INTER

CA
FINANCIAL MANAGEMENT
Answers
Long- term debt Long- term debt
1.  0.5 
Net worth 2,00,000
Long- term debt = ` 1,00,000
Total liabilities and net worth = ` 4,00,000
Total assets = ` 4,00,000
Sales Sales
 2.5  =
Sales = ` 10,00,000 Total assets
4, 00, 000
Cost of goods sold = (0.9) (` 10,00,000) = ` 9,00,000.
Cost of goods sold 9, 00, 000
Inventory  Inventory = 9= Inventory = `1,00,000

Receivables × 360
10,00,000  18 days
Receivables = ` 50,000
Cash + 50,000
1,00,000  1
Cash = `50,000
Plant and equipment = ` 2,00,000.
Balance Sheet
` `
Cash 50,000 Notes and payables 1,00,000
Accounts receivable 50,000 Long-term debt 1,00,000
Inventory 1,00,000 Common stock 1,00,000
Plant and equipment 2,00,000 Retained earnings 1,00,000
Total assets 4,00,000 Total liabilities and equity 4,00,000

2. 1. (d) 2. (a) 3. (c) 4. (b) 5. (d)

3.
(i) G.P. ratio Gross Profit
 Sales  25%
Gross Profit `8,00,000
Sales  100  100 `32,00,000
25 25
(ii) Cost of Sales = Sales – Gross profit
= ` 32,00,000 - ` 8,00,000
= ` 24,00,000

1
 Sales
(iii) Receivable turnover = 4
Receivables
Sales `32,00,000
Receivables =  `8,00,000
4 4
(iv) Fixed assets turnover Cost of Sales
= Fixed Assets  8
Fixed assets Cost of Sales `24,00,000
= 8  8 `3,00,000
Cost of Sales
(v) Inventory turnover = 8
Average Stock

Average Stock =
Cost of Sales `24,00,000
8  8 `3,00,000
Average Stock = Opening Stock + Closing Stock
2
Average Stock = Opening Stock + Opening Stock + 20,000
2
Average Stock = Opening Stock + `
10,000 Opening Stock = Average Stock - `
10,000
= ` 3,00,000 - `10,000
= ` 2,90,000
Closing Stock = Opening Stock + ` 20,000
= ` 2,90,000 + ` 20,000
= ` 3,10,000
(vi) Payable turnover Purchases
= Payables  6
Purchases = Cost of Sales + Increase in Stock
= ` 24,00,000 + ` 20,000
= ` 24,20,000
Payables = Purchase `24,20,000
6  6 `4,03,333
Cost of Sales
(vii) Capital turnover = 2
Capital Employed

Capital Employed
Cost of Sales `24,00,000
2  2 `12,00,000
=
(viii) Share Capital = Capital Employed – Reserves & Surplus
= ` 12,00,000 – ` 2,00,000 = ` 10,00,000

Balance Sheet of Tirupati Ltd as on……………

Liabilities Amount (`) Assets Amount (`)
Share Capital 10,00,000 Fixed Assets 3,00,000
Reserve & Surplus 2,00,000 Closing Inventories 3,10,000
Payables 4,03,333 Receivables 8,00,000
Other Current Assets 1,93,333
16,03,333 16,03,333
(Fixed Asset turnover, inventory turnover capital turnover is calculated on cost of
sales)
 Current Assets (CA)
4. Current Ratio = = 2 i.e. 2 : 1
Current Liabilities (CL)
S. Situation Improve/ Decline/ Reason
No. No Change
(i) Payment of Current Ratio will Let us assume CA is ` 2 lakhs & CL is ` 1 lakh.
Current liability improve If payment of Current Liability = `10,000
then, CA = 1, 90,000 CL = 90,000.
1,90,000
Current Ratio =
90,000
= 2.11 : 1. When Current Ratio is 2:1
Payment of Current liability will reduce the
same amount in the numerator and
denominator. Hence, the ratio will improve.
(ii) Purchase of Current Ratio will Since the cash being a current asset
Fixed Assets decline converted into fixed asset, current assets
by cash reduced, thus current ratio will fall.
(iii) Cash collected Current Ratio will Cash will increase and Debtors will reduce.
from Customers not change Hence No Change in Current Asset.
(iv) Bills Receivable Current Ratio will Bills Receivable will come down and
dishonoured not change debtors will increase. Hence no change in
Current Assets.
(v) Issue of New Current Ratio will As Cash will increase, Current Assets will
Shares improve increase and current ratio will increase.

