Preparation Of Cost Reconciliation Statement And Its Specimen

If there is a difference in the results shown by the cost accounts and financial accounts, then only a cost reconciliation statement is prepared to reconcile their results by removing their differences.
A cost reconciliation statement is prepared on the same footing on which a bank reconciliation statement is prepared. The preparation of cost reconciliation statement involves the following steps:

Step 1: Start with profit or loss shown by any one set of accounts ( profit or loss as per cost accounts or financial accounts) as the base

Step 2: Find out the reason of difference of profit between cost and financial account
( You are requested to refer above post 'Causes or reasons of difference in profits')

Step 3: Determine the addition or subtract (less) items

Step 4: Prepare cost reconciliation statement

Specimen Of Cost Reconciliation Statement
Taking the profit as per cost account or loss of financial account

Particulars...........................................................................................Amount
Profit as per cost account or loss as per financial account...................XXX
Add:
i. Overcharge of expenses in cost account............................................XXX
ii. Items of expenses recorded only in cost account...............................XXX
iii. Items of income recorded only in financial account...........................XXX
iv. Amount of understated income in cost account.................................XXX
v. Over-valuation of opening stock in cost account.................................XXX
Vi. Under valuation of closing stock in cost account................................XXX
Less:
i. Under charge of expenses in cost account..........................................(XXX)
ii. Items of expenses recorded only in financial account........................(XXX)
iii. Income shown in cost account, but not in financial account..............(XXX)
iv. Amount of income over state in cost account.....................................(XXX)
v. Under valuation of opening stock in cost account...............................(XXX)
vi. Over valuation of closing stock in cost account...................................(XXX)
Profit as per financial account or loss as per cost account......................XXX

Causes Or Reasons For Difference In Profits Or Losses Between Cost Account And Financial Account

The disagreement between cost and financial accounts results arise due to the following reasons:

1. Items shown only in financial account
2. Items shown only in cost account
3. Over or under absorption of overhead
4. Difference in valuation of stock
5. Difference methods of charging depreciation
6. Abnormal gain or loss

1. Items Shown Only In Financial Account
There are certain items of incomes and expenditures which are shown only in financial accounts not in cost accounts. As a result, the profit or loss as per cost accounts would be quite different from the profit or loss as per the financial accounts. These items of financial nature can be divided in three groups:
A. Items of expenditures shown only in financial account:
* Interest on capital
* Expenses on issue of shares and debentures
* Loss on revaluation
* Discount on debenture
* Penalties and fine
* Provision for bad and doubtful debts
* Loss on sale of fixed assets
* Donation
* Goodwill, preliminary expenses etc.

B. Items Of Income:
* Interest received, rent received, commission received, discount received
* Dividend received
* Share transfer fees
* Returned of income tax
* Gain of sale of fixed assets

C. Appropriation Of Profits:
* Income tax paid
* Dividend paid
* Transfer to general or specific reserves or funds
* Transfer to sinking fund
* Excess provision for depreciation
* Bonus

2. Items Shown Only In Cost Account
There are very few items, which are shown in cost accounts but not in the financial accounts as they do not represent any transaction with outsiders. These items are also responsible for the disagreement of the results shown by the two sets of accounts. These items are:
* Rent or depreciation of the own building of the proprietor
* Remuneration of the proprietor
* Depreciation on fully depreciated assets
* Interest on capital employed in production
* The losses due to defective and spoilage

3. Over Or Under Absorption Of Overhead
In cost account, overheads are charged on the basis of predetermined percentage. But in financial account they are charged with the actual amount. This results over or under absorption of overheads in cost account and may be the main reason for difference in profits disclosed by cost account and financial account.
The effect of over or under absorption of overhead to profit is shown below:
Overhead..........................................Result
Over subscription.............................Less Profit
Under subscription...........................More Profit

4. Difference In Valuation Of Stock
In financial account, stocks are valued at cost or market price, whichever is lower, but in cost account, stocks are valued only at its cost price. This result in some difference in result i.e. profit or loss.

5. Difference Methods Of Charging Depreciation
There are different methods of charging depreciation. In financial account, depreciation may be calculated on straight line or diminishing balance method as per Income Tax Act. But in cost account, depreciation is calculated on the basis of use of the asset (generally machine hours). The difference in depreciation methods also results in disagreement in profit or loss of these two accounts.

6. Abnormal Gains And Losses
Abnormal gains and losses are shown in financial account while they are completely excluded from cost account. Goods lost by fire, theft, accident or costs of abnormal idle time are examples of abnormal losses, which are shown in financial account but not in cost account. Such abnormal gains and losses also lead to disagreement of cost and financial account results.

Concept And Meaning Of Cost Reconciliation Statement And Need For Reconciliation

Cost Reconciliation Statement
A manufacturing concern may adopt either Integrated Accounting System or Non- Integral Accounting System. Under Integrated Accounting System, only one set of books is maintained to record both costing and financial transaction, therefore, under this system, both financial accounts and cost accounts give similar results. But in Non- Integral Accounting System, separate books are maintained for costing and financial transactions, which may exhibit different results i.e. profits or losses. In other words, when cost accounts and financial accounts are maintained independently by a concern, the profit or loss shown by the cost accounts may not agree with the profit or loss shown by the financial accounts. In this situation, it is needed to reconcile the profits or losses shown differently by cost accounts and financial account by preparing a statement called ' Cost Reconciliation Statement'
A statement which is prepared for reconciling the profit between financial account and cost account is known as cost reconciliation statement. A cost reconciliation statement is a statement reconciling the profits or losses shown by cost accounts and financial accounts. It is a statement wherein the causes responsible for the difference in net profit or loss between cost and financial accounts are established and suitable adjustments are made to remove them. In other words, cost reconciliation statement is prepared for the purpose of reconciling or agreeing the results of financial accounts with the results of cost accounts by making suitable adjustments for the items responsible for the disagreement. In short, it is the statement through which reconciliation or agreement between the results (profits or losses) of cost accounts and financial accounts is effected.

Need For Reconciliation
Reconciliation between the results of two sets of accounts is necessary due to the following reasons:

1. Reconciliation helps to check the arithmetical accuracy of both sets of accounts.
2. Management is enable to know the reasons for the difference in results of both cost and financial accounts.
3. Reconciliation explains reasons for difference which facilitate internal control.
4. Reconciliation ensures the reliability of cost data.
5. Reconciliation promotes co-ordination between cost and financial departments.
6. Reconciliation helps in formulation of policies regarding absorption of overheads and depreciation and stock valuation method.
7. Reconciliation ensures managerial decision-making.

