Short Notes: MA

Short Notes:

1. Financial Statement Analysis

2. Project Profile

3. Cost Volume Profit Analysis/ Relationship

4. Assumptions of Cost-Volume-Profit Analysis

5. Assumptions of Break-Even Analysis

6. Limitations of Break-Even Analysis

7. Industrial Sickness- Its Causes

8. Factor Affecting Working Capital Requirement

9. Objectives of Budgeting

10. Performance Budgeting

11. Standard Costing

12. Cash Flow Statement vs. Cash Budget

13. Production & Operating Cycle

 14. Variable Working Capital & Permanent/ Fixed Working Capital

15. Planning of Profit

16. Hire Purchase Finance

17. Management Reports

18. Lease finance Vs. Hire Purchase finance

19. Variance Analysis

20. Difference Lease Finance vs. Hire Purchase Finance

21. Payback Period

22. Net Present Value:

23. Internal Rate of Return (IRR):

24. Cost, Expenses and Loss

25. What is 'Net Present Value - NPV'

26. Breakeven point

27. Operating Leverage

28. Zero-Based Budgeting - ZBB'

29. Budgeting Control

30. Project planning

31. Opportunity Cost

32. Margin of safety

33. Cost-Volume Profit Analysis

34. Fixed Cost, Variable costs, Sales revenue;

1. Financial Statement Analysis:  Financial statement analysis is the process of understanding the risk and profitability of a firm through analysis of reported financial information, by using different accounting tools and techniques. It consists of 1) reformulating reported financial statements, 2) analysis and adjustments of measurement errors, and 3) financial ratio analysis on the basis of reformulated and adjusted financial statements. The first two are often dropped in practice, meaning that financial ratios are just calculated on the basis of the reported numbers, perhaps with some adjustments. Financial statement analysis is the foundation for evaluating and pricing credit risk and for doing fundamental company valuation.

2. Project Profile:  A project profile is a simplified description of an eventual project. In addition to defining the purpose and ownership of the project, it presents a first estimate of the activities involved and the total investment that will be required, as well as the annual operating costs and, in the case of income generating projects, the annual income. There are a number of key parameters should be considered for a project profile. These are- the level and nature of the demand; the relevance of supply constraints; the definition of project operations; and the types of costs involved.

3. Cost Volume Profit Analysis/ Relationship:  Cost volume profit analysis (CVP analysis) is one of the most powerful tools that managers have at their command. It helps them understand the interrelationship between cost, volume, and profit in an organization by focusing on interactions among elements, like level or volume of activity, unit selling prices, variable cost per unit, total fixed costs, sales mix. It is a powerful tool which furnishes the complete picture of the profit structure and helps in planning of profits as helps managers understand the interrelationships among cost, volume, and profit it is a vital tool in many business decisions.

4. Assumptions of Cost-Volume-Profit Analysis:  These cost volume profit analysis assumptions are as follows: 1. Selling price is constant. The price of a product or service will not change as volume changes. 2. Costs are linear and can be accurately divided into variable and fixed elements. The variable element is constant per unit, and the fixed element is constant in total over the relevant range. 3. In multi-product companies, the sales mix is constant. 4. In manufacturing companies, inventories do not change. The number of units produced equals the number of units sold.

5. Assumptions of Break-Even Analysis

1. All costs are classified as either fixed or variable.

2. Fixed costs remain constant within the relevant range.
3. The behavior of total revenues and total costs will be linear over the relevant range

4. In case of multiple product companies, the selling prices, costs and proportion of units (sales mix) sold will not change.

5. There is no significant change in the inventory levels during the period under review.

6. Other assumptions:

- Unit selling price will remain constant.
- Unit variable cost will not change.
- There will be no change in efficiency and productivity.
- The design of the product will not change.

6. Limitations of Break-Even Analysis: Although, break-even analysis is a very useful risk assessment technique and a useful device for testing the sensitivities of business performance, the following limitations must be considered:

1. All costs resolved into fixed or variable

2. Variable costs fluctuate in direct proportion to volume.

3. Fixed costs remain constant over the volume range.

4. The selling price per unit is constant over the entire volume range.

5. The company sells only one product, or mix of products tends to remain constant.

6. Volumetric increase is the only factor affecting costs.

7. The efficiency in the use of resources will remain constant over the period.

7. Industrial Sickness- Its Causes: Industrial sickness is defined as an industrial company which has, at the end of any financial year, accumulated losses equal to, or exceeding, it’s entire net worth and has also suffered cash losses in such financial year and the financial year immediately proceeding such financial year. The main reasons of industrial sickness are-

- Associated with managerial ineffectiveness, which include poor control on key areas of operations and finance.

 - Improper estimate of demand is another reason. - Improper technology, wrong location of Industry, non- flexibility of fixed assets etc.

- Defective capital Structure and Shortage of working capital

- High costs of manufacturing compared to Sales revenue, Non-availability of raw material, regular power, fuel etc.

