Management Accounting Past Paper PDF (Institute of Management Technology)

Institute of Management Technology FINC001 Centre for Distance Learning, Ghaziabad FINC001 Management Accounting MANAGEMENT ACCOUNTING VISION Impar ng con nuum of management educ...

Institute of Management Technology FINC001 Centre for Distance Learning, Ghaziabad FINC001 Management Accounting MANAGEMENT ACCOUNTING VISION Impar ng con nuum of management educa on through distance mode to learners across the globe. MISSION Be an academic community leveraging technology as a bridge to innova on and life-long learning. To con nuously evolve management competencies for enhanced employability and entrepreneurship. To serve society through excellence and leadership in management educa on, research and consultancy.  FINC001 Management Accounting INDEX UNIT 1 Financial Repor ng Framework 1 UNIT 2 Understanding Financial Statement 19 UNIT 3 Revenue Accoun ng 44 UNIT 4 Cash Flow Statement 60 UNIT 5 Financial Statement Analysis using Financial Ra os 92 UNIT 6 Quality of Financial Statement 124 UNIT 7 Cost Concept 146 UNIT 8 Elements of Cost 169 UNIT 9 Ac vity Based Cos ng 200 UNIT 10 Absorp on Cos ng Versus Variable Cos ng 217 UNIT 11 Break-Even & Cost-Volume-Profit Analysis 239 UNIT 12 Short Run Decision-Making 263 UNIT 13 Budge ng and Budgetary Control 288 UNIT 14 Advances in Management Accoun ng 316 ACKNOWLEDGEMENT We acknowledge, with gra tude, the assistance taken, in preparing the study material of the present course, from the texts, websites, and a/v sources cited at different places within the Units. We, thankfully, also acknowledge the assistance taken by us from the content generated by individual authors, publishing houses, educa onal ins tutes, research agencies, consultancies, government bodies and public sources of commercial organiza ons etc. (cited within the Units). EXPERT COMMITTEE Prof. (Dr.) S. R. Musanna Prof. (Dr.) S. S. Yadav IMT CDL, Ghaziabad DMS, IIT Delhi Prof. (Dr.) Ravindra Kumar Prof. (Dr.) Madhu Vij IMT CDL, Ghaziabad FMS, Delhi Prof. (Dr.) Subhajit Bha acharya Mr. Ritesh Chandra IMT, Ghaziabad Yes Bank, Delhi Prof. (Dr.) A. H. Kalro (Retd.) Prof. (Dr.) Asif Zameer IIM, Kozhikode IMT CDL, Ghaziabad Prof. (Dr.) P. K. Jain IIT, Delhi Prof. (Dr.) B. B. Chakrabor (Retd.) IIM, Kolkata SLM PREPARATION TEAM Dr. Pri Sharma Dr. Nandita Mishra IMT CDL, Ghaziabad Amity University, Noida Dr. Pallavi Gupta Dr. Pree Chawla ACCA, Head of Educa on for India NorthCap University, Gurugram Dr. Gee ka Batra Visi ng Faculty (Finance) COURSE COORDINATOR EXPERT REVIEW Dr. Pri Sharma Dr. Vinod Kumar IMT CDL, Ghaziabad SGND Khalsa College Delhi University PUBLISHER & PRINTER Published by: Institute of Management Technology, Centre for Distance Learning, Ghaziabad Publisher Address: A-16, Site 3, UPSIDC Industrial Area, Meerut Road, Ghaziabad Printed by: Perfact Color Images INC, Building No. - 25 B, Sector - 32, Gurugram - 122003 Edition First (2021) © Institute of Management Technology, Centre for Distance Learning, Ghaziabad ISBN: 978-81-951960-8-1 All rights reserved. No part of this work may be reproduced in any form, by mimeography or any other means, without permission in writing from Institute of Management Technology, Centre for Distance Learning. Further information on Institute of Management Technology, Centre for Distance Learning may be obtained from Institute’s Head Office at Ghaziabad or www.imtcdl.ac.in  FINC001 Management Accoun ng UNIT 1 NOTES FINANCIAL REPORTING FRAMEWORK STRUCTURE 1.0 Objec ves 1.1 Introduc on 1.2 Presenta on of Financial Statements 1.3 Prepara on of Balance Sheet 1.4 Prepara on of Profit and Loss Account 1.5 Financial Repor ng: Other Legal Requirements 1.6 Accoun ng Standards: Objec ves 1.7 Accoun ng Standards Board of India 1.8 Interna onal Financial Repor ng Standards (IFRS) 1.9 Introduc on of Ind AS in India 1.10 Let Us Sum Up 1.11 Key Words 1.12 References and Suggested Addi onal Readings 1.13 Self-Assessment Ques ons 1.14 Check Your Progress – Possible Answers 1.15 Answers to Self-Assessment Ques ons 1.0 OBJECTIVES A er going through this unit, you will be able to understand and explain: the requirements of financial statements under Companies Act 2013 prepara on of Balance Sheet as per revised Schedule III of Companies Act 2013 prepara on of Profit and Loss Account as per revised Schedule III of Companies Act 2013 other legal requirements of Companies Act 2013 for Financial Repor ng the meaning and Objec ves of accoun ng standards the role of Accoun ng Standards Board of India the meaning and role of IFRS the nature and coverage of Ind AS 1 UNIT 1 Financial Repor ng Framework NOTES 1.1 INTRODUCTION The purpose of a framework is to provide the essen al guidance and structure for performing a specific task. Financial repor ng framework provides essen al guidance and structure within which the financial statements should be prepared. Financial repor ng framework consists of relevant laws and rules to be followed while preparing financial statements. American Ins tute of Cer fied Public Accountants have defined the term financial repor ng “as a set of criteria used to determine measurement, recogni on, presenta on and disclosure of all material items appearing in the financial statements.” Lets’ discuss in this unit the financial repor ng framework for preparing financial statements for companies. Discussions will essen ally revolve around the Companies Act 2013 accoun ng standards and Securi es and Exchange Board's lis ng agreements. 1.2 PRESENTATION OF FINANCIAL STATEMENTS Presenta on of financial statements for companies is governed by the Companies Act 2013. Relevant sec ons of Companies Act define that financial statements should present the true and fair view of the state of affairs of the company. The Companies Act, 2013 has also listed down the statements to be presented as the part of the financial Statements of the company. These are commonly called as components of financial statements. Components of financial Statement are provided below in Figure 1.1. Fig. 1.1: Components of Financial Statements A balance sheet as at the end of the financial year Statement of profit and loss, or in case of company carrying out ac vity not for profit, an income and expenditure account for the financial year Cash flow statement for the financial year Statement of changes in equity Notes to accounts Companies Act, 2013 requires that Board of Directors should approve the financial statements including consolidated financial statement, if any before signing them on behalf of board. Board of Directors are also required to prepare and present a report with the financial statements which should include the following details: the extract of the annual return number of Board mee ngs Directors' Responsibility Statement 2  FINC001 Management Accoun ng For the be er understanding of learners, the terms standalone financial statements, NOTES consolidated financial statements and Board of Directors are explained below while prepara on of financial statements and Director's responsibility statements has been discussed in detail in later sec ons of this unit. Standalone financial statements: Financial statements prepared for a single en ty are called as standalone financial statements. Consolidated financial statements: Financial statements prepared for a group of en es are called consolidated financial statements. This generally happens in case of the parent and subsidiary rela onship among en es. Board of Directors: Shareholders elect group of individuals amongst themselves to represent the decisions and day to day working of the company. This group of individuals is called board of directors. 