2009

Financial Accounts for

Managers

INTERNATIONAL ACADEMY OF MANAGEMENT & ENTREPRENEURSHIP

[ T Y P E T H E C O M P A N Y A D D R E S S ]

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PM CS 105

Financial Accounts for Managers

COURSE OBJECTIVE: To expose students to the various accounting systems, accounting control

and linking the accounting system to the Management Decision Making.

MODULE 1:

Accounting Systems, Financial Accounting Corporate accounting management and accounting

information – Financial Analysis –Cash Flow and Fund flow statement Analysis – Accounting Cycle –

Trial Balance, income and expenditure statements, profit and loss accounts, balance sheet

MODULE 2:

Management Accounting: Basic framework – Classifications of manufacturing cost, cost accounting

systems, job order costing, and activity based costing, process costing, costing and the value chain –

Cost – Volume – Profit analysis – responsibility accounting and transfer pricing.

MODULE 3:

Capital budgeting decisions: Standards and variable costing – Production cost variance analysis –

Management control environment, responsibility control and responsibility accounting information

used in management control.

MODULE 4:

Budgeting – Operating budget, budget preparation, cash budget, capital expenditure budget – Control

reports – Use of control reports, Designing management accounting system

MODULE 5:

Analysis of financial performance of a firm:- Ratio analysis – Different types of ratios –

Interrelationship between ratios – Due – Point analysis, common size statement of inter and intra firm.

MODULE 6:

Responsibility Accounting-Meaning, Objectives and Types – Corporate Financial Statement-

Corporate Reports.

Assignments: 2 assignment for each module, needing solving of problems and / or analysis of

financial data / statement. (By Students for evaluation by faculty)

Seminar: One group seminar each by a group of 6 students ( 15 min each group) 2 Hours

Text Books: M.P.Pandikumar “Management Accounting”, Excel Books, New Delhi 1st Edition 2007.

References:

1. Khan & Jain, “Management Accounting”, Tata McGraw Hill Publication.

2. S.N.Maheswari & S. K. Maheswari, “Introduction to Financial Accountancy”, Vikas

Publication.

MODULE 1 What Accountancy is all about?

Any business is formed or exists for the purpose of generating profits and

thus increasing the value of the business firm. Towards this end the various

divisions of the business organization like sales, production, administration,

finance etc will play their respective roles and will work towards creation of the

much needed surplus in order to sustain the organization and ensure its growth.

The framework of accounting is based on various elements which are been

referred as

Accounting principles,

Accounting concepts

Accounting conventions.

Accounting principles

Accounting principles helpful l in recording the business transaction. The

entire business system is governed by these principles. The basic principle is

called as double entry principle, which says that every debit there is a

corresponding credit. All other principles based on this basic principle,

therefore it‟s golden principle of accounts

Expression generally accepted accounting principles are general guidelines

used to measure record and report financial affairs of a business.

Such principles of providing comprehensive a standardized body of theory

capable of handling various financial transactions. By assuring some degree

of uniformity and comparability.

There Are 3 Types of Accounts Principles

PERSONNAL ACCOUNT-

Dr. RECEIVER

Cr. THE GIVER

REAL ACCOUNT-

Dr.WHAT COMES IN

Cr. WHAT GOES OUT

NOMINAL ACCOUNT-

Dr. ALL EXPENSES/LOSSES

Cr. ALL INCOME/GAINS

Accounting concepts

The following are the important generally acctable concepts.

1. Entity Concept

2. Going concern Concept

3. Money measurement Concept

4. Cost Concept

5. Accounting period Concept

6. Dual Concept

7. Matching Concept

8. Realisation Concept

9. Balance sheet Equation Concept

10. Verification and Objective evidence Concept

11. Accrual Concept

Accounting conventions

The most commonly encountered convention is the "historical cost convention".

This requires transactions to be recorded at the price ruling at the time, and for

assets to be valued at their original cost.

Under the "historical cost convention", therefore, no account is taken of

changing prices in the economy.

The other conventions you will encounter in a set of accounts can be

summarized as follows:

Monetary measurement

Accountants do not account for items unless they can be quantified in monetary

terms. Items that are not accounted for (unless someone is prepared to pay

something for them) include things like workforce skill, morale, market

leadership, brand recognition, quality of management etc.

