3.

4 - Final Accounts

Why produce Final Accounts?

What is the Final Account?
- A business’s final accounts are the accounts published by the organisation, to its range of
stakeholders.
- They consist of two different accounts:
- Profit and Loss Account: Income Statement
- Breaks down all the costs, revenues and profit for the business for the given
period.
- Balance Sheet: Statement of Financial Position
- Breaks down the financial position of the business but shows the value of
assets (possessions) and liabilities (debts).

Why do different stakeholders have an interest in the Final Accounts?

- A business’s final accounts are the accounts published by the organisation, to its range of
stakeholders.
- Why the stakeholder might be interested in the Final Accounts of the business and How the
stakeholder could use the information in the Final Accounts:
- Internal:
- Managers: They are interested as they can…
- Measure the performance of the business against organisational
targets.
- Benchmark key indicators (such as net profit figures) against those
of rival businesses.
- Review financial performance against planned or targeted
performance.
- Help with decision-making, ex: to assess whether the business has
sufficient funds for new investment projects.
- Set budgets and targets for the future, ex: target profit.
- Monitor and control business expenditures across the various
departments in the organisation.
- Assist strategic planning, ex: growth and evolution of the
organisation.
- Employees: They are interested as they can…
- Measure the extent to which their jobs are secure; a profitable
business with a healthy balance sheet will create improve job
security and promotional opportunities.
- As part of the negotiation process with labour unions to discuss pay
raises and conditions of employment; again, a profitable and healthy
business helps workers to strengthen their case for job security and
pay raises.
 - Shareholders: They are interested as they can…
- Measure whether the business is more or less profitable, and how
this has changed over time.
- Measure the value of the business and judge whether this has
increased over time.
- Calculate the return on their investment (refer to profitability
ratios).
- Determine how much dividends (share of the organization’s profits)
they receive.
- Decide whether the organization has prospects for growth and
expansion.
- Compare the financial performance of different businesses in order
to make rational investment decisions (whether to buy or sell any
shares in the company).
- External:
- Financiers (such as commercial banks or microfinance providers): They are
interested as they can…
- Decide whether to lend money to the business and how much to
lend, by judging the degree of risk involved.
- Check on the creditworthiness of the organization before overdrafts
or loans are given.
- Assess the extent to which the business is able to pay back its
borrowing (with interest).
- Suppliers: They are interested as they can…
- Assess whether the business has sufficient liquidity to pay its debts
(trade credit).
- Determine the creditworthiness of the business in order to gauge
the level of risk involved.
- Negotiate improved credit terms, such as deciding whether to
extend the trade credit period or to demand immediate cash
payment
- Customers: They are interested as they can…
- Gauge whether a business is financially secure, especially if there is
a long working capital cycle (a lengthy delay between the customers
paying and receiving the products such as when ordering bespoke
furniture).
- Determine whether the business offers security and reliability in its
services; otherwise, customers will go elsewhere and purchase from
rival suppliers.
- Determine whether there will be future supplies of the product they
are purchasing – this is particularly important for customers who
rely on a particular supplier or business. Ex: Mc Donald’s buying its
ketchup from a firm.
- The Government (including tax authorities): They are interested as they
can…
 - Calculate and check (verify) the amount of tax that is due to be paid
by the business.
- To measure the extent to which the business is able to expand and
create jobs in the economy.
- To assess the liquidity position of the business, in case there is a
threat of business closure, which could cause serious economic
problems (depending on the size of the business and the market in
which it operates).
- To ensure the business operates within the law, by adhering to the
country’s accounting rules and laws.
- Competitors: They are interested as they can…
- Able to compare their own financial accounts with the business in
question, in order to judge their own financial performances.
- Benchmark best practices by examining what the business does well
and determine how they themselves can improve.

The Ethics of Final Accounts:

- There are ethical (moral) values that accountants must observe when compiling the final
accounts of a business.
- Ethical behaviour is about doing what is perceived to be the right thing to do, from society’s
point of view. Wrongdoings, even if not illegal, are unethical.
- The compilation of final accounts is influenced by ethical codes of practice.
- In many countries, there are professional regulatory bodies set up to monitor ethical
standards and practices in the accountancy industry.
- Examples include:
- The Australian Accounting Standards Board, Accounting Standards Committee of
Germany, and America’s Financial Accounting Standards Board.
- Accountants need to be open, transparent and honest in the recording and reporting of all
financial transactions.
- This means the final accounts of an organisation should be produced accurately and
truthfully, meeting the needs of the relevant tax authorities and all other stakeholders of the
business, ex: the senior management and owners of the firm.
- Hence, most businesses will have an annual internal and/or external audit of their financial
accounts, to ensure that their accounting practices were completed with integrity.
- The ethics of accounting practice mean that accountants and financial managers are
privileged to confidential information.
- It is therefore essential that those with access to such data and information about a certain
company do not misuse this for their personal benefit.

