IGNOU MBA MS -04 Solved Assignments 2010

8/8/2019 IGNOU MBA MS -04 Solved Assignments 2010

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IGNOU MBA MS -04 Solved Assignments 2010

Course Code : MS-04

Course Title : Accounting and Finance for Managers

Assignment Code : MS-04/SEM-I/2010

Coverage : All Blocks

Note: Please attempt all the questions and send them to the Coordinator of the Study

Centre you are attached with.

Q.1 Accounting is closely connected with control. Elaborate the statement and

discuss the role of accounting feedback in the process of control.

Solution: Controls are an integral part of any organization's financial and Accouting Process

Controls consists of all the measures taken by the organization for the purpose of Internal

accounting control and of procedures designed to promote and protect management practices,

both general and financial. Following are the role played by accounting in the process of control.

Developing an Internal Accounting Control System

The first step in developing an effective internal accounting control system is to identify those

areas where abuses or errors are likely to occur. A Guide for Management, includes the

following areas and objectives in developing an effective internal accounting control system:

Cash receipts

To ensure that all cash intended for the organization is received, promptly deposited, properly

recorded, reconciled, and kept under adequate security.

Cash disbursements

To ensure that cash is disbursed only upon proper authorization of management, for valid

business purposes, and that all disbursements are properly recorded.

Petty cash

To ensure that petty cash and other working funds are disbursed only for proper purposes, are

adequately safeguarded, and properly recorded.

Payroll

To ensure that payroll disbursements are made only upon proper authorization to bona fideemployees, that payroll disbursements are properly recorded and that related legal requirements

(such as payroll tax deposits) are complied with.

Grants, gifts, and bequests

To ensure that all grants, gifts, and bequests are received and properly recorded, and thatcompliance with the terms of any related restrictions is adequately monitored.

Fixed assets

To ensure that fixed assets are acquired and disposed of only upon proper authorization, are

adequately safeguarded, and properly recorded.

Additional internal controls are also required to ensure proper recording of SALES and other


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revenues, accurate, timely financial reports and information returns, and compliance with other

government regulations.

Achieving these objectives requires your organization to clearly state procedures for handling

each area, including a system of checks and balances in which no financial transaction is handledby only one person from beginning to end. This principle, called segregation of duties, is central

to an effective internal controls system. Even in a small nonprofit, duties can be divided upbetween paid staff and volunteers to reduce the opportunity for error and wrongdoing. For

example, in a small organization, the director might approve payments and sign checks prepared

by the bookkeeper or office manager. The board treasurer might then review disbursements with

accompanying documentation each month, prepare the bank reconciliation, and review canceled

checks.The board and executive director share the responsibility for setting a tone and standard of

accountability and conscientiousness regarding the organization's assets and responsibilities. The

board, usually through the work of the finance committee, fulfills that responsibility in part by

approving many aspects of the internal control accounting system. Common areas requiring board

attention include:

Check issuance

The number of signatures on checks, dollar amounts which require board approval or boardsignature on the check, who authorizes payments and financial commitments, etc.

Deposits

How payments made in cash (for admissions, raffles, weekly collection plate, etc.) will behandled, etc.

Transfers

If and when the general fund can borrow from restricted funds, etc.

Approval of plans and commitments before they are implemented

The annual budget and periodic comparisons of financial statements with budgeted amounts,

leases, loan agreements, and other major commitments.

Personnel policies

Salary levels, vacation, overtime, compensatory time, benefits, grievance procedures, severance

pay, evaluation, and other personnel matters.

The Accounting Procedures Manual

The policies and procedures for handling financial transactions are best recorded in an

Accounting Procedures Manual, describing the administrative tasks and who is responsible for

each. The manual does not have to be a formal document, but rather a simple description of howfunctions such as paying bills, depositing cash, and transferring money between funds are

handled. As you start to document these procedures, even in simple memo form, the memosthemselves can be kept together to form a very basic Accounting Procedures Manual. Writing or

revising an Accounting Procedures Manual is a good opportunity to see whether adequate

controls are in place. In addition, having such a manual facilitates smooth turnover in financial

staff.

Maintaining Effective Controls

The FINANCE/ACCOUNTING director is commonly responsible for overseeing the day-to-day

implementation of these policies and procedures.


