MBA_P79_Semester_I_MBA101_Book_16092015.pdf - kmZJ\u00a7Jm KamoKar Yashwantrao Chavan Maharashtra Open University MBA 101 Accounting Finance for Managers

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Unformatted text preview: kmZJ§Jm KamoKar Yashwantrao Chavan Maharashtra Open University MBA 101 Accounting & Finance for Managers Unit 1 Introduction to Financial Accounting 1 Unit 2 Accounting Principles 17 Unit 3 Presentation of Financial Statements : Balance Sheet 36 Unit 4 The Income Statements 60 Unit 5 Mechanics of Accounting 81 Unit 6 Fixed Assets andDepreciation Accounting 139 Unit 7 Company Accounts : Accounting for Shares and Debentures 170 Unit 8 Company Accounts : Financial Statements 200 Unit 9 Cash Flow Statement 234 Unit 10 Financial Statement Analysis 276 Unit 11 Cost Accounting : Concepts and Methods 322 Unit 12 Marginal Costing and CVP analysis 353 Unit 13 Standard Costing and Variance Analysis 371 Unit 14 Budgetary Control 393 Unit 15 Introduction to Financial Management 415 Unit 16 Financial Markets and Sources of Finance 422 Unit 17 Cost of Capital and Capital Structure 430 Unit 18 Leverage Analysis 447 Unit 19 Capital Budgeting 457 Unit 20 Working Capital Management 473 Yashawantrao Chavan Maharashtra Open University Vice-Chancellor : Dr. M. M. Salunkhe Director (I/C), School of Commerce & Management : Dr. Prakash Deshmukh NATIONALADVISORY BOARD Dr. Pandit Palande Hon. Vice Chancellor Dr. B. R. Ambedkar University Muaaffarpur, Bihar Prof. Devanath Tirupati, Dean Academics, Indian Institute of Management (IIM-Bangalore) Bangalore. Prof. Sudhir .K.Jain Vice Chancellor , Shri Mata Vaishno Devi University (SMVDU) Katra Jammu and Kashmir. Prof. Karuna Jain, Director, N I T I E, Vihar Lake, Mumbai - 400087 Prof. Vinay .K.Nangia, Ex- Head, Department of Business Studies, Indian Institute of Technology, (IITRoorkee) Roorkee. D. Prakash Deshmukh Director (I/C), School of Commerce & ManagementYashwantrao Chavan Maharashtra Open University, Nashik Author Dr. CA. Varadraj Bapat Faculty in Accounting and Finance, SJM School of Management, Indian Institute of Technology, Mumbai Dr. Surendra Patole Assistant Professor, School of Commerce & Management, Yashwantrao Chavan Maharashtra Open University, Nashik Dr. Latika Ajitkumar Ajbani Assistant Professor, School of Commerce & Management, Yashwantrao Chavan Maharashtra Open University, Nashik Editor Dr. Mehul Raithatha, Assistant Professor, Finance and Accounting Area, Indian Institute of Management Indore Dr. CA. Varadraj Bapat Faculty in Accounting and Finance, SJM School of Management, Indian Institute of Technology, Mumbai Instructional Technology Editing & Programme Co-ordinator Dr. Latika Ajitkumar Ajbani Assistant Professor, School of Commerce & Management, Yashwantrao Chavan Maharashtra Open University, Nashik Production Shri. Anand Yadav Manager, Print Production Centre Y. C. M. Open University, Nashik- 422 222 Copyright © Yashwantrao Chavan Maharashtra Open University, Nashik. (First edition developed under DEC development grant)  First Publication : Sept. 2015  Typesetting : Arya Enterprises, Nashik  Cover Print :  Printed by :  Publisher : Dr. Prakash Atkare, Registrar, Y. C. M. Open University, Nashik- 422 222 ------- Copyright © Yashwantrao Chavan Maharashtra Open University, Nashik. All rights reserved. No part of this publication which is material protected by this copyright notice may be reproduced or transmitted or utilized or stored in any form or by any means now known or hereinafter invented, electronic, digital or mechanical, including photocopying, scanning, recording or by any information storage or retrieval system, without prior written permission from the Publisher. The information contained in this book has been obtained by authors from sources believed to be reliable and are correct to the best of their knowledge. However, the publisher and its authors shall in no event be liable for any errors, omissions or damage arising out of use of this information and specially disclaim any implied warranties or merchantability or fitness for any particular use. UNIT 1 INTRODUCTION TO FINANCIAL ACCOUNTING Introduction to Financial Accounting NOTES Structure 1.0 Introduction 1.1 Unit Objectives 1.2 Introduction to Accounting 1.2.1 Meaning 1.2.2 Evolution of Accounting 1.2.3 Importance of Accounting 1.2.4 Users of financial statements 1.3 Financial, Cost and Management Accounting 1.4 Finance Function and Accounting 1.5 Accounting and Other Disciplines 1.6 Accounting as a Career and Profession 1.7 Place of Accounting Officers in the Organization 1.8 Auditing and Internal Control 1.9 Forms of Organizations and Effect on Accounting. 1.10 Summary 1.11 Key Terms 1.12 Questions and Exercises 1.12.1 Multiple Choice Questions 1.13.2 Theory questions 1.13 Further Reading and References 1.0 Introduction Accounting plays important role in the business organization. In this chapter, we shall see what accounting is, different types of accounting and what role does in paly in the business organization. We will also deal with forms of business organization, accounting as an academic discipline and finance function. 