Fundamentals of Partnership

I. Provisions in the absence of Partnership Deed

a. Profit sharing ratio - equally e. Interest on loan - provided at the rate of
b. Salary / commission - not provided 6% per annum
c. Interest on capital - not provided f. Admission of a new partner - with the
d. Interest on drawings - not charged consent of all the partners.

II. Format of Profit and Loss Appropriation A/c

Profit and Loss Appropriation A/c
Particulars Amount Particulars Amount

To interest on capital By profit and loss a/c (net

To salary to partners profit)
To partners’ commission By Interest on drawings
To reserve
To divisible profits

III. Appropriation of profits vs charge against profits:

Appropriation of Profits:
● It refers to distribution of profits.
● Recorded on debit side of profit and Loss appropriation account
● Provided only in case of profits
● Egs: salary, interest on capital, partners commission

Charge Against Profits

● includes expenses which are deducted from net profits.
● recorded on debit side of profit and loss account
● It is to be provided whether there is profit or loss
● Egs: Rent paid to a partner, interest on partners loan, manager commission

IV. Preparation of Partners’ Capital Account

Fixed Capital:
● It refers to capital which remains fixed except in 2 situations:
a. When additional capital is introduced
b. When capital is withdrawn permanently
● Two accounts are to be prepared: partners’ capital a/c and partners’ current a/c
● Adjustments like salary, interest on capital, interest on drawings, divisible profits etc. are recorded in
partners’ current a/c
● It always shows credit balance.

Fluctuating Capital
● It refers to capital which keeps on changing.
● Only one account is to be prepared: Partners’ capital a/c
● Adjustments like salary, interest on capital, interest on drawings, divisible profits etc. are recorded in
partners’ capital a/c
● Fluctuating capital accounts may show debit or negative balance.

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 Partners’ Capital A/c (Using fluctuating capital )
Particulars A B Particulars A B

To drawings By Balance b/d

To interest on By Salary A/c
drawings By interest on
To bank a/c capital a/c
(permanent By profit and
withdrawal of loss
capital) appropriation a/c
To losses a/c By Bank
To Balance c/d (additional
capital)

Change in Profit Sharing Ratio

Methods of calculating goodwill

1. Average profit method
a. Simple average profit method-
Goodwill = average profits × no. of years purchase
● Average profit = sum total of profits of all years / total number of years
b. Weighted average profit method-
Goodwill = weighted average profits x no. of years purchase
• Weighted average profits = Total product of profits/Total weight
2. Super profit method
Goodwill = super profits × no. of years purchase
● Super profit = average or actual profits - normal profits
● Normal profit = capital employed × normal rate of return / 100
3. Capitalisation method
a. Capitalisation of average profits method:
Goodwill = capitalised value of average profits - capital employed
• Capitalised value of average profits = average profits × 100/normal rate of return
b. Capitalisation of super profits method:
Goodwill = super profits × 100/normal rate of return

Accounting Treatments Required when there is Change in Profit Sharing Ratio

Calculation of sacrifice and gain ratio
● Sacrifice Ratio = old ratio - new ratio
● Gain Ratio = new ratio - old ratio
Accounting Treatment of Goodwill
Gaining Partners' Capital a/c Dr
To Sacrificing Partners' capital a/c
Accounting treatment for goodwill already appearing in the books of accounts:
Old partners’ capital a/c Dr
To goodwill a/c

Accounting Treatment of Reserves, accumulated profits and accumulated losses

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Case 1: when partners decide to distribute reserves and losses among themselves
● For distribution of reserves and To old partners' capital a/c
accumulated profits (old ratio)
Reserve Fund Dr ● For distribution of accumulated losses (old ratio)
General reserve Dr Old partners' capital account Dr
Profit and loss (credit balance) Dr To Profit and loss a/c (debit balance)
Workmen compensation reserve Dr To advertisement suspense a/c
Investment fluctuation fund Dr To deferred revenue expenditure a/c
Case 2: when partners do not want to distribute reserves, accumulated profits and accumulated losses
among themselves
Gaining Partners' Capital a/c. Dr
To Sacrificing Partners' capital a/c
ACCOUNTING TREATMENT OF REVALUATION OF ASSETS AND LIABILITIES
Nature of Revaluation a/c - Nominal. (losses are recorded on Dr. side and gains are recorded on Cr. side)
Format of Revaluation A/c
Particulars Amount Particulars Amount