Insider Trading, is it ethical?

- Insider trading is when someone uses secret (unpublished) information about a company to
make money by buying or selling its stock.
- It's generally seen as unfair and unethical because it gives an advantage to those with special
knowledge, harming other investors.
 - Plus, it's usually illegal.

The profit & loss account:

- The profit and loss account shows a firm’s profit (or loss) after all production costs have
been subtracted from the organisation’s revenues, each year.
- It is also known as the statement of profit or loss or income statement.
- Format for the profit and loss account for-profit organisation:
-
Statement of profit or loss for (Business name), for the year ended (date)

$m

Sales revenue 700

Cost of sales (350)

Gross profit 350

Expenses (200)

Profit before interest and tax 150

Interest (10)

Profit before tax 140

Tax (25)

Profit for period 115

Dividends (35)

Retained profit 80
- Sales revenue:
- Is the money an organisation earns from selling goods and services.
- It can also include other revenue streams.
- Formula:
- Units*Price
- Costs of sales (COS):
- Are the direct costs of production, such as the cost of raw materials,
component parts, and direct labour.
- COS are sometimes referred to as cost of goods sold.
- This is the cost of production paid by the business for the goods and services
that it sells.
- Formula:
- COS = Beginning Inventory + Additional inventory - Ending inventory
 - Example:
- Calculating the COS for a T-shirts company:
- Beginning inventory: 0
- Additional inventory: They bought 500 shirts from a
wholesaler for $5 each at the beginning of the year.
Therefore, 500*5 = $2,500
- Ending inventory: By the end of the year, they had sold 350
shirts for $8, leaving 150 unsold. Therefore, (500-350)*5 =
$750
- So: 0 + 2,500 - 750 = $1,750
- Gross profit:
- Refers to the profit from a firm’s everyday trading activities.
- Formula:
- Gross profit = Sales revenue - Cost of sales
- Expenses:
- Are a firm’s indirect costs of production
- For example:
- Rent
- Management salaries
- Marketing campaigns
- Accountancy fees
- Bank interest charges
- Travel expenses
- Utilities
- Repairs and maintenance
- General insurance
- Note that both interest and tax are not included in this section of the P&L
account, despite being expenses.
- This is because has no control over both interest and tax costs, as they are
determined by the government.
- By excluding these expenses in this part of the P&L, it is easier to make
historical, inter-firm and international comparisons.
- The profit before interest and tax section:
- It shows the value of a firm’s profit (or loss) before deducting interest
payments on loans and taxes on corporate profits.
- The profit for period section:
- Shows the actual value of profit earned by the business after all costs have
been accounted for, this is profit after interest and tax.
- The profit (after interest and tax) belongs to the owners of the business, so
that then it can be distributed between the shareholders/owners and/or be
kept in the business as a source of internal finance.
- Tax:
- Refers to the compulsory deductions paid to the government as a
proportion of a firm’s profits.
- In the above example, corporation tax is 10 %
 - Dividends:
- Are payments from a company’s profit (after interest and tax) paid to the
shareholders (owners) of the company.
- The amount of dividends paid to shareholders as a whole is determined by
the company’s boards of directors.
- The amount of dividends paid to an individual shareholder depends on the
number of shares held by the individual.
- Retained profit:
- Any funds left over from profits (after interest and tax) that is not paid to
shareholders is kept within the business for its own use.
- It is a vital internal source of finance for most businesses.
- Retained profit is important for assessing the profitability of a business over
a specific period of time, usually one year.
- Formula:
- Retained profit = Profit after interest and tax - Dividends.
- Format for the profit and loss account non-profit organisation:
-
Statement of profit or loss for (name of NPO), for the year ended (date)

$m

Sales revenue 700

Cost of sales (350)

Gross surplus 350

Expenses (200)

Surplus before interest and tax 150

Interest (10)

Surplus before tax 140

Tax (0)

Surplus for period 140

Retained surplus 140

- Contains surplus which is reinvested back into the business.
- No dividends as shareholders don’t gain money.
- Usually they don't have to pay tax.

