CAIIB-FM-Module D topics

Marginal Costing
Capital Budgeting
Cash Budget
Working Capital
COSTING
Cost accounting system provides relevent
information about cost
Aim : best use of resources and maximization
of returns
cost = amount of expenditure incurred(
actual+ notional)
Purposes: know about profit from each
job/product/division/segment. Pricing decision
+control +profit planning +inter firm
comparison

Marginal costing
Marginal costing distinguishes between
fixed cost and variable cost
Marginal cost is nothing but variable cost
of additional unit
Marginal cost= variable cost
MC= Direct Material + Direct Labour
+Direct expenses
Marginal costing problems
Sales (-) variable cost (=)
contribution
Contribution(/ divided by) sales
(=) C.S. Ratio
Contribution and Fixed costs
determine the Break even point
Fixed Cost (/ divided by)
contribution per unit = break even units
Basic formula
Sales price (-) variable cost= contribution
SP less VC =
Contribution
10 6 = 4
9 6 = 3
8 6 = 2
7 6 = 1
6 6 = 0
5 6 = (1)
4 6 = (2)
Marginal costing problems
SP = Rs.10, VC =Rs.6 Fixed Cost
Rs.60000
Find
- Break even point (in Rs. & in units)
- C/S ratio
- Sales to get profit of Rs.20000

Marginal costing problems
Sales Rs.100000
Fixed Cost Rs.20000
B.E.Point Rs.80000
What is the profit ?
Management decisions- assessing profitability
CONTRIBUTION/SALES=C.S.RATIO
Product sp vc
Contribtion
c/s Ratio % ranking
A 20 10 10 10/20 50% 1
B 30 20 10 10/30
33%
2
C 40 30 10 10/40 25% 3
DECISION when limiting factors
SP Rs.14 Rs.11
VC 8 7
Contribution
Per unit
6 4
Labour hr. pu 2 1
Contri.per hr 3 4
Other managerial DECISIONS

Make or buy decisions
Close department
Accept or reject order

Marginal costing
cost-volume-profit analysis is reliant upon a
classification of costs in which fixed and variable
costs are separated from one another. Fixed
costs are those which are generally time related
and are not influenced by the level of activity.
Variable costs , on the other hand, are directly
related to the level of activity; if activity
increases, variable costs will increase and
vice-versa .
Marginal costing
USES OF COST-VOLUME-PROFIT ANALYSIS
The ability to analyse and use cost-volume-profit
relationship is an important management tool. The
knowledge of patterns of cost behaviour offers insights
valuable in planning and controlling short and long-run
operations. The example of increasing capacity is a good
illustrations of the power of the technique in planning.
The implications of changes in the level of activity can be
measured by flexing a budget using knowledge of cost
behaviour, thereby permitting comparison to be made of
actual and budgeted performance for any level of
activity.
Marginal costing
LIMITATIONS OF COST-VOLUME-PROFIT
ANALYSIS
A major limitation of conventional CVP analysis that we
have already identified is the assumption and use of
linear relationships. Yet another limitation relates to the
difficulty of dividing fixed costs among many products
and/or services. Whilst variable costs can usually be
identified with production services, most fixed cost
usually can only be divided by allocation and
apportionment methods reliant upon a good deal of
judgement. However, perhaps the major limitation of the
technique relates to the initial separation of fixed and
variable costs.
Marginal costing
ADVANTAGES AND DISADVANTAGES OF
MARGINAL COSTING
ADVANTAGES
1. More efficient pricing decisions can be made, since
their impact on the contribution margin can be
measured.
2. Marginal costing can be adapted to all costing
system.
3. Profit varies in accordance with sales, and is not
distorted by changes in stock level.
4. It eliminates the confusion and misunderstanding
that may occur by the presence of
over-or-under-absorbed overhead costs in the profit and
loss account.
Marginal costing
5. The reports based on direct costing are far more
effective for management control than those based on
absorption costing. First of all, the reports are more
directly related to the profit objective or budget for the
period. Deviations from standards are more readily
apparent and can be corrected more quickly. The
variable cost of sales changes in direct proportion with
volume. The distorting effect of production on profit is
avoided, especially in month following high production
when substantial amount of fixed costs are carried in
inventory over to next month. A substantial increase in
sales in the month after high production under
absorption costing will have a significant negative impact
on the net operating profit as inventories are liquidated.

