SUCM206

SUCM 206 / SUCR 204 /
SUBT 206 / SUCC 206
UNDERGRADUATE COURSE
BCOM - GENERAL COMMERCE,
BCOM - BANK MANAGEMENT
BCOM - COMPUTER APPLICATIONS
BCOM - CORPORATE SECRETARYSHIP
SECOND YEAR
FOURTH SEMESTER
CORE PAPER - VIII

CORPORATE ACCOUNTING - II
INSTITUTE OF DISTANCE EDUCATION

UNIVERSITY OF MADRAS
BCOM - GENERAL COMMERCE, CORE PAPER - VIII
BANK MANAGEMENT, CORPORATE ACCOUNTING - II
COMPUTER APPLICATIONS,
CORPORATE SECRETARYSHIP
SECOND YEAR - FOURTH SEMESTER
WELCOME
Warm Greetings.
It is with a great pleasure to welcome you as a student of Institute of Distance Education,

University of Madras. It is a proud moment for the Institute of Distance education as you are
entering into a cafeteria system of learning process as envisaged by the University Grants
Commission. Yes, we have framed and introduced Choice Based Credit System(CBCS) in
Semester pattern from the academic year 2018-19. You are free to choose courses, as per the
Regulations, to attain the target of total number of credits set for each course and also each
degree programme. What is a credit? To earn one credit in a semester you have to spend 30
hours of learning process. Each course has a weightage in terms of credits. Credits are assigned
by taking into account of its level of subject content. For instance, if one particular course or
paper has 4 credits then you have to spend 120 hours of self-learning in a semester. You are
advised to plan the strategy to devote hours of self-study in the learning process. You will be
assessed periodically by means of tests, assignments and quizzes either in class room or
laboratory or field work. In the case of PG (UG), Continuous Internal Assessment for 20(25)
percentage and End Semester University Examination for 80 (75) percentage of the maximum
score for a course / paper. The theory paper in the end semester examination will bring out your
various skills: namely basic knowledge about subject, memory recall, application, analysis,
comprehension and descriptive writing. We will always have in mind while training you in
conducting experiments, analyzing the performance during laboratory work, and observing the
outcomes to bring out the truth from the experiment, and we measure these skills in the end
semester examination. You will be guided by well experienced faculty.
I invite you to join the CBCS in Semester System to gain rich knowledge leisurely at
your will and wish. Choose the right courses at right times so as to erect your flag of success.
We always encourage and enlighten to excel and empower. We are the cross bearers to make
you a torch bearer to have a bright future.
With best wishes from mind and heart,
DIRECTOR
(i)
BCOM - GENERAL COMMERCE, CORE PAPER - VIII
BANK MANAGEMENT, CORPORATE ACCOUNTING - II
COMPUTER APPLICATIONS,
CORPORATE SECRETARYSHIP
COURSE WRITER
Dr. R. Panchalan
Professor in Commerce
Institute of Distance Education,
University of Madras,
Chennai - 600 005.
(Lessons 1 to 5)
Dr. S. Kumaran
Assistant Professor
Department of Commerce
A.M. Jain College
Chennai - 600 114.
(Lessons 6 to 10)
EDITING
Dr. P. Hemavathy Dr. R. Panchalan

Assistant Professor in Commerce (T) Professor in Commerce
Institute of Distance Education Institute of Distance Education
University of Madras, University of Madras,
Chennai - 600 005. Chennai - 600 005.
© UNIVERSITY OF MADRAS, CHENNAI 600 005.
(ii)
BCOM., DEGREE COURSE
SECOND YEAR
FOURTH SEMESTER
Core Paper - VIII
SYLLABUS
UNIT I
Human Resource Accounting – Accounting Standards - Financial Reporting practice –
Accounting for price level changes – (Theory Only)
UNIT II
Final Accounts of insurance companies including balance sheet
UNIT III
Final accounts of banking companies including balance sheet
UNIT IV
Amalgamation – Absorption and external reconstruction of a company – (intercompany
investments excluded) Concept of Hostile Takeover (Theory only)
UNIT V
Liquidation – Calculation of Liquidator’s Remuneration - Liquidator’s final statement of

receipts and payments.
(iii)
REFERENCE BOOKS:
1. R.L.Gupta – Corporate Accounting
2. T.S.Reddy & A.Murthy – Corporate Accounting
3. Shukla & Grewal – Advanced Accounting
4. Jain & Narang – Company Accounts
5. Chakraborthy – Advanced Accountancy
(iv)
BCOM., DEGREE COURSE
SECOND YEAR
FOURTH SEMESTER
Core Paper - VIII
SCHEME OF LESSONS
Sl.No. Title Page
1. Human Resource Accounting 001
2. Accounting Standards 018
3. Financial Reporting Practices 031
4. Financial Disclosures Practices 044
5. Inflation Accounting 057
6. Insurance Company Accounts 089
7. Banking Company Accounts 143
8. Amalgamation and Absorptions 167
9. Holding Company and Subsidiary Company 190
10. Liquidation of a Company 210
(v)
1
LESSON 1
HUMAN RESOURCE ACCOUNTING

Learning Objectives
After reading this unit, you should be able to:
• Explain the meaning and nature of human resource accounting (HRA)
• Explain the functions of HRA
• Describe the methods HRA
• Explain the significance of HRA
• Highlight the applications and problems of HRA
Structure
1.1 Introduction
1.2 Definitions and Objectives of Human Resource Accounting
1.1 Functions of Human Resource Accounting
1.4 Need and Importance of HRA
1.5 Methods of Human Resource Accounting
1.6 Applications of the Human Resource Accounting
1.7 Problems in Implementation of Human Resource Accounting
1.8 Summary
1.9 Key Words
1.10 Review Questions
1.1 Introduction
Human resource is one of the important factors of production of the organization.
Compared to other factors, human resource possesses a lot of special features. For instance,
when the human resources are used the quality, productivity and potential of the human
resources are improved rather than decreased or depreciated. Today almost all the
2
organizations give top most priority for the human resource. Human resource is treated as
human capital. To put it in other words, human resource is the real asset of the organization.
The expenditures incurred on human resource should not be considered as mere expenditure.
Rather, the expenditure must be treated as real investment on human resource. It is said
that human resources are the most vital resources of any organization. Human Resource
Accounting or HRA is the method of calculating changes in manpower of the organization.
The increasing importance of Human capital throughout the economy has profound
implications for the role of Human Resource professionals in organizations. Realizing the
importance of human resource, a new concept of “Human resource Accounting” has come
into practice during 1960. In this unit, you can learn the meaning, need and methods of
valuation of human resource accounting.
1.2 Definitions and Objectives of Human Resource Accounting

According to American Accounting Society Committee on HRA defines “Human
resources accounting is the process of identifying and measuring data about human resources
and communicating this information to interested parties.”
Human resource accounting is an attempt to identify and report investments made in

human resources of an organisation that are presently not system that tells the management
what changes over time are occurring to the human resources of the business”.
Mr. Woodruff jr., Vice President of R.G. barry Corporation, defines it as follows:
“Human resources accounting is an attempt to identify and report investments made

in human resources of an organisation that are presently not accounted for in conventional
accounting practice. Basically it is an information system that tells the management what
changes over time are accruing to the human resources of the business.”
Thus HRA includes the following:
• Measurement of costs incurred on personnel like costs on recruitment, selection, training,

development, etc.
• Collection and documentation of vital information about human resources like

absenteeism, employee turnover, accidents involving human beings.
• Communication of the above information in appropriate form to those who might be

interest in receiving this information. These people include top management, investors
and consultants of the organization.
3
Objectives of the HRA
HRA is basically adopted to treat human resources as assets, to generate human

data about human resources, to assign value to human resources and to present human
assets in the balance sheet. But the following are the objectives of an HRA system:
1. To furnish cost value information for making management decisions about acquiring,
allocating, developing and maintaining human resources in order to attain cost effective
organisation objectives.
2. To allow management personnel to monitor effectively the use of human resources.
3. To provide a determination of asset control i.e., whether assets are conserved, depleted
or appreciated.
4. To aid in the development of management principles by classifying the financial

consequences of various practices.
1.3 Functions of Human Resource Accounting

One of the primary purposes of the Human Resource Accounting system is to help
management plan and control the use of Human Resources effectively and efficiently. Human
Resource accounting provides the information needed to acquire, develop, allocate, conserve,
criticize, evaluate and reward Human Resources. Human Resources accounting is a
framework and set of tools, both for Human Resource professionals and for senior
management.
Human Resource Accounting is a way of looking of Human Resource decisions and

issues. It sets measures for quantifying the effects of Human Resource Management strategies
upon the cost and value of people as organizational resources.
Functions
1. It serves as a framework to facilitate HR decision making
2. It provides numerical information about the cost and value of the people as organizational
resources.
3. It can motivate line management to adopt a HR perspective in their decisions involving

people.
4. It provides a perspective for analyzing the effects of decisions such as layoff on the
organization and for explaining the consequences to the management.
4
The ever-expanding dimensions and growing complexities of business activities,

increasing governmental monitoring in business affairs, pressing trade unions’ demand for
greater disclosure on human performance in business, and emanation of scientific
management within the organization necessitate the development of a system of accounting
for the associated men who are indispensable resources to an organization.
1.4 Need and Importance of HRA

HRA is gaining importance, as the human resources became the most important in
the organization. In the fastest growing industry of present time, namely, information
Technology Industry, there are adequate systems and procedures in some organizations
to gauge costs and value of human resource development. In all sunrise industries, special
emphasis is laid on developing manpower.
HRA has become very important considering the following aspects:
1. Non- availability of suitable and talented manpower.
2. Employee dissatisfaction adds to the cost of organization in various forms and

decreases the products and services of the organization both quantitatively and
qualitatively.
3. Conventional accounting measures the costs and other details relating to physical
assets but fails to give required emphasis on human resources.
4. Organizational competencies are nothing but the competencies of the employees.
5. Employees’ competencies cannot be copied by the competitor.
The costs and emphasis on human resources development has been increasing at a very
fast rate. Organizations are increasingly realizing that investing on human resources pays
off in the long run.
1.5 Methods of Human Resource Accounting

Various models have been developed for measurement and valuation of human assets.
Measuring costs on human resources and HRA is not easy as the intangible aspects like
dissatisfaction of employees, morale, and motivation are more important than the tangible
aspects. However, the following methods of HRA are gaining significance.
1. Historical method
2. Replacement method or Competitive bidding method

5
3. Present value method, and
4. Human asset multiplier method
5. Return on efforts employed method.
The methods of Human Resource Accounting are discussed below:
1. Historical Method
In historical cost method, unexpired costs on human resources are calculated and
accounted for. These are presented as investment on human resources. The expenses
incurred on recruitment, training and familiarization, experience building should be capitalized
in one group. In other group, information on the investment made for supervisory or managerial
personnel or group of individual for routine or current services may be obtained from basic
documents, such as invoices, current vouchers, etc. The total value so incurred is to be
allocated over the accounting periods the employees are expected to remain within the
organization. In other words, the total value is being amortized annually over the expected
length of services of individual employees. The unexpired cost is considered to be the
investment in HRAs.
Merits and Demerits:
First we can take merits of historical method of HRA.
1. It is easy to understand.
2. It is simple to compute the value of human resource under this method.
Demerits:
1. The historical method may not reveal the current value of the human resource.
2. It is difficult to predict how long an employee will serve in a particular organization.
2. Replacement Cost Method or Competitive Bidding Method
In this method,, we estimate the cost of replacement of human resources. This method
assesses the costs involved in setting up of any organization with similar manpower. In order
to overcome the limitations of the historical cost method, Hekimian and Jones developed a
method for valuing the HRs. Accounting to them, the current cost of replacing the present
set of workers by another set with similar efficiency and experiences may be considered the
6
value of HRs. The opportunity cost of HR is the value of an individual employee in alternative
uses. According to the authors, the opportunity cost is the best means to value an individual.
The replacement cost may be necessary for two reasons. The first one relates to the cost
incurred by the management for replacing one employee by a new employee with equivalent
skill, ability and knowledge for better result (individual replacement cost). The second one
relates to the value of series of services expected to be derived from an employee at the
respective positions he holds and will hold at present as well as in future ( positional
replacement cost).
It implies that an individual generally moves in different positions during the total tenure
of his service life. Hence the positional replacement cost refers to the current cost of replacing
the services expected from an employee during his total stay at different positions in the
firm.
The method neither considers the value and volume of services, nor makes a provision
to consider the discount factor. Hence, the application of the model does not appear to be
feasible.
The expected realizable value E (RV) of an individual may be determined by using the
following formula:
E (RV) = Ri – P (Ri)
(1 + r)t
Where, Ri = Value R (i.e. benefit) that can be derived by
The organization in each possible service
State’i’
P(Ri) = Probability that a person will hold the position
“i“
m = Position at the time of exist (after holding each position).
n = Number of years an employee is expected
To stay with the firm.
r = Appropriate discount rate.
t = Time.
7
The basic limitation of this method is the though it provides a major improvement over
the historical cost method, it cannot be applied in practice because of the lack of objective
information on the replacement cost of employing the present group of employees. The cost
of replacement is not highlighted here.
1. Present Value Method
Present Value Method calculates present value of the contribution of the manpower
of the organization. It estimates the contribution of personnel of the organization to the
future growth of the organization. It measures the value of human resources on the basis of
present value of the services to be generated by the employees of an organization in future.
Two approaches have been suggested for this purpose. (a) By discounting the future
salaries and employee-related capital costs (such as cost incurred on recruiting, training
and developing employees) by a certain rate of discount, and (b) By discounting the future
earning of an organization at a certain date by a suitable rate and allocating a part of such
present value to human resources. Based upon these premises a number of HRA models
have been developed.
There are various models for such calculations. Some important models are:
• Baruch Lev and Schwartz’s Model ( known as capitalization of salary method)
• Herman’s Model (Known as value measurement method)
• Eric Flamholtz model, (Known as economic valuation method/ stochastic rewards

valuation)
• Jaggi and Lau’s Model.
4. Lev and Schwatz Model or Capitalization of Salary Method
Based upon the economic concept of value this model was suggested by Baruch Lev
and Abaa Schwartz. According to them, “the value of human capital embodied in a person of
age X is the present value of his remaining earnings from employment”.
The capitalization of salary method, which is popularly known as Lev and Schwartz
model, is considered logical and practicable as it takes into account emoluments paid to the
employees, their stay with the entity and the discount factor while capitalizing their earnings
to have a measure of the HR value. It is assumed there that the volume of services expected
8
to be derived from the employees from the date of appointment to the date of retirement
follows a fixed pattern. This appears to be static to some extent. Despite such shortcomings
this system can provide an objective assessment, to some extent, of Hr value. That is why;
the organizations reporting HRA generally value their Hrs on the basis of this model.
Measurement of HR under this method involves (a) division of employees according

to their age, grade of pay and designation, (b) determination of the average annual earnings
per employee in each group, (c) calculation of total earnings based on the remaining tenure
of their service life, and (d) discounting total earnings on the basis of average rate of return
on investment.
The Hrs can be valued on the basis of the following formula: Vx = Vx = I(t)
= (I+r)t-x
Where, V = The human capital value of a person Years old.
T = The person’s retirement age.
I (t) =The person’s annual earnings upto retirement.
r = A discount rate specific to the person.
The model given by Lev and Schwartz can be considered as an improvement over the
cost models as it seeks to value the human resources of an organization on the basis of the
economic value of employees of total organization. However, the model suffers from certain
deficiencies as it ignores: (1) the individual’s value to an organization depends upon the role
in which an individual is placed in addition to his qualities traits and skills, (2) employees
change their roles during their career due to promotion, transfer, etc, and (3) an individual
may leave the organization for reasons other than death and retirement.
5. Hermanson’s Model or Value Measurement Method
R.H. Hermanson suggests that the relative efficiency of the entity in the economy
should also be reckoned with in this context on the ground that because of the efficiencies of
all the individuals in the entity, the organization has achieved an edge in the economy. The
author proposes the following criteria for valuing Hrs of an entity.
(i) Determination of wage payment to different levels of management for the succeeding of
five years
(ii) The wage payment is discounted at the rate of return earned on assets of the firm for the
most recent years.
9
(iii) The discounted value is being multiplied by the firm’s efficiency ratio yielding an
approximation of the present value of future services of the firm’s human resources.
Efficiency Ratio = Firm Rate of Return (based on 5 year’s average)

Average of return (for 5 years) of all firms in the economy
The efficiency ratio measures the rate of effectiveness of the human resources operating
in the given entity over a five year period. A ratio greater than one implies that the rate of
return of the firm is above the average rate of return for all firms in the economy. The
efficiency ratio has been criticized by certain authors as subjective because of arbitrary
weighting scheme and restricting the valuation period to five years only.
Application of the value measurement techniques for gauging the HR value is very
arduous. The underlying assumption of deriving services from the employees for forth coming
five years is contentious. Moreover, the system of multiplying the capitalized value of the
earning of the employees by the efficiency ratio does not stand on sound footing, for
employee’s performances are over emphasized through double counting, i.e. if we capitalize
the higher rate of payment first and again we multiply it by entity’s relative efficiency is
counted twice. Hence the valuation is inflated. Moreover, the peculiarity of the model is that
it attempts to consider the relative efficiency of the entity in the economy. This point is
important, no doubt, but if we want to make it logical we should first be sure that rate of
return from the spending on salary is at part with the other assets of the entity. But that is a
formidable task and hence the application of the model is not practicable.
6. Flamholtz’s Stochastic Rewards valuation Model
The Flamholtz’s stochastic rewards valuation model identifies the major variables,
which determine the value of an individual to the organization. The model advocates that a
person generates value for an organization as he occupies and plays different roles and
renders services to the organization. The movement of people from one organizational roles
they render service (rewards) to the organization. Based upon the above concept, a person’s
expected realizable value to the organization can be measured as the discounted
mathematical expectation of the monetary worth of the future rewards (services) a person is
expected to occupy, taking into consideration the probability of his remaining in the
organization.
The model suggests a five-step approach to assess the value of an individual to the
organization:
10
1. Forecasting the period a person will remain in the organization, i.e, his expected service
life.
2. Identification of service states, i.e; the roles he might occupy and the time at which he
will quit the organization.
3. Estimating the value derived by the organization when a person occupies a particular
position (service state) for specified Period.
4. Estimating the probability of occupying each possible mutually exclusive service occupied
at specified future times.
5. Discounting ( at a specified predetermined rate) the expected service Rewards to their

present value.
Prof. Flamholtz clarifies that an individual’s expected realizable value is determined by two
factors (i) the individual’s conditional value, and (ii) the probability that the individual shall
maintain his expected service life. The profit of these two variables is the present worth of
potential services that are expected to be rendered to the organization. This value in turn
consists of three factors; productivity, transferability and promotability. Productivity refers to
the service an individual provides while occupying the present position. Transferability refers
to the set of services an individual is expected to provide if he is transferred to a same
position level in a different department of the organization. Promotability is a set of services
an individual is expected to provide after his promotion to higher positions.
Further an individual’s conditional value is determined by his skill (currently developed

potential to provide services to the organization) and activation level (the extent to which
that person is affected by motivation). In addition to the personal factors the organization
factors also influence the conditional value of an individual. These are (i) the role occupied/
performed by the individual within the organization, and (ii) organizational rewards.
Theoretically the model suggested by Flamholtz is the most scientific model as it

provides a future- oriented economic value of human assets. However, its practical use is
very difficult as the collection of reliable data regarding the value of a service state; a person’s
expected tenure and the probabilities of occupying various service states at specific times is
not an easy job.
7. Jaggi and Lau Model
The model suggested by jaggi and lau is based on valuation of groups rather than
individuals. A group implies homogeneous employees who may or may not belong to the
11
same department or division. It might be difficult to predict an individual’s expected service

tenure in the organization or at a particular level or position, but on a group basis it is easier
to ascertain the percentage of people in a particular group basis it is easier to ascertain the
percentage of people in a particular group likely either to leave the firm during each of the
forthcoming period, or to be promoted to higher levels. In order to consider the role movements
of employees within the organization a Markov Chain representation can be used. The
model requires the determination of Rank Transitional Matrix and the expected quantities of
services for each rank of service. The matrix can be prepared from the historical personal
records of the employees available in the organization. For the purpose of measurement of
quantities of services, a certain service or performance criteria is used.
The value of the services an organization’s current employee render in a future period is
computed by multiplying the estimated number of current employees that will be in each
service state in that period, by the value of the services an employee in each state (i.e.
rank) renders to the organization. The equation for the computation of value of human
resources of an organization using jaggi and Lau Model is given below:
TV = (N) r” (T)” (V)
Where
TV = column vector indicating the current value of all current employees in each rank.
(N) = column vector indicating the number of employees currently in each rank.
N = Time period
R = discount rate
(T) = rank transitional matrix indicating the probability that an employee will be in each rank
within the organization or terminated in the next period given his current rank, and
(U) = column vector indicating the economic value of an employee of rank I during each
period.
8. Human Asset Multiplier Method
In the human Asset Multiplier Model method, we capitalize the costs incurred on human
resources like costs of recruitment and training etc. We also estimate the costs of human
resources in the years to come by applying a multiplier to the present costs on salaries and
wages etc. Here we also calculate wastages etc. which are other indirect costs due to
human resources.
12
9. Return on Efforts Employed Method
Under this method value of Hrs are not measured directly. Here, individuals are
evaluated in order of the efforts they exert for the benefit of an entity. In other words, unlike
other methods where the valuation of HRs are based on salaries paid to them or services
derivable from them, here performances of individuals are measured in terms of the efforts
they give to earn the profit of an enterprise. In this method, efforts are measured on the
basis of three factors, viz, the position he holds, the degree of excellence he achieves and
the nature of his experience. Contributions of individuals as well as contributions of a group
are measured in terms of efforts rendered. Weights or factors be assigned to each of the
variables,(i.e. levels of performance, efficiency and experience) according to their intensity.
The steps to measurements are (a) determination of levels and grade of work done, (b)
measurement of efficiency which increases on ascending order. These weights are multiplied
together to determine the efforts employed by each individual.
The basic assumption under the return on efforts employed method is that the whole
of the return earned by an organization is contributed by the employee alone. But this argument
is not taxable. In order to make the organization operative and successful the management’s
participation can never be overlooked. That apart, the business as whole is valued first
through capitalizing the total return earned by the entity and then the cost of other assets is
deducted from such capitalized value to have a measure of HR value. This round-about way
of measurement of HR value is arbitrary in nature. Moreover, the method is dependent on
the discounting factor and the volume of profit. Any variation in the estimate of the former
may lead to a heavy fluctuation in the measurement of HR value. Thus, this method fails to
provide separately the value of individuals to the entity. However, through measuring the
weights assigned to an individual, a rough estimate can be computed. But that is fraught
with so many subjective items that the information they provide appears to be less dependable.
Because of these difficulties, this method is not usually used for measuring HR value.
10. Non- Monetary Measurement
Previous measurement models are based on the value or rewards or benefits the
organization can obtain from the employees. In other words, the earlier methods are based
on monetary terms rather than establishing a causal relationship between the human
organization, its output and the variables signifying to measure that output. According to
Likert (1967), the determinants of a group value is based on (i) casual variables, (ii) intervening
variables, will be measured by predicting the firm’s future earnings which is dependent on
the causal and intervening variables. These will be discounted to get the net present value
of the business and a proportion of this value may be allocated to HR value.
13
In case of Non monetary measurement method, the technique of qualifying HR values

is very complex and confusing. Here, the end-result may somehow be measurable but it is
very difficult to quantify the causal and intervening variables although question may generally
arise whether it is at all feasible to quantify these variables. Although a positive correlation
among the three variables has been concluded by serval authorities, the application of this
method is not practicable for lack of objective and dependable data.
1.6 Applications of Human Resource Accounting

In the present time, organizations are looking for something over and above the
conventional accounting. HR Accountants have a major role to play. Many organizations
(example Infosys) have started measuring brand value, EVA, etc. The attempt is to look
different from other organization and to present itself as more progressive people-oriented
(human resource-oriented) organization. Many organizations have started focusing on
developing manpower and emphasizing it as their core competency (example: Satyam
Computers).
• HRA helps in proper analysis of expenses (investment) on human resources.

• HRA helps in solving industrial disputes; it helps in collective bargaining process, as
management representative can put forward data in systematic manner.
• It helps in proper planning of human resources.

Accounting for HR’s involves the following processes, viz
• Identification of data on the investment on HRs,

• Measurement and valuation of the economic results of such investments, and
• Presentation of the above valuations in the annual financial statements.
Benefits of Human Resource Accounting
The following are the main benefits of human resources accounting:
1. Helps in proper interpretation of Return on Capital Employed: The human resource

accounting will disclose the value of human resources. This will help proper interpretation
of return on capital employed. Such information will give long-term perspective of the
business performance which could be more reliable than the return on capital employed
based on net profit only.
2. Improves managerial decision-making: The maintenance of detailed records relating

to internal human resources (i.e employees), will improve managerial decision-making
14
specially in situations like direct recruitment versus promotion, transfer versus retention,
retrenchment or relieving versus retention , utility of cost reduction programme in view
of its possible impact on human relations and impact of budgetary control on human
relations and organizational behavior. Thus, the use of HRA will definitely improve the
quality of management.
3. Serves social purpose: It will serve social purpose by identification of human resource
as a valuable asset which will keep prevention of misuse and under use due to
thoughtless or rather reckless transfers, demotions, layoffs and day to day maltreatment
by supervisors and other superiors in the administrative hierarchy; efficient allocation
of resources in the economy; effecting economy and efficiency in the use of human
resources and proper understanding of the evil effects of avoidable labour unrest/
disputes on the quality of the internal human resources.
4. Increase Productivity: It will have the way for increasing productivity of the human
resources because, the fact that a monetary value is attached to human resources, and
that human talent, devotion and skill are considered as valuable assets and allotted a
place in the financial statements of the organization, would boost the morale, loyalty
and initiative of the employees, creating in their mind a sense of belonging towards the
organization and would act as a great incentive, giving rise to increased productivity.
5. Invaluable contribution to humanity: HRA will be an invaluable contribution of

accounting to humanity and it will lead to improved human efficiency while preserving
human dignity and honour. For this a basic change in individual behavior, attitude and
thinking is required. HRA will help in realizing the value of human resources and, thus,
will influence the individual behaviour, attitude and thinking in the desired direction.
6. Essential where the human element is the prime factor: HRA is absolutely essential
in such organizations where human element is the prime factor, e.g., a professional
accounting firm, a drama company, a solicitor and attorney firm, an educational institution
etc.
7. Helps in investment decisions: The value of a firm’s human resources is helpful to

potential investors and other users in making long-term investment decisions.
8. For successful operation of an organization: The success of an organization very

much depends on the buildup of quality work force at all levels. The success stories of
BHEL, ITC, Hindustan Lever, Larsen & Toubro and several other enterprises are largely
due to the emphasis on human resource development. If this vital asset is not shown in
the balance sheet, to that extent the public and investors are handicapped.
15
1.7 Problems in the Implementation of Human Resource

Accounting
• HR a looks very attractive; however, it is very subjective and difficult in partice.
• Asset is something which has present or future use for the organization. It is wrong to
call human resources as asset in the same reference as we use for non – living objects
like plant and machinery. It is ehumanising. Human resources do not need any adjective
like asset, they are more important than these jargons.
• HRA goes with the basic assumptions of money measurement concept. It is impractical
and impossible to measure human resources and changes in that. It is difficult to quantify
morale, motivation, dissatisfaction, etc. It is an absolutely theoretical idea, which looks
good on paper only. This is the reason why after so many years of talk, HRA is still not
a popular or practical concept. However HRA is an appreciable discipline of accounting.
If the companies give report about human resources in their annual Report, it offers
excellent information to the stake holders.
Problems and Limitations of HRA
No doubt HRA can provide valuable information both for management and outsiders,
yet its development and application in different industries and outsiders, yet its development
and application in different industries and organizations has not been very encouraging.
The reluctance on the part of the organizations to introduce the HRA system can be attributed
to the following:
1. There are no specific and clear-cut guidelines for finding cost and ‘value’ of human
resources of an organization. The existing valuation systems suffer from many
drawbacks.
2. The life of human resources is uncertain and therefore, valuing them under uncertainty
seems unrealistic.
3. There is a possibility that HRA may lead to dehumanizing and manipulations in

employees. For example, a person having a low value may feel discouraged and thus,
in itself, many affect his competency in work.
4. The much needed empirical evidence is yet to be found to support the hypothesis that
HRA, as a managerial tool, facilitates better and effective management of human
resources.
16
5. Human resources, unlike physical assets, are not capable of being owned, retained
and utilized at the pleasure of the organisation. Hence treating them as ‘asset’ in the
strict sense of the term, could not be appropriate.
6. There is a constant fear of opposition from the trade unions. Placing the value on
employees would promt them to seek rewards compensation based on such valuation.
7. In what form and manner, should their value be included in the financial statements? Is
another question on which there no consensus in the accounting profession.
8. If a valuation has to be placed on human resources how it should be amortised? Should

the rate of amortization be decreasing, constant or increasing? Should it be the same
or different for different categories of personnel?
9. Tax laws do not recognize human beings as assets. So human resource accounting
has been reduced to a merely theoretical concept.
The concept of human resource accounting is still at the experimental and development
stage; very few firms in developed nations have introduced in their respective organizations.
HRA is still new and much additional research will be necessary before it can be applied
universally. This is because of the fact that there is no universally accepted method of
human asset valuation. So there is an urgent need for evolving a method which could be
universally acceptable. This is all the more important for optimum allocation of scarce
resources in India and elsewhere.
Check Your Progress
1. Define HRA
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
2. List the methods of HRA
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
3. Write a short note on non-monetary measurement.

17
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
1.8 Summary
The human resource accounts is the transaction related to expenses to recruit, select
and compensation, the expenses of labour is major part of the cost of goods, Hence the
management should aim at optimization. So the primary purposes of the human resources
accounting system are to help management plan, control and effectively and efficiently use
of human resources. Therefore HR department have been developed various models for
measurement and valuation of human assets. All methods HRA helps in proper analysis of
expenses on human resources, solving industrial disputes and proper planning.
1.9 Key Words

Human resource
Recruitment
Organization
Replacement
Compensation

1. Explain the functions of Human Resources Accounting.
2. State the needs and significance of HRA.
3. What are the objectives of HRA?
4. Explain the methods of Human Resource Accounting.
5. Explain the applications of Human Resource Accounting.
6. Describe the problems that arise in the implementation of Human Resource Accounting.
7. What do you understand by Human asset multiplier method?
8. Write a note on return on efforts employed method.

