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E1-E2
Accounting Standards
And Ratio analysis
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WELCOME
This is a presentation for the E1-E2 (Finance) Module for the Topic: Accounting standards and Ratio
analysis
Eligibility: Those who have got the Upgradation from E1
to E2. This presentation is last updated on 15-3-2011.
You can also visit the Digital library of BSNL to see this
topic.
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What are Accounting Standards
Guidelines to direct as to how the items which go tomake up the financial statements should be dealt with in
Accounts and presented in the Annual Accounts
Norms of Accounting Policies and practices by way of
codes i.e., codification of Generally accepted
Accounting principles
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Introduction
If Accounts is the language of business, Accounting
Standards may be stated to be the grammar of that
language.
These standards are mandatory to be complied with to
ensure that financial statements are prepared inaccordance with the generally accepted accounting
practices
Accounting Standards provide for disclosure norms to add
value to the preparation of accounting statements.
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Significance of Accounting Standards
Accounting standards address the core issue of
information needs of the stakeholders.
Useful to investors assessing the yield and risk of
alternative investments
Will raise the standards of the audit in its task orreporting on the financial statements
Meaningfulness of the numbers in the accounting reports
for the purpose of economic planning, market analysis
etc, Confidence that user groups have in the fairness and
reliability of the financial statements
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Significance of Accounting Standards
Accounting standards directly and indirectly influence,command and control many important aspects of
companys operations, administration, revenue etc., as
the final operational results of all operations get reflected
in the financial statements.
Accounting standards are also an effective way of
ensuring managements compliance to ethics,consistency and business transparency.
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Scope of Accounting Standards
These are supplementary to the laws of the land and do
not substitute their provisions in any manner.
i.e., Accounting Standards will be prepared in conformity
with the provisions of the applicable laws, customs
usages and business environment in India
However ifa particular Accounting Standard is found to be not in
conformity with law, the provisions of the law will prevail.
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Accounting Standards Board
ICAI recognizing the need to harmonize the diverse
accounting policies and practices prevalent in India
constituted an ASB in April 1977
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Accounting Standards Board
Objectives and functions of ASB
To conceive of and suggest areas in which AS needs
to be developed
To formulate Accounting Standards
To examine how far the relevant International
Accounting Standard / International financial reporting
standard can be adopted in India
To review at regular intervals and if necessary revise
the existing AS To provide from time to time, interpretations and
guidance notes on AS
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Procedure for issuing AS
ASB will determine the broad areas in which AS need to
be formulated and their priority
Study groups are constituted to assist ASB
ASB will hold dialogue with the representatives of Govt,
PSUs, Industry and other organizations
On the basis of work of study group and dialogue an
exposure draft of the proposed AS will be issued for
comments.
After taking into consideration the comments receivedthe proposed AS will be finalized by the ASB. AS on the
relevant subject will be issued by the ICAI after
modification, if found necessary.
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Procedure for issuing AS
The draft of the proposed standard will normally
include:
a) Objective of the standard
b) Scope of the standard
c) Definitions of the terms used in the standardd) Recognition and measurement principles, wherever
applicable
e) Presentation and disclosure requirements
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Compliance
Compliance with the Accounting Standards has beenmade mandatory. Sub section 3(A) to section 211 of
Companies Act requires that every profit and loss
account and Balance Sheet shall comply with the
Accounting Standards.
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Compliance
Sub Section 3(B) prescribes that in case the profit
and loss account and balance sheet of a
company does not comply with the requirements
of the AS, disclosures should be made stating
I. Deviations from the AS
II. The Reasons for such deviation and
III. The financial effect, if any, arising due tosuch deviation
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Compliance
Sub Section 3(C) Provides that the standard ofaccounting specified by the Institute of Chartered
Accountants of India shall be deemed to be the
Accounting Standards until the accounting standards are
prescribed by the Central Government
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Compliance
Sub Section (3) of Section 227 of Companies Act
requires the auditors to report whether in his opinion the
profit and loss account and balance sheet comply with
the accounting standards
The statutory auditors are required to make qualification
in his report in case any item is treated differently from
the prescribed treatment in the relevant Accounting
standard.
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Accounting Standards
As on date 32 Accounting Standards are issued
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List of Accounting Standards
Disclosure of Accounting Policies (AS-1) Valuation of Inventories (AS-2)
Cash Flow Statements (AS-3)
Contingencies and Events occurring after the Balance
Sheet Date (AS 4)
Net Profit or Loss for the Period, Prior Period Items and
Changes in the Accounting Policies (AS-5)
Depreciation Accounting (AS-6)
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List of Accounting Standards
Construction Contacts (AS-7) Revised Accounting for Research and Development
(AS-8) ----Since withdrawn
Revenue Recognition (AS-9)
Accounting for Fixed Assets (AS-10)
Accounting for the effect of changes in foreign exchange
rates (AS-11)
Accounting for Government Grants (AS-12)
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List of Accounting Standards
Accounting for Investments (AS-13) Accounting for Amalgamations (AS-14)
Accounting for Employee Benefits (AS-15)
Borrowing Costs (AS-16)
Segment Reporting (AS-17)
Related Party Disclosures (AS-18)
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List of Accounting Standards
Leases (AS-19)
Earning Per Share (AS-20)
Consolidated Financial Statements (AS-21)
Accounting for Taxes on Income (AS-22)
Accounting for Investments in Associates in ConsolidatedFinancial Statements (AS-23)
Discontinuing Operations (AS-24)
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List of Accounting Standards
Interim Financial Reporting (AS-25) Intangible Assets (AS-26)
Financial Reporting of Interest in Joint Ventures (AS-27)
Impairment of Assets (AS-28)
Provisions Contingent Liabilities and Contingent Assets
(AS-29)
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List of Accounting Standards
New standards effective from 01-04-2009 andmandatory from 01-04-2011
Financial instruments recognition and measurement
(AS 30)
Financial instruments presentation (AS 31)
Financial instruments Disclosure (AS 32)
RATIO ANALYSIS
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RATIO ANALYSIS
FINANCIAL ANALYSIS : Is the process of identifying the
financial strengths and weakness of the firm by properly
establishing relationships between the items of Balance
Sheet and Profit and Loss Account
RATIO ANALYSIS : is a tool of financial analysis.