1.3 PREPARATION OF BALANCE SHEET AS PER REVISED SCHEDULE III OF COMPANIES ACT 2013: FORMAT AND DISCUSSION OF MAJOR ELEMENTS Revised Schedule III of Companies Act 2013 has prescribed the detailed format and set of guidelines for the prepara on of Balance Sheet and Statement of Profit and Loss. Let's see the format in which the companies are required to prepare the financial statements. Below sec on details out the format of Balance sheet. Table 1.1: Format of Balance Sheet Figures as at the Figures as at the end Par culars Note no end of current of the previous repor ng period reporting period I. EQUITY AND LIABILITIES (1) Shareholders’ funds a) Share capital b) Reserves and surplus c) Money received against share warrants (2) Share applica on money pending allotment (3) Non-current liabili es a) Long-term borrowings b) Deferred tax liabili es (Net) (c) Other Long-term liabili es d) Long-term provisions 3 UNIT 1 Financial Repor ng Framework NOTES (4) Current Liabili es (a) Short-term borrowings (b) Trade payables (c) Other current liabili es (d) Short-term provisions TOTAL II. ASSETS (1) Non-Current Assets (a) Fixed assets (i) Tangible assets (ii) Intangible assets (iii) Capital work-in- progress (iv) Intangible assets under development (b) Non-current investments (c) Deferred tax assets (net) (d) Long-term loans and advances (e) Other non-current assets (2) Current Assets (a) Current investments (b) Inventories (c) Trade receivables (d) Cash and cash equivalents (e) Short-term loans and advances (f) Other current assets TOTAL Source: Schedule III of Companies Act 2013 Companies are required to present the financial informa on for the current repor ng period and the previous repor ng period, except for the first financial year. Schedule III provides flexibility to companies to reclassify the informa on of the previous repor ng period which may be required for disclosure purposes. For providing addi onal informa on companies are required to prepare notes to accounts. This unit focuses more on repor ng format and the elements of financial statements are elaborated in unit 2. For the detailed understanding of the elements of financial statements refer to unit 2. 4  FINC001 Management Accoun ng You must be wondering that should companies present the informa on in rupees with NOTES decimals or they can round off to thousands or lakhs or millions? If yes, are there any guidelines. Schedule 3 has provided the guidelines in this regard. Depending upon the turnover of the company, the figures appearing in the financial statements may be rounded off as given below: — Turnover Rounding off less than one hundred crore rupees nearest hundreds, thousands, lakhs or millions or decimals thereof. one hundred crore rupees or more nearest lakhs, millions or crores, or decimals thereof. Above guidelines will help companies in iden fying the units of measurement like millions, lakhs, etc. Companies should consistently adopt a unit of measurement year on year in prepara on of financial statements. CHECK YOUR PROGRESS - I Q.1 Wipro Limited has ------- as unit of measurement for the financial year ended March 2019. (a) Millions (b) Lakhs (c) Crores (d) Hundreds 1.4 PREPARATION OF PROFIT AND LOSS ACCOUNT AS PER REVISED SCHEDULE III OF COMPANIES ACT 2013 FORMAT AND DISCUSSION OF MAJOR ELEMENTS Revised Schedule III of Companies Act 2013 has prescribed the detailed format and set of guidelines for the prepara on of Balance Sheet and Profit and Loss Account. Below sec on details out the format of Statement of Profit and Loss. Table 1.2: Statement of Profit and Loss Figures as at the Figures as at the end Par culars Note no end of current of the previous repor ng period reporting period I. Revenue from operations II. Other income III. Total Revenue (I + II) IV. Expenses: Cost of materials consumed Purchases of Stock-in- Trade Changes in inventories of finished goods 5 UNIT 1 Financial Repor ng Framework NOTES work-in-progress and Stock-in-Trade Employee benefits expense Finance costs Deprecia on and amortisa on expense Other expenses Total expenses V. Profit before excep onal and extraordinary items and tax (III-IV) VI. Excep onal items VII. Profit before extraordinary items and tax (V-VI) VIII. Extraordinary items IX. Profit before tax (VII- VIII) X. Tax expense: (1) Current tax (2) Deferred tax XI. Profit (Loss) for the period from con nuing opera ons (VII-VIII) XII. Profit/(loss) from discontinuing opera ons XIII. Tax expense of discontinuing opera ons XIV. Profit/(loss) from Discon nuing opera ons (a er tax) (XII-XIII) XV. Profit (Loss) for the period (XI + XIV) XVI. Earnings per equity share: (1) Basic (2) Diluted Source: Schedule III of Companies Act 2013 Revenue is one of the most important components in profit and loss account. Revenue from opera ons should include the disclosure of revenue from sale of products, services and other opera ng revenues. For finance company, revenue from opera ons would consist of income from interest and other financial services. 6  FINC001 Management Accoun ng Other income should include interest income (for non-finance company), dividend income, NOTES gain/loss on sale of investments and other non-opera ng income Are you wondering over the fact that the company has so many expenses? So, should they be disclosing every expense separately in profit and loss account? Schedule III has issued guidelines regarding the disclosure of income and expense items. Any item of income or expenditure which exceeds any of the below should be disclosed separately in profit and loss account or in notes to accounts: · one percent of the revenue from opera ons · Rs.1,00,000 CHECK YOUR PROGRESS - II Q.1 Excise duty will be disclosed separately under revenue from opera ons in case of finance companies. True/False 1.5 OTHER LEGAL REQUIREMENTS OF COMPANIES ACT 2013 Companies are formed in India under The Companies Act, 1956. The Companies Act, 1956 was replaced by the Companies Act, 2013 a er the approval from President of India on 29th August 2013. The Act of 2013 is divided into 29 chapters and contains 470 sec ons as compared to 658 sec ons in the Companies Act 1956. Some of the legal requirements have been discussed in the following sec on. Figure 1.2 summarises some of the legal requirements discussed in this sec on. Fig. 1.2: Legal requirements Statuary audit and internal audit Directors Responsibility Statement Submission of financial statements to stock exchange Applicability of Accoun ng Standards Management Discussion and Analysis 1.5.1 STATUTORY AUDIT AND INTERNAL AUDIT Many a mes you might have come across the term statuary audit and internal audit. For the be er understanding let's see first what audit means and then we will proceed to statuary and internal audit. Audit is an independent examina on of financial statements, ac vi es, processes of an en ty by independent en es. An audit report is submi ed a er the comple on of the audit with findings and recommenda ons. Companies are required under sec on 7 UNIT 1 Financial Repor ng Framework NOTES 139 of the Companies Act, 2013 for different type of audits like statutory audits, internal audits, cost audit, etc., out of which statutory audit and internal audit are of utmost importance. All companies registered under Companies Act, 2013 are required to get Statutory Audit done by a prac sing Chartered Accountant. Statutory audit report will be presented along with financial statements of the company. It forms an integral part of annual report. Statutory audit as the name suggests compliance with the statutory requirements of the Government and ensures the true and fair view of accounts. For the be er understanding check out the excerpts from the Statutory Audit, report has been presented in the box 1.1. The excerpt has been taken from the Annual Report of Wipro for the year ended 31st March 2019. st Box 1.1 Excerpt from the Annual Report of Wipro for the year ended 31 March 2019 To the Members of Wipro Limited Report on the Audit of the Standalone Financial Statements Opinion We have audited the accompanying standalone financial statements of Wipro Limited ("the Company") which comprise the Balance Sheet as at March 312019 the Statement of Profit and Loss (including Other Comprehensive Income) the Statement of Changes in Equity and the Statement of Cash Flows for the year then ended and a summary of significant accoun ng policies and other explanatory informa on (hereina er referred to as "the standalone financial statements"). In our opinion and to the best of our informa on and according to the explana ons given to us the aforesaid standalone financial statements give the informa on required by the Companies Act 2013 ("the Act") in the manner so required and give a true and fair view inconformity with the Indian Accoun ng Standards prescribed under sec on 133 of the Act read with the Companies (Indian Accoun ng Standards) Rules 2015 as amended ("Ind AS") and other accoun ng principles generally accepted in India of the state of affairs of the Company as at March 31 2019 its profit total comprehensive income changes in equity and its cash flows for the year ended on that date. Source: Annual