Accountancy

The accounting process in a nutshell:

Capture and Record a business transaction. Classify and post transactions to their individual Ledger Accounts. Summarize and report the balances of Ledger Accounts in financial statements.

The three main financial statements:

Income Statement Balance Sheet Statement of Cash Flows

What are the 3 Golden Rules of Accountancy?

Real Accounts: Debit what comes in Credit what goes out Personal Accounts: Debit the receiver Credit the giver Nominal Account: Debit all expenses and losses Credit all incomes and gains

GAAP:
In the United States, Generally Accepted Accounting Principles are accounting rules used to prepare, present and report financial statements for a wide variety of entities, including publicly traded and privately held companies, non-profit organizations, and government authorities.

Basic objectives:
Financial reporting should provide information that is: Useful to present to potential investors and creditors and other users in making rational investment, credit, and other financial decisions. Helpful to present to potential investors and creditors and other users in assessing the amounts, timing, and uncertainty of prospective cash receipts. About economic resources, the claims to those resources, and the changes in them. helpful for making financial decisions helpful in making long-term decisions helpful in improving the performance of the business useful in maintaining records

Basic concepts:
To achieve basic objectives and implement fundamental qualities GAAP has four basic assumptions, four basic principles, and four basic constraints.

Assumptions:
Accounting Entity: assumes that the business is separate from its owners or other businesses. Revenue and expense should be kept separate from personal expenses. Going Concern: assumes that the business will be in operation indefinitely. This validates the methods of asset capitalization, depreciation, and amortization. Only when liquidation is certain this assumption is not applicable. The business will continue to exist in the unforeseeable future. Monetary Unit principle: assumes a stable currency is going to be the unit of record. The FASB accepts the nominal value of the US Dollar as the monetary unit of record unadjusted for inflation. The Time-period principle implies that the economic activities of an enterprise can be divided into artificial time periods.

Principles:
Historical cost principle requires companies to account and report based on acquisition costs rather than fair market value for most assets and liabilities. This principle provides information that is reliable (removing opportunity to provide subjective and potentially biased market values), but not very relevant. Thus there is a trend to use fair values. Most debts and securities are now reported at market values. Revenue recognition principle requires companies to record when revenue is 1. realized or realizable and 2. earned, not when cash is received. This way of accounting is called accrual basis accounting.

Matching principle. Expenses have to be matched with revenues as long as it is reasonable to do so. Expenses are recognized not when the work is performed, or when a product is produced, but when the work or the product actually makes its contribution to revenue. Only if no connection with revenue can be established, cost may be charged as expenses to the current period (e.g. office salaries and other administrative expenses). This principle allows greater evaluation of actual profitability and performance (shows how much was spent to earn revenue). Depreciation and Cost of Goods Sold are good examples of application of this principle. Full Disclosure principle. Amount and kinds of information disclosed should be decided based on trade-off analysis as a larger amount of information costs more to prepare and use. Information disclosed should be enough to make a judgment while keeping costs reasonable. Information is presented in the main body of financial statements, in the notes or as supplementary information

Constraints:
Objectivity principle: the company financial statements provided by the accountants should be based on objective evidence. Materiality principle: the significance of an item should be considered when it is reported. An item is considered significant when it would affect the decision of a reasonable individual. Consistency principle: It means that the company uses the same accounting principles and methods from year to year. Conservatism principle: when choosing between two solutions, the one that will be least likely to overstate assets and income should be picked (see convention of conservatism).

International Financial Reporting Standards:

International Financial Reporting Standards (IFRS) are designed as a common global language for business affairs so that company accounts are understandable and comparable across international boundaries. They are a consequence of growing international shareholding and trade and are particulalrly important for companies that have dealings in several countries. They are progressively replacing the many different national accounting standards.The rules to be followed by accountants to maintain books of accounts which is comaprable, understandable, reliable and relevant as per the users internal or external. IFRS began as an attempt to harmonise accounting across the European Union but the value of harmonisation quickly made the concept attractive around the world. They are sometimes still called by the original name of International Accounting Standards (IAS). IAS were issued between 1973 and 2001 by the Board of the International Accounting Standards Committee (IASC). On April 1, 2001, the new IASB took over from the IASC the responsibility for setting International Accounting Standards. During its first meeting the new Board adopted existing IAS and Standing Interpretations Committee standards (SICs). The IASB has continued to develop standards calling the new standards International Financial Reporting Standards (IFRS).

Role of framework:
Deloitte states: In the absence of a Standard or an Interpretation that specifically applies to a transaction, management must use its judgement in developing and applying an accounting policy that results in information that is relevant and reliable. In making that judgement, IAS 8.11 requires management to consider the definitions, recognition criteria, and measurement concepts for assets, liabilities, income, and expenses in the Framework. This elevation of the importance of the Framework was added in the 2003 revisions to IAS 8.

Objective of financial statements: A financial statement should reflect true and fair view of the business affairs of the organization. As statements are used by various constituents of the society / regulators, they need to reflect true view of the financial position of the organization. and it is very helpful to check the financial position of the business for a specific period. IFRS authorize three basic accounting models: I. Current Cost Accounting, under Physical Capital Maintenance at all levels of inflation and deflation under the Historical Cost paradigm as well as the Capital Maintenance in Units of Constant Purchasing Power paradigm. (See the Conceptual Framework, Par. 4.59 (b).) Financial capital maintenance in nominal monetary units, i.e., globally implemented Historical cost accounting during low inflation and deflation only under the traditional Historical Cost paradigm.(See the original Framework (1989), Par 104 (a))[now Conceptual Framework (2010), Par. 4.59 (a)]. Financial capital maintenance in units of constant purchasing power, i.e., Constant Item Purchasing Power Accounting[5] CIPPA in terms of a Daily Consumer Price Index or daily rate at all levels of inflation and deflation (see the original Framework (1989), Par 104 (a)) [now Conceptual Framework (2010), Par. 4.59 (a)] under the Capital Maintenance in Units of Constant Purchasing Power paradigm and Constant Purchasing Power Accounting CPPA (see IAS 29) during hyperinflation under the Historical Cost paradigm.

II.

III.

The following are the three underlying assumptions in IFRS: 1. Going concern: an entity will continue for the foreseeable future under the Historical Cost paradigm as well as under the Capital Maintenance in Units of Constant Purchasing Power paradigm. (See Conceptual Framework, Par. 4.1) 2. Stable measuring unit assumption: financial capital maintenance in nominal monetary units or traditional Historical cost accounting only under the traditional Historical Cost paradigm; i.e., accountants consider changes in the purchasing power of the functional currency up to but excluding 26% per annum for three years in a row (which would be 100% cumulative inflation over three years or hyperinflation as defined in IAS 29) as immaterial or not sufficiently important for them to choose Capital Maintenance in units of constant purchasing power in terms of a Daily Consumer Price Index or daily rate Constant Item Purchasing Power Accounting at all levels of inflation and deflation as authorized in IFRS in the original Framework(1989), Par 104 (a) [now Conceptual Framework (2010), Par. 4.59 (a)]. Accountants implementing the stable measuring unit assumption (traditional Historical Cost Accounting) during annual inflation of 25% for 3 years in a row would erode 100% of the real value of all constant real value non-monetary items not maintained constant under the Historical Cost paradigm.

