Course Code Course Title Question 1:

: :

MCS-035 Accountancy and Financial Management

From the following balances taken from the books of M/s X & Co., prepare trading and profit and loss account for the year ending December 31, 2008 and balance sheet as on that date. Particulars Stock (1-1-2008) Debtors and Creditors Returns Drawing and Capital Fire Insurance Premium Life Insurance Premium Income Tax Paid Bill Receivable and Bills Payable Sales Tax Payable Wages and Salaries Telephone Expenses Sales Promotion Expenses Case and Bank Overdraft Audit Fees Discount Investments Interest on Investments Interest on Bank Overdraft Rent Paid Bad Debts Recovered Amount Amount Rs.(Dr.) Rs.(Dr.) 17,000 --25,000 22,000 89,000 1,15,00 0 17,000 12,000 8,000 1,25,00 0 2,000 --5,000 10,000 14,000 --18,000 3,000 21,000 5,000 8,000 4,000 60,000 --6,000 12,000
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----16,000 12,000 ------14,000 --1,000 --5,000 -----

Total

--3,24,000

2,000 3,24,00 0

Closing stock on 31st December, 2008 amounted to Rs.25,000/Ans :

Trial Balance (Rectified) as on Dec 31, 2008 Amount Dr. 17000 25000 89000 17000 8000 2000 5000 14000 12000 18000 3000 5000 21000 4000 60000 5000 6000 24000 3,35,000

particulars Stock (01.01.2008) Debtors and Creditors Purchase and Sales Drawing and Capital Fire Insurance premium Life insurance premium Income tax paid Bill receivable and Bill payable Sales tax payable Wages and salaries Telephone expances Sales promotion expances Cash and Bank overdraft Audit fees Discount Investment Interest on investment Interest on bank overdraft Rent paid Bad debt recovered Suspense

Amount Cr. 22000 115000 12000 125000 16000 10000 14000 1000 8000 12000 3,35,000

Trading and P/L account Of M/s X & Co. As on Dec. 31,2008

particulars To opening stock To purchase To Wages and salaries To gross profit transferred to P/L A/C Fire Insurance premium Life insurance premium Income tax paid Telephone expances Sales promotion expances Audit fees Discount Interest on overdraft Rent paid Net profit

Amount

particulars 17000 By Sales 89000 By closing stock 12000 22000

Amount 115000 25000

1,40,000 8000 By Gross profit from trading A/C 2000 By fire insurance premium 5000 By Discount 18000 By Interest on investment 3000 By Bad debt recovered 21000 4000 5000 6000 96000 1,68,000

1,40,000 22000 125000 1000 8000 12000

1,68,000

Balance Sheet of M/s X & Co. As on Dec. 31,2008

Liabilities Capital 12000 Add: profit 96000 1,08,000 Less:Drawing (17000) Creditors Bill payable Sales tax payable Overdraft

Amount

Assets 91000 Investment

Amount 60000

22000 16000 10000 14000 1,53,000

Closing stock Debtors Bill recievable Cash Suspanse

25000 25000 14000 5000 24000 1,53,000

Question 2: The Board of Directors of Ruby Ltd requests you to prepare a statement showing the working capital requirements forecast for a level of activity of 1,56,000 units of production. The following information is available for your calculation: (Rs. per unit) __________________________________________________________________ ___________________ Raw materials 90 Direct labour 40 Overheads 75 205 Profit 60 Selling price per unit 265 (a) Raw materials are in stock on average one month. (b)Materials are in process, on average 2 weeks. (c) Finished goods are in stock, on average on month (d)Credit allowed by supplier one months (e) Time lag in payment from debtors 2 months (f) Lag in payment of wages - 1 weeks (g) Lag in payment of overheads one month.

20% of the output is sold against cash. Cash in hand and at bank is expected to be Rs.60,000. It is to be assumed that production is carried on evenly throughout the year. Wages and overhead accrue similarly and a time period of 4 weeks is equivalent to a month. Ans :

Projected Income Statement Ruby Ltd. Raw meterials (156000*90) Direct labour (156000*40) Overheads (156000*75) Cost of goods sold Profit (156000*60) Sales 20% of output is sold against cash So, credit sales = 41340000*80% = 33072000 14040000 6240000 11700000 3,19,80,000 9360000 41340000

