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TWO MARKS QUESTIONS AND ANSWERS

UNIT – 1

1. What is managerial economics?

Study of Managerial Economics helps in enhancement of analytical skills, assists in
rational configuration as well as solution of problems. While microeconomics is the study
of decisions made regarding the allocation of resources and prices of goods and services,
macroeconomics is the field of economics that studies the behavior of the economy as a
whole (i.e. entire industries and economies). Managerial Economics applies micro-
economic tools to make business decisions. It deals with a firm.

2. Explain any two uses of managerial economics.

The use of Managerial Economics is not limited to profit-making firms and
organizations. But it can also be used to help in decision-making process of non-profit
organizations (hospitals, educational institutions, etc).
It enables optimum utilization of scarce resources in such organizations as well as
helps in achieving the goals in most efficient manner.
Managerial Economics is of great help in price analysis, production analysis, capital
budgeting, risk analysis and determination of demand.

3. Define managerial economics

Managerial economics may be defined as the study of economic theories, logic and
methodology which are generally applied to seek solution to the practical problems of
business.
“Managerial economics is concerned with application of economic concept and
economic analysis to the problems of formulating rational managerial decision”. –
Mansfield.
Managerial Economics can be defined as amalgamation of economic theory with
business practices so as to ease decision-making and future planning by management.
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4. What are the Basic economic concepts in Managerial Economics?

• Incremental reasoning concept
• Marginal analysis
• Discounting principle
• Opportunity cost
• Time perspective – Short run and long run
• Scarcity
• Uncertainty and risk

5. Compare Managerial economics with traditional economics

Managerial economics is link between the traditional economics and decision making
sciences for business decision making because the manager can use the tradition and new
ideas with the help of decision science and take the decision for the organisation.

6. Differentiate Micro economics Vs Business environment

Environmental issues pertain to the general business environment in which a business
operates. They are related to the overall economic, social and political atmosphere of the
country. The factors which constitute economic environment of a country include the
following factor;
• The type of economic system of the country
• General trend in production, employment, income, prices, saving and investment
• Structure of and trends in the working of financial institutions
• Magnitude of and trends in foreign trade

7. What is Business decision?

Business decision making is essentially a process of selecting the best out of
alternative opportunity open to the firm. The process of decision making comprises four
main points;
1. Determining and defining the objective
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2. Collection of information regarding economic, social, political and technological

environment and forecasting the necessary and occasion decision
3. Inventing, developing and analyzing possible course of action
4. Selecting a particular course of action, from the available alternatives

8. Explain the features of managerial economics

1. Managerial Economics is concerned with decision-making of economic nature.
2. Managerial Economics is goal-oriented and prescriptive.
3. Managerial Economics. is pragmatic (realistic).
4. Managerial Economics is both conceptual and metrical.

9. Explain the Responsibility on Managerial Economics

Micro economist has a vital role to play in running of any business. Micro economists
are concern with all the operational problems, which arise with in the business
organization and fall within the preview and control of the management. Some basic
internal issues with which micro-economist are concerns:
• Choice of business and nature of product i.e. what to produce
• Choice of size of the firm i.e. how much to produce
• Choice of technology i.e. choosing the factor-combination
• Choose of price i.e. how to price the commodity

10. Bring out any three Scope of Managerial Economics

• Objectives of a business firm
• Demand Analysis and Demand Forecasting
• Risk Analysis

11. What are the Applications of managerial economics?

Some examples of managerial decisions have been provided above. The application of
managerial economics is, by no means, limited to these examples. Tools of managerial
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economics can be used to achieve virtually all the goals of a business organization in an
efficient manner.
Typical managerial decision making may involve one of the following issues:
1. Deciding the price of a product and the quantity of the commodity to be produced
2. Deciding whether to manufacture a product or to buy from another manufacturer
3. Choosing the production technique to be employed in the production of a given
product

12. What is Firm?

Any business, such as a sole proprietorship, partnership or corporation. A
microeconomic concept founded in neoclassical economics that states that firms
(corporations) exist and make decisions in order to maximize profits. Businesses interact
with the market to determine pricing and demand and then allocate resources according to
models that look to maximize net profits.
A business (also known as enterprise or firm) is an organization designed to provide
goods, services, or both to consumers. Businesses are predominant in capitalist economies,
in which most of them are privately owned and formed to earn profit to increase the
wealth of their owners. Businesses may also be not-for-profit or state-owned. A business
owned by multiple individuals may be referred to as a company, although that term also
has a more precise meaning.

