Financial Accounting and Analysis 2081 Board Question Paper

The matching concept dictates that all expenses incurred to generate revenues during an accounting period must be matched and recognized in the same period against those respective revenues. It works in tandem with the accrual principle, requiring period-end adjustments for accrued expenses, prepaid assets, unearned revenues, and non-cash expenses like depreciation to reflect the true operational profit or loss of the enterprise.

Book-keeping is the routine, mechanical, and clerical phase of accounting that encompasses the systematic identification, monetary measurement, and chronological recording of day-to-day financial transactions in books of original entry (journals) and their classification into ledger accounts.

Accounting, by contrast, is the broader comprehensive discipline that begins where book-keeping ends, involving the summarization (trial balance), preparation of financial statements, analytical interpretation, and communication of financial results to stakeholders.

Nepal Financial Reporting Standards (NFRS) are a set of authoritative, principle-based accounting standards developed and pronounced by the Accounting Standards Board (ASB) Nepal, which are substantially converged with International Financial Reporting Standards (IFRS) issued by the IASB.

Primary Objective: To harmonize Nepalese financial reporting practices with global standards, ensuring transparency, consistency, comparability, and international investor confidence.

A contingent liability is a potential obligation arising from past events whose confirmation depends upon the occurrence or non-occurrence of one or more uncertain future events not wholly within the control of the enterprise.

Key Features:

• It is neither a present legal debt nor a certain liability (e.g., pending lawsuits, corporate bank guarantees given for associates).
• Under NAS 37 / NFRS, it is disclosed in the Notes to the Financial Statements rather than recognized as a liability on the balance sheet.

A Trial Balance is a two-column scheduling statement that lists the debit and credit closing balances extracted from all ledger accounts of an enterprise as of a specific date.

Purposes:

1. To establish mathematical proof of the arithmetical accuracy of double-entry postings (verifying that Total Debits = Total Credits).
2. To provide a condensed summary of ledger balances to facilitate the preparation of the final financial statements.

Journal Entries

Calculation of Value Added

1. Gross Value of Production (Gross Output):

$$\begin{aligned} \text{Sales Revenue} &= \text{Rs. 800,000} \\ \text{Add: Change in Finished Goods Inventory (Closing } 50,000 - \text{Opening } 150,000) &= \text{Rs. (100,000)} \\ \hline \textbf{Value of Production / Gross Output} &= \mathbf{\text{Rs. 700,000}} \end{aligned}$$

2. Cost of Bought-in Materials and External Services:

$$\begin{aligned} \text{Materials Purchased} &= \text{Rs. 500,000} \\ \text{Store Supplies Consumed} &= \text{Rs. 200,000} \\ \text{Power and Fuel} &= \text{Rs. 80,000} \\ \hline \textbf{Total Bought-in Goods and Services} &= \mathbf{\text{Rs. 780,000}} \end{aligned}$$

3. Net Value Added:

$$\text{Value Added} = \text{Value of Production} - \text{Bought-in Costs} = 700,000 - 780,000 = \mathbf{\text{Rs. (80,000)} \quad (\text{Negative Value Added})}$$

(Note: If calculated directly on gross sales turnover without finished stock adjustment: $\text{Value Added} = 800,000 - 780,000 = \mathbf{\text{Rs. 20,000}}$).

Accounting Equation: $\text{Assets} = \text{Liabilities} + \text{Capital}$

Working Notes:

1. Started business: Cash (+50,000) + Goods/Stock (+150,000) = Assets (+200,000); Capital (+200,000).
2. Commission received:
   • Total Cash received = +Rs. 26,000 (Assets increase).
   • Advance Commission = +Rs. 2,000 (Liability: unearned income).
   • Earned Commission = Rs. 24,000 (Capital increases: revenue).

In the Books of Furniture House

Return Inward Book (Sales Return Journal)

(Note: On Feb 28, goods were returned to MM Furniture, which is a Return Outward / Purchases Return to a supplier, and is therefore excluded from the Return Inward Book).

