Management accounting 9788131731789, 8131731782

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MANAGEMENT ACCOUNTING

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MANAGEMENT ACCOUNTING

Debarshi Bhattacharyya Assistant Professor S. R. Fatepuria College University of Kalyani, West Bengal

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Assistant Acquisitions Editor: Anshul Yadav Assistant Production Editor: Barun Kumar Sarkar Compositor: Ace Pro India Pvt. Ltd Copyright © 2011 Dorling Kindersley (India) Pvt. Ltd. This book is sold subject to the condition that it shall not, by way of trade or otherwise, be lent, resold, hired out, or otherwise circulated without the publisher’s prior written consent in any form of binding or cover other than that in which it is published and without a similar condition including this condition being imposed on the subsequent purchaser and without limiting the rights under copyright reserved above, no part of this publication may be reproduced, stored in or introduced into a retrieval system, or transmitted in any form or by any means (electronic, mechanical, photocopying, recording or otherwise), without the prior written permission of both the copyright owner and the publisher of this book. ISBN: 978-81-317-3178-9 10 9 8 7 6 5 4 3 2 1 Published by Dorling Kindersley (India) Pvt. Ltd., licensees of Pearson Education in South Asia. Head Office: 7th Floor, Knowledge Boulevard, A-8(A), Sector-62, Noida 201309, India Registered Office: 11 Community Centre, Panchsheel Park, New Delhi 110017, India

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This book is dedicated at the feet of my parents the late Dhurjati Prasad Bhattacharyya and the late Aparna Bhattacharyya who are in front of me round the clock with their blessings.

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Contents Preface

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Introduction to Management Accounting 1 1.1 Definition of Management Accounting 1 1.2 Nature or Features of Management Accounting 2 1.3 Scope of Management Accounting 2 1.4 Objectives of Management Accounting 3 1.5 Role or Functions of Management Accounting 4 1.6 Utility of Management Accounting 5 1.7 Limitations of Management Accounting 6 1.8 Tools and Techniques of Management Accounting 7 1.9 Requisites for Installation of Management Accounting System 8 1.10 How Does Management Accounting Differ from the other Branches of Accounting 8 1.10.1 Management Accounting and Financial Accounting 8 1.10.2 Management Accounting and Cost Accounting 9 Chapter Review Summary 9 • Chapter Review Quiz 10 • Exercise 11

2 Analysis and Interpretation of Financial Statements 12 2.1 Meaning of Financial Statements 12 2.2 Characteristics of Financial Statements 12 2.3 Anatomy/Components of Financial Statements 13 2.3.1 Income Statement or Profit & Loss Account 13 2.3.2 Balance Sheet 14 2.3.3 Statement of Changes in Financial Position 14 2.4 Relationship Between Income Statement and Balance Sheet 15 2.5 Concept of Financial Statement Analysis 16 2.6 Objectives of Financial Statement Analysis 16 2.7 Requisites of Financial Statement Analysis 17 2.8 Different Approaches to Financial Statement Analysis 17 2.8.1 Traditional Approach to Financial Statement Analysis 17 2.8.2 Modern Approach to Financial Statement Analysis 18 2.9 Types of Financial Statement Analysis 18 2.10 Techniques/Tools of Financial Statement Analysis 19 2.11 Comparative Financial Statement Analysis 20 2.11.1 Concept of Comparative Financial Statement Analysis 20 2.11.2 Advantages of Comparative Financial Statement Analysis 21 2.11.3 Disadvantages of Comparative Financial Statement Analysis 21

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2.12 Common-size Financial Statement Analysis 21 2.12.1 Concept of Common-size Financial Statement Analysis 21 2.12.2 Advantages of Common-size Statement 22 2.12.3 Disadvantages of Common-size Statement 22 2.12.4 Comparative Statement vs. Common-size Statement 23 2.13 Trend Analysis 23 2.13.1 Concept of Trend Analysis 23 2.13.2 Steps in Computing Trend Values (or Percentages) 23 2.13.3 Advantages of Trend Analysis 23 2.13.4 Disadvantages of Trend Analysis 23 2.14 Worked-out Problems 24 Chapter Review Summary 48 • Chapter Review Quiz 48 • Exercise

49

3 Accounting Ratios for Financial Statement Analysis 57 3.1 Financial Statements 57 3.2 What is a Ratio? 57 3.3 What is an Accounting Ratio? 58 3.4 What is Ratio Analysis? 58 3.5 Steps in Ratio Analysis 58 3.6 Role or Importance of Ratio Analysis 58 3.7 Uses of Ratio Analysis 59 3.8 Advantages of Ratio Analysis 59 3.9 Limitations of Ratio Analysis 59 3.10 Parties Interested in Ratio Analysis 60 3.11 Different Kinds of Ratios or Classification of Ratios 60 3.12 Standard or Ideal Ratio 61 3.13 Computation of Proprietors’ Fund, Capital Employed, Working Capital 61 3.14 Calculation and Interpretation of Various Ratios 65 3.14.1 Balance Sheet Ratios (Ratios as ascertained from various items of the Balance Sheet) 65 3.14.2 Revenue Statement Ratio (Ratios as ascertained from the various items of the Profit & Loss A/c) 68 3.14.3 Mixed or Composite Ratio (Ratio ascertained taking some items from the Balance Sheet and some other items from the Profit & Loss A/c) 71 3.15 Du Pont Analysis 75 3.16 Ratios to be used in Determining Solvency, Performance, Managerial Efficiency etc. of an Enterprise 76 3.17 Different Ratios at Glance 77 3.18 Worked-out Problems 79 Chapter Review Summary 177 • Chapter Review Quiz 178 • Exercise 179

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Cash Flow Analysis 199 4.1 What is Cash? 199 4.2 Difference Between Cash and Fund 199 4.3 What is Cash Flow Statement? 200 4.4 Why is Cash Flow Statement Prepared? 200 4.5 Importance of Cash Flow Statement 200 4.6 Uses of Cash Flow Statement 200 4.7 Advantages of Cash Flow Statement 201 4.8 Limitations of Cash Flow Statement 201 4.9 Differences Between Cash Book and Cash Flow Statement 202 4.10 Differences Between Cash Flow Statement and Fund Flow Statement 202 4.11 Proforma of Cash Flow Statement Prepared under Traditional/Conventional Method 203 4.12 Cash Flow Statement as Prescribed in AS-3 203 4.12.1 Cash Flows from Operating Activities 204 4.12.2 Cash Flows from Investing Activities 204 4.12.3 Cash Flows from Financing Activities 205 4.13 Proforma of Cash Flow Statement as Prescribed in AS-3 206 4.13.1 Proforma of Cash Flow Statement under Direct Method [Paragraph (a) Page II – 910] 206 4.13.2 Proforma of Cash Flow Statement under Indirect Method [Paragraph (b) Page II – 910] 206 4.14 Fundamental Differences Between Cash Flow Statement as per AS-3 and Traditional Method 207 4.15 Worked-out Problems 208 Chapter Review Summary 314 • Chapter Review Quiz 315 • Exercise 317

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Fund Flow Analysis 341 5.1 Meaning and Concept of Fund 341 5.2 Generally Accepted Concept of Fund 341 5.3 Meaning of Flow of Fund 342 5.4 What is Fund Flow Statement? 342 5.5 Importance or Purposes of Fund Flow Statement 342 5.6 Limitations of Fund Flow Statement 342 5.7 Proforma of Presentation of Fund Flow Statement 343 5.8 Different Sources of Fund 343 5.9 Different Applications of Fund 343 5.10 What is Fund from Operation? 343 5.11 Different Approaches of Computation of Fund from Operation 344 5.11.1 Direct Approach of Computation of Fund from Operation 344 5.11.2 Indirect Approach of Computation of Fund from Operation 344

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5.12 5.13 5.14 5.15

Is Depreciation a Source of Fund? 346 Comparison between Fund Flow Statement, Income Statement and Balance Sheet 347 Distinction between Fund Flow Statement and Cash Flow Statement 347 Worked-out Problems 348 Chapter Review Summary 405 • Chapter Review Quiz 406 • Exercise 407

6 Working Capital 420 6.1 Meaning and Concept of Working Capital 420 6.2 Importance of Working Capital 420 6.3 Need for Working Capital 420 6.4 Different Concepts and Classification of Working Capital 421 6.4.1 Classification of Working Capital on the Basis of Concept 421 6.4.2 Classification of Working Capital on the Basis of Time 422 6.5 Sources of Working Capital 422 6.5.1 Sources of Permanent Working Capital 422 6.5.2 Sources of Temporary Working Capital 422 6.6 Determinants of Working Capital 423 6.7 Components of Working Capital 423 6.8 Positive and Negative Working Capital 423 6.9 Working Capital or Operating Cycle 423 6.10 Estimation or Forecasting of Working Capital 424 6.11 Procedure for Estimation/Forecasting of Working Capital 424 6.12 Valuation of Stock of Work-In-Progress (WIP) 425 6.13 Different Approaches of Estimation/Forecasting of Working Capital 425 6.14 Worked-out Problems 427 Chapter Review Summary 459 • Chapter Review Quiz 460 • Exercise 460 7

Budget and Budgetary Control 467 7.1 Meaning of Budget 467 7.2 Meaning of Budgeting 467 7.3 Features of Budget 467 7.4 Budgetary Control 467 7.5 Objectives of Budgetary Control 468 7.6 Advantages of Budgetary Control 468 7.7 Limitations of Budgetary Control 468 7.8 Comparison between Budget and Budgetary Control 469 7.9 Comparison between Standard Costing and Budgetary Control 469 7.10 Zero-Based Budgeting (ZBB) 469

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7.11 Classification or Types of Budget 470 7.11.1 Classification on the Basis of Period 470 7.11.2 Classification on the Basis of Flexibility of Production 471 7.11.3 Classification on the Basis of Function or Coverage 471 Worked-out Problems 473 Chapter Review Summary 521 • Chapter Review Quiz 522 •

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8 Standard Costing and Variance Analysis 537 8.1 What is Standard Cost? 537 8.2 What is Standard Costing? 537 8.2.1 Features of Standard Costing 537 8.3 Preliminary Steps for Establishing Standard Costing System 538 8.4 Types of Standards 538 8.5 Distinction between Standard Cost, Estimated Cost and Actual/Historical Cost 538 8.6 Advantages of Standard Costing 538 8.7 Limitations of Standard Costing 539 8.8 Comparison between Standard Costing and Budgetary Control 539 8.9 Analysis of Variance 540 8.9.1 Direction of Variances 540 8.9.2 Nature of Variances 540 8.9.3 Purposes of Variance Analysis 540 8.10 Classification of Variances 541 8.10.1 Material Variances 541 8.10.2 Labour Variances 543 8.10.3 Variable Overhead Variances 544 8.10.4 Fixed Overhead Variances 546 8.10.5 Sales Value Variances 548 8.10.6 Sales Margin (Profit) Variances 549 8.11 Formulae of Various Variances at a Glance 551 8.12 Worked-out Problems 556 Chapter Review Summary 602 • Chapter Review Quiz 603 • Exercise 604 9

Absorption Costing and Variable Costing 9.1 Absorption Costing 615 9.2 Features of Absorption Costing 615 9.3 Advantages of Absorption Costing 616 9.4 Limitations of Absorption Costing 616 9.5 Variable Costing 616

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9.6 9.7 9.8 9.9

Features of Variable Costing 617 Advantages of Variable Costing 617 Limitations of Variable Costing 617 Income Determination under Absorption Costing and Variable Costing 618 9.9.1 Income Determination under Absorption Costing Technique 619 9.9.2 Income Determination under Variable Costing Technique 619 9.10 Distinction between Absorption Costing and Variable Costing 619 9.11 Worked-out Problems 620 Chapter Review Summary 627 • Chapter Review Quiz 628 • Exercise

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11

Marginal Costing and Cost–Volume–Profit Analysis 632 10.1 Concept of Marginal Cost 632 10.2 Definition of Marginal Costing 633 10.3 Features of Marginal Costing 633 10.4 Advantages of Marginal Costing 633 10.5 Limitations of Marginal Costing 634 10.6 Meaning of Cost–Volume–Profit (CVP) Analysis 634 10.7 Features of CVP Analysis 634 10.8 Objectives of CVP Analysis 634 10.9 Assumptions Underlying CVP Analysis 635 10.10 Classification of Cost Under CVP Analysis 635 10.11 Elements of CVP Analysis 635 10.12 Break-Even Analysis (BE Analysis) 640 10.13 Break-Even Chart (BE Chart) 640 10.13.1 Presentation of BE Chart 640 10.14 Angle of Incidence 641 10.15 Mathematical Representation of CVP Analysis 641 10.16 Different Formulae of CVP Analysis at a Glance 642 10.17 Worked-out Problems 644 Chapter Review Summary 689 • Chapter Review Quiz 691

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Exercise

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Decision Making 703 11.1 Concept of Decision Making 703 11.2 Steps in Decision Making 703 11.3 Cost Concepts in Decision Making 703 11.4 Concept of Relevant Cost and Relevant Revenue 704 11.5 Comparison of Differential Cost Analysis and Marginal Costing 705 11.6 Concept of Key or Limiting Factor 705 11.7 Different Situations of Decision Making 706 11.7.1 Determination of Most Profitable Product/Sales Mix 706

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11.7.2 Accept or Reject Decision 706 11.7.3 Make or Buy Decision 706 11.7.4 Operate or Shut-Down Decision 707 11.8 Worked-out Problems 707 Chapter Review Summary 732 • Chapter Review Quiz

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Capital Budgeting 743 12.1 Concept of Capital Budgeting 743 12.2 Features of Capital Budgeting 743 12.3 Importance of Capital Budgeting 744 12.4 Types of Investments 744 12.5 Types of Capital Budgeting Decisions 744 12.6 Evaluation Criteria of Capital Budgeting Decisions 745 12.7 Concept of Present Value (PV) 745 12.8 Determination of PV Factor or Discounting Factor 745 12.9 Concept of Discounted Cash Flow 745 12.10 Capital Budgeting Techniques 746 12.10.1 Non-discounted Techniques (Without Considering the Time Value of Money) 746 12.10.2 Discounted Cash Flow Techniques (Time-Adjusted Techniques) 747 12.11 Worked-out Problems 749 Chapter Review Summary 767 • Chapter Review Quiz 768 • Exercise 769

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Responsibility Accounting 775 13.1 Meaning and Concept of Responsibility Accounting 775 13.2 Prerequisites of Responsibility Accounting 776 13.3 Assumptions of Responsibility Accounting 776 13.4 Advantages or Benefits or Purposes of Responsibility Accounting 776 13.5 Limitations of Responsibility Accounting 777 13.6 Responsibility Centre 777 13.7 Types of Responsibility Centres 777 13.7.1 Cost Centre 777 13.7.2 Profit Centre 777 13.7.3 Investment Centre 778 13.8 Controllable and Non-controllable Costs 778 13.9 Responsibility Reporting 778 13.10 Types of Responsibility Reports 779 Chapter Review Summary 779 • Chapter Review Quiz 780 • Exercise 780 Appendix 783

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Preface I am delighted to introduce Management Accounting before the undergraduate students of commerce. This book covers the latest syllabi of B.Com. courses of almost all Indian universities. It presents conceptual and theoretical aspects of Management Accounting in a simple, lucid and comprehensive manner, together with a variety of problems, their solutions, and exercises. I have explained the fundamental aspects of the subject for beginners with mathematical examples. Every topic has been discussed from the basic level of the concept to the highest possible standard as permissible for students at this level. The highlight of the book is the pedagogical elements such as chapter review quiz and exercises at the end of every chapter. It also contains numerous theoretical questions and practical problems, so that students can assess their levels of performance. I firmly believe that this book will meet the varied requirements of students. My apologies for any error that might have crept into the book in spite of my best efforts. I assure you that I will amend any such errors, if any, at the earliest opportunity. I welcome suggestions for the improvement of the quality of the book and may be reached at [email protected]. I express my deepest sense of gratitude to innumerable teachers, friends and well-wishers who inspired me round the clock with their valuable guidance and suggestions. I express my gratitude to Anshul Yadav of Pearson Education (India), without whose constant support and cooperation this book would never have seen the light of day. I also express my indebtedness to Raza Khan, Praveen Tiwari and Barun Kumar Sarkar, also of Pearson Education (India), who extended their cooperation for the early publication of the book. My heartiest gratitude to Sarbani Roy Bhattacharyya and Archisman Bhattacharyya, without whose great sacrifice in my personal life this book would not have been possible. I believe that my honest endeavour will be amply rewarded if this book proves useful to students of all merits and qualities for whom it is intended.

Debarshi Bhattacharyya

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Introduction to Management Accounting

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LEARNING OBJECTIVES On completion of the study of the chapter, you should be able to understand: What is Management Accounting? Nature, scope, objectives, functions, utilities and limitations of Management Accounting. Tools and techniques of Management Accounting. Requisites for installation of Management Accounting System. Distinction between Management Accounting and Financial Accounting. Distinction between Management Accounting and Cost Accounting.

1.1 DEFINITION OF MANAGEMENT ACCOUNTING Management Accounting is that branch of accounting which deals with presenting and providing accounting information to the management in such a systematic way so that it can perform its managerial functions of planning, controlling and decision-making in an effective and efficient manner. It acts as a ‘decision-making support system’ to the management. Many distinguished accountants and accounting institutions have defined the term Management Accounting in different languages. Some of them are enumerated as follows: According to Robert N. Anthony, ‘Management Accounting is concerned with accounting information which is useful to the management’. ‘Management Accounting is a term used to describe the accounting methods, system and techniques which, coupled with special knowledge and ability, assists management in its task of maximizing profits or minimizing losses’, according to J. Batty. As per Institute of Cost and Works Accountants of India (ICWAI), ‘Management Accounting is a system of collection and presentation of relevant economic information relating to an enterprise for planning, controlling and decision-making’. According to American Accounting Association (AAA), ‘Management Accounting is the application of appropriate techniques and concepts in processing historical and projected economic data of an entry to assist management in establishing plans for reasonable economic objectives in the making of rational decisions with a view towards these objectives’. As per Certified Institute of Management Accountants (CIMA), United Kingdom, ‘Management Accounting is an integral part of management concerned with identifying, presenting and interpreting information used for formulating strategy, planning and controlling activities, decision-making, optimizing the use of resources, disclosure to shareholders and other external to the entity, disclosure to employees, and safeguarding assets’. Analysing the above definitions, it can be concluded that Management Accounting is concerned with collection of data from both internal as well as external sources and communication of relevant information to the management, after processing, analysing and interpreting those, to perform its managerial functions of planning, controlling and decision-making in an effective and efficient manner.

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1.2 NATURE OR FEATURES OF MANAGEMENT ACCOUNTING Management Accounting is basically the most effective tool to the management for the purpose of its planning, controlling and decision-making. Various distinguished nature or features of Management Accounting are discussed as follows: i. Management Accounting deals with the collection of accounting and other data, and it analyses, interprets and communicates all relevant information to the management which are effectively required for planning, controlling and decision-making for the organization. Hence, in a nutshell, one of the most important nature of Management Accounting is to analyse and interpret accounting and other data to make them understandable and usable to the management. ii. It interprets the analysed data as obtained from the operational and non-operational activities of the enterprise and makes necessary comments and conclusions on them. iii. It provides necessary information to the management to judge the effectiveness of its managerial functions. iv. It provides necessary information to the management to perform its managerial functions of decisionmaking, planning and controlling. v. It provides necessary information to the management to review whether the performance of the enterprise has been achieved towards its goals and objectives. vi. It acts as a yardstick for measuring the level of performance of the operational and non-operational activities of the enterprise. vii. It serves as a yardstick for measuring the effectiveness of managerial performance of the different activities of the enterprise. viii. It is a forward-looking tool to the management. It analyses and interprets historical data for projecting the future trends of the different activities of the enterprise. ix. It prepares necessary plans to implement various financial decisions of the management. It also develops a system of feedback reporting and monitoring performance against the plan of the management. 1.3 SCOPE OF MANAGEMENT ACCOUNTING Management Accounting has a very widespread scope. It covers a very wide area of accounting system, which is discussed as follows: i. Financial Accounting: Financial Accounting provides the basic historical data to the Management Accounting which analyses and interprets those data and provides necessary information to the management for its planning, controlling and decision-making. As Management Accounting does not maintain the basic financial records, the success of an effective and efficient Management Accounting System depends on the existence of an effective Financial Accounting System. Therefore, Management Accounting System can be introduced into an organization where there exists a well-designed Financial Accounting System. Management Accounting applies the principles and practices of Financial Accounting. ii. Cost Accounting: On the one hand, Cost Accounting provides cost-related basic data to the Management Accounting, which analyses and interprets those costing data and provides necessary information to the management for the purpose of its controlling and decision-making. On the other hand, most of the Cost Accounting techniques like Standard Costing, Budgetary Control, Marginal Costing, Cost–Volume–Profit (CVP) Analysis, Differential Cost Analysis and Inventory Controlling, are used by Management Accounting in its process of planning, controlling and decision-making. Management Accounting uses the principles and practices of Cost Accounting. iii. Forecasting and budgeting: Management Accounting exercises the tool of forecasting and budgeting in the process of planning, controlling and decision-making. Forecasting makes an estimate of the probable event with a set of given or assumed information. Budgeting prepares a number of plans for any future project by setting definite goals. Forecasting helps to prepare the budget and budgeting

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helps to exercise the budgetary control technique on future projects. Both these tools are frequently used in Management Accounting. Statistical tools: Various statistical tools like graphs, charts, diagrams, time series, sampling, index numbers and Regression Analysis are used in Management Accounting in the process of planning, controlling and decision-making. Operational research techniques: Various operational research techniques like Linear Programming, Transportation Theory, Games Theory and Simulation Method are used in Management Accounting to resolve various problems prevailing under the existing situation in the process of decision-making. Financial analysis and interpretation: Various financial analysis techniques such as Ratio Analysis, Fund Flow Analysis, Cash Flow Analysis, Comparative Financial Statement, Common-Size Statement and Trend Analysis are widely used in Management Accounting to analyse and interpret financial data to make them easily understandable and useable to the management. Successful application of Management Accounting depends a lot on these financial analysis and interpretation works. Tax accounting and tax planning: Determination of taxable income and tax liability of the enterprise fall within the purview of the Management Accounting. In the process of decision-making, the analysis of implication of tax provisions on future projects also falls within the purview of Management Accounting. On the other hand, the management accountant must have a vast knowledge of tax laws and their accounting procedures, and also tax planning, to minimize the tax burden of the enterprise. Management Information System (MIS): Management Information System (MIS) is a modern computerized information system, by which accurate processing and analysis of a large volume of data can be done within a very short time. This information system is used in Management Accounting to provide necessary and relevant information to the management in the process of its planning, controlling and decision-making. Internal control and internal audit: Management Accounting highly depends on internal control system existing in the organization, like internal check and internal audit, to appraise the targeted performance and to identify the weaker area of the organization. Office system: Management Accounting System should also be well conversant with the modern office management system like filing, indexing, copying, electronic data processing, information network system, and email and fax system. Legal provisions: Management Accounting System should also be well informed about relevant and necessary legal provisions like Companies Act, Foreign Exchange Act, Securities Act, and Direct and Indirect Tax Laws. In the process of decision-making, management accountants should restrict their plan and action within the periphery of such legal provisions. Other areas: Apart from the aforementioned areas, Management Accounting also includes various newly developed areas of accounting like Human Resource Accounting, Social Accounting, Environmental Accounting and Inflation Accounting, within the purview of its scope.

1.4 OBJECTIVES OF MANAGEMENT ACCOUNTING The prime objective of Management Accounting is to provide necessary information to the management for an effective and efficient execution of managerial functions. Various objectives of Management Accounting are enumerated as follows: i. Analysis and interpretation of financial statements: Management Accounting collects, analyses and interprets the necessary data from the results shown by the Financial and Cost Accounting System, and also provides necessary and relevant information to the management in a systematic and useful manner which are to be applied by the management in the process of its planning, controlling and decision-making. Various tools like Ratio Analysis, Fund Flow Analysis, Cash Flow Analysis, Comparative

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Financial Statement, Common-Size Statement and Trend Analysis are widely used in Management Accounting for analysing and interpreting those data so as to make them easily understandable and useable to the management. Planning and policy-making: Management Accounting provides necessary and relevant information to the management in the process of its planning and policy-making to achieve organizational goals. Various statistical forecasting techniques like Time-Series Analysis and Regression Analysis are used in Management Accounting to guide proper planning and policy-making. Decision-making: Management Accounting provides necessary and relevant information to the management in the process of its decision-making. The success of the management highly depends upon a perfect decision-making. Such decision-making broadly depends on the effectiveness of information network. Management Accounting provides the above information to the management by applying Marginal Costing Technique, Differential Costing Technique and Absorption Costing Technique, for an effective and accurate decision-making. Controlling: Management Accounting applies various useful techniques such as Standard Costing, Budgetary Control, Responsibility Accounting and Management Audit, to ensure an effective managerial control over the use of resources of the enterprise. Management control is a control system which assures that the resources of the enterprise are effectively and efficiently used for achieving its goals and objectives. Management Accounting plays a significant role to the management in ensuring the existence of a proper managerial control system. Communicating: Proper communication of the performance of various sections of an enterprise to different levels of management is essentially required for planning, controlling and decision-making. Management Accounting does such communication by preparing reports of performance of various sections of the enterprise with the help of management information system. Coordinating: Management Accounting helps in coordinating various business activities of an enterprise. Its techniques of planning make a very good coordination between various activities of a concern. A master budget of the concern for a given period is prepared through coordination between various business activities of the concern. Proper reporting of different business activities are also made through coordination between various sections of the enterprise. Tax planning: Determination of tax liability of the enterprise after availing various tax rebates and reliefs falls within the purview of Management Accounting System. Management Accounting helps the management in the process of tax planning by availing various tax rebates and reliefs and, thus, reduces the burden of tax of the enterprise, on the whole. Advisory Service: Management Accounting renders valuable advice to the management for resolving any financial or other problems of the enterprise. To overcome any existing financial and other problems, various Management Accounting techniques are applied according to the nature of the problem. Management Accounting also plays a very important role as an advisor to the management.

1.5 ROLE OR FUNCTIONS OF MANAGEMENT ACCOUNTING The function of Management Accounting is to assist the management to perform its functions of planning, organizing, directing, controlling and decision-making. The major functions of Management Accounting are as follows: i. Collection of data: Management Accounting does not maintain records of financial and cost data but it collects the basic financial data mainly from the records as maintained by financial and Cost Accounting for the purpose of preparing plans and actions of the management. ii. Supply of modified data: It modifies the collected raw data by classifying and compiling them for making them suitable for the purpose of their analysis and interpretation. It extracts the necessary and effective information from those basic data for the purpose of their analysis and interpretation.

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iii. Analysis and interpretation of data: It analyses and interprets those modified data and extracts the necessary and effective information for making them understandable and useable to the management in the process of its planning, controlling and decision-making. After analysing and interpreting all those data, it presents the results with necessary comments to the management. iv. Planning and forecasting: It formulates some definite plans for implementing policies of the management. It helps the management for formulating different short- and long-term policies by providing necessary and relevant information in relation thereto. In the process of formulating policies and for their proper execution, it makes the forecasting of some probable future happenings. v. Communication: It provides a means of communicating plans and actions of the management over all areas of activities of the organization. It provides necessary and relevant information to all levels of management. vi. Ensuring control: It ensures a control over the performance of different sections of an enterprise. It uses various techniques like Budgetary Control, Standard Costing and Responsibility Accounting, and to identify the weaker areas of performance of activity and suggests appropriate remedial measures to overcome the prevailing problems. vii. Helping in decision-making: It helps the management in the process of its effective decision-making by providing necessary and relevant information in the relation thereto. viii. Performance evaluation: It evaluates the performance of activities of different divisions as well as the business as a whole of an enterprise by using its various tools and techniques. ix. Preparation of reports: It prepares reports of performances of different activities of the enterprise and provides to the management on regular intervals. These managerial reports are prepared as per the requirement of the management. 1.6 UTILITY OF MANAGEMENT ACCOUNTING Management Accounting provides very valuable services to the management in the course of its functioning. Different utilities of Management Accounting are discussed as follows: i. Planning: It formulates policies and programmes by setting definite goals and prepares a systematic plan for achieving these goals. It makes such plans for achieving organizational goals and targets. ii. Controlling: It plays a most significant role in the process of controlling. Management Accounting, in the process of controlling, involves framing of budgets, comparison of actual results with budgeted estimates, ascertainment of any deviation of actual results from budgeted estimates by computation of variances and adoption of necessary remedial measures against such deviation. iii. Coordinating: It plays the most vital role in the process of coordinating of different divisions of an enterprise. Its techniques of planning make a very good coordination between the various activities of a concern. Proper reporting of different business activities are also made by Management Accounting through coordination between the various sections of the enterprise. iv. Performance Evaluation: It plays a very important role in the process of evaluation of performance of the different activities of an enterprise. It evaluates the performances of different divisions and employees of the organization by comparing the target estimates with the actual performances of the divisions and employees. v. Organizing: It plays an important role in the process of organizing of the different activities of an enterprise. It divides the whole organization into suitable cost or profit centres. A sound system of internal control and internal audit is assigned to each cost or profit centre for ensuring a planned organizing system. vi. Motivating: It helps the management in the process of motivating the employees by setting various targets to achieve the organizational goals.

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vii. Communicating: It communicates the performances of the various divisions and employees of the enterprise with the help of the management information system to the different levels of its management by preparing reports of performance of those sections and employees of the enterprise. Such communication is essentially required for planning, controlling and decision-making of the enterprise. viii. Decision-making: It plays the most important role in the process of decision-making of a concern. The success of the management highly depends upon the perfect decision-making and such decisionmaking broadly depends on the effectiveness of information network. It provides necessary and relevant information to the management for effective and accurate decision-making. 1.7 LIMITATIONS OF MANAGEMENT ACCOUNTING Despite the fact that Management Accounting acts as a very useful tool to the management in the process of performing its managerial functions, it suffers from the following limitations: i. Reliance on accounting data: Management Accounting collects the basic data mainly from the records as maintained by financial and Cost Accounting. Hence, it starts to work on the basis of the data as supplied by the other branches of accounting. If those basic data are incorrect, then the entire effort of the management accountant becomes useless. ii. Based on historical data: It guides the management in the process of decision-making for the future activities on the basis of the historical data as supplied by Financial Accounting and Cost Accounting. Therefore, Management Accounting uses historical data for making future decisions, which may not always result in a correct decision. iii. Wide scope: It covers a very vast area and also includes a number of related fields such as Financial Accounting, Cost Accounting, Statistics, Operational Research, Law and Economics, to become more effective to the management. It is really very difficult to develop such a Management Accounting System where all the related people are not well-equipped with full knowledge of all these related areas. iv. Highly expensive: The installation of a sound Management Accounting System in a concern is highly expensive as it essentially requires a wide network of management information system. Moreover, the operating expense of the Management Accounting department is also very high. As a result, small concerns generally cannot afford to install this system. v. Complicated application: It is such a system where a number of different tools and techniques are applied. It also uses a number of accounting and non-accounting subjects for analysis and interpretation of data. Accordingly, its proper application is really complicated when compared to other branches of accounting. A management accountant may try to avoid such a complicated approach of decision-making. vi. Lack of objectivity: It uses both quantitative as well as qualitative data for analysis and interpretation, and also prepares reports on the basis of such interpretation. The interpretation of information as provided by Management Accounting in the form of reports may be influenced by a personal bias of the interpreter, which may reduce the utility of Management Accounting. vii. Not a substitute of management: It merely provides necessary and relevant information to the management to perform their managerial functions of planning, controlling and decision-making in an effective and efficient manner, but certainly is not a substitute for the management itself. It acts only as a decision-making tool to assist the management, but cannot take the ultimate decision on its own. viii. Developing stage: It is still in its developing stage as it is relatively a recent area in the field of accounting. It follows some concepts and conventions which are not yet generally accepted. Many experiments have been still in progress on this area of accounting.

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1.8 TOOLS AND TECHNIQUES OF MANAGEMENT ACCOUNTING Management Accounting uses various tools and techniques for providing necessary and effective information to the management for performing its managerial functions. Various tools and techniques that are commonly used in Management Accounting are discussed as follows: i. Financial Statement Analysis: It is a methodical and systematic analysis and interpretation of the data as disclosed in the balance sheet and income statement with a view to extract necessary and relevant information for proving them to the management for determining liquidity, solvency, profitability, activity and the managerial performance of the enterprise. Various tools of Financial Statement Analysis such as Ratio Analysis, Comparative Financial Statement, Common-Size Statement and Trend Analysis are frequently used in Management Accounting for analysis and interpretation of financial statements. ii. Fund Flow Analysis: It is a detailed analysis of inflows and outflows of fund (i.e., the working capital) of an enterprise during a particular accounting period. Such analysis is done by preparing a Fund Flow Statement at the end of an accounting period. The Fund Flow Statement exhibits inflows and outflows of fund from various activities of the enterprise during an accounting period. As working capital is considered as the life-blood of every business concern, efficient management of working capital is highly effective for the smooth running of all operating activities of the concern. For an effective and efficient management of the working capital of a concern, Fund Flow Analysis is frequently used as a tool of the Management Accounting. iii. Cash Flow Analysis: It is a detailed analysis of inflows and outflows of cash and cash equivalents (i.e., cash in hand, cash at bank and short-term investments) of an enterprise during a particular accounting period. Such analysis is done by preparing a Cash Flow Statement at the end of an accounting period. The Cash Flow Statement so prepared exhibits the inflows and outflows of cash from various activities of the enterprise during an accounting period. As the movement of cash is very much significant to every business concern, an efficient management of cash is highly effective for the liquidity planning of the concern. For an effective and efficient management of cash of a concern, Cash Flow Analysis is frequently used as a tool of Management Accounting. iv. Costing techniques: Various costing techniques such as Marginal Costing, Standard Costing and Differential Costing are frequently used as tools of Management Accounting in its process of cost control and decision-making. v. Budgetary control: Budgetary control involves framing of budgets, comparison of actual results with budgeted estimates, ascertainment of any deviation of actual results from budgeted estimates by computation of variances and adoption of necessary remedial measures against such deviation. It is an essential tool widely used in the Management Accounting in the process of its controlling, planning and performance evaluation of an enterprise. vi. Statistical and operational research techniques: Various statistical and operational research techniques such as charts, graphs, index number, sampling, time series, Regression Analysis, Linear Programming, Games Theory, and Programme Evaluation and Review Technique (PERT) are frequently used as tools of Management Accounting in its process of performance evaluation and decision-making. vii. Responsibility Accounting: It involves preparation of budget for various responsibility centres and assignment of specific responsibilities to the concerned individual managers for carrying out the budget directions. In the process of cost control, responsibility accounting is widely used as a tool of Management Accounting. viii. Management Reporting: It involves preparation and submission of reports of performance of various activities of a concern to the management on regular intervals for its effective planning, controlling, performance evaluation and decision-making. Management Reporting is widely used as an essential tool in Management Accounting.

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1.9 REQUISITES FOR INSTALLATION OF MANAGEMENT ACCOUNTING SYSTEM Following are the requisites for installation of an effective and efficient Management Accounting System in an organization: i. Introduction of appropriate organization manual defining therein power, functions, responsibilities and scope of the employees of the organization. ii. Recruitment of adequate number of employees and arrangement of time-to-time proper training for those employees. iii. Classification and codification of accounts. iv. Introduction of sound systems of internal control and internal audit in the organization. v. Setting up of suitable systems of budgetary control and standard costing technique. vi. Setting up of a suitable system for integrating cost and financial data. vii. Setting up of suitable cost centres and profit centres. viii. Setting up of a suitable system of responsibility accounting. ix. Developing of a sound management information system. x. Developing of an operational research system in the organization. xi. Preparation of an effective proforma for feedback receiving and managerial report. 1.10 HOW DOES MANAGEMENT ACCOUNTING DIFFER FROM THE OTHER BRANCHES OF ACCOUNTING Management Accounting differs significantly from the other branches of accounting such as Financial Accounting and Cost Accounting. Factors that distinguish Management Accounting from Financial Accounting and Cost Accounting are separately discussed as follows: 1.10.1 Management Accounting and Financial Accounting Financial Accounting records all monetary transactions in the books of accounts and ascertains the results of the financial activities of the concern for an accounting period by preparation of financial statements at the end of every accounting period. On the other hand, Management Accounting collects the basic data mainly from the Financial Accounting System and provides necessary information to the management after analysing and interpreting those data. Points of difference between the Management Accounting and Financial Accounting are enumerated as follows: Management Accounting 1. Management Accounting is primarily based on the data as obtained from Financial Accounting. 2. Its main function is to assist the management in the process of its planning, controlling, performance evaluation and decision-making by proving necessary information to the management. 3. Reports as prepared in Management Accounting may contain both objective as well as subjective figures. 4. Reports as prepared in Management Accounting are exclusively meant for the management of the concern. 5. Reports are prepared as per the requirement of the management.

Financial Accounting 1. Financial Accounting is based on the monetary transactions of the enterprise. 2. Its main functions are recording and classifying monetary transactions in the books of accounts and preparation of financial statements at the end of every accounting period. 3. Reports as prepared in Financial Accounting should always be supported by relevant figures. It lays emphasis on the objectivity of the data. 4. Reports as prepared in Financial Accounting are meant for the management as well as for shareholders and creditors of the concern. 5. Reports are prepared at the end of every accounting period.

(Continued)

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INTRODUCTION TO MANAGEMENT ACCOUNTING

Management Accounting 6. Reports as prepared in Management Accounting are not subject to statutory audit. 7. It evaluates the sectional as well as the entire performance of the business. 8. Its success depends on the existence of a sound Financial Accounting System.

9

Financial Accounting 6. Reports as prepared in Financial Accounting are always subject to statutory audit. 7. It ascertains the results and exhibits the financial strength of the business as a whole. 8. Its success does not depend, in any way, on the existence of a sound Management Accounting System.

1.10.2 Management Accounting and Cost Accounting Management Accounting collects the basic data from the Financial Accounting and Cost Accounting systems and provides necessary information to the management after analysing and interpreting those data. On the other hand, Cost Accounting records all cost data in the cost book as obtained from the Financial Accounting, ascertains costs and reveals all cost-related information of the concern at the end of every accounting period. Points of difference between Management Accounting and Cost Accounting are stated as follows: Management Accounting 1. The main objective of Management Accounting is to assist the management in the process of its planning, controlling, performance evaluation and decisionmaking by providing necessary information on time. 2. It uses both quantitative as well as qualitative data, measurable and even not measurable in monetary terms. 3. Primary emphasis given in Management Accounting is on effective and efficient performance of the business. 4. Its success depends on the existence of a sound Cost Accounting System. 5. It is based on the data as obtained from Financial Accounting and Cost Accounting. 6. Management Accounting provides historical as well as predictive information for future decision-making. 7. Reports as prepared in Management Accounting are exclusively meant for the management of the concern. 8. It uses the principles and practices of financial as well as Cost Accounting. 9. Reports as prepared in Management Accounting are not subject to statutory audit. 10. It deals with cost- as well as finance-related data of an enterprise.

Cost Accounting 1. The main objective of Cost Accounting is to ascertain, allocate and do accounting for costs and to assist the management in the process of its cost control and cost-related decision-making. 2. It uses only quantitative cost data measurable in monetary terms. 3. Primary emphasis given in Cost Accounting is on cost determination and cost control of the business. 4. Its success does not depend, in any way, on the existence of a Management Accounting System. 5. It is based on the cost-related data as obtained from Financial Accounting. 6. Cost Accounting provides historical cost information for future cost-related decision-making. 7. Reports as prepared in Cost Accounting are mainly meant for the management, but also useful to the shareholders and creditors of the concern. 8. It uses the principles and practices of Cost Accounting alone. 9. Reports as prepared in Cost Accounting are subject to statutory audit (i.e., cost audit) in many countries. 10. It deals only with cost-related data of an enterprise.

CHAPTER REVIEW SUMMARY  Management Accounting is concerned with the collection of data from both internal as well as external sources and communicates relevant information to the management, after processing, analysing and interpreting those, to perform their managerial functions of planning, controlling and decision-making in an effective and efficient manner.  Nature or features of Management Accounting are as follows: (a) It deals with the collection of accounting and other data, analysing them, interpretting them and communicating all relevant information to the management; (b) It provides necessary information to the management to perform their managerial functions of decision-making, planning and control; (c) It acts as a yardstick for measuring the effectiveness of managerial

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 

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

MANAGEMENT ACCOUNTING

performance of the different activities of the enterprise; and (d) It prepares necessary plans to implement the various financial decisions of the management. Management Accounting has a very wide spread scope. It covers the following areas: (a) Financial Accounting; (b) Cost Accounting; (c) forecasting and budgeting; (d) statistical tools; (e) operational research techniques; (f) financial analysis and interpretation; (g) tax accounting and tax planning; (h) management information system; (i) internal control and internal audit; (j) office system; (k) legal provisions; and (l) other areas like social accounting, human resource accounting, inflation accounting, and environmental accounting. Objectives of Management Accounting are: (a) analysis and interpretation of financial statements; (b) planning and policy-making; (c) decision-making and controlling; (e) communicating; (f) coordinating; (g) tax planning; and (h) advisory service. Role or functions of Management Accounting are: (a) collection of data; (b) supply of modified data; (c) analysis and interpretation of data; (d) planning and forecasting; (e) communication; (f) ensuring control; (g) helping in decision-making; (h) performance evaluation; and (i) preparation of managerial reports. Utilities of Management Accounting are: (a) planning; (b) controlling; (c) coordinating; (d) performance evaluation; (e) organizing; (f) motivating; (g) communicating; and (h) decision-making. Limitations of Management Accounting are: (a) reliance on accounting data; (b) based on historical data; (c) vast area coverage; (d) highly expensive; (e) complicated application; (f) lack of objectivity; (g) not a substitute of management; and (h) developing stage. Tools and techniques of Management Accounting are: (a) Financial Statement Analysis; (b) Fund Flow Analysis; (c) Cash Flow Analysis; (d) costing techniques; (e) budgetary control; (f) statistical and operational research techniques; (g) Responsibility Accounting; and (h) Management Reporting. Requisites for installation of Management Accounting System are: (a) introduction of appropriate organization manual; (b) recruitment of adequate number of employees; (c) introduction of systems of internal control and internal audit; (d) setting up of suitable systems of budgetary control and standard costing; (e) development of a management information system; (f) setting up of a suitable system for integrating cost and financial data; and (g) setting up suitable cost centres and profit centres. Distinctions between Management Accounting and Financial Accounting are: (a) Management Accounting is primarily based on the data from Financial Accounting whereas Financial Accounting is based on the monetary transactions of the enterprise; (b) the main function of Management Accounting is to assist the management in its planning, controlling, performance evaluation and decision-making whereas the main function of Financial Accounting is recording of monetary transactions and preparation of financial statements; (c) Management Accounting evaluates both sectional as well as the whole performance of the business whereas Financial Accounting ascertains the results and exhibits the financial strength of the business as a whole; and (d) success of Management Accounting depends on the existence of a sound Financial Accounting System whereas the success of Financial Accounting does not depend, in any way, on the existence of Management Accounting System. Distinctions between Management Accounting and Cost Accounting are as follows: (a) the main objective of Management Accounting is to assist the management in the process of its planning, controlling, performance evaluation and decision-making whereas the main objective of Cost Accounting is to ascertain, allocate and do accounting for costs, and to assist the management in the process of cost control; (b) primary emphasis given in Management Accounting is on the effective and efficient performance of the business whereas the primary emphasis given in Cost Accounting is on cost determination and cost control of the business; (c) the success of Management Accounting depends on the existence of a sound Cost Accounting system whereas the success of Cost Accounting does not depend, in any way, on the existence of Management Accounting System; and (d) Management Accounting is based on the data as obtained from Financial Accounting and Cost Accounting whereas Cost Accounting is based on the cost-related data as obtained from Financial Accounting.

CHAPTER REVIEW QUIZ 1. State whether the following statements are true or false: a. Various statistical and operational research tools are used in Management Accounting in the process of planning, controlling and decision-making. b. Management Accounting interprets the analysed data as obtained from the non-operational activities alone of the enterprise.

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c. Management Accounting prepares the necessary plans to implement various financial decisions of the management. d. Management Accounting is a backward-looking tool to the management. e. Management Accounting helps in coordinating various business activities of an enterprise. f. Management Accounting System should be well conversant with the modern office management system. g. Management Accounting is a branch of Financial Accounting. h. Cost Accounting does not provide cost-related basic information to the Management Accounting. i. Installation of Management Accounting System is highly expensive to every concern. Ans.: True: (a), (c), (e), (f), (i); False: (b), (d), (g), (h). 2. Fill in the blanks in the following statements: . a. Success of the management highly depends upon perfect b. Management Accounting System can be introduced into an organization where there exists a well-desystem. signed for projecting the future trends of c. Management Accounting analyses and interprets different activities of the enterprise. of the enterprise. d. Management Accounting acts as a yardstick for measuring of e. Management Accounting is concerned with the accounting information which is useful to the . f. Management Accounting communicates relevant information to the management to perform their and . managerial functions of , Ans.: (a) decision-making; (b) Financial Accounting; (c) historical data; (d) level of performance; (e) management; (f) decision-making; planning; controlling. EXERCISE I. Theoretical Questions A. Short Answer Type Questions

1. 2. 3. 4. 5. 6. 7.

What is Management Accounting? Write any two features of Management Accounting. Write any two objectives of Management Accounting. Write any three utilities of Management Accounting. Write any three limitations of Management Accounting. Give any two points of differences between Management Accounting and Financial Accounting. Give any two points of differences between Management Accounting and Cost Accounting.

B. Essay Type Questions

1. 2. 3. 4. 5. 6. 7. 8. 9.

Define Management Accounting. Discuss its nature. Discuss the scope of Management Accounting. Discuss the objectives of Management Accounting. Discuss the role of Management Accounting. Discuss the advantages of Management Accounting. Discuss the limitations of Management Accounting. Discuss the various tools and techniques used in Management Accounting. Enumerate various requisites for installation of Management Accounting System. Distinguish between a. Management Accounting and Financial Accounting. b. Management Accounting and Cost Accounting.

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Analysis and Interpretation of Financial Statements

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LEARNING OBJECTIVES On completion of the study of the chapter, you should be able to understand: What are Financial Statements? Components of Financial Statements. Relationship between Income Statement and Balance Sheet. Concept of Financial Statement Analysis. Objectives and requisites of Financial Statement Analysis. Different approaches to Financial Statement Analysis. Different types of Financial Statement Analysis. Different techniques of Financial Statement Analysis.

2.1 MEANING OF FINANCIAL STATEMENTS Financial Statements are compilation of financial data, arranged and organized in a systematic and summarized manner according to the accounting principles, to assess the financial position of an enterprise as regards to its profitability, operational efficiency, long- and short-term solvency and growth potential. On the basis of the information as disclosed in the Financial Statements, users of them come to know about the growth, profitability, solvency and financial strength of an enterprise. These are prime tools in the hands of the management of an enterprise by which they can present the financial position of the enterprise before the interested parties such as shareholders, lenders and creditors. A number of statements prepared at the end of every accounting period are collectively called ‘Financial Statements.’ Financial Statements include the following: i. Income Statement or Profit & Loss A/c. ii. Balance Sheet. iii. Fund Flow Statement. iv. Cash Flow Statement. 2.2 CHARACTERISTICS OF FINANCIAL STATEMENTS Financial Statements indicate the financial strength of an enterprise and communicate financial information to the different interested parties. According to the American Institute of Certified Public Accountants (AICPA), ‘Financial Statements reflect a combination of recorded facts, accounting conventions and personal judgments and the judgments and conventions applied affect them materially.’ Therefore, this statement of AICPA implies that the data as contained in the Financial Statements are affected by the recorded facts, accounting conventions and personal judgements. Accordingly, the nature of Financial Statements may be explained as follows: i. Recorded Facts: Financial transactions that take place are recorded in the books of accounts of the concern in monetary value. Financial Statements are prepared taking those recorded transactions. These recorded facts reflect the results of the past activities of the enterprise; and accordingly, they are

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ii.

iii.

iv.

v.

vi.

vii.

called ‘historical evidences.’ On the basis of these historical evidences as recorded during an accounting period, Financial Statements are prepared at the end of the accounting period. Hence, one of the characteristics of the Financial Statements is that they are prepared on the basis of past recorded facts. Accounting Conventions: Some accounting principles, concepts, conventions and postulates are applied while preparing the Financial Statements, in order to make them reliable, meaningful and comparable. Concepts of materiality, consistency, periodicity, conservatism and full disclosures are the examples of such accounting principles, concepts, conventions and postulates that are applied in Financial Statements. Periodic Information: Financial Statements exhibit a periodical financial information of an entity. As Financial Statements are prepared generally at the end of every accounting year, these provide relevant financial information for that accounting year. Summary of Activities: Financial Statements should incorporate the summary of the financial information of all the activities of the concern. It includes the financial information of operating, investing and financing activities of the concern. Prime aid for Financial Analysis: Financial Statements provide the prime information for the financial analysis of a concern. These act as the prime aid for financial analysis by disclosing all the material information before the users. Legal Conformity: Financial Statements must disclose all the information as required by the law of the country. It should be presented in conformity with the applicable legal provisions. They should also be presented in conformity with the relevant accounting standards of the country. Personal Judgements: Financial Statements are not only prepared on the basis of the established accounting principles and conventions and legal requirements, personal judgements of the accountants and management are also applied in some cases for preparing the Financial Statements. For example, in case of valuation of inventories, personal judgement is essentially required as regards to the application of method of such valuation (i.e., LIFO or FIFO or Weighted Average). Thus, Financial Statements are also influenced by personal judgements of the accountant or the management of the concern.

2.3 ANATOMY/COMPONENTS OF FINANCIAL STATEMENTS Financial Statements comprise a number of statements generally prepared at the end of every financial year to assess the various financial activities and strength of an enterprise. Components of Financial Statements are as shown in Figure 2.1. Financial Statements

Income Statement

Balance Sheet

Statement of changes in financial position

Fund Flow Statement

Figure 2.1

Cash Flow Statement

Components of Financial Statements

These Financial Statements are generally prepared at the end of every accounting year by a concern to evaluate the financial activities and the strength of the concern, as well as due to legal obligation, as all the above statements are the carriers of financial information that are required by different users of Financial Statements. Each component of the Financial Statements is separately described as follows. 2.3.1 Income Statement or Profit & Loss Account Income Statement (or Profit & Loss A/c—P&L A/c) is a statement (or an account) prepared at the end of every accounting year to ascertain the revenue profit earned (or the revenue loss incurred) from the business

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during that accounting year. Such revenue profit is ascertained by deducting various costs incurred during an accounting year to generate revenue into the business from the revenue generated for the business, for that accounting year, by way of sale of goods and other activities. Such profit is ascertained in three parts as follows: First, the excess of revenue generated from the operating activities (i.e., sale of goods, discount received, commission received) of the enterprise during an accounting period over the direct revenue expenses incurred to carry on the operating activities (i.e., materials consumed, wages, factory expenses) of the enterprise for that accounting year represents the Gross Profit for that accounting year. Secondly, the Operating Profit is ascertained by deducting the indirect revenue operating expenses incurred (i.e., salary to staff, general expenses, selling expenses) for that accounting year from the Gross Profit as ascertained in the above. Finally, the Net Profit for the accounting year is ascertained by adjusting the nonoperating incomes (i.e., interest, dividend received from investment) and non-operating expenses (i.e., interest on loan) for that accounting year with the Operating Profit as ascertained in the above. Hence, the profit earned (or loss incurred) during an accounting year is ascertained through the Income Statement by matching the total revenue expenses incurred during that accounting year with the revenue incomes earned during that accounting year. Therefore, the Income Statement exhibits the profit-earning capacity of an enterprise for a particular accounting year. It is prepared generally at the end of every accounting year mainly to evaluate the regular operating performance of a concern for that accounting period. 2.3.2 Balance Sheet Balance Sheet is a summarized statement, generally prepared at the end of every accounting period, showing therein the values of assets and liabilities with a view to exhibit the financial position of the concern. The Balance Sheet of every concern consists of two parts—assets and liabilities. In the ‘asset side’ of the Balance Sheet, the values of assets owned by the concern as on that date are exhibited. An Asset is defined as the claim or right acquired by the concern as a result of its past transaction, which is supposed to provide the future economic benefit to the concern. The asset side of the Balance Sheet consists of four parts—Fixed Assets, investments, Current Assets and miscellaneous expenditure. Fixed Assets are those that have been acquired by the concern not for resale, rather acquired for long-term use for the operating activities of the business (e.g., Land & Building, Plant & Machinery). Investments represent the amount of long-term fund invested outside the business (e.g., investment in shares or debentures of other companies). Current Assets are those that have been acquired by the firm with the expectation to consume or convert them into cash within a year from the date of their acquisition (Stock of goods, Sundry Debtors). Miscellaneous expenditure represents the deferred loss to the extent not written off (i.e., Preliminary expenses, Discount on issue of shares or debentures). In the ‘liability side’ of the Balance Sheet, the values of liabilities payable by the concern as on that date are exhibited. A Liability is defined as the obligation incurred by the concern as a result of its past transaction, against which the concern is liable to pay money or other assets to another party. Liability side of the Balance Sheet consists of three parts—owners’ fund, outsiders’ long-term loans and Current Liabilities. ‘Owners’ fund’ refers to the long-term fund invested by the owner into the business, which is comprised of Share Capital, undistributed profits and reserves and so on (i.e., Share Capital, Reserves & Surplus). ‘Outsiders’ long-term loan’ refers to the long-term fund invested by the outsiders (i.e., not the owner) into the business in the form of loan of a long-term nature (e.g., Debentures, other long-term secured and unsecured loans). ‘Current Liabilities’ are those obligations of the concern which are supposed to pay within a period of 1 year from the date of their occurrence (e.g., Sundry Creditors, Bills Payable). 2.3.3 Statement of Changes in Financial Position Traditionally, Financial Statements refer to the Income Statement and the Balance Sheet. But, as per modern concept, further extension of the periphery of Financial Statements is essentially needed in the modern business world to disclose more financial information of an entity to the different users of the Financial Statements.

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As a consequence, some other statements, which exhibit changes in the financial position of an entity between two accounting years, are incorporated in the composition of Financial Statements. They are: Fund Flow Statement and Cash Flow Statement. 2.3.3.1 Fund Flow Statement Fund Flow Statement is a summarized statement generally prepared at the end of an accounting year showing therein the inflows and outflows of the fund of an enterprise during that accounting year. In this context, ‘fund’ refers to the working capital (i.e., Current Assets—Current Liabilities). Therefore, the Fund Flow Statement is a summarized statement generally prepared at the end of an accounting year, which exhibits various sources of the working capital and its uses made by a concern during that particular accounting year. This statement shows the flows of fund (i.e., working capital) of a concern during an accounting year. A Fund Flow Statement is prepared on the basis of the published data as disclosed by the traditional Financial Statements (i.e., Income Statement and Balance Sheet) of two different accounting years. It summarizes all the fund flows between two accounting years. It is an essential tool for the managerial decision-making. 2.3.3.2 Cash Flow Statement Cash Flow Statement is a summarized statement generally prepared at the end of an accounting year showing therein the inflows and outflows of the cash of an enterprise during that accounting year. As per Accounting Standard 3 (Revised) as issued by the Institute of Chartered Accountants of India (ICAI), ‘cash’ refers to the cash-in-hand, cash-at-bank and short-term investments (i.e., cash & cash equivalents). Therefore, a Cash Flow Statement exhibits various sources of cash and cash equivalents and their uses made by a concern during the particular accounting year. This statement shows the flows of cash and cash equivalents of a concern during an accounting year. A Cash Flow Statement is prepared on the basis of the published data as disclosed by the traditional Financial Statements (i.e., Income Statement and Balance Sheet) of two different accounting years. It summarizes all cash flows between the two accounting years. It is an essential tool for the managerial decision-making. Cash Flow Statement reports the management the net cash flow (i.e., cash inflow less the cash outflow or vice versa) from each activity of the enterprise as well as of the overall business of the enterprise. 2.4 RELATIONSHIP BETWEEN INCOME STATEMENT AND BALANCE SHEET Income Statement and the Balance Sheet, the two most important components of Financial Statements, are prepared under two different statements with two different objectives. While the Income Statement is prepared with a view to ascertain the net financial result for an accounting year from the operating and other activities of a concern, the Balance Sheet is prepared with a view to assess the financial position of the concern at the end of an accounting year. Yet, these two statements are closely related to each other. The relationship between them is explained as follows: Stock and flow relationship: In every business, there is a continuous flow of resources with the occurrences of transactions. These flows of resources are having two directions, such as inflows as well as outflows. Inflow of resources occurs as soon as the revenue is generated in the business by way of sale. On the other hand, the outflow of resources takes place when costs are incurred to generate revenue in the business. Income Statement and Balance Sheet reveal the flows and stock of these resources. Income Statement reveals the flows of resources that take place during an accounting year and ascertains the profit as excess of inflows over outflows of resources for that period. On the other hand, Balance Sheet exhibits the stock of resources possessed by a concern at the end of an accounting period. Complementary relationship: Although Income Statement and Balance Sheet provide different financial information to the users of Financial Statements, the truth is—either of the two statements alone cannot provide a full disclosure about the financial condition of a concern. On the one hand, Balance Sheet cannot be drawn without preparing the Income Statement. On the other hand, income

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statement alone discloses the results of the operating and other activities of a concern, but not the financial strength of the concern. Therefore, for a full disclosure of financial information of a concern, preparation of both—the Income Statement as well as the Balance Sheet—are essentially needed for every concern. As either of these two statements cannot provide a full financial information to the different users, these are complementary to each other to provide the full disclosure about the financial condition of a concern. Link relationship: Balance Sheet acts as a link between the Income Statements of successive accounting years. While the benefits that are derivable from the expenses incurred or income earned during an accounting year (i.e., revenue expenses or incomes) may be exhausted during that accounting year, the benefits that may not be exhausted during that accounting year (i.e., capital expenditures or incomes) may be carried forward to the subsequent accounting years. While such revenue expenses and incomes are considered in the Income Statement for that accounting year, those capital expenditures and incomes are carried forward through the Balance Sheet to the next accounting year. If the benefits derivable from those carried forward incomes and expenditures are exhausted during the next accounting year, those would be considered in the Income Statement for the next accounting year; if are not exhausted during the next accounting year, then the residual values of those unexpired expenses or incomes would appear in the Balance Sheet of the subsequent year and so on. Therefore, the Balance Sheet serves as a link between the Income Statements of the successive accounting years. 2.5 CONCEPT OF FINANCIAL STATEMENT ANALYSIS Financial Statement Analysis is an analysis which critically examines the relationship between various elements of the Financial Statements with a view to obtain the necessary and effective information from them. It is a process of scanning the Financial Statements for evaluating the relationship between the items as disclosed in them. According to John N. Myer, ‘Financial Statement Analysis is largely a study of relationships among the various financial factors in a business, as disclosed by a single set of statements, and study of these factors as shown in a series of statements.’ Therefore, Financial Statement Analysis involves a systematic and critical examination of the information contained in the Financial Statements with a view to provide an effective and more meaningful information to its different users. It is basically a postmortem of the transactional activities of an enterprise as disclosed in the Financial Statements so as to judge the operational ability, profitability, solvency, managerial efficiency and the overall performance of the enterprise more clearly. 2.6 OBJECTIVES OF FINANCIAL STATEMENT ANALYSIS Financial Statement Analysis is a very important and effective tool to the management of an enterprise. The objectives of a Financial Statement Analysis are as follows: i. To assess the real meaning and significance of financial data as disclosed in the Financial Statements. ii. To assess the liquidity and short-term solvency position of the enterprise. iii. To assess the long-term solvency position of the enterprise. iv. To assess the present and future profitability of the enterprise. v. To evaluate the operational efficiency of the enterprise. vi. To evaluate the managerial efficiency of the enterprise. vii. To assess the growth potentiality of the enterprise. viii. To evaluate the different activities of the concern. ix. To assess the financial stability of the enterprise. x. To assess the financial as well as the business risk of the concern. xi. To assess the overall performance of the concern.

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2.7 REQUISITES OF FINANCIAL STATEMENT ANALYSIS Financial Statement Analysis is done for many purposes. It may be done for a general purpose or for a specific purpose. Requisites for such Financial Statement Analysis are as follows: i. Study of internal and external environment: A financial analyst is required to be well acquainted with the internal as well as the external environment of the enterprise before commencing the analysis of its Financial Statements. For the said purpose, the internal environment refers to the employee morale, manager–subordinate relationship, corporate governance, relationship with customers and suppliers, structural change and so on. On the other hand, the external environment refers to applicable laws, competitors’ strength, customers’ profile, suppliers’ profile and so on. A study of these factors enables a financial analyst to make a better interpretation of the financial position and performance of the concern. ii. Objective of the analysis: A financial analyst should be well acquainted with the objectives of such analysis so that he can locate the area of his study. iii. Study of accounting procedure: The analyst should have a clear idea of the accounting procedures, principles and policies that are being followed by the enterprise. This helps the analyst to make an appropriate interpretation of the Financial Statements of the enterprise. iv. Rearrangement of financial data: Based on the objectives and the area of coverage of the analysis, the analyst should rearrange the primary financial data as extracted from the Financial Statements before commencing the analysis. v. Selection of techniques for analysis: The analyst should select the most appropriate tools and techniques for interpretation and analysis of Financial Statements. This enables the analyst to make an effective interpretation of the financial position and performance of the enterprise. vi. Interpretation of findings: The analyst should interpret his findings, those he gathered during the course of his analysis, in a lucid and effective manner so as to make them meaningful and easily understandable to the users of the Financial Statements. vii. Submission of report: The analyst must prepare a report on the basis of the interpretation of his findings which he gathered during the course of the analysis and submit the same before the management/ client for their controlling, planning and decision-making purposes. 2.8 DIFFERENT APPROACHES TO FINANCIAL STATEMENT ANALYSIS Generally, two approaches are followed for the analysis of Financial Statements. They are: i. Traditional approach to Financial Statement Analysis. ii. Modern approach to Financial Statement Analysis. These two approaches of Financial Statement Analysis are separately discussed as follows. 2.8.1 Traditional Approach to Financial Statement Analysis Traditional approach to Financial Statement Analysis is the conventional approach of financial analysis which came into existence at the end of the 19th century. This approach of analysis is based on the financial data contained in the Financial Statements. It takes into consideration the traditional Financial Statements comprising of the Income Statement and the Balance Sheet. Traditionally, financial ratios were used as the basic tool for assessing the financial position of the enterprise. For example, current ratio was widely used to assess the short-term solvency position of an entity. As soon as it was realised that current ratio alone cannot be a true indicator of the short-term solvency position of an entity, a more realistic measure was developed by way of introduction of ‘Acid-Test (or Quick or Liquid) Ratio’ for assessing the short-term solvency position of an entity. For measuring the profitability of a concern, this approach developed Gross Profit Ratio, Net Profit Ratio and so on. For measuring the long-term solvency position of the business, it developed Debt–Equity Ratio.

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Various turnover ratios were also developed for measuring various activities, efficiency, utilization of resources and managerial performance of the enterprise. Gradually, the traditional approach to Financial Statement Analysis further extended its scope by developing an inter-firm comparison of ratios and by accepting ‘industry average ratio’ as the standard ratio for evaluation of short-term solvency position, long-term solvency position, managerial efficiency and performance of the business. Traditional approach reached a landmark when it developed the concept of preparing ‘Common-size Financial Statements’ to study the comparison of various elements of Financial Statements. Recently, another development was made by the traditional approach to Financial Statement Analysis by introducing the Index Number Trend Analysis of Financial Statements. This analysis is used to study the Financial Statements of an enterprise over a series of years. In spite of the above development, the traditional approach does not give any emphasis on the social desirability factors like human resource, environmental issues and other external factors, in the Financial Statements. Though this approach ignores non-financial items, it considers financial items alone for the purpose of Financial Statement Analysis. 2.8.2 Modern Approach to Financial Statement Analysis Modern approach to Financial Statement Analysis has been introduced in order to overcome the various limitations of the traditional approach. This approach gives emphasis on both financial as well as non-financial factors of the Financial Statements. It includes social desirability factors in the corporate Financial Statements. In this approach of Financial Statement Analysis, both internal as well as external environmental factors of the business are taken into consideration. It incorporates various non-financial factors such as employee morale, applicable regulations, relationship with customers and suppliers, business risk and financial risk involved with the concern, and competitive environment. Modern approach to Financial Statement Analysis is a forward-looking phenomenon. Accordingly, it gives more emphasis on future. It provides relevant and effective information for future decision-making. It processes past and present information as disclosed in the Financial Statements to make the prediction on the future issues of the concern. This analysis uses modern statistical and mathematical tools and techniques for interpretation of Financial Statements. Under this analysis, conclusions are made after empirical verification. It provides all the necessary information as regards to short-term- as well as long-term financial condition of the concern to all users. 2.9 TYPES OF FINANCIAL STATEMENT ANALYSIS Analysis of Financial Statements can be made on different basis. Different types of Financial Statement Analysis are shown in Figure 2.2. Types of Financial Statement Analysis

From the viewpoint of its users

Internal analysis

External analysis

Figure 2.2

From the viewpoint of its objectivity

Short-term analysis

Long-term analysis

From the viewpoint of time span

Horizontal/dynamic analysis

Vertical/static analysis

Types of Financial Statement Analysis

i. From the viewpoint of its users: From the viewpoint of the users of the Financial Statements, analysis of such may be of two types as the following: a. Internal Analysis: As the management of an enterprise has the right to access its books and accounts (i.e., internal sources), such an analysis is done by the management of the enterprise. As such an analysis is based on the factual data recorded in the books of accounts, it provides a reliable and dependable information of the enterprise to the users.

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b. External Analysis: Such an analysis is done by the external parties, like creditors, investors, bankers, government and research scholars, who do not have any access to the internal books and accounts of the enterprise. Accordingly, such an analysis is based on the published reports and statements of the enterprise. ii. From the viewpoint of its objectivity: From the viewpoint of the users of the Financial Statements, analysis of Financial Statements may be of two types: a. Short-term Analysis: Such an analysis of Financial Statements is done to examine liquidity, profitearning capacity and short-term solvency of an enterprise. This analysis is made taking into account the various elements of Current Assets and Current Liabilities with a view to judge the short-term financial position of the enterprise. It is very much useful for the short-term financial planning. b. Long-term Analysis: Such an analysis of Financial Statements is done to examine the long-term financial stability and long-term solvency as well as the future profit-earning capacity of an enterprise. This analysis is made taking various items of long-term assets and liabilities with a view to judge long-term financial position of the enterprise. It is very much useful for long-term financial planning. iii. From the viewpoint of time span: From the viewpoint of the users of the Financial Statements, analysis of Financial Statements may be of two types: a. Vertical/Static Analysis: Such an analysis is done to examine the Financial Statements of one particular year alone of an enterprise. Therefore, this analysis is based on the financial data of one accounting year alone; and that is why, it is also called as ‘static analysis.’ It presents the structural relationship of different items contained in the Financial Statements. Accounting ratios and Common-size Statements are two tools that are generally used for this analysis. b. Horizontal/Dynamic Analysis: Such an analysis is done to examine the Financial Statements of a number of years of an enterprise. Therefore, this analysis is based on the financial data of several accounting years; and that is why it is also called ‘dynamic analysis.’ It is a time-series analysis of the data contained in the Financial Statements. It indicates the growth of the enterprise over a number of years by a comparative time-series analysis. Comparative Financial Statements and TrendPercentage Analysis are two tools that are commonly used for this analysis. 2.10 TECHNIQUES/TOOLS OF FINANCIAL STATEMENT ANALYSIS Techniques of Financial Statement Analysis can be defined as the tool or method of analysing Financial Statements, evaluating its performance, and identifying the strength and weakness of the enterprise by interpreting the results and taking corrective measures. These methods would help the analyst to present the information from the Financial Statements in such a form that would help the users to understand the core areas of the functioning of the business of an enterprise. There are several techniques or tools which are generally used for analysing the Financial Statements, but none of them alone are sufficient for interpreting the overall performance of the enterprise and for decision-making as well. Rather, a combination of few techniques is generally used for an effective interpretation and analysis of the overall performance of the enterprise. Various techniques that are used for interpretation and analysis of Financial Statements are shown as follows: i. Comparative Financial Statement. ii. Common-size Statement. iii. Trend Analysis. iv. Ratio Analysis. v. Cash Flow Statement. vi. Fund Flow Statement. vii. Working Capital Analysis. viii. Cost–Volume–Profit Analysis. In this chapter, we shall study in detail the first three methods alone of the above-mentioned Financial Statement Analysis.

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2.11 COMPARATIVE FINANCIAL STATEMENT ANALYSIS 2.11.1 Concept of Comparative Financial Statement Analysis Comparative Financial Statement Analysis is a form of horizontal analysis where the Financial Statements of two or more years, or of two or more different companies, or of a company and its industry, are compared, analysed and interpreted. That is why, this technique of analysis is also called ‘inter-period analysis’ (when the Financial Statements of two or more years are taken into consideration) or ‘inter-firm analysis’ (when Financial Statements of two or more companies are taken into consideration). The two most commonly used forms of such analysis are: i. Comparative Balance Sheet. ii. Comparative Income Statement. In case of inter-period analysis, it should be kept in mind that uniformity in accounting concepts and conventions is maintained during all the years that are taken into consideration for comparison. On the other hand, in case of inter-firm analysis, the size of the firms taken into consideration for comparison must be more or less the same; as otherwise, meaningful conclusions cannot be drawn. To have more accurate results, external factors like market conditions and business risk should also be considered. Under year-to-year change analysis, all the elements of a Balance Sheet or Income Statement are compared and absolute changes as well as the percentage changes are calculated on the basis of the previous year as the base year. The changes in Fixed Assets, investments, Current Assets, proprietors’ fund and Current Liabilities are compared to determine the long-term solvency position of the firm and growth of the firm. From the Comparative Income Statement, we are able to know the absolute and percentage changes in the Gross Profit, Operating Profit and Net Profit. (A) Comparative statement exhibits the following pertinent information: i. Absolute figures for two or more years of the items appearing in the Financial Statements (i.e., in the Balance Sheet and in the Income Statement). ii. Changes in the above absolute figures of the current year as compared to the previous year is taken as the base year (or firm-wise changes). iii. Percentage changes in the absolute figures of the current year on the basis of the base year (or percentage of the firm-wise changes). Illustration Say, the debtors and stock of a company as on 31 December 2008 are Rs. 50,000 and Rs. 90,000, respectively, and as on 31 December 2009 are Rs. 60,000 and Rs. 75,000, respectively. Then, the Comparative Balance Sheet would exhibit the following: Absolute Figure 2008 (Rs.) 2009 (Rs.) Debtors Stock

50,000 90,000

Changes in Absolute Figure (Rs.)

% Changes

10,000 (15,000)

20 (16.67)

60,000 75,000

% change in the absolute figure is calculated in the following manner: % change =

Change in the absolute figure × 100 Absolute figure in the base year

% change in Debtors = 10,000 ÷ 50,000 × 100 = 20% % change in Stock =15,000 ÷ 90,000 × 100 = 16.67%

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2.11.2 Advantages of Comparative Financial Statement Analysis i. Changes in the components of assets and liabilities can easily be known at a glance through a Comparative Balance Sheet. ii. Comparative Income Statements identify the trend of changes in sales, Gross Profit, Operating Profit and Net Profit. iii. Inter-firm comparison helps the management to evaluate the performance of the firm in relation to other firms in the same industry. Thus, the management can identify the strength and weakness of the firm and can adopt appropriate corrective measures too. iv. Helps to determine the long- and short-term solvency position of the firm. v. Trend of changes in the working capital, capital employed and proprietors’ fund can be easily known. 2.11.3 Disadvantages of Comparative Financial Statement Analysis i. When a particular item of Financial Statements does not appear in the base year but appears in the current year alone, then the meaningful computation of percentage change in the absolute figure of that item cannot be done. ii. Comparative analysis cannot exhibit a meaningful disclosure when uniformity in accounting concepts and conventions is not maintained over the years under analysis. iii. Such comparison becomes meaningless when the sizes of the firms differ. iv. Comparative analysis might express misleading disclosure if certain external factors like market conditions and business risk are not taken into consideration. v. It does not take into account the effect of changes in the price level. 2.12 COMMON-SIZE FINANCIAL STATEMENT ANALYSIS 2.12.1 Concept of Common-size Financial Statement Analysis Through horizontal or comparative analysis of Financial Statements, a comparative study of different items or elements of Financial Statements of two or more years can be made, but the relative position of each item of the Financial Statements cannot be known. To study the relative significance of every item in the Financial Statements, a vertical analysis is proved to be very much effective. An important tool to such analysis is the ‘Common-size Statements.’ There are two forms of such statements: i. Common-size Income Statement. ii. Common-size Balance Sheet. These statements are termed as Common-size as each item in such statements is represented as a percentage of one chosen base item. More clearly, every item as appearing in such Income Statement is represented as a percentage of a base item. In case of Common-size Income Statement, generally, net sales is considered as the base item. Accordingly, net sales is taken as 100 and the other items in the Income Statement are expressed as a percentage of the said net sales. On the other hand, in case of Common-size Balance Sheet, generally, the total of the Balance Sheet is considered as the base item. Accordingly, the total of the Balance Sheet is taken as 100 and all the elements of the Balance Sheet are expressed as the percentage of the said total of the Balance Sheet. A Common-size Statement exhibits the following pertinent information: i. Absolute figures of the items appearing in the Financial Statements of two or more years or two or more firms. ii. Percentage figure of every item in the Financial Statements as a percentage of the pre-selected base item.

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Illustration Say, Sales, Cost of Goods Sold, operating expenses and non-operating expenses of X Ltd for the year that ended on 31 December 2009 are Rs. 5,00,000, Rs. 3,00,000, Rs. 1,00,000 and Rs. 50,000 respectively, and those of Y Ltd for the year that ended on 31 December 2009 are Rs. 4,00,000, Rs. 2,80,000, Rs. 40,000 and Rs. 40,000 respectively. Then, the Common-size Income Statement for the year that ended on 31 December 2009 of X Ltd and Y Ltd would exhibit the following:

Less: Less: Less:

Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Non-operating Expenses Net Profit

Absolute Figures X Ltd (Rs.) Y Ltd (Rs.) 5,00,000 4,00,000 3,00,000 2,80,000 2,00,000 1,20,000 1,00,000 40,000 1,00,000 80,000 50,000 40,000 50,000 40,000

% of Sales X Ltd Y Ltd 100 100 60 70 40 30 20 10 20 20 10 10 10 10

% figures of the absolute figures are calculated in the following manner: Here, sales are considered as the base item and taken at 100. In case of X Ltd, Sales = Rs. 5,00,000 (which is considered as 100) % of the Cost of Goods Sold (as a percentage on sales) = 3,00,000 ÷ 5,00,000 × 100 = 60% % of the operating expenses (as a percentage on sales) = 1,00,000 ÷ 5,00,000 × 100 = 20%, and so on 2.12.2 Advantages of Common-size Statement i. It exhibits a relative significance of every item in the Financial Statements in percentage terms of its base figure. ii. In Common-size Income Statement, all items are converted in the percentage terms of sales. Such conversion helps the firm to ascertain how much portion of its sales is used up in cost of sales, operating expenses, interest and tax. iii. In a Common-size Balance Sheet, every item is presented in terms of the total of assets or liabilities, which helps an analyst to know how much percentage of total asset has been apportioned between the current and fixed asset and so on and how much percentage of the total liabilities is payable to the owners and the outsiders. iv. Nature of capital structure can be known at a glance, that is, the proportion of own capital and debt capital in total capital structure. v. It makes the inter-company comparison easier. It facilitates the comparison of firms with different sizes. vi. It helps to know the short- and long-term financial position of an enterprise. 2.12.3 Disadvantages of Common-size Statement i. Under this statement, the relative importance of each component of Financial Statements, on the whole, is exhibited, but no comparative study is done between the years. ii. In such statement, the time value of money is not considered. iii. This analysis does not prove to be very useful for any important decision-making. iv. It does not provide any meaningful disclosure while comparing the Common-size Statements of two or more years. v. It is not useful when it comes to making any segment-wise analysis.

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2.12.4 Comparative Statement vs. Common-size Statement Comparative Statement 1. It is a form of horizontal analysis. 2. It is a comparison of different elements of Financial Statements between two or more years. 3. It fails to exhibit the relative importance of an individual component in the total. 4. Changes in values of different items in two different years are shown both in absolute as well as percentage terms. 5. It facilitates both intra- as well as inter-firm comparison. 6. It is very popular technique of Financial Statement Analysis.

Common-size Statement 1. It is a form of vertical analysis. 2. It is a comparison of different elements of Financial Statements with one chosen base item in the same year. 3. It shows the relative importance of each item of such statement in the total. 4. Changes in values of different items are shown as a percentage of a base item. 5. It mainly facilitates inter-firm comparison only. 6. It is not so popular when compared with comparative statement.

2.13 TREND ANALYSIS 2.13.1 Concept of Trend Analysis Trend Analysis is a form of comparative analysis of Financial Statements between two or more years. It indicates the trend of an individual item of the Financial Statements over a period of time. It helps to analyse the trend of each such item and thus, helps the management in the process of present and future policy-making. It is a useful tool for inter-firm comparison. When year-to-year change analysis of a comparative statement becomes cumbersome, more meaningful long-term trend comparison is done through Trend Analysis. 2.13.2 Steps in Computing Trend Values (or Percentages) i. A year (generally, a normal year, that is, a year where no abnormal incident has occurred) is chosen as the base year and the figures as appearing in the Financial Statements of that year are assigned as 100. ii. Necessary adjustments for price level should be made in the figures of other years when compared to this base year. iii. Now, trend percentages are to be computed in the following manner: Trend percentage =

Current year’s figure × 100 Base year’s figure

iv. Conclusion is then to be drawn studying the trend patterns of various items and also taking into account the absolute values of the concerned items. 2.13.3 Advantages of Trend Analysis i. Trend Analysis helps in analysing the growth in the financial activities of the firm at a glance. ii. Graphical presentation of trend line helps the management to take a quick decision on the concerned issue. iii. Trend values not only help the management in any important decision-making but in the controlling process as well. iv. Trend Analysis proves to be very useful for taking rational investment decisions. 2.13.4 Disadvantages of Trend Analysis i. Choosing of the base year is a difficult task. ii. It is not easy to identify the impact of inflation on the trend data and thus, the result might be misleading. iii. Changes in market conditions are not considered in Trend Analysis.

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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MANAGEMENT ACCOUNTING

Tutorial Notes to Students for Solving Problems i. For preparing a Comparative Balance Sheet, firstly take the absolute figures of the items appearing in the given Balance Sheets of both the years under two separate columns. Thereafter, calculate the increase or decrease in the absolute figures (i.e., the Absolute Change) of every item and write the said changes in a separate column. Then, calculate the percentage change in absolute figures on the basis of the base year’s figures under a separate column. ii. For preparing a Comparative Income Statement, firstly take the absolute figures of the items appearing in the given Income Statements of both the years under two separate columns. Thereafter, calculate the increase or decrease in the absolute figures (i.e., the absolute change) of every item and write the said changes in a separate column. Then, calculate the percentage change in the absolute figures on the basis of the base year’s figures under a separate column. iii. For preparing a Common-size Balance Sheet, firstly take the absolute figures of the items appearing in the given Balance Sheets of both the years (or companies) under two separate columns. Then, calculate the percentage of each absolute figure in the given Balance Sheets on the basis of the respective Balance Sheet Total of each year (or company), considering each Balance Sheet Total as 100. iv. For preparing a Common-size Income Statement, firstly take the absolute figures of the items appearing in the given Income Statements of both the years (and companies) under two separate columns. Then, calculate the percentage of each absolute figure of the given Income Statements on the basis of the respective sales figure of each year (or company), considering each Sales Figure as 100. v. For calculating the Trend Percentage of an item in the Financial Statements, firstly arrange the years chronologically with the corresponding absolute figures of the item taken into consideration. In this arrangement, the base year with the corresponding absolute figure of the given item is to be arranged first. Trend percentage of this base year is to be taken at 100. Then, the trend percentages of the absolute figures of the other years are to be calculated on the basis of the trend percentage of the base year in the following manner: Trend percentage of the other years =

Absolute figure of the other year × 100 Absolute figure of base year

2.14 WORKED-OUT PROBLEMS Problem 1 From the following Balance Sheet of New India Ltd, prepare a Comparative Balance Sheet: Liabilities Share Capital Reserves Debentures

2004 Rs. 30,000 12,000 60,000 1,02,000

2005 Rs. 60,000 10,000 60,000 1,30,000

Assets Fixed Assets Debtors Bank

2004 Rs. 80,000 10,000 12,000 1,02,000

2005 Rs. 1,02,000 20,000 8,000 1,30,000

[B.Com. (Hons), Calcutta University—2007] Solution Comparative Balance Sheet of New India Ltd as on 31 December 2004 and 31 December 2005 31 December 2004 Rs. Sources of Fund: (A) Proprietors’ Fund: Share Capital

31 December 2005 Rs.

30,000

60,000

Absolute Change Rs.

30,000

% Change

100.00 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Reserves Less:

Miscellaneous Expenditure

(B) Loan Fund: Debentures Total (A + B) Applications of Fund: (C) Fixed Assets (D) Working Capital: Current Assets, Loans & Advances: Debtors Bank Total (E) Less: Current Liabilities & Provisions Total (F) D=E−F Total (C + D)

31 December 2004 Rs. 12,000 42,000 Nil 42,000

31 December 2005 Rs. 10,000 70,000 Nil 70,000

Absolute Change Rs. (2,000) 28,000 Nil 28,000

60,000 1,02,000

60,000 1,30,000

Nil 28,000

Nil 27.45

80,000

1,02,000

22,000

27.50

10,000 12,000 22,000 Nil Nil 22,000 1,02,000

20,000 8,000 28,000 Nil Nil 28,000 1,30,000

10,000 (4,000) 6,000 Nil Nil 6,000 28,000

100.00 (33.33) 27.27 Nil Nil 27.27 27.45

% Change (16.67) 66.67 Nil 66.67

Alternative Solution Comparative Balance Sheet of New India Ltd as on 31 December 2004 and 31 December 2005

(a) Fixed Assets (b) Current Assets, Loans and Advances: Debtors Bank Total Assets (a + b) (c) Proprietors’ Fund: Share Capital Reserves Less:

Miscellaneous Expenditure

(d) Loan Fund: Debentures (e) Current Liabilities & Provisions Total Liabilities (c + d + e)

31 December 2004 Rs. 80,000

31 December 2005 Rs. 1,02,000

Absolute Change Rs. 22,000

10,000 12,000 22,000 1,02,000

20,000 8,000 28,000 1,30,000

10,000 (4,000) 6,000 28,000

100.00 (33.33) 27.27 27.45

30,000 12,000 42,000 Nil 42,000

60,000 10,000 70,000 Nil 70,000

30,000 (2,000) 28,000 Nil 28,000

100.00 (16.67) 66.67 Nil 66.67

60,000 Nil 1,02,000

60,000 Nil 1,30,000

Nil Nil 28,000

Nil Nil 27.45

% Change 27.50

Problem 2 From the following figures of the Balance Sheet of X & Co., prepare a comparative Balance Sheet: Particulars Equity Share Capital Preference Share Capital 10% Debentures

1 January 2007 (Rs.) 4,00,000 2,00,000 1,50,000

1 January 2008 (Rs.) 5,00,000 1,00,000 1,00,000 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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MANAGEMENT ACCOUNTING

Particulars

1 January 2007 (Rs.) 40,000 2,00,000 2,20,000 5,70,000 2,80,000 80,000

Reserves & Surplus Long-term Loan Investment Fixed Assets Current Assets Current Liabilities

1 January 2008 (Rs.) 70,000 3,00,000 2,50,000 6,30,000 3,10,000 1,20,000

[B.Com. (Hons), Calcutta University—2009] Solution Comparative Balance Sheet of X & Co. as on 01 January 2007 and 01 January 2008

Sources of Fund: (A) Proprietors’ Fund: Equity Share Capital Preference Share Capital Reserves & Surplus Less:

Miscellaneous Expenditure

(B) Loan Fund: 10% Debentures Long-term Loans Total (A + B) Applications of Fund: (C) Fixed Assets (D) Investments (E) Working Capital: Current Assets Less: Current Liabilities Total (C + D + E)

1 January 2007 Rs.

1 January 2008 Rs.

Absolute Change Rs.

4,00,000 2,00,000 40,000 6,40,000 Nil 6,40,000

5,00,000 1,00,000 70,000 6,70,000 Nil 6,70,000

1,00,000 (1,00,000) 30,000 30,000 Nil 30,000

25 (50) 75 4.69 Nil 4.69

1,50,000 2,00,000 9,90,000

1,00,000 3,00,000 10,70,000

(50,000) 1,00,000 80,000

(33.33) 50 8.08

5,70,000 2,20,000

6,30,000 2,50,000

60,000 30,000

10.53 13.64

2,80,000 80,000 2,00,000 9,90,000

3,10,000 1,20,000 1,90,000 10,70,000

30,000 40,000 (10,000) 80,000

10.71 50 (5) 8.08

% Change

Problem 3 Following are the Balance Sheets of Rawdon Ltd as on 31 March 2008 and 31 March 2009: Liabilities Equity Share Capital Reserves & Surplus Secured Loan Current Liabilities

31 March 2008 Rs. 2,50,000 1,25,000 2,50,000 2,75,000

31 March 2009 Rs. 4,00,000 2,00,000 3,50,000 50,000

9,00,000

10,00,000

Assets Fixed Assets Investment Stock Debtors Other Current Assets

31 March 2008 Rs. 5,00,000 20,000 3,00,000 50,000 30,000 9,00,000

31 March 2009 Rs. 7,00,000 50,000 2,00,000 20,000 30,000 10,00,000

Prepare a Comparative Balance Sheet and interpret the financial position of the company.

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Solution Comparative Balance Sheet of Rawdon Ltd as on 31 March 2008 and 31 March 2009

Sources of Fund: (A) Proprietors’ Fund: Equity Share Capital Reserves & Surplus Less:

Miscellaneous Expenditure

(B) Loan Fund: Secured Loan Total (A + B) Applications of Fund: (C) Fixed Assets (D) Investments (E) Working Capital: Current Assets, Loans & Advances: Stock Debtors Other Current Assets Total (F) Less: Current Liabilities & Provisions: Current Liabilities Total (G) E=F−G Total (C + D + E)

31 March 2008 Rs.

31 March 2009 Rs.

Absolute Change Rs.

% Change

2,50,000 1,25,000 3,75,000 Nil 3,75,000

4,00,000 2,00,000 6,00,000 Nil 6,00,000

1,50,000 75,000 2,25,000 Nil 2,25,000

60 60 60 Nil 60

2,50,000 6,25,000

3,50,000 9,50,000

1,00,000 3,25,000

40 52

5,00,000 20,000

7,00,000 50,000

2,00,000 30,000

40 150

3,00,000 50,000 30,000 3,80,000

2,00,000 20,000 30,000 2,50,000

(1,00,000) (30,000) Nil (1,30,000)

(33.33) (60) Nil (34.21)

2,75,000 2,75,000 1,05,000 6,25,000

50,000 50,000 2,00,000 9,50,000

(2,25,000) (2,25,000) 95,000 3,25,000

(81.82) (81.82) 90.48 52

Alternative Solution Comparative Balance Sheet of Rawdon Ltd as on 31 March 2008 and 31 March 2009

(a) Fixed Assets (b) Investments (c) Current Assets, Loans & Advances: Stock Debtors Other Current Assets Total Assets (a + b + c) (d) Proprietors’ Fund: Equity Share Capital Reserves & Surplus Less:

Miscellaneous Expenditure

(e) Loan Fund: Secured Loan

31 March 2008 Rs. 5,00,000 20,000

31 March 2009 Rs. 7,00,000 50,000

Absolute Change Rs. 2,00,000 30,000

3,00,000 50,000 30,000 3,80,000 9,00,000

2,00,000 20,000 30,000 2,50,000 10,00,000

(1,00,000) (30,000) Nil (1,30,000) 1,00,000

2,50,000 1,25,000 3,75,000 Nil 3,75,000

4,00,000 2,00,000 6,00,000 Nil 6,00,000

1,50,000 75,000 2,25,000 Nil 2,25,000

2,50,000

3,50,000

1,00,000

% Change 40 150 (33.33) (60) Nil (34.21) 11.11 60 60 60 Nil 60 40 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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MANAGEMENT ACCOUNTING

(f ) Current Liabilities & Provisions: Current Liabilities Total Liabilities (d + e + f)

31 March 2008 Rs.

31 March 2009 Rs.

Absolute Change Rs.

2,75,000 9,00,000

50,000 10,00,000

(2,25,000) 1,00,000

% Change

(81.82) 11.11

Comments on the Financial Position i. Proprietors’ fund has been increased more (by 60%) than the increase in the loan fund (by 40%) in the current year. It shows that the long-term solvency position of the company has improved during the current year. ii. Investments in Fixed Assets, Working Capital and outside the business—all are remarkably increased during the current year out of the increase in the capital employed in the business during the current year. It shows a sign of growth and prosperity of the company over the years. iii. As the Net Working Capital of the business has been increased a lot (by 90.48%), it indicates a sign of shortterm solvency of the company. iv. Overall financial condition of the business is very sound and it possesses the sign of growth potentiality.

Problem 4 Balance Sheets of Star Ltd for the years that ended on 31 December 2006 and 31 December 2007 are as follows: Liabilities Equity Share Capital 10% Preference Share Capital General Reserve 15% Debentures Creditors Bills Payable Tax Payable

31 December 2006 Rs. 8,00,000 6,00,000 4,00,000 2,00,000 3,00,000 1,00,000 2,00,000 26,00,000

31 December 2007 Rs. 8,00,000 6,00,000 4,90,000 3,00,000 4,00,000 1,50,000 3,00,000 30,40,000

Assets Building Land Plant Furniture Stock Debtors Cash

31 December 2006 Rs. 6,00,000 2,00,000 6,00,000 2,00,000 4,00,000 4,00,000 2,00,000 26,00,000

31 December 2007 Rs. 5,40,000 2,00,000 5,40,000 2,80,000 6,00,000 6,00,000 2,80,000 30,40,000

Prepare a Comparative Balance Sheet in a vertical form and offer your comments in brief on Fixed Assets. [B.Com. (Hons), Mumbai University—April 2008] Solution Comparative Balance Sheet of Star Ltd as on 31 December 2006 and 31 December 2007

Sources of Fund: (A) Proprietors’ Fund: Equity Share Capital 10% Preference Share Capital Reserves & Surplus: General Reserve

31 December 2006 Rs.

31 December 2007 Rs.

Absolute Change Rs.

% Change

8,00,000 6,00,000

8,00,000 6,00,000

Nil Nil

Nil Nil

4,00,000

4,90,000

90,000

22.5 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

29

ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Less:

Miscellaneous Expenditure

(B) Loan Fund: 15% Debentures Total (A + B) Applications of Fund: (C) Fixed Assets: Building Land Plant Furniture (D) Investments (E) Working Capital: Current Assets, Loans & Advances: Stock Debtors Cash Total (F) Less: Current Liabilities & Provisions: Creditors Bills Payable Tax Payable Total (G) E=F−G Total (C + D + E)

31 December 2006 Rs. 18,00,000 Nil 18,00,000

31 December 2007 Rs. 18,90,000 Nil 18,90,000

Absolute Change Rs. 90,000 Nil 90,000

2,00,000 20,00,000

3,00,000 21,90,000

1,00,000 1,90,000

50 9.50

6,00,000 2,00,000 6,00,000 2,00,000 16,00,000 Nil

5,40,000 2,00,000 5,40,000 2,80,000 15,60,000 Nil

(60,000) Nil (60,000) 80,000 (40,000) Nil

(10) Nil (10) 40 (2.5) Nil

4,00,000 4,00,000 2,00,000 10,00,000

6,00,000 6,00,000 2,80,000 14,80,000

2,00,000 2,00,000 80,000 4,80,000

50 50 40 48

3,00,000 1,00,000 2,00,000 6,00,000 4,00,000 20,00,000

4,00,000 1,50,000 3,00,000 8,50,000 6,30,000 21,90,000

1,00,000 50,000 1,00,000 2,50,000 2,30,000 1,90,000

33.33 50 50 41.67 57.50 9.50

% Change 5 Nil 5

Comment on the Fixed Assets The total investment in the Fixed Assets has come down (by 2.5%) during the current year. This happens due to a fall in the book values of Building and Plant, may be due to depreciation or sale, though the investment in furniture has been substantially increased (by 40%) during the current year. Although the total capital employed in the business has been increased (by 9.5%) during the current year, such an increase in the capital has not been invested in the Fixed Assets.

Problem 5 From the following information, prepare a Comparative Balance Sheet of Rezala Ltd as on 31 March 2008 and 31 March 2009 and interpret the financial position of the company: Liabilities Equity Shares of Rs. 100 each 12% Preference Shares of Rs. 100 each Statutory Reserve Profit & Loss A/c

31 March 2008 Rs. in ’000 800 300 50 50

31 March 2009 Rs. in ’000 900 200 50 30

Assets Land & Building Plant & Machinery Investment Stock

31 March 2008 Rs. in ’000 550 350 150 350

31 March 2009 Rs. in ’000 500 300 50 250 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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MANAGEMENT ACCOUNTING

31 March 2008 Rs. in ’000 150 170 60 270 150 2,000

Liabilities Revaluation Reserve General Reserve 10% Debentures (Rs. 100 each) Sundry Creditors Bills Payable

31 March 2009 Rs. in ’000 100 150 30 120 70 1,650

Assets Sundry Debtors Bills Receivable Cash at Bank

31 March 2008 Rs. in ’000 250 50 300

31 March 2009 Rs. in ’000 300 50 200

2,000

1,650

Solution Comparative Balance Sheet of Rezala Ltd as on 31 March 2008 and 31 March 2009

Sources of Fund: (A) Proprietors’ Fund: Equity Share Capital 12% Preference Share Capital Reserves & Surplus: Revaluation Reserve General Reserve Statutory Reserve Profit & Loss A/c Less:

Miscellaneous Expenditure

(B) Loan Fund: 10% Debentures Total (A + B) Applications of Fund: (C) Fixed Assets: Land & Building Plant & Machinery (D) Investment (E) Working Capital: Current Assets, Loans & Advances: Stock Sundry Debtors Bills Receivable Cash and Bank Total (F) Less: Current Liabilities & Provisions: Sundry Creditors Bills Payable Total (G) E=F−G Total (C + D + E)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

31 March 2008 Rs.

31 March 2009 Rs.

Absolute Change Rs.

% Change

800 300

900 200

100 (100)

12.50 (33.33)

150 170 50 50 1520 – 1520

100 150 50 30 1430 – 1430

(50) (20) – (20) (90) – (90)

(33.33) (11.76) – (40) (5.92) – (5.92)

60 1580

30 1460

(30) (120)

(50) (7.59)

550 350 900 150

500 300 800 50

(50) (50) (100) (100)

(9.09) (14.29) (11.11) (66.67)

350 250 50 300 950

250 300 50 200 800

(100) 50 – (100) (150)

(28.57) 20 – (33.33) (15.79)

270 150 420 530 1,580

120 70 190 610 1,460

(150) (80) (230) 80 (120)

(55.56) (53.33) (54.76) 15.09 (7.59)

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Comments on the Financial Position i. The total capital employed in the business has been reduced (by 7.59%) during the current year, as a result of which the investments in the Fixed Assets and outside the business have been reduced. It seems that the company has used the proceeds received from the new issue of equity share to finance the redemption of preference shares. ii. Working Capital of the company has been slightly increased during the current year. iii. The financial position of the company seems to be deteriorating as the total capital employed in the business has been reduced in the current year accompanied by a reduction in the value of Fixed Assets and Current Assets.

Problem 6 From the following information of Lawdon Ltd for the years that ended on 31 March 2008 and 31 March 2009, prepare a Comparative Balance Sheet as on 31 March 2008 and 31 March 2009 and interpret the financial position of the company: Liabilities Equity Share Capital General Reserve Sundry Creditors Bills Payable Outstanding Expenses

31 March 2008 Rs. 5,00,000 40,000 2,40,000 50,000

31 March 2009 Rs. 6,00,000 50,000 70,000 25,000

50,000

–

8,80,000

7,45,000

Assets Land & Building Plant & Machinery Investment Stock Debtors Bills Receivable Profit & Loss A/c Discount on Issue of Shares

31 March 2008 Rs. 2,00,000 1,50,000 2,97,000 40,000 50,000 63,000 70,000 10,000 8,80,000

31 March 2009 Rs. 1,00,000 2,00,000 2,00,000 30,000 50,000 1,00,000 60,000 5,000 7,45,000

Solution Comparative Balance Sheet of Lawdon Ltd as on 31 March 2008 and 31 March 2009

Sources of Fund: (A) Proprietors’ Fund: Equity Share Capital General Reserve Less:

Miscellaneous Expenditure: Profit & Loss A/c (Dr.) Discount on Issue of Shares

(B) Loan Fund Total (A + B) Applications of Fund: (C) Fixed Assets: Land & Building Plant & Machinery

31 March 2008 Rs.

31 March 2009 Rs.

Absolute Change Rs.

% Change

5,00,000 40,000 5,40,000

6,00,000 50,000 6,50,000

1,00,000 10,000 1,10,000

20 25 20.37

70,000 10,000 4,60,000 Nil 4,60,000

60,000 5,000 5,85,000 Nil 5,85,000

(10,000) (5,000) 1,25,000 Nil 1,25,000

(14.29) (50) 27.17 Nil 27.17

2,00,000 1,50,000 3,50,000

1,00,000 2,00,000 3,00,000

(1,00,000) 50,000 (50,000)

(50) 33.33 (16.67) (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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MANAGEMENT ACCOUNTING

(D) Investments (E) Working Capital: Current Assets, Loans and Advances: Stock Debtors Bills Receivable Total (F) Less: Current Liabilities and Provisions: Sundry Creditors Bills Payable Outstanding Expenses Total (G) E=F−G Total (C + D + E)

31 March 2008 Rs. 2,97,000

31 March 2009 Rs. 2,00,000

Absolute Change Rs. (97,000)

40,000 50,000 63,000 1,53,000

30,000 50,000 1,00,000 1,80,000

(10,000) Nil 37,000 27,000

(25) Nil 58.73 17.65

2,40,000 50,000 50,000 3,40,000 (1,87,000) 4,60,000

70,000 25,000 Nil 95,000 85,000 5,85,000

(1,70,000) (25,000) (50,000) (2,45,000) 2,72,000 1,25,000

(70.83) (50) (100) (72.06) 145.45 27.17

% Change (32.66)

Comments on the Financial Position i. The total capital employed in the business has been increased (by 27.17%) during the current year, but the major portion of which has been invested in Current Assets and plant and machinery. ii. Investments in the other Fixed Assets and outside the business have been substantially reduced during the current year. iii. Working Capital of the company has been remarkably increased (by 145.45%) during the current year due to a remarkable decrease in the Current Liabilities and an increase in the Bills Receivable, which indicates a good sign of short-term solvency of the business. iv. The entire capital employed in the business represents the owner’s capital and no debt capital. Although this indicates a sign of total long-term solvency of the company, it fails to take advantage of trading on equity due to the total absence of debt capital in the capital structure. v. The financial position of the company is sound enough, but it is operating with the owner’s capital only.

Problem 7 From the following information, prepare a Comparative Income Statement: 2004 4,00,000 2,40,000 1,20,000

Sales Cost of Goods Sold Operating Expenses

2005 5,00,000 3,50,000 1,80,000

[B.Com. (Hons), Calcutta University—2006] Solution Comparative Income Statement of _______________ for the years that ended on 31 December 2004 and 31 December 2005

Less:

Sales Cost of Goods Sold Gross Profit

2004 Rs. 4,00,000 2,40,000 1,60,000

2005 Rs. 5,00,000 3,50,000 1,50,000

Absolute Change Rs. 1,00,000 1,10,000 (10,000)

% Change 25 45.83 (6.25) (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

33

ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Less: Less:

2004 Rs. 1,20,000 40,000 Nil 40,000

Operating Expenses Operating Profit Non-operating Expense Net Profit / Net Loss

2005 Rs. 1,80,000 (30,000) Nil (30,000)

Absolute Change Rs. 60,000 (70,000) Nil (70,000)

% Change 50 (175) Nil (175)

Problem 8 From the following information of Jodha Ltd, prepare a Comparative Income Statement for the years that ended on 31 December 2008 and 31 December 2009:

Less:

2008 Rs. 1,00,000 70,000 30,000 5,000 6,000 19,000 1,000 5,000 13,000

Net Sales Cost of Goods Sold

Less:

Office & Administration Expenses Selling & Distribution Expenses

Less:

Interest Paid Tax Paid

2009 Rs. 1,10,000 75,000 35,000 7,000 5,000 23,000 2,000 6,000 15,000

Solution Comparative Income Statement of Jodha Ltd for the years that ended on 31 December 2008 and 31 December 2009

Less: Less:

Less: Less:

Net Sales Cost of Goods Sold Gross Profit Operating Expenses: Office & Administration Expenses Selling & Distribution Expenses Operating Profit Interest Paid Net Profit before Tax Tax Paid Net Profit after Tax

2008 Rs. 1,00,000 70,000 30,000

2009 Rs. 1,10,000 75,000 35,000

Absolute Change Rs. 10,000 5,000 5,000

5,000 6,000 19,000 1,000 18,000 5,000 13,000

7,000 5,000 23,000 2,000 21,000 6,000 15,000

2,000 (1,000) 4,000 1,000 3,000 1,000 2,000

% Change 10.00 7.14 16.67 40 16.67 21.05 100 16.67 20.00 15.38

Problem 9 From the following information of Lalbaba Ltd for the years that ended on 31 March 2008 and 31 March 2009, prepare a Comparative Income Statement and comment on the performance of the company. 2008 (Rs.) 4,75,000 25,000 3,00,000

Gross Sales Sales Return Purchase During the Year

2009 (Rs.) 5,20,000 10,000 3,20,000 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

34

MANAGEMENT ACCOUNTING

2008 (Rs.) 50,000 10,000 600 15,000 30,000 7,000 15,000

Opening Stock Closing Stock Direct Wages Paid Office & Administrative Expenses Selling & Distribution Expenses Interest Paid Tax Paid

2009 (Rs.) 60,000 12,000 800 25,000 25,000 8,000 20,000

Solution Comparative Income Statement of Lalbaba Ltd for the years that ended on 31 March 2008 and 31 March 2009

Less: Less: Less:

Less: Less:

Gross Sales Sales Return Net Sales Cost of Goods Sold1 Gross Profit Operating Expenses: Office & Administration Expenses Selling & Distribution Expenses Operating Profit Interest Paid Net Profit before Tax Tax Paid Net Profit after Tax

31 March 2008 Rs. 4,75,000 25,000 4,50,000 3,40,600 1,09,400

31 March 2009 Rs. 5,20,000 10,000 5,10,000 3,68,800 1,41,200

Absolute Change Rs. 45,000 (15,000) 60,000 28,200 31,800

15,000 30,000 64,400 7,000 57,400 15,000 42,400

25,000 25,000 91,200 8,000 83,200 20,000 63,200

10,000 5,000 26,800 1,000 25,800 5,000 20,800

% Change 9.47 (60) 13.33 8.28 29.07 66.67 16.67 41.61 14.29 44.95 33.33 49.06

Working Notes 1. Calculation of Cost of Goods Sold Cost of Goods Sold = Opening Stock + Purchases + Direct Expenses − Closing Stock. Cost of Goods Sold for the year that ended on 31 March 2008 = 50,000 + 3,00,000 + 600 − 10,000 = Rs. 3,40,600. Cost of Goods Sold for the year that ended on 31 March 2009 = 60,000 + 3,20,000 + 800 − 12,000 = Rs. 3,68,800.

Comments on the Financial Position i. Gross Profit for the current year has increased by 29.07% as a result of a greater increase in Sales by 9.47% over a lower increase in Cost of Goods Sold by 8.28%. ii. Operating Profit has also been increased remarkably by 41.61% due to a lower increase in the Operating Expenses. iii. Net Profit has also been increased substantially by 49.06% during the current year due to a marginal increase in the interest and constant tax rate. iv. The overall performance of the company is progressing strongly.

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

35

ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Problem 10 From the following information, prepare a Comparative Income Statement for the years that ended on 31 March 2008 and 31 March 2009: Trading and Profit & Loss A/c for the years that ended on 31 March 2008 and 31 March 2009

To Opening Stock To Purchases To Carriage Inward To Gross Profit c/d To Salaries of Staff To Salary of Manager To Insurance To Advertisement Expenses To General Expenses To Interest To Tax Payable To Net Profit b/d

31 March 2008 Rs. 1,50,000 7,70,000 20,000 2,85,000 12,25,000 20,000 5,000 4,000

31 March 2009 Rs. 3,00,000 9,80,000 25,000 5,75,000 18,80,000 45,000 15,000 3,500

50,000 75,000 5,000 600 1,40,400 3,00,000

95,000 85,000 6,000 700 3,39,800 5,90,000

By Sales Less: Sales Return By Closing Stock By Gross Profit b/d By Other Incomes

31 March 2008 Rs. 10,00,000 50,000 9,50,000 2,75,000 12,25,000 2,85,000 15,000

31 March 2009 Rs. 15,00,000 20,000 14,80,000 4,00,000 18,80,000 5,75,000 15,000

3,00,000

5,90,000

Solution Comparative Income Statement of _______________ for the years that ended on 31 March 2008 and 31 March 2009

Less: Less: Less:

Add: Less: Less:

Gross Sales Sales Return Net Sales Cost of Goods Sold1 Gross Profit Operating Expenses: Salaries to Staff Salary to Manager Insurance Advertisement Expenses General Expenses Operating Profit Other Incomes Net Profit before Interest & Tax Interest Net Profit before Tax Tax Net Profit after Tax

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

31 March 2008 Rs. 10,00,000 50,000 9,50,000 6,65,000 2,85,000

31 March 2009 Rs. 15,00,000 20,000 14,80,000 9,05,000 5,75,000

Absolute Change Rs. 5,00,000 (30,000) 5,30,000 2,40,000 2,90,000

20,000 5,000 4,000 50,000 75,000 1,31,000 15,000 1,46,000 5,000 1,41,000 600 1,40,400

45,000 15,000 3,500 95,000 85,000 3,31,500 15,000 3,46,500 6,000 3,40,500 700 3,39,800

25,000 10,000 (500) 45,000 10,000 2,00,500 Nil 2,00,500 1,000 1,99,500 100 1,99,400

Output Date: Tue, Jul 06, 2010 11:38:25 AM

% Change 50 60 55.79 36.09 101.75 125 200 (12.50) 90 13.33 153.05 Nil 137.39 20 141.49 16.67 142.02

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

36

MANAGEMENT ACCOUNTING

Working Notes 1. Calculation of Cost of Goods Sold Cost of Goods Sold = Opening Stock + Purchases + Direct Expenses − Closing Stock. Cost of Goods Sold for the year that ended on 31 March 2008 = 1,50,000 + 7,70,000 + 20,000 − 2,75,000 = Rs. 6,65,000. Cost of Goods Sold for the year that ended on 31 March 2009 = 3,00,000 + 9,80,000 + 25,000 − 4,00,000 = Rs. 9,05,000.

