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Items given in the trialbalance
Treatment in profit andloss account
Treatment in thebalance sheet
Closing stock Nil Shown in the asset side
Outstanding expenses Nil Shown in the liabilityside
Prepaid expenses Nil Shown as assets
Accrued income Nil Shown as assets
Unearned income Nil Shown as liability
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s e o pro an oss
Bad debts Shown on the expenses sideof profit and loss
Nil
Provision for bad debts( ifno adjustment is given
outside the trial balance )
Nil Shown on the liability sideof the balance sheet
Provision for bad debts (ifadjustments is givenoutside the trial balance)
The amount which is givenin the trial balance will beshown on the income sideof profit and loss
The new provision which isgiven in the adjustmentswill be shown on theexpenses side of profit andloss after deducting fromdebtors
Discount allowed Shown on the expenses sideof profit and loss
Nil
Provision for discount ondebtors (if no adjustment is
given out side the trialbalance)
Nil Will be shown on theliability side
Provision for discount ondebtors (if adjustment isgiven in the outside trial
balance)
The amount which is givenin the trial balance will beshown on the income side
of profit and loss
The new provision which isgiven in the adjustmentswill be reduced from
debtors and will be shownon the debit side of profit
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Discount received Shown on the income sideof profit and loss
Nil
Reserve for discount on
creditors (if no adjustmentis given outside the trialbalance)
Nil Will be shown on the
liability side of the balancesheet after deducting fromcreditors
Reserve for discount oncreditors ( if adjustment is
given outside the trialbalance)
The amount which is givenon the trial balance will be
shown on the debit side ascancellation item
The new provision which isgiven on the adjustments
will be deducted from thecreditors and will be shownon the income side of theprofit and loss
Interest on capital Shown on the expenses side
of profit and loss asseparate item
Nil
Interest on drawings Shown on the income sideof profit and loss account
Nil
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Adjustments profit and loss account Treatment in thebalance sheet
Outstanding expenses Added to the respectiveaccount
On the liability side
Prepaid expenses Deducted from therespective expenses
On the asset side
Accrued income Added to the respectiveincome on the incomeside
On the assets side
Unearned income Deducted from the
respective account
On the liability side
Depreciation On the expenses side ofprofit and loss
Asset side afterdeducting from therelated assets
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Interest on capital On the expenses side ofprofit and loss
On the liability side afteradding to the capital
Interest on drawings On the income side of profit
and loss
Deducted from the capital
Interest on loan ( if taken) On the expenses side ofprofit and loss
Liability side after addingto the loan amount
Interest on loan ( if given) On the income side of profitand loss
Asset side after adding tothe loan amount
Interest on investments On the income side of theprofit and loss
On the asset side afteradding to the investments
Closing stock On the income side of profitor loss
On the asset side of thebalance sheet
Bad debts On the debit side of the
profit and loss
On the asset side after
deducting from dedbtors
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Provision for bad debts On the debit side of theprofit and loss
On asset side afterdeducting from the debtors
Provision for discount on
debtors
On the debit side of the
profit and loss
On the debit side after
deducting from debtors
Provision for discount oncreditors
On the credit side of theprofit and loss account
On the liability side ofbalance sheet afterdeducting from thecreditors
Loss by accident On the debit side of profitand loss
On the asset side afterdeducting from the relatedassets.
Sales tax On the expenses side ofprofit and loss On the liability side of thebalance sheet
Goods distributed as freesample and donation
Deducted from thepurchases and shown inthe expenses side of profit
and loss debit side
Nil
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Drawing of goods Deducted from purchases Deducted from capital asdrawings
Provision for repairs anddonations
Shown on the expenses sideof the profit and loss
Shown on the liability sideof the balance sheet
Sale or return basis sales Sales price is reduced fromthe sales and cost price isadded to the closing stockand shown on profit andloss account credit side
Sales price is reduced fromthe debtors and cost price ofstock is added to the closingstock
Deferred expenditure Part of deferred expenseswill be written of shown onthe expenses side
Remaining amount will beshown on the assets side
Contingent liability Nil Such liability is shown outside the trial balance asnote.
Bills or cheques dishonored Bank account will bereduced and debtors
account will be increased.
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Omission of entry of creditsales and purchases:Incase of credit purchases
Incase of credit sales
Purchases will beincreased in profit or lossaccount
Will be added to sales
Will be added to creditorsaccount
Will be added to debtors
Goods in transit On the income side of profit& Loss account
Will be shown on the assetside of balance sheet
Common debt Deducted from debtors andcreditors
Reserve for discount oncreditors
Shown on income side ofprofit and loss
Deducted from creditors
Managers commission onprofit Shown on the expenses sideof profit and loss Shown on the liability side
Abnormal loss of stock Total value will be reducedfrom the purchases if anyrecovery amount theadjustment will be made
If amount due from theinsurance company will beshown on the asset side ofbalance sheet.
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Wages include oninstallation of PM
Will be deducted fromwages
Added to plant andmachinery
Sales includes sales tax Deducted from sales Shown on the liabilityside
Direct deposit by thecustomer in to bank
Debtors will reduce andbank will increase
Bank charges debited bythe bank
Shown on the expensesside of profit and loss
Reduced from bank
Debtors includesdrawings from
proprietor
Reduced from debtorsand reduced from capital
Purchases includesfurniture purchased
Reduce from purchaseand increase thefurniture
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Items in trial balance Treatment in profit andloss
Treatment in thebalance sheet
9% loan from A Interest will be shownon the expenses side ofprofit and loss
Added to the loanaccount and shown onthe liability side
10% Deposit with the B Interest on deposit willbe shown on the incomeside of profit and loss
The interest amount willbe added to deposit andshown on the asset side
10% investments Interest on investmentwill be shown on income
side of profit and loss
Interest amount addedto investment and
shown on asset side
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For business profit is like engine of a car.As the car ends when its engine isseparated from it, similarly identity of
business comes to an end when the wordprofit is removed from it. Profit is veryimportant in any business.
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It is a dynamic document which shows theresults of operation of an enterprise for aparticular period of time. In this statement
revenue of a particular period are marchedwith the expenses of that period. The excess ofrevenue over expenses is known as net incomeand excess of expenses over revenue is known
as net loss.
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The answer to this question is simpleand obvious . As the name suggests,
this statement is prepared to find outwhether an organisation has made aprofit or a loss.
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This question is equally simple toanswer. The primary objective of startingbusiness is to earn profit. Unless the
business is making a profit, you mightwant to re-consider whether you wish tocontinue running it.
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An organisation with a grand faade, high-profile clients, motivated employees and anoutstanding brand may well be bleeding dray.
At the same time, a business operating from arundown shack could just as well be highprofitable.
So the only way to conclude the profitabilityposition is if profit and loss account is preparedand studied.
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SALES OTHER INCOME
Income from sale ofgoods.
Income from Services
Interest earned ondeposits.