8. Factor Affecting Working Capital Requirement:  A firm should have neither low nor high working capital. Low working capital involves more risk and more returns, high working capital involves less risk and less returns. Risk here refers to technical insolvency while returns refer to increased profits/earnings. The amount of working capital is determined by a wide variety of factors.

1. Nature of the business

2. Size of the business

3. Length of period of manufacture

4. Methods of purchase and sale of commodities

5. Converting working assets into cash

6. Seasonal variation in business

7. Risk in business

8. Size of labor force

9. Price level changes

10. Rate of turnover

11. State of business activity

12. Business policy

9. Objectives of Budgeting: A company use budgeting to accomplish goals for growth and sustainability with the finance at hand. The major objectives are as follows:

1. To provide a realistic estimate of income & expenses and financial position for a period

2. To provide a coordinated plan of action which is design to achieve the estimates

3. To provide a comparison of actual results with those budgeted and an analysis and interpretation of deviations by areas of responsibility to indicate courses of corrective actions and to lead to improvement in future plans

4. To provide a guide for management decisions in adjusting plans and objectives

5. To provide a ready basis for making forecasts during the budget period to guide management in making day to day decisions

10. Performance Budgeting Performance budget is a budget that reflects the input of resources and the output of services for each unit of an organization. This type of budget is commonly used by the government to show the link between the funds provided to the public and the outcome of these services.

Performance budget is a way to allocate resources to achieve specific objectives based on program goals and measured results. It comprises three elements:
· the result (final outcome)
· the strategy (different ways to achieve the final outcome)
· activity/outputs (what is actually done to achieve the final outcome)

11. Standard Costing: Standard costing is the practice of substituting an expected cost for an actual cost in the accounting records, and then periodically recording variances that are the difference between the expected and actual costs. It appeared in the early twentieth century, when transaction volumes were overwhelming the record keeping systems in use at that time. Standard costing involves the creation of estimated (i.e., standard) costs for some or all activities within a company. The core reason for using standard costs is that there are a number of applications where it is too time-consuming to collect actual costs, so standard costs are used as a close approximation to actual costs.

12. Cash Flow Statement vs. Cash Budget:

 The cash flow statement looks at the past while the cash budget is for planning for the future.

13. Production & Operating Cycle: The production cycle is a recurring set of business activities and related data processing operations associated with the manufacture of products. In other hand, it refers to the period during which the objects of raw products and materials remain in the production process, from the beginning of manufacturing through the output of a finished product. There are four activities in production cycle, i.e. product design, planning and scheduling, production operations, and cost accounting.

The operating cycle is the average period of time required for a business to make an initial outlay of cash to produce goods, sell the goods, and receive cash in exchange for the goods. It is useful for estimating the amount of working capital that a company will need in order to maintain or grow its business.

14. Variable Working Capital & Permanent/ Fixed Working Capital

Fixed working capital is that portion of the total capital that is required to be maintained in the business on the permanent basis or uninterrupted basis. This working capital is required to invest in fixed assets. The requirement of this type of working capital is unaffected due to the changes in the level of activity.

Variable working capital is that portion of the total capital that is required over and above the fixed working capital. This working capital is required to meet the seasonal needs and some contingencies. The requirement of this type of working capital changes with the changes in the level of activity.

15. Planning of Profit: The profit planning is refers to process of developing that outlines the planned sales revenues and expenses and the net income or loss for a time period. Profit planning requires preparation of a master budget and various analyses for risk and what-if scenarios. Tools for profit planning include the cost - volume - profit (CVP) analysis and budgeting.

The actual process of profit planning involves looking at several key factors relevant to operational expenses. Putting together effective profit plans or budgets requires looking closely at such expenses as labor, raw materials, facilities maintenance and upkeep, and the cost of sales and marketing efforts.

16. Hire Purchase Finance: Hire Purchase is a kind of installment purchase where the businessman (hirer) agrees to pay the cost of the equipment in different installments over a period of time. This installment covers the principal amount and the interest cost towards the purchase of an asset for the period the asset is utilized. The hirer gets the possession of the asset as soon as the hire purchase agreement is signed. The hirer becomes the owner of the equipment after the last payment is made. The hirer has the right to terminate the agreement anytime before taking the title or the ownership of the asset.

17. Management Reports: Management report is a statement made by management and it is used to compare the actual results achieved with the budgeted forecast levels. This report helps the management to see where they went wrong and they apply other measures to improve the business.

A business management report is a formal statement of the results of a business, or of any matter on which definite information is required, made by some person or body. It may be presented orally or in written form. In business management report, situations are analyzed, conclusions drawn, alternatives considered and recommendations made.

18. Lease finance Vs. Hire Purchase finance: Hire purchase is a purchase of an asset in which customer makes down payment and finance rest of the amount through financial institutions or banks. On rest of the unpaid amount he pays interest at a certain pre-described rate of interest. After making complete payment the assets becomes the legal right of customer. Lease on the other hand is an agreement of using asset for certain period and paying rent on it at a pre-described rate of interest. It is a temporary acquiring of an asset just to use it. Generally Pvt schools are build on lease land. Interest on lease is fully exemption from tax.

