BUSINESS ECONOMICS

A ND

FINANCIAL ANALYSIS

(BEFA)

II Year II Sem
(Common for all Branches of B.Tech)

Dr.NARESH GUDURU
Associate Professor & Head
 UNIT – 1

INTRODUCTION TO BUSINESS ORGANISATION

Business: Structure of Business Firm

Theory of Firm, Types of Business Entities
Limited Liability Companies
Sources of Capital for a Company
Non-Conventional Sources of Finance.
Economics : Significance of Economics
Nature and Scope of Business Economics
Role of Business Economist
Micro and Macro Economic Concepts
Importance of National Income, Inflation, Money
Supply in Inflation, Business Cycle
Features and Phases of Business Cycle
Multidisciplinary nature of Business Economics
Review
 BUSINESS ORGANIZATIONS

Literally business means „Busyness‟ or the „state of being busy ‟. In economic sense
business means work, efforts and acts of people, concerned with the production of wealth.
Business is a kind of human activity, which is directed towards acquiring wealth through the
production and exchange of goods and services. Properly business is an economic activity. The
production or acquisition of goods and services are for personal consumption. It is not be
considered as business. Business is a continuous activity.

Human being wish to have a satisfactory life in order to do so, they perform a number
of activities such activates are guided by objectives that provide the greater satisfaction; different
people do different things to attain maximum satisfactions.
If the activities involve production, purchase and sale of goods desired by the people
such activities are termed as “Business”
Definition of Business:-
Business is a „Human activity directed towards providing or acquiring wealth through
buying and selling goods‟ --- L.H. Haney
“Business may be defined as the regular production or purchase and sale of goods with
the object of earning profits and acquiring wealth through satisfaction of human wants”
In the words of Petersen and plowman, “Business may be defined as activities is which
different person exchange something of value whether goods or services for mutual gain or
profit”
Characteristics of Business:-
From the above definitions, Business will have the following characteristics.

1) Easy to start and easy to close: - The form of business should be such that it should
be easy to start and easy to close. There should not be hassles or long procedures in the
process of setting up business or closing the same
2) Division of labour:- there should be possibility to divide the work among the available
owners the idea is to poll the expertise of all the people in business and run the business
most efficiently
3) Liability: - the liability of the owners should be limited to the extent of money invested
in the business. It is better if their personal properties are not brought into business to
make up the losses of the business.
4) Exchange: - Business involves exchange of goods and services for money or money‟s
worth. On way transactions such as gift given by one person to another do not constitute
business.
5) Continuity of Operation: - Business pre supposes continuity of operations these should
be a regular sequence of dealing isolated transaction such as sale of house do not
constitute business.
6) Profit Motive: - Business activity is motivated by desire to earn profit business has other
objectives apart from. But profit is desired as a fair compensation for the efforts of the
businessman.
7) Risk: - Every business involves some element of uncertainty in the operating
environment. For ex; one may not be able to sell all the goods produced or purchased,
amount due from credit sales may not be collected etc. Risk is an inherent part of
business
 8) Organized Activity: - Business needs to be properly organized to be succeeful. There is
a need for clear definition of roles and responsibilities of various people. Systems are
designed and implemented so that there is co-ordination between the various activities.
9) Taxation: - One of the main sources of income to the government was tax .Based on
the level of the income business organizations want to pay the tax to the government
More income means more tax less income means less tax.
10) Secrecy: - The form of business organization you select should be such that it should
permit to take care of the business secrets. we know that century old business units are
still surviving only because they could successfully guard their business secrets

Types of Business Entities:

Business undertaking can be classified on different criteria, such as nature of business
and the activities involved. They can also be classified on the basis of ownership of the business
.business may be owned by – public authority such as state government or central government
such business are called “public sector enterprises”. Alternatively, undertaking owned by private
citizens is known as „private enterprises” private enterprises could be owned by a single person
or by a group of persons.
1) Sole trader or Proprietorship
2) Partnership
3) Joint Stock Company
4) Limited Liability Companies

SOLE TRADER (OR) PROPRIETORSHIP:

Sole trading business is the simplest and oldest and natural from of business
organization. It is also called sole proprietorship “sole” means one. Sole trader impels that there
is only one trader who is the owner of the business. Such person introduces his own capital or
borrows from others. uses his own skills or employs people working under his direction, is in
personal touch with the routing of the business, takes all the decisions concerning the business
and is completely responsible for the profits made or losses incurred by the business .the person
is called a sole trader. This business is called one man organisation
Main feature or characteristics:-
1. It is easy to start a business under this from and also easy to close
2. He introduces his own capital. Sometimes, he may borrow, if necessary.
3. He is completely responsible for the profits made or losses incurred by the business
4. Centralization of authority sole trading is the one person show. Total authority can be
enjoyed by him only.
5. Lack of system sole trader organization is largely unorganized. There are no clarity
defined roles and responsibilities.
6. Small size all sole trader concerns are smaller in size this is mainly because the amount of
capital that can be invested by a single person is limited
Merits of Sole Trading:
1. The establishment of a sole trading is very easy and simple. There is no need for
detailed legal formalities to from such a concerns.
2. It is very easy to carry on business operations. The day to day working is free from
legal interference. There is flexibility in operation.
3. Quick decision making he can take decisions very fast and implement them promptly.
 4. Incentives to work the sole trading form of business provide the best incentives to
improve performance. All the profits resulting from efforts made by the proprietor are
enjoyed by him.
5. Self employment sole trading business organization provides an alternative for capable
people who are not able to get employment; it serves a useful social purpose as lack of
employment can result in of frustration among such people, leading to crime.
6. Direct contact with customer the sole trading business organization provides direct
contact with customers. He is therefore able to understand their changing needs better.
He can ascertain their taste, attitude and habits and understand their difficulty.
7. Secrecy business secrets can well be maintained because there is only one trader.
8. Total control the ownership and management and control are in the hands of the sole
trader and hence it is easy to maintain the hold on business.
9. Law rate of Tax the rate of income tax was very low camphare to other business
organizations
10. Easy to close the sole trader can decide to close down his business at any time he does
not have to go through lengthy legal procedures or obtain approvals.
De - Merits of Sole Trading;
1. Limited capital the amount of capital that a person can invest in a business is limited
moreover he cannot get unlimited credit.
2. Unlimited liability the creditor of the business concern can invest the private property
of the businessman in settlements of their dues. Thus, there is a possibility that the
proprietor may become a pauper because of one single mistake in business.
3. Uncertainty there is no continuity in the duration of the business on the death.
Insanity or insolvency the business may come to an end.
4. Limited growth potential this firm is suitable for only small size, One-man-show type
of organization. This may not really work out for growing and expanding organization.
5. Low bargaining power the sole trader is in the receiving end in terms of loans or
supply of raw materials. He may have to compromise many times regarding the terms
and conditions of purchase of materials of borrowing loans from the finance houses or
banks.

