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(232)-REPORTING FINANCIAL PERFORMANCE

Reporting Financial Performance

The main abuse of SSAP related to the treatment of extraordinary items, particularly redundancy, reorganization and restructuring costs. Any such costs classified as extraordinary were excluded from the earnings per share number under SSAP/.

The treatment of extraordinary items was thus often “EPS-driven”.


Main charges

The main charges introduced by financial reporting standards include:

• Presentation in the profit and loss account
  

Items such as turnover, cost of sales, gross profit, operating expenses and operating profit are to be analyzed between, continue operations, discontinuing operations and exceptional items.

• Presentation and measurement of profit on disposal of fixed assets
  

This is particularly important for companies who incorporate fixed asset revaluations into the accounts.

• Treatment of extraordinary items
• Additional statements and notes
  

Statement of total recognized gains and losses, note of historical cost profits and losses, reconciliation of movement in shareholders’ funds.

• A change in the definition of earnings per share.
  

Earnings per share will in future be based on earnings after taking account of extraordinary items if they exist in the future.

• Implementation
  

The accounting standard burrow encourages companies to adopt financial reporting standard at the earliest opportunity.


Split between continuing and discontinuing operations


Financial reporting standards set out detailed criteria to be followed in deciding whether particular business disposals and terminations are to be regarded as “discontinued”. The standard also specifics the extent to which provisions can be set up in the balance sheet relating to the year prior to discontinuance.


This area of the standard is particularly complex and will apply mostly to large quoted groups which are regularly involved in acquisitions, disposals and business closures. As this part of financial reporting standards are concerned particularly with consolidated accounts.

(231)-EXTRAORDINARY ITEMS AND PRIOR YEAR ADJUSTMENTS

Extraordinary Items and Prior Year Adjustments

Prior Year Adjustments


Prior year adjustments are those material adjustments applicable to prior year arising from changes in accounting policies or from the correction of fundamental errors. They do not include normal recurring corrections or adjustments of accounting estimates made in prior years.

• Changes in accounting policy
  

Examples could include policy changes by a company regarding depreciation of building, deferred tax, goodwill or finance leases.

• Correction of fundamental errors
  

This refers to errors which are of such fundamental importance as to affect the true and fair view. Had the errors been recognised at the time they occurred, the financial statements would have been withdrawn and subsequently amended.


Reserve movements


the term "reserve movements" refers to items which are taken direct to reserves rather than passed through the profit and loss account. One purpose of SSAP was to restrict the use of reserve movements.

Reserve movements may be required or permitted in the following circumstances:

• Changes in value of investment properties
• Certain exchange differences required to be taken direct to reserves by SSAP
• immediate write-off against reserves
• amounts required by law to be charged direct to the share premium account
• Sale of previously revalued assets
  

Disclosure requirements of SSAP


SSAP made it very clear that the following items should be separately disclosed in the profit and loss account and dealt with in the following order;

• Profit and loss on ordinary activities
• Extraordinary profit or loss
• Profit or loss for the financial year
• Dividends and other appropriations
  

(230)-EXTRAORDINARY ITEMS AND PRIOR YEAR ADJUSTMENTS

Extraordinary Items and Prior Year Adjustments

The all-inclusive concept

SSAP was based on the all-inclusive concept whereby the profit and loss account reflected all profits and losses including extraordinary items.


Extraordinary items

Two key definitions:

• Extraordinary items are material items which derive from events or transactions that are outside the ordinary activities of the company and which are therefore expected not to recur frequently or regularly. They do not include exceptional items nor do they include prior year items merely because they relate to prior year.
• Ordinary activities are any activities which are usually, frequently or regularly undertaken by the company and any related activities in which the company engages in furtherance of, incidental to, or arising from those activities. They include, but are not confined to, the trading activities of the company.
  

