Assignment No. 1

AACCCCOOUUNNTTIINNGG && FFIINNAANNCCEE ((55556666))

Executive MBA/MPA

ZAHID NAZIR Roll.No. AB523655 Semester:Autumn 2008

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Question 1

a). State the group of persons having an interest in a

business organization and examine the nature of their

information needed. Differentiate between

recordative, interpretative and auditive functions of

Accounting.

Marks: 10

(b) How can accounting reports, prepared on a historical

basis after the close of a period, be useful to

managers in directing the activities of business?

Marks: 10

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a).

There are several groups of people who have a stake in a business

organization. They are the following:

• Managers

• Shareholders

• Creditors

• Employees

• Customers

• Banks

• Financial Investors

• Suppliers

• Labour Union

• Potential Investors

Additionally the community at large has economic and social interest

in the activities of such organizations. This interest is expressed at

national level by the concern of government in various aspects of

firm’s activities such as their economic well being, their contribution

to welfare, their part in the growth of national product.

Information needs of various users are:

SHAREHOLDERS & INVESTORS

Since shareholders and other investors have invested their wealth in

a business enterprise, they are interested in knowing about the

profitability of the enterprise, the soundness of their investment and

the growth prospects of the enterprise. Historically, business

accounting developed to supply information to those who had

invested their funds in business enterprises.

CREDITORS

Creditors may be short term or long term lenders. Short term

creditors include suppliers of materials, goods or services. They are

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normally known as trade creditors. Long term creditors are those

who have lent money for a longer period, usually in the form of

secured loans. The main concern of creditors is focused on the credit

worthiness of the firm and its ability to meet its financial obligations.

Therefore they are concerned with the liquidity of the firm, its

profitability and financial soundness. In other words creditors are

mainly interested in information which deals with the solvency,

liquidity and profitability so that they could assess the financial

standing of the firm.

EMPLOYEES

The view that business organizations exist to maximize the returns to

shareholders has been undergoing change as a result of social

changes. A broader view is taken today of economic and social role of

management. The importance of harmonious industrial relations b/w

management and employees can not be over emphasized. That the

employee has a stake in the outcomes of several managerial

decisions is recognized. Greater emphasis on industrial democracy

through employee participation in management decisions has

important implications for the supply information to employees.

Matters like settlement of wages, bonus and profit sharing rest on

adequate disclosure of relevant facts.

GOVERNMENT

In the mixed economy it is considered to be the responsibility of the

government to direct the operation of the economic system in such a

manner that it sub serves the common good. Controls and

regulations on the operation of government agencies collect

information about various aspects of activities of business

organizations. All the information is very important in evolving

policies for managing the economy.

MANAGEMENT

Organizations may or may not exist for the sole purpose of profit.

However, information needs of the managers of both kinds of

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organizations are almost the same, because the managerial process

i.e. planning, organizing and controlling is the same. All these

functions have one thing in common and it is that they all are

concerned with making decisions, which have their own specific

information requirements.

CONSUMERS

Consumer organizations, media, welfare organizations and public at

large are also interested in condensed accounting information in

order to appraise the efficiency and social role of the enterprise in

different sectors of the economy i.e. what levels of profits and

outputs are being achieved and in what manner the growth is being

planned by the enterprises in accordance with the national priorities.

Differentiate between recordative, interpretative and auditive

functions of Accounting.

RECORDATIVE FUCTION

The recording and processing of information usually accounts for a

substantial part of total accounting work. This type of accounting is

called recordative . The processing method employed for recording

may be manual, mechanical or electronic. Computers are also used

widely in modern business for this purpose.

INTERPRETATIVE FUNCTION

The analytical and interpretative work f accounting may be for

internal or external uses and may range from snap answers to

elaborated reports produced by extensive research. Capital project

analysis, financial forecasts and analysis for reorganization, take over

or merger often lead to research based reports.

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AUDITIVE FUNCTION

It focuses on verification of transactions as entered in the books of

account and authentication of financial standards. This function is

done by public professional accountants.

b)

The data reports are prepared on a historical basis in the following

manner. First the data is created and collected on the basis of either

historic or predictive method. The professional methods like:

• Manual

• Mechanical

• Electronic

After the historic data is collected, it is recorded in accordance with

generally accepting accounting theory. A large number of

transactions or events have to be entered in the books of original

entry i.e. journal and ledgers in accordance with the classification

scheme already decided upon. Professional methods lead to data

recording which consist of accounting method. After this data is

evaluated by different methods like internal auditing etc. At the end

we get data reporting activity which may be internal or external.