18
LESSON 2
ACCOUNTING STANDARDS
Learning Objectives
• Enumerate the need for accounting standard
• Explain the objectives of accounting standard
• Highlight various accounting standard
• Describe the significance of accounting standard
Structure
2.1 Introduction
2.2 Meaning and Definition
2.3 Objectives of Accounting Standards
2.4 Accounting Standards in India
2.5 Formulation of Accounting Standard
2.6 Nature of Accounting Standards
2.7 Accounting Standards Issued by the Institute
2.8 Summary
2.9 Key Words
2.1 Introduction
Accounting is the “Process of identifying, measuring and communicating information
to permit judgment and decisions by the users of accounts”. It is absolutely necessary that
accounting information contained in financial statements is credible and is regarded as reliable
by the different user groups. The reliability of financial statements is established when they
are perceived by the different user groups to be consistent.
19
2.2 Meaning and Definition

Preparation of financial statements on uniform and consistent basis improves their
comparability and credibility. It has two aspects, namely,
a) The financial statements of an enterprise for different accounting years are based on
similar accounting procedures and policies that meaningful comparisons over a period
of time can be made about the progress of the enterprise. This is commonly referred to
as ‘Time series analysis’.
b) The financial statements of many enterprises at a point of time are based on similar
accounting procedures and polices so that conclusions can be drawn about their relative
performance at a point of time. It is known as ‘Cross-sectional analysis’.
According to T.P. Gosh accounting standard are defined as under.
“Accounting standards are the policy documents issued by the recognized expert
accountancy body relating to various aspects of measurement, treatment and disclosure of
accounting transactions and events”.
It is clear from the above definition that accounting standards provide a framework for
the preparation of the financial statements. The efficient functioning of the financial system
depends upon the confidence and it is the function of accounting standard to create this
general sense of confidence by providing a structural framework within which credible financial
statements can be produced.
2.3 Objectives of Accounting Standard

The basic purpose of ‘Accounting standards’ is to standardize the diverse accounting
practices followed for many aspects of accounting The harmonization of accounting policies
and practices is needed at national land as well international level.
The Institute of Chartered Accountants of India issues accounting standards formulated

by the Accounting standards Board. At international, level, International accounting standards
committee (IASC) issues International accounting standards. The objectives of the IASE is
terms of standard setting is “To work generally for the improvement and harmonization of
regulations, accounting standards and procedures relating to the presentation of financial
statements”. The Institute of chartered Accountants of India is a member of IASC and has a
would adopt the accounting standards issued by IASC after due recognition of the conditions
and practices prevailing in India. At the International level, ICAI has issued 15 accounting
20
standards on various issue of accounting and a preliminary draft of a proposed accounting

standard on borrowing costs is being made by the ASB in addition to the recision contemplated
in existing standards on valuation of inventories and accounting for construction contracts.
2.4 Accounting Standards in India

The Institute of charactered Accountants of India, fully recognizing the need of
narmonising the diverse accounting policies and practices established ‘Accounting standard
Board’ on 21st April 1977. So that accounting as a language could develop along the right
lines. Accounting standard Board’s main function is to formulate accounting standards to be
issued under the authority of the council of the institute. Accounting standards provide rules
and criteria of accounting measurement. However the rules/ criteria are intended to be used
in a social system and hence are never intended to be rigid as in case of physical sciences.
At the same time, they are intended to remove irrational and diverse accounting practices.
The constitution of Accounting standard Board gives adequate representation to all

interested parties and at present, it consist of members of the council and representatives of
industry, banks, company law Board, Central Board of Direct Taxes and the comptroller and
Auditor General of India, Security Exchange Board of India etc.
2.5 Formulation of Accounting Standard

The following points need to be kept in mind while drafting accounting standards namely,
1) The accounting standards issued are in conformity with the provisions of the applicable
laws, customs, usages and business environment of our country.
2) The accounting standards are in the nature of laws but not laws.
3) The accounting standards are intended to apply only to items which are material and
become applicable from the date as specified by the institute.
The Accounting Standard Board (ASB) has drawn on elaborate procedure for formulating
accounting standards. However it needs to be emphasized that the standards are issued
under the authority of the council of the institute. The procedure is the preface to the
statements of accounting standards and involves the following steps.
1) The ASB determines the board areas in which accounting standards need to be
formulated.
2) The ASB takes the assistance of the various study groups to formulate standards.The
preliminary drafts of the standards are prepared by the study groups which take up the
21
specific subjects assigned to them the drafts prepared by a study group is considered
by ASB and sent to various outside bodies like FICCI, ASSOCHAM, SCOPE, CLB,
C&AG, ICWAI. ICSI, CBDT etc and the representatives of these bodies are also invited
at a meeting of ASB for discussion.
3) The exposure draft includes the following basic points
a) A statement of concepts and fundamental accounting principles relating to the

standard
b) Definitions of the terms used in the standard
c) The manner in which the accounting principles have been applied for formulating
the standard.
d) The presentation and disclosure requirements in complying with the standard.
e) Class of enterprises to which the standard will apply.
f) Date from which the standard will be effective
4) The comments on the exposure draft are then considered by the ASB and a final draft is
prepared and submitted to the council of the institute
5) The council of the institute considers the final drafts of the proposed standard and if
found necessary modifies the same in consultation with ASB. The Accounting standard
on the relevant subject is then issued under the authority of the council.
2.6 Nature of Accounting Standards

The accounting standards issued by the ICAI are recommendatory in nature in the
initial years. During the period a standard is recommendatory, it is expected that the accounting
practice shall be brought in line with the standard.
It is employ clear that standards on their own have no legal banking and hence are not
enforceable on the public at large. Hence the institute depends on its members for
implementation of accounting standards issued by it through their attest function. To make it
effective following steps are needed:
1) Self-regulation on the part of the business organizations so that they adhere to these
standards while finalizing their accounts.
2) Legal banking to the accounting standards the standards as they are issued now have
no legal banking and institute depends on its members for their implementation through
their attest function
22
3) Publicising the use of accounting standards and making the users of accounting
information more informed about their right of getting on more true and fair picture of
the results of business based on these accounting standards.
4) To avoid duplication of authority, if more than one authority issues standards, it is

bound to create confusions in the mind of the users as to which standards needs to be
followed. a recent development worthy , is the establishment of two accounting standard
by the government under the Income tax Act 1961 which are to be followed in the
preparation of financial statements in case the assessee prefers mercantile basis
accounting.
2.7 Accounting Standards (AS)

Now let us look into the accounting standards issued by ICAI in detail
(AS) 1 - Disclosure of Accounting Policies
To ensure proper understanding of financial statements, it is necessary that all

significant accounting policies adopted in the preparation and presentation of financial
statements should be disclosed. Such disclosure should form part of the financial statements.
The accounting treatment and presentation in financial statements of transactions and events
should be governed by their substance and not merely by the legal form. It is assumed that
the enterprise has neither the intention nor the necessity of liquidation or of curtailing materially
the scale of the operations.
(AS) 2 - Valuation of Inventories
A primary issue in accounting for inventories is the determination of the value at which
inventories are carried in the financial statements until the related revenues are recognized.
The costs of conversion of inventories include costs directly related to the units of production,
such as direct labour. They also include a systematic allocation of fixed and variable production
overheads that are incurred in converting materials into finished goods.
(AS) 3 - Cash Flow Statements

A cash flow statement, when used in conjunction with the other financial statements,
provides information that enables users to evaluate the changes in net assets of an enterprise,
its financial structure (including its liquidity and solvency) and its ability to affect the amounts
and timing of cash flows in order to adapt to changing circumstances and opportunities.
Cash flow information is useful in assessing the ability of the enterprise to generate cash
23
and cash equivalents and enables users to develop models to assess and compare the
present value of the future cash flows of different enterprises.
(AS) 4 - Contingencies and Events Occurring After the Balance Sheet

Date
The term “contingencies” used in this Statement is restricted to conditions or situations

at the balance sheet date, the financial effect of which is to be determined by future events
which may or may not occur. Estimates are required for determining the amounts to be
stated in the financial statements for many on-going and recurring activities of an enterprise.
The accounting treatment of a contingent loss is determined by the expected outcome of the
contingency.
(AS) 5- Net Profit or Loss for the Period, Prior Period Items and Changes
in Accounting Policies
All items of income and expense which are recognized in a period should be included
in the determination of net profit or loss for the period unless an Accounting Standard requires
or permits otherwise. Extraordinary items should be disclosed in the statement of profit and
loss as a part of net profit or loss for the period. The nature and the amount of each
extraordinary item should be separately disclosed in the statement of profit and loss in a
manner that its impact on current profit or loss can be perceived.
(AS) 6 – Depreciation
Depreciation has a significant effect in determining and presenting the financial position
and results of operations of an enterprise. Depreciation is charged in each accountingperiod
by reference to the extent of the depreciable amount, irrespective of an increase in the
market value of the assets. Historical cost of a depreciable asset represents its money
outlay or its equivalent in connection with its acquisition, installation and commissioning as
well as for additions to or improvement thereof. The historical cost of a depreciable asset
may undergo subsequent changes arising as a result of increase or decrease in long term
liability on account of exchange fluctuations, price adjustments, changes in duties or similar
factors.
(AS) 7 – Construction contracts
The objective of this Statement is to prescribe the accounting treatment of revenue

and costs associated with construction contracts. Because of the nature of the activity
undertaken in construction contracts, the date at which the contract activity is entered into
and the date when the activity is completed usually fall into different accounting periods.
24
Incentive payments are additional amounts payable to the contractor if specified performance
standards are met or exceeded. A claim is an amount that the contractor seeks to collect
from the customer or another party as reimbursement for costs not included in the contract
price
(AS) 9 - Revenue Recognition
Revenue recognition is mainly concerned with the timing of recognition of revenue in

the statement of profit and loss of an enterprise. The amount of revenue arising on a
transaction is usually determined by agreement between the parties involved in the transaction.
When uncertainties exist regarding the determination of the amount, or its associated costs,
these uncertainties may influence the timing of revenue recognition. A key criterion for
determining when to recognise revenue from a transaction involving the sale of goods is that
the seller has transferred the property in the goods to the buyer for a consideration.
(AS) 10 - Accounting for Fixed Assets
The expenditure incurred on start-up and commissioning of the project, including the
expenditure incurred on test runs and experimental production, is usually capitalised as an
indirect element of the construction cost. However, the expenditure incurred after the plant
has begun commercial production, i.e., production intended for sale or captive consumption,
is not capitalised and is treated as revenue expenditure even though the contract may
stipulate that the plant will not be finally taken over until after the satisfactory completion of
the guarantee period.
(AS) 11- The Effects of Changes in Foreign Exchange Rates
A foreign operation that is integral to the operations of the reporting enterprise carries
on its business as if it were an extension of the reporting enterprise’s operations. For example,
such a foreign operation might only sell goods imported from the reporting enterprise and
remit the proceeds to the reporting enterprise. In such cases, a change in the exchange rate
between the reporting currency and the currency in the country of foreign operation has an
almost immediate effect on the reporting enterprise’s cash flow from operations.
(AS) 12 Accounting for Government Grants

Government grants related to revenue should be recognised on a systematic basis in
the profit and loss statement over the periods necessary to match them with the related
costs which they are intended to compensate. Such grants should either be shown separately
under ‘other income’ or deducted in reporting the related expense. Government grants of the
25
nature of promoters’ contribution should be credited to capital reserve and treated as a part
of shareholders’ funds. Government grants in the form of non-monetary assets, given at a
concessional rate, should be accounted for on the basis of their acquisition cost. In case a
non-monetary asset is given free of cost, it should be recorded at a nominal value.
(AS) 13 - Accounting for Investments
Enterprises present financial statements that classify fixed assets, investments and
current assets into separate categories. Investments are classified as long term investments
and current investments. Current investments are in the nature of current assets, although
the common practice may be to include them in investments. If an investment is acquired in
exchange, or part exchange, for another asset, the acquisition cost of the investment is
determined by reference to the fair value of the asset given up.
(AS) 14 - Accounting for Amalgamations
If the amalgamation is an ‘amalgamation in the nature of merger’, the identity of the
reserves is preserved and they appear in the financial statements of the transferee company
in the same form in which they appeared in the financial statements of the transferor company.
Thus, for example, the General Reserve of the transferor company becomes the General
Reserve of the transferee company, the Capital Reserve of the transferor company becomes
the Capital Reserve of the transferee company and the Revaluation Reserve of the transferor
company becomes the Revaluation Reserve of the transferee company.
(AS) 15 – Employee Benefit

An enterprise may compensate employees for absence for various reasons including
vacation, sickness and short-term disability, and maternity or paternity. Entitlement to
compensated absences falls into two categories: accumulating; and non-accumulating.
Accumulating compensated absences are those that are carried forward and can be used in
future periods if the current period’s entitlement is not used in full. Accumulating compensated
absences may be either vesting (in other words, employees are entitled to a cash payment
for unused entitlement on leaving the enterprise) or non-vesting (when employees are not
entitled to a cash payment for unused entitlement on leaving). An obligation arises as
employees render service that increases their entitlement to future compensated absences.
(AS) 16 - Borrowing Costs

Borrowing costs are capitalised as part of the cost of a qualifying asset when it is
probable that they will result in future economic benefits to the enterprise and the costs can
be measured reliably. Other borrowing costs are recognised as an expense in the period in
which they are incurred. The borrowing costs that are directly attributable to the acquisition,
26
construction or production of a qualifying asset are those borrowing costs that would have
been avoided if the expenditure on the qualifying asset had not been made.
(AS) 17 - Segment Reporting
Segment assets include all operating assets used by a segment and consist principally
of operating cash, debtors, inventories and fixed assets, net of allowances and provisions
which are reported as direct offsets in the balance sheet. While most such assets can be
directly attributed to individual segments, the carrying amount of certain assets used jointly
by two or more segments is allocated to the segments on a reasonable basis. Segment
liabilities include all operating liabilities and consist principally of creditors and accrued
liabilities. Segment assets and liabilities do not include deferred income taxes.
(AS) 18 - Related Party Disclosures
The statutes governing an enterprise often require disclosure in financial statements
of transactions with certain categories of related parties. In particular, attention is focussed
on transactions with the directors or similar key management personnel of an enterprise,
especially their remuneration and borrowings, because of the fiduciary nature of their
relationship with the enterprise. operating results and financial position of an enterprise may
be affected by a related party relationship even if related party transactions do not occur.
(AS) 19 - Leases
If the leaseback is an operating lease, and the lease payments and the sale price are
established at fair value, there has in effect been a normal sale transaction and any profit or
loss is recognised immediately. For operating leases, if the fair value at the time of a sale
and leaseback transaction is less than the carrying amount of the asset, a loss equal to the
amount of the difference between the carrying amount and fair value should be recognised
immediately.
(AS) 20 Earnings per share

The objective of this Standard is to prescribe principles for the determination and
presentation of earnings per share which will improve comparison of performance among
different enterprises for the same period and among different accounting periods for the
same enterprise. The focus of this Standard is on the denominator of the earnings per share
calculation. Contracts generating potential equity shares may incorporate terms and conditions
which affect the measurement of basic and diluted earnings per share. These terms and
conditions may determine whether or not any potential equity shares are dilutive and, if so,
the effect on the weighted average number of shares outstanding and any consequent
adjustments to the net profit attributable to equity shareholders. Disclosure of the terms and
conditions of such contracts is encouraged by this Standard.
27
(AS) 21 - Consolidated Financial Statements

Consolidated financial statements normally include consolidated balance sheet,
consolidated statement of profit and loss, and notes, other statements and explanatory material
that form an integral part thereof. Consolidated cash flow statement is presented in case a
parent presents its own cash flow statement. The consolidated financial statements are
presented, to the extent possible, in the same format as that adopted by the parent for its
separate financial statements. In preparing consolidated financial statements, the financial
statements of the parent and its subsidiaries should be combined on a line by line basis by
adding together like items of assets, liabilities, income and expenses. In order that the
consolidated financial statements present financial information about the group as that of a
single enterprise, the following steps should be taken
(AS) 22 -Accounting for Taxes on Income
The objective of this Standard is to prescribe accounting treatment for taxes on income.
Taxes on income is one of the significant items in the statement of profit and loss of an
enterprise. In accordance with the matching concept, taxes on income are accrued in the
same period as the revenue and expenses to which they relate. Matching of such taxes
against revenue for a period poses special problems arising from the fact that in a number of
cases, taxable income may be significantly different from the accounting income.
(AS) 23- Accounting for Investments in Associates in Consolidated

Financial Statements
Recognition of income on the basis of distributions received may not be an adequate

measure of the income earned by an investor on an investment in an associate because the
distributions received may bear little relationship to the performance of the associate. As the
investor has significant influence over the associate, the investor has a measure of
responsibility for the associate’s performance and, as a result, the return on its investment.
The investor accounts for this stewardship by extending the scope of its consolidated financial
statements to include its share of results of such an associate and so provides an analysis
of earnings and investment from which more useful ratios can be calculated. As a result,
application of the equity method in consolidated financial statements provides more informative
reporting of the net assets and net income of the investor.
(AS) 24- Discontinuing Operations
The objective of this Standard is to establish principles for reporting information about
discontinuing operations, thereby enhancing the ability of users of financial statements to
28
make projections of an enterprise’s cash flows, earnings-generating capacity, and financial

position by segregating information about discontinuing operations from information about
continuing operations.
(AS) 25 - Interim Financial Reporting
The objective of this Standard is to prescribe the minimum content of an interim financial
report and to prescribe the principles for recognition and measurement in a complete or
condensed financial statements for an interim period. Timely and reliable interim financial
reporting improves the ability of investors, creditors, and others to understand an enterprise’s
capacity to generate earnings and cash flows, its financial condition and liquidity.
(AS) 26 - Intangible Assets
The objective of this Standard is to prescribe the accounting treatment for intangible
assets that are not dealt with specifically in another Accounting Standard. This Standard
requires an enterprise to recognise an intangible asset if, and only if, certain criteria are met.
The Standard also specifies how to measure the carrying amount of intangible assets and
requires certain disclosures about intangible assets.
(AS) 27 - Financial Reporting of Interests in Joint Ventures
A jointly controlled entity is a joint venture which involves the establishment of a

corporation, partnership or other entity in which each venturer has an interest. The entity
operates in the same way as other enterprises, except that a contractual arrangement between
the venturers establishes joint control over the economic activity of the entity.A jointly controlled
entity controls the assets of the joint venture, incurs liabilities and expenses and earns
income. It may enter into contracts in its own name and raise finance for the purposes of the
joint venture activity. Each venturer is entitled to a share of the results of the jointly controlled
entity, although some jointly controlled entities also involve a sharing of the output of the
joint venture.An example of a jointly controlled entity is when two enterprises combine their
activities in a particular line of business by transferring the relevant assets and liabilities into
a jointly controlled entity. Another example is when an enterprise commences a business in
a foreign country in conjunction with the government or other agency in that country, by
establishing a separate entity which is jointly controlled by the enterprise and the government
or agency.
29
(AS) 28 - Impairment of Assets
The objective of this Standard is to prescribe the procedures that an enterprise applies
to ensure that its assets are carried at no more than their recoverable amount. An asset is
carried at more than its recoverable amount if its carrying amount exceeds the amount to be
recovered through use or sale of the asset. If this is the case, the asset is described as
impaired and this Standard requires the enterprise to recognise an impairment loss. This
Standard also specifies when an enterprise should reverse an impairment loss and it
prescribes certain disclosures for impaired assets.
(AS) 29 -Provisions, Contingent Liabilities and Contingent Assets
The objective of this Standard is to ensure that appropriate recognition criteria and
measurement bases are applied to provisions and contingent liabilities and that sufficient
information is disclosed in the notes to the financial statements to enable users to understand
their nature, timing and amount. The objective of this Standard is also to lay down appropriate
accounting for contingent assets.
Check Your Progress
1. What is meant by accounting standard?
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
2. What are the objectives of accounting standard?
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
3. List the accounting standards.
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
30
2.8 Summary
Accounting standards will have a significant impact in preparation of financial
statement, under the global business world. Accounting standards means uniform accounting
measurement and practice introduced with a view to harmonise the diverse accounting
policies and standards. The institute of charted accountants of India is the authority to
formulate accounting standards, rules and criteria of accounting measurement. Generally
accounting standards include the following issues. Disclosure and accounting policies,
valuation of inventories, cash flow statement, contingencies, depreciation revenue recognition
accounting for research and development etc., However the adoption of uniform standard
all over the world will ensure a greater degree of comparability of financial statements.
2.9 Key Words

Accounting Standard
Financial statement
Obligation
Acceptance
Agreement to a proposal
Cash flow statement

1) What is meant by accounting standard and why are they needed?
2) What is meant by ‘Harmonization of accounting practice’? How does accounting

standards help in achieving this harmonization?
3) Distinguish between International accounting standards and National Accounting

standards.
4) Explain the procedure of formulation and issuance of accounting standard by the Institute
of chartered Accountants of India.
5) What is the difference between a recommendatory and mandatory accounting standard?
6) “The accounting standards are in the nature of laws but not laws” Explain.
31
LESSON 3
FINANCIAL REPORTING PRACTICES

Learning Objectives
After studying this unit, you should be able to:
• Explain the objectives of financial reporting
• Describe the importance of annual report
• List the contents of annual report
• Explain the various kinds of report
• Highlight shareholders information in annual report.
Structure
3.1 Introduction
3.2 Characteristics of Financial Statement
3.3 Objectives of Financial Reporting
3.4 Annual Report
3.5 Importance of Annual Report
3.6 Director’s Report
3.7 Directors Responsibility Statement
3.8 Corporate Governance Report
3.9 Management Discussion and Analysis Report
3.10 Share Holders Information in Annual Report
3.11 Certificate of Compliance
3.12 Summary
32
3.13 Key Words
3.1 Introduction
The traditional practice of an Indian company has been to communicate information on its
operations and financial status once a year through its annual report. The annual report
generally includes the financial statements, namely, Profit and Loss account, balance sheet
and cash flow statement. They are basic and formal means through which corporate
management make public communication of financial information. They provide information
about financial position, performance and cash flows to various users of accounts to aid
their decision-making.
3.2 Characteristics of Financial Statements

The financial statements prepared by the companies follow the four principle qualitative
characteristics: (i) Understandability, (ii) Relevance, (iii) Reliability, and ( iv)Comparability.
Understandability: Information provided through financial statements should be

understandable to the users of accounts.
Relevance: Information, which is required to be disclosed statutorily, is considered to be

relevant to the users as it reflect the needs of different cross sections of the users. Optional
information should be disclosed judging its relevance to the decision making of the users.
Reliability: A piece of information possesses quality of reliability if it is free from material

error and bias. Reliability depends on faithful representation, substance over the form,
neutrality, prudence, and completeness.
Comparability: Comparability is judged from the angles of inter firm comparison and intra
firm comparison.
The traditional reporting practices under went through changes to suit the contemporary
demands of the markets, analysts and investors. Now annual report of the companies consists
more qualitative statements than the number oriented financial statements like profit and
loss account and Balance sheet.
Trends in corporate reporting – There has been Profound change in the financial
reporting practices in the last decade. This change is driven by additional disclosure
requirements-
33
• · Stipulated in revised and new accounting standards
• · Prescribed through amendments to the companies act, 1956
• · Prescribed under various SEBI regulations and
• · Due to recent focus on corporate governance reporting
3.3 Objectives of Financial Reporting

The important objectives of financial reporting are given below:
1. To provide information useful for making economic decisions
2. Serve primarily those users who have limited authority, ability or resources to obtain
information and who rarely on financial statement as their principle source of information
about economic activities of an enterprise.
3. To provide information useful to inventors and creditors for predicting, comparing and
evaluating potential cash flows to them in terms of account, timing and related uncertainty.
4. To provide users with information for predicting, comparing and evaluating the earning
power of the enterprise.
5. To supply information useful in judging management’s ability to utilize the resources of

the enterprise effectively in achieving the primary goal of the enterprise.
6. To provide a statement of financial position useful for predicting, comparing and

evaluating the earning power of the enterprise.
7. To provide a statement of periodic earnings
8. To report about significant cash activities and consequences.
9. To provide information for financial forecasts
10. To report the activities useful for the society.
3.4 Annual Report

An annual report has a mandatory part as required by the companies act, accounting
standards and in the case of listed companies what is required by the listing agreement
34
Progressive companies give much more than what is required and it is termed as extended
reporting. The following are the contents of annual Report-
Statutory
1. Profit and loss account
2. Balance sheet
3. Directors report
4. Auditor’s report
5. Notes on accounts
Accounting Standards
6. Disclosure of accounting policies (AS 1)
7. Cash flow statement (AS 3)
8. Consolidated financial statements (AS 21)
9. Segment reporting (AS 17)
10. Related party disclosure (AS 18)
Listing Requirements
11. Cash flow statement
12. Management discussion and analysis
13. Report on corporate government
Extended Reporting
14. Chairman Speech
15. Financial highlights
16. Ten years summary
17. Value added statement

35
18. Share holders Information
19. Segment reporting
20. Human Resource accounting
21. Inflation adjusted accounts
22. Social Reporting and accounting
23. Important Ratios
24. Economic value added
25. Share holders reference
26. Risk Management
3.5 Importance of Annual Report

Annual report is the most important document for the following reasons-
1. It is the most comprehensive and authenticated document
2. It is easily accessible than any other source of document
3. Besides financial information, it also provides lot of non-financial information useful to

the users.
The preparation of financial statements has been deal at length in other chapters.
So this chapter covers other reporting requirements in detail. Additional disclosure requirement
is response of regulators to investors’ demands for better information both in terms of quality
and quantity. Moreover large and highly respected publicly traded companies have gone
beyond the statutory minimum and have disclosed more information voluntarily Changes
have occurred not only in information content but also in presentation. Companies use the
annual report as an affective channel for corporate communication. The following are the
additional documents included in the annual Report:
3.6 Director’s Report

Section 217 of the companies act, 1956, stipulates that a report by the board of
directors be attached to every balance sheet laid before a company in a general meeting.
The report should provide the following information:
36
1. The state of the company’s affairs
2. The amount it proposes to carry to reserves in that balance sheet
3. The amount it recommends to be paid by an of dividend
4. Material changes and commitments affecting the financial position of the company
which have occurred during that year
The conservation of energy, technology, absorption, foreign exchange earnings etc.
3.7 Directors Responsibility Statement

The companies (Amendment) Act 2000, requires all the companies to give one additional
report, known as directors Responsibility Statement indicating there in:
1. That in the preparation of the annual accounts, the applicable accounting standards
had been followed along with proper explanation relating to material departures;
2. That the directors had selected such accounting policies and applied them consistently,
made judgments and estimates that are reasonable and prudent so as to give a true
and fair view of the state of affairs of the company at the end of the financial year and of
the profit or loss of the company for that period;
3. That the directors had taken proper and sufficient care for the maintenance of adequate
accounting records in accordance with the provisions of the Companies Act for
safeguarding the assets of the company and for preventing and detecting fraud and
other irregularities;
4. That the directors had prepared the annual accounts on a going concern basis.
This encourages and enforces each and every Director of the company to compulsorily
take active interest in the affairs of the company.
3.8 Corporate Governance Report

The SEBI code of corporate governance requires that there should be a separate
section on Corporate Governance in the annual reports of companies, with a detailed
compliance report on Code of corporate Governance. Non- compliance of any section of the
code and the reasons there of should be specifically highlighted. This will enable the share
37
holders and the securities market to assess for themselves the standards of corporate
governance followed by a company. The code provides the following suggested list of items
to be included in the report:
1. A brief statement on the company’s philosophy on the code of governance

2. Board of Directors
a. Composition and category of directors
b. Attendance of each director at board meetings and at the last AGM
c. Number of the committees in which he is a member or the chairman
d. Number and dates of the board meetings held
3. Audit Committee
a. Brief description of terms of reference
b. Composition, name of members and chairman
c. Meetings and attendance during the year
4. Remuneration committee
a. Brief description of terms of reference
b. Composition, name of members and chairman
c. Attendance during the meeting
d. Remuneration policy
e. Details of Remuneration to all directors
5. Share holders committee
a. Name of the non-executive director heading the committee
b. Number of shareholders complaints received so far
c. Number not solved to the satisfaction of shareholders
d. Number of pending share transfers

38
6. General body meetings – Location and time where the last three AGMs were held
7. Other disclosures-
a. Related party transactions
b. Details of non-compliance by the company, penalties imposed by SEBI or

any other statutory authority
8. Means of communication
a. Half yearly report sent to each household of shareholders
b. Quarterly Results
c. News papers in which results are published
d. Website where official news and analysts comments displayed
9. Share holders information
10. Management and discussion analysis
3.9 Management Discussion and Analysis Report

The over-riding aim of management should be to maximize shareholder value without
being detrimental to the interests of other stakeholders. The management however, must
operate within the boundaries and the policy framework laid down by the board. While the
board is responsible for ensuring that the principles of corporate governance are adhered to
and enforced, the real onus of implementation lies with the management. It is responsible for
translating into action, the policies and strategies of the board and implementing its directives
to achieve corporate objectives of the company framed by the board.
It is therefore recommended that the board should clearly define the role of the
management.
As a part of the disclosure related to Management, SEBI recommended that in addition

to the director’s report, Management Discussion and Analysis report should from part of the
annual report to the shareholders. The Management Discussion & Analysis should include
the following points within the limits set by the company’s competitive position:
39
• Industry structure and developments
• Opportunities and threats
• Segment – wise or product – wise performance.
• Outlook.
• Risks and concerns.
• Internal control systems and their adequacy.
• Discussion on financial performance with respect to operational performance.
• Material developments in Human Resources.
Good corporate governance cast an obligation on the management in respect of

disclosures. The management must make the disclosures to the board relating to all material
financial and commercial transactions, where they have personal interest, which may have
a potential conflict with the interest of the company at large.
3.10 Shareholders Information in Annual Reports

A company must have appropriate systems in place, which will enable the
shareholders to participate effectively and vote in the shareholder’s meetings. The company
should also keep the shareholders informed of the rules and voting procedures, which
govern the general shareholders meetings. The following information should be reported to
the shareholders through the annual reports
1. AGM: Date, time and venue
2. Financial Calendar
3. Date of Book closure
4. Dividend payment Date
5. Listing on Stock Exchanges
6. Stock Code
7. Market Price Date: High , Low during each month in last financial year
40
8. Performance in comparison to broad-based indices such as BSE Sensex, CRISIL

index etc.
9. Registrar and Transfer Agents
10. Share Transfer System
11. Distribution of shares holding
12. Dematerialization of shares and liquidity
13. Details of use of public funds obtained in last three years
14. Outstanding GDRs/ ADRs/ Warrants or any Convertible Instruments, conversion date
and likely impact on equity
15. Plant Locations
16. Address for correspondence.
3.11 Certificate of Compliance

The company is required to obtain a Certificate from the Auditors of the company
regarding compliance of conditions of corporate governance as stipulated in the Clause.
This Certificate is required to be not only annexed to the Directors Report, but also to be
sent to the Stock Exchanges along with the annual returns of the company. March 2001, the
Listing Agreement has been amended, whereby the companies are required to submit a
quarterly compliance Report to the Stock Exchange within 15 days from the end o the Quarter
and the report to be submitted by the Compliance Officer or the Chief Executive Officer is
required to be made in the prescribed format.
This report would help the Stock Exchanges to monitor the due compliance of clause
49 by the companies. The companies would also take greater care in complying with these
provisions at an early date. These, in turn, would ultimately help in good corporate practices
and enhance long-term shareholders value.
Other Disclosures in Annual Reports
Companies complete on voluntary disclosure to establish competitive advantage in

the capital market. Voluntary disclosure practices in the Indian corporates reporting,
41
• Most common voluntary disclosures re information on “ Economic value added

from all these, many companies publish 10 years results at glance, major events,
happenings in the year, awards won during the year, and charity and social
contributions made during the year are spelt out in the annual report.
• Segment reporting- Many enterprises provides groups of products or services

operates in geographical areas that differ in terms of profitability, opportunities
for growth, future prospects and risks. Therefore it is essential for the companies
to provide segment information. The recently issued accounting standard AS13
provides guidance on the information to be provided by companies and the
reporting format. The standard comes into effect in respect of accounting periods
on or after 1 April 2001. It is mandatory for listed companies and for other
commercial, industrial and business reporting enterprises whose turnover for
the accounting period exceeds Rs. 500 million.
• Disclosure of related party transactions – Related party relationships are common

in commerce and business For e.g. an enterprise say A may invest in another
enterprise B, that is a major supplier of its raw material in order to have significant
influence on the operating and financial decisions of B. The firm A continues to
purchase from B, but the transactions are and may not be on commercial terms.
Therefore, disclosure of related party relationship and transaction with related
parties is important. Accounting Standard 18 deal with the disclosure of related
party transaction. AS14, ICAI (2000) defines related parties as follows – “Parties
are considered to be related if at any time during the reporting period one party
has the ability to control the other party or exercise significance influence over
the other party in making financial and / or operating decisions”. Moreover, it is
a continuous financial reporting system that is appreciated than the annual
reporting pattern. Thus the emphasis has shifted to a more frequent disclosure
of information.
The basic rights of the shareholders include right to transfer and registration of shares,
obtaining relevant information on the company on a timely and regular basis, participating
and voting in shareholder meetings, electing members of the board and sharing in the residual
profits of the corporation. Shareholders have right to participate in, and bee sufficiently
informed on decisions concerning fundamental corporate changes, they should not only be
provided information as under the Companies Act, but also in respect of other decisions
relating to material changes such as takeovers, sales of assets or divisions of the company,
42
changes in capital structure which will lead to change in control or may result in certain
shareholders obtaining control disproportionate to the equity ownership. It is recommended
by SEBI that information like presentations made by companies to analysts may be put on
company’s website or may be sent in such a form so as to enable the stock exchange on
which the company is listed to put it on its own website. Companies have to display. The
quarterly results either on their own website or send it to the stock exchanges to display on
their web site.
As per clause 49 of listing agreement the half-yearly results including summary of the
significant event in the last six months, should be sent to every shareholder of the company.
The utility of financial reports ultimately systems from twin roles-
1) Confirming the market expectations on corporate performance and affairs and
2) Providing data to investment analysis to update and adjust their projections of future
health of the company.
Thus financial reports curb the tendencies amongst the market participants to ride on rumors
and provide an insurance against excessive volatility in the securities markets.
Check Your Progress

1. What is report?
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
2. What is annual report?
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
3. What do you mean by corporate governance?
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
43
3.12 Summary
The financial reporting is generally called as annual accounts of company. So it contains
information on its operation and financial passions of the company. Therefore every company
once in a year has to communicate to public, shareholders and creditors of the company
because they are all the users of annual report the financial report should have the
characteristic of understandability, Relevance, reliability and comparability. The financial
report contain the profit & loss account, Balance sheet, directors report and auditor’s report
and also governance report and management. Good financial report should cover the public
and help to management for taking future decisions.
3.13 Key Words

• Report
• Financial position
• Shareholders
• Comparability
• Reliability
• Interim Report

1. What are the objectives of financial reporting?
2. Discuss the importance of annual report.
3. What are the contents of director’s report?
4. State the importance of Director’s Responsibility statement.
5. Explain the contents of corporate governance report.
6. Bring out the information that should be reported to the shareholders through the annual
reports.
7. Write a note on certificate of compliance.

