Capital is the amount of money invested by the owner in the business. Say Reena is interested in doing a chocolate business , after sometime she has taken ₹ 40000 from her piggy bank which she collected since her childhood .

This 40,000 Reena wants to invest in her chocolate business , so it will be termed as Capital.

Now Business and Owner are treated as two different entities. If they both would be considered one entity then profit calculation can be misleading and false too.

Say Reena takes out some chocaltes everyday from her business and distribute free of cost to her cousins. In this case we can never calculate correct profit of Reena because she is using business products and giving free of cost to her relatives , thats why business and owner should be treated separate.

If Reena gives any chocolate to her cousin it should be treated as a transaction of personal use and should be termed as Drawings.

So when any amount is invested by owner in the business and as owner and business are two separate entities, therefore money invested by owner in the business will be treated as burden on the business

And technical word used for burden is called as Liability .

So Capital which owner invests in the business is considered as a burden on business .

So we call Capital as Internal Liability 

1. Interest on Loan taken by Firm should be 6 percent per annum.

2. Interest on Loan given by the Firm should be nil

3. No partner could be admitted in the firm without the consent of the exisiting partners.

4. Interest on Capital, Interest on Drawings and Partner's Salary/comission should be nil.

5. The Profit sharing ratio between the partners, for both profit and loss should be equal.

There are three types of accounts:

1. Personal account

2. Real account

3. Nominal accountR

1. Rule for personal account -  "debit the receiver and credit the giver."

2. Rule for real account is- "debit what comes in and credit what goes out"

3. Rule for nominal account is-"debit all expenses and losses and credit all incomes and gains"

This is one of the introductory chapters at the graduation level as well as in professional exams.

The brief notes on methods and calculation of goodwill in easy steps are presented below:

Methods of Valuation of Goodwill

1. Average Profits Method
2. Super Profits Method
3. Annuity Method
4. Capitalisation Method
1. By Average Profits Method
2. By Super Profits Method

Let us discuss each method in detail.

1. AVERAGE PROFITS METHOD

STEPS for calculation

1. Adjusted average annual profits (See note 1)
2. Number of years of purchase (given in question)
3. Value of Goodwill= Adjusted average annual profits multiplied by the number of years of purchase

Note :

• If several years of purchase for goodwill valuation are not given in the question, then the number of years for which data of profit or loss are provided should be taken.

Calculation of Adjusted average annual profits:

Steps for calculating it are as follows:

• Calculation of Adjusted profits OR Adjusted Future profits OR Future Maintainable Profits

• Calculation of Adjusted average profits

There are two methods:

Simple average method

(If there is fluctuation in the profits for given periods with no specific trend, then use this method). The formula is

 Total adjusted profits of all the given years divided by the number of years.

Weighted average method

(An increasing or decreasing trend in the profits for periods given in the question then use this method). The format for calculating it is as follows.

 SUPER PROFITS METHOD

STEPS for calculation

1. Adjusted average annual profits (See Note below)
2. Average Capital Employed (See Note below)
3. Expected Rate of Return (given in question)
4. Regular Profits = Average Capital Employed multiplied by Normal Rate of Return
5. Super Profits = Adjusted average annual profits less Normal Profits
6. Value of Goodwill = Super Profits multiplied by the number of years of purchase

Note

• Calculation of Adjusted average annual profits (as discussed earlier)
• Calculation of Average Capital Employed

           There are two ways to ascertain Average Capital Employed. 

Liabilities Based Approach

 ANNUITY METHOD 

STEPS for calculation

1. Super Profits (Refer Super Profits method )
2. Annuity Value (given in question)
3. Value of Goodwill = Super profits multiplied by Annuity Value

1. CAPITALISATION METHOD

By Average Profits Method

STEPS for calculation

1. Adjusted average annual profits (See Note below)
2. Expected Rate of Return (given in question)
3. Total Value of Business = (Adjusted average annual profits divided by Normal Rate of Return) multiplied by 100
4. Value of Goodwill = Total Value of Business Less Capital Employed

 Note: Capital Employed = Assets minus Liabilities

By Super Profits Method

 STEPS for calculation

1. Super Profits (Refer Super Profits method )
2. Average Rate of Return (given in question)
3. Value of goodwill = (Super Profits divided by NRR) multiplied by 100

Preparation of Final Accounts From Incomplete Records or Single Entry System:

There are two methods for the preparation of final accounts from single entry books/ incomplete records.

