Solutions Manual for Principle of Accounting and Finance by Peter Carey

7/21/2019 Solutions Manual for Principle of Accounting and Finance by Peter Carey

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Principles of Accounting and Finance

Chapter 1Accounting in Action

ANSWERS TO QUESTIONS

1. Yes, this is correct. Virtually every organisation and person in our societyuses accounting information. Businesses, investors, creditors, governmentagencies, and not-for-prot organisations must use accounting information tooperate eectively. We can group these users into 2 types internal ande!ternal users"#nternal users $ho include managers re%uire specicinformation a&out the day to day operations of the organi'ation $hilste!ternal users $ho include shareholders, &an(s, creditors, regulators re%uireless detailed nancial information $hich focuses on their specic needs.

2. )ccounting is the process of identifying, recording, and communicating theeconomic events of an entity to interested users of the information. *he rststep of the accounting process is therefore to identify events that are +aconsidered evidence of economic activity and +& relevant to a particular&usiness entity. nce identied and measured, the events are recorded toprovide a permanent history of the nancial activities of the entity. ecordingconsists of (eeping a chronological diary of these measured events in anorderly and systematic manner. *he information is communicated throughthe preparation and distri&ution of accounting reports, the most common of$hich are called nancial reports. ) vital element in the communicationprocess is the accountant/s a&ility and responsi&ility to analyse and interpret

the reported information.

0. +a #nternal users are those $ho manage the &usiness and therefore areocers and other decision ma(ers.

+& *o assist management, accounting provides internal reports. !amplesinclude nancial comparisons of operating alternatives, pro3ections ofincome from ne$ sales campaigns, and forecasts of cash needs for thene!t year.

5. +a #nvestors +o$ners use accounting information to ma(e decisions to &uy,hold or sell shares.

+& 6reditors use accounting information to evaluate the ris(s of grantingcredit or lending money.

7. Boo((eeping usually involves only the recording of economic events andtherefore is 3ust one part of the entire accounting process. #t involvesscore(eeping. )ccounting, on the other hand, involves the entire accountingprocess, including identifying, measuring, recording, and communicating andtherefore focuses on attention directing and pro&lem solving activities.

8. 9ac( 9ones *ravel )gency should report the land at :;7


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in accounting standards no$ allo$ us an alternative to cost to sho$ the landsvalue at fair value presuma&ly +:?0


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+d ) $ithdra$al of cash from the &usiness is a &usiness transaction as itaects the &asic e%uation.

18. 6orporate governance is the system in $hich entities are directed or controlled,managed and administered. 6orporate governance helps ensure that the goalsand hence the decision made &y management are aligned $ith those of theshareholders.

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+2 Iualitative characteristics of accounting information.+0 lements of nancial statements.+5 6oncepts of capital and capital maintenance.

25. +a )ccording to the frame$or(, the o&3ectives of nancial reporting are toprovide information that +1 is useful to those ma(ing economicdecisions, +2 to sho$ the results of the ste$ardship of managementor the accounta&ility of management for the resources entrusted to it.

+& *he %ualitative characteristics are +1 relevance, +2 faithfulrepresentation, +0 compara&ility, +5 understanda&ility, +7veria&ility, and +8 timeliness.

27. #ncome should generally &e recognised in the accounting period in $hich it isearned +not received. *he sales &asis involves an e!change transaction&et$een the seller and &uyer and the sales price provides an o&3ectivemeasure of the amount of sales income realised.

28. #ncome from lay&y sales is recognised $hen the goods are delivered. Jo$ever,

if e!perience indicates that most such sales are consummated, sales revenuecan &e recognised $hen a signicant deposit is received provided the goods areon hand, identied and ready for delivery to the &uyer.

2>. #nitially, the su&scription received in advance should &e recogni'ed as a lia&ility+unearned revenue. #f the items involved are of similar value in each timeperiod +such as a maga'ine, su&scription is recognised on a straight line &asisover the period in $hich the items are dispatched. #f the items are not of similarvalue in each time period, su&scription is recognised on the &asis of the salesvalue of the item delivered relative to the total estimated sales value of allitems covered &y the su&scription.

2;. *he t$o constraints are &alancing the &enets and costs of accountinginformation and materiality. Balancing the &enets and costs involves using

3udgment as to $hether the &enets derived from information e!ceed the costof providing it. Eome information may &e &enecial ho$ever the cost ofproviding the information $ould out$eigh the &enets and hence theinformation may not &e re%uired to &e provided. Eimilarly only items that areconsidered to &e material $ill &e disclosed in the nancial statements. )n itemis considered to &e material if its omission, misstatement or nondisclosure$ould li(ely aect users/ decisions. #n considering $hether an item is material&oth the nature andKor the amount must &e considered. #n determining :values ))EB 1


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the assumption that consistent and compara&le accounting principles areused throughout the $orld. *his $ill provide participants in internationalcapital mar(ets $ith &etter %uality information on $hich to &ase investmentand credit decisions. *his is desira&le &ecause, all other things &eing e%ual,the more soundly &ased those decisions, the more li(ely it $ill &e that fundsare directed to those entities $ho can use them most productively and thatcapital $ill &e appropriately processed for a given level of ris(. =ue toglo&ali'ation of capital mar(ets, the standards should &e compara&le.

01. *here has &een %uite a &it of research done in relation to this %uestion, ho$ever,there is no denitive ans$er. Etudents may li(e to consider the follo$ing points

#mpact of one/s values and up&ringing #mpact of religion on ethics #mpact of importance of family ne/s principles and morals #mpact of various codes of conduct Aegal and professional conse%uences of acting ethicallyKunethically #mpact of personal reputation and community standing.

02. Oor information to &e recorded, it must rst meet the denition and recognitioncriteria associated $ith the appropriate element in the &alance sheet. #s#ntellectual property an )sset to Qonash PniversityR

Defnition Criteria Yes/No Why

Outure economic &enets Yes 6an &e sold, enhancesreputation leading toincrease funding and attract

more students.6ontrolled &y the entity Yes #f Qonash has an e!clusive

use or control over thematerial.

Cast transaction Yes #t has &een fully developed

Recognition Criteria Yes/No Why

Cro&a&le future economic&enet

Yes #t is more li(ely to &e sold orenhance reputation

6an &e measured relia&ly YesKDo Yes #f li(e material has &een

sold or purchased Do #f there is no activemar(et

SOLUTIONS TO RI!" !#!RCIS!S

RI!" !#!RCIS! 1$1

+a :?<


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+a :1


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RI!" !#!RCIS! 1$&

+a +:;><


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+d 5RI!" !#!RCIS! 1$11

+a Oor information to &e recorded, it must rst meet the denition andrecognition criteria associated $ith the appropriate element in the &alancesheet. Ehould the money spent on developing a ne$ soft$are &e recordedas an )sset to QicrosoftR

Defnition Criteria Yes/No

Why

Outure economic &enets Yes Cast e!perience suggests this e!penditure has ledto commercial sales, unli(e some research anddevelopment e!penditure $hich may not lead tocommercial outcomes.

6ontrolled &y the entity Yes )ssuming Qicrosoft has got the patent ande!clusive right to the use of this program.

Cast transaction Yes Qoney has &een spent on its development

Recognition Criteria Yes/No

Why


Yes #t is more li(ely to generate &enets &ased on thepast e!perience on development e!penditure onprevious Windo$s programs eg. FC and Vista.