To Decrease in liabilities By Decrease in liabilities

To Increase in liabilities By Increase in liabilities
To Unrecorded liabilities By Unrecorded assets
To Profit on revaluation By Loss on revaluation
Journal:
a. For increase in assets c. For increase in liabilities
Assets a/c Dr Revaluation a/c Dr
To Revaluation a/c To liabilities a/c
b. For decrease in assets d. For decrease in liabilities
Revaluation a/c Dr Liabilities a/c Dr
To Assets a/c To Revaluation a/c

Case 1: When partners decide to record new values of assets and liabilities:
a. For profit on revaluation b. For loss on revaluation
Revaluation a/c Dr Partners’ capital a/c Dr
To Partners’ capital a/c To Revaluation a/c

Case 2: When partners decide not to record new values of assets and liabilities.
Gaining partners’ capital a/c Dr
To sacrificing partners’ capital a/c

Admission of a Partner

Accounting Treatments required in case of Admission of a Partner

I. Calculation of new and sacrifice ratio

II. When new partner brings capital:
Cash/Bank A/c Dr
To new partner's capital a/c

III. Accounting treatment of goodwill:

● Goodwill already appearing in the books of accounts:

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 Old partners’ capital a/c Dr
To goodwill a/c
● When goodwill is brought by new partner in cash:
Cash / Bank a/c Dr
To premium for goodwill
(For bringing share of goodwill in cash)
Premium for goodwill a/c Dr
To sacrificing partners capital a/c
(For distribution of goodwill among sacrificing partners) Sacrificing Partners'
capital a/c Dr
To Cash/Bank A/c
(When goodwill is withdrawn by partners)

● When goodwill is paid privately by new partner to sacrificing partners

No entry
● When goodwill is brought by new partner in kind Asset A/c Dr.
To premium for goodwill
(For bringing share of goodwill in kind)
Premium for goodwill a/c Dr
To sacrificing partners capital a/c
(For distribution of goodwill among sacrificing partners)
● When goodwill is not brought in cash
New partner's current a/c Dr
To sacrificing partners capital a/c
(For distribution of goodwill among sacrificing partners)
IV. Accounting Treatment of Reserves, accumulated profits and accumulated losses
Same as last chapter
V. Accounting Treatment of Revaluation of assets and liabilities Same as last chapter

Dissolution of Partnership Firm

Dissolution of Partnership Dissolution of Partnership Firm
● Business is not closed ● Business is closed
● Economic relation b/w partners continue ● Economic relation between partners end
● Books are not closed ● Books are closed
Accounts Prepared: Realisation, Partners’ Capital, Cash/Bank, Partners’ loan

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 Realisation A/c
Particulars Amt. Particulars Amt.
(₹) (₹)
To Sundry Assets: xxx By Sundries Liabilities xxx
To Cash/ Bank (Liability paid) xxx By Provision on Assets xxx
To Partners Capital A/c xxx By Cash/Bank (Assets realized) xxx
(liability taken by partner) By Cash/Bank (unrecorded Asset) xxx
To Cash/ Bank (Realisation Exp.) xxx By Partners Capital A/c xxx
To Partners Capital A/c‘s (Profit to Partners) xxx (Asset taken by Partner)
By Partners Capital A/c xxx
(Loss transfer to Partners if any)

xxxxx xxxxx
Partner’s Loan A/c
Particulars A (₹) B (₹) Particulars A (₹) B (₹)
To Bank A/c xxx xxx By Balance b/d xxx xxx
xxxx xxxx xxxx xxxx

Partner’s Capital A/c

Particulars A (₹) B (₹) Particulars A (₹) B (₹)
To P&L A/c (Loss) By Balance b/d
To Realisation A/c (Loss) By General Reserve
To Realisation A/c By P&L A/c (Profit)
(Asset taken over) By Realisation A/c(profit)
To Bank A/c (Final Payment)
xxxx xxxx xxxx xxxx
Cash/ Bank A/c
Particulars Amt. Particulars Amt.
(₹) (₹)
To Balance b/d By Realisation A/c (Liabilities paid)
To Realisation A/c (Assets Realised) By Realisation A/c (Realisation Exp.)
To Realisation A/c (Unrecorded Assets) By Realisation (unrecorded liability)
To Partner’s Capital A/c By Partner’s Loan A/c
By Partner’s Capital A/c
xxxx xxxx

