Accounting: is an art of “writing business transaction in a systematic manner”.

It
involves steps like
 Recording
 Classification
 Summarization
 Presentation and analysis
The end result of accounting exercise is “a financial statement”.
Basic knowledge of Double entry system of accounting:1
Accountancy equation:
Assets = capital + liabilities
[Assets  asset is any resource owned or controlled by a business;
Capital: value of investment in business by the owners (e.g. equity)
Liabilities: is something a person or company owes, usually a sum of money]
The two sides should always match. Double entry system ensures that a
transaction is recorded on both side i.e. – something credited to assets, should
also be recorded as debited to liabilities or capital.
Definition:
 Double entry system of booking is an accounting system which recognizes the
fact that every transaction has two aspects and both aspects of the transaction
are recorded in the books of account i.e. for every business transaction,
amounts must be recorded in a minimum of two accounts.
 It involves debiting an account for a definite amount of money and crediting
other account for the same amount.
 It also require that for all transactions, the amounts entered as debits must be
equal to the amounts entered as credits.
o In every transaction, (e.g. Machinery purchase by a company on credit)
 Account receiving a benefit is debited (Machinery account – gets a benefit –
debit)
 Account giving benefit is credited (Liability account – gives a benefit – credit)

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https://www.youtube.com/watch?v=CLrOSEcyNsg&ab_channel=Let%27sCrack11thCBSECommerce

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Characteristics of DES:
 Every transaction has dual aspect  one giving the benefit and other receiving
the benefit.
 A transaction is divided into two parts, debit and credit. One account needs to
be debited and other is to be credited.
 BASIC PRINCIPLE - Every debit must have its corresponding and equal credit.
 Complete accounting system: DES is a scientific and complete accounting
system.
Classification of accounts:
1. Personal accounts – related with individuals, companies, firms, associations
etc. three types
a. Natural persons accounts e.g. ram, shyam, sita, geeta
b. Artificial accounts – persons recognized by law e.g. banks, companies
c. Representative person’s accounts – accounts that are rep of some
persons e.g. prepaid expenses account.
RULE: Debit the Receiver, Credit the Giver.
[e.g. paid 10000 cash by bank to ram – ram’s account – debit; cash account
– credit]
2. Impersonal accounts
a. Real accounts (are related to properties, assets and possessions)
i. Tangible real accounts e.g. physical assets – land, furniture,
ii. Intangible real accounts e.g. non-physical – trademark, patents
RULE: Debit what comes in, Credit what goes out.
[e.g. a vehicle purchased by cash of 10000 – vehicle account- debit; cash
account - credit]
b. Nominal accounts – related to income, expenses, losses and gains.
E.g. wages account, salary account.
RULE: Debit all expenses and losses, credit all incomes and gains.
[e.g. wages worth 1 lakh paid in cash—wages account- debit; cash account -
credit]

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Stages of Double entry system: THREE
 Original records (Journal) -
 Classification (Ledger account – separate accounts relating to a
particular item, person or thing, e.g. cash account, wage accounts )
 Summary (Final accounts – Profit and loss account, Balance sheets)
Advantages of DES:
1. Ensures Arithmetical accuracy of the book of accounts as for every debit
there is a corresponding and equal credit.
2. It prevents and minimizes frauds and frauds can be detected early, as
there are more than one entries for a particular transaction.
3. Errors can be checked and rectified easily.
4. Business can compare financial position of the current year with the past
years.
5. As both personal and impersonal accounts are maintained, both the effects
of transactions are recorded.
6. It is highly systematic, and hence easy to find any information required.
7. Helps govt- to decide tax, sickness of business and extend help.
8. Suppliers, banks etc. can take proper decision regarding credit or loan to
business or subscribing to shares.
Limitations:
1. System does not disclose all the errors committed in book accounts.
2. Costly- as involves maintenance of number of books of accounts.

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Meaning and objectives of Auditing 2
Auditing:
 Auditing is a systematic and independent examination of the books and
records of a business.
 to ascertain or verify, and to report upon the facts regarding its financial
operations, financial position and the results thereof.
Objectives: Main objective is to give opinion on the reliability of the financial
statement.

