Spring / February 2012

Master of Business Administration- MBA Semester 1 MB0041 Financial and Management Accounting - 4 Credits (Book ID: B1130) Assignment Set- 1 (60 Marks) *Note: Each Question carries 10 marks. Answer all the questions. Q1. The Balanced Score Card is a framework for integrating measures derived from strategy. Take an Indian company which has adopted balance score card successfully and explain how it had derived benefits out of this framework. Ans:
TATA Motors Commercial Vehicle Business Unit enhances balanced scor e c a r d framework. Case Study: Commencing this process, the CVBU management reviewed many solution providers and evaluated each of them upon the basis of a variety of diverse factors. At the end of this exhaustive process, a solution was decided in the form of COVENARK Strategist, a prominent Balanced Score Card Automation Tool develope d b y mPOWERInformation Systems to integrate with the existing ERP and legacy systems with the help of data integration suite. Soon, however, with the process underway, the real problem revealed itself. It turned out that the manual nature of the review procedures of such a huge structure was well neigh impossible, being, at best, extremely difficult to implement and incredibly time consuming. A watertight solution was needed; quickly. After further examination of the situation, a decision was taken to implement a Balanced Scorecard Automation Toolt h a t w o u l d c e n t r a l i s e , i n t e g r a t e a n d c o l l a t e t h e d a t a , p r o v i d i n g r a p i d r e v i e w a n d analytical functionality and presenting a rapid and comprehensive one view picture of organizational performance. Subsequently, the executive director of CBVU, Mr. Ravi Kant, called for stringent cost cutting across unit operations, supported by more effective formulation and execution of strategy. To augment this process, the management of Tata Motors resolved to adopt the Balanced Scorecard and Performance Framework as the key tool in the Endeavour to rebuild the Organizational Performance Chart. The challenge here was to undertake deployment of the Balanced Scorecard across all the functional units and departments of the CBVU. TATA Motors CVBU (Commercial Vehicle Business Unit). Tata Motors is the largest and most prominent market leader inthemanufactureof c o m m e r c i a l b u s i n e s s v e h i c l e s i n I n d i a . I n t h e y e a r 2 0 0 0 , i t s C o m m e r c i a l V e h i c l e s Business Unit (CVBU) suffered its first loss in its more than fifty years history. This loss was massive. It was in the tune of Rs. 108.62 Million. This prompted Tata Motors to take a profound look into itself; to find reason in this debacle.

TATA motors have adopted balance score card framework s u c c e s s f u l l y a n d yields benefits from that. The results were immediate and spectacular. W ithin two years of this, C V B U h a d turned over to register a profit of Rs. 107 Million from the loss of Rs. 108.62 Million, accounting for a whopping 60% of TATA Motors inventory turnover. The success path o f B a l a n c e d S c o r e C a r d d i d n o t s t o p h e r e . I n t h e b e g i n n i n g CVBU has started theBalanced Scorecard with only Corporate Level Scorecard; at this time t h e y h a v e expanded it to six Hierarchical Levels with three hundred and thirty one Scorecards, additionally looking forward to proliferate it to the lowest level of organis a t i o n a l structure. In this way, balanced scorecard framework played a vital role in the success storyofTATAMotorsCVBU.