13. Write any four Basic objectives of a firm?

Conventional theory of firm assumes profit maximization is the sole objective of
business firms. But recent researches on this issue reveal that the objectives the firms
pursue are more than one. Some important objectives, other than profit maximization are:
(a) Maximization of the sales revenue
(b) Maximization of firm’s growth rate
(c) Maximization of Managers utility function
(d) Making satisfactory rate of Profit

14. What is Managerial decision?

Managerial decisions both in the short run and in the long run are partly shaped by the
market structure relevant to the firm. While the preceding discussion of market structures
does not cover the full range of managerial decisions, it nevertheless suggests that
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managerial decisions are necessarily constrained by the market structure under which a
firm operates.

15. Explain Decision analysis

Decision Analysis (DA) is the discipline comprising the philosophy, theory,
methodology, and professional practice necessary to address important decisions in a
formal manner. Decision analysis includes many procedures, methods, and tools for
identifying, clearly representing, and formally assessing important aspects of a decision,
for prescribing a recommended course of action by applying the maximum expected utility
action axiom to a well-formed representation of the decision, and for translating the formal
representation of a decision and its corresponding recommendation into insight for the
decision maker and other stakeholders.
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AA.6 Engineering Economics and Financial Accounting

UNIT – II

1. What is demand?
Demand is, in fact, the basis of all productive activities. Like necessity is the mother of
invention, demand is the mother of production. It is therefore, essential for the business
managers to have a clear understanding of the following aspects of the demand for their
products.

2. What is mean by demand?

In economics, demand is the desire to own anything, the ability to pay for it, and the
willingness to pay. The term demand signifies the ability or the willingness to buy a
particular commodity at a given point of time.

3. Explain the law of demand

The law of demand is one of the fundamental laws of economics. The law of demand
states that the demand for a commodity increases when its price decreases and it falls
when its price rises, other things remain constant. This is an empirical law, i.e, this law is
based on observed facts and can be verified with new empirical data. As the law reveals,
there is an inverse relationship between the price and quantity demanded. The law holds
under the condition that “other things remain constant”.

4. Define Law of Demand.

• The quantity of a well-defined good or service that:

• People are willing and able to buy.

• During a particular period of time.

• Decreases/increases as the price of that good or service rises/falls

• All other factors remain constant.

Demand is a relationship between two variables, price and quantity demanded, with all
other factors that could affect demand being held constant.- Melvin and Boyes
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5. Write any two Factors affecting demand

Innumerable factors and circumstances could affect a buyer's willingness or ability to
buy a good. Some of the more common factors are:
a) Good's own price
b) Price of related goods

6. What are the different Types of demand?

• Individual and market demand
• Demand for firm’s product and industry’s products
• Autonomous and derived demand
• Demand for durable and non durable goods
• Short term and long term demand

7. Differentiate Short term and long term demand

Short term demand refers to the demand for goods that are demanded over a short
period. In this category fall mostly the fashion consumer goods, goods of seasonal use,
inferior substitutes during the scarcity period of superior goods, etc.
The long term demand, on the other hand, refers to the demand which exists over a
long period. The change in long term demand in perceptible only after a long period. Most
generic goods have long term demand.

8. What are the Determinants of demand

1) Disposable income
2) Credit availability
3) Stock of liquid assets in the hands of consumers
4) Stock of durable goods in the hands of consumers
5) Keeping up with the Joneses
6) Consumer expectations
7) Price of the Commodity
8) Price of related goods.
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9. Explain Demand function

Demand function -- a behavioral relationship between quantity consumed and a
person's maximum willingness to pay for incremental increases in quantity. It is usually an
inverse relationship where at higher (lower) prices, less (more) quantity is consumed.
Other factors which influence willingness-to-pay are income, tastes and preferences, and
price of substitutes.

10. Explain Marshallian demand function

In microeconomics, a consumer's Marshallian demand function (named after Alfred
Marshall) specifies what the consumer would buy in each price and wealth situation,
assuming it perfectly solves the utility maximization problem. Marshallian demand is
sometimes called Walrasian demand (named after Léon Walras) or uncompensated
demand function instead, because the original Marshallian analysis ignored wealth effects.