6an &e measured relia&ly Yes Yes &ased on the amount that Qicrosoft hasspent

+& Oor information to &e recorded, it must rst meet the denition and recognitioncriteria associated $ith the appropriate element in the &alance sheet. Would an

organisation report an employee/s sic( leave entitlementR

Defnition Criteria Yes/No

Why

Cresent o&ligation Yes nce an employee is contracted the organisationis legally &ound to provide 1< days sic( leave perannum

Cast event Yes *he employee and the organisation have signed a$ritten $or( place agreement

utHo$ of resourcesem&odying economic&enets

Yes *he employee $ill &e paid a salary +cash tocompensate for days lost due to sic(ness

Recognition Criteria Yes/No

Why


Yes #t is more li(ely rather than less li(ely that anemployee $ill &e sic( during the course of theyear

6an &e measured relia&ly Yes Yes presuma&ly past data can &e sourced toprovide an accurate estimate of the amountli(ely, on average ,to &e paid to an employee $hoclaims sic( leave

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RI!" !#!RCIS! 1$1%

# #ncrease 6ash :58< #ncrease #nsurance revenueT : 58. +1 6ash " &oth de&it and credit entries.+2 )ccounts eceiva&le " &oth de&it and credit entries.+0 $ner/s =ra$ings " de&it entries only.+5 )ccounts Caya&le " &oth de&it and credit entries.+7 Ealaries !pense " de&its entries only.

+8 Eervice evenue " credit entries only.

1;. *he &asic steps in the recording process are

+1 #dentify the transaction from source documents, such as receipts, che%ue&utts etc.

+2 )nalyse each transaction for its eect on the accounts.+0 nter the transaction information in a 3ournal +&oo( of original entry.+5 *ransfer the 3ournal information to the appropriate accounts in the ledger

+&oo( of accounts.

1?. *he advantages of using the 3ournal in the recording process are+1 #t discloses in one place the complete eects of a transaction.+2 #t provides a chronological record of all transactions.+0 #t helps to prevent or locate errors &ecause the de&it and credit amounts for

each entry can &e readily compared.

2


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RI!" !#!RCIS! %$1

+a :?


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RI!" !#!RCIS! %$*

9une 16ash ............................................................5


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)ug. 1 6ash .................................................................... 7


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RI!" !#!RCIS! %$1&

3= 8= COTTONTria aance

as at &-8une %-1-

De2it Creit

6ash........................................................................................ : 8 ;


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SOLUTIONS TO !#!RCIS!S

!#!RCIS! %$1

1. #ncrease in assets and increase in o$ner/s e%uity.2. =ecrease in assets and decrease in o$ner/s e%uity.0. #ncrease in assets and increase in lia&ilities.5. #ncrease in assets and increase in o$ner/s e%uity.7. =ecrease in assets and decrease in o$ner/s e%uity.8. #ncrease in assets and decrease in assets.>. #ncrease in lia&ilities and decrease in o$ner/s e%uity.;. #ncrease in assets and decrease in assets.?. #ncrease in assets and increase in o$ner/s e%uity.

!#!RCIS! %$%

1. +c 7. +d2. +d 8. +&0. +a >. +e5. +& ;. +f

!#!RCIS! %$&

+a 1. $ner invested :17,


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!#!RCIS! %$'

Account De2ite Account Creite

Trans$

action

BaasicType

B2Specifcaccount

Bc

!ect

BNor0a

aanc

e

BaasicType

B2Specifcaccount

Bc

!ect

BNor0a

aanc

e. 2 )sset 6ash #ncrease =e&it $ner/s

%uityJ. Burns,6apital

#ncrease

6redit

)sset QotorVehicles

#ncrease =e&it )sset 6ash =ecrease

=e&it

)sset Eupplies #ncrease =e&it Aia&ility )ccounts

Caya&le

#ncreas

e

6redit

)sset )ccountseceiva&l

e

#ncrease =e&it $ner/s%uity

Eerviceevenue

#ncrease

6redit

$ner/s%uity

)dvertising

!pense


=e&it

)sset 6ash #ncrease =e&it )sset )ccountseceiva&l

e

=ecrease

=e&it

Aia&ility )ccountsCaya&le

=ecrease

6redit )sset 6ash =ecrease

=e&it

$ner/s%uity

J. Burns,=ra$ings


=e&it

2-29


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!#!RCIS! %$(

4enera 8ourna81

Date Account Tites an !5panation Re7= De2it Creit9an. 2 6ash 17,


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!#!RCIS! %$*4enera 8ourna

Date Accounts Tites an !5panation Re7= De2its Creitct. 1 6ash 2


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+& S6IRL!Y TAN INE!ST.!NT ROF!RTria aance

as at &1 August %-1-De2it Creit

6ash ............................................................................ :7,0


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!#!RCIS! %$,

+a ct. 1 6ash ............................................................. 7,


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!#!RCIS! %$1-

+a 4enera 8ourna81

Date Accounts Tites an!5panation

Re7= De2it Creit

Eept. 1 6ash#an 6amp&ell, 6apital

1


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!#!RCIS! %$11

!rrorBa

In aanceB2

DierenceBc

Larger Cou0n1. Do :5


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Principles of Accounting and Finance 2-36


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!#!RCIS! %$1'

=e&it 6redit*rial &alance totals $ith errors................................................. :;>,;7< :?7 17ectiGes @uestions

rie7!5ercise

s!5ercise

s

3ro2e0sSet A

T1. !plain the timeperiod assumption. 1, 2

T2. !plain the accrual&asis of accounting.

0, 5, 7 1, 8

T0. !plain $hy ad3ustingentries are needed.

1, 8, > 1

T5. #dentify the ma3ortypes of ad3ustingentries.

;, ?, 1

T7. Crepare ad3ustingentries forprepayments.

;, ?, 1, ;, ?,11

1), 2),0),5), 7),8), >)

T8. Crepare ad3ustingentries for accruals.

;, 15, 17,18, 1>, 1;,1?, 2 2, 0, 5, 7,8, >, ;, ?,11

1), 2),0),5), 7),8), >)

T>. =escri&e the natureand purpose of anad3usted trial &alance.

21 0, 5, 7, 8,>, ;, ?, 1< 1), 2),0),7), 8), >)

T;. Crepare ad3ustingentries for thealternative treatmentof prepayments.

22 ? 11 8)

TNote: )llasterisKeIuestions, !ercises and Cro&lems relate to material containedin the appendi! to the chapter.

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ASSI4N.!NT C6ARACT!RISTICS TAL!

3ro2e0

Nu02er

DescriptionDiHcut

yLeGe

Ti0eAotteB0in=

1 Crepare ad3usting entries, post to ledger accounts,and prepare an ad3usted trial &alance.

Eimple 5


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LOO.S TA#ONO.Y TAL!

Correation Chart 2et9een oo0s Ta5ono0y Learning O2>ectiGes an !n$o7$Chapter !5ercises an 3ro2e0s

Learning O2>ectiGe Fno9ege Co0prehension Appication

Anaysis Synthesis !Gauation

T1. !plain the time periodassumption.

I5-1 I5-2

T2. !plain the accrual &asis ofaccounting.

I5-0I5-5

I5-7 5-8 5-1

T0. !plain $hy ad3usting entriesare needed.

I5-1I5-8

I5->B5-1

T5. #dentify the ma3or types ofad3usting entries.

I5-;I5-?

I5-1< I5-1;B5-2

B5-;5-2

5->

T7. Crepare ad3usting entries forprepayments.

I5-;I5-?I5-15-25-05-55-75-8

5->5-;5-?C5-1)C5-2)C5-0)C5-5)

C5-7)C5-8)C5->)

5-11

T>. =escri&e the nature andpurpose of an ad3usted trial&alance.

I5-21 B5-?B5-1)

T;. Crepare ad3usting entries forthe alternative treatment ofprepayments.

I5-22 B5-11 C5-8)

Broadening Your Cerspective 6ommunication Oinancial eporting6omparative )nalysis!ploring the We&

Group =ecision 6ase

#nterpretingOinancialreport

Oinancialreporting%uality case

thics 6ase#nterpreting

Oinancialreport

Eustaina&ilitycase

Oinancialreporting%uality case

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ANSW!RS TO @U!STIONS

1. +a Pnder the time period assumption, an accountant is re%uired todetermine the relevance of each &usiness transaction to specicaccounting periods.

