Basic Concepts of Finance

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CAPITAL AND REVENUE EXPENDITURES AND RECEIPTS

Various transactions have to be analyzed whether they are Capital or Revenue transactions.

The Distinction is essential to decide whether a particular receipt is: a) Income or
b) Liability

Whether a particular expenditure is:
a) Expense or
b) Asset

Capital Receipt is shown on the liability side of the position statement. Revenue Receipt is shown on the Income side of Income statement.

Similarly,
Capital expenditure is shown on the asset side of the position statement. Revenue expenditure is shown on the expenditure side of the income statement.

EXPENDITURE Vs EXPENSES;

EXPENDITURE: defined as incurring a liability, disbursement of cash or transfer of property for the purpose of obtaining assets, goods and services.

EXPENSES: The Expense is a cost relating to the operations of an accounting period; expired portion of capital/deferred revenue expenditure and revenue expenditure adjusted for OUTSTANDING and PREPAID expenses.

Criterion for deciding whether a particular receipt or expenditure is revenue or capital are:

a) Recurringness of the transactions;
(Exceptions; Loss by fire, Purchase of a bicycle of Rs.800 for the clerical staff)

c) Effect on the Revenue Earning Capacity;
(Expenditure in the nature of Revenue maintaining activity is revenue expenditure and one in the nature of revenue enhancing activity is regarded as a capital expenditure.)

d) Relation of the transaction to an accounting period/periods. (An expenditure whose benefit expires in one accounting period is charged to Income statement. In contrast Expenditure, which is likely to give benefit over more than one accounting period, is called Capital expenditure.)

DEFERRED REVENUE EXPENDITURE:

Expenditure for which payment has been made or a liability incurred but which is carried forward on the presumption that it will be of benefit over a subsequent period.

Portion of deferred revenue expenditure to be written off in a particular accounting period is treated as an expense and transferred to P&L a/c. Portion not written off is recorded on ASSET side of the Balance Sheet

FINANCIAL STATEMENTS OF PROFIT- MAKING ENTITIES

FINAL ACCOUNTS OF TRADING ORGANISATIONS:

TRADING ACCOUNT

• PROFIT AND LOSS ACCOUNT
• BALANCE SHEET

COMPONENTS OF TRADING ACCOUNT:

OPENING STOCK

PURCHASES
PURCHASES RETURN
CLOSING STOCK
SALES
SALES RETURN
DIRECT EXPENSES (WAGES, FREIGHT OR CARRIAGE, FACTORY EXPENSES, POWER & FUEL ETC. TAXES ON PURCHASE AND MANUFACTURE OF GOODS)

ADVANTAGES OF TRADING ACCOUNT:
• PROVIDES INFORMATION ABOUT GROSS MARGIN
• INFORMATION ABOUT NET PURCHASES AND STOCK
• DIRECT EXPENSE RATIO
• EFFICIENCY OF SALES DEPARTMENT
• ANALYSIS OF STOCK

ALL EXPENSES AND LOSSES NOT TRANSFERRED TO TRADING ACCOUNT ARE RECORDED IN PROFIT AND LOSS ACCOUNT.THESE ARE CALLED INDIRECT EXPENSES AND INCLUDE:

OFFICE AND ADMINISTRATION EXPENSES

SELLING AND DISTRIBUTION EXPENSES

• FINANCIAL CHARGES
• MISCELLANEOUS EXPENSES

GAINS AND INCOMES ARE ALSO INCLUDED:

• RENT RECEIVED.
• DIVIDEND RECEIVED
• INTEREST RECEIVED
• DISCOUNT RECEIVED.
• BAD DEBTS RECOVERED

BALANCE SHEET

• A STATEMENT CONTAINING LEDGER BALANCES OF REAL AND PERSONAL ACCOUNTS.

• PORTRAYS FINANCIAL POSITION OF THE BUSINESS AT A POINT OF TIME.

• IT RECORDS ASSETS ON RIGHT HAND SIDE AND LIABILITIES AND CAPITAL ON LEFT HAND SIDE.

• THERE IS NO PRESCRIBED FORMAT OF BALANCE SHEET FOR NON-CORPORATE ENTITIES.

• ASSETS AND LIABILITIES ARE SHOWN IN THE ORDER OF LIQUIDITY OR PERMANENCE.

RELEVANT TERMS:

FIXED ASSETS AND CURRENT ASSETS

• TANGIBLE, INTANGIBLE AND FICTITIOUS ASSETS

• SHORT TERM AND LONG TERM LIABILITIES

• CONTINGENT ASSETS AND CONTINGENT LIABILITIES
• CAPITAL AND REVENUE EXPENDITURE
•...
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