11. Define of demand function

According to the utility maximization problem, there are L commodities with prices p.
The consumer has wealth w, and hence a set of affordable packages.
Where is the inner product of the prices and quantity of goods. The consumer has a
utility function

12. What is Supply?

Just as goods are demanded by consumers, they are supplied by manufacturers or
sellers. At any point of time quantity supplied by them is a function of the market price.
Several such prices can be related to the relevant quantities supplied: this would give the
supply schedule.

13. What is Supply Function?

Supply is a direct function of the price and it rises or falls with the price. This is
because the law of supply is based on the behavior of the cost of production. Assuming
that manufacturers begin at the point where cost of production is minimal any further
production and supply of goods can be possible only at an increasing additional or
marginal cost per unit. Hence they can afford to supply more only at a rising price.
Further, logically any seller would be willing to sell more goods if the price were to rise.
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The quantity supplied at the given range of prices as above can be presented in the form of
an algebraic function:
qs = 2P
With the help of the function we can find the quantity supplied at any randomly chosen
prices. For instance, when P = 3, qs = 6 or when P = 2, qs = 4 etc.

14. What is Law of Supply?

The law of supply can be stated as follows:
"Ceteris paribus, the quantity of a good supplied will rise (expand) with every rise in
its price and the quantity of a good supplied will fall (contract) with every fall in its price."
In a functional form this can be stated as :
qs = f (P) [T, R, P] const.
The quantity of a commodity supplied is thus a function of its own price. There exists
a direct relationship between the quantity supplied and the price of a commodity. It is
subject to the condition that other things should remain constant.

15. What is Elasticity of Demand?

Elasticity of demand can be classified into two major divisions: one the highly elastic,
unitary elastic and the highly inelastic type and two, the extreme cases of the perfectly
elastic and the perfectly inelastic type.

16. What is Perfectly Price Elastic?

At this extreme, for any small decrease in price, the increase in the quantity demanded
is infinitely large. In such a case, demanders demand all the can. Here the demand is said
to be perfectly price elastic (e = that is infinity). This is represented graphically as a
horizontal demand curve (D1 in the figure above).

17. Explain Perfectly Price Inelastic

At this extreme, for any change in price there is no change in the quantity demanded.
Therefore the demand is completely unresponsive to any change in price. In this case the
demand is said to be perfectly price inelastic (e = 0). This is represented graphically by a
vertical demand curve (D2 in the figure above).
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18. What is Elasticity of Supply?

Like demand, elasticity of supply can also be classified into two major divisions: one
the highly elastic, unitary elastic and highly inelastic type and two, the extreme cases of
the perfectly elastic and the perfectly inelastic type.

19. What is Cross Elasticity?

The price elasticity of demand that we have studied so far is also called the "own
elasticity." This is because we have determined the elasticity for good A with the change
in the price of the same good. However, various goods A, B, C etc. hold a mutual
relationship. As such if we attempt to find the elasticity of demand for good B whenever
the price of good A changes, then it is called a cross elasticity ratio. However, the goods A
and B may hold either of the following relationships:

20. What is Demand equation?

The demand equation is the mathematical expression of the relationship between the
quantity of a good demanded and those factors that affect the willingness and ability of a
consumer to buy the good.

21. What is Price elasticity of demand? (PED)

PED is a measure of the sensitivity of the quantity variable, Q, to changes in the price
variable, P. Elasticity answers the question of the percent by which the quantity demanded
will change relative to (divided by) a given percentage change in the price. For
infinitessimal changes the formula for calculating PED is the absolute value of
(∂Q/∂P)×(P/Q).

22. Explain Demand forecasting.

Demand forecasting is the activity of estimating the quantity of a product or service
that consumers will purchase. Demand forecasting involves techniques including both
informal methods, such as educated guesses, and quantitative methods, such as the use of
historical sales data or current data from test markets. Demand forecasting may be used in
making pricing decisions, in assessing future capacity requirements, or in making
decisions on whether to enter a new market.
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23. What are the Determinants of supply?

