Category: CBSE Notes

By going through these CBSE Class 12 Accountancy Notes Chapter 10 Accounting Ratios, students can recall all the concepts quickly.

Accounting Ratios Notes Class 12 Accountancy Chapter 10

As we know that, the financial statements are prepared to meet the common information needs of users of information. Financial Statements include:

1. Income Statement or Profit & Loss A/c
2. Position Statement or Balance Sheet
3. Cash Flow Statement.

→ “The first and most important function of financial statements is, of course, to serve those who control and direct the business, to the end of securing the profits and maintaining a sound financial condition.” -Harry Guthman

The financial statement analysis is of much interest to a number of groups of persons. This analysis is done through the various tools

• Comparative Statement
• Common Size Statements
• Trend Analysis
• Ratio Analysis etc.

These tools of analysis help to understand the financial state of a business in a better manner. The analysis comprises resolving the statements by breaking them into simpler statements by a process of rearranging and regrouping different items. Thus, analysis is the mental process of understanding the terms of such statements and forming opinions or inferences about the financial health, profitability, efficiency, and such other aspects of the company.

Meaning of Ratio-Analysis:
Ratio analysis is the most important and popular tool of financial analysis. It is a combination of two terms ‘ratio’ and ‘analysis. A ‘ratio’ is an arithmetic expression of the relationship between two variables. Two variables must be significantly related to producing meaningful results. ‘Accounting Ratios’ are computed by taking data from the financial statements of business entities and express the relationship between two financial variables from the financial statements.

In other words, the Accounting ratio is the arithmetical relationship between two accounting variables but they assume significance if these variables have cause and effect relationships.

The accounting ratio provides a quantitative relationship that the analyst may use to make a qualitative judgment about various aspects of the financial position and performance of an enterprise.

→ “The term accounting ratio is used to describe the significant relationship which exists between>figures shown in a balance sheet, in a profit and loss account, in a budgetary control system or in any part of the accounting organization.” – J. Betty

Accounting Ratios express the relationship between two financial variables of the financial statements. They may be expressed in either of the following ways.

→ Pure or in Proportion: In this, the relationship between two items is directly expressed in proportion.

→ Percentage: In this, a quotient obtained by dividing one figure by another is multiplied by 100 and it becomes the ‘percentage’ form of expression.

→ Time: It is expressed a number of times a particular figure is compared to another figure.

→ Fraction: It is expressed infraction. For example, net profit is 1/4th of sales.

Objectives of Ratio Analysis

1. To simplify the comprehension of financial statements and to summarise a large number of figures.
2. To highlight the changes in the financial position of the business.
3. To facilitate intra-firm comparison of the performance of the different divisions of the firm.
4. To facilitate inter-firm comparison.
5. To facilitate planning and control and thus decision-making.

Advantages of Ratio Analysis:
1. Useful in the analysis of financial statements:
It is easy to understand the financial position of a business enterprise in respect of short-term solvency, capital structure position, etc; with the help of various ratios.

2. Useful in judging the operating efficiency of business:
Ratio enables the users of financial information to determine the operating efficiency of business firms by relating the profit figures to the capital employed for a given period.

3. Useful in simplifying accounting figures:
“Financial Ratios are useful because they summarise briefly the results of detailed and complicated computation.” Birman and Dribin Ratios help in simplifying complex accounting figures and bring out their relationships. They help to summarize the financial information effectively.

4. Useful in Inter-firm and Intra-firm comparison:
With the help of ratios, a firm can compare its performance with that of other firms and of industry in general.
The ratio also helps firm to compare the performance of different units belonging to the same firm. Even the progress of a firm from year to year cannot be measured without the help of ratios.

5. Useful in Comparative analysis:
The ratios need not be calculated for one year only. When many years figures are kept side by side, they help a great deal in exploring the trend visible in the business.

6. Useful in locating the weak spots (problem areas) of the business:
Ratios help businesses in identifying the problem areas as well as the bright areas of the business. Problem areas would need more attention and bright areas will need polishing to have still better results.

7. Useful in SWOT (Strength-Weakness-Opportunity-Threat) analysis:
Ratios help a great deal in explaining the changes occurring in the business. The information of change helps the management a great deal in understanding the current threats and opportunities and allows the business to do its own SWOT analysis.

Limitations of Ratio Analysis
1. Ratio ignores qualitative factors: The ratios are obtained from the figures expressed in money. In this way, qualitative factors, which may be important, are ignored.

2. Defective accounting information: The ratios are calculated from the accounting data in the financial statements. It means that defective information would give the wrong ratio.

3. Ignores Price-Level Changes: Change in price level affects the comparability of ratios. But no consideration is given to price level changes in the accounting variables from which ratios are computed. This really affects the utility of ratios.

4. Change in accounting procedures: A comparison of results of two firms becomes difficult when we find that these firms are using different procedures in respect of certain items.

5. Variations are general operating conditions: While interpreting the results based on ratio analysis, all business enterprises have to work within given general economic conditions, conditions of the industry in which the firms operate, and the position of individual companies within the industry.

6. Means and not the end: Ratios are means to an end rather than the end itself.

7. Lack of ability to resolve problems: The ratios have a lack of ability to solve the problems arising due course of business.

8. Lack of standardized definitions: There is a lack of standardized definitions of various concepts used in ratio analysis. There are only generally accepted forms available in the literature.

9. Lack of universally accepted standard levels: There is no universal yardstick that specifies the level of ratio which is acceptable.

10. Ratio based on unrelated figures: A ratio may be calculated for unrelated figures which would essentially be a meaningless exercise.
Types of Ratios

On the basis of financial statements:
1. Income Statement Ratios: A ratio of two variables from the income statement is known as Income Statement Ratio. For example, the ratio of gross profit to sales known as gross profit ratio is calculated using both figures from the income statement.

2. Balance Sheet Ratios: In case both variables are from the balance sheet, it is classified as Balance Sheet Ratios. For example, the ratio of current assets to current liabilities known as the current ratio is calculated using both figures from the balance sheet.

3. Composite Ratios: If a ratio is computed with one variable from the income statement and another variable from the balance sheet, it is called a composite ratio. For example, the ratio of credit sales to debtors and bills receivable known as debtors turnover ratio is calculated using one figure from the income statement (credit sales) and another figure from the balance sheet (Debtors and Bills receivable).

Ratios, as tools for establishing true profitability and financial position of a business, maybe classified as:
1. Liquidity Ratios: It measures the short-term solvency i.e. the firm’s ability to pay its current dues.

2. Solvency Ratios: These ratios are computed to judge the ability of a firm to pay off its long-term liabilities. It shows the proportion of the fund which is provided by outside creditors in comparison to owners.

3. Activity (or Turnover) Ratios: Activity ratios are used to indicate the efficiency with which assets such as stock, debtors, fixed assets, etc. of the firm are being utilized. These ratios are also known as a Turnover ratio because they indicate the speed with which assets are being converted or turned over into sales.

4. Profitability Ratios: The efficiency of a business is measured in terms of profits. Thus, profitability ratios are computed to measures the efficiency of a business.

A Relook at the Financial Statements
Position Statements

Income Statements

1. Liquidity Ratio
The liquidity ratios are used to determine the short-term solvency position of a business enterprise. The term liquidity means the conversion of the assets into cash without much loss. The objective is to find out the ability of the business enterprise to meet short-term liabilities.

The ratio included in this category is the Current Ratio and Liquid Ratio.
1. Current Ratio:
The current ratio is the proportion of current assets to current liabilities.
Current Ratio = \(\frac{\text { Current Assets }}{\text { Current Liabilities }}\)

Current Assets: which mean the assets which are held for their conversion into cash within a year. Tire following are the examples of Current Assets:

• Cash Balances.
• Marketable Securities
• Bank Balance Debtors
• Bills Receivable
• Stock
• Prepaid Expenses etc.
• Short term loans Accrued Income

Current Liabilities: which mean the liabilities which are expected to be matured within a year. The following are the examples of Current Liabilities:

• Creditors
• Provision for tax
• Bank overdraft
• Unclaimed dividend
• Bills Payable
• Income-received in
• Short Term Loans
• advance etc.

Significance: An ideal ratio is 2:1. A higher ratio indicates poor investment policies of management and poor inventory control while a low ratio indicates lack of liquidity and shortage of working capital. The current ratio, thus, throws good light on the short-term financial position and policy of a firm.

2. Liquid Ratio or Quick Ratio
It is the ratio of quick (or liquid) assets to current liabilities.

Quick Ratio = \(\frac{\text { Quick Assets }}{\text { Current Liabilities }}\)

Quick Assets (or Liquid Assets) = Current Assets – Stock – Prepaid Expenses.

Tire objective of computing this ratio is to measure the ability of the firm to meet its short-term obligation as and when due without relying upon the realization of stock. Significance: A quick ratio of 1: 1 is supposed to be good for the reason that it indicates the availability of funds to meet the liabilities 100%.

If this ratio is more than 1: 1 it can be said that the financial position of the business enterprise is sound and good. On the other hand, if the ratio is less than 1:1 i.e. liquid assets are less than current liabilities, the financial position of the concern shall be deemed to be unsound and additional cash will have to be provided for the payment of current liabilities.

2. Solvency Ratios
This ratio shows the long-term financial solvency and measures the enterprise’s ability to pay the interest regularly and to repay the principal on maturity or in pre-determined installments at due dates. The following ratios are normally computed for solvency analysis,
(a) Debt equity ratio;
(b) Total assets to debt ratio
(c) Proprietary ratio
(d) Interest Coverage ratio

(a) Debt Equity Ratio: The debt-equity ratio is worked out to ascertain the soundness of the long-term financial policies of the firm. This ratio establishes a relationship between long-term debt and shareholders’ funds.
Debt-Equity Ratio = \(\frac{\text { Long term Debts }}{\text { Shareholder’s Funds }}\)
Long term Debts = Debentures + Long Term Loans

Shareholder’s Funds = Preference Share Capital + Equity Share Capital + General Reserve + Capital Reserves + Securities Premium balances + Credit balances of Profit & Loss A/c – Preliminary Expenses (Fictitious Assets) – Share Issue Expenses- Discount on Issue of Share/Debenture – Underwriting Commission
Or
Shareholder’s Fund = Fixed Assets + Current Assets – Current Liabilities

Shareholder’s Fund is alternatively termed as internal funds and long-term debts are termed as external funds as well. Hence debt-equity ratio is computed as
Debt equity ratio = External Funds/Internal Funds

Significance: The debt-equity ratio of 2:1 is generally accepted as ideal. A low ratio is considered favorable from an external investor’s point of view as they get more security. On the other hand, a high debt-equity ratio indicates that the claims of the creditors are greater than those of the owners.

(b) Total Assets to Debt Ratio: This ratio shows the relationship between total assets and the long-term debts of the firms.
Total Assets to Debt Ratio = \(\frac{\text { Total Assets }}{\text { Long Term Debts }}\)

Total Assets = Fixed Assets + Current Assets – Fictitious Assets Significance: This ratio measures the proportion of total assets funded by long-term debt. Tire higher the ratio, the lesser role is played by loaned funds in financing the assets engaged in profit-generating activities of an organization and vice-versa.

(c) Proprietary Ratio: The objective of computing the Proprietary Ratio is to establish the relationship between proprietor’s funds and total assets.

Total Assets: Fixed Assets + Current Assets – Fictitious Assets.

Significance: Proprietary ratio attempts to indicate the part of total assets funded through equity. The higher the ratio, the more profitable it is for the creditors and the management will have to depend less on outside funds. If the ratio is low, the creditors can be suspicious about the repayment of their debt.

(d) Interest Coverage Ratio: The objective of this ratio is to measure the debt servicing capacity of a business firm in respect of fixed interest on the long-term debts. It also shows whether the firm has sufficient income to pay interest on maturity dates.

Interest Coverage Ratio = \(\frac{\text { Net Profit before Interest and Tax }}{\text { Interest on long term debts }}\)

Significance: It reveals the number of times interest is covered by the profits available for interest. A higher ratio ensures the safety of return on the amount of debt and it also ensures the availability of surplus for shareholders.

3. Turnover (or Activity) Ratios:
These ratios measure the effectiveness with which a firm uses its available resources. These ratios are called ‘Turnover Ratios’ since they indicate the speed with which the resources are being turned into sales. These ratios, thus express the relationship between the cost of goods sold or sales and various assets and are expressed in a number of times.

Tire following are the important ratios of this category:

1. Stock Turnover Ratio
2. Debtors Turnover Ratio
3. Creditors Turnover Ratio
4. Working Capital Turnover Ratio
5. Fixed Assets Turnover Ratio
6. Current Assets Turnover Ratio

1. Stock or Inventory Turnover Ratio: This ratio establishes a relationship between the cost of goods sold and average inventory. The objective of computing this ratio is to determine the efficiency in which the inventory is utilized.
Cost of Goods Sold
Stock Turnover Ratio = \(\frac{\text { Cost of Goods Sold }}{\text { Average Stock }}\)

Cost of Goods Sold = Sales – Gross Profit
OR = Opening Stock + Purchases + Direct Expenses – Closing Stock

Average Stock = \(\frac{\text { Opening Stock + Closing Stock }}{2}\)

If the figure of Average Stock cannot be ascertained due to the absence of the figure of opening stock, the figure of closing stock may be used as average stock.

Significance: This ratio shows the rate at which stocks are converted into sales. The higher the ratio, the better it is for the business, since it means that stock is being quickly converted into sales. Industries which has a very high stock turnover ratio may be operating with a low margin of profit and vice-versa.

2. Debtors Turnover Ratio or Receivable Turnover Ratio: This ratio is computed to establishes the relationship between net credit sales and average debtors (or receivables) of the year. It shows the rate at which cash is generated by the turnover of debtors.

Debtors Turnover Ratio = \(\frac{\text { Net Credit Sales }}{\text { Average Accounts Receivable }}\)

Average Accounts Receivable:
Net Credit Sales = Total Sales – Cash Sales Account Receivables = Debtors + Bills Receivable
Average Accounts Receivables = \(\frac{\text { Opening Debtors and } \mathrm{B} / \mathrm{R}+\text { Closing Debtors and } \mathrm{B} / \mathrm{R}}{2}\)

It is important to note that doubtful debts are not deducted from total debtors.

In case details regarding opening and closing receivables and credit sales are not given, the ratio may be worked out as follows:

Debtor’s Turnover Ratio = \(\frac{\text { TotalSales }}{\text { Accounts Receivable }}\)

Significance: This ratio indicates the number of times the receivable are turned over in a year in relation to sales. It shows, how quickly debtors are converted into cash. The higher the ratio, the better it is, since it means speedier collection and lesser amount being blocked up in debtors and vice versa.

3. Creditors Turnover Ratio or Payable Turnover Ratio:
Creditors Turnover Ratio indicates the pattern of payment of accounts payable. As accounts payable arise on account of credit purchases, it expresses the relationship between credit purchases and accounts payable.

Net Credit Purchases = Total Purchases – Cash Purchases Accounts Payable = Creditors + Bills Payable Average

Accounts Payable = \(\frac{\text { Opening Creditors and } \mathrm{B} / \mathrm{P}+\text { Closing Creditors and } \mathrm{B} / \mathrm{P}}{2}\)

In case details regarding opening creditors and closing creditors and credit purchases are not given, the ratio may be worked out as follows

Creditor’s Turnover Ratio = \(\frac{\text { TotalPurchases }}{\text { Accounts Payable }}\)

Significance: It shows the average payment period. By comparing it with the credit period allowed by the suppliers, the conclusion may be drawn. A lower ratio means the credit allowed by the supplier is not enjoyed by the business. A higher ratio means a delayed payment to the supplier which is not a very good policy as it may affect the reputation of the business.

Investment (Net Assets) Turnover Ratio:
Investment creates assets. These ratios study the velocity of utilization of long-term funds. It throws light on the rotation of capital employed in the business. Efficient utilization means better liquidity and ‘ profitability.
Net Sales
Investment Turnover Ratio = \(\frac{\text { Net Sales }}{\text { Capital Employed }}\)

Net Sales = Total Sales – Sales Return
Capital Employed= Fixed Assets + Working Capital

4. Working Capital Turnover Ratio: This ratio indicates
whether the working capital has been effectively utilized or not in making sales. In fact, in the short run, it is the current assets and current liabilities which play a major role. Careful handling of current assets and current liabilities will mean a reduction in the amount of capital employed thereby improving turnover.

Working Capital Turnover Ratio = \(\frac{\text { Net Sales }}{\text { Working Capital }}\)

Working Capital = Current Assets – Current Liabilities

Significance: A high working capital turnover ratio show the efficient utilization of working capital in generating sales. A low ratio, on the other hand, may indicate an excess of working capital or working capital has not been utilized efficiently.

5. Fixed Assets Turnover Ratio: This ratio established the relationship of Fixed assets with sales.
Fixed Assets Turnover Ratio = \(\frac{\text { Net Sales }}{\text { Net Fixed Assets }}\)

6. Current Assets Turnover Ratio: This ratio established the relationship of current assets with sales.
Current Assets Turnover Ratio = \(\frac{\text { Net Sales }}{\text { Net Current Assets }}\)

4. Profitability Ratios: As we know that the efficiency in business is measured by profitability. Thus, profitability ratios are computed to measures the efficiency of the business. Profit earning capacity may be expressed in the form of sales.

Some important Profitability Ratios are following:

1. Gross Profit Ratio
2. Operating Ratio
3. Net Profit Ratio
4. Return on Investment Ratio
5. Earnings per Share Ratio
6. Dividend per Share
7. Book Value per Share
8. Price Earning Ratio

1. Gross Profit Ratio: The main objective of computing this ratio is to determine the efficiency with which production and/or purchase operations are carried on. It establishes a relationship of gross profit on sales of a firm, which is calculated in percentage.
Gross Profit Ratio = \(\frac{\text { Gross Profit }}{\text { Net Sales }}\) × 100

Gross Profit = Net Sales – Cost of Goods Sold
Cost of Goods Sold = Opening Stock + Purchases + Direct Expenses – Closing Stock

Net Sales = Total Sales – Sales Return

Significance: It is a reliable guide to the adequacy of selling price and efficiency of trading activities. No ideal ratio is fixed but normally a higher ratio is always considered good so as to cover not only the remaining costs but also to allow proper returns to the owner.

2. Operating Ratio: This ratio establishes the relationship between the dying cost of goods sold plus other operating expenses to net sales. The lower percentage of operating ratio, the higher the net profit ratio.
Operating Ratio = \(\frac{\text { Cost of Goods Sold + Operating Expenses }}{\text { Net Sales }}\) × 100
OR
Operating Ratio = \(\frac{\text { Operating Cost }}{\text { Net Sales }}\) × 100

Operating Expenses = Office or Financial Expenses + Administrative

Expenses + Selling and Distribution Expenses + Discount + Bad Debts + Interest on Short-term Loans
Cost of Goods Sold = Sales – Gross Profit

Significance: The operating ratio is the yardstick to measure the efficiency with which a business is operated. It shows the percentage of net sales that is absorbed by the cost of goods sold and operating expenses. A high operating ratio is considered unfavorable because it leaves a smaller margin of profit to meet non-operating expenses but, a lower operating ratio is considered better.

3. Operating Profit Ratio: It is calculated to reveal operating margin. It may be computed directly or as a residual of the operating ratio.

Operating Profit Ratio = 100 – Operating Ratio

Alternatively,
Operating Profit Ratio = \(\frac{\text { Operating Profit }}{\text { Sales }}\) × 100
Operating Profit = Sales – Operating Cost

Significance: Operating profit ratio helps to analyze the performance of the business and throws light on the operational efficiency of the business. It is very useful for inter-firm as well as intra-firm comparison.

4. Net Profit Ratio: Net profit ratio is based on the all-inclusive concept of profit. It relates sales to net profit after operational as well as non-operational expenses and income.

Net Profit Ratio = \(\frac{\text { Net Profit }}{\text { Sales }}\) × 100
Net Profit is taken after income tax.

Significance: It is a measure of net profit margin in relation to sales. It expresses the overall efficiency of the business.

A high net profit ratio would enable the firm

1. to pay higher dividends,
2. to face bad economic conditions
3. to create adequate general reserves. A low net profit ratio has opposite results.

Overall Profitability Ratios
The overall profitability ratio establishes the relationship of profits to the number of funds employed.
Overall Profitability Ratio = \(\frac{\text { Profit }}{\text { Investment of Funds }}\) × 100

(a) Investment refers to Equity Shareholder’s Fund: Profits are considered after preference dividend. The investment includes Equity Share Capital + Reserves and Surplus – Fictitious Assets.

(b) Investment refers to Shareholder’s Fund: Profit is considered before the dividend. The investment includes Equity Share Capital + Preference Share Capital + Reserves and Surplus – Fictitious Assets.

(c) Investment refers to Long-Term Fund Employed: Profit before tax and interest is compared with capital employed to calculate return on capital employed.

The investment includes Equity Share Capital + Preference Share Capital + Long Term Funds +Reseryes and Surplus – Fictitious Assets.

5. Return on Shareholder’s Fund: This ratio reflects the return on the shareholder’s fund that the business enterprise was able to earn.

Return on Shareholder’s Fund = \(\frac{\text { Profit after appropriation }(\text { except Preference dividend })}{(\text { Share Capital + Reserves \& Surplus) }}\) × 100

Significance: The proprietors or shareholders are primarily interested in the profit-earning capacity of the business in which their funds are invested. If the profits earned by the firm are insufficient, it will fail to attract funds for expanding operations since additional capital will not be available.

6. Return on Equity Shareholder’s Fund: It is computed to draw an idea about the return available to equity shareholders.

Return on Equity Capital = \(\frac{\text { Profit available for Equity Shareholder }}{\text { Equity Share Capital }}\)

Profit available for Equity Shareholder

7. Return on Capital Employed or Investment (ROCE or ROI): This ratio, also known as return on investment, is a basic ratio of profitability. It is calculated by establishing a relationship between the profit earned and the capital employed to earn the profits. It is therefore an indicator of the earning capacity of the capital invested in the business.

