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For example, when we buy fixed asset like factory machinery, this is merely an advance payment of which
we expect that this fixed asset is able to enhance or earn certain earnings for the business. Over a period
of time, the fixed asset we buy will become valueless or unable to generate the necessary earnings. To
reflect this continuing diminution in the value of the factory machinery, we need to apply depreciation
accounting.
business buys fixed assets, it expects the fixed assets over the
useful lives are able to generate the necessary revenues for its
business. Whilst revenues being earned and if there is no allocation
of depreciation cost to match these revenue, income will then be
overstated. Depreciation therefore follows very closely to the
matching concept;
5. . Give the difference between the Cash system and the Mercantile system.
6.
7. The cash flow statement reports the cash generated and used during the time interval
specified in its heading. The period of time that the statement covers is chosen by the
company. For example, the heading may state "For the Three Months Ended December 31,
2012" or "The Fiscal Year Ended September 30, 2012".
WHERE?
The purpose of the cash flow statement or statement of cash flows is to provide
information about a company's gross receipts and gross payments for a specified period of
time.
The gross receipts and gross payments will be reported in the cash flow statement according
to one of the following classifications: operating activities, investing activities, and financing
activities. The net change from these three classifications should equal the change in a
company's cash and cash equivalents during the reporting period. For instance, the cash
flow statement for the calendar year 2013 will report the causes of the change in a
company's cash and cash equivalents between its balance sheets of December 31, 2012
and December 31, 2013.
In addition to the cash amounts being reported as operating, investing, and financing
activities, the cash flow statement must disclose other information, including the amount of
interest paid, the amount of income taxes paid, and any significant investing and financing
activities which did not require the use of cash.
The statement of cash flows is to be distributed along with a company's income statement
and balance sheet.
Three important reasons that managers allocate overhead costs to products are described in the
following:
Provide information for decision making. Setting prices for products is one
example of a decision that must be made by management. Prices are often
established based on the cost of products. It is not enough to simply include direct
materials and direct labor. Overhead must be considered as well.
Promote efficient use of resources. Several different activities are performed
to produce a product, such as purchasing raw materials, setting up production
machinery, inspecting the final product, and repairing defective products. All of
these activities consume resources (consuming resources is another way of stating
that a cost is associated with each of these activities). If products are charged for
the use of these activities, managers will have an incentive to be efficient in utilizing
the activities.
Comply with U.S. Generally Accepted Accounting Principles (U.S.
GAAP). U.S. GAAP requires that all manufacturing costsdirect materials, direct
labor, and overheadbe assigned to products for inventory costing purposes. This
requires the allocation of overhead costs to products.
the factory overhead. Traditionally, that may have been reasonable or at least
sufficient for the company's external financial statements. However, in recent
decades the manufacturing overhead has been driven or caused by many
other factors. For example, some customers are likely to demand additional
manufacturing operations for their diverse products. Other customers simply
want great quantities of uniform products.
If a manufacturer wants to know the true cost to produce specific products for
specific customers, the traditional method of cost accounting is
inadequate. Activity based costing (ABC) was developed to overcome the
shortcomings of the traditional method. Instead of just one cost driver such
as machine hours, ABC will use many cost drivers to allocate a
manufacturer's indirect costs. A few of the cost drivers that would be used
under ABC include the number of machine setups, the pounds of material
purchased or used, the number of engineering change orders, the number of
machine hours, and so on.
11. How is ABC superior to conventional methods?
By analyzing the activity pools, the accountants and production managers have
identified the cost drivers, estimated the total expected units for each product, and
calculated the unit cost for each cost driver.
To calculate the per unit overhead costs under ABC, the costs assigned to each product
are divided by the number of units produced. In this case, the unit cost for a hollow
center ball is $0.52 and the unit cost for a solid center ball is $0.44.
Under the traditional method of allocating overhead based on direct labor dollars, the
total costs for all balls would be divided by total direct labor dollars for all balls to
determine the per unit cost. Estimated direct labor costs for the year are $1,512,000, of
which $378,000 is for hollow center balls and $1,134,000 is for solid center balls. The
per unit direct labor costs are $0.38 for hollow center balls ($378,000 1,000,000)
and $0.57 for solid center balls ($1,134,000 2,000,000). The per unit cost to produce
balls is calculated in two steps:
Cost-Volume-Profit Analysis
Cost-volume-profit (CVP) analysis is used to determine how changes in costs and
volume affect a company's operating income and net income. In performing this
analysis, there are several assumptions made, including:
If a company sells more than one product, they are sold in the same mix.
CVP analysis requires that all the company's costs, including manufacturing,
selling, and administrative costs, be identified as variable or fixed.
Contribution margin and contribution margin ratio
Key calculations when using CVP analysis are the contribution margin and
the contribution margin ratio. The contribution margin represents the amount
of income or profit the company made before deducting its fixed costs. Said
another way, it is the amount of sales dollars available to cover (or contribute to)
fixed costs. When calculated as a ratio, it is the percent of sales dollars available
to cover fixed costs. Once fixed costs are covered, the next dollar of sales results
in the company having income.
