Accounting – An Introduction (13th ed.) by Myburgh et al.

1. The World of Accounting

1.1 Definition of Accounting

Accounting is the systematic process of identifying, recording, summarizing, and interpreting

financial transactions to provide meaningful financial information to stakeholders. It helps
businesses track their income, expenses, assets, and liabilities.

1.2 Users of Accounting Information

Different stakeholders rely on accounting data for decision-making:

 Internal Users:

o Management: Uses financial reports for budgeting, forecasting, and strategy

development.

o Employees: Interested in the company’s financial health and job security.

 External Users:

o Investors: Assess profitability and risk before investing.

o Creditors and Banks: Evaluate a company’s ability to repay loans.

o Government & SARS: Ensure compliance with tax regulations.

o Regulators: Monitor financial transparency.

1.3 Types of Accounting

 Financial Accounting – Prepares financial statements for external users.

 Management Accounting – Focuses on internal decision-making and performance

analysis.

 Cost Accounting – Determines the cost of producing goods/services.

 Tax Accounting – Ensures compliance with tax laws.

 Auditing – Verifies the accuracy of financial records.

1.4 Professional Accounting Bodies

In South Africa, key professional bodies include:

 SAICA (South African Institute of Chartered Accountants) – Governs Chartered

Accountants (CAs).

 CIMA (Chartered Institute of Management Accountants) – Focuses on

management accounting.

 ACCA (Association of Chartered Certified Accountants) – Recognized globally

for financial accountants.

 IRBA (Independent Regulatory Board for Auditors) – Regulates external auditors.

2. The Conceptual Framework for Financial Reporting

2.1 Objectives of Financial Reporting

The goal is to provide useful, relevant, and reliable financial information that helps users
make informed economic decisions.

2.2 Qualitative Characteristics of Financial Statements

 Relevance: Information must be useful for decision-making.

 Faithful Representation: Financial data should be accurate, complete, and

unbiased.

 Comparability: Users should be able to compare financial statements across

periods.

 Timeliness: Information must be provided promptly.

 Understandability: Reports should be clear and easy to interpret.

2.3 Elements of Financial Statements

 Assets: Resources owned by the business (cash, inventory, property).

 Liabilities: Obligations owed to others (loans, accounts payable).

 Equity: Owner’s residual interest in the business.

  Income: Revenue from business activities.

 Expenses: Costs incurred in running the business.

2.4 Recognition and Measurement Criteria

Financial items are recorded when:

 They provide future economic benefits (e.g., assets generate revenue).

 The cost or value can be measured reliably.

3. The Accounting Equation

The accounting equation ensures that a company’s financial statements are always
balanced:

Assets=Liabilities+Equity\text{Assets} = \text{Liabilities} + \text{Equity}

3.1 Assets

 Current Assets: Short-term resources (cash, accounts receivable, inventory).

 Non-Current Assets: Long-term investments (property, plant, equipment).

3.2 Liabilities

 Current Liabilities: Debts due within a year (accounts payable, short-term loans).

 Non-Current Liabilities: Long-term obligations (mortgages, bonds).

3.3 Equity

 Owner’s Capital: Funds invested by the owner.

 Retained Earnings: Profits reinvested into the business.

4. The Accounting Cycle

This is the step-by-step process for recording and summarizing financial transactions.

4.1 Identifying Transactions

Only business-related financial transactions are recorded (e.g., sales, expenses).

4.2 Source Documents

These are proof of transactions, including:

 Invoices (for sales and purchases).

 Receipts (proof of payment).

 Bank Statements (record of deposits and withdrawals).

4.3 Journals & Ledgers

 General Journal: Used for recording transactions chronologically.

 General Ledger: Organizes transactions by account type.

4.4 Trial Balance

A list of all account balances to check if total debits = total credits.

4.5 Adjustments & Closing Entries

Adjusting entries ensure accurate financial reporting before finalizing statements.

4.6 Preparing Financial Statements

 Income Statement: Shows profit or loss.

 Balance Sheet: Shows financial position.

 Cash Flow Statement: Tracks cash movements.

5. Value-Added Tax (VAT)

VAT is a 15% consumption tax levied on goods and services in South Africa.

5.1 Input vs. Output VAT

 Input VAT: Tax paid on purchases.

 Output VAT: Tax collected on sales.

5.2 VAT Calculation

  VAT-inclusive price = Selling price × 1.15

 VAT-exclusive price = Selling price ÷ 1.15

5.3 VAT Returns & Payments

Businesses must submit VAT returns to SARS, usually every two months.

6. Accounting Systems

These systems help manage financial transactions efficiently.

6.1 Manual vs. Computerized Systems

 Manual System: Uses ledgers and paper records.