1) Technology Changes
2) Resource Supplies
3) Tax/ Subsidy
4) Price Of Other Goods Produced

24. Explain Supply elasticity

In economics, price elasticity of supply (PES) is an elasticity defined as a numerical
measure of the responsiveness of the supply of a given good to a change in the price of
that good.
Price elasticity of supply is a measure of the sensitivity of the quantity of a good
supplied in a market to changes in the market price for that good, ceteris paribus.
Per the law of supply, it is posited that at a given price and corresponding quantity
supplied in a market, a price increase will also increase the quantity supplied.PES is a
numerical measure (coefficient) of by how much that supply is affected. Mathematically:
In other words, PES is the percentage change in quantity supplied that one would
expect to occur after a 1% change in price For example, if, in response to a 10% rise in the
price of a good, the quantity supplied increases by 20%, the price elasticity of supply
would be 20%/10% = 2
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AA.12 Engineering Economics and Financial Accounting

UNIT – III

1. Explain the Meaning of Production

The concept of production can be represented in the following manner.
The term “Production” means transformation of physical “Inputs” into physical
“Outputs”.
The term “Inputs” refers to all those things or items which are required by the firm to
produce a particular product. Four factors of production are land, labor, capital and
organization. In addition to four factors of production, inputs also include other items like
raw materials of all kinds, power, fuel, water, technology, time and services like transport
and communications, warehousing, marketing, banking, shipping and Insurance etc. It also
includes the ability, talents, capacities, inputs.

2. What is Production function?

The entire theory of production centre round the concept of production function. “A
production Function” expresses the technological or engineering relationship between
physical quantity of inputs employed and physical quantity of outputs obtained by a firm.
It specifies a flow of output resulting from a flow of inputs during a specified period of
time.
A production function can be represented in the form of a mathematical model or
equation as Q = f (L, N, K….etc) where Q stands for quantity of output per unit of time
and L N K etc are the various factor inputs like land, capital labor etc which are used in
the production of output. The rate of output Q is thus, a function of the factor inputs L N K
etc, employed by the firm per unit of time.

3. What is Returns to Scale?

Commonly used General Production Function: X = f (L, K, v, u ) Law of Diminishing
Marginal Returns Marshall stated this law as follows: “An increase in capital and labour
applied in the cultivation of land causes in general a less than proportionate increase in the
amount of produce raised, unless it happens to coincide with an improvement in the arts of
agriculture.” In the initial stages of cultivation of a given piece of land, perhaps due to
under-cultivation of land, when additional units of capital and labour are invested,
additional output may be more than proportionate. But after a certain extent when the land
is cultivated with some more investment, the additional output will be less than
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proportionate under all normal circumstances, unless some improvements take place in the
methods of techniques of cultivation. The law is applicable to all fields of production such
as industry, mining, house construction, besides agriculture.

4. Explain laws of returns.

The relationship between the inputs and the output in the process of production is
clearly explained by the Laws of Returns or the Law of Variable Proportions.This law
examines the production function with only one factor variable, keeping the quantities of
other factors constant. The laws of returns comprise of three phases:
a) The Law of Increasing Returns.
b) The Law of Constant Returns.
c) The Law of Diminishing Returns.

5. Write any three benefite of Production optimization

1. An accurate forecast of future cash flows and associated risks
2. Cost savings by avoiding unnecessary attention to areas that are non-critical, and
improved focus on areas of higher value
3. Discovery of enhancement opportunities during the conceptual and design phase,
rather than later in the project’s life-cycle, when the cost of change is considerably
higher

6. What is Isoquant?
In economics, an isoquant (derived from quantity and the Greek word iso, meaning
equal) is a contour line drawn through the set of points at which the same quantity of
output is produced while changing the quantities of two or more inputs. While an
indifference curve mapping helps to solve the utility-maximizing problem of consumers,
the isoquant mapping deals with the cost-minimization problem of producers.

7. What is iso costs?

The prime concern of a firm is to workout the cheapest factor combinations to produce a
given quantity of output. There are a large number of alternative combinations of factor
inputs which can produce a given quantity of output for a given amount of investment.
Hence, a producer has to select the most economical combination out of them. Isoproduct
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curve is a technique developed in recent years to show the equilibrium of a producer with
two variable factor inputs. It is a parallel concept to the indifference curve in the theory of
consumption.

8. Definition of iso quant.

The term “Iso –Quant” has been derived from ‘Iso’ meaning equal and ‘Quant’
meaning quantity. Hence, Iso – Quant is also called as Equal Product Curve or Product
Indifference Curve or Constant Product Curve. An Iso – product curve represents all the
possible combinations of two factor inputs which are capable of producing the same level
of output. It may be defined as – “ a curve which shows the different combinations of the
two inputs producing the same level of output .”
Each Iso – Quant curve represents only one particular level of output. If there are
different Iso–Quant curves, they represent different levels of output. Any point on an Iso–
Quant curve represents same level of output. Since each point indicates equal level of
output, the producer becomes indifferent with respect to any one of the combinations.