Accounting Treatment of Expenses and Remuneration for dissolution work:

1. Realisation expenses borne and paid 3. Realisation expenses borne by partner
by firm and paid by firm
Realisation A/c Dr. Partner’s Capital A/c Dr.
To Bank A/c To Bank A/c
2. Realisation expenses borne by firm 4. Realisation expenses borne and paid
and paid by partner by partner
Realisation A/c Dr. No Entry
To Partner’s Capital A/c 5. For remuneration to partner
Realisation A/c Dr.
To Partner’s Capital A/c

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 Issue of Shares

DISCLOSURE OF SHARE CAPITAL IN BALANCE SHEET

Balance Sheet
Particulars Note No. Amount(CY) Amount(PY)

Equity and Liabilities

1. Shareholders’ Funds
a. Share Capital 1

Notes to Accounts:
Particulars Amount

1. Share Capital
Authorised Capital
(................... Shares of ₹ ......... each)

Issued Capital
(................... Shares of ₹ ......... each)

Subscribed Capital
Subscribed and fully paid up
(................... Shares of ₹ ......... each)

Subscribed but not fully paid up

(.............. Shares of ₹ ....... Each, ₹...... called up)
Less: Calls in Arrears
Add: Share Forfeited

Issue of Shares for consideration other than cash

● When a company purchases assets/business from the vendor and issues shares to the vendor.
Journal Entries
● For purchase of asset / business
Assets A/c Dr Assets A/c Dr
To Vendor A/c Goodwill A/c Dr
( For purchase of assets ) To Liabilities A/c
To Vendor A/c
Or To Capital Reserve A/c
( For purchase of business)

● For issue of shares

a. Vendor A/c Dr b. Vendor A/c Dr
To Share Capital A/c To Share Capital A/c
( For issue of sharess at par) To Securities Premium A/c
(For issue of shares at premium)
Issue of Shares to public (Lump Sum Method)

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 I. At Par II. At Premium
On receiving applications On receiving applications
Bank A/c Dr Bank A/c Dr
To Share Application and Allotment A/c To Share Application and Allotment A/c
On transferring application money on On transferring application money on
allotment to share capital allotment to share capital
Share Application and Allotment A/c Dr Share Application and Allotment A/c Dr
To Share Capital A/c To Share Capital A/c
To Securities Premium A/c

Issue of Shares to public (Instalment Method)

Issue of Shares at Par
On receiving applications
Bank A/c Dr Allotment money received
To Share Application A/c Bank A/c Dr
On transferring money to share capital To Share Allotment A/c
Share Application A/c Dr First call money due
To Share Capital A/c Share First Call A/c Dr
To Securities Premium A/c (if premium) To Share Capital A/c
Allotment money due To Securities Premium A/c (if premium)
Share Allotment A/c Dr First call money received
To Share Capital A/c Bank A/c Dr
To Securities Premium A/c (if premium) To Share First Call A/c

Forfeiture of Shares
I. Forfeiture of shares which were II. Forfeiture of shares which were
issued at par: issued at premium:
Share Capital A/c Dr. a. When premium is received : same
To Share Allotment a/c entry as that of when shares are
To Share Call a/c issued at par
To share forfeiture a/c b. When premium is not received :
Share Capital A/c Dr.
Securities premium a/c Dr.
To Share Allotment a/c
To Share Call a/c
To share forfeiture a/c

Reissue of Shares
I. Forfeited shares are II. Forfeited shares are III. Forfeited shares are
reissued at par: reissued at reissued at
Bank a/c Dr premium: discount:
To Share Capital A/c Bank a/c Dr Bank a/c Dr
To Share Capital A/c Share forfeiture A/c Dr
To securities To Share Capital A/c
premium a/c

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 Issue of Debentures
Issue of Debentures as a Collateral Security: When a company takes loan & issues debentures as
secondary security.
Accounting Treatment
Journal Entries
Bank a/c Dr.
To Bank Loan a/c
( For taking loan )
Debentures Suspense A/c Dr.
To Debentures A/c
( For issue of debentures as collateral security )

