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Financial Accounting & Analysis April 2022 Examination Q1. Analyze the following transactions for Surprise Ltd. using the concept of Accounting Equation comprising of Assets, Liabilities, and Equity
**1. Commenced business with cash of ₹5 00,000.
- Purchased equipment for cash ₹2 00,000.
- Purchased furniture worth ₹50,000 on credit from IndiaMART.
- Purchased raw materials for ₹25,000 against cash from XYZ Suppliers.
- Deposited cash of ₹1 25,000 in the current account.
- Sold goods for ₹75,000 and received a cheque against the same. Ans:** An organization's sources for use, like cash, money owed receivable, fixed property, and inventories, are called property within the accounting equation. The company either incurs responsibilities (the Liabilities part of the accounting equation) or obtains a budget from buyers (the Shareholders' fairness factor of the equation) to pay for those resources. As a result, you have assets with claims towards them, either from lenders or investors. The stability sheet, which indicates an agency's financial situation at anybody time, contains all three components of the accounting equation. The element of the equation involving Shareholders' fairness is extra complicated than simply the money given to the company via buyers. Debts due to suppliers, various accumulated duties, including sales taxes and earnings taxes, and debt payments to creditors make up the Liabilities half of the equation. It's far their preliminary funding, plus any subsequent profits, minus any subsequent losses, fewer dividends, or other withdrawals given to the buyers. The balance sheet reflects this connection among assets, liabilities, and shareholders' equity, with the total of all assets equaling the sum of the liabilities and shareholders' equity sections. The accounting equation is vast because it's miles constantly proper and inspires all accounting activities. At a high level, which means that if a transaction is recordable, the options for recording it all revolve around preserving the accounting equation balanced? All accounting software applications have the accounting equation concept, which means any transactions that do not fit the equation's necessities are immediately rejected. The factors that contribute to the accounting equation are kept on the stability sheet:
- locate the company's total assets on the balance sheet for the duration.
- upload all liabilities, which should be listed separately on the stability sheet.
- discover general shareholder fairness and multiply it by total liabilities.
- The sum of liabilities and total equity will equal total assets. The accounting equation concisely asserts a balance sheet's sophisticated, enlarged, and multi- item format. In essence, the representation equates all capital makes use of (property) to all capital sources, with loan capital ensuing in liabilities and fairness capital resulting in shareholders' equity. Every enterprise transaction could be represented in at least an organization's debts if it continues accurate information. For example, suppose an enterprise takes out a bank loan. In that case, the borrowed budget will seem on the balance sheet as an upward push within the business enterprise's belongings and a growth inside the mortgage liabilities. Let's measure and evaluate the accounting equation for Surprise Ltd.: Particulars Assets = Liability + Owner’s Equity **Total
- Commenced business with cash of ₹ 5 00,000.** Cash: 5,00, Capital: 5,00,
2. Purchased equipment for cash ₹2, 00,000. Equipment: 2,00, Cash: 3,00, Capital: 5,00,
3. Purchased furniture worth ₹ 50,000 on credit from IndiaMART. Equipment: 2,00, Cash: 3,00, Furniture: 50, Creditors: (IndiMart) 50, Capital: 5,00,
4. Purchased raw materials for ₹ 25,000 against cash from XYZ Suppliers. Equipment: 2,00, Cash: Creditors: (IndiMart) 50, Capital: 5,00,
Bank: 75, From above we calculated that: Total Asset = 7,25, Total Liability = 1,00, Owner’s Equity = 6,25, Q2. The cash flow statement complements the income statement and the balance sheet summarizing all company cash inflows and outflow transactions within the given financial year. However, two different methods of preparing the cash flow statement are direct and indirect. Enlist the differences between the Direct and Indirect methods of cash flow statement. Ans 2. First, permits examine what cash flow statements are and why they are essential to your corporation. A cash flow statement shows how much cash is available in and out of your company throughout a specific duration. It is one of the three critical monetary statements for managing your small business accounting and ensuring you have enough cash to maintain running, alongside stability sheets and earnings statements. A cash flow declaration is a proper financial announcement indicating how much money you have available at any person's time. While earnings statements help decide how tons money you've spent and earned, they do not constantly imply how an awful lot of cash you have reachable at any given moment. If you undertake accrual-primarily based accounting, income and expenses are recorded while they are generated or incurred, now not while the money leaves or enters your bank debts. (Cash accounting only registers money as soon as it is on your ownership.) As a result, although sales are meditated on your profits statement, you can no longer have the finances to pay for it. The cash flow declaration corrects the statistics in your profits assertion so that you can view your net cash flow—the precise sum of money you have on hand for that length. Cash flow statements are an essential thing of economic analysis as long as you make use of accrual accounting for three motives
- They exhibit your economic power. That implies you'll usually recognize how a whole lot of operating cash flow you have got in case you want it. So now you know what you can and cannot have the funds for.
- In the shape of cash withdrawals, cash inflows, and coins holdings, they show you modifications in belongings, liabilities, and equity. Those three classes are the inspiration for your accounting device. They integrate to generate the accounting equation to tune your development.