Dividend received oninvestments.
Profit on sale of assets
Commission received
Rent received etc.
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Opening stock + Purchases Closing stock
Note: Under the new approach direct expensesare shown under the head expenses.
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OFFICE OR ADMINISTRATIVEEXPENSES
SELLING & DISTRIBUTIONEXPENSES
In this head salaries ofemployees, postage &
telegram, rent and tax,printing &stationary, legalexpenses auditing fees etc.are shown .Thoseexpenses which beginwith the word office,management oradministration are shownunder this head
Advertisement, salaryand commission to
agents, carriage onsales, handling, packingcharges etc. are shownin this head. Thoseexpenses with which
words selling ordistribution areassociated are shownunder this head.
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FINANCIAL EXPENSESOTHER MISCELLANEOUSEXPENSES.
Expenses incurred forprocurement of money
are known as financialexpenses. For example interest on loan, bankcharges etc
Depreciation, repairs,donation loss of assets,
trade exp etc .are shownunder this head
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This is a measure of gross performance of acompany with reference to its total capitalemployed. As the term suggests, interest and
tax are not deducted while computing PBIT.Interest is a reward of borrowed capital and taxis a compulsory deduction imposed by law. Itis also known as Earnings Before Interest and
Tax ( EBIT). Generally it is used to measuremanagerial Performance.
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This is a measure of net profit before chargingtax. Since tax is a compulsory and non discretionary charge on the company, net profit
is first presented before charging tax. By thisthe users can understand profit earning abilityof the company and the tax impact separately.This also otherwise known as Earnings Before
Tax (EBT).
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This is a measure of net profit. Thisis used to understand the profit
earned after tax charge. It isotherwise known as Earnings AfterTax (EAT).
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This is given by PAT plus balance of Profit andLoss Account standing from previous years. Asmall amount is left which can be used in the
subsequent year for maintaining uniform rateof dividend.
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Profit and Loss Account includes elements ofnon-operating items. For example, incomefrom investments in is non-operating income
which arises out of investment outside thebusiness. Related expenses are non-operatingexpenses. Similarly, profit or loss on sale offixed assets or investments is also categorized
non-operating income/ expenses.
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Profit available to Equity Shareholders: This isdistributable profit minus dividend paid topreference shareholders.
Book Profit: It is the profit as per books ofaccounts. This includes accrued income also.
Actual Profit: The profit which is actuallyrealized.
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Item s schedule 2010 2009
Income :SalesLess Excise dutyNet salesFinished goods internally capitalizedOther incomeTotal
Expenditure :Decrease ( increase) in stock of finished goodsRaw materialsPower &FuelRepairs and maintenanceOther manufacturing expenses
Employees remunerationAdministrative expensesOther expensesSelling and distribution expensesInterest and financing chargesProvisions
DepreciationTotal
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Profit Before Interest and Tax (PBIT)Less InterestProfit Before Tax (PBT)Less Provision for taxation
CurrentFringe benefitDeferredEarlier yearsProfit After Tax (PAT)Balance brought forward from previous
yearTransfer from capital reserveTransfer from general reserveProvision for differential actuarialliabilityAmount available for appropriation
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Appropriations:Interim DividendProposed Final dividendTax on dividend
Transfer to General reserveBalance Carried forward to Balance SheetEarnings Per Share: (EPS)Profit after taxAverage number of equity sharesBasic & Diluted earnings per share
Significant Accounting Policies
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Purchases
Carriage
Carriage inward
Freight Freight inward
Wages
Factory expenses
Stores consumed
Royalty
Motive Power
Coal, coke Water
Oil
Octroi Dock charges
Custom Duty
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salary
rent, rate & taxes
stationary
postage and telegram audit fees
legal charges
telephone charges insurance premium
entertainmentexpenses
repairs
depreciation interest
trade expenses
conveyance
charity
bank charges
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office expenses
establishment exp
stable expenses
license fees brokerage
commission
office lighting
advertisement
export duty
discount
packing charges traveling exp
bad debts
provision for baddebts
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Sales
Income from services
Rent received
discount received commission received
interest received
bad debts recovered
apprentice premium
income from investment
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Cash in hand Cash at bank Bills receivable Sundry debtors
Closing stock Finished goods Raw materials Work in progress Stationary
Goods sent onconsignment
Long term investments Trade mark
Patents Vehicle Furniture Investments Machinery and plant Tools Land and building Goodwill
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Bank overdraft
Bills payable
Sundry creditors
Short term loans
Bank loans
Long-term loans
Incomes received in advance Capital
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One group consists of employees, vendors,printing stationer etc. This group represents
operating expenses.
Another group are the share holders whoalso expect reward
Another group is government, which expects
to collect tax Yet another group are the lenders also need to
be rewarded.
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Operating Expenses
Interest
Tax Share holders
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The Balance Sheet presents anenterprises assets, liabilities and
equity at a point in time. Itsummarizes the resources, and theclaim to those resources by owners
and creditors of the enterprise on acertain date.
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Liabilities represent money thatorganization owes. This is money
that it owes because it was borrowedby the organization. In other words,liabilities shows the sources of money,
where the organization has receivedits funds.
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Capital- Direct contribution from owners/share holders
Reserves Indirect contribution by the owners
Loan- Contribution from outsiders Creditor for goods/ services- when goods are
purchased on credit, it amounts to a loan, notin cash but in kind.
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Assets represent something that theorganisation possess, something that
it owns, and which has beenobtained by spending the moneyraised. In other words, assets tells us
where the money was spent- the useof money.
