Accounting Fundamentals: Preparation of Financial Statements and Ratio Analysis

This report discusses the preparation of profit and loss statement and statement of financial position along with the concept of double entry system. It also calculates financial ratios and comments on the financial performance and position of Chocco Plc.

FUNDAMENTALS

TABLE OF CONTENTS
INTRODUCTION...........................................................................................................................3
Question 1........................................................................................................................................3
(a) Preparation of profit and loss statement and statement of financial position........................3
(b) Reason behind balanced statement of financial position.......................................................5
Question 2........................................................................................................................................6
(a) Calculation of ratios for Chocco Plc for the year 2020 and 2019.........................................6
(b) Comment on the financial performance and position of Chocoo Plc....................................7
CONCLUSION................................................................................................................................8
REFERENCES................................................................................................................................9

INTRODUCTION
Accounting fundamentals is the basic accounting concepts, principles etc. which helps
the company in preparing and analysing the financial report (Dewi, Azam and Yusoff, 2019).
This report will discuss two questions. In first question, the report will calculate the income
statement and balance sheet along with the discussion of concept of double entry system. Lastly,
in the second question, the report will calculate the financial ratio along with the comment on the
performance of business.
Question 1
(a) Preparation of profit and loss statement and statement of financial position
Profit and Loss Statement for Kedison Plc
For the year ended 31st December 2020
Particulars Details Amounts (£)
Sales Revenue (note 1) 826650 + 980 827630
Less Cost of Sales -578650
Gross Profit 248980
Operating Expenses:
Administrative expenses 30000
Distribution cost (note 2) 31000
(28000 + 3000)
Directors remunerations 5000
Less Total operating expenses -66000
Income before interest and tax 182980
Less Interest Paid (note 3) 2000 + 2000 -4000
Income before tax 178980
Less Corporation tax -68000

Net Income transfer to retained
earnings
110980
Statement of Financial Position for Kedison Plc
For the year ended 31st December 2020
Particulars Details Amounts (£)
ASSETS
Non-current assets:
Plant and Equipment 632730
Current assets:
Closing Stock 330600
Debtors (note 1) 171105
(170125 + 980)
Cash and Bank 12900 514605
Total 1147355
LIABILITY AND EQUITY
Current liabilities
Trade creditors 171355
Interest accrued (note 3) 2000
Sales commission accrued (note 2) 3000
Corporation tax payable 68000 244355

Non-current liabilities
4% debentures 100000
Equities
1% ordinary shares 310000
10% £1 preference shares 300000
Retained profit as per 31st December
2020 (note 4)
192980
Total 1147335
Working Note:
Note 1: Goods valued £980 were sent to customers whose payment is due in January 2021 which
means that this is a credit sales.
This will increase the sales revenue by £980, increase the trade debtors by £980 and decrease the
closing inventory by £980.
Note 2: Sales commission of £3000 owned to salesman is related to December sales. So, it is a
closing accrual which will increase the distribution cost by £3000. Closing accrual will be shown
in the liabilities side of the balance sheet.
Note 3: Total amount of interest on debentures will be £4000 i.e., £100000 * 4%. As the trial
balance shows only £2000 interest paid so remaining £2000 will be added back to cost by
considering it as closing accrual expense. Closing accrual of £2000 will be shown in the
liabilities side of the balance sheet.
Note 4: Calculation of closing retained earnings as per 31st December 2020
Particulars Amounts (£)
Retained profit as per 1st January 2020 132000
Less Ordinary dividend paid -20000

Less Preference dividend paid -30000
Add Net profit for the year 2020 110980
Retained profit as per 31st December 2020 192980
(b) Reason behind balanced statement of financial position
The major reason behind the balance and tally of financial position of the business is
accounting principle of double entry system. It means that if the company follow the double
entry system within their business, their balance sheet will always tally. With the help of double
entry system, the company able to understand the two fold aspects of the transaction which is
one giving benefits and other receiving benefits. In simple term, every transaction has two effect
and that is debit and credit. Also, every debit has equal credit which helps in getting the balance
of assets and liabilities equal. As this system or principle considers and maintained both personal
and impersonal accounts thus it further helps in comparing the financial performance of the
business with that of the past or competitors performance (Fellingham, 2018). With the help of
this system, the company's financial management able to identify the outstanding balances of
receivables and payables more accurately. Along with this, the government can also easily
decide the net earnings on which company need to pay corporate tax.
Question 2
(a) Calculation of ratios for Chocco Plc for the year 2020 and 2019
Particulars Formulas 2020 2019
1. Return on Capital
Employed (ROCE)
{Earning before interest and
tax / Total assets — Total
liabilities} * 100
26.7%
(824 / 9736 –
6648) * 100
23.8%
(694 / 10087 –
7175) * 100
2. Return on Equity
(ROE)
Net Income / Shareholder's
Equity * 100
14%
(431 / 3088) *
100
13%
(366 / 2912) *
100
3. Earning per share Earning available to equity 0.72 0.61