Separate Entity

This convention seeks to ensure that private transactions and matters relating to

the owners of a business are segregated from transactions that relate to the

business.

Realization

With this convention, accounts recognize transactions (and any profits arising

from them) at the point of sale or transfer of legal ownership - rather than just

when cash actually changes hands. For example, a company that makes a sale to

a customer can recognize that sale when the transaction is legal - at the point of

contract. The actual payment due from the customer may not arise until several

weeks (or months) later - if the customer has been granted some credit terms.

Materiality

An important convention. As we can see from the application of accounting

standards and accounting policies, the preparation of accounts involves a high

degree of judgement. Where decisions are required about the appropriateness of

a particular accounting judgement, the "materiality" convention suggests that

this should only be an issue if the judgement is "significant" or "material" to a

user of the accounts. The concept of "materiality" is an important issue for

auditors of financial accounts.

Financial Accounting

It is a traditional method of accounting which supplies info, about the firm

during the past. Without efficient accounting system mgmt accounting can not

apply tools and techniques.

Eg:from the last year‟s financial statement the firm could plan the volume of

sales, volume of purchases, size of drs,crs expected stock of the firm, cash

required by the firm etc…,

Management accounting

Mgmt accounting involves the study of accounting information and

techniques that managers‟ use in analyzing such information is the

accounting system for making decisions of the enterprise. It furnishes the

necessary information to assist the business enterprise to make rational

decisions. To development of policies and procedures in order to meet the

day to-day commitment of the enterprise.

Definition of mgmt accounting: management accounting is concerned

with the efficient management of a business s through presentation of

mgmt of such information as will facilitate efficient and opportune

planning and control.

Thus mgmt accounting emphasizes on information. That mgmt requires

so as to make specific resource allocation.

Objectives of management accounting

1. To guide the mgmt to afford best possible services to customers,

suppliers, and investors and so on.

2. To control by compare the budgeted info. With actual performance. To

3. To analyze the financial and non-financial transactions of the enterprise.

4. To identify and analyze the reasons for the deviations, the variance

analysis is used as a tool to compare the actual with the plans.

5. To study the hidden information of the financial statements for the draft

of policies.

6. To fix the responsibilities for implementation of plans and budgets.

Difference b/w management & financial accounting

Financial accounting

management accounting

the objective of a/cing is to measure

and access the business result and

financial position of the firm

The objective of mgt a/c is to prepare

analytical and critical financial

statement to assist mgt to take decision

Fe nature of financial a/c ing is historic

outlook

the nature mgt a/cing is futuristic and

helps mgt for planning and decision

making for the future

fa is based on a/cing principles and

conversion

Mgt a/cing is not bound by constant of

generally accepted a/cing principles it

can frame rules and principles

regarding form and content of

information

3Fa use by out siders Mgt use by in the co

subject matter of fa considers business

as one entity

Ma each unit or department or

division is treated as separate entity

depends on mgt discretion

Cost accounting

any account of organization can be described by its cost so cost accounting is

considered as the back bone of mgmt accounting as it provides the analytical

tools such as budgetary control,standard.costing , .marginal costing , inventory

control, operating costing etc….,,which are used by mgmt to carry out the

operations of undertaking .

Cost Accountancy is that branch of Accountancy that is concerned with the

ascertainment and control of costs with a view to enhance managerial

efficiency.

Types of Cost

1. Total costs- These costs include all the direct costs plus the share of all

overheads that are associated with the product or service by the process of

apportionment and absorption.

2. Standard costs- These costs are predetermined according to management‟s

standards of efficiency for the purpose of comparison with actual costs as

and when they are incurred.

3. Marginal costs- A marginal cost includes only the prime or direct cost plus

those indirect costs or overheads that vary proportionately with the output.

The concept of marginal cost is very useful for the purpose of managerial

decision making

4. Conversion costs- The aggregate of the direct wages, direct expenses and the

manufacturing overheads that convert the raw materials into work in

progress and finished goods.

5. Differential costs – This is the change in the level of cost due to the change

in the level of activity.

