Q.1 - what is accounting? Explain its concepts and conventions.

Ans. Accounting is a business language, which is used to communicate financial information to the
company's stakeholders, regarding the performance, profitability and position of the enterprise and help
them in rational decision making. The financial statement is based on various concepts and conventions.

Definition of Accounting Concept

Accounting Concepts can be understood as the basic accounting assumption, which acts as a foundation
for the preparation of financial statement of an enterprise. Indeed, these form a basis for formulating
the accounting principles, methods and procedures, to record and present the financial transactions of
business.

1. Business Entity Concept: The concept assumes that the business enterprise is independent of its
owners.
2. Money Measurement Concept: As per this concept, only those transaction which can be
expressed in monetary terms are recorded in the books of accounts.
3. Cost concept: This concept holds that all the assets of the enterprise are recorded in the
accounts at their purchase price
4. Going Concern Concept: The concept assumes that the business will have a perpetual
succession, i.e. it will continue its operations for an indefinite period.
5. Dual Aspect Concept: It is the primary rule of accounting, which states that every transaction
effects two accounts.
6. Realisation Concept: As per this concept, revenue should be recorded by the firm only when it is
realized.
7. Accrual Concept: The concept states that revenue is to be recognized when they become
receivable, while expenses should be recognized when they become due for payment.
8. Periodicity Concept: The concept says that financial statement should be prepared for every
period, i.e. at the end of the financial year.
9. Matching Concept: The concept holds that, the revenue for the period, should match the
expenses.

Accounting Convention-

An accounting convention is a set of rules and practices. These are guidelines for recording your
business transactions. Accounting conventions are certain restrictions for the business transactions that
are complicated and are unclear. Although accounting conventions are not generally or legally binding,
these generally accepted principles maintain consistency in financial statements.
 1. Consistency: Financial statements can be compared only when the accounting policies are
followed consistently by the firm over the period. However, changes can be made only in special
circumstances.
2. Disclosure: This principle state that the financial statement should be prepared in such a way
that it fairly discloses all the material information to the users, so as to help them in taking a
rational decision.
3. Conservatism: This convention states that the firm should not anticipate incomes and gains, but
provide for all expenses and losses.
4. Materiality: This concept is an exception to the full disclosure convention which states that only
those items to be disclosed in the financial statement which has a significant economic effect.

Q.2 - Explain financial accounting? Distinguish between financial accounting and management
accounting/ cost accounting.

Ans. Financial Accounting is the process of recording, summarizing and reporting transactions and
revenue-expense generations in a time period. For example, investors or sponsors need to verify an
account statement before showing interest in associating with the business. Financial Accounting is the
process of documenting, analyzing and reporting every transaction of a business or an organization, in
order to assess the financial health and stability of the same.

Distinguish between financial accounting and management accounting/ cost accounting.

 Financial accounting focuses on historical financial data that has already occurred.
 Cost accounting focuses on the current costs of producing goods or services.
 Management accounting focuses on both historical and future data, with a focus on improving
organizational performance.

Q.3 - Explain the types and significance of ratio analysis.

Ans. Ratio Analysis Types refer to different forms of ratio analyses that are conducted to figure out the
exact status or progress of a business. The ratio analysis forms help analyze the company’s financial and
trend of the company’s results over years. It is a fundamental tool that every company uses to ascertain
the financial liquidity, debt burden, profitability, and how well it is placed in the market compared to its
peers.
Type #1 – Profitability Ratios

This type of ratio analysis suggests the returns generated from the Business with the Capital Invested.

 Gross Profit Ratio

It represents the company’s operating profit after adjusting the cost of the goods that are sold. The
higher the gross profit ratio, the lower the cost of goods sold, and the greater satisfaction for the
management.

Gross Profit Ratio Formula = Gross Profit/Net Sales*100.

 Net Profit Ratio

It represents the company’s overall profitability after deducting all the cash & no cash expenses: the
higher the net profit ratio, the higher the net worth, and the stronger the balance sheet.

Net Profit Ratio Formula = Net Profit/Net Sales*100

 Operating Profit Ratio

It represents the soundness of the company and the ability to pay off its debt obligations.

Operating Profit Ratio Formula = Ebit/Net sales*100

 Return on Capital Employed ROCE represents the company’s profitability with the capital
invested in the business.

Return on Capital Employed Formula = Ebit/Capital Employed

Type #2 – Solvency Ratios

These ratio analysis types suggest whether the company is solvent & can pay off the lenders’ debts or
not.

 Debt-Equity Ratio-This ratio represents the leverage of the company. A low d/e ratio means that
the company has a lesser amount of debt on its books and is more equity diluted. A 2:1 is an
ideal debt-equity ratio to be maintained by any company.

Debt Equity Ratio Formula = Total Debt/Shareholders Fund.

 Interest Coverage Ratio

It represents how many times the company’s profits can cover its interest expense It also signifies the
company’s solvency shortly since the higher the ratio, the more comfort to the shareholders & lenders
regarding servicing of the debt obligations and smooth functioning of the business operations of the
company.

Interest Coverage Ratio Formula = Ebit/Interest Expense

Type #3 – Liquidity Ratios

These ratios represent whether the company has enough liquidity to meet its short-term obligations or
not. Higher liquidity ratios are more cash-rich for the company.

 Current Ratio-It represents the company’s liquidity to meet its obligations in the next 12
months. Higher the current ratio, the stronger the company to pay its current liabilities.
However, a very high current ratio signifies that a lot of money is stuck in receivables that might
not be realized in the future.

Formula = Current Assets / Current Liablities

 Quick Ratio-It represents how cash-rich the company is to pay off its immediate liabilities in the
short term.

Quick Ratio Formula = Cash & Cash Equivalents+Marketable Securities+Accounts

Receivables/Current Liabilities

Type #4 – Turnover Ratios

 These ratios signify how efficiently the assets and liabilities of the company are used to generate
revenue.

 Fixed Assets Turnover Ratio-Fixed asset turnover represents the efficiency of the company to
generate revenue from its assets. In simple terms, it is a return on the investment in fixed
assets.

Net Sales = Gross Sales – Returns. Net Fixed Assets = Gross Fixed Assets –Accumulated Depreciation.

Average Net Fixed Assets = (Opening Balance of Net Fixed Assets + Closing Balance of Net Fixed
Assets)/2

 Inventory Turnover Ratio-The Inventory Turnover Ratio represents how fast the
company can convert its inventory into sales. It is calculated in days signifying the time
required to sell the stock on an average. The average inventory is considered in this
formula since the company’s inventory keeps on fluctuating throughout the year.

Inventory Turnover Ratio Formula = Cost of Goods Sold/Average Inventories

5 – Earning Ratios

This ratio analysis type speaks about the company’s returns for its shareholders or investors.

 P/E Ratio -PE Ratio represents the company’s earnings multiple and the market value of the
shares based on the pe multiple. A high P/E Ratio is a positive sign for the company since it gets
a high valuation in the market for m&a opportunities.

P/E Ratio Formula = Market Price per Share/Earnings Per Share

 Earnings Per Share

Earnings Per Share represents the monetary value of the earnings of each shareholder. It is one of the
major components looked at by the analyst while investing in equity markets

.Earnings Per Share Formula = (Net Income – Preferred Dividends) / (Weighted Average of Shares
Outstanding)

 Return on Net Worth

It represents how much profit the company generated with the invested capital from equity &
preference shareholders both.
Return on Net Worth Formula = Net Profit/Equity Shareholder Funds. Equity Funds =
Equity+Preference+Reserves -Fictitious Assets.

Q.4 - define Depreciation and what are the causes for Depreciation ?