Problem 11 Following are the Income Statements and Balance Sheets of Discovery Ltd: Income Statement for the years that ended on 31 December 2008 and 31 December 2009 Particulars

2008 (Rs.) 4,00,000 60,000 50,000 1,90,000 60,000 20,000 25,000 35,000 10,000 24,000

Net Sales Opening Stock of Goods Closing Stock of Goods Purchases for the Year Direct Wages Factory Expenses Office & Administration Expenses Selling & Distribution Expenses Interest on Debentures Income Tax

2009 (Rs.) 5,00,000 70,000 40,000 2,10,000 70,000 30,000 35,000 25,000 20,000 32,000

Balance Sheets as on 31 December 2008 and 31 December 2009 Liabilities Equity Share Capital (of Rs. 100 each) Preference Share Capital Reserves & Surplus Debentures Creditors Bills Payable

31 December 2008 Rs. 2,00,000

31 December 2009 Rs. 3,00,000

1,00,000 1,60,000 80,000 50,000 10,000 6,00,000

2,00,000 2,20,000 1,30,000 40,000 10,000 9,00,000

Assets Fixed Assets Investment Stock Debtors Cash & Bank Preliminary Expense

31 December 2008 Rs. 2,80,000

31 December 2009 Rs. 4,50,000

1,00,000 70,000 80,000 50,000 20,000 6,00,000

1,80,000 1,20,000 1,00,000 40,000 10,000 9,00,000

Prepare the Comparative Income Statement and Balance Sheet of 2 years of the company. Solution Comparative Income Statement of Discovery Ltd for the years that ended on 31 December 2008 and 31 December 2009

Less: Less:

Net Sales Cost of Goods Sold1 Gross Profit Operating Expenses: Office & Administration Expenses Selling & Distribution Expenses Operating Profit

2008 Rs. 4,00,000 2,80,000 1,20,000

2009 Rs. 5,00,000 3,40,000 1,60,000

Absolute Change Rs. 1,00,000 60,000 40,000

25,000 35,000 60,000

35,000 25,000 1,00,000

10,000 (10,000) 40,000

% Change 25.00 21.43 33.33 40 (28.57) 66.67 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Less: Less:

2008 Rs. 10,000 50,000 24,000 26,000

Interest on Loan Net Profit before Tax Income Tax Net Profit after Tax

2009 Rs. 20,000 80,000 32,000 48,000

Absolute Change Rs. 10,000 30,000 8,000 22,000

37

% Change 100 60 33.33 84.62

Comparative Balance Sheet of Discovery Ltd as on 31 December 2008 and 31 December 2009

Sources of Fund: (A) Proprietors’ Fund: Equity Share Capital Preference Share Capital Reserves & Surplus Less:

Miscellaneous Expenditure: Preliminary Expenses

(B) Loan Fund: Debentures Total (A + B) Applications of Fund: (C) Fixed Assets (D) Investments (E) Working Capital: Current Assets, Loans & Advances: Stock Debtors Cash & Bank Total (F) Less: Current Liabilities & Provisions: Creditors Bills Payable Total (G) E=F−G Total (C + D + E)

31 December 2008 Rs.

31 December 2009 Rs.

Absolute Change Rs.

% Change

2,00,000 1,00,000 1,60,000 4,60,000

3,00,000 2,00,000 2,20,000 7,20,000

1,00,000 1,00,000 60,000 2,60,000

50 100 37.50 56.52

20,000 4,40,000

10,000 7,10,000

(10,000) 2,70,000

(50) 61.36

80,000 5,20,000

1,30,000 8,40,000

50,000 3,20,000

62.50 61.54

2,80,000 1,00,000

4,50,000 1,80,000

1,70,000 80,000

60.71 80

70,000 80,000 50,000 2,00,000

1,20,000 1,00,000 40,000 2,60,000

50,000 20,000 (10,000) 60,000

71.43 25 (20) 30

50,000 10,000 60,000 1,40,000 5,20,000

40,000 10,000 50,000 2,10,000 8,40,000

(10,000) Nil (10,000) 70,000 3,20,000

(20) Nil (16.67) 50 61.54

Working Notes 1. Calculation of Cost of Goods Sold Cost of Goods Sold = Opening Stock + Purchases + Direct Expenses − Closing Stock. Cost of Goods Sold for the year that ended on 31 December 2008 = 60,000 + 1,90,000 + 60,000 + 20,000 − 50,000 = Rs. 2,80,000. Cost of Goods Sold for the year that ended on 31 December 2009 = 70,000 + 2,10,000 + 70,000 + 30,000 − 40,000 = Rs. 3,40,000.

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

38

MANAGEMENT ACCOUNTING

Problem 12 From the following information, prepare a Common-size Income Statement: 2008 (Rs.) 2,00,000 40,000 85,000 10,000 40%

Sales Cost of Goods Sold Operating Expenses Non-operating Expenses Tax Rate

2009 (Rs.) 2,25,000 55,000 66,000 6,000 40%

Solution Common-size Income Statement for the years that ended on 31 December 2008 and 31 December 2009

Less: Less: Less: Less:

Net Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Non-operating Expenses Profit before Tax Tax @ 40% on Profit Before Tax Profit after Tax

Absolute Figures 2008 (Rs.) 2009 (Rs.) 2,00,000 2,25,000 40,000 55,000 1,60,000 1,70,000 85,000 66,000 75,000 1,04,000 10,000 6,000 65,000 98,000 26,000 39,200 39,000 58,800

% of Net Sales 2008 2009 100 100 20 24.44 80 75.56 42.5 29.34 37.5 46.22 5 2.67 32.5 43.55 13 17.42 19.5 26.13

Problem 13 From the following information of a company for the year 2008 and 2009, prepare a Common-size Income Statement and make your comment on the performance of the company: 2008 (Rs.) 1,00,000 60,000 30,000 3,000 2,000 50%

Net Sales Cost of Goods Sold Selling, General & Administrative Expenses Interest Paid Interest Received Income Tax

2009 (Rs.) 1,10,000 65,700 37,000 6,200 3,300 50%

Solution Common-size Income Statement for the years 2008 and 2009

Less: Less:

Add:

Net Sales Cost of Goods Sold Gross Profit Operating Expenses: Selling, General & Administrative Expenses Operating Profit Interest Income

Absolute Figures 2008 (Rs.) 2009 (Rs.) 1,00,000 1,10,000 60,000 65,700 40,000 44,300

30,000 10,000 2,000

37,000 7,300 3,300

% of Net Sales 2008 2009 100 100 60 59.73 40 40.27

30 10 2

33.64 6.63 3 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Less: Less:

Profit before Interest & Tax Interest Profit before Tax Tax @ 50% on Profit before Tax Net Profit

Absolute Figures 2008 (Rs.) 2009 (Rs.) 12,000 10,600 3,000 6,200 9,000 4,400 4,500 2,200 4,500 2,200

39

% of Net Sales 2008 2009 12 9.67 3 5.67 9 4 4.50 2 4.50 2

Comments 1. Both sales as well as the Cost of Goods Sold have been increased in 2009 as compared to 2008, but sales have been increased at a higher rate than the Cost of Goods Sold. As a consequence, the Gross Profit for 2009 has been increased from 40% of sales to 40.27% of sales, indicating a marginal increase in the profit. 2. Operating expenses have been increased from 30% of sales to 33.64% of sales in 2009 as compared to 2008 resulting in a decrease in the Operating Profit from 10% to 6.63% of sales. 3. Interest cost has been increased from 3% to 5.67% of sales in 2009 resulting in a decline in the Net Profit before tax from 9% to 4% of sales in 2009. 4. A marginal decrease in the tax amount could not stop the Net Profit to fall from 4.5% to 2% of sales in 2009. 5. Therefore, we can conclude that profitability of the concern is declining over the period of time.

Problem 14 From the following information, make a comparable Profit & Loss A/c of A Ltd and B Ltd in terms of percentage alone: A Ltd Rs. in Lakhs 15 12 0.7 0.8 0.2

Sales Cost of Goods Sold Administrative Expenses Selling Expenses Financial Charge

B Ltd Rs. in Lakhs 80 60 5 7 2

[B.Com. (Hons), Calcutta University—2008] Solution Comparable Profit & Loss A/c of A Ltd and B Ltd for the period A Ltd Absolute Figure

Less: Less:

Less:

Sales Cost of Goods Sold Gross Profit Operating Expenses: Administrative Expenses Selling Expenses Operating Profit Non-operating Expenses: Financial Charge Net Profit

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

B Ltd % of Sales

Absolute Figure

% of Sales 100 75 25

Rs. in lakhs 15 12 3

100 80 20

Rs. in lakhs 80 60 20

0.7 0.8 1.5

4.7 5.3 10

5 7 8

6.25 8.75 10

0.2 1.3

1.3 8.7

2 6

2.5 7.5

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

40

MANAGEMENT ACCOUNTING

Problem 15 Following data are available from M & Co. for 2006 and 2007. You are required to prepare a Common-size Income Statement. Particulars Add: Add:

2006 (Rs.) 10,00,000 50,000 1,00,000 11,50,000 8,00,000 2,00,000 50,000 1,00,000 11,50,000

Sales Commission Received Discount Received Cost of Goods Sold Operating Expenses Non-operating Expenses Profit

2007 (Rs.) 12,50,000 75,000 1,25,000 14,50,000 9,00,000 3,00,000 75,000 1,75,000 14,50,000

[B.Com. (Hons), Calcutta University—2009] Solution Common-size Income Statement for the years that ended on 31 December 2006 and 31 December 2007

Less: Add: Add: Less: Less:

Sales Cost of Goods Sold Gross Profit Commission Received Discount Received Operating Expenses Operating Profit Non-operating Expenses Net Profit

Absolute Figures 2006 (Rs.) 2007 (Rs.) 10,00,000 12,50,000 8,00,000 9,00,000 2,00,000 3,50,000 50,000 75,000 1,00,000 1,25,000 3,50,000 5,50,000 2,00,000 3,00,000 1,50,000 2,50,000 50,000 75,000 1,00,000 1,75,000

% of Net Sales 2006 2007 100 100 80 72 20 28 5 6 10 10 35 44 20 24 15 20 5 6 10 14

Problem 16 With the help of the following information for the year that ended in 2006, prepare a Common-size Income Statement: Selling and Distribution Expense Administration Expense Cost of Sales Income Tax Net Income after Tax Other Income

Rs. 10,000 Rs. 20,000 75% of net sales 20% of Net Profit before tax Rs. 48,000 Rs. 10,000

[B.Com. (Hons), Calcutta University—2007] Solution Common-size Income Statement for the year that ended on 31 December 2006

Less:

Absolute Figure (Rs.) 3,20,000 2,40,000

Net Sales Cost of Sales

% of Net Sales 100.00 75.00 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

41

ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Less:

Add:

Less:

Gross Profit Operating Expenses: Administration Expense Selling and Distribution Expense Operating Profit Non-operating Income: Other Income Profit before Tax Tax @ 20% on Profit before Tax Profit after Tax

Absolute Figure (Rs.) 80,000

% of Net Sales 25.00

20,000 10,000 50,000

6.25 3.12 15.62

10,000 60,000 12,000 48,000

3.12 18.75 3.75 15.00

Working Notes Given, Tax = 20% of Net Profit before Tax. If Profit before Tax = 100, then Tax = 20. Net Profit after Tax = Profit before tax − Tax = 100 − 20 = 80. Again, given Net Profit after Tax = Rs. 48,000. Net Profit before Tax = 100 ÷ 80 × 48,000 = Rs. 60,000. Tax = 20 ÷ 80 × 48,000 = Rs. 12,000.

Less:

Add:

Rs. 60,000

Net Profit before Tax Non-operating Income Included in the above: Other Income Operating Profit Operating Expenses: Administration Expense Selling & Distribution Expense Gross Profit

10,000 50,000 20,000 10,000 80,000

Again, Cost of Sales = 75% of Net Sales. If Net Sales = 100, then Cost of Sales = 75. Gross Profit = Net Sales − Cost of Sales = 100 − 75 = 25. Net Sales = 100 ÷ 25 × 80,000 = Rs. 3,20,000. Cost of Sales = 75 ÷ 25 × 80,000 = Rs. 2,40,000.

Problem 17 From the following information, prepare a Common-size Balance Sheet for 2008 and 2009: 2008 (Rs.) 1,00,000 70,000 80,000 2,50,000 1,00,000 20,000 20,000 20,000 60,000 30,000 2,50,000

Fixed Assets Investment Current Assets Total Equity Share Capital 8% Preference Share Capital Reserves & Surplus Secured Loan Unsecured Loan Current Liabilities & Provisions Total

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

2009 (Rs.) 1,20,000 70,000 90,000 2,80,000 1,00,000 20,000 30,000 30,000 70,000 30,000 2,80,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

42

MANAGEMENT ACCOUNTING

Solution Common-size Balance Sheet as on 31 December 2008 and as on 31 December 2009 Absolute Figures 2008 (Rs.) 2009 (Rs.) Assets: Fixed Assets Investment Current Assets Total Assets Liabilities: Equity Share Capital 8% Preference Share Capital Reserves & Surplus Secured Loan Unsecured Loan Current Liabilities & Provisions Total Liabilities

% of Balance Sheet Total 2008 2009

1,00,000 70,000 80,000 2,50,000

1,20,000 70,000 90,000 2,80,000

40 28 32 100

42.86 25 32.14 100

1,00,000 20,000 20,000 20,000 60,000 30,000 2,50,000

1,00,000 20,000 30,000 30,000 70,000 30,000 280,000

40 8 8 8 24 12 100

35.71 7.14 10.71 10.72 25 10.72 100

Problem 18 From the following information as furnished by Aaj Ltd and Kal Ltd as on 31 March 2009, prepare a Commonsize Balance Sheet as on that date and make your comments on the position of the companies:

Less:

Aaj Ltd Rs. 3,00,000 1,05,000 1,95,000 50,000 30,000 15,000 6,000 22,000 3,18,000 1,00,000 60,000 35,000 70,000 50,000 3,000 3,18,000

Fixed Assets (at Cost) Provision for Depreciation Investment Sundry Debtors Stock Prepaid Expenses Cash & Bank Share Capital General Reserve Revenue Reserve Long-term Loan Sundry Creditors Provision for Tax

Kal Ltd Rs. 5,00,000 2,80,000 2,20,000 – 80,000 29,000 18,000 67,000 4,14,000 1,50,000 79,000 40,000 85,000 50,000 10,000 4,14,000

Solution Common-size Balance Sheet of Aaj Ltd and Kal Ltd as on 31 March 2009 Absolute Figures

Less:

Assets: Fixed Assets (at Cost) Provision for Depreciation

% of Balance Sheet Total

Aaj Ltd Rs.

Kal Ltd Rs.

Aaj Ltd

Kal Ltd

3,00,000 1,05,000

5,00,000 2,80,000

94.33 33.02

120.77 67.63 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

43

ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Absolute Figures

Investments Current Assets: Sundry Debtors Stock Prepaid Expenses Cash & Bank Total Assets Liabilities: Share Capital Reserves & Surplus: General Reserve Revenue Reserve Long-term Loan Current Liabilities & Provisions: Sundry Creditors Provision for Taxation Total Liabilities

Aaj Ltd Rs. 1,95,000 50,000

Kal Ltd Rs. 2,20,000 –

30,000 15,000 6,000 22,000 3,18,000

% of Balance Sheet Total Aaj Ltd

Kal Ltd

61.31 15.73

53.14 –

80,000 29,000 18,000 67,000 4,14,000

9.43 4.72 1.89 6.92 100

19.32 7 4.35 16.18 100

1,00,000

1,50,000

31.45

36.23

60,000 35,000 70,000

79,000 40,000 85,000

18.87 11.01 22.01

19.08 9.66 20.53

50,000 3,000 3,18,000

50,000 10,000 4,14,000

15.72 0.94 100

12.08 2.42 100

Comments 1. Investments in Fixed Assets and outside the business are more than three times than the investment in the Current Assets of Aaj Ltd. On the other hand, investments in Fixed Assets and outside the business are almost equal to the investment in the Current Assets of Kal Ltd. This indicates that a major portion of the capital employed in Aaj Ltd has been invested in the Long-term Assets, whereas the total capital employed in Kal Ltd has been almost evenly invested in the Long-term as well as Short-term assets. 2. The proportion of equity and debt capital in the capital structure of both the companies is almost the same. Debt–equity ratio of both the companies indicates a sound long-term solvency position. 3. The liquidity position of both the companies seems to be prudent as the ratio of Current Assets to Current Liabilities in terms of percentage to total assets is around 2:1. 4. The financial position of both the companies is sound.

Problem 19 From the following information as obtained from the books of Explorer Ltd, prepare a Common-size Income Statement and a Common-size Balance Sheet of 2 years: Particulars Sales Cost of Goods Sold Operating Expenses (other) Non-operating Expenses Non-operating Incomes Tax Rate Fixed Assets Investments Current Assets

2008 Rs. 4,00,000 1,80,000 70,000 40,000 10,000 50% 3,00,000 1,00,000 2,00,000

2009 Rs. 6,00,000 2,40,000 80,000 60,000 20,000 50% 5,00,000 2,00,000 3,00,000 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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MANAGEMENT ACCOUNTING

2008 Rs. 10,000 1,50,000 50,000 1,40,000 1,20,000 50,000 1,00,000

Particulars Miscellaneous Expenditure Equity Share Capital Preference Share Capital Reserves & Surplus Secured Loan Unsecured Loan Current Liabilities & Provisions

2009 Rs. 20,000 3,00,000 2,00,000 2,20,000 1,50,000 30,000 1,20,000

Solution Common-size Income Statement of Explorer Ltd for the years that ended on 31 December 2008 and 31 December 2009

Less: Less: Add: Less: Less:

Sales Cost of Goods Sold Gross Profit Operating Expenses Operating Profit Non-operating Incomes Non-operating Expenses Profit before Tax Tax @ 50% on Profit before Tax Profit after Tax

Absolute Figures 2008 (Rs.) 2009 (Rs.) 4,00,000 6,00,000 1,80,000 2,40,000 2,20,000 3,60,000 70,000 80,000 1,50,000 2,80,000 10,000 20,000 1,60,000 3,00,000 40,000 60,000 1,20,000 2,40,000 60,000 1,20,000 60,000 1,20,000

% of Net Sales 2008 2009 100 100 45 40 55 60 17.50 13.33 37.50 46.67 2.50 3.33 40 50 10 10 30 40 15 20 15 20

Common-size Balance Sheet of Explorer Ltd as on 31 December 2008 and as on 31 December 2009 Absolute Figures 2008 (Rs.) 2009 (Rs.) Assets: Fixed Assets Investment Current Assets Total Assets Liabilities: Proprietors’ Fund: Equity Share Capital 8% Preference Share Capital Reserves & Surplus Less:

Miscellaneous Expenditure

% of Balance Sheet Total 2008 2009

3,00,000 1,00,000 2,00,000 6,00,000

5,00,000 2,00,000 3,00,000 10,00,000

50 16.67 33.33 100

50 20 30 100

1,50,000 50,000 1,40,000 3,40,000 10,000 3,30,000

3,00,000 2,00,000 2,20,000 7,20,000 20,000 7,00,000

25 8.33 23.34 56.67 1.67 55

30 20 22 72 2 70

1,20,000 50,000 1,00,000 6,00,000

1,50,000 30,000 1,20,000 10,00,000

20 8.33 16.67 100

15 3 12 100

Loan Fund: Secured Loan Unsecured Loan Current Liabilities & Provisions Total Liabilities

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Problem 20 From the following figures, calculate the trend percentages taking 2001 as the base year and make your comment: Year 2001 2002 2003 2004 2005 2006

Sales 6,00,000 7,00,000 8,20,000 9,50,000 10,00,000 11,00,000

Cost of Goods Sold (Rs.) 4,00,000 4,75,000 6,00,000 7,90,000 8,15,000 9,05,000

Inventory (Rs.) 2,00,000 2,20,000 2,40,000 2,50,000 2,60,000 2,80,000

Solution Statement of Trend Analysis (Base year = 2001) Sales Amount Rs. 6,00,000 7,00,000 8,20,000 9,50,000 10,00,000 11,00,000

Year 2001 2002 2003 2004 2005 2006

Trend %

Year

100 116.7 136.7 158.3 166.7 183.33

2001 2002 2003 2004 2005 2006

Cost of Goods Sold Amount Trend % Rs. 4,00,000 100 4,75,000 118.75 6,00,000 150 7,90,000 197.5 8,15,000 203.75 9,05,000 226.25

Year 2001 2002 2003 2004 2005 2006

Inventory Amount Rs. 2,00,000 2,20,000 2,40,000 2,50,000 2,60,000 2,80,000

Trend % 100 110 120 125 130 140

Comments 1. Sales have steadily increased over the years, especially in the recent times, but the corresponding costs of goods sold have also been alarmingly increased at a higher rate. 2. Stock of goods has also been gradually increased over the years. Accumulation of more stock than the required quantity might hinder the profitability position of the firm. Therefore, further investigation is required in this respect.

Problem 21 From the following data as obtained from the Financial Statements of Kailash Ltd, calculate the trend percentage taking 2007 as the base year: 2007 (Rs.) 1,80,000 80,000 10,000 90,000

Sales Purchases Expenses Profit

2008 (Rs.) 2,00,000 1,00,000 15,000 85,000

2009 (Rs.) 2,60,000 1,10,000 20,000 1,30,000

Solution Statement of Trend Analysis (Base year = 2007) Year 2004 2005 2006

Sales Amount

Trend

Rs. 1,80,000 2,00,000 2,60,000

% 100 111.11 144.44

Year 2004 2005 2006

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Purchases Amount Rs. 80,000 1,00,000 1,10,000

Trend % 100 125 137.5

Year 2004 2005 2006

Expenses Amount Trend Rs. % 10,000 100 15,000 150 85,000 850

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Year 2004 2005 2006

Profit Amount Rs. 90,000 85,000 1,30,000

Trend % 100 94.44 144.4

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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MANAGEMENT ACCOUNTING

Problem 22 From the following supplied trend percentage, prepare a comparative statement of Current Assets in absolute value taking 2003 as the base year: 2004 120 130 160 175 110

Trend Percentage 2005 130 140 220 250 150

Corresponding Value of Current Assets 2006 3,600 – Cash & Bank 6,800 – Debtors 4,000 – Finished Goods 4,500 – Work in Progress 1,750 – Raw Materials

2006 150 200 250 300 175

[B.Com. (Hons), Calcutta University—2007] Solution Statement of Trend Analysis of Current Assets (Base year = 2003) Year 2003 2004 2005 2006

Cash & Bank Amount Trend Rs. % 2,400 100 2,880 120 3,120 130 3,600 150

Debtors Amount Trend Rs. % 3,400 100 4,420 130 4,760 140 6,800 200

Finished Goods Amount Trend Rs. % 1,600 100 2,560 160 3,520 220 4,000 250

WIP Amount Rs. 1,500 2,625 3,750 4,500

Trend % 100 175 250 300

Raw Materials Amount Trend Rs. % 1,000 100 1,100 110 1,500 150 1,750 175

Working Notes Value of Current Assets in the Base Year (i.e., in 2003) Cash & Bank = 100 ÷ 150 × 3,600 = Rs. 2,400. Debtors = 100 ÷ 200 × 6,800 = Rs. 3,400. Finished Goods = 100 ÷ 250 × 4,000 = Rs. 1,600. Work in Progress = 100 ÷ 300 × 4,500 = Rs. 1,500. Raw Materials = 100 ÷ 175 × 1,750 = Rs. 1,000.

Problem 23 The following is the financial information of ZN Ltd for 3 years that ended on 31 December every year: Particulars Share Capital Gross Profit Current Liabilities Fixed Assets Long-term Loan Cost of Goods Sold Working Capital Net Worth Current Assets Sales

2005 (Rs.) 1,50,000 3,50,000 40,000 2,40,000 1,00,000 ? 60,000 2,00,000 ? 5,50,000

2006 (Rs.) 1,80,000 3,50,000 ? 2,50,000 ? 4,00,000 50,000 2,20,000 1,20,000 7,50,000

2007 (Rs.) 1,90,000 4,00,000 ? 2,35,000 1,20,000 3,00,000 1,40,000 2,55,000 2,00,000 ? (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Particulars

2005 (Rs.) 3,00,000 ?

Capital Employed Reserves & Surplus

2006 (Rs.) ? 40,000

2007 (Rs.) ? 65,000

You are required to prepare a Vertical Trend Financial Statement taking 2005 as the base. [B.Com. (Hons), Mumbai University—October 2008] Solution Vertical Trend Income Statement (Base year = 2005)

Less:

Sales Cost of Goods Sold Gross Profit

2005 Amount Rs. 5,50,000 2,00,000 3,50,000

Trend % 100 100 100

2006 Amount Rs. 7,50,000 4,00,000 3,50,000

Trend % 136.36 200 100

2007 Amount Rs. 7,00,000 3,00,000 4,00,000

Trend % 127.27 150 114.28

Vertical Trend Balance Sheet (Base year = 2005)

Liabilities: Share Capital Reserves & Surplus Net Worth Long-term Loan Capital Employed Current Liabilities Total Liabilities Assets: Fixed Assets Current Assets Total Assets

2005 Amount Trend Rs. %

2006 Amount Trend Rs. %

2007 Amount Trend Rs. %

1,50,000 50,000 2,00,000 1,00,000 3,00,000 40,000 3,40,000

100 100 100 100 100 100 100

1,80,000 40,000 2,20,000 80,000 3,00,000 70,000 3,70,000

120 80 110 80 100 175 108.82

1,90,000 65,000 2,55,000 1,20,000 3,75,000 60,000 4,35,000

127.67 130 127.50 120 125 150 127.94

2,40,000 1,00,000 3,40,000

100 100 100

2,50,000 1,20,000 3,70,000

104.17 120 108.82

2,35,000 2,00,000 4,35,000

97.97 200 127.94

Working Notes 1. Computation of Missing Figures for 2005 Cost of Goods Sold = Sales − Gross Profit = 5,50,000 − 3,50,000 = Rs. 2,00,000 Reserves & Surplus = Net Worth − Share Capital = 2,00,000 − 1,50,000 = Rs. 50,000 Current Assets = Working Capital + Current Liabilities = 60,000 + 40,000 = Rs. 1,00,000 2. Computation of Missing Figures for 2006 Current Liabilities = Current Assets − Working Capital = 1,20,000 − 50,000 = Rs. 70,000 Capital Employed = Fixed Assets + Working Capital = 2,50,000 + 50,000 = Rs. 3,00,000 Again, Capital Employed = Net Worth + Long-term Loan Long-term Loan = Capital Employed − Net Worth = 3,00,000 − 2,20,000 = Rs. 80,000 Current Liabilities = Current Assets − Working Capital = 1,20,000 − 50,000 = Rs. 70,000 3. Computation of Missing Figures for 2007 Sales = Cost of Goods Sold + Gross Profit = 3,00,000 + 4,00,000 = Rs. 7,00,000 Current Liabilities = Current Assets − Working Capital = 2,00,000 − 1,40,000 = Rs. 60,000 Capital Employed = Net Worth + Long-term Loan = 2,55,000 + 1,20,000 = Rs. 3,75,000

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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CHAPTER REVIEW SUMMARY Financial Statements are a compilation of financial data, arranged and organized in a systematic and summarized manner according to the accounting principles, to assess the financial position of an enterprise as regards its profitability, operational efficiency, long- and short-term solvency and growth potential. A number of statements prepared at the end of every accounting period are collectively called ‘Financial Statements.’  Characteristics of Financial Statements are: (a) they are prepared on the basis of past recorded facts; (b) some accounting principles, concepts, conventions and postulates are applied while preparing the Financial Statements; (c) they provide periodical information; (d) they exhibit a summary of all activities; and (e) they are the prime tool for financial analysis.  Components of Financial Statements are: (a) Income Statement; (b) Balance Sheet; (c) Fund Flow Statement; and (d) Cash Flow Statement.  Relationship between the items in the Balance Sheet and the Income Statement are: (a) Balance Sheet discloses the stock of resources while the Income Statement reveals the flows of resources; (b) Balance Sheet and Income Statement are complementary to each other; and (c) Balance Sheet serves as a link between the Income Statements of successive years.  Financial Statement Analysis is an analysis which critically examines the relationship between various components of Financial Statements with a view to obtain necessary and effective information from them.  Objectives of Financial Statement Analysis are: (a) to assess the real meaning and significance of financial data as disclosed in the Financial Statements; (b) to assess the liquidity, short- and long-term solvency position, profitability and growth potentiality of the enterprise; (c) to assess the operational efficiency of the enterprise; (d) to assess the financial stability of the enterprise; and (e) to assess the overall performance of the enterprise.  Requisites of Financial Statement Analysis are: (a) study of internal and external environment; (b) objective of the analysis; (c) study of accounting procedure; (d) rearrangement of financial data; (e) selection of techniques for analysis; (f) interpretation of findings; and (g) submission of report.  Generally, two approaches are followed for the analysis of Financial Statements. They are: (a) traditional approach to Financial Statement Analysis; and (b) modern approach to Financial Statement Analysis.  Different types of Financial Statement Analysis are: (a) internal and external analysis; (b) short- and long-term analysis; and (c) horizontal/dynamic analysis and vertical/static analysis.  Different techniques of Financial Statement Analysis are: (a) Comparative Financial Statement; (b) Commonsize Statement; (c) Trend Analysis; (d) Ratio Analysis; (e) Cash Flow Analysis; (f) Fund Flow Analysis; (g) Working Capital Analysis; and (h) Cost–Volume–Profit Analysis.  Comparative Financial Statement Analysis is a form of horizontal analysis where the Financial Statements of two or more years, or of two or more different companies, or of a company and its industry, are compared, analysed and interpreted.  To study the relative significance of every item of the Financial Statements, vertical analysis is useful. An important tool for such analysis is ‘Common-size Statement.’  Trend Analysis is a form of comparative analysis of Financial Statements between two or more years. It indicates the trend of individual items of the Financial Statements over a period of time. 

CHAPTER REVIEW QUIZ 1. State whether the following statements are true or false: a. Financial Statement Analysis is a tool which can be used by the management alone. b. The management decides which technique of Financial Statement Analysis fits best in a particular situation. c. Analysis of Financial Statements ignores the issue of price-level changes. d. Financial Statement Analysis should be restricted to Financial Statements alone. e. Horizontal analysis is used to compare the Financial Statements over a number of years. f. Fund Flow Statement is a part of Financial Statements. g. The choice of base year for Trend Analysis depends on the sales volume. h. Comparative Statement does not take into account the changes in the price level. i. Financial Statements include Cash Flow Statement too.

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

49

j. Common-size Statement considers the time value of money. k. Both comparative and Common-size Statements can show relative importance of each individual item in the total structure. Ans.: True: (c), (e), (f), (h), (i); False: (a), (b), (d), (g), (j), (k). 2. Choose the correct alternative from the following: a. Financial Statements exhibit: (i) anticipated facts; (ii) recorded facts; (iii) estimates of facts. b. Internal analysis of Financial Statements is done by the: (i) management; (ii) bankers; (iii) customers. c. Common-size Statement is a form of: (i) sectional analysis; (ii) horizontal analysis; (iii) vertical analysis. d. Comparative statement is a form of: (i) sectional analysis; (ii) horizontal analysis; (iii) vertical analysis. e. Financial Statement Analysis to examine the Financial Statements of one particular year alone is called: (i) short-term analysis; (ii) horizontal analysis; (iii) vertical analysis. f. Financial Statement Analysis to examine the Financial Statements of a number of years is called: (i) longterm analysis; (ii) horizontal analysis; (iii) vertical analysis. Ans.: (a) (ii); (b) (i); (c) (iii); (d) (ii); (e) (iii); (f) (ii). 3. Fill in the blanks of the following statements: . a. Vertical analysis is also called . b. Horizontal analysis is also called items. c. Traditional approach to Financial Statement Analysis ignores d. Under traditional approach to Financial Statement Analysis, are used as a tool of assessing the financial position of the enterprise. or trend of any particular series of data. e. Trend Analysis indicates the approach to Financial Statement Analysis includes the social desirability factors in the f. corporate Financial Statements. Ans.: (a) static analysis; (b) dynamic; (c) non-financial; (d) financial ratios; (e) increasing; decreasing; (f) Modern. EXERCISE I. Theoretical Questions A. Short Answer Type Questions

1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16.

What is meant by a Financial Statement? What are the different types of Financial Statements? What is Financial Statement Analysis? What are the different approaches to Financial Statement Analysis? What are the different types of Financial Statement Analysis? What is the vertical analysis of Financial Statements? What is the horizontal analysis of Financial Statements? What is Trend Analysis? What is a comparative Financial Statement? What is a Common-size Financial Statement? What is an asset? What is a liability? What is meant by an Income Statement? What is a Balance Sheet? What is a Fund Flow Statement? What is a Cash Flow Statement?

B. Essay Type Questions

1. 2. 3. 4. 5.

Define Financial Statements. What are the characteristics of Financial Statements? Explain the various components of Financial Statements. Discuss the relationship between Income Statement and Balance Sheet. What do you understand by Financial Statement Analysis? Discuss their objectives and requisites. Discuss the different approaches to Financial Statement Analysis.

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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6. 7. 8. 9. 10. 11.

Discuss the different types of Financial Statement Analysis. Discuss the different techniques of Financial Statement Analysis. What is Comparative Financial Statement? What are its advantages and disadvantages? What is Common-size Financial Statement? What are its advantages and disadvantages? Compare between Comparative Financial Statement and Common-size Financial Statement. What is Trend Analysis? What are its advantages and disadvantages?

II.

Practical Problems

1. From the following Balance Sheet of Jai Hind Ltd, prepare a Comparative Balance Sheet: 2008 Rs. 50,000 20,000 30,000 1,00,000

Liabilities Share Capital Reserves Debentures

2009 Rs. 80,000 30,000 40,000 1,50,000

Assets Fixed Assets Investment Current Assets

2008 Rs. 70,000 10,000 20,000 1,02,000

2009 Rs. 95,000 20,000 35,000 1,50,000

[B.Com. (Hons), Calcutta University—Adapted] 2. From the following figures of the Balance Sheet of Shikara Ltd, prepare a Comparative Balance Sheet: 31 December 2008 (Rs.) 2,00,000 1,50,000 1,00,000 50,000 60,000 50,000 4,50,000 1,20,000 60,000

Particulars Equity Share Capital Preference Share Capital 10% Debentures Reserves & Surplus Long-term Loan Investment Fixed Assets Current Assets Current Liabilities

31 December 2009 (Rs.) 3,00,000 1,00,000 60,000 90,000 80,000 60,000 5,10,000 1,80,000 1,20,000

[B.Com. (Hons), Calcutta University—Adapted] 3. Following are the Balance Sheets of Raga Ltd as on 31 March 2008 and 31 March 2009: 31 March 2008 Rs. 3,00,000 1,00,000 1,00,000 1,00,000

Liabilities Equity Share Capital Reserves & Surplus Long-term Loan Current Liabilities

6,00,000

31 March 2009 Rs. 5,00,000 1,50,000 2,00,000 1,50,000

Assets Fixed Assets Investment Stock Debtors Cash & Bank

10,00,000

31 March 2008 Rs. 4,00,000 50,000 70,000 50,000 30,000 6,00,000

31 March 2009 Rs. 6,50,000 1,20,000 1,00,000 80,000 50,000 10,00,000

Prepare a Comparative Balance Sheet and interpret the financial position of the company. 4. Balance Sheets of Mumbaikar Ltd for the years that ended on 31 December 2008 and 31 December 2009 are as follows: Liabilities Equity Share Capital 12% Preference Share Capital General Reserve

31 December 2008 Rs. 4,00,000 2,00,000 2,00,000

31 December 2009 Rs. 6,00,000 1,00,000 3,00,000

Assets Land Building Machinery

31 December 2008 Rs. 3,80,000 2,00,000 3,50,000

31 December 2009 Rs. 5,30,000 3,00,000 4,50,000 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

Liabilities 15% Debentures Creditors Bills Payable Tax Payable

31 December 2008 Rs. 1,50,000 1,20,000 40,000 90,000 12,00,000

31 December 2009 Rs. 2,50,000 1,80,000 60,000 1,10,000 16,00,000

Assets Furniture Stock Debtors Cash

31 December 2008 Rs. 1,00,000 90,000 60,000 20,000 12,00,000

31 December 2009 Rs. 70,000 1,10,000 1,00,000 40,000 16,00,000

Prepare a Comparative Balance Sheet in vertical form and offer your comments in brief on Fixed Assets. [B.Com. (Hons), Mumbai University—Adapted] 5. From the following information, prepare a Comparative Balance Sheet of Jakariya Ltd as on 31 March 2008 and 31 March 2009 and interpret the financial position of the company: Liabilities Equity Share Capital 11% Preference Share Capital Statutory Reserve Profit & Loss A/c Revaluation Reserve General Reserve 9% Debentures Sundry Creditors Bills Payable

31 March 2008 Rs. in ’000 320 180 30 40 80 60 50 110 30 900

31 March 2009 Rs. in ’000 400 100 40 90 50 80 75 145 20 1000

Assets Land & Building Plant & Machinery Investment Stock Sundry Debtors Bills Receivable Cash & Bank

31 March 2008 Rs. in ’000 430 220 50 75 65 20 40

900

31 March 2009 Rs. in ’000 520 250 30 90 50 30 30

1000

6. From the following information of Wajood Ltd for the years that ended on 31 March 2008 and 31 March 2009, prepare a Comparative Balance Sheet as on 31 March 2008 and 31 March 2009 and interpret the financial position of the company: Liabilities Equity Share Capital General Reserve Sundry Creditors Bills Payable Outstanding Expenses

31 March 2008 Rs. 2,50,000 70,000 90,000 25,000 15,000

31 March 2009 Rs. 4,00,000 1,20,000 1,40,000 35,000 5,000

4,50,000

7,00,000

Assets Land & Building Plant & Machinery Investment Stock Debtors Bills Receivable Profit & Loss A/c Discount on Issue of Shares

31 March 2008 Rs. 1,20,000 1,00,000 70,000 50,000 30,000 20,000 40,000

31 March 2009 Rs. 2,80,000 2,20,000 50,000 70,000 50,000 10,000 10,000

20,000 4,50,000

10,000 7,00,000

2008 8,00,000 4,80,000 2,40,000

2009 10,00,000 7,00,000 2,00,000

7. From the information given below, prepare a Comparative Income Statement: Sales Cost of Goods Sold Operating Expenses

[B.Com. (Hons), Calcutta University—Adapted]

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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MANAGEMENT ACCOUNTING

8. From the following information of Laskar Ltd, prepare a Comparative Income Statement for the years that ended on 31 December 2008 and 31 December 2009:

Less:

2008 Rs. 1,00,000 70,000 30,000 5,000 6,000 19,000 1,000 5,000 13,000

Net Sales Cost of Goods Sold

Less:

Office & Administration Expenses Selling & Distribution Expenses

Less:

Interest Paid Tax Paid

2009 Rs. 1,10,000 75,000 35,000 7,000 5,000 23,000 2,000 6,000 15,000

9. From the following information of Lalbaba Ltd for the years that ended on 31 March 2008 and 31 March 2009, prepare a Comparative Income Statement and comment on the performance of the company. 2008 (Rs.) 6,30,000 30,000 60,000 4,20,000 80,000 60,000 40,000 60,000 20,000 30,000

Gross Sales Sales Return Opening Stock Purchase During the Year Closing Stock Direct Wages Paid Office & Administrative Expenses Selling & Distribution Expenses Interest Paid Tax Paid

2009 (Rs.) 8,40,000 40,000 80,000 5,80,000 70,000 80,000 70,000 1,00,000 40,000 50,000

10. From the following information, prepare a Comparative Income Statement for the years that ended on 31 March 2008 and 31 March 2009:

Trading and Profit & Loss A/c for the years that ended on 31 March 2008 and 31 March 2009

To Opening Stock To Purchases To Carriage Inward To Gross Profit c/d To Salaries of Staff To Depreciation To Insurance To Advertisement To General Expenses To Interest To Provision for Tax To Net Profit b/d

31 March 2008 Rs. 75,000 4,25,000 20,000 1,80,000 7,00,000 30,000 15,000 5,000 25,000 15,000 20,000 30,000 70,000 2,10,000

31 March 2009 Rs. 1,20,000 6,35,000 35,000 3,50,000 11,40,000 45,000 25,000 20,000 55,000 35,000 40,000 50,000 1,30,000 4,00,000

By Sales Less: Sales Return By Closing Stock By Gross Profit b/d By Other Incomes

31 March 2008 Rs. 6,40,000 40,000 6,00,000 1,00,000 7,00,000 1,80,000 30,000

31 March 2009 Rs. 10,50,000 50,000 10,00,000 1,40,000 11,40,000 3,50,000 50,000

2,10,000

4,00,000

11. Following are the Income Statements and Balance Sheets of Trozen Ltd:

Income Statement for the years that ended on 31 December 2008 and 31 December 2009 Particulars Net Sales Opening Stock of Goods

2008 (Rs.) 5,00,000 40,000

2009 (Rs.) 7,50,000 60,000 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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Particulars

2008 (Rs.) 60,000 2,90,000 70,000 30,000 20,000 40,000 20,000 25,000

Closing Stock of Goods Purchases for the Year Direct Wages Factory Expenses Office & Administration Expenses Selling & Distribution Expenses Interest on Debentures Income Tax

2009 (Rs.) 80,000 4,10,000 90,000 50,000 40,000 50,000 30,000 50,000

Balance Sheets as on 31 December 2008 and 31 December 2009 Liabilities Equity Share Capital Preference Share Capital Reserves & Surplus Debentures Creditors Bills Payable

31 December 2008 Rs. 3,00,000 2,00,000 1,50,000 1,50,000 1,50,000 50,000 10,00,000

31 December 2009 Rs. 5,00,000 1,00,000 2,00,000 1,00,000 2,60,000 40,000 12,00,000

Assets Fixed Assets Investment Stock Debtors Cash & Bank Preliminary Expense

31 December 2008 Rs. 4,80,000 1,80,000 90,000 1,80,000 40,000 30,000 10,00,000

31 December 2009 Rs. 5,50,000 2,30,000 1,30,000 2,40,000 30,000 20,000 12,00,000

Prepare the Comparative Income Statement and Balance Sheet of 2 years of the company. 12. From the following information, prepare a Common-size Income Statement: 2008 (Rs.) 4,00,000 2,00,000 40,000 40,000 40%

Sales Cost of Goods Sold Operating Expenses Non-operating Expenses Tax Rate

2009 (Rs.) 6,00,000 3,60,000 90,000 30,000 50%

13. From the following information of a company for the year 2008 and 2009, prepare a Common-size Income Statement: 2008 (Rs.) 2,00,000 1,20,000 40,000 4,000 6,000 50%

Net Sales Cost of Goods Sold Selling, General & Administrative Expenses Interest Paid Interest Received Income Tax

2009 (Rs.) 3,00,000 1,50,000 45,000 9,000 6,000 40%

14. From the following information, make a comparable Profit & Loss A/c of X Ltd and Y Ltd in terms of percentage alone: X Ltd Rs. in lakhs 50 30 2 3 2

Sales Cost of Goods Sold Administrative Expenses Selling Expenses Financial Charge

Y Ltd Rs. in lakhs 100 50 3 5 4

[B.Com. (Hons), Calcutta University—Adapted]

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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15. Following data are available from Jojila Ltd for 2008 and 2009. You are required to prepare a Common-size Income Statement. Particulars Add: Add:

Sales Commission Received Discount Received Cost of Goods Sold Operating Expenses Non-operating Expenses Profit

2008 Rs. 5,00,000 75,000 1,25,000 7,00,000 3,00,000 1,00,000

2009 Rs. 9,00,000 90,000 1,35,000 11,25,000 4,50,000 2,25,000

25,000 2,75,000 7,00,000

45,000 4,05,000 11,25,000

[B.Com. (Hons), Calcutta University—Adapted] 16. With the help of the following information for the year that ended in 2006, prepare a Common-size Income Statement: Selling and Distribution Expense Administration Expense Cost of Sales Income Tax Net Profit after Tax Other Income

Rs. 20,000 Rs. 10,000 60% of Net Sales 40% of Net Profit before Tax Rs. 60,000 Rs. 10,000

[B.Com. (Hons), Calcutta University—Adapted] Ans.: Sales—Rs. 1,25,000; Cost of sales—Rs. 75,000; Gross Profit—Rs. 50,000; Net Profit before tax—Rs. 1,00,000. 17. From the following information, prepare a Common-size Balance Sheet for 2008 and 2009: 2008 (Rs.) 2,00,000 50,000 1,50,000 4,00,000 2,00,000 60,000 30,000 50,000 20,000 40,000 4,00,000

Fixed Assets Investment Current Assets Total Equity Share Capital 8% Preference Share Capital Reserves & Surplus Secured Loan Unsecured Loan Current Liabilities & Provisions Total

2009 (Rs.) 3,50,000 80,000 1,70,000 6,00,000 3,00,000 1,00,000 50,000 60,000 30,000 60,000 6,00,000

18. From the following information as furnished by Heera Ltd and Panna Ltd as on 31 March 2009, prepare a Common-size Balance Sheet as on that date and make your comment on the position of the companies:

Less:

Heera Ltd Rs. 4,00,000 1,60,000 2,40,000 40,000 50,000 30,000 10,000

Fixed Assets (at Cost) Provision for Depreciation Investment Sundry Debtors Stock Prepaid Expenses

Panna Ltd Rs. 6,00,000 2,40,000 3,60,000 70,000 80,000 50,000 20,000 (Continued)

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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Heera Ltd Rs. 30,000 4,00,000 1,80,000 50,000 20,000 50,000 70,000 30,000 4,00,000

Cash & Bank Share Capital General Reserve Capital Reserve Long-term Loan Sundry Creditors Provision for Tax

Panna Ltd Rs. 40,000 6,20,000 2,50,000 80,000 40,000 90,000 90,000 70,000 6,20,000

19. From the following information as obtained from the books of Chomoski Ltd, prepare a Common-size Income Statement and a Common-size Balance Sheet of 2 years: 2008 Rs. 3,00,000 1,50,000 60,000 40,000 20,000 50% 1,80,000 70,000 1,30,000 20,000 1,20,000 80,000 70,000 50,000 20,000 60,000

Particulars Sales Cost of Goods Sold Operating Expenses Non-operating Expenses Non-operating Incomes Tax Rate Fixed Assets Investments Current Assets Miscellaneous Expenditure Equity Share Capital Preference Share Capital Reserves & Surplus Secured Loan Unsecured Loan Current Liabilities & Provisions

2009 Rs. 8,00,000 4,40,000 2,00,000 50,000 30,000 50% 4,20,000 1,50,000 1,10,000 20,000 3,50,000 50,000 1,30,000 80,000 40,000 50,000

20. From the following figures, calculate the trend percentages taking 2004 as the base year: Year 2004 2005 2006 2007 2008 2009

Sales 4,00,000 4,50,000 5,20,000 6,00,000 6,60,000 7,00,000

Cost of Goods Sold 2,40,000 3,15,000 3,90,000 4,80,000 3,96,000 4,90,000

Inventory 1,00,000 1,20,000 1,50,000 1,60,000 1,80,000 2,10,000

21. From the following data as obtained from the Financial Statements of Mount Abu Ltd, calculate the trend percentage taking 2007 as the base year: Sales Purchases Expenses Profit

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

2007 (Rs.) 2,50,000 1,50,000 50,000 50,000

2008 (Rs.) 3,00,000 2,10,000 45,000 45,000

Output Date: Tue, Jul 06, 2010 11:38:25 AM

2009 (Rs.) 4,00,000 2,00,000 1,00,000 1,00,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M02\LAYOUT_M02\M02_DEBA_ISBN_EN_SE_C02.indd

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22. From the following supplied trend percentage, prepare a comparative statement of Current Assets in absolute value, taking 2006 as the base year: 2007 120 130 160 175 110

Trend Percentage 2008 130 140 220 250 150

Corresponding Value of Current Assets 2009 (Rs.) 15,000 – Cash & Bank 40,000 – Debtors 20,000 – Finished Goods 7,500 – Work in Progress 7,000 – Raw Materials

2009 150 200 250 300 175

[B.Com. (Hons), Calcutta University—Adapted] Ans.: Value in 2006: Cash & Bank—Rs. 10,000; Debtors – Rs. 20,000; Finished goods—Rs. 8,000; WIP—Rs. 2,500; and Raw materials—Rs. 4,000. 23. Lehman Brothers’ Income Statement for the last 4 years that were ending on 31 March of 2005, 2006, 2007 and 2008 shows the following position. Prepare a trend revenue statement in vertical form (taking 31 December 2005 as the base year) which is suitable for analysis and comment on the administrative expenses and nonoperating income.

Year ending on 31 March 2005 (Rupees in crores) Particulars Sales Materials Consumed Wages Gross Profit Office Rent Office Salary Other Administrative Expenses Sales Promotion Expenses Interest on Debentures Dividend Received

2005 70 21 7 ? 7 14 17.50 3.50 10 0.50

2006 60 18 6 ? 7 14 15 3 10 0.40

2007 50 15 2 ? 7 14 12.50 2.50 10 0.30

2008 30 9 1 ? 7 3.50 7.50 1.50 10 0.20

[B.Com. (Hons), Mumbai University—April 2009] Ans.: Gross Profit (Rs. in crore): 2005 – 42; 2006 – 36; 2007 – 33; 2008 – 20. 24. The following is the financial information of Vision Ltd for 3 years that ended on 31 December every year: Particulars Share Capital Gross Profit Current Liabilities Fixed Assets Long-term Loan Cost of Goods Sold Working Capital Net Worth Current Assets Sales Capital Employed Reserves & Surplus

2007 (Rs.) 3,00,000 1,50,000 1,20,000 4,00,000 80,000 ? 80,000 4,00,000 ? 4,00,000 4,80,000 ?

2008 (Rs.) 3,30,000 2,00,000 ? 4,60,000 ? 3,00,000 1,00,000 4,40,000 2,40,000 5,00,000 ? 1,10,000

2009 (Rs.) 3,80,000 2,20,000 ? 5,00,000 1,50,000 3,80,000 1,50,000 5,00,000 3,00,000 ? ? 1,20,000

You are required to prepare a vertical-trend Financial Statement taking 2007 as the base year. [B.Com. (Hons), Mumbai University—Adapted] Ans.: In 2007: Cost of Goods Sold—Rs. 2,50,000; Current Assets—Rs. 2,00,000; Reserves & Surplus—Rs. 1,00,000. In 2008: Current Liabilities—Rs. 1,40,000; Long-term loan—Rs. 1,20,000; Capital employed—Rs. 5,60,000. In 2009: Sales—Rs. 6,00,000; Current Liabilities—Rs. 1,50,000; Capital employed—Rs. 6,50,000.

Modified Date: Mon, Jul 05, 2010 04:56:11 PM

Output Date: Tue, Jul 06, 2010 11:38:25 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

Accounting Ratios for Financial Statement Analysis

3

LEARNING OBJECTIVES On completion of the study of the chapter, you should be able to understand: What is Accounting Ratio? What is meant by Ratio Analysis? Importance, uses, advantages and limitations of Ratio Analysis. Structural Analysis of Financial Statements for the purpose of computation of different Ratios. Classification of Ratios on the basis of their sources. Computation of different Ratios from Financial Statements. Uses of various Ratios to analyse liquidity, solvency, profitability, Capital Structure, activity and the overall performance of an enterprise. How Ratios are applied to interpret Financial Statements of an enterprise. Du Pont Analysis of Financial Statements.

3.1 FINANCIAL STATEMENTS Financial Statements are compilation of financial data, arranged and organized in a systematic and summarized manner according to the accounting principles, to assess financial position of an enterprise as regards to its profitability, operational efficiency, long- and short-term solvency, and growth potential. On the basis of the information as disclosed in the Financial Statements, users of them come to know about the growth, profitability, solvency and the financial strength of an enterprise. It is a tool in the hands of the management of an enterprise by which they present the financial position of the enterprise before the interested parties such as shareholders, lenders, creditors and so on. A number of statements prepared at the end of every Accounting Period are collectively called Financial Statements. Financial Statements include the following: i. Income Statement or Profit & Loss A/c. ii. Balance Sheet. iii. Fund Flow Statement. iv. Cash Flow Statement. 3.2 WHAT IS A RATIO? A Ratio is a relationship between two or more items expressed in mathematical terms. It is an expression of quantitative relationship between two amounts or items which is expressed in numbers or percentage. Say, there are 50 computers in an office where 200 employees are working. For identifying a quantitative relationship between the number of employees working and the number of computers used in the office, we should calculate Employee—Computer Ratio, which is 200 : 50 = 4 : 1. Therefore, a ‘ratio’ is a quantitative expression which exhibits a comparative relationship of one item with the other.

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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3.3 WHAT IS AN ACCOUNTING RATIO? A Financial Ratio is a relationship between two or more Accounting Data expressed in mathematical terms. Therefore, Ratio calculated from different Accounting Data for exhibiting a meaningful and useful relationship between them is called ‘Accounting Ratio.’ Accounting information is obtained from the process of Financial Accounting, that is, from the Profit & Loss A/c and the Balance Sheet. Taking relevant data from these Financial Statements, Accounting Ratios are calculated and expressed either in terms of Ratio (e.g., 3:2) or in terms of number (e.g., 5 or 5 times) or in terms of percentage (e.g., 20%). Therefore, Accounting Ratio is a quantitative expression of various accounting information and exhibits a meaningful and useful relationship between them. 3.4 WHAT IS RATIO ANALYSIS? A single Accounting Data by itself may not communicate any meaningful and useful information, but when expressed in relation to some other data, it definitely conveys some significant information to the interested parties. Accordingly, Accounting Ratio is computed to obtain a relationship between two or more Accounting Data expressed in mathematical terms. The process of comparative analysis and interpretation of all these Accounting Ratios are called Ratio Analysis. Ratio Analysis a tool adopted for determining the quantitative relationship between two or more financial data as obtained from the Financial Statements. Analysing various Accounting Ratios in a systematic and meaningful manner, financial strength, weakness and growth potentiality of an enterprise can be identified. As every Accounting Ratio possesses its distinctive feature, some relevant Ratios of the same functional area are calculated and analysed for getting a conclusive idea about that functional area. Therefore, Ratio Analysis is a tool of Financial Statement Analysis for identifying financial strength, weakness and growth potentiality of an enterprise by means of determination, analysis and interpretation of relevant various Accounting Ratios. 3.5 STEPS IN RATIO ANALYSIS The Ratio Analysis requires three steps. They are: i. Selection of relevant various Accounting Data from the Financial Statements. ii. Computation of related Accounting Ratios using those selected Accounting Data. iii. Analysis and interpretation of those Accounting Ratios in a very significant, logical and useful manner with an objective to obtain some conclusive financial information of the enterprise. In the phase of Ratio Analysis, Computed Ratios are generally compared with some predetermined standards to make any comment as regards to the financial position of the enterprise. 3.6 ROLE OR IMPORTANCE OF RATIO ANALYSIS As Ratio Analysis is a very powerful tool of analysing Financial Statements, it plays a vital role to the facts of determining the financial strength and weakness of an enterprise. Its importance lies in the fact that it presents various information as obtained from the Financial Statements in a comparative way, and helps in analysing the performance of the enterprise. Ratio Analysis, as an analytical tool of Financial Statement Analysis, plays the following role: i. It measures and evaluates the financial condition of an enterprise. ii. It measures and evaluates liquidity, solvency, profitability, managerial efficiency, Capital Structure and activity of an enterprise. iii. It measures and evaluates the operating effectiveness of an enterprise. iv. It provides adequate information as regards to the direction of financial changes of an enterprise. v. It identifies the functional areas within the business where adoption of remedial measures are needed. vi. It helps the management in the course of Decision Making process. vii. It helps in predicting the future condition of the business. viii. It is essential for coordinating the various functional machineries of an enterprise. ix. It serves as integral part of Budgetary Control System.

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

59

x. It works as the most effective technique for interpretation of Financial Statement Analysis. xi. It serves as a management control system. 3.7 USES OF RATIO ANALYSIS As Ratio Analysis is a means of communicating relevant information to different parties, who are interested, in and around the enterprise, it is very much useful to for improvement of their needs according to their respective interest in the enterprise. Various uses of Ratio Analysis are given as follows: i. It is useful for identification of financial strengths and weaknesses of an enterprise. ii. It is useful to measure liquidity, solvency, profitability, managerial efficiency and activity of an enterprise. iii. It is useful for inter- and intra-firm comparison of performance. iv. It is useful to measure the proper utilization of the various assets of the business. v. It is useful to measure the operating efficiency of the business. vi. It is useful to assess the level of efficiency of the management. vii. It is useful for a reasonable prediction of the future plans of the business. viii. It is useful to optimize the Capital Structure of the business. ix. It helps the management for reviewing the past years’ activity of the business by means of Trend Analysis. x. It is useful to the management for a perfect Budget Preparation. xi. It is useful to determine the corporate sickness. 3.8 ADVANTAGES OF RATIO ANALYSIS Following are the advantages of Ratio Analysis: i. It is treated as the most powerful tool for measuring short-and long-term solvency of a concern. ii. It is also treated as an essential tool for measuring the profitability and managerial efficiency of a concern. iii. It is considered as the most important tool for measuring the operating activity of a concern. iv. It is treated as one of the most important tool for the Capital Structure Analysis of a concern. v. It summarizes the large number of quantitative Accounting Data by calculating the different Ratios. vi. It relates the present accounting information with the past. vii. It helps the management to prepare the necessary Budget and to formulate the future policies. viii. An effective inter- and intra-firm comparison of Accounting Data can be done with the help of Ratio Analysis. ix. It helps the management to analyse the probable relationship between different accounting items through proper scrutiny and also to analyse the past performances. x. It is considered essential for coordinating the various functional machineries of an enterprise. xi. It is very much useful for estimating the Working Capital requirement and also for maintaining a reasonable balance between the purchases and sales of a business. xii. It provides the necessary information to all the interested parties in and around the concern. xiii. It provides necessary information to the management for future Decision Making. xiv. It indicates the efficiency level as regards to the proper utilization of assets of the business. 3.9 LIMITATIONS OF RATIO ANALYSIS Following are the drawbacks or limitations of Ratio Analysis: i. It depends on the data supplied from the process of Financial Accounting, and if those data are incorrect, information obtained from the Ratio Analysis cannot be relied upon. ii. Ratio Analysis may tend to interpret the wrong direction if it is based on unauthenticated data.

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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iii. As the Ratios are calculated on the basis of the past results, a proper prediction for future may not always be dependable. iv. A Single Ratio calculated for any functional area of a business does not convey its conclusive state. A series of Ratios is needed to get any conclusive idea about that area of the business. v. It is formulated on the basis of historical figures as obtained from the Financial Statements. Performance of a concern based on the historical data does not always indicate its present real condition. vi. The Price Level changes very often distort the Trend Analysis process, which is done with the help of various Ratios calculated in the process of Ratio Analysis. vii. Generally, different firms follow different accounting principles and policies. Under such a circumstance, inter-firm comparison with the help of Ratio Analysis process does not exhibit a real picture at all. Inter-firm comparison with the help of Ratio Analysis process only becomes effective when the concerned firms follow the uniform accounting principles and policies. viii. Intra-firm comparison through the process of Ratio Analysis may also be proved worthless if the uniform accounting principles and policies are not observed in different units of the same concern. ix. Some special events may not be disclosed through the process of Ratio Analysis, for example, debentures might be maturing very shortly for repayment, which cannot be identified from the Ratios. x. The Ratios should be studied in the proper context. To have a practical experience and thorough knowledge about the particular industry are very much essential for an effective Ratio Analysis. Otherwise, it may prove to be absolutely worthless. xi. Ratio Analysis may be a very useful tool in the hands of an expert analyst, but is not so in the hands of common persons. 3.10 PARTIES INTERESTED IN RATIO ANALYSIS Following parties are generally interested in Ratio Analysis, in and around a concern, for different reasons as follows: i. Shareholders: Interested in the rate of return on capital, that is, Gross Profit (GP) Ratio, Net Profit Ratio and Earnings per Share (EPS), which are again sub-divided as: (i) Primary EPS; (ii) Diluted EPS; (iii) Dividends per Share (DPS); etc. ii. Debentureholders: Interested in the Profit Earning Capacity and solvency of the business. iii. Creditors: Interested in the interest cover, solvency and liquidity of the business. iv. Bankers: Interested in solvency, liquidity and interest cover, i.e., in Current Ratio, Liquid Ratio, Interest Coverage Ratio, etc. v. Management: Interested in profitability, efficiency, production, capacity utilization, etc.—i.e., in Stock Turnover Ratio, Turnover to Capital Employed, Turnover to Fixed Assets, etc. vi. Government: Interested in profitability, capacity utilization, solvency, etc. 3.11 DIFFERENT KINDS OF RATIOS OR CLASSIFICATION OF RATIOS Accounting Ratios may be broadly classified into the following categories: i. Balance Sheet Ratios: Ratios calculated from the different items as appearing in the Balance Sheet of a concern are called Balance Sheet Ratios, e.g., Current Ratio, Liquid Ratio, Proprietary Ratio, Capital Gearing Ratio, Debt-Equity Ratio, etc. ii. Revenue Statement Ratios: Ratios calculated from the different items as appearing in the Profit & Loss A/c of a concern are called Revenue Statement Ratios, e.g., GP Ratio, Net Profit Ratio, Operating Ratio, Stock Turnover Ratio, etc. iii. Mixed or Composite Ratios: Ratios calculated taking some items as appearing in the Balance Sheet and taking some items as appearing in the Profit & Loss A/c are called Mixed or Composite Ratios, e.g., Return on Net Worth, Return on Investment (ROI), Capital Turnover Ratio, Debtors’/Creditors’ Turnover/Velocity Ratio, Fixed Asset Turnover Ratio, Turnover of Total Assets, etc.

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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3.12 STANDARD OR IDEAL RATIO For the purpose of Ratio Analysis, it is essential to compare the actual Ratios as computed with some predetermined Standard or Ideal Ratios, any deviation from which is identified as the positive or negative feature of the business, as the case may be. Therefore, a Standard or Ideal Ratio is a predetermined calculated Ratio, which is considered to be normal or standard, or which is the most meaningful or significant, or which is the most effectively applicable universally to different industries under different times. For identifying the strength or weakness of the business, the actual Ratios are compared with these standard or Ideal Ratios. Hence, the Standard Ratios are the yardstick for the determination of strength or weakness of a firm, and the significance of an Accounting Ratio is highly increased when it is compared with the predetermined relevant standard Ratio. It should be noted that calculation of such Standard/Ideal Ratio is really a very difficult task due to a number of external and internal factors. Tutorial Note Ratios are computed taking various data from the Financial Statements. For this purpose, Financial Statements mean the Balance Sheet and the Profit & Loss A/c (i.e., Revenue Statement). Ratios calculated taking different data from the Balance Sheet are called ‘Balance Sheet Ratios,’ Ratios calculated taking different data from the Profit & Loss A/c are called Revenue Statement Ratios and Ratios calculated taking some data from the Profit & Loss A/c and the remaining data from the Balance Sheet are called Mixed or Composite Ratios. For an easy understanding of the topic, students should have a crystal-clear idea about the composition of the Balance Sheet. Different forms of a company Balance Sheet, its composition and its miniature presentation are discussed in the following under Para 3.13. Students are advised to follow this part of the topic very carefully to gather a conceptual idea about Ratio Analysis.

3.13 COMPUTATION OF PROPRIETORS’ FUND, CAPITAL EMPLOYED, WORKING CAPITAL Ratios are calculated taking different Accounting Data from the Financial Statements. For a better understanding of Accounting Ratios, it is very much essential to have a clear concept as regards to the Balance Sheet of a company. The proforma of a company Balance Sheet as given in the Schedule VI of the Companies Act is shown as follows: Balance Sheet of a company Amount Rs.

Liabilities Issued & Subscribed Share Capital:

      

Equity Share Capital Preference Share Capital Reserves & Surplus Securities Premium Capital Reserve General Reserve Profit & Loss A/c Secured Loan Debentures Mortgage Loan Unsecured Loan Loan from Bank [without Security]

  

Assets Fixed Assets Goodwill Land & Building Plant & Machinery Furniture & Fixture Investments Investment in Government Securities Investment in Shares of Other Companies Current Assets, Loans & Advances Stock Sundry Debtors Cash at Bank Cash in Hand

Amount Rs.    

 

    (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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Amount Rs.

Liabilities Current Liabilities & Provisions Bills Receivable Sundry Creditors Bills Payable Provision for Taxation

   

Amount Rs.

Assets

Miscellaneous Expenditure Preliminary Expenses Discount on Issue of Shares Profit & Loss A/c

   



While analysing the Accounting Ratios, the investments are not separately identified. If it is of a long termnature, then it can be classified under Fixed Assets. On the other hand, if it is of a short-term nature, then it can be classified under Current Assets. Accordingly, investments are shown either as a part of Fixed Assets or as a part of Current Assets, while ascertaining and analysing the Accounting Ratio, depending upon their nature. As a consequence of the above consideration, the portrait of a company Balance Sheet is slightly changed as compared to the proforma as given under the Schedule VI of the Companies Act. For the purpose of ascertaining and better analysing the Accounting Ratio, the changed portrait of the company Balance Sheet is shown as follows: Balance Sheet of a company Amount Rs.

Liabilities Share Capital: Equity Share Capital Preference Share Capital Reserves & Surplus Secured Loan Unsecured Loan Current Liabilities

Amount Rs. 

Assets Fixed Assets

      

Current Assets



Miscellaneous Expenditure Profit & Loss A/c

  

Now, for better understanding of analysis of Accounting Ratio, another form of company Balance Sheet is depicted below, interchanging the sides of some elements of the above Balance Sheet: Amount

Liabilities Add: Less:

Add:

Rs.

Equity Share Capital Reserves & Surplus Miscellaneous Expenditure Profit & Loss A/c [Dr Balance] Equity Shareholders’ Fund Preference-Share Capital Proprietors’ Fund / Net worth Long-term Loans: Secured Loans Unsecured Loan Total Capital Employed

 

 

Assets

Rs.    Less:

Fixed Assets Working Capital: Current Assets Current Liabilities

   

 

Amount Rs.

Amount Rs. 

  

Total Capital Employed



Analysing the above form of Balance Sheet, we find some important information as written in the following: i. Equity Shareholders’ Fund = Equity Share Capital + Reserves & Surplus – Miscellaneous Expenditure – Profit & Loss A/c (Debit Balance). ii. Proprietors’ Fund or Net worth or Shareholders’ Fund or Owners’ Fund

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

iii. iv. v. vi. vii. viii.

= Equity Shareholders’ Fund + Preference Share Capital = [Equity Share Capital + Reserves & Surplus – Miscellaneous Expenditure – Profit & Loss A/c (Dr Balance)] + Preference Share Capital. = (Equity Share Capital + Preference Share Capital) + Reserves & Surplus – Miscellaneous Expenditure – Profit & Loss A/c = (Total) Share Capital + Reserves & Surplus – Miscellaneous Expenditure – Profit & Loss A/c (Dr) Total Long-term Loan or Debt Capital or Loan Capital = Secured Loan + Unsecured Loan. Total Capital Employed = Proprietors’ Fund or Net worth + Total long-term Loan or Debt Capital As in a Balance Sheet, the Total of Asset side = Total of Liability side Total Capital Employed = Fixed Assets (FAs) + Working Capital (WC) Working Capital (WC) = Current Assets (CAs) – Current Liabilities (CLs) Total Capital Employed = Proprietors’ Fund + Long-term loan = Fixed Assets + Working Capital Gist of a company Balance Sheet (i.e., Ultimate Balance Sheet Equation): Proprietors’ Fund + Long-term Loan = Fixed Asset + Working Capital

Stop and Think Ultimate Balance Sheet equation (i.e. Net worth + Long-term Loan = Fixed Assets + Working Capital) as shown earlier is very much effective for interpretation of various Balance Sheet Ratios and also for preparation of Balance Sheet from the given ratios.

Illustration Following is the Balance Sheet of a company as on 31 March 2009: Liabilities Equity Share Capital Preference Share Capital Reserves & Surplus 11% Mortgage Loan 10% Debentures Sundry Creditors Bank Overdraft Prereceived Incomes Outstanding Expenses Bills Payable

Rs. 4,00,000 2,00,000 2,50,000 1,00,000 2,00,000 80,000 50,000 15,000 25,000 30,000

Assets Goodwill Land & Building Plant & Machinery Furniture & Fittings Investment [Long Term] Stock in Trade Sundry Debtors Cash at Bank Cash in Hand Bills Receivable Accrued Incomes Prepaid Expenses Discount on Issue of Shares Preliminary Expenses

Rs. 1,00,000 3,50,000 2,50,000 2,00,000 1,00,000 70,000 80,000 60,000 30,000 35,000 15,000 10,000 30,000 20,000 13,50,000

13,50,000

Calculate different information from the above Balance Sheet as required for Ratio Analysis and also summarize the Balance Sheet. Solution From the above Balance Sheet, following relevant information can be extracted: 1 . Proprietors’ Fund Rs. Equity Share Capital Preference Share Capital Total Share Capital

Rs. 4,00,000 2,00,000 6,00,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

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Rs. Add:

Reserves & Surplus

Less:

Miscellaneous Expenditure: Discount on Issue of Shares Preliminary Expenses

30,000 20,000

Rs. 2,50,000 8,50,000

Proprietors’ Fund

50,000 8,00,000

Total Long-term Loan

Rs. 1,00,000 2,00,000 3,00,000

2. Long-term Loan 11% Mortgage Loan 10% Debentures

3. Fixed Assets Rs. 1,00,000 3,50,000 2,50,000 2,00,000 1,00,000 10,00,000

Goodwill Land & Building Plant & Machinery Furniture & Fittings Investment [Long Term] Total Fixed Assets

4. Working Capital Rs. Total Current Assets: Stock in Trade Sundry Debtors Cash at Bank Cash in Hand Bills Receivable Accrued Incomes Prepaid Expenses Less:

Rs. 70,000 80,000 60,000 30,000 35,000 15,000 10,000 3,00,000

Total Current Liabilities: Sundry Creditors Bank Overdraft Prereceived Incomes Outstanding Expenses Bills Payable

80,000 50,000 15,000 25,000 30,000 Working Capital

2,00,000 1,00,000

Now, the given Balance Sheet can be summarized as follows: Balance Sheet as on 31 March 2009 Liabilities Proprietors’ Fund Long-term Loan Total Capital Employed

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Rs. 8,00,000 3,00,000 11,00,000

Assets Fixed Assets Working Capital Total Capital Employed

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rs. 10,00,000 1,00,000 11,00,000

Rev II

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3.14 CALCULATION AND INTERPRETATION OF VARIOUS RATIOS 3.14.1 Balance Sheet Ratios (Ratios as ascertained from various items of the Balance Sheet) 1. Current Ratio Current Assets (CA) Current Ratio = Current Liabilities (CL) Notes: i. This Ratio indicates whether an enterprise possesses sufficient Current Assets to pay off its Current Liabilities. This Ratio is an indicator of short-term solvency or liquidity position of an enterprise. ii. Conventional standard or Ideal Ratio is 2 : 1, i.e., the enterprise should have twice the Current Assets than the Current Liabilities, to exhibit ideal short-term solvency position. iii. As CAs – CLs = WC. This Ratio is also called Working Capital Ratio and it indicates the quantum of the Working Capital (WC) of an enterprise. iv. Current Assets = Stock + Debtors + Cash at Bank + Cash in Hand + Prepaid Expenses + Accrued incomes, etc v. Current Liabilities = Creditors + Bills Payable + Outstanding Expenses + Prereceived Incomes + Bank Overdraft, etc 2. Liquid/Quick/Acid Test Ratio Liquid/Quick/Acid Test Ratio = =

Liquid/Quick Assets Liquid/Quick Liabilities Current Asset–Stock Current Liabilities–Bank Overdraft

Notes: i. This Ratio indicates whether an enterprise possesses sufficient liquid/quick assets to pay off its liquid/quick liabilities. This Ratio is an indicator of the liquidity position of an enterprise. ii. Liquid or Quick asset means the asset which is receivable within a financial year during which it comes into existence and more easily convertible into cash. ∴ Liquid/Quick Assets = Current Assets − Stock iii. Liquid or Quick Liability means the Liability which is payable within a financial year and more quickly payable in cash. ∴ Liquid/Quick Liabilities = Current Liabilities − Bank Overdraft iv. Conventional standard or Ideal Ratio is at least 1:1, i.e., an enterprise should have at least an equal amount of liquid/quick assets to pay off its liquid/quick liabilities. 3. Proprietary Ratio or Net Worth to Total Assets Proprietary Ratio =

Proprietors’ Fund Total Assets

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

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Notes: i. The Standard or Ideal Ratio may be considered in between 0.75. and 1. ii. Proprietors’ Fund = Net Worth = Share Capital + Reserves & Surplus – Miscellaneous Expenditure – Profit & Loss A/c (Dr) iii. Total Assets = Fixed Assets + Current Assets iv. This Ratio indicates the portion of Total Assets acquired out of Shareholders’ Fund. This is an indicator of the efficiency of the management regarding formulation of financial planning. 4. Fixed Asset Proprietorship Ratio or FAs to Net Worth Fixed Asset Proprietorship Ratio =

Fixed Assets Proprietors’ Fund

Notes: i. This Ratio indicates the portion of Proprietors’ Fund or Shareholders’ Fund invested in Fixed Assets. It is also an indicator of the efficiency of the management regarding the formulation of the financial planning. ii. Proprietors’ Fund = Net Worth = Share Capital + Reserves & Surplus – Miscellaneous Expenditure – Profit & Loss A/c (Dr) 5. Debt-Equity Ratio This Ratio may be expressed in different manner as written in the following: Debt i. Debt-Equity Ratio = Equity Debt Capital Long-term Loan = = Shareholders’ equity Proprietors’ Fund ii. Debt-Equity Ratio = = = iii. Debt-Equity Ratio = =

Debt Debt + Equity Long-term Loan Long-term Loan + Proprietors’ Fund Long-term Loan Capital Employed Total Debt Shareholders’ Equity Long-term Debt + Short-term Debt Proprietors’ Fund

Notes: i. Out of the above three expressions of Debt-Equity Ratio, the expression written under (a) above is commonly followed. ii. This Ratio indicates the proportion of Debt Capital and Owners’ Capital included in the Capital Structure. This is an indicator of the Capital Structure of an enterprise. It also shows the efficiency of the management in financial planning.

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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iii. Standard or Ideal Ratio (for the expression (a) above) is 1:2, i.e., an enterprise should have twice their own capital than the debt capital. iv. Long-term Debt = Secured & Unsecured long-term Loans v. Short-term Debt = Current Liabilities 6. Capital Gearing Ratio This Ratio may also be expressed in different manner as written in the following: i. Capital Gearing Ratio =

=

Fixed Interest Bearing Securities Ordinary Securities Preference Share Capital + Long-term Loan Equity Shareholders’ Fund

ii. Capital Gearing Ratio =

Preference Share Capital + Debentures Equity Share Capital

iii. Capital Gearing Ratio =

Preference Share Capital Equity Share Capital

Notes: i. Equity Shareholders’ Fund = Equity Share Capital + Reserves & Surplus – Miscellaneous Expenditure – Profit & Loss A/c (Dr) ii. This Ratio indicates the proportion of debentures and preference Share Capital (i.e., fixed interest bearing securities) included in the Capital Structure of an enterprise. It is also an indicator of the degree of risk involved in the total Capital Employed in the business. iii. Standard or Ideal Ratio (for the express written in (a) above) is 1:2, i.e., an enterprise should have twice the ordinary securities than the Fixed Interest Bearing securities. iv. Out of the above three expressions, the expression as written in (a) is commonly used. 7. Fixed Asset Ratio Fixed Asset Ratio =

Fixed Assets Capital Employed

Notes: i. This Ratio indicates the proportion of the total Capital Employed that is invested in the Fixed Assets of an enterprise. This is also an indicator of the managerial efficiency of the enterprise. ii. Capital Employed = Proprietors’ Fund + Long-term Loan = Fixed Assets + Working Capital 8. Share Capital to Reserves and Surplus Share Capital to Reserves and Surplus =

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Share Capital Reserve & Surplus

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

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Notes: i. This Ratio indicates the proportion of Reserves and Surplus that is included in the fund invested by the shareholders (i.e. Proprietors’ Fund) in the business. ii. Higher Ratio indicates a lesser amount of Reserves and Surplus that is included in the Proprietors’ Fund. 3.14.2 Revenue Statement Ratio (Ratios as ascertained from the various items of the Profit & Loss A/c) 1. Gross Profit Ratio: Gross Profit Ratio (GP Ratio) =

Gross Profit × 100 Net Sales

Notes: i. ii. iii. iv.

GP = Sales – Cost of Goods Sold (CGS) Net Sales = Total Sales – Sales Return Normally, this Ratio is expressed as a percentage. This Ratio indicates the direct or the trading profitability of an enterprise. By means of GP Ratio, the amount and rate of profit earned by an enterprise from its trading activity can be known. Higher Ratio expresses a better direct profitability of the concern.

2. Net Profit Ratio Net Profit Ratio (NP Ratio) =

Net Profit after Tax × 100 Net Sales

Notes: i. ii. iii. iv.

Net Profit after Tax (profit after tax) = Net Profit before Tax (Profit before Tax) – Provision for Tax Net Sales = Total Sales – Sales Return Normally, this Ratio is expressed as a percentage. This Ratio indicates the total profitability of an enterprise. By means of NP Ratio, the amount and rate of total profit earned by an enterprise from its all activities including trading activity can be known. The higher Ratio exhibits the better profitability position of the enterprise.

3. Operating Ratio Notes: i. This Ratio is also expressed as a percentage. ii. This Ratio indicates the percentage of the total operating expenses included in the sales. In other words, this is an indicator of the total operating expenses incurred for production and sales of goods with respect to the selling price of those goods. 4. Operating Profit Ratio Operating Profit Ratio =

Operating Profit × 100 Net Sales

Notes: i. Operating Profit (i.e., EBIT) = Net Profit before Interest and Tax + Non-operating Expenses Debited to Profit & Loss A/c − Non-operating Incomes credited to Profit & Loss A/c ii. Net Sales = Total Sales – Sales Return

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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iii. Normally, this Ratio is expressed as a percentage. iv. This Ratio indicates the operating profitability of an enterprise. By means of Operating Ratio, the amount and rate of profit earned by an enterprise from its operating/trading activity can be known. Higher Ratio exhibits a better operating profitability position of the enterprise. 5. Stock Turnover Ratio or Stock Velocity Ratio Stock Turnover/Stock Velocity Ratio =

Cost of Goods Sold Average Stock

Notes: i. Cost of Goods Sold (CGS) = Sales – GP Opening Stock + Closing Stock 2 iii. Where the CGS cannot be ascertained, it may be replaced by sales, i.e., in the absence of adequate Sales . information regarding the CGS, the Ratio may be taken as Average Stock iv. In the absence of an adequate information as regards to the Opening Stock, it should be assumed that, Closing Stock = Opening Stock. In that circumstance, ii. Average Stock =

Closing Stock + Closing Stock 2 2 Closing Stock = = Closing Stocks 2 v. Where this is given in terms of Ratio or number or times, the problem can directly be solved with the help of the formula as given above. But, where this is given in terms of period (i.e., months or weeks or days), the problem can be solved with the help of the formula as given above after converting the given period in terms of Ratio or number or times as follows: 12 months 52 weeks 365 days or or Given months Given weeks Given days Average Stock =

vi. This Ratio indicates the movement of stock during a particular period. In other words, it indicates how fast goods are sold out from the stock of those goods. Higher Ratio indicates a faster movement of stock. 6. Contribution–Sales Ratio (i.e., Profit–Volume Ratio or P/V Ratio) Contribution–Sales Ratio =

Contribution × 100 Sales

Notes: i. Contribution = Sales − Variable Cost = Fixed Operating Cost + Operating Profit (or − Operating Loss) ii. It indicates the percentage of contribution included in the sales. iii. Higher ratio indicates a faster profit earning capacity of the business.

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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7. Operating Leverage Operating Leverage =

Contribution EBIT

Notes: i. Contribution = Sales − Variable Cost = Fixed Operating Cost + Operating Profit (i.e., EBIT) ii. EBIT/PBIT = Operating Earnings/Profit before Interest and Tax iii. Operating Leverage measures the relationship between the sales revenue and the Earnings/ Profits before Interest and Tax (EBIT/PBIT), i.e., it measures the effect of change in the Sales Revenue on the level of EBIT (i.e., operating profit). iv. If the Degree of Operating Leverage (DOL) = 1, there is no operating leverage, i.e., no fixed operating cost. The value of DOL must be greater than 1 for identifying the fixed operating cost. Higher the Fixed Costs in relation to the Variable Costs, greater would be the DOL. 8. Financial Leverage Financial Leverage =

EBIT EBT

Notes: i. EBT/PBT = Operating Earnings/Profit after Interest but before Tax ii. EBIT/PBIT = Operating Earnings/Profits before Interest and Tax iii. Financial leverage measures the relationship between the EBIT and the EPS, and it reflects the effect of changes in EBIT on the level of EPS, i.e., it measures the responsiveness of the EPS to a change in EBIT. iv. If the Degree of Financial Leverage (DFL) = 1, there is no Financial Leverage, i.e., no Fixed Financial charges in the form of interest on loan. The value of DFL must be greater than 1 for identifying the fixed financial charges. Higher the fixed financial charges, greater would be the DFL. 9. Combined Leverage Combined Leverage =

Contribution EBT

Notes: i. EBT = Operating Earnings/Profits after Interest but before Tax ii. Contribution = Sales − Variable Cost = Fixed Operating Cost + Operating Profit (i.e., EBIT) iii. The total risk involved in a firm can be determined by combining the operating and financial leverage. Hence, the combined effect of operating and financial leverage provides a risk profile of the firm. Higher Degree of Combined Leverage (DCL) indicates a greater risk of the business, i.e., existence of greater amount of fixed operating and financial charges. 10. Interest Coverage Ratio Interest Coverage Ratio =

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

EBIT Interest

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

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Notes: i. Interest = Annual interest paid/Payable against Debt Capital ii. EBIT /PBIT = Earnings/Profits before Interest and Tax iii. This ratio indicates the proportion of interest paid out of the profit earned. Higher ratio signifies a lesser amount of profit paid as interest and lower ratio signifies a higher amount of profit paid as interest. 11. Dividend Coverage Ratio Dividend Coverage Ratio =

EAT Total Dividend

Notes: i. EAT = Earnings/Profits after Tax ii. Total Dividend = Preference and Equity Dividend paid/payable for a year iii. This Ratio indicates the proportion of total dividend paid out of the profit earned. Higher ratio signifies a lesser amount of profit paid as dividend and Lower ratio signifies a higher amount of profit paid as dividend. 3.14.3 Mixed or Composite Ratio (Ratio ascertained taking some items from the Balance Sheet and some other items from the Profit & Loss A/c) 1. Debtors’ Velocity Ratio or Debtors’ Turnover Ratio Debtors’ Velocity/Debtors’ Turnover Ratio =

Net Credit Sales Receivables

Notes: i. Receivables = Trade Debtors + Bills Receivable ii. Net Credit Sales = Total Credit Sales – Sales Return iii. Where this is given in terms of ratio or number or times, the problem can directly be solved with the help of the formula as given above. But, where this is given in terms of period (i.e., months or weeks or days, which is called ‘average collection period’), the problem can be solved with the help of the same formula as given above, by converting the given period in terms of Ratio as shown in the following: 365 days 12 months 52 weeks or or Given months Given months Given months iv. This ratio indicates the debt collection (against the credit sales) policy of an enterprise. This is an indicator of the credit period allowed to Trade Debtors. Generally, the credit period allowed to Trade Debtors should not be beyond 3 months to avoid the risk of bad debt. 2. Creditors’ Velocity Ratio / Creditors’ Turnover Ratio Creditors’ Velocity/Creditors’ Turnover Ratio =

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Net Credit Purchases Payables

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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Notes: i. Net Credit Purchases = Total Credit Purchases – Purchases Return ii. Payables = Trade Creditors – Bills Payable iii. Where this is given in terms of Ratio or number or times, the problem can directly be solved with the help of the formula as given above. But where this is given in terms of period (i.e., months or weeks or days, which is called ‘average payment period’), the problem can be solved with the help of the same formula as given above by converting the given period in terms of Ratio as shown in the following: 12 months 52 weeks 365 days or or Given months Given months Given months iv. This ratio indicates the debt payment (against the credit purchases) policy of an enterprise. This is an indicator of the credit period received from the trade creditors. Generally, the credit period received from trade creditors will be 2 months. 3. Fixed Asset Turnover Ratio or Turnover of Fixed Asset Turnover Fixed Asset Turnover Ratio = Fixed Assets Notes: i. Turnover = Sales ii. This ratio indicates the extent of the utilization of Fixed Assets in the trading activities of an enterprise. It is an indicator of the managerial efficiency in the operating activities. The higher Ratio exhibits a longer stability of the trading activity of the enterprise. 4. Working Capital Turnover Ratio or Turnover of Working Capital Cost of Good Sold Working Capital Turnover Ratio = Working Capital Notes: i. Cost of Goods Sold (CGS) = Sales – Gross Profit (GP) ii. Working Capital = Current Assets – Current Liabilities iii. This ratio indicates the level of efficiency of the management in the operating activity of an enterprise. It exhibits the relationship between the CGS during a particular period and the WC in the hands of the enterprise at the end of that period. This ratio measures the extent of the utilization of the WC in the operating activity. 5. Total Asset Turnover Ratio or Turnover of Total Assets Turnover (i.e. Sales) Total Asset Turnover Ratio= Total Assets Notes: i. Total Assets = Fixed Assets + Current Assets ii. This ratio indicates the extent of utilization of Total Assets in the operating activity of an enterprise. 6. Capital Turnover Ratio or Turnover of Capital Employed Turnover Capital Turnover Ratio = Capital Employed

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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Notes: i. Capital Employed = Proprietors’ Fund + Long-term Loan ii. This ratio indicates the extent of utilization of the Capital Employed in the business in its operating activity. Higher the Ratio, larger is the return on the Capital Employed in the trading/ operating activity. 7. Return on Capital Employed or Return on Investment Net Profit before Interest & Tax Return on Capital Employed = × 100 Capital Employed Notes: i. It is normally expressed as a percentage. ii. It indicates the rate of return earned by an enterprise from its total Capital Employed in the business. It is also an indicator of the profit earning capacity of an enterprise. A higher return reveals a better profitability on the total Capital Employed in the business. iii. Net Profit before interest and tax = NP as ascertained after comparing all the revenue incomes with all the Revenue Expenses except interest on loan and provision for Income Tax iv. Capital Employed = Proprietors’ Fund + Long-term Loan 8. Return on Shareholders’ Fund or Return on Net Worth Net Profit after Interest & Tax Return on Net Worth = × 100 Net Worth Notes: i. It is normally expressed as a percentage. ii. It indicates the rate of return earned by an enterprise on the capital invested by its owners. This is an indicator of the rate of return on the shareholders’ fund invested in the business. The higher return reveals the better profitability position to the shareholders’ of the enterprise. iii. Net worth = Proprietors’ Fund = Shareholders’ Fund = Share Capital + Reserves & Surplus – Miscellaneous Expenses – Profit & Loss A/c (Dr) 9. Return on Equity Shareholders’ Fund Return on Equity Shareholders’ Fund =

Net Profit after Interest, Tax & Preference Dividend × 100 Equity Shareholders’ Fund

Notes: i. Net Profit after Interest, Tax and Preference Dividend = Net Profit after Interest and Tax – Preference Dividend ii. Equity Shareholders’ Fund = Equity Share Capital + Reserves & Surplus – Miscellaneous Expenses – Profit & Loss A/c (Dr) iii. It is normally expressed as a percentage iv. It indicates the rate of return earned by an enterprise on the capital that is invested by the Equity Shareholders of the enterprise. This is an indicator of the rate of Return on Equity Shareholders’ Fund. The higher return reveals the better profitability position to the Equity Shareholders. 10. Earnings per Share Earning per Share (EPS) =

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Net Profit after Tax & Preference Dividend No. of Equity Shares

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

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Notes: i. Net Profit after Tax and Preference Dividend = Earnings after Tax (EAT) – Preference Dividend. ii. This Ratio is an indicator of the amount of revenue profit of the concern that goes to each equity share. More clearly, it indicates the quantum of earnings of the company that is receivable by each equity share. iii. As per Accounting Standard 20 (AS 20), EPS is divided into two parts: (a) Primary/Basic EPS and (b) Diluted EPS. Primary NP Attributable to Equity Shareholders a. = Basic EPS Average Number of Equity Shares Outstanding b. Diluted EPS =

Adjusted NP attributable to Equity Shareholders Adjusted Weighted Average Number of Shares Outstanding

11. Dividends per Share Dividend per Share (DPS) =

Total Equity Dividend for a year No. of Equity Shares

Notes: i. This Ratio is an indicator of the amount of dividend payable against each equity share. More clearly, it indicates the quantum of dividend distributed/distributable to each equity share. 12. Dividend Payout Ratio Dividend Payout Ratio (D/P Ratio) =

DPS × 100 EPS

Notes: i. DPS = Dividends per Share (equity) ii. EPS = Earnings per Share (equity) iii. This Ratio is an indicator of the percentage of earning of the concern distributed as dividend among the shareholders (equity). D/P Ratio varies from 0% to 100%. When the D/P Ratio is 0%, it indicates that no dividend is declared out of the earning for a year. On the other hand, when the D/P Ratio is 0%, it indicates that the entire earning for a year is distributed as a dividend. Therefore, a higher ratio signifies a higher amount of dividend and a lower ratio indicates a lesser amount of dividend. 13. Price Earning Ratio Price Earning Ratio (P/E Ratio) =

MPS × 100 EPS

Notes: i. MPS = Market Price per Share (equity) ii. EPS = Earnings per Share (Equity) iii. This Ratio is an indicator of the relationship between the prevailing MPS and the earning of a concern that currently goes to each share. In other words, it indicates the relationship between the investment against each share and the earning from each share. 14. Debt Service Coverage Ratio Debt Service Coverage Ratio =

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Cash Profit before Interest & Tax Interest on Loan + Instalment of Loan Due

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

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Notes: i. Cash Profit before interest and tax = Net Profit (NP) + All non-cash items debited to Profit & Loss A/c − All non-cash items credited to Profit & Loss A/c + Interest on Loan + Tax ii. This Ratio is an indicator of firm’s ability to pay the instalment due on loan and interest on loan, out of its cash profit earned during a year. Higher Ratio signifies the greater ability of the firm to pay the instalment due on loan and interest on loan, out of its cash profit earned during a year. 3.15 DU PONT ANALYSIS Return on Investment (ROI) or Return on Total Assets represents the earning capacity of an enterprise and is the most vital Ratio for evaluating the profit earning position of the enterprise. ROI or Return on Total Assets is nothing but the combination of two other very important Ratios—one is the Net Profit (NP) Ratio and the other is the Total Asset Turnover Ratio. If either of these two Ratios changes, there would be a consequent change in ROI. ROI is expressed as follows: Return on Investment (ROI) or Return on Total Assets = NP Ratio × Total Asset Turnover Ratio Net Profit after Tax (EAT) Sales = × Sales Total Assets =

Net Profit after Tax (EAT) Total Assets

On the other hand, financial leverage multiplier (FLM) represents the extent of the Total Assets of an enterprise that is contributed by the equity shareholders. In other words, FLM shows the proportion of the Total Assets of an enterprise that are acquired out of Equity Shareholders’ Fund. FLM is expressed as follows: Total Assets Financial Leverage Multiplier (FLM) = Equity Shareholders’Fund Combining ROI and FLM, return on equity (ROE) can be derived as follows: ROE = ROI × FLM = =

Net Profit after Tax (EAT) Total Assets

×

Total Assets Equity Shareholders’ Fund

Net Profit after Tax (EAT) Equity Shareholders’ Fund

Du Pont system of financial analysis is one of the most effective technique of earning capacity or profitability analysis of an enterprise. Under this system of financial analysis, ROI is defined as the product of the NP Ratio and the Total Asset Turnover Ratio (as shown in the above equation). On the other hand, FLM is defined as the Total Assets divided by Equity Shareholders’ Fund (as shown above). Combining these two, ROE is derived (as also shown in the same). Under Du Pont Analysis, various factors which influence ROE (as well as ROI) are diagrammatically exhibited with the help of a chart, which is popularly known as Du Pont Chart, as it was firstly developed and applied by Du Pont Company of the United States, in its annual report. Du Pont Analysis enables the enterprise to break its ROE into three major components, in order to identify the area that is responsible for the profit-earning capacity of the enterprise. These three components are: profit on sales (i.e., Net Profit Ratio), efficient use of assets (i.e., Total Asset Turnover Ratio) and use of leverage in the Capital Structure (i.e., Financial Leverage Multiplier). Effect of these three components on ROE of an enterprise is expressed as follows: ROE = (Net Profit Ratio × Total Asset Turnover Ratio) × FLM = ROI × FLM

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

Break-up representation of ROE, as exhibited in detail by the Du Pont Chart, is depicted in Figure 3.1. Du Pont Chart Return on Equity (ROE)

×

Return on Investment (ROI)

×

Net Profit Ratio

Profit after Tax (PAT)

÷

Sales

Sales – (Cost of Goods Sold + Operating Expenses + Interest + Tax)

Financial Leverage Multiplier (FLM)

Total Assets Turnover Ratio

÷

Sales

Fixed Assets

Total Assets = Total Liabilities

÷

Equity Shareholders’ Fund

Total Outside Liabilities

+

Equity Shareholders’ Fund

Total Assets

+

Current Assets

Long-term Liabilities

+

Current Liabilities

Balance Sheet

Income/Revenue Statement

Figure 3.1

Du Pont Chart

Du Pont system of Financial Analysis breaks down the Financial Statements into two parts, namely, Income/ Revenue Statement and Balance Sheet, for the purpose of the assessment of the earning capacity of an enterprise. For this purpose, two different profitability Ratios, namely ROE and ROI, are calculated by taking various financial informations from the Financial Statements (i.e., Income/Revenue Statement and Balance Sheet). 3.16 RATIOS TO BE USED IN DETERMINING SOLVENCY, PERFORMANCE, MANAGERIAL EFFICIENCY ETC. OF AN ENTERPRISE i. For Liquidity or Short-term Solvency: Current Ratio and Liquid Ratio. ii. For Profitability: Gross Profit Ratio, Net Profit Ratio, Operating Ratio, Operating Profit Ratio, Return on Capital Employed, Return on Net Worth, Return on Equity Shareholders’ Fund, Earnings per Share, Dividend Coverage Ratio, Financial Leverage and Interest Coverage Ratio. iii. For Capital Structure Analysis: Debt-Equity Ratio, Capital Gearing Ratio, Fixed Asset Proprietorship Ratio, Proprietary Ratio, Net Worth to Total Liabilities, and Share Capital to Reserves and Surplus. iv. For Long-term Solvency: Proprietary Ratio, Fixed Asset Proprietorship Ratio, Debt-Equity Ratio, Total Outside Liabilities to Net Worth, Interest Coverage Ratio and Debt Service Coverage Ratio.

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

77

v. To measure the activity of the enterprise: Stock Turnover Ratio, Debtors’ Turnover Ratio, Creditors’ Turnover Ratio, Fixed Asset Turnover Ratio, Capital Turnover Ratio, Working Capital Turnover Ratio and Operating Leverage. vi. To evaluate the managerial efficiency: GP Ratio, NP Ratio, return on the Capital Employed, Fixed Asset Turnover Ratio, Stock Turnover Ratio, debtors’ turnover Ratio, creditors’ turnover Ratio, Capital Turnover Ratio, return on net worth, ROE Shareholders’ Fund, EPS, DPS, D/P Ratio and Price Earning Ratio. 3.17 DIFFERENT RATIOS AT GLANCE i. Balance Sheet Ratios: a. Current Ratio =

Current Assets Current Liabilities

Current Assets − Stock b. Liquid/Quick/Acid Test Ratio= Current Liabilities − Bank Overdraft c. Proprietary Ratio =

Proprietors’ Fund Total Sssets

d. Fixed Asset Proprietorship ratio = e. Debt-Equity Ratio =

Fixed Assets Proprietors’ Fund

Long-term Loan Proprietors’ Fund

f. Capital Gearing Ratio = Preference Share Capital + Long-term Loans Equity Shareholders’ Fund g. Fixed Asset Ratio =

Fixed Assets Proprietors’ Fund

h. Share Capital to Reserves and Surplus =

Share Capital Reserves & Surplus

ii. Revenue Statement Ratios: Gross Profit a. Gross Profit Ratio = × 100 Sales Net Profit after Tax × 100 b. Net Profit Ratio = Sales (Cost of Good Sold + Other Operating Expenses) × 100 Sales Cost of Goods Sold d. Stock Turnover/Velocity Ratio = Average Stock Operating Profit e. Operating Profit Ratio = × 100 Net Sales Contribution f. Contribution Sales Ratio (i.e., P/V Ratio) = × 100 Sales c. Operating Ratio =

g. Operating Leverage =

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Contribution EBIT

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

h. Financial Leverage =

EBIT EBT

Contribution EBT EBT j. Interest Coverage Ratio = Interest EAT k. Dividend Coverage Ratio = Total dividend i. Combined Leverage =

iii. Mixed/Composite Ratio: a. Debtors’ Velocity/Turnover Ratio= Credit Sales Receivables b. Creditors’ Velocity/Turnover Ratio= Credit Purchases Payables Turnover c. Fixed Asset Turnover Ratio = Fixed Assets d. Working Capital Turnover Ratio = e. Total Asset Turnover Ratio = f. Capital Turnover Ratio =

Cost of Goods Sold Working Capital

Turnover Total Assets

Turnover Capital Employed

g. Return on Capital Employed/Investment= Net Profit before Interest & Tax ×100 Capital Employed Net Profit after interest & Tax × 100 h. Return on Net Worth = Net Worth i. Return on Equity Shareholders’ Fund (ROE) Net Profit after interest & Tax − Preference Dividend = × 100 Equity Shareholders’ Fund Net Profit after Tax & Preference Dividend No. of Equity Shares Total Equity Dividend for a year k. Dividends per Share (DPS) = No. of Equity Shares j. Earnings per Share (EPS) =

l. Dividend Payout Ratio (D/P Ratio) = DPS × 100 EPS MPS m. Price Earning Ratio (P/E Ratio) = × 100 EPS n. Debt Service Coverage Ratio =

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Cash Profit before Interest & Tax Interest on Loan + Instalment of Loan Due

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

Tutorial Notes to Students for Solving Problems i. Problems from this chapter may be of two types: (i) Computation of different Ratios and interpretations of results from the given Profit & Loss A/c and Balance Sheet; (ii) Preparation of Profit & Loss A/c and Balance Sheet from the given Ratios. Students should identify first their target on the basis of the given information in the problem. ii. For solving problems from this chapter, students should specially remember the following: a. In any Balance Sheet, the Total of the Asset side = Total of the Liability side b. Gist of a company Balance Sheet or ultimate Balance Sheet equation is: Net Worth + Long-term Loans = Fixed Assets + Working Capital iii. If not otherwise stated in the problem, it must be assumed that there is no deferred expense or Fictitious Asset (i.e., losses under the head ‘Miscellaneous Expenditure’). iv. Difference between the GP and NP in a Profit & Loss A/c represents the ‘Indirect Operating Expenses’ charged to Profit & Loss A/c. v. As many detailed items as practicable of the Profit & Loss A/c and Balance Sheet are to be computed out of the given information in the problem, for the purpose of preparation of the Profit & Loss A/c and the Balance Sheet.

3.18 WORKED-OUT PROBLEMS Problem 1 From the following information as extracted from the books of P Ltd, ascertain the amount of Capital Employed in the business: Rs. 5,00,000 3,00,000 40,000 1,30,000 90,000 30,000 2,00,000 1,00,000 55,000 25,000 30,000 20,000

Equity Share Capital Preference Share Capital Securities Premium General Reserve Profit & Loss A/c (Cr) Capital Reserve 10% Debentures 12% Bank Loan Sundry Creditors Bills Payable Preliminary Expenses Discount on Issue of Shares

Solution Books of P Ltd Statement showing ascertainment of Capital Employed

Add:

Share Capital: Equity Share Capital Preference Share Capital Reserves Surplus: Securities Premium General Reserve Profit & Loss A/c (Cr) Capital Reserve

Rs.

Rs.

5,00,000 3,00,000

8,00,000

40,000 1,30,000 90,000 30,000

2,90,000 10,90,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

Rs. Less:

Add:

Miscellaneous Expenditure: Preliminary Expenses Discount on Issue of Shares Proprietors’ Fund Long-term Loans: 10% Debentures 12% Bank Loan Capital Employed

30,000 20,000

2,00,000 1,00,000

Rs.

50,000 10,40,000

3,00,000 13,40,000

Problem 2 From the following information, ascertain the amount of Capital Employed in the business: Rs. 1,20,000 3,00,000 1,80,000 90,000 80,000 72,000 57,000 43,000 14,000 18,000 6,000 47,000 12,000 11,000 30,000

Goodwill Land & Building Plant & Machinery Furniture & Fixtures 10% Investment [Long Term] Stock in Trade Sundry Debtors Cash at Bank Cash in Hand Bills Receivable Prepaid Expenses Sundry Creditors Bills Payable Outstanding Expenses Bank Overdraft

Solution Books of S Ltd Statement showing ascertainment of Capital Employed Rs.

Rs.

Fixed Assets: Goodwill Land & Building Plant & Machinery Furniture & Fixture 10% Investment [Long Term] Add:

Working Capital: Current Assets: Stock in Trade Sundry Debtors Cash at Bank Cash in Hand Bills Receivable Prepaid Expenses

Rs. 1,20,000 3,00,000 1,80,000 90,000 80,000 7,70,000

72,000 57,000 43,000 14,000 18,000 6,000 2,10,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

Rs. Less:

Current Liabilities: Sundry Creditors Bank Overdraft Bills Payable Outstanding Expenses

Rs.

Rs.

47,000 30,000 12,000 11,000 1,00,000

Capital Employed

1,10,000 8,80,000

Problem 3 Following is the Balance Sheet of Hum Ltd as on 31 March 2006: Liabilities Equity Share Capital Preference Share Capital Reserves & Surplus 12% Mortgage Loan 10% Debentures Sundry Creditors Bills Payable Bank Overdraft Prereceived Incomes Outstanding Expenses

Rs. 2,00,000 1,00,000 1,50,000 80,000 1,20,000 85,000 10,000 75,000 5,000 25,000

Assets Goodwill Land & Building Plant & Machinery Furniture & Fittings Investment [Long-term] Stock in Trade Short-term Investment Sundry Debtors Cash at Bank Cash in Hand Bills Receivable Accrued Incomes Prepaid Expenses Discount on Issue of Shares Preliminary Expenses

Rs. 50,000 2,00,000 1,50,000 30,000 70,000 80,000 40,000 90,000 40,000 25,000 15,000 4,000 6,000 20,000 30,000 8,50,000

8,50,000

Compute: (a) Working Capital; (b) Proprietors’ Fund; (c) Capital Employed; (d) Current Ratio; (e) Acid Test Ratio; (f) Proprietary Ratio; (g) Fixed Asset Proprietorship Ratio; (h) Debt-Equity Ratio; (i) Capital Gearing Ratio and (j) Fixed Asset Ratio. Solution i. Statement showing computation of Working Capital Rs. Total Current Assets: Stock in Trade Short-term Investment Sundry Debtors Cash at Bank Cash in Hand Bills Receivable Accrued Incomes Prepaid Expenses Less:

Total Current Liabilities: Sundry Creditors Bills Payable

Rs. 80,000 40,000 90,000 40,000 25,000 15,000 4,000 6,000 3,00,000

85,000 10,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

Rs. 75,000 5,000 25,000

Bank Overdraft Prereceived Incomes Outstanding Expenses Working Capital

Rs.

2,00,000 1,00,000

ii. Statement showing computation of Proprietors’ Fund Rs.

