Management
Accounting
The term
management accounting refers to accounting for the management. Management accounting
provides necessary information to assist the management in the creation of
policy and in the day-to-day operations. It enables the management to discharge
all its functions i.e. planning, organization, staffing, direction and control
efficiently with the help of accounting information. Management
accounting is not a specific system of accounts, but could be any form of accounting
which enables a business to be conducted more effectively and efficiently.
In the words of
R.N. Anthony “Management accounting is concerned with accounting information
that is useful to management”.
According to
Anglo American Council of Productivity “Management accounting is the
presentation of accounting information is such a way as to assist management in
the creation of policy and in the day-to-day operations of an undertaking”.-
Management
accounting in the words of Robert S. Kaplan, is a system that collects,
classifies, summaries, analyses and reports information that will assist
managers in their decision making and control activities.
Therefore
management accounting requires the collection, analysis and interpretation
financial data in order to assist the management in taking various important
decisions.
Functions of Management Accounting
Main objective
of management accounting is to help the management in performing its functions
efficiently. The major functions of management are planning, organizing,
directing and controlling. Management accounting helps the management in
performing these functions effectively. Some of the important functions of
Management are given below:
Presentation
of Data: Traditional Profit and
Loss Account and the Balance Sheet are not analytical for decision making.
Management accounting modifies and rearranges data as per the requirements for
decision making through various techniques.
Aid to Planning
and Forecasting: Management
accounting is helpful to the management in the process of planning through the
techniques of budgetary control and standard costing. Forecasting is
extensively used in preparing budgets and setting standards.
Decision Making: Management accounting provides comparative data for analysis and
interpretation for effective decision making and policy formulation.
Communication
of Management Policies: Management accounting conveys the policies of the management
downward to the personnel effectively for proper implementation.
Effective
Control: Standard costing and budgetary control are integral part of
management accounting. These techniques lay down targets, compare actual with standards
and budgets to evaluate the performance and control the deviations.
Incorporation
of non-financial information: Management accounting considers both financial and non-financial information
for developing alternative courses of action which leads to effective and
accurate decisions.
Co ordination: The targets of different departments are communicated to them and
their performance is reported to the management from time to time. This
continual reporting helps the management in coordinating various activities to
improve the overall performance.
Limitations of Management Accounting
Management accounting suffers from the
following limitations:
a) Based on Accounting Information: Management accounting derives information from
past financial accounting and cost accounting records. If the past records are
not reliable, it will affect the effectiveness of management accounting.
b) Wide scope: Management accounting has a very wide scope
incorporating many disciplines. This results in inaccuracy and other practical
difficulties.
c) Costly: The installation of management accounting
system requires a large organization. Hence, it is very costly and only big
concerns can afford to adopt it.
d) Evolutionary Stage: Management accounting is still in its initial
stages. Tools and techniques are not fully developed. This creates doubts about
the utility of management accounting.
e) Opposition to Change: Introduction of management accounting
system requires a number of changes in the organization structure, rules and
regulations. This rearrangement is not generally liked by the people involved.
f) Intuitive Decisions: Management accounting helps in scientific
decision making. Yet, because of simplicity and personal factors the management
has a tendency to arrive at decisions by intuition.
g) Not an Alternative to Management: Management accounting will not replace the
management and administration. It is a tool of the management. Decisions are of
the management and not of the management accountant.
Answer of Question no.2.
Cash
Flow Statement :
A Cash Flow
Statement is similar to the Funds Flow Statement, but while preparing funds
flow statement all the current assets and current liabilities are taken into
consideration. But in a cash flow statement only sources and applications of
cash are taken into consideration, even liquid asset like Debtors and Bills
Receivables are ignored.
A Cash Flow
Statement is a statement, which summarises the resources of cash available to
finance the activities of a business enterprise and the uses for which such
resources have been used during a particular period of time. Any transaction,
which increases the amount of cash, is a source of cash and any transaction,
which decreases the amount of cash, is an application of cash.