Exceptional items


Exceptional items are material items which derive from events or transactions that fall within the ordinary activities of the company, and which need to be disclosed separately by virtual of their size or incidence if the financial statements are to give a true and fair view.


Illustrations of usual treatments for exceptional items


Subject to the business and the circumstances of the transaction, the following are example of items which would normally be treated as exceptional:

• Redundancy costs relating to continuing business segment
• Reorganization costs unrelated to the discontinuance of a business segment
• Previously capitalized expenditure on intangible fixed assets written off other than as part of a process of amortisation
• Amounts transferred to employee share schemes
• Profits or losses on the disposal of fixed assets
• Abnormal charges for bad debts and write-offs of stock and work in progress
• Abnormal provisions for losses on long-term contracts
• Surpluses arising on the settlement of insurance claims
• Amounts received in settlement of insurance claims for consequential loss of profits
  

A business segment is a material and separately identifiable component of the business operations of a company or group whose activities, assets and results can be clearly distinguished from the reminder of the companies activities. A business segment will normally its own separate product lines or markets.


Illustrations of usual treatments for extraordinary items


Subject to the nature of the business and the circumstances of the transaction, the following are examples of items that would normally be treated as extraordinary.

• The discontinuance of a business segment, either thought termination or disposal
• The sale of an investment not accurate with the intention of resale, such as investments in subsidiary and associated companies
• Profits or losses on the disposal of fixed assets
• Provision made for the payment diminution in value of a fixed assets, because of extraordinary events during the period
• The expropriation of assets
• A charge in the basis of taxation or significant charge in government fiscal policy

(229)-A CONCEPTUAL FRAMEWORK OF ACCOUNTING

A Conceptual Framework of Accounting

Introduction

The standard-setting process has proceeded for almost two decades in the absence of a conceptual framework underlying the preparation of periodic financial statements.

This has resulted in illegalities and inconsistencies in several of the accounting standards which have been produced. One particular attempt at setting a framework was the international accounting standards committee's exposure draft. This is referred to below in brief terms.

Main elements

The main elements in the international accounting standards committee's framework for financial statements are shown in the diagram below. Each of these statements in referred to briefly.

Objective of financial statements


The principle objective is to provide information about the financial position, performance and changes in financial position of an enterprise that is useful to a wide range of potential users in making economic decisions.


Qualitative characteristics of financial statements


The two characteristics which are of particular importance are relevance and reliability. Additional characteristics include comparison and timeliness.

Relevance to information needs users

• Reliability confidence of users will be increased if information is independently verified
• Comparability, users should be able to compare results with those of previous periods and with similar entities
• Timeliness, date of publication of the report should be soon after the end of the period to which the report relates.
  

Elements of the financial statements

• Relating to financial position - asset, liability, equity
• Relating to performance - income and expenses
• Recognition - criteria for determining when an item may be incorporated in the balance sheet or profit and loss account
• Measurement - measurement attributes include historical cost, current cost, realisable value, present value.

Concepts of capital and capital maintenance and the determination of profit

The paper refers to financial capital maintenance and physical capital maintenance.

(228)-ACCOUNTING FOR SUBSTANCE

Accounting for Substance

Substance over form

The principle of substance over form was introduced in international accounting standards.
International accounting standards refers to three fundamental accounting assumptions:

1. Going concern
2. Consistency
3. Accrual

International accounting standards further refers to three considerations that should be accounted for and presented in accordance with their substance and financial reality and not merely with their legal form.

Substance over form is defined as follows: “transactions and other events should be accounted for and presented in accordance with their substance and financial reality and not merely with their legal form”.

Accounting for substance

The concept of substance over form has now been replaced by the concept of accounting for substance. The incidence of so-called “creative accounting” has added increased urgency to the need to develop this concept.

That can be defined as follows: “accounting for transaction in accordance with its substance requires that its accounting treatment should fairly reflect its commercial effect”.

Reporting the substance of transaction proposes that “a reporting entity’s financial statements should report the substance of the transactions into which it has entered”.

