Accounting For Managerial Decision

ACCOUNTING
FOR
MANAGERIAL DECISION
PRESENTED BY
VISHAL MEHTA
SYBMS
28
STATEMENT OF
RATIOS
BALANCE SHEET RATIO REVENUE STATEMENT RATIO COMPOSITE RATIO

1. CURRENT RATIO 1. GROSS PROFIT RATIO 1. RETURN ON CAPITAL
2. LIQUID RATIO 2. OPERATING RATIO EMPLOYED
2. RETURN ON PROPRIETORS’
3. PROPRIETARY RATIO 3. EXPENSES RATIO FUNDS RATIO
4. STOCK-WORKING 4. NET PROFIT RATIO 3. RETURN ON EQUITY
CAPITAL 5. STOCK-TURNOVER CAPITAL RATIO
5. CAPITAL GEARING RATIO 4. EARNINGS PER SHARE
RATIO RATIO
5. DEBTORS’ TURNOVER
RATIO
.
FUNCTIONAL CLASSIFICATION OF
RATIOS
SOLVENCY RATIOS LEVERAGE RATIOS ACTIVITY RATIOS PROFITABILITY VALUATION
OR
CREDIT RATIOS RATIOS
1. STOCK-TURNOVER RATIO 1. EARNING PER

2. TURNOVER OF TOTAL
SHARE
1. PROPRIETARY ASSETS RATIO
3. STOCK – WORKING 2. EARNING YIELD
RATIO CAPITAL RATIO RATIO
2. CAPITAL GEARING 4. DEBTORS’ TURNOVER
RATIO 3. DIVIDEND YIELD
RATIO 5. WORKING CAPITAL
TURNOVER
6. FIXED ASSETS TURNOVER
LONG SHORT TERM PRODUCT INVESTMENT

TERM
1. PROPRIETARY LIQUIDIT
RATIO Y • GROSS PROFIT • RETURN ON CAPITAL
2. DEBT EQUITY EMPLOYED
3. CAPITAL GEARING • NET PROFIT
• RETURN ON
• OPERATING PROPRIETORS FUND
EXPENESES • RETURN ON EARNING
• EQUITY SHARE PER SHARE
CURRENT RATIO QUCK CAPITAL • RETURN ON DIVIDEND
RATIO PER SHARE
.
RATIOS
(IN THE VIEWPOINT OF
USERS)
SHAREHOLDERS LONG-YERM CREDITORS SHORT-TERM CREDITORS

1. EARNINGS PER SHARE 1. DEBT-EQUITY RATIO 1. LIQUIDITY RATIOS
RATIO ETC. 2. SHAREHOLDERS’ EQUITY a) CURRENT RATIO
TO TOTAL EQUITY RATIO b) QUCIK RATIO
3. LONG-TERM FUNDS TO 2. STOCK-TURNOVER
FIXED ASSETS RATIO RATIO
ETC. 3. DEBTORS’ TURNOVER
RATIO
.
ILLUSTRATION : 5
H LTD. HAS A PRESENT ANNUAL SALES LEVEL OF 10,000 UNITS AT ₹ 300 PER UNIT. THE VARIABLE COST IS ₹ 200 PER UNIT
AND THE FIXED COSTS AMOUNT TO ₹ 3,00,000 PER ANNUM. THE PRESENT CREDIT PERIOD ALLOWED BY THE COMPANY
IS 1 MONTH. THE COMPANY IS CONSIDERING A PROPOSAL TO INCREASE THE CREDIT PERIODS TO 2 MONTHS AND 3
MONTHS AND HAS MADE THE FOLLOWING ESTIMATES :
EXISTING PROPOSED
CREDIT POLICY 1 MONTH 2 MONTHS 3
MONTHS
INCREASE IN SALES 1% 15 % 30 %
% OF BAD DEBTS 3% 5%
THERE WILL BE INCREASE IN FIXED COST BY ₹ 50,000 ON AMOUNT OF INCREASE OF SALES BEYOND 25 % OF PRESENT
LEVEL. THE COMPANY PLANS ON A PRETAX RETURN OF 20 % ON INVESTMENT IN RECEIVABLES.
YOU ARE REQUIRED TO CALCULATE THE MOST PAYING CREDIT POLICY FOR THE COMPANY.
SOLUTIO
N
EVALUATION OF ALTERNATIVE CREDIT POLICY
PRESENT PROPOSED POLICY

SALES (UNITS) POLICY
1 MONTH 2 MONTHS 3 MONTHS
10,000 11, 500 13,000
SALES 30,00,000 34,50,000 39,00,000
LESS : VARIABLE COST (@ ₹200 PER UNIT) 20,00,000 23,00,000 26,00,000
CONTRIBUTION 10,00,000 11,50,000 13,00,000
LESS : FIXED COST 3,00,000 3,00,000 3,50,000
OPERATING PROFIT (A) 7,00,000 8,50,000 9,50,000
EXPECTED RETURN ON INVESTMENT IN RECEIVABLES @ 20 % 38,333 86,666 1,47,500
BAD DEBTS 30,000 1,03,500 1,95,000
COST OF INVESTMENT IN RECEIVABLES 68,333 1,90,166 3,42,500
(B) 6,31,667 6,59,834 6,07,500
NET PROFIT (A) - (B)
• CONLUSION :
WITH THE ADOPTION OF 2 MONTHS CREDIT POLICY THE COMPANY’S PROFIT WILL INCREASE BY
₹ 28,167. HENCE IT IS THE MOST PAYING CREDIT POLICY FOR THE COMPANY.
WORKING NOTE
CALCULATION OF EXPECTED RETURN ON INVESTMENT IN RECEIVABLES @ 20 % BY APPLYING THE FOLLOWING