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Creation of infrastructure ( purchase offixed assets)
Creation of current assets componentslike inventory, cash and bank balance
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AssetsOffice equipmentsStockBankCash
BuildingTotal of assets
LiabilitiesCreditorsOutstanding expensesOverdraft
EquityShare capitalRetained earningsTotal equityTotal of liabilities and equity
Schedule Amount
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Items ScheduleNo
Amount
Sources of Funds:Share holders fundsCapital
Reserve and surplusLoan fundSecured loanUnsecured loanTotalApplication of funds:
Fixed assetsCurrent assets and loans and advancesLess current liabilities and provisionsTotal
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Assets Liability Equity
Bank Advancerent
Customer Supplies
1,00,00020,000
(70,000)(12,000)(11,000)(14,000)
460(1,800)8,70024,400(5,000)
70,000
62,1001,800
020,000
0000
0024,400
1,00,0000
0(12,000)(11,000)(14,000)
460070,800
(5,000)
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Particular Amount
INCOMERevenue from servicesBank interest
Total of Income
EXPENSESOffice RentComputer rentSubscription for data base
Secretary salaryAssistant salary
Total of Expenses
Net Profit
70,800460
_____________
71,260______________
5,00012,00011,000
9,0005,000
_____________42,000______________29,260
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Particulars Amount
ASSETSBank balanceAdvance RentCustomer
Stock of supplies
Total of Assets
LIABILITIESLoan from friend
Advance service chargesEQUITY(Opening Capital + Net Profit)(1,00,000 +29,260)
Total of liabilities and Equity
39,,76070,00062,100
1,800______________1,73,660_______________
20,000
24,4001,29,260
______________1,73,660_______________
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Particulars Details Amount
Cash flow from operating ActivitiesReceipt from services(24,100 +9,000)Operating expenses (5,000 +12,000
+11,000+9,000+5,000 +1,800)Cash flow from Investing ActivitiesInterest from bankAdvance rent
Cash from Financing ActivityOpening capitalLoan from friend
Net increase in cash
33,100(43,800)
__________
460(70,000)__________
1,00,00020,000
_________
(10,700)
(69,540)__________
(80,240)
1,20,000___________
39,760
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Assets = Liabilities+
Capital
Bank Computer Customers Supplies
60,000(7,000)25,000
(15,000)(2,500)(9,500)
(3,810)
21,2009,800
(14,000)(340)
40,000
48,600(21,200)
3,900
(1,500)
25,000 +
25,000 +0 +0+3,900 +(3,900) +0 +0 +9,800 +(14,000) +0 +0 +450 +
60,000(7,000)0
0(2,500)(9,500)09048,600000(340)(1,500)(450)
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Particulars Amount
IncomeService charges bill raisedDiscount received
48,60090
Total of Income 48,690
ExpensesSalary of managerRentSalary of assistantsInterestConsumption of suppliesOutstanding electricity bill
7,0002,5009,500
340
1,500450
Total of expenses 21,290
Net profit 27,400
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Items Amount
AssetsBankComputerCustomer or debtors
Stock of supplies
63,85040,00027,400
2,400
Total of assets 1,33,650
LiabilitiesBank loan (25,000-14,000)Outstanding electricity billCreditors for computersIncome received in advance
EquityOpening Capital + Profit during the year(60,000 +27400)
11,000450
25,0009,800
87,400
Total of liabilities and equity 1,33,650
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Particulars Amount
IncomeReceipt from customers from services +amount receivable- Received for next year ( 22,920 +970 -1,300) 22,590
Total of income 22,590
ExpensesRent (3,500-500)Salary (9,240 +380)Supplies (2,300+950 -1,540)Depreciation on Camera
Insurance ( 2,400-1,300)Electricity bill (910 +95)Telephone chargesHire charges of video camera
3,0009,6201,7103,000
1,1001,005
450500
Total expenses 20,,385
Net profit 2,205
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Items Amount
AssetsCamera (30,000- 3,000)Prepaid rentStock of supplies
CustomersPrepaid insurance premium
27,000500
1,540
9701,300
Total of assets 31,310
LiabilitiesAdvance service charges
Outstanding salaryCreditors for suppliesCreditor for video cameraOutstanding electricityOutstanding hire chargesBank overdraft
E uit
1,300
380950
5,00095
500880
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Particulars AmountIncomeRevenue from services 20,050
Total income 20,050
ExpenseSalariesSuppliesTelephone chargesRentDepreciation
9,7202,160
9702,4001,800
Total expenses 17,050
Net profit 3,000
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Particulars AmountOpening retained earningsAdd profit during the year
Less Dividend paid during the year
2,1603,000_____________5,1603,800
Closing retained earnings 1,360
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Particulars AmountAssetsEquipments less accumulated depreciationSuppliesDebtorsCashPrepaid rentUnbilled revenue
14,4001,9004,2102,1705,1003,020
Total of assets 30,800
Liabilities
CreditorsUnearned revenueSalary payableEquityShare capitalRetained earnings at the end
2,160970
1,310
25,0001,360
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Heads of account Debit CreditSwimming poolDepreciation on swimming poolTennis courtDepreciation on tennis courtSuppliesSupplies at the endDebtors (2,910+1,200)CashInsurancePrepaid insuranceCreditorsUnearned revenueShare capitalDividendsRevenue from servicesSalaries expenses
Outstanding salaryTelephone expenses
9,6002,4008,4001,2002,0901,1904,110
940100
1,100
800
4,200
290
1,2901,800
15,000
17040
1,290
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Heads of account Debit CreditBuildingDepreciation on buildingComputersDepreciation on computersSupplies consumedStock of supplies at the endDebtors (2,960 +3,100)CashPrepaid insuranceInsuranceCreditorsBills payableInterestOutstanding interestUnearned revenue (1,900-1,600)Share capital
DividendsRevenue from services(24,060 +3,100 +1,600)
18,0002,000
12,0006,0002,560
6506,0601,1902,4002,400
52
2,000
4,2002,600
52300
30,000
28,760
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Heads of Account Debit Credit
Office equipmentsAccumulated depreciationDepreciation on equipmentsConsumption of office supplies(2510-930)
Stock of office suppliesCashCreditorsUnearned revenue(2,100-460)Share capitalRetained earnings
DividendRevenue from services(13,810+460+370)Revenue receivableSalary (5,940 +490)Outstanding salaryRent
Cleaning expenses
10,000
1,0001,580
9305,600
2,000
3706,430
4,800
240
2,000
1,6001,640
10,0002,340
14,640
490
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Heads of account Debit Credit
BuildingDepreciation on buildingOffice equipmentsDepreciation on equipments
Stock of suppliesSupplies consumed (2140-970)Debtors (1640+900)Revenue from services (16870+900+720)Unearned revenue (1600-720)Cash
RentPrepaid rentCreditorsShare capitalDividendSalary (3,100+3,100)
Outstanding salary
14,875125
11,750250
9701,1702,540
630
6003,000
1,0006,200
18,490880
1,02020,000
3,100
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Heads of account Debit Credit
ComputerDepreciation on computerOffice equipmentsDepreciation on office equipments
Supplies used (3970-1240)Stock of suppliesDebtors (1710+6,200 )Revenue (33,320 +6,200 +2,100)Unearned revenue (2,800- 2,100)Cash
Bills receivableInterest (3,400 @15% X4/12)Accrued interestRentPrepaid rentCreditors
Share capital
10,0005,0008,100
900
2,7301,2407,910
940
3,400
17011,000
1,000
41,620700
170
3,100
20,000
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Particulars Amount
Retained earnings at the beginning
Add Net profit during the year
Profit available for distribution
Less dividend paid
Retained earnings at the end
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Claims against the company not acknowledgedas debt
Uncalled liability on shares held as investments
Arrears of fixed cumulative dividends onpreference shares
Estimated amounts of contracts remaining tobe executed on capital account and notprovided for.
Other moneys for which the company iscontingently liable
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whereas two or more companies areamalgamated on the one hand, one companypurchases more than 50% shares in other
company on the other and thus acquirescontrol on that company. The company whichpurchases shares is called holding companyand that other company is called subsidiary
company whose shares are purchased.