Working Notes:

1. Sundry Debtors: Rs. 220,000
2. Less: Additional Bad Debts: Rs. 20,000
3. Adjusted Debtors: Rs. 200,000
4. New Provision Required (c/d): $5\% \times 200,000 = \mathbf{\text{Rs. 10,000}}$
5. Total Bad Debts to write off: Existing (Rs. 20,000) + Additional (Rs. 20,000) = $\mathbf{\text{Rs. 40,000}}$

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Provision for Doubtful Debts Account

Source Documents and Importance of Accounting Vouchers

1. Meaning and Role of Source Documents [4 Marks]

A source document (also known as supporting voucher or prime evidence) is the original written legal instrument that contains the factual details of a business transaction. It serves as objective, documentary proof that a transaction actually transpired and provides the financial data necessary to create accounting entries.

Key Examples of Source Documents:

1. Sales / Purchase Invoice: Document issued when merchandise is sold or purchased on credit.
2. Cash Memo: Issued when cash transactions (cash sales or cash purchases) occur.
3. Receipt: A written acknowledgement confirming receipt of cash or cheques from customers.
4. Bank Pay-in Slip & Counterfoil: Evidence of cash or cheque deposits into a bank account.
5. Debit Note and Credit Note: Instruments evidencing returns of goods to suppliers (Debit Note) or returns received from customers (Credit Note).

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2. Concept and Importance of Vouchers in an Organization [6 Marks]

A voucher is an internal accounting document prepared by the accounting department that authorizes the recording of a transaction in the books of accounts, establishes account codes (debits and credits), and attaches the relevant source documents.

Organizational Importance:

1. Primary Evidence for Statutory and Internal Auditing:
   • Vouchers provide external auditors with verifiable audit trails confirming that every debit and credit entry is authentic, authorized, and accurate.
2. Strengthening Internal Control and Fraud Prevention:
   • Every voucher requires formal dual-authorization signatures (preparer, checking officer, and authorizer/manager), preventing embezzlement, unauthorized fund disbursements, and ghost payments.
3. Accuracy in Double-Entry Posting:
   • Clearly designates the specific debit and credit account ledger codes before entries are journalized, reducing classification errors.
4. Legal Protection in Commercial Disputes:
   • Properly authorized vouchers with attached bills and receipts serve as admissible evidence in court during legal or taxation disputes.
5. Establishment of Employee Accountability:
   • By fixing signatures of preparer, verifier, and authorizer, the organization pinpoints responsibility for errors or irregularities.

Inventory Valuation Under Periodic Inventory System

1. Basic Quantities & Available Inventory:

• Beginning Inventory (Ashwin 1): $500 \text{ units} \times \text{Rs. 20} = \text{Rs. 10,000}$
• Purchases:
  • Ashwin 8: $800 \text{ units} \times \text{Rs. 22} = \text{Rs. 17,600}$
  • Ashwin 22: $600 \text{ units} \times \text{Rs. 25} = \text{Rs. 15,000}$
• Total Goods Available for Sale: $\mathbf{1,900 \text{ units}} \text{ costing } \mathbf{\text{Rs. 42,600}}$
• Units Sold: $900 + 500 = \mathbf{1,400 \text{ units}}$
• Ending Inventory Units: $1,900 - 1,400 = \mathbf{500 \text{ units}}$

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Part 1: FIFO Method (Periodic System) [5 Marks]

Under FIFO, units sold are assumed to be from the earliest acquisitions; thus, ending inventory consists of the most recent purchases:

1. Ending Inventory (500 units): Entirely from the latest purchase on Ashwin 22 (@ Rs. 25 per unit):

   $$\text{Ending Inventory} = 500 \text{ units} \times \text{Rs. 25} = \mathbf{\text{Rs. 12,500}}$$

2. Cost of Goods Sold (COGS) (1,400 units):

   $$\begin{aligned} \text{COGS} &= \text{Total Cost of Goods Available} - \text{Ending Inventory} \\ &= 42,600 - 12,500 = \mathbf{\text{Rs. 30,100}} \end{aligned}$$
   (Verification: From Ashwin 1: 500 @ 20 = 10,000; From Ashwin 8: 800 @ 22 = 17,600; From Ashwin 22: 100 @ 25 = 2,500; Total = Rs. 30,100).