Return on Capital Employed or Return on Investment = \(\frac{\text { Profit before Interest and Tax }}{\text { Capital Employed }}\) × 100

Capital Employed = Fixed Assets + Working capital = Long Term Funds + Share Capital + Reserves & Surplus – Fictitious Assets (Miscellaneous Expenditure)

Significance: It measures the return on funds employed by the business. It reveals the efficiency of the business in the utilization of funds invested to it by shareholders, debenture holders, and long-term liabilities. For inter-firm comparison, return on capital employed, which reveals overall utilization of funds and return on capital employed, is considered better measures of profitability as compared to return on shareholder funds.

8. Earnings Per Share
EPS = \(\frac{\text { Profit available for equity Shareholders }}{\text { No. of Equity Shares }}\)

9. Book Value Per Share = \(\frac{\text { Equity Shareholder’s Funds }}{\text { No. of Equity Shares }}\)

10. Dividend Per Share = \(\frac{\text { Total Equity Dividend }}{\text { No. of Equity Shares }}\)

11. Price Earning Ratio = \(\frac{\text { Market Price of a Share }}{\text { Earning per Share }}\)

Important Formulas

Liquidity Ratios:
1. Current Ratio = \(\frac{\text { Current Assets }}{\text { Current Liabilities }}\)

2. Quick Ratio
Quick Ratio = \(\frac{\text { Quick Assets }}{\text { Current Liabilities }}\)

Quick Assets = Current Assets – Stock – Prepaid Expenses

Solvency Ratio
1. Debt Equity Ratio = \(\frac{\text { Long Term Debts }}{\text { Shareholder’s Fund }}\)

Shareholder’s Fund = Pref. Share capital + Eq. Share cap. + Gen. Reserve + Cap. Res. + Securities Premium balance + Credit balance of P & L A/c – Preliminary Expenses (Fictitious Assets) – Share Issue Expenses – Discount on issue of Share/Debenture – Underwriting Commission
OR
= Fixed Assets + Current Assets – Current Liabilities

2. Total Assets to Debt Ratio
Total Assets to Debt Ratio = \(\frac{\text { Total Assets }}{\text { Long Term Debts }}\)
Total Assets = Fixed Assets + Current Assets – Fictictious Assets

3. Proprietary Ratio
Proprietory Ratio = \(\frac{\text { Shareholder’s Fund }}{\text { Total Assets }}\)

4. Interest Coverage Ratio Interest Coverage Ratio
Interest Coverage Ratio Interest Coverage Ratio = \(\frac{\text { Net Profit before Interest and Tax }}{\text { Interest on long term debts }}\)

Turnover Ratios
1. Stock Turnover Ratio
Stock Turnover Ratio = \(\frac{\text { Cost of Goods Sold }}{\text { Average Stock }}\)

Cost of Goods Sold = Sales – Gross Profit OR = Opening Stock + Purchases + Direct Expenses – Closing Stock
Opening Stock + Closing Stock

Average Stock = \(\frac{\text { Opening Stock + Closing Stock }}{2}\)

2. Debtors Turnover Ratio
Debtors Turnover Ratio = \(\frac{\text { Net Credit Sales }}{\text { Average Account Receivables }}\)

Average A/c Receivable = \(\frac{\text { Opening Debtor and } \mathrm{B} / \mathrm{R}+\text { Closing Debtor and } \mathrm{B} / \mathrm{R}}{2}\)

3. Creditor Turnover Ratio
Creditor Turnover Ratio = \(\frac{\text { Net Credit Purchases }}{\text { Average Account Payable }}\)

Average Account Payable
Average A/c Payable = \(\frac{\text { Opening Creditors and } \mathrm{B} / \mathrm{P}+\text { Closing Creditors and } \mathrm{B} / \mathrm{P}}{2}\)

4. Investment Turnover Ratio
Investment Turnover Ratio = \(\frac{\text { Net Sales }}{\text { Capital Employed }}\)
Capital Employed = Fixed Assets + Working Capital

5. Working Capital Turnover Ratio
Working Capital Turnover Ratio = \(\frac{\text { Net Sales }}{\text { Working Capital }}\)
Working Capital = Current Assets – Current Liabilities

6. Fixed Assets Turnover Ratio
Fixed Assets Turnover Ratio = \(\frac{\text { Net Sales }}{\text { Net Fixed Assets }}\)

7. Current Assets Turnover Ratio
Current Assets Turnover Ratio = \(\frac{\text { Net Sales }}{\text { Net Current Assets }}\)

Profitability Ratio
1. Gross Profit Ratio

Gross Profit Ratio = \(\frac{\text { Gross Profit }}{\text { Net Sales }}\) × 100
Gross Profit = Net Sales – Cost of Goods Sold

2. Operating Ratio
Operating Ratio = \(\frac{\text { Cost of Goods Sold + Operating Expenses }}{\text { Net Sales }}\) × 100
Or
= \(\frac{\text { Operating Cost }}{\text { Net Sales }}\) × 100

Operating Expenses = Office and Financial Expenses + Administrative Expenses+Selling and Distribution Expenses + Discount + Bad debts + Interest on Short Term Loans.

3. Operating Profit Ratio
Operating Profit Ratio = 100 – Operating Ratio
OR Operating Profit Ratio= \(\frac{\text { Operating Profit }}{\text { Sales }}\)× 100
Operating Profit = Sales – Operating Cost 4. Net Profit Ratio

4. Net Profit Ratio
Net Profit Ratio = \(\frac{\text { Net Profit }}{\text { Sales }}\) × 100

5. Overall Profitability Ratios
Overall Profitablility Ratio = \(\frac{\text { Profit }}{\text { Investment of Funds }}\) × 100

6. Return on Shareholders Fund
Return on Shareholders Fund = \(\frac{\text { Profit after appropriation (except Preference dividend) }}{(\text { Share Capital + Reserve and Surplus) }}\) × 100

7. Return on Equity Shareholders Fund
Return on Equity Capital = \(\frac{\text { Profit available for Equity Shareholder }}{\text { Equity Share Capital }}\) × 100

8. Return on Capital Employed or Investment (ROCE or ROI)
Return on Capital Employed Or Return on Investment = \(\frac{\text { Profit before Investment and Tax }}{\text { Capital Employed }}\) × 100

Capital Employed = Fixed Assets + Working Capital
= Long terms Funds + Share Capital + Reserve and Surplus – Fictitious Assets (Miscellaneous Expenditure)

9. Earnings Per Share (EPS)
EPS = \(\frac{\text { Profit available for Equity Shareholders }}{\text { No. of Equity Shares }}\)

10. Book Value Per Share
Book Value Per Share = \(\frac{\text { Equity Shareholders’s Funds }}{\text { No. of Equity Shares }}\)

11. Dividend Per Share
Dividend Per Share = \(\frac{\text { Total Equity Dividend }}{\text { No. of Equity Shares }}\)

12. Price Earning Ratio
Price Earning tio = \(\frac{\text { Market Price of a Share }}{\text { Earning Per Share }}\)

By going through these CBSE Class 12 Accountancy Notes Chapter 9 Analysis of Financial Statements, students can recall all the concepts quickly.

Analysis of Financial Statements Notes Class 12 Accountancy Chapter 9

Meaning of Financial Statement Analysis: The process of critical examination of the financial information contained in the financial statements in order to understand and make decisions regarding the operations of the firm is called the ‘Financial Statement Analysis’.

Basically, it is a study of the relationship among various financial facts and figures as given in a set of financial statements.

→ “Financial statement analysis is designed to indicate the strength and weaknesses of business undertaking through the establishment of certain crucial relationship by regrouping and analysis of figures contained in financial statements.” —J.N. Myres

→ “Financial statement analysis is a judgemental process which aims to estimate current and past financial position and the results of the operations of enterprises with the primary objective of determining the best possible estimated and predictions about future conditions.” —Bernstein

Thus, Analysis of Financial Statements is the process of identifying the financial strengths and weaknesses of the firm by properly establishing a relationship between the items of the Balance Sheet and Income Statement.

The term ‘Financial Analysis’ includes both ‘analysis and interpretation’. The term analysis means simplification of financial data by the methodical classification given in the financial statements. Interpretation means explaining the meaning and significance of the data so simplified.

Significance of Financial Analysis: As we know that Financial Analysis is the process of identifying the financial strengths and weaknesses of the firm by properly establishing relationships between the items of the Balance Sheet and the Profit and Loss Account.

It can be undertaken by the management of the firm, or by parties outside the firm like Creditors, Lenders, Investors, Unions, etc. The nature and technique used for analysis will differ depending on the interests of the analysis.

Financial Analysis is useful and significant to different users in the following way:
1. To The Finance Manager: Financial Analysis focuses on the facts and relationships related to managerial performance, corporate efficiency, financial strengths and weaknesses, and credit worthiness of the company. The Finance Manager has to make rational decisions for the firm, so he must be well equipped with the different tools for analysis. These tools help him in studying accounting data, so as to determine the continuity of the operating policies, the investment value of the business.

Credit rating and testing the efficiency of operations. The technique is equally important in the area of financial control, enabling the Finance Manager to make constant reviews of the actual financial operations of the firm as a whole and in part, to analyze the cause of major deviations, which result in corrective action wherever indicated.

2. To The Management: It is the responsibility of the management to see that the resources of the firm are used most efficiently and that the firm’s financial condition is sound.

Financial analysis helps the management in measuring the success or otherwise of the company’s operations, appraising the individual’s performance, and evaluating the system of internal control.

3. To The Trade Creditors: Trade Creditors are particularly interested in the firm’s ability to meet their claims over a very short period of time. Their analysis will, therefore, confine to the evaluation of the firm’s liquidity position.

4. To The Lenders: Lenders are mainly concerned with the firm’s long-term solvency and survival. They analyze the firm’s profitability over time, its ability to generate cash to be able to pay interest and repay principal, and the relationship between various sources of funds. They do analyze the historical financial statements as well as projected financial statements to make an analysis about its future solvency and profitability.

5. To The Investors: Investors who invested their money in the firm’s shares, are interested to know about the firm’s earnings. They mainly concentrate on the analysis of the firm’s present and future profitability. The investors evaluate the efficiency of the management and determine whether a change is needed or not. In large companies, the shareholder’s interest is limited to decide whether to buy, sell or hold the shares.

6. To The Labour Unions: They analyze the Financial Statements to assess whether the company is earning a fair rate of return on invested capital, whether it can presently afford a wage increase and whether it can absorb a wage increase through increased productivity or by rising the prices.

7. To the Economists, Government, etc.: The economists, researchers analyze the Financial Statements to study the present business and economic conditions. The Government agencies need financial analysis for price regulations, tax fixation, and another similar purpose.

Purpose or Objectives of Financial Statement Analysis: Financial Statement Analysis reveals important facts and relationships concerning the managerial performance and the efficiency of the firms. The main objectives of the analysis are to understand the information contained in financial statements with a view to knowing the weaknesses and strengths of the firms and making a forecast about the future prospects of the firm and thereby enabling the financial analysis to take different decisions regarding the operations of the firm.

The following are generally considered to be the objectives of analysis:

1. To find out the financial stability and soundness of the business enterprises.
2. To assess and evaluate the earning capacity of the business.
3. To estimate and evaluate the Fixed Assets, Stock, etc. of the concern.
4. To estimate and determine the possibilities of future growth of the business.
5. To assess and evaluate the firm’s capacity and ability to repay short-term and long-term loans.
6. To evaluate the administrative efficiency of the business enterprises.

Tools of Financial Analysis.

1. Comparative Statement Analysis.
2. Common Size Statement Analysis.
3. Trend Analysis.
4. Ratio Analysis.
5. Cash Flow Analysis.

1. Comparative Statement Analysis: Comparative statements compares financial numbers at two points of time and helps in deriving meaningful conclusions regarding the changes in financial positions and operating results and to enable the reader to understand the significance of such changes.

Such comparison of Financial Statements is accomplished by setting up a Balance Sheet and Profit and Loss Account side by side and studying the changes that have occurred in the individual figure therein from year to year and over the years. Thus, Comparative Statements are those which summarise and present relating data for a number of years incorporating therein the changes in individuals items of Financial Statements. This analysis is also known as Florizontal Analysis.

2. Common Size Statement Analysis: These Statements indicate the relationship of different items of Financial Statements with some common item by expressing each item as a percentage of the common item. The percent thus calculated can be easily compared with the corresponding percentages of some other firms, as the number is brought to a common base. This analysis is also known as ‘Vertical Analysis’.

3. Trend Analysis: It is a technique of studying several Financial Statements over a series of years. Using the previous years’ data of a business enterprise, trend analysis can be done to observe the percentage changes over time in the selected data. Trend analysis is important because, with its long-run view, it may point to basic changes in the nature of the business. By looking at a trend in a particular ratio, one may find whether the ratio is falling, rising, or remaining relatively constant.

4. Ratio Analysis: Accounting ratios measure the comparative significance of the individual items of the income and position statements. It is possible to assess the profitability, solvency, and efficiency of an enterprise through the techniques of ratio analysis.

5. Cash Flow Analysis: It refers to the analysis of the actual movement of cash in and out of an organization. Cash Flow Statements is prepared to project the manner in which the cash received has been utilized during an accounting year. It is a statement, which shows the sources of cash receipts and also the purposes for which payments are made. Thus, it summarises the causes for the changes in the cash position of a business enterprise between the dates of two Balance Sheets.

Comparative Financial Statements Analysis: Financial Statements include Income Statements (Trading and Profit and Loss A/c) and Position Statement (Balance Sheet). The study of financial statements with a view to indicating the trend of the profitability, efficiency, and financial soundness of the business is known as a comparison of financial statements.

Purpose:

1. To study the magnitude and direction of changes in the financial position and performance of the enterprise.
2. To ascertain the strengths and weaknesses of the enterprise in terms of liquidity, solvency, and profitability.

Importance:

1. Inter-period and/or inter-firm comparisons are very much facilitated by such comparative statements. t
2. With the help of Comparative Statements, weakness in the operating cycle, financial health, etc. can be identified and suitable remedial steps may be taken.
3. These statements highlight the trends in a number of accounting data relating to performance, efficiency, and financial position which are useful for future estimates.
4. The Profit and Loss A/c of a business show the result of operation while a Comparative Balance Sheet shows the effect of operations on its assets and liabilities. Thus, the Comparative Balance Sheet contains a connecting link between Balance Sheet and Profit and Loss A/c.

Comparative Balance Sheet: In the comparative balance sheet, the items and data of balance sheets prepared at two different dates are presented in such a way that the changes in each item between two dates are easily found out and determined.

→ “Comparative balance sheet is the study of the trend of the same item, group of items and computed items in two or more balance sheets of the same business enterprise on different dates.”—Prof. Foulkes.

Comparative Profit and Loss Account: A comparative income statement is prepared to show the net profit or loss for a number of years in comparative form. A comparative study of Income Statements for more than one period may enable us to have definite knowledge about the progress of the business concern.

Steps:
The following steps may be followed to prepare the comparative statements:
1. Draw a table with the five columns like;
Comparative Statement

2. List out absolute figures in rupees at two different points of time.
3. Find out the change in absolute figures by subtracting the first year from the second year and indicate the change as an increase (+) or decrease (-).
4. Calculate the Percentage change as:
\(\frac{\text { SecondyearabsoluteFigure }}{\text { First year absoluteFigure }}\) × 100 – 100

Common-Size Financial Statement Analysis: Common-Size Statement also known as a component percentage statement, is a financial tool for studying the key changes and trends in the financial position (Balance Sheet) and financial result (Profit and Loss A/c) of a company.

These figures reported are converted into percentages of some common base. For example, total assets may be chosen as a measured size for the Balance Sheet and sales may act as a measured size for Profit and Loss A/c.

These statements are known as common size statements because all the figures are converted into a common size.

Purpose: An analysis of the common size statement will help better to understand the important changes which have occurred in the enterprise over a period of time. This analysis constitutes a vertical study within one column of the comparative statement therefore, it is also called vertical analysis.

Importance: An analysis of common size statement is of immense use which comparing business enterprise which differs substantially in size as it provides an insight into the structure of financial statements.

Common Size Balance Sheet
In Common Size Balance Sheet, each item of assets is shown as a percentage of total assets and each item of liability is shown as a percentage of total liabilities. The total of the assets and that of liabilities is taken as 100 percent and each item, appearing on the assets side as well as liabilities side is shown as the proportion of the total of 100. It is known as the Percentage Balance Sheet.

Common Size Income Statement: Income Statements are reduced to common size by expressing each item as a percentage of net sales. Thus the common size Income Statement captures the relationship between sales and expenses.

Steps:
The following steps may be followed to prepare the common size statements:
1. Draw a table with the five columns.
Common Size Statements

2. List out absolute figures in rupees at two different points in time.
3. Choose a common base (as 100) for example, Sales revenue total may be taken as a base (100) in case of Profit and Loss A/c and total assets or total liabilities (100) in case of Balance Sheet.
4. Convert all items of Col. 2 and Col. 4 as a percentage of that total. Columns 3 and 5 portray these percentages.

The purpose of the common-size analysis is to know the importance of each item in the total. Hence, this analysis can be done for one year also.

Trend Analysis: The Financial Statements may be analyzed by computing trends emeries of information. Trend analysis determines the direction upwards or downwards and involves the computation of the percentage relationship that each item bears to the same item in the base year. In Trend Analysis, we would like to know the behavior of some item over the period, say during the last 5 years.

In other words, Comparative and Common Size Statements present the percentage of each item to the total sum. These percentages could be calculated for a number of successive years in order to understand the trend of the Financial Statement item and this analysis is called trend analysis.

The trend in general term signifies a Tendency. The review and appraisal of tendency in accounting data are nothing but trend analysis. It discloses the change in the financial and operating data between specific period and makes possible for the analyst to form an opinion as to whether favorable or unfavorable tendencies are reflected by the accounting data.

Purpose and Importance:
1. It helps in future forecasts of various items as the basis of data of the previous year.
2. In this method, mass complex accounting data are converted into % and presented in brief, so the direction of the business can be easily detected.
3. There is less chance of mistakes because changes in percentages can be compared to changes in absolute data.
4. It is a very easy method to calculate that even a layman can also use this method.

Procedure: Generally, the first or the last year is taken as the base year. The figure for the base year is taken as 100. The trend percentages are calculated in relation to this base year. Each year’s figure is divided by the base year figure.
Trend Percentage = \(\frac{\text { Present year value }}{\text { Base year value }}\) × 100

The base period should be carefully selected. The accounting procedures and conventions used for collecting data and preparation of Financial Statements should be similar, otherwise, the figures will not be compared.

Limitations of Financial Analysis
Though financial analysis is quite powerful in determining the financial strengths and weaknesses of a firm, the analysis is based on the information available in financial statements. As such, financial analysis also suffers from the serious limitations of financial statements.

Some other limitations of financial analysis are:

1. It does not consider price level changes.
2. It may be misleading an account of changes in accounting procedure followed by a firm.
3. It is just a study of interim reports.
4. Monetary information alone is considered in financial analysis while non-monetary factors are ignored.
5. The financial statements are prepared on the basis of ongoing concepts as such, it does not give an exact position.

By going through these CBSE Class 12 Accountancy Notes Chapter 8 Financial Statements of a Company, students can recall all the concepts quickly.

Financial Statements of a Company Notes Class 12 Accountancy Chapter 8

Financial Statements are the end products of the accounting process. They are prepared following the consistent accounting concept principles, procedures and also tire legal environment in which the business organization operates. These statements are the outcome of % the summarizing process of accounting and are, therefore the sources of information/on the basis of which conclusions are drawn about the profitability and the financial position of a business enterprise.

Meaning of Financial Statements: Financial Statements are the summarized statements of accounting data produced at the end of the accounting process by an enterprise through which it communicates accounting information to the external users as well as internal users.

These are the basic and formal means through which the corporate management communicates financial information to various users. External user includes investors, tax-authorities, government, employees, etc.

Financial information, which is the information relating to the financial position of any firm, when presented in a concise and capsule form, is known as the financial statement.

“Financial Statements are prepared for the purpose of presenting a periodical review or report on progress made by the management and deal with the status of investment in the business and the results achieved during the period under review.”

—American Institute of Certified Public Accountants (AICPA)
“The end product of financial accounting in a set of financial statements prepared by the accounts of a business enterprise that purport to reveal the financial position of the enterprise, the result of its recent activities and an analysis of what has been done with earnings.” -Smith and Assume

“The Finacial Statements provide a summary of accounts of a business enterprise, the balance sheet reflecting the assets, liabilities, and capital as on a. certain date and the income statement showing the results of operations during a certain period.”. -John N. Myer

“Financial Statement, essentially, are interim reports presented annually and reflect a division of the life of an enterprise into more or less arbitrary accounting period more frequently a year.” -Anthony

Thus, Financial Statements are the final product of accounting work done during the accounting period which shows the financial position and result of business activities for that accounting period. In other words, Financial Statements are the end products of the accounting process. It may be defined as the reports prepared for the purpose of presenting a periodical review of the performance and the financial position of a business enterprise. Financial statements are the indicators of profitability and financial soundness of a corporate sector.

Nature of Financial Statements:
Viewpoints of the Professional Bodies and Researchers about the nature of Financial Statements:
According to the American Institute of Certified Public Accountants

(AICPA), “Financial statements are prepared for the purpose of presenting a periodical review of the report on progress by the management and deal with the status of investment in the business and the results achieved during the period under review. They reflect a combination of recorded facts, accounting principles and personal judgments.”

In the words of the American Accounting Association, “Every corporate statement should be based on accounting principles, which are sufficiently uniform, objectives and well understood to justify opinion as to the condition and progress of the business enterprise. Its basic assumption was that the purpose of periodic financial statements of a corporation is to furnish information that is necessary for the formation of dependable judgments.”

According to John. N. Mayer, “The financial statements are composed of data which are the result of a combination of

1. Recorded facts concerning the business transactions;
2. Conventions adopted to facilitate the accounting technique;
3. Postulates or assumptions made; and
4. Personal judgments used in the application of the conventions and postulates.”

The following points explain the nature of financial statements:
1. Recorded Facts: The basis of recording transactions in financial statements is the original cost or historical cost. The assets purchased at different times and at different prices are put together and shown at cost price. The financial statements do not show current financial conditions, as they are based on original costs not on replacement costs.