PARTNERSHIP
Meaning and Definition:
According to the Oxford Dictionary for the Business World. “Partner is a person who
shares or takes part in activities of another person.
Partnership is an association of two or more people formed for the purpose of carrying on
a business”.
According to Indian Partnership Act 1932”Tthe business which is organized by two are more
than the two persons for the purpose of distribution of profit and losses equally”
MAIN FEATURES OR CHARACTERISTICS
1. No. of Persons: One person cannot have a partnership. It is a joint effort of at least two
persons to start a partnership.
2. Restriction on Number of Partners: Unlike a Joint Hindu Family or a Cooperative
Society, there is a restriction on the maximum number of people who can start a
partnership. The number of partners cannot exceed 20 persons, and in case of banking
business, the maximum number of partners is restricted to 10 persons.
3. Contractual Relationship: The relationship of partners is bound by the legal agreement
or contract entered into by each of them. This agreement is called a „Partnership Deed‟.
 4. Sharing of Profits: The intention of partners is to earn profit through collective effort.
The profits earned are shared by partners as per the terms agreed upon by them. Any
loss arising out of business transactions is also shared by the partners. It is not necessary
that profit or loss is to be shared on the basis of capital contributed by the partners.
5. Principle Agent relationship: Each partner is both an agent and a principal of the
partnership firm. The partner is a principal because he is responsible for his own acts and
the acts of other partners. He is an agent of the firm as he can act on behalf of other
partners and bind them with his acts.
6. Utmost Good Faith: Partners can bind each other by their action. Hence, each partner
must be true to all other partners and disclose all the information in his possession to the
other partners. Thus, utmost good faith is very crucial as the business cannot be run without
mutual trust.
MERITS:
1. Ease of Formation: Any two persons capable of entering into contract can start
partnership. The partnership deed can be oral or written. Registration is not compulsory.
Thus, partnership is very easy to form.
2. Flexibility of Operations: There is considerable freedom in carrying out business
operations. There is no need for taking approvals from Government or any other
authority, to change the nature scope or location of the business.
3. Greater Financial Resources: Partnership combines the financial strength of all
partners, as the liability of partners is joint and several. Not only is the ability to
contribute capital greater, it also enhances the borrowing capacity of the firm.
4. Incentive to Hard work: Partners have share in the profits of the firm. Partners put in
hard work and try to increase profits of the firm. A sincere and committed effort brings
in extra rewards.
5. Risk Reduction: The profits and losses are shared by all partners. Similarly, if the firm is
unable to meet any of its payment obligations, all partners are responsible. Thus,
partnership offers risk reduction as the risk is spread across partners.
6. Maintenance of Secrecy: A partnership firm is a closely held business. It is not required
by law to share its performance and position with others. Thus, all knowledge about the
firm is restricted to only the partners of the firm.
7. Personal contacts with Staff and Customers: A partnership concern is a relatively
small organization, whose activities can be managed by a group of people. Thus, partners
keep in close contact with customers and staff. They are thus able to note the changing
tastes and attitudes and react faster to such changes.
8. Early Dissolution: It is very easy to dissolve the partnership firm. Any partner can ask
for dissolution of firm by giving a 14 day notice. The firm can be dissolved on death,
insolvency or lunacy of any partner. No legal formalities are required.
DEMERITS
1. Unlimited Liability: Partners become fully liable for all claims against the firm to an
unlimited extent. The partner might lose all the savings of his life on account of a loss or
a mistake in business.
2. Restriction on Transfer of Interest: One of the golden rules of any investment is that
there must be an easy exit. If partner needs money, or is not in agreement with others, he
cannot transfer his interest in the firm to outsiders without the consent of outsiders.
3. Delay in Decision making: While day to day management is handled by one or more
partners independently, any major decision requires the consent of all partners. A
discussion and consensus on decision to be taken might be time consuming, resulting in
the firm losing out on prompt action.
 4. Lack of Public Confidence: The affairs of the firm are not subject to public scrutiny.
The performance and position of the firm is not published. Hence, the firm does not
enjoy any public confidence.
5. Distribution of profits and losses:- 6. High tax payment:
Company
Sole proprietary concern is the business of one person. Partnership is a collective effort of
more than one person, subject to a maximum of 20 persons. However, if the scale of operations
is such that it requires financial resources from more than twenty persons, a Joint Stock
Company needs to be formed. There are certain features and advantages of a Joint Stock
Company that may prompt even two persons to start a Joint Stock Company. Each person who
contributes his money to the company on ownership basis is called a „Share Holder‟ and his
contribution is called the „Share Capital‟ held by him.
Another aspect of Joint Stock Company is that it is treated as a separate artificial person.
Thus, it is different from the persons who have contributed towards the capital of the company.
Moreover, the number of people who have contributed the capital of the company. Moreover,
the number of people who have contributed the capital being large, all people cannot be
involved in decision making. Hence, the shareholders elect the people who manage the company.
The shareholders don‟t have to commit their time for management of the company. They can
continue to work in other organizations or carry on their own business, irrespective of the
business of the company.
The above factors have been brought out in the following definitions:
“A Company is a voluntary association or organization of many persons who contribute money
or money‟s worth to a common stock and employ it in some trade or business and who share the
profit or losses arising there from”--- Lord Justice Lindley.
Lord Justice Lindley further explains that “The common stock so contributed is denoted
in many and is the capital of the company. The persons who contribute it or to whom it belongs
are members of the company. The proportion of capital to which each member is entitled is his
„share‟. The shares are of fixed value and the whole capital of the company is divided into equal
number of shares. The shares are generally transferable although under certain circumstances,
the right to transfer may be restricted”.
“A person – artificial, invisible, intangible and existing only in contemplation of the Law”
– Chief Justice Marshall.
“A voluntary association of individuals for profit, having a capital divided into
transferable shares, the ownership of which is the condition of membership” Prof. L.H.Haney.
“An artificial person (being an association of natural persons) recognized by law, with a
distinctive name, a common seal, a common capital comprising of transferable shares of fixed
value carrying limited liability, and having a perpetual (continuous uninterrupted) succession”-
Y.K.Bhushan.
“A company having permanent paid up or nominal share capital of fixed amount divided
into shares, also of fixed amount, held and transferable as stock and formed on the principles of
having in its members only the holders of those shares or stocks and no other persons” –
Indian Companies Act, 1956.

