Welcome to Departmental Accounts and Incomplete Records
In this chapter, we explore how businesses manage their finances when things get a bit more complex. Imagine you own a large store that sells both clothes and electronics. How do you know which section is making money and which isn't? That is where Departmental Accounts come in.
Then, we look at Incomplete Records. Sometimes, small business owners don't keep perfect accounting books—perhaps records were lost, or they only kept a simple cash book. We will learn how to play "accounting detective" to reconstruct their financial story from the clues left behind. Don't worry if this seems like a lot to take in; we will break it down step-by-step!
Part 1: Departmental Accounts
A business might divide itself into different departments (like "Clothing" and "Footwear") to monitor performance. The goal is to prepare a Statement of Profit or Loss that shows the results for each department separately, as well as for the business as a whole.
The Columnar Format
To see how each department is doing, we use a columnar format. Instead of one total column, the Statement of Profit or Loss has columns for Dept A, Dept B, and a Total column.
The top part of the statement (Trading Account) is usually easy because most businesses track specific Revenue (Sales) and Cost of Sales (Purchases) for each department. The tricky part is the "Other Operating Expenses."
Apportionment of Expenses
Some expenses belong clearly to one department (Direct Expenses). Others are shared by the whole building (Indirect Expenses). We must "apportion" (split) these shared costs using a fair basis. Common bases include:
1. Floor Area (Square Meters): Best for Rent, Rates, Heating, and Cleaning.
2. Value of Non-current Assets: Best for Depreciation and Insurance of equipment.
3. Number of Employees: Best for Staff Canteen costs or Staff Welfare.
4. Revenue (Sales): Best for Commission or Selling expenses if no other basis is available.
Example: If the total Rent is \( \$10,000 \) and Dept A occupies \( 60\% \) of the floor space, Dept A is charged \( \$6,000 \) (\( 10,000 \times 0.60 \)).
Quick Review: Why use Departmental Accounts?
• It identifies which departments are profitable.
• It helps management decide whether to close a failing department.
• It helps in setting targets for department managers.
Key Takeaway: Departmental accounts are all about organization. The biggest challenge is choosing the most logical way to split shared costs between columns.
Part 2: Incomplete Records
Many small traders do not use the full double entry bookkeeping system. They might only have a list of assets and liabilities at the start and end of the year, plus a bank statement. Our job is to use this "incomplete" data to find the Profit for the Year and create Financial Statements.
Method 1: The Net Worth (Capital) Comparison
If we know how much a business was worth at the start of the year and how much it is worth at the end, we can figure out the profit. Think of it like a balloon: if it got bigger, it’s because of profit; if it got smaller, it’s because of a loss (after adjusting for money put in or taken out).
The formula to find profit is:
\( \text{Closing Capital} + \text{Drawings} - \text{Capital Introduced} - \text{Opening Capital} = \text{Profit for the Year} \)
Memory Aid: Think of C-D-I-O (Closing + Drawings - Introduced - Opening).
Method 2: Using Control Accounts to find Sales and Purchases
Often, the "Revenue" or "Purchases" figure is missing. We can find these by recreating the Trade Receivables Control Account and Trade Payables Control Account.
To find Credit Sales:
\( \text{Closing Trade Receivables} + \text{Cash Received from Customers} + \text{Irrecoverable Debts} - \text{Opening Trade Receivables} = \text{Credit Sales} \)
To find Credit Purchases:
\( \text{Closing Trade Payables} + \text{Cash Paid to Suppliers} - \text{Opening Trade Payables} = \text{Credit Purchases} \)
Method 3: Using Ratios (Mark-up and Margin)
Sometimes you are told the profit percentage instead of the actual profit. You must know the difference between Mark-up and Margin.
Mark-up: Profit is calculated as a percentage of the Cost of Sales.
\( \text{Cost} \times (1 + \text{Mark-up}\%) = \text{Revenue} \)
Margin: Profit is calculated as a percentage of the Revenue (Sales).
\( \text{Revenue} \times (1 - \text{Margin}\%) = \text{Cost of Sales} \)
Example: If Cost is \( \$80 \) and Mark-up is \( 25\% \), the Profit is \( \$20 \) (\( 25\% \text{ of } 80 \)).
If Revenue is \( \$100 \) and Margin is \( 20\% \), the Profit is \( \$20 \) (\( 20\% \text{ of } 100 \)).
Common Mistakes to Avoid:
• Mixing up Margin and Mark-up: Always read the question carefully. "On cost" means Mark-up; "On turnover" or "On sales" means Margin.
• Forgetting Drawings: In incomplete records, the owner often takes cash or goods for personal use. These must be added back to capital or included in the calculation of missing figures.
Key Takeaway: Incomplete records require you to work backward. Use Control Accounts to find missing totals and apply Mark-up/Margin to find the Cost of Sales or Revenue.
Summary of Key Terminology
To score high marks, ensure you use IAS terminology as required by the Pearson Edexcel specification:
• Revenue: Instead of "Sales".
• Inventory: Instead of "Stock".
• Irrecoverable debts: Instead of "Bad debts".
• Statement of Financial Position: Instead of "Balance Sheet".
• Other Payables/Receivables: For accruals and prepayments.
Final Checklist for Exam Success
1. Departmental: Does my total column equal the sum of the individual departments?
2. Incomplete Records: Have I adjusted for opening and closing balances in my control accounts?
3. Ratios: Have I correctly used the Cost of Sales formula: \( \text{Opening Inventory} + \text{Purchases} - \text{Closing Inventory} \)?
4. Presentation: Are my Financial Statements in the standard International format?
Keep practicing! These topics are like puzzles—the more you solve, the faster you'll see where the missing pieces fit.