Partnership
NATURE, FORMATION, OPERATION & FS PREPARATION
Definition
A partnership is a contract whereby two or
more persons bind themselves to contribute
money, property or industry into a common
fund with the intention of dividing the profit
among themselves (Article 1767 of the Civil
Code of the Philippines).
Articles of Co-Partnership
An agreement in writing among the partners governing the
nature and terms of the partnership contract. A written
agreement is required when partnership capital is P 3,000
or more in money or in property. The Article of Copartnership helps in avoid misunderstanding among the
partners. The written agreement among the partners
governs the formation, operation and dissolution of the
partnership and is required to be registered with SEC.
Characteristics of a Partnership
1. Based on contract
2. Voluntary association
3. Mutual agency
4. Limited life
5. Unlimited liability
6. Co-ownership of property
7. Co-ownership of profit
8. Legal entity
9. Income tax
Advantages of a Partnership
1. It is easy and inexpensive to form and to dissolve
2. Greater amount of capital may be raised compared to a sole proprietorship.
3. There is relative freedom and flexibility in decision-making compared to a corporation.
4. It is better managed because more than one person supervises business affairs.
5. The unlimited liability of general partners makes it reliable from the point of view of creditors.
Disadvantages of a Partnership
1. There is lack of business continuity because it can be easily dissolved.
2. Limited amount of capital may be raised compared to a corporation.
3. The unlimited liability of a partnership deters many from joining in a partnership form of
business.
4. A general partner may be subjected to a personal liability for erroneous management
decisions made by his associates.
5. There is likelihood of dissension and disagreement when each of the partners has the same
authority in the management of the firm.
6. There is difficulty in transferring ownership interest because ownership interest in the
partnership cannot be transferred without the consent of all the partners.
Kinds of Partnerships
According to activities
◦ Service – main activity is the rendering of services
◦ Merchandising or Trading – main activity is the purchase or sale of goods
◦ Manufacturing – main activity is the production of goods
According to liability
◦ General – one wherein all the partners are general partners who are liable for
the partnership debts to the extent of their personal property after all the
partnership assets have been exhausted.
◦ Limited – one consisting of one or more general partners and one or more
limited partners.
Kinds of Partnerships
According to object
◦ Universal partnership of all present property – one in which the partners contribute all the
property which actually belong to each of them, at the time of the constitution of the
partnership, to a common fund with the intention of dividing the same among them as well
as the profits which they may acquire therewith. All assets contributed to the partnership
and subsequent acquisitions become common partnership assets.
◦ Universal partnership of profits – one which comprises all that the partners may acquire by
their industry or work during the existence of the partnership and the usufruct of movable or
immovable property which each of the partners may possess at the time of the institution of
the contract. The original movable or immovable property contributed do not become
common partnership assets.
◦ Particular partnership – one which has for its object determinate things, their use or fruits or
a specific undertaking or the exercise of a profession of vocation.
Kinds of Partnership
According to duration of partnership existence
◦ Partnership at will – one for which no term is specified and is not formed for a
particular undertaking or venture and which may be terminated any time by
mutual agreement of the partners or the will of one alone.
◦ Partnership with a Fixed Term – one in which the term or period for which the
partnership is to exist is agreed upon (Baysa and Lupisan, 2000).
Kinds of Partners
According to contribution
a. Capitalist – one who contributes capital in money or property.
b. Industrial – one who contributes industry, labor, skill or service
c. Capitalist-Industrial – one who contributes money, property and industry
According to Liability
a. General – one whose liability to third persons extends to his private property
b. Limited – one whose liability to third persons is limited only to the extent of his capital
contribution to the partnership.
Kinds of Partners
According to management
a. Managing Partner – one who manages actively the business of the partnership
b. Silent – one who does not participate in the management of partnership affairs.
Others
a. Nominal- a partner in name only.
b. Secret – one who takes active part in the business but whose connection with the partnership
is concealed or unknown to the public.
c. Dormant partner – one who does not take active part in the business and is not known to the
public as a partner.
Partnership Formation
Ways of Partnership Formation
1. formation of a partnership for the first time.
2. conversion of a sole proprietorship to a partnership.
◦ a sole proprietor allows another person, who has no business of his own to join his business.
◦ two or more sole proprietors form a partnership.
Illustrative Problem 1 (first time)
ABS, GMA and TV5 decided to form the partnership firm. They contributed as follows:
ABS – computers $500,000 and cash $300,000
GMA – cash 700,000 and stock 100,000
TV5 – plant 280,000 and cash $520,000
Requirement:
1. Calculate the initial capital of each partner.
2. Prepare journal entries for the above transaction in the books of partnership firm.
3. Prepare the statement of financial position/ balance sheet on the formation of the partnership.
Illustrative Problem 2
Kapamilya and Kapuso were the main competitors in the shoe industry. Due to unhealthy competition
between them, On May 15, 2018, they decided to form a new partnership entity with the name of Family
& Love by merging out their businesses. On 15th May, 2018, their accounts balances are as follows:
Kapamilya
Kapuso
Cash
16,000
24,000
Accounts Receivable
80,000
96,000
Inventory
64,000
40,000
Machinery – Cost
120,000
96,000
Factory Equipment – Cost
56,000
64,000
Accumulated Depreciation – Machinery
64,000
32,000
Accumulated Depreciation – Factory
Equipment
24,000
40,000
Allowance for Doubtful Accounts
5,600
3,200
Accounts Payable
64,000
76,000
Illustrative Problem 2 continuation…
In order to complete the formation of a new partnership, the following valuations were agreed
upon between Kapamilya and Kapuso as follows:
Kapamilya:
Accounts receivable, net: $ 51,000, inventory at: $ 56,000 & machinery at: 30,000.
