COMPANY ACCOUNTS PROFIT OR LOSS PRIOR TO INCORPORATION

PROFITOR LOSS PRIOR TO INCORPORATION

Business is very often taken over by a company from a date earlier than the date of its incorporation or date of commencement of business. The profit of the company up to the date of its incorporation/commencement of business, cannot be treated as Trading Profit of the company. Thus, the profit arising to the company from the date of purchase, up to the date of incorporation/commencement of business is known as pre-incorporation profit. This pre-incorporation profit being considered as capital profit is transferred to Capital Reserve or adjusted with Goodwill. When a business is taken over and working continued, usually same set of books is used and ultimately, the total profit for the year is divided between pre and post incorporation periods. At times, this division is made on some estimation.

The usual practice is to prepare the profit and loss account only at the end of the year and then to allocate the profits between the two periods in the following manner :

(a)       Gross profit and expenses connected with sales to be apportioned according to the ratio of sales for the two periods.

(b)       Salaries, rent, interest etc. should be apportioned on the basis of ratio of time before incorporation and after.

(c)        Expenses solely incurred for the company on and after its incorporation e.g. preliminary expenses, directors’ fees, etc. should be charged wholly to the post-incorporation period.

Illustration 13 :

The Sai Deep Ltd. was incorporated on 1st August 1996, to take over the running business of Krishna Bros. with effect from 1st April 1996. The company received the certificate for commencement of business on 1st October 1996. The following P&L A/c was prepared for the year ended 31.3.1997.

Profit and Loss Account for the year ended 31.03.1997

		Particulars	Amt. (Rs.)		Particulars	Amt. (Rs.)
	To	Office Salaries	21,000	By	Gross Profit b/d	80,000
	To	Partners Salaries	6,000	By	Share Transfer Fee	1,000
	To	Advertisement	4,400
	To	Printing & Stationery	1,500
	To	Travelling expenses	4,000
	To	Office Rent	9,600
	To	Electricity Charges	900
	To	Auditors Charges	600
	To	Directors Charges	1,000
	To	Bad Debts	1,200
	To	Commission on Sales	4,000
	To	Preliminary Expenses	700
	To	Debenture Interest	1,600
	To	Interest on Capital	1,800
	To	Depreciation	2,100
	To	Net Profit	20,600
			81,000			81,000

Additional information :

(1)       Total Sales for the year, which amounted to Rs. 8,00,000 arose evenly up to the date of certificate of commencement, whereafter they recorded an increase of 2/3 during the year. Gross profit was at an uniform rate of 10% of selling price throughout the year and a commission of 0.5% was paid on sales.

(2)        Office Rent was paid @ Rs. 8,400 p.a. up to 30th September 1996, and thereafter it was paid @ Rs. 10,800 p.a.

(3)        Travelling Expenses include Rs. 1,600 towards sales promotion

(4)        Bad Debts written off –

(a)        A debt of Rs. 400 taken over from the vendor.

(b)       A debt of Rs. 800 in respect of goods sold in September 1996 Depreciation includes Rs. 600 for assets acquired in the post-incorporation period.

Show the “pre” and “post” incorporation results and also state how the results of pre- and post-incorporation is dealt with.

Solutrion :

M/S SAIDEEP LIMITED.

Dr.	Profit and Loss account for the year ended 31.3.96						Cr.
Expenses	Basis	Pre	Post	Income	Basis	Pre	Post
To Office salary	Time	7,000	14,000	By Gross Profit	Sales	20,000	60,000
To Partners’ salary	Actual	6,000	–	By Share trans. fee	Actual	–	1,000
To Advertisement	Sales	1,100	3,300	By Bal. transferred
To Printing &				to Goodwill A/c		2,800	–
Stationery	Time	500	1,000
To Sales promotion	Sales	400	1,200
To Travelling exp.	Time	800	1,600
To Office rent	Time	2,800	6,800
To Electricity chgs.	Time	300	600
To Director’s fees	Actual	–	1,000
To Auditors’s fees	Time	200	400
To Bad debts	Time	400	800
To Commission on sales	Sales	1,000	3,000
To Preliminary Exp.	Actual	–	700
To Debenture int.	Actual	–	1,600
To Int. on Capital	Actual	1,800	–
To Depreciation	Time	500	1,600
To Bal. b/d		–	23,400
		22,800	61,000			22,800	61,000

Working Notes :

1.       Pre-incorporation loss – It has been transferred to Goodwill A/c.

2.       Sales ratio —

	Pre - incorporation			Post- incorporation
Apr.	May	June	July	Aug.	Sept.	Oct.	Nov.	Dec.	Jan	Feb	Mar
1	1	1	1	1	1	12/	12/	12/	12/	12/	12/
						3	3	3	3	3	3

Pre-incorporation sales = 4. Post incorporation sales = 12; Hence, Sales ratio = 4:12 i.e. 1:3

Let average sales of first six months be Rs. 3 per month —

So, average sales of remaining six months (Rs. 3 + 2/3 of Rs. 3, i.e., Rs. 3+2 = Rs. 5 p.m.