3. Units of constant purchasing power: capital maintenance in units of constant purchasing power at all levels of inflation and deflation in terms of a Daily Consumer Price Index or daily rate (Constant Item Purchasing Power Accounting)[6] only under the Capital Maintenance in Units of Constant Purchasing Power paradigm; i.e. the total rejection of the stable measuring unit assumption at all levels of inflation and deflation. See The Framework (1989), Paragraph 104 (a) [now Conceptual Framework (2010), Par. 4.59 (a)]. Capital maintenance in units of constant purchasing power under Constant Item Purchasing Power Accounting in terms of a Daily Consumer Price Index or daily rate of all constant real value non-monetary items in all entities that at least break even in real value at all levels of inflation and deflation - ceteris paribus - remedies for an indefinite period of time the erosion caused by Historical Cost Accounting of the real values of constant real value non-monetary items never maintained constant as a result of the implementation of the stable measuring unit assumption at all levels of inflation and deflation under HCA. It is not inflation doing the eroding. Inflation and deflation have no effect on the real value of non-monetary items.[2] It is the implementation of the stable measuring unit assumption, i.e., traditional HCA which erodes the real value of constant real value nonmonetary items never maintained constant in a double entry basic accounting model. Constant real value non-monetary items are non-monetary items with constant real values over time whose values within an entity are not generally determined in a market on a daily basis. Examples include borrowing costs, comprehensive income, interest paid, interest received, bank charges, royalties, fees, short term employee benefits, pensions, salaries, wages, rentals, all other income statement items, issued share capital, share premium accounts, share discount accounts, retained earnings, retained losses, capital reserves, revaluation surpluses, all accounted profits and losses, all other items in shareholders equity, trade debtors, trade creditors, dividends payable, dividends receivable, deferred tax assets, deferred tax liabilities, all taxes payable, all taxes receivable, all other non-monetary payables, all other non-monetary receivables, provisions, etc. All constant real value non-monetary items are always and everywhere measured in units of constant purchasing power at all levels of inflation and deflation under CIPPA in terms of a Daily CPI or daily rate under the Capital Maintenance in Units of Constant Purchasing Power paradigm. The constant item gain or loss is calculated when current period constant items are not measured in units of constant purchasing power. Monetary items are units of money held and items with an underlying monetary nature which are substitutes for units of money held. Examples of units of money held are bank notes and coins of the fiat currency created within an economy by means of fractional reserve banking. Examples of items with an underlying monetary nature which are substitutes of money held include the capital amount of: bank loans, bank savings, credit card loans, car loans, home loans, student loans, consumer loans, commercial and government bonds, Treasury Bills, all capital and money

market investments, notes payable, notes receivable, etc. when these items are not in the form of money held. Historic and current period monetary items are required to be inflation-adjusted on a daily basis in terms of a daily index or rate under the Capital Maintenance in Units of Constant Purchasing Power paradigm. The net monetary loss or gain as defined in IAS 29 is required to be calculated and accounted when they are not inflation-adjusted on a daily basis during the current financial period. Inflation-adjusting the total money supply (excluding bank notes and coins of the fiat functional currency created by means of fractional reserve banking within an economy) in terms of a daily index or rate under complete co-ordination would result in zero cost of inflation (not zero inflation) in only the entire money supply (as qualified) in an economy. Variable real value non-monetary items are non-monetary items with variable real values over time. Examples include quoted and unquoted shares, property, plant, equipment, inventory, intellectual property, goodwill, foreign exchange, finished goods, raw material, etc. Current period variable real value non-monetary items are required to be measured on a daily basis in terms of IFRS excluding the stable measuring unit assumption and the cost model in the valuation of property, plant, equipment and investment property after recognition under the Capital Maintenance in Units of Constant Purchasing Power paradigm. When they are not valued on a daily basis, then they as well as historic variable real value non-monetary items are required to be updated daily in terms of a daily rate as indicated above. Current period impairment losses in variable real value non-monetary items are required to be treated in terms of IFRS. They are constant real value non-monetary items once they are accounted. All accounted losses and profits are constant real value nonmonetary items. Under the Capital Maintenance in Units of Constant Purchasing Power paradigm daily measurement is required of all items in terms of a) a Daily Consumer Price Index or monetized daily indexed unit of account, e.g. the Unidad de Fomento in Chile, during low inflation, high inflation and deflation and b) in terms of a relatively stable foreign currency parallel rate (normally the US Dollar daily parallel rate) or a Brazilian-style Unidade Real de Valor daily index during hyperinflation. Hyperinflation is defined in IAS 29 as cumulative inflation being equal to or approaching 100 per cent over three years, i.e. 26 per cent annual inflation for three years in a row.

Qualitative characteristics of financial statements: Qualitative characteristics of financial statements include:

Relevance (Materiality) Faithful representation Enhancing qualitative characteristics include: Comparability Verifiability Timeliness Understandability

Elements of financial statements (IAS 1 article 10):

The financial position of an enterprise is primarily provided in the Statement of Financial Position. The elements include: a) Asset: An asset is a resource controlled by the enterprise as a result of past events from which future economic benefits are expected to flow to the enterprise. b) Liability: A liability is a present obligation of the enterprise arising from the past events, the settlement of which is expected to result in an outflow from the enterprise' resources, i.e., assets. c) Equity: Equity is the residual interest in the assets of the enterprise after deducting all the liabilities under the Historical Cost Accounting model. Equity is also known as owner's equity. Under the units of constant purchasing power model equity is the constant real value of shareholders equity. The financial performance of an enterprise is primarily provided in the Statement of Comprehensive Income (income statement or profit and loss account). The elements of an income statement or the elements that measure the financial performance are as follows: a) Revenues: increases in economic benefit during an accounting period in the form of inflows or enhancements of assets, or decrease of liabilities that result in increases in equity. However, it does not include the contributions made by the equity participants, i.e., proprietor, partners and shareholders. b) Expenses: decreases in economic benefits during an accounting period in the form of outflows, or depletions of assets or incurrences of liabilities that result in decreases in equity. Revenues and expenses are measured in nominal monetary units under the Historical Cost Accounting model and in units of constant purchasing power (inflation-adjusted) under the Units of Constant Purchasing Power model. a) Statement of Changes in Equity b) Statement of Cash Flows c) Notes to the Financial Statements

Recognition of elements of financial statements:

An item is recognized in the financial statements when: it is probable future economic benefit will flow to or from an entity. the resource can be reliably measured otherwise the stable measuring unit assumption is applied under the Historical Cost Accounting model: i.e. it is assumed that the monetary unit of account (the functional currency) is perfectly stable (zero inflation or deflation); it is simply assumed that there is no inflation or deflation ever, and items are stated at their original nominal Historical Cost from any prior date: 1 month, 1 year, 10 or 100 or 200 or more years before; i.e. the stable measuring unit assumption is applied to items such as issued share capital, retained earnings, capital reserves, all other items in shareholders equity, all items in the Statement of Comprehensive Income (except salaries, wages, rentals, etc., which are inflationadjusted annually), etc. Under the Units of Constant Purchasing Power model, all constant real value nonmonetary items are inflation-adjusted during low inflation and deflation; i.e. all items in the Statement of Comprehensive Income, all items in shareholders equity, Accounts Receivables, Accounts Payables, all non-monetary payables, all nonmonetary receivables, provisions, etc.