19. Variance Analysis: Variance analysis, in budgeting or management accounting, is a tool of budgetary control by evaluation of performance by means of variances between budgeted amount, planned amount or standard amount and the actual amount incurred/sold. Variance analysis can be carried out for both costs and revenues. Variance analysis is usually associated with a product costs. In this setting, variance analysis attempts to identify the causes of the differences between 1) standard costs of the inputs that should have occurred for the actual products it manufactured, and 2) the actual costs of the inputs used for the actual products manufactured.

20. Lease Finance vs. Hire Purchase Finance

21. Payback Period: The basic premise of this method is to determine the amount of time that is required to recoup the funds spent on the capital project or equipment expenditure. Payback period in capital budgeting refers to the period of time required for the return on an investment to "repay" the sum of the original investment. Payback period intuitively measures how long something takes to "pay for itself." All else being equal, shorter payback periods are preferable to longer payback periods.

22. Net Present Value: It calculates whether the cash flow is in excess or deficit and also gives the amount of excess or shortfall in terms of the present value.

23. Internal Rate of Return (IRR): It is a metric used by the capital budgeting in order to determine whether the firm should make investments or not.

24. Cost: Cost is defined as the “Value” of the sacrifice made to acquire goods or services measured in monetary terms by the reduction of assets or increase of liability at the time of benefit acquired.

The cost incurred is for present (Expired Cost) or future (Unexpired Cost) benefits.

Expenses: when the benefits of unexpired cost are utilized the cost become expenses. An expense is cost that has given a benefit and is now expired.

Loss: In certain instance the goods or services purchased become value less without having provided any benefit. These costs are called losses and appear on the income statement as a deduction from revenue in the period that the decrease in value occurred.

25. What is 'Net Present Value - NPV': Net Present Value (NPV) is the difference between the present value of cash inflows and the present value of cash outflows. NPV is used in capital budgeting to analyze the profitability of a projected investment or project. The following is the formula for calculating NPV:

where

C_t = net cash inflow during the period t, C_o = total initial investment costs

r = discount rate, and t = number of time periods

26. Breakeven point: Break even point of an enterprise firm is a point where total revenue/sale proceeds/sale or output equals total cost. It indicates that level of output/sales/sale proceeds/revenue at which the firm recovers all its costs and neither neither earns a profit nor incurs any loss. in other words this is a point of zero profitability. Once the firm/enterprise cross its breakeven point, it starts earning profit.

27. Operating Leverage: Operating leverage is a measurement of the degree to which a firm or project incurs a combination of fixed and variable costs. A business that makes few sales, with each sale providing a very high gross margin, is said to be highly leveraged.

28. Zero-Based Budgeting - ZBB': Zero-based budgeting (ZBB) is a method of budgeting in which all expenses must be justified for each new period. Zero-based budgeting starts from a "zero base" and every function within an organization is analyzed for its needs and costs. Budgets are then built around what is needed for the upcoming period, regardless of whether the budget is higher or lower than the previous one.

29. Budgeting Control: A system of management control in which actual income and spending are compared with planned income and spending, so that you can see if plans are being followed and if those plans need to be changed in order to make a profit

30. Project planning: Project planning defines the project activities and end products that will be performed and describes how the activities will be accomplished. The purpose of project planning is to define each major task, estimate the time and resources required, and provide a framework for management review and control.

31. Opportunity Cost: An opportunity cost is the cost of an alternative that must be forgone in order to pursue a certain action. Put another way, the benefits you could have received by taking an alternative action.

32. Margin of safety: The margin of safety is the excess of budgeted (or actual) sales over the breakeven volume of sales. It states the amount by which sales can drop before losses begin to be incurred. Thus we have the following two formulas to calculate margin of safety: MOS = Budgeted Sales − Break-even Sales

MOS = Budgeted Sales − Break-even Sales / Budgeted Sales

33. Cost-Volume Profit Relationship:  

Cost volume profit analysis is one of the most powerful tools that managers have at their command. It helps them understand the interrelationship between cost, volume and profit in an organization by focusing on interactions among the following five elements: 1. Prices of products; 2. Volume or level of activity; 3. Per unit variable cost; 4. Total fixed cost; 5. Mix of product sold.

Because cost-volume- profit (CVP) analysis helps managers understand the interrelationships among cost, volume, and profit it is a vital tool in many business decisions. These decisions include, for example, what products to manufacture or sell, what pricing policy to follow, what marketing strategy to employ, and what type of productive facilities to acquire.

34. Fixed costs: Total fixed costs are assumed to be constant in total. Fixed costs per unit will decrease with the increasing number of units produced.

Variable costs: Variable costs per unit are assumed to be constant. Total variable costs will increase with the increasing number of units produced.

Sales revenue: Sales revenue per unit is assumed to be constant and the total revenue will increase with the increasing number of units produced.