Sales ratio	=	12 : 36
4 months	=	Rs. 3 per month		=	A × 3 =	12
8 months	=	Rs. 3 per month		=	i.e. 2 × 3	=	6 @ Rs. 5 p.m. = i.e. , 6 × 5 = 30 that is
30 + 6 =	36
12 : 36 = 1 : 3
3.  Allocation of office rent —
April to July			Pre-incorporation				Post-incorporation	5,400 Oct. to Mar.
			8,400 × 4 ÷ 12 = 2,800				10,800 × 6 ÷ 12 =
Aug. to March							8,400 × 2 ÷ 12 =	1,400 Aug. to Sept.
Aug. to Mar								6,800

4.  Allocation of depreciation —
On post inc. assets	Pre-inc.	Post-inc.
	—	600
Bal. Rs. 1,500 on time ratio 4 : 12	500	1,000

  SPECIALPOINTS IN RESPECT OF CERTAIN ITEMS

1. Income-tax : For provisions relating to advance tax, provision for income-tax refer any recommended Text Book.The following is an example –

Illustration 14 :

Trial Balance of Soma Ltd. as on 31st March, 1997 [extract]

Name of Account	Dr.(Rs.)	Cr.(Rs.)
Advance income tax for 1995-96	2,20,000
Advance income tax for 1996-97	2,30,000
Provision for income tax 1995-96		2,00,000

Adjustments :

(i)       The income tax assessment for 1995-96 completed during the year showed gross tax demand of Rs. 2,40,000 but no effect has been given for this in the account.

(ii)       Provision for income tax is to be made for Rs. 2,10,000 for 1996-97.

Show Journal Entries and relevant extract in the Final Account.

Solution :

Journal Entries of soma Limited.

	Date(1997)			Particulars					Dr.(Rs.)	Cr.(Rs.)
		31.3	Profit & Loss A/c					Dr.	2,10,000
			To Provision for Income-tax A/c							2,10,000
			(Being the amount of provision for Income-tax for
			the year 1996 - 97 charged to P/L Account)
		31.3	Profit & Loss Appropriation A/c					Dr.	40,000
			To Provision for Income-tax A/c							40,000
			(Being the amount of less provision for Income-tax
			for 1995-96 charged to P/L A/c of this year 1996-97)
		31.3	Provision for Income-tax A/c					Dr.	2,20,000
			To Advance Income-tax A/c							2,20,000
			(Being the amount of advance income-tax for earlier
			year 1995-96 adjusted with provision for tax.)
Dr.				Profit & Loss Account for the year ended 31.3.97 (Extract)						Cr.
			Particulars			Rs.		Particulars		Rs.
	To	Provision for Tax (1996–97)			2,10,000		By	Gross Profit b/d		?
	To	Net Profit c/d			?
	To	Provision for Tax
		(Less: Provision for 1995-96)			40,000		By	Balance b/d		?
							By	Net Profit during the year		?

SOMA Limited

Balance Sheet as on 31.03.1997 (Extract)

	Liabilities	Rs.	Assets	Rs.
	Share Capital	?	Fixed Assets	?
	Reserves & Surplus	?   Current Assets, Loan and Advances		?
	Current Liabilities & Provisions		Current Assets	?
	Provision for Tax		Loans & Advances
1995 - 96		20,000	Advance Income Tax for 1996-97	2,30,000
1996 - 97		2,10,000
		?		?

2. Sundry Debtors : Sundry debtors should be segregated agewise, namely, debts outstanding for a period exceeding six months, and other debts.

In regard to Sundry Debtors particulars to be given separately of –

(a)        debts considered good and in respect of which the company is fully secured :

(b)       debts considered good for which the company holds no security other than the debtor’s personal security; and

(c)        debts considered doubtful or bad.

3.    Bank Balances : Bank balances should be shown as follows –

(a)        Bank balance with Scheduled Banks, and

(b)        Bank balance with others.

For detail, Students are required to refer Schedule VI of Part I of the Companies Act, 1956 relating to the Form of Balance Sheet.