Data Creation and Collection

Historic Predictive

Data Evaluation

Budgetary

Control

Performance

Analysis funds

Flow Analysis

Auditing

Data Recording

Accounting

Method

Professional

Methods

Manual

Mechanical

Electronic

Accounting

Theory

Data Reporting

External Internal

Scope of Accounting showing which reports are prepared

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Question 2

a). Examine the role of accounting concepts in the preparation of

financial statements. Do you find any of the accounting

concepts conflicting with each other? Give examples.

Marks: 10

(b) The transactions for Shah transport service are as follows:

1. Shah invested Rs.600,000.

2. Truck was purchased by the business for Rs.430,000.

3. Equipment purchased on credit for Rs.9,000.

4. A bill of Rs 7,200 for transporting goods was sent to Mr.

Abbassi.

5. Cash received Rs.6,000 from Mr. Abbasi

6. Received Rs.22,300 in Cash for transporting goods

7. Payment of Rs.5,000 was made for the equipment

purchased in 3.

8. Paid expenses Rs.1,700 in cash.

9. Cash Rs.1,200 withdrawn from business for Shah’s

personal use

REQUIRED:

i. Arrange the asset, liability and owners equity accounts in

an equation.

ii. Show by addition and subtraction the effects of the

transactions on the balance sheet equation. Show new

balance after each transaction and identify each owner’s

equity transaction by type.

Marks: 10

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a).

ACCOUNTING CONCEPTS

Accounting concepts are the ground rules of accounting that are (or

should be) followed in preparation of all accounts and financial

statements.

The four fundamental concepts are:

1). Accruals concept:

Revenue and expenses are taken account of when they occur

and not when the cash is received or paid out.

2). Consistency concept:

Once an entity has chosen an accounting method, it should

continue to use the same method, except for a sound reason

to do otherwise. Any change in the accounting method must

be disclosed.

3). Going concern:

It is assumed that the business entity for which accounts are

being prepared is solvent and viable, and will continue to be in

business in the foreseeable future.

4). Prudence concept:

Revenue and profits are included in the balance sheet only

when they are realized (or there is reasonable 'certainty' of

realizing them) but liabilities are included when there is a

reasonable 'possibility' of incurring them. Also called

conservation concept.

Other concepts include

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5). Accounting equation:

Total assets of an entity equal total liabilities plus owners'

equity.

6). Accounting period:

Financial records pertaining only to a specific period are to be

considered in preparing accounts for that period.

7). Cost basis:

Asset value recorded in the account books should be the actual

cost paid, and not the asset's current market value.

8). Entity:

Accounting records reflect the financial activities of a specific

business or organization, and not of its owners or employees.

9). Full disclosure:

Financial statements and their notes (footnotes) should

contain all pertinent data.

10). Lower of cost or market value:

Inventory is valued either at cost or the market value

(whichever is lower) to reflect the effects of obsolescence.

11). Maintenance of capital:

Profit can be realized only after capital of the firm has been

restored to its original level, or is maintained at a

predetermined level.

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12). Matching:

Transactions affecting both revenues and expenses should be

recognized in the same accounting period.

13). Materiality:

Relatively minor events may be ignored, but the major ones

should be fully disclosed.

14). Money measurement:

Accounting process records only those activities that can be

expressed in monetary terms (with some exceptions, as in

cost-accounting).

15). Monetary measurement:

Only the activities measurable in terms of money should be

recorded.

16) Objectivity:

Financial statements should be based only on verifiable

evidence, comprising an audit trail.

17). Realization:

Any change in the market value of an asset or liability is not

recognized as a profit or loss until the asset is sold or the

liability is paid off (discharged).

18). Unit of Measurement:

Financial data should be recorded with a common unit of

measure (dollar, pound sterling, yen, etc.). Also called

accounting conventions, accounting postulates, or accounting

principles.

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While going through all these concepts, we have developed a feeling

that they come in conflict with each other. For example, a firm

acquired a piece of land in 1975 at a price of Rs. 60,000. Factory

premises were constructed in 1976 and operation started in 1977.

The firm has a great success with a profit profile for the past 18 years.

The balance sheet for the year 1995 is being prepared and land is

required to be valued. The estimated current market price of this

land is Rs.600,000.

Should we recommend that land valued at Rs. 600,000. ? The answer

is “NO”. Obviously land would be carded on balance sheet as its

original cost of Rs. 60,000 only. This decision is supported by several

of the concepts. First of all, the stability of purchasing power of

money implied in the money measurement concept prevents us from

recognizing increase in value as a result of changing price levels. Then

the realization concept will not allow unrealized profits to be

included as long as land is held by the firm and not sold away. We

may note that the continuity or going concern concept makes any

possible market value of land irrelevant for balance sheet because

the firm has to continue in business and land will be needed by it for

its own use. In this regard, it could be argued that if land was shown

on the balance sheet as its estimated current market value, the

owner might decide to discontinue the business, sell the land and

retire. The estimate of current profit market value figure may be

suspect. It raises many questions. Do we have a market quotation for

an identical plot of land? Has a similar to land been sold recently and

can we pick it up as verifiable evidence of the current market place?

Is it possible to estimate the value of land without factory buildings

and other facilities constructed on it? The answer is “NO” and the

conservation concept will then deter us from accepting an estimate

of market value since it can not be ascertained with reasonable

accuracy.

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Question 3

Dr. Fazal Karim, a psychologist, moved from Shikarpur to set up an office

in Islamabad. After one month, the business had the following assets.

Cash in hand Rs. 2,800

Cash at bank Rs. 25,000

Debtors Rs. 12,680

Office Supplies Rs. 8,000

Office Equipment Rs. 70,500.

The creditors were Rs.12,600 for purchase of office equipment on credit.

During march 2004 following transaction were completed:

a. Paid one month rent by cheque for the office Rs.3,500

b. Billed Rs.2,460 for services rendered to a client

c. Paid Rs.3,000 by cheque for office equipment purchased

d. Paid for office supplies Rs.1,000 in cash

e. Received a cheque for Rs.23,800 for ICI for services provided to their

employees

f. Made payment on account owed Rs.3,600 by cheque

g. Withdrew Rs.5,500 from bank for personal use

h. Paid telephone bill Rs.970

i. Received Rs.1,290 cash from patients previously billed

j. Purchased additional office equipment on credit Rs.33,600

k. Paid secretary’s salary Rs.3000 by cheque.

REQUIRED:

Prepare Balance Sheet after transactions a to k has occurred

Marks: 20

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DR. FAZAL KARIM (PSYCHOLOGIST)

BALANCE SHEET

as on 31st March, 2004

Assets (PKR) Liabilities &

Owners Equity

(PKR)

Cash in Hand

Cash at Bank

Debtors

Office Supplies

Office

Equipments

2,120

30,200

13,850

9,000

1,07,100

Creditors

Capital

42,600

1,19,670

TOTAL

1,62,270

TOTAL

1,62,270

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Question 4

Following is the summarized Profit and Loss account of

Khan Enterprises for five consecutive periods. Complete

the same by supplying the missing information:

1 2 3 4 5 Sales 1000 3000 5000

Cost of Goods

Sold

500 800 2500 3000

Gross Profit 700 1000 1500

Admin Expenses 100 300 400

Selling &

Distribution Exp

150 200 500 600

Operating Profit 200 400 1000

Other Incomes 150 200 500

Net Profit

Before Tax

300 1000

Corporate

Income Tax

200 300

Profit after Tax 150 500 800

Marks: 20

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1 2 3 4 5

Sales

1000 1500 3000 4000 5000

Cost of Goods

Sold

500 800 2000 2500 3000

Gross Profit

500 700 1000 1500 2000

Admin Expenses

100 300 300 400 400

Selling &

Distribution Exp

150 200 300 500 600

Operating Profit

250 200 400 600 1000

Other Incomes

150 100 200 400 500

Net Profit Before

Tax

400 300 600 1000 1500

Corporate

Income Tax

200 150 300 500 700

Profit after Tax

200 150 300 500 800

i.e.

Gross Profit = Sales - Cost of goods sold

Net Profit = Gross Profit - Expenses

Net Profit after tax = Net profit before tax - Income tax

Net Profit before tax = Operating Profit + Other Incomes

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Question 5

a). Equipment costing Rs.76,000 was purchased by Saqib

Corporation, at the beginning of the current year. The

company will depreciate the equipment by the

declining-balance method, but it has not determined

whether the rate will be at 150 percent or 200 percent

of the straight line rate. The estimated useful life of

the equipment is eight years. Prepare a comparison of

the two alternative rates for management for the first

two years Saqib Corporation owns the equipment.

Marks: 10

b). What do you understand by cost accounting? State its

objectives. Explain what is COST and its different

elements in detail.

Marks: 10

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a).

Solution:

Rate = 100 / Estimated Life = 100 / 8 = 12.5

First rate = 12.5 x 150% = 18.75%

2nd

Rate = 12.5 x 200% = 25%

Years Computation Depreciation

Expense

Accumulative

Depreciation

Book Value

(PKR)

1st

Rate

0

1

2

76,000 x 18.75%

61,750 x 18.75%

14,250

11,578

14,250

25,828

76,000

61,750

50,172

2nd

Rate

0

1

2

76,000 x 25%

57,000 x 25%

19,000

14,250

19,000

33,250

76,000

57,000

42,750

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b).

COST ACCOUNTING

“Cost accounting is an approach to evaluating the overall costs that

are associated with conducting business.”

Generally based on standard accounting practices, cost accounting is

one of the tools that managers utilize to determine what type and

how much expenses is involved with maintaining the current

business model. When it comes to measuring how wisely company

resources are being utilized, cost accounting helps to provide the

data relevant to the current situation. One of the many benefits of

cost accounting is that it turns data into information, knowledge and

wisdom about a business entity’s operations that is useful for:

• measuring performance

• reducing or managing costs

• determining the fees or prices for goods and services

• deciding to authorize, modify or discontinue a program or

activity

OBJECTIVES OF COST ACCOUNTING

The Cost Accounting has following primary objectives.

• It enables you to budget the production operations of your

company; you can compare the actual performance of those

operations against the budget to supply each level of

management with the information essential to make timely,

accurate and effective decisions.

• It provides a detailed cost subledger to your company's

General Ledger. These principal objectives are met through the

use of the various data elements that are maintained in the

Cost Accounting database.

• Cost accounting is all about ascertaining the cost, controlling

the cost and reducing the cost.

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COST

The amount of expenses (actual / notional) incurred on or

attributable to a given thing is called cost.

However the term cost cannot be exactly defined. Its

interpretation depends on:

a). the nature of business or industry

b). the context in which is used

In a business where selling and distribution expenses are quite

normal, the cost of article may be calculated without

considering the selling and distribution overheads. For

example, prime cost include expenditure on direct materials,

direct labor and direct expenses. Money spent on material is

termed as cost of material, that spent on labor as cost of labor

and so on. However endeavor should be made to obtain as far

as possible the accurate cost of a product or service.

ELEMENTS OF COST

The elements of cost are shown in the following figure.

COST

Materials Labour Expenses

Direct Indirect Direct Direct Indirect Indirect

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The main elements of cost are:

i) MATERIALS

The substance from which the product is made is known as

material. It may be in a raw or manufactured form. It can be

direct as well as indirect.

a). Direct Material

All the materials which becomes integral part of the

finished product is called direct material. Its examples

are, all materials / components, primary packaging

materials e.g. carton, wrapping etc.

b). Indirect Material

All materials which are used for purposes ancillary to the

businesses and which cannot be assigned to specific

physical units is called indirect materials. Examples are,

consumable stores, printing and stationary material.

ii). LABOUR

Human effort needed in which materials are converted

into finished products is called labour. It is of two types.

a). Direct Labour

Labour which takes an active and direct part in the

production of a particular product is called direct labour.

Direct labour costs are traceable to specific product.

b). Indirect Labour

Labour which is not directly involved in the

manufacturing of a product e.g. labour involved in

transportation, warehouse labour, time keepers etc.

iii). EXPENSES

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They can be direct or indirect

a). Direct Expenses

Expenses which can be directly, conveniently and wholly

allocated to specific cost units are called direct expenses.

Examples are, hiring of a specific equipment for a

particular job, cost of defective work etc.

b). Indirect Expenses

Those expenses which cannot be directly, conveniently

and wholly allocated to specific cost units are called

indirect expenses. Examples are rent, lighting, insurance

charges etc.

Overheads include indirect materials, labour and

expenses, so all indirect costs are overheads.

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