2. Accounting Conventions: For preparing financial statements, certain accounting conventions are followed. For example, the convention of valuing inventory at cost or market price, whichever is lower, is followed. Small items like pencils, pens, postage, stamps, etc. although assets in nature but treated as expenditure in the year in which they are purchased. The Stationery is valued at cost. The use of accounting conventions makes financial statements comparable, simple and realistic.

3. Postulates: Financial Statements are prepared on certain basic \ assumptions known as postulates such as going concern postulates, money-measurement postulate, realization postulate, etc. Going concern postulates assumes that the enterprise is run for a long time. Money FC measurement postulate assumes that the value of money will remain the same in different periods.

4. Personal Judgements: Under more than one circumstance, facts and figures presented through financial statements are based on personal opinion, estimates, and judgment. For example, depreciation is calculated with a written-down method or at the original cost.

Provisions for doubtful debts are made on estimates and personal judgments. Personal opinion, judgments, and estimates are made while preparing the financial statements to avoid any possibility of overstatement of assets and liabilities, income, and expenditure, keeping in mind the, convention of conservation.

Thus, Financial Statements are the summarized reports of recorded facts and are prepared following the accounting concepts, conventions, and requirements of law.

Objectives of Financial Statements
1. To provide information about economic resources and obligations of a business: Financial Statements are prepared to provide adequate, accurate, reliable, and periodical information to investors and other external parties regarding economic resources and obligations of a business firm.

2. To provide information about the earning capacity of the business: Financial Statements are prepared to provide the information about the earning capacity of the business, which can be very useful and important for decision-making purposes for internal as well as external users. They provide very useful financial information, which can be utilized to predict, compare and evaluate the firm’s earning capacity.

3. To provide information about cash flows: Financial Statements can also provide vital information useful to investors and creditors for predicting, comparing and evaluating, potential cash flows in terms of amount, timing, and related uncertainties.

4. To judge the effectiveness of management: With the help of financial statements, we can judge the management’s ability to utilize the resources of a business effectively.

5. Information about activities of business affecting the society: They have to report the activities of the business organization affecting the society, which can be determined and described or measured and which are important in its social environment.

6. Meeting the informational needs of users: These statements have to disclose, to the extent possible, other information related to the financial statements that are relevant to the needs of users of these statements.

7. Disclosing accounting policies: These reports have to provide the significant policies, concepts followed in the process of accounting, and changes are taken up in them during the year to understand these statements in a better way.

8. To provide information about solvency: Solvency determined the ability of a business concern to meet its short-term debt such as creditors, bills payable and -bank overdraft, etc., and long-term debts such as debentures, bank loans, etc. The financial statements of the firm provide information regarding the solvency of the firm.

9. Helps in comparison: With the help of information provided by the financial statements, comparison between the different firms made easy.

Types of Financial Statements: Financial Statements generally includes:

1. Income Statement (or Profit & Loss Account)
2. Position Statement (or Balance Sheet)

The statement, which takes care of matching revenue receipts with revenue payments (of nominal nature) is known as Income Statement.

Items of capital nature that have potential uses and future obligations known as assets and liabilities. The statement which shown total assets and liabilities is known as the position statement (or Balance Sheet).

These two basic statements are required for external reporting and also for the internal needs of the management. These two basic statements are supported by a number of schedules, annexures, supplementing the data contained in the balance sheet and income statement.

1. Balance Sheet: It is a component of a financial statement that shows the balance of liabilities, equities, and assets of a business entity as on a particular date. The balance sheet is not an account. Balance of liabilities, equities, and assets are not closed by transferring to Balance Sheet, balance of those accounts are simply carried forward to the next accounting period.

The balance sheet displays the liabilities, equities, and assets position generally at the end of the accounting period. It is a sheet of the balance of ledger accounts that are still open after the transfer of all nominal accounts to the Income Statement. The balance of all the personal and real accounts are grouped as assets and liabilities. Liabilities are shown on the left side of the Balance Sheet and Assets on the right side.

According to the American Institute of Public Accountants, Balance\ Sheet is “A tabular statement of summary of balance (debits and credits) carried forward after an actual and constructive closing of books of accounts and kept according to principles of accounting.”

→ “A business form showing what is owed and what the proprietor is forth is called a Balance Sheet.” —Karlson exi

→ “The Balance Sheet is a statement prepared with a view to measure the ICT financial position of a business on a certain fixed date.”—J. R. Batliboi side

→ “The Balance Sheet is a statement at a particular date showing on one (he trader’s property and possession and on the other hand the liabilities.” -A. Palmer

It is the report about the properties owned by the enterprise and the claims of the creditors and owner against these properties. Thus, a Balance Sheet is a statement prepared with a view to measure the exact financial position of a business on a certain date.

2. Income Statement or Profit and Loss Account: It is the accounting report, which summarizes the revenues expenses, and incomes, and the difference between them for a specified accounting period. An income statement gives a mathematical interpretation of policies, expenses, knowledge, foresight, and aggressiveness of the management of a business from the point of view of income, expenses, gross profit, operating profit, and net profit or loss.

As per the accounting concept of income, profit or loss is the difference between the realized revenues of the period and the related expired costs. Income measurement is based on concepts like going concerned, accounting period, realization, matching, and objectives evidence, etc. Normally accrual basis of accounting is followed in income measurement.

Uses and Importance of Financial Statements
Financial Statements, which are prepared to depict true relevant, easily understandable, comparable, analytically represented, and promptly presented financial position, help the user in their economic decisions.

The main uses and importance of financial statements are following:
1. Provide Information to Shareholders: Financial statements provide information about the management performance to the shareholders. Shareholders are the suppliers of the basic capital to run the concern and as such, they are very much interested in the well-being of the business.

They are interested to know the profitability and prospects of future growth of the business. They come to know about the financial position and operating results of the business through these financial statements only.

2. Basis for Fiscal Policies of the Government: Financial Statement provides the basis for fiscal policies of the Government. Financial Statement provides useful information to various government departments like Income Tax, Sale Tax, Excise duty, etc to determine the tax liability of the concern. So, on the basis of financial statements, the government determines tax policy, import-export policy, industry policy, etc.

3. Basis for Dividend Policies: The dividend policies of the corporate sector are linked with the government regulation and financial performance of the undertaking. Hence, financial statements form the basis for dividend policies of companies.

4. Basis for Granting of Credit: Corporate undertaking has to borrow funds from banks and other financial institutions for different purposes. All financial institutions which provide loan to the corporate undertaking are interested to know the profit earning capacity of the business and its long term solvency. They make decisions based on the financial performance of the undertaking. Thus financial statements form the basis for granting credit.

5. Guide to the Value of the Investment Already Made: Shareholders of companies are interested in knowing the status, safety, and return on their investment. They may also need the information to make decisions about the continuation or discontinuation of their investment in the business. Financial statements provide information to the shareholder in taking such important decisions.

6. Basis for Prospective Investors: In addition to the existing investor there may be people who may be interested in investing money in the company. But before doing that they would be interested to know the long-term and short-term solvency as well as the profitability of the concern. Financial statements provide adequate information to such potential investors to enable them to take the necessary decisions.

7. Aids Government in Policy Framework: Financial statements help Government to assess the role of corporate undertaking in the economic development of the country. It also assesses the economic situation of the country from these statements in terms of industrial production, employment, etc. These statements enable the government to know whether a business is following various rules and regulations or not. These statements also form the basis for framing and amending various laws for the regulation of the business.

8. Aids Trade Associations in Helping their Members: Trade Associations can judge, on the basis of financial statements the profitability of the business enterprises. They can compute as to how much bonus and increase in their wages are possible from the profits of the business concern. Trade unions negotiate the wages and salaries with the company, the financial statements reveal the financial soundness of the company and thus provide the basis to the trade unions to go in for negotiations.

9. Helps Stock Exchanges: Financial Statements help the stock exchanges to understand the extent of transparency in reporting on financial performance and enable them to call for the required information to protect the interest of investors. The financial statements enable the stockbrokers to judge the financial position of different concerns and take decisions about the price to be quoted.

10. Helps Trade Creditors: Trade creditors and suppliers of goods are interested in knowing the short-term solvency of the business. They are interested to know whether the business firm will be making payment on time or not. Financial statements provide adequate information to them to take the necessary decisions.

Limitations of Financial Statements
Financial Statements suffer from the following limitations.
1. Do not reflect the current situation: Financial Statements are prepared on the basis of historical cost and do not throw light on the current and present position of the business. The purchasing power of money is changing, the value of assets and liabilities shown in the financial statement does not reflect the current market situation. It does not indicate the current position of the business.

2. Dividends out of Capital: Net profit is ascertained on the basis of historical cost. If profits are adjusted to changing price levels, it may lead to loss and consequently, dividends may be paid out of capital.

3. Incomplete Information: Financial statements do not include all of the relevant information necessary for evaluating the status, progress, and future prospects of a business enterprise. The Balance Sheet does not disclose information relating to the loss of markets and cessation of agreements that have a vital bearing on the enterprise.

4. Assets may not realize: Some of the assets may not realize the stated value if the liquidation is forced on the company. Assets shown in the balance sheet reflect the merely unexpired or unamortized cost.

5. Different accounting policies: Various concepts and conventions of accounting affect the value of assets and liabilities as shown in the Balance Sheet and profit as shown by the Profit and Loss Account. For example, different firms may adopt different methods of stock valuation.

6. No Qualitative Information: The financial statements do not reflect complete information about the firm. Only that information, which can be expressed in monetary terms, is given. Qualitative information is however ignored like industrial relations, industrial climate, labor relations, etc.

7. No free from Bias: Financial statements are prepared on the basis of certain established concepts and conventions yet they are greatly affected by personal bias and personal judgment of various factors.

8. Aggregate Information: Financial Statements show aggregate information but not specific information. Hence they may not satisfy the user in decision making unless modified suitably.

9. Interim reports: Financial Statements are merely interim reports, not final reports. Profit and Loss Account discloses only interim profits but not final profits. Final profits can be known only when an enterprise is liquidated, assets are sold and liabilities are paid off.

10. Affected by window-dressing: Some business firms have given too much attention to decorate their financial statements in such a way that they fulfilled all the legal requirements and show the sound financial position of the firm. In fact, these statements may be far from the truth.

Income Statement may be divided into three components

1. Trading Account → To show Gross Profit Earned or Gross Loss incurred.
2. Profit and Loss Account → To show Net Profit earned or Net Loss incurred.
3. Profit and Loss Appropriation Account → To show all appropriation from the current year and balance of profit or loss of last year and surplus or deficit at the end of the period.

Note: If the company is a manufacturing concern, apart from the above components manufacturing account is also required.

→ Trading Account: Trading Account is the first part of the financial statements. The trading account is designed to show the gross profit on the sale of goods. The trading account contains the transactions of the company relating to the commodities in which it deals, throughout the accounting period.

All expenses either related to purchasing of raw material or production are charged to the Trading A/c i.e. Debited to Trading A/c. It is prepared to find out Gross Profit or Gross Loss. If the sales are more than purchases and expenses the result is Gross Profit and vice versa. Its main components are sales, services rendered and cost of such sales or service rendered. A trading account provides the data for comparison, analysis, and planning for future growth.

Form of Trading Account
Trading Account of…………………. Co. Ltd.
for the year ended……………………..

→ Profit and Loss Account: The profit and Loss Account is the second part of the financial statement. The company is more interested in knowing its net income or net profit, which increases its equity. Net profit represents the excess of gross profit plus other revenue income over indirect expenses.

The indirect expenses are not shown in Trading Account. On the debit side of the Profit and Loss Account, the indirect expenses are shown whereas on the credit side revenue incomes. If the debit side is less than of credit side, it would be net profit and if the credit side is less than of debit side it would be a net loss.

“A Profit and Loss account is an account into which all gains and losses are collected in order to ascertain the excess of gain over the losses or vice-versa.” -Prof. Carter

Form of Profit & Loss Account
Profit & Loss Account of………… Co. Ltd.
for the year ended…………………………..

→ Profit and Loss Appropriation Account: The account which shows the disposition of profit is called the Profit and Loss Appropriation Account. The disposition of profit means the distribution of net profits by way of dividends, transfer of profits to various reserves, adjustment of arrears of depreciation, if any, bonus to shareholders, and so on.

Form of Profit and Loss Appropriation Account
Profit and Loss Appropriation Account of…………… Co. Ltd
for the year ending…………………………

Income statements may also be presented in vertical form with detailed data. Verticle form income statements are suitable for further analysis and providing suitable data for decision making.

Form of Vertical Income Statement
Income Statement of……………………. Co. Ltd.
for the year ending……………………..


Process for Preparation of Income Statement:
The following process is to be followed for the preparation of the income statement (in T form):

1. Preparation of trial balance on the basis of balances of all the accounts available in the ledgers of the concern.
2. Recording all the revenue receipts appearing on the credit side of tire trial balance on the credit side of income statement after making suitable adjustments for revenues received in advance or revenues realized but not received etc.
3. Recording all the revenue expenditure items that appeared on the debit side of the trial balance on the debit side of the income statement after making adjustments for outstanding, prepaid expenses, depreciation, provisions for bad debts, taxes, etc.
4. Recording non-operating incomes and gains on the credit side of the income statement.
5. Recording non-operating losses on the debit side of the income statement.
6. Finding the difference between totals of credit items and totals of debit items.
7. If the credit items are more than the debit items, it is known as net profit and vice versa.
8. In India, the accounting year for preparing financial statements for companies is 1st April to 31st March (same as that of the financial year of the Government).

→ Form and Contents of Balance Sheet: A balance Sheet is a component of a financial statement that shows balances of liabilities, equities, and assets of a business entity as on a particular date. It is prepared with a view to measure the exact financial position of a business on a certain fixed date. It is usually prepared in horizontal T form. The assets are shown on the right-hand side and capital and liabilities are shown on the left-hand side. These can be arranged either on:
(a) Liquidity basis or on
(b) Permanency basis

(a) Liquidity Basis: According to this method an asset that is most easily convertible into cash such as cash in hand is written first and then will follow those assets which are comparatively less easily convertible so that the least liquid assets such as Goodwill are shown last.

In the same way, those liabilities which are to be paid at the earliest will be written first, in other words, current liabilities are written, first of all, then fixed or long-term liabilities, and lastly the equity of the owner.

(b) Permanency Basis: This method is just opposite to the first method. Assets that are most difficult to be converted into cash such as Goodwill are written first and the assets which are most liquid such as cash in hand are written last.

Those liabilities which are to be paid last will be written first. The owner equity is written, first of all, then long-term liabilities, and lastly the current liabilities.

The Companies Act adopted the permanency approach form in the preparation of the balance sheet. The registered companies are required to follow Part I of Schedule VI of the Companies Act, 1956 recording assets and liabilities in the tire balance sheet in a particular order. According to section 211 (i) of the Companies Act, the balance sheet shall be prepared in prescribed format from time to time, depict the true and fair view of financial position, and follow general instructions for the preparation of the balance sheet under the heading notes at the end of that part.

This format is not applicable to Banking and Insurance Companies. These companies follow the formats prescribed by their respective legislation.

Horizontal Form Of Balance Sheet Schedule Vi, Part I (See Section 211)
A-Horizontal Form Of Balance Sheet Balance Sheet Of ……………………..
(Here enter the name of the company) as on (Here enter the date at which the balance sheet is made out)




Notes:
(a) Fixed assets are shown at original cost less total depreciation to date.
(b) Investments should be divided into two parts:

• Quoted, and
• unquoted. In the case of quoted investments market price must be disclosed.

(c) Contingent liabilities are not included in the total of the liability side. Following are the usual types of contingent liabilities:

1. Claim against the company not acknowledged as debt.
2. Uncalled liability on shares partly paid.
3. Arrears of fixed cumulative dividends.
4. The estimated amount of contracts remaining to be executed on capital account and not provided for, ‘
5. Other money for which the company is contingently liable.
   The Balance Sheet can be prepared in the abridged form also which is shown below:

Abridged Balance Sheet
Form of Balance Sheet (Horizontal Form),
Balance Sheet of ……………..Co. Ltd.
as on……………..

Note: A footnote to the Balance sheet may be added to show separately the contingent liabilities.

Vertical Form of Balance Sheet Form of Balance Sheet (Vertical Form)
Balance Sheet of………………….. CO. LTD.
as on…………………….

Note: Usually detail under each of the above items is given by way of a separate schedule. The number of the schedule incorporating the information is mentioned against the item in the column.

Explanation to Balance Sheet Items
Statutory Contents of Liabilities Side of Company’s Balance Sheet
1. Share Capital: It is the first item on the liabilities side of the balance sheet and shows details about the following:

1. Authorized Capital
2. Issued Capital
3. Subscribed Capital.
4. Called up Capital
5. Paid-up Capital

In terms of the number of shares of each kind along with the nominal value. If forfeited shares are reissued then this amount is added to the paid-up capital.

2. Reserves and Surplus: As per Schedule VI to the Companies Act, 1956, ‘Reserves and Surplus’ includes the following items:

1. Capital Reserves
2. Capital Redemption Reserves
3. Share Premium Account or Securities Premium
4. Other reserves
5. Surplus
6. Proposed Addition to reserves
7. Sinking fund

These reserves may be classified broadly as revenue and capital reserves.

3. Secured Loans: If any company given security for the loan by a mortgage or charge on all or any of its property, the loan will be called ‘Secured Loans’. It includes:

1. Debentures
2. Loans and Advances from Banks
3. Loans and Advances from subsidiaries
4. Other Loans and Advances if any

Information regarding the nature of security given for each secured loan should be given along with the respective loans.

4. Unsecured Loans: Loans and advances for which no security is given are shown under this heading. This include:

1. Fixed deposits
2. Loans and Advances from Subsidiary Companies
3. Loans and Advances from other sources.
4. Short-term loans from banks and others.

5. Current Liabilities and Provisions: Current Liabilities include:

1. Acceptances (or Bills Payable)
2. Sundry Creditors
3. Advance Payments
4. Un-expired Discounts
5. Unclaimed dividends
6. Accrued Interest but not paid
7. Other liability (if any)

Provisions include:

1. Provisions for taxation
2. Proposed Dividend
3. Provisions for Contingencies
4. Provision for provident fund
5. Provision for Pension
6. Provision for Insurance
7. Similar staff benefit schemes etc.
8. Other provisions

Statutory Contents of Assets Side of Company’s Balance Sheet 1. Fixed Assets: These are those assets that are used for a long time in business to earn profit. They are acquired with an intention of using them in the main activity of the concern but not for resale.

It includes:

• Goodwill
• Land and Building
• Leaseholds
• Plant and Machinery
• Furniture
• Railway Lines
• Patents etc.

These assets are shown at cost less depreciation till the date.

2. Investments: It includes

1. Investment in Government Securities
2. Investment in Trust securities
3. In shares, debentures, bonds, etc.
4. Investment in immovable property etc.

3. Current Assets, Loans, and Advances: Current Assets includes:

1. Inventories
2. Sundry Debtors
3. Cash and Bank Balances
4. Loose Tools
5. Accrued Interest

Loans and Advances include:

1. Loans and Advances to Subsidiary Company
2. Bills of Exchange
3. Balance with customs, port trust, etc.

4. Miscellaneous Expenditure: Expenditure, which is not debited to Profit and Loss Account fully and deferred for some years, is shown under this heading.

It includes:

1. Preliminary Expenses
2. Advertisement Expenditure
3. Discount on issue of shares and debenture etc.

5. Profit and Loss Account: If there is any debit balance in the Profit and Loss Account, it will be shown as the assets side of the Balance Sheet.

By going through these CBSE Class 12 Accountancy Notes Chapter 7 Issue and Redemption of Debentures, students can recall all the concepts quickly.

Issue and Redemption of Debentures Notes Class 12 Accountancy Chapter 7

In today’s growing business equity sources of financing only are not sufficient to meet the ever-growing needs of corporate expansion and growth. As a result, the companies turn to raise long-term funds by issuing debentures. Debt financing not only helps in reducing the cost of capital but also helps in designing the appropriate capital structure for the company.

Meaning of Debenture: The term, ‘debenture’ has been derived from the Latin word “debre” which means “to borrow”. Thus, it is a written document acknowledging a debt under the common seal of the company and containing a contract for the repayment of the principal sum at a specified date and for the payment of interest (usually half-yearly) at a fixed rate percent until the principal sum is repaid.

→ “Debenture includes debenture stock, bonds and any other securities of a company whether constituting a charge on the assets of the company or not.”- Section 2(12) of the Companies Act, 1956

→ “A debenture is a document given by a company as evidence of a debt to the holder usually arising out of a loan and most commonly secured by a charge.”- Topham

→ “Debenture is a document under company’s seal which provides for the repayment of a principal sum and interest thereon at regular intervals which is usually secured, by a fixed or floating charge on the company’s property and which acknowledges loan of-a company.” – E. Thomas

→ “Debenture means a document which either creates a debt or acknowledges it and any document which fulfills either of these conditions.” -Chitty J.

Bond: Bond, like debenture, is an acknowledgment of debt issued under the seal of a company and signed by an authorized signatory.

Charge: It means securing the loan by encumbering a specific part of assets towards the loan. It means, if the company fails to meet its obligation, the lender can secure his payment from the assets mortgaged or in case of winding up of the company from the official liquidator.

The Companies Act, 1956) requires that all the charges be registered with the Registrar of Companies. Section 125 (4) of the Companies Act, 1956 requires that a charge when created on the following be got registered:

For the purpose of securing any issue of debentures.

• On uncalled share capital of the company.
• On calls made but not paid.
• On any book debts of the company.
• On any immovable property, wherever situated, or any interest therein.
• On a ship or any share in the ship.
• On goodwill, on a patent or a license under a patent, on a trademark or on the copyright or a license under copyright.

Difference Between Share and Debenture:


Types of Debentures:
1. Security point of view
(a) Secured/Mortgage Debentures: Secured Debentures are those which are secured either on a particular asset or on all the assets of the company in general.

(b) Unsecured/Naked Debentures: Unsecured Debentures do not have a specific charge on the assets of the company.