+& )n accounting time period of one year in length is referred to as a scalyear. ) scal year that e!tends from 1 9anuary to 01 =ecem&er is referredto as a calendar year. ) scal year that e!tends from 9uly to 9une isreferred to as a nancial year. )ccounting periods of less than one yearare called interim periods.

2. *he t$o generally accepted accounting principles that relate to ad3usting theaccounts are

*he revenue recognition principle, $hich states that revenue should &erecognised in the accounting period in $hich the economic &enets have&een received.

*he e!pense recognition principle, $hich states that e!penses should &erecognised in the accounting period in $hich they are incurred.

0. *he la$ rm should recognise the revenue in )pril. *he revenue recognitionprinciple states that revenue should &e recognised in the accounting period in$hich it is earned.

5. #nformation presented on an accrual &asis is more useful than on a cash &asis&ecause it reveals relationships that are li(ely to &e important in predictingfuture results. *o illustrate, under accrual accounting, revenue is recognised$hen earned. *rends in revenue are thus more meaningful.

7. !penses of :8


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1


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12. %uipment :2


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RI!" !#!RCIS! '$1

+a Crepaid #nsurance " to recognise insurance e!pired during the period.

+& =epreciation !pense " to account for the depreciation that has occurred on theasset during the period.

+c Pnearned evenue " to record revenue earned for services provided.

+d #nterest Caya&le " to recognise interest accrued &ut unpaid on interest paya&le.

RI!" !#!RCIS! '$%

#tem+a

*ype of )d3ustment+&

)ccounts &efore )d3ustment

1. Crepaid !pense )ssets verstated!penses Pnderstated

2. )ccrued evenue )ssets Pnderstatedevenues Pnderstated

0. )ccrued !pense !penses PnderstatedAia&ilities Pnderstated

5. Pnearned evenue Aia&ilities verstatedevenues Pnderstated

RI!" !#!RCIS! '$&

=ec. 01 )dvertising Eupplies !pense 7,


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9uly 1 Crepaid #nsurance 12,


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!#!RCIS! '$1

+a )ccrual-&asis accounting records the events that change an entity/s nancialreports in the periods in $hich the events occur rather than in the periods in

$hich the entity receives or pays cash. #nformation presented on an accrual &asisis useful &ecause it reveals relationships that are li(ely to &e important inpredicting future results. 6onversely, under cash-&asis accounting, revenue isrecorded only $hen cash is received, and an e!pense is recognised only $hencash is paid. )s a result, the cash &asis of accounting often leads to misleadingnancial reports.

+& Coliticians might desire a cash-&asis accounting system over an accrual-&asissystem &ecause if an accrual-accounting system is used, it could mean that&illions in government lia&ilities presently unrecorded $ould have to &e reportedin the federal &udget immediately. *he recognition of these additional lia&ilities$ould ma(e the decit even $orse. *his is not $hat politicians $ould li(e to seeand &e held responsi&le for.

+c Croponents of accrual reporting, argue that $hole of government nancialstatements can provide a useful overvie$ of a government/s nancialperformance, its assets and lia&ilities and cash Ho$s. *his provides usefulinformation upon $hich informed decisions can &e made on the achievement ofthe government/s overall o&3ectives and in respect of choices that a governmenthas made in the allocation of resources according to its various priorities andcommitments +i.e. its accounta&ility. )ccrual accounting permits users to assesstrends of nancial performance and position. #t provides more comprehensiveinformation as to the revenue generated &y government entities and the full

costs of governments/ services and activities.

!#!RCIS! '$%

#tem+a

*ype of )d3ustment+&

)ccounts &efore )d3ustment

1. )ccrued evenue )ssets Pnderstatedevenue Pnderstated

2. Crepaid !penses )ssets verstated!penses Pnderstated

0. )ccrued !penses !penses PnderstatedAia&ilities Pnderstated

5. Pnearned evenue Aia&ilities verstatedevenue Pnderstated

7. )ccrued !penses !penses PnderstatedAia&ilities Pnderstated

8. Crepaid !penses )ssets verstated!penses Pnderstated

5-90


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!#!RCIS! '$&

1. Qar.01 =epreciation !pense +:0


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!#!RCIS! '$)

Ans9er Co0putation

+a Eupplies &alance @ :117< Eupplies e!pense : ?7uste Tria aance

as at 01 Qay 2


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+& #nterest of 12M per year e%uals a monthly rate of 1MX monthly interest is :772)ccounts eceiva&le >,;5< >,;5 ]]]]]] ]]]]]] ]]]]]] ]]]]7>

*otals 82,?2

!#!RCIS! ($%TRIN6 CO.3ANY

Inco0e State0entOor the Qonth nding 0< )pril 281#nterest e!pense 7>

*otal e!penses 11,02;Det prot : 1,282

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TRIN6 CO.3ANYState0ent o7 Changes in !;uityOor the Qonth nding 0< )pril 2 ;5

0< Crot and Aoss Eummary 1,282C. *rinh, 6apital 1,282

0< C. *rinh, 6apital 0,87


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3ROL!. ($&+a WILLIA.S CO.3ANY

Inco0e State0entOor the Year nding 01 =ecem&er 2


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3ROL!. ($&+continued

+& 4enera 8ourna

=ate )ccount *itles and !planation ef. =e&it 6redit=ec. 01 Eervice evenue 5


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5-142


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3ROL!. ($&+continued

+d WILLIA.S CO.3ANY3ost$Cosing Tria aance

as at 01 =ecem&er 2,5


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3ROL!. ($'

+a 8ASON RO4!RS .ANA4!.!NT S!REIC!SWorKsheet

Oor the Year nding 01=ecem&er 2ust0entsA>uste

Tria aanceInco0e

State0ent aance Sheet

Dr= Cr= Dr= Cr= Dr= Cr= Dr= Cr= Dr= Cr=

6ash)ccounts eceiva&le

Crepaid #nsuranceAandBuildingQotor Vehicle)ccounts Caya&lePnearned ent evenueQortgage Caya&le

9. ogers, 6apital9. ogers, =ra$ingsEervice evenueent evenueEalaries !pense)dvertising !pensePtilities !pense

*otals#nsurance !pense=epr. !pense " Building)ccum. =epr. " Building=epr. !pense " QotorVehicle

)ccum. =epr. " QotorVehicle#nterest !pense#nterest Caya&le

*otalsDet Crot

*otals

15 7


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#nterest Caya&le.

5-145


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3ROL!. ($'+continued

+& 8ASON RO4!RS .ANA4!.!NT S!REIC!Saance Sheet

as at 01 =ecem&er 2


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3ROL!. ($(+a General 9ournal

91=ate )ccount *itles and !planation ef. =e&it 6redit

9uly 1 6ash 1


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3ROL!. ($(+continued

5-149

B2 Bc TSAIS WINDOW WAS6IN4WorKsheet

Oor the Qonth nding 01 9uly 2ust0entsA>uste Tria

aanceInco0e

State0ent aance Sheet

Dr= Cr= Dr= Cr= Dr= Cr= Dr= Cr= Dr= Cr=

6ash

)ccounts eceiva&le6leaning EuppliesCrepaid #nsurance%uipment)ccounts Caya&leve *sai, 6apitalve *sai, =ra$ingsEervice evenueCetrol !penseEalaries !pense

*otals=epreciation !pense)ccum. =epr. "%uipment#nsurance !pense6leaning Eupplies!penseEalaries Caya&le

*otalsDet Crot

*otals

7,1


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3ROL!. ($(+continued

+a, +e ^ +f

Cash No= 1-1=ate !planation ef. =e&it 6redit Balance

9uly 1 91 12,


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!Ge Tsai Capita No= &-1=ate !planation ef. =e&it 6redit Balance

9uly1

91 12,


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+d TSAIS WINDOW WAS6IN4Inco0e State0ent

Oor the Qonth nding 01 9uly 2,


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+g TSAIS WINDOW WAS6IN43ost$Cosing Tria aance

as at 01 9uly 2


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3ROL!. ($*!RN!ST ANFS CO.3ANY

Cash ?o9 state0entOor the Year nded 01 =ecem&er 2


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Y3 ($% CO.3ARATIE! ANALYSIS 3ROL!.