6. Opportunity cost- This is the value of the benefit forgone by choosing a

course of action in preference to an available alternative.

7. Discretionary or policy cost- These are the costs that are incurred in

connection with the adoption and execution of the policies of management.

These costs are fixed in nature and have no relevance to the output.

8. Notional costs - These are those costs that are not actually incurred but at the

same time are considered in the ascertainment of the total costs in cost

accounts only. For example, depreciation of an asset which has outlived its

life but is still useful will have a notional charge of depreciation. Similarly

notional rent will have to be provided in cost accounts even if the premises

are owned by the business.

9. Joint costs - These are common costs that are not related to a particular unit

of a product or service but have to be distributed or apportioned to the

various departments on some realistic basis.

10. Period costs – These are those costs that do not vary with the change in the

level of output but which change only over a period of time on account of

factors like creation of capacity. Fixed costs fit into the definition of period

costs as only these costs change due to lapse of time.

11. Out of pocket costs- This includes the prime cost plus variable overhead that

is incurred due to increase in the level of output.

12. Relevant costs- These represent those costs that are to be incurred in the

future after planning the level of output.

13. Replacement costs- This is the cost of replacement of an asset based on the

current market value.

14. Shut down costs - The costs that will be incurred when the plant is not

functioning temporarily.

COST SHEET

Cost sheet include following items

Direct Material

Direct Labour

Direct Expenses

Prime Cost

Production Or Factory Overhead

Production Cost

Administrative Costs

Selling and Distributive Expenses

Total Cost of Sales

Profit

Sale Price

Financial Analysis

Financial analysis (also referred to as financial statement analysis or

accounting analysis) refers to an assessment of the viability, stability and

profitability of a business, sub-business or project.

It is performed by professionals who prepare reports using ratios that make use

of information taken from financial statements and other reports. These reports

are usually presented to top management as one of their bases in making

business decisions. Based on these reports, management may:

Continue or discontinue its main operation or part of its business;

Make or purchase certain materials in the manufacture of its product;

Acquire or rent/lease certain machineries and equipment in the

production of its goods;

Issue stocks or negotiate for a bank loan to increase its working capital;

Make decisions regarding investing or lending capital;

Other decisions that allow management to make an informed selection on

various alternatives in the conduct of its business.

Cash Flow statement

Inflow and outflow of cash are found.

Analyses are in three different categories:-

Investing activity:- purchase and sale of fixed assets

Operating activity:- regular activity of the business, like raw material &

sales. Generally short term periods

Financing activity: - issue and repayment of share, debenture and loans.

Generally long term periods

Purpose of the Statement of Cash Flows

1. The organization‟s ability to generate positive future net cash flows.

2. The organization‟s ability to meet its financial obligations and pay

dividends.

3. The future needs of the organization for external financing.

4. The reasons for the difference between net income and the net cash flows

related to operating activities.

5. The effects of the organization‟s cash and noncash investing and financing

activities.

Fund flow statement

Fund flow statement takes cash + near cash assets.

The term „flow‟ means movement and includes both „inflow‟ and „outflow‟.

The term „flow of funds‟ means transfer of economic values from one asset

of equity to another

Flow of funds is said to have taken place when any transaction makes

changes in the amount of funds available before happening of the transaction

Accounting Cycle

The sequence of activities beginning with the occurrence of a transaction is known as the accounting cycle. This process is shown in the following diagram:

Steps in the Accounting Cycle

Identify the Transaction

Identify the event as a transaction and generate the source document.

Analyze the Transaction

Determine the transaction amount, which accounts are affected, and in which direction.

Journal Entries

The transaction is recorded in the journal as a debit and a credit.

Post to Ledger

The journal entries are transferred to the appropriate T-accounts in the ledger.

Trial Balance

A trial balance is calculated to verify that the sum of the debits is equal to the sum of the credits.

Adjusting Entries

Adjusting entries are made for accrued and deferred items. The entries are journalized and posted to the T-accounts in the ledger.

Adjusted

Trial Balance

A new trial balance is calculated after making the adjusting entries.

Financial Statements

The financial statements are prepared.

