Accounting (9-1) 0985 | Paper 2 Mock 01 | Structured Written Paper

(a) Interest on capital for each partner

Interest on capital is calculated on the opening balance at the start of the year, at 8% per annum.

Chen: 8% x $50 000 = $4 000 [1]

Devi: 8% x $40 000 = $3 200 [1]

Elsa: 8% x $30 000 = $2 400 [1]

The interest is calculated on the opening balances regardless of any capital changes during the year (Devi's additional capital on 1 October and Elsa's withdrawal on 1 January). The question specifies interest is on the balance at the start of the year.

(b) Profit and Loss Appropriation Account

Correct format. [1]

(c) Partners' Capital Accounts (columnar format)

Correct columnar format. [1]

Chen's capital is unchanged at $50 000. Devi's increased from $40 000 to $50 000 with the additional $10 000 introduced. Elsa's decreased from $30 000 to $25 000 after withdrawing $5 000.

(d) Difference between capital account and current account

The capital account records the long-term investment of each partner in the business. [1] It is not normally changed unless capital is specifically introduced or withdrawn by agreement. [1]

The current account records the day-to-day transactions between each partner and the business. [1] It includes the partner's share of profit, interest on capital, salary (if any), and drawings. It fluctuates regularly and can have either a credit or debit balance. [1]

(a) Four reasons for maintaining proper accounting records

1. To calculate the profit or loss made by the business over a given period, enabling the owner to assess business performance. [1]
2. To show the financial position of the business (its assets, liabilities, and capital) at any given date through a statement of financial position. [1]
3. To provide the information required for tax purposes and to comply with legal requirements, so the correct amount of tax can be calculated and paid. [1]
4. To help make informed business decisions, such as whether to expand, borrow, invest, or reduce costs, based on accurate financial data rather than guesswork. [1]

(b) Users of accounting information

(c) Difference between a sole trader and a partnership

A sole trader is a business owned and run by one person. The owner makes all business decisions independently and receives all the profits. [1]

The sole trader has unlimited liability, meaning personal assets (such as a home or savings) may be used to pay business debts if the business cannot. [1]

A partnership is a business owned by two or more people (typically up to 20) who share responsibilities, decision-making, profits, and losses according to the partnership agreement. [1]

A partnership is governed by a partnership agreement (or the Partnership Act in the absence of one), which sets out each partner's capital contribution, profit-sharing ratio, roles, and other terms. [1]

(d) Advantages and disadvantages of operating as a sole trader compared to a partnership

Advantages:

1. The owner keeps all the profits and does not have to share them with anyone. [1]
2. The owner has complete control over all business decisions without needing to consult or agree with partners. [1]

Disadvantages:

1. The owner has unlimited liability and bears all business risks alone; if the business fails, all debts fall on one person. [1]
2. It may be more difficult to raise capital compared to a partnership, where multiple partners can each contribute funds. The sole trader is limited to personal savings and borrowing. [1]

(a) Ratio calculations

(i) Gross profit margin

Gross profit margin = Gross profit / Revenue x 100

Business A: 80 000 / 200 000 x 100 = 40% [1]
Business B: 96 000 / 320 000 x 100 = 30% [1]

(ii) Net profit margin

Net profit margin = Net profit / Revenue x 100

Business A: 30 000 / 200 000 x 100 = 15% [1]
Business B: 38 400 / 320 000 x 100 = 12% [1]

(iii) Current ratio

Current ratio = Current assets / Current liabilities

Business A: 45 000 / 25 000 = 1.8 : 1 [1]
Business B: 72 000 / 48 000 = 1.5 : 1 [1]

(iv) Acid test ratio (quick ratio)

Acid test ratio = (Current assets - Inventory) / Current liabilities

Business A: (45 000 - 15 000) / 25 000 = 30 000 / 25 000 = 1.2 : 1 [1]
Business B: (72 000 - 24 000) / 48 000 = 48 000 / 48 000 = 1.0 : 1 [1]

(v) Return on capital employed (ROCE)

ROCE = Net profit / Capital employed x 100

Business A: 30 000 / 150 000 x 100 = 20% [1]
Business B: 38 400 / 240 000 x 100 = 16% [1]

(b) Profitability comparison

Business A has a higher gross profit margin (40% vs 30%), indicating it retains a greater proportion of each dollar of revenue after deducting the cost of goods sold. This could be due to better buying terms, higher selling prices, or a different product mix. [1]

Business A also has a higher net profit margin (15% vs 12%), showing that after all expenses are deducted, A converts more of its revenue into profit. This suggests better control of operating expenses relative to sales. [1]

Business A has a higher ROCE (20% vs 16%), meaning each dollar of capital invested generates a better return. For owners and investors, this is a key measure of how efficiently the business uses its resources. [1]

