Partnerships

Business run be two or more people working together as owners

Advantages of Partnerships

1. Range of more knowledge and skills

2. More capital can be raised

3. Management of the business can be shared

4. Decision making and responsibilities can be shared so less stress

5. Liquidity is improved ( more capital )

6. The business has more ideas

7. Losses can be shared

This Question can come in diffent forms such as why would a sole trader would want a new partner or why a existing partner would want another partner. They are all the same

Disadvantages

1. Disagreements can occur

2. Profits have to be shared

3. Decision must be recognised by all partners so may take longer time to implement // loss of control

4. One partners action may bind another partner

5. All partners are responsible for the debts of the business

Ways in which the liquidity position of a partnership can be improved

1. Partner introduces more capital

2. Admit a new partner

3. Sale of a surplus non current asset

4. Reduce Partners Drawing and Salaries

5. Obtain a loan from partner or bank

This is the same advantages for working capital

Partnership vs Limited Liabilities

1. Partnership has no seperate legal entity whereas limited liability has seperate legal entity so there is continuity

2. Liability of partnership is unlimited whereas for companies it is limited

3. Partnership has more Control than limited liability where there are many shareholder involved

4. There could be disgreement & disputes between partners

5. More capital is raised by limited companies

6. Limited liability can be publicly scrutinised or sued

7.More paper work and detailed financial statements are required for limited companies. Also very costly to set up

8. In partnership, one partners action may bind another parnter

Items in a partnership agreement

1. The capital to be contributed by each partner

2. The rate of interest on drawing charged

3. The rate of interest on capital paid

4. The profit / loss sharing ratio

5. Drawing limitations

6. Salaries to be paid to partners

7. Duties / responsibilities for each partner

8. Procedure to be followed when partner dies retires or is admited

Which partnership agreement is followed when there is no agreement?

partnership act of 1890

What is included in it?

1. No partners Salary

2. No interest on drawings

3. Profit / loss share is equal

4. No interest on Capital

5. Interest in loan is 5%

Again this comes very indirectly, you may have to follow these rules if they don't specify a specific part of the agreement, for example the profit share

Reasons why the partners current balance can have a debit balance

1. Has drawn excessively than the allocated profit

2. The business has made a loss

Reasons why there is a seperate account for capital & Current account

Capital Account

1. Used to show permanent investment

2. To record big capital changes / impacts such as goodwill

3. To calculate interest on capital

Current Accounts

1. To show profits retained by each partner and any ongoing transactions between partner and partnership

2. Reveal excess drawings

3. Compares profit earned and the amounts withdrawn

4. To calculate interest on drawings

5. To seperate profit , drawings and capital

List items in an appropriation account

1. Interest on drawing

2. Interest on capital

3. Partner's Salary

4. Profit Share

Why is interest on drawings charged?

1. To encourage partners to draw less

2. To reward partners with less drawings

3. To retain cash in the business

Why is interest on capital paid?

1. To encourage partners to introduce more capital

2. To reward partners for their business investments

3. To compensate due to the unequal capital introduction

4. To reward partners for lost opportunity cost on capital invested

Opportunity Cost means the profit you could have earned if you invested it somewhere else

Finance methods in Partnerships

1. Bank loan

2. Partner introduces more capital

3. Partner introduces loan

4. Admit a new partner

5. Sale of surplus non current assets

6. Get loans from family or grants

Items in the Appropriation account & Partnership Agreement

Not present in the Appropriation but present in Agreement

1. Drawing limitations

2. Capital to be introduced

3. Duties & responsibilities of partners

4. Loan interest

Present in both

1. Interest on drawings and capital

2. Profit sharing ratio

3. Partners Salaries

Why would a partner provide a loan instead of capital

1. Funds are required for a limited period only

2. Greater Security than Capital

3. Repayment of Loan is Before Capital so more secure

Why would a partner be an employee instead

1. More Secure // Less Risky

2. Less Stress as less decision making & responsibilities

3. Entitled to holidays & Sick Pay

What is goodwill?

It is an intangible asset that arises from customer loyalty, reputation and location and it is the total cost of acquiring the business less assets and liabilities that have been purchased

Factors that arises the creation of Goodwill

1. Customer loyalty or returning of customers

2. Location

3. Profitability

4. Brand or logo // Reputation

5. Skill of workforce

6. Quality of products

Situations Goodwill must be Adjusted (only)

1. Changes in profit ratio

2. Admission of a new partner

3. Retirement of a partner

No goodwill is created when the business is dissolved

Why is Goodwill adjusted when a new partner is admitted

To reward or benefit the original partners for their efforts in building up the business and goodwill

Advantages of Goodwill

1. Gives an accurate value of the business

2. Doesn't understate the business value and rewards partners

Disadvantages of Goodwill

1. It is subjective so it is difficult to determine in terms of money

2. It is changed due to sudden events such as unethical action by a partner

3. According to IAS, only purchased goodwill is allowed to be recorded

The Question usually ask why Goodwill was not recorded in the books of account. This is called inherent goodwill and not purchased goodwill

What is a Revaluation Account?

An account that records profit or loss due to any changes of the assets & liabilities value in the partnership

Limited liabilities also follow the same principle but they are called revaluation reserves

What is Realisation account?

Records any profit or loss on settling/closing the books accounts of the business

Adjusting goodwill and Revaluating Assets when partner retires

1. Fair value of the assets may be greater than the book value

2. Original partners are rewarded for the efforts in building up the business so any increase in value of assets must be credited to the capital accounts and must be paid in cash when they retire

A very important point, I forgot to mention is that Goodwill and Profit from Revaluation are called unrealised profits...Also a simple way to remember why they revalue assets is to remember 2 points. Fair value of Asset & Benefiting Original Partners

Reasons for Dissolution

1. Partner retires or dies

2. Mutual Agreement between partners

3. There is disagreement between partners

4. Court orders to cease trading

5. Bankruptcy

What if Partner has a DEBIT balance due to the dissolution of a partnership?

The partner owes money to the business so he has to sacrifice his own funds and pay to the business bank account. So the business has enough funds to pay the rest of the partners

Request of Payment of Partners Loan

1. Look at the Agreed Rapayment due date

2. Will partner have to borrow money // increase cost

3. Check interest on loan

4. Borrowing a loan may require security