9. What are Isoquants?

ISO – means equal, QUANT – means quantity.
• Isoquant literally means Equal Quantity.
• Isoquant curve can also be called Isoproduct curve.
This curve represents equal quantity of output produced using various combinations of
inputs. An Isoquant is the locus of all the combinations of two factors of production that
yield the same level of output.

10. What do you Mean by cost concept?

Cost is analyzed from the producer’s point of view. Cost estimates are made in terms
of money.
Cost calculations are indispensable for management decisions.
In the production process, a producer employs different factor inputs. These factor
inputs are to be compensated by the producer for the services in the production of a
commodity. The compensation is the cost. The value of inputs required in the production
of a commodity determines its cost of output.
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Cost of production refers to the total money expenses (Both explicit and implicit)
incurred by the producer in the process of transforming inputs into outputs.
In short, it refers total money expenses incurred to produce a particular quantity of
output by the producer. The knowledge of various concepts of costs, cost output
relationship etc. occupies a prominent place in cost analysis.

11. What are Determinants of Costs?

Cost behavior is the result of many factors and forces. But it is very difficult to
determine in general the factors influencing the cost as they widely differ from firm to
firm and even industry to industry. However, economists have given some factors
considering them as general determinants of costs. They have enough importance in
modern business set up and decision making process.

12. Explain Marginal Cost (MC)

Marginal cost may be defined as the net addition to the total cost as one more unit of
output is produced. In other words, it implies additional cost incurred to produce an
additional unit.
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AA.16 Engineering Economics and Financial Accounting

UNIT – IV

1. What is Pricing?
Pricing is the process of determining what a company will receive in exchange for its
products. Pricing factors are manufacturing cost, market place, competition, market
condition, and quality of product. Pricing is also a key variable in microeconomic price
allocation theory.
Pricing is a fundamental aspect of financial modeling and is one of the four Ps of the
marketing mix. The other three aspects are product, promotion, and place. Price is the only
revenue generating element amongst the four Ps, the rest being cost centers.

2. What are pricing methods?

The use of a specific type of information on prices to represent the evolution of price
in price index compilation. The specific type of information specifies the method.
As this sounds quite abstract an example is informative: the unit value method is the
use of income divided by quantities sold as price information in price index calculation.
The ideal pricing method is transaction pricing, which is the use of actually paid
prices of individual transactions that are repeated in every survey period. Price index
theory is built on the assumption that this ideal pricing method is used or sufficiently
approximated. However pricing methods in practice, and especially in that of SPPI, stray
from this ideal. The closer a pricing method is to transaction pricing the better. Therefore,
a pricing method can be rated according to how it compares to transaction pricing.

3. What is Line Pricing?

Line Pricing is the use of a limited number of prices for all product offerings of a
vendor. This is a tradition started in the old five and dime stores in which everything cost
either 5 or 10 cents. Its underlying rationale is that these amounts are seen as suitable price
points for a whole range of products by prospective customers. It has the advantage of
ease of administering, but the disadvantage of inflexibility, particularly in times of
inflation or unstable prices.
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4. Explain Promotional pricing

Promotional pricing refers to an instance where pricing is the key element of the
marketing mix.

5. What is Premium pricing?

Premium pricing (also called prestige pricing) is the strategy of consistently pricing at,
or near, the high end of the possible price range to help attract status-conscious consumers.
The high pricing of premium product is used to enhance and reinforce a product's luxury
image.

6. Explain Skimming
"Skim the cream” pricing involves selling at a high price to those who are willing to
pay before aiming at more price-sensitive consumers.
This expression comes from the farming practice of milking cows - the cream rises to
the top and you skim it off.
The advantage of using a Skimming price policy is that you can theoretically get the
maximum profit from each level of customer.

7. Explain Skimming Pricing

"A Skimming policy is more attractive if demand is inelastic" says the Shapiro text

• remember inelastic means there are no close substitutes

• products that people will pay a high price for because there is nothing else they can
buy the is close to the item

8. What is Penetration Pricing?

• to make it too intimidating for competition to follow,

• or to make sure you enter the market in a competitive environment

• or as part of a brand building strategy

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9. Perfect competition
It is a theoretical market structure that features unlimited contestability (or no barriers
to entry), an unlimited number of producers and consumers, and a perfectly elastic demand
curve.
The imperfectly competitive structure is quite identical to the realistic market
conditions where some monopolistic competitors, monopolists, oligopolists, and
duopolists exist and dominate the market conditions. The elements of Market Structure
include the number and size distribution of firms, entry conditions, and the extent of
differentiation.
In other words, competition can align the seller’s interests with the buyer’s interests
and can cause the seller to reveal his true costs and other private information. In the
absence of perfect competition, three basic approaches can be adopted to deal with
problems related to the control of market power and an asymmetry between the
government and the operator with respect to objectives and information:
a) subjecting the operator to competitive pressures,
b) gathering information on the operator and the market, and
c) applying incentive regulation.

