share has been attached under a decree or sold under process of law, (vi) when
the business of the firm cannot be carried on except at a loss, and (vii) when the court
is satisfied as to grounds which render it just and equitable to dissolve the firm.
8.3
SETTLEMENT OF ACCOUNTS ON DISSOLUTION
The mode of settlement of accounts on a dissolution of the firm is as follows as
given in Section 48 of the Indian Partnership Act, 1932.
Section 48 of the Indian Partnership Act, 1932 governs the settlement of accounts
on the dissolution of firm. The main points of this section are enumerated below:
1.
All the assets of the firm (including the original contribution of the partners,
additional contribution of the partners and the additional contribution made to
make up deficiencies of capital) must first be applied in paying of all the debts
of the firm, i.e., the money due to the third parties.
2.
If after paying these liabilities, there is surplus left, the same should be applied
in repaying the loans taken from the partners over and above the capital
contributed by such partner. If the surplus is not sufficient to pay loans of all the
partners, advances should be paid rateably.
3.
The residue shall be compared with total of the capitals of the partners. The
difference between the residue and the total capital should be transferred to the
capital accounts in the ratio in which the partners share the profits and losses.
This will make the total of the balances in the capital account equal to cash
available and then the cash will be paid to each partner equal to the amount due
(after adjusting profit or loss).
3
To summarize the above provisions, following procedure must be carefully
followed :1.
Pay the outsiders ie. the third parties first. For this apply the assets of the firm.
2.
Then surplus, if any, may be used to repay loans received from the partners of
the dissolved firm.
3.
Any remaining amount is to be compared with the total capital of the firm. Any
difference is to be transferred to the respective partners accounts in the profit/
loss sharing ratio. This will lead to the total cash available after the above
adjustments. The same will be paid to each partner as per the balances of capital
accounts.
Firm Debts and Private Debts
Where there are partnership debts and private debts of the partners in their
individual capacity, the assets of the firm shall be applied in the first instance in payment
of the debts of the firm and surplus of assets, if any, would be paid to the partners in the
proportion in which they were entitled to share profits. similarly, the private property
of each partner shall be applied first in the payment of his private debts, and the surplus
of private assets, if any, would be handed over to the firm if the firm needs it for the
payment of its debts.
8.4
ACCOUNTING TREATMENT ON DISSOLUTION OF A
PARTNERSHIP FIRM
On dissolution of a firm, the books of account will have to be closed. But this is
not possible until all the assets of the firm have been realised in cash or otherwise
disposed off (may be taken over by the partners of the erstwhile dissolved firm.)
Further, all the liabilities of the firm including partners loans and capital should
be paid off.
4
To close the books of account, following steps have to be followed :1.
Realisation account is opened and all assets except cash or bank balances are
transferred to the debit side of the realisation account at book values.
Realisation account
Dr
To stock
To debtors
To investments
To plant and machinery etc.
Note :- This way the accounts of these assets will stand closed. The assets against
which some fund, reserve or provision is created should be debited to realisation account
at gross value. The provision should be credited to the realisation account. This way the
relevant account will stand closed.
2.
The account of liability to third party (excluding partner's loans and capitals)
should be transferred to the credit side of realisation account at book value.
The entry will be:Sundry creditors A/c
Dr
Bills payable A/c
Dr
To Realisation A/c
3.
When assets are sold for cash, the actual amount received should be debited to
cash or bank account and credited to realisation account. If a partner takes asset
then following entry is done
Partner's Capital
To Realisation
A/c
Dr
A/c
The account will be credited with the value agreed upon
5
4.
For expenses incurred during the course of the dissolution of the firm, following
entry shall be made:Realisation A/c
Dr
To cash/bank
5.
For liabilities towards third party, following entry shall be done
Sundry Creditors
A/c
Dr
To cash/bank
If a partner agrees to discharge a liability, then the entry will be
Realisation
A/c
Dr
To partner's capital account.
6.
The difference of two sides of the realisation account now represents profit or
loss on realisation. The amount so obtained should be transferred to the capital
account of the partners in the ratio in which they share profits. Realisation
account will be debited (if credit side is bigger or credited if the debit side is
bigger.
7.
Partner's loan should then be paid off. The entry will be:
Partner's loan
Dr
To cash/bank
8.
If there is reserve fund or profit and loss account in the books, it should be
transferred to capital account in the profit sharing ratio.
9.
Now the balance, if any, standing to the debit of a partner's capital account will
be brought in by him.
6
Entry will be:Cash A/c
Dr
To Partner's Capital A/c
10.
The amount standing to the credit of the partner's capital account will then be
paid off.
Entry will be:Partner's capital A/c
To cash account.
Note : the above steps will close all the accounts. If an account remains open that
means there has been some mistake.
Illustration 1: A, B and C were in partnership sharing profits and losses in the
proportion of one-half, one-third and one-sixth respectively. On June 30, 1998 they
dissolved the partnership. The following Balance Sheet represented the position of the
firm on that date:
Balance Sheet as at .........
Liabilities
Creditors
Rs.
15,000
Assets
Cash at Bank
Rs.
1,500
Reserve for Contingencies
5,000
Stock
25,000
Bank Loan
5,000
Debtors
24,000
C’s Loan A/c
5,000
Bills Receivable
A’s Capital A/c
30,000
B’s Capital A/c
15,000
C’s Capital A/c
5,000
80,000
Buildings
1,000
28,500
80,000
Stock, Debtors and Buildings realised Rs. 16,500, Rs. 20,000 and Rs. 18,500
respectively. Bills Receivable were realised in full. Rs. 10,000 were spent in meeting
7
the contingent liabilities for which only Rs. 5,000 were reserved. The Creditors were
paid at a discount of Rs. 500. The expenses of realisation amounted to Rs. 600.
Close the books of the firm and draw the necessary ledger accounts.
Solution
Journal Entries
1998
June 30
Rs.
Realisation A/c
Dr.
Rs.
78,500
To Stock A/c
25,000
To Sundry Debtors A/c
24,000
To bills Receivable A/c
1,000
(Being the transfer of Stock, Sundry Debtors,
Bills Receivable and Buildings to
Realisation A/c at Book value)
June 30
Sundry Creditors
Dr.
15,000
Reserve for Contingencies
Dr.
5,000
Bank Loan A/c
Dr.
5,000
To Realisation A/c
25,000
(For various liabilities transferred to
Realisation A/c at Book value)
June 30
Bank A/c
Dr.
To realisation A/c
56,000
56,000
(Being the amount realised on sale of assets)
Stock
16,500
Sundry Debtors
20,000
Bills Receivable A/c
1,000
Buildings
18,500
56,000
8
June 30
Realisation A/c
Dr.
600
To Bank A/c
600
(Being payment of Realisation Expenses)
June 30
Realisation A/c
Dr.
29,500
To Bank A/c
29,500
(Being Sundry liabilities paid at discount of Rs. 500)
S. Cr. at a Dis. of Rs. 500
14,500
Contingencies
10,000
Bank Loan
5,000
29,500
June 30
A’s Capital A/c
Dr.
13,800
B’s Capital A/c
Dr.
9,200
C’s Capital A/c
Dr.
4,600
To Realisation A/c
27,600
(Being loss on realisation transferred to
Partners’ Capital A/c)
June 30
C’s Loan A/c
Dr.
5,000
To Bank A/c
5,000
(For C’s Loan paid)
June 30
A’s Capital A/c
Dr.
16,200
B’s Capital a/c
Dr.
5,800
C’s Capital A/c
Dr.
400
To Bank A/c
22,400
(Being Balance Paid to partners)
9
Ledger
Realisation Account
Rs.
To Sundry Assets A/c
To Bank A/c (expenses)
To Bank A/c
Rs.
78,500 By Sundry Liabilities A/c
600 By Bank A/c (Assets realised)
25,000
56,000
29,500 By Capital A/c (loss transferred)
(Sundry Liabilities paid)
A 1/2 Share
13,800
B 1/3 Share
9,200
C 1/6 Share
4,600
1,08,600
1,08,600
Bank Account
Rs.
To Balance b/d
1,500 By Realisation A/c (expenses)
To Realisation A/c
(Sale Proceeds of Assets)
Rs.
600
By Realisation A/c
56,000
(Payment of Liabilities)
By C’s Loan A/c
29,500
5,000
By A’s Capital A/c
16,200
By B’s Capital A/c
5,800
By C’s Capital A/c
400
57,500
57,500
10
C’s Loan Account
Rs.
To Bank A/c
Rs.
5,000 By Balance b/d
5,000
Partners’ Capital Accounts
Particulars
A
B
C
Rs.
Rs.
Rs.
To Realisation A/c
13,800
9,200
4,600
To Bank A/c
16,200
5,800
400
30,000
15,000
5,000
Particulars
By Balance b/d
A
B
C
Rs.
Rs.
Rs.
30,000
15,000
5,000
30,000
15,000
5,000
Illustration 2:J, S and R were in partnership sharing profits and losses in the ratio of
3 : 2 : 1. Their Balance Sheet as on 31st December, 1998 was as follows:
Balance Sheet
Rs.
Capital Accounts
Rs.
Buildings
10,000
J
12,000
Plant
22,000
S
8,600
Stock
6,000
R
10,400
Joint Life Policy
6,200
31,000
Reserve Fund
3,000
Debtors
5,000
Employees’ Provident Fund
3,000
Accrued Interest
1,000
Depreciation Reserve
5,000
Cash
2,800
Creditors
11,000
53,000
11
53,000
It was agreed to dissolve the firm, and the terms of the dissolution were:
(i)
J took over Buildings at Book Value and agreed to pay off creditors.
(ii)
Accrued Interest was not collected whereas there was a contingent liability of
Rs. 600 which was met.
(iii)
Other assets realised: Plant: Rs. 25,000, Stock: Rs. 5,000, Debtors Rs. 4,600.
(iv)
Realisation expenses Rs. 600
Prepare Realisation Account, Capital Accounts and Cash Account.
Solution
Dr.
Realisation Account
Particulars
Rs.
Cr.
Particulars
Rs.
To Buildings A/c
10,000
To Plant A/c
22,000
To Stock A/c
6,000
By Depreciation Reserve A/c
To Joint Life Policy A/c
6,200
By Creditors A/c
11,000
To Debtors A/c
5,000
By J’s Capital A/c
10,000
To Accrued Interest A/c
1,000
To J’s Capital A/c
(Creditors taken over)
By Employees’ Provident
Fund A/c
3,000
(Building taken over)
By Cash A/c (Assets realised):
11,000
To Cash A/c (Payment of
Plant
Rs. 25,000
Stock
5,000
4,600
Contingent Liability)
600
Debtors
To Cash A/c (Expenses paid)
600
By Capital Accounts:
3,000
(Loss transferred)
To Cash (Employees P.F.)
5,000
65,400
J
Rs. 900
S
600
R
300
34,600
1,800
65,400
12
Capital Accounts
Particulars
To Realisation A/c
J
S
R
Rs.
Rs.
Rs.
10,000
–
–
Particulars
By Balance b/d
(Building taken
By Reserve Fund
over)
By Realisation
To Realisation A/c
900
600
300
J
S
R
Rs.
Rs.
Rs.
12,000
8,600
10,400
1,500
1,000
500
11,000
–
–
A/c (Creditors
(Loss on
taken over)
Realisation)
To Cash A/c
13,600
9,000
10,600
(Final payment)
24,500
9,600 10,900
24,500
9,600 10,900
Cash Account
Rs.
To balance b/d
To Realisation A/c
2,800
Rs.
By Realisation A/c
34,600
(Sales of Assets)
600
(Contingent Liabilities)
By Realisation A/c
600
(Realisation Expenses)
By Realisation A/c (E.P.F.)
3,000
By J’s Capital A/c
13,600
By S’s Capital A/c
9,000
By R’s Capital A/c
10,600
37,400
37,400
13
Sale To A Company
Often a Partnership firm converts itself into a joint stock limited company or
sells its business to an existing one. Broadly, the procedure already discussed above
will be followed for closing the books of the firm. Realisation A/c will be opened and
assets transferred to it, so also liabilities (but not if liabilities are not taken over by the
company). The purchase consideration paid by the company is credited to, Realisation
A/c. If expenses are incurred by the firm, the amount will be debited to the realisation
account. If the creditors are taken over by the company, no further treatment is necessary
(beyond transferring them to the realisation account). But if the creditors are to be
paid by the firm, the actual amount paid to them will be debited to liability account
concerned. The difference between the book figure and the actual amount paid should
be transferred to the realisation account. The profit or loss on realisation will be
transferred to the capital account in the profit sharing ratio.
Usually, the company takes over all the assets including cash. The same will be
transferred to the realisation account.
Further, the company will discharge the amount due from it in the form of cash,
debentures and shares. Separate accounts will be opened for debentures and shares
received. Partners will divide the debentures and shares among themselves in the absence
of an express agreement in the ratio of their final claims, ie; in the ratio of capitals
standing after the loss or profit on realisation (and other reserves and profits) has been
transferred.
14
Illustration 3: Mr. M and Mr. D were carrying on business as equal partners. The
firm’s Balance Sheet as on 31st December, 1998 was as follows:
Liabilities
Rs.
Assets
Rs.
Sundry Creditors
65,500
Stock
Bank Overdraft
30,000
Plant and Machinery
Bills Payable
12,500
Office Furniture
15,000
Book Debts
73,000
Capital Accounts:
54,000
1,82,000
M
1,50,000
Joint Life Policy
9,500
D
1,48,000
Leasehold Premises
34,500
Profit and Loss A/c (debit balance)
26,000
Drawings Account:
M
9,000
D
3,000
4,06,000
4,06,000
The business was carried on till 30th June 1999. The partners withdrew in equal
amounts half the amount of profits made during the period of six months (from JanuaryJune 1999) after 10% p.a. had been written off leasehold premises, 10% p.a. off plant
and machinery and 5% p.a. off office furniture. Meanwhile sundry creditors were
reduced by Rs. 10,000. On 30th June, 1999 stock was valued at Rs. 63,400. Bills payable
were reduced by Rs. 2,300 and bank overdraft by Rs. 15,000. Book debts were valued
at Rs. 65,000, the joint life policy was realised for Rs. 9,5000 and the amount was
utilised to reduce the bank overdraft and other items remained the same as on 31st
December, 1998.
On 30th June, 1999 the firm sold the business to a Limited Company. The value
of the goodwill was estimated at Rs. 1,08,000 and the rest of the assets were valued on
the basis of the Balance Sheet as on 30th June 1999. The Company paid the purchase
consideration in fully paid equity shares of Rs. 10 each, at par.
15
You are required to prepare a Realisation Account and Capital Accounts of the
partners as on 30th June 1999.
Solution
Realisation Account
1999
June 30 To Leasehold Premises
To Plant & Machinery
Rs.
1999
32,775
June 30
1,72,900
Rs.
By Sundry Creditors
55,500
By Bank Overdraft
5,500
To Office Furniture
14,625
(Rs. 30,000–Rs. 15,000
To Stock
63,400
– Rs. 9,500 Proceeds of
To Book Debts
65,000
Joint Life Policy)
To Profit on Realisation
transferred to:
By Bills Payable
10,200
By Limited Company
3,85,500
(3)
M’s Capital A/c 54,000
D’s Capital A/c 54,000
1,08,000
4,56,700
4,56,700
16
Partners’ Capital Accounts
1999
Jan. 1
To Profit & Loss A/c
M
D
Rs.
Rs.
13,000
13,000
(Debit Balance)
Jan. 1
To Drawings
9,000
3,000
June 30
To Drawings
8,750
8,750
1999
M
D
Rs.
Rs.
1,50,000
1,48,000
A/c (2)
17,500
17,500
By Realisation A/c
54,000
54,000
2,21,500
2,19,500
Jan. 1
By Balance b/d
June 30
By Profit & Loss
June 30
(Half of Profit upto
Profit
June 30, 1999 withdrawn)
June 30
To Shares in Limited
Company
1,90,750 1,94,750
2,21,500 2,19,500
Working Notes
(1)
Statement Showing Value of Net Assets as at 30th June, 1999.
Rs.
Leasehold Premises
Rs.
34,500
Less: Depreciation @ 10% p.a. for 6 months
Plant and Machinery
1,725
32,775
1,82,000
Less: Depreciation @ 10% p.a. for 6 months
Furniture
9,100
1,72,900
15,000
Less: Depreciation @ 5% p.a. for 6 months
375
14,625
Stock
63,400
Book Debts
65,000
3,48,700
17
Less: Sundry Creditors
55,500
Bank Overdraft (Rs. 15,000 – Rs. 9,500
Proceeds of Joint Life Policy. It has been
assumed that bank overdraft of Rs. 15,000 is
before crediting proceeds of Joint Life Policy)
Bills Payable
5,500
10,200
71,200
Value of Net Assets as on June 30, 1999
(2)
2,77,500
Calculation of Profit Earned from Jan. 1, 1999 to June 30, 1999.
Rs.
Net Assets as on 30th June, 1999
Rs.
2,77,500
Less: Net Assets as on 1st January, 1999:
Stock
54,000
Plant and Machinery
1,82,000
Office Furniture
15,000
Book Debts
73,000
Joint Life Policy
9,500
Leasehold Premises
34,500
3,68,000
Less: Sundry Creditors
65,500
Bank Overdraft
30,000
Bills Payable
12,500
1,08,000
2,60,000
Increase in Net Assets after Drawings
17,500
Add: Profit withdrawn by partners
17,500
Net Profit for 6 months from 1-1-99 to 30-6-99
18
35,000
(3)
Calculation of Purchase Consideration:
Rs.
Value of Net Assets as on 30th June, 1999 as per Working Note (1)
2,77,500
Add: Goodwill
1,08,000
Purchase Consideration
3,85,500
Insolvency of partners
If at the time of dissolution, a partner owes a sum of money to the firm. He has
to make payment to the firm.
However, if he is insolvent, it may not be possible to recover the whole of the
amount. Thus, the sum which is recoverable from an insolvent partner is a loss the
question arises, what entry should be made in the books of account of the firm to take
care of such a loss. ? Whether to treat it as an ordinary loss to be shared by the solvent
partners in the profit sharing ratio or whether to treat it as an extraordinary loss. To
decide the treatment, decision in "Garner vs. Murray" is followed.
In this case, the court decided that such loss shouldn't be treated as an ordinary
loss. The judgement in this case gave a detail account of the treatment to be done,
which is as follows:
The solvent partners should bring in cash equal to their share of loss on realisation.
The loss due to the insolvency of a partner should be divided among the other
partners in the ratio of capitals then standing (ie: after partners have brought in
cash equal to their share of the loss on realisation)
In other words, the loss due to the insolvency of partner has to be borne by the
solvent partners in the ratio of their capitals standing just prior to dissolution.
19
Illustration 4
A, B and C were equal partners. On 31st December, 1999, the position was as follows:Rs.
A's Capital
2,000 Cash
1,500
B's Capital
600 C's Capital
200
Loss on
900
Realisation
2,600
2,600
C is insolvent and can pay nothing. Close the books of the firm.
Solution
Cash Account
1999
Rs.
1,500
300
300
31st Dec To Balance b/d
31st Dec To A's Capital
31st Dec To B's Capital
Rs.
1,615
485
31st Dec By A's capital A/c
31st Dec By B's Capital
2,100
2,100
Capital Account
To Bal b/d
To Loss on
Realisation
To C's Cap
A/c - Loss
written off in
the ratio of
20:06
To cash
A
Rs.
B
Rs.
300
300
385
115
1,615
485
2300
900
C
Rs.
200 By bal b/d
300 By cash-to
make loss
on realisation
By A's capital
By A's capital
A
Rs.
2,000
300
500
2300
B
Rs.
600
300
C
Rs.
385
115
900
500
Fixed and Fluctuating capital
If the ratio in which an insolvent partner 's loss is to be written off is the ratio of
capitals just prior to dissolution or as last agreed upon, the fact of capital being fixed
or fluctuating is important.
If the capital is fixed, this ratio will be used to divide the insolvent partner's loss
But if the capital is fluctuating, following step will be taken :-
20
a)
Make adjustment in respect of reserves or profit and loss account, etc.
However, no adjustment will be made in respect of loss on realisation
(b)
Then the insolvent partner's loss will be divided in the ratio of capital after making
adjustment in reserves as discussed above.
An example will make the point clear.
Suppose there are three partners A,B,C sharing profit and loss equally. A's capital
is Rs. 10,000 B's capital is Rs. 6,000
C's capital is Rs. 4,000 (debit balance)
There is a reserve fund of Rs. 6,000. Here firstly, the reserve fund will be divided
among A,B,C. Hence, partners will be credited with Rs. 2,000 each. Now C is insolvent then:If the capitals are fixed, the loss on C's capital account will be borne by A and B
in the ratio of 10:6, i.e.: capitals without adjustment for reserve.
If the capitals are fluctuating, the loss on C's capital account will be borne by A
and B in the ratio of 12:8 ie capitals after adjustment for reserve.
Note : The rule of Garner Vs Murray need not always result in equitable
distribution.; It considers only the capitals standing in the books and not the
private estates of solvent partners. It is possible that a partner who has contributed
large capital, is made to bear a large proportion of an insolvent partner's loss as
compared to a partner who is richer but has not contributed so much capital. If a
partner is lucky to have withdrawn all his money away before the dissolution, so
that his capital account doesn't show a credit balance. In this case, he will bear
no part of the loss due to a partner's insolvency. To avoid such an eventuality,
there is generally a clause in the partnership deed laying down how a loss on an
insolvent partner's Capital account will be shared by the solvent partners. If such
a clause exists, the same will preferred over the Garner Vs Murray decision.
21
Illustration 5: X, Y and Z are partners sharing profits and losses in the ratio of 4 : 2 :
3. On 1st January, 1999, they agreed to dissolve the partnership on which date their
Balance Sheet was as follows:
Liabilities
Profit and Loss
Rs.
Assets
Rs.
4,500
Buildings
45,000
Reserve Fund
12,600
Machinery
15,000
Bills Payable
4,100
Furniture
3,700
Sundry Creditors
9,000
Stock
19,400
Loan from X
4,000
Debtors
31,000
Investments
24,000
Capital Accounts:
Z
3,000
Bills Receivable
5,600
Y
46,000
Cash at Bank
6,500
X
68,000
Cash in hand
1,000
1,51,200
1,51,200
The assets realised: Investments Rs. 20,400; Bills Receivable and Debtors Rs.
28,000; Stock Rs. 14,550; Furniture Rs. 2,050; Machinery Rs. 8,600; Buildings Rs.
26,400. All the liabilities were paid off. The cost of realisation was Rs. 600, Z had
become bankrupt and Rs. 1,024 only was recovered from his estate once and for all.
Partners were finally paid off. Show the realisation account, the Bank account, and the
capital accounts of the partners, when the capitals are fluctuating.
22
Solution
Realisation Account
Rs.
Rs.
To Buildings
45,000 By Bills Payable
4,100
To Machinery
15,000 By Sundry Creditors
9,000
To Furniture
3,700 By Bank (Assets Realised)
1,00,200
To Stock
19,400 By Loss on Realisation transferred
To Debtors
31,000
To Capital A/cs
To Investments
24,000
X
19,600
5,600
Y
9,800
13,100
Z
14,700
To Bills Receivable
To bank (Bills Payable & Creditors)
To Bank (Cost of Realisation)
600
44,100
1,57,400
1,57,400
Capital Accounts
X
Y
Z
X
Y
Z
Rs.
Rs.
Rs.
Rs.
Rs.
Rs.
By Profit & Loss A/c
2,000
1,000
1,500
By Profit & Loss A/c
2,000
1,000
1,500
By Reserve Fund
5,600
2,800
4,200
75,600
49,800
8,700
19,600
9,800
To Realisation A/c
(Loss)
19,600
9,800
14,700
To Z’s Capital A/c
(Rs. 4,976 in the
ratio of 75,600:
49,800)
To Bank A/c
3,000
1,976
By Bank Account
72,600 47,824
(Realisation loss
brought in)
By Bank Account
1,024
By X’s Capital A/c
3,000
By Y’s Capital A/c
1,976
95,200 59,600 14,700
95,200
23
59,600 14,700
Bank Account
Rs.
Rs.
To Balance b/d
6,500
By Realisation A/c
13,100
To Cash in hand
1,000
By Realisation A/c
600
To Realisation A/c
1,00,200
By X’s Loan A/c
To X’s Capital A/c
19,600
By X’s Capital A/c
72,600
To Y’s Capital A/c
9,800
By Y’s Capital A/c
47,824
To Z’s Capital A/c
1,024
1,38,124
4,000
1,38,124
When all partners are insolvent
If all the partners are insolvent, the creditors can't be expected to be paid in full.
All the cash available, together with whatever can be received from the private estates
of the partners, will be paid to the creditors after the expenses of realisation are met.
The realisation account should be prepared in the usual course. However, creditors
shouldn't be transferred to this account nor will payment to creditors be debited to this
account. The loss on realisation should be transferred to the capital accounts of partners
in the profit sharing ratio. The available cash should then be paid to the creditors. The
amount remaining unpaid should be transferred to Deficiency account. The balances of
Partner's Capital accounts should also be transferred. Thus, the books will be closed.
Illustration 6: A, B and C are three partners sharing profits and losses in the ratio of
2 : 2 : 1. They decide to dissolve the firm and following is their Balance Sheet on the
date of dissolution:
24
Rs.
Rs.
Creditors
13,000
Cash
4,500
Reserve Fund
10,000
Stock
12,300
Sundry Debtors
15,600
Profit and Loss Account
5,000
A’s Capital Account
20,000
Furniture
B’s Capital Account
10,000
Plant and Machinery
16,000
C’s Capital Account
5,400
58,000
4,200
58,000
The assets realised as follows:
Stock Rs. 11,400; Sundry Debtors Rs. 12,200 and Furniture Rs. 2,400.
Plant and Machinery is taken over by A at Rs. 12,500. Creditors were paid off in
full. A contingent liability for Bills Receivable discounted materialized to the extent
of Rs. 400.
C is insolvent but his estate pays Rs. 2,400. Give accounts to close the books of
the firm:
(1)
If the capitals are fixed.
(2)
If the capitals are fluctuating.
Solution
25
(1) If the Capitals are fixed
Realisation Account
Rs.
Rs.
To Stock
12,300
By Creditors
To Sundry Debtors
15,600
By Cash Account:
To Furniture
4,200
13,000
Stock
11,400
12,200
To Plant & Machinery
16,000
Sundry Debtors
To Cash Account
13,000
Furniture
2,400
26,000
(Creditors paid)
To Cash Account
400
(Bills Discounted)
By A’s Capital A/c:
(Plant & Machinery
taken)
12,500
By Loss on Realisation
transferred to
Capital Accounts:
A–2/5
4,000
B–2/5
4,000
C–1/5
2,000
61,500
10,000
61,500
Cash Account
Rs.
To Balance b/d
Rs.
4,500
By Realisation Account
To Realisation Account
(Creditors paid)
13,000
(Assets realised)
26,000
By Realisation Account
To C’s Capital Account
2,400
(Bills discounted)
To A’s Capital Account
4,000
By A’s Capital Account
12,167
To B’s Capital Account
4,000
By B’s Capital Account
15,333
40,900
400
40,900
26
A’s Capital Account
Rs.
Rs.
To Realisation Account
(Loss on Realisation)
By Balance b/d
4,000
To Realisation Account
(Plant & Machinery taken) 12,500
20,000
By Reserve Fund
4,000
By Profit & Loss Account
2,000
By Cash Account
4,000
To C’s Capital Account
(2/3rd share of C’s
deficiency)
1,333
To Cash Account
12,167
30,000
30,000
B’s Capital Account
Rs.
Rs.
To Realisation Account
(Loss on Realisation)
By Balance b/d
4,000
To C’s Capital Account
(1/3rd share of C’s
deficiency)
To Cash Account
10,000
By Reserve Fund
4,000
By Profit & Loss Account
2,000
By Cash Account
4,000
667
15,333
20,000
20,000
C’s Capital Account
Rs.
To Balance b/d
Rs.
5,400
To Realisation Account
(Loss on Realisation)
2,000
By Reserve Fund
2,000
By Profit & Loss Account
1,000
By Cash Account
2,400
By A’s Capital Account
(2/3rd share of deficiency)
1,333
By B’s Capital Account
(1/3rd share of deficiency)
7,400
667
7,400
27
(2) If the Capitals are fluctuating
There will be no difference in Realisation Account, so it should not be prepared again.
Cash Account
Rs.
To Balance b/d
Rs.
4,500
By Realisation Account
To Realisation Account
(Creditors paid)
13,000
(Assets realised)
26,000
By Realisation Account
To C’s Capital Account
2,400
(Bills discounted)
To A’s Capital Account
4,000
By A’s Capital Account
12,262
To B’s Capital Account
4,000
By B’s Capital Account
15,238
40,900
400
40,900
A’s Capital Account
Rs.
Rs.
To Realisation Account
(Loss on Realisation)
By Balance b/d
4,000
To Realisation Account
(Plant & Machinery taken) 12,500
20,000
By Reserve Fund
4,000
By Profit & Loss Account
2,000
By Cash Account
4,000
To C’s Capital Account
(13/21rd share of C’s
deficiency)
1,238
To Cash Account
12,262
30,000
30,000
28
B’s Capital Account
Rs.
To Realisation Account
Rs.
4,000
By Balance b/d
To C’s Capital Account
(8/21) share of C’s
deficiency
To Cash Account
762
10,000
By Reserve Fund
4,000
By Profit & Loss Account
2,000
By Cash Account
4,000
15,238
20,000
20,000
C’s Capital Account
Rs.
To Balance b/d
Rs.
5,400
To Realisation Account
(Loss on Realisation)
2,000
By Reserve Fund
2,000
By Profit & Loss Account
1,000
By Cash Account
2,400
By A’s Capital Account
(13/21 share of deficiency)
1,238
By B’s Capital Account
(8/21 share of deficiency)
7,400
762
7,400
Note: Deficiency has been divided in proportions to capitals which stood before the
date of dissolution.
A
B
Rs.
Rs.
20,000
10,000
Reserve Fund
4,000
4,000
Profit & Loss Account
2,000
2,000
26,000
16,000
Capital
Therefore, ratio of capitals 26,000 : 16,000 or 13 : 8.
29
Gradual Realisation of the Assets And Piecemeal Distribution
Now the main point is to find out how to distribute cash among partners for
return of capital. The available cash can't be distributed in profit sharing ratio (unless
the capitals are in profit sharing ratio.)
The cash available can't also be distributed in the ratio of capitals which may be
different from the profit sharing ratio. The rule to follow in piecemeal distribution is
that the partners whose capital is more than proportionate to other partner's capitals
(considering the profit sharing ratio) should first be refunded so much to bring their
capitals to proportionate levels.
After this, the cash available should be distributed among the partners in the
profit sharing ratio. Each partner's position has to be compared with that of others.
Illustration 7: A, B and C share profits and losses in the ratio of 3 : 2 : 1. Their
Balance Sheet is as follows:
Rs.
Rs.
Creditors
50,000
Land & Buildings
70,000
A’s Loan
10,000
Plant and Machinery
40,000
Stock
25,000
20,000
Capitals:
A
50,000
Debtors
B
10,000
Cash
C
40,000
1,60,000
1,60,000
The partnership is dissolved and the assets are realised as follows:
1st Realisation
Rs. 40,000
2nd Realisation
Rs. 30,000
3rd Realisation
Rs. 54,000
4th Realisation
Rs. 7,000
5,000
30
Prepare a statement showing how the distribution should be made.
Solution
Statement showing distribution of cash
Creditors
A’s
A’s
B’s
C’s
Loan
Capital
Capital
Capital
Rs.
Rs.
Rs.
Rs.
Rs.
50,000
10,000
50,000
10,000
40,000
–
–
15,000
50,000
10,000
25,000
8,333
–
–
8,333
45,667
50,000
10,000
16,667
45,667
34,250
–
11,417
–
15,750
10,000
5,250
Amount due
Cash in hand paid to Creditors
5,000
45,000
Amount on 1st Realisation paid to Creditors
40,000
5,000
Amount on Second Realisation
Less: Paid to Creditors
Less: A’s Loan paid
Less: Paid to C
Rs. 30,000
5,000
5,000
25,000
–
10,000
10,000
15,000
–
15,000
–
Amount on 3rd Realisation
Less: Paid to C
Less: Paid to A and C
54,000
Amount on 4th Realisation
7,000
Less: Paid to A and C
1,000
750
–
250
6,000
15,000
10,000
5,000
6,000
3,000
2,000
1,000
12,000
8,000
4,000
Less: Paid to Partners A, B & C
Balance unpaid as Realisation Loss
31
Explanation: In the 2nd Realisation, there remains a balance of Rs. 15,000 to be utilised
towards repayment of capitals. Capitals are not in their profit-sharing ratio : B’s Capital
for 2/6th share is Rs.10,000. So A’s Capital must be Rs. 15,000 and C’s Capital Rs.
5,000. Thus, their capitals are in excess of their profit-sharing ratio by Rs. 35,000
each. Between A and C, the ratio is 3 : 1; so first Rs. 23,333 (Rs. 15,000 out of the
second realisation and Rs. 8,333 out of the third realisation) are paid to C to make his
capital equal to his profit sharing arrangement with A. The balance of Rs. 45,667 of the
third realisation is distributed between A and C in the ratio of 3 : 1. The capitals of
these partners being still proportionately in excess of B’s Capital by Rs. 750 and Rs.
250 respectively, so they are paid Rs. 750 and Rs. 250 respectively. Now capitals of all
the partners come in their profit sharing arrangement. The balance of Rs. 6,000 of the
fourth realisation is distributed between them in their profit sharing ratio of 3 : 2 : 1.
8.5
SUMMARY
Dissolution means termination of a partnership agreement. Dissolution of
partnership means a change in the relationship of the partners. Dissolution of partnership
firm means that the firm comes to an end and ceases to function as a firm. Any partnership
may be dissolved on account of many reasons. On dissolution of the firm, the settlement
of accounts among partners is done in accordance with the partnership deed. In the
absence of any agreement, the rules stated in Section 48 of the Partnership Act shall
apply when the partnership firm is dissolved, a Realisation Account is opened for
disposing of all the assets of the firm and making payments to all the creditors. No
special treatment is given to goodwill, it is treated like other assets. If a partner is
insolvent, then his deficiency which he is not able to bring will be borne by the other
solvent partners in accordance with the decision in Garner vs. Murray. While determining
the capital ratio of the solvent partners, distinction should be observed between fixed
and fluctuating capital. When there is gradual realisation of assets, it is necessary to
avoid the unpleasant consequences of a partner's account being overdrawn distributing
32
case of various realizations of assets in such a way that the final unpaid balance of the
capital of each partner is left in his profit-sharing ratio.
8.6
KEYWORDS
Dissolution of Partnership: It means a change in the relationship of the partners.
Dissolution of Partnership Firm: It refers to the winding up of business in partnership.
Garner vs. Murray Decision: In the absence of any agreement to the contrary, the
deficiency on the insolvent partner's capital account must be borne by other solvent
partners the proportion to their capitals which stood before the dissolution of the firm.
8.7
SELF ASSESSMENT QUESTIONS
1.
Differentiate between dissolution of partnership and dissolution of firm. State
how and under what circumstances a firm may be dissolved.
2.
Give the entries needed to close the books of the firm upon its dissolution.
3.
Examine the underlying principles of Garner vs. Murray decision in the
dissolution of partnership with suitable illustrations.
4.
The Balance Sheet of a firm on 31st March, 1999 was as follows :-
Liabilities
Rs.
Assets
X's Capital
5,000
Freehold Prop
8,000
Y's Capital
4,000
Investments
2,000
Z's Capital
3,000
Book Debts
1,000
Sundry Creditor:
2,000
Cash at Bank
3,000
14,000
Rs.
14,000
The Partnership was dissolved as on 31 March, 1999. The sundry creditors were paid at
a discount of 5% X agreed to takeover the Freehold Property at Rs. 9,000. Y the
investments at rs. 1,500 and Z the book debts at Rs. 600. The expenses of realisation
came to Rs. 110.
33
Close the books of the firm.
5.
A, B and C sharing profits in the proportion of 3:2:1 agreed upon dissolution of
their Partnership on 31 march, 1999. The balance sheet on this day was as
follows:Liabilities
Assets
Rs.