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RATIO ANALYSIS
Ratio analysis is the analysis of the relationship betweenitems of financial data, or between financial and non
financial data.
Ratios sometimes prove themselves to be more
meaningful than the absolute figures
Ad t f R ti A l i
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Advantages of Ratio Analysis
I. Simplifies, Summarizes and Systematizes
accounting figures for easy understanding;
II. Ratios helps the management in measuring
things like Long-term Solvency, Operational
Efficiency, etc. of the firm
III. It can be used to compare the risk and return
relationships of firms of different sizes.
Ad t f R ti A l i
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Advantages of Ratio Analysis
IV. Facilitates inter-firm comparison showing
relative performance of enterprise in theindustry;
V. Facilitates intra-firm comparison showing the
improvement/degradation in the performance
of the enterprise;VI. It provides a profile of a firm, its economic
characteristics and competitive strategies, and
its unique operating, financial and investment
characteristics.
St d d f i
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Standards of comparison:
A single ratio does not indicate any condition. It shouldbe compared with some standard. Standards of
comparison may consist of:
1) Ratios calculated from the past financial statements
of the same firm.
2) Ratios developed using the projected, or pro forma,
financial statements of the same firm.
3) Ratios of some selected firms, ( most progressive &successful,)
4) Ratios of the industry to which the firm belongs.
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Limitations of Ratio Analysis
They are arithmetical expressions. Qualitative aspects
cannot be presenteddirectly.They are calculated from accounting records which
have their own limitations.
Ratios are indicators only and must be supplemented by
a detailed analysis to discover the reality.
Strongly affected by manipulations of financial
statements& this fact is not revealedby Ratio Analysis.
Factors like Inflationalso distortthe Ratio Analysis.
P i
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Precautions
Points to be borne in mind while using ratio analysistechnique
Only figures that have a mutual cause and effect
relationship should be considered
Particular characteristics of the industry should
always be kept in mind while a firm is being studied.
Ratios are only symptoms and not the real disease in
itself Good profits rather than good ratios is the objective of
the firm
RATIO ANALYSIS
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RATIO ANALYSIS
Classification of Ratios:
Structural Classification
Functional Classification
ruc ura ass ca on
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ruc ura ass ca onof Ratios
This is the Conventional mode of classifying ratios wherethe ratios are classified on the basis of information given
in the financial statements.
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of RatiosS.N Type What it is Examples
1 Balance Sheet
Ratios
Ratios for which the components for
computation are drawn from the
Balance Sheet. (Financial Ratios.)
* Current Ratio * Liquid Ratio
* Debt Equity Ratio
* Proprietary Ratio
* Capital Gearing Ratio
* Fixed Assets Ratio
2 P&L A/c Ratios Ratios for which the components are
drawn from the P&L Account.
(Income Statement Ratios or Operating
Ratios )
* Gross Profit Ratio
* Net Profit Ratio
* Operating Ratio
* Stock Turnover Ratio
* Expenses Ratio
3 Inter-statement
Ratios or
Combined Ratios
Ratios for which the components are
drawn both from the Balance Sheet
and P&L Account.
( Financial Ratios. )
* Return on Capital Employed [ROCE]
* Return on Investments [ROI]
* Debtors Turnover Ratio
* Creditors Turnover Ratio
* Fixed Assets Turnover Ratio
* Working Capital Turnover Ratio
F ti l Cl ifi ti Of R ti
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Functional Classification Of Ratios:
Financial ratios are broadly categorized in four broadheads
Activity analysis
Liquidity analysis
Long term debt and solvency analysis
Profitability analysis
A ti it l i
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Activity analysis
Activity ratios describe the relationship between the firms
level of operations and the assets needed to sustain
operating activities.
Short term (operating) activity ratios
Inventory turnover
Receivables turnover
Payable turnover
Working capital turnover
Long term (investment) activity ratios Fixed assets turnover
Total asset turnover
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Liquidity analysis
Liquidity ratios helps in assessing the ability of a firm tomeet its current obligations.
This ability depends on the cash resources available as
on the balance sheet date.
Current ratio
Quick ratio
Cash ratio
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Long term debt and solvency analysis
Analysis of a firms capital structure is essential toevaluate its long term risk and return prospects.
Debt ratio
Debt to total capital
Debt to equity
Interest coverage ratio
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Profitability analysis
Investors are concerned with the firms ability togenerate, sustain and increase profits
Return on sales
Gross margin
Operating margin
Profit margin
Return on investments
Return on assets
Return on equity
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EPS and P/E ratios
EPS is the most widely available and commonly usedperformance statistics for publicly traded firms
Calculation of EPS is governed and mandated by the
financial reporting standards
Earnings per share
Price earning ratio
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