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The auditor's management letter is an important indicator of the adequacy of your internal

accounting control structure, and the degree to which it is maintained. The management letter,

which accompanies the audit and is typically addressed to the board as trustees for the

organization, cites significant weaknesses in the system or its execution. By reviewing themanagement letter with the executive director, asking for responses to each internal control lapse

or recommendation, and comparing management letters from year to year, the board has a usefulmechanism for monitoring its financial safeguards and adherence to financial policies.

As your profit changes and matures, and your funding and programs change, you will need to

periodically review the internal accounting control system which you have established and

modify it to include new circumstances (bigger staff, more restricted funding, etc.) and

regulations (such as receiving federal awards with increased compliance demands.)

Internal Controls Simplified ACCOUNTING INFORMATIONS USED AS CONTROLS:

CASH

-Control Cash Drawers And Credit Cards

-Control Cash Receipts And Deposits

-control system to Manage Problem Checks-control system to Manage Wire Transfers

-Control to Cheque Signing Authority

-control system to Manage Check Requests

-control system to Manage Bank Account Reconciliations-control system to Manage Petty Cash

GENERAL & ADMINISTRATIVE

-control system Manage Chart of Accounts

-system to Control Files And Records Management

-control system to Manage Travel And Entertainment

-system to Control Management Reports

-system to Control Period-End Review & Closing-control system to Manage Controlling Legal Costs

-control system to Manage Taxes And Insurance

-system to Control Property Tax Assessments

-control system to Manage Confidential Information Release

-system to Control Documents

Accounting Forms applied to the CONTROL SYSTEMS.

-Sample Account Codes

-Account Collection Control Form

-Accounts Receivable Write-Off Authorization-Asset Disposition Form

-Bad Check Notice-Bank Wire Instructions

-Bill Of Sale

-Budget vs. Actual Report

-Capital Asset Requisition

-Check Request

-Check Signing Authority Log

-Commercial Invoice

-Credit Application


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-Credit Inquiry

-Daily Cash Report

-Daily Flash Report

-Daily Sundry Payable Log

-Department Reporting Summary-Deposit Log

-Document Change Control-Entertainment And Business Gift Expense Report

-Financial Statements

-Inventory Count Sheet

-Inventory Inspection Levels

-Inventory Requisition

-Inventory Tag

-Sample Invoice

-Master File Guide Index

-Material Return Notice

-New Vendor Notification

-Non-Disclosure Agreement

-Order And Arrival Log-Order Form

-Phone Confirmation Checklist

-Purchase Order

-Purchase Order Follow-Up-Purchase Order Log

-Purchase Requisition

-Receiving and Inspection Report

-Receiving Log

-Records Retention Periods

-Request For Credit Approval

-Request For Document Change

-Returned Goods Authorization-Sample Sales Order

-Sample Bank And Book Balances Reconciliation

-Shipping Log

-Tax Calendar of Recurring Monthly Dates

-Travel And Miscellaneous Expense Report

-Travel Arrangements Form

-Vendor Survey Form

-Week Cash Flow Report

-Weekly Financial Report

-Wire Transfer Form

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Q.2 You are required to prepare a Schedule of changes in working capital and a FundsFlow Statement from the Balance Sheets of Amazon Ltd as on 31st Dec. 2008 and2009.

Liabilities 2008

Rs.

2009

Rs.

Assets 2008

Rs.

2009

Rs.


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Share capitalGen. ReserveP&L A/cCreditorsBills payableProvision for taxation

Provision for doubtfuldebts.

2,00,00028,00032,00016,0002,40032,000

800

2,00,00036,00026,00010,8001,60036,000

1,200

GoodwillBuildingsPlantInvestmentsStockBills receivable

DebtorsCash & Bank balance

24,00080,00074,00020,00060,0004,000

36,00013,200

24,00072,00072,00022,00046,8006,400

38,00030,400

3,11,20

0

3,11,60

0

3,11,20

0

3,11,600

Additional information:a) Depreciation provided on plant was Rs. 8,000 and on Buildings Rs. 8,000b) Provision for taxation made during the year Rs. 38,000c) Interim dividend paid during the year Rs. 16,000

Solution: Coming soon .