44
LESSON 4
FINANCIAL DISCLOSURES PRACTICES

Learning Objectives
• Define corporate governance
• Explain the elements and strategies of corporate governance
• Describe the norms of SEBI
• Explain the functions of audit committee
• List various types of committee
Structure
4.1 Introduction
4.2 Definition
4.3 Elements of Corporate Governance
4.4 Strategies and Techniques
4.5 Players in Corporate Governance
4.6 Norms of SEBI
4.7 Board Committees
4.8 Disclosure of Remuneration of Directors
4.9 Board Procedure
4.10 Audit Committee and Functions
4.11 Summary
4.12 Key Words

45
4.1 Introduction
Corporate governance has evolved as a major topic of concern throughout the
business world. General failures of large companies, increased activism of regulatory bodies,
the rise of institutional investors, takeover moves in the corporate world have all contributed
to the growing significance.
4.2 Definition
Corporate governance has been defined as the relationship between owners and
managers in directing and controlling companies. A broad definition given by Sir Adrian
Cadbury is the exercise of the powers in a responsible way. President of World Bank J.
Wolfensohn quotes that corporate governance is about promoting corporate fairness,
transparency and accountability.
Corporate governance refers to an economic, legal and institutional environment that

allows companies to diversity, grow, restructure and exist, and do everything necessary to
maximize long-term shareholders value.
4.3 Elements of Corporate Governance

Corporate governance basically consists of two elements-
1) The long term relationship, which has to deal with checks and balances, incentives of
managers and communications between management and investors, and
2) The transactional relationship, which involves matters relating to disclosure and

transparency.
4.4 Strategies and Techniques

Sound corporate governance should have as its basis the following strategies and
techniques:
1. The corporate values, codes of conduct and other standards of appropriate behavior
and system to ensure compliance with them.
2. A well articulated corporate strategy against which the success of the overall enterprise
and the contribution of individuals can be measured.
46
3. The clear assignment of responsibilities and decision making among authorities,

incorporating a hierarchy of required approvals from individuals to the board of directors.
4. Establishment of a mechanism for the interaction and cooperation among the board of
the directors, senior management and the auditors.
5. Strong internal control systems, including internal and external audit functions, risk
management functions independent of business lines and other checks and balances.
6. Special monitoring of risk exposures where conflicts of interests are likely to be particularly
great, including business relationships with borrowers affiliated with the banks, large
shareholders, senior management, or key decision makers within the firms.
7. The financial and managerial incentives to act in an appropriate manner offered to

senior management, business line management and employees in the form of
compensation, promotion and other recognition : and
8. Appropriate information flows internally and to the public.
4.5 Players in Corporate Governance

The set of players in the corporate governance system can be identified as law,
which is the legal system, regulators, the board of directors, employees, auditors, financial
intermediaries, markets and self regulatory organizations. It is the dynamic balance among
them that determines the prevailing corporate governance system.
1. Regulatory Bodies
The companies act generally guide the legal structure, internal management, control
and administration of corporate bodies. The regulatory framework includes Company Law
Board, Securities and Exchange board of India, Registrar of Companies, Statutory Auditors,
Stock Exchanges, Financial Institutions and Banks.
2. Board of Directors
The board is accountable in various ways to number of different stakeholders. The

directors are expected to achieve a harmonious balance between competing interests, Viz.,
shareholders, investors, consumers, employees, government and society at large. The board
should maintain proper balance between short-term policies and long-term priorities of the
company.
47
3. Market Forces
Replacement of government controls by market forces is the main factor that triggered
the interest in the corporate governance issues. The market forces by nature are very dynamic
and vibrant, so the corporate governance cannot be static set of rule but change according
to the demand and the requirements of the market.
4. Shareholders
A large number of individual shareholders are scattered across a wide area and hold
investments of small size i.e. 100 to 1000 shares on an average basis. The objective of this
class of the share holders is to simply make a better return on their investments than is
available in the traditional modes of investments. Majority of them do not attach any importance
to analyze the information sent by the investee company or keep the general track of the
affairs of the company. Effective corporate governance system requires active participation
of shareholders in the management of the company.
5. Auditors
An auditor has a crucial responsibility of certifying the truth and fairness of the financial
statements of a company under the companies Act 1956. Common criticism of Indian
accounting norms is that they enable the management hide more than what they reveal in
the accounts. In case of many companies, growth in size was not matched by corresponding
growth in accounting controls. Auditors have a crucial role in ensuring better governance
systems.
4.6 Norms of SEBI

SEBI has implemented the recommendations of Birla committee through the listing
agreement with stock exchanges. SEBI, wide its press release ref no.PR49/2000 dated 21st
Feb 2000, has issued guidelines on corporate governance and has made it obligatory for a
listed company and a company enlisted on the stock exchange to comply with guidelines for
corporate governance. The same have been incorporated in the listing agreement as Clause
49. This Clause broadly covers the following points:
1. Applicability
All the companies having paid up capital of Rs.3crores and above have to adopt the
code from the financial year 2002-2003, i.e. in relation to the financial year beginning on 1
April 2002 and ending on 31 March 2003.
48
2. Board of Directors and its Composition
Non- executive directors: The board of the company should have an optimum
combination of executive and non- executive directors with not less than 50% of the board
comprising the non-executive directors. The non-executive directors comprise of promoter
directors and independent directors.
3. Independent Directors
Independent directors are those, who apart from receiving director’s remuneration do
not have any material pecuniary relationship or transactions with the company, its promoters,
its management or its subsidiaries that in the judgment of the board may affect their
independence of judgment. In case the company has non-executive chairman, at least one
third of the board should comprise of independent directors and in case of an executive
chairman, at least one half of the board should be independent as per clauses 49 of listing
agreement.
4. Promoter Directors
Promoters are the people who formed the company, financed the project and also
managed the company. Over the years their involvement was becoming less and less, they
did not own the company and they had minimal stakes only, with their projects financed by
terms loans from financial institutions and through public issues of shares and debentures.
According to SEBI guidelines, the promoter’s contribution should be 20% or 25% of the
issued capital going upto 50 % in case of premium issues.
5. Nominee Directors
There is another set of directors in Indian companies who are the nominees of the
financial or investment institutions to safeguard their interest. The nominees of the institutions
are often chosen from among the present or retired employees of the institutions or from
outside. It is recommended by the Birla committee and accepted by SEBI that the investment
institutions should maintain arm’s length relationship with the company, should not seek a
seat on the board of a company, which would imply their involvement in the management of
the company, which would imply their involvement in the management of the company.
Instead they can protect their interest better and provide directions to the individuals
shareholders to be more effective using the voting power at the General Body meetings.
Alternatively they may also decide to dis-invest their holdings in the market, which could
have an adverse impact on the prices of the stocks.
49
4.7 Board Committees

As a part of corporate governance, there should be different committees of the board
to ensure focused attention of various aspects of the company’s working. Board committees
are important for two reasons. First they assist the boards of directors in discharging their
increasing heavy responsibilities. Second board committees strengthen the position of non
executive directors of whom they are largely made up, by involving them more directly in the
affairs of the companies. SEBI recommended the information of Audit committee, Remuneration
committee, Investors Grievances committee, and Share transfer committee etc., A director
should not be a member in more than ten governance committees or act the chairman in not
more than five committees across all companies in which he is a director. This is done to
ensure that the member of the board give due importance and commitment of the meeting of
the board and its committees.
1. Audit Committee
The board of a company should set up a qualified and an independent Audit committee.
The audit committee should have minimum three members, all being non – executive directors,
with the majority being independent, and with at least one director having financial and
accounting knowledge. The chairman of an audit committee should be an independent
director.
2. Remuneration Committee
The overriding principle irrespective of directors’ remuneration is that of openness.

Shareholders are entitled to a full and clear statement of benefits available to the directors.
For this purpose the Birla Committee recommended that the board should set up a
remuneration committee to determine on their behalf of the shareholders with agreed terms
of reference, the company’s policy on specific remuneration packages for executive directors
including pension rights and any compensation payment. The remuneration package should
be good enough to attract, retain and motivate the Directors of the quality required. The
remuneration committee should be in a position to bring about objectivity in determining the
remuneration package while striking a balance between the interest of the company and the
shareholders. To avoid conflicts of interest, the remuneration committee, which would
determine the remuneration packages of the executive directors should comprise minimum
of three non-executive directors, the chairman of committee being an independent director.
There is no requirement of quorum for the meeting and was of the view that remuneration is
50
mostly fixed annually or after a specified period. It would not that suits the convenience of all
the members of the committee. All the members of the remuneration committee should be
present at Annual General Meeting to answer the shareholders queries. It is recommended
that the entire board of directors should decide the remuneration of non- executive directors.
The recommendations of the board of directors would need to be ratified at the General
Body meeting of shareholders and in case the board disagrees with the recommendations
of the remuneration committee, the matter should be decided at the General body meeting
of the shareholders who should be provided with sufficient information about the remuneration
policy and package.
3. Shareholders/Investors Grievances Committee
A board committee under the chairmanship of a non-executive director should be

formed to specifically look into the redressing of shareholder complaints like transfer of
shares, non-receipt of balance sheet, non-receipt of declared dividends etc. The formation
of such a committee will help to focus the attention of the company on shareholders grievances
and sensitize the management to redressal of their grievances.
4. Share Transfer Committee
SEBI recommend to form a share transfer committee. However it is optional to delegate

the process of share transfers to the independent registrars and shares transfer agents.
4.8 Disclosure of Remuneration of Directors

It is important for the shareholders to be informed of the remuneration of the directors
of the company. Full disclosure should be made to the shareholders regarding the
remuneration package of all the directors. The management must make disclosure to the
board relating all material, financial and commercial transactions, where they have personal
interest.
As per listing requirement the following disclosures should be made in the section on
corporate governance of the annual report:
1. All elements of remuneration package of all the directors i.e. salary, benefits, bonuses,
stock option, pension etc.
2. Details of fixed component and performance linked incentives, along with the performance
criteria.
51
3. Service contracts, notice period, severance fees.
4. Stock option details, if any- and whether issued at a discount as well as the period over
which accrued and over which exercisable.
4.9 Board Procedure

The various provisions recommended in this respect would enable the board to have
an appropriate structure to assist it in the discharge of its responsibilities. They refer to
certain basic procedural requirements in terms of frequency of meetings, as well as circulation
of agenda items well in advance, and more importantly, the commitment of the members of
the board.
As per the companies act board meetings should be held at least four times in a year
with a maximum time gap of four months between any two meetings. The attendance of the
board members in the board meetings as well as in the Annual general meeting should be
given in the annual report. In case of the appointment of a new director or reappointment of
a director, the shareholders must be provided with a brief resume of the directors, his expertise
and the names of the companies in which the person also holds directorships and the
memberships of committees of the board.
1. Management Discussion and Analysis Report: A separate report titled management

and Discussion Report with detailed analysis is required to be enclosed in the annual
report.
2. Report on Corporate Governance: There should be a separate section on corporate

governance in annual reports of the companies with a detailed compliance report.
3. Certificate of Compliance: The Company has to enclose a certificate from the auditors
of the company regarding conditions of the corporate governance.
4. Non- Mandatory requirements
(i) Postal ballot: The annual general meetings of the company should not be deliberately
held at venues or the timing should not be such, which makes it difficult for most of the
shareholders to attend. The company must also ensure that it is not inconvenient or
expensive for shareholders to cast vote. In this context, for shareholders who are unable
to attend the meetings, there should be a requirement which will enable them to vote by
postal ballot for key decisions such as investment proposals, appointment of directors,
52
auditors, committee members, loans and advances above a certain percentage of net
worth, changes in capital structure which will lead to change in control or may result in
certain shareholders obtaining control disproportionate to equity share holding, sale of
assets or divisions and takeovers etc.
(ii) Remuneration committee: The board should set up a remuneration committee to

determine the companies’ policy on specific remuneration packages for executive
directors.
(iii) Half-yearly results: Half yearly declaration of financial performance including the
summary of the significant events in the last six months should be sent to each share
holder.
(iv) Chair man’s office: No-executive chairman should be entitled to maintain a chairman’s
office at the company’s expense. This will enable him to discharge the responsibilities
effectively.
4.10 Audit Committee and Functions

According to the new provisions of companies’ amendment act 2000, every public
company having a paid-up capital of not less than Rs. 5 Crores shall constitute a committee
of the board known as Audit Committee which shall consist of not less than three directors
and such number of other directors as the board may determine of which two third of the
total number of members shall be directors other than the managing or whole-time directors
of the company.
Every Audit Committee Constituted under section 292A(1) shall act in accordance
with the terms of reference to be specified in writing by the Board. The members of the audit
committee shall elect a chairman from themselves. The annual report of the company must
disclose the composition of the Audit committee. It is specifically stipulated that the auditors,
the internal auditor, if any, and the director-in-charge of finance shall attend and participate
at the meeting of the Audit Committee but shall not have the right to vote.
The Audit Committee should have discussions with the auditors periodically about
internal control system, the scope of audit, including the observations of the auditors and
review of half-yearly and annual financial statements before submission to the board and
also ensure compliance of internal control systems. The audit committee shall have authority
to investigate into ant matter in relation to the items specified in the special provisions of
53
sec292A or referred to it by the board and for this purpose shall have full access to information
contained in the records of the company and external professional advice, if necessary.
The recommendations of the Audit Committee on any matter relating to financial

management including the audit report shall be binding on the Board. If the board does not
accept the recommendations of the audit committee it shall record the reasons therefore
and communicate such reasons to the shareholders. The chairman of the audit committee
shall attend the annual general meeting of the company to provide any provisions of
section292A the company and every officer who is in default shall be punishable with
imprisonment for a term which may extend to one year or with fine which may extend to
Rs.5000 or both.
A system of good corporate governance promotes relationships of accountability

between the board, the management and the auditor. It holds the management accountable
to the board and the board accountable to the shareholders. The audit committee’s role
flows directly from the board’s oversight function. It acts as a catalyst for effective financial
reporting.
The need for having an audit committee grows from the recognition of the oversight of
financial reporting system. The audit committee has an important role to play. Audit committee
would go a long way in enhancing the credibility of the financial disclosures of a company
and promoting transparency. The provisions of listing agreement & their adherence pattern
are given below.
1. Composition
• The composition of the audit committee is based on the fundamental premise of

independence and expertise. The audit committee should have minimum three non-
executive directors, majority being independent, with at least one director having financial
and accounting knowledge.
• The chairman of the committee should be an independent director
• The chairman should be present at Annual General Meeting to answer shareholder

quries
• The finance director, head of internal audit and a representative of external auditor
should be present as invitees for the meetings of the audit committee
• The Company Secretary should act as the secretary of the committee.

54
2. Frequency of Meeting and Quorum
As per clause 49 the audit committee should meet at least thrice a year. One meeting
must be held before finalization of annual accounts and one necessary every six months.
The quorum should be either two members or one third of the members of the audit committee
whichever is higher.
3. Powers of the Audit Committee
Being a committee of the board, the audit committee derives its powers from the
authorization of the board. The Audit Committee have powers:
• To investigate any activity within its terms of reference.
• To seek information from any employee.
• To obtain outside legal or other professional advice.
• To secure attendance of outsiders with relevant expertise, if it considers necessary.
4. Functions of the Audit Committee
According to the clause 49 of listing agreement, the audit committee acts as the bridge
between the board, the statutory auditors and internal auditors. Its role should include the
following
• Oversight of the company’s financial reporting process and the disclosure of its financial
information to ensure that the financial statement is correct, sufficient and credible.
• Recommending the appointment and removal of external auditor, fixation of audit fee
and also approve payment for any other services.
• Reviewing with management the annual financial statements before submission to the
board, focusing primarily on:
• Any changes in accounting policies and practices.
• Major accounting entries based on exercise of judgment by management.
• Qualifications in draft audit report.
• Significant adjustments arising out of audit.

55
• Compliance with accounting standards
• Compliance with stock exchange and legal requirements concerning financial

statements.
These changes in regulations have considerably altered the way businesses are carried
out. Standards of good governance have been instituted in Indian companies through SEBI
regulations.
Check Your Progress
1. What do you understand by corporate governance?
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
2. What are the elements of corporate governance?
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
3. Write a note on board committees.
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
4.11 Summary
Sound corporate governance is important for well functioning of company and growing
significance corporate governance as the relationship between owners and managers in
directing and controlling companies. Its do everything necessary to maximize long term share
holders value and sound corporate governance should cover codes of conduct, standards
of behavior and system to ensure compliance with them. Corporate governance has a set of
56
players which are regulatory bodies, board of directors, share holder and auditor. The SEBI
and new amendment of companies act implemented new provisions about paid up capital,
number of director in executive and non executive, frequency of meeting and quorum and
powers of the audit committee. This amendment and provisions may increase the relation
and significance of corporate governance.
4.12 Key Words

Regulatory body
Director
Auditor
Amendment
Quorum
Principles

1. Explain the elements and strategies of corporate governance.
2. What are the players of corporate governance?
3. What are the functions of audit committee?
4. Explain the norms issued by SEBI.

57
LESSON 5
INFLATION ACCOUNTING
Learning Objectives
• Define inflation accounting
• Explain the concept price level accounting
• Describe the limitations of historical accounting
• Explain the merits and demerits of inflation account.
Structure
5.5 Introduction
5.2 Limitations of Historical Accounting
5.3 Approaches to Price Level Accounting
5.4 Evaluation of Inflation Accounting
5.5 Illustrations
5.6 Summary
5.7 Key Words
5.1 Introduction
Financial Statements are prepared on the basis of historical costing; assuming the
purchasing power of the money remains the same. But the purchasing power of the basic
measuring unit (Rupee in India) goes on changing from time to time on account of changes
in price level. The limitations of historical accounting have been widely realized by the
accountant. The inflation Accounting is the method of incorporating price level changes in
Financial Statements.
58
5.2 Limitations of Historical Accounting

Historic accounts suffer from the following serious limitations during the period of
rapidly changing prices:
1. Utility of accounting records seriously impaired: Financial statements prepared on

historical costs fail to reflect the effect of changes in the purchasing power on the financial
position and profitability of the firm.
2. Unrealistic profits: Depreciation calculated on the basis of historic cost of old assets is
usually lower than that of current value or replacement value. This will result in overstatement
of profits, taxes etc.
3. Insufficient provision of depreciation: The depreciation provided on the historical

costing basis will not be sufficient to replace the asset at the end of the life time of the asset.
4. Fixed assets values are unrealistic: Fixed Assets are shown at historic values and not
at current values which does not give true and fair financial value of an enterprise.
5. Different basis: Fixed assets are shown at historical cost where as expenses and Incomes
are shown at current prices. This approach does not give correct and reliable information
about business.
6. Return on capital employed: In conventional accounting profits are overstated and

Assets are understood which will not give the correct return on capital employed to the
shareholders.
7. Matching principle violated: Sales are recorded at current prices whereas the closing
stock is shown at cost or market price whichever is less. Thus the profit does not reflect the
net wealth of a company.
8. Incorrect ascertainment of operating capacity: Costs of goods sold is understated

and does not give the fair view of operating capacity of an enterprise.
9. Difficulty in comparison of profitability: In case of price level changes, comparison of

profitability of plants set up at different dates becomes difficult.
10. Violation of the law of additivity: Data may be added or subtracted if the purchasing
power of the currency remains the same. When the value of rupee changes, the addition to
the given data does not give meaningful results.
59
11. Mixing up of holding gains and operating gains: Historic accounting mixes up holding
and operating gains and does not help to take the proper decision.
5.3 Approaches to Price Level Accounting

At present the approaches to account for price level changes are:
1. Current Purchasing Power Accounting (CPP)
2. Current Cost Accounting (CAA)
3. Specific and General Price Level Accounting (SGPLA)
5.3.1 Current Purchasing Power Accounting (CPP)
In CPP method, the historic cost accounting data are adjusted on the basis of approved
general price index at a given date. In India, Wholesale price index of RBI has been taken
as the basis.
Step 1: Conversion factors
Historical Accounting figures are to be converted restated at current price level. This has to
be done by multiplying the figures in the conventional income statements and Balance
sheet with conversion factor which is computed as follows.
Index on the date of conversion
Index on the date of conversion

Conversion Factor = ---------------------------------------------
Index on the date the item arose
For example, a building was purchased for Rs.2, 00,000 on 31.12.2012 when the general
price index was 100. It is restated on 31.12.2018 when the index was 180 as follows.
Value of building on 31.12.2018 = Index on the date of conversion
------------------------------------------------
Index on the date the item arose
= 180
------------ = 1.8
100
60
Value of building on 31.12.2018 = Existing value * Conversion factor
= 2, 00, 000 * 1.8 = Rs. 3, 60,000
Many transactions in a business occur throughout a period. For example, sales, purchases,
expenses like salaries, rent etc., They must be converted on the basis of average index as
shown in the middle of the period. This adoption of the mid period index for items which take
place throughout a period is called ‘mid period conversion. If mid period index is not available,
average of the index at the beginning and at the end of the period has to be used.
Step 2: Monetary items and non monetary items
All assets and liabilities can be broadly divided into two categories based on the
variability of their value.
Monetary items are all those assets and liabilities whose amounts are fixed either by
contract or otherwise, regardless of the changes in the general price level. These liabilities
are payable and assets are receivable in fixed amounts. For example, a creditor for Rs.
10,000 will be paid the same amount without any compensation for the decline in money
value. Thus, cash & bank balance, bills receivable, sundry debtors, prepaid expenses etc.,
are all monetary assets. Similarly, bills payable, sundry creditors, outstanding expenses,
redeemable preference share capital, etc, are all monetary liabilities.
Non-monetary items are all those assets and liabilities whose value is likely change
with the general price index or inflation. So, they cannot be stated in fixed monetary amounts.
All the fixed assets like buildings, machinery, furniture, inventories and marketable investments
are non-monetary assets. Equity share capital is a non-monetary liability because of the
residual claims on the company’s net assets, which renders it variable in value. The monetary
assets and monetary liabilities are receivable and payable at the original amounts only.
Thus, holding of monetary liabilities results in gain and holding of monetary assets results in
loss in inflationary periods. Such gain or loss is taken into account in C.P.P method as
“General Price level gain or loss”’ It is shown as a separate item in the restated income
statement apart from the routine business profit or loss. It is not used for dividend payment
though shown as a profit because of its nature as “revaluation profit”.
Step 3: Gain or loss on monetary items
There are two ways of computing general price level gain or loss. When all the
transactions influencing the change in monetary items occur uniformly throughout the year
and the average rate of change is applicable to compute gain or loss.
61
(i) Conversion factors are computed for both opening items and for changes in the items
during the year.
Conversion factor for opening items = Closing Index

------------------
Opening Index
Conversion factor for change in items during the year = Closing Index
------------------
Average Index
(ii) Opening monetary liabilities are converted to the closing level. Change in monetary
liabilities during the year is also converted to the closing level. From the total of these
two items converted, the closing monetary liabilities as per historical accounts are
subtracted. The difference is gain (or loss) on holding monetary liabilities.
(iii) Monetary assets at the beginning of the year are converted to the closing level. Change
in monetary assts during the year is also converted to the closing level. From the total of
these two items converted, the actual closing monetary assets are subtracted. The
difference is loss (or gain) on holding monetary assets.
(iv) The difference between the result of step 2 and step 3 is the net ‘gain or loss’ on
monetary items.
When transactions influencing monetary items do not occur uniformly but their
occurrence is random, the following procedure is used.
Net monetary assets or liabilities at the beginning of the year are ascertained. This is
the difference between opening monetary assets and opening monetary liabilities. Sources
of monetary assets during the years are to be added to the net opening monetary assets.
Usually sales, both cash and credit is the source. Uses of monetary assets during the years
should be subtracted. Purchases and other expenses are the usual uses. The opening net
monetary assets as well as the sources and uses of the monetary assets have to be converted
to the closing level with the help of appropriate conversion factors. The actual net monetary
assets on the closing date must be reduced from the above balance. The result is net
monetary loss for the year. If it is a negative figure, it is net monetary gain.
In case the opening monetary liabilities are more than the assets, then, there are net
monetary liabilities at the beginning. In such cases, the uses of monetary assets i.e, purchase
and expenses should be added and the sources i.e., sales etc. should be reduced.
62
Step 4: Cost of sales and inventories
Cost of sales and the values of stock depends on the cost flow assumptions relating
to the usage of goods i.e., ‘first – in first- out’ (FIFO) or Last – in –first –out’ (LIFO) method is
used; it is assumed that the shocks acquired first are used or sold first. When LIFO method
is followed, goods purchased last are assumed to be used or sold first. While restating the
income statements and balance sheet under C.P.P method, it is essential to keep in mind
the cost flow assumptions relating to goods because they affect the value of cost of goods
sold as well as the closing and opening inventories.
When FIFO method is followed
(i) Cost of sales includes the entire opening stock and the balance from current year’s
purchases.
(ii) Closing inventory is completely out of current year’s purchases. Since the opening
stock is assumed to be completely sold, closing stock can be a part of current year’s
purchases only.
When LIFO method is followed
(i) Cost of sales includes current year’s purchases. If cost of sales is more than the current
year’s purchases, the excess is out of opening stock.
(ii) Closing inventory includes the opening inventory. If current purchase are not fully sold
or used. The closing inventory includes the opening inventory and the unsold of the
current year’s purchases
The following conversion factors are used for restating inventories and purchases:
(a) Opening stock = Closing Index

Opening Index
(b) Current year purchase = Closing Index

Average Index
(c) Goods purchases in previous years = Closing Index

But still in stock _____________________________
Index on the date of purchases of the
goods
63
Step: 5 Ascertainment of Profit
The profit made during a period may be ascertained in two different ways under C.P.P
method.
Conversion method or Restatement of income method: The income statement prepared

on historical cost basis is restated in C.P.P terms with the help of conversion factors as
follows.
(i) Sales, which take place throughout the year and operating expenses, which are also
paid from the beginning till the end of the year, are converted on the basis of average
index rate for the year.
The conversion factor is: Closing Index
Average Index
(ii) Cost of goods sold is converted on the basis of cost flow assumptions (FIFO or LIFO
explained earlier.
(iii) Fixed assets and depreciation there on have to be converted on the basis of the index
numbers prevailing on the dates of assets acquisition. Conversion factor is:
Closing Index
------------------------------------------------
Index on the date of buying the assets
(iv) Dividends and taxes paid should be converted on the basis of the index prevailing on
the dates they were paid. Conversion factor is:
Closing Index
--------------------------------------------------
Index on the date of buying the assets
(v) Monetary result i.e., gain or loss on monetary items or ‘general price level gain or loss
should be computed as explained. It should be shown as a separate item in the restated
incomes statement. Of course, gain on this account cannot be used for payment of
dividend to the shareholders.
Net Change Method
This method is based on the concept that profit is the difference between the owner’s
capital at two different points in time. The same concept is used in ‘the statement of affairs
64
method’ in ascertaining profit in single entry system. In simple words, profit is the change in
owner’s equity during an accounting period’.
(i) Opening balance sheet prepared under historical accounting method is converted into
C.P.P. terms at end of the accounting period. This is done with the help of appropriate
conversion factors. Both monetary and non- monetary items in the opening balance
must be converted.
Even equity capital may be converted and the difference in the balance sheet may be
taken as reserves. Alternatively, the equity share capital is not converted. Difference in
the balance sheet is taken as equity.
If there is opening balance sheet which is already converted (at the end of last year)
such a balance sheet must be updated for the closing date by converting all the items
with the conversion.
(ii) Closing balance sheet prepared under historical cost accounting should also be
converted into C.P.P.Terms.
The monetary items in the closing balance sheet are not restated because they are
payable or receivable at their face values. All non – monetary items have to be converted.
If equity capital is not converted, the difference in the balance sheet is equity.
(iii) Profit or loss for the accounting period is the change of Reserve or equity between the
opening balance sheet as converted and the closing balance sheet as converted.
Profit = Closing reserves – Opening Reserves (or)
Profit = Closing equity – Opening equity
Merits of CPP method
(1) A single general price index is used to convert all the items in the balance sheet.
(2) All the balance sheet items are adjusted to show their current values. So, the balance
sheet presents a true and fair view of the financial position of the business.
(3) Loss or gain due to holding monetary assets and liabilities are recognized in this method.
The concept of such loss or gain is logical and practical.
(4) Inventories are shown at their current values, though purchased at different points of
time in the past.
65
Demerits
(1) CPP method is based on general price index which is to be uniformly applied to all the
items in a balance sheet. This can result in misleading data. The method cannot be
applied with precision to individual firms.
(2) Selection of a suitable general price index is problematic since there are different indexes
available.
(3) Profit shown in this method continues to be unreliable because appropriate adjustments
are not made to the profit for the effect of inflation on stocks, assets etc.
(4) In India, tax authorities and the statutory bodies do not recognize inflation accounting,
thus making it impracticable to introduce them into accounts.
5.3.2 Current Cost Accounting Method
In CPP method, converted financial statements are not all a part of the regular
accounts. They are supplementary in nature and are on memorandum basis. CAA method
may be incorporated into the regular accounts.
Important characteristics of CCA method
(1) Current values of individual items are taken as the basis for preparation of financial
statements. The general purchasing power of money (The basis in CPP method) is
ignored. Current Values of individual items are ascertained on the basis of specialized
index for each specific item.
(2) Fixed assets are shown in the balance at their current replacement values .Original
cost of the assets is ignored as basis for depreciation.
(3) Inventories are shown at their current replacement cost. The old rule of cost or market
price whichever is lower is ignored.
(4) Depreciation is provided on the current replacement cost of the fixed assets. Depreciation
is charged on current value basis, not only for the current accounting period but also
the pervious accounting periods, from the date of acquiring the asset respectively.
(5) A current cost reserve account is maintained to deal with different adjustments required
under CCA method.
66
(6) Cost of sales is shown at average current cost of the goods and not the original purchase
price of the goods.
(7) Monetary assets and liabilities are not adjusted under CCA method because the value
of these items does not change with the price level.
(8) Holding gains and operating gains are distinguished. Normal operating profit is separate
from the holding gains.
Preparation of Income Statement
Income statement under CCA method is prepared with the income Statement of Historical
Accounting as its basis. After completing the incomes statement of historical accounts, serval
adjustments are made to ascertain profit or loss as per CCA method. The following are the
adjustments required, explained in detail individually.
Adjustment 1- Cost of Sales Adjustment (COSA)
It ensures that inventories are shown in the balance sheet at the current values. It also
helps in showing the stock sold or used at its current value. In simple terms, COSA represents
that portion of the increase in stock which is due to the change in prices during then accounting
period. Increase in stock due to increases in physical quantity is called ‘volume change’ and
is not a part of COSA is computed as follows:
(i) Change in the inventories during the accounting period is ascertained by finding the
difference between closing inventory and opening inventory as per historical accounts.
(ii) Closing inventory is brought down to the average level, using conversion factor as
given below:
Closing inventory x Average Index

Closing Index
Opening inventory is also taken upto the average level by using conversion factor
as given below;
Opening inventory x Average Index

Opening Index
The Difference between the converted closing inventory and opening inventory is
called volume change.
67
(iii) ‘Volume change’ is subtracted from the change in inventory as shown in The balance
is the COSA (cost of sales adjustment) which is nothing but the change in value of
stock due to change in prices alone. The COSA must be added to the cost of sales as
per Historical accounts to find the adjusted cost of sales.
COSA = (C-O) – la [C – O]
[Ic Io]
Where C = Closing stock under historical accounting system
O = Opening Stock under historical accounting system
La = Average index for the accounting period
Lc = Closing index for the accounting period
Lo = Opening index for the accounting period
Alternative method of ascertaining COSA
Cost of sales as per historical accounting + COSA = Cost of sales as per CCA method.
The following format may be used to compare cost of sales and cost of sales adjustment
(with imaginary figures)
68
The above working can be proved with help of the formula given earlier.
COSA = (C – O) – la [C-O]
[IC Io]
= [55,000 – 50,000] – 120 55,000 – 50,000

132 100
= 5,000 – (- 10,000)
= 5,000 + 10,000 = 15,000
Accounting treatment of Cost of sales Adjustment
Cost of Sales Adjustment must be debited to the Income Statement and credit to
Current Cost Reserve.
Adjustment 2 – Depreciation
Depreciation should be on the basis of current replacement value of fixed assets

under the CCA. During every accounting period, the current replacement value of each fixed
asset is ascertained and depreciation is computed on the basis of that replacement value.
However, in the historical accounting, depreciation is on the basis of the original cost of the
fixed asset. Depreciation adjustment is the difference between the depreciation chargeable
under the two methods.
Depreciation Depreciation as per Depreciation as per historical
Adjustment = CCA method on Current value of asset - accounts on original cost of

asset
Accounting Treatment of Depreciation Adjustment
The depreciation adjustment is debited to the Income statement and also reduced
from the asset in the balance sheet.
The following additional aspects relating to depreciation under CCA method require
close attention
(i) Replacement cost of the assets forms the basis for depreciation. In CCA method, the
average replacement value of the asset is used for computing depreciation. The logic is
that income statement must be debited for the use of the asset throughout the year.
69
For example, replacement value of a machine on 1.1.2017 is Rs. 1, 00,000 and on

31.12.2017 is Rs. 1, 40,000. Depreciation, say, at 10% should be calculated on
1, 00,000 + 1, 40,000 = 1, 20,000 i.e; 1, 20,000 x 10 = Rs. 12,000

2 100
(ii) Through depreciation is computed on the average replacement value of an asset for the
purpose of income statement, the asset must be shown in the balance sheet at its up – to –
date replacement value.
Thus, the difference between the depreciation of the replacement value at the end of the
year and the depreciation on the average on the average replacement value is termed as
Additional depreciation.
Additional Depreciation= Depreciation on replacement Depreciation on average

Value of asset at the end of the - replacement value of the asset
Accounting period during the accounting period
The additional depreciation is to be debited to the ‘current cost reserve’ and also it is to be
subtracted from the asset concerned in the balance sheet. The current year’s profit is not
affected by the additional depreciation.
(iii) Backlog of Depreciation: In CCA method, depreciation is charged on fixed assets on the
basis of their current replacement value. It must be understood that the depreciation on the
current value of the assets should be charged, not only for the current Year but also for the
previous years from the date of acquiring the asset, retrospectively. Thus, depreciation
charged in the current year for the sake of the previous years is called ‘Back- log depreciation’.
For example, if an asset is acquired on 1-1-2015 at Rs 1, 00,000 and replacement values
on 31-12-2015 to 2016 respectively were Rs. 1, 50, 000 and Rs. 2, 00, 000 and depreciation
is charged at 10% p.a Depreciation under historical accounting is Rs 10, 000 each in 2015
and 2016.
Under CCA method, depreciation for 2015 is 1, 50,000 x 10 = Rs.15, 000

100
For 2016 the depreciation is 2, 00,000 x 10 = Rs. 20, 000. However, in 2016 depreciation
100
On the difference in the asset value between 2016 and 2015 should be adjusted. Depreciation
to be provided in 2016 for the year 2015
70
= (2, 00,000 – 1, 50,000) x 10

100
= 50,000 x 10 = Rs. 5,000

100
Thus, Rs.5, 000 is the backlog depreciation provided in the year 2016 for the year 2015.
Backlog depreciation is not debited to income statement. It is debited to the ‘Current

cost reserve’ and credited to the asset account, which is shown as a reduction in the balance
sheet assets’ side. Thus, the current year’s profit is not affect because of the backlog
depreciation relating to the previous years.
Adjustment 3 – Monetary Working Capital Adjustment (MWCA)
The objective of this adjustment is to maintain the real value of funds invested as
monetary working capital i.e; debtors less creditors. This enables the business to retain
sufficient profits to finance its previous volume of sales at the current prices.
Monetary working capital is the difference between trade debtors and trade creditors.
Whenever volume of business increases, additional monetary working capital may be required.
However, additional monetary working capital necessitated due to inflation should be
separated and provided for. Thus, apparent increase in monetary working capital due to
price level changes is called MWCA (Monetary Working Capital Adjustment Money). Increase
in monetary working capital due to increase in business turnover is different and is called
‘volume change’ which does not require any provision in the income treatment.
MWCA is computed in the following way:
(i) Monetary working capital i.e; Trade Debtors less trade Creditors should be ascertained
both at the beginning of the year and at the end of the year. The difference between the
monetary working capital at the end of the year and that at the beginning of the year is
calculated. This is the total change in the monetary working capital during the year.
(ii) The closing monetary working capital should be brought down to the average level with
the of conversion factor as given below:
Closing monetary working capital x Average index

Closing index
71
Opening monetary working capital should also be taken upto the average level by using
conversion factor as given below:
Opening monetary working capital x Average index

Closing index
The difference between the converted closing monetary working capital and opening
monetary working capital is called ‘volume change’
(iii) ‘Volume change’ is subtracted from the change is monetary working capital as shown in
step (i).
The balance is the MWCA (Monetary Working Capital Adjustment) which is nothing in the
amount of monetary working capital due to change in price level or inflation
The MWCA can also be computed as follows:
MWCA = C – O – la [C – O]
[lc lo]
Where O = Opening monetary working capital