Marginal costing
6. Marginal costing can help to pinpoint
responsibility according to organisational lines:
individual performance can be evaluated on
reliable and appropriate data based on current
period activity. Operating reports can be
prepared for all segments of the company, with
costs separated into fixed and variable and the
nature of any variance clearly shown. The
responsibility for costs and variances can then
be more readily attributed to specific individuals
and functions, from top management to down
management
Marginal costing
DISADVANTAGES OF MARGINAL COSTING
1. Difficulty may be experienced in trying to segregate
the fixed and variable elements of overhead costs for the
purpose of marginal costing.
2. The misuse of marginal costing approaches to
pricing decisions may result in setting selling prices that
do not allow the full recovery of overhead costs.
3. Since production cannot be achieved without
incurring fixed costs, such costs are related to
production, and total absorprtion costing attempts to
make an allowance for this relationship. This avoids the
danger inherent in marginal costing of creating the
illusion that fixed costs have nothing to do with
production.
CAPITAL BUDGETING
It involves current outlay of funds in the
expectation of a stream of benefits
extending far into the future
Year Cash flow
0 (100000)
1 30000
2 40000
3 50000
4 50000
CAPITAL BUDGETING
A capital budgeting decision is one that involves the
allocation of funds to projects that will have a life of
atleast one year and usually much longer.
Examples would include the development of a major
new product, a plant site location, or an equipment
replacement decision.
Capital budgeting decision must be approached with
great care because of the following reasons:
1. Long time period: consequences of capital expenditure
extends into the future and will have to be endured for a
longer period whether the decision is good or bad.

CAPITAL BUDGETING
2. . Substantial expenditure: it involves large
sums of money and necessitates a careful
planning and evaluation.
3. Irreversibility: the decisions are quite often
irreversible, because there is little or no second
hand market for may types of capital goods.
4. Over and under capacity: an erroneous
forecast of asset requirements can result in
serious consequences. First the equipment
must be modern and secondly it has to be of
adequate capacity

CAPITAL BUDGETING
Difficulties
There are three basic reasons why capital expenditure
decisions pose difficulties for the decision maker. These
are:
1. Uncertainty: the future business success is todays
investment decision. The future in the real world is never
known with certainty.
2. Difficult to measure in quantitative terms: Even if
benefits are certain, some might be difficult to measure
in quantitative terms.
3. Time Element: the problem of phasing properly the
availability of capital assets in order to have them come
on stream at the correct time.


CAPITAL BUDGETING
Methods of classifying investments
Independent
Dependent
Mutually exclusive
Economically independent and statistically
dependent
Investment may fall into two basic categories,
profit-maintaining and profit-adding when
viewed from the perspective of a business, or
service maintaining and service-adding when
viewed from the perspective of a government or
agency.

CAPITAL BUDGETING
Expansion and new product investment
1. Expansion of current production to meet
increased demand
2. Expansion of production into fields closely
related to current operation horizontal
integration and vertical integration.
3. Expansion of production into new fields not
associated with the current operations.
4. Research and development of new products.

CAPITAL BUDGETING
Reasons for using cash flows
Economic value of a proposed investment can be
ascertained by use of cash flows.
Use of cash flows avoids accounting ambiguities
Cash flows approach takes into account the time value
of money
For any investment project generating either expanded
revenues or cost savings for the firm, the appropriate
cash flows used in evaluating the project must be
incremental cash flow.
The computation of incremental cash flow should follow
the with and without principle rather than the before
and after principle

Types of capital investments
New unit
Expansion
Diversification
Replacement
Research & Development
Significance of capital budgeting
Huge outlay
Long term effects
Irreversibility
Problems in measuring future cash flows
Facets of project analysis
Market analysis
Technical analysis
Financial analysis
Economic analysis
Managerial analysis
Ecological analysis
Financial analysis
Cost of project
Means of finance
Cost of capital
Projected profitability
Cash flows of the projects
Project appraisal
Decision process