Working capital requirement

Assets Raw materials (14040000*1/2) 1170000 Working progress Raw material (14040000*1/2*1/12) = 585000 Labour overhead 50 % of (6240000+11700000)*1/2*1/12 = 373750 958750 Finished goods (31980000*1/12) 2665000 Debtors (33072000*1/12) 5512000 Cash balance 60000 Total (A) 10365750

Current Liabilities Creditors (14040000*1/12) Wages (6240000*3/8) Overhead (11700000*1/12) Total (B) Working capital (A-B)

1170000 195000 975000 2340000 8025750

Question 3: A machine costs Rs.3,00,000 and its effective life is estimated to be 6 years. A sinking fund is created for replacing the machine at the end of its effective life time when its scrap realised a sum of Rs.20,000 only. Calculate to the nearest hundreds of rupees, the amount which should be provided, every year, for the sinking if it accumulates at 8% p.a. compounded annually. Ans :
Cost of machine = 300000 Residual value = 20000 at the end of 6th years. Rate of interest = 8% per annum
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Let assume annual instalment of sinking fund = x And instalment will be deposited at the beginning of the year. 1st instalment = x(1+r/100)n Installment : 1st = x(1.08)6 = 1.586 x 2nd = x(1.08)5 = 1.469x 3rd = x(1.08)4 = 1.3604x 4th = x(1.08)3 = 1.25x 5th = x(1.08)2 = 1.66x 6th = x(1.08)1 = 1.08x 7.9114x

7.9114x = 300000-20000 Or, x = 280000/7.9114 = 35391 i.e 35400

Question 4: Summarised Income statement and Balance sheet of Gem cables ltd. For the year ended 31st March 2008 are as under: Income statement for the year ended 31st March, 2008 (Rs.) Sales Less: Cost of goods sold Gross Profit margin Less Depreciation 1,50,000 Selling and administration expenses 2,50,000 Profit before interest and tax

80,00,000 64,00,000 16,00,000 4,00,000 12,00,000

Less: Interest Profit before tax Less: Tax @40% Net Profit Liabilities Rs. Share 50,00,000 Retained 18,00,000 Debentures 8,00,000 Creditors 2,80,000 Bills 1,20,000 80,00,000 Balance Sheet as at 31st March, 2008 Assets Rs. capital Fixed assets 63,00,000 earnings Inventory 9,00,000 Debtors 5,00,000 Marketable 2,10,000 payable Cash 90,000 80,00,000

3,00,000 9,00,000 3,60,000 5,40,000

securities

You are required to calculate: (a) Gross profit margin, (b) Net profit margin, (c) Cash profit ratio, (d) Return on total assets, and (e) Return on Shareholders Networth.

Ans :

(a) Gross profit margin = gross profit Sales

* 100

= 1600000*100 8000000 = 20 %

(b) Net profit margin = Net profit *100 Sales = 540000 * 100 8000000 = 6.75%

(c) Return on total assets =profit after tax *100 Total Assets = 540000 * 100 8000000 = 6.75%

(e) Return on share holder Net worth = Return Share holder networth = 540000 *100 6800000 = 7.94%

Question 5: Discuss the effects of liberal vs. stiff credit standards.

Ans :
Business firms often sell goods on credit to facilitate sales. It is valuable to customers as it augments their resources, and it is particularly appealing to customers who cannot borrow from other sources or find it very expensive or cumbersome to do so. The credit period extended by business firms usually ranges from 15 days to 45 days. When goods are sold on credit, finished goods get converted (from the point of view of the selling firm) into receivables (book debts). Receivables, when realized, generate cash. The important dimensions of a firms credit policy are credit standards, credit period, cash discount and collection effort. These variables are related and have a bearing on the level of sales, bad debt loss, discounts taken by customers, and collection expenses. A pivotal question in the credit policy of a firm is: What standard should be applied in accepting or rejecting an account for credit granting? A firm has a wide range of choice in this respect. At one end of the spectrum, it may decide not to extend credit to any customer, however strong his credit rating may be. At the other end, it may decide to grant credit to all customers irrespective of their credit rating. In general, liberal credit standards tend to push sales up by attracting more customers. This is, however, accompanied by a higher incidence of bad debt loss, a larger investment in receivables and a higher cost of collection. Stiff credit standards have opposite effects. They tend to depress sales, reduce the incidence of bad debt loss, decrease the investment in receivables and lower the collection cost. Firms generally offer cash discounts to induce customers to make prompt payments. The percentage discount and the period during which it is available are reflected in the credit terms.

Question 6: How do cash flow problem arise? What steps are suggested to overcome the problem?