Conversion Or Sale Of Partnership Firm To A Limited Company

Chiefly with the objective of limiting the personal liabilities of the partners, an existing partnership firm may sell its entire business to an existing limited company, or may convert itself into a limited company. The former is the case of absorption of a partnership firm by the joint stock company whereas, the latter is the case of flotation of a new joint stock company so as to take over the business of the partnership firm.
In both of these cases, the existing partnership firm is dissolved and all the books of accounts are closed. Thus when a partnership firm is sold or converted into a company, the same accounting procedure is followed as for simple dissolution of a firm.
The purchase consideration (price) in between the vendor (dissolving) firm and the purchasing company is fixed as mutually agreed upon. It may or may not be specified in a lump sum figure. When it is not specified in a lump sum figure, the difference of agreed values of acquired assets over agreed amount of liabilities are undertaken.
The purchase price is discharged by the purchasing company either in the form of cash or shares (equity or preference) or debentures or a combination of two or more of these. The shares or debentures may be issued by the purchasing company, at par, at a premium or at a discount.
In the absence of any agreement, the shares received from the purchasing company is distributed among partners in the ratio of their final claim i.e. in the ratio of their capital standing after all the adjustments.
When a partnership firm is sold or converted into a company, the practical steps to close the books of the firm are given below:

Entries in the books of converting firm/vendor firm

Step 1: Transfer all recorded assets and liabilities(whether or not taken over by the purchasing company) to the Realization account, except cash and bank balance if not taken over by the purchasing company.
1.1 For transferring recorded assets:
Realization A/C..................Dr.
To sundry assets
1.2 For transferring recorded liabilities
Sundry liabilities..................Dr.
To Realization A/C

Step 2: Make purchase consideration(price) due.
2.1 For purchase price due:
Purchasing company...........Dr.
To Realization A/C

Step 3: If, there remain any assets(whether or not recorded) not taken over by the purchasing company, it may be sold, or may be taken by one of the partners or may be shared among the partners.
3.1 On sale of assets not taken over by the purchasing company:
Bank A/C..................Dr.
To realization A/C
3.2 Such assets taken over by any one of the partners:
Partner's capital A/C...............Dr.
To Realization A/C
3.3 On sharing such assets among the partners:
Partners' capital A/C(capital ratio)............Dr.
To realization A/C
Note: If such unsold assets are considered worthless, they should be shared among the partners in profit sharing ratio.

Step 4: The liabilities (whether or not recorded) by the purchasing company may be discharged or may be assumed by any one of the partners, or must be shared by the partners in their capital ratio.
4.1 On discharge of any liability not taken over by the purchasing company:
Realization A/C .............Dr.
To Bank A/C
If such liability assumed by one of the partners:
Realization A/C...............Dr.
To Partner's capital A/C
If such liability has to be assumed by all partners:
Realization A/C................Dr.
To Partners' capital A/C(capital ratio)

Step 5: When the realization expenses is paid, Realization account is debited.
5.1 For payment of realization expenses:
Realization A/C.............Dr.
To Bank

Step 6: Close the realization account by transferring the balance(profit or loss) to the capital of the partners in profit sharing ratio.
6.1 For profit on realization account:
Realization A/C..............Dr.
To Partners' capital A/C(profit sharing ratio)
6.2 For loss on realization account:
Partners' capital A/C............Dr.
To realization A/C

Step 7: On the receipt of purchase consideration(price), cash/bank account, equity shares in purchasing company or preference shares in purchasing company at their issue prices are debited and purchasing purchasing company's account is credited.
7.1 For the receipt of purchase price:
Cash/bank A/C....................................Dr.
Equity share in purchasing Co...........Dr.
Preference share in purchasing Co....Dr.
Debentures share in purchasing Co...Dr.
To purchasing Co.

Step 8: Transfer all accumulated reserves/profits/losses to the capital accounts of partners in profit sharing ratio.
8.1 For accumulated reserves, profits:
Reserve A/C.................Dr.
Profit and loss A/C.......Dr.
To partners' capital A/C
8.2 For accumulated losses:
Partners' capital A/C.............Dr.
To profit and loss A/C

Step 9: Transfer the current account, if any, in the books, to the capital accounts of the partners.
9.1 For transferring current account to the capital account:
Partners' current Account................Dr.
To partners' capital Account

Step 10: Pay off the partner's loan if any.
10.1 For the payment of partner's loan account:
Partner's loan A/C ..............Dr.
To bank A/C

Step 11: Make final settlement by paying off balances in capital accounts. In the absence of an agreement as to the division of shares(from purchasing company) among partners, such shares are distributed in the ratio of their final claims(i.e. in the ratio of capitals after all the adjustments).
11.1 For final settlement:
Partners' capital A/C ...........Dr.
To equity shares in purchasing Co.
To preference shares in purchasing Co.
To bank A/C


Entries in the books of purchasing company
Assets Account...........................Dr.
Goodwill Account........................Dr.
To liabilities
To share capital
To share premium
(Being assets and liabilities taken over)

Note: In case debit higher than credit, capital reserve is credited.

Concept Of Retirement Of A Partner And Adjustments Needed To Be Done At The Time Of Retirement Of A Partner

Concept Of Retirement Of A Partner
A partner or partners may retire from the firm due to the various reasons like old age, better opportunity, ill health, conflict between the partners and so on. The retirement of partner can took place in any of the following grounds:

i. In accordance with the constant or consensus among all the members.
ii. In accordance with the partnership agreement which has already been signed.
iii. In accordance with the written notice, if the partnership is at will.

Adjustments
The adjustments that need to be done at the time of retirement of a partner are as follows:

1. Calculation of new profit sharing ratio
2. Revaluation of assets and liabilities
3. Adjustment regarding undistributed profits and losses
4. Adjustment regarding goodwill
5. Adjustment of capital
6. Ascertainment of due amount to retiring partner
7. Mode of payment to the outgoing partners.


