AEACF — U1 & U2

Manufacturing business

Buys raw material and components to produces goods that are sold to merchandising businesses

Merchandising business

Buys goods and sells them at a higher price. Main cost is stock

Service business

Provides a service for customers. Main cost is wages

What does it mean to be a seperate legal entity?

Business is seperate from owner(s), can be sued or sue, enter into contracts, own property, etc. independently from owner(s). When they are not seperate, personal assets become intertwined with the business.

How many owners does a sole trader have?

1

How much liability does a sole trader have?

Unlimited

What are the advantages of a sole trader?

Owner has complete control, easy to start, simple to operate, all profits are retained, minimal starting cost, few government requirements, and easy to sell.

What are the disadvantages of a sole trader?

No division between personal and business assets, owner may have to sell personal assets to pay business debts, complete responsibility (debts, losses, decisions, etc.), limited capital, long hours, limited experience

What are the legal requirements of a sole trader?

Can choose between applying for business name or using owner's name, must register for ABN through the Dept of Commerce and GST

How many owners does a partnership have?

2-20

How much liability does a partnership have?

Unlimited

What are the advantages of a partnership?

Easy to start, few government requirements, [responsibilities, decision-making, labour, expertise, experience, and capital] are shared, owners are able to cover for each other, work as a team, possible taxation benefits.

What are the disadvantages of a partnership?

Owners are jointly and severally liable, partners can be liable for more than just their share of debts, profits are shared, there is risk of something happening to a partner, disagreements, responsible for partner's decisions, difficult to transfer interest (ownership).

What are the legal requirements of a partnership?

Must register for ABN through the Dept of Commerce and GST. Must have a written (preferred) or verbal partnership agreement that defines the terms and structure of the partnership. If there is no other formal agreement, Partnership Act 1985 provides the framework.

How many owners does a proprietary company have?

1-50

How much liability does a proprietary company have?

Limited

What are the advantages of a proprietary company?

Continuous life, additional capital opportunities, able to transfer interest easily, relatively simple to establish.

What are the disadvantages of a proprietary company?

Highly regulated, complication separation of ownership, cost is high, limited liability makes it more difficult to get loans.

What are the legal requirements of a proprietary company?

Must pay an annual fee of $200 to ASIC, must submit an annual return confirming solvency and identifying directors to ASIC, the Corporations Act 2001 controls formation and operation, to establish must fill out ASIC form 201 and pay less than $1000, ASIC must be informed about company details, requires a set of rules (constitution) to operate. Must include 'Proprietary'/'PTY' before 'Limited'/'LTD' in its name, and an Aus company number after it.

What are the requirements of a large proprietary company?

Meets at least 2 of these requirements; Annual revenue of at least $50 million, assets of at least $25 million, at least 100 employees. Must lodge a financial report and director's report for every financial year.

What are the requirements of a small proprietary company?

Meets at least 2 of these requirements: Annual revenue of less than $25 million, assets of less than $12.5 million, less than 50 employees.

How many owners does a public company have?

Unlimited shareholders.

How much liability does a public company have?

Limited

What are the advantages of a public company?

Continuous life, great capital base, easy to transfer interests.

What are the disadvantages of a public company?

Expensive to establish and maintain, on-going government reporting and regulations

What are the legal requirements of a public company?

Must have 'Limited'/'LTD' in its name.

Owner's funds

Money, usually cash, (or assets) that the owner personally invests into the business.

Retained profits

Profits that the business has made in the past and not given to owners.

Selling assets

Businesses assets are sold for money that is put back into the business.

Overdraft

Withdraw more than account containts, interest calculated on outstanding balance.

Trade credit

Deferred payment of goods and services purchased from a supplier.

Debt factoring

Financial company pays off a separate debt in return for a higher debt back to them.

Leasing

Hiring out equipment for a regular fee for the duration of the lease term.

Debentures

A loan that is paid back to a financial insitution after an agreed period of time.

Bank loans

Borrowed from the bank, repaid over time.

Issuing shares

Business shares are sold for money to purchase assets for the business.

Mortgages

Long term bank loan to buy property, of which it is the only method to do so.

Govt. grants

Short term loans from government to assist small businesses with the start-up process.

Hire purchase

Item bought on finance, repay monthly until final and item becomes business property.

Venture capital

Venture capitalists invest in risky, new businesses like start-ups.