+a +in millions OostersGroup

Aimited

Burns Chilpand

6ompanyAimited1. *otal current assets 0 008 ;202. *otal property, plant e%uipment 2,775 1,075. *otal shareholders/ e%uity 5,??5 ;?7< +:2> 2


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1 Chapter )% "inancia state0ent anaysis

ASSI4N.!NT CLASSI"ICATION TAL!

Learning O2>ectiGes @uestions

rie7!5ercise

s!5ercise

s3ro2e0s

1. =iscuss the need for comparativeanalysis.

1, 2, 0, 7

2. #dentify the tools of nancialstatement analysis.

2, 0, 7, 8

0. !plain and apply hori'ontalanalysis.

0, 5, 7 1, 2, 0, 5 1, 2, 0

5. #dentify and compute ratios,descri&e their purpose and use inanalysing a rm/s li%uidity,prota&ility and solvency, andappreciate the ratio inter-relationships.

7, 8, >, ;,?, 1, ; 5, 7, 8, >,;

1, 2, 0, 5,7

7. Pnderstand the concept of normalearnings +earnings persistenceand indicate ho$ unusual itemsnot typical of regular operationsare presented.

1>

8. ecognise the limitations ofnancial statement analysis.

1;

ASSI4N.!NT C6ARACT!RISTICS TAL!

3ro2e0Nu02e

r

Description LeGe Ti0eAotteB0in=

1 6ompute ratios from &alance sheet and incomestatement.

Eimple 2


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prota&ility, and solvency for t$o companies.

7 6ompute numerous ratios. Eimple 0


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addition, other ratios of the entity are necessary to determine overallnancial $ell-&eing.

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;. +a Ai%uidity ratios measure the short-term a&ility of the entity to pay itsmaturing o&ligations and to meet une!pected needs for cash.

+& Crota&ility ratios measure the prot or operating success of an entityfor a given period of time. Crota&ility can &e assessed from either theo$ner/s perspective +i.e., #, or from the perspective of the

eciency of management in managing the assets of the &usiness +i.e.,).

+c Eolvency ratios measure the a&ility of the entity to survive over a longperiod of time.

?. *he current ratio relates current assets to current lia&ilities. *he acid-test ratiorelates cash, short-term investments, and net receiva&les to current lia&ilities.

*he current ratio includes inventory and prepaid e!penses $hile the acid-testratio e!cludes these. *he acid-test ratio provides additional information a&outshort-term li%uidity and is an important complement to the current ratio. #f the&usiness need to pay its current o&ligations immediately, the acid-test ratio

provides the &est indication of the &usinesses capacity to do so.

1


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15.

eturn on totalassets+>.8M

@AssetsAverage

Profit

eturn on o$ner/s e%uity

+12.;M@

EquitysOwner'

Profit

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RI!" !#!RCIS! )=%2


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+c )cid-test ratio

155!

000644$400005""$22

000644$40

000545$12000947$1000041$8

s%ia&i%itie'urrent

(net)s*e+eiva&%esinvest,entter,-./ort'as/

=

=

++=

++

*he %uic( ratio sho$s that Jo 6hi #nc has only 77 cents of li%uid current assets tomeet their current lia&ilities. *his shortfall may indicates an ina&ility to meetimmediate o&ligations.

RI!" !#!RCIS! )=)

+a )sset turnover @assetsAverage

revenuesa%eset

)sset turnover @

2

000000$18000000$14

000000$88

+

)sset turnover @ 7.7 times

+& Crot margin @revenuesa%eset

Profit

Crot margin @000000$88

000440$11

Crot margin @ 10M

RI!" !#!RCIS! )=*

+a )ccounts receiva&le turnover @sre+eiva&%enetAverage

sa%es+reitet

2.2 times

000$505

000100$"@ 8.15 times

T+:72


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RI!" !#!RCIS! )=+

+a #nventory turnover @inventoryAverage

salesofCost

+1 20 days

+& Qanagement should &e concerned $ith the fact that inventory is moving slo$erin 2


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!#!RCIS! )=1

Ba.ARY CO=

Conense aance Sheetsas at 01 =ecem&er

#ncrease or +=ecrease

2


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!#!RCIS! )=%

Ba RA.S!Y COR3ORATIONConense aance Sheets

as at 0< 9une

2


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e!penses increased &y 0


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!#!RCIS! )='

+a 6urrent ratio @ 2.21 +:2 _ :?7188 _ :?1>TT6reditors turnover@ 7.2; times +:2;


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!#!RCIS! )=)

Ba %-11%-1-

+i000$40

000$145@ 0.81.

000$60

000$140@ 2.01.

+ii000$40

000$85@ 2.11.

000$60

000$90@ 1.71.

+iii (1)000$65

000$400

@ 8.2 times. (1000$!!

000$"60

@ 8.8 times.

+iv(2)000$55

000$198@ 0.8 times.

(#000$!1

000$10@ 0.0 times.

+v("000$#1

000$160@ >.82 times.

("000$##

000$140@ 8.5 times.

+1#

000$60000$0 +

#

000$!0000$60 +

+2#

000$!0000$60 +#

000$!#000$!0 +

+0#

000$#4000$1% +#

000$#0000$#4 +

+& *here has &een a mar(ed improvement in li%uidity from &et$een 2


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!#!RCIS! )=*

+a +i Crot margin

Blac( 6ompany @ 000$800

000$60

@ >.7M

White 6ompany @000$#0

000$4#@ 7.;M

+ii )sset turnover

Blac( 6ompany @000$!%0

000$%00@ 1.5 times +1.0>?0

White 6ompany @000$!00

000$#0@ 1.5 times +1.55

)ssume that total assets at the &eginning of the nancial year is the same as totalassets at the end of nancial year. *herefore, the total assets used to calculate assetturnover is the total assets as at 0< 9une 2


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calculate return on e%uity is the total o$ners/ e%uity as at 0< 9une 2


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SOLUTIONS TO 3ROL!.S

3ROL!. )=1

+a eturn on o$ner/s e%uity @ +2700$566400$465

000$199

eturn on common shareholders/ e%uity @050$516

000$199

eturn on common shareholders/ e%uity @ 0;.8M.

+& eturn on assets @

+

2

200$970800$852

000$199

@500$911

000$199@ 21.;M.

+c 6urrent ratio @ 500$20" 900$"69 @ 1.;21

+d )cid-test ratio @500$20"

900$2"6@ 1.181

+e eceiva&les turnover @

+

2

)800$107800($102

500818$1

eceiva&les turnover @"00$105

500818$1

eceiva&les turnover @ 1>.0 times.

+f #nventory turnover @

+

2

000$1""500$115

500011$1

@250124$

500011$1@ ;.1 times.

+g #nterest coverage ratio @000$18

000$"01@ 18.> times.

+h )sset turnover @500$911

500818$1 @ 2.< times.

T+:;72 ;< 2


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+l 6reditors turnover @

+

#

400$14!000($160

004%6#$

eceiva&les turnover @00$1!#

004%6#$

eceiva&les turnover @ 7.87 times.

*he performance of *aylor *ool 6ompany has improved in 2


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less ecient in generating sales from the assets employed +declining assetturnover the prot generated from each dollar of sales has increasedsignicantly +5.?2M to 8.;8M reHecting a 0?M increase in prot margin.

*he company appears to &e involved in attempting to reduce its de&t &urdenas its de&t to total assets ratio has decreased. Eimilarly, its payout ratio hasdecreased, $hich suggests the company is retaining a greater proportion ofprots $ithin the &usiness to fund assets purchases and reduce lia&ilities.