Features:
1. Artificial Person: Accompany is an artificial person existing in the eyes of Law. It can
enter into contracts, purchase and sell goods, own property, use others and also get used,
just like any other natural person.
2. Separate Legal Entity: The Company being artificial person, it is different from its
shareholders. A shareholder cannot represent the company. A shareholder can enter into
 a contract with the company. The shareholder can also start a business competing with
the business of the company.
3. Number of Persons: A minimum of two persons are required to start a company. The
maximum number of shareholders cannot exceed 50 in case of a Private Limited
Company. In case of a Public limited company, a minimum of 7 members are required
and there is no maximum limit.
4. Registration: Registration is compulsory for a Joint Stock Company. Al companies have
to be registered with Registrar of Companies as per the provisions of Companies. Act,
1956.
5. Limited Liability: The liability of shareholders is limited to the extent of his share
capital. The personal property of the shareholder cannot be claimed in satisfaction of
dues from the company.
6. Transferability of Shares: A shareholder can get out of the business by simply
transferring his shares to any other person. The contribution of the organization is not
effected on such transfer.
7. Continuation: A company continues to be in existence until it is wound up. Thus, life of
the company can be perpetual. It is not related to life of shareholders.
8. Ownership and Management are Separating: Shareholders are the owners of the
company. However, all shareholders cannot involve themselves in the management of
the company. Shareholders elect the people who shall be authorized to manage the
company. Professionals might be recruited for the purpose. Thus, owners and managers
are different people.
9. Common Seal: A company can enter into agreements and contracts through its
representatives. A seal is embossed in the documents, which signifies the acceptance of
terms of contract by the company. Thus, the „common seal‟ is the Signature of the
company.

Merits
1. Permanent existence. The life of the company is permanent. It is not affected by
the death, incapability, lunacy and insolvency of the shareholders. It has separate legal
entity. The ownership and the management of the company changes smoothly
without the dissolution of it company.
2. Limited liability. The maximum liability of the shareholders of the company is
limited to the face value of shares held by him. The personal assets of the
shareholders cannot be attached, even if the company is unable to meet the claims of
outsiders.
3. Availability of large capital: The capital of the company is contributed by its
shareholders, whose number is unlimited as much as the company requires. The face
value of shares being nominal and the liability of shareholders being limited, these
shares are easily sold, and the required capital is collected.
4. Transferability of shares: The shares of the company are transferable easily.
Whenever the shareholder wants the money back, he can obtain it by selling his
shares. This special feature also ensures that the company will not be required to
refund the capital. The shares of the company are purchased and sold in the stock
exchange in the open market.
5. Economics of large scale: The company form of business organization assumes
very large size because of huge share capital and professional management. This is
why; the company enjoys internal and external economies of large scale enterprise.
 6. Tax relief: The laws offer certain developmental rebates and concessions on certain
commodities of export promotion and for the establishment of industries in
backward regions. The company is charged income tax at flat rate. As such the tax
liability on higher income is comparatively lo9wer.
7. Diffused risk: The risk of business is shared among innumerable shareh0olders, so
every shareholder, has to bear nominal risk. This is not the case in proprietorship and
partnership, where the loss to be borne by the individual proprietor and limited
number of partners 0of a firm individually or collectively.
Demerits