Examples of accounting for substance

• Goods sold subject to reservation of title: legal title does not pass to the purchaser until the goods have been paid for. Nevertheless accounts are drawn up including the goods in stock with a corresponding creditor, in accordance with the commercial substance of the transaction.
• Fixed assets acquired under hire purchase contracts: legal title does not pass until the final installment is paid. Nevertheless the fixed asset is included in the balance sheet right from the start together with a corresponding creditor. Again this reflects the commercial substance of the transaction.
• Finance leases: a lessee may obtain the use of a fixed asset over its useful economic life by means of a financial lease contract. Although the lessee never actual obtains legal title the lessee has rights and obligation similar to those of an outright purchaser.

Further considerations

One particular point about the types of transactions that are caught within the accounting for substance was also referred to as follows:

Many transactions are straightforward and embody a number of standard rights and obligations with the result that the commercial effect and consequent accounting treatment are well known.
Some transactions, on the other hand, combine or divide up rights and obligations in ways that make it difficult to discuss their effect on the enterprise’s assets and liabilities.

The following are common features of transactions that combine or divide up rights and obligations:

• Severance of legal title to an item from the ability to enjoy the principle benefits and exposure to the principle risks associated therewith;
• Linkage of a transaction with one or more others in such a way that the commercial effect cannot be understood without reference to the series as a whole;
• Inclusion in the terms of a transaction of one or more options or conditions whose terms make it reasonably probable that the option will be exercised or the condition fulfilled.

Some more examples for accounting for substance

• Sale of goods with a commitment to repurchase: at first sight, a sale of goods might appear to be a trading transaction, with stock replaced by cash. However, the commercial effect is that the transaction is a financing transaction. The cash received should be regarded as receipt of a loan, not as sale of goods.
• Sale and leaseback: a sale and leaseback which involves a finance lease is effectively a financing transaction and both the asset and liability should appear on the balance sheet.
• Consignment stock: consignment stock arrangements are particularly common in the motor trade. Consignment stock is held by one party but legally owned by another on terms which give the holder the right to sell the stock in the normal course of his business or, at his option, to return it unsold to the legal owner.

(227)-VARIATIONS IN ACCOUNTING PRACTICE

Variations in Accounting Practice

The accounting standards programmed has sought to eliminate the scope for variations in accounting practices, both within company annual reports and between one company and another. Nevertheless there remains significant scope for variations. Some of the more common areas are referred to below.

Impact of fixed asset revaluations

Depreciation charges may be based on either historical cost or revalued amount.

Long term contracts

Where a particular contract of less than 12 months’ duration is accounted for as long-term may well be a matter of fine judgment.

In addition, for long-term contracts which are expected to be profitable, there are several acceptable ways of allocating profit over the life of the contract.

Group accounts matters

Business combinations which satisfy the merger conditions may be consolidated either on a merger accounting basis or an acquisition accounting basis.

Where foreign subsidiaries are translated using the closing rate/net investment method, profit and loss accounts items may be translated at either average rate or loosing rate.

Under acquisition accounting, there is scope for determining the extend to which provisions for losses and reorganization costs may be taken into account under the fair value exercise. A future standard is likely to restrict this scope significantly.

Extraordinary and exceptional items

Until there has been considerable scope for deciding whether particular reorganization costs should be treated as exceptional or extraordinary. However, a financial reporting standard effectively abolish extraordinary items and introduces significant changes in both accounting disclosures.

Intangible fixed assets

Goodwill- purchased goodwill may be eliminated against reserves are as soon as it arises. Alternatively it may be carried forward as an intangible fixed asset amortized over useful life.
Development costs which satisfy the criteria may be written off to profit and loss account as they arise. Alternatively they may be capitalized as an intangible fixed asset amortized over a period.