1. PRIMARY OBJECTIVE (main objectives)

o Examination of accounts book
 Checking arithmetical accuracy of books of account
 Check the accounting policies/rules of business are followed
o Verification of financial statements
 Verifying authenticity and validity of transactions
 Balance sheet check --Confirm the true value of assets and
liabilities of organization
 Profit and loss account check --To determine true financial
position of the business
2. SECONDARY OBJECTIVE (help in attaining primary objectives)
o Detection and prevention of error (mistakes done unknowingly)
o Detection and prevention of frauds (mistakes dome deliberately)
o Advise to manager

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https://www.youtube.com/watch?v=m86S0hYtlCE&ab_channel=AccountingSeekho

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Types of Audits:
1. On the basis of organization –
a. Statutory audit – audit enforced by law e.g. companies act 2013
mandates periodic audit for companies registered under it.
b. Voluntary Audit—not binding.
2. On the basis of nature (work of auditor):
a. Internal audit : auditors are usually employees of the company  they
audit holistically with a view to check risk management, governance,
control systems.
b. External audit : are outsiders  main aim is to check accuracy of
business accounts and organisation’s financial condition.
3. Based on time:
a. Continuous: checks accounting practices, controls and compliance on
ongoing basis.
b. Periodical: taken up at close of financial or trading period.
c. Interim: preliminary audit done in-between.
4. based on scope:
a. Complete : audit of both financial statements and the documents
underlying them
b. Partial : only relating to some specific item e.g cash book
5. Based on objective:
a. Balance sheet (a balance sheet is a financial statement that reports on
companies assets, liabilities and equity) – to examine them all.
b. Occasional – conducted on some special event, in companies that do not
holed regular audits
c. Standard – to ascertain accounting practices comply standard practices.

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Advantages of Auditing:

---------------------------------

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Social, performance and efficiency audit: meaning and objectives
Performance audit:
Definition: an audit to check whether organisation is are operating in accordance
with principles of 3E – efficiency, effectiveness and economy.
 Economical: to purchase appropriate resource at optimal cost and to prevent
wastage. (Spending less)
 Efficiency: to maximise the output for any given input and complete tasks in
give time (spending wise)
 Effectiveness: to attain objectives and outcomes determined.
+2 E’s : Ethics and Equity.
**performance audit focuses on efficiency measurements, financial audit focuses
on the accuracy and correctness of accounts.
**In financial audit, attention is more on figures, in performance audit, however,
the attention is more on people, and other resources
Efficiency Audit: a part of performance audit only
Definition: It looks into whether schemes/projects are executed economically
and are yielding the results expected of them.
Inputs; outputs and productivity are considered.
Effectiveness audit: here actual results of an organisation’s activities are
compared with planned goals and objectives to check effectiveness of working of
organisation.

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Elementary knowledge of government audit:
Definition:
The audit which is conducted in the various categories of public enterprises.
 Govt auditing is the objective, systematic, professional and independent
examination of – financial, administrative and other operations of a public
entity – for the purpose of evaluating and verifying them to ascertain fairness
of presentation.
Govt has to undertake massive activities towards social-economic development
through govt dept, govt companies and local bodies. This involves mobilisation of
huge revenue and expenditure. The govt audit is the control measure to ensure
proper utilisation of govt fund in various socio-economic activities undertaken by
the govt.
It is conducted by CAG. [Art 148 -151]
o 148 : there shall be CAG appointed by president
o 149: CAG to perform duties wrt accounts of state and union as
prescribed by any law of parliament
o 150: accounts of union and states to be kept in such form as president
prescribe on advise of CAG
o 151: reports of CAG to be laid down before parliament and SLA by the
president and governor.
Two types of audits:
1. Regularity audit:
a. Authorisation of purpose of expenditure. (to ascertain whether
money shown as expenditure in the accounts were authorised for the
purpose they were spent on)
b. Conformity with laws: to see that expenditure incurred was in
conformity with the laws, rules and regulation.
c. Approval by the competent authority: to see that every item of
expenditure was done with the approval of the competent authority
for expending the money

