U17MBT7000-ENGINEERING

ECONOMICS & FINANCIAL

MANAGEMENT

Dr.S.Kaliappan /AP - II
Department of Electrical & Electronics Engineering
CH5: ACCOUNTING SYSTEM, STATEMENT
AND FINANCIAL ANALYSIS
CONTENTS
 Accounting system
 Systems of Book-Keeping
 Journal
 Ledger
 Trial Balance
 Financial Statements
 Ratio Analysis
 Types of Ratio Analysis
 Significance and Limitations of Ratio Analysis.
 ACCOUNTING SYSTEM:
 An accounting system manages a business's records to keep track of
Income, Expenses, and other Financial Activities.

 These records used to create reports.

 Accounting methods are modified to fit the specific accounting needs of a

company.

 A good accounting system should provide Managerial Reports, Financial

Statements, Reports Prepared for Outsiders and adequate information to file
Tax Returns.
 ACCOUNTING SYSTEM-SIGNIFICANCE:
 Maintain its own records of Business

 Monitor the Business Activities

 Calculate Profit or Loss for a given period

 Fulfill legal obligations

 Shows the financial position for a given period

 Communicated the information to the interested parties.

ACCOUNTING SYSTEM-USERS:
Owners
They want to know how their business is going on

Creditors or Financial Institutions

They want to know whether their funds are safe or not

Managers
They can know whether their decision are effective or not

Government or Tax Authorities

It assess the tax liability of the firm.

Employees
If they can put their claims for better wages or better facilities
SYSTEMS OF BOOK-KEEPING
 SYSTEM OF BOOK-KEEPING:
 Book-Keeping is the process of recording all your business
transactions to produce a set of accounting records.
 This transactions includes Purchases, Sales, Receipts, and Payments
made by an individual person or an organization/corporation
 It is the start of an accounting process which allows you to produce
useful accounting information about your sales, expenses, assets,
liabilities and equity.
TYPES OF BOOK-KEEPING:

 Single Entry System

 Double Entry System
 Manual System
 Computerized System
SINGLE ENTRY ACCOUNTING SYSTEM
 It is a form of bookkeeping method in which each of a company's financial
transactions are recorded as a single entry(One Sided) in a log.

 It is known as an incomplete or unscientific method for recording transaction.

 In this bookkeeping method, the transaction must be recorded against only one
category, either an income account or an expense account.

 However, there are no journal entries made to balance the accounts.

 Therefore, errors can occur often and undetected.

 SINGLE ENTRY ACCOUNTING SYSTEM

Either the amount entered in Income column or Expenses Column  Cash Book is the perfect example
DOUBLE ENTRY ACCOUNTING SYSTEM
 It is a system of bookkeeping, where every entry to an account requires a
corresponding and opposite entry to a different(another) account.

 The double-entry has two equal and corresponding sides known as debit
and credit.

 The main principle of the double-entry system is that for every debit
there is a corresponding credit for an equal amount of money and for
every credit there is a corresponding debit for an equal amount of money.
DOUBLE ENTRY ACCOUNTING SYSTEM
DOUBLE ENTRY ACCOUNTING SYSTEM
MANUAL ACCOUNTING SYSTEM

 Manual accounting systems imply that there is no computer involved in the accounting
process.

 The accountant is responsible for recording all journal entries in all journals, as well as
corresponding entries and adjustments.

 The accountant must make all calculations, prepare the financial statements, file tax
forms, etc.

 Thus, this accounting system usually takes more time and allows room for more human
errors.

 However, it can save costs by eliminating the need for computers and accounting
programs.
COMPUTERIZED ACCOUNTING SYSTEM

 A computerized accounting system is the use of a computer

program to accomplish accounting functions.

 This type of accounting system requires less work from the

accountant but requires an accountant with specialization in
that specific accounting software.
JOURNAL & LEDGER
JOURNAL ENTRY:
 A journal entry is a record of the business transactions in the accounting books of a

business.

 A properly documented journal entry consists of the correct date, amounts to be debited

and credited, description of the transaction and a unique reference number.