1. Calculation Of New Profit Sharing Ratio
When somebody left the firm, his share which left to the firm is gain to remaining partners. After retirement of someone, if the new profit sharing ratio is not given, then it has to be understand that they will continue old ratio. The new profit sharing ratio of the remaining partners is determined in the following way:
Suppose, three partners A,B and C are sharing profits and losses in the ratio of 2:3:1, as there is no fresh or new agreement between between A and B, the new profit sharing ratio between A and B will be 2:3 by eliminating the share of C.
In the above calculation, gaining ratio of A and B will be:
A= 2/5-2/6 = 1/15
B = 3/5-3/6 = 1/10

Thus, gaining ratio is calculated by deducting old ratio from new ratio i.e.
Gaining ratio = New profit sharing ratio - Old profit sharing ratio

In the case of new ratio between the remaining partners are given, the gaining ratio calculation will be the same. However, it should not be confused with the sacrificing ratio which is calculated at the time of admission of a new partner and change in profit sharing ratio. Sacrificing ratio is calculated by deducting new ratio from old one. On the other hand, gaining ratio is computed by subtracting old ratio from new one.

2. Revaluation Of Assets And Liabilities
The retiring partner has the right to share the increase or decrease in value of assets and liabilities of the firm during the retirement period. To find out the profit or loss, a revaluation account is opened as in the case of admission of a partner. If there is an increase in the value of any assets then concerned asset account will be debited and revaluation account will be credited. In the same way, if there is decrease in the value of any asset then concerned asset will be credited and revaluation account will be debited. Similarly, if there is an increase in the value of liabilities, revaluation account is debited and concerned liability account is credited and vice versa.
The profit or loss on revaluation is to be divided among all the remaining and outgoing partners in their old profit sharing ratio. After the revaluation, the assets and liabilities will appear in the balance sheet either at original value (book value) or at revised value. If assets and liabilities are to be recorded at unchanged value then a memorandum revaluation account will have to prepared.

3. Adjustment Regarding undistributed Profits And Losses
At the time of retirement of a partner, there may be some accumulated profits or losses in the forms of any reserve or credit balance of profit and loss account or debit balance of profit and loss account etc. All such amount should be distributed among all the partners, outgoing or remaining, in their old profit sharing ratio. Sometimes, only the share of outgoing partners may transfer to his capital account and balance is shown in the balance sheet. Such can be done only when the remaining partners agreed for it.

4. Adjustment Regarding Goodwill
The valuation of goodwill has been discussed in admission of a partner. The same process should be followed here too. But during the time of retirement, the retiring partner has the right to get his share of goodwill of the firm. Therefore, to give effect to the same, the following adjustment must be carried out.

A. Goodwill already appears in the books

i. if old value of goodwill is equal to new valuation of goodwill:
- Adjustment entry is not needed

ii. If the existing value of goodwill is less than the new valuation:
Goodwill A/C.........Dr.(excess value)
To all partners' capital A/C
Note: The excess amount of goodwill is transferred to remaining and outgoing partners according to old profit sharing ratio.

iii. If the existing value of goodwill is greater than new valuation:
All partners' capital A/C..........Dr.(less value)
To Goodwill A/C


B. Goodwill not already appeared in the book

i. Goodwill raised at its full value:
Goodwill A/C.............Dr.
To All partners' capital A/C

ii. Goodwill raised at its full value and written off immediately:
Goodwill A/C ...........Dr.
To all partners' capital A/C (old profit sharing ratio)

iii. Goodwill raised at only retired partner's capital account and immediately written off:
Goodwill A/C............Dr.
To retired partner's capital A\C


5. Adjustment Of Capital
When a partner retires from the business and if he is to be paid off his due amount immediately, the total capital of the firm is reduced. In such case, the retiring partner may be requested to keep the amount due to him as loan to the firm, so as to be paid gradually in the future. On the other hand, the remaining partner may bring necessary amount in new profit sharing ratio or in same agreed ratio to make payment to the retiring partner. Then afterwards, if agreed, the capitals of remaining partners may be required to be adjusted in new profit sharing ratio in any one of the following three ways:

A. When the total capital is not given:
Step 1: Calculation of the total capital of the new firm as:
Total capital of the new firm = Aggregate of adjusted old capitals of remaining partners.
Step 2: Calculations of new capitals of remaining or continuing partners:
New capital of a continuing partner= Total capital X New ratio
Step 3: Any excess of new capital of a remaining partner, is to be paid off in cash and for the deficiency, the continuing partner has to bring in cash.

B. When the total capital is given:
Step 1: Calculation of continuing partners' new capital
New capital of continuing partner= Total capital given X New ratio
Step 2: Any excess capital to be paid to and any deficiency is to be brought by the continuing partners.

C. When the retiring partner is to be paid through cash brought by the remaining partners so that their capitals would be in accordance with new ratio:
Step 1: Calculation of total capital of new firm
Total capital = Aggregate of old capitals after all adjustment + Shortage of cash to make payment to retiring partner
Step 2: Calculation of new capital of continuing partners
= Total capital of new firm X New ratio
Step 3: Deficiency to be brought in by the remaining or continuing partners.


6. Ascertainment Of Due Amount To The Outgoing Partners
The total amount to be given to the retiring partners includes the following:
i. The balance shown by retired partnering capital account.
ii. The balance shown by retired partnering current account.
iii. Any interest or commission due to retiring partners.
iv. Any salary due to retiring partners.
v. Any share of profit or loss till the date of retirement.
vi. Share in the goodwill of the firm.
vii. Gain or loss on revaluation of assets and liabilities.
viii. Any share in the accumulated profits or funds as well as losses appearing in the balance sheet till the date of retirement.
ix. Share of joint life policy.
x. With drawing and interest on with drawing till the time of retirement.

The net amount due to the retiring partner is determined after the necessary addition and deduction of the above items.


7. Mode Of Payment To The Outgoing Partners
There are different ways of treating the due amount to the outgoing partner. Some of them are as follows:
A. If the due amount is paid off immediately:
Outgoing partner's capital A/C...............Dr.
To bank/cash A/C

B. Payment is made privately (if the remaining partners purchase the share of retiring partner in some agreed ratio or in the profit sharing ratio):
Retiring partner's capital A/C.............Dr.
To remaining partners' capital A/C

C. If payment is not made privately (remaining partners bring cash in the business and there after the retiring partner is paid off):
* When cash brought in by the old partners:
Cash/Bank A/C..............Dr.
To remaining partners' capital A/C
* When outgoing partner is paid off:
Outgoing partner's capital A/C.............Dr.
To Cash/Bank A/C

D. With due agreement the amount due to the outgoing partner may be transferred to a loan account to be paid gradually with or without interest:
* While due amount is transferred to loan account:
Retiring partner's capital A/C...........Dr.
To Retiring partner's loan A/C
* If interest has to be paid and due:
Interest A/C................Dr.
To retiring partner's loan A/c
* Paying of the installment:
Retiring partner's loan A/C.............Dr.
To Bank A/C

Note: The last two entries will be repeated till the requirement period.