Q2. What is DuPont analysis? Explain all the ratios involved in this analysis. Your answer should be supported with the chart.
Ans: A method of performance measurement that was started by the DuPont Corporation in the 1920s. With this method, assets are measured at their gross book value rather than at net book value in order to produce a higher return on equity (ROE). It is also known as "DuPont identity". DuPont analysis tells us that ROE is affected by three things: - Operating efficiency, which is measured by profit margin- Asset use efficiency, which is measured by total asset turnover - Financial leverage, which is measured by the equity multiplier 3 ROE = Profit Margin (Profit/Sales) * Total Asset Turnover (Sales/Assets) * Equity Multiplier (Assets/Equity) Investopedia explains DuPont Analysis It is believed that measuring assets at gross book value removes the incentive to avoidi n v e s t i n g i n n e w a s s e t s . N e w a s s e t a v o i d a n c e c a n o c c u r a s f i n a n c i a l a c c o u n t i n g depreciation methods artificially produce lower ROEs in the initial years that an asset is placed into service. If ROE is unsatisfactory, the DuPont analysis helps locate the part of the business that is underperforming. The DuPont System expresses the Return on Assets as: ROA = OPM * ATR T h e O p e r a t i n g P r o f i t M a r g i n R a t i o i s a m e a s u r e o f o p e r a t i n g e f f i c i e n c y a n d t h e A s s e t Turnover Ratio is a measure of asset use efficiency. The DuPont System expresses the Return on Equity as: ROE = (ROA - Interest Expense/Average Assets) * EM the Equity Multiplier is a form of leverage ratio and measures financial efficiency. Figure shows the DuPont Analysis for a farm operation A method of performance measurement that was started by the DuPont Corporation in the 1920s. With this method, assets are measured at their gross book value rather than at net book value in order to produce a higher return on equity (ROE). It is also known as "DuPont identity". DuPont analysis tells us that ROE is affected by three things: - Operating efficiency, which is measured by profit margin- Asset use efficiency, which is measured by total asset turnover - Financial leverage, which is measured by the equity multiplier 3

ROE = Profit Margin (Profit/Sales) * Total Asset Turnover (Sales/Assets) * Equity Multiplier (Assets/Equity) Figure shows the DuPont Analysis for a farm operation

Table 1.DuPont Analysis for Two Farms

Farmer A and Farmer B each have a 2 % ROE. The components of the ratios indicate that t h e sources of the weakness of the farms are different. Farmer A has a s t r o n g e r p r o f i t margin ratio but lower asset turnover compared to Farmer B. Furthermore, Farmer A has a higher leverage ratio than Farmer B. The weak ratios for each farm may be decomposed into components to determine the potential sources of the weakness. To improve asset turnover Farmer A needs to increase production efficiency or price levels or reduce current or noncurrent assets. To improve profit margins, Farmer B needs to increase production efficiency or price levels more than costs or reduce costs more than revenue. The DuPont analysis is an excellent method to determine the strengths and weaknesses of a farm. A low or declining ROE is a signal that there may be a weakness. However, usingt h e a n a l y s i s y o u c a n b e t t e r d e t e r m i n e t h e s o u r c e o f w e a k n e s s . A s s e t m a n a g e m e n t , expense control, production efficiency or marketing could be potential sources of weakness within the farm. Expressing the individual components rather than interpreting ROE it may identify these weaknesses more readily.

Q3. Accounting Principles are the rules based on which accounting takes place and these rules are universally accepted. Explain the principles of materiality and principles of full disclosure. Explain why? These two principles are contradicting each other. Your answer should be substantiated with relevant examples. Ans: Materiality principle: Accountants follow the materiality principle, which states that the requirements
of any accounting principle may be ignored when there is no effect on the users of financial information. Certainly, tracking individual paper clips or pieces of paper is immaterial and excessively burdensome to any company's accounting department. Although there is no definitive measure of materiality, the accountant's judgment on such matters must be sound. Several thousand dollars may not be material to an entity such as General Motors, but that same figure is quite material to a small, family-owned business.

Full disclosure Means to disclose all the details of a security problem which are known. It is a philosophy of security management completely opposed to the idea of security through obscurity. The concept of full disclosure is controversial, but not new; it has been an issue for locksmiths since the 19th century. Full disclosure requires that full details of security vulnerability are disclosed to the public, including details of the vulnerability and how to detect and exploit it. The theory behind full disclosure is that releasing vulnerability information results in quicker fixes and better security. Fixes are produced faster because vendors and authors are forced to respond in order to save face. Security is improved because the window of exposure, the amount of time the vulnerability is open to attack, is reduced. The full disclosure principle states that any future event that may or will occur, and that will have a material economic impact on the financial position of the business, should be disclosed to probable and potential readers of the statements. Such disclosures are most frequently made by footnotes. For example, a hotel should report the building of a new wing, or the future acquisition of another property. A restaurant facing a lawsuit from a customer who was injured by tripping over a frayed carpet edge should disclose the contingency of the lawsuit. Similarly, if accounting practices of the current financial statements were changed and differ from those previously reported, the changes should be disclosed. Changes from one period to the next that affect current and future business operations should be reported if possible.