The company suffers from the following limitations:

1. Legal formalities: Formation of company requires a lot of legal formalities and
filing of several documents. It is time consuming and expensive. Delay in filing of
reports invites punishment. All these formalities make the formation of company
difficult.
2. Fraud by promoters: Sometimes promoters of companies play fraud in the
formation of company. They conceal material facts and cheat the shareholders. They
manipulate the books of accounts in their favor. Promoters are rich people. They
gain the experience at the cost of investors‟ funds, because they are not going to lose
anything.
3. Speculation in shares: The shares of the company are purchased and sold in the
open market. This practice encourages speculation, an immoral activity.
4. Lack of secrecy: It is very difficult to maintain secrecy in the company. Every
matter has to be discussed in the board of directors meeting or in the annual general
meeting of shareholders. This is why, there is delay in the decisions and sometimes
opportunities are lost.
5. Delay in Decision making: In company form of organization no single individual
can make a policy decision. All important decisions are taken either by the board of
directors or shareholders. Decision making process is time consuming.

LIMITED LIABILITY COMPANIES

A limited liability company (LLC) is a corporate structure whereby the members of the company
cannot be held personally liable for the company's debts or liabilities. Limited liability companies
are essentially hybrid entities that combine the characteristics of a corporation and a partnership
or sole proprietorship. While the limited liability feature is similar to that of a corporation, the
availability of flow-through taxation to the members of an LLC is a feature of partnerships.
SOURCES OF CAPITAL FOR A COMPANY / NON-CONVENTIONAL SOURCES OF
FINANCE.

A business firm requires finance to trade/commence its operations and for expansion. Money is
required for all types of business activities. Without adequate capital no enterprise can achieve its
objectives.
„Business finance‟ term refers to „acquisition of capital funds to meet the financial needs of a
business organization‟

Depending upon the nature and purpose business finance is classified into two types.
They are

a. Fixed capital (Purpose is to acquire fixed assets)

b. Working capital (To meet day to day maintenance of business)

Features: For the effective maintenance of business operations, business finance helps a lot.
Business finance includes both stages of acquiring the funds and proper utilization of funds
.
The following are the some of the features of business finance.

1. Business finance includes all types of funds used in business

2. It needs for all types of organizations like small, large, trading or manufacturing

3. The amount needed may differ from firm to firm. But the need is the same.

4. It involves an estimation of funds.

5. And it is also responsible for the optimum utilization of funds.

SOURCE BUSINESS CAPITAL/FINANCE:

Money is required for all types of business activities. Without adequate capital no enterprise can
achieve its objectives.

1. Long term finance

2. Medium term finance
3. Short term finance

1. Long term finance: Funds that are required in the business for long period are termed as
long term finance. Usually these funds are required for a period of 5 to 20 years. Long term
finance is essential to invest in fixed assets, expansion and modernisation of business and its
processes. It depends upon the size, nature and level of technology of the business. The main
sources of long term finance are:

* Issue of shares
* Issue of debentures
* Loans from banks and other financial institutions
* Hire purchasing
* Retained earnings etc.,

2. Medium term finance: Funds that are required for a period of 1 year to 5 years are known
as medium term finance. These funds are used for
* Modernization of machinery

* To meet huge advertisement expenses

* Launching new products

* Opening new branches etc.,

These types of funds are highly required for manufacturing concerns. To adopt technological
changes and to prevent competition threats, medium term finance is needed.
The main sources of medium term finance are

* Issue of shares
* Issue of debentures
* Loans from Bank‟s and financial institutions
* Public deposits
* Retained earnings etc.,

3. Short term finance: This type of finance is needed for a short period up to one year. Short
term finance is used to meet working capital (day-to-day expenses / maintenance) needs. These
funds are having recurring in nature. The amount required depends upon mainly on the nature
of the business. Like manufacturing, trading, banking etc., The order and delivery time, the
volume of business operations play an important role. The main sources are,