3ROL!. )=&A#IP#=#*Y

2


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3ROL!. )='

+a Ratio Targa Way

+)ll =ollars )re in Qillions

+1

+2+0

+5+7+8+>+;+?+1.? days +087 _ 2 258 _:505?7>.? days +087 _ 8.00.7M +:10>5 _ :0? 1>81.; ! +:0? 1>8 _:21,;22a8.0M +:10>5 _ :21,;22a1?.1M +:10>5 _ :>1;?.7&8>.7M +:18,2?5 _ :25175

7.; +:28;< _ :585

1. 2;2

117.8 +:21> >?? _ :1;;50.2 days +087 _ 117.8

>.; ! +:1>1,782 _ :22,.;0.1M +:8;75 _ :21> >??2.> ! +:21> >?? _ :;< >?? _ :1028

a+:25 175 :1? 5?; 10;8< :871? _ 2 d+:07 1


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3ROL!. )=(

+a 6urrent ratio @000$145

000$215@ 1.71.

+& )cid-test ratio @ 000$145

000$92000$18000$21 ++@


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3ROL!. )=)

2


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Y3 )=1 !#3LORIN4 T6! W!

+a *he 6orporation/s )ct re%uired companies to prepare an annual nancial reportcomprising

nancial statements notes accompanying the nancial statements directors/ declaration a&out the nancial statements

*he 6orporation/s )ct also re%uires companies to send to mem&ers +in addition to thenancial report a

director/s report auditors/ report

*he nancial report, directors/ report and auditors/ report are collectively referred to as

the annual report.

+& ptional elements include

Oinancial highlights Aetter to shareholders 6orporate message eport of management 6ertain shareholder information

*he )EF Aisting ules also re%uire information to &e disclosed such as the

names and holdings of su&stantial shareholders.

+c Qanagement discussion . *his series of short, detailed reports discusses andanalyses the company/s performance. #t covers results of operations, and theade%uacy of li%uid and capital resources to fund operations.

+d )uditors/ report . *his summary of the ndings of an independent rm ofpu&lic accountants sho$s $hether the nancial statements are complete,reasona&le, and are in accordance $ith generally accepted accountingprinciples +G))C at a set time.

+e Eelected nancial data . *his information summarises a company/s nancialcondition and performance over ve years or longer. =ata for ma(ingcomparisons over time may include revenue +sales, gross prot, net prot,earnings per share, dividends per share, nancial ratios such as return one%uity and de&t to asset ratio, num&er of shares on issue, and the mar(etprice per share.

+f *he students/ ans$ers to this $ill depend on the year of the annual report.

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Y3 )=% 4ROU3 D!CISION CAS!

+a *he current-ratio increase is a favora&le indication as to li%uidity, &ut alonetells little a&out the going-concern prospects of the client. Orom this ratiochange alone, it is impossi&le to (no$ the amount and direction of the

changes in individual accounts, total current assets, and total currentlia&ilities. )lso un(no$n are the reasons for the changes.

*he acid-test ratio decrease is an unfavora&le indication as to li%uidity,especially $hen the current-ratio increase is also considered. *his decline isalso unfavora&le as to the going-concern prospects of the client &ecause itreHects a declining cash position and raises %uestions as to reasons for theincreases in other current assets, such as inventories.

*he change in asset turnover cannot alone tell anything a&out either solvencyor going-concern prospects. *here is no $ay to (no$ the amount and directionof the changes in sales and assets. )n increase in sales $ould &e favora&le for

going-concern prospects, $hile a decrease in assets could represent a num&erof possi&le scenarios and $ould need to &e investigated further.

*he decrease in the ratio of sales to shareholders/ e%uity is unfavora&le. *hedecrease could &e caused &y a decrease in sales, an increase inshareholders/ e%uity, or a com&ination of the t$o. *he most li(ely case is adecrease in sales, &ut $e cannot determine this $ith certainty from theratios. #f there $as a decrease in sales, of particular concern is the eect onearnings. But, $e see that net prot increased &y 02M. *his means that, ifthere $as a decrease in sales, the company/s management $as a&le to morethan oset the decline $ith a reduction in e!penses.

*he increase in net prot is a favora&le indicator for &oth solvency and going-concern prospects, although much depends on the %uality of receiva&lesgenerated from sales and ho$ %uic(ly they can &e converted into cash. #fthere has &een a decline in sales, a signicant factor is that management has&een a&le to reduce costs to produce an increase in earnings. #ndirectly, theimproved prot picture may have a favora&le impact on solvency and going-concern potential &y ena&ling the client to &orro$ currently +if it needs to doso to meet cash re%uirements.

*he 02-per cent increase in earnings per share, $hich is identical to thepercentage increase in net prot, is an indication that there has pro&a&ly

&een no change in the num&er of shares of ordinary shares on issue. *his, inturn, indicates that nancing $as not o&tained through the issue of shares. #tis not possi&le to reach conclusions a&out solvency and going-concernprospects $ithout additional information a&out the nature and e!tent ofnancing.

*he increase in the &oo( value per share is a favora&le indicator for &othsolvency and the going-concern potential of the company.

*he collective implications of these data alone are that the client entity isa&out as solvent and as via&le a going concern at the end of the current yearas it $as at the &eginning although there may &e a need for short-termoperating cash.

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d. )typical data " Oiscal year-end data may not &e typical of the nancialcondition during the year.

e. =iversication of entities " Qany entities are so diversied they cannot&e classied &y industry.

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Y3 )=' !T6ICS CAS!

+a *he sta(eholders in this case are

Qi(e Eingletary, 6 of Eingletary #ndustries.

6urtis 6on$ay, pu&lic relations director. You, as 6O of Eingletary #ndustries. Ehareholders of Eingletary #ndustries. Cotential investors in Eingletary #ndustries. )ny readers of the press release.

+& *he 6/s press release is deceptive and incomplete and to that e!tent hisactions are unethical.

+c )s 6O you should at least inform 6urtis, the pu&lic relations director, a&outthe &iased content of the release. Je should &e a$are that the information he

is a&out to release, $hile factually accurate, is deceptive and incomplete. Boththe 6O and the pu&lic relations director +if he agrees have the responsi&ilityto inform the 6 of the &ias of the a&out to &e released information.

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& Chapter *' .anage0ent Accounting an 3er7or0ance .easure0ent

ANSW!RS TO @U!STIONS1. *he core activities of the management accounting function include

Croviding nancial and non-fnancialinformation for planning, decision-ma(ing and control

6alculating the cost of products and services =etermining the &ehaviour of costs as activity levels change Creparing &udgets and comparing actual performance $ith &udgets Croviding relevant data for managementdecision-ma(ing.

2. *he dierences &et$een nancial accounting and management accounting are

Financial accounting Management accounting!ternally focused Oor internal management useOinancial statements +#ncome Etatement,Etatement of Oinancial Cosition and 6ashOlo$ Etatement that comply $ith )-#OE,are produced annually, consolidated to$hole of entity level, and audited

eports that are not su&3ect to )-#OEre%uirements or to audit, &ut $hich arepresented to suit the needs of aparticular &usiness.#nclude non-nancial as $ell as nancialinformation.Croduced for each &usiness unit and

contain sucient detail to provide usefulmanagement information, typically on amonthly +or more fre%uent &asis.

Jistorical information Cast and present information, and futurepro3ections

0. *he limitations of nancial reports +#ncome Etatement, Etatement of OinancialCosition and 6ash Olo$ Etatement for management planning, decision-ma(ingand control are

*hey are highly aggregated +a to the entity levelX +& for a nancial year,and +c $ith only headline gures presented +e.g. sales, e!penses.

Qanagers need information a&out the prota&ility of products andservices, &usiness units, customers, and &usiness processes.

