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Closing of accounts II

19 November 2014

In this newsletter we continue presenting the most important tasks related to the closing of accounts, summarising, in particular, the key duties and valuation procedures to be carried out in connection with current assets and accruals.

Reconciliation of inventories:

  • Regarding inventories, the most important year-end task is to carry out an actual quantitative stock-check and its evaluation (accounting for shortages and surpluses) as well as to account for scraps, if applicable.
  • Under the provisions of the Accounting Act, the following rules apply to inventory counts:
    • If the company keeps quantitative records of its inventories on a continuous basis, it must make sure of the authenticity of the data entered in the inventory by means of actual quantitative stock-checks. The company must carry out such actual quantitative stock-checks periodically, as specified in its rules of stock-taking and inventory of assets and liabilities, but at least in every three years.
    • If the company does not keep quantitative records of its inventories or they are not kept on a continuous basis, it must make sure of the authenticity of the data entered in the inventory by means of stock-taking, using quantitative stock-checks.
    • In the case of inventories recognised only in terms of value, the value of the inventories must be checked by reconciliation (comparison with the analytical accounts or the related documents).
    • The company may check the correctness of its stock data effective as at the balance sheet date by carrying out a quantitative stock-check in the quarter preceding or following the balance sheet date of the relevant financial year. Adjustments that may become necessary on the basis of the quantitative check must be recognised in respect of the balance sheet date of the financial year concerned. However, the company may not apply this method if it does not keep records of its inventory of goods itemised either by quantity or by value.
  • In addition to inventory counts, another key year-end task is to account for the impairment of inventories and their reversals, where applicable, in accordance with the following rules:
    • If the cost or the carrying amount of stocks purchased is significantly and permanently higher than their fair market value known at the time of preparation of the balance sheet, they must be recognised in the balance sheet at the fair market value. Any difference must be accounted for as impairment.
    • If the cost or the carrying amount of stocks of finished goods and work in progress is significantly and permanently higher than their selling price known and expected at the time of preparation of the balance sheet, they must be recognised in the balance sheet at the value of their selling price less any cost expected to arise, plus the value of any expected subsidy. Any difference must be accounted for as impairment.
    • If the market value of these stocks significantly and permanently exceeds their carrying amount, the previously recognised value of impairment must be reduced with the difference by means of reversal. After reversing impairment, the carrying amount of the inventories cannot exceed of their original cost.
    • The costs of purchased stocks and stocks of finished goods and work in progress must be shown in the balance sheet at an impaired value if such stocks do not conform to the relevant requirements, are not suitable for use for their original intended purpose, if they are damaged, their usability or marketability has become doubtful, or if they have become useless. In this case, the value of inventories must be reduced - by accounting for the difference as impairment – to the extent that they must be shown in the balance sheet at the effective (known) market value calculated in terms of the usability (marketability) of the stocks and applicable when the balance sheet is made or the quality assessment is carried out (at least at the raw material price or waste value).
  • In the case of stocks of finished goods and work in progress the direct cost of the inventories must be determined at the end of the year. The direct cost may be post-calculated or determined in accordance with the relevant standard. The standard direct cost of work in progress can be calculated on a proportional basis based on the standard direct cost of the finished goods and the degree of completeness. After calculating the direct costs, it is advisable to check whether the company can actually apply them in the selling prices in the year following the financial year in question, i.e. whether the stocks are overvalued. If the direct cost is higher than the expected selling price, it is reasonable to account for impairment in respect of stocks of finished goods and work in progress.
  • The company must hold a storage certificate for stocks stored in an external place, which must be reconciled with the analytical accounts.
  • Variations in stocks of finished goods and work in progress relative to the previous year must be reconciled with the variations in stocks of finished goods and work in progress recognised as the value of own work capitalised.
  • The capitalised value of self-constructed assets must also be reconciled in the case of stocks of finished goods and work in progress. Under the relevant legislation, the value of stocks of finished goods and work in progress calculated at direct cost and recognised among other or extraordinary charges must be shown at the capitalised value of self-constructed assets.
  • If, at the end of the year, some of the fixed assets are reclassified to inventories, it must be checked whether their value was properly presented and they were actually derecognised from among tangible assets and recognised among inventories.
  • The correctness of the classification and value of payments on account in the balance sheet must also be checked (to see if they were shown in an amount net of previously charged VAT). If the payment on account was made in a foreign currency, the company must also revaluate its amount at the end of the year.

Reconciliation of accounts receivable:

  • In the case of accounts receivable the first task during the closing of accounts is to reconcile the value of the analytical accounts with the values entered in the general ledger.
  • The most important year-end valuation task related to accounts receivable, including, in particular, trade accounts receivable, is to account for impairment, where applicable. The impairment of trade receivables must be recognised in consideration of the principle of valuation item by item. In each case it is the debtor that must be classified, regardless of the outgoing invoices, on the basis of which each debtor can have one specific rating. It must be checked wither overdue trade receivables are covered (credit insurance, trade accounts payable), and impairment may be recognised only to the extent of the amount covered. The above may be based on the age list of trade receivables.
  • The reversal of the impairment of trade receivables is acceptable only in the event that the buyer has settled payment or met its obligations in any other way.
  • The notes to the annual accounts must include the amount of accumulated impairment recognised or reversed in the financial year under review. It is important to check whether the variations in the impairment of trade accounts receivable recognised in the balance sheet correspond to the balance of impairments and reversals recognised among other charges and other income in respect of the financial year concerned.
  • The impairment of receivables denominated in foreign currencies must be recognised at the exchange rate originally applied in the books.
  • The year-end revaluation of accounts receivable denominated in foreign currencies must be carried out after accounting for impairment. It is important to note that impaired receivables may not be revaluated.
  • When irrecoverable receivables are derecognised, it is important to check if the conditions of irrecoverability exist and the underlying documents are available, as required under the Accounting Act. Only the documents available at the time of preparation of the balance sheet can be taken into account.
  • In relation to the above, items modifying the corporate tax base must also be determined in regard of irrecoverable receivables and impairments recognised.
  • At the end of the year the company must check the existence of grounds for trade receivables being recognised among assets, and these items must be reclassified to other current liabilities in the balance sheet (based on the individual trade account balances).
  • Another key task is to calculate amounts owed by affiliated undertakings and companies linked by virtue of a participating interest and check their classification in the balance sheet.
  • In the case of other accounts receivable, the company must make sure that the items specified by the Accounting Act are shown in the appropriate line of the balance sheet, not among accrued assets. Such items include amounts owed by employees, taxes to be refunded, subsidies requested but not yet granted, as well as concessions subsequently received (due) – indirectly related to a specific product, material, commodity or service not yet invoiced – on a contractual basis in the relevant financial year, in the amount claimed under the contract.
  • When calculating the balance sheet value of other receivables, it is also necessary to check whether receivables recognised among other current liabilities which have a negative balance at the balance sheet date have been transferred to this line of the balance sheet. Also, items with a negative balance recognised among trade accounts payable must be reclassified to this line.

Reconciliation of securities:

Reconciliations concerning shares and debt securities were already detailed in our previous newsletter discussing the reconciliation of fixed assets, so in addition to the tasks described there we would like to highlight the following:

  • Redeemable shares acquired by the entrepreneur for consideration (redemption value) must be recognised among repurchased equity investments from the date of acquisition to the date of registration of the mandatory reduction of the share capital in the trade register.In this case it is important to pay attention to the date of registration, whether it took place before or after the balance sheet date.
  • As for own shares, own participations and redeemable shares, another essential task is to transfer their carrying amount from retained earnings to tied-up reserves.
  • The notes to the annual accounts must present information on repurchased own shares and the acquisition of own participations, the reasons thereof, the number and par value of the shares, their ratio as to subscribed capital, the amount of consideration paid or received upon the acquisition or sale of own shares or participations for pecuniary interest, as well as the total number and par value of shares directly or indirectly brought under the company’s control during the financial year.
  • If equity investments (including own shares and participations) recognised among current assets are sold before the date of preparation of the balance sheet, the positive difference between the selling price and the carrying amount of the investment sold (exchange gain) must be shown among other financial income, while the negative difference (exchange loss) must be accounted for among other financial charges.

Reconciliation of liquid assets:

  • The cash balance in the general ledger must be reconciled with the analytical accounts as well as the inventory as at the balance sheet date.
  • In the case of bank accounts the company must make sure that the account balance recorded in the general ledger corresponds to the closing balance of the last bank account statement provided by the financial institution keeping the account.
  • The year-end revaluation of currency stocks and foreign exchange deposit accounts must always be done at the exchange rate set out in the accounting policy.
  • It is essential to check the balances of transit accounts and the legal grounds thereof.
  • The negative balance of bank accounts must be transferred to short-term loans.
  • In respect of liquid assets, the company must ensure that the interests due on fixed deposits as well as bank charges and account-keeping fees included in the bank account statements issued after the balance sheet date but not yet affecting the financial year under review have been recognised among accrued and deferred assets.

Reconciliation of accrued and deferred assets:

  • When closing the accounts of accrued and deferred assets, the company must check whether the items accrued at the end of the previous year have been fully released in the current year (after the opening of accounts at the beginning of the year or as they arose during the year).
  • Accruals and deferrals are intended to make the profit for the year more precise, as their amount is precisely known (and supported by documents or calculations), so at the end of the year the company must take into account all items which
    • arise in the period preceding the balance sheet date but constitute the turnover or other income of the period following the balance sheet date (accrued income),
    • are incurred in the period preceding the balance sheet date but constitute the costs and charges of the period following the balance sheet date (deferred costs and charges),
    • any other items classified among deferred charges under the Accounting Act.
  • Items most often recognised among accrued income:
    • accrued income from services provided: if the service is continuously provided, it must be checked whether all revenues received until the last month of the financial year under review have been recognised,
    • accrual of interests on loans given: in this case the company must make sure that all interest income received until the last day of the financial year under review have been recorded in the accounts,
    • accruals related to securities:
      • in the case of discount securities it must be checked whether the prorated amount of the difference between the par value and purchase price of the security has been recognised among accruals,
      • in the case of interest-bearing investment securities, the prorated amount of the positive difference (gain) between their par value and their purchase price must be accrued, if in its accounting policy the undertaking decided to use the accrual-based method.
    • As for the accrual of profits from derivative transactions, the company must check if the conditions prescribed by the law are met.
  • Items most often recognised among deferred costs and charges:
    • Interests payable on loans provided before the balance sheet date but due in the following year,
    • Previously invoiced rents,
    • Multiannual or annual insurance premiums and other fees (not assigned to calendar years),
    • Interest-bearing securities held for trading, commissions relating to the acquisition of participations and major buy options may be deferred at the company’s own discretion,
    • Deferral of a portion of the difference between income from the issue of bonds and the amount to be repaid due in the years following the year under review.