Guarantee Of Minimum Profit To A New Partner

Sometimes, as per agreement, a new partner can be admitted with a minimum guaranteed amount of share in profit while distributing the profits of the firm. In other words, a minimum amount of profit is guaranteed to a newly admitted partner even if there is no profit or his share of profit falls short of the minimum guaranteed amount. Such guarantee may be provided by the firm, or one or more than one partner in the existing profit sharing or in some other agreed ratio.

Guarantee By The Firm
When a minimum amount of profit to be credited to the new partner is guaranteed by all the partners/firm, we have to calculate, first the two figures: 1. minimum guaranteed amount and 2. new partner's share of profit as per profit sharing ratio. Of the two figures, the higher one is credited to the new guaranteed partner. Then, the balance of profit will be shared by the remaining partners in their profit sharing ratio.

Guarantee By One Or More Than One Partners
When the guarantee of minimum profit to the new partner is provided by one or more than one partner, firstly, we have to calculate the share of profits among the partners as if there is no guarantee. Secondly, if the share of the new partner is less than the minimum guaranteed amount, the deficiency is to be fulfilled by deducting the original share of partner/partners who gave the guarantee.

Re-adjustment Of Partners' Capital Giving Due Influence Of New Admittance

Sometimes, after the admission of the new partner, all the partners may decide to make their capital proportionate to the new profit sharing ratio or any other ratio. In this case, the base capital determined at first and the adjustments are done accordingly.
If the new partner's capital is taken as the base, the other old partners' capitals are calculated and due adjustments (withdrawals/introduction) of capital are done.
Again if the combined capital of old partners is taken as the base, firstly, the total capital of the new firm is calculated as per profit sharing ratio and then only the new partner's capital to be brought in is determined.

Journal entries are as follows:
In case of deficiency of capital:
Cash A/C....................Dr.
To partner's capital A/C
(Being shortage of capital brought in by........in cash)

In case of excess over new capital:
Partners' capital A/C..................Dr.
To Cash A/C
or
Partners' current/loan A/C
( Being excess capital withdrawn by..../transferred to current/loan A/C)

Note: In the absence of any agreement, deficiency or surplus should be adjusted in cash, not by transferring current account.

Adjustment Of Life Insurance Policy Of Partners At The Time Of Admission Of New Partner

Partners may take out a joint life insurance policy on the lives of all the partners. It enables the firm to make payment to the executors/representatives of deceased partner, without upsetting the working capital of the firm. Premiums of such policy are paid out of the profit earned by the firm. Since the payment of premiums are done before the date of admission of new partner. Only the old partners must get credit for the surrender value of joint life insurance policy.
On the date of admission of new partner, accounting treatment of joint policy in each of the following cases are:
1. If joint life insurance policy is appearing in the books: No journal entry is required because the old partners have already got the credit to their capital accounts with surrender value of the life insurance policy.

2. If joint life insurance policy is appearing in the books, but all the partners including new one, decide not to show joint life policy in the books of new firm:
All partner's capital A/C.............Dr. (new ration)
To joint life policy
(Being surrender value of policy written off in new ratio)

3. If joint life policy is not appearing in the book and all the partners including new one decide not to show the same in the books of new firm:
i) Joint life policy A/C.................Dr.
To old partners. capital A/C(old ratio)
(Being the surrender value of insurance policy taken into A/C)
ii) All partners' capital A/C..............Dr.
To joint life policy
(Being the surrender value of insurance policy written off in new ratio)

4. If joint life insurance policy is not appearing in the book, but all of them decide to show in the new book:
Joint life insurance policy A/C..................Dr.
To old partners' capital A/C (old ratio)
(Being the surrender value of insurance policy taken into a/c)

5. If joint life insurance policy and joint life policy reserve both are appearing in the books and all the partners decided to show in the books:
Joint life policy reserve A/C....................Dr.
To old partners' capital A/C (old ratio)
(Being joint life policy reserve credited to old partners)
* by this entry, joint life policy is seen in asset side of balance sheet.

6. If both joint life policy and joint life policy reserve are appearing in the books, but the partners decide not show both of these in new book:
i) Joint life policy reserve A/C..................Dr.
To old partners' capital A/C (old ratio)
(Being reserve of life policy credited to old partners)
ii) All partners' capital A/C...............Dr.
To Joint life policy
(Being joint life policy debited to all partners in new ratio)

Re-arrangement Of Reserve And Surplus And Accumulated Loss Of The Firm At The Time Of Admission Of New Partner

At the time of admission of new partner, if there exists any reserve or accumulated profit in the books of the firm, these should be transferred to the old partners' capital/current accounts in the old profit sharing ratio. Because these items belong to the old partners, not the new partner.
In the same manner, old partners' capital/current accounts should be debited in old ratio if there appears any accumulated losses in the assets side of balance sheet. The journal entries are:


1. For Accumulated Profits/Reserves:
Profit and loss A/C.....................................Dr.
General reserves A/C................................Dr.
Workmen compensation reserve A/C......Dr.
(excess over actual liability)
Investment fluctuation reserve A/C.........Dr.
Joint life policy reserve A/C........................Dr.
To old partners' capital/current A/C
(Being transfer of reserves and profit to old partners in their old profit sharing ratio)

2. For Accumulated Loss
Old partners' capital/current A/C.................Dr.
To profit and loss A/C
To Deferred revenue expenditure A/C
To Preliminary expenses A/C
( Being transfer of accumulated losses to the old partner in old ratio)

However, all the partners(including new) may also decide to show the reserves in the books at its original or same agreed value. In such situation, all the partners' capital A/Cs are debited in new profit sharing ratio and reserves are credited at agreed value:
All partners' Capital A/C................Dr.
To General Reserves A/C
(Being general reserve brought)

Impact Of Admission Of New Partner In The Value Of Goodwill Of The Firm

When a new partner is admitted in the firm, the existing/old partners have to sacrifice, what is given to the new partner, from their future profits, the reputation they have gained in their past efforts and the side of capital they have taken before. The new partner when admitted, has to compensate for all these sacrifices made by the old ones. The compensation for such sacrifice can be termed as 'goodwill'. Hence, at the time of admission of the new partner, it is necessary to account the valuation of goodwill in the firm.
If the new partner brings in cash for his share of goodwill, in addition to his capital, it is known as premium method. When the new partner brings nothing but only the capital, and the value of goodwill is erected or raised, this method of treatment is called Revaluation Method. However, once creating the value of goodwill and writing of the same after admission is done, it can be said to be Memorandum Revaluation Method. Thus, keeping in mind, all these methods, the various ways of treating goodwill in the books of the firm at the time of admission of the new partner, are as follows:

1. Share of goodwill brought by the new partner in cash.
2. Share of goodwill brought by the new partner in kind.
3. Nothing is brought by the new partner as his share of goodwill.
4. Share of goodwill brought by the new partner in cash only a portion not as a whole.
5. Hidden goodwill

1. When the new partner brings his share of goodwill in cash
When the new partner brings his share of goodwill in cash, the payment ma be made to the old partners, as if outside/private transaction. It may be retained in the business or after recording the same in the firm, the old partners may withdraw the whole amount or some portion only,

a. When the amount of goodwill brought by the new partner is not recorded in the books and the payment is made to the old partners as outside or private transaction, it does not affect in the transaction of the firm and hence no entry is passed in the books of the firm.

b. When the amount of goodwill brought in by the new partner is retained in the business to increase cash resources, and if there exists already no-goodwill:
i) Cash/Bank A/C.......................Dr.
To Goodwill A/c
(Being goodwill brought in by the new partner)
ii) Goodwill A/C...........................Dr.
To old partners' capital A/C
(Being goodwill credited to old partners in the sacrificing ratio)

c. When there is no-goodwill already appeared in the books and the amount of goodwill brought in by the new partner, is fully or partially withdrawn by the old partners:
i) Cash A/C.......................Dr.
To Goodwill A/C
(Being goodwill brought by the new partner)
ii) Goodwill A/C................Dr.
To old partners' capital A/C
(Being goodwill divided among old partners)
iii) Old partners' capital A/C...............Dr.
To Cash/Bank A/C
(Being the amount withdrawn)

d. When there is goodwill already appeared in the books and even then if the new partner brings his share of goodwill in cash, the amount may be retained or withdrawn by the old partners. If the amount of goodwill brought in by the new partner is retained in the business:
i) Old partners' capital A/C..............................Dr.
To Goodwill A/C
( Being goodwill appearing in the book written off in the old ratio)
ii) Cash/Bank A/C.......................Dr.
To Goodwill A/C
(Being goodwill brought in by the new partner)
iii) Goodwill A/C.......................Dr.
To old partners' capital A/C
(Being goodwill brought in by new partner shared by the old partners)

If the goodwill amount brought by the new partner is withdrawn by the old partners, the following extra entry should also be passed:
Old partners' capital A/C.............Dr.
To Cash/Bank
(Being amount withdrawn)

If they agree to show the original value of goodwill in the books, it is raised by passing the entry:
Goodwill A/C ......................Dr.
To All partners capital A/C
(Being goodwill raised)

2. When the new partner brings his share of goodwill in kind
The new partner may bring his share of goodwill and capital in kind i.e. the form of assets instead of cash. Again, new partner may have an established name in the market among the customers. In such case, he may be recognized for his goodwill. As a result he will bring a lesser amount of assets than the amount of credited to him. This requires two journal entries:
i) All assets A/C............................Dr.
Goodwill A/C/New partner's capital A/C
(Being goodwill brought in kind by the new partner)
ii) Goodwill A/C/New partner's capital A/C................Dr.
To old partners' capital A/C
(Being goodwill shared by the old partners)

3. When the new partner is unable to bring his share of goodwill in cash or kind
When the new partner cannot bring anything for his share of goodwill, first of all we have to see if there exists goodwill already or not. If there is no-goodwill already appearing in the books of the firm, goodwill is raised at its full value. If goodwill already appears in the books, it is compared to the full value of goodwill raised or created and the adjustment is done accordingly.
a. When the new partner is unable to bring his share of goodwill and if there is no-goodwill already appearing in the books, goodwill is raised at its full value:
i) Goodwill A/C.................Dr.
To old partners' capital A/C
(Being goodwill is created at its full value and credited to the old partners in old ratio)
* By this entry, goodwill A/C then appears as an asset in the balance sheet of the firm.

b.If the new partner cannot bring his share of goodwill and there appears goodwill already in the books, even then goodwill is raised at its full value. If the raised value of goodwill is equal to the existing value of goodwill, no entry what so ever is needed. If the raised goodwill is more than the existing goodwill, then goodwill will be credited to the old partner's capital A/C by the excess amount only:
Goodwill A/C......................Dr. (excess value)
To old partners' capital A/C
( Being the value of goodwill increased to..../increased by......)
* Goodwill then appears at its full value in the balance sheet of the firm

c. If the raised value of goodwill is less than the existing value of goodwill, then excess over raised value of goodwill is written off:
Old partners' capital A/C................Dr.
To Goodwill A/C
(Being the goodwill written off by the reduction in value)

d. Whatever the case may be stated in a,b,c, the partners may not wish goodwill in the books for an indefinite period after the admission of new one, as the value of goodwill changes constantly. They may write off the whole or some portion of the value of goodwill. For writing off the goodwill:
All partners' capital A/C.............Dr.
To Goodwill A/C
(Being goodwill written off)

4. When the new partner can bring only a portion of his share of goodwill
When the new partner cannot bring the entire amount of his share of goodwill and he brings only a part of this, it is shared by the old partners in sacrificing ratio. Then goodwill A/C is raised in the books for the portion not brought by the new partner which is also credited to the old partners in their sacrificing ratio. Goodwill raised for the part of goodwill not brought in by the new partner is calculated as under:
= (Full value of goodwill/share of goodwill of new partner) X goodwill not brought in

But it should be remembered that , if there exists any goodwill in the books, first it should be written off by crediting to the old partners in old ratio. Therefore, the entries are:
i) Old partners' capital A/C..................Dr.
To Goodwill A/C
(Being goodwill written off)
ii Cash/Bank A/C........................Dr.
To Goodwill A/C
(Being the portion of goodwill brought in by new partner)
iii) Goodwill A/C.......................Dr.
To old partners' capital A/C
(Being the goodwill brought in by new partner credited to old partners)
iv) When the goodwill is raised for the part of goodwill not brought in by the new partner, the amount of goodwill is calculated as said above. The entry would be the same as in iii), only the amount being different, which is shared by the old partners in their old profit sharing ratio.

5. Hidden Goodwill
When the value of goodwill is not given in the question, the value of goodwill has to be calculated on the basis of total capital/net worth of the firm and profit sharing ratio.