Capital Accounts
Machinery
40,500
A
40,000
Stock In Trade
7,550
B
20,000
60,000
Investments
20,830
Mrs. A's Loan
10,000
Joint Life Policy
14,000
Creditors
18,500
Debtors 9,300
Life Insurance Fund
14,000
less:- prov. 600
8,700
6,000
Current Account-
11,500
Cash at Bank
5,420
Investment Fluct.
Rs.
Fund
108,500
108,500
The Life Policy is surrendered for Rs. 12,000. The investments are taken over
by A for Rs. 17,500 A agrees to discharge his wife's loan. B takes over all the stock at
Rs. 7,000 and Debtors amounting to Rs. 5,000 at Rs. 4,000. Machinery is sold for Rs.
55,000. The remaining Debtors realise 50% of book value.
The expenses of realisation amount to Rs. 600.
It is found that an investment not recorded in the books is worth Rs. 3,000. The
same is taken over by one of the creditors at this value. Final accounts of the partners
on completion of the dissolution of the firm.
6.
Slow, Sure and Fast were Partners sharing profits and losses in the ratio of 3:2:1
On 31st March, 1998 their Balance Sheet was as follows:-
34
Liabilities
Rs.
Assets
Sundry Creditors
15,400
Cash at Bank
3,500
Bills payable
3,600
Stock
19,800
Slow's Loan A/c
10,000
Debtors
Capitals Account
Less:- Provision
Rs.
Rs.
15,000
1,000
14,000
Slow
20,000
Joint Life Policy
4,000
Sure
16,000
Plant and Machine
43,700
Fast
8,000
Reserve Fund
12,000
85,000
85,000
The firm was dissolved on 1st April, 1999. Joint Life Policy was taken over
by Slow at Rs. 5,000. Stock realised Rs. 18,000. Debtors realised Rs. 14,500. Plant
and Machinery was sold for Rs. 36,000.
Liabilities were paid in full. In addition one bill for Rs. 700 under discount was
dishonoured and had to be taken up by the firm. Assume there were no expenses.
Give Journal entries and the necessary ledger accounts to close the books of
the firm.
7.
A,B and C commenced business on 1st April, 1998 with capitals of Rs. 50,000,
Rs. 40,0000 and Rs. 30,000. Profits and Losses were shared in the ratio of 4:3:3.
Capitals carried interest at 5% per annum. During 1998 and 1999, they made profits of
Rs. 20,000 and Rs. 25,000 (before allowing interest) Drawings of each partner were
Rs. 5,000 per year.
On 31st March, 1999 the firm is dissolved. Creditors on that date were Rs. 12,000.
The assets realised Rs. 1,30,000 net. Give the necessary accounts to close the books of
the firm.
35
8.8
SUGGESTED READINGS
1.
Fundamentals of Accounting by R.L. Gupta and V.K. Gupta, Sultan Chand
and Sons, New Delhi.
2.
Advanced Accounting by R.L. Gupta and M. Radhaswamy, Sultan Chand
and Sons, New Delhi.
3.
Financial Accounting by Shashi K. Gupta, Nisha Aggarwal and Neeti
Gupta, Kalyani Publishers, Ludhiana.
4.
Financial Accounting by P.C. Tulsian, Pearson Education, New Delhi.
5.
Principles of Financial Accounting by P.C. Gupta and C.L. Chaturvedi,
Shree Mahavir Book Depot, New Delhi.
6.
Financial Accounting by A. Karim, S.S. Khanuja and Piyush Mehta,
Sahitya Bhawan Publishers, Agra.
36
LESSON -9
COMPANY ACCOUNTS : ACCOUNTING FOR SHARES
AND SHARE CAPITAL
STRUCTURE
9.0
Objective
9.1
Introduction
9.2
Meaning and Characteristics of a Company
9.3
Types of Shares
9.4
Types of Share Capital
9.5
Issue of Shares
9.5.1 Accounting for Issue of Shares
9.5.2 Under-Subscription
9.5.3 Over-Subscription
9.5.4 Issue of Shares at a Premium
9.5.5 Issue of Shares at a Discount
9.5.6 Calls in Arrears
9.5.7 Calls in Advance
9.5.8 Forfeiture of Shares
9.5.9 Reissue of Forfeited Shares
9.5.10 Surrender of Shares
9.5.11 Redemption of Preference Shares
9.6
Summary
9.7
Keywords
9.8
Self Assessment Questions
9.9
Suggested Readings
1
9.0
OBJECTIVE
At the end of this lesson, you would be familiar with
(a)
Accounting Treatment for Issue of Shares
(b)
Forfeiture of Shares
(c)
Redemption of Preference Shares
9.1
INTRODUCTION
To overcome the limitations of inadequacy of funds and unlimited liability of
sole-proprietorship and partnership firms, one of the most convenient form of
organisation that grew with expansion of business requiring huge funds is the joint
stock company form of organisation or simply, a company. In India, joint stock
companies are governed by the provision of the Companies Act, 1956.
9.2
MEANING AND CHARACTERISTICS OF A COMPANY
Section 3(1) (i) of the Companies Act, 1956 defines a Company as " a company
formed and registered under this Act or an existing company". An "existing company"
means a company formed and registered under any of the former Companies Act.
In common parlance, a company may be defined as an artificial person created by
law, having a corporate and legal personality distinct and separate from its members,
perpetual succession and a common seal. The essential characteristics of a company are:
1.
It is a voluntary association of persons.
2.
It is an incorporated (registered) association.
3.
It is an artificial person created by law.
4.
It has a separate legal entity.
5.
It has a perpetual succession. This means that it can be created and
woundup by the law only.
6.
It has a common seal i.e. official signature of the company.
2
7.
The liability of the members is generally limited to the extent of the unpaid
value of the shares held by them.
8.
The shares of a company are freely transferable except in case of a
private limited company.
9.3
TYPES OF SHARES
The capital of the company is usually divided into certain indivisible units of a
fixed amount. These units are called shares. Share means share in the capital of a
company. The person owing a share or shares of a company is called a shareholder. A
share is evidenced by a share certificate which is issued by a company under the common
seal. It specifies the number of shares held by each shareholder. Shares are movable
property and are transferable in the manner provided in the articles of association.
There are two types of shares which a company may issue i.e. (1) Preference Shares
(2) Equity Shares.
1.
Preference Shares
Preference shares are those which carry :
(a)
a preferential right as to the payment of dividend during the lifetime of the
company- it may be fixed or a fixed rate, and
(b)
a preferential right as to the return of capital when the company is wound up.
Preference Shares are of the following types :
(a)
Cumulative Preference Shares
A preference share is said to be cumulative when the arrears of dividend are
cumulative and such arrears are paid before paying any dividend to equity shareholders.
Unless otherwise stated, a preference share is always to be a cumulative one.
3
(b)
Non-cumulative Preference Shares
In case of these shares dividend is not allowed to accumulate. The right to claim
dividend will lapse if there are no sufficient profits in a particular year.
(c)
Participating Preference Shares
These are those shares which are entitled not only to a fixed rate of dividend but
also to a share in the surplus profits which remain after dividend has been paid at a
certain rate to equity shareholders.
(d)
Non-Participating Preference Shares
Non-participating preference shares are entitled only to a fixed rate of dividend
and do not share in the surplus profits. Unless otherwise stated, the preference shares
are presumed to be non-participating.
(e)
Convertible Preference Shares
These are those shares which can be converted into equity shares within a certain
period.
(f)
Non-convertible Preference Shares
There preference shares do not carry the right of conversion into equity shares.
(g)
Redeemable Preference Shares
The shares which can be redeemed after a fixed period or after giving the
prescribed notice, as desired by the company. After the commencement of Companies
(Amendment) Act, 1988, no company limited by shares can issue any preference share
which is irredeemable.
2.
Equity Shares
Shares which are not preference shares, are known as equity shares. These shares
do not carry any preferential right. Equity shareholders enjoy voting rights. But there is
4
no obligation to the company to pay dividends at a fixed rate every year. Even at the
time of winding up of a company, they receive their capital only after payment to
preference shareholders.
9.4
TYPES OF SHARE CAPITAL
Share capital means capital raised by a company by the issue of shares. The
main divisions of share capital are:
(a)
Authorised or Registered or Nominal Capital
The amount of capital with which the company intends to be registered is called
authorised capital or registered capital or nominal capital. It is the maximum amount
which the company is authorised to raise by way of public subscription. This is
mentioned in the 'Capital Clause' of the Memorandum of Association and beyond which
the company cannot raise unless the capital clause in the Memorandum of Association
is altered in accordance with the provisions of Section 94 of Companies Act, 1956.
(b)
Issued Capital
The part of the authorised capital which is offered to the Public for subscription
is called issued capital.
(c)
Subscribed Capital
The part of the issued capital for which applications are received from the public
is called subscribed capital.
(d)
Called up Capital
This is the part of subscribed capital which has been called up.
(e)
Paid up Capital
The part of called up capital which is actually paid by the members is known as
paid up capital. That part of called up capital which has not yet been received is known
as 'Calls in Arrear'. Thus, Called up Capital-Calls in Arrear = Paid up Capital.
5
(f)
Reserve Capital
It refers to that portion of uncalled share capital which shall not be capable of
being called up except in the event and for the purpose of the company being wound up.
9.5
ISSUE OF SHARES
A company can issue shares in two ways :
1.
for consideration other than cash
2
for cash.
These shares may be issued at par or at a premium or at a discount. Such issue
price may be payable either in lumpsum alongwith application or in instalments at
different stages e.g. partly on application, partly on allotment, partly on call.
9.5.1 Accounting for issue of Shares
(1)
For consideration other than cash
When a company purchases a running business and pay to vendors the purchase
consideration in the form of shares instead of making the payment to the vendor in
cash, it issues its fully paid shares, such issue of share is called as the issue of shares
for consideration other than cash. Such issue of shares are disclosed separately under
the head 'Share Capital' (Sub-head-Subscribed Capital) in the Balance Sheet of a company.
The accounting entries to be made are :
a)
On purchase of assets
Sundry Assets A/c
Dr.
To Vendor's A/c
(Being purchase of business)
b)
On issue of shares
Vendor's A/c
Dr.
To Share Capital A/c
(Being issue of shares as payment of the price of the business)
6
(2)
For Cash
The Companies Act stipulates that when shares are issued to public for cash, the
company has to come out with prospectus. The procedure involved is as follows :
(a)
Application
To collect capital from public, a public company issues a prospectus inviting
the public to submit applications to take up shares of the company. The prospectus
contains the details of the amount which the applicants have to pay as application money
and allotment money. The company may demand the full value of share on application
itself or it may demand only a part of it. However, the application money demanded
should not be less than 5% of the nominal value of the share.
On receipt of application money, the journal entry will be as follows:
Bank Account
Dr.
To Share Application A/c
(Being receipt of application money - shares @ Rs.----per share)
(b)
Allotment
After receiving the applications, the directors take steps to allot the shares.
Allotment of shares means acceptance of the offer of the applicant for the purchase of
shares. Directors have discretionary power either to reject or to accept partially or to
accept all the applications. Applicants to whom the shares will be allotted will be issued
letters termed as "Letter of Allotment" to that effect. They will also be required to pay
allotment money as per terms of the prospectus. The journal entries will be as follows :
On acceptance of Applications
Share Application A/c
Dr.
To Share Capital A/c
(Being the application money transferred to Share Capital A/c)
7
Those applicants who could not be allotted any share, their application money
will be returned. The necessary journal entry is :
Share Application A/c
Dr.
To Bank A/c
(Being the application money of shares returned)
Once the allotment is made and any further amount is required to be paid
on each share, the allotment money becomes due to the company which the allottees
are liable to pay. For this the following entry will be passed:
Share Allotment A/c
Dr.
To Share Capital A/c
(Being money due on allotment as per resolution no......dated .......)
On the receipt of allotment money
Bank A/c
Dr.
To Share Allotment A/c
(Being money received on allotment)
(c)
Calls
The balance due, if any, on shares after taking into account application money
and allotment money may be asked for by the Board of Directors in a number of
instalment depending upon the terms of issue . Each such instalment is known as a
"Call". There can be maximum three calls. The journal entries are as follow:
On making the first call
Share First Call A/c
Dr.
To Share Capital A/c
(Being the first call money due as per resolution no...........
dated ..................)
8
On receipt of the money of first call
Bank A/c
Dr.
To Share First Call A/c
(Being money received on first call)
Notes:
(i)
Similar entries may be made for the second and third call through Share Second
Call Account and Share Third Call Account, respectively. In case of last call, the
word 'final' is also added to the concerned "Share Call Account'. In case the
entire balance is payable on a single call, usually, the term 'Share Call Account'
is used.
(ii)
In order to distinguish one type of share from the other one, the name of the
share i.e. Equity or Preference must be prefixed with the word 'Share' e.g.
Preference Share Capital A/c, Equity Share Capital A/c.
ILLUSTRATION I : ABC Corporation Ltd. was registered on Ist January, 1998 with a
capital of Rs.10,00,000 divided into 1,00,000 shares of Rs.10 each. The company
offered 44,000 shares; applications were received for the whole of shares and Re. 1
per share was received with application. On Ist February, these shares were allotted and
Rs.2 per share was duly received on 28th February as allotment money. A first call of
Rs.3 per share was made on Ist March and the call money on all shares were received.
The final call of Rs.4 per share was made on Ist June and the amount due, was received
by 30th June. Pass the necessary Journal entries and prepare Balance Sheet as at 30 the
June, 1998.
9
Solution
Journal
Date
01.01.98
01.02.98
02.02.98
28.02.98
01.03.98
01.03.98
01.06.98
30.06.98
Particulars
L.F. Dr.(Rs.)
Bank A/c
Dr.
40,000
To Share Application A/c
(Being the application money received
on 40,000 shares @ Re.1 per share)
Share Application A/c
Dr.
40,000
To Share Capital A/c
(Being the application money
adjusted)
Share Allotment A/c
Dr.
80,000
To Share Capital A/c
(Being the allotment due on
40,000 shares @ Rs.2 per share)
Bank A/c
Dr.
80,000
To Share Allotment A/c
(Being the allotment money
received)
Share Ist Call A/c
Dr.
1,20,000
To Share Capital A/c
(Being the Ist Call money due on
40,000 shares @ Rs.3 per share)
Bank A/c
Dr.
1,20,000
To Share Ist Call A/c
(Being the share Ist call money
received on 40,000 share @
Rs. 3 per share)
Share Second & Final Call A/c Dr.
1,60,000
To Share Capital A/c
(Being the share second & final
call money due on 40,000
shares @ Rs.4 per share)
Bank A/c
Dr.
1,60,000
To Share Second & Final Call A/c
(Being the share second & final
call money received on 40,000)
10
Cr.(Rs.)
40,000
40,000
80,000
80,000
1,20,000
1,20,000
1,60,000
1,60,000
Balance Sheet as on 30th June 1998
Liabilities
Rs. Assets
Share Capital
Authorised Capital :
Current Assets :
Cash at Bank
Rs.
4,00,000
1,00,000 shares of Rs.10 each 10,00,000
Issued Capital:
40,000 shares of Rs.10 each
4,00,000
Subscribed Capital:
40,000 shares of Rs.10 each
4,00,000
4,00,000
4,00,000
9.5.2 Under Subscription
When the number of shares applied for is less than the number of shares offered
by the company, such a situation is known as under-subscription of shares. For Example,
a company has offered 10,000 shares to public but the public applied for 8000 shares
only, it is called a case of under-subscription. In such a case, it must be ensured that the
company has received the minimum subscription and the entries for application,
allotment and calls will be made only for 8000 shares.
9.5.3 Over-Subscription
Shares are said to be over-subscribed when the numbers of shares applied is
more than the number of shares offered. For example a company has offered 10,000
shares to public but the public applied for
18,000 shares, it is called a case of over-
subscription. The company may treat the excess applications received in one or more
of the following ways:
(a)
Certain applications may straightway be rejected. Application money will be
refunded to such applicants. The necessary journal entry in this case will be :
Share Application A/c
Dr.
To Bank A/c
(Being refund of the application money)
11
(b)
Partial allotment may be done. Partial allotment means allotment of a smaller
number of shares than the number of shares applied for.
(c)
Pro-rata allotment may be done. Allotment on pro-rata basis means that allotment
is made to each applicant or some applicants on a proportionate basis. For example a
company offers 10000 shares to the public, applications are received for 18,000 share.
No allotment is made to applicants for 3000 shares and the rest are allotted shares on
a pro-rata basis. It means applicants for 15,000 shares have been allotted 10,000 shares
or every applicant of this group has been allotted two shares for three applied.
In case the company adopt (b) or (c) alternative, the company has to adjust the
excess application money received. Company can use the excess application money
received, for money due on allotment. For example, Ram applies for 150 shares and
pays Rs.2 per share as application money. He gets only 120 shares and the money due
on allotment is Rs.3 per share. The following journal entry will be passed to transfer
excess application money from "Share Application Account" to "Share Allotment
Account".
Share Application A/c Dr.
60
To Share Allotment A/c
60
(Being excess money received on application transferred to
Share Allotment A/c)
Surplus money exceeding that due on allotment should be refunded to the
allottees within eight days after the company becomes liable to pay.
ILLUSTRATION 2: A company offers 10,000 shares of Rs.10 each to the public for
subscription. The money is payable as follows:
Rs. 2 on Application
Rs. 3 on Allotment, and
Rs. 5 on First & Final Call
12
The company receives applications for 12,000 shares. The shares are
allotted on a pro-rata basis. All allottees pay the allotment and final call moneys on due
dates. Make the necessary journal entries.
Solution :
Journal Entries
Particulars
(1)
Dr.
Bank Account
(Rs.)
Cr.(Rs.)
24,000
To Share Application Account
24,000
(Being application money received in
cash on 12,000 shares @ Rs. 2 per share)
(2)
Share Application Account
24,000
To Share Capital Account
20,000
To Share Allotment Account
4,000
(Being transfer of application money due
on 10,000 shares and adjustment of
excess money to share allotment account)
(3)
Share Allotment Account
Dr.
30,000
To Share Capital Account
30,000
(Being allotment money due on 10,000
shares @ Rs.3 per share)
(4)
Bank Account
Dr.
26,000
To Share Allotment Account
26,000
(Being allotment money received)
(5)
Share First & Final Call Account
Dr.
50,000
To Share Capital Account
50,000
(Being Ist & Final Call money due on
10,000 shares @ Rs. 5 per share)
(6)
Bank Account
Dr.
To Share First & Final Call Account
(Being receipt of first & final call money)
13
50,000
50,000
9.5.4
Issues of shares at a premium
When a share is issued at a price which is above its face value then it is said to
be issued at a premium. The excess of issue price over the face value is called as the
amount of 'Share Premium'. The abolition of the Controller of Capital Issues and the
introduction of free pricing by companies for their issues of shares and debentures has
encouraged many companies to issue shares at a premium. According to Sec.78 of
Companies Act, the amount of share premium received by a company must be credited
to a separate account called the Share Premium account. The amount of share premium
may be used by the company only for the following purposes:
(a)
for the issue of fully paid bonus shares to the members.
(b)
for writing off preliminary expenses.
(c)
for writing off the expenses of or the commission paid or discount
allowed on any issue of shares or debentures of the company.
(d)
for providing premium payable on the redemption of any redeemable
preference shares or debentures of the company.
Accounting Entries
(a)
If the premium is paid with application money, the following entries will be
passed:
(i)
Bank A/c
Dr.
To Share Application A/c
(Being share application money, alongwith premium received)
(ii)
Share Application A/c
Dr.
To Share Capital A/c
To Share Premium A/c
(Share application money transferred to Share Capital A/c and
Share Premium A/c)
14
(b)
If the share premium is received alongwith the allotment money, then the
following entries will be passed :
(i)
Share Allotment A/c
Dr.
To Share Capital A/c
To Share Premium A/c
(Being the allotment money and share premium money
due on........... Shares)
(ii)
Bank Account
Dr.
To Share Allotment Account
(Being the receipt of allotment money alongwith share
premium account)
(c)
If the share premium is received in parts say, on application as well as allotment
or allotment and first call, entries on the same pattern discussed above can be passed.
Alternative method
There is an alternative method for treatment of share premium. No entry is
passed for share premium when if becomes due. But on the receipt of share premium,
the 'Share Premium Account' is credited with the amount of share premium received.
The advantage of this method is that the Share Premium Account will not have to be
debited in the event of the forfeiture of shares in case share premium money has not
been received.
ILLUSTRATION 3: XYZ Co. Ltd. was registered with an authorised capital of
Rs.5,00,000 divided into 50,000 shares of Rs.10 each Of this, 20,000 shares were
issued for public subscription. The share amount was called up as under :
On Application.......
Rs.2 per share
On Allotment.........
Rs. 5 per share (including
premium Rs.2 per share)
15
On First Call..........
Rs.2 per share
On Final Call.........
Rs. 3 per share.
Public applied for 25, 000 shares. The Directors decided to refund the
application money on 3,000 shares and adjust on remaining 2,000 shares towards
allotment money due. All the amounts were duly received.
Pass Journal Entries.
Solution
Journal Entries in the Books of XYZ Co. Ltd.
Particulars
(1)
(2)
(3)
Bank A/c
Dr.
To Share Application A/c
(Being application money of Rs.2 per
share received on 25,000 shares)
Share Application A/c
Dr.
To Share Capital
To Bank A/c (3,000 x Rs.2)
To Share Allotment A/c (2000 x Rs.2)
(Being application money on 20,000 shares
transferred to capital A/c, excess application money on 3,000 shares refunded
and on 2,000 shares transferred towards
allotment)
Share Allotment A/c
Dr.
To Share Capital A/c
To Share Premium A/c
(Being allotment money of Rs.3 per
share and share premium of Rs.2 per share
due on 20,000 shares allotted)
16
Dr.
Rs.
50,000
Cr.
Rs.
50,000
50,000
40,000
6,000
4,000
1,00,000
60,000
40,000
(4)
Bank A/c
Dr.
96,000
To Share Allotment A/c
96,000
(Being allotment money alongwith
share premium duly received)
(5)
Share First call A/c
Dr.
40,000
To Share Capital A/c
40,000
(Being Ist call of Rs.2 per share due
on 20,000 shares allotted)
(6)
Bank A/c
Dr.
40,000
To Share First Call A/c
40,000
(Being Ist call money duly received)
(7)
Share Final Call A/c
Dr.
60,000
To Share Capital A/c
60,000
(Being a final call of Rs.3per share due
on 20,000 shares allotted)
(8)
Bank A/c`
Dr.
To Share Final Call A/c
60,000
60,000
(Being final call money duly received)
9.5.5 Issues of shares at a discount
When the amount payable on shares is less than the face value of the shares, it is
said to have issued them at a discount.
According to Section 79 of the Companies Act, 1956 a company can issue shares
at a discount if the following conditions are satisfied:
a)
The shares which are to be issued at a discount should be of a class which has
already been issued.
17
b)
This should be authorised by passing a resolution at the general meeting and
sanctioned by the Company Law Board.
c)
The maximum rate of discount at which the shares are to be issued should be
specified in the resolution and the maximum limit is 10%.
d)
At least an year should have been collapsed from commencement of the business
by the company before the shares are issued at a discount.
e)
The share should be issued at a discount before two months after the sanction
from the Company Law Board has been obtained or as specified by the Company
Law Board.
The 'Discount on Issue of Shares Account' appears on the assets side of the
Balance Sheet under the head "Miscellaneous Expenditure" and is written-off against
Profit and Loss Account or Share Premium Account over a period of years.
9.5.6 Calls in arrears
Some shareholders may not pay allotment money or call money in time. If any
amount has been called by the company and a shareholder has not paid that money till
the last date fixed for the payment thereof, this is known as calls in arrears. The amount
of calls in arrears in shown by way of deduction from the called-up capital in the Balance
Sheet. The directors can charge interest on calls-in-arrears at a rate specified in the
Articles of Association from the last date fixed for payment to the date of actual
payment. But if the Articles of Association are silent, Table A shall be applicable which
empowers the Board of Directors to charge interest at a rate not exceeding 5% p.a.
However, the directors have the authority to waive the payment of interest on calls in
arrears at their discretion.
18
The journal entries in respect of calls in arrears are as follows:
When a call becomes due
Share...........Call A/c
Dr.
To Share Capital A/c
(Being call money due)
When money of a call is received
Bank A/c
Dr.
To Share..........Call A/c
(with the amount actually received
excluding the amount of a call in arrear)
At the end of the accounting year, the amount outstanding on account of a call
will be transferred to 'Calls in Arrears A/c'.
Calls in Arrears A/c
Dr.
To Share ....... Call A/c
In case shareholders makes payment of a call in arrear with interest, the
entry will be :
Bank A/c
Dr.
To Calls in Arrears A/c
To Interest A/c
(Being interest received on call in arrear)
9.5.7 Calls in advance
A company, if its Articles of Association permit, may receive from shareholders
the amount remaining unpaid on shares held by them even though the amount has not
been called up. The amount so received is credited to “Calls in Advance Account”.
When a call is made, the appropriate amount is transferred from Call in Advance Account
to the relevant call. Table A gives a power to the company to accept calls in advance
19
from its shareholders and also provides for payment of interest at a rate not exceeding
6% per annum. The journal entries in respect of calls in advance are as follows :
Bank A/c
Dr.
To Call in Advance A/c
(Being the amount of calls received in advance)
Share .......Call A/c
Dr.
To Share Capital A/c
(Being the amount due on ......call on all shares including those on which call
has been received in advance)
Bank A/c
Calls in Advance A/c
Dr.
Dr.
To..... Call A/c
(Being the amount received on ...........call)
ILLUSTRATION 4: On Ist March, 1999 X Ltd., makes an issue of 20,000 equity
shares Rs.10 each payable as below:
On application Rs.2; on allotment Rs.3(including premium); on first and final
call Rs.6 (three months after allotment).
Applications were received for 26,000 shares and Directors made allotment in
full to the applicants demanding ten or more shares and returned money to the applicants
for 6,000 shares. One shareholder who was allotted 40 shares paid first and final call
with allotment money and another shareholder who was allotted 60 shares did not pay
allotment money on his shares, but later on he paid allotment money with the first and
final call. Directors have decided to charge and allow interest, as the case may be, on
calls in arrears and calls in advance respectively according to the provisions of Table A.
Give the necessary journal entries in the books of the company.
20
Solution
Journal Entries
1999 Particulars
Dr. (Rs.) Cr. (Rs.)
Mar.1 Bank A/c
Dr.
52,000
To Share Application A/c
52,000
(For application money received on 26,000
shares @ Rs. 2 per share)
Mar.1 Share Application A/c
Dr.
52,000
To Share Capital
40,000
To Bank A/c
12,000
(For application money of 20,000 shares
transferred to share capital account and
application money of 6,000 shares
refunded)
Mar.1 Share Allotment A/c
Dr.
60,000
To Share Capital A/c
40,000
To Share Premium A/c
20,000
(For allotment money and share premium
due on 20,000 shares @ Rs.2 and Re.1 per
share respectively as per resolution of the
Board of Directors dated..............)
Mar.1 Bank A/c
Dr.
60,060
To Share Allotment A/c
59,820
To Calls in Advance A/c
240
(For the receipt of allotment money @ Rs.3
on 19,940 shares and advance call money on
40 shares @ Rs.6 each)
21
June1 Share First and Final Call A/c
Dr.
1,20,000
To Share Capital A/c
1,20,000
(For the amount due in respect of First
and Final Call on 20,000 shares @ Rs.6
per share as per resolution of the Board
of Directors dated ........)
Bank A/c
Dr.
1,19,940
To Share First Call A/c
1,19,760
To Share Allotment A/c
180
(For the amount received on account of First
and Final call on 19,960 shares @ Rs.6 and
calls in arrears of allotment)
Calls in Advance A/c
Dr.
240
To Share First & Final Call A/c
240
(Adjustment of calls in advance against the
First and Final Call)
Interest on Calls in Advance A/c
Dr.
3.60
To Bank A/c`
3.60
(Interest paid on Calls in advance i.e. Rs.240 for
3 months @ 6% p.a.)
Bank A/c
2.25
To Interest on Calls Arrears A/c
2.25
(Receipt of interest on calls in arrear i.e.
Rs.180 for 3 months @ 5% p.a.)
22
9.5.8 Forfeiture of shares
When a shareholder who has been called upon to pay the amounts due on the
shares held by him defaults such payment, the company can exercise the right to forfeit
the shares. Forfeiture of shares means the cancellation of allotment to defaulting
shareholders and to treat the amount already received on such shares as forfeited to
the company. However, the following conditions must be satisfied in order to be sure
that the forfeiture of shares is valid :
a)
The power to forefeit shares must be expressly given by the company's Articles.
b)
The procedure given in the Articles must be followed.
c)
There should be a default by the shareholder in payment of a valid call.
d)
A notice of demand, requiring the shareholder to pay calls within the specified
period and specifying the amount, must be given.
e)
The Board of Directors must pass a resolution for forfeiture of shares.
The following points should be kept in mind while passing an accounting entry
for forfeiture of shares :
a)
the amount called up on the share forfeited.
b)
the amount unpaid on various calls (including allotment) on the shares forfeited.
c)
the amount received on the shares forfeited.
The following journal entry is passed at the time of forfeiture of shares
considering the terms of issue:
Forfeiture of Shares Issued at Par
Share Capital A/c
Dr.
(with the amount called up on
shares forfeited)
To Unpaid Calls A/c
(with the amount which
became due but not paid)
To Forfeited Shares A/c
(with the amount already received)
(Being ..............shares forfeited for non-payment of .........)
23
Forfeiture of Shares Issued at Premium
If the forfeited shares were issued at a premium, the Share premium account
would be debited only if the amount of the premium remained unpaid; otherwise no
debit can be given to share premium account in view of the restriction imposed by Sec.
78(2) of Companies Act, 1956. The journal entry for forfeiture will be:
Share Capital A/c
Dr.
(with the amount called up on Shares
forfeited)
Share Premium A/c Dr.
(with the amount of premium not
received)
To Unpaid Calls A/c
(with the amount which
became due but not paid)
To Forfeited Shares A/c
(with the amount already received)
(Being .........shares forfeited for non-payment of ...............)
Forfeiture of Shares issued at Discount
Share Capital A/c
Dr.
(with the amount called up on
shares forfeited)
To Unpaid Calls A/c
(with the amount which
became due but not paid)
To Discount on Issue of Shares (with the amount of discount originally
allowed)
To Forfeited Shares A/c
(with the amount already received)
(Being............shown forfeited for non-payment of ..............)
24
9.5.9 Reissue of forfeited shares
Forfeited shares become the property of the company and the directors of the
company are empowered to reissue the forfeited shares if authorised by its Articles of
Association. Such reissue can be at par, premium or discount. However, in case they
are reissued at discount, the amount of discount should not exceed the actual amount
received on forfeited shares. In other words, there cannot be any loss on account of
reissue of forfeited shares. The purchaser of forfeited reissued shares is liable for
payment of all future calls duly made by the company. The accounting entries for the
reissue of forfeited shares in various cases are :
On reissue of forfeited shares originally issued at par or at a premium
Bank A/c
Dr.
(with the amount received on reissue)
Forfeited Shares A/c
Dr.
(with the discount allowed on reissue)
To Share Capital A/c
(with the amount credited as paid up)
(Being reissue of forfeited Shares)
On reissue of forfeited shares originally issued at a discount.
Bank A/c
Dr.
(with the amount received on reissue)
Discount on Issue of Shares A/c
Dr.
( with the discount originally allowed)
Forfeited Shares A/c
Dr.
(with the discount allowed on reissue)
To Share Capital A/c
(with the amount credited as paid up)
(Being reissue of forfeited shares)
Treatment of Balance Left on the Forfeited Shares Account
If all the forfeited shares have been reissued, the balance standing to the credit
of Forfeited Shares Account is a capital profit and, therefore, it will be transferred to
Capital Reserve Account. The journal entry will be
25
Forfeited Shares A/c
Dr.
To Capital Reserve
A/c
(Being profit on reissue of forfeited shares transferred to capital reserve)
In case only a part of the forfeited shares have been reissued, only the
proportionate profit on reissue of forfeited shares will be transferred to Capital Reserve
Account and the balance on the Forfeited Shares Account relating to shares not yet
reissued is carried forward and is shown by way of addition to Paid-up capital in the
Balance Sheet.
ILLUSTRATION 5: A holds 100 shares of Rs.10 each on which he has paid Re. 1 per
share as application money.
B holds 200 shares of Rs.10 each on which he has paid Re 1 on application and
Rs.2 on allotment.
C holds 300 shares of Rs.10 each and has paid Re 1 on application, Rs.2 on
allotment and Rs.3 for the first call.
They all fail to pay their arrears and the second call of Rs.2 per share and the
Directors, therefore, forfeited their shares. The shares of C were then reissued at Rs.7
per share as fully paid-up.
Give the necessary journal entries to record the above transactions.
26
Solution :
JOURNAL
Rs.
Share Capital A/c
Dr.
Rs.
4,800
To Share Allotment A/c
200
To Share First Call A/c
900
To Share Second Call A/c
1,200
To Forfeited Shares A/c
2,500
(Being forfeiture of 600 shares)
Bank A/c
Dr.
2,100
Forfeited Shares A/c
Dr.
900
To Share Capital A/c
3,000
(Being 300 shares reissued at Rs.7 each
fully paid up)
Forfeited Shares A/c
Dr.
900
To Capital Reserve A/c
900
(Being surplus on forfeiture and reissue
of 300 shares transferred to capital reserve)
Working Notes :
1.
Amt. not paid :
Allotment
First Call
A
200
300
200
B
-
600
400
C
-
-
600
200
900
27
Second Call
1,200
2.
The amount transferred to Capital Reserve has been calculated as follows :
Rs.
Amount received on C's shares
(300 x 6)
1,800
Less Discount allowed on reissue (300 x 3)
900
Net gain
900
Forfeiture and reissue of shares when there is over subscription and pro
rata allotment
In the case of over-subscription, some application are rejected altogether, some
applications are allotted in full and others are allotted on pro-rata basis. When there is
a pro-rata allotment and some share are forfeited, then the calculation of amount to be
forfeited poses a problem. In such case the following procedure may be adopted :
(a)
Calculate the total number of shares applied for on the basis of allotted shares
or vice-versa.
(b)
Calculate the total amount received on application by multiplying the number
of shares with application money. This is the amount which is to be forfeited on
default.
(c)
Deduct the amount due on application on allotted shares and calculate balance
i.e., money received in advance and to be adjusted on allotment.
(d)
Calculate the amount due on allotment on such shares and deduct the amount
already received as advance on application. This gives the amount in arrear on
allotment and is credited to share allotment account at the time of forfeiture of
shares.
ILLUSTRATION 6: The Satara Chemicals Works Ltd. issued for public subscription
1,00,000 shares of Rs.100 each at a premium of Rs.20 per share, payable as under :
28
Rs.20 per share on application; Rs.50 per share on allotment (including
premium); Rs.20 per share on first call and balance on final call.
Applications were received for 1,50,000 shares. The shares were allotted prorata to the applicants of 1,20,000 shares, the remaining applications being rejected.
Money overpaid on application was utilised towards sums due on allotment .
Kisan Lal to whom 4000 shares were allotted failed to pay allotment and calls
money and Ram Lal, to whom 5,000 shares were allotted failed to pay the two calls.
These shares were forfeited after the second call made.
Give Journal Entries
Solution
Journal of Satara Chemicals Works Ltd.
(1)
Bank A/c
Dr.
Cr.
Rs.
Rs.
