1.4.1 Case Study: Global Ltd On 01/01/2008, Miss Mayer set up a company for the international trade of cosmetic products, Global Ltd. She personally invested €80,000 in cash, made a studio available in the downtown area valued at €120,000 (which will be used as an office) and which she bought 3 years earlier for €80,000. The bank granted her a line of credit of €50,000. Within the first year, the following transactions took place:

03/15/08 Purchase of merchandise paid in cash from Extra Ltd for €10,000 03/18/08 Purchase of merchandise on credit from Extra Ltd for €30,000 04/01/08 Purchase of a motor truck paid in cash for €30,000 04/18/08 Payment of the invoice from Extra Ltd of 03/18 05/20/08 Purchase of merchandise on credit from Extra Ltd for €20,000 05/25/08 Sale of merchandise on credit for €60,000 (at a cost of €30,000)

05/29/08 Payment of the invoice from Extra Ltd of the 05/20 06/25/08 Settlement of the client’s invoice of 05/20 06/30/08 Purchase of merchandise paid in cash from Extra Ltd for €25,000 07/12/08 Return of impaired merchandise to Extra Ltd valued at €7,000 08/15/08 Deposit of €5,000 for an order from the client ABC Enterprise 08/31/08 Sale of merchandise to ABC paid in cash of €30,000 (order from 08/15) (at a cost of €15,000)

10/01/08 Hiring of an assistant 10/20/08 Sale of merchandise on credit to ABC for €20,000 (at a cost of €10,000)

10/31/08 ABC pays the invoice from 10/20 11/23/08 Purchase of merchandise on credit for €50,000 12/20/08 Sale of merchandise on credit of €100,000 (at a cost of €50,000)

On 12/31/08, the salaries and social expenses for 2008 of Miss Mayer and her assistant are €50,000. The depreciation of the transportation vehicle is €4,500 per annum and the depreciation of the office is €5,000 per annum. The income tax rate is 20%.

Make all the accounting entries and adjustments necessary to establish and present the financial statements of Global Ltd. All the transactions will first be entered into the book of original entries and then into the general ledger.

Book of Original entries First, the capital base needs to be recognized.

01/01/08 Cash and cash equivalent (+A) 80,000 Capital (+E) 80,000 Tangible assets (office) (+A) 120,000 Capital (+E) 120,000 All current transactions of the operating activity are registered chronologically into the book.

03/15/08 Inventories (+A)
Cash and cash equivalent (−A)
03/18/08 Inventories (+A)
Accounts payable (Extra) (+L)
01/08 Transportation vehicle (+A)
Cash and cash equivalent (−A)
04/18/08 Accounts payable (Extra) (−L)
Cash and cash equivalent (−A)
05/20/08 Inventories (+A)
Accounts payable (Extra) (+L)
05/25/08 Accounts receivable (+A)
Sales (+IS)
Cost of sales (−IS)
Inventories (−A)
05/29/08 Accounts payable (Extra) (−L)
Cash and cash equivalent (−A)
06/25/08 Cash and cash equivalent (+A)
Accounts receivable (−A)
06/30/08 Inventories (+A)
Cash and cash equivalent (−A)
07/12/08 Accounts payable (−L)
Inventories (−A)
08/15/08 Cash and cash equivalent (+A)
Deposit received (+L)
08/31/08 Cash and cash equivalent (+A)
Deposit received (−L)
Sales (+IS)
Cost of sales (−IS)
Inventories (−A)
10,000 30,000 30,000 30,000 20,000 60,000 30,000 20,000 60,000 25,000 7,000 5,000 25,000 5,000 15,000 10,000 30,000 30,000 30,000 20,000 60,000 30,000 20,000 60,000 25,000 7,000 5,000 30,000 15,000 10/01/08 No book entry 10/20/08 Accounts receivable (ABC) (+A) 20,000 Sales (+IS) 20,000 Cost of sales (−IS) 10,000 Inventories (−A) 10,000 10/31/08 Cash and cash equivalent (+A) 20,000 Accounts receivable (ABC) (−A) 20,000 11/23/08 Inventories (+A) 50,000 Accounts payable (+L) 50,000 12/20/08 Clients (+A) 100,000 Sales (+IS) 100,000 Cost of sales (−IS) 50,000 Inventories (−A) 50,000 At year end, in this example the 12/31/2008, all adjusting book entries have to be made so that the net income of the year comprises all the revenues and expenses of the year (and only from that period). Depreciations represent a consumption of future economic benefits of the company and must therefore be recognised as expenses. The salaries also still need to be recognized.
12/31/08 Depreciation of transportation material (−IS) 4,500 Depreciation of buildings (−IS) 5,000 Accumulated depreciation of transportation material (−A) 4,500 Accumulated depreciation of buildings (−A) 5,000 Salaries and social expenses (−IS) 50,000 Cash and cash equivalent (−A) 50,000 In order to compute the net income you have to establish first the net income before income tax expense. Therefore you have to make the difference between all the revenue and expenses accounts.
Sales Net income before tax Cost of sales Depreciation expense Salaries Then the income tax expense is computed and recognized:
Income tax expense (−IS)
Tax liabilities (+L)
210,000 45,000 105,000 9,500 50,000 9,100 9,100 Finally, the income account is divided into tax expense and net income accounts:
Net income before tax 45,000 Income tax expense 9,100 Net income 36,400 The general ledger re-orders all the book entries in function of the accounts.
General Ledger5 Balance Sheet Accounts Transportation vehicle Accumulated depreciation transportation vehicle Contributed capital 30,000 30,000 4,500 4,500 80,000 20,000 120,000 Buildings Accumulated depreciation buildings Tax liabilities 120,000 120,000 5,000 5,000 9,100 9,100 Inventories Accounts payable 10,000 30,000 30,000 30,000 30,000 7,000 20,000 20,000 20,000 15,000 7,000 50,000 25,000 10,000 50,000 50,000 43,000 23,000 Accounts receivable Deposit received 60,000 20,000 100,000 60,000 20,000 100,000 5,000 5,000 Cash and cash equivalent 80,000 60,000 5,000 25,000 20,000 10,000 30,000 30,000 20,000 25,000 30,000 25,000 5 in the “T” acount: the last closing entries for the Trial Balance.

Income Statement Accounts Cost of goods sold Depreciation Sales 30,000 4,500 60,000 15,000 5,000 30,000 10,000 9,500 20,000 50,000 100,000 105,000 210,000 Salaries Income tax 50,000 9,100 50,000 9,100 Determination of the Net Income 1. First you transfer all revenues and expenses into one account, the net income before tax account: €45,000.
2. Then you establish the amount of the income tax: 20% × €45,000 = €9,100.
Net income before tax 105,000 210,000 9,100 45,500 50,000 9,500 45,500 36,400 Net income The balance sheet accounts and the net income account are then transferred to the balance sheet, and we finally end up with the following income statement and balance sheet account:
Income statement Sales – Cost of goods sold Gross margin 210,000 (105,00)
105,000 Salaries Depreciation Net income before tax (50,000)
(9,500)
45,500 Income tax expense Net income (9,100)
36,400