Balance Sheet
Particulars Note No. Amount

Equity and Liabilities

Non Current Liabilities

Long Term Borrowings 1

Notes to Accounts:
Particulars Amount

1. Long Term Borrowings

Bank Loan
Debentures
Less: Debenture Suspense

Issue of Debentures for consideration other than cash

● When a company purchases assets/business from the vendor and issues debentures to the vendor.
Journal Entries
● For purchase of asset / business
Assets A/c Dr Assets A/c Dr
To Vendor A/c Goodwill A/c Dr
( For purchase of assets ) To Liabilities A/c
To Vendor A/c
Or To Capital Reserve A/c
( For purchase of business)

● For issue of debentures

c. Vendor A/c Dr d. Vendor A/c Dr

To Debentures A/c To Debentures A/c
( For issue of debentures at par) To Securities Premium A/c
(For issue of debentures at premium)

e. Vendor A/c Dr

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 Discount on issue of debentures A/c Dr
To Debentures A/c
(For issue of debentures at discount)

Issue of Debentures with reference to terms of Redemption

I. Issued at par and redeemable at par: IV. Issued at par and redeemable at
Bank A/c Dr premium:
To Debenture Application & Allotment A/c Bank A/c Dr
( Application money received ) To Debenture Application & Allotment A/c
Debenture Application & Allotment A/c Dr Debenture Application & Allotment A/c Dr
To Debentures A/c Loss on Issue of Debentures A/c Dr
( Application money transferred to debentures To Debentures A/c
a/c ) To Premium on Redemption of Debentures
II. Issued at premium and redeemable at A/c
par: V. Issued at premium and redeemable at
Bank A/c Dr premium:
To Debenture Application & Allotment A/c Bank A/c Dr
Debenture Application & Allotment A/c Dr To Debenture Application & Allotment A/c
To Debentures A/c Debenture Application & Allotment A/c Dr
To Securities Premium Reserve A/c Loss on Issue of Debentures A/c Dr
III. Issued at discount and redeemable at To Debentures A/c
par: To Securities Premium Reserve A/c
Bank A/c Dr To Premium on Redemption of Debentures
To Debenture Application & Allotment A/c A/c
Debenture Application & Allotment A/c Dr VI. Issued at discount and redeemable at
Discount on Issue of Debentures A/c Dr premium:
To Debentures A/c Bank A/c Dr
To Debenture Application & Allotment A/c
Debenture Application & Allotment A/c Dr
Loss on Issue of Debentures A/c Dr
To Debentures A/c
To Premium on Redemption of Debentures A/c

Interest on Debentures
Writing off Discount/Loss on Issue of
Interest on Debentures A/c Dr Debentures
To Debentureholders A/c
( Interest due on debentures ) Securities Premium A/c Dr.

Debentureholders A/c Dr Statement of Profit and Loss Dr.

To Bank A/c
( Payment of interest to debentureholders ) To Discount/Loss on Issue of
Debentures A/c
Statement of Profit & Loss A/c Dr
To Interest on Debentures A/c (Discount/loss on issue of debentures written-
( Interest transferred to statement of p&l ) off)

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 Name of the Ratio Formula Notes
1. Liquidity Ratios – to assess ability of business to pay its short term liabilities
a. Current Ratio Current Assets ● 2: 1 is said to be an ideal ratio
● Working Capital = Current
Current Liabilities Assets – Current Liabilities
b. Liquid/Quick/Acid Test Liquid Assets ● Liquid Assets = Current Assets –
Inventories- Prepaid Expenses
Current Liabilities and advance tax.
● Ideal quick ratio is said to be 1:1
2. Solvency Ratios – to assess ability of business to pay its long term liabilities

a. Debt Equity Ratio ● Long term debt = long term

Long Term
borrowings + long term
Debt
provisions
Shareholders ● Shareholders’ funds/Equity =
funds’ Share capital + Reserves and
Surplus
b. Debt to Capital Employed Ratio Long Term ● Capital Employed
Debt
=Shareholders’ funds + Non-
Capital
current liabilities
Employed ● Capital Employed = Non-current
Assets + Working Capital
● Capital Employed = Total Assets
- Current Liabilites
c. Total Assets to Debt Ratio Total Assets ● Total Assets = Non-Current
Assets + Current Assets
Long Term Debt