Collateral

Pre-determined security for the loan in the form of an asset

Liquidity

Do they have an adequate cash flow?

History

Is there a track record of them paying their debts?

Guarantors

Is there anyone willing to pay their debts?

Interest rate

Does it reflect the risk involved?

Future business

Will they successfully grow?

Accounting Entity Assumption

The business is a separate entity to the owner(s). Separate records are kept of business & owner transactions.

Principle of Double Entry Accounting

When an owner contributes to a business, an equal amount is owned back to them. Owner puts 20k into business (+ EQUITY), business buys printer with 20k (+ ASSET). Assets = Liabilities + Equity Debit left, credit right.

Accounting Period Assumption

Business life is divided into time periods for reporting purposes. Financial reports are prepared on a regular basis. Usually from June to June, the financial year.

Going-concern Assumption

Reports prepared on assumption that entity will continue to function for the forseeable future. Business does not continually revalue assets, as they are not about to liquidate. No intent or need to liquidate or downscale.

Accrual Accounting Assumption

Record revenue when it is earned and realised, not received. Record payment after job is finished, even if paid earlier. Shows completed, not future, work.

Monetary Assumption

All transactions are recorded in nominal monetary units. Recording transactions in Australian dollar units. If someone can't be quantified, it's not recorded.

Historical Cost Principle

Assets recorded at price/value given when transaction occurred. Liabilities as amount received or amount expected to be paid. Cost of an asset at the time of purchase is recorded, as that is a verifiable transaction and not a subjective estimate. Monetary value doesn't change unless "fair value" method is used.

Materiality Assumption

If misstatement/omission of info could influence economic decisions, it is material. Major losses from fires or natural disasters would be reported. Depends on item size & likely error in circumstances.

what businesses need to register for gst?

businesses must register for gst if their annual sales are 75k or above, smaller businesses can also choose to

what is the bas?

the bas is filed by businesses registered for gst (with an abn) and lodged to the ato monthly/quarterly (or can be annually if was under 75k sales but chose to register for gst) and includes a record of all gst received and paid to show if they owe money to the ato or if the ato owes money to them

taxable supplies

(supplies = sales) most goods and services. business can claim and collect gst.

gst-free supplies

(supplies = sales) business can claim gst but not collect it. examples; cars for disabled users, child care, charities, education, exports of g & s, some foods, health services, international travel & mail, water, religious services

input taxed supplies

(supplies = sales) business can collect gst but not claim it. examples; residential premises & rent and financial services like interest, loans, life insurance, and purchase/sale of shares for superannuation

cash basis accounting

gst accounted for in period when payment is made/received

accrual basis accounting

gst accounted for when invoice is issued OR when consideration received/payment made, whichever happens first

bad debt

debt owing but unlikely to be paid, so it is written off

internal control

business practises to ensure that assets are safe. mix of administrative control (promote operational efficiency, effectiveness, and adherence to policies and procedures) and accounting control (safeguard business assets and ensure accuracy of finacial records)

internal control over cash

different employees should be responsible for different parts of the handling of cash, seperate lockable containers should be available for everyone collection cash, any safe combination should be regularly changed, cash should be counted in a secure area, banked either daily or weekly depending on how much, all receipts should be recorded on a form, register, or computer database at time of

internal control over inventory

awareness of demand factors, ordering when necessary, keeping track of profit margins and competitors prices, selling older inventory first, keeping good security

internal control over non-current assets

use of an asset register, formal approval process for new purchases, locking assets away, determining correct depreciation methods, insuring assets, sharing responsibilities for maintenance/storing/recording, tagging and numbering, and regular security checks

internal control over accounts payable

getting in touch with creditors if it seems there might be difficulty in meeting a deadline, keeping positive and open communication with creditors, forecasting potential cash flow problems, using discounts for early payment, and using computers to keep track of deadlines

internal control over accounts receivable

issuing invoices on a timely basis and in a numerical sequence, having different people in charge of different responsibilities, following up delinquent accounts regularly, and following specific procedures for determining bad debts and collection

limitations of internal control

staff size, human error, conspiration, management power to override, needs to be reviewed regularly, can be costly

credit history

a record of a prospective client's past borrowing and repayment history

government legislation

business premises rules, health and safety rules, taxation, superannuation, insurance

corporate social responsibility

support community projects, introduce occupational health and safety, adopt environmentally friendly practices, implement a code of ethics, listen to employees, be free of discrimination, have a fair hiring policy, donate to charity, conduct without bribery or corruption