Changes of this nature include changes made to the method used to determine depreciation expense or to the method of inventory valuation; such changes would increase or decrease the value of ending inventory, cost of sales, gross margin, and net income or loss. All changes disclosed should indicate the dollar effects such disclosures have on financial statements

Q4. Explain any two types of errors that are disclosed by trial balance with examples and rectification entry. Note - Avoid giving examples given in the self- learning material.
The trial balance is prepared to check the arithmetical accuracy of accounts. If the trial balance does not tally, it implies that there are arithmetical errors in the accounts which require location, detection and rectification thereof. Even if the trial balances tallies, there may still exist some errors. There are two types of errors: Errors which are not revealed by the trial balance and Errors which are revealed by the trial balance. Errors may happen at any of the following stages of the accounting cycle. At Recording Stage Errors of principle Errors of omission Errors of commission At Posting Stage Error of omission Complete Partial Error of commission

Posting to wrong account Posting on the wrong side Posting of wrong amount At Balancing Stage Wrong totaling Wrong balancing Preparation of Trial Balance Error of Omission Error of Commission Taking wrong amount Taking wrong account Taking to the wrong side Errors can be classified into the following four categories on the basis of the nature of errors and explained here under. a) Errors of commission b) Errors of omission c) Errors of principle d) Compensating (offsetting) errors e) Errors of Duplication a) Errors of Commission These errors by definition are of clerical nature. These errors may be committed at the time of recording and/or posting. At the time of recording, the wrong amount may be recorded in journal which will be carried throughout. Such errors will not affect the agreement of the trial balance. These errors may also be committed at the time of posting, by way of posting wrong amount, to the wrong side of an account or in the wrong account. The errors resulting in posting to wrong account will not affect agreement of trial balance, whereas, other errors of posting will resulting disagreement of trial balance. For example, an amount of Rs. 10,000 received from customer (Debtor) is correctly recorded on the debit side of the cash book but while posting, the customer's account is credited with Rs. 1,000. This is an error, which is committed at the time of posting, by posting wrong amount to the account. This will result in disagreement of trial balance, since; the credit total of the trail balance will be short by Rs. 9,000. b) Errors of Omission The errors of omission may be committed at the time of recording the transaction in the books of original entry or while posting to the ledger. An omission may be complete or partial. Such errors are known as errors of omission. For example, Machinery purchased for Rs. 50,000 by issuing a cheque is recorded first in the credit side of cash book, in the bank column. Suppose it is not posted to the debit of machinery account, it is an error of partial omission. The trial balance will not tally. Suppose the transaction is not entered in the cash book and hence ignored completely, this is a case of complete omission. It means as if the transaction has not taken place at all. It will not affect the trial balance and hence the trial balance will tally. This is true only in case of complete omission. c) Errors of Principle Accounting entries are recorded as per the generally accepted accounting principles. If any of these principles are violated or ignored, errors resulting from such violations are known as errors of principle. As an illustration, Periodicity principle requires maintaining proper distinction between capital and revenue items. An error of principle may occur due to incorrect classification of expenditure or receipts between capital and revenue. This is very important because it will have an impact on financial statements. It may lead to under/over stating of income or assets or liabilities, etc. For example, amount spent on additions to the buildings should be treated as capital expenditure and must be debited to the asset account. Instead, if this amount is debited to maintenance and repairs account, it is treated as a revenue expense. This is an error

of principle. Since instead of asset account, i.e. buildings, the maintenance and repairs account (expense) is debited, the trial balance will still tally but would not be correct as per generallyaccepted15. Accounting principles.16. Such errors are not disclosed by the trial balance. This will result in understating of income due to extra charge under maintenance and repairs account and understating the value of buildings in the balance sheet. d) Compensating Errors When two or more errors are committed in such a way that the net effect of these errors on the debits and credits of accounts is nil, such errors are called compensating errors. They do not affect the tallying of the trial balance. For example, In a credit sale transaction, the sales account is credited in excess by say, Rs.5,000 and similarly the suppliers account in case of a credit purchase is understated byRs.5,000, this is a case of two errors compensating for each others effect. It is to be noted that extra credit to the sales account is offset by lower credit to the creditor's account, both being credit balance. Since, one plus is set off by the other minus, the net effect of these two errors being of compensating nature and do not affect the agreement of trial balance.