 The journal entry contains the following information's.

Date of the Transaction
Title of the account debited
Title of the account credited
Amount of the debit and credit
Description of the transactions.
JOURNAL ENTRY:
JOURNAL ENTRY-TYPES:
 SIMPLE ENTRY: An entry for a transaction that affects only
two accounts (debit & credit).

 COMPOUND ENTRY: An entry for a transaction that affects

more than two accounts.
 Whether the entry is simple or compound, the debits and credits must
always equal.
LEDGER:
 A general ledger represents the record-keeping system for a
company's financial data with debit and credit account records
validated by a trial balance.

 A group of related accounts kept current in a systematic manner.

 Think of a ledger as a book with one page for each account

 The general ledger provides a record of each financial transaction

that takes place during the life of an operating company.
LEDGER:
LEDGER ACCOUNTS:
 A simplified version of a ledger account is called the T-Account.
 They allows us to capture the essence of the accounting process without having to
worry about too many details.
 The account is divided into two sides for recording increases and decreases in the
accounts.
DEBITS & CREDITS:
 Debit (dr.)  An entry or balance on the left side of an account.

 Credit (cr.)  An entry or balance on the right side of an account

 Debit is always in the Left Side.

 Credit is always in the right side.

TRIAL BALANCE:
 A trial balance is a bookkeeping worksheet in which the balance of all
ledgers are compiled into debit and credit account column totals that are
equal.

 A company prepares a trial balance periodically, usually at the end of

every reporting period.

 PURPOSE:
 To determine that debits = credits

 To identify accounts to be adjusted

TRIAL BALANCE:
FINANCIAL STATEMENTS
FINANCIAL STATEMENTS:
 Financial statements are reports that summarize
important financial accounting information like financial activities
and position of a business, person, or other entity.

 Relevant financial information is presented in a structured manner

and in a form, which is easy to understand.
FINANCIAL STATEMENTS-PURPOSE:

 To inform owners about the financial position of the organisation.

 To inform managers, the achievements/shortfalls in the

performance of the business.

 To secure and maintain the finance.

 To fulfil statutory obligations.

 To assess tax liability.

 To determine liquidity, solvency and profitability of the business.

FINANCIAL STATEMENTS:
FINANCIAL STATEMENTS-TYPES:

Financial
FinancialStatements
Statementsare
areprepared
prepareddirectly
directlyfrom
fromthe
theAdjusted
AdjustedTrial
Trial
Balance.
Balance.

Income Statement of
Statement of
Balance Sheet Statement Retained
 Trading account Cash Flows
 Profit and loss account Earnings
 BALANCE SHEET:
Assume the following adjusted Trial Balance Sheet
Balance

Adjusted Trial Balance Debit Credit Balance Sheet

Cash $ 140,000 Assets
Accounts receivable 35,000
Cash $ 140,000
Building 190,000
Note payable $ 150,000 Accounts receivable 35,000
Common stock 100,000 Building 190,000
Retained earnings 38,000 Total assets $ 365,000
Dividends declared 10,000 Liabilities
Sales 185,000 Note payable 150,000
Interest income 17,000
Stockholders' equity
Cost of goods sold 47,000
Salary expense 25,000
Common stock 100,000
Depreciation expense 43,000 Retained earnings 115,000
$ 490,000 $ 490,000 Total liab. & equity $ 365,000

A balance sheet is a financial statement that reports a company's assets, liabilities and shareholders' equity.
 INCOME STATEMENT:
Assume the following Adjusted Income Statement
Trial Balance

Adjusted Trial Balance Debit Credit Income Statement

Cash $ 140,000 Revenues:
Accounts receivable 35,000
Sales $ 185,000
Building 190,000
Note payable $ 150,000 Interest income 17,000
Common stock 100,000 Total revenue 202,000
Retained earnings 38,000 Expenses:
Dividends declared 10,000 Cost of goods sold 47,000
Sales 185,000 Salary expense 25,000
Interest income 17,000
Depreciation expense 43,000
Cost of goods sold 47,000
Total expenses 115,000
Salary expense 25,000
Depreciation expense 43,000 Net income $ 87,000
$ 490,000 $ 490,000