A. New partner's capital X Reciprocal of the share of new partner....XXX
B. Less net worth(excluding goodwill) of new firm...............................XXX
C. A-B = Value of goodwill........................................................................XXX

Impact Of Admission Of New Partner In The Revaluation Of Assets And Liabilities

Entries to record the revaluation of assets and liabilities:
1. For profit items

*Increase in the value of assets:
Assets A/C...............Dr.(increase in value)
To Revaluation A/c

*Decrease in the value of liabilities:
Liabilities A/C...........Dr.(Decrease in value)
To Revaluation A/C

*Unrecorded assets brought into account:
Assets A/c............Dr.(unrecorded value)
To Revaluation A/C

2. For Loss Items

*Decrease in the value of assets:
Revaluation A/c..............Dr.(Decrease in value)
To assets A/C

*Increase in the value of liabilities:
Revaluation A/C............Dr.(Increase in value)
To liabilities A/C

*Unrecorded liability brought into account:
Revaluation A/C.........Dr.(unrecorded value)
To liability A/C

3. For transferring profit/loss on revaluation

Profit:
Revaluation A/C...........Dr.
To old partners' capital/current A/c

Loss:
Old partners' capital.current A/c..........Dr.
To Revaluation A/c


Specimen Of Revaluation Account
Particulars........................................Amt.........Particulars...............................Amt.
To Assets(decrease in value).........XXX........By Assets(increase in value)......XXX
To liabilities(increase in value.........XXX........By liabilities(decrease in value)..XXX
To provision for depreciation..........XXX.......By provision for depreciation.......XXX
To provision for doubtful debt.........XXX.......By provision for doubtful debt......XXX
To unrecorded liabilities recorded...XXX.......By unrecorded assets records.....XXX
To profit transfer..............................XXX.......By loss transfer............................XXX

Note:
* Profit and loss adjustment A/C may also be written
* profit/loss are transferred to capital/current accounts in old profit sharing ratio.

When Revised Values Are Not Be Shown In The Balance Sheet:
All the partners including new one may also agree to show the original values, not the revised values of assets and liabilities in the new balance sheet. In such case, all entries passed through revaluation account are reversed. That is , if revaluation A/C was debited and plant A/C credited earlier. How the plant A/C would be debited and revaluation A/C be credited. Subsequently, a new revaluation A/C comes into existence. This new revaluation A/C is closed by transferring the balance to all the partners including new one is new profit sharing ratio. Thus the revaluation account under such circumstances termed as memorandum revaluation A/C, which is divided into two parts. When such memorandum revaluation A/C is prepared, entries that change the values of assets/liabilities are not passed. The only entry made relate to the transfer of profit or loss from first part to old partners' capital A/Cs in old profit sharing ratio and then, the transfer of loss or profit from the second part to all partners' capital A/Cs including new one in new profit sharing ratio. If the first part shares profit, the second part will show loss and vice versa. But it should be noted that, in new balance sheet, assets and liabilities except cash will appear at the original values.


Impact Of Admission Of New Partner In The Profit Sharing Ratio Of The Firm

Whenever an entrance is permitted to new partner it ultimately provides a right to the newcomer to share the profits of the firm in the future. Because of the share given to the newly admitted partner the old profit sharing ratio of the firm definitely changed. The ascertainment of new profit sharing ratio will depend on the agreement between the old partners and the new partner. The new partner may get her/his share of future profit either from one partner or from all the partners. In effect the combined shares of old partners will be reduced.
The following are the cases which may arise while calculating new profit sharing ratio:
1. When the share of the new partner is, simply given and nothing is stated about the sacrifice of the old partners.
2. When the new partner purchases the share from old partners in their old profit sharing ratio
3.When the new partner acquires the share in some agreed or sacrificed proportioned from the old partners
4. When the new partner buys the share equally from old partners
5. When the new partner purchases the share as a whole from one of the old partners
6. When all the partners including the new one decide to share future profit/loss in completely new ratio

The aforesaid cases are of relating to the admission of new partner. But, even if, admission, retirement or death, nothing happens, the disagreement between the old partners due to some other causes may take place and they may decide to their future profit sharing ratio. Some of the cases may occur are as follows:

i. One of the old/existing partner acquires the share in some agreed proportion from one or all other partners.
ii. All the existing partners decide to share future profit totally in new ratio
iii. All the existing partners decide to change one or more than one's share in future

Concept And Meaning Of Admission Of New Partner

Partnership by its name meant that it is an association of partners to endeavor a venture for getting reward in the form of profit in the days to come. During the ordinary course of business the partnership business may need additional capital, special skill, a namely attachment to enhance the goodwill from other party to smoothly run in the competitive business environment. When because of the same reasons, or for some other importances if a partnership welcomes outsiders as a partner in the business it is called as admission of a partner. Before giving admittance to new partner there should be a clear-cut consent between or among the partner for the same otherwise it may cause a reason of dissolution of partnership.
During the time of admittance of new partner, a partnership firm will have a due exercise on the following important aspects:

1. Impact of admittance in the profit sharing ratio of the firm
2. Impact of admittance in the revaluation of assets and liabilities of the firm
3. Impact of admittance in the value of goodwill of the firm
4. Rearrangement of reserves and surplus and accumulated losses of the firm
5. Adjustment of life insurance policy of partners
6. Re-adjustment of partners capital giving due influence of new admittance
7. Guarantee of minimum profit to a partner
8. Reservation of old profits to the old partners
9. Admission of a partner during an accounting year.

Methods Of Recording Transactions Under Installment System

There are two methods of recording transactions under Installment System. These are:


i. With Opening Interest Suspense Account
ii. Without Opening Interest Suspense Account


Journal entries under these two methods are as under:

Journal entries in the books of purchaser

1. For purchasing goods under installment system:
First Method
Assets A/C(total cash value)..............Dr.
Interest suspense A/C(total interest).........Dr.
To vendor A/C

Second Method
Assets A/C (total cash value)............Dr.
To vendor A/c

2. For payment of cash down value (both method)
Vendor A/C..................Dr.
To Bank A/C

3. For interest due
First Method
Interest A/C..............Dr.
To Interest suspense A/C
Second method
Interest A/C...............Dr.
To vendor A/C

4. For payment of installment (both methods)
Vendor A/c.............Dr.
To bank A/C

5. For depreciation charges (both methods)
Depreciation A/C.............Dr.
To Asset A/C

6. For transferring interest and depreciation
First method
Profit and loss A/C ..................Dr.
To interest A/C
To depreciation A/C

Second method
Profit and loss A/C................Dr.
To interest A/C

Journal Entries In The Books Of Vendor

1. For selling goods on installment system
First method
Buyer A/C..................Dr.
To sales A/C(total cash value)
To interest suspense A/C

Second method
Buyer A/C...........Dr.
To Sales A/C

2. For receiving cash down value (both methods)
Bank A/C..........Dr.
To Buyer A/C

3. For interest due
First method
Interest suspense A/C...........Dr.
To interest A/C

Second method
Buyer A/C.................Dr.
To Interest A/C

4. For receiving installment (both methods)
Bank A/C...................Dr.
To Buyer A/C

5. For transferring interest (both methods)
Interest A/C............Dr.
To profit and loss A/C

6. For transferring sales to trading account (both methods)
Sales A/C ...............Dr.
To trading A/C

Difference Between Hire Purchase And Installment System

1. Nature Of Contract
Hire Purchase System: It is a hiring goods agreement.
Installment System: It is an agreement of sale.