* Bank Credit
* Trade credit
* Installment credit
* Retained earnings
* Customer advances etc.,

ECONOMICS
The word economics is derived from a Greek term “OCIO NOMOS” which
means house management it explains how different individuals behave while managing their
economics activities. Economics teaches us how a person tries to satisfy his unlimited desires
with the limited resources at his disposal. In other word it teaches us how to use the available
scares resources to meet our unlimited desires. Hear the question of choice comes in the need
for choice arises in the context of “Scarcity”.
MANAGERAL ECONOMICS:
Economics is concerned with determining the means of achieving given objectives in the
most efficient manner. While managerial economics is the application of economic theory and
private institutions. It is an extraction from economic theory, particularly micro economics those
concepts and techniques which enable the decision. Makers to efficiently allocate the resources
of the firm. If also enables the decision makers to understand the economic environment and the
effect of changes in this on resources allocation within the organization
Definition:
Economics is deals with money or money oriented activities.
According to M N Nair‟s and Meram “Managerial economics consist of the use of economic
modes of thought to analyses business situations”
According to Haynes “Managerial economics is economics applied in decision making”.
Nature & Scope of Managerial Economics:-
The nature of economics can be known through its relation with micro and macro
economics normative and descriptive economics, the theory of decision making operations
research and static‟s. It is said that a successful business economist will try to integrate the
concepts and methods from all the disciplines.
The main focus in managerial economics is to find an optimal solution to a given managerial
problem. The problem may relate to production, reduction or control of costs determination of
price of a given product or service make or buy decision inventory decision. Capital management
investment decision or human resource management.
The economist is concerned with analysis of the economy as a whole where as the
managerial economist is essentially concerned with making decision in the context of a single
firm.
The main areas of managerial economics
 Demand analysis
 Cost analysis
 Production
 Pricing decisions
 Profit management
 Capital management
Demand analysis:-
A business firm is an economics organism which transforms productive resources in to
goods that are to be sold in a market. A major part of managerial decision making depends on
accurate estimates of demand. Demand analysis helps identify the demand for a form products
and it‟s provide guidelines to manipulate demand.
Cost analysis: -
Every business firm wants to have minimum production cost estimation is essential for
decision making. Every manager should know the causes of variations in cost. Cost control is
essential for pricing policies.
Production decisions:-
This decision deals with changes in the production following changes in input which
could be substitute are complementary. The entire focus of this decision is to optimize the
output at minimum cost. Based up on the demand of the product only the organizer can take the
decision to produce the goods.
Pricing decisions: -
The prices of products bring income to the firm. Profits the difference between total
income and total cost. The success of the business firm depends upon the correct price fixing. It
covers price determination in various markets.
Profit management: -
The primary aim of firm is to maximize profits. Profits depend upon the difference
between revenue changes for a number of reasons. Hence uncertainty in profit planning. It
includes profit policies, brake even analysis.
Capital management: -
Investment decisions are the more complex decisions it includes methods and techniques
used to select the best proposal. The topics covered are cost of capital, capital budgeting.

VARIOUS DEFINITIONS OF ECONOMICS (or) THEORY’S OF ECONOMICS

There are a large no of definitions of economics given by various economists some of
the definitions given by some well know economists are discussed here.
ADAM SMITH”S Definition;-
Adam smith the first among the classical economists and the” father of economics” published
a book in 1776 “WEALTH OF NATION” in this book he defined economics as a Science of
wealth .The other early economists also accepted this definition but this definition received
severe criticism as it exclusively paid its attention to wealth as if wealth was everything.
According to Adam‟s definition every thing is related to money/ finance, if have the
finance we can assume any thing, if we don‟t have the money/ finance we can‟t assume any thing
Main features of wealth definition
1. economics is the study of wealth
2. wealth mean only material things, non material goods like services are not included
3. Human being are guided by self interest
ALFRED MARSHALL’S Definition:-
Welfare definition is given by marshal he tried to decreased the defects of wealth
definition according to marshal economics is the one side of study of wealth & the other more
important side it is a part of study of man
When marshal said that economics is a science of ordinary business life that it tells us
about a man‟s way of living that is how he earns his income and how he spends it.
According to marshal economics is human welfare – not the whole of human welfare but
only a part of it namely economics. or rendering services to the society.

