Illustration regarding profit that head office can claim, Financial Accounting

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Illustration regarding profit that head office can claim

E Ltd sets up a branch in Nyeri on 1 July 2001. Goods are sent to branch at an invoice price which is 10% above cost. Sales attained during the financial year to 30th June 2002 were Sh 15m and sh 9m at the head office and branch respectively; goods sent to the branch had an invoice price of Sh 7.15m. Purchases by the head office totaled Sh 18m. What is the profit that the head office can claim to have made?

If the head office were to stand alone, it can claim two sets of sales:

 Sales to public Goods sent to branch (deemed to be ‘sales’ to branch) % Sh’000 % Sh’000 Cost 100 10,000 100 6,500 Profit 50 5,000 10 650 Selling price 150 15,000 110 7,150

Sales to public and goods sent to branch  (currency columns only) can be combined to generate:

Cost                                         16,500

Profit                                          5,650

Selling Price                               22,150

If the branch were to stand alone, it must consider its cost to be the value at which “goods were ‘purchased’ from the head office.  This of course is the price at which the head office ‘sold’ the goods to the branch (110% of original cost to head office)

 % Sh’000 Cost 110 6,600 Profit 40 2,400 Selling Price 150 9,000

All this information could be set out in the pro-forma layouts seen earlier as follows:

 Head office Branch Combined Sh Sh Sh Sh Sh Sh Sales 15,000 9,000 X Goods sent to branch 7,150 ___- _- 22,150 9,000 X Cost of sales: opening stock - - - Purchases 18,000 - X GFHO - 7,150 _- 18,000 7,150 X Closing stock (1,500) (550) (X) (16,500) (6,600) (X) Gross profit 5,650 2,400 X

After arriving at a subtotal of opening stock, goods from head office and purchases, the following steps were applied:

• Slot in the gross profits based on the calculations made before commencement on the income statements (sh 5,650 in column 1 and Sh 2,400 in column 2)
• Above this slot in / compute the cost of sales (Sh 16,500 in column 1 and Sh 6,600 in column 2)
• The difference between the subtotal referred to above and the cost of sales will be the closing stock.

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