The contribution margin is sales revenue minus all variable costs. It may be
calculated using dollars or on a per unit basis. If The Three M's, Inc., has sales of
$750,000 and total variable costs of $450,000, its contribution margin is
$300,000. Assuming the company sold 250,000 units during the year, the per unit
sales price is $3 and the total variable cost per unit is $1.80. The contribution
margin per unit is $1.20. The contribution margin ratio is 40%. It can be
calculated using either the contribution margin in dollars or the contribution
margin per unit. To calculate the contribution margin ratio, the contribution
margin is divided by the sales or revenues amount.
Break-even point
The breakeven point represents the level of sales where net income equals zero.
In other words, the point where sales revenue equals total variable costs plus
total fixed costs, and contribution margin equals fixed costs. Using the previous
information and given that the company has fixed costs of $300,000, the break
even income statement shows zero net income.
In this equation, the variable costs are stated as a percent of sales. If a unit has a
$3.00 selling price and variable costs of $1.80, variable costs as a percent of sales
is 60% ($1.80 $3.00). Using fixed costs of $300,000, the breakeven equation
is shown below.
The last calculation using the mathematical equation is the same as the break
even sales formula using the fixed costs and the contribution margin ratio
previously discussed in this chapter.
Breakeven point in units. The breakeven point in units of 250,000 is
calculated by dividing fixed costs of $300,000 by contribution margin per unit of
$1.20.
The breakeven point in units may also be calculated using the mathematical
equation where X equals breakeven units.
Again it should be noted that the last portion of the calculation using the
mathematical equation is the same as the first calculation of breakeven units that
used the contribution margin per unit. Once the breakeven point in units has
been calculated, the breakeven point in sales dollars may be calculated by
multiplying the number of breakeven units by the selling price per unit. This also
works in reverse. If the breakeven point in sales dollars is known, it can be
divided by the selling price per unit to determine the breakeven point in units.
Targeted income
CVP analysis is also used when a company is trying to determine what level of
sales is necessary to reach a specific level of income, also called targeted
income. To calculate the required sales level, the targeted income is added to
fixed costs, and the total is divided by the contribution margin ratio to determine
required sales dollars, or the total is divided by contribution margin per unit to
determine the required sales level in units.
Using the data from the previous example, what level of sales would be required if
the company wanted $60,000 of income? The $60,000 of income required is
called the targeted income. The required sales level is $900,000 and the required
number of units is 300,000. Why is the answer $900,000 instead of $810,000
($750,000 [breakeven sales] plus $60,000)? Remember that there are additional
variable costs incurred every time an additional unit is sold, and these costs
reduce the extra revenues when calculating income.
Assuming the company has a 40% income tax rate, its breakeven point in sales
is $1,000,000 and breakeven point in units is 333,333. The amount of income
taxes used in the calculation is $40,000 ([$60,000 net income (1 .40 tax
rate)] $60,000).
A comparison of the overhead per unit calculated using the ABC and traditional methods
often shows very different results:
In this example, the overhead charged to the hollow ball using ABC is $0.52 and much
higher than the $0.35 calculated under the traditional method. The $0.52 is a more
accurate cost for making decisions about pricing and production. For the solid center
ball, the overhead calculated is $0.44 per unit using the ABC method and $0.53 per unit
using the traditional method. The reason for the differences is the traditional method
determines the cost allocation using direct labor dollars only, so a product with high
direct labor dollars gets allocated more of the overhead costs than a product with low
direct labor dollars. The number of orders, setups, or tests the product actually uses
does not impact the allocation of overhead costs when direct labor dollars are used to
allocate overhead.
ABC provides a way to allocate costs more accurately when overhead costs are not
incurred at the same rate as direct labor dollars. The more activities identified, the
more complex the costing system becomes. Computer systems are needed for complex
ABC systems. Some companies limit the number of activities used in the costing system
to keep the system manageable. While this approach may result in some allocations
being arbitrary, using ABC does provide a more accurate estimate of costs for use in
making management decisions.
10.Draw the Break even chart.
https://www.youtube.com/watch?v=_5xAHM35xbY
Break-Even Analysis
$25,000
$20,000
$15,000
$10,000
TFC
TVC
TC
Sales
Profit
$5,000
$0
0
400
800
1200
1600
2000
2400
2800
3200
3600
4000
($5,000)
Break-Even Point
(units) =
Total Fixed Costs
Variable Cost per
Unit
Sales Price per Unit
2,000
TFC =
$3,000
VCU =
SPU =
$3.50
$5.00
Formulas:
Update budget assumptions. Review the assumptions about the company's business
environment that were used as the basis for the last budget, and update as necessary.
2.
Review bottlenecks. Determine the capacity level of the primary bottleneck that is constraining
the company from generating further sales, and define how this will impact any additional
company revenue growth.
3.
Available funding. Determine the most likely amount of funding that will be available during
the budget period, which may limit growth plans.