PLANNING PHASE
EVALUATION PHASE
SELECTION PHASE
IMPLEMENTATION PHASE
CONTROL PHASE
AUDITING PHASE
INVESTMENT OPPORTUNITIES
PROPOSALS
ONLINE PROJECTS
PROJECTS
ACCEPTED PROJECTS
PROJECT TERMINATION
PROPOSALS
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Methods of capital investment
appraisal
DISCOUNTING NON-DISCOUNTING
Net present value (NPV) Pay back period
Internal rate of return
(IRR)
Accounting rate of
return
Profitability Index or
Benefit cost ratio
Present value of cash flow stream-
(cash outlay Rs.15000)@ 12%
Year Cash flow
PV factor
@12%
PV
1 1000 0.893 893
2 2000 0.799 1594
3 2000 0.712 1424
4 3000 0.636 1908
5 3000 0.567 1701
6 4000 0.507 2028
7 4000 0.452 1808
8 5000 0.404 2020
13376
Present value of cash flow stream-
(cash outlay Rs.15000 )@10%
Year Cash flow
PV factor
@10%
PV
1 2000 0.909 1818
2 2000 0.826 1652
3 2000 0.751 1502
4 3000 0.683 2049
5 3000 0.621 1863
6 4000 0.564 2256
7 4000 0.513 2052
8 5000 0.466 2330
15522
Methods of capital investment
appraisal
Solution IRR NPV
Project A 20% 309
Project B 15% 1441
These project are mutually exclusive
The IRR ranks project A higher, whereas the NPV ranks
project B first.
The conflict arises because B is ten times the size of A.
This gives a higher NPV but in relative terms it is less
profitable with a lower percentage return. Naturally, B is
preferable because it gives the greatest increase in
shareholders wealth.
Methods of capital investment
appraisal
The advantages of IRR over NPV are:
1. It gives a percentage return which is easy to
understanding at all levels of management.
2. The discount rate/required rate of return
does not have to be known to calculate IRR. It
does have to be decided upon at sometime
because IRR must be compared with something.
The discussion as to what is an acceptable rate
of return can however be left until much later
stage. In a NPV calculation the discount rate
must be specified prior to any calculation being
performed.
Methods of capital investment
appraisal
The advantages of NPV over IRR are:
1. NPV gives an absolute measure of profitability and hence
immediately shows the increase in shareholders wealth due to an
investment decision.
2. NPV gives a clear answer in an accept/reject decision. IRR
gives multiple answers.
3. NPV always gives the correct ranking for mutually exclusive
project while IRR may not.
4. NPVs of projects are additive while IRRs are not.
5. Any changes in discount rates over the life of a project can
more easily be incorporated into the NPV calculation.
The NPV approach provides as absolute measure that fully
represents in value of the company if a particular project is
undertaken. The IRR by contrast, provides a percentage figure from
which the size of the benefits in terms of wealth creation cannot
always be grasped.
The timing of the cash flows is critical for
determining the Project's value.
below the line for cash investments or
above the line for returns.
Rs.51 Lakh Rs.51 Lakh Rs.61 Lakh
Year 1 Year 2 Year 3
Rs.102 lakh
Year 0
Net Present Value
Year Cash Flow Dis. Factor Present
@10% Value
0 -102 1 -102
1 51 0.91 46.36
2 51 0.83 42.15
3 61 0.75 45.83
NPV 32.34
@27% Value
0 -102 1 -102
1 51 0.78740 40
2 51 0.62000 32
3 61 0.48818 30
NPV 0
The evaluation of any project
depends on the magnitude of the
cash flows, the timing and the
discount rate.
The discount rate is highly
subjective. The higher the rate , the
less a rupee in the future would be
worth today.
The risk of the project should
determine the discount rate.
Internal Rate of Return
(IRR)
IRR is the rate at which
the discounted cash flows
in the future equal the
value of the investment
today. To find the IRR one
must try different rates
until the NPV equals zero.
BUDGET
Quantitative expression of
management objective
Budgets and standards
Budgetary control
Cash budget