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A Balance Sheet which is prepared bycombining holding companys balance sheetand subsidiary companys balance sheet iscalled consolidated balance sheet. By seeing the
consolidated balance sheet the share holders ofholding company can know the true value oftheir shares. Hence holding companies prepareconsolidated balance sheet also. In preparing
consolidated balance sheet, the assets andliabilities of both companies are added togetherbut some adjustments are made.
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If the holding company has purchased sharesin subsidiary company at above par value orbelow par value and the balance sheet of thesubsidiary company has pre-acquisition profits
and reserves and all the shares in subsidiarycompany are held by the holding company, thecost of investment in shares will be adjusted toshare capital + pre-acquisition profits and
reserves Note- Here only Pre-acquisition profit
and reserves will be considered
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. If the cost of investment is more, thedifference will be shown as goodwill on assetside in the balance sheet and if the cost of
investment is less the difference will be shownon the liability side of consolidated balancesheet
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The profit before the acquisition of business.Suppose the accounting period is 1st January2010 to 31st December 2010.
The business acquired on 1st
may 2010. Here the pre-acquisition period is 1st January
2010 to 30th April 2010 and post acquisitionperiod is 1st May 2010 to 31st December 2010.
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Suppose the total profit for the period isRs10,000. The pre-acquisition period is 3months and post-acquisition is 9 months. In
this case the Pre-acquisition profit is 10,000 x 3/12 =2,500
Post acquisition profit is 10,000 x 9/12= 7,500
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On the liability side of consolidated balancesheet minority interest is shown as a separateitem. Minority interest includes nominal value
of share held by minority share holders andproportionate reserves and profits. In thereserves and profits of the holding company,only holding companys share in post
acquisition profits and reserves are added.
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Step I: Share of holding company andminority interest
Step-II: Computation of goodwill or capital
reserve Step-III: Minority Interest
Step-IV: Consolidated General reserve
Step-V: Consolidated Profit & Loss Step-VI: Consolidated Balance Sheet
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It is important fundamentals of accounting tomake proper distinction about capital and revenueas regard to expenditure, payments profits,receipts and losses. The failure of this will notpresent the accounting data accurate. This will
falsify the entire accounting data. For examplefurniture purchased may be included in thepurchases account, additions may be may be madeto premises but charged to repairs account,similarly some of the fixed assets might have been
sold and this might have been included in salesaccount. If this is the situation, then trading andprofit/ loss account and balance sheet will bemisleading and inaccurate
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It is the amount spent to acquire the assets notfor resale them, it is for generating the incomeof the business unit. The benefit of this is not
for one year, it is for the longer period. Forexample purchase of land and building,purchase of plant, brokerage or commissionpaid for acquiring the long term loan etc. These
expenses are recorded in Balance Sheet.
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Purchase of land, building, plant andmachinery, furniture, vehicle and any otherfixed asset.
Cost of replacing petrol driven engine to adiesel driven engine.
Expenditure incurred for increasing the sittingaccommodation in a auditorium or restaurant.
Amount spent for erecting of plant
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Expenditure incurred for acquiring some rightto carry on business e.g copy right ,goodwill,trade mark, patent right etc
Expenditure incurred for reconditioning anold fixed assets.
Expenditure incurred on major repairs andreplacement of plant and machinery or anyother fixed assets which results in increasedefficiency.
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It consists of expenditure incurred in one period ofaccount, the full benefit of which is derived in thatperiod only. It includes purchasing assets requiredfor resale at a profit or being made into saleable
goods, maintaining fixed assets in good workingconditions, meeting the day to day expenses ofcarrying business, cost of goods, raw materials andreplacements, renewals, repairs, depreciation offixed assets, rent rates, taxes, wages and salaries,
carriage, insurance etc. These all expenses aretaken into account in trading and profit lossaccount.
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Repairs - They are usually are revenueexpenses, but if we purchase second handplant and pay for immediate repairs necessaryto make it efficient for our purpose ,then suchrepairs becomes capital expenditure.
Legal expenses They are revenue charges,but the legal expenses incurred in connection
with purchase of fixed asset must be treated asa part of the cost of the asset
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Transport expenses They are usually arevenue charges but payment made fortransporting any plant and machinery isadded on as part of the cost of the plant andmachinery.
Wages They are the revenue items, but thewages paid to workman to erect and fit some
new machinery, the firm bought, must beconsidered an addition to machinery
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Development expenditure - Some concernssuch as tea and rubber plantation, horticulture,collieries etc .require very long perioddevelopment before they can begin to earn any
income. All such expenditure incurred duringthe period of development is calleddevelopment expenditure and must be treatedas capital expenditure.
Interest on capital Such amount of interestwhich is paid during the construction of workor buildings or plant may be capitalized.
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Interest on capital Such amount of interestwhich is paid during the construction of workor buildings or plant may be capitalized.
Carriage and freight Such expenses inconnection with acquisition of fixed assets arecapital assets
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Raw material and stores They are usuallyrevenue charges but of consumed in making ofa fixed asset, must be treated as capitalexpenditure.
Advertising - The cost of special advertisingundertaken for the purpose of introducingnew line of goods may be treated as capital
expenditure as the benefit of such advertisingwill be available in future also
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Preliminary expenses - All expenses incurredbefore incorporation of accompany are calledpreliminary or formation expenses .This mustbe treated as capital expenditure, as the benefitof this will be available in future also.
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It is the expenditure which would be normallytreated as revenue expenditure but it notwritten off in one year as its benefit is notexhausted in one year but over a period ofyear. The nature of this is non-recurring andspecial nature. It may be spread over a numberof years, a proportionate amount is charged to
profit &loss account every year and the balanceamount is treated as an asset and shown on thebalance sheet asset side
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Advertisement expenses amount of Rs1, 00,000spent and the benefit of this suppose over aperiod of 5 years. In this case, in current yearprofit loss account 20,000 will be charged andthe balance amount i.eRs80, 000 will be treatedas an asset and will be shown as asset .In thenext year again Rs 20,000 will be charged and
balance of Rs60, 000 will be shown in thebalance sheet so on, till the amount exhausted.
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Revenue profit on the other hand, is profitmade by trading e.g profit on sale of goods,income from investments, discount received,commission earned ,interest received or rentreceived etc.will be taken into profits/lossaccount .
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Capital Receipts in a business comprise capitalinvested in the business, loans and theproceeds of sale of assets etc. On the otherhand, revenue receipts in a business are cashfrom sales, discount received, commission,interest on investment, transfer fees receivedetc. Revenue receipts are recorded in profit
/loss account and capital receipt are recordedon the liability side of Balance sheet
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Capital losses are those losses which occur onselling fixed assets or raising share capital. Forexample, if investments having original costRs30, 000, are being sold for Rs25, 000; therewill be loss of Rs5, 000.Similarly when sharesor debentures face value of Rs100 issued atdiscount of Rs10, there will be a capital loss
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These capital losses should not be debited toprofit/loss account but may be shown on theasset side of Balance Sheet. As and when therewill be capital profit, this capital loss will be
adjusted. If however, the amount is large inthat case the amount can be spread over a fewyears, a proportionate amount being charged toprofit /loss account and balance being carried
forward as an asset to be written off in futureyears. But if the amount of such loss isnegligible they are debited to the profit andloss account of the year in which they occur.