Q5. Distinguish between financial accounting and management accounting

Financial accounting reports are prepared for the use of external parties such as shareholders and creditors, whereas managerial accounting reports are prepared for managers inside the organization. This contrast in basic orientation results in a number of major differences between financial and managerial accounting, even though both financial and managerial accounting often rely on the same underlying financial data. In addition to the to the differences in who the reports are prepared for, financial and managerial accounting also differ in their emphasis between the past and the future, in the type of data provided to users, and in several other ways. These differences are discussed in the following paragraphs.

Emphasis on the Future:

Since planning is such an important part of the manager's job, managerial accounting has a strong future orientation. In contrast, financial accounting primarily provides summaries of past financial transactions. These summaries may be useful in planning, but only to a point. The future is not simply a reflection of what has happened in the past. Changes are constantly taking place in economic conditions, and so on. All of these changes demand that the manager's planning be based in large part on estimates of what will happen rather than on summaries of what has already happened.

Relevance of Data:
Financial accounting data are expected to be objective and verifiable. However, for internal use the manager wants information that is relevant even if it is not completely objective or verifiable. By relevant, we mean appropriate for the problem at hand. For example, it is difficult to verify estimated sales volumes for a proposed new store at good Vibrations, Inc., but this is exactly the type of information that is most useful to managers in their decision making. The managerial accounting information system should be flexible enough to provide whatever data are relevant for a particular decision.

Less Emphasis on Precision:

Timeliness is often more important than precision to managers. If a decision must be made, a manager would rather have a good estimate now than wait a week for a more precise answer. A decision involving tens of millions of dollars does not have to be based on estimates that are precise down to the penny, or even to the dollar. In fact, one authoritative source recommends that, "as a general rule, no one need more than three significant digits. this means, for example, that if a company's sales are in the hundreds of millions of dollars, than nothing on an income statement needs to be more accurate than the nearest million dollars. Estimates that accurate to the nearest million dollars may be precise enough to make a good decision. Since precision is costly in terms of both time and resources, managerial accounting places less emphasis on precision than does financial accounting. In addition, managerial accounting places considerable weight on non monitory data, for example, information about customer satisfaction is tremendous importance even though it would be difficult to express such data in monitory form.

Segments of an Organization:
Financial accounting is primarily concerned with reporting for the company as a whole. By contrast, managerial accounting forces much more on the parts, or segments, of a company. These segments may be product lines, sales territories divisions, departments, or any other categorizations of the company's activities that management finds useful. Financial accounting does require breakdowns of revenues and cost by major segments in external reports, but this is secondary emphasis. In managerial accounting segment reporting is the primary emphasis.

Generally Accepted Accounting Principles (GAAP):

Financial accounting statements prepared for external users must be prepared in accordance with generally accepted accounting principles (GAAP). External users must have some assurance that the reports have been prepared in accordance with some common set of ground rules. These common ground rules enhance comparability and help reduce fraud and misrepresentations, but they do not necessarily lead to the type of reports that would be most useful in internal decision making. For example, GAAP requires that land be stated at its historical cost on financial reports. However if, management is considering moving a store to a new location and then selling the land the store currently sits on, management would like to know the current market value of the land, a vital piece of information that is ignored under generally accepted accounting principles (GAAP).

Managerial Accounting Not Mandatory:

Financial accounting is mandatory; that is, it must be done. Various outside parties such as Securities and Exchange Commission (SEC) and the tax authorities require periodic financial statements. Managerial accounting, on the other hand, is not mandatory. A company is completely free to do as much or as little as it wishes. No regularity bodies or other outside agencies specify what is to be done, for that matter, weather anything is to be done at all. Since managerial accounting is completely optional, the important question is always, "Is the information useful?" rather than, "Is the information required?"

Summary:

Financial Accounting
Reports to those outside the organization owners, lenders, tax authorities and regulators. Emphasis is on summaries of financial consequences of past activities. Objectivity and verifiability of data are emphasized. Precision of information is required. Only summarized data for the entire organization is prepared.

Managerial Accounting
Reports to those inside the organization for planning, directing and motivating, controlling and performance evaluation. Emphasis is on decisions affecting the future.

Relevance of items relating to decision making is emphasized. Timeliness of information is required.