Add: Less:

Rs. 2,00,000 1,00,000 1,50,000 4,50,000

Equity Share Capital Preference Share Capital Reserves & Surplus Miscellaneous Expenditure: Discount on Issue of Shares Preliminary Expenses Proprietors’ Fund

20,000 30,000

50,000 4,00,000

iii. Statement showing computation of Capital Employed Rs. Add:

Proprietors’ Fund as computed in (b) above Long-term Loans: 12% Mortgage Loan 10% Debentures Capital Employed

80,000 1,20,000

Rs. 4,00,000

2,00,000 6,00,000

Note: Alternatively, Capital Employed may also be computed following a different approach as computed in the following:

Statement showing computation of Capital Employed Rs. Fixed Assets: Goodwill Land & Building Plant & Machinery Furniture & Fitting Investment [Long Term] Add:

Working Capital [as computed in (a) above] Capital Employed

50,000 2,00,000 1,50,000 30,000 70,000 5,00,000 1,00,000 6,00,000

iv. Computation of Current Ratio Current Assets Current Ratio = Current Liabilities Here, Current Assets = Rs. 3,00,000 [as ascertained in (a) above] Current Liabilities = Rs. 2,00,000 [as ascertained in (a) above] ∴Current Ratio = v. Acid Test Ratio =

Rs. 3,00,000 3 = = 1.5 Rs. 2,00,000 2

Current Assets − Stock Current Liabilities − Bank Overdraft

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

=

Rs.3,00,000 − Rs.80,000 Rs.2,00,000 − Rs.75,000

=

Rs.2,20,000 Rs.1,25,000

83

= 1.76

Proprietors’ Fund Total Assets Here, Proprietors’ Fund = Rs. 4,00,000 [as ascertained in (b) above] Total Assets = FAs + CAs = Rs. 5,00,000 [as ascertained in (c) above] + Rs. 3,00,000 = Rs. 8,00,000 Rs. 4,00,000 1 ∴ Proprietary Ratio= = = 0.5 Rs. 8,00,000 2

vi. Proprietary Ratio =

Fixed Assets Proprietors’ Fund Here, FAs = Rs. 5,00,000 [as ascertained in (c) above] Proprietors’ Fund = Rs. 4,00,000 [as ascertained in (b) above] Rs. 5,00,000 5 ∴ Fixed Asset Proprietorship Ratio = = = 1.25 Rs. 4,00,000 4

vii. Fixed Asset Proprietorship Ratio =

Long-term Loan Debt = Equity Proprietors’ Fund Here, Long-term Loan = Rs. 2,00,000 [as ascertained in (h) above] Proprietors’ Fund = Rs. 4,00,000 [as ascertained in (b) above] Rs. 2,00,000 1 Debt-Equity Ratio = = = 0.5 Rs. 4,00,000 2

viii. Debt-Equity Ratio =

Fixed Interest Bearing Securities Ordinary Securities Preference Share Capital + Long-term Loan = Equity Shareholders’ Fund Here, Fixed Interest Bearing securities = Preference Share Capital + 10% Debentures + 12% Mortgage loan = Rs. 1,00,000 + Rs. 1,20,000 + Rs. 80,000 = Rs. 3,00,000 Ordinary securities = Equity Shareholders’ Fund = Proprietors’ Fund – Preference Share Capital = Rs. 4,00,000 [as computed in (b) above] – Rs. 1,00,000 = 3,00,000 Rs. 3,00,000 ∴ Capital Gearing Ratio = =1 Rs. 3,00,000

ix. Capital Gearing Ratio =

x. Fixed Asset Ratio =

Fixed Assets Capital Employed

Here, FAs = Rs. 5,00,000 [as computed in (c) above] Capital Employed = Rs. 6,00,000 [as computed in (c) above] 5,00,000 ∴ Fixed Asset Ratio = = 5:6 6,00,000

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

Problem 4 Following are the Profit & Loss A/c for the year that ended on 31 March 2008 and a Balance Sheet as on that date of company: Profit & Loss A/c for the year that ended on 31 March 2008 Dr.

Cr. Rs. 70,000 8,00,000 1,20,000 2,90,000 3,00,000 15,80,000 25,000 70,000 15,000 15,000 25,000 30,000 10,000 10,000 1,00,000 3,00,000 40,000 20,000 1,50,000 2,10,000

To Opening Stock To Purchases To Carriage Inward To Wages To Gross Profit c/d To Establishment Charges To Salaries To Rent & Rates To General Expenses To Depreciation To Selling Expanses To Interest on Debentures To Provision for Taxation To Net Profit c/d To General Reserve To Proposed Dividend To Balance c/f

By Sales By Closing Stock

Rs. 15,00,000 80,000

By Gross Profit b/d

15,80,000 3,00,000

By Balance b/d By Net Profit b/d

3,00,000 1,10,000 1,00,000 2,10,000

Balance Sheet as on 31 March 2006 Liabilities Equity Share Capital Preference Share Capital General Reserve Profit & Loss A/c 10% Debentures Sundry Creditors Bank Overdraft Bills Payable Provision for Taxation Proposed Dividend

Rs. 4,00,000 1,00,000 40,000 1,50,000 1,00,000 60,000 50,000 10,000 10,000 20,000 9,40,000

Assets Fixed Assets Stock in Trade Sundry Debtors Cash & Bank Bills Receivable Discount on Issue of Shares

Rs. 7,00,000 80,000 90,000 40,000 10,000 20,000

9,40,000

From the above information, calculate: (a) GP Ratio; (b) NP Ratio; (c) Operating Ratio; (d) Return on Net Worth; (e) Return on Capital Employed; (f) Capital Turnover Ratio; (g) Fixed Asset Turnover Ratio; (h) Working Capital Turnover Ratio; (i) Stock Turnover Ratio; (j) Debtors’ Velocity Ratio; (k) Creditors’ Velocity Ratio. Solution i. Gross Profit Ratio =

Gross Profit

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Sales

× 100 =

3,00,000 × 100 = 20% 15,00,000

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

ii. Net Profit Ratio =

85

Net Profit after Tax 1,00,000 × 100 = × 100 = 6.67% Sales 15,00,000

(Cost of Goods Sold + Other Operating Expenses) × 100 Sales 12,00,0001 + 1,80,0002 = × 100 = 92% 15,00,000

iii. Operating Ratio =

Net Profit after Tax 1,00,000 × 100 = × 100 = 14.92% Net Worth 6,70,000 4

iv. Return on Net Worth =

v. Return of Capital Employed = = vi. Capital Turnover Ratio =

Net Profit before interest & Tax × 100 Capital Employed

1,20,0003 × 100 = 15.58% 7,70,0005

Turnover 15,00,000 = = 1.95 Capital Employed 7,70,000

vii. Fixed Asset Turnover Ratio =

Turnover 15,00,000 = = 2.14 Fixed Assets 7,00,000

viii. Working Capital Turnover Ratio = ix. Stock Turnover Ratio =

Turnover 15,00,000 = = 21,4285 Working Capital 70,00011

Cost of Goods Sold 12,00,0001 = = 16 Average Stock 75,0006

Credit Sales 15,00,0007 = = 15 Receivables 1,00,0008 365 days 365 ∴ Average Collection Period = = = 24 days (approx.) Debtors’ Velocity Ratio 15

x. Debtors’ Velocity Ratio =

xi. Creditors’ Velocity Ratio =

Credit Purchases 8,00,00010 = = 11.4285 Payables 70,0009

∴ Average Payment Period =

365 days 365 = = 32 days (approx.) Creditors’ Velocity Ratio 11.4285

Working Notes 1. Calculation of Cost of Goods Sold (CGS)

Add:

Opening Stock Purchases

Less:

Closing Stock

Rs. 70,000 8,00,000 8,70,000 80,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

Add: Add:

Materials Consumed Carriage Inward Wages Cost of Goods Sold

Rs. 7,90,000 1,20,000 2,90,000 12,00,000

2. Calculation of other Operating Expenses Establishment Charges Salaries Rent & Rates General Expenses Depreciation Selling Expenses Total other Operating Expenses

Rs. 25,000 70,000 15,000 15,000 25,000 30,000 1,80,000

3. Calculation of Net Profit before Interest and Tax (Net PBIT)

Add: Add:

Net Profit after Interest & Tax Interest on Debentures Provision for Taxation Net Profit before Interest and Tax

Rs. 1,00,000 10,000 10,000 1,20,000

4. Calculation of Net Worth

Add:

Less:

Rs. 4,00,000 1,00,000 5,00,000

Equity Share Capital Preference Share Capital Total Share Capital Reserves & Surplus: General Reserve Profit & Loss A/c

40,000 1,50,000 6,90,000

Miscellaneous Expenditure: Discount on Issue of Shares Net Worth or Proprietors’ Fund

20,000 6,70,000

5. Calculation of Capital Employed

Add:

Net Worth as calculated in (4) above Long-term Loans: 10% Debentures Capital Employed

Rs. 6,70,000 1,00,000 7,70,000

6. Calculation of Average Stock Average Stock =

Opening Stock + Closing Stock Rs. 70,000 + Rs. 80,000 = = Rs. 75.000 2 2

7. Calculation of Credit Sales In the absence of adequate information, it is assumed that the entire sales have been made on credit. Total Sales = Credit Sales = Rs. 15,00,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

8. Calculation of Receivables Rs. 90,000 10,000 1,00,000

Sundry Debtors Bills Receivable Receivables

9. Calculation of Payables Rs. 60,000 10,000 70,000

Sundry Creditors Bills Payable Payables

10. Calculation of Credit Purchases In the absence of adequate information, it is assumed that the entire purchases have been made on credit. Total Purchases = Credit Purchases = Rs. 8,00,000 11. Calculation of Working Capital Rs. Total Current Assets: Stock in Trade Sundry Debtors Cash & Bank Bills Receivable Less:

Rs. 80,000 90,000 40,000 10,000 2,20,000

Total Current Liabilities: Sundry Creditors Bank Overdraft Bills Payable Provision for Taxation Proposed Dividend Working Capital

60,000 50,000 10,000 10,000 20,000

1,50,000 70,000

Problem 5 From the following Balance Sheet of Y Ltd, calculate the different turnover Ratios: Liabilities Equity Share Capital General Reserve 8% Debentures Creditors

Rs. 6,00,000 2,50,000 1,50,000 2,00,000 12,00,000

Assets Fixed Assets Stock Debtors Cash at Bank

Rs. 6,50,000 2,25,000 2,75,000 50,000 12,00,000

Given Capital Turnover Ratio is 1.5 times. [B.Com. (Hons), Calcutta University—2008] Solution Here, Capital Employed = Equity Share Capital + General Reserve + 8% Debentures = Rs. 6,00,000 + Rs. 2,50,000 + Rs. 1,50,000 = Rs. 10,00,000 Again, Capital Turnover Ratio =

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Turnover = 1.5 Capital Employed

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

or

Turnover = 1.5 10,00,000 ∴ Turnover = Rs. 15,00,000

Total Asset Turnover Ratio = Inventory Turnover Ratio =

Turnover 15,00,000 = = 6.67 times Closing Inventory 2,25,000

Fixed Asset Turnover Ratio = Debtors’ Turnover Ratio =

Turnover 15,00,000 = = 1.25 times Total Assets 12,00,000

Turnover 15,00,000 = = 2.31 times Fixed Assets 6,50,000

Turnover 15,00,000 = = 5.4545 times Debtors 2,75,000

Creditors’ Turnover Ratio =

Turnover 15,00,000 = = 7.5 times Creditors 2,00,000

Problem 6 From the following details, calculate the average collection period: Sundry Debtors Bills Receivable Average Stock Inventory Turnover Ratio GP Ratio Credit Sales to Total Sales Assume, 1 year = 360 days

Rs. 2,10,000 Rs. 30,000 Rs. 3,60,000 6 10% 80%

Solution Debtors’ Turnover Ratio =

Credit Sales 19,20,0002 = =8 Receivables 2,40,0001

∴ Average Collection Period =

360 days 360 days = = 45 days Debtors’ Turnover Ratio 8

Working Notes 1. Calculation of Receivables Sundry Debtors Bills Receivable Receivables

Rs. 2,10,000 30,000 2,40,000

2. Calculation of Credit Sales Inventory Turnover Ratio =

Cost of Goods Sold (CGS) Average Stock (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

Here, 6 =

89

Cost of Goods Sold 3,60,000

CGS = 3,60,000 × 6 = Rs. 21,60,000 Gross Profit Again, GP Ratio = × 100 = 10% Sales ∴ GP rate = 10% on sales = 1/10 on sales = 10 = 1 = 9 Gross Profit ∴Rate of GP on Cost = = 1/9 (on cost) Cost of Goods Sold i.e., If sales then, GP CGS

∴ Total Sales = CGS + GP or Total Sales = CGS + 1/9 on CGS Total Sales = Rs. 21,60,000 + 1/9 on Rs. 21,60,000 = Rs. 24,00,000 Again, Credit Sales to Total Sales = 80% Credit Sales 80 or = Total Sales 100 Credit Sales 4 or = 24,00,000 5 24,00,000 ∴ Credit Sales = × 4 = Rs.19,20,000 5

Problem 7 i. Cost of Goods Sold of a company was Rs. 1,00,000 in 2005. Inventory Turnover was 4 times. Inventory at the end was 1.5 times of that at the beginning. Calculate the Closing Inventory. ii. From the information given, calculate the average collection period: Total Sales (including cash sales – Rs. 20,000)—Rs. 1,00,000; Sales Return—Rs. 7,000; Debtors—Rs. 9,000; Bills Receivable—Rs. 2,000; Creditors—Rs. 10,000. [B.Com. (Hons), Kalyani University—2006] Solution i. Inventory Turnover = Here, 4 =

Cost of Goods Sold Average Stock

1,00,000 Average Stock

∴ Average Stock = Rs. 25,000 Let the Opening Stock be x. ∴ Closing Stock = 1.5 x Opening Stock + Closing Stock ∴ Average Stock = 2

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

x + 1.5x 2 or 2.5x = 50,000 ∴ x = Rs. 20,000 ∴ Closing Inventory = 1.5x = 1.5 × 20,000 = Rs. 30,000 or 25,000 =

Receivables × 365 days Net Credit Sales Debtors + Bills Receivable = × 365 Credit Sales − Sales Return 9,000 + 2,000 = × 365 = 55days 80,000 − 7,000

ii. Average Collection Period =

Problem 8 Given: Current Assets = Rs. 1,50,000 Current Liabilities = Rs. 1,29,000 Fixed Assets/Net Worth = 0.70 No Debt Capital. Calculate: Value of Fixed Assets. [B.Com. (Hons), Calcutta University—2006] Solution List of a company Balance Sheet is as follows: Net Worth + Long-term Loan = Fixed Assets + Working Capital Here, NW + Nil = FAs + (1,50,000 − 1,29,000) [As Working Capital = CAs − CLs] ∴ Net Worth = FAs + 21,000 FAs Again, = 0.70 NW FAs or = 0.70 FAs+21,000 or FAs = 0.7 FAs + 14,700 or 0.3 FAs = 14,700 ∴ Fixed Assets = Rs. 49,000 Problem 9 The following data have been extracted from the Financial Statements of a company: Rs. 4,00,000 1,00,000 1,20,000 1,30,000 40,000 30,000 2,00,000

Equity Share Capital 12% Preference Share Capital General Reserve Profit & Loss A/c (Cr) Securities Premium Capital Reserve 15% Debentures

(Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

Rs. 2,70,000 25,000 32,000 20,000

Net Profit before Tax Provision for Taxation Tax actually Paid during the year Discount on Issue of Shares

From the above information, calculate: (a) Return on Equity Shareholders’ Fund. (b) Return on Net Worth. (c) Return on Capital Employed. Solution i. Return on Equity Shareholders’ Fund Net Profit after Tax & Preference Dividend = × 100 Equity Shareholders’ Fund =

2,33,0006 × 100 = 33.2857% 7,00,000

ii. Return on Net Worth =

Net Profit after Tax Net Worth

× 100

2,45,0005 × 100 = 30.625% 8,00,0002 iii. Return on Capital Employed =

=

Net Profit before Interest & Tax × 100 Capital Employed

=

3,00,0004 × 100 = 30% 10,00,0003

Working Notes 1. Calculation of Equity Shareholders’ Fund Rs. Add:

Less:

Equity Share Capital Reserves & Surplus: General Reserve Securities Premium Capital Reserve Profit & Loss A/c (Cr)

1,20,000 40,000 30,000 1,30,000

Miscellaneous Expenditure: Discount on Issue of Shares Equity Shareholders’ Fund

Rs. 4,00,000

3,20,000 7,20,000 20,000 7,00,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

2. Calculation of Net Worth

Add:

Rs. 7,00,000 1,00,000 8,00,000

Equity Shareholders’ Fund as Calculated in (1) above 12% Preference Share Capital Net Worth

3. Calculation of Capital Employed

Add:

Rs. 8,00,000

Net worth as Calculated in (2) above Long-term Loans: 15% Debentures

2,00,000 10,00,000

Capital Employed

4. Calculation of Net PBIT

Add:

Net Profit before Tax as given Interest on Debentures already charged [15% on Rs. 2,00,000] Net PBIT

Rs. 2,70,000 30,000 3,00,000

5. Calculation of Net Profit after tax

Less:

Rs. 2,70,000 25,000 2,45,000

Net Profit before Tax as given Provision for Taxation Net Profit after Tax

6. Calculation of Net Profit after tax and preference dividend

Less:

Net Profit after Tax as Calculated in (5) above Preference Dividend [12% on Rs. 1,00,000] Net Profit after Tax & Preference Dividend

Rs. 2,45,000 12,000 2,33,000

Problem 10 A company has a profit margin of 20% and asset turnover of 3 times. What is the company’s ROI? How will this ROI vary if: i. Profit Margin is increased by 5%? ii. Asset Turnover is decreased to 2 times? iii. Profit Margin is decreased by 5% and Asset Turnover is increased to 4 times? [B.Com. (Hons), Calcutta University—2008] Solution Here, Profit Margin = 20%. i.e., if Sales = 100, then Profit = 20 Sales Again, Asset Turnover = =3 Total Assets

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

or

100 = 3 ∴ Total Assets = 33.33 Total Assets

∴ Return on Investment (ROI) =

Profit 20 × 100 = × 100 = 60% Total Assets 33.33

i. New Profit Margin = 20% + 5% = 25%. i.e., if Sales = 100, then Profit = 25 Profit 25 ∴ New ROI = × 100 = × 100 = 75% Total Assets 33.33 ii. New Asset Turnover = or

Sales =2 Total Assets

100 = 2. ∴ Total Assets = 50. And, Profit Margin = 20% Total Assets

∴ New ROI =

Profit 25 × 100 = × 100 = 75% Total Assets 33.33

iii. New Profit Margin = 20% − 5% = 15% i.e., if Sales = 100, then Profit = 15 Sales New Asset Turnover = =4 Total Assets or

100 = 4. ∴ Total Assets = 25 Total Assets

New ROI =

Profit 15 × 100 = × 100 = 60% Total Assets 25

Problem 11 JKL Ltd has the following Balance Sheets as on 31 March 2006 and 31 March 2005: Rs. in lakhs 31 March 31 March 2006 2005 Sources of Funds: Shareholders’ Funds Loan Funds

Less:

Applications of Funds: Fixed Assets Cash & Bank Debtors Stock Other Current Assets Current Liabilities

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

2,377 3,570 5,947

1,472 3,083 4,555

3,466 489 1,495 2,867 1,567 (3,937) 5,947

2,900 470 1,168 2,407 1,404 (3,794) 4,555

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

The Income Statement of the JKL Ltd for the year that ended is as follows:

Less: Less: Less: Less:

Rs. in lakhs 31 March 31 March 2006 2005 22,165 13,882 20,860 12,544 1,305 1,338 1,135 752 170 586 113 105 57 481 23 192 34 289

Sales CGS GP Selling, General & Administrative Expenses Earnings before Interest and Tax (EBIT) Interest Expense Profit before Tax Tax Profit after Tax

Required: i. Calculate for the year 2005–06: a. Inventory Turnover Ratio. b. Financial Leverage. c. ROI. d. ROE. e. Average Collection Period. ii. Give a brief comment on the financial position of JKL Ltd. [C.A. (PE II)—May 2006] Solution i. a. Inventory Turnover Ratio (for the year 2005 − 06) = b. Financial Leverage =

Cost of Goods Sold 20,860 = = 7.91 Average Inventory 2,637

EBIT EBT

586 = 1.22 481 170 For the year 2005−06, Financial Leverage = = 2.98 57 For the year 2004 −05, Financial Leverage =

c. ROI (for the year 2005− 06) = = d. ROE (for the year 2005−06) = =

Net Profit before Interest but after Tax × 100 Average Capital Employed 102 × 100 = 1.94% 5,251 Net Profit available to Equity Shareholders × 100 Average Equity Shareholders’ Fund 34 × 100 = 1.77% 1,924.50

e. Inventory Turnover Ratio (for the year 2005−06) =

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Average Debtors 1,331.50 = = 22 days Average Sales per day 60.73

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

ii. Profitability of operation of the company remarkably declines from 586 (Rs. in lakhs) to 170 (Rs. in lakhs), due to a huge increase in the operating expenses during the year 2005–06. NP of the company also reduces due to an increase in the interest expenses. During the year 2005–06, both Fixed Operating Expense as well as fixed financial expense have increased, as a consequence of which the NP of the company radically reduced. During 2005–06, both operating and Financial Leverages have become adverse, as a result of which the company has been crucially suffering from a liquidity crisis during the year 2005–06. Working Notes 1. Calculation of Average Inventory Average Inventory =

Opening Inventory + Closing Inventory 2,407 + 2,867 = = 2,637 (Rs. in lakhs) 2 2

2. Calculation of Average Equity Shareholders’ Fund Average Equity Shareholder’s Fund =

Opening Equity Shareholder’s Fund + Closing Equity Shareholder’s Fund 2

1,472 + 2,377 = 1,924.5 (Rs. in lakhs) 2 3. Calculation of Average Capital Employed =

Opening Capital Employed + Closing Capital Employed 2 (1,472 + 3,083) + (2,377 + 3,570) = = 5,251 (Rs. in lakhs) 2 4. NP available to Equity Shareholders Average Capital Employed =

Rs. in lakhs 34 Nil 34

Profit after Tax Preference Dividend NP Available to Equity Shareholders

Less:

5. Calculation of Average Debtors Average Debtors =

Opening Debtors + Closing Debtors 1,168 + 1,495 = = 1,331.5 (Rs. in lakhs) 2 2

6. Calculation of Average Sales per day Average Sales per day for the year 2005−06 =

22,165 = 60.73 (Rs. in lakhs) 365

7. Net Profit before interest but after tax

Less:

EBIT for the year 2005–06 Tax @ 40% Net Profit before Interest but after Tax

Rs. in lakhs 170 68 102

Note: Tax Rate =

Tax Amount 23 × 100 = × 100 = 40% (approx.) EBT 57

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

Problem 12 Following information is available from the Financial Statements of K Ltd for the year that ended on 31 March 2006: i. Inventory Turnover Ratio is 6 times, Closing Debtors are outstanding for 2 months and Closing Creditors are outstanding for 73 days. ii. Ratio of CGS to: Proprietors’ Fund is 2 : 1. Fixed Asset is 4 : 1. iii. GP Ratio is 20%. iv. Closing Stock is greater than the opening stock by Rs. 10,000. v. GP for the year that ended on 31 March 2006 is Rs. 1,20,000. vi. Reserves and surplus appearing in the Balance Sheet as on 31 March 2006 is Rs. 40,000. You are asked to calclaute the following: (i) Proprietors’ Fund; (ii) Fixed Asset; (iii) Closing Debtors; (iv) Closing Creditors; (v) Closing Stock; (vi) Share Capital. Solution i. Ratio of CGS to Proprietors’ Fund = 2:1 Cost of Goods Sold 2 or = Proprietors’ Fund 1 or

4,80,0001 2 = Proprietors’ Fund 1

∴ Proprietors’ Fund =

4,80,000 = Rs. 2,40,000 4

ii. Ratio of CGS to Fixed Asset = 4:1 or

Cost of Goods Sold 4 = Fixed Asset 1

or

4,80,0001 4 = Fixed Asset 1

∴ Fixed Asset =

4,80,000 = Rs. 1,20,000 4

iii. Debt Collection Period = 2 months. ∴ Debtors’ Turnover Ratio = or

12 months Debt Collection Period

Credit Sales 12 months = Receivables 2 months

6,00,000 =6 Rs. 1,00,000 ∴ Receivables = Rs. 1,00,000 Again, Receivables = Debtors + Bills Receivable or

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

97

In the absence of adequate information, it is assumed that Bills Receivable = Nil ∴ Receivables = Debtors + Nil or 1,00,000 = Debtors ∴ Closing Debtors = Rs. 1,00,000 iv. Average Payment Period = 73 days ∴ Creditors’ Turnover Ratio = or

Credit Purchases =5 Payables

or

4,90,000 =5 Payables

365 Days 365 Days = =5 Average Payment Period 73 Days

4,90,0001 = Rs.98,000 5 Again, Payables = Creditors + Bills payable Here, it is assumed that Bills payable = Nil ∴ Payables = Creditors + Nil or 98,000 = Creditors ∴ Closing Creditors = Rs. 98,000 ∴ Payables =

v. Inventory Turnover Ratio = or 6 =

Cost of Goods Sold Average Stock

4,80,0001 =9 Average Stock

∴ Average Stock =

4,80,000 = Rs. 80,000 6

But, Average Stock =

Opening Stock + Closing Stock 2

Again, according to the question, Closing stock − Opening stock = 10,000 ∴ Opening stock = Closing stock – 10,000 (Closing Stock − 10,000) + Closing Stock 2 2 Closing Stock − 10,000 or 80,000 = 2 or 2 Closing Stock – 10,000 = 1,60,000 ∴ Average Stock =

2 Closing Stock = 1,60,000 + 10,000 1,70,000 ∴ Closing Stock = = Rs. 85,000 2

or

vi. Proprietors’ Fund = Share Capital + Reserves & Surplus – Miscellaneous Expenditure Here, 2,40,000 = Share Capital + 40,000 – Nil [Assumed that Miscellaneous expenditure = Nil] ∴ Share Capital = 2,40,000 – 40,000 = Rs. 2,00,000

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

Working Notes 1. Calculation of CGS GP ratio =

Gross Profit × 100 = 20% Sales

∴ GP rate = 20% or = 1÷ 5 on Sales i.e., If Sales = 5, then GP = 1 CGS = 4 ∴ Rate of GP on CGS Gross Profit 1 = = Cost of Goods Sold 4 1,20,000 1 or = Cost of Goods Sold 4

∴ CGS = Rs. 4,80,000 2. Calculation of Credit Sales Gross Profit GP ratio = × 100 Sales or 20 =

1,20,000 × 100 Sales

1,20,000 × 100 = Rs. 6,00,000 20 In the absence of adequate information, it is assumed that the entire sales have been made on credit. ∴ Total Sales = Credit Sales = Rs. 6,00,000 ∴ Sales =

3. Calculation of Credit Purchases We know that Opening Stock + Purchases = Materials Consumed + Closing Stock ∴ Purchases = Materials Consumed + Closing Stock − Opening Stock In the absence of adequate information regarding seggragation of the CGS, it is assumed that the CGS includes materials consumed only. ∴ Materials Consumed = CGS = Rs. 4,80,000 Again, Closing Stock is greater than the Opening Stock by Rs. 10,000 ∴ Closing Stock − Opening Stock = Rs. 10,000 ∴ Purchases = 4,80,0000 + 10,000 = Rs. 4,90,000 In the absence of adequate information, it is assumed that the entire purchases have been made on credit. ∴ Total Purchases = Credit Purchases = Rs. 4,90,000

Problem 13 From the following information, prepare a Balance Sheet: Current Ratio Quick Ratio GP Ratio Stock Turnover Ratio Debtor's Turnover Turnover of Fixed Assets

1.5 1.25 25% 9 times 1.5 months 1.2 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

Capital Gearing Ratio Reserves to Share Capital Fixed Asset to Net Worth Sales

0.375 0.25 1.25 Rs. 24,00,000

[C.S. (Inter)—Adapted] Solution Balance Sheet of

as on Amount Rs. 12,80,000 3,20,000 6,00,000

Liabilities Share Capital2 Reserves & Surplus2 Long-term Loans3 Current Liabilities: Crediltors Bank Overdraft

3,20,0007 80,0007 26,00,000

Assets Fixed Assets1 Current Assets: Stock5 Debtors6 Cash & Bank

Amount Rs. 20,00,000 2,00,000 3,00,000 1,00,000 26,00,000

Working Notes 1. Turnover of Fixed Assets = 1.2 Turnover or = 1.2 Fixed Assets 24,00,000 or = 1.2 Fixed Assets 24,00,000 ∴ Fixed Assets = = Rs. 20,00,000 1.2 2. Fixed Assets to net worth = 1.25 or

Fixed Assets = 1.25 Net Worth

or

20,00,000 = 1.25 Net Worth

∴ Net Worth =

20,00,000 1.25

= Rs. 16, 00, 000

Again, Reserves to Share Capital = 0.25 Reserves = 0.25 Share Capital ∴ Reserves = 0.25 × Share Capital Again, Net Worth = Share Capital + Reserves & Surplus – Miscellaneous Expenditure Here, 16,00,000 = Share Capital + 0.25 × Share Capital – Nil [assumed as Miscellaneous Expenditure = Nil] or 1.25 × Share Capital = 16,00,000 16,00,000 ∴ Share Capital = = Rs.12,80,000 1.25 or

∴ Reserves & Surplus = 0.25 × Rs. 12,80,000 = Rs. 3,20,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

3. Capital Gearing Ratio =

Fixed Interest Bearing Securities Ordinary Securities

Long-term Loan + Preference Share Capital Equity Shareholders ’ Fund In the absence of adequate information, it is assumed that there is no Preference Share Capital. In such a condition, Equity Shareholders’ Fund = Net Worth = Rs. 16,00,000 or 0.375 =

∴

Long-term Loans + Nil = 0.375 16,00,000

∴ Long-term loan = 0.375 × 16,00,000 = Rs. 6,00,000 4. In a company Balance Sheet, we know that Net Worth + Long-term Loans = Fixed Assets + Working Capital Here, 16,00,000 + 6,00,000 = 20,00,000 + Working Capital ∴ Working Capital = Rs. 2,00,000 CA Again, Current Ratio = CL CA or 1.5 = CL ∴ CA = 1.5 CL. Again, Working Capital = CAs − CLs Here, 2,00,000 = 1.5 CLs − CLs = 0.5 CL ∴ Current Liabilities (CLs) = 2,00,000/0.5 = Rs. 4,00,000

∴ Current Assets (CAs) = 1.5×4,00,000 = Rs. 6,00,000 Gross Profit × 100 Sales Gross Profit Here, 25 = × 100 24,00,000 24,00,000 × 25 ∴ GP = = Rs. 6,00,000 100 Again, CGS = Sales – GP Here, CGS = 24,00,000 – 6,00,000 = Rs. 18,00,000 Now, Stock Turnover Ratio = 9 Cost of Goods Sold or =9 Average Stock 18,00,000 or =9 Average Stock

5. GP Ratio =

18,00,000 = Rs. 2,00,000 9 Opening Stock + Closing Stock Again, Average Stock = 2 In the absence of adequate information as regards to the Opening Stock, it is assumed that Opening Stock = Closing Stock. Closing Stock + Closing Stock 2 Closing Stocks ∴ Average Stock = = 2 2 = Closing Stock = Rs. 2,00,000 ∴ Average Stock =

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

101

6. Debtors’ Turnover = 1.5 months 12 months or Debtors’ Turnover Ratio = =8 1.5 months or Credit Sales = 8 Receivables 24,00,000 = 8 [Assumed that entire sales have been made on credit] Receivables 24,00,000 ∴ Receivables (i.e., Debtors) = = Rs. 3,00,000 8 Again, Current Assets = Stock + Debtors + Cash & Bank Here, 6,00,0004 = 2,00,0005 + 3,00,0006 + Cash & Bank ∴ Cash & Bank = 6,00,000 − 5,00,000 = Rs. 1,00,000 7. Quick Ratio = CA − Stock CL − Bank O/D 6,00,000 − 2,00,000 Here, 1.25 = 4,00,000 − Bank O/D or 4,00,000 = 5,00,000 – 1.25 Bank Overdraft or 1.25 Bank Overdraft = 5,00,000 – 4,00,000 1,00,000 or Bank Overdraft = = Rs. 80,000 1.25 Again, Current Liabilities = Payables (i.e., Creditors) + Bank overdraft Here, 4,00,0004 = Creditors + 80,000 ∴ Creditors = 4,00,000 – 80,000 = Rs. 3,20,000 or,

Problem 14 From the following Financial Data, make out a statement of Proprietors’ Fund with as many details as possible: (i) Proprietary Ratio [FA to Proprietors’ Equity] (ii) Current Ratio (iii) Liquid Ratio (iv) Capital Gearing [Equity Capital to Preference Capital] (v) Reserves & Surplus to Equity Capital (vi) Working Capital (vii) Bank Overdraft

0.75 2.5 1.5 2:1 0.30 Rs. 90,000 Rs. 20,000

There is no Long-term Loan or Fictitious Assets. [B.Com. (Hons), Calcutta University—2007] Solution Statement of Proprietors’ Fund Rs. Sources of Fund: Equity Share Capital Preference Share Capital Add:

Reserves & Surplus

Less:

Miscellaneous Expenditure

Rs.

Rs. 2,00,000 1,00,000 3,00,000 60,000 3,60,000 Nil 3,60,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

Rs.

Add:

Less:

Applications of Fund: Fixed Assets Working Capital: Current Assets: Stock Liquid Assets

Rs.

Rs. 2,70,000

90,000 60,000 1,50,000

Current Liabilities: Bank Overdraft Liquid Liabilities

20,000 40,000 60,000

Less:

90,000 3,60,000 Nil 3,60,000

Long-term Loan

Working Notes Current Assets 5 = 2.5 = Current Liabilities 2 ∴ Working Capital = CAs − CLs = 5 − 2 = 3 Again, given Working Capital = Rs. 90,000 ∴ Current Liabilities (CLs) = Rs. 90,000 × 2 ÷ 3 = Rs. 60,000 ∴ Current Assets (CAs) = Rs. 90,000 × 5 ÷ 3 = Rs. 1,50,000 Liquid Assets CA − Stock Again, Liquid Ratio = = = 1.5 Liquid Liabilities CL − Bank Overdraft 1,50,000 − Stock = 1.5 or 60,000 − 20,000 or 60,000 = 1,50,000 − Stock ∴ Stock = Rs. 90,000 ∴ Liquid Assets = CAs − Stock = 1,50,000 − 90,000 = Rs. 60,000 ∴Liquid Liabilities = CLs − Bank O/D = 60,000 − 20,000 = Rs. 40,000 2. Again, as per the company Balance Sheet, we know, Proprietors’ Fund + Long-term Loan = Fixed Asset + Working Capital Here, Proprietors Fund (PF) + Nil = Fixed Asset (FA) + 90,000 ∴PF = FAs + 90,000 Fixed Assets Again, given Proprietary Ratio = = 0.75 Proprietor’s Fund FA = 0.75 or FA + 90,000 or FAs = 0.75 FAs + 67,500 or 0.25 FAs = 67,500 ∴Fixed Asset = Rs. 2,70,000 ∴Proprietors’ Fund = FAs + 90,000 = 2,70,000 + 90,000 = Rs. 3,60,000 Equity Capital 2 = 3. Capital Gearing = Preference Capital 1 ∴ Equity Share Capital : Preference Share Capital = 2 : 1 = 10 : 5 Again, Reserves & Surplus : Equity Share Capital = 0.30 = 3:10 ∴Equity Share Capital: Preference Share Capital: Reserves & Surplus = 10 : 5 : 3 1.

Current Ratio =

(Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

103

Again, Proprietors’ Fund = Equity Share Capital + Preference Share Capital + Reserves & Surplus = 10 + 5 + 3 = 18 Again, Proprietors’ Fund = Rs. 3,60,000 ∴Equity Share Capital = 10/18 × Rs. 3,60,000 = Rs. 2,00,000 ∴Preference Share Capital = 5/18 × Rs. 3,60,000 = Rs. 1,00,000 ∴Reserves & Surplus = 3/18 × Rs. 3,60,000 = Rs. 60,000

Problem 15 From the following information of X Engineering Co., complete the proforma Balance Sheet, if its sales are Rs. 16,00,000: Sales to Net Worth Current Liabilities to Net Worth Total Liabilities to Net Worth Current Ratio Sales to Closing Inventory Average Collection Period

2.3 times 42% 75% 2.9 times 4.5 times 64 days

Proforma Balance Sheet Liabilities Net Worth Long-term Liabilities Current Liabilities

Rs. ? ? ?

Assets Fixed Assets Stock Debtors Cash

Rs. ? ? ? ?

[C.A. (Inter)—Adapted] Solution Balance Sheet of X Engineering Co. as on Amount Rs. 6,40,000 2,11,200 2,68,800

Liabilities Net Worth1 Long-term Liabilities3 Current Liabilities2

Assets Fixed Assets7 Current Assets: Stock4 Debtors5 Cash & Bank6

11,20,000

Amount Rs. 3,40,480 3,55,555 3,20,000 1,03,965 11,20,000

Working Notes 1.

Given Sales = Rs. 16,00,000 Again, Sales to Net worth (NW) = 2.5 Sales or = 2.5 NW 16,00,000 or = 2.5 NW ∴Net Worth = Rs. 6,40,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

Current Liabilities to Net Worth = 42% CL or = 42% NW CL or = 42% 6, 40,000 ∴ Current Liabilities = Rs. 2,68,800 3. Total Liabilities (TL) to Net Worth (NW) = 75% TL or = 75% NW TL = 75% or 6, 40,000 ∴ Total Liabilities = Rs. 4,80,000 Again, Total Liabilities = Long-term Liabilities + Current Liabilities Here, 4,80,000 = Long-term Liabilities + 2,68,800 ∴ Long-term Liabilities = Rs. 2,11,200 4. Sales to Closing Inventory = 4.5 times Sales = 4.5 or Closing Inventory 16,00,000 = 4.5 or Closing Inventory ∴ Closing Inventory = Rs. 3,55,555 5. Average Collection Period = 73 days ∴ Debtors’ Turnover Ratio = 365 days = 5 73 days Credit Sales =5 or Receivables

2.

16,00,000 = 5 [ assumed that entire sales were made on credit ] Receivables 16,00,000 ∴Receivables = = Rs. 3,20,000 5 Again, Receivables = Debtors + Bills Receivable Here, 3,20,000 = Debtors + Nil ∴ Debtors = Rs. 3,20,000 Current Assets ( CAs) 6. Current Ratio = = 2.9 Current Liabilities ( CLs) CAs = 2.9 or 2,68,800 ∴Current Assets = 2,68,800 × 2.9 = Rs. 7,79,520 Here, CAs = Stock + Debtors + Cash or 7,79,520 = 3,55,555 + 3,20,000 + Cash ∴ Cash = Rs. 1,03,965 7. In every Balance Sheet, Total Assets = Total Liabilities Here, Total Liabilities = Net Worth + Long-term Liabilities + Current Liabilities or TL = 6,40,0001 + 2,11,2003 + 2,68,8002 ∴ Total Assets = Rs. 11,20,000 Again, Total Assets = Fixed Assets + Current Assets or

(Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

105

Here, 11,20,000 = FAs + 7,79,5206 ∴ Fixed Assets = Rs. 3,40,480

Problem 16 Assume that firm has an Owners’ Equity of Rs. 1,00,000. The Ratio for the firm are: Short-term Debts to Total Debts Total Debt to Owners’ Equity Fixed Assets to Owners’ Equity Total Asset Turnover Inventory Turnover

0.40 0.60 0.60 2 Times 8 Times

Complete the following Balance Sheet from the information given above: Capital & Liabilities Short-term Debt Long-term Debt Total Debt Owners’ Equity Total Capital and Liabilities

Rs. – – – – –

Assets Cash Inventory Total Current Assets Fixed Assets Total Assets

Rs. – – – – –

[C.A. (Inter)—Adapted] Solution Balance Sheet of Capital & Liabilities Short-term Debt2 Long-term Debt2 Total Debt Owners’ Equity Total Capital and Liabilities

as on Rs. 24,000 36,000 60,000 1,00,000 1,60,000

Assets Cash4 Inventory3 Total Current Assets Fixed Assets1 Total Assets

Rs. 60,000 40,000 1,00,000 60,000 1,60,000

Working Notes 1. Fixed Assets (FA) to Owners’ Equity (OE) = 0.60 FAs or = 0.60 OE FAs = 0.60 or 1,00,000 ∴ Fixed Assets = Rs. 60,000 2. Total Debt (TD) to Owners’ Equity (OE) = 0.60 TD or = 0.60 OE TD = 0.60 or 1,00,000 ∴Total Debt = Rs. 60,000 Again, Short-term Debt (STD) to Total Debt (TD) = 0.40 STD or = 0.40 TD

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

STD = 0.40 60,000 ∴ Short-term Debt = Rs. 24,000 ∴ Long-term Debt (LTD) = TD − STD = 60,000 − 24,000 = Rs. 36,000 3. In every Balance Sheet, Total Assets = Total Liabilities Here, Total Liabilities (TL) = STD + LTD + OE or TL = 24,0002 + 36,0002 + 1,00,000 ∴ Total Liabilities = Rs. 1,60,000 ∴ Total Assets = Rs. 1,60,000 Turnover Again, Total Asset Turnover Ratio = =2 Total Assets or

or

Turnover =2 1,60,000

∴ Turnover = Rs. 3,20,000 Again, Inventory turnover =

CGS =8 Average Stock

In the absence of adequate information, in the given problem, as regards to Opening Stock and GP Ratio, it is assumed that, Turnover Inventory Turnover = =8 Closing Stock

or

3,20,000 =8 Closing Stock

∴ Closing Stock =

3,20,000 = Rs. 40,000 8

4. Here, Total Assets = Fixed Assets + Inventory + Cash or 1,60,000 = 60,0001 + 40,0003 + Cash ∴ Cash = Rs. 60,000

Problem 17 Following are the Ratios relating to the trading activities of an organization: Debtors’ Velocity Stock Velocity Creditors’ Velocity GP Ratio Capital Turnover Ratio Fixed Asset Turnover Ratio

3 months 4 months 2 months 25% 3 4

GP for the year that ended on 31 March 2007 was Rs. 7,50,000. Stock as on 31 March 2007 was Rs. 30,000 more than it was on 1 April 2006. At the end of the year, Bills Payable and Bills Receivable were Rs. 45,000 and Rs. 50,000, respectively, and Bank Overdraft was Rs. 1,10,000. Prepare the Statement of Proprietors’ Fund as on 31 March 2007. (Make necessary assumptions that you think fit.) [B.Com. (Hons), Calcutta University—Adapted]

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

107

Solution Statement of Proprietors’ Fund of an Organization as on 31 March 2007 Rs.

Rs.

Sources of Fund: Proprietors’ Fund5

Add:

Less:

Less:

Rs. 10,00,000 10,00,000

Applications of Fund: Fixed Assets1 Working Capital: Current Assets: Stock3 Debtors2 Bills Receivable

7,50,000

7,65,000 7,00,000 50,000 15,15,000

Current Liabilities: Creditors4 Bills Payable Bank Overdraft

3,35,000 45,000 1,10,000

4,90,000 10,25,000 17,25,000 7,75,000 10,00,000

Long-term Loan6

Working Notes 1. GP Ratio = 25% GP or = 25% Sales 7,50,000 = 25% or Sales 7,50,000 ∴ Sales = = Rs. 30,00,000 25% Again, Fixed Asset Turnover Ratio = 4 Sales = 4 Fixed Assets (FA ) 30,00,000 =4 or FAs 30,00,000 ∴Fixed Assets = = Rs. 7,50,000 4 or

2. Debtors’ Velocity = 3 months 12 months ∴ Debtors’ Velocity Ratio = =4 3 months Credit Sales =4 or Receivables 30,00,000 = 4 [ assumed that entire sales were made on credit ] or Receivables ∴ Receivables = 30,00,000 = Rs. 7,50,000 4 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

108

MANAGEMENT ACCOUNTING

Again, Receivables = Debtors + Bills Receivable Here, 7,50,000 = Debtors + 50,000 ∴Debtors = Rs. 7,00,000 3. Let the value of Stock as on 01 April 2006 (i.e., Opening Stock) be x. ∴Value of Stock as on 31 March 2007 (i.e., Closing stock) = x + 30,000 ∴ Average Stock = ( Opening Stock + Closing Stock ) = ⎡⎣ x + ( x + 30,000 )⎤⎦ = x + 15,000 2 2 Again, CGS = Sales − GP = 30,00,000 – 7,50,000 = Rs. 22,50,000 Here, Stock Velocity = 4 months ∴ Stock − Velocity Ratio = 12 months = 3 4 months CGS =3 or Average Stock 22,50,000 =3 or x ( + 15,000) or 3x + 45,000 = 22,50,000 or 3x = 22,50,000 − 45,000 ∴ x = 22,05,000 = 7,35,000 3 ∴ Opening Stock = x = Rs. 7,35,000 ∴ Closing Stock = x + 30,000 = Rs. 7,65,000 4. We know, in case of a trading concern, Opening Stock + Purchases = CGS + Closing Stock Here, 7,35,000 + Purchases = 22,50,000 + 7,65,000 ∴ Purchases = Rs. 22,80,000 Again, Creditors’ Velocity = 2 months Credit Purchases 12 months ∴ Creditors’ Velocity Ratio = =6 = 6‚ or Payables 2 months 22,80,000 = 6 [ assumed that the entire purchases were made on credit ] or Payables ∴ Payables = 22,80,000 = Rs. 3,80,000 6 Again, Payables = Creditors + Bills Payable Here, 3,80,000 = Creditors + 45,000 ∴ Creditors = Rs. 3,35,000 Turnover 5. Generally,Capital Turnover Ratio = Capital Employed As in the given problem, no relationship between the Proprietors’ Fund and the Long-term Loan is given, we should assume that (in such a situation only), Capital Turnover Ratio =

Here, 3 = 30,00,000

Turnover Proprietor’s Fund (PF)

PF

∴ Proprietor’s Fund = 30,00,000 = Rs. 10,00,000 3 (Continued)

Modified Date: Tue, Jul 06, 2010 11:27:29 AM

Output Date: Tue, Jul 06, 2010 01:33:40 PM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

109

6. Working Capital = Current Assets − Current Liabilities Here, Working Capital = (Stock + Debtors + Bills Receivable) − (Creditors + Bills Payable + Bank Overdraft) or Working Capital = (7,65,000 + 7,00,000 + 50,000) − (3,35,000 + 45,000 + 1,10,000) = Rs. 10,25,000 Again, as per company Balance Sheet, we know that Proprietors’ Fund + Long-term Loan = Fixed Asset + Working Capital Here, 10,00,000 + Long-term Loan = 7,50,000 + 10,25,000 ∴ Long-term Loan = Rs. 7,75,000

Problem 18 From the following information relating to Moonlight Ltd, prepare a Balance Sheet as on 31 December 1997. Current Ratio Liquid Ratio Net Working Capital Cost of Sales/Closing Stock GP Ratio Average Debt Collection Period Fixed Assets /Shareholders’ Net Worth Reserves & Surplus/Share Capital

2:5 1:5 Rs. 3,00,000 8 times 25% 1.5 months 0.75 0.50

[B.Com. (Hons), Calcutta University—1998] Solution Balance Sheet of Moonlight Ltd as on 31 December 1997 Liabilities Share Capital5 Reserves & Surplus5 Current Liabilities1

Amount Rs. 8,00,000 4,00,000 2,00,000

Assets Fixed Assets4 Current Assets: Stock1 Debtors2 Cash & Bank3

14,00,000

Amount Rs. 9,00,000 2,00,000 2,66,667 33,333 14,00,000

Working Notes 1. Current Ratio =

Current Assets ( CAs) 5 = 2.5 = Current Liabilities ( CLs) 2

∴Net Working Capital = CAs − CLs = 5 − 2 = 3 Again, given Working Capital = Rs. 3,00,000 ∴ Current Assets = 3,00,000 × 5 ÷ 3 = Rs. 5,00,000 ∴ Current Liabilities = 3,00,000 × 2 ÷ 3 = Rs. 2,00,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

110

MANAGEMENT ACCOUNTING

Now, Liquid Ratio =

(Current Assets − Stock ) (Current Liabilities − Bank Overdraft )

If it is assumed that Bank Overdraft = Nil, then (Current Assets − Stock ) Liquid Ratio = CL 5,00,000 − Stock ) ( Here, 1.5 = 2,00,000 or 3,00,000 = 5,00,000 − Stock ∴ Stock = Rs. 2,00,000 2.

Cost of Sales =8 Closing Stock Cost of Sales =8 2,00,000 ∴ Cost of Sales = Rs. 16,00,000 Now, GP Ratio = 25% (on Sales) ∴ GP = 1/4 on Sales = 1/3 on Cost of Sales = 1/3 on 16,00,000 = Rs. 5,33,333

or

∴ Sales = Cost of Sales + GP = 16,00,000 + 5,33,333 = Rs. 21,33,333 Again, Average Collection Period = 1.5 months 12 months ∴ Debtors’ Velocity Ratio = =8 1.5 months Credit Sales =8 or Receivables 21,33,333 = 8 [ assumed that the entire sales were made on credit ] or Receivables ∴ Receivables = 21,33,333 = Rs. 2,66,667 8 As there is no Bills Receivable, then here Receivables = Debtors = Rs. 2,66,667 3. Normally, Current Assets = Stock + Debtors + Cash Here, 5,00,000 = 2,00,000 + 2,66,667 + Cash ∴ Cash = Rs. 33,333. 4. Fixed Assets (FA) to Net Worth (NW) = 0.75 FAs or = 0.75 NW ∴FA = 0.75 NW Again, as per company Balance Sheet, we know that Net Worth (NW) + Long-term Loan (LTL) = Fixed Asset (FA) + Working Capital (WC) Here, NW + Nil = 0.75 NW + 3,00,000 [assumed that there is no Long-term Loan] or NW − 0.75 NW = 3,00,000 or NW = 3,00,000 ÷ 0.25 ∴ Net worth = Rs. 12,00,000 ∴Fixed Assets = 0.75 × 12,00,000 = Rs. 9,00,000 5. Reserves & Surplus (RS) to Share Capital (Sh. Cap.) = 0.50 RS = 0.50 or Sh.Cap. ∴ RS = 0.50 Sh. Cap. Again, Net Worth = Share Capital + Reserves & Surplus − Miscellaneous Expenditure (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

111

Here, 12,00,000 = Sh. Cap. + 0.5 Sh. Cap. − Nil [assumed that Miscellaneous expenditure = Nil] or 1.5 Sh. Cap. = 12,00,000 ∴ Share Capital = 12,00,000÷1.5 = Rs. 8,00,000 ∴ Reserves & Surplus = 0.5 × 8,00,000 = Rs. 4

Problem 19 From the following data, complete the following Balance Sheet: GP Shareholders’ Fund GP Margin Credit Sales to Total Sales Total Asset Turnover Inventory Turnover Average Collection Period [a 360-day year] Current Ratio Long-term Debt to Equity

Rs. 54,000 Rs. 6,00,000 20% 80% 0.3 times 4 times 20 days 1.8 40%

Balance Sheet Liabilities Creditors Long-term Debt Shareholders’ Fund

Rs. – – –

Assets Cash Debtors Inventory Fixed Assets

–

Rs. – – – – –

[C.A. (PE II)—November 2005]

Solution Balance Sheet as on Liabilities

Rs. 60,000 2,40,000 6,00,000

Creditors Long-term Debt Shareholders’ Fund

Assets Cash Debtors Inventory Fixed Assets

9,00,000

Rs. 42,000 12,000 54,000 7,92,000 9,00,000

Working Notes 1. GP = Rs. 54,000 Again, GP Margin =

GP × 100 = 20 Sales

54,000 × 100 = 20 Sales ∴ Sales = 54,000 × 100 ÷ 20 = Rs. 2,70,000 Again, Credit Sales to Total Sales = 80% = 80 ÷ 100 = 4/5 Credit Sales 4 = or Total Sales 5 Credit Sales 4 = or 2,70,000 5 or

(Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

112

MANAGEMENT ACCOUNTING

∴Credit Sales = 2,70,000 × 4 ÷ 5 = Rs. 2,16,000 Again, Average Collection Period = 20 days ∴ Debtors’ Velocity Ratio = or

Credit sales = 18 Receivables

or

2,16,000 = 18 Receivables

360 days = 18 20 days

2,16,000 = Rs. 12,000 18 As there is no bills receivable, then here Receivables = Debtors = Rs. 12,000 2. CGS = Sales − GP Here, CGS = 2,70,000 – 54,000 = Rs. 2,16,000 CGS Again, Inventory Turnover Ratio = Average Stock 2,16,000 Here, 4 = Average Stock ∴ Receivables =

2,16,000 = Rs. 54,000 4 In the absence of adequate information, in the given problem, as regards to Opening stock, it is assumed that Opening stock = Closing stock Then, Closing Stock = Average Stock = Rs. 54,000 3. Given, Shareholders’ Fund (i.e., here, Equity) = Rs. 6,00,000 Again, Long-term Debt (LTD) to Equity = 40% ∴ Average Stock =

or

LTD = 40% 6,00,000

∴Long-term Debt = 40% of 6,00,000 = Rs. 2,40,000 4. Total Asset Turnover = 0.3 or

Turnover = 0.3 Total Assets

or

2,70,0001 = 0.3 Total Assets

2,70,000 = Rs. 9,00,000 0.3 Again, in every Balance Sheet, Total Assets = Total Liabilities ∴Total Liabilities = Rs. 9,00,000 Here, Total Liabilities = Creditors + Long-term Loan + Shareholders’ Fund or 9,00,000 = Creditors + 2,40,0003 + 6,00,000 ∴Creditors = Rs. 60,000 Current Assets (CAs) CAs 5. Current Ratio = = 1.8 or = 1.8 Current Liabilities (CLs) 60,000 ∴ Total Assets =

∴Current Assets = 60,000 × 1.8 = Rs. 1,08,000 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

113

Here, Current Assets = Inventory + Debtors + Cash or 1,08,000 = 54,0002 + 12,0001 + Cash ∴Cash = Rs. 42,000 6. Here, Total Assets = Fixed Assets + Inventory + Debtors + Cash or 9,00,0004 = Fixed Assets + 54,0002 + 12,0001 + 42,0005 ∴Fixed Assets = Rs. 7,92,000

Problem 20 Prepare a Profit & Loss A/c and a Balance Sheet (with as many details as possible) from the following information for the year that ended on 31 December 2006: GP Ratio NP Ratio Stock Turnover NP to Proprietary Fund Total Outside Liability to Proprietary Fund Total Assets Closing Stock

25% 15% 10 times 1:1 2:1 Rs. 12,00,000 Rs. 1,00,000

[B.B.A. (Hons), Calcutta University—2007] Solution Profit & Loss A/c of

for the year that ended on 31 December 2006

Dr.

Cr. Particulars

To Opening Stock3 To Purchases (Bal. fig.) To GP c/d2 To Other Operating Expenses (Bal. fig.) To NP1

Amount Rs. 3,00,000 18,00,000 6,66,667 27,66,667 2,66,667 4,00,000 6,66,667

Balance Sheet of Liabilities Proprietors’ Fund1 Total Outside Liabilities1

By Sales2 By Closing Stock

Amount Rs. 26,66,667 1,00,000

By GP b/d

27,66,667 6,66,667

Particulars

6,66,667

as on 31 December 2006 Amount Rs. 4,00,000 8,00,000 12,00,000

Assets Total Assets

Amount Rs. 12,00,000 12,00,000

Working Notes 1. Total Assets = Total Liabilities = Rs. 12,00,000 Again, Total Liabilities = Total Outside Liabilities + Proprietors’ Fund Total Outside Liabilities 2 Here, = Proprietors’ Fund 1 (Continued)

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-1.indd

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MANAGEMENT ACCOUNTING

∴ Total Liabilities = 2 + 1 = 3 ∴ Total Outside Liabilities =

2 × 12,00,000 = Rs. 8,00,000 3

1 × 12,00,000 = Rs. 4,00,000 3 1 Again, Net Profit to Proprietor’s Fund = 1 ∴Proprietors’ Fund =

or

NP 1 = 4,00,000 1

∴NP = Rs. 4,00,000 2. NP Ratio = NP = 15% Sales or

4,00,000 = 15% Sales

∴ Sales =

4,00,000 15%

Again, GP Ratio = or

= Rs. 26,66,667

GP = 25% Sales

GP = 25% 26,66,667

∴ GP = 26,66,667 × 25% = Rs. 6,66,667 3. CGS = Sales − GP = 26,66,667 − 6,66,667 = Rs. 20,00,000

∴ Stock Turnover Ratio = or

20,00,000 = 10 Average Stock

∴ Average Stock =

20,00,000 = Rs. 2,00,000 10

Again, Average Stock = or or

CGS = 10 Average Stock

2,00,000 =

(Opening Stock + Closing Stock ) 2

(Opening Stock + 1,00,000)

2 2,00,000 = (Opening Stock + 1,00,000) = 4,00,000

∴ Opening Stock = 3,00,000

Modified Date: Tue, Jul 06, 2010 11:23:17 AM

Output Date: Tue, Jul 06, 2010 11:24:06 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

115

Problem 21 From the following Ratios and further information given below, prepare a trading and Profit & Loss A/c and a Balance Sheet of Mr Green: Fixed Assets/Capital Fixed Assets Capital/Liabilities NP/Capital GP Ratio Stock Turnover Ratio Fixed Assets/Total Current Assets NP to Sales Closing Stock

5/4 Rs. 5,00,000 1/2 1/5 25% 10 5/7 20% Rs. 50,000

Out of the Current Assets, Sundry Debtors are Rs. 6,00,000, and the balance represents Cash and Closing Stock. [C.A. (Inter)—May 1992]

Solution Books of Mr Green Trading and Profit & Loss A/c for the year that ended on Dr.

Cr. Particulars

To Opening Stock6 To Purchases7 To Gross Profit c/d5 To Other Operating Expenses8 To Net Profit3

Amount Rs. 10,000 3,40,000 1,00,000 4,50,000 20,000 80,000 1,00,000

Particulars

Amount Rs.

By Sales4 By Closing Stock

4,00,000 50,000

By Gross Profit b/d

4,50,000 1,00,000 1,00,000

Balance Sheet as on Liabilities Capital1 Total Outside Liabilities2

Amount Rs. 4,00,000 8,00,000

Assets Fixed Assets Current Assets: Stock Debtors Cash9

12,00,000

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Amount Rs. 5,00,000 50,000 6,00,000 50,000 12,00,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

116

MANAGEMENT ACCOUNTING

Working Notes 1.

Fixed Assets 5 = Capital 4 5,00,000 5 = or Capital 4 Capital = Rs. 4,00,000

2.

Capital 1 = Liabilities 2 or

4,00,000 1 = Liabilities 2

∴ Total Outside Liabilities = Rs. 8,00,000 NP 1 3. = Capital 5 or

NP 1 = 4,00,000 5

∴ NP = Rs. 80,000 4.

NP = 20% Sales 80,000 = 20% or Sales ∴ Sales = Rs. 4,00,000

5. GP ratio = or

GP = 25% Sales

GP = 25% 4,00,000

∴ GP = 4,00,000 × 25% = Rs. 1,00,000 6. In a trading concern, CGS = Sales − GP Here, CGS = 4,00,000 − 1,00,000 = Rs. 3,00,000 Again, Stock Turnover Ratio = or

3,00,000 = 10 Average stock

∴ Average Stock =

3,00,000 = Rs. 30,000 10

Again, Average Stock = or

CGS = 10 Average stock

30,000 =

(Opening Stock + Closing Stock) 2

(Opening Stock + 50,000) 2 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

117

or Opening Stock + 50,000 = 60,000 ∴Opening Stock = Rs. 10,000 7. In a trading concern, Opening Stock + Purchases = CGS + Closing stock Here, 10,000 + Purchases = 3,00,000 + 50,000 ∴ Purchases = Rs. 3,40,000 8. Other operating expenses debited to Profit & Loss A/c = GP − NP = 1,00,000 − 80,000 = Rs. 20,000 9.

Fixed Assets 5 = Total Current Assets 7 5,00,000 5 = Total Current Assets 7 ∴ Total Current Assets = 5,00,000 × 7 ÷ 5 = Rs. 7,00,000 Again, Total Current Assets = Stock + Debtors + Cash Here, 7,00,000 = 50,000 + 6,00,000 + Cash ∴ Cash = Rs. 50,000 or

Problem 22 From the following information, prepare the trading and Profit & Loss A/c for the year that ended on 31 March 2008 and a Balance Sheet as on that date of Mr Teem: Gross Profit Ratio Net Profit Ratio Net Profit to Capital Capital to Outside Liabilities Long Term Debt to Short-term Debt Fixed Assets to Capital Fixed Assets to Current Assets Stock Turnover Ratio Closing Stock Fixed Assets Debtors

40% 25% 1:5 3:2 1:1 2:3 2:3 1:5 Rs. 6,00,000 Rs. 10,00,000 Rs. 7,00,000

Solution Books of Mr Teem Trading and Profit & Loss A/c for the year that ended on 31 March 2008 Dr.

Cr. Particulars 8

To Opening Stock To Purchases (Bal. fig.) To Gross Profit c/d6 To Other Operating Expenses7 (Bal. fig.) To Net Profit4

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Amount Rs. 3,60,000 9,60,000 4,80,000 18,00,000 1,80,000 3,00,000 4,80,000

By Sales By Closing Stock

Amount Rs. 12,00,000 6,00,000

By Gross Profit b/d

18,00,000 4,80,000

Particulars 5

Output Date: Tue, Jul 06, 2010 11:40:08 AM

4,80,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

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MANAGEMENT ACCOUNTING

Balance Sheet as on 31 March 2008 Amount Rs.

Liabilities Capital2 Long-term Debt3 Short-term Debt3

15,00,000 5,00,000 5,00,000

Assets Fixed Assets Current Assets: Stock Debtors Cash & Bank1

25,00,000

Amount Rs. 10,00,000 6,00,000 7,00,000 2,00,000 25,00,000

Working Notes 1. Fixed Assets to Current Assets = 2/3 FA 2 or = CA 3 or

10,00,000 2 = CA 3

or

2 CAs = 30,00,000

30,00,000 = Rs. 15,00,000 2 Again, Current Assets = Stock + Debtors + Cash & Bank ∴ Current Assets (CAs) =

Here, 15,00,000 = 6,00,000 +7,00,000 + Cash & Bank ∴Cash & Bank = 15,00,000 – 13,00,000 = Rs. 2,00,000 2. Fixed Assets to Capital = 2/3 or

FA 2 = Capital 3

or

10,00,000 2 = Capital 3

or

2 Capital = 30,00,000

∴ Capital =

30,00,000 = Rs. 15,00,000 2

3. Capital to Outside Liabilities = 3/2 or

Capital 3 = Outside Liabilities 2

or

15,00,000 3 = Outside Liabilities 2

2 × 15,00,000 = Rs. 10,00,000 3 Again, Long-term Debt to Short-term Debt = 1:1

or

Outside Liabilities =

(Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

or

119

Long-term Debt 1 = Short-term Debt 1

∴Long-term Debt = Short-term Debt Again, Total Outside Liabilities (i.e., Debt) = Long-term Debt + Short-term Debt Here, 10,00,000 = Short-term Debt + Long-term Debt or 2 Short-term debts = 10,00,000 ∴Short-term Debt =

10,00,000 = Rs. 5,00,000 2

∴Long-term Debt = Short-term Debt = Rs. 5,00,000 4. NP to Capital = 1/5 or

Net Profit 1 = Capital 5

or

Net Profit 1 = 15,00,000 5

∴NP =

1 × 15,00,000 = Rs. 3,00,000 5

5. NP Ratio = 25% or

Net Profit = 25% Sales

or

3,00,000 25 1 = = Sales 100 4

∴ Sales = 4 × 3,00,000 = Rs. 12,00,000 6. GP Ratio = 40% Gross Profit × 100 = 40 or Sales Gross Profit 40 2 = = 12,00,000 100 5 12,00,000 × 2 ∴ Gross Profit = = Rs. 4,80,000 5 or

7. Other operating expenses charged to Profit & Loss A/c = GP – NP = Rs. 4,80,000 – Rs. 3,00,000 = Rs. 1,80,000 8. Stock Turnover Ratio = 1.5 or

Cost of Goods Sold = 1.5 Average Stock (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

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MANAGEMENT ACCOUNTING

or or

Sales – Gross Profit = 1.5 Average Stock 12,00,000 – 4,80,000 = 1.5 Average Stock

or 1.5 Average Stock = 7,20,000 7,20,000 = Rs. 4,80,000 1.5 Opening Stock + Closing Stock Again, Average Stock = 2 Opening Stock + 6,00,000 Here, 4,80,000 = 2

∴ Average Stock =

or Opening Stock + 6,00,000 = 9,60,000 ∴Opening Stock = 9,60,000 − 6,00,000 = Rs. 3,60,000

Problem 23 From the following Ratios and further information given below, prepare a Balance Sheet as on 31 March 2009: Liquid Ratio Return on Capital employed Fixed Asset Turnover Ratio Closing Stock Owner’s Equity to Fixed Asset Debtors’ Turnover Debt-Equity Ratio

1.2 10% 8:5 12.5% on Sales 8:15 1 month 5:4

For the year that ended on 31 March 2009, the company made a profit of Rs. 1,00,000 after paying an interest of Rs. 1,20,000 on term loan, but before tax. Tax paid for the year was Rs. 40,000. Bank balance stood at Rs. 1,00,000, besides stock and debtors of the concern. [C.A. (Inter)—Adapted]

Solution Books of a concern Balance Sheet as on 31 March 2009 Liabilities Owner’s Equity1 Term Loan1 Current Liabilities: Bank Overdraft5 Liquid Liabilities5

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Amount Rs. 8,00,000 10,00,000 50,000 2,50,000 21,00,000

Assets Fixed Assets2 Current Assets: Stock3 Debtors4 Bank

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Amount Rs. 15,00,000 3,00,000 2,00,000 1,00,000 21,00,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

121

Working Notes 1.

Add:

Net Profit after Interest but before Tax Interest on Term Loan

Less:

Tax

Net PBIT Net Profit before Interest but after Tax

Now, Return on Capital Employed = or

10 =

Rs. 1,00,000 1,20,000 2,20,000 40,000 1,80,000

Net Profit before Interest but after Tax × 100 Capital Employed

1,80,000 × 100 Capital Employed

∴ Capital Employed = Rs. 18,00,000 Again, Debt-Equity Ratio =

Debt 5 = Equity 4

∴ Capital Employed = Equity + Debt = 5 + 4 = 9 ∴Equity = 4/9 × 18,00,000 = Rs. 8,00,000 ∴ Debt (i.e., Term Loan) = 5/9 × 18,00,000 = Rs. 10,00,000 2. Owner’s Equity to Fixed Asset = 8:15 Owner’s Equity 8 = or Fixed Asset 15 or

8,00,000 8 = Fixed Asset 15

∴ Fixed Asset = 8,00,000 × 15 ÷ 8 = Rs. 15,00,000 3. Fixed Asset Turnover Ratio = or

Turnover Fixed Asset

Turnover 8 = 15,00,000 5

∴ Turnover = 15,00,000 × 8 ÷ 5 = Rs. 24,00,000 ∴ Closing stock = 12.5% of sales = 12.5% of 24,00,000 = Rs. 3,00,000 4. Debtors’ Turnover = 1 month ∴ Debtors’ Turnover Ratio =

12 months = 12 1 month

or

Credit Sales = 12 Debtors

or

24,00,000 = 12 [ assumed that all sales were made on credit ] Debtors

∴ Debtors = Rs. 2,00,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

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5. In a Balance Sheet, Owner’s Equity + Long-term Loan = Fixed Asset + Working Capital Here, 8,00,000 + 10,00,000 = 15,00,000 + Working Capital ∴Working Capital = Rs. 3,00,000 Again, in the given problem, Current Assets = Stock + Debtors + Bank = 3,00,000 + 2,00,000 + 1,00,000 + Rs. 6,00,000 Now, Working Capital = Current Assets (CAs) − Current Liabilities (CLs) or

3,00,000 = 6,00,000 − CL

∴Current Liabilities = Rs. 3,00,000 Again, Liquid Ratio = Here, 1.2 = or

CAs − Stock CLs − Bank Overdraft

(6,00,000 – 3,00,000) (3,00,000 − Bank overdraft)

3,00,000 = 3,60,000 − 1.2 Bank Overdraft

∴ Bank overdraft = 60,000 ÷ 1.2 = Rs. 50,000 Again, CLs = Liquid Liabilities + Bank Overdraft Here, 3,00,000 = Liquid Liabilities + 50,000 ∴ Liquid Liabilities = Rs. 2,50,000

Problem 24 A company gives you the following information in respect of the year 2008–09: Gross Profit Ratio Net Profit Ratio Stock Turnover Ratio Average Debt Collection Period Credit Period Allowed by Suppliers Current Ratio Depreciation on Fixed Asset @ 10% Long-term Loan Opening Stock Closing Stock

20% 15% 10 2 months 1 month 4 Rs. 20,000 Rs. 1,00,000 Rs. 90,000 Rs. 1,02,000

On 31 March 2009, Current Asset consisted of Stock, Debtors and cash only. There was no Bank Overdraft. All purchases were made on credit. Cash sales were 25% of the total sales. Prepare a Profit & Loss A/c of the company for the year that ended on 31 March 2009 and a Balance Sheet as on that date.

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

123

Solution Books of a Company Profit & Loss A/c for the year that ended on 31 March 2009 Dr.

Cr. Particulars

To Cost of Goods Sold1 To Gross Profit c/d1 To Other Operating Expenses (Bal. fig.) To Depreciation on Fixed Asset To Net Profit2

Amount Rs. 9,60,000 2,40,000 12,00,000 40,000 20,000 1,80,000 2,40,000

By Sales1

Amount Rs. 12,00,000

By Gross Profit b/d

12,00,000 2,40,000

Particulars

2,40,000

Balance Sheet as on 31 March 2009 Liabilities Net Worth7 Long-term Debt Current Liabilities: Bank Overdraft Payables5

Amount Rs. 3,23,000 1,00,000 50,000 Nil 81,000 4,04,000

Assets Fixed Assets3 Current Assets: Stock4 Debtors4 Cash6

Amount Rs. 1,80,000 1,02,000 1,50,000 72,000 4,04,000

Working Notes (Opening Stock + Closing Stock) (90,000 + 1,02,000) = = Rs. 96,000 2 2 CGS Now, Stock Turnover Ratio = Average Stock CGS or 10 = 96,000 ∴ CGS = 96,000 × 10 = Rs. 9,60,000 ∴ GP = 20% on Sales = 1/5 on Sales = 1/4 on CGS = 1/4 on 9,60,000 = Rs. 2,40,000 ∴ Sales = CGS + GP = 9,60,000 + 2,40,000 = Rs. 12,00,000 NP 2. NP Ratio = × 100 Sales NP or 15% = 12,00,000 ∴ Net Profit after Tax = 15% × 12,00,000 = Rs. 1,80,000 1. Average Stock =

3. Depreciation on Fixed Asset @ 10% = Rs. 20,000 ∴ Net Fixed Asset = 20,000 × 90 ÷ 10 = Rs. 1,80,000 4. Total Sales = Rs. 12,00,000 Cash Sales = 25% of Total Sales ∴ Credit Sales = 75% of Total Sales = 75% of 12,00,000 = Rs. 9,00,000 Average Debt Collection Period = 2 months 12 months ∴ Debtors’ Turnover Ratio = =6 2 months (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

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MANAGEMENT ACCOUNTING

or

Credit Sales =6 Debtors

9,00,000 =6 Debtors 9,00,000 ∴ Debtors = = Rs. 1,50,000 6 5. Generally, CGS = Materials Consumed + Wages & Manufacturing Overheads In the absence of adequate information regarding wages and manufacturing overheads, it may be assumed that CGS = Materials Consumed = Rs. 9,60,000 Now, Opening Stock + Purchases = Materials Consumed + Closing Stock ∴ Purchases = Materials Consumed + Closing Stock − Opening Stock = 9,60,000 + 1,02,000 – 90,000 ∴ Purchases = Rs. 9,72,000 Now, Credit period allowed by suppliers = 1 month 12 months ∴ Creditors’ Turnover Ratio = = 12 1 month Credit Purchases or = 12 Payables 9,72,000 = 12 or Payables 9,72,000 ∴ Payables = = Rs. 81,000 12 6. Here, Current Liabilities (CLs) = Payables + Bank Overdraft = 81,000 + Nil = Rs. 81,000 or

Again, Current ratio =

Current Asset (CAs) =4 Current Liability (CLs)

CAs =4 81,000 ∴ Current Asset = 81,000 × 4 = Rs. 3,24,000 Here, Current Asset = Stock + Debtors + Cash or 3,24,000 = 1,02,000 + 1,50,000 + Cash ∴ Cash = Rs. 72,000 7. Working Capital = Current Assets (CAs) − Current Liabilities (CLs) = 3,24,000 − 81,000 = Rs. 2,43,000 In a Balance Sheet, Net Worth + Long-term Loan = Fixed Asset + Working Capital Here, Net worth + 1,00,000 = 1,80,000 + 2,43,000 ∴Net Worth = Rs. 3,23,000 or

Problem 25 From the following information of S Ltd, prepare its trading, Profit & Loss A/c and Balance Sheet: Sales Working Capital Bank Overdraft Share Capital

Rs. 7,30,000 Rs. 1,20,000 Rs. 15,000 Rs. 2,50,000

Quick Ratio Current Ratio Proprietary Ratio Fixed Assets/Proprietary Fund GP Ratio

1.3 2.5 0.6 10%

Net Profit is 10% of Proprietary fund. There are no long-term liabilities and fictitious assets. Closing stock is 10% more than the opening stock. [B.Com. (Hons), Calcutta University—2008]

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

125

Solution Books of S Ltd Trading and Profit & Loss A/c for the year that ended on Dr.

Cr. Particulars 2

To Opening Stock To Purchases (Bal. fig.) To Gross Profit c/d1 To Indirect Expenses7 To Net Profit6

Amount Rs. 1,05,000 6,67,500 73,000 8,45,500 43,000 30,000 73,000

By Sales By Closing Stock

Amount Rs. 7,30,000 1,15,500

By Gross Profit b/d

8,45,500 73,000

Particulars

73,000

Balance Sheet as on Liabilities Share Capital Reserves & Surplus5 Current Liabilities: Bank Overdraft Quick Liabilities3

Amount Rs. 2,50,000 50,000 15,000 65,000 3,80,000

Assets Fixed Assets4 Current Assets: Stock2 Quick Assets3

Amount Rs. 1,80,000 1,15,500 84,500 3,80,000

Working Notes GP Sales G.P Here, 10% = 7,30,000 ∴ GP = Rs. 73,000

1. GP Ratio =

2. Current Ratio =

Current Assets (CAs) 2.5 = 2.5 = Current Liabilities (CLs) 1

∴ Working Capital = CAs − CLs = 2.5 − 1 = 1.5 Again, given Working Capital = Rs. 1,20,000 ∴ Current Assets (CAs) = 2.5 / 1.5 × 1,20,000 = Rs. 2,00,000 ∴ Current Liabilities (CLs) = 1/1.5 × 1,20,000 = Rs. 80,000 (CAs − Stock) Again, Quick Ratio = (CLs − Bank Overdraft) (2,00,000 − Stock) (80,000 –15,000) or 84,500 = 2,00,000 − Stock ∴ Closing Stock = Rs. 1,15,500 Again, Closing Stock = 10% more than Opening Stock ∴Opening Stock = 100/110 × 1,15,500 = Rs. 1,15,500 or

1.3 =

3. Total Current Assets = Quick Assets + Stock Here, 2,00,000 = Quick Assets + 1,15,500 ∴ Quick Assets = Rs. 84,500 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

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Again, Total Current Liabilities = Quick Liabilities + Bank Overdraft Here, 80,000 = Quick Liabilities + 15,000 ∴Quick Liabilities = Rs. 65,000 4. Proprietary Ratio =

Fixed Assets (FA) = 0.6 Proprietors’ Fund (PF)

∴FA = 0.6 PF Again, as per company Balance Sheet, we know that Proprietors’ Fund (PF) + Long-term Loan (LTL) = Fixed Asset (FA) + Working Capital (WC) Here, PF = FAs + WC [as here, LT Loans = Nil] or PF = 0.6 PF + 1,20,000 or 0.4 PF = 1,20,000 ∴ Proprietors’ Fund (PF) = Rs. 3,00,000 ∴ Fixed Asset (FA) = 0.6 × 3,00,000 = Rs. 1,80,000 5. Proprietors’ Fund (PF) = Share Capital (SC) + Reserves & Surplus (RS) − Miscellaneous Expenditure (ME) Here, 3,00,0004 = 2,50,000 + RS – Nil [as here, Miscellaneous expenditure = Nil] ∴Reserves & Surplus (RS) = Rs. 50,000 6. NP = 10% of PF = 10% of 3,00,000 = Rs. 30,000 7. Indirect Expenses Debited to Profit & Loss A/c = GP − NP= 73,000 – 30,000 = Rs. 43,000

Problem 26 From the following information, prepare a trading and Profit & Loss A/c for the year that ended on 31 March 2009 and a Balance Sheet as on that date: Gross Profit Margin Net Profit Margin Return on Investment Rate of Tax Interest on Debt Fixed Asset Turnover Ratio Debtors’ Turnover Inventory Turnover Ratio Current Ratio Debt Asset Ratio Short-term Debt Net Sales

25% 5% 5% 50% Rs. 5,000 0.80 6 months 1.25 2.5 0.60 Rs. 50,000 Rs. 1,00,000

Solution Books of _______________ Trading and Profit & Loss A/c for the year that ended on 31 March 2009 Dr.

Cr. Particulars

To Cost of Goods Sold1 To Gross Profit c/d1 To Other Operating Expenses (Bal. fig.) To Interest on Debt

Amount Rs. 75,000 25,000 1,00,000 10,000 5,000

Particulars By Sales

By Gross Profit b/d

Amount Rs. 1,00,000 1,00,000 25,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

127

Dr.

Cr. Amount Rs. 5,000 5,000 25,000

Particulars To Tax2 To Net Profit after Tax2

Balance Sheet of Liabilities Net Worth8 Long-term Debt7 Short-term Debt

Particulars

Amount Rs.

25,000

as on 31 March 2009 Amount Rs. 1,00,000 1,00,000 50,000

Assets Fixed Assets3 Current Assets: Stock4 Debtors5 Cash & Bank6

2,50,000

Amount Rs. 1,25,000 60,000 50,000 15,000 2,50,000

Working Notes GP Sales GP 25% = 1,00,000

1. GP Margin = or

∴GP = Rs. 25,000 ∴CGS = Sales – GP = 1,00,000 – 25,000 = Rs. 75,000 Net PAT Sales Net PAT 5% = or 1,00,000 ∴ Net Profit after tax = Rs. 5,000 As the Rate of Tax = 50% ∴Tax = 50/50 × 5,000 = Rs. 5,000 Sales 3. Fixed Asset Turnover ratio = Fixed Asset 1,00,000 or 0.8 = Fixed Asset 1,00,000 ∴ Fixed Asset = = Rs. 1,25,000 0.8 CGS 4. Inventory Turnover Ratio = Average Stock 75,000 or 1.25 = Average Stock 2. NP Margin =

75,000 = Rs. 60,000 1.25 In the absence of adequate information regarding opening stock, it may be assumed that Opening Stock = Closing Stock Then, Closing Stock = Average Stock = Rs. 60,000 ∴ Average Stock =

(Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

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5. Debtors’ Turnover Ratio =

Credit Sales Debtors

1,00,000 [Assumed all sales were made on credit] Debtors 1,00,000 ∴ Debtors = = Rs. 50,000 2

or

2=

6. Current Ratio =

Current Asset (CAs) Current Liability [i.e., Short-term Debt ]

CAs 50,000 ∴Current Asset = 50,000 × 2.5 = Rs. 1,25,000

or

2.5 =

Again, Current Asset = Stock + Debtors + Cash & Bank or

1,25,000 = 60,000 + 50,000 + Cash & Bank

∴Cash & Bank = Rs. 15,000 7. Here, Total Asset = Fixed Asset + Current Asset = 1,25,000 + 1,25,000 = Rs. 2,50,000 Now, Debt Asset Ratio = or

0.6 =

Total Debt 2,50,000

∴ Total Debt =

Total Debt Total Asset

2,50,000 = Rs. 1,50,000 0.6

Again, Total Debt = Long-term Debt + Short-term Debt or

1,50,000 = Long-term Debt + 50,000

∴Long-term Debt = Rs. 1,00,000 8.

Net Profit after Tax2 Interest on Debt

Add:

Net Profit before Interest but after Tax

Rs. 5,000 5,000 10,000

Net Profit before Interest but after Tax × 100 Capital Employed 10,000 5% = Capital Employed

Now, ROI = or

∴ Capital Employed =

10,000 = Rs. 2,00,000 5%

Again, Capital Employed = Net Worth + Long-term Debt or

2,00,000 = Net Worth + 1,00,000

∴Net Worth = Rs. 1,00,000

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

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ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

Problem 27 A & Co. started its business on 1 April 2004. The following information was received from the company for the year 2004–05: Capital Introduced on 1 April 2004 Drawings during the year Depreciation @ 20% on Fixed Assets General Expenses [Excluding Depreciation] Other Figures at the year-end: Net Working Capital Current Ratio Acid Test Ratio [Cash & Debtors to Current Liabilities] Capital Employed Turnover [Sales to Net Assets]

Rs. 5,00,000 Rs. 50,000 Rs. 25,000 Rs. 68,000 Rs. 50,000 2:1 1.5:1 2:1

Prepare an Income Statement for the year 2004–05 and a Balance Sheet as on 31 March 2005, with as many details as possible. [B.B.A. (Hons), Calcutta University—2005] Solution Income Statement of A & Co. for the year that ended on 31 March 2005 Rs. Less: Less:

Sales5 Cost of Goods Sold (Bal. fig.) Gross Loss General Expenses Depreciation Net Loss for the year4

68,000 25,000

Rs. 3,00,000 5,07,000 2,07,000 93,000 3,00,000

Balance Sheet of A & Co. as on 31 March 2005

Less: Less:

Liabilities Capital: Opening Balance Drawings Net Loss Current Liabilities1

Rs. 5,00,000 50,000 4,50,000 3,00,000

Rs. Less:

1,50,000 50,000 2,00,000

Assets Fixed Assets3 Depreciation Current Assets: Stock2 Cash & Debtors2

Rs. 1,25,000 25,000

Rs. 1,00,000 25,000 75,000 2,00,000

Working Notes 1. Net Working Capital = Current Assets (CAs) − Current Liabilities (CLs) = Rs. 50,000 CAs 2 Again, Current Ratio = = CLs 1 ∴Net Working Capital = 2 − 1 = 1 ∴Current Assets = 2/1 × Rs. 50,000 = Rs. 1,00,000 ∴ Current Liabilities = 1/1 × Rs. 50,000 = Rs. 50,000 2. Here, Acid Test Ratio =

Cash & Debtors 1.5 = CLs 1 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

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(CAs − Stock) = 1.5 CLs or (1,00,000 − Stock) = 1.5 50,000 ∴Stock = 1,00,000 − 75,000 = Rs. 25,000 ∴Cash & Debtors = 1,00,000 − 25,000 = Rs. 75,000

or

3. Depreciation on Fixed Assets @ 20% = Rs. 25,000 ∴Value of Fixed Assets before Charging Depreciation = 100/20 × 25,000 = Rs. 1,25,000 4. Here, the Balance Sheet equation is Capital + CLs = FAs + CA ∴ Closing Capital = FAs + CAs − CLs = (1,25,000 − 25,000) + 1,00,000 − 50,000 = Rs. 1,50,000 ∴Net Loss for the year = Opening capital – Closing capital − Drawings = 5,00,000 − 1,50,000 − 50,000 = Rs. 3,00,000 5. Capital Turnover Ratio =

Sales 2 = Closing Capital 1

Sales =2 1,50,000 ∴ Sales = Rs. 3,00,000

or

Problem 28 From the following information, prepare a trading and Profit & Loss A/c for the year that ended on 31 March 2008 and a Balance Sheet as on that date of K Ltd: Gross Profit Ratio Current Ratio Net Profit to Equity Capital Stock Turnover Ratio Average Debt Collection Period Creditors’ Velocity Proprietary Ratio [Fixed Assets to Capital Employed] Capital Gearing Ratio [Preference Shares & Debentures to Equity) General Reserves and Profit & Loss A/c to Issued Equity Capital Preference Share Capital to Debentures

25% 2 10% 5 times 2 months 3 months 80% 25% 25% 3

Cost of sales consists of 40% for materials, and balance for wages and overheads. GP is Rs. 6,00,000. Solution Books of _______________ Trading and Profit & Loss A/c for the year that ended on 31 March 2008 Dr. Particulars To Materials Consumed2 To Wages & Overheads2 To Gross Profit c/d To Other Operating Expenses & Interest on Debentures (Bal. fig.) To Net Profit

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Amount Rs. 7,20,000 10,80,000 6,00,000 24,00,000 4,78,400

Particulars By Sales1

By Gross Profit b/d

1,21,600 6,00,000

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Cr. Amount Rs. 24,00,000

24,00,000 6,00,000

6,00,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

131

Balance Sheet as on 31 March 2008 Amount Rs. 12,16,000 2,85,000 1,82,400 1,21,600 95,000

Liabilities Equity Share Capital8 Preference Share Capital8 General Reserve9 Profit & Loss A/c9 Debentures8 Current Liabilities: Payables4 Bank Overdraft6

Assets Fixed Assets7 Current Assets: Stock3 Receivables5

1,80,000 2,00,000 2,32,300

Amount Rs. 15,20,000 3,60,000 4,00,000

2,32,300

Working Notes 1. Gross Profit Ratio = Gross Profit = 25% Sales 6,00,000 = 25% or Sales ∴Sales = 6,00,000 × 25% = Rs. 24,00,000 2. Cost of Sales = Sales − Gross Profit = 24,00,000 – 6,00,000 = Rs. 18,00,000 ∴Materials Consumed = 40% of Cost of Sales = 40% of 18,00,000 = Rs. 7,20,000 ∴Wages & Overheads = 60% of Cost of Sales = 60% of 18,00,000 = Rs. 10,80,000 3. Stock Turnover Ratio =

Cost of Goods Sold =5 Average Stock

18,00,000 = 5 Average Stock 18,00,000 ∴ Average Stock = = Rs. 3,60,000 5 Here, in the absence of adequate information, it is considered that Opening Stock = Closing Stock ∴Average Stock = Closing Stock = Rs. 3,60,000 ∴Opening Stock = Closing Stock = Average Stock = Rs. 3,60,000

or

4. Materials Consumed = Rs. 7,20,000 We know, Opening Stock + Purchases + Wages & Overheads = Cost of Sales + Closing Stock Here, 3,60,000 + Purchases + 10,80,000 = 18,00,000 + 3,60,000 ∴ Purchases = Rs. 7,20,000 Again, Creditors’ Velocity = 3 months ∴ Creditors’ Velocity Ratio =

12 months =4 3 months

or

Credit Purchases =4 Payables

or

7,20,000 = 4 [ assumed that the entire purchases were made on credit ] Payables

∴Payables = 7,20,000 ÷ 4 = Rs. 1,80,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

132

MANAGEMENT ACCOUNTING

5. Average Collection Period = 2 months ∴ Debtors’ Velocity Ratio = or

12 months =6 2 months

Credit Sales =6 Receivables

24,00 ,000 = 6 [ assuming that the total sales were made on credit ] Receivables ∴Receivables = Rs. 4,00,000.

or

Current Assets (CAs) =2 Current Liabilities (CLs) Here, it is assumed that there is no cash or bank balance or prepaid expense. Then, CAs = Stock + Receivables = 3,60,000 + 4,00,000 = Rs. 7,60,000 7,60,000 ∴ =2 CLs ∴Current Liabilities = Rs. 3,80,000 Again, Current Liabilities = Payables + Bank Overdraft Here, 3,80,000 = 1,80,000 + Bank Overdraft ∴Bank Overdraft = Rs. 2,00,000 ∴Working Capital = CAs − CLs = 7,60,000 – 3,80,000 = Rs. 3,80,000

6. Current Ratio =

7. Here, Proprietary Ratio =

Fixed Assets (FA) = 80% Capital Employed

∴ FA = 0.8 Capital Employed Again, Capital Employed = Fixed Asset + Working Capital Here, Capital Employed = 0.8 Capital Employed + 3,80,000 or 0.2 Capital Employed = 3,80,000 ∴ Capital Employed = 3,80,000 ÷ 0.2 = Rs. 19,00,00 ∴Fixed Asset = 0.8 × 19,00,000 = Rs. 15,20,00 8. Capital Gearing Ratio = or

25% =

Preference Share Capital & debentures Equity (i.e., Equity Shareholders’ Fund)

Preference Share Capital & Debentures Equity

∴ Preference Share Capital & Debentures = 0.25 Equity Again, Capital Employed = Equity Share Capital + Reserves & Surplus + Preference Share Capital + Debentures Again, Equity (i.e., Equity Shareholders’ Fund) = Equity Share Capital + Reserves & Surplus ∴Capital Employed = Equity + (Preference Share Capital + Debentures) or 19,00,000 = Equity + 0.25 Equity or 1.25 Equity = 19,00,000 ∴Equity = 19,00,000 ÷ 1.25 = Rs. 15,20,000 ∴Preference Share Capital + Debentures = 0.25 × 15,20,000 = Rs. 3,80,000 Preference Share Capital 3 = Debentures 1 ∴Preference Share Capital + Debentures = 3 + 1 = 4 ∴Preference Share Capital = 3/4 × 3,80,000 = Rs. 2,85,000 ∴ Debentures = 1/4 × 3,80,000 = Rs. 95,000 Again,

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

133

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

Here, Equity (i.e., Equity Shareholders’ Fund) = Equity Share Capital + General Reserves + Profit & Loss A/c = 15,20,000 Again,

(General Reserves + Profit & Loss A/c) 25 1 = 25% = = Equity Share Capital 100 4

∴Equity Shareholders’ Fund = Equity Share Capital + General Reserves + Profit & Loss A/c = 4 + 1 = 5 ∴Equity Share Capital = 4/5 × 15,20,000 = Rs. 12,16,000 ∴General Reserves × Profit & Loss A/c = 1/5 × 15,20,000 = Rs. 3,04,000 9. NP to Equity capital = 10% NP = 10% or Equity Capital or

NP = 10% 12,16,000

∴NP (i.e., Profit & Loss A/c) = 10% × 12,16,000 = Rs. 1,21,600 Again, General Reserves + Profit & Loss A/c = 3,04,000 or General Reserve + 1,21,600 = 3,04,000 ∴General Reserve = Rs. 1,82,400

Problem 29 Construct trading and Profit & Loss A/c for the year that ended on 31 March 2006 from the following details: Stock Velocity Debtors’ Velocity Operating Ratio Creditors’ Velocity Office Overhead to Selling & Distribution Overhead Depreciation on Fixed Assets Goods are Sold at Cost Plus Dividend Received on Investments Loss on Sale of Machinery Bank Interest Accrued Interest on Loan Taken for Investment CGS includes ‘Chargeable Expenses’ Debtors Creditors Stock in Trade [31 March 2006] Cash Purchase

1.2 months 73 days 0.85 3 months 1÷2 Rs. 15,000 33 13 % Rs. 15,000 Rs. 7,000 Rs. 3,000 Rs. 4,500 Rs. 1,44,000 Rs. 1,12,000 Rs. 58,000 Rs. 70,000

[B.Com. (Hons), Calcutta University—2007] Solution Trading and Profit & Loss A/c of _______________ for the year that ended on 31 March 2006 Dr. Particulars To Opening Stock3 To Purchases: Cash Credit1

Cr. Rs.

70,000 4,48,000

Rs. 50,000

5,18,000

Particulars By Sales: Cash Credit2 By Closing Stock

Rs. Nil 7,20,000

Rs.

7,20,000 58,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

134

MANAGEMENT ACCOUNTING

Dr.

Cr.

Particulars To Wages (Bal. fig.) To Gross Profit c/d

Rs.

To Depreciation on Fixed To Office Overheads4

Rs. 30,000 1,80,000 7,78,000 15,000 19,000 38,000

To Selling & Distribution Overheads4 To Interest on Loan Taken for Investments To Loss on sale of Machinery To NP4

Particulars

By Gross Profit b/d By Dividend Received on Investments By Accrued Bank Interest

4,500 7,000 1,14,500 1,98,000

Rs.

Rs.

7,78,000 1,80,000 15,000 3,000

1,98,000

Working Notes 1. Given, Creditors’ Velocity = 3 months 12 months ∴ Creditors’ Velocity Ratio = =4 3 months or Credit Purchases = 4 Payables Here, Payables = Creditors = Rs. 1,12,000 [as there is no bills payable] Credit Purchases or =4 1,12,000 ∴ Credit Purchases = Rs. 4,48,000 2. Debtors’ Velocity = 73 days 365 days ∴ Debtors’ Velocity Ratio = =5 73 days Credit Sales or =5 Receivables Here, Receivables = Debtors = Rs. 1,44,000 [as there is no bills receivable] Credit Sales or =5 1, 44,000 ∴Credit Sales = Rs. 7,20,000 3. Goods Sold at Cost Plus 33 13 %. i.e., GP = 33 13 % on Cost = 1/3 on Cost = 1/4 on Sales = 1/4 on Rs. 7,20,000 = Rs. 1,80,000 [assumed that there is no cash sales] ∴CGS = Sales − GP = 7,20,000 – 1,80,000 = Rs. 5,40,000 12 months Again, Stock Velocity = 1.2 months = = 10 1.2 months CGS = 10 or Average Stock 5, 40,000 = 10 or Average Stock ∴ Average stock = Rs. 54,000

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

135

(Opening Stock + Closing Stock) 2 (Opening Stock + 58,000) or 54,000 = 2 or Opening Stock + 58,000 = 1,08,000 ∴Opening Stock = Rs. 10,000 Again, Average Stock =

(Cost of Goods Sold + Other Operating Expenses) Sales (5, 40,000 + Other Operating Expenses) or 0.85 = 7,20,000 or 5,40,000 + Other Operating Expenses = 6,12,000 ∴Other Operating Expenses = Rs. 72,000 Here, Other Operating Expenses = Depreciation on Fixed Assets + Office Overheads + Selling & Distribution Overheads or 72,000 = 15,000 + Office Overheads + Selling & Distribution Overheads ∴Office Overheads + Selling & Distribution Overheads = Rs. 57,000 Office Overheads 1 Given, = Selling & Distribution Overheads 2 ∴ Office overheads + Selling & Distribution Overheads = 1 + 2 = 3 ∴ Office Overheads = 1/3 × 57,000 = Rs. 19,000 ∴Selling & Distribution Overheads = 2/3 × 57,000 = Rs. 38,000

4. Operating Ratio =

Problem 30 From the following particulars, prepare a statement showing Proprietors’ Fund as on 31 March 2009: Gross Profit Gross Profit Ratio Capital Turnover Ratio Fixed Asset Turnover Ratio Long-term Loan Reserves & Surplus Gearing Ratio [Preference Capital to Equity Capital] Stock Velocity Debtors’ Velocity Creditors’ Velocity Bank Overdraft Bills Receivable Bills Payable Miscellaneous Expenditure Closing Stock

Rs. 7,50,000 25% 1.6901408 4 Rs. 7,75,000 Rs. 2,00,000 1: 3 4 months 3 months 6 times Rs. 1,10,000 Rs. 50,000 Rs. 45,000 Nil Rs. 30,000 more than the Opening Stock

Solution Statement of Proprietors’ Fund of an organization as on 31 March 2009 Rs. Sources of Fund: Equity Share Capital2 Preference Share Capital2

Rs.

Rs. 6,00,000 2,00,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

136

MANAGEMENT ACCOUNTING

Rs.

Rs.

Total Share Capital Add:

Reserves & Surplus

Less:

Miscellaneous Expenditure Applications of Fund: Fixed Assets1 Working Capital: Current Assets: Stock4 Debtors3 Bills Receivable

Add:

Less:

Rs. 8,00,000 2,00,000 10,00,000 Nil 10,00,000 7,50,000

7,65,000 7,00,000 50,000 15,15,000

Current Liabilities: Creditors5 Bills Payable Bank Overdraft

3,35,000 45,000 1,10,000 4,90,000 10,25,000 17,25,000 7,75,000 10,00,000

Long-term Loan6

Less:

Working Notes GP × 100 Sales 7,50,000 25% = Sales

1. GP Ratio = or

∴Sales = 7,50,000 ÷ 25% = Rs. 30,00,000 Sales Again, Fixed Asset Turnover Ratio = Fixed Asset 30,00,000 or 4 = Fixed Asset ∴Fixed asset = 30,00,000 ÷ 4 = Rs. 7,50,000 Sales Capital Employed 30,00,000 or 1.6901408 = Capital Employed 30,00,000 ∴ Capital Employed = = Rs. 17,75,000 1.6901408 Again, Capital Employed = Proprietors’ Fund + Long-term Loan or 17,75,000 = Proprietors’ Fund + 7,75,000 ∴Proprietors' Fund = Rs. 10,00,000

2. Capital Turnover Ratio =

Again, Gearing Ratio =

Preference Share Capital Equity Share Capital

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

or

137

1 Preference Share Capital = 3 Equity Share Capital

∴Equity Share Capital = 3 × Preference Share Capital Now, Proprietors’ Fund = Equity Share Capital + Preference Share Capital + Reserves & Surplus − Miscellaneous Expenditure Here, 10,00,000 = 3 × Preference Share Capital + Preference Share Capital + 2,00,000 − Nil or 4 × Preference Share Capital = 8,00,000 ∴Preference Share Capital = 8,00,000 ÷ 4 = Rs. 2,00,000 ∴Equity Share Capital = 3 × 2,00,000 = Rs. 6,00,000 3. Debtors’ Velocity = 3 months = or

12 months =4 3 months

Credit Sales =4 Receivables

30,00,000 = 4 [assumed that all sales were made on credit] Receivables 30,00,000 ∴ Receivables = = Rs. 7,50,000 4 Again, Receivables = Debtors + Bills Receivable or 7,50,000 = Debtors + 50,000 ∴Debtors = Rs. 7,00,000

or

4. CGS = Sales – GP = 30,00,000 – 7,50,000 = Rs. 22,50,000 12 months Now, Stock Velocity = 4 months = =3 4 months CGS or =3 Average Stock or

22,50,000 =3 Average Stock

∴ Average Stock =

22,50,000 = Rs. 7,50,000 3

Now, let the Opening Stock be x. Closing Stock = x + 30,000 (Opening Stock + Closing Stock) x + (x + 30,000) ∴ Average Stock = = = x + 15,000 2 2 or 7,50,000 = x + 15,000 ∴x = Opening Stock = Rs. 7,35,000 ∴Closing Stock = 7,35,000 + 30,000 = Rs. 7,65,000 5. We know that CGS = Materials Consumed + Wages & Manufacturing Overheads In the absence of adequate information regarding Wages & Manufacturing overheads, here it may be assumed that Materials consumed = CGS = 22,50,0004 Now, Opening Stock + Purchases = Materials Consumed + Closing Stock ∴Purchases = Materials Consumed + Closing Stock − Opening Stock = 22,50,000 + 7,65,000 – 7,35,000 ∴Purchases = Rs. 22,80,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

138

MANAGEMENT ACCOUNTING

Now, Creditors’ Velocity = 6 or

Credit Purchases =6 Payables

or

22,80,000 = 6 [ assumed that all purchases were made on credit ] Payables

∴ Payables =

22,80,000 = Rs. 3,80,000 6

Again, Payables = Creditors + Bills Payable or 3,80,000 = Creditors + 45,000 ∴Creditors = Rs. 3,35,000 6. In a Balance Sheet, Proprietors’ Fund + Long-term Loan = Fixed Asset + Working Capital Here, 10,00,000 + 7,75,000 = 7,50,000 + Working Capital ∴Working Capital = Rs. 10,25,000 Again, in the given problem, Rs. Current Assets: Stock Debtors Bills Receivable Bank (Bal. fig.) Less:

Rs. 7,65,000 7,00,000 50,000 Nil 15,15,000

Current Liabilities: Bank Overdraft Creditors Bills Payable

1,10,000 3,35,000 45,000

Working Capital

4,90,000 10,25,000

Problem 31 From the following information, prepare a Trading and Profit & Loss A/c for the year that ended on 31 March 2009 and a Balance Sheet as on that date of Arzoo Ltd: Gross Profit Ratio Net Profit Ratio [to Average Capital Employed] Stock velocity Debtors’ velocity Current Ratio Quick Ratio Proprietary Ratio [Fixed Assets to Proprietors’ Fund] Share Capital Working Capital Bank Overdraft

20% 10% 4 36.5 days 2.5 1.5 7 Rs. 1,80,000 Rs. 63,000 Rs. 10,000

There is no fictitious asset. In the current asset, there is no asset other than stock, debtors and cash. Closing Stock is 20% higher than the Opening Stock. [M.Com. Calcutta University—Adapted]

Modified Date: Tue, Jul 06, 2010 11:42:59 AM

Output Date: Tue, Jul 06, 2010 01:35:12 PM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

139

Solution Books of Arzoo Ltd Trading and Profit & Loss A/c for the year that ended on 31 March 2009 Dr.

Cr. Particulars 1

To Opening Stock To Purchases2 To Gross Profit c/d2 To Other Operating Expenses (Bal. fig.) To Net Profit5

Amount Rs. 47,500 2,18,500 52,250 3,18,250 32,250 20,000 52,250

By Sales By Closing Stock1

Amount Rs. 2,61,250 57,000

By Gross Profit b/d

3,18,250 52,250

Particulars 2

52,250

Balance Sheet as on 31 March 2009 Liabilities Share Capital Reserves & Surplus4 Long-term Loan3 Current Liabilities: Bank Overdraft Liquid Liabilities6

Amount Rs. 1,80,000 30,000 Nil 10,000 32,000 2,52,000

Assets Fixed Assets3 Current Assets: Stock1 Debtors7 Cash8

Amount Rs. 1,47,000

57,000 26,125 21,875 2,52,000

Working Notes 1. Current Ratio =

Current Assets (CAs) 5 = 2.5 = Current Liabilities (CLs) 2

∴ Working Capital = CAs – CLs = 5 – 2 = 3 Again, given Working Capital = Rs. 63,000 ∴Current Liabilities (CLs) = 2/3 × Rs. 63,000= Rs. 42,000 ∴Current Assets (CAs) = 5/3 × Rs. 63,000 = Rs. 1,05,000 Liquid Assets (CAs – Stock) Again, Quick Ratio = = = 1.5 Liquid Liabilities (CLs – Bank Overdraft) (1,05,000 – Stock) Here, = 1.5 (42,000 –10,000) or 48,000 = 1,05,000 – Stock ∴Stock (i.e., Closing Stock) = Rs. 57,000 Now, let Opening Stock = 100 Then, Closing Stock = 100 + 20% of 100 = 120 ∴Opening Stock = 100/120 × 57,000 = Rs. 47,500 (Opening Stock + Closing Stock) (47,500 + 57,000) ∴ Average Stock = = = Rs. 52,250 2 2 CGS 2. Stock Velocity = Average Stock CGS or 4 = 52,250 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

140

MANAGEMENT ACCOUNTING

∴CGS = 52,250 × 4 = Rs. 2,09,000 ∴GP = 20% on Sales =

1

5

on Sales =

1

4

on CGS =

1

4

on 2,09,000 = Rs. 52,250

∴Sales = CGS + GP = 2,09,000 + 52,250 = Rs. 2,61,250 We know, CGS = Materials Consumed + Wages & Overheads In the absence of adequate information regarding wages and overheads, here it may be assumed that Materials Consumed = CGS = 2,09,000 Now, Opening Stock + Purchases = Materials Consumed + Closing Stock ∴Purchases = Materials Consumed + Closing Stock – Opening Stock = 2,09,000 + 57,000 – 47,500 ∴Purchases = Rs. 2,18,500 3. Proprietary Ratio =

Fixed Assets (FA) = 0.7 Proprietors’ Fund (PF)

∴FA = 0.7 PF Again, as per company Balance Sheet, we know that Proprietors’ Fund (PF) + Long-term Loan (LTL) = Fixed Asset (FA) + Working Capital (WC) Here, PF = FAs + WC [assuming that LT Loans = Nil] or PF = 0.7 PF + 63,000 or 0.3 PF = 63,000 ∴Proprietors’ Fund (PF) = 63,000 ÷ 0.3 = Rs. 2,10,000 ∴Fixed Asset (FA) = 0.7 × 2,10,000 = Rs. 1,47,000 4. Proprietors’ Fund = Share Capital + Reserves & Surplus − Miscellaneous Expenditure Here, 2,10,000 = 1,80,000 + Reserves & Surplus − Nil ∴Reserves & Surplus = Rs. 30,000 5. Closing Capital Employed = Closing Proprietors’ Fund + Closing Long-term Loan = 2,10,000 + Nil = Rs. 2,10,000 Opening Capital Employed = Closing Capital Employed – NP for the year [assuming that neither shares were issued nor long-term loan was repaid during the year] Let NP for the year = x ∴Opening Capital Employed = 2,10,000 − x (Opening Capital Employed + Closing Capital Employed) ∴ Average Capital Employed = 2 ⎡⎣(2,10,000 − x ) + 2,10,000 ⎤⎦ or Average Capital Employed = 2 4,20,000 − x ) 2,10,000 − x ( ∴ Average Capital Employed = = = 2,10,000 − 0.5x 2 2 NP × 100 Now, NP Ratio = Average Capital Employed x

or

10% =

or

0.1 =

or or

x = 21,000 − 0.05x 1.05x = 21,000

∴ x=

(2,10,000 − 0.5x ) x

(2,10,000 − 0.5x )

21,000 = 20,000 1.05

∴NP for the year = Rs. 20,000

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

141

6. Current Liabilities = Liquid Liabilities + Bank Overdraft Here, 42,000 = Liquid Liabilities + 10,000 ∴Liquid Liabilities = Rs. 32,000 7. Debtors’ velocity = 36.5 days = or

365 days = 10 36.5 days

Credit Sales = 10 Debtors

2,61,250 = 10 [ assumed that all sales were made on credit ] Debtors 2,61,250 ∴ Debtors = = Rs. 26,125 10

or

8. Current Asset = Stock + Debtors + Cash or 1,05,000 = 57,000 + 26,125 + Cash ∴Cash = Rs. 21,875

Problem 32 From the following information, prepare a Profit & Loss A/c for the year that ended on 31 March 2008 and a Balance Sheet as on that date of K Ltd: Current Asset to Stock Current Ratio Acid Test Ratio Financial Leverage Earning per Share Book Value per Share Average Collection Period [Assume 360 days in a year] Stock Turnover Ratio Fixed Asset Turnover Ratio Total Liabilities to Net Worth Net Working Capital Net Profit to Sales Variable Cost Interest on Long-term Loan Tax

3:2 3 1 2.2 Rs. 40 Rs. 100 30 days 5 5:6 3.75 Rs. 10,00,000 10% 60% @ 12% Nil

[C.A. (Inter)—Adapted] Solution Books of K Ltd Profit & Loss A/c for the year that ended on 31 March 2008 Dr.