C = Closing monetary working capital
la = Average index for the period
lo = Index applicable to opening MWC
lc = Index applicable to closing MWC
The MWCA is debited to the Income Statement and it is credited to the ‘current cost reserve’.
Adjustment 4 – Gearing Adjustment
Current cost adjustments i.e; COSA, MWCA and depreciation adjustment help in
preserving the operating resources of a business against the adverse impact of inflation.
These adjustments reduce the profit available to the shareholders. However, funds utilized
by a business are provided not only by the shareholders but also the long-term lenders. So,
the decline in profits due to inflation should also be shared by the long term lenders in
proportion to the funds provided by them, called ‘gearing proportion’.
If there are no long term borrowings by a business, gearing adjustment is not needed.
Computation of gearing adjustment is done through the following formula:
72
Gearing adjustment = L xA
O
Where, L = Net Borrowings
O = Net average operating assets
A = The total current cost adjustments
L is also called ‘gearing ratio’
Net borrowing include the following
(a) Debentures (b) Bank loans, mortgage loans
(c) Long term bank overdraft (d) Hire purchase creditors
(e) Leasing obligations (f) Provision for taxation
Net operating assets comprise of the following
(a) Fixed assets (b) Trading investments
(c) Monetary working capital.
Alternatively, gearing adjustment can also be computed as follows:
Gearing adjustment = L
XA
L+S
L = Net borrowings
A = Total of current cost adjustments
S = Shareholders’ funds
Shareholders’ fund includes the equity and preference capital, accumulated profits,
current cost reserve and proposed dividends.
The gearing adjustment is added to the profit disclosed by the historical accounts in
the income statement. Alternatively, it can be reduced from the total of current cost adjustment
shown in the income statement.
In the balance sheet, the gearing adjustment is subtracted from ‘current cost reserve’.
73
Model current cost income statement

Sales xxx
Less: Cost of goods sold and other operating expenses xxx
Profit before interest and tax, xxx
Less: CCA adjustments:
COSA xxx
MWCA xxx
Depreciation adjustment xxx
Current cost operating profit xxx xxx
xxx
Add: Gearing adjustment xxx
Less: Provision for income tax xxx
Current cost profit after tax xxx
Less: Dividends xxx
Retained earnings xxx
xxx
Preparation of Current Cost Balance Sheet
The following are the relevant point to note while preparing the balance sheet.
(a) All monetary items – both monetary assets and monetary liabilities are shown at their
stated values since they do not require any adjustment
(b) Inventories are to be show at the current value on the balance sheet date.
For this purpose conversion factor is as follows:
Index on Balance Sheet date

Index on the date of acquiring the inventory items
It is preferable to use different conversion factors for different items in the stocks, depending
on the dates on which they were purchased.
(c) All the fixed assets have to be shown at their current replacement values. For this
purpose, specific indexes have to be used for each type of fixed asset to ascertain its
74
current value. The profit on revolution of the fixed assets at the end of each accounting
year is to be credited to ‘current cost reserve A/c’ and debited to the assets’ accounts. The
assets are shown in the balance sheet at their current value less depreciation based on the
current value, retrospectively.
(d) Current cost reserve: The balance of current cost reserve has to be shown on the
liabilities side of the balance sheet as a separate item. A separate note may be prepared to
show the opening balance of the reserve, additions in the form of (a) revaluation profit on
fixed assets (b) COSA (c) MWCA and deduction in the form of (a) gearing adjustment (b)
backlog depreciation and (c) additional depreciation.
(e) Share capital, retained earnings and other liabilities are shown to complete the balance
sheet.
Evaluation of Current Cost Adjustment Method
Merits
(1) Specialized price indexes are used for different items which make conversion factors
used more accurate and relevant.
(2) Assets are shown at their current replacement cost. Depreciation is on that basis, with
retrospective effect. This makes the value of assets shown more realistic and practical.
(3) Replacement of assets become easier because of “relevant” and “sufficient” depreciation
provided to enable easy replacement when the time for that comes.
(4) The concept of “value” which is the basis of CCA is logical. The value concept underlying
CCA is that earnings and assets of a firm should be measured with reference to their
value to the business.
(5) The profits shown are after maintaining the operating capability of the firm.
(6) Current costs are matched with current revenues in this method.
(7) Management decisions based on the financial statements prepared under CCA are
likely to be more accurate and effective.
Demerits
(1) CCA method does not aim at maintaining the financial capital in terms of ‘purchasing
power’.
75
(2) Specific price indexes applicable to different assets or items of inventory are difficult to
obtain.
(3) Frequent changes in the values of assets due to the change in current values introduces
high level if instability into the accounting systems.
(4) Current cost accounts are prepared in monetary units having a different purchasing
power each year, profits and capital employed disclosed in different years cannot be
compared because of this reason.
(5) Profits shown in this method are not fully realized, Notional increase in assets values
and inventory values are shown as profits, so, payment of dividend must be done
carefully to avoid dividend payment out of capital.
(6) General purchasing power of money may be constant; Even then, CCA method should
be employed because in specific items price level might have changed
(7) Tax authorities do not accept CCA in place of historical accounting. In India, it is
recommended in a ‘guidance note’ by the institute of Chartered Accountants of India. It
is neither mandatory nor statutory.
5.3.3 Specific and General Price Level Accounting (SGPLA)
Some accounting experts have combined the CCA and CPP methods to develop a
hybrid method with the intention of reaping the advantages of both the methods. In this
method, fixed assets and inventories are to be converted on the basis of the specific price
indexes. As done in CCA method. The hybrid method is still evolving and is not yet full-
fledged. It also suffers from the negative features of both, CCA and CPP methods. This
method cannot be of much practical use now.
5.4 Evaluation of Inflation Accounting

The following are the merits and demerits of recognizing the effect of price level
changes in accounts.
Merits of Inflation Accounting
(1) Inflation accounting shows correct profits and avoids payment of dividend out of capital
(2) Fixed assets are shown at their current values.

76
(3) Balance sheet prepared under inflation accounting shows a ‘true and fair picture’ of the
financial position of the business. This is accomplished by showing inventories and all
the assets at their current values.
(4) Financial statement prepared under inflation accounting are more useful for interfirm
comparisons and comparison of results of different periods because the figures are
more reliable and realistic.
(5) ROI (return on investment) based on profit revealed through inflation accounting is a
reliable guide for the investment decisions of the owners, lenders and the management.
(6) Ratio Analysis based on the financial statements can provide more authentic, reliable,
and meaningful information.
(7) Managerial decisions are likely to be more effective and timely due to the ‘price adjusted’
accounting data made available.
(8) The owners, employees, creditors etc. Can get a proper assessment of the performance
and prospects of the business.
Demerits or Limitations of Inflation Accounting
(1) Tax authorities do not accept depreciation on replacement cost assets. So, for tax
purpose, depreciation has to be shown on the original costs of assets.
(2) For statutory purpose, all the published accounts must be on historical accounting
basis in India. Incorporating inflation accounting into regular accounting is only for
guidance purpose.
(3) Depreciation, conceptually, is ‘spreading the cost of purchase of asset over its effective
life’. So charging higher amount as depreciation than what is spent is against the concept
of depreciation.
(4) Prices change constantly, day after day, month after month. Adjusting the accounts,
particularly the values of assets, according to the changing prices introduces instability
and frequent changes into the accounting system.
(5) Recording assets at the cost of purchase is based on objective evidence of the purchase
price. But replacement value is not based on objective evidence but subjective estimates
of individual accountants. This can make the accounts unreliable.
77
(6) Profit on revaluation of assets on the basis of their current values is not realistic profit.
It is not only a national and serves no real purpose.
Inflation accounting provides guidelines regarding the effects of rising prices on the profits
and the financial position of a business. It may be used as relevant additional data or
information by all those interested in the accounting information for various purposes.
5.5 Illustrations
Illustration 1: On 1-1-2015 a company purchased equipment for Rs.45,000. The price
index on that date was at 150. Restate the value of the equipment as per CPP method on
31-12-2015 when the price index was at 200.
Solution
Conversion Factor = Price index at the date of conversion = 200 = 4

Price index at the date of purchase 150 3
Value of equipment on 31-12-2015 as per CPP method

= Existing value x Conversion Factor
= Rs.45,000 x [4/3] = Rs. 60,000
Illustration 2: Mr. Ram purchased shares in HLL Ltd., for Rs.10,000 in 2011 when the
index of the general price levels stood at 110. At the end of 2014 the market price of the
shares was Rs. 8,000 and the index was 132. In 2015, the market price of the shares was
Rs.9,000 and the index was 145.2.
[i] Calculate the CPP value of the shares in 2014 and in 2015.
[ii] Under CPP accounting, what gain or loss would be shown in respect of shares?
[iii] What was the real gain or loss in purchasing power in respect of the shares during
1995?
Solution
[i] CPP value of the shares at the end of 2014 = Rs.10,000 x 132 = Rs.12,000
110
CPP value at the end of 2015 = Rs.10,000 x 145.2 = Rs.13,200

110
78
[ii] Determination of accounting gain or loss
2014 2015
CPP value Rs.12,000 13,200
Less: Purchase price 10,000 10,000
Accounting loss 2,000 3,200
[iii] Determination of actual loss in purchasing power
2014 2015
CPP value Rs.12,000 13,200
Less: Market price 8,000 9,000
Loss in purchasing power 4,000 4,200
Illustration 3: From the data given below, compute the net monetary gain or loss as at
31-12-2015:
1-1-2015 31-12-2015
Cash Rs. 10,000 Rs. 20,000
Accounts Receivables 40,000 50,000
Sundry creditors 30,000 40,000
Debentures 40,000 40,000
Retail price index numbers 200 300
Average price index for the year 240
Solution
Statement showing monetary gain/loss on account of Price level changes

CPP value of Monetary liabilities on 1-1-2015 Rs. 1,05,000
[Rs.70,000 x 1.5]
CPP value of increase in monetary liabilities during 2015
[Rs .10,000 x 1.25] 12,500
CPP value of monetary liabilities on 31-12-2015 1,17,500
Less: Monetary liabilities on 31-12-2015 as per balance sheet 80,000
Gain on holding Monetary liabilities Rs. 37,500
CPP value of monetary assets as on 1-1-2015 Rs. 75,000
[Rs.50,000 x 1.5]
CPP value of increase in monetary assets during 2015
[Rs.20,000 x 1.25] 25,000
79
CPP value of monetary assets on 31-12-2015 1,00,000

Less: Book value as on 31-12-2015 70,000
Loss on holding monetary assets Rs. 30,000
Net gain on monetary items 7,500
Working Notes:
Computation of conversion factors:
For monetary items as on 1-1-2015: 300/200 = 1.5
For monetary items as on 31-12-2015: 300/240 = 1.25
Increase in monetary items: as on 1-1-2015 as on 31-12-2015 Increase during 2015
Rs. Rs.
Rs.
Monetary Assets 50,000 70,000 20,000
Monetary Liabilities 70,000 80,000 10,000
Illustration 4: Following information has been extracted from the books a Limited Company:
Monetary assets Rs.30, 000; monetary liabilities Rs. 16,500
The Price index at the time of monetary item were created was 200 and now it stands at
260. Assuming that there has been no change in the amount of assets and liabilities, ascertain
the general purchasing power gain or loss.
Solution
CPP value of monetary assets = [Rs. 30,000 x 260] / 200 = Rs. 39,000
Less: Actual book value 30,000
[A] Loss on holding monetary assets 9,000
CPP value of monetary liabilities = [Rs. 16,500 x 260] /200 = Rs. 21,450
Less: Actual book value 16,500
[B] Gain on holding monetary liabilities 4,950
Net general purchasing power loss [A-B] 4,050
Illustration 5: On 1-1-2015 a firm had cash at bank balance of rs.40,000. On that date the
consumer price index was 200. During the period ended 31-12-2015 the receipts and
payments
Receipts Rs. Price Index Payments Rs. Price index

1-5-2015 Sales 21,000 210 10-6-2015 Costs 43,000 215
18-9-2015 Sales 69,000 230 01-8-2015 Plant 40,000 225
15-12-2015 Costs 30,000 240
80
Ascertain the profit or loss on account of price changes at the year-end when the price
index was 240.
Solution
Statement showing the profit or loss on account of price level changes during the year
ended 31-12-2015
Historical Cost [Rs.] Conversion Factor C P P

value [Rs.]
1-1-2015 Bank balance 40,000 240/200 48,000
Receipts:
1-5-2015 Sales 21,000 240/210 24,000
18-9-2015 Sales 69,000 240-230 72,000
Total bank balance [A] 1,30,000
1,44,000
Payments:
10-6-2015 Costs 43,000 240/215 48,000
1-8-2015 Plant 42,750 240/225 45,600
15-12-2015 Costs 30,000 240/240 30,000

Total payments [B] 1,15,570
1,23,600
31-12-2015 Bank balance [A-B] 14,250 20,400
The constant rupee [CPP] value of the closing bank balance should have been Rs.20,400
whereas the actual balance is only Rs.17,000. Hence, the difference in value of Rs.6,150
[Rs 20,400 – 14,250] represents the loss on account of price changes.
Illustration 6
Mr. Ram purchased shares at a cost of Rs.1,80,000 on 9th February 2005 when the price
index stood at 300. On 31st December 2005 the index had moved to 345 and the market
value of the investment was Rs.1,96,000. Find out the profit or loss on the investment as
per CPP basis.
Solution
31-12-2015 Cost of shares as per CPP basis [Rs. 1,80,000 x 345/300] = Rs. 2,07,000
81
Less: Market value of the shares 1,96,000
Loss on the value of the investment 11,000
Illustration 7
From the following information given on historical cost basis, restate the cost of goods sold
according to HCA and CPP methods assuming that the firm is using LIFO method for pricing
its inventories:
Rs.
Inventories on 1-1-2015 24,000
Purchases during the year 2015 28,000
Inventories on 31-12-2015 6,800
The price index in the beginning of the year was 200 while at the end of 2015 it was 360.
The closing inventory consists of purchases of purchases made when the price index was
330. The purchases were made uniformly during the year.
Solution
HCA method Conversion Factor CPP

method
Rs. Rs.
1-1-2015 Inventory 2,400 360/200[1.8] 4,320
Purchases during 2005 28,000 360/280 36,000
Goods available for sale 30,400 40,320
31-12-2015 Inventory 6,800 2,400 x 1.8 4,320
4,400 x 360/330 4,800 9,120
Cost of goods sold during 2015 23,600 31,200
Note: Purchases have been converted into constant rupees using average price index,
280[i.e., 200 + 360/2]. Closing inventory includes the balance of the opening inventory.
Illustration 8
From the following information given on historical cost basis, compute the cost of goods
sold under HCA and CPP methods assuming that the firm follows FIFO method for pricing
its inventories:
82
Inventories on 1-1-2015 Rs. 4,800

Purchases during the year 2015 Rs. 42,000
Inventories on 31-12-2015 Rs. 11,400
The general price index was 200 on 1-1-2015 and at the end of 2015 it was 360. The
closing inventory consists of purchases made when the price index was 228. The purchases
were made uniformly thoroughly the year.
Solution
HCA method Conversion Factor CPP

method Rs. Rs.
Inventory on 1-1-2015 4,800 360/200[1.8] 8,640
Purchases made during 2015 42,000 360/280 54,000
Goods available for sale 46,800 62,640
Less: Inventory on 31-12-2015 11,400 360/228 18,000
Cost of goods sold during 2015 35,400 44,640
Note: Purchases have been converted into constant rupees using the average price index
of 280.
Illustration 9
A firm purchased a plant for Rs. 5,00,000 on 1-1-2012. It has an expected life of 10 years
with zero scrap value. The price indices for the asset were as follows:
1-1-2012 200
1-1-2015 320
31-12-2015 350
The firm charged depreciation on straight-line basis. Ascertain the values of machinery on
1st January and 31st December 2015 as per HCA and CCA methods. Also calculate the
amount of depreciation adjustment to be made in the account of 2015.
83
Solution
Statement showing the value and depreciation of the Equipment
Particulars 1-1-2015 31-12-2015
Historical Current Historical Current
Cost [Rs.] Cost [Rs.] Cost [Rs.] Cost [Rs.]
Cost 5, 00,000 8, 00,000 5, 00,000 8, 75,000
Less: Depreciation [3/4 yrs] 1, 50,000 2, 40,000 2, 00,000 3, 50,000
Net Cost 3, 50,000 5, 60,000 3, 00,000 5, 25,000
Depreciation adjustment for 2015 based on Current Replacement value
Depreciation at 10% on Current Cost Rs. 8, 75,000 Rs.87, 500
Less: Depreciation charged for 2015 as per HCA 50,000
Depreciation Adjustment 37,500
Illustration 10
From the data given below calculate the gearing adjustment required under CCA
method:
Current Cost Opening Closing

Rs. Rs.
Convertible Debentures 1,00,000 1,20,000
Bank Overdraft 60,000 80,000
Cash 10,000 20,000
Paid up Share Capital 1,50,000 2,00,000
Reserves 30,000 50,000
COSA Rs. 20,000

MWCA 15,000
Depreciation 5,000
40,000
84
Solution:
Opening Closing
Rs. Rs.
Calculation of net borrowing:
Convertible Debentures 1,00,000 1,20,000
Bank Overdraft 60,000 60,000
Total of the borrowing 1,60,000 2,00,000
Less: Cash which does not enter MWCA 10,000 20,000
Net borrowings (L) 1,50,000 1,80,000
Shareholders’ funds (S) 1,80,000 2,50,000
Total of borrowings and shareholders funds (L+S) 3,30,000 4,30,000
The gearing adjustment is calculated by the application of the formula:
Gearing Adjustment = L
----- x A
L+S
L = Average net borrowing
S = Average shareholders’ interest
A= The total of the current cost adjustments.
The gearing proportion equals = 1, 50,000 + 1, 80,000

------------------------------ = 43.5%
3,30,000 + 4,30,000
Gearing adjustment = 43.5% x Rs. 40,000 = Rs. 17,400
Illustration 11
Mr. X purchased a machine in 2011 for Rs. 1,00,000 when the general price was 180.
He sold the machine in 2013 for Rs. 1,65,000 when the general index was 270. Calculate
the profit or loss on the sale of the machine, keeping aside the price level changes.
Solution:
Purchase price of the machine Rs. 1,00,000 (2004)
Sales price in 2014 Rs. 1,65,000 (2003)
Profit Rs. 65,000
270
The converted value of the machine at 2013 = Rs. 1,00,000 x --------
180
85
= Rs. 1,50,000
Therefore , profit is = Rs.1,60,000 – Rs. 1,50,000 = Rs. 15,000
Illustration 12
The information given below relates to monetary account of Ram and Company.
Compute the general price level of gain or loss:
As on 1.1 2014 As on 31.12.2014

Rs. Rs.
Monetary Assets 80,000 1,00,000
Monetary Liabilities 1,00,000 1,00,000
Retail Price Index 200 300
Average Index for the year 240
Solution:
(a) Computation of Monetary gain on account of holding monetary liabilities:
Converted value of monetary liabilities on 1.1.2014:
Rs. 1,00,000 x 300 = Rs. 1,50,000
200
Less: Historical value of liabilities on 31.12.2014 Rs. 1,00,000
Gain on holding Monetary liabilities: 50,000
(b) Computation of Monetary loss on account of holding of monetary assets:
Converted value of monetary assets on 1.1.2014
Rs. 80,000 x 300 = Rs. 1,20,000

200
Add: Converted value of monetary assets:

Rs.20,000 x 300 = Rs. 25,000
240 1,45,000
Less: Historical value of monetary assets on 31.12.2014 1,00,000
45,000
(d) Net Monetary Gain i.e (a) –(b)
That is, Rs. 50,000
Rs. 45,000
Rs. 5,000
86
Illustration 13
A Summary of balance Sheet of Sun Ltd is given below:

Cash and Accounts Receivable Rs. 13,00,000
Plant and machinery Rs. 14,00,000
(Net of Depreciation) Rs. 27,00,000
Current Debts Rs. 6,00,000
Long-term Debts Rs. 10,00,000
Owner’s Equities Rs. 11,00,000
The current price index is 280. The plant and machinery and long-term debt were acquired
when the price index was at 180.
You are required to revise the Summary balance sheet to restate assets and equities in
terms of current rupees. How will you treat the monetary gain or loss, if any?
Solution:
Check Your Progress
1. What is inflation accounting?

…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
2. Write down any three limitations of historical accounting.
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
87
3. Write down any three merits of inflation accounting.

…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
…
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
………
……
………
5.6 Summary
All the business man to prepared the financial statement on the basis of historical
cost, that is purchasing power etc the money remains the same but the changing world
money value changing from time the time. And it has many limitations. Therefore business
man to adopt the inflation accounting approaches inflation accounting means the accounting
transaction recorded on the basis of current cost or changes the price level. The approaches
of inflation accounting are, current purchasing power accounting, current cost accounting,
and specific and general price level accounting these approaches of accounting to consider
the steps of conversion factor, monetary and nonmonetary items, cost of sales and inventories.
However this accounting method also having some merits and demerits.
5.7 Key Words

Historical Cost : Past Cost
Current Cost : Present price at market
Historical cost approaches : Price level over a period of time is stable
Inflation : State of being inflated

1. Explain the need for inflation accounting.
2. Explain the merits and limitations of inflation accounting.
3. Explain the different approaches to account for price level changes.
4. What is mean by CPP method and what are its merits and demerits?
5. Explain the characteristics of current cost accounting method of inflation accounting.
6. Describe the merits and demerits of current cost adjustment method of inflation
accounting.
88
7. From the data given below, compute the net monetary gain or loss as at 31-12-2015:
1-1-2015 31-12-2015
Cash Rs. 10,000 Rs. 20,000
Accounts Receivables 40,000 50,000
Sundry creditors 30,000 40,000
Debentures 40,000 40,000
Average price index for the year 120 100 150
8. Mr.X purchased a piece of land for Rs..40,000 when the general price index was 120.
Five years later he sold this piece of land for Rs.60,000 when the price index stood at 200.
Find out the profit or loss on this transaction.
9. From the following information, compute the amount of gearing adjustment to be made in
case of a company with a capital mix of 45% debt and 55% equity. Explain how this amount
will be treated in accounts.
Depreciation adjustment Rs. 2,00,000
COSA 1,00,000
MWCA 4,00,000
10. Following information has been extracted from the financial statements of a company.
Plant and machinery Rs 36,000
Less: Accumulated Depreciation 6,000 30,000
Buildings 1,00,000
Less: Accumulated depreciation 40,000 60,000
90,000
11. From the following particulars calculate the general purchasing power gain or loss:
Monetary assets Rs. 50,000
Monetary liabilities Rs. 27,500
At the time the monetary assets were acquired and monetary liabilities were created
was 200. It stands now at 260. Assume that there has been no change in the amount of
assets and liabilities.
12. The Balance Sheet of a company, reveal the following among other things:
31.3.2013 31.3.2014
Inventories Rs. 5,50,000 6,10,000
Book Debts 4,50,000 5,50,000
Cash at bank 60,000 80,000
Advances for supply of materials 1,00,000 1,26,500
Due to suppliers 2,50,000 3,22,000
During 2013-2014 material prices rose by 15% and those of finished goods by 10%. Calculate
the Monetary Capital Adjustments to be made under the Current Cost Accounting system.
89
UNIT 6
INSURANCE COMPANY ACCOUNTS
Leaning objectives
After reading this unit, you should able to:
 Explain the meaning of insurance company
 Bring out the principles of insurance
 Examine the establishment, objectives, functions and duties of IRDA
 Bring out the types of life insurance policies
 Preparation of final accounts of Life Insurance and General Companies.
Structure
6.1 Introduction
6.2 Principles of Insurance
6.3 Establishment, Objectives, Functions and Duties of IRDA.
6.4 Types of Life Insurance Policies.
6.5 Accounting Formats of Life Insurance and General Insurance companies
6.6 Important Terms Used in Life Insurance and General Company Accounts
6.7 Illustrations
6.8 Summary
6.9 Key Words
6.1 Introduction
The function of insurance is to protect one against losses he cannot afford. This is done
by transferring the risks of a person, business or organisation, the ‘insured’, to an insurance
company, the ‘insurer’. The insurer then reimburses the insured for covered losses i.e., those
90
losses it pays for under the terms of the policy. Insurance contracts classified in to two major
heads, namely Life Insurance and General Insurance.
Life insurance is known as assurance because the death is certain. General insurance
covers fire insurance against loss of property due to fire and marine insurance against loss of
cargo.
6.2 Principles of Insurance

1. Utmost Good Faith
2. Insurable Interest
3. Proximate Cause
4. Indemnity
5. Subrogation
6. Contribution
6.3 IRDA Insurance Regulatory Development Authority
IRDA - Insurance Regulatory Development and Authority is the statutory, independent

and apex body that governs and supervise the Insurance Industry in India.
It was constituted by Parliament of India Act called Insurance Regulatory Development

Authority (IRDA of India) after the formal declaration of Insurance Laws (Amendment)
Ordinance 2014.
Establishment
o IRDA Act was passed upon the recommendations of Malhotra Committee report (7
Jan,1994), headed by Mr R.N. Malhotra (Retired Governor, RBI)
o Main Recommendations - Entrance of Private Sector Companies and Foreign

promoters & An independent regulatory authority f or Insurance Sector in
India
o In April,2000, it was set up as statutory body, with its headquarters at New Delhi.
o The headquarters of the agency were shifted to Hyderabad, Telangana in 2001.
91
Objectives of IRDA
o To promote the interest and rights of policy holders.
o To promote and ensure the growth of Insurance Industry.
o To ensure speedy settlement of genuine claims and to prevent frauds and malpractices
o To bring transparency and orderly conduct of in financial markets dealing with insurance.
Functions and Duties of IRDA

Section 14 of IRDA Act, 1999 lays down the duties and functions of IRDA:
o It issues the registration certificates to insurance companies and regulates them.
o It protects the interest of policy holders.
o It provides license to insurance intermediaries such as agents and brokers after specifying
the required qualifications and set norms/code of conduct for them.
o It promotes and regulates the professional organisations related with insurance business
to promote efficiency in insurance sector.
o It regulates and supervise the premium rates and terms of insurance covers.
o It specifies the conditions and manners, according to which the insurance companies and
other intermediaries have to make their financial reports.
o It regulates the investment of policyholder’s funds by insurance companies.
o It also ensures the maintenance of solvency margin (company’s ability to pay out claims)
by insurance companies.
6.4 Types of Life Insurance Policy
No. Type of Features

Insurance Policy
1 Term Life Insurance Term insurance is a life insurance product offered by an
insurance company which offers financial coverage to the
policy holder for a specific time period.
92
2 Whole Life Policy The policyholder pays regular premiums until his death,
upon which the corpus is paid out to the family.
3 Endowment Plans Endowment plans pay out the sum assured under both
scenarios - death and survival
4 Unit Linked ULIP is a life insurance product, which provides risk cover
Insurance Plans for the policy holder along with investment options to
invest in any number of qualified investments.
5 Money Back Policy Money back plan is a life insurance product as well as an
investment plan which provides life insurance cover
against death of the policy holder along with periodic
returns as a percentage of sum assured.
6.5 Accounting Formats of Life Insurance and

General Insurance companies
Preparation of final accounts

Final accounts of a Life Insurance Company comprise of
i. Revenue account - Form - A RA
ii. Profit and loss account - Form - A PL
iii. Balance sheet - Form - A BS.
SCHEDULES FORMING PART OF FINANCIAL STATEMENTS OF

LIFE INSURANCE COMPANY
SCHEDULE – 1 PREMIUM
Particulars Current Year Previous Year

(Rs.’000). (Rs.’000).
1 First year premiums
2 Renewal Premiums
3 Single Premiums
TOTAL PREMIUM
93
Premium Income from business written :

1 In India
2 Outside India
Total Premium (Net)
Notes:
Reinsurance premiums whether on business ceded or accepted are to be brought into

account, before deducting commission, under the head of reinsurance premiums.
SCHEDULE- 2
COMMISSION EXPENSES

(Rs.’000) (Rs.’000)
Commission paid
Direct – First year premiums
- Renewal premiums
- Single premiums
Add: Commission on Re-insurance Accepted
Less: Commission on Re-insurance Ceded
Net Commission
Note:
The profit/ commission, if any, are to be combined with the Re-insurance accepted or Re-
insurance ceded figures.
SCHEDULE – 3
OPERATING EXPENSES RELATED TO INSURANCE BUSINESS

(Rs.’000) (Rs.’000)
1. Employees’ remuneration & welfare benefits
2. Travel, conveyance and vehicle running expenses

94
3. Rents, rates & taxes
4. Repairs
5. Printing & stationery
6. Communication expenses
7. Legal & professional charges
8. Medical fees
9. Auditors’ fees, expenses etc
a) as auditor
b) as adviser or in any other capacity, in respect of
(i) Taxation matters
(ii) Insurance matters
(iii) Management services; and
c) in any other capacity
10. Advertisement and publicity
11. Interest & Bank Charges
12. Others (to be specified)
13. Depreciation
TOTAL
Notes:
a) Items of expenses in excess of one percent of the net premium or Rs.5,00,000 whichever
is higher, shall be shown as a separate line item.
b) Under the sub-head “Others”, `Operating Expenses (Insurance Business)’ shall include
items like foreign exchange gains or losses and other items.
95
SCHEDULE – 4
BENEFITS PAID [NET]

(Rs.’000) (Rs.’000)
1. Insurance Claims
(a) Claims by Death,
(b) Claims by Maturity,
(c) Annuities/Pensions in payment,
(d) Other benefits, specify
2. (Amount ceded in reinsurance) :
(a) Claims by Death
3. Amount accepted in reinsurance :
(a) Claims by Death,
TOTAL
Benefits paid to claimants:
1 In India
2 Outside India
Total Benefits paid (Net)
Notes: (a) Claims include claims settlement costs, wherever applicable.
(b) The legal and other fees and expenses shall also form part of the claims cost, wherever
applicable..
96
Revenue Account of Life Insurance Company
Schedule Rs. Rs.

No.
Premium earned 1 xxx
Income from other sources: xxx
Interest dividend received xxx
Add Interest accrued xxx
Rent received xxx
Profits on sale of investments xxx
TOTAL A xxx
Commission 2 xxx
Operating expenses 3 xxx
Benefit paid 4 xxx
TOTAL B xxx
Surplus A - B xxx
Less: Appropriations:
Dividend xxx
Surplus xxx
Carried to Balance Sheet
Final accounts of a General Insurance Company comprise of

i. Revenue account - Form- B RA
ii. Profit and loss account - Form - B PL
iii. Balance sheet - Form - B BS.

97
REVENUE ACCOUNT
(FORM B - RA)
Name of te Insurer : .....................
Registration No. and Date of Registration with the IRDA ...................
Revenue Account for the year ended 31st March 2017
Particulars Schedule Current Previous

year Year
(Rs. ‘000) (Rs. ‘000)
1. Preiums cearned (Net) 1
2. Profit / Loss on Sale / Redemption Investments
4. Interest Dividend & Rent - Gross
Total (A)
1. Claims Icurred (Net) 2
2. Commission 3
3. Operating Expenses related to Insurance Business 4
Total (B)
Operating Profit / (Loss0 From
Fire / Marine / Miscellaneous Business
(C) = (A) - (B)
Appropriations
Transfer to Shareholders’ Account
Transfer to Catastrophe Reserve
Transfer to Other Reserves (to be specified)
Total (C)
Notes : See Notes appended at the end of Form B-PL

98
REVENUE ACCOUNT
(FORM B - PL)
Profit and Loss Account for the year ended 31st March 2017
year Year
(Rs. ‘000) (Rs. ‘000)
1. Operating Profit / (Loss)
(a) Fire Insurance
(b) Marine Insurance
(c) Miscellaneous Insurance)
2. Income From Investments
(a) Interest, Dividend & Rent - Gross
(b) Profit on Sale of Investments
Less : Loss on Sale of Investments
3. Other Incomes (to be specified)
Total (A)
4. Provisions (other than taxation)
(a) For diminution in the value of investments
(b) For doubtful debts
(c) Others (to be specified)
5. Other Expenses
(a) Expenses other than those related to
Inurance Business
(b) Bad debts written - off
Total (B)
Profit before Tax
Provisions for Taxation
Appropriations
a) Interim Dividends paid during the year
b) Proposed Final Dividend
c) Dividend Distribution Tax
d) Transfer to any Reserves or Other Accounts
(to be specified)
Balance of profit / loss brought forward from last year
Balance caried forward to be Balance Sheet
99
(FORM B - BS)
Balance Sheet as at 31st March 2017

year Year
(Rs. ‘000) (Rs. ‘000)
Sources of Funds
Share Capital 5
Reserves and Surplus 6
Fair Value Change Account
Borrowings 7
Total (A)
Application of Funds
Investments 8
Loans 9
Fixed Assets 10
Curent Assets
Cash and Bank Other Assets 11
Advances and Other Assets 12
Sub - Total (A)
Curent Liabilities 13
Provisions 14
Sub-Total (B)
Net Current Assets (c) = (a) - (b)
Miscellaneous Expenditure 15
(to the extend not written off or adjusted)
Debit baance in Profit and Loss Account
Total
100
CONTINGENT LIABILITIES
Particulars Current Year Previous year

(Rs. ‘000) (Rs. ‘000)
1. Partily paid up investments
2. Clams, other than against policies, not acknowledged

as debts by the Company
3. Underwriting commitments outstanding

(in respect of shares and securities)
4. Guarantees given by or on behalf of the company
5. Statutoy demands / liabilities in dispute, not provided for
6. Reinsurance obligations to the extent not provided for

in accounts
7. Otthers (to be specified)
SCHEDULES FORMING PART OF FINANCIAL STATEMENTS

SCHEDULE I

(Rs. ‘000) (Rs. ‘000)
Premium from Direct Business written
Add : Premium on Re-insurance Accepted
Less : Premium on Re-insurance Accepted
Net Premium
Adjustment for change in reserve forunexplored risks
Total Premium Earned (Net)
Note : Re-insurance premiums whether on business ceded or accepted to be brought into

accuont, before deducting commission, under the head of Re-insurance premiums.
101
SCHEDULE 2
CLAIMS INCURRED (NET)

(Rs. ‘000) (Rs. ‘000)
Claims Paid
Direct
Add : Re-insurance accepted
Less: Re-insurance ceded
Net Claims paid
Add : Claims outstanding at the end of the year
Less : Claims outstanding at the beginning
Total Claims Incurred
SCHEDULE 3
COMMISSION

(Rs. ‘000) (Rs. ‘000)
Commission paid
Direct
Add : Re-insurance Accepted
Less : Re-insurance Ceded
Net Commission
Note : The profit / commission, if any are to be combined with the Re-insrance accepted or
Re-insurance coded figures.
102
SCHEDULE 4
OPERATING EXPENSES RELATED TO INSURANCE BUSINESS

(Rs. ‘000) (Rs. ‘000)
1. Employees’ Remuneration & Welfare Benefits
2. Travel, Conveyance and Vehicle Running Expenses
3. Training Expenses
4. Rents, Rates & Taxes
5. Repairs
6. Printing & Stationery
7. Communication
8. Legal & Profesional Charges
9. Auditors’ Fees, Expenses, etc.,
(a) as auditor
(b) as adviser or in any other capacity, in respect of
(i) Taxation matters
(ii) Insruance matters
(iii) Management Services
(c) in any other capacity
10. Advertisementand Publcity
11. Interest & Bank and Publicity
13. Depreciation
Total
Note : Items of expenses and income in excess of one per cent of the total premiums (Less
Re-insurance) or Rs. 5,00,000, whichever is higher, shall be shown as separate line items.
103
SCHEDULE 5
SHARE CAPITAL

(Rs. ‘000) (Rs. ‘000)
1. Authorised Capital
Equity Shares of Rs.... each
2. Issued Capital
Shares of Rs. ... each
3. Subscribed Capital
Eqoty Shares Rs... each
4. Called-up Capital
Equity Shares of Rs... each
Less : Calls unpaid

Equity Shares forfieited(Amount originally paid-up)
Less : Par Value of Equity Shares bought back
Less Preliminary Expenses
Expenses including commission or

brokerageon underwriting or subscription
of Shares
SCHEDULE 5A
SHARE CAPITAL
Pattern of Shareholding
(As Certified by the Management)

Number of % of Number of % of
Shares Holding Shares Holding
Promoters
Promoters Indian
Promoters Foreigh
Others
Total
104
SCHEDULE 6
RESERVE SURPLUS

(Rs. ‘000) (Rs. ‘000)
1. Capital Reserve
2. Capital redemption Reserve
3. Securities Premium
4. General Reserves
Less : Debit balances in Profit and Loss Account
Less : Amount utilised for buy-back
5. Catastrophe Reserve
6. Other Reserve (to be specified)
7. Balance of Profit & Loss Account
Note: Additions to and deductions from the reserves should be disclosed under each of the
specified heads.
SCHEDULE 7
BORROWINGS

(Rs. ‘000) (Rs. ‘000)
1. Debentures / Bonus
2. Banks
3. Financial Institutions
SCHEDULE 8
INVESTMENTS

(Rs. ‘000) (Rs. ‘000)
Long-term Investments
1. Government Securities and Government
guaranteed Bonds inclding Treasury Bills
2. Other Approved Securities
105
3. Other Investmeents
(a) Shares
(aa) Equity
(ab) Preference
(b) Mutual Funds
(c) Derivative Instruments
(d) Debentures / Bonds
(e) Other Securities (to be specified)
(f) Subsidiarieis
(g) Investment Properties - Real Estate
4. Investments in Infrastructure and Social Sector
5. Other than Approved Investments
Short-term Investments
1. Government Securities and Government guaranteed

Bonds including Treasury Bills
2. Other Approved Securities
3. Other Investments
(a) shares
(aa) Equity
(ab) Preference
(b) Mutual Funds
(c) Derivative Instruments
(d) Debentures / Bonds
(e) Other Securities (to be specified)
(f) Subsidiarieis
(g) INvestment Propertieis - Real Estate
4. Investments in Infrastructure and Social Sector
5. Other than Approved Investments
Total
106
SCHEDULE 9
LOANS

(Rs. ‘000) (Rs. ‘000)
1. Security-wise Classification
Secured
(a) On Mortgage of Property
(aa) In India
(ab) Outside India
(b) On Shares, Bonds, Govt, Securities, etc.,
(c) Loans against Policieis
(d) Others (to be specified)
Unsecured
Total
2. Borrower-wise Classification
(a) Central and State Governments
(b) Bank and Financial Institutions
(c) Subsidiaries
(d) Companies
(e) Loans against Policies
(f) Others (to be specified)
Total
3. Performance-wise Classification
(a) Loans classified as Standard
(aa) In India
(ab) Outside India
(b) Non-performing loans less provisions
(aa) In India
(ab) Outside India
Total
4. Maturity-wise Classification
(a) Short term
(b) Long term
Total
Cost / Gross Block Depreciation Net Block
Particulars
Opening Additions Deduc- Closing Up to For the on Sales / To As at Previous
tions Last Year Adjustments Date year year
Year end
Goodwill
Intangibles (specify)
Land - Freehold
Leasehold Property
Buildings
Furniture & Fittings
Information Technology Eqp.
Vehiclc
Office Equipment
Other (Specify nature)
TOTAL
Work-in-progress
Grand Total
PREVIOUS YEAR
Note : Assets included in land, property and building above exclude Investment Properties as defined in Note (e) to Schedule - B
107
108
SCHEDULE 11
CASH AND BANK BALANCE
(Rs. ‘000) (Rs. ‘000)
1. Cash (including cheques, drafts and stamps)
2. Bank Balances
(a) Deposit Accounts
(aa) Short-term (due within 12 months)
(ab) Others
(b) Current Accounts
3. Money at Call and Short Notice
(a) With Banks
(b) With other Institutions
Total
Balances with non-scheduled banks included in 2 and 3 above
Note : Bank balance may include remittances in transit. If so, the nature and amount should
be separately stated.
SCHEDULE 12
ADVANCES AND OTHER ASSETS
(Rs. ‘000) (Rs. ‘000)
Advances
1. Reserve Deposits with Ceding Companies
2. Application Money for Investments
3. Prepayments
4. Advances to Directors/Officers
5. Advance Tax paid and taxes deducted at source
(Net of provision for taxation)
TOTAL (A)
109
Other Assets
1. Income accured on Investments
2. Outstanding Premiums
3. Agents Balances
4. Foreign Agencies Balances
5. Due from other entities carrying on insurance business

(including re-insurers)
6. Due from Subsidiaries / Holding
7. Deposit with Reserve Bank of India

(Pursuant to Section 7 of Insurance Act, 1938)
Total (B)
Total (A) + (B)

SCHEDULE 13
CURRENT LIABILITIES
(Rs. ‘000) (Rs. ‘000)
1. Agents Balances
2. Balances due to other insurance companies
3. Deposit held on Re-insurance ceded
4. Premiums received in advance
5. Unallocated Premium
6. Sundry Creditors
7. Due to Subsidiaries / Holding Company
8. Claims Outstandinig
9. Due to Officers / Directors
Total
110
SCHEDULE 14
PROVISIONS
(Rs. ‘000) (Rs. ‘000)
1. Reserve for Unexplored Risk
2. For Taxation
(Less : Advance Tax paid and taxes deducted at source)
3. For Proposed Dividends
4. For Dividend Distribution Tax
TOTAL
SCHEDULE 15
Miscellaneous Expenditure
(To the Extent not Written-off or Adjusted)
(Rs. ‘000) (Rs. ‘000)
1. Discount Allowed inisue of Shares / Debentures
TOTAL
6.6 Important Terms Used in Life Insurance Company Accounts
Premium
An insurance premium is the amount of money that an individual or business must pay
for an insurance policy. The insurance premium is income for the insurance company, once
it is earned, and also represents a liability in that the insurer must provide coverage for claims
being made against the policy.
In the most simple terms, the insurance premium is defined as the amount of money

the insurance company is going to charge you for the insurance policy you are purchasing.
111
Reinsurance
Reinsurance is insurance that is purchased by an insurance company. In addition to its
basic role in risk management, reinsurance is sometimes used for tax mitigation and other
reasons. The company that purchases the reinsurance policy is called a “ceding company” or
“cedent” or “cedant” under most arrangements.
Claims
Claims refers to the amount payable by the insurance company to various persons who
have suffered loss on account of the events insured against.
In life insurance business, claims may arise due to death of policy holder or maturity of
policies.
Commission
Insurance company pays commission on his agents
Annuities and consideration for annuity granted
Annuity is an annual payment guaranteed and paid by an insurance company may

regularly as long as the insured is alive in consideration of a lump sum received in the beginning.
Surrender value
It is the amount the policyholder will get from the life insurance company if he decides to
exit the policy before maturity. A regular premium policy acquires surrender value after the
policyholder has paid the premiums continuously for three years.
Bonus
Bonus refers to the share of profit which a policyholder gets from the insurance company.
In case of life insurance, 95% of the profit of insurance company is distributed amount he
policy holders as bonus. Only the ‘with profits policies are eligible for bonus.
112
Important Terms used in General Insurance Company Accounts
Reserve for unexpired risks
According to Under Section 64 v (i) (ii) (b) of the IRDA Act, the reserve for unexpired risk
should be under:
Fire and miscellaneous business 50% of premium received
Marine Hull business 100% of the premium received
Additional reserve
The excess provisions maintained by a general insurance company over the minimum
prescribed amount is called additional reserve.
Catastrophic Reserve
Catastrophe insurance protects businesses and residences against natural disasters,
such as earthquakes and floods, and against man-made disasters.
6.7 Illustrations
Life Insurance Company Accounts
Illustration 1
The following figures relate to life insurance corporation for the year ended 31.3.2006.
Prepare the revenue A/c.

Rs. Rs.
Claims 39 Consideration for annuities granted 16.5
Management expenses 14 Surrenders 9
Director’s fees 4 Premium received 151
Audit fees 3 Life fund (1.4.2006) 1,150
Medical expenses .5 Interest received 40
Agent’s Commission 5 Rent received 10
Depreciation 4 Claims cancelled 0.5
Bonus in reduction of premium 1.5 Annuities 1.5
Note: (a) Premium outstanding Rs. 9 Thousand
(b) Claims outstanding Rs. 3 Thousand.

113
Solution
Revenue Account of Life Insurance Company as on 31.3.2006
Rs.
Premium received 151
Less: Opening outstanding premium
151
Add: Closing outstanding premium 9
Net 160
Schedule No.2 Commission
Commission to agent Rs.5
Schedule No.3 Operating Expenses relating to Insurance Premium
Rs
Management expenses 14
Director fees 4
Audit fees 3
Medical expense 0.5
Depreciation 4
25.5
Schedule No.4 Benefit paid
Rs.
Claim paid 39
Less: Opening outstanding ——-
39
Add: Closing claims 3
Net Claims 42
Less claims cancelled 0.5
41.5
Surrenders in India 9
Bonus to policy holders 1.5
Annuities 1.5
53.5
114

Schedule No. Rs.
Premium earned 1 160
Income from other sources:
Interest dividend received 40
Rent received 10
Consideration for annuity granted 16.5
Total A 226.5
5
Commission 2 25.5
Operating expenses 3 53.5
Benefit paid 4
Total B 84
Surplus A - B 142.5
Illustration 2
Prepare in the proper statutory from the Revenue account of the Lotus Insurance
Company Ltd. for the year ended 31st March 2006 from the following figures:
Rs. Rs.
Claims by death 76,140 Expenses of management 31,920
Claims by maturity 30,110 Commission 9,574
Premiums: Interest, dividends & rents 97,840
First premiums 2,50,000 Income tax on interests, dividends etc.
Renewal premiums 3,55,690 Surrenders 35,710
Single premiums 1,00,000 Bonus in reduction of premium 13,140
Transfer fees 129 Dividend paid to shareholders 980
Consideration for annuities Amount of life insurance fund at the
beginning of the year 5,500
granted less re assurance 82,127
Annuities paid 53,461 15,21,000
Bonus paid in cash 2,416
115
Solution
Revenue Account of Lotus Life Insurance Company
Schedule No. 1 Premium Earned Rs.

Premium received
First 2,50,000
Renewal 3,55,690
Single 1,00,000
Consideration for annuity granted 82,127
7,87,817
Schedule No.2 Commission Rs.
Commission to agent 9,574
Management expenses Add: Due Rs.31,920
31,920
Schedule No.4 Benefit paid Rs.
Claim paid by death 76,140
Maturity 30,110
Surrenders 13,140
Annuities paid 53,461
Bonus in reduction of premium 980
Bonus to policy holders 2,416
1,76,247
Schedule No. Rs.

Premium earned 1 7,87,817
Interest dividend received 97,840
Transfer fees 129
Total A 8,85,786
9,574
116
Commission 2 31,920
Operating expenses 3 1,76,247
Benefit paid 4 2,17,741
Total B
Surplus 6,68,045
Dividend 5,500
Surplus 6,62,545
Illustration 3
From the following balances extracted from the books of the L.I.C. as at 31.3.2008,
prepare a Revenue A/c for the year ending 31.3.2008 in the prescribed form:
Rs. Rs.
(in ‘000) (in ‘000)
Claims by death 3,30,000 Life assurance fund (1.4.2007) 63,31,000
Claims by maturity 2,15,000 Premiums 20,65,000
Agents allowance 26,500 Bonus in reduction of premiums 1,000
Salaries 44,200 Income tax on interest and dividends 5,700
Travelling expenses 1,200 Printing & Stationery 13,900
Directors’ fees 8,700 Postage & telegrams 14,300
Auditor’s fees 1,000 Receipt stamps 2,300
Medical fees 52,000 Reinsurance premiums 40,950
Commission 2,18,000 Interest & Dividend (Gross) 2,72,000
Rent 2,800 Policy renewal fees 9,600
Law charges 200 Assignment fees 540
Advertising 4,300 Endowment fees 690
Bank charges 1,500 Transfer fees 1,400
General charges 2,000 Surrenders 47,500
Provide Rs.1,500 Thousands for depreciation of furniture and Rs. 2,20,000 Thousands
for depreciation on investments.
117
Solution
Revenue account of Life Insurance Corporation
Premiums earned Schedule No. Rs.

Premium 1 20,65,000
Less Reinsurance ceded - 40,950
2,024,050
Interest dividends and rents 2,72,000
Policy renewal fees 9,600
Assignment fees 540
Endowment fees 690
Transfer fees 1,400
Total A 23,08,280
Commission 2 2,18,000
Operating profit related to insurance 3 1,76,400
Deprecation in the value of investment 2,20,000
Total B 12,07,900
Surplus A – B 11,00,380
Schedules forming part of Revenue Account

Schedule 1 – Premium Rs.
Premiums received Rs. 20,65,000
Schedule 2 Commission expenses
Commission paid Rs. 2,18,000
Schedule 3 Operating expenses related to insurance business
Rs.
Agents and canvassers allowance 26,500
Salaries 44,200
Travelling expenses 1,200
Directors fees 8,700
118
Auditors fees 1,000

Medical fees 52,000
Rent 2,800
Law charges 200
Adverting 4,300
Bank charges 1,500
General charges 2,000
Printing and stationery 13,900
Postages and stationery 14,300
Receipts stamps 2,300
Deprecation on furniture 1,500
Schedule 4 Benefit paid
Rs.
Claim by death 3,30,000
Claim by maturity 2,15,000
Surrenders 47,500
Bonus in reduction of premium 1,000
5,93,500
Illustration 4
The following Trial Balance was extracted from the books of the New Life Insurance
Company Ltd. as on 31.3.06.
Dr. Cr.
(Rs.’000) (Rs’000)
Paid up share capital (1,00,00,000 shares of Rs. 10 each) - 1,00,000
Life Insurance fund on 1.4.2005 - 29,72,300
Dividend paid 15,000 -
Bonus to policy holders 31,500 -
Premiums received - 1,01,500
Claims paid 1,97,000 -

119
Commission paid 9,300 -
Management expenses 32,300 -
Mortgages in India 4,92,200 -
Interest & Dividends received - 1,72,700
Agent’s balances 9,300 -
Freehold premises 40,000 -
Investment 23,05,000 -
Loss on Company’s policies 1,76,600 -
Cash on deposit 27,000 -
Cash in hand 7,300 -
Surrenders 7,000 -
33,46,500 33,46,500
You are required to prepare the company’s revenue A/c for the year ended 31.3.2006
and its Balance Sheet as on that date after taking the following matters into consideration:
Rs.
(’000)
(i) Claims admitted but not paid 9,300
(ii) Management expenses due 200
(iii) Interest accrued 19,300
(iv) Premiums outstanding 12,000
Solution
Revenue Account and Balance Sheet

Rs.
Premium received 1,01,500
Less: Opening outstanding premium —
1,01,500
Add: Closing outstanding premium 12,000
Net 1,13,500
120
Schedule No. 2 Commission Rs.

Commission to agent 9,300
Schedule No.3 Rs.
Management expenses 32,300
Add: Due 200
32,500
Claim paid 1,97,000
Less: Opening outstanding
1,97,000
Add: Closing claims 9,300
Net Claims 2,06,300
Surrenders in India 7,000
Bonus to policy holders 31,500
2,44,800
Schedule No.5 Share Capital Rs.
Share capital 10,000 shares of Rs. 10 each Rs.1,00,000
Schedule No.6 Reserve and Surplus Rs.
Rs. Rs.
Reserve fund
Opening life fund 29,72,300
Add: Surplus from Revenue Account 3,900 29,76,200
Schedule No.7 Borrowings Rs.
Nil
Schedule No.8 Investment Rs.
Investment 23,05,000
Schedule No.9 Loans Rs.
Mortgages in India 4,92,200
Loan on company policy 1,73,600
6,65,800
121
Schedule No.10 Rs.

Freehold premises Rs. 40,000
Schedule No.11 Cash and Bank Balance Rs.
Cash on deposit 27,000
Cash in hand on Current A/c 7,300
34,300
Schedule No.12 Advance and Other assets Rs.
Advances - agent balance 9,300
Other assets:
Outstanding premium 12,000
Accrued interest 19,300
40,600
Schedule No.13 Current Liabilities Rs.
Management expenses due 200
Outstanding claims 9,300
9,500
Schedule No. 14 Provisions Rs.
Nil
Schedule Rs. Rs.

No.
Interest dividend received 1,72,700
Add interest accrued 19,300 3,05,500
Commission 2 9,300 2,86,600
Operating expenses 3 32,500
Surplus 18,900
122
Dividend 15,000
Surplus 3,900
Balance Sheet
Schedule No. Rs. Rs.
Sources of funds
Share Capital 5 1,00,000
Reserve and surplus 6 29,76,200
Borrowings 7 NIL
TOTAL 30,76,200
Application of funds:
Investments 8 23,05,000
Loans 9 6,65,800
Fixed assets 10 40,000
Current assets
Cash and bank balance 11 34,300
Advance and other assets 12 40,600
Sub Total A 74,900
Current liabilities 13 9,500
Provisions 14 NIL
Sub Total B 9,500
Net Current Assets (A – B) 65,400
TOTAL 30,76,200
Illustration 5
The following balances from part of the books of Bharat Insurance Company as on
31.3.2006.
123
Rs. Rs.
Life fund on 1.4.05 15,70,562 Bonus paid in reduction of premium
Claims by death 1,16,980 Preliminary expenses 3,500
Claims by maturity 96,420 Claims admitted but not paid

at the end of the year 600
Premiums 2,70,572 Annuities due but not paid 80,034
Management expenses 29,890 Capital paid up 22,380
Commission 36,541 Govt. Securities 6,00,000
Consideration for annuities granted 10,620 Sundry assets 16,90,890
Surrenders 21,768 Interest, dividends and 5,68,110
Annuities 29,420 Rents 52,461
Bonus paid in cash 9,450 Income tax on profits 3,060

Additional information Rs. (’000)
(i) Claims covered by re insurance 10,000
(ii) Further claims intimated 8,000
(iii) Further bonus utilised in reduction of premium 1,500
(iv) Interest accrued 15,400
(v) Premiums outstanding 7,400
Prepare a revenue account and the Balance Sheet.
Solution
Revenue Account and Balance Sheet of Life Insurance Company

Less: Opening outstanding premium ———
2,70,572
Add: Closing outstanding premium 7,400
124
2,77,972
Further bonus in reduction of premium 1,500
2,79,472
Schedule No.2 Commission
Commission to agent Rs. 36,541
Management expenses Rs. 29,890
29,890
Claim paid
By death 1,16,980
By maturity 96,420
2,13,400
Less Reinsurance claims 10,000
2,03,400
Less: Opening outstanding 80,034
1,23,366
Add: Closing claims 8,000
1,31,366
Annuities 29,420
Surrenders in India 21,768
Add further bonus in reduction of premium 1500
1,97,004
Schedule No.5 Share Capital Rs.
Share capital 6,00,000
Less : Preliminary expenses 600
5,99,400
125
Schedule No.6 Reserve and Surplus

Rs. Rs.
Reserve fund
Opening life fund 15,70,562
Add: Surplus from Revenue Account 94,518
16,65,080
Nil
Government securities 16,90,800
Schedule No. 9 Loans Rs.
Nil
Schedule No.10
Sundry assets Rs.
5,68,110
Schedule No.11 Cash and Bank Balance Rs.
Nil
Income on profits 3,060
(Treated as TDS on interest and dividend)
Reinsurance claims recoverable 10,000
Interest accrued 15,400
Outstanding premium 7,400
35,860
Annuity due but not paid 22,380
Outstanding claims 8,000
30,380
Schedule No. 14 Provisions Rs.
Nil
126
Schedule No. 15 Miscellaneous expenditure Rs.

Nil

Schedule No. Rs.
Interest dividend received 52,461
Add interest accrued 15,400
Consideration for annuity granted 10,62
Total A 3,57,953
Commission 2 36,541
Total B 2,63,435
Surplus 3,57,953 - 2,63,435 94,518
Balance Sheet
Sources of funds
Borrowings 7 Nil
TOTAL 22,64,480
Loans 9 NIL
Fixed assets 10 5,68,110
Current assets
Cash and bank balance 11 Nil

127
Advance and other assets 12 35,860
Sub Total A 35,860
Current liabilities 13 30,380
Provisions 14 Nil
Sub Total B 30,380
Net Current Assets (A – B) 5,480
Miscellaneous 15 NIL
TOTAL 22,64,480
General Insurance Company Accounts
Illustration 6
From the following particulars, prepare the fire revenue account for 2015-16:
Rs.
Claims paid 235
Legal expenses regarding claims 5
Reinsurance premium 60
Commission 100
Expenses of management 150
Provision against unexpired risk on 1.4.2015 260
Claims unpaid on 1.4.2015 20
Operation profit Rs. 25,000

128
General insurance company
Revenue account
Schedule No. Fire

Premium earned (A) 1 5,30,000
Claims incurred 2 2,55,000
Total B 5,05,000
Operating profit Fire 25,000

Less: reinsurance premium 60,000
Net premium 5,40,000
Add: Provision for
un expired risk 1.4.2015 2,60,000
8,00,000
Less Provision for
un expired risk 5,40,000 x 50% 2,70,000
5,30,000
Schedule – 2 Claims incurred
Rs.
Claims paid 2,35,000
Add: Legal expenses for claims 5,000
2,40,000
Add: closing claims 35,000
2,75,000
Less: opening claims 20,000
Claims incurred 2,55,000
129
Schedule – 3 Commission
Commission on direct business 1,00,000
Schedule - 4 Operating expenses
Management expenses Rs.1,50,000
Illustration 7
From the following particulars, prepare the fire revenue account for 2014-15:
Rs.
Claims paid 270
Legal expenses regarding claims 6
Reinsurance premium 50
Reinsurance claims 2
Commission 110
Reinsurance commission ceded 3
Expenses of management 210
Provision against unexpired risk on 1.4.2014 330
Additional reserve on 1.4.2014 140
Increase the additional reserve on 31.3.2015 by 10% on net premium.
Solution
Revenue account of General Insurance Company
Schedule No. Fire
Premium earned (A) 1 6,06,000
Total B 6,01,000
Operating profit Fire 5,000
130
Schedule forming part of revenue account
Schedule No.1 Premium Earned
Rs. Fire
Rs.
Premium less reinsurance 7,40,000
Less reinsurance premium 50,000
Add: Provision for unexpired risk:
Opening fund 6,90,000
Additional reserve 3,30,000
1,40,000 4,70,000
11,60,000
Less Provision for unexpired risk closing
Fire x 6,90,000x 50%
Additional reserve opening 3,45,000
Increase by 6,90,000 x10% 1,40,000
69,000 5,54,000
Schedule No. 2 Claims incurred

Fire
Rs.
Claims paid Survey expenses 2,70,000
6,000
Less: Reinsurance claims 2,76,000
2,000
Add: Closing claims 2,74,000
35,000
Less: Opening claims 3,09,000
25,000
2,84,000
131
Schedule No. 3 Commission

Fire
Rs.
Commission paid on direct business 1,10,000
Less: Commission on reinsurance ceded 3,000
1,07,000
Schedule No. 4 Operating expenses related to insurance business
Fire
Rs.
Management expenses 2,10,000
Illustration 8
From the following particulars relating to Star Insurance Company Co. Ltd., prepare fire
revenue account for the year ending 31.3.2015.
(Rs. in ‘000) (Rs. in ‘000)
Claim paid 4,80,000 Premium received 12,00,000
Claims outstanding on 1.4.2014 40,000 Reinsurance premium paid 1,20,000
Claims intimated but not accepted

and paid on 31.3.2015 10,000 Commission 2,00,000
Claims intimated and accepted

but not paid on 31.3.2015 60,000 Commission on reinsurance ceded 10,000
Commission on reinsurance
accepted 5,000 Provision for unexpired risk on
1.4.2014 4,00,000
Expenses on management 3,05,000 Additional provision 20,000
Bonus in reduction of premium. 12,000 for unexpired risk on 1.4.2014
You are required to provide for additional reserve for unexpired risk at 1% of the net
premium in addition to the opening balance.
132
Solution
Revenue account for the year ended 31st March 2015 in respect of fire business
Particulars Schedule No. Rs.

Premium earned net 1 9,29,200
Total A 9,29,200
Total B 10,22,000
Operating loss 92,800
Schedules forming part of revenue account
Rs. Fire Rs.

Less: Reinsurance premium 1,20,000
10,80,000
Opening fund Rs. 4,00,000
Additional reserve Rs. 20,000 4,20,000
15,00,000
Fire x 10,80,000 x 50% = 5,40,000
Additional reserve opening
Increase by 10,80,000 x1% 10,800
Additional Opening reserve 20,000 5,70,800
133
Schedule No. 2 Claims incurred Fire (Rs.)

Add: claims intimated and accepted but not
paid on 31.3.2015 60,000
Claims intimated but not accepted and paid
on 31.3.2015 10,000
5,50,000
Less: Claims outstanding opening 40,000
5,10,000
Schedule No. 3 Commission Fire Rs.
Commission paid on direct business 2,00,000
Add : Commission on reinsurance accepted 5,000
2,05,000
Less: Commission on reinsurance ceded 10,000
Net commission 1,95,000
Fire Rs.
3,17,000
Illustration 9
From the following balances of Bright General Insurance Co. Ltd. as on 31st March,
prepare
a) Fire revenue account
b) Marine revenue account
c) Profit and loss account

134
Rs. Rs.
Commission earned on Survey expenses 10,000

reinsurance ceded (Fire) 30,000 Additional reserve (opening) 50,000
Management expenses (Fire) 1,45,000 Commission paid (Marine) 1,08,000
Management expenses (Marine) 4,00,000 Commission paid (Fire) 90,000
Fire premium less reinsurance 6,00,000 Claims paid and outstanding
(Marine) 3,80,000
Marine premium less reinsurance 10,80,000 Claims paid and outstanding
(Fire) 1,80,000
Profit on sale of land 60,000 Fire fund opening 2,50,000
Miscellaneous receipts 5,000 Marine fund opening 8,20,000
Difference in exchange (Cr) 300 Bad debts (Marine) 12,000
Interest dividend etc. received 14,000 Bad debts (Fire) 5,000
Depreciation 35,000 Commission earned on
Bad debts recovered 1,200 reinsurance ceded (Marine) 60,000
Share transfer fees 800
Director fees 5,000
Auditor fees 1,200
In addition to usual reserve, additional reserve in case of fire insurance is to be increased

by 5% of net premium.
Solution
Revenue account of General insurance company
Schedule No. Fire Marine
Premium earned (A) 1 5,20,000 8,20,000
Claims incurred 2 1,90,000 3,80,000
Commission 3 60,000 48,000
Operating expenses 4 1,50,000 4,12,000
Total B 4,00,000 8,40,000
Operating profit Fire 1,20,000
Operating loss Marine - 20,000

135
Profit and loss account for the year ended

Rs.
1. Operating profit fire 1,20,000
Operating loss marine - 20,000
2. Income from investment
Interest and dividend 14,000
Profit on sale of investment 60,000
3. Other income
Bad debts recovered 1,200
Share transfer fees 800
Diff in exchange 300
Miscellaneous receipts 5,000
Total A 1,81,300
Other expenses
Director fees 5,000
Auditor fees 1,200
Depreciation 35,000
Total B 41,200
Balance of profit transferred to balance sheet 1,81,300 – 41,2001,40,100

Rs. Fire Marine
Rs. Rs.
Premium less reinsurance 6,00,000 10,80,000
Opening fund
Additional reserve 2,50,000 8,20,000
50,000 ——
136
9,00,000 19,00,000
Fire 6,00,000 x 50%
Additional 6,00,000 x5% 3,00,000
80,000 3,80,000 10,80,000
Net premium 5,20,000 8,20,000
Fire Rs. Marine Rs.
Claims paid outstanding 1,80,000 3,80,000
Survey expenses 10,000 —————
1,90,000 3,80,000
Fire Rs. Marine Rs.
Commission paid on direct business 90,000 1,08,000
Less: Commission on reinsurance ceded 30,000 60,000
60,000 48,000
Fire Rs. Marine Rs.
Bad debts 5,000 12,000
Management expenses 1,45,000 4,00,000
1,50,000 4,12,000
Illustration 10
From the following details, prepare the revenue account. Profit and balance sheet of
Royal Insurance Co. Ltd carrying on marine insurance business, for the 15 months ended
31.3.2016.
137
(Rs. ‘000)
(Rs. ‘000)
Agents balance (Dr) 1,46,400 Share capital 15,00,000
Interest accrued but not due 8,200 Balance of marine fund 7,60,000
(1.4.2015)
Furniture (cost Rs. 12,600) 8,400 Unclaimed dividends 2,400
Stock of stationery 2,500 Profit and loss A/c 2,40,000
Expenses of management 2,20,000 Sundry creditors 12,600
Foreign taxes and insurance 12,300 Due to insurers 60,000
Outstanding premium 21,200 Premium less reinsurance 12,40,000
Donation paid 8,600 Interest and dividends 2,40,000
Advance income tax payments 62,000 Transfer fees received 600
Sundry debtors 9,200
Govt of India securities 9,20,000
Debenture of public bodies 1,80,000
Shares in limited companies 3,60,000
State govt. Securities 8,80,000
Claims less re-insurance 10,60,000
Commission paid 62,400
Cash and bank balances 94,400
Outstanding claims on 31.3. 2016 were Rs. 1,40,000 Thousands. Deprecation on furniture
to be provided at 20% bet annum.
Solution
Revenue account for the year ended 31st March 2016 in respect of Royasl Marine Business

Premium earned net 1 7,60,000
Interest, dividends and rent 2,40,000
Total A 10,00,000
138

Commission 3 62,400
Total B 14,94,700
Operating loss 4,94,700
Profit and loss Account Royal General Insurance Company

Particulars Rs.
Operating loss from marine business
Transfer fees (4,94,700)600
Total A Loss (4,94,100)
Provisions and other expenses: Depreciation
on furniture Donations 2,1008,600
Total B 10,700
A-B Loss (5,04,100)
Balance of last year’s profit 2,40,000
Balance of loss carried to Balance Sheet 2,64,100
Balance Sheet of Royal General Insurance Company

Sources of funds
Reserve and surplus 6 —————
Borrowings 7 —————
TOTAL 15,00,000
Loans 9 ——-
Current assets
Cash and bank balance 11 94,400
Advance and other assets 12 2,49,500
Sub Total A 3,43,000
139
Current liabilities 13 2,15,000
Provisions 14 12,40,000
Sub Total B 14,55,000
Net Current Assets (A – B) (11,11,100
Miscellaneous expenditure 15 2,64,800
TOTAL 15,00,000
Schedules forming part of revenue account
Rs. Rs.
Less: Reinsurance premium
Reserve for unexpired risk: Closing 100% 12,40,000
Less; Reserve for unexpired risk Opening 7,60,000 4,80,000
Total premium earned 7,60,000

Add outstanding claims on closing 1,40,000
12,00,000
Foreign taxes and insurance 12,300
2,32,300
Schedule No.5 Share Capital
Share capital Rs.15,00,000
Schedule No.6 Reserve and Surplus Rs.
Nil.
140

Nil
Debentures 1,80,000
23,40,000
Schedule No. 9 Loans Rs.
Nil
Schedule No.10 Rs.
Furniture 8,400
Depreciation 8,400 x20%x 5/12 2,100
6,300
Schedule No.11 Cash and Bank Balance
Cash and bank balance Rs.94,400
94,400
Advances
Advance income tax payments 62,000
Outstanding premiums 21,200
Agents balances 1,46,400
Interest accrued but not due 8,200
Stock of stationery 2,500
2,49,500
Outstanding claims 1,40,000
Due to reinsurers 60,000
Sundry creditors 12,600
Unclaimed dividend 2,400
2,15,000
141
Schedule No. 14 Provisions

Provision for unexpired risk of marine business 12,40,000
Schedule No. 15 Miscellaneous Expenditure
Debit balance in profit and loss account 2,64,800
Check Your Progress

1. What do you mean by Insurance Company?
2. What are the principles of insurance”
3. State the different types of insurance policies.
6.8 Summary
Insurance means to provide protection against risks of accident, destruction of property

by fire, floods, earthquakes etc. Insurance is an agreement between two parties to pay a
stipulated amount to the insured on the occurrence an eventuality in lieu of a sum of premium.
Insurance business can be dividend in to life insurance and general insurance. The general
insurance cover the fire insurance, marine insurance, accident insurance and other insurance.
However the government India amended the insurance Act 1938 for controlling and regulating
the insurance company and formations of new company. And also this Act provide the specimen
of the revenue account and specimen balance sheet, it is more useful to insurance company.
142
6.9 Key Words

 Insurance : Protection against risk
 Insurer : Who undertaken to indemnity the loss
 Annuity : Yearly payment
 Premium : Payment made for insurance

1. Distinguish between life insurance and general insurance
2. How does a life insurance company ascertain its profit or loss?
3. What are the schedules prepared to finalise life insurance accounts?
4. Explain the schedules prepared while finalising accounts of a general insurance.

