Debt to Equity Ratio, Direct Cost & Indirect Cost - Assignment Example

1. Part A 1. It is not necessary that the net profit equals the increase in bank balance because business units allow customers to use cash as a mechanism of payment. Further some drawings might have been made from the bank which doesn’t affect the net profit. 2. The fair value accounting would have made assets to be revalued. (Fair Value Accounting, 2010) But the historical principle requires disclosing assets at the purchase price. (Historical Cost, 2010) The company is following the later and this helps to reduce fluctuations in the value each year. 3. An asset which is used over a period of time wears down and the value reduces. The amount by which the value falls is depreciation. (Depreciation, 2010) Organisations have a separate account as accumulated depreciation so that the amount charged as depreciation can be entered here so that when the asset becomes obsolete replacing it becomes easy. Crediting the value to the asset will be against “the historical cost principle of disclosing the asset at cost”. (Historical Cost, 2010) It will also further lead towards various fluctuations creating confusion. 4. Since, the payment of insurance was for a personal use it cannot be considered a business transaction. The entry for a personal payment as insurance will be recorded as drawings in the balance sheet and will reduce owners’ capital. 5. The profit which is ascertained after all the direct expenses related to a product are charged is gross profit. Net profit is the final profit which is arrived after all the expenses have been charged. (Net Profit, 2010) Gross profit thus considers direct cost and net profit indirect cost. The most important for the firm is net profit as it is the final figure which the business has though gross profit also has a lot of relevance. Part B 1. Costs which are directly identified to a product is direct cost whereas cost which is identified to the process and not identified to the product is indirect cost. (Direct Cost, 2010) Since, manufacturing cost can be easily identified to the product it is direct cost. 2. Work in progress is goods which are neither finished nor raw material but have been worked upon and further working will it will result it to be converted to finished goods. It is to be treated as current assets. 3. The overhead rate is calculated by dividing the total cost by the labour hours. This helps to find the cost per labour hour. Assigning cost on the basis of it helps to ascertain the cost of each product with accuracy at the same time changes in the cost can be ascertained. 4. Manufacturing overhead is an expense which organisation incurs to manufacture goods so it has a debit balance. $56,000 shows the amount incurred to produce goods. The amount was finally charged to income statement as it is an expense and needs to be charged. 5. Cost which doesn’t change with the output production is fixed cost. Costs on the other hand which changes with the output production is variable cost. (Variable Cost, 2010) For example rent is fixed but salary to labour is variable. In relation to the direct and indirect cost fixed and variable cost can be accounted in both and depends on the expense incurred. 2. Cost Sheet A. Schedule of Cost of Goods manufactured for the year ended 30th June 2008   Amount Amount Direct material consumed     Opening stock of raw material 22000   Add: Purchases made during the year 48000     70000   Less: Closing stock of raw material -20000   Raw material Consumed   50000 Direct Labor   35000 Freight Charges   5000 Manufacturing Overhead     Indirect Labor 15000   Indirect Material 10000   Factory Insurance 20000   Depreciation of Factory 25000   Depreciation on Plant & Machinery 15000   Maintenance of Plant & machinery 50000   Factory Electricity 55000   Factory property rates 20000   Administrative cost (60% 0f total administrative cost) 60000   Total manufacturing Overhead   270000 Total Manufacturing cost   360000 Add: Beginning Work in Progress   67000     427000 Less: Closing Work in Progress   -60000 Cost of Goods Manufactured   367000 B. Units produced = 2000 Inventorial Unit cost per shower = Cost of goods manufactured / Units produced = 367000 / 2000 = $183.5 C. Selling and distribution cost for Alex Industries   Amount Advertisement Cost 49000 Sales Commission 55000 Rental of retail shop 151000 Administrative cost (40% of administrative cost) 40000 Salesman Salary 59000 Total 355000 So, total cost = 355000 + 367000 = 722000 Units sold = 2000 Revenue from sales = 350 * 2000 = 700000 Loss = 700000 – 722000 = 22000 So selling the showers at $305 will result in Alex industries suffering a loss of $ 22000. D. Allocating cost on the basis of direct labour cost is good method to ascertain the cost of the product. This helps to distribute the cost on the basis of hours used to manufacture goods. Alex company can also look towards allocating cost on the basis of basis of units produced but allocating on the basis of labour hours is a sounder method. 