1.1 Unit Objectives After studying this Unit, you should be able to :  Define accounting and realize its importance  Distinguish between Financial, Cost and Management Accounting Accounting & Finance for Managers : 1 Introduction to Financial Accounting NOTES  Relate finance function and accounting  Understand accounting as an academic discipline and as profession  Get an overview about auditing and internal control  Know ethical issues in accounting  Relate Accounting and Corporate Governance 1.2 Introduction to Accounting 1.2.1 Meaning In simple words, ‘accounting’ refers to recording. Whenever any organization is operating, one would like to know its performance. In order to be able to do so, it is necessary that as far as possible all the transactions that have taken place should be recorded systematically in monetary terms. The process of accounting involves recording, classifying and summarizing of past events and transactions of financial nature, with a view to enabling the users of accounting data to interpret the resulting summary. Accounting is one of the most widely used information processing systems in business. The utility of accounting information increases, when it is compiled in a systematic manner and financial statements are prepared at periodic intervals. For the purpose of compilation, all monetary events are recognized as ‘transactions’ and classified into various ‘account’ heads. An account is a statement which shows all transaction related to a particular asset, liability, income or expense e.g. Cash Account (Cash A/c). The ‘account’ heads are then summarized under related groups so that interpretation becomes possible. For example, when a travel agent purchases stationary for office use, it is recorded in Stationary A/C, grouped as office expenses. All such expenses are compared with business income to arrive at profit. There is a small difference between the terms ‘accounting’ and ‘book keeping’. Book keeping is part of accounting that is concerned with recording; a book keeper normally needs lower academic qualification. Accounting in its broad sense extends to financial reporting, taxation compliance, cost analysis, interpretation, and estimation. “Accounting is the art of recording, classifying and summarizing in a significant manner and in terms of money transactions and events which are, in part at least, of a financial character, and interpreting the results thereof”. The American Institute of Certified Public Accountants (AICPA) Accounting is the process of identifying, measuring, recording and communicating economic transactions. Financial Accounting consists of creation of financial information and the subsequent use of such information. Accounting entails various steps namely Recording, Classifying and Summarizing which are dealt below: Accounting & Finance for Managers : 2 1. What to record? : All financial transactions affecting the business have to be recorded in accordance with the principles of accountancy. As money is the common unit of measurement, all events that are expressed in monetary terms will be recorded. 2. When to record? : Accounting is historical in nature because of which the recording is to be effected only after the occurrence of a transaction. Therefore, sale of goods cannot be recorded when the goods are merely intended to be sold but only after such sale is complete and the property in the goods has been transferred to the buyer. 3. How to record? : Whenever a transaction occurs, it is decided in which account/s it is to be recorded. Accounting concepts, policies guide recording procedure. This will be covered in-depth in the chapter ‘Accounting Mechanics’. 4. Value at which it is to be recorded: All the ingredients of the financial statements are to be assigned appropriate values. Money is the scale of measurement in accounting and we can measure only those which can be translated into monetary terms. Different valuation bases are used in accounting, of which, the frequently used are Historical cost, Current cost, Realizable value and Present value. Value is determined at the time of recording and also at the time of preparation of financial statements. 5. Preparing statements: Income statement is prepared so as to calculate profit or loss during a particular year by summarizing all incomes and expenses. Balance sheet is prepared to record assets and liabilities stating financial position of the concern as at the end of a particular period. Cash flow statement shows inflows and outflows of cash. The financial statements are prepared at the end of certain period, usually yearly or quarterly. Introduction to Financial Accounting NOTES Check Your Progress Define accounting. 