Report of Wipro Internal Audit: The preface to the standards on internal audit, issued by The Ins tute of Chartered Accountants of India defines an internal audit as: “Internal Audit is an independent func on involving con nuous and cri cal appraisal of the func oning of an organiza on with a view to suggest improvements thereto and add value to the governance mechanism of the organiza on. It helps the organiza on to evaluate the effec veness of risk management and internal control implemented and provides recommenda on for improvement.” All the listed companies are required to appoint an internal auditor. The internal auditor is required to be appointed by unlisted companies only when any of the 8  FINC001 Management Accoun ng following condi ons is present: NOTES · paid up capital is Rs. 50 crores or higher · turnover is Rs.200 crores or higher · borrowings from banks or public financial ins tu ons is Rs.100 crores or higher · Outstanding deposits is Rs.25 crores or higher The internal auditor is required to be appointed by private companies only when any of the following condi ons is present: · turnover is Rs.200 crores or higher · borrowings from banks or public financial ins tu ons is Rs.100 crores or higher The internal auditor may or may not be an employee of the company. The internal auditor may be or may not be a prac cing Chartered Accountant or Cost Accountant. CHECK YOUR PROGRESS - III Q.1 XYZ Pvt Ltd had the turnover of Rs.250 crores in the financial year 2018-19. They are not able to decide whether they are required to appoint internal auditor. Advise. 1.5.2 DIRECTORS' RESPONSIBILITY STATEMENT Board of Directors present the Directors' Responsibility with financial statements. Directors responsibility statement is prepared to give an assurance from directors that relevant accoun ng standards and policies have been followed in the prepara on of the annual accounts. Further assurance is being provided. It is related to maintenance of accounts and compliance as per provisions of Companies Act, internal control and the adop on of going concern principle in prepara on of annual accounts. For the be er understanding let us have a glimpse of Director's Responsibility Statement from the Annual Report of Wipro for the year ended 31st March 2019 in box 1.2. st Box 1.2 Excerpt from the Annual Report of Wipro for the year ended 31 March 2019 On behalf of the Board of Directors (the "Board") of the Company, it gives me immense pleasure to present the 73rd Board's Report along with the Balance Sheet Profit and Loss account and Cash Flow statements for the financial year ended March 31, 2019. I. Financial Performance The standalone and consolidated financial statements for the financial year ended March 31, 2019, forming part of this Annual Report have been prepared in accordance with the Indian Accoun ng Standards (Ind AS) as no fied by the Ministry of Corporate Affairs. On a consolidated basis our sales increased to ` 585,845 million for the current year as against ` 544,871 million in the previous year recording an increase of 7.52%. Our net profits increased to ` 90,179 million for the current year as against ` 80031 million in the previous year recording an increase of 12.68%. 9 UNIT 1 Financial Repor ng Framework NOTES On a standalone basis our sales increased to ` 480,298 million for the current year as against ` 447,100 million in the previous year recording an increase of 7.43%. Our net profits declined to ` 76,140 million in the current year as against ` 77,228 million in the previous year recording a decline of 1.41%. Source: Annual Report of Wipro 1.5.3 SUBMISSION OF FINANCIAL STATEMENTS TO STOCK EXCHANGE Bombay Stock Exchange (BSE) and Na onal Stock Exchange (NSE) are being the prominent stock exchanges of the country followed by various other regional exchanges. Listed companies are required to submit financial statements to stock exchange as per the lis ng agreements issued by Securi es and Exchange Board of India (SEBI). Companies are called as listed when the shares of public limited company are listed for trading at any na onal or regional stock exchange. Financial statements should be submi ed within 45 days from the end of each quarter except for 60 days in case of last quarter. The end of year financial statements can be submi ed within 60 days of the end of financial year. Financial statements can be audited or unaudited. Unaudited financial results should be submi ed a er the limited review by the statutory auditors of the issuer. Audited financial statements should be accompanied with the audit report. Just think over the fact that where you can access the financial statements of listed companies. CHECK YOUR PROGRESS - IV Q.1 On which stock exchange Wipro Limited is listed in India? 1.5.4 APPLICABILITY OF ACCOUNTING STANDARDS You might have heard the term accoun ng standards many mes. Immense importance has been given to accoun ng standards under The Companies Act, 2013. Companies Act 2013 requires that financial statements of companies shall comply with the accoun ng standards. Accoun ng standards means standards as prescribed by the Central Government and as recommended by Ins tute of Chartered Accountants of India. If the financial statements of a company do not comply with the accoun ng standards, the same should be disclosed with the quan fica on of financial impact. 1.5.5 MANAGEMENT DISCUSSION AND ANALYSIS REPORT Management Discussion and Analysis reports forms mandatory part of financial statements as per Clause 49 of Lis ng Agreements issued by Securi es and Exchange Board of India. It can be presented by the company as part of Board of Directors Report or part of Annual report along with year-end financial statements. Management Discussion and Analysis Reports generally include the discussions around: 10  FINC001 Management Accoun ng · Industry structure and developments NOTES · Opportuni es and threats to business · Performance as per business segments or product lines · Areas of risks and for the business · Availability and adequacy of internal control systems · Financial performance of business · Major changes in human resources and industrial rela ons The report should be accepted and signed by Board of Directors. 1.6 ACCOUNTING STANDARDS: OBJECTIVES Till now we have discussed the requirements of the Companies Act 2013 and lis ng agreements. The further sec ons will elucidate the framework around accoun ng standards. Accoun ng is done within the specified framework as set by the regulatory authority of the respec ve country. This specified framework is called 'Accoun ng Standard'. In India, the regulatory authority is Ins tute of Chartered Accountants of India (ICAI). ICAI no fies accoun ng standards to be followed by the corporate and non-corporate en es through Accoun ng Standards Board (ASB) and Na onal Advisory Commi ee on Accoun ng Standards (NACAS). Accoun ng Standards guides the manner of proper applica on of a par cular accoun ng principle in the prepara on and presenta on of the financial statements. Indian Generally Accepted Accoun ng Principles (IGAAP) are issued by the Accoun ng Standards Board of The Ins tute of Chartered Accountants of India. The purpose of issuing Accoun ng Standards is to bring uniformity in accoun ng prac ces across the country. The basic objec ve of Accoun ng Standards is to ensure standardiza on in prepara on and presenta on of financial statements. 1.7 ACCOUNTING STANDARDS BOARD OF INDIA Accoun ng standards board has been formulated by Ins tute of Chartered Accountants of India commonly called as ASB. It would be interes ng to understand the scope, func ons and process of issuing accoun ng standards. 