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Revenue losses are those losses which ariseduring the normal course of business, i.e, intrading operations of such as losses on the saleof goods. Such losses are debited to profit andloss account.
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Provisions : A provision is a charge againstprofit for all anticipated losses. Therefore,provisions are the amounts set aside ,beforeascertaining the net profits, as reasonablynecessary for the purpose of providing for anyliability or loss, which is likely or certain to beincurred; but the amount or the date on which
they will arise may or may not be ascertainedwith reasonable accuracy .
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Liabilities and charges (provision for taxationand provision for sales tax)
Valuation adjustment for fixed assets
(provision for depreciation) Current assets (provision for doubtful debts)
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A reserve is an amount of money that is setaside until that is set aside until it is needed forsome purpose. Reserves are the items ofowners' equity which arise from retention of
profits (an appropriation of profits, sum ofmoney set aside from distributable profits),capital receipts( profit on sale of fixed assets orissue of shares at a premium) upward
revaluation of assets( bringing the assets tocurrent value from historical cost) .All reservesare credit balance and shown on the liabilityside of Balance Sheet.
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Capital Reserve Revenue Reserve
(a) General Reserve
(b) Specific Reserve
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These reserves are undisclosed understatementof financial position of a business unit resultingfrom the following:
Excessive writing down of assets Overstatement of provisions and liabilities
Writing off additions to fixed assets asexpenses
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Funds are cash or its equivalent. Fund is usedto include securities which have a readymarket and can be quickly liquidated, that isconverted in to cash. Funds also refer to assetsfor specific purposes, which are not generallyavailable for normal operations. In fact ,fundsets aside cash or other assets to achieve
specific objectives
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A sinking fund is a fund created by the regularinvestment of fixed amount to accumulate theamount of money required to pay off a debt orfor the replacement of an asset at a set date in
future. An amount equivalent to reservecreated as sinking fund is invested outside thebusiness in gilt-edged or other securities andare allowed to accumulate at compound rate of
interest so as to produce the required amountto repay the liability or replace the assets afterspecific period.
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Particulars Amount Particulars AmountTo transfer toGeneral reserveDividend equalizationreserveCapital redemptionreserveDebenture redemptionfundTo dividendInterim divided
Final divided orproposed divided(On equity andpreference share)To bonus to shareholders
To balance C/d
By balance b/dBy net profit for thecurrent yearBy transfer from reservesBy adjustment of last yearmanagerial remunerationif any.
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Dividend from profits only Setting off previous losses and provision for
depreciation is compulsory
Compulsory transfer to reserves Dividend to be paid cash only
Distribution of dividend out of reserves
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If Articles of Association permit, the dividendcan be paid in the ratio of amount paid on eachshare (Sec.93).
Dividend will be paid in cash only but bonus
shares may be issued by capitalizing profits(Sec.205)
The cheques for dividend or dividend warrantmust be sent to the registered address of the
share holder.(Sec.206) After declaration of dividend, it must be paid
within 42 days of declaration (Sec.207)
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No dividend will be paid on calls in advance. Dividend may be paid as per Articles of
Association on nominal value or called up
value or paid up values of shares. If there are no provisions in the Articles and
Table A of the Companies Act applies,dividend will be paid on paid up amount of
shares from the date of payment.
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If there is no provision in articles and Table Ais applicable, the dividend will be paid on thenominal value of shares.
The articles of company may prohibit paymentof dividend on the shares on which call are inarrears.
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If there is no restriction by articles of thecompany for doing so.
If profits have been actually realized either in
cash or in any other way. If capital profits remain after adjusting profit or
loss on revaluation of other assets andliabilities.
Note: Dividend cannot be paid out of securitiespremium, capital redemption reserve and profiton revaluation of assets
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Out of the balance of profit and loss account. Out of general reserve or out of any other
reserve created out of profit i.e, dividend
equalization reserve or reserve fund. Out of debenture redemption fund after the
redemption of debentures (generally it istransferred to general reserve
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Out of capital profits actually received ( e.gprofit prior to incorporation or profit on sale offixed assets)
Out of capital redemption reserve created onthe redemption of redeemable preferenceshares.
Out of security premium
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According to these guidelines the issue ofbonus shares after the public/right issue ofshares will be made subject to the conditionthat the bonus issue will not reduce the value
of rights of the debenture holders (fully orpartly convertible debentures)
Bonus issue will be made out of reservescreated out of profits (free reserves).
The reserve created on the basis of revaluationof fixed assets will not be utilized for issue ofbonus shares.
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The issue of bonus shares will not be made in placeof dividend.
If there are partly shares issued by the company,bonus shares will not be issued unless the partly
shares are made fully paid.
If the company has accepted fixed deposits fromthe public, the interest is regularly is paid by thecompany and the redemption is regularly made ondue dates. In the same way there is no mistakemade by the company in the payment ofdebentures interest and redemption of debentures.
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After the declaration of bonus shares by thecompany on the recommendation of Board ofDirectors, it is necessary that the declaration isfulfilled within six months of its approval.
There must be provisions in the articles of thecompany about capitalization of reserves. If itis not so, a provision will be made in the
articles of the company by making necessarychange for the capitalization of reserves bypassing a resolution in the general meeting
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As a result of bonus issue if the subscribed andpaid up capital exceeds its authorized capital,the company will pass a resolution in thegeneral meeting to increase the authorizedcapital
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A Balance Sheet which is prepared bycombining holding companys balance sheetand subsidiary companys balance sheet iscalled consolidated balance sheet. In preparingconsolidated balance sheet, the assets andliabilities of both companies are added togetherbut some adjustments are made.
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Step-I: Share of holding and subsidiarycompany
Step-II: Capital reserve or goodwill
Step-III: Minority Interest Step-IV: Consolidate profit
Step-V: Consolidated reserve
Step-VI: Consolidated Balance Sheet
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The investment in shares of subsidiary isshown in the balance sheet of holding companyon the assets side and share capital ofsubsidiary company is shown in its balance
sheet on the liability side. If the holdingcompany has purchased the entire share capitalof the subsidiary company, the investmentappearing in the balance sheet of holding
company is adjusted with share capitalappearing in the balance sheet of subsidiarycompany.
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If the holding company has purchased sharesin subsidiary company at above par value orbelow par value and the balance sheet of thesubsidiary company has pre-acquisition profitsand reserves and all the shares in subsidiarycompany are held by the holding company, thecost of investment in shares will be adjusted to
share capital + pre-acquisition profits andreserves..
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If the cost of investment is more, the differencewill be shown as goodwill on asset side in thebalance sheet and if the cost of investment isless the difference will be shown on the liabilityside of consolidated balance sheet as capitalreserve.
