UCM 62 MANAGEMENT ACCOUNTING Unit-1 Introduction to Management Accounting Type:20% Theory 80% Problem Question & Answers

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1 UCM 62 MANAGEMENT ACCOUNTING Unit-1 Introduction to Management Accounting Type:20% Theory 80% Problem Question & Answers PART A QUESTIONS 1. Define Management Accounting. (April 2012) According to Anglo-American Council of Productivity (1950) management accounting is, "Management accounting is the presentation of accounting information in such a way as to assist the management in creation of policy and the day to day operation of an undertaking". 2. What is Comparative Statement? (April 2012) Comparative Financial Statement Analysis is also called as Horizontal analysis. The Comparative Financial Statement provides information about two or more years' figures as well as any increase or decrease from the previous year's figure and it's percentage of increase or decrease. 3. What is meant by Analysis of Financial Statement? (Nov -2012) The term financial analysis also known as analysis and interpretation of financial statements refers to the process of determining financial strengths and weaknesses of the firm by establishing strategic relationship between the items of the balance sheet and profit and loss account and other operative date. 4. Give any two limitations of Management accounting. (Nov -2012) 1.Limitations of basic records: Management accounting derives its information from financial accounting, cost accounting and other records. The strength and weakness of the management accounting, therefore, depends upon the strength and weakness of these basic records. In other words, their limitations are also the limitations of management accounting. 2. Persistent efforts. The conclusions draws by the management accountant are not executed automatically. He has to convince people at all levels. In other words, he must be an efficient salesman in selling his ideas. 5. What is Management Accounting? (April 2013) Management Accounting is comprised of two words Management and Accounting. It means the study of managerial aspect of accounting. The emphasis of management accounting is to redesign accounting in such a way that it is helpful to the management in formation of policy, control of execution and appreciation of effectiveness. 6. What are called financial statements? (April 2013) Financial Statements or Final Accounts are the summaries of financial RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 20 of 20

2 accounts prepared periodically by a business. These are the end products of Financial Accounting. It includes the following:- 1. Income statement or Profit and Loss Account 2. Statement of Retained Earnings or Statement of Changes in Owner s Equity 3. Balance sheet or Position Statement 4. Fund flow statement 5. Cash flow statement 7. What is the scope of management accounting? (Nov 2014) (i) Budgetary Control: This includes framing of budgets, comparison of actual performance with the budgeted performance, computation of variances, finding of their causes, etc. (ii) Inventory Control: It includes control over inventory from the time it is acquired till its final disposal. (iii) Statistical Methods: Graphs, charts, pictorial presentation, index numbers and other statistical methods make the information more impressive and intelligible. 8. What do you mean by common size statement? (Nov 2014) Common size statements examine the proportion of a single line item to the total statement. For balance sheets, all assets are expressed as a percentage of total assets, while liabilities and equity are expressed as a percentage of total liabilities and shareholders equity. Income statement items are expressed as a percentage of revenues, i.e, sales. 9. State any two objectives of management accounting. (Nov 2014) 1. Planning and policy formulation: planning is one of the primary functions of management. It involves forecasting on the basis of available information. 2. Help in the interpretation process: The main object is to present financial information. The financial information must be presented in easily understandable manner. 10. What is trend analysis? (MU Nov 2007) Trend means a tendency. It discloses the changes in financial and operating data between specific periods and makes it possible for the analysis to form opinion as to whether favorable or unfavorable tendencies are reflected by the accounting data. In the analysis of financial information, trend analysis is the presentation of amounts as a percentage of a base year. 11. State the nature of financial statements. (MU April 2009) 1. Based on records facts: The transactions affecting the business are recorded in the books and shown in the financial statements at the same values. Eg. RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 21 of 20

3 Fixed assets recorded in the books at cost price and shown in the balance sheet at cost price less depreciation 2. Postulates : Business transactions are recorded on certain assumptions such as going concern 12. Who is a Management Accountant? The officer who is entrusted with management accounting function in an organization is known as Management Accountant. He caters to the information needs of different management levels. He is known by different names in different organizations. i.e., controller, comptroller, chief accountant, financial adviser, financial controller, etc. 13. What is Vertical Analysis of Financial Statements? It refers to the study of relationship of the various items in the financial statements of one accounting period. In this type of analysis the figures from the financial statement of a year are compared with a base selected from the same year s statement. It is also known as Static Analysis. 14. What is Horizontal Analysis of Financial Statements? Comparison of financial data of a company for several years. The figures for this type of analysis are presented horizontally over a number of columns. The figures of the various years are compared with standard or base year. This type of analysis is also called Dynamic analysis as it is based on the data from year to year rather than on data of any one year. 15. What is External Analysis of Financial Statements? This analysis is done by outsiders who do not have access to the detailed internal accounting records of the business firm. (Investors, creditors, government agencies, credit agencies and general public.) 16. What is Internal Analysis of Financial Statements? This analysis is conducted by persons who have access to the internal accounting records of a business firm. (Executives and employees of the government agencies which have statutory powers vested in them.) 17. What is Analysis and Interpretation? Analysis and interpretation of financial statements are an attempt to determine the significance and meaning of the financial statement data so that forecast may be made of the prospects for future earnings, ability to pay interest and debt maturities and probability of a sound dividend policy. 18. What are the duties of Management Accountant? The primary duty of management accountant is to help management in taking correct policy decisions and improve efficiency of entrepreneurial RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 22 of 20