PROFIT PLANNING
Budget & budgetary control
Marginal costing
CVP and break even point
Comparative cost analysis
ROCE

PRICING DECISIONS
Full cost pricing
Conversion cost pricing
Marginal cost pricing
Market based pricing

PRICING DECISIONS
PRICING AND ITS OBJECTIVES
The objective of pricing in practice will probably
be one of the following:
(a) To skim the market (in the case of new
products) by the use of high prices;
(b) To penetrate deeply into the market (again
with new products) at an early stage, before
competition produces similar goods;
(c) To earn a particular rate of return on the
funds invested via the generating of revenue; and
(d) To make a profit on the product range as a
whole, which may involve using certain items in
the range as loss leaders, and so forth.

PRICING DECISIONS
Full cost pricing
The object is to recover all costs incurred
plus a percentage of profit. It is a method
best used where the product is clearly
differentiated and not in immediate, direct
competition. It would not lend itself to
situation where price tended to be
determined by the market,
PRICING DECISIONS
Conversion cost pricing
Conversion cost consists of direct labour
cost and factory overhead, ignoring the
cost of the raw material on the grounds
that profit should be made within the
factory and not upon materials bought
from suppliers.
PRICING DECISIONS
Marginal cost pricing
Briefly it is that cost which would not be incurred if the
production of the product were discontinued. An
important advantage of differential cost of pricing is the
flexibility it gives to meet special short-term
circumstances, while accepting that full costs must be
recovered in the long term. This is by no means always
desirable in the short term. For example, there may be
surplus productive capacity in a factory, in which case
any opportunity to accept an order which covers
differential cost and makes a contribution to fixed cost
and profit should be accepted. Any contribution is better
than none.

PRICING DECISIONS
Market based pricing

This can be based on the value to a customer of
goods or services and involves variable pricing.
It also takes account of the price he is able and
willing to pay for the goods or services.
Businesses using this approach develop special
products or services which command premium
prices.
The other market-based approach is to price on
the basis of what competitors are charging.
Operating leverage
Financial leverage
OL= amount of fixed cost in a cost
structure. Relationship between sales and
op. profit
FL= effect of financing decisions on return
to owners. Relationship between operating
profit and earning available to equity
holders (owners)
Working capital
Current assets less current liabilities = net
working capital or net current assets
Permanent working capital vs. variable
working capital


Working capital cycle
cash> Raw material > Work in progress >
finished goods > Sales > Debtors >
Cash>
Operating cycle it is a length of time
between outlay on RM /wages /others
AND inflow of cash from the sale of the
goods
Matching approach to asset financing

Fixed Assets
Permanent Current Assets
Total Assets
Fluctuating Current Assets
Time
$
Short-term
Debt
Long-term
Debt +
Equity
Capital
THE WORKING CAPITAL
CYCLE
(OPERATING CYCLE)
Accounts Payable
Cash
Raw
Materials
W I P
Finished
Goods
Value Addition
Accounts
Receivable
SALES
Operating cycle concept
A companys operating cycle typically consists of
three primary activities:
Purchasing resources,
Producing the product and
Distributing (selling) the product.
These activities create funds flows that are both
unsynchronized and uncertain.
Unsynchronized because cash disbursements (for
example, payments for resource purchases) usually take
place before cash receipts (for example collection of
receivables).
They are uncertain because future sales and costs, which
generate the respective receipts and disbursements,
cannot be forecasted with complete accuracy.


Working capital cycle Working capital cycle
Working capital
FACTORS DETERMINING WORKING CAPITAL

1. Nature of the Industry
2. Demand of Industry
3. Cash requirements
4. Nature of the Business
5. Manufacturing time
6. Volume of Sales
7. Terms of Purchase and Sales
8. Inventory Turnover
9. Business Turnover
10. Business Cycle
11. Current Assets requirements
12. Production Cycle

Working capital
Working Capital Determinants (Contd)

13. Credit control
14. Inflation or Price level changes
15. Profit planning and control
16. Repayment ability
17. Cash reserves
18. Operation efficiency
19. Change in Technology
20. Firms finance and dividend policy
21. Attitude towards Risk