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Minority interest includes nominal value ofshare held by minority share holders andproportionate reserves and profits. In thereserves and profits of the holding company,only. On the liability side of consolidatedbalance sheet minority interest is shown as aseparate item.
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Debtors and creditors Bills receivable and bills payable
Bills discounted with the bank
Mutual loans
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Percentage profit on sales :- If percentage ofprofit on sales is known, the unrealized profitwill be
stock X % /100
For example, if stock of B Ltd. includes goodsworth Rs10,000 purchased from A Ltd. chargedprofit of 20% on sales. Then unrealized profit
will be 10,000 X20% = Rs2,000.
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Percentage of profit on cost:- If profit chargedby vendor company is a certain percent on cost,then unrealized profit will be
Stock X %/ 100 +%
For example, stock of B Ltd includes goodsworth Rs8,000 purchased from A Ltd. on whichA Ltd earned a profit of 25% on cost. Thenunrealized
Profit will be 8,000 X25/125 = Rs1,600, asgoods cost Rs100 was sold at Rs125, thus profitof Rs25 on goods sold of Rs125
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A management reporting system can bedefined as an organized method of providingeach manager with all the data and only thosedata which he needs for his decisions, when he
needs them and in a form which aids hisunderstanding and stimulates his action
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Appraising the management with actualperformance
To enable the management to make scientificand sound decisions
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Proper selection of financial and operating dataand other relevant facts and figures which areto be communicated.
Organization of data to put the information ina proper form that can be rapidly understoodand appreciated by the management and
Selecting the appropriate method of reporting
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Evaluation of each managers area ofresponsibility
Proper flow of information
Proper form Proper time
Cost benefit analysis
Flexibility
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The term Report, may be defined as a formalcommunication which moves upward. Itdiffers from the word communication. Thesuperior communicates the orders to the
subordinate. The subordinate communicatesthe results. The word Report is generally usedfor factual communication by a lower level to a
higher level of authority. Thus, orders arecommunicated, while results and reports arereported.
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Written Report Graphic Reports
Oral Reports
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The draft of the report should be simple. The report should be prcised, specific and
accurate.
It should bear a suitable title. It must follow the organizational lines.
Reports must contain up-to-date information.
Reports should be presented in time.
They should be specific and definite.
They should be economical
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It must suit to the end-users requirements. They must comparable
They must be consistent and correct as to
information. It must be attractable.
It must distinguish between controllable anduncontrollable cost.
The report should highlight the trouble spot.
It must provide for exceptional circumstances
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Good form and content Promptness
Comparability
Consistency Simplicity
Appropriateness Controllability
Accuracy Consideration of cost
Effective communication
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FORM WISE PURPOSE WISE
Descriptive
Tabular
Graphical
Internal report
External report
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CONTENT WISE FREQUENCY WISE
Production report
Sales report
Cost report Financial report
Operating report
Routine report
Special report
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OPERATING REPORT FINANCIAL REPORT
Information report
Control report
Static report
Dynamic report
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Production report. Sales report
Production cost report
Operating report Schedule of debtors
Research and development report
Different short-term budgets as cash budget etc
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Effect of idle capacity on cost of production ofdifferent products.
Make or buy decisions.
Exploring new market
Cost reduction schemes
Whether to purchase or hire a fixed cost
Research and development expenditure
problems The effect of labour disputes on production
and cost of production and so on.
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Formulating the basic goal of enterprise. Evolving proper plans keeping the basic
objective in view.
Proper delegation of responsibility tosubordinate executives with the objectives ofgetting efficient and effective utilization of theresources.
Promoting appropriate development schemes.
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Quarterly balance sheet and profit and lossaccount.
Quarterly funds flow statement
Quarterly production cost statement. Quarterly machine and labour utilization
statement
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Monthly production cost statement. Monthly machine utilization statement-
department-wise.
Monthly labour utilization statement-
department wise. Material scrap statement- department wise.
Overhead cost statement- department wise
Monthly production statement showingquantity budgeted, quantity produced andorders outstanding.
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SALES DIRECTOR FINANCE DIRECTOR
Monthly report of ordersreceived, orders executed,orders kept pending-
division wise. Monthly report of finished
goods stock position. Monthly report of selling
and distribution cost-division wise.
Monthly report of creditcollection, arrears and baddebts-division-wise
Monthly Funds FlowStatement
Monthly abstract ofreceipts and payments
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WORKS MANAGER SALES DIVISIONMANAGER
Weekly report of the idletime and idle capacity-department wise.
Weekly report of scrap department wise.
Weekly report ofproduction statementshowing quantity
budgeted, quantityproduced, ordersoutstanding
Fortnightly report ofbudgeted and actual sales-area wise and product wise.
Fortnightly report of creditcollections, outstanding andbad debts.
Fortnightly report of ordersbooked, orders executed andorders outstanding.
Fortnightly report of stockposition
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Daily report of idle time and machine utilization. Daily scrap report
Daily report of production- budgeted and actual
Sales area supervisors
Weekly report of sales- salesman-wise
Weekly report of orders booked, executed andoutstanding.
Weekly report of credit collections, outstandingand bad debts.
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Sales force progress of work Sales promotion work
Exports
Publicity and advertisement. Cost of sales
Efforts to be made to cover lower actual
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PRODUCTION PERSONAL
Inventory
Work-in-progress
Capital expenditure Progress of capital
works
Direct workersemployment estimates-approved and
proposed. Other workers
employment- approvedand proposed
Approximate cost ofpresent and proposedstaff
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OVERHEAD FINANCE
Estimates based on pasttrends.
New items
Accounts receivableposition and estimates.
Accounts payableposition and estimates
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Fixed assets are used by a business firm for thepurpose of producing or providing goods orservices. The expense which results from theuse of fixed assets is called depreciation. In
other words it is gradual deterioration in thevalue of assets due to wear and tear passing oftime and new developments in technology. It issystematic and rational method of allocatingcosts to the period in which benefits arederived.
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Depreciation is gradual diminution in the valueof assets
It decreases the book value of an asset.
Depreciation is a continuous process ofdiminution in value of fixed asset due to its useor lapse of time.
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Depreciation is not a method of valuation ofassets but it is a process of spread over of costof assets over its useful life.
Change in market value of an asset is nottermed as depreciation.
The term depreciation is used only fordiminution in value of tangible fixed assets due
to its use.
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Wear and tear due to constant use Lapse of time
Depletion
Obsolescence Accident
Exhaustion of assets
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Depreciation Depletion
Amortization
Obsolescence
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To ascertain the profit or loss properly To show a true and fair view of the financial
position
To find out correct cost of production To comply with legal requirements
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To accumulate funds for replacement of assets To avoid payment of dividend from capital
To get deduction from Income Tax
Other miscellaneous reasons
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Total cost of the asset Estimated useful life of the asset
Estimated residual value of the asset
Provisions for repairs and renewals Possibility of new inventions
Expansion of assets
Legal laws Interest on capital invested
Working conditions
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Straight line or original or fixed cost method. Diminishing balance method or reducing
instalment method.