5. Working notes:
(i) Current assets and Current liabilities computation:
Current assets 2.5
Current liabilities  1

Or,
Current Assets Current = k (say)
Liabilities 
2.5 1
Or, Current Assets = 2.5 k and Current Liabilities = k
Or, Working capital = (Current Assets - Current Liabilities)
Or, Rs.2,40,000 = k (2.5 - 1) = 1.5 k
Or, k = Rs.1,60,000
∴ Current Liabilities = Rs. 1,60,000
Current Assets = Rs.1,60,000 × 2.5 = Rs.4,00,000

(ii) Computation of stock

Liquid assets
Liquid ratio = Current liabilities
Current Assets - Stock
Or,1.5 = Rs.1,60,000
Or, 1.5  Rs.1,60,000 = Rs.4,00,000 - Stock
Or, Stock = Rs.1,60,000
 (iii) Computation of Proprietary fund; Fixed assets; Capital and Sundry payables (creditors)
Fixed assets
Proprietary ratio =  0.75
Proprietary fund
∴ Fixed assets = 0.75 Proprietary fund
and Net working capital = 0.25 Proprietary fund
Or, Rs.2,40,000/0.25 = Proprietary fund
Or, Proprietary fund = Rs.9,60,000
and Fixed assets = 0.75 proprietary fund
= 0.75  Rs.9,60,000
= Rs.7,20,000
Equity Capital = Proprietary fund - Reserves & Surplus
= Rs.9,60,000 - Rs.1,60,000
= Rs.8,00,000
Sundry payables (creditors) = (Current liabilities - Bank overdraft)
= (Rs.1,60,000 - Rs.40,000) = Rs.1,20,000
Balance Sheet
Liabilities (Rs.) Assets (Rs.)
Equity Capital 8,00,000 Fixed assets 7,20,000
Reserves & Surplus 1,60,000 Stock 1,60,000
Bank overdraft 40,000 Current assets 2,40,000
Sundry payables 1,20,000
11,20,000 11,20,000

6. On one hand when cost of ‘fixed cost fund’ is less than the return on investment
financial leverage will help to increase return on equity and EPS. The firm will also benefit from
the saving of tax on interest on debts etc. However, when cost of debt will be more than the
return it will affect return of equity and EPS unfavourably and as a result firm can be under
financial distress. This is why financial leverage is known as “double edged sword”.
Effect on EPS and ROE:
When, ROI > Interest – Favourable – Advantage
When, ROI < Interest – Unfavourable – Disadvantage
When, ROI = Interest – Neutral – Neither advantage nor disadvantage.

7. Change in Reserve & Surplus = ` 25, 00,000 – ` 20,00,000 = ` 5,00,000

So, Net profit = ` 5, 00,000
(i) Net Profit Ratio = 8%
5,00,000
∴ Sales = `62,50,000
8%
(ii) Cost of Goods sold
= Sales – Gross profit Margin
= ` 62, 50,000 – 20% of ` 62, 50,000
= ` 50, 00,000
`30,00,000
(iii) Fixed Assets = `75,00,000
40%
(iv) Stock =
Cost of Goods Sold 50,00,000
 `12,50,000
 STR 4
(v) Debtors = 62,50,000
 90 `15,62,500
360
50,00,000
(vi) Cash Equivalent = 1.5 `6,25,000
12
Balance Sheet as on 31st March 2018
Liabilities (`) Assets (`)
Share Capital 40,00,000 Fixed Assets 75,00,000
Reserve and Surplus 25,00,000 Sundry Debtors 15,62,500
Long-term loan 30,00,000 Closing Stock 12,50,000
Sundry Creditors 14,37,500 Cash in hand 6,25,000
(Balancing Figure)
1,09,37,500 1,09,37,500