TYPES OF WORKING CAPITAL

WORKING CAPITAL
BASIS OF
CONCEPT
BASIS OF
TIME
Gross
Working
Capital
Net
Working
Capital
Permanent
/ Fixed
WC
Temporary
/ Variable
WC
Regular
WC
Reserve
WC
Special
WC
Seasonal
WC
Working capital
Working Capital Levels in Different Industries
A retailing company usually has high levels of
finished goods stock and very low levels of
debtors. Most of the retailers sales will be for
cash, and an independent credit card company or
a financial subsidiary of the retail business (which
on occasions is not consolidated in the group
accounts). The retailing company, however,
usually has high levels of creditors. It pays its
suppliers after an agreed period of credit. The
levels of working capital required are therefore
low:
Working capital
Excess of current assets over current liabilities are called
the net working capital or net current assets.
Working capital is really what a part of long term finance
is locked in and used for supporting current activities.
The balance sheet definition of working capital is
meaningful only as an indication of the firms current
solvency in repaying its creditors.
When firms speak of shortage of working capital they in
fact possibly imply scarcity of cash resources.
In fund flow analysis an increase in working capital, as
conventionally defined, represents employment or
application of funds.

Working capital
In contrast, a manufacturing company will
require relatively high levels of working
capital with investments in raw materials,
work-in-progress and finished goods
stocks, and with high levels of debtors.
The credit terms offered on sales and
taken on purchases will be influenced by
the normal contractual arrangements in
the industry.
Working capital
Debtors Volume of credit sales
Length of credit given
Effective credit control and cash collection
Stocks Lead time & safety level
Variability of demand
Production cycle
No. of product lines
Volume of
planned output
actual output
sales
Payables Volume of purchases
Length of credit allowed
Length of credit taken Discounts
Short-term finance All the above
Other payments/receipts
Availability of credit Interest rates
Working capital
Cash Levels
it is necessary to prepare a cash budget where
the minimum balances needed from month to
month will be defined.
business is seasonal, cash shortages may arise in certain
periods. Generally it is thought better to keep only
sufficient cash to satisfy short-term needs, and to
borrow if longer-term requirements occur
The problem, of course, is to balance the cost of this
borrowing against any income that might be obtained
from investing the cash balances.
The size of the cash balance that a company might need
depends on the availability of other sources of funds at
short notice, the credit standing of the company and the
control of debtors and creditors
Working capital
Debtors
The debtors problem again revolves around the
choice between profitability and liquidity. It
might, for instance, be possible to increase sales
by allowing customers more time to pay, but
since this policy would reduce the companys
liquid resources it would not necessarily result in
higher Profits.
historical analysis or the use of established
credit ratings to classify groups of customers in
terms of credit risk
Working capital
1. Establish clear credit practices as a matter of
company policy.
2. Make sure that these practices are clearly
understood by staff, suppliers and customers.
3. Be professional when accepting new accounts,
and especially larger ones.
4. Check out each customer thoroughly before you
offer credit. Use credit agencies, bank
references, industry sources etc.
5. Establish credit limits for each customer... and
stick to them.
6. Have the right mental attitude to the control of
credit and make sure that it gets the priority it
deserves.


Working capital
7. Continuously review these limits when you suspect
tough times are coming or if operating in a volatile sector.
8. Keep very close to your larger customers.
9. Invoice promptly and clearly.
10. Consider charging penalties on overdue accounts.
11. Consider accepting credit /debit cards as a
payment option.
12. Monitor your debtor balances and ageing
schedules, and don't let any debts get too large or too old.

DIMENSIONS OF RECEIVABLES MANAGEMENT

OPTIMUM LEVEL OF INVESTMENT IN TRADE RECEIVABLES


Profitability



Costs &
Profitability Optimum Level



Liquidity

Stringent Liberal

Working capital-FACTORING
Factoring
Definition:
Factoring is defined as a continuing legal relationship
between a financial institution (the factor) and a
business concern (the client), selling goods or providing
services to trade customers (the customers) on open
account basis whereby the Factor purchases the clients
book debts (accounts receivables) either with or without
recourse to the client and in relation thereto controls the
credit extended to customers and administers the sales
ledgers.