Dr. 30,00,000
To Share Application A/c
30,00,000
(Being application money of Rs.20 per
share received on 1,50,000 shares
applied for)
(2)
Share Application A/c
Dr. 30,00,000
To Share Capital A/c
20,00,000
To bank A/c
6,00,000
To Share Allotment A/c
4,00,000
(Transfer of application money on 1,00,000
shares actually allotted to Capital A/c; on
30,000 shares refunded; and on 20,000
shares (being pro-rata basis allotment)
to share allotment A/c)
29
(3)
Share Allotment A/c
Dr. 50,00,000
To Share Capital A/c
To Share Premium A/c
(Being allotment money of Rs.30 and
Premium of Rs.20 per share due on
1,00,000 shares allotted)
(4)
Bank A/c
Dr. 44,16,000
To Share Allotment A/c
(Being receipt of the remaining allotment
money)
(5)
Share First Call A/c
Dr. 20,00,000
To Share Capital A/c
(Being Ist Call of Rs.20 per share due on
1,00,000 shares)
(6)
Bank A/c
Dr. 18,20,000
To Share First Call A/c
(Being receipt of Ist Call money on 91,000
shares i.e.; 1,00,000 shares - 4000 - 5000
shares on which call not received)
(7)
Share Final Call A/c
Dr. 30,00,000
To Share Capital A/c
(Being a final call of Rs.30 per share due
on 1,00,000 shares)
(8)
Bank A/c
Dr. 27,30,000
To Share Final Call A/c
(Being final call money received on
91,000 shares)
(9)
Share Capital A/c
Dr. 9,00,000
Share Premium A/c
80,000
To Share Forfeited A/c
To Share Allotment A/c
To Share First Call A/c
To Share Final Call A/c
(Being forfeiture of 9,000 shares of Rs.100 each fully
called-up; for non-payment of various calls, and amount
of premium not received on 4,000 shares debited to share
premium A/c)
30
30,00,000
20,00,000
44,16,000
20,00,000
18,20,000
30,00,000
27,30,000
3,46,000
1,84,000
1,80,000
2,70,000
9.5.10 Surrender of shares
After the allotment of shares, sometimes a shareholder is not able to pay the
further calls and returns his shares to the company for cancellation. Such voluntary
return of shares to the company by the shareholder himself is called surrender of shares.
Surrender of shares has no separate accounting treatment but it will be like that of
forfeiture of shares. The same entries (as are passed in case of forfeiture of shares)
will be passed in case of surrender of shares.
9.5.11 Redemption of preference shares
According to Sec.100 of the companies Act, a company is not allowed to return
to its shareholders the share capital without the permission of the Court. However the
company can issue a special category of shares known as Redeemable Preference
Shares, which the company can redeem during its life time as per the provisions of
Sec.80 of the Companies Act. The following important provisions regarding the
redemption of Preference Shares are given under Section 80 of the Companies Act.
1.
Such Shares cannot be redeemed unless they are fully paid-up.
2.
Such shares can be redeemed either out of profits which would be available for
dividend or out of the proceeds of a fresh issue of shares made with the object
of redemption.
3.
When shares are redeemed out of profits available for distribution for dividend,
a sum equal to the nominal amount of the shares so redeemed must be transferred
out of profits to a reserve account to be called 'Capital Redemption Reserve
Account'.
4.
Capital Redemption Reserve Account can be used for issuing fully paid bonus
shares to the shareholders.
31
5.
Any premium payable on redemption of preference shares should be provided
either out of profits or out of the share premium account.
Accounting Entries
The following are the accounting entries to be passed in the books of a company
which wants to redeem its redeemable preference share capital:
(i)
For making partly paid up shares fully paid up
(a)
Redeemable Preference Share Final Call A/c
Dr.
To Redeemable Preference Share Capital A/c
(Being final call being made)
(b)
Bank A/c
Dr.
To Redeemable Preference Share Final Call A/c
(For money realised on final call)
(ii)
For redeeming out of profits
Profit & Loss A/c/Revenue Reserve A/c
Dr.
To Capital Redemption Reserve A/c
(iii)
For a fresh issue of shares
Bank A/c
To Share Capital A/c
Dr.
(In case of issue of shares at premium or discount, the
relevant account should be credited or debited)
iv)
Making provision for payment of premium on redemption of
preference shares
Share Premium/Profit and Loss/Revenue
Dr.
Reserve A/c
To Premium on Redemption of Preference Shares A/c
32
(v)
For money due to redeemable preference shareholders
Redeemable Preference Share Capital A/c
Dr.
Premium on Redemption of Preference Shares A/c
Dr.
To Redeemable Preference Shareholders/Preference Shares
Redemption A/c
(vi)
For making payment to redeemable preference shareholders
Redeemable Preference Shareholders A/c
Dr.
To Bank A/c
(vii)
For issue of bonus shares
(a)
Capital Redemption Reserve/Share Premium/
Revenue Reserve A/c
Dr.
To Bonus Payable A/c
(b)
Bonus Payable A/c
Dr.
To Share Capital A/c
ILLUSTRATION 7: Following is the Balance Sheet of Moon Ltd., as on 31st December
1998.
Balance Sheet
Liabilities
Rs.
Assets
Share Capital
Sundry Assets
Rs.
8,00,000
50,000 Equity Shares
of Rs.10 each
5,00,000
2,000 6% Redeemable
Preference Shares
of Rs.100 each
2,00,000
Profit and Loss A/c
50,000
Sundry Creditors
50,000
8,00,000
8,00,000
33
The Directors of the company decided to issue 20,000 equity shares of
Rs.10 each at par and use the proceeds to redeem the preference shares.
Pass the journal entries and show the Balance-Sheet after the redemption
is completion is complete.
Solution
Journal Entries
Date
Particulars
Dr.
Rs.
31.12.98
Cr.
Rs.
Redeemable Preference Share
Capital A/c
Dr.
2,00,000
To Preference Shareholders A/c
2,00,000
(Being amount of capital Payable
on redemption)
31.12.98
Bank A/c
Dr.
2,00,000
To Equity Share Capital A/c
2,00,000
(Being amount received on issue
of 20,000 equity shares of Rs.10
each, for the purpose of redemption)
31.12.98
Preference
Shareholder's A/c
Dr.
To Bank
2,00,000
2,00,000
(Being the payment of the amount
due to the redeemable preference
shareholders)
34
Balance Sheet
Liabilities
Rs.
Assets
Share Capital
Sundry Assets
Rs.
8,00,000
70,000 Equity Shares
of Rs.10 each
7,00,000
Profit and Loss A/c
50,000
Sundry Creditors
50,000
8,00,000
8,00,000
Note : The Redeemable preference Share Capital is now replaced by additional Equity
Share Capital. Equity shares will now be 70,000. (50,000 as per balance-sheet + newly
issued 20,000 shares).
9.6
SUMMARY
A company si a voluntary and autonomous association of certain persons with
capital divided into numerous transferable shares formed to carry out a particular
purpose in common. These are two types of shares which a company may issue i.e.
preference shares and equity shares. Share capital of a company is divided into different
categories namely authorised, issued, subscribed, called-up, paid-up and reserve capital.
A company can issue shares for cash and for consideration other than cash. When shares
and issued to public for cash, the company issues prospectus, receive applications,
make allotments and make calls. In case the issue price of a share is more than the
fixed value/par value of a share, the issue of shares is said to be at a premium. If a
shareholder defaults in payment of instalments of issue price of a share called by the
company, the Board of Directors may decide to forfeit the shares held by the defaulting
shareholder by following the procedure laid down in the articles of association of the
company.
35
9.7
KEYWORDS
Company: It is a voluntary and autonomous association of persons with capital divided
into numerous transferable shares formed to carry out a particular purpose in common.
Paid-up Capital: The part of the called up capital which is offered and is actually paid
by the members is known as paid-up capital.
Share: Authorised capital of a company is split up into units with definite face value
called shares.
Preference Shares: These are those shares which carry certain priorities in regard to
the payment of dividend and return on capital over the equity shares.
Under-Subscription: When the number of shares applied for by the public is less than
the number of shares issued by the company, the issue is said to be under-subscribed.
Surrender of Shares: Voluntary return of shares to the company by the shareholder
himself is called surrender of shares.
9.8
SELF ASSESSMENT QUESTIONS
1.
What is meant by Share Capital? Explain the different categories of share capital
with the help of an illustration.
2.
3.
Distinguish between
(a)
Over-subscription and under-subscription.
(b)
Calls in arrears and calls in advance.
(c)
Forfeiture of shares and surrenders of shares.
Give the journal entries only with narration of the following:
(a)
Forfeiture of shares issued at a premium.
(b)
Forfeiture of shares issued at a discount.
(c)
Redemption of redeemable preference shares.
(d)
Interest on calls in advance.
36
4.
What are the provision of Companies Act, 1956 regarding redemption of
redeemable preference shares?
5.
A limited company offered for subscription 50,000 equity shares of Rs.10 each
at a premium of Rs.1.25 per share and 2,500 six per cent cumulative preference
shares of Rs.100 each at par. The shares were payable as follows :
On application Rs.3.75 per equity share (including the premium) and Rs.25 per
preference shares ; on allotment Rs.2.50 per equity share and Rs.25 per
preference share; on first and final call the balance due in both cases.
The public applied for 80,000 equity shares and 2,000 preference shares.
Applications for 5,000 equity shares were declined, the application money being
returned. The remaining applicants received allotment for two-thirds of their
applications. Applications for preference shares were allotted in full.
Give journal entries to record these transactions in the company's books.
6.
New Ventures Ltd. made an offer of 1,00,000 Equity Shares of Rs.10 each
payable as follows:
On application
Rs.2 per share
On allotment
Rs. 2 per share
On first call
Rs. 3 per share
On second call
Rs.3 per share
Applications were received for 1,60,000 shares and allotments were made prorata to the applicants for 1,50,000 shares, the remaining applications being
refused and money refunded. Application money paid in excess by the allottees
was adjusted with the money due on allotment.
Romesh the holder of 200 shares failed to pay the allotment money and on his
failure to pay the first call, the shares were forfeited.
Karim another shareholder to whom 500 shares were allotted failed to pay the
first and second call amounts and his shares were also forfeited after making
the second call.
37
Out of the forfeited shares, 600 shares were reissued as fully paid on payment
of Rs.9 per share.
You are required to show the journal entries for recording the forfeitures and
re-issue of the shares.
7.
A company has 4,000 6% redeemable preference shares of Rs.100 each fully
paid. The company decides to redeem the shares on December 31, 1998 at a
premium of 5 per cent. The company makes the following issues:
(a)
1,000 equity shares of Rs.100 each at a premium of 10 percent.
(b)
1,000 9% debentures of Rs.100 each.
The issue was fully subscribed and all the amounts were received. The redemption
was duly carried out. The company has sufficient profits. Give journal entries.
9.9
SUGGESTED READINGS
1.
Fundamentals of Advanced Accounting by R.S.N. Pillai and V. Bagavathi, S. Chand
and Co. Ltd., New Delhi.
2.
Studies in Advanced Accounting by S.N. Maheshwari, Sultan Chand and Sons,
New Delhi.
3.
Financial Accounting by Shashi K. Gupta, Nisha Aggarwal and Neeti Gupta,
Kalyani Publishers, Ludhiana.
4.
Financial Accounting by P.C. Tulsian, Pearson Education, New Delhi.
5.
Principles of Financial Accounting by P.C. Gupta and C.L. Chaturvedi, Shree
Mahavir Book Depot, New Delhi.
38
LESSON -10
ACCOUNTING FOR DEBENTURES
STRUCTURE
10.0 Objective
10.1 Introduction
10.2 Classification of Debentures
10.3 Distinction between Debentures and Shares
10.4 Issue of Debentures
10.5 Interest on Debentures
10.6 Redemption of Debentures
10.7 Summary
10.8 Keywords
10.9 Self Assessment Questions
10.10 Suggested Readings
10.0 OBJECTIVE
By reading this lesson, you would know about
(a)
Accounting Treatment for issue of debentures
(b)
Entries for issue and redemption of debentures
10.1 INTRODUCTION
The financial requirements of a company may be met by raising share
capital or by going for public borrowing. One kind of such a public borrowing
is issue of debentures. Debenture is the acknowledgment of a debt given
under the seal of the company and contains a contract for the repayment of
the principal at a specified date and for the payment of interest at fixed rate
percent until the principal sum is repaid. A debenture holder is not entitled
to vote in the meetings of the company. Rate of interest payable on
debenture is fixed and generally less than the rate of dividend payable on
1
equity shares. One advantage to the company in issuing debentures is the
interest on debentures is allowed to be deducted for the purpose of taxable
income computation of the company.
10.2 CLASSIFICATION OF DEBENTURES
A company may issue various kinds of debentures with different rights
as given below :
(A)
From Security Point of view
1.
Naked Debentures
Naked debentures or unsecured debentures are those which are not
secured on any asset. The general solvency of the company is the only
security for the holders of these debentures.
2.
Secured Debentures
Secured debentures are those which are secured either on a particular
asset or on all the assets of the company. In India, only the secured
debentures can be issued.
(B)
From Redemption Point of view
1.
Redeemable Debentures
These are the debentures under which the principal money is paid off
to the debenture holders on the expiry of the fixed term.
2.
Irredeemable Debentures
In the case of irredeemable debentures the company does not give
any undertaking of repaying the money borrowed by issuing debentures, after
a fixed time or within a fixed period during the continuance of business by
the company. Company may repay debentures at any time it may choose to
do so, but the creditors cannot compel the company to repay them at any
certain time. They shall, however, be repaid when the company goes into
liquidation or makes a default in the payment of interest.
2
(C)
From Conversion Point of view
1.
Convertible Debentures
Convertible debentures are those which give an option to debenture
holders to convert them into equity or preference share at a stated rate of
exchange after a certain period.
2.
Non-Convertible Debentures
These are those debentures, the holders of which do not have a right
to convert them into shares.
(D)
From Priority Point of view
1.
First Debentures
First debentures are those debentures which are paid first before any
payment is made to another type of debentures.
2.
Second Debentures
Debentures which are payable after the redemption of the first
debentures are known as second debentures.
(E)
From Transferability Point of view
1.
Registered Debentures
Registered debentures are those which are payable to the persons
whose name appears in the Register of Debenture holders. Interest is paid
to the registered holder. These can be transferred only by executing a transfer
deed.
2.
Bearer Debentures
Bearer debentures are treated as negotiable instruments and are
transferable by delivery alone. The names of the holders of such debentures
are not required to be registered in the Register of Debenture holders.
Interest is paid to the person who produces the interest coupon attached to
it.
3
10.3 DISTINCTION BETWEEN DEBENTURES AND SHARES
The following are the points of distinction between debentures and
shares :
(i)
Creditorship Security v. Ownership Security : Whereas a debenture
is a creditorship security, a share is an ownership security. It means that a
debentureholder is a creditor of the company, while a shareholder is a partowner of the company. It is the fundamental distinction between a debenture
and a share.
(ii)
Certainty of return : A debentureholder is certain of return on his
investment. The company has to pay interest on debentures at the fixed rate
agreed upon at the time of issue even if it suffers heavy losses. A shareholder
cannot get dividends if the company does not earn profits. As a matter of
fact, even when a company earns a profit, its Directors may decide to plough
back the profits and not declare a dividend. Thus, there is no certainty of
return on investment in shares.
(iii)
Order of repayment on winding up : In case of winding up of a
company, the amount of debentures will be repaid before any amount is
paid to shareholders to return share capital.
(iv)
Restrictions on issue at a discount : There are not restrictions on
issue of debentures at a discount, but there are legal conditions which have
to be fulfilled to issue shares at a discount.
(v)
Mortgage : There can be mortgage debentures. It means that assets
of the company can be mortgaged in favour of debentureholders by way of
security. But there can be no mortgage shares.
(vi)
Convertibility : Debentures which can be converted into shares at
the option of debentureholders can be issued. But shares convertible into
debentures cannot be issued.
4
10.4 ISSUE OF DEBENTURES
The entries for issue of debentures is exactly the same as in the case
of shares. The only differences are that the term 'Debenture' is substituted
for the word 'Share' and the percentage of interest is pre-fixed to term
'Debenture'. They can also be issued at par, premium or discount. However,
the legal restrictions regarding use of premium money or issuing at discount
applicable in case of shares, are not applicable to debentures. A company
can issue debentures in any of the following ways :
a)
for cash
b)
for consideration other than cash
c)
as collateral security
Issue of debentures for cash
The debentures can be issued at par value, at premium or at discount.
The cash receivable on issue of debentures can be collected in one lump
sum or by installments as is done in the case of shares. The accounting
entries are given below :
1.
For receipt of application money
Bank A/c
Dr.
To Debenture Application A/c
2.
On allotment of debentures
Debenture Application A/c
Dr.
To Debentures A/c
(Being transfer of debenture application money)
Debenture Allotment A/c
Dr.
To Debentures A/c
(For allotment money due)
Bank A/c
Dr.
To Debenture Allotment A/c
(Being receipt of allotment money)
5
In case allotment is made at premium and premium is to be received
on allotment, the entry for amount due on allotment will be :
Debenture Allotment A/c
Dr.
To Debentures A/c
To Debenture Premium A/c
In case allotment is made at discount, the entry will be :
Debenture Allotment A/c
Dr.
Discount on issue of Debentures A/c Dr.
To Debentures A/c
3.
On First call:
Debentures First Call A/c
Dr.
To Debentures A/c
(Being First/Second/Final call due)
Bank A/c
Dr.
To Debenture First Call A/c
(Being First call money received)
Note : Similar entries may be made for the Second Call and Third Call through
Debenture Second Call Account & Debenture Third Call Account
respectively. In case of last call the word " Final" is also added to the
concerned Debenture Call Account.
ILLUSTRATION 1 : A company issued 10,000 debentures of Rs.100 each
for subscription. The debenture money was payable money was payable as
follows:
Rs.30 on application, Rs.40 on allotment, Rs.20 on first call and
Rs.10 on second and final call. A person who holds 200 debentures failed
to pay the amount due on allotment. He, however, pays this amount with the
first call money. Another person who is holding 400 debentures paid all the
calls in advance on allotment.
Give journal entries in the books of the company.
6
Solution
JOURNAL
Dr.
Rs.
Cr.
Rs.
Bank Account
Dr.
3,00,000
To Debentures Application Account
(Being the receipt of the application money
on 10,000 debentures @ Rs.30 per debenture)
3,00,000
Debenture Application Account
Dr.
To Debenture Account
(Being the transfer of the application
money on 10,000 debentures
to debentures account)
3,00,000
Debenture Allotment Account
Dr.
To Debentures Account
(Being the allotment amount due on
10,000 debenture @ Rs.40 per debenture)
4,00,000
Bank Account
Dr.
To Debentures Account
To Debenture calls in advance Account
(Being the receipt of allotment money on
9,800 debentures and call money @ Rs.30
per debenture on 400 debentures)
4,04,000
3,00,000
4,00,000
3,92,000
12,000
Debenture First Call Account
Dr.
2,00,000
To Debentures Account
(Being the first call due on 10,000 debentures
@ Rs.20 per debentures)
Debentures call in advance Account Dr.
To Debenture First Call Account
(Being the transfer of Rs.8,000 received in
advance on 400 debenture first call account)
Bank Account
Dr.
To Debenture First Call Account
To Debenture Allotment Account
(Being the receipt of the arrears of the
allotment and the amount due on account
of first call)
7
2,00,000
8,000
8,000
2,00,000
1,92,000
8,000
Debenture Second & final Call AccountDr.
To Debentures Account
(Being the amount due on 10,000
debentures @ Rs.10 per debenture)
Bank Account
Dr.
Debenture calls in advance Account Dr.
To Debentures Account
(Being the adjustment of debentures
calls in advance and receipt of second
call on debentures)
1,00,000
1,00,000
96,000
4,000
1,00,000
Terms of issue of debentures
A company is free to issue the debentures on any terms it likes. These
terms may not only relate to issue but also to redemption. The following
possibilities of the issue and redemption of debentures may, however, be
considered :
1.
Case No.
Conditions of Issue
Conditions of Redemption
I
Issue at par
Redemption at par
II
Issue at premium
Redemption at par
III
Issue at discount
Redemption at par
IV
Issue at par
Redemption at premium
V
Issue at discount
Redemption at premium
Debentures issued at par and payable at par
On issue of debentures
Bank A/c
Dr.
To Debentures A/c
On Payment
Debentures A/c
Dr.
To Bank A/c
In case money is received in different installments, say on application,
allotment, first call etc., entries will be made in the manner already
discussed in the previous pages.
8
2.
Debentures issued at discount and payable at par
On Issue
Bank A/c
Dr.
Discount on issue of debentures A/c Dr.
To Debentures A/c
In case money is received in installments, the entry for discount will
be made with money due on allotment.
Debenture allotment A/c
Dr.
Discount on issue of debentures A/c
Dr.
To Debentures A/c
On payment
Debentures A/c
Dr.
To Bank A/c
3.
Debenture issued at premium payable at par
On issue
Bank A/c
Dr.
To Debentures A/c
To Premium on issue of debentures A/c
In case money is received in installments, the entry for premium,
will be made with money due on allotment unless otherwise stated.
Debenture Allotment A/c
Dr.
To Debentures A/c
To Premium on Issue of Debentures
On payment
Debentures A/c
Dr.
To Bank A/c
4.
Debentures issued at par, payable at premium
On issue
Bank A/c
Dr.
Loss on issue of debentures A/c
Dr.
To Debentures A/c
To Premium on redemption of
debentures A/c
9
A/c
In case the money is received on debentures in installments, the entry
for the amount of premium payable on redemption, will be made with the
entry for money due on allotment.
Debenture allotment A/c
Dr.
Loss on issue of debentures A/c
Dr.
To Debentures A/c
To Premium on redemption of debentures A/c
On payment
Debentures A/c
Dr.
Premium on redemption of debentures A/c
To Bank A/c
5.
Dr.
Debentures issued at discount, payable at premium
On issue
Bank A/c
Dr.
Loss on issue of debentures A/c
Dr.
To Debentures A/c
To Premium on redemption of Debentures A/c
In case money on debentures is received in installments, the entry of
loss on issue will be made with allotment at in case of point (4).
On payment
The entry on payment will also be the same as indicated in point (4).
Issue of shares for consideration other than cash
Sometimes the companies may go for issue of debentures towards
consideration for purchase of any fixed asset. In such cases the journal entry
would be :
i)
For purchase of asset
Asset A/c
Dr.
To Vendor A/c
(Being purchase of assets)
10
ii)
For issue of debentures
Vendor A/c
Dr.
To Debentures A/c
(Being issue of debentures)
Issue of debentures as collateral security
When a company borrows money from the outsiders like, banks,
financial institutions it may issue debentures as an additional security
besides giving the principal security on assets. These debentures are issued
to the lender on the understanding that in case the company pays back the
loan they will be returned to the company, but in case it fails to pay the
loan, the lender will be the debenture holder to the extent of debentures so
held and will have all the rights which are available to the debenture holders
of that class.
There are two ways of dealing with such debentures in the accounts
of the company.
1.
No entry is made in the books of accounts of the company. A note is
given in the Balance Sheet regarding depositing of the debentures as
collateral security.
2.
The transaction may be recorded in the books of accounts of the
company by passing the following entry:
(a)
On the issue of such debentures
Debenture Suspense A/c
Dr.
To Debenture A/c
(b)
On release of such debentures
Debentures A/c
Dr.
To Debenture Suspense A/c
ILLUSTRATION 2: A Ltd. made the following issue of debentures:
(i)
For cash at 90 per cent but payable at 110 per cent; debentures of
Rs.10,000.
11
(ii)
To a creditor who supplied machinery costing Rs.1,00,000; 1,100
debentures of Rs.100 each.
(iii)
To Bank for a loan of Rs.7,00,000 as collateral security, 10,000
debentures of Rs.100 each.
Journalise the transactions.
Solution
JOURNAL
Dr.
Rs.
(i)
Bank A/c
Dr.
9,000
Loss on issue of Debentures A/c
Dr.
2,000
To Debentures A/c
Cr.
Rs.
10,000
To Premium on redemption of Debenture A/c
1,000
(Being issue of 100 debentures of Rs.100 each
90 per cent but payable at 110 per cent)
(ii)
Vendor's A/c
Dr.
1,00,000
Discount on Issue of Debentures A/c
Dr.
10,000
To Debentures
1,10,000
(Being allotment of 1,100 debentures of
Rs.100 each to the vendor in discharge of
the purchase consideration of Rs.1,00,000
for machinery purchased)
(iii)
Either no entry may be passed and simply
a note to that effect may be given in the
Balance Sheet or the following entry may be
passed :
Debenture Suspense A/c
Dr.
To Debentures A/c
10,00,000
10,00,000
(Debentures issued by way of collateral
security to the bank)
12
Writing off the loss on issue of debentures
The loss on issue of debentures i.e., the discount on issue of
debentures or premium payable on redemption of debentures appears on
the assets side of the Balance Sheet as a fictitious Asset and it is prudent to
write it off as early as possible. The loss can be written-off from any capital
profit including the share premium or revenue profit by the following entry:
Capital Reserve/P&L A/c Dr.
To Loss (discount) on issue of debentures
However writing off the loss on issue of debentures is not a legal
necessity.
In case such loss is written off from Profit and Loss Account as a
deferred revenue expenditure, the amount to be written off each year will
be calculated as follows :
1)
When debentures are to be redeemed after a fixed period.
When the debentures are to be redeemed after a fixed period, the
amount of loss is written off evenly over the years after which the debentures
will be redeemed as the company enjoys the benefits evenly throughout the
period of debentures.
2)
When debentures are to be redeemed in installments.
When the debentures are to be redeemed in installments, the funds
used each year go on diminishing and hence the loss on issue of debentures
is also divided over different years in the ratio of amount of debentures
outstanding at the beginning of each year.
ILLUSTRATION 3: On Ist January, 1994, a limited company issue
debentures of the face value of Rs.1,00,000 at a discount of 6%. The
debentures were repayable by annual drawings of Rs.20,000 made on 31
December each year. The directors decided to write off the discount on
13
issue over the period of the debentures in such a way as to charge each year
with an amount proportionate to debentures outstanding in that year.
Show the amount of the discount that should be written off in each of
the five years.
Solution
Year
Total amount
of debentures
outstanding
Ratio
1994
1995
1996
1997
1998
1,00,000
80,000
60,000
40,000
20,000
5
4
3
2
1
Proportion
to be written
off
5/15
4/15
3/15
2/15
1/15
Amount to be
written off
5/15
4/15
3/15
2/15
1/15
of
of
of
of
of
Rs.6,000=2,000
Rs.6,000=1,600
Rs.6,000=1,200
Rs. 6,000= 800
Rs. 6,000= 400
15
6,000
10.5 INTEREST ON DEBENTURES
Interest on debentures is charged to the Profit and Loss Account.
While paying the interest on debentures, it is the obligation on the company
concerned to deduct the income-tax before making payment of interest to
debenture holder. The following journal entries and passed in this
connection :
(i)
When interest on debentures is due
Interest on Debentures Account (with gross amount)
To Income-tax Account (with income-tax)
To Debentureholders Account (with net amount)
(ii)
When net amount due is paid
Debentureholders Account
To Bank Account
14
Dr.
Dr.
Interest on debentures is transferred to the debit side of Profit and
Loss Account. The credit balance of Income-tax Account is shown on the
liabilities side of the Balance Sheet. As and when it is paid to the Government
this account is debited and bank account will be credited.
10.6 REDEMPTION OF DEBENTURES
Redemption of debentures means to discharge the liability on account
of debentures. The terms of redemption are stated in the prospectus inviting
application for debentures. The various sources out of which the debentures
may be redeemed are (a) out of profits (b) out of capital (c) Redemption by
conversion (d) Redemption by purchase of debentures in the open market,
and (e) out of provisions made for redemption.
1.
Redemption out of profits
When debentures are redeemed out of profits, profits of the company
are utilised for the purpose of redemption with holding the same for
dividend. In such a case, the following journal entries will be passed :
(a)
If the debentures are to be redeemed at par
Debentures A/c
Dr.
To Debenture-holders' A/c
(b)
If the debentures are to be redeemed at a premium
Debentures A/c
Dr.
Premium on Redemption of Debentures A/c Dr.
To Debenture-holder's A/c
(c)
If the debentures are to be redeemed at a discount
Debentures A/c
Dr.
To Debenture-holders' A/c
To Profit on Redemption of debentures A/c
15
(d)
For amount paid on redemption
Debenture holder Account
Dr.
To Bank
(e)
For transfer of Profit
Profit & Loss Appropriation Account
Dr.
To Debentures Redemption Reserve Account
(f)
When balance of Debentures Redemption Reserve Account is not
required for redemption and is transferred to General Reserve Account
Debenture Redemption Reserve Account
Dr.
To General Reserve
The balance of general reserve is a free reserve and will be available
for all purposes.
2.
Redemption out of capital
If debentures are redeemed out of capital or profits are not utilised
for redemption of debentures, such redemption is said to be out of capital.
When debentures are redeemed out of capital, the following journal entry
is made:
Debentures A/c
Dr.
To Bank A/c
Such redemption will not affect the balance of either Profit and Loss
Account or Debentures Redemption Reserve Account. This method is
preferred as it does not mix the amount unpaid to debentureholders with
the debentures account.
3.
Redemption by conversion
Redemption by conversion means redeeming the debentures by
converting them into new class of debentures or shares. Such option is
16
exercised by the debentureholders only when they find it beneficial from
their viewpoint. The new shares or debentures can be issued either at par or
at a premium or at a discount. The following journal entry will be made :
Old Debenture A/c Dr.
To New Debentures or Share Capital A/c
In case the new issue is at discount/premium
Old Debenture A/c
Dr.
Discount on Issue of Shares/ Debentures A/c
Dr.
To New Share Capital/Debenture A/c
To Premium on Issue of Shares/Debentures A/c
ILLUSTRATION 4: On July 1, 1996 A Ltd. gave notice of its intention to
redeem its outstanding Rs.4,00,00,000 4½% Debenture stock on January
1, 1997 at 102 per cent and offered the holder, the following options :
(1)
To apply the redemption money to subscribe for :
(a)
6% Cum. Pref. shares of Rs.20 each at Rs.22.50 per share
accepted by the holders of Rs.1,71,00,000 stock, or
(b)
6% Debenture stock of Rs.96% accepted by the holders of
Rs.1,44,000 stock, or
(2)
To have their holdings redeemed for cash if neither of the options
under (1) was accepted.
You are required to show the journal entries necessary to record the
redemption and allotments under (1) and (2) and to state the amount of cash
required to satisfy the option.
17
Solution
JOURNAL
Dr.
Rs.
4½% Debentures A/c
Dr. 4,00,00,000
Premium on Redemption of Debentures A/c
Dr.
Cr.
Rs.
8,00,000
To Debenture-holders A/c
4,08,00,000
(Redemption of Debentures of Rs.4,00,00,000
at 102 per cent)
Debentureholders A/c
Dr. 1,74,42,000
To 6% Cum. Preference Share Capital A/c
1,55,04,000
To Share Premium A/c
19,38,000
(Debenture holders of Rs.1,71,00,000 (Reredemption value Rs.1,74,42,000) accepted
Cum. Pref. Shares of Rs.20 each at Rs.22.50
per share)
Debenture-holders A/c
Dr. 1,46,88,000
Discount on Issue of Debentures A/c
Dr.
6,12,000
To 6% Debentures A/c
1,53,00,000
(Debenture-holders of Rs.1,44,00,000
(redemption value Rs.1,46,88,000) issued
new 6% Debentures at Rs.96 per cent)
Debenture-holders A/c
Dr.
To Bank
86,70,000
Debenture holders of Rs.85,00,000 (Redemption value Rs.86,70,000) paid in
cash).
Total amount required for Redemption is
Rs.4,08,00,000, i.e.
86,70,000
4,00,00,000 x
102
100
18
4.
Redemption by purchase of debentures in the open market
A company can purchase its own debentures in the open market i.e.
in a stock exchange either for immediate cancellation or for the purpose of
keeping them as investments. This kind of purchase will be generally taken
up specially when they are quoted at the low prices. The advantage in this
method is that the company can redeem the debentures at its convenience,
i.e. whenever it has surplus funds. The purchase may be at the prices less
than the paid up value of the debentures. In such case the company earns
profits on cancellation of such debentures. The said profit is a capital profit
and it can be used for writing-off of any capital loss such as discount on
issue of debentures, etc., or it can be transferred to capital reserve.
Some times the debentures may be purchased in the open market at
the higher prices than the nominal value of the debentures. In such cases,
the company suffers a loss and again it is a capital loss which can be written
off either from the Profit & Loss Account or from any capital profit.
The journal entries which are required to passed are given below :
1.
When debentures are purchased in the open market for immediate
cancellation
(a)
On purchase of own debentures for immediate cancellation on profit
Debentures A/c
Dr.
To Bank A/c
To Profit on Redemption of Debentures A/c
(b)
On purchase of own debentures for immediate cancellation on loss
Debentures A/c
Dr.
Loss on Redemption of Debentures A/c Dr.
To Bank A/c
19
(c)
On transfer of profit on redemption
Profit on Redemption of Debentures A/c
Dr.
To Capital Reserve A/c
II
When debentures are purchased in the open market for investment
purpose
(a)
On purchase of own debentures
Own Debentures A/c
Dr.
To Bank A/c
(b)
On cancellation of own debentures
Debentures A/c
Dr.
To Own Debentures A/c
To Profit on Redemption of Debentures A/c
(c)
On transfer of profit on redemption
Profit on Redemption A/c
Dr.
To Capital Reserve A/c
5.
Redemption out of provisions
It is always a wise policy for the company to make arrangements in
advance to repay the known liability for redemption of debentures. This can
be done by making provision otherwise it will be difficult for the company
to arrange lumpsum to repay debts. This is possible by adopting either the
sinking fund method or insurance policy method.
Sinking fund method
Sinking fund is created by setting aside every year a certain sum of
money in Profit and Loss Appropriation Account, investing it in outside
securities and reinvesting the interest received. Thus investments
accumulate to the desired figure at the end of the desired period When the
time of redemption comes the securities are realised and the sale proceeds
20
are utilised for the purpose of redemption. The amount to be invested
annually can be ascertained from the Sinking Fund Tables. This method
resembles with that of Depreciation Fund Method. The accounting entries
in such case are :
(A)
At The End of the First year
(1)
Profit and Loss Appropriation A/c
Dr.
To Debenture Sinking Fund A/c
(Being Amount set aside from profits
for redemption)
(2)
Sinking Fund Investment A/c
Dr.
To Bank A/c
(Being amount set aside invested in securities)
(B)
At the End of Second Year & Subsequent Year
(1)
Bank A/c
Dr.
To Interest on Sinking Fund Investment A/c
(Being Interest received on the investments at ...%)
(2)
Interest on Sinking Fund Investment A/c
Dr.
To Sinking Fund A/c
(Being interest on investment transferred
and credited to Fund A/c)
(3)
Profit and Loss Appropriation A/c
Dr.
To Sinking Fund A/c
(Being amount set aside from profits for redemption of
debentures)
(4)
Sinking Fund Investment A/c
To Bank A/c
(Being amount set aside plus interest
received invested in securities)
21
Dr.
(C)
At the End of Last Year (When Debentures Are to be Redeemed)
(1)
Bank A/c
Dr.
To Interest on Sinking Fund Investment A/c
(Being interest received)
(2)
Interest on Sinking Fund Investment A/c
Dr.
To Sinking Fund A/c
(Being interest transferred)
(3)
Profit and Loss Appropriation A/c
Dr.
To Sinking Fund A/c
(Being sales proceeds of investments)
(4)
Bank A/c
Dr.
To Sinking Fund Investment A/c
(Being sales proceeds of investments)
(5)
Sinking Fund Investment A/c
Dr.
To Sinking Fund A/c
(Being profit on sale of investment transferred)
OR
Sinking Fund A/c
Dr.
To Sinking Fund Investment A/c
(Being loss on sale of investment transferred)
(6)
Debentures A/c
Dr.
To Bank A/c
(Being debentures redeemed)
(7)
Sinking Fund A/c
Dr.
To General Reserve A/c
(Being transfer of Sinking A/c balance)
22
ILLUSTRATION 5: A Company issued Rs.2,00,000 in 5% Debentures of
Rs. 100 each at par, repayable at the end of 5 years at a premium of 6% . A
Sinking Fund at 4% compound interest is created for the redemption of
debentures.
You are required to prepare Sinking Fund Account and Sinking Fund
Investment Account for 5 years (Re. 1 per year at 4% compound interest
amounts to Rs.5.4613 in 5 years).
Solution :
When the amount is Rs.5.4163, the annual instalment is Re.1
∴ When the amount is Rs.2,12,000 (Rs.2,00,000 Debentures
+ Rs.12,000 premium on redemption of debentures),
The annual instalment is 2,12,000
5.4163
23
= Rs. 39,141
SINKING FUND ACCOUNT
Dr.
Cr.
Year1 To Balance c/d
Rs.