Measurement of the elements of financial statements:

Par. 99. Measurement is the process of determining the monetary amounts at which the elements of the financial statements are to be recognized and carried in the balance sheet and income statement. This involves the selection of the particular basis of measurement. Par. 100. A number of different measurement bases are employed to different degrees and in varying combinations in financial statements. They include the following: a) Historical cost. Assets are recorded at the amount of cash or cash equivalents paid or the fair value of the consideration given to acquire them at the time of their acquisition. Liabilities are recorded at the amount of proceeds received in exchange for the obligation, or in some circumstances (for example, income taxes), at the amounts of cash or cash equivalents expected to be paid to satisfy the liability in the normal course of business. b) Current cost. Assets are carried at the amount of cash or cash equivalents that would have to be paid if the same or an equivalent asset was acquired currently. Liabilities are carried at the undiscounted amount of cash or cash equivalents that would be required to settle the obligation currently. c) Realisable (settlement) value. Assets are carried at the amount of cash or cash equivalents that could currently be obtained by selling the asset in an orderly disposal. Assets are carried at the present discounted value of the future net cash inflows that the item is expected to generate in the normal course of business. Liabilities are carried at the present discounted value of the future net cash outflows that are expected to be required to settle the liabilities in the normal course of business.

Par. 101. The measurement basis most commonly adopted by entities in preparing their financial statements is historical cost. This is usually combined with other measurement bases. For example, inventories are usually carried at the lower of cost and net realisable value, marketable securities may be carried at market value and pension liabilities are carried at their present value. Furthermore, some entities use the current cost basis as a response to the inability of the historical cost accounting model to deal with the effects of changing prices of non-monetary assets. Concepts of capital and capital maintenance A major difference between US GAAP and IFRS is the fact that three fundamentally different concepts of capital and capital maintenance are authorized in IFRS while US GAAP only authorize two capital and capital maintenance concepts during low inflation and deflation: a) physical capital maintenance and b) financial capital maintenance in nominal monetary units (traditional Historical Cost Accounting) as stated in Par 45 to 48 in the FASB Conceptual Satement N 5. US GAAP does not recognize the third concept of capital and capital maintenance during low inflation and deflation, namely, financial capital maintenance in units of constant purchasing power as authorized in IFRS in the Framework, Par 104 (a) in 1989. Concepts of capital: Par. 102. A financial concept of capital is adopted by most entities in preparing their financial statements. Under a financial concept of capital, such as invested money or invested purchasing power, capital is synonymous with the net assets or equity of the entity. Under a physical concept of capital, such as operating capability, capital is regarded as the productive capacity of the entity based on, for example, units of output per day. Par. 103. The selection of the appropriate concept of capital by an entity should be based on the needs of the users of its financial statements. Thus, a financial concept of capital should be adopted if the users of financial statements are primarily concerned with the maintenance of nominal invested capital or the purchasing power of invested capital. If, however, the main concern of users is with the operating capability of the entity, a physical concept of capital should be used. The concept chosen indicates the goal to be attained in determining profit, even though there may be some measurement difficulties in making the concept operational. Concepts of capital maintenance and the determination of profit Par. 104. The concepts of capital in paragraph 102 give rise to the following two concepts of capital maintenance: a) Financial capital maintenance. Under this concept a profit is earned only if the financial (or money) amount of the net assets at the end of the period exceeds the financial (or money) amount of net assets at the beginning of the period, after excluding any distributions to, and contributions from, owners during the period. Financial capital maintenance can be measured in either nominal monetary units or units of constant purchasing power.

b) Physical capital maintenance. Under this concept a profit is earned only if the physical productive capacity (or operating capability) of the entity (or the resources or funds needed to achieve that capacity) at the end of the period exceeds the physical productive capacity at the beginning of the period, after excluding any distributions to, and contributions from, owners during the period. The concepts of capital in paragraph 102 give rise to the following three concepts of capital during low inflation and deflation: a) Physical capital. See paragraph 102&103 b) Nominal financial capital. See paragraph 104. c) Constant purchasing power financial capital. See paragraph 104. The concepts of capital in paragraph 102 give rise to the following three concepts of capital maintenance during low inflation and deflation: 1. Physical capital maintenance: optional during low inflation and deflation. Current Cost Accounting model prescribed by IFRS. See Par 106. 2. Financial capital maintenance in nominal monetary units (Historical cost accounting): authorized by IFRS but not prescribedoptional during low inflation and deflation. See Par 104 (a) Historical cost accounting. Financial capital maintenance in nominal monetary units per se during inflation and deflation is a fallacy: it is impossible to maintain the real value of financial capital constant with measurement in nominal monetary units per se during inflation and deflation. 3. Financial capital maintenance in units of constant purchasing power (Constant Item Purchasing Power Accounting): authorized by IFRS but not prescribedoptional during low inflation and deflation. See Par 104(a). IAS 29 is prescribed during hyperinflation: i.e. the restatement of Historical Cost or Current Cost period-end financial statements in terms of the period-end monthly published Consumer Price Index. Only financial capital maintenance in units of constant purchasing power (CIPPA) per se can automatically maintain the real value of financial capital constant at all levels of inflation and deflation in all entities that at least break even in real valueceteris paribusfor an indefinite period of time. This would happen whether these entities own revaluable fixed assets or not and without the requirement of more capital or additional retained profits to simply maintain the existing constant real value of existing shareholders equity constant. Financial capital maintenance in units of constant purchasing power requires the calculation and accounting of net monetary losses and gains from holding monetary items during low inflation and deflation. The calculation and accounting of net monetary losses and gains during low inflation and deflation have thus been authorized in IFRS since 1989. Par. 105. The concept of capital maintenance is concerned with how an entity defines the capital that it seeks to maintain. It provides the linkage between the concepts of capital and the concepts of profit because it provides the point of reference by which profit is measured; it is a prerequisite for distinguishing between an entity's return on capital and its return of capital; only inflows of assets in excess of amounts needed to maintain capital may be regarded as profit and therefore as a return on capital. Hence, profit is the residual

amount that remains after expenses (including capital maintenance adjustments, where appropriate) have been deducted from income. If expenses exceed income the residual amount is a loss. Par. 106. The physical capital maintenance concept requires the adoption of the current cost basis of measurement. The financial capital maintenance concept, however, does not require the use of a particular basis of measurement. Selection of the basis under this concept is dependent on the type of financial capital that the entity is seeking to maintain. Par. 107. The principal difference between the two concepts of capital maintenance is the treatment of the effects of changes in the prices of assets and liabilities of the entity. In general terms, an entity has maintained its capital if it has as much capital at the end of the period as it had at the beginning of the period. Any amount over and above that required to maintain the capital at the beginning of the period is profit. Par. 108. Under the concept of financial capital maintenance where capital is defined in terms of nominal monetary units, profit represents the increase in nominal money capital over the period. Thus, increases in the prices of assets held over the period, conventionally referred to as holding gains, are, conceptually, profits. They may not be recognised as such, however, until the assets are disposed of in an exchange transaction. When the concept of financial capital maintenance is defined in terms of constant purchasing power units, profit represents the increase in invested purchasing power over the period. Thus, only that part of the increase in the prices of assets that exceeds the increase in the general level of prices is regarded as profit. The rest of the increase is treated as a capital maintenance adjustment and, hence, as part of equity. Par. 109. Under the concept of physical capital maintenance when capital is defined in terms of the physical productive capacity, profit represents the increase in that capital over the period. All price changes affecting the assets and liabilities of the entity are viewed as changes in the measurement of the physical productive capacity of the entity; hence, they are treated as capital maintenance adjustments that are part of equity and not as profit. Par. 110. The selection of the measurement bases and concept of capital maintenance will determine the accounting model used in the preparation of the financial statements. Different accounting models exhibit different degrees of relevance and reliability and, as in other areas, management must seek a balance between relevance and reliability. This Framework is applicable to a range of accounting models and provides guidance on preparing and presenting the financial statements constructed under the chosen model. At the present time, it is not the intention of the Board of IASC to prescribe a particular model other than in exceptional circumstances, such as for those entities reporting in the currency of a hyperinflationary economy. This intention will, however, be reviewed in the light of world developments.