1.2.2 Evolution of Accounting Both merchants and Governments have been using accounting for keeping records of transactions since times immemorial. India has a very long tradition of maintaining books of accounts known as Chopadis. These chopadis were closed at the end of the year and new set of books were opened. Lakshmi Poojan (Diwali) is considered as an auspicious day for worshipping new books (Chopadis) to be opened from next day (Bali Pratipada). The concept of accounting period is firmly rooted in Indian tradition. We do also see mention of financial instruments like Hundis being mentioned in ancient India. Kautilya also known as Chanakya or Vishnugupta a well known statesmen, economist and spiritual guru wrote famous book Arthshastra in 4th century B.C., where he has recognized the importance of accounting. He realized that a proper measurement of economic performance was absolutely essential for efficient allocation of resources. He specified a very broad scope for accounting and considered explanation and prediction as its proper objectives. Kautilya developed bookkeeping rules to record and classify economic data, emphasized the critical role of independent periodic audits and proposed the establishment of two important but separate offices—the Treasurer and Comptroller-Auditor, to increase accountability, specialization, and above all to reduce the scope for conflicts of interest. Clarity, consistency and completeness of rules is key to such enforcement. Kautilya believed that such measures were necessary Accounting & Finance for Managers : 3 Introduction to Financial Accounting NOTES Check Your Progress Explain evolution of accounting but not sufficient to eliminate fraudulent accounting. He also emphasized the role of ethics, considering ethical values as the glue which binds society and promotes economic development. The origins of the organized form of accounting that we use today can be traced to Italy. The recognition in record keeping, of the fact of the duality of values – that is, the benefit to the entity on the one hand, and its sacrifice on the other – can be considered to be the crux of the modern accounting system. Luca Pacioli (1445- 1515) is usually recognized as the father of modern accounting as he published first text on accounting. Though accounting systems were used much prior to Pacioli’s book, the system became a standard for merchants especially in Europe only after Pacioli structured and organized it in his book. Accounting methodology, which was developed and used in trade and commerce during the Middle Ages, faced its first serious challenge with the coming into being of the modern manufacturing industry, as a result of the industrial revolution. In today’s information technology intensive environment, we see that accounting is getting increasingly adapted to the new situation and getting integrated into new software packages. Computerized accounting systems have taken place of traditional book keeping. They are designed to automate and integrate all the business operations, such as sales, finance, purchase, inventory and manufacturing. 1.2.3 Importance of Accounting Accounting plays important role in success of any business, social or regulatory organization. Following are the major points showing importance of accounting.    It ensures systematic recording of financial transactions. It records income and expenses in such a manner that net result of any period can be determined. It records assets and liability in such a way that financial position of the entity can be judged. Management Owners/ Investors Suppliers Lenders/ Bankers Users of Financial Statements Regulatory Authorities Taxation Customers Employees  It makes tax assessment easy and benefits both business organisations and tax authorities. Check Your Progress  How accounting is important for business organization? It helps share holders, management and other stakeholders to monitor and evaluate organizations the performance of the organization.  It provides reliable and timely information for decision making.  It acts as a basis for estimation and projection of financial figures and hence enables preparation of budgets. 1.2.4 Users of financial statements Accounting & Finance for Managers : 4 Financial statements are prepared by following proper accounting process. Such financial statements are used by various users for different purpose as follows.  Owners/ Shareholders The major users of financial statements of business include sole proprietor or partners or shareholders. The financial position of the company is communicated to the shareholders through the financial statements which state the profit gained or loss suffered and the value of its assets and liabilities. Prospective investors also use such information to take decisions about their investments in companies. In case of listed companies, a whole lot of groups like analysts, mutual funds, investment bankers, institutional investors become interested in financial statements. Introduction to Financial Accounting NOTES  Management/Board of Directors In a company form of organization the owners or the shareholders elect a group of people to manage the day-to-day affairs of the company. Since these directors/ managers are ultimately responsible for the financial performance, they must periodically compile and report the financial statements. Financial information are also useful for decision making function.  