Closing Entries

Transfer the balances of the temporary accounts (e.g. revenues and expenses) to owner's equity.

The above diagram shows the financial statements as being prepared after the adjusting entries and adjusted trial balance. The financial statements also can be prepared before the adjusting entries with the help of a worksheet that calculates the impact of the adjusting entries before they actually are posted.

Trial Balance

Trial balance is a statement which is prepared to check the arithmetical accuracy

of the accounts. It will be prepared with the help of balances of different

accounts in ledger. or It can be prepared based on following principle.

Debit : All expenses, losses and assets

Credit : All Incomes, gains and liabilities

Profit and loss accounts

The purpose of the profit and loss account is to:

Show whether a business has made a PROFIT or LOSS over a financial

year.

Describe how the profit or loss arose – e.g. categorising costs between

“cost of sales” and operating costs.

A profit and loss account starts with the TRADING ACCOUNT and then takes

into account all the other expenses associated with the business.

Balance sheet

Asset side

Fixed assets

Investments

Current assets &loans ,advances

Miscellaneous expenditure to the extent not written off

Accumulated losses

Liability side

Share capital

Reserves and surplus

Secured loans

Unsecured loans

Current liabilities and provisions

Final account

Set of accounts that are prepared at the end of the financial period to

ascertain:financial resultsof the org (retail,wholesale,manufacturing,service)as

reflected by its profit earned or loss affected,financial position as affected by its

assets and liabilities.

Cash Book

Cash book is maintained to record the transactions, relating to the receipts and

payments of cash. There are many transactions in a business relating to the cash

which justify the maintenance of a separate book for this purpose. Moreover,

control on cash is very essential in a business house for which cash book

becomes an essential factor especially in order to avoid the embezzlement of

cash. If the business man is interested to know the balance of cash in hand or at

bank, even then cash book is to be manipulated. It is also maintained in order to

avoid the botheration of posting every item of receipt or payment of cash

individually to Cash Account in the ledger.

IS CASH BOOK A JOURAL OR A LEDGER?

Cash book plays dual role as a book of original entity as well as a ledger. It is a

subsidiary book because all cash transactions are first recorded in the cash book

and then from cash book posted to various accounts in the ledger. The recording

of transactions in the cash book takes the shape of a ledger account. As receipts

of cash are entered on the debit side and payment of cash on the credit side, so

there is no need of preparing cash account ledger. Therefore, cash book servers

the purpose of a ledger account.

From the above, it is clear, that cash book fulfils the functions of a subsidiary

book and ledger both.

KINDS OF CASH BOOK

There are three types of cash books which are maintained in business according

to its needs of convenience. These are :

o Simple cash book

o Two column cash book

o Three column cash book

o Multi columnar cash book.

In addition to the cash book, the various business houses may also maintain

petty cash book.

MODULE 2

Management Accounting

Management accounting combines accounting, finance and management with

the leading edge techniques needed to drive successful businesses.

Chartered management accountants:

advise managers about the financial implications of projects

explain the financial consequences of business decisions

formulate business strategy

monitor spending and financial control

conduct internal business audits

explain the impact of the competitive landscape

Difference b/w Financial & Management Accounting

Financial Accounting Managerial Accounting

» Reports to those outside the

organization owners, lenders,

tax authorities and regulators.

» Reports to those inside the

organization for planning,

directing and motivating,

controlling and performance

evaluation.

» Emphasis is on summaries of

financial consequences of past

activities.

» Emphasis is on decisions

affecting the future.

» Objectivity and verifiability of

data are emphasized. » Relevance of items relating to

decision making is

emphasized.

» Precision of information is

required. » Timeliness of information is

required.

» Only summarized data for the

entire organization is prepared. » Detailed segment reports about

departments, products,

customers, and employees are

prepared.

» Must follow Generally

Accepted Accounting

Principles (GAAP).

» Need not follow Generally

Accepted Accounting

Principles (GAAP).

» Mandatory for external reports. » Not mandatory.