Accounting Terms: Reconciliation is the adjusting of the difference between two items (e.g., balances, amounts, statements, or accounts) so that the figures are in agreement. Often the reasons for the differences must be explained. One example would be reconciling a checking account (bringing the checking ledger and bank balance statement into agreement). Reasons for Reconciliation: Cheques deposited into bank but not recorded in the bank book. Cheques issued but not presented in bank. Bank charges directly debited from bank account not mentioned in bank book. ECS, not mentioned in bank book. Interested credited into bank account not mentioned in bank book. Cheques deposited not cleared.

Difference between A/P and A/R: Accounts Payable: This current liability account will show the amount a company owes for items or services purchased on credit and for which there was not a promissory note. Accounts Receivable: A current asset resulting from selling goods or services on credit (on account) What is corporate restructuring? Corporate restructuring is necessary when a company needs to improve its efficiency and profitability and it requires expert corporate management. A corporate restructuring strategy involves the dismantling and rebuilding of areas within an organization that need special attention from the management and CEO. The process of corporate restructuring often occurs after buy-outs, corporate acquisitions, takeovers or bankruptcy. It can involve a significant movement of an organizations liabilities or assets. Stock split: A stock split or stock divide increases or decreases the number of shares in a public company. The price is adjusted such that the before and after market capitalization of the company remains the same and dilution does not occur. Options and warrants are included. On a stock exchange, a reverse stock split or reverse split is the opposite of a stock split, i.e. a stock merge - a reduction in the number of shares and an accompanying increase in the share price.[1] The ratio is also reversed: 1-for-2, 1-for-3 and so on.

Spin-Offs: A spin-off is a new organization or entity formed by a split from a larger one, such as a television series based on a pre-existing one, or a new company formed from a university research group or business incubator. In literature, especially in milieu-based popular fictional book series like mysteries, westerns, fantasy or science fiction, the term subseries is generally used instead of spin-off, but with essentially the same meaning. Spin-offs as a descriptive term can also include a dissenting faction of a membership organization, a sect of a cult, or a denomination of a church. In business, a spin-off is essentially the opposite of a merger. In computing, a spin-off from a software project is often called a fork. A spin-off product is a product deriving elements of design, branding or function from an existing product, but which is itself a new distinct product. Corporate spin-off: The common definition of spin out is a division of a company or organization that becomes an independent business. Government spin-off: Civilian goods which are the result of military or governmental research are also known as spinoffs. Media spin-off: Media spin-off is the process of deriving new radio, video game, film series, book series or television programs from existing ones. Research spin-off: A research spin-off is a new company based on the findings of a member or by members of a research group at a university. Net Asset Value (NAV) is the per share price of a mutual fund. For a no-load fund, NAV is the price received by both buyers and sellers. For front loaded mutual funds, NAV is equivalent of the bid price (what shareholders can get for selling a share), while the offering price is the price buyers must pay per share (and includes front load). The NAV is usually calculated at the end of each trading day by taking the closing prices of all securities owned plus cash and equivalents and subtracting all liabilities then dividing by the number of shares outstanding, which for open-end funds, fluctuates depending on daily number of redemptions and purchases. Many new funds are issued at a NAV of $10. After a distribution, the NAV falls by the amount equal to the distribution. What It Is: Most commonly used in reference to mutual or closed-end funds, net asset value (NAV) measures the value of a fund's assets, minus its liabilities. NAV is typically calculated on a per-share basis. How It Works/Example: A fund's NAV fluctuates along with the value of its underlying investments. The formula for NAV is: NAV = (Market Value of All Securities Held by Fund + Cash and Equivalent Holdings - Fund Liabilities) / Total Fund Shares Outstanding

Let's assume at the close of trading yesterday that a particular mutual fund held $10,500,000 worth of securities, $2,000,000 of cash, and $500,000 of liabilities. If the fund had 1,000,000 shares outstanding, then yesterday's NAV would be: NAV = ($10,500,000 + $2,000,000 - $500,000) / 1,000,000 = $12.00 A fund's NAV will change daily as the value of a fund's securities, cash held, liabilities, and the number of shares outstanding fluctuate. Q. What is the difference between stocks and shares? Ans: Stock is a general term used to describe the shares of any company and "shares" refers to a specific stock of a particular company. So, if investors say they own stocks, they are generally referring to their overall ownership in one or more companies. If investors say they own shares - the question then becomes - shares in what company? Stocks : A type of security that signifies ownership in a corporation and represents a claim on part of the corporation's assets and earnings. Shares : A unit of ownership interest in a corporation or financial asset. While owning shares in a business does not mean that the shareholder has direct control over the business's day-to-day operations, being a shareholder does entitle the possessor to an equal distribution in any profits, if any are declared in the form of dividends. The two main types of shares are common shares and preferred shares. Capital Markets : The capital market (securities markets) is the market for securities, where companies and the government can raise long-term funds. The capital market includes the stock market and the bond market. It is a place where investors come together to buy and sell shares. Primary Markets: The primary market is that part of the capital markets that deals with the issuance of new securities. Companies, governments or public sector institutions can obtain funding through the sale of a new stock or bond issue. This is typically done through a syndicate of securities dealers. The process of selling new issues to investors is called underwriting. In the case of a new stock issue, this sale is called an initial public offering (IPO). Dealers earn a commission that is built into the price of the security offering, though it can be found in the prospectus. Secondary Market: The secondary market is the financial market for trading of securities that have already been issued in an initial private or public offering. Dividend: The periodic, usually quarterly, payment made by a corporation to its shareholders, generally expressed as dividend per share. Dividends represent earnings that are not reinvested by the corporation. Some stocks pay no dividends and others, such as utility companies pay substantial ones that represent a large portion of the total return a shareholder will get from his investment. Dividends are a type of distribution and are usually taxable in year received.