Lenders Banks, financial institutions and other lenders would willingly part with their money only if they are assured of the repayment capacity, profitability and long-term solvency of the business to which they are asked to lend. Financial statements are normally used by the lenders to judge for the financial health of the business and to assure themselves of the security available for the monies lent. The financial statements are also used to monitor company’s performance on regular basic.  Suppliers/Creditors Suppliers of raw material or services are primarily interested in the short-term liquidity of the company. The financial statements facilitate the creditors in ascertaining the capacity of the organization, to pay on time the consideration for the goods/services to be supplied.  Customers They can determine the strength and reliability of an organization based on financial performance. Legal obligations associated with guarantees, warranties and after sales service contracts tend to establish long-term relationships between a business and its customers. The financial statements are used by the customers to draw inferences about the long-term viability of the firm.  Employees Employees have an interest in the continued and profitable operations of the organization in which they work. Financial statements can be used as an important source for obtaining information regarding the current and future profitability and solvency. Sometimes, contracts tying remunerations to profits or payment of incentives based on certain financial measure would tend to magnify this interest.  Government and Regulatory Agencies The correct assessment of income tax, sales-tax, excise duty, etc. takes inputs from the financial statements of an organization especially to detect tax evasion, if any. Government, as the guardian of public interest, must also keep a close watch over the various business firms to detect profiteering and creation of monopolies. Vital information Accounting & Finance for Managers : 5 Introduction to Financial Accounting NOTES Check Your Progress Who are the users of financial statements? in this regard can be gathered from a scrutiny of the financial statements of business enterprises. National income accounting used in macroeconomic analysis derives its fundamental inputs from financial statements. The tax payable by the enterprises as well as the compilation of countrywide statistics is discerned using the financial statements. Regulatory authorities like Securities Exchange Board of India (SEBI), Reserve Bank of India (RBI), Registrar of Companies (ROC) also uses the financial information to keep vigilance on the companies. 1.3 Financial, Cost and Management Accounting Financial accounting deals with recording and preparation of the statements revealing the income and financial position of the business on the basis of events which have happened in a particular period. The major purpose of financial accounting is to report the position of the entity as on the reporting date, as well as the performance of the entity during the period covered by the previous reporting date and the present reporting date. This reporting is done through various financial statements, important ones being income statement and balance sheet. Financial statements present information on revenues, profits, cash flows, assets, liabilities and so on. Though this information is very important, it does not adequately aid the management in planning, controlling, organizing and efficiently conducting the course of the business as a result of which Cost Accounting and Management Accounting have emerged. Cost accounting records, analyses and estimates cost. It also deals with cost computation, cost saving, cost reduction, etc. The costing function provides information that is crucial for profit measurement in financial accounting. The cost of products/ services to be considered with respect to the revenues earned is provided by the cost accounting system. Cost accounting is primarily targeted to inside users. Management accounting deals with the processing of data generated in financial accounting and cost accounting for managerial decision-making. It also uses managerial economic concepts for decision-making. Management accounts facilitate planning and control of activities of organization to assist in decision-making process. Cost accounting is indistinguishable from management accounting as the major purposes of providing information for control purpose and for formulating plans and policies, is common to both. It should, however, be noted that traditionally, cost accounting was concerned with the determination of product costs and inventory valuation and in this respect; it was an extension of financial accounting. The function of management involves taking decision with respe...
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