1.7.1 SCOPE AND FUNCTIONS OF ACCOUNTING STANDARDS BOARD In India accoun ng standards are issued by Accoun ng Standards Board formulated by Ins tute of Chartered Accountants of India (ICAI). ICAI being the member of Interna onal Accoun ng Standards Commi ee (IASC) formulated an Accoun ng Standards Board (ASB) in 1977 to bring uniformity in accoun ng prac ces, principles and policies to be followed across the country. Accoun ng Standards are formulated and issued by the ASB, taking into considera on the needs of the business, laws and customs of the country. Though ASB has 11 UNIT 1 Financial Repor ng Framework NOTES been established under ICAI, it has full independence in framing of accoun ng standards. In case the council of ICAI feels that some changes are required in certain accoun ng standards, it can only be done in consulta on with ASB. 1.7.2 PROCESS OF ISSUING ACCOUNTING STANDARDS The Ins tute of Chartered Accountants of India (ICAI) is the apex accoun ng body in India. The ICAI has set up the Accoun ng Standard Board (ASB) in April 1977 to formulate accoun ng standards. The board a empts to synchronise diverse accoun ng policies and prac ces in India and consider the applicable laws, customs, usages and business environment. Process of issuing accoun ng standards involves many steps: · Iden fica on of broad areas where accoun ng standard is needed by Accoun ng Standard Board (ASB) · Consulta on with expert study groups (subject expert commi ees) for the formula on of first dra · First dra will include: (a) Objec ve of the Standard (b) Scope of the Standard (c) Defini ons of the terms used in the Standard (d) Recogni on and measurement principles, wherever applicable (e) Presenta on and disclosure requirements · First dra is subject to delibera ons amongst the members of study groups and ASB · Revised dra a er delibera ons is submi ed to council members of ICAI and other government bodies like Ministry of Company Affairs, Central Board of Direct Taxes, Reserve Bank of India etc. · Based on the feedback received from various government bodies ASB finalises the exposure dra · Exposure dra is made available on the website of Ins tute of Chartered Accountants of India for comments from members and public. · A er incorpora ng necessary feedback exposure dra is finalised as the Accoun ng Standard. 12  FINC001 Management Accoun ng Fig. 1.3: Step by step process for issuing accoun ng standard NOTES Iden fica on of Consulta on with Prepara on of broad areas study groups First dra Revised dra for Prepara on of Feedback on first delibera on to exposure dra dra various agencies Feedback on Finaliza on of exposure dra standard CHECK YOUR PROGRESS - V Q.1 Explore the ICAI website for the available exposure dra s. 1.8 INTERNATIONAL FINANCIAL REPORTING STANDARDS (IFRS) IFRS are envisaged as the common accoun ng language across the globe. These are supposed to be the common standards followed by companies in many countries. Applica on of common standards ensures comparability, clarity and standardisa on of accoun ng informa on. IFRS comprises: · Interna onal Financial Repor ng Standards issued a er 2001 · Interna onal Accoun ng Standards issued before 2001 · Interpreta ons originated from the Interna onal Financial Repor ng Interpreta ons Commi ee (IFRIC)- issued a er 2001 · Interpreta ons issued by Standing Interpreta on Commi ee (SIC)- issued a er 2001 1.8.1 NEED AND RATIONALE OF IFRS You must be wondering why we are talking about Interna onal Financial Repor ng Standards being global language of business. Below sec on will help you in understanding the need and ra onale of IFRS. Standardiza on of accounts has been a constant effort and concern of the various professional accoun ng bodies globally. Standards are a set of rules that are aimed at making accounts consistent and comparable. ICAI envisaged elimina on of the need to prepare dual sets of financial statement and increased creditability for Indian companies as the poten al benefits for adop ng IFRS. 13 UNIT 1 Financial Repor ng Framework NOTES Implementa on of IFRS is a challenging task as various studies pointed out that accoun ng professionals were not prepared, Industry needed more me to adapt the new set of rules and many changes were expected in the exis ng legal framework. The apex body of accoun ng in the country, ICAI, intended to adopt IFRS from 1st April 2011, however, implementa on was postponed to April 2016 owing to lack of preparedness. Subsequently ICAI came out with the adapted version of IFRS known as 'Ind AS’. 1.9 INTRODUCTION OF IND AS IN INDIA India is a country marked with diverse cultures, diverse nature of the opera ng agreements, diversity of legal structure of the repor ng en es, inherent accoun ng prac ces. Therefore, in India ICAI decided to implement the IFRS with some modifica ons, these modified standards are called as Ind AS. Ind AS are a new set of accoun ng standards which are based on IFRS principles, designed in accordance with IFRS but tailored to suit Indian purpose. The Ministry of Company Affairs has issued Companies (Indian Accoun ng Standards) Rules 2015. Ind AS are implemented in India since 2016 in a phased manner. Indian companies with specified minimum net worth and other requirements have been mandatorily preparing financial statements as per Ind AS. 1.9.1 LIST OF NOTIFIED IND AS Let's see how Ind AS are aligned with the IFRS. Table 1.3 shows the mapping of Ind AS with IAS, IFRS, SIC and IFRIC. Table 1.3: Ind AS and IFRS/IAS IFRS/IAS No Ind AS Standard IAS 1 Ind AS 1 Presentation of Financial Statements IAS 2 Ind AS 2 Inventories IAS 7 Ind AS 7 Statement of Cash Flows IAS 8 Ind AS 8 Accoun ng Policies, Changes in Accoun ng Es mates and Errors IAS 10 Ind AS 10 Events A er The Repor ng Period IAS 11 Ind AS 11 Construction Contracts IAS 12 Ind AS 12 Income Taxes IAS 16 Ind AS 16 Property, Plant and Equipment IAS 17 Ind AS 17 Leases IAS 18 &IFRS Ind AS 18 Revenue 16 14  FINC001 Management Accoun ng IAS 19 Ind AS 19 Employee Benefits NOTES IAS 20 Ind AS 20 Accounting for Government Grants and Disclosure of Government Assistance IAS 21 Ind AS 21 The Effect of Changes in Foreign Exchange Rates IAS 23 Ind AS 23 Borrowing Cost IAS 24 Ind AS 24 Related Party Disclosure IAS 26 Ind AS 26 Accoun ng and Repor ng of Re rement Benefit Plans IAS 27 Ind AS 27 Consolidated and Separate Financial Statements IAS 28 Ind AS 28 Investments in Associates IAS 29 Ind AS 29 Financial Repor ng in Hyperinfla onary Economy IAS 31 Ind AS 31 Interests in Joint Venture IAS 32 Ind AS 32 Financial Instruments: Presenta on IAS 33 Ind AS 33 Earnings Per Share IAS 34 Ind AS 34 Interim Financial Repor ng IAS 36 Ind AS 36 Impairment of Assets IAS 37 Ind AS 37 Provisions, Contingent Liabilities and Con ngent Assets IAS 38 Ind AS 38 Intangible Assets IAS 39 Ind AS 39 Financial Instruments: Recogni on and Measurement IAS 40 Ind AS 40 Investment Property IAS 41 Ind AS 41 Agriculture IFRS 1 Ind AS 101 First Time Adop on of Ind AS IFRS 2 Ind AS 102 Share Based Payment IFRS 3 Ind AS 103 Business Combina ons IFRS 4 Ind AS 104 Insurance Contracts IFRS 5 Ind AS 105 Noncurrent Assets held for Sale and Discon nued Opera ons 15 UNIT 1 Financial Repor ng Framework NOTES IFRS 6 Ind AS 106 Explora on for and Evalua on of Mineral Resources IFRS 7 Ind AS 107 Financial Instruments: Disclosures IFRS 8 Ind AS 108 Opera ng Segments IFRS 9 Ind AS 109 Financial Instruments IFRS 10 Ind AS 110 Consolidated Financial Statements IFRS 11 Ind AS 111 Joint Arrangements IFRS 12 Ind AS 112 Consolidated Financial Statements Disclosure Requirements IFRS 13 Ind AS 113 Fair Value Measurement IFRS 14 Ind AS 114 Regulatory Deferral Accounts IFRS 15 Ind AS 115 Recogni on of Revenue on Contracts with Customers 1.10 LET US SUM UP Companies Act 2013 in conjunc on with accoun ng standards issued by ICAI provides the framework for the financial repor ng prac ces in India. Schedule 3 of the companies act laid down the format to be followed by the companies in the prepara on and presenta on of financial statements. This unit has also discussed some other legal requirements as per companies act like submission of statements to stock exchange, internal and statutory audit, applicability of accoun ng standards and prepara on of directors' responsibility statements and management discussion and analysis report. Unit further discusses the need and ra onale for the adop on of accoun ng standards followed globally. IFRS had been converged to Ind AS to suit as per India requirements. 1.11 KEY WORDS Financial Statements: Financial statements consists of the balance sheet, profit and loss account, cash flow statement, statement of changes and equity and notes to accounts. Companies Act 2013: Companies Act 2013 is an act issued by Parliament which lays down the workings, opera ons and terms for the companies registered under this act. Board of Directors: Shareholders elect group of individuals amongst themselves to represent for the decisions and day to day working of the company. Accoun ng Standards: Accoun ng Standards guides the applica on of a par cular accoun ng principle in the prepara on and presenta on of the financial statements. Ind AS: Ind AS are the accoun ng standards issued by ICAI and are applicable to companies from 1st April, 2016. These are adapted version of IFRS to suit the requirements of India. 