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 d. Propriety audit: to scrutinise wisdom and economy of the
expenditure to bring to light the cases of improper expenditure or
wastage.
i. Expenditure should not be more than what occasion demands
ii. expd should not directly or indirectly benefit oneself
iii. should not be utilised for particular person or community
e. No leakage of revenue: to ensure that assessment, collection and
allocation of revenue are done in accordance with the law.
2. Performance audit: EEE
a. Conducted independently by a third party, to enhance credibility of
information.
b. To improve economy and efficiency.
c. To measure progress towards goals.
Advantages:
1. Prudence: it ensures prudence in expenditure; ensures accountability of
executive in respect of public revenue and expenditure.
2. Proper sanction: ensures that there has not been any misuse of authority in
sanctioning money.
3. Public benefit: verifies that public money is actually spent for the benefit of
the public itself.
4. Collection of revenue: verifies whether all revenues and other debts due to
govt have been correctly assessed, realised and credited to govt account
e.g. 2g scam
5. Financial morality: examines whether there is any case of improper or
avoidable expenditure. So that officials remain cautious and careful in
applying a high degree of financial morality while incurring expenditure.

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Duties of CAG -- 7
*substantially financed = >25 lakh loan + 75 % of that body’s expd is by

general audit of expd audits accounts of

compile and submit
from CFI, CtFI and Public
accounts of union and
account + accounts of
audit recepits to CFI stores and inventory of
states union and states
depatments.

duties of
duties of CAG
CAG

audit receipts and expd of

scrutinise procedures
authority substantially appoints the auditors
adopted for issuing loans
financed by govt loan or of govt companies
and grants
grant

grant or loan
Powers of CAG:
1. To inspect office of accounts under control of union or state.
2. To seek any accounts, books, papers and other documents which deal with
transaction under audit.
3. To put questions or make observations to the person in charge of office for
calling information required for preparation of accounts report.

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Basic knowledge of performance budgeting, zero base budgeting.
Budget: A budget is an estimation of revenue and expenditure over a specified
future period of time – a financial plan.
Performance budgeting:
Definition: A performance budget is one that reflects both “input of resources”
and “output of services” for each unit of organisation.
Commonly used by government bodies to show link between taxpayer funds and
the outcome of services provided by the government agencies.
It mainly has three elements:
1. Purpose and objectives for which funds are required
2. Costs of programs proposed for achieving these objectives
3. Quantitative data for measuring accomplishment and work performance
under each program.
Advantages:

helpful for non facilitates

increased improves promotion of
accountability of delineates clear profit
helps achieve legislative organisations good programs
govt authorities purpose of
effciency in review and droppin bad
allocation of • linking inputs and
• as public knows the operations • as budget makes outputs for their one, as well as
actual perfromance resources
of depts
objectives clear. missions to calculate course
impact. correction.

Steps in performance budgeting:

1. Identify goals and objective
2. Prepared programs to achieve that goals
3. Allocate resources to programs
4. Set performance evaluation quantitative indicators
5. Prepare budget
6. Implement budget
7. Evaluate performance -> rectify and reform the working methodology to
control goal achievement.

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Disadvantages:
1. Outcomes and performance is often subjective, poses difficulty in
quantification e.g. social benefits.
2. It requires a strong system of reporting and evaluation.
Traditional budgeting vs Performance budgeting:
Input oriented Result oriented
Centrally controlled schemes More devolved control, discretion
Mainly a spending tool A governance tool not just spending but spending
well
Ministries working in silos Cooperation and convergence towards achieving a
particular objective
No relation between expenditure and Expenditure linked to EEE
EEE

Zero-Base Budgeting:
Definition: It is a budgeting practice that prepares budget from scratch with a
zero base.
(As compared with “incremental budgeting”- where New Year’s budget is
prepared just by making some increments to all the items of the previous year
e.g. 2019- Mgnrega- 40k crore; 2020: say 5% increase, 42k crore)
It involves re-evaluating every line item and to justify all the expenditure that is to
be incurred by the department.
Steps in ZBB:
1. Identification of task
2. Finding ways and means of accomplishing the task
3. Evaluating these solutions and also evaluating alternative sources of funds
4. Setting the budget number and priorities.
Advantages of ZBB:

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 inefficient and
it is flexible and
obsolete
responds to ensures careful
operations can
changes in planning
be identified and
societal demands
discontinued

increased
promotes better utilisation
participation of
operational of resources-
all levels of
economy and allocated on cost
administration in
efficiency benefit basis
budgeting

Disadvantages:
1. Can’t be used in large scale organisations as involves more work and
expenses in budgeting making.
2. Time consuming – fresh data collection is needed for every item.
3. Emphasise short term benefits to the detriment of long term goals.