Detailed segment reports about departments, products, customers, and employees are prepared. Need not follow Generally Accepted Accounting Principles (GAAP). Not mandatory.

Must follow Generally Accepted Accounting Principles (GAAP). Mandatory for external reports.

Q6. XYZ Ltd provides the following information January 1 65,000 13,000 15,000 16,000 90,000 12,000 6,000 30,000 30,000 32,000 December 31 105000 20,000 20,000 30,000 84,000 8,000 5,000 58,000 42,000 36,000

Sundry Debtor Cash in hand Cash at Bank Bills Receivable Inventory Bills Payables Outstanding expenses Sundry Creditors Bank Overdraft Short term Loans

Prepare a schedule of changes in working capital Hint: Net Working capital: Jan 1st 89000 and Dec 31st 110000 Schedule of changes in working capital from Jan 1st to dec 31st . Ans:

Spring / February 2012

Master of Business Administration- MBA Semester 1 MB0041 Financial and Management Accounting - 4 Credits (Book ID: B1130) Assignment Set- 2 (60 Marks)
*Note: Each Question carries 10 marks. Answer all the questions.

Q1. Illustration 1: Compute the cash flow from operating activities. Profit and Loss Account To
Cost of goods sold Office expenses Selling expenses Depreciation Loss on sale of plant Goodwill written off Income tax Net Profit 4,00,000 12,000 8,000 6,000 4,000 3,000 7,000 1,10,000 5,50,000

By
Sales including cash sales 1,00,000 Profit on sale of land Interest on investment 5,00,000 30,000 20,000

5,50,000

Balance Sheet as on .

Hint: Net cash from operating activities= 76000

Ans: Statement showing cash flows from operating activities Net profit before tax and extraordinary items Add: income tax Adjustments for depreciation Goodwill written off Loss on sale of plant Less: profit on sale of land Interest received Operating profit before working capital changes Add: decrease in current assets Stock Debtors Creditors Outstanding expenses Less: increase in current assets: bills receivable Decrease in current liabilities: bills payable Cash generated from operating activities Less: payment of income tax Net cash from operating activities. 1,10,000 7,000 6,000 3,000 4,000 1,30,000 30,000 20,000 (50,000) 80,000

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

8,000

(5,000) 83,000 (7,000) 76,000

Q2. The following extract refers to a commodity for the half year ending 31 St March 2008. Prepare a cost statement. Purchase of raw materials Rent, rate, insurance and Works expenses 1, 20,000 40,000 Direct wages Opening stock Raw materials Finished goods (1000 units) 1, 00,000 20,000 16,000

Work in progress: opening closing Carriage inwards Cost of factory

4, 800 16, 000

Closing stock: raw material F. Goods (2,000 tons) Sale of finished goods

22, 240

1, 440 8,000.

3, 00,000

Advertising, discounts allowed and selling costs Re.1 per ton sold. Production during the year is 16,000 tons. Prepare a cost sheet. Hint: Total cost or cost of sales= 255000 Profit= 45000 Sales= 300000 Ans: Direct materials Opening stock of raw materials Add: purchase of raw materials Add: Carriage inwards Less: closing stock of raw materials Raw materials consumed Direct wages Prime cost Work expenses Cost of factory Rent, rate and insurance Add: opening WIP Less: Closing WIP Factory/works cost Office and administrative expenses Cost of production Inventory valuation Opening stock of finished goods Less: closing stock of

20,000 120000 1440 (22240) 119200 100000 219200 8000 40000 4800 (16000) 256000 Nil 256000 16000

finished goods to be valued at cost of production Cost of goods sold Selling and distribution expenses Advertisement and discount allowed Total cost or cost of sales Profit Sales

(32000) 240000

15000 255000 45000 300000

Q3. Avon garments Ltd manufactures readymade garments and uses its cut-pieces of cloth to manufacture dolls. The following statement of cost has been prepared. Particulars Readymade garments Rs. 80,000 13,000 17,000 Dolls Total

Direct material Direct labour Variable overheads Fixed overheads Total cost Sales Profit (loss)

6,000 1,200 2,800

86,000 14,200 19,800

24,000 1,34,000 1,70,000 36,000

3,000 13,000 12,000 (1,000)

27,000 1,47,000 1,82,000 35,000

The cut-pieces used in dolls have a scrap value of Rs 1,000 if sold in the market. As there is a loss of Rs. 1,000 in the manufacturing of dolls, it is suggested to discontinue their manufacture. Advise the management. Hint: Total cost=Readymade garments 134000; Doll= 13000 and total=147000. Ans: Discontinue manufacture of dolls Readymade garments 1,34,000 36,000 Dolls 13,000 (1,000) total 1,47,000 35,000

Total costs Profit(loss)

Q4. Describe the essential features of budgetary control.