143
UNIT 7
BANKING COMPANY ACCOUNTS
Leaning objectives
After reading this unit, you should able to:
 Explain the meaning of banking company.
 Discuss the importance provision of banking regulation Act, 1949.
 Describe the statutory format of final accounts of the Banking Companies.
 Explain the accounting treatment of banking companies.
Structure
7.1 Introduction
7.2 Main Provisions of Banking Regulation Act
7.3 Classification of Assets
7.4 Accounting format of Profit and Loss Account and Balance Sheet of a Banking
Company
7.5 Illustrations
7.6 Summary
7.7 Key Words
7.1 Introduction
According to Sec. 5 of the Banking Regulation Act, 1949, a banking company means

the accepting, for the purpose of lending or investment, of deposits of money from the public,
repayable on demand or otherwise and withdrawn by Cheque, Draft, Order, or otherwise.
144
7.2 Main Provisions of Banking Regulation Act
Payment of commission, brokerage etc: A banking company is prohibited from paying

the commission, discount or remuneration in any form on issue of its shares in excess of 2 ½
% of the paid up value of such shares.
Payment of dividend: No banking company can pay dividend on it shares until all the
capitalised expenses have been completely written off.
Banking Company is however, permitted to pay its dividend without written off the following
items:
a. The depreciation in the value of its investment in approved securities, where such
depreciation has not actually been capitalised or otherwise accounted for as a loss;
b. The depreciation in the value of its investment in shares, debentures or bonds where
adequate provision for such depreciation has been made of the satisfaction of its auditors;
and
c. The bad debts, if any, where adequate provision for such debts has been made to the
satisfaction of the auditors.
Statutory Reserve: It is compulsory for every banking company to make a transfer of

25% of profit before declaring any dividend every year to reserve called “Statutory Reserve”
Rebate on Bills Discounted
It is Discount received in Advance. Given in the Trial Balance, will be shown on the
liability side of the balance sheet under the heading “Other Liabilities” (schedule 5). Given in
the adjustment, it will be shown under “Other Liabilities: (schedule 5 of the balance sheet and
it will be deducted from interest and Discount (schedule 13 of the P&L a/c).
Tax Provision
When it is given in the Trial Balance, will be shown under “Other Liabilities” (Schedule 5
of the B/S). Given in the adjustment, will be shown under “Other Liabilities” and shown under
provision and contingency in the P&L a/c.
145
Provision for doubtful debts
When it is given in the Trial Balance, will be shown under “Provision and Contingency”
under P&L a/c. Given in the adjustment, it will be deducted from Advances (Schedule 9 of the
Balance Sheet) and shown under provision and contingency in the Profit & Loss A/c.
Loss on sale of investment
It will be shown as a deduction from Profit on Sale of Investments under Schedule 14

of the P&L a/c.
Contingent Liabilities
a. Claims against the bank not acknowledged as debts
b. Liability for partly paid investments
c. Liability on account of outstanding forward exchange contracts.
d. Guarantee given on behalf of constituents
e. Acceptances, Endorsements and other obligations
f. Other items for which the bank is contingently liable
Bills Payable
It includes Demand Drafts, Telegraphic Transfers, Mail Transfers, Traveller’s Cheque

etc.
Acceptance, endorsements and other Obligations
Includes Letter of Credit and Bills accepted by banker on behalf of customers
7.3 Classification of Assets

a. Standard Asset: No risk – it is not a Non-performing asset, no provision is required. But
after 31.3.2000, 0.25% provision is to be made.
b. Substandard Asset: NPA for a period not exceeding 18 months. The security is
inadequate. The bank may lose. So a provision of 10% needs to be created.
146
c. Doubtful Asset: NPA for a period exceeding 18 months.

1) For unsecured portion provide 100%.
2) 1-3 years – 30%,
3) More than 3 years 50%.
d. Loss Asset – Uncollectable NPA 100% provision is to be made.
7.4 Accounting Format of Profit and Loss Account and

Balance Sheet of a Banking Company
Form B
Third schedule
Form of profit and loss
Profit And Loss Account of a Banking Company for the year ended 31st March

No. year year
I Income
Interest earned 13
Other income 14
Total Income
II. Expenditure
Interest expended 15
Operating expenses 16
Provisions and contingencies
Total Expenditure
III. Profit or Loss I – II (Income – Expenditure)
Net profit for the current year
Profit brought forward
IV Appropriations:
Transfer to statutory reserve
Transfer to other reserves
Transfer to Govt./ proposed dividend
Balance of profit carried over to balance sheet
Total
147
Capital and liabilities Schedule Current Previous

No. year year
Capital 1
Reserve and surplus 2
Statutory reserve
Revenue reserve
Balance of profit from P and L A/c
Deposits 3
Demand deposits
Current accounts
Savings bank accounts
Cash certificates
Borrowings 4
From RBI
From other banks
From other institutions (India/ outside)
Other liabilities and provisions 5
Bills payable
Inter office adjustments (Cr.)
Accrued interest
Unclaimed accounts
Unclaimed dividend
Telegraphic transfers
Demand drafts payable
Rebate on bills discounted closing
Total
148
Assets
Cash and balances with RBI 6
Balance with banks and
money at call and short notice 7
Investments 8
Government securities
Shares, debenture and bonus
Gold bullion
Advances 9
Bills purchased and discounted
Loan, cash credit and overdraft
Fixed assets 10
Furniture
Buildings
Other assets 11
Silver
Non banking assets
Interbank adjustment (Dr)
Stationery and stamps
Tax paid in advance
Interest accrued
Total assets
Contingent liabilities 12
7.5 Illustrations
Illustration 1
Standard Asset – Rs. 16,000; Substandard Asset – Rs. 1300; Doubtful assets Secured -
<1 year Rs. 700 ; 1-3 year Rs. 400 ; > 3 years Rs. 200; Loss Asset Rs, 500. Calculate the
provision to be made.
149
Solution
Amount for Provision required
Asset Amount (Rs.) % provision Amt of provision.
Standard 16000 0.25% 40
Sub standard 1300 10% 130
Doubtful
< 1 year 700 20% 140
1-3 Years 400 30% 120
>3 years 200 50% 100
Loss Asset 500 100% 500
1030
Interest on performing and Non Performing Assets (NPA)
Interest on performing assets can be calculated on accrual basis but interest on NPA can
be only on cash basis.
Illustration 2
The following are the statements of interest on advances in respect of performing and
NPA of Salem Bank Ltd. Find out the income to be recognised for the year ended 31.3.2012.
Performing assets Interest earned Interest received

(Rs. In lacks) (Rs. In lacks)
Cash credit and overdrafts 1800 1,060
Term loan 480 320
Bills purchased and discounted 700 550

150
NPA Interest earned Interest received

(Rs. In lacks) (Rs. In lacks)
Cash credit and overdrafts 450 70
Term loan 300 40
Bills purchased and discounted 350 36
Solution
Performing assets (Rs. In lacks) (Rs. In lacks)
Cash creditors and overdrafts (1800+70) 1,870
Term loans (480+40) 520
Bills purchased and discounted (700+36) 736
Total Interest Income 3,126
Illustration 3
The following are the balances of Tamilnadu Bank Ltd., for the year ended 31.3.2012.
(Rs. in (Rs. in
’000) ’000)
Interest on loans 518 Interest on savings bank deposits 136
Interest on fixed deposits 550 Postage and telegrams 3
Commission received 16 Printing and stationery 6
Salaries and allowances 108 Locker rent 2
Discount on bills discounted 292 Transfer fees 1
Rebate on bills discounted 98 Depreciation on banks properties 10
Interest on cash credits 446 Sundry charges 4
Interest on current accounts 84
Rent and taxes 36
Interest on overdrafts 308
Director’s fees 6
Auditor’s fee 2
151
Other information
(i) Provision for bad debts to be made Rs. 80,000
(ii) Provision for income tax required Rs. 3,00,000
From the above information, prepare the Profit and Loss Account of the bank for the year
ended 31.3.2012.
Solution
Profit and Loss Account of a Banking Company for the year ended 31st March
Particulars Schedule Rs. Rs.

No.
I Income
Interest earned 13 1564
Other income 14 19
Total Income 1583
II. Expenditure
Interest expended 15 770
Operating expenses 16 175
Provisions and contingencies Bad debts
Total Expenditure 945
III. Profit (Income – Expenditure) 638
Less appropriations
Provision for bad debts 80
Provision for income tax 300 380
Profit 258
Less: Statutory Reserve 258 x 25% 64.5
Profit carried to Balance Sheet 193.5

152
Working notes
Schedules forming part of Banking Company Accounts
Schedule 13 Interest earned
Rs.
Interest on loans 518
Discount on bills discounted 292
Interest on cash credits 446
1564
Schedule 14 Other income
Rs.
Commission received 16
Locker rent 2
Transfer fees 1
19
Schedule 15 interest expended
Rs.
Interest on fixed deposit 550
Interest on current accounts 84
Interest on savings bank deposits 136
770
Schedule 16 operating expenses
Rs.
Salaries 108
Rent and taxes 36
Director fees 6
Auditor’s fees 2
Postages and telegrams 3
Printing and stationery 6
Depreciation 10
Sundry charges 4
175
153
Illustration 4
On 31st December 2016, the following balances stood in the books of TN Bank Ltd., after
preparation of its Profit and Loss Account.
(Rs.‘000) (Rs.‘000)
Cash in hand 380
Share capital: 4,000 Cash with RBI 10,000
Issued and subscribed 6,200 Cash with other banks 6,000
Reserve fund 42,600 Bills discounted and purchased 3,800
Fixed deposits 19,000 Loans, cash credits and overdrafts 51,000
Saving bank deposits 23,200 Bill payable 70
Current accounts 1,800 Unclaimed dividend 60
Money at call and short notice 25,000 Rebate on bills discounted 50
Investments 1,350 Short loans 4,750
Profit and loss account (Cr.) (borrowing from other banks)
1st January 2016 400 Furniture 1,164
Dividend for 2015 2,950 Other assets 336
Premises Net profit for 2016 1,550
Prepare balance sheet of the bank as on 31st December 2016.
Solution
Balance Sheet of the TN Bank as on 31st December 2016.
Bank accounts Schedule Schedule

No. No.
Liabilities Rs. Assets Rs.
Capital 1 4,000 Cash 6 10,380
Reserve & surplus 2 8,700 Balance & money at call 7 7,800
Deposits 3 84,800 Investments 8 25,000
Borrowings 4 4,750 Advances 9 54,800
Other liabilities 5 180 Fixed assets 10 4,114
Other assets 11 336
1,02,430 1,02,430
154
Illustration 5
The following is the trail balance extracted from the books of Pearl bank Ltd.
Debit balances Rs. Credit balances Rs.

Balances with banks 46,350 Share capital 3,00,000
Investment in government bonds 1,94,370 Security deposit of employees 15,000
Other investments 1,55,630 SB Accounts 7,420
Gold bullion 15,130 Current accounts 97,000
Interest accrued on investment 24,620 Fixed deposits 1,13,050
Silver 2,000 Reserve fund 1,40,000
Constituent’s Liability for acceptances, etc. Borrowings from banks 77,230
Building 56,500 Profit and loss A/c 6,500
Furniture 65,000 Bills for collection 43,500
Money at call 5,000 Acceptance and endorsement 56,500
Loans 26,000 Interest 72,000
Bills discounted 2,00,000 Commission 25,300
Interest 12,500 Discounts 42,000
Bills for collection 7,950 Rent 600
Audit fees 43,500 Profit on bullion 1,200
Loss on sale of furniture 5,000 Miscellaneous income 2,700
Director’s fees 1,000 Accumulated depreciation on building
Salaries 1,200 20,000
Postage 21,200
M.D’s remuneration 50
Loss on sale of investments 12,000
Cash in hand 30,000
Cash with RBI 25,000
Branch adjustment A/c 50,000
20,000
10,20,000 10,20,000
You are required to prepare the Profit and Loss Account and Balance Sheet after taking
into consideration the following:
155
i. Bad debts Rs. 500
ii. Rebate on bills Rs. 1,000
iii. Current year’s depreciation on building Rs. 2,000
iv. Some current account are over drawn to the extent of Rs. 25,000 and total of credit
balances is Rs. 1,22,000.
Solution
Form of balance sheet
Capital and Liabilities
Schedule No. Current year

Capital and Liabilities
Capital 1 3,00,000
Deposits 3 2,42,470
Borrowings 4 77,230
Other liabilities and provisions 5 16,000
Total 8,44,100
Assets
Cash and balances with RBI 6 75,000
Balance with banks and money at call and short notice 7 72,350
Advances 9 2,37,000
Other assets 11 46,620
Total assets 8,44,100
Contingent liabilities Bills for collection 12 56,500
43,500
156
Profit And Loss Account of a Banking Company for the year ended 31st March

I Income
Interest earned 13 1,13,000
Other income 14 1,200
Total Income 1,11,800
II. Expenditure
Interest expended 15 7,950
Provisions and contingencies Bad debts 500
Total Expenditure 49,900
III. Profit (Income – Expenditure)
Net profit for the current year 61,900
Profit brought forward 6,500
Profit 68,400
Less: Statutory Reserve 61,900 x 25% 15,475
Profit carried to Balance Sheet 52,925
Schedule 13 Interest earned Rs.
Interest Discount 72,000
42,000
Less: Closing rebates on bills discounted 1,14,000
1,000
1,13,000
157
Schedule 14 Other income Rs.
Commission etc 25,300
Rent 600
Profit on bullion 1,200
Miscellaneous income 2,700
29,800
Loss on sale of furniture 1,000
Loss on sale of investments 30,000

(-) 31,000
1,200
Schedule 15 interest expended Rs.
Interest 7,950
Schedule 16 operating expenses Rs.
Salaries 21,200
M.D’s remuneration 12,000
Directors 1,200
Postage 50
Audit 5,000
Depreciation on buildings 2,000
41,450
Schedule 1 Share Capital Rs.
3,00,000
Schedule 2 Reserve and Surplus Rs.
Reserve fund 1,40,000
Statutory reserve 15,475
Profit from P and L A/c 52,925
2,08,400
158
Schedule 3 deposits Rs.
Savings deposits 7,420
Fixed deposits 1,13,050
Current deposit 1,22,000
2,42,470
Schedule 4 Borrowings Rs.
Borrowing from bank 77,230
Schedule 5 other liabilities Rs.
Security deposit of employees 15,000
Rebate on bills discounted 1,000
16,000
Cash and balances with RBI 6 Rs.

Cash in hand 25,000
Cash with RBI 50,000
Balance with banks and
money at call and short notice 7
Balances with other banks 46,350
Money at call and short notice 26,000
72,350
Investments 8
Government bonds 1,94,370
Other investment 1,55,630
Gold bullion 15,130
Advances 9
Loan 2,00,000
Cash credit 25,000
159
Overdraft 500
Bills discounted 12,500
2,37,000
Fixed assets 10
Building 65,000
Less depreciation 20,000 + 2,000 22,000 43,000
Furniture 5,000
48,000
Other assets 11
Branch adjustments A/c 20,000
Silver 2,000
Interest accrued on investments 24,620
Total assets
Contingent liabilities 12
Acceptances and endorsement 56,500
Check Your Progress

1. What is meant by banking company?
2. How do you classify assets in banking companies?
3. Write a note on statutory reserve.

160
7.6 Summary
A bank deals in money. It accepts deposits from public and lending to borrowers. Hence
the transaction of banking company regulated by banking regulation Act 1949. Its issued
terms and condition for commencement of banking and providing format for preparation of
banking final statement of balance sheet and order of schedule. Therefore all the Indian banking
company must to follow the regulation of Banking Regulation Act.
7.7 Key Words

 Banking company : Means accepting deposit for the purposes of lending
 License : Permission to carry on business
 Foreign bank : Bank incorporated outside India
 Management : The board of director

1. Calculate Rebate on Bills discounted as on 31.3.2004
Date of Bill Amount (Rs.) Period Rate of Discount
15-01-04 25,000 5 Months 8%
10-02-04 15,000 4 Months 7%
25-02-04 20,000 4 Months 7%
20-03-04 30,000 3 Months 9%
Hint: Since 2000 is a leap year, calculation should be based on 366 days.
[Answer : Rebate : Rs. 1,604.09 (431.69 + 212.29 + 340.44 + 619.67]
2. From the following information, find out the Amount of provision to be shown in the Profit
and Loss Account of a Commercial Bank :
161
Assets : Rs. in lacks
Standard 8,000
Substandard 6,000
Doubtful :
For One year 1,000
For Three years 1,600
For more than 3 years 400
Loss Assets 1,200
Hint : (1) As per recent RBI guidelines, 0.25% provision on standard assets is also to be ade.
(2) It is assumed that Doubtful assets are fully secured.
[Answer : Total provision : 2,700 Lakks]
3. While closing its boos of accounts, a commercial bank has its advances classified as
follows:
Rs. in lakhs
Standard assets 16,000
Substandard assets 1,300
Doubtful assets:
Upto one year 700
One to three years 400
More than three years 200
Loss assets 500

You are required to calculate the amount of provision to be made by the bank, assuming
that all the doubtful assets are secured.
[Answer : Total provision required – Rs. 1,030 Lacks]
Hint : As per recent RBI guidelines, 0.25% provision is required on standard assets also.
4. In respect of the following transactions of Ram Bank Ltd. give necessary journal entries
and their treatment in the profit and loss Account and Balance Sheet in respect of the
year ended 31.12.2010. The following bills were discounted at 5% p.a.
162
Discounted on Amount Due date inclusive

Rs. of 3 days of grace
1 28.12.2010 50,000 31.1. 2011
2 29.07.2010 1,00,000 30.11. 2011
3 29.10.2010 4,00,000 30.4. 2011
4 31.12.2010 30,000 3.3. 2011
[Answer : Rebate on bills discounted on 31.12.2010 – Rs. 7,042]
5. The following particulars were extracted from the Trial Balance of the Unsound Bank
Ltd., for the year ended 31.12.2009.
Rs.
(a) Interest and discounts 1,96,62,400
(b) Rebate on bills discounted (Balance on 1.1.1989) 65,040
(c) Bills discounted and purchased 67,45,400
It is ascertained that proportionate discount not yet earned on the bills discounted which
will mature during 2010 amounted to Rs. 92,760.
Pass the necessary journal entries adjusting the above and show:
(i) Rebate on bills discounted account
(ii) Interest and discount in the ledger of the bank.
[Answer : Amount of interest and discount to be shown in P&L A/c – Rs.

1,96,34,680]
6. The following accounts are extracted from the Trial Balance of Hindu Bank Ltd., as on
31.12.2010. You are required to show the rebate on bills discounted A/c and interest
and discount A/c. How will these items appear in the Bank’s Balance Sheet?
163
Dr. Cr.
Rs. Rs.
Interest and discount - 96,62,400
Rebate on bills discounted - 10,840
Bills discounted and purchased 3,72,700 -
It is ascertained that proportionate discount not yet earned on the balance of bills
discounted, which will mature in 2011 amounts to Rs. 15,460.
[Answer : Amount of interest and discount to be shown in the Profit and Loss
Account Rs. 96,57,780;
Rebate on bills – Rs. 15,460 will appear as a liability and bills discounted
Rs. 3,72,700 as an asset in the balance sheet]
7. From the following particulars, prepare the profit and loss Account of Chennai Bank Ltd.,
for the year ending 31st March 2012.
(Rs. in ’000)
Interest on deposits 3,200
Commission (Cr.) 100
Interest on loans 2,490
Sundry charges (Dr.) 100
Rent and taxes 200
Establishment 500
Discount on bills discounted 1,490
Interest on overdrafts 1,600
Interest on cash creditors 2,320
Auditor’s fees 35
Director’s fees 16
Bad debts to be written off 300

164
[Answer : Net Profit for the year Rs. 36,49,000; Balance carried to Balance Sheet Rs.
27,36,750]
Hint : Transfer to Statutory Reserve 25%
8. Prepare the Profit and Loss Account for the year for the year ended 31.12.2012 of
Viswanath Bank Ltd., from the following particulars.
(Rs. in ’000)
Interest on loans 250
Interest on savings accounts 150
Interest on cash creditors 160
Interest on fixed deposits 190
Amount charged against current A/c 20
Rebate on bills discounted 19
Salaries and allowances 40
Discount 120
Rent, tax, insurance etc. 40
Dearness allowance 5
Commission, brokerage and exchange 15
Managing director’s salary 15
Contribution to provident fund 10
[Answer : Net Profit for the year Rs. 10,000 ; Balance carried to Balance Sheet Rs.
7,500]
Hint : Rebate on bills discounted is to be taken as closing rebate already adjusted.

165
9. From the following ledger balances of Indian Bank Ltd., prepare the Profit and Loss
Account and Balance Sheet as on 30 th June 2010.
Rs.
Freehold and leasehold Property 4,15,000

Premises and furniture 3,37,500
Loans and advances 46,65,000
Bills discounted 3,79,500
Money at call and short notice 2,74,250
Cash in hand and with RBI 15,84,750
Interest, discount and commission 2,44,500
Premises account – amount written off 22,500
Current expenditure, salaries, rent, etc. 71,250
Amount added to staff retirement fund 3,000
Shares and stock 6,37,500
Govt. Securities 6,00,000
Other securities 8,25,000
Interest accrued and paid 25,500
Profit and Loss Account (1.7.79) 15,300
Acceptance on behalf of customers 12,00,000
Current accounts and deposits 77,31,450
Reserve fund 6,00,000
Share capital 12,500 ordinary shares of Rs.100 each 12,50,000
Make provision for rebate on bills discounted 2,450
Hint : 1. Show Rs. 500 in schedule 11 as other asset, responding difference in trial balance.
2. 25% of Net Profit should be transferred to statutory reserve now.
[Answer : Net profit for the year – Rs. 1,19,800; Balance sheet to B/S Rs. 1,05,150; B/s
total Rs. 97,19,000 Difference in Trial Balance Rs. 500 (Cr) excess)
166
10. The following Ledger balances of Bank of Hindustan Ltd., as on 31.12.1994 are furnished
to you. Prepare Profit and Loss Account and Balances Sheet as per requirement of law.
(Rs. in
Thousand)
Reserve fund 1,200
Bad debts written off 128
General expenses 182
Current accounts 20,245
Interest paid 160
Deposit accounts 6,920
Profit and Loss Account b/d 229
Bills receivable for customers 1,500
Discounts 244
Endorsements and guarantees 575
Commission 45
Cash 225
Interest earned 550
Balance with RBI 2,030
Endorsements and guarantees (constituent liabilities) 575
Balance with foreign correspondents 1,206
Bills for collection 1,500
Borrowings from banks 6,482
Cash credit and overdrafts 15,457
Investment 9,882
Premises 2,217
Share capital 2,000
The following information is furnished.
(a) Rebate on bills discounted to be provided Rs. 64,000
(b) The bank has paid an interim dividend of Rs. 2,00,000 during the year.
[Answer : Net profit - Rs. 3,05,000; balance sheet total – Rs. 3,72,45,000;
Trial balance difference Rs. 2,00,000, presented as interim dividend]
Hint : Interim dividend mentioned in adjustments is a part of trial balance and has single
effect only.
167
UNIT 8
AMALGAMATION AND ABSORPTIONS
Learning Objectives
After studying this unit, you should be able to:
 Explain the terms amalgamation and absorption
 Describe the methods of accounting for amalgamation
 Distinguish between net assets and net payment as basis for computation of purchase
consideration.
 Give the journal entries that are passed in the books of companies in the case of absorption.
Structure
8.1 Introduction
8.2 Purchase Consideration
8.3 Journal Entries in the Books of Transferor Company (Selling Company)
8.4 Journal Entries in the Books of Purchasing Company
8.5 Summary
8.6 Key Words
8.1 Introduction
In order to reduce or eliminate competition, two or more than two joint stock companies
may combine their undertakings and become one joint stock company.
“When two are more existing companies are liquidated and a new company is formed;
then its called amalgamation”.
When one existing company takes over the business of one or more existing companies,
it is absorption. The companies whose business is taken over are liquidated. Here no new
company is formed.
168
8.2 Purchase consideration
Accounting standard – 14 (AS- 14) defines the term consideration as follows:
“Consideration for the amalgamation means the aggregate of the shares and other
securities issued and the payment made in the form of cash or other assets by the transferee
company to the shareholders of the transferor company.”
Methods of computation of purchase consideration

1. Lump sum method
It may be given directly a lump sum amount mentioned in the agreement directly.
2. Net payment method
Under this the purchase company may pay to the vendor company in different form. Like
share. Debenture, cash etc to Varian liabilities. The net payment made is sum a various
forms of payment – is the purchase consideration under net payment method.
3. Net asset method
Under this method the difference between the agreed values of assets taken and agreed
value of liabilities taken over.
4. Intrinsic value method
Under this method, the purchase consideration is ascertained on the basis of the ratio in
which the shares of the purchasing company are exchanged with those of the selling
company.
The exchange ratio is generally determined on the basis of intrinsic values of the respective
companies shares.
Assets available for equity shareholders

Intrinsic value = Number of equity shares
Accounting treatment for Amalgamation

169
8.3 Journal Entries in the Books of Transferor Company

(Selling Company)
Transfer to realization account
SL.NO PARTICULAR DEBIT CREDIT
1 Transfer all Assets at book value to realization a/c

(except Miscellaneous)
Realisation A/C Dr XXX
To Assets A/c XXX
2 Transfer all liabilities taken over purchasing company

(Except equity, preference and reserves)
Liabilities A/c Dr XXX
To Realisation A/c XXX
PURCHASE CONSIDERATION
Purchase consideration represents consideration paid in cash, shares, debentures etc.

1 Due entry for consideration
Transferee company A/C Dr XXX
To Realisation A/c XXX
2 Receipt of consideration
Shares/Cash A/c Dr XXX
To Transferee company A/c XXX
SALE OF ASSETS NOT TAKEN OVER BY PURCHASING COMPANY
1 Sale with assuming profit Bank A/C Dr XXX

To Assets A/C(book value) XXX
To Realisation A/c(Profits) XXX
2 Sale with assuming lossBank A/c Dr XXX

Realisation A/c(loss) Dr XXX
To Assets A/c(Book Value) XXX
170
SETTLEMENT OF LIABILITIES NOT TAKEN OVER BY PURCHASING

COMPANY
1 Settlement with assuming at discount)
Liabilities A/C Dr XXX
To Bank A/C(book value) XXX
To Realisation A/c(Profits) XXX
2 Settlement with assuming at loss
Liabilities A/c Dr XXX
Realisation A/c(loss) Dr XXX
To Bank A/c(Book Value) XXX
Realisation Expense

1 Incurred by transferor(Selling Co.) company
Realisation A/c XXX
To Bank A/c XXX
2 Incurred by transferee(purchasing Co.) company
NO ENRTY NIL NIL
3 Incurred by transferor(Selling Co.) company
Reimbursed by transferee company
Transferee company A/c Dr XXX
To Bank A/c XXX
On Reimbursement
Bank A/c Dr XXX
To Transferee company A/c XXX
AMOUNT DUE TO EQUITY SHAREHOLDERS
1 Transfer of share capital and reverse to

shareholders account
Equity Share capital A/c Dr XXX

Reserves A/c Dr XXX
To Shareholders A/c XXX
171
2 Transfer of balances in realization

accountRealisation A/c (Profit) Dr XXX
To shareholders A/cIn Case of loss XXX
Shareholders A/c Dr
To Realisation A/c (Loss) XXX
SETTLEMENT TO SHAREHOLDERS BY TRANSFER OF CONSIDERATION

RECCEIVED
1 Shareholders A/c Dr XXX

To shares of transferee company A/c XXX
To Bank A/c XXX
8.4 Journal entries in the books of purchasing company
1. For purchase consideration payable
Date Particulars L. F. Debit Credit

Rs. Rs.
Business Purchase A/c Dr.

To Liquidator of Selling Co. Ltd A/c
(Being purchase price due made)
2. For assets and liabilities taken over from selling company
Sundry assets A/c Dr.

(Each assets taken from selling company)
Goodwill A/c (Balancing figure) Dr.
To Sundry Creditors A/c
To Bills Payable A/c
To Debentures A/c
To Business Purchase A/c
To Capital Reserve (Bal.fig.)
(Being assets and liabilities taken over,
goodwill/capital reserve being the
balancing figure)
172
3. For discharge of Purchase Consideration
Liquidator A/c Dr.

To Share Capital A/c
To Securities premium A/c
To Cash A/c
(Being purchase consideration
discharged to selling company’s
shareholders )
4. For expenses of winding up / liquidation of selling company paid
Goodwill A/c Dr
To Cash A/c
(Being liquidation expenses of selling
company paid)
Illustration 1 ( Amalgamation : Net Payment Method)
Sun Ltd and Moon Ltd are two companies carrying on business in the same line of
activity. Their balance sheets as on 31.12.2013 are:
Liabilities Sun Ltd Moon Ltd Assets Sun Ltd Moon Ltd
Rs. Rs. Rs. Rs.
Equity shares of Land and buildings 1,00,000 ---
Rs. 10 each 6,00,000 2,00,000
General Reserve 4,00,000 2,00,000 Plant 7,00,000 3,00,000
Secured loan 6,00,000 1,00,000 Investments 1,00,000 ---
Current liabilities 6,00,000 4,00,000 Stock 9,00,000 4,00,000
Debtors 3,00,000 1,00,000
Cash at bank 1,00,000 1,00,000
22,00,000 9,00,000 22,00,000 9,00,000
The two companies decided to amalgamate into Raising Star Ltd. The following further
information is given.
173
a. All assets and liabilities of the two companies are taken over.
b. Each share in Moon Ltd is valued a Rs. 25 for the purpose of amalgamation.
c. Shareholders of Moon Ltd. and Sun Ltd. are paid off by issue of sufficient number of
equity shares of Rs. 10 each in Raising Star Ltd as fully paid at par.
d. Each share in Sun Ltd. is valued at Rs. 15 for the purpose of amalgamation.
You are required to give journal entries in the books of purchasing company and ledger
accounts in the books of selling company.
Solution
Calculation of Purchase Consideration
Each share in Moon Ltd is valued at Rs. 25 : (20,000 shares x Rs. 25) = R s .
5,00,000
Each share in Sun Ltd is valued at Rs. 15: (60,000 shares x Rs. 15) = Rs. 9,00,000
Journal entries in the books of Purchasing Company Mars Ltd.

Rs. Rs.
Business Purchase A/c Dr. 14,00,000

To Liquidator of Moon Ltd A/c 5,00,000
To Liquidator of Sun Ltd A/c 9,00,000
Land and buildings A/c Dr. 1,00,000

Plant A/c Dr. 10,00,000
Investments A/c Dr. 1,00,000
Stock A/c Dr. 13,00,000
Debtors A/c Dr. 4,00,000
Cash at bank A/c Dr. 2,00,000
To Secured loan A/c 7,00,000
To Current liabilities A/c 10,00,000
174
To Business Purchase A/c 14,00,000

(Being assets and liabilities taken from
selling companies Moon Ltd and Sun Ltd
Liquidator of Moon Ltd A/c Dr. 5,00,000

Liquidator of Sun Ltd A/c Dr. 9,00,000
To Share Capital A/c 14,00,000
(Being shares of Rs. 10 each paid to
selling companies)
Ledger accounts in the books of selling company Sun Ltd
Realisation Account Sun Ltd
Rs. Rs.
To Land and buildings A/c 1,00,000 By Secured loan A/c 6,00,000
To Plant A/c 7,00,000 By Current liabilities A/c 6,00,000
To Investments A/c 1,00,000 By Mars Ltd A/c 9,00,000
To Stock A/c 9,00,000 By Share holders 1,00,000
To Debtors A/c 3,00,000 (Realisation loss)
To Cash at bank A/c 1,00,000
22,00,000 22,00,000
Share holders Account
To Mars Ltd 9,00,000 By Share capital 6,00,000

To Realisation A/c loss 1,00,000 By General reserve 4,00,000
10,00,000 10,00,000
Ledger accounts in the books of selling company Moon Ltd

Realisation Account Moon Ltd
Rs. Rs.
To Plant A/c 3,00,000 By Secured loan A/c 1,00,000
To Stock A/c 4,00,000 By Current liabilities A/c 4,00,000
To Debtors A/c 1,00,000 By Mars Ltd A/c 5,00,000
To Cash at bank A/c 1,00,000
By Share holders 1,00,000
(Realisation profit)
10,00,000 10,00,000
175
To Mars Ltd 5,00,000 By Share capital 2,00,000
By General reserve 2,00,000
By realisation profit 1,00,000
5,00,000 5,00,000
Illustration 2 (Absorption: Net Payment Method)
Xavier Co. Ltd agreed to acquire the assets excluding cash as on 31st December 2011 of
Yuvaraj Co. Ltd.
The Balance Sheet of Yuvaraj Co. Ltd. As on that date was:
Share capital Goodwill 60,000
(Shares of Rs. 10 each) 3,00,000 Land and Buildings 1,20,000
General reserve 80,000 Plant and Machinery 2,00,000
Debentures 50,000 Stock 80,000
Creditors 10,000 Debtors 30,000
Profit and loss 60,000 Cash 10,000
5,00,000 5,00,000
The consideration was as follows:
i. A cash payment of Rs. 4 for every share of Yuvaraj Co. Ltd.
ii. The issue of one share of Rs. 10 each at market value of Rs. 12.50 in the Xavier Co. Ltd
for every share of Yuvaraj Co. Ltd.
iii. The issue of 1,100 debentures of Rs. 50 each in Xavier Co. Ltd. to enable Yuvaraj Co.
Ltd. to discharge its debentures at a premium of 10%.
iv. The expenses of liquidation of Yuvaraj Co. Ltd. amounting to Rs. 4,000 was to be met by
themselves.
Give journal entries in the books purchasing company and close ledger accounts in the
book of selling company.
176
Calculation of Purchase Consideration (Net Payment Method)
Rs.
Cash payment of Rs. 4 for every share 30,000 x Rs. 4 1,20,000
Issue of shares 30,000 x Rs. 10 3,00,000
Securities premium 30,000 x Rs. 2.50 75,000
Total purchase consideration 4,95,000
Ledger accounts in the books of selling company Yuvaraj Ltd
Realisation Account Ltd.

