Profits as on July 1, 19—, were $5,000. Determine each share.
Solution
(Using the second method)
| Amount | Months | Month-Dollars | |||
|---|---|---|---|---|---|
| A. B. Card: | |||||
| $10,000 | × | ½ | $ 5,000 | ||
| 7,500 | × | 2 | 15,000 | ||
| 15,000 | × | ½ | 7,500 | ||
| 10,500 | × | 2 | 21,000 | ||
| 15,500 | × | ½ | 7,750 | ||
| 14,000 | × | ½ | 7,000 | ||
| 6 | $63,250 | ||||
| D. E. Folwell: | |||||
| $ 5,000 | × | ½ | $ 2,500 | ||
| 10,000 | × | ½ | 5,000 | ||
| 7,000 | × | 2 | 14,000 | ||
| 12,000 | × | 1½ | 18,000 | ||
| 10,000 | × | 1 | 10,000 | ||
| 12,500 | × | ½ | 6,250 | ||
| 6 | 55,750 | ||||
| Total investment in month-dollars | $119,000 | ||||
| 63,250 | ||
| Card’s share of the profit: | ——— | of $5,000 = $2,657.56 |
| 119,000 | ||
| 55,750 | ||
| Folwell’s share: | ——— | of $5,000 = $2,342.44 |
| 119,000 | ||
The first method will, of course, give identical results. The second method has the slight advantage that the Investment Months column will always total the same as the length of the fiscal period, provided each partner makes his initial investment at the first of the period—which is not always the case—and acts as a check on the accuracy of that part of the calculation.
Interest on Partners’ Investments.—A second problem of importance in connection with partnership accounting is the interest on partners’ investments. The purpose of allowing such interest is twofold: First, it may serve as an indication of the excess of the profits in this enterprise over the return on the investment of a like amount in the money market, thus dividing the partnership profits into two parts, interest and management earnings; and second, it may serve as a method of distributing profits up to a certain amount on the basis of capital investments, where the agreed-on ratio is different from the capital ratio, thus distributing the period’s profits on two different bases or ratios.
This is done sometimes to equalize somewhat the comparatively smaller-ratio profits of the partners who have made the larger investments. This problem, however, will be treated more fully in a later chapter where the methods of booking the interest, its treatment in case of a loss instead of a profit, and the computation of interest on drawings as well as on investments will be discussed and illustrated. Suffice it to say here that disputes frequently occur in connection with these problems and that detailed provision as to their handling should be made in the partnership agreement.
Valuation and Correct Booking of Original Investments.—A third matter of importance is the valuation and correct booking of the original investments other than cash. In the case of the sole proprietor this is of comparatively little importance because he will always reap the entire gain and therefore suffer no harm ultimately from present undervaluation of his property investments. In the partnership, however, where separate investment and personal accounts must be kept with each member, the correct valuation of the assets is of importance, inasmuch as the property of the partnership is the joint property of all partners and all will share ultimately in the effect of any under-or over-valuation at the time of investment. The partners’ accounts are set up for the purpose of showing their respective interests in the enterprise, and after investments are once brought onto the books these accounts govern the equities of the various partners.
Distinction between Buying Out an Interest and Making an Investment to Secure an Interest.—The taking in of a partner by a sole proprietor or his admission as a new member to an existing partnership raises a point about which there must be a very definite understanding. A distinction must be made between purchasing from the owners an interest in the business as it stands at any given time and making an investment in a business to secure such an interest. The first transaction is of a personal nature between the owners and a third party who is a purchaser; in the other transaction the third party, who is an investor, puts in money to acquire an interest and his investment becomes the common property of all the owners of whom he is now one. In the one case the capital of the business is not increased, in the other case it is increased by the amount of the new investment. For example, if a balance sheet shows:
| Cash | $ 5,000.00 | Liabilities | $ 6,000.00 |
| Other Assets | 15,000.00 | A. Jackson, Capital | 14,000.00 |