Ans: the essential features of budgetaries control are as follows:

a)

Business policies defined: the top management of an organization strives to have

an action plan for every activity and for each department. Every budget should reflect the business policies formulated from time to time. The policies should be precise and the same must be clearly defined. No ambiguity should enter the document. Clear knowledge should be provided to all the personnel concerned who are going to execute the policies. Periodic suggestion should be called for.

b)

Forecasting: Business forecast are the foundation of business. Time and again
discussion should be arranged to derive the most profitable combination of forecasts. Better results can be anticipated based on the sound forecasts. As far as possible, quantitative techniques should be made use of while forecasting.

c)

Formation of budget committee:

a budget committee is a group of

representatives of various important departments in an organization. The function of committee should be specified clearly. The committee plays a vital role in preparation and execution of budget estimated. It brings coordination among departments. It aids in the finalization of policies and programs. Non-financial activities are also considered to make it a wholesome affair. d)

Accounting system: to make the budget a successful document, there should be

proper flow of accurate and timely information. The accounting adopted by organization should be proper and must be fine tuned from time to time.

e)

Organizational efficiency: to make a budget preparation and its subsequent

implementation a success, an efficient, an adequate and best organization is necessary a budgeting system should always be supported by a sound organizational structure. There must be a clear cut demarcation of lines of authority and responsibility. There must also be a delegation of authority from top to bottom line.

f)

Management philosophy: every management should set a healthy philosophy

while opting for a budget. Management must whole heartedly support the activities which develops a budget. Encouragement should flow from top management. All the members must be involved to make it a workable preposition and a dream-driven document.

g) h)

Reporting system: feedback system should be established. Provision should be

made for corrective measures wherever comparative measures are proposed.

Availability of statistical information: Since budget are always prepared and

expressed in quantitative terms, it is essential that sufficient and accurate relevant data should be made available to each department.

i)

Motivation: Since budget acts as a mirror, the entire organization should become
start in its approach. Every employees both executive and non executrices should be made part of the overall exercise. Employees should be persuaded to appreciate the

benefits of the budget so that the fruits can be shared by all the members of the organization.

Q5. Briefly describe labour mix variance and yield variance. Ans: Labour mix variance This variance arises only when the different types of workers, trained, semitrained and untrained workers are employed in manufacturing. If actual worker force of different grades of worker is not in pre-determined ratio, then the mix variance will occur. The variance shows to the management as to how much of the labor cost variance is due to the changes in the composition of labor force. It can be calculated as follows: LMV= (Revised standard hours - actual hours worked) X standard hourly rate shorten (RSLH-ALH) X SR Where revised standard hour = total time of actual worker/total time of standard worker x standard labor time. Labour yield variance This is due to the difference in the standard output specified and the actual output obtained. The formula is as follows: LYV = (Actual output Standard output) x Standard cost per unit Q6.How is standard costing related to budgetary control? Ans: Both standard costing and budgetary control aim at maximum efficiency and managerial
control. Budgetary control and standard costing have the common objective of controlling business operations by establishing per-determined targets, measuring the actual performance and comparing it with the targets, for the purposes of having better efficiency and of reducing costs. The two systems are said to be interrelated but they are not inter-dependent. The budgetary control system can function effectively even without the system of standard costing in operation but the viceversa is not possible. Standard costing and budgetary costing are interrelated and aim at the improvement of the system of managerial control. They both achieve the same objectives of maximum efficiency and cost control by establishing pre-determined standards. They compare actual performance with the

predetermined standard. They take necessary steps to improve the situation wherever necessary. Both techniques are forward looking. Budgetary control deals with cost and revenues also the standard costing only restricts with costs.