Exercise:
Use the information below to construct a profit and loss account for the business:

$
 COS 50,000

Dividends 35,000

Expenses 20,000

Interest 5% of SR

Retained profit 65,000

Sales revenue 200,000

Tax 10% of SR

Statement of profit or loss for (Business name), for the year ended (date)

Sales revenue 200,000

Cost of sales 50,000

Gross profit 150,000 (200,000-50,000)

Expenses 20,000

Profit before interest and tax 130,000 (150,000-20,000)

Interest 5% of SR = 10,000

Profit before tax 120,000 (130,000-10,000)

Tax 10% of SR 20,000

Profit for period 100,000 (120,000-20,000)

Dividends 35,000

Retained profit 65,000

Questions:
1. Who decides how much dividends is paid?
The firm’s board of directors decide how much to pay to their shareholders in dividends.
2. Outline one difference between the PLA between a For-Profit and Not-For-Profit business.
One difference is that rather than profit, surplus is gained.
3. What is retained profit?
Any funds left over from profits (after interest and tax) that is not paid to shareholders is kept within
the business for its own use.
4. Give three examples of direct costs
Raw materials, wages, and utilities (water, electricity, etc).

Balance sheet:
- The balance sheet (also known as the statement of financial position) is an essential set of
final accounts that shows the value of an organisation’s assets, liabilities, and the owner's
investment (or equity) in the business at a particular point in time.
- Hence, the balance sheet is often referred to as a “snapshot” of a firm’s financial position,
indicating its financial health.
- The reporting date of the balance sheet for an organisation is the same each year.
- Assets:
- Are the possessions of a business that have a monetary value.
- Assets are owned by a business.
- Typical examples include:
- Buildings
- Land
- Machinery
- Equipment
- Stock (inventory)
- Cash
- Liabilities:
- Are the debts of the business, meaning it is the money owned to others.
- Typical examples include:
- Any money owned to financiers (such as commercial banks)
- Trade creditors
- The government (for corporation tax)
- Essentially, a balance sheet must show two important things:
- The organisation’s sources of finance, including borrowed funds (part of its
liabilities) and equity (internal finance invested by shareholders, and any
accumulated retained profits).
- The organisation’s uses of finance, which means how the business has used its
sources of finance, such as the purchase of non-current assets and current assets for
trading.
- So, the balance sheet is called this way as a firm’s uses of finances must match its sources of
finance.
- Format of the balance sheet for a profit-making business entity:
-
Statement of financial position for (Company name) as at (Date)

$m $m

Non-current assets:

Property, plant, and 200

equipment
 Accumulated (20)
depreciation

Non-current assets: 180

Current assets:

Cash 15

Debtors 25

Stock 20

Current assets: 60

Total assets: 240

Current liabilities:

Bank overdraft 5

Trade creditors 20

Other short-term loans 15

Current liabilities: 40

Non-current liabilities:

Borrowings (long term) 100

Non-current liabilities 100

Total liabilities: 100

Net assets: 140

Equity:

Share capital 80

Retained earnings 20

Total equity: 100

- Non-current assets (fixed assets):
- Are the possessions of the business that they do not intend to sell in the
next 12 months.
- Typical non-current assets include:
- Machinery
- Property
- Non-current assets depreciate in value.
- They lose their value after usage and become less valuable as time goes on
(as you use it: it can become worn out, or new versions can come out).
 - Current assets:
- Are the possessions of the business that the business intends on converting
to cash within the next 12 months.
- Typical current assets include:
- Cash
- Stock (raw materials, work in progress, or finished goods)
- Debtors (money owed by customers for their purchases)
- Total assets:
- Total assets = Non-Current Assets + Current Assets
- Current liabilities:
- Are payments a business must make within the next 12 months.
- Overdrafts have high-interest rates and are considered short-term finance.
- Trade credit agreements usually last 60-90 days.
- Non-current liabilities:
- Are payments that do not need to be paid within the next 12 months such as
mortgage (etc: money asked to a bank to buy a house) and other long-term
loan payments.
- Total liabilities:
- Total Liabilities = Current Liabilities + Non-Current Liabilities.
- Net assets:
- Refers to the overall value of an organization’s assets after all its liabilities
are deducted. Hence, net assets is calculated by using the formula:
- Net assets = Total assets - Total liabilities
- Net assets = (Non-current assets + Current assets) – (Current liabilities +
Non-current liabilities)
- Equity:
- Refers to the value of the owner’s stake in the business.
- This is what the business is worth at the time of reporting the balance sheet.
- Equity is comprised of both share capital and retained earnings.
- Net Assets = Equity
- Equity demonstrates where the assets are.
- Ex: 80% of the value of the assets are owned by various shareholders and
20% in the bank as retained profit.