39,141 Year 1
Year2 To Balance c/d
79,848 Year 2
By P & L Appropriation A/c
By Balance b/d
By Interest on
Sinking Fund
Investment A/c
By P & L Appropriation A/c
79,848
Year 3 To Balance c/d
39,141
1,566
39,141
79,848
1,22,183 Year 3
1,22,183
Year 4 To Balance c/d
Rs.
39,141
By Balance b/d
By Int. on Sinking
Fund Investment A/c
By P & L. Appropriation A/c
79,848
3,194
39,141
1,22,183
1,66,211 Year 4
1,66,211
By Balance b/d
1,22,183
By Int. on Sinking
Fund Investment A/c
4,887
By P & L Appropriation A/c
39,141
1,66,211
Year 5 To Loss on issue
Year 5
of Debentures
A/c
12,000
To General
Reserve A/c
2,00,000
2,12,000
By Balance b/d
1,66,211
By Int. on Sinking
Fund Investment A/c
6,648
By P & L Appro39,141
priation A/c
2,12,000
24
SINKING FUND INVESTMENT ACCOUNT
Dr.
Year 1 To Bank A/c
Rs.
39,141 Year 1
By Balance c/d
Cr.
Rs.
39,141
Year 2 To Balance b/d
39,141 Year 2
By Balance c/d
79,848
To Bank A/c
40,707
79,848
Year 3 To Balance b/d
79,848
79,848 Year 3
To Bank A/c
By Balance c/d
42,335
1,22,183
Year 4 To Balance b/d
1,22, 183
1,22,183 Year 4
BY Bank A/c
By Balance c/d
1,66,211
44,028
1,66,211
Year 5 To Balance b/d
1,22,183
1,66,211
1,66,211 Year 5
By Bank A/c
1,66,211
Insurance policy method
The company may take an insurance policy for redemption of
debentures in place of purchasing investments. The policy will be taken for
a period which will enable the company to get the required money on the
required date. The amount of premium will have to be paid in the beginning
of the year.
Accounting Entries
In the first and subsequent accounting years
On payment of premium:
Debenture Redemption Fund Policy A/c
Dr.
To Bank A/c
At the end of the accounting year
For setting aside the amount of premium
P & L Appropriation A/c
Dr.
To Debenture Redemption Fund A/c
25
In the last year
On payment of premium
Debenture Redemption Fund Policy A/c
Dr.
To Bank A/c
For setting aside the amount of premium
P & L Appropriation A/c
Dr.
To Debenture Redemption Fund A/c
On realising the amount of policy
Bank A/c
Dr.
To Debenture Redemption Fund Policy A/c
On payment of debentures
Debenture A/c
Dr.
To Bank A/c
On transfer of Debenture Redemption Fund to General Reserve
Debenture Redemption Fund A/c
Dr.
To General Reserve A/c
ILLUSTRATION 6: A company issued Debentures of Rs.3,00,000 on 1
January 1992 and decided to provide for their redemption by means of an
insurance policy Rs.3,00,000. The annual premium was Rs. 95,000.
Prepare the necessary ledger accounts assuming that the amount of
policy was duly realised and debentures were paid.
26
Solution
DEBENTURES ACCOUNT
Rs.
1992
31Dec.
To Balance c/d
Rs.
1992
3,00,000 1 Jan. By Bank
3,00,000
3,00,000
3,00,000
1993
31Dec.
1993
To Balance c/d
3,00,000 1 Jan. By Balance b/d
3,00,000
3,00,000
3,00,000
1994
1994
31 Dec. To Bank
1992
31Dec.
3,00,000 1 Jan. By Balance b/d
3,00,000
3,00,000
3,00,000
DEBENTURES REDEMPTION FUND ACCOUNT
Rs.
1992
To Balance c/d
95,000 31Dec. By Bank
95,000
1993
31Dec.
Rs.
95,000
95,000
1993
To Balance c/d
1,90,000 1 Jan.
By Balance b/d
31Dec. By P&L App.A/c
1,90,000
1994
95,000
95,000
1,90,000
1994
31 Dec. To General Res. 3,00,000 1 Jan.
By Balance b/d
1,90,000
31Dec. By P & L App. A/c 95,000
By Deb. Red.Fund 15,000
Policy A/c
3,00,000
27
3,00,000
DEBENTURES REDEMPTION FUND POLICY ACCOUNT
Rs.
Rs.
1992
1992
1Jan. To Bank
95,000 31Dec. By Balance c/d
95,000
95,000
1993
95,000
1993
1Jan. To Balance b/d
95,000
1 Jan. To Bank
95,000
31Dec.
By Balance c/d
1,90,000
1994
1,90,000
1,90,000
1994
1 Jan. To Balance b/d
1 Jan. To Bank
1,90,000
31Dec.
By Bank
3,00,000
95,000
31 Dec.To Debenture
Red. Fund A/c
15,000
3,00,000
3,00,000
10.7 SUMMARY
A debenture is a written acknowledgement of debt by a company under its
common seal. A company may issue various kinds of debentures with different
rights. A company can raise funds for operation of busienss by issue of shares and
debentures. However, these two ways of raising funds can be differenciated. A
company can issue debentures for cash, for consideration other than cash and as
collateral security. A company is free to issue the debentures on any terms it likes.
These terms may not only relate to issue but also to redemption. The various sources
out fo whcih the debentures may be redeemed are out of profits, out of capital,
redemption by conversion, redemption by purchase of debenture in the open market
and out fo provisions made for redemption.
10.8 KEYWORDS
Debenture: It is a written acknowledgement of debt by a company under its common
seal.
28
Registered Debenture: These are those debentures which are payable tot he persons
whose name appear in the register of debenture holders.
Redemption of Debentures: Repayment of amount due to the debenture holders
at an agreed date is called redemption of debentures.
Collateral Security: When debentures are issued as subsidiary to the principal
security against a loan or bank overdraft, such an issue of debentures is known as
issue of debentures as collateral security.
10.9 SELF ASSESSMENT QUESTIONS
1.
What is a debenture? Describe the various methods for redemption
of debentures. Give Illustrations.
2.
Explain with the help of journal entries how Sinking Fund Method
for redemption of debentures is used.
3.
State how will you deal with loss on issue of debentures in the books
of accounts.
4.
Journalise the following transactions :
(a)
Debenture issued at 95 payable at 100.
(b)
Debenture issued at 95 repayable at 105.
(c)
Debenture issued at 100 repayable at 105.
(d)
Debenture issued at 105 repayable at 100.
5.
A company issued debentures of the face value of Rs.100,000 at a
discount of 6%. The debentures were repayable by annual drawings
of Rs.20,000. How would you deal with the discount on debentures?
Show the discount account in the company's ledger for the period of
duration of debentures?
6.
On Ist January 1987, a company issued 20,000 Debentures of Rs.100
each for 10 years on the condition that debentures could be redeemed
by the company at a premium of 2% by giving six months notice at
any time after 5 years, either by payment of cash or by allotment of
29
shares or by other debentures according to the option of the debenture
holders.
Necessary notice was given on Ist March, 1992 informing the
debenture holders about the company's intention to redeem
debentures on Ist Sept., 1992, either by payment of cash, or by
allotment of 8% preference shares of Rs.100 each at Rs.120 per share
or by issuing 4% debentures of Rs.100 each at Rs.98. Holders of
4,000 debentures accepted preference shares, holders of 9,800
debentures accepted preference shares, holders of 9,800 debentures
accepted the offer of 4% debentures and the rest claimed cash.
Pass necessary journal entries for the redemption of debentures.
7.
The Debenture Redemption Fund of Export Industries Ltd. stood at
Rs.16,000 represented by Rs.20,000 (nominal) investments. The
debentures stood in the books at Rs.50,000 and the company sold
Rs.12,000 (nominal) investments at Rs.84 for the purpose of
redeeming Rs.10,000 debentures at a premium of 1 per cent. You are
required to show the ledger accounts to record the above transactions
(Ignore interest and brokerage).
10.10 SUGGESTED READINGS
1.
Fundamentals of Accounting by R.L. Gupta and V.K. Gupta, Sultan Chand
and Sons, New Delhi.
2.
Advanced Accounting by R.L. Gupta and M. Radhaswamy, Sultan Chand and
Sons, New Delhi.
3.
Advanced Accounting by Ashok Sehgal and Deepak Sehgal, Taxmann Allied
Services Pvt. Ltd., New Delhi.
4.
Advanced Accounts by M.C. Shukla, T.S. Grewal and S.C. Gupta, S. Chand
and Co. Ltd., New Delhi.
30
LESSON -11
PREPARATION OF FINAL ACCOUNTS OF A COMPANY
STRUCTURE
11.0
Objective
11.1
Introduction
11.2
Preparation of Final Accounts
11.3
Profit and Loss Account
11.4
Profit and Loss Appropriation Account
11.5
Balance Sheet
11.6
Special Points to be noted while preparing Final Accounts
11.7
Summary
11.8
Keywords
11.9
Self Assessment Questions
11.10 Suggested Readings
11.0 OBJECTIVE
After reading this lesson, you will be conversant with
(a)
Requirements of the Companies Act for presentation of Profit
and Loss Account and Balance Sheet
(b)
Profit and Loss Appropriation Account
(c)
Accounting Treatment of Special Items while preparing Final
Accounts of a company.
11.1 INTRODUCTION
Final accounts, as we know, are prepared to show business profit over
a period of time and to reveal the business position (financial) at a point of
time. A company, like any other forms of business organisation, has also to
prepare its final accounts every year. Preparation of final accounts is
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compulsory for a company. The Companies Act has made it obligatory for
every limited company to prepare, present and publish its final accounts
every year, in order to protect and safeguard the interest of the owners.
Section 209 and Section 210 deal with the provisions of preparation of
final accounts for a company. Section 209 makes it compulsory for a
company to keep certain books of account and Section 210 governs the
preparation of the final accounts.
11.2 PREPARATION OF FINAL ACCOUNTS
The principles and methods of preparing the final accounts of joint
stock companies are the same as in the case of the sole proprietorship or
partnership firms. However, in addition to these principles, a joint stock
company must conform to certain legal provisions as given in the Companies
Act, in respect of form and content of the final accounts.
The final accounts of a company consists of :
(i)
Profit and Loss Account (Inclusive of Manufacturing & Trading A/c)
(ii)
Profit and Loss Appropriation Account
(iii)
Balance Sheet
11.3 PROFIT AND LOSS ACCOUNT
The Companies Act does not give any fixed form of Profit and Loss
Account but 'Requirement as to Profit and Loss Account' are given in PartII of Schedule VI. Generally, it consists of Manufacturing and/or Trading
Account.
Form and contents of Profit and Loss Account
Sub-section (2) of Section 211 of the Companies Act, 1956 requires
"Every Profit and Loss Account of a company shall give true and fair view
of the profit or loss of the company for the financial year and comply with
2
the requirements of Part II of Schedule VI so far as they are applicable
thereto.
Provided that nothing contained in this sub-section shall apply to any
insurance or banking company, or any company engaged in the generation
or supply of electricity or to any other class of company for which a form
of Profit and Loss Account has been specified in or under the Act governing
such class of company".
It is also given in sub-section (3) of Section 211 that the Central
Government may, by notification in the Official Gazette exempt any class
of companies from the compliance with any of the requirements in Schedule
VI if, in its opinion, it is necessary to grant exemption in the public interest.
Any such exemption may be granted either unconditionally or subject to
such conditions as may be specified in the notification.
Requirements of companies act with respect to Profit and Loss
Account
Part II of Schedule VI of the Companies Act does not prescribe any
format for the Profit and Loss Account but only outlines the information
to be included. In general, the Profit and Loss Account should be so made
out as to clearly disclose the result of the working of the company during
the period covered by the account. The Profit and Loss Account should also
disclose every material feature, including credits or receipts and debits or
expenses in respect of non-recurring transactions or transactions of an
exceptional nature. The various items of receipts and expenses should be
arranged under the most convenient heads.
Revenues
With respect to revenues received by a company, the following are
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required to be shown as per Part II of Schedule VI:
a)
The turnover or the aggregate amount of sales effected by the
company. If more than one class of goods have been sold by the
company, then the amount of sales in respect of each class of goods
sold along with details of quantities sold should be disclosed.
b)
In the case of companies rendering or supplying services, the gross
income derived from services rendered or supplied.
c)
Amount of income from investment distinguishing between trade
investments and other investments.
d)
Other income by way of interest, specifying the nature of income.
e)
Profits on investments.
f)
Profits (which are material in amount) in respect of transaction which
are of a kind not usually undertaken by the company or undertaken in
circumstances of an exceptional or non-recurring nature.
g)
Miscellaneous income.
h)
Dividends from subsidiary companies.
Expenses
The following are the expenses which must be disclosed in the Profit
and Loss Account :
a)
In the case of manufacturing companies, the value of the raw materials
consumed, giving item-wise break up and the quantities consumed.
While giving this break up, as far as possible, all important basic raw
materials should be shown as separate items. In the case of
intermediates or components procured from other manufacturers and
consumed, if the number of items are too many to be included in the
break up, then such items should be grouped under suitable headings
without mentioning the quantities. However, all those items which in
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value individually account for 10 per cent or more of the total value
of the raw material consumed should be shown distinctly in the break
up with details of quantities consumed.
b)
In the case of manufacturing companies, the opening and closing stock
of good produced, giving break up in respect of each class of goods
indicating the quantities of each class of goods produced.
c)
In the case of trading companies, the value of purchases made and of
the opening and closing stocks. This information should be provided
in respect of each class of goods traded by the company. The quantity
details should also be provided.
d)
If a company is both a manufacturing and a trading company, it is
sufficient if the total amounts are shown in respect of the opening
and closing stocks, purchases, sales and consumption of raw material
with value and quantity details.
e)
In the case of companies having works in progress, the opening and
closing values of the works in progress.
f)
The amount provided for depreciation, renewals or diminution in value
of fixed assets. If no provision has been made for depreciation, this
fact should be stated and the quantum of arrears of depreciation should
be disclosed by way of a note.
g)
Consumption of stores and spare parts.
h)
Power and fuel.
i)
Rent.
j)
Repairs to buildings.
k)
Repairs to machinery.
l)
Salaries, wages and bonus.
m)
Contribution to provident fund and other funds.
n)
Workmen and staff welfare expenses.
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o)
Insurance.
p)
Rates and taxes, excluding taxes on income.
q)
Miscellaneous expenses. Any item under which expenses exceed one
per cent of the total revenue of the company or Rs.5,000 whichever
is higher must be shown as a separate and distinct item against an
appropriate account head in the Profit and Loss Account and should
not be combined with any other item and shown under this head of
'Miscellaneous Expenses'.
r)
Losses on investments.
s)
Losses on transaction which are of a kind, not usually undertaken by
the company or undertaken in circumstances of an exceptional or nonrecurring nature, if material in amount.
t)
The amount of interest on the company's debentures and other fixed
loans stating separately the amount of interest if any, paid or payable.
u)
The amount of income tax payable.
v)
The aggregate amount of the dividends paid, and proposed, and stating
whether such amounts are subjected to deduction of income tax or
not.
w)
Provisions for losses of subsidiary companies.
x)
Amounts reserved for repayment of share capital and repayment of
loans.
y)
Any material amounts set aside to reserves, but not including
provisions made to meet any specific liability, contingency or
commitment. Any material amounts withdrawn from such reserves.
z)
Any material amounts set aside to provisions made for meeting
specified liabilities, contingencies or commitments. Any material
amounts withdrawn from such provisions, as no longer required.
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In addition to the above expenses, expenses relating to sales such as
commission paid to sole selling agents and other selling agents, brokerage
and discount on sales, other than the usual trade discount should also be
shown separately.
The amount by which any items shown the Profit and Loss Account
are affected by any change in the basis of accounting if material should be
disclosed separately.
In respect of all items shown in the Profit and Loss Account, the
corresponding amounts for the immediately proceeding financial year
should also be given.
Notes to Profit and Loss Account
Accounting to Part II of Schedule VI, certain information has to be
provided by way of notes to Profit and Loss Account. The information to be
so provided is outline below :
1.
The following payments provided or made during the financial year
to the directors (including managing directors or manager, if any, of the
company, the subsidiaries of the company and any other person):
i)
Managerial remuneration paid or payable under Section 198
of the Companies Act
ii)
Other allowances and commission including guarantee
commission
iii)
Any other perquisites or benefits in cash or in kind (stating
approximate money value where practicable)
iv)
Pensions
v)
Gratuities
vi)
Payments form provident funds, in excess of subscriptions and
interest thereon
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vii)
Compensation for loss of office
viii) Consideration in connection with retirement from office
If commission is payable to the directors including managing director
or manager as a percentage of profits, then the notes should give a statement
showing the computation of net profit in accordance with the provisions of
the Companies Act and also give details of the calculation of such
commission.
2.
The notes should contain detailed information with regard to amounts
paid to the auditor, whether as fees, expenses or otherwise for services
rendered. These payments should be classified into payments received by
the auditor as,
a)
auditor
b)
as advisor, or in any other capacity, in respect of
c)
3.
i)
taxation matters
ii)
company law matters
iii)
managements services and
in any other manner.
In the case of manufacturing companies, the notes should give detailed
quantitative information in respect of each class of goods manufactured
with regard to the following:
4.
a)
the licensed capacity (where license is in force)
b)
the installed capacity and
c)
the actual production
The notes to the Profit and Loss Account should also contain the
following information:
a)
Value of imports calculated on C.I.F. basis by the company
during the financial in respect of :
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i)
raw materials
ii)
components and spare parts
iii)
capital goods
b)
expenditure in foreign currency during the financial year on
account of royalty, know-how, professional, consultation fees,
interest and other matters.
c)
value of all imported raw materials, spare parts and components
consumed during the financial year and the value of all
indigenous raw materials, spare parts and components similarly
consumed and the percentage of each to total consumption.
d)
the amount remitted during the year in foreign currencies on
account of dividends, with a specific mention of the nonresident shareholders and the number of shares held by them
on which dividends were paid.
e)
earnings in foreign exchange classified under the following
heads, namely:
5.
i)
export of goods calculated in F.O.B. basis.
ii)
royalty, know-how, professional and consultation fees
iii)
interest and dividend
iv)
other income, indicating the nature thereof.
The notes to the Profit and Loss Account should also contain break
up of the expenditure incurred on employees who
i)
if employed throughout the financial year were in receipt of
remuneration for that year which in the aggregate was not less than
Rs.300,000 or
ii)
if employed for part of the financial year were in receipt of
remuneration for any part of that year at a rate which in the aggregate
was not less than Rs.25,000 per month.
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This note should also indicate the number of employees falling in each of
the above two categories. Usually the remuneration paid is broken up into
a)
Salaries, Perquisites etc. and
b)
Contribution to Provident and other funds.
11.4 PROFIT AND LOSS APPROPRIATION ACCOUNT
The account showing the disposal of profits is known s Profit and
Loss Appropriation Account. The balance on Profit and Loss Account is
transferred to this Profit and Loss Appropriation Account. Profits available
for dividend to shareholders are known as divisible profits. The Directors
may decide to retain a certain amount to strengthen the companies finances.
The amount retained may take the form of transfer to various reserves and
funds. It is a wise policy to keep aside certain portion of divisible profit in
the form of reserves and funds before distributing entire divisible profits
among the shareholders as dividend. Therefore, the account which shows
how the divisible profits of the company have been dealt with is known as
Profit and Loss Appropriation Account, as appropriation means to keep
aside.
The amount brought forward from the previous year is put on the credit
side together with current year's profit. On the debit side of this account,
the following items are usually found :
i)
Transfer to General Reserve.
ii)
Transfer to Divided Equalisation Fund - (Dividend Equalisation Fund
means a fund created out of profits available for dividend for the
purpose of stable dividend policy i.e. making the rate of dividend
uniform from year to year).
iii)
Transfer to Sinking Fund for Redemption to Debentures.
iv)
Dividend (Interim/Final, paid or proposed).
v)
Balance if any, carried to B/Sheet. Therefore, this Account, generally
appears as under :
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Profit and Loss Appropriation Account
Dr.
Cr.
Particulars
To Bal. b/d (Dr. bal. from
Rs.
Particulars
By Balance b/d from
last year if any , as per
last year
Trial Balance)
(As per Trial Balance)
To Net Loss during the
By Savings in the provision
year, if any
To General Reserve
for Taxation
By Net Profit during the
(transfer)
To Dividend Equalisation
year (as per P & L A/c)
By Transfer from Reserves,
Fund (transfer)
To Sinking Fund for Redem-
Rs.
if any
By Bal. c/d to Balance Sheet
ption of Debentures
To Transfer to other
Reserves & Funds
To Dividend
(Interim or Final;
Paid/or proposed)
To Balance c/d to
Balance Sheet
Profit and Loss Appropriation Account is a part and parcel of Profit
and Loss Account showing the disposal of divisible profits. The balance on
this account is shown as a separate item in the Balance Sheet.
11.5 BALANCE SHEET
According to Section 210 of the Companies Act, a company is
required to prepare a Balance Sheet at the end of each trading period. Section
211 requires the Balance Sheet to be set up in the prescribed form. This
provision is not applicable to banking, insurance, electricity and the other
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companies governed by special Acts. The Central Government has also the
power to exempt any class of companies from compliance with the
requirement of the prescribed form if it deems to be in public interest. The
object of prescribing the form is to elicit proper information from the
company so as to give a 'true and fair' view of the state of the company's
affairs. As a matter of fact both window dressing and creating secret reserves
will be considered against the provisions of Section 211.
Section VI, Part I gives the prescribed form of a company's Balance
Sheet. Notes and instructions regarding various items have been given in
brackets below each item. It may be noted that if information required to
be given under any of the items or sub-items in the prescribed form cannot
be conveniently given on account of lack of space, it may be given in a
separate schedule or schedules. Such schedules will be annexed to and form
part of the Balance Sheet.
Schedule VI, Part I permits presentation of Balance Sheet both in
horizontal as well as vertical forms. The forms with necessary notes,
explanations, etc., are given below:
12
13
balance sheet is made out)
Figures
Figures Figures
for the
for the
for the
previous
Liabilities
current previous
Assets
year
year
year
Rs.
Rs.
Rs.
(1)
(2)
(3)
(4)
(5)
Fixed Assets:
Share Capital :
Distinguishing as for as possible
Authorised......Shares of Rs........each
between expenditure upon
Issued : (distinguishing between the
(a)
goodwill
various classes of capital and stating the
(b)
land
particulars specified below, in respect
(c)
buildings
of each class)....shares of Rs........each.
(d)
leaseholds
(e)
railway sidings
Subscribed : (distinguishing between
(f)
plant and machinery
the various classes of capital and stating
(g)
furniture and fittings
the particulars specified below, in
(h)
development of property
respect of each class).......shares of
(i)
patents, trade marks and designs
Rs............each ........Rs.called up.
(j)
livestock, and
(Of the above shares.........shares are
(k)
vehicles, etc.
allotted as fully paid up pursuant to a
(Under each head the original cost and
contract without payments being
the additions thereto and deductions
received in cash. Of the above
therefrom during the year, and the total
shares......shares are allotted as fully
depreciation written off or provided up
paid up by way of bonus shares)
to the end of the year is to be stated.
Figures
for the
current
year
Rs.
(6)
(See Section 211)
Balance Sheet of ..................(Here enter the name of the company) as on ...........(Here enter the date as which the
(A) HORIZONTAL FORM OF BALANCE SHEET
SCHEDULE VI PART I
14
(1)
2.
Particulars of any option on
unissued Share Capital are to be
specified.
3.
Particulars of the different
classes of preference shares are to be
given.
Notes :
1.
Te r m s o f r e d e m p t i o n o r
conversion (if any) of any redeemable
preference capital are to be stated
together with earliest date of
redemption or conversion.
(Any capital profit on reissue of
forfeited shares should be transferred
to Capital Reserves).
Specify the source from which bonus
shares are issued, e.g.....capitalisation
of profits or Reserves or from Shares
Premium Account.
Less : Calls unpaid
(i)
By Directors
(ii) By Others
Add : Forfeited shares
(amount originally paid up)
(2)
(3)
(4)
Where sums have been written off
on a reduction of capital or a revaluation
of assets, every Balance Sheet, (after the
first Balance Sheet) subsequent to the
reduction or revaluation shall show the
reduced figures with the date of the
reduction in place of the original cost.
Each Balance Sheet for the first five
In every case where the original
cost can not be ascertained, without
unreasonable expense or delay, the
valuation shown by the books is to be
given. For the purpose of this paragraph,
such valuation shall be the net amount at
which on asset stood in the company's
books at the commencement of this Act
after deduction of the amounts
previously provided or written off for
depreciation or diminution in value, and
where any such asset is sold, the amount
of sale proceeds shall be shown as
deduction.
Depreciation written off or provided
shall be allotted under the different asset
heads and deducted in arriving at the value
of Fixed Assets.
(5)
(6)
15
(1)
(1)
Capital Reserves
(2)
Capital Redemption Reserves
(3)
Share Premium Account
(showing details of its utilisation in the
manner provided in Section 78 in the
year of utilisation).
(4)
Other Reserves specifying the
nature of each Reserve and the amount
in respect thereof.
Less: Debit balance in Profit and Loss
Account (if any).
(The debit balance in the Profit and
Loss Account shall be shown as a
deduction from the uncommitted
In the case of subsidiary
companies, the number of shares held
by the holding company as well as by
the ultimate holding company and its
subsidiaries shall be separately stated
in respect of Subscribed Share Capital.
The auditor is not required to certify the
correctness of such share-holdings as
certified by the management).
These particulars are to be given
alongwith Share Capital.
(2)
(3)
(4)
Showing nature of investments and
mode of valuation, for example, cost or
market value, and distinguishing between:
(1)
Investments in Government or Trust
Securities.
(2)
Investments in shares, debentures
or bonds.
(Showing separately shares fully paid up
and partly paid up and also distinguishing
the different classes of shares and showing
also in similar details investments in
shares, debentures or bonds of subsidiary
companies).
(3)
Immovable properties.
Similarly, where sums have been
added by writing up the assets, every
Balance Sheet subsequent to such writing
up shall show the increased figures with
the date of the increase in place of the
original cost. Each Balance Sheet for the
first five years subsequent to the date of
the writing up shall also show the amount
of increase made.
years subsequent to the date of the
reduction, shall show also the amount of
the reduction made.
(5)
(6)
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(1)
Secured Loans:
(1)
Debentures.
(2)
Loans and Advances from Banks.
(3)
Loans and Advances from
subsidiaries.
(4)
Other Loans and Advances.
(Loans from directors and/or manager
should be shown separately).
Interest accrued and due on Secured
Loans should be included under the
appropriate sub-heads under the head
Additions and deductions since
last Balance Sheet to be shown, under
each of the specified heads. The word
"fund" in relation to any "Reserve"
should be used only where such under
Reserve is specifically represented by
earmarked investments).
reserves, if any).
(5)
Surplus, i.e., balance in Profit
and Loss Account after providing for
proposed allocations, namely:
Dividend, Bonus or Reserves.
(6)
Proposed additions to Reserves.
(7)
Sinking Funds.
(2)
(3)
(4)
(In respect of (2) and (4), mode of
valuation of stock shall be stated and the
amount in respect of raw materials shall
also be stated separately where
practicable. Mode of valuation of workin-progress shall be stated).
(6)
Sundry Debtors.
(a)
Debts outstanding for a period
exceeding six months.
(b)
Other debts
Less Provisions:
(Aggregate amount of company's
unquoted investments shall also be
shown).
Current Assets, Loans and Advances:
(A) CURRENT ASSETS :
(1)
Interest accrued on Investments.
(2)
Stores and spare parts.
(3)
Loose Tools.
(4)
Stock-in-trade.
(5)
Work-in-Progress.
(Aggregate amount of company's quoted
Investments and also the market value
thereof shall be shown).
(4)
Investments in the capital of
partnership firms.
(5)
(6)
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(1)
Unsecured Loans :
(1)
Fixed Deposits.
(2)
Loans and Advances from
subsidiaries.
(3)
Short Term Loan and Advances:
(a) From Banks.
(b) From Others.
(Short term loans include those which
are due for repayment not later than one
year as at the date of the Balance Sheet.
(4)
Other Loans and Advances :
(a) From Banks
In case of Debentures, terms of
redemption or conversion (if any) are to
be stated together with earliest date of
redemption or conversion.
Where loans have been guaranteed by
managers and/or directors, a mention
thereof shall also be made and also the
aggregate amount of such loans under
each head.
The nature of security to be specified
in each case.
"Secured Loans."
(2)
(3)
(4)
debts considered goods and in
respect of which the company is
fully secured;
debts considered good for which
the company holds no security
other than the debtor's personal
security; and
debts considered doubtful or bad.
Debts due by directors or other
officers of the company or any of them
either severally or jointly with any other
person or debts due by firms or private
companies respectively in which any
directors is a partner or a director or a
member to be separately stated.
Debts due from other companies under the
same management within the meaning of
(c)
(b)
(a)
In regard to Sundry Debtors
particulars to be given separately of :
(The amounts to be shown under Sundry
Debtors shall include the amounts due in
respect of goods sold or services rendered
or in respect of other contractual
obligations but shall not include the
amounts which are in the nature of loans
or advances).
(5)
(6)
18
(1)
(Where Loans have been guaranteed by
manager, and/or directors, a mention
thereof shall also be made together with
the aggregate amount of such loans under
each head. This does not apply to Fixed
Deposits).
Current Liabilities and Provisions:
A Current Liabilities:
(1)
Acceptance.
(2)
Sundry Creditors.
(3)
Subsidiary Companies.
(4)
Advance payments and unexpired
discounts for the portion for
which value has still to be given,
e.g. in the case of the following
companies:
Newspaper, Fire Insurance, Theatres,
Clubs, Banking, Steamship companies,
etc.
Interest accrued and due on Unsecured
Loans should be included under the
appropriate sub-heads under the head
"Unsecured Loans."
(b) From Others
(Loans from directors and/or manager
should be shown separately).
(2)
(3)
(4)
(7A) Cash balance on hand.
(7B) Bank Balances:
(a) with Scheduled Banks.
(b) with others.
(In regard to bank balances particulars to
be given separately of (a)
the balance lying with Scheduled
Banks on current accounts, call
accounts and deposit accounts.
(b)
the names of the bankers other than
Scheudled Banks and the balances
The Provision to be shown under
this head should not exceed the amounrt
of debts stated to be considered doubtful
or bad and any surplus of such Provision,
if already created, should be shown at
every closing under "Reserves and
Surplus" (in the Liabilities side) under a
separate sub-head "Reserve for Doubtful
or Bad Debts.")
sub-section (IB) of Section 370 to be
disclosed with the names of the
companies. The maximum amount due by
directors or other officers of the
company at any time during the year to
be shown by way of a note.
(5)
(6)
19
(1)
(The period for which the dividends are
in arrears or if there is more than one
class of shares, the dividends on each
such class that are in arrear, shall be
stated. The amount shall be stated
A foot-note to the Balance Sheet may
be added to show separately
(1)
Claims against the company not
acknowledged as debts.
(2)
Uncalled liability on shares
partly paid.
(3)
Arrears of fixed cumulative
dividends.
(5) Unclaimed Dividends.
(6) Other Liabilites (if any),
(7) Interest accrued but not due on
loans.
B. Provisions
(8) Provision for Taxation.
(9) Proposed Dividends.
(10) For contingencies.
(11) For Provident Fund Scheme
(12) For insurance, pension and similar
staff benefit schemes.amounts
(13) Other provisions.
(2)
(3)
(4)
the nature of the interest, if any, of
any director or his relative in each
of the bankers (other than
Scheduled Banks referred to in (b)
above]
B)
Loans and Advances :
(8) (a) A d v a n c e s a n d l o a n s t o
subsidiaries.
(b) Advances and loans to
partnership firms in which the
company or any of its
subsidiaries is a partner.
(9)
Bill of Exchange.
(10) Advances recoverable in cash or in
kind or for value to be
r e c e i v e d , e . g . , R a t e s , Ta x e s ,
Insurance, etc.
(11) Balances with Customs, Port Trust,
etc. (where payable on demand).
The instructions regarding Sundry
Debtors apply to "Loans and Advances"
(c)
(5)
(6)
lying with each such banker on
current account, call account and
deposit account and the maximum
amount outstanding at any time
during the year with each such
banker; and
20
(1)
(The amount of any guarantees
given by the company on behalf of
directors or other officers of the
company shall be stated and where
practicable, the general nature and
amount or each such contingent
liability, if material, shall also be
specified).
before deduction of income-tax, except
that in the case of tax-free dividends the
amount shall be shown free of incometax and the fact that it is so shown shall
be stated).
(4) Estimated amount of contracts
remaining to be executed on
capital account and not provided
for.
(5) O t h e r m o n e y s f o r w h i c h t h e
company is contingently liable.
(2)
(3)
(4)
Miscellaneous Expenditure :
(to the extent not written off or adjusted).
(1)
Preliminary expenses.
(2)
Expenses including commission or
brokerage or underwriting or
subscription of shares or
debentures.
(3)
Discount allowed on the issue of
shares or debentures.
(4)
Interest paid out of capital during
construction (also stating the rate
of Interest).
(5)
Development expenditure not
adjusted.
(6)
Other sums (specifying nature).
Profit and Loss Account
(Show here the debit Balance of
Profit and loss Account carried
forward after deduction of the
uncommitted reserves, if any).
(5)
(6)
also. The amounts due from other
companies under the same management
within the meaning of sub-section (IB) of
Section 370 should also be given with the
name of the companies; the maximum
amount due from every one of these at
any time during the year must be shown).
Notes :
(1)
Paise can also be given in addition to Rupees, if desired.
(2)
Dividends declared by subsidiary companies after the date of the
Balance Sheet should not be included unless they are in respect of a
period which closed on or before the date of the Balance Sheet.
(3)
Any reference to benefits expected from contracts to the extent not
executed shall not be made in the Balance Sheet but shall be made in
the Board's report.
(4)
Particulars of any redeemed debentures which the company has power
to issues should be given.
(5)
Where any of the company's debentures are hold by a nominee or a
trustee for the company the nominal amount of the debentures and
the amount at which they are stated in the books of the company shall
be stated.
(6)
A statement of investments (whether shown under "investment" or
under "Current Assets " as Stock-in-Trade) separately classifying trade
investments and other investments should be annexed to the Balance
Sheet, showing the names of the bodies corporate (including
separately the names of the bodies corporate under the same
management) in whose shares or debentures, investments have been
made (including all investments whether existing or not, made
subsequent to the date as at which the previous Balance Sheet was
made out) and the nature and extent of the investments so made in
each such body corporate; provided that in the case of an investment
company, that is to say, a company whose principal business is the
acquisition of shares, stock , debentures or other securities, it shall
be sufficient if the statement shows only the investments existing on
the date as at which the Balance Sheet has been made out. In regard
21
to the investments in the capital of partnership firms, the names of
the firms (with the names of all their partners, total capital and the
shares of each partner) shall be given in the statement.
(7)
If, in the opinion of the Board, any of the current assets, loans and
advances have not a value on realisation in the ordinary course of
business at least equal to the amount at which they are stated, the
fact that the Board is of that opinion shall be stated.
(8)
Except in the case of the first Balance Sheet laid before the company
after the commencement of the Act, the corresponding amounts of
the immediately preceding financial year for all items shown in the
Balance Sheet shall be also given in the Balance Sheet. The
requirements in this behalf shall, in case of companies preparing
quarterly or half-yearly accounts, etc., relate to the Balance Sheet
for the corresponding date in the previous year.
(9)
Current accounts with Directors and Manager, whether they are credit
or debit, shall be shown separately.
(10) The information required to be given under any of the items or subitems in the Form, if it cannot be conveniently included in the Balance
Sheet itself, shall be furnished in a separate Schedule or Schedules
to be annexed to and forming part of the Balance Sheet. This is
recommended when items are numerous.
(11) Where the original cost (of fixed assets) and additions and deductions
thereto, relate to any fixed asset which has been acquired from a
country outside India, and in consequence of a change in the rate of
exchange at any time after the acquisition of such assets, there has
been an increase or reduction in the liability of the company, as
expressed in Indian currency, for making payment towards the whole
or a part of the cost of the asset, or for repayment of the whole or a
22
part of monies borrowed by the company from any person, directly
or indirectly, in any foreign currency specifically for the purpose of
acquiring the assets (being in either cases the liability existing
immediately before the date on which the change in the rate of
exchange takes effect), the amount by which the liability is so
increased or reduced during the year, shall be added to, or as the case
may be, deducted from the cost, and the amount arrived at after such
addition or deduction shall be taken to be the cost of the fixed assets.