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 Responsibility and Social accounting:
Responsibility accounting:34
Responsibility is fixed first and then accounting is done.
Definition: A system of accounting in which specific responsibility centers are
established and the managers in charge are held responsible for the costs
incurred in his responsibility center. [Managers are controlled, not costs directly]
 It focuses on delegation and fixation of responsibility at various levels so as to
keep check over the costs.
 Three basic activities under responsibility accounting :
o Identification of costs and responsible person
o Reporting of costs
o Controlling of costs.
Features of responsibility accounting:
 Various responsibility centers are established e.g. cost, revenue, profit or
investment centers. A manager is given the responsibility to manage and
report activities in his respective responsibility center.
 Primary objective is to identify the controllable costs and report them in a
systematics manner. [focus on control of costs]
 Appropriate delegation of authority and responsibility is required for effective
control of costs. [focus is on persons]
 Reports prepared by respective managers are treated as performance
evaluation reports by the top management.
Process of responsibility accounting:

preparation of submission of report communication of

setting targets and reports showing to top management
establishement of responsibilty analysis of reports by corrective measures
budgets for each relationship between
centers and fixing responsibility (with variance in tp management to managers of
center actual and desired
actual and budgeted) centers
inupts and outputs

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https://www.youtube.com/watch?v=VlfkZrl0Gl0&ab_channel=vmouonline
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https://www.youtube.com/watch?v=Mc9ru4gJ1ME&ab_channel=AccountingMasterClass

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 Responsibility centers:
A responsibility center is a sub unit of the organisation which is headed by a
manager who is responsible for the activities carried out in the unit.
 Both cost and revenues are measured for each center in order to evaluate
their performance and control the costs.
Characteristics of responsibility centers:
 Each RC has its own set of objective.
 They are established on hierarchical basis.
 A company is a collection of RCs headed by individual managers.
 Major focus is laid down on measurement of inputs (costs) and outputs
(revenue).
 Measuring efficiency and effectiveness of each RC is essential.

•managers control revenue but do not have any authority to fix the selling price
•they measure the actual sales and compare with budgeted ones.
revenue center •suitable for: units whose main function is to generte revenue/sales. e.g. 10 sales officer =
10 revenue centers. [are marketing and sales units]

•here manager is accountable for the costs and not the revenue.
cost center/expense •it refers to any location, place or group of machines or perrsons related to which costs
can be ascertained and can be controlled.
center •suitable for:: when unit involves production of a single product ;; output cannot be
measures in absolute financial terms;; major focus is on inputs and efficiency

•financial performance of a RC is measured in terms of absolute profit then it is called

profit center/business profit center
•manager is responsible for sales revenue as well as costs.
center •suitable for:: units having access to both suppliers and customers e.g. a single hotel of
chain of hotels;; considerable autonomy is provided

•RC where manager is held responsible for investment made in assets and the income on
the related investments along with cost and revenues.
•It looks into efficient use of assets along with amount of profit generated together.
investment center •measured by ROI
•Suitable for:: where manager can be given full autonomy and unit can be expanded by
making investments.

Types of RCs: 4
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Advantages of responsibility accounting:
 It motivated managers to perform well in departments over which they have
direct control.
 Greater job satisfaction and greater morale for employees.
 Responsibility for adverse performance can be easily identified.
 Speed of operating decision may increases.
 Promotes specialisation.
 Frees up top management’s time and energy
 Helps in training future managers.
Disadvantages:
 Problem in establishing control: as come costs are influenced by multiple
managers and has many factors affecting.
 Confusion in manger’s performance and division’s result.
 Emphasis on short term results.
 Loose control of top management.