*hey are a lagging indicator of performance, produced too late toinHuence current decisions.

Oinancial data alone is limited, and needs to &e supplemented &y non-nancial information such as customer satisfaction, %uality, on timedelivery, productivity, employee retention, etc.

*hey are &ased on past data, $ith an a&sence of any future pro3ections.

5. Eervice and (no$ledge &ased organisations are important to the )ustralianeconomy. *here are no rightK$rong ans$ers. Etudents are e!pected to &rieHy

summarise +using 2-0 Co$erCoint slides information derived from internetsources. *his provides the opportunity for tutors to raise the follo$ing issues

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*he relative value of dierent #nternet sites, eg Wi(ipedia, )ustralianBureau of Etatistics, $e& &logs, etc.

*he age or recency of the data and possi&le &iases in the data presented *he importance of proper referencing of the source of data

*he a&ility to summarise (ey points on a slide +good practice is to limit asingle slide to 5-8 &ullet points, each containing no more than a fe$$ords

!amples only

*he service economy represents around ;7 per cent of )ustralia/s totalemployment, generates around three %uarters of industry value added and one!isting statistics accounts for more than 2< per cent of e!portsU +)ustralianEervices oundta&le, Qedia elease 5 =ecem&er 2


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$hich in turn produces more satised customers and ultimatelynancial success.

6omparing +&enchmar(ing performance $ith competitors andindustry averages

=eveloping measures of performance $ithin each of the fourperspectives that are relevantto the &usiness and its strategy

#n the Balanced Ecorecard/, nancial measures are still important,&ut are recognised as lagging indicators, $hereas non-nancialmeasures are leading indicators. *he &alance/ &et$een the fourperspectives is important.

>. #dentify at least 7 non-nancial measures used &y Iantas. !plain $hat eachmeans and ho$ they relate to nancial performance.

)s for Iuestion 5, there are no rightK$rong ans$ers &ut students should &eencouraged to do some #nternet research and to distinguish and discuss non-nancial measures from nancial performance, and to recognise therelationship &et$een non-nancial and nancial performance.

Etandard airline measures include

Dum&er of aircraft Dum&er of destinations +routes Dum&er of passengers carried evenue Cassenger Zilometres +CZ - *he distance a passenger travels

on a Hight. ne passenger travelling 1


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etc.6lient satisfaction+survey

)ctual time spentcompared toestimates orstandard times

Capers pu&lished inla$ 3ournalsKa$ards

?. ) cost centre is a &usiness unit $hich is responsi&le for cost control, i.e.maintaining costs $ithin the agreed &udget. ) prot centre is responsi&le forachieving the target prot. Budget costs may &e e!ceeded if sales areincreased, provided that prot is higher than &udgeted. )n investment centre isresponsi&le, not only for prot, &ut also for the return on investment +or residualincome. 6onse%uently, an investment centre must not only act as a protcentre, &ut needs to manage its investment &ase +reducing the investment &ase$ill increase # or # even $ith a static prot.

1


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result in inconsistent data. C systems can also collect data along the supplychain +including suppliers and customers.E)C is a company, that along $ith racle, provides C systems to a $ide rangeof organisations.

*he &enets of an C system li(e E)C include

Jelping to reduce costs &y having a single information system,eliminating duplication and inconsistent data

Qore relia&le, accurate and timely information to support managementdecisions

#mprove strategic planning &y more eective resource utilisation +e.g.improved capacity management

#nformation sharing across departments, so that opportunities can &egrasped

6ustomer satisfaction due to improved %uality and on-time delivery educed inventory &y purchasing to satisfy production re%uirements

#mproved purchasing &y suing supplier information

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Eources httpKK$$$.sysoptima.comKerpKerp]&enets.phphttpKK$$$.mosaic21.comKfa%.htm0httpKK$$$.&enetsoferp.comK

*utors should compare these sources $ith peer-revie$ed academic research on

the &enets of C. )n e!ample is

Velcu, . +2.12 in the te!t as an e!ample. *heprocesses that should &e covered include

*he &usiness event +e.g. ma(ing a sale, purchasing goods, paying an

e!pense, etc. *he source document for the transaction +e.g. invoice, che%ue, purchaseorder, etc.

=ata processing of the source document +$hich involves allocating ageneral ledger code

Croduction of transaction reports +cash &oo(s, purc hase 3ournals, etcand ledger

Croduction of nancial statements from the ledger +and $hether thegeneral ledger code identies the transaction as income, e!pense, assetor lia&ility.

*his %uestion provides the opportunity to %uic(ly revise issues learned innancial accounting in the rst si! $ee(s of the Pnit.

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http://www.sysoptima.com/erp/erp_benefits.phphttp://www.mosaic21.com/faq.htm#3http://www.benefitsoferp.com/http://www.sysoptima.com/erp/erp_benefits.phphttp://www.mosaic21.com/faq.htm#3http://www.benefitsoferp.com/


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%lectrical &omewares Furnishings TotalEales 2>7,


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2 *o compare the performance of each division, the follo$ing *a&le comparesprots, prots as a percentage of sales, return on investment +# and residualincome +# for the four divisions. ach is a valid method of evaluatingperformance, yet each can give a dierent ans$er. *utors should encouragestudents to compare $hat each method tells us.

Northern 'outhern %astern (estern

Eales 2,


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Eome additional performance measures to round out/ the e!isting ones into amore &alanced/ BE6 are

6ustomer measures *urnover of clients +i.e. covering the loss of clientsas $ell as ne$ clientsX )verage revenue per client +$hich could &eclassed as a nancial or customer measureX 6lient satisfaction +e.g. froma surveyX eferrals +$here e!isting clients recommend ne$ clients to therm.

Crocess measures )ctual time spent compared to %uoted timer +someprofessional service rms estimate the time to &e spent on a client/s 3o&&efore $or( commencesX time &et$een receiving instructions from aclient and commencing +or completing the $or(.

Aearning ^ gro$th mployee morale +e.g. from a surveyX Eta%ualications.

*here are no right or $rong ans$ers here. Etudents should thin( innovatively

a&out appropriate performance measures, $ith a focus on those indicators$hich are most li(ely to demonstrate performance +strengths and $ea(nesses,and maintaining &alance &et$een the four perspectives.

5 Croudo''ie Atd +Cart 1

c. ach division, other than Eouth, is ma(ing a prot. # returns vary enormously,due not only to dierent net prots, &ut also the dierent levels of investment in

each division. We can see from the # calculations that only ast and Westdivisions are contri&uting an # that is greater than the cost of capital of 12M.*he # approach sho$s that Dorth, &ut particularly Eouth, are generating

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su&stantial negative residual incomes, and hence are eroding shareholdervalue. Croudo''ie Atd as a $hole is ma(ing a negative residual value, largelydue to the su&stantial losses in the Eouth division. *his needs to &e addressed&y the company as a matter of urgency.

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( Chapter +) Cost an Costing

ANSW!RS TO @U!STIONS1.+a =irect costs are those that are readily traceable to productsKservices.

#ndirect costs are incurred as costs of purchasing productsKservices &utindirect costs are not readily tracea&le to particular productsKservices andare therefore treated as production overhead.

+& Croduct costs are those direct and indirect costs that are traced +for directcosts or allocated +for indirect costs to productsKservices. *hey form thecost of sales $hich are deducted from sales revenue to calculate grossprot. Ceriod costs are non-production costs that are costs of anaccounting period rather than costs of production. *hey are deductedfrom gross prot +e.g. selling, administration, nance, #*, J and similar

e!penses to calculate net prot.+c Oi!ed costs are those costs that remain constant despite increases or

decreases in the volume of sales of products or services +usually $ithin adened relevant range. Varia&le costs are those costs $hich increase ordecrease in proportion to increases or decreases in sales volume.