Explanation :1.
This paragraph shall apply in relation to all Balance Sheet
that may be made out as at the 6th day of June 1966, or any day thereafter
and where, at the date of issue of the notification of the Government of
India, in the Ministry of Industrial Development and Company Affairs
(Department of Company Affairs), G.S.R.No.129, dated the 3rd day of
January, 1968, any Balance Sheet in relation to which the paragraph applied,
has already been made out and laid before the company in annual general
meeting, the adjustment referred to in this paragraph may be made in the
first Balance Sheet made out after the issue of the said notification.
Explanation 2: In this paragraph, unless the context otherwise requires,
the expression "rate of exchange", "Foreign currency" and "Indian currency"
shall have the meanings respectively assigned to them Under Subsection
(1) of Section 43A of the Income-tax Act, 1961 (43 of 1961), and
Explanation 2 and Explanation 3 of the said sub-section shall as far as may
apply in relation to the said paragraph as they apply to the said sub-section
(1).
B)
VERTICAL FORM OF BALANCE SHEET
Vertical form of Balance Sheet inserted as Part B of Part I of
Schedule VI to the Companies Act 1956 by G.S.R. No.220(E) dated
12.3.1979 is as follows :
23
Name of the Company...........
Balance Sheet as at ...............
Schedule
No.
1
2
1.
Source of Funds
(1) Shareholder's funds:
(a) Capital
(b) Reserves and surplus
(2) Loans funds :
(a) Secured loans
(b) Unsecured loans
Total
II.
Application of Funds
(1) Fixed assets :
(a) Gross block
(b) Less : depreciation
(c) Net block
(d) Capital work-in-progress
(2) Investments
(3) Current assets, loans and advances :
(a) Inventories
(b) Sundry debtors
(c) Cash and Bank balance
(d) Other current assets
(e) Loans and advances
Less:
Current liabilities & provisions
(a) Liabilities
(b) Provisions
Net current assets.
(4)
(a) Miscellaneous Expenditure
to the extent not written off or
adjusted
(b) Profit and Loss Account
Total
24
Figures as at
all the end of
current
financial
year
3
Figures as
the end of
previous
financial
year
4
Notes :
1.
Details under each of the items in Vertical Balance Sheet be given in
separate Schedules.
2.
The Schedules referred to above, accounting policies and explanatory
notes that may be attached shall form an integral part of the Balance
Sheet.
3.
The figures in the Balance Sheet may be rounded off to the nearest
'000 or '00 as may be convenient or may be expressed in terms of
decimals of thousands.
4.
A foot note to the Balance Sheet may be added to show separately
contingent liabilities.
In India, a joint stock company can prepare its Balance Sheet either
in horizontal or vertical form. Of the two forms of the Balance Sheet, vertical
form is a better form because it speaks out the correlation of every item
with the other items and conveys more meaning to the layman.
11.6 SOME SPECIAL POINTS TO BE NOTED WHILE PREPARING
FINAL ACCOUNTS
(1)
Interest on Debentures
Debentures carry a fixed rate of interest. Profit or no profit,
interest on debentures must be paid and debited to Profit and Loss A/c. If
the Trial Balance does not indicate the payment of interest at all or in full
the unpaid amount is to be shown in the Balance Sheet alongwith Debentures,
if it is outstanding or under 'Current Liabilities', if it is accrued.
(2)
Interest on Investment
Interest for the full period or for the period of investments
standing in the books must be provided for and credited to Profit and Loss
A/c.
25
(3)
Discount on Debentures/Shares, Preliminary Expenses,
Underwriting Commission, Advertising Suspense A/c etc.
The amount asked to be written off should be debited to Profit
and Loss A/c and remaining balance (i.e. to the extent not written off) should
be shown in the Balance Sheet under the heading,"Miscellaneous
Expenditure".
(4)
Profit on sale of Fixed Assets
Profit on sale of asset should be treated as Capital Profits,
and shown under the heading "Reserves and Surplus" on the liabilities side.
(5)
Debenture Interest and Dividend Paid - Less Tax X%
Companies are required to deduct Income-tax at source. The
amount deducted from Debenture interest or Dividend (by way of tax
deducted at source) is payable to Government. Debit Profit and Loss A/c
with the gross amount (100%) and Tax-deducted at source is to be shown
under "Current Liabilities".
(6)
Receipts of Interest/dividend - less Tax X%
Sometimes company receives interest or dividend from other
company-less tax, deducted at source. Amount deducted at source is advance
payment of tax Credit Profit and Loss A/c with the amount of gross income
(100%) and Tax deducted at source to be shown on asset side under the
heading "Loans and Advance" or to be adjusted against tax payable by the
company.
(7)
Depreciation of Fixed Assets
According to the requirements of the Companies Act, fixed
assets are to be shown in the Balance Sheet at their cost price less
depreciation written off the date of purchase of asset to the date of Balance
Sheet. If Depreciation Fund is given in he Trial Balance it is to be deducted
from the respective assets.
26
(8)
Interest on Sinking Fund Investments
Interest received on sinking fund investments is to be credited
to Sinking Fund for Redemption of Debentures and not Profit and Loss A/c.
(9)
Calls-in-Advance & Share Forfeited A/c
Calls in-Advance A/c is shown in the Balance Sheet on the
liability side under the heading "Share Capital" or under "Unsecured Loans".
If the forfeited shares are not reissued then the balance on Share
Forfeited A/c is to be shown under the heading 'Subscribed Capital' on the
liability side as addition thereto.
(10) Share premium A/c
This is shown on the liability side of the Balance Sheet under
the heading, "Reserves and Surplus".
(11) Provision for Taxation
(a)
Provision for taxation to be made in the current year (given in
the adjustment) is to be debited to Profit and Loss A/c.
(b)
If given in the Trial Balance : (Previous Year's)
(i)
If no payment of tax is made, then this provision plus current
year's provision to be shown under the heading "Provisions"
on the liability side of the Balance Sheet.
(ii)
If payment of tax is also shown in the Trial Balance, the amount
paid is to be deducted from the amount of provision for taxation
and if there is any balance of provision for taxation it is to be
credited to Profit & Loss Appropriation A/c. If the provision
made (last year's) is less than the actual Income-tax paid for
the last year, it is adjusted against (i.e. balance) current year's
provision to be made).
27
(12) Dividend
The share in the profits payable to shareholders is known as
Dividend. A dividend once declared , becomes a debt. Dividend is paid out
of profits on paid-up capital of the company. Calls-in-Advance cannot be
treated as part of paid up capital for declaration of dividends.
(a)
Proposed Dividend : Unless otherwise stated, the dividend at given
rate is calculated on paid-up capital and it is (amount of proposed dividend)
is debited to Profit and Loss A/c Appropriation A/c and shown on the liability
side of the Balance Sheet under the heading "Provisions".
(b)
Interim Dividend : An Interim Dividend is a dividend paid by the
directors at any time between two annual general meetings. It is always
debited to Profit and Loss Appropriation A/c. The interim dividend is usually
paid for a period of six months. Its calculation depends upon the language
of the rate of dividend.
The directors may recommend another dividend when the final figures
of profits are available. Such dividend is known as final dividend. When
final dividend is declared, interim dividend is not adjusted unless the
resolution specifies otherwise.
(c)
Unclaimed Dividend : Dividend declared but not claimed by some
shareholders for some reason, such amount of dividend (not claimed) is
known as "Unclaimed Dividend". It is always shown on the liability side of
the Balance Sheet under the heading "Current Liabilities ".
(13) Managerial Remuneration
The total managerial remuneration payable by a company to its
managerial personnel for any financial year must not exceed eleven per cent
of the net profits of the company of that financial year. In any year if profits
are inadequate then the company, with the approval of the Central Govt.
28
may pay by way of minimum remuneration up to Rs.50,000. Net profits of
the company for this purpose are to be computed as per Sections 349-351.
ILLUSTRATION I : The following balances appeared in the books of Moon
light Co. Ltd. as on 31st March, 1999.
Dr.
Issued, Subscribed and Paid up Capital :
Rs.
Cr.
Rs.
(60,000 Equity shares of Rs.10 each)
6,00,000
General Reserve
2,50,000
Unclaimed dividends
6,526
Trade creditors
36,858
Building
1,00,000
Purchases
5,00,903
Sales
9,83,947
Manufacturing expenses
3,59,000
Establishment
26,814
General Charges
31,078
Machinery
2,00,000
Motor vehicles
15,000
Furniture
5,000
Opening Stock
1,72,058
Book debts
2,23,380
Investments
2,88,950
Depreciation reserve
71,000
Cash
72,240
Director's fees
1,800
Interim dividend
15,000
Interest on investments
8,544
Profit & Loss A/c Ist April 1998
16,848
Staff provident fund
37,500
20,11,223
29
20,11,223
From these balances and the following information, prepare the
company's Balance Sheet as on 31st March, 1999 and its Profit and Loss
Account for the year ended on that date.
(a)
The stock on 31st March, 1999 was valued at Rs.1,48,680.
(b)
Provide Rs.10,000 for depreciation on fixed assets, Rs.6,500
for managing director's commission and Rs.1,500 for the
company's contribution to the staff provided fund.
(c)
Interest accrued on investments amounted to Rs.2,750.
(d)
A provision of Rs.8,000 for taxes in respect of the profit for
1998-99 is considered necessary.
(e)
The directors propose a final dividend @ 4%.
(f)
A claim of Rs.2,500 for workmen's compensation is being
disputed by the company.
Solution
Moonlight Co. Ltd.
Trading and Profit and Loss Account for the year
ended 31st March, 1999
Dr.
Rs.
1,72,058
5,00,903
3,59,000
To Opening stock
To Purchases
To Manufacturing Exp.
To Gross profit transferred
to Profit & Loss Account 1,00,666
11,32,627
To Establishment Exp.
26,814
To General charges
31,078
To Directors fees
1,800
To Depreciation reserve
10,000
To Commission to managing
director
6,500
To Staff Provident fund
1,500
To Provision for taxation
8,000
To Net profit transferred to
Profit & Loss App. A/c
26,268
1,11,960
30
By Sales
By Closing Stock
By Gross profit
By Interest on
Investment
8,544
Add Interest
accrued
2,750
Cr.
Rs.
9,83,947
1,48,680
11,32,627
1,00,666
11,294
1,11,960
Profit and Loss Appropriation Account
To Interim dividend
15,000
By balance b/d
16,848
To proposed dividend
24,000
By Net Profit for the
26,268
To balance c/d
4,116
year
43,116
43,116
Moonlight Co. Ltd.
Balance Sheet as on 31st March, 1999
Share Capital
Rs.
Fixed Assets
Rs.
Authorised
Buildings
1,00,000
60,000 Equity shares of
Machinery
2,00,000
Rs. 10 each
6,00,000 Furniture
Issued and Subscribed
5,000
Motor vehicles 15,000
60,000 Equity shares of
3,20,000
Rs. 10 each
6,00,000 Less Depreciation
Reserve & Surplus
2,50,000 reserve
Profit and loss account
81,000 2,39,000
4,116 Investments
Secured loans
Nil Current Asses, Loans
Unsecured loans
Nil and Advances
2,88,950
Current liabilities and
(A)
Current Assets
Provisions
(A)
Current Liabilities
Trade creditors
36,858
Unclaimed dividends
6,526
Commission to managing
director
6,500
(B)
Provisions
Staff provident fund 39,000
Provision for taxation 8,000
Proposed dividend
24,000
Interest accrued on
Investments
2,750
Stock
1,48,680
Book debts
2,23,380
Cash
72,240
(B) Loans & Advances
Nil
Misc. Expenditure
Nil
9,75,000
9,75,000
Contingent Liabilities : Claim of Rs. 2,500 for workmen's
compensation is being disputed by the company.
31
11.7 SUMMARY
The procedure of finalisation of accounts of companies is similar to that of
a non-corporate entity except for certain legal requirements and certain peculiar
items in case of company final accounts. Section 211 of the Companies Act deals
with preparation and presentation of final accounts of companies. Part II of Schedule
VI deals with the preparation of the Profit and Loss Account of Companies and
Provision Contained therein hold good for the Income and Expenditure Account
prepared by non-profit organisations. In India, a company can prepare its balance
sheet either in horizontal or vertical form. Of the two forms of the balance sheet,
vertical form is a better form because it speaks out the correlation of every item
with the other item and conveys more meaning to the layman.
11.8 KEYWORDS
Final Accounts: It is popularly used in respect of two basic financial statements
namely Profit and Loss Account and the Balance Sheet.
Capital Reserves: It includes amounts which are not earned during normal
operations of the business and are not available for distributed.
Surplus: It refers to the credit balance of Profit and Loss Account after proposed
allocations or appropriations for dividend, bonus, transfer to reserves, etc.
Current Liability: It means those liabilities which fall due for payment within
one year as at the date of balance sheet.
Preliminary Expenses: Preliminary expenses are those expenses which are
incurred on the formation of the company.
32
11.9 SELF ASSESSMENT QUESTIONS
1.
"Every Balance Sheet of Company shall give a true and fair view of
the state of affairs of the company as at the end of the financial year
and shall subject to the provision of Sec 211 of the Companies Act,
be in the form set out in Part I of Schedule VI ....................".
Amplify and give the form of Balance Sheet.
2.
What are the various heads under which profits are usually
appropriated by companies and for what reason?
3.
The following is the Trial Balance on March 31, 1998 of the Partial
Manufacturing Co. Ltd.
Stock on 1st April, 1997
Sales
Purchases
Productive wages
Discounts
Salaries
Rent
General expenses (including insurance)
Profit and loss account 1st April, 1997
Dividend paid August 1997
Interim dividend paid February 1998
Capital 10,000 Re.1 shares fully paid
Debtors and creditors
Plant and machinery
Cash in hand and at bank
Reserves
Loan to managing director
Bad debts
Rs.
7,500
Rs.
35,000
24,500
5,000
700
750
495
1,705
500
1,503
500
400
3,750
2,900
1,620
10,000
1,750
1,550
325
158
50,303
50,303
Stock on 30th June 1960 Rs.8,200.
You are required to make out the Trading Account, Profit and Loss
account for the year ended 31st March, 1998, and the Balance Sheet as on
that date. You are also to make provision in respect of the following.
33
(1)
Depreciate machinery @10% per annum.
(2)
Reserve 5% discount on debtors.
(3)
Allow 2½% discount on creditors.
(4)
Provide managing director's commission 15% of the net profit before
deducting his commission.
(5)
One month rent Rs.45 per mensem was due on 30th June.
(6)
Six months insurance included in general expenses was unexpired at
Rs.75 per annum.
11.10 SUGGESTED READINGS
1.
Fundamentals of Accounting by R.L. Gupta and V.K. Gupta, Sultan Chand
and Sons, New Delhi.
2.
Advanced Accounting by R.L. Gupta and M. Radhaswamy, Sultan Chand and
Sons, New Delhi.
3.
Advanced Accounting by Ashok Sehgal and Deepak Sehgal, Taxmann Allied
Services Pvt. Ltd., New Delhi.
4.
Advanced Accounts by M.C. Shukla, T.S. Grewal and S.C. Gupta, S. Chand
and Co. Ltd., New Delhi.
5.
Fundamentals of Advanced Accounting by R.S.N. Pillai and V. Bagavathi, S.
Chand and Co. Ltd., New Delhi.
6.
Studies in Advanced Accounting by S.N. Maheshwari, Sultan Chand and Sons,
New Delhi.
7.
Financial Accounting by P.C. Tulsian, Pearson Education, New Delhi.
34
LESSON : 12
AMALGAMATION, ABSORPTION AND RECONSTRUCTION
STRUCTURE
12.0 Objective
12.1 Introduction
12.2 Meaning of Amalgamation, Absorption & Reconstruction
12.3 Purchase consideration
12.4 Accounting treatment of Amalgamation, Absorption and External Reconstruction
12.5 Inter-Company Owings
12.6 Inter-Company Holding
12.7 Internal Reconstruction or Capital Reduction
12.8 Summary
12.9 Keywords
12.10 Self Assessment Questions
12.11 Suggested Readings
12.0 OBJECTIVE
After reading this lesson, you should be able to
a)
Define amalgamation, absorption and reconstruction.
b)
Appreciate the different modes of determining the purchase consideration.
c)
Know the accounting treatment in the books of transferor company and transferee
company.
12.1 INTRODUCTION
Sometimes companies carrying on similar business combine with each other to
obtain the economies of large scale production or to avoid the disastrous results of cut
throat competition. It is being done by Amalgamation and Absorption. The term
1
amalgamation is used when two or more companies carrying on similar business go
into liquidation and a new company is formed to take over their business. The term
absorption is also used when an existing company takes over the business of one or
more existing companies. These concepts have been modified by the Accounting
Standard 14 (AS-14)— "Accounting for Amalgamation", issued by the Institute of
Chartered Accountants of India. This standard is applicable in respect of accounting
periods commencing on or after 1st April, 1995 and is mandatory in nature. This standard
specifies the procedure of accounting for amalgamations and the treatment of any
resultant goodwill or reserve.
12.2 MEANING OF AMALGAMATION, ABSORPTION AND
RECONSTRUCTION
Amalgamation
Amalgamation means, when two or more existing companies go into liquidation
and a new company is formed to take their business e.g. A Ltd. And B. Ltd. are two
companies, they decide to liquidate and a new AB Ltd. is formed. A Ltd. and B Ltd.
lose their separate legal entity as soon as they merge into new company AB Ltd.
Absorption
Absorption means when one or more existing companies go into liquidation
and an existing company take over their business e.g. if existing A Ltd. goes into
liquidation and another existing company B Ltd. take over its business. The legal entity
of A Ltd. will come to an end when it is take over by B Ltd.
Reconstruction
The object of reconstruction of a company is not to bring about a merger but to
re-organize or reconstitute its business/capital structure. Reconstruction is of two
types:-
2
a) External reconstruction : External reconstruction means when an existing
company usually a loss making company liquidates and a new company or an existing
sound company takes over that company.
b) Internal reconstruction : Internal reconstruction is a process of reduction in the
capital of existing company without going into liquidation.
12.3 PURCHASE CONSIDERATION
The agreed price payable by the purchasing company to the vendor company
(liquidating company) for the acquisition of business is called purchase consideration.
The purchase consideration is determined keeping in view the value of assets and
liabilities of vendor company. The purchase consideration may be determined following
any of the following methods :i) Lump sum Method : When the amount of purchase consideration is fixed in a
lump sum it is called lump sum method. Both purchasing and vendor company bargain
and determine this price.
ii) Net Assets Method : Under net assets method the value of purchase consideration
is fixed by deducting from the value of taken over by purchasing company, the value of
liabilities taken over. For example if the assets are of Rs. 5,00,000 and liabilities of
Rs. 1,00,000, the purchase consideration will be Rs. 4,00,000.
Under this method only those assets and liabilities will be considered in
calculating the purchase consideration which have been actually agreed to be taken
over. Other items like Reserves and Surpluses, miscellaneous expenditure, capital
loss (shown in assets side of balance sheet) and fictitious assets will not be considered
for calculating purchase consideration.
3
Illustration 1 : The following is a balance sheet of A Ltd.
Balance Sheet of A Ltd.
as on …………
Liabilities
Share capital
Rs.
Assets
50,000
Rs.
Goodwill
20,000
Land & Building
15,000
Plant & Machinery
25,000
5000 equity share
of Rs. 10/ each
5% Debentures
10,000
Sundry Creditors
8,000
Stock
10,000
General reserves
2,000
Debtor
6,000
Profit & Loss A/c
10,000
Cash
2,000
Preliminary Expenses
2,000
80,000
80,000
B Ltd. another company takes over the business of company A Ltd. and take
over the following assets and liabilities on agreed value. Assets are Goodwill Rs. 18,000,
Land & Building Rs. 20,000, Plant & Machinery Rs. 30,000, Stock Rs. 8,000, Debtors
Rs.5,000 and Liabilities are Sundry Creditors Rs.6,000. Calculate purchase
consideration.
Solution: The Calculation of Purchase consideration
Value of assets taken over by B Ltd.
Goodwill
18,000
Land & Building
20,000
Plant & Machinery
30,000
Stock
8,000
Debtors
5,000
81,000
4
Less liabilities taken over by B
Sundry creditors
Purchase consideration
6,000
75,000
Points to be considered while calculating purchase consideration under net assets
method :
a)
Assets include cash in hand and cash at bank unless otherwise stated, but
shall not include any fictitious assets like preliminary expenses,
underwriting commission, discount on issue of shares and debentures,
profit and loss (Dr.) etc.
b)
If any particular assets is not taken over by purchasing company, it shall
not be included in purchase consideration.
c)
Liabilities include all third party liabilities like creditor, bills payable
etc.
d)
Liabilities shall not include any past accumulated profits or reserves such
as general reserve, capital reserve, dividend equalization fund, share
premium, sinking fund, etc.
e)
If any liability is not taken over by the purchasing company, it shall not
be considered in the calculation of purchase consideration.
iii) Net Payment Method : Under this method, the purchase consideration is calculated
by adding the payments made by the purchasing company in the form of shares,
debentures and cash.
Illustration 2 : In the above illustration suppose B Ltd. agrees to give for every 10
shares in A Ltd. 15 shares of Rs. 10 each, Rs. 8 paid up. B Ltd. also agree to discharge
the debentures at a premium of 5% by the issue of its own debenture and pay Rs. 5,000
in cash to discharge the creditor
Solution: The purchase consideration will be –
5
(i)
Shareholder of A Ltd. will get
Rs.
5000X15/10 = 7500 share of Rs. 10 each, Rs. 8 paid up
60,000
(ii)
Debenture holders of A Ltd. will get debentures in B Ltd.
10,500
(iii)
Cash for creditors
5,000
75,500
Points to be considered at the time of calculating purchase consideration under
Net Payment Method
a)
All the payments made by the purchasing company to shareholders,
debenture holders and other creditors of vendor company in the form of
cash, share or debentures must be taken into account.
b)
The assets and liabilities taken over by the purchasing company will not
be considered in calculating purchase consideration.
c)
If the liquidation expenses of vendor company are paid by the purchasing
company as part of purchase consideration, the same should be added to
the purchase consideration.
12.4 ACCOUNTING TREATMENT OF AMALGAMATION, ABSORPTION
AND EXTERNAL RE-CONSTRUCTION
Closing entries in the books of vendor company
1) For transferring assets taken over by purchasing company through realisation account.
Realisation a/c
Dr.
To various Assets (Individually at book value)
2) For transferring liabilities taken over by purchasing company.
Various liabilities a/c
Dr. ( individually at book value)
To Realisation a/c
3) For purchase consideration due
Purchasing company’s a/c
Dr. (with the purchase consideration)
To Realisation a/c
6
4) For receiving purchase consideration from purchasing company
Bank a/c
Dr.
Shares in purchasing company a/c
Dr.
Debentures in purchasing company a/c
Dr.
To purchasing company’s a/c
5) For assets sold by the vendor company not taken over by the purchasing company
Bank a/c
Dr.
Realisation a/c (if loss on sale of assets)
Dr.
To assets a/c
To realisation a/c (if profit on sale of assets)
6) For liquidation expenses
a) If the expenses are to be met by vendor company
Realisation a/c
Dr.
To Bank a/c
b) if the expenses are paid by purchasing company
No entry
c) If the expenses are included in purchase consideration and not paid separately by
purchasing company
Realisation a/c
Dr.
To Bank a/c
7) For liabilities not taken by the purchasing company when paid by the vendor company
Various liabilities a/c
Dr.
Realisation a/c (if excess payment is made)
Dr.
To Bank a/c
Or Shares in purchasing Co. a/c
Or Debentures in purchasing Co. a/c
To realisation a/c ( if less payment is made)
7
8) For closing realisation account
a) If profit
Realisation a/c
Dr.
To Equity Shareholders a/c
b) If loss
Equity Shareholder’s a/c
Dr.
To realization a/c
9) For transferring preference share capital
Preference share capital a/c
Dr.
To preference shareholder a/c
10)
For transferring equity share capital and accumulated profit
Equity share capital a/c
Dr.
General reserve a/c
Dr.
Debenture redemption fund a/c
Dr.
Dividend equalization reserve
Dr.
Share premium a/c
Dr.
Accident compensation fund
Dr.
(to that extent it does not denote liability)
Share forfeiture a/c
Dr.
Any other reserve or fund a/c
Dr.
To equity shareholder a/c
11)For transferring accumulated losses and expenses not written off
Equity shareholder a/c
Dr.
To profit and loss a/c
To discount or commission on share or debentures
To preliminary expenses
8
12)
For paying shareholders
Preference shareholders a/c
Dr.
Equity shareholder a/c
Dr.
To bank or share or debentures in purchasing company.
Opening entries in the Books of the Purchasing Company
1)
On acquisition of business from vendor company
Business purchase a/c
Dr.
To liquidator of vendor Co.
(with the amount of purchase consideration)
2)
When the assets and liabilities are taken over from the Vendor company
Sundry assets (individually) a/c
Dr. (with the revalued value)
To business purchase (Purchase consideration)
Note i)
If the debit total is greater than the credit total, the difference has to
treated as capital profit and credited to capital reserve a/c.
ii)
If the credit total is greater then the debit total, the difference has to
treated as capital loss and debited to goodwill a/c.
3)
When the purchase consideration is satisfied :
Liquidator of vendor Co. a/c
Dr. (with purchase consideration)
To preference share capital a/c (with the preference share issued by purchasing
company)
To equity share capital (with the equity share issued by purchasing company)
To share premium (if new share will be issued on premium) to debentures a/c
(debentures issued by purchasing company)
To Bank a/c (cash paid by the purchasing company)
9
4)
If the liquidation expenses of the vendor company are born by the purchasing
company, the same is to be treated as capital loss.
Goodwill a/c
Dr.
To Bank a/c (with the amount of expenditure)
5)
With the formation expenses of the purchasing company, if any
Preliminary Expenses a/c
Dr.
To Bank a/c
6)
If there are both goodwill and capital reserve, Goodwill may be written off against
capital reserve
Capital Reserve a/c
Dr.
To Goodwill (with the amount written off)
Note Either Goodwill a/c or Capital reserve a/c whichever is greater will appear in
the Balance sheet.
7)
If any liability is discharged by the purchasing company
Respective liability a/c
Dr.
To Share Capital a/c
To Debentures a/c
To Bank A/c
Illustration –3 (Amalgamation of Companies)
The following are the balance sheet of X Co. Ltd. and Y Co. Ltd. on 31st March,
1998:
10
X Co. Ltd.
Liabilities
Rs.
Assets
Rs.
Share Capital 4000
40,000
Building
20,000
Machinery
40,000
Stock
15,000
Debtors
10,000
Cash
2,000
Equity share of Rs.10/Each fully paid up
General Reserve
Profit and Loss a/c
15,000
5,000
6% Debentures of Rs.100/ 20,000
each
Trade Creditors
5,000
Employees Provident Fund 2,000
87,000
87,000
Y Co. Ltd.
Liabilities
Rs.
Assets
Rs.
Share Capital
Machinery
20,000
2,500 equity share of Rs.10/-
Stock
5,000
fully paid up
25,000
Debtors 5000
Trade Creditors
5,000
Less provision
For Doubtful
Debts 500
Cash
30,000
4,500
500
30,000
The two companies agree to amalgamate and form a new company called Z Co.
Ltd. which takes over the assets and liabilities of both the companies on 1st April, 1998.
The Assets of X Co. Ltd. are taken over at a reduction of 10% with the exception
of buildings which is taken at its book value. Y Co. Ltd. will receive 10% of the net
11
valuation of their respective business as Goodwill. The entire purchase price is to be
paid by Z Co. Ltd. in fully paid equity shares of Rs.10/- each.
Give journals entries to close the books of X Ltd. and Y Ltd. and show opening
entries in the books of Z Ltd. Also prepare the opening balance sheet in the books of
Z Co. Ltd. as on 1st April, 1998.,
Solution
Calculation of Purchase Consideration
X Co. Ltd.
Y. Co. Ltd.
Rs.
Rs.
Assets taken over –
Building
20,000
Machinery
36,000
20,000
Stock
13,500
5,000
Debtors
9,000
5,000
Cash
2,000
500
Gross Assets
80,500
30,500
Less Liabilities taken over
X Co. Ltd.
Y. Co. Ltd.
Rs.
Rs.
6% Debentures
20,000
Trade Creditors
5,000
Employees’ Provident Fund
2,000
Provision for Doubtful Debts
-
5,000
-
-
Net Assets
500
27,000
5,500
53,500
25,000
Add : Goodwill @ 10% on Net Assets
-
Purchase Consideration
53,500
12
2,500
27,500
Journal of X Co. Ltd.
1998
April 1
Dr. (Rs.)
Realisation a/c
Cr. (Rs.)
87,000
To Building a/c
20,000
To Machinery a/c
40,000
To Stock a/c
15,000
To Debtor a/c
10,000
To Cash a/c
2,000
(Being transfer of Sundry assets at their book value)
6% Debenture a/c
20,000
Trade Creditors a/c
5,000
Employees Provident Fund a/c
2,000
To Realisation a/c
27,000
(Being transfer of sundry liabilities at their
book value)
Z Co. Ltd. a/c
53,500
To Realisation a/c
53,500
(Being purchase Consideration due)
Equity Shareholder a/c
6,500
To Realisation a/c
6,500
(Being transfer of loss on realisation)
Equity share in Z Co. Ltd. a/c
53,500
To Z Co. Ltd.
53,500
(Being receipt of purchase consideration)
13
Equity Share Capital a/c
40,000
General Reserve a/c
15,000
Profit and Loss a/c
5,000
To Equity Shareholder a/c
60,000
(Being transfer of share capital and Past
Accumulated profit and reserves)
Equity shareholder a/c
53,500
To Equity Share in Z Co. Ltd. a/c
53,500
(Being final payment to equity shareholder)
Realisation a/c of X Co. Ltd.
Particulars
Amount
Particulars
Rs.
Amount
Rs.
To Building a/c
20,000
By 6% Debenture a/c
20,000
To Machinery a/c
40,000
By Trade Creditors a/c
5,000
To Stock a/c
15,000
By Employees Provident
2,000
Fund a/c
To Debtors a/c
10,000
By Z Co. Ltd. (Purchase
To Cash a/c
2,000
Consideration)
53,500
By Equity shareholder
6,500
A/c (Loss on realisation a/c)
87,000
87,000
14
Journal of Y Co. Ltd.
1998
1 April
Dr. (Rs.)
Realisation a/c
Dr.
Cr. (Rs.)
30,500
To Machinery a/c
20,000
To Stock a/c
5,000
To Debtor a/c
5,000
To Cash a/c
500
(Being transfer of sundry assets at their book value)
Provision for Doubtful Debts a/c Dr.
Trade Creditors a/c
500
Dr. 5,000
To Realisation a/c
5,500
Z Co. Ltd. a/c
Dr.
27,500
To Realisation a/c
27,500
(Being purchase consideration due)
Realisation a/c
Dr. 2,500
To Equity shareholder a/c
2,500
(Being transfer of profit on realisation)
Equity share in Z Co. Ltd. a/c
Dr.
27,500
To Z Co. Ltd. a/c
27,500
(Being receipt of Purchase Consideration)
Equity share Capital a/c
Dr.
25,000
To Equity Shareholder a/c
25,000
(Being transfer of share capital)
Equity shareholder a/c
Dr.
27,500
To Equity share in Z Co. Ltd. a/c
(Being final payment to equity shareholders)
15
27,500
Realisation a/c Y Co. Ltd.
Particulars
Amount
Particulars
Amount
Rs.
To Machinery a/c
Rs.
20,000
By Provision for
500
Doubtful Debts
To Stock a/c
5,000
By Trade Creditors
5,000
To Debtor a/c
5,000
By Z Co. Ltd. (Purchase
27,500
Consideration)
To Cash a/c
500
To Equity share holder
2,500
a/c (Profit on realisation)
33,000
33,000
Journal of Z Co. Ltd.
Dr. (Rs.)
Cr. (Rs.)
1988
April 1
Business purchase a/c
Dr.
81,000
To Liquidator of X Co. Ltd.
53,500
To Liquidator of Y Co. Ltd.
27,500
(Being acquisition of business of X Co. Ltd. and Y Co. Ltd.)
Good will a/c
Dr.
2,500
Buildings a/c
Dr.
20,000
Machinery a/c
Dr.
56,000
Stock a/c
Dr.
18,500
Debtors a/c
Dr.
14,000
Cash a/c
Dr.
2,500
To Provision for Doubtful Debts a/c
500
To 6% Debentures a/c
20,000
To Trade Creditors a/c
10,000
16
To Employees Provident Fund a/c
2,000
To Business Purchase a/c
81,000
(Being taking over of assets and liabilities of the vendor companies)
Liquidator of X Co. Ltd.
Dr.
53,500
Liquidator of Y Co. Ltd.
Dr.
27,500
To Equity share Capital a/c
81,000
(Being allotment of 8100 equity shares to Vendors as fully paid up for
consideration other than cash)
Opening Balance Sheet of Z Co. Ltd. as on 1 April, 1998
Liabilities
Rs.
Assets
Share Capital
Authorized Capital
Rs.
Fixed Assets
xxx
Goodwill
2,500
Issued and subscribed
Buildings
20,000
Capital
Machinery
56,000
8100 Equity share of
Current Assets
Rs. 10 each fully paid up
81,000
Stock
18,500
6% Debentures of Rs. 100
20,000
Debtors
14000
Nil
Less provision for
each
Unsecured loans
Current Liabilities and
Doubtful Debts 500 13,500
Provisions
Cash
2,500
A. Current Liabilities
Trade Creditors
10,000
B. Provision
Employees Provident Fund
2,000
1,13,000
17
1,13,000
Illustration – 4 (Amalgamation of Companies)
B Ltd. and C Ltd. were competing companies both of which had incurred losses
in recent years. Their respective balance sheet as on 30th June 1998 were as follows :
Balance Sheet of B. Ltd.
Liabilities
Rs.
Assets
Rs.
Issued Capital
Patents
2,500
10,000 equity shares of
Plant
40,000
Rs. 10 each fully
Furniture &
paid up
1,00,000
Bank overdraft
6,050
Creditors
18,560
Fittings
4,600
Stock
42,460
Debtors
15,630
P & L a/c
19,420
1,24,610
1,24,610
Balance Sheet of C Ltd.
Liabilities
Rs.
Assets
Rs.
Issued Capital
12,000 equity shares
60,000
of Rs.5 each fully paid
P & L a/c
640
Creditors
8,310
Goodwill
10,000
Patent
8,000
Plant
21,000
Furniture &
Fittings
Stock
Debtors
Cash
68,950
3,280
16,990
9,550
130
68,950
In order to eliminate competition and provide for more economical working as
well as to make it possible to introduce fresh capital, the following arrangements were
made and carried into effect :
18
a)
Both companies were to be wound up, a new company A Ltd. being formed to
take over both business.
b)
A Ltd. took over the floating assets of both companies at book values and the
fixed assets at the following valuations :
Goodwill
Patents
Plant
Furniture and Fittings
c)
B.Ltd.
C. Ltd.
1,000
1,000
500
2,000
27,000
11,000
3,000
2,300
31,500
16,300
The consideration for the assets of B Ltd. was satisfied by the issue of 1,200,
9% preference shares of Rs.10 each and Rs. 64,490 in Rs. 10 equity shares of A
Ltd. fully paid and the balance in cash; whereas and for the assets of C Ltd.
Rs.34,300 in Rs. 10 equity shares of A Ltd. and the balance in cash.
d)
The liquidator of B Ltd. transferred the preference shares to a loan creditor for
Rs. 12,000 in satisfaction of his claim. The equity shares were distributed prorata among the shareholders of each of the original companies, the cash being
just sufficient to satisfy the creditors of each company and the expenses of
liquidation which amount to Rs. 500 and Rs. 300 respectively. For B. Ltd. and C
Ltd.
e)
In order to provide the necessary cash A Ltd. issued 100, 7.5% debentures of
each Rs.100 each at a discount of 5% and 1800, 9% preference shares of Rs.10
each at par; these were fully paid up.