10. What is Price discrimination?

This practice is often highly controversial in terms of its impact on both consumers
and rivals. This chapter aims to explain some of the main economic motives for price
discrimination, and to outline when this practice will have an adverse or beneficial effect
on consumers, rivals and on total welfare.
Price discrimination or price differentiation exists when sales of identical goods or
services are transacted at different prices from the same provider.
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Two Mark Question and Answers AA.19

UNIT – V

1. What is Mean by accounting?

Accounting is the recording, classifying and summarizing of business transaction in
terms of cash, the preparation of financial report, the analysis and interpretation of these
reports for the information and guidance of management.

2. Explain the purpose of accounting.

The main purpose of accounting is to determine profit or loss during a specified time,
to show financial condition of the business on a particular date and to have control over
the firm’s property. Such accounting records are necessary to be maintained to calculate
the income of the business and communicate the information so that it may be used by
managers, owners and other parties.

3. Define accounting.
The American Institute of Certified Public Accounts has defined the financial
accounting as,” the art of recording, classifying and summarizing in a significant manner
in terms of cash transactions and events”.
American Accounting Association defines accounting as,” the process of identifying,
measuring, and communicating economic information to permit informed judgements and
decisions by users of the information”.
In simple term financial accounting refers to, “Art of recording business transaction”.

4. Write any two objectives of Accounting

1) To ascertain whether the business operations have been profitable or not.
Accounting helps us to know whether a business has secured profit or loss during
the accounting period. It will give us an idea of efficiency of the business. The
following steps are to be used to determine the position of the business.
o Trading Account
o Profit and loss Accounts
o Income statement
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o Balance sheet
2) To determine the financial position of the business. The financial position of the
business is indicated by its assets on a given period and its liabilities on the period.
Excess assets over liabilities represent the capital and is indicative of the financial
soundness of the business.

5. Explain any four functions of financial accounting

• Book keeping function
• Classification of information
• Preparation of financial accounting
• Segregating financial transactions

6. What is Balance sheet?

In simple term Balance sheet is a statement, which shows the assets and liabilities of
the firm. Balance sheet presents the financial position of a firm as revealed by the
accounting records. IT explains the assets owned by concern and the sources of funds used
in the acquisition of those assets.
• Balance sheet shows the financial position
• Balance sheet is easily readable
• Possible view of the detailed information and understood
• Prepared during the current period of accounting year.
Balance sheet may be called a ‘statement of equality’ in which equality is established
by representing values of assets on one side and value of liabilities and owners’ funds on
the other side.

7. Definition of accounting.
According to cooper,” Balance sheet is a classified summary of the ledger balances
remaining after closing all revenue items into the profit and loss account”.
Francis defines,” Balance sheet is a screen picture of the financial position of a going
business concern at a certain moment”.
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8. Write any four Accounting Concept.

Accounting concepts are used to recording accounts transaction. The following is a
generally accepted list of accounting concept.
i) Business entity concept
ii) Going concern concept
iii) Money measurement concept
iv) Accounting period concept

9. What is Accounting convention.

The word convention refers to traditions or customs. The accounting convention is
describes the customs or tradition as a guide to the preparation of accounting statements.
Modern business world has accepted the utility of these accounting conventions in
preparing financial statements more realistic, reliable, and useful to all concerned parties.
Below the popular method of accounting conventions;
i) Convention of consistency
ii) Convention of Full disclosure
iii) Convention of materiality
iv) Convention of conservatism

10. What is Profit and loss account?

Profit and loss account is prepared to ascertain the net profit or net loss of the business
concern for an accounting period.
Definition: According to prof. Carter,” Profit and loss account is an account into which
all profit and losses are collected in order to determine the excess of income over the
losses or vice versa.”.