2. Tenure point of view:
(a) Redeemable Debentures: Redeemable debentures are those that will be repaid by the company at the end of a specified period during the existence of the company.
(b) Irredeemable Debentures: Irredeemable debentures are those that are not repayable during the lifetime of the company.

3. Mode of Redemption point of view:
(a) Convertible Debentures: Convertible debentures are those the holder of which is given an option of
exchanging the amount of their debenture for equity shares after a specified period.

These are of two types:

1. Fully Convertible Debentures (FCD) are those debentures where the whole amount is to be converted into equity shares.
2. Partly Convertible Debentures (PCD) are those debentures where only a part of the amount of debenture is convertible into equity shares.

(b) Non-Convertible Debentures: The debentures which cannot be converted into shares or in any other securities are called non-convertible debentures.

4. Coupon Rate point of view:
(a) Zero Coupon Rate Debenture: These debentures do not carry a specific rate of interest.
(b) Specific Coupon Rate Debenture: These debentures are issued with a specified rate of interest, which may either be fixed and floating.

5. Registration point of view:
(a) Registered Debentures: Registered debentures are those which are payable to the persons whose name appears in the Register of Debenture holders. These can be transferred only by executing a transfer deed.
(b) Bearer Debentures: Bearer debentures are those which are payable to the bearer thereof. These can be transferred merely by delivery. Interest is paid to the persons who produced the interest coupon attached to such debenture.

Issue of Debentures: Debentures can be issued at par, at a premium, or at a discount. They can also be issued for consideration other than cash or as Collateral Security. Accounting treatment regarding the issue of debenture is done in the same manner as in the case of the issue of share. The only difference is that ‘Debenture’ in place of ‘Share’ and ‘Debenture A/e’ in place of ‘Share Capital A/c’ is substituted.

Issue of Debentures at Par: Debentures are said to have been issued at par when the issue price is equal to their face value.
1. If the debenture amount is received in one installment (lump sum).


Similar entries like e, f may be made for the second call and final call.

Issue of Debentures at a Discount: When the debentures are issued at less than the face value, it is said to be issued at discount. Discount on issue of debenture is a capital loss and is shown on the assets side of the Balance Sheet under the head “Miscellaneous Expenditure” till it is written off.

Accounting Treatment:
On the issue of debentures at a discount
Debenture Allotment A/c Dr.
Discount of Issue of Debenture A/c Dr.
To Debenture A/c

Issue of Debentures at Premium: A debenture is said to have been issued at a premium when the price charged is more than the face value of debenture. Premium on Issue of Debenture represents a capital receipt and should be transferred to Securities Premium A/c. It can be used for writing off capital losses and fictitious assets. This account is shown on the liabilities side of the Balance Sheet under the head of ‘Reserves & Surplus’.

Accounting Treatment:
On Issue of Debenture at Premium
Debenture Allotment A/c Dr.
To Debenture A/c To Securities Premium A/c

Over Subscription: When the number of debentures applied for is more than the number of debentures offered to the public, the issue is said to be oversubscribed. The excess money received on oversubscription may be retained for adjustment towards allotment and respective calls when the amount is payable in Instalments or excess money will be refunded.

Issue of Debentures for Consideration Other than Cash: When the company purchases some assets (including services) and instead of making the payment to the supplier in the form of cash, issues its fully paid debentures, such issue of debentures is called the Issue of Debentures for Consideration Other than Cash. Such debentures can be issued at par, a premium, or at a discount.

If the purchase consideration is greater than the value of the net assets acquired (i.e., the difference between the agreed value of the assets taken over and the agreed value of liabilities taken over), the difference is treated as a capital loss which should be debited to Goodwill A/c.

Or
If the amount of the purchase consideration is lower than the value of the net assets acquired, the difference is treated as a capital profit which should be credited to Capital Reserve A/c.

(b) On the issue of Debentures
1. At par
Vendor’s A/c Dr.
To Debentures A/c

2. At Premium
Vendor’s A/c Dr.
To Debentures A/c To Securities Premium A/c

3. At a Discount Vendor’s A/c
Discount on Issue of Debentures A/c

To Debentures A/c
No. of Debentures issued = \(\)\(\)

Issue Price of a Debenture:
Issue of Debentures as Collateral Security: When a company takes a loan from a bank or any other party and gives some additional security in the shape of debentures, the debentures are said to be issued as collateral security. In such a case, the lender has the absolute right over the debentures unless and until the loan is repaid. On repayment of the loan, the lender is legally bond to release the debenture forthwith.

In case the loan is not repaid by the company on the due date, the lender has the right to retain these debentures and realize them. The holder of such debentures is entitled to interest only on the amount of loan, but not on the debentures.

Debentures issued as collateral security can be dealt with in two ways in the books.
1. No accounting entry is required to be shown in the books at the time of issue of such debentures, but a footnote to the fact that the loan has been secured by the issue of debentures is appended.

2. If it is desired that such an issue of debentures is to be recorded in the books, the following entries are recorded:
(a) On the issue of Debentures as Collateral Security
Debentures Suspense A/c Dr.
To Debentures A/c

(b) On repayment of the loan
Debentures A/c Dr.

To Debentures Suspense A/c The net effect of the above two entries is nil.
Issue of Debentures From Condition of Redemption Point of View: Redemption of debentures means discharge of liability on account of debentures by repayment made to the debenture holders. Depending upon the terms and conditions of issue and redemption of debentures, there may be the following six cases:

Accounting Treatment:
Case 1: Issue at Par and Redemption at Par

Case 2: Issue at Discount and Redemption at Par

Case 3: Issue at Premium and Redemption at Par.

Case 4: Issue at Par and Redemption at Premium

Case 5: Issue at Discount and Redemption at Premium

Case 6: Issued at Premium and Redemption at Premium

Interest on Debentures: Interest on debentures is a charge against the profits of the company and is payable irrespective of the fact whether there are profits or not. It is calculated on the face value of the debenture. According to Income-tax Act, 1961, the company must deduct income tax at the prescribed rate from the gross amount of interest payable on debenture before the annual amount is paid to debenture holders. Accounting Treatment:
1. For Interest due

2. For Payment of Interest
Debentureholder A/c Dr.
To Bank A/c

3. On Closing of Debenture Interest A/c
Profit and Loss A/c Dr.
To Debenture Interest A/c

4. For Payment of Income Tax to Government
Income Tax Payable A/c Dr.
To Bank A/c

Writing off Discount/Loss on Issue of Debentures: The discount/ loss on the issue of debentures is a capital loss and therefore must be written off during the lifetime of debentures. The discount/loss on the issue of debentures is shown under the head “Miscellaneous Expenditure” on the assets side of the Balance Sheet. Section 78 of the Companies Act, 1956 permits the utilization of Securities Premium for writing off the discount/loss on the issue of the debenture.

Entry is following:
Security Premium A/c Dr.
To Discount/Loss on
Issue of Debenture A/c

In case there are no capital profits or if the capital profits are not adequate, the amount of such discount/loss can be written off by utilizing the revenue profits.

There are two methods, which can be used to write off the Discount/Loss on the issue of debentures:
(a) Fixed Installment Method: When the debentures are redeemed at the end of a specified period, the total amount of discount should be written off in equal installments of a fixed amount over the period.

(b) Fluctuating Installment Method: When debentures are repaid by annual drawings or installments, the discount is written off in the ratio of debentures outstanding before redemption. The amount of discount, in this method, goes on reducing every year as a greater amount is used in the initial years than the later years. This method is also known as the Reducing Instalment Method.

Section-II
Redemption of Debentures: Redemption of debentures means repayment of the loan due on debentures to debenture holders. According to Section 117 C (3) of the Companies Act 1956, the debentures should be redeemed in accordance with the terms and conditions of their issue/ offer documents. The date, the terms, and the conditions are generally stated in the debenture certificate itself or in the trust deed.

On the due date or happening of the circumstances so specified, the company becomes liable to pay the principal amount to the debenture holder. A company may purchase its own debenture which then stands canceled.

In other words, the redemption of debentures means repayment of the number of debentures by the company. There are three aspects that a company should bear in mind regarding redemption namely the time of redemption, the amount to pay, and the sources from which redemption will have to be carried out.

Methods of the Redemption of Debentures: The various methods of redemption of debentures are as under:

1. Payment in Lump-Sum
2. Payment in Instalments
3. Purchase in Open Market
4. Conversion of existing Debenture into Shares or New Debentures.

1. Payment in Lump Sum: It means debentures can be redeemed by paying the debenture holders in one lump sum at the expiry of the agreed time or earlier at the option of the company. In this case, the time of repayment is known in advance and thus the company can plan its financial resources accordingly.

2. Payment in Instalments: It means the redemption is made in annual installments. The amount of installment is worked out by dividing the total amount of debentures by the number of years it is to last. The number of debentures to be redeemed each year are selected by lottery. Thus, it is also known as drawing by lottery or draw of lots.

3. Purchase in Open Market: A company, if authorized by its Articles of Association, can purchase its own debenture in the open market. Debentures so purchased may be canceled and it means the debentures have been paid.

4. Conversion of Existing Debentures into Shares or New Debentures: It means the debenture holder can exchange their debenture either for shares or new debentures of the company and the debentures which carry such right are called convertible debentures.

Sources of funds for Redemption of Debentures: The redemption of debentures can be done either out of capital or out of profits.

(a) Redemption of Debenture out of Capital: In this case, profits of the company are not utilized for the redemption of debentures, so the assets of the company are reduced by the amount paid. Normally the profits are transferred to Debenture Redemption Reserve for redemption. In case no profits have been transferred to Debenture Redemption Reserve and debentures are redeemed on the due date, it is regarded as redemption out of the capital. It is, however, presumed that the company has adequate funds to redeem the debentures.

Accounting Treatment:
(a) If debentures are to be redeemed at par
1. On debentures becoming due
Debentures A/c Dr.
To Debenture- holder A/c

2. On Redemption Debentureholder A/c Dr.
To Bank A/c

(b) If debentures are to be redeemed at a premium
1. On debentures becoming due
Debentures A/c Dr.
Premium on Redemption of
Debenture A/c Dr.
To Debentureholder A/c

2. On Redemption Debentureholder A/c Dr.
To Bank A/c

(b) Redemption of Debentures out of Profits: Redemption of debentures out of profits means the amount equal to that utilized for repayment to debenture holders is transferred from Profit and Loss Appropriation A/c to a newly opened A/c called ‘Debenture Redemption Reserve A/c’ (DRR). The portion of the profits set aside may either be retained in the business or maybe invested.

The Companies Act (Amendment), 2000 has introduced Section 117 C which provides as under:
(a) Where company-issued debentures after the commencement of this act, it shall create a DRR for the redemption of such debentures, to which adequate amount shall be credited, from out of its profits every year until such debentures are redeemed.

(b) The amount credited to the DRR shall not be utilized by the company except for the purpose of the redemption of debentures.

SEBI’s Guidelines: Securities and Exchange Board of India (SEBI) has provided some guidelines for the redemption of debentures. The focal points of these guidelines are:

1. Every company shall create a venture Redemption Reserve in case of issue of debenture redeemable after a period of more than 18 months from the date of issue.
2. The creation of Debenture Redemption Reserve is obligatory only for non-convertible debentures and a non-convertible portion of partly convertible debentures.
3. A company shall create a Debenture Redemption Reserve equivalent to at least 50% of the amount of debenture issue before starting the redemption of the debenture.
4. Withdrawal from Debenture Redemption Reserve is permissible only after 10% of the debenture liability has already been reduced by the company.

Exemption: SEBI guidelines would not apply under the following situations:
(a) Infrastructure company (a company wholly Engaged in the business of developing, maintaining, and operating infrastructure facilities.)
(b) A company issuing debentures with a maturity period of not more than 18 months.

Clarifications regarding Debenture Redemption Reserve:
The Department of Company Affairs, Government of India, vide their circular No. 9/2002, dates 18.04.2002 has issued the following clarifications regarding the creation of Debenture Redemption Reserve (DRR):
(a) No DRR is required for debentures issued by All India Financial Institutions, by RBI and, Banking Companies for both public as well as privately placed debentures.
(b) No DRR is required in case of privately placed debentures.
(c) Section 117c will apply to debentures issued and pending to be redeemed and, therefore, DRR will also be created for debentures issued prior to 13.12.2000 and pending redemption.
(d) Section 117c will apply to the non-convertible portion of debentures issued whether they are fully or partly paid.

Journal Entries:

1. Debenture A/c To Debentureholders A/c
2. Debenture holder A/c To Bank A/c
3. Profit and Loss Appropriation A/c To Debenture Redemption Reserve A/c

DRR A/c appears on the liability side of the Balance Sheet, under the head “Reserves and Surplus”. The balance in DRR A/c increases with each redemption. When all the debentures are redeemed, the DRR A/c is closed by transferring its balance to General Reserve A/c.

Redemption by Purchase in the Open Market: A company, if authorized by its Articles of Association, can redeem its own debenture by purchasing them in the open market.

If a company purchases its own debenture for the purpose of immediate cancellation, the purchase and cancellation of such debenture are called, redemption by purchase in the open market.

Advantages:

1. A company can redeem the debentures at its convenience whenever it has surplus funds.
2. A company can save money by purchasing its own debenture when they are available in the market at discount.

Accounting Treatment:
(In case of Profits)
(a) On purchase of own debentures for immediate cancellation.
Debenture A/c Dr.
To Bank A/c
To Profit on Cancellation of Debenture A/c

(b) On transfer of Profit on Redemption
Profit on Cancellation of Debenture A/c Dr.
To Capital Reserve A/c

(In case of Loss)
(a) On purchase of own debenture for immediate cancellation.
Debenture A/c Dr.
Loss on Cancellation
of Debenture A/c Dr.
To Bank A/c

(b) On transfer of Loss on Redemption
Profit and Loss A/c Dr.
To Loss on Cancellation of Debenture A/c

Redemption by Conversion: Sometimes, at the time of issue of debentures, a company gives the convertible debenture holders the privilege that they can get their debentures converted into shares or new debentures after the expiry of a specified period. Whenever debenture is redeemed by conversion, the debenture holders have to.; apply for the same. The new shares or debentures may be issued at par, discount, or a premium.

No DRR is required in case of convertible debentures because no funds are required for redemption.
If debentures to be converted were issued at discount, the issue price of the share must be equal to the amount actually received from debentures. If this rule is not followed, it would be a violation of section 79 of the Companies Act, 1956.

Accounting Treatment:
(i) For the amount due to debenture holders
(a) If Redemption at par
Debentures A/c Dr.
To Debentureholder A/c
Or
If Redemption at a premium
Debentures A/c Dr.
Securities Premium A/c Dr.
To Debentureholder A/c

(b) For discharging obligation by issuing shares or debentures
Debentureholder A/c Dr.
To Equity Share Capital
Or
To Debentures A/c (New)

If the new shares/debentures are issued at a premium, the Securities Premium A/c is credited or new shares/debentures are issued at a discount, the Discount on Issue of Shares/Debentures A/c is debited in the above-mentioned entry (b).

Sinking Fund Method: The amount required for the redemption of debentures is generally large and the date of redemption is known to the company. Thus, it is prudent for a company to make arrangements to ensure the availability of adequate funds for the redemption of debenture at the end of the stipulated period for which debentures are issued. Hence, it is better for the company to set aside every year a part of divisible profits and to invest the same outside the business in marketable securities.

This is done by creating a Sinking Fund. The company adopts the method of Debenture Redemption Sinking Fund. An appropriate amount calculated by referring to Sinking Fund Factors, depending upon the interest rate on investments and the number of years for which investments are made, is set aside.

Debenture Redemption Sinking Fund A/c will be created every year to provide means for the redemption of debentures. The company sets aside every year a certain sum of money out of its profits and invests the same along with the interest that may be earned on an investment. The investment is sold when debentures fall due for redemption. The amount available from the sale of investment is utilized for the redemption of debentures.

Accounting Treatment:
I. At the end of First Year
(a) For setting aside the amount out of Profit

(b) For Investing the amount set aside

II. At the end of the second year and subsequent years other than the last year.
(a) For Receiving the Interest on Investments made

(b) For the transfer of Interest on Deb. Red. Fund Investment to DRF A/c
The interest of Deb. Red
Fund Investment A/c Dr.
To Debenture Redemption Fund A/c

(c) For Setting aside the number of profits
Profit and Loss Dr. [With the amount
Appropriation A/c of Profit set aside]
To Debenture Redemption FundA/c

(d) For Investing the amount set aside along with interest • received.
Deb. Red. Fund Investment A/c Dr.
ToBank A/c

III. At the end of last year
(a) For Receiving the Interest on Investment made
Bank A/c Dr.
To Interest on Deb. Red. Fund Investment A/c

(b) For the transfer of Interest on Deb. Red. Fund Investment to DRF A/c
Interest in Deb. Red.
Fund Investment A/c Dr.
To Deb. Red. Fund A/c

(c) For setting aside the number of profits
Profit & Loss
Appropriation A/c Dr.
To Deb. Red. Fund A/c

(d) For Realising the Investment made
Bank A/c Dr. [With the sale
To Deb. Red. Fund proceeds]
Investment A / c

(e) For the transfer of profit/loss on realization of Deb. Red. Fund Investments

(f) For the amount due to debenture holders
Debenture A/c Dr.
To Debentureholders A/c

(g) For redemption
Debenture holders A/c
To Bank A/c

(h) For the transfer of the balance, if any, Discount on Issue of Debentures A/c/Loss on Issue of Debenture A/c
Deb. Red. Fund. A/c Dr.
To Discount on Issue of Debentures A/c,
To Loss on Issue of Debentures A/c

1. For the transfer of an amount from the Deb. Red. Fund A/c to General Reserve:
(a) If some of the Debentures are redeemed

(b) If all the Debentures are redeemed

By going through these CBSE Class 12 Accountancy Notes Chapter 6 Accounting for Share Capital, students can recall all the concepts quickly.

Accounting for Share Capital Notes Class 12 Accountancy Chapter 6

With the expansion in the scale of operations, non-corporate forms of organizations, for example, sole proprietorship, partnership firms found themselves unequal to the tasks of meeting all the capital requirements of the present-day large-scale business operations. Thus, a relatively new form of the business organization came into vogue and this is called a Company.

Company:
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 word Company implies a group of people who voluntarily agree to form a company.
In the eyes of law ‘Company’ is termed as ‘Company’ which is formed and registered under any of the previous laws before the Indian Company Act 1956 or under this act.

“Company is an artificial person created by law having a separate legal entity with a perpetual succession and a common seal.” -L.H. Haney

“A corporation is an artificial being, invisible, intangible and existing only in the contemplation of law.” -Justice Marshall

“it is an association of persons who contribute money or money’s worth to a common stock and employ it for some common purpose.” -Justice Lindley

Features of a Company:

1. It is a voluntary association of persons for profit.
2. It is a separate legal entity i.e. Its legal existence is different from that of its member.
3. The members have limited liability.
4. It has perpetual succession.
5. It has a common seal which signifies the sign of company.
6. The shares of a public limited company can be freely transferable.
7. It can enter into contracts and can enforce contractual rights against others. Similarly, the company can be sued by others if there is a breach of contract by the company.

Kinds of a Company:

Companies Limited by Shares: In this case, the liability of the members is limited to the extent of the nominal value of shares held by them.

Companies Limited by Guarantee: In this case, the liability of its members is limited to the extent of the guarantee given by them in the event of the company being wound up.

Unlimited Companies: When there is no limit on the liability of its members, such Companies are called unlimited companies.

Public Company: A Public Company means a company that is not a Private Company.

Private Company: A Private Company is one which by its Articles of Association:

1. Restricts the right to transfer its shares;
2. Limits the number of its members to fifty;
3. Prohibits any invitation to the public to subscribe for any shares in or debentures of the company.

Share Capital of a Company:
Every company should have capital in order to finance its activities. The company raises this capital by issue of share because it does not have capital of its own being an artificial person. Thus, the total capital of the company is divided into shares, therefore, it is called share capital.

Categories of Share Capital:
1. Authorised Capital: An Authorised Capital refers to that amount that is stated in the Memorandum of Association as the share capital of the company. It is the maximum amount with which the company is registered and which it is authorized to raise from the public by the issue of shares. The amount is also called the registered or nominal capital.

2. Issued Capital: It is the portion of authorized capital that is offered to the public for subscription and the remaining portion not yet offered to the public for subscription is called the unissued capital.

3. Subscribed Capital: It is that part of the issued capital which has been actually subscribed by the public. When the shares offered for public subscription were subscribed fully by the public, in such a case the issued capital and subscribed capital would be the same.

4. Called-up Capital: It is that part of the subscribed share capital which the company actually demands from the share-holders. The company may decide to call the entire amount or part of the face value of the shares.

5. Paid-up Capital: It means the total amount paid up or credited as paid upon the subscribed capital. Some of the shareholders may fail to pay the amount due from them on account of a call which is termed as ”call-in-arrears” or “unpaid capital”.

6. Uncalled Capital: That portion of the subscribed capital that has not been called up is called uncalled capital. The company may collect this amount at any time when it needs further funds.

7. Reserve Capital: Sometimes a company, by means of a special resolution, decides that a certain portion of its uncalled capital shall not be called up during its existence and it would be available in the event of winding up of the company. Such a portion of uncalled capital is termed as ‘reserve capital’.

Share Capital in the Balance Sheet of Company:
According to Schedule VI of the Companies Act, 1956 the information regarding Share Capital is to be shown in the following manner

Sunrise Company Ltd.
Balance Sheet as at…………

Shares of a Company:
The capital of a company is divided into a number of equal units. Each unit is called a share. The Companies Act 1956, defines a share as “a share in the share capital of the company. The person who contributes money through shares is called Shareholders.”

The company issues a certificate to every shareholder stating the number of shares he holds. The certificate is called a Share Certificate.

Classes of Shares:
According to the Indian Companies Act, 1956 a company can issue two types of shares:

1. Preference Share
2. Equity Share (formerly known as ordinary share)

1. Preference Share: According to Section 85 of the Companies Act, 1956 a preference share is one, which fulfills the following conditions:
(a) That it carries a preferential right to the dividend to be paid either as a fixed amount or an amount calculated by a fixed rate which may be either free of or subject to income tax; and
(b) That with respect to the capital it carries or will carry, on .the winding-up of the company, the right to the repayment of capital before anything is paid to equity shareholders.