Cr. Particulars

To Variable Cost5 To Fixed Cost5 To EBIT c/d4 To Interest on Loan To Tax

Amount Rs. 23,40,000 15,60,000 11,00,000 50,00,000 6,00,000 Nil

By Sales2

Amount Rs. 50,00,000

By EBIT b/d

50,00,000 11,00,000

Particulars

(Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

142

MANAGEMENT ACCOUNTING

Dr.

Cr. Amount Rs. 5,00,000 11,00,000

Particulars To EAT

Particulars

Amount Rs. 11,00,000

Balance Sheet as on 31 March 2008 Amount Rs. 12,50,000 7,50,000 50,00,000 5,00,000 75,00,000

Liabilities Share Capital9 [of Rs. 100] Reserves & Surplus9 Long-term Loan6 Current Liabilities1

Assets Fixed Assets7 Current Assets: Stock11 Liquid Assets1

Amount Rs. 60,00,000 10,00,000 5,00,000 75,00,000

Working Notes 1. Current Ratio =

Current Assets ( CAs) 3 =3= Current Liabilities ( CLs) 1

∴Net Working Capital = CAs − CLs = 3 − 1 = 2 Again, given Net Working Capital = Rs. 10,00,000 ∴ Current Assets (CAs) = 3/2 × 10,00,000 = Rs. 2,00,000 ∴Current Liabilities (CLs) = 1/2 × 10,00,000 = Rs. 5,00,000 Again,

CAs 3 = Stock 2

15,00,000 3 = Stock 2 ∴Stock = Rs. 10,00,000 Now, Liquid Assets = CAs − Stock = 15,00,000 – 10,00,000 = Rs. 5,00,000 or

CGS Average Stock Here, in the absence of adequate information, it is considered that Turnover Stock Turnover Ratio = Closing Stock Turnover or 5 = 10,00,000

2. Stock Turnover Ratio =

∴Turnover (i.e., Sales) = Rs. 50,00,000 3.

NP = 10% Sales NP = 10% or 50,00,000 ∴NP (i.e., EAT) = Rs. 5,00,000

4. As Tax = Nil, EBT = EAT = Rs. 5,00,000 EBIT Now, Financial Leverage = EBT

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

143

EBIT 5,00,000 ∴EBIT = Rs. 11,00,000

or 2.2 =

5. CGS = Sales – EBIT = 50,00,000 – 11,00,000 = Rs. 39,00,000 ∴Variable Cost = 60% of 39,00,000 = Rs. 23,40,000 ∴Fixed Cost = 40% of 39,00,000 = Rs. 15,60,000 6. Interest on Loan = EBIT − EBT = 11,00,000 – 5,00,000 = Rs. 6,00,000 Again, Rate of Interest on Long-term Loan = 12% ∴Long-term Loan = 100/12 × 6,00,000 = Rs. 50,00,000 Turnover 7. Fixed Asset Turnover Ratio = Fixed Assets 5 50,00,000 = or 6 Fixed Assets ∴Fixed Assets = Rs. 60,00,000 8. Here, Total outside Liabilities = Long-term Loan + Current Liabilities = 50,00,000 + 5,00,000 = Rs. 55,00,000 And, Total Liabilities = Total Outside Liabilities + Net Worth (NW) Now,

Total Liabilities = 3.75 Net Worth (NW )

or

( Total Outside Liabilities + NW ) = 3.75

or

(55,00,000 + NW ) = 3.75

NW

NW or 3.75 NW = 55,00,000 + NW or 2.75 NW = 55,00,000 ∴ Net worth = 55,00,000 ÷ 2.75 = Rs. 20,00,000 EAT No. of Shares 5,00,000 Here, 40 = No. of shares ∴No. of shares = 5,00,000 ÷ 40 = 12,500 ∴Share Capital = 12,500 shares @ Rs. 100 each = Rs. 12,50,000 Now, Net Worth = Share Capital + Reserves & Surplus (RS) – Miscellaneous Expenditure Here, 20,00,000 = 12,50,000 + RS – Nil [assumed that Miscellaneous Expenditure = Nil] ∴Reserves & Surplus (RS) = Rs. 7,50,000

9. EPS =

Problem 33 From the following information, prepare the Profit & Loss A/c for the year that ended on 31 March 2009 and a Balance Sheet as on that date: Fixed Asset [Net after writing off 12.5%] Fixed Asset Turnover Ratio Gross Profit Ratio Net Profit [before Interest] to Sales Fixed Charges Cover [Debenture Interest @ 7%]

Rs. 10,50,000 2 25% 8% 8 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

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Finished Goods Turnover Ratio Current Ratio Quick Ratio Reserve to Capital Working Capital Debt Collection Period Materials Consumed to Sales Stock of Raw Materials

5 2.5 1.5 0.20 Rs. 9,00,000 2 months 30% 8 months’ consumption

Solution Books of _____________ Profit & Loss A/c for the year that ended on 31 March 2009 Dr.

Cr. Particulars

To Opening Stock of Finished Goods2 To Materials Consumed1 To Wages & Manufacturing Overheads1 To Gross Profit c/d1 To Other Operating Expenses (Bal. fig.) To Depreciation on Fixed Asset3 To Debenture Interest5 To Net Profit5

Amount Rs. 3,15,000 6,30,000 9,45,000 5,25,000 24,15,000 2,07,000 1,50,000 21,000 1,47,000 5,25,000

By Sales1 By Closing Stock of Finished Goods2

Amount Rs. 21,00,000 3,15,000

By Gross Profit b/d

24,15,000 5,25,000

Particulars

5,25,000

Balance Sheet as on 31 March 2009 Amount Rs. 13,75,000 2,75,000 3,00,000

Liabilities Share Capital6 Reserves & Surplus6 7% Debenture5 Current Liabilities: Bank Overdraft7 Quick Liabilities7

90,000 5,10,000 25,50,000

Assets Fixed Assets Current Assets: Stock of Finished Goods2 Stock of Raw Materials2 Receivables8 Cash & Bank9

Amount Rs. 10,50,000 3,15,000 4,20,000 3,50,000 4,15,000 25,50,000

Working Notes 1. Fixed Asset Turnover Ratio = or

Turnover Fixed Asset

Turnover =2 10,50,000

∴Turnover = 10,50,000 × 2 = Rs. 21,00,000 ∴GP Ratio = 25% on Sales = ¼ on Sales = ¼ on 21,00,000 = Rs. 5,25,000 ∴CGS = Sales − GP = 21,00,000 – 5,25,000 = Rs. 15,75,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

145

Now, Materials Consumed to Sales = 30% or

Materials Consumed = 30% 21,00,000

∴Materials Consumed = 21,00,000 × 30% = Rs. 6,30,000 Again, CGS = Materials Consumed + Wages & Manufacturing Overheads or

15,75,000 = 6,30,000 + Wages & Manufacturing Overheads

∴Wages & Manufacturing Overheads = Rs. 9,45,000 2. Finished Goods Turnover Ratio = or

CGS =5 Stock of Finished Goods

15,75,000 =5 Stock of Finished Goods

∴Closing Stock of Finished Goods = 15,75,000 ÷ 5 = Rs. 3,15,000 In the absence of adequate information, it may be assumed that Opening Stock of Finished Goods = Closing Stock of Finished Goods = Rs. 3,15,000 ∴Closing Stock of Raw Materials = 8 months’ Consumption = 6,30,000 × 8 ÷ 12 = Rs. 4,20,000 3. Fixed Asset after the writing off depreciation @ 12.5% = Rs. 10,50,000 ∴Depreciation on Fixed Asset = 10,50,000 × 12.5 ÷ 87.5 = Rs. 1,50,000 4. Net Profit before Interest to Sales =

Net Profit before interest = 8% Sales

Net Profit before interest = 8% 21,00,000 ∴Net Profit before interest = 8% × 21,00,000 = Rs. 1,68,000

or

5. Fixed Interest Cover = or

Net PBIT =8 Annual Interest Charges

1,68,000 = 8 [ assuming that Tax = Nil] Annual Interest Charges

∴Annual Interest Charges = 1,68,000 ÷ 8 = Rs. 21,000 Here, Debentures are already issued as fixed interest charges. As the debenture interest rate is 7%, Value of 7% Debentures = 21,000 × 100 ÷ 7 = Rs. 3,00,000 ∴Net Profit after interest & tax = Net Profit before Interest – Interest – Tax = 1,68,0004 – 21,000 – Nil = Rs. 1,47,000 6. In a Balance Sheet, Proprietors’ Fund + Long-term Loan = Fixed Asset + Working Capital Here, Proprietors’ Fund + 3,00,000 = 10,50,000 + 9,00,000 ∴Proprietors’ Fund = Rs. 16,50,000 Now, Reserve to Capital = 0.20

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-2.indd

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MANAGEMENT ACCOUNTING

or

Reserves & Surplus 1 = Share Capital 5

∴Share Capital = 5 × Reserves & Surplus Again, Proprietors’ Fund = Share Capital + Reserves & Surplus – Miscellaneous Expenditure or

16,50,000 = 5 × Reserves & Surplus + Reserves & Surplus – Nil [assuming that Miscellaneous Expenditure = Nil]

∴Reserves & Surplus = 16,50,000 ÷ 6 = Rs. 2,75,000 ∴ Share Capital = 5 × 2,75,000 = Rs. 13,75,000 7. Current Ratio =

Current Assets (CAs) 5 = 2.5 = Current Liabilities (CLs) 2

∴ Working Capital = CAs − CLs = 5 − 2 = 3 Again, given Working Capital = Rs. 9,00,000 ∴Current Liabilities (CLs) = 2/3 × Rs. 9,00,000 = Rs. 6,00,000 ∴ Current Assets (CAs) = 5/3 × Rs. 9,00,000 = Rs. 15,00,000 Again, Quick Ratio =

Liquid Assets (CAs – Stock ) = = 1.5 Liquid Liabilities ( CLs – Bank Overdraft )

Here, ⎡⎣15,00,000 – (3,15,000 + 4,20,000 )⎤⎦ = 1.5 (6,00,000 − Bank Overdraft ) or

7,65,000 = 9,00,000 − 1.5 × Bank Overdraft

∴Bank Overdraft = 1,35,000 ÷ 1.5 = Rs. 90,000 Here, Current Liabilities (CLs) = Quick Liabilities + Bank Overdraft or

6,00,000 = Quick Liabilities + 90,000

∴Quick Liabilities = Rs. 5,10,000 8. Debt Collection Period = 2 months ∴ Debtors’ Turnover Ratio =

12 months =6 2 months

or

Credit Sales = 6 [ assumed that all sales were made on credit ] Receivables

or

21,00,000 =6 Receivables

∴Receivables = 21,00,000 ÷ 6 = Rs. 3,50,000 9. Current Asset = Stock of Finished Goods + Stock of Raw Materials + Receivables + Cash & Bank or

15,00,000 = 3,15,000 + 4,20,000 + 3,50,000 + Cash & Bank

∴Cash & Bank = Rs. 4,15,000

Modified Date: Sat, Jul 03, 2010 12:42:12 PM

Output Date: Tue, Jul 06, 2010 11:40:08 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

147

Problem 34 The financial information of Good Luck Ltd for the year 2000 are given as follows: Ratio of Current Asset to Current Liabilities Liquidity Ratio [Debtors & Bank Balance to Current Liabilities] Issued Capital [Equity Shares of Rs. 10 each] Net Current Asset [As over Current Liabilities] Fixed Assets [Net Block] percentage of Shareholders’ Equity as on Closing Date Gross Profit [% of Turnover] Annual Rate of Turnover of Stock [Based on the Cost on 31 December 2000] Average Age of Outstanding Debtors for the year 2000 Net Profit [% on Issued Share Capital]

1.75:1 1.25:1 Rs. 1,20,000 Rs. 60,600 60% 20% 5.26 times 2 months 16%

On 31 December, Current Assets consisted of stock, debtors and bank balances. You are required to prepare trading and Profit & Loss A/c and Balance Sheet for the year that ended on 31 December 2000. [B.Com. (Hons), Calcutta University Part II—2002] Solution Books of Good Luck Ltd Trading and Profit & Loss A/c for the year that ended on 31 December 2000 Dr. Amount Rs. 2,12,504 53,126 2,65,630 33,926 19,200 53,126

Particulars To Cost of goods sold To Gross Profit c/d2

2

To Other Operating Expenses3 To Net Profit3

Particulars By Sales

2

Cr. Amount Rs. 2,65,630 2,65,630 53,126

By Gross Profit b/d

53,126

Balance Sheet as on 31 December 2000 Amount Rs. 1,20,000 31,500 Nil 80,800

Liabilities Share Capital [of Rs. 10 Each] Reserves & Surplus5 Long-term Loans Current Liabilities1

Assets Fixed Assets5 Current Assets: Stock1 Debtors4 Bank4

2,32,300

Amount Rs. 90,900 40,400 44,272 56,728 2,32,300

Working Notes 1. Ratio of Current Assets to Current Liabilities = 1.75:1 ∴

Current Assets (CAs) 1.75 = Current Liabilities (CLs) 1

∴Net Current Assets [over CLs, i.e., Working Capital] = CAs – CLs = 1.75 − 1 = 0.75 Again, given Net Current Assets [over CLs, i.e., Working Capital] = Rs. 60,600 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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MANAGEMENT ACCOUNTING

∴Current Assets (CAs) = 1.75/0.75 × 60,600 = Rs. 1,41,400 ∴Current Liabilities (CLs) = 1/0.75 × 60,600 = Rs. 80,800 Now, Liquidity Aatio =

(Debtors + Bank ) = 1.25 CLs

1

Here, CAs = Stock + Debtors + Bank ∴Debtors + Bank = CAs − Stock ∴

(CAs − Stock) = 1.25 CLs

or (1,41,400 − Stock) ÷ 80,800 = 1.25 or 1,01,000 = 1,41,400 − Stock ∴ Stock = Rs. 40,400 2. Average Rate of turnover of Stock [based on cost] = 5.26 Cost of Goods Sold or = 5.26 Average Stock Here, in the absence of adequate information, it is considered that Opening Stock = Closing Stock ∴ Average Stock = Closing Stock = Rs. 40,400 or

Cost of Goods Sold = 5.26 Closing Stock

or

Cost of Goods Sold = 5.26 40,400

∴ Cost of Goods Sold = Rs. 2,12,504 Again, Gross Profit = 20% on Sales = 1/5 on Sales = 1/4 on Cost of Goods Sold = 1/4 on 2,12,504 = Rs. 53,126 ∴ Sales (i.e., Turnover) = Cost of Goods Sold + Gross Profit = 2,12,504 + 53,126 = Rs. 2,65,630 3. Net Profit = 16% on Share Capital = 16% on 1,20,000 = Rs. 19,200 ∴ Other Operating Expenses Debited to Profit & Loss A/c = Gross Profit − Net Profit = 53,126 – 19,200 = Rs. 33,926

4. Average Collection Period = 2 months Debtors’ Velocity Ratio =

12 months =6 2 months

or

Credit Sales =6 Debtors

or

2,65,630 = 6 [ assuming that the total sales were made on credit ] Debtors

∴ Debtors = Rs. 44,272 Here, CAs = Stock + Debtors + Bank or 1,41,400 = 40,400 + 44,272 + Bank ∴ Bank = Rs. 56,728 5. Fixed Asset (FA)% of Shareholders’ Equity (i.e., Net Worth or NW) = 60% or or

FAs = 60% NW FAs = 0.60 NW (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

149

∴ Fixed Asset = 0.60 NW Again, as per company Balance Sheet, we know Net Worth (NW) + Long-term Loan (LTL) = Fixed Asset (FA) + Working Capital (WC) Here, NW + Nil = 0.60 NW + 60,600 [assumed that there is no Long-term loan] or NW − 0.60 NW = 60,600 or NW = 60,600 ÷ 0.40 ∴ Net Worth = Rs. 1,51,500 ∴ Fixed Assets = 0.60 × 1,51,500 = Rs. 90,900 Again, Net Worth = Equity Share Capital + Reserves & Surplus [as there is no Preference Capital or Miscellaneous Expenditure] or 1,51,500 = 1,20,000 + Reserves & Surplus ∴ Reserves & Surplus = Rs. 31,500

Problem 35 From the following information, prepare Profit & Loss A/c for the year that ended on 31 March 2008 and Balance Sheet as on that date of Nimbus Ltd: Quick Ratio Current Ratio Gross Profit Ratio Stock Turnover Ratio Debtors’ Turnover Creditors’ Velocity Operating Ratio Fixed Asset Proprietorship Ratio Earning per Share Earnings for the year as a Perentage of Share Capital Nominal Value Per Share No. of Shares Allotted No. of Working Days in a year Working Capital

1.4 2.5 40% 5 times 36 days 54 days 90% 70% Re. 1 25% Rs. 5 25,000 360 Rs. 45,000

Opening Stock was Rs. 4,000 less than the Closing Stock. There were no long-term loans, deferred expenses and prepaid expenses. All sales and purchases were made on credit. Solution Books of Nimbus Ltd Profit & Loss A/c for the year that ended on 31 March 2008 Dr. Particulars To Materials Consumed1 To Purchases3 To Gross Profit c/d To Indirect Operating Expenses5 To Non-operating Expenses (Bal. fig.) To Net Profit6

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Amount Rs. 29,000 1,59,000 1,03,333 2,91,333 77,500 833 25,000 1,03,333

By Sales2 By Closing Stock1

Cr. Amount Rs. 2,58,333 33,000

By Gross Profit b/d

2,91,333 1,03,333

Particulars

Output Date: Tue, Jul 06, 2010 11:43:37 AM

1,03,333

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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MANAGEMENT ACCOUNTING

Balance Sheet as on 31 March 2008 Amount Rs.

Liabilities Share Capital: 25,000 Shares of Rs. 5 Each, Paid up to Rs. 4 Per Share6 Reserves & Surplus: Reserve7 Profit & Loss A/c7 Current Liabilities: Payables3 Other Current Liabilities3

1,00,000 25,000 25,000

Assets Fixed Assets7 Current Assets: Stock1 Receivables4 Cash & Bank4

23,850 6,150 1,80,000

Amount Rs. 1,05,000

33,000 25,833 16,167

1,80,000

Working Notes 1. Current ratio =

Current Assets (CAs) 5 = 2.5 = Current Liabilities (CLs) 2

∴ Working Capital = CAs − CLs = 5 − 2 = 3 Again, given Working Capital = Rs. 45,000 ∴ Current Liabilities (CLs) = 2/3 × Rs. 45,000 = Rs. 30,000 ∴ Current Assets (CAs) = 5/3 × Rs. 45,000 = Rs. 75,000 Liquid Assets (CAs − Stock) Again, Quick Ratio = = = 1.4 Liquid Liabilities (CLs − Bank Overdraft) (75,000 − Stock) Here, = 1.4 [ assuming that Bank Overdraft = Nil] (30,000 − Nil) or 42,000 = 75,000 – Stock ∴ Stock (i.e., Closing Stock) = Rs. 33,000 ∴ Opening Stock = 33,000 – 4,000 = Rs. 29,000 (Opening Stock + Closing Stock) (29,000 + 33,000) = = Rs. 31,000 2 2 Cost of Goods Sold Now, Stock Turnover Ratio = Average Stock Cost of Goods Sold Here, 5 = 31,000 ∴ Cost of Goods Sold = Rs. 1,55,000. ∴ Sales = Cost of Goods Sold + Gross Profit = Cost of Goods Sold + (40% on Sales) = Cost of Goods Sold + (2/5 on Sales) = Cost of Goods Sold + (2/3 on CGS) = 1,55,000 + (2/3 of 1,55,000) = Rs. 2,58,333

2. Average Stock =

3. We know, Opening Stock + Purchases = CGS + Closing Stock Here, 29,000 + Purchases = 1,55,000 + 33,000 ∴ Purchases = Rs. 1,59,000 Again, Creditors’ Velocity = 54 days 360 days 20 ∴ Creditors’ Velocity Ratio = = 54 days 3 Credit Purchases 20 or = Payables 3 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

or

151

1,59,000 20 = [as here, Total Purchases = Credit Purchases] Payables 3

∴ Payables = 1,59,000 ÷ 20 × 3 = Rs. 23,850 Here, Current Liabilities = Payables + Other Current Liabilities or 30,000 = 23,850 + Other Current Liabilities ∴ Other Current Liabilities = Rs. 6,150 4. Debtors’ Turnover = 36 days 360 days ∴Debtors’ Velocity Ratio = = 10 36 days or

Credit Sales = 10 Receivables

or

2,58,333 = 4 [ as here, Total Sales = Credit Sales] Receivables

∴ Receivables = 2,58,333 ÷ 10 = Rs. 25,833 Here, Current Assets = Stock + Receivables + Cash & Bank or 75,000 = 33,000 + 25,833 + Cash & Bank ∴ Cash & Bank = Rs. 16,167 5. Operating Ratio = Here, 90 =

(CGS + Indirect operating Expenses) × 100 Sales

(1,55,000 + Indirect Operating Expenses) × 100 2,58,333

or Indirect Operating Expenses + 1,55,000 = 2,58,333 × 90 ÷ 100 ∴ Indirect Operating Expenses = 2,32,500 – 1,55,000 = Rs. 77,500 6. No. of Shares Allotted = 25,000 Again, EPS (EPS) = Here,

1=

NP ( i.e., Earnings) for the year No. of Shares

Net Profit for the year 25,000

∴ Net Profit (i.e., Earnings) for the year = Rs. 25,000 Again, Earnings for the year = 25% of Share Capital or 25,000 = 25/100 × Share Capital ∴ (Paid up) Share Capital = 25,000 × 100 ÷ 25 = Rs. 1,00,000 Paid up Share Capital Rs. 1,00,000 = = Rs. 4 No. of Shares 25,000 Fixed Assets (FA) 7. Fixed Asset Proprietorship Ratio = Proprietors’ Fund (PF) Paid up Value per Share =

FAs PF ∴ FA = 0.70 PF Again, as per company Balance Sheet, we know Proprietors’ Fund (PF) + Long-term Loan (LTL) = Fixed Asset (FA) + Working Capital (WC) Here, PF + Nil = 0.7 PF + 45,000 [as there is no Long-term Loan] or 0.30 PF = 45,000

Here, 70% =

(Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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∴ Proprietors’ Fund = 45,000 ÷ 0.30 = Rs. 1,50,000 ∴ Fixed Assets = 0.70 × 1,50,000 = Rs. 1,05,000 Again, Proprietors’ Fund = Paid-up Share Capital + Reserves & Surplus [as there is no miscellaneous expenditure] or 1,50,000 = 1,00,000 + Reserves & Surplus ∴ Reserves & Surplus = Rs. 50,000 Here, Reserves & Surplus = Reserves + Profit & Loss A/c or 50,000 = Reserves + 25,0006 Reserves = Rs. 25,000

Problem 36 Akash Ltd commenced the manufacture of personal computers on 1 April 2007, with an equity capital of Rs. 5,00,000 in shares of Rs. 10 each. The following details are gathered from the accounting records of the company for the year that ended on 31 March 2008: Gross Profit Ratio Current Ratio Net Profit Ratio Stock Turnover Ratio [Based on Closing Stock] Debtors’ Turnover Ratio Interest Coverage Ratio Sales to Working Capital Sales to Net Fixed Assets Credit Sales Long-term Debt/Equity Ratio

30% 2 10% 7 times 6 times 5 times 8 times 4 times 75% 1:2 1 33 % 3

Provision for Income Tax Proposed Dividend [Assume that it is not taxable] Investments as on 31 March 2008 Selling & Distribution Expenses [50% was Outstanding on 31 March 2008] Depreciation Rate [Depreciation was not part of the CGS]

20% Rs. 1,50,000 Rs. 1,00,000 20%

You are required to prepare: (a) Profit & Loss A/c for the year that ended on 31 March 2008. (b) Balance Sheet of the company as on that date. [C.A. (Final)—Adapted] Solution Books of Akash Ltd Profit & Loss A/c for the year that ended on 31 March 2008 Rs. Less: Less:

Sales1 Cost of Goods Sold3 Gross Profit3 Selling & Distribution Expenses Depreciation

1,00,000 1,25,000

Rs. 20,00,000 14,00,000 6,00,000 2,25,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

153

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

Rs.

Rs. 3,75,000 75,000 3,00,000 1,00,000 2,00,000 1,00,000 1,00,000

Rs. 6,25,000 1,25,000

Rs.

Profit before Interest & Tax Interest on Loan4 Profit before Tax Provision for Tax [33 13 % on Rs. 3,00,000] Profit after Tax Proposed Dividend [20% on Share Capital] Balance of Profit carried over to Balance Sheet

Less: Less: Less:

Balance Sheet as on 31 March 2008 Liabilities Equity Share Capital [50,000 Shares of Rs. 10 each] Reserves & Surplus: Profit & Loss A/c 9 Long-term Debt9 Current Liabilities & Provisions: Outstanding Selling & Distribution Overheads Provision for Tax Proposed Dividend

Rs. 5,00,000

1,00,000 3,00,000

Assets Fixed Assets2 Less: Depreciation Investment Current Assets: Stock7 Receivables6 Cash & Bank8

50,000 1,00,000 1,00,000 11,50,000

5,00,000 1,50,000 2,00,000 2,50,000 50,000

11,50,000

Working Notes 1. Let the Sales be 100x. Again, Sales to Net Fixed Assets = 4 Sales =4 or Net FAs 100x =4 or Net FAs 100x = 25x ∴ Net FAs = 4 Again, Depreciation = 20% on Fixed Assets ∴Depreciation = 20/80 on Net FAs = 20 ÷ 80 × 25x = 6.25

Less:

Now, GP [30% of x] Selling & Distribution Expenses

Less:

Depreciation PBIT

Again, Interest Coverage Ratio = Here, 5 =

Rs. 30x 1,00,000 30x − 1,00,000 6.25x 23.75x − 1,00,000

PBIT Interest on Debt(I)

(23.75x –1,00,000) I

Interest on Debt (I) =

(23.75x –1,00,000) = 4.75x − 20,000 5 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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Less:

Now, PBIT Interest on Debt Profit before Tax

Less:

⎡1 ⎤ Tax @ 33 13 % on PBT ⎢ % on (1x − 80, 000)⎥ 3 ⎣ ⎦

Rs. 23.75x – 1,00,000 4.75x − 20,000 19x − 80,000 1 (19x − 80,000) 3 2 Profit after Tax

Again, NP Ratio =

3

(19x − 80,000)

PAT Sales

⎡2 ⎤ ⎢⎣ 3 (19x − 80,000)⎥⎦ or 10% = 100x or 10x = 2 / 3 (19x − 80,000) or 38x − 1,60,000 = 30x or 8x = 1,60,000 ∴ x = 1,60,000 ÷ 8 = 20,000 ∴ Sales = 100x = 100 × 20,000 = Rs. 20,00,000 2.

Add:

Net Fixed Assets [25x = 25 × 20,000] Depreciation [6.25x = 6.25 × 20,000] Fixed Assets before Depreciation

Rs. 5,00,000 1,25,000 6,25,000

3. GP = 30% of Sales = 30% of 20,00,000 = Rs. 6,00,000 ∴ CGS = Sales − GP = 20,00,000 − 6,00,000 = Rs. 14,00,000 4. Interest on debt = 4.75x − 20,000 = (4.75 × 20,000) − 20,000 = Rs. 75,000 5. Sales to Working Capital (WC) = 8 or

Sales =8 WC

20,00,000 =8 WC ∴ WC = 20,00,000 ÷ 8 = Rs. 2,50,000 CAs 2 =2= Again, Current Ratio = CLs 1 ∴ WC = CAs − CLs = 2 − 1 = 1 ∴ CAs = 2/1 × 2,50,000 = Rs. 5,00,000 ∴ CLs = 1/1 × 2,50,000 = Rs. 2,50,000 6. Credit Sales = 75% [of Total Sales] = 75% of 20,00,000 = Rs. 15,00,000 or

Now, Debtors’ Turnover Ratio = Here, 6 =

Credit Sales Receivables

15,00,000 Receivables

∴Receivables = 15,00,000 ÷ 6 = Rs. 2,50,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

CGS 7. Stock Turnover Ratio [based on Closing Stock ] = Closing Stock or

7=

14,00,000 Closing Stock

∴ Closing Stock = 14,00,000 ÷ 7 = Rs. 2,00,000 8. Current Assets5 = Closing Stock + Receivables + Cash & Bank or 5,00,000 = 2,00,000 + 2,50,000 + Cash & Bank ∴ Cash & Bank = Rs. 50,000 9. Here, Reserves & Surplus = Balance of Profit & Loss A/c = Rs. 1,00,000 Long-term Debt 1 Again, = Equity Ratio 2 or

Long-term Debt 1 = (Equity Share Capital + Reserves & Surplus) 2

or

Long-term Debt 1 = (5,00,000 + 1,00,000) 2

∴ Long-term Debt = 6,00,000 ÷ 2 = Rs. 3,00,000

Problem 37 Compute the following annual Financial Statements on the basis of the Ratios given as follows: Trading and Profit & Loss A/c for the year that ended on 31 March 2008 Dr. Amount Rs. 6,00,000 ? ? 10,000 ? ?

Particulars To Cost of Goods Sold To Operating Expenses To Earnings before Interest & Tax To Debenture Interest To Income Tax To Earnings after Tax

Particulars By Sales

By Earnings before Interest & Tax

Cr. Amount Rs. 20,00,000

?

Balance Sheet as on 31 March 2008 Amount Rs.

Liabilities Net Worth: Share Capital Reserves & Surplus 10% Debentures Sundry Creditors

i. ii. iii. iv. v. vi.

? ? ? 60,000

Assets Fixed Assets Current Assets: Stock Debtors Cash

Amount Rs. ? ? 35,000 ?

Net Profit to Sales—5%. Current Ratio—1.5. Return on Net Worth—20%. Inventory turnover—15 times. Share Capital to Reserves 4:1. Rate of Income Tax—50%.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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Solution Trading and Profit & Loss A/c for the year that ended on 31 March 2008 Dr. Amount Rs. 6,00,000 11,90,000 2,10,000 20,00,000 10,000 1,00,000 1,00,000 2,10,000

Particulars To Cost of Goods Sold To Operating Expenses2 To Earnings before Interest & Tax1 To Debenture Interest To Income Tax1 To Earnings after Tax1

By Sales

Cr. Amount Rs. 20,00,000

By Earnings before Interest & Tax

20,00,000 2,10,000

Particulars

2,10,000

Balance Sheet as on 31 March 2008 Amount Rs.

Liabilities Net Worth: Share Capital4 Reserves & Surplus4 10% Debentures3 Sundry Creditors

4,40,000 1,10,000 1,00,000 60,000 7,10,000

Assets Fixed Assets7 Current Assets: Stock5 Debtors Cash6

Amount Rs. 6,20,000 40,000 35,000 15,000 7,10,000

Working Notes 1. NP to Sales = 5% NP = 5% or Sales or

NP = 5% 20,00,000

∴ NP (i.e., EAT) = 5% of 20,00,000 = Rs. 1,00,000 Here, Rate of Income Tax = 50% [of Earnings before Tax] ∴ Income Tax = 50/50 × EAT = 50/50 × 1,00,000 = Rs. 1,00,000 ∴ Earnings before Interest & Tax (EBIT) = EAT + Income Tax + Debenture Interest = 1,00,000 + 1,00,000 + 10,000 = Rs. 2,10,000 2. Operating Expenses = Sales − (CGS + EBIT) = 20,00,000 − (6,00,000 + 2,10,000) = Rs. 11,90,000 3. Debenture Interest @ 10% = Rs. 10,000 ∴ 10% Debentures = 100/10 × 10,000 = Rs. 1,00,000 4. Return on Net Worth = Here, 20 =

(EBIT − Tax) × 100 Net Worth

(2,10,000 –1,00,000) × 100 NW

∴ Net Worth = 1,10,000 ÷ 20 × 100 = Rs. 5,50,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

157

Again, Share Capital to Reserves = 4:1 or

Share Capital 4 = Reserves & Surplus 1

∴ Share Capital = 4 × Reserves & Surplus Here, Net Worth = Share Capital + Reserves & Surplus or 5,50,000 = 4 × Reserves & Surplus + Reserves & Surplus or 5 × Reserves & Surplus = 5,50,000 ∴ Reserves & Surplus = Rs. 1,10,000 ∴ Share Capital = 4 × 1,10,000 = Rs. 4,40,000 5. Inventory Turnover = 15 times or

CGS = 15 Average Stock

or

6,00,000 = 15 Average Stock

∴ Average Stock = 6,00,000 ÷ 15 = Rs. 40,000 Here, in the absence of adequate information, it is assumed that, Opening Stock = Closing Stock ∴ Closing Stock = Average Stock = Rs. 40,000 6. Current Ratio = or

CAs = 1.5 CLs

CAs = 1.5 [Here, CLs = Sundry Creditors only ] 60,000

∴ CA = 60,000 × 1.5 = Rs. 90,000 Here, CAs = Stock + Debtors + Cash or 90,000 = 40,000 + 35,000 + Cash ∴Cash = Rs. 15,000 7. In every Balance Sheet, Total Liabilities = Total Assets Here, Total Liabilities = Rs. 7,10,000 ∴ Total Assets = Rs. 7,10,000 Again, Total Assets = Fixed Assets + Current Assets or 7,10,000 = FAs + 90,000 ∴ Fixed Assets = Rs. 6,20,000

Problem 38 Given below are Cash Position Ratios of X Ltd and the industry average. Industry average is arrived at by taking the average position of 25 companies of the similar trade: Absolute Liquid Ratios X Ltd Industry Average

0.36 0.30

Cash Position to Total Asset Ratio 12.5% 15%

Cash Interval 25 days 33 days

How do you feel about the cash position of X Ltd? [B.Com. (Hons), Calcutta University—2008]

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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Solution Absolute Liquid Ratio =

Cash in hand & at bank + Short-termInvestment

Liquid Liabilities This Ratio indicates the position of cash and cash equivalents of a concern to pay off its liquid liabilities. Cash Position to Total Asset Ratio =

Cash in hand & at bank + Short-term Investments Total Assets

This Ratio indicates the proportion of Liquid Assets out of the Total Assets deployed by a concern. Cash interval expresses an idea about the time length that can be covered by the available cash and cash equivalents for meeting its operating expenses. After analysing the above comparative data of X Ltd and the industry average, the following observations can be identified: i. Absolute Liquid Ratio of X Ltd is better than the industry average. ii. Cash position to Total Asset Ratio of X Ltd is lower than the industry average. iii. Cash interval of X Ltd is also lower than that of the industry average. Hence, it can be concluded by an overall analysis of the above comparative data that X Ltd maintains a comparatively lower cash position than the industry average. Therefore, it is advised to increase the cash position of X Ltd. Problem 39 The operating performance of three divisions of a company for the year that ended on 31 March 2006 is given as follows: Sales Operating Profit Investment

Division I Rs. 2,00,000 25,000 2,50,000

Division II Rs. 2,50,000 25,000 2,00,000

Division III Rs. 3,00,000 27,000 2,00,000

i. Identify the most profitable division on the basis of: (a) Operating Profit Margin; and (b) ROI. ii. Explain with reasons which of the above two measures provides a better indication of the overall operating performance of all the divisions. [B.B.A. (Hons), Calcutta University—2007] Solution

Sales Operating Profit Investment (a) Operating Profit Margin ⎡ Operating Profit ⎤ × 100 ⎥ ⎢ Sales ⎣ ⎦ ⎡ Operating Profit ⎤ × 100 ⎥ (b) ROI ⎢ Sales ⎣ ⎦

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Division I Rs. 2,00,000 25,000 2,50,000

Division II Rs. 2,50,000 25,000 2,00,000

Division III Rs. 3,00,000 27,000 2,00,000

25,000 × 100 =12.50% 2,00,000

25,000 × 100 =10% 2,50,000

27,000 × 100 = 9% 3,00,000

25,000 × 100 = 12.50% 2,00,000

27,000 × 100 = 13.50% 2,00,000

25,000 × 100 =10% 2,50,000

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

159

i. a. On the basis of Operating Profit Margin, Division I is the most profitable division as it gives the highest profit margin on sales. b. On the basis of ROI, Division III is the most profitable division as it gives the highest return on the total investment. ii. Success of a concern is measured by the return to its owner from the business at the end of an accounting period. Although the operating success of the concern is reflected through its Operating Profit Margin, but its overall operating performance is evaluated by the return that it has been earning from its total Capital Employed in the business and return to the owner of the business. Accordingly, ROI (i.e., Return on the Total Capital Employed) provides a better indication of the overall operating performance of a concern, as it reflects the return against the total long-term fund invested into the business. In spite of earning a good Operating Profit Margin, a concern cannot sustain in the long run if it does not get a return on its total investment.

Problem 40 From the following information of Sunshine Ltd, for the year that ended on 31 March 2009, examine the details from the point of view of: (i) Solvency position; (ii) Profitability position; and (iii) Activity position of the company. Also comment on the condition of the business. Profit & Loss A/c for the year that ended on 31 March 2009 Dr. Particulars To Opening Stock To Purchases To Gross Profit c/d To Trade Expenses To Interest on debenture To Provision for Tax To Net Profit

Amount Rs. 4,00,000 16,00,000 7,00,000 27,00,000 3,35,000 25,000 50,000 3,00,000 7,10,000

By Sales By Closing Stock

Cr. Amount Rs. 21,00,000 6,00,000

By Gross Profit b/d By Interest

27,00,000 7,00,000 10,000

Particulars

7,10,000

Balance Sheet as on 31 March 2009 Liabilities Equity Share Capital 8% Preference Share Capital General Reserve Profit & Loss A/c 5% Debenture Sundry Creditors Bank Overdraft Provision for Taxation

Amount Rs. 12,00,000 8,00,000 1,00,000 2,00,000 5,00,000 9,00,000 50,000 50,000 38,00,000

Assets Plant & Machinery Land & Building Furniture & Fixture Stock in Trade Debtors Bills Receivable Cash

Amount Rs. 10,00,000 10,00,000 6,00,000 6,00,000 3,80,000 2,00,000 20,000 38,00,000

[B.Com. (Hons), Calcutta University—Adapted]

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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Solution A. Test of Solvency Positions: I. Short-term solvency position: i. Current Ratio = ii. Liquid Ratio =

CAs 12,00,0001 = = 1.2:1 CLs 10,00,0002

(CAs − Stock ) Liquid Assets 6,00,0001 = = = 0.63 :1 Liquid Liabilities (CLs – Bank Overdraft ) 9,50,0002

 Comment Both Current Ratio and Liquid Ratio of the company are lower than the Ideal Ratios of 2:1 and at least 1:1, respectively. Here, the company does not have sufficient Liquid Assets to pay off its liquid liabilities (as the Liquid Ratio is less than 1). On the other hand, the Current Assets of the company are marginally exceeding its Current Liabilities, not the the double as it should be. Hence, the short-term solvency position of the company is well below the ideal level and the company should try to improve its short-term solvency position.

II. Long-term solvency position: i.

Proprietary Ratio =

ii. Debt-Equity Ratio =

Proprietors’ Fund 23,00,0003 = = 0.6053 :1 Total Assets 38,00,000 Long-term Debt Debt = Equity Proprietors’ Fund

= 5,00,000 ÷ 23,00,0003 = 0.2174 : 1 iii. Capital Gearing Ratio = Fixed Interest Bearing Securities Ordinary Securities =

(Debenture + Preference Share Capital ) Equity Shareholders’ Fund

= (5,00,000 + 8,00,000) ÷ 15,00,0003 = 0.87 : 1 iv. Interest Coverage Ratio =

Net PBIT 3,75,0004 = = 15 Interest 25,000

 Comment Proprietary Ratio of the company shows that more than 60% of its assets are funded by its own capital. Debt-Equity Ratio expresses that the own capital invested in the business is almost 5 times of the debt capital. The Capital Gearing Ratio exhibits that it is a low-geared company, as the said Ratio is just below 1. The Interest Coverage Ratio shows that the annual interest of the company is covered by its profit by as high as 15 times. Therefore, as far as the long-term solvency is concerned, it can be concluded that all the above Ratios indicate the sound solvency position of the company, even though the company is unable to reap the benefit of trading on equity through more long-term borrowings.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

161

B. Test of Profitability Positions: 1. GP Ratio =

GP 7,00,000 × 100 = × 100 = 33 1 3 % Sales 21,00,000

2. NP Ratio =

Net PAT 3,00,000 4 × 100 = × 100 = 14.29% Sales 21,00,000

3. Operating Profit Ratio =

Operating Profit before Interest & Tax ( EBIT)

Sales = 3,65,0004 ÷ 21,00,000 × 100 = 17.38%

4. Return on Net Worth = 5. ROI =

× 100

Net PAT 3,00,0004 × 100 = × 100 = 13.04% Net Worth 23,00,0003

Net Profit before Interest but after Tax 3,25,0004 × 100 = × 100 = 11.61% Capital Employed 28,00,0003

6. ROE Shareholders’ Fund = 7. Financial Leverage =

Net PAT − Preference Dividend 2,36,0005 × 100 = × 100 = 15.73% Equity Shareholders’ Fund 15,00,0003

PBIT 3,65,0004 = = 1.0735 PBT 3,40,0004

 Comment Gross Profit Ratio shows a high rate of Gross Profit earned on sales, but the rates of Net Profit and operating profit are considerably lower than the Gross Profit rate. This is because of the huge amount of indirect operating expenses that the company has incurred during the year. Due to a similar reason, Return on Investment is also lower. Return on Net Worth is higher than the Return on Investment due to a negligible amount of interest on the borrowed capital. Return on Equity Shareholders’ Fund is also higher than the Return on Net Worth due to the low rate of preference dividend. Financial leverage equal to almost 1 indicates a negligible amount of interest on the borrowed capital. Hence, the overall profitability of the company is satisfactory with the exception of the fact that it has currently incurred a huge amount of indirect operating expenses. The company should try to reduce its indirect operating expenses so as to increase its overall return.

C. Test of Activity Positions: 1. Stock Turnover Ratio =

CGS 14,00,0006 = = 2.80 times Average Stock 5,00,0007

2. Debtors’ Turnover Ratio =

Credit Sales 21,00,000 = = 3.62 times Receivables 5,80,0008

3. Creditors’ Turnover Ratio = 4. Capital Turnover Ratio =

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Credit Purchases 16,00,000 = = 1.77 times Payables 9,00,0009

Sales 21,00,000 = = 0.75 Capital Employed 28,00,0003

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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5. Fixed Asset Turnover Ratio =

Sales 21,00,000 = = 0.81 Fixed Asset 26,00,00011

6. Working Capital Turnover Ratio =

Sales 21,00,000 = = 10.50 WC 2,00,00010

 Comment Stock Turnover Ratio of 2.80 indicates that the company’s stock-holding period is too long. Debtors’ Turnover Ratio of 3.62 also indicates the company’s longer Debt Collection Period. Accordingly, a substantial amount of WC is being blocked for a prolonged period in stock and debtors. On the other hand, the Creditors’ Turnover Ratio of 1.77 indicates that the company’s creditors’ payment period is abnormally long, which may cast a stigma on its reputation in the market. As a combination of all the above facts, the company is having a very little amount of net WC in its hand. High Working Capital Turnover Ratio indicates that the company has the ability to generate sales in the market using a lower amount of net WC. Capital Turnover Ratio and Fixed Asset Turnover Ratio, both are near to 1, and thus support in favour of the company’s sales generating capacity with respect to the total capital invested into the business and to the amount invested into its Fixed Assets, respectively. Hence, the company has been facing with a longer-period stock-holding problem, longer-period debt-collection problem and also, abnormally longer-period creditors’ payment period, in spite of having a very satisfactory sales-generating capacity. Comment on the overall condition of the business: 1. 2. 3. 4.

Short-term solvency position is not satisfactory at all. Long-term solvency position is quite sound. Profitability position is satisfactory. As far as the sales-generating capacity is concerned, the company is performing at a highly satisfactory level, but its stock-holding period, Debt Collection Period and creditors’ payment period are too long.

Working Notes 1. Calculation of Current Assets and Liquid Assets Stock in Trade Debtors Bills Receivable Cash Current Assets Less:

Stock in Trade Liquid Assets

Rs. 6,00,000 3,80,000 2,00,000 20,000 12,00,000 6,00,000 6,00,000

2. Calculation of Current Liabilities and Liquid Liabilities Sundry Creditors Bank Overdraft Provision for Taxation Current Liabilities Less:

Bank Overdraft Liquid Liabilities

Rs. 9,00,000 50,000 50,000 10,00,000 50,000 9,50,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

163

3. Calculation of Equity Shareholders’ Fund, Proprietors’ Fund and Capital Employed Rs. 12,00,000

Equity Share Capital Reserves & Surplus: General Reserve Profit & Loss A/c

Proprietors' Fund/Net Worth

1,00,000 2,00,000 15,00,000 8,00,000 23,00,000

Capital Employed

5,00,000 28,00,000

Equity Shareholders' Fund 8% Preference Share Capital Long-term Loan: 5% Debenture

4. Calculation of Operating Profit

Add: Add: Less: Less:

Rs. 3,00,000 25,000 3,25,000 50,000 3,75,000 10,000 3,65,000 25,000 3,40,000

Net Profit after Tax as per Profit & Loss A/c [EAT] Interest on Debenture Net Profit before Interest but after Tax Provision for Tax Net PBIT Interest Earned [Being Non-operating Income] Operating PBIT Interest on Debenture Operating Profit before Tax (PBT)

5. Calculation of Profit available to Equity Shareholders

Less:

Rs. 3,00,000 64,000 2,36,000

Net Profit after Tax as per Profit & Loss A/c [EAT] Preference Dividend [8% on Rs. 8,00,000] Profit Available to Equity Shareholders

6. CGS = Sales − GP = 21,00,000 − 7,00,000 = Rs. 14,00,000 7. Average Stock =

(Opening Stock + Closing Stock) (4,00,000 + 6,00,000) = = Rs. 5,00,000 2 2

8. Receivables = Debtors + Bills Receivable = 3,80,000 + 2,00,000 = Rs. 5,80,000 9. Payables = Creditors + Bills Payable = 9,00,000 + Nil = Rs. 9,00,000 10. WC = CAs − CLs = 12,00,0001 − 10,00,0002 = Rs. 2,00,000 11. Fixed Assets = Plant & Machinery + Land & Building + Furniture & Fixture = 10,00,000 + 10,00,000 + 6,00,000 = Rs. 26,00,000

Problem 41 Calculate liquidity and WC Ratios from the following accounts of a manufacturer of products for the construction industry, and comment on the Ratios. 2008 Rs. in ’000 2,065.00 1,478.60 586.40

Turnover Cost of Sales Gross Profit

2007 Rs. in ’000 1,788.70 1,304.00 484.70 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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2008 Rs. in ’000

2007 Rs. in ’000

119.00 400.90 4.20 48.20 572.30

109.00 347.40 18.80 48.00 523.20

49.10 62.00 19.20 370.70 501.00 71.30

35.30 46.70 14.30 324.00 420.30 102.90

2008 Rs. in ’000 329.80 236.20

2007 Rs. in ’000 285.40 210.80

Current Assets: Stocks Debtors [Note 1] Short-term Investments Cash at Bank and in Hand

Creditors: Amounts falling due within one year: Loans and Overdrafts Provision for Taxation Dividend Payable Creditors [Note 2] Net Current Assets Notes: 1. Trade Debtors 2. Trade Creditors Note: Industry average: Current Ratio – 1.5 and Quick Ratio – 1.0.

Solution Calculation of Liquidity and Working Capital Ratios 2008

2007

⎡ CAs ⎤ Current Ratio ⎢ ⎥ ⎣ CLs ⎦

572.30 ÷ 501.00 = 1.14

523.20 ÷ 420.30 = 1.24

⎡ Quick Assets ⎤ Quick Ratio ⎢ ⎥ ⎣ Quick Liabilities ⎦

453.30 ÷ 501.00 = 0.90

414.20 ÷ 420.30 = 0.99

⎡ Receivables ⎤ Average Collection Period ⎢ × 365 days ⎥ ⎣ Credit Sales ⎦

329.80 ÷ 2,065.00 × 365 = 58 days

285.40 ÷ 1,788.70 × 365 = 58 days

Payables ⎡ ⎤ × 365 days⎥ Average Payment Period ⎢ Credit Purchases ⎣ ⎦

236.20 ÷ 1,478.60 × 365 = 58 days

210.80 ÷ 1,304.00 × 365 = 59 days

⎡ Average Stock ⎤ × 365 days⎥ Stock Turnover Period ⎢ CGS ⎣ ⎦

119.00 ÷ 1,478.60 × 365 = 29 days

109.00 ÷ 1,304.00 × 365 = 31 days

 Comment After a close comparative scrutiny of the Ratios as computed earlier, it has been observed that the company’s both Current Ratio as well as Quick Ratio for both the years are a little lower than the industry average, but they are close to each other. This indicates that the company does not hold a huge stock in its hand, which is also duly supported by its low Stock Turnover Period. The given company is a manufacturing company that is engaged in the construction industry, and, therefore, it is generally expected to have a comparatively longer Debtors’ Turnover Period due to a relatively poor cash flow in the construction industry. Under such a circumstance, such (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

165

company should strictly control its stock level, as the stock level of the given company is strictly controlled. On the other hand, the longer creditors’ turnover period of the company shows that it pays for raw materials only after collecting the dues from the credit sales. Reviewing the overall condition, it seems that the Working Capital of the company is strongly managed to avoid a poor liquidity condition, which could be caused due to the longer Debtors’ Turnover Period.

Problem 42 The Balance Sheets of Sandakfu Ltd for the last 3 years read as follows: As on 31 March 2007

Less:

Sources of Fund: Share Capital [Share of Rs. 10 each] Securities Premium Reserves [After 10% Dividend] Long-term Loan Total Funds Represented by: Fixed Assets Depreciation Capital WIP [work-in-progress] Investment A. Net Current Assets: Current Assets: Debtors Stock Cash & Bank Others

Less:

Current Liabilities B. Total Assets [A + B] Sales [excluding Excise Duty and Sales Tax @ 20%]

Rs. in Lakhs As on 31 March 2008

As on 31 March 2009

2,000 1,500 1,500 1,000 6,000

2,000 1,500 1,700 800 6,000

3,000 500 1,800 800 6,100

2,000 700 1,300 800 200 2,300

2,500 950 1,550 900 200 2,650

3,000 1,250 1,750 700 200 2,650

1,700 1,800 500 400 4,400 700 3,700 6,000 3,900

1,800 1,900 500 600 4,800 1,450 3,350 6,000 4,000

1,850 2,400 500 1,400 6,150 2,700 3,450 6,100 5,000

Calculate for the year 2007–08 and 2008–09: i. Fixed Asset Turnover Ratio. ii. Stock Turnover Ratio. iii. Debtors’ Turnover Ratio in terms of number of days’ sales. iv. EPS. Briefly comment on the performance of the company. [C.A. (Inter)—Adapted] Solution Calculation of Ratios for the year 2007–08 and 2008–09 2007–08

2008–09

(a) Fixed Asset Turnover Ratio ⎡ Net Sales Excluding Excise Duty & Sales Tax ⎤ ⎢ ⎥ Average Fixed Asset ⎣ ⎦

4, 000 = 2.80 times 1, 425

5, 000 = 3.03 times 1, 650 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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2007–08

2008–09

(b) Stock Turnover Ratio ⎡ Net sales Excluding Excise Duty & Sales Tax ⎤ ⎢ ⎥ Average Fixed Asset ⎣ ⎦

4, 000 = 2.16 times 1, 850

5, 000 = 2.33 times 2,150

1,750 × 366 = 133 days 4, 800

1, 825 × 365 = 111days 6, 000

400 = Rs. 2 per share 200

400 = Rs. 1.33 per share 300

(c) Debtors’ Turnover Ratio [in terms of no. of days’ sales] ⎡ ⎤ Average Receivables × No. of days in the year ⎥ ⎢ ⎣ Credit Sales Including Excise ⎦ Duty & Equity Shares ⎡ Earning available to Equity Shareholders ⎤ (d) EPS ⎢ ⎥ No. of Equity Shares ⎣ ⎦

Comments on the performance of the company: Fixed Asset Turnover Ratio indicates the level of efficiency of uses or utilizations of Fixed Assets. Here, this Ratio has increased in the year 2008–09 as compared to that of in 2007–08, and, thus, shows a better efficient use or utilization in Fixed Assets in the year 2008–09. Stock Turnover Ratio is an indicator of the movement of stock. Higher Ratio indicates a faster movement of stock. Here, this Ratio has increased in 2008–09 as compared to that of in 2007–08, and, thus, shows a faster movement of stock in 2008–09 than in 2007–08. Yet, the inventory-holding period of the company is still high. Therefore, this Ratio should be compared with the industry average to draw a final conclusion about the efficiency of the inventory management of the company. Debt Collection Period indicates the efficiency of the collection department as regards to the collection of credit sales. Here, the Debt Collection Period in 2008–09 is shorter that of in 2007–08, and, thus, reflects a more efficient collection process in 2008–09 than in 2007–08. But, to draw a final conclusion about the efficiency of debtors’ management of the company, this Ratio should be compared with the industry average and the credit period received by the company from its creditors. In spite of an increase in the Reserve balance in the year 2008–09, the EPS has decreased in 2008–09 from Rs. 2 to Rs. 1.33. This happens, perhaps, due to the increase in the number of equity shares in the year 2008–09 on account of the issue of fully paid bonus shares out of Securities premium. Working Notes 1. Calculation of Sales Including Excise Duty and Sales Tax

Add:

Sales Excluding Excise Duty & Sales Tax 20% Excise Duty & Sales Tax Sales Including Excise Duty & Sales Tax

2007–08 Rs. in Lakhs 4,000 800 4,800

2008–09 Rs. in Lakhs 5,000 1,000 6,00

Note: While calculating the Fixed Asset Turnover Ratio and Stock Turnover Ratio, ‘sales excluding excise duty & sales tax’ is considered. But, while calculating Debtors’ Turnover Ratio, ‘sales including excise duty & sales tax’ is considered as sales to debtors include excise duty and sales tax.

2. Calculation of Average Fixed Assets (Net) In 2007–08: 1,300 + 1,550 = 1, 425(Rs. in Lakhs) Average Fixed Assets (Net) = 2 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

In 2008–09: Average Fixed Assets (Net) =

167

1,550 + 1,750 = 1,650(Rs. in Lakhs) 2

3. Calculation of Average Stock In 2007–08: 1,800 + 1,900 = 1,850(Rs. in Lakhs) Average Stock = 2 In 2008–09: Average Stock =

1,900 + 2, 400 = 2,150(Rs. in Lakhs) 2

4. Calculation of Average Receivables In 2007–08: 1,700 + 1,800 = 1,750(Rs. in Lakhs) Average Receivables = 2 In 2008–09: 1,800 + 1,850 = 1,825(Rs. in Lakhs) Average Receivables = 2 5. Calculation of earnings available to Equity Shareholders 2007–08 Rs. in Lakhs 200 200 400

Increase in Reserves Dividend @ 10% Earnings Available to Equity Shareholders

2008–09 Rs. in Lakhs 100 300 400

6. Debtors’ Turnover Ratio in terms of number of days Credit Sales Average Receivables Here, Debtors’ Turnover Ratio in terms of number of days = Average Collection Period We know, Debtors’ Turnover Ratio =

=

No. of days in a year No. of days in a year = Debtors turnover Ratio Credit Sales ÷ Average Receivables

=

Average Receivables × No. of days in a year Credit Sales

Note: Being 2008 a leap year, the number of days in 2007–08 is taken at 366.

Problem 43 Following are the summarized accounts of Bee Ltd and Zee Ltd for the 2 years 2007 and 2008: Rs. in Lakhs Particulars Sales Manufacturing & Other Expenses Depreciation Profit before Tax

Bee Ltd 2007 54.12 51.04 0.56 2.52 54.12

Zee Ltd 2008 45.75 43.56 0.51 1.68 45.75

2007 17.52 14.96 0.60 1.96 17.52

2008 14.47 11.82 0.35 2.30 14.47 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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Rs. in Lakhs Particulars

Bee Ltd 2007 1.65 8.36 11.24 7.28 0.93 29.46 9.47 0.56 4.24 2.54 12.65 29.46

Miscellaneous Expenditure Fixed Assets Stock Debtors Bank Creditors Taxation [Less Advance Tax] Short-term Borrowings Long-term Borrowings Capital & Reserves

Zee Ltd 2008 1.69 9.41 12.19 8.24 0.33 31.86 9.26 0.68 8.00 2.10 11.82 31.86

2007 – 3.51 1.77 5.82 4.64 15.74 2.33 0.87 4.64 0.10 7.80 15.74

2008 – 2.75 2.26 4.02 2.46 11.49 1.75 0.58 2.16 – 7.00 11.49

You are required to: i. Indicate and calculate five Ratios which in your opinion are relevant in determining the stability of the two companies. ii. Compare the Ratios so determined for the two companies. Indicate what conclusions can be drawn therefrom? [C.S. (Inter)—Adapted] Solution i. In my opinion, the following five Ratios are very much relevant in determining the stability of the given two companies as growing concerns: Computation of five Relevant Ratios in determining the stability of two companies Bee Ltd 2007 ⎡ CAs ⎤ (i) Current Ratio ⎢ ⎥ ⎣ CLs ⎦

Zee Ltd 2008

2007

2008

19.45 ÷ 14.27 = 1.36

20.76 ÷ 17.94 = 1.16

12.23 ÷ 7.84 = 1.56

8.74 ÷ 4.49 = 1.95

⎡ Total Outside Liabilities ⎤ (ii) Total Debts to Net Worth ⎢ ⎥ 16.81 ÷ 11.00 Net Worth ⎣ ⎦ = 1.582

20.04 ÷ 10.13 = 1.978

7.94 ÷ 7.80 = 1.017

4.49 ÷ 7.00 = 0.641

54.12 ÷ 27.81 = 1.946

45.75 ÷ 30.17 = 1.516

17.52 ÷ 15.74 = 1.113

14.47 ÷ 11.49 = 1.259

PBT ⎡ ⎤ × 100 ⎥ (iv) ROI ⎢ Total Assets ⎣ ⎦

2.52 ÷ 27.81 = 0.090

1.68 ÷ 30.17 = 0.055

1.96 ÷ 15.74 = 0.124

2.30 ÷ 11.49 = 0.20

(v) Liquid Assets to Operating Expenses [excluding Depreciation] per day

8.21 ÷ 0.1398 = 59

8.57 ÷ 0.1190 = 72

10.46 ÷ 0.0409 6.48 ÷ 0.0323 = 256 = 201

⎡ Turnover ⎤ (iii) Total Asset Turnover Ratio ⎢ ⎥ ⎣ Total Assets ⎦

ii. From the different Ratios as calculated in (i) above, it has been observed that the results of Zee Ltd for the year 2008 were better than that of for 2007. On the other hand, the results of Bee Ltd for the year 2008 were weaker than that of for 2007. Short-term liquidity or solvency Ratios (i.e., Current Ratio and Liquid Assets to Operating-expenses Ratio) of Zee Ltd were improved in 2008 than 2007, whereas these Ratios of Bee Ltd were deteriorated in 2008 than it was in 2007. Zee Ltd had improved its longterm solvency Ratios (i.e., Total debts to Net Worth and Total Asset Turnover Ratio) in 2008 than in

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

169

2007, whereas these Ratios were also deteriorated in 2008 than in 2007 in the case of Bee Ltd. As far as profitability was concerned, Zee Ltd had remarkably increased its ROI in 2008 than it was in 2007, whereas ROI of B Ltd was remarkably declined in 2008 than 2007. Therefore, Ratios as computed in the above are showing a stronger position in 2008 as compared to 2007 in the case of Zee Ltd, whereas they are showing a deteriorating position in 2008 as compared to 2007 in the case of Bee Ltd. Working Notes Rs. in Lakhs Bee Ltd

1. Net Worth

Less:

2007 12.65 1.65 11.00

Capital & Reserves Miscellaneous Expenditure Net Worth

Zee Ltd 2008 11.82 1.69 10.13

2007 7.80  7.80

2008 7.00  7.00

Rs. in Lakhs

2. Total Outside Liabilities Bee Ltd

Zee Ltd

2007 2.54 4.24 9.47 0.56 16.81

2008 2.10 8.00 9.26 0.68 20.04

2007 0.10 4.64 2.33 0.87 7.94

2008  2.16 1.75 0.58 4.49

11.24 7.28 0.93 19.45

12.19 8.24 0.33 20.76

1.77 5.82 4.64 12.23

2.26 4.02 2.46 8.74

9.47 0.56 4.24 14.27

9.26 0.68 8.00 17.94

2.33 0.87 4.64 7.84

1.75 0.58 2.16 4.49

Fixed Assets Current Assets [as computed in (3) above] Total Assets

8.36 19.45 27.81

9.41 20.76 30.17

3.51 12.23 15.74

2.75 8.74 11.49

6. Liquid Assets Current Assets [as computed in (3) above] Less: Stock Liquid Assets

19.45 11.24 8.21

20.76 12.19 8.57

12.23 1.77 10.46

8.74 2.26 6.48

Long-term Borrowings Short-term Borrowings Creditors Taxation [less Advance Tax] Total outside Liabilities 3. Current Assets Stock Debtors Bank Current Assets 4. Current Liabilities Creditors Taxation [less Advance Tax] Short-term Borrowings Current Liabilities 5. Total Assets

7. Operating Expenses (excluding Depreciation) per day 51.04 /365 = 0.1398

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

43.56 /366 = 0.1190

14.96 /365 = 0.0409

11.82 /365 = 0.0323

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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Problem 44 The following accounting information and Financial Ratios have been obtained in respect of Meghna Ltd, relating to the year that ended on 31 March 2009: A. Accounting information: Gross Profit Net Profit Raw Materials Consumed Direct Wages Stock of Raw Materials Stock of Finished Goods Debt Collection Period All sales are Made on Credit B. Financial Ratios: Fixed Assets to Sales Fixed Assets to Current Assets Current Ratio Long-term Loans to Current Liabilities Capital to Reserves & Surplus

15% of sales 8% of sales 20% of work’s cost 10% of work’s cost 3 months’ usage 6% of work’s cost 60 days

1:3 13:11 2:1 2:1 1:4

If the value of the Fixed Assets as on 31 March 2009 amounted to Rs. 26 lakhs, prepare a summarized Profit & Loss A/c of the company for the year that ended on 31 March 2009 and a Balance Sheet as on that date. Solution Books of Meghna Ltd Profit & Loss A/c for the year that ended on 31 March 2009 Dr. Particulars 7

To Raw Materials Consumed To Direct Wages7 To Works Overheads (Bal. fig.) To Gross Profit c/d4 To Indirect Operating Expenses (Bal. fig.) To Net Profit5

Amount Rs. 13,26,000 6,63,000 46,41,000 11,70,000 78,00,000 5,46,000 6,24,000 11,70,000

Particulars By Sales

1

By Gross Profit b/d

Cr. Amount Rs. 78,00,000

78,00,000 11,70,000 11,70,000

Balance Sheet as on 31 March 2008 Liabilities Share Capital11 Reserves & Surplus11 Long-term Loan6 Current Liabilities3

Amount Rs. 3,00,000 12,00,000 22,00,000 11,00,000

Assets Fixed Assets1 Current Assets: Stock of Raw Materials8 Stock of Finished Goods8 Debtors9 Cash10

48,00,000

Amount Rs. 26,00,000 3,31,500 3,97,800 12,82,192 1,88,508 48,00,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

171

Working Notes 1. Fixed Assets (FA) to Sales = 1:3 or

Fixed Assets 1 = Sales 3

or

26,00,000 1 = Sales 3

∴ Sales = 26,00,000 × 3 = Rs. 78,00,000 2. Fixed Assets (FA) to Current Assets (CAs) = 13:11 or

FAs 13 = CAs 11

or

26,00,000 13 = CAs 11

∴CA = 26,00,000 × 11 ÷ 13 = Rs. 22,00,000 3. Current Ratio =

Current Assets ( CAs) 2 = Current Liabilities ( CLs) 1

22,00,000 =2 CLs ∴ CL = 22,00,000 ÷ 2 = Rs. 11,00,000 4. GP = 15% of Sales = 15% of 78,00,000 = Rs. 11,70,000 or

5. NP = 8% of Sales = 8% of 78,00,000 = Rs. 6,24,000 6. Long-term Loan to CLs = 2/1 Long-term Loan =2 11,00,000 ∴ Long-term Loan = 11,00,000 × 2 = Rs. 22,00,000 or

7. Work’s Cost = Sales − GP = 78,00,000 – 11,70,000 = Rs. 66,30,000 ∴ Direct Wages = 10% of Work’s Cost = 10% of 66,30,000 = Rs. 6,63,000 8. Stock of Raw Materials = 3 months’ usage = 3/12 × 13,26,000 = Rs. 3,31,500 Stock of Finished Goods = 6% of Work’s Cost = 6% of 66,30,000 = Rs. 3,97,800 9. Debt Collection Period = 60 days or

Debtors × 365 = 60 78,00,000

∴ Debtors = 78,00,000 × 60 ÷ 365 = Rs. 12,82,192 10. Here, Current Assets = Stock of Raw Materials + Stock of Finished Goods + Debtors + Cash or 22,00,000 = 3,31,500 + 3,97,800 + 12,82,192 + Cash ∴ Cash = Rs. 1,88,508 11. In a Balance Sheet, Net Worth (NW) + Long-term loans = FAs + WC Here, NW + 22,00,000 = 26,00,000 + (22,00,000 – 11,00,000) ∴ NW = Rs. 15,00,000 Now given, Share Capital to Reserves & Surplus (R&S) = 1: 4 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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or

Share Capital 1 = R&S 4

∴ Reserves & Surplus = 4 × Share Capital Again, Net Worth = Share Capital + Reserves & Surplus [assuming no Miscellaneous expenditure] or 15,00,000 = Share Capital + 4 × Share Capital or 5 × Share Capital = 15,00,000 ∴ Share Capital = Rs. 3,00,000 ∴ Reserves & Surplus = 4 × 3,00,000 = Rs. 12,00,000

Problem 45 Following is the incomplete information of X Ltd: Trading and Profit & Loss A/c for the year that ended on 31 March 2008 To Opening Stock To Purchases To Direct Expenses To GP c/d To Establishment Expenses To Interest on Loan To Provision for Taxation To Net Profit c/d To Proposed Dividends To Transfer to General Reserve To Balance Transferred to Balance Sheet

Rs. in ’000 700 ? 175 ? ? 740 60 ? ? ? ? ? ? ?

By Sales By Closing Stock

Rs. in ’000 ? ?

By Gross Profit b/d By Commission

? ? 100

By Balance b/f By Net Profit b/d

? 140 ? ?

Balance Sheet as on 31 March 2008 Liabilities Paid-up Capital General Reserve: Balance at the Beginning of the Year Proposed Addition Profit & Loss A/c 10% Loan A/c Current Liabilities

Amount Rs. in ’000 1,000 ? ? ? ? ? ?

Assets Fixed Assets: Plant & Machinery Other Fixed Assets Current Assets: Stock Sundry Debtors Cash at Bank

Amount Rs. in ’000 1,400 ? ? ? 125 ?

Other information: i. Current Ratio is 2:1. ii. Closing Stock is 25% of sales. iii. Proposed dividends to paid up capital Ratio is 2:3. iv. GP Ratio is 60% of turnover. v. Loan is half of the Current Liabilities. vi. Transfer to general reserves to proposed dividends Ratio is 1:1. vii. Profit carried forward is 10% of the proposed dividends.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

173

viii. Provision for taxation is equal to the amount of Net Profit of the year. ix. Balance to credit of the general reserve at the beginning of the year is twice the amount transferred to that account from the current year’s profits. All working notes should be part of your answer. You are required to complete: x. (i) Trading and Profit & Loss A/c for the year that ended on 31 March 2008. xi. (ii) A Balance Sheet as on that date. [C.A. (PE—II)—May 2008] Solution Books of X Ltd Trading and Profit & Loss A/c for the year that ended on 31 March 2008 Dr. To Opening Stock To Purchases (Bal. fig.) To Direct Expenses To Gross Profit c/d To Establishment Expenses To Interest on Loan To Provision for Taxation4 To Net Profit c/d To Proposed Dividends1 To Transfer to General Reserve2 To Balance Transferred to Balance Sheet3

Rs. in ’000 700.00 2,613.33 175.00 3,220.00 6,708.33 740.00 60.00 1,260.00 1,260.00 3,320.00 666.67 666.67 66.66 1,400.00

Cr. Rs. in ’000 5,366.66 1,341.67

By Sales5 By Closing Stock6

By Gross Profit b/d (Bal. fig.) By Commission

6,708.33 3,220.00 100.00

By Balance b/f By Net Profit b/d

3,320.00 140.00 1,260.00 1,400.00

Balance Sheet as on 31 March 2008 Amount

Liabilities

Rs. in '000

Paid-up Capital General Reserve: Balance at the beginning of the year Add: Addition during the year Profit & Loss A/c 10% Loan A/c7 Current Liabilities8

1,333.34 666.67

Amount Rs. in ’000 1,000.00

2,000.01 66.66 600.00 1,200.00 4,866.67

Assets Fixed Assets: Plant & Machinery Other Fixed Assets (bal. fig.) Current Assets: Stock6 Sundry Debtors9 Cash at Bank

Amount Rs. in ’000 1,400.00 1,066.67 1,347.67 933.33 125.00 4,866.67

Working Notes 1. Paid-up Capital = 1,000 [Rs. in ’000]. Again, Proposed Dividend to Paid-up Capital = 2:3 or

Proposed Dividend 2 = 1,000 3 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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Proposed Dividend =

(1,000 × 2) = 666.67 3

[Rs.in ’000]

2. Transfer to general reserve to Proposed Dividend = 1:1 or,

Transfer to General Reserve =1 666.67

∴ Transfer to General Reserve = 666.67 [Rs. in ’000] Again, the Balance of general Reserve at the beginning of the year = Twice the amount transferred to general reserve from the current years’ profit = 2 × 666.67 = 1,333.34 [Rs. in ’000] 3. Profit carried forward = 10% of Proposed Dividend = 10% of 666.67 = 66.66 [Rs. in ’000] 4. Provision for tax = Amount of NP for the year = 1,260 [Rs. in ’000] 5. GP Ratio = 60% (of Turnover) or

GP = 60% Sales

or

3,220 = 60% Sales

∴ Sales = 3,220 ÷ 60% = 5,366.66 [Rs. in ’000] 6. Closing Stock = 25% of Sales = 25% of 5,366.66 = 1,341.67 [Rs. in ’000] 7. Interest on Loan = 60 (Rs. ’000) at an interest @ 10% ∴ 10% Loan = 100 ÷ 10 × 60 = 600 [Rs. in ’000] 8. Loan = 1/2 of CL or 600 = 1/2 × CL ∴ CL = 1,200 [Rs. in ’000] 9.

Current Ratio =

CAs 2 = CLs 1

CAs =2 1,200 ∴ CA = 2,400 [Rs. in ’000] Again, CAs = Stock + Debtors + Bank or 2,400 = 1,341.67 + Debtors + 125 ∴ Debtors = 933.33 [Rs. in ’000]

or

Problem 46 Following is the abridged Balance Sheet of Xenos Ltd as on 31 March 2008: Balance Sheet as on 31 March 2008 Liabilities Paid-up Share Capital Profit & Loss A/c Current Liabilities

Amount Rs. 5,00,000 85,000 2,00,000

Freehold property Plant & Machinery Less: Depreciation Stock Debtors Cash

7,85,000

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Amount Rs. 4,00,000

Assets

Output Date: Tue, Jul 06, 2010 11:43:37 AM

2,50,000 75,000

1,75,000 1,05,000 1,00,000 5,000 7,85,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

175

From the following information, you are required to prepare a Profit & Loss A/c for the year that ended on 31 March 2009 and a Balance Sheet as on that date: i. The composition of the total of the ‘liability side’ of the Balance Sheet as on 31 March 2009 (the Paidup Share Capital remains the same as on 31 March 2008) was as follows: Share Capital—50%; Profit & Loss A/c—15%; 10% Debentures—10%; Creditors—25%. Debentures were issued on 1 April 2008, interest of which was being paid on 30 September 2008 and 31 March 2009. ii. During the year that ended on 31 March 2009, additional Plant & Machinery had been bought and a further Rs. 25,000 depreciation was written off. Freehold property remained unchanged. Total Fixed Assets then consisted 60% of the total Fixed and Current Assets. iii. The current Ratio was 1.6:1. The quick Ratio was 1:1. iv. Debtors (4/5th of the Quick assets) to Sales Ratio revealed a credit period of 2 months. v. Gross Profit was @ 15% of the selling price and Return on Net Worth as on 31 March 2009 was 10%. Ignore taxation. [C.A. (Inter)—Adapted] Solution Books of Xenos Ltd Profit & Loss A/c for the year that ended on 31 March 2008 Dr.

Cr. Particulars

To Opening Stock To Purchases (Bal. fig.) To Gross Profit c/d6 To Depreciation on Machinery To Other operating Expenses (Bal. fig.) To Debenture Interest7 To Net Profit

Amount Rs. 1,05,000 10,65,000 1,80,000 13,50,000 25,000 80,000 10,000 65,000 1,80,000

By Sales By Closing Stock

Amount Rs. 12,00,000 1,50,000

By Gross Profit b/d

13,50,000 1,80,000

Particulars 5

1,80,000

Balance Sheet as on 31 March 2008 Liabilities Paid-up Share Capital1 Reserves & Surplus Profit & Loss A/c8 Secured Loan 10% Debentures1 Current Liabilities: Creditors1

Amount Rs. 5,00,000 1,50,000 1,00,000 2,50,000 10,00,000

Assets Fixed Assets Freehold Property Plant & Machinery2 Current Assets: Stock3 Debtors4 Bank4

Amount Rs. 4,00,000 2,00,000 1,50,000 2,00,000 50,000 10,00,000

Working Notes 1. The Paid-up Share Capital as on 31 March 2008 remains the same as it was on 31 March 2007 (i.e., Rs. 5,00,000). Again, Share Capital (i.e., Rs. 5,00,000) = 50% of the total of the ‘liability side’ of the Balance Sheet. ∴ Profit & Loss A/c = 15% of the total of liability side = 15/50 × 5,00,000 = Rs. 1,50,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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∴ 10% Debentures = 10% of the total of liability side = 10/50 × 5,00,000 = Rs. 1,00,000 ∴ Creditors = 25% of the total of liability side = 25 ÷ 50 × 5,00,000 = Rs. 2,50,000 2. Here, Current Liability = Creditors = Rs. 2,50,000 Current Asset ( CAs) 1.6 Again, Current Ratio = = Current Liability ( CLs) 1 or

Current Asset =

1.6 × 2,50,000 = Rs. 4,00,000 1

Again, Total Fixed Asset (FA) = 60% of [Total FAs + Total CA] or FAs = 60/100 × (FA + 4,00,000) or 10 × FAs = 6 × FAs + 24,00,000 or 4 × FAs = 24,00,000 ∴ Total FAs = 24,00,000 ÷ 4 = Rs. 6,00,000 Again, Total FAs = Freehold Property + Plant & Machinery (P&M) or, 6,00,000 = 4,00,000 + P&M [as Freehold property remains unchanged] ∴ Plant & Machinery (Closing Balance) = Rs. 2,00,000 Now, in case of Plant & Machinery, Opening Balance + Addition during the year − Depreciation for the year = Closing Balance or 1,75,000 + Addition during the year – 25,000 = 2,00,000 ∴ Addition of Plant & Machinery during the year = Rs. 50,000 3.

Quick Ratio = or

Quick Assets (CAs − Stock ) = 1: 1 = Quick Liabilities ( CLs − Bank O/D)

( 4,00,000 − Stock ) = 1 assumed that there is no Bank overdraft [ ] (2,50,000 − Nil)

or 2,50,000 = 4,00,000 − Stock ∴ Stock = Rs. 1,50,000 4. Quick Assets = CAs − Stock = 4,00,000 – 1,50,000 = Rs. 2,50,000 ∴Debtors = 4/5 of Quick assets = 4/5 × 2,50,000 = Rs. 2,00,000 Here, CAs = Stock + Debtors + Bank or, 4,00,000 = 1,50,000 + 2,00,000 + Bank ∴ Bank = Rs. 50,000 5. Debtors to Sales Ratio = 2 months Debtors or × 12 months = 2 months Sales or or

Debtors 2 months 1 = = Sales 12 months 6 2,00,000 1 = Sales 6

∴ Sales = Rs. 12,00,000 6. GP = 15% of Sales = 15% of 12,00,000 = Rs. 1,80,000 7. Annual Debenture Interest = (10% on Rs. 1,00,000 for 1 year) × 2 = Rs. 10,000 2 NP = 10% 8. Return on Net Worth (NW ) = NW Here, NW = Share Capital + Profit & Loss A/c = 5,00,000 + 1,50,000 = Rs. 6,50,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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∴

NP = 10% 6,50,000 ∴ NP = Rs. 65,000

Add:

Balance of Profit & Loss A/c as on 31 March 2007 NP for the year Balance of Profit & Loss A/c as on 31 March 2008 carried over to Balance Sheet

Rs. 85,000 65,000 1,50,000

CHAPTER REVIEW SUMMARY  Financial Statements are a compilation of financial data, arranged and organized in a systematic and summarized manner, according to the accounting principles, to assess the financial position of an enterprise as regards to its profitability, operational efficiency, long- and short-term solvency, and growth potential. A number of statements prepared at the end of every Accounting Period are collectively called ‘Financial Statements,’ for example, Balance Sheet, Profit & Loss A/c, Cash Flow Statement and Fund Flow Statement.  A Ratio is a relationship between two or more items expressed in mathematical terms. It is an expression of quantitative relationship between two amounts or items which is/are expressed in numbers or percentage.  Ratio calculated from different Accounting Data for exhibiting a meaningful and useful relationship between them is called Accounting Ratio.  Ratio Analysis is a tool for identifying financial strength, weakness and growth potentiality of an enterprise by means of determination, analysis and interpretation of relevant various accounting Ratios.  Ratio Analysis, as an analytical tool of Financial Statement Analysis, performs important functions: (a) measures and evaluates the financial condition of an enterprise; (b) measures and evaluates the liquidity, solvency, profitability, managerial efficiency, Capital Structure and activity of an enterprise; (c) measures and evaluates the operating effectiveness of an enterprise; (d) identifies the functional areas within the business where the adoption of remedial measures are needed; (e) helps the management in the course of Decision Making process; and (f) serves as a management control system.  It is very much useful to all the interested parties for improvement of their needs according to their respective interest in the enterprise, such as: (a) useful for identification of financial strengths and weaknesses of an enterprise; (b) useful to measure the liquidity, solvency, profitability, managerial efficiency and activity of an enterprise; (c) useful for inter- and intra-firm comparison of performance; and (d) useful to determine the corporate sickness.  It has many advantages, such as: (a) most powerful tool for measuring the short- and long-term solvency, profitability, operating activity, Capital Structure Analysis and the managerial efficiency of a concern; (b) summarizes a large number of quantitative Accounting Data by calculating the different Ratios; (c) helps the management to prepare the necessary budget and to formulate future policies; (d) relates the present accounting information with the past and (e) formulates an effective inter- and intra-firm comparison of accounting data.  In spite of immense advantages and usefulness of Ratio Analysis, it suffers from some limitations, such as: (a) it may tend to interpret a wrong direction if it is based on unauthenticated data; (b) as the Ratios are calculated on the basis of the past results, proper prediction for future may not always be dependable; (c) a single Ratio calculated for any functional area of a business does not convey its conclusive state; (d) it is formulated on the basis of historical figures as obtained from the Financial Statements. Performance of a concern based on the historical data does not always indicate its present real condition; (e) the price level changes very often distort the trend analysis process which is done with the help of various Ratios calculated in the process of Ratio Analysis.  Shareholders, moneylenders, creditors, government, bankers, management and so on are the different interested parties in Ratio Analysis.  Accounting Ratios may be broadly classified into three categories: (i) Balance Sheet Ratio; (ii) Revenue Statement Ratio; and (iii) Mixed or Composite Ratio.  A Standard or Ideal Ratio is a predetermined calculated Ratio, which is considered to be normal or standard, or which is the most meaningful or significant, or which is most effectively applicable universally to different industries under different times.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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Du Pont System of financial analysis is one of the most-effective technique of earning capacity or profitability analysis of an enterprise. In Du Pont Analysis, various factors which influence ROE (as well as ROI) are diagrammatically exhibited with the help of a chart, which is popularly known as Du Pont Chart. Du Pont Analysis enables the enterprise to break its ROE into three major components in order to identify the area responsible for profit-earning capacity of the enterprise. These three components are profit on sales (i.e., NP Ratio), efficient use of assets (i.e., Total Asset Turnover Ratio) and use of leverage in the Capital Structure (i.e., FLM).

CHAPTER REVIEW QUIZ 1. State whether the following statements are true or false: a. Current Ratio measures the liquidity of the business. b. Debt-Equity Ratio measures the short-term financial position of the business. c. Ratio Analysis measures the profitability, efficiency and financial soundness of the business. d. Activity Ratio and Turnover Ratios are same. e. Current Ratio improves with increase in credit purchase. f. Ideal Ratio between Current Assets and Current Liabilities is 2:1. g. Acid Test Ratio indicates the liquidity position of a concern. Ans.: (a) True; (b) False; (c) True; (d) True; (e) False; (f) True; (g) True. 2. State which statements are true and which are false: a. Working Capital is the excess of Current Assets over Current Liabilities. b. The Ideal Ratio between Liquid Assets and Current Liabilities is 1:1. c. Liquidity Ratio improves with increase in credit sales. d. 45% or .45 times have the same meaning. e. Amount from Current Assets is realized within 3 years. f. Debt-Equity Ratio measures the profitability of the business. g. Liquid Ratio is also known as Acid Test Ratio. Ans.: (a) True; (b) True; (c) True; (d) False; (e) False; (f) False; (g) True. 3. Choose the correct alternative from the following: a. Quick Ratio is a: (i) Balance Sheet Ratio; (ii) Revenue Statement Ratio; (iii) Mixed Ratio. b. Quick assets: (i) Include cash & bank only; (ii) Exclude sundry debtors; (iii) Exclude stock. c. Total long-term fund invested into the business is called: (i) Net Worth; (ii) Working Capital; (iii) Total Liabilities; (iv) Capital Employed. d. Net Worth includes: (i) Working Capital; (ii) Long-term loan; (iii) Total Share Capital; (iv) None of these. e. Liquid liabilities exclude: (i) Bills Payable; (ii) Bank Overdraft; (iii) Sundry Creditors; (iv) Accrued Expense. f. Proprietary Ratio measures: (i) Activity; (ii) Profitability; (iii) Liquidity; (iv) Long-term financial position of the business. g. Acid Test Ratio measures: (i) Activity; (ii) Profitability; (iii) Liquidity; (iv) Long-term financial position of the business. h. Stock Velocity Ratio is a: (i) Balance Sheet Ratio; (ii) Revenue Statement Ratio; (iii) Mixed Ratio. i. Return on Capital Employed measures: (i) Activity; (ii) Profitability; (iii) Liquidity; (iv) Long-term financial position of the business. Ans.: (a) (i); (b) (iii); (c) (iv); (d) (iii); (e) (ii); (f) (iv); (g) (iii); (h) (iii); (i) (ii). 4. Select the correct alternative from the following: a. Liquid Assets = (i) Current Assets + Stock; (ii) Current Assets − Stock; (iii) Current Assets − Stock − Prepaid expenses. b. Ideal Proprietary Ratio should be: (i) 75%; (ii) 50%; (iii) 90%; (iv) 25%. c. CGS = (i) Sales—GP; (ii) Sales proceeds; (iii) Sales—NP. d. The satisfactory Ratio between the internal and external equity is (i) 1:1; (ii) 4:1; (iii) 2:1; (iv) 3:1. e. The Ideal Ratio between long-term funds and long-term loans is (i) 1:1; (ii) 3:1; (iii) 2:1; (iv) 4:1. f. Debt-Equity Ratio measures: (i) Activity; (ii) Profitability; (iii) Liquidity; (iv) Long-term financial position of the business.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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179

g. Acid Test Ratio is also known as: (i) Liquid Ratio; (ii) GP Ratio; (iii) Current Ratio. h. Quick Ratio is also known as: (i) Operating Ratio; (ii) Liquid Ratio; (iii) Debt-Equity Ratio. Ans.: (a) (iii); (b) (ii); (c) (i); (d) (i); (e) (iii); (f) (iv); (g) (i); (h) (ii). 5. Assuming the Current Ratio as 2, state in each of the following cases whether the Ratio will improve or decline or will have no change: a. Payment of a current liability. b. Payment of Fixed Assets. c. Cash collected from customers. d. Bills Receivable dishonoured. e. Issue of new equity shares. f. Redemption of preference shares. g. Bills Receivable drawn upon customers. h. Bills Payable accepted from suppliers. i. Long-term loan raised. [C.S. (Inter)—Adapted] Ans.: (a) no change; (b) decline; (c) no change; (d) no change; (e) improve; (f) decline; (g) no change; (h) no change; (i) improve. 6. Indicate the important accounting Ratios that would be used by each of the following cases: a. A long-term creditor is interested in determining whether his claim is adequately secured. b. A bank that has been approached by a company for short-term loan/overdraft. c. A shareholder who is examining his portfolio and who is to decide whether he should hold or sell his shares in a company. [C.S. (Inter)—May 1993] Ans.: (a) Debt service coverage Ratio; (b) Current/Quick Ratio; (c) Earning per Share. 7. Identify the correct answer in each case from the following: a. If Average Collection Period is 3 months, then Debtors’ Turnover Ratio is: (i) 3; (ii) 4; (iii) 12; (iv) 6. b. If Creditors’ Turnover Ratio is 6, then Average Payment Period is: (i) 6 months; (ii) 3 months; (iii) 2 months. c. If Current Assets and Current Liabilities are Rs. 4,50,000 and Rs. 5,00,000 respectively, then Working Capital is: (i) Rs. 50,000; (ii) Rs. 9,50,000; (iii) Rs. 50,000; (iv) none of these. d. Increase in Total Assets: (i) decreases Proprietary Ratio; (ii) increases Proprietary Ratio; (iii) does not affect Proprietary Ratio. e. Increase in Liquid Assets: (i) decreases Liquid Ratio; (ii) increases Liquid Ratio; (iii) does not affect Liquid Ratio. f. If Sales, GP and Average Stock are Rs. 5,00,000, Rs. 1,00,000 and Rs. 80,000 respectively, then StockTurnover Ratio is: (i) 6.25; (ii) 5; (iii) 1.25; (iv) 5. Ans.: (a) (ii); (b) (iii); (c) (iii); (d) (i); (e) (ii); (f) (iv). EXERCISE I. Theoretical Questions A. Objective Type Questions:

1. 2. 3. 4. 5. 6. 7. 8. 9.

Give four examples of Financial Statements. What is a Ratio? What is Accounting Ratio? What do you mean by receivables? What do you mean by payables? Give the formula for calculating Proprietors’ Fund. Give the formula for calculating Capital Employed. Mention the formula for calculating Return on Investment. Mention the formula for calculating Acid Test Ratio.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

180 10. 11. 12. 13. 14.

MANAGEMENT ACCOUNTING

Name three Ratios for measuring profitability. Name three non-operating expenses. Give the formula for calculating average debtors. Give the formula for calculating the Debt-Equity Ratio. Give the gist of a company Balance Sheet.

B. Short Answer Type Questions

1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13.

What are Financial Statements? What is Ratio Analysis? What are the steps in Ratio Analysis? Who are the parties interested in Ratio Analysis? What is Ideal or Standard Ratio? What is Net Worth? What is Equity Shareholder’s fund? What is Capital Employed? What is Working Capital? What is Quick Asset? What is Quick Liability? What is Cost of Goods Sold? Write short notes on: (i) Acid Test Ratio; (ii) Debt-Equity Ratio; (iii) Capital Gearing Ratio; (iv) Current Ratio; (v) Operating Profit Ratio; (vi) Dividend Payout Ratio; (vii) Operating Ratio; (viii) Gross Profit Ratio; (ix) Net Profit Ratio; (x) Stock Turnover Ratio; (xi) Capital Turnover Ratio; (xii) Fixed Asset Turnover Ratio; 14. Name the Ratios to be used to study the long-term solvency, short-term solvency, liquidity, profitability, activity and managerial efficiency of a concern? C. Essay Type Questions

1. 2. 3. 4. 5. 6. 7.

8. 9. 10. 11. 12. 13.

What is a Ratio? What is meant by accounting Ratio? What is Ratio Analysis? What is the importance of Ratio Analysis in accounting? What are the uses of Ratio Analysis in accounting? Discuss the advantages and limitations of accounting Ratio. What do you mean by Ratio Analysis? Explain briefly how accounting Ratios are classified with suitable examples. What do you mean by Ratio Analysis? Explain the following Ratios: (a) Capital Gearing Ratio; (b) Gross Profit Ratio; (c) Return on Investment (ROI); (d) Operating Ratio; (e) Operating Leverage; (f) Dividends per Share (DPS). Discuss the role of the following Ratios in the interpretation of Financial Statements: (i) Debtors’ Turnover Ratio; (ii) Creditors’ Turnover Ratio; (iii) Capital Gearing Ratio; (iv) Debt-Equity Ratio; (v) Proprietary Ratio; (vi) Fixed Asset Proprietorship Ratio; (vii) EPS; (viii) Return on Net Worth; (ix) Return on Capital Employed; (x) Financial Leverage; (xi) Return on Equity; (xii) Price Earning Ratio; (xiii) Dividend Payout Ratio; (xiv) Contribution Ratio; (xv) Debt service coverage Ratio. What Ratios are to be worked out to study the long- and short-term solvency position of a concern? What Ratios are to be worked out to study the liquidity, profitability, activity and managerial efficiency of a concern? ‘Accounting Ratios are mere guides and complete reliance on them in Decision Making is suicidal.’ Elucidate the statement. What is Return on Equity? How does it differ from Return on Investment? What is Du Pont Analysis of Financial Statements? What is Du Pont Chart? Explain the various components of return on equity with the help of Du Pont Chart. Distinguish between the following: (a) Current Ratio and Liquid Ratio; (b) Current Asset and Liquid Asset; (c) Current Liability and Liquid Liability; (d) Net Worth and Capital Employed; (e) Proprietors’ Fund and Equity Shareholder’s fund; (f) Return on Net Worth and Return on Capital Employed; (g) Net Profit Ratio and Gross Profit Ratio; (h) Operating Ratio and Operating Profit Ratio; (i) Capital Turnover Ratio and Total Asset Turnover Ratio; (j) Debtors’ Velocity Ratio and Creditors’ Velocity Ratio; (k) EPS and DPS; (l) Price Earning Ratio and Dividend Payout Ratio; (m) Proprietary Ratio and Fixed Asset Proprietorship Ratio; (n) Financial Leverage and Operating Leverage.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

181

II. Practical Problems:

1. From the following information as extracted from the books of P Ltd, ascertain the amount of Capital Employed in the business: Rs. 4,00,000 2,00,000 50,000 1,10,000 20,000 1,00,000 50,000 47,000 23,000 20,000 10,000 30,000

Equity Share Capital Preference Share Capital Securities Premium General Reserve Capital Reserve 10% Debentures 12% Bank Loan Sundry Creditors Bills Payable Preliminary Expenses Discount on Issue of Shares Profit & Loss A/c

Ans.: Rs. 8,70,000. 2. From the following information as furnished by Z Ltd, compute the amount of Capital Employed in the business. Rs. 4,00,000 3,00,000 1,00,000 2,00,000 1,50,000 80,000 60,000 30,000 40,000 20,000 10,000 50,000 20,000 20,000 30,000

Land & Building Plant & Machinery Furniture & Fixture Investment [Long-term] Patents & Trade Mark Stock in Trade Sundry Debtors Bills Receivable Cash & Bank Preliminary Expenses Share Issue Expenses Sundry Creditors Bills Payable Outstanding Expenses Securities Premium

Ans.: Rs. 12,70,000. 3. Following is the Balance Sheet of Parajoy Ltd as on 31 December 2006: Liabilities Equity Share Capital Preference Share Capital Capital Reserve General Reserve Profit & Loss A/c 10% Debentures 7% Bank Loan Bank Overdraft Sundry Creditors Bills Payable Outstanding Expenses

Amount Rs. 4,00,000 2,00,000 80,000 1,80,000 2,20,000 3,00,000 1,00,000 80,000 85,000 10,000 5,000

Assets Goodwill Land & Building Plant & Machinery Furniture & Fittings Investments [long term] Stock in Trade Marketable securities Sundry Debtors Cash & Bank Bills receivable Prepaid Expenses Discount on Shares Advertisement Suspense

16,40,000

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Amount Rs. 2,00,000 3,00,000 5,00,000 80,000 1,20,000 1,50,000 50,000 1,10,000 60,000 20,000 10,000 20,000 20,000 16,40,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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From the above Balance Sheet, compute: (a) Working Capital; (b) Proprietors’ Fund; (c) Capital Employed; (d) Current Ratio; (e) Liquid Ratio; (f) Proprietary Ratio; (g) Asset Proprietors’ Ratio; (h) Debt-Equity Ratio; (i) Gearing Ratio. Ans.: (a) Rs. 2,40,000; (b) Rs. 12,00,000; (c) Rs. 14,40,000; (d) 2.5:1; (e) 3.125:1; (f) 0.65:1; (g) 15:13; (h) 5:13; and (i) 2:1 or 5:7. 4. From the following information, calculate: (i) Working Capital; (ii) Capital Employed; (iii) Current Ratio; (iv) Acid Test Ratio; (v) Debt-Equity Ratio; (vi) Asset Proprietorship Ratio. Balance Sheet of X company Ltd as on 31 December 1995 Amount Rs. 1,50,000 30,000 24,000 48,000 12,000 16,000 2,000 10,000 2,92,000

Liabilities Equity Share Capital 12% Preference Share Capital Reserves & Surplus 15% Debentures Bank Loan Sundry Creditors Proposed Dividend Provision for Taxation

Assets Fixed Assets Stores Stock in trade Sundry Debtors Cash at Bank Cash in Hand Preliminary Expenses Discount on Issue of Shares

Amount Rs. 1,80, 000 12,000 32,000 10,000 4,000 2,000 48,000 4,000 2,92,000

[B.Com. (Hons), Calcutta University—1996]

Hints: (i) Here, Debt-Equity Ratio =

Debt Long-term Debt = Equity Proprietors’ Fund considered

(ii) Here, Asset Proprietorship Ratio =

Fixed Assets Proprietors’ Fund considered

Ans.: (i) Rs. 20,000; (ii) Rs. 2,00,000; (iii) 1.5:1; (iv) 4:7 or 0.57; (v) 6:19 or 0.315; and (vi) 45:38 or 1.184. 5. Calculate the following Ratios from the given information: a. Operating Profit Ratio. b. Working Capital Turnover Ratio. c. Debt-Equity Ratio. d. GP Ratio. e. Operating Ratio. f. Current Ratio. Information: Particulars Net sales CGS Operating Expenses Current Assets Current Liabilities Capital Employed Long-term Debts

Rs. 2,00,000 1,20,000 30,000 60,000 30,000 2,40,000 1,60,000

[ISC Exam—2006] Ans.: (a) 25%; (b) 6.67 times; (c) 2:3; (d) 40%; (e) 75%; and (f) 2:1.

Hints: Here, Debt-Equity Ratio =

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Debt Long-term Debt + Equity = Debt ( Long-term Debt + Proprietors’ Fund )

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

183

6. The following is the Balance Sheet of a company: Liabilities Share Capital Reserves & Surplus Debentures Bank Overdraft Sundry Creditors

Rs. 15,00,000 6,00,000 5,00,000 2,00,000 12,00,000 40,00,000

Assets Fixed Assets Stock Book Debts Investment [short-term] Cash

Rs. 16,50,000 9,10,000 12,40,000 1,60,000 40,000 40,00,000

Annual sales—Rs. 74,40,000 and GP—Rs. 7,44,000. Bank overdraft is payable on demand. From the above information, you are required to calculate the following Ratios: (a) Debt-Equity Ratio; (b) Current Ratio; (c) Proprietary Ratio; (d) GP Ratio; (e) Debtors’ Turnover; (f) Stock Turnover Ratio. Ans.: (a) 0.23:1; (b) 1.61:1; (c) 0.525:1; (d) 10%; (e) 2 months; and (f) 7 times (approx.). Hints: Bank Overdraft payable on demand is to be treated as a quick liability. 7. Following are the trading and Profit & Loss A/c for the year that ended on 31 March 2007 and the Balance Sheet as on that date of a concern: Trading and Profit & Loss A/c for the year that ended on 31 March 2007 To Opening Stock To Purchases To Carriage inward To Wages To Gross Profit c/d To Salaries To Rent & Rates To Insurance To General Expenses To Depreciation To Selling & Distribution Expenses To Interest on Debentures To Provision for Taxation To Net Profit

Rs. 30,000 1,80,000 40,000 1,30,000 1,10,000 4,90,000 25,000 10,000 5,000 3,000 10,000 7,000 3,000 5,000 45,000 1,10,000

By Sales By Closing Stock

Rs. 4,40,000 50,000

By Gross Profit b/d

4,90,000 1,10,000

1,10,000

Balance Sheet as on 31 March 2007 Liabilities Equity Share Capital Preference Share Capital Reserves & Surplus 10% Debentures Bank Overdraft Sundry Creditors Bills Payable Provision for Taxation

Rs. 1,00,000 40,000 70,000 30,000 20,000 30,000 15,000 5,000 3,10,000

Assets Fixed Assets Stock in Trade Sundry Debtors Cash & Bank Bills Receivable Preliminary Expenses

Rs. 1,60,000 50,000 80,000 7,500 2,500 10,000

3,10,000

From the above information, calculate: (a) GP Ratio; (b) NP Ratio; (c) Operating Ratio; (d) Return on Capital Employed; (e) Return on shareholders’ fund; (f) Capital Turnover Ratio; (g) Fixed Asset Turnover Ratio; (h) Average Collection Period; (i) Average Payment period; (j) Stock Turnover Ratio.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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Ans.: (a) 25%; (b) 11.36 36%; (c) 13.63 63%; (d) 23.04%; (e) 22.50%; (f) 44:23 or 1.1913; (g) 11:4 or 2.75; (h) 2.25 months; (i) 3 months; and (j) 8.25 times. 8. The following data have been adstructed from the annual accounts of a company: Rs. 3,00,000 1,00,000 50,000 1,20,000 1,50,000 2,00,000 2,10,000 60,000 55,000 21,000 12,000 20,000

Equity Share Capital 12% Preference Share Capital Capital Reserve General Reserve Profit & Loss A/c (Cr) 15% Debentures Profit after Tax Provision for Tax Tax already Paid during the Year Proposed Equity Dividend Proposed Preference Dividend Preliminary Expenses From the above information, calculate: (a) Return on Net Worth; (b) Return on Capital Employed.

Ans.: (a) 30% and (b) 33.33%. 9. The Balance Sheet of R Ltd stood as follows as on: Liabilities Capital Reserves Loans Creditors & Others Current Liabilities

31 March 31 March 2009 2008 Rs. in Lakhs Rs. in Lakhs 250 250 116 100 Less: 100 120 129

25

595

495

Assets Fixed Assets Depreciation Investment Stock Debtors Cash & Bank Other Current Assets Miscellaneous Expenditure

31 March 31 March 2009 2008 Rs. in Lakhs Rs. in Lakhs 400 300 140 100 260 200 40 30 120 100 70 50 20 20 25 25 60 70 595 495

You are given the following information for the year 2008–09: Rs. in Lakhs 600 150 24 60 50

Sales Profit before Interest & Tax Interest Provision for Tax Proposed Dividend

From the above particulars, calculate for the year 2008–09: i. Return on Capital Employed. ii. Stock Turnover Ratio. iii. Return on Net Worth. iv. Current Ratio. v. Proprietary Ratio [C.A. (Inter)—Adapted] Ans.: (a) 32.05% [on the basis of Average Capital Employed]; (b) 5.45 times [on the basis of Sales/Average stock]; (c) 22.53% [on the basis of Average Net Worth]; (d) 1.82 times; and (e) 0.57.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

185

10. ABC Ltd has made a plan for the next year. It is estimated that the company will employ Total Assets of Rs. 10,00,000, with 50% of the assets being financed by loan capital at an interest of 10% p.a. The direct costs for the year are estimated at Rs. 6,00,000 and all other operating costs for the year are estimated at Rs. 1,00,000. The goods will be sold to customers at 150% of the direct costs. Rate of income tax is assumed to be 50%. You are required to calculate: (a) NP margin and (b) Return on Assets. [B.Com. (Hons), Kalyani University—2009 (O.P.)] Ans.: (a) 33 1 3 % and (b) 10%. 11. From the following details, calculate the Average Collection period: Sundry Debtors Bills Receivable Average Stock Inventory Turnover Ratio GP Ratio Credit Sales to Cash Sales Assume, 1 year = 360 Days

Rs. 3,20,000 Rs. 40,000 Rs. 5,40,000 9 10% 4:1

Ans.: 30 days. 12. Calculate the Average Collection Period from the following details: Average Inventory Debtors Inventory Turnover Ratio GP Ratio Credit Sales to Total Sales Bills Receivable

Rs. 50,000 Rs. 35,000 3 25% 60% Rs. 5,000

Ans.: 4 months. 13. From the following information, calculate the average-payment period: Rs. 45,000 5,000 40,000 50,000 3,90,000

Sundry Creditors Bills Payable Opening Stock of Raw Materials Closing Stock of Raw Materials Raw Materials Consumed

Ans.: 1.5 months. 14. From the following information, calculate the average-payment period: Sundry Creditors Bills Payable Opening Stock of Raw Materials Closing Stock of Raw Materials CGS Wages & Overheads included in CGS Cash purchases to Total Purchases [of Raw Materials]

Rs. 60,000 15,000 45,000 75,000 5,55,000 331 ÷ 3% 25%

Ans.: 3 months. 15. Following are the Ratios relating to the trading activities of a concern: Debtors’ Velocity Stock Velocity Creditors’ Velocity GP Ratio

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

3 months 6 months 2 months 20%

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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GP for the year that ended on 31 December 2006 was Rs. 5,00,000. Stock at the end of 2006 was Rs. 20,000 more than what it was at the begining of the year. Bills Payable and Bills Receivable at the end of 2006 were Rs. 36,667 and Rs. 60,000, respectively. You are required to ascertain: (a) Sales; (b) Sundry Debtors; (c) Sundry Creditors; (d) Closing Stock. [C.A. (Inter)—Adapted] Ans.: (a) Rs. 25,00,000; (b) Rs. 5,65,000; (c) Rs. 3,00,000; and (d) Rs. 10,10,000. 16. From the following information relating to a limited company, prepare a Balance Sheet and a statement of Proprietors’ Fund: Current Ratio Liquid Ratio Fixed Assets ÷ Proprietary Fund Working Capital Reserves & Surplus Bank Overdraft

2 1.5 3÷4 Rs. 75,000 Rs. 50,000 Rs. 10,000

There were no long-term loans or fictitious assets. [C.A. (Inter)—Adapted] Ans.: Share Capital—Rs. 2,50,000; Fixed Assets—Rs. 2,25,000; Stock—Rs. 52,500; Liquid Assets—Rs. 97,500; Liquid Liabilities—Rs. 65,000; Total of Balance Sheet—Rs. 3,75,000; and Total of Proprietors’ Fund—Rs. 3,00,000. 17. From the following information, prepare the Balance Sheet of P Ltd as on 31 March 2006: Current Ratio Liquid Ratio Fixed Asset Proprietorship Ratio Gearing Ratio Working Capital Reserves & Surplus Bank Overdraft Long-term Loan Miscellaneous Expenditure

2:1 1.25 0.75 1:3 Rs. 8,000 Rs. 4,000 Rs. 2,000 Nil Nil

Ans.: Equity Share Capital—Rs. 21,000; Preference Share Capital—Rs. 7,000; Fixed Assets—Rs. 24,000; Stock— Rs. 8,500; Liquid Assets—Rs. 7,500; Liquid liabilities—Rs. 6,000; and Total of Balance Sheet—Rs. 32,000. 18. WC of a company is Rs. 1,35,000, Current Ratio is 2.5, Liquid Ratio is 1.5, Proprietory Ratio is 0.75 and Gearing Ratio (Equity Capital/Preference Capital) is 2. Reserves and Surplus and Bank Overdraft are Rs. 90,000 and Rs. 30,000 respectively. There are no long-term loans and fictitious assets. From the above information, calculate the following: (a) Current Assets; (b) Current Liabilities; (c) Net Block (i.e., Fixed Assets); (d) Proprietors’ Fund; (e) Quick Liabilities; (f) Quick Assets; (g) Stock; (h) Preference and Equity capital. Also draw up the statement of proprietors’ fund. [C.A. (Inter)—Adapted] Ans.: (a) Rs. 2,25,000; (b) Rs. 90,000; (c) Rs. 1,35,000; (d) Rs. 2,70,000; (e) Rs. 60,000; (f) Rs. 90,000; (g) Rs. 1,35,000; and (h) Rs. 60,000, Rs. 1,20,000. Total of proprietors’ fund—Rs. 2,70,000. 19. From the following information, prepare a summarized Balance Sheet as on 31 December 2006: Stock Velocity Fixed Asset Turnover Ratio

6 4 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

Capital Turnover Ratio Gross Profit Ratio Debt Collection Period Creditors’ Payment Period Gross Profit

187

2 20% 2 months 73 days Rs. 60,000

Closing Stock was Rs. 5,000 in excess of Opening Stock. Ans.: Capital—Rs. 1,50,000; Fixed Assets—Rs. 75,000; Closing Stock—Rs. 42,500; Receivables—Rs. 50,000; Payables—Rs. 49,000; Cash & Bank—Rs. 31,500; and Total of Balance Sheet—Rs. 1,99,000.

