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Difficulty: HardTreatment of Owner's Capital, Drawings, and Goods Withdrawn

Tayo, a sole proprietor, started the financial year with an opening capital of ₦1,200,000₦1,200,000. During the year, he introduced ₦300,000₦300,000 as additional capital and withdrew cash of ₦180,000₦180,000 for private use. He also withdrew goods costing ₦45,000₦45,000 (having a selling price of ₦54,000₦54,000) for personal consumption; however, this transaction was erroneously credited to the Sales account at selling price. If the draft net profit reported for the year prior to rectifying this error was ₦510,000₦510,000, what is the true closing capital of the business at the end of the year in Naira (₦₦)?

Answer: 1776000 NGN

Answer

The true closing capital of the business at the end of the year is ₦1,776,000₦1,776,000.
The correct closing capital is calculated by adjusting the draft net profit for the improper entry and applying the capital equation. First, crediting Sales at selling price inflated profit by ₦54,000₦54,000, whereas reducing Purchases at cost price increases profit by ₦45,000₦45,000. Thus, net profit is reduced by ₦9,000₦9,000 to ₦501,000₦501,000. Total drawings equal cash drawings of ₦180,000₦180,000 plus cost of goods withdrawn of ₦45,000₦45,000, yielding ₦225,000₦225,000. Applying the equation: ₦1,200,000+₦300,000+₦501,000−₦225,000=₦1,776,000₦1,200,000 + ₦300,000 + ₦501,000 - ₦225,000 = ₦1,776,000.

Step-by-Step Solution

1
Adjust the draft net profit for the error in recording goods withdrawn.
Corrected Net Profit = ₦501,000₦501,000
Goods withdrawn for personal use must be removed from Purchases at cost price (₦45,000₦45,000), not credited to Sales at selling price (₦54,000₦54,000). Crediting Sales overstated profit by ₦54,000₦54,000, while omitting the reduction in Purchases understated profit by ₦45,000₦45,000. Net adjustment = −₦54,000+₦45,000=−₦9,000-₦54,000 + ₦45,000 = -₦9,000. Corrected Net Profit = ₦510,000−₦9,000=₦501,000₦510,000 - ₦9,000 = ₦501,000.
2
Determine total drawings made by the proprietor during the year.
Total Drawings = ₦225,000₦225,000
Drawings comprise both cash taken (₦180,000₦180,000) and the cost price of goods taken (₦45,000₦45,000). Total Drawings = ₦180,000+₦45,000=₦225,000₦180,000 + ₦45,000 = ₦225,000.
3
Calculate the closing capital using the capital equity formula.
Closing Capital = ₦1,776,000₦1,776,000
Closing Capital = Opening Capital (₦1,200,000₦1,200,000) + Additional Capital (₦300,000₦300,000) + Corrected Net Profit (₦501,000₦501,000) - Total Drawings (₦225,000₦225,000) = ₦1,776,000₦1,776,000.

Key Concept

Accounting treatment of goods withdrawn for personal use and capital equity equation
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Topics

Treatment of Owner's Capital, Drawings, and Goods Withdrawn

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