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Techniques of analysis of financial statements:
Financial statement: is a formal record of the financial activities/transaction and
position of a business, entity or a person.
 Here financial information is presented in a structured manner.
 It is the end result of an accounting exercise.
Examples of financial statements include:
1. Balance sheet: it is a statement of the “total assets and liabilities” of a
business. Prepared to know the financial position of an organisation on a
particular date.
2. Profit and loss account (P/L account): it is a statement of “income and
expenditure” of a business. Prepared to know the outcome of business
activities of an organisation over a particular period.
Analysis of financial statements: refers to estimating and evaluating relationship
between various elements of the financial statement with the aim to assess
position and performance of the organisation.
Process:

decide scope and summarisation

interpretation
objective of collection of data and classification comarison
and conclusion
analysis acc to objective

Types of financial statement analysis:

1. On basis of functionality:
a. Horizontal or dynamic analysis: comparative analysis of FS of more
than one year.
b. Vertical analysis: comparative analysis of data of FS of single year.
2. On basis of information used:
a. External analysis: carried out by outsiders on the basis of published
information.
b. Internal analysis: carried out by employees, auditors, managers on
bases of internal information.

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 Techniques of Financial statement analysis:

techniques of
analysis of FS
SEVEN

comparative common size Trend cash flow fund flow break even
Ratio analysis
FS FS analysis analysis analysis point analysis

profitability market test

liquidity ratio activity ratio leverage ratio
ratio ratio

1. Comparative FS: data of one is taken and analysed with previous year (or
with data of other organisations) on the basis of differences or percentage
changes wrt to previous year (or other organisation).
2. Common size FS: data is expressed in form of percentages. The assets,
liabilities and sales are all presented in form of percentages This method
analyse each of the line item as a percentage of the base amount for that
particular period.
Differences between two:
 Comparative statements fall under horizontal analyses; common size FS falls
under vertical analyses.
 Comparative FS used for comparing year wise or inter firm performance.
Common size FS are prepared for reference of stakeholders.
 Comparative make use of absolute and percentages both, while common size
use only percentages.
Trend Analysis: data of series of years in analysed by considering the starting year
as the base year. It is graphical presentation of increasing or decreasing trend.
1. 5Cash flow FS analysis: analysis of inflows and outflows of cash and cash-
equivalents. Three types:-
a. Cash flow from operating activities – regular operations like
purchase, sales, production.
b. Cash flow from investing activities – purchase or sale of assets or
investments

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18 | P a g e
 c. Cash flow from financing activities – funds raised through issue of
shares, debentures, loan etc.
2. Fund flow FS analysis: [fund = working capital of company (include cash as
well as other capital)] It is an analysis of the changes in funds (working
capital) of a business. It displays financial status of an organisation and
explains reasons for changes.
Cash flow analysis Fund flow analysis
 Shows changes in cash  Shows changes in funds
 Analyses cash generating  Analyses firm’s efficiency in
efficiency of firm utilising the working capital
 Analyse liquidity  Analyse working capital
 Useful for short term financial  Useful for long term financial
planning planning
 Shows use of cash in operating,  Shows sources and application of
investing and financing activities. funds
 Cash basis of accounting  Accrual basis of accounting

Break-even point analysis:

Break-even point refers to the “no of units sold” where there is neither loss nor
any profit to the business.
Costs include fixed cost, which are always there regardless of how many units are
produced and variable cost which depends on no of units produced. At break-
even point, all the fixed costs are recovered along with the cost of units sold to
recover that costs, thus making loss zero. After this point every units sold
produces profit.
Thus this analysis is used to determine the number of units (quantum) to be sold
before a business starts making profit.
𝑓𝑖𝑥𝑒𝑑 𝑐𝑜𝑠𝑡𝑠
𝐵𝐸𝑃 =
𝑠𝑒𝑙𝑙𝑖𝑛𝑔 𝑝𝑟𝑖𝑐𝑒( 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡 ) − 𝑣𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝑐𝑜𝑠𝑡 (𝑝𝑒𝑟 𝑢𝑛𝑖𝑡)
Benefit:
 Manages the no of units to be sold.

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 Manage the margin of safety.
 Monitors and controls costs.
 Helps design pricing strategy.