Deferred revenue expenditure

Certain borrowing costs may be capitalized as part of the cost of a fixed asset or they may be charged to profit and loss as incurred.

Pre-opening expenses relating to new hotels or store may be carried forward in the balance sheet and expenses over a period. Alternatively they may be written off as incurred.

Pension costs

Companies were offered a choice of radically different traditional provisions. The effect of this choice will last many years.

Post balance sheet events

Certain post balance sheet events which would normally be classified as non-adjusting may be treated as adjusting in special circumstances.

The above examples are many and varied but the list is by no means comprehensive. The purpose of the above is underlining the scope for significant variations in accounting practice between different companies.

(226)-FUNDAMENTAL ACCOUNTING CONCEPT

Fundamental Accounting Concepts

Disclose of accounting policies refers to four basic assumptions underlying the periodic financial statements of enterprises. The turn used to describe these broad assumptions is fundamental accounting concepts.

• Going concern concept
  This assumption that the enterprises will continue in operational existence for the foreseeable future. This means that there is no intention or necessary either to liquidate the entity or to curtail significantly its activities.
• Accruals concept
  Revenue is included in accounts when earned rather than when money is received. Costs are included when incurred rather than when paid. Revenues dealt with in the profit and loss account are then matched with associated costs in order to determined profit.
  Should the accruals concept conflict with the prudence concept, the prudence concept prevails.
• Consistency concept
  This assumes consistency of treatment of similar items within a particular accounting period as well as from one period to the next.
• Prudence concept
  Revenues and profits are not anticipated. They are recognized in the profit and loss account only when realized either in the form of cash or of other assets. Whose cash realization can be determined with reasonable certainty?
  Provision should be made for all known liabilities whether the amount of these is known with certainty or is a best estimate in the light of the information available.
  If financial statements are not drawn up on the basis of the above assumptions, the facts should be disclosed.

Future Assumptions and Principles

These are including:

• Entity assumptions
  This assumes that for accounting measurement purposes, the business is regarded as a separate entity quite apart from its owners or proprietors. A business is regard as owning the resources which it uses and as owing the claims against those assets. The assets and liability of the business are kept completely separate those relating to the owners.
• Money measurement assumptions
  This assumes that all assets liabilities and transitions can be quantified in monetary terms.
• Stable standard of measurement assumption
  Following on from, historical cost accounting assumes that transactions occurring over a period of time can be measured in terms of a single stable measuring unit $ dollars. The obvious weaknesses of this assumption lad to calls for some form of system of accounting for price changes
• Objectivity principle
  This principle requires accounting to be carried out on an objective and factual basis. However, subjective opinions and estimates play an important part in historical cost accounting. Example of subjectivity includes estimate lives of fixed assets and net realizable value of stock items.
• Dual aspect principle
  Every change in one element of an entity (assets, liabilities, equity) is accompanied by another change of a similar amount, but in an opposite direction. This principle underlies the basis of double-entry book-keeping.
• Substance over form
  Transactions should be accounted for and presented in accordance with their substance and financial reality and not merely with their legal form.

(225)-FINANCIAL STATEMENTS

Financial Statements

Terminology

The term “financial statements” is usually taken to include the balance sheet, profit and loss account and cash flow statement together with notes to the accounts. The term will include the additional statements and notes required by financial reporting standards (FRS).

Accounting conventions

1. Pure historical cost
   Financial statements some companies are usually prepared on the basis of the historical cost. This is taken to mean the monetary amount scarified or lay out at the date of acquisition. This basis is used both for asset measurement and profit measurement.
   2. Modified historical cost
   However, it is common for some companies to incorporate fixed assets valuations into their balance sheets. This means that under statement of standards accounting practice (SSAP) the depreciation charge will be based on the revalued amount. On a sale of the asset, the profit or loss on sale will be determined by comparing, proceeds of sale and net book value at the date of sale, based on revalued amount. The implementations of both these matters are important from the viewpoint of financial reporting standards (FRS).
2. Current cost accounting
   Some companies draw up their financial statements on a current cost basis. For example, electrical companies present current cost information.