Simply, Cash
Flow is a statement which analyses the
reasons for changes in balance of cash in hand and at bank between two
accounting period. It shows the inflows and outflows of cash.
Objectives of Cash Flow statement :
Short-term financial Planning :- To provides useful information which
helps the management in taking short-term investment decisions.
Helpful in preparing Cash Budget :- A
Cash Budget is an estimate of cash receipts and disbursement for a future
period of time. Cash Flow Statement aims to help the management to prepare Cash
Budget. A comparison of cash budget and cash flow statement reveals the extent
to which the sources of the business were generated and used as per the plans
of the business.
Measurement of Liquidity :- Liquidity
means ability of a business enterprise to pay off its liabilities when due.
Cash Flow Statement helps to know about the sources where from the cash will be
available to pay off the liabilities.
Dividend Decisions :- The Capacity of
the firm to pay dividends to shareholders depend on the generation of cash
flows. Cash flow statement aims at helping the management to know about the
sources of cash to pay off dividend.
Prediction of sickness :- With the
help of preparing cash from operation a business enterprise may come to know
about cash losses in operation. It helps to predict this type of sickness.
Future Guide:
- Most of the users are interested
to assess the ability of the firm in generating future cash flows, its timing
and certainty. These questions can be answered by analysing the cash flow
statement.
The use of
cash in investing and financing Transaction :- Information in cash flow statement would be useful to find out as to how
cash has been obtained from investing and financing activities and how cash has
been used to invest and repay borrowings etc. The statement would be useful to
users to ascertain the following :
a) The
change in the net assets of the business.
b) The
change in the financial structure.
c) The
financing of expansion.
d) The
utilisation of finance obtained by the enterprise.
e) The
impact of investing and financing activities on the cash cash balance of the
enterprise.
Difference between investing and financing activities
Investing Activities: Investing activities are the acquisition and disposal of
long-term assets and other investments not included in cash equivalents.
Examples of Investing Activities
Cash
payments to acquire fixed assets (including intangibles) and also payments for
capitalized research and development costs and self constructed fixed assets.
Cash
receipts from the disposal of fixed assets (including intangibles).
Cash
flow from purchase or sale of shares, warrants, or debt instruments of other
enterprises and interests in joint ventures (other than payments for those
instruments considered to be cash equivalents and those held for trading or
dealing purposes).
Cash
receipts from repayments of advances and loans made to third parties (other
than advances and loans of financial enterprises).
Financing Activities: Financing activities are the activities that result in change in
the size and composition of the owners’ capital (including preference) share
capital in the case of a company) and borrowing of the enterprise.
Examples of Financing Activities
Cash
proceeds from the issue of shares or other similar instruments.
Cash
proceeds from the issue of debentures, loan notes, bonds and other short term
borrowings.
Buy-back
of equity shares.
Cash
repayments of the amounts borrowed including redemption of debentures.
Answer of Question no.3.
Cash Budget
A cash budget
is a budget or plan of expected cash receipts and disbursements during the
period. These cash inflows and outflows include revenues collected, expenses
paid, and loans receipts and payments. In other words, a cash budget is an
estimated projection of the company's cash position in the future.
Management
usually develops the cash budget after the sales, purchases, and capital
expenditures budgets are already made. These budgets need to be made before the
cash budget in order to accurately estimate how cash will be affected during
the period. For example, management needs to know a sales estimate before it
can predict how much cash will be collected during the period. Management uses
the cash budget to manage the cash flows of a company. In other words,
management must make sure the company has enough cash to pay its bills when
they come due.
Methods of
Preparation of Cash Budget
(1) Receipts
and Payments Method
(2) Adjusted
Profit and Loss Method or Adjusted Earnings Method or Cash Flow Method.
(3) Projected
Balance-Sheet Method.
The above
methods of preparing cash budget represent different approaches.