16  FINC001 Management Accoun ng IFRS: Interna onal Financial Repor ng Standards are issued by Interna onal Accoun ng NOTES Standards Board to serve the purpose of common accoun ng language. 1.12 REFERENCES AND SUGGESTED ADDITIONAL READINGS Naryanswamy, R., 2017, Financial Accoun ng: A Managerial Perspec ve, 6th edi on, PHI Learning Private Ltd. Ghosh, T.P, 2009, Financial Accoun ng for Managers, 4th edi on, Taxman Publica on Private Ltd. Bha acharyya, A.K, 2016, Financial Accoun ng for Business Managers, 5th edi on, PHI Learning Private Ltd. h ps://www.aicpa.org/interestareas/frc/accoun ngfinancialrepor ng/pcfr/frf-smes- faq.html h ps://www.icai.org/ h p://www.mca.gov.in/ h ps://www.wipro.com/content/dam/nexus/en/investor/annual-reports/2018- 2019/annual-report-for-fy-2018-19.pdf 1.13 SELF-ASSESSMENT QUESTIONS Q.1 Explore the compliance requirements for companies from Bombay Stock Exchange website. Q.2 With the challenging situa on of COVID-19 check out the latest requirements for submission of financial statements on stock exchange. Q.3 The Balance Sheet format as per Companies Act 2013 is given Schedule- · III · VI · VII · IV Q4 Under which head do we classify bills receivable · Non-current assets · Current Assets · Investment · Miscellaneous Expenses Q5 Listed companies are required to submit financial statements to: · Ministry of Human Resource and Development · Ins tute of Chartered Accountants of India · Interna onal Accoun ng Standards Board 17 UNIT 1 Financial Repor ng Framework NOTES · Stock Exchange 1.14 CHECK YOUR PROGRESS – POSSIBLE ANSWERS CHECK YOUR PROGRESS - I Q.1 (a) millions CHECK YOUR PROGRESS - II Q.1 False CHECK YOUR PROGRESS - III Q.1. As per Sec 138 every private company having turnover of two hundred crore rupees or more during the preceding financial year is required to appoint an internal auditor. Therefore, XYZ Pvt. Ltd. has to appoint an internal auditor. CHECK YOUR PROGRESS - IV Q.4 BSE and NSE CHECK YOUR PROGRESS - V Q.5 Ref.: h ps://www.icai.org/post/list-of-exposure-dra s 1.15 ANSWERS TO SELF-ASSESSMENT QUESTION Q.1 Compliance calendar: Ref.: h ps://www.bseindia.com/corporates/compliancecalendar.aspx Q.2 Ref.: h ps://www.icai.org/post/announcement-further-extension-sebi Q.3 (a) Q.4 (b) Q.5 (d) 18  FINC001 Management Accoun ng UNIT 2 NOTES UNDERSTANDING FINANCIAL STATEMENTS STRUCTURE 2.0 Objec ve 2.1 Introduc on 2.2 Meaning of Financial Statement 2.3 Types of Financial Statements 2.4 Limita ons of Financial Statements 2.5 Understanding Balance Sheet 2.6 Statement of changes in shareholder’s equity 2.7 Understanding income statement 2.8 Other components in income statement 2.9 Standalone and separate financial statement 2.10 Mandatory disclosures vs Voluntary disclosures 2.11 Understanding annual report 2.12 Let Us Sum Up 2.13 Key Words 2.14 References and Suggested Addi onal Readings 2.15 Self- Assessment Ques ons 2.16 Check Your Progress – Possible Answers 2.17 Answers to Self-Assessment Ques ons 2.0 OBJECTIVES A er comple ng this unit, you will be able to understand: meaning, importance and types of financial statements important elements of balance sheet important elements of statement of profit & loss financial statements of a firm 19 UNIT 2 Understanding Financial Statements NOTES 2.1 INTRODUCTION As discussed in the previous unit, financial statements provide the fundamental informa on that we use to analyse and understand the financial condi on of a company. For any decision making it is very important that we understand the status of the company. Analysis of financial statements helps a company to take strategic decisions which support long term profitability and growth. Analysis of financial statements is cri cal for understanding and evalua ng the firm's efficiency, its profit margins and its future prospects. If you as an entrepreneur want to a ract investors, then informa on provided in the financial statements can help the desired investors to take decision to invest in your company. There are three basic financial statements that encapsulate informa on about a firm. The first is the balance sheet, which summarizes the assets owned by a firm and the value of these assets. It also tells us about the mix of financing, debt and equity used to finance these assets. The next is the income statement, which provides informa on about the revenues and expenses of the company. It shows the profit/loss of the company in the given financial year. Finally, there is the statement of cash flows which specifies the sources and uses of cash of the firm during a period. You will appreciate that analysing all these statements is important but before analysing it is important to understand each one of them. 2.2 MEANING OF FINANCIAL STATEMENT Financial statements are the formal accoun ng records of a company which shows the profitability and the financial posi on of the business. Financial Statements are prepared for a specified accoun ng period, normally a year. A er recording the transac ons in the books of accounts i.e. the journal, pos ng them into ledger and trial balance, it is important to analyse these accoun ng records by preparing financial statements or the final accounts. The purpose of financial statements is two-fold: 1. It shows true and fair picture of financial performance of the company i.e. profit or loss are calculated using the profit and loss account. 2. It shows true and fair picture of the financial posi on of the company i.e. assets and liabili es are calculated using the Balance Sheet. There are many stakeholders which require financial informa on for one or the other reason. You will require this informa on whether you are manager of the firm or inves ng in the firm as a shareholder or lender to the firm. USERS OF FINANCIAL STATEMENTS It is aptly said that “One statement cannot diagnose your company's financial health. Put several statements together and you can make smart financial, investment and management decisions.” Financial statements give fair view of the business. This informa on is useful not only to the 20  FINC001 Management Accoun ng internal members of the company but also to the external members of the company. NOTES Fig. 2.1: Users of Financial Statements USERS OF FINANCIAL STATEMENTS INTERNAL USERS EXTERNAL USERS Owners Investors Management Lenders Employees Suppliers Customers Taxa on authori es Government Other users INTERNAL USERS: Internal users are people within the organisa on and ac vely involved in the business ac vi es of the organisa on. Examples of internal users are owners, management and employees. · Owners: Accoun ng informa on helps the owners to know the stability of their business which helps them to decide if addi onal investment is required in the business or if they should use those financial resources in some other ac vity. · Management: Management is responsible for planning, monitoring and making business decisions. Financial statements provide it with details about the profitability of various ac vi es and different departments which helps in the review of the progress of opera ons which in turn helping control the non- profitable ac vi es of the business. · Employees: Employees are concerned about their job security and income. Using the financial statements, they can judge whether they would be ge ng a bonus or any sort of increment in their income. EXTERNAL USERS: External users are people outside the business organisa on and are not ac vely involved in the working of the organisa on. They are: · Investors: Investors use financial statements to assess their investment and know the earning capacity of the business. · Lenders: Lenders uses financial informa on to know the credit worthiness of the organisa on i.e. the company's posi on to pay off their loans. · Suppliers: Suppliers provides goods on credit to the business; financial statements help them know the company's posi on if it is good enough to pay their credit. · Customers: Consumers are interested in the financial informa on of the business to find out if the business has required resources for a steady supply of goods or 21 UNIT 2 Understanding Financial Statements NOTES services. · Taxa on Authori es: Taxa on authori es work out the assessment of taxes related to the business for which