Depreciation fund method. Insurance policy method
Annuity method
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Machine hour method Depletion method
Revaluation method
Sum of years method
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Cost estimated scrap value / estimated life inyears.
Suitability: This method is suitable for thoseassets that do not require large investment andthe amount of repairs and renewals required isalso not large such assets have comparativelyshorter life, such as Furniture, Patent; Copy
right, Trade mark and Leaseholds etc.
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Suitability: This method is suitable for thoseassets in relation to which the amount ofrepairs and renewals goes on increasing as theasset grows older and the possibilities of
obsolescence are more. This method is suitableforPlant & Machinery and Building.
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To replace a wasting asset, for example: A mineor an oil well.
To replace a depreciable asset
To renew a Lease
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Date Particulars Dr Cr1st Year atthebeginning
At the endof the 1styear
When assets purchasedAsset A/c DrTo Bank A/c
__________________________________For setting aside the amount of
depreciation:Profit & Loss a/c DrTo Depreciation Fund a/c
For investing amount outside thebusinessDepreciation Fund Investment A/c Dr
To Bank a/c
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Date Particulars Dr Cr2nd andsubsequent year
For interest received:Bank A/c Dr
To Depreciation Fund a/cFor appropriation of profitProfit & Loss a/c Dr
To Depreciation Fund a/cWhen amount invested:Depreciation Fund Investment a/c Dr
To Bank a/c
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Date Particulars Dr CrAt theend oflast year
For interest received:Bank A/c DrTo Depreciation Fund a/c
For appropriation of profitProfit & Loss a/c Dr
To Depreciation Fund a/cFor sale of investment:Bank a/c DrDepreciation Fund a/c Dr ( if loss)To Depreciation Fund Investment a/cTo Depreciation Fund a/c ( if profit)
For transfer of balance of depreciation fundto asset:Depreciation fund a/c DrTo Asset a/c
For purchase of new asset if anyNew asset a/c Dr
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Date Particulars Dr CrFirst andsubsequent year
In the beginning when asset purchased:Asset A/c DrTo bank A/c
When the insurance premium paid:Depreciation Insurance Policy A/c Dr
To bank a/cAt the end of the year for providingdepreciation to the extent of premium.Profit & Loss A/c DrTo Provision for depreciation A/c
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Date Particulars Dr Cr
At the endof the lastyear
In addition to above two entries:On realization of money from theinsurance company:Bank A/c Dr
To Depreciation Insurance Policy A/c
For transferring the profit on insurancepolicy:Depreciation Insurance Policy A/c Dr
To Provision for depreciation a/cFor transfer of accumulated depreciationto the asset:
Provision for depreciation A/c DrTo Asset A/c
On purchase of new asset:New Asset A/c Dr
To Bank A/c
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Depreciation per MH= Cost of Machine ScrapValue / Life of machine (in hours)
Annual depreciation = Actual working hoursduring the year X MHR
Suitability:
Machine hour rate method is an ideal methodfor calculating depreciation where costly and
different machines are use in production.
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This method is suitable for wasting assets likemines, quarries etc. from which certainquantity of output is expected to be executed.The value of mine depends upon the quantity
of minerals that can be extracted. When thewhole quantity is extracted the mine losses itvalue. Hence the mine depreciates according toquantity mined. The rate of depreciation iscalculated by simply dividing the cost of mineby the total quantity of minerals expected to beavailable.
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When assets represented by large number ofsmall and diverse items having small unit cost,it is not possible to depreciate each item. Forexample, Loose Tools.
Suitability:
This method is suitable for chargingdepreciation on loose tools, live stock, trade
mark,patents etc. This method is also referredto as the appraisal system or inventory system.
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Step- I At the end of each accounting period, all items
of good condition are valued at cost.
Step- II
The cost, calculated above is compared withthe opening balance and purchase /productionmade during the year. The difference is
charged as depreciation
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This is the method of calculating depreciationunder which the rate of depreciation isdetermined by the fraction where thedenominator is the sum of the digits
representing the useful life of the asset and thenumerators are individual digits used in thelife of the asset taken in reverse order. Thenumerator does not change but thedenominator changes every year. The amountof depreciation goes on decreasing in thecoming years.
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Meaning: - In general words, a ratio is anexpression of relationship of one figure withanother. It may be defined as the relationship,or proportion that one amount bears to
another. It is found by dividing a figure withanother. A ratio may be expressed inpercentage in which the base, is taken as equalto 100 and the quotient is expressed as perhundred of the base
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Balance sheet ratios: Current ratio
Liquidity ratio
Proprietary ratio Fixed assets ratio
Capital gearing ratio
Book value per share
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Operating ratio Expenses ratio
Net profit ratio
Gross profit ratio Stock turnover ratio
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Return on capital employed Return on share holders fund
Current asset turnover ratio
Ratio of net sales to fixed assets
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Operating ratio Return on capital employed
Stock turnover ratio
Debtors turnover ratio Solvency ratio
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Return on share holders fund Capital gearing ratio
Dividend cover ratio
Yield rate Proprietary ratio
Dividend rate
Assets cover on shares
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Current ratio Liquidity ratio
Absolute liquid ratio
Cash ratio
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Debt equity ratio Proprietary ratio
Solvency ratio or debt to total assets ratio
Fixed assets ratio Capital gearing ratio
Debt-service ratio or interest coverage ratio
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Gross profit ratio Operating ratio
Expenses ratio
Operating profit ratio Net profit ratio
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Return on share holders fund Return on capital employed
Return on equity
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Total assets turnover ratio Fixed assets turnover ratio
Working capital turnover ratio
Inventory turnover ratio Debtors turnover ratio
Creditors turnover ratio
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Current ratio Quick or acid test ratio or liquidity ratio
Cash position ratio or absolute liquid ratio
Basic Defensive Interval Cash ratio
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CURRENT ASSETS CURRENT LIABILITIES
Cash in hand, cash atbank, debtors, prepaidexpenses, short termdeposits, billsreceivable, money atcall and short notice,stock ,finished goods,
work in progress stockof raw materials andsundry supplies
Bills payable, incometax payable, creditors.Outstanding expenses,bank overdraft,provision for taxation,interest due on fixedliabilities, reserve for
unbilled expenses,installment payable onlong-term loans.
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Liquid ratio = Liquid assets / Current liabilities Or
Liquid ratio = Liquid assets / Liquid liability
Liquid assets = Current assets Stock prepaidexpenses
Liquid liability = Current liability Bank overdraft
Standard norm: 1 : 1
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Absolute liquid ratio = Absolute liquid assets /liquid liabilities
Absolute liquid assets = Cash in hand, cash atbank and short term marketable securities.