(224)---SOME IMPORTANT LEGAL REQUIREMENTS IN FINANCIAL STATEMENTS

Some Important Legal Requirements in Financial Statements

• Terminology
  Accounting reference period (ARP), the period by reference to which the financial statements have to be prepared and presented to members. Accounting reference date (ARD), the date on which the Accounting reference period ends. Financial year (FY), the period covered by the statutory profit and loss account, whether or not this is a year.
• Accounting reference dates
  The companies Act introduced some changes to the rules. Ignoring transitional provisions companies must notify the register of companies of their Accounting reference date within nine months of incorporation.
• Accounting reference period
  The first Accounting reference period begins on the date of incorporation and ends on the Accounting reference date, and is a period of more than six months and less than 18 months. Succeeding Accounting reference periods will be for 12 months unless appropriate notice is given of a change of Accounting reference date.
• Financial year
  The financial year of a company will usually be the same as its Accounting reference period. However, to cover special situations, the financial year may begin or end on dates which are not more than seven days before or after the Accounting reference date.

Accounting Records

The companies Act required accounting records to;

1. Be sufficient to show and explain the company’s transactions
2. Disclosure with reasonable accuracy the company’s financial position at any time
3. Enable the directors to ensure that any accounts which they are required to prepare comply with companies Act.

The records must contain, entries from day to day of all sums of money received and expended and matters in respect of which the receipts and expenditure take place, a record of the company’s assets and liabilities, for a trading or merchant company dealing in goods.

(223)-PREPARATION OF ACCOUNTS AND FILLING REQUIREMENTS

Preparation of accounts and filling requirements

Form and content

Company Profit and loss accounts and balance sheets must comply with the company's act format requirements. These must be accompanied by notes which comply with the disclosure requirements of the company's act as well as the relevant standards.
In additionally to the accounts a director’s report is required
Large public limited companies which are quoted on stock exchange frequently provide more than the minimum required.

Approval and signing

Accounting for post balance sheet date events standard requires the date on which the directors approve the financial statements to be disclosed in the financial statements.
The company's act requires the balance sheet to be approved and signed on behalf of the board by a director.
The director’s report must be approved by the board of directors and signed on behalf of the board either by a director or by company secretary.

Audit

Every company must be audited by a registered auditor. The audit report must accompany the financial statements. Note that the audit requirement applies to unlimited companies and to company's limited by guarantee.

Filling

The directors are required to file with the registrar of companies a copy of the annual accounts, directors’ report and auditors report. This requirement does not apply to unlimited companies.
Special concessions are available to small and medium-sized companies. The directors of these companies may file abbreviated accounts.
There is a time limit for felling of accounts. Private companies within 10 months of the end of there reference period, public companies within seven months.

Summary financial statements

The general rule is that all shareholders and debenture holders must the sent a copy of the full accounts.

(222)-STOCK EXCHANGE DISCLOSURE REQUIREMENT

Stock exchange disclosure requirements

The international stock exchange requires the annual report and accounts of a listed company to disclose a large number of matters including the following

• a statement by the directors as to the reasons for any significant departures from applicable standard accounting practices
• An explanation, should trading results shown by the current period's accounts differ materially from any published fights forecast made by the company.
• A geographical analysis of net turnover and of contribution to trading results of those trading operations carried on outside the United Kingdom and Ireland.
• The name of the principal country in which each subsidiary operates.
• the following particulars regarding each company in which the group interest exceeds 20% of the equity capital
  (1) The country of operation
  (2) Particular of its issued capital and debt securities
  (3) The percentage of each class of debt securities attributable to the company's interest.
• A statement at the end of the financial year shoring as regards.
  (1) Bank loans and overdrafts
  (2) Other borrowing of the company/ group, the aggregate amounts payable
• A statement of the amount of Interest capitalized during the year together with an indication of the amount and treatment of any related tax relief.

a statement showing whether, so far as the directors are aware, the company is a close company for taxation purposes and whether there has been any change in that respect since the end of the financial year.