8. Preparation of Balance Sheet

Working Notes:
Sales = Gross Profit / Gross Profit Margin
= 60,000 / 0.2
= ` 3,00,000
Total Assets = Sales / Total Asset Turnover
= 3,00,000 / 0.3
= ` 10,00,000
Net Worth = 0.9 X Total Assets
= 0.9 X ` 10,00,000 = ` 9,00,000
Current Liability = Total Assets – Net Worth
= ` 10,00,000 – ` 9,00,000
= ` 1,00,000
Current Assets = 1.5 x Current Liability
= 1.5 x ` 1,00,000 = ` 1,50,000
Stock = Current Assets – Liquid Assets
= Current Assets – (Liquid Assets / Current Liabilities =1)
= 1,50,000 – (LA / 1,00,000 = 1) = ` 50,000

Debtors = Average Collection Period X Credit Sales / 360

= 60 x 0.8 x 3,00,000 / 360 = ` 40,000
Cash = Current Assets – Debtors – Stock
= ` 1,50,000 – ` 40,000 – ` 50,000
=` 60,000
Fixed Assets = Total Assets – Current Assets
= ` 10,00,000 – ` 1,50,000
= ` 8,50,000
 Balance Sheet
Liabilities ` Liabilities `
Net Worth 9,00,000 Fixed Assets 8,50,000
Current Liabilities 1,00,000 Stock 50,000
Debtors 40,000
Cash 60,000
Total Liabilities 10,00,000 Total Assets 10,00,000

9. Current assets Stock +Receivables +Cash

(i) Current Ratio = Current liablities  S. Payables + Provision for taxation

250 + 300 + 150 700

= 400  100  500  1.4 :1

(ii) Liquid assets Current assets - Stock

Liquidity liablities = Current liabilities
CurrentRatio
700  250 450
= 500  500  0.9 :1

(iii) Profitability Ratio = 300

EBIT 100  25%
 1,
Sales 200
(iv) Profitability on Funds Employed

300 300
100  100  14.63%
1,400 + 450 + 200 2,050
Sales 1, 200
(v) Receivables’ (Debtors’) turnover ratio=  
4 times
Average receivables 300

(vi) Average Receivables’ (Debtors’) Collection Period

Average Receivables 300
 12
Credit sales 12  3 months
months= 1,
200

Sales 1, 200
(vii) Stock turnover ratio =   4.8 times
Average Stock 250
Profit after tax
(viii) Return on Equity = 100
Shareholders' funds
200 200
= 1,400 + 450 + 200 100  100  9.76%
2,050

10. Working Notes:

(i) Cost of Goods Sold = Sales – Gross Profit (28% of Sales)
= ` 50,00,000 – ` 14,00,000
= ` 36,00,000
(ii) Closing Stock = Cost of Goods Sold / Stock Turnover
= ` 36,00,000/6 = ` 6,00,000
(iii) Fixed Assets = Cost of Goods Sold / Fixed Assets Turnover
= ` 36,00,000/1.5
= ` 24,00,000
(iv) Current Assets : Current Ratio
= 1.5 and Liquid Ratio = 1
Stock = 1.5 – 1 = 0.5
Current Assets = Amount of Stock × 1.5/0.5
= ` 6,00,000 × 1.5/ 0.5 = ` 18,00,000
(v) Liquid Assets (Debtors and Cash & Cash equivalents)
= Current Assets – Stock
= `18,00,000 – ` 6,00,000
= `12,00,000
(vi) Debtors = Sales × Debtors Collection Period(days) /360 days
45
= `50,00,000 ×
`6, 25,000
360
(vii) Cash & Cash equivalents
= Liquid Assets – Debtors
= `12,00,000 – ` 6,25,000 = ` 5,75,000

(viii) Net worth = Fixed Assets / 1.2

= ` 24,00,000/1.2 = ` 20,00,000
(ix) Reserves and Surplus
Reserves & Surplus and Share Capital = 0.6 + 1 = 1.6
Reserves and Surplus = ` 20,00,000 × 0.6/1.6 = ` 7,50,000
(x) Share Capital = Net worth – Reserves and Surplus
= ` 20,00,000 – ` 7,50,000
= `12,50,000
(xi) Current Liabilities = Current Assets / Current Ratio
= `18,00,000/1.5 = `12,00,000
(xii) Long- term Debts
Capital Gearing Ratio = Long-term Debts / Equity Shareholders’ Fund (Net worth)
Or, Long-term Debts = ` 20,00,000 × 0.5 = `10,00,000