Working capital-FACTORING
It is the outright purchase of credit approved
accounts receivables with the factor assuming
bad debt losses.
Factoring provides sales accounting service, use
of finance and protection against bad debts.
Factoring is a process of invoice discounting by
which a capital market agency purchases all
trade debts and offers resources against them.

Working capital-FACTORING
Debt administration:
The factor manages the sales ledger of
the client company. The client will be
saved of the administrative cost of book
keeping, invoicing, credit control and debt
collection. The factor uses his computer
system to render the sales ledger
administration services.

Working capital-FACTORING
Different kinds of factoring services
Credit Information: Factors provide credit
intelligence to their client and supply periodic
information with various customer-wise analysis.
Credit Protection: Some factors also insure
against bad debts and provide without recourse
financing.
Invoice Discounting or Financing : Factors
advance 75% to 80% against the invoice of
their clients. The clients mark a copy of the
invoice to the factors as and when they raise the
invoice on their customers.

Working capital-FACTORING
Services rendered by factor
Factor evaluated creditworthiness of the customer
(buyer of goods)
Factor fixes limits for the client (seller) which is an
aggregation of the limits fixed for each of the customer
(buyer).
Client sells goods/services.
Client assigns the debt in favour of the factor
Client notifies on the invoice a direction to the customer
to pay the invoice value of the factor.


Working capital-FACTORING
Client forwards invoice/copy to factor along with
receipted delivery challans.
Factor provides credit to client to the extent of
80% of the invoice value and also notifies to the
customer
Factor periodically follows with the customer
When the customer pays the amount of the
invoice the balance of 20% of the invoice value
is passed to the client recovering necessary
interest and other charges.
If the customer does not pay, the factor takes
recourse to the client.


Working capital-FACTORING
Benefits of factoring
The client will be relieved of the work relating to sales ledger
administration and debt collection
The client can therefore concentrate more on planning production
and sales.
The charges paid to a factor which will be marginally high at 1 to
1.5% than the bank charges will be more than compensated by
reductions in administrative expenditure.
This will also improve the current ratio of the client and
consequently his credit rating.

The subsidiaries of the various banks have been rendering the
factoring services.
The factoring service is more comprehensive in nature than the
book debt or receivable financing by the bankers.

Working capital- INVENTORY
MANAGEMENT
Managing inventory is a juggling act.

Excessive stocks can place a heavy burden on
the cash resources of a business.

Insufficient stocks can result in lost sales, delays
for customers etc.

INVENTORIES INCLUDE
RAW MATERIALS, WIP & FINISHED
GOODS

FACTORS INFLUENCING INVENTORY
MANAGEMENT
Lead Time
Cost of Holding Inventory
Material Costs
Ordering Costs
Carrying Costs
Cost of tying-up of Funds
Cost of Under stocking
Cost of Overstocking
Working capital
Cost of Working capital
The other aspect of the working capital problem
concerns obtaining short-term funds. Every source of
finance, including taking credit from suppliers, has a
cost; the point is to keep this cost to the minimum. The
cost involved in using trade credit might include
forfeiting the discount normally given for prompt
payment, or loss of goodwill through relying on this
strategy to the point of abuse. Some other sources of
short-term funds are bank credit, overdrafts and loans
from other institutions. These can be unsecured or
secured, with charges made against inventories, specific
assets or general assets.
Working capital
Disadvantages of Redundant or Excess Working Capital

Idle funds, non-profitable for business, poor ROI
Unnecessary purchasing & accumulation of inventories
over required level
Excessive debtors and defective credit policy, higher
incidence of B/D.
Overall inefficiency in the organization.
When there is excessive working capital, Credit
worthiness suffers
Due to low rate of return on investments, the market
value of shares may fall

Working capital
Disadvantages or Dangers of Inadequate or Short Working
Capital

Cant pay off its short-term liabilities in time.
Economies of scale are not possible.
Difficult for the firm to exploit favourable market
situations
Day-to-day liquidity worsens
Improper utilization the fixed assets and ROA/ROI falls
sharply