(221)-BALANCE SHEET DISCLOSURES IN COMPANY ACCOUNTS

Balance Sheet Disclosures in Company Accounts

• Fixed assets
  Unless indicate otherwise, the points below relate also to fixed asset investments and intangibles.
  1. Cost of valuation of each fixed asset category
  2. Cumulative depreciation for each fixed asset category
  3. For fixed asset included on a valuation basis
  4. Land and buildings analysis of NBV between freehold, long leasehold and short leasehold
  5. For fixed assets included at a valuation state, either aggregate cost or aggregate depreciation as would have been determined under historical cost rules; or difference between above and amounts actually includes in balance sheet under modified historical cost.
  6. If no record of original price or production cost of asset
  7. For investment properties
• Investments
• Significant shareholders
• Intangible fixed assets
• Stocks and long term contracts
• Debtors
• Creditors
• Taxation
• Dividends
• Provisions
  1. Where amounts transferred to any provision for liabilities and charges
  2. Where amounts are transferred from any provision for liabilities and charges except for purpose for which provision was established
  3. Other provisions where amounts are material
• Guarantees and other financial commitments
• Share capital
• Reserves
• Loans for acquisition of own shares
• Government grants
• Investment properties
• Leasing and hire purchase
• Post-balance sheet events

(220)-PROFIT AND LOSS ITEMS REQUIRING DISCLOSURES IN COMPANY ACCOUNTS

Profit and Loss Items Requiring Disclosures in Company Accounts

• Turnover
  Analysis of turnover over, Substantial different business activities; substantial different geographical markets, Analysis of profit before tax between substantially different business activities
• Depreciation
  The total depreciation provided. Additional provisions for depreciation and where assets revalued during current year, disclosure the effect, if material, on the depreciation charge
• Expense items
  Charges for hire of plant and machinery, auditor’s remuneration, interest payable to bank loan and overdrafts, total amount of research and development expenditure charged in profit and loss analyzed between current year’s expenditure and amounts amortized from deferred expenditure, amortization charge for goodwill, particulars of staff, staff includes directors, average number of persons employed during year and analyzed within categories according to organization of company’s activities, staff costs disclosures.
• Directors emoluments
• Income items
  Income from listed investments, if a substantial part of company’s revenue, rents from lands.
• Effecting and extraordinary items
• Taxation
• Other matters
  Amounts provided for the redemption of, share capital and loans.
• Reporting financial performance

(219)-PRINCIPAL DISCLOSURES FOR SINGLE COMPANY ACCOUNTS

Principal Disclosures for Single Company Accounts

The principle disclosures are classified as follows’

• Purpose of the checklist
• Accounting policies
• Profit and loss items requiring disclosure
• Balance sheet disclosures
• Cash flow statements
• Directors’ report – Summary of matters to be disclosure

Purpose of the checklist

The aim of the following checklist is to provide a guide to disclosure requirements for the more common reporting arias. All principle companies act requirements for single companies are referred to. The basic requirements are listed below,

1. Long term contracts
2. Goodwill
3. Pension costs
4. Group accounts
5. Earnings per share
6. Cash flow statements
7. Segmental reporting

Accounting policies

1. General policies (Disclosure of significant accounting policies, this would cover all areas)
2. Depreciation (For major class of depreciable assets method of used and useful lives or depreciation rates
3. Developing expenditure
4. Goodwill (explanation of accounting policy and where goodwill is capitalized and amortized, write off period for each major acquisition)
5. Stocks and long term contracts (statement of accounting policies and particular reference to method of ascertaining turnover and attributable profit.
6. Deferred taxation (description of method of calculation)
7. Foreign currency translation
8. Leasing – Lessees (policies for accounting for operating leases and financial leases)
9. Leasing – Lessors (policies for operating leases)