RATIO Analysis: it is an arithmetic analysis of relationship between various data of

financial statement.
Current liabilities: liabilities which shall be paid within “a” year e.g bank overdraft.
Current assets: are assets which can be converted into cash within “a” year.
1. LIQUIDITY RATIO6
Are calculated to ascertain the capability of the company to meet its current
liabilities. Also known as short term solvency ratios.
 Current ratio: indicator of paying capacity of
an organization for the current liabilities
arising in one year time.
 Quick/Acid test ratio: calculated to ascertain
payment capacity of an organization for
liabilities arising immediately. Ideally should
by >1.
2. ACTIVITY RATIO
Are calculated to ascertain the efficiency of a business “to convert ‘capital
invested into assets’ to ‘sales’”.
 Also known as TURNOVER RATIO, ASSET MGMT RATIO, EFFICIENCY RATIO – as
it measures how efficiently company is leveraging assets on balance sheets to
generate revenues, cash i.e. efficiency of operation.
o Stock or inventory turnover ratio= costs of goods sold (or sales)/average
stock (inventory)
 Shows how fast company is able to clear inventories.
o Debtors turnover ratio = net “credit sales”/ avg. receivables (debtors)

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20 | P a g e
  Debtors: are those customers who has purchased items at credit
(jinhone humse udhaar par samaan kharida hai- means we have
given them a credit/loan--- thus we have made a “credit sale”).
 Shows how efficiently a company is able to recover dues.
o Creditors turnover ratio=net “credit purchase”/avg. payables (creditors)
 Creditors: are those suppliers from whom we have purchased at
credit/loan = we have made a “credit purchase”.
 Shows how well a company is able to pay back to creeditors.
o Fixed asset turnover ratio = sales/ fixed assets.
 Shows how efficiently company is able to use its fixed assets to
generate sales.
o Current asset turnover ratio = sales/current assets
o Total asset turnover ratio = sales/ total assets
o Working capital turnover ratio = sales/working capital
 Capital used to finance daily expenses of a business is called
working capital.
o Total capital turnover ratio = sales/total capital
3. PROFITABILITY RATIO
Assess business’ ability to generate earnings relative to its expenses.
𝑔𝑟𝑜𝑠𝑠 𝑝𝑟𝑜𝑓𝑖𝑡
o 𝑔𝑟𝑜𝑠𝑠 𝑝𝑟𝑜𝑓𝑖𝑡 𝑟𝑎𝑡𝑖𝑜 = ∗ 100
𝑛𝑒𝑡 𝑠𝑎𝑙𝑒𝑠
𝑛𝑒𝑡 𝑝𝑟𝑜𝑓𝑖𝑡
o 𝑛𝑒𝑡 𝑝𝑟𝑜𝑓𝑖𝑡 𝑟𝑎𝑡𝑖𝑜 = ∗ 100
𝑛𝑒𝑡 𝑠𝑎𝑙𝑒𝑠
𝑜𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑝𝑟𝑜𝑓𝑖𝑡
o 𝑜𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑝𝑟𝑜𝑓𝑖𝑡 𝑟𝑎𝑡𝑖𝑜 = ∗ 100
𝑛𝑒𝑡 𝑠𝑎𝑙𝑒𝑠
𝒐𝒑𝒆𝒓𝒂𝒕𝒊𝒏 𝒄𝒐𝒔𝒕𝒔
o 𝑶𝒑𝒆𝒓𝒂𝒕𝒊𝒏𝒈 𝒓𝒂𝒕𝒊𝒐 = ∗ 100
𝒏𝒆𝒕 𝒔𝒂𝒍𝒆𝒔
[It shows efficiency of a company at keeping costs low and generating sales]

 Profitability ratios based on capital:

𝑝𝑟𝑜𝑓𝑖𝑡 (before interest and taxes)
o Return on capital employed =
capital employed
∗ 100

𝑝𝑟𝑜𝑓𝑖𝑡 (after interest and taxes)

o Return on equity shares = shareholders′ 𝑓𝑢𝑛𝑑
∗ 100

𝑝𝑟𝑜𝑓𝑖𝑡 (after interest and taxes and preference dividedn)

o Return on equity shareholder ′ sfund = equity of shareholders′ 𝑓𝑢𝑛𝑑
∗

100

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 𝒑𝒓𝒐𝒇𝒊𝒕 𝒂𝒇𝒕𝒆𝒓 𝒕𝒂𝒙𝒆𝒔
o 𝑹𝒆𝒕𝒖𝒓𝒏 𝒐𝒏 𝒂𝒔𝒔𝒆𝒕𝒔 = ∗ 100
𝒕𝒐𝒕𝒂𝒍 𝒂𝒔𝒔𝒆𝒕𝒔