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Q.3 Take a suitable example and explain the impact of cost and volume changes

on the profits of a business.

Solution: Cost-volume-profit (CVP) analysis expands the use of information provided bybreakeven analysis. A critical part of CVP analysis is the point where total revenues equal totalcosts (both fixed and variable costs). At this breakeven point (BEP), a company will experienceno income or loss. This BEP can be an initial examination that precedes more detailed CVP

analyses.Cost-volume-profit analysis employs the same basic assumptions as in breakeven analysis. Theassumptions underlying CVP analysis are:The behavior of both costs and revenues in linear throughout the relevant range of activity. (Thisassumption precludes the concept of volume discounts on either purchased materials or sales.)Costs can be classified accurately as either fixed or variable.Changes in activity are the only factors that affect costs.All units produced are sold (there is no ending finished goods inventory).When a company sells more than one type of product, the sales mix (the ratio of each product tototal sales) will remain constant.

Cost-Volume-Profit Analysis, Production = SalesIn the following discussion, only one product will be assumed. Finding the breakeven point is the

initial step in CVP, since it is critical to know whether sales at a given level will at least cover therelevant costs. The breakeven point can be determined with a mathematical equation, usingcontribution margin, or from a CVP graph. Begin by observing the CVP graph in Figure 1, wherethe number of units produced equals the number of units sold. This figure illustrates the basicCVP case. Total revenues are zero when output is zero, but grow linearly with each unit sold.However, total costs have a positive base even at zero output, because fixed costs will beincurred even if no units are produced. Such costs may include dedicated equipment or othercomponents of fixed costs. It is important to remember that fixed costs include costs of everykind, including fixed sales salaries, fixed office rent, and fixed equipment depreciation of all types.Variable costs also include all types of variable costs: selling, administrative, and production.


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Sometimes, the focus is on production to the point where it is easy to overlook that all costs mustbe classified as either fixed or variable, not merely product costs.Where the total revenue line intersects the total costs line, breakeven occurs. By drawing avertical line from this point to the units of output (X) axis, one can determine the number of unitsto break even. A horizontal line drawn from the intersection to the dollars (Y) axis would revealthe total revenues and total costs at the breakeven point. For units sold above the breakevenpoint, the total revenue line continues to climb above the total cost line and the company enjoys aprofit. For units sold below the breakeven point, the company suffers a loss.Illustrating the use of a mathematical equation to calculate the BEP requires the assumption ofrepresentative numbers.Assume that a company has total annual fixed cost of $480,000 and that variable costs of allkinds are found to be $6 per unit. If each unit sells for $10, then each unit exceeds the specificvariable costs that it causes by $4. This $4 amount is known as the unit contribution margin. Thismeans that each unit sold contributes $4 to cover the fixed costs. In this intuitive example,120,000 units must be produced and sold in order to break even. To express this in amathematical equation, consider the following abbreviated income statement:Unit Sales = Total Variable Costs + Total Fixed Costs + Net IncomeInserting the assumed numbers and letting X equal the number of units to break even:$10.00X = $6.00X + $480,000 + 0Note that net income is set at zero, the breakeven point. Solving this algebraically provides the

same intuitive answer as above, and also the shortcut formula for the contribution margintechnique:Fixed Costs Unit Contribution Margin = Breakeven Point in Units$480,000 $4.00 = 120,000 unitsIf the breakeven point in sales dollars is desired, use of the contribution margin ratio is helpful.The contribution margin ratio can be calculated as follows:Unit Contribution Margin Unit Sales Price = Contribution Margin Ratio$4.00 $10.00 = 40%To determine the breakeven point in sales dollars, use the following mathematical equation:Total Fixed Costs Contribution Margin Ratio = Breakeven Point in Sales Dollars$480,000 40% = $1,200,000The margin of safety is the amount by which the actual level of sales exceeds the breakeven levelof sales. This can be expressed in units of output or in dollars. For example, if sales are expected

to be 121,000 units, the margin of safety is 1,000 units over breakeven, or $4,000 in profits beforetax.A useful extension of knowing breakeven data is the prediction of target income. If a companywith the cost structure described above wishes to earn a target income of $100,000 before taxes,consider the condensed income statement below. Let X = the number of units to be sold toproduce the desired target income:Target Net Income = Required Sales Dollars Variable Costs Fixed Costs$100,000 = $10.00X $6.00X $480,000Solving the above equation finds that 145,000 units must be produced and sold in order for thecompany to earn a target net income of $100,000 before considering the effect of income taxes.A manager must ensure that profitability is within the realm of possibility for the company, givenits level of capacity. If the company has the ability to produce 100 units in an 8-hour shift, but thebreakeven point for the year occurs at 120,000 units, then it appears impossible for the company

to profit from this product. At best, they can produce 109,500 units, working three 8-hour shifts,365 days per year (3 X 100 X 365). Before abandoning the product, the manager shouldinvestigate several strategies:Examine the pricing of the product. Customers may be willing to pay more than the priceassumed in the CVP analysis. However, this option may not be available in a highly competitivemarket.If there are multiple products, then examine the allocation of fixed costs for reasonableness. Ifsome of the assigned costs would be incurred even in the absence of this product, it may bereasonable to reconsider the product without including such costs.Variable material costs may be reduced through contractual volume purchases per year.


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Other variable costs (e.g., labor and utilities) may improve by changing the process. Changing theprocess may decrease variable costs, but increase fixed costs. For example, state-of-the-arttechnology may process units at a lower per-unit cost, but the fixed cost (typically, depreciationexpense) can offset this advantage. Flexible analyses that explore more than one type of processare particularly useful in justifying capital budgeting decisions. Spreadsheets have long beenused to facilitate such decision-making.One of the most essential assumptions of CVP is that if a unit is produced in a given year, it willbe sold in that year. Unsold units distort the analysis. Figure 2 illustrates this problem, asincremental revenues cease while costs continue. The profit area is bounded, as units are storedfor future sale.Unsold production is carried on the books as finished goods inventory. From a financial statementperspective, the costs of production on these units are deferred into the next year by beingreclassified as assets. The risk is that these units will not be salable in the next year due toobsolescence or deteriorationCost-Volume-Profit Analysis, Production > SalesWhile the assumptions employ determinate estimates of costs, historical data can be used todevelop appropriate probability distributions for stochastic analysis. The restaurant industry, forexample, generally considers a 15 percent variation to be "accurate."APPLICATIONSWhile this type of analysis is typical for manufacturing firms, it also is appropriate for other types

of industries. In addition to the restaurant industry, CVP has been used in decision-making fornuclear versus gas- or coal-fired energy generation. Some of the more important costs in theanalysis are projected discount rates and increasing governmental regulation. At a more down-to-earth level is the prospective purchase of high quality compost for use on golf courses in theCarolinas. Greens managers tend to balk at the necessity of high (fixed) cost equipmentnecessary for uniform spreadability and maintenance, even if the (variable) cost of the compost isreasonable. Interestingly, one of the unacceptably high fixed costs of this compost is the smell,which is not adaptable to CVP analysis.Even in the highly regulated banking industry, CVP has been useful in pricing decisions. Themarket for banking services is based on two primary categories. First is the price-sensitive group.In the 1990s leading banks tended to increase fees on small, otherwise unprofitable accounts. Assmaller account holders have departed, operating costs for these banks have decreased due tofewer accounts; those that remain pay for their keep. The second category is the maturity-based

group. Responses to changes in rates paid for certificates of deposit are inherently delayed bythe maturity date. Important increases in fixed costs for banks include computer technology andthe employment of skilled analysts to segment the markets for study.Even entities without a profit goal find CVP useful. Governmental agencies use the analysis todetermine the level of service appropriate for projected revenues. Nonprofit agencies,increasingly stipulating fees for service, can explore fee-pricing options; in many cases, therecipients are especially price-sensitive due to income or health concerns. The agency can useCVP to explore the options for efficient allocation of resources.Project feasibility studies frequently use CVP as a preliminary analysis. Such major undertakingsas real estate/construction ventures have used this technique to explore pricing, lender choice,and project scope options.Cost-volume-profit analysis is a simple but flexible tool for exploring potential profit based on coststrategies and pricing decisions. While it may not provide detailed analysis, it can prevent "do-

nothing" management paralysis by providing insight on an overview basis

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Q.4 The Finance Director of Ritoria Ltd thinks that the project with the higher NPV

should be chosen whereas its Managing Director thinks that the one with the

higher IRR should be undertaken, especially as both projects have the same initial


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outlay and length of life. The company anticipates a cost of capital of 10% and the

net after tax

cash flows of the projects are as follows:

Year 0 1 2 3 4 5(Cash Flows figs 000)Project X Rs. (200) 35 80 90 75 20Project Y Rs. (200) 218 10 10 4 3

You are required to :a. Calculate the NPV and IRR of each project.b. State, with reasons, which of the two mutually exclusive projects you would recommend.

c. Explain the reasons for inconsistency in the ranking of the two projects.

Solution: BY NPV METHOD:

NPV is the sum of all terms ,

-200/(1.1)=-20035/1.1=31.8280/1.21=66.21

90/1.331=67.6275/1.4641=51.2320/1.61051=12.42 here 200-all 5 above

200-229.21= -29.21 for x

For y:

-200/1.1=-200218/1.1=198.1810/1.21=8.2610/1.331=7.514/1.4641=2.733/1.61051=1.86

Here 200- all 5 above200-218.54 = -18.54

BY IRR METHOD:

rate of return is given by r in:


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-200+31.82+66.12+67.62+51.23+12.42 = 29.3 for x-200+198.18+8.26+7.51+2.73+1.86 = 18.54 for y

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Q.5 What are the different factors that a finance manager needs to consider while

taking decisions regarding his/her firms capital structure. Explain each of these

factors in detail.

Solution: THE PATTERN OF CAPITAL STRUCTURE VARIES WITH TIMEAND ALSO THE ON THE ATTITUDE OF THE MANAGEMENTAT THE GIVEN TIME.

The cost of capital is the rate of return that the enterprise must pay to satisfy the providers offunds. The cost of equity is the return that ordinary stockholders expect to receive from theirinvestment. The cost of loan stock is the rate, which the company must provide its lenders. The

weighted average cost of capital (WACC) firms capital structure is the average of the cost of itsequity, preferred stocks and loan stocks.

An ideal mix of debt, preference stocks and common equity can maximizes the share prices. Debtcapital is regarded, as cheap source of finance to the business but will also increase the financerisk of the company. Common stocks regarded as less risky but might lead to loss of voting rightsif bought by outsiders.

FACTORS INFLUENCING CAPITAL STRUCTURE

Business riskRisk associated with the nature of the industry the business operates and if the business risk ishigher the optimal capital structure is required.

Tax positionDebt capital is regarded as cheaper because interest payable is deductible for tax purposes.Advantage not much for businesses with unrelieved tax losses, depreciation tax shield as theyalready have an existing lower tax burden.Financial flexibilityDepends on how easy a business can arrange finance on reasonable terms under adverseconditions. Flexibility in raising finance will be influenced by the economic environment(availability of savers and interest rates) and the financial position of the business.Managerial styleHow much to borrow also depend on managers approach to finance risk. Conservative managerswill usual try to keep the debt equity ratio low.

BUSINESS AND FINANCE RISK

Business riskThe variability in operating income caused but inherent factors of the business other than debtfinancing. Can be influenced by changes in prices, variability of inputs, sales volume, andcompetition levels.Finance riskAdditional variability in return that arises because the financial structure contains debt. Financerisk measured through gearing/leverages ratios.

FINANCIAL GEARING


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Extent to which debt finances firms total capital structureDebt equity ratio: Total debtTotal assets

TIMES INTEREST EARNEDMeasures the firms ability to meet its annual finance interest payments.

TIE RATIO= Earnings before interest and taxInterest charges

OPERATIONAL GEARINGMeasures to what extent are fixed costs used in firms operations. Breakeven point analysis willmeasure the relationship between sales volume, variable cost and the fixed costs. Breakevenpoint is the level of sales where the firm is neither making profits nor losses i.e. Sales valueequals costs.Financial gearing can reach very high levels, with companies preferring to raise additional capitalfor expansion by means of loans rather than issuing new equity, but there are limits.Restrictions on further borrowing might be contained in the denture trust deed for a companyscurrent debenture stocks in issue.