11. What is Ratio analysis?

In simple term ratio is numerical relationship between two numbers. It is expressed
when one number is divided by another.
e.g. If 400 are divided by 1000, the ratio can be expressed as 0.4 or 2:5 or 40%.
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AA.22 Engineering Economics and Financial Accounting

12. Write any four Merits of Ratio Analysis.

• Useful in financial position analysis
• Useful in simplifying accounting figures
• Useful in assessing the operational efficiency
• Useful in forecasting purposes

13. What are the Classification of ratios?

• By statements
• By users
• Classification by relative importance
• Classification of ratios by purpose

14. What is Profitability Ratio?

Profit making is the main objective of business. The objective of every business
concern is to earn more profit in the absolute terms. Profitability refers to ability to make
more profit from optimum utilization of resources by a business concern. Profitability
involves study of sales, cost of goods sold, analysis of gross margin on sales, analysis of
operating expenses, operating profit and analysis of profit in relation to capital employed.
Profits are the goals the of every business firm. They indicate a firm’s progress. They are
the criterion to judge the effectiveness of management.

15. What are Turnover ratio?

i) Inventory turnover or Stock turnover ratio
ii) Debtors’ turnover ratio
iii) Creditors’ turnover ratio
iv) Working capital
v) Working capital turnover ratio
vi) Fixed assets turnover ratio
vii) Capital turnover ratio
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Two Mark Question and Answers AA.23

16. What is Solvency ratio?

Solvency ratios express the financial position of business. Financial ratios are
calculated on the basis of items of the balance sheet. Therefore, solvency ratios are also
called balance sheet ratios.

17. What is Cash flow analysis?

‘Cash flow’ includes cash inflows and out flows- cash receipts and cash payments-
during a period. Movements of cash are of vital importance to the management. The short
term liquidity and short term- solvency positions of a firm are dependent on its cash
flows.
The term ‘cash’ in the context of cash flow analysis includes the ‘cash balance’ and the
‘bank balance’ of business unit. Cash flow analysis can reveal the causes for even highly
profitable firm experiencing acute cash shortages.

18. Definitions of cash flow statement

• Cash flows are inflows and outflows of cash and cash equivalents.
• Cash equivalents are short term, high liquid investments that are readily
convertible into known amounts of cash and which are subject an insignificant risk
of changes in value.
• Cash compromise cash on hand and demand deposits with bank.
• Investing activities are the acquisition and disposal of long term assets and other
investment not including in cash equivalent.

19. List out any five Benefits of cash flow statements

• Historical analysis as guide to forecasting
• Effective cash management
• Formulation of financial policies
• Preparation of cash budgets
• Short term financial decision

20. What are Sources of cash?

• Cash from operations
• External sources
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AA.24 Engineering Economics and Financial Accounting

21. What is Cash from operation?

Cash from operations refers to a business generates cash inflow through its normal
business operations which is usually the most important and routine source of cash. It is
the internal source for cash.

22. What is Mean by funds flow statement?

The term funds refer to money or cash. International accounting standards no. 7
explains “Statement of changes in financial position “also recognizes the absence of
single, generally accepted, definition of the term. According to the standard, the word fund
refers to cash, to cash and cash equivalents, or to working capital. Of those, the last
definition of the term is by far the most common definition of funds.
In the broader sense it includes all resources used in the business whether in the form
of men, material, money, machinery, methods etc.

23. Define Funds flow statement

The word funds flow statement is a financial statement which reveals the methods by
which the business has been financed and how it has used its funds between the opening
and closing balance sheet dates.
According to Anthony, “The funds flow statement describes the sources from which
additional funds were derived and the uses to which these funds were put”.
The funds flow statement is denoted by various titles, such as, statement of source and
application of funds, statement of changes in working capital, got and gone statement, and
statement of resource provided and applied.

24. What are the objectives of funds flow statement?

• To help to understand the changes in assets and assets sources which are not
readily evidence in the income statement or the financial position statement.
• To inform as to how the loans to the business have been used
• To point out the financial strengths and weaknesses of the business
• Indication of financial results
• Emphasis on significant changes
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Two Mark Question and Answers AA.25

25. Explain Funds from operation

A fund from operation is the only internal source of funds. All the ‘non funds items’ or
non operating expenses, non operating incomes should be adjusted in the net profit to
ascertain funds from operations. This can be done by preparing an adjusted profit and loss
account or by preparing a statement of funds from operations.
• Non trading incomes
• Non trading gains

26. Define financial statement?

According to Hampton J.J.” the statement disclosing status of investment is known as
balance sheet and the statement showing the result is called as profit and loss account”.
Thus the word financial statements have been widely used to represent two statement
prepared by accountants at the specific time period. They are;
• Profit and loss account or income statement
• Balance sheet or statement of financial position
• A surplus statement or retained earnings statement