4.
Step costing points. Determine whether any step costs will be incurred during the likely range
of business activity in the upcoming budget period, and define the amount of these costs and
at what activity levels they will be incurred.
5.
Create budget package. Copy forward the basic budgeting instructions from the instruction
packet used in the preceding year. Update it by including the year-to-date actual expenses
incurred in the current year, and also annualize this information for the full current year. Add a
commentary to the packet, stating step costing information, bottlenecks, and expected
funding limitations for the upcoming budget year.
6.
Issue budget package. Issue the budget package personally, where possible, and answer any
questions from recipients. Also state the due date for the first draft of the budget package.
7.
Obtain revenue forecast. Obtain the revenue forecast from the sales manager, validate it with
the CEO, and then distribute it to the other department managers. They use the revenue
information as the basis for developing their own budgets.
8.
Obtain department budgets. Obtain the budgets from all departments, check for errors, and
compare to the bottleneck, funding, and step costing constraints. Adjust the budgets as
necessary.
9.
Obtain capital budget requests. Validate all capital budget requests and forward them to the
senior management team with comments and recommendations.
10. Update the budget model. Input all budget information into the master budget model.
11. Review the budget. Meet with the senior management team to review the budget. Highlight
possible constraint issues, and any limitations caused by funding limitations. Note all
comments made by the management team, and forward this information back to the budget
originators, with requests to modify their budgets.
12. Process budget iterations. Track outstanding budget change requests, and update the budget
model with new iterations as they arrive.
13. Issue the budget. Create a bound version of the budget and distribute it to all authorized
recipients.
14. Load the budget. Load the budget information into the financial software, so that you can
generate budget versus actual reports.
12.What is the principle behind dividing cost into fixed and variable.
DINT GET ANS FOR THIS
13.What is Asset turnover ratio? How is it important?
13.What is Asset turn
Asset turnovers basic formula is simply sales divided by assets:
4,500,000 900,000 = 5
over ratio? How is it important?
What It Measures
The amount of sales generated for every dollars worth of assets over a given period.
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Why It Is Important
Asset turnover measures how well a company is leveraging its assets to produce revenue. A well-managed
manufacturer, for example, will make its plant and equipment work hard for the business by minimizing idle time for
machines.
The higher the number the betterwithin reason. As a rule of thumb, companies with low profit margins tend to have
high asset turnover; those with high profit margins have low asset turnover.
This ratio can also show how capital intensive a business is. Some businesses, such as software developers, can
generate tremendous sales per dollar of assets because their assets are modest. At the other end of the scale,
electric utilities, heavy industry manufacturers, and even cable TV companies need a huge asset base to generate
sales.
Finally, asset turnover serves as a tool to keep managers mindful of the companys balance sheet along with its profit
and loss account.
example, through the asset turnover ratio input, we are indirectly tapping into a great deal of
information that we can learn from the balance sheet, income statement, and their
interlocking relationship. Included below is a visual representation of the Dupont tree, which
illustrates just how much of a companys operating aspects are covered.
.
15.What is common size statement?
For example, if a companys total assets is $6.8 million (the numbers in the
chart are quoted in thousands) and the amount of cash it has on hand is $1
million, then cash represents approximately 15% of total assets ($1 million /
$6.8 million x 100). This figure can then be compared to the previous year. In
the above case, cash has decreased relative to total assets compared to the
previous year.
How
Price
Earnings
isisCalculated
The mostthe
common
price to
to earnings
ratio thatRatio
is tracked
known as the trailing
P/E. This
calculation uses the earnings per share (EPS) from the past four quarters and the current share price.
The equation to run the calculation is highlighted below.
P/E
= Share Price / Earnings Per Share
A stock that is currently trading at $20 per share that reported earnings over the past 12 months of
$1.00 per share would have a P/E = 20. This calculation is represented below Trailing P/E = $20 / $1.00 or 20
If the projected earnings for the company were expected to reach $1.25 in the next 12 months, an
investor could calculate the future P/E using the same equation. In this scenario, the future P/E
would equal 16. This is important information for an investor as the current share price may seem
like a good bargain compared to the future.
Future P/E = $20 / $1.25 or 16
There are also some price to earnings calculations that use a combination of past and future earnings
projections. One version takes the earnings results from the past two quarters and adds them to
projections from the next two future quarters.
Since there are plenty of different ways to calculate and represent a P/E, it is important for the
investor to understand the differences.
17.What is EPS?
Earnings per share (EPS) is the monetary value of earnings per each outstanding share of a
company's common stock.
In the United States, the Financial Accounting Standards Board (FASB) requires companies' income
statements to report EPS for each major category of the income statement: continuing operations,
discontinued operations, extraordinary items, and net income.
Calculating EPS[edit]
Preferred stock rights have precedence over common stock. Therefore, dividends declared on
preferred shares are subtracted before calculating the EPS. When preferred shares are cumulative,
the annual dividends are deducted whether they have been declared or not. Dividends in arrears are
not relevant when calculating EPS.