Classifications of cost

1. According To Nature

a. Materials Cost

b. Labour Cost

c. Expenses 2. According to function

a. Production Cost

b. Selling & Distribution Cost

c. Administration Cost

d. RD Cost

3. According To Identifiably

a. Direct

b. InDirect 4. According To Behaviour

a. Fixed

b. Variable

c. Semi-Fixed Variable 5. According Association With Products

a. Product Costs

b. Period Costs 6. According to Controllability

a. Controllable Costs

b. Uncontrollable Costs 7. According To Normality

a. Normal Costs

b. Abnormal Costs 8. According To Time

a. Historical Costs

b. Pre-determined Costs 9. According To Relevance

a. Opportunity Cost

b. Relevant Cost

c. Shut Down Cost

d. Differential Cost

e. Imputed Cost

f. Out-Of-Pocket Cost

g. Marginal Cost

h. Replacement Cost 10. Other Costs

a. Conversion Costs

b. Avoidable Costs

c. Unavoidable Costs

Cost accounting systems

A cost accounting system requires five parts that include: 1) an input

measurement basis, 2) an inventory valuation method, 3) a cost accumulation

method, 4) a cost flow assumption, and 5) a capability of recording inventory

cost flows at certain intervals. These five parts and the alternatives under each

part are summarized in Exhibit 2-1. Note that many possible cost accounting

systems can be designed from the various combinations of the available

alternatives, although not all of the alternatives are compatible. Selecting one

part from each category provides a basis for developing an operational

definition of a specific cost accounting system.

Job order costing

Job-order costing is a cost system that is used to accumulate costs by jobs.

These jobs could also be called batches, as each job is generally a “batch” of

similar products. Each batch should be individualized in some way to make it

differentiated from other batches for it to be a separate job. If batches were all

identical, another type of costing would be more appropriate.

The Job-Order Costing Process

When a company operates using job-order costing, a specific set of events will

usually occur with each job. Generally, the process is as follows:

An order (or sales order) is received for the batch of products

A production order is issued from the sales order

Materials and labor are ordered and tracked for the set of products

Manufacturing overhead is allocated to the job using a predetermined rate

(usually per labor hour or per machine hour)

Actual manufacturing overhead will not affect the work-in-process

account, instead it is charged to a control account

Direct labor and materials are charged by the accountant to the work-in-

process accounts using the actual amounts incurred

These amounts are all tracked using a job-costing sheet, which will most

likely be in a computerized format and a subsidiary ledger is kept for

each job

Abnormal spoilage (spoilage that is above and beyond what would be

expected from the job) is considered a period cost and is reclassified from

the work-in-process account into a separate account so it can be

addressed by management.

Activity based costing

Activity Based Costing (ABC) is an alternative to the traditional way of

accounting. Traditionally it is assumed that high volume customers are

profitable customers. A loyal customer is also a profitable customer. And profits

will follow a happy customer. Studies about customer profitability have

unveiled that the above ideas are not necessarily true. ABC is a costing model

that identifies the cost pools, or activity centers, in an organization. It assigns

costs to products and services (cost drivers), based on the number of events or

transactions that are taking place in the process of providing a product or

service. As a result, Activity Based Management can support managers to see

how shareholder value can be maximized and how corporate performance can

be improved.

Historically, cost accounting models related indirect costs on the basis of

volume.

Typical benefits of Activity-Based Costing:

Identify the most profitable customers, products and channels.

Identify the least profitable customers, products and channels.

Determine the true contributors to- and detractors from- financial

performance.

Accurately predict costs, profits and resources requirements associated with

changes in production volumes, organizational structure and costs of

resources.

Easily identify the root causes of poor financial performance.

Track costs of activities and work processes.

Equip managers with cost intelligence to stimulate improvements.

Facilitate a better Marketing Mix

Enhance the bargaining power with the customer.

Achieve better Positioning of products

Process costing

Process costing is a term used in cost accounting to describe one method for

collecting and assigning manufacturing costs to the units produced. Processing

cost is used when nearly identical units are mass produced. (Job costing or job

order costing is a method used when the units manufactured vary significantly

from one another.)

Cost, Volume, Profit analysis

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 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.