Equity is, normally, ownership or percentage of ownership in a company. Equity Share is a) a share or class of shares whether or not the share carries voting rights, b) any warrants, options or rights entitling their holders to purchase or acquire the shares referred to under (a), or c. other prescribed securities. What Does Reverse Stock Split Mean? A reduction in the number of a corporation's shares outstanding that increases the par value of its stock or its earnings per share. The market value of the total number of shares (market capitalization) remains the same. Preference Shares usually, non-voting capital stock that pays dividends at a specified rate and has preference over common stock in the payment of dividends and the liquidation of assets. Debenture A bond issued by a corporation which is secured by the general credit or promise to pay of the issuer. It is not backed by collateral such as tangible assets. Example: A certificate or voucher acknowledging a debt. An unsecured bond issued by a civil or governmental corporation or agency and backed only by the credit standing of the issuer. Derivatives: Financial instruments, such as futures and options, which derive their value from underlying securities including bonds, bills, currencies, and equities. Equity derivatives are financial derivative products whose value is dependent on the value of an underlying share or group of shares. Underlying Security: The security that must be delivered when another security is exercised. For example, if a call option is exercised, then the underlying stock is delivered to the call owner. Warrants, rights, options, and convertible securities all have underlying securities. For futures options, futures are the underlying security. Futures: Investment contracts which specify the quantity and price of a commodity to be purchased or sold at a later date. On contract date, the buyer must take physical possession or make delivery of the commodity, which can only be avoided by closing out the contract(s) before that date. Futures can be used for speculation or hedging. Option: A contract that gives the owner the right, if exercised, to buy or sell a security or basket of securities (index) at a specific price within a specific time limit. Usually, they are traded as securities themselves, with buyers and sellers trying to profit from price changes. They are generally available for 1 to 9 months, with some longer term options (called LEAPS) also

available for selected securities. Stock option contracts are generally for the right to buy or sell 100 shares of the underlying stock (100 is the multiplier). Trading in options should only be undertaken by sophisticated investors. Call Option: A call option gives the owner the right, but not the obligation, to buy the underlying stock at a given price (the strike price) by a given time (the expiration date). The owner of the call is speculating that the underlying stock will go up in value, hence, increasing the value of the option. The purpose can be to speculate with the option (hope it goes up and sell for a profit), to invest in the underlying stock at a locked in price if the stock price goes high enough, or to generate income. Each option contract equals 100 shares of stock. For example, an AAA MAR 65 call, would give the owner the right to buy 100 shares of AAA at $65 (strike price) per share between now and the third Friday in March (expiration date). Put Option: A put option gives the owner the right, but not the obligation, to sell the underlying stock at a given price (the strike price ) by a given time (the expiration date). The owner is speculating that the option will go up in value and the underlying stock will go down in value. The purpose can be to either speculate with the option (hope it goes up and sell for a profit) or trade the underlying stock at a locked in price if the stock price goes down enough. For example, an AAA MAR 65 put would give the owner the right to sell 100 shares of AAA at $65 (strike price) per share between now and the third Friday in March (expiration date). Hedging: An investment strategy of lowering risk by buying securities that have offsetting risk characteristics. A perfect hedge eliminates risk entirely. Hedging strategies lower return since there is a cost involved in hedging. For example, a portfolio manager could short a futures contract which will perfectly offset any decrease in the value of the portfolio. Options and short selling stock can also be used for hedging. Hedge funds are investment pools that are free to use any hedging techniques they desire and they often make large bets in a relatively small number of different holdings. Intraday Trading: Intraday share trading refers to the buying and selling (or vise versa) of the same script in the same trading session ( on the same day). Portfolio Management: is where assets are combined into a portfolio that fits the investor's preferences (eg, level of risk) and needs (eg, regular dividends). The aim of Portfolio Management is to achieve the maximum return from a portfolio which has been delegated to be managed by an individual manager or financial institution. The manager has to balance the parameters which define a good investment ie security, liquidity and return. The goal is to obtain the highest return for the client of the managed portfolio.

Blue Chip Companies: A blue chip stock is the stock of a well-established company having stable earnings and no extensive liabilities. Most blue chip stocks pay regular dividends, even when business is faring worse than usual. They are valued by investors seeking relative safety and stability, though prices per share are usually high. Bond A long-term debt instrument on which the issuer pays interest periodically, known as Coupon. Bonds are secured by COLLATERAL in the form of immovable property. While generally, bonds have a definite MATURITY, Perpetual Bonds are securities without any maturity. In the U.S., the term DEBENTURES refers to long-term debt instruments which are not secured by specific collateral, so as to distinguish them from bonds. NASDAQ: An acronym for National Association of Security Dealers Automated Quotations System, which is a nationwide network of computers and other electronic equipment that connects dealers in the over-the-counter market across the U.S. The system provides the latest BID and ASKING PRICES quoted for any security by different dealers. This enables an investor to have his or her transaction done at the best price. Due to NASDAQ, the overthe-counter market in the U.S. is like a vast but convenient trading floor on which several thousand stocks are traded.

National Stock Exchange (NSE) It is a nationwide screen-based trading network using computers, satellite link and electronic media that facilitate transactions in securities by investors across India. The idea of this model exchange (traced to the Pherwani Committee recommendations) was an answer to the deficiencies of the older stock exchanges as reflected in settlement delays, price rigging and a lack of transparency. Volatility is the measure of the tendency of prices to fluctuate widely. Prices of small companies tend to be more volatile than those of large corporations. Beta is a measure of volatility. Liquidity is the ability to turn an asset into cash. A highly liquid asset is easy to sell because an active market exists that sets prices which are continuously adjusted for supply and demand. An example is a listed stock or mutual fund. A less liquid asset is real estate or a collectible. Lot is a group of identical UNITS (for securities) or nearly identical units (for collectibles) of an investment that are traded at the same time and price. Open lots are the contents of open investments and can be long (buys) or short (short sell). Closed lots are the contents of closed investments and can be long (sell) or short (buy to cover). Depository A system of computerized book-entry of securities. This arrangement enables a transfer of shares through a mere book-entry rather than the physical movement of certificates. This is because the scrips are dematerialized or alternatively, immobilized under the system.

Bear: A person who expects share prices in general to decline and who is likely to indulge in SHORT SALES. Bear Market: A long period of declining security prices. Widespread expectations of a fall in corporate profits or a slowdown in general economic activity can bring about a bear market. Bull: A person who expects share prices in general to move up and who is likely to take a long position in the stock market. Transfer agent: The person or firm that cancels the shares in the name of the seller and The complete lifecycle of a U.S equity trade: Order Capture, its execution in the market, affirmation/confirmation, foreign exchange, clearing, settlement, and reporting. Mutual Fund: Fund operated by an investment company that raises money from shareholders and invests it in stocks, bonds, options, commodities or money market securities. The sum of the collected amount is called Corpus. Retained Earnings are net profits kept to accumulate in a business after dividends are paid. Custodian: A financial institution that has the legal responsibility for a customer's securities. This implies management as well as safekeeping. Bonus Shares The issue of shares to the shareholders of a company, by capitalizing a part of the companys reserves. The decision to issue bonus shares, or stock DIVIDEND as in the U.S., may be in response to the need to signal an affirmation to the expectations of shareholders that the prospects of the company are bright; or it may be with the motive of bringing down the share price in absolute terms, in order to ensure continuing investor interest. Following a bonus issue, though the number of total shares increases, the proportional ownership of shareholders does not change. The magnitude of a bonus issue is determined by taking into account certain rules, laid down for the purpose. For example, the issue can be made out of free reserves created by genuine profits or by share PREMIUM collected in cash only. Also, the residual reserves, after the proposed capitalization, must be at least 40 percent of the increased PAID-UP CAPITAL. These and other guidelines must be satisfied by a company that is considering a bonus issue. )See also MARKET CAPITALIZATION.) Subprime The term used for lending to borrowers at a higher rate than the prime rate as they have a higher risk of default. Subprime borrowers typically have low credit scores due to prior bankruptcy, missed loan payments, home repossession etc. Settlement The process whereby obligations arising under a derivative transaction are discharged through payment or delivery or both.