19
You are required to show the (i) necessary ledger accounts in the books of B
Ltd. and C Ltd. (ii) Opening entries in the books of A Ltd. and (iii) to prepare the
opening balance sheet of A Ltd.
Solution: Calculation of Purchase Consideration :
Assets taken over
C Ltd. Rs.
Goodwill
Patents
B Ltd. Rs.
1,000
1,000
500
2,000
Plant
27,500
11,000
Furniture and Fittings
3,000
2,300
Stock
42,460
16,990
Debtors
15,630
9,550
Net Assets or Purchase consideration
89,590
42,840
Purchase consideration to be satisfied as follows :
9% Preference shares in A Ltd.
12,000
-
Equity shares in A Ltd.
64,490
34,300
Cash
13,100
8,540
89,590
42,840
B Ltd.’s Ledger
Realisation Account
Dr.
To Patents
To Plant
To Furniture & Fittings
Rs.
2,500
By A Ltd.
40,000
By Creditors a/c
4,600
To Stock
42,460
To Debtors
15,630
To cash (expenses)
Rs.
By equity share
Cr.
89,590
10
16,090
holder’s a/c
500
1,05,690
1,05,690
20
A Ltd.
To Realisation a/c
89,590
By 9% Pref.shares
12,000
In A Ltd.
By equity shares in
64,490
A Ltd.
By Cash a/c
89,590
13,100
89,590
Bank Overdraft Account
To cash a/c
6,050
By Balance b/d
6,050
Creditors Account
To 9% Preference share
12,000
By Balance b/d
18,560
In A Ltd.
To Cash a/c
To Realisation a/c
6,550
10
18,560
18,560
9% Preference Shares in A Ltd.
To A Ltd.
12,000
By Creditors a/c
12,000
12,000
12,000
Equity Shares in A Ltd.
To A Ltd.
64,490
By equity share
64,490
Holder a/c
64,490
64,490
21
Cash Account
To A Ltd.’s a/c
13,100
By Realisation a/c
500
(exp.)
By Bank overdraft
6,050
By Creditors
6,550
13,100
13,100
Equity Shareholder’s Account
To Realisation a/c
16,090
To P/L a/c
19,420
To equity share in A Ltd.
64,490
By equity share
1,00,000
1,00,000
1,00,000
C Ltd.’s Ledger
Realisation Account
Rs.
To Goodwill
To Patents
To Plant
To furniture & fittings
To Stock
To Debtors
To Cash (exp.)
To Creditors
Rs.
10,000
8,000
21,000
By A Ltd.
42,840
By equity share
26,340
holder’s a/c
3,280
16,990
9,550
300
60
69,180
69,180
22
A Ltd.
To Realisation a/c
42,840
By equity shares in 34,300
A Ltd.
By Cash
42,840
8,540
42,840
Creditors Account
To Cash a/c
8,370
By Balance b/d
By Realisation a/c
8,370
8,310
60
8,370
Equity Share in A Ltd.
To A Ltd.
34,300
By equity share
34,300
Holder a/c
34,300
34,300
Cash Account
To Balance b/d
130
To A Ltd.’s a/c
8,540
By Realisation
300
(exp.)
By Creditors
8,670
8,370
8,670
Equity Shareholder’s Account
To Realisation a/c
26,340
By equity share
To equity share in
34,300
Capital a/c
A Ltd.’s a/c
By Profit & Loss a/c
60,640
60,000
640
60,640
23
A Ltd.’s Journals
Dr.
Business Purchase a/c
Cr.
1,32,430
To Liquidator of B Ltd.
89,590
To Liquidator of C Ltd.
42,840
(Being acquisition of business of B Ltd.
as per agreement dated…………..)
Goodwill a/c
Dr.
2,000
Patents a/c
Dr.
2,500
Plants a/c
Dr.
38,000
Furnitures & Fittings Dr.
5,300
Stock a/c
Dr.
59,450
Debtors
Dr.
25,180
To Business Purchase a/c
1,32,430
(Being taking over of assets and liabilities
of the vendor companies
Bank a/c
Dr.
27,500
To 9% Pref. Share application and
18,000
Allotment a/c
To 7 ½%Debenture application and
9,500
Allotment a/c
(Being application money on 1800 9% preference
shares @ Rs.10 per share and 100 7 ½%
Debenture of Rs. 100 each and Rs. 95 each)
24
9% Preference share application &
18,000
Allotment a/c
Dr.
7% Debenture app. & allotment a/c
Dr.
9,500
Discount on issue of debenture a/c
Dr.
500
To 9% Preference share capital a/c
18,000
To 7 ½% Debenture a/c
10,000
(Being allotment 1800 9% Preference shares of
Rs.100 each at per and 100 7 ½%
Debentures of Rs.100 each at a discount
of 5% as per Board’s resolution dated……….)
Liquidator of B Ltd.
Dr.
89,590
Liquidator of C Ltd.
Dr.
42,840
To 9% Pre. Share capital a/c
12,000
To equity share capital a/c
98,790
To Bank a/c
21,640
(Being allotment of 1200 9% Preference shares
of Rs. 10 each and 9,879 equity shares of
Rs.10 each issued to vendors as fully paid
Up for consideration other than cash and
The payment of balance in cash as per
Board’s resolution dated……….)
25
Balance Sheet of A Ltd. as at 30th June 1997
Liabilities
Rs.
Assets
Rs.
Share Capital :
Fixed Assets :
Authorised Capital
Goodwill
2,000
Patents
2,500
Plant
38,000
Issued or Subscribed
Furniture & Fittings
5,300
Investments
NIL
Capital :
3,000, 9% Preference Shares
of Rs. 10 each Fully paid up
Current Assets :
30,000
Loans and Advances :
A Current Assets :
9879 Equity shares of Rs. 10
each Fully paid up
98,790
(Of the above shares, 1200,
Stock
59,450
Debtors
25,180
Bank Balance
5,860
9% Preference shares and
9,879 Equity shares issued to
B. Loans and Advances
vendors for consideration
Miscellaneous
other than cash).
Expenditure :
Discount on Issue of
Debenture.
Reserve & Surplus
500
NIL
Secured Loan :
100, 7-1/2% Debenture
of Rs. 100 each
10,000
Unsecured Loan :
NIL
Current Liabilities and
NIL
Provisions
1,38,790
26
1,38,790
Illustration : 5(Absorption)
The following is the Balance Sheet of Dee Ltd. As on 31.12.98
Liabilities
Rs.
Share Capital :
40,000 equity shares of
4,00,000
Assets
Rs.
Buildings
1,70,000
Plant & Machinery
4,00,000
Rs.10 each
General Reserve
50,000
Investment
Profit & Loss A/c
29,600
Debtors
50,600
1,40,500
5% Debentures
2,50,000
Stock
80,700
Creditors
1,28,700
Cash at Bank
16,500
8,58,300
8,58,300
Dee Ltd. was absorbed by Comet Ltd. on the above mentioned dated on the
following terms and conditions :
Comet Ltd. to(a)
assume all liabilities and to acquire all assets except investment which
were sold by Dee Ltd. for Rs. 45,000,
(b)
Discharge the Debentures of Dee Ltd. at a discount of 5% by the issue
6% Debentures of Rs. 100 each in Comet Ltd.,
(c)
Issue two equity shares of Rs. 5 each in Comet Ltd. at Rs. 6 per share and
also to pay Rs. 2 per share in cash to the shareholders of Dee Ltd. in
exchange of every share in Dee Ltd.,
(d)
Pay the cost of absorption Rs. 2,500 as part of purchase consideration.
Dee Ltd. sold in the open market 1/4th of the shares received from Comet
Ltd. at the average rate of Rs. 5.50 per share.
Show the necessary Ledger accounts in the books of Dee Ltd. and the Opening
entries in the books of Comet Ltd.
27
Solution :-
Calculation of Purchase Consideration
Particulars
Amount
Shareholders(i)
Mode of Payment
(Rs.)
80,000 equity shares
40,000x2 of Rs.5 each at
Rs. 6 each, i.e.
80,000xRs.6
(ii)
Cash 40,000xRs.2
(iii)
Debenture holders-
4,80,000
80,000
Equity Shares
Cash
5% Debentures 2,50,000
Less : Discount @ 5%
12,500
(iv)
2,37,500
Cost of absorption
2,500
6% Debentures
Cash
8,00,000
Dr.
To Building A/c
Dee Ltd’s Ledger
Realisation Account
Rs. Cr.
By Creditors A/c
1,28,700
To Plant & Machinery A/c 4,00,000
By Comet Ltd.
8,00,000
To investment A/c
By Cash A/c
To Debtors A/c
1,70,000
Rs.
50,600
1,40,500
(Investment Realised)
To Stock A/c
80,700
By 5% Debentures A/c
To Bank A/c
16,500
(Discount)
To Cash A/c (Exp.)
2,500
To Equity Share in
10,000
45,000
12,500
Comet Ltd. (Loss on Sale)
To Equity
Shareholder’s A/c
1,15,000
(Profit transferred)
9,86,200
9,86,200
28
Comet Ltd.
Dr.
Rs.
Cr.
Rs.
To Realisation A/c
8,00,000
By Equity Shares in
4,80,000
Comet Ltd.
By 6% Debentures in
2,37,500
Comet Ltd.
By Cash
8,00,000
82,500
8,00,000
Equity Shares in Commet Ltd.
To Comet Ltd.’s A/c
4,80,000
By Cash A/c
By Realisation A/c
1,10,000
10,000
By Equity Share
Holder/s A/c
4,80,000
3,60,000
4,80,000
6% Debentures in Comet Ltd.
To Comet Ltd.
2,37,500
By 5% DebentureHolders A/c
2,37,500
Cash Account
To Comet Ltd.
82,500
By Realisation A/c
2,500
(Exp.)
To Realisation
45,000
To Equity Share in
Comet Ltd.’s A/c
By Equity
Shareholder’s A/c
2,35,000
1,10,000
2,37,500
2,37,500
29
5% Debenture Holder’s Account
To Realisation A/c
12,500
By 5% Debentures A/c
2,50,000
To 6% Debentures in
Comet Ltd.
2,37,500
2,50,000
2,50,000
Equity Shareholder’s Account
Rs.
To Equity Share in
Rs.
By Equity Share
Comet Ltd.’s A/c
3,60,000
Capital A/c
To Cash A/c
2,35,000
By General Reserve
4,00,000
50,000
A/c
By P/L A/c
By Realisation A/c
5,95,000
29,600
1,15,400
5,95,000
Comet Ltd’s Journal
Dr.
8,00,000
Business Purchase A/c
Dr.
To Liquidators of Dee Ltd’s A/c
(Being acquisition of the business of Dee
Ltd. as per agreement dated__________)
Building A/c
Dr.
Plant & Machinery
Dr.
Debtors A/c
Dr.
Stock A/c
Dr.
Bank A/c
Dr.
Goodwill A/c
Dr.
To Creditors A/c
To Business Purchase A/c
(Being taking over of assets and liabilities
of the vendor Company)
Cr.
8,00,000
1,70,000
4,00,000
1,40,000
80,700
16,500
1,21,000
1,28,700
8,00,000
30
Liquidator of Dee Ltd’s A/c
Dr.
8,00,000
To equity share Cap. A/c
4,00,000
To Share Premium A/c
80,000
To 6% Debenture A/c
2,37,000
To Bank A/c
82,500
(Being allotment of 80,000 equity shares
of Rs.5 each at a Premium of Re.1
each and 2,375 6% Debenture of
Rs.100 each issued to vendors as
Fully paid up for consideration other
than cash and the balance paid in
cash as per Board’s resolution dated)
Illustration–6 (Absorption)
Thin and Co. Ltd. was absorbed by Jhick & Co. Ltd., as on 31st March, 1998. All
the assets and liabilities of Thing & Co. Ltd. was taken over by Thick & Co. Ltd. The
valuation at which the assets were taken up was as follows :
(i)
Stock at 15% above book-value.
(ii)
Plant and Machinery at 20% above book value;
(iii)
Goodwill at Rs.1,00,000;
(iv)
Debtors were taken subject to a provision of 10% for doubtful debts;
(v)
The fire insurance policy against which premium was paid in advance could not
be assigned and so lapsed;
(vi)
The income-tax refund claim was taken at Rs.5,000.
There was a claim of Rs.3,000 against the workmen’s Compensation Fund which
was admitted by the Company but was not paid.
The purchase consideration was paid in so many fully paid shares of the Thick &
Co. Ltd. as may be distributed at three shares to the holders of every two shares of Thin
31
& Co. Ltd. and the balance in cash. The following are the balance sheets of both the
Companies as on 31.03.1998.
Liabilities
Thick of
Thin of
Co. Ltd.
Co.Ltd.
Assets
Authorised
Goodwill
Capital, Equity
Plant &
Share of Rs.10
Machinery
Each.
15,00,000
15,00,000
Thick &
Thin &
Co. Ltd.
Co. Ltd.
2,00,000
60,000
1,00,000
Stock in Trade 3,12,000
80,000
Sundry Debtor 2,65,000
56,000
Issued &
Prepaid Insurance -
Subscribed Capital
Income Tax
Equity Shares of
Refund
-
Rs.10 each Fully
Cash in Hand
869
356
Cash in Bank
14,000
8,300
Paid-up
8,00,000
2,00,000
General Res.
1,00,000
50,000
20,502
12,900
12,000
9,000
P/L A/c
700
6,000
Workmen’s
Compensation
Fund
Sundry Creditor 58,567
30,456
Staff Provident
Fund
10,000
4,000
12,000
5,000
10,13,069
3,11,356
Provisional
Taxation
10,13,069
32
3,11,356
You are required to(i)
Show the necessary ledger accounts in the books of Thin & Co. Ltd.
(ii)
Show the necessary Journal entries in the books of Thick & Co. Ltd.
(iii)
Prepare the Balance sheet of Thick & Co. after absorption.
Solution:-
Calculation of Purchase Consideration
Assets taken over
Rs.
Rs.
Goodwill
1,00,000
Plant & Machinery (1,00,000+20%)
1,20,000
Stock in trade
Sundry Debtors
(80,000+15%)
92,000
(56,000-10%)
50,400
Income Tax Refund Claim
5,000
Cash in Hand
356
Cash at Bank
8,300
Gross Assets taken over
3,76,056
Less : Liabilities taken over
Sundry Creditors
30,456
Staff Provident Fund
4,000
Provision For Taxation
5,000
Workmen’s Compensation Fund
3,000
Net Assets or Purchase Consideration
42,456
3,33,600
Purchase consideration to be satisfied as follow :
20,000x2/3 = 30,000 equity share of Rs.10 each
Cash
3,00,000
33,600
3,33,600
33
Ledger of Thin & Co Ltd.
Realisation Account
Rs.
Goodwill
Rs.
60,000
To Plant & Machinery A/c
1,00,000
By Sundry Creditors A/c
By Workmen’s
To Stock-in-Trade A/c
80,000
Compensation Fund A/c
To Sundry Debtors A/c
56,000
By Staff Provident Fund
To Income Tax Refund Claim
A/c
A/c
6,000
30,456
3,000
4,000
By Provision For Taxation
To Prepaid Insurance
700
A/c
To Cash in Hand A/c
356
By Thick & Co. Ltd.
To Cash at Bank A/c
8,300
5,000
3,33,600
To equity share holder A/c
Profit
64,700
3,76,056
3,76,056
Thick & Co. Ltd.
To Realisation A/c
3,33,600
By equity Shares in Thick
& Col. Ltd.
By Cash A/c
3,33,600
3,00,000
33,600
3,33,600
Equity Shares in Thick & Co. Ltd.
To Thick & Co. Ltd.
3,00,000
By equity shareholder’s A/c 3,00,000
34
Cash Account
To Thick & Co Ltd’s A/c
33,600
By equity shareholder’s A/c 33,600
Equity Shareholder’s Account
To equity shares in
Thick & Co. Ltd. A/c
To Cash A/c
By equity Share Capital
3,00,000
33,600
A/c
2,00,000
By General Reserve A/c
50,000
By Profit & Loss A/c
12,900
By Workmen’s
Compensation Fund A/c
By Realisation A/c
3,33,600
6,000
64,700
3,33,600
Journal of Thick & Co. Ltd.
Dr. (Rs.)
Goodwill A/c
Dr.
1,00,000
Plant & Machinery A/c
Dr.
1,20,000
Stock-in-trade A/c
Dr.
92,000
Sundry Debtors A/c
Dr.
56,000
Income Tax Refund Claim Dr.
5,000
Cash in Hand A/c
Dr.
356
Cash at Bank
Dr.
8,300
Cr. (Rs.)
To Provision for Doubtful Debts A/c
5,600
To Sundry Creditors A/c
30,456
To Staff Provident Fund A/c
4,000
To Provision for Taxation A/c
5,000
To Workmen’s Compensation Fund A/c
3,000
To Liquidator of Thin & Co. Ltd’s A/c
3,33,600
(Being taking over of assets and liabilities of Thin & Co. Ltd. as per agreement
date______)
35
Liquidator of Thin & Co. Ltd’s A/c
Dr.
3,33,600
To Equity Share Capital A/c
3,00,000
To Bank A/c
33,600
(Being allotment of 30,.000 equity shares of Rs. 10 each issued to vendors as fully
paid up for consideration other than cash and the balance paid in cash as per Board”
Resolution date__________)
Balance Sheet of Thick & Co. Ltd. as at 31st March, 1988
Liabilities
Share Capital :
Authorised Capital
1,50,000 Equity shares
of Rs. 10 each
15,00,000
Issued & Subscribed
Capital :
1,10,000 equity shares
of Rs.10 each
fully paid up
11,00,000
Reserves & Surplus :
General Reserve
1,00,000
Profit & Loss A/c
20,502
Workmen’s
Compensation Fund
15,000
Secured Loan :
Bank overdraft
11,300
Unsecured Loan :
NIL
Current Liabilities &
Provisions :
A.
Current Liabilities :
Sundry Creditors
89,023
B.
Provisions :
Provision for taxation 17,000
Staff Provident Fund 14,000
Assets
Fixed Assets :
Goodwill
Plant & Machinery
Investment :
Current assets, Loans and
Advances :
A.
Current Assets :
Stock in Trade
Sundry
Debtors = 2,77,200
Less:Provision=5,600
Cash Balance in Hand
B.
Loans & Advances :
Income Tax Refund
Claim
Misc. Expenditure
13,66,825
3,00,000
4,32,000
3,57,000
2,71,600
1,225
5,000
NIL
13,66,825
36
Illustration No. 7 (External Reconstruction)
The following is the Balance Sheet of Rocket Ltd. as at 31st March, 1998 :
Liabilities
Rs.
Assets
Rs.
Capital :
Patents
1,50,000
50,000 equity shares of
Freehold Property
2,00,000
Stock-in-Trade
1,70,000
Debtors
2,60,000
Authorised and Issued
Rs.10 each fully paid up
5,00,000
60,000, 6% Preference
Cash at Bank
shares of Rs.5 each fully
Profit & Loss A/c
paid up
3,00,000
5% Debentures
2,00,000
Sundry Creditors
1,60,000
6,000
4,06,000
Accured Interest on
Debenture
32,000
11,92,000
11,92,000
The following scheme of reconstruction was passed and sanctioned :
(1)
A new company by the name of Rocket (1998) Ltd. to be formed to take over
the entire business of Rocket Ltd.
(2)
One equity share of Rs.10, Rs.5 per share paid up is to be given in exchange of
every two equity shares of Rocket Ltd.
(3)
One 5% Preference Share of Rs.100 each is to be given in exchange of every 30
preference share of Rocket Ltd.
(4)
5% Debentures of Rocket Ltd. will be discharged together with the amount of
interest accured by the issue of equity shares of Rs.10 each fully paid.
(5)
The Creditor will receive 50% of their dues in cash and 25 % in equity shares of
Rs. 10 each and the balance is to be forgone.
37
(6)
The equity shares issued as Rs.5 per share paid-up to be made Fully paid up
receiving cash from the holders.
(7)
The Authorised Capital of Rockets (1998) Ltd. is to be Rs.8,00,000 divided
into 60,000 equity shares of Rs.10 each and 2,000, 5% Preference shares of
Rs.100 each.
You are required to(i)
Show the closing entries in the books of Rocket Ltd.
(ii)
Show the opening entries in the books of Rocket (1998) Ltd. and
(iii)
Prepare the opening Balance Sheet of Rocket (1998) Ltd. utilising any Profit
on taking over to write down the value of the Patents. The Preliminary Expenses
amounted to Rs.6,000.
Solution
Calculation of Purchase Consideration
Particulars
Amount (Rs.) Mode of Payment
Equity Shareholders:25000 equity shares (i.e. 50,000/2) of Rs.10
each, Rs.5 per Share credited (25,000x5)
1,25,000
Equity Shares
2,00,000
5% Preference Shares
2,32,000
23,200 equity shares of Rs.10 each
6% Preference Shareholders2,000 Preference Share (i.e. 60,000/30) of
Rs.100 each Fully paid up (2,000x100)
5% Debenture holdersDebenture
Add Accured Int.
2,00,000
32,000
Creditors
(i)
50% of Rs.1,60,000
80,000
Cash
(ii)
25% of Rs.1,60,000
40,000
4,000 equity shares of Rs. 10 each
Net Payment or Purchase Consideration
6,77,000
38
Journal of Rocket Ltd.
Dr.
Realisation A/c
Dr.
Cr.
7,86,000
To Patent A/c
1,50,000
To Freehold Property A/c
2,00,000
To Stock-in-Trade A/c
1,70,000
To Debtors A/c
2,60,000
To Cash at Bank A/c
6,000
(Being transfer of Sundry Assets on sale of business to Rocket (1998) Ltd.)
Rocket (1998) Ltd.
Dr.
6,77,000
To Realisation A/c
6,77,000
(Being purchase Consideration becoming due)
Sundry Creditors A/c
Dr.
40,000
To Realisation A/c
40,000
(Being amount Foregone by the Creditors)
Equity Shares in Rocket (1998) Ltd. A/c Dr.
3,97,000
5% Pref. Shares in Rocket (1998) Ltd.
2,00,000
Cash A/c
Dr.
Dr.
80,000
To Rocket (1998) Ltd.
6,77,000
(Being receipt Purchase Consideration)
5% Debentures A/c
Dr.
2,00,000
Accrued Int. on Debentures A/c
Dr.
32,000
To 5% Debenture-holder’s A/c
2,32,000
(Being amount due on redemption)
5% Debenture-holder’s A/c
Dr.
2,32,000
To Equity Share in Rocket (1998) Ltd.
2,32,000
(Payment to Debenture-holders in the Form of equity shares received from the
purchasing Company).
39
Sundry Creditor’s A/c
Dr.
1,20,000
To Equity Share in Rocket (1998) Ltd.
40,000
To Cash A/c
80,000
(Being payment to Sundry Creditors)
6% Preference Share Capital A/c
Dr.
3,00,000
To 6% Preference Shareholder’s Ltd.
3,00,000
(Being transfer to Pref. Share Capital to Preference Shareholders’ A/c)
6% Preference Shareholder’s A/c
Dr.
1,00,000
To Realisation A/c
1,00,000
(Being amount Foregone by the Preference Shareholders)
Realisation A/c
Dr.
31,000
To Equity Shareholders’ A/c
31,000
(Being profit on realisation transferred)
6% Pref. Shareholder’s A/c
Dr.
2,00,000
To 5% Pref. Shares in Rocket Ltd.
2,00,000
(Being payment to Prefer. Shareholders)
Equity Share Capital A/c
Dr.
5,00,000
To Equity Shareholder’s A/c
5,00,000
(Being transfer of Equity Share Capital to Equity Shareholder’s A/c)
Equity Shareholders’ A/c
Dr.
4,06,000
To Profit & Loss A/c
4,06,000
(Being transfer of accumulated losses to equity Shareholder’s A/c)
Equity Shareholders’ A/c
Dr.
To Equity Shares in Rocket Ltd.
1,25,000
1,25,000
(Being payment to Equity Shareholder)
40
Journal of Rocket (1998) Ltd.
Dr.
Cr.
Patents A/c
Dr.
1,50,000
Freehold Property A/c
Dr.
2,00,000
Stock-in-Trade A/c
Dr.
1,70,000
Debtors A/c
Dr.
2,60,000
Cash at Bank A/c
Dr.
6,000
To Liquidator of Rocket Ltd.
6,77,000
To Capital reserve A/c
1,09,000
(Being taking over of the assets of Rocket Ltd. as per agreement dated____________).
Capital reserve A.c
Dr.
1,09,000
To Patent A/c
1,09,000
(Being writing off of Patents against the Profit on taking over the business of Rocket Ltd.)
Liquidator of Rocket Ltd.
Dr.
6,77,000
To Equity Share Capital
3,97,000
To 5% Pref. Share Cap. A/c
2,00,000
To Bank A/c
80,000
(Being allotment of 25,000 equity shares of Rs.10 each, Rs. 5 Share being paid up,
27,200 equity shares of Rs.10 each Fully paid up, 2,000 5% Pref. Shares of Rs.100
each Fully paid up to vendors. For consideration other than cash and the Balance paid in
cash as per Board’s resolution dated ____________)
Bank A/c
Dr.
1,25,000
To Equity Shares Capital A/c
1,25,000
(Being call Money on 25,000 Equity Shares @ Rs.5 per Share)
Preliminary Expenses A/c
Dr.
6,000
To Bank A/c
6,000
(Being payment of Preliminary Expenses)
41
Balance Sheet of Rocket (1998) Ltd. as at 31st March, 1998
Liabilities
Rs.
Share Capital :
Authorised Capital-
Assets
Rs.
Fixed Assets :
6,00,000
Patents
60,000 equity shares of Rs.10
Freehold Property
each 2000 5% Pref. Shares of
Investments :
Rs.100 each.
Current Assets, Loans
2,00,000
41,000
2,00,000
Advances :
8,00,000
A.
Current Assets
Stock-in-trade
1,70,000
Issued and Subscribed Capital :
Debtors
2,60,000
52,200 Equity Shares of Rs.10
Bank Balance
each Fully paid up.
45,000
5,22,000
2000, 5% Pref. Shares of
B.
Loans & Advances :
Rs.100 each, Fully Paid up. 2,00,000
Miscellaneous
(All the above shares are
Expenditure
issued to vendors for
Preliminary Expenses
6,000
consideration other than cash).
7,22,000
7,22,000
12.5 INTER COMPANY OWINGS
If there are inter-company owings resulting from purchase and sale of goods
between the vendor company and the purchasing company, the same have to be cancelled
in the books of the purchasing company when the accounts are consolidated. The
following are the examples of such items :
1.
Common Debts-(I) If the purchasing company owes an amount to the vendor
company, the same is in the Sundry Debtors of the vendor company and Sundry Creditors
42
of the purchasing Company. If the vendor company owes an amount to the purchasing
company the same is in the Sundry of purchasing company and Sundry Creditors of the
vendor company. The entry for the cancellation of this common item will be follows
in the book of purchasing company.
Sundry Creditor Account Dr. (with the amount of inter company owing)
To Sundry Debtors A/c
Note : (i)
The above entry for cancellation of common items has to be passed after
the acquisition entries are passed in the usual way.
(ii)
Such an item will not affect the vendor company in any way and hence no entry
will be required in the books of vendor.
2.
Adjustment of unrealised profit included in the unsold stock of the vendor
company which was sold by the purchasing company
(i)
Stock of the vendor company includes goods sold by the purchasing company.
For this, no separate entry is required to be passed in the books of purchasing
company, only the amount of stock has to be reduced while passing the entries
on acquisition.
(ii)
Stock of purchasing company includes goods sold by the vendor company at a
profit. The following adjustment entry has to be passed in the books of purchasing
company.
Goodwill or Capital Reserve A/c
Dr.
To Stock A/c (with the amount of unrealised profit)
43
12.6 INTER-COMPANY HOLDINGS
Inter Company holdings may be possible in any of the following ways :
i)
Share may be held by the purchasing company in the vendor Company or
ii)
Share may be held by the vendor company in the purchasing company, or
iii)
Share may be held by both companies in each other.
a)
If share are held by purchasing company in the vendor company :
In such a case the purchase consideration has to be adjusted for shares already
held by the purchasing company since the purchasing company is the owner of the
proportionate assets of vendor company. Under the net assets method of calculating
purchase consideration, it should be reduced proportionately. While under the net
payment method, purchase consideration should be calculated on the basis of outside
shareholder and creditors only.
As the vendor company is not supposed to received any price of the share held
by the purchasing company, it has to close that part of share capital by transfer to the
Realisation A/c. Entry will be –
Share Capital A/c
Dr.
To Realisation A/c
(With the paid up values of the share held by the purchasing company)
Similarly, the purchasing company has to cancel its investment in share of the
vendor company since it has got no value after the merger. The entry required for this
is :
Goodwill or Capital Reserve A/c
Dr.
To Investment in share A/c
(as the case may be with the cost of shares)
44
Note : It would be better, however to credit the investment in Share A/c alongwith the
entry recorded the assets and liabilities taken over. In such a case, the goodwill or
capital reserve will be automatically adjusted.
b)
If share are held by the vendor company in the purchasing company
In such a case, share held by the vendor company in the purchasing company
will appear as an asset in the books of vendor company. But it is important to note here
that at the time of taking over the assets of the vendor company, the purchasing company
can not take over its own shares. The treatment of this item in the books of both
companies will be as follows.
In the books of the vendor, such share held in the purchasing company should
not be transferred to Realisation A/c. Instead such share should be applied in paying
off the share holders of the company. But if such shares are revalued at the time of sale
of the business, the profit or less on revaluation should be adjusted through the
Realisation A/c by debiting or crediting the same in Purchasing Company A/c.
In the books of the purchasing company, no debit should be given for this asset
of the vendor company at the time of acquisition of assets. If purchase consideration
is determined under the net payment method, the purchasing company must deduct the
number of share already held by the vendor company from the purchase consideration
while making payment to the vendor company. For example, the purchasing company
acquires the business of the vendor company and in exchange allots 3 shares of Rs. 10
each for every share of Rs. 20 each. If the vendor company’s share Capital consists of
10,000 share of Rs. 20 each, it is supposed to received 10000 x 3 = 30,000 shares of
Rs. 10 each. Now, if 5000 shares of the purchasing company are already held by the
vendor company the purchasing company will issue only (30000 – 5000) – 25,000
shares to the vendor company in the satisfaction of purchase consideration.
45
c)
If shares are held by both the companies in each other
In such a case the value of share of both the companies has to be ascertained
first with the help of an algebraic equation because the value of shares in one company
will affect the value of shares in the other company. From the value of share of both
the companies, thus determined, the proportionate value of shares held by both the
companies in each other has to be deducted to arrive at the amount due to the outsiders.
The purchase consideration in such a case has to be determined on the basis of the
amount due to outsiders.
Illustration No. 8
The following are balance sheets of A Co. Ltd. and B. Co. Ltd. on 31.12.1998.
Liabilities
Share Capital
A Ltd.
B. Ltd.
Rs.
Rs.
4,00,000
1,50,000
Profit & Loss
A/c
1,25,000
1,25,000
6,00,000
A.Ltd.
B.Ltd.
Rs.
Rs.
Sundry Assets 5,60,000
Goodwill
75,000
Creditors
Assets
2,00,000
40,000
50,000
—
25,000
Profit & Loss
A/c
2,75,000
6,00,000
2,75,000
A Ltd. holds 1000 shares in B. Ltd. at cost Rs.25,000 and B. Ltd. holds 500
share in A Ltd. at cost Rs. 70,000 in each case included in the Sundry Assets. The
shares of A Ltd. are of Rs.100 each fully paid, the share of B Ltd. are Rs. 50 each, Rs.
30 paid.
The two companies agree to amalgamate and form a new company AB Ltd. on
the basis :
j)
The shares which each company holds in the other are to be valued at book value
having regard to the goodwill valuation as A Ltd. Rs.1,50,000 and for b Ltd, the
value of goodwill is Rs.25,000.
46
ii)
The new shares are to be a nominal value of Rs.50 each, credited as Rs.25 paid.
Prepare balance sheet of AB Ltd. and a statement showing shareholdings in the
new company attributable to the members of the old companies.
Solution
Balance Sheet of AB Ltd. as on 31.12.98
Liabilities
Rs.
Assets
Rs.
Share Capital :
Fixed Assets :
Authorised
Goodwill
Issued & Subscribed Capital
A Ltd.
1,50,000
23,500 share of Rs.50 each,
B Ltd.
25,000
Rs.25 per share paid.
1,75,000
5,90,000
(consideration other than
cash)
Sundry Assets
Current Liabilities :
A Ltd.
5,35,000
Sundry Creditor
B Ltd.
1,30,000
A Ltd.
1,25,000
B Ltd.
1,25,000
6,65,000
2,50,000
8,40,000
8,40,000
Statement of Shareholder in the New Company AB Ltd.
A Ltd.
Purchase Consideration
B.Ltd.
5,07,950
82,050
5,07,950
82,050
25
25
= 20,318
= 3,282
::Number of share to be issued by the
new company
47
Number of shares held by outsiders at Present
(4000-500) (5000-1000)
-3500
-4000
::Ratio in which shares are to be
distributed to the members.
3500:20318
4000:3282
Note : It is evident from the above that fraction certificate has to be issued by the
company to facilitate distribution of shares among the members.
Working Notes
1)
Value of Shares of A Ltd. and B Ltd. other than mutual holdings :
A Ltd.
B.Ltd.
Rs.
Rs.
B Ltd.
5,35,000
1,30,000
Goodwill
1,50,00
Sundry Asset excluding
Share held by A Ltd. and
6,85,000
1,55,000
Less Creditors
1,25,000
1,25,000
Value of Shares other
5,60,000
30,000
than mutual holdings.
2)
25,000
Total value of Share :
A Ltd. = 5,60,000 x 1/5th of the value of Shares in B Ltd.
B Ltd. = 30,000 x 1/8th of the value of Shares in A Ltd.
Let A denotes the value of share in A Ltd.
And B denotes the value of share in B Ltd.
A – 5,60,000 + 1/5 B
(i) &
B = 30,000 + 1/8 A
(ii)
48
Substituting the value of A in equation (ii) we get
B = 30,000 + 1/8 (5,60,000 + 1/5 B)
= 30,000 | 70,000 | 1/40 B
B = 1,02,564 (approx.)
Now putting the value of B in equation (i) we get
A = 5,60,000 + 1/5 x 102564
A = 5,80,513 (Approx.)
Value of each share in
A Ltd. = 5,80,513/4000 = 145.13 (approx.)
B Ltd. = 1,02,564/5000 = 20.51 (approx.)
Purchase Consideration
Total value of Shares
A Ltd.
B. Ltd.
Rs.
Rs.
5,80,513
1,02,564
Less: 1/8th share held by B Ltd.
72,564
Less: 1/5th share held by A Ltd.
—
20,513
5,07,949
82,051
5,07,950 Cr.
82,050
Amount due to outsiders
Cr.
—
Total purchase consideration = (5,07,950 + 82,050) = Rs. 5,90,000
12.7 INTERNAL RECONSTRUCTION OR CAPITAL REDUCTION
Reduction of Capital can be carried out by a Company in any of the following
ways :
i)
By reducing the liabilities of the shareholders in respect of any unpaid amount
on the share held by them.
ii)
By paying off surplus capital, if any, which is much in excess of needs of the
company. This can be done with or without reducing the liability on the shares.
49
iii)
By cancelling the paid up share capital which has been lost in the course of the
business and which is not represented by assets. This can also be done with or
without reducing the liability on the shares. This is the most common method
adopted by companies to write off their huge accumulated losses.
Accounting Entries
i)
When the Liability of the shareholders in respect of the unpaid amount on the
share held by them is reduced.
Share Capital (Partly paid up) A/c
Dr.
To Share Capital (Fully paid up) A/c
(With the paid up amount of the shares)
Note : In such a case, the paid up share capital of the company will remain
unaffected.
ii)
When the surplus capital, if any, which is much in excess of the needs of the
company is paid off :
a)
Share Capital A/c
Dr.
To Share holder A/c
b)
Share holder’s A/c
Dr.
To Bank A/c
(with the amount refunded)
Note : In such a case, the paid up capital of the company will be reduced by the
amount paid office.
iii)
If the paid up share which has been lost in the course of business is cancelled :a)
If the face value of shares is changed by the reduction of CapitalShare Capital (old) A/c
Dr.