2. Equity Share: According to Section 85 of the Companies Act, 1956, an equity share is a share that is not a preference share.
This share does not carry any preferential right or in other words, equity share is one that is entitled to dividend and repayment of capital after the claims of preference share are satisfied.

According to Section 86 (a), equity share capital may be:

1. With voting right or
2. With differential rights as to voting, dividend, or otherwise in accordance with such rules and subject to such condition as may be prescribed.

Issue of Share:
The shares of a company can be issued in two ways:

1. for cash
2. for consideration other than cash.

Issue of Share for cash
Steps for the issue of share for cash:
1. Issue of Prospectus: The company first issues the prospectus to the public. It contains complete information about the company and the manner in which share capital is to be collected from the prospective investors.

2. Receipt of Application: When a prospectus is issued to the public, prospective investors intending to subscribe to the share capital of the company would make an application along with the application money and deposit the same with schedule bank as specified in the prospectus.

3. Receipt of Minimum Subscription: The company has to get a minimum subscription. It is to be noted that the minimum subscription of the capital cannot be less than 90% of the issued amount according to SEBI (Disclosure and Investor Protection) Guidelines, 2000 [6.3.8.1 and 6.3.8.2]. If this condition is not satisfied, the company shall forthwith refund the entire subscription amount received.

If a delay occurs beyond 8 days from the date of closure o! subscription list, the company shall be liable to pay the amount with interest at the rate of 15% [Section 73 (2)]. Within 120 days from the date of the issue of the prospectus, if the company fails to receive the same within the said period, the company cannot proceed with the allotment of shares, and the application may be returned within 130 days of the date of issue of prospectus.

Allotment of Shares:
When a minimum subscription has been received, the company may proceed with the allotment of shares. When allotment is made, it results in a valid contract between the company and the applicants who now became the shareholders of the company.

Accounting Treatment of Issue of Shares
Issue of Shares at Par:
When shares are issued for an amount equal to the face value of a share, they are said to be issued at par.

The issue price of a share may be payable either in lump sum along with the application or in installments.

The amount of application money is fixed by the directors but, according to legal provisions, it can in no case be less than 5% of the face value of shares.

Accounting Treatment:
When Share Application money received along with the application:
BankA/c Dr.
To Share Application A/c [Total Amount received on, application]
(Amount received on the application for -Share Rs. -Per Share)

1. Transfer of Application money

[Application money on-Share allotted /transferred to Share Cap.]

2. Money refunded on rejected application

(Application money returned on rejected applications for-share)

3. Amount Due on Allotment

4. Adjustment of Excess Application money

(Application Amount on -Shares @ Rs. -per shares adjusted to the amount due on allotment.)

5.Receipt of Allotment Account
Bank A/c Dr.
To Share Allotment A/c
(Allotment money received on -Share @ Rs.-Per share)

Combined Account:
Sometimes a combined account for share application and share allotment is kept in the books of a company under the name Share Application and Allotment Account.
1. For Receipt of Application and Allotment
Bank A/c Dr.
To Share Application and Attotment A/c [Total Amount Received on Application]
(Money received on applications for shares @ Rs.-per share)

2. Transfer of Application money and Allotment Amount Due
Share App. and Allotment A/c Dr.
To Share Capital [No. of share Allotted × (Application money per share + Allotment Amount per share)]
(Transfer of application money to share capital for the amount due on allotment of shares @ Rs. – per share)

3. Money Refunded on Rejected Applications
Share App. and Allotment A/c Dr.
To Bank A/c [No. of share Rejected × App. money per share]
(Application money returned on the rejected application for….share)

4. Receipt of Balance Allotment money
Bank A/c Dr.
To Share Application and Allotment A/c
(Balance of Allotment money received)

Calls on Share: Two points are important regarding the Calls on shares.

1. The call amount should not exceed 25% of the face value of shares.
2. There must be an internal dynamics of keeping at least some months between the making of two calls unless otherwise provided by the Articles of Association of the company.

Accounting Treatment:
1. Call Amount Due

(Call money due on – Shares @ Rs. – per share)

2. Receipt of Call Amount
Bank A/c Dr.
To Share Call A/c
(Call money received)

Note: The name of the call viz. First, the second and final call is added between the words ‘share’ and ‘call’ in the entry depending upon the identity of the call made.

Calls-in-Arrears: When any shareholder fails to pay the amount due on allotment or on any of the calls, such amount is known as ‘Calls- in-Arrears / Unpaid Calls’.

Call in Arrears amount shows the debit balance and the same is shown as a deduction from the paid-up capital on the liabilities side of the Balance sheet.

Accounting Treatment:
Calls-in-Arrears A/c Dr.
To Share Allotment A/c To Share Call/Calls A/c
(Calls in Arrears brought into account)

The Articles of Association of a company usually empower the directors to charge interest at a stipulated rate on calls in arrears. In case the Articles are silent in this regard, the rule contained in Table A shall be applicable, which states that the interest at a rate not exceeding 5% p.a. shall have to be paid on all unpaid amounts on shares for the period intervening between the day fixed for payment and the time of actual payment thereon. On receipt of the call amount together with interest.

Bank A/c Dr.
To Calls-in-Arrears A/c
To Interest A/c

Calls-in- Advance:
Sometimes some shareholders pay a part or whole of the amount on the calls not yet made. Such amount received in advance from the shareholders is known as “Calls in Advance”. It may also happen in the case of partial allotment of shares when the full amount of application money paid is not adjusted to the allotment. The amount received will be adjusted towards the payment of calls as and when it becomes due.

Accounting Treatment:
A separate call in advance A/c is opened for its accounting treatment and the following entry will pass:
Bank A/c Dr.
To Call-in-Advance A/c
(Amount received on Call-in-Advance)

When call becomes actually due requiring adjustment of
Call- in-Advance’A/c:
Calls-in-Advance A/c Dr.
To Particular Call A/c [Call Amount due]
(Calls-in-advance adjusted with the call money due)

The credit balance of Calls-in-Advance A/c is shown separately on the liabilities side of the balance sheet under the heading ‘Share Capital’ but is not added to the amount of Paid Up Capital.

As calls in advance are a liability to the company and it is under an obligation if provided by the Articles of Association, to pay interest on such amount. In case, the articles are silent then Table ‘A’ shall be applicable, according to which interest @ 6% p.a. may be paid.

1. Interest due
Interest on Calls-in-Advance A/c Dr.
To Sundry Shareholder’s A/c [Amount of Interest due for payment]
(Interest due on Calls-in-Advance)

2. Payment of Interest
Sundry Shareholder’s A/c Dr.
To Bank A/c [Amount of Interest paid]
(Interest paid on Calls-in-Advance)

Oversubscription:
When Shares are issued to the public for subscription through the prospectus by well-managed and financially strong companies, it may happen that applications for more shares are received than the number of shares offered to the public, such a situation is said to be a case of oversubscription.

Alternative:

1. They can accept some applications in full and totally reject the others.
2. They can make a pro-rata distribution.
3. They can adopt a combination of the above two alternatives.

Accounting Treatment:
1. If the excess applicants are totally refused for allotment, the application money received on these shares’s refunded.

(Transfer of money on the application for Share allotted and money refunded on the application for Share rejected)

2. If the applicants are made partial allotment (or pro-rata allotment):
The directors can as well opt to make a proportionate distribution of shares available for allotment among the applicants of shares. The proportion is determined by the ratio which the number of shares to be allotted to bear to the number of shares applied for. This is called ‘pro-rata allotment.

Generally, excess application money received on these shares is adjusted towards the amount due on allotment or call.

(Transfer of application money to share capital and excess application money credited to share allotment.)

(Amount due on the Attotment of – Share @ Rs. – Per Share)

(Allotment money received after adjusting the amount already received as excess application money)

3. This is a combination of two alternatives described above as thus:
(a) Application for some shares are rejected outright, and
(b) pro-rata allotment is made to the applicants of a remaining number of shares.

Thus, money on the rejected applications is refunded and excess application money due to pro-rata distribution is adjusted towards the amount due on the allotment of shares allotted.

(Transfer of application money to share capital, excess application amount credited to share allotment and money refunded on rejected application)

(Amount due on the Allotment of — Share @ Rs. — Per Share)

(Allotment money received after adjusting the amount already received as excess application money)

Under Subscription:
In case applications for a lesser number of Shares have been received than that for which they have been invited by the company, it is called Under Subscription of shares. When an issue of shares is undersubscribed, the company can proceed with the allotment of shares, provided a minimum subscription is raised.

Issue of Shares at a Premium [Sec 781 When shares are issued at an amount more than the face value of a share, they are said to be issued at a premium. The difference between the issue price and the face value of the Share is called the premium.

Note: According to the Companies (Amendment) Act, 1999, the term, ‘Securities Premium’ is required to be used in place of ‘Share Premium’.

Under Section 78 of the Companies Act 1956, the amount o share premium may be used only for the following purposes:

1. In writing off the preliminary expenses of the company.
2. For writing off the expenses, commission, or discount allowed on the issue of shares or debentures of the company.
3. For issuing fully paid bonus shares to the shareholders of the company.
4. For providing for the premium payable on redemption of redeemable preference shares or debenture of the company.

When Shares are issued at a premium, the journal entries are as follows:
(a) Premium Amount called with Application money

(Money received on the application for— Shares @ Rs. — per share including premium)

(Transfer of application money to share capital and premium accounts)

(b) Premium Amount called with Allotment money

(Amount due on allotment of shares @ Rs. – per share including premium)
(ii) Bank A/c Dr.
To Share Allotment A/c
(Allotment money received including premium)

Issue of Shares at a Discount:
When a share is issued at a price that is less than its face value, it is said that it has been issued at a discount.

Normally, a company cannot issue its share at a discount. Share can be issued at a discount only when the following conditions gives in Section 79 of the Companies Act, 1956 are satisfied.
1. At least one year must have elapsed since the company became entitled to commence business. It means that a new company cannot issue shares at a discount at the very beginning.

2. The company has already issued such types of the share;

3. An ordinary resolution to issue the shares at a discount has been passed by the company in the General Meeting of shareholders and sanction of the Company Law Board has been obtained.

4. The resolution must specify the maximum rate of discount at which the share is to be issued but the rate of discount must not exceed 10% of the face value of the share, for more than this limit sanction of the Company Law Board is necessary.

5. The issue must be made within two months from the date of receiving the sanction of the Company Law Board. Generally, the amount of discount is recorded at the time of allotment. Therefore the following entry should be passed on attornment.
Share Allotment A/c Dr.
Share Discount A/c Dr.
To Share Capital A/c
(For the amount due on the allotment, excluding discount)

‘Discount on the Issue of Shares Account’, showing a debit balance, denotes a loss to the company, which is in the nature of capital loss. Therefore, the account is presented on the assets side of the company’s balance sheet under ‘Miscellaneous Expenditure’. It is written off by being charged straight-way to the Securities Premium A/c if any, and in its absence, by being gradually charged to the Profit and Loss A/c over a period of years.

Issue of Shares for Consideration other than cash:
If a company purchases some assets from vendors, in exchange it can issue fully paid shares to them whereby the latter agrees to accepts it. Thus, no cash is received for the issue of shares. These shares can also be issued either at par, at a premium, or at a discount. The number of shares to be issued will depend on the price at which shares are issued and the amount payable to the vendor. To find out the number of shares to be issued to the vendor will be calculated as follows:
No. of Shares to be issued = \(\frac{\text { Amount Payable }}{\text { Issue Price }}\)
(a) On purchase of assets:
Assets A/c Dr.
To Vendor’s A/c
(Assets Purchased)

(b) Shares can be issued to vendors in any manner out of the following:
1. At Par:
Vendor’s A/c Dr.
To Share Capital A/c

2. At Premium:
Vendor’s A/c Dr.
To Share Capital A/c
To Securities Premium A/c

3. At discount:
Vendor’s A/c Share Discount A/c
To Share Capital A/c

Forfeiture of Shares:
If a shareholder fails to pay allotment money or call money on his share as called upon by the company, his shares may be forfeited by giving due notice and following the procedure specified in the Articles of Association in this behalf. This is known as forfeiture of shares.

To forfeit a share means to cancel the allotment to the defaulting shareholders and to treat the amount already received thereon as forfeited to the company.

Accounting Treatment:
1. Forfeiture of Shares issued at par

Note: In case’Calls-in-Arrears’ A /c is maintained by a company, ‘Call-in-Arrears’ A/c would be credited in the above instead of ‘Share Allotment’ and/or ‘Share Call or Calls’ A/c.

The balance on the Share Forfeited A/c is shown in addition to the total paid capital of the company under the heading ‘Share Capital’ on the liabilities side of the Balance Sheet till the forfeited shares are reissued.

2. Forfeiture of Shares issued at a Premium:
(a) If Premium has not been paid by the Shareholders:
Share Capital A/c Dr. (Amount Called up Premium)
Securities Premium A/c Dr. (Premium amount)

To Share Allotment A/c (Amount unpaid)
To Share Call/Calls A/c (Amount unpaid)
To Share Forfeiture A/c (Amount paid)
(For Share forfeited)

(b) If Premium has been paid by the shareholder:
Share Capital A/c Dr. (Amount Called up Premium)

To Share Allotment A/c Dr. (Premium amount)
To Share Call/Calls A/c (Amount unpaid)
To Share Forfeiture A/c (Amount paid)
(For Share forfeited)

3. Forfeiture of Shares issued at a discount:
Share Capital A/c Dr. (Amount Calledup + Discount)

To Discount on Issue of Share A/c (Discount on forfeited share)
To Share Allotment A/c (Amount unpaid)
To Share Call/Calls A/c (Amount unpaid)
To Share Forfeiture A/c (Amount paid)
(Forfeiture of Shares and discount on issue adjusted)

Re-Tissue of Forfeited Share:
The director of a company has the authority to re-issue the shares once forfeited. These forfeited shares are reissued at par, at a premium, or at a discount, the amount of the discount does not exceed the amount paid on such shares by the original shareholder but in case of shares originally issued at discount, the maximum permissible discount will be the amount paid on such shares by the original shareholder plus the amount of original discount.

Accounting Treatment:
1. For Forfeited Shares reissued at Par:
Bank A/c Dr.
To Share Capital A/c

2. For Forfeited Shares reissued at Premium:
Bank A/c Dr.
To Share Capital A/c
To Securities Premium A/c

3. For Forfeited Shares reissued at Discount:
Bank A/c Dr.
Share Forfeiture A/c Dr. (Discount Allowed)
To Share Capital A/c

Transfer:
When all forfeited shares have been reissued, the credit balance left on the Share Forfeiture A/c is transferred ta> Capital Reserve A/c
Share Forfeiture A/c Dr.
To Capital Reserve A/c

Buy-Back of Shares:
A company may buy its own shares from the market. This is called ‘buyback of shares’. Section 77 A of the Companies Act, 1956 provides such a facility to the companies and can buy its own shares from either of the following:

1. Existing equity shareholders on a proportionate basis
2. Open Market
3. Odd lot shareholders
4. Employees of the company.

Buyback of its own shares may be made out of:

1. Free reserve of the company e.g. general reserve, reserve fund, Cr. balance of Profit & Loss A/c.
2. From the proceeds of all earlier issues.
3. From Securities Premium A/c.

Section 77 A of the Companies Act has laid down the following procedures for buy-back of share:

1. Its Articles of Association authorize it to do so.
2. A special resolution must be passed in the companies annual general body meeting.
3. The buyback should not exceed 25% of the total paid-up capital and free reserve of the company.
4. The debt-equity ratio should not be more than a ratio of 2: 1 after the buy-back.
5. All the company’s shares are fully paid up.
6. The buy-back of the shares should be completed within 12 months from the date passing the special resolution.
7. The company should file a solvency declaration with the Registrar and SEBI which must be signed by at least two directors of the company.

By going through these CBSE Class 12 Accountancy Notes Chapter 5 Dissolution of a Partnership Firm, students can recall all the concepts quickly.

Dissolution of a Partnership Firm Notes Class 12 Accountancy Chapter 5

The word Dissolution implies “the undoing or breaking of a bond tie”. In other words, dissolution implies that the existing state of arrangement is done away with. In terms of the partnership, dissolution means discontinuance of relationships amongst the partners.

But the dissolution of partnership and dissolution of a partnership firm are two different terms. As we know that the reconstitution of a partnership firm takes place on account of admission, retirement, or death of a partner. Here, the existing partnership is dissolved, but the firm may continue under the same name if the partners so decide. It means that it results in the dissolution of a partnership but not that of the firm.

The dissolution of a partnership does not lead to the dissolution of the firm since the two situations are different. In case of dissolution of the partnership, the firm continues, only the partnership relation is reconstituted, but in case of dissolution of the firm, not only partnership is dissolved but the firm also loses its existence, implying thereby that the firm ceases to operate as a partnership firm.

Dissolution of a Partnership:
If dissolution involves only the reconstitution of the firm and the business in partnership is continued in the same name after the dissolution of the partnership agreement, it is known as the ‘Dissolution of the Partnership’. It involves a change in the relationship between partners without affecting the continuity of business. Here, the firm is reconstituted without the dissolution of the Finn.

A partnership is dissolved by change of mutual contract in the following cases:

1. Change in the existing profit sharing ratio among partners.
2. Admission of a new partner.
3. Retirement of a partner.
4. Death of a partner (Section 42).
5. Insolvency of a partner.
6. Completion of the venture if the partnership is formed for that,
7. Expiry of the period of the partnership, if the partnership is for a specific period.
8. The merger of one partnership firm into another.

Dissolution of a Firm:
According to Section 39 of the Indian Partnership Act, 1932 dissolution of a partnership between all the partners of a firm is called the ‘dissolution of the firm’.

It refers to the winding up of the business in partnership. It involves a complete breakdown of relations among all the partners and is the dissolution of a partnership between all the partners of a firm. Here, in this situation, business is to be discontinued, it requires the realization of assets and settlement of liabilities.

Dissolution of a firm takes place in the following cases:
Dissolution by Agreement

1. All the partners give consent to it; or
2. As per the terms of the partnership agreement.

Compulsory Dissolution:

1. Where all the partners or all expect one partner, become insolvent or insane rendering them incompetent to sign a contract; or
2. When the business of the firm becomes illegal; or
3. When some event has taken place which makes it unlawful for the partner to catty on the business of the firm in partnership.

On the Happening of Certain Contingencies

Subject to contract between the partners, a firm is dissolved:

1. if constituted for a fixed term, by the expiry of that term; or
2. if constituted to carry out one or more ventures, by the completion thereof; or
3. where all the partners except one decided to retire from the firm; or
4. where all the partners or all except one partner dies; or
5. by the adjudication of a partner as an insolvent.

Dissolution by Notice:
In case of partnership at will, the firm may be dissolved if any of the partners give notice in writing to the other partners signifying his intention of seeking dissolution of the firm.

Dissolution by Court (Under Section 44):
At the suit of a partner, the court may order for dissolution of partnership firm on any of the following grounds:

1. If a partner becomes insane; or
2. When a partner becomes permanently incapable of performing his duties as a partner; or
3. When a partner is guilty of misconduct that is likely to adversely affect the business of the firm; or
4. When a partner deliberately and consistently commits a breach of agreements relating to the management of the firm; or
5. When the partner transfer whole of his interest in the firm to a third party; or
6. When the business of the firm cannot be carried on, except at a loss; or
7. When the court, on any ground, regards dissolution to be just and equitable.

Difference between Dissolution of Partnership and Dissolution of Firm:


Settlement of Accounts
In case of dissolution of a firm, the firm ceases to conduct business and has to settle its accounts. For this purpose, it disposes of all its assets for satisfying all the claims against it. Section 48 of the Partnership Act provides the following rules for the settlement of accounts between the partners:
(a) Treatment of Losses
Losses, including deficiencies of capital, shall be paid:

1. first out of profits,
2. next out of the capital of partners, and
3. lastly, if necessary, by the partners individually in their profits sharing ratio.

(b) Application of Assets
The assets of the firm, including any sum contributed by the partners to make up deficiencies’ of Capital, shall be applied in the following manner and order:

1. In paying the debts of the firm to the third parties;
2. In paying each partner proportionately what is due to him/ her from the firm for advances as distinguished from capital (i.e. partner’s loan);
3. In paying to each partner proportionately what is due to him on account of capital; and
4. The residue, if any, shall be divided among the partners in their profit-sharing ratio.

Thus, assets realized along with a contribution from the partner if required, are applied as follows:

1. To pay outside liabilities. Debts with fixed charges are paid first, followed by debts with floating charges and then unsecured debts. Such as creditors, loans, bank overdraft, bills payable, etc.
2. To pay loans and advances made by the partners to the firm (in case the balance amount is not adequate enough to pay off such loans and advances, they are to be paid proportionately).
3. To settle capital accounts of the partners.

Private Debts and Firm’s Debts:
Where both the debts of the firm and private debts of a partner co-exist, the following rules, as stated in Section 49 of the Indian Partnership Act, 1932, shall apply:
(a) The property of the firm shall be applied first in the payment of debts of the firm and then the surplus if any shall be divided among the partners as per their claims, which can be utilized for payment of their private liabilities.

(b) The private property of any partner shall be applied first in payment of his private debts and the surplus, in any, may be utilized for payment of the firm’s debts, in case the firm’s liabilities exceed the firm’s assets. In nutshell, private property shall be first used to settle private debts and business property shall be first used to settle business debts, and the surplus if any, can be transferred.

Accounting Treatment:
Dissolution of the firm involves the realization of assets and settlement of liabilities and capital accounts. For this purpose, the following accounts are opened in the firm’s books:

1. Realization Account.
2. Partner’s Loan Account
3. Partner’s Capital Account
4. Bank or Cash Account

1. Realization Account:
A realization Account is opened on the dissolution of a firm. It is a nominal account. It shows the net result of realization of assets and settlement of liabilities.

For this purpose, the balances of assets and liabilities appearing in the ledger books are transferred to the realization account. It also records realized value of recorded as well as unrecorded assets. Similarly, payment for liabilities and unrecords liabilities are also recorded in the realization account.