However, Business B generates higher absolute profit ($38 400 vs $30 000) and much higher revenue ($320 000 vs $200 000), suggesting a larger scale of operation that may offer growth potential. [1]

(c) Liquidity comparison

Business A has a higher current ratio (1.8:1 vs 1.5:1), indicating a stronger ability to meet its short-term obligations using its current assets. Both ratios are within the generally acceptable range, but A has a more comfortable margin. [1]

Business A also has a higher acid test ratio (1.2:1 vs 1.0:1). The acid test strips out inventory (which may not be quickly converted to cash), giving a more conservative view of liquidity. [1]

Business B's acid test ratio of exactly 1.0:1 means it can just barely cover its current liabilities from its liquid assets (cash and trade receivables), leaving no safety margin. [1]

Overall, Business A is in a stronger liquidity position. Business B may face difficulty if a large creditor demands immediate payment or if some receivables prove uncollectible. [1]

(d) Two limitations of using ratios for inter-business comparison

1. The businesses may use different accounting policies (for example, different depreciation methods or inventory valuation methods), which affect the figures and make direct comparison unreliable. [1]
2. Ratios are based on historical data and may not reflect the current trading conditions or future prospects of either business. A snapshot of one year may not represent the long-term trend. [1]

(a) Double entry for each transaction

Each transaction is recorded with a debit entry (the account receiving value or recording an expense) and a credit entry (the account giving value or recording income/liability).

Jan 1: Capital introduced increases both the bank asset and the owner's equity. Jan 3: Office equipment purchased reduces bank but creates an asset. Jan 5: Credit purchase creates an expense (purchases) and a liability (payable to S. Mensah). Jan 12: Credit sale creates an asset (receivable from T. Obi) and revenue. Jan 15: Paying the supplier clears the liability and reduces bank. Jan 22: Receiving payment from T. Obi clears the receivable and increases bank. Jan 28: Drawings reduce bank and represent the owner withdrawing resources for personal use.

(b) Trial Balance at 31 January 2025

After posting all transactions, the balances are calculated by netting each account's debits and credits.

Both totals equal $29,550, confirming the trial balance balances. [1]

Note that S. Mensah and T. Obi do not appear because their accounts were fully settled during the month (S. Mensah was paid in full on Jan 15; T. Obi paid in full on Jan 22).

(c) Why equal trial balance totals do not guarantee error-free books

Certain types of errors do not affect the agreement of the trial balance because they either affect both sides equally or affect neither side. [1]

Examples include: errors of omission (transaction entirely left out), errors of commission (posted to the wrong account of the same class), errors of original entry (wrong amount used for both debit and credit), errors of principle (posted to the wrong class of account but on the correct side), errors of reversal (debit and credit entries swapped), and compensating errors (two separate errors of equal value that cancel each other out). All of these leave the trial balance in agreement despite the books containing mistakes. [1]

(a) Meaning of a debenture

A debenture is a long-term loan made to a company, typically secured against the company's assets. [1]

It carries a fixed rate of interest (8% in this case) and has a specified repayment date (2030). The interest must be paid regardless of whether the company makes a profit. [1]

(b) Total debenture interest for the year

\( 8\% \times \$200\,000 = \$16\,000 \) [1] [1]

The full year's interest charge is calculated by applying the debenture rate to the face value of the debentures.

(c) Debenture interest owing at 31 December 2024

Total interest for the year: $16,000

Amount already paid (30 June 2024): $8,000

\( \text{Interest owing} = \$16\,000 - \$8\,000 = \$8\,000 \) [1] [1]

The $8,000 represents the second half-year's interest that has accrued but has not yet been paid.

(d) Journal entry to record the debenture interest owing

Narration: Debenture interest accrued for the half year to 31 December 2024. [1]

The debit to debenture interest records the expense in the income statement. The credit creates a current liability representing the amount owed.

(e) Classification in the statement of financial position

Debentures are non-current liabilities because they are not due for repayment until 2030. Interest owing is a current liability because it is due for payment in the short term. Share premium and general reserve both form part of equity.

(f) Two differences between raising finance by issuing shares and by issuing debentures

Difference 1: Shares give ownership rights in the company, including voting rights and a share of profits. [1] Debentures do not give ownership; the debenture holder is a creditor, not an owner. [1]

Difference 2: Debenture interest must be paid regardless of whether the company makes a profit, because it is a legal obligation. [1] Share dividends are only paid if the company has sufficient profits and the directors choose to declare them. [1]

(g) One advantage of using debentures rather than issuing more shares

The existing shareholders' ownership and control of the company is not diluted. [1] Issuing more shares would reduce each existing shareholder's percentage ownership and voting power. [1] Additionally, debenture interest is a business expense that reduces taxable profit, whereas dividends are paid from after-tax profit. [1]