(Which the paid up
Value of the old share)
To Share Capital (New) A/c
(Which the paid up
Value of the old share)
To Capital Reduction A/c
Or
To Reconstruction A/c
50
(with the difference)
Or (a) If the face value of shares remains unchanged by the reduction of Capital
Share Capital A/c
Dr.
To Capital Reduction A/c
Or
(with the amount of reduction)
To Reconstruction A/c
Note : The net effect in both the above case will be same.
b)
If the debenture holders and Creditor also make some sacrifice towards
the reconstructionDebentures A/c
Dr.
Sundry Creditors A/c
Dr.
To Capital Reduction A/c
Or
c)
(With the amount of sacrifice)
To Reconstruction A/c
If the value of any assets is appreciatedRespective Assets A/c
Dr.
(With the amount of appreciation)
To Capital Reduction A/c
Or
To Reconstruction A/c
Note : In case there is an appreciation in the value of any asset, the preparation of the
Reconstruction A/c would be the most appropriate one.
d)
When the accumulated losses and fictitious assets are written off and
over valuation of assets, is written down to their present valuesCapital Reduction A/c
Dr.
Or Reconstruction A/c
Dr.
To Profit and Loss A/c
To Goodwill A/c
To Trade Mark A/c
To Patents A/c
To Plant & Machinery A/c
51
(With the total amount written off)
(As the case may be)
e)
If there is any surplus in Capital Reduction A/c or Reconstruction A/c,
the same should be transferred to the Capital reserve A/cCapital Reduction A/c
Dr.
Or Reconstruction A/c
Dr.
(With the amount of surplus)
To Capital reserve A/c
Note :- The amount to be written off can not exceed the amount available in the Capital
Reduction A/c or Reconstruction A/c. But, if any reserve appears in the books of the
Company, the same may be utilised in writing off the accumulated losses and fictitious
assets.
Balance Sheet :-
While preparing the Balance sheet of the company after
reconstruction is duly carried out, the following points should be taken into
considerationi)
The words “And Reduced” should be added to the name of the company, if the
court so directs.
ii)
So far as fixed assets are concerned, the amount written off under a scheme of
reconstruction must be shown for five years.
52
Illustration–9: The Balance Sheet of B Ltd. as on 30th June 1998 is given below :
Balance Sheet
Liabilities
Amount
Assets
Rs.
Amount
Rs.
Authorised Capital
25,000 Equity Share of Rs.20
each
Plant
2,00,000
5,00,000
Patents
1,00,000
3,00,000
Debtors
35,000
Bills Receivable
12,000
Stock
45,000
3,000, 6% Preference share
of Rs.100 each
3,00,000
Cash at Bank
7,000
Issued & Subscribed Capital
Profit & Loss A/c
99,000
15,000 Equity Shares of
Preliminary Exp.
5,800
Rs.20 each, fully paid
3,00,000
1000, 5% Preference Share
of Rs.100 each, Rs.80 per
share paid up.
80,000
600, 7% Debentures of
Rs.100 each
60,000
Bills payable
5,000
Sundry Creditors
50,000
Outstanding Interest on
Debentures
8,800
5,03,800
53
5,03,800
A special resolution was passed and confirmed by the court to the following
effect :
i)
That 1000 6% Preference share of Rs.100 each, Rs. 80 per share called up, be
reduced to 1000 6% Preference share of Rs.60 each, Rs. 40 per share paid up.
ii)
That 15,000 Equity Share of Rs.20 each fully paid up be reduced to the same
number of fully paid up share of Rs. 10 each.
iii)
That 600 7% Debentures of Rs.100 each be reduced to 600 8% Debentures of
Rs.90 each.
iv)
That the debenture holder to forego the accumulated debenture interest due to
them.
v)
That the Sundry Creditor agreed to forego 20% of their dues in exchange for
equity share of 80% of their dues.
vi)
That the sum thus rendered available be applied as follows :
a)
The balance to the debit of Profit and Loss account and Preliminary Expenses
account be completely written off.
b)
The Plant and Patents be written down by 25% and 40% respectively.
c)
The balance left if any, to be, carried forward to Capital Reserve Account.
You are required to show the necessary journal entries and to prepare the Balance
Sheet of the company after the reconstruction is duly carried out.
54
Solution
Journal of B Ltd.
Dr.
Cr.
Rs.
Rs.
1998
June 30
6% Preference Share Capital A/c Dr.
40,000
To Capital Reduction A/c
40,000
(Being reduction of 1000 6% Preference share of Rs.100 each, Rs. 80
per share paid up into 1000 6%. Preference share of Rs.60 each, Rs.40 per share paid
up as per Capital resolution date____vide Court’s order dated__________).
June 30
Equity Share Capital (old) A/c
Dr.
3,00,000
To Equity Share Capital (New) A/c
1,50,000
To Capital Reduction A/c
1,50,000
(Being reduction of 1500 equity share of Rs.20 each, fully paid up into
1500 equity share of Rs.10 each fully paid up as per special resolution Court’s order
date____________).
June 30
7% Debenture A/c
Dr.
60,000
To 8% Debenture A/c
54,000
To Capital reduction A/c
6,000
(Reduction of 600 7% Debenture of Rs.100 each into 600 8% Debenture
of Rs.90 each as per special resolution date______vide Court’s order dated________)
June 30
Outstanding Debenture
Interest A/c
Dr.
8,800
To Capital Reduction A/c
(Being cancellation of debenture invest under the scheme)
55
8,800
June 30
Sundry Creditors A/c
Dr.
50,000
To Equity Share Capital A/c
40,000
To Capital Reduction
10,000
(Being allotment of 4,000 equity shares of Rs.10 each fully paid upto
creditors and transfer of the balance 20% of their dues foregone to Capital Reduction
A/c as per Board’s resolution dated__________)
June 30
Capital Reduction A/c
Dr.
1,94,800
To Profit and Loss A/c
99,000
To Preliminary Expenses A/c
5,800
To Plant A/c
50,000
To Patents A/c
40,000
(Being utilisation of the amount available in Capital Reduction A/c to
write off the debit balance of Profit & Loss A/c, Preliminary Expenses A/c and to
write down the value of Plant and Patent under the Scheme)
June 30
Capital Reduction A/c
Dr.
20,000
To Capital Reserve A/c
(Being transfer of surplus to Capital Reserve A/c)
56
20,000
Balance Sheet of B Ltd. as on 30th June 1998
Liabilities
Amount
Assets
Amount
Rs.
Rs.
Share Capital :
50,000 Equity Shares of each
Fixed Assets :
5,00,000
5,000 6% Preference Share of
Rs. 60 each
Plants
1,50,000
Patents
60,000
Investments :
3,00,000
—
Current Assets & Loans
Advances :
8,00,000
Issued and Subscribed
A.
Capital :
Stock
19000 Equity Share of Rs.10
Debtors
each fully paid
1,90,000
35,000
7,000
B. Loans and Advances :
40,000
Reserve & Surplus :
Capital Reserve
45,000
Bank Balance
1000 6% Preference share of
Rs.60 each, Rs.40 each paid up
Current Assets :
Bills Receivable
12,000
Miscellaneous Exp.
–
20,000
Secured Loans :
600 8% Debentures of Rs.90
each, fully paid up
54,000
Current Liabilities & Provisions.
A.
B.
Current Liabilities
Bills Payable
5,000
Provisions :
—
3,09,000
3,09,000
57
12.8 SUMMARY
Amalgamation refers to combining of business of two or more existing
companies of business of two or more existing companies. For accounting purposes, it
is assumed that all liabilities are taken over by the transferee company and then liabilities
actually not taken over are discharged by making direct payment to the parties. The
purchase consideration may be determined by lump sum method, net assets method
and net payment method. Amalgamation of a company involves realisation of assets
and settlement of claims of various stakeholders. For this purpose, Realisation Account
is opened which shows the net result of realisation of assets and settlement of claims
of various stakeholders excluding equity shareholders. Inter-company owings
represented by common debtors and or bills of exchange are cancelled by passing an
additional entry in the books of the transferee company.
12.9 KEYWORDS
Amalgamation: It is used when two or more existing companies go into liquidation
and a new company is formed to take over their business.
Absorption: It is used when one or more existing company (or companies) goes into
liquidation and some existing company takes-over its business.
External Reconstruction: It is used when one existing company goes into liquidation
and a new company is formed to take over its business.
Inter-company Owings: If any amount is owed by the purchasing company to the
vendor company or vice-versa at the time of amalgamation or absorption of companies,
it is inter-company owings.
12.10 SELF ASSESSMENT QUESTIONS
1.
Define amalgamation and external reconstruction. What entries are passed by a
company to close its books when it is purchased by another company?
58
2.
What entries should be passed in the books of a company that goes into
liquidation for the purpose of amalgamation?
3.
Define purchase consideration. Explain the different methods of determining
purchase consideration.
4.
D Ltd. and A Ltd. carrying on similar business agree to amalgamated by
transferring their undertaking to a new Company A D Ltd.
The balances sheet of the two companies as on the date of transfer were as follows :
Liabilities
D Ltd.
A Ltd.
Rs.
Rs.
Assets
Share Capital
Land &
Equity Share
Building
Capital of
Plant &
Rs.100 each
5,00,000
3,00,000
Machinery
D. Ltd.
A Ltd.
Rs.
Rs.
4,65,000
2,55,000
5,60,000
3,58,000
6% Preference
Furniture &
Share of
Fittings
79,000
34,000
Stock
81,500
52,000
Sundry Debtors 56,000
24,600
Cash at Bank
87,000
22,500
Cash in Hand
6,400
3,900
Rs.100 each
5% Debentures
5,00,000
—
2,50,000
40,000
General
Reserve
2,00,000
70,000
Profit &
Loss A/c
Preliminary
1,15,000
55,000
Sundry Creditors 75,000
35,000
13,90,000
7,50,000
Expenses
55,100
13,90,000
59
7,50,000
The term of agreement were as follows :
a)
The purchase consideration consisted of
i)
The assumption of liabilities of both the Companies
ii)
The discharge of the debentures in A Ltd. at a premium of 5% by the
issue of 7% debentures in A D Ltd.
iii)
The issue of 10 equity shares of Rs.10 each at a premium of Rs. 2 per
share for each preference share held in both the Companies.
iv)
The share of 10 equity shares of Rs.10 each equity share of D Ltd. and 5
equity share of Rs.10 each at a premium of Rs.2 per share and Rs. 80 in
cash for every equity share in A Ltd.
b)
All the assets and liabilities of the two companies were taken over at their book
value except a provision @ 5% to be raised on debtors.
c)
In order to raise working capital and to pay the purchase consideration A D Ltd.
decide to issue 30,000 equity share of Rs.10 each at a premium of Rs.3 per
share.
You are required to pass the journal entries in the books of D Ltd. to close its
accounts, and show the opening balance sheet of A D Ltd.
5.
The Balance Sheet of A Ltd. on 31st Dec. 1998 was as follows :
Liabilities
Assets
Rs.
Share Capital :
Land & Buildings
2,30,000
8000 Equity Shares of
Plant & Machinery
1,80,000
Rs.50 each fully paid up
General Reserve
Rs.
4,00,000
50,000
Furniture
20,000
Stock
90,000
Workmen’s Accident
Sundry Debtors = 1,00,000
Compensation fund (Outstanding
Less Provision
Liabilities Rs.8000)
30,000
1000, 7% Debentures of Rs. 50 each 50,000
for Doubtful
Debts
60
=
5,000
95,000
Sundry Creditors
40,000
Cash
2,000
Bank Overdraft
10,000
Discount on issue of
Staff Provident Fund
40,000
Debentures
3,000
6,20,000
6,20,000
The business of the company is taken by B Ltd. on that date. The purchase
consideration is to be discharged as follows :
a)
A payment of Rs.10 for every share in A Ltd.
b)
A further pay in cash Rs.10 for every debenture in A Ltd. in full discharge
of the debentures.
c)
An exchange of 5 shares in B Ltd. of Rs.10 each at the Market Value of
Rs.15 per share, for every 2 share in A Ltd.
d)
The expenses of liquidation Rs.5000 were borne by A Ltd. show the
Realisation A/c, cash and pass the journal entries.
6.
A Ltd. and B Ltd. are two companies carrying on business in the same line.
Their balance sheet as on 31.12.1998 are given below :
Balance Sheet
Liabilities
A Ltd.
B. Ltd.
Rs.
Rs.
Assets
Full paid up
Land and
Equity Share
Building
Of Rs.10 each
6,00,000
2,00,000
A Ltd.
B. Ltd.
Rs.
Rs.
1,00,000
—
Plant &
General
Machinery
7,00,000
3,00,000
Reserve
4,00,000
2,00,000
Investments
1,00,000
Secured Loan
6,00,000
1,00,000
Stock
9,00,000
4,00,000
Debtors
3,00,000
1,00,000
Cash at Bank
1,00,000
1,00,000
22,00,000
9,00,000
Current
Liabilities
6,00,000
4,00,000
22,00,000
9,00,000
61
—
The two companies decide to amalgamate into A B Ltd. The following further
information is given :
a)
A Ltd. holds 8000 share in B Ltd. @ Rs.12.50 each.
b)
All assets and liabilities of two companies, except investment are taken
over by A B Ltd.
c)
Each share in B Ltd. is valued @ Rs.25 for the purpose of the
amalgamation.
d)
Shareholder in A Ltd. and B Ltd. are paid off by issuing to them sufficient
number of equity shares of Rs.10 each in A B Ltd. as fully paid up at par.
e)
Each share in A Ltd. is valued @ Rs.15 for the purpose of amalgamation.
Show journal entries to close the books of both the companies and balance
sheet of A B Ltd.
7.
Given below is the Balance Sheet of H Ltd. as at March 31, 1998.
Balance Sheet
Liabilities
Rs.
40,000 share of Rs.10 each
Assets
Rs.
Land & Building
3,20,000
1,30,000
fully paid.
4,00,000
Plant & Machinery
Creditors
3,00,000
Stock
Debtors
70,000
1,20,000
Cash
500
Preliminary Expenses
Profit & Loss A/c
7,00,000
5,000
54,000
7,00,000
The following scheme of reconstruction was arranged :
i)
The company to go into liquidation and a new company with an authorised capital
of Rs.8,00,000 to be formed to take over the assets and liabilities.
62
ii)
Preferential Creditor of Rs.10,000 included in the above Balance Sheet are to
be paid in full.
iii)
Unsecured Creditors to receive either (a) 50% of their claim in cash or (b) 6%
debenture in the new company equivalent to their claim, at par.
iv)
Shareholder of H Ltd. to be allotted one share in the new company of Rs.10
each, Rs. 5 paid for every existing share held by them.
v)
Reconstruction costs amounting to Rs.6000 to be paid by H Ltd. from cash
made available by the new company.
Half of the unsecured creditor in value of opted out for immediate cash payment
for which purpose necessary cash was made by the new company which made a call of
Rs.5 each on the partly paid share allotted as aforesaid. The new company value all
assets/except Land & Building taken over from H Ltd. at par.
Prepare the Balance sheet of new company after the above transaction are
concluded.
8.
The following is the Balance Sheet of P Ltd. as on 31-12-1998.
Liabilities
Rs.
Assets
Rs.
Authorised & Issued Capital
Loan & Building
2,50,000
80,000 Equity share of
Plant & Machinery
6,00,000
Rs.10 each fully paid
8,00,000
Stock
2,35,000
5% Debentures
5,00,000
Cash
26,000
Accrued Interest
25,000
Sundry Creditors
2,85,000
Profit & Loss A/c
16,10,000
2,50,000
16,10,000
The debentures are held by G Ltd. who also hold 20,000 shares acquired during the past
two year at a total cost of Rs. 1,45,000.
63
Negotiation between the two companies resulted in an agreement for the absorption of
P Ltd. by G Ltd. upon the following terms :
a)
That G Ltd. takes over the assets and liabilities of P Ltd. as on 31-12-1999 at
their book value, subject to the revaluation of the Plant and Machinery at
Rs.4,50,000.
b)
That the amount due in respect of debenture be set off against the purchase
consideration and that they be cancelled on the completion of the transaction.
c)
That the outside shareholder in P Ltd. be given Rs.10 share issued at par by G
Ltd. on the basis of such shares being worth Rs.15 each and in P Ltd. being
worth Rs.5 each.
The arrangement was approved by the necessary resolution of the shareholder
in P Ltd. Show journal entries required to close the books of P Ltd. and to record the
transactions in the books of G Ltd. including the transfer required to close accounts
therein relating to the share and debentures in P Ltd.
12.11 SUGGESTED READINGS
1.
Fundamentals of Accounting by R.L. Gupta and V.K. Gupta, Sultan Chand
and Sons, New Delhi.
2.
Advanced Accounting by R.L. Gupta and M. Radhaswamy, Sultan Chand
and Sons, New Delhi.
3.
Advanced Accounting by Ashok Sehgal and Deepak Sehgal, Taxmann
Allied Services Pvt. Ltd., New Delhi.
4.
Advanced Accounts by M.C. Shukla, T.S. Grewal and S.C. Gupta, S. Chand
and Co. Ltd., New Delhi.
5.
Fundamentals of Advanced Accounting by R.S.N. Pillai and V. Bagavathi,
S. Chand and Co. Ltd., New Delhi.
6.
Studies in Advanced Accounting by S.N. Maheshwari, Sultan Chand and
Sons, New Delhi.
64
LESSON : 13
CO-OPERATIVE ACCOUNTING
STRUCTURE
13.0
Objective
13.1
Introduction
13.2
Feature of Co-operative Society
13.3
Types of Co-operative Society
13.4
Importance of Book-keeping in Co-operative Societies
13.5
Cooperative System of Accounting
13.6
Accounting Procedure in Co-operatives
13.7
Summary
13.8
Keywords
13.9
Self Assessment Questions
13.10 Suggested Readings
13.0
OBJECTIVE
After reading this lesson, you should be able to
(a)
Define a co-operative society and explain its features.
(b)
Discuss the co-operative system of accounting.
(c)
Explain the accounting procedure in a co-operative society.
13.1
INTRODUCTION
Co-operation is the basis of domestic social life. It imbues the spirit of self help and
man to man assistance to generate economic wealth and advancement of social transformation.
1
The Co-operative organisation is a form of organisation for the economic upliftment of weaker
section of society. Under this form of organisation, a large number of people set up and run
any economic activity for their own benefit and for the benefit of other people like them.
The Co-operative movement in India started in 1904 to protect weaker section of
society from exploitation of rich people (capitalist). The primary objective of this movement is
“how to protect economically weaker section of society from oppression of economically
strong segment of society?” The objective of Co-operative organisation is totally different
from other form of business organisations. These forms are not set up for profit but for protecting
and upliftment of its members and also other weaker people of the society.
Co-operative societies are voluntary associations started with the aim of service to its
members. In simple words “The Co-operative societies are the voluntary associations of a
large number of economically weak people for the protection of their interest with their combined
efforts and combined resources. The India Co-operative Societies Act. 1912 defines Cooperative in Section 4 as “a society which has its objectives of promotion of economic interest
of its members in accordance with Co-operative principle”.
13.2
FEATURES OF CO-OPERATIVE SOCIETY
A Co-operative society will have the following broad features :1.
Voluntary membership
The members in any co-operative can enter or leave the society any time on their
choice. No member can force any individual to enter or leave the society. There are a few
rules and regulation in the co-operative which have to be abides by the its member. Voluntary
membership is a most important principle of any co-operative and this is the main principle
behind the success of co-operative movement.
2.
Democrative Management
The democrative procedure is followed by co-operatives for their management. The
management or body to control the day to day activity of co-operative is elected by its member.
The members are owner of the co-operative and from time to time they give instructions to the
management for better control of operation of society.
3.
One man, One Vote
The another important principle of these societies is equity of its member. All members
have right to cast one vote in the matters of co-operative irrespective of their investment size.
2
In joint stock company, the member has voting right according to share held by him, But here
votes are just given upon membership and one member has one vote only.
4.
Service Motive
The main motive of co-operative is service. The society is always set up for betterment
of society and its member. All other forms of business organisation like Partnership, Joint
stock company, Sole proprietor etc. are set up for making profit for their owner. But societies
are for providing services. Even if the co-operatives earn profit that is just for the betterment
of its member, the main motive always remains service.
5.
Equity in distribution of surplus
Like the voting right the members of Co-operative also enjoy equity in participation of
profit. The surplus of co-operative is not distributed like Joint stock company on the basis of
investment. In co-operative the profit or surplus is distributed either on their service basis or
sometimes equally to all members. The Indian Co-operative Society Act has given guidelines
for the distribution of the surplus. Under the act a certain percent of profit is paid in form of
interest or dividend on capital and certain percent is kept as Reserves and rest spent on welfare
to members.
6.
Compulsory Resignation
The registration of the Co-operative society is must. After making a voluntary association
of a minimum person required, the registration has to be taken before starting the functions of
co-operative. In India minimum ten members are required for getting registration of any cooperative under the India Co-operative Act 1912. The registration are made by State level
offices which functions under State Government.
7.
Control of State Government
The Co-operative societies are to follow certain rules and regulations formed by state
government. In India, as said earlier the co-operatives are registered in state level office under
Indian Co-operative Act-1912.
8.
Cash Trading
All the transactions of the co-operative society will be on cash basis. Co-operative
Society can only flourish on cash trading principle basis. The chances of bad debts and losses
due to delayed payment are eliminated with cash trading in co-operative societies. The society
can provide for exemptions with approval of all its members.
3
13.3
TYPES OF CO-OPERATIVE SOCIETIES
Different types of Co-operatives are working with a single motive of protection and
betterment of weaker section. But the ways and areas of operation are different. Some
important types of co-operative are :
1.
Consumer co-operatives
These co-operative societies are started to help lower and middle class people by
providing them necessary goods at reasonable rates. The member of these Co-operatives
contribute capital and elect some executive and management members to look after the day to
day working of the society. The societies purchase the goods in bulk quantity directly from the
producers and sell it to its members and common people after charging a very reasonable
small profit. So the people get the goods at lower price. In India, all co-operative store selling
basic commodities are running under this type of co-operative forms.
2.
Producers Co-operatives
The Co-operatives are set up to protect the small and cottage producers from big and
multinational industrialist. These co-operatives are divided into following two types :
a)
Producers Co-operatives : The various small producers or handicraft producers
are the members of such societies. The society is set up at a common place where all members
can come. The members can work as an employees in the society and are paid wages for
there services. All the raw material required by the member is supplied by the society. The
society collects the output of its member, sell it in the market and earn profit. This profit is
distributed in members again after keeping some reserves.
b)
Industrial Service Co-operatives : These Co-operatives are for small and cottage
industries. The members are again small producers. The co-operative society purchase raw
material in bulk quantity and supply it to members. The society also supply the required
machines. Members makes the products which are collected by the society and sold in market
to earn profit. Profit is distributed in the members.
3.
Marketing Co-operative
This type of Co-operative provide market to the cottage producers. This type of
society protect its members from the exploitation of the middleman. The society take the
production of various members and pool it together. The society than arrange the various
services like grading, warehousing, transportation, insurance and financing etc. The goods are
sold directly by the society in the market without any middleman. So members get better price
for their products. Society also provide market information to its members.
4
4.
Housing Co-operatives
These Co-operative are set up for providing houses to low and middle income group
people. These societies purchase land and construct houses for these members. Societies
also arrange loans for its members from financial institution and government agencies. Sometimes
societies purchase land in bulk and distribute plots to the members. In conclusion the purpose
of all these societies is to help their member in purchasing land and constructing houses.
5.
Credit Co-operatives
These Co-operatives societies are set up for providing financial assistance to the farmers
and other weaker section. The main motive of these co-operatives are to protect the weaker
section people and farmers from the exploitation of money lender, who charge exorbitant
interest rate on the loan. The Rural co-operatives get loans from State Co-operative Bank or
Regional Rural Bank where as in urban areas it is provided by Urban banks.
13.4
IMPORTANCE OF BOOK KEEPING IN CO-OPERATIVE SOCIETIES
We know a Co-operative organisation is a business as well as a welfare institution.
Equitable economic benefit to members is its prime goal. In the first place, a business cannot
be run in a go-as-you-like style. Well planned operations are must and recorded accounts can
only supply required information for the purpose. Secondly, equitable distribution of the gains
of business (supply of scare/seasoned items and net surplus earned) is made possible when
you keep records of purchases and sales and so on. In fact, accounting is the language of
business. No business expression is possible without it.
13.5
CO-OPERATIVE SYSTEM OF ACCOUNTING
Co-operative system of accounting is one in which both receipt and payment effect of
a particular transaction is recorded in a book of original entry and posted accordingly. In case
of interest both amount received and paid are taken separately and not the balance (either
debit/credit). It basically follows double entry system. It is a simplified indigenous system. But
some small co-operatives also follows Single Entry System in their accounting.
a)
Double Entry System : Any business involves transaction i.e. action resulting in transfer
of money from one party to another or transfer of goods or services of money value. In
business money is the common denominator and any transaction is carried out in term of
money or money value paid/payable or received/receivable. Thus any transaction involves
receiving and giving goods or services or money. The system under which both the aspects of
5
a transaction is recorded, is called double-entry system of book-keeping. Thus Double entry
system of book-keeping means a system whereby twofold aspects of each transactions are
recorded in the books of accounts. One aspect (giver) is credited and the other (receiver) is
debited. From this we get a formula that every debit has a corresponding credit of equal
amount of money value and vice-versa.
Total Debit = Total Credit
Double-entry system can better be defined as a system under which both the credit as
well as debit aspects are entered in the books of accounts.
b)
Single Entry System : Single entry system as the name goes, does not record both
the aspects and as such amounts to incomplete recording of transaction. There are variation in
such incomplete recording. But usually personal aspects and cash aspects are recorded. For
example, cash received entered in the Cash Book is posted to the Credit of the concerned
personal account(s). But items of receipts like cash sales, interest etc. are not posted. This is
a fragmented approach.
Difference between Single Entry System and Double Entry System
S.No. Norms
Single Entry System
Double Entry System
1
Testing Accuracy
Since double aspects of each
Recording credit and debit
of accounts
transaction are not recorded,
aspects of transactions makes
arithmetical accuracy is not
the test a sure fire.
these
2
3
Calculation of
As no nominal account is
With complete records,
business results
recorded business result
accounts to ascertain surplus or
(Profit & Loss) cannot be
deficity can be readily
ascertained easily.
prepared.
Financial
In absence of records of real
With ready availability of
position
accounts, books fail to
property accounts, a statement
(Balance Sheet)
provide details of assets and
of affair or balance sheet can
liabilities and no balance
be prepared.
sheet can be prepared.
6
4
Information flow
Incomplete records and
By and large information can
hence no information is
be relied upon
reliable
5
Fraud and Errors
Provides almost free ground
There is always a check on
for frauds and errors. It is
fraud errors and
difficult to detect a
misappropriation.
misappropriation.
6
Use Value
Very low, if at all. It is
It is highly revealing and as
rather confusing.
highly facilitating.
Finally, single entry system is a crude and incomplete system and cannot stand the test
in comparison to a complete and workable thing like double entry system.
Rules of Double Entry System
Accounts record the facts relating to business transactions. A transaction cannot take
place unless there are two parties. A transaction involves giving and receiving of benefits in the
shape of money’s worth (goods or services). It has to be remembered that :a)
There are a number of other cooperatives, individuals or firms with which a cooperative
has to deal.
b)
The Co-operative enterprise must also have some fixed assets like furniture, land and
building, plant and machinery, equipments, etc.
c)
A Co-operative Society in course of its business shall have to incur expenses like,
wages, salary, rent, postage and obviously earns income and may incur losses.
All these type of transactions are divided into three basic nature of accounts, under
double entry system. viz.
a)
b)
c)
Personal account
Real account and
Nominal account
7
Accounts
Personal A/C
Impersonal
Real
Nominal
1.
Personal Account : This accounts involves all the persons in any
transaction. The person includes all human beings called real persons and
artificial persons, who are created by law e.g. Capital (Owners Accounts).
Ram account, Debtors, Creditors, Bank, Business house, Sonitpur Agriculture
Co-operative Society. NEFED etc.
Rule : Debit the receiver, Credit the payer or supplier.
e.g.
Ram sold goods to Sham on credit.
Ram and Sham both are human beings, therefore belongs to personal a/c
Sham is receiver, therefore debit him.
Ram is supplier, therefore credit him.
2.
Real account :- All the real things are included in this accounts. In terms of account
this account includes all the assets e.g. Building, Machinery, Furniture, Goodwill, Cash, Stock
etc.
Rule : Debit what comes in and credit what goes out.
e.g.
Purchase Machinery for Cash.
Cash and Machinery are real things, so are part of real a/c
Machinery purchase means comes in, therefore, debit it.
Cash is paid means going out, therefore credit it.
3.
Nominal account :
This account involves incomes, losses, and expenses, e.g.
salaries, rent, depreciation, commission, wages and carriage etc.
Rule : Debt all incomes and gains, Credit all loss and expenses.
e.g. Received Commission in cash.
Cash is a real thing, therefore is a part of real account and comes in so Debit it.
Commission received is an income, therefore, is a part of nominal account. Incomes
are to be credited according to rule of nominal account, so credit it.
8
9
Cash
Capital
Started business with
Rs. 50,000
Purchase furniture of Rs. Furniture
10000 from Naresh
Naresh
1.
2.
Paid Rs. 5000 to Naresh Naresh
Cash
Commission received
Rs. 4000
4
5.
Personal a/c
Real a/c
Nominal a/c
Real a/c
Real a/c
Personal a/c
Real a/c
Personal a/c
Nature of
the a/c
Cash
Real a/c
Commission Nominal a/c
Paid Salaries Rs. 5,000
3
Salaries
Cash
Two a/cs
involved
S.No. Transaction
Naresh received
cash paid out
Salaries Paid
Cash paid out
Furniture comes in
Naresh supplied
furniture
Cash comes in the
business Proprietor
paid money
Explanation
Dr.What comes in All Cash comes in
incomes are to be
commission is
credited
an income
Dr the receiver
Cr. What goes out
Dr. Expenses
Cr. What goes out
Dr. What comes in
Cr. Supplier
Dr. what comes in
Cr. The payer
/supplier
Rule of Debit and
Credit
Cash
4000
Naresh
5000
Salaries
5000
Furniture
10000
Cash
50000
Dr.
Account
Commission
4000
Cash
5000
Cash
5000
Naresh
10000
Capital
50000
Cr.
Account
13.6
ACCOUNTING PROCEDURE IN CO-OPERATIVES
1. Journal :
The accounting procedure in cooperatives is as follows:
Like the accounting procedure of any business house, in the Co-operative also the first
step is to write financial transactions in Journal. All the financial transactions are recorded in
Journal.
Journal
Date
Particular
L.F.
Amount Dr.
Amount Cr.
2.
Book of Accounts: Different books may be used in different types of Co-operative
societies according to their nature of work. The following books are generally used by these
Co-operative Societies.
i)
Day Book:- This book is again prepared every day. All the transaction from the
journal are recorded in this book, but cash items are not recorded in this book, because the
same are recorded in Cash book.
10
11
General L.F. Personal L.F.
Credit
Particular
Amount
Total Amount
General L.F.
Day Book
Personal L.F.
Particulars
Amount Total Amount
Debit
ii)
General Ledger :- This is also called control Ledger. All accounts Capital and
Revenue. (Expenses, Incomes, Assets and Liabilities) are opened in this book on separate
pages. The transaction are passed in this book from Day book daily in the evening. The
various accounts in this book are closed on a particular day or at the end of each year. The
procedure to close the accounts is called ‘Balancing’. The most important function of this
book is to control the personal Ledger. The proforma of the book is similar to the ‘Ledger’.
General Ledger
Date
Particulars
Day Book
Folio
Debit
Amount
Credit
Dr/Cr
Amount
Balance
Amount
iii)
Personal Ledger :- These are the simple ledger accounts prepared from the Day
book. The difference between Personal Ledger and General Ledger is only that in General
Ledger all the accounts are recorded in one book on different page, where as in Personal
Ledger one account is recorded in one book. The proforma of the Personal Ledger is same as
General Ledger. These Personal Ledgers are also closed on the day on which General Ledger
are closed.
iv)
Trial Balance :On the day of the closing of the book we find the balance
amount in each ledger account. The statement of the balances of the ledgers is called ‘Trial
Balance’. The statement is to be prepared to find out mathematical accuracy in our accounting
system and to prepare final accounts (Trading, Profit & Loss account and Balance Sheet). In
trial balance all assets and expenses are shown in Debit side, where as all incomes, Liabilities
and Capital are shown in credit side.
Trial Balance
Of _____________________ Co-operative
As on __________________________
Name of a/c
L.F.
Debit balance
12
Credit Balance
V)
Trading, Profit & Loss account
This is a one statement of the Final account. This statement is prepared to find out the
profit/loss of the society. All the income and expenses are included in this statement. In the
Trading account opening stock purchases and direct expenses are taken in Debit side where
as the sale and closing stock are taken in credit side, the difference in the account is called
Gross profit it is in debit side and Gross loss if it is in debit side and Gross loss if it is in credit
side.
Profit and loss account is a statement of all the income and expenses of the year. All
the expenses are shown Debit side and incomes are shown in credit side. The difference, if in
Debit side is called Net profit and, if in credit side Net loss.
Trading and Profit and Loss A/c
Of ________________ Co-operative
Dr.
For the year ended
Particulars
Amount
Particular
Cr.
Amount
vi)
Balance Sheet :This is the last statement in the accounting procedure. The
statement is prepared to know the financial position or financial soundness of any Co-operative
Society. All the capital items of the society i.e. various assets own by it and its liabilities are
included in this statement. The statement gives a comparative position of assets and liabilities
of the Co-operative on a particular day.
Balance Sheet
Of ________________ Co-operative
as on __________________________
Liabilities
Amount
Assets
13
Amount
Illustration and Exercise
i)
ii)
iii)
iv)
v)
The Sampla Thrift & Credit Co-operative Society bought one share No. 1 of Rs. 100/
- and paid Rs. 2/- as admission fee.
Raikot Agricultural Service Co-operative Society was admitted as member. Two
shares numbering 2 & 3 of Rs. 100/- each were allotted to it. The society also paid
Rs. 2.00 for admission fee.
Sh. Ram Lal opened a Saving Bank deposit a/c with Rs. 900/- and Cheque Book No.
1 containing cheques numbering 1 to 15 was issued to him.
The Society purchased stationery articles worth Rs. 104/- in cash from M/S Narula
Stationary Mart Panipat.
Postage and Stamps worth Rs. 12/- were purchased by the bank for its daily use.
(Cash in hand 1088)
2nd Jan 98
i)
ii)
iii)
iv)
v)
vi)
S. Kartar Singh opened a Saving Bank A/c with Rs. 1700/- and cheque Book No.
2 containing cheques numbering 16 to 30 was issued to him.
The Panipat Handloom Weaver’s Co-operative Society was enrolled as member of
the bank. The society purchased 3 shares numbering 4 to 6 of Rs. 100/- each and
deposited Rs. 2/- as admission fee.
Current a/cs were opened by Sh. Paras Ram with Rs. 840/- and Sansar Chand with
Rs. 480/- Current a/c Cheque Book No. 1 & 2 having cheques numbering CA/0001
to CA0020 and CA/0021 to CA0040 respectively were issued to them.
The Nilo Kheri M.P. Co-operative Society deposited Rs. 4000/- as fixed deposit for
one year @ 3% and fixed deposit receipt No. p-Co-op/0001 was issued to him.
The Bank opened a current a/c with the State Bank of India (Panipat) with Rs. 2500/-.
The State Bank issued cheque Book containing cheques numbering 30001 to 30050
to the Bank.
Furniture worth Rs. 150/- was purchased for use in the bank.
(Cash balance Rs. 5760/-)
3rd Jan 98
i)
The Babar Pur Service Co-operative Society became member of the bank by purchasing
14
ii)
iii)
iv)
v)
vi)
one share No. 7 of Rs. 100/- and paying Rs. 2/- as admission fee.
S. Kartar Singh opened a S.B. a/c with Rs. 440/- and cheque Book containing cheques
numbering 31 to 45 was given to him.