2. *he statement is incorrect. Eelling e!penses are not costs of producing productsor services. *hey are not part of the cost of sales &ut are treated as periodcosts, i.e. costs of an accounting period +of time.

0. Oi!ed costs are :1


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8. *he overhead allocation pro&lem arises &ecause in the production ofproductsKservices, the direct costs tracea&le to productsKservices may &e asmall proportion of total costs of production. #ndirect costs therefore have to &e

allocated to productsKservices using some &asis, in order to calculate a fullproduct cost, as is re%uired &y accounting standards. Jo$ overheads areallocated is pro&lematic &ecause in many &usinesses, a variety ofproductsKservices are sold using dierent types and costs of la&our, some usinghigh technology $hilst others are la&our intensive. *here may &e many dierentproductsKservices, some sold in high volume and others in lo$ volume.)llocations of overheads using an ar&itrary &asis can have detrimental eectson pricing, competitive position and ultimately &usiness via&ility.

>. Pnder a&sorption costing, overheads are typically related using an ar&itrary +&uteasy to identify measure of activity, most commonly direct la&our hours. Whilstthis is simple to use, it is only really applica&le $here direct la&our is a ma3or

component of total production costs and is logically related to total overhead insome $ay. )n e!ample is professional service rms $here direct la&our is alarge part of total costs and overheads +oce space, support sta and computerfacilities are often in proportion to the levels of direct sta. Whilst the methodis simple, in many &usinesses $here there is a large variety of productsKservicesselling in dierent volumes, at dierent prices and $ith dierent costs, so theresult can &e over-and under-costing +and therefore pricing of productsKservices$ith one or more su&sidising others, $hich can result in a loss ofcompetitiveness.

)ctivity-&ased costing loo(s at &usiness processes, collects the costs of thoseprocesses, and identies the causes of those processes +the cost driver. Ooreach productKservice, the consumption of &usiness processes is identied andcost drivers applied to those processes. *herefore, productsKservices that usemore processes $ill incur a higher proportion of overhead, and processes $ith

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higher costs $ill contri&ute to this. *hose productsKservices that causeoverheads to &e incurred therefore have higher costs +$hereas undera&sorption costing all overheads are averaged over all productsKservices. *hisis a much more accurate method of overhead allocation. Jo$ever it is costly toimplement. #t re%uires e!pertise and sta allocated to identifying theappropriate &usiness processes, cost drivers and the use of each &usinessprocess &y dierent productsKservices. #t also re%uires a computer system thatcollects costs of +hori'ontal &usiness processes as $ell as +vertically &ydepartmentKresponsi&ility centre.


1 Varia&le costs are :2 per unit +:1


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7

Activit! +ost . +ost driver +ost per cost driverQar(eting 07


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C1

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3'

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* Chapter ,+ Accounting 2eyon the current year

ANSW!RS TO @U!STIONS1. Etrategic management accounting lin(s management accounting techni%ues

$ith the strategy of an organi'ation. #t diers from traditional managementaccounting in t$o important $ays. Oirst, it loo(s &eyond the accounting periodto the life cycle of productsKservices and uses techni%ues to ascertainprota&ility over productKservice life cycles. Eecond, it loo(s &eyond the&oundaries of the organi'ation to the supply chain, incorporating supplier andcustomer costs to ma(e 3udgements a&out prota&ility of the total supply chainand $here prots are located. #t also loo(s at competitors and ma(es

3udgements a&out relative prices, costs, investments etc. in order to improvecompetitive performance.

2. 9ust-in-*ime +9#* relies on a philosophy of not holding inventories 3ust in case/they are needed, or in anticipation of possi&le future orders +called a pushapproach. #nstead 9#* purchases inventory $hen it is needed, i.e. 3ust in time tosatisfy a customer order +a pull approach. 9#* ena&les inventories of nishedgoods to &e reduced, resulting in lo$er costs.

0. *arget costing ta(es place during the pre-production planning phase for a ne$product. #t ascertains mar(et demand and li(ely prices, deducts a target protand arrives at a target cost. Before going into production, &uyers, engineers,accountants etc. $or( together to ensure that a product can &e produced for

the target cost. Zai'en ta(es place during the production phase $hen largeimprovements are often not possi&le. Zai'en focuses on ma(ing continuous,often small, &ut incremental cost improvements through improved purchasingand productivity, reduced $astage, etc.

5. #nvestment in prevention costs $ill prevent may pro&lems from recurring, and$ill reduce the cost of $aste, re$or(, $arranty claims and reputational damageto a &usiness. 6osts incurred in these later processes +inspecting %uality,correcting pro&lems, etc. usually cost more and are repetitive &ecause thecause of %uality pro&lems has not &een identied earlier.

7. *he main purpose of &udgeting is to plan for the future. *he &udget is a one-year more detailed slice/ of the &usiness strategy, $ith detailed nancialpro3ections related to that strategy. #t provides the level of e!pectation for&usiness performance and is used as the standard against $hich actualperformance is 3udged.

*he &enets of &udgeting

#t is an important means &y $hich organisational plans are communicatedthroughout the organisation

#t provides a common plan through $hich co-ordination amongst dierent

&usiness units ta(es place, especially &et$een purchasing, productionand sales

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#t is a means &y $hich managers can &e motivated and held accounta&lefor their actual performance

#t provides the a&ility to highlight variations from e!pectation and ta(ecorrective action $here actual performance does not meet thee!pectation

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8. ) !ed &udget covers a !ed period of time, typically a year ahead. *o$ards theend of the year ane$ &udget for the follo$ing year is prepared. ) rolling &udgetcontinually adds additional months to the &udget so that at any time during theyear there is al$ays a forecast 12 months ahead. With a !ed &udget, half $aythrough the year there $ill only &e a si!-month forecast remaining.

>. )ny attempt at a Ho$chart should &e recognised here. *he important steps to&e included are

Oorecasting sales Oorecasting production costs +purchasing and inventory re%uirements Oorecasting e!penses for all departments Creparing &udgeted nancial statements Eee(ing Board approval.

;. Cersonal &udget

)ny reasona&le attempt is accepta&le. Etudents should &e encouraged to use!cel to do a &udget, using appropriate formulae.

!ample

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ANSW!RS TO @U!STIONS+continued

?. Budgets do cause &ehavioural pro&lems. *his is often &ecause a &udget isimposed &y top managers and those accounta&le for performance do not agree$ith it, especially if they are re$arded or penalised for performance compared$ith &udget. Budgets are a source of po$er in organisations +often held &yaccountants so the a&ility of accountants to grant or $ithhold resources+money, people, etc can cause friction &et$een people and departments.

When managers do contri&ute to the &udget process, they often &uild in slac(/such as &e reducing e!pectations of sales volume andKor inHating &udgetedcosts, so that their actual performance might &e seen in a more &enecial light.Because senior managers (no$ this happens they may set unrealistic targets.

*herefore, there is the opportunity for &ias in setting &udgets and gameplaying/ that goes on around the setting of &udgets. Genuine participation &ymanagers at all levels in the &udget process is considered to &e the mostimportant $ay in $hich dysfunctional conse%uences of &udgeting can &eovercome.

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Leaership actions

1. 6ustomers Oocus everyone on their customers, not on hierarchical relationships

2. Crocessesrgani'e as a lean net$or( of accounta&le teams, not as centrali0edunctions

0. )utonomyGive teams the freedom and capa&ility to act, don1t micro-managethem

5. esponsi&ility6reate a high responsi&ility culture at every level, not 2ust at thecentre

7. *ransparencyCromote open information for self-management, don1t restrict ithierarchicall!