2. Ownership
Hire Purchase System: Ownership of goods is transferred after the payment of final installment.
Installment System: Ownership of the goods passes to the buyer just signing the agreement.

3. Right
Hire Purchase System: The buyer can not sell, destroy or transfer the goods.
Installment System: The buyer can sell, destroy or mortgage or transfer as his/her wish.

4. Risk
Hire Purchase System: All the risks are borne by the vendor before the payment of final installment.
Installment System: All the risks are to be borne by the buyer from the date of agreement.

5. Right Of Return
Hire Purchase System: The buyer can return the goods before making the final installment.
Installment System: The buyer can not return the goods to the seller.

6. Repair And Maintenance
Hire Purchase System: The liability of repair and maintenance lies with the seller provided that the buyer takes the utmost good care.
Installment System: The buyer is responsible for repair and maintenance.

7. Forfeiture Of Installment Paid
Hire Purchase System: In case of default in payment of installment, paid installment will be forfeited and treated as hire charges.
Installment System: The act of forfeiture can not be activated.


Concept And Features Of Installment Purchase System

Concept Of Installment System
An installment system is just like a credit purchase and hire purchase system of selling and buying goods. Like hire purchase, in installment system an agreement is made between buyer and seller to purchase and sell of goods. The buyer makes certain down payment at the time of signing agreement and the balance is paying in installment over a period of time.
An installment system is a credit sale in which payments are made in installments over a period of time. In this system, the buyer gets the possession as well as ownership of the goods right at the time of signing the agreement. During the course of paying the installment, if the buyer makes default in paying the installment, the vendor cannot responses the goods. In that case, the vendor can sue the buyer for recovery of dues. Like in hire purchase even the paid installments also can not be forfeited in case of default in paying installment.
Thus, it can be said that installment system is a kind of credit sale where installments are entertained over the period and default in such payment cannot responses the goods and in that case, the vendor can only sue the buyer for the recovery of amount due.

Features Of Installment Purchase System
The following are the features of installment purchase system:
1. Installment purchase system is just like an outright credit sale of goods.

2. The buyer makes the payment in different installment over a period of time as agrees upon in the agreement.

3. Under installment purchase system, the buyer gets the immediate possession as well as the ownership of goods.

4. The seller can not responses the good if the buyer made default in the payment of installment but he/she can sue against the buyer for the recovery of amount due.

5. In case of default in the payment of installment, the total amount of installments already paid by the buyer can not be forfeited.

6. Under installment system, the buyer can sell or mortgage the goods even before clearing all the installments.

7. Risk of goods/assets are to be borne by the buyer just after signing the agreement.

8. The buyer of the goods under installment purchase system has no right to return the goods to the seller.

Accounting Treatment Of Hire Purchase System Or Methods Of Recording Hire Purchase Transactions

Journal Entries In The Books Of Hire Purchaser
There are two methods of recording hire purchase transactions in the books of the hire purchaser:
i. When the asset is recorded in full cash price-:full cash price method
ii. When the asset is recorded at cash price actually paid in each installment-: Actual cash price method.

1. For the purchase of asset:
First Method
Asset A/C (full cash price)...........Dr.
To vendor A/C

Second Method
No entry

2. For the payment made for 'down payment'
First Method
Vendor A/C.............Dr.
To bank A/C

Second Method
Asset A/C............Dr.
To Bank A/C

3. For installment due
First Method
Interest A/C............Dr.
To vendor A/C

Second Method
Asset A/C (part of cash value)............Dr.
To Interest A/C

4. For the payment of installment (both method)
Vendor A/C............Dr.
To Bank A/C

5. For charging depreciation( on the basis of cash value) (both methods)
Depreciation A/C...................Dr.
To Asset A/C

6. For transfer of interest and depreciation(both methods)
Profit and loss A/C............Dr.
To depreciation A/C
To interest A/C

Note: entries 3,4,5 and 6 will be repeated year after year until the final installment is paid.


Journal Entries In The Books Of Vendor

1. For selling goods on hire purchase
Hire purchase A/C...........Dr.(full cash price)
To sales/hire purchase sales A/C

2. For receiving down payment
Cash/bank A/C.................Dr.
To hire purchaser A/C

3. For installment due
Hire purchaser A/C............Dr.
To Interest A/C

4. For receiving the installment
Cash/bank A/C .............Dr.
To hire purchaser A/C

5. For transferring interest
Interest A/C............Dr.
To profit and loss A/C.

Note: * Depreciation will not charge by hire vendor.
* Entries 3,4 and 5 will be repeated year after year until the first installment is paid.



Important Terminologies Of Accounting For Hire Purchase System

1. Hire seller/Hire vendor/Owner
A person who sells the goods to the buyer under hire purchase system is known as hire seller.

2. Hirer/Hire purchaser/Hire buyer
The person who purchase goods from hire vendor or who obtains the goods from an owner under hire purchase agreement is known as hirer.

3. Cash price/Cash value
It is a value of goods at which the goods may be purchased by the hirer for cash.

4. Down Payment
The initial cash payment made by the hire purchaser to the vendor at the time of signing the hire purchase agreement is referred as down payment.

5. Hire Purchase Price
The hire purchase price includes the cash price and interest to be paid on the future installment. It is the total sum payable by the hirer to the vendor.

6. Hire Purchase Charge
The difference between the hire purchase price and the cash price as stated in the hire purchase agreement is known as hire purchase charge.