Difference between Journal & Ledger: Journal: The record of journal entries appearing in order by date. Some refer to the journal as the book of original entry, since the entries are first recorded in a journal. From the journal the entries will be posted to the designated accounts in the general ledger. With manual systems there are likely to be a sales journal, purchases journal, cash receipts journal, cash disbursements journal, and the general journal. Ledger: A "book" containing accounts. For example, there is the general ledger that contains the balance sheet and income statement accounts.

Balance Sheet: A listing of all assets and liabilities for an individual or a business. The surplus of assets over liabilities is the net worth, or what is owned free of debt. The Liabilities side of the balance sheets shows the sources of income into the business and the assests side shows how the income has been utilized. A Custodial account is a financial account set up for a minor, but administered by a responsible adult, known as a custodian, because the minor is under the legal age of majority. The custodian is often the minor's parent. A custodial account can be everything from a bank account to a trust fund. This type of account usually come with a Coverdell ESA Form a tax advantaged contract. It deals with successor rights and other contract conditions depending on who issues the form.

STOCK MARKET BASICS

What is a Stock Exchange? It is a common platform where the buyers and sellers come together to transact in stocks and shares. It may be a physical entity where brokers trade on a physical trading floor via an "open outcry" system or a virtual environment. What is electronic trading? Electronic trading eliminates the need for physical trading floors. Brokers can trade from their offices, using fully automated screen-based processes. Their workstations are connected to a Stock Exchange's central computer via satellite using Very Small Aperture Terminus (VSATs). The orders placed by brokers reach the Exchange's central computer and are matched electronically. How many Exchanges are there in India? The Stock Exchange, Mumbai (BSE) and the National Stock Exchange (NSE) are the country's two leading Exchanges. There are 20 other regional Exchanges, connected via the Inter-Connected Stock Exchange (ICSE). The BSE and NSE allow nationwide trading via their VSAT systems. What is an Index? An Index is a comprehensive measure of market trends, intended for investors who are concerned with general stock market price movements. An Index comprises stocks that have large liquidity and market capitalisation. Each stock is given a weightage in the Index equivalent to its market capitalisation. At the NSE, the capitalisation of NIFTY (fifty selected

stocks) is taken as a base capitalisation, with the value set at 1000. Similarly, BSE Sensitive Index or Sensex comprises 30 selected stocks. The Index value compares the day's market capitalisation vis-a-vis base capitalisation and indicates how prices in general have moved over a period of time. How does one execute an order? Select a broker of your choice and enter into a broker-client agreement and fill in the client registration form. Place your order with your broker preferably in writing. Get a trade confirmation slip on the day the trade is executed and ask for the contract note at the end of the trade date. Why does one need a broker? As per SEBI (Securities and Exchange Board of India.) regulations, only registered members can operate in the stock market. One can trade by executing a deal only through a registered broker of a recognised Stock Exchange or through a SEBI- registered sub-broker. What is a contract note? A contract note describes the rate, date, time at which the trade was transacted and the brokerage rate. A contract note issued in the prescribed format establishes a legally enforceable relationship between the client and the member in respect of trades stated in the contract note. These are made in duplicate and the member and the client both keep a copy each. A client should receive the contract note within 24 hours of the executed trade. What is a no-delivery period? Whenever a company announces a book closure or record date, the Exchange sets up a nodelivery (ND) period for that security. During this period only trading is permitted in the security. However, these trades are settled only after the no-delivery period is over. This is done to ensure that investor's entitlement for the corporate benefit is clearly determid. What is an ex-dividend date? The date on or after which a security begins trading without the dividend (cash or stock) included in the contract price. What is an ex-date? The first day of the no-delivery period is the ex-date. If there is any corporate benefits such as rights, bonus, dividend announced for which book closure/record date is fixed, the buyer of the shares on or after the ex-date will not be eligible for he benefits. What is a Bonus Issue? While investing in shares the motive is not only capital gains but also a proportionate share of surplus generated from the operations once all other stakeholders have been paid. But the distribution of this surplus to shareholders seldom happens. Instead, this is transferred to the reserves and surplus account. If the reserves and surplus amount becomes too large, the company may transfer some amount from the reserves account to the share capital account by a mere book entry. This is done by increasing the number of shares outstanding and every shareholder is given bonus shares in a ratio called the bonus ratio and such an issue is called bonus issue. If the bonus ratio is 1:2, it means that for every two shares

held, the shareholder is entitled to one extra share. So if a shareholder holds two shares, post bonus he will hold three. What is a Buy Back? As the name suggests, it is a process by which a company can buy back its shares from shareholders. A company may buy back its shares in various ways: from existing shareholders on a proportionate basis; through a tender offer from open market; through a book-building process; from the Stock Exchange; or from odd lot holders. What are the various kinds of financial ratios? There are many financial ratios. Some of the better known include:Liquidity Ratios: Liquidity ratio measures the ability of a firm to meet its current obligations. Liquidity ratios by establishing a relationship between cash and other current assets to current obligations give measure of liquidity. Current ratio [CR] = Current Assets/Current liabilities. A high CR ratio (>2.5) indicates that a company can meets its short term liabilities.Leverage Ratios: Leverage ratio indicates the proportion of debt and equity in financing the firm's assets. They indicate the funds provided by owners and lenders. Debt-equity ratio (D-E ratio) total long term debt/net worth.

A high D-E ratio indicates that the company's credit profile is bad. Activity Ratios: Activity ratios are employed to evaluate the efficiency with which firms manage and run their assets. They are also called turnover ratios. Sales Turnover ratio = sales/total assets.

A Sales Turnover ratio indicates how much business a company generates for every additional rupee invested. Profitability Ratios:

These ratios indicate the level of profitability of the business with relation to the inputs or capital employed. Some better-known profit ratios include operating profit margin (OPM). Operating profit margin is a measure of the company's efficiency, either in isolation or in comparison to its peers. What are EPS, P/E, BV and MV/BV? Earnings Per Share (EPS) represents the portion of a company's profit allocated to each outstanding share of common stock. Net income (reported or estimated) for a period of time is divided by the total number of shares outstanding during that period. It is one of the measures of the profitability of common shareholder's

investments. It is given by profit after tax (PAT) divided by number of common shares outstanding. Price Earning Multiple (P/E): Price earning multiple is ratio between market value per share and earnings per share. Book Value (BV): (of a common share) The Companys Net worth (which is paid-up capital + reserves & surplus) divided by number of shares outstanding. Market value to book value ratio (MV/BV ratio): It is the ratio between the market price of a Security and Book Value of the security. IPOs: What is an IPO? An IPO is an abbreviation for Initial Public Offer. When a company goes public for the first time or issues a fresh stock of shares, it offers it to the public directly. This happens in the primary market. The primary market is where a company makes its first contact with the public at large. What is Book Building? Book Building is a process used for marketing a public offer of equity shares of a company and is a common practice in most developed countries. Book Building is so- called because the collection of bids from investors are entered in a "book". These bids are based on an indicative price range. The issue price is fixed after the bid closing date. How is the book built? A company that is planning an initial public offer (IPO) appoints a category-I Merchant Banker as a bookrunner. Initially, the company issues a draft prospectus which does not mention the price, but gives other details about the company with regards to issue size, past history and future plans among other mandatory disclosures. After the draft prospectus is filed with the SEBI, a particular period isfixed as the bid period and the details of the issue are advertised.The book runnerbuilds an order book, that is, collates the bids from various investors, which shows the demand for the shares of the company at various prices. For instance, a bidder may quote that he wants 50,000 shares at Rs.500 while another may bid for 25,000 shares at Rs.600. Prospective investors can revise their bids at anytime during the bid period, that is, the quantity of shares or the bid price or any of the bid options. Usually, the bid must be for a minimum of 500 equity shares and in multiples of 100 equity shares thereafter. The book runner appoints a syndicate member, a registered intermediary who garners subscription and underwrites the issue. On what basis is the final price decided? On closure of the book, the quantum of shares ordered and the respective prices offered are known. The price discovery is a function of demand at various prices, and involves