- They offer you the ability to forecast future cash flows. Cash flow statements can be used to supply cash flow predictions, allowing you to forecast how plenty liquidity your organization will have inside the destiny. This is crucial for the long-
term company making plans. You can use one among two methods to discern your employer's cash flow: the direct approach or the oblique manner. At the same time, as both are approved via usually recognized accounting rules (US GAAP), small companies choose the indirect technique. Direct Method of Calculating Cash Flow: Direct method of operating activities cash flows is one of the two main techniques that may be used to calculate the net cash flow from operating activities in a cash flow statement, the other being indirect method. The direct method works by directly calculating each of the components of operating cash flows, such as cash receipts from customers, cash paid to suppliers, cash paid for salaries, etc. Once the values for these individual components have been calculated, these are summed together in the cash flow from operating section of a cash flow statement. The calculations of the components of operating cash flow are based on the double entry accounting principles. Therefore, the aim is to calculate the movement in cash under each component using the beginning and ending balances of various accounts and other available information. The exact formulas to calculate various cash inflows and outflows therefore vary and are derived with intuition.The use of the direct method, you preserve the music of cash because it enters and exits your company, then use that fact to generate a coin flow announcement on the cease of the month. The direct approach necessitates more effort and organization than the indirect technique since each monetary transaction requires manufacturing and tracking cash receipts. As a result, smaller establishments often choose the oblique method. It is also worth noting that, even if you utilize the direct technique to report cash flows in real-time, you'll want to reconcile your statement of coins flows with your profits statement using the oblique method. As a result, the direct technique will generally take longer than the oblique method. Indirect Method of Calculating Cash Flow: The oblique method involves looking at your income announcement's transactions, after which reversing some of them to decide your running capital. You're going over your sales declaration one after the other, removing transactions that do not indicate any cash movement. Many small firms pick this option since it is less complicated than direct. While utilizing the indirect technique, you might not reconcile your assertions with the direct method. Direct vs. Indirect Method of Cash Flow: The cash flows from operational fees are the essential distinction among the direct and indirect methods of making cash flow statements. The cash flow from operational operations is shown as actual cash outflows and inflows based on a coin using the direct technique, in place of starting from net earnings on an accrual foundation. For both the direct and oblique procedures, you create the financing and investment components of the cash flow declaration equally. Best the cash flow from the operations portion of a company's three a critical financial statement —cash flow assertion, earnings declaration, and balance sheet—are altered using the direct technique. In contrast, the cash flow from funding and financing sections may be similar whether an oblique or direct method is applied.
Debt to Equity Ratio: If your company is incorporated, the debt-to-equity ratio is a vital indicator of the available quantity of debt (along with modern-day and lengthy-term responsibilities) vs. the amount invested by shareholders. Lenders and traders will examine your debt-to-equity ratio if your company requires debt or equity funding. The higher the ratio, the greater the company's hazard. Industry benchmarks are used to evaluate debt-to-equity ratios. Industries with excessive capital depth, such as transportation and utilities, have large ratios (2. or more), whereas insurance carriers have less than 0.5. Debt to Equity Ratio = (Short-term Debt + Long-term Debt) / Shareholder’s Equity Ratios Formula Ace Ltd Pace Ltd Debt to Equity Ratio (Short-term Debt + Long-term Debt) / Shareholder’s Equity
Current Ratio Current Assets / Current Liabilities
= 1.50 times
= 1.47 times b. If the face value of equity shares of both companies is ₹ten each, calculate the Earnings per share ratio for both companies, advising which company is recommended for investment. Ans 3 (b) Understanding the way to compute and examine different ratios is the first step. Lenders can assess how your firm is doing by reading economic statistics and evaluating them to other organizations. For enterprise owners, ratio analysis is also a helpful device. Primary ratio evaluation may additionally assist you in deciding how healthful your firm is, perceiving viable problems, and determining whether your business is enhancing or deteriorating over time. Concept and application: An earnings in line with percentage, or EPS, is a critical financial metric that measures an employer's profitability. It is computed using multiplying the organization's net profits by the overall quantity of stocks super. It is a standard measure utilized by market gamers to assess an organization's profitability before investing in its stock. The fraction of an enterprise's profits allotted to each character percentage of inventories is referred to as EPS. It's miles a word. This is extraordinarily important to stock marketplace buyers and buyers. The higher a company's earnings according to percentage, the greater profitable its miles. Because the range of stocks fantastic might vary over the years, it's excellent to utilize the weighted ratio when computing EPS. There are two strategies for calculating profits in keeping with percentage:
- Earnings in line with share: net income after taxes divided by using the whole range of outstanding shares.
- Weighted profits in line with share are calculated as follows: (internet income after Tax - overall Dividends)/full range of outstanding stocks. Convertible stocks and warrants under outstanding shares are protected in a different diluted version of the ratio. It's far regarded as a more excellent comprehensive version of the basic income consistent with the share ratio. The EPS ratio can notify an investor who's most effective involved with a continuous circulate of earnings how lots potential a firm has to increase its present-day dividend. Although EPS is a precious and essential tool for investors, it should not be considered isolation, which will make a higher educated and intelligent investment decision. A company's EPS must be compared to that of other firms constantly. Particulars Formula Ace Ltd Pace Ltd No. of Equity Shares Equity Value/Face Value of Equity shares
= 210 shares
= 285 shares Earning Per Shares Net Income/No. of Equity Shares
= 0.55 per share
= 0.62 per share