S. Mohinder Singh deposited Rs. 375/- in his newly opened current a/c. The Bank
issued him cheque Book No. 3 containing cheque CA0041 to CA0060.
Sh. Kailash Chand Jain opened a Fixed Deposit a/c with Rs. 2000/- for six months @
2% and fixed Deposit Receipt No. P-Co-op/0002 was issued to him.
The Bank purchased N.S. Certificates worth Rs. 5000/- in cash.
One Iron Safe was purchased for Rs. 400/- from M/s Reliance Traders, Delhi. The
bill is still outstanding.
(Cash in hand Rs. 3677)
4th Jan 98.
i)
Third Five Year Plan Bonds of the face value of Rs. 2000/- were purchased in cash at
98. The broker’s Commission @ 50 p. percent amounted to Rs. 10/ii)
The Sampla Thrift & Credit Co-op Society was advanced a loan of Rs. 500/- vide
promote No. P.Co-op-L/10001 through Shri Ram Das Cashier.
iii)
Sh. Ram Lal withdrew Rs. 240/- from his S.B. a/c per cheque NO. 1 of 3rd Jan., 98.
iv)
S. Karnail Singh deposited Rs. 240/- in his newly opened current a/c The Bank issued
Ch. Book No. 4 having Cheques numbering CA/0061 to CA/0080.
v)
The Bank purchased one share No. HB 3116 Hr. State Co-op of the Bank Ltd,
Chandigarh of Rs. 100/- and paid Rs. 5/- as admission fee.
vi)
The Nurpur Co-operative Store become member of the Bank. Share NO. 3 & 9 Rs.
100/- each were allotted to it. The store paid Rs. 2/- as admission fee.
6th Jan. 98
i)
S. Karnail Singh issued cheque No. 16 for Rs. 350/- on his saving Bank a/c in favour
of Shri Mangal Sain which was duly paid.
ii)
The Panipat Handloom Weaver’s Co-operative Society was advanced a clean loan of
Rs. 1000/- per pronote NO. P.Co-L/0021 through Shri Ram Ditta Mal member.
iii)
The Bank with drew Rs. 250/- from its current a/c with the State Bank of India per
cheque No. 30001 dated 6.1.98 through its cashier.
iv)
Shri Virender Kumar open a saving Bank a/c with Rs. 210/- Cheque Book containing
cheques numbering 56 to 60 was issued to him.
15
7th January, 1998
i)
Preet Nagar Agricultural Service Society was admitted member. Share No. 10 of Rs.
100/- was allotted to the society. The society also paid Rs. 2/- a admission fee.
ii)
A loan of Rs. 750/- was given to Rai Koot Agricultural Service Social Vide Pronote
No. P-Co-op.L/10041 through Shri Inderjit V. President.
iii)
Sh. Paras Ram withdrew Rs. 240/- from his current a/c vide cheque No. CA/0001
dated 6.1.98 per self.
iv)
Rs. 1000/- were withdrawn from the current a/c with State Bank of India vide cheque
No. 30002 dated 6.1.98.
(Cash Balance Rs. 516)
8th Jan.
i)
Shri Ved Parkash opened a S.B. a/c with the Bank (Panipat Urban Bank) with Rs.
325/- cheque No. 61 to 75 were given to him for withdrawing money from the Bank.
ii)
Shahpur Labour and Construction Co-op. Society became member. The society
purchased three shares 11 to 13 of Rs. 100/- each and paid Rs. 2/- as admission fee.
iii)
The Sampla Thrift & Credit Co-op. Society repaid its loan amounting to Rs. 250/through its cashier Shri Ram Dass.
iv)
Shri Sansar Chand deposited Rs. 240/- in his current a/c
v)
Shri Ram Saran Singh deposited Rs. 1500/- in fixed a/c for months at 2% vide F.D.R.
No. P.Co-op F/0003.
vi)
Rs. 3000/- were deposited in the current a/c with State Bank of India.
(Balance Rs. 133/-)
9th Jan 98
i)
ii)
iii)
iv)
Shri Ram Lal deposited Rs. 165/- in his S.B. a/c.
Gannaur Industrial Co-operative Society Ltd. purchased five shares numbering 14 to
8 of Rs. 100/- each and paid Rs.2/- as admission fee.
Babar Pur Service Co-operative Society was advanced a loan of Rs.400/- per pronote
No. P-Co-op./10061 dated 6th Jan 1998 through Shri Jagdish Chander member.
Mohinder Singh deposited Rs. 225/- in his current a/c.
(Cash Balance Rs. 625)
16
10th Jan 98
i)
ii)
iii)
iv)
v)
Rs. 270/- were given to Nurpur Co-operative. Store as loans Pronote No. P-Co-op.
L/0041 was obtained from the store.
The Panipat Handloom weaver’s Co-operative Society deposited Rs. 400/- towards
its loan a/c.
Gurmit Singh deposited Rs. 115/- in his newly opened S.B. a/c Saving Bank withdrawal
cheques No. 76 to 90 were supplied to him.
Kartan Singh withdrew Rs. 240/- from his S.B. a/c per cheque No. 31 dated 10.1.98
favouring Ajit Singh.
S. Karnail Singh deposited Rs. 160/- in his current a/c.
(Cash Balance Rs. 790/-)
11th Jan 98
i)
Shri Virender Kumar withdrew Rs. 120/- from his S.B. a/c per cheque No. 16 dated
11.1.98.
ii)
Preet Nagar Agricultural Service Society borrowed Rs. 800/- per pronote No.P-Coop.L/0051 dated 10th Jan. through Shri Ram Sarup.
15th Jan 98
i)
Gian Singh opened S.B a/c with Rs. 460/- cheques numbering 91 to 105 were supplied
to him.
ii)
Karam Singh deposited Rs. 150/- in his S.B. a/c
iii)
Shahpur Labour and Construction Co-op. Society borrowed Rs. 6000/- on the security
of pronote No. P-Co-op. Society borrowed Rs. 6000/- on the security of pronote
No. P-Co-op.L/0061 through Duni Chand President.
iv)
Raikot Agricultural Service Co-operative Society returned its loan Rs. 405/-
v)
Kartar Singh deposited Rs. 135/- in his S.B. a/c.
vi)
Mohinder Singh withdrew Rs. 400/- from his Current a/c vide cheque No. C.A.00411-98.
16th Jan 98.
i)
ii)
Shri Ved Parkash issued Cheque No. 61 on his S.B. a/c for Rs. 185/- favour of Shri
Moti Ram. The payment was duly made by the Bank.
The Gannaur Industrial Co-operative Society was given a loan of Rs. 950/- per p.L/
17
iii)
iv)
v)
0071.
Nurpur Co-operative Society borrowed Rs. 330/- from vide pronote No.p-Co-op.L/
0042 dated 15.1.59 through Shri Ram Dass.
Sh. Sansar Chand withdrew Rs. 320/- from his current a/c per cheque No. C.A.
0021 dated 16.1.98.
S. Bhagwan Singh deposited Rs. 1520/- in his fixed Deposit a/c for one year @ 2%.
(Cash Balance Rs. 75/-)
18th Jan 98
i)
ii)
iii)
iv)
v)
S. Balbir Singh deposited Rs. 640/- in his newly opened S.B. a/c Cheque Book having
cheques from 106 to 120 was supplied to him.
Sh. Ram Lal issued Ch. No. 2 for Rs. 340/- in favour of Sh. Sulekh Chand on his S.B.
a/c. The amount is paid.
Babar Pur Co-op Society returned its loan Rs. 180/-.
Paras Ram withdrew Rs. 400/- from his current a/c vide cheque no. CA 0002 dated
17.1.98, per Kartar Chand.
S. Karnail Singh deposited Rs. 340/- in his S.B. a/c
(Balance Rs. 355/-)
19th Jan.98
i)
ii)
iii)
S. Gurmit Singh withdrew Rs. 55/- from his S.B. a/c per cheque No. 76,
Sh. Virender Kumar deposited Rs. 335/- in his S.B. a/c
The Panipat Handloom weaver’s Co-op Society returned Rs. 209 towards its loan
a/c.
22th Jan.98
i)
Sh. Gian Singh issued cheque No. 91 for Rs. 243/- on his S.B. a/c in favour of M/s
Punjab Traders, Panipat. The amount was paid by the Bank.
ii)
Preet Nagar Agricultural Service Society repaid its loan Rs. 240/- through Ram Sarup.
iii)
S. Kartar Singh withdrew Rs. 165/- from his S.B. a/c per cheque No. 32 dated
22.1.98 per Avtar Singh.
iv)
Nurpur Co-operative Society repaid its loan Rs. 200/-.
v)
S. Mohinder Singh withdrew Rs. 180/- from his current a/c per cheque No. CA 0042
dated 22.1.98.
18
24th Jan. 98
i)
S. Balbir Singh withdrew Rs. 187/- from his S.B. a/c per cheque No. 106
(Balance Rs. 687/-)
ii)
iii)
iv)
Sh. Ram Lal deposited Rs. 134/- in his S.B. a/c.
Sh. Ved Parkash deposited Rs. 345/- in his S.B. a/c through Sh. Ishwar Chand.
Shahpur Labour Construction Co-op. Society paid Rs. 300/- towards its loan a/c per
Sh. Duni Chand president.
Sh. Sansar Chand withdrew Rs. 150/- from his current a/c per cheque No. CA/0022
dated 24/1/98 per self.
(Cash Balance Rs. 1129/-)
v)
25th Jan. 98
i)
ii)
Sh. Karam Singh withdrew Rs. 215/- from his S.B. a/c per cheque No.17 per Sh.
Naresh Kumar.
Sh. Virender Kumar withdrew Rs. 245/- from his S.B. a/c per cheque No.47 per Sh.
Vijay Singh.
The Gannaur Industrial Co-op. Society repaid its loan amounting to Rs.90/-.
Babarpur Co-op. Society was advanced a loan of Rs.180/- Vide pronote No. L/
0032 dated 24/1/98. Through Inder Singh member.
Karnail Singh withdrew Rs.500/- from his current a/c vide cheque No. AC/0061
dated 25/1/98.
27th Jan. 98
i)
Sh. Gurmit Singh deposited Rs.47/- in his S.B. A/c through Rajinder Singh.
ii)
S. Balbir Singh issued Ch.No.107 on his Saving Bank a/c for Rs.450/- in favour of
ii)
iii)
iv)
i)
Sh. Mohan Lal.
iii)
The Sampla Thrift & Credit Co-op. Society repaid its loan amounting to Rs. 150/through Sh. Ram Dass.
iv)
The Panipat Handloom wavers Co-op. Society was advanced a loan of Rs.500/- vide
P.No…………….L/00112 dated 26-1-98.
v)
Preet Nagar Agricultural Serving Society borrowed Rs.440/- vide pronote No. L/
0052 dated 26-1-98.
19
vi)
Parash Ram withdrew Rs.300/- from his current a/c vide cheque No. CA/0003 dated
27-1-98. Per self.
vii)
Rs.1000/- were withdrew from the current a/c with State Bank.
(Balance Rs. 86/-)
29th Jan 98
i)
Sh. Ved Parkash withdrawn Rs.195/- from his S.B. a/c per ch. No.62 through S.
Narayan Singh.
ii)
Gian Singh deposit Rs.108/- in his S.B. a/c.
iii)
Raikot Agricultural Service Society returned Rs.175/- towards its loan a/c.
iv)
Nurpur Co-op. Society repaid its loan amounting to Rs.250/-.
(Balance Rs.424/-)
31st Jan 98
i)
Sh. Karam Singh withdrew Rs.425/- from his S.B. a/c per cheque No.18 dated 301-98 per self.
ii)
Sampla Thrift & Credit Co-op. Society was given a loan of Rs.400/- vide Pronote
No. P-Co-op.L/0002 dated 29-1-98 through Ram Murti member.
iii)
The Gannaur Industrial Co-op. Society repaid its loan amounting Rs.160/-.
iv)
Babarpur Co-op. Society was advanced a loan of Rs.250/- vide pronote No. L/0033
of 30-1-98 through Inder Singh member.
v)
Preet Nagar Co-op. Society repaid its loan amounting to Rs.300/-.
vi)
Shahpur L/C Co-op. Society was advanced a loan of Rs.400/- vide pronote No.11/
0062 dated 29-1-98.
vii)
Sh. Sansar Chand withdrew Rs.75/- from his current a/c per cheque No. CA/00233.
viii)
Mohinder Singh deposited Rs.140/- in his current a/c.
ix)
Rs.600/- were withdrawn from the Bank (State Bank).
(Balance Rs. 74/-)
20
21
L.F.
200.00
2.00
Grand Total
Opening Balance
Saving Bank a/c
By amount deposited by Sh. Sham Lal 900.00
Total
By Raikot Agri. Service Co-op
Society
Admission Fee a/c
By Amount from Sampla Thrift and
2.00
Credit Co-op. Society.
By Amount from Rai Kot Agricultural
Service C.S.
Share No. 2 & 3
Nil
1204.00
900.00
1204.00
4.00
300.00
Amount Total
Rs. P. Amount
Rs. P.
Share Capital a/c
By Cost of one share No.1 to Sampla 100.00
Trift & Credit C.S.
General Pero Particulars
L.F.
nal
Credit
Amount Total
Rs. P. Amount
Rs. P.
Debit
116.00
1088.00
1204.00
Cash in Hand
Crand Total
12.00
Total
Postage
To cost of postage stamp
12.00
purchased
To Cost of Stationary Purchased 104.00 104.00
Gener Perso Particulars
al
nal
L.F. L.F.
Stationery a/c
The Panipat Urban Co-operative Bank Ltd. Panipat
Day Book 1st. January, 1998
22
L.F.
Amount Total
Rs. P. Amount
Rs. P.
Total
2.00
7322.00
1088.00
8410.00
Total
Opening Balance
G. Total
G. Total
Cash in hand
(Cash-Rs. Five thousand
seven hundered and Sixty
only)
8410.00
5760.00
2650.00
To cost of furniture purchased 150.00 150.00
as per detail on Voucher
Furniture a/c
Amount Total
Gener Perso Particulars
Rs. P. Amount
al
nal
Rs. P.
L.F. L.F.
Current a/c With State
Bank of India
To amount deposited in the bank 2500.00 2500.00
Admission fee a/c
By amount from Panipat H. Weaver's
Co-op. Society
2.00
Fixed Deposit a/c
By amount from Nilo Kheri M/P
Coop. Society.
4000.00 4000.00
Current a/c
By amount from Sh. Paras Ram 840.00 1320.00
By amount from Sh. Sansar Chand 480.00
Saving Bank a/c
By amount from Sh. Karam Singh 1700.00 1700.00
Share Capital a/c
By amount from the Panipat
Handloom Weaver's Co-op. Society 300.00 300.00
General Pero Particulars
L.F.
nal
The Panipat Urban Co-operative Bank Ltd. Panipat
Day Book 2nd. January, 1998
General Ledger
Share Capital Account
Date
Particular
Day
Book
Folio
Debit
Rs.
1.1.1998
2.1.1998
Credit
P.
Dr.
or
Cr.
Rs.
P.
Balance
Rs.
P.
By
amount
from
Day
Book
1
300
00
Cr.
300
00
By
amount
from
Day
Book
2
600
00
Cr.
300
00
Dr.
or
Cr.
Balance
Admission Fee Account
Date
Particular
Day
Book
Folio
Debit
Rs.
1.1.1998
2.1.1998
Credit
P.
Rs.
P.
Rs.
P.
By
amount
from
Day
Book
1
4
00
Cr.
4
00
By
amount
from
Day
Book
2
2
00
Cr.
6
00
Dr.
or
Cr.
Balance
Saving Bank Account
Date
Particular
Day
Book
Folio
Debit
Rs.
1.1.1998
2.1.1998
Credit
P.
Rs.
P.
Rs.
P.
By
amount
from
Day
Book
1
900
00
Cr.
900
00
By
amount
from
Day
Book
2
1700 00
Cr.
2600
00
23
Fixed Deposit Account
Date
Particular
Day
Book
Folio
Debit
Rs.
Credit
2.1.1998
By amount
from Day
Book
P.
1
Dr.
or
Cr.
Rs.
P.
4000
00
Balance
Rs.
P.
Cr.
4000
00
Dr.
or
Cr.
Balance
Current Deposit Account
Date
Particular
Day
Book
Folio
Debit
Rs.
Credit
2.1.1998
By amount
from Day
Book
P.
2
Rs.
P.
1320
00
Rs.
P.
Cr.
1320
00
Dr.
or
Cr.
Balance
Loan to Members Account
Date
4.1.1998
5.1.1998
Particular
Day
Book
Folio
To amount
from
3
To amount
4
Debit
Credit
Rs.
P.
500
00
Rs.
P.
Rs.
P.
Dr.
500
00
Dr.
1500
00
1000 00
24
Current Account with State Bank of India (Panipat)
Date
Particular
Day
Book
Folio
Debit
Credit
Rs.
2.1.1998
By amount
from Day
Book
2
P.
2500
Rs.
Dr.
or
Cr.
P.
00
Dr.
Balance
Rs.
P.
2500
00
Furniture Account
Date
Particular
2.1.1998
To amount of
furniture as
per Day Book
...2
Debit
Credit
Rs.
P.
150
00
25
Rs.
Dr.
or
Cr.
P.
Dr.
Balance
Rs.
P.
150
00
Stationary Account
Date
1.1.1998
Particular
To cost of
Stationary per
Day Book....1
Debit
Credit
Rs.
P.
Rs.
104
00
Dr.
or
Cr.
P.
Dr.
Balance
Rs.
P.
104
00
Postage Account
Date
1.1.1998
Particular
To cost of
postage as per
Day Book....1
Debit
Credit
Rs.
P.
12
00
26
Rs.
Dr.
or
Cr.
P.
Dr.
Balance
Rs.
P.
12
00
27
250
150
By amount
received
By amount
To amount
advanced
through
Sh. Ram
Murti
Member
27.1.98
31.1.98 10002
400 00
500 00
8.1.98
Credit
To amount
P-Coop. L/1000 advanced
through
Sh. Ram
Dass
Cashier
Debit
4.1.98
Particulars
No. of
Pronote
Date
Principal
400
500
7550
4
1
28
00 100 00
500 00
4650
2000
19
4
No. of Prod
Days ucts
00 250 00
500 00
Balance
Interest
18.2. By amount
received
98
31.1. To interest 3
up to 31.1.98
98
@ 6% (say..)
40
3
Credit
Account
Date Particulars Debit
Name The Sampla Th. & Credit Co-op Society P.O. M.C.L Classification No. And Date of Pronote
Registrars order
Sampla, Tehsil Rohtak
District Rohtak
No.
Date
Cheque Bonds Issued
Date : 4.1.98
Loan Ledger
40
Nill
3
40
Balance
Illustration 2
The following is the list of balances of the Gohana Marketing Coop. Society Ltd., as
on 31.12.98. Prepare a Trial Balance as on that date
Rs P.
Rs. P.
Share Capital
17220.00
Postage Spent
183.18
Stock at Commencement
12000.00
Reserve Fund
2450.00
Salaries of the staff
2850.00
Commission Earned
2640.00
Admission Fee
175.00
T.A. to Directors
334.62
Interest Received
1153.00
Sales Account
70,915.56
Rent of office Building
940.00
Shares held
1800.00
Purchases
54,380.00
Interest Recoverable
430.00
Interest on Deposits Paid
618.00
Carriage on goods
purchased
680.00
Salaries payable
140.00
Returns outwards
572.34
Interest (Cr.)
230.00
Discount allowed by
Creditors
850.50
Furniture & fixture
1750.00
Return inwards
725.00
Stationary and printing
437.75
Undistributed Profits
795.00
Loans advanced to
Members
18,242.25
Security Deposit with
D.W.S.
1200.00
Audit Fee payable
840.00
Discount allowed
238.00
Sundry Creditor
6000.00
Cash in hand
632.00
Deposit in C.B. Branch
6540.00
28
Solution
The Gohana Marketing Coop Society Ltd.
Trial Balance as on 31.12.1998
Debit Balance
Amount
Rs.
P.
Credit Balance
Amount
Rs. P.
17220.00
Stock at Commencement
12000.00
Share Capital a/c
Salaries of the staff
2850.00
Admission Fee
Rent of office Building
940.00
Interest Received
1153.00
Purchases
54380.00
Salaries payable
140.00
Interest on Deposits
618.00
Interest payable
230.00
Furniture & fixture
1750.00
Audit Fee Payable
840.00
Stationary and printing
437.75
Sundry Creditors
6,000.00
Loans advanced to Members 18,242.25
Reserve Fund
2450.00
Cash in hand
632.00
Commission Earned
2640.00
Deposit in C.B. Branch
6540.00
Sales a/c
70,915.56
Postage spent
183.18
Returns outwards
572.34
T.A. to Directors
334.62
850.50
Share held
1800.00
Discounts allowed by
Creditors
Profit (undistributed)
Interest Recoverable
430.00
Carriage on goods
purchased
Returns inwards
680.00
Security Deposits with
D.W.S.
1200.00
Discount allowed
238.60
Total
1,03,981.40
Total
1,03,981.40
175.00
795.00
725.00
29
Illustration –3
From the following Trial Balance of the Bhiwani Marketing Co-operative Society for the year
ending 31.12.1998. Prepare Trading a/c, Profit & Loss a/c and Balance Sheet as on that date
Dr. Balance
Stock of goods (Opening)
Purchases
Freight & Carriage
Cr. Balance
6800
Share Capital a/c
18655
17580
Funds
3240
1840
Sales
21437
Octroi & Terminal Taxes
234
Interest received
348
Wages to Coolies
425
Sundry Creditors
6475
T.A. of Staff
164
Salaries Payable
280
Salaries a/c
2654
Return outwards
189
Building
5760
Deposits
Stationary & Printing
159
Postage & Telephone
45
Saving Bank a/c with C.B.
1000
6520
Bhiwani
Cash in hand
Sundry Debtors
214
7244
Depriciation
150
Interest paid
237
Furniture
Return from Debtors
Total
1250
348
51624
Total
Note : Stock in hand on 31.12.1998 was valued at Rs. 3560/-
30
51624
Solution : The Bhiwani Marketing Co-operative Society Ltd.
Trading Account
Dr.
Particulars
Cr.
Amount
To opening Stock
6800
To purchase 17580
Less Returns 189
To Freight & Carriage
Particulars
Amount
By Sales
21347
Less Return 348
21089
By closing stock
3560
By Gross Loss
transferred to P/L a/c
2041
17391
1840
To Octroi & Terminal taxes
234
To wages
425
26690
26690
Profit and Loss Account
Dr.
Particulars
Cr.
Amount
Particulars
To Gross loss from
Trading a/c
2041
By Interest Received
To salaries a/c
2654
By Net Loss to
Amount
348
5102
Balance Sheet
To T.A. to Staff
164
To Stationary & Printing
159
Postage & Telegrams
45
To Depriciation
150
To Interest Paid
237
Total
5450
Total
31
5450
Balance Sheet as on 31.12.98
LIABILITIES
AMOUNT
ASSETS
AMOUNT
Share Capital
18655
Cash in hand
214
Funds
3240
6520
Deposits
1000
Saving Bank a/c with
C.B. Bhiwani
Building
Sundry Creditors
6475
Sundry Debtors
7244
Salaries Payable
280
Furniture
1250
Stock a/c
3560
Net Loss as per P/L a/c
5102
Total
29,650
Total
29,650
5760
Illustration –4
The following is the Trial Balance of the Gurgaon Transport Co-operative Society as
on 31.4.99. Prepare a Profit & Loss a/c and Balance Sheet as on that date.
Dr. Balance
Rs.
Pay of Drivers
46822
Pay of Conductors
22134
Cash in hand
3461
Police Vouchers Recoverable
984
Vehicle insurance Paid
18236
Fleet of Vehicles
556789
Petrol Consumed
23456
Pay & allowances of office Staff 34567
Printing & Stationary
9876
Stock of Stationary
2104
Stock of Spare Parts
6789
Stock of Petrol in Lorries
1235
Adda Fees Paid
6824
Cr. Balance
Rs.
Share Capital a/c
150875
Reserve Fund
87519
Lorry Income
245678
Clean Loan from Central
75642
Members Deposits
34680
Contract Bookings
28247
Interest on Loans Payable
3456
Loan from Punjab Motor 112500
Petrol Bills Payable
13482
Carriage of Mails
8679
Profit & Loss a/c Balance 11234
Miscellaneous income
650
32
Painting Charges
Furniture
Shares of C.B. Purchased
Entertainment to Visitors
Income tax Refundable
Saving Bank a/c with C.B.
Repairs to Lorries
Loose Tools Stock
General Charges
Total
3651
4262
2150
846
3567
1486
9732
10523
3148
772642
Total
772642
Adjustments :(i)
(ii)
(iii)
(iv)
Fleet of vehicles is to be depreciated @ 10%.
Insurance amounting to Rs. 2468/- is unexpired.
Petrol Bills of Rs. 784/- Painting Bills, Rs. 416/- were outstanding.
Rs. 650/- were received and included in contract Booking a/c but the service was yet
to be performed.
(v)
Interest of Rs. 1125/- on Loans was payable.
Solution
The Gurgaon Transport Co-operative Society Ltd.
Profit & Loss account for the year ending 31.4.99
Particulars
Amount
Particulars
Amount
245678
To Pay of Driver
46822
By Lorry Income
To Pay of Conductors
22134
By Contract
28247
Booking
To Pay & allowance of Staff
34567
To Vehicle Insurance Paid 18236
Less unexpired
2468 15768
33
Less received in 650
advance
27597
By carriage of mails
8679
By miscellaneous income
650
To Petrol
23456
Petrol Bills Payable 784
To Printing & Stationary
To Adda fees paid
To Painting Bills Paid 3651
To Painting Bills
416
payable
24240
9876
6824
To Repairs to Lories
To General Charges
To Interest on Loans
To Depriciation on Lorries
@10%
9732
3148
1125
55678
To Net Profit carried to
Balance Sheet
47777
Total
2,82,604
4067
Total
2,82,604
Balance Sheet as on 31.4.99
LIABILITIES
AMOUNT
ASSETS
Share Capital
150875
Cash in hand
3461
Reserve Fund
87519
S.B. deposit with C.B.
1486
Member deposits
34680
Fleet of Vehicles
Clean Loan from C.B.
75642
501111
Loan from Punjab Motor
Finance
Payable item
Interest as per
112500
Less depreciation 55678
@ 10%
C.B. Share purchased
Furniture
Printing & Stationary
Stock
4262
2104
34
AMOUNT
556789
2150
Trial Balance
3456
Interest as per
Adjustment
1125
4581
Petrol Bills payable 13482
Petrol Bills payable 784
14266
Painting Bills Payable
416
Contract Booking received 650
in advance
Profit & Loss a/c
Last Balance
6789
Petrol Stock
1235
Loose Tools stock
Police voucher recoverable
Income Tax refundable
Insurance Paid in Advance
10523
984
3567
2468
Total
5,40,140
11234
Profit as per P/L a/c 47777
59011
Total
5,40,140
13.7
Spare Parts Stock
SUMMARY
Co-operative societies are voluntary associations of persons started with the aim of
service to its members. Different types of co-operatives are working with a single motive of
protection and betterment of weaker sections of the society with different ways and area of
operations. Co-operative system of accounting is one in which both receipt and payment
effect of a particular transaction is recorded in a book of original entry and posted accordingly.
Different books may be used in different types of co-operative societies accordingly to their
nature of work.
13.8
KEYWORDS
Co-operative Society: It is a society which has its objectives of promotion of economic
interest of its members in accordance with co-operative principles.
Co-operative System of Accounting: It is a system in which both receipts and payments
effect fo a particular transaction are recorded in a book of original entry and posted accordingly.
35
Day Book: This is a book in which all the transactions from the journal are recorded in this
except the cash items.
Double Entry System: It is a system under which both the aspects of a transaction is recorded.
13.9
SELF ASSESSMENT QUESTIONS
1.
Define a co-operative society. Discuss the features of a co-operative society.
2.
What are the different types of co-operative societies?
3.
Explain the accounting procedure in a co-operative society.
4.
Prepare the Trial Balance of Sampla Credit Co-operative Society from the following
balances:
Rs. P.
Rs. P.
Cash in hand
321.00
Postage
37.89
Stationary and Printing
82.11
Loan to members
4375.50
Furniture a/c
150.00
National Saving Certificate
500.00
Paid up Share Capital
2235.00
Deposit by members
3450.00
Deposit by Non-members
960.00
Rent a/c
180.00
Share held of another Co-op.
800.00
Salaries
240.00
Reserve Fund
820.00
Buildings
5000.00
Loan from Central Bank
4325.00
Profit & Loss a/c
1843.60
Rohtak
Cr.
Stock of Sugar
1200.25
Interest Payable
167.50
Fertilizer stock
980.75
Interest Recoverable
123.40
Common Good Fund
204.00
Contribution to Prov. Fund
14.20
36
5.
The following is the Trial Balance of the Bopa Rai Agricultural Service Society
on 30.6.98. Prepare Profit & Loss Account and Balance Sheet.
Dr. Balance
Amount
Cr. Balance
Amount
Cash in hand
223
Shares
7345
S.B. Deposit with P.O.
107
Interest Received
4567
Salary of Staff
300
Admission Fee
Rent of Building
180
Member’s Deposits
5678
Stationary & Printing
144
Non Members Deposit
3456
Furniture
400
Dividend on shares
20
Spray Pump
270
Interest on National Saving
45
93
Certificate
Stock of Fertilizer
540
Reserve Fund
785
Shares of C.B. Jullundur
150
Common Good Fund
165
Share of Bhogpur Sugar Mill
400
Interest Payable
216
Share of P.B. Jullundur
100
Central Bank Loan
11311
National Saving Certificate
800
Total
33681
Interest Paid & Payable
1896
On Loan to Members
27983
Profit & Loss Balance
184
Total
33681
37
Adjustments i) Consider Rs. 311/- as bad out of amount due from members as loan.
ii)
Interest on Loans was recoverable Rs. 94/-.
iii)
Depreciate Furniture @ 5%.
iv)
Stationary worth Rs. 36/- was purchased on credit but it could not be vouched.
Note : This year’s Profit & Loss a/c discloses a Profit. Last year’s Profit and Loss a/c
indicated Loss. Hence the balance i.e. resultant Profits will be shown on the liabilities
side of the Balance Sheet.
6.
From the following Ledger Balances of the Hansi Co-operative Agricultural Society
Ltd. as on 30.6.98 Prepare Trading a/c, Profit & Loss a/c and Balance Sheet as on
that date.
Dr. Balances
Previous Stock of Sugar
Sugar Purchased
Freight & Octroi
Wages
Agricultural Seed Purchased
Salaries
Audit Fee paid
Interest Paid
Stationary Consumed
Office Rent
Contribution to Co-op.
Week Celebrations
News Papers Subscriptions
Loan to members
National Savings Certificates
Shares Purchased
Building
Advance with Execution Agent
Furniture & Spray Pump
Cash in hand
Total
7.
Cr. Balances
500
2500
55
25
300
1200
225
400
20
60
50
50
132000
8000
500
500
50
400
1200
1,48,035
Sale of Sugar
Sale of Agricultural Seed
Fertilizer
Interest Received on Loans
Admission Fee
Members Share Capital a/c
Government Share Capital a/c
Member Deposit
LoanfromCentralCo-op.Bank
Non-members Deposits
Reserve Fund
Common Good Fund
Building Fund
Last year’s Profits
Total
2600
325
100
3500
10
20000
5000
40000
30000
35000
6000
500
2000
3000
1,48,035
The following is the Trial Balance of the Palwal Co-op Union Ltd ; as on
31.12.98. Prepare Profit & Loss Account and Balance Sheet.
38
Dr. Balances
Interest Paid and Payable
Establishment
Dearness allowances
Cash in hand
Postage in hand
Current a/c with C.B.Gurgaon
Investments
Security with Agr. Deptt.
Fixed Deposit with State
Co-op. Bank
Contribution to Prov. Fund
Postage Spent
Library Books
Furniture & Fittings
Stationary & Printing
Cr. Balances
4316.13
1461.13
156.70
5514.25
7.13
843.62
48,500.00
200.00
75540.00
Share Capital
103450.00
Reserve Fund
4544.00
Common Good Fund
1265.00
Bad & Doubtful Debt fund 1356.45
Current Deposits by Individuals 24345.00
S.B. Deposit by Societies 48418.72
Employees Prov. Fund
942.18
Govt. Audit Fee Deposits 1560.00
Interest on loans
4675.00
115.40
34.25
Interest on Investments
3412.48
Commission on sale
118.32
of Fertilizers
Overdraft with State
7456.00
Bank of India
Suspense Interest
4532.48
Interest Payable on
1435.83
Fixed Deposits
Employees Securities deposits
764.14
Admission fee
26.00
Fixed Deposits
75276.00
75.00
1.00
148.00
Stock of Books for sale
546.37
Income Tax Recoverable
1275.30
Interest Recoverable
4532.43
Interest accured but not yet due
845.15
Profit & Loss a/c balance
4283.65
Travelling Expenses
238.35
General Charges
542.54
Depreciation on investments
460.00
Discount allowed
15.82
Sitting Fee
183.38
Loans advanced to Members 125450.00
Land and Building
7850.00
Audit Fee Paid
342.00
Shares held of C.B.
100
Rs.
283577.60
Rs.
39
283577.60
The following list of balances was taken from the general Ledger of the Moga Co-op
Mortgage Bank as on 30.5.98. Prepare Profit & Loss a/c & balance sheet.
Dr. Balances
Amount
Cr. Balances
On Loan to Members
234568
Share Capital
Rent of Office Paid
1432
Interest Earned
Printing & Stationary
765
Staff Security Deposit
Postage
234
Loan from S.L.M.B.
Shares of S.L.M.B.
800
Admission Fee
Shares of Co-op. Bank
100
Deposits
Furniture
189
General Charges
321
Interest Recoverable
1234
Staff Salaries
4567
8.
83700
6789
750
150780
4185
351
2345
Cash in hand
Rs.
Amount
246555
246555
The following is the Trial Balance of the Kaithal Multi Purpose Coop. Society on
31.12.1997. Prepared Profit & Loss a/c and Balance Sheet.
Debit Balance
Amount
Cash in Hand
176
Stock of Sugar
2354
On Loan to Members
Credit Balance
17875
Amount
Shares
6842
Interest Received
4567
Admission Fee
25
Establishment
3456
Sundry Creditors
Sundry Debtors
7654
Bill Payable
Discount allowed
352
Deposits
5430
Interest Paid
743
Reserve Fund
4264
Stationary & Printing
468
Investment Depreciation Fund
Postage
38
Central Bank Loan
40
9876
382
961
15600
Furniture
Investment in Govt. Security
800
Discount Received
145
4560
Profit & Loss a/c
2157
Interest Recoverable
346
Stock of fertilizer
740
Building
9800
Audit Fee Paid
195
General Charges
234
Saving Bank a/c with C.B. Branch
458
Rs.
50249
Rs.
50249
Adjustment :i)
ii)
iii)
iv)
v)
Stock of Sugar was valued at Rs. 2768/-.
Stock of Fertilizer valued at Rs. 965/Interest on Loans to members to the extent of Rs. 880/- Could not be vouched before
the close of the year.
Govt. Securities are to be depreciated by Rs. 345/- out of Depreciation Fund.
Depreciate furniture 5%
13.10 SUGGESTED READINGS
1.
2.
3.
4.
5.
6.
7.
Fundamentals of Accounting by R.L. Gupta and V.K. Gupta, Sultan Chand and Sons,
New Delhi.
Advanced Accounting by R.L. Gupta and M. Radhaswamy, Sultan Chand and Sons,
New Delhi.
Advanced Accounting by Ashok Sehgal and Deepak Sehgal, Taxmann Allied Services
Pvt. Ltd., New Delhi.
Advanced Accounts by M.C. Shukla, T.S. Grewal and S.C. Gupta, S. Chand and
Co. Ltd., New Delhi.
Fundamentals of Advanced Accounting by R.S.N. Pillai and V. Bagavathi, S. Chand
and Co. Ltd., New Delhi.
Studies in Advanced Accounting by S.N. Maheshwari, Sultan Chand and Sons, New
Delhi.
Financial Accounting by Shashi K. Gupta, Nisha Aggarwal and Neeti Gupta, Kalyani
Publishers, Ludhiana.
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