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Part 2: LIFO Method (Periodic System) [5 Marks]

Under periodic LIFO, units sold are assumed to be from the most recent purchases; thus, ending inventory consists of the earliest acquisitions:

1. Ending Inventory (500 units): Entirely from the beginning inventory on Ashwin 1 (@ Rs. 20 per unit):

   $$\text{Ending Inventory} = 500 \text{ units} \times \text{Rs. 20} = \mathbf{\text{Rs. 10,000}}$$

2. Cost of Goods Sold (COGS) (1,400 units):

   $$\begin{aligned} \text{COGS} &= \text{Total Cost of Goods Available} - \text{Ending Inventory} \\ &= 42,600 - 10,000 = \mathbf{\text{Rs. 32,600}} \end{aligned}$$
   (Verification: From Ashwin 22: 600 @ 25 = 15,000; From Ashwin 8: 800 @ 22 = 17,600; Total = Rs. 32,600).

Part a: Bank Reconciliation Statement

As on 30th Chaitra 2080

Both adjusted balances perfectly agree at Rs. 10,000.

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Part b: Meaning and Types of Receivables [5 Marks]

1. Meaning of Receivable [2 Marks]: Receivables are monetary claims and legal rights to receive cash, goods, or services in the future from customers, debtors, or third parties resulting from credit sales or advances made by the enterprise.

2. Types of Receivables [3 Marks]:

1. Accounts Receivable (Trade Debtors): Oral or open-account claims arising from normal sales of goods or services on credit terms (usually 30–90 days).
2. Notes Receivable: Formal, negotiable legal instruments (promissory notes or bills of exchange) signed by customers specifying principal, maturity date, and designated interest.
3. Other Receivables: Non-trade claims such as interest receivable, loans/advances to employees, insurance claim recoveries, and refundable VAT/tax deposits.

Part a: Machinery Account (Straight Line Method)

Working Notes:

1. Annual Depreciation:
   $$\text{Annual Depreciation} = \frac{\text{Cost} - \text{Salvage Value}}{\text{Useful Life}} = \frac{220,000 - 20,000}{5} = \mathbf{\text{Rs. 40,000 per year}}$$
2. Depreciation for 2078 (Full Year): Rs. 40,000. Closing Book Value = $220,000 - 40,000 = \text{Rs. 180,000}$.
3. Depreciation for 2079 (Full Year): Rs. 40,000. Closing Book Value = $180,000 - 40,000 = \text{Rs. 140,000}$.
4. Sale at end of Ashwin 2080 (6 months of 2080):
   $$\text{Depreciation for 6 months} = 40,000 \times \frac{6}{12} = \mathbf{\text{Rs. 20,000}}$$
   Book Value at Sale = $140,000 - 20,000 = \mathbf{\text{Rs. 120,000}}$. Sale Consideration = $\text{Rs. } 270,000$.
   $$\text{Profit on Sale of Machinery} = 270,000 - 120,000 = \mathbf{\text{Rs. 150,000}} \quad (\text{Transferred to P\&L A/C})$$
5. New Machine (Purchased Ashwin 30, 2080 for Rs. 500,000): Assuming 5-year life with zero salvage or standard 20% SLM rate for 6 months (Kartik 1 to Chaitra 31):
   $$\text{Depreciation (6 months)} = 500,000 \times 20\% \times \frac{6}{12} = \mathbf{\text{Rs. 50,000}}$$
   Closing Book Value = $500,000 - 50,000 = \mathbf{\text{Rs. 450,000}}$.