Note: It is assumed that there is no long-term loan. 20. (a) From the following information, compute the GP Ratio: Opening Stock is Rs. 50,000; Closing Stock is 1.2 times of the Opening Stock; Stock Turnover is 4 times; Sales is Rs. 2,50,000. (b) From the following information, compute the Current Assets and Current Liabilities: Current Ratio—3:1; Quick Ratio—1:1; Closing Stock—Rs. 60,000; Bank Overdraft—Nil. [B.Com. (Hons), Calcutta University—2004] Ans.: (a) 12% and (b) CAs—Rs. 90,000, CLs—Rs. 30,000. 21. From the following information relating to Zebra Ltd, you are required to prepare its Balance Sheet: Current Ratio Acid Test Ratio Gross Profit sales Net Working Capital/Net Worth Sales/Fixed Assets Sales/Net Worth Sales/Debtors Reserve/Capital Net Worth/Long-term Loan Stock Velocity Ratio Share Capital

2.5 1.5 0.2 0.3 2 1.5 6 1 20 6 times Rs. 10,00,000

Ans.: Reserves—Rs. 10,00,000; Long-term loan—Rs. 1,00,000; Fixed Assets—Rs. 15,00,000; Stock—Rs. 4,00,000; Debtors—Rs. 5,00,000; Other Current Assets—Rs. 1,00,000; Current Liabilities—Rs. 4,00,000; and Total of Balance Sheet—Rs. 25,00,000. 22. From the following details, prepare a Balance Sheet: Current Ratio Liquid Ratio Stock Turnover Ratio Gross Profit Ratio Debt Collection Period Reserves to Capital Turnover of Fixed Assets Capital Gearing Ratio Fixed Assets to Net Worth Sales for the year

1.75 1.25 9 times 25% 1.5 months 0.2 1.2 0.6 1.25 Rs. 12,00,000

[C.S. (Inter)—Adapted] Ans.: Share Capital—Rs. 5,00,000; Reserves & Surplus—Rs. 1,00,000; Long-term loan—Rs. 3,00,000; Current Liabilities—Rs. 2,00,000; Fixed Assets—Rs. 7,50,000; Stock—Rs. 1,00,000; Debtors—Rs. 1,50,000; Cash— Rs. 1,00,000; and Total of Balance Sheet—Rs. 11,00,000.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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23. From the following particulars, prepare a summarized Balance Sheet with details, as on 31 December 2006: Fixed Assets to Net Worth Current Ratio Reserve included in Proprietors’ Fund Acid Test Ratio Long-term Loan Current Liabilities

8:5 3:1 25% 3:2 Rs. 5,00,000 Rs. 1,00,000

Ans.: Share Capital—Rs. 3,75,000; Reserves—Rs. 1,25,000; Fixed Assets—Rs. 8,00,000; Stock—Rs. 1,50,000; Liquid assests—Rs. 1,50,000; and Total of Balance Sheet—Rs. 10,00,000.

Note: It is assumed that there is no Bank Overdraft. 24. From the following details available, prepare a summarized Balance Sheet of ABC Ltd, as on 31 December 2006: Fixed Assets to Net Worth Current Ratio Acid Test Ratio Reserves included in Proprietors’ Fund Current Liabilities Cash & Bank Balances Fixed Assets

0.75:1 5: 2 3: 2 1: 4 Rs. 2,00,000 Rs. 10,000 Rs. 6,00,000

Ans.: Share Capital—Rs. 6,00,000; Reserves—Rs. 2,00,000; Stock—Rs. 2,00,000; Receivables—Rs. 2,90,000; Longterm loan—Rs. 1,00,000; and Total of Balance Sheet—Rs. 11,00,000.

Note: It is assumed that there is no bank overdraft. 25. Assets of a company consist of Current Asset while its current liability comprises of bank credit and trade credit in the Ratio of 2:1. From the following information, prepare the Balance Sheet of the company as on 31 March 2009: Gross Margin Inventory Turnover Current Ratio Quick Ratio Reserves & Surplus to Cash Average Collection Period Working Capital Share Capital

20% 6 1.5 0.9 3 2 months Rs. 45,000 Rs. 1,99,500

Ans.: Fixed Asset—Rs. 1,95,000; Reserves & Surplus—Rs. 40,500; Stock—Rs. 54,000; Debtors—Rs. 67,500; Cash— Rs. 13,500; Bank credit—Rs. 60,000; Trade credit—Rs. 30,000; and Total of Balance Sheet—Rs. 3,30,000. 26. Following figures have been extracted from the books of Zara Ltd as on 31 March 2009: Equity Share Capital [of Rs. 10 each] 9% Preference Share Capital [of Rs. 10 each] Profit after Tax Equity Dividend Paid Market Price per Equity Share

Rs. 8,00,000 Rs. 3,00,000 Rs. 2,70,000 @ 20% Rs. 40

Calculate: (a) Dividend yield on equity share; (b) Earning per equity share; (c) Price Earning Ratio; (d) Cover for Preference and Equity dividend. Ans.: (a) 5%; (b) Rs. 3.0375; (c) 13.17; and (d) 1.44 times. 27. Calculate the WC requirement from the following information: Debtors’ Velocity Stock Velocity Creditors’ Velocity

60 days 90 days 75 days (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

Gross Profit Ratio Sales Credit purchases Cash & Bank Balance

189

25% Rs. 20,00,000 1 ÷ 3 of CGS 2.5% of Sales

The company expects a 50% sales increment during the next year. Assume 1 year = 360 days. [C.A. (Inter)—Adapted] Ans.: Total Current Assets—Rs. 11,37,500; Total Current Liabilities—Rs. 1,56,250; and WC—Rs. 9,81,250. 28. From the following information, prepare a trading and Profit & Loss A/c for the year that ended on 31 March 2009 and a Balance Sheet as on that date: Gross Profit Ratio Net Profit Ratio Fixed Assets/Total Current Assets Fixed Assets/Capital Stock Turnover Ratio Net Profit to Capital Capital/Total Liabilities Fixed Assets Closing Stock Long-term Loan to Current Liabilities

25% 20% 5÷7 5÷4 10 1÷5 1÷2 Rs. 10,00,000 Rs. 1,00,000 1 ÷ .3

[C.A. (Inter)—Adapted] Ans.: GP—Rs. 2,00,000; Opening Stock—Rs. 20,000; Purchases—Rs. 6,80,000; Sales—Rs. 8,00,000; Other Operating expenses—Rs. 40,000; NP—Rs. 1,60,000; Capital—Rs. 8,00,000; Long-term loan—Rs. 4,00,000; Current Liabilities—Rs. 12,00,000; Liquid Assets—Rs. 13,00,000; and Balance Sheet total—Rs. 24,00,000. 29. A company having a net WC of Rs. 2,80,000 as on 30 June 2008 indicates the following Financial Ratios and performance figures: Current Ratio—2.4; Liquid Ratio—1.6; GP Ratio—20%; Inventory turnover (on cost of sales)—8; Credit allowed—1.5 months. The company’s Fixed Asset is equivalent to 90% of its Net Worth (Share Capital plus reserve), while reserve is 40% of the Share Capital. Prepare the Balance Sheet of the company as on 30 June 2008. [B.Com. (Hons), Kalyani University—2009 (N.P.)] Ans.: Share Capital—Rs. 20,00,000; Reserves—Rs. 8,00,000; Fixed Assets—Rs. 25,20,000; Stock—Rs. 1,60,000; Debtors—Rs. 2,00,000; Cash & Bank—Rs. 1,20,000; Current Liabilities—Rs. 2,00,000; and Balance Sheet total—Rs. 30,00,000. 30. Based on the following information of the Financial Ratios, prepare the Balance Sheet of a company as on 31 March 2009: Current Ratio Liquidity Ratio Stock Turnover Ratio Gross Profit Ratio Average Debt Collection Period Turnover Ratio to Net Fixed Assets Long-term Debt to Net Worth Fixed Assets to Net Worth Net WC

2.5 1.5 5 20% 2.4 months 2.5 7/25 0.80 Rs. 6,00,000

Ans.: Net Worth—Rs. 12,50,000; Long-term loan—Rs. 3,50,000; Current Liabilities—Rs. 4,00,000; Fixed Assets— Rs. 10,00,000; Stock—Rs. 4,00,000; Debtors—Rs. 5,00,000; Cash & Bank—Rs. 1,00,000; and Total of Balance Sheet—Rs. 20,00,000.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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31. From the following particulars, prepare the Balance Sheet of Sand Co. Ltd as on 31 March 2009: Current Ratio Gross Profit Ratio Stock Velocity Debtors’ Velocity Creditors’ Velocity Cash Sales to Credit Sales Fixed Assets to Turnover Capital Block [employed] to Current Asset Capital Block: Net Profit Reserve Debentures to Share Capital Working Capital

2 25% 2 months 3 months 2 months 1:2 1:3 3:2 10% of Turnover 2.5% of Turnover 1:2 Rs. 4,00,000

Ans.: Share Capital—Rs. 6,00,000; Reserves—Rs. 60,000; Profit & Loss A/c—Rs. 2,40,000; Debentures— Rs. 3,00,000; Fixed Assets—Rs. 8,00,000; Stock—Rs. 3,00,000; Receivable—Rs. 4,00,000; Payable—Rs. 3,00,000; Other Current Liabilities—Rs. 1,00,000; Cash—Rs. 1,00,000; and Total of Balance Sheet—Rs. 16,00,000. 32. From the following information, prepare the Profit & Loss A/c for the year that ended on 31 March 2009 and a Balance Sheet as on that date: Current Ratio Quick Ratio Gross Profit Ratio Stock Velocity Debtors’ Velocity Net Profit Ratio [on Average Capital Employed] Proprietary Ratio Fixed Asset ÷ Proprietors’ Fund Capital Working Capital Bank overdraft

2.5 2 20% 5 73 days 10% 6 Rs. 4,00,000 Rs. 1,80,000 Rs. 30,000

Closing Stock is 20% higher than the Opening Stock. Current Assets contain stock, debtors and cash only. There is no fictitious asset. Ans.: GP—Rs. 1,37,500; Opening Stock—Rs. 1,00,000; Closing Stock—Rs. 1,20,000; Purchases—Rs. 5,70,000; Sales—Rs. 6,87,500; Other Operating expenses—Rs. 94,500; NP—Rs. 43,000; Creditors—Rs. 90,000; Debtors—Rs. 1,37,500; Cash & Bank—Rs. 42,500; and Balance Sheet total—Rs. 5,70,000. 33. Following information relates to the operation of Ekta Ltd: Current Ratio Inventory Turnover Ratio Gross Profit Margin Average Debt Collection Period Total Asset Turnover Total Debt to Equity Ratio Gross Profit Net Worth

2.20 5 20% 50 days 2 2 Rs. 36,00,000 Rs. 30,00,000

You are required to complete the following Balance Sheet of the company: Liabilities Net Worth Long-term Loan Current Liabilities

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Rs.

Assets

Rs.

Fixed Assets Inventories Receivables Cash & Bank

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

191

Ans.: Long-term loan—Rs. 30,00,000; Fixed Assets—Rs. 24,00,000; Inventories—Rs. 36,00,000; Receivables Rs. 25,00,000; Cash & Bank—Rs. 5,00,000; and Total of Balance Sheet—Rs. 90,00,000. 34. From the following information of Jay Bharat Ltd, prepare trading and Profit & Loss A/c and Balance Sheet: Current Ratio Liquid Ratio Gross Profit Ratio Stock Turnover Debtors’ Turnover Net Profit Ratio Proprietors’ Fund to Equity Share Capital Working Capital Equity Share Capital

2.2:1 1.7:1 16% 5.6 times 6 times 7% 1.2:1 Rs. 1,44,000 65,000 shares of Rs. 10 each

[B.Com. (Hons), Calcutta University—2005 ] Ans.: GP—Rs. 64,000; Sales—Rs. 4,00,000; Stock—Rs. 60,000; CGS—Rs. 3,36,000; Other Operating expenses—Rs. 36,000; NP—Rs. 28,000; Current Liabilities—Rs. 1,20,000; Debtors—Rs. 66,667; Cash & Bank—Rs. 1,37,333; Reserves & Surplus—Rs. 1,30,000; Long-term loan—Nil; and Balance Sheet total—Rs. 9,00,000. 35. From the following information, prepare a Balance Sheet as on 31 March 2009: Current Ratio Acid Test Ratio Gross Profit Ratio Net Working Capital to Net Worth Ratio Fixed Asset Turnover Ratio Sales to Net Worth Ratio Sales to Debtors Ratio Net Worth to Long-term Loan Ratio Stock Velocity Paid-up Share Capital Reserve to Capital Ratio

2.5 1.5 0.2 0.3 2.0 1.5 6.0 20.0 2 months Rs. 10,00,000 1.0

[C.A. (Inter)—Adapted] Ans.: Fixed Asset—Rs. 15,00,000; Stock—Rs. 4,00,000; Debtors—Rs. 5,00,000; Cash & Bank—Rs. 1,00,000; Reserves—Rs. 10,00,000; Long-term loan—Rs. 1,00,000; Current Liabilities—Rs. 4,00,000; and Balance Sheet total—Rs. 25,00,000. 36. From the following information, prepare a Balance Sheet as on 31 March 2009: Gross Profit Gross Profit to Cost of Goods Sold Stock Velocity Opening Stock Accounts Receivable Velocity Accounts Payable Velocity Current Assets Bills Receivable Bills Payable Fixed Asset Turnover Ratio Assume 1 year = 360 days

Rs. 80,000 1/3 6 times Rs. 36,000 72 days 90 days Rs. 1,50,000 Rs. 20,000 Rs. 5,000 8 times

Ans.: Fixed Asset—Rs. 30,000; Closing Stock—Rs. 44,000; Debtors—Rs. 44,000; Creditors—Rs. 57,000; Proprietors’ Fund—Rs. 76,000; and Balance Sheet total—Rs. 1,38,000.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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37. From the following information of a company, prepare its Profit & Loss A/c for the year that ended on 31 March 2009 and the Balance Sheet, as on that date: Current Ratio Quick Ratio [Ratio of Debtors & Bank balance to Current Liabilities] Gross Profit Ratio Fixed Asset to Shareholders’ equity NP to Issued Share Capital Net Current Asset Issued Share Capital Stock Turnover Ratio [CGS to Closing Stock] Average age of outstanding for the year

1.8 1.35 25% 80% 20% Rs. 2,00,000 Rs. 6,00,000 5 times 36.5 days

Hints: Net Current Asset means WC. Ans.: GP—Rs. 1,87,500; Sales—Rs. 7,50,000; Stock—Rs. 1,12,500; CGS—Rs. 5,62,500; Other Operating expenses— Rs. 67,500; NP—Rs. 1,20,000; Current Liabilities—Rs. 2,50,000; Debtors—Rs. 75,000; Bank—Rs. 2,62,500; Current Asset—Rs. 4,50,000; Fixed Asset—Rs. 8,00,000; and Balance Sheet total—Rs. 12,50,000. 38. From the following information, prepare a Profit & Loss A/c for the year that ended on 31 March 2009 and a Balance Sheet, as on that date: Share Capital Gross WC Long-term Loan Current Ratio Liquid Ratio

Rs. 5,00,000 Rs. 4,00,000 Rs. 1,00,0 00 2:1 1:1 1 33 % 3 6 times 20% 20% of GP 1 month 0.20

Fixed Asset to Turnover Stock Turnover Ratio Gross Profit Ratio Net Profit Debt Collection Period Reserves & Surplus to Share Capital

Hints: Gross WC means Current Asset. Ans.: GP—Rs. 3,00,000; Sales—Rs. 15,00,000; Stock—Rs. 2,00,000; CGS—Rs. 11,00,000; Other Operating expenses—Rs. 2,40,000; NP—Rs. 60,000; Current Liabilities—Rs. 2,00,000; Debtors—Rs. 1,15,000; Bank—Rs. 75,000; Fixed Asset—Rs. 5,00,000; and Balance Sheet total—Rs. 9,00,000. 39. From the following information, prepare a Balance Sheet as on 31 March 2009: Fixed Asset Working Capital Gross Profit Ratio Current Ratio Stock velocity Debtors’ Velocity Creditors’ Velocity Fixed Asset to Turnover Net Profit

Rs. 6,00,000 Rs. 4,00,000 25% 2 2 months 1.5 months 2 months 4 5% of Turnover 2 of NP 3

Reserves Capital Gearing

1:1

Ans.: Stock—Rs. 18,750; Debtors—Rs. 18,750; Creditors—Rs. 18,750; Cash & Bank—Rs. 7,62,500; Share capital—Rs. 4,87,500; Reserve—Rs. 5,000; Profit & Loss A/c—Rs. 7,500; Long-term loan—Rs. 5,00,000; Liquid liabilities—Rs. 3,81,250; and Balance Sheet total—Rs. 14,00,000.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

193

40. Complete the following Balance Sheet, assuming that only the equity capital and retained profit figures are given: Liabilities Equity Capital Retained Earnings Creditors

Rs.

Assets

Rs.

Fixed Assets Inventories Debtors Cash

You are given the following further information: Total debt is two-third of Net Worth; Turnover of Total Assets is 1.8; 30 days’ sales are in the form of Debtors; Turnover of Inventory is 5; CGS in the year is Rs. 9,00,000; and Acid-test Ratio is 1:1. Ans.: Fixed Asset—Rs. 4,20,000; Inventory—Rs. 1,80,000; Debtors—Rs. 1,50,000; Creditors—Rs. 4,00,000; Cash— Rs. 2,50,000; and Balance Sheet total—Rs. 10,00,000. 41. Using the following information, complete the Balance Sheet of Tee Ltd: Owner’s Equity Debt-Equity Ratio Gross Profit Margin [based on Cost of Goods Sold] Average Debt Collection Period Total Asset Turnover Ratio Share Capital to Reserves & Surplus Credit Sales Stock Turnover Acid Test Ratio Owner’s Equity

Rs. 5,00,000 1:2 20% 3 months 2:1 4:1 60% 5 times 2.5:1 Rs. 5,00,000

Balance Sheet as on_______________ Liabilities Share Capital Reserves & Surplus Long-term Loan Creditors

Rs.

1,50,000

Assets

Rs.

Fixed Assets Stock Debtors Cash & Bank

Ans.: Share Capital—Rs. 4,00,000; Long-term loan—Rs. 2,50,000; Reserves & Surplus—Rs. 1,00,000; Fixed Assets—Rs. 2,25,000; Stock—Rs. 3,00,000; Debtors—Rs. 2,70,000; Cash & Bank—Rs. 1,05,000; and Total of Balance Sheet—Rs. 9,00,000. 42. From the following information, prepare a trading and Profit & Loss A/c for the year that ended on 31 March 2009 and a Balance Sheet as on that date: Gross Profit Ratio NP Ratio Return on Investment Rate of Tax Interest on Debt Fixed Asset Turnover Ratio Debtors’ Turnover Stock Turnover Current Ratio Debt Asset Ratio Current Liabilities Net sales

20% 6% 5% 50% Rs. 20,000 0.80 4.8 months 6 months 4.75 0.50 Rs. 1,00,000 Rs. 5,00,000

Ans.: GP—Rs. 1,00,000; CGS—Rs. 4,00,000; Tax—Rs. 30,000; Other Operating expenses—Rs. 20,000; NP— Rs. 30,000; Net Worth—Rs. 5,50,000; Long-term debt—Rs. 4,50,000; Stock—Rs. 2,00,000; Debtors—Rs. 2,00,000; Cash & Bank—Rs. 75,000; Fixed Asset—Rs. 6,25,000; and Balance Sheet total—Rs. 11,00,000.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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MANAGEMENT ACCOUNTING

43. From the following information, prepare a trading and Profit & Loss A/c for the year that ended on 31 March 2009 and a Balance Sheet, as on that date: Fixed Asset Fixed Asset Turnover Ratio Gross Profit Ratio Net Profit Ratio Fixed Asset to Current Asset Long-term Loan to Current Liabilities Current Ratio Share Capital to Reserves & Surplus Gearing Ratio Debtors’ Velocity Creditors’ Velocity Consumption of Raw Materials Stock of Raw Materials Stock of Finished Goods Bills Receivable Bills Payable

Rs. 10,50,000 2:1 25% 15% 1:1 1:3 2:1 5:2 4:1 6 times 6 months 40% of cost 4 months’ consumption 20% of cost Rs. 50,000 Rs. 25,000

Ans.: GP—Rs. 5,25,000; Raw materials consumed—Rs. 6,30,000; Sales—Rs. 21,00,000; Wages & Overheads— Rs. 9,45,000; Other Operating expenses—Rs. 2,10,000; NP—Rs. 3,15,000; Equity Share Capital—Rs. 8,00,000; Preference-Share Capital—Rs. 2,00,000; Reserves & Surplus—Rs. 4,00,000; Long-term loan—Rs. 1,75,000; Stock of raw materials—Rs. 2,10,000; Stock of finished goods—Rs. 3,15,000; Debtors—Rs. 3,00,000; Cash & Bank—Rs. 1,75,000; Bank overdraft—Rs. 2,10,000; Creditors—Rs. 2,90,000; and Balance Sheet total— Rs. 21,00,000. 44. A company provides you the following information relating to the year that ended on 31 March 2009: Sales Current Ratio Share Capital to Reserves & Surplus Rate of Income Tax Return on Net Worth Net Profit to Sales Inventory Turnover Ratio Cost of Goods Sold Interest on Debenture Sundry Debtors Sundry Creditors

Rs. 60,00,000 2 7:3 50% 25% 6.25% 12 Rs. 18,00,000 Rs. 60,000 Rs. 2,00,000 Rs. 2,00,000

Required: a. Determine the other operating expenses for the year that ended on 31 March 2009. b. Complete the following Balance Sheet as on 31 March 2009: Balance Sheet as on 31 March 2009 Liabilities Share Capital Reserves & Surplus 15% Debenture Sundry Creditors

Rs.

Assets

Rs.

Fixed Assets Stock Debtors Cash

Ans.: (a) Rs. 33,90,000; (b) Share Capital—Rs. 10,50,000; 15% Debenture—Rs. 4,00,000; Reserves & Surplus— Rs. 4,50,000; Creditors—Rs. 2,00,000; Fixed Assets—Rs. 17,00,000; Stock—Rs. 1,50,000; Debtors— Rs. 2,00,000; Cash—Rs. 50,000; and Total of Balance Sheet—Rs. 21,00,000.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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45. From the following information, prepare a trading and Profit & Loss A/c for the year that ended on 31 March 2009 and a Balance Sheet as on that date of Quee Ltd: Gross Profit Ratio Stock Turnover Ratio Average Debt Collection Period Creditors’ Velocity Current Ratio Proprietary Ratio [Fixed Assets to Capital Employed] Net Profit to Equity Capital Capital Gearing Ratio [Preference Shares & Debentures to Capital Employed] General Reserve & Profit & Loss A/c to Issued Equity Capital Preference Share Capital to Debentures

25% 5 times 3 months 3 months 2 80% 10% 30% 25% 2

Cost of sales consists of 50% for materials. GP is Rs. 6,00,000. Ans.: GP—Rs. 12,50,000; CGS—Rs. 37,50,000; Sales—Rs. 50,00,000; Other Operating expenses—Rs. 9,70,000; NP—Rs. 2,80,000; Equity-Share Capital—Rs. 28,00,000; Preference-Share Capital—Rs. 10,00,000; Reserves & Surplus—Rs. 7,00,000; Debenture—Rs. 5,00,000; Stock—Rs. 2,00,000; Creditors—Rs. 4,68,750; Bank overdraft—Rs. 5,31,250; Fixed Asset—Rs. 40,00,000; and Balance Sheet total—Rs. 60,00,000. 46. Following are some of the figures (ratios & percentages) relating to three companies carrying on a similar type of business for the year that ended on 31 March 2009. State by giving reasons of which company, in your opinion, has put in the best performance and has followed the best financial policy: Ratios and Percentages Net Block to Net Worth Current Assets to Current Liabilities Quick Assets to Current Liabilities Gross Profit to Net Sales (%) Net Profit to Net Sales (%) Net Sales to Capital Dividend to Profit Earned (%)

X Ltd 1.70 0.94 0.75 20 8 1.50 40

Y Ltd 0.83 1.32 0.68 15 6 2.50 25

Z Ltd 0.90 1.03 0.22 12 3 3.50 50

[C.A.I.I.B—Adapted] Ans.: Best performance—X Ltd; Best financial policy—Y Ltd. 47. The following comparative percentages are obtained from the Financial Statements of two companies, X Ltd and Y Ltd: X Ltd (%) 5 12

NP [after Tax] to Sales NP [after Tax] to Shareholders’ equity

Y Ltd (%) 10 8

Explain how you would interpret these data and which company, in your opinion, appears to be more successful. [C.A. (Inter)—Adapted] Ans.: X Ltd. 48. Following is the Balance Sheet of Mumbai Ltd as on 31 March 2009: Liabilities Equity Share Capital General reserve Profit & Loss A/c 8% Debentures Sundry Creditors Bank Overdraft

Amount Rs. 20,000 4,000 6,000 16,000 8,000 2,000

Assets Goodwill Fixed Assets Stock in Trade Sundry Debtors Short-term Investment Cash in hand

Amount Rs. 12,000 28,000 6,000 6,000 4,000 6,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M03\LAYOUT_M03\M03_DEBA_ISBN_EN_SE_C03_Part-3.indd

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Amount Rs. 4,000 2,000 62,000

Liabilities Provision for Taxation Proposed Dividend

Amount Rs.

Assets

62,000

Sales for the year amounted to Rs. 1,20,000. Calculate the relevant Ratios for testing (a) Liquidity; (b) Solvency; (c) Capital Structure; and (d) Capital gearing of the company. [B.Com. (Hons), Bombay University—Adapted] Ans.: (a) Current Ratio, Quick Ratio; (b) Debt-Equity Ratio, Proprietary Ratio; (c) Fixed Asset Proprietorship Ratio, Net Worth to Total Liabilities, Proprietary Ratio, Debt-Equity Ratio; and (d) Capital Gearing Ratio. 49. The following Ratios of D Ltd and their corresponding industry averages are available: Ratios

D Ltd 1.75 0.85 25% 6.5 35 days 9.2% Rs. 3.50

Current Liquid Stock to Working Capital Inventory turnover Debt Collection Period Return on Assets Earning per Share

Industry 2.10 2.25 20% 8.2 30 days 10.7% Rs. 2.75

You are required to comment on the financial position and performance of D Ltd. [M.Com., Calcutta University—Adapted] Ans.: Financial position and activity of D Ltd is weaker the industry average, but its return to shareholders is better than the industry average. 50. Following are the Financial Statements of Fatepuria Ltd: Profit & Loss A/c for the year that ended on 31 March 2008

Less: Less: Less: Less:

Rs. 3,90,000 3,35,400 54,600 22,750 31,850 5,850 26,000 10,400 15,600

Net Sales Cost of Goods Sold Gross Profit Administrative & Selling Expenses Operating Profit Interest on Loan Profit before Tax Provision for Tax [ 33 13 % on Rs. 3,00,000] profit after Tax

Balance Sheet as on 31 March 2008 Liabilities Equity Share Capital 7% Preference Share Capital Reserves & Surplus Long-term Loan Current Liabilities & Provisions: Sundry Creditors Quick Liabilities Provision for Tax

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Rs. 1,30,000 26,000 1,04,000 1,82,000 41,600 2,600 33,800 5,20,000

Assets Fixed Assets Less: Depreciation Investment Current Assets: Stock Debtors Cash & Bank

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rs. 4,68,000 1,30,000

Rs. 3,38,000 39,000 78,000 52,000 13,000 5,20,000

Rev II

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ACCOUNTING RATIOS FOR FINANCIAL STATEMENT ANALYSIS

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Dividend declared and paid during the year was as follows: a. On Preference Shares, a regular dividend was paid. b. On Equity Shares, a cash dividend of Rs. 1.30 was paid. The market price per equity share of the company was quoted at Rs. 52 during the last week of March 2009. You are required to calculate the five Ratios that are important and relevant to a banker and comment on the financial position of the company. Ans.: Calculate: Current Ratio; Debt-Equity Ratio; Interest Coverage Ratio; Dividend Earnings Ratio; Price Earnings Ratio of equity shares. 51. The Balance Sheet of Jantar Mantar Ltd as on 31 March 2009 is as follows: Liabilities Equity Share Capital [shares of Rs. 10 each] Retained Earnings 10% Long-term Loan Current Liabilities

Rs. 90,000

Assets

Rs. 2,25,000 75,000

Fixed Assets Current Assets

30,000 1,20,000 60,000 3,00,000

3,00,000

The company’s Total Asset Turnover Ratio is 3, fixed operating cost is Rs. 1,50,000 and variable operating cost Ratio is 50%. The income tax rate is 50%. You are required to: i. Calculate the different types of leverage for the company. ii. Determine the likely level of EBIT if EPS is: (a) Re. 1; (b) Rs. 2; and (c) Re. 0. Ans.: (i) DOL—1.5, DFL—1.042 and DCL—1.563; (ii) (a) Rs. 30,000, (b) Rs. 48,000 and (c) Rs. 12,000. 52. The following figures relate to the year that ended on 31 March 2009 of two companies:

Less: Less: Less:

R Ltd Rs. in Lakhs 500 200 300 150 150 50 100

Sales Variable Cost Contribution Fixed Cost EBIT [i.e., Operating Profit] Interest on Loan Earnings before Tax (EBT)

S Ltd Rs. in Lakhs 1,000 300 700 400 300 100 200

You are required to: i. Calculate the operating, financial and combined leverage for the two companies. ii. Comment on the relative risk position of two companies. [I.C.W.A. (Stage IV)—Adapted] Ans.: (i) R Ltd 2 1.5 3

DOL DFL DCL

S Ltd 2.33 1.5 3.5

ii. S Ltd possesses a higher overall risk than R Ltd. 53. (a) From the following details, prepare a comparative Balance Sheet in a vertical form, showing sources and employment of fund with the broad break-up of the components of WC: Year Current Ratio Liquid Ratio Fixed Asset to Proprietary Fund Bank Overdraft Working Capital

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

2007–08 2.50 1.20 0.70 Rs. 80,000 Rs. 2,25,000

2008–09 1.80 0.90 0.80 Rs. 1,20,000 Rs. 2,40,000

Rev II

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There was no long-term loan or fictitious asset. (b) Comment upon the utilization of funds in 2008–09 as compared to that in 2007–08. [C.A. (Final)—Adapted] Ans.: (a) 2007–08 (Rs.) 5,25,000 3,75,000 1,50,000

Fixed Asset Current Asset Current Liabilities

2008–09 (Rs.) 9,60,000 5,40,000 3,00,000

(b) More funds were invested in the Fixed Asset in 2008–09 than that in 2007–08. 54. As the manager of a financial service company, you have received a proposal seeking a term loan, from a firm that is planning an investment in a Fixed Asset of Rs. 500 lakhs, in a new project. The loan is indicated to be repayable in three annual instalments commencing from the end of the 2nd year. The following information concerning the project is available: Rs. in Lakhs Gross Profit [before depreciation] Depreciation Interest on term Loan WC borrowing Provision for Tax

Year 1 75 50 25 10 

Year 2 100 45 45 15 

Year 3 150 40 30 20 10

Year 4 150 35 15 20 30

Assuming other techno-economic criteria to be satisfactory, you are required to: a. Compute any three Ratios which, in your opinion, would guide the financing decision. b. Interpret briefly such Ratios and give views on the proposal. [C.A. (Final)—Adapted] Ans.: (a) Average ROI: Before tax 12%; After tax 10%. Debt Service Coverage Ratio Cash Interest Cover on Term Loan

Year 1 2.60 2.60

Year 2 0.60 1.89

Year 3 0.90 4.00

Year 4 0.90 26.67

(b) The project will not earn a satisfactory ROI and the term-loan borrowing will seriously create a liquidity problem of the firm.

Modified Date: Sat, Jul 03, 2010 12:42:06 PM

Output Date: Tue, Jul 06, 2010 11:43:37 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

Cash Flow Analysis

4

LEARNING OBJECTIVES On completion of the study of the chapter, you should be able to understand: What is meant by Cash? What is a Cash Flow Statement? What are the uses and advantages of preparation of a Cash Flow Statement? Distinction between a Cash Flow Statement and a Cash Book. Distinction between a Cash Flow Statement and a Fund Flow Statement. How to prepare a Cash Flow Statement under the Traditional Method? How to prepare a Cash Flow Statement as per Indian Accounting Standard (AS-3) (Revised), as issued by the Institute of Chartered Accountants of India? What are the purposes of computation of Net Cash Flows from Operating, Investing and Financing Activities separately as per AS-3 (Revised)? Fundamental difference between a Cash Flow Statement prepared under the Traditional Method and that prepared under the specific format as prescribed in AS-3 (Revised).

4.1 WHAT IS CASH? Generally, cash refers to cash in hand and cash at bank. But, for the purpose of preparation of a Cash Flow Statement, the Council of the Institute of Chartered Accountants of India (ICAI) issued Accounting Standard (AS-3) (Revised) in the year 1997, where it is stated that ‘cash’ includes the following: i. Cash in hand; ii. Demand Deposits with bank; and iii. Cash Equivalents. Cash Equivalents, which are considered as a part of cash as per AS-3, are defined as ‘short-term highly liquid investments that are readily convertible into known amounts of cash and which are subject to an insignificant risk of changes in value.’ Therefore, as per AS-3 (Revised), as issued for the purpose of preparation and presentation of Cash Flow Statement, cash includes: i. Cash in Hand; ii. Cash at Bank; and iii. Short-term Investments or Marketable Securities. 4.2 DIFFERENCE BETWEEN CASH AND FUND The term Fund is generally defined as Net Working Capital (i.e., Current Assets − Current Liabilities) for the purpose of preparation and presentation of Fund Flow Statement. On the other hand, the term Cash is defined by the AS-3 as Cash in hand, Cash at bank and Short-term investments for the purpose of preparation and presentation of Cash Flow Statement. Therefore, fund includes cash, but cash does not represent the whole fund, rather a part of the fund only.

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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4.3 WHAT IS CASH FLOW STATEMENT? Cash Flow Statement is a summarized statement showing sources of Cash Inflows and applications of cash outflows of an enterprise during a particular period of time (generally, a year). A Cash Flow Statement is prepared on the basis of the published data as disclosed by the Financial Statement of two different financial years. It summarizes all Cash Flows between two financial years. It is an essential tool for managerial decisionmaking. Cash Flow Statement reports the management Net Cash Flow (i.e., cash inflow less cash outflow or vice versa) from each activity of the enterprise as well as of the overall business of the enterprise. 4.4 WHY IS CASH FLOW STATEMENT PREPARED? As already discussed, Cash Flow Statement is used as an essential managerial tool. It is prepared to locate the various sources of Cash Inflows within the business and to identify the various uses of cash outflows from the business during a particular period. As it is a summarized statement of Cash Inflows and Cash Outflows for different activities of an enterprise, during a particular period, the management of that enterprise gets a vivid picture of the movement of cash resources.Thus, the management can assess the stronger and weaker area of movement of cash for different activities of the business and can draw up its future planning. 4.5 IMPORTANCE OF CASH FLOW STATEMENT Cash Flow Statement is issued as an important tool of Financial Statement analysis to the management. It helps the management to assess the ability of an enterprise to generate cash resources from its different activities and the needs of the enterprise to utilize those cash resources into its different activities. Analysis of sources and application of cash for different activities of an enterprise enables its management to prepare the reliable cash flow projection for the future planning. Cash Flow Statement is very much useful for a short-term planning of an enterprise. As Cash Flow Statement locates various inflows and outflows of cash for different activities of a concern, the management of the concern can easily assess the cash position of those activities and can also easily identify the stronger and weaker area of cash position of the different activities of the concern. 4.6 USES OF CASH FLOW STATEMENT Cash Flow Statement is a very useful tool to the management. It has the following uses: i. Prediction of Future Cash Flows: On the basis of Cash Flow Statement, an enterprise can predict the flows of cash from and to the organization for the near future period. ii. Short-term Financial Planning: With the help of the information as provided through the Cash Flow Statement, an enterprise can chalk out its future short-term financial planning as regards to the investment of its cash resources. iii. Liquidity and Solvency Position: It indicates to the management about the liquidity and solvency position of the enterprise, so that the management can take appropriate measures if it finds any weakness. iv. Disclosure of Movement of Cash: It discloses the movement of cash from and to the enterprise during a particular period, and any deviation from the budgeted figure can be identified. v. Efficiency in Cash Management: Cash Flow Statement, as already prepared for the current period, helps a lot to prepare a projected Cash Flow Statement for the future period. If the management observes any cash surplus or cash deficiency, which is likely to occur in the future period, it can make out an appropriate planning for investing the projected cash surplus or for arranging the necessary cash to meet the projected cash deficiency. vi. Identification of Stronger or Weaker Activity: As per AS-3, as issued by the ICAI, Cash Flow Statement is prepared in three parts, namely, Cash Flow from Operating Activities, Cash Flow from Investing Activities and Cash Flow from Financing Activities. Therefore, by preparing a Cash Flow Statement, the management of an enterprise can identify its stronger or weaker cash position of the respective activities of the enterprise, and accordingly, it can take an appropriate measure to resolve the matter.

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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vii. Ability of Payment of Dividend: Cash Flow Statement shows whether an enterprise possesses adequate cash for payment of dividend against its shares after paying off its all operating expenses and interest on debt. Thus, it provides an appropriate information to the management as regards to the firm’s ability to pay the cash diviadend to its shareholders. viii. Efficiency in Operating Activities: Cash Flow Statement separately shows the efficiency of an enterprise in its Operating Activities. If any weakness is observed, the management can take an appropriate remedial measure. ix. Efficiency in Managerial Performance: Fixed Assets of an enterprise are acquired out of the funds raised from the long-term sources. If such long-term funds are financed by long-term borrowings, it is prudent to pay interest on these long-term borrowings and also to repay the principal amount of these long-term borrowings out of the cash generated from the Operating Activities. All these above information are exhibited by the Cash Flow Statement, and thus, it reflects the level of performance of the management. x. A Tool of Comparative Study: Cash Flow Statement is used by the management of an enterprise as an essential tool of comparative study of different activities, like operating, investing and Financing Activities of the enterprise, with the other enterprises existing under the same industry and also with the enterprises that are existing under the other industries. Thus, the management can locate the area of activity where a greater emphasis is to be given for the growth of the enterprise. 4.7 ADVANTAGES OF CASH FLOW STATEMENT All enterprises enjoy lots of benefits through the Cash Flow Statement, as the latter is having the following advantages: i. It provides adequate information as regards to the inflows and outflows of cash resources to and from the enterprise. ii. It provides separate information as regards to the inflows and outflows of cash from the different activities of the enterprise. iii. It evaluates the level of efficiency of the management of the enterprise as regards to the uses of its cash resources. iv. It discloses the liquidity and solvency position of the enterprise. v. It helps the management a lot for future cash planning of the enterprise. vi. It provides the necessary information to the management, so that the situation of excessive surplus cash or deficiency of cash can be avoided. vii. It locates the stronger and weaker activities of an enterprise. viii. It helps to prepare the budget for the future period. 4.8 LIMITATIONS OF CASH FLOW STATEMENT In spite of the immense usefulness of the Cash Flow Statement, it has its own limitations. They are as follows: i. Cash Flow Statement shows only the inflows and outflows of cash, and thus, it does not take into consideration the non-cash transactions of the enterprise that had taken place during the same period. ii. As it considers only the inflows and outflows of cash, the Net Cash Flow of a certain period does not necessarily mean the Net Profit of the business, as Net Profit is ascertained considering both cash as well as non-cash transactions. Thus, there may be a huge difference between the Net Cash Flow and the Net Profit for the same period. iii. As it discloses the Net Cash Flow, and not the Net Profit for a certain period, it is not a substitute of the profit and loss account (Profit & Loss A/c) or Income statement. iv. As it is prepared at the end of a certain period, it is not useful for rectifying the errors that had already taken place during that period.

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

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v. It is also not a substitute of the Fund Flow Statement, as it discloses only the cash position of the enterprise and not the financial position of the enterprise as a whole. vi. As it is prepared at the end of a certain period, it can provide only the indications about the probable inflows and outflows of cash for the future period, and not the exact inflows and outflows. 4.9 DIFFERENCES BETWEEN CASH BOOK AND CASH FLOW STATEMENT Apparently, a Cash Flow Statement may be considered as the summarized form of a Cash Book. But actually, there are some fundamental differences between the Cash Book and the Cash Flow Statement, which are as follows: Cash Book 1. Cash Book is the Book of Primary Entry for cash transactions. 2. In Cash Book, all cash receipts and cash payments are recorded. 3. Process of recording of cash transactions in the Cash Book takes place throughout the financial year. 4. Process of recording in the Cash Book is the most essential activity under the Financial Accounting System. 5. Primary objective behind the preparation of Cash Book is the recording of all cash transactions and to find out the balance of cash. 6. Cash Book exhibits lesser information as regards to movement of cash than the Cash Flow Statement. 7. Net Cash Flows from different activities of the enterprise, like operating, investing, and Financing Activities, are not separately exhibited in the Cash Book. 8. While preparing the Cash Book, cash refers to Cash in hand and Cash at bank (demand deposits) only.

Cash Flow Statement 1. Cash Flow Statement is a statement showing the sources and utilizations of cash. 2. In Cash Flow Statement, all inflows and outflows of cash are exhibited. 3. It is generally prepared at the end of the financial year. 4. Preparation of Cash Flow Statement is one of the important activities under the Management Accounting System. 5. The objective behind preparation of Cash Flow Statement is to provide necessary information as regards to sources and utilizations of cash. 6. Cash Flow Statement exhibits more detailed information regarding the movement of cash than the Cash Book. 7. Net Cash Flows from different activities of an enterprise are separately exhibited in the Cash Flow Statement prepared as per AS-3, as issued by the ICAI. 8. While preparing the Cash Flow Statement, cash includes Cash in hand, Cash at bank (demand deposits) and short-term investments.

4.10 DIFFERENCES BETWEEN CASH FLOW STATEMENT AND FUND FLOW STATEMENT Both Cash Flow Statement as well as Fund Flow Statement are very important tools for managerial decision making. But there are some fundamental differences between these two, which are as follows: Cash Flow Statement 1. Cash Flow Statement exhibits inflows and outflows of cash and cash equivalents alone. 2. While preparing a Cash Flow Statement, cash refers to cash in hand, cash at bank (demand deposits) and shortterm investments (i.e., Cash & Cash equivalents alone). 3. Cash Flow Statement is prepared on cash basis of accounting. 4. It is the most important tool for short-term financial analysis. 5. By preparing a Cash Flow Statement, the movement of cash alone can be known and identified. 6. Net Cash Inflows from different activities of an enterprise, such as operating, investing and Financing Activities, are separately exhibited through the Cash Flow Statement.

Fund Flow Statement 1. Fund Flow Statement exhibits inflows and outflows of funds (i.e., working capital) alone. 2. While preparing a Fund Flow Statement, fund refers to the working capital (i.e., Current Assets and Current Liabilities alone). 3. Fund Flow Statement is prepared on accrual basis of accounting. 4. It is the most important tool for long-term financial analysis. 5. By preparing a Fund Flow Statement, the movement of Working Capital items (i.e., Current Assets and Current Liabilities) alone can be known and identified. 6. Net fund flows from different activities of an enterprise are not separately exhibited through the Fund Flow Statement. (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

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Cash Flow Statement 7. It shows the brief reasons for change in cash between two Balance Sheet dates. 8. Cash Flow Statement starts with the opening of cash and cash equivalents of a closing accounting period and ends with the closing Cash & Cash equivalents of that accounting period.

Fund Flow Statement 7. It shows the brief reasons for change in the working capital between two Balance Sheet dates. 8. Fund Flow Statement shows the amount changes between the opening Working Capital balances of an accounting period.

4.11 PROFORMA OF CASH FLOW STATEMENT PREPARED UNDER TRADITIONAL/CONVENTIONAL METHOD Cash Flow Statement of for the period Sources of Cash To Opening Cash & Bank Balance To Inflows of cash: New Issue of Shares New Issue of Shares Loan Raised Sale of Fixed Assets Interest Received on Investments Net Cash Flow from Operation Payment of Interest on Debt

Rs. – – – – – – – – –

Applications of Cash By Outflows of cash: Redemption of Preference Shares Redemption of Preference Shares Purchase of Fixed Assets Further Investments Made Payment of Dividend Payment of Tax Repayment of Loan By Closing Cash & Bank Balance

Rs. – – – – – – – – –

Note: Under traditional method, ‘Cash’ refers to ‘cash in hand and at bank’ (demand deposits) only.

4.12 CASH FLOW STATEMENT AS PRESCRIBED IN AS-3 Accounting standard (Revised)–3 (AS-3) as issued by the ICAI in March 1997, prescribes a specific format for presenting a Cash Flow Statement. Preparation of Cash Flow Statement as per AS-3 is mandatory in respect of accounting periods that are commencing on or after 01 April 2001 (i.e., from the accounting year 2001–02) for the following enterprises: i. Enterprises that have a turnover of more than Rs. 50 crores during a financial year. ii. Companies whose shares or debts are listed on a recognized stock exchange in India (Cash Flow Statement of listed companies shall be presented under indirect method only as prescribed in AS-3). AS-3 prescribes two forms of presentation of Cash Flow Statement, which are as follows: i. Direct Method: Under this method, the Net Cash Flow from Operating Activities is to be calculated directly by deducting the cash outflows from the Operating Activities from Cash Inflows from the Operating Activities. ii. Indirect Method: Under this method, the Net Cash Flow from Operating Activities is to be calculated indirectly by adding back all the non-operating and non-cash items debited and by deducting all the non-operating and non-cash items credited to the Profit & Loss A/c for an accounting year with the Net Profit for that year. For both the methods, ‘Cash’ refers to cash in hand, cash at bank (demand deposits alone) and short-term investments or marketable securities. All these combinedly are termed as ‘Cash and Cash Equivalents.’ Under both the above methods, Net Cash Flows from the operating, investing and Financing Activities are to be separately shown in the Cash Flow Statement. In other words, Cash Flow Statement prepared under both the above methods is subdivided into the following three parts: i. Net Cash Flows from Operating Activities. ii. Net Cash Flows from Investing Activities. iii. Net Cash Flows from Financing Activities.

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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4.12.1 Cash Flows from Operating Activities Operating or trading activities are principal revenue-producing activities of an enterprise. In other words, principal business activities of an enterprise, other than investing and Financing Activities, are called Operating Activities. Say, in case of a book-publishing company, the principal business activities are printing and publication of books and their sales. The publishing company may have huge, excess cash which are invested outside the business from where the company may receive a substantial amount of cash in the form of interest, but this activity is not the principal business activity of the company and hence, should not be treated as an operating activity of the company. Its Operating Activities are printing and publication of books and their sales. All cash receipts (i.e., inflows of cash) and cash payments (i.e., outflows of cash) for printing, publication and sale of books are to be considered as Cash Flows from Operating Activities. Examples of Cash Inflows from Operating Activities: Cash sales of goods/services, collection from credit sales, etc. Examples of Cash out Flows from Operating Activities: Cash purchases of goods/ services, payment against credit sales, payment of factory expenses, payment of office & administration expenses, payment of selling & distribution expenses, etc. Illustration Cash sales of goods—Rs. 1,50,000; Collection from debtors—Rs. 3,50,000; Cash purchases of goods—Rs. 90,000; Payment to creditors—Rs. 2,20,000; Payment of wages—Rs. 50,000; Payment of factory expenses—Rs. 40,000; Payment of office & administration expenses—Rs. 25,000; Payment of selling & distribution expenses—Rs. 35,000; and Payment of tax on operating profit—Rs. 15,000. Calculate the Net Cash Flow from Operating Activities. Solution Calculation of Net Cash Flow from Operating Activities

Less:

Less:

Cash Inflows from Operating Activities: Cash Sales of Goods Collection from Debtors Cash Outflows from Operating Activities: Cash Purchases of Goods Payment to Creditors Payment of Wages Payment of Factory Expenses Payment of Office & Administration Expenses Payment of Selling & Distribution Expenses Cash Generated from Operation Payment of Tax on Operating Profit Net Cash Flow From Operating Activities

Rs.

Rs.

1,50,000 3,50,000

5,00,000

90,000 2,20,000 50,000 40,000 25,000 35,000

4,60,000 40,000 15,000 25,000

4.12.2 Cash Flows from Investing Activities Investing activities are the acquisition and disposal of long-term assets and other investments not included in the cash equivalents. In other words, Investing Activities arise out of acquisition and sale of Fixed Assets and long-term investments made outside the enterprise. Say, a book publishing company invests its funds for acquisition of Fixed Assets, even though they are used for carrying on its Operating Activities, or into shares of another company. Any inflows or outflows of cash from these activities of the company are to be treated as Cash Flows from Investing Activities. Examples of Cash Inflows from Investing Activities: Sale proceeds of Fixed Assets and long-term investments, income received from investments, etc. Examples of Cash Outflows from Investing Activities: Purchase of Fixed Assets, additions to Fixed Assets, investments made, etc.

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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Illustration Sale proceeds of Fixed Assets—Rs. 5,50,000; Sale proceeds of long-term investments—Rs. 2,50,000; Income received from investments—Rs. 1,00,000; Purchase of Fixed Assets—Rs. 4,20,000; Investment (long-term) made—Rs. 3,00,000; and Payment of tax on investing income—Rs. 20,000. Calculate the Net Cash Flow from Investing Activities. Solution Calculation of Net Cash Flow from Investing Activities

Less:

Cash Inflows from Investing Activities: Sale Proceeds of Fixed Assets Sale Proceeds of Long-term Investments Income Received from Investments Cash Outflows from Investing Activities: Purchase of Fixed Assets Investment (Long-term) Made Payment of Tax on Investing Income Net Cash Flow from Investing Activities

Rs.

Rs.

5,50,000 2,50,000 1,00,000

9,00,000

4,20,000 3,00,000 20,000

7,40,000 1,60,000

4.12.3 Cash Flows from Financing Activities Financing activities are the activities of an enterprise which result in changes in size and composition of the owner’s capital (including Preference Share Capital) and borrowings of that enterprise. In other words, activities related to the total capital employed (i.e., equity & Preference Share Capital and long-term loans) of an enterprise are treated as Financing Activities. Any inflows or outflows of cash from these activities of the enterprise are to be treated as ‘Cash Flows from Financing Activities.’ Say, the book-publishing company issues its equity shares, redeems its debentures, etc. Examples of Cash Inflows from Financing Activities: Proceeds received from the issue of equity and preference shares and debentures, proceeds received from the long-term loans, etc. Examples of Cash out Flows from Financing Activities: Redemption of preference shares and debentures, repayment of long-term loans, payment of equity and preference dividend, payment of interest on loans, etc. Illustration Proceeds received from the issue of equity shares—Rs. 3,00,000; Proceeds received from the issue of preference shares—Rs. 2,00,000; Proceeds received from the long-term loans—Rs. 1,50,000; Redemption of preference shares—Rs. 1,50,000; Redemption of debentures—Rs. 1,00,000; Payment of dividend—Rs. 30,000; and Payment of interest—Rs. 20,000. Calculate Net Cash Flow from the Financing Activities. Solution Calculation of Net Cash Flow from Financing Activities

Less:

Cash Inflows from Financing Activities: Proceeds Received from Issue of Equity Shares Proceeds Received from Issue of Preference Shares Proceeds Received from Long-term Loans Cash Outflows from Financing Activities: Redemption of Preference Shares Redemption of Debentures Payment of Dividend Payment of Interest Net Cash Flow from Financing Activities

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rs.

Rs.

3,00,000 2,00,000 1,50,000

6,50,000

1,50,000 1,00,000 30,000 20,000

3,00,000 3,50,000

Rev II

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4.13 PROFORMA OF CASH FLOW STATEMENT AS PRESCRIBED IN AS-3 4.13.1 Proforma of Cash Flow Statement under Direct Method [Paragraph (a) Page II – 910] Cash Flow Statement of for the period ended Rs. A. Cash Flows from Operating Activities: Cash Receipts from Customers Less: Cash Paid to Suppliers & Employees Cash Generated from Operation Less: Income Tax Paid Cash Flows from Operation before Extraordinary Items Add: Proceeds from any Disaster Settlement Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Fixed Assets including Investments Less: Purchase of Fixed Assets Including Investments

– – – – – –

Interest Received Dividend Received Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds from Issuance of Share Capital Proceeds from Long-term Borrowings Repayment of Long-term Borrowings including Redemption of Preference Shares

Less:

Interest Paid Dividend Paid Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Cash & Cash Equivalents at the beginning of the period Cash & Cash Equivalents at the end of the period

Rs.

– – – – – –

Add:

Less:

Rs.

– – – – – –

Add:

– –

– – – – –

4.13.2 Proforma of Cash Flow Statement under Indirect Method [Paragraph (b) Page II – 910] Cash Flow Statement of for the period ended Rs. A. Cash Flows from Operating Activities: Net Profit for the Period before Taxation & Extraordinary Items Add: Adjustment for Non-current and Non-operating Items charged to Profit & Loss A/c: Depreciation Interest Paid Foreign Exchange Loss Loss on Sale of Fixed Assets & Investments Less:

Add:

Adjustment for Non-current and Non-operating Items credited to Profit & Loss A/c: Interest Earned Dividend Earned Profit on Sale of Fixed Assets & Investments Operating Profit before Working Capital Changes Increase in Operating Current Liabilities Decrease in Operating Current Assets

Rs.

Rs.

–

– – – –

– – – – –

– –

– – – – (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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Less:

Increase in Operating Current Assets Decrease in Operating Current Liabilities Cash Generated from Operation Less: Income Tax Paid Add: Proceeds from any Disaster Settlement Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Fixed Assets including Investments Less: Purchase of Fixed Assets including Investments

–

– – – – – –

Add:

Interest Received Dividend Received Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds from Issuance of Share Capital Proceeds from Long-term Borrowings Less:

Repayment of Long-term Borrowings including Redemption of Preference Shares

Less:

Interest Paid Dividend Paid Net Cash Flow from Financing Activities Net increase in Cash & Cash Equivalents Cash & Cash Equivalents at the beginning of the period Cash & Cash Equivalents at the end of the period

– – – –

– – – – – –

Add:

– –

– – – – –

Stop and Think The only difference between the direct and indirect methods lies in the calculation of Net Cash Flows from Operating Activities. Under direct method, the Net Cash Flow from the Operating Activities is directly calculated by deducting the cash outflows from the Operating Activities from the Cash Inflows from the Operating Activities. On the other hand, under the indirect method, the Net Cash Flow from the Operating Activities is indirectly calculated by adding back all the non-operating and non-cash items debited and by deducting all the non-operating and noncash items credited to the Profit & Loss A/c for an accounting year with the Net Profit for that year. Under both the methods, the Net Cash Flows from investing and Financing Activities are calculated following the same approach (i.e., no difference between both the methods).

4.14 FUNDAMENTAL DIFFERENCES BETWEEN CASH FLOW STATEMENT AS PER AS-3 AND TRADITIONAL METHOD i. As per Traditional Method, Cash means cash in hand and at bank (demand deposits) only, whereas as per AS-3, Cash includes not only cash in hand and at bank (demand deposits) but also short-term investments or marketable securities. ii. Cash Flows from different activities of an enterprise, such as operating, investing and Financing Activities, can be separately known through the Cash Flow Statement prepared as per AS-3, by virtue of which the enterprise can identify its stronger and weaker area of cash generation. But, as per Traditional Method, there is no such segregation of Cash Flows from the different activities of an enterprise. iii. As per AS-3, two separate approaches, namely, Direct and Indirect Method, may be followed for the preparation of a Cash Flow Statement, whereas a single approach is followed while preparing the Cash Flow Statement under Traditional Method. iv. Preparation of a Cash Flow Statement as per AS-3 is mandatory for all enterprises having an annual turnover of more than Rs. 50 crores and also for all companies whose shares or debts are listed on a recognized Stock Exchange of India. Enterprises those are not falling under the above categories may prepare their Cash Flow Statement as per the Traditional Method.

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

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Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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Stop and Think Where a detailed information as regards to cash sales, collection from debtors, cash purchases, payment to creditors, and so on, are given in the problem, or can be calculated, the Cash Flow from the operating activity can be calculated following the Direct Method as well as the Indirect Method, as prescribed in AS-3 (Revised). More clearly, where the Profit & Loss A/c for an accounting period along with the opening and closing Balance Sheets of that accounting period are given in the problem, the Cash Flow from the operating activity can be calculated following both the Direct Method as well as the Indirect Method, as prescribed in AS-3 (Revised). In such a situation, students are advised to follow the Direct Method.

 Tutorial Notes to Students for Solving Problems 1. As per conventional/traditional approach, Cash refers to ‘cash in hand’ and ‘cash at bank’ only, but as per AS-3 (Revised), it refers to ‘cash and cash equivalents’ (i.e., Cash in hand, Cash at bank and Short-term investments/Marketable securities). 2. For all examination purposes (i.e., B.Com., M.Com., C.A., I.C.W.A., C.S., M.B.A., etc.) and for some practical purposes (i.e., companies having a turnover of more than Rs. 50 crores during a financial year and whose shares or debts are listed on a recognized stock exchange in India), Cash Flow Statement is compulsorily required to be presented, following the format as prescribed in AS-3 (Revised). 3. As per AS-3 (Revised), a Cash Flow Statement may be presented under two methods, that is, Direct Method and Indirect Method. Accordingly, students should know which method of presenting Cash Flow Statement is desirable on the basis of the information given in the problem. 4. Where details of information as regards to cash sales, collection from debtors, cash purchases, payment to creditors, and so on, are given in the problem or somehow can be calculated, the cash flow from Operating Activities can be calculated following the direct method as well as the indirect method, as prescribed in AS-3 (Revised). More clearly, where the Profit & Loss A/c for an accounting period, along with opening and closing Balance Sheets of that accounting period, is given in the problem, the cash flow from Operating Activities can be calculated following both the direct method as well as the indirect method, as prescribed in AS-3 (Revised). In such a situation, students are advised to follow the direct method. 5. Where only opening and closing Balance Sheets of an accounting period are given in the problem, along with some additional information, the cash flow from Operating Activities can be calculated following the indirect method only, as prescribed in AS-3 (Revised). 6. Under both direct and indirect methods, the method of calculating the cash flow from both Investing Activities and Financing Activities is the same, that is, no separate approach is followed under both direct and indirect methods, for the purpose of calculating the cash flow from Investing Activities and Financing Activities. 7. The sum of Net Cash Flows from operating, investing and Financing Activities represents net increase/decrease in cash and cash equivalents. Sum/deduction of this net increase/ decrease in cash and cash equivalents with/ from the cash and cash equivalents at the beginning of the period should always be equal to the cash and cash equivalents at the end of the period; and thus, students should satisfy themselves about the accuracy of their solution to the problem given in the examination.

4.15 WORKED-OUT PROBLEMS Problem 1 Choose the correct alternative from the following: i. Depreciation on Fixed Assets: (a) causes cash inflow; (b) causes cash outflow; (c) has no effect on Cash Flow. ii. Interest paid on debentures causes: (a) cash outflow from operating activities; (b) cash outflow from Financing Activities; (c) cash outflow from investing activities. iii. Cash sale of goods causes: (a) cash inflow from operating activities; (b) cash inflow from financing activities; (c) cash inflow from investing activities.

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

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CASH FLOW ANALYSIS

209

iv. Payment of dividend on shares causes cash outflow from: (a) operating activities; (b) financing activities; (c) investing activities. v. Purchase of Fixed Assets causes cash outflow from: (a) operating activities; (b) financing activities; (c) investing activities. vi. Sale of long-term investment at a loss: (a) increases cash; (b) decreases cash; (c) has no effect on cash. vii. Redemption of debentures by converting them into shares: (a) increases cash; (b) decreases cash; (c) has no effect on cash. viii. If the net operating profit of a business concern is Rs. 60,000 and its debtors have increased during the year by Rs. 20,000, cash from operation is equal to: (a) Rs. 60,000; (b) Rs. 80,000; (c) Rs. 40,000. ix. Payment of income tax for which a provision has been made: (a) increases Cash Flow; (b) decreases Cash Flow; (c) has no effect on Cash Flow. x. Payment of wages and salaries causes cash outflow from; (a) operating activities; (b) financing activities; (c) investing activities. xi. Issue of equity shares for cash causes cash inflow from: (a) operating activities; (b) Financing Activities; (c) investing activities. xii. Dividend received from investment causes cash inflow from: (a) operating activities; (b) financing activities; (c) investing activities. Ans. (i) (c); (ii) (b); (iii) (a); (iv) (b); (v) (c); (vi) (a); (vii) (c); (viii) (c); (ix) (b); (x) (a); (xi) (b); (xii) (c). Calculation of Net Cash Flow from Operation under Conventional/Traditional Approach Problem 2 From the following information, calculate the Net Cash Flow from the operation of a company for the year that ended on 31 March 2007 under traditional approach: 31 March 2006 Rs. 2,00,000 56,000 54,000 48,000 18,000 14,000 12,000 15,000 34,000

Balance in Profit & Loss A/c Stock in Trade Sundry Debtors Sundry Creditors Bills Receivable Bills Payable Outstanding Expenses Prepaid Expenses Cash at Bank

31 March 2007 Rs. 2,40,000 36,000 82,000 72,000 27,000 11,000 16,000 9,000 56,000

While ascertaining the Net Profit for the year that ended on 31 March 2007, the following items were taken into the Profit & Loss A/c: Rs. 40,000 30,000 20,000 10,000 20,000 25,000 30,000 15,000 30,000 10,000

Transfer to General Reserve Proposed Dividend Goodwill written off Preliminary Expenses written off Interest on Debentures Depreciation on Fixed Assets Provision for Taxation Loss on Sale of Investment Profit on Sale of Machinery Income from Investment

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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Solution Profit & Loss A/c

Dr.

Cr.

Amount (Rs.)

Particulars To Non-current & Non-operating Items Charged: Transfer to General Reserve Proposed Dividend Goodwill Preliminary Expenses Depreciation on Fixed Assets Provision for Taxation Loss on Sale of Investment Interest on Debentures To Balance c/f

Amount (Rs.) 2,00,000

Particulars By Balance b/f

40,000 30,000 20,000 10,000 25,000 30,000 15,000 20,000 2,40,000 4,30,000

By Non-current & Non-operating Items Credited: Profit on Sale of Machinery Income from Investment

By Net Fund Flow from Operation (Bal. fig.)

30,000 10,000

1,90,000 4,30,000

Statement showing calculation of Net Cash Flow from operation for the year that ended on 31 March 2007 Rs. Add:

Less:

Net fund flow from Operation for the year (as ascertained in above) Decrease in Operating Current Assets: Stock in Trade Prepaid Expenses Increase in Operating Current Liabilities: Sundry Creditors Outstanding Expenses Increase in Operating Current Assets: Sundry Debtors Bills Receivable Decrease in Operating Current Liabilities: Bills Payable Net Cash Flow from Operation

Rs. 1,90,000

20,000 6,000 24,000 4,000

54,000 2,44,000

28,000 9,000 3,000

40,000 2,04,000

Calculation of Net Cash Flow from Operating Activities as per AS-3

Problem 3 From the following information relating to Y Ltd, calculate the Cash Flow from Operating Activities: Rs. 57,500.00 5,000.00 2,000.00 4,500.00 3,200.00 20,000.00

Operating Profit before Changes in Operating Assets Debtors (Decrease) Stock (Increase) Bills Payable (Decrease) Creditors (Increase) Cash at Bank (Increase)

[B.Com. (Hons), Calcutta University—2006]

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

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Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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CASH FLOW ANALYSIS

Solution Statement showing calculation of Cash Flow from Operating Activities (under Indirect Method) of Y Ltd for the period Rs. Add:

Operating Profit before changes in Operating Assets Increase in Operating Current Liabilities: Creditors Decrease in Operating Current Assets: Debtors

Rs. 57,500

3,200 5,000 8,200 65,700

Less:

Decrease in Operating Current Liabilities: Bills Payable Increase in Operating Current Assets: Stock

4,500 2,000 6,500 59,200

Cash Flows from Operating Activities

Stop and Think As the details of the Profit & Loss A/c for the year is not given in the problem, Net Cash Flow from the Operating Activities is to be calculated following the indirect method, as prescribed in AS-3.

Problem 4 Compute the Net Cash Flow from Operating Activities from the following details, by Indirect Method: Particulars Profit & Loss A/c Debtors Outstanding Rent Goodwill Prepaid Insurance Creditors

2006 Rs. 1,10,000 50,000 24,000 80,000 8,000 26,000

2007 Rs. 1,20,000 62,000 42,000 76,000 4,000 38,000

Solution Calculation of Net Cash Flow from Operating Activities (under Indirect Method) of for the year 2007 Rs. Add:

Add:

Net Profit for the year (Rs. 1,20,000 – Rs. 1,10,000) Adjustment for Non-current & Non-operating Items debited to Profit & Loss A/c: Goodwill written off (80,000 – 76,000) Operating Profit before Working Capital Changes Increase in Operating Current Liabilities: Outstanding Rent Creditors Decrese in Operating Current Assets: Prepaid Insurance

Rs. 10,000

4,000 14,000 18,000 12,000 4,000 34,000 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

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Rs. Less:

Increase in Operating Current Assets: Debtors Decrease in Operating Current Liabilities

Rs. 48,000

12,000 Nil 12,000 60,000

Net Cash Flow from Operating Activities

Problem 5 The following is the position of Current Assets and Current Liabilities of M Ltd: 2006 Rs. 1,000 10,000 15,000 20,000

Particulars Provision for Bad debts Short-term Loan Creditors Bills Receivable

2007 Rs. 3,000 19,000 10,000 40,000

The company incurred a loss of Rs. 45,000 during the year. Calculate the Net Cash Flows from the Operating Activities by Indirect Method. Solution Calculation of Net Cash Flow from Operating Activities (under Indirect Method) of M Ltd for the year 2007 Rs. Add:

Add:

Net Profit for the Year Adjustment for Non-current & Non-operating Items Debited to Profit & Loss A/c: Provision for Bad Debts (Rs. 3,000 – Rs. 1,000) Operating Profit before Working Capital Changes Increase in Operating Current Liabilities: Short-term Loan Decrease in Operating Current Assets

Rs. (45,000)

2,000 (43,000) 9,000 Nil 9,000 (34,000)

Less:

Increase in Operating Current Assets: Bills Receivable Decrease in Operating Current Liabilities: Creditors

20,000 5,000 25,000 (59,000)

Net Cash Flow from Operating Activities Note: Provision for bad debt is a non-cash item and therefore, it is added back to the profit for the year.

Problem 6 From the following, you are required to calculate the Net Cash Flow from the Operating Activities by Indirect Method: Particulars Balance of Profit & Loss A/c Debtors Bills Receivable

31 March 2007 Rs. 60,000 87,000 62,000

31 March 2008 Rs. 65,000 40,000 1,03,000 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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CASH FLOW ANALYSIS

31 March 2007 Rs. 2,02,000 78,000 30,000 5,000 80,000

Particulars General Reserve Dividend Equalization Fund Salary Outstanding Wages Prepaid Goodwill

31 March 2008 Rs. 2,37,000 1,00,000 12,000 7,000 70,000

Solution Calculation of Net Cash Flow from Operating Activities (under Indirect Method) of for the year that ended on 31 March 2008 Rs. Add:

Add:

Add:

Less:

Net Profit for the Year (after Appropriation) (Rs. 65,000 – Rs. 60,000) Appropriation made during the year: Transfer to General Reserve Transfer to Dividend-equalization fund Net Profit before appropriation Adjustment for Non-current & Non-operating Items charged to Profit & Loss A/c: Goodwill written off Operating Profit before Working Capital Changes Increase in Operating Current Liabilities Decrease in Operating Current Assets: Debtors Increase in Operating Current Assets: Bills Receivable Wages Prepaid Decrease in Operating Current Liabilities: Salary outstanding

Rs. 5,000

35,000 22,000

57,000 62,000

10,000 72,000 Nil 47,000

47,000 1,19,000

41,000 2,000 18,000 61,000 58,000

Net Cash Flow from Operating Activities

Working Notes Analysis of Non-current Assets and Liabilities Assets/Liabilities Goodwill General Reserve Dividend Equalization Fund

Opening Balance Rs. 80,000 2,02,000 78,000

Closing Balance Rs. 70,000 2,37,000 1,00,000

Increase/ Decrease Rs. (−) 10,000 (+) 35,000 (+) 22,000

Analysis Goodwill written off Transfer during the year Transfer during the year

Problem 7 X Ltd made a profit of Rs. 1,20,000 after charging a depreciation of Rs. 20,000 on assets and a transfer to general reserve of Rs. 30,000. The goodwill written off was Rs. 7,000 and the gain on sale of machinery was Rs. 3,000. The other information available to you is (changes in the value of Current Assets and Current Liabilities) at the end of the year. Debtors showed an increase of Rs. 6,000, Creditors an increase of Rs. 10,000,

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

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Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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Prepaid Expenses an increase of Rs. 200, Bills Receivable a decrease of Rs. 3,000, Bills Payable a decrease of Rs. 4,000 and Outstanding Expenses a decrease of Rs. 2,000. Ascertain the Net Cash Flow from the Operating Activities. [CBSE Examination—Adapted]

Solution Calculation of Net Cash Flow from Operating Activities (under Indirect Method) of X Ltd for the year Rs. Add:

Less:

Add:

Less:

Net Profit for the year Adjustment for Non-current and Non-operating items Debited to Profit & Loss A/c: Transfer to General Reserve Goodwill written off Depreciation Adjustment for Non-current and Non-operating items credited to Profit & Loss A/c: Gain on Sale of Machinery Operating Profit before Working Capital Changes Increase in Operating Current Liabilities: Creditors Decrease in Operating Current Assets: Bills Receivable Increase in Operating Current Assets: Debtors Prepaid Expenses Decrease in Operating Current Liabilities: Bills Payable Outstanding Expenses Net Cash Flow from Operating Activities

30,000 7,000 20,000

Rs. 30,000

57,000 87,000 3,000 84,000

10,000 3,000

13,000 97,000

6,000 200 4,000 2,000

12,200 84,800

Problem 8 From the following information, calculate the Net Cash Flow from the Operating Activities under indirect method for the year that ended on 31 March 2008: Profit & Loss A/c for the year that ended on 31 March 2008 Dr. Particulars To Loss on Sale of Land To Discount on Issue of Shares written off To Interest on debentures To Depreciation To Goodwill written off To General Reserve To Tax Provision To Proposed Dividend To Interim Dividend To Net Profit

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Rs. 40,000 10,000 18,000 1,20,000 15,000 25,000 30,000 1,80,000 70,000 5,10,000 10,18,000

Particulars By Gross Profit By Interest on Investment By Dividend Received By Profit on Sale of Plant By Rent Received By Refund of Tax By Insurance Claim Received for Earthquake By Commission Receivable

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Cr. Rs. 8,20,000 15,000 18,000 20,000 12,000 8,000 90,000 35,000

10,18,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

CASH FLOW ANALYSIS

215

Additional information: Particulars Debtors Creditors Stock Provision for Tax Accrued Commission Outstanding Wages Prepaid Expenses

31 March 2007 (Rs.) 25,000 15,000 1,40,000 50,000 15,000 20,000 18,000

31 March 2008 (Rs.) 1,00,000 50,000 1,00,000 60,000 30,000 25,000 20,000

Solution Calculation of Net Cash Flow from Operating Activities (under Indirect Method) of for the year that ended on 31 March 2008 Rs. Add:

Less:

Add:

Less:

Less: Add:

Net Profit for the year Adjustment for Non-current and Non-operating Items debited to Profit & Loss A/c: Loss on Sale of Land Discount on Issue of Share Interest on Debentures Goodwill written off Depreciation General Reserve Tax Provision Proposed Dividend Interim Dividend Adjustment for Non-current and Non-operating Items credited to Profit & Loss A/c: Interest on Investment Dividend Received Profit on Sale of Plant Rent Received Refund of Tax Insurance Claim for Earthquake Operating Profit before Working Capital Changes Increase in Operating Current Liabilities: Creditors Outstanding Wages Decrease in Operating Current Assets: Stock Increase in Operating Current Assets: Debtors Accrued Commission Prepaid Expenses Decrease in Operating Current Liabilities Cash Generated from Operation Income Tax Paid (see Working Notes) Net Cash Flow from Operating Activities before Extraordinary Item Extraordinary Income: Insurance Claim for Earthquake Net Cash Flow from Operating Activities

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

40,000 10,000 18,000 15,000 1,20,000 25,000 30,000 1,80,000 70,000

15,000 18,000 20,000 12,000 8,000 90,000

Rs. 5,10,000

5,08,000 10,18,000

1,63,000 8,55,000

35,000 5,000 40,000

75,000 15,000 2,000 Nil

80,000 9,35,000

92,000 8,43,000 20,000 8,23,000 90,000 9,13,000

Rev II

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Working Notes 1.

Provision for Tax Account Cr.

Dr. To Bank – Tax paid for the year (Bal. fig.) To Balance c/f

Rs. 20,000

By Balance b/f By Profit & Loss A/c – Tax provided for the year

60,000 80,000

Rs. 50,000 30,000 80,000

2. Commission received is considered as an income from Operating Activities.

Stop and Think Alternatively, the Net Cash Flow from the Operating Activities could be calculated adding the amount of commission receivable (i.e., Rs. 35,000) as credited to the Profit & Loss A/c with the Gross Profit (i.e., Rs. 8,20,000). But, in such calculation, the proforma for calculating the Net Cash Flow from Operating Activities, under Indirect Method, as prescribed in AS-3 would not have been followed.

Problem 9 From the following information, calculate the Net Cash Flow from the Operating Activities of a concern for the year that ended on 31 March 2007: Cash Sales for the year Credit Sales for the year Collection from Debtors during the year Cash Purchases for the year Credit Purchases for the year Payment to Creditors during the year Wages Paid during the year Outstanding Wages for the year Salaries Paid during the year Salaries for the year General Expenses Paid during the year Unpaid General Expenses for the year Depreciation on Fixed Assets for the year Loss of Stock due to fire Insurance Claim Received against Loss of Stock Interest Received on Investment during the year (of which Rs. 3,000 provided for Interest Income) Payment of Income Tax during the year (of which Rs. 2,000 Paid for Interest Income)

Rs. 1,20,000 6,60,000 4,40,000 80,000 3,25,000 2,40,000 60,000 18,000 30,000 40,000 20,000 6,000 26,000 28,000 10,000 20,000 32,000

Stop and Think As detailed information as regards to cash sales, collection from debtors, cash purchases, payment to creditors, and so on are given in the problem, the Cash Flow from the Operating Activities can be calculated, in this case, following the Direct Method, as prescribed in AS-3 (Revised).

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

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Solution Statement showing computation of Net Cash Flow from Operating Activities (under Direct Method) of a concern for the year that ended on 31 March 2007 Rs. Cash Receipts from Customers: Cash Sales Collection from Debtors

Rs.

1,20,000 4,40,000 5,60,000

Less:

Less: Add:

Cash Paid to Suppliers & Employees: Cash Purchases Payment to Creditors Payment of Wages Payment of Salaries Payment of General Expenses Cash Generated from Operation Payment of Income Tax (for Operating Activities) Cash Flow from Operation before Extraordinary Item Extraordinary Income: Insurance Claim Received against Abnormal Loss of Stock Net Cash Flow from Operating Activities

80,000 2,40,000 60,000 30,000 20,000

4,30,000 1,30,000 30,000 1,00,000 10,000 90,000

Tutorial Note Interest received on investment is not an operating income (rather investing income) and that is why, it is not considered while calculating the Cash Flow from Operating Activities. Due to the same reason, income tax paid on such income is not taken into consideration.

Problem 10 From the following information, calculate the Net Cash Flow from the Operating Activities of P Ltd for the year that ended on 31 March 2007. Profit & Loss A/c for the year that ended on 31 March 2007 Dr.

Cr. Rs.

To Opening Stock To Purchases: Cash Credit To Wages: Paid Outstanding To Salaries: Paid Outstanding To Rent Paid To Depreciation on Assets To Preliminary Expenses written off To Provision for Taxation To Net Profit for the year

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

40,000 1,70,000 55,000 5,000 25,000 2,000

Rs. 43,000

Rs. By Sales: Cash Credit

2,10,000 By Closing Stock By Dividend from Investment

Rs.

70,000 3,42,000 4,12,000 35,000 12,000

60,000

27,000 5,000 18,000 10,000 43,000 43,000 4,59,000

Output Date: Tue, Jul 06, 2010 11:46:14 AM

4,59,000

Rev II

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Additional information: i. Balance of debtors and creditors were as follows: 1 April 2006 Rs. 44,000 45,000

Debtors Creditors

31 March 2007 Rs. 56,000 40,000

ii. Tax paid during the year amounted to Rs. 40,000. Stop and Think As details of the Profit & Loss A/c along with the opening and closing debtors’ and creditors’ balances are given in the problem, the Cash Flow from the Operating Activities, in this case, can be computed by following both Direct Method as well as Indirect Method, as prescribed in AS-3.

Solution i. Under Direct Method: Statement showing computation of Net Cash Flow from Operating Activities (under Direct Method) of P Ltd for the year that ended on 31 March 2007 Rs. Cash Receipts from Customers: Cash Sales Collection from Debtors (1)

Rs.

70,000 3,30,000 4,00,000

Less:

Less:

Cash Paid to Suppliers & Employees: Cash Purchases Payment to Creditors (2) Payment of Wages Payment of Salaries Payment of Rent Cash Generated from Operation Payment of Income Tax Net Cash Flow from Operating Activities

40,000 1,75,000 55,000 25,000 5,000

3,00,000 1,00,000 40,000 60,000

Working Notes 1. Dr. To Balance b/f To Sales – Credit

Debtors Account Rs. 44,000 By Bank – Collection (Bal. fig.) 3,42,000 By Balance c/f 3,86,000

Cr. Rs. 3,30,000 56,000 3,86,000

Creditors Account Rs. 1,75,000 By Balance b/f 40,000 By Purchases – Credit 2,35,000

Cr. Rs. 45,000 1,70,000 2,35,000

2. Dr. To Bank – Payment (Bal. fig.) To Balance c/f

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

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ii. Under Indirect Method: Statement showing computation of Net Cash Flow from Operating Activities (under Indirect Method) of P Ltd for the year that ended on 31 March 2007 Rs. Net Profit as per Profit & Loss A/c Add:

Less:

Add:

Less:

Less:

Non-operating & Non-current items Charged to Profit & Loss: Depreciation on Fixed Assets Preliminary Expenses written off Provision for Taxation Non-operating & Non-current Items Credited to Profit & Loss: Dividend from Investment Operating Profit before Working Capital Changes Increase in Operating Current Liabilities: Outstanding Wages Outstanding Salaries Decrease in Operating Current Assets: Stock Increase in Operating Current Assets: Debtors Decrease in Operating Current Liabilities: Creditors Cash Generated from Operation Payment of Income Tax Net Cash Flow from Operating Activities

18,000 10,000 43,000

Rs. 43,000

71,000 1,14,000 12,000 1,02,000

5,000 2,000 8,000

15,000 1,17,000

12,000 5,000

17,000 1,00,000 40,000 60,000

Problem 11 From the following particulars, calculate the Net Cash Flow from the Operating Activities of R Ltd for the year that ended on 31 March 2007: Rs. Balance of Profit & Loss A/c: As on 31 March 2007 As on 31 March 2006 Appropriation of Profit for the year 2006–07: Transfer to General Reserve Proposed Dividend Expenses and Losses for the year 2006–07: Interest on Debentures Depreciation on Fixed Assets Wages & Salaries Provision for Taxation Goodwill written off Loss on Sale of Machinery Incomes and Gains for the year 2006–07: Profit on Sale of Furniture Income from Investment Expenses Paid during the year 2006–07: Interest on Debentures Wages & Salaries Income Tax (of which Rs. 3,000 for Non-operating Income)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

3,98,000 2,72,000 24,000 20,000 16,000 18,000 37,000 40,000 14,000 12,000 13,000 7,000 18,000 39,000 53,000

Rev II

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Balances of Current Assets and Current Liabilities were as follows: As on 31 March 2006 (Rs.) 34,000 31,000 47,000 9,000 8,000 19,000 3,000

Sundry Debtors Sundry Creditors Stock in Trade Bills Receivable Bills Payable Cash & Bank Accrued Income from Investment

As on 31 March 2007 (Rs.) 62,000 48,000 43,000 7,000 3,000 36,000 4,000

Stop and Think As neither the details of Profit & Loss A/c for the year 2006–07 (i.e., cash sales, credit sales, cash purchases, credit purchases) are given in the problem, nor these can be ascertained out of the given information, the Cash Flow from the Operating Activities, in this case, cannot be computed by following the Direct Method, as prescribed in AS-3. So, this problem is to be solved following the indirect method, as prescribed in AS-3.

Solution Statement showing computation of Net Cash Flow from Operating Activities (under Indirect Method) of R Ltd for the year that ended on 31 March 2007

Less: Add:

Less:

Add:

Less:

Less:

Net Profit after Appropriation for the year: Balance of Profit & Loss A/c as on 31 March 2007 Balance of Profit & Loss A/c as on 31 March 2006 Non-operating and Non-current Items debited to Profit & Loss A/c: Transfer to General Reserve Proposes to Dividend Interest on Debentures Depreciation on Fixed Assets Provision for Taxation Goodwill written off Loss on Sale of Machinery Non-operating and Non-current Items Credited to Profit & Loss A/c: Profit on Sale of Furniture Income from Investment Operating Profit before Working Capital Changes Increase in Operating Current Liabilities: Sundry Creditors Decrease in Operating Current Assets: Bill Receivable Stock in Trade Increase in Operating Current Assets: Sundry Debtors Decrease in Operating Current Liabilities: Bills Payable Cash Generated from Operation Income Tax Paid for Operating Income (Rs. 53,000 – Rs. 3,000) Net Cash Flow from Operating Activities

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rs.

Rs.

3,98,000 2,72,000

1,26,000

24,000 20,000 16,000 18,000 40,000 14,000 12,000

13,000 7,000

1,44,000 2,70,000

20,000 2,50,000

17,000 2,000 4,000

23,000 2,73,000

28,000 5,000

33,000 2,40,000 50,000 1,90,000

Rev II

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221

Tutorial Note i. As accrued income on investment is a non-operating current asset, it is not considered for calculating ‘Net Cash Flow from Operating Activities.’ ii. Income tax paid against operating income alone is deducted for calculating the ‘Net Cash Flow from the Operating Activities.’ iii. As Wages and Salaries are operating expenses, these are not added back.

Calculation of Net Cash Flow from Investing Activities as per AS-3. Problem 12 From the following information, calculate the Net Cash Flow from Investing Activities: Opening (Rs.) 4,00,000 1,00,000 2,80,000

Particulars Machinery (at Cost) Accumulated Depreciation Patents

Closing (Rs.) 4,20,000 1,10,000 1,60,000

Additional information: i. During the year, a machine costing Rs. 40,000 with an accumulated depreciation of Rs. 24,000 was sold for Rs. 20,000. ii. Patents were written off to the extent of Rs. 40,000 and some patents were sold at a profit of Rs. 20,000. Solution Calculation of Net Cash Flow from Investing Activities of ______________ for the period ______________

Less:

Inflows of Cash: Proceeds Received from Sale of Machinery Proceeds Received from Sale of Patents3 Outflows of cash: Purchase of Machinery1 Net Cash Flow from Investing Activities

Rs.

Rs.

20,000 1,00,000

1,20,000 60,000 60,000

Working Notes 1. Dr. To Balance b/f

To Profit & Loss A/c – Profit on Sale of Machinery [Rs. 20,000 – (Rs. 40,000 – Rs. 24,000)] To Bank – Purchase (Bal. fig.)

Machinery (at Cost) Account Rs. 4,00,000 By Provision for Depreciation A/c2 – Accumulated Depreciation on machine sold 4,000 By Bank—Sale proceeds

60,000 4,64,000

By Balance c/f

Cr. Rs. 24,000

20,000

4,20,000 4,64,000 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

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2. Dr. To Machinery A/c – Accumulated Depreciation on machine Sold & Transferred To Balance c/f

Provision for Depreciation Account Rs. 24,000 By Balance b/f By Profit & Loss A/c – Depreciation for the year (Bal. fig.) 1,10,000 1,34,000

Cr. Rs. 1,00,000 34,000

1,34,000

3. Dr.

Patents Account Rs. 2,80,000 By Profit & Loss A/c – Written off 20,000 By Bank – Sale proceeds of patents (Bal. fig.) By Balance c/f 3,00,000

To Balance b/f To Profit & Loss A/c – Profit on Sale of Patents

Cr. Rs. 40,000 1,00,000 1,60,000 3,00,000

Problem 13 From the following particulars, calculate the Cash Flow from Investing Activities of Miser Ltd for the year 2007: Purchased Rs. 1,80,000 2,00,000 4,40,000 –

Investments Goodwill Machinery Patents

Sold Rs. 1,00,000 – 1,50,000 1,00,000

Interest received on debentures held as an investment – Rs. 16,000. Dividend received on shares held as investments – Rs. 20,000. A plot of land was purchased out of surplus funds for investment purchases and was let out for commercial use and the rent received was Rs. 80,000. Solution Calculation of Net Cash Flow from the Investing Activities of Miser Ltd for the year 2007 Rs. Inflows of Cash: Sale Proceeds of Investments Sale Proceeds of Machinery Sale Proceeds of Patents Interest Received from Investments Dividend Received from Investments Rent Received from Land

Rs.

1,00,000 1,50,000 1,00,000 16,000 20,000 80,000 4,66,000

Less:

Outflows of Cash: Purchase of Investments Purchase of Goodwill Purchase of Machinery Net Cash Flow from Investing Activities

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

1,80,000 2,00,000 4,40,000 8,20,000 (3,54,000)

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Calculation of Net Cash Flow from Financing Activities as per AS-3 Problem 14 From the following information, as furnished by Arzoo Ltd, calculate its Net Cash Flow from the Financing Activities for the year that ended on 31 March 2008: 31 March 2007 Rs. 3,00,000 2,00,000 2,00,000

Equity Share Capital Preference Share Capital Debentures

31 March 2008 Rs. 5,00,000 1,00,000 2,50,000

During the year 2007–08, debentures of Rs. 1,00,000 were redeemed for cash and debenture interest paid was Rs. 30,000. Preference Dividend paid was Rs. 20,000 and equity dividend paid was Rs. 40,000. Solution Calculation of Net Cash Flow from the Financing Activities of Arzoo Ltd, for the year that ended on 31 March 2008 Rs. Inflows of Cash: Proceeds Received from Issue of Equity Shares Proceeds Received from Issue of Debentures

Rs.

2,00,000 1,50,000 3,50,000

Less:

Outflows of Cash: Redemption of Preference Shares Redemption of Debentures Payment of Debentures’ Interest Payment of Preference Dividend Payment of Equity Dividend

1,00,000 1,00,000 30,000 20,000 40,000 2,90,000 60,000

Net Cash Flow from Financing Activities

Working Notes 1. Dr.

Debentures Account Rs. 1,00,000 By Balance b/f 2,50,000 By Bank – New Issue (Bal. fig.) 3,50,000

To Bank – Redeemed To Balance c/f

Cr. Rs. 2,00,000 1,50,000 3,50,000

2. Analysis of other Non-current Liabilities Liabilities Equity Share Capital Preference Share Capital

Opening Balance Rs. 3,00,000 2,00,000

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Closing Balance Rs. 5,00,000 1,00,000

Increase/ Decrease Rs. (+)2,00,000 (−)1,00,000

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Analysis New Issue of Equity Shares Redemption of Preference Shares

Rev II

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Problem 15 From the following particulars as furnished by Lava Ltd, calculate its Net Cash Flow from the Financing Activities for the year that ended on 31 March 2008: 31 March 2007 Rs. 3,00,000 2,00,000 2,00,000 80,000 36,000 6,000

Equity Share Capital Preference Share Capital Debentures Long-term Loan Proposed Dividend (Equity) Outstanding Interest on Debentures

31 March 2008 Rs. 5,00,000 2,00,000 1,50,000 1,50,000 50,000 5,000

During the year 2007–08, the following events took place: Rs. 1,00,000 1,00,000 50,000 20,000 10,000 15,000

New Issue of Preference Shares at 10% discount New Issue of Debentures at 20% Discount Repayment of Long-term Loan Payment of Preference Dividend Payment of Interest on long-term Loan Interim Equity Dividend paid during the year in addition to proposed Dividend Interest on Debentures for the year New Equity Shares were issued at 10% Premium

24,000

Solution Calculation of Net Cash Flow from the Financing Activities for the year that ended on 31 March 2008 Rs.

Less:

Inflows of Cash: Proceeds Received from new Issue of Equity Shares1 Proceeds Received from new Issue of Preference Shares Proceeds Received from new Issue of Debentures Raising of long-term Loan4 Premium Received on new Issue of Equity Shares (10% on Rs. 2,00,000) Outflows of Cash: Redemption of Preference Shares2 Redemption of Debentures3 Repayment of Long-term Loan Payment of Preference Dividend Payment of Proposed Equity Dividend6 Payment of Interim Equity Dividend Payment of Interest on Debentures5 Payment of Interest on Long-term Loan Net Cash Flow from Financing Activities

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rs.

2,00,000 90,000 80,000 1,20,000 20,000 5,10,000 1,00,000 1,50,000 50,000 20,000 36,000 15,000 25,000 10,000

4,06,000 1,04,000

Rev II

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225

Working Notes 1. Dr.

To Balance c/f

Equity Share Capital Account Rs. By Balance b/f 5,00,000 By Bank – New Issue of Shares (Bal. fig.) 5,00,000

Cr. Rs. 3,00,000 2,00,000 5,00,000

2. Dr. To Bank – Redeemed (Bal. fig.)

To Balance c/f

Preference Share Capital Account Rs. 1,00,000 By Balance b/f By Bank – proceeds received from new issue of shares 2,00,000 By Discount on Issue of Shares A/c 3,00,000

Cr. Rs. 2,00,000 90,000 10,000 3,00,000

3. Dr. To Bank – Redeemed (Bal. fig.) To Balance c/f

Debentures Account Rs. 1,50,000 By Balance b/f By Bank – proceeds received from new issue 1,50,000 By Discount on Issue of Debentures 3,00,000

Cr. Rs. 2,00,000 80,000 20,000 3,00,000

4. Dr. To Bank – Repayment To Balance c/f

Long-term Loan Account Rs. 50,000 By Balance b/f 1,50,000 By Bank – Long-term Loan raised (Bal. fig.) 2,00,000

Cr. Rs. 80,000 1,20,000 2,00,000

5. Dr. To Bank – Interest Paid during the year (Bal. fig.) To Balance c/f

Interest on Debentures Account Rs. By Balance b/f 25,000 5,000 By Profit & Loss A/c – Interest Payable for the year 30,000

Cr. Rs. 6,000 24,000 30,000

6. Dr. To Bank – Dividend proposed in 2006–07 & paid in 2007–08 To Balance c/f

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Proposed Equity Dividend Account Rs. By Balance b/f 36,000 50,000 By Profit & Loss Appropriation A/c – Dividend proposed for 2007–08 86,000

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Cr. Rs. 36,000

50,000 86,000

Rev II

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Preparation of Cash Flow Statement under Traditional/Conventional approach Problem 16 From the following particulars, prepare a Cash Flow Statement for the year that ended on 31 December 2007: Assets on 31 December 2006 Fixed Assets Cash in Hand Other Current Assets

Rs. 75,000 11,000 74,000

Liabilities on 31 December 2006 Bank Loan Trade Creditors Capital

Rs. 25,000 52,000 83,000

The Balance of Assets and Liabilities as on 31 December 2007 were as follows: Rs. 1,05,000 2,000 92,000

Fixed Assets Cash in Hand Other Current Assets

Bank Loan Trade Creditors Capital

Rs. 10,000 76,000 1,13,000

During the year 2007, the proprietor of the business withdrew Rs. 31,000 from the business and invested a further capital of Rs. 40,000 and also provided Rs. 15,000 as depreciation on Fixed Assets. Solution Cash Flow Statement of ______________ for the year that ended on 31 December 2007 Inflow of Cash Opening Cash Balance Add: Inflows of cash: Introduction of Fresh Capital Net Cash Flow from Operation4

Amount Rs. 11,000 40,000 42,000

Outflow of Cash Outflows of cash: Repayment of Bank Loan1 Purchase of Fixed Assets2 Proprietors’ Drawings Closing Cash Balance

93,000

Amount Rs. 15,000 45,000 31,000 2,000 93,000

Working Notes 1. Dr. To Bank – Repayment (Bal. fig.) To Balance c/f

Bank Loan Account Rs. 15,000 By Balance b/f 10,000 25,000

Cr. Rs. 25,000 25,000

2. Dr. To Balance b/f To Bank – Purchase (Bal. fig.)

Fixed Asset Account Rs. 75,000 By Profit & Loss A/c – Depreciation 45,000 By Balance c/f 1,20,000

Cr. Rs. 15,000 1,05,000 1,20,000

3. Dr. To Bank – Drawings To Balance c/f

Capital Account Rs. 31,000 By Balance b/f By Bank – Further capital invested 1,13,000 By Profit & Loss A/c – Net Profit for the year transferred (Bal. fig.) 1,44,000

Cr. Rs. 83,000 40,000 21,000 1,44,000 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

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4. Calculation of Net Cash Flow from operation Rs. 21,000

Net Profit for the Year3 Non-operating and Non-current items charged to Profit & Loss A/c: Depreciation on Fixed Assets Fund from operation Increase in Operating Current Liabilities: Trade creditors (Rs. 76,000 – Rs. 52,000)

Add:

Add:

Less:

15,000 36,000 24,000 60,000

Increase in Operating Current Assets: Other Current Assets (Rs. 92,000 – Rs. 74,000) Net Cash Flow from Operation

18,000 42,000

Problem 17 Balance Sheets of Bhaskar & Soumya Co. are given as follows: Liabilities Current Liabilities Loan from Bhaskar Bank Loan Capital

Year 1999 Rs. 2,40,000 – 3,20,000 9,60,000

Year 2000 Rs. 2,80,000 1,20,000 2,90,000 10,00,000

15,20,000

16,90,000

Assets Cash Debtors Stock Land Building Machinery

Year 1999 Rs. 30,000 2,50,000 1,90,000 2,00,000 3,70,000 4,80,000 15,20,000

Year 2000 Rs. 20,000 2,70,000 1,60,000 2,50,000 4,40,000 5,50,000 16,90,000

During the year 2000, Bhaskar & Soumya introduced an additional capital of Rs. 20,000 and drew Rs. 60,000. Provision for depreciation on machinery: Opening Balance—Rs. 2,00,000 and Closing Balance—Rs. 2,20,000. No depreciation was provided on other assets. The value of building was increased by Rs. 25,000 and the same was adjusted with the capital account. Prepare the Cash Flow Statement of Bhaskar & Soumya Co. for the year 2000. [B.Com. (Hons), Calcutta University—2002] Solution Cash Flow Statement of Bhaskar & Soumya Co. for the year that ended on 31 December 2000 Inflow of Cash Opening Cash Balance Add: Inflow of Cash: Loan taken from Bhaskar1 Introduction of additional capital6 Net Cash Flow from Operation7

Amount Rs. 30,000 1,20,000 20,000 1,25,000

Outflow of Cash Outflow of Cash: Partner’s drawings Repayment of Bank Loan2 Purchase of Land3 Purchase of Machinery5 Construction of Building4 Closing Cash Balance

2,95,000

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Amount Rs. 60,000 30,000 50,000 90,000 45,000 20,000 2,95,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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Working Notes 1. Dr.

To Balance c/f

Loan from Bhaskar Rs. By Balance b/f 1,20,000 By Bank – Loan taken (Bal. fig.) 1,20,000

Cr. Rs. Nil 1,20,000 1,20,000

2. Dr. To Bank – Repayment (Bal. fig.) To Balance c/f

Bank Loan Account Rs. 30,000 By Balance b/f 2,90,000 3,20,000

Cr. Rs. 3,20,000 3,20,000

3. Dr. To Balance b/f To Bank – Purchase (Bal. fig.)

Land Account Rs. 2,00,000 50,000 By Balance c/f 2,50,000

Cr. Rs. 2,50,000 2,50,000

4. Dr. To Balance b/f To Capital A/c – Revaluation To Bank – Construction of building (Bal. fig.)

Building Account Rs. 3,70,000 25,000 By Balance c/f 45,000 4,40,000

Cr. Rs.

4,40,000 4,40,000

5. Dr. To Balance b/f To Bank – Purchase (Bal. fig.)

Machinery Account Rs. 4,80,000 By Profit & Loss A/c – Depreciation for the year (Rs. 2,20,000 – Rs. 2,00,000) 90,000 By Balance c/f 5,70,000

Cr. Rs. 20,000 5,50,000 5,70,000

6. Dr. To Bank – Drawings

To Balance c/f

Partners’ Capital Account Rs. 60,000 By Balance b/f By Bank – Introduction of additional capital By Building A/c – Profit on Revaluation 10,00,000 By Profit & Loss A/c – Profit for the year transferred (Bal. fig.) 10,60,000

Cr. Rs. 9,60,000 20,000 25,000 55,000 10,60,000 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

CASH FLOW ANALYSIS

229

7. Calculation of Net Cash Flow from Operation Rs. Net Profit for the Year Non-current and Non-operating Items Charged to Profit & Loss A/c: Depreciation on Machinery Fund from Operation Increase in Operating Current Liabilities: Current Liabilities Decrease in Operating Current Assets: Stock

Add:

Add:

Less:

Rs. 55,000 20,000 75,000

40,000 30,000

Increase in Operating Current Assets: Debtors Net Cash Flow from Operation

70,000 1,45,000 20,000 1,25,000

Problem 18 From the following information, prepare the Cash Flow Statement for the year that ended on 31 March 2008: Balance Sheets as on ______________ Liabilities Share Capital Profit & Loss A/c Bank Loan Creditors Bills Payable

As on 31 March 2007 Rs. 1,50,000 20,000 1,50,000 80,000 50,000 4,50,000

As on 31 March 2008 Rs. 1,75,000 80,000 50,000 95,000 40,000 4,00,000

Assets Land & Building Machinery Stock Debtors Cash

As on 31 March 2007 Rs. 1,10,000 2,00,000 50,000 70,000 20,000 4,50,000

As on 31 March 2008 Rs. 1,50,000 1,40,000 45,000 80,000 25,000 4,00,000

Additional Information: i. Net Profit for the year 2007–08 amounted to Rs. 60,000. ii. During the year 2007–08, a machine costing Rs. 25,000 (accumulated depreciation was Rs. 10,000) was sold for Rs. 13,000. The provision for depreciation against machinery as on 31 March 2007 was Rs. 50,000 and on 31 March 2008 was Rs. 85,000. [B.Com. (Hons), Calcutta University—Adapted] Solution Cash Flow Statement of ______________ for the year that ended on 31 March 2008 Sources of Cash Opening Cash Balance Add: Inflow of Cash: Fresh Issue of Shares Sale proceeds of Machinery Net Cash Flow from Operation

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Amount Rs. 20,000 25,000 13,000 1,07,000 1,65,000

Applications of Cash Outflow of Cash: Repayment of Bank Loan Purchase of Land & Building Closing Cash Balance

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Amount Rs. 1,00,000 40,000 25,000 1,65,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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Working Notes 1. Dr.

Cr.

Share Capital Account Rs.

To Balance c/f

By Balance b/f By Bank – Fresh Issue of Shares (Bal. fig.)

1,75,000 1,75,000

Rs. 1,50,000 25,000 1,75,000

2. Dr.

Cr.

Bank Loan Account

To Cash – Repayment (Bal. fig.) To Balance c/f

Rs. 1,00,000 50,000 1,50,000

Rs. 1,50,000

By Balance b/f

1,50,000

3. Dr.

Cr.

Land & Building Account

To Balance b/f To Cash – Purchase (Bal. fig.)

Rs. 1,10,000 40,000 1,50,000

Rs. By Balance c/f

1,50,000 1,50,000

4. Dr.

Cr.

Machinery Account

To Balance b/f

Rs. 2,00,000

By Cash – Sale proceeds By Profit & Loss A/c – Loss on sale of Machinery [(25,000 – 10,000) – 13,000] By Profit & Loss A/c – Depreciation for this year [85,000 – (50,000 – 10,000)] By Balance c/f

2,00,000

Rs. 13,000 2,000 45,000 1,40,000 2,00,000

5. Calculation of Net Cash Flow from Operation Rs. Add:

Add:

Net Profit for the year Non-current & Non-operating Items Charged to Profit & Loss A/c: Loss on Sale of Machinery Depreciation on Machinery Fund from operation Increase in Operating Current Liabilities: Creditors Decrease in Operating Current Assets: Stock

Rs. 60,000

2,000 45,000 47,000 1,07,000 15,000 5,000 20,000 1,27,000

Less:

Decrease in Operating Current Liabilities: Bills Payable Increase in Operating Current Assets: Debtors Net Cash Flow from Operation

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

10,000 10,000 20,000 1,07,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

CASH FLOW ANALYSIS

231

Problem 19 Prepare a Cash Flow Statement of Kawali Ltd for the year that ended on 31 December 2007 from the following particulars: Balance Sheets as on ______________ Liabilities Equity Share Capital 10% Preference Share Capital Profit & Loss A/c 12% Debenture Creditors Proposed Dividend Provision for Taxation

31 December 2006 Rs. 1,00,000 1,00,000 2,00,000 1,00,000 30,000 20,000 1,10,000

31 December 2007 Rs. 2,00,000 1,20,000 3,00,000 80,000 20,000 30,000 50,000

6,60,000

8,00,000

Assets Goodwill Building Machinery Stock Debtors Bank Preliminary expenses

31 December 2006 Rs. 1,00,000 2,00,000 1,00,000 80,000 1,20,000 50,000

31 December 2007 Rs. 80,000 3,20,000 1,52,000 70,000 1,50,000 20,000

10,000 6,60,000

8,000 8,00,000

Additional Information: i. A building having a book value of Rs. 20,000 was sold for Rs. 30,000. Depreciation on the building provided for 2007 was Rs. 40,000. ii. A machinery having a book value of Rs. 35,000 was sold for Rs. 30,000. Depreciation provided on machinery for the year 2007 amounted to Rs. 25,000. iii. Tax paid during the year 2007 was Rs. 90,000. iv. 12% debentures were redeemed at 10% premium. Solution Cash Flow Statement of Kawali Ltd for the year that ended on 31 December 2007 Sources of Cash Opening Bank balance Add: Inflow of Cash: Proceeds Received from Issue of Equity Shares Proceeds Received from Issue of Preference Shares Sale proceeds of Building Sale proceeds of Machinery Net Cash Flow from Operation

Amount Rs. 50,000

1,00,000 20,000 30,000 30,000 2,14,000 4,44,000

Applications of Cash Outflow of Cash: Redemption of debentures Payment of Dividend Payment of Tax Purchase of Building Purchase of Machinery Closing Bank Balance

Amount Rs. 22,000 20,000 90,000 1,80,000 1,12,000 20,000 4,44,000

Working Notes 1. Analysis of Non-current Assets and Liabilities (against which there is no adjustment) Assets/Liabilities Equity Share Capital Preference Share Capital Goodwill Preliminary Expenses

Closing Balance Rs. 2,00,000(Cr.) 1,20,000(Cr.) 80,000(Dr.) 8,000(Dr.)

Opening Balance Rs. 1,00,000(Cr.) 1,00,000(Cr.) 1,00,000(Dr.) 10,000(Dr.)

Increase/ Decrease Rs. (+) 1,00,000 (+) 20,000 (−) 20,000 (−) 2,000

Analysis Fresh issue Fresh issue Written off against Profit & Loss A/c Written off against Profit & Loss A/c (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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2. Dr.

Building Account Rs. 2,00,000 By Bank – Sale proceeds 10,000 By Profit & Loss A/c – Depreciation

To Balance b/f To Profit & Loss A/c – Profit on Sale (30,000 – 20,000) To Bank – Purchase (Bal. fig.)

1,80,000 3,90,000

By Balance c/f

Cr. Rs. 30,000 40,000 3,20,000 3,90,000

3. Dr.

Machinery Account Rs. 1,00,000 By Bank – Sale proceeds 1,12,000 By Profit & Loss A/c – Loss on sale (35,000 – 30,000) By Profit & Loss A/c – Depreciation By Balance c/f 2,12,000

To Balance b/f To Bank – purchase (Bal. fig.)

Cr. Rs. 30,000 5,000 25,000 1,52,000 2,12,000

4. Dr. To Bank – Redeemed (20,000 + 10%)

To Balance c/f

12% Debenture Account Rs. 22,000 By Balance b/f By Profit & Loss A/c – Premium Paid on redemption adjusted 80,000 (10% on Rs. 20,000) 1,02,000

Cr. Rs. 1,00,000 2,000 1,02,000

5. Dr. To Bank – Dividend Proposed in 2006 & Paid in 2007

Proposed Dividend Account Rs. 20,000 By Balance b/f By Profit & Loss A/c – Dividend proposed for 2007

By Balance c/f

30,000 50,000

Cr. Rs. 20,000 30,000

50,000

6. Dr. To Bank – Tax Paid To Balance c/f

Provision for Taxation Account Rs. 90,000 By Balance b/f 50,000 By Profit & Loss A/c – Provision made in 2007 (Bal. fig.) 1,40,000

Cr. Rs. 1,10,000 30,000 1,40,000

7. Dr. To Depreciation on Building To Depreciation on Machinery To Loss on Sale of Machinery

Profit & Loss A/c Rs. 40,000 By Balance b/f 25,000 By Profit on Sale of building 5,000 By Fund from Operation (Bal. fig.)

Cr. Rs. 2,00,000 10,000 2,44,000 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

CASH FLOW ANALYSIS

Dr. To Premium Paid on Redemption of Debentures To Proposed Dividend To Provision for Taxation To Goodwill written off To Preliminary Expenses written off To Balance c/f

233

Cr.

Profit & Loss A/c Rs. 2,000

Rs.

30,000 30,000 20,000 2,000 3,00,000 4,54,000

4,54,000

8.

Add:

Less:

Calculation of Net Cash Flow from Operation Fund from Operation Increase in Operating Current Liabilities Decrease in Operating Current Assets: Stock Increase in Operating Current Assets: Debtors Decrease in Operating Current Liabilities: Creditors Net Cash Flow from Operation

Rs.