negotiations between those involved in the issue. The book runner and the company conclude the pricing and decide the allocation to each syndicate member. When is the payment for the shares made? The bidder has to pay the maximum bid price at the time of bidding based on the highest bidding option of the bidder. The bidder has the option to make different bids like quoting a lower price for higher number of shares or a higher price for lower number of shares. The syndicate member may waive the payment of bid price at the time of bidding. In such cases, the issue price may be paid later to the syndicate member within four days of confirmation of allocation. Where a bidder has been allocated lesser number of shares than he or she had bid for, the excess amount paid on bidding, if any will be refunded to such bidder. Is the process followed in India different from abroad? Unlike international markets, India has a large number of retail investors who actively participate in IPOs. Internationally, the most active investors are the Mutual Funds and Other Institutional Investors. So the entire issue is book built. But in India, 25 per cent of the issue has to be offered to the general public. Here there are two options to the company. According to the first option, 25 per cent of the issue has to be sold at a fixed price and 75 per cent is through Book Building. The other option is to split the 25 per cent on offer to the public (small investors) into a fixed price portion of 10 per cent and a reservation in the book built portion amounting to 15 per cent of the issue size. The rest of the book built portion is open to any investor. What is the advantage of the Book Building process versus the normal IPO marketing process? The Book Building process allows for price and demand discovery. Also, the costs of the public issue is reduced and so is the the time taken to complete the entire process. How is Book building different from the normal IPO marketing process as practiced in India? Unlike in Book Building, IPOs are usually marketed at a fixed price. Here the demand cannot be anticipated by the merchant banker and only after the issue is over the response is known. In book building, the demand for the share is known before the issue closes.The issue may be deferred if the demand is less

COST SHEET FORMAT: Particulars Opening Stock of Raw Material Add: Purchase of Raw materials Add: Purchase Expenses Less: Closing stock of Raw Materials Raw Materials Consumed Direct Wages (Labour) Direct Charges Prime cost (1) Add :- Factory Over Heads: Factory Rent Factory Power Indirect Material Indirect Wages Supervisor Salary Drawing Office Salary Factory Insurance Factory Asset Depreciation Works cost Incurred Add: Opening Stock of WIP Less: Closing Stock of WIP Works cost (2) Add:- Administration Over Heads:Office Rent Asset Depreciation *** *** *** *** *** *** *** *** *** *** *** *** *** *** Amount *** *** *** *** *** *** *** *** Amount

General Charges Audit Fees Bank Charges Counting house Salary Other Office Expenses Cost of Production (3) Add: Opening stock of Finished Goods Less: Closing stock of Finished Goods Cost of Goods Sold Add:- Selling and Distribution OH:Sales man Commission Sales man salary Traveling Expenses Advertisement Delivery man expenses Sales Tax Bad Debts Cost of Sales (5) Profit (balancing figure) Sales

*** *** *** *** *** *** *** *** ***

*** *** *** *** *** *** *** *** *** ***

Notes: Factory Over Heads are recovered as a percentage of direct wages Administration Over Heads, Selling and Distribution Overheads are recovered as a percentage of works cost.

Cash and fund flow statement: Rules for preparing schedule of changes in working capital :Increase in a current asset, results in increase in working capital so Add Decrease in current asset, results in decrease in working capital so Decrease Increase in current liability, results in decrease in working capital so Decrease Decrease in current liability results in increase in working capital so Add Funds from operations Format Particulars Net profit Add : Depreciation Goodwill written off Preliminary Exp. Written off Discount on share written off Transfer to General Reserve Provision for Taxation Provision for Dividend Loss on sale of asset Loss on revaluation of asset Rs. Rs. ** *

** * ** * ** * ** * ** * ** * ** * ** * ** *

** *

** * Less : Profit on sale of asset Profit on Revaluation of asset Fund flow statement ** * ** * ** * ** *

Fund flow statement: Particulars Sources of funds : Issue of shares Issue of Debentures Long term borrowings Sale of fixed assets Operating profit Rs. ** * ** * ** * ** * ** * ** * ** * ** * ** * ** * ** * ** * ** * ** * ** * ** *

Total Sources Application of funds : Redumption of Redeemable preference shares Redumption of Debentures Payment of other long term loans Purchase of Fixed assets Operating Loss Payment of dividends, tax etc

Total Uses Net Increase / Decrease in working capital (Total sources Total uses)

Cash flow statement: Cash From Operation : = Net profit + Decrease in Current Asset + Increase in Current Liability - Increase in Current Asset - Decrease in Current Liability Cash flow statement Sources Opening cash and bank balance Issue of shares Raising of long term loans Sales of fixed assets Short term Borrowings Cash Inflow Closing Bank O/D Rs . ** ** ** ** ** ** ** Application Opening Bank O/D Redumption of Preference Shares Redumption of Long term loans Purchase of fixed assets Decrease in Deferred payment Liability Cash Outflow Tax paid Dividend paid Decrease in Unsecured loans, Deposits Closing cash and bank balance Rs . ** ** ** ** ** ** ** ** ** ** **

**

Ratio Analysis: A) Cash Position Ratio : Absolute Cash Ratio = Cash Reservoir Current Liabilities Cash Position to Total asset Ratio = Cash Reservoir * 100 (Measure liquid layer of assets) Total Assets

Interval measure = Cash Reservoir (ability of cash reservoir to meet cash expenses) Average daily cash expenses ( Answer in days) Notes : Cash Reservoir = Cash in hand + Bank + Marketable Non trade investment at market value. Current liabilities = Creditors + Bills Payable + Outstanding Expenses + Provision for tax (Net of advance tax) + Proposed dividend + Other provisions. Total assets = Total in asset side Miscellaneous expenses Preliminary expenses + Any increase in value of marketable non trading Investments. Average cash expenses =Total expenses in debit side of P & L a/c Non cash item such as depreciation, goodwill, preliminary expenses written off, loss on sale of

investments, fixed assets written off + advance tax (Ignore provision for tax) . The net amount is divided by 365 to arrive average expenses. Remarks : - In Comparison When absolute cash ratio is lower then current liability is higher When cash position to Total Asset ratio is lower then the total asset is relatively higher. When cash interval is lower the company maintain low cash position. It is not good to maintain too low cash position or too high cash position. B) Liquidity Ratio : 1) Current ratio = Current asset Current Liability 2) Quick ratio or Acid Test ratio = Quick Asset Quick liability Notes : Quick Asset = Current Asset Stock Quick Liability = Current liability Cash credit, Bank borrowings, OD and other Short term Borrowings. Secured loan is a current liability and also come under cash credit Sundry debtors considered doubtful should not be taken as quick asset. Creditors for capital WIP is to be excluded from current liability. Current asset can include only marketable securities. Loans to employees in asset side are long term in nature and are not part of current assets. Provision for gratuity is not a current liability. Gratuity fund investment is not a part of marketable securities. Trade investments are not part of marketable securities.