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In the Books of the Company

Machinery Account

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Part b: Difference Between Capital Expenditure and Revenue Expenditure [5 Marks]

Lease Accounting: Concept, Need, and Importance

1. Meaning of Lease [4 Marks]

Under NFRS 16 (Leases), a lease is a contractual agreement whereby the legal owner of an asset (the lessor) conveys to another party (the lessee) the right to control and use an identified asset for an agreed period of time in exchange for consideration (periodic lease rentals).

Two Main Classifications:

• Operating Lease: A short-term lease where risks and rewards of ownership remain with the lessor (e.g., short-term equipment rental).
• Finance Lease: A lease that transfers substantially all the risks and rewards incidental to legal ownership to the lessee. Under NFRS 16, lessees recognize a Right-of-Use (ROU) Asset and a corresponding Lease Liability on their balance sheet.

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2. Why is Leasing Needed? [3 Marks]

1. Overcoming Capital Constraints: Small and medium enterprises (SMEs) can acquire expensive productive machinery without needing massive upfront capital outlays.
2. Protection Against Rapid Technological Obsolescence: Industries undergoing rapid technological changes (e.g., IT servers, medical scanning equipment) prefer leasing to easily upgrade to state-of-the-art models upon lease expiry.
3. Preservation of Borrowing Capacity: Leasing leaves existing commercial bank credit lines intact for day-to-day working capital needs.

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3. Importance of Leasing for an Organization [3 Marks]

1. 100% Financing Without Down Payment: Unlike bank loans that require a 20%–30% equity margin, leasing frequently finances 100% of the asset’s acquisition value.
2. Tax Shield Benefits: Periodic lease payments are tax-deductible operating expenses (or depreciation on ROU assets plus lease finance charges under NFRS 16), significantly lowering corporate income tax liabilities.
3. Operational Flexibility and Risk Transfer: Disposes of end-of-life residual value risk, which is absorbed by the lessor upon contract termination.
4. Improved Cash Flow Predictability: Fixed periodic rental schedules enable precise budgeting and cash management.

Comprehensive Financial Ratio Computations

1. Preliminary Computations:

• Sales: $\text{Operating Profit} = 10\% \text{ of Sales} = \text{Rs. 100,000} \implies \text{Sales} = \frac{100,000}{0.10} = \mathbf{\text{Rs. 1,000,000}}$
• Current Assets: $\text{Net Working Capital} = \text{Current Assets} - \text{Current Liabilities}$$300,000 = \text{Current Assets} - 200,000 \implies \text{Current Assets} = \mathbf{\text{Rs. 500,000}}$$
• Inventory: Rs. 100,000
• Shareholders’ Equity: $\text{Capital Employed} - \text{Debentures (Long-Term Debt)}$$\text{Shareholders' Equity} = 1,000,000 - 300,000 = \mathbf{\text{Rs. 700,000}}$$

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2. Specific Requirements:

a. Net Profit After Tax (NPAT):

$$\begin{aligned} \text{Operating Profit (EBIT)} &= \text{Rs. 100,000} \\ \text{Less: Income Tax @ 25\%} &= 25\% \times 100,000 = \text{Rs. 25,000} \\ \textbf{Net Profit After Tax} &= 100,000 - 25,000 = \mathbf{\text{Rs. 75,000}} \end{aligned}$$

b. Current Ratio:

$$\text{Current Ratio} = \frac{\text{Current Assets}}{\text{Current Liabilities}} = \frac{500,000}{200,000} = \mathbf{2.5 : 1}$$

c. Debt to Total Capital Ratio:

$$\text{Debt to Total Capital Ratio} = \frac{\text{Debentures (Long-Term Debt)}}{\text{Total Capital Employed}} = \frac{300,000}{1,000,000} = \mathbf{0.30 \text{ or } 30\%}$$

d. Inventory Turnover Ratio:

$$\text{Inventory Turnover Ratio} = \frac{\text{Sales}}{\text{Inventory}} = \frac{1,000,000}{100,000} = \mathbf{10 \text{ times}}$$

(Or based on COGS [$1,000,000 - 100,000 = 900,000$]: $\frac{900,000}{100,000} = \mathbf{9 \text{ times}}$).