d. Proprietary Ratio Shareholders funds

Total Assets
e. .Interest Coverage Ratio Profit before interest and tax

Fixed interest charges

3. Activity/Turnover Ratios – to assess the ability of business to use its resources efficiently

a. Inventory Turnover Ratio ● Cost of revenue from operations =

opening inventory + net purchases
Cost of revenue from
operations
+ direct expenses – closing
inventory
Average Inventory ● Gross Profit = Revenue from
operations – Cost of revenue from
operations
● Average Inventory=(opening
inventory +
closing inventory)/2

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 b. Trade Receivables ● Average trade receivables =
Turnover Ratio Net credit revenue from (opening trade receivables +
operations
closing trade receivables )/2
Average trade receivables

c. Trade Payables Turnover Ratio Net credit purchases ● Average trade payables =
(opening trade payables +
Average trade closing trade payables )/2
payables
d. Working Capital Turnover Ratio Net revenue from
operations

Working Capital
e. Fixed Assets Turnover Ratio Net revenue from ● Net Fixed Assets = Fixed
operations Assets - Depreciation

Net Fixed Assets

f. Net Assets Turnover Ratio ● Capital Employed
Net revenue from =Shareholders’ funds + Non-
operations current liabilities
● Capital Employed = Non-current
Net Assets/Capital Assets + Working Capital
Employed ● Capital Employed = Total Assets
- Current Liabilities
4. Profitability Ratios – to judge the profitability position of a business

a. Gross Profit Ratio Gross Profit x 100

Net revenue from operations

b. Operating Ratio (Cost of revenue from operations +

Operating Expenses) x 100
Net revenue from operations
c. Operating Profit Ratio Operating Profit x 100

Net revenue from operations

d. Net Profit Ratio Net Profit x 100

Net revenue from operations

e. Return on Investment Profit before Interest & Tax x 100

Capital Employed

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 FORMAT OF CASH FLOW STATEMENT

Particulars (₹) (₹)

A. Cash Flow from operating Activities
Net Profit before Taxation and Extraordinary items(WN 1)
Adjustment for Non-Cash And Non-Operating items
Items to added back:
Depreciation
Interest on Borrowings (Short term and long term)
writing off underwriting commission/share issue expenses
Goodwill/Patents/Trade Marks/Copyrights Amortised
Loss on sale of Fixed Assets
Increase in Provision for doubtful debts
Items to be Deducted:
Interest Income / Dividend Income/Rental Income
Profit on sale of Fixed Assets
Decrease in Provision for doubtful debts
Operating profit Before working Capital Changes
Add: Decrease in Current Assets/Increase in Current Liabilities
Less: Increase in Current Assets/Decrease in Current Liabilities
Cash generated from Operations(D+E-F)
Less:Income Tax Paid (Net of Refund Tax)
Net Cash from/Used in Operating Activities
B. Cash Flow from Investing Activities:
Add: Proceeds from Sale of Tangible/Intangible Fixed Assets/Non Current Investment
Add: Interest Received/Dividend Received/Rent Received
Less: Purchase of Tangible/Intangible Fixed Assets/Non Current Investment
Extraordinary items(e.g. Insurance claim on machinery against fire)
Net cash from/Used in investing Activities
C.Cash Flow From Financing Activities:
Add: Proceeds from Issue of share capital/debentures/long term/short term borrowing
Less: Redemption of Debentures/Preference Shares/Long term/Short term borrowing
Less: Payment of Underwriting commission/Shares issue Expenses
Less: Interest on Long-term/Short term Borrowings Paid/ Dividend Paid
Extraordinary items(E.g Buy-back of shares)
Net Cash from financing Activities
4.Net Increase/Decrease in cash and cash Equivalents(A+B+C)
5.Add: Cash and Cash Equivalents in the beginning of the Year
6.Cash and Cash Equivalents at the end of the year

Particulars (₹)
Net profit of the current year
Add:- Transfer to reserves
Proposed Dividend (PY)
Interim Dividend
Provision for Tax (CY)
Net Profit before tax and extraordinary items

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