 Computerized System: Uses software (e.g., Pastel, QuickBooks).

6.2 Subsidiary Ledgers & Control Accounts

 Accounts Receivable Ledger: Tracks customer payments.

 Accounts Payable Ledger: Tracks supplier payments.

6.3 Internal Controls

Protect against fraud and errors, including segregation of duties and regular audits.

7. Financial Statements Analysis

This involves examining financial reports to assess performance.

7.1 Financial Statements

 Income Statement: Revenue, expenses, and net profit.

 Balance Sheet: Assets, liabilities, and equity.

 Cash Flow Statement: Operating, investing, and financing activities.

7.2 Financial Ratios

 Profitability: Gross profit margin, return on assets.

  Liquidity: Current ratio, quick ratio.

 Solvency: Debt-to-equity ratio.

 Efficiency: Inventory turnover, accounts receivable turnover.

8. Management Accounting & Financial Management

These help businesses plan, control, and optimize financial resources.

8.1 Management Accounting

 Cost Classification: Fixed vs. variable costs.

 Budgeting: Forecasting income and expenses.

 Break-Even Analysis: Finding the point where revenue = costs.

8.2 Financial Management

 Capital Budgeting: Evaluating investment opportunities.

 Working Capital Management: Managing cash, inventory, and receivables.

 Sources of Finance: Debt (loans) vs. equity (shares).

Examples and Case Studies on Value-Added Tax (VAT)

Example 1: Calculating VAT on Sales and Purchases

Scenario:
ABC Traders, a VAT-registered business in South Africa, sells furniture. In January, the
company made sales worth R100,000 (excluding VAT) and purchased supplies worth
R50,000 (excluding VAT).

Step 1: Calculate Output VAT (VAT collected from customers)

Since the VAT rate is 15%, we calculate VAT on sales:

Output VAT = R100,000 × 15% = R15,000

The total amount collected from customers:

R100,000 + R15,000 = R115,000

Step 2: Calculate Input VAT (VAT paid on purchases)

Input VAT = R50,000 × 15% = R7,500

Total amount paid to suppliers:

R50,000 + R7,500 = R57,500

Step 3: Calculate VAT Payable to SARS

The business must pay SARS the difference between Output VAT and Input VAT:

R15,000 - R7,500 = R7,500

Conclusion: ABC Traders must submit a VAT return to SARS and pay R7,500 by the due
date.

Example 2: VAT-Inclusive and VAT-Exclusive Pricing

Scenario:
XYZ Electronics sells a laptop for R11,500 (VAT-inclusive price). A customer wants to
know the price excluding VAT.

Step 1: Calculate VAT-Exclusive Price

VAT−Inclusive Price
VAT-Exclusive Price = 1.15

R 11,500
= = R10,000
1.15

Step 2: Calculate VAT Amount

VAT = R11,500 - R10,000 = R1,500

Conclusion: The price of the laptop before VAT is R10,000, and the VAT amount is
R1,500.

Case Study 1: VAT Compliance Failure – A Real Business Example

Company: A small retail business in Johannesburg
Issue: The company failed to file VAT returns for six months. SARS audited their records
and found they had collected R250,000 in output VAT but only claimed R100,000 in input
VAT.

Penalty Calculation:
VAT owed:

R250,000 - R100,000 = R150,000

SARS imposed:

 10% Late Payment Penalty: R150,000 × 10% = R15,000

 Interest (7% per annum for 6 months): R150,000 × (7%/12) × 6 = R5,250

Total amount payable:

R150,000 + R15,000 + R5,250 = R170,250

Lessons Learned:

 Businesses must file VAT returns on time to avoid penalties.

 Keeping accurate records of input VAT claims can reduce tax liability.

Case Study 2: VAT Fraud and Its Consequences

Company: A construction firm in Durban

Issue: The company inflated input VAT claims by creating fake invoices to reduce their
VAT payments. SARS detected inconsistencies and launched an investigation.

Findings:

 The company falsely claimed R500,000 in input VAT, reducing their tax bill.

 A forensic audit revealed non-existent suppliers and forged invoices.

Penalties Imposed:

 Repayment of R500,000 in VAT.

 A 200% penalty for fraud (R1,000,000).

  Directors faced criminal charges and possible imprisonment.

Lessons Learned:

 VAT fraud is a serious crime with severe financial and legal consequences.

 Companies must only claim VAT on legitimate purchases.

 SARS conducts random audits to detect fraudulent activity.

Key Takeaways on VAT Management

 File VAT returns on time to avoid penalties.

 Ensure accuracy in calculating input and output VAT.

 Do not engage in VAT fraud—SARS has advanced auditing techniques.

 Maintain proper records of all VAT transactions for at least five years.