(EPS) shareholders/ Total number of
equity shares outstanding
(431 / 600) (366 / 600)
4. Net profit margin. Net Profit / Net sales * 100 6.40%
431 / 6738 × 100
5.68%
366 / 6441 ×
100
5. Assets turnover ratio. Net Sales/ Total assets 0.69
(6738 / 9736)
0.64
(6441 / 10087)
6. Stocks holding days. Inventory / Cost of goods sold
* 365 days
80days
(708 / 3235) *
365 days
78 days
(659 / 3096) *
365 days
7. Debtors collection
period.
Trade debtors / Net sales * 365
days
68 days
(1249 / 6738) *
365 days
73 days
(1287 / 6441) *
365 days
8. Current ratio. Current assets / Current
liabilities
0.92
(2303 / 2511)
0.77
(2355 / 3046)
9. Gearing ratio. Total debt / Total equity 2.15
(6648 / 3088)
2.46
(7175/ 2912)
10. Investors cover ratio.
(dividend payout ratio)
Total dividend / Net Income 0.59
(255 / 431)
0.66
(242/ 366)
(b) Comment on the financial performance and position of Chocoo Plc
The financial performance and position of Chocoo Plc is identified and analyse using the
following category such as: Profitability: This is financial matrix which state the profit earning capacity of the
business. This includes net profit margin, return on equity and return on capital employed
of the company. On the basis of above calculations, it can be said that the NP, ROCE and
ROE of Chocco company in the year 2020 is higher than the 2019. It might be because of
the various reasons such as drastic increment in the sales revenue of the company,
reduction in the cost of production of the business etc. The company have to further

improve it in order to gain more competitive advantage in the market (Haralayya, 2021).
For this, the company can adopt the value-based pricing strategy or sale the outdated
assets. Liquidity: The liquidity ratio is another most significant financial matrix which includes
current ratio. The CR of Chocco company in the year 2020 is higher than 2019 but lower
than ideal and standard ratio of 2. It means that the company need to further improve it
and for this they need to allow discount facility to their customers for the early payments.
Further, the company can also improve its liquidity possition by selling unused and
outdated fixed and current assets in the market (Litvak and et.al., 2017). The impact of
which they can generate cash and use that amount on payment of creditors. Leverage: This financial ratio includes gearing ratio which indicate that the ratio of
Chocco company in the year 2020 is lower than the 2019. This means that company has
reduced its debts (Li and et.al., 2017). But as the company able to maintain the standards
and ideal ratio of 2:1 this does not cause them any harm. But on a safe side, financial
management of the company have to consider this issue and look out this area seriously. Efficiency: The efficiency of the company is identified using the assets turnover ratio,
stock holding days and debtors collection period. All the ratio of Chocco company in the
year 2020 is favourable except stocks holding days. It is because now company are taking
more days in holding their stocks which require improvement. For improvement, it is
advisable to the company they have to use smart pricing strategy so that their goods are
sold frequently in market (Keglević Kozjak and Barušić, 2019). The company also have
to encourage their old stocks by implementing discounts and sales schemes. Beside this
proper forecasting is also one of the option with the help of which Chocco company can
improve efficiency ratio of the business.
 Market: The market category state the performance of the company in the market using
the dividend payout ratio and earning per share. The Earning per share of the company in
the current year has increases while on the other hand investors cover such as dividend
payout ratio has decreases. It means that Chocco company earning per share is increases,
but they have paid less dividend to their equity shareholders. This will affect the value of
the company in the market. Thus, it is advisable to the company that they have to
incorporate the regular and stable dividend policy within the business. It is because

higher dividend will satisfy the equity shareholders of the business and also further
increase the capital of company (Rahmawati, Danial and Sunarya, 2018).
CONCLUSION
The report has concluded the two most important calculations such as income statement,
financial position and ratio calculations. Further, the report has also comment on the
performance of the business using the ratio calculation of Chocco Plc. Lastly, the report has also
discussed the double entry principle of accounting which helps in the tally of balance sheet.

REFERENCES
Books and Journals
Dewi, N., Azam, S. and Yusoff, S., 2019. Factors influencing the information quality of local
government financial statement and financial accountability. Management Science
Letters. 9(9). pp.1373-1384.
Fellingham, J., 2018. The Double Entry System of Accounting. Accounting, Economics, and
Law: A Convivium. 8(1).
Haralayya, B., 2021. Ratio Analysis at NSSK, Bidar. Iconic Research And Engineering
Journals. 4(12). pp.170-182.
Litvak, I. and et.al., 2017. In-situ 13 C/12 C ratio analysis in water carbonates using FTIR. Agil.
Technol. Appl. Note, Environ, pp.1-6.
Li, B. and et.al., 2017, October. Signal noise ratio analysis and on-orbit performance estimation
of a solar occultation Fourier transform spectrometer. In AOPC 2017: Space Optics and
Earth Imaging and Space Navigation (Vol. 10463, p. 104631A). International Society for
Optics and Photonics.
Keglević Kozjak, S. and Barušić, D., 2019. FINANCIAL RATIO ANALYSIS OF SELECTED
PROMOTION COMPANIES. CroDiM: International Journal of Marketing Science. 2(1).
pp.59-71.
Rahmawati, F., Danial, R. D. M. and Sunarya, E., 2018. Activity Ratio Analysis for Measuring
Company Effectiveness PT. Martina Berto Tbk Jakarta. Jurnal Apresiasi Ekonomi. 6(3).
pp.183-189.