An income statement is a financial statement that shows you how profitable your business was over a given
reporting period. It shows your revenue, minus your expenses and losses.
STATEMENT OF RETAINED EARNINGS
Assume the following Adjusted Statement of Retained
Trial Balance Earnings

Adjusted Trial Balance Debit Credit Statement of Retained Earnings

Cash $ 140,000
Accounts receivable 35,000
Beginning balance $ 38,000
Building 190,000
Note payable $ 150,000 + Net income 87,000
Common stock 100,000 - Dividends (10,000)
Retained earnings 38,000 Ending balance 115,000
Dividends declared 10,000
Sales 185,000
Interest income 17,000
Cost of goods sold 47,000
The statement of retained earnings (retained earnings
Salary expense 25,000
Depreciation expense 43,000 statement) is a financial statement that outlines the
$ 490,000 $ 490,000
changes in retained earnings for a company over a
specified period.
STATEMENT OF CASH FLOWS:

 A cash flow statement is a financial statement that summarizes the amount

of cash and cash equivalents entering and leaving a company.
 The cash flow statement measures how well a company manages
its cash position, meaning how well the company generates cash to pay its
debt obligations and fund its operating expenses.
STATEMENT OF CASH FLOWS:
RATIO ANALYSIS
RATIO ANALYSIS:

 It is the process of determining and interpreting numerical relationship

based on financial statements.

 By computing ratios, it is easy to understand the financial position of the

firm.

 Ratio Analysis is used to focus on the financial issues such as liquidity,

profitability and solvency of a given firm.

RATIO ANALYSIS:
 LIQUITITY: It refers to how well the firm is in the position to meet its short-

term commitments such as payment of salaries, taxes and so on.

 PROFITABILITY: It refers to how capably the firm is conducting its business

operation in a profitable manner.

 SOLVENCY: It refers to the firm’s position to meet its long-term commitments

such as repayment of long-term loans, etc.,

OBJECTIVES OF RATIO ANALYSIS
 Standardize financial information for comparisons

 Evaluate current operations

 Compare performance with past performance

 Compare performance against other firms or industry standards

 Study the efficiency of operations

 Study the risk of operations

TYPES OF RATIO ANALYSIS
 Liquidity Ratios

 Activity Ratios

 Capital Structure Ratios

 Profitability Ratios
LIQUIDITY RATIOS:
Total current assets

Current ratio compares current

assets to current liabilities.

Total current liabilities

Acid-test (or quick) ratio Cash and equivalents

measures the ability of a firm + short-term investments
to meet its debt payments on + accounts receivable
short notice.

Total current liabilities

ACTIVITY RATIOS:
Net sales

Inventory turnover ratio

indicates the number of
times merchandise moves
through a business.
Average of inventory

Net sales
Total asset turnover ratio
indicates how much in sales each
dollar invested in assets
generates.

Average of total assets

PROFITABILITY RATIOS:
Profitability ratios measure the organization’s overall financial performance by evaluating its
ability to generate revenues in excess of operating costs and other expenses.
LEVERAGE RATIOS:
Leverage ratios measure the extent to which a firm relies on debt financing.

Total liabilities to total assets ratio > 50 percent indicates that a firm is relying more
on borrowed money than owners’ equity.
SUMMARY OF FINANCIAL RATIOS
 Ratios help to:
 Evaluate performance
 Structure analysis
 Show the connection between activities and performance

 Benchmark with
 Past for the company
 Industry

 Ratios adjust for size differences

LIMITATIONS OF RATIO ANALYSIS
 Accounting data of several years cannot be highlighted.

 Qualitative factors cannot be considered

 Accounting practices differ across firms

 Sometimes difficult to interpret deviations in ratios

 Industry ratios may not be desirable targets

 Seasonality affects ratios (Manipulated)

THANK YOU….!