Rs. 2,44,000

Nil 10,000

10,000 2,54,000

30,000 10,000

40,000 2,14,000

Stop and Think i. Here, workings for Non-current Assets and Liabilities are done in two forms. Non-current Assets and liabilities against which there is no adjustment are collectively shown under a single working in a statement form (Working Note 1). For Non-current Assets and Liabilities against which there are adjustments, separate accounts are opened for each of them. Students are advised to follow this type of working for the examination purpose to save time. ii. A premium paid on the redemption of debenture was definitely written off ; otherwise, it would have appeared in the asset side of the Balance Sheet as on 31 December 2007. As there was no securities premium, it was written off against Profit & Loss A/c. Under Working Note – 4, the adjustment of the premium paid on redemption against Profit & Loss A/c is shown in debenture account for avoiding the hazard of opening another account. A separate account for premium on redemption of debentures could have been opened alternatively. Preparation of Cash Flow Statement as per AS-3

Tutorial Note There are two methods of preparation of Cash Flow Statement as per AS-3, namely, Direct Method and Indirect Method. If, in the problem, the details of Profit & Loss A/c for the relevant year along with the Balance Sheets of the relevant year and its proceeding year are given, then the Cash Flow Statement may be prepared following either of the two methods (i.e., Direct Method or Indirect Method) as recommended in AS-3. But if, in the problem, only the Balance Sheets of two consecutive years along with some additional information are given (i.e., where the details of the Profit & Loss A/c are not given in the problem), then the Cash Flow Statement is to be prepared following the Indirect Method only as recommended in AS-3.

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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Problem 20 From the following information, prepare a Cash Flow Statement as on 31 December 2007 applying the method given in AS-3: Balance Sheets as on ______________ Liabilities Share Capital Profit & Loss A/c Loan from IDBI Creditors Proposed Dividend

31 December 2006 Rs. 40,000 13,000

31 December 2007 Rs. 45,000 25,000

20,000 15,000 2,000

10,000 21,000 5,000

90,000

1,06,000

Assets

Less:

Fixed Assets at cost Provision for Depreciation

31 December 2006 Rs. 45,000 10,000 35,000 20,000 30,000 5,000 90,000

Inventory Debtors Cash

31 December 2007 Rs. 50,000 15,000 35,000 30,000 35,000 6,000 1,06,000

There was no disposal of Fixed Assets. Tax paid on 30 June 2007 amounted to Rs. 3,000.

Guidance Note As the details of the Profit & Loss A/c for the year that ended on 31 December 2007 is not given in the problem, the Cash Flow Statement for the same is to be prepared, following the Indirect Method, as recommended in AS-3.

Solution Cash Flow Statement (under Indirect Method) of ______________ for the year that ended on 31 December 2007 Rs. A. Cash Flows from Operating Activities: Net Profit for the year (Rs. 25,000 – Rs. 13,000) Add: Adjustment for Non-operating & Non-current items debited to Profit & Loss A/c: Proposed Dividend Depreciation for the Year Tax Less:

Add:

Less:

Adjustment for Non-operating & Non-current items credited to Profit & Loss A/c Operating profit before Working Capital changes (i.e., Fund from operation) Increase in Operating Current Liabilities: Creditors Decrease in Operating Current Assets Decrease in Operating Current Liabilities Increase in Operating Current Assets: Inventory Debtors Cash generated from operation

Rs.

Rs.

12,000

5,000 5,000 3,000

13,000 25,000 Nil 25,000

6,000 Nil

6,000 31,000

Nil 10,000 5,000

15,000 16,000 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

235

CASH FLOW ANALYSIS

Rs. Less:

Income Tax Paid Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Fixed Assets & Investments Less: Purchase of Fixed Assets & Investments Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities Proceeds Received from Issue of Shares Less: Repayment of Loan from IDBI Payment of Dividend Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the Begining of the year Cash & Cash Equivalents at the end of the year

Rs. 3,000

Rs. 13,000

Nil 5,000 (5,000) 5,000 10,000 2,000

12,000 (7,000) 1,000 5,000 6,000

Working Notes 1. Analysis of Non-current Assets and Liabilities (against which there is no adjustment) Opening Balance Rs. 40,000 13,000 20,000 45,000 10,000

Assets/Liabilities Share Capital Profit & Loss A/c Loan from IDBI Fixed Assets (at cost) Provision for Depreciation on Fixed Assets

Closing Balance Rs. 45,000 25,000 10,000 50,000 15,000

Increase/ Decrease Rs. (+) 5,000 (+) 12,000 (−) 10,000 (+) 5,000 (+) 5,000

Analysis Fresh Issue Net Profit for the year Repayment of Loan Purchase of Fixed Assets Depreciation provided for the year

2. Dr. To Bank – Dividend proposed in 2006 & Paid in 2007 To Balance c/f

Cr.

Proposed Dividend Account Rs. 2,000 By Balance b/f

Rs. 2,000

5,000

5,000

By Profit & Loss A/c – Dividend proposed for 2007

7,000

7,000

3. Dr.

Cr.

(Income) Tax Account Rs. 3,000 3,000

To Bank – Tax Paid in 2007

By Profit & Loss A/c – Tax Paid in 2007 charged

Rs. 3,000 3,000

Problem 21 Balance Sheet of R Ltd (Rs. in ’000) Liabilities Share Capital Reserve Profit & Loss A/c

As on 31 March 2007 1,000 200 100

As on 31 March 2006 800 150 60

Assets Machinery Building Investment

As on 31 March 2007 700 600 100

As on 31 March 2006 500 400 – (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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MANAGEMENT ACCOUNTING

Liabilities Debentures Tax Provision Proposed Dividend Sundry Creditors

As on 31 March 2007 200 100 200 700 2,500

As on 31 March 2006 – 70 100 820 2,000

As on 31 March 2007 500 400 200

Assets Debtors Stock Cash & Bank

2,500

As on 31 March 2006 700 200 200 2,000

Additional Details: i. Building is still under construction and no depreciation was charged. ii. Depreciation was charged @ 25% on the opening value of machinery. iii. An old machine costing Rs. 50,000 was sold for Rs. 35,000 (Written Down Value [WDV]—Rs. 20,000). iv. Income tax paid during the year—Rs. 50,000. Prepare a Cash Flow Statement as per AS-3 and interpret it. [B.Com. (Hons), Calcutta University—2008] Solution Cash Flow Statement (under Indirect Method) of R Ltd for the year that ended on 31 March 2007 Rs. A. Cash Flows from Operating Activities: Net Profit (after appropriation) for the Year4 Add: Non-operating & Non-current items debited to Profit & Loss A/c: Transfer to Reserve4 Proposed Dividend3 Depreciation on Machinery1 Tax provision2 Less:

Add:

Non-operating & Non-current items Credited to Profit & Loss A/c: Profit on Sale of Machinery1 Operating profit before Working Capital changes (i.e., fund from operation) Increase in Operating Current Liabilities Decrease in Operating Current Assets: Debtors

Decrease in Operating Current Liabilities: Sundry Creditors Increase in Operating Current Assets: Stock Cash generated from operation Less: Income Tax Paid Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Sale proceeds of Machinery Less: Purchase of Machinery1 Further construction of building4 Investment made4 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from New Issue of Shares4 Proceeds Received from New Issue of debentures4

Rs.

Rs.

40 50 200 125 80

455 495 15 480

Nil 200

200 680

Less:

120 200

320 360 50 310 35

345 200 100

645 (610) 200 200 400 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

237

CASH FLOW ANALYSIS

Rs. Less:

Add:

Payment of proposed Dividend3 Net Cash Flow from Financing Activities Net increase in Cash & Cash equivalents Cash & Cash Equivalents at the begining of the Year Cash & Cash Equivalents at the end of the Year

Rs. 100

Rs. 300 Nil 200 200

Note: Here, investment is considered as a Long-term Investment.

Interpretation of above Cash Flow Statement: From the above Cash Flow Statement, it has been observed that there is no net increase in cash and cash equivalents during the year 2006–07. In spite of the Net Cash Inflows from the Operating Activities of Rs. 3,10,000 and Net Cash Inflows from the Financing Activities of Rs. 3,00,000 during the year, a huge amount of net cash outflows from the Investing Activities (of Rs. 6,10,000), due to a huge investment in the Fixed Assets counter balancing the net increase in cash and cash equivalents during the year. Therefore, in spite of a substantial net Cash Inflows from the Operating Activities, there is no net increase in the cash and cash equivalents during the year due to a huge investment in the Fixed Assets. Working Notes 1. Dr. To Balance b/f To Profit & Loss A/c – Profit on Sale of old machine (35 – 20) To Bank – Purchase (Bal. fig.)

Machinery Account Rs. in ’000 500 By Bank – Sale proceeds of old machine 15 By Profit & Loss A/c – Depreciation (25% of 125) 345 By Balance c/f 860

Cr. Rs. in ’000 35 125

Tax Provision Account Rs. in ’000 50 By Balance b/f 100 By Profit & Loss A/c – Tax Provided for the year 150

Cr. Rs. in ’000 70 80 150

Proposed Dividend Account Rs. in ’000 100 By Balance b/f

Cr. Rs. in ’000 100

700 860

2. Dr. To Bank – Tax Paid during the Year To Balance c/f

3. Dr. To Bank – Dividend paid during the year To Balance c/f

200

By Profit & Loss A/c – Dividend proposed during the year

300

200 300

4. Analysis of other Non-current Assets and Liabilities Assets/Liabilities Share Capital Profit & Loss A/c Reserve

Opening Balance Rs. in ’000 800 60 150

Closing Balance Rs. in ’000 1,000 100 200

Increase/ Decrease Rs. in ’000 (+) 200 (+) 40 (+) 50

Analysis Fresh issue Net Profit for the year Transfer during the year (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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MANAGEMENT ACCOUNTING

Opening Balance Rs. in ’000 – 500 –

Assets/Liabilities Debentures Building Investment

Closing Balance Rs. in ’000 200 700 100

Increase/ Decrease Rs. in ’000 (+) 200 (+) 200 (+) 100

Analysis New issue Further construction Further investment

Problem 22 Redraft the given Traditional Cash Flow of 31 December 2008 as per AS-3 provisions: Traditional Cash Flow as on 31 December 2008 Sources Opening Cash Balance Cash from operation: Cash from Sales Less: Cash Paid: For purchase For Expenses Dividend Received

Rs. in Lakh

Rs. in Lakh 225

Uses Purchase of Fixed Assets2 Closing Cash Balance

Rs. in Lakh 100 194

909 (588) (255)

66 3 294

294

[B.Com. (Hons), Calcutta University— 2009] Solution Cash Flow Statement (under Direct Method) of ______________ for the year that ended on 31 December 2008 Rs. in Lakh A. Cash Flows from Operating Activities: Cash Receipts from Sales Less: Cash Paid for Purchases Cash Paid for Expenses Cash generated from operation Less: Income Tax Paid5 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Dividend Received (from investment) Less: Purchase of Fixed Assets Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Net increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rs. in Lakh

Rs. in Lakh

909 588 255 842 66 Nil 66 3 (100) (97) Nil (31) 225 194

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

CASH FLOW ANALYSIS

239

Problem 23 Following is the Cash Flow Abstract of Alpha Ltd for the year that ended on 31 March 2008: Cash Flow Abstract Inflows Opening Balance: Cash Bank Share Capital – Shares Issued Collection from Debtors Sale of Fixed Assets

Rs. 10,000 70,000 5,00,000 3,50,000 70,000

Outflows Payment to Creditors Salaries & Wages Payment of Overheads Fixed Assets Acquired Debentures Redeemed Bank Loan Repaid Taxation Dividends Closing Balance: Cash Bank

Rs. 90,000 25,000 15,000 4,00,000 50,000 2,50,000 55,000 1,00,000 5,000 10,000 10,00,000

10,00,000

Prepare a Cash Flow Statement for the year that ended on 31 March 2008 in accordance with AS-3. [C.A. (PE II)—November 2008]

Solution Cash Flow Statement (Direct Method) of Alpha Ltd for the year that ended on 31 March 2008 Rs. A. Cash Flows from Operating Activities: Cash Receipts from Customers Less: Cash Paid to Suppliers Cash Paid to Employees (Salaries & Wages) Other Cash Payments (Overheads) Cash Generated from Operation Less: Income Tax Paid Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Fixed Assets Less: Payment for Purchase of Fixed Assets Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from New Issue of Shares Less: Payment of Dividend Payment for Redemption of Debentures Repayment of Bank Loan Net Cash Flow from Financing Activities Net increase in Cash & Cash equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rs.

Rs.

3,50,000 90,000 25,000 15,000

1,30,000 2,20,000 55,000 1,65,000 70,000 4,00,000 (3,30,000) 5,00,000

1,00,000 50,000 2,50,000

4,00,000 1,00,000 (65,000) 80,000 15,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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MANAGEMENT ACCOUNTING

Problem 24 ABC Ltd gives you the following information. You are required to prepare a Cash Flow Statement by using Indirect Method as per AS-3 for the year that ended on 31 March 2004: Balance Sheets as on Liabilities Capital Retained Earnings Debentures Current Liabilities: Creditors Bank Loan Liability for Expenses Dividend Payable

31 March 2003 Rs. 50,00,000 26,50,000 –

31 March 2004 Rs. 50,00,000 36,90,000 9,00,000

8,80,000 1,50,000

8,20,000 3,00,000

3,30,000 1,50,000

2,70,000 3,00,000

91,60,000

1,12,80,000

Assets

Less:

Plant & Machinery Depreciation

Less:

Current Assets: Debtors Provision

Cash Marketable Securities Inventories Prepaid Expenses

31 March 2003 Rs. 27,30,000 6,10,000 21,20,000

31 March 2004 Rs. 40,70,000 7,90,000 32,80,000

23,90,000 1,50,000 22,40,000

28,30,000 1,90,000 26,40,000

15,20,000 11,80,000 20,10,000 90,000 91,60,000

18,20,000 15,00,000 19,20,000 1,20,000 1,12,80,000

Additional Information: i. Net Profit for the year that ended on 31 March 2004, after charging depreciation, is Rs. 22,40,000. ii. Debtors worth Rs. 2,30,000 were determined to be worthless and were written off against provision for Doubtful Debt Account during the year. iii. ABC Ltd declared a dividend of Rs. 12,00,000 for the year 2003–04. [C.A. (Inter)—May 2004] Solution Cash Flow Statement (under Indirect Method) of ABC Ltd for the year that ended on 31 March 2007 Rs. A. Cash Flows from Operating Activities: Net Profit for the Year after charging depreciation Add: Adjustment for Non-operating & Non-current items debited to Profit & Loss A/c: Provision for doubtful debt less bad debt adjusted Depreciation on plant & Machinery (Rs. 2,70,000 – Rs. 2,30,000)

Add:

Less:

Operating profit before Working Capital changes Increase in Operating Current Liabilities: Bank Loan Decrease in Operating Current Assets: Inventories Decrease in Operating Current Liabilities: Creditors Liability for Expenses

Rs.

Rs.

22,40,000

40,000 1,80,000 2,20,000 24,60,000 1,50,000 90,000

2,40,000 27,00,000

60,000 60,000 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

241

CASH FLOW ANALYSIS

Increase in Operating Current Assets: Prepaid Expenses Debtors Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Fixed Assets & investment Less: Purchase of plant & Machinery3 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities Proceeds Received from Issue of debentures3 Less: Payment of Dividend1 Net Cash Flow from Financing Activities Net increase in Cash & Cash equivalents Add: Cash & Cash Equivalents at the beginning of the Year (Rs. 15,20,000 + Rs. 11,80,000) Cash & Cash Equivalents at the end of the Year (Rs. 18,20,000 + Rs. 15,00,000)

Rs.

Rs.

Rs.

30,000 4,40,000

5,90,000 21,10,000 Nil 13,40,000 (13,40,000) 9,00,000 10,50,000 (1,50,000) 6,20,000 27,00,000 33,20,000

Working Notes 1. Dr. To Bank – Dividend Paid in 2003–04 To Balance c/f

Dividend Payable Account Rs. 10,50,000 By Balance b/f By Profit & Loss appropriation A/c 3,00,000 – Dividend declared for 2003–04 13,50,000

Cr. Rs. 1,50,000 12,00,000

Retained Earning Account Rs. 12,00,000 By Balance b/f

Cr. Rs. 26,50,000

13,50,000

2. Dr. To Dividend Payable – Dividend declared for 2003–04 To Balance c/f

3.

36,90,000 48,90,000

By Profit & Loss A/c – Net Profit for 2003–04

22,40,000 48,90,000

Analysis of other Non-current Assets and Liabilities Assets/Liabilities

Plant & Machinery (at cost) Provision for Depreciation on Plant & Machinery Debentures

Opening Balance Rs. 27,30,000 6,10,000

Closing Balance Rs. 40,70,000 7,90,000

Increase/ Decrease Rs. (+) 13,40,000 (+) 1,80,000

Nil

9,00,000

(+) 9,00,000

Analysis New Purchase Depreciation for 2003–04 New Issue

4. Provision for Doubtful Debt Account Rs. To Bad Debt – Bad Debt for 2003–04 adjusted 2,30,000 By Balance b/f By Profit & Loss A/c To Balance c/f 1,90,000 – Dividend Proposed for 2007 4,20,000

Cr.

Dr.

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rs. 1,50,000 2,70,000 4,20,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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Problem 25 Usha Ltd had the following condensed trial balance as on 31 March 2002: Debit Cash Accounts Receivable Investments Plant Assets Land

Rs. 7,500 30,000 20,000 67,500 40,000 1,65,000

Credit Current Liabilities Long-term Notes Payable Bonds Payable Capital Stock Retained Earnings

Rs. 15,000 25,500 25,000 75,000 24,500 1,65,000

Additional Information: During 2002–03, the following transactions took place: i. A tract of land was purchased for a cash of Rs. 7,750. ii. Bonds payable in the amount of Rs. 6,000 were retired for cash at face value. iii. An additional Rs. 20,000 equity shares were issued at par for cash. iv. Dividends totalling Rs. 9,375 were paid. v. Net income for 2002–03 was Rs. 28,450 after allowing for a depreciation of Rs. 9,500. vi. Land was purchased through the issuance of Rs. 22,500 in bonds. vii. Usha Ltd sold a part of its investments portfolio for Rs. 12,875 cash. The transaction resulted in a gain of Rs. 1,375 for the firm. viii. Current Liabilities increased to Rs. 18,000 on 31 March 2003. ix. Accounts receivable on 31 March 2003 totalled to Rs. 38,000. Prepare a Statement of Cash Flows for 2002–03, using indirect method, as per AS-3 (Revised). [M.Com., Delhi University—2003] Solution Cash Flow Statement (under Indirect Method) of Usha Ltd for the year that ended on 31 March 2003 Rs. A. Cash Flows from Operating Activities: Net Profit for the year after charging depreciation Add: Adjustment for Non-operating & Non-current Items debited to Profit & Loss A/c: Depreciation Less:

Add:

Adjustment for Non-operating & Non-current Items credited to Profit & Loss A/c: Gain on Sale of Investment Portfolio Operating Profit before Working Capital changes Increase in Operating Current Liabilities: Current Liabilities

Increase in Operating Current Assets: Accounts Receivable Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Investment Portfolio

Rs.

Rs.

28,450

9,500 37,950

1,375 36,575 3,000 39,575

Less:

8,000 31,575 12,875 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

CASH FLOW ANALYSIS

Rs. Less:

Purchase of land for cash Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities Proceeds Received from Issue of Equity Shares Less: Payment of Dividend Redemption of Bond Payable Net Cash Flow from Financing Activities Net increase in Cash & Cash equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

Rs. 7,750

243

Rs. 5,125

20,000 9,375 6,000

15,375 4,625 41,325 7,500 48,825

Problem 26 Following are the summarized Balance Sheets of Bibhu–Ribhu Enterprise Ltd, as on 31 March 2002 and 31 March 2003: Liabilities Share Capital General Reserve Profit & Loss A/c Long-term Loan Sundry Creditors Provision for Taxation

As on 31 March 2002 Rs. 2,00,000 50,000 30,500 70,000 1,50,000 30,000 5,30,500

As on 31 March 2003 Rs. 2,50,000 60,000 30,600 – 1,35,200 35,000 5,10,800

Assets Goodwill Land & Building Machinery Inventory Sundry Debtors Bank

As on 31 March 2002 Rs. – 2,00,000 1,50,000 1,00,000 80,000 – 5,30,500

As on 31 March 2003 Rs. 5,000 1,90,000 1,69,000 74,000 64,200 8,000 5,10,800

Additional Information: During the year that ended on 31 March 2003, the following transactions took place: i. Dividends of Rs. 23,000 were paid. ii. An inventory of Rs. 20,000 and machinery of Rs. 25,000 of another company were purchased for a consideration of Rs. 45,000 payable in shares. iii. Machinery was further purchased for cash at Rs. 8,000. iv. Depreciation written off on machinery was Rs. 12,000. v. Income Tax provided during the year was Rs. 33,000. vi. Sale of old machinery of Rs. 2,000 at a loss of Rs. 300, which was written off to general reserve. Prepare a Cash Flow Statement for the year that ended on 31 March 2003 using modern method, as per the revised guidelines of AS-3. [B.Com., Guwahati University—2004] Solution Cash Flow Statement (under Indirect Method) of Bibhu–Ribhu Enterprise Ltd for the year that ended on 31 March 2003 Rs. A. Cash Flows from Operating Activities: Net Profit (after appropriation) for the year5 Add: Adjustment for Non-operating & Non-current Items debited to Profit & Loss A/c: Dividend Paid

Rs.

Rs.

100

23,000 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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MANAGEMENT ACCOUNTING

Add:

Transfer to General Reserve3 Depreciation on Machinery Income Tax Provided Depreciation on Land & Building5 Operating profit before Working Capital changes Decrease in Operating Current Assets: Sundry Debtors Inventory [1,00,000 – (74,000 – 20,000)]

Rs. 10,300 12,000 33,000 10,000

Rs.

Rs.

88,300 88,400

15,800 46,000 61,800 1,50,200

Less:

Decrease in Operating Current Liabilities: Sundry creditors Cash Generated from Operation Less: Income tax Paid4 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds Received from Sale of Machinery2 Less: Purchase of new Machinery for cash Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Repayment of long-term Loan5 Payment of Dividend Net Cash Flow from Financing Activities Net increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

14,800 1,35,400 28,000 1,07,400 1,700 8,000 (6,300) (70,000) (23,000) (93,000) 8,100 500 8,600

Working Notes 1. Dr. To Equity Share Capital – Consideration Paid

Cr.

Vendor Company Account Rs. 50,000

By Machinery By Inventory By Goodwill (Bal. fig.)

50,000

Rs. 25,000 20,000 5,000 50,000

2. Dr. To Balance b/f To Vendor Company’s A/c – Acquired by Shares To Bank

Cr.

Machinery Account Rs. 1,50,000 25,000 8,000

Purchased for Cash

By Profit & Loss A/c – Depreciation By Bank – Sale Proceeds of old Machinery (2,000 – 300) By General Reserve – Loss on Sale of Machinery By Balance c/f

1,83,000

Rs. 12,000 1,700 300 1,69,000 1,83,000 (Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

245

CASH FLOW ANALYSIS

3. Dr.

Cr.

General Reserve Account Rs. 300

To Machinery A/c – Loss on Sale Adjusted To Balance c/f

Rs. 50,000

By Balance b/f

60,000 60,300

By Profit & Loss A/c – Transfer during the year

10,300 60,300

4. Dr.

Cr.

Provision for Tax Account Rs. 28,000 35,000 63,000

To Bank – Tax Paid (Bal. fig.) To Balance c/f

5.

By Balance b/f By Profit & Loss A/c – Provided during the year

Rs. 30,000 33,000 63,000

Analysis of other Non-current Assets and liabilities

Land & Building Share Capital

Opening Balance Rs. 2,00,000 2,00,000

Closing Balance Rs. 1,90,000 2,50,000

Increase/ Decrease Rs. (−) 10,000 (+)50,000

Long-term loan Profit & Loss A/c

70,000 30,500

– 30,600

(−) 70,000 (+) 100

Assets/Liabilities

Analysis Depreciation for the Year New Issue to the vendor company against assets Repayment Net Profit after appropriation for the Year

Problem 27 Following are the summarized Balance Sheets of Rabangla Ltd as on 31 March 2007 and 31 March 2008: (Rs. in Lakhs) Liabilities Share Capital General Reserve Profit & Loss A/c 7% Debentures Loan from Bank (pledged by freehold property) Provision for Taxation Proposed Dividend Sundry Creditors

31 March 2007 300.00 200.00 25.00 75.00 27.00

31 March 2008 325.00 219.00 20.00 50.00 14.25

21.00 22.50 60.00 730.50

37.50 23.25 127.50 816.50

Assets Freehold Property Machinery Long-term Investment Short-term Investment Stock Debtors Bank

31 March 2007 225.00 135.00 150.00 112.50 52.50 45.00 10.50

31 March 2008 240.00 165.00 162.50 100.00 75.00 70.00 4.00

730.50

816.50

The following additional information for the year 2007–08 are relevant for the purpose: i. Credit Sales – Rs. 675 lakhs. ii. Credit Purchases – Rs. 520 lakhs. iii. Overheads – Rs. 83.75 lakhs.

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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iv. Depreciation on Machinery – Rs. 17.50 lakhs. v. Tax Liability for 2006–07 was settled at Rs. 22.50 lakhs. vi. Dividend for 2006–07 was paid in 2007–08. Prepare a Cash Flow Statement for the year that ended on 31 March 2008.

Stop and Think As, in this problem, the credit sales, credit purchases, overheads incurred and so on are given, the Cash Flow Statement can be prepared, under both the methods as prescribed in AS-3, that is, direct and indirect method. Here, for the better understanding of the difference between the two methods, the Cash Flow Statement is prepared separately under both the methods. However, students are advised to follow either of the two methods in the examination hall (preferably under Direct Method in such a case).

Solution Method 1: Direct Method Cash Flow Statement (under Direct Method) of Rabangla Ltd for the year that ended on 31 March 2008 Rs. in Lakhs A. Cash Flows from Operating Activities: Cash Receipts from Customers Less: Cash Paid to Suppliers & Employees: Cash Paid to Suppliers Overheads Paid in Cash Cash Generated from Operation Less: Income Tax Paid Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds Received from Sale of Fixed Assets Less: Purchase of Machinery Purchase of Freehold Property Further Investment (Long-term) made

Rs. in Lakhs

Rs. in Lakhs

650.00 452.50 83.75 536.25 113.75 22.50 91.25 Nil 47.50 15.00 12.50 75.00

Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: New Issue of Shares Less: Redemption of Debentures Repayment of Loan from Bank Payment of Dividend Net Cash Flow from Financing Activities Net increase in Cash & Cash equivalents Add: Opening Cash & Cash equivalents: Bank Short-term Investments Closing Cash & Cash Equivalents (100 + 4)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

(75.00) 25.00 25.00 12.75 22.50 60.25

(35.25) (19.00)

10.50 112.50 123.00 104.00

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

247

CASH FLOW ANALYSIS

Method 2: Indirect Method Cash Flow Statement (under Indirect Method) of Rabangla Ltd for the year that ended on 31 March 2008 Rs. in Lakhs A. Cash Flows from Operating Activities: Net Profit (after appropriation) for the year6 Add: Appropriations: Proposed Dividend3 Transfer to General Reserve6 Net Profit (before appropriation) for the year Add: Adjustment for Non-current & Non-operating Items Debited to Profit & Loss A/c: Depreciation on Machinery Provision for taxation4 Operating profit before Working Capital changes Add: Increase in Current Liabilities: Creditors Decrease in Current Assets: Stock Debtors Cash generated from operation Less: Income tax Paid4 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Same as Calculated in above under Direct Method C. Cash Flows from Financing Activities: Same as Calculated in above under Direct Method Net increase in Cash & Cash Equivalents Add: Opening Cash & Cash Equivalents Closing Cash & Cash Equivalents

Rs. in Lakhs

Rs. in Lakhs

(5.00) 23.25 19.00

17.50 39.00

42.25 37.25

56.50 93.75 67.50 161.25

Less:

22.50 25.00

47.50 113.75 22.50 91.25 (75.00) (35.25) (19) 132 104

Working Notes 1. Dr. To Balance b/f To Sales – On credit

Debtors Account Rs. in Lakhs 45 By Bank – Collection (Bal. fig.) 675 By Balance c/f 720

Cr. Rs. in Lakhs 650 70 720

Creditors Account Rs. in Lakhs 452.50 By Balance b/f 127.50 By Purchases – On credit 580.00

Cr. Rs. in Lakhs 60.00 520.00 580.00

2. Dr. To Bank – Payment (Bal. fig.) To Balance c/f

(Continued)

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_I.indd

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MANAGEMENT ACCOUNTING

3. Dr. To Bank – Dividend for 2006–07 paid To Balance c/f

Proposed Dividend Account Rs. in Lakhs 22.50 By Balance b/f 23.25 By Profit & Loss appropriation A/c – Dividend proposed for 2007–08 45.75

Cr. Rs. in Lakhs 22.50

Provision for Taxation Account Rs. in Lakhs 22.50 By Balance b/f 37.50 By Profit & Loss A/c – Provision made in 2007–08 60.00

Cr. Rs. in Lakhs 21.00

Machinery Account Rs. in Lakhs 135.00 By Profit & Loss A/c – Depreciation for 2007–08 By Balance c/f 47.50 182.50

Cr. Rs. in Lakhs 17.50

23.25 45.75

4. Dr. To Bank – Tax liability for 2006–07 Paid To Balance c/f

39.00 60.00

5. Dr. To Balance b/f To Bank – Machinery purchased (Bal. fig.)

165.00 182.50

6. Analysis of other Non-current Assets and Liabilities Assets/Liabilities Share Capital 7% Debentures Loan from Bank Freehold Property Long-term Investment General Reserve

Opening Balance 300 75 27 225 150 200

Closing Balance 325 50 14.25 240 162.50 219

Increase/ Decrease (+) 25 (−) 25 (−) 12.75 (+) 15 (+) 12.50 (+) 19

Analysis New Issue of Shares Redemption of Debentures Repayment of Loan Purchase of Property Further Investment Transfer to Reserve Net Loss (after Appropriation)

Stop and Think i. Under Direct Method, all workings as shown in the above are to be prepared except General Reserve and Profit & Loss A/c, under Working No. 6. ii. Under Indirect Method, all workings as shown earlier are to be prepared except Working Notes 1 & 2. iii. Here ‘cash and cash equivalents’ means cash at bank and short-term investment. iv. As there is no outstanding or prepaid overhead either at the beginning or at the end of the year, it must be considered that the entire overhead expenses had been duly paid during the year 2007–08.

Modified Date: Mon, Jul 05, 2010 05:30:16 PM

Output Date: Tue, Jul 06, 2010 11:46:14 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

249

CASH FLOW ANALYSIS

Problem 28 From the following particulars, prepare a Cash Flow Statement of Chalsa Ltd for the year that ended on 31 December 2007: Dr.

Profit & Loss A/c for the Year that Ended on 31 December 2007 Rs. To Opening Stock 5,500 By Sales To Purchases 80,500 By Closing Stock To Wages 16,000 By Loss of Stock To Gross Profit c/d 1,39,000 2,41,000 To Expenses 10,000 By Gross Profit b/d To Depreciation 12,000 By Income from Investment (Tax Free) To Bad Debt 1,000 To Loss on Sale of Plant 5,000 To Loss of Stock less Insurance Claim 1,000 (i.e., Net loss) To Deferred Expenses 5,000 To Income Tax 10,000 To Net Profit c/d 1,01,000 1,45,000 To Dividend 8,000 By Balance b/d To Reserve 23,000 By Net Profit b/d To Balance c/d 1,00,000 1,31,000

Cr. Rs. 2,16,000 20,000 5,000 2,41,000 1,39,000 6,000

1,45,000 30,000 1,01,000 1,31,000

Balance Sheets Liabilities Share Capital Reserve Profit & Loss A/c Creditors Liabilities for Expenses Proposed Dividend Provision for Taxation Advance Income from Investment

2006 Rs. 80,000 50,000 30,000 30,000 8,000 5,000 15,000 5,000 2,23,000

2007 Rs. 90,000 73,000 1,00,000 20,000 10,000 10,000 20,000 3,000 3,26,000

Assets Fixed Assets Investment Stock in Trade Debtors Cash & Bank Prepaid Expenses Deferred Expenses

2006 Rs. 80,000 68,500 5,500 50,000 3,500 5,000 10,500

2007 Rs. 2,10,000 30,000 20,000 55,000 1,500 4,000 5,500

2,23,000

3,26,000

[B.Com. (Hons), Calcutta University—Adapted] Tutorial Note As the details of the Profit & Loss A/c and the Balance Sheet of two consecutive years are given in the problem, Statement, in this case, can be prepared under both the methods. Here, the Cash Flow Statement is prepared under both the methods, but students are advised to follow either of the two methods in the examination hall (preferably Direct Method in such a case).

Solution Method 1: Direct Method Cash Flow Statement of Chalsa Ltd for the year that ended on 31 December 2007 Rs. A. Cash Flows from Operating Activities: Cash Receipts from Customers1

Rs.

Rs.

2,10,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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MANAGEMENT ACCOUNTING

Rs. Less:

Cash paid to Suppliers & Employees: Payment to Suppliers2 Payment to Wages Payment of Expenses3

Rs.

Rs.

90,500 16,000 7,000 1,13,500 96,500 5,000 91,500 4,000

Cash generated from operation Less: Income Tax paid4 Cash flow from operation before extraordinary item Add: Insurance claim Received against loss of Stock (Rs. 5,000 – Rs. 1,000) Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds Received from Sale of Plant5 Proceeds Received from Sale of Investment8 Income Received from Investment6

95,500 23,000 38,500 4,000 65,500 1,70,000

Purchase of Fixed Assets5 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from issue of shares8 Less: Dividend paid7 Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

Less:

(1,04,500) 10,000 3,000 7,000 (2,000) 3,500 1,500

Method 2: Indirect Method Cash Flow Statement of Chalsa Ltd for the year that ended on 31 December 2007 Rs.

Add:

Less:

Add:

A. Cash Flows from Operating Activities: Net Profit (before appropriation) for the year as ascertained in Profit & Loss A/c: Adjustment for Non-operating & Non-current items charged to Profit & Loss A/c: Income Tax Depreciation Deferred Expenses Loss on Sale of Plant Net Loss of Stock

10,000 12,000 5,000 5,000 1,000

Adjustment for Non-operating & Non-current items credited to Profit & Loss A/c: Income from Investments Loss of Stock (cost price)

6,000 5,000

Operating Profit before Working Capital changes Increase in Operating Current Liabilities: Liabilities for Expenses Decrease in Operating Current Assets: Prepaid Expenses

Rs.

Rs.

1,01,000

33,000 1,34,000

11,000 1,23,000 2,000 1,000 3,000 1,26,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

251

CASH FLOW ANALYSIS

Rs. Less:

Less:

Increase in Operating Current Assets: Stock in trade Debtors Decrease in Operating Current Liabilities: Creditors

Rs.

Rs.

14,500 5,000 10,000

Cash Generated from Operation Income Tax paid

Add:

Insurance claim Received against loss of Stock Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Same as calculated under Direct Method in above C. Cash Flows from Financing Activities: Same as calculated under Direct Method in above Net Increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

29,500 96,500 5,000 91,500 4,000 95,500 (1,04,500) 7,000 (2,000) 3,500 1,500

Working Notes 1. Dr. To Balance b/f To Sales

Debtors Account Rs. 50,000 By Bank – Collection (Bal. fig.) 2,16,000 By Bad Dept By Balance c/f 2,66,000

Cr. Rs. 2,10,000 1,000 55,000 2,66,000

Creditors Account Rs. 90,500 By Balance b/f 20,000 By Purchases 1,10,500

Cr. Rs. 30,000 80,500 1,10,500

2. Dr. To Bank – Payment (Bal. fig.) To Balance c/f

3. Dr. To Balance b/f (i.e., opening prepaid) To Bank – Expenses paid during the year (Bal. fig.) To Balance c/f (i.e., closing outstanding)

Expenses Account Rs. 5,000 By Balance b/f (i.e., opening outstanding) By Profit & Loss A/c – Expenses for the year 7,000 charged to Profit & Loss A/c 10,000 By Balance c/f (i.e., closing prepaid) 22,000

Cr. Rs. 8,000 10,000 4,000 22,000

4. Dr.

Provision for Taxation Account Rs. To Bank – Tax paid during the year (Bal. fig.) 5,000 By Balance b/f By Profit & Loss A/c – Provided for during this year To Balance c/f 20,000 25.000

Cr. Rs. 15,000 10,000

25,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

252

MANAGEMENT ACCOUNTING

5. Dr.

Fixed Asset Account Rs. 80,000 By Profit & Loss A/c – Depreciation for the year 1,70,000 By Profit & Loss A/c – Loss on Sale of Plant By Bank – Sale proceeds of Plant (Bal. fig.) By Balance c/f 2,50,000

Cr. Rs. 12,000 5,000 23,000 2,10,000 2,50,000

Income from Investments Account Rs. To Profit & Loss A/c – Income Receivable for 6,000 By Balance b/f (i.e., opening pre-received) the year To Balance c/f (i.e., closing pre-received) 3,000 By Bank – Income Received during the year (Bal. fig.) 9,000

Cr. Rs. 5,000

To Balance b/f To Bank – Purchase of Fixed Assets (Bal. fig.)

6. Dr.

4,000 9,000

7. Dr.

Proposed Dividend Account Rs. 3,000 By Balance b/f

To Bank – Dividend for 2006 paid in 2007 (Bal. fig.) To Balance c/f

8.

10,000 13,000

Cr. Rs. 5,000

By Profit & Loss A/c – Dividend proposed for 2007

8,000 13,000

Analysis of other Non-current Assets and liabilities Assets/Liabilities

Share Capital Investments

Opening Balance Rs. 80,000 68,500

Closing Balance Rs. 90,000 30,000

Increase/ Decrease Rs. (+)10,000 (−)38,500

Analysis New issue of Shares Sale of Investments

Stop and Think i. As the income from Investment is tax-free, the entire amount of income Tax was paid against the Operating Profit only. ii. Under Indirect Method, no need to prepare Working Notes 1 & 2 (i.e., Debtors’ and Creditors’ Account). iii. As Bad Debt is an Operating and Current item (as debtors are reduced for Bad Debt), it is not added back to the Net Profit while calculating the Cash Flow from Operating activities under Indirect Method. But, as the loss of Stock is a loss of abnormal nature, it is not considered as the Operating Loss; and accordingly, added back to the Net Profit while calculating the Cash Flow from the Operating Activities under Indirect Method.

Problem 29 Balance Sheet of Yoyng India Ltd, as on 31 March 2006 and 31 March 2005 (Figures – Rs. in ’000) Liabilities Equity Shares (Rs. 10 each) Profit & Loss A/c 10% Debentures

31 March 2006 4,300 640 2,050

31 March 2005 4,000 980 2,200

Assets Building Machinery Land

31 March 2006 2,500 2,000 1,500

31 March 2005 2,500 1,600 1,800 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

CASH FLOW ANALYSIS

Liabilities Trade Creditors Provision for Taxation Depreciation on Building Depreciation on Machinery

31 March 2006 650 125 600 300 8,665

31 March 2005 800 100 500 200 8,780

31 March 2006 65 1,400 800 400 8,665

Assets Prepaid Expenses Inventory Debtors Cash & Bank

253

31 March 2005 80 1,550 650 600 8,780

Additional Information: i. Dividend paid during the year – Rs. 4,50,000. ii. Land was sold for cash at a Profit of Rs. 50,000. iii. Machinery Costing Rs. 2,00,000 (WDV – Rs. 40,000) was sold for Rs. 30,000. Also Machinery costing Rs. 6,00,000 was purchased. iv. Amount Transferred to provision for Taxation during the year – Rs. 1,60,000. Prepare a Cash Flow Statement for the year that ended on 31 March 2006. [B.Com. (Hons), Calcutta University—2006]

Solution Cash Flow Statement (under Indirect Method) of Young India Ltd for the year that ended on 31 March 2006 Rs. in ’000 A. Cash Flows from Operating Activities: Net Profit after appropriation for the year Add: Appropriations made during the year: Dividend for the year4 Net Profit (before appropriation) for the year Add: Adjustment for Non-operating and Non-current items charged to Profit & Loss A/c: Provision for Taxation Depreciation on Building1 Depreciation on Machinery6 Loss on Sale of Machinery5 Less:

Add:

Less:

Less:

Adjustment for Non-operating and Non-current items credited to Profit & Loss A/c: Profit on Sale of land Operating Profit before Working Capital changes Increase in Operating Current Liabilities Decrease in Operating Current Liabilities: Prepaid Expenses Inventory Decrease in Operating Current Liabilities: Trade creditors Increase in Operating Current Assets: Debtors Cash Generated from Operation Income Tax paid2 Net Cash Flow from Operating Activities

Rs. in ’000

Rs. in ’000

(340) 450 110

160 100 260 10

530 640

50 590 Nil 15 150

165 755

150 150

300 455 135 320 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

254

MANAGEMENT ACCOUNTING

Rs. in ’000 B. Cash Flows from Investing Activities: Proceeds Received from Sale of building3 Proceeds Received from Sale of Machinery Less: Purchase of Machinery Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from issue of Shares1 Less: Redemption of Debentures1 Payment of Dividend Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

Rs. in ’000

350 30

Rs. in ’000

380 600 (220) 300

150 450

600 (300) (200) 600 400

Working Notes 1.

Analysis of other Non-current Assets and Liabilities (against which there is no adjustment) Assets/Liabilities

Equity Shares 10% Debentures Depreciation on Duilding Building (at cost) Profit & Loss A/c

Opening Balance Rs. in ’000 4,000 2,200 500 2,500 980

Closing Balance Rs. in ’000 4,300 2,050 600 2,500 640

Increase/ Decrease Rs. in ’000 (+) 300 (−) 150 (+) 100 Nil (+) 340

Analysis Fresh issue of Shares Redemption of Debentures Depreciation for the year No Purchase or Sale Loss (after appropriation) for the year

2. Dr.

Provision for Taxation Account Rs. in ’000 To Bank – Tax paid during the year (Bal. fig.) 135 By Balance b/f To Balance c/f 125 By Profit & Loss A/c – Provision made for 2005–06 260

Cr. Rs. in ’000 100 160 260

3. Dr. To Balance b/f To Profit & Loss A/c – Profit on Sale

Land Account Rs. in ’000 1,800 By Bank – Sale proceeds of Land (Bal. fig.) 50 By Balance c/f 1,850

Cr. Rs. in ’000 350 1,500 1,850

Dividend Account Rs. in ’000 450 By Profit & Loss appropriation A/c – Dividend provided 450

Cr. Rs. in ’000

4. Dr. To Bank – Dividend paid

450 450 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

255

CASH FLOW ANALYSIS

5. Dr.

Machinery (at Cost) Account Rs. in ’000 1,600 By Provision for Depreciation A/c – Accumulated Depreciation on Machinery Sold 600 By Bank – Sale Proceeds of Machinery By Profit & Loss A/c – Loss on Sale By Balance c/f 2,200

To Balance b/f To Bank – Purchase

Cr. Rs. in ’000 160 30 10 2,000 2,200

6. Dr.

Provision for Depreciation on Machinery Rs. in ’000 To Machinery A/c – Accumulated By Balance b/f Depreciation on Machinery sold Transferred (2,00,000 – 40,000) 160 To Balance c/f 300 By Profit & Loss A/c – Depreciation for the year (Bal. fig.) 460

Cr. Rs. in ’000 200

260 460

Problem 30 From the following Balance Sheets of JP International, prepare a Cash Flow Statement for the year that ended on 31 December 2006, as per AS-3: Balance Sheets as on Liabilities Equity Share Capital Redeemable Preference Share Capital Debenture Long-term loan Reserves & Surplus Bank Overdraft Sundry Creditors Proposed Dividend Provision for Taxation

31 December 2005 Rs. 150

31 December 2006 Rs. 350

100 150 100 40 60 80 30 20 730

150 100 50 50 – 100 60 40 900

Assets Goodwill Fixed Assets Inventories Debtors Bank Prepaid Expenses Miscellaneous Expenditure

31 December 2005 Rs. 75 355 110 120 Nil 30 40

31 December 2006 Rs. 60 620 70 75 25 20 30

730

900

Additional information available on 31 December 2006: i. Accumulated Depreciation on Fixed Assets amounted to Rs. 1,60,000 and Rs. 1,85,000, as on 31 December 2005 and 31 December 2006, respectively; and a Plant Costing Rs. 30,000 (25% depreciated) was sold for Rs. 50,000. ii. A land of Rs. 1,50,000 and stock of Rs. 40,000 were purchased for a consideration of Rs. 2,00,000, paid for in shares. iii. Dividend for 2005 was paid along with an interim Dividend of 5% on the Opening Equity Capital. iv. Tax Liabilities for 2005 was settled at Rs. 28,000. [B.Com. (Hons), Calcutta University—2007]

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

256

MANAGEMENT ACCOUNTING

Solution Cash Flow Statement (under Indirect Method) of JP International for the year that ended on 31 December 2006 Rs. in ’000 A. Cash Flows from Operating Activities: Net Profit (after approprition) for the year Add: Appropriation made during the year: Dividend for 2006 provided for6 Interim Dividend paid in 2006 provided for7 Net Profit (before appropriation) for the year Add: Adjustment for Non-operating and Non-current items charged to Profit & Loss A/c: Provision for Taxtion5 Goodwill written off4 Miscellaneous Expenditure written off1 Depreciation on Fixed Assets9

Rs. in ’000

Rs. in ’000

10.00 60.00 7.50

67.50 77.50

48.00 25.00 10.00 32.50 115.50 193.00

Less:

Add:

Less:

Less:

Adjustment for Non-operating and Non-current items credited to Profit & Loss A/c: Profit on Sale of Plant8 Increase in Operating Current Liabilities: Sundry Creditors Decrease in Operating Current Assets: Inventories [110 – (70 – 40)] Debtors Prepaid Expenses Decrease in Operating Current Liabilities: Bank Overdraft Increase in Operating Current Assets

27.50 165.50 20 80 45 10 155.00 320.50 60 Nil 60.00 260.50 28.00

Cash generated from Operation Tax Paid

232.50 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds Received from Sale of Plant Less: Purchase of Fixed Assets8 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Fresh issue of Preference Shares1 Less: Redemption of Debentures1 Repayment of Long-term Loan1 Dividend for 2005 paid6 Interim Equity Dividend paid7 Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

50 170 (120.00) 50.00 50 50 30 7.5

137.50 (87.50) 25 Nil 25

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

257

CASH FLOW ANALYSIS

Working Notes 1.

Analysis of other Non-current Assets and Liabilities (against which there is no adjustment) Assets/Liabilities

Equity Shares Debentures Long-term Loans Miscellaneous Expenditure

Opening Balance Rs. in ’000 100 150 100 40

Closing Balance Rs. in ’000 150 100 50 30

Increase/ Decrease Rs. in ’000 (+) 50 (−) 50 (−) 50 (−) 10

Analysis Fresh issue of Shares Redemption of Debentures Repayment of Loan Written off against Profit & Loss A/c

2. Dr. To Equity Share Capital – Purchase consideration discharged

Vendor Company Account Rs. in ’000 By Fixed Assets A/c (land) 200 By Stock By Goodwill (Bal. fig.) –Excess Consideration paid Adjusted 200

Cr. Rs. in ’000 150 40 10 200

3. Dr.

To Balance c/f

Equity Share Capital Account Rs. in ’000 By Balance b/f 350 By Vendor company A/c – Shares issued to Discharge the Purchase Consideration 350

Cr. Rs. in ’000 150 200 350

4. Dr. To Balance b/f To Vendor company A/c – Excess Consideration Paid Adjusted

Goodwill Account Rs. in ’000 75 By Profit & Loss A/c – Written off (Bal. fig.) By Balance c/f 10 85

Cr. Rs. in ’000 25 60 85

5. Dr. To Bank – Tax liability for 2005 paid To Balance c/f

Provision for Taxation Account Rs. in ’000 28 By Balance b/f 40 By Profit & Loss A/c – Provision made in 2006 (Bal. fig.) 68

Cr. Rs. in ’000 20 48 68

6. Dr. To Bank – Dividend for 2005 paid To Balance c/f

Proposed Dividend Account Cr. Rs. in ’000 Rs. in ’000 30 By Balance b/f 30 60 By Profit & Loss appropriation A/c – Proposed Dividend for 2006 provided for (Bal. fig.) 60 90 90 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

258

MANAGEMENT ACCOUNTING

7. Dr.

Cr. Rs. in ’000

Interim Dividend Account

Rs. in ’000 To Bank – Interim Dividend for 2006 paid (5% on Rs. 1,50,000)

7.50 7.50

By Profit & Loss Appropriation A/c – Interim Dividend provided for

7.50 7.50

8. Dr.

Fixed Asset (at Cost) Account Rs. in ’000 515.00 By Provision for Depreciation A/c To Balance b/f (355 + 160) – Accumulated Depreciation on Plant sold To Vendor Company A/c – Land purchased 150.00 By Bank – Sale proceeds of Plant To Profit & Loss A/c – Profit on Sale of Plant By Balance c/f (620 + 185) [50,000 – (30,000 – 25%)] 27.50 To Bank – Fixed Assets Purchased for Cash (Bal. fig.) 170.00 862.50

Cr. Rs. in ’000

7.50 50.00 805.00

862.50

9. Dr.

Provision for Depreciation on Fixed Asset Account Rs. in ’000 To Fixed Asset A/c – Accumulated By Balance b/f Depreciation on Plant sold transferred (25% of Rs. 30,000) 7.50 By Profit & Loss A/c – Depreciation for 2006 (Bal. fig.) To Balance c/f 185.00 192.50

Cr. Rs. in ’000 20.00

32.50

192.50

Stop and Think i. Land and Stock were purchased from a company, the consideration payable against which discharged by issue of shares. The company which sold its Land and Stock is termed here as the ‘vendor company’ for which an account (W/N No. 2) is opened. ii. In this problem, neither the value Fixed Assets were purchased for cash, nor the Depreciation charged for the year 2006 is given. That is why, despite the value of Fixed Assets appearing in the Balance Sheet at WDV, two separate accounts are opened here namely—one is Fixed Asset (at cost) account, the opening and closing values have been derived by adding the WDV, with respective accumulated Depreciation, and the other is the provision for Depreciation on Fixed Asset Account, taking the accumulated Depreciations on opening and closing date as Opening & Closing Balances respectively. iii. While deducting the decrease in the Value of Inventories, the Value of Stock worth Rs. 40,000 bought from the Vendor Company is deducted to get the net decrease in the stock due to Operational Activities.

Problem 31 Following were the Balance Sheets of a company as on 31 December 2007 and 31 December 2006: Liabilities Share Capital Reserves

2007 Rs. in ’000 1,500 3,410

2006 Rs. in ’000 1,250 1,380

Assets Fixed Assets at cost

2007 Rs. in ’000 2,180

2006 Rs. in ’000 1,910 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

CASH FLOW ANALYSIS

Liabilities Long-term Loan Sundry Creditors Interest Payable Income Tax Payable

2007 Rs. in ’000 1,110

2006 Rs. in ’000 1,040

150 230 400

1,890 100 1,000

6,800

6,660

Assets Less:

Provision for Depreciation Long-term Investments Inventories Sundry Debtors Short-term Investments Cash & Bank Income Receivable on Investments

259

2007 Rs. in ’000

2006 Rs. in ’000

1,450 730 2,500 900 1,700 670 200

1,060 850 2,500 1,950 1,200 135 25

100 6,800

– 6,660

Statement of Profit & Loss A/c for the year that ended on 31 December 2007 Rs. in ’000 Less:

Less:

Add:

Less:

Sales Cost of Sales: Materials Consumed Wages & Overheads Gross Profit Depreciation on Fixed Assets Administrative & Selling Expenses Interest on Loan Loss on Sale of long-term Investment

19,000 7,000 450 850 400 100

Income from Investment Insurance Claim Received from Earthquake Disaster settlement Net Profit before Tax Income Tax Net Profit after Tax

500 180

Rs. in ’000 30,650

26,000 4,650

1,800 2,850 680 3,530 300 3,230

Additional Information: i. Plant, having an Original Cost of Rs. 80,000 and accumulated Depreciation of Rs. 60,000, was sold in 2007 for Rs. 20,000. ii. Investments (long-term) further made during 2007 was Rs. 500 (in lakhs). iii. An amount of Rs. 2,50,000 was raised from the long-term borrowing. iv. Income Tax of Rs. 3,00,000 as provided in the statement of Profit & Loss A/c included Rs. 30,000 as Tax deducted at source on income from the Long-term Investment. Prepare a Cash Flow Statement for the year that ended on 31 December 2007 separately under Direct Method and Indirect Method. Solution Method 1: Direct Method Cash Flow Statement of a company for the year that ended on 31 March 2008 Rs. in ’000 A. Cash Flows from Operating Activities: Cash Receipts from Customers1 Less: Cash paid to Suppliers & Employees: Payment to Suppliers for Goods3

Rs. in ’000

Rs. in ’000

30,150 19,690 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

260

MANAGEMENT ACCOUNTING

Payment of Administrative & Selling Expenses Payment of Wages and Overheads Cash generated from Operation Less: Income Tax paid on Operating Profit4 Cash Flow from operation before extraordinary item Add: Extraordinary Income: Insurance proceeds received from earthquake disaster settlement Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Sale proceeds of Plant Sale proceeds of long-term Investments7 Income Received from Investments less TDS10 Purchase of Fixed Assets5 Purchase of Investments7 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from New Issue of shares11 Proceeds Received from long-term loan Less:

Less:

Repayment of long-term loan13 Payment of Dividend12 Payment of Interest9

Rs. in ’000 850 7,000

Rs. in ’000

Rs. in ’000

27,540 2,610 870 1,740

180 1,920 20 400 370 790 350 500

850 (60) 250 250 500

180 1,200 270 1,650

Add:

Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Opening Cash & Cash Equivalents: Cash & Bank Short-term Investment

(1,150) 710 25 135 160 870

Closing Cash & Cash Equivalents (200 + 670)

Method 2: Indirect Method Cash Flow Statement of a Company for the year that ended on 31 December 2007 Rs. in ’000 Add:

Less:

Add:

Net Profit before Tax Adjustment for Non-operating & Non-current items debited to Profit & Loss A/c: Depreciation on Fixed Assets Interest on loan Loss on Sale of Long-term Investment Adjustment for Non-operating & Non-current items credited to Profit & Loss A/c: Income from Investment Insurance claim received from earthquake disaster settlement Operating Profit before Working Capital Changes Increase in Operating Current Liabilities Decrease in Operating Current Liabilities: Inventories

450 400 100

500 180

Rs. in ’000 3,530

Rs. in ’000

950 4,480

680 3,800

Nil 1,050

1,050 4,850 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

261

CASH FLOW ANALYSIS

Rs. in ’000 Decrease in Operating Current Liabilities: Sundry Creditors Increase in Operating Current Assets: Sundry Debtors Cash generated from operation Less: Income Tax paid on Operating Profit Cash flow from operation before extraordinary item Add: Extraordinary item: Insurance claim Received from earthquake-disaster settlement Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Same as computed under direct method in above C. Cash Flows from Financing Activities: Same as computed under direct method in above Net Increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

Rs. in ’000

Rs. in ’000

Less:

1,740 500

2,240 2,610 870 1,740 180 1,920 (60) (1,150) 710 160 870

Working Notes 1. Dr. To Balance b/f To Sales

Sundry Debtors Account Rs. in ’000 1,200 By Bank – Collection (Bal. fig.) 30,650 By Balance c/f 31,850

Cr. Rs. in ’000 30,150 1,700 31,850

2. Dr. To Balance b/f To Purchases (Bal. fig.)

Inventories Account Rs. in ’000 1,950 By Materials consumed 17,950 By Balance c/f 19,900

Cr. Rs. in ’000 19,000 900 19,900

3. Dr. To Bank – Payment (Bal. fig.) To Balance c/f

Sundry Creditors Account Rs. in ’000 19,690 By Balance b/f 150 By Purchases2 19,840

Cr. Rs. in ’000 1,890 17,950 19,840

4. Dr.

Income Tax (on Operating Profit) Account Rs. in ’000 To Bank – Tax paid on Operating Profit By Balance b/f (Bal. fig.) 870 To Balance c/f 400 By Profit & Loss A/c – Tax provided for 2007 (300 – 30) 1,270

Cr. Rs. in ’000 1,000

270 1,270 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

262

MANAGEMENT ACCOUNTING

5. Dr.

Fixed Asset (at Cost) Account Rs. in ’000 1,910 By Provision for Depreciation A/c6 – Accumulated Depreciation on Plant sold 350 By Bank – Sale Proceeds of Plant By Balance c/f 2,260

To Balance b/f To Bank – Purchase (Bal. fig.)

Cr. Rs. in ’000 60 20 2,180 2,260

6. Dr.

Provision for Depreciation Account Rs. in ’000 By Balance b/f 60 1,450 By Profit & Loss A/c – Depreciation provided for 2007 1,510

To Fixed Asset A/c – Accumulated Depreciation on Plant sold To Balance c/f

Cr. Rs. in ’000 1,060 450 1,510

7. Dr. To Balance b/f To Bank – Further investment made

Long-term Investment Account Cr. Rs. in ’000 Rs. in ’000 2,500 By Bank – Sale proceeds of Investment (Bal. fig.) 400 500 By Profit & Loss A/c – Loss on Sale of Investment 100 By Balance c/f 2,500 3,000 3,000

8. Dr. To Balance b/f To Profit & Loss A/c – Income Receivable for 2007

Income on Investment Account Rs. in ’000 – By Bank – Income Received in 2007 (Bal. fig.) 500 By Balance c/f 500

Cr. Rs. in ’000 400 100 500

9. Dr.

Interest Payable on Loan Account Rs. in ’000 To Bank – Interest paid in 2007 (Bal. fig.) 270 By Balance b/f To Balance c/f 230 By Profit & Loss A/c – Interest Payable for 2007 (Bal. fig.) 500

10.

Less:

Cr. Rs. in ’000 100 400 500

Net income from Investment received in 2007 Income Received from Investment in 20078 Tax Deducted from source (TDS) Net income from Investment

Rs. in ’000 400 30 370

11. Dr. To Balance c/f

Share Capital Account Rs. in ’000 1,500 By Balance b/f By Bank – New Issue of Shares (Bal. fig.) 1,500

Cr. Rs. in ’000 1,250 250 1,500

(Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

CASH FLOW ANALYSIS

263

12. Dr. To Bank – Dividend Declared & paid in 2007 To Balance c/f

Reserve Account Rs. in ’000 1,200 By Balance b/f 3,410 By Profit & Loss A/c – Net Profit for 2007 Transferred 4,610

Cr. Rs. in ’000 1,380 3,230 4,610

13. Dr. To Bank – Loan Repaid in 2007 (Bal. fig.) To Balance c/f

Long-term Loan Account Rs. in ’000 180 By Balance b/f 1,110 By Bank – Loan taken in 2007 1,290

Cr. Rs. in ’000 1,040 250 1,290

Stop and Think i. Cash and Cash equivalent refers to cash in hand, at bank and Short-term Investment. ii. Under Indirect Method, no need to prepare Working Notes 1, 2 & 3. iii. As Tax of Rs. 30,000 was already deducted from the source on income from the Long-term Investment, it is shown as a deduction from income from Investment (see Working Note 10) under the head ‘Cash Flow from Investing Activities’ and the balance amount of income Tax of Rs. 2,70,000 (i.e., Rs. 3,00,000 – Rs. 30,000), as provided in the statement of Profit & Loss A/c is considered as a Tax Provision on the Operating Profit (see Working Note 4). iv. As there are no outstanding or prepaid Wages and Overheads and Administrative and Selling Expenses, either at the beginning or at the end of the year 2007, it must be considered that the amount of such expenses as charged in the Profit & Loss A/c have been paid in full.

Problem 32 From the following summarized Balance Sheets of Sunshine Ltd and other relevant information, prepare a Cash Flow Statement for the year that ended on 31 March 2004: Liabilities Share Capital Securities premium General Reserve Capital Reserve Profit & Loss A/c 8% Debentures Provision for Taxation Proposed Dividend Sundry Creditors Outstanding Expenses

31 March 2003 Rs. 5,00,000 45,000 1,00,000 – 70,000 1,00,000 35,000 50,000 73,000 10,200 9,83,200

31 March 2004 Rs. 7,00,000 55,000 45,000 15,000 67,500 85,000 45,000 70,000 61,100 12,700 11,56,300

Assets Land & Building Plant & Machinery Stock Debtors Cash Prepaid Expenses

31 March 2003 Rs. 5,00,000 2,05,000 98,000 1,02,000 62,500 15,700

31 March 2004 Rs. 6,50,000 2,15,500 95,000 1,18,200 68,700 8,900

9,83,200

11,56,300

Additional Information: i. A Plant Costing Rs. 50,000 (WDV – Rs. 35,200) has been sold during 2003–04 for Rs. 40,000. Profit on sale has been transferred to Capital Reserve Account. ii. A piece of land has been sold for Rs. 70,000 during the year 2003–04. The Profit on sale of such land has also been transferred to Capital Reserve account.

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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iii. Balance of Capital Reserve on 31 March 2004 consists of Profit on Sale of Plant and land alone. iv. During the year 2003–04, the bonus share of Rs. 1,00,000 has been issued out of general reserve. v. Debentures were redeemed at a premium of 10%. Premium on redemption has been transferred to Profit & Loss A/c. vi. Amount appropriated during 2003–04: For Proposed Dividend Rs. 70,000 For Taxation Rs. 40,000 vii. Depreciation provided during 2003–04: On Plant & Machinery Rs. 32,800 On Building Rs. 22,500 [B.Com. (Hons), Calcutta University—2005]

Solution Books of Sunshine Ltd Cash Flow Statement (under Indirect Method) for the year that ended on 31 March 2004 Rs. A. Cash Flows from Operating Activities: Balance of Profit & Loss A/c as on 31 March 2004 Balance of Profit & Loss A/c as on 31 March 2003 Net Profit for the year 2003–04 after appropriation Add: Appropriations: Transfer to General Reserve2 Proposed Dividend

Add: Add:

Net Profit before Appropriation Provision for Taxation Net Profit Before Tax Adjustment for Non-operating and Non-current items charged to Profit & Loss A/c: Depreciation on Land & Building5 Depreciation on Plant & Machinery4 Premium on Redemption of Debentures8

Rs.

Rs.

67,500 70,000 (2.500) 45,000 70,000 1,15,000 1,12,500 40,000 1,52,500

22,500 32,800 1,500 56,800 2,09,300

Less:

Add:

Adjustment for Non-operating and Non-current items Credited to Profit & Loss A/c Operating Profit before Working Capital changes Increase in Operating Current Liabilities: Outstanding Expenses (Rs. 12,700 – Rs. 10,200) Decrease in Operating Current Assets: Stock (Rs. 98,000 – Rs. 95,000) Prepaid Expenses (Rs. 15,700 – Rs. 8,900)

Nil 2,09,300 2,500 3,000 6,800 12,300 2,21,600

Less:

Increase in Operating Current Assets: Debtors (Rs. 1,18,200 – Rs. 1,02,000) Decrease in Operating Current Liabilities: Sundry Creditors (Rs. 73,000 – Rs. 61,100)

16,200 11,900 28,100 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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CASH FLOW ANALYSIS

Rs. Cash Generated from Operation Less: Income Tax paid9 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Sale Proceeds of Plant4 Sale Proceeds of Land3 Less:

Purchase of Land & Building3 Purchase of Plant & Machinery4

Rs. 1,93,500 30,000

Rs.

1,63,500 40,000 70,000 1,10,000 2,32,300 78,500 3,10,000

Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Fresh issue of Shares for cash1 Premium Received on fresh issue of Shares6 Less:

Redemption of Debentures7 Premium paid on Redemption of Debentures8 Payment of Dividend10

(2,00,800) 1,00,000 10,000 1,10,000 15,000 1,500 50,000 66,500

Add:

Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Cash & Cash Equivalents on 1 April 2003 Cash & Cash Equivalents on 31 March 2004

43,500 6,200 62,500 68,700

Working Notes 1. Dr.

To Balance c/f

Share Capital Account Rs. By Balance b/f By General Reserve – Bonus Shares issued 7,00,000 By Bank – Fresh issue of Shares for cash (Bal. fig.) 7,00,000

Cr. Rs. 5,00,000 1,00,000 1,00,000

General Reserve Account Rs. 1,00,000 By Balance b/f 45,000 By Profit & Loss A/c – Transfer during 2003–04 (Bal. fig.) 1,45,000

Cr. Rs. 1,00,000 45,000

7,00,000

2. Dr. To Share Capital – Bonus Shares To Balance c/f

1,45,000

3. Dr. To Balance b/f To Capital Reserve – Profit on sale of land To Bank – Purchase of Land & Building (Bal. fig.)

Land & Building Account Rs. 5,00,000 By Bank – Sale proceeds of land 10,200 By Profit & Loss A/c 2,32,300 – Depreciation By Balance c/f 7,42,500

Cr. Rs. 70,000 22,500 6,50,000 7,42,500 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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4. Dr. To Balance b/f To Capital Reserve – Profit on Sale of Plant (Rs. 40,000 – Rs. 35,200) To Bank – Purchased of Land & Building (Bal. fig.)

Plant & Machinery Account Rs. 2,05,000 By Bank – Sale proceeds of Plant By Profit & Loss A/c – Depreciation 4,800 By Balance c/f 78,500 2,88,300

Cr. Rs. 40,000 32,800 2,15,500 2,88,300

5. Dr.

To Balance c/f

Capital Reserve Account Rs. By Balance b/f By Land & Building A/c – Profit on Sale of Land 15,000 By Plant & Machinery A/c – Profit on Sale of Plant 15,000

Cr. Rs. Nil 10,200 4,800 15,000

Securities Premium Account Rs. By Balance b/f 55,000 By Bank – Premium received on fresh issue of Shares (Bal. fig.) 55,000

Cr. Rs. 45,000

6. Dr.

To Balance c/f

10,000 55,000

7. Dr. To Bank – Redeemed (Bal. fig.) To Balance c/f

8% Debenture Account Rs. 15,000 By Balance b/f 85,000 1,00,000

Cr. Rs. 1,00,000 1,00,000

8. Dr.

Premium on Redemption of Debentures Account Rs. To Bank – Premium paid on By Profit & Loss A/c – Premium paid on redemption of Debentures 1,500 redemption adjusted (10% of Rs. 15,000) 1,500

Cr. Rs. 1,500 1,500

9. Dr. To Bank – Tax paid (Bal. fig.) To Balance c/f

Provision for Taxation Account Rs. 30,000 By Balance b/f 45,000 By Profit & Loss A/c – Provision made for 2003–04 75,000

Cr. Rs. 35,000 40,000 75,000

10. Dr. To Bank – Dividend paid (Bal. fig.) To Balance c/f

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Proposed Dividend Account Rs. 50,000 By Balance b/f 70,000 By Profit & Loss A/c – Dividend proposed for 2003–04 1,20,000

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Cr. Rs. 50,000 70,000 1,20,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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CASH FLOW ANALYSIS

Problem 33 KBC Co. Ltd Summarized Balance Sheets as on 31 December 2003 and 31 December 2004 Liabilities

31 March 2003 Rs.

Share Capital: Equity Shares Preference Shares Reserves & Surplus: General Reserve Profit & Loss A/c Loans Current Liabilities: Creditors Bank Overdraft Provision for Taxation Proposed Dividend

31 March 2004 Rs.

65,500 41,100

65,500 38,000

6,000 1,21,000 20,000

8,000 1,24,799 30,000

34,600 15,500 27,200 4,900 3,35,800

40,987 19,370 30,994 7,111 3,64,761

31 March 2003 Rs.

Assets Fixed Assets: Goodwill Land & Building Plant & Machinery Loose Tools Trade Investment Current Assets: Stock Short-term Investment Debtors Bills Receivable Cash

31 March 2004 Rs.

12,000 32,000 75,760 840 9,400

9,000 31,000 94,040 760 10,600

1,72,789 1,050 30,250 1,206 505 3,35,800

1,50,372 7,602 48,147 3,079 10,161 3,64,761

Summary of Profit & Loss A/c for the year that ended on 31 December 2004 Rs. Less:

Less: Less:

Trading Profit (prior to deduction of under-noted items) Depreciation on Land & Building Depreciation on Plant & Machinery Depreciation on Lost Tools Audit fee Directors’ Remuneration Others’ Remuneration Interest on Loan Net Profit before Taxation Provision for Tax Net Profit after Taxation Appropriations: Goodwill written off Transfer to General Reserve Proposed Preference Dividend Proposed Equity Dividend Net Profit for the year 2004 after appropriation Balance of Profit & Loss A/c as on 31 December 2003 Balance of Profit & Loss A/c as on 31 December 2004

1,000 15,120 360 1,200 9,400

Rs.

Rs. 64,684

16,480 1,500 10,600 1,600

3,000 2,000 3,333 8,772

30,180 34,504 13,600 20,904

17,105 3,799 1,21,000 1,24,799

Fixed Asset Schedule

Land & Building Plant & Machinery

Cost Rs. 35,000 1,01,560 1,36,560

Goodwill Loose tools

End of 2003 Depreciation Book Value Rs. Rs. 3,000 32,000 25,800 75,760 28,800 1,07,760 12,000 840 1,20,600

Cost Rs. 35,000 1,26,560 1,61,560

End of 2004 Depreciation Book Value Rs. Rs. 4,000 31,000 32,520 94,040 36,520 1,25,040 9,000 760 1,34,800

Note: During 2004, a Plant was purchased at a cost of Rs. 35,200. Some old Plant was sold for Rs. 2,000. Any gain/loss on sale is included in the trading Profit of Rs. 64,684. Prepare a Cash Flow Statement for the year that ended on 31 December 2004.

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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MANAGEMENT ACCOUNTING

Solution Books of KBC Ltd Cash Flow Statement (under Indirect Method) for the year that ended on 31 December 2004 Rs. A. Cash Flows from Operating Activities: Net Profit after approprition for the year Add: Appropriations: Goodwill written off Transfer to General Reserve Proposed Preference Dividend Proposed Equity Dividend Net Profit before Appropriation Add: Provision for Tax Net Profit before Tax Add: Adjustment for Non-operating and Non-current items charged to Profit & Loss A/c: Interest on Loan Depreciation on Land & Building Depreciation on Plant & Machinery Depreciation on lost tools Less:

Add:

Adjustment for Non-operating and Non-current items credited to Profit & Loss A/c: Profit on Sale of Plant3 Cash from operation before Working Capital Changes Increase in Operating Current Liabilities: Creditors (Rs. 40,987 – Rs. 34,600) Decrease in Operating Current Assets: Stock (Rs. 1,72,789 – Rs. 1,50,372)

Rs.

Rs.

3,799 3,000 2,000 3,333 8,772

17,105 20,904 13,600 34,504

1,600 1,000 15,120 360 18,080 52,584 200 52,384 6,387 22,417 28,804 81,188

Less:

Increase in Operating Current Assets: Debtors (Rs. 48,147 – Rs. 30,250) Bills Receivable (Rs. 3,079 – Rs. 1,206) Decrease in Operating Current Liabilities Cash Generated from Operation Less: Tax paid5 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Sale proceeds of Plant Less: Further Investment10 Purchase of Plant3 Purchase of Loose Tools9 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Loan Raised7 Less: Redemption of Preference Shares6 Payment of Preference & Equity Dividend8 Payment of Interest on Loan11

17,897 1,873 Nil

19,770 61,418 9,806 51,612 2,000

1,200 35,200 280

36,680 (34,680) 10,000

3,100 9,894 1,600 14,594 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

269

CASH FLOW ANALYSIS

Rs.

Add:

Less:

Less:

Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Cash & Cash Equivalents as on 1 January 2004: Cash Short-term Investments Bank overdraft Cash & Cash Equivalents as on 31 December 2004: Cash Short-term Investments Bank Overdraft

Rs.

505 1,050 1,555 15,500

Rs. (4,594) 12,338

(13,945)

10,161 7,602 17,763 19,370 (1,607)

Working Notes 1. Dr.

Land & Building Account Rs. 35,000 By Balance c/f 35,000

To Balance b/f

Cr. Rs. 35,000 35,000

2. Dr.

To Balance c/f

Provision for Depreciation on Land & Building Account Rs. By Balance b/f 4,000 By Profit & Loss A/c – Depreciation for the year 4,000

Cr. Rs. 3,000 1,000 4,000

3. Dr.

Plant & Machinery (at Cost) Account Rs. To Balance b/f 1,01,560 To Bank – Purchased of Plant 35,200 By Provision for Depreciation on Plant & Machinery A/c4 – Accumulated Depreciation on Plant Sold To Profit & Loss A/c – Profit on Sale of Plant 200 By Bank – Sale proceeds of Plant (Bal. fig.) By Balance c/f 1,36,960

Cr. Rs. 8,400

2,000 1,26,560 1,36,960

4. Dr.

Provision for Depreciation on Plant & Machinery Account Rs. To Plant & Machinery – Accumulated 8,400 By Balance b/f Depreciation on Plant Sold To Balance c/f 32,520 By Profit & Loss A/c – Depreciation for the year 40,920

Cr. Rs. 25,800 15,120 40,920 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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MANAGEMENT ACCOUNTING

5. Dr.

Provision for Taxation Account Rs. 9,806 By Balance b/f 30,994 By Profit & Loss A/c – Provision made for this year 40,800

To Bank – Tax paid (Bal. fig.) To Balance c/f

Cr. Rs. 27,200 13,600 40,800

6. Dr.

Preference Share Capital Account Rs. 3,100 By Balance b/f 38,000 41,100

To Bank – Redeemed (Bal. fig.) To Balance c/f

Cr. Rs. 41,100 41,100

7. Dr.

Loan Account Rs. By Balance b/f 30, 000 By Bank – Loan Raised (Bal. fig.) 30,000

To Balance c/f

Cr. Rs. 20,000 10,000 30,000

8. Dr. To Bank – Preference & Equity Dividends paid during the year (Bal. fig.) To Balance c/f

Proposed Dividend Account Rs. 9,894 By Balance b/f 7,111

By Profit & Loss A/c – Proposed Equity & Preference Dividends for the year

Cr. Rs. 4,900 12,105

17,005

17,005

Loose Tool Account Rs. 840 By Profit & Loss A/c – Depreciation 280 By Balance c/f 1,120

Rs. 360 760 1,120

9. Dr. To Balance b/f To Bank – Purchase of Loose Tools (Bal. fig.)

Cr.

10. Dr. To Balance b/f To Bank – Further Investment (Bal. fig.)

Trade Investment Account Rs. 9,400 1,200 By Balance b/f 10,600

Cr.

10,600 10,600

Interest on Loan Account Rs. 1,600 By Profit & Loss A/c – Interest paid charged 1,600

Rs. 1,600 1,600

Rs.

11. Dr. To Bank – Interest paid

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Cr.

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

271

CASH FLOW ANALYSIS

Problem 34 From the following information, prepare a Cash Flow Statement for the year that ended on 31 March 2005: Balance Sheet of Tawang Ltd as on 31 March 2004 and 31 March 2005 Liabilities Share Capital General Reserve Profit & Loss A/c Debentures Creditors for Machinery Creditors for Goods Creditors for Expenses: For Wages For Salaries For Trade Expenses Outstanding Interest on Debentures Provision for Taxation Proposed Dividend

31 March 2004 Rs. 1,00,000 60,000 30,000 50,000 – 40,000

31 March 2005 Rs. 2,00,000 23,000 60,000 80,000 82,000 30,000

7,000 2,000 1,000 10,000

13,000 5,000 2,000 15,000

30,000 20,000 3,50,000

40,000 25,000 5,75,000

Assets Goodwill Land & Building Plant & Machinery Investments Stock Debtors Marketable Securities Bank Cash Prepaid Trade Expenses Accrued Interest on Investment

31 March 2004 Rs. 20,000 70,000 40,000 40,000 42,000 40,000 30,000 55,000 4,000 6,000 3,000

31 March 2005 Rs. 15,000 1,23,000 1,30,000 70,000 65,000 25,000 45,000 72,000 15,000 8,000 7,000

3,50,000

5,75,000

Profit & Loss A/c of Tawang Ltd for the year t hat ended on 31 March 2005 Dr.

Cr. Rs.

To Opening Stock To Purchases: Cash Credit To Wages Add: Outstanding To Gross Profit c/d To Salaries Add: Outstanding To Insurance To Bad Debts To Trade Expenses Add: Outstanding Less: Prepaid To Depreciation To Discount Allowed To Interest on Debentures Add: Outstanding To Loss on Sale of Investment To Provision for Tax

28,000 2,10,000 52,000 6,000

63,000 3,000

Rs. 42,200

2,38,000

Rs. By Sales: Cash Credit By Closing Stock

97,000 4,33,000

58,000 2,57,000 5,95,000 66,000 8,000

By Gross Profit b/d By Discount Received By Interest on Investment

Rs.

5,30,000 65,000

5,95,000 2,57,000 4,000 8,000

6,000 40,000 1,000 41,000 2,000

10,000 5,000

Add: Accrued

4,000

12,000

39,000 32,.000 4,000 15,000 5,000 35,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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MANAGEMENT ACCOUNTING

Dr.

Cr. Rs.

To Net Profit c/d To Goodwill written off To Transfer to General Reserve To Proposed Dividend To Balance c/f

Rs. 63,000 2,73,000 5,000

Rs.

Rs. 2,73,000 63,000

By Net Profit b/d

73,000 15,000 36,000 63,000

63,000

Additional Information: i. During 2004–05, the Bonus Shares of Rs. 50,000 were issued out of General Reserve. ii. During 2004–05, the Debentures of Rs. 10,000 were redeemed at par. iii. Depreciation on Land and Building and Plant and Machinery for the year 2004–05 were amounted to Rs. 17,000 and Rs. 15,000, respectively iv. During 2003–04, the Investments of the Book Value of Rs. 20,000 were sold for Rs. 15,000.  Tutorial Note As the details of Profit & Loss A/c including purchases, sales, and so on, are given in the problem, it can be solved both under Direct Method as well as Indirect Method, as prescribed by the AS-3 for the Cash Flow Statement. That is why, it is solved under both the methods separately. But, for the examination purpose, either of the methods should be adopted according to the choice and efficiency of the students, if not specifically stated in the problem, as regards to the method to be followed.

Solution Method 1 (under Direct Method): Cash Flow Statement of Tawang Ltd for the year that ended on 31 March 2005 A. Cash Flows from Operating Activities: Cash Receipts from Customers: Cash Sales Collection from Credit Sales1 Less: Cash paid to Suppliers and Employees: Cash Purchases Payment for Credit Purchases2 Wages Paid3 Salaries Paid4 Trade Expenses Paid5 Insurance Paid Cash generated from operation Less: Tax Paid6 Net Cash Flows from Operating Activities B. Cash Flows from Investing Activities: Sale proceeds of Investment Interest Received on Investment14

Rs.

Rs.

97,000 4,38,000

5,35,000

Rs.

28,000 2,16,000 52,000 63,000 40,000 8,000 4,07,000 1,28,000 25,000 1,03,000 15,000 8,000

23,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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CASH FLOW ANALYSIS

Less:

Purchase of Land & Building7 Cash purchase of Plant & Machinery8 Further Investment9

Rs. 70,000 23,000 50,000

Rs.

Rs.

1,43,000 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Issue of Shares for Cash 10 Issue of Debentures for Cash11

(1,20,000) 50,000 40,000 90,000

Less:

Redemption of Debentures Payment of Interest on Debentures13 Payment of Dividend12

10,000 10,000 10,000 30,000

Add:

Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Cash & Cash Equivalents as on 1 April 2004: Cash Bank Marketable Securities

60,000 43,000 4,000 55,000 30,000 89,000

Cash & Cash Equivalents as on 31 March 2005: Cash Bank Marketable Securities

15,000 72,000 45,000 1,32,000

Method 2 (under Indirect Method): Cash Flow Statement of Tawang Ltd for the year that ended on 31 March 2005 Rs. A. Cash Flows from Operating Activities: Net Profit for the year after appropriation Add: Appropriations: Goodwill written off Transfer to General Reserve Proposed Dividend

Add: Add:

Net Profit before appropriation Provision for Taxation Net Profit before Tax Adjustment for Non-operating and Non-current items debited to Profit & Loss A/c: Loss on Sale of Investment Interest on Debentures Depreciation

Rs.

Rs.

30,000 5,000 13,000 15,000 33,000 63,000 35,000 98,000

5,000 15,000 32,000 52,000

Less:

Add:

Adjustment for Non-operating and Non-current items credited to Profit & Loss A/c: Interest on Investment Operating Profit before Working Capital changes Increase in Operating Current Liabilities: Creditors for Wages Creditors for Salaries

12,000 1,38,000 6,000 3,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

274

MANAGEMENT ACCOUNTING

Creditors for trade Expenses Decrease in Operating Current Assets: Debtors Decrease in Operating Current Liabilities Creditors for goods Increase in Operating Current Assets: Stock Prepaid trade Expenses Cash generated from operation Less: Income Tax paid6 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Sales proceeds of Investments Interest Received on Investments14

Rs. 1,000

Rs.

15,000

25,000 1,63,000

Rs.

Less:

10,000 23,000 2,000

35,000 1,28,000 25,000 1,03,000

15,000 8,000 23,000

Less:

Purchase of Land & Building7 Cash purchase of Plant & Machinery8 Further Investment9

70,000 23,000 50,000 1,43,000

Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Issue of Shares for Cash10 Issue of Debentures for Cash11

(1,20,000) 50,000 40,000 90,000

Less:

Redemption of Debentures Payment of interest on Debentures13 Payment of Dividend

10,000 10,000 10,000 30,000

Add:

Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Cash & Cash Equivalents as on 1 April 2004: Cash Bank Marketable Securities

60,000 43,000 4,000 55,000 30,000 89,000

Cash & Cash Equivalents as on 31 March 2005: Cash Bank Marketable Securities

15,000 72,000 45,000 1,32,000

Working Notes 1. Dr. To Balance b/f To Sales – Credit

Debtors Account Rs. 40,000 By Bank – Collection from Debtors (Bal. fig.) 4,33,000 By Bad Debt By Discount Allowed By Balance c/f 4,73,000

Cr. Rs. 4,38,000 6,000 4,000 25,000 4,73,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

CASH FLOW ANALYSIS

275

2. Dr. To Bank – Payment to Creditors (Bal. fig.) To Discount Received To Balance c/f

Creditors for Goods Account Rs. 2,16,000 By Balance b/f 4,000 By Purchases – Credit 30,000 2,50,000

Cr. Rs. 40,000 2,10,000 2,50,000

3. Dr. To Bank – Wages paid during the year (Bal. fig.) To Balance c/f

Wages Account Rs. 52,000 By Balance b/f 13,000 By Trading A/c – Wages for the year 65,000

Cr. Rs. 7,000 58,000 65,000

Salaries Account Rs. 63,000 By Balance b/f 5,000 By Profit & Loss A/c – Salaries for the year 68,000

Cr. Rs. 2,000 66,000

4. Dr. To Bank – Salaries Paid during the year (Bal. fig.) To Balance c/f

68,000

5. Dr. To Balance b/f To Bank – Trade Expenses paid during the year (Bal. fig.) To Balance c/f

Trade Expense Account Rs. 6,000 By Balance b/f By Profit & Loss A/c – Trade Expenses 40,000 for the year 2,000 By Balance c/f 48,000

Cr. Rs. 1,000 39,000 8,000 48,000

6. Dr. To Bank – Tax paid (Bal. fig.) To Balance c/f

Provision for Taxation Account Rs. 25,000 By Balance b/f 40,000 By Profit & Loss A/c – Provision made for this year 65,000

Cr. Rs. 30,000 35,000 65,000

7. Dr.

Land & Building Account Rs. 70,000 By Profit & Loss A/c – Depreciation 70,000 By Balance c/f 1,40,000

Cr. Rs. 17,000 1,23,000 1,40,000

Plant & Machinery Account Rs. To Balance b/f 40,000 By Profit & Loss A/c – Depreciation To Creditors for Machinery – Credit purchase 82,000 By Balance c/f To Bank – Cash purchase (Bal. fig.) 23,000 1,45,000

Cr. Rs. 15,000 1,30,000

To Balance b/f To Bank – Purchases (Bal. fig.)

8. Dr.

1,45,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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MANAGEMENT ACCOUNTING

9. Dr. To Balance c/f To Bank – Further Investment (Bal. fig.)

Investment Account Rs. 40,000 By Bank – Sale proceeds 50,000 By Profit & Loss A/c – Loss on Sale By Balance c/f 90,000

Cr. Rs. 15,000 5,000 70,000 90,000

10. Dr.

To Balance c/f

Share Capital Account Rs. By Balance b/f By General Reserve – Bonus Shares issued 2,00,000 By Bank – Fresh issue of Shares for cash (Bal. fig.) 2,00,000

Cr. Rs. 1,00,000 50,000

Debentures’ Account Rs. 10,000 By Balance b/f 8,00,000 By Bank – Fresh issue (Bal. fig.) 90,000

Cr. Rs. 50,000 40,000 90,000

50,000 2,00,000

11. Dr. To Bank – Redeemed To Balance c/f

12. Dr. To Bank – Dividend paid (Bal. fig.) To Balance c/f

Proposed Dividend Account Rs. 10,000 By Balance b/f 25,000 By Profit & Loss A/c – Dividend proposed for the year 35,000

Cr. Rs. 20,000 15,000 35,000

13. Dr. To Bank – Interest paid (Bal. fig.) To Balance c/f

Interest on Debentures Account Rs. 10,000 By Balance b/f 15,000 By Profit & Loss A/c – Interest Payable for the year 25,000

Cr. Rs. 10,000 15,000 25,000

14. Dr.

Accrued Interest on Investment Account Rs. To Balance b/f 3,000 By Bank – Interest Received (Bal. fig.) To Profit & Loss A/c – Interest Receivable 12,000 By Balance c/f for the year 15,000

Cr. Rs. 8,000 7,000 15,000

Note: Under Indirect Method, Working Notes – No. 1, 2, 3, 4 and 5 need not be prepared.

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

277

CASH FLOW ANALYSIS

Problem 35 Following were the Balance Sheets of Macao Ltd, as on 31 March 2007 and 31 March 2008: Liabilities Equity Share Capital Preference Share Capital Profit & Loss A/c General Reserve Securities Premium Capital Reserve Sundry Creditors Proposed Dividend Provision for Taxation Bills Payable

As on 31 March 2007 Rs. 3,00,000 1,50,000 30,000 40,000 20,000 – 55,000 42,000 40,000 20,000 6,97,000

As on 31 March 2008 Rs. 3,50,000 1,00,000 73,000 75,000 25,000 20,000 83,000 50,000 50,000 16,000 8,42,000

Assets Goodwill Land & Building Plant & Machinery Investment Stock Debtors Bills Receivable Cash & Bank Preliminary Expenses

As on 31 March 2007 Rs. 1,00,000 2,00,000 80,000 20,000 77,000 1,40,000 20,000 25,000 35,000

As on 31 March 2008 Rs. 85,000 1,70,000 2,00,000 35,000 1,00,000 1,70,000 30,000 22,000 30,000

6,97,000

8,42,000

Additional Information: i. One piece of land was sold at a profit which was credited to Capital Reserve. ii. One machine, having a Book Value of Rs. 18,000, was sold for Rs. 15,000. iii. Depreciation charged on Plant and Machinery for the year 2007–08 was Rs. 16,000. iv. Tax Paid for the year 2006–07 amounted to Rs. 36,000. v. Dividend on Investment of Rs. 4,000 was received during the year, which included a pre-acquisition Dividend of Rs. 1,000. vi. Out of the Proposed Dividend for the year 2006–07, Rs. 35,000 was approved by the Share Holders and paid in 2007–08, along with an Interim Dividend for the year of Rs. 12,000. Prepare a Cash Flow Statement for the year that ended on 31 March 2008. Solution Cash Flow Statement (under Indirect Method) of Macao Ltd for the year that ended on 31 March 2008 Rs. A. Cash Flows from Operating Activities: Net Profit (after appropriation) for the year8 Add: Adjustment for Non-operating & Non-current items debited to Profit & Loss A/c: Proposed Dividend6 Transfer to General Reserve8 Interim Dividend7 Goodwill written off8 Preliminary Expenses written off8 Loss on Sale of Machinery2 Depreciation on Plant & Machinery2 Provision for Tax5 Less:

Adjustment for Non-operating & Non-current items credited to Profit & Loss A/c: Post-acquisition Dividend on Investment4 Operating Profit before Working Capital changes

Rs.

Rs.

43,000

43,000 35,000 12,000 15,000 5,000 3,000 16,000 46,000

1,75,000 2,18,000

3,000 2,15,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

278

MANAGEMENT ACCOUNTING

Rs. Add:

Increase in Operating Current Liabilities: Sundry Creditors Decrease in Operating Current Assets

Decrease in Operating Current Liabilities: Bills Payable Increase in Operating Current Assets: Inventory Debtors Bills Receivable Cash Generated from Operation Less: Income Tax paid5 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of land1 Proceeds from Sale of Machinery2 Dividend Received from Investment3&4

28,000 Nil

Rs.

Rs.

28,000 2,43,000

Less:

4,000 23,000 30,000 10,000

67,000 1,76,000 36,000 1,40,000

50,000 15,000 4,000 69,000

Less:

Purchase of new Machinery2 New Investment Made3

1,54,000 16,000 1,70,000

Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from New Issue of Equity Shares including premium8 Less: Redemption of Preference Shares8 Payment of Proposed Dividend6 Payment of Interim Dividend7 Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

(1,01,000)

55,000 50,000 35,000 12,000

97,000 (42,000) (3,000) 25,000 22,000

Working Notes 1. Dr. To Balance b/f To Capital Reserve – Profit on Sale of land

Land & Building Account Rs. 2,00,000 By Bank – Sale proceeds 20,000 By Balance c/f 2,20,000

Cr. Rs. 50,000 1,70,000 2,20,000

2. Dr. To Balance b/f To Bank – Cost of new Machinery

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Plant & Machinery Account Rs. 80,000 By Bank – Sale proceeds 1,54,000 By Profit & Loss A/c – Loss on Sale of Machinery (Rs. 18,000 – Rs. 15,000) By Profit & Loss A/c – Depreciation for the year By Balance c/f 2,34,000

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Cr. Rs. 15,000 3,000 16,000 2,00,000 2,34,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

279

CASH FLOW ANALYSIS

3. Dr.

Investment Account Rs. 20,000 By Bank – Pre-acquisition Dividend Received & credited 16,000 By Balance c/f 36,000

To Balance b/f To Bank – New Investment made

Cr. Rs. 1,000 35,000 36,000

4. Dr.

Dividend (Post-Acquisition) on Investment Account Rs. To Profit & Loss A/c – Dividend Received & 3,000 By Bank – Post-acquisition Dividend credited Received 3,000

Cr. Rs. 3,000 3,000

5. Dr.

Provision for Tax Account Rs. 36,000 By Balance b/f

To Bank – Tax for the year 2006–07 paid in 2007–08 To Balance c/f

50,000

Cr. Rs. 40,000

By Profit & Loss A/c – Provision made in 2007–08

86,000

46,000 86,000

6. Dr. To Bank – Dividend for the year 2006–07 paid in 2007–08 To Balance c/f

Proposed Dividend Account Rs. 35,000 By Balance b/f

50,000 85,000

Cr. Rs. 42,000

By P&L Appropriation A/c – Dividend proposed in 2007–08

43,000 85,000

7. Dr.

Interim Dividend Account Rs. 12,000 By Profit & Loss appropriation A/c – Interim Dividend adjusted 12,000

To Bank – Interim Dividend paid

8.

Cr. Rs. 12,000 2,000

Analysis of other Non-current Assets and Liabilities Assets/Liabilities

Goodwill Preliminary Expenses Equity Share Capital Preference Share Capital Securities premium Capital Reserve General Reserve Profit & Loss A/c

Opening Balance Rs. 1,00,000 35,000 3,00,000 1,50,000 20,000 – 40,000 30,000

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Closing Balance Rs. 85,000 30,000 3,50,000 1,00,000 25,000 20,000 75,000 73,000

Increase/ Decrease Rs. (−)15,000 (−)5,000 (+)50,000 (−)50,000 (+)5,000 (+)20,000 (+)35,000 (+)43,000

Analysis Written off against Profit & Loss A/c Written off against Profit & Loss A/c New issue of Equity Shares Redemption of Preference Shares Premium Received on New Issue of Equity Shares Profit on Sale of land Transfer from Profit & Loss A/c Net Profit (after appropriation) for the year

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

280

MANAGEMENT ACCOUNTING

Problem 36 The Balance Sheet of New Light Ltd for the year that ended on 31 March 2001 and 31 March 2002 are as follows: Liabilities Equity Share Capital 10% Preference Share Capital Capital Reserve General Reserve Profit & Loss A/c 9% Debentures Current Liabilities Proposed Dividend Provision for Tax Unpaid Dividend

31 March 2001 Rs. 12,00,000 4,00,000 – 6,80,000 2,40,000 4,00,000 4,80,000 1,20,000 3,60,000 – 38,80,000

31 March 2002 Rs. 16,00,000 2,80,000 40,000 8,00,000 3,00,000 2,80,000 5,20,000 1,44,000 3,40,000 16,000 43,20,000

Assets

Less:

Fixed Assets Depreciation Investment Cash Other Current Assets Preliminary Expenses

31 March 2001 Rs. 32,00,000 9,20,000 22,80,000 4,00,000 10,000 11,10,000 80,000

31 March 2002 Rs. 38,00,000 11,60,000 26,40,000 3,20,000 10,000 13,10,000 40,000

38,80,000

43,20,000

Additional Information: i. The company sold one Fixed Asset for Rs. 1,00,000, the cost of which was Rs. 2,00,000 and the depreciation provided on it was Rs. 80,000. ii. The company also decided to write off another Fixed Asset costing Rs. 56,000 on which a depreciation amounting to Rs. 40,000 has been provided. iii. Depreciation on Fixed Assets provided was Rs. 3,60,000. iv. Company sold some Investment at a Profit of Rs. 40,000, which was credited to the Capital Reserve. v. Debentures and Preference Shares were redeemed at a 5% premium. vi. Company decided to value the stock at cost, whereas previously the practice was to value the stock at cost less 10%. The stock according to books on 31 March 2001 was Rs. 2,16,000. The stock on 31 March 2002 was correctly valued at Rs. 3,00,000. Prepare a Cash Flow Statement as per AS-3 by Indirect Method. [C.A. (Inter)—November 2003]

Solution Cash Flow Statement (under Indirect Method) of New Light Ltd for the year that ended on 31 March 2002 Rs. A. Cash Flows from Operating Activities: Net Profit (after appropriation) for the year Add: Adjustment for Non-operating & Non-current items debited to Profit & Loss A/c: Proposed Dividend4 Transfer to General Reserve9 Premium on Redemption of Preference Shares7 Fixed asset written off 1 Preliminary Expenses written off 9 Loss on Sale of Fixed Asset1

Rs.

Rs.

60,000

1,44,000 1,20,000 6,000 16,000 40,000 20,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

281

CASH FLOW ANALYSIS

Premium on Redemption of Debentures8 Depreciation on Fixed Assets2 Provision for Tax6 Less:

Rs. 6,000 3,60,000 3,40,000

Inflated Profit due to undervaluation of Opening Stock (10/90 × Rs. 2,16,000)

Operating Profit before Working Capital changes Increase in Operating Current Assets: Stock [Rs. 3,00,00 – (Rs. 2,16,000 + Rs. 24,000)] Other Current Assets [(13,10,000 – 3,00,000) – (11,10,000 – 2,16,000)] Cash generated from operation Less: Income Tax paid6 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Fixed Assets1 Proceeds from Sale of Investment3

Rs.

Rs.

10,52,000 11,12,000 24,000

10,88,000

Less:

Purchase of Fixed Assets1 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from New Issue of Equity Shares9 Less: Redemption of Preference Shares9 &7 Redemption of Debentures9 &8 Payment of Dividend4 Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

60,000 1,16,000

1,76,000 9,52,000 3,60,000 5,92,000

1,00,000 1,20,000 2,20,000 8,56,000

Less:

(6,36,000) 4,00,000 1,26,000 1,26,000 1,04,000

3,56,000 44,000 Nil 10,000 10,000

Working Notes 1. Dr. To Balance b/f To Bank – Cost of New Fixed Assets (Bal. fig.)

Fixed Asset (at Cost) Account Rs. 32,00,000 By Provision for Depreciation A/c – Accumulated Depreciation on Fixed Assets sold 8,56,000 By Bank – Sale proceeds By Profit & Loss A/c – Loss on Sale of Fixed Assets [(2,00,000 – 80,000) – 1,00,000] By Provision for Depreciation A/c – Accumulated Depreciation on Fixed Asset written off By Profit & Loss A/c – WDV of the Fixed Asset written off By Balance c/f 40,56,000

Cr. Rs. 80,000 1,00,000 20,000

40,000 16,000 38,00,000 40,56,000 (Continued )

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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MANAGEMENT ACCOUNTING

2. Dr.

Provision for Depreciation Account Rs. 80,000 By Balance b/f

To Fixed Asset A/c – Accumulated Depreciation on Fixed Assets sold To Fixed Asset A/c – Accumulated Depreciation on Fixed Asset written off To Balance c/f

40,000

By Profit & Loss A/c – Depreciation for the year

Cr. Rs. 9,20,000 3,60,000

11,60,000 12,80,000

12,80,000

Investment Account Rs. 4,00,000 By Bank – Sale proceeds of Investment 40,000 By Balance c/f

Cr. Rs. 1,20,000 3,20,000

4,40,000

4,40,000

3. Dr. To Balance b/f To Capital Reserve A/c – Profit on Sale of Investment

4. Dr.

Proposed Dividend Account Rs. To Bank – Dividend paid (1,20,000 – 16,000) 1,04,000 By Balance b/f To Unpaid Dividend A/c 16,000 By Profit & Loss appropriation A/c – Dividend not claimed – Dividend proposed in 2001–02 (Bal. fig.) To Balance c/f 1,44,000 2,64,000

Cr. Rs. 1,20,000 1,44,000

2,64,000

5. Dr.

To Balance c/f

Unpaid Dividend Account Rs. By Balance b/f 16,000 By Proposed Dividend A/c 16,000

Cr. Rs. Nil 16,000 16,000

Provision for Tax Account Rs. 3,60,000 By Balance b/f

Cr. Rs. 3,60,000

6. Dr. To Bank – Tax for the year 2000–01 paid in 2001–02 To Balance c/f

3,40,000

By Profit & Loss A/c – Provision made in 2001–02

7,00,000

3,40,000 7,00,000

7. Dr.

Premium on Redemption of Preference Share Account Rs. To Bank – Premium paid on redemption 6,000 By Profit & Loss A/c – Premium paid (5% on Rs. 1,20,000) adjusted 6,000

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Cr. Rs. 6,000 6,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

CASH FLOW ANALYSIS

283

8. Dr.

Premium on Redemption of Debentures’ Account Rs. To Bank – Premium paid on redemption 6,000 By Profit & Loss A/c – Premium paid (5% on Rs. 1,20,000) adjusted 6,000

Cr. Rs. 6,000 6,000

9. Analysis of other Non-current Assets and liabilities Assets/Liabilities Preliminary Expenses Equity Share Capital Preference Share Capital Debentures Capital Reserve General Reserve Profit & Loss A/c

Opening Balance Rs. 80,000 12,00,000 4,00,000 4,00,000 – 6,80,000 2,40,000

Closing Balance Rs. 40,000 16,00,000 2,80,000 2,80,000 40,000 8,00,000 3,00,000

Increase/ Decrease Rs. (−)40,000 (+)4,00,000 (−)1,20,000 (−)1,20,000 (+)40,000 (+)1,20,000 (+)60,000

Analysis Written off against Profit & Loss A/c New issue of Equity Shares Redemption of Preference Shares Redemption of Debentures Profit on Sale of Investment Transfer from Profit & Loss A/c Net Profit (after appropriation) for the year

Problem 37 Balance Sheets of Honululu Ltd as on 31 March 2007 and 31 March 2008 were as follows: Liabilities Equity Share Capital (Rs. 10) 8% Preference Shares of Rs. 100 each, Rs. 75 per share called up & paid up Securities premium Capital Redemption Reserve General Reserve Profit & Loss A/c Sundry Creditors Proposed Dividend Provision for Taxation Bills Payable Unclaimed Dividend

As on 31 March 2007 Rs. 3,00,000 1,12,500

As on 31 March 2008 Rs. 4,00,000 –

20,000 – 30,000 60,000 12,500 20,000 20,000 5,000 – 5,80,000

7,000 1,10,000 50,000 40,000 50,000 30,000 30,000 – 3,000 7,20,000

Land & Building Plant & Machinery

As on 31 March 2007 Rs. 2,00,000 80,000

As on 31 March 2008 Rs. 1,70,000 2,00,000

Furniture Investment Inventory Sundry Debtors Cash & Bank Preliminary Expenses

80,000 20,000 77,000 1,40,000 25,000 35,000

2,00,000 35,000 1,00,000 1,70,000 22,000 30,000

5,80,000

7,20,000

Assets

Additional Information: i. During the year 2007–08, an old machine, whose book value was Rs. 60,000, was sold at a loss of Rs. 8,000, and it was replaced by a new machine costing Rs. 1,60,000. ii. Depreciation on furniture provided for the year 2007–08 amounted to Rs. 15,000. A part of the furniture was sold at a Profit of Rs. 3,000 and the cost of new furniture acquired during the year was Rs. 78,000. iii. A Preference Share final call @ Rs. 25 per share was made before redeeming the preference shares at a premium of 10%. The Securities Premium Account was utilized to provide the premium paid and the redemption was made partly out of profit and partly out of new issue of Equity Shares at 5% premium.

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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MANAGEMENT ACCOUNTING

iv. A bonus Dividend was declared during 2007–08 to the old Equity Shareholders, @ one Equity Share at par for every five Equity Shares held, out of general reserve. v. Before Redemption, a Preference Dividend for the year 2007–08 was paid by the company. Prepare a Cash Flow Statement for the year that ended on 31 March 2008.

Solution Cash Flow Statement (under Indirect Method) of Honululu Ltd for the year that ended on 31 March 2008 Rs. A. Cash Flows from Operating Activities: Net Profit (after appropriation) for the year: Balance of Profit & Loss A/c as on 31 March 2008 Less: Balance of Profit & Loss A/c as on 31 March 2007 Add:

Less:

Add:

Adjustment for Non-operating & Non-current items debited to Profit & Loss A/c: Transfer to Capital Redemption Reserve5 Transfer to General Reserve6 Preference-Dividend Declared7 Proposed-Dividend Declared8 Preliminary Expenses written off13 Loss on Sale of Machinery11 Depreciation on Plant & Machinery11 Depreciation on Furniture12 Provision for Tax10 Adjustment for Non-operating & Non-current items credited to Profit & Loss A/c: Profit on Sale of Furniture12 Operating Profit before Working Capital changes Increase in Operating Current Liabilities: Sundry Creditors Decrease in Operating Current Assets: Inventory

Decrease in Operating Current Liabilities: Bills Payable Increase in Operating Current Assets: Sundry Debtors Cash Generated from Operation Less: Income Tax paid10 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Furniture12 Proceeds from Sale of Machinery11

Rs.

Rs.

40,000 60,000 (20,000)

1,10,000 80,000 9,000 30,000 10,000 8,000 20,000 15,000 30,000

3,12,000 2,92,000

3,000 2,89,000 37,500 12,000

49,500 3,38,500

Less:

5,000 12,000

17,000 3,21,500 20,000 3,01,500

26,000 52,000 78,000

Less:

Purchase of New Machinery11 New Investment made13 Purchase of New Furniture12 Addition to Building13

1,60,000 10,000 78,000 10,000 2,58,000

Net Cash Flow from Investing Activities

(1,80,000) (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

285

CASH FLOW ANALYSIS

Rs. C. Cash Flows from Financing Activities: Proceeds Received from New Issue of Equity Shares, including premium1 & 4 (40,000 + 2,000) Receipt of final Preference Share call2

Rs.

Rs.

42,000 37,500 79,500

Less:

Redemption of Preference Shares, including premium2 & 3 (1,50,000 + 15,000) Payment of Preference Dividend7 Payment of proposed Dividend8

1,65,000 9,000 17,000 1,91,000

Add:

Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

(1,11,000) 10,000 20,000 30,000

Working Notes 1. Dr.

Equity Share Capital Account Rs. By Balance b/f By General Reserve – Bonus Shares issued (1/5 × 30,000 = 6,000 Shares of Rs. 10) 4,00,000 By Bank – New issue of Shares for cash 4,00,000 (Bal. fig.)

To Balance c/f

Cr. Rs. 3,00,000 60,000 40,000 4,00,000

2. Dr.

8% Preference Share Capital Account Rs. To Bank – Preference Shares Redeemed 1,50,000 By Balance b/f By Bank – Final call on Shares Received (1,500 × Rs. 25) 1,50,000

Cr. Rs. 1,12,000 37,500 1,50,000

Note: No. of Preference Shares = Rs. 1,12,500 ÷ Rs. 75 = 1,500 shares.

