Unit 1

1. Explain various concepts of accounting?There are the necessary assumptions or conditions upon which accounting is based.Accounting concepts are postulates, assumptions or conditions upon which accounting records and statement are based. The various accounting concepts are as follows: 1. Entity Concept:For accounting purpose the “business” is treated as a separate entity from the proprietor(s). One can sell goods to himself,, but all the transactions are recorded in the book of the business. This concepts helps in keeping private affairs of the proprietor away from the business affairs. E.g. If a proprietor invests Rs. 1,00,000/- in the business, it is deemed that the proprietor has given Rs. 1,00,000/- to the “business” and it is shown as a “liability” in the books of the business. Similarly, if the proprietor withdraws Rs. 10,000/- from the business, it is charged to them. 2. Dual Aspect Concept:As per this concept, every business transaction has a dual affect. For example, if Ram starts business with cash Rs. 1,00,000/- there are two aspects of the transaction: “Asset Account” and “Capital Account”. The business gets asset (cash) of Rs. 1,00,000/- and on the other hand the business owes Rs. 1,00,000/- to Ram. 3. Going Business Concept (Continuity of Activity):It is assumed that the business concern will continue for a fairly long time, unless and until has entered into a state of liquidation. It is as per this assumption, that the accountant does not take into account the forced sale values of assets while valuing them.4. Money measurement concept:As per this concept, in accounting everything is recorded in terms of money. Events or transactions which cannot be expressed in terms of money are not recorded in the books of accounts, even if they are very important or useful for the business. Purchase and sale of goods, payment of expenses and receipt of income are monetary transactions which are recorded in the accounting books however events like death of an executive, resignation of a manager are such events which cannot be expressed in money. 5. Cost Concept (Objectivity Concept):This concept does not recognize the realizable value, the replacement value or the real worth of an asset. Thus, as per the cost concepta) as asset is ordinarily recorded at the price paid to acquire it i.e. at its cost, andb) this cost is the basis for all subsequent accounting for the asset.For example, if a machine is purchased for Rs. 10,000/- it is recorded in the books at Rs. 10,000/- and even if its market value at the time of the preparation of the final account is Rs. 20,000/- or Rs. 60,000/- the same will not considered.6. Cost-Attach Concept:This concept is also known as “cost-merge” concept. When a finished good is produced from the raw material there are certain process and costs which are involved like labor cost, power and other overhead expenses. These costs have a capacity to “merge” or “attach” when they are broughtr together.7. Accounting Period Concept:An accounting period is the interval of time at the end of which the income statement and financial position statement (balance sheet) are prepared to know the results and resources of the business.8. Accrual Concept:The accrual system is a method whereby revenue and expenses are identified with specific periods of time like a month, half year or a year. It implies recording of revenues and expenses of a particular accounting period, whether they are received/paid in cash or not.9. Period Matching of Cost and Revenue Concept:This concept is based on the period concept. Making profit is the most important objective that keeps the proprietor engaged in business activities. That is why most of the accountant’s time is spent in evolving techniques for measuring the profit/profitability of the concern. To ascertain the profit made during a period, it is necessary to match “revenues” of the period with the “expenses” of that period. Income (profit) earned by the business during a period is compared with the expenditure incurred to earn the revenue.10. Realization Concept:According to this concept profit, should be accounted for only when it is actually realized. Revenue is recognized only when sale is affected or the services are rendered. However, in order to recognize revenue, receipt of cash us not essential. Even credit sale results in realization as it creates a definite asset called “Account Receivable”. However there are certain exception to the concept like in case of contract accounts, hire purchase etc. Similarly incomes like commission interest rent etc. are shown in Profit and Loss A/c on accrual basis though they may not be realized in cash on the date of preparing accounts.

2. Explain the Causes of preparing bank reconciliation statement also enumerate the causes of difference betwwen cash book and pass book.

Bank reconciliation statement is an important technique by which the accuracy of the bank balance shown by the pass book and cash book is ensured. The need and importance of bank reconciliation statement can be summarized in the following points.

* Bank reconciliation statement ensures the accuracy of the balances shown by the pass book and cash book.* Bank reconciliation statement provides a check on the accuracy of entries made in both the books.* Bank reconciliation statement helps to detect and rectify any error committed in both the books.* Bank reconciliation statement helps to update the cash book by discovering some entries not yet recorded.* Bank reconciliation statement indicates any undue delay in the collection and clearance of some cheques.

