Answer: 1
(A) Income Statement
| Income: | ||
| Revenue | 5325 | |
| Closing stock | 125 | |
| Net income | 5450 | |
| Expenses: | ||
| Loan paid off | 1500 | |
| Supplies | 450 | |
| Salaries 2150 | ||
| (+) O/S 350 | 2500 | |
| Rent of equipment 900 | ||
| (-) Prepaid (300) | 600 | |
| Repairs | 150 | |
| Net expenses | (5200) | |
| Net Profit | 250 |
(B) Balance Sheet
| Liabilities | Amount | Asset | Amount |
| Capital 3000 | Cash in hand | 655 | |
| (-) Loan paid (1500) | Debtors | 650 | |
| (-) Drawings (520) | 980 | Stock in hand | 125 |
| Outstanding salaries | 350 | Prepaid rent on equipment | 150 |
| Profit | 250 | ||
| 1580 | 1580 |
(C) Yes Wally’s venture was successful. In a short span of time i.e. 4 months he is able to earn a profit of $250.
He successfully utilised all the resources and was able to generate good revenues.
He was able to pay off the major liability of loan from his father $1500.
Though some of the liabilities are still outstanding, this can be paid off through the current assets left. He has a good amount of cash left i.e. $655, also has debtors of $650 from which he’ll soon receive the money, leftover stock is also there of $125 which he can sell in future or use himself.
He was able to effectively employ all the capital. Though the revenues were much more and the compared profit is of fewer amounts. After gaining some experience and having some expertise in this field also with the existing customer base, he can run this venture more successfully.
So he should continue this business for long term.
Answer: 2
(A) The income statement reflects the company’s accounting base profitability. It shows the illustrations of company’s revenues, expenses and net income. It uses the concept of accrual accounting, which requires that business records expenses when incurred and revenues when earned. Under the accrual based accounting method revenues are recognized when earned not necessarily when cash is received. On the other hand expenses are matched with associated revenues, not necessarily cash is paid or went out of the firm. Under accrual method, net income is calculated as revenues earned minus the expenses incurred in order to earn those revenues.
(B) If a company earns revenues in November but allows the customers a credit to pay in 30 days, the cash from the November revenues will be collected in December. In this situation the November revenues will increase the November net income, but will not increase the firm’s November net cash flow.
Accrual accounting expenses are matched to the accounting period when the related sales occur or when the costs have expired. For example, a firm may have bought and paid for the goods in August. However, the goods remained in inventory until it was sold in November. The firm’s net cash flow will decrease in November when the company pays for the goods. However, net income decreases in November when the cost of the goods sold is matched with the November sales.
There are many other instances of expenses occurring in one accounting period but the payments occur in a different accounting period. His is the reason the profit does not match the cash collected.
Answer: 3 (A)
|
Date |
Details |
Debit |
Credit |
|
| Stock A/C | 650 | |||
| To Supply A/C | 650 | |||
| Insurance A/C | 1080 | |||
| To Prepaid insurance A/C | 1080 | |||
| Wages A/C | 850 | |||
| To O/S Wages | 850 | |||
| A/C receivable | 330 | |||
| To Sundry expenses | 330 | |||
| Loan A/C | 840 | |||
| To Accrued interest | 840 | |||
| Drawings | 60 | |||
| To Stationary A/C | 60 | |||
| Sales A/C | 470 | |||
| To Sales in advance | 470 | |||
| Depreciation A/C | 7350 | |||
| To Building | 650 | |||
| To office furniture | 330 | |||
(B) Effects on Profit
| Old Profit | $19800 |
| (-) Insurance | (1080) |
| (-) Outstanding wages | (850) |
| (-) Accrued interest on loan | (840) |
| (-) Sales income in advance | (470) |
| (-) Depreciation | (7350) |
| (+) Stock | 650 |
| (+) A/C receivable | 330 |
| Profit Left Over | 10190 |
Answer: 4
(A)
|
Date |
Details |
Debit |
Credit |
|
| Commission A/C | 2600 | |||
| To Accrued commission | 2600 | |||
| (being commission accrued) | ||||
| Revenue A/C | 1400 | |||
| To Revenue received in advance | 1400 | |||
| (Being the revenue amount received in advance for July) | ||||
| Prepaid advertisement expense | 900 | |||
| To Advertisement expense A/C | 900 | |||
| (Being advertisement expenses paid in advance for July) | ||||
| Profit & Loss A/C | 4500 | |||
| To Depreciation A/C | ||||
| (Being the depreciation expenses not recorded) | 4500 | |||
(B) Income Statement
For the year ended 30 June 2013
| INCOME | ||
| Revenues: | ||
| Fees revenue $331,428 | ||
| (-) Revenue received in advance 1,400 | $330,028 | |
| EXPENSES | ||
| Salaries | $226,536 | |
| Depreciation expenses | 4,500 | |
| Commissions 46,252 | ||
| (-) Accrued commission 2,600 | 48,852 | |
| Council rates | 2,080 | |
| Insurance | 5,600 | |
| Advertising 10,000 | ||
| (-) Prepaid advertising expenses 900 | 9,100 | |
| Rent | 15,840 | |
| Sundry expenses | 1,920 | 314,428 |
| PROFIT |
|
15,600
|
(C) No, he should not continue or retain the business as the expenses have increased after the provided adjustments. The earlier profit before the adjustment was $23,200, which has come down to $15,600 after all the adjustments were made.