Main features of welfare definition

1. Economics is a study of mankind in the ordinary business of life
2. Marshal given primary importance to man where wealth is given in secondary position
3. When marshal said that economics is a science of ordinary business life . In spite of all this
marshal definition was also criticized by Robbins has objected to the welfare definition on the
ground that it includes with in its preview only material welfare. It ignores are excludes non
material welfare of human being.

ROBBIN’S Definition:-
Prof. Robbins has advanced his own definition of economics in 1931 in his famous book of an
essay on the nature and significance of economics science he introduced scarcity definition of
economics
According to him Economics is the science which studies human behavior as a relation
ship between unlimited wants, limited resources which has alternative uses.
Main features of scarcity definition
1. Human wants are unlimited we cannot satisfy all our wants.
2. Resource is limited
3. Resources have alternative uses
4. His definition is universal
BRANCHES OF ECONOMICS
Economics is a vast and expanding science for an easier understanding and analysis of
these different types of economics activities the subject is classified into two broad divisions.
1. Micro Economics
2. Macro Economics
MICRO ECONOMICS:-
The word micro means a” millionth” part or very small the study of individual units are
called micro economics. It deals with individuals or single units. The micro economics is called
as a price theory.
Micro economics is based on the assumption of full employment another important
assumption is free from trade system in the economy.
Importance of micro economics:-
1. It explains how the price mechanism determines the production and distribution
2. it explains how the factor prices product prices are determined
3. It explains how the producer will get maximum product with minimum cost
MACRO ECONOMICS: -
Macro economics is the study of economic system as a whole it studies not the individual
economics units like consumer but whole economic system “MACRO” means big it is well
developed by J.M.KEYNES. The macro economics is called as an income and employment
theory. This theory deals with aggregates and average of the entire economy for example national
income, aggregates demand, aggregates savings, aggregates investment etc.
National Income
 Gross National Income (GNI) is defined as GDP (Gross Domestic Product; income generated
by production activities on economic territory of that particular country) plus the net receipts
from wages, salaries, property income taxes, and subsidies of the country's citizens abroad minus
the income earned in the domestic economy by non residents.

While per capita gross domestic product is the indicator most commonly used to compare
income levels, there are two other measures are generally preferred by analysts: per capita Gross
National Income (GNI) and Net National Income (NNI). Whereas GDP refers to the income
generated by production activities on the economic territory of the country, GNI measures the
income earned by the residents of a country, whether generated on the domestic territory
or abroad, NNI is GNI net of depreciation.

In most countries, net receipts of property income account for most of the difference between
GDP and GNI. However, it is important to note that retained earnings of foreign enterprises
owned by residents do not actually return to the residents concerned. Nevertheless, the retained
earnings are recorded as a receipt of property income. A counter entry of the same amount is
treated as a financial transaction (a reinvestment of earnings abroad, in shares and other equities)
and not as a payment of property income.

Countries with large stocks of outward foreign direct investment may be shown as having large
receipts of property income from abroad and therefore high GNI even though much of the
property income may never actually be returned to the country but instead added to foreign
direct investment. For most OECD countries, GNI per capita does not differ significantly from
GDP per capita

The Importance of National Income

Measuring national income is crucial for various purposes:

1. The measurement of the size of the economy and level of country‟s economic
performance;
2. To trace the trend or the speed of the economic growth in relation to previous year(s)
also in other countries;
3. To know the composition and structure of the national income in terms of various
sectors and the periodical variations in them.
4. To make projections about the future development trend of the economy.
5. To help government formulate suitable development plans and policies to increase
growth rates.
6. To fix various development targets for different sectors of the economy on the basis of
the earlier performance.
7. To help businesses to forecast future demand for their products.
8. To make international comparison of people‟s living standards.
 INFLATION, MONEY

Inflation is basically a rise in prices. (or)A more exact definition of inflation is a situation of a
sustained increase in the general price level in an economy. Inflation means an increase in the cost
of living as the price of goods and services rise.