Bank reconciliation means some of the transaction entered in the cash book not in the pass book and some transaction entered in the pass book not in the cash book. In other words we can say that always opposite entry in cash book and pass book. The bank pass book indicates the amount paid into the bank and the amount withdrawn there form. The pass book balance or any given data must be the same as the balance shown by the bank column of the cash book on the same date.The reason responsible for the difference may be delay in intimation, time gap between recordings of transaction in cash book and pass book due to errors and omissions in cash book and pass book.

Reasons of difference between cash book & pass book balance: Cheque issued but not presented for payment: When cheque are issued then immediately make entry in the cash book. The

cheque issued can be presented for payment to the bank within six month from the date of cheque as per banking law. The cheque are presented for payment after the expiry of the above period then payment is refused by the bank. This cheque is also known as stale cheque. It is posssible at the time when the balance of the two books are being compared, thus more chances of causing a disagreement b/w the two balances.

Cheque paid into the bank but not yet cleared: As soon as the cheque are deposited into the bank, the immediately entry is passed in the cash book. This will make entry in pass book only when cheque are cleared. It is posssible at the time when the balance of the two books are being compared, thus more chances of causing a disagreement b/w the two balances.

Interst allowed by the bank: Bank might have credited the account of the customer with the interest and may have made the entry in the pass book. It is possible that the entry of such interest may not have been made by the customer in the cash book, thus causing a disagreement b/w the two balances.

Interest and Bank charges debited by bank: Sometime bank charges interest from the customer then immediately entry in the pass book but not in cash book. so, in this case when check the balance b/w cash and bank book then disagreement b/w the two balances. So, it is the main reason to create difference b/w two books.

Interst, dividend collected by the bank: sometime interest on government security or dividend on share is collected by the bank and is credited to customer account. If the entry does not appear in the cash book then balance will differ.

Direct payment by bank: Sometimes, understanding instruction from the clients certain payment like insurance premium, club fees instalment etc. are made by the bank. then this entry is recorded only in the pass book. This entry is made in the cash book only when the necessary intimation to that effect is received from the bank by the client. The entries in the cash and pass book may be on different dates.

Direct payment into the bank by a customer: Sometimes, our customer deposit money direct into the account in the bank. It is only recorded in the pass book not in the cash book. It is posssible at the time when the balance of the two books are being compared, thus more chances of causing a disagreement b/w the two balances.

Dishonour of bill discounted with the bank: Sometimes, customer get their bills discounted with the bank. If the bank is not able to get payment of these bills on the due date. it will debit the customer account with the amount of the bills together with the nothing charges if any.The customer will pass the entry in the cash book only. when balance of the two books are being compared, thus more chances of causing a disagreement b/w the two balances.

Dishonour of cheque: When the received cheque are deposited into bank, these are immediately recorded in the cash book. As a result cash book balance is increased. but the deposited cheque is dishonoured due to lack of funds or due to other reasons. Bank doesnot credit the amount of the depositor. as a result disagreement b/w the two balances.

Error and ommissions: If any error is committed either by the bank or by a customer in the cash book While recording a transaction in their respective books, it causing a disagreement b/w the two balances. the error may be:1. undercast/overcast of receipt side or payment side.2. bank charges omitted from the banks or recorded twice in the books.3. wrong carry forward of cash book balance.

Unit 4

1. Explain the The Miller-Orr Model of cash management.Most firms don’t use their cash flows uniformly and also cannot predict their daily cash inflows and outflows. Miller-Orr Model helps them by allowing daily cash flow variation.Under the model, the firm allows the cash balance to fluctuate between the upper control limit and the lower control limit, making a purchase and sale of marketable securities only when one of these limits is reached. The assumption made here is that the net cash flows are normally distributed with a zero value of mean and a standard deviation. This model provides two control limits – the upper control limit and the lower control limit as well as a return point. When the firm’s cash limit fluctuates at random and touches the upper limit, the firm buys sufficient marketable securities to come back to a normal level of cash balance i.e. the return point. Similarly, when the firm’s cash flows wander and touch the lower limit, it sells sufficient marketable securities to bring the cash balance back to the normal level i.e. the return point.