Method 1: Under this system, two statements are prepared:

1. Statement of profit and loss and
2. Statement of affairs.

Step1 - Prepare a statement of affairs at the beginning and at the year-end to find out the opening and closing capital, respectively.

Proforma of the statement of affairs:

Statement of affairs as on....(date).

Sources to find out details like assets and liabilities of a business enterprise:

1. Cash Book for cash balance
2. Bank Passbook for the bank balance
3. Personal Ledger for Debtors, Creditors, Bills receivable and other current assets/ liabilities etc.
4. Inventory by actual counting and Valuation
5. Written down value of Fixed assets from the list prepared by the proprietor disclosing the original cost, the date of purchase and written down value after deducting a reasonable amount of deprecation.

Step2 - Prepare a statement of profit and loss to ascertain the trading profit. It can be prepared either in the statement form or in the form of a ledger. Both the formats are explained below.

Format: Statement of Profit and Loss for the year ended.

1. In the statement form

 2. In the form of Ledger

Step3 - Prepare a statement of affairs as at the YEAR-END to show the business’s financial position.

Method 2: Conversion of single entry to double entry

Step1 - various ledger accounts are prepared, e.g. sales, purchases, debtors, creditors, Trading A/c, cash book to locate missing details.

Step2 - Find all the required details from the available information. For example, if we know opening & closing balances in Debtors’ A/c and the cash received from debtors, the balancing figure will indicate sales figures. Similarly, with the opening and closing balances of creditors & credit purchases figures, we can find cash paid to creditors from the creditor’s ledger.

Step3 - Once all these figures required to prepare financial statements are calculated through their respective ledgers, it is easy to prepare the financial statements in regular formats.

ॐ श्री सरस्वत्यै नमः

We all know this subject very well from our childhood. Remember those days of childhood when we share toffee and chocolates with your brother, sister and friends; we use to either keep more or give less, which means we hate to get less. Consider this less as LOSS. 

Then we grew up a little bit when parents started to give us pocket money, and our relatives gave us lifafa. Forget those lifafa as our parents use to keep those lifafas always. So what remains with us in only the pocket money provided by our parents and we use to give them "hisab". That where and how much we had spent. This hisab is the accounts which we use to write in a paper or a diary. 

In this subject, we will learn to keep the more FORMAL hisab with some fancy words or terms. That is all. Being honest with you friends, you don't need a tutor for this subject. You know this subject very well.

All the best for your brightest future friends!

History of Accounting : 

Before knowing the history of accounting, let us know about the history of money which is the basis of the accounting process.

Money : 

Item or verifiable record accepted for payment of goods and services, repayment of debts, taxes etc.,

No one sure about the information regards money, but METAL is used as money in early 5000 B.C.

Barter system : 

In Ancient times Mediaeval European used tally sticks as evidence for remembering debts.

The barter system is an exchange of goods directly for goods and services.

The barter system is not delayed in time.

• Bilateral basis ( 2 Members)
• Multilateral basis( 2 or More members including 3rd party).

Bilateral basis : 

Eg. Alice exchange apple 🍎 to John exchange 🍊 orange.

Multilateral basis : 

Eg.Alice exchange apple 🍎 to John exchange orange 🍊 to Charles exchange 🍐 pear to Alice.

 Later in the year 600 to 650 B.C. 

LYDIAN KINGDOM of Western Asian culture is known to be the IRON AGE KINGDOM are the first to make coins.

They are originators of GOLD and SILVER COINS. Other countries to start their specified value coins.

MONEY ORIGIN 💰:

In the year of 1000 B.C - 400 A.D. standardised coins had been established in 7 th century.

Later in 11th century, some empires and dynasty's period silver coins are used for the transaction held.

Indian sub-continent - SHER SHAH SURI (1540 - 1545).

During this empire, period introduced silver coins called RUPIAH weighing 178 gms, and it is used and continued in MUGHAL EMPIRE 13 th century

Paper money is well known in Europe through Accounting traveller's as MORCOPOLO and WILLIAM OF RUBRUCK ( Explorers) from middle east and central Asia.