3. Dr.

Premium on Redemption on Preference Share Account Rs. To Bank – Premium paid on redemption 15,000 By Securities premium A/c – Premium paid on redemption adjusted 15,000

Cr. Rs. 15,000 15,000

4. Dr. To Premium on redemption on Preferenceshare A/c – Premium-paid adjusted To Balance c/f

Securities Premium Account Rs. By Balance b/f 15,000 7,000 By Bank – Premium Received on New Issue of Equity Shares (5% on Rs. 40,000) 22,000

Cr. Rs. 20,000

2,000 22,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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MANAGEMENT ACCOUNTING

5. Dr.

Capital Redemption Reserve Account Rs. 1,10,000 By Balance b/f By Profit & Loss A/c – Difference between face value of Preference Shares redeemed & face value of new shares issued for cash transferred 1,10,000

To Balance c/f

Cr. Rs. – 1,10,000

1,10,000

6. Dr.

General Reserve Account Rs. By Balance b/f 60,000 50,000 By Profit & Loss A/c – Transfer during the year (Bal. fig.) 1,10,000

To Equity share capital A/c – Bonus Dividend declared To Balance c/f

Cr. Rs. 30,000 80,000 1,10,000

7. Dr. To Bank – Preference Dividend paid (8% on Rs. 1,12,500)

Preference Dividend Account Rs. 9,000 By Profit & Loss A/c – Preference Dividend Declared 9,000

Cr. Rs. 9,000 9,000

8. Dr. To Bank – Dividend for 2006–07 paid (20,000 – 3,000) To Unpaid Dividend A/c9 – Dividend not claimed To Balance c/f

Proposed Dividend Account Rs. 17,000 By Balance b/f 3,000

By Profit & Loss appropriation A/c – Dividend proposed in 2007–08

30,000 50,000

Cr. Rs. 20,000 30,000

50,000

9. Dr.

To Balance c/f

Unpaid Dividend Account Rs. By Balance b/f 3,000 By Proposed Dividend A/c – Unpaid Dividend for 2006–07 3,000

Cr. Rs. Nil 3,000 3,000

10. Dr. To Bank – Tax for the year 2006–07 paid in 2007–08 To Balance c/f

Provision for Tax Account Rs. 20,000 By Balance b/f

Cr. Rs. 20,000

30,000

30,000

By Profit & Loss A/c – Provision made for 2007–08

50,000

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

50,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

287

CASH FLOW ANALYSIS

11. Dr.

Plant & Machinery Account Rs. 2,00,000 By Bank – Sale proceeds of old machine (60,000 – 8,000) 1,60,000 By Profit & Loss A/c – Loss on Sale of old Machinery By Profit & Loss A/c – Depreciation for the year (Bal. fig.) By Balance c/f 3,60,000

To Balance b/f To Bank – Cost of new Machinery

Cr. Rs. 52,000 8,000 20,000 2,80,000 3,60,000

12. Dr. To Balance b/f To Bank – Cost of new furniture To Profit & Loss A/c – Profit on Sale of furniture

Furniture Account Rs. 80,000 By Bank – Sale proceeds of furniture (Bal. fig.) 78,000 By Profit & Loss A/c – Depreciation for the year 3,000 By Balance c/f 1,61,000

Cr. Rs. 26,000 15,000 1,20,000 1,61,000

13. Analysis of other Non-current Assets and Liabilities Assets/Liabilities Land & Building Preliminary Expenses Investment

Opening Balance Rs. 1,30,000 20,000 30,000

Closing Balance Rs. 1,40,000 10,000 40,000

Increase/ Decrease Rs. (+)15,000 (−)10,000 (+)10,000

Analysis Addition to building Written off against Profit & Loss A/c New Investment made

Problem 38 From the following Balance Sheet and information, prepare a Cash Flow Statement of Ryan Ltd for the year that ended on 31 March 2003.

Liabilities Equity Share Capital 10% Redeemable Preference capital Capital Redemption Reserve Capital Reserve General Reserve Profit & Loss A/c 9% Debentures Sundry Creditors Bills Payable Liabilities for Expenses Provision for Taxation Proposed Dividend

31 March 2003 Rs.

31 March 2002 Rs.

6,00,000 – 1,00,000 1,00,000 1,00,000 70,000 2,00,000 95,000 20,000 30,000 95,000 90,000 15,00,000

5,00,000 2,00,000 – – 2,50,000 50,000 – 80,000 30,000 20,000 60,000 60,000 12,50,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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MANAGEMENT ACCOUNTING

Assets Land & Building Plant & Machinery Investments Inventory Bills Receivable Sundry Debtors Cash & Bank Preliminary Expenses Voluntary Separation Payments

31 March 2003 Rs.

31 March 2002 Rs.

1,50,000 7,65,000 50,000 95,000 65,000 1,75,000 65,000 10,000 1,25,000 15,00,000

2,00,000 5,00,000 80,000 90,000 70,000 1,30,000 90,000 25,000 65,000 12,50,000

Additional Information: i. A piece of land has been sold out for Rs. 1,50,000 (cost – Rs. 1,20,000) and the balance land was revalued. The capital reserve consisted of Profit on sale and Profit on revaluation. ii. On 1 April 2002, a Plant was sold for Rs. 90,000 (original cost – Rs. 70,000 & WDV – Rs. 50,000), and Debentures worth Rs. 1 lakh was issued at par as a part of consideration for a Plant of Rs. 4.5 lakh acquired. iii. Part of the Investments (cost – Rs. 50,000) was sold for Rs. 70,000. iv. Pre-acquisition Dividend received was Rs. 5,000 and it was adjusted against the Cost of Investment. v. Director has proposed a 15% Dividend for the current year. vi. Voluntary Separation cost of Rs. 50,000 was adjusted against General Reserve. vii. Income Tax liability for the current year was estimated at Rs. 1,35,000. viii. Depreciation @ 15% has been written off from the Plant account but no depreciation has been charged on land and building. [C.A. (PE II)—May 2003]

Solution Cash Flow Statement (under Indirect Method) of Ryan Ltd for the year that ended on 31 March 2003 Rs. A. Cash Flows from Operating Activities: Net Profit (after appropriation) for the year9 Add: Adjustment for Non-operating & Non-current items Debited to Profit & Loss A/c: Proposed Dividend8 Preliminary Expenses written off 9 Depreciation on Plant & Machinery2 Provision for Taxation7 Less:

Adjustment for Non-operating & Non-current items credited to Profit & Loss A/c: Profit on Sale of Plant2 Profit on Sale of Investment3 Operating Profit before Working Capital Changes

Rs.

Rs.

20,000

90,000 15,000 1,35,000 1,35,000

40,000 20,000

3,75,000 3,95,000

60,000 3,35,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

CASH FLOW ANALYSIS

Rs. Add:

Less:

Increase in Operating Current Liabilities: Sundry Creditors Liability for Expenses Decrease in Operating Current Assets: Bills Receivable Decrease in Operating Current Liabilities: Bills Payable Increase in Operating Current Assets: Sundry Debtors Inventory

Payment of voluntary separation cost5 Cash generated from operation Less: Income Tax paid7 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Land1 Proceeds from Sale of Plant2 Proceeds from Sale of Investment3 Pre-acquisition Dividend Received on Investment3

Rs.

289

Rs.

15,000 10,000 5,000

30,000 3,65,000

10,000 45,000 5,000

Less:

60,000 3,05,000 1,10,000 1,95,000 1,00,000 95,000

1,50,000 90,000 70,000 5,000 3,15,000

Less:

Plant acquired for cash2 New Investment made3

3,50,000 25,000 3,75,000

Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: New issue of Equity Shares for cash9 New issue of Debentures for cash6

(60,000) 1,00,000 1,00,000 2,00,000

Less:

Redemption of Preference Shares9 Payment of Dividend8

2,00,000 60,000 2,60,000

Add:

Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

(60,000) (25,000) 90,000 65,000

Working Notes 1.

Dr. To Balance b/f To Capital Reserve – Profit on Sale of Land (1,50,000 – 1,20,000) To Capital Reserve – Profit on Revaluation of Land (Bal. fig.)

Land & Building Account Rs. 2,00,000 By Bank – Sale proceeds of Land By Balance c/f 30,000 70,000 3,00,000

Cr. Rs. 1,50,000 1,50,000

3,00,000 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

290

MANAGEMENT ACCOUNTING

2. Dr.

Plant & Machinery Account Rs. To Balance b/f 5,00,000 By Bank – Sale proceeds of Plant Machine (60,000 – 8,000) To Profit & Loss A/c – Profit on Sale of Plant 40,000 By Profit & Loss A/c – Depreciation for (90,000 – 50,000) the year [15% on {(5,00,000 – 50,000) + 4,50,000}] To 9% Debentures A/c – Part of the 1,00,000 consideration for Plant Acquired discharged To Bank – Balance of the consideration for 3,50,000 By Balance c/f Plant Acquired Discharged (4,50,000 – 1,00,000) 9,90,000

Cr. Rs. 90,000 1,35,000

7,65,000

9,90,000

3. Dr. To Balance b/f To Profit & Loss A/c – Profit on Sale of Investment (70,000 – 50,000) To Bank – New Investment made (Bal. fig.)

Investment Account Rs. 80,000 By Bank – Sale proceeds of Investment By Bank – Pre-acquisition Dividend 20,000 received 25,000 By Balance c/f 1,25,000

Cr. Rs. 70,000 5,000 50,000 1,25,000

4. Dr.

General Reserve Account Rs. To Voluntary Separation cost – Written off 50,000 By Balance b/f To Capital Redemption Reserve – Difference 1,00,000 between Face Value of Preference Shares Redeemed & Face Value of New Equity Shares issued (2,00,000 – 1,00,000) To Balance c/f 1,00,000 2,50,000

Cr. Rs. 2,50,000

2,50,000

5. Dr.

Voluntary Separation Cost Account Rs. To Balance b/f 65,000 By General Reserve – Written off To Bank – Voluntary Separation Cost Incurred 1,10,000 By Balance c/f 1,75,000

Cr. Rs. 50,000 1,25,000 1,75,000

6. Dr.

To Balance c/f

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

9% Debenture Account Rs. By Balance b/f By Plant & Machinery A/c – Part of the consideration for Plant Acquired discharged 2,00,000 By Bank – New Issue of debenture for cash (Bal. fig.) 2,00,000

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Cr. Rs. – 1,00,000

1,00,000 2,00,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

291

CASH FLOW ANALYSIS

7. Dr.

Provision for Taxation Account Rs. 1,00,000 By Balance b/f 95,000 By Profit & Loss A/c – Provision made for 2002–03 1,95,000

To Bank – Tax Liability paid (Bal. fig.) To Balance c/f

Cr. Rs. 60,000 1,35,000 1,95,000

8. Dr. To Bank – Dividend for 2001–02 paid in 2002–03 To Balance c/f

Proposed-Dividend Account Rs. 60,000 By Balance b/f 90,000

Cr. Rs. 60,000

By Profit & Loss appropriation A/c – Dividend proposed in 2002–03

90,000

1,50,000

9.

1,50,000

Analysis of other Non-current Assets and liabilities Opening Balance Rs. 5,00,000 2,00,000 –

Closing Balance

Capital Redemption Reserve Profit & Loss A/c

– 50,000

1,00,000 70,000

Preliminary Expenses

25,000

10,000

Assets/Liabilities Equity Share Capital Preference Share Capital Capital Reserve

Rs. 6,00,000 – 1,00,000

Increase/ Decrease Analysis Rs. (+)1,00,000 New issue for cash (−)2,00,000 Redeemed for cash (+)1,00,000 Profit on Sale & Profit on revaluation of land (+)1,00,000 Transfer from General Reserve (+)20,000 Net Profit for the year after appropriation (−)15,000 Written off against Profit & Loss A/c

Problem 39 The Balance Sheet of JK Limited as on 31 March 2005 and 31 March 2006 are given as follows:

Liabilities Share Capital Capital Reserve General Reserve Profit & Loss A/c 9% Debenture Current Liabilities Proposed Dividend Provision for Tax Unpaid Dividend

31 March 2005 1,440 – 816 288 960 576 144 432 – 4,656

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Balance Sheet as on 31 March Assets 2006 1,920 Fixed Assets 48 Less: Depreciation 960 360 Investment 672 Cash 624 Other Current Assets (including Stock) 174 408 Preliminary Expenses 18 5,184

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rs. in ’000 31 31 March March 2005 2006 3,840 4,560 (1,104) (1,392) 2,736 3,168 480 384 210 312 1,134 1,272

96

48

4,656

5,184

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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MANAGEMENT ACCOUNTING

Additional Information: i. During the year 2005–06, Fixed Assets with a book value of Rs. 2,40,000 (accumlated depreciation – Rs. 84,000) was sold for Rs. 1,20,000. ii. Provided Rs. 4,20,000 as depreciation. iii. Some Investments are sold at a Profit of Rs. 48,000 and the Profit was credited to Capital Reserve. iv. It was decided that the stocks be Valued at Cost, whereas previously the practice was to value the stock at a cost less 10%. The stock was Rs. 2,59,200 as on 31 March 2005. The stock as on 31 March 2006 was correctly valued at Rs. 3,60,000. v. It was decided to write off the Fixed Assets costing Rs. 60,000 on which a depreciation amouning to Rs. 48,000 has been provided. vi. Debentures are redeemed at Rs. 105. Required: Prepare a Cash Flow Statement. [C. A. (PE II)—May 2007]

Solution Cash Flow Statement (under Indirect Method) of JK Ltd for the year that ended on 31 March 2006 Rs. in ’000 A. Cash Flows from Operating Activities: Net Profit (after appropriation) for the year8 Add: Adjustment for Non-operating & Non-current items debited to Profit & Loss A/c: Transfer to General Reserve8 Proposed Dividend4 Preliminary Expenses written off8 Loss on Sale of Fixed Asset1 Depreciation on Fixed Assets Fixed Asset written off1 Provision for Tax6 Premium on Redemption of Debentures7 Less: Add:

Undervaluation of Opening Stock (10 / 90 × Rs. 2,59,200) Operating Profit before Working Capital Changes Increase in Operating Current Liabilities Decrease in Operating Current Assets

Less:

Decrease in Operating Current Liabilities Increase in Operating Current Assets [1,272 – (1,134 + 28.80)] Cash generated from operation Less: Income Tax paid Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Fixed Asset1 Proceeds from Sale of Investment3 Less: Purchase of Fixed Assets1 Net Cash Flow from Investing Activities

Rs. in ’000

Rs. in ’000

72.00

144 174 48 120 420 12 408 14.40

48 Nil Nil 109.20

1,340.40 1,412.80 28.80 1,383.60 48.00 1,431.60 109.20 1,322.80 432.00 890.40

120.00 144.00

264.00 1,104.00 (840.00) (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

293

CASH FLOW ANALYSIS

Rs. in ’000 C. Cash Flows from Financing Activities: Proceeds Received from New Issue of Shares8 Less: Redemption of Debentures including Premium7 Payment of Dividend4 Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

Rs. in ’000

Rs. in ’000

480.00 302.40 126.00

428.40 51.60 102.00 210.00 312.00

Working Notes 1. Dr. To Balance b/f

To Bank – Cost of New Fixed Assets (Bal. fig.)

Fixed Asset (at Cost) Account Rs. in ’000 3,840 By Provision for Depreciation A/c – Accumulated Depreciation on fixed assets sold 1,104 By Bank – Sale proceeds By Profit & Loss A/c – Loss on Sale of Fixed Assets (240 – 120) By Provision for Depreciation A/c – Accumulated Depreciation on Fixed Asset written off By Profit & Loss A/c – WDV of the Fixed Asset written off By Balance c/f 4,944

Cr. Rs. in ’000 84

120 120 48

12 4,560 4,944

2. Dr.

Provision for Depreciation Account Rs. in ’000 84 By Balance b/f

To Fixed Asset A/c – Accumulated Depreciation on Fixed Assets sold To Fixed Asset A/c – Accumulated Depreciation on Fixed Asset written off To Balance c/f

48

By Profit & Loss A/c – Depreciation for the year

1,392 1,524

Cr. Rs. in ’000 1,104 420

1,524

3. Dr. To Balance b/f To Capital Reserve A/c – Profit on Sale of Investment

Investment Account Rs. in ’000 480 By Bank – Sale Proceeds of Investment 48 By Balance c/f 528

Cr. Rs. in ’000 144 384 528 (Continued)

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_II.indd

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MANAGEMENT ACCOUNTING

4. Dr. To Bank – Dividend paid (144 – 18) To Unpaid Dividend A/c – Dividend not claimed To Balance c/f

Proposed Dividend Account Rs. in ’000 126 By Balance b/f 18 By Profit & Loss appropriation A/c – Dividend proposed for 2005–06 (Bal. fig.) 174 318

Cr. Rs. in ’000 144 174

Unpaid Dividend Account Rs. in ’000 By Balance b/f 18 By Proposed Dividend A/c 18

Cr. Rs. in ’000 Nil 18 18

Provision for Tax Account Rs. in ’000 432 By Balance b/f

Cr. Rs. in ’000 432

318

5. Dr.

To Balance c/f

6. Dr. To Bank – Tax for the year 2004–05 paid in 2005–06 To Balance c/f

408

By Profit & Loss A/c – Provision made in 2005–06

840

408 840

7. Dr.

9% Debenture Account Rs. in ’000 302.40 By Balance b/f

To Bank – Debentures Redeemed (288 + 14.40) To Balance c/f

672.00

Cr. Rs. in ’000 960.00

By Profit & Loss A/c – Premium paid on redemption adjusted [5% of (960 – 672)]

974.40

8.

14.40 974.40

Analysis of other Non-current Assets and liabilities Assets/Liabilities

Preliminary Expenses Share Capital Capital Reserve General Reserve Profit & Loss A/c

Opening Balance Rs. in ’000 96 1,440 – 816 288

Closing Balance Rs. in ’000 48 1,920 48 960 360

Increase/ Decrease Rs. in ’000 (−)48 (+)480 (+)48 (+)144 (+)72

Analysis Written off against Profit & Loss A/c New issue of Shares Profit on Sale of Investment Transfer from Profit & Loss A/c Net Profit (after appropriation) for the year

Guidance Note Here, the book value of Rs. 2,40,000 of the fixed asset sold [as stated in Additional Information (i) of the problem] is considered as a WDV of the Fixed Asset sold, not as its cost. Accordingly, the loss on sale of that Fixed Asset is arrived at after deducting the sale proceeds from the said WDV, that is, Rs. 2,40,000 – Rs. 1,20,000.

Modified Date: Sat, Jul 03, 2010 11:47:06 AM

Output Date: Tue, Jul 06, 2010 11:46:58 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

295

Problem 40 From the information contained in the Income Statement and Balance Sheet of A Ltd, Prepare a Cash Flow Statement:

Income Statement for the year that ended on 31 March 2006 Rs. 2,52,00,000

Net Sales (A) Cash Cost of Sales Depreciation Salaries & Wages Operating Expenses Provision for Taxation (B) Net Operating Profit (A – B) Non-recurring Income – Profits on Sale of Equipment Retained Earnings and Profit Brought Forward Less:

Dividends Declared and Paid during the Year Profit & Loss A/c Balance as on 31 March 2006

1,98,00,000 6,00,000 24,00,000 8,00,000 8,80,000 2,44,80,000 7,20,000 1,20,000 8,40,000 15,18,000 23,58,000 7,20,000 16,38,000

Balance Sheet as on

Assets Fixed Assets: Land Buildings & Equipments Current Assets: Cash Debtors Stock Advances Liabilities and Equity Share Capital Surplus in Profit & Loss A/c Sundry Creditors Outstanding Expenses Income Tax Payable Accumulated Depreciation on Buildings and Equipment

31 March 2005 Rs.

31 March 2006 Rs.

4,80,000 36,00,000

9,60,000 57,60,000

6,00,000 16,80,000 26,40,000 78,000 90,78,000

7,20,000 18,60,000 9,60,000 90,000 1,03,50,000

36,00,000 15,18,000 24,00,000 2,40,000 1,20,000 12,00,000 90,78,000

44,40,000 16,38,000 23,40,000 4,80,000 1,32,000 13,20,000 1,03,50,000

The original cost of equipment sold during the year 2005–06 was Rs. 7,20,000. [C.A. (PE II)—November 2006]

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

296

MANAGEMENT ACCOUNTING

Solution Cash Flow Statement (under direct method) of A Ltd for the year that ended on 31 March 2006 Rs. in ’000 A. Cash Flows from Operating Activities: Cash Receipts from Customers1 Less: Cash Paid to Suppliers & Employees4 Cash Generated from Operation Less: Income Tax Paid5 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Equipment6 Less: Purchase of Building & Equipment6 Purchase of Land8 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from New Issue of Shares8 Less: Payment of Dividend Net Cash Flow from Financing Activities Net increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

Rs. in ’000

Rs. in ’000

25,020 21,152 3,868 868 3,000 360 2,880 480

3,360 (3,000) 840 720 120 120 600 720

Working Notes 1. Dr. To Balance b/f To Sales

Debtors Account Rs. in ’000 1,680 By Bank – Collection (Bal. fig.) 25,200 By Balance c/f 26,880

Cr. Rs. in ’000 25,020 1,860 26,880

Stock Account Rs. in ’000 2,640 By Cost of Sales 18,120 By Balance c/f

Cr. Rs. in ’000 19,800 960

2. Dr. To Balance b/f To Purchase of goods including other Direct Cash Expenses (Bal. fig.)

20,760

20,760

3. Dr.

Operating Expenses Account Rs. in ’000 To Balance b/f (advance) 78 By Balance b/f (Outstanding) To Bank – Payment during the year (Bal. fig.) 572 By Profit & Loss A/c – Operating Expenses for the year To Balance c/f (Outstanding) 480 By Balance c/f (advance) 1,130

Cr. Rs. in ’000 240 800 90 1,130

4. Calculation of cash paid to suppliers and employees

Add:

Purchase of Goods including other Direct Expenses2 Opening Balance of Creditors

Rs. in ’000 18,120 2,400 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

Less:

Closing Balance of Creditors

Add: Add:

Salaries & Wages Paid Operating Expenses Paid3

297

Rs. in ’000 20,520 2,340 18,180 2,400 572 21,152

Cash Paid to Suppliers and Employees

5. Dr.

Income Tax Payable Account Rs. in ’000 To Bank – Tax paid during 2005–06 (Bal. fig.) 868 By Balance b/f To Balance c/f 132 By Profit & Loss A/c – Provision made in 2005–06 1,000

Cr. Rs. in ’000 120 880 1,000

6. Dr.

Building & Equipment (at cost) Account Rs. in ’000 To Balance b/f 3,600 By Accumulated Depreciation A/c – Accumulated Depreciation on Equipment Sold To Bank – New Purchase (Bal. fig.) 2,880 By Bank – Sale proceeds of Equipment [(720 – 480) + 120] To Profit & Loss A/c – Profit on Sale of 120 By Balance c/f Fixed Assets 6,600

Cr. Rs. in ’000 480

360 5,760 6,600

7. Dr.

Accumulated Depreciation on Building & Equipment Account Cr. Rs. in ’000 Rs. in ’000 To Fixed Asset A/c – Accumulated 48 By Balance b/f 1,200 Depreciation on Equipment Sold To Balance c/f 1,320 By Profit & Loss A/c – Depreciation for the year 600 1,800 1,800

8. Analysis of other non-Current Assets and liabilities Assets/Liabilities Share Capital Land

Opening Balance Rs. in ’000 3,600 480

Closing Balance Rs. in ’000 4,440 960

Increase/ Decrease Rs. in ’000 (+) 840 (+) 480

Analysis New Issue of Shares New purchase of Building & Equipment

Problem 41 The Balance Sheet of X Limited as on 31 March 2007 is as follows: Liabilities Equity Share Capital 8% Preference Share Capital Reserves & Surplus 10% Debentures Sundry creditors

Rs. in ’000 6,000 3,250 1,400 1,950 3,250

Assets Fixed Assets (at cost) Less: Depreciation written off Stock Sundry Debtors Cash

15,850

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rs. in ’000 16,250 5,200 11,050 1,950 2,600 250 15,850

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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MANAGEMENT ACCOUNTING

The following additional information is available: i. The stock turnover ratio based on Cost of Goods Sold would be 6 times. ii. The cost of Fixed Assets to sales ratio would be 1:4. iii. Fixed Assets costing Rs. 30,00,000 to be installed on 1 April 2007, payment would be made on 31 March 2008. iv. In March 2008, a dividend of 7% on equity capital would be paid. v. Rs. 5,50,000 and 11% debentures would be issued on 1 April 2007. vi. Rs. 30,00,000 as equity shares would be issued on 31 March 2008. vii. Creditors would be 25% of materials consumed. viii. Debtors would be 10% of sales. ix. The Cost of Goods Sold would be 90% of sales and includes material of 40% and a depreciation of 5% of sales. x. The profit is subject to debenture interest and taxation @ 30%. Required: i. Prepare the projected Balance Sheet as on 31 March 2008. ii. Prepare the projected Cash Flow Statement in accordance with AS-3. [C.A. (PE II)—November 2007] Solution i. Projected Balance Sheet of X Ltd as on 31 March 2008 Liabilities Equity Share Capital 8% Preference Share Capital Reserves & Surplus8 Secured Loan: 10% Debentures 11% Debentures Current Liabilities & Provisions: Sundry Creditors3 Provision for Tax

Rs. in ’000 9,000.00 3,250.00 5,931.15

Add:

Assets Fixed Assets (at cost) Purchased during the year

Less:

Accumulated Depreciation (5,200 + 3,850)

1,950.00 550.00 7,700.00 2,233.35 30,614.50

Current Assets: Stock7 Sundry Debtors6 Cash (Bal. fig.)

Rs. in ’000 16,250.00 3,000.00 19,250.00 9,050.00 10,200.00 11,550.00 7,700.00 1,164.50 30,614.50

ii. Projected Cash Flow Statement (under Direct Method) of X Ltd for the year that ended on 31 March 2008 Rs. in ’000 A. Cash Flows from Operating Activities: Cash Receipts from Customers9 Less: Cash Paid to Suppliers11 Cash Paid for Wages & other Overheads5

Rs. in ’000

Rs. in ’000

71,900 35,950 34,650 70,600

Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Cash Payment for Purchase of Fixed Assets Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from issue of Equity Shares Proceeds Received from issue of 11% Debentures

1,300 (3,000) (3,000) 3,000.00 550.00 3,550.00 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

Less:

Payment of equity dividend Payment of preference dividend Payment of debenture interest

Rs. in ’000 420.00 260.00 235.50

Rs. in ’000

299

Rs. in ’000

935.50 Net Cash Flow from Financing Activities Net increase in Cash & Cash equivalents Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

Add:

2,614.50 914.00 250.00 1,164.50

Working Notes 1. Fixed Assets (FA) at cost on 31 March 2008 = 16,250 + 3,000 = 19,250 (Rs. in ’000). Now, Fixed Assets (FA) at cost to Sales ratio = 1 / 4 FA 1 = or Sales 4 or

2. 3. 4. 5.

6. 7.

8.

19,250 1 = Sales 4

∴ Sales = 19,250 × 4 = 77,000 (Rs. in ’000) ∴ Cost of Goods Sold = 90% of sales = 90% of 77,000 = 69,300 (Rs. in ’000) Materials Consumed = 40% of Sales = 40% of 77,000 = 30,800 (Rs. in ’000) Sundry Creditors = 25% of materials Consumed = 25% of 30,800 = 7,700 (Rs. in ’000) Depreciation on Fixed Assets for the year = 5% of sales = 5% of 77,000 = 3,850 (Rs. in ’000) Wages and other overheads included in the Cost of Goods Sold = Cost of Goods Sold – (Materials consumed + Depreciation for the year) = 69,300 – (30,800 + 3,850) = 34,650 (Rs. in ’000) As there is no outstanding or prepaid wages & other overheads, either at the beginning or at the end of the year, it implies that the entire amount of wages and other overheads included in the Cost of Goods Sold is paid in cash during the year. Sundry Debtors (Closing) = 10% of Sales = 10% of 77,000 = 7,700 (Rs. in ’000) Cost of Goods Sold Stock Turnover Ratio = Average Stock 69,3001 Here, 6 = [Here, Closing Stock is considered in place of Average Stock] Closing Stock 69,300 ∴ Closing stock = = 11,550 (Rs. in ’000 ) 6 Projected Profit & Loss A/c for the year that ended on 31 March 2008 Rs. in ’000

Less: Less: Less: Less:

Add:

Sales1 Cost of Goods Sold1 Profit before Interest & Tax Interest on debentures [(10% on 1,950) + (11% on 550)] Profit before Tax Tax @ 30% [30% on 7,444.50] Profit after Tax Preference dividend [8% on 3,250] Equity dividend [7% on 6,000] Surplus Profit after Appropriation kept as Reserves & Surplus Reserves & Surplus at the beginning of the year Reserves & Surplus at the end of the year

260.00 420.00

Rs. in ’000 77,000.00 69,300.00 7,700.00 255.50 7,444.50 2,233.35 5,211.15 680.00 4,531.15 1,400.00 5,931.15 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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MANAGEMENT ACCOUNTING

9. Dr. To Balance b/f To Sales1

Sundry Debtors Account Rs. ’000 2,600 By Bank – Collection (Bal. fig.) 77,000 By Balance c/f6 79,600

Cr. Rs. ’000 71,900 7,700 79,600

Stock Account Rs. ’000 1,950 By Materials Consumed2 40,400 By Balance c/f7 42,350

Cr. Rs. ’000 30,800 11,550 42,350

Sundry Creditors Account Rs. ’000 35,950 By Balance b/f 7,700 By Purchase of Materials10 43,650

Cr. Rs. ’000 3,250 40,400 43,650

10. Dr. To Balance b/f To Purchase of Materials (Bal. fig.)

11. Dr. To Bank – Payment (Bal. fig.) To Balance c/f3

Problem 42 X Ltd has the following balances as on 1 April 2007:

Less:

Rs. 11,40,000 3,99,000 7,41,000 4,75,000 66,500 1,14,000 76,000 5,70,000

Fixed Assets Depreciation Stocks and Debtors Bank Balance Creditors Bills Payable Capital (Shares of Rs. 100 each)

The company made the following estimates for the financial year 2007–08: i. The company will pay a free-of-tax dividend of 10%, the rate of tax being 25%. ii. The company will acquire Fixed Assets costing Rs. 1,90,000, after selling one machine for Rs. 38,000 costing Rs. 95,000, and on which a depreciation provided amounted to Rs. 66,500. iii. Stocks and debtors, creditors and bills payable at the end of the financial year are expected to be Rs. 5,60,500, Rs. 1,48,200 and Rs. 98,800, respectively. iv. The profit would be Rs. 1,04,500 after a depreciation of Rs. 1,14,000. Prepare the projected Cash Flow Statement and ascertain the bank balance of X Ltd at the end of the financial year 2007–08. [C.A.—(PE II)—May 2008] Solution Projected Cash Flow Statement (under Indirect Method) of X Ltd for the financial year 2007–08 Rs. A. Cash Flows from Operating Activities: Estimated Net Profit for the year

Rs.

Rs.

1,04,500 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

301

CASH FLOW ANALYSIS

Rs. Add:

Less:

Add:

Adjustment for Non-operating & Non-current Items debited to Profit & Loss A/c: Depreciation Adjustment for Non-operating & Non-current Items credited to Profit & Loss A/c: Profit on Sale of Machinery Operating Profit before Working Capital changes Increase in Operating Current Liabilities: Creditors Bills Payable

Rs.

Rs.

1,14,000 2,18,500

9,500 2,09,000 34,200 22,800

Increase in Operating Current Assets: Stock & Debtors Cash Generated from Operation Less: Income Tax paid1 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds Received from sale of Machinery Less: Cash Paid for purchase of new Fixed Assets Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Payment of Tax-free Dividend to Shareholders Payment of Tax on the above Dividend2 Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

57,000 2,66,000

Less:

85,500 1,80,500 Nil 1,80,500 38,000 1,90,000 (1,52,000) (57,000) (19,000) (76,000) (47,500) 66,500 19,000

Working Notes 1. In the absence of adequate information, income tax on the company’s operating profit is ignored here. 2. Net tax-free dividend to be paid to shareholders = 10% on 5,70,000 = Rs. 57,000 Again, the given tax rate on the above dividend = 25% As the company has decided to pay a tax-free dividend to its shareholders, it has to bear the amount of tax payable by its shareholders on receipt of such dividend. Hence, the total amount to be paid for such dividend is as follows:

Add:

10% Tax-free Dividend to be paid to Shareholders Tax on above Dividend @ 25% to be borne by the Company (25 ÷ 75 × 57,000) Total Amount to be paid for such Dividend

Rs. 57,000 19,000 76,000

Problem 43 The following are the changes in the account balance taken from the Balance Sheets of Dada Ltd at the beginning and end of the year:

Equity Share Capital of 30,000 Shares of Rs. 10 each, issued and fully paid Capital Reserve 8% Debentures

Changes in Rupees in Debit (or Credit) 0 (49,200) (50,000) (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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MANAGEMENT ACCOUNTING

Changes in Rupees in Debit (or Credit) 1,000 43,000 60,000 (14,400) 50,000 38,500 (11,800) (76,500) 30,000 (3,300) 47,000 (64,300) 0

Debenture Discount Freehold Property at Cost/Revaluation Plant and Machinery at Cost Depreciation on Plant and Machinery Debtors Stock and Work-in-progress (WIP) Creditors Net Profit for the year Dividend Paid in respect of earlier year Provision for Doubtful Debts Trade Investments at Cost Bank

You are informed that: i. Capital Reserve as at the end of the year represented realized profits on the sale of one freehold property together with the surplus arising on the revaluation of the balance of freehold properties. ii. During the year, the plant costing Rs. 18,000, against which a depreciation provision of Rs. 13,500 was lying, was sold for Rs. 7,000. iii. During the middle of the year, Rs. 50,000 debentures were issued for cash at a discount of Rs. 1,000. iv. The Net Profit for the year was after crediting the profit on sale of plant and charging debenture interest. You are required to prepare a statement which will explain, why bank borrowing has increased by Rs. 64,300 during the year-end. Ignore taxation. [C.A. (Final)—Adapted] Solution Cash Flow Statement (under Indirect Method) of Raj Ltd for the year that ended on__________ Rs. A. Cash Flows from Operating Activities: Net profit (after interest) for the year Add: Adjustment for Non-operating & Non-current Items Debited to Profit & Loss A/c: Depreciation on Plant & Machinery4 Interest on Debenture5 Less:

Add:

Adjustment for Non-operating & Non-current Items credited to Profit & Loss A/c: Profit on Sale of Plant2 Operating Profit before Working Capital Changes Increase in Operating Current Liabilities: Creditors Provision for Doubtful Debts

Increase in Operating Current Assets: Debtors Stock & WIP Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Freehold Property3

Rs.

Rs.

76,500

27,900 2,000

29,900 1,06,400

2,500 1,03,900 11,800 3,300

15,100 1,19,000

Less:

50,000 38,500

88,500 30,500 6,200 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

303

CASH FLOW ANALYSIS

Rs. Proceeds from Sale of Plant1 Purchase of Plant & Machinery for Cash1 New Trade Investment Made for Cash3 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from Issue of Debenture at Discount Less: Payment of Dividend for earlier year Payment of Debenture Interest Net Cash Flow from Financing Activities Net increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year (i.e., Net Decrease over Opening Balance) Less:

78,000 47,000

Rs. 7,000 13,200

Rs.

1,25,000 (1,11,800) 49,000

30,000 2,000

32,000 17,000 (64,300) Nil (64,300)

Working Notes 1. Cost of Plant & Machinery Purchased

Add:

Rs. 60,000 18,000 78,000

Net Increase in Cost Cost of Plant Sold during the period Cost of Plant & Machinery Purchased

2. Profit on Sale of Plant Profit on Sale of plant = Sale proceeds – WDV = 7,000 – (18,000 – 13,500)

Rs. = Rs. 2,500.

3. Proceeds received from sale of Freehold Property

Less:

Rs. 49,200 43,000 6,200

Net increase in Capital Reserve Profit on Revaluation of Freehold Property included in above Proceeds Received from Sale of Freehold Property

4. Depreciation on Plant & Machinery provided during the period

Add:

Rs. 14,400 13,500 27,900

Increase in Provision for Depreciation Accumulated Depreciation on Plant Sold Depreciation on Plant & Machinery Provided during the period

5. Interest on Debenture Interest on debentue (on increased debentures) = 8% on 50,000 for 1/2 year

Rs. = 2,000.

Problem 44 Balance Sheets of a company as on 31 March 2007 and 2008 were as follows: Liabilities Equity Share Capital 8% Preference Share Capital General Reserve Securities premium

31 March 2007 Rs. 10,00,000 2,00,000 1,20,000 

31 March 2008 Rs. 10,00,000 3,00,000 1,45,000 25,000

Assets Goodwill Land & Building Plant & Machinery Investment (non-trading)

31 March 2007 Rs. 1,00,000 7,00,000 6,00,000 2,40,000

31 March 2008 Rs. 80,000 6,50,000 6,60,000 2,20,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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MANAGEMENT ACCOUNTING

Liabilities Profit & Loss A/c 11% Debentures Creditors Provision for tax Proposed dividend

31 March 2007 Rs. 2,10,000 5,00,000 1,85,000 80,000 1,36,000

31 March 2008 Rs. 3,00,000 3,00,000 2,15,000 1,05,000 1,44,000

24,31,000

25,34,000

Assets Stock Debtors Cash & Bank Prepaid Expenses Premium on redemption of debentures

31 March 2007 Rs. 4,00,000 2,88,000 88,000 15,000 

31 March 2008 Rs. 3,85,000 4,15,000 93,000 11,000 20,000

24,31,000

25,34,000

Additional Information: i. Investments were sold during the year at a profit of Rs. 15,000. ii. During the year, an old machine costing Rs. 80,000 was sold for Rs. 36,000. Its WDV was Rs. 45,000. iii. Depreciation charged on plants and machinery @ 20% on the opening balance. iv. There was no purchase or sale of land and building. v. Provision for tax made during the year was Rs. 96,000. vi. Preference shares were issued for consideration of cash during the year. You are required to prepare: i. Cash Flow Statement as per AS-3. ii. Schedule of changes in working capital. [C.A. (PCC)—November 2008] Solution i. Cash Flow Statement (under Indirect Method) of 31 March 2008

for the year that ended on Rs.

A. Cash Flows from Operating Activities: Net Profit (After Appropriation) for the Year5 Add: Adjustment for Non-operating & Non-current Items Debited to Profit & Loss A/c: Proposed Dividend4 Transfer to General Reserve7 Goodwill written Off 7 Depreciation on Plant & Machinery1 Depreciation on Land & Building7 Loss on Sale of Plant & Machinery1 Interest on Debentures6 Provision for Taxation Less:

Add:

Adjustment for Non-operating & Non-current Items Credited to Profit & Loss A/c: Profit on Sale of Investment2 Operating Profit before Working Capital Changes Increase in Operating Current Liabilities: Creditors Decrease in Operating Current Assets: Prepaid Expenses Stock

Rs.

Rs.

90,000

1,44,000 25,000 20,000 1,20,000 50,000 9,000 33,000 96,000

4,97,000 5,87,000

15,000 5,72,000 30,000 4,000 15,000

49,000 6,21,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

305

CASH FLOW ANALYSIS

Rs. Increase in Operating Current Assets: Debtors Cash Generated from Operation Less: Income Tax Paid5 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Plant & Machinery1 Proceeds from Sale of Investment2

Rs.

Rs.

Less:

1,27,000 4,94,000 71,000 4,23,000 36,000 35,000

Purchase of Plant & Machinery for Cash1 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: New Issue of Preference Shares for Cash7 Premium Received on New Issue of Preference Shares7

Less:

Less:

Add:

Redemption of Debentures at Premium3 Payment of Dividend4 Payment of Debenture Interest6 Net Cash Flow from Financing Activities Net increase in Cash & Cash Equivalents Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

71,000 2,25,000 (1,54,000)

1,00,000 25,000

1,25,000

2,20,000 1,36,000 33,000

3,89,000 (2,64,000) 5,000 88,000 93,000

Working Notes 1. Dr.

Plant & Machinery Account Rs. 6,00,000 By Bank – Sale Proceeds of Machine 2,25,000 By Profit & Loss A/c – Loss on Sale of Machine By Profit & Loss A/c – Depreciation for the year [20% on 6,00,000] By Balance c/f 8,25,000

To Balance b/f To Bank – New Purchase (Bal. fig.)

Cr. Rs. 36,000 9,000 1,20,000 6,60,000 8,25,000

2. Dr. To Balance b/f To Profit & Loss A/c – Profit on Sale of Investment

Investment Account Rs. 2,40,000 By Bank – Sale Proceeds of Investment (Bal. fig.) 15,000 By Balance c/f

2,20,000

2,55,000

2,55,000

Cr. Rs. 35,000

3. Dr. To Bank – Debentures Redeemed at Premium (Bal. fig.) To Balance c/f

11% Debenture Account Rs. 2,20,000 By Balance b/f 3,00,000

By Premium on Redemption A/c – Premium paid on Redemption

5,20,000

Cr. Rs. 5,00,000 20,000 5,20,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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MANAGEMENT ACCOUNTING

4. Dr.

Proposed Dividend Account Rs. To Bank – Dividend for 2006–07 Paid in 2007–08 1,36,000 By Balance b/f To Balance c/f 1,44,000 By Profit & Loss Appropriation A/c – Dividend Proposed in 2007–08 (Bal. fig.) 2,80,000

Cr. Rs. 1,36,000 1,44,000 2,80,000

5. Dr. To Bank – Tax Paid in 2007–08 (Bal. fig.) To Balance c/f

Provision for Tax Account Rs. 71,000 By Balance b/f 1,05,000 By Profit & Loss A/c – Tax Provided in 2007–08 1,76,000

Cr. Rs. 80,000 96,000 1,76,000

6. It has been assumed that debentures were redeemed at the beginning of 2007–08. That is why, interest was paid on the remaining debentures, that is, 11% on Rs. 3,00,000 = Rs. 33,000. 7. i. Analysis of other Non-current Assets and Liabilities Assets/Liabilities 8% Preference Share Capital Securities Premium Profit & Loss A/c Goodwill Land & Building General Reserve

Opening Balance Rs. 2,00,000 

Closing Balance Rs. 3,00,000 25,000

Increase/ Decrease Rs. (+)1,00,000 (+)25,000

2,10,000 1,00,000 7,00,000 1,20,000

3,00,000 80,000 6,50,000 1,45,000

(+)90,000 (−)20,000 (−)50,000 (+)25,000

Analysis New Issue for Cash Premium Received on New Issue of Preference Shares Net Profit for the year Written off against Profit & Loss A/c Depreciation for the year Transfer from Profit

ii. Statement of changes in Working Capital

Particulars Current Assets: Stock Debtors Prepaid Expenses Cash & Bank Total (A) Current Liabilities: Creditors Total (B) Working Capital (A  B) Increase in Working Capital

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Change in Working Capital Increase Decrease Rs. Rs.

As on 31 March 2007 Rs.

As on 31 March 2008 Rs.

4,00,000 2,88,000 15,000 88,000 7,91,000

3,85,000 4,15,000 11,000 93,000 9,04,000

 1,27,000  5,000

15,000  4,000 

1,85,000 1,85,000 6,06,000 83,000 6,89,000

2,15,000 2,15,000 6,89,000  6,89,000



30,000

Output Date: Tue, Jul 06, 2010 11:47:54 AM

 1,32,000

83,000 1,32,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

307

Problem 45 XYZ Co. Ltd’s Comparative Balance Sheet for 2002 and the company’s income statement for the year are as follows: Income Statement for the year that ended on 31 December 2002

Less: Less: Less:

Less:

(Rs. in Crores) 1,000 530 470 352 118

Sales Cost of Goods Sold Gross Margin Operating Expenses Net Operating Income Non-operating Items: Loss on Sale of Equipment Income before Taxes Income Tax Net Income

4 114 48 66

Comparative Balance Sheet for the years that ended on 31 December 2002 and 31 December 2001 (Rs. in crores) 2002 Sources of Fund: Shareholder’s Fund: Share Capital Retained Earnings Loan Fund: Bonds Payable

Less:

Applications of Fund: Plant & Equipment Accumulated Depreciation Investments Current Assets: Inventory Accounts Receivable Prepaid Expenses Cash

Less:

Current Liabilities & Provisions: Accounts Payable Accrued Liabilities Deferred Tax Provision

2001

140 110 250

140 92 232

135 385

40 272

430 218 212 60

309 194 115 75

205 180 17 26 428

160 270 20 10 460

(230) (70) (15)

(310) (60) (8) 113 385

82 272

Additional Information: i. Dividends of Rs. 48 crores were paid in 2002. ii. The loss on sale of Rs. 4 crores reflects a transaction in which the equipment, with original cost of Rs. 12 crores and accumulated depreciation of Rs. 5 crores, was sold for Rs. 3 crores in cash. Required: Using the indirect method, determine the net cash provided by operating activities for 2002 and construct a statement of Cash Flows. [C.A. (PE II)—May 2003]

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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MANAGEMENT ACCOUNTING

Solution Cash Flow Statement (Indirect Method) of XYZ Co. Ltd for the year that ended on 31 December 2002 Rs. in Crores A. Cash Flows from Operating Activities: Net Income after Tax for the year Add: Adjustment for Non-operating & Non-current Items Debited to Profit & Loss A/c: Loss on Sale of Equipment Depreciation on Plant & Equipment2 Provision for Tax Operating Profit before Working Capital Changes Add: Increase in Operating Current Liabilities: Deferred Tax Provision Accrued Liabilities Decrease in Operating Current Assets: Prepaid Expenses Accounts Receivable Decrease in Operating Current Liabilities: Accounts Payable Increase in Operating Current Assets: Inventory Cash Generated from Operation Less: Income Tax paid Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Equipment Proceeds from Sale of Investment3

66

4 29 48

81 147

7 10 3 90

110 257

Less:

Plant & Equipment Acquired for Cash1 Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from New Issue of Bonds4 Less: Payment of Cash Dividend Net Cash Flow from Financing Activities Net increase in Cash & Cash Equivalents Add: Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year Less:

80 45

125 132 48 84 3 15 18 133 (115) 95 48 47 16 10 26

Working Notes 1. Dr. To Balance b/f

To Bank – New Purchase (Bal. fig.)

Plant & Equipment (at cost) Account Rs. in crore 309 By Provision for Depreciation A/c – Accumulated Depreciation on Equipment Sold 133 By Bank – Sale Proceeds of Equipment By Profit & Loss A/c – Loss on Sale of Equipment By Balance c/f 442

Cr. Rs. in crore 5

3 4 430 442 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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CASH FLOW ANALYSIS

2. Dr.

Provision for Depreciation on Plant & Equipment Account Rs. in crore To Plant & Equipment A/c – Accumulated 5 By Balance b/f Depreciation on Equipment Sold To Balance c/f 218 By Profit & Loss A/c – Depreciation for the year (Bal. fig.) 223

Cr. Rs. in crore 194 29 223

3. Dr. To Balance b/f

Investment Account Rs. in crore 75 By Bank – Sale Proceeds (Bal. fig.) By Balance c/f 75

Cr. Rs. in crore 15 60 75

Bonds Payable Account Rs. in crore By Balance b/f By Bank A/c 135 – Bonds Issued (Bal. fig.) 135

Cr. Rs. in crore 40 95

Retained Earning Account Rs. in crore 48 By Balance b/f 110 By Profit & Loss A/c – Provision made in 2005–06 158

Cr. Rs. in crore 92 66

4. Dr.

To Balance c/f

135

5. Dr. To Dividend – Dividend Declared & Paid To Balance c/f

158

Problem 46 From the following information provided, prepare a Cash Flow Statement as per AS-3 and comment on the financial position of the company. Balance Sheets as on Liabilities Equity Share Capital Securities Premium Profit & Loss A/c 10% Debentures Bank Overdraft Creditors Proposed Dividend Provision for Depreciation on: Plant & Machinery Furniture

31 March 2007 Rs. 1,00,000 15,000 28,000 70,000 14,000 34,000 15,000

45,000 13,000 3,34,000

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

31 March 2008 Rs. 1,50,000 35,000 70,000 30,000 48,000 20,000

Assets Freehold Property Plant & Machinery Furniture Stock Debtors Bank Premium on Redemption of Debentures

54,000 15,000 4,22,000

Output Date: Tue, Jul 06, 2010 11:47:54 AM

31 March 2007 Rs. 1,10,000 1,20,000 24,000 37,000 43,000

31 March 2008 Rs. 1,30,000 1,51 ,000 29,000 51,000 44,000 16,000 1,000

3,34,000

4,22,000

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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Additional Information: i. There had been no disposal of freehold propery in the year. ii. The machine, which had cost Rs. 8,000 and in respect of which Rs. 6,000 depreciation had been provided, was sold for Rs. 3,000, and furniture, which had cost Rs. 5,000 and in respect of which a depreciation of Rs. 2,000 had been provided, was sold for Rs. 1,000. The profits and losses on these transactions had been dealt with through Profit & Loss A/c. iii. Actual premium on the redemption of debentures was Rs. 2,000, of which Rs. 1,000 had been written off to the Profit & Loss A/c. iv. No interim dividend has been paid. [B.Com. (Hons), Calcutta University—2009] Solution Cash Flow Statement (under Indirect Method) of

for the year that ended on 31 March 2008 Rs.

A. Cash Flows from Operating Activities: Net Profit (after appropriation) for the year8 Add: Adjustment for Non-operating & Non-current Items Debited to Profit & Loss A/c: Proposed Dividend7 Depreciation on Furniture4 Depreciation on Plant & Machinery3 Premium on Redemption of Debentures5 Loss on Sale of Furniture3 Less:

Add:

Rs.

42,000

20,000 4,000 15,000 1,000 2,000

Adjustment for Non-operating & Non-current Items Credited to Profit & Loss A/c: Profit on Sale of Machinery1 Operating Profit before Working Capital Changes Increase in Operating Current Liabilities: Creditors

Increase in Operating Current Assets: Debtors Stock Cash Generated from Operation Less: Income-tax Paid7 Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds from Sale of Machinery1 Proceeds from Sale of Furniture3

Rs.

42,000 84,000

1,000 83,000 14,000 97,000

Less:

Less:

Purchase of Plant & Machinery for Cash1 Purchase of Furniture for Cash3 Purchase of Freehold Property for Cash8

1,000 14,000

15,000 82,000 Nil 82,000 3,000 1,000 4,000

39,000 10,000 20,000 69,000

Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: New Issue of Equity Shares for Cash8 Premium Received from New Issue of Equity Shares8

(65,000) 50,000 20,000 70,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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CASH FLOW ANALYSIS

Less:

Redemption of Debentures at Premium6 Payment of Dividend7

Rs. 42,000 15,000

Rs.

Rs.

57,000

Add:

Net Cash Flow from Financing Activities Net increase in Cash & Cash Equivalents Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

13,000 30,000 (14,000) 16,000

Working Notes 1. Dr.

Plant & Machinery (at cost) Account Rs. To Balance b/f 1,20,000 By Provision for Depreciation A/c – Accumulated Depreciation on Machinery Sold To Bank – New Purchase (Bal. fig.) 39,000 By Bank – Sale Proceeds of Machinery To Profit & Loss A/c – Profit on Sale of 1,000 By Balance c/f Machinery [3,000 – (8,000 – 6,000)] 1,60,000

Cr. Rs. 6,000 3,000 1,51,000 1,60,000

2. Dr.

Provision for Depreciation on Plant & Machinery Account Rs. To Plant-&-Machinery A/c 6,000 By Balance b/f – Accumulated Depreciation on Machinery Sold To Balance c/f 54,000 By Profit & Loss A/c – Depreciation for the year (Bal. fig.) 60,000

Cr. Rs. 45,000

15,000 60,000

3. Dr. To Balance b/f

To Bank – New Purchase (Bal. fig.)

Furniture (at cost) Account Rs. 24,000 By Provision for Depreciation A/c – Accumulated Depreciation on Furniture Sold 10,000 By Bank – Sale Proceeds of Furniture By Profit & Loss A/c – Loss on Sale of Furniture [(5,000 – 2,000) – 1,000] By Balance c/f 34,000

Cr. Rs. 2,000

1,000 2,000 29,000 34,000

4. Dr.

Provision for Depreciation on Furniture Account Rs. To Furniture A/c – Accumulated 2,000 By Balance b/f Depreciation on Furniture Sold To Balance c/f 15,000 By Profit & Loss A/c – Depreciation for the year (Bal. fig.) 17,000

Cr. Rs. 13,000 4,000 17,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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5. Dr.

Premium on Redemption of Debenture Account Rs. To Balance b/f Nil By Profit & Loss A/c – Premium written off To 10% Debenture A/c – Premium paid on 2,000 By Balance c/f Redemption 2,000

Cr. Rs. 1,000 1,000 2,000

6. Dr. To Bank – Debentures Redeemed at Premium (Bal. fig.) To Balance c/f

10% Debenture Account Rs. 42,000 By Balance b/f 30,000

Cr. Rs. 70,000

By Premium on Redemption A/c – Premium paid on Redemption

72,000

2,000 72,000

7. Dr.

Proposed-Dividend Account Rs. To Bank – Dividend for 2006–07 paid in 15,000 By Balance b/f 2007–08 To Balance c/f 20,000 By Profit & Loss Appropriation A/c – Dividend Proposed in 2007–08 (Bal. fig.) 35,000

Cr. Rs. 15,000 20,000 35,000

8. Analysis of other Non-current Assets and Liabilities Assets/Liabilities Equity Share Capital Securities Premium Profit & Loss A/c Freehold property

Opening Balance Rs. 1,00,000 15,000

Closing Balance Rs. 1,50,000 35,000

Increase/ Decrease Rs. (+)50,000 (+)20,000

28,000

70,000

(+)42,000

1,10,000

1,30,000

(+)20,000

Analysis New Issue for Cash Premium Received on New Issue of Equity Shares Net Profit for the year after Appropriation New Purchase for Cash

Problem 47 The following figures have been extracted from the books of X Ltd for the year that ended on 31 March 2004. You are required to prepare a Cash Flow Statement. i. Net profit, before taking into account the income tax and income from law suits but after taking into account the following items, was Rs. 20 lakhs: a. Depreciation on Fixed Assets – Rs. 5 lakhs. b. Discount on issue of debentures written off – Rs. 30,000. c. Interest on debentures paid – Rs. 3,50,000. d. Book value of investment – Rs. 3 lakhs (sale of investment for Rs. 3,20,000).

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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CASH FLOW ANALYSIS

ii. iii.

iv. v. vi.

e. Interest received on investment – Rs. 60,000. f. Compensation received was Rs. 90,000 by the company in a suit filed. Income tax paid during the year – Rs. 10,50,000. 15,000, 10% preference shares of Rs. 100 each were redeemed on 31 March 2004 at a premium of 5%. Further the company issued 50,000 equity shares of Rs. 10 each at a premium of 20% on 2 April 2003. Dividend on preference shares were paid at the time of redemption. Dividends paid for the year 2002–03 was Rs. 5 lakhs and interim dividend paid was Rs. 3 lakhs for the year 2003–04. Land was purchased on 2 April 2003 for Rs. 2,40,000, for which the company issued 20,000 equity shares of Rs. 10 each at a premium of 20% to the land owner as consideration. Current Assets and Current Liabilities at the beginning and at the end of the year were detailed as follows: 31 March 2003 Rs. 12,00,000 2,08,000 1,96,300 50,000 45,000 1,66,000 75,000

Stock Sundry Debtors Cash in Hand Bills Receivable Bills Payable Sundry Creditors Outstanding Expenses

31 March 2004 Rs. 13,18,000 2,13,000 35,300 40,000 40,000 1,71,300 81,800

[C.A. (PE II)—May 2005] Solution Cash Flow Statement (under indirect method) of X Ltd for the year that ended on 31 March 2004 Rs. A. Cash Flows from Operating Activities: Net Profit before Income Tax & Extraordinary Item Add: Adjustment for Non-operating & Non-current Items debited to Profit & Loss A/c: Depreciation on Fixed Asset Interest Paid on Debentures Discount on Issue of Debentures Less:

Add:

Adjustment for Non-operating & Non-current Items credited to Profit & Loss A/c: Profit on Sale of Investment Interest Received on Investment Operating Profit before Working Capital changes Increase in Operating Current Liabilities: Sundry Creditors Outstanding Expenses Decrease in Operating Current Assets: Bills Receivable

Rs.

Rs.

20,00,000

5,00,000 3,50,000 30,000

20,000 60,000

8,80,000 28,80,000

80,000 28,00,000

5,300 6,800 10,000

22,100 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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Rs. Decrease in Operating Current Liabilities: Bills Payable Increase in Operating Current Assets: Sundry Debtors Stock Cash Generated from Operation Less: Income Tax Paid Cash Flow from Operation before Extraordinary Item Add: Cash Flow from Extraordinary Item: Compensation Received in a suit filed Net Cash Flow from Operating Activities B. Cash Flows from Investing Activities: Proceeds Received from Sale of Investment Interest Received from Investment Net Cash Flow from Investing Activities C. Cash Flows from Financing Activities: Proceeds Received from Issue of Equity Shares at a Premium Less: Redemption of Preference Shares at a Premium Payment of Preference Dividend Payment of Debenture Interest Payment of Equity Dividend

Rs. 28,22,100

Rs.

Less:

5,000 5,100 1,18,000

1,28,100 26,94,000 10,50,000 16,44,000 90,000 17,34,000 3,20,000 60,000 3,80,000 6,00,000

15,75,000 1,50,000 3,50,000 8,00,000 28,75,000

Add:

Net Cash Flow from Financing Activities Net Increase in Cash & Cash Equivalents Cash & Cash Equivalents at the beginning of the year Cash & Cash Equivalents at the end of the year

(22,75,000) (1,61,000) 1,96,300 35,300

CHAPTER REVIEW SUMMARY  Cash Flow Statement is a summarized statement showing sources of cash inflows and applications of cash outflows of an enterprise during a particular period of time (generally, at the end of an accounting year). It is used as an essential tool for managerial tool. It is prepared to locate the various sources of cash inflows within the business and to identify the various uses of cash outflows from the business during a particular period.  It is prepared to fulfil some objectives of an enterprise, such as: (a) Prediction of future cash flows; (b) Shortterm financial planning; (c) Liquidity and solvency position; (d) Disclosure of movement of cash; (e) Efficiency in cash management; (f) Identification of stronger or weaker activity; (g) Efficiency in managerial performance; and (h) A tool of comparative study.  Cash Flow Statement has many advantages, such as: (a) It provides adequate information as regards to inflows and outflows of cash resources to and from the enterprise; (b) It provides separate information as regards to inflows and outflows of cash from the different activities of the enterprise; (c) It evaluates the level of efficiency of the management of the enterprise as regards to uses of its cash resources; (d) It discloses the liquidity and solvency position of the enterprise; (e) It helps to prepare the budget for the future period.  In spite of its immense usefulness, it has its own limitations too, such as: (a) It shows only the inflows and outflows of cash; and thus, it does not take into consideration the non-cash transactions of the enterprise;

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

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CASH FLOW ANALYSIS



 

315

(b) As it discloses the Net Cash Flow, not the Net Profit for a certain period, it is not a substitute of the Profit & Loss A/c; (c) As it is prepared; at the end of a certain period, it is not useful for rectifying the errors that already took place during that period; and (d) It is not also a substitute of Fund Flow Statement as it discloses cash alone. As per conventional/traditional approach, ‘cash’ refers to Cash in hand and Cash at bank only, but as per AS-3 (Revised), ‘cash’ refers to cash and cash equivalents (i.e., Cash in hand, Cash at bank and Short-term investments/Marketable securities. As per AS-3 (Revised), a Cash Flow Statement may be presented under two methods, that is, Direct Method and Indirect Method. A Cash Flow Statement prepared under both the above methods is subdivided into the following three parts: i. Net Cash Flows from Operating Activities. ii. Net Cash Flows from Investing Activities. iii. Net Cash Flows from Financing Activities.









Cash flows to and from the principal business activities of an enterprise other than investing and Financing Activities are called ‘cash flows from Operating Activities.’ For example, cash sale of goods/services, cash purchases of goods/services and so on. Cash flows from Investing Activities arise out of acquisition and sale of Fixed Assets and long-term investments made outside the enterprise. For example, cash purchase of Fixed Assets, cash sale of Fixed Assets, and so on. Cash flows from Financing Activities are movement of cash of an enterprise which result in changes in size and composition of the owner’s capital (including Preference Share Capital) and borrowings of that enterprise. For example, issue of shares in cash, repayment of long-term loans in cash, and so on. Cash flows from different activities of an enterprise, such as operating, investing and Financing Activities, can be separately known through the Cash Flow Statement prepared as per AS-3, by virtue of which the enterprise can identify its stronger and weaker area of cash generation. But, as per traditional method, there are no such segregations of cash flows from the different activities of an enterprise.

CHAPTER REVIEW QUIZ 1. Classify the following items into: (a) Cash flow from operating activities, (b) Cash flow from investing activities; and (c) Cash flow from financing activities: (i) Purchase of machinery; (ii) Purchase of goods; (iii) Sale of long-term investments; (iv) Sale of goods; (v) Issue of equity shares; (vi) Redemption of preference shares; (vii) Receipt of interest on investment; (viii) Payment of interest on debentures; (ix) Payment of dividend; (x) Issue of debentures; (xi) Repayment of long-term loan; (xii) Payment of income tax on operational profit; (xiii) Payment of administration expenses; (xiv) Payment of wages; and (xv) Sale of building. Ans.: (a) (ii), (iv), (xii), (xiii), (xiv); (b) (i), (iii), (vii), (xv); (c) (v), (vi), (viii), (ix), (x), (xi). 2. How would you deal with the following items while calculating the Cash Flow from Operating Activities from the given figure of net profit earned during a year: a. Increase in creditors for goods. b. Increase in creditors for furniture. c. Decrease in debtors for goods. d. Increase in Stock in Trade. e. Decrease in Bills Payable. f. Decrease in Bills Receivable. g. Increase in Outstanding Expenses. h. Increase in Prepaid Expenses. i. Issue of Preference Shares.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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MANAGEMENT ACCOUNTING

j. Redemption of Debentures. k. Increase in Cash Balance. l. Decrease in Short-term Investment. m. Purchase of Machinery. n. Payment of Dividend. o. Receipt of Interest on Investment. Ans.: To be added: (a), (c), (f), (g); To be deducted: (d), (e), (h); No effect: (b), (I), (j), (k), (l), (m), (n), (o). 3. Choose the correct alternative from the following: a. Cash and cash equivalent refers to: (i) Cash in hand; (ii) Cash at bank; (iii) Cash in hand & at bank; (iv) Cash in hand & at bank and Short-term Investments. b. Cash purchases of raw materials used in production causes cash outflow from: (i) operating activities; (ii) investing activities; (iii) financing activities; (iv) none of these. c. Interest received from Long-term Investment in Debentures of a company causes cash inflow from: (i) Operating Activities; (ii) Investing Activities; (iii) Financing Activities; (iv) none of these. d. Interest paid on Long-term Loan causes cash outflow from: (i) Operating Activities; (ii) Investing Activities; (iii) Financing Activities; (iv) none of these. e. Redemption of Preference Share causes cash outflow from: (i) Operating Activities; (ii) Investing Activities; (iii) Financing Activities; (iv) none of these. f. Payment of Administrative and Selling Overheads causes cash outflow from: (i) Operating Activities; (ii) Investing Activities; (iii) Financing Activities; (iv) none of these. g. Depreciation on Fixed Assets: (i) causes cash inflow; (ii) causes cash outflow; (iii) has no effect on cash flow. h. Sale of Fixed Assets causes cash inflow from: (i) Operating Activities; (ii) Investing Activities; (iii) Financing Activities; (iv) none of these. i. Repayment of borrowing causes cash outflow from: (i) Operating Activities; (ii) Investing Activities; (iii) Financing Activities; (iv) none of these. j. Amortization of patent right: (i) causes cash inflow; (ii) causes cash outflow; (iii) has no effect on cash flow. k. If net profit of a business concern is Rs. 1,40,000 and its creditors have gone up by Rs. 15,000 during the year, cash from operation is equal to: (i) Rs. 1,55,000; (ii) Rs. 1,25,000; (iii) Rs. 1,40,000. l. If the net profit of a business concern is Rs. 75,000 and its debtors have gone down by Rs. 20,000 during the year, the cash from operation is equal to: (i) Rs. 95,000; (ii) Rs. 55,000; (iii) Rs. 75,000. Ans.: (a) (iv); (b) (i); (c) (ii); (d) (iii); (e) (iii); (f) (i); (g) (iii); (h) (ii); (i) (iii); (j) (iii); (k) (i); (l) (ii). 4. State whether the following statements are true or false: a. Cash Flow Statement is a part of Financial Statements. b. Cash Flow Statement is a statement of sources and applications of cash during a particular period of time. c. Difference between sources and applications of cash may increase or decrease in a working capital. d. Cash flow signifies only the causes of cash variations. e. Cash Flow Statement is a technique of financial forecasting. f. Cash flows are inflows and outflows of cash and cash equivalents. g. Cash Flow Statement should report cash flows from operating and investing activities during a particular period of time. h. Payment of dividend on Share Capital is an example of cash outflow from investing activities. i. Fund Flow Statement presents a more complete picture than a Cash Flow Statement. j. Investing activities are the acquisition and disposal of long-term assets and other investments not included in cash equivalents. Ans.: True: (a), (b), (d), (f), (i), (j); False: (c), (e), (g), (h).

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

317

EXERCISE I. Theoretical Questions A. Short Answer Type Questions

1. 2. 3. 4. 5. 6. 7. 8.

What is meant by Cash? What is Cash Equivalent? What is Cash Flow? What is the difference between Cash and Fund? What is meant by Cash Flow Statement? What is meant by Operating Activities? What is meant by Investing Activities? What is meant by Financing Activities?

B. Essay Type Questions

1. 2. 3. 4.

Define Cash Flow Statement. What are its uses? What are the advantages and limitations of Cash Flow Statement? Why is Cash Flow Statement prepared? What is its importance? Distinguish between: a. Cash Flow Statement and Fund Flow Statement. b. Cash Flow Statement and Cash Budget. c. Cash Flow Statement and Cash Book. 5. Discuss briefly the classification of activities as prescribed in AS-3 for preparation of Cash Flow Statement and give three examples of each such class of activities. 6. Give the proforma of a Cash Flow Statement as suggested in AS-3. 7. Discuss the fundamental differences between the Cash Flow Statement as prescribed in AS-3 and that under traditional approach. II. Practical Problems

I. Calculation of Net Cash Flow from operation under conventional/ traditional approach. 1. From the following information, calculate the Net Cash Flow from operation of a company for the year that ended on 31 March 2009 under traditional approach: 31 March 2008 Rs. 4,20,000 75,000 92,000 63,000 22,000 18,000 10,000 12,000 42,000

Balance in Profit & Loss A/c Stock in Trade Sundry Debtors Sundry Creditors Bills Receivable Bills Payable Outstanding Expenses Prepaid Expenses Cash at Bank

31 March 2009 Rs. 6,80,000 55,000 1,24,000 91,000 34,000 15,000 15,000 7,000 71,000

While ascertaining the Net Profit for the year that ended on 31 March 2009, the following items were taken into the Profit & Loss A/c: Rs. 36,000 24,000

Transfer to General Reserve Proposed Dividend

(Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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MANAGEMENT ACCOUNTING

Rs. 18,000 7,000 12,000 28,000 22,000 12,000 18,000 8,000 5,000

Goodwill written off Preliminary Expenses written off Interest on Debentures Depreciation on Fixed Assets Provision for Taxation Loss on Sale of Investment Profit on Sale of Machinery Income from Investment Discount on Issue of Shares

Ans.: Rs. 4,09,000. II. Calculation of Net Cash Flow from operating activities as per AS-3 2. From the information given in the following relating to Q Ltd, calculate cash flow from operating activities: Operating Profit before Changes in Operating Assets Stock (Decrease) Debtors (Increase) Creditors (Decrease) Bills Payable (Increase) Outstanding Expenses (Decrease) Prepaid Expenses (Increase) Cash at Bank (Increase)

Rs. 76,000 Rs. 18,000 Rs. 14,000 Rs. 22,000 Rs. 6,000 Rs. 4,000 Rs. 5,000 Rs. 37,000

[B.Com. (Hons), Calcutta University—Adapted] Ans.: Rs. 55,000. 3. Compute the Net Cash Flow from the operating activities, from the following details, by indirect method: Particulars Profit & Loss A/c Debtors Outstanding Rent Goodwill Prepaid Insurance Creditors Preliminary Expenses

2008 Rs. 1,50,000 70,000 18,000 20,000 14,000 42,000 8,000

2009 Rs. 1,40,000 94,000 34,000 10,000 9,000 56,000 6,000

2007–08 Rs. 7,000 24,000 39,000 18,000 47,000

2008–09 Rs. 12,000 42,000 33,000 21,000 29,000

Ans.: 13,000. 4. The following is the position of Current Assets and Current Liabilities of Dee Ltd: Particulars Provision for Bad Debts Short-term Loan Creditors Bills Receivable Debtors

The company incurred a loss of Rs. 27,000 during the year. Calculate the Net Cash Flows from the Operating Activities by Indirect Method. Ans.: Rs. 5,000.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

319

5. From the following you are required to calculate the Net Cash Flow from the operating activities by indirect method: Particulars Balance of Profit & Loss A/c Debtors Bills Receivable General Reserve Dividend Equalization Fund Salary Outstanding Wages Prepaid Goodwill Creditors

31 March 2008 Rs. 76,000 72,000 17,000 1,20,000 62,000 15,000 6,000 75,000 38,000

31 March 2009 Rs. 98,000 51,000 53,000 1,60,000 87,000 7,000 10,000 60,000 47,000

Ans.: Rs. 1,04,000. 6. J Ltd made a profit of Rs. 2,25,000 after charging a depreciation of Rs. 42,000 on assets and a transfer to general reserve of Rs. 40,000. The goodwill written off was Rs. 12,000 and the gain on sale of machinery was Rs. 14,000. The other information available is (changes in the value of Current Assets and Current Liabilities) at the end of the year. Debtors showed an increase of Rs. 16,000; Creditors an increase of Rs. 15,000; Prepaid expenses an increase of Rs. 3,000; Bills Receivable a decrease of Rs. 5,000; Bills Payable a decrease of Rs. 6,000; Outstanding Expenses a decrease of Rs. 1,000 and Prepaid Expenses a decrease of Rs. 1,000. Ascertain the Net Cash Flow from the Operating Activities. [CBSE Examination—Adapted] Ans.: Rs. 3,00,000. 7. From the following information, calculate the Net Cash Flow from operating activities: Cash Sales Credit Sales Opening Debtors’ Balance Closing Debtors’ Balance Cash Purchases Credit Purchases Opening Creditors’ Balance Closing Creditors’ Balance Sales Return Bad Debt Discount Allowed Return Outward Discount Received Wages & Salaries Paid Wages & Salaries Outstanding Overhead Charges Paid Depreciation Interest on Investment Received Interest on Debentures Paid Income Tax Provided Income Tax Paid (of which Rs. 45,000 was paid for Operating Income and the balance for Investing Income)

Rs. 2,40,000 4,60,000 70,000 90,000 1,40,000 2,10,000 50,000 60,000 20,000 15,000 25,000 30,000 20,000 80,000 20,000 60,000 45,000 27,000 30,000 60,000 50,000

Ans.: Rs. 1,45,000.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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8. From the following information, calculate the Net Cash Flow from the operating activities by Indirect Method for the year that ended on 31 March 2009: Dr.

Profit & Loss A/c for the Year that Ended on 31 March 2009 Particulars Rs. 26,000 By Gross Profit 5,000 By Interest on Investment 15,000 By Dividend Received 64,000 By Profit on Sale of Plant 10,000 By Rent Received 20,000 By Refund of Tax 35,000 By Insurance Claim for earthquake 75,000 By Commission Receivable 25,000 5,75,000 8,50,000

Cr.

Particulars To Loss on Sale of Land To Discount on Issue of Shares written off To Interest on Debentures To Depreciation To Goodwill written off To General Reserve To Tax Provision To Proposed Dividend To Interim Dividend To Net Profit

Rs. 6,90,000 17,000 22,000 25,000 14,000 6,000 60,000 16,000

8,50,000

Additional Information: Particulars Debtors Creditors Stock Provision for Tax Accrued Commission Outstanding Wages Prepaid Expenses Proposed Dividend

31 March 2008 Rs. 57,000 33,000 74,000 45,000 9,000 23,000 15,000 65,000

31 March 2009 Rs. 89,000 66,000 51,000 40,000 15,000 29,000 24,000 85,000

Ans.: Rs. 7,61,000. 9. From the following information, calculate the Net Cash Flow from the operating activities of a concern for the year that ended on 31 March 2009: Cash Sales for the year Credit Sales for the year Collection from Debtors During the year Cash Purchases for the year Credit Purchases for the year Payment to Creditors during the year Wages Paid during the year Outstanding Wages for the year Salaries Paid during the year Salaries for the year General Expenses Paid during the year Unpaid General Expenses for the year Depreciation on Fixed Assets for the year Loss of Stock due to Fire Insurance Claim Received against Loss of Stock Interest Received on Investment during the year (of which Rs. 5,000 provided for Interest Income) Payment of Income Tax during the year (of which Rs. 3,000 paid for Interest Income)

Rs. 1,45,000 5,85,000 3,98,000 77,000 2,96,000 1,91,000 63,000 15,000 37,000 45,000 35,000 10,000 32,000 25,000 12,000 17,000 43,000

Ans.: Rs. 1,12,000.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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CASH FLOW ANALYSIS

10. From the following information, calculate the Net Cash Flow from the Operating Activities of Sosa Ltd for the year that ended on 31 March 2009: Dr. To Opening Stock To Purchases: Cash Credit To Wages: Paid Outstanding To Salaries: Paid Outstanding To Rent Paid To Depreciation on Assets To Preliminary Expenses written off To Provision for Taxation To Net Profit for the year

Profit & Loss A/c for the Year that Ended on 31 March 2009 Rs. Rs. 62,000 By Sales: Cash 60,000 Credit 2,23,000 2,83,000 By Closing Stock 62,000 By Interest from Investment 6,000 68,000 32,000 3,000

Cr. Rs.

Rs.

93,000 3,94,000 4,87,000 52,000 11,000

35,000 8,000 16,000 7,000 48,000 23,000 5,50,000

5,50,000

Additional Information: 1. Balance of debtors and creditors were as follows: 1 April 2008 Rs. 46,000 49,000

Debtors Creditors

31 March 2009 Rs. 62,000 42,000

2. Tax paid during the year amounted to Rs. 45,000. Ans.: Rs. 34,000. 11. From the following particulars, calculate the Net Cash Flow from the operating activities of Hoo Ltd for the year that ended on 31 March 2009: Rs. Balance of Profit & Loss A/c: As on 31 March 2009 As on 31 March 2008 Appropriation of Profit for the Year 2008–09: Transfer to General Reserve Proposed Dividend Expenses and Losses for the Year 2008–09: Interest on Debentures Depreciation on Fixed Assets Wages & Salaries Provision for Taxation Goodwill written off Loss on Sale of Machinery Incomes and Gains for the Year 2008–09: Profit on Sale of Furniture Income from Investment

7,30,000 4,80,000 40,000 30,000 20,000 25,000 40,000 45,000 10,000 20,000 15,000 25,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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Rs. Expenses Paid during the year 2008–09: Interest on Debentures Wages & Salaries Income Tax (of which Rs. 4,000 for Non-operating Income)

25,000 36,000 55,000

Balances of Current Assets and Current Liabilities were as follows: As on 31 As on 31 March 2008 March 2009 Rs. Rs. 44,000 63,000 38,000 55,000 49,000 42,000 8,000 6,000 7,000 4,000 26,000 41,000 5,000 8,000

Sundry Debtors Sundry Creditors Stock in Trade Bills Receivable Bills Payable Cash & Bank Accrued Income from Investment

Ans.: Rs. 3,90,000. 12. The financial position of A Ltd was as follows: Liabilities Equity Share Capital General Reserve Profit & Loss A/c Creditors Bills Payable Proposed Dividend Provision for Taxation

2001 Rs. 4,50,000 40,000 30,000 55,000 20,000 42,000 40,000 6,77,000

2002 Rs. 5,00,000 70,000 48,000 83,000 16,000 50,000 50,000 8,17,000

Assets Goodwill Land & Building Plant Stock Debtors Bills Receivable Cash

2001 Rs. 1,15,000 2,00,000 80,000 77,000 1,60,000 20,000 25,000 6,77,000

2002 Rs. 90,000 1,70,000 2,00,000 1,09,000 2,00,000 30,000 18,000 8,17,000

Additional Information: i. Depreciation of Rs. 15,000 and Rs. 25,000 had been charged on plant and land & building respectively. ii. An interim dividend of Rs. 20,000 had been paid in 2002. iii. An income tax of Rs. 35,000 was paid during 2002. Required: Calculate the cash flow from the operating activities as per AS-3 (Revised). [B.Com., Delhi University—2003] Ans.: Rs. 1,35,000. III Calculation of Net Cash Flow from the investing activities as per AS-3 13. From the following information, calculate the Net Cash Flow from the investing activities: Particulars Plant & Machinery (at cost) Accumulated Depreciation on above Patents

Opening Rs. 6,00,000 1,40,000 1,40,000

Closing Rs. 7,40,000 2,00,000 80,000

Additional Information: i. During the year, a machine costing Rs. 60,000 with an accumulated depreciation of Rs. 32,000 was sold for Rs. 25,000. ii. Patents were written off to the extent of Rs. 20,000 and some patents were sold at a profit of Rs. 30,000. Ans.: (Rs. 1,05,000).

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

323

14. From the following particulars, calculate the cash flow from the investing activities of Laser Ltd for the year 2008: Purchased Rs. 2,20,000 1,75,000 3,75,000 

Investments Goodwill Machinery Patents

Sold Rs. 1,30,000  1,20,000 1,10,000

Interest received on debentures held as an investment  Rs. 33,000. Dividend received on shares held as investments – Rs. 27,000. A plot of land was purchased out of the surplus funds for an investment purchased and was let out for commercial use and rent received was Rs. 50,000. Ans.: Rs. 3,00,000. IV. Calculation of Net Cash Flow from financing activities as per AS-3 15. From the following information as furnished by Zebra Ltd, calculate its Net Cash Flow from the financing activities for the year that ended on 31 March 2009: 31 March 2008 Rs. 2,00,000 1,00,000 1,00,000

Equity Share Capital Preference Share Capital Debentures

31 March 2009 Rs. 3,50,000 75,000 1,40,000

During the year 2008–09, debentures of Rs. 70,000 were redeemed for cash, while debenture interest paid was Rs. 20,000. Preference dividend paid was Rs. 15,000 and equity dividend paid was Rs. 35,000. Ans.: Rs. 95,000. 16. From the following particulars as furnished by Jhajha Ltd, calculate its Net Cash Flow from the financing activities for the year that ended on 31 March 2009: 31 March 2008 Rs. 2,00,000 1,00,000 1,20,000 1,00,000 24,000 10,000

Equity Share Capital Preference Share Capital Debentures Long-term Loan Proposed Dividend (Equity) Outstanding Interest on Debentures

31 March 2009 Rs. 3,00,000 1,50,000 1,70,000 1,20,000 38,000 8,000

During the year 2008–09, the following events took place: New Issue of Preference Shares at 10% discount New Issue of Debentures at 20% discount Repayment of Long-term Loan Payment of Preference Dividend Payment of Interest on Long-term Loan Interim Equity Dividend paid during the year in addition to Proposed Dividend Interest on Debentures for the year New Equity Shares issued at a 10% Premium

Rs. 1,00,000 1,50,000 70,000 22,000 14,000 16,000 18,000

Ans.: Rs. 94,000.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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V. Preparation of Cash Flow Statement under Traditional/Conventional Approach 17. From the following particulars, prepare a Cash Flow Statement for the year that ended on 31 December 2008: Assets on 31 December 2007 Fixed Assets Cash in Hand Other Current Assets

Rs. 1,20,000 8,000 41,000

Liabilities on 31 December 2007 Bank Loan Trade Creditors Capital

Rs. 50,000 44,000 75,000

The balance of assets and liabilities as on 31 December 2008 were as follows: Rs. 1,80,000 6,000 76,000

Fixed Assets Cash in Hand Other Current Assets

Rs. 30,000 72,000 1,60,000

Bank Loan Trade Creditors Capital

During the year 2008, the proprietor of the business withdrew Rs. 20,000 from the business and invested a further capital of Rs. 55,000 and provided Rs. 20,000 as a depreciation on the Fixed Assets. Ans.: Net Cash Flow from operation—Rs. 63,000; Cash Flow Statement total—Rs. 1,26,000. 18. Balance Sheets of Babul & Supriyo Co. are given as follows: Liabilities Current Liabilities Loan from Babul Bank Loan Capital

Year 2007 Rs. 1,20,000  1,80,000 2,40,000

Year 2008 Rs. 1,50,000 70,000 1,20,000 4,20,000

5,40,000

7,60,000

Assets Cash Debtors Stock Land Building Machinery

Year 2007 Rs. 50,000 50,000 60,000 1,00,000 1,20,000 1,60,000 5,40,000

Year 2008 Rs. 30,000 70,000 80,000 1,60,000 2,00,000 2,20,000 7,60,000

During the year 2008 Babul & Supriyo introduced an additional capital of Rs. 50,000 and drew Rs. 70,000. Provision for depreciation on Machinery: Opening balance—Rs. 60,000 and Closing balance—Rs. 90,000. No depreciation was provided on the other assets. The value of building was increased by Rs. 20,000 and the same was adjusted with the Capital Account. Prepare the Cash Flow Statement of Babul & Supriyo Co. for the year 2008. [B.Com. (Hons), Calcutta University—Adapted] Ans.: Net Cash Flow from operation—Rs. 2,00,000; Cash Flow Statement total—Rs. 3,70,000. 19. From the following information, prepare the Cash Flow Statement for the year that ended on 31 March 2009: Balance Sheets as on Liabilities Share Capital Profit & Loss A/c Bank Loan Creditors Bills Payable

31 March 2008 Rs. 2,00,000 40,000 1,00,000 50,000 40,000 4,30,000

31 March 2009 Rs. 3,00,000 90,000 60,000 75,000 25,000 5,50,000

Assets Land & Building Machinery Stock Debtors Cash

31 March 2008 Rs. 1,20,000 1,60,000 60,000 50,000 40,000 4,30,000

31 March 2009 Rs. 1,70,000 2,40,000 40,000 50,000 50,000 5,50,000

Additional Information: i. Net profit for the year 2008–09 amounted to Rs. 50,000. ii. During the year 2008–09, a machine costing Rs. 50,000 (accumulated depreciation—Rs. 20,000) was sold for Rs. 25,000. The provision for depreciation against Machinery as on 31 March 2008 was Rs. 30,000 and on 31 March 2009 was Rs. 70,000. [B.Com. (Hons), Calcutta University—Adapted] Ans.: Net Cash Flow from operation—Rs. 1,45,000; Cash Flow Statement total—Rs. 3,10,000.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

325

20. Prepare a Cash Flow Statement of Jungle Ltd for the year that ended on 31 December 2008 from the following particulars Balance Sheets as on Liabilities Equity Share Capital 9% Preference Share Capital Profit & Loss A/c 10% Debentures Creditors Proposed Dividend Provision for Taxation

31 December 2007 Rs. 2,00,000 1,00,000

31 December 2008 Rs. 2,50,000 1,50,000

1,40,000 1,50,000 50,000 30,000 50,000 7,20,000

2,20,000 1,00,000 40,000 40,000 40,000 8,40,000

Assets Goodwill Building Machinery Stock Debtors Bank Preliminary Expenses

31 December 2007 Rs. 80,000 2,50,000

31 December 2008 Rs. 50,000 3,30,000

1,60,000 70,000 1,10,000 40,000 10,000 7,20,000

2,35,000 50,000 1,40,000 30,000 5,000 8,40,000

Additional Information: i.

A building having a book value of Rs. 40,000 was sold for Rs. 50,000. Depreciation on the building provided for 2008 was Rs. 60,000. ii. A machinery having a book value of Rs. 45,000 was sold for Rs. 35,000. Depreciation provided on the Machinery for the year 2008 amounted to Rs. 40,000. iii. Tax paid during the year 2008 was Rs. 45,000. iv. 10% Debentures were redeemed at a 10% premium. Ans.: Net Cash Flow from operation—Rs. 2,75,000; Cash Flow Statement total—Rs. 5,00,000. VI. Preparation of Cash Flow Statement as per AS-3 21. From the following information prepare a Cash Flow Statement as on 31 December 2007, applying the method given in AS-3: Balance Sheets as on 31 December 2007 Rs. 70,000

31 December 2008 Rs. 90,000

Profit & Loss A/c

25,000

55,000

Loan from Bank Creditors Proposed Dividend

50,000 25,000 20,000

20,000 45,000 30,000

1,90,000

2,40,000

Liabilities Share Capital

Assets

Less:

Fixed Assets at Cost Provision for Depreciation Inventory Debtors Cash

31 December 2007 Rs. 60,000

31 December 2008 Rs. 90,000

20,000 40,000 60,000 50,000 40,000 1,90,000

30,000 60,000 70,000 60,000 50,000 2,40,000

There was no disposal of Fixed Assets. Tax paid during 2007–08 amounted to Rs. 12,000. Ans.: Net Cash Flow from operating activities—Rs. 70,000; Net Cash Flow from investing activities—Rs. 30,000; Net Cash Flow from financing activities—Rs. 30,000. 22. From the following summary cash account of X Ltd, prepare a Cash Flow Statement for the year that ended on 31 March 2001, in accordance with AS-3 (Revised), using the Direct Method. The company does not have any cash equivalents. Summary Cash Account for the year that ended on 31 March 2001 Balance on 01 April 2000 Issue of Equity Shares

Rs. in ’000 50 300

Payment to Suppliers Wages & Salaries

Rs. in ’000 2,000 100 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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Summary Cash Account for the year that ended on 31 March 2001 Rs. in ’000 2,800 100

Receipt from Customers Sale of Fixed Asset

Rs. in ’000 200 200 250 300 50 150 3,250

Overhead Expenses Purchase of Fixed Asset Taxation Repayment of Bank Loan Dividend Balance on 31 March 2001

3,250

[C.A. (Final)—November 2001] Ans.: Net Cash Flow from Operating Activities—Rs. 2,50,000; Net Cash Flow from Investing Activities—Rs. 1,00,000; Net Cash Flow from Financing Activities—Rs. 50,000. 23. Balance Sheet of Tamta Ltd (Rs. in ’000) Liabilities Share Capital Reserve Profit & Loss A/c Debentures Tax Provision Proposed Dividend Sundry Creditors

As on 31 March 2009 1,500 350 170 100 70 60 450 2,700

As on 31 March 2008 900 280 90  50 40 640 2,000

Assets Machinery Building Investment Debtors Stock Cash & Bank

As on 31 March 2009 800 700 200 400 300 300

As on 31 March 2008 400 500  750 250 100

2,700

2,000

Additional details: i. Building is still under construction and no depreciation was charged. ii. Depreciation was charged @ 20% on the opening value of the machinery. iii. An old machine costing Rs. 70,000 was sold for Rs. 40,000 (WDV—Rs. 30,000). iv. Income Tax paid during the year—Rs. 60,000. Prepare a Cash Flow Statement as per AS-3 and interpret it. [B.Com. (Hons), Calcutta University—Adapted] Ans.: Net Cash Flow from Operating Activities—Rs. 4,10,000; Net Cash Flow from Investing Activities—Rs. 8,70,000; Net Cash Flow from Financing Activities—Rs. 6,60,000. 24. ABC Ltd gives you the following information. You are required to prepare a Cash Flow Statement by using Indirect Method as per AS-3 for the year that ended on 31 March 2004: Balance Sheets as on Liabilities Capital Retained Earnings Debentures Current Liabilities: Creditors Bank Loan Liability for Expenses

31 March 2003 Rs. 50,00,000 26,50,000 

31 March 2004 Rs. 50,00,000 36,90,000 9,00,000

8,80,000 1,50,000 3,30,000

8,20,000 3,00,000 2,70,000

Assets Plant & Machinery Less: Depreciation Current Assets: Debtors Less: Provision

31 March 2003 Rs. 27,30,000 6,10,000 21,20,000

31 March 2004 Rs. 40,70,000 7,90,000 32,80,000

23,90,000 1,50,000 22,40,000

28,30,000 1,90,000 26,40,000 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

327

CASH FLOW ANALYSIS

Balance Sheets as on Liabilities Dividend Payable

31 March 2003 Rs. 1,50,000

31 March 2004 Rs. 3,00,000

91,60,000

1,12,80,000

Assets Cash Marketable Securities Inventories Prepaid Expenses

31 March 2003 Rs. 15,20,000 11,80,000 20,10,000 90,000 91,60,000

31 March 2004 Rs. 18,20,000 15,00,000 19,20,000 1,20,000 1,12,80,000

Additional Information: i. ii.

Net Profit for the year that ended on 31 March 2004, after charging depreciation, is Rs. 22,40,000. Debtors worth Rs. 2,30,000 were determined to be worthless and were written off against provision for doubtful debt account during the year. iii. ABC Ltd declared a dividend of Rs. 12,00,000 for the year 2003–04. [C.A. (Inter)—May 2004] Ans.: Net Cash Flow from operating activities—Rs. 19,60,000; Net Cash Flow from investing activities—Rs. 13,40,000; Net Cash Flow from financing activities—Nil. 25. From the following details relating to the accounts of Grow More Ltd, prepare a Cash Flow Statement: 31 March 2002 Rs. Liabilities: Share Capital Reserve Profit & Loss A/c Debentures Provision for Taxation Proposed Dividend Sundry Creditors Assets: Plant & Machinery Land & Building Investments Sundry Debtors Stock Cash in Hand/at Bank

31 March 2001 Rs.

10,00,000 2,00,000 1,00,000 2,00,000 1,00,000 2,00,000 7,00,000 25,00,000

8,00,000 1,50,000 60,000  70,000 1,00,000 8,20,000 20,00,000

7,00,000 6,00,000 1,00,000 5,00,000 4,00,000 2,00,000 25,00,000

5,00,000 4,00,000  7,00,000 2,00,000 2,00,000 20,00,000

i. ii. iii. iv.

Depreciation @ 25% was charged on the opening value of Plant and Machinery. During the year, an old machine costing 50,000 (WDV – 20,000) was sold for Rs. 35,000. Rs. 50,000 was paid towards income tax during the year. The building under construction was not subject to any depreciation. [C.A. (Inter)—November 2002] Ans.: Net Cash Flow from Operating Activities—Rs. 3,10,000; Net Cash Flow from Investing Activities—Rs. 6,10,000; Net Cash Flow from Financing Activities—Rs. 3,00,000. 26. X Ltd has the following balances on 01 April 2008:

Less:

Rs. 15,00,000 5,00,000

Fixed Assets at Cost Accumulated Depreciation Bank

Rs. 10,00,000 87,500 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

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MANAGEMENT ACCOUNTING

Rs. Other Current Assets Current Liabilities

Rs. 6,25,000 2,50,000

Next year’s estimates are: i. ii. iii.

Net Profit will be Rs. 1,75,000 after providing for a depreciation of Rs. 1,50,000. The company will acquire Fixed Assets costing Rs. 2,50,000 after selling one machine for Rs. 70,000, whose cost is Rs. 1,50,000, on which the depreciation provided will amount to Rs. 90,000. Current Assets and Current Liabilities (other than Bank balance) on 31 March 2009 are estimated to be Rs. 7,50,000 and Rs. 4,00,000 respectively.

Required: Calculate the cash flows from the operating activities and the investing activities for the year 2008–09. [B.Com., Delhi University—Adapted] Ans.: Cash flows from Operating Activities—Rs. 3,40,000; Cash flows from Investing Activities—Rs. 1,80,000. 27. From the following particulars, prepare a Cash Flow Statement of Gulmohor Co. Ltd for the year that ended on 31 March 2007: Dr.

Profit & Loss A/c for the Year that Ended on 31 March 2007 Rs. Particulars 45,000 By Sales (Less Return) 3,60,000 By Closing Stock 1,75,000 2,40,000 8,20,000 To Office Expenses 50,000 By Gross Profit b/d To Selling Expenses 30,000 By Interest on Deposit with Bank To Depreciation on Fixed Asset 40,000 To Income Tax 50,000 To Net Profit c/d 80,000 2,50,000 To Dividend 30,000 By Balance b/d To Balance c/d 70,000 By Net Profit b/d 1,00,000

Cr. Rs. 7,50,000 70,000

Particulars To Opening Stock To Purchases (Less Return) To Wages To Gross Profit c/d

8,20,000 2,40,000 10,000

2,50,000 20,000 80,000 1,00,000

Balance Sheets as on Liabilities Share Capital Profit & Loss A/c Loan from Bank Sundry Creditors Bills Payable Outstanding Expenses Tax Liability

31 March 2006 Rs. 3,00,000 20,000 1,00,000 60,000 30,000 10,000 15,000

31 March 2007 Rs. 3,80,000 70,000 1,25,000 55,000 40,000 15,000 25,000

5,35,000

7,10,000

Assets Plant & Machinery (net) Investment Deposit with Bank Stock Sundry Debtors Bills Receivable Cash Prepaid Expenses

31 March 2006 Rs. 3,15,000 50,000 45,000 65,000 40,000 17,000 3,000 5,35,000

31 March 2007 Rs. 4,60,000 50,000 70,000 42,500 45,000 35,000 7,500 7,10,000

[B.Com. (Hons), Kalyani University—2008] Ans.: Net Cash Flow from Operating Activities—Rs. 1,18,000; Net Cash Flow from Investing Activities—Rs. 1,75,000; Net Cash Flow from Financing Activities—Rs. 75,000.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

329

28. The summarized Balance Sheets of KLM Ltd as on 31 March 2007 and 31 March 2008 are given as follows: Liabilities Share Capital General Reserve Profit & Loss A/c Mortgage Loan Sundry Creditors Provision for Tax

As on 31 March 2007 Rs. 4,00,000 40,000 1,00,000 60,000 30,000 10,000 6,40,000

As on 31 March 2008 Rs. 4,80,000 70,000 1,80,000 50,000 40,000 15,000 8,35,000

Assets Fixed Assets Investment Stock Sundry Debtors Bills Receivable Bank

As on 31 March 2007 Rs. 3,40,000 1,25,000 45,000 65,000 25,000 40,000 6,40,000

As on 31 March 2008 Rs. 4,60,000 1,50,000 70,000 80,000 30,000 45,000 8,35,000

Additional Information: i. ii. iii. iv.

An investment costing Rs. 35,000 was sold during the year for Rs. 45,000. Provision for tax made during the year was Rs. 12,000. Dividend paid during the year amounted to Rs. 20,000. During the year, a part of the Fixed Assets costing Rs. 10,000 was sold for Rs. 12,000, and the depreciation provided on the Fixed Assets for the year 2007–08 was Rs. 25,000. You are asked to prepare a Cash Flow Statement for the year that ended on 31 March 2008 as per AS-3. Ans.: Net Cash Flow from Operating Activities—Rs. 1,13,000; Net Cash Flow from Investing Activities—Rs. 1,58,000; Net Cash Flow from Financing Activities—Rs. 50,000. 29. Jaroa Ltd has the following balances as on 1 April 2008:

Less:

Fixed Assets Depreciation Stock & Debtors Bank Balance Creditors Bills Payable Capital (Shares of Rs. 100 each)

Rs. 8,50,000 1,20,000 7,30,000 3,25,000 65,000 84,000 44,000 4,00,000

The company made the following estimates for the financial year 2008–09: i. The company will pay a free-of-tax dividend @ 10%, the rate of tax being 20%. ii. The company will acquire Fixed Assets costing Rs. 1,20,000 after selling one machine for Rs. 30,000, costing Rs. 65,000, and on which the depreciation provided amounted to Rs. 12,500. iii. Stock and Debtors, Creditors and Bills Payable at the end of the financial year are expected to be Rs. 4,30,000, Rs. 1,08,000 and Rs. 58,000 respectively. iv. The Net Profit would be Rs. 87,500 after a depreciation of Rs. 36,000. Prepare the projected Cash Flow Statement and ascertain the bank balance of R Ltd at the end of the financial year 2008–09. [C.A. (PE II)—Adapted] Ans.: Net Cash Flow from Operating Activities—Rs. 79,000; Net Cash Flow from Investing Activities—Rs. 90,000; Net Cash Flow from Financing Activities—Rs. 50,000; Closing bank balance—Rs. 4,000. 30. Raj Ltd gives you the following information for the year that ended on 31 March 2006: i. Sales for the year—Rs. 48,00,000. The company sold goods for cash only. ii. Cost of Goods Sold was 75% of sales. iii. Closing inventory was higher than the opening inventory by Rs. 50,000. iv. Trade Creditors on 31 March 2006 exceed the outstanding on 31 March 2005 by Rs. 1,00,000. v. Tax paid during the year amounts to Rs. 1,50,000. vi. Amount paid to Trade Creditors during the year was Rs. 35,50,000.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

330 vii. viii. ix. x. xi.

MANAGEMENT ACCOUNTING

Administrative and selling expenses paid was Rs. 3,60,000. One new machinery was acquired in December 2005 for Rs. 6,00,000. Dividend paid during the year was Rs. 1,20,000. Cash in hand and at bank on 31 March 2006 was Rs. 70,000. Cash in hand and at bank on 1 April 2005 was Rs. 50,000.

Required: Prepare a Cash Flow Statement for the year that ended on 31 March 2006, as per the prescribed accounting standard. [C.A. (PE II)—May 2006] Ans.: Net Cash Flow from Operating Activities—Rs. 7,40,000; Net Cash Flow from Investing Activities—Rs. 6,00,000; Net Cash Flow from Financing Activities—Rs. 1,20,000. 31. The Balance Sheet of Bollywood Ltd as on 31 March 2008 and 31 March 2009 are as follows: Balance Sheets (Rs. in ’000) Liabilities Equity Share Capital General Reserve Profit & Loss A/c Secured Loan Sundry Creditors Bills Payable Outstanding Expenses Unpaid Dividend

As on 31 March 2008 350 20 40  30 50 10 10 510

As on 31 March 2009 400   180 45 25 30  680

Assets Fixed Assets Stock Debtors Bills Receivable Investment Cash Profit & Loss A/c

As on 31 March 2008 210 90 60 50 70 30 –

As on 31 March 2009 320 140 44 75 40 31 30

510

680

Accumulated depreciation was Rs. 60,000 on 31 March 2008 and on 31 March 2009, it was Rs. 57,000. Machinery costing Rs. 1,70,000, having a WDV of Rs. 80,000, was sold for Rs. 70,000. Prepare a Cash Flow Statement for the year that ended on 31 March 2009 as per AS-3. [B.Com., Bombay University—Adapted] Ans.: Net Cash Flow from Operating Activities—Rs. 18,000; Net Cash Flow from Investing Activities—Rs. 2,37,000; Net Cash Flow from Financing Activities—Rs. 2,20,000. 32. Following are the Balance Sheets as on 31 March 2008 and 31 March 2009: Liabilities Equity Share Capital General Reserve Profit & Loss A/c Mortgage Loan (Against Plant & Machinery) Sundry Creditors Provision for Tax Bills Payable Bank Overdraft

As on 31 March 2008 Rs. 1,00,000 60,000 5,000 –

As on 31 March 2009 Rs. 1,50,000 10,000 30,000 40,000

30,000 10,000 10,000 – 2,15,000

20,000 15,000 30,000 65,000 3,60,000

Assets Land & Building Plant & Machinery Furniture & Fittings Investment Stock Sundry Debtors Cash Preliminary Expenses

As on 31 March 2008 Rs. 80,000 42,000 7,000 6,000 27,500 46,500 2,000 4,000

As on 31 March 2009 Rs. 75,000 85,000 6,000 12,000 94,500 77,200 7,300 3,000

2,15,000

3,60,000

During the year that ended on 31 March 2009, the following transactions took place: i. Bonus shares have been issued at one for every two held out of General Reserve. ii. Company purchased plant and machinery for Rs. 60,000, out of which Rs. 20,000 was paid in cash and for the rest, plant and machinery was mortgaged to the seller. iii. Dividend Paid was Rs. 15,000.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

331

iv. v. vi. vii.

Furniture (Book value —Rs. 2,100) was sold for Rs. 3,045. Investment costing Rs. 3,000, written off in the year 2002, were sold for Rs. 5,000 on 12 March 2009. Furniture purchased during the year was for Rs. 1,500. Net Profit for the year, after charging a depreciation on land and building, plant and machinery, furniture and fittings, and Rs. 21,000 as provision for tax. Prepare a Cash Flow Statement for the year that ended on 31 March 2009, as per AS-3. [B.Com., Bombay University—Adapted] Ans.: Net Cash Flow from Operating Activities—Rs. 25,245; Net Cash Flow from Investing Activities—Rs. 19,455; Net cash flow from Financing Activities—Rs. 15,000.. 33. The Balance Sheets of KLO Ltd as on 31 March 2008 and 31 March 2009 are as follows: Liabilities Share Capital General Reserve Profit on Sale of Investment 7% Debentures Creditors for Goods

Creditors for Expenses Proposed Dividend Provision for Tax

31 March 2008 Rs. 12,00,000 4,00,000 –

31 March 2009 Rs. 14,00,000 5,00,000 20,000

6,00,000 3,20,000

4,00,000 5,00,000

20,000 60,000 1,40,000

24,000 70,000 1,50,000

29,40,000

34,64,000

Assets

Less:

Fixed Assets Accumulated Depreciation

Stock (at Cost) Sundry Debtors (Less Provision of Rs. 40,000 & Rs. 50,000 respectively) Bills Receivable Prepaid Expenses Miscellaneous Expenditure

31 March 2008 Rs. 20,00,000 4,00,000 16,00,000

31 March 2009 Rs. 24,00,000 5,00,000 19,00,000

4,00,000 4,50,000

5,40,000 4,90,000

80,000 20,000 30,000

1,30,000 24,000 20,000

29,40,000

34,64,000

Additional Information: i. During the current year, the Fixed Assets (valued at Rs. 20,000, depreciation written off —Rs. 60,000) was sold for Rs. 16,000. ii. Proposed dividend for the last year paid in the current year. iii. During the current year, investments costing Rs. 1,60,000 were sold and later in the year, investments of the same cost were purchased. iv. Debentures were redeemed at a premium of 10%. v. Liability for tax for the last year came to Rs. 1,10,000. vi. During the current year, the bad debts written off were Rs. 30,000 against provision. You are asked to prepare a Cash Flow Statement for the year that ended on 31 March 2009 as per AS-3. Ans.: Net Cash Flow from Operating Activities—Rs. 5,52,000; Net Cash Flow from Investing Activities—Rs. 4,44,000); Net Cash Flow from Financing Activities—Rs. 1,08,000. 34. The following are the summarized Balance Sheets of a company as on 31 March 2007 and 31 March 2008: Liabilities Share Capital General Reserve Profit & Loss A/c Bank Loan Sundry Creditors Provision for Tax

Rs. in ’000 As on 31 As on 31 March March 2007 2008 100.00 125.00 25.00 30.00 15.25 15.30 35.00 – 75.00 67.60 15.00 17.50 265.25

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Assets Land & Building Plant & Machinery Stock Sundry Debtors Cash Bank Goodwill

255.40

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rs. in ’000 As on 31 As on 31 March March 2007 2008 100.00 95.00 75.00 84.50 50.00 37.00 40.00 32.10 0.25 0.30 4.00 2.50 265.25 255.40

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

332

MANAGEMENT ACCOUNTING

Additional Information: i. ii.

Dividends of Rs. 11,500 were paid. The following assets of another company were purchased for a consideration of Rs. 25,000 paid for in shares: Stock—Rs. 10,000 and Machinery—Rs. 12,500. iii. Machinery was further purchased for a cash of Rs. 12,500. iv. Depreciation written off: on building—Rs. 5,000 and on machinery—Rs. 7,000. v. Income tax paid during the year—Rs. 14,000. vi. Net profit for the year was Rs. 33,050. Prepare a Cash Flow Statement for the year that ended on 31 March 2008 as per AS-3. [B.Com. (Hons), Calcutta University—Adapted] Ans.: Net Cash Flow from Operating Activities—Rs. 54,550; Net Cash Flow from Investing Activities—Rs. 4,000; Net cash flow from Financing Activities—Rs. 46,500. 35. The following are the Balance Sheets of a company as on 31 March 2008 and 31 March 2009:

Liabilities Equity Share Capital 8% Preference Share Capital General Reserve Capital Reserve Securities Premium Profit & Loss A/c Sundry Creditors Bills Payable Provision for Tax Proposed Dividend

Rs. in ’000 As on 31 As on 31 March March 2008 2009 300 350 150 100 40 75 – 20 20 25 30 73 55 83 20 16 40 50 42 50 697 842

Assets Goodwill Land & Building (At Cost) Plant & Machinery (Net) Investment Stock Sundry Debtors Bills Receivable Cash & Bank Preliminary Expenses

Rs. in ’000 As on 31 As on 31 March March 2008 2009 100 89 200 170 80 200 20 35 77 100 140 170 20 30 25 18 35 30 697

842

Additional Information: i. One piece of land was sold at a profit and the profit was transferred to Capital Reserve. ii. One machine was sold for Rs. 15,000, WDV of which on the date of sale was Rs. 18,000. iii. The depreciation charged on plant and machinery amounted to Rs. 16,000. iv. A dividend of Rs. 4,000 was received from investment, of which Rs. 2,000 was credited to investment account, being a dividend declared from pre-acquisition profit. v. The actual amount of dividend and tax paid were Rs. 35,000 and Rs. 38,000 respectively. Prepare a Cash Flow Statement for the year that ended on 31 March 2009 as per AS-3. [M.Com., Calcutta University—Adapted] Ans.: Net Cash Flow from Operating Activities—Rs. 1,25,000; Net Cash Flow from Investing Activities—Rs. 1,02,000; Net Cash Flow from Financing Activities—Rs. 30,000. 36. From the following Balance Sheets and income statement of Tiku Ltd, prepare a Cash Flow Statement for the year that ended on 31 March 2009: Balance Sheets as on

Liabilities Paid-up Capital

Retained Earnings

Rs. in ’000 As on 31 As on 31 March March 2008 2009 50 50

350

Assets Fixed Assets (After Accumulated Depreciation of 100 & 175 respectively)

Rs. in ’000 As on 31 As on 31 March March 2008 2009 900 950

415 (Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

Rs. in ’000 As on 31 As on 31 March March 2008 2009 500 550 80 100 80 90

Liabilities Long-term Debt Notes Payable Accounts Payable

1,060

Assets

Inventory Accounts Receivable Cash

1,205

333

Rs. in ’000 As on 31 As on 31 March March 2008 2009

100 50 10 1,060

110 60 85 1,205

Income Statement for the year that ended on 31 March 2009

Less: Less: Less: Less:

(Rs. in ’000) 1,200 800 400 150 250 50 200 100 100

Sales Cost of Goods Sold Gross Profit Selling, General & Administrative Expenses Earnings before Interest & Tax (EBIT) Interest Expenses Earnings before Tax (EBT) Tax @ 50% Net Income

Additional Information: Rs. in ’000 35 65 75

Dividend Paid Addition to retained earnings Depreciation

Ans.: Net Cash Flow from Operating Activities—Rs. 2,35,000; Net Cash Flow from Investing Activities—Rs. 1,25,000; Net Cash Flow from Financing Activities—Rs. 35,000. 37. From the following information, prepare a Cash Flow Statement for the year that ended on 31 March 2009: Balance Sheet of Queen Ltd (Rs. in Lakhs) Liabilities Equity Share Capital Preference Share Capital Capital Redemption Reserve Securities Premium Profit & Loss A/c General Reserve Current Liabilities Provision for Taxation

As on 31 March 2008 10.00 5.00 Nil 0.25 2.75 10.00 7.00 3.00 38.00

As on 31 March 2009 15.00 Nil 5.00 Nil 3.00 7.00 2.00 4.00 36.00

Assets Plant at WDV Stock Debtors Cash Balance Miscellaneous Expenditure

As on 31 March 2008 15.00 6.00 15.00 1.00 1.00

As on 31 March 2009 18.00 3.00 9.00 2.00 4.00

38.00

36.00

Additional Information: i. ii. iii.