Kapuso:
Accounts receivable, net: $16,000, factory equipment: $10,000
Required:
1. Record the journal entries to form the new partnership.
2. Make initial balance sheet of the newly established firm.
Partnership Operations
Division of Profit and Loss
The Partnership Law provides that if the profit allocation has been agreed upon, the share of
each partner in the losses shall be in the same proportion with the net income allocation. It also
provides that on the absence of agreement, the share of each partner in the profits and losses
shall be in proportion to what they have contributed (based on capital contributions), but the
industrial partner shall receive such share as may be just and equitable under the circumstances.
Methods of profit and loss allocation
1) Equally
2) Arbitrary ratio
3) In the ratio of partner’s capital account balances and dividing the balance on agreed ratio:
◦
◦
◦
◦
a) Original capital – the initial investment/capital at the time of formation
b) Beginning capital of the period
c) Ending capital of the period
d) Average capital
◦ d1) Simple average
◦ d2) Weighted average
4) Interest on partners’ capital accounts and dividing the balance on agreed ratio
5) Salaries to partners and dividing the balance on agreed ratio
6) Bonus to partners and dividing the balance on agreed ratio
7) Interest on capital account balance, salaries and bonus to partners and dividing the balance on
agreed ratio.
Illustrative Problem 3
Assume that a net income of P288,000 is determined for X and Y Partnership at the end of 2018.
Regular withdrawals by partners in anticipation of net income have been summarized in the
drawing accounts; permanent capital changes have been summarized in the capital accounts.
Drawing and capital accounts at the end of 2018 appear as follows:
X, capital
Y, capital
1/1/2018
P300,000
4/1/2018
12/31/2018
3/1/2018
P30,000
1/1/2018
P420,000
60,000
11/1/2018
60,000
P360,000
12/31/2018
P450,000
X, drawing
Y, drawing
1/1-12/31
P36,000
1/1–12/31
P114,000
12/31/2018
P36,000
12/31/2018
P114,000
Required:
Determine the share of each partner in the net income assuming:
1) Net income would be allocated equally among X and Y.
2) X and Y agree to allocate net income in the ratio of 3:2.
3) Allocation of net income shall be based upon original capitals.
4) Beginning capital balances are used in allocating partnership profit.
5) Allocation of net income shall be based upon partner’s capital at the end of each year.
6) Allocation of net income shall be based upon simple average capitals for the year.
7) Allocation of net income shall be based upon weighted average capitals for the year
8) X and Y agree to allow interest on average capital at 6%; any net income or loss balance is to
be allocated at the ratio of 3:7.
a) Same interest was allowed but assuming the partnership incurred a net loss of P80,000 and
any balance will be allocated into 1:4 ratio.
9) The partners agree to allow interest of 6% on the excess of the average capital of one partner
over that of another and the balance in net income would be allocated in 1:2 ratio.
10) X and Y agree to the allowance of monthly salaries of P10,000 and P9,000 respectively; any
net income or loss balance is to be allocated in the ratio of beginning capital.
Illustrative Problem 4 (Bonus
Computation)
The net income of A and B Partnership for 2014 amounted to P420,000. A, as the managing
partner, is entitled to bonus.
Required: Determine the bonus of A assuming it is based on:
1. A bonus of 20% of net income before bonus is deducted.
2. A bonus of 20% of net income after deduction of the bonus.
Illustrative Problem 5
Refer to illustrative problem number 4, assume that the partners further agreed on the
allocation of net income:
• Bonus of 20% to A;
• Salaries to A, P40,000 and B, P60,000;
• Interest on average capital balances – A, P12,000 and B, P8,000
• Residual balance in net income be allocated to A and B in the ratio of 2:1.
Illustrative Problem 5 continuation…
Compute the bonus of A assuming:
a) Bonus is based on net income after salaries but before bonus and interest.
b) Bonus is based on net income after interest but before bonus and salaries.
c) Bonus is based on net income before bonus but after income tax (tax rate is 35%).
d) Bonus is based on net income, that is after bonus and income tax.
Illustrative Problem 5 continuation…
Determine the share of each partner in the net income assuming:
a) Bonus is based on net income before bonus, salaries, and interest.
b) Bonus is based on net income after bonus but before salaries and interest.
c) Bonus is based on net income after bonus and salaries but before interest.
d) Bonus is based on net income after bonus, salaries and interest.
Seatwork
Assume that a net income of P345,600 is determined for X and Y Partnership at the end of 2018.
Regular withdrawals by partners in anticipation of net income have been summarized in the
drawing accounts; permanent capital changes have been summarized in the capital accounts.
Drawing and capital accounts at the end of 2018 appear as follows:
X, capital
Y, capital
1/1/2018
P360,000
4/1/2018
12/31/2015
3/1/2018
1/1/2018
P504,000
72,000
11/1/2018
72,000
P432,000
12/31/2015
P540,000
X, drawing
P36,000
Y, drawing
1/1-12/31
P43,200
1/1–12/31
P136,800
12/31/2018
P43,200
12/31/2018
P136,800
Required:
Prepare journal entries to allocate net income based on:
a) Beginning capital
b) Ending capital
c) 6 percent interest on excess average capital balance and the balance allocated in the ratio of
1:2.