they use financial statements to get the required details. · Government: Government ensures that the informa on revealed by the company is not hampering the interest of any of its stakeholders. · Other Users: Other users of the financial informa on are trade associa ons, consumer organisa ons, researchers, etc. 2.3 TYPES OF FINANCIAL STATEMENTS Fig. 2.2: Types of Financial Statements Balance sheet Income Cash flow statement statement Financial Statement of Notes to Statements shareholder's Accounts equity Financial statements can be classified into five parts 1. Income statement: It is also known as profit and loss account and it presents the financial performance of the business in terms of net profit or net loss over a specified period. Income statement is prepared to ascertain the net profit and loss, it also helps in comparison with the previous year profits', it also helps in controlling the unnecessary expenses and helps in prepara on of balance sheet. Income statement is composed of two elements: A. Income: Income is something which is earned by the business over a period of me. For example: revenue from sales, rent received, commission received, discount received, etc. B. Expenses: Expenses are the cost incurred by the business over a period of me. For example: salaries, adver sement expenses, discount given, deprecia on. 2. Balance Sheet: A er preparing profit and loss account of the business, balance sheet is prepared to know the financial posi on of the business which contains assets and liabili es of the business. Balance sheet helps in ascertaining the value and nature of the assets of the business and helps determine the nature and the amount liabili es of the business. Balance sheet is composed of three elements: 22  FINC001 Management Accoun ng A. Assets: Assets are anything that is the property or the possession of the business NOTES including the amount that is due to it from others. For example: land and building, plant and machinery, Bills receivable, prepaid expenses, etc. B. Liabili es: Liabili es refer to the amount which the business owes to the outsiders. For example: creditors, outstanding expenses, bills payable, etc. C. Equity: Equity is the amount which the business owes to its owner. It is the difference between the assets and liabili es. 3. Cash flow statement: Cash flow statement is a financial statement that shows the ou low and inflow of cash and cash equivalents in a company. It is classified under the following ac vi es: A. Opera ng ac vi es: Opera ng ac vi es is the primary ac vi es of a business. Every inflow and ou low related to it is recorded under this heading. B. Inves ng ac vi es: The purchases and sale of assets other than inventories are recorded under the head Inves ng ac vi es. C. Financing ac vi es: Raising of share capital and debt and payment of interests and dividend are recorded under the head of financing ac vi es. Fig. 2.3: Types of Cash Flow TYPES OF CASH FLOW OPERATING CASH FLOW INVESTING CASH FLOW FINANCING CASH FLOW The cash generated Cash genrated from Raising and payment from day to day purchase and sale of of share capital ac vi es of a business. investments a business and debt with their For Example: purchase does. interests and dividend or sale of goods, For Example: For Example: deprecia on, etc. Purchase/sale Issuance/Redemp on of a building, etc. of Equity shares, etc. 4. Statement of shareholder's equity: It is also known as Statement of retained earnings. It shows the movement in owner's equity over me. It includes share capital issued or repaid, dividend payments, gains and losses occurred related to equity, etc. 5. Notes to account: Financial statement notes are the addi onal and supplemental informa on which is added to the published financial statements of any company. The sole objec ve of these notes is to explain further the main items wri en in the financial statements and numbered, so that the details of these items appearing in financial statements can be checked from the notes pertaining to it. It also throws light on the details of accoun ng policies adopted by the company. This statement is a great help to different stakeholders of the company, financial analyst and the shareholders to get a detailed view of the company's performance. 23 UNIT 2 Understanding Financial Statements NOTES 2.4 LIMITATIONS OF FINANCIAL STATEMENTS · Based on historical costs: Accounts are prepared based on original costs or the historical cost. The informa on in the financial statements also reflects the historical figures only, the effect of price level change is not reflected. Therefore, the true financial posi on of the business cannot be ascertained. · Omission of non-financial informa on: Only the informa on which is in monetary terms is recorded in the accounts, all other non-financial informa on which may be important for the business are ignored. · Unsuitable for forecas ng: Only past events are recorded in the financial statements. Since the business environment is dynamic, con nuous changes occurs every me so these statements cannot be used for forecas ng. · Window dressing: Window dressing means manipula on of accounts just to show a be er picture than the original posi on. This means that management teams some mes deliberately manipulate the financial accounts to show favourable posi on of the business. · Based on accoun ng concepts and conven ons: Several accoun ng conven ons and concepts are taken into considera on while preparing accounts and hence the profitability and financial posi on disclosed by the final accounts may not be realis c. · Not verified: If the financial statements are not audited, the authen city of the accounts cannot be examined. Only audited financial statements can be trusted upon. CHECK YOUR PROGRESS - I Q.1 The term 'Financial Statement' covers- a) Profit & Loss Statement b) Balance sheet and Profit & Loss Statement appropria on account c) Profit & Loss Statement and Balance sheet d) None of the above Q.2 Which account shows the profitability of the business? a) Income statement b) Balance Sheet c) Cash Flow Statement d) Statement of changes in equity Q.3 Cash and cash equivalents during a financial period are shown under which Statement? a) Income statement 24  FINC001 Management Accoun ng b) Balance sheet NOTES c) Cash flow statement d) Statement of changes in equity 2.5 UNDERSTANDING BALANCE SHEET “A Balance Sheet is a financial document or a statement of an enterprise which displays the posi on as well as the disposi on of assets and their increment and also actual picture of liabili es for a par cular period of me which form 'the basis upon which performance of a company and its management may be judged, the resources and liabili es of an individual, a partnership, an associate or a corporate body.” Balance sheet is a financial statement which is used to ascertain the financial posi on of the business organisa on. It is a statement and not an account because there is no debit or credit side in the balance sheet. The total of two sides of the balance sheet should be equal. If the sides do not tally it shows that there are some errors in the prepara on of the accounts. It is prepared on a par cular date and is not for a period of me. The grouping of assets and liabili es are based on the balances of personal and real accounts. The balance sheet is prepared based on the following accoun ng equa on, where assets are on one side, and liabili es plus shareholders' equity are on the other and balances out: ASSETS = LIABILITIES + SHAREHOLDER'S EQUITY “This statement shows what you own (assets), what you owe (liabili es), and what's le over (net value or equity in the business). The numbers change every me you receive money or give credit to a client as well as when you pay for or charge an expense.” 