The lower limit is set by the firm based on its desired minimum “safety stock” of cash in hand The firm should also determine the following factors:

1. An interest rate for marketable securities, (i)2. A fixed transaction cost for buying and selling marketable securities, (c)3. The standard deviation if its daily cash flows, (s)

The upper control limits and return path are than calculated by the Miller-Orr Model as follows:Distance between the upper limits and lower limits is 3Z.(Upper limit – Lower limit) = (3/4 C Transaction Cost C Cash Flow Variance/Interest Rate) 1/3

Z = (3/4 C cs2/i) 1/3

If the transaction cost is higher or cash flows shows greater fluctuations, than the upper limit and lower limit will be far off from each other. As the interest rate increases, the limits will come closer. There is an inverse relation between the Z and the interest rate. The upper control limit is three times above the lower control limits and the return point lies between the upper and lower limits. Hence,

Upper Limit = Lower Limit + 3ZReturn Point = Lower Limit + Z

So, the firm holds the average cash balance equal to:Average Cash Balance = Lower Limit + 4/3 Z

The Miller-Orr Model is more realistic as it allows variation in cash balance within the lower and upper limits. The lower limit can be set according to the firm’s liquidity requirement. To determine the standard deviation of net cash flows the pasty data of the net cash flow behaviour can be used. Managerial attention is needed only if the cash balance deviates from the limits. 

2. Explain the c’s of Credit management.

It's one of the most common questions among small business owners seeking financing: "What will the bank be looking for from me and my business?" While each lending situation is unique, many banks utilize some variation of evaluating the five C's of credit when making credit decisions: character, capacity, capital, conditions and collateral. We'll take a look at each of these ingredients and how they may impact your funding request. Review each category and see how you stack up. Character — What is the character of the management of the company? What is management's reputation in the industry and the community? Investors want to put their money with those who have impeccable credentials and references. The way you treat your employees and customers, the way you take responsibility, your timeliness in fulfilling your obligations — these are all part of the character question. This is really about you and your personal leadership. How you lead yourself and conduct both your business and personal life gives the lender a clue about how you are likely to handle leadership as a CEO. It's a banker's responsibility to look at the downside of making a loan. Your character immediately comes into play if there is a business crisis, for example. As small business owners, we place our personal stamp on everything that affects our companies. Often, banks do not even differentiate between us and our businesses. This is one of the reasons why the credit scoring process evolved, with a large component being our personal credit history. Capacity — What is your company's borrowing history and track record of repayment? How much debt can your company handle? Will you be able to honor the obligation and repay the debt? There are numerous financial benchmarks, such as debt and liquidity ratios, that investors evaluate before advancing funds. Become familiar with the expected pattern in your industry. Some industries can take a higher debt load; others may operate with less liquidity. Capital — How well-capitalized is your company? How much money have you invested in the business? Investors often want to see that you have a financial commitment and that you have put yourself at risk in the company. Both your company's financial statements and your personal credit are keys to the capital question. If the company is operating with a negative net worth, for example, will you be prepared to add more of your own money? How far will your personal resources support both you and the business as it is growing? If the company has not yet made profits, this may be offset by an excellent customer list and payment history. All of these issues intertwine, and you want to ensure that the bank perceives the business as solid. Conditions — What are the current economic conditions and how does your company fit in? If your business is sensitive to economic downturns, for example, the bank wants a comfort level that you're managing productivity and expenses. What are the trends for your industry, and how does your company fit within them? Are there any economic or political hot potatoes that could negatively impact the growth of your business? Collateral — While cash flow will nearly always be the primary source of repayment of a loan, bankers look at what they call the secondary source of repayment. Collateral represents assets that the company pledges as an alternate repayment source for the loan. Most collateral is in the form of hard assets, such as real estate and office or manufacturing equipment. Alternatively, your accounts receivable and inventory can be pledged as collateral. The collateral issue is a bigger challenge for service businesses, as they have fewer hard assets to pledge. Until your business is proven, you're nearly always going to pledge collateral. If it doesn't come from your business, the bank will look to your personal assets. This clearly has its risks — you don't want to be in a situation where you can lose your house because a business loan has turned sour. If you want to be borrowing from banks or other lenders, you need to think long and hard about how you'll handle this collateral question.