MODULE 3

Capital budgeting decisions

In today‟s complex business environment, making capital budgeting decisions are

among the most important and multifaceted of all management decisions as it represents

major commitments of company‟s resources and have serious consequences on the

profitability and financial stability of a company. It is important to evaluate the proposals

rationally with respect to both the economic feasibility of individual projects and the relative

net benefits of alternative and mutually exclusive projects.

The growing internationalization of business brings stiff competition which requires a

proper evaluation and weightage on capital budgeting appraisal issues viz. differing project

life cycle, impact of inflation, analysis and allowance for risk. Therefore financial managers

must consider these issues carefully when making capital budgeting decisions.

Standards and variable costing

In modern cost accounting, the concept of recording historical costs was taken

further, by allocating the company's fixed costs over a given period of time to

the items produced during that period, and recording the result as the total cost

of production. This allowed the full cost of products that were not sold in the

period they were produced to be recorded in inventory using a variety of

complex accounting methods, which was consistent with the principles of

GAAP (Generally Accepted Accounting Principles). It also essentially enabled

managers to ignore the fixed costs, and look at the results of each period in

relation to the "standard cost" for any given product.

For example: if the railway coach company normally produced 40 coaches per

month, and the fixed costs were still 50,000/month, then each coach could be

said to incur an overhead of 1250 (50,000 / 40). Adding this to the variable

costs of 15,000 per coach produced a full cost of 16,250 per coach.

"Variable costing" refers to any costs within a manufacturing facility other

than direct material and direct labor. Manufacturing overhead includes such

things as indirect labor, indirect materials (such as manufacturing supplies),

utilities, quality control, material handling, and depreciation on the

manufacturing equipment and facilities.

"Variable" manufacturing overhead costs will increase in total as output

increases. An example is the cost of the electricity needed to operate the

machines that cut and sew the denim. Another example is the cost of the

manufacturing supplies (such as needles and thread) that increase when

production increases. In our example we assume that these variable

manufacturing overhead costs fluctuate in response to the number of direct

labor hours.

Production cost variance analysis

Variance Analysis is defined to be an analysis of the cost variances into its

component parts and the explanation of the same. It is that part of the process of

control which involves the calculation of a variance and interpretation of results

for identifying the causes thereof and also for pinpointing responsibility.

Variances are normally calculated for all the cost components such as Materials,

Labour and Overheads.

Example:

One unit of Product A requires TWO Kgs. of Material X at a price of Rs.5 per

Kg. Ten units of Product A was manufactured and 22 Kgs. of X was consumed.

The actual price was Rs.6 per Kg.

Computation of the cost variance:

For the actual production of 10 Units of A, the consumption at standard should

have been 20 Kgs. of X. With a standard price of Rs.5 per Kg. the total standard

cost for actual production works out to Rs.100; whereas the actual cost incurred

for the same level of production happens to be Rs.132 (22 Kgs. x Rs.6 per Kg.).

The above results in a total cost variance of Rs.32 Unfavorable.

Responsibility control

Everyone in an organization has responsibility for internal control to some

extent. Virtually all employees produce information used in the internal control

system or take other actions needed to effect control. Also, all personnel should

be responsible for communicating upward problems in operations,

noncompliance with the code of conduct, or other policy violations or illegal

actions.

Each major entity in corporate governance has a particular role to play:

Management: The Chief Executive Officer (the top manager) of the

organization has overall responsibility for designing and implementing effective

internal control. More than any other individual, the chief executive sets the

"tone at the top" that affects integrity and ethics and other factors of a positive

control environment. In a large company, the chief executive fulfils this duty by

providing leadership and direction to senior managers and reviewing the way

they're controlling the business. Senior managers, in turn, assign responsibility

for establishment of more specific internal control policies and procedures to

personnel responsible for the unit's functions. In a smaller entity, the influence

of the chief executive, often an owner-manager is usually more direct. In any

event, in a cascading responsibility, a manager is effectively a chief executive of

his or her sphere of responsibility. Of particular significance are financial

officers and their staffs, whose control activities cut across, as well as up and

down, the operating and other units of an enterprise.