2.5.1 PURPOSE OF BALANCE SHEET a) The purpose of preparing the balance sheet is to know the net worth of the business. It shows true value of an en ty. Net worth is the amount that the business owes to the owner a er deduc ng all the liabili es. b) It helps to determine whether the working capital is enough to sustain the opera ons of the business. Working capital is the difference between current assets and current liabili es. It ensures if the business has sufficient funds to meet its obliga ons. c) It helps to determine the amount and the nature of various types of assets and liabili es of the business. d) It helps to find out the exact amount of closing capital i.e. the capital at the end of the year and to determine whether deduc on or addi on is to be made in the current year. 25 UNIT 2 Understanding Financial Statements NOTES 2.5.2 COMPONENTS OF BALANCE SHEET: There are two broad components of balance sheet - Equity & Liability and the Assets. Table 2.1: Components of Balance Sheet I. EQUITY AND LIABILITIES (1) Shareholder's Funds (a) Share Capital (b) Reserves and Surplus/Other Equity (2) Non-Current Liabilities (a) Long-term borrowings (b) Deferred tax liabili es (Net) (c) Other non-current liabili es (d) Long-term provisions (3) Current Liabili es (a) Short-term borrowings (b) Trade payables (c) Other current liabili es (d) Short-term provisions Total II. Assets (1) Non-current assets (a) Fixed assets (i) Tangible assets (ii) Intangible assets (iii) Capital work-in-progress (iv) Intangible assets under development (b) Investment Property (c) Financial Assets (d) Deferred tax assets (net) (e) Long-term loans and advances (f) Other non-current assets (2) Current assets (a) Current investments (b) Inventories 26  FINC001 Management Accoun ng (c) Trade receivables NOTES (d) Cash and cash equivalents (e) Short-term loans and advances (f) Other current assets Total Let us first understand each component of Equity and Liability I EQUITY AND LIABILITY – This part of balance sheet mainly consists of details related to equity shares, reserves and liability. a) Equity Capital - Equity Capital gives us the detail of funds obtained by the issue of shares in the corpora on to shareholders. Equity share capital is also known as the owner's fund. Shares can be of following types: · Equity Shares – Equity shares are the type of shares which represent propor onate ownership. The holder of equity shares has vo ng rights and therefore represents the ownership of a company. They have share in the profits but don't have fixed a dividend. Equity shares are considered as more risky for the firm as compared to debt. · Preference Share – Preference share are the shares which have fixed the dividend and priority to payments as compared to equity shares, Preference shareholders don't have vo ng rights. b) Reserve and surplus/other equity – · Reserves and surplus are created out of profits earned by a company. · Reserves are usually money reserved by the company for specific purposes. Reserves can be broadly categorized as Revenue Reserves and Capital Reserves. Revenue Reserves is created out of yearly profits. The revenue reserves are further categorized into Free Reserves also known as General Reserve and Specific Reserves which are earmarked for specific future requirements. General reserve can be used for any purpose, and a firm can pay dividends out of it. Specific Reserves are used for specific purpose. An example of such reserve is Debenture Redemp on Reserve (DRR) which is to be used for redemp on of debentures at maturity. Capital Reserves is created out of Capital Transac ons and not from revenue or day-to-day profits. An example of capital reserve is Security Premium Reserve which is created out of the share premium received at the me of issue of shares. Capital Reserves can not be used for dividend payment. However, they can be used for specific purpose like issue of bonus shares or buy-back of shares. 27 UNIT 2 Understanding Financial Statements NOTES c) Long term Borrowing – These are also called outsider's fund. These are borrowing which the company take for a long period, specifically for a period of more than one year. Finance cost is the cost associated with these borrowing. It can be in any shape as under - · Debentures · Secured and unsecured term loans · Public deposits · Loans and advances from related par es d) Deferred Tax Liability – Deferred tax liability arises due to less tax paid in the current year because of temporary difference in tax expense calculated as per Companies Act and tax calculated as per Income Tax Act. This difference is temporary and will be automa cally reversed in future. Therefore, the less tax paid in the current year is to be paid in subsequent years hence a liability is recorded in the form of deferred tax. An example of this liability is less tax paid in the current year because of the difference in the way deprecia on is treated as per Companies Act and Income Tax Act and this benefit will be reversed in subsequent years. e) Other non-current liabili es – Other long-term liabili es are the liabili es which are not long term borrowing but have maturity of more than the current liabili es. Mainly it is of following types - · Long term trade payables · Long term Creditors for Capital Expenditure (Any Fixed Asset purchased on long term credit) · Security Deposits (When a company collects a security deposit from a customer, these funds are likely be returned to the customer eventually. The deposit therefore represents a future financial obliga on, the accoun ng defini on of a liability) f) Long-term provisions - Mainly consist of provisions made for a long me period like – · Provisions for employee benefits · Provision for Compensated Absences · Provision for Gratuity · Provision for Termina on benefits g) Short-term borrowings- These are borrowings payable within one year. They are mainly of the following types. · Loans payable on demand from banks · Loans and advances from related par es 28  FINC001 Management Accoun ng · Short-term Deposits NOTES h) Trade Payables - Trade payables are mainly the creditors or bills payable which arise due to credit transac ons for buying raw material and commodi es on credit i) Other Current Liabili es – These are the liabili es which are payable within a year and can take any shape as described under – · Current Maturity of Long-term debt · Outstanding/accrued expenses · Unpaid dividends/unpaid interest on deposits or debentures · Customer Advances (Income received in advance) · Interest accrued on borrowings · Share applica on money received and due for refund · Deposits (Any security deposits to be returned within one year to the giver) j) Short-term Provisions – These are the provisions made for es mated expenses to be repaid within one year. Some examples are as under – · Provisions for Dividend · Provisions for Tax · Provisions for employee benefits II ASSETS Assets are the economic resources owned and controlled by a firm which provides future benefits. Assets are again divided into various parts mainly into non-current and current assets. In the balance sheet it is wri en according to the liquidity. The least liquid asset comes first and then proceeds accordingly. a) Non-Current Assets - Non-Current assets also known as fixed assets are our long-lived assets. Non-Curent Assets of an en ty includes the following: Tangible Asset - Tangible assets are those assets which have physical existence that is they can be seen or touched. For example, Property, Plant and Equipment (PPE), Furniture, Land, Building, Stock, Cash, etc. Intangible Assets - Intangible assets have no physical existence like knowledge, know-how but are of great value to the company. Like goodwill, brands/trademarks (Colgate), computer so ware, mining rights, copyrights, patents and other intellectual property rights, recipes, formulae, models, designs and prototypes, Licenses and Franchise (Lump sum payment to acquire the same) Capital Work in Progress - Capital work-in-progress includes expenditure during 29 UNIT 2 Understanding Financial Statements NOTES construc on period incurred on projects under implementa on treated as pre-opera ve expenses pending alloca on to the assets. These expenses are appor oned to the respec ve fixed assets on their comple on/commencement of commercial produc on. For example, if you are building a factory – Capital Work-in-progress un l it is completed. New equipment being installed in a factory ll it is opera onal. Intangible Assets under development - Just like capital work in progress there can be an intangible asset under development. Like a Pharmaceu cal company developing a drug formula that eradicates cancer. All costs incurred in this case shall be treated as Intangible assets under development as it will become a patent for the company in the future. It should be noted that the expenses made in research phase are not treated as asset and they are expensed in the year in which they are incurred. Only when the work enters to development stage, it is