Rs. Rs.
To Goodwill 60,000 By Debentures 50,000
To Land and Buildings 1,20,000 By Xavier Co. Ltd 4,95,000
To Plant and Machinery 2,00,000
To Stock 80,000
To Debtors 30,000
To Bank liquidation expenses 4,000
To Share holders A/c 51,000
5,45,000 5,45,000
Cash Account
To Balance B/d 10,000 By Creditors 10,000

To Xavier Co. Ltd A/c 1,20,000 By Liquidation expenses 4,000
By Share holders bal.fig 1,16,000
1,30,000 1,30,000
To Share Capital 3,00,000 By Share capital 3,00,000

To Securities Premium 75,000 By General reserve 80,000
To Cash A/c 1,16,000 By Profit and loss A/c 60,000
By Realisation profit 51,000
4,91,000 4,91,000
177
Journal entries in the books of Purchasing Company Xavier Co. Ltd.

Rs. Rs.

To Liquidator of Moon Ltd A/c 4,95,000
Goodwill A/c Dr. 60,000

Goodwill A/c Bal.fig Dr. 60,000
Land and Buildings A/c Dr. 1,20,000
Plant and Machinery A/c Dr. 2,00,000
Stock A/c Dr. 80,000
Debtors A/c Dr. 30,000
To Debenture A/c 55,000
Liquidator A/c Dr. 4,95,000

To Securities premium A/c 75,000
To Cash A/c 1,20,000
selling companies)
Illustration 3 (Absorption Net Payment Method)
Rangan Ltd agreed to acquire the business of Logambal Ltd as on 31st December 2012.
The balance sheet of Logambal Ltd on that date was as follows:
178
Share capital of Rs. 10 each 6,00,000 Goodwill 1,00,000
General reserve 1,70,000 Buildings 6,40,000
Profit and Loss Account 1,10,000 Stock 1,68,000
6% Debenture 1,00,000 Debtors 36,000
Creditors 20,000 Cash 56,000
10,00,000 10,00,000
The consideration payable by Rangan Ltd., was agreed upon as below:
i. A cash payment equivalent to Rs. 2.50 for every Rs. 10 share in Logambal Ltd.
ii. The issue of 90,000 Rs. 10 share fully paid in Rangan Ltd having an agreed value of Rs.
15 per share.
iii. The issue of such an amount of fully paid 5% debenture of Rangan Ltd at 96% as is
sufficient to discharge of Logambal Ltd at a premium of 20%.
While computing the consideration, the directors of Rangan Ltd valued Buildings at Rs.
12,00,000, the stock at Rs. 1,42,000 and the debtors at their face value subject to an allowance
of 5% to cover doubtful debts. The cost of liquidation of Logambal Ltd., came to Rs. 5,000
which is to be paid by Rangan Ltd. close the books of Logambal Ltd and give journal entries in
the books of Rangan Ltd.
Rs.
Cash payment of Rs. 2.5 x 60,000 shares 1,50,000
Issue of shares Rs. 10 x 90,000 shares 9,00,000
Securities premium Rs. 5 x 90,000 4,50,000
purchase consideration 15,00,000

179
Journal entries in the books of Purchasing Company Rangan Ltd.

Rs. Rs.

To Liquidator of Ltd A/c 15,00,000
Goodwill A/c Dr. 1,00,000

Goodwill A/c (Bal.fig) Dr. 1,07,800
Buildings A/c Dr. 12,00,000
Stock A/c Dr. 1,42,000
Debtors A/c 34,200
Cash A/c Dr. 56,000
To 6% Debenture A/c 1,20,000
To Creditors A/c 20,000

To Securities premium A/c 4,50,000
To Cash A/c 1,50,000
selling companies)
Goodwill A/c Dr 5,000

To cash A/c 5,000
company paid)
180
Calculation of Goodwill
Existing goodwill 1,00,000
Goodwill balancing figure (new) 1,07,800
Liquidation expenses paid 5,000
Total Goodwill 2,12,800
Ledger accounts in the books of selling company Logambal Ltd.

Rs. Rs.
To Goodwill 1,00,000 By Debentures 1,00,000
To Buildings 6,40,000 By creditors 20,000
To Stock 1,68,000 By Logambal Ltd 15,00,000
To Debtors 36,000
To cash 56,000
To Share holders A/c 6,20,000
16,20,000 16,20,000

To Share Capital 9,00,000 By Share capital 6,00,000
To Securities Premium 4,50,000 By General reserve 1,70,000
To Cash A/c 1,50,000 By Profit and loss A/c 1,10,000
By Realisation profit 6,20,000
15,00,000 15,00,000
Illustration 4
The following is the balance sheet of X Co. Ltd as on 31st December 2017.
Share capital Buildings 90,000
12,000 shares of Rs. 10 each 1,20,000 Machinery 50,000
Sundry creditors 30,000 Stock 17,000
Bank overdraft 28,000 Sundry debtors 20,000
Profit and loss A/c 1,000
1,78,000 1,78,000
181
The company went into voluntary liquidation and the assets were sold to Y Co. Ltd for
Rs. 1,50,000 payable as to Rs. 60,000 in cash (which sufficed to discharge creditors and bank
overdraft and to pay off the winding up expenses of Rs. 2,000) and as to Rs. 90,000 by the
allotment of 12,000 share of Rs. 10 each of the Y co. Ltd Rs. 7.50 per share paid up.
Draw up the important ledger accounts to close the books of X Co., Ltd.
Ledger accounts in the books of selling Company Ltd.
Rs. Rs.
To Buildings 90,000 By Purchasing company Ltd 1,50,000
To Stock 17,000 By Share holders A/c 29,000
To Debtors 20,000 (Realisation loss)
To Machinery 50,000
To Bank A/c winding up 2,000
1,79,000 1,79,000
To Equity shares 90,000 By Share capital 1,20,000
To Realisation loss 29,000
To Profit and loss A/c 1,000
30,000 30,000
Cash Account
To Y Co. A/c 60,000 By Creditors 30,000
By Bank over draft 28,000
By Realisation expenses 2,000
60,000 60,000
182
Illustration 5 19/10.136
The following is the balance sheet of XYZ Ltd. on 31st Dec 1976
Liabilities Rs Assets Rs
20000 shares of Rs.10 each 2,00,000 Land & Building 1,00,000
Debenture 1,00,000 Machinery 1,50,000
Sundry creditors 30,000 Work in Progress Stock 30,000
Reserve fund 25,000 Furniture 60,000
Dividend equalisation fund 20,000 Debtors 2,500
Profit & Loss appropriation A/c 5,100 Cash at bank 25,000
Cash in hand 12,500
100
3,80,100 3,80,100
The company is absorbed by ABC Company Ltd; on the above date. The consideration
for the absorption is the discharge of debentures at a premium of 5% taking over the liability in
respect of the sundry creditors and payment of Rs.7 in cash and one share of Rs.5 in ABC co
Ltd. at the market value of Rs.8 per share in exchange for one share in XYZ Co. Ltd.
The cost of liquidation of Rs.5, 000 is to be met by the purchasing company.
Pass journal entries in the books purchasing company and ledger accounts in the books
of selling company. Show how the purchase price is arrived at.
Solution

Rs.
Cash payment of Rs. 7 x 20,000 1,40,000
Issue of shares Rs. 5 x 20,000 1,00,000
Securities premium Rs. 3 x 20,000 60,000
Purchase Price 3,00,000

183
Ledger accounts in the books of selling Company Ltd.
Rs. Rs.
To Buildings 1,00,000 By Purchasing company Ltd 3,00,000
To Machinery 1,50,000 By debenture 1,00,000
To work in progress 30,000 By Sundry creditors 30,000
To Stock 60,000
To furniture 2,500
To Debtors 25,000
To Cash at bank 12,500
To Cash in hand 100
By Share holders A/c 49,900
(Realisation profit )
4,30,000 4,30,000
Rs. Rs,
To Purchase Consideration 3,00,000 By Share capital 2,00,000
By Realisation profit 49,900
By Reserve fund 25,000
By Dividend equalisation fund 20,000
By Profit and loss A/c 5,100
3,00,000 3,00,000
Journal entries in the books of Purchasing Company Ltd.

Rs. Rs.

To Liquidator of Ltd A/c 3,00,000
Buildings A/c Dr. 1,00,000

Machinery A/c Dr. 1,50,000
184
work in progress A/c Dr. 30,000

Stock A/c Dr. 60,000
Furniture A/c Dr. 2,500
Debtors A/c Dr. 25,000
Cash at bank A/c Dr. 12,500
Cash in hand A/c Dr. 100
Goodwill A/c bal.fig Dr. 54,900
To Debenture A/c 1,05,000
To Creditors A/c 30,000
selling companies)

To Securities premium A/c 1,00,000
To Cash A/c 60,000
selling companies)
Goodwill A/c Dr 5,000

To cash A/c 5,000
company paid)
Total Goodwill
Goodwill balancing figure 54,900
Liquidation expenses paid 5,000
Total Goodwill 59,900

185
Check Your Progress

1. What is mean by amalgamation?
2. Write a note on purchase consideration.
3. How purchase consideration is determined?
8.5 Summary
Amalgamation and absorption is important business activity after implementation of new

industrial policy. Amalgamation means when two or more existing companies are liquidated
and a new company is formed. But absorption means when are existing company is taking
over the another existing company. Accounting treatment of amalgamation and absorption,
first calculate the purchase consideration transfer the asset and liability transfer to realisation
accountant and find the profit or loss of realisation finally to prepare the merged balance sheet
of new company.
8.6 Key Words

 Amalgamation : When two or more company to one company
 Absorption : When an existing company take over the balance of another
 Liquidation : Winding up of company
 Net assets : Total assets - Total current liability

186

1. The business of Meenakshi Traders Limited is purchased by Kamakshi Traders Limited.
The purchase of consideration is discharged as follows:
i. A payment of cash at Rs.20 for every share in the Meenakshi Traders Ltd.
ii. A further payment in cash of Rs.55 each for every debenture in the Meenakshi
Traders Limited.
iii. An exchange of 3 shares in Kamakshi Traders Ltd. of Rs. 10 each (quoted in the
market at Rs.20) for every share in the Meenakshi Traders Ltd. stood as follows at
the date of purchase.
Balance sheet of Meenakshi Traders Ltd.
Share capital 40,000 Building 15,000
120 8% Debenture of Rs.50 each 6,000 Machinery 20,000
Capital Redemption Reserve A/c 4,000 Furniture 1,000
Creditors 4,200 Stock 10,000
Profit & loss A/c 1,000 Debtors 9,000
Cash 200
55,200 55,200
Give journal entries in the books of both the companies.
Answer:
Purchase consideration Rs. 40,000
Realisation loss Rs. 5,000
Shareholders get cash Rs. 16,000, shares Rs. 24,000
Capital reserve in the books of Meenakshi traders Rs. 4,000
2. A Co Ltd and B Co. Ltd whose business are of similar nature, decide to amalgamate and
new company called C Co Ltd is formed to take over their assets and liabilities. The
following are their balance sheets.
187
Liabilities A Co B Co. Ltd. Assets A Co B Co. Ltd.

Ltd. Ltd.
Rs. Rs. Rs. Rs.
Share capital Goodwill 30,000 20,000
7,500 shares of Freehold Premises 10,000 ———
Rs. 10 each 75,000 Machinery 18,300 13,450
4,550 shares of Stock 16,000 11,550
Rs. 10 each —— 45,500 Sundry debtors 7,500 6,000
Sundry creditors 3,300 2,000 Cash 1,500 1,000
Reserves 4,200 ———-
Profit and loss A/c 800 4,500
83,300 52,000 83,300 52,000
Ascertain the purchase price.
Answer
A Co Ltd B Co. Ltd
Purchase consideration Rs. 80,000 Rs. 50,000
3. Blue Ltd. and Star Ltd. whose balance sheets on 1st January, 2011 are given below decided
to amalgamate under the name of Blue Star Ltd. which was floated for the purpose with
an authorised capital of 20,000 shares of Rs. 100 each.
Balance sheet of Blue Ltd. and Star Ltd. as on 1st Jan.2011
Liabilities Blue Ltd Star Ltd Assets Blue Ltd Star Ltd
Rs. Rs. Rs. Rs.
Shares of 10 each fully paid 5,00,000 10,00,000 Buildings 3,00,000 4,00,000
Sundry Creditors 50,000 80,000 Machinery 2,00,000 3,00,000
6% debentures 50,000 - Goodwill 50,000 50,000
P&L A/c 50,000 - Stock 20,000 1,00,000
Sundry Debtors 20,000 1,20,000
Cash at Bank 60,000 50,000
P&L A/c - 50,000
Patents - 10,000
6,50,000 10,80,000 6,50,000 10,80,000
188
Blue Star Ltd. took over all assets except cash at bank but considered goodwill of Star
Ltd., as valueless. It also agreed to take over trade creditors. It agreed to issue fully paid
shares to the liquidators of the two companies. Give journal entries in the books of
purchasing company and close the ledger account in the books of selling company.
Answer: Purchase consideration: Blue Ltd. Rs. 5,40,000;
Star Ltd. Rs. 8,50,000;
No loss or profit on realisation for both companies;
Payment to shareholders – Blue Ltd. – Cash Rs. 10,000; Shares 5,40,000

Star Ltd. – Cash Rs. 50,000 Shares 8,50,000.
4. The E co. Ltd. sells its balance to Ramraj products Ltd. as on Dec.31.2009 on which date
its Balance Sheet was as under.
Paid up capital: Goodwill 50,000
2,000 shares of Rs. 100 each 2,00,000 Property 1,50,000
Debentures 1,00,000 Tools 83,000
Reserve fund 50,000 Bills receivable 4,500
Profit & Loss A/c 20,000 Sundry debtors 27,500
Cash at bank 50,000
4,00,000 4,00,000
Ramraj products Ltd. agreed to take over the assets (exclusive of cash and goodwill)
At 10% less than the boos values, to pay Rs.75,000 for goodwill and to take over the
debentures.
The purchase consideration was to be discharged by the allotment to the E Co., Ltd. of
1,500 shares of Rs.100 each at a premium of Rs. 10 per share and the balance in cash.
The cost of liquidation amounted to Rs. 3,000. Show the ledger accounts in the books of
E Co. Ltd. and pass the entries recording the transaction in the books of Ramraj products
Ltd.
189
Answer
Purchase consideration Rs. 2,45,000
Realisation loss Rs. 8,000
Shareholders get cash Rs. 97,000, shares Rs. 1,65,000
Goodwill in Ramraj products Ltd. Rs. 75,000
5. Deena Ltd. having a capital of Rs. 10,00,000 dividend into 10,000 shares of Rs. 100 each
(Rs. 75 paid up) and a reserve fund of Rs. 2,50,000 was absorbed by Indian Timber Ltd.
having a capital of Rs. 40,00,000 dividend into 40,000 shares of Rs. 100 each (Rs. 60
paid up) and a reserve fund of Rs. 16,00,000 on the terms that for every four shares in
Deena Ltd; Indian timber Ltd was to give five shares partly paid as its original ones.
Prepare ledger accounts to close the books of Deena Ltd.
Answer:
Purchase consideration Rs. 7,50,000
Realisation loss Rs. 2,50,000
Shareholders get shares Rs. 7,50,000

190
UNIT 9
HOLDING COMPANY AND
SUBSIDIARY COMPANY
Learning Objectives
 Explain the meaning of holding and subsidiary company
 Describe the legal frame work relating to holding and subsidiary company
 Discuss the consolidation procedure
 List out the accounting treatment relating holding and subsidiary company.
Structure
9.1 Introduction
9.2 Steps Involved in the Preparation of Consolidated Balance Sheet
9.3 Illustrations
9.4 Summary
9.5 Key Words
9.1 Introduction
A parent company is an enterprise that has one or more subsidiaries (AS-21). A subsidiary
is an enterprise that his controlled by another enterprise known as the parent (AS-21). It is
exercise of control by the parent company that is important to identify a subsidiary. If there is no
control there is no subsidiary. Control by a parent company may be exercised in any one of the
following ways.
The ownership, directly or indirectly through subsidiary (ies). Of more than one-half of
the voting power of an enterprise; or control the composition of the board of directors in the
case of a company or the composition of the governing body in case of any other enterprise so
191
as to obtain benefits from economic activities. To summaries a parent may control the subsidiary
in any one of the following cases:
By holding in the subsidiary company, more than half of the sharing holding voting powers;
By controlling the composition of the board of directors of the subsidiary; and
By controlling the holding company, which controls the subsidiary. For example, if C Ltd.
is the subsidiary of B Ltd. and B Ltd. is the subsidiary of A Ltd. then C ltd. is also deemed to be
the subsidiary of A Ltd.
9.2 Steps Involved in the Preparation of Consolidated Balance Sheet
Step 1 Computation of Holding – Minority Ratio
Step 2 Computation of Pre – Acquisition Profits or Capital Profits
Step 3 Ascertaining of Post Acquisition Profits or Revenue Profits
Step 4 Computation of Minority Interest
Calculation of Minority Interest
Rs.
Minority share capital
Minority’s share of capital profit
Minority’s share of Revenue profit
Minority Interest
Step 5 Computation of Goodwill/ Cost of Control or Capital Reserve
Rs. Rs.
Amount paid for purchasing of shares in subsidiary company xxx
Less: Cost of shares acquired in subsidiary company xxx
Add: Holding’s Share of Capital Profit xxx
Goodwill /Capital reserve xxx

192
Step 6 calculation and elimination of unrealised profit included in stock
Step 7 Elimination of Inter- company debts
Step 8 Preparation of Consolidated Balance Sheet
9.3 Illustrations
Illustration 1
From the balance sheets given below prepare a consolidated balance sheet of A Ltd. and
its subsidiary company B Ltd.
Balance Sheet As on 30th June 2014
Liabilities A Ltd B Ltd Assets A Ltd B Ltd

Rs. Rs. Rs. Rs.
Share capital: Land & buildings 6,40,000 2,00,000
Share of Rs.10 each 25,00,000 6,00,000 Machinery 12,60,000 3,40,000
General reserve 3,60,000 1,20,000 Furniture 1,40,000 60,000
Profit & loss a/c 2,40,000 1,80,000 40,000 shares in
Trade creditors 3,50,000 1,00,000 B Ltd. 5,00,000 —-
Stock 4,10,000 2,50,000
Debtors 3,80,000 1,00,000
Bank balance 1,20,000 50,000
34,50,000 10,00,000 34,50,000 10,00,000
At the date of acquisition by A Ltd. of its holding of 40,000 shares in B Ltd., the latter
company had undistributed profits reserve amounting to Rs. 1,00,000, none of which had been
distributed since then.
Solution
1. Holding Minority Ratio
40,000 Shares : 20,000 Shares = 2:1
2. Capital Profit = Rs. 1,00,000
Holding’s Share of Capital Profit = Rs. 1,00,000 X 2/3 = 66,667
Minority’s share of capital profit = Rs.1,00,000 x 1/3 = 33,333

193
3. Revenue profit
Rs.
General reserve 1,20,000
Profit & loss a/c 1,80,000
3,00,000
Less: Capital profit 1,00,000
Revenue profit 2,00,000
Holding’s Share of Revenue Profit = 2,00,000 X 2/3 = 1,33,333
Minority’s share of Revenue profit = 2,00,000 x 1/3 = 66,666
4. Calculation of Minority Interest
Rs.
Minority share capital 2,00,000
Minority’s share of capital profit 33,333
Minority’s share of Revenue profit 66,666
Minority Interest 3,00,000
5. Cost of control
Rs. Rs.
Amount paid for purchasing of shares in subsidiary company 5,00,000
Less: Cost of shares acquired in subsidiary company 4,00,000
+ Holding’s Share of Capital Profit 66,667 4,66,667
Goodwill 33,333
194
Consolidated Balance Sheet

Note no. Rs.
I. Equity and liabilities
Shareholders funds
Share capital 1 25,00,000
3,60,000 + 2,40,000 = 6,00,000
Share of revenue profit 1,33,333 7,33,333
Minority interest 3,00,000
Trade payables 3,50,000 +1,00,000 3 4,50,000
Total 39,83,333
II. Assets Note no. Rs.
Intangible Asset Goodwill 33,333
Tangible assets 4
Buildings 6,40,000 + 2,00,000 8,40,000
Machinery 12,60,000 + 3,40,000 16,00,000
Furniture 1,40,000 + 60,000 2,00,000
Current assets
Stock 4,10,000 + 2,50,000 5 6,60,000
Debtors 3,80,000 + 1,00,000 4,80,000
Bank balance 1,20,000 +50,000 1,70,000
Total 39,83,333
Illustration 2
From the Balance Sheets given below, prepare Consolidated Balance Sheet of “Union
Ltd” and it’s subsidiary “State Ltd.”.
195
Balance Sheet as on 30.06.2010
Liabilities Union Ltd State Ltd Assets Union Ltd State Ltd
Rs. Rs. Rs. Rs.
Share capital : 1,40,000 40,000 Land & buildings 90,000 30,000
(Rs.10 each) Plants 45,000 16,000
General Reserve 30,000 9,000 Stock 16,000 5,000
Profit & Loss A/c 15,000 12,000 Debtors 20,000 8,000
Creditors 30,000 8,000 Investment : 3000
Shares in State Ltd. 37,000
Bank 7,000 10,000
2,15,000 69,000 2,15,000 69,000
At the date of acquisition of holding of 3,000 shares in State Ltd., the latter company had
undistributed profit and reserves amounting to Rs.4,000 and Rs.6,000 respectively. The creditor
of State Ltd. include Rs.4,000 for goods supplied by Union Ltd. on which Union Ltd. made a
profit of Rs.1,000. Half of the goods were still in stock on 30.06.2010.
Solution
3,000 Shares : 1,000 Shares = 3:1
2. Capital Profit = Rs. 10,000
Holding’s Share of Capital Profit = Rs. 10,000 X 3/4= Rs. 7,500
Minority’s share of capital profit = Rs.10/000 x 1/3 = Rs. 2,500
3. Revenue profit
Rs.
General reserve 9,000
Profit & loss a/c 12,000
21,000
Less: Capital profit 10,000
Revenue profit 11,000

196
Holding’s Share of Revenue Profit = Rs. 11,000 x = Rs. 8,250
Minority’s share of Revenue profit =Rs. 11,000 x = Rs. 2,750
Rs.
Minority share capital 10,000
Minority Interest 15,250
5. Cost of control
Rs. Rs.
Amount paid for purchasing of shares in subsidiary company 37,000
Less: Cost of shares acquired in subsidiary company 30,000

+ Holding’s Share of Capital Profit 7,500
Capital reserve 500
6. Provision for Unrealised Profit Rs. 1,000 x ½ – Rs.500 (Goods supplied by Union Ltd.)
Note no. Rs.

Shareholders funds
30,000 + 15,000 = 45,000
Share of revenue profit + 8,250
53,250
Unrealised profit 500 52,750
Capital reserve 500
Minority interest 3 15,250
Trade payables 30,000 + 8000 -4,000 34,000
Total 2,42,500
197
II. Assets Note no. Rs.
Tangible assets 5
Buildings 90,000 + 30,000 1,20,000
Plant 45,000 + 16 000 61,000
Intangible Asset Goodwill
Current assets
Stock 16,000 + 5 000 - 4000 -500 6 16,500
Debtors 20,000 + 8,000 28,000
Bank balance 7,000 + 10,000 17,000
Total 2,42,500
Illustration 3
From the Balance Sheet and information given below, prepare a Consolidated Balance
Sheet.
Liabilities H Ltd S Ltd Assets H Ltd S Ltd

Rs. Rs. Rs. Rs.
Shares capital: 1,00,000 20,000 Sundry assets 80,000 12,000
(Rs. 10 per share Stock-in-trade 61,000 24,000
Profit & loss a/c Debtors 13,000 17,000
Reserves 40,000 12,000 Bills receivable 1,000 ——
Creditors 10,000 6,000 Shares in s Ltd.
Bills payable 20,000 12,000 1,500 shares at Cost 15,000 ——
—— 3,000
1,70,000 53,000 1,70,000 53,000
Additional information
1. All profit of S Ltd have been earned since the shares were acquired by H Ltd.but the
reserve of Rs. 6000 was already there at the time.
2. Bills accepted by S Ltd. Are all in favour of H Ltd. which has discounted Rs. 2,000 of them.
3. Sundry assets of s co. Ltd., under valued by Rs. 2000.

198
4. The stock-in-trade H Ltd. Includes Rs. 5,000 bought from S Ltd. At a profit to the latter of
25% on cost.
Solution
1,500 Holding’s Shares : 500 Minority’s Shares = 3:1
2. Capital Profit
Rs.
Reserve of S Ltd. on the date of purchase of shares 6,000
Add profit on revaluation of sundry assets 2,000
Capital Profit 8,000
Holding’s Share of Capital Profit = Rs. 8,000 x 3/4 = Rs. 6,000
Minority’s share of capital profit = Rs. 8,000 x ¼ = Rs. 2,000
3. Revenue profit
Profits earned by S Ltd after the date of acquisition
Profit & Loss A/c Rs. 12,000
Holding’s Share of Revenue Profit = Rs. 12,000 x 3/4= Rs. 9,000
Minority’s share of Revenue profit = Rs.12,000 x 1/4 = Rs. 3,000
Rs.

199
5. Cost of control
Rs. Rs.
Less: Cost of shares acquired in subsidiary company 15000

+ Holding’s Share of Capital Profit 6,000 21,000
Capital reserve 6,000
6. Provision for unrealised profit
Stock with H Ltd purchased from S Ltd. Rs. 5,000
5,000 x 25/125 = Rs. 1,000
Note no. Rs.

Shareholders funds
Reserve 10,000
Profit & loss A/c H Ltd 40,000
Share of revenue profit 3 9,000
49,000
- Provision for unrealised profit 1,000 48,000
Minority interest 10,000
Trade payables
Sundry creditors
H Ltd 20,000
S Ltd 12,000
32,000
Bills payable 3,000
Less: Mutual obligation 1,000 2,000
Total 2,08,000
200
Note no. Rs.
I. Assets
II. Sundry assets 80,000 + 12000 5 92,000
III. Add: Revaluation 2,000 94,000
Stock in trade 61,000 +24,000 6 85,000
IV. Less unrealised profit 1,000 84,000
V. Debtors 13,000 + 17,000 30,000
Total 2,08,000
Illustration 4
From the balance sheet given below, Prepare Consolidated Balance Sheet.
Balance sheet as on 31st December 2011
Liabilities H Ltd. S Ltd. Assets H Ltd. S Ltd.

Rs. Rs. Rs. Rs.
Shares of Fixed assets 4,00,000 60,000
Rs. 10 each 5,00,000 1,00,000 Stock 3,00,000 1,20,000
Profit & loss a/c 2,00,000 60,000 Debtors 75,000 85,000
Reserves 60,000 30,000 Bills receivable 20,000 —-
Bills payable —- 15,000 Shares in S Ltd.
Creditors 1,10,000 60,000 7,500 at cost 75,000 —-
8,70,000 2,65,000 8,70,000 2,65,000
Other information
a) The bills accepted by S Ltd. are all in favour of H Ltd.
b) The stock of H Ltd. Include Rs. 25,000 bought from S Ltd. at a profit to latter of 20% on
sales.
c) All the profits of S Ltd. has been earned since the shares were acquired by H Ltd. but
there was already the reserve of Rs. 30,000 at the date.
201
Solution
Holding’s Shares : 7,500 Minority’s Shares = 2,500 = 3:1
2. Capital Profit = Rs. 30,000
Minority’s share of capital profit = Rs. 30,000 x 1/4 = Rs. 7,500
3. Revenue profit
Rs.
Holding’s Share of Revenue Profit = Rs. 60,000 x 3/4 = Rs. 45,000
Minority’s share of Revenue profit =Rs. 60,000 x 1/4 = Rs. 15,000
Rs.
5. Cost of control
Rs. Rs.
6. Unrealised profit on stock
25,000 x 20/120 = 5,000

202
Note no. Rs.

Reserve and surplus 2 60,000
Profit and loss A/c 2,00,000
Add share of revenue profit 45,000
2,45,000
Unrealised profit on stock 5,000 2,40,000
Trade payables 1,10,000 + 60,000 1,70,000
Bills payable Mutual Obligation Nil
Total 10,40,000
II Assets Note no. Rs.
Tangible assets 5
Fixed asset 4,00,000 + 60,000 4,60,000
Intangible Asset Goodwill
Current assets
Stock 300,000 +1,20,000 – 5,000 6 4,15,000
Debtors 75,000 + 85,000 160,000
Bill receivable 20,000 – 15,000 5,000
Total 10,40,000
203
Illustration 5
From the following details, prepare a consolidated balance sheet of H Ltd. and its subsidiary
S Ltd. As on 31-12-2011.

Rs. Rs. Rs. Rs.
Share capital: Buildings 1,45,000 50,000
Share Rs. 10 Each 2,00,000 60,000 Plant 60,000 25,000
General reserve 50,000 15,000 Stock 40,000 10,000
P & L A/c 25,000 21,000 Debtors 35,000 15,000
16% debentures 70,000 —- Bills Receivable 15,000 10,000
Creditors 15,000 10,000 Bank 10,000 5,000
Bills payable 5,000 9,000 Investment in
(4,000 shares of S Ltd.) 60,000 —-
3,65,000 1,15,000 3,65,000 1,15,000
On the date of acquisition of shares by H Ltd. in S Ltd. the latter had undistributed profits
of Rs. 9,000 and reserve of Rs. 6,000. The value of buildings and plants of S Ltd. were considered
at Rs. 65,000 and Rs. 16,000 respectively. No purchase or sale of these assets after the
acquisition of shares. Depreciation may be ignored. Debtors of H Ltd. Include Rs.5,000 due
from S Ltd. and also bills payable of H Ltd. includes a bill of Rs. 3,000 accepted in favour of S
Ltd.
Solution

4,000 Shares : 2,000 Shares = 2:1
2. Capital Profit
Rs.
Profits 9,000
15,000
Add: profit on revaluation of building 15,000
30,000
Less: Loss on revaluation of plant 9,000
Capital profit 21,000
204
Minority’s share of capital profit = Rs. 21,000 x 1/3 = Rs. 7,000
3. Revenue profit
Rs.
36,000
Less: Capital profit 15,000
Revenue profit 21,000
Holding’s Share of Revenue Profit = Rs. 21,000 x 2/1 = Rs. 14,000

Minority’s share of Revenue profit =Rs. 21,000 x 1/3 = Rs. 7,000
Rs.
5. Cost of control
Rs. Rs.
Goodwill 6,000
205
Note no. Rs.
Shareholders funds
General reserve 2 50,000
Profit and loss A/c 25,000
Share of revenue profit 14,000 39,000
16% Debentures 70,000
Trade payables:
Creditors H Ltd. Rs.15,000
S Ltd. Rs. 10,000
25,000
Less Mutual obligation 5,000 20,000
Bills payable H Ltd Rs. 5,000
S Ltd Rs. 9,000
14,000
Less: Mutual Obligation 3,000 11,000
Total 4,24,000
Note no. Rs.
II Assets
Tangible assets 5
Buildings 1,45,000 + 50,000 + 15 000 2,10,000
Plant 60,000 +25,000 – 9,000 76,000
Goodwill 6,000
Current assets
206
Stock 40,000 + 10,000 6 50,000
Debtors 35,000 + 15,000 – 5,000 45,000
Mutual Obligation
Bill receivable 15,000 + 10,000 – 3,000 22,000
Mutual Obligation
Bank 10,000 + 5,000 15,000
Total 4,24,000
Check Your Progress

1. What do you mean by holding company?
2. Define subsidiary company.
3. What do you mean by consolidated balance sheet?
9.4 Summary
In corporate world, merger and acquisitions is important of large scale production. Holding
company means the company holds more than hall in nominal value of its equity share capital
of other company. Simply holding majority of shares (or) controlling the composition of board
of directors. The preparation of consolidated balance sheet must to work out the time ratio,
207
holding – minority ratio and minority interest because without these does not complete the
balance sheet.
9.5 Key Works

 Time ratio : Period between commencement and share purchasing date
 Holding : Company held more than hold of the equity shares
 Minority interest : Shares of subsidiary company
 Contingent liabilities : Transaction which may become liability in future

1. ’A’ Ltd. acquired 20,000 equity shares of Rs. 10 each in ‘B’ Ltd. as at 31st March 2009 the
summarised balance sheets of the two companies as at 31st March 2009 were as follows:
Liabilities A Ltd B Ltd

Rs. Rs.
Equity share capital (shares of Rs. 10 each) 8,00,000 2,50,000
General reserve 3,00,000 50,000
P&L 1,00,000 2,00,000
Creditors 2,00,000 50,000
14,00,000 5,50,000
Assets
Fixed assets 7,00,000 2,50,000
20,000 Shares in b ltd. at cost 3,00,000 —-
Current assets 4,00,000 3,00,000
14,00,000 5,50,000
‘B’ Ltd. had a credit balance of Rs. 50,000 in general reserve and Rs. 20,000 in P & L A/
c when ’A’ Ltd. acquired shares in ‘B’ Ltd.
‘B’ Ltd. issued bonus shares in the ratio of one for every five shares held out of the profit
earned during 1998-99. This is not shown in the above balance sheet of ‘B’ Ltd.
Prepare a consolidated balance sheet of ’A’ Ltd. and its subsidiary as at 31st March 2009.
[ANS: Revenue Profit (after bonus ) Rs: 1,30,000; Capital Profit: Rs. 70,000: Goodwill:
Rs. 40,000; Minority Interest: Rs. 1,00,000; B/S Total: 16,54,000]
208
2. The following are the summarised balance sheet of Imperial Co. Ltd. and colonial Co. Ltd.
as on 31st December 2012.
Liabilities Imperial Colonial Assets Imperial Colonial

Co. Ltd. Co. Ltd. Co. Ltd. Co. Ltd.
Rs Rs Rs Rs
Paid up capital in shares Freehold premises 4,50,000 1,20,000
of Rs.10 each 10,00,000 3,00,000 Machinery 3,50,000 1,60,000
General reserve 4,00,000 1,25,000 Furniture 80,000 30,000
Profit & loss a/c 3,00,000 1,75,000 Debtors 3,00,000 1,70,000
Sundry creditors 1,00,000 70,000 Stock 3,20,000 1,60,000
Investment in
20,000 shares in
colonial Co. Ltd. at cost —-
Cash balance 2,60,000
40,000 30,000
18,00,000 6,70,000 18,00,000 6,70,000
You are required to prepare consolidated balance sheet as on 31.12.2012 showing in

detail necessary adjustments and talking into consideration the following information.
a) Imperial Co. Ltd. acquired the shares of colonial Co. Ltd. on 1.1.2012 when the balance
on their Profit & Loss A/c and general reserve were Rs. 75,000 and Rs.80,000 respectively.
a) Stock of Rs. 1,60,000 held by colonial co. ltd. consists of Rs. 60,000 goods purchased
from Imperial Co. Ltd., who has charged profit at 25% on cost.
[ Ans: Capital Profit – Rs. 1,55,000; Revenue Profit – Rs. 1,45,000; Minority Interest
– Rs. 2,00,000; Capital Reserve – Rs. 43,333; Balance Sheet Total – Rs.21,98,000;
P & L A/c Rs. 3,84, 667].
3. The sun co. Ltd. acquired 18,000 shares in the Moon Co. Ltd., on 1st Oct. 2016.
The balance sheets of the two companies as on 31st Dec. 2016 were as under.
209
Liabilities Sun Co. Moon Co. Assets Sun Co. Moon Co.
Rs. Rs. Rs. Rs.
Share capital: Sundry Assets 1,00,000 2,70,000
Equity shares Shares in the Moon Co. Ltd.
of Rs. 10 each 2,50,000 2,00,000 2,50,000 —-
General Reserve 50,000 40,000
Profit & Loss A/c 30,000 20,000
Creditors 20,000 10,000
3,50,000 2,70,000 3,50,000 2,70,000
The profit & loss a/c of the Moon Co. Ltd. had a credit balance of Rs. 6,000 on January 1st
2016. The profit of 2016 acquired evenly throughout the year. Prepare the consolidated
balance sheet as on 31st December 2016.
[Ans: Capital Profit – Rs. 56,500; Revenue Profit – Rs. 3,500;

Minority Interest – Rs. 26,000; Goodwill – Rs. 19,150; Balance Sheet Total – Rs.
3,89,150]
4. The following are the balance sheets of the H Ltd. and S Ltd. as on Dec. 31, 2006.