Formula: Current ratio

Current assets / Current liabilities

Formula: Quick asset ratio

(Current Assets – Inventory – Prepayments) / (Current Liabilities – Overdraft)

Formula: Gross profit ratio

Gross profit / Net sales (or fees)

Formula: Profit ratio

Profit / Net sales (or fees)

Formula: Expense ratio

Operating expenses / Net sales (or fees)

Formula: Return on assets

Profit / Average assets (across current and previous year)

Formula: Debt to equity ratio

Total liabilities / Equity

Define: Current ratio

When high, there is high level of assurance that the business will be able to pay current liabilities with the use of current assets.

Define: Quick asset ratio

When high, there is high level of assurance that the business will be able to pay current liabilities with the use of current assets in the short term, and are not relying heavily on inventory turnover to make debt repayments.

Define: Gross profit ratio

When high, business can easily cover all selling, administrative, and financial expenses. They have the capacity to earn acceptable operating profit and adequate return on investment.

Define: Profit ratio

When high, operating income is high and operating expenses are low.

Define: Expense ratio

When low, the business has tight control over expenses relative to sales.

Define: Return on assets

When high, assets are being effectively used to generate profit and are performing well.

Define: Debt to equity ratio

When low (referred to as the business being ‘lowly geared’), they have minimal external borrowings and can therefore easily repay their debts.

Scenario: A company is evaluating whether it has enough assets to cover its short-term debts due within the next year.

Current ratio (measures ability to pay off short-term liabilities with current assets)

Scenario: Management wants to assess how easily the company can meet its short-term obligations without relying on selling its inventory.

Quick asset ratio (excludes inventory from current assets, providing a more conservative measure of liquidity)

Scenario: A business owner wants to know how efficiently the company is producing and selling its products relative to its production costs.

Gross profit ratio (evaluates the percentage of revenue that exceeds the cost of goods sold, indicating production efficiency)

Scenario: A company is trying to determine how much of its revenue is being converted into profit after all expenses have been deducted.

Profit ratio (measures the overall profitability of the company after all expenses)

Scenario: The CFO is interested in understanding how much of the company's revenue is being consumed by operating expenses.

Expense ratio (shows the percentage of revenue that is spent on operating expenses, helping to assess cost management)

Scenario: A company is looking to evaluate how effectively it is utilizing its assets to generate profit.

Return on assets (measures how efficiently a company is using its assets to generate profit, indicating asset productivity)

Scenario: The board of directors wants to assess the company’s financial leverage and risk by comparing its debt to shareholders' equity.

Debt to equity ratio (provides insight into the company’s financial leverage and the proportion of debt used to finance assets compared to equity)

Scenario: A company is assessing its ability to quickly cover short-term liabilities in case of an emergency without having to sell its inventory.

Quick asset ratio (measures liquidity by excluding inventory, focusing on the most liquid assets to cover short-term liabilities)

Scenario: An investor is comparing the profitability of two companies to determine which one is better at converting sales into actual profit.

Profit ratio (provides a clear comparison of profitability between companies by showing what percentage of revenue is converted into profit)

Scenario: A company is analysing its cost structure to identify if operating expenses are too high relative to its total revenue.

Expense ratio (helps to evaluate if operating costs are within a reasonable range, impacting overall profitability)

Scenario: A company is considering taking on additional debt and wants to understand its current leverage to ensure it doesn’t become over-leveraged.

Debt to equity ratio (helps the company assess its financial leverage by comparing the amount of debt to the shareholders' equity)

Scenario: A small business wants to ensure it has enough liquidity to cover unexpected short-term expenses without having to liquidate long-term assets.

Current ratio (measures the company's ability to cover its short-term liabilities with its short-term assets, providing insight into its liquidity position)

Scenario: A retail company wants to compare its profitability against industry benchmarks to see if its cost of goods sold is under control.

Gross profit ratio (shows how much profit is made after deducting the cost of goods sold, which is crucial for assessing profitability relative to industry standards)

Scenario: The CEO wants to evaluate how effectively the company is using its assets compared to its competitors to generate earnings.

Return on assets (used to compare how efficiently a company utilizes its assets in generating profits, providing a basis for comparing operational effectiveness with competitors)