Balance sheet for Not-For-Profit Businesses:

The difference between a balance sheet for a for-profit business and a non-for-profit business is:
- Share capital is not shown on a balance sheet for sole traders, partnerships or not-for-profit
firms.
- Retained earnings jeep their name for both profit and non-profit businesses.

Intangible assets:
- Tangible means it can be touched. Physical.
- Intangible means it can’t be touched. Not physical.
 - Tangible assets would be goods.
- Intangible assets are ideas.

The four types of intangible assets are:

- Goodwill:
- The additional value of the company beyond its tangible assets.
- Intellectual property:
- Patents:
- Protects ideas and inventions.
- Trademarks:
- Protects brands and slogans.
- Copyrights:
- Protects creative work. (ex: music and books).

1) Goodwill:
- Is the reputation and established (know-how) of an organisation, which adds
significance above the market value of the firm’s physical assets.
- It includes the willingness of employees to go above and beyond the call of duty, as
they are devoted to the organisation.
- Goodwill can help to attract workers to the organisation and to retain them.
- Goodwill, if included in a firm’s balance sheet, can help to attract investors.
- However, the value of goodwill is somewhat subjective (as the asset is intangible), so
only truly materialises when the business is sold.
- Example:
- The knowledge and skills of a business’s employees are an example of
goodwill.
- Any business that acquires the company, will also gain access to this
knowledge and skillset.
2) Patents:
- Are the official rights given to a business to exploit an invention or process for
commercial purposes.
- They give a registered patent holder the exclusive right to use the innovation for a
limited time period.
- Having a patent creates incentives to invest in research and development, otherwise
rivals could simply just copy the innovations.
- Patents, as an intangible asset, add value to the business, especially as they can gain
from having a unique selling point (USP) for the duration of the patent.
- Example:
- Dyson put a patent on the cylindrical nature of their vacuum cleaners and
Lego put a patent on the brick building component of their toy.
3) Trademarks:
- Are a form of intellectual property, the value of which may be reported on the
balance sheet.
 - They give the listed owner the legal and exclusive commercial use of the registered
brands, logos, and/or slogans.
- Each year, Interbrand compiles a list of brand values.
- The top 10 are shown in the graph:

-
4) Copyrights:
- Give the registered owner the legal rights to creative pieces of work.
- Copyrights cover the work of authors, musicians, conductors, playwrights
(scriptwriters) and directors.
- It gives the copyright holder of the intellectual property the exclusive rights to the
commercial use of the product.
- Copyrights enable the owner to prevent competitors from using their published
works.
- Example:
- The characters and themes of the Harry Potter franchise are copyrighted by
its author, J.K Rowling.

1. What type of intellectual property does GoPro have?

They have a patent as the camera harness is an original invention.
2. How did this add value to GoPro’s products?
It added value to its products as customers looking to record their adventures could not only
purchase the harness from GoPro but also had to buy the camera along it as the harness can only
support that special type of camera rather than any recording device. Additionally, GoPro can set a
unique selling point for it as they’re the only one producing them. This will increase sales for their
harness and camera.
3. Why does that increase the value of GoPro as a company?
It increases the value of GoPro as a company as they are incentivised to keep on researching and
developing new original products that can again boost the company’s sales and market share.
4. Would GoPro have been successful without this intellectual property?
GoPro wouldn’t be as successful without the patent due to the high costs of the harness (research
and development costs) and customers looking to buy this good could just buy a competitor’s
harness which could have the exact same functionality. This would result in lower sales, meaning
lower overall profits.

Practice Questions:
1. Outline one way a patent might impact the balance sheet shown (2)
The non-current assets’s stock would increase as the value of the patent will increase a company’s
asset value.
2. Explain two ways intellectual property increases a company’s value (4)
It allows a company to set an USP when using a patent as they’re the only ones distributing an
original product, increasing its current assets. Another way is that copyright protects a person's
creative ideas, therefore making the product such as a song, unique and irreplaceable, increasing
customer loyalty.
3. Using relevant examples, distinguish between patents and trademarks (4)
A patent is an original innovative idea for a product such as a GoPro’s harness, where a patent can
be set to prevent competitors from stealing this firm’s idea which includes high research and
development costs. On the other hand, a trademark protects a brand name, logo or even slogan. An
example of this is the brand name “Post-its” where the firm does not allow other competitors to use
their protected name.