3. Bank Reconciliation Statement A. The Bank Reconciliation statement for R Gordon for 31st January 2008     Amount Debit Bank Balance as per cash book   19882 Add:     Cheque to be presented for payment     Chq no 1520 1940   Chq no 1522 493   Chq no 1525 4534 6967 Amount wrongly deposited into bank account   525 EFT collection during the month     Customer deposit 1250   Collection of Bills receivable which includes interest 2000 3250     30624 Less:     EFT on 15th January   680 Bank charges   50 Money deposited into bank account but not credited in the bank account   4076 Cheque being dishonored by bank   882 An amount of $8525 wrongly debited by bank instead of $8252   273 Bank Balance as per bank book   24663 B. The schedule for necessary adjustments is as follows   Amount   Balance as per bank statement on 31st January 24663 Item 1 Adjustments:     Cheques not presented for payment -6967 Item 4 Cheque deposited but credited in bank account 4076 Item 5 Amount wrongly credited to bank account -525 Item 7   21247     Amount   Balance as per cash book on 31st January 19882 Item 10 Adjustments:     Bank Charges -50 Item 3 Payment of insurance through EFT -680 Item 2 Cheque dishonored due to insufficient fund -882 Item 6 EFT collection made by bank 3250 Item 8 Excess amount charged by bank for payment -273 Item 9   21247   4. Independent Cases A. The internal weakness demonstrated here is the additional time the accountant Jeanette has to incur to ensure the amount is deposited in the bank. It also increases the risk to carry cash to the bank. Using cheques instead could solve the purpose. Also it would ensure quicker transaction and reduce the posting from different ledgers as using cheque would solve the purpose and reduce weakness. B. The internal weakness shown here is the risk of information being leaked to outside parties. Hiring new employees as casual workers needs to make them understand the working condition which also consumes time. It also increases the workload as new files have to prepare highlighting inefficiency. The greatest weakness here is of the chances of leakage of information. C. The weakness seen here is the chances that the data might be mishandled. As every employee can use the server it increases the chances of information to be leaked. Further there are chances of information being deleted as storing at the single place increases the chance of the data to be mishandled and lost due to negligence. D. The weakness demonstrated is providing wrong information to the store keeper. The inspection officer as in not monitored might allow certain raw materials which are below the standards. These goods in the future would have to be disposed as they are unsuitable. Thus it is a weakness and could affect the long term potential leading to improper stocking. E. The weakness here is the programmer discretion to change the program. This could make the data collected obsolete and making many changes could result in the process loosing relevance. The further fact that the data can be distorted as changing and typing it again could lead towards distortion. Thus it would render the process inefficient. 5. Ratio Analysis A. Ratios for Mary Consultancy Current Ratio = Current Assets / Current Liabilities = 346198 / 154652 = 2.24 Inventory Turnover Ratio = Cost of Goods Sold / Average Inventory = 4310 / 2760 = 1.56 Debt to Equity Ratio = Debts / Equity = 154652 / 394255 = 0.39 Gross Profit Margin = Gross Profit / Sales * 100 = 108569 / 112879 * 100 = 96.18% B. Ratio analysis helps to determine the financial position of an organisation by concentrating on minute details. This helps to understand the performance better. Decisions based on it are sounder. It thereby helps to make future forecast and helps to understand the growth potential. The above ratios thus presents the following Current Ratio: “It helps to whether the firm is able to meet its current liabilities out of its current assets”. (Ward, 2010) It helps to plan for the short term. The ratio is 2.24. The ratio indicates soundness and the ability to meet the short term debt. A ratio of 2 is considered sound so Mary Consultancy is performing well. Inventory Turnover Ratio: “It is defined as the rotation inventory makes in an accounting cycle”. (Little, 2010) Companies prefer it to be high. The ratio is 1.56. It indicates the no of times Mary Consultancy has revolved its inventory. The company heeds to improve it so that less money is parker in inventories. Debt to Equity Ratio: “It helps to find how much percentage long term debt are in proportion to equity fund”. (Debt to equity, 2010) It shows the soundness of the business firm. The ratio is 0.39. It shows that the company has a scope for more investment through debts. This is a good sign and shows the company has a space for future projects. Gross Profit Margin: “It is the profit which is calculated after all the direct expenses has been accounted for and is based on the sales”. (Gross profit Margin, 2010) Gross profit helps to find out the actual profit that is attributed directly to the product. The ratio is 96.18%. A higher gross profit indicates soundness in manufacturing process. It also shows that the strategies are well managed. References Debt to equity, (2010), “Debt to equity ratio”, retrieved on September 30, 2010 from http://www.valuebasedmanagement.net/methods_debt_to_equity_ratio.html Depreciation, (2010), “Depreciation”, retrieved on September 30, 2010 from http://www.accountingcoach.com/online-accounting-course/11Xpg01.html Direct Cost, 2010, “Direct Cost & Indirect Cost”, retrieved on September 30, 2010 from http://www.marcbowles.com/courses/adv_dip/module7/chapter8/amc7_ch8one4.htm Fair Value Accounting, (2010), “Fair Value Accounting”, retrieved on September 30, 2010 from http://www.valuebasedmanagement.net/methods_fairvalue.html Gross profit Margin, (2010), “Gross Profit Margin”, retrieved on September 30, 2010 from http://www.bized.co.uk/compfact/ratios/profit3.htm Historical Cost, (2010), “Historical Cost”, retrieved on September 30, 2010 from http://moneyterms.co.uk/historical-cost/ Little K, (2010), “Understanding Inventory turnover ratio”, about.com Guide, The New York Times Company Net Profit, (2010), “Net Profit”, retrieved on September 30, 2010 from http://www.investorwords.com/3259/net_profit.html Ward S, (2010), “Is Your Business Sick: Current Ratio”, about.com Guide, the New York Times Company Variable Cost, (2010), “Variable & Fixed cost”, retrieved on September 30, 2010 from http://economics.fundamentalfinance.com/micro_costs.php Read More