4 operations. This duty requires him not only to help management with the necessary information from the business sources but he may have to collect information from outside sources too. 19. What is marginal costing? Under marginal costing, the cost of products is divided into fixed and variable portions. While the variable costs are taken form decision making, fixed costs are treated as period costs to be charges to costing Profit and Loss account. Marginal costing is helpful to management in taking various important decisions etc. 20. What is standard costing? Standard costing is an important technique of cost control. In standard costing the costs are determined in advance by systematic analysis. The actual costs are compared with standards. 21. What is budget? Budgets are used as a tool for planning and control. The expenditure and revenue are predetermined. The actuals are compared with budgets to reveal deviations and individuals responsible for the same. 22. What are the objectives of Analysis and Interpretation? a. To measure managerial efficiency of the firm. b. To ascertain earning capacity in future period. c. To measure utilization of various assets during the period. d. To compare operational efficiency of similar concerns engaged in the same industry. PART B QUESTIONS 1. Bring out the importance of Management Accounting. (April 2012)(April 2013) The role of management accounting and financial accounting is quite different from each other as they have different goals altogether. Management accounting measures analyzes and reports financial and non financial information that helps managers to take decisions to fulfill the goals of an organization. I. Implementing Strategy: Managers implement strategies by translating them into actions. Creating value for customers is an important part of planning and implementation of strategies. Strategic planning and implementation will include decisions regarding the design of products, services or processes, research and development, production, marketing, distribution and customer services. Each of this area is important for satisfying customers and keeping them satisfied. II. Supply Chain Analysis: Companies can also implement strategy, cut costs and create value by enhancing their supply chain. The term Supply Chain describes the flow of goods, services and information from the initial sources of RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 23 of 20

5 materials and services to the delivery of products to customers regardless of whether those activities occur in the same organization or in other organization. III. Decision Making: One of the important functions of management is decision making. Management Accounting helps in this crucial area by providing relevant information to the management. Techniques like marginal costing helps to generate information, which will be useful for taking decisions. Decisions include make or buy decisions, adding or dropping a product line, working of additional shift, shut down or continue operations, capital expenditure decisions and so on. IV. Performance Measurement: Management accounting helps immensely for the measurement of performance of the organization. The main aspect of performance measurement is comparison between the targets and actual. 2. Explain the major tools of financial analysis. (Nov -2012) (Nov 2014) The basic limitation of financial statements comprising the balance sheet and income statement do not give all the information related to financial operations and performance of a firm. In fact, they are not sufficient for future financial planning and to find out the current performance of the firm. Hence there should be a proper analysis of these financial statements which will aid in financial a n a l y s i s. The important figures and amounts in the financial statements and their relationship is the main area being concentrated in financial analysis. Financial statement analysis is a process involved in evaluating the relations that exist between component parts of financial statements so that a firm's position and performance is better understood. Financial analysis is the process of selection, relation and evaluation and interpretation. Steps in financial analysis: 1. Selecting the information relevant to the decision under consideration from the total information contained in the financial statements. 2. Arranging the information in a way to highlight significant relationships. 3. Interpretation and drawing of inferences and conclusions. Tools of Financial Analysis: Various tools and techniques are used for financial analysis. The most widely used tool is the ratio analysis. Given are the important tools of financial analysis: Comparative Financial Statement analysis or Horizontal Analysis Common Size Statement analysis or Vertical Analysis and Trend Analysis Funds flow analysis Cash flow Analysis Ratio Analysis RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 24 of 20

6 Cost Volume Profit Analysis 3. Distinguish management accounting from financial accounting. (Nov 2014) (MU April 2009) Financial accounting and management accounting are closely interrelated since management accounting is to a large extent rearrangement of the data provided by financial accounting. Moreover, all accounting is financial in the sense that all accounting systems are in monetary terms and management is responsible for the contents of the financial accounting statements. In spite of such a close relationship between the two, there are certain fundamental differences. These differences can be laid down as follows: (i) Objectives: Financial accounting is designed to supply information in the form of profit and loss account and balance sheet to external parties like shareholders, creditors, banks, investors and Government. Information is supplied periodically and is usually of such type in which management is not much interested. Management Accounting is designed principally for providing accounting information for internaluse of the management. Thus, financial accounting is primarily an external reporting process while management accounting is primarily an internal reporting process. (ii) Analyzing performance: Financial accounting portrays the position of business as a whole. The financial statements like income statement and balance sheet report on overall performance or statues of the business.on the other hand, management accounting directs its attention to the various divisions, departments of the business and reports about the profitability, performance, etc., of each of them. Financial accounting deals with the aggregates and, therefore, cannot reveal what part of the management action is going wrong and why. Management accounting provides detailed analytical data for these purposes. (iii) Data used: Financial accounting is concerned with the monetary record of past events. It is a post-mortem analysis of past activity and, therefore, out the date for management action. Management accounting is accounting for future and, therefore, it supplies data both for present and future duly analyzed in detail in the 'management language' so that it becomes a base for management action. (iv) Monetary measurement: In financial accounting only such economic events find place, which can be described in money. However, the management is equally interested in non-monetary economic events, viz., technical innovations, personnel in the organization, changes in the value of money, etc. These events affect management's decision and, therefore, management accounting cannot afford to ignore them. For example, change in the value of money may not find a place in financial accounting on account of "going concern concept". But while affecting an insurance policy on an asset RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 25 of 20

7 or providing for replacement of an asset, the management will have to take into account this factor. (v) Periodicity of reporting: The period of reporting is much longer in financial accounting as compared to management accounting. The Income Statement and the Balance Sheet are usually prepared yearly or in some cases halfyearly. Management requires information at frequent intervals and, therefore, financial accounting fails to cater to the needs of the management. In management accounting there is more emphasis on furnishing information quickly and at comparatively short intervals as per the requirements of the management. (vi) Precision: There is less emphasis on precision in case of management accounting as compared to financial accounting since the information is meant for internal consumption. (vii) Nature: Financial accounting is more objective while management accountingis more subjective. This is because management accounting is fundamentally based on judgment rather than on measurement. (viii) Legal compulsion: Financial accounting has more or less become compulsory for every business on account of the legal provisions of one or the other Act. However, a business is free to install or not to install system of management accounting. 4. What are the characteristics of management accounting? (MU April 2002) The features of Management Accounting are given below. 1. The Management Accounting data are derived from both, the financial accounting and cost accounting. 2. The main thrust in management accounting is towards determining policy and formulating plans to achieve desired objectives of management. 3. Management Accounting makes corporate planning and strategy effective and meaningful. 4. It is concerned with short and long range planning and uses highly sophisticated techniques like Financial Accounting, Cost Accounting and Management Accounting, Sensitivity analysis, probability techniques, decision tree, ratio analysis etc. for planning, control and evaluation. 5. It is futuristic in approach and predictive in nature. 6. Management accounting system cannot be installed without proper cost accounting system. 7. Management Accounting systems generate various reports which are extremely useful from the Management point of view. 5. Distinguish between Management accounting and Cost accounting. (MU April 2008) Point of distinction Cost accounting Management accounting RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 26 of 20

8 Coverage It deals with ascertainment, allocation, distribution and accounting aspects of costs It is concerned with the impact and effect aspects of costs. Position in thecost accountant is generally hierarcy placed at a lower level of hierarcy than a management. accountant. Management accountant assumes a superior level in the management hierarcy. Approach Emphasis Narrow, as the focus is, primarily on cost data It lays emphasis on cost ascertainment and cost control. Wider, as one may have to use certain economic and statistical data along with costing data to assist managerial decision making. It is used as a decision making technique. Scope The scope of cost accounting is limited to important techniques like variable costing,. break-even analysis and standard costing. It Makes use of other techniques like funds flow, ratio analysis, cash flow etc. in addition to variable costing, break-even analysis and standard costing. This includes financial accounting, tax planning and tax accounting. Focus It focuses on short term planning. Sophisticated tools not employed for forecasting purposes. It focuses on sort range and long range planning and uses Sopmsticated technique in the planning and control process. 6. Explain the techniques used in Management Accounting. Management accounting uses the following tools to properly discharge its duty towards management (i) Financial Accounting : As stated earlier management accounting is mainly concerned with re-arranging the information provided by the financial accounting in a way most suitable for managerial decision-making. Hence, it cannot effectively discharge its functions without a properly designed financial accounting system. (ii) Financial Statement Analysis: Financial statement analysis is concerned with methodical classification and evaluation of the information RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 27 of 20

9 provided by the income statement and the balance sheet so as to afford full diagnosis of the profitability and financial soundness of the business. Hence, financial statement analysis is also a useful tool of management accounting. (iii) Funds Flow Analysis : This is based on funds flow statement, which reveals the changes in the working capital position over a period of time. Working capital is considered to be the life-blood of the business and hence its effective and efficient management is necessary for the very survival of the business. Funds flow analysis is, therefore, an important tool of management accounting. (iv) Cash Flow Analysis : Cash flow analysis helps the business in its liquidity planning. It tells the management about the sources and applications of cash. It enables an enterprise for adjusting the liquidity position, re-arranging the maturity structure of its debts and making arrangements for availability of cash at the times desired. (v) Budgetary Control : This involves framing of budgets, comparison of actual performance with the budgeted figures, computation of variances, and undertaking remedial measures for minimizing the variances or revising the budgets, if necessary. The technique of budgetary control helps the management in planning their operations and improving their performance. Hence, it is an important tool of management accounting. (vi) Management Reporting : The efficiency of a business to a large extent is governed by the pertinence and regularity of the information provided to the managerial personnel. As a matter of fact, the ultimate effectiveness of information is itself dependent upon the form and timing of its presentation. Hence, an effective and efficient management information or reporting system is one of the important tools of management accounting. (vii) Cost Analysis : In today s world of competition, the importance of cost analysis cannot be under emphasized. Cost analysis includes applications of both costing methods, viz., job costing, process costing, etc., arid costing techniques, viz., marginal costing, absorption costing, uniform costing etc. All these methods and techniques come in the ambit of Cost Accounting. 7. Discuss the various steps required for installing Management accounting system. (MU Oct. 2003) RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 28 of 20

10 Installation of Management accounting system involves the following steps: (a) Organisation Manual : The first step is to prepare an organisational manual. The manual will clearly pin point the duties and responsibilities of each level of management and the horizontal and vertical relationship among the key personnel. (b) Preparation of various forms and reports : The second step in the installation process is designing the perform of various and reports. The objective should be to minimize their under and simplify them to avoid Bureaucratization. (c) Requisite Staffing : The staff required for implementing the system are to be recruited and trained. (d) Classification of Accounts : Financial and cost accounts should be classified, confined and integrated to the extent possible to suit the requirement of management accounting. (e) Setting up of cost centres: Investment centres, profit centres, cost centres and budget centres are to be clearly set up so that information can be collected and analysed in relation to each of them. (f) Introducing Management Accounting Techniques : Various techniques of management accounting are to be introduced, based on the needs of the firm, and practicability. (g) Providing for usage of Operations Research (O.R) Techniques : Everyday new challenges are faced because business is operated under changing economic, political and social environment. Operations Research Techniques will be essential to cope up with the emerging problems. 8. Explain the nature of financial statements. Financial statements are prepared to review the state of investment in a business and result achieved during the specific period. They reflect recorded facts, accounting conventions and personal judgments. The nature and accuracy of the data shown in the financial statements are affected by the following facts: (I) Based on recorded facts : The transactions affecting the business are recorded in the books and shown in the financial statements at the same values. For example, fixed assets are recorded in the books at cost price and shown in the balance sheet at cost price less depreciation. (II) Accounting conventions : The financial statements are prepared by following certain accounting conventions and principles. Accounting itself is a dynamic science and accountants have developed, from time to time, a number of conventions on the basis of experience. (III) Postulates : Accountants always take some facts as accepted or postulates. In other words, business transactions are recorded on certain assumptions such as going concern, stable value of rupee, profit RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 29 of 20

11 (IV) accrual, etc.. these postulates or assumptions are reflected in the financial statements. Personal judgments : Even though a number of conventions and assumptions have been propounded in Accountancy, their use is affected by the personal judgment of accountants. That is why financial statements prepared by two different persons of the same concern give dissimilar results and this is due to different personal judgment in using or applying particular conventions. 9. From the following Profit and Loss Account of Ram Ltd. for the year ending 31st December 1998, and 1999 prepare common size Income Statement and give your interpretation. Profit & Loss Ale of Ram Ltd. for the year ending 31st December 1998 (Rs.) 1999 (Rs.) Net Sales Less Cost of Goods sold Gross Margin Less Operating Expenses Income before interest & tax Less Interest Net Income before Tax Less 50% 22,30,000 15,35,000 6,95,000 4,02,000 2,93,000 18,000 2,75,000 1,37,500 31,85,000 22,70,000 9,15,000 6,02,000 3,13,000 30,000 2,83,000 1,41,500 Net Income After Tax 1,37,500 1,41,500 Solution : Common Size Income Statement of Ram Ltd. for the year during 31st December Item Rs. %age Rs. %age RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 30 of 20

12 Net Sales Less cost of goods sold Gross Margin Less operating expenses Income Before interest & tax Less interest Net Income before Tax Less Tax Net income tax Comments 22,30,000 15,35, ,85,000 22,70, ,95,000 4,02,000 2,93, ,15,000 6,02,000 3,13, , , ,75,000 1,37, ,83,000 1,41, ,37, ,41, The absolute figures reveal that sales, cost of goods sold and gross margin all have increased over the last year. But the common size statement reveals that cost of goods sold has increased hi 1999 in relation to sales. Consequently gross profit margin has declined during the current year. Similarly, net income after tax, in terms of absolute figures, shows an increase on the previous year, but the rate of net profit on sales in 1999 in 4.45 as against 6.15 in Thus, the overall profitability has decreased in 1999 due to rise in cost of sales. 10. Interpret the results of operations of a manufacturing concern using trend ratios, on the following information: (Amount in 000 Rupees) For the year ended 31st March Items Sales (net) 13,000 12,000 9,500 10,000 Cost of goods sold 7,280 6,960 5,890 6,000 Gross Profit 5,720 5,040 3,610 4,000 Selling Expenses 1,200 1, ,000 Net Operating Profit 4,520 3,940 2,640 3,000 RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 31 of 20

13 Solution : Trend Ratios 31st March, 1996 = 100 Items Sales Gross of Goods sold Gross Profit Selling Expenses Net Operating Profit Interpretation From the above statement the following points are worth noting: (a) The sales volume, cost of goods sold and selling expenses all declined in 1997 as compared to 1996 but the decrease in cost of goods sold and selling expenses was lesser to the decrease in sales volume. (b) The sales volume, cost of goods sold and selling expenses in 1998 and 1999 have increased in comparison to 1996 but the increase in cost of goods sold and selling expenses is lesser to the increase in sales volume. In conclusion, it can be said that a large proportion of cost of goods sold and selling expenses is fixed and is not affected by changes in sales volume. This fact also becomes clear from this fact that in 1997 when sales fell down, the decrease in the company s net operating profit was faster to sales volume and in 1999 when the sales volume increased, the increase in company s net profit was faster to sales volume. PART C QUESTIONS 1. What are the advantages of Management Accounting? (April 2012) (April 2013) Management accounting provides invaluable services to management in the performance of its functions effectively as explained below : 1. Planning : It involves formulation of policies, setting up of goals RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 32 of 20

14 and initiating necessary programmes for achievement of the goals. Management accounting makes an important contribution in performance of this function. It makes available the relevant data after pruning and analysing them suitably by effective planning and decision-making. 2. Controlling It involves evaluation of performance keeping in view that the actual performance coincides with the planned one, and remedial measures are taken in the event of variation between the two. The techniques of budgetary control, standard costing and departmental operating statements greatly help in performing this function. As a matter of fact the entire system of control is designed and operated by the management accountant designated as controller. 3. Coordinating : It involves interlinking of different divisions of the business enterprise in a way so as to achieve the objectives of the organisation as a whole. Thus, perfect coordination is required among production, purchase, finance, personnel, sales, departments, etc. Effective coordination is achieved through departmental budgets and reports which from the nucleus of management accounting. 4. Organising : It involves grouping of operative action in a way as to identify the authority and responsibility within the organisation. Management accounting, here also plays a prominent role. The whole organisation is divided into suitable profit or cost centres. A sound system of internal control and internal audit for each of the cost or profit centres helps in organising and establishing a sound business structure 5. Motivating : It involves maintenance of a high degree of morale in the organisation. Conditions should be such that each person gives his best to realise the goals of the enterprise. The superiors should be in a position to find out whom to demote or promote and to reward or penalise. Periodical department profit and loss accounts, budgets and reports go a long way in achieving this objective. RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 33 of 20

15 6. Communicating : It involves transmission of data, result, etc. both to the insiders as well outsiders. The orders of the supervisors should be communicated to the subordinates while the results achieved by the subordinates should be reported to the, supervisors. Moreover, the management owes a duty to the creditors, prospective investors, shareholders, etc. to communicate to them about the progress, financial position, etc. of the enterprise, Management accounting helps the management in performance of this function by developing a suitable system of reporting which emphasis and highlights the relevant facts. Management accounting is thus helpful to the management in every field of activity. This is the reason why management accountant is considered not only a service are to management but also a part of management. 2. What are the objectives of Management Accounting? (Nov -2012) (MU Nov 2007) The fundamental objective of management accounting is to enable the management to maximize profits or minimize losses. The evolution of management accounting has given a new approach to the function of accounting. The main objectives of management accounting are as follows: a. Planning and Policy Formulation: Planning involves forecasting on the basis of available information, setting goals; framing polices determining the alternative courses of action and deciding on the programme of activities. Management accounting can help greatly in this direction. It facilitates the preparation of statements in the light of past results and gives estimation for the future. b. Interpretation process: Management accounting is to present financial information to the management. Financial information is technical in nature.therefore, it must be presented in such a way that it is easily understood. It presents accounting information with the help of statistical devices like charts, diagrams, graphs, etc. c. Assists in Decision-Making Process: With the help of various modern techniques management accounting makes decision-making process more scientific. Data relating to cost, price, profit and savings for each of the available alternatives are collected and analyzed and thus it provides a base for taking sound decisions. d. Controlling: Management accounting is a useful tool for managerial control. Management accounting tools like standard costing and budgetary control are helpful in controlling performance.cost control is affected through the RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 34 of 20

16 use of standard costing and departmental control is made possible through the use of budgets. Performance of each and every individual operation is controlled with the help of management accounting. e. Reporting: Management accounting keeps the management fully informed about the latest position of the concern through reporting. It helps management to take proper and quick decisions. The performances of various departments are regularly reported to the top management. f. Facilitates Organizing: Since management accounting stresses more on Responsibility Centers with a view to control costs and responsibilities, it also facilitates decentralization to a greater extent.thus, it is helpful in setting up effective and efficient organization framework. g. Facilitates Coordination of Operations: Management accounting provides tools for overall control and coordination of business operations. Budgets are important means of coordination. 3. Enumerate the limitations of management accounting. (Nov 2014) Management accounting, being comparatively a new discipline, suffers from certain limitations, which limit its effectiveness. These limitations are as follows: Limitations of basic records: Management accounting derives its information from financial accounting, cost accounting and other records. The strength and weakness of the management accounting, therefore, depends upon the strength and weakness of these basic records. In other words, their limitations are also the limitations of management accounting. Persistent efforts: The conclusions draws by the management accountant are not executed automatically. He has to convince people at all levels. In other words, he must be an efficient salesman in selling his ideas. Management accounting is only a tool: Management accounting cannot replace the management. Management accountant is only an adviser to the management. The decision regarding implementing his advice is to be taken by the management. There is always a temptation to take an easy course of arriving at decision by intuition rather than going by the advice of the management accountant. Wide scope: Management accounting has a very wide scope incorporating many disciplines. It considers both monetary as well as nonmonetary factors. This all brings inexactness and subjectivity in the conclusions obtained through it. Top-heavy structure: The installation of management accounting system requires heavy costs on account of an elaborate organization and numerous rules and regulations. It can, therefore, be adopted only by big concerns. Opposition to change: Management accounting demands a break away from traditional accounting practices. It calls for a rearrangement of the personnel and their activities, which is generally not like by the people involved. RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 35 of 20

17 Evolutionary stage: Management accounting is still in its initial stage.it has, therefore, the same impediments as a new discipline will have, e.g., fluidity of concepts, raw techniques and imperfect analytical tools. This all creates doubt about the very utility of management accounting. 4. What do you mean by Financial Statements? What are its objectives? (MU April 2002) Financial statements refer to at least two statements which the accountant prepares at the end of a given period of time for the business enterprise. These statements are : 1. Profit and Loss A/c which is prepared to ascertain the net results of a year s working of the business. 2. Balance Sheet which is prepared to ascertain the financial position of the business as on a particular date. In the case of a limited company, financial statements also include Profit and Loss Appropriation Account. Sometimes the Statement of Sources and Applications of Funds also forms part of the financial statements. Financial statements are prepared primarily for decision-making. They play a dominant role in setting the framework of managerial decisions. But the information provided in the financial statements is not an end in itself as no meaningful conclusions can be drawn from these statements alone. However, the information provided in the financial statements is of immense use in making decisions through analysis and interpretation of financial statements. Financial analysis is the process of identifying the financial strengths and weaknesses of the firm by properly establishing relationship between the items of the balance sheet and the profit and loss account. There are various methods or techniques used in analysing financial statements, such as comparative statements, common-size statements, trend analysis, schedule of changes in working capital, funds flow and cash flow analysis.and ratio analysis. Objectives of Financial Analysis Financial analysis is helpful in assessing the financial position and profitability of a concern. This is done through comparison by ratios for the same concern over a period of years; or for one concern against another; or for one concern against the industry as a whole; or for one concern against the predetermined standards; or for one department of a concern against RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 36 of 20

18 other departments of the same concern. Accounting ratios calculated for a number of years show the trend of the change of position, i.e., whether the trend is upward or downward or static. The ascertainment of trend helps us in making estimates for the future. For example, ratios of gross profit to sales for the last five years indicate a rising trend. We can safely estimate that ratio of gross profit to sales for the next years will also rise. Keeping in view the importance of accounting ratio the accountant should calculate the ratios in appropriate form as early as possible, for presentation to management for managerial control. In short, the main objectives of analysis of financial statements are to assess : (i) (ii) (iii) (iv) (v) (vi) (vii) The present and future earning capacity or profitability of the concern, The operational efficiency of the concern as a whole and of its various parts or departments, The short-term and long term solvency of the concern for the benefit of the debenture holders and trade creditors, The comparative study in regard to one firm with another firm or one department with another department, The possibility of developments in the future by making forecasts and preparing budgets, The financial stability of a business concern, and The long-term liquidity of its funds. RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 37 of 20

19 5. The following are the Balance sheets of a concern for the years 2010 and Prepare a comparative Balance sheet and study the financial position of the concern. Liabilities Assets Equity share capital Land and Building General reserve Plant and Machinery Profit & Loss A/c Furniture % Debentures Stock Sundry Creditors Debtors Bills Payable Cash at Bank Solution:- Cash in Hand Comparative Balance sheets as on 31st March 2010 and 2011 Increase/ Particulars 31/03/ /03/2011 (Decrease) Percentage Increase/ (Decrease) LIABILITIES Equity Share Capital General Reserve Profit and Loss A/c Share Holders fund[a] % Debentures (1000) (20) Sundry Creditors Bills Payable Borrowed Funds [B] (840) (14.71) Total Funds [A+B] RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 38 of 20

20 ASSETS FIXED ASSETS Land and Building Plant and Machinery Furniture Total Fixed Assets [a] CURRENT ASSETS Stock (300) (20) Debtors Cash at Bank (100) (66.67) Cash in Hand Total Current Assets[b] (280) (13.93) Total Assets [a+b] Comments: Fixed Assets have increased moderately by 15.32% during Current Assets have also increased similarly except Cash at Bank which actually decreased by 66.67%.Total borrowed funds decreased during the year while shareholders funds increased by over 30% mainly due to issue of new shares and accumulation of profits. Overall financial position has improved satisfactorily during RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-1 Answers/VER 1.0 Unit 1 Answers Page 39 of 20

21 UCM 62 MANAGEMENT ACCOUNTING Unit-2 Ratio Analysis Type:20% Theory 80% Problem Question & Answers PART A 1. What is meant by Ratio Analysis? (April 2012) Ratio Analysis is the process of determining and presenting the relationship of items and groups of itemsin the financial statemnts. The information provided by the financial statements in absolute form is historical and static, conveying very little meaning to the users. 2. What are solvency ratios? (Nov 2014) Short Term Solvency 1. Current Ratio 2. Liquidity Ratio 3. Absolute Liquidity Ratio Long Term Solvency 1. Fixed Assets Ratio 2. Debt Equity Ratio 3. Proprietary Ratio 4. Capital Gearing Ratio 3. Define ratio. (Nov 2014) According to Accountant s Handbook by Wixon, Kell and Bedford, a ratio is an expression of the quantitative relationship between two numbers. In simple language ratio is one number expressed in terms of another and can be worked out by dividing one number into the other 4. How do you calculate Interest coverage ratio? (Nov 2014) h = h 5. What is turnover ratio? (Nov 2014) The overall performance of a company is evaluated on the basis of its ability to make sales using minimum resources. Turnover ratios reflect the speed at which assets are utilized in effecting sales. A higher turnover ratio means efficient use of funds by management in generating more sales. RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 1 of 21

22 6. Credit sales 25,000; Return inwards 1,000; Debtors 3,000; Bills Receivables 1,000. Calculate debtors turnover ratio Debtors Turnover Ratio = Net Credit Sales / Average Trade Debtors = 24,000 / 4,000 = 6 Times 7. Credit sales 25,000; Return inwards 1,000; Debtors 3,000; Bills Receivables 1,000. Calculate average collection period. Solution: Average collection period can be calculated as follows: Average Collection Period = (Trade Debtors No. of Working Days) / Net Credit Sales 4, / 24,000 = 60 Days 8. Cash 10,000 Bills Receivables 5,000 Sundry Debtors 25,000 Stock 20,000 Sundry Creditors 30,000 Cost of sales 1,50,000 Calculate working capital turnover ratio Solution:- Working Capital Turnover Ratio = Cost of Sales / Net Working Capital Current Assets = 10, , , ,000 = 60,000 Current Liabilities = 30,000 Net Working Capital = Current assets Current liabilities = 60,000 30,000 = 30,000 So the working Capital Turnover Ratio = 150,000 / 30,000 = 5 times 9. Total sales = 520,000; Sales returns = 20,000; Cost of goods sold 400,000 Required: Calculate gross profit ratio. Gross Profit Ratio = (Gross profit / Net sales) 100] =[(520,000 20,000) 400,000] = 100,000 Gross Profit Ratio = (100,000 / 500,000) 100 = 20% 10. Cost of goods sold is 180,000 and other operating expenses are 30,000 and net sales is 300,000. Calculate operating ratio. Operating Ratio = [(Cost of goods sold + Operating expenses) / Net sales] 100 RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 2 of 21

23 Operating ratio = [(180, ,000) / 300,000] 100 = [210,000 / 300,000] 100 = 70% 11. Suppose net income in an organization is 60,000 where as shareholder's investments or funds are 400,000. Calculate return on shareholders investment or net worth [Return on share holder's investment = {Net profit (after interest and tax) / Share holder's fund} 100] Return on share holders investment = (60,000 / 400,000) 100 = 15% 12. Calculate return on equity share capital from the following information: Equity share capital): 1,000,000 ; 9% Preference share capital: 500,000; Taxation rate: 50% of net profit; Net profit before tax: 400,000. Return on Equity Capital = [(Net profit after tax Preference dividend) / Equity share capital] 100 Return on Equity Capital (ROEC) ratio = [(400, ,000 45,000) / 1000,000 ) 100] = 15.5% 13. How do you calculate Overall Profitability Ratio? Return of Investment (or) Overall Profitability ratio:.. = 100 Where:- Operating Profit = Gross Profit Operating Expenses (OR) Operating Profit = (Net Profit + Non-operating Expenses) Non-operating incomes Capital Employed = Net Working Capital + Fixed Assets (OR) Capital Employed = (Share Capital + Reserves & Surplus + Long-term loans) Fictitious Assets 14. If the net profit (after taxes) of a firm is 75,000 and its fixed interest charges on long-term borrowings are 10,000. The rate of income tax is 50%. Calculate debt service ratio / interest coverage ratio Interest Coverage Ratio = Net Profit before Interest and Tax / Fixed Interest Charges Interest Coverage Ratio = (75, , ,000) / 10,000 = 16 times Income after interest is 75,000 + income tax 75,000 RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 3 of 21

24 PART - B 1. Explain the Nature of Ratio analysis Ratio analysis is a technique of analysis and interpretation of financial statements. It is the process of establishing and interpreting various ratios for helping in making certain decisions. It is not an end in itself and is only a means of better understanding of financial strengths and weakness of a firm. A ratio will be meaningful only when it is analysed and interpreted. The following are the four steps involved in ratio analysis. 1. Selection of relevant data from the financial statements depending upon the objective of the analysis. 2. Solution of appropriate ratios from the above data 3. Comparison of the calculated ratios with the ratios of the same firm in the past, or the ratios developed from projected financial statements or the ratios of some other firms or the comparison with ratios of the industry to which the firm belongs. 4. Interpretation of the ratios. Ratio analysis will be meaningful only when the analyst will consider the following factors while interpreting ratios: 1. Accuracy of financial statements 2. Clear about the objective or Purpose of analysis 3. Selection of appropriate ratios that suits the need of the analyst 4. Use of appropriate standards while analyzing ratios 5. Calibre of the analyst 6. Analyst should understand that the ratios provide only a base 2. Explain the Significance of Ratio analysis Mainly the persons interested in the analysis of the financial statements can be grouped under three heads (i) Owners or investors, (ii) Creditors and (i ii) Financial executives. The importance of analysis varies materially with the purpose for which it is calculated. The primary information which seeks to be obtained from these statements differs considerable reflecting the purpose that the statement is to serve. The significance of these ratios varies for these three groups as their purpose differs widely. These investors are mainly concerned with the earning capacity of the company whereas the creditors including bankers and financial institutions are interesting in knowing the ability of enterprise to meet its financial obligations timely. The financial executives are concerned with evolving analytical tools that will measure and compare costs, efficiency, RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 4 of 21