Profit margin i.e. net profit/ revenue = 15600/330000 = 4.72%
Also the profit margin has come down from 7% to 4.72%. The basic condition of Ian Smith was to retain a profit margin of 7%, which is not happening as it has reduced to 4.72%. So, he should shut down his business.
Answer: 5
(A) Return on total asset= Net profit after taxes and interest * 100
Average total assets
Net profit= 47250 (2013)
Average total assets= 486000 (2013) + 499500 (2012)
2
= 492750
Return on total assets= 47250 * 100 = 9.58%
492750
(B) Return on equity= Net income after taxes- Preference dividend *100
Average shareholder’s fund
Net profit= 47250 (2013)
Average shareholder fund= Opening shareholder’s equity + Closing shareholder’s equity
2
= 90000 + 99000 =94500
2
Return on total asset= 47250 *100 =47.33%
94500
(A) Profit margin ratio= Net income *100
Net revenue
2012 2013
Net income= 50490 47250
Net revenue= 517500 522000
Profit margin ratio= 50490 *100 47250 *100
517500 522000
= 9.75% =9.5%
(B) Debt ratio= Total liabilities
Total assets
2012 2013
Total liabilities= 297000 270000
Total assets= 499500 486000
Debt ratio= 297000 270000
499500 486000
= 0.59 times 0.55 times
(C) Times interest ratio= Earnings before interest and tax
Interest expenses
2012 2013
Earnings before interest and tax= 122040 108090
23850 20700
= 5.22 times 5.11 times
(A) Return on total asset: It measure the relationship between net profit and total assets. Ratio shows the ability of generating profits per hundred rupees. A higher ratio shows the efficiency of management in making effective use of the total assets.
(B) Return on equity: the ratio shows or reflects the return on shareholder’s fund that the business enterprise is able to earn. The shareholders are interested in the profit earning capacity of the business in which their funds are invested. If profits earned are insufficient, firm will fail to attract funds for expanding operations since additional capital will not be available.
(C) Profit margin ratio: It shows the relationship between net profits and net sales. A higher net profit ratio would enable the firm to pay higher dividend, to create adequate general reserves and to face bad economic conditions. . A low net profit ratio has opposite results. But a firm with low profit margin can earn higher rate of return on investment if it has higher sales turnover. A fall in the net profit ratio would require a thorough investigation into the operating expenses if there has been unreasonable increase in such expenses.
(D) Debt ratio: It indicates the percentage of a firm’s assets that are provided via debt. The higher ratio indicates the greater risk which will be associated with the firm’s operation. It also reflects low borrowings capacity of the firm, which in turn will lower the firm’s financial flexibility.
(E) Time’s interest ratio: It shows the relationship between earnings before interest and tax to interest expenses. A high ratio indicates that the company has an undesirable lack of debts or is paying down too much debt with earnings that could be used for other projects.
- Limitations of ratio analysis:
(A) Trends are not the actual ratios: the different rations calculated from the financial statements of a business enterprise for a single year are of limited value. It would be more useful to calculate the important figures in respect of income, working capital or dividends, etc. for a number of years. Such trends are more useful than absolute ratios.
(B) Ratios ignore qualitative factors: the ratios are obtained from the figures expressed in money. So the qualitative factors, which may be important, are ignored. For example, if the financial position of a firm may be quite satisfactory in terms of money, yet it may not be desirable to extend credit because of inefficient management in the matter of payments on due dates.
(C) Defective accounting information: the ratios are calculated from the accounting data in the financial statements. It means that defective information would give wrong information. Thus, the deliberate omission such as omitting purchases, would positively affects the ratios too.
(D) Ratios are sometimes misleading: ratios must not be studied separately from the absolute figures; otherwise the result may be misleading. For example, f the output of one firm goes up from 8000 units to 16000 units, the ratio would show 100% increase. On the other hand, if the second firm increases its output from 20000 units to 35000 units, the ratio would reflect an increase of only 50%. On the basis of ratios, we find that first firm is more active than second though in terms of absolute figures, the contribution of second firm is more than the first.