Remarks : Higher the current ratios better the liquidity position.

C) Capital structure ratios : 1) Debt equity ratio (or)Leverage ratio = Debt = External Equity Equity Internal Equity = Long term debt = Share holders fund Long term fund Long term fund

2) Proprietary ratio = Proprietary fund Total Assets 3) Total Liability to Net worth ratio = Total Liabilities Net worth

4) Capital gearing ratio = Preference share capital + Debt Equity Preference share capital Notes : Share holders fund (or) Equity (or) Proprietary fund (or) Owners fund (or) Net worth = Equity share + Preference share + Reserves and surplus P & L a/c Preliminary Expenses. Debt (or) Long term liability (or) Long term loan fund = Secured loan (excluding cash credit) + unsecured loan + Debentures. Total asset = Total assets as per Balance sheet Preliminary expenses. Total liability = Long term liability + Current liability (or) short term liability Long term fund = Total asset Current liability = Share holders fund + long term loan fund.

Remarks : In debt equity ratio higher the debt fund used in capital structure, greater is the risk. In debt equity ratio, operates favorable when if rate of interest is lower than the return on capital employed. In total liability to Net worth Ratio = Lower the ratio, better is solvency position of business, Higher the ratio lower is its solvency position. If debt equity ratio is comparatively higher then the financial strength is better.

D) Profitability Ratio : -

1) Gross Profit Ratio = Gross Profit * 100 Sales 2) Net Profit Ratio = Net Profit * 100 Sales 3) Operating Profit ratio = Operating profit * 100 Sales 4) Return to shareholders = Net profit after interest and tax Share holders fund 5) Return on Net Worth = Return on Net worth * 100 Net worth 6) Return on capital employed (or) Return on investment = Return (EBIT) Capital Employed

7) Expenses Ratios :a) Direct expenses Ratios : i) Raw material consumed * 100 Sales ii) Wages Sales * 100

iii) Production Expenses Sales

100

c) Indirect expenses Ratios : i) Administrative Expenses Sales ii) Selling Expenses Sales * 100 * 100

iii) Distribution Expenses Sales iv) Finance Charge Sales

100

* 100

Notes : In the above the term term is used for business engaged in sale of goods, for other enterprises the word revenue can be used. Gross profit = Sales Cost of goods sold Operating profit = Sales Cost of sales = Profit after operating expenses but before Interest and tax. Operating Expenses = Administration Expenses + Selling and distribution expenses, Interest on short term loans etc. Return = Earning before Interest and Tax = Operating profit = Net profit + Non operating expenses Non operating Income Capital employed = Share holders fund + Long term borrowings = Fixed assets + Working capital If opening and closing balance is given then average capital employed can be substituted in case of capital employed which is Opening capital employed + Closing capital employed 2

E) Debt service coverage ratios = Profit available for debt servicing Loan Installments + Interest Notes : Profit available for debt servicing = Net profit after tax provision + Depreciation + Other non cash charges + Interest on debt. Remarks : Higher the debt servicing ratio is an indicator of better credit rating of the company. It is an indicator of the ability of a business enterprise to pay off current installments and interest out of profits. F) Turnover Ratios: i) Assets turnover = Sales___ Total assets Sales Fixed assets [Number of times fixed assets has turned into sales]

2) Fixed assets turnover =

3) Working capital turnover =

Sales_____ Working capital

4) Inventory turnover = Cost of goods sold (for finished goods) Average inventory 5) Debtors turnover (or) Average collection period = ___Credit sales_________ (in ratio) Average accounts receivable (or) = Average accounts receivable Credit sales * 365 (in days)

6) Creditors turnover (or) Average payment period _Credit purchases_____ (in ratio) Average accounts payable (or) = Average accounts Payable Credit Purchases * 365 (in days)

7) Inventory Turnover (for WIP) = Cost of production Average Inventory (for WIP) 8) Inventory Turnover (for Raw material) = Raw material consumed Average inventory (for raw material) 10) Inventory Holding Period = 365 . Inventory turnover ratio

11) Capital Turnover ratio = Cost of sales Capital employed Note : Working capital = Current asset Current liability = 0.25 * Proprietary ratio Accounts Receivable = Debtors + Bills receivable Accounts payable = Creditors + Bills Payable Remarks : If assets turnover ratio is more than 1, then profitability based on capital employed is profitability based on sales. Higher inventory turnover is an indicator of efficient inventory movement. It is an indicator of inventory management policies. Low inventory holding period lower working capital locking, but too low is not safe. Higher the debtors turnover, lower the credit period offered to customers. It is an indicator of credit management policies. Higher the creditors turnover, lower the credit period offered by suppliers.

G) Other Ratios: 1) Operating profit ratio = Net profit ratio + Non operating loss / Sales ratio 2) Gross profit ratio = Operating profit ratio + Indirect expenses ratio 3) Cost of goods sold / Sales ratio = 100% - Gross profit ratio 4) Earnings per share = Net profit after interest and tax Number of equity shares

5) Price per Earning ratio = Market price per equity share Earnings per share 6) Payout ratio = Dividend per equity share Earning per equity shares 7) Dividend yield ratio = Dividend per share Market price per share * 100

100

8) Fixed charges coverage ratio = Net profit before interest and taxes Interest charges 9) Interest coverage ratio = Earnings before interest and tax Interest charges

10) Fixed dividend coverage ratio =

Net profit________ Annual Preference dividend

11) Overall profitability ratio = Operating profit * 100 Capital employed 12) Productivity of assets employed = Net profit . Total tangible asset * 100

13) Retained earnings ratio = Retained earnings Total earnings H) General Remarks:

Fall in quick ratio when compared with last year or other company is due to huge stock piling up. If current ratio and liquidity ratio increases then the liquidity position of the company has been increased. If debt equity ratio increases over a period of time or is greater when comparing two ratios, then the dependence of the company in borrowed funds has increased. Direct expenses ratio increases in comparison then the profitability decreases. If there is wages / Sales ratio increases, then this is to verified a) Wage rate b) Output / Labour rate Increment in wage rate may be due to increased rate or fall in labour efficiency. Again there are many reasons for fall in labour productivity namely abnormal idle time due to machine failure, power cut etc. Reduction in Raw material consumed / sales ratio may be due to reduction in wastage or fall in material price. Increase in production expenses ratio may also be due to price raise. Stock turnover ratio denotes how many days we are holding stock. In stock turnover ratio greater the number of days, the movement of goods will be on the lower side. Financial ratios are Current ratio, Quick ratio, Debt equity ratio, Proprietary ratio, Fixed asset ratio. Short term solvency ratios are current ratio, Liquidity ratio Long term solvency or testing solvency of the company ratios are Debt equity ratio, fixed asset ratio, fixed charges coverage ratio (or) Interest coverage ratio. To compute financial position of the business ratios to be calculated are current ratio, Debt equity ratio, Proprietary ratio, fixed asset ratio. Fictitious asset are Preliminary expenses, Discount on issue of shares and debentures, Profit and loss account debit balance.