Standard norm: .5 :1
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Cost of goods sold/ average inventory
Stock velocity ( in months)= Average stock/cost of goods sold X12
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DTR= Net credit sales/ average tradereceivables
Or
net credit sales/ total trade receivables
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Average collection period or average age ofreceivables=
Trade receivables/ sales per day
Or
Trade receivables / net credit sales X 365 days
Or
365/ DTR
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CTR = Net credit purchases / Averagepayables (creditor +BP)
Net credit purchase = Total purchase cashpurchase purchase return
Average payable = opening payable + closingpayable / 2
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Debt equity ratio = outsiders fund / share holdersfund
Outsiders fund Debt, long-term or short term, whether in the form of
mortgage, bills or debentures
Shareholders fund Preference share capital, equity share capital, capital
reserves, retained earnings and any other reservesrepresenting the accumulated profit.
Standard norm: 2 : 1, however lending institutions
prefer 1:1 A low ratio signifies a smaller claim of creditors. More
precisely, the greater the debt-equity ratio, greater therisk to the creditor
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= Share holders fund / Total assets or Totalequities
Standard norm: 2 : 1, however lendinginstitutions prefer 1:1
Higher the ratio lesser the dependence forworking capital on outside sources, better thelong-term solvency and stability and greater
the protection to the creditorsof the firm
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Solvency Ratio = Total Liabilities / TotalAssets
The higher this ratio, the greater is thedependence of the firm on outsiders for its
financing.
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Fixed asset to net worth ratio = Fixed assets (after depreciation) /Total long
term funds
This ratio should not exceed 1:1. On thecontrary, lesser the ratio, better the positionbecause in such a case proprietors funds willbe available for working capital needs also.
Usually, a ratio of 0.67:1 ( i.e fixed assets areabout two-third of the proprietors funds) isconsidered satisfactory.
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Fixed assets ratio= Fixed assets (afterdepreciation) / Total long-term funds
This ratio should not exceed 1:1. If it exceeds1:1. It implies that short-term funds of the firm
have also been applied for acquiring fixedassets which in no way be consideredappropriate. The general rule is that fixedassets should not exceed 2/3rd of total long-term funds so that rest of the long-term fundscould be utilized for meeting working capitalrequirement.
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Current assets/Proprietors funds This ratio indicates the extents to which
proprietors fund are invested in current assets.This ratio indicates financial capability of the
firm. There is no rule of thumb for this ratio.
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Current assets / Total liabilities This ratio is a measure of financial stability of
the firm.
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This ratio indicates the relationship betweentwo main sources of financing proprietorsfund and outsides loans ( or liabilities). It iscalculated as follows:
Proprietors funds / Total liabilities Higher the ratio better is the security of
creditors.
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This ratio indicates the relationship of tangibleassets to total debts.
Tangible assets / Total debt
This ratio measures the ability of the firm topay its debts, as it shows the extent to whichtotal liabilities of the firm can be repaid by itstangible assets. Higher the ratio, greater is the
security of the creditors
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This ratio is calculated to evaluate the debt-servicing capacity of the firm. It is calculated bydividing the net profit before interest and taxesby fixed interest charges.
DSR = Net income (before charging interestand income tax) / Fixed charges
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Preference Dividend Coverage Ratio (or No. oftimes Preference dividend earned)=
Net income after interest and tax/ PreferenceDividend
This ratio is an index of the risk accruing to thepreference share holders. Coverage of at least 2is considered standard
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Gross profit / Net sales X100This ratio establishes relationship between gross profit
and net sales. This indicates gross profit marginto net sales and usually expressed in
percentage
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This ratio is calculated by dividing theoperating cost ( i.e cost of goods sold plus alloperating expenses) by net sales.
Cost of goods sold + operating expenses/ Net
sales X100 Operating expenses means the sum of
administrative, selling and distribution
expenses. 100 minus operating ratio isoperating profit ratio
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It is calculated to show the relationship of eachitem of manufacturing cost and operatingexpenses to net sales. These ratios help inanalyzing the causes of variation of operating
ratio. The following formula is used Particular expenses / Net sales X100
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This ratio measures the rate of net profit onsales. This is calculated as follows:
Net profit after tax / Net sales X100
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This ratio is calculated by dividing the netprofits available to equity share holders ( i.e netprofit after tax and preference dividend) bycapital invested by these shareholders. It is
usually expressed in percentage as below: Return on equity capital =
Net profit (after tax and preference dividend)/
equity capital X100
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: It is small variation of return on equity capital.Here, earnings are expressed per share insteadof in percentage. Earnings per share arecalculated by dividing net profits after tax and
preference dividend by the total number ofequity shares.
EPS = Net profit after tax and preferencedividend / Number of equity shares
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This ratio measures the profitability of theconcern in relation to total investments madeby the share holders (or proprietors) in thebusiness. It is calculated by dividing net profit
after interest and taxes by share holders fund. Return on Investments (ROI)=
Net profit (after interest and tax) / Share
holders fund X100
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Gross capital employed = Equity share capital+ preference share capital +reserve and surplus+ all long and short term external loans
Or
All net fixed assets + current assets + includinggoodwill of the firm but fictitious assets arenot included
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Net capital employed = Equity share capital +preference share capital + reserve and surplus +long term loans
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Proprietors net capital = Equity share capital+ preference share capital + reserves andsurplus accumulated losses, if any
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Net sales ( or cost of sales)/ working capital A high working capital turnover ratio shows
the efficient utilization of working capital
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It expresses relationship of total long-termfunds to long-term liabilities.
Long term fund (share holders fund + Long-term liabilities)/ Long-term liabilities.
As a general rule the proportion of long-termliabilities should be very high.
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This ratio determines the margin of safety ofunded debt, such as debentures. Thedebentures of a company are usually issued bymortgaging the fixed assets. Hence, higher the
ratio of fixed assets to debentures, the greaterwill be the security of debenture holders. Thisratio is calculated as follows:
Fixed assets / Funded debt
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It implies the amount payable per share onliquidation of the company.
Share holders fund / Number of shares
Investors compare this value of the share with
market price. Now this ratio has lostimportance because assets shown in thebalance sheet are usually different from theircurrent values.
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This ratio expresses the relationship of marketprice of the share with its rate of earnings.
Market price per share / earnings per Share
Market price per share = PE Ratio X EPS
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This ratio compares the rate of dividend withthe market price of the share. This ratio iscalculated to know the effective return of theowners. This is calculates as follows:
DYR = Dividend per share / Market price pershare
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This is a ratio of dividend per share to earningsper share. It indicates the extent to whichearnings per share have been used for payingdividend and what portion of earnings has
been retained in the business for growth andfuture uncertainties.
DPR = Dividend per share / Earnings per shareX100
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This may be calculates as follows Cover for preference Dividend =Earnings after
tax / Preference dividend
Cover for equity Dividend = Earnings after
preference dividend / Equity dividend
Higher the cover better it is.