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Ans :
A cash flow problem arises when a business struggles to pay its debts as they become due. Note that a cash flow problem is not necessarily the same as experiencing a negative cash flow. A business often experiences a net cash outflow, for example when making a large payment for fixed assets or where there is a seasonal drop in demand. However, when cash flow is consistently negative and the business uses up its cash balances, then the problems become serious. The main causes of cash flow problems are summarised below While every business owner hopes their business will never have financial problems, in reality most experience financial pressure at some point in their existence. This Factsheet is designed to help you diagnose a cash flow shortage and take some steps toward correcting it. The sooner you can diagnose the problem the better. Early diagnosis gives you more time to make decisions and more options concerning your farm business.
Early Warning Signs - Cash Flow

Most farm businesses become aware of potential financial problems when cash flow becomes tight. Obligations become increasingly difficult to meet in the short and medium term. This may indicate a temporary short-term problem (such as a poor growing season) that will correct itself in time, or it m11y11i11dicate a more serious long-term problem. The first step is to determine if the problem is short or long-term. The distinction between the two is important. Long-term problems require significant business adjustments to correct and, if left uncorrected, have the potential to result in business failure.
Three Step Analysis Of Cash Flow

There is a simple three step approach to diagnose a cash flow problem. Step 1 - Determine if the current cash flow shortage is short or long term Step 2 - Calculate business equity Step 3 - Identify the primary cause of the cash flow problem Once these steps are completed you can determine what options are available.

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Table 1. Debt Servicing Capacity

Projected Year + Farm Cash Revenue - Farm Cash Expenses = Net Cash from Operation + Interest Payments + Owner's Contributions - Owner's Withdrawals (including taxes) = Cash Available for Principal and Int. - Principal and Interest Payments Cash Available After P & I Payments - Depreciation or Reserve for Asset Acquisition Debt Servicing Capacity $380,000 $328,000 $52,000 $18,000 $8,000 $42,000 $36,000 31,000 $5,000 $20,000 ($15,000)

This example shows that there is cash available to cover the interest and principle payments but not enough to cover depreciation. Depreciation or a reserve for asset acquisition is used to replace assets as they wear out. In this example, a shortage of $15,000 exists. Back of the envelope analysis - the information summarized in the debt servicing capacity worksheet can also be used to project breakeven prices for crops or livestock. The total of principal and interest payments, owners withdrawals and operating debt can be divided by the projected production to determine the breakeven price needed.

Step 2 - Calculate business equity Knowing your equity position enables you to judge the businesses' ability to survive the cash shortage. A cash flow shortage that persists ultimately reduces the owner's equity. High equity businesses have the ability to withstand a longer and more serious cash flow shortage because they can re-borrow against their equity. Businesses with low equity are unable to tolerate cash flow shortages and therefore are at much greater risk. Knowing your equity position also allows you to pre-determine the minimum level of equity that you wish to maintain in the business. This is important because the equity in the farm business
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represents the retirement savings for many farmers. It is important to protect that investment. You may, for example, decide that you will not let your equity percentage fall below a certain amount, say $250,000. If you know your current equity position and the projected cash shortfall you can calculate if you are at risk of falling below that amount. Equity can be determined by subtracting your total liabilities from your total assets. To determine the equity as a percentage divide your equity by your total assets and multiply by 100. The equity of the business is always stated on the balance sheet, but it can vary widely depending on how the assets are valued. Statements prepared for accounting purposes use cost less depreciation to value assets, which is the purchase cost of the asset minus the depreciation taken for tax purposes. Statements prepared for lenders use fair market value, which is the sale value of the asset. For the purpose of evaluating your business equity you should use conservative fair market values.

Percent Equity = (Equity Total Assets) x 100 E.g. (420,000 650,000) x 100 - 64% Step 3 - Identify the primary cause of the cash flow problem The most important and the most difficult step in the process is identifying the cause of the cash flow shortage. This can be done by examining the following three areas: 1. efficiency 2. scale of the business 3. debt structure Efficiency Some producers might immediately feel defensive when the word efficiency is used. Often they have worked very hard at becoming more efficient only to see returns diminish. Sometimes this is because of depressed commodity prices. However it is important to determine if the cash flow problem will continue even after prices increase. If the efficiency of the business is only slightly below average even good prices may not generate the profits needed to maintain a positive cash flow.

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Efficiency is measured by the physical and economic output of the business. Because there is no one measurement of efficiency you must look at a combination of physical and economic measurements such as yield per acre or variable costs per unit of output.

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