8. Governance )dopt a fe$ clear values, goals and &oundaries, not fxed targets

Aigning 0anage0ent processes 9ith eaership actions

1. GoalsEet relative goals for continuous improvement, don1t negotiate fxed

contracts

2. e$ardse$ard shared success &ased on relative performance, not fxedtargets

0. ClanningQa(e planning an continuous and inclusive process, not a top-downannual event

5. 6ontrolsBase controls on relative indicators and trends, not variancesagainst a plan

7. esourcesQa(e resources availa&le as needed, not through annual budgetallocations

8. 6oordination6oordinate interactions dynamically, not through annual planning

c!cles

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*he sales manager may loo( at past &udgets and actual sales performance todetermine $hether or not past &udgets $ere achieved. )ny +strategicmanagement accounting information a&out competitors $ill also &e useful +e.g.their capacity to increase sales, their actions in the mar(et, their relative prices,costs and prota&ility, etc.

10. *utors should encourage students to consider the pro&lem from &oth sides thesales manager +I11 and the company +I12. *he company $ill $ant tomotivate and ade%uately compensate the sales manager $ithout providingmore compensation than is necessary ?as part of cost control.

*he accountant $ould also li(ely consider trends in sales over time ande!perience as to $hether past &udget targets have &een achieved or not. *heaccountant $ould also loo( at the sales manager/s past earnings to estimatefuture earnings &ased on sales targets. *he managing director $ould pro&a&lynot li(e to see the sales manager/s earnings reduce as this $ould &edemotivating.

*he managing director $ould &e advised that stretch targets are more li(ely tomotivate the sales manager to ta(e the necessary eorts to increase sales, andthat a performance &onus of 7M a&ove that level $ill provide further motivation.

15. Budgetary control is a&out managing actual performance in line $ith &udgetpro3ections. *his ta(es place &y top managers monitoring actual performance,and as(ing %uestions a&out variations to ensure that responsi&le managers canprovide ade%uate e!planations for those variations. Qanagers need tounderstand the causes of variations from &udget and then need to ma(e surethat corrective action is ta(en $here necessary to achieve the targets. *hisprocess is called feed&ac(.


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*he (ey issue for the company is improving the performance of Eouth, $hosecontrolla&le prot is the lo$est of all divisions. *his appears to &e mainly due to thevery high level of divisional e!penses +a&out 57M of sales revenue. *here may &elessons to &e learned from the performance of West $hich is &y far the &estperforming division. *here is a clear need for Eouth to increase sales andKor reduce

divisional e!penses.

#n addition ho$ever, there is a very high level of corporate overhead $hich is erodingthe prots of all the divisions e!cept West. *he company needs to revie$ and ifpossi&le reduce its corporate e!penses.


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9 Chapter 10

10 Introduction to Finance

ANSWERS TO QUESTIONS

1. Finance is the science or study of the management of money.

2. Finance is concerned with human behaviour, which is a defining feature of all social

sciences.

3. Finance is concerned with human behaviour. Human behaviour is uncertain; hence,

uncertainty exists in finance. Finance is also concerned with the future. As the future cannot

be predicted, uncertainty exists in finance.

4. Finance is a social science that deals with human behaviour and is concerned with the

future. As human behaviour and the future cannot be predicted, uncertainty exists in

finance. As uncertainty exists in finance, there are no immutable laws in finance.

5. As uncertainty exists in finance, the future cannot be predicted perfectly. As such, any

model developed to predict the future will never be 100% accurate.

6. No. There is a chance that your friend will not receive the $1500 promised from the personclaiming to be in the Nigerian government.

7. No. There is a chance that the National Australia Bank will go bankrupt and will not be able

to pay the $1065 it owes your friend in one years time.

8. Finance is a social science not a physical science. A social science is concerned with

human behaviour and finance is concerned with the future. Therefore, as human behaviour

and the future can never be predicted with certainty, there is always uncertainty in finance.

As there is always uncertainty in finance, no model will be right 100% of the time. Further,

there will never be a finance model developed (now or in the future) that can predict the

future with 100% accuracy, as uncertainty is always present in finance.

9. A social science is concerned with human behaviour whereas a regular science is not.

10. Technically this statement is correct. The reason is that no model will be right 100% of the

time, therefore all models are technically false.

11. No. Although no model in finance will be right 100% of the time, a good model will still be of

some value in understanding the financial markets.

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12. Economics is concerned with the allocation of scarce resources; finance is concerned with

the allocation of scarce resources over time. Another way to distinguish finance and

economics is that economics focuses on exchanges in which money is one of the items

traded. Conversely, in finance, money appears on both sides of the trade.

13. Economics is concerned with the allocation of scarce resources whereas finance isconcerned with the allocation of scarce resources over time.

14. The decision to manufacture cars or boats has both an economic and a financial element. A

company must decide whether it has the resources to manufacture cars or boats this is

the economic element of the decision. Then, the company must weigh up the future

benefits of manufacturing cars or boats this is the financial element of the decision. Note

that in weighing up the future benefits, the company is considering the allocation of scarce

resourcesover time, hence it is a financial decision.

15. With economics, money appears on one side of the trade whereas with finance, money

appears on both sides of the trade.

16. Buying a car from a dealer is an economic transaction as money appears on one side of

the trade. You give the dealer money and the dealer gives you a car. A loan from a bank to

fund the purchase of a car is a financial transaction. The bank gives you money now and

you repay the bank money in the future, hence, money appears on both sides of the trade.

17. (a) Economic transaction

(b) Economic and finance transaction(c) Finance transaction

(d) Economic transaction

(e) Finance transaction

18. (a) Money only appears on one side of the trade, which is the money used to buy the

boat.

(b) There are effectively two transactions here. The first is an economic transaction

where a boat is purchased for a sum of money. The second is a finance transaction

where the sum of money for which the boat is purchased is loaned for a year.

(c) Money appears on both sides of the trade. Money is borrowed now and will be

repaid in the future.

(d) Money only appears on one side of the trade. The other side of the trade are the

shares in CSL.

(e) Money appears on both sides of the trade. Money is borrowed now and will be

repaid in the future.

19. There are effectively two transactions here. The first is an economic transaction where a

boat is purchased for a sum of money. The second is a finance transaction where the sum

of money for which the boat is purchased is loaned for a year.

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20. The company has to decide whether it has the resources now to manufacture televisions or

computers this is the economic component of the decision. In addition, the company has

to weigh up the anticipated benefits of manufacturing televisions or computers this is the

financial component of the decision. The anticipated benefits will occur in the future so the

company is deciding on the allocation of scarce resources over time, hence, this is the

financial component of the decision.

21. Time, uncertainty, options and information.

22. Time is present because an amount has been borrowed now that must be repaid in the

future. Uncertainty exists because the bank cannot know whether the borrower will default

on the loan payments. The loan contract will allow the bank to the change the terms of the

loan and hence the bank has options. In addition, most loans allow the borrower some

flexibility in how they repay the loan and hence the borrower has options. The bank will

seek out information on the borrower to attempt to minimise the chance that their borrowers

will default.

23. Yes. This transaction contains three of the elements of a financial transaction: time,uncertainty and information. Time is relevant, as money now is traded for money in thefuture. Uncertainty is present, as the borrower could default. Information is present, as thebank will do a credit check on the borrower. The fourth element of a financial transaction,options, is not present, as neither party to the loan can change the loan agreement.However, it is still a financial transaction, as only one element of the four needs to bepresent for it to be a financial transaction.

24. If shares are bought in a company that is expected to pay dividends in the future, then an

investment in shares can be considered a financial transaction. The reason is that money istraded now (to buy the shares) for money in the future (the dividends received in the future).

25. An investment in shares can be considered an economic transaction, as an investment inshares represents an ownership interest in a company. Companies are typically comprisedof real assets such as buildings and machinery, so money is traded for an ownershipinterest in the real assets of the company.

26. Time is relevant, as money now, which is paid to buy the shares, is traded for money in thefuture (the dividends that Westpac will pay). Uncertainty is present, as the investor cannever know for sure what the future share price

Solutions Manual for Principle of Accounting and Finance by Peter Carey

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Transcript of Solutions Manual for Principle of Accounting and Finance by Peter Carey