(1) Receipts
and Payments Method: It is the most simple and popular method of preparing cash
budget. The method is most commonly used in forecasting the short term cash
position. It is just like receipts and payment method in technique. It
shows yearly cash position with proper breakups by quarters and months. For the
purpose of preparing cash budget under this method, cash information’s are
collected from other budgets such as sales budget, salary and wages budget,
overhead budgets, material budget etc.
Under this
method cash budget is divided into two parts. One part shows the timing and the
amount of cash receipts and other part shows the timing and the amount of cash
disbursements. In preparing cash budget, total budgeted cash receipts are added
to the opening balance of cash and then the total budgeted disbursements are
deducted there from to know the closing balance of cash. If opening cash
balance and estimated total cash receipts are much larger than the estimated
payments, there will be cash balance at close and management should take the
necessary steps, to invest surplus funds for short period. On the other hand,
if there is cash shortage, the management must plan the borrowings for short
period to manage the deficiency. It is a sound vehicle for exercising control
over day-to - day transactions. This method is not suitable for long term cash
forecasting.
(2) Adjusted
Profit and Loss Method or Adjusted Earnings Method or Cash Flow Method: The
method is suitable for preparing the long term estimates of cash inflows and
outflows. It is also called cash-flow statement. Under this method, profit and
loss account is adjusted to know the cash estimates. This method is useful in
budgetary control technique. Under this method, closing cash balance can be
known by adding profits for the period to the opening cash balance because the
theory is based on the elementary assumption that profits of a business are
equal to cash. Thus if we assume that there are no credit transactions, capital
transactions, accruals, provisions, stock fluctuations, or appropriations of
profit, the balance of profit as shown by the profit and loss account should b
equal to the cash balance in the case book. However, such a situation will
never exist in actual practice, the assumption needs adjustments.
The principal
advantage of the adjusted net income method of cash forecasting is that it
provides a close watch on working capital changes and enables the firm to
anticipate its short term financing requirements. Its major drawback is that it
does not permit the tracing of cash flow even though it is an excellent device
for showing the cumulative impact of fund flows.
(3) Projected
Balance-Sheet Method: This method is similar to that of profit and loss
adjustment method, a budgeted balance sheet is prepared for the next period
showing all items of assets and liabilities except cash balance which is found
out as the balancing figure of the two sides of balance sheet. If the asset
side exceeds the liability side the balance shall reveal the bank overdraft and
if the liability side is heavier than the asset side, the difference represents
the bank balance.
The Projected balance sheet contains
all of the line items found in a normal balance sheet, except that it is a
projection of what the balance sheet will look like during future budget
periods. It is compiled from a number of supporting calculations, the accuracy
of which may vary based on the realism of the inputs to the budget model.
The Projected balance sheet is extremely useful
for testing whether the projected financial position of a company appears to be
reasonable ranging from 2 to 5 years and provide a rough picture of a firm’s
financing needs and availability of investable surplus in future. It is also
helpful in long-term cash forecasts which are helpful in planning the outlays
of capital expenditure projects and planning the raising of long-term funds.
From the above
definition, it is clear that for long term cash forecast projected
Balance-Sheet Method is more useful that other methods of Cash Budgeting.
Answer of Question no.4.
Answer of Question no.5.
(a) P/V Ratio = (Contribution/Sales)*100 = (200000/800000)*100 = 25%
(b) B.E.P = Fixed cost / PV Ratio = 60000 / 25% = 240000
(c) Profit = (Expected Sales*PV Ratio) – Fixed Cost =
(1200000*25%) – 60000 = 240000
(d) Margin of Safety = Profit / PV Ratio = 240000 / 25% = 960000 (Profit as per c above since sales are
identical)
(e) Desired Sales = (Fixed cost + Desired Profit) /
PV Ratio =(60000+280000) / 25% = 1360000
(f) Additional Sales Required = Increase in fixed
cost / PV Ratio = 12000 / 25% = 48000.