Rs. Rs. Rs. Rs.
Share capital: Fixed assets 1,95,000 70,000
Shares of Rs.10 each 2,00,000 50,000 Investments:
General reserve 50,000 20,000 Shares in S Ltd. Debtors 60,000 —-
P & L A/c Other current assets 35,000 25,000
Balance 1.1.2006 30,000 7,500 60,000 12,500
Profit for the year 2006 50,000 20,000
Creditor 20,000 10,000
3,50,000 1,07,500 3,50,000 1,07,000
(a) H Ltd. purchased on July 1, 2006 4,000 shares in S Ltd. at Rs. 15 each.
(b) Stock in S Ltd. include Rs. 7,500 worth of goods purchased from H Ltd. which company
sells goods at 25% above cost.
(c) Creditors of S Ltd. include Rs. 5,000 due to H Ltd.
[ANS: Capital Prof it – Rs. 37,500; Revenue Profit – Rs. 10,000;

Minority interest – Rs. 19,500; Capital Reserve – Rs. 10,000; Balance Sheet – Rs. 3,91,000;
Provision for Unrealised Profit – RS. 1,500
210
UNIT 10
LIQUIDATION OF A COMPANY
Learning Objectives
 Explain the meaning of liquidation of a company
 Describe various modes of liquidation of a company
 Highlight the order of priority in settling debts
 Discuss liquidator’s final statement preparation
 Prepare of Statement of Affairs and Deficiency Account
Structure
10.1 Meaning
10.2 Modes of Winding Up
10.3 The Format – Liquidator’s Final Statement
10.4 Liquidator’s Remuneration
10.5 Debenture Holders and Preferential Creditors
10.6 Format of Statement of Affairs
10.7 Deficiency Statement
10.8 List B Contributors
10.9 Calls in Arrears and Calls in Advance
10.10 Illustrations
10.11 Summary
10.12 Key Words

211
10.1 Introduction
A company, being an artificial person, is created by law and effected by law. Once the
certificate of incorporation is granted to a company, the only remedy of closing it down is to
liquidate it. Liquidation is a legal procedure by which the corporate life of a company is brought
to an end. Liquidation of a company should be distinguished from the insolvency of a trader or
of a firm. In the case of insolvency, a trader or a firm is entitled to start the business again. They
are not forced to discharge the unpaid balances of the past business out of the earnings of the
fresh business. But in the case of liquidation, a company is closed down for ever. Insolvency of
the company may be only one of the causes of its liquidation. When liquidation takes place,
assets of the company are realised, capital is collected and out of the proceeds claims of
creditors are settled. If any surplus is left, it is returned to the shareholders of the company
according to their rights.
10.2 Modes of Winding Up
The liquidation can take place in any of the following three ways:
1. Compulsory winding up
This is also called winding up by the court. It takes place when
a. The company passes a special resolution, or

b. Defaults in delivering the statutory report to the Registrar or in holding the statutory meeting
or
c. Does not commerce business within a year form its in corporation or suspends business
of a year.
d. Its membership falls below seven or
e. Is unable to pay the debt or
f. It is just and equitable in the court’s opinion that the company should be winding up.
2. Voluntary winding up
This can further be of two types : Member’s voluntary winding up and Creditors voluntary
winding up. Member’s voluntary winding up takes place when a declaration of the company’s
solvency, verified by an affidavit, is made by its directors. But when the declaration of solvency
212
is not made and delivered to the Registrar it is presumed that the company is insolvency and
the winding up is called a Creditors’ voluntary winding up.
1. Winding up subject to the supervision of the court

This kind of winding up takes place when:
a. Winding up takes place shareholders are described as “Contributory”. It includes all present
and all those past share holders who have ceased to be the members within a year
preceding the commencement of the winding up.
b. A contributory is not entitled to claim the set off in respect of any amount due to him for
dividend or any other sum.
c. In the event of winding up, the liquidator must adjust the rights and interests of contributories
in the following way:
(i) Where some class of shares are fully paid up and some are partly up, the liquidator
after having paid creditors, must distribute the surplus, if any, first to those
shareholders who have paid in fully to such an extent that they are brought at par
with those who have paid the amount partly.
(ii) The distribution of surplus among contributories must be in accordance with the
rights provided in the Articles.
(iii) After having returned the capitals, if there still remains some surplus it must go only
to equity share holders unless it has been specifically mentioned that preference
shares are participating shares.
10.3 The Format – Liquidator’s Final Statement of Account

Rs. Rs.
Cash / Bank xxx Legal Charges xxx
Assets Realised xxx Liquidator’s Remuneration xxx
Surplus from secured creditors xxx Liquidation expenses xxx
Realisable value of securities xxx Debenture holders xxx
(-) Due to Creditors- xxx Preferential Creditors xxx
Calls xxx Unsecured Creditors xxx
Preferential Share holders xxx
Equity Share holders xxx
Total xxx Total xxx
213
10.4 Liquidator’s Remuneration

a. Certain % on Amount realised = 2+4
b. Certain % on Assets realised = 2+3
c. Certain % on Net amount realised = 1+2+4
Remuneration may also be paid on the amount paid to Unsecured

Creditors
a. The term Unsecured Creditors includes Preferential Creditors too.
b. If the amount available is sufficient to pay the Unsecured creditors in full.
Commission = Amt. Pd to Unsecured Crs x 2/100
(Assuming 2% Commission)
c. If the amount available is not sufficient to pay the unsecured Crs. in full.
Commission = Amt. available for Unsecured Crs x 2/ 102.
Remuneration may also be paid on the amount paid to share holders
Commission = Amt. Available to Share holders x 2 / 102
Irrespective of whether the amount available is sufficient or not.
10.5 Debenture Holders
Debenture holders will be paid interest upto the date of Liquidation if the unsecured
creditors cannot be paid in full.
Debenture holders will be paid interest upto the date of settlement if the unsecured creditors
can be paid in full.
Preferential Creditors
1. All revenues, taxes, cesses and rates due to Government or local authority within 12
months before winding up.
2. 4 months wages and salaries payable with in 12 months before winding up not exceeding
Rs. 1000 per claimant.
214
3. Any compensation payable to the workmen under the Industrial Disputes Act not exceeding
Rs. 1000 per claimant.
4. All accrued holiday remuneration due.
5. Any amount borrowed for meeting the expense mentioned above b, c and d.
6. All contributions payable by the company within 12 months before winding up to the fund
maintained by the company for the welfare of the employees like EPF, Pension fund etc.
7. Any compensation payable to the worker under the workmen’s compensation Act in respect
of death, disablement etc.
8. Expenses of investment.
While settling the claims, the share holders of similar type should lose or gain equally.
10.6 Format of Statement of Affairs

M/s x Co. As on 31.12.20xx
Assets not specifically pledged (List A)
Book Estimated
Value Realisable
Value
Bank - -
Stock - -
Plant - -
Work in Progress - -
Calls in Arrears - -
Assets specifically pledged (List B)
Assets Estimated Due to Deficiency Surplus

Realisable Secured ranking as carried outer
value Creditors Unsecured column
Crs.
xxx xxx xxx xxx xxx xxx
xxx xxx xxx xxx xxx xxx
Estimated total assets available for Preferential Creditors, Debenture

holders and Unsecured Creditors xxx
215
Summary of gross assets
Gross Realisable Value of assets specifically pledged (LIST B) xxx
Other Assets xxx
Gross Assets xxx
Estimated total assets available for Preferential Creditors,

Debenture holders and Unsecured Creditors xxx
Gross Liabilities
Liabilities
Secured Creditors (LIST B) NIL

(-) Preferential Creditors (LIST C) xxx
Estimated balance assets available for

Debenture holders and Unsecured Creditors xxx
(-) Debenture Holders (LIST D) xxx
Estimated balance assets available for

Unsecured Creditors (Bills Discounted and
Unclaimed dividends)
(-) Unsecured Creditors (LIST E) xxx
Estimated Surplus or Deficiency as to Creditors

(-) Preference Share holders (LIST F) xxx
(-) Equity Share holders (LIST G) xxx
xxx
Deficiency or Surplus as to contributors xxx

216
10.7 Deficiency Statement
Items contributing to deficiency
Excess of Capital and Liabilities over Assets xxx
Dividend and Bonus declared xxx
Net Trading Loss xxx
Other Losses xxx
Losses written off xxx
xxx
Items reducing deficiency
Excess of assets over capital and Liabilities xxx
Net Trading profit xxx
Other Profits xxx
xxx
Deficiency / Surplus
List B contributors
List A Contributors are current share holders
List B Contributors are those who have transferred their shares within one year before
Winding up. For instance, if the winding up date be 31.12.90, those who have
transferred their shares between 31.12.89 and 31.12.90 are LIST B Contributories.
Their liability is limited to
a. Unpaid on the shares held by them (or)
b. Their share of debt contracted by the company when they were share holders
whichever is less.
217
10.9 Calls in Arrear and Calls in Advance
Where there are preference shares and partly paid equity shares, liquidator, if necessary,
has to make a call in order to repay the preference shareholders. One or more shareholders
may fail to pay such calls.
In such cases if the surplus after the payment to preference shareholders is not sufficient
for the return of equity capital in full, such surplus will be first utilised to return the share capital
of those who have paid the call, till the paid up capital equals the amount paid by the defaulting
members. If there is still surplus then it will be distributed equally among all, including the
defaulting share holders.
If some shareholders have paid money without the call being made such calls in advance
will have priority in repayment over the paid up share capital of that class.
10.10 Illustrations
Illustration 1
On January 31st 2010 a compulsory order for winding up was made against D company
Ltd., the following particulars being disclosed:
Book value Estimated

to produce
Rs. Rs.
Cash in hand 100 100
Debtors 4,000 3,600
Buildings 60,000 48,000
Furniture 20,000 20,000
Unsecured creditors 20,000
Debentures:
Secured on buildings 42,000
Secured on floating charge 10,000
Preferential creditors 6,000
Share capital: 32,000 shares of Rs. 10 3,20,000
218
Estimated liability for bills discounted was Rs. 6,000 estimated to rank Rs. 6,000.
Other contingent liabilities were Rs. 12,000 estimated to rank at Rs. 12,000.
The company was formed on the 1st day of January 2005 and the made losses of
Rs. 3,13,900.
Prepare statement of affairs and deficiency account.
Solution
Statement of affairs of a Company
List A Assets not specially pledged: Rs.
Cash in hand 100

Debtors 3,600
Furniture 20,000
23,700
List B Assets specifically pledged
Estimated Due to Deficiency Surplus

realisable secured
value creditors
Rs. Rs.
Land and
buildings 48,000 52,000 4,000 ————- Nill
23,700
List B
Preferential creditors - 6,000
17,700
List D
Debentures
Total Debenture 52,000
Less given by way of secured asset
Land buildings (list B) 48,000 4,000
13,700
219
List E Unsecured Creditors
Unsecured creditors Rs. 20,000
Bill discount Rs. 6,000
Contingent liability Rs. 12,000

(-) 38,000
Estimate deficiency of creditor (-) 24,300
List F preference share capital Nil
List G equity share capital 3,20,000
List H Total deficiency 3,44,300
Illustration 2
The following particulars relate to a limited company which has gone into voluntary
liquidation. You are required to prepare the liquidator’s final account allowing for his remuneration
@ 3% on the amount realised and 2 ½ % on the amount paid to the unsecured creditors.
Share capital issued:
5,000 preference shares of Rs. 100 each (fully paid)
30,000 equity shares of Rs. 10 each fully paid.
12,000 equity shares of Rs. 10 each, Rs. 8 paid up.
Assets realised Rs. 9,24,000 excluding amount realised by sale of securities held by the
secured creditors.
Rs.
Unsecured creditors 8,51,094
secured creditors (security realised Rs. 1,62,000) 1,38,000
Debentures having a floating charge on the assets 3,00,000
Expenses of liquidation amounted to Rs. 9,000
A call of Rs.2 per share on the partly paid equity shares was duly paid except in case of
one shareholder owing 1,200 shares.
220
Solution
Receipts Rs. Payments Rs.
To surplus from secured creditors By Liquidator’s remuneration
(Rs. 1,62,000 – Rs. 1,38,000) 24,000 3% on Rs. 9,48,000 : 28,440
To Assets realised 9,24,000 Add: 2 ½ % on Rs. 24,000: 600
To Receipt of call money on 10,800
equity shares @ Rs. 2 per share Add: 2 ½ % on Rs. 5,92,741: 14,819 43,859
21,600
By liquidation expenses 9,000
By Debenture holders 3,00,000
By Preferential creditors 24,000
By Unsecured creditors (bal.fig) 5,92,741
9,69,600 9,69,600
Working note
Calculation of cash available for unsecured creditors 9,69,600 - 3,62,040 = 6,07,560
9,69,600 – 3,62,040 (28,440 + 600+ 9,000 + 3,00,000 + 24,000)
Liquidator’s commission = 6,07,560 x 2.5/102.5 = Rs. 14,819
Illustration 3
The following is the summarised Balance Sheet of Har Preet Ltd. as at 31.12.1998

Share capital: Land & Buildings 2,60,000
3,000 6% cumulative preference Plant & Machinery 1,75,000
shares of Rs. 100 each, fully paid 3,00,000 Stock 37,250
1,000 equity shares of Rs. 100 Debtors 15,000
each, fully paid 1,00,000 Cash in hand 250
1,000 equity shares of Rs. 100 Profit & Loss A/c 37,500
each, Rs. 50 paid up 50,000
Bank loan (secured on stock &
debtors) 25,000
Current liabilities 50,000
Pref. Dividend arrears Rs. 36,000
5,25,000 5,25,000
221
Under the Articles of Association of the company, the preference shares are preferential
as to dividend (whether declared or not) and capital.
The company went into voluntary liquidation and sold the fixed assets, stock and debtors
for a sum of Rs. 3,75,000 payable in cash. The expenses of liquidation were Rs. 250. A call of
Rs. 50 per share is made by the liquidator on 1,000 equity shares which are partly paid up. The
money called is fully paid up.
You are required to prepare the liquidator’s final statement of account.
Solution
Liquidator’s Final Statement of Account
To Assets realised: 3,50,000 By Liquidation expenses 250

(3,75,000 – 25,000) By Unsecured creditors 50,000
To Cash in hand 250 By Preference shareholders
To Receipt of unpaid calls (dividends in arrears) 36,000

(on 1,000 equity shares 50,000 By Preference shareholders
@ Rs. 50 per share) return of capital) 3,00,000
By Equity shareholders 14,000

(return of capital on 2,000 equity
shares @ Rs. 7 per share)
4,00,250 4,00,250
Illustration 4
The capital of Tamilnadu company Ltd. which went into liquidation was as follows:
(i) 4,000 equity shares of Rs. 100 each, fully paid,
(ii) 3,000 equity shares of Rs. 100 each, Rs. 80 per share paid up.
(iii) 1,000 preference shares of Rs. 100 each fully paid (these have preference in the repayment
of capital)
(iv) 1,000 deferred shares of Rs. 100, Rs. 80 per share paid up (these to be repaid only after
satisfying the claims of equity shareholders).
222
The various creditors amounted in all to Rs. 1,00,000 including the liquidator’s
remuneration of Rs. 2,500. The liquidator made a call of the remaining Rs. 20 per share on the
deferred shares which was paid in full.
He also realised all the assets amounting to Rs. 1,91,000. A call of Rs. 15 per share was
made on the equity shares which were partly paid up. this was paid in full, with the exception
of that on 100 shares which shares forfeit the right of refund of capital. Prepare the liquidator’s
account showing the return to the shareholders.
Solution
Tamilnadu Company Ltd.

Liquidators final statement of account
To Assets realised 1,91,000 By Liquidator’s remuneration 2,500
To Call on 1,000 deferred By Creditors 97,500

shares @ Rs. 20 per share 20,000 By preference shareholders 1,00,000
To Call money received on 2,900

equity shares @ Rs. 15 per share By Equity shareholders:
46,500 On 4,000 shares @ Rs. 10

Per share : 40,000
On 2,900 shares @ Rs. 5
per share: (Rs. 95 paid up) 14,500 54,500
2,54,500 2,54,500
Note : After the payments are made, both categories of equity shareholders suffer loss
of Rs. 90 per share.
Check Your Progress

1. What do you mean by liquidation?
223
2. List the various modes of winding up of company.
3. Write a note on calls in advance.
10.11 Summary
Liquidation of company mean the existing company realised his assets and settled the
creditors of the company. Liquidation is a legal procedure by which the corporate life of a
company is brought to and end. The liquidation can take place in any of the following, compulsory
members and creditors and winding up subject to the supervision of the court. Liquidators
collect the realised amount and first settled to secured creditors secondly unsecured creditors,
finally settled to shareholders of the company. Accounting treatment of liquidator statement
include calculation of liquidators remuneration and deficiency account.
10.12 Key Words

 Liquidation : Is a process by which a company is dissolved
 Creditor : one to whom a list is owing
 Debtor : one who over

1. The following particulars related to a company which went into voluntary liquidation.
Prepare Liquidations Final Statement of Account. At that time allow 2% remuneration to

liquidator on the amount realised and 3% on the amount distributed to unsecured creditors.
224
Rs.
Debentures 1,90,000
Assets realised as follows:
Cash in hand 21,500
Land & Buildings 1,30,000
Plant & Machinery 1,80,000
Furniture 20,000
[Answer: Amount paid to unsecured creditors : Rs. 1,29,971

Liquidators Total Commission : Rs. 11,529 (7,030 + 600 + 3,899)]
Hint: Commission is allowed on Cash in hand also because it is specifically given as an

‘Assets Realised’.
2. ‘K’ Ltd. went into liquidation with the following liabilities:
(a) Secured creditors Rs. 20,000

(secured realised Rs. 25,000)
(b) Preferential creditors Rs. 600
(c) Unsecured creditors Rs. 30,500
Liquidation expenses are Rs. 252. Liquidator is entitled to a remuneration of 3% on the

amounts realised (including securities with creditors) and 1 ½ % % on the amount
distributed to unsecured creditors. The various assets realised Rs. 26,000 (excluding
securities in the hands of secured creditors).
Prepare the liquidator’s final statement of account.
[Answer : Payment to unsecured creditors – Rs. 28,186;
Total liquidator’s remuneration – Rs. 1,962]
Hint : Remuneration on unsecured creditors has been calculated at 1.5/101.5 of Rs.28,609.

225
3. The following particulars relate to a limited liability company which has gone into voluntary
liquidation. You are required to prepare the liquidator’s final account, allowing for hi
remuneration @ 2% on the amount realised and 2% on the amount distributed among
unsecured creditors other than preferential creditors:
Rs.
Debenture 10,000
The assets realised the following sums:
Land & Buildings 20,000
Plant & Machinery 18,650
Fixtures & fittings 1,000
The liquidation expenses amount to Rs. 1,000.
[Answer : Liquidator’s remuneration – Rs. 1,143;
Amount paid to unsecured creditors – Rs. 17,507]
4. Sun Ltd. went into liquidation on 31.3.92 when the following Balance Sheet was prepared:
Share capital: Land 2,00,000

20,000 equity shares of Rs. 50
each fully paid 10,00,000 Buildings 8,00,000
10,000 preference shares of
Rs. 100 each fully paid 10,00,000 Plant 10,00,000
Mortgage debentures Stocks 5,00,000

(secured against land &
Buildings) 5,00,000 Debtors 3,00,000
Bank loan against stocks 2,00,000 Cash 1,00,000
Creditors 3,00,000 Preliminary expenses 1,00,000
30,00,000 30,00,000
226
Additional information
(i) The liquidator is to be remunerated @ 1% on net amounts realised.
(ii) The assets realised 10% over book values in case of Land & Buildings, 5%
below book value in case of plant and 5% over book value in case of stocks and
the debtors fetched book value.
(iii) Preferential creditors of Rs. 50,000 are included in creditors.
(iv) Preferential dividend was not paid for the year 1991 – 92 amounting to Rs. 1,00,000.
Prepare liquidator’s final statement of account.
[Answer : Liquidator’s remuneration – Rs. 22,750;
Amount paid on equity shares – Rs. 9,52,250]
Hint : (i) Arrears of preference dividend are payable only when equity capital can be fully
Repaid
(ii) For the purpose of commission on net amount realised, cash is also included.
5. The position of A Ltd. in Liquidation is as follows :
1,000 6% preference share of Rs. 100 each fully paid
1,000 Equity shares Rs. 50 each fully paid
1,000 Equity shares of Rs. 40 each, Rs. 30 called up on which calls in arrears are
Rs. 4,000.
Calls in advance Rs. 6,000
Preference share dividend in arrear for one year. Cash left after making payments to
creditors but before making any Call : 1,17,000.
You are required to prepare the liquidator’s Final Statement of account.
[Answer : Calls in arrears collected; Calls in advance paid off fully:
Preference shares capital repaid. Dividend arrears are not payable since it is not
declared. Repayment to Equity shareholders : Fully paid shareholders receive :
Rs. 13,889;
Partly paid shareholders : Rs. 1,111]
Hint : Pref. Dividend is assumed to be not yet declared and thus not payable on Liquidation
in preference.
227
MODEL QUESTION PAPER
B.COM
Time: 3 Hrs. Maximum: 75 marks
Section - A (10 x 2 = 20 marks)

Answer any TEN question
All questions carry equal marks
1. What is Human Resource Accounting?
2. What is accounting standard and why are they needed?
3. What are the objectives of financial reporting?
4. What is inflation accounting?
5. What so you mean by insurance company?
6. Write a short note on statutory reserve
7. What do you mean by liquidation?
8. What do you mean by Amalgamation?
9. What is purchase consideration?
10. What do you mean by Revenue Profit?
11. What is Reserve fund?
12. What is Annuity?

228
Section - B (5 x 5 = 25 marks)
Answer any FIVE question
13. What are the objectives of Human Resource Accounting?
14. The Net liability in respect of life policies, annuity contract of Real Life Insurance Co Ltd
on 31 Dec. 2004 was Rs. 1,08,60,000 ; its life fund on that date was Rs. 1,22,50,000.
During the valuation period it had paid interim bonuses amounting to Rs. 60,000. The
dividend for 2004 amounting to Rs. 40,000 was still unpaid. Ascertain the share of profit
that the policy holders can get as a result of the valuation.
15. Prepare in the proper statutory from the Revenue account of the Lotus Insurance
Company Ltd. for the year ended 31st March 2006 from the following figures:
Rs. Rs.
Claims by death 76,140 Expenses of management 31,920
Claims by maturity 30,110 Commission 9,574
Premiums: Interest, dividends & rents 97,840
First premiums 2,50,000 Income tax on interests, dividends etc.
Renewal premiums 3,55,690 Surrenders 35,710
Single premiums 1,00,000 Bonus in reduction of premium 13,140
Transfer fees 129 Dividend paid to shareholders 980
Consideration for annuities Amount of life insurance fund

at the beginning of the year 5,500
granted less re assurance 82,127
Annuities paid 53,461 15,21,000
16. The following accounts are extracted from the Trial Balance of Hindu Bank Ltd., as on
31.12.2010. You are required to show the rebate on bills discounted A/c and interest
and discount A/c. How will these items appear in the Bank’s Balance Sheet?
229
Dr. Cr.
Rs. Rs.
Interest and discount - 96,62,400
Rebate on bills discounted - 10,840
Bills discounted and purchased 3,72,700 -
It is ascertained that proportionate discount not yet earned on the balance of bills
discounted, which will mature in 2011 amounts to Rs. 15,460.
17. From the following particulars, prepare the profit and loss Account of Chennai Bank Ltd.,
for the year ending 31st March 2012.
(Rs. in ’000)
Interest on deposits 3,200
Commission (Cr.) 100
Interest on loans 2,490
Sundry charges (Dr.) 100
Rent and taxes 200
Establishment 500
Discount on bills discounted 1,490
Interest on overdrafts 1,600
Interest on cash creditors 2,320
Auditor’s fees 35
Director’s fees 16
Bad debts to be written off 300
18. The following particulars related to a company which went into voluntary liquidation.
Prepare Liquidations Final Statement of Account. At that time allow 2% remuneration to

liquidator on the amount realised and 3% on the amount distributed to unsecured creditors.
230
Rs.
Debentures 1,90,000
Assets realised as follows:
Cash in hand 21,500
Land & Buildings 1,30,000
Plant & Machinery 1,80,000
Furniture 20,000
19. The business of Meenakshi Traders Limited is purchased by Kamakshi Traders Limited.
The purchase of consideration is discharged as follows:
i. A payment of cash at Rs.20 for every share in the Meenakshi Traders Ltd.
ii. A further payment in cash of Rs.55 each for every debenture in the Meenakshi
Traders Limited.
iii. An exchange of 3 shares in Kamakshi Traders Ltd. of Rs. 10 each (quoted in the
market at Rs.20) for every share in the Meenakshi Traders Ltd. stood as follows at
the date of purchase.
Balance sheet of Meenakshi Traders Ltd.
Share capital 40,000 Building 15,000
120 8% Debenture of Rs.50 each 6,000 Machinery 20,000
Capital Redemption Reserve A/c 4,000 Furniture 1,000
Profit & loss A/c 1,000 Debtors 9,000
Cash 200
55,200 55,200
Give journal entries in the books of both the companies.

231
Section - C (3 x 10 = 30 marks)
Answer any THREE question
20. What are the various methods of Human resource accounting?
21. On January 31st 2010 a compulsory order for winding up was made against D company
Ltd., the following particulars being disclosed:
Book value Estimated

to produce
Rs. Rs.
Cash in hand 100 100
Debtors 4,000 3,600
Buildings 60,000 48,000
Furniture 20,000 20,000
Debentures:
Secured on buildings 42,000
Secured on floating charge 10,000
Share capital: 32,000 shares of Rs. 10 3,20,000
Estimated liability for bills discounted was Rs. 6,000 estimated to rank Rs. 6,000.
Other contingent liabilities were Rs. 12,000 estimated to rank at Rs. 12,000.
The company was formed on the 1st day of January 2005 and the made losses of
Rs. 3,13,900.
Prepare statement of affairs and deficiency account.
22. The following Ledger balances of Bank of Hindustan Ltd., as on 31.12.1994 are furnished
to you. Prepare Profit and Loss Account and Balances Sheet as per requirement of law.
232
(Rs. in Thousand)
Reserve fund 1,200
Bad debts written off 128
General expenses 182
Current accounts 20,245
Interest paid 160
Deposit accounts 6,920
Profit and Loss Account b/d 229
Bills receivable for customers 1,500
Discounts 244
Endorsements and guarantees 575
Commission 45
Cash 225
Interest earned 550
Balance with RBI 2,030
Endorsements and guarantees (constituent liabilities) 575
Balance with foreign correspondents 1,206
Bills for collection 1,500
Borrowings from banks 6,482
Cash credit and overdrafts 15,457
Investment 9,882
Premises 2,217
Share capital 2,000
The following information is furnished.
(a) Rebate on bills discounted to be provided Rs. 64,000
(b) The bank has paid an interim dividend of Rs. 2,00,000 during the year.
233
23. From the following details, prepare the revenue account. Profit and balance sheet of
Royal Insurance Co. Ltd carrying on marine insurance business, for the 15 months ended
31.3.2016.
(Rs. ‘000) (Rs. ‘000)
Agents balance (Dr) 1,46,400 Share capital 15,00,000
Interest accrued but not due 8,200 Balance of marine fund (1.4.2015) 7,60,000
Furniture (cost Rs. 12,600) 8,400 Unclaimed dividends 2,400
Stock of stationery 2,500 Profit and loss A/c 2,40,000
Expenses of management 2,20,000 Sundry creditors 12,600
Foreign taxes and insurance 12,300 Due to insurers 60,000
Outstanding premium 21,200 Premium less reinsurance 12,40,000
Donation paid 8,600 Interest and dividends 2,40,000
Advance income tax payments 62,000 Transfer fees received 600
Debenture of public bodies 1,80,000
Claims less re-insurance 10,60,000
Cash and bank balances 94,400
Outstanding claims on 31.3. 2016 were Rs. 1,40,000 Thousands. Deprecation on furniture
to be provided at 20% bet annum.
234
24. The following is the balance sheet of XYZ Ltd. on 31st Dec 2016
20000 shares of Rs.10 each 2,00,000 Land & Building 1,00,000
Debenture 1,00,000 Machinery 1,50,000
Sundry creditors 30,000 Work in Progress Stock 30,000
Reserve fund 25,000 Furniture 60,000
Dividend equalisation fund 20,000 Debtors 2,500
Profit & Loss appropriation A/c 5,100 Cash at bank 25,000
Cash in hand 12,500
100
3,80,100 3,80,100
The company is absorbed by ABC Company Ltd; on the above date. The consideration
for the absorption is the discharge of debentures at a premium of 5% taking over the
liability in respect of the sundry creditors and payment of Rs.7 in cash and one share of
Rs.5 in ABC co Ltd. at the market value of Rs.8 per share in exchange for one share in
XYZ Co. Ltd.
The cost of liquidation of Rs.5, 000 is to be met by the purchasing company.
Pass journal entries in the books purchasing company and ledger accounts in the books
of selling company. Show how the purchase price is arrived at.

SUCM206

Uploaded by

Copyright:

Available Formats

You might also like

SUCM206

Uploaded by

Document Information

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

SUCM206

Uploaded by

Copyright:

Available Formats

SUCM 206 / SUCR 204 /

SUBT 206 / SUCC 206

CORE PAPER - VIII

INSTITUTE OF DISTANCE EDUCATION

It is with a great pleasure to welcome you as a student of Institute of Distance Education,

With best wishes from mind and heart,

Dr. P. Hemavathy Dr. R. Panchalan

© UNIVERSITY OF MADRAS, CHENNAI 600 005.

Core Paper - VIII

Human Resource Accounting – Accounting Standards - Financial Reporting practice –

Accounting for price level changes – (Theory Only)

Final Accounts of insurance companies including balance sheet

Final accounts of banking companies including balance sheet

Amalgamation – Absorption and external reconstruction of a company – (intercompany

investments excluded) Concept of Hostile Takeover (Theory only)

Liquidation – Calculation of Liquidator’s Remuneration - Liquidator’s final statement of

1. R.L.Gupta – Corporate Accounting

2. T.S.Reddy & A.Murthy – Corporate Accounting

3. Shukla & Grewal – Advanced Accounting

4. Jain & Narang – Company Accounts

5. Chakraborthy – Advanced Accountancy

Core Paper - VIII

Sl.No. Title Page

1. Human Resource Accounting 001

2. Accounting Standards 018

3. Financial Reporting Practices 031

4. Financial Disclosures Practices 044

5. Inflation Accounting 057

6. Insurance Company Accounts 089

7. Banking Company Accounts 143

8. Amalgamation and Absorptions 167

9. Holding Company and Subsidiary Company 190

10. Liquidation of a Company 210

HUMAN RESOURCE ACCOUNTING

• Explain the meaning and nature of human resource accounting (HRA)

• Explain the functions of HRA

• Describe the methods HRA

• Explain the significance of HRA

• Highlight the applications and problems of HRA

1.2 Definitions and Objectives of Human Resource Accounting

1.1 Functions of Human Resource Accounting

1.4 Need and Importance of HRA

1.5 Methods of Human Resource Accounting

1.6 Applications of the Human Resource Accounting

1.7 Problems in Implementation of Human Resource Accounting

1.9 Key Words

1.10 Review Questions

1.2 Definitions and Objectives of Human Resource Accounting

Human resource accounting is an attempt to identify and report investments made in

“Human resources accounting is an attempt to identify and report investments made

Thus HRA includes the following:

• Measurement of costs incurred on personnel like costs on recruitment, selection, training,

• Collection and documentation of vital information about human resources like

• Communication of the above information in appropriate form to those who might be

Objectives of the HRA

HRA is basically adopted to treat human resources as assets, to generate human

2. To allow management personnel to monitor effectively the use of human resources.

4. To aid in the development of management principles by classifying the financial

1.3 Functions of Human Resource Accounting