Working capital cycle
Example: X Company plans to attain a sales of Rs 5 crores. It has the following information for
production and selling activity. It is assumed that the activities are evenly spread through out the
year.
(a) Average time raw materials are kept in store prior to issue for production.2months
(b) Production cycle time or work-in-progress cycle time. 2months
(c) Average time finished stocks are kept in sale in unsold condition 1/2 months
(d) Average credit available from suppliers 1 1/2 months
(e) Average credit allowed to customer 1 1/2 months
(f) Analysis of cost plus profit for above sales:
% Rs. In Crores
Raw Materials 50 2.50
Direct Labour 20 1.00
Overheads 10 0.50
Profit 20 1.00
Total 100 5.00
-----------
Working capital cycle
Calculation of Wokring Capital Requirement:
1. Total months to be financed to Raw Material
Months
Time in raw material store 2
Working progress cycle 2
Finished goods store 1/2
Credit given to customer 1 1/2


6
Less: Credit available from suppliers 1

----------------
Total months to be financed to Raw Materials 4

----------------
2. Total months to be financed to Labour
Production cycle 2
In Finished stock store
Credit to customer 1

Total Months to be financed 4

Working capital cycle
3. Total months to be finacned to overhead
Production cycle 2
In finished goods stores
Credit to customer 1

-------------
4
Less: Credit from suppliers 1

-------------
Total months to be financed 2
4. Maximum working capital required Rs in crores
Raw Materials 4 / 12 2.50 0.94
Direct Labour 4 / 12 1.00
0.33
Overheads 2 0.50 0.10

-------
Maximum Working Capital 1.37

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Questions for practice
If the average annual rate of return for
common stocks is 13%, and treasury bills
is 3.8%, what is the average market risk
premium?
13.%
3.8%
9.2%
None of the above
Questions for practice
Minimum Stock Levels is calculated as:
a Re-order Level (Average Usage x Average
Lead Time)
b Re-order Level + (Average Usage +
Average Lead Time)
c Re-order Level (Average Usage + Average
Lead Time)

Questions for practice
Maximum Stock Level is calculated as:
a Re-order Level (Minimum Usage x
Minimum Lead Time) + Re-order Quantity.
b Re-order Level + (Minimum x Minimum
Lead Time) Re-order Quantity.
C Re-order Level (Minimum Usage x
Minimum Lead Time) Re-order Quantity.

Questions for practice
The formulae for Present Value is:
1/ (1 + r) to the power of n
1/ (1 r) to the power of n
1 (1 x r) to the power of n
1 (1/r) to the power of n

Questions for practice
Profitability Index Equals to
PV of cash in flow / PV of Cash out flow
PV of Initial outlay / PV of Final out lay
P I / (1 r) to the power of n
None of the above
The following is one of the method in
Discounted Cash Flow Techniques:
Pay Back Period
Average Rate of Return
Discount to Sales Ratio
Net Present Value

Questions for practice
In break even analysis, the break even point
symbolizes:
No profit and no loss situation
No profit but loss situation
No loss but profit situation
None of the above
Break even in Term Lending is a tool for appraisal.
The level of break even should be:
Higher
Lower
Any of the above
None of the above

Questions for practice
A firm has break-even point Units no. of 1000 and
fixed cost of .40,000. What is the contribution per
unit ?
30
32
36
40
Working capital management involves all but one of
the following. Identify?:
a)The level of cash needs to be on call at various dates.
b)The level of inventory we need to maintain.
c)The period of credit do we grant to our debtors.
d)Suppliers Payments.
e)Proportion of assets should be financed by long-term funds.