25 liquidity and profitability with a view to making intelligent decisions. {a} Managerial uses of Ratio analysis 1. Helps in decision making 2. Helps in financial forecasting and planning 3. Helps in communicating 4. Helps in co-ordination 5. Helps in control {b}utility to Share holders/ Investors An investor is particularly interested to know about the Long term financial position and profitability position. Ratio analysis will be useful to the investor in making up his mind whether present financial position of the concern warrants further investment or not. {c}utility to Creditors The creditors or suppliers extend short term credit to the concern. They are interested to know whether financial position of the concern warrants their payments at a specified time or not. {d}utility to the Employees The employees are also interested in the financial position of the concern especially profitability because their wage increases and amount of fringe benefits are related to the volume of profits earned by the concern. {e}utility to government Government is interested to know the overall strength of the industry. Various financial statements published by industrial units are used to calculate ratios for determining short term, long term and overall financial position of the concerns. Ratio analysis also serves this purpose. {f}tax audit requirements Clause 32 of the Income tax Act requires that the business should calculate Gross Profit/turnover, Net Profit/turnover, stock in trade/ turnover and Material consumed/finished goods produced ratios. 3. What are all the limitations of Ratio Analysis The ratio analysis is one of the most powerful tools of financial management. Though ratios are simple to calculate and easy to understand, they suffer from some serious limitations. 1. Limited use of a single ratio. A single ratio usually does not convey much of a sense. To make a better interpretation a number of ratios have to be calculated which is likely to confuse the analyst than help him in making any meaningful conclusion. RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 5 of 21

26 2. Lack of adequate standards. There are no well accepted standards or rules of thumb for all ratios which can be accepted as norms. It renders interpretation of the ratios difficult. 3. Inherent limitations of accounting. Like financial statements, ratios also suffer from the inherent weakness of accounting records such as their historical nature. Ratios of the past are not necessarily true indicators of the future. 4. Change of accounting procedure. Change in accounting procedure by a firm often makes ratio analysis misleading. E.g., a change in the valuation methods of inventories, from FIFO to LIFO increases the cost of sales and reduces considerably the value of closing stocks which makes stock turnover ratio to be lucrative and an unfavorable gross profit ratio. 5. Window dressing. Financial statements can easily be window dressed to present a better picture of its financial and profitability position to outsiders. Hence, one has to be very careful in making a decision from ratios calculated from such financial statements. But it may be very difficult for an outsider to know about the window dressing made by the firm. 6. Personal bias Ratio are only means of financial analysis and not an end in itself. Ratios have to be interpreted and different people may interpret the same ratio in different ways. 7. Incomparable. Not only industries differ in their nature but also the firms of the similar business widely differ in their size and accounting procedures etc. It makes comparison of ratios difficult and misleading. Moreover, comparisons are made difficult due to differences in definitions of various financial terms used in ratio analysis. 8. Absolute Figures Distortive. Ratios devoid of absolute figures may prove distortive as ratio analysis is primarily a quantitative analysis and not a qualitative analysis 9. Price level changes. While making ratio analysis, no consideration is made to the changes in price levels and this makes the interpretation of ratios invalid. 10. Ratios no substitutes. Ratio analysis is merely a tool of financial statements. Hence, ratios become useless if separated from the statements from which they are computed. RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 6 of 21

27 4. The following Balance sheets of ABC Limited is given. Calculate. (a)current Ratio (b)acid Test Ratio (c)debt- Equity Ratio (d)proprietary ratio (e) Capital gearing ratio (f)fixed assets to shareholders Funds Ratio Balance sheet as at 31st March 2012 Liabilities Amount Assets Amount Equity share capital Fixed Assets % Preference share capital Inventory General Reserve debtors Profit and Loss A/c cash % Debentures Creditors Solution (a)current ratio = current assets / current liabilities = /45000 = 3.67 :1 Current assets = inventory + debtors + cash = = [b] Liquid ratio = liquid liabilities / current liabilities Liquid assets -= current assets inventory = = Liquid ratio = /45000 = 2.56 :1 [c] debt equity ratio = outsiders funds / shareholders funds Outsiders funds = debentures + creditors = = Shareholders funds = equity capital + preference capital + reserves+ profit and loss account = = RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 7 of 21

28 Debt equity ratio = / = 0.46 :1 [d]proprietary ratio = Shareholder s Funds / Total Assets Shareholder s Funds = / = 0.68 :1 [e] Capital gearing ratio = Fixed Income bea r ing Secu r it ies Equity Shar ehold er s fund = 75000/ = 0.38 :1 [f] Fixed assets to shareholders funds = Fixed Asset Shareholders fund = / = 0.69 :1 5. Calculate capital gearing ratio from the following data: [Capital Gearing Ratio = Equity Share Capital / Fixed Interest Bearing Funds] Equity Share Capital Reserves & Surplus Long Term Loans 6% Debentures , , , , , , ,000 Solution: Capital Gearing Ratio 1992 = (500, ,000) / (250, ,000) = 8 : 5 (Low Gear) 1993 = (400, ,000) / (300, ,000) 6 : 7 (High Gear) It may be noted that gearing is an inverse ratio to the equity share capital. Highly Geared Low Equity Share Capital Low Geared High Equity Share Capital RAAK/B.COM/S.ANURADHA/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 8 of 21