FORMULA :
= INVESTMENT IN RECEIVABLES x NO. OF MONTHS x 20 %

INVESTMENT IN RECEIVABLES = VARIBLE COST + FIXED COST
1 MONTH = (20,00,000 + 3,00,000) x x = ₹ 38,333
2 MONTH = (23,00,000 + 3,00,000) x x = ₹ 86,666
3 MONTH = (26,00,000 + 3,50,000) x x = ₹ 1,47,500

Illustration 6
 ABC FIRM IS CONSIDERING TO MAKE RLAXATION IN ITS CREDIT POLICY. THE ABC MANAGEMENT HAS EVALUATED TWO NEW
POLICIES. FROM THE FOLLOWING DETAILS ADVISE THE ABC MANAGEMENT WHICH POLCY HAS TO BE ADOPTED :
A) ANNUAL CREDIT SALES AT PRESENT ₹ 87.5 LAKHS
B) PROPOSAL CREDIT SALES :
UNDER ALTERNATIVE - I UNDER ALTERNATIVE – II
₹ 105 LAKHS ₹ 118 LAKHS
C) ACCOUNTS RECEIVABLE TURNOVER RATIOP AND BAD DEBTS LOSSES :

EXISTING I II
7 TIMES 5.25 TIMES 4.2 TIMES
₹ 2.63 LAKHS ₹ 525 LAKHS ₹ 7.88 LAKHS
D) THE ABC IS REQUIRED TO GIVE A RETURN OVER 30 % ON THE INVESTMENT IN NEW ACCOUNTS RECEIVABLE.
E) ITS PV RATIO IS 30 %.
SOULTIO
N
PARTICULARS EVALUATION OF CREDIT POLICIES
EXISTING ALTERNATIVE I (₹) II
ALTERNATIVE
POLICY
A) CREDIT SALES 87,50,000 1,05,00,000 1,18,00,000
B) ACCOUNYTS RECEIVABLES TURNOVER RATIO 7 TIMES 5.25 TIMES 4.2 TIMES
C) AVERAGE COLLECTION PERIOD 1.71 MONTHS 2.29 MONTHS 2.89 MONTHS
D) AVERAGE INVESTMENT IN
ACCOUNTS RECEIVABLES (APPROX.) 12,50,000 20,00,000 28,09,523
E) INCREASE IN RECEIVABLES OVER EXISTING LEVEL - 7,50,000 15,59,523
F) INCREASE IN RECEIVABLES OVER EXISTING
LEVEL LESS PROFIT MARGIN 30 % [(E) x 70 %] - 5,25,000 10,91,667
G) INCREASE IN CREDIT SALES - 17,50,000 30,50,000
H) PROFT ON INCREASE IN CREDIT SALES - 5,25,000 9,15,000
I) INCREASE IN BAD DEBTS - 2,62,000 5,25,000
J) PROFIT ON INCREASED DEBTS
LESS INCREASE IN BAD DEBTS LOSSES [(H) - (I)] - 2,63,000 3,90,000
K) REQUIRED RETURN ON
INCREASED RECEIVABLES [(F) x 30 %] - 1,57,500 3,27,500
I) EXCESS OF RETURN OVER
DESIRED RATE OF RETURN [(J) - (K)] - 1,05,500 62,500
SINCE THE EXISTING RECEIVABLE TURNOVER RATIO IS NOT GIVEN IN THE PROBLEM, IT IS ASSMUED 7 TIMES.
CONCLUSION : FROMT THE ABOVE INCREMENTAL CALCULATIONS IT IS OBSERVED THAT THE COMPANY CAN MAXIMISE ITS RETURN UNDER ALTERNATIVE I
WHICH GIVES HIGHEST EXCESSS OF RETURNON INVESTEMENT IN AVERAGE BALANCES OF ACCOUNTS RECEIVABLES.
THAN
K YOU
.

Accounting For Managerial Decision

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Accounting For Managerial Decision

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ACCOUNTING

BALANCE SHEET RATIO REVENUE STATEMENT RATIO COMPOSITE RATIO

1. STOCK-TURNOVER RATIO 1. EARNING PER

LONG SHORT TERM PRODUCT INVESTMENT

SHAREHOLDERS LONG-YERM CREDITORS SHORT-TERM CREDITORS

EVALUATION OF ALTERNATIVE CREDIT POLICY

PRESENT PROPOSED POLICY

CALCULATION OF EXPECTED RETURN ON INVESTMENT IN RECEIVABLES @ 20 % BY APPLYING THE FOLLOWING

= INVESTMENT IN RECEIVABLES x NO. OF MONTHS x 20 %

2 MONTH = (23,00,000 + 3,00,000) x x = ₹ 86,666

3 MONTH = (26,00,000 + 3,50,000) x x = ₹ 1,47,500

C) ACCOUNTS RECEIVABLE TURNOVER RATIOP AND BAD DEBTS LOSSES :

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