It also recorded the realization expenses. The balance in this account is termed as profit or loss on realization which is transferred to partner’s, capital accounts in their profit sharing ratio. As the dissolution of a firm involves winding up of partnership business and requires final closure of books, the following steps are followed to record dissolution of the partnership firm:

→ Journal Entries:
1. For transfer of Assets
Realization A/c Dr.
To Sundry Assets (Individually) A/c [With a book value of individual asset]

All assets transferred to the realization account at their book value and its corresponding provisions or reserve appearing on the balance sheet are also transferred to the credit side of the realization account. Balance of cash, bank, and fictitious assets are not transferred to realization account.

2. For transfer of liabilities
Book value of all outside liabilities recorded in the books is transferred to realization account along with provisions against various assets.

Liabilities A/c (Individually) Dr.
To Realisation A/c [With a book value of Liabilities]

Note:
Partner’s capital account, accumulated profits, general reserves, reserve fund, partner’s loan are not transferred to realization account.

3. For Sale of Assets (recorded or unrecorded)
Bank/Cash A/c Dr.
To Realisation A/c [With the amount actually realized]

4. For an asset taken over by a partner
Partner’s Capital A/c Dr.
To Realisation A/c [ With the agreed take over the price of the assets]

5. For payment of liabilities
Realization A/c Dr.
To Bank/Cash A/c [With the amount actually paid]

6. For a liability which a partner takes responsibility to discharge
Realization A/c Dr.
To Partner’s Capital A/c [With the agreed value of liability taken over]

7. For transfer of assets to settle liabilities
If assets are transferred to settle the liability account (full and final settlement), then no separate journal entry is passed to record settlement of liability by transfer of assets. But if there is a difference, then we have to pass entry.

For example: If the creditor accepts an asset only as part of the payment of his dues, the entry will be made for cash payment. Creditors to whom Rs. 4,000 was due accepts typewriter worth Rs. 3,000 and Rs. 1,000 paid in cash, the following entry shall be made for the payment of Rs. 1,000 only.

If a creditor accepts an asset whose value is more than the amount due to him, he will pay cash to the firm for the difference for which the entry will be:
Bank A/c Dr.
To Realisation A/c

8. For payment of realization expenses;
(a) Expenses paid by the firm:
Realization A/c Dr.
To Bank/Cash A/c

(b) Expenses paid by a partner on behalf of the firm:
Realization A/c Dr.
To Pa liner’s Capital A/c

(c) When a partner has agreed to undertake the dissolution work for an agreed remuneration bear the realization expenses:
1. If payment of realization expenses is made by the firm:
Partner’s Capital A/c Dr.
To Bank/Cash A/c

2. If the partner himself pays the realization expenses:
[No Entry]

3. For agreed remuneration to such partner:
Realization A/c Dr.
To Partner’s Capital A/c

9. For the realization of any unrecorded assets including goodwill
Bank/Cash A/c Dr.
To Realisation A/c

10. For settlement of any unrecorded liability
Realization A/c Dr.
To Bank A/c

11. For transfer of profit and loss on realization
(a) In case of profit
Realization A/c Dr.
To Partner’s Capital A/c (Individually)

(b) In case of loss
Partner’s Capital A/c (Individually) Dr.
To Realisation A/c

Important:

1. If nothing is mentioned regarding the sale value of intangible assets like goodwill, prepaid expenses, patents, etc., it is assumed that these are valueless.
2. If nothing is mentioned regarding the sale value of tangible assets in the question, it is assumed that these are realized at their book value shown in the Balance Sheet.

→ Accounting Treatment of Reserve and Provisions:
1. If there exists a special reserve against any assets, it should be transferred to the credit side of the Realisation Account.
Provision for Depreciation A/c Dr.
Provision for Bad and Doubtful Debts Dr.
Investment Fluctuation Fund A/c Dr.
Life Policy Fund A/c Dr.
To Realisation A/c

→ These are not to be paid.
(a) Undistributed profits
General Reserve A/c Dr.
Reserve Fund A/c Dr.
Profit and Loss A/c (Credit Balance) Dr.
Workmen Compensation Fund A/c Dr.
To Partner’s Capital A/c (Individually)

(b) Undistributed losses
Partner’s Capital A/c (Individually) Dr.
To Profit and Loss A/c (Debit Balance)
To Advertisement Expenses A/c

2. Partner’s Loan Account:
When all the outside liabilities are paid in full, afterward this loan will be paid.
Partner’s Loan A/c Dr.
To Bank/Cash A/c

3. Partner’s Capital Accounts: After all the adjustments.
(a) If capital account showed debit balance:
Bank/Cash A/c Dr.
To Partner’s Capital A/c (Individually)
(For deficit amount of capital brought in cash by the partner)

(b) If capital account showed credit balance:
Partner’s Capital A/c Dr.
To Bank/Cash A/c (For final payment made to a partner)

4. Bank/Cash Account:
On the debit side of this account, entries as opening balance, sale of assets, and cash brought in by partners are shown and on the credit side, entries as cash payment for liabilities, expenses, and amount paid to partners are shown. If all the entries are correctly recorded, this account balances, and hence all accounts are closed.

Format of Realisation Account
Answer:

By going through these CBSE Class 12 Accountancy Notes Chapter 3 Reconstitution of Partnership Firm: Admission of a Partner, students can recall all the concepts quickly.

Reconstitution of Partnership Firm: Admission of a Partner Notes Class 12 Accountancy Chapter 3

As we know that Partnership is an agreement between the partners or members of the firm for sharing profits and losses of the business carried on by all or any of them acting for all. Any change in this agreement amounts to the reconstitution of the partnership firm.

A change in the agreement brings to an end the existing agreement and a new agreement comes into existence. This new agreement changes the relationship among the members or partners of the partnership firm. Hence, whenever there is a change in the partnership agreement, the firm continues but it amounts to the reconstitution of the partnership firm.

Modes of Reconstitution of the Partnership Firm:
Reconstitution of partnership firm usually takes place in any of the following situations:

1. At the time of admission of a new partner;
2. Change in the profit-sharing ratio of existing partners;
3.  At the time of retirement of an existing partner;
4. At the time of death of a partner;
5. The amalgamation of two partnership firms.

Admission of a New Partner:
When a business enterprise requires additional capital or managerial help or both for the growth and expansion of the business it may admit a new partner to supplement its existing resources. So, admission of a new partner is required for the following reasons:

1. Requirement of more capital for the expansion of the business.
2. Need of a competent and experienced person for the efficient running of the business.
3. To increase the goodwill of the business by taking a reputed and renowned person into the partnership.
4. To encourage a capable employee by taking him into the partnership.

According to Sec. 31, Indian Partnership Act, 1932, a new partner can be admitted into the firm only with the consent of all the existing partners unless otherwise agreed upon. Admission of a new partner means reconstitution of the firm. It is so because the existing agreement comes to an end and a new agreement comes into effect.

A newly admitted partner acquire s two main rights in the firm:

1. Right to share m the assets of the partnership firm, and
2. Right to share in the profits of the partnership firm.

Section 31, Indian Partnership Act, 1932, further specifies that the new partner is not liable for any debts incurred by the firm before he became a partner. New partner, however, will become liable if:

1. the reconstituted firm assumes the liabilities to pay the debt; and
2. the creditors have agreed to accept the reconstituted firm as their debtors and discharge the old firm from liability.

A new partner brings an agreed amount of capital either in cash or in-kind and he also contributes some additional amount known as premium or goodwill. This is done primarily to compensate the existing partners for the loss of their share in the profits of the firms.

Adjustment at the Time of Admission of a New Partner:

1. New profit sharing ratio;
2. Sacrificing ratio;
3. Valuation and adjustment of goodwill;
4. Revaluation of assets and liabilities;
5. Distribution of accumulated profits or losses or reserves; and
6. Adjustment of partners capitals.

New Profit Sharing Ratio:
The ratio in which all partners including new partner share the future profits is called the new profit sharing ratio. In other words, on the admission of a new partner, the old partners sacrifice a share of their profits in favour of the new partner. On admission of a new partner, the profit-sharing ratio among the old partners will change keeping in view their respective contribution to the profit-sharing ratio of the incoming partner. Hence, there is a need to ascertain the new profit sharing ratio among all the partners.

The new partner may acquire his share from the old partners in any of the following situations:
1. If only the ratio of the new partner is given, then in the absence of any other agreement or information, it is assumed that the old partners will continue to share the remaining profits in the old ratio.
Example: X, Y.and Z are partners sharing profits in the ratio 3:2:1 respectively. A is admitted in the firm as a new partner with \(\frac{1}{6}\)th share. Find the new profit sharing ratio.
Answer:
Let total profit = 1
A’s share = \(\frac{1}{6}\)th
Remaining Profit = 1 – \(\frac{1}{6}\) = \(\frac{5}{6}\)
Old partners share this remaining profit in the old profit sharing

= \(\frac{15: 10: 5: 6}{36}\)
= 15: 10: 5: 6

2. If the new partner acquires his share of profit from the old partners equally. In that case, the new profit sharing ratio of the old partner will be calculated by deducting the sacrifice made by them from their existing share of profit.

Example: Varun and Daksh are partners sharing profits and losses in the ratio 5:3. They admit Dhruv as a partner for \(\frac{1}{4}\)th share, which he acquires equally from Varun and Daksh. Calculate the new profit sharing ratio.
Answer:
Dhruv1s share = \(\frac{1}{4}\)
Share acquired by Dhruv from Varun = \(\frac{1}{4} \times \frac{1}{2}=\frac{1}{8}\)
Share acquired by Dhruv from Daksh = \(\frac{1}{4} \times \frac{1}{2}=\frac{1}{8}\)

3. In the new partner acquire his share of profit from the old partners in a particular ratio. In that case, the new profit sharing ratio of the old partners will be calculated by deducting the sacrifice made by them from their existing share of profit.

Example: Noni and Pony are partners, sharing profits in the ratio of 7:5. They admit Tony as new partner for \(\frac{1}{6}\)th share which he takes \(\frac{1}{24}\)th from Noni and \(\frac{1}{8}\)th from Pony. Calculate the new profit sharing ratio.
Answer:

4. If the old partners surrender a particular fraction of their share in favour of the new partner. In that case, the new partner’s share is calculated by adding the surrendered portion of the share by the old partners. Old partners’ share is calculated by deducting the surrendered portion from their old ratio.

Example: Anu and Priti are partners in firm sharing profits in the ratio of 5:3. Anu surrenders \(\frac{1}{20}\)th of her share and Priti surrenders \(\frac{1}{24}\)th of her share in favour of Kapil, a new partner. Calculate the new profit sharing ratio.
Answer:
Anu’s share = \(\frac{5}{8}\)

5. If the new partner acquires his share of profit from only one partner. In that case, the new profit sharing ratio of the old partner will be calculated by deducting the sacrifice made by one partner from his existing ratio.

Example: Akshay and Anshul are partners in a firm sharing profits in a 4: 1 ratio. They admitted Shikha as a new partner for \(\frac{1}{4}\) share in the profits, which she acquired wholly from Akshay. Calculate the new profit sharing ratio.
Answer:
Akhay’s share = \(\frac{4}{5}\)

Sacrificing Ratio:
The ratio in which the old partners have agreed to sacrifice their shares in profit in favour of a new partner is called the sacrificing ratio. This ratio is calculated by taking out the difference between the old profit sharing ratio and the new profit sharing ratio.

Sacrificing Ratio = Old Ratio – New Ratio

Goodwill:
Goodwill is the value of the reputation of a firm in respect of the profits expected in future over and above the normal profits earned by other similar firms belonging to the same industry. In other words, a well-established business develops an advantage of good name, reputation and wide business connections. This helps the business to earn more profits as compared to newly set-up business. This advantage in monetary terms called ‘Goodwill’. It arises only if a firm is able to earn higher profits than normal.

“Goodwill is nothing more than the probability that old customers will resort to the old place.” – Lord Eldon

“The term goodwill is generally used to denote the benefit arising from connections and reputation.” -Lord Lindley

“Goodwill is a thing very easy to describe, very difficult to define. It is the benefit and advantage of the good name, reputation and connections of a business. It is the attractive force that brings in customers. It is one thing which distinguishes an old-established business from a new business at its first start.” -Lord Macnaghten

“Goodwill may be said to be that element arising from the reputation, connections or other advantages possessed by a business which enable it to earn greater profits than the return normally to be expected on the capital represented by the net tangible assets employed in the business.” – Spicer and Pegler

“When a man pays for goodwill, he pays for something which places him in the position of being able to earn more than he would be able to do by his own unaided efforts.” -Dicksee

Thus, goodwill can be defined as “the present value of a firm’s anticipated excess earnings “or as” the capitalised value attached to the differential profits capacity of a business.”

Characteristics of Goodwill:

1. Goodwill is an intangible asset but not a fictitious asset;
2. It is a valuable asset. Its value is dependent on the subjective judgement of the valuer.
3. It helps in earning higher profits than normal.
4. It is very difficult to place an exact value on goodwill. It is fluctuating from time to time due to changing circumstances of the business.
5. Goodwill is an attractive force that brings in customers to the old place of business.
6. Goodwill comes into existence due to various factors.

Factors Affecting the Value of Goodwill:
1. Nature of business: Company produces high value-added products or having stable demand in the market. Such a company will have more goodwill and is able to earn more profits.

2. Location: If a business is located in a favourable place, it will attract more customers and therefore will have more goodwill.

3. Efficient Management: Efficient Management brings high productivity and cost efficiency to the business which enables it to earn higher profits and thus more goodwill.

4. Market Situation: A firm under monopoly or limited competition enjoys high profits which leads to a higher value of goodwill.

5. Special Advantages: A firm enjoys a higher value of goodwill if it has special advantages like import licences, low rate and assured supply of power, long-term contracts for sale and for purchase, patents, trademarks etc.

6. Quality of Products: If the quality of products of the firm is good and regular, then it has more goodwill.

Need for Valuation of Goodwill:

1. At the time of sale of a business;
2. Change in the profit-sharing ratio amongst the existing partners;
3. Admission of a new partner.
4. Retirement of a partner;
5. Death of a partner;
6. Dissolution of a firm;
7. The amalgamation of the partnership firm.

Methods of Valuation of Goodwill:
Goodwill is an intangible asset, so it is very difficult to calculate its exact value. There are various methods for the valuation of goodwill in the partnership, but the value of goodwill may differ in different methods. The method by which the value of goodwill is to be calculated may be specifically decided among all the partners.

The methods followed for valuing goodwill are:

1. Average Profit Method
2. Super Profit Method
3. Capitalisation Method.

1. Average Profit Method:
Goodwill is calculated on the basis of the number of past years profits. In this method, the goodwill is valued at an agreed number of ‘years’ purchase of the average profits of the past few years.

Steps:

1. Find the total profit of the past given years.
2. Add ail Abnormal Losses like loss from fire or theft etc. and any Normal Income if not added before to the total profit of past given year.
3. Then, subtract, Abnormal Income (income from speculation or lottery etc.), Normal Expenses (if not deducted), Income from investment (if not related to general activities of business) and remuneration of the proprietor (if not given), if any, from the total profit of past given years.
4. After this, calculate the actual average profit by dividing the total profit by a number of years.
5. Then multiply Average Profit by the numbers of year purchases to find out the value of goodwill.

In other words:

Actual Average Profit = \(\frac{\text { Total Profit }}{\text { No. of Years }}\)

Goodwill = Actual Average Profit × No. of Years Purchased
→ Weighted Average Profit Method
Sometimes, if there exists an increasing or decreasing trend, it is considered to be better to give a higher weightage to the profits to the recent years than those of the earlier years. This method is an extension of the average profit method.

Steps:

1. Multiply each year’s profit to the weights assigned to each year respectively.
2. Find the total of the product.
3. Divide this product by total weights for ascertaining average profits.
4. Average profits then multiplied with No. of years purchased to find the value of Goodwill.

2. Super Profit Method:
Under this method, goodwill is valued on the basis of excess profits earned by a firm in comparison to average profits earned by other firms. When a similar type of firm gets a return as a certain percentage of the capital employed, it is called ‘normal return’. The excess of actual profit over the normal profit is called ‘Super Profits’. To find out the value of goodwill, Super profit is multiplied by the agreed number of year’s purchase.

Steps:

1. Calculate Actual Average Profit i.e. \(\left[\frac{\text { Total Profit }}{\text { No. of Years }}\right]\)
2. Calculate Normal Profit i.e.
   = \(\text { Capital Employed } \times \frac{\text { NormalRate of Return }}{100}\)
   [Capital Employed = Total Assets – Outside Liabilities]
3. Find Out Super Profits
   Super Profits = Actual Average Profit – Normal Profit
4. Calculate the Value of Goodwill
   = Super profit × No. of years purchased

3. Capitalisation Methods:
(a) by capitalizing the average profits
(b) by capitalizing the super profits.

(a) Capitalisation of Actual Average Profit Method:
Steps:

1. Calculate actual average profit: \(\left[\frac{\text { Total Profit }}{\text { No. of Years }}\right]\)
2. Capitalize the average profit on the basis of the normal rate of return:
   The capitalised value of actual average profit
   = Actual Average Profit × \(\frac{100}{\text { Normal Rate of Return }}\)
3. Find out the actual capital employed:
   Actual Capital Employed = Total Assets at their current value other than [Goodwill, Fictitious assets and non-trade investments] – Outside Liabilities.
4. Compute the value of Goodwill:
   Goodwill = Capitalised value of actual average profit – Actual Capital Employed.

(b) Capitalisation of Super Profit Method:
Steps:

1. Calculate Actual Capital Employed [same as above].
2. Calculate Super Profit [same as under Super Profit Method].
3. Multiply the Super Profit by the required rate of return multiplier:
   Goodwill = Super Profit × \(\frac{100}{\text { Normal Rate of Return }}\)

Treatment of Goodwill:
To compensate old partners for the loss (sacrifice) of their share in profits, the incoming partner, who acquire his share of profit from the old partners brings in some additional amount termed as a share of goodwill.
Goodwill, at the time of admission, can be treated in two ways:

1. Premium Method
2. Revaluation Method.

1. Premium Method:
The premium method is followed when the incoming partner pays his share of goodwill in cash. From the accounting point of view, the following are the different situations related to the treatment of goodwill:

(a) Goodwill (Premium) paid privately (directly to old partners)
[No entry is required]

(b) Goodwill (Premium) brought in cash through the firm
1. Cash A/c or Bank A/c Dr.
To Goodwill A/c
(For the amount of Goodwill brought by new partner)

2. Goodwill A/c Dr.
To Old Partner’s Capital A/c
(For the amount of Goodwill distributed among the old partners in their sacrificing ratio)

Alternatively:
1. Cash A/c or Bank A/c Dr.
To New Partner’s Capital A/c (For the amount of Goodwill brought b> a new partner)

2. New Partner’s Capital A/c Dr.
To Old Partner’s Capital A/c’s (For the amount of Goodwill distributed among the old partners in their sacrificing ratio)

3. If old partners withdrew goodwill (in full or in part) (if any)
Old Partner’s Capital A/c’s Dr.
To Cash A/c or Bank A/c
(For the amount of goodwill withdrawn by the old partners)

When goodwill already exists in books:
If the goodwill already exists in the books of firms and the incoming partner brings his share of goodwill in cash, then the goodwill appearing in the books will have to be written off.

Old Partner’s Capital A/c’s Dr.
To Goodwill A/c
(For Goodwill written-off in old ratio)

After the admission of the partner, all partners may decide to maintain the Goodwill Account in the books of accounts.
Goodwill A/c Dr.
To All Partner’s Capital A/c’s (For Goodwill raised in the new firm after admission of a new partner in new profit sharing ratio)

2. Revaluation Method:
If the incoming partner does not bring in his share of goodwill in cash, then this method is followed. In this case, the goodwill account is raised in the books of accounts. When goodwill account is to be raised in the books there are two possibilities:
(a) No goodwill appears in books at the time of admission.
(b) Goodwill already exists in books at the time of admission,

(a) No goodwill appears in the books:
Goodwill A/c Dr.
To Old Partner’s Capital A/c’s (For Goodwill raised at full value in the old ratio)
If the incoming partner brings in a part of his share of goodwill. In that case, after distributing the amount brought in for goodwill among the old partners in their sacrificing ratio, the goodwill account is raised in the books of accounts based on the portion of premium not brought by the incoming partner.
Example: X and Y are partners sharing profits in the ratio of 3: 2.

They admit Z as a new partner. \(\frac{1}{4}\)th share. The sacrificing ratio of X and Y is 2: 1. Z brings Rs. 12,000 as goodwill out of his share of Rs. 18,000. No goodwill account appears in the books of the firm.
Answer: Journal

(b) When goodwill already exists in the books
1. When the value of goodwill appearing in books is equal to the agreed value:
[No Entry is Required]

2. If the value of goodwill appearing in the books is less than the agreed value:
Goodwill A/c Dr.
To Old Partner’s Capital A/c’s (For Goodwill is raised to its agreed value)

3. If the value of goodwill appearing in the books is more than the agreed value:
Old Partner’s Capital A/c’s Dr.
To Goodwill A/c
(For Goodwill brought down to its agreed value)

→ If partners, after raising Goodwill in the books and making necessary adjustments decide that the goodwill should not appear in the firm’s balance sheet, then it has to be written off.
All Partners’ Capital A/c’s Dr.
To Goodwill A/c (For Goodwill written off)

→ Sometimes, the partners may decide not to show goodwill account anywhere in books.
New Partner’s Capital A/c Dr.
To Old Partner’s Capital A/c (For adjustment for New Partner’s Share of Goodwill)

Hidden or Inferred Goodwill:
1. To find out the total capital of the firm by new partner’s capital and his share of profit.
Example: New partner’s capital for \(\frac{1}{4}\)th share is Rs. 80,000, the entire capital of the new firm will be
80,000 × \(\frac{4}{1}\) = Rs. 3,20,000

2. To ascertain the existing total capital of the firm: We will have to ascertain the existing total capital of the new firm by adding the capital (of all partners, including new partner’s capital after adjustments, if any excluding goodwill)
→ If assets and liabilities are given:
Capital = Assets (at revalued figures) – Liabilities (at revalued figures)

3. Goodwill = Capital from (1) – Capital from (2)
Generally, this method is used, when the incoming partner does not bring his share of goodwill in cash. Here, we find out the total goodwill of the firm. After that, we can find out the new partner’s share of goodwill and treat accordingly.