(218)-ENTRIES OF PURCHASING OF A BUSINESS BY A COMPANY

Entries of Purchasing of a Business by a Company

The entries in the company’s books necessary to record the purchase of the business are as follows:

• Assets acquired at acquisition values
  Debit – Assets
  Credit – Vendor’s account
• Liabilities acquired at acquisition values
  Debit – Vendor’s account
  Credit – Liabilities
• Purchase consideration
  Debit – Vendors account
  Credit – Share capital, share premium, debentures, and cash
• Excess of purchase consideration over net assets required
  Debit – Goodwill
  Credit – Vendor’s account
• Excess of net assets acquired over purchase consideration
  Debit – Vendor’s account
  Credit – Capital reserve

Any debtors taken over should be debited at book values and any provisions for doubtful or bad debts should be credited to a provision for bad debts account.

Some accountants prefer to pass the purchase of business account, which replaces the vendor’s account, being credited with the assets acquired and debited with the liabilities taken over and with the purchase consideration.

Where the purchase consideration is less than the value at which the net assets stood in the books of the vendor, but the values of the assets taken over are correctly stated, the surplus should be treated in the company’s books as a capital reserve. The surplus is not available for distribution to shareholders and cannot be credited to a revenue reserve account.
The absence of a goodwill account indicates that no payment has been made for goodwill; it does not indicate that it is nonexistent.

Where a partnership business is transferred to a limited company some difficulty may be experienced in capitalization the company so as to ensure that the rights of the partners are preserved. If the capitals of the partners are in the same ratio as that in which profits are shared, the problem is simplified, as the allotment to the partners of ordinary shares in that ratio will preserve the relationship as nearly as possible. Often, where the capitals are not held in profit-share ratio, the problem is complicated, particularly when taxation is considered.

(217)-PURCHASE OF A BUSINESS BY A LIMITED COMPANY

Purchase of a Business by a Limited Company

Several advantages may stem from the “conversion” of a private business into a limited company e g perpetual succession, whereby a member of a company can transfer his shares, or bequeath them by will at death, without describing the constitution of the company or its financial resources.

The “conversion” may take the from of the transfer to a private company of the assets and goodwill of the business in consideration of the allotment of shares in the company, which the sellers of the business will continue to hold, and through which they will retain the control of the business. Alternatively, a public company may be formed to acquire the business; a promoter or syndicate purchases the business from the original owners, and resells it to the company at a profit, the capital of the company being raised by public subscriptions. Or a public company may be formed to take over the business of a private company, the shareholders of the private company receiving shares or other interests in the public company in exchange for their existing holdings.

Accounting entries in the purchasing company’s books

In the purchasing company’s books, the assets acquired must be debited at acquisition values, which are often different from the book values shown in the vendors business’s books; when a business is hold, assets are frequently revalued. Sometimes the purchasing company assumes trade liabilities as part of the purchase consideration; sometimes the company discharges the trade liabilities and collects the book debts as agent for the sellers; interest may be allowed or changed until final settlement between the purchasing company and the sellers is effected. Book debts are usually acquired at book values less an agreed provision for bad or doubtful debt; any excess received over the book values less the provision for doubtful debts is a capital profit in the purchasing company’s books.

In addition to the purchase price of the tangible assets, a further sum is usually payable for goodwill. A company making a public issue for the purchase of acquiring a business must state in the prospectus the amount of the purchase consideration attributable to goodwill.
Goodwill is the excess of the total purchase consideration over the value of the other assets acquired, less the amount of any liabilities assumed by the company.