Questions for practice
Of the following assets, which is generally
the most liquid?
Plant and equipment
Inventory
Goodwill
Accounts receivable
Intangible fixed assets would include
Building
Machinery
Trademarks
Equipment

Questions for practice
Which of the following is not included in current assets?
Accounts receivable
Accrued wages
Cash
Inventories
The main difference between short term and long term
finance is:
The risk of long term cash flows being more important than
short term risks
The present value of long term cash flows being greater than
short term cash flows
The timing of short term cash flow being within a year or less
All of the above


Questions for practice
The cash budget is the primary short-run financial
planning tool. The key reasons a cash budget is
created are:
To estimate your investment in assets
To estimate the size and timing of your new cash flows
To prepare for potential financing needs
A and B
B and C
Cash inflow in cash budgeting comes mainly from:
Collection on accounts receivable
Short-term debt
Issue of securities
None of the above

Questions for practice
Common sources of short-term financing include:
Stretching payables
Issuing bonds
Reducing inventory
All of the above
Factoring refers to:
Determining the aging schedule of the firm's accounts
receivable
The sale of a firm's accounts receivable to another
firm
The determination of the average collection period
Scoring a customer based on the 5 C's of credit

Questions for practice
A number of steps could be taken to shorten this operating
cycle. One of them is not true . Choose it
The amount of debtors could be cut by a quicker collection of
accounts.
Finished goods could be turned over more rapidly.
The level of raw material inventory could be reduced or
The production period could be lengthened
Firms would need to hold zero cash when:
Transaction-related needs are greater than cash inflows
Transaction-related needs are less than cash inflows
Transaction-related needs are not perfectly synchronized with
cash inflows
Transaction-related needs are perfectly synchronized with cash
inflows

Questions for practice
Change in cost due to change in the volume
of activity is called -----
Fixed Cost
Variable Cost
Shutdown Cost
All of the above
Actual Sales minus Break Even Sales means
Profit on Sales
Loss on Sales
Margin of Safety Sales
None of the above

Questions for practice
The size of Cash Balance a company should maintain
should depend on:
a Sources of funds at short notice
b Credit standing of the company
c Control of debtors and creditors
d All of the above
. EOQ is calculated as:
a Square of 2AC/H where A=stock usage, C=cost of
ordering and H= Stock holding cost per unit of cost.
b Square root of 2AC/H where A = Stock usage, C= Cost
of ordering and H=Stock holding cost per unit of cost.
c Square root of AC/2H where A=Stock usage, C=Cost of
ordering and H=Stock holding cost per unit of cost.

Questions for practice
A retail Company normally has
High levels of finished goods stock
High levels of debtors
None of the above
The Tandon Working Group introduced the
concept of
Project Balance sheet
Maximum permissible Bank Finance
Current Asset Management
dCurrent Liability Management

Questions for practice
Contribution is equal to
Variable cost less fixed cost
Sales less fixed cost
Sales less semi variable cost
Sales less variable cost
Break even point can be calculated as:
Total Variable Cost / Contribution per Unit
Total Fixed Cost / Variable Cost per Unit
Total Fixed Cost / Contribution per unit
Contribution per unit / total fixed cost

Questions for practice
Master Budget Covers various
Products Budget
Functional Budget
Customer Budget
All of the above
A company manufacturing washing machines has annual
capacity for producing 5000 units. The variable cost per unit
comes to Rs.1,600/- and each machine is sold for Rs.2,000/-.
Fixed cost amount Rs.5,00,000/-. Break even point in terms
of UNITS would be
1,000 units
1,250 units
1,200 units

Questions for practice
Under Cash Budget System method of Working Capital
is determined by:
Ascertaining level of Current Assets
Ascertaining level of Current Liabilities
Finding Cash Gap after taking in account projected Cash
inflows and outflows
All of above
Which of the following investment rules does not use
the time value of the money concept?
The payback period
IRR
NPV
All above

Questions for practice
Preferably, cash flows for a project are estimated as:
Cash flows before taxes
Cash flows after taxes
Earnings before taxes
Earnings after taxes
Money that a firm has already spent or committed to
spend regardless of whether a project is taken is
called:
Sunk costs
Fixed costs
Opportunity costs
None of the above

Questions for practice
The opportunity cost of capital for a risky
project is
The expected rate of return on a government
security having the same maturity as the
project
The expected rate of return on a well
diversified portfolio of common stocks
The expected rate of return on a portfolio of
securities of similar risks as the project
None of the above

Questions for practice
The payback period rule accepts all
projects for which the payback period is
Greater than the cut-off value
Less than the cut-off value
Is positive
An integer

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