Balance Sheet as at 31st March, 2016

11. Workings:
(i) Fixed Assets 5
TotalCurrent Assets 7

Or, Total Current Assets =

`40,00,000×7
5 `56,00,000

(ii Fixed Assets 5 `40,00,000×4 `32,00,000

)  Or, Capital =
Capital 4 5

(iii)
Capital 1 Or, Total liabilities = ` 32,00,000 × 2 = ` 64,00,000

TotalLiabilities * 2
*It is assumed that Total liabilities does not include capital.
(iv)
Net Profit 1 Or, Net Profit = ` 32,00,000 × 1/5 = ` 6,40,000

Capital 5

(v)
Net Profit 1 Or, Sales = ` 6,40,000 × 5 = ` 32,00,000

Sales 5
(vi) Gross Profit = 25% of ` 32,00,000 = ` 8,00,000
Cost of Goods Sold(i.e.Sales - Grossprofit)
(vii) Stock Turnover = Average Stock =10

`32,00,000 `8,00,000
= Average Stock =10

Or, Average Stock = ` 2,40,000 Or, Opening Stock + `4,00,000 `2,40,000

2
Or, Opening Stock = ` 80,000
Trading Account

Profit and Loss Account

 Balance Sheet

Debt 2
12. Debt Equity Ratio = 2 :1; 
Equity 1
`50,00,000
Equity = `25,00,000
2
Net Profit after tax (PAT)
Return on Equity = Equity  50%

Or, Net Profit after tax (PAT) = ` 25,00,000 × 50% = ` 12,50,000

100
Net Profit before tax = `12,50,000  `19,23,077
65
Tax = ` 19,23,077 – `12,50,000 = ` 6,73,077
Sales Sales
Capital Turnover Ratio =  1.2 or,  1.2
Capital `25,00,000  `50,00,000
So, Sales = ` 75,00,000 × 1.2 = ` 90,00,000
Closing Stock = ` 90,00,000 × 8% = ` 7,20,000
Gross Profit = ` 90,00,000 × 30% = `
27,00,000

Trading A/c for the year ending 31st March, 2015

Profit & Loss A/c for the year ending 31st March, 2015
13.
(a) T e answer should be
h
focused on using the current and quick ratios. While the
current ratio has steadily increased, it is to be noted that the liquidity has not
resulted from the most liquid assets as the CEO proposes. Instead, from the quick ratio, it is
noted that the increase in liquidity is caused by an increase in inventories. For a fresh
cheese company, it can be argued that inventories are relatively liquid when compared to
other industries. Also, given the information, the industry- benchmark can be used to
derive
that the company's quick ratio is very similar to the industry level and that the
current ratio is indeed slightly higher - again, this seems to come from inventories.
(b) Inventory turnover, day’s sales in receivables, and the total asset turnover ratio are to be
mentioned here. Inventory turnover has increased over time and is now above the industry
average. This is good - especially given the fresh cheese nature of the company’s industry.
In 2014, it means for example that every 365/62.65 = 5.9 days the company is able to sell
its inventories as opposed to the industry average of 6.9 days. Days' sales in receivables
have gone down over time, but are still better than the industry average. So, while they are
able to turn inventories around quickly, they seem to have more trouble collecting on these
sales, although they are doing better than the industry. Finally, total asset turnover is gone
down over time, but it is still higher than the industry average. It does tell us
something about a potential problem in the company's long term investments, but
again, they are still doing better than the industry.
(c) Solvency and leverage is captured by an analysis of the capital structure of the
company and the company's ability to pay interest. Capital structure: Both the equity
multiplier and the debt-to-equity ratio tell us that the company has become less
levered. To get a better idea about the proportion of debt in the firm, we can turn the D/E
ratio into the D/V ratio: 2014: 43%, 2013: 46%, 2012:47%, and the industry- average is
47%. So based on this, we would like to know why this is happening and whether this is
good or bad. From the numbers it is hard to give a qualitative judgment beyond
observing the drop in leverage. In terms of the company's ability to pay interest, 2014
looks pretty bad. However, remember that times interest earned uses EBIT as a proxy
for the ability to pay for interest, while we know that we should probably consider cash
flow instead of earnings. Based on a relatively large amount of depreciation in 2014 (see
info), it seems that the company is doing just fine.

14. Preparation of Financial Statements

Land and Building = ` 80,000

Total Liabilities = Total Assets
` 2,00,000 = Total Assets
Fixed Assets = 60% of Total Gross Fixed Assets and Current Assets
= ` 2,00,000 × 60/100
= ` 1,20,000
Calculation of Additions to Plant & Machinery

Current Assets = Total Assets – Fixed Assets

= ` 2,00,000 – ` 1,20,000 = ` 80,000

Calculation of Stock
Current Assets - Stock
Quick Ratio = Current Liabilities  1
`80,000 - Stock
 `50,000 1
` 50,000 = ` 80,000 – Stock
Stock = ` 80,000 – `
50,000
= ` 30,000
Debtors = 4/5th of Quick Assets
= (` 80,000 – 30,000) × 4/5
= ` 40,000
Debtors Turnover Ratio
40,000 12
 Credit Sales  2 months
2 Credit Sales = 4,80,000
Credit Sales = 4,80,000/2
= 2,40,000
Gross Profit (15% of Sales)
` 2,40,000 × 15/100 = ` 36,000
Return on Networth (profit after tax)
Networth = ` 1,00,000 + `
30,000
= ` 1,30,000
Net Profit = ` 1,30,000 × 10/100 = ` 13,000
Debenture Interest = ` 20,000 × 5/100 = ` 1,000
 Projected Profit and Loss Account for the year ended 31-3-2014

Ganesha Limited
Projected Balance Sheet as on 31st March, 2014

15. Working Notes;

1. Net Working Capital = Current Assets – Current Liabilities
=2-1=1
Net Working Capital × 2
Current Assets = 1
8,00,000 × 2
= 1
Current Assets = 16,00,000
Current Liabilities = 16,00,000 – 8,00,000 = 8,00,000

Liquid Assets
2. Liquid Ratio =
Current Liabilities
Current Assets - Stock
1.25 = Current Liabilities
16,00,000 - Stock
1.25 = 8,00,000

1.25 x 8,00,000 = 16,00,000 – Stock

10,00,000 = 16,00,000 – Stock
Stock = 6,00,000
Liquid Assets = 1.25 x 8,00,000 = 10,00,000
 COGS
3. Stock Turnover Ratio =
Stock
COGS
7  6,00,000
COGS = 42,00,000
4. Sales – Gross Profit = COGS
Gross Profit
Sales  25%
Gross Profit = 25% Sales
Sales – 25% Sales = COGS

Sales = 42,00,000 = 56,00,000

0.75
12
5. Debtors turnover Ratio = 8
1.5
Credit Sales
Debtors  Debtors Turnover
56,00,000
  7,00,000
8
6. Sales
Fixed Assets  2
56,00,000
Fixed Assets   28,00,000
2
7. Net worth = Fixed Assets + Current Assets – Long-term Debt – Current Liabilities
= 28,00,000 + 16,00,000 – 0 – 8,00,000
= 36,00,000
8. Reserves & Surplus
Capital  0.25
Net worth = Reserves and Surplus + Capital
36,00,000
Capital =  28,80,000
1.25
Reserves and Surplus = 0.25 x 28,80,000
= 7,20,000
9. Cash = Liquid Assets – Debtors
= 10,00,000 – 7,00,000 = 3,00,000
10. Long Term Debts = Nil
Draft Balance Sheet

(Note: The above solution has been worked out by ignoring the Net worth to Fixed assets ratio
given in the question in order to match the total of assets and liabilities in the Balance Sheet).
16. Comment on Debt Service Coverage Ratio (DSCR)
Debt service coverage ratio indicates the capacity of a firm to service a particular level of debt
i.e. repayment of principal and interest. High credit rating firms target DSCR to be greater than
2 in its entire loan life. High DSCR facilitates the firm to borrow at the most competitive rates.
Lenders are interested in this ratio to judge the firm’s ability to pay off current interest and
installments.
The debt service coverage ratio can be calculated as under:
Earnings available for debt service
Debt Service Coverage Ratio  Interest + Installments
EBITDA
Or, Debt Service Coverage Ratio =
Principal Repayment Due
Interest  1 - Tc