permi ed to be recorded as asset. b) Investment Investment Property - Investment Property applies to the accoun ng for property (land and/or buildings) held to earn rentals or for capital apprecia on (or both). It is basically the company's investment in the proper es to earn out of it. Investment in Financial Assets - Investment in subsidiaries, partnership and other companies Like Equity shares, preference shares and bonds or Debentures. And some mes in other non-trade investments like Government securi es and mutual funds. c) Deferred Tax Assets – Deferred tax asset arises due to more tax paid in the current year because of temporary difference in tax expense calculated as per Company's Act and tax paid calculated as per Income Tax Act. This difference is temporary and will be automa cally reversed in future year. Therefore, the more tax paid in the current year will result into tax benefit in subsequent years hence an asset is recorded in the form of deferred tax. d) Long-term loans and advances – Long-term loans and advances are the advances which the company gives to other company or party for a long me period. Like Capital Advances (capital advances are advances given for procurement of fixed assets which are non-current assets). Security Deposits (When a business place a security deposit - that is, it gives someone else money to hold against possible future charges) or Loans and advances to related par es which will be repaid a er one year. e) Other non-current assets - These are mainly the long-term receivables of the company, the me period for such receivables is more than a year. f) Current assets: Current assets are those assets which can converted into cash or which are meant for sale within a period of one year. They are also known as “Short-lived or ac ve assets.” For example: Cash in hand, cash at the bank, debtors, bills receivables, inventory. Cash and Assets that are reasonably expected to be realized in cash (trade receivables, 30  FINC001 Management Accoun ng current investments) or be sold (Inventories) or consumed within one year (Prepaid NOTES expenses, Stores and Spares, Loose tools). Current Investments – These are the investments which can be realized in cash within one year. Like, investments in equity instruments, preference shares, overnment securi es, bonds or debentures, mutual funds, partnership firms. Inventories - Inventories are also current assets which can be realized in cash or consumed within one year. It consists of raw materials, work-in-progress, finished goods, stock-in- trade, stores and spares (held for resale or repair/servicing, for example, automobile stores and spares), Loose tools (heavy usage in various steps of produc on so impossible to guarantee life of asset with certainty). Cash and Cash Equivalent - Cash comprises cash in hand and demand deposits with banks. Cash equivalents are short-term balances (with an original maturity of three months or less from the date of acquisi on), highly liquid investments that are readily conver ble into known amounts of cash and which are subject to insignificant risk of changes in value. Like balances with banks, cheques, dra s on hand and cash on hand. Short term loans and advances – Some of the examples under this head are - prepaid expenses (treated as an advance), security deposits (Rent, Telephone, etc.), capital advances, loans and advances to related par es, loans and advances to employees, advances to directors, advances to suppliers (Sundry Creditors). Other current assets – These are basically accrued or outstanding income (interest accrued on deposits, investments, trade receivables). BALANCE SHEET SHOWS YOU · The net value of the business. · Debt in short-term and long-term. · Composi on of assets of the business. · Comparison of the previous year and current year to see changes in: cash, accounts payable, accounts receivable, equity, inventory and retained earnings. CHECK YOUR PROGRESS - II Q.1 Current liabili es include: a) Creditors b) Bills payable c) Outstanding expenses d) All the above 31 UNIT 2 Understanding Financial Statements NOTES Q.2 Current assets does not include a) Land and building b) Bills receivable c) Bank balance d) Debtors Q.3 Tangible assets do not include a) Furniture b) Cash c) Goodwill d) Building 2.6 STATEMENT OF CHANGES IN SHAREHOLDER’S EQUITY Statement of changes in equity summarises the transac ons rela ng to the shareholder's equity over a period. It is a statement which shows the reconcilia on between opening and closing balance of shareholder's equity. It provides detailed informa on about the movements in the shareholder's equity over an accoun ng period which is not reflected in the financial statements elsewhere. Such informa on is of great help to the shareholders and the investors regarding their investment decisions. The movement of equity can be calculated as the difference between the assets and liabili es of a par cular accoun ng period. This informa on can be obtained from the Balance Sheet of the company, but the details of whatever changes have taken place cannot be iden fied that is why it becomes crucial to prepare the statement of changes in equity as changes in each component of the equity are clearly reflected in this statement. 2.7 UNDERSTANDING INCOME STATEMENT Statement of Profit & Loss which is also known as Income statement or the Profit and Loss account is a statement which reflects the financial performance of the business. 2.7.1 PURPOSE OF INCOME STATEMENT a) Income statement helps to ascertain the Net Profit or Loss incurred by the business which is then added to or deducted from the shareholder's equity. b) It helps to make comparison between the profit or loss occurred in the current year and previous year which helps to ensure the profitability and efficiency of the business. c) It also helps in finding out unnecessary expenses incurred and helps to find out to control such unnecessary expenses. 32  FINC001 Management Accoun ng 2.7.2 COMPONENTS OF INCOME STATEMENT NOTES Table 2.2: Components of Income Statement I. Revenue from operations II. Other Income III. Total Revenue (I+II) Expenses: Cost of materials consumed Purchase of stock-in-trade Changes in inventories of finished goods, work-in-progress and stock-in-trade Employee benefit expense Financial costs Depreciation and amortization expense Other expenses IV. Total Expenses V. Profit before tax (III - IV) VI. Tax expense VII. Profit / (Loss) for the period (V-VI) Note: For detailed format of Statement of Profit & Loss, refer unit I INCOME a) Revenue from opera ons - Revenue from opera ons are the income which company generates from its opera on and its business. It is main source of income for a manufacturing or a service providing company, Some of the examples of revenue from opera ons are as under ˜ Sale of products ˜ Sale of services ˜ Other opera ng revenues (This would include Revenue arising from a company's) opera ng ac vi es, i.e., either its principal or ancillary revenue-genera ng ac vi es, but which is not revenue arising from the sale of products or rendering of services). ˜ Other opera ng revenue ˜ Sale of scrap ˜ Export Incen ves (Duty drawbacks - duty paid on imported raw material is refunded to exporters at fixed rates) 33 UNIT 2 Understanding Financial Statements NOTES b) Other Income – Other income are the income which a company generates from other sources, other than its opera ons. Some of the example are as under- · Interest income · Dividend income (Income from Investments) · Commission income EXPENSES a) Cost of materials consumed – The first and the most prominent cost is the cost of material consumed. Cost of material consumed is the cost of raw material that the company used to manufacture finished goods. This expense is more in manufacturing firms and less in-service industries. The formula for calcula ng cost of material consumed is – · Opening stock of raw materials Add: Purchases of raw materials Less: Closing stock of raw materials b) Purchases of stock in trade – Stock in trade is the stock of material which denotes the purchase of traded goods. Trade goods are the goods which are purchased for resale. c) Changes in inventories of finished goods, work-in-progress and stock-in-trade – We write the change in stock of every inventory other than raw material under this head. So it largely consists of change in inventory of finished goods, raw material and stock in t