Adjustment for Accumulated (Undistributed) Profits and Losses:
1. For Undistributed Profits, Reserves etc.
(For distribution of accumulated profits and reserves to old partners in old profit sharing ratio)
General Reserves A/c Dr.
Reserve fund A/c Dr.
Profit and Loss A/c Dr.
Workmen’s Compensation Fund A/c Dr.
To Old Partner’s Capital A/c’s
(For distribution of accumulated profits and reserves to old partners in old profit sharing ratio)

2. For Undistributed Losses:
Old Partner’s Capital A/c’s Dr.
To Profit and Loss A/c
(For distribution of accumulated losses to old partners in old profit sharing ratio)

Revaluation of Assets and Reassessment of Liabilities: Revaluation of Assets and Reassessment of Liabilities is done with the help of ‘Revaluation Account’ or ‘Profit and Loss Adjustment Account’.

The journal entries recorded for revaluation of assets and reassessment of liabilities are following:
1. For increase in the value of an Assets
Assets A/c Dr.
To Revaluation A/c (Gain)

2. For decrease in the value of an Assets
Revaluation A/c Dr.
To Assets A/c (Loss)

3. For appreciation in the amount of Liability
Revaluation A/c Dr.
To Liability A/c (Loss)

4. For reduction in the amount of a Liability
Liability A/c Dr.
To Revaluation A/c (Gain)

5. For recording an unrecorded Assets
Unrecorded Assets A/c Dr.
To Revaluation A/c (Gain)

6. For recording an unrecorded Liability
Revaluation A/c Dr.
To Unrecorded Liability A/c (Loss)

7. For the sale of unrecorded Assets
Cash A/c or Bank A/c Dr.
To Revaluation A/c (Gain)

8. For payment of unrecorded Liability
Revaluation A/c Dr.
To Cash A/c or Bank A/c (Loss)

9. For transfer of gain on Revaluation if the credit balance
Revaluation A/c Dr.
To Old Partner’s Capital A/c’s (Old Ratio)

10. For transfer of loss on Revaluation if debit balance
Old Partner’s Capital A/c’s Dr.
To Revaluation A/c (Old Ratio)

Adjustment of Capitals:
1. When the new partner brings in proportionate capital OR On the basis of the old partner’s capital.
(a) Calculate the adjusted capital of old partners (after all adjustments)

(b) Total capital of the firm
= Combined Adjusted Capital × Reciprocal proportion of the share of old partners

(c) New Partner’s Capital
= Total Capital × Proportion of share of a new partner.

2. On the basis of the new partner’s capital:
(a) Total Capital of the firm = New Partner’s Capital × Reciprocal proportion of his share.
(b) Distribute Total Capital in New Profit Sharing Ratio.
(c) Calculate adjusted capital of old partners.
(d) Calculate the difference between New Capital and Adjusted Capital.

1. If the debit side of the Capital Account is bigger then it means he has excess capital
   Partner’s ( capital Accounts Dr.
   To Cash A /c or Bank A/c or Current A/c
2. If the credit side is bigger then it means that he has short capital
   Cash A/c or Bank A/c or Current A/c Dr.
   To Partner’s Capital A/cs

Change in Profit Sharing Ratio among the Existing Partners:
Sometimes the existing partners of the firm may decide to change their profit sharing ratio. In such a case, some partner will gain in future profits and some will lose. Here the gaining partners should compensate the losing partners unless otherwise agreed upon. In such a situation, first of all, the loss and gain in the value of goodwill (if any) will have to adjust.
1. Goodwill A/c Dr.
To Partner’s Capital A/c’s (For raising the amount of Goodwill in old ratio)

2. Partner’s Capital A/c’s Dr.
To Goodwill A/c
(For writing off the amount of Goodwill in New Profit sharing ratio)

Alternatively:
Gaining Partner’s Capital A/c’s Dr.
To Losing Partner’s Capital A/c’s (For adjustment due to change in profit sharing ratio)

By going through these CBSE Class 12 Accountancy Notes Chapter 2 Accounting for Partnership: Basic Concepts, students can recall all the concepts quickly.

Accounting for Partnership: Basic Concepts Notes Class 12 Accountancy Chapter 2

Due to the limitation of sole-tradership regarding limited capital, limited managerial abilities, the low scale of business, involves more risk due to unlimited liability, tie need of partnership arises. A partnership is a relation of mutual trust and faith. There are certain peculiarities in ” the accounts of partnership firm than those are prepared in the sole tradership firm. The main peculiarities regarding the accounting of partnership firms are maintenance of the capital accounts of partners, distribution of profits to the partners, etc.

Meaning of Partnership:
The partnership is an agreement written/oral between two or more persons who have agreed to do some lawful business and to share profit ! or loss arising from the business.

According to the Indian Partnership Act, 1932, Section 4
“Partnership 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.”

In partnership, two or more persons join hands to set up a business and share its profit and losses.

Persons who have entered into a partnership with one another are called individually partners and collectively ‘a firm’, and the name under which their business is carried on is called the ‘firm name’. A partnership firm is not a separate legal entity apart from the partners constituting it.

There must be a minimum of two persons to form a partnership firm, according to the Indian Partnership Act, 1932, but it does not specify the maximum number of partners. In this issue Section 11 of the Companies Act, 1956 limits the number of partners to 10 for a partnership carrying on banking business and 20 for a partnership carrying on any other type of business.

Features of Partnership
1. Two or More Persons: There must be a minimum of two persons to form a partnership firm, according to the Indian Partnership Act, 1932, but it does not specify the maximum number of partners. In this issue Section 11 of the Indian Companies Act, 1956 limits the number of partners to 10 (ten) for a partnership carrying on banking business and 20 (twenty) for a partnership carrying on any other type of business.

2. Agreement: Partnership comes into existence on account of an agreement among the partners, and not from status or operations of law. The agreement becomes the basis of the relationship between the partners. It may be written or oral. It may be for a fixed period or for a particular venture or at will.

3. Business: A partnership can be formed for the purpose of carrying on some lawful business with the intention of earning profits. Mere co-ownership of a property does not amount to a partnership.

4. Mutual Agency: The partnership business may be carried on by all the partners or any of them acting for all. This statement means that every partner is entitled to participate in the conduct of the affairs of its business and there exists a relationship of mutual agency between all the partners.

Partners are agents as well as principals for all other partners. Each partner can bind other partners by his acts and also is bound by the acts of other partners with regard to the business of the firm. Relationship of the mutual agency is so important feature of partnership that one can say that there would be no partnership if this feature is absent,

5. Sharing of Profit: The agreement between the partners must be to share the profits (or losses). Though the definition of partnership, according to Partnership Act, describes the partnership as the relationship between people who agree to share the profits of a business, the sharing of loss is implied. If some persons join hands for the purpose of some charitable activity, it will not be termed as a partnership.

6. Liability of Partnership: The liability of partnership is unlimited. Each partner is liable jointly with all the other partners and also individually to the third party for all the acts of the firm done while he is a partner.

Partnership Deed:
A partnership is formed by an agreement, it is essential that there must be some terms and conditions agreed upon by all the partners. These terms and conditions or Agreements may be written or oral. Though the Partnership Act does not expressly require that there should be an agreement in writing. But in order to avoid all misunderstandings and disputes, it is always the best course to have a written agreement duly signed and registered under the Act.

A document in writing which contains the terms of agreement for the partnership is called ‘Partnership Deed’. This document contains the details about all the aspects affecting the relationship between the partners including the objectives of the business, the contribution of capital by each partner, ratio in which the profit and losses will be shared by the partners, and entitlement of partners to interest on capital, interest on the loan, etc. The clauses of the partnership deed can be altered with the consent of all the partners.

Contents of Partnership Deed:

1. Names and Addresses of the firm and its main business.
2. Names and Addresses of all partners.
3. Amount of capital contributed or to be contributed by each partner.
4. The accounting period of the firm.
5. Date of commencement of partnership firm.
6. Rules regarding operations of a bank account.
7. Profit and loss sharing ratio.
8. Duration of partnership, if any.
9. Rate of interest on capital, loan, drawings, etc.
10. Salaries, commissions, etc., if payable to any partner(s).
11. The rights, duties, and liabilities of each partner.
12. Mode of auditor’s appointment, if any.
13. Rules to be followed in case of admission, retirement, death of a partner.
14. Rules to be followed in case of insolvency of one or more partners.
15. Settlement of accounts on the dissolution of the firm.
16. Rules for the settlement of disputes among the partners.
17. Safe custody of the books of accounts and other documents of the firm.
18. Any other matter relating to the conduct of business.

Provisions Relevant for (Affecting) Accounting of Partnership:
Normally, the partnership deed covers all matters relating to the mutual relationship of partners amongst themselves. But if the partnership silent on certain matters, or in the absence of any deed, the provisions of the Indian Partnership Act, 1932 shall apply.

The important provisions affecting partnership accounts are:

1. Profit-Sharing Ratio: In absence of deed or agreement, according to the act, the profit-sharing ratio is equal i.e. the profit and loss of the firm are to be shared equally by the partners, irrespective of their capital contribution in the firm.
2. Interest on Capital: No interest on capital shall be allowed to the partners. In case the deed provides for payment of interest on capital but does not specify the rate, the interest will be paid at the rate of 6% p.a., only from the profits of the firm. It is not payable if the firm incurs losses during the period.
3. Interest on Drawings: No interest is to be charged on drawings.
4. Interest on Loan, Advances: If any partner, apart from his capital, provides a loan to the firm, he is entitled to get interested at the rate of 6% per annum. Such interest shall be paid even if there a losses to the firm.
5. Remuneration to Partners: No partner is entitled to any salary or commission for participating in the business of the firm.

Apart from the above, the Indian Partnership Act specifies that subject to a contract between the partners:

• If a partner derives any profit for himself/herself from any transaction of the firm or from the use of the property or business connection of the firm or the firm name, he/ she shall account for the profit and pay it to the firm
• If a partner carries on any business of the same nature as and competing with that of the firm, he/she shall account for and pay to the firm, all profit made by him/her in that business.

Maintenance of Capital Accounts of Partners:
There are two methods by which the capital accounts of partners are maintained. They are the following:
(a) Fixed Capital Method
(b) Fluctuating Capital Method

(a) Fixed Capital Method: Under the fixed capital method, the capitals of the partner shall remain fixed or unaltered unless some additional capital is introduced or some amount of capital is withdrawn with the consent of all the partners.

In this method, two accounts for each partner are to be maintained:

1. Capital Account
2. Current Account.

1. Capital Account: This account is credited with the amount of capital introduced by the partner. This account will continue to show the same balance from year to year unless some amount of capital is introduced or withdrawn. This account always appears on the liabilities side in the balance sheet.

2. Current Account: All entries relating to drawings, interest on capital, interest on drawings, salary or commission, the share of profit or loss, etc. are made in this account. This account is debited with drawings, interest on drawings, the share of loss, etc. and credited with the interest on capital, salary, commission, the share of profit, etc. The balance of this account will fluctuate from year to year. If it has a credit balance then it will appear on the liabilities side of the Balance Sheet and if it has a debit balance then it will appear on the assets side of the Balance Sheet.

The format of the Capital Account and Current account are as follows:


(b) Fluctuating Capital Method: Under this method, only one account i.e. Capital Account is maintained for each partner. All the entries relating to the interest on capital, salary, commission to partners, the share of profit and loss, drawings, interest on drawings, etc. are directly recorded in the capital accounts of the partners. The balance of this account fluctuates from year to year. The format of Fluctuating Capital Account is as follows:

Partner’s Capital Account

Difference between Fixed and Fluctuating Capital Accounts


Profit and Loss Appropriation Account:
In partnership, net profit after adjustment of partner’s interest on capital, salary, and commission to partner’s, interest on drawings, etc. is distributed among the partners in the agreed profit sharing ratio. For this purpose, a separate account is prepared called Profit and Loss Appropriation Account.

It is merely an extension of the Profit and Loss Account. All adjustments in respect of partner’s commission and salary, interest on capital and on drawings, etc. are made through this account. It starts with the net profit/net loss as per the Profit and Loss Account is transferred to this account.

Journal Entries relating to Profit and Loss Appropriation Account:
1. Transfer of Net Profit/Net Loss as per Profit and Loss Account to Profit and Loss Appropriation Account:
(a) If Profit:
Profit and Loss A/c Dr.
To Profit and Loss App. A/c

(b) If Loss:
Profit and Loss App. A/c Dr.
To Profit and Loss A/c

2. Interest on Capital:
(a) For crediting interest on capital to partner’s Capital/Current
Account:
Interest on Capital A/c Dr.
To Partner’s Capital A/c or Current A/c (Individually)

(b) For transferring interest on Capital to Profit and Loss Appropriation A/c:
Profit and Loss App. A/c Dr
To Interest on Capital A/c OR

Only one entry may be passed in place of the above two entries:
Profit and Loss Appropriation A/c Dr.
To Partner’s Capital/Current A/c (Individually)

3. Interest on Drawings:
(a) For charging interest on drawings to partner’s Capital/ Current A/c:
Partners Capital/Current A/c (Individually) Dr.
To Interest on Drawings A/c

(b) For transferring interest on drawings to Profit and Loss Appropriation Account:
Interest on Drawings A/c Dr.
To Profit and Loss Appropriation A/c OR

Only one entry may be passed in place of the above two entries:
Partner’s Capital/Current A/c (Individually) Dr.
To Profit and Loss Appropriation A/c

4. Salary to Partner(s):
(a) For crediting partner’s salary’ to partner’s Capital/Current A/c:
Salary to Partner A/c Dr.
To Partner’s Capital /Current A/c (Individually)

(b) For transferring partner’s salary to Profit and Loss Appropriation A/c:
Profit and Loss Appropriation A/c Dr.
To Salary to Partner A/c OR

Only one entry may be passed in place of the above two entries:
Profit and Loss Appropriation A/c Dr.
To Partner’s Capital/Current A/c (Individually)

5. Commission to Partner(s):
(a) For crediting partner’s commission to partner’s Capital/ Current A/c:
Commission to Partner A/c Dr.
To Partner’s Capital/Current A/c (Individually)

(b) For transferring partner’s commission to Profit and Loss Appropriation A/c:
Profit and Loss Appropriation A/c Dr.
To Commission to Partner A/c OR

Only one entry may be passed in place of the above two entries:
Profit and Loss Appropriation A/c Dr.
To Partner’s Capital/Current A/c (Individually)

6. Share of Profit/Loss after adjustments:
(a) If Profit
Profit and Loss Appropriation A/c Dr.
To partner’s Capital/Current A/c (Individually)
OR
(b) If Loss:
Partner’s Capital/Current A/c (Individually) Dr. To Profit and Loss Appropriation A/c
Format of Profit and Loss Appropriation Account is given below:
Profit and Loss Appropriation Account

Interest on Capital:
Interest on Capital is generally provided for in two situations:

1. When the partners contribute unequal amounts of capital but share profits equally.
2. When the capital contribution is the same but profit sharing is unequal.
   Interest on Capital = Amount of Capital × \(\frac{\text { Rate }}{100}\) × Time

When there are both addition and withdrawal of capital by the partners during the financial year, the interest on capital can be calculated as:
1. On the opening balance of Capital A/c, interest is calculated for the whole year.
If the closing balance of the Capital A/c is given then we have to find the opening balance of Capital A/c:
Closing Capital + Drawings during the year + Interest on Drawing – Share of Profits – Salary to Partner – Commission
to Partner – Additional Capital = Opening Capital

2. On the additional capital brought in by any partner during the year, interest is calculated from the date of introduction of additional capital to the last day of the financial year

3. On the amount of capital withdrawn (other than usual drawings) during the year interest for the period from the date of withdrawal to the last day of the financial year is calculated and deducted from the total of the interest calculated under points (1) and (2) above.
Or
Drawing has been made then the amount deducted from the capital and interest is calculated on the balance amount.

The interest on capital is allowed only when there is profit during the financial year. No interest will be allowed on capital if the firm has incurred a net loss during the year. If the profit of the firm is less than the amount due to the partners as interest on capital, the payment of interest will be restricted to the number of profits. In other words, profit will be distributed in the ratio of interest on capital of each partner.

Interest on Drawings:
Drawings is the amount withdrawn, in cash or in-kind, for personal use by the partner(s). Interest on drawings is calculated with reference to the date of withdrawal.

The calculation of interest on drawings under different situations is shown as under:
(a) When Fixed Amount is Withdrawn Every Month/Quarter:
If the equal amount is withdrawn at equal intervals of times, interest on the drawing can be calculated by Monthly/Quarterly Drawing Methods. While calculating the time period, attention must be paid to whether the fixed amount was withdrawn on the first day (beginning) of the month, at the last day (end) of the month, middle of the month, at the beginning of the Quarter or at the end of Quarter. Depending upon the time period the interest on drawings can be calculated as follows:

When drawings are made:
1. At the beginning of each month of the financial year:
Interest on Drawings = Interest on Drawings = Total Drawings × \(\frac{\text { Rate }}{100} \times \frac{6^{1 / 2}}{12}\)
Here, time period is 6\(\frac{1}{2}\) months.

2. At the middle of each month of the financial year
Interest on Drawings = Total Drawings × \(\frac{\text { Rate }}{100} \times \frac{6}{12}\)
Here, time period is 6 months.

3. At the and of each month of the financial year:
Interest on Drawings = Total Drawings × \(\frac{\text { Rate }}{100} \times \frac{5^{1 / 2}}{12}\)
Here, time period is 5\(\frac{1}{2}\) months.

4. At the beginning of the eaclr quarter of the financial year:
Interest on Drawings = Total Drawings × \(\frac{\text { Rate }}{100} \times \frac{7^{1 / 2}}{12}\)
Here, time period is 7\(\frac{1}{2}\) months.

5. At the end of each quarter of the financial year:
Interest on Drawings = Total Drawings × \(\frac{\text { Rate }}{100} \times \frac{4^{1 / 2}}{12}\)
Here, time period is 4\(\frac{1}{2}\) months.

(b) When Varying Amounts are Withdrawn at Different Intervals: When the partners withdraw different amounts of money at different time intervals, the interest is calculated using the production method. In this method, each amount of drawing is multiplied by the number of days/months (from the date of drawings to the last date of the financial year) to find out the product and then all the products are totaled. Here, the total product and interest for 1 month at the given rate are calculated.

Interest on Drawings = Total Drawings × \(\frac{\text { Rate }}{100} \times \frac{1}{12}\)
or
\(\frac{1}{365}\)

(c) When Dates of Withdrawal are Not Specified: When the total amount withdrawn is given but the dates of withdrawals are not specified, then it is assumed that the amount was withdrawn evenly throughout the year. Here, the time period is taken 6 months.
Interest on Drawings = Total Drawings × \(\frac{\text { Rate }}{100} \times \frac{6}{12}\)

Guarantee of Profit to a Partner:
Sometimes a partner may be guaranteed a minimum amount of profit by one or some or by all the partners in the existing profit sharing ratio or some other agreed ratio. The minimum guaranteed amount shall be paid to a partner when his share of profit as per the profit-sharing ratio is less than the guaranteed amount.

The following steps may be followed in this case:

1. Calculate the share of profit of the partner who has been guaranteed a minimum amount of profit as per profit sharing ratio. If this amount is more than or equal to the amount guaranteed, no adjustment is required.
2. If the share of profit of that partner is less than the guaranteed amount, then we have to find out the difference between the guaranteed amount and the share of profit of that partner.
3. Then, we add this difference to the share of the profit of the partner and deduct the difference from the share of profit of other partners or partner who has guaranteed the amount in the agreed ratio.

Past Adjustments:
Sometimes, after making of final accounts and the distribution of profits among the partners, a few omissions or errors in the recording of transactions or the preparation of summary statements are found. These errors or omissions need adjustments for correction of their impact.

This error or omissions may relate to:

1. Interest on capital may have omitted or have been wrongly treated.
2. Interest in drawings may have been omitted.
3. Salary or commission payable has been omitted in the capital account of the partner.
4. The profit-sharing ratio has been changed from the past.
5. Interest in the partner’s loan has been omitted.

Instead of altering old accounts, necessary adjustments can be made either by:
(a) through ‘Profit and Loss Adjustment Account’
Or
(b) directly in the capital account of the concerned partners.

(a) Profit and Loss Adjustment Account:
1. For omission of Interest on Capital, Salaries to partner(s), Commission to partner, etc.
Profit and Loss Adjustment Account Dr.
To Partner’s Capital/Current A/c (Individually)

2. For omission of Interest on drawings etc
Partner’s Capital/Current A/c Dr.
To Profit and Loss Adjustment Account

3. Calculate the difference or balance of the Profit and Loss Adjustment Account and transfer it to the Capital/Current Accounts of partners in the profit-sharing ratio.
(a) If Profit (Credit balance):
Profit and Loss Adjustment A/c Dr.
To Partner’s Capital/Current A/c (Individually)
OR

(b) If Loss (Debit balance):
Partner’s Capital/Current A/c (Individually) Dr.
To Profit and Loss Adjustment A/c (b) Adjustment through a single entry or directly in the capital account of the concerned partner(s):

In this case, the following steps should be taken:

1. Calculate amount which should have been credited to each partner’s Capital/Current Account by way of (Interest on Capital + Salaries to Partner(s) + Commission to Partner(s) – Interest on Drawings etc.)
2. Distribute the amount calculated in step (1) in the current profit sharing ratio.
3. Calculate the difference between the above two steps for each partner (1) – (2)
   (-) Excess or (+) Short

Pass the following Journal entry:
Excess having Partner’s Capital A/c Dr.
To Short Partner’s Capital A/c

By going through these CBSE Class 12 Accountancy Notes Chapter 1 Accounting for Not for Profit Organisation, students can recall all the concepts quickly.

