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MGT101 GDB Solution & Discussion Last Date:30-01-2017

Topic to be tested:

  • Rectification of errors 

 

Learning Objectives:

  • To understand type of error and effects of identified error on trial balance and profitability
  • To know the accounting principle while treating capital or revenue expenditure in the books of accounts

 

GDB Question:

 

Mr. Arif is running his small retail business under the name of Arif Store. He has recently hired Mr. Hamid as a junior accountant to maintain the books of accounts of his business. Mr. Hamid has little knowledge in accounting. Recently, it has been observed that Mr. Hamid wrongly capitalized an amount of Rs. 10,000 paid for repair of business equipment. As a result, financial statements failed to reflect true and fair business affairs.

 

Required:

  1. Identify the “type of error” committed by Mr. Hamid. 
  2. What will be the effect of given error on arithmetical accuracy of trial balance? (Just mention whether the trial balance would be overstated, understated or remain unaffected)
  3. Which accounting principle would be violated if the given error is not rectified?
  4. Compute the correct amount of operating profit, if gross profit and operating expenses before correcting this error were Rs. 150,000 and Rs. 50,000 respectively.

 

Note: Be concise and avoid unnecessary detail to attempt the given questions.

 

Important Instructions:

 

  1. Do not copy or exchange your answer with other students. Two identical / copied comments will be marked Zero (0) and may damage your grade in the course.
  2. Obnoxious or ignoble answer should be strictly avoided.
  3. Questions / queries related to the content of the GDB, which may be posted by the students on MDB or via e-mail, will not be replied till the due date of GDB is over.

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Answers Are,

  1. Error of principle
  2. Remain un effected
  3. Matching principle
  4. 90000

Please explain why matching principle is violated as opposed to materiality principle?

I state my opinion below, please correct if there's an error

Matching principle states that an expense must be recorded (not necessarily 'expensed') when it is incurred, not with the actual payment.

Capitalization means capitalizing the cost incurred i.e. presenting an expense in the balance sheet --- as capital expense (as part of cost of asset) as opposed to being 'expensed' i.e. revenue expense (presenting in the income statement). 

NOTE: Capitalization doesn't mean the expense is not recorded, it means the cost is capitalized instead of expensed, so Matching principle is not violated.

Materiality principle states that for insignificant amounts, some accounting standards can be violated if the reader of financial statement will not be mislead by doing such. (Read the wastebasket example).

However, in our case, it is explicitly stated that Mr. Arif runs a small retail business, so we can assume that Rs, 10,000 is NOT an insignificant amount, so here Materiality principle does not hold true if you violate an accounting standard (like 'wrong' capitalization in this case) when the amount is significant.

Please correct if you find error in my logic, two days left for submission. Thanks.

  1. Identify the “type of error” committed by Mr. Hamid.(Error of Principle)
  2. What will be the effect of given error on arithmetical accuracy of trial balance? (Just mention whether the trial balance would be overstated, understated or remain unaffected) (Unaffected)
  3. Which accounting principle would be violated if the given error is not rectified? (Fundamental Principles of Accounting, " for understanding with these check this link http://www.managementstudyguide.com/fundamental-principles-of-accou...)
  4. Compute the correct amount of operating profit, if gross profit and operating expenses before correcting this error were Rs. 150,000 and Rs. 50,000 respectively. (Gross profit - operating expenses {administrative & selling expenses other then financial expenses) [ 150,000 - 50,000 -10,000 = 90,000]

Mgt 101 gdb solution
1.error of principle
2-capital account is over stated; repair expense account is under stated
But overall trial balance is not effected.
3-materially misstated(refrence link. http://www.accountingcoach.com/accounting-principles/explanation)
4-after correcting the enteries
Profit =150,000-60,000=90,000

1. Identify the “type of error” committed by Mr. Hamid.
Error of principal : 
An accounting mistake in which and entry is recorded in the incorrect account 
2: What will be the effect of given error on arithmetical accuracy of trial balance? (Just mention whether the trial balance would be overstated, understated or remain unaffected)
Un Effected :
An error of principal is a procedural error , meaning that the value recorded was the correct value but placed incorrectly. This type of error takes place when an item is entered in wrong head or class of accounts. But overall trial balance is not effected. 

3: Which accounting principle would be violated if the given error is not rectified?
: If any accounting principle is violated in classification of income and expenditure it is called Error of principle.
4: Compute the correct amount of operating profit, if gross profit and operating expenses before correcting this error were Rs. 150,000 and Rs. 50,000 respectively.
(gross profit –{administrative & selling expenses other then financial expenses 
150,000 - 50,000 - 10,000 = 90,000)

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