(216)-IMPORTANT NOTES FOR REDEMPTION OF DEBENTURES

Important Notes for Redemption of Debentures

• The profit or loss on redemption of debentures, disclosed in the debenture redemption account, is the difference between the price paid on redemption and the nominal value. As the price paid on redemption includes accrued debenture interest, an adjustment made debiting debentures interest account and crediting debentures redemption account with the accrued interest. The amount of such interest, having being paid out of sinking fund cash, must be reimbursed thereto out of general cash, and reinvested.
• If debentures are purchased or redeemed when they are ex-interest, the price paid will exclude interest from the date of purchase to the interest payment date; an adjustment can be made debiting debenture redemption account and crediting debenture interest account with interest on the debentures purchased or redeemed from the date of purchase to the interest payment date; general cash will be debited and sinking fund cash credited.
• No purpose is served by apportioning the proceeds of sale of the investments between capital and income, as both the interest earned and any profit or loss on realization of the investments must be transferred to the sinking fund account.
• An amount equal to the nominal amount of the debenture stock cancelled has been transferred from the sinking fund account to general reserved, as the assets representing it are now part of the general asset and are not include in the sinking fund investment account.
• The discount allowed on the issue should be written off as soon as possible. The discount allowed on the issue of cancelled stock must be written off, as the debentures are no longer outstanding. As, however, the general reserve is available, it has been thought advisable to write off the whole discount against it immediately.

(215)-REDEMPTION OF DEBENTURES

Redemption of Debentures

Debentures may be irredeemable; but this unusual, except in companies formed under special act of parliament.

Debentures may be redeemed either at the end of a given period or by annual drawings. The trust deed, or if there is no trust deed, then the debentures themselves, will contain provision for redemption and will unusually stipulate the establishment of a sinking fund for repayment out of profits.

Alternatively a company may take out of a sinking fund policy with an insurance company for the amount of debentures.

A company which has redeemed debentures to reissue them, either by reissuing the same debentures, or by issuing other debentures in lieu; unless provision, express or implied, is contained in the articles or the conditions of issue, or unless the company has, by passing a resolution, or by some other act, shown its intention that the debentures shall be cancelled. Where a company has redeemed debentures, every balance sheet must show particulars of debentures that may be reissued. On reissue the debentures must be stamped as an original issue; they retain, however, the same priorities as the original debentures.

The company can purchase its own debentures; when debentures are purchased at below the issued price a capital profit will result from the purchase. Strict accounting demands appropriate adjustments for accurate interest included the purchase price. In practice this would frequently be ignored.

(214)-DEBENTURE ISSUES

Debenture Issues

Debentures issued at a premium

When debentures are issued at a premium, debenture account is credited with the nominal amount and debenture premium account with the premium. Debenture premium account can be shown in the balance sheet as a revenue reserve. The companies act does not specify the uses of the debenture premium account.

Debenture issued at a discount

Debenture can be issued at a discount, but must be redeemed at par or a premium; since a capital profit (which is subject to tax) is made on redemption, a lower rate of interest can be paid than if the debentures were issued at their redeemable price.

Where debentures are issued at a discount, cash is debited with the net sum received and discount on debentures account being credited with the full nominal value of the debentures, at which value they must appear as a liability in the balance sheet. The discount on debentures, or so much as has not been written off, must be shown separately in the balance sheet.

The discount on the issue is, in effect, deferred interest, and should accordingly be written off over the period having the use of the money raised by the debentures, unless a sinking fund is created to accumulate the full redemption price, including the discount. Where the debentures are to be redeemed by annual drawings, the discount should be written off by proportionately reducing installments, since each succeeding year has the use of a reducing amount of principal.

Debentures repayable at a premium

These debentures will stand in the balance sheet as a liability at their nominal amount, with a note of the amount at which they are repayable, any discount or premium on issue being treated as described above.

If a sinking fund is raised to provide for repayment, it should include provision for the payment of the premium on redemption. If no sinking fund is created, the premium should be provided for out of profits over the period of the debentures.

Debentures may even be issued at a discount and repayable at a premium.