e. Average Collection Period (ACP):

$$\text{ACP} = \frac{\text{Accounts Receivable}}{\text{Credit Sales}} \times 365 = \frac{80,000}{1,000,000} \times 365 = \mathbf{29.2 \text{ days}}$$

f. Return on Shareholders’ Equity (ROE):

$$\text{ROE} = \frac{\text{Net Profit After Tax}}{\text{Shareholders' Equity}} \times 100\% = \frac{75,000}{700,000} \times 100\% = \mathbf{10.71\%}$$

g. Net Profit Margin:

$$\text{Net Profit Margin} = \frac{\text{Net Profit After Tax}}{\text{Sales}} \times 100\% = \frac{75,000}{1,000,000} \times 100\% = \mathbf{7.5\%}$$

Comprehensive Accounting Cycle Solution

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Part a: Journal Entries [6 Marks]

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Part b: T-Accounts (Ledgers) [2 Marks]

1. Accounts Receivable Account

2. Accounts Payable Account

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Part c: Triple Column Cash Book [4 Marks]

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Part d: Adjusted Trial Balance [3 Marks]

Incorporating Adjustments:

1. Closing Stock: Rs. 20,000 (Asset: Debit).
2. Outstanding Salary: Rs. 4,000 (Expense: +4,000 to Salary => Total Rs. 40,000; Liability: Credit Rs. 4,000).
3. Insurance Expired: Rs. 8,000 (Insurance Expense Dr. Rs. 8,000; Prepaid Insurance decreases to $12,000 - 8,000 = \text{Rs. 4,000}$).

In the Books of the Company

Statement of Cash Flows for the Year Ended Chaitra 30, 2080 (Direct Method)

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Working Notes:

1. Cash Receipts from Customers:

   $$\begin{aligned} \text{Cash Collections} &= \text{Sales Revenue} + \text{Opening Accounts Receivable} - \text{Closing Accounts Receivable} \\ &= 700,000 + 60,000 - 40,000 = \mathbf{\text{Rs. 720,000}} \end{aligned}$$

2. Cash Paid to Suppliers:

   $$\begin{aligned} \text{Cost of Goods Sold (COGS)} &= \text{Rs. 400,000} \\ \text{Purchases} &= \text{COGS} + \text{Closing Inventory} - \text{Opening Inventory} \\ &= 400,000 + 30,000 - 40,000 = \text{Rs. 390,000} \\ \text{Cash Paid to Suppliers} &= \text{Purchases} + \text{Opening A/P} - \text{Closing A/P} \\ &= 390,000 + 30,000 - 20,000 = \mathbf{\text{Rs. 400,000}} \end{aligned}$$

3. Cash Paid for Operating Expenses & Salaries:

   $$\begin{aligned} \text{Cash Paid} &= \text{Office Rent, Rates \& Salaries} + \text{Opening Outstanding Salaries} - \text{Closing Outstanding Salaries} \\ &= 77,000 + 10,000 - 5,000 = \mathbf{\text{Rs. 82,000}} \end{aligned}$$

4. Tax Paid:

   $$\begin{aligned} \text{Tax Paid} &= \text{Opening Provision} + \text{Current Provision} - \text{Closing Provision} \\ &= 30,000 + 20,000 - 20,000 = \mathbf{\text{Rs. 30,000}} \end{aligned}$$

5. Property, Plant & Equipment (PPE) Account:

   $$\begin{aligned} \text{Opening Net PPE} &= \text{Rs. 350,000} \\ \text{Less: Depreciation} &= \text{Rs. (75,000)} \\ \text{Less: Book Value of Plant Sold} &= \text{Rs. (30,000)} \\ \text{Carrying Balance before Additions} &= \text{Rs. 245,000} \\ \text{Closing Net PPE} &= \text{Rs. 500,000} \\ \textbf{Purchase of PPE (Balancing figure)} &= 500,000 - 245,000 = \mathbf{\text{Rs. 255,000}} \\ \textbf{Sale Proceeds of Plant} &= \text{Book Value } 30,000 + \text{Profit } 12,000 = \mathbf{\text{Rs. 42,000}} \end{aligned}$$

6. Dividend Paid:

   $$\begin{aligned} \text{Dividend Paid} &= \text{Opening Provision} + \text{Current Provision} - \text{Closing Provision} \\ &= 20,000 + 20,000 - 30,000 = \mathbf{\text{Rs. 10,000}} \end{aligned}$$

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Cash Flow Statement

Verification: $(65,000 \text{ increase} = 115,000 - 50,000)$ matches the combined Cash at Bank and Marketable Securities balance.

Accounting Information: Concept, Users, and Decision Needs

1. Concept of Accounting Information [3 Marks]

Accounting information is a formalized, structured economic data set generated by an enterprise’s accounting information system (AIS). It quantifies the financial consequences of business events, measuring economic resources, debts, performance, and cash flows.

To be effective for decision-making, accounting information must possess key qualitative characteristics under the NFRS Conceptual Framework:

• Relevance: Capable of making a difference in economic decisions through predictive or confirmatory value.
• Faithful Representation: Complete, neutral, and free from material error.
• Comparability, Verifiability, Timeliness, and Understandability.

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2. Users of Accounting Information and Their Specific Needs [12 Marks]

Accounting users are classified into two broad categories: Internal Users and External Users.

A. Internal Users (Managerial Decision-Makers)

1. Board of Directors and Top Executives (CEO, CFO):
   • Information Needs: High-level strategic reports, return on investment (ROI), return on equity (ROE), segment profitability, and long-term liquidity forecasts.
   • Decisions: Formulating corporate strategies, allocating capital budgets, deciding mergers/acquisitions, and determining dividend payout policies.
2. Departmental and Operational Managers:
   • Information Needs: Departmental cost variances, unit manufacturing costs, sales volumes by region, and inventory levels.
   • Decisions: Controlling operational waste, pricing individual products, setting sales team quotas, and managing supplier contracts.
3. Internal Audit and Risk Governance Officers:
   • Information Needs: Ledger transaction logs, cash disbursement authorizations, and bank reconciliation statements.
   • Decisions: Assessing internal control effectiveness, preventing misappropriation, and ensuring compliance with operational policies.

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B. External Users (External Stakeholders)

1. Existing Shareholders and Potential Investors:
   • Information Needs: Historical earnings per share (EPS), dividend yield, price-earnings (P/E) ratio, and net asset value (NAV).
   • Decisions: Deciding whether to buy, hold, or sell equity shares in the capital market.
2. Trade Suppliers and Short-Term Creditors:
   • Information Needs: Working capital adequacy, Current Ratio, Quick Ratio, and trade payable turnover.
   • Decisions: Determining whether to sell goods on credit, establishing credit limits, and defining payment credit periods (e.g., 30 or 60 days).
3. Commercial Banks and Long-Term Financiers (Debenture Holders):
   • Information Needs: Debt-to-Equity ratio, Interest Coverage Ratio, debt service coverage, and asset mortgage collateral values.
   • Decisions: Approving term loan applications, setting interest risk premiums, and monitoring covenant compliance.
4. Employees and Trade Unions:
   • Information Needs: Operating net profits, gross value added, and retirement/gratuity fund solvency.
   • Decisions: Negotiating annual salary increments, productivity bonuses under the Nepal Labor Act 2074, and assessing employment stability.
5. Tax and Regulatory Authorities (Inland Revenue Department, SEBON, OCR):
   • Information Needs: Audited Statement of Profit or Loss, tax depreciation schedules, disallowed expense adjustments, and corporate social responsibility (CSR) accounts.
   • Decisions: Assessing corporate income tax, verifying VAT/TDS withholdings, and monitoring adherence to securities market listing regulations.
6. Customers and Society:
   • Information Needs: Financial stability to fulfill long-term warranties, continuous supply capability, and environmental compliance data.
   • Decisions: Entering into multi-year supply contracts and assessing corporate citizenship.