27. What art the key Functions of financial statements?

I) FOR MANAGEMENT: Now a day’s financial statements are used to management for
decision making. Reliable information and effectiveness are extracted by management
from financial statements.
Merits
• Effective utilization of capital employed
• Efficient use of assets
II) FOR FINANCIERS: Financial statements are having vital role for the financiers and
lenders. Financial statements help the bankers and lenders to decide whether to extend
loans to the customers.
Merits
• Financial position
• Solvency
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AA.26 Engineering Economics and Financial Accounting

III) FOR CREDITORS: Trade creditor is another class for whom financial statements are
important. Trade credit implies extending facilities of deferred payments for credit
purchase by seller or buyer.
Merits
• Solvency ratio
IV) FOR INVESTORS: Financial statements guide the present and prospective investors.
It helps to assess the earning capacity, growth potential and efficiency of management.
Merits
• Long –term solvency
• Interest coverage

28. Explain the Meaning of capital budgeting

Capital budgeting is the process of making investment decision in capital expenditure.
A capital expenditure may be defined as an expenditure the benefit of which are expected
to be received over a period of time exceeding one year.
In simple words, capital expenditure (budgeting) incurred for acquiring or improving
the fixed assets, the benefits of which are expected to be received over a number of years
in future.

29. Define capital budgeting

” Capital budgeting is long term planning for making and financing proposed outlays”-
Charles T. Homgreen.
“Capital budgeting as acquiring inputs with long – run return”.- Richard and
Greenlaw,
According to Lynch, “capital budgeting consists in planning development of
available capital for the purpose of maximizing the long – term profitability of the
concern”.

30. Why capital budgeting needed.

• Analyse the proposal for expansion or creating additional capacities
• To decide the replacement of permanent assets such as building and equipments
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Two Mark Question and Answers AA.27

• To make financial analysis of various proposals regarding capital investments so as

to choose the best out of many alternative proposals
• Whether or not funds should be invested in long – term projects such as setting of
industry, purchase of plant and machinery, etc.

31. What is Pay – back period method?

Pay – back period is also called ‘pay- out’ or ‘pay – off period’. Pay – back period is
the time required in which a project ‘pays for itself’ through surplus cash flows. It is the
period within which investment in fixed assets or projects can be recovered.
In simple word, pay – back period is the period of time for the cost of projects to be
recovered from the additional cash flows of the project itself.

32. Explain Accounting rate of return (ARR)

Accounting rate of return takes into account the total earnings expected from an
investment proposals over its full life time. The method is called Accounting rate of return
or Average rate of return method because the concept based on profit.
Steps in ARR method
• ARR is determined separately for each of the projects
• Different projects are ranked in order of rate of earnings
• If there is no cut off rate
• Project with higher ARR is acceptable
• The cut off rate normally based on cost of capital of the firm
• Project with higher rate of return than the cut off rate are acceptable projects.

33. What is Net present value?

This generally considered to be the best method for evaluating the capital investment
proposals. It recognizes the time value of money and that cash floes arising at different
period of time differ in value and are not comparable unless their equivalent present
values are found. The present value of these cash inflows and outflows are then calculated
at the rate of return acceptable to the management.
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AA.28 Engineering Economics and Financial Accounting

34. What is Profitability index?

The profitability index is also known as Benefit cost Ratio (B / C). It shows the
relationship between P.V. of cash inflows and P.V. of cash outflows.
PI = Present value of future cash inflows / present value of future cash outflows
Accept criterion = P.I. > 1
Reject criterion = P.I. <1

35. What is Internal Rate of Return?

The second discounted cash flow or time adjusted method for appearing capital
investment decisions is the IRR method. IRR is that rate of return at which the present
value of cash inflows and cash outflows are equal.
Thus, at IRR the total of discounted cash inflows equal the total of discounted cash out
flows. IRR discounted the total cash flows to the level of zero.
IRR = Cash inflows / Cash out flows

36. Explain Capital Rationing

Capital rationing refers to a situation where a firm is not in a position to invest in all
profitable protects which are feasible due to the constraints on availability of funds.
According to I.M.pandy, “in capital rationing, the management has not simply to
determine the profitable investment opportunities, but it has to decide to obtain that
combination of the profitable projects which yields highest NPV within the available
funds