{An indicator how profitable a company is relative to its total assets}

4. LEVERAGE RATIO or capital structure ratios or SOLVENCY RATIOS:
Leverage: means use of debt in order to make an investment.
Solvency is the ability of a company to meet its long-term debts and financial
obligations.
This ratio is calculated to measure viability of a company in the long term. They
calculate debt level of a company in relation to its assets, earnings, equity etc.
And ascertain how well a company is using debt to fund its operations.
𝑡𝑜𝑡𝑎𝑙 𝑑𝑒𝑏𝑡 (𝑙𝑜𝑛𝑔 𝑡𝑒𝑟𝑚 𝑙𝑜𝑎𝑛𝑠)
o 𝑑𝑒𝑏𝑡 𝑒𝑞𝑢𝑖𝑡𝑦 𝑟𝑎𝑡𝑖𝑜 =
𝑡𝑜𝑡𝑎𝑙 𝑒𝑞𝑢𝑖𝑡𝑦 (𝑠ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠 𝑓𝑢𝑛𝑑)
𝑜𝑤𝑛𝑒𝑟𝑠 𝑓𝑢𝑛𝑑 (𝑒𝑞𝑢𝑖𝑡𝑦 𝑜𝑟𝑠ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠 𝑓𝑢𝑛𝑑)
o 𝑝𝑟𝑜𝑝𝑟𝑖𝑡𝑜𝑟𝑦 𝑟𝑎𝑡𝑖𝑜 =
𝑡𝑜𝑡𝑎𝑙 𝑎𝑠𝑠𝑒𝑡𝑠
𝑡𝑜𝑡𝑎𝑙 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
o 𝑠𝑜𝑙𝑣𝑒𝑛𝑐𝑦 𝑟𝑎𝑡𝑖𝑜 = Same as debt equity ratio.
𝑡𝑜𝑡𝑎𝑙 𝑎𝑠𝑠𝑒𝑡𝑠
𝑓𝑖𝑥𝑒𝑑 𝑐𝑜𝑠𝑡 𝑐𝑎𝑝𝑖𝑡𝑎𝑙 𝑙𝑜𝑎𝑛𝑠, 𝑑𝑒𝑏𝑒𝑛𝑡𝑢𝑟𝑒𝑠, 𝑝𝑟𝑒𝑓 𝑠ℎ𝑎𝑟𝑒𝑠
 𝑐𝑎𝑝𝑖𝑡𝑎𝑙 𝑔𝑒𝑎𝑟𝑖𝑛𝑔 𝑟𝑎𝑡𝑖𝑜 = =
𝑣𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝑐𝑜𝑠𝑡 𝑐𝑎𝑝𝑖𝑡𝑎𝑙 𝑐𝑜𝑚𝑚𝑜𝑛 𝑠ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠 𝑓𝑢𝑛𝑑𝑠

High CGR means high financial risk for company.

𝒑𝒓𝒐𝒇𝒊𝒕 𝒃𝒆𝒇𝒐𝒓𝒆 𝒊𝒏𝒕𝒆𝒓𝒔𝒕 𝒂𝒏𝒅 𝒕𝒂𝒙
o 𝒊𝒏𝒕𝒆𝒓𝒆𝒔𝒕 𝒔𝒆𝒓𝒗𝒊𝒄𝒊𝒏𝒈/𝒄𝒐𝒗𝒆𝒓𝒂𝒈𝒆 𝒓𝒂𝒕𝒊𝒐 =
𝒊𝒏𝒕𝒆𝒓𝒆𝒔𝒕
𝑝𝑟𝑜𝑓𝑖𝑡 𝑏𝑒𝑓𝑜𝑟𝑒 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑏𝑢𝑡 𝑎𝑓𝑡𝑒𝑟 𝑡𝑎𝑥
o 𝑑𝑒𝑏𝑡 𝑠𝑒𝑟𝑣𝑖𝑐𝑖𝑛𝑔 𝑟𝑎𝑡𝑖𝑜 =
𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡 +𝑝𝑟𝑖𝑛𝑐𝑖𝑝𝑎𝑙 𝑖𝑛𝑠𝑡𝑎𝑙𝑚𝑒𝑛𝑡