Accounting for Not for Profit Organisation Notes Class 12 Accountancy Chapter 1

There are certain institution or organization which are set-up not to earn a profit, but for providing service to its members and the public in general. The main aim of this institution or organization is rendering service to its members and the public, but not the profit as in the case of business. Such organization includes schools, hospitals, clubs, charitable institutions, religious organizations, trade unions, welfare societies, consumer-cooperatives, literary societies, etc.

These organizations or institutions are managed by a group of people known as trustees who are fully accountable to their members and the society for the utilization of funds and the objectives of the organization. So, they have to maintain proper accounts and financial statements in the form of the Receipt and Payment Account, Income and Expenditure Account, and the Balance Sheet. This financial statement helps them to keep track of their income and expenditure as well as fulfill the legal requirements for maintaining records.

Meaning of Not-For-Profit Organisation:
All trading and business organizations are profit organizations since their main objective is to earn profit. Not-For-Profit Organisations are those organizations whose main aim/objective is to rendering service to their members or the society at large and not the earning of profits.

These organizations refer to the organizations that are set up for the welfare of the society, as charitable institutions, which run without a profit motive. Their main aim is to provide services to its members or the society at large. The funds, raised by such organizations are represented as capital funds or general funds. The main source; of their income usually are subscriptions from their members, donations, grants, income from investment, etc.

These organization keeps the accounting records to meet the statutory requirements and controlling utilization of their funds. They usually prepare them at the end of the financial year to ascertain their income and expenditure and the financial position of the organization and submit them to the statutory authority i.e. Registrar of Societies.

Characteristics of Not-For-Profit Organisation:
1. Service Motive: The main motive of these organizations is service motive. They provide service either free of cost or at a nominal cost and not to earn profit. These are formed for rendering service to a specific group or society at large such as education, health care, recreation, sports, and so on without any consideration of caste, creed, and color.

2. Organisation: Not-For-Profit Organisations are organized as charitable trusts or societies. The subscribers to such trust or societies are called its members.

3. Management: The affairs of Not-For-Profit Organisations are normally managed by a managing committee or executive committee. These committees are elected by their members or subscribers.

4. Source of Income: The main source of income of these organizations are:

1. Subscriptions from members
2. Life-membership fees
3. Endowment fund
4. Donations
5. Legacies
6. Grant-in-aid
7. Income from investments etc.

5. Capital Fund or General Fund: The funds raised by Not-For-Profit Organisations through various sources are credited to capital funds or general funds.

6. Surplus Added to Capital Fund: The surplus generated in the form of excess income over expenditure is simply added to the capital fund or general fund. It is not distributed amongst the members as in trading or business organization.

7. Goodwill: The Not-For-Profit Organisation earn their reputation or goodwill on the basis of their contribution to the welfare of the society rather than on the customers’ satisfaction or owner’s satisfaction.

8. Accounting Records: The accounting records of these organizations are totally different from the trading or business organization. They are not prepared financial statements like Trading Account and Profit and Loss Account, instead, they prepare Receipts and Payment Account and Income and Expenditure Account. The preparation of the Balance Sheet is the same in both organizations.

9. Statutory Requirement: The accounting information provided by such organizations is meant for the present and potential contributors to meet the statutory requirements.

Accounting Records of Not-For-Profit Organisations:
As we know that Not-For-Profit Organisations are not engaged in any trading or business activity normally. Their main source of income is subscriptions/donations, financial assistance or grant from the government, etc. Most of their transactions are in form of cash or through the bank. These organizations are required by law to keep proper accounting records and keep proper control over the utilization of their funds.

For maintaining accounting records these organizations usually keep a cash book to record all receipts and payments and maintain ledger accounts of all income, expenses, assets, and liabilities. In addition, they maintain a stock register to keep records of all fixed assets and consumables.

In place of the capital account, they maintain a capital fund or general fund that goes on increases due to surpluses, life membership fees, donations, legacies, etc. received from year to year.

Final Accounts or Financial Statements of Not-For-Profit Organisations:
As they are non-profit making entities, so they are not required to make Trading and Profit and Loss Account but instead of these accounts to know whether the income during the year was enough to meet the expenses or not they prepare:

1. Receipts and Payment Account,
2. Income and Expenditure Account, and
3. Balance Sheet.

For the preparation of these financial statements, the general principles of accounting are fully applicable. The statements provide the necessary financial information to members, donors, and to the Registrar of Societies.

Along with all these, Not-For-Profit organizations also prepare a trial balance for checking the accuracy of ledger accounts. The trial balance also facilitates the preparation of an accurate Receipt and Payment Account as well as the Income and Expenditure Account and the Balance Sheet.

Receipts and Payment Account:
A Receipts and Payments Account is a summary of cash A transactions. It is prepared at the end of the accounting period from the cash receipts journal and cash payment journals.

“Receipts and Payment Account is nothing more than a summary of the cash book (Cash and Bank transactions) over a certain period, analyzed and classified under the suitable heading. It is the form of account most commonly adopted by the treasurers of societies, clubs, associations, etc. When preparing the results of the year’s working.” – William Pickles

In ‘other words, the Receipt and Payment Account simply is a summary of cash and bank transactions under various heads. On the debit side, it begins with an opening balance of cash and bank and records all the items of receipts irrespective of whether they are of capital or revenue nature or whether they pertain to the current or past or future accounting periods.

The payments are recorded on the credit side without making any distinction between items of revenue and capital nature and whether they belong to the current or past or future accounting period(s). It may be noted that this account does not show any non-cash item like depreciation.

At the end of the period, this account is balanced to ascertain the balance of cash in hand or cash at the bank. The annual totals of various items of receipts and payments are found from their respective accounts in the ledger or from the cash book and are then entered in the Receipts and Payment Account.

Salient Features of Receipts and Payment Account:
1. Real Account: It is a real account, so the rule of a real account i.e. ‘Debit what comes in and credit what goes out, is followed. Thus receipts are recorded on the Debit side and the payments are recorded on the Credit side.

2. Summary of the Cash Book: It is a summary of the cash book. Its form is similar to cash book (without discount and bank column) with debit and credit sides.

3. Shows amount irrespective of period: It shows the total amount of all receipts and payments irrespective of the period to which they pertain.

4. No distinction between nature (Capital or Revenue nature): It includes all receipts and payments whether they are of capital nature or of revenue nature.

5. No distinction between the mode of the transaction (Cash or Bank): No distinction is made in receipts/payments made in cash or through the bank. With the exception of the opening and closing balances, the total amount of each receipt and payment is shown in this account.

6. Do not show non-cash items: Non-cash items like depreciation, outstanding expenses, accrued income, etc. are not shown in this account.

7. Opening and closing balances: The opening and closing balance in its respective mean cash in hand or cash at a bank in the j beginning and at the end. The balance of receipts and payment account must be debit being cash in hand or cash at the bank unless there is a bank overdraft.

8. Does not reflect net income or net loss: Thir account does not tell us whether the current income exceeds the current expenditure or vice versa or in other words, it does not give any information of net 1 income or a net loss.

Steps in the prepare ion of Receipt and Payment Account:
1. Put the opening balance of cash in hand and cash at the bank at the beginning on the Receipt side. If there is a bank overdraft at the beginning, but the same in the Payment side of the account.

2. Enter the total amounts of all receipts (either cash or cheque) in the Receipt side (Dr. side) irrespective of their nature, (whether capital or revenue) and whether they pertain to past, present, and future periods.

3. Enter the total amounts of all payments (either cash or cheque) in the Payment side (Cr. side) irrespective of their nature (whether capital or revenue) and whether they pertain to past, present, and future periods.

4. Do not enter the non-cash item like depreciation, outstanding expenses, accrued income, etc.

5. Find out the difference between the total debit side and the total credit side of the tired account and enter the same on the credit side as the closing balance of cash or bank balances.

But, if the total of credit side is more than of debit side, show the difference on the debit as bank overdraft and close the account.

Examples of Important Receipts and Payments Items:

Format of Receipts and Payments A/c:


There will be either of the two amounts i.e. cash at a bank or bank overdraft, not both.

Limitations of Receipts and Payments Account:

1. It does not show expenses and incomes on an accrual basis.
2. It does not show whether the organization is able to meet its day-to-day expenses out of its income.

Income and Expenditure Account:
It is a nominal account of the Not-For-Profit Organisation equivalent to the profit and loss account of the trading concerns. The terms profit is substituted by the words excess of income over expenditure (surplus) and the loss is expressed as an excess of expenditure over income (deficit).

It reveals the surplus or deficit arising out of the organization’s activities during an accounting period. This account is prepared on an accrual basis and includes only items of revenue nature. All the revenue items relating to the current period are shown in this account, the expenses and losses on the expenditure side (debit side), and incomes and gains on the income side (credit side) of the account. It shows the net operating result in the form of surplus or deficit, which is transferred to the capital fund shown in the balance sheet.

Salient Features of Income and Expenditure Account:
1. Nominal Account: It is a nominal account, therefore the rule of nominal account i.e. “Debit all expenses and losses and credit all incomes and gains” is followed.

2. Ignore Items of Capital Nature: In this account, only items of revenue nature are to be considered and all the items of capital nature should be ignored.

3. Prepare from Receipt and Payment Account: It is generally
prepared from a given Receipts and Payments Account and other information after making necessary adjustments.

4. No Opening and Closing Balances: In this account, no opening and closing balances of cash and bank are recorded.

5. Same as Profit and Loss Account: This account is prepared in the same manner in which a Profit and Loss Account is prepared, considering, all adjustments relating to the current year.

6. Exclude Past and Future Items: It excludes all the items of j income and expenditure which do not pertain to the current period.

7. End-balance of this Account: The end balance of the Income and Expenditure Account, which may be either ‘excess of income over expenditures’ or ‘excess of expenditure over income’ would be added to or deducted from, as the case may be, tire capital fund, on the liabilities side of the Balance Sheet.

Steps in the Preparation of Income Expenditure Account:

1. From the Receipts and Payments, the Account excludes the opening and closing balance of cash and bank as they are not an income.
2. Exclude the items of capital nature as these are to be shown in the balance sheet.
3. Take out the revenue receipts only for the current year to be shown on the income side of the Income and Expenditure Account. These are adjusted by excluded the amounts relating to the preceding and the succeeding periods and including the amounts relating to the current year not yet received.
4. Take out the revenue payments only for the current year to be shown on the expenditure side of the Income and Expenditure Account. These are adjusted by excluded the amounts relating to the preceding and the succeeding periods and including the amounts relating to the current year not yet paid,
5. Make the adjustments of non-cash items like:
   (a) Depreciation on fixed assets.
   (b) Provision for doubtful debts, if required.
   (c) Profit or Loss on sale of fixed assets etc.

For determining the surplus/deficit for the current year.

So, we can also prepare the Income and Expenditure Account with the help of the following methods after considering Receipt and Payment Account and information given:

Income and Expenditure Account for the year ended.

Format of Income and Expenditure Account Income and Expenditure Account for the year” ended.


The distinction between Income and Expenditure Account and Receipt and Payment Account


Balance Sheet:
Not-For-Profit organizations prepare a Balance Sheet at the end of an accounting period to ascertain the financial position of the organization. The preparation of their Balance Sheet is the same as that of the business or trading entities. It is prepared in the usual way showing assets on the ‘right-hand side’ and the liabilities on the ‘left-hand side. However, the term capital is not to be found.

Instead, there will be a capital fund or a general fund, or an accumulated fund, and the surplus or deficit as per Income and Expenditure Account shall be added to or deducted from this fund. Some capitalized items like legacies, entrance fees, and life membership fees directly (added) in the capital fund.

Sometimes it becomes necessary to prepare a Balance Sheet at the beginning of the year in order to find out the opening balance of the capital/general fund.

Steps in the Preparation of Balance Sheet:
1. Find out the Capital fund as per the Opening Balance Sheet and add surplus from the Income and Expenditure Account. Then, add capitalized items like legacies, entrance fees, and life membership fees, etc. received during the year.

2. Put all the fixed assets (from the opening balance sheet) with additions (from Receipts and Payments Account) after charging depreciation (as per Income and Expenditure Account), on the assets side of the balance sheet.

3. Compare items on the receipts side of the Receipts and Payments Account with the income side of the Income and Expenditure Account to find out the amounts of:
(a) Subscription due but not yet received,
(b) Income received in advance,
(c) Sale of fixed assets made during the year,
(d) Items to be capitalized etc.

4. Compare items on the payment side of the Receipts and Payments Account with the expenditure side of the Income and Expenditure Account to find out the amount of:
(a) Outstanding Expenses,
(b) Prepaid Expenses,
(c) Purchases of a fixed asset during the year,
(d) Depreciation on fixed assets,
(e) Stock of consumable items like stationery in hand,
(f) Closing balance of cash in hand and cash at bank etc.

Format of Balance Sheet:
Balance Sheet of……………………
as on…………………….

Some Important items relating to Not-For-Profit Organisations:
1. Subscription: It is the amount paid by the members of the organization periodically so that their membership is not canceled. This is the main source of income of Not-For-Profit Organisations.

Treatment:

1. The total amount of subscriptions received during the accounting period is shown on the receipt side (Dr. side) of the Receipt and Payment Account.
2. Subscription related to the current period shown in the income side (Cr. side) of Income and Expenditure Account. The amount of subscription to be shown in the Income and Expenditure Account is calculated as follows :
   Table Showing Calculation of Subscriptions
   
   or
   Subscription Account
   
3. Subscription Outstanding at the end of the year is shown on the assets side of the Balance Sheet and subscription received in advance in the current year for the next year is shown on ‘ the liabilities side of the Balance Sheet.

2. Donations: It is a type of gift in cash or in property received from some person, firm, or company. The donation can be for specific purposes or for general purposes. Both the donation received appears on the receipts side of the Receipts and Payments Account.
1. Specific Donations: If the amount received as the donation is for a specific purpose such as a donation for extension of the existing building, donation for the library, for construction of new computer laboratory, etc., it is capitalized and is shown in the liabilities side of Balance Sheet.

2. General Donations: Such donations are to be utilized to promote the general purpose of the organization. It is of two types:
(a) General Donation of Big Amount: It is shown on the liability side of the Balance Sheet because it is non-recurring in nature as the donations of huge amounts cannot be expected every year.
(b) General Donation of Small Amount: These are treated as revenue receipts as it is a regular source of income hence, it is taken to the income side of the Income and Expenditure Account of the current year.

3. Legacies: It is in the nature of a gift, received in cash or in the property as per the will of a deceased person. It is not treated as an income because it is not of recurring nature. Such receipts come very rarely and therefore it is of a capital nature and is shown on the liabilities side of the Balance §heet. It appears on the receipt side of the Receipts and Payments Account and is directly added to Capital Fund in the Balance Sheet. However, legacies of the small amount may be treated as income and show on the income side of the Income and Expenditure Account.

4. Life Membership Fees: In order to become a member of an organization for the whole of the life, some members pay the fee in lump sum i.e. once in their lifetime. It is a receipt of non-recurring nature since the members will not be required to pay the fees regularly. It is shown on the receipt side of the Receipt and Payment Account and added to the Capital Fund in the Balance Sheet. It should not be credited to the Income and Expenditure Account.

5. Entrance Fees: The entrance fee also known as the Admission Fee is paid only once the member at the time of becoming a member.
1. In the case of organizations like clubs and some charitable institutions, where the membership is limited and the amount of Entrance Fees is quite large. It is treated as a non-¬recurring item and added directly to Capital Fund in the Balance Sheet and also shows in the receipt side of the Receipt and Payment Account.

2. For some organizations like educational institutions the entrance fee is a regular income and the amount is quite small. So it is treated as the recurring item and shown in the income side of the Income and Expenditure Account. It is also shown on the receipt side by the Receipt and Payment Account.

From the examination point of view, if there is no specific instruction about Entrance Fees, it should be treated as Capital Receipt and directly added to Capital Fund in the Balance Sheet.

6. Sale of Old Assets: Receipt from the sale of the old asset appears in the receipt side of Receipt and Payment Account. Only the profit or loss on the sale of a fixed asset is credited or debited, as the case may be, to the Income and Expenditure Account. In the Balance Sheet, the book value of the asset sold should be deducted from the relevant asset.

7. Sale of Periodicals: Receipts from the sale of periodicals shown in the receipt side of Receipt and Payment Account. It is an item of recurring nature and shown in the income side of the Income and Expenditure Account.

8. Sale of Sports Materials: The sale of sports materials like old bats, old nets, etc. is a regular feature with any sports club. It is treated as revenue income on the assumption that their book value is zero. It is therefore shown in the income side of the Income and Expenditure Account. It is also shown on the receipt side of the Receipt and Payment Account.

9. Payment of Honorarium: It is the payment made to a person for his specific services rendered by him, not as a regular employee. This is an item of expense and is shown in the ‘debit or expenditure side’ of the Income and Expenditure Account.

10. Endowment Fund: “It is a fund arising from a bequest or gift, the income of which is devoted for a specific purpose. – Eric L. Kohler

Thus, Endowment Fund is a capital receipt and is shown on the liabilities side of the Balance Sheet.

11. Government Grant: Some organizations like schools, colleges, public hospitals, etc. depend upon Government grants for their activities.

It is shown on the receipt side of the Receipt and Payment Account:

1. The tie maintenance grant is a recurring grant. It is treated as a revenue receipt and shown on the income side of the Income and Expenditure Account.
2. Grants such as building grants are treated as capital receipts and transferred to the building fund account.
   Cash subsidy: Some Not-For-Profit Organisations receive cash subsidies from the Government or Government agencies. This subsidy is also treated as revenue income for the year in which it is received.

12. Special Funds: Not-For-Profit Organisation creates some special funds for a specific purpose such as ‘prize funds’, ‘match fund’ and ‘sports fund’ etc. The number of such hands is invested in securities and the income earned on such investment is added to the respective fund, not credited to the Income and Expenditure Account. Similarly, the expenses incurred on such a specific purpose are also deducted from the fund.

13. Stationery (or some consumable items): Expenses incurred on Stationery (or some consumable items) are charged to the Income and Expenditure Account.

If the opening or closing stock of stationery is given, then the amount of stationery consumed during the year will be shown in the Income and Expenditure Account and the closing stock in the Balance Sheet.

The calculation for Expenses for the Current Year

Total Amount Paid shown in Payment side of Receipt and Payment Account. Outstanding expenses at the end of the current year shown in the Liabilities side of the Balance Sheet and prepaid at the end shown in the Assets side of the Balance Sheet.

The calculation for Income for the Current Year

Total Amount Received shown in Receipt side of Receipt and Payment Account. Accrued income at the end of the current year shown in assets side of Balance Sheet and Income received in advance at the end of the current year shown in the liabilities side of Balance Sheet

Studying from CBSE Class 11th Accountancy Revision Notes helps students to prepare for the exam in a well-structured and organised way. Making Class 11 Accountancy Theory Notes Pdf saves students time during revision as they don’t have to go through the entire textbook. In CBSE Notes, students find the summary of the complete chapters in a short and concise way. Students can refer to the NCERT Solutions for Class 11 Accountancy, to get the answers to the exercise questions.

Accountancy Class 11 Notes| Theory Notes of Accountancy Class 11

Class 11 Accounts Notes: Financial Accounting Part 1

• Chapter 1 Introduction to Accounting Class 11 Notes
• Chapter 2 Theory Base of Accounting Class 11 Notes
• Chapter 3 Recording of Transactions 1 Class 11 Notes
• Chapter 4 Recording of Transactions 2 Class 11 Notes
• Chapter 5 Bank Reconciliation Statement Class 11 Notes
• Chapter 6 Trial Balance and Rectification of Errors Class 11 Notes
• Chapter 7 Depreciation, Provisions and Reserves Class 11 Notes
• Chapter 8 Bills of Exchange Class 11 Notes

Notes of Accounts Class 11: Financial Accounting Part 2

• Chapter 9 Financial Statements 1 Class 11 Notes
• Chapter 10 Financial Statements 2 Class 11 Notes
• Chapter 11 Accounts from Incomplete Records Class 11 Notes
• Chapter 12 Applications of Computers in Accounting Class 11 Notes
• Chapter 13 Computerised Accounting System Class 11 Notes
• Chapter 14 Structuring Database for Accounting Class 11 Notes
• Chapter 15 Accounting System Using Database Management System Class 11 Notes
• Chapter 16 Accounting for Not-for-Profit Organisation Class 11 Notes

We hope students have found these CBSE Class 11 Accountancy Theory Notes Pdf useful for their studies. If you have any queries related to NCERT Accounts Theory Notes Class 11, drop your questions below in the comment box.

Studying from CBSE Class 12th Accountancy Revision Notes helps students to prepare for the exam in a well-structured and organised way. Making Class 12 Accountancy Theory Notes Pdf saves students time during revision as they don’t have to go through the entire textbook. In CBSE Notes, students find the summary of the complete chapters in a short and concise way. Students can refer to the NCERT Solutions for Class 12 Accountancy, to get the answers to the exercise questions.

Accountancy Class 12 Notes| Theory Notes of Accountancy Class 12

Class 12 Accounts Notes Part 1 Not-for-Profit Organisation and Partnership Accounts

• Chapter 1 Accounting for Not for Profit Organisation Class 12 Notes
• Chapter 2 Accounting for Partnership: Basic Concepts Class 12 Notes
• Chapter 3 Reconstitution of Partnership Firm: Admission of a Partner Class 12 Notes
• Chapter 4 Reconstitution of Partnership Firm: Retirement/Death of a Partner Class 12 Notes
• Chapter 5 Dissolution of a Partnership Firm Accountancy Notes Class 12

Notes of Accounts Class 12 Part 2 Company Accounts and Analysis of Financial Statements

• Chapter 6 Accounting for Share Capital Theory of Accounts Class 12
• Chapter 7 Issue and Redemption of Debentures Class 12 Notes
• Chapter 8 Financial Statements of a Company Class 12 Notes
• Chapter 9 Analysis of Financial Statements Notes of Accounts Class 12
• Chapter 10 Accounting Ratios Accounts Class 12 Notes
• Chapter 11 Cash Flow Statement Class 12 Accounts Notes

We hope students have found these CBSE Class 12 Accountancy Theory Notes Pdf useful for their studies. If you have any queries related to NCERT Accounts Theory Notes Class 12, drop your questions below in the comment box.