29 PART - C 1. Explain the classification of ratios. RATIO ANALYSIS Classification of Ratios by Purpose / Function Profitability Ratios Turnover Ratios Financial Ratios or Solvency Ratios 1. Return on Investment 2. Return on Shareholders funds 3. Return on Equity Shareholders funds 4. Return on Total Assets 5. Gross Profit Ratio 6. Net Profit Ratio 7. Operating Ratio 8. Operating Profit Ratio 9. Expenses Ratio 10. Earnings per share 11. Price Earnings Ratio 12. Pay-out ratio 13. Retained Earnings Ratio 14. Interest Cover Ratio 15. Dividend Yield Ratio 1. Stock Turnover Ratio 2. Debtors Turnover Ratio 3. Creditors Turnover Ratio 4. Working Capital Turnover Ratio 5. Fixed Assets Turnover Ratio 6. Capital Turnover Ratio Short Term Solvency 1. Current Ratio 2. Liquidity Ratio 3. Absolute Liquidity Ratio Long Term Solvency 1. Fixed Assets Ratio 2. Debt Equity Ratio 3. Proprietary Ratio 4. Capital Gearing Ratio I. Profitability Ratios 1. Return of Investment (or) Overall Profitability ratio:.. = Where:- Operating Profit = Gross Profit Operating Expenses (OR) RAAK/B.COM/LAKSHMINARAYANAN/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 9 of 21

30 Operating Profit = (Net Profit + Non-operating Expenses) Non-operating incomes Capital Employed = Net Working Capital + Fixed Assets (OR) Capital Employed = (Share Capital + Reserves & Surplus + Long-term loans) Fictitious Assets 2. Return on Shareholders funds : = 3. Return on Equity shareholders funds (or) Return on Net worth: =. Where:- Net Profit after interest and tax = Net profit (Interest + Tax) Shareholders funds = (Equity share capital + Pref. Share capital + Reserves + Profit) Losses Where:- Equity Share holders funds Or Net worth = (Equity share capital + Reserves + Profit) Losses 4. Return on Total Assets: Where:- = = (OR) Fictitious Assets = Preliminary Expenses + P & L A/c Debit Balance or Net Losses + 5. Gross Profit Ratio: Where:- = RAAK/B.COM/LAKSHMINARAYANAN/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 10 of 21

31 Gross Profit = Net Sales Cost of Goods Sold Net Sales = (Cash Sales + Credit Sales) Sales Returns 6. Net Profit Ratio: = Where:- Net Profit = (Operating profit + Non-Operating incomes) Non-Operating Expenses Operating profit = Gross Profit Operating Expenses (OR) Operating profit = (Net Profit + Non-operating Expenses) Non-operating incomes Net Sales = (Cash Sales + Credit Sales) Sales Returns 7. Operating Ratio: + = Where: Cost of Goods Sold = Sales Gross Profit (OR) Cost of Goods Sold = (Opening Stock + Purchase + Direct Expenses) Closing Stock Operating Expenses = Administrative Expenses + Selling & Distribution Expenses Net Sales = (Cash Sales + Credit Sales) Sales Returns 8. Operating Profit Ratio: Where: Operating profit = Gross Profit Operating Expenses (OR) Operating profit = (Net Profit + Non-operating Expenses) Non-operating incomes Net Sales = (Cash Sales + Credit Sales) Sales Returns Operating Expenses = Administrative Expenses + Selling & Distribution Expenses 9. Expenses ratios: A. Administrative expenses ratio: = RAAK/B.COM/LAKSHMINARAYANAN/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 11 of 21

32 B. Selling and distribution expenses ratio: C. Financial expenses ratio: 10. Earnings Per Share: =. 11. Price Earnings Ratio: = 12. Pay-out Ratio: = = (OR) 13. Retained Earnings Ratio: = (OR) = Note: Retained earnings at least 20% of the net profit before declaring any dividend is a statutory requirement 14. Interest Cover or Fixed charges cover: RAAK/B.COM/LAKSHMINARAYANAN/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 12 of 21

33 = 15. Dividend yield Ratio: = II. Turnover Ratios or Activity Ratios 1. Inventory or Stock Turnover Ratio: = ( ) = Where: Cost of Goods Sold = Sales Gross Profit (OR) Cost of Goods Sold = (Opening Stock + Purchase + Direct Expenses) Closing Stock = 2. Debtors Turnover Ratio: = = ( ) Where: Net Credit Sales = Total sales (Cash sales + Sales Returns) = ( & ) ( & ) 3. Creditors Turnover Ratio: = RAAK/B.COM/LAKSHMINARAYANAN/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 Unit 1 Answers Page 13 of 21

34 Where: = ( ) Net Credit Purchases = Total Purchases (Cash Purchases + Purchases Returns) = ( & ) ( & ) 4. Working Capital Turnover Ratio: = Where: Cost of Goods Sold = Sales Gross Profit (OR) Cost of Goods Sold = (Opening Stock + Purchase + Direct Expenses) Closing Stock Net Sales = (Cash Sales + Credit Sales) Sales Returns Net Working Capital = Current assets Current liabilities 5. Fixed Assets Turnover Ratio: Where: Net Fixed Assets = Fixed Assets Depreciation = 6. Capital Turnover Ratio: = (OR) Where: Capital Employed = Net Working Capital + Fixed Assets (OR) Capital Employed = (Share Capital + Reserves & Surplus + Long-term loans) Fictitious Assets Capital Employed = Total Assets Current liabilities Capital Employed = Total Assets Shareholders funds = (Equity share capital + Pref. Share capital + Reserves + Profit) Losses RAAK/B.COM/LAKSHMINARAYANAN/III YEAR/VI Sem/UCM 62/MGT. ACC/UNIT-2 Answers/VER 1.0 = Unit 1 Answers Page 14 of 21