Concept Of Hire Purchase System

Purchase and sale of goods under a hire purchase system is different from cash sale and credit sale. In case of cash sale, the buyer pays the lump sum to the seller and immediately ownership is passed along with the goods. While in credit sale the payment is made in future. In these both cases the ownership and possession of goods pass on the buyer. However, hire purchase system is a special system of purchase and sale.
In hire purchase system, the buyer acquires the property by promising to pay necessary installment payment of monthly, quarterly, half yearly or any other period. The period of payment has to be fixed while, signing the hire sell agreement. Though, the buyer acquires the asset under hire purchase system after signing the agreement, the title of ownership remains with vendor until the buyer squares up his/her entire liability. When the buyer pays the final installment and any other obligation according to hire purchase agreement, only then the title of ownership of the goods would be transferred to hirer. If the hirer makes default in the payment of any installment, the hire vendor has the right to re-possess the goods. When the vendor re-possesses the goods due to the default of payment of installment, in this case the amount already paid so far by the hirer will be forfeited.
The hire purchase price of goods is normally higher than the cash down price of article because it includes interest as well as cash price. Under hire purchase system, the vendor is responsible to repair the goods which are in the possession of buyer provided that the buyer takes the utmost proper care of the goods acquired. The risk is also borne by the vendor until the payment of last installment. The buyer has the right to return the goods to the vendor, if they are not according to the terms and condition of hire purchase agreement.

Accounting Treatment Of Royalty In The Books Of Lessor

Accounting Entries In The Books Of Lessor:

A. When Royalty Is Less Than The Minimum Rent:

Without maintaining minimum rent account:

1. For the actual royalties:
Lessee's A/C...................Dr.
To Royalties A/C
To Shortworking A/c


2. For due amount received:
Bank A/C...............Dr.
To Lessee A/C

3. For royalties transferred:
Royalties A/C...........Dr.
To profit and loss A/C

With maintaining minimum rent account:

1. For minimum rent receivable:
Minimum rent A/c......................Dr.
To royalties A/C
To Shortworking A/C

2. For minimum rent due:
Lessee's A/C................Dr.
To minimum rent A/c

3. For due amount received:
Bank A/C....................Dr.
To Lessee's A/C

4. For Royalties transferred:
Profit and loss A/C...............Dr.
To Royalties A/C

B. When Royalty Is Less Than Minimum Rent:

1. For royalties due:
Lessee's A/C....................Dr.
To Royalty A/C

2. For shortworking recouped and royalty received:
Bank A/C...................Dr.
Shortworking A/C....Dr.
To Lessee's A/C

3. For royalty and unrecouped shortworking transferred:
Royalties A/C...............Dr.
Shortworking A/C........Dr.
To profit and loss A/C

C. When Royalty Is Equal To The Minimum Rent:

1. For the actual royalties:
Royalties A/C............Dr.
To landlord A/C

2. For the amount paid:
Landlord A/C...........Dr.
To Bank A/C

3. For transferring royalties:
Profit and loss A/C..........Dr.
To Royalties A/C

Accounting Treatment Of Royalty In The Books Of Lessee

Accounting Entries In The Book Of Lessee:

A. When the royalty is less than minimum rent:
Without maintaining minimum rent:

1. For minimum rent payable:
Royalties A/C.....................Dr.
Shortworking A/C.............Dr.
To landlord A/C

2. For minimum rent paid:
Landlord A/C.....................Dr.
To bank A/C

3. For royalties transferred to profit and loss account:
Profit and loss A/C............Dr.
To Royalties A/C

With maintaining minimum rent:

1. For royalties and shortworking raised:
Royalties A/C........................Dr.
To Shortworking A/C...........Dr.
To Royalties

2. For minimum rent payable:
Minimum rent A/C.............Dr.
To landlord A/C

3. For amount paid to landlord:
Landlord A/C......................Dr.
To bank A/C

4. For royalties transferred to profit and loss account:
Profit and loss A/C.............Dr.
To royalties A/C

B. When Royalty Is More Than Minimum Rent:

1. For the actual royalties:
Royalties A/C...................Dr.
To landlord A/C

2. For the amount paid and shortworking recouped:
Landlord A/C.................Dr.
To bank A/C
To Shortworking A/C

3. For transferring royalties and unrecouped shortworking:
Profit and loss A/C............Dr.
To royalties A/C
To Shortworking A/C

C. When Royalty Is Equal To The Minimum Rent:

1. For royalties due from lessee:
Lessee's A/C.................Dr.
To royalty A/C

2. For amount of royalty received:
Bank A/C.....................Dr.
To lessee's A/C

3. For royalties transferred:
Royalties A/C............Dr.
To profit and loss A/C

Meaning Of The Terms Used In Accounting For Royalties

Before proceeding to the accounting treatment of royalty, it is better to understand the following terms:

1. Minimum Rent
Minimum rent is also known as dead rent, fixed rent, flat rent, rock rent and contract rent. A minimum sum guaranteed to the lessor by the lessee in order to make the lessor receive a minimum amount in any particular period, whether he derived any benefit or not, out of the right is known as minimum rent. It is a pre-determined rent and being disclosed in the royalty agreement where both parties have their consent. But if the production or sale is more than the minimum quantities previously agreed upon, then the royalty will be paid for the actual production. In other words, when the royalty is less than the minimum rent, the lessee pays the minimum rent, but when the royalty exceeds the minimum rent, royalty is payable.

2. Redeemable Dead Rent/Shortworking
Shortworking is that amount by which the minimum rent exceeds actual royalty. In other words, whenever the minimum rent is more than the actual royalty, the difference is called redeemable dead rent. Suppose, if a mine owner agreed to let the mine to a lessee for $ 20,000 for extraction of 1,000 kg. of coal and lessee actually produced only 600kg. of coal. Then $ 8,000(i.e. $20 X 400kg.) is known as shortworking. Shortworking is also called 'royalty suspense' by lessor.

3. Surplus
If the actual royalty exceeds minimum rent, it is known as surplus. In the above example, suppose the output for a particular period is 1,500 kg. then $ 10,000 ($ 20 X 500) is referred as surplus.

4. Recoupment Of Shortwirking
Generally, a royalty agreement contains a provision for carrying forward of shortworking with a view to adjust in the future in. In the subsequent years, such shortworking is adjusted against the surplus royalty. This process of adjustment is called recoupment of shortworking.

5. Strike And Lock Out
Strike is the outcome of labor force unrest in the work and it is being called by the labor unions. On the other hand, lock out is the right of the owner of the assets fulfilling legal necessities to close down the working site.But the result of both the cases show the production stoppage. In such event, the actual production could be badly affected and may not be sufficient to pay the minimum rent. Under such condition, the lessor may accept royalty on the basis of actual output. The provision to this effect must be presented in the royalty agreement.