Equity shares were of Rs. 100 each, fully paid up. Preference Shares were of Rs. 100 each, but paid up to Rs. 50 per share. During the year 2008–09, the company paid Rs. 2,00,000 as Equity Dividend and Rs. 56,250 as Preference Dividend. The company redeemed the Preference Shares at a premium of 5% after making a call of Rs. 50 per share, to make the shares fully paid.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

334

MANAGEMENT ACCOUNTING

iv.

During the year 2008–09, one plant, whose book value was Rs. 1,00,000, was sold at a loss of Rs. 25,000, and the company purchased the plant for Rs. 6,00,000. v. Miscellaneous expenditure included Rs. 5,00,000 Share Issue Expenses paid during the year. vi. A sum of Rs. 3,50,000 was provided for taxation for the year. Ans.: Net Cash Flow from Operating Activities—Rs. 9,81,250; Net Cash Flow from Investing Activities—Rs. 5,25,000; Net Cash Flow from Financing Activities—Rs. 3,56,250. 38. The Balance Sheets of Bharbi Ltd as on 31 March 2008 and 31 March 2009 are as follows:

Liabilities Share Capital General Reserve Profit & Loss A/c Capital Reserve Debentures Provision for Tax Proposed Dividend Unpaid Dividend Current Liabilities

As on 31 March 2008 Rs. 3,00,000 1,70,000 60,000 – 2,00,000 90,000 30,000 – 1,20,000 9,70,000

As on 31 March 2009 Rs. 4,00,000 2,00,000 75,000 10,000 1,40,000 85,000 36,000 4,000 1,30,000 10,80,000

Assets

Less:

Fixed Assets at Cost Depreciation Trade Investment Current Assets Bank Preliminary Expenses

As on 31 March 2008 Rs. 8,00,000 2,30,000 5,70,000 1,00,000 2,00,000 80,000 20,000

As on 31 March 2009 Rs. 9,50,000 2,90,000 6,60,000 80,000 3,00,000 30,000 10,000

9,70,000

10,80,000

During the year 2008–09, the company: i.

Sold one machine for Rs. 25,000, the cost of which was Rs. 50,000 and the depreciation provided on it was Rs. 21,000. ii. Provided Rs. 95,000 as depreciation. iii. Redeemed 30% of the debentures @ 103. iv. Sold some trade investment at a profit which was credited to Capital Reserve. v. Decided to value the stock at cost whereas previously the practice was to value the stock at cost less 10%. The stock according to books on 31 March 2008 was Rs. 54,000. The stock on 31 March 2009 was correctly valued at cost Rs. 75,000. vi. Decided to write off Fixed Assets costing Rs. 14,000 (fully depreciated). Prepare a Cash Flow Statement for the year that ended on 31 March 2009 as per AS-3. Ans.: Net Cash Flow from Operating Activities—Rs. 96,800; Net Cash Flow from Investing Activities—Rs. 1,59,000; Net Cash Flow from Financing Activities—Rs. 12,200. 39. Following are the summary of cash transactions extracted from the books of a company: Balance as on 1 July 2008 Receipts from Customers Issue of Shares Sale of Fixed Assets Total Payment to Suppliers Payment for Fixed Assets Payment of Overheads Wages & Salaries Taxation Dividend Repayment of Bank Loan Balance on 30 June 2009 Total

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rs. in ’000 70 5,566 600 256 6,492 4,094 460 230 138 486 160 500 424 6,492

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

CASH FLOW ANALYSIS

335

Prepare a Cash Flow Statement for the year that ended on 30 June 2009, in accordance with AS-3. [C.S. (Inter)—December 2002] Ans.: Net Cash Flow from Operating Activities—Rs. 6,18,000; Net Cash Flow from Investing Activities—Rs. 2,04,000; Net Cash Flow from Financing Activities—Rs. 60,000. 40. The Balance Sheets of Jhajha Ltd as on 31 March 2008 and 31 March 2009 are as follows: Balance Sheet of Jhajha Ltd (Rs. in Lakhs) As on 31 March 2008 300.00 225.00

As on 31 March 2009 300.00 240.00

6% Debentures (Unsecured)

75.00

75.00

Mortgage Loan (by Freehold Property) Creditors

27.00

14.25

45.00

45.00

Proposed Dividend (subject to Deduction of Tax) Provision for Taxation Secured Overdraft (by Floating Charge on Assets)

22.50

23.25

Freehold Property at Cost Plant & Machinery (at Cost less Depreciation) Investment in Shares of companies under same management (unquoted) Investment in Shares of other Companies (quoted) (Market Value on 31 March 2008 – 150 Lakhs, and on 31 March 2009 – 120 Lakhs) Stock

21.00 15.00

37.50 82.50

Debtors Bank

730.50

817.50

Liabilities Share Capital Reserve

Assets

As on 31 March 2008 225.00 135.00

As on 31 March 2009 240.00 165.00

150.00

150.00

112.50

112.50

52.50

75.00

45.00 10.50

75.00

730.50

817.50

The following additional information for the year 2008–09 are relevant: i. Credit Sales Rs. 675 lakhs ii. Credit Purchases Rs. 520 lakhs iii. Overheads Rs. 83.75 lakhs iv. Depreciation on Plant & Machinery Rs. 17.50 lakhs v. Dividend for 2007–08 was paid in full. vi. Amount paid towards taxation for the year 2007–08 Rs. 21.50 lakhs In view of credit squeeze, the company has been asked by the bank to reduce the overdraft substantially within 6 months, if possible by 50%. Prepare a Cash Flow Statement for the year that ended on 31 March 2009 as per AS-3. Ans.: Net Cash Flow from Operating Activities – 26.41 (Rs. in lakhs); Net Cash Flow from Investing Activities—62.50 (Rs. in lakhs); Net Cash Flow from Financing Activities—41.90 (Rs. in lakhs). 41. Following are the Balance Sheets of a company as on 31 March 2008 and 31 March 2009: Liabilities Equity Share Capital (Rs. 10 each, fully paid) General Reserve Capital Reserve (Profit on Sale of Investment)

As on 31 March 2008 Rs. 3,00,000

As on 31 March 2009 Rs. 3,50,000

1,50,000 –

2,25,000 5,000

Fixed Assets (Net)

As on 31 March 2008 Rs. 4,00,000

As on 31 March 2009 Rs. 4,75,000

Long-term Investment (at Cost) Stock at Cost

90,000 1,00,000

90,000 1,35,000

Assets

(Continued)

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

336

MANAGEMENT ACCOUNTING

Liabilities 15% Debentures Accrued Expenses Creditors Proposed Dividend Provision for Tax

As on 31 March 2008 Rs. 1,50,000 5,000 80,000 15,000 35,000 7,35,000

As on 31 March 2009 Rs. 1,00,000 6,000 1,25,000 17,000 38,000 8,66,000

Assets Debtors Cash

As on 31 March 2008 Rs. 1,12,500 32,500

As on 31 March 2009 Rs. 1,22,500 43,500

7,35,000

8,66,000

Additional Information: i. The balance of accumulated depreciation stood at Rs. 1,00,000 on 31 March 2008 and Rs. 1,25,000 on 31 March 2009. ii. During the year 2008–09, Fixed Assets having a book value of Rs. 5,000 (accumulated depreciation— Rs. 15,000) was sold for Rs. 4,000. iii. During the year 2008–09, investments costing Rs. 40,000 were sold. iv. Debentures were redeemed at a premium of 10%. v. Tax of Rs. 2,75,500 was paid. vi. Dividend proposed in 2007–08 was paid in 2008–09. You are asked to prepare a Cash Flow Statement for the year that ended on 31 March 2009 as per AS-3. [M.Com., Calcutta University—Adapted] Ans.: Net Cash Flow from Operating Activities—Rs. 1,57,000; Net Cash Flow from Investing Activities—Rs. 1,11,000; Net Cash Flow from Financing Activities—Rs. 35,000. 42. Swastik Oils Ltd has furnished the following information for the year that ended on 31 March 2003:

Net Profit Dividend (including Interim Dividend paid) Provision for Income Tax Income Tax paid during the year Loss on Sale of Assets (Net) Book Value of Assets Sold Depreciation charged to Profit & Loss A/c Profit on Sale of Investments Interest Income on Investments Value of Investments Sold Interest Expenses Interest paid during the year Increase in Working Capital (excluding Cash & Bank Balance) Purchase of Fixed Assets Investments on Joint Venture Expenditure on Construction WIP Proceeds from Long-term Borrowings Proceeds from Short-term Borrowings Opening Cash & Bank Balances Closing Cash & Bank Balances

Rs. in Lakhs 37,500 12,000 7,500 6,372 60 277 30,000 150 41,647.50 3,759 15,000 15,780 84,112.50 21,840 5,775 69,480 38,970 30,862.50 11,032.50 2,569

You are required to prepare the Cash Flow Statement for the year that ended on 31 March 2003 as per AS-3 (make assumption wherever necessary). [C.S. (Inter)—June 2004] Ans.: Net Cash Flow from Operating Activities—4,333.50 (Rs. in lakhs); Net Cash Flow from Investing Activities — 51,321.00 (Rs. in lakhs); Net Cash Flow from Financing Activities—42,052.50 (Rs. in lakhs).

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

337

CASH FLOW ANALYSIS

43. Financial Statements of Murli Ltd for the year 2007 and 2008 were as follows: Balance Sheets (Rs. in ’000) Liabilities Share Capital General Reserve Profit & Loss A/c Bank Overdraft Sundry Creditors Provision for Tax Proposed Dividend

As on 31 December 2007 800 300 200 300 1,200 300 80 3,180

As on 31 December 2008 900 400 300 464 1,000 400 90 3,554

Assets Fixed Assets Additions Depreciation Investment Stock Debtors

As on 31 December 2007 600 200 (300) 500 200 1,400 1,080 3,180

As on 31 December 2008 800 100 (350) 550

For 2007 430 – –

For 2008 660 30 50

200 630

200 940

1,230 1,774 3,554

Profit & Loss A/c (Rs. in ’000) Particulars To Taxation To Proposed Dividend To Transfer to General Reserve

For 2007 250 80 100

For 2008 450 90 100

200 630

300 940

To Balance c/f

Particulars By Trading Profit By Profit on Sale of Investment By Income Tax Excess provided in the previous year By Balance from last year

Additional Information: i. For the year that ended on 31 December 2008, purchases were Rs. 60 lakhs and sales were Rs. 70 lakhs. ii. Trading profit for the year 2008 was arrived at after charging a depreciation of Rs. 50,000 and directors’ remuneration was Rs. 1,20,000. [M.Com., Madras University—Adapted] Ans.: Net Cash Flow from Operating Activities—314 (Rs. in ’000); Net Cash Flow from Investing Activities—130 (Rs. in ’000); Net Cash Flow from Financing Activities—20 (Rs. in ’000). 44. From the following Balance Sheets as on 31 December 2000 and 31 December 2001 and from the additional information of Kalyani Ltd, you are required to prepare a Cash Flow Statement:

Liabilities Share Capital Profit & Loss A/c Debentures Sundry Creditors Provision for Doubtful Debt

As on 31 December 2000 Rs. 1,82,000 13,040 40,000 14,360 1,000

As on 31 December 2001 Rs. 1,86,000 13,560 – 15,840 1,100

2,50,400

2,16,500

Assets Goodwill Land Plant & Machinery Closing Stock Sundry Debtors Cash in Hand

As on 31 December 2000 Rs. 10,000 40,000 1,00,000 69,200 19,200 12,000 2,50,400

As on 31 December 2001 Rs. 5,000 50,000 66,000 62,700 22,000 10,800 2,16,500

Additional Information: i. A dividend of Rs. 5,000 was paid. ii. Provision for tax made during the year—Rs. 9,000. iii. During the year, a machine costing Rs. 20,000 (accumulated depreciation—Rs. 6,000) was sold for Rs. 11,000. iv. The provision for depreciation against Plant and Machinery as on 31 December 2000 was Rs. 30,000 and on 31 December 2001 was Rs. 44,000. [B.Com. (Hons), Kalyani University—2002]

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M04\LAYOUT_M04\M04_DEBA_ISBN_EN_SE_C04_III.indd

338

MANAGEMENT ACCOUNTING

Ans.: Net Cash Flow from Operating Activities—Rs. 38,800; Net Cash Flow from Investing Activities—Rs. 1,000; Net cash flow from Financing Activities—(Rs. 41,000). 45. From the following information, prepare a Cash Flow Statement for the year that ended on 31 March 2009: Balance Sheets (Rs. in Lakhs) Liabilities Equity Share Capital (Rs. 100) Redeemable Preference Shares of Rs. 100, Paid Rs. 50 Securities Premium Capital Redemption Reserve General Reserve Profit & Loss A/c Current Liabilities Provision for Taxation

As on 31 March 2008 10.00 5.00

As on 31 March 2009 15.00 –

0.25 – 10.00 2.75 7.00 3.00 38.00

– 5.00 7.00 3.00 2.00 4.00 36.00

Assets Plant at WDV Stock Debtors Cash Balance Miscellaneous Expenditure

As on 31 March 2008 15.00 6.00

As on 31 March 2009 18.00 3.00

15.00 1.00 1.00

9.00 2.00 4.00

38.00

36.00

Additional Information: i.

During the year, the company paid Rs. 2,00,000 as the equity dividend and Rs. 56,250 as the preference dividend. ii. The company redeemed the preference shares at a premium of 5% after making a call of Rs. 50 per share to make the shares fully paid. iii. During the year, one plant whose book value was Rs. 1,00,000 was sold at a loss of Rs. 25,000 and the company purchased the plant for Rs. 6,00,000. iv. Miscellaneous expenditure included Rs. 5 lakhs as share issue and other expenses paid during the year. v. A sum of Rs. 3,50,000 has been provided for taxation for the year. [B.Com. (Hons), Calcutta University—Adapted] Ans.: Net Cash Flow from Operating Activities—Rs. 14,31,250; Net Cash Flow from Investing Activities— Rs. 5,25,000; Net Cash Flow from Financing Activities—Rs. 8,06,250. 46. The summarized Balance Sheets of Lalgola Ltd as on 31 March 2009 and 31 March 2008 are given as follows:

Liabilities Equity Share Capital (of Rs. 100 each) Reserves & Surplus Secured Loan Sundry Creditors Provision for Tax

As on 31 March 2009 Rs. 2,30,000

As on 31 March 2008 Rs. 1,97,000

3,12,000

1,48,000 87,000 2,51,450 65,000 7,48,450

2,98,000 1,72,000 10,12,000

Assets Fixed Assets Investment Stock Sundry Debtors Bank Prepaid Expenses

As on 31 March 2009 Rs. 6,00,000

As on 31 March 2008 Rs. 3,60,000

10,000 1,96,000 1,40,000 45,000 21,000 10,12,000

11,250 1,42,500 90,700 1,30,000 14,000 7,48,450

Additional Information: i. Investments costing Rs. 5,000 were sold during the year for Rs. 4,800 and government securities with the face value of Rs. 4,000 were purchased during the year for Rs. 3,750.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

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Rev II

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ii.

Add: Less:

339

The position of reserves and surplus was as follows: Rs. 1,48,000 1,98,500 3,46,500 34,500 3,12,000

Balance on 1 April 2008 Net Profit for 2008–09 Dividend Balance on 31 March 2009

iii.

Accumulated depreciation on Fixed Assets on 31 March 2009 and on 31 March 2008 were Rs. 1,80,000 and Rs. 1,60,000 respectively. Depreciation provided for 2008–09 amounted to Rs. 30,000. iv. Machinery costing Rs. 20,000, which was one-half depreciated, was discarded and written off in 2008–09. You are asked to prepare a Cash Flow Statement for the year that ended on 31 March 2009 as per AS-3. Ans.: Net Cash Flow from Operating Activities—Rs. 2,82,450; Net Cash Flow from Investing Activities— Rs. 2,78,950; Net Cash Flow from Financing Activities—Rs. 88,500. 47. Financial Statements for the year that ended on 30 September 2008 of Karol Bag Ltd are given as follows: Rs. in ’000 5,684 2,740 1,030 80 76 220 615 4,761 923

Sales (A) Cost of Goods Sold (Including a Depreciation of Rs. 2,80,000) Operating Expenses (Including a Depreciation of Rs. 3,10,000) Interest Expenses Loss on Sale of Equipment Net Loss on Fire Income Tax Total Expenses (B) Net Income (A – B)

Comparative Balance Sheet (Rs. in ’000) As on 30 June 2008 Liabilities Capital Stock, Rs. 10 per Value Premium on Stock Retained Earnings Bonds Payable, Net of Amortized Amount Bank Loan Payable Accounts Payable Accrued Operating Expenses Income Tax Payable

9,600 6,400 2,477 3,765 1,230 1,094 167 370 25,103 As on 30 June 2008

Assets Land Building, Net of Accumulated Depreciation Equipment, Net of Accumulated Depreciation Investment in Hudco Ltd Inventory Accounts Receivable Temporary Investment Cash Prepaid Expenses

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

2,630 4,360 4,784 3,800 3,872 2,641 150 2,820 46 25,103

As on 30 June 2007 6,800 3,600 1,872 3,750 850 963 152 210 18,197 As on 30 June 2007 1,520 3,810 4,400 0 2,960 2,840 65 2,567 35 18,197

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Additional Information: i. The investments in Hudco Ltd were acquired upon the issuance of 1,90,000 shares of capital, having a market value of Rs. 20 per share at the time of acquisition. ii. A fire during the financial year destroyed the wing of a building that had a Net Book Value of Rs. 2,60,000 at the time of loss. Equipment having a Net Book Value of Rs. 3,80,000 was also destroyed in the fire. The insurance recovery amounted to Rs. 4,20,000. iii. The Net Book Value of the equipment sold during the financial year was Rs. 2,38,000. iv. Included in the total depreciation charges for the year was depreciation of Rs. 1,60,000 on building. v. No bonds were issued during the financial year. vi. The only entries to retained earnings were those to close out the net income for the year and to record the dividend declared for the year. You are asked to prepare a Cash Flow Statement for the year that ended on 30 June 2008 as per AS-3. [M.Com., Delhi University—Adapted] Ans.: Net Cash Flow from Operating Activities—Rs. 14,71,000; Net Cash Flow from Investing Activities— Rs. 29,30,000; Net Cash Flow from Financing Activities—Rs. 17,97,000.

Modified Date: Sat, Jul 03, 2010 12:44:29 PM

Output Date: Tue, Jul 06, 2010 11:47:54 AM

Rev II

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Fund Flow Analysis

5

LEARNING OBJECTIVES On completion of the study of the chapter, you should be able to understand: What is the meaning and concept of Fund? What is the meaning and concept of Flow of Fund? What is Fund Flow Statement? Different sources and uses of Fund. How to prepare a Fund Flow Statement. Importance and limitations of a Fund Flow Statement. What is Fund from Operation? Comparison between Fund Flow Statement, Income Statement and Balance Sheet. Comparison between Fund Flow Statement and Cash Flow Statement.

5.1 MEANING AND CONCEPT OF FUND The concept of Fund is explained by different accountants and accounting bodies in different approaches. Accordingly, the word Fund has different meanings as per the interpretations of different accountants and accounting bodies. These different interpretations of the concept of Fund are discussed as follows: i. Cash and Bank: As per the interpretation of some accountants, Fund includes cash and bank of the enterprise only. As per this concept, the inflows and outflows of cash resources alone are considered as Flow of Fund. Accordingly, under this concept, the Fund Flow Statement of an enterprise is prepared taking the inflows and outflows of cash resources alone. ii. Working Capital: As per this interpretation, Fund includes the Working Capital of the enterprise only. The difference between total Current Assets and total Current Liabilities of an enterprise constitutes its Working Capital (i.e., Working Capital = Current Assets − Current Liabilities). As per this concept, the inflows and outflows of the Working Capital elements alone (i.e., Current Assets and Current Liabilities) are considered as the Flow of Fund. Accordingly, under this concept, the Fund Flow Statement of an enterprise is prepared taking the inflows and outflows of Current Assets and Current Liabilities only. iii. All Financial Resources: As per this interpretation, all financial resources of an enterprise are considered as a Fund, irrespective of the fact whether these resources influence the Working Capital of the enterprise or not. As per this concept, the inflows and outflows of all financial resources of the enterprise are considered as Flow of Fund. Accordingly, under this concept, the Fund Flow Statement of an enterprise is prepared taking the inflows and outflows of all the financial resources of the enterprise. 5.2 GENERALLY ACCEPTED CONCEPT OF FUND Although there is no unanimous concept of Fund, yet with reference to the preparation of a Fund Flow Statement the most preferred and accepted concept of Fund is the Working Capital. Working Capital (net) is the excess of Current Assets over Current Liabilities. Hence, Fund Flow Statement is prepared considering the meaning and concept of Fund as the Working Capital. Therefore, Fund items for the purpose of Fund Flow Statement are basically Working Capital items (i.e., current items).

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5.3 MEANING OF FLOW OF FUND Flow of Fund means the inward and outward movement of a Fund of an enterprise. For the purpose, Fund refers to Working Capital and flow means movement or changes. Therefore, Flow of Fund means movement of or changes in the Working Capital (i.e., current) items. Working Capital items are Current Assets and Current Liabilities. Hence, where there is an inward or outward movement of Current Assets (e.g., debtors, stock, bills receivable, cash, bank) and Current Liabilities (e.g., creditors, bills payable, outstanding expenses), there is a Flow of Fund. In short, the Flow of Fund is identified by the means of inward or outward movement of Current Assets and Current Liabilities.  

When Current Assets increase or Current Liabilities decrease—Inflows of Fund. When Current Assets decrease or Current Liabilities increase—Outflows of Fund.

5.4 WHAT IS FUND FLOW STATEMENT? A Fund Flow Statement is a summarized statement of the movement of Fund (i.e., Working Capital) from different activities of a concern during an accounting period. It is prepared to locate the various sources of Fund inflows into the business and also to identify the various purposes of Fund outflows from the business, during two consecutive Balance Sheet dates. As it is a summarized statement of Fund inflows and Fund outflows from different activities of an enterprise during a particular period, the management gets a vivid picture of the movement of Fund in between two consecutive Balance Sheet dates by preparation of a Fund Flow Statement. One side of the Fund Flow Statement shows the various sources of Fund and the other side shows the various applications of Fund during an accounting period. A Fund Flow Statement acts as an important tool of Financial Analysis to the management. Thus, the management can assess the movement of Fund from different activities of the business and can draw up its future planning. 5.5 IMPORTANCE OR PURPOSES OF FUND FLOW STATEMENT Fund Flow Statement acts as an important tool for Financial Analysis and shows the brief reasons for change in the Working Capital between two Balance Sheet dates. It has more importance from the viewpoint of the management of a concern. It serves the following purposes: i. Fund Flow Statement explains how the financial position has changed from the beginning of an accounting period to the end of that period. ii. It acts as an important instrument for allocation of resources of a concern. It enables the concern for making plans for optimum allocation of resources. iii. It answers many intricate financial queries such as reasons for changes in Working Capital position, various sources of repayment of loans, various sources of acquiring capital, sources of Fund from nonoperating activities, applications of Fund towards various non-operating activities, Fund generation through operating activities and so on. iv. It helps the management in the process of effective use of the Working Capital of a concern. v. As projected Fund Flow Statement estimates the future Fund position of a concern, it helps in framing the rational dividend policy of the concern without any adverse impact on the operating Working Capital. vi. It helps the management in planning the future financial requirements. vii. It projects the future Fund generation, aids in future investment planning and also helps in the Working Capital management of a concern. 5.6 LIMITATIONS OF FUND FLOW STATEMENT Although a Fund Flow Statement has more importance from the view point of the management of a concern, yet it suffers from the following limitations: i. Fund Flow Statement is not a basic Financial Statement, but is a supplementary statement. It does not disclose any new fact which is not reflected in the Income Statement and the Balance Sheet. ii. It provides a partial financial information to the management.

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343

iii. iv. v. vi.

It cannot present the continuous changes in the financial position. It does not indicate the structural change of an Asset or a Liability. It is prepared on the basis of historical data. It exhibits the changes in the Fund position, but does not indicate the changes in the cash position, which is most important for every business concern. vii. Nowadays, Fund Flow Analysis is not as much relevant to the management for Financial Analysis as is Cash Flow Analysis. 5.7 PROFORMA OF PRESENTATION OF FUND FLOW STATEMENT A Fund Flow Statement is generally prepared in an account form, containing therein the sources of Fund on the left-hand side and applications or uses of Fund on the right-hand side. A proforma of presentation of Fund Flow Statement is shown as follows: Fund Flow Statement of for the period Sources of Fund Fund from Operation New Issue of Shares New Issue of Debentures Loan raised Sale of Fixed Assets Income received on Investments Sale of Investments Decrease in Working Capital (Bal. fig.)

Rs. − − − − − − − −

Applications of Fund Redemption of Preference Shares Redemption of Debentures Purchase of Fixed Assets Further investments made Payment of Dividends Payment of Taxes Repayment of Loans Payment of Interest on Debt Increase in Working Capital (Bal. fig.)

−

Rs. − − − − − − − − − −

5.8 DIFFERENT SOURCES OF FUND Sources of Fund may be classified into two broad categories: Fund from the operating activities and Fund from the non-operating activities. Sources of Fund from the operating activities refer to the Fund that is coming into the business due to the operating activities of the concern. Examples of sources of Fund from such operating activities are: Cash Sale of Goods, Credit Sale of Goods, discount received, commission received and so on. On the other hand, the sources of Fund from the non-operating activities refer to the Fund that is coming into the business due to the various activities of the concern other than the operating activities. Examples of sources of Fund from such operating activities are: Sale of Fixed Assets and long-term investments, proceeds received from the issue of equity, preference shares and debentures, proceeds received from long-term borrowings and so on. 5.9 DIFFERENT APPLICATIONS OF FUND Applications or uses of Fund may also be classified into two broad categories: Fund for operating activities and Fund for non-operating activities. Applications of Fund for operating activities refer to the Fund that is going out of the business due to the operating activities of the concern. Examples of applications of Fund for such operating activities are: Cash Purchase of Goods, Credit Purchase of Goods, Payment of Wages and Salaries, outstanding wages and salaries, and so on. On the other hand, applications of Fund for non-operating activities refer to the Fund that is going out of the business due to various activities of the concern other than the operating activities. Examples of applications of Fund for such operating activities are: purchase of Fixed Assets and long-term investments, redemption of preference shares and debentures, repayment of long-term borrowings, payment of dividend, tax and so on. 5.10 WHAT IS FUND FROM OPERATION? Fund from Operation (or Net Fund Flow from operation) refers to the difference between the inflows of Fund and the outflows of Fund from the operating activities of the concern. It is the net Flow of Fund from the

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operating activities of the concern. Net Flow of Fund refers to the excess of Fund inflow over the Fund outflow or vice versa. For ascertaining the Fund from Operation, two important points are to be simultaneously considered. They are: (a) There are inflows or outflows of Fund (i.e., Current Assets or Current Liabilities); (b) These inflows or outflows of Fund occur due to the operational activities of the concern. Suppose, the raising of long-term loan reflects the inflow of Fund, still, such inflow of Fund has not occurred due to the operational activities of the concern. Sale of Goods, Purchase of Goods, Wages, Salaries and so on, are the causes of movement of Fund due to the operational activities of the concern. Hence, the Fund from Operation exhibits the Net Flow of Fund coming into or going out of the business due to its operating activities. Illustration Say, there is an inflow of Fund of Rs. 2,40,000 by means of sale of goods and there is an outflow of Fund of Rs. 1,50,000 by means of Purchase of Goods. Therefore, Fund from Operation = Inflows of Fund from operating activities − Outflows of Fund from operating activities = Sale of Goods − Purchase of Goods = Rs. 2,40,000 − Rs. 1,50,000 = Rs. 90,000. 5.11 DIFFERENT APPROACHES OF COMPUTATION OF FUND FROM OPERATION The Fund from Operation (i.e., Net Fund Flow from operational activities) may be computed under two different approaches, such as Direct Approach and Indirect Approach. Depending upon the information given, a particular approach for computation of Fund from Operation is followed. These two different approaches of computation of Fund from Operation are separately explained as follows. 5.11.1 Direct Approach of Computation of Fund from Operation When the Fund from Operation is computed directly by deduction of operating Fund outflows from the operating Fund inflows, such an approach is called ‘direct approach.’ Where the details of the operating incomes and expenses are given and the Net Fund Flow from the Operation is computed by following the Direct Approach. Under this approach, the difference between the Fund inflows and Fund outflows from operation represents the Net Fund Flow from operation. The proforma of computation of Fund from Operation under Direct Approach is shown as follows: Statement showing computation of Fund from Operation for the period Rs. Inflows of Fund from Operating Activities: Cash Sales Credit Sales Other Operating Fund Inflows

Rs.

− − − −

Less:

Outflows of Fund from Operating Activities: Cash Purchases Credit Purchases Total Wages Total Salaries Total General Expenses Other Operating Fund Outflows Net Fund Flow from Operation

− − − − − − − −

5.11.2 Indirect Approach of Computation of Fund from Operation When Fund from the operation is computed by adding back all the Non-Operating and Non-Fund items considered in the Profit & Loss Account (Profit & Loss A/c) to the net profit for the year, such approach is called Indirect Approach of computation of Fund from Operation.

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Where the Net Profit along with all the Non-Operating and Non-Fund items considered in the Profit & Loss A/c are given, the Net Fund Flow from the operation is computed by the following Indirect Approach. Where the Balance Sheets of two consecutive years along with the additional information are given, the Net Fund Flow from the operation is also computed by following the Indirect Approach. Indirect approach of computation of Fund from Operation may also be calculated under two different forms such as ‘in statement form’ and ‘in account form.’ Same thing is done under these two alternative formats. Proforma of computation of Fund from Operation under Indirect Approach in statement form is shown as follows: Calculation of Fund from Operation for the Rs. Add:

Less:

Net profit for the year Adjustment for Non-Current and Non-Operating Items debited to Profit & Loss A/c: Loss on Sale of Land Discount on Issue of Share Interest on Debentures Goodwill written off Depreciation General Reserve Provision for Tax Proposed Dividend Interim Dividend Other non-current & non-operating items debited Adjustment for Non-Current and Non-Operating Items credited to Profit & Loss A/c: Interest on Investment Dividend Received Profit on Sale of Plant Interest on Bank Deposit Refund of Tax Other non-current & non-operating items credited Net Fund Flow from Operation

Rs. −

− − − − − − − − − −

− −

− − − − − −

− −

Proforma of computation of Fund from Operation under Indirect Approach in account form is shown below: Adjusted Profit & Loss A/c for the Period Dr. Particulars To Non-Current & Non-Operating items charged: Transfer to General Reserve Proposed Dividend Goodwill Preliminary Expenses Depreciation on Fixed Assets Provision for Taxation Loss on Sale of Investment Interest on Debentures Other Non-Current & Non-Operating Items To Balance c/f

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Amount (Rs.)

Particulars By Balance b/f

− − − − − − − −

Cr. Amount (Rs.) −

By Non-Current & Non-Operating items credited: Profit on Sale of Machinery Income from Investment Other Non-Current & Non-Operating Items

− − −

By Net Fund Flow from Operation (Bal. fig.)

−

− − −

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−

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5.12 IS DEPRECIATION A SOURCE OF FUND? Depreciation is decrease in the value of Fixed Assets due to wear and tear, lapse of time, exhaustion, obsolescence and so on. It is definitely an operating expense of a concern, but does not involve the Flow of Fund. Accounting entries passed for adjusting depreciation are as follows: i. Depreciation A/c Dr. To Fixed Asset A/c ii. Profit & Loss A/c Dr. To Depreciation A/c From the above entries, it has been transpired that neither Current Asset nor Current Liability (i.e., Fund item) is being involved for adjusting depreciation. More clearly, there is no movement of Fund for adjusting depreciation. Hence, depreciation should not, generally, be regarded as a source (or a use) of Fund. Yet, there are two opinions among the accountants as regards to the consideration whether depreciation is a source of Fund or not. Some accountants opine that depreciation should be regarded as a source of Fund, while some others consider that it is not at all a source of Fund. Arguments advocated by those who opine that depreciation is a source of Fund are as follows: i. Depreciation is an expired cost of Fixed Assets which is recovered in cash by way of its inclusion in the cost of production. Thus, depreciation is basically treated as sale of Fixed Asset in piecemeal. If the sale of Fixed Asset is considered as a source of Fund, then depreciation should also be treated as a source of Fund. ii. Depreciation is charged against revenue as an expense, unlike other operating expenses, with a view to set aside a Fund that is equal to the amount of increase in the Working Capital. iii. By providing depreciation on the Fixed Assets, a Fund equal to the loss in the value of Fixed Assets is set aside as a recovery of capital. iv. While calculating the Net Fund Flow from operation, depreciation is added back to the Net Profit. Had depreciation not been a source of Fund, such addition would not have been allowed. v. By charging depreciation, a concern reduces its Tax Liability and thus saves its Fund. Arguments advocated by those who opine that depreciation is not a source of Fund are as follows: i. From the accounting entries of adjusting depreciation, it is transpired that, though depreciation is an operating expense of a concern, it does not involve any Flow of Fund. ii. Depreciation is charged against revenue as an operating expense, just like other cash operating expenses, with a view to ascertain real profit of the concern. iii. While calculating the Net Fund Flow from operation under Direct Approach, depreciation is neither considered as a source of Fund like Cash Sales, Credit Sales and so on, nor is considered as a use of Fund like purchases, wages and so on. iv. While calculating the Net Fund Flow from operation under Indirect Approach, depreciation is added back to the net profit just to nullify the amount that has already reduced the Fund from Operation by way of charging depreciation. v. If depreciation is really a Source of Fund, a concern could have improved its Fund position merely by charging more depreciation. vi. Sale of Fixed Asset is not, in true sense, a source of augmented Fund, rather is a recovery of capital. vii. If there is no Sale of Goods in any year, there is no inflow of Fund from Operation for that year. Even if there is neither sale Nor Profit during a year, depreciation is charged for that year. Had depreciation been a source of Fund, then there would have been some inflow of Fund from Operation during the year of ‘No Sale of Goods.’ But practically, it does not happen so. From the above discussion, it can be concluded that, though depreciation is an operating expense, it should not, generally, be regarded as a source (or a use) of Fund as it involves no movement of Fund (i.e., Current Asset or Current Liability).

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5.13 COMPARISON BETWEEN FUND FLOW STATEMENT, INCOME STATEMENT AND BALANCE SHEET Income Statement and Balance Sheet are two basic Financial Statements. Income Statement ascertains Net Profit or Net Loss of a concern during an accounting period, whereas Balance Sheet exhibits the financial position of the concern at the end of that accounting period. On the basis of the historical data as provided through these basic Financial Statements, a Fund Flow Statement is prepared to show the changes in the financial position (i.e., Fund position) of a concern between two consecutive Balance Sheet dates. Fund Flow Statement is a supplementary Financial Statement which shows he changes in the Fund position (i.e., Working Capital position) from the beginning of the accounting period to its end. A Fund Flow Statement cannot be a substitute of two basic Financial Statements. 5.14 DISTINCTION BETWEEN FUND FLOW STATEMENT AND CASH FLOW STATEMENT Both Cash Flow Statement and Fund Flow Statement are very important tools to the management for Financial Analysis and Decision Making. But, there are some Fundamental differences between these two, which are as follows: Cash Flow Statement 1. Cash Flow Statement exhibits inflows and outflows of cash and cash equivalents only. 2. While preparing a Cash Flow Statement, cash refers to Cash in hand, Cash at bank (demand deposits) and shortterm investments (i.e., cash & cash equivalents only). 3. Cash Flow Statement is prepared on the cash basis of accounting. 4. It is the most important tool for Short-term Financial Analysis. 5. By preparing a Cash Flow Statement, the movement of cash only can be known and identified. 6. Net cash inflows from the different activities of an enterprise, such as operating, investing and financing activities, are separately exhibited through the Cash Flow Statement. 7. It shows the brief reasons for change in cash between two Balance Sheet dates. 8. Cash Flow Statement starts with opening cash and cash equivalents of an accounting period and ends with closing cash and cash equivalents of that accounting period.

Fund Flow Statement 1. Fund Flow Statement exhibits inflows and outflows of Funds (i.e., Working Capital). 2. While preparing a Fund Flow Statement, Fund refers to Working Capital (i.e., Current Assets and Current Liabilities). 3. Fund Flow Statement is prepared on the accrual basis of accounting. 4. It is an important tool for Long-term Financial Analysis. 5. By preparing a Fund Flow Statement, the movement of Working Capital items (i.e., Current Assets and Current Liabilities) can be known and identified. 6. Net Fund Flows from the different activities of an enterprise are not separately exhibited through the Fund Flow Statement. 7. It shows the brief reasons for change in the Working Capital between the two Balance Sheet dates. 8. Fund Flow Statement shows the amount of changes between the opening and closing Working Capital balances of an accounting period.

Tutorial Notes to Students for Solving Problems For preparing a Fund Flow Statement, students are advised to follow the following steps: i. Prepare separate accounts for all non-operating items. If there is no major adjustment in some nonoperating items, it is advised to show their changes in one separate statement. ii. After considering all non-operating items, calculate the Fund from Operation. iii. Prepare a statement showing changes in the Working Capital taking operating Current Assets and Liabilities alone and get the increase or decrease in the Working Capital. iv. Finally, prepare the Fund Flow Statement showing the sources of Fund (i.e., inflows of Fund) on the left-hand side and applications or uses of Fund (i.e., outflows of Fund) on the right-hand side of the statement. Increase or decrease in the Working Capital as computed in the statement showing changes in the Working Capital would appear in the Fund Flow Statement as a balancing figure.

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5.15 WORKED-OUT PROBLEMS Problem 1 Choose the correct alternative from the following: i. Depreciation on Fixed Assets: (a) causes inflow of Fund; (b) causes outflow of Fund; (c) has no effect on Fund Flow. ii. Interest paid on debentures charged in the Profit & Loss A/c: (a) increases Fund from Operation; (b) decreases Fund from Operation; (c) has no effect on Fund from Operation. iii. Credit Sale of Goods: (a) increases Fund from Operation; (b) decreases Fund from Operation; (c) has no effect on Fund from Operation. iv. Proposed dividend on shares charged in the Profit & Loss A/c: (a) increases Fund from Operation; (b) decreases Fund from Operation; (c) has no effect on Fund from Operation. v. Purchase of Fixed Assets results in: (a) inflow of Fund; (b) outflow of Fund; (c) has no effect on Fund Flow. vi. Sale of long-term investment: (a) causes inflow of Fund; (b) causes outflow of Fund; (c) has no effect on Fund Flow. vii. Loss on sale of Fixed Asset charged in the Profit & Loss A/c: (a) increases Fund from Operation; (b) decreases Fund from Operation; (c) has no effect on Fund from Operation. viii. If the Net Profit of a business concern is Rs. 80,000 and depreciation charged in the Profit & Loss A/c is Rs. 20,000, then Fund from Operation is equal to: (a) Rs. 60,000; (b) Rs. 80,000; (c) Rs. 1,00,000. ix. Provision for Income Tax charged in the Profit & Loss A/c: (a) increases Fund from Operation; (b) decreases Fund from Operation; (c) has no effect on Fund from Operation. x. Credit Purchase of Goods: (a) increases Fund from Operation; (b) decreases Fund from Operation; (c) has no effect on Fund from Operation. xi. Issue of Equity Shares for cash causes: (a) inflow of Fund; (b) outflow of Fund; (c) has no effect on Fund Flow. xii. If the Net Profit of a business concern is Rs. 1,50,000 after crediting an interest on investment of Rs. 10,000 and after transferring Rs. 30,000 in the general reserve, then Fund from the operation is equal to: (i) Rs. 1,10,000; (ii) Rs. 1,30,000; (iii) Rs. 1,70,000. Ans.: i (c); ii (b); iii (a); iv (b); v (b); vi (a); vii (b); viii (c); ix (b); x (b); xi (a); xii (b). Calculation of Fund from Operation Problem 2 From the following information, calculate the Net Fund Flow from operation for the year that ended on 31 March 2010: Profit & Loss A/c for the year that ended on 31 March 2010 Dr. Particulars To Loss on Sale of Land To Discount on Issue of Shares To Interest on Debentures To Depreciation To Goodwill written off To General Reserve To Tax Provision To Proposed Dividend To Interim Dividend To Net Profit

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Rs. 40,000 10,000 58,000 1,20,000 15,000 75,000 30,000 80,000 20,000 3,52,000 8,00,000

Particulars By Gross Profit By Interest on Investment By Dividend Received By Profit on Sale of Plant By Interest on Bank Deposit By Refund of Tax

Output Date: Tue, Jul 06, 2010 11:48:50 AM

Cr. Rs. 7,10,000 15,000 18,000 20,000 35,000 2,000

8,00,000

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Stop and Think As details of the incomes and expenses considered in Profit & Loss A/c along with the Gross Profit are given in the problem, the Net Fund Flow from operation in this case is to be computed by following the Indirect Approach ‘in statement form’ as given in the following solution.

Solution Calculation of Net Fund Flow from operation of Add:

for the year that ended on 31 March 2010

Rs. Net Profit for the year Adjustment for Non-Current and Non-Operating Items Debited to Profit & Loss A/c: Loss on Sale of Land 40,000 Discount on Issue of Share 10,000 Interest on Debentures 58,000 Goodwill written off 15,000 Depreciation 1,20,000 General Reserve 75,000 Tax Provision 30,000 Proposed Dividend 80,000 Interim Dividend 20,000

Less: Adjustment for Non-Current and Non-Operating Items Credited to Profit & Loss A/c: Interest on Investment Dividend Received Profit on Sale of Plant Interest on Bank Deposit Refund of Tax Net Fund Flow from Operation

15,000 18,000 20,000 35,000 2,000

Rs. 3,52,000

4,48,000 8,00,000

90,000 7,10,000

Problem 3 3 From the following particulars, calculate the Fund from Operations: Rs. 1,60,000 2,00,000

Profit & Loss A/c: as on 01 April 2006 as on 31 March 2007 Transactions during the year: Transfer to Revenue Reserve Depreciation on Fixed Assets Underwriting Commission written off Interest Received Interim Dividend Paid Sale of Old Machinery (Book Value − Rs. 48,000)

40,000 16,000 8,000 4,000 16,000 56,000

[B.Com. (Hons), Calcutta University—2008] Stop and Think As the non-operating income and expense considered in the Profit & Loss A/c are given in the problem along with opening and closing balances in Profit & Loss A/c, the Net Fund Flow from operation in this case is to be computed by following the Indirect Approach as given in the following solution.

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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Solution Calculation of Fund from Operations of

for the year that ended on 31 March 2007 Rs.

Less:

Net Profit after Appropriation for the year: Balance of Profit & Loss A/c as on 31 March 2007 Balance of Profit & Loss A/c as on 01 April 2006

Rs.

2,00,000 1,60,000 40,000

Add: Adjustment for Non-Current and Non-Operating Items debited to Profit & Loss A/c: Transfer to Revenue Reserve Depreciation on Fixed Assets Underwriting Commission written off Interim Dividend Paid

40,000 16,000 8,000 16,000 80,000 1,20,000

Less:

Adjustment for Non-Current and Non-Operating Items credited to Profit & Loss A/c: Interest Received Profit on Sale of Old Machinery (56,000 − 48,000)

4,000 8,000 12,000 1,08,000

Fund from Operations

Problem 4 From the following information, calculate the Net Fund Flow from the operation of a company for the year that ended on 31 March 2010: 31 March 2009 (Rs.) 2,20,000 56,000 54,000 48,000 34,000

Balance in Profit & Loss A/c Stock in Trade Sundry Debtors Sundry Creditors Cash at Bank

31 March 2010 (Rs.) 2,50,000 36,000 82,000 72,000 56,000

While ascertaining the net profit for the year that ended on 31 March 2010, the following items were taken into the Profit & Loss A/c for the year: Rs. 40,000 30,000 20,000 10,000 20,000 25,000 30,000 15,000 30,000 10,000

Transfer to General Reserve Proposed Dividend Goodwill written off Preliminary Expenses written off Interest on Debentures Depreciation on Fixed Assets Provision for Taxation Loss on Sale of Investment Profit on Sale of Machinery Income from Investment

Stop and Think As the details of the non-operating income and expense are given in the problem along with the opening and closing balances in Profit & Loss A/c, the Net Fund Flow from operation in this case is to be computed by following the Indirect Approach as given in the following solution. As solution to the previous problem is done in the statement (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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form, under Indirect Approach, solution to the given problem has been done in the account form, under Indirect Approach, as an alternative method for the students.

Solution Adjusted Profit & Loss A/c for the year that ended on 31 March 2010 Dr.

Cr.

Particulars To Non-Current & Non-Operating items charged: Transfer to General Reserve Proposed Dividend Goodwill Preliminary Expenses Depreciation on Fixed Assets Provision for Taxation Loss on Sale of Investment Interest on Debentures To Balance c/f

Amount (Rs.)

Particulars By Balance b/f

40,000 30,000 20,000 10,000 25,000 30,000 15,000 20,000 2,50,000 4,40,000

By Non-Current & Non-Operating Items Credited: Profit on Sale of Machinery Income from Investment

By Net Fund Flow from Operation (Bal. fig.)

Amount (Rs.) 2,20,000

30,000 10,000

1,80,000 4,40,000

Problem 5 From the following information, calculate the Net Fund Flow from operation of a concern for the year that ended on 31 March 2010: Cash Sales for the year Credit Sales for the year Collection from Debtors during the year Cash Purchases for the year Credit Purchases for the year Payment to Creditors during the year Wages Paid during the year Outstanding Wages for the year Salaries Paid during the year Salaries for the year General Expenses Paid during the year Unpaid General Expenses for the year Depreciation on Fixed Assets for the year Proposed Dividend for the year Dividend Paid during the year Interest Received on Investment during the year Payment of Income tax during the year Provision for Income Tax for the year

Rs. 1,20,000 6,60,000 4,40,000 80,000 3,25,000 2,40,000 60,000 18,000 30,000 40,000 20,000 6,000 26,000 28,000 30,000 20,000 32,000 35,000

Stop and Think As details of the operating income and expense are given in the problem, the Net Fund Flow from operation in this case can be computed by following the Direct Approach as given in the following solution.

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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Solution Statement showing computation of Net Fund Flow from Operation of a concern for the year that ended on 31 March 2010 Rs. Inflows of Fund from Operating Activities: Cash Sales Credit Sales

Rs.

1,20,000 6,60,000 7,80,000

Less:

Outflows of Fund from Operating Activities: Cash Purchases Credit Purchases Total Wages (60,000 + 18,000) Total Salaries Total General Expenses (20,000 + 6,000)

80,000 3,25,000 78,000 40,000 26,000 5,49,000 2,31,000

Net Fund Flow from Operation

Problem 6 From the following information, calculate the Net Cash Flow from the operating activities of F Ltd for the year that ended on 31 March 2010: Profit & Loss A/c for the year that ended on 31 March 2010 Dr.

Cr. Rs.

To Opening Stock To Purchases: Cash Credit To Wages: Paid Outstanding To Salaries: Paid Outstanding To Rent Paid To Depreciation on Assets To Preliminary Expenses written off To Interest on Debentures To Provision for Taxation To Net Profit for the year

50,000 1,90,000 55,000 5,000 25,000 2,000

Rs. 40,000

Rs. By Sales: Cash Credit

2,40,000 By Closing Stock By Dividend from Investment

Rs.

70,000 3,80,000 4,12,000 35,000 15,000

60,000

27,000 5,000 18,000 10,000 15,000 25,000 60,000 5,00,000

5,00,000

Stop and Think As the detail of the Profit & Loss A/c is given in the problem, the Net Fund Flow from Operation in this case can be computed by following both Direct Approach as well as Indirect Approach. Here, the solution to the given problem has been done under both the approaches, but students are advised to show either of the two approaches for their examination purpose.

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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Solution A. Under Direct Approach: Statement showing computation of Net Fund Flow from Operation of F Ltd for the year that ended on 31 March 2010

Less:

Inflows of Fund from Operating Activities: Cash Sales Credit Sales Outflows of Fund from Operating Activities: Cash Purchases Credit Purchases Total Wages (55,000 + 5,000) Total Salaries (25,000 + 2,000) Rent Decrease in Value of Stock (40,000 − 35,000) Net Fund Flow from Operation

Rs.

Rs.

70,000 3,80,000

4,50,000

50,000 1,90,000 60,000 27,000 5,000 5,000 3,37,000 1,13,000

B. Under Indirect Approach: Statement showing computation of Net Fund Flow from Operation of F Ltd for the year that ended on 31 March 2010 Rs. Add:

Net Profit for the year Adjustment for Non-Current and Non-Operating Items debited to Profit & Loss A/c: Depreciation on Assets Preliminary Expenses written off Interest on Debentures Provision for Taxation

Rs. 60,000

18,000 10,000 15,000 25,000 68,000 1,28,000

Less:

Adjustment for Non-Current and Non-Operating Items credited to Profit & Loss A/c: Dividend from Investment Net Fund Flow from Operation

15,000 1,13,000

Problem 7 From the following particulars, calculate the Net Fund Flow from Operation of U Ltd for the year that ended on 31 March 2010. Rs. Balance of Profit & Loss A/c: As on 31 March 2010 As on 31 March 2009 Appropriation of Profit for the year 2009−10: Transfer to General Reserve Proposed Dividend Expenses and Losses for the year 2009−10: Interest on Debentures Depreciation on Fixed Assets Wages & Salaries Provision for Taxation Goodwill written off Loss on Sale of Machinery

3,98,000 2,72,000 24,000 20,000 16,000 18,000 37,000 40,000 14,000 12,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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Rs. Income and Gain for the year 2009−10: Profit on Sale of Furniture Income from Investment Expenses Paid During the year 2009−10: Interest on Debentures Wages & Salaries Income Tax

13,000 7,000 18,000 39,000 53,000

Stop and Think As the non-operating income and expenses considered in the Profit & Loss A/c are given in the problem along with the opening and closing balances in the Profit & Loss A/c, the Net Fund Flow from Operation in this case is to be computed by following the Indirect Approach as given in the following solution.

Solution Statement showing computation of Net Fund Flow from Operation of F Ltd for the year that ended on 31 March 2010 Rs.

Less: Add:

Less:

Net Profit after Appropriation for the year: Balance of Profit & Loss A/c as on 31 March 2010 Balance of Profit & Loss A/c as on 31 March 2009 Non-Operating and Non-Current Items debited to Profit & Loss A/c: Transfer to General Reserve Proposed Dividend Interest on Debentures Depreciation on Fixed Assets Provision for Taxation Goodwill written off Loss on Sale of Machinery Non-Operating and Non-Current Items credited to Profit & Loss A/c: Profit on Sale of Furniture Income from Investment Net Fund Flow from Operation

3,98,000 2,72,000 24,000 20,000 16,000 18,000 40,000 14,000 12,000

13,000 7,000

Rs.

1,26,000

1,44,000 2,70,000

20,000 2,50,000

Tutorial Note As wages and salaries are the operating expenses, these are not added back to the Net Profit.

Preparation of Fund Flow Statement Problem 8 The Balance Sheet of Oedrila Ltd for the year that ended on 31 March 2009 and 2010 are as follows: Liabilities Equity Share Capital

31 March 2009 Rs.

31 March 2010 Rs.

2,00,000

3,00,000

Assets Land & Building Plant & Machinery

31 March 2009 Rs. 1,50,000 1,60,000

31 March 2010 Rs. 2,00,000 2,60,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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FUND FLOW ANALYSIS

31 March 2009 Rs. 50,000 60,000 80,000 30,000 5,000 20,000 15,000 4,60,000

Liabilities General Reserve Profit & Loss A/c Debentures Sundry Creditors Bills Payable Proposed Dividend Provision for Tax

31 March 2010 Rs. 60,000 90,000 1,00,000 50,000 10,000 30,000 25,000 6,65,000

Assets Investment Stock in Trade Sundry Debtors Cash & Bank Bills Receivable Preliminary Expenses

31 March 2009 Rs. 30,000 50,000 30,000 20,000 10,000 10,000

31 March 2010 Rs. 50,000 80,000 50,000 15,000 5,000 5,000

4,60,000

6,65,000

Additional information: i. Depreciation of Rs. 20,000 was charged on plant and machinery during the year 2009−10. ii. A machinery costing Rs. 50,000, on which the total depreciation amounting to Rs. 30,000 was provided, was sold at Rs. 25,000 during the year 2009−10. iii. A dividend of Rs. 24,000 was paid during the year 2009−10. Prepare a statement showing the changes in the Working Capital and a Fund Flow Statement for the year that ended on 31 March 2010. Solution Books of Oedrila Ltd Statement showing changes in the Working Capital for the year that ended on 31 March 2010 Elements of Working Capital Current Assets: Stock in Trade Sundry Debtors Cash & Bank Bills Receivable Less:

Current Liabilities: Sundry Creditors Bills Payable Working Capital Increase in Working Capital

As on 31 March 2009 Rs.

As on 31 March 2010 Rs.

50,000 30,000 20,000 10,000 1,10,000

80,000 50,000 15,000 5,000 1,50,000

(30,000) (5,000) 75,000

(50,000) (10,000) 90,000 15,000

Fund Flow Statement for the year that ended on 31 March 2010 Sources of Fund Sale Proceeds of Machinery New Issue of Equity Shares1 New Issue of Debentures3 Net Fund Flow from Operation10

Rs. 25,000 1,00,000 20,000 1,19,000

Applications of Fund Purchase of Land & Building6 Further Investment Made8 Purchase of Plant & Machinery7 Payment of Tax5 Payment of Dividend4 Increase in Working Capital (Bal. fig.)

2,64,000

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

Rs. 50,000 20,000 1,40,000 15,000 24,000 15,000 2,64,000

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 Working Notes 1. Dr.

To Balance c/f

Equity Share Capital Account Rs. By Balance b/f By Bank—New Issue of Shares for Cash (Bal. fig.) 3,00,000 3,00,000

Cr. Rs. 2,00,000 1,00,000

3,00,000

2. Dr.

To Balance c/f

General Reserve Account Rs. By Balance b/f By Profit & Loss A/c—Transfer during the year (Bal. fig.) 60,000 60,000

Cr. Rs. 50,000 10,000

Debenture Account Rs. By Balance b/f By Bank—New Issue (Bal. fig.) 1,00,000 1,00,000

Cr. Rs. 80,000 20,000

60,000

3. Dr.

To Balance c/f

1,00,000

4. Dr.

Proposed Dividend Account Rs. To Bank—Dividend Paid during 2009−10 24,000 By Balance b/f By Profit & Loss Appropriation A/c— Dividend Proposed in 2009−10 (Bal. fig.) To Balance c/f 30,000 54,000

Cr. Rs. 20,000 34,000

54,000

5. Dr. To Bank—Tax Paid during 2009−10

To Balance c/f

Provision for Tax Account Rs. 15,000 By Balance b/f By Profit & Loss A/c—Tax Provision made in 2009−10 25,000 40,000

Cr. Rs. 15,000 25,000 40,000

6. Dr.

Land & Building Account Rs. To Balance b/f 1,50,000 To Bank—Purchase in 2009−10 (Bal. fig.) 50,000 By Balance c/f 3,00,000

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

Cr. Rs. 2,00,000 3,00,000

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7. Dr.

Plant & Machinery Account Rs. 1,60,000 By Bank—Sale of Machinery 5,000 By Profit & Loss A/c—Depreciation for 2009−10

To Balance b/f To Profit & Loss A/c—Profit on Sale [25,000 − (50,000 − 30,000)] To Bank—Purchase (Bal. fig.)

1,40,000 3,05,000

By Balance c/f

Cr. Rs. 25,000 20,000 2,60,000 3,05,000

8. Dr.

Investment Account Rs.

To Balance b/f

30,000

To Bank—Further Investment made in 2009−10 (Bal. fig.)

20,000

Cr. Rs.

By Balance c/f

50,000

50,000

50,000

9. Dr.

Preliminary Expense Account Rs. 10,000 By Profit & Loss A/c—written off (Bal. fig.) By Balance c/f 10,000

To Balance b/f

Cr. Rs. 5,000 5,000 10,000

10. Dr.

Adjusted Profit & Loss A/c Rs. By Balance b/f

To Non-Current & Non-Operating Items Charged: Transfer to General Reserve2 Proposed Dividend4 Provision for Tax5 Preliminary Expenses9 Depreciation on Plant & Machinery7 To Balance c/f

10,000 34,000 25,000 5,000 20.000 90,000 1,84,000

Cr. Rs. 60,000

By Non-Current & Non-Operating Items Credited: Profit on Sale of Machinery7 By Net Fund Flow from Operation (Bal. fig.)

5,000 1,19,000 1,84,000

Problem 9 From the following Balance Sheets of Mother India Ltd and additional information, prepare a statement of changes in the Working Capital and Fund Flow Statement for the year that ended on 31 December 2005: Balance Sheet of Mother India Ltd as on Liabilities Equity Share Capital 8% Redeemable Preference Share Profit & Loss A/c General Reserve Capital Reserve Proposed Dividend

2004 (Rs.) 3,00,000 1,50,000 30,000 40,000 − 42,000

2005 (Rs.) 4,00,000 1,00,000 48,000 50,000 20,000 50,000

Assets Goodwill Land & Building Plant Investment Stock Debtors

2004 (Rs.) 1,00,000 2,00,000 80,000 20,000 77,000 1,40,000

2005(Rs.) 80,000 1,70,000 2,00,000 30,000 1,09,000 1,70,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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Liabilities Sundry Creditors Bills Payable Liability for Expenses Taxation Provision

2004 (Rs.) 25,000 20,000 30,000 40,000 6,77,000

2005 (Rs.) 47,000 16,000 36,000 50,000 8,17,000

Assets Bills Receivable Bank Cash Preliminary Expenses

2004 (Rs.) 20,000 15,000 10,000 15,000 6,77,000

2005(Rs.) 30,000 10,000 8,000 10,000 8,17,000

Additional information: i. A piece of land was sold in 2005 and the profit on sale was credited to Capital Reserve A/c. ii. A machine (WDV − 12,000) was sold for Rs. 10,000. In 2005, a depreciation of Rs. 10,000 was charged to Plant A/c. iii. The investments are trade investments. Rs. 3,000 is received by way of dividend, including Rs. 1,000 from pre-acquisition profit, which was credited to Investment A/c. iv. An interim dividend of Rs. 20,000 has been paid in 2005. [B.Com. (Hons), Calcutta University—2006] Solution Books of Mother India Ltd Statement showing changes in the Working Capital for the year that ended on 31 December 2005 2004 Rs.

2005 Rs.

77,000 1,40,000 15,000 10,000 20,000 2,62,000

1,09,000 1,70,000 10,000 8,000 30,000 3,27,000

(25,000) (20,000) (30,000) 1,87,000

(47,000) (16,000) (36,000) 2,28,000 41,000

Elements of Working Capital Current Assets: Stock Debtors Bank Cash Bills Receivable Less:

Current Liabilities: Sundry Creditors Bills Payable Liability for Expenses Working Capital Increase in Working Capital

Fund Flow Statement for the year that ended on 31 December 2005 Sources of Fund New Issue of Equity Shares1 Sale Proceeds of Land8 Total Dividend Received on Investment Payment of Tax7 Sale Proceeds of Machine9 Net Fund Flow from Operation14

Rs. 1,00,000 50,000 3,000 40,000 10,000 1,83,000 3,46,000

Applications of Fund Redemption of Preference Shares2 Further Investment Made10 Purchase of Plant & Machinery9 Payment of Proposed Dividend5 Payment of Interim Dividend6 Increase in Working Capital (Bal. fig.)

Rs. 50,000 11,000 1,42,000 42,000 20,000 41,000 3,46,000

 Working Notes 1. Dr.

To Balance c/f

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Equity Share Capital Account Rs. By Balance b/f By Bank—New Issue of Shares for Cash 4,00,000 (Bal. fig.) 4,00,000

Output Date: Tue, Jul 06, 2010 11:48:50 AM

Cr. Rs. 3,00,000 1,00,000 4,00,000

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2. Dr.

8% Preference Share Capital Account Rs. To Bank—Preference Shares Redeemed 50,000 By Balance b/f (Bal. fig.) To Balance c/f 1,00,000 1,50,000

Cr. Rs. 1,50,000

1,50,000

3. Dr.

To Balance c/f

General Reserve Account Rs. By Balance b/f By Profit & Loss A/c—Transfer during the year (Bal. fig.) 50,000 50,000

Cr. Rs. 40,000 10,000

Capital Reserve Account Rs. By Balance b/f By Land & Building A/c—Profit on Sale 20,000 20,000

Cr. Rs. − 20,000

50,000

4. Dr.

To Balance c/f

20,000

5. Dr. To Bank—Proposed Dividend for 2004 paid in 2005

Proposed Dividend Account Rs. 42,000 By Balance b/f By Profit & Loss Appropriation A/c—Dividend Proposed in 2005

To Balance c/f

Cr. Rs. 42,000 50,000

50,000 92,000

92,000

Interim Dividend Account Rs. 20,000 By Profit & Loss Appropriation A/c—Interim Dividend adjusted 20,000

Cr. Rs. 20,000

Taxation Provision Account Rs. 40,000 By Balance b/f 50,000 By Profit & Loss A/c—Tax Provision made in 2005 90,000

Cr. Rs. 40,000 50,000 90,000

6. Dr. To Bank—Interim Dividend paid

20,000

7. Dr. To Bank—Tax Paid during 2005 To Balance c/f

(Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M05\LAYOUT_M05\M05_DEBA_ISBN_EN_SE_C05_Part-1.indd

360

MANAGEMENT ACCOUNTING

8. Dr. To Balance b/f To Capital Reserve4—Profit on Sale

Land & Building Account Rs. 2,00,000 By Bank—Sale Proceeds (Bal. fig.) 20,000 By Balance c/f 2,20,000

Cr. Rs. 50,000 1,70,000 2,20,000

Plant Account Rs. 80,000 By Bank—Sale of Machine By Profit & Loss A/c—Loss on Sale 1,42,000 By Profit & Loss A/c—Depreciation By Balance c/f 2,22,000

Cr. Rs. 10,000 2,000 10,000 2,00,000 2,22,000

9. Dr. To Balance b/f To Bank—Purchase (Bal. fig.)

10. Dr.

To Balance b/f To Bank—Further Investment made in 2005 (Bal. fig.)

Investment Account Rs. By Bank—Pre-Acquisition Dividend received & 20,000 credited 11,000 31,000

By Balance c/f

Cr. Rs. 1,000 30,000 31,000

11. Dr. To Profit & Loss A/c—Post-Acquisition Dividend received & adjusted

Dividend on Investment Account Rs. By Bank—Post-Acquisition Dividend received 2,000 2,000

Cr. Rs. 2,000 2,000

12. Dr. To Balance b/f

Goodwill Account Rs. 1,00,000 By Profit & Loss A/c—Written off (Bal. fig.) By Balance c/f 1,00,000

Cr. Rs. 20,000 80,000 1,00,000

Preliminary Expense Account Rs. 15,000 By Profit & Loss A/c—Written off (Bal. fig.) By Balance c/f 15,000

Cr. Rs. 5,000 10,000 15,000

13. Dr. To Balance b/f

14. Dr. To Non-Current & Non-Operating Items charged: Transfer to General Reserve3 Proposed Dividend5 Taxation Provision7 Interim Dividend6

Adjusted Profit & Loss A/c Rs. By Balance b/f 10,000 50,000 50,000 20,000

By Non-Current & Non-Operating Items credited: Dividend Received on Investment (Post Acquisition)11

Cr. Rs. 30,000

2,000

(Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

REV-II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M05\LAYOUT_M05\M05_DEBA_ISBN_EN_SE_C05_Part-1.indd

FUND FLOW ANALYSIS

Dr.

Adjusted Profit & Loss A/c Rs. 2,000 10,000 By Net Fund Flow from Operation (Bal. fig.) 5,000 20,000 48,000 2,15,000

Loss on Sale of Machine9 Depreciation on Plant9 Preliminary Expenses 13 Goodwill12 To Balance c/f

361

Cr. Rs. 1,83,000

2,15,000

Problem 10 Following are the summarized Balance Sheets of Sonar Bangla Ltd as on 31 March 2002 and 31 March 2003: 31 March 2002 (Rs.) 4,00,000 50,000 1,80,000 1,10,000 1,00,000 1,10,000 70,000 13,000 60,000 40,000 11,33,000

Liabilities Equity Shares of Rs. 10 each Securities Premium General Reserve Profit & Loss A/c 6% Debentures Bank Loan Sundry Creditors Bills Payable Provision for Taxation Proposed Dividend

31 March 2003 (Rs.) 6,00,000 60,000 1,20,000 1,08,000 1,50,000 1,30,000 83,000 15,000 55,000 50,000 13,71,000

Assets Land & Building Plant & Machinery Investments Stock Sundry Debtors Cash at Bank Discount on Debentures

31 March 2002 (Rs.) 4,00,000 4,50,000 40,000 1,20,000 80,000 35,000 8,000

31 March 2003 (Rs.) 5,00,000 5,30,000 50,000 1,40,000 95,000 44,000 12,000

11,33,000

13,71,000

Additional information: i. Depreciation on land and building for the year 2002−03 was Rs. 20,000. ii. Accumulated depreciation on plant and machinery on 31 March 2002 was Rs. 1,50,000 and on 31 March 2003 was Rs. 1,70,000. iii. Machinery costing Rs. 50,000 (written-down value—Rs. 10,000) was sold for Rs. 12,000. iv. 6% Debentures were issued at 10% discount. v. Bonus shares were issued @ one share for every four shares held on 31 March 2002 out of general reserve. vi. Interim dividend paid during the year—Rs. 20,000. You are required to prepare: i. A statement showing the changes in the Working Capital. ii. A Fund Flow Statement for the year that ended on 31 March 2003. [B.Com. (Hons), Calcutta University—2004] Solution Books of Sonar Bangla Ltd. i. Statement showing changes in Working Capital for the year that ended on 31 March 2003 Elements of Working Capital Current Assets: Stock Sundry Debtors Cash at Bank

As on 31 March 2002 (Rs.)

As on 31 March 2003 (Rs.)

1,20,000 80,000 35,000 2,35,000

1,40,000 95,000 44,000 2,79,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

REV-II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M05\LAYOUT_M05\M05_DEBA_ISBN_EN_SE_C05_Part-1.indd

362

MANAGEMENT ACCOUNTING

Elements of Working Capital Less:

Current Liabilities: Sundry Creditors Bills Payable Working Capital Increase in Working Capital

As on 31 March 2002 (Rs.)

As on 31 March 2003 (Rs.)

(70,000) (13,000) 1,52,000

(83,000) (15,000) 1,81,000 29,000

ii. Fund Flow Statement for the year that ended on 31 March 2003 Sources of Fund New Issue of Equity Shares4 Securities Premium Received5 New Issue of Debentures8 Bank loan Raised (Rs. 1,30,000 − Rs. 1,10,000) Sale Proceeds of Machinery3 Net Fund Flow from Operation12

Rs. 1,00,000 10,000 45,000 20,000 12,000 2,42,000

Applications of Fund Purchase of Land & Building1 Purchase of Plant & Machinery3 Payment of Interim Dividend7 Payment of Tax10 Payment of Proposed Dividend11 Further Investment made (Rs. 50,000 − Rs. 40,000) Increase in Working Capital (Bal. fig.)

4,29,000

Rs. 1,20,000 1,50,000 20,000 60,000 40,000 10,000 29,000 4,29,000

Working Notes 1. Dr. To Balance b/f To Bank—Purchase (Bal. fig.)

Land & Build Account Rs. 4,00,000 By Profit & Loss A/c—Depreciation 1,20,000 By Balance c/f 5,20,000

Cr. Rs. 20,000 5,00,000 5,20,000

2. Dr.

Plant & Machinery (at cost) Account Rs. 6,00,000 By Provision for Depreciation A/c To Balance b/f (4,50,000 + 1,50,000) —Accumulated Depreciation on Machinery Sold To Profit & Loss A/c—Profit on sale of 2,000 By Bank—Sale Proceeds of Machinery Machinery To Bank—New purchase (Bal. fig.) 1,50,000 By Balance c/f (5,30,000 + 1,70,000) 7,52,000

Cr. Rs. 40,000

12,000 7,00,000 7,52,000

3. Dr.

Provision for Depreciation on Plant & Machinery Account Rs. To Plant & Machinery A/c—Accumulated By Balance b/f Depreciation on Machinery Sold 40,000 By Profit & Loss A/c—Depreciation for the year (Bal. fig.) To Balance c/f 1,70,000 2,10,000

Cr. Rs. 1,50,000 60,000

2,10,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

REV-II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M05\LAYOUT_M05\M05_DEBA_ISBN_EN_SE_C05_Part-1.indd

363

FUND FLOW ANALYSIS

4. Dr.

To Balance c/f

Equity Share Capital Account Rs. By Balance b/f By General Reserve—Bonus Shares issued (1/4 × Rs. 4,00,000) By Bank—New Issue of Shares for Cash (Bal. fig.) 6,00,000 6,00,000

Cr. Rs. 4,00,000 1,00,000

Securities Premium Account Rs. By Balance b/f By Bank—Premium Received on New Issue of Shares (Bal. fig.) 60,000 60,000

Cr. Rs. 50,000

1,00,000 6,00,000

5. Dr.

To Balance c/f

10,000 1,50,000

6. Dr. To Equity Share Capital A/c Bonus Shares issued To Balance c/f

General Reserve Account Rs. 1,00,000 By Balance b/f By Profit & Loss A/c—Transfer made during the year (Bal. fig.) 1,20,000 2,20,000

Cr. Rs. 1,80,000 40,000

2,20,000

7. Dr. To Bank—Interim Dividend paid

Interim Dividend Account Rs. 20,000 By Profit & Loss Appropriation A/c—Interim Dividend adjusted 20,000

Cr. Rs. 20,000 20,000

8. Dr.

6% Debentures Account Rs. By Balance b/f By Bank—New Issue (Bal. fig.) (Rs. 50,000 − Rs. 5,000) By Discount on Debentures (10% on Rs. 50,000)

To Balance c/f

1,50,000 1,50,000

Cr. Rs. 1,00,000 45,000 5,000 1,50,000

9. Dr. To Balance b/f To 6% Debentures A/c—Discount on New Issue

Discount on Debentures Account Rs. 8,000 By Profit & Loss A/c—Written off (Bal. fig.) By Balance c/f 5,000 13,000

Cr. Rs. 1,000 12,000 13,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

REV-II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M05\LAYOUT_M05\M05_DEBA_ISBN_EN_SE_C05_Part-1.indd

364

MANAGEMENT ACCOUNTING

10. Dr.

Provision for Taxation Account Rs. To Bank—Tax Paid during 2002−03 60,000 By Balance b/f To Balance c/f 55,000 By Profit & Loss A/c—Provision made in 2002−03 1,15,000

Cr. Rs. 60,000 55,000 1,15,000

11. Dr.

Proposed Dividend Account Rs. To Bank—Proposed Dividend for 2001−02 40,000 Paid in 2002−03 By Balance b/f By Profit & Loss Appropriation A/c— Dividend proposed in 2002−03 To Balance c/f 50,000 90,000

Cr. Rs. 40,000 50,000

90,000

12. Dr.

Adjusted Profit & Loss A/c Rs. To Non-Current & Non-Operating Items By Balance b/f charged: 40,000 By Non-Current & Non-Operating Items Transfer to General Reserve6 50,000 Credited: Proposed Dividend11 55,000 Profit on Sale of Machinery2 Provision for Taxation10 20,000 Interim Dividend7 1,000 Discount on Debentures9 60,000 Depreciation on Plant & Machinery3 20,000 Depreciation on Land & Building1 To Balance c/f 1,08,000 By Net Fund Flow from Operation (Bal. fig.) 3,54,000

Cr. Rs. 1,10,000

2,000

2,42,000 3,54,000

Problem 11 The following are the condensed Balance Sheet of B Ltd at the end of 2007 and 2008: Balance Sheets Capital & Liabilities Equity Share Capital Reserve & Surplus 6% Debenture Sundry Creditors Outstanding Expenses Provision for Depreciation Provision for Income Tax Proposed Dividend Provision for Bad Debt

2007 (Rs.) 2,50,000 1,50,000 50,000 79,000 7,000 80,000 30,000 37,500 13,000 6,96,500

2008 (Rs.) 3,50,000 1,40,000 20,000 83,000 15,000 1,00,000 25,000 52,500 18,000 8,03,500

Assets Land & Building Plant & Machinery Debenture Issue Expenses Preliminary Expenses Stock Debtors Bills Receivable Cash in Hand and at Bank

2007 (Rs.) 1,25,000 2,40,000 10,000 15,000 1,90,000 60,000 26,000 30,500

2008 (Rs.) 1,25,000 3,60,000 3,000 12,000 1,93,000 90,000 15,000 5,500

6,96,500

8,03,500

Additional information: i. Income tax paid in 2008 was Rs. 35,000. ii. An old machine was sold for Rs. 44,000, the cost and written-down value of which were Rs. 60,000 and Rs. 40,000, respectively.

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

REV-II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M05\LAYOUT_M05\M05_DEBA_ISBN_EN_SE_C05_Part-1.indd

FUND FLOW ANALYSIS

365

iii. Bonus shares at 2 for every 5 equity shares were issued out of accumulated reserves and surplus. iv. Out of the proposed dividend for 2007, only Rs. 30,000 were paid in 2008 and in addition to that, an interim dividend for Rs. 25,000 was paid in the same year. Prepare a Fund Flow Statement and statement of changes in the Working Capital of the company for the year that ended on 31 December 2008. [B.Com. (Hons), Calcutta University—2009] Solution Books of B Ltd Statement showing changes in Working Capital for the year that ended on 31 December 2008 Elements of Working Capital Current Asset: Stock Sundry Debtors Bills Receivable Cash & Bank Less:

Current Liabilities: Sundry Creditors Outstanding Expenses Provision for Bad Debt Working Capital Decrease in Working Capital

As on 31 December 2007 (Rs.)

As on 31 December 2008 (Rs.)

1,90,000 60,000 26,000 30,500 3,06,500

1,93,000 90,000 15,000 5,500 3,03,500

(79,000) (7,000) (13,000) 2,07,500

(83,000) (15,000) (18,000) 1,87,500 20,000

Fund Flow Statement for the year that ended on 31 December 2008 Sources of Fund Sale Proceeds of Machinery6 Fund from Operation9 Decrease in Working Capital (Bal. fig.)

Rs. 44,000 2,36,000 20,000

Applications of Fund Purchase of Plant & Machinery6 Payment of Interim Dividend5 Payment of Proposed Dividend4 Payment of Income Tax3 Redemption of Debenture8

3,00,000

Rs. 1,80,000 25,000 30,000 35,000 30,000 3,00,000

Working Notes 1. Dr.

To Balance c/f

Equity Share Capital Account Rs. By Balance b/f By Reserve & Surplus—Bonus Shares issued (2 ÷ 5 × Rs. 2,50,000) 3,50,000 6,00,000

Cr. Rs. 2,50,000 1,00,000

Reserve & Surplus Account Rs. 1,00,000 By Balance b/f By Profit & Loss A/c—Net Profit for the year (Bal. fig.) 1,40,000 2,40,000

Cr. Rs. 1,50,000 90,000

6,00,000

2. Dr. To Equity Share Capital A/c —Bonus Shares issued To Balance c/f

2,40,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

REV-II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M05\LAYOUT_M05\M05_DEBA_ISBN_EN_SE_C05_Part-1.indd

366

MANAGEMENT ACCOUNTING

3. Dr.

Provision for Income Tax Account Rs. 35,000 By Balance b/f By Profit & Loss A/c—Provision made in 2008 (Bal. fig.) 25,000 60,000

To Bank—Tax Paid in 2008

To Balance c/f

Cr. Rs. 30,000

30,000 60,000

4. Dr.

Proposed Dividend Account Rs. To Bank—Proposed Dividend for 2007 paid By Balance b/f in 2008 30,000 By Profit & Loss Appropriation A/c —Dividend Proposed in 2008 (Bal. fig.) To Balance c/f 52,500 82,500

Cr. Rs. 37,500

45,000 82,500

5. Dr.

Interim Dividend Account Rs. 25,000 By Profit & Loss Appropriation A/c—Interim Dividend adjusted 25,000

To Bank—Interim Dividend paid

Cr. Rs. 25,000 25,000

6. Dr.

Plant & Machinery (at cost) Account Rs. To Balance b/f 2,40,000 By Provision for Depreciation A/c —Accumulated Depreciation on Machinery Sold To Profit & Loss A/c—Profit on Sale of 4,000 By Bank—Sale Proceeds of Machinery Machinery [44,000 − (60,000 − 20,000)] To Bank—New Purchase (Bal. fig.) 1,80,000 By Balance c/f 4,24,000

Cr. Rs.

20,000 44,000 3,60,000 4,24,000

7. Dr.

Provision for Depreciation on Plant & Machinery Account Rs. To Plant & Machinery A/c—Accumulated By Balance b/f Depreciation on Machinery Sold (60,000 − 40,000) 20,000 By Profit & Loss A/c—Depreciation for the year (Bal. fig.) To Balance c/f 1,00,000 1,20,000

Cr. Rs. 80,000

40,000 1,20,000

8. Analysis of other Non-Current Assets and Liabilities Assets/Liabilities Land & Building Preliminary Expenses Debenture Issue Expense 6% Debenture

Opening Balance Rs. 1,25,000 15,000 10,000 50,000

Closing Balance Rs. 1,25,000 12,000 3,000 20,000

Increase/ Decrease Rs. Nil (−)3,000 (−)7,000 (−)30,000

Analysis No Purchase or Sale Depreciation Written off against Profit & Loss A/c Written off against Profit & Loss A/c Redemption of Debentures (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

REV-II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M05\LAYOUT_M05\M05_DEBA_ISBN_EN_SE_C05_Part-1.indd

FUND FLOW ANALYSIS

367

9. Calculation of Fund from Operation for the year that ended on 31 December 2008 Rs. Add:

Less:

Net Profit after Appropriation for the year2 Adjustment for Non-Current and Non-Operating items Debited to Profit & Loss A/c: Interim Dividend Paid Proposed Dividend Depreciation on Plant & Machinery Preliminary Expenses written off Debenture-Issue Expense written off Provision for Income Tax

25,000 45,000 40,000 3,000 7,000 30,000

Adjustment for Non-Current and Non-Operating Items credited to Profit & Loss A/c: Profit on Sale of old Machinery Fund from Operation

Rs. 90,000

1,50,000 2,40,000

4,000 2,36,000

Problem 12 Prepare a Fund Flow Statement of Y Ltd from the following: Balance Sheets of Y Ltd as on 31 March 2006 and 31 March 2007 Liabilities Share Capital Capital Reserve General Reserve Profit & Loss A/c Debentures Liabilities for Goods & Services Provision for Income Tax Proposed Dividend Unpaid Dividend

31 March 2006 (Rs.) 6,00,000 − 3,40,000 1,20,000 4,00,000 2,40,000 1,80,000 60,000 − 19,40,000

31 March 2007 (Rs.) 8,00,000 20,000 4,00,000 1,50,000 2,80,000 2,60,000 1,70,000 72,000 8,000 21,60,000

Assets Fixed Assets: At Cost Less: Depreciation Trade Investments Current Assets Preliminary Expenses

31 March 2006 (Rs.)

31 March 2007 (Rs.)

16,00,000 4,60,000 11,40,000 2,00,000 5,60,000 40,000

19,00,000 5,80,000 13,20,000 1,60,000 6,60,000 20,000

19,40,000

21,60,000

Additional information available during the year: i. Sold one machine for Rs. 50,000; the cost of the machine was Rs. 1,28,000 and the depreciation provided for it amounted to Rs. 70,000. ii. Provided Rs. 1,90,000 as depreciation. iii. Redeemed 30% of debentures @ Rs. 103. iv. Some trade investments sold at profit and the profit was credited to the capital reserve. v. Decided to value the stock at cost, whereas previously the practice was to value stock at cost less 10%. The stock according to books on 31 March 2006 was Rs. 1,08,000; the stock on 31 March 2007 was Rs. 1,50,000, which was correctly valued at cost. [B.Com. (Hons), Calcutta University—2008]

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

REV-II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M05\LAYOUT_M05\M05_DEBA_ISBN_EN_SE_C05_Part-1.indd

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MANAGEMENT ACCOUNTING

Solution Books of Y Ltd Fund Flow Statement for the year that ended on 31 March 2007 Sources of Fund New Issue of Equity Shares10 Sale Proceeds of Investment4 Sale Proceeds of Machinery2 Net Fund Flow from Operation12

Rs. 2,00,000 60,000 50,000 5,53,600

Applications of Fund Purchase of Fixed Assets2 Redemption of Debenture9 Payment of Proposed Dividend6 Payment of Tax8 Increase in Working Capital1 (Bal. fig.)

8,63,600

Rs. 4,40,000 1,23,600 52,000 1,80,000 68,000 8,63,600

Working Notes 1. Statement showing changes in Working Capital for the year that ended on 31 March 2007 Elements of Working Capital

Less:

Current Assets [on 31 March 2006: 5,60,000 + Undervaluation of Opening Stock (10 ÷ 90 × 1,08,000)] Current Liabilities: Liabilities for Goods and Services Working Capital Increase in Working Capital

As on 31 March 2006 (Rs.)

As on 31 March 2007 (Rs.)

5,72,000

6,60,000

2,40,000 3,32,000

2,60,000 4,00,000 68,000

2. Dr.

Fixed Assets (at cost) Account Cr. Rs. Rs. 16,00,000 By Provision for Depreciation A/c 70,000 —Accumulated Depreciation on Machine Sold 4,40,000 By Bank—Sale Proceeds of the Machine 50,000 By Profit & Loss A/c—Loss on Sale of the 20,000 Machine [(1,28,000 − 70,000) − 50,000] By Balance c/f 19,00,000 20,40,000 20,40,000

To Balance b/f To Bank—Purchase of Fixed Assets (Bal. fig.)

3. Dr.

Provision for Depreciation Account Rs. 70,000 By Balance b/f

To Fixed Assets A/c—Accumulated Depreciation on Machine Sold

By Profit & Loss A/c—Depreciation for the year To Balance c/f

5,80,000 6,50,000

Cr. Rs. 4,60,000 1,90,000 6,50,000

4. Dr. To Balance b/f To Capital Reserve—Profit on Sale of Investment

Trade Investment Account Rs. 2,00,000 By Bank—Sale proceeds of Investment (Bal. fig.) 20,000 By Balance c/f

Cr. Rs. 60,000 1,60,000

2,20,000

2,20,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

REV-II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M05\LAYOUT_M05\M05_DEBA_ISBN_EN_SE_C05_Part-1.indd

369

FUND FLOW ANALYSIS

5. Dr.

To Balance c/f

Capital Reserve Account Rs. By Balance b/f 20,000 By Trade Investment A/c—Profit on Sale 20,000

Cr. Rs. − 20,000 20,000

6. Dr.

Proposed Dividend Account Rs. To Bank—Proposed Dividend for 2005−06 By Balance b/f Paid in 2006−07 52,000 By Profit & Loss Appropriation A/c— Dividend Proposed in 2006−07 To Unpaid Dividend A/c—proposed Dividend for 2005−06 remained unpaid 8,000 To Balance c/f 72,000 1,32,000

Cr. Rs. 60,000

72,000

1,32,000

7. Dr.

To Balance c/f

Unpaid Dividend Account Rs. By Balance b/f By Proposed Dividend A/c—Unpaid 8,000 Dividend for 2005−06 8,000

Cr. Rs. − 8,000 8,000

8. Dr. To Bank—Tax Paid in 2005−06 To Balance c/f

Provision for Income Tax Account Rs. 1,80,000 By Balance b/f 1,70,000 By Profit & Loss A/c—Provision made in 2006−07 3,50,000

Cr. Rs. 1,80,000 1,70,000 3,50,000

9. Dr. To Bank—Redeemed [103% of (30% of 4,00,000)] To Balance c/f

Debentures Account Rs. 1,23,600 By Balance b/f 2,80,000

Cr. Rs. 4,00,000

By Profit & Loss A/c—Premium Paid on Redemption adjusted [3% of (30% of 4,00,000)]

4,03,600

3,600 4,03,600

10. Analysis of other Non-Current Assets and Liabilities Assets/Liabilities Share Capital General Reserve Preliminary Expenses

Opening Balance (Rs.) 6,00,000 3,40,000 40,000

Closing Balance (Rs.) 8,00,000 4,00,000 20,000

Increase/ Decrease (Rs.) (+)2,00,000 (+)60,000 (−)20,000

Analysis New Shares Issued for Cash Transfer from Profit & Loss A/c Written off against Profit & Loss A/c (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

REV-II

Project: Management Accounting_Debarshi Bhattacharyya ACE Pro India Pvt. Ltd. File: X:\Pearson\Management Accounting_Debarshi Bhattacharyya\MAIN\M05\LAYOUT_M05\M05_DEBA_ISBN_EN_SE_C05_Part-1.indd

370

MANAGEMENT ACCOUNTING

11. Dr.

Adjusted Profit & Loss A/c Rs. To Non-Current & Non-Operating Items By Balance b/f Charged: 60,000 By Undervaluation of Opening Stock Transfer to General Reserve10 72,000 Proposed Dividend6 (10 ÷ 90 × 1,08,000) 1,70,000 Provision for Income tax8 20,000 Loss on Sale of Machine2 20,000 Preliminary Expenses10 1,90,000 By Net Fund Flow from Operation Depreciation on Plant & Machinery3 3,600 (Bal. fig.) Premium Paid on Redemption Debenture9 To Balance c/f 1,50,000 6,85,600

Cr. Rs. 1,20,000 12,000

5,53,600 6,85,600

Problem 13 Prepare a Fund Flow Statement of DG & Sons Ltd from the following: Balance Sheets of DG & sons Ltd., as on 31 December 2005 and 31 December 2006 Liabilities Equity Share Capital @ Rs. 10 7% Preference Share Capital @ Rs. 100 Each Securities Premium Capital Redemption Reserve Profit & Loss A/c General Reserve Current Liabilities Provision for Taxation Proposed Dividend

31 December 31 December 2005 2006 Rs. in ’000 Rs. in ’000 300 320

100 20

50 17

– 60 80 160

30 75 60 250

30 50 800

40 58 900

Assets Fixed Assets at Cost Less: Accumulated Depreciation Trade Investments Inventories Loans & Advances Receivables Cash at Bank Preliminary Expenses

31 December 31 December 2005 2006 Rs. in ’000 Rs. in ’000 600 680

(140) 460 140 110 20 40 10 20

(180) 500 200 100 30 35 20 15

800

900

Additional information available during the year 2006: i. ii. iii. iv. v.

Furniture costing Rs. 16,000 (fully depreciated) was written off. Tax due on profit estimated to be Rs. 34 000. Old machine costing Rs. 25,000 (30% depreciated) sold for Rs. 20,000. Preference dividend along with 12% dividend on equity was paid for 2005. 500 preference shares were redeemed at 10% premium, 200 equity shares were issued at 10% premium and general reserve was utilized for a redemption purpose. [B.Com. (Hons), Calcutta University—2007]

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

REV-II

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371

FUND FLOW ANALYSIS

Solution Books of DG & Sons Ltd Fund Flow Statement for the year that ended on 31 December 2006 Sources of Fund New issue of Equity Shares4 Premium Received on New Issue of Equity Shares7 Sale Proceeds of Machinery2 Net Fund Flow from Operation13 Decrease in Working Capital1 (Bal. fig.)

Rs. in ’000 20 2 20 176 85

Applications of Fund Purchase of Fixed Assets2 Redemption of Preference Shares9

Rs. in ’000 121 50

Premium Paid on Redemption of Preference Shares6 Payment of Tax11 Payment of Proposed Dividend10 Purchase of New Investment12

5 24 43 60 303

303

Working Notes 1. Statement showing changes in Working Capital for the year that ended on 31 December 2006 Elements of Working Capital

As on 31 December 2005 (Rs. ‘000s)

As on 31 December 2006 (Rs. ‘000s)

110 20 40 10 180 160 20

100 30 35 20 185 250 (65) 85

Current Assets: Inventories Loans & Advances Receivables Cash at Bank Less:

Current Liabilities Working Capital Decrease in Working Capital

2. Dr.

Fixed Assets (at cost) Account Rs. in ’000 To Balance b/f 600.00 By Provision for Depreciation A/c —Accumulated Depreciation on Fully Depreciated Furniture To Profit & Loss A/c—Profit on Sale of 2.50 By Provision for Depreciation A/c Machinery [20,000 − (25,000 − 7,500)] —Accumulated Depreciation on Machinery sold To Bank—Purchase of Fixed Assets (Bal. fig.) 121.00 By Bank—Sale Proceeds of Machinery To Balance c/f 723.50

Cr. Rs. in ’000 16.00

7.50

20.00 680.00 723.50

3. Dr.

Provision for Depreciation Account Rs. in ’000 To Fixed Assets A/c—Accumulated By Balance b/f Depreciation on fully depreciated furniture 16.00 To Profit & Loss A/c—Depreciation for the year (Bal. fig.)

Cr. Rs. in ’000 140.50 63.50

(Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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MANAGEMENT ACCOUNTING

Dr. To Fixed Assets A/c—Accumulated Depreciation on Machinery Sold (30% of Rs. 25,000) To Balance c/f

Provision for Depreciation Account Rs. in ’000 7.50

180.00 203.50

Cr. Rs. in ’000

203.50

4. Dr.

To Balance c/f

Equity Share Capital Account Rs. in ’000 By Balance b/f By Bank—New Issue of Shares for Cash (Bal. fig.) 320 320

Cr. Rs. in ’000 300 20

320

5. Dr.

7% Preference Share Capital Account Rs. in ’000 To Bank—Preference Shares Redeemed 50 By Balance b/f (Bal. fig.) To Balance c/f 50 100

Cr. Rs. in ’000 100

100

6. Dr.

Premium on Redemption of Pref. Shares Account Rs. in ’000 To Bank—Premium Paid on Redemption 5.00 By Securities Premium A/c—Premium (10% on 50,000) Paid on Redemption Adjusted 5.00

Cr. Rs. in ’000 5.00 5.00

7. Dr.

Securities Premium Account Rs. in ’000 To Premium on Redemption of Preference By Balance b/f Shares A/c—Premium Paid Adjusted 5 To Balance c/f 17 By Bank—Premium Received on New Issue of Equity Shares 22

Cr. Rs. in ’000 20 2 22

8. Rs. in ’000 To Capital Redemption Reserve—Preference Shares Redeemed less New Equity Shares Issued (50,000 − 20,000) To Balance c/f

By Balance b/f 30 60

By Profit & Loss A/c—Transfer during the year (Bal. fig.)

90

Rs. in ’000 80

10 90

9. Dr.

To Balance c/f

Capital Redemption Reserve Account Rs. in ’000 By Balance b/f 30 By General Reserve—Transferred 30

Cr. Rs. in ’000 − 30 30 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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373

FUND FLOW ANALYSIS

10. Dr.

Cr.

Proposed Dividend Account Rs. in ’000 43 By Balance b/f

To Bank—Dividend Paid [(Pref. Div.: 7% on 100) + (Eq. Div.: 12% on 300)]

Rs. in ’000 50

By Profit & Loss Appropriation A/c— Dividend Proposed in 2006 (Bal. fig.) To Balance c/f

51

58 101

101

11. Dr.

Provision for Taxation Account Cr. Rs. in ’000 Rs. in ’000 24 By Balance b/f 30 40 By Profit & Loss A/c—Provision Made in 2006 34 64 64

To Bank—Tax Paid in 2006 (Bal. fig.) To Balance c/f

12. Analysis of other non-Current Assets and liabilities Assets/Liabilities Trade Investment Preliminary Expenses

Opening Balance (Rs. in ’000) 140 20

Closing Balance (Rs. in ’000) 200 15

Increase/Decrease (Rs. in ’000) (+) 60 (−) 5

Analysis Purchase for the year written off against Profit & Loss A/c

13. Dr. To Non-Current & Non-Operating Items Charged: Transfer to General Reserve8 Proposed Dividend10 Provision for Taxation11 Preliminary Expenses 12 Depreciation on Plant & Machinery3 To Balance c/f

Adjusted Profit & Loss A/c Rs. in ’000 By Balance b/f 10.00 51.00 34.00 5.00 63.50 75.00 238.50

Cr. Rs. in ’000 60.00

By Profit on Sale of Machinery

2.50

By Net Fund Flow from Operation (Bal. fig.)

176.00

238.50

Problem 14 Balance Sheets of Arzoo Ltd as on 31 March 2009 and 31 March 2010 were as follows: Liabilities Equity Share Capital (Rs.10) 8% Preference Shares of Rs. 100 each, Rs. 75 per Share Called up & Paid up Securities Premium Capital Redemption Reserve General Reserve Profit & Loss A/c Sundry Creditors

As on 31 March 2009 (Rs.) 3,00,000 1,12,500

As on 31 March 2010 (Rs.) 4,00,000 −

20,000 – 30,000 60,000 12,500

7,000 1,10,000 50,000 40,000 50,000

Assets Land & Building Plant & Machinery Furniture Investment Inventory Sundry Debtors Cash & Bank

As on 31 March 2009 (Rs.) 1,30,000 2,00,000

As on 31 March 2010 (Rs.) 1,40,000 2,80,000

80,000 30,000 60,000 40,000 20,000

1,20,000 40,000 50,000 50,000 30,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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MANAGEMENT ACCOUNTING

As on 31 March 2009 (Rs.) 20,000 20,000 5,000 − 5,80,000

Liabilities Proposed Dividend Provision for Taxation Bills Payable Unclaimed Dividend

As on 31 March 2010 (Rs.) 30,000 30,000 − 3,000 7,20,000

Assets Preliminary Expenses

As on 31 March 2009 (Rs.) 20,000

As on 31 March 2010 (Rs.) 10,000

5,80,000

7,20,000

Additional information: i. During the year 2009−10, an old machine, whose book value was Rs. 60,000, was sold at a loss of Rs. 8,000 and was replaced by a new machine costing Rs. 1,60,000. ii. Depreciation on furniture provided for the year 2009−10 amounted to Rs. 15,000. A part of the furniture was sold at a profit of Rs. 3,000 and the cost of new furniture acquired during the year was Rs. 78,000. iii. A preference-share final call @ Rs. 25 per share was made before redeeming the preference shares at a premium of 10%. The Securities Premium Account was utilized to provide the premium paid, and the redemption was made partly out of profit and partly out of new issue of equity shares at 5% premium. iv. A bonus dividend was declared during 2009−10 to the old-equity shareholders, @ one equity share at par for every five equity shares held, out of the General Reserve. v. Before redemption, the preference dividend for the year 2009−10 was paid by the company. Prepare a Statement showing the changes in the Working Capital and a Fund Flow Statement for the year that ended on 31 March 2010.

Solution Books of Arzoo Ltd Fund Flow Statement for the year that ended on 31 March 2010 Sources of Fund New Issue of Equity Shares1 Premium Received on New Issue of Equity Shares4 Proceeds from Sale of Furniture12 Proceeds from Sale of Machinery11 Receipt of final Preferencce Share Call2 Net Fund Flow from Operation14 Decrease in Working Capital1 (Bal. fig.)

Rs. 40,000 2,000 26,000 52,000 37,500 2,89,000 22,500

Applications of Fund Purchase of New Machinery11 Purchase of New Furniture12

Rs. 1,60,000 78,000

Addition to Building13 New Investment Made13 Payment of Tax10 Payment of Preference Dividend7 Payment of Proposed Dividend8 Redemption of Preference Shares2 Premium Paid on redemption of Preference Shares3

10,000 10,000 20,000 9,000 17,000 1,50,000 15,000 4,69,000

4,69,000

Statement showing changes in the Working Capital for the year that ended on 31 March 2010 Elements of Working Capital

As on 31 March 2009 Rs.

Current Assets: Inventory Sundry Debtors Cash & Bank

60,000 40,000 20,000 1,20,000

As on 31 March 2010 Rs. 50,000 50,000 30,000 1,30,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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375

FUND FLOW ANALYSIS

Elements of Working Capital Less:

Current Liabilities: Sundry Creditors Bills Payable Working Capital Decrease in Working Capital

As on 31 March 2009 Rs. − (12,500) (5,000) 1,02,500

As on 31 March 2010 Rs. (50,000) 80,000 2,500

Working Notes 1. Dr.

Equity Share Capital Account Rs. By Balance b/f By General Reserve—Bonus Shares Issued (1 ÷ 5 × 30,000 = 6,000 Shares of Rs. 10) 4,00,000 By Bank—New Issue of Shares for Cash (Bal. fig.) 4,00,000

To Balance c/f

Cr. Rs. 3,00,000 60,000 40,000 4,00,000

2. Dr.

8% Preference Share Capital Account Rs. To Bank—Preference Shares Redeemed 1,50,000 By Balance b/f By Bank—Final Call on Shares Received (1,500 × Rs. 25) 1,50,000

Cr. Rs. 1,12,500 37,500 1,50,000

Note: No. of Preference Shares = Rs. 1,12,500 ÷ Rs. 75 = 1,500 Shares.

3. Dr. To Bank—Premium Paid on Redemption

Premium on Redemption on Preference Shares Account Rs. 15,000 By Securities Premium A/c—Premium Paid on Redemption Adjusted 15,000

Cr. Rs. 15,000

Securities Premium Account Rs. By Balance b/f By Bank—Premium Received on New Issue of Equity Shares (5% on Rs. 40,000) 15,000 7,000 22,000

Cr. Rs. 20,000

15,000

4. Dr.

To Premium on Redemption on Preference Shares A/c—Premium Paid Adjusted To Balance c/f

2,000 22,000

5. Dr.

To Balance c/f

Capital Redemption Reserve Account Rs. By Balance b/f By Profit & Loss A/c—Difference between the Face Value of Preference Shares Redeemed & Face Value of New Shares Issued for Cash Transferred 1,10,000 1,10,000

Cr. Rs. − 1,10,000

1,10,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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376

MANAGEMENT ACCOUNTING

6. Dr. To Equity Share Capital A/c— Bonus Dividend declared

General Reserve Account Rs. By Balance b/f 60,000

Cr. Rs. 30,000

To Balance c/f

50,000

80,000

By Profit & Loss A/c—Transfer during the year (Bal. fig.)

1,10,000

1,10,000

7. Dr. To Bank—Preference Dividend Paid (8% on Rs. 1,12,500)

Preference Dividend Account Rs. By Profit & Loss A/c—Preference Dividend declared 9,000 9,000

Cr. Rs. 9,000 9,000

8. Dr. To Bank—Dividend for 2006−07 paid (20,000 − 3,000) To Unpaid Dividend A/c—Dividend not claimed To Balance c/f

Proposed Dividend Account Rs. 17,000 By Balance b/f

3,000 30,000 50,000

By Profit & Loss Appropriation A/c—Dividend Proposed in 2007−08

Cr. Rs. 20,000

30,000 50,000

9. Dr.

To Balance c/f

Unpaid Dividend Account Rs. By Balance b/f 3,000 By Proposed Dividend A/c—Unpaid Dividend for 2006−07 3,000

Cr. Rs. Nil 3,000 3,000

10. Dr. To Bank—Tax for the year 2006−07 Paid in 2007−08 To Balance c/f

Provision for Tax Account Rs. 20,000 By Balance b/f

Cr. Rs. 20,000

30,000 50,000

30,000 50,000

By Profit & Loss A/c—Provision Made for 2007−08

11. Dr. To Balance b/f To Bank—Cost of New Machinery

Plant & Machinery Account Rs. 2,00,000 By Bank—Sale Proceeds of Old Machine (60,000 − 8,000) 1,60,000 By Profit & Loss A/c—Loss on Sale of Old Machinery By Profit & Loss A/c—Depreciation for the year (Bal. fig.) By Balance c/f 3,60,000

Cr. Rs. 52,000 8,000 20,000 2,80,000 3,60,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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377

FUND FLOW ANALYSIS

12. Dr.

Cr.

Furniture Account Rs. 80,000 78,000 3,000

To Balance b/f To Bank—Cost of New Furniture To Profit & Loss A/c—Profit on Sale of Furniture

By Bank—Sale Proceeds of Furniture (Bal. fig.) By Profit & Loss A/c—Depreciation for the year By Balance c/f

1,61,000

Rs. 26,000 15,000 1,20,000 1,61,000

13. Analysis of other Non-Current Assets and liabilities Assets/Liabilities Land & Building Preliminary Expenses Investment

Opening Balance Rs. 1,30,000 20,000 30,000

Closing Balance Rs. 1,40,000 10,000 40,000

Increase/ Decrease Rs. (+)15,000 (−)10,000 (+)10,000

Analysis Addition to Building Written off Against Profit & Loss A/c New Investment Made

14. Dr. To Non-Current & Non-Operating Items Charged:

Cr.

Adjusted Profit & Loss A/c Rs. By Balance b/f

Capital Redemption Reserve5 General Reserve6 Preference Dividend7 Proposed Dividend 8 Preliminary Expenses 13 Loss on Sale of Machinery11 Depreciation on Plant & Machinery11 Depreciation on Furniture12 Provision for Tax10 To Balance c/f

1,10,000 80,000 9,000 30,000 10,000 8,000 20,000 15,000 30,000 40,000 3,52,000

Rs. 60,000

By Non-Current & Non-Operating Items Credited: By Profit on Sale of Furniture12

3,000

By Net Fund Flow from Operation (Bal. fig.)

2,89,000

3,52,000

Problem 15 From the following information provided by Tatkal Ltd, prepare a statement showing changes in the Working Capital and a Fund Flow Statement for the year that ended on 31 March 2010: Balance Sheets Liabilities Equity Share Capital Securities Premium Profit & Loss A/c 10% Debentures Bank Overdraft Creditors

As on 31 March 2009 (Rs.) 1,00,000 15,000 28,000 70,000 14,000 34,000

As on 31 March 2010 (Rs.) 1,50,000 35,000 70,000 30,000 − 48,000

Assets Freehold Property Plant & Machinery Furniture Stock Debtors Bank

As on 31 March 2009 (Rs.) 1,10,000 1,20,000 24,000 37,000 43,000 −

As on 31 March 2010 (Rs.) 1,30,000 1,51,000 29,000 51,000 44,000 16,000 (Continued)

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

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378

MANAGEMENT ACCOUNTING

Liabilities Proposed Dividend Provision for Depreciation on: Plant & Machinery Furniture

As on 31 March 2009 (Rs.) 15,000

As on 31 March 2010 (Rs.) 20,000

45,000 13,000 3,34,000

54,000 15,000 4,22,000

Assets Premium on Redemption of Debentures

As on 31 March 2009 (Rs.) −

As on 31 March 2010 (Rs.) 1,000

3,34,000

4,22,000

Additional information: i. There had been no disposal of freehold property in the year. ii. The machine, which had cost Rs. 8,000 and in respect of which Rs. 6,000 depreciation had been provided, was sold for Rs. 3,000, and furniture, which had cost Rs. 5,000 and in respect of which a depreciation of Rs. 2,000 had been provided, was sold for Rs. 1,000. The profits and losses on these transactions had been dealt with through Profit & Loss A/c. iii. Actual premium on the redemption of debentures was Rs. 2,000, of which Rs. 1,000 had been written off to the Profit & Loss A/c. iv. No interim dividend has been paid. [B.Com. (Hons), Calcutta University—Adapted]

Solution Books of Tatkal Ltd Fund Flow Statement for the year that ended on 31 March 2010 Sources of Fund New Issue of Equity Shares8 Premium Received on New Issue of Equity Shares8 Proceeds from Sale of Furniture3 Proceeds from Sale of Machinery1 Net Fund Flow from Operation9

Rs. 50,000 20,000 1,000 3,000 83,000

Applications of Fund Purchase of New Machinery1 Purchase of New Furniture3 Purchase of Freehold Property8 Redemption of Debentures at Premium6 Payment of Proposed Dividend7 Increase in Working Capital (Bal. fig.)

1,57,000

Rs. 39,000 10,000 20,000 42,000 15,000 31,000 1,57,000

Statement showing changes in Working Capital for the year that ended on 31 March 2010 Elements of Working Capital Current Assets: Stock Debtors Bank Less:

Current Liabilities: Creditors Bank overdraft Working Capital Increase in Working Capital

Modified Date: Thu, Jul 01, 2010 03:49:13 PM

Output Date: Tue, Jul 06, 2010 11:48:50 AM

As on 31 March 2009 (Rs.)

As on 31 March 2010 (Rs.)

37,000 43,000 − 80,000

51,000 44,000 16,000 1,11,000

(34,000) (14,000) 32,000

(48,000) − 63,000 31,000

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379

FUND FLOW ANALYSIS

Working Notes 1. Dr.

Plant & Machinery (at cost) Account Rs. To Balance b/f 1,20,000 By Provision for Depreciation A/c —Accumulated Depreciation on To Bank—New Purchase (Bal. fig.) 39,000 Machinery sold To Profit & Loss A/c—Profit on Sale of By Bank—Sale Proceeds of Machinery Machinery [3,000 − (8,000 − 6,000)] 1,000 By Balance c/f 1,60,000

Cr. Rs. 6,000

3,000 1,51,000 1,60,000

2. Dr.

Provision for D