5. MARKET TEST RATIO

Helps assess attractiveness of an investment and get the idea of its valuation. It is
concerned with return on investment.
o Book value per share = shareholder’s fund/no of shares.
o Earnings per share = profit after tax and pref dividend/ no of equity
shares
o Dividend per share = dividend actually distributed/no of shares
o Price earnings ratio = market price per share/earning per share.

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Social accounting & Social Audit:
Definition? Objectives? Process? Difference with other audits? Advantages? Limitations? Way forward? In India.

Definition: social audit is a process by which an organisation/government

accounts for its social performance and seeks to improve its future social
performance.
In case of government schemes it refers to the joint audit of scheme by govt and
people, especially those who are affected by it or are its beneficiaries.
Objectives:
 Empowerment of beneficiaries in matter of planning and implementation.
 To bridge the gap between vision/goals and actual performance.
 Voice to people to participate and be heard.
 Transparency in program management.
 Ensure accountability of managers and implementing agencies.
Process:
It is held at two levels:
1. At organisation/govt level: it is an internal process involving
a. Gathering data for social accounting and social book keeping.
b. Verification of social account by auditors.
2. Community level: by NGOs, or civil society or people in general.
a. Data is gathered on social benefits generated, community’s
expectations, etc.
The two reports are matched and compared, and necessary changes are made in
the implementation of the scheme or program or working of organisation to
ensure that societal expectations are met.
Difference with other audits:
1. Financial audit: objective is to verify the accuracy and fairness of financial
records/transactions.
2. Operational audit: measuring performance against set standards, and
analysing deviations and taking corrective action.

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 3. Social audit: compare the impact of dept.’s work with the societal
expectation through feedback of all stakeholders.

Advantages:
 Focuses on outcomes and helps correctly asses the working of schemes.
 Promote people’s participation and strengthen democratic functioning.
 A tool of grievance redressal.
 Increases accountability
 Reduces gap between vision and reality.
 Provided critical inputs to make corrective changes to schemes, programs.
Limitations:
 Govt: Lack of adequate administrative and political will in institutionalising
social audits. – performed mainly as a formal exercise.
 Administrative apathy – fail to conduct on time, fail to take actions on
recommendations.
 People: Lack of capacity with common populace to understand and analyse
impact on their own, need training and education – reluctant for that.
 Lack of interest and awareness on part of people to participate in the process.
Way forward:
1. Institutionalising the social audit process like law in Meghalaya – uniformity
in audit process; proper documentation.
2. Easy and accessible audit training modules to improve capacity of
beneficiaries.
3. Independent third party to ensure timelines are honoured and
recommendations are acted upon.
Scenario in India:
In India in govt programs it started:
1. Dungarpur, Rajasthan: due to efforts of MKSS, it has got an institutionalised
form- MKSS apply for documents regarding public expenditure from gram
panchayat under RTI act. Then at random one project is chosen and is

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 analysed and compared to the official records. In the process volunteers
interview beneficiaries, GP members. Findings are publically announced
and anyone is free to contradict that. GRM comes into action in case of any
issues.
2. Andhra Pradesh: more organised process of social auditing, state govt
engage NGOs and CSO to train villagers and GP members. These people are
termed , ‘State resource persons’, they in turn train ‘District resource
persons’ and ‘village resource persons’.
a. DRP audit material used under NREGA.
b. VRP audit local expenditure incurred on labour.
c. Findings of the audit are published and discussed in a meeting where
officials are present.
 73rd CAA has given ‘watchdog powers’ and responsibilities to the gram sabha
to supervise and monitor functioning of panchayat and govt functionaries.
Thus in a way providing a constitutional status to social audit.
 Meghalaya became the first state in India to operationalize a law that makes
social audit of government programs and schemes a part of government
practice – 2017.

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