For a large sum of money used for long-distance of transporting transaction. Money traders start using promissory notes, which is the basis for traders to start using banknotes. Promissory notes predecessor to regular Banknotes.

During 18th and a quarter of 19th century Bills of exchange is used and essential before the raising of Banknotes.

• Demand deposits
• Documents
• Paper notes
• Digital currency.

Account:

In 1300 " Counting", " reckoning", of money transaction (action of process of calculating or estimating something).

Calculation in Latin word as Computer means to count or sum up.

Father of Modern Accounting :

LUCA PACIOLI - 1494

History of Accounting and Accountancy can be traced 1000 years old in ancient civilizations.

Early development of Accounting dates back in Mesopotamian age closely related to developments in writing or counting or money to access the detail report of financial information.

Many parts of the world Accounting can be used widely for the recording of goods and services related activities are evidence seen in the Egyptians and Babylonians period.

Mesopotamian used primitive accounting methods for keeping records that detailed transaction involving domesticated agriculture setting (Animal's, livestock, crops commodities such as MEAT, FUR, MILK, EGGS,  LEATHER and WOOL).

In India, philosopher and economist CHANAKYA wrote ARTHSHASTRA BOOK in 2nd century B.C. It contains details and advice on how to maintain record books of accounts.

Origin of Accounting: 

• Accounting is an act of keeping lists of all debits and all credits.
• It is a language of business of all finance.
• It can translate the complexities of finance into information where the public can understand.
• It roots from ancient civilizations.

Bookkeepers : 

They emerged during the period of the Barter system. They classified the records under CASH ECONOMY and COMMERCE ECONOMY.

They kept transaction in Individual ledgers for the proof if dispute raises, a matter brought before a magistrate.

New and improved ledgers :

During currencies became very important and available TRADESMEN and MERCHANTS began bookkeeping for build material and wealth. Also, to know what they owed and who owed debts to them.

In Until 1400s single column information has been maintained.

Eg. Sale of three chickens Rs.48/-

       Sale of seeds Rs.900/-

       Bought goods Rs.200/-

It will be time-consuming and inefficient in tallying method.

The Mathematical Monk :

During 15th century Italian monk LUCA PACIOLI structured and laid the groundwork of modern accounting. He Published the book     " SUMMA DE ARTHIMERTICA" in 1494, shows benefits of Double entry system. It is the simplest form of maintaining separate debits and credits providing a clear picture of the company and overall strength. The general public has no access to such records.

Eg. Sale of three chickens Rs.48/-

              Debit cash Rs.48/-

               Credit chicken Rs.48/-

Sale of seeds Rs.900/-

            Debit cash Rs.900 /-

            Credit seeds Rs.900/-

It gives awareness of the financial health of the company.

Financial statements :

Prepared to attract INVESTORS, CORPORATIONS, SHAREHOLDERS.

Income statement and cash flow statement documents were proof of companies profit-making abilities.

It stimulating operations and profits for making a complete study of trusting and it's management.

Birth of Accounting profession : 

Accountants are made essential for attracting investors to maintaining investors confidence. Hence, the Accounting profession was recognised in 1896 and title established of CPA ( certified public accountant).

Accounting today : 

Using a large number of tools for calculating receipts and payments for quickly reconciling books and technology has brought Accounting software as quick books show job faster and more accurate information with less time-consuming.

Accruals in Accounting are the expenses or revenues that have been recorded by the firm but not yet realised. In simple terms, they are the financial transactions already estimated in the current accounting cycle and payment for which is done in the future.

Let’s look at a few practical accrual accounting examples.

Example 1: Salaries Payable

On 31 December 2020 salary for December amounting, Rs 20,000 to be paid in January 2021 shall be recorded as under. Salary account shall be debited (accounting rule: debit all expenses), while salary payable account will be credited (Liability created).

Example 2: Rent Receivable

On 31 December 2020 rent for December amounting Rs 20,000 to be collected in January 2021 shall be recorded as under. Rent Receivable account shall be debited (Asset created: to be received), while Rent Income account will be credited (accounting rule: all income and gains should be credited).