Board of Directors: Management is accountable to the board of directors,

which provides governance, guidance and oversight. Effective board members

are objective, capable and inquisitive. They also have knowledge of the entity's

activities and environment, and commit the time necessary to fulfill their board

responsibilities. Management may be in a position to override controls and

ignore or stifle communications from subordinates, enabling a dishonest

management which intentionally misrepresents results to cover its tracks. A

strong, active board, particularly when coupled with effective upward

communications channels and capable financial, legal and internal audit

functions, is often best able to identify and correct such a problem.

Auditors: The internal auditors and external auditors of the organization also

measure the effectiveness of internal control through their efforts. They assess

whether the controls are properly designed, implemented and working

effectively, and make recommendations on how to improve internal control.

They may also review Information technology controls, which relate to the IT

systems of the organization.

Responsibility accounting information used in management control

Responsibility accounting is used to identify what parts of the organization have

primary responsibility for each objective, develop performance measures and

targets to achieve, and design reports of these measures by organization subunit

or responsibility center.

MODULE 4

Budget

An important instrument of the financial management used as aid in planning,

programming and control

A budget may be defined as a financial and quantitative statement, prepared and

approved prior to defined period of time, of the policy to be pursued during that

period for the purpose of achieving the given objective.

Budget: advantages

It is a tool for -

a) Quantitative expression of the planning

b) Evaluation of financial performance in accordance with plans

c) Controlling costs

d) Optimizing the use of resources

e) Directing the total efforts in to the most profitable channels

Types of budget

Sales budget

The sales budget is an estimate of future sales, often broken down into both

units and dollars. It is used to create company sales goals.

Production budget

Product oriented companies create a production budget which estimates the

number of units that must be manufactured to meet the sales goals. The

production budget also estimates the various costs involved with manufacturing

those units, including labor and material.

Cash Flow/Cash budget

The cash flow budget is a prediction of future cash receipts and expenditures for

a particular time period. It usually covers a period in the short term future. The

cash flow budget helps the business determine when income will be sufficient to

cover expenses and when the company will need to seek outside financing.

Marketing budget

The marketing budget is an estimate of the funds needed for promotion,

advertising, and public relations in order to market the product or service.

Project budget

The project budget is a prediction of the costs associated with a particular

company project. These costs include labor, materials, and other related

expenses. The project budget is often broken down into specific tasks, with task

budgets assigned to each.

Revenue budget

The Revenue Budget consists of revenue receipts of government and the

expenditure met from these revenues. Tax revenues are made up of taxes and

other duties that the government levies.

Expenditure budget

A budget type which include of spending data items..

Operating budget

A companyÂ‟s planned budget, which takes into account income and expenses

that the company is likely to produce through its current operations. An

operating budget lists expenses such as advertising, salaries, and general and

administrative expenses. The budget should be periodically compared with

actual expenses. The operating budget focuses solely on operating income and

expenses, in contrast with a companyÂ‟s overall budget, which includes items

such as income from investments and other non-operating items.

Why Prepare A Cash Budget?

A cash budget is important for a variety of reasons. For one, it allows you to

make management decisions regarding your cash position (or cash reserve).

Without the type of monitoring imposed by the budgeting process, you may be

unaware of the cycle of cash through your business. At the end of a year or a

business cycle, a series of monthly cash budgets will show you just how much

cash is coming into your company and the way it is being used. Seasonal

fluctuations will be made clear. A cash budget also allows you to evaluate and

plan for your capital needs. The cash budget will help you assess whether there

are periods during your operations cycle when you might need short-term

borrowing. It will also help you assess any long-term borrowing needs.

Basically, a cash budget is a planning tool for management decisions.

MODULE 5

Ratio analysis

Ratio analysis is the process of computing, determining and presenting the

relationship of items or group of items of financial statement .it also involve the

comparison and interpretation of those ratios and the use of them for future

projections. A ratio is a mathematical relationship between two relative item

expressed in quantitative from. This quantitative relationship may be expressed

in either of the following way:-

1. In proportion

2. In rate or time or coefficient

3. In percentage

Different types of ratios

Ratios can be classified into four broad groups:-

i. Liquidity ratios

ii. Profitability ratios

iii. Turnover ratios

iv. Solvency ratios

Due – Pont analysis

The Du Pont Analysis, also known as the Du Pont Identity or DuPont Analysis,

is a representation that splits Return On Equity (ROE) into three segments:

* Financial Leverage (calculated using an equity multiplier)

* Asset use efficiency (calculated using asset turnover)

* Operating efficiency (calculated using the profit margin)

Return on Equity or ROE is calculated with the help of the following formula:

ROE = (Net profit/Sales) × (Sales/Assets) × (Assets/Equity)

= (Profit margin) × (Asset turnover) × (Equity multiplier)

Common size statement

Common size financial statement is also known as percentage analysis. Profit

and loss account and balance sheet is considered. Common size ratios are used

to compare financial statements of different-size companies or of the same

company over different periods. By expressing the items in proportion to some

size-related measure, standardized financial statements can be created, revealing

trends and providing insight into how the different companies compare. A sale

is always 100% taken.

The common size ratio for each line on the financial statement is calculated as

follows:

Common Size Ratio = Item of Interest

Reference Item

For example, if the item of interest is inventory and it is referenced to total

assets (as it normally would be), the common size ratio would be:

Common Size Ratio for Inventory = Inventory

Total Assets

The ratios often are expressed as percentages of the reference amount. Common

size statements usually are prepared for the income statement and balance sheet,

expressing information as follows:

Income statement items - expressed as a percentage of total revenue

Balance sheet items - expressed as a percentage of total assets

Example income statement

Common Size Income Statement

Income Statement Common-Size

Income Statement

Revenue 70,134 100%

Cost of Goods Sold 44,221 63.1%

Gross Profit 25,913 36.9%

SG&A Expense 13,531 19.3%

Operating Income 12,382 17.7%

Interest Expense 2,862 4.1%

Provision for Taxes 3,766 5.4%

Net Income 5,754 8.2%

MODULE 6

Responsibility Accounting

An accounting system that provides information

Relating to the responsibilities of individual managers.

To evaluate managers on controllable items.

Meaning

Focuses on providing financial information useful in evaluating efficiency and

effectiveness of managers or department heads, on the basis of financial

performance directly under their control

Objectives

managers are held responsible for the difference between the actual

performance and those budgeted;

the managers are closely involved in the planning and controlling of the

resources and

Has a Responsibility centre which is a division or department in the

organization for them to be responsible for their performance.

Types

Examples:

Cost centre: usually a production centre or service department.

Profit centre: individual departments of retail stores and branch offices of

banks.

Investment centre: subsidiary companies

Corporate Financial Statement

The corporate financial statements are the financial reports or formal record

of the financial and business activities of a firm.

The corporate financial statements actually give a summary of the financial

condition and profitability of the firm in both long and short term. The corporate

financial statements are generally complex in nature as they contain analysis

and discussion on the management decisions and financial statement notes. The

financial statement notes define each and every item in the balance sheet

besides describing cash flow statement and income statement in details.

The four basic types of corporate financial statements are:

* Income statement

* Balance sheet

* Statement of cash flows

* Statement of retained earnings

Corporate Reporting

The exact definition of corporate reporting differs depending on who you speak

to. However, throughout this web site we use the term „corporate reporting‟ to

relate to the presentation and disclosure aspects - as distinct from

accounting/measurement - of the following areas of reporting:

* Financial reporting

* Corporate governance

* Executive remuneration

* Corporate responsibility

* Narrative reporting

Financial reporting:- At the core of the corporate reporting model is the

financial reporting model, consisting GAAP-compliant financial statements and

accompanying notes.

Corporate governance: - Relates to the communication of processes by which

companies are directed and controlled. Levels of disclosure differ worldwide

but might include information on board composition and development,

accountability and audit and relations with shareholders.

Executive remuneration: - The communication of how executives are

remunerated, both in the short and longer-term, in order to deliver on their

company‟s strategic objectives.

Corporate responsibility:-Corporate responsibility includes the

communication about how companies are understanding and managing their

impact on people, clients, suppliers, society, and the environment in order to

deliver increased value to all our stakeholders.

Narrative reporting: - Narrative reporting is shorthand for the critical

contextual and non-financial information that is reported alongside financial

information so as to provide a broader more meaningful understanding of a

company's business, its market position, strategy, performance and future

prospects - including quantified metrics.