Occasionally, there might be borrowing restriction in the articles of association.Lenders might want security for extra loan which the would be borrowers cannot provide.Lenders might simply be unwilling to lend more to a company with high gearing or low interestcover.Extra borrowing beyond a safe level will cost more interest. Companies might not be willing toborrow at these rates.Apart from the limitations stated above, there are other side effects associated with high gearingwhich may include the following:Financial distress where obligations to the conditions are not met or they are met with difficultiesCosts: - Loss of key suppliersUncertain customersLow asset valueLoss of staff moral

Legal costsAgency costs in trying to negotiate additional loan facilities through an agent.High interest ratesNeed to sign loan covenants thereby loosing financial freedomBorrowing capLimits set by lenders on amount availableFinancial slack Highly geared firms fail to seize opportunities as they arise due to unwillingnessof lenders for more fund advancements.High gearing might send bad signals on companys liquidity to employees as well as lendersLoss of decision making on certain areas to lenders due to loan covenantsDespite mentioning all the limitations and cost of high gearing mentioned above companys stilluses debt capital. Apart from being cheaper than share capital the following attributes compelsthe company to use the debt capital.

Motivation Regarded as cheaper source of incomeNew issue stocks may dilute holdingOperational and strategic staff more cautious on utilization of fundsFlexibility in arrangement than equity================================================

Top managements risk-taking propensity affects the firms capital structure. The amount of debtthat top managers feel is manageable affects the overall debt ratio of the firm since theowners most often have to personally guarantee the loan in order to acquire one. amd also that


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owners attitude towards risk seem to influencethe choice of capital structure. As debt increases the risk inflate, hence, a riskaverseorganization will probably use debt to a less extent than a risk-willing organization.This proposal about top managements risk awareness affecting capital structure is supportedby claim that SMEs equity level plays impact of their owners attitudes towards risk. In caseSMEs needexternal financing they will prefer short-term debt before long-term debt since the latterreduce managements operability and short-term debt do not include restrictive covenants

Top managements goals for the firms will affect the firms capital structure. Not all managersstrivefor profit maximizing; growth can sometimes be considered more important .

SMEs do not follow the same patterns and policies as larger companies do. In fact, SMEs choose debt on personal and managerial preference thanwhat larger firms are able to do.

Capital structure processes should be analyzed by the impact of owner/managers personalreference and values of the firms characteristics.

----------------------------------------------------------------Top management would prefer to finance firm needs from internally generated funds rather thanfrom externalcreditors or even new stockholder. Top mangers have a preference to remain asfree aspossible and do not want to become restricted by debt agreements .BUT this could lead to an under-investment problem where high-quality, low risk roject arerejected to be undertaken due to lack of equity and the unwillingness to external inancing.-The risk propensity of top management and financial characteristics of the firm affect the amountof debt lenders are willing to offer and on what terms. Credit institutions willingness to lendmoney to different organizations is risky from their point of view; they always estimate how wellthey consider the organizations ability to pay back when providing a bank loanFinancial characteristics moderate the ability of top management to select a capital structure forthe firm. The financial risk and flexibility of a firm tend to affect what the managementswillingness change their capital structure . The main incentive to increase the level of debt in a

firms capital structure is when the interest costs are tax deductible

CAPITAL STRUCTURE DECISION IS INFLUENCED BYNeed for control --Risk propensity--Experience--Social norms--Personal net worthWHICH AFFECTSBeliefs about debtAttitudes towards debtCapital structure decision

WHICH IS ALSO INFLUENCED BY.External variablesMarket conditions

Financial decisionsOrganizational formThe capital structure diagramsThe capital structure consists of hree parts; hort-Term Debt, Long-Term Debt and Equity.Below is how the proportional weight of the companys total capital is calculated.Short-term debtWhere short-term debt is current liabilities, expiring within one year, including: accountspayables, current tax-liabilities as well as accrued expenses and deferred revenuesSHORT TERM DEBT %= short term debt / debt+equity


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Long-term debtLong-term debt is the intermediate and long-term liabilities, expiring after one year, such asbank loans added with 28 % of the untaxed reserves which will be taxed once they are usedfor investmentsLONG TERM DEBT % = long term debt + .28 [untaxed reserves] / debt + equity]EQUITY% = equity + .72 [untaxed reserves ] / debt + equity ]

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