Ans. Depreciation is a measure of the wearing out, consumption or other loss of value of a depreciable
asset arising from use, effluxion of time or obsolescence through technology and market changes.
Depreciation can be easily defined as a reduction in the carrying amount of a fixed asset. Depreciation is
equated with a value of consumption of the asset for a specific period. Over the span of an asset, over
which it is considered usable, depreciation brings down the value of the asset to a salvage value.

This salvage value is the sum of money that is expected to accrue to the owner if he makes a sale of the
asset. Or it can be said to be the scrap value that he gets on disposal of the asset. Following are the
causes of depreciation:

Wear and Tear of the Asset

Every machinery or tool is bound to undergo wear over a period of time. There will be parts that may
need replacing or repairing. Usually, such assets have a fixed span of life, after which, they need to be
scrapped. This wear and tear of the asset must be accounted for in financial terms, hence depreciation.

Perishability of Inventory

Items such as raw material and inventory, undergone deterioration over a quick span of time. This is
faster in relation to a fixed asset, which normally lasts for a few years at least. This perishability of assets
is a point of consideration for depreciation accounting.

Usage Right Expiration

Some assets such as software and licenses have a typical span over which it can be used. As soon as this
time span finishes, the owner has to give up using the asset. So the depreciation of this asset must be
done over time, it cannot just be written off on the day of expiration.

Obsolescence

Another cause of depreciation is the obsolute nature of certain assets. Over a period of time, every asset
loses its novel value. A new alternative can always be developed for replacing the asset and its
functions.

Need to Comply with Accounting Standards

As per the guidelines set down in the standard of accounting, a firm needs to follow the matching
concept. This means that the funds for replacing the asset are set aside at regular intervals. Also, the
expense related to each period is charged to that period simultaneously.

Q5- what do you mean by financial statement analysis. What are the various tools and techniques to
analysis the financial statement?

Ans.Financial analysis tools are the finance tools that help to maintain the company/organization’s
financial position through planning, controlling, and analyzing financial business transactions. The top
four financial analysis tools are common size statements, comparative financial statements, ratio
analysis, and benchmarking analysis.
#1 – Common Size Statements

It is the first financial analysis tool. In the market, companies of various sizes and structures are
available. To compare them, one must prepare their financial statement in absolute formats bringing all
the particulars. The globally acceptable form to disclose the financials for comparison is to bring data in
a percentage format. The organization will prepare main financial statements like financial statements
like common size balance sheet, common size income statement, and common-size cash flow
statement.

It will adequately disclose all the items for internal or external analysis with the peer group in
percentage form. For example, the balance sheet can consider the base of total assets. The income
statement may contemplate the base level of net sales, and the cash flow statement
can depend on the base level of total cash flows.

#2 – Comparative Financial Statement

Comparative financial statements are used in horizontal analysis or trend analysis. It helps analyze the
periodic change in various components of the financial statements and displays which element has the
maximum impact. One can prepare such financial statements in currency amount terms or percentage
terms.

Thus, one can easily compare the periodic data numerically or in percentage terms from the above.

#3 – Ratio Analysis

Ratio analysis is the most commonly used financial analysis tool by analysts, experts, internal financial
planners, the analysis department, and other stakeholders. It has various kinds of ratios, which can help
in commenting on.

 Profitability ratio formula

 Rate of return analysis
 Solvency ratios
 Liquidity
 Coverage of interest or any cost
 Comparing any component with turnover

Type 4 benchmarking

Benchmarking is the process of comparing the actuals with the targets set by the top management. It
also refers to the comparison made with the best practices and strives to achieve the same.
In this procedure, the below steps are to be performed: –

Step 1: Select the area which needs to be optimized.

Step 2: Identify the trigger points to compare them.

Step 3: Try to set up a better standard or take industrial standards as the benchmark.

Step 4: Evaluate the periodic performance and measure the trigger points.

Step 5: Check whether the same is achieved; if not, do variance analysis

Step 6: If achieved, strive to set up a better benchmark.