Inflation and value of money

 Inflation leads to a decline in the value of money. “Inflation means that your money won’t buy
as much today as you could yesterday.”
 The inflation rate is the annual percentage change in the price level.
 Inflation is measured by government statistics such as RPI (retail price index) and CPI
(consumer price index)

INFLATION

Inflation is the rate at which the general level of prices for goods and services is rising and,
consequently, the purchasing power of currency is falling. Central banks attempt to
limit inflation, and avoid deflation, in order to keep the economy running smoothly.

MULTIDISCIPLINARY NATURE OF BUSINESS ECONOMICS:

The scope of a subject will be more clear by way of it‟s relation with other branches of
learning. Managerial economics has a link of connection in the basic lines of so many fields of
studies such as.
1. Econometrics (or) Statistics
2. Accounting
3. Mathematics
4. Public economics
5. Operation research
6. Decision making

Self Assessment Questions

1. a) What are the different types of Business organizations?
b) What are the features of Sole trading form of Organization?
2. a) What are the salient features Partnership firm
b) What are the advantages and limitations of partnership firm?
3. a) What do you mean by Joint Stock Company? What are the salient features?
b) Describe the advantages and disadvantages of Joint Stock Companies?
4. Distinguish between the Joint Stock Company and Partnership.
5. Define National Income and explain it‟s importance
 UNIT – II
_______________________________________________________
DEMAND AND SUPPLY ANALYSIS
,
,
 Introduction , Elasticity, Types of Elasticity

 Law of Demand

 Measurement and Significance of Elasticity of Demand

 Factors affecting Elasticity of Demand

 Elasticity of Demand in decision making

 Demand Forecasting: Characteristics of Good Demand Forecasting

 Steps in Demand Forecasting

 Methods of Demand Forecasting

 Supply Analysis: Determinants of Supply

 Supply Function & Law of Supply

 ELASTICITY OF DEMAND
DEMAND
In ordinary language demand means desires. but in economics demand has a separate
meaning which is quite differ from above meaning a person has a desire it can‟t became demand
in economics. A desire which is backed up by
Having want,
Ability to buy,
Willingness to pay at the price is called demand.
“Thus the quantity of commodity purchased at a given price at a given time in a given market is
called demand”.
Demand function:-
The demand function explain the relationship between the demand for a commodity and
its various determinants may be express mathematically is called “Demand function”
Mathematical Equation:-
Dn = f {P1, P2, I, T, P……….n}
Where as:
Dn: demand for commodity
F : function
P1 : price of the product
P2 : price of other product
I : Income of the consumer
T : Taste & habits of consumer
P : Population
LAW OF THE DEMAND:-
Law of Demand states that demand varies inversely with price, not necessarily,
proportionately; if the price falls demand will extend and rice versa. The law can also be stated as
“A rise in the price of a commodity or service is followed by a reduction in demand remain
constant i.e., demand is subjected to several influences, the operation of any of those influences
may counteract the law”.
Obviously the law of demand is based on the law of diminishing marginal utility.
The law of the demand thus it started as where the remaining all are constant the higher
price leads to lower demand for the goods and lower price leads higher demand for the goods
(or) where the remaining all are constant there is inverse relation between price and demand .it
explains the consumer should purchase high at lower price and low quantity at higher price. In
other words

“When price increase demand will decrease”

“When price decreases demand will increase”
This is called inverse relation between price and demand because of inverse relation demand
curve moves to left to right down forward
Demand schedule:-
The law of demand if expressed in the form of a table is called demand schedule.

Price of the product Demand of the product

10 2000
12 1600
16 1200
18 800

The law of demand if expressed in the form graph called demand curve
DEMAND CURVE

Price/cost

Demand
DETERMINENTS OF DEMAND:-
The demand for a commodity or service depends upon a number of factors. These include:
a. Price Of the Commodity
b. Income of the consumer
c. Price of relative goods
d. Taste and habits of the consumer
e. Population
f. Climate condition
a) Price of commodity:
The price of a given commodity is an important factor influencing its demand. If the
price is very high, