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IGCSE Accounting – Complete Syllabus Notes (0452)

1. Fundamentals of Accounting

• Purpose of Accounting: To record, classify and summarise financial transactions so that profit or loss can be measured and useful information is provided for monitoring performance and making decisions.
• Accounting Equation: Assets = Liabilities + Owner’s Equity
• Double‑entry bookkeeping: Every transaction affects at least two accounts – one debit and one credit – keeping the accounting equation in balance.
• Division of the Ledger:
  • Sales Ledger – records all credit sales to customers (trade receivables).
  • Purchases Ledger – records all credit purchases from suppliers (trade payables).
  • Nominal Ledger – records all income, expenses, gains and losses (profit & loss items).
• Discounts:
  • Trade discount – reduction in price given at the point of sale; not recorded in the books.
  • Cash discount – incentive to pay early; recorded as a reduction in the amount owed or received.

2. Sources of Information & Books of Prime Entry

3. Verification of Accounting Information

• Trial Balance: List of all ledger balances used to check that total debits equal total credits before preparing final statements.
• Common Error Types (8):
  1. Commission error – amount recorded correctly but on the wrong side.
  2. Compensating error – two or more errors that cancel each other out.
  3. Reversal error – debit entered as credit or vice‑versa.
  4. Omission error – transaction omitted entirely.
  5. Original entry error – correct amount recorded in the wrong account.
  6. Principle error – transaction recorded against the correct principle (e.g., capitalised when it should be expensed).
  7. Transposition error – digits reversed (e.g., £540 recorded as £450).
  8. Slide error – decimal point placed incorrectly.
• Worked Example – Trial Balance (with one error):

  Account	Debit (£)	Credit (£)
  Cash	12,000
  Bank	5,000
  Trade receivables	8,000
  Stock	6,500
  Plant & equipment	20,000
  Capital		45,000
  Trade payables		7,500
  Sales (revenue)		25,000
  Purchases	14,000
  Rent expense	2,000
  Salary expense	3,000
  **Error – Reversal** (Rent recorded as credit)		2,000
  Totals	70,500	79,500

  The trial balance does not balance because the rent expense was entered on the credit side (reversal error). Correcting it restores equality.

• Bank Reconciliation Statement (BRS): Compares the cash book balance with the bank statement balance and explains differences (outstanding cheques, deposits in transit, bank errors, unpresented cheques, interest, charges).
• Control Accounts: Summary accounts (e.g., Trade Receivables Control) that reconcile subsidiary ledgers with the general ledger.
• Physical Verification: Stock‑take and fixed‑asset inspection to confirm existence and condition.

4. Accounting Procedures

1. Analyse the transaction and identify the relevant accounts.
2. Record the transaction in the appropriate journal (sales, purchases, cash receipts, cash payments, general journal).
3. Post journal entries to the appropriate ledger accounts.
4. Prepare an unadjusted trial balance.
5. Make adjusting entries (accruals, pre‑payments, depreciation, inventory adjustments).
6. Prepare an adjusted trial balance.
7. Prepare the final accounts:
   • Statement of Financial Position (Balance Sheet)
   • Income Statement (Profit & Loss Account)
   • Cash Flow Statement (optional for IGCSE, but useful for banks)
8. Close temporary accounts to the Capital/Retained Earnings account.
9. Prepare a post‑closing trial balance (optional for exam practice).

5. Preparation of Financial Statements

5.1 Statement of Financial Position (Balance Sheet)

5.2 Income Statement (Profit & Loss Account)

• Revenue – Cost of Sales = Gross Profit
• Gross Profit – Operating Expenses = Operating Profit
• Operating Profit – Interest – Tax = Net Profit (or Loss)

5.3 Cash Flow Statement (optional for IGCSE)

Shows cash generated from:

• Operating activities
• Investing activities
• Financing activities

Useful for banks to assess repayment capacity.

6. Analysis & Interpretation of Financial Statements

6.1 Ratios Required by the Syllabus

6.2 Example Calculation – Current Ratio

Given: Current Assets = £120,000; Current Liabilities = £80,000.

\(\displaystyle \text{Current Ratio} = \frac{120,000}{80,000}=1.5\)

Interpretation: The business can meet its short‑term debts; a bank would consider this acceptable if its covenant is ≥ 1.5.

6.3 Limitations of Accounting Information

• Historical cost does not reflect current market values.
• Non‑financial factors (management quality, market conditions) are omitted.
• Estimates and judgments (depreciation, bad‑debt provisions) introduce subjectivity.
• Financial statements cover a past period and cannot guarantee future performance.

7. Interested Parties (External & Internal)

8. Banks – Detailed Focus

8.1 Why Banks Need Financial Information

• To assess the risk of lending and determine an appropriate interest rate.
• To identify assets that can be used as security (collateral).
• To monitor compliance with loan covenants throughout the life of the loan.
• To evaluate the business’s cash generation capability for repayment.

8.2 Key Documents Requested by Banks

8.3 Typical Bank Requirements for a Loan Application

1. Completed loan application form.
2. Last three years of audited financial statements (balance sheet, P&L, cash flow if available).
3. Projected cash flow for the next 12‑24 months.
4. Details of existing debt and repayment schedules.
5. Security documentation (charge over assets, personal guarantees, etc.).
6. Business plan outlining the purpose of the loan, expected benefits and repayment strategy.

8.4 How Banks Use the Information

1. Initial Screening – Check completeness and basic eligibility.
2. Ratio Analysis – Compute the required ratios and compare them with the bank’s internal benchmarks.
3. Credit Scoring – Apply a model that weights profitability, liquidity, leverage and cash flow.
4. Risk Assessment – Identify red flags such as falling profit, high debt, low interest cover.
5. Decision Making – Approve, reject, or request additional security / tighter covenants.

8.5 Common Loan Covenants Imposed by Banks

• Maintain a minimum Current Ratio (e.g., ≥ 1.5).
• Maintain a maximum Debt‑to‑Equity Ratio (e.g., ≤ 2.0).
• Maintain a minimum Interest Cover Ratio (e.g., ≥ 3.0).
• Provide quarterly (or half‑yearly) financial statements for ongoing monitoring.
• Obtain bank consent before taking on additional borrowing.
• Maintain a specified level of cash or liquid assets as a reserve.

8.6 Flow of Information from Business to Bank

9. Accounting Principles & Policies (Syllabus 7)

Policy Objectives – What Good Financial Information Should Achieve

• Relevance – Information must be useful for decision‑making.
• Reliability – Free from material error and bias.
• Comparability – Allows users to compare across periods and entities.
• Understandability – Presented clearly for the intended users.

10. Assessment Objectives & Command Words

Typical command words (linked to AOs):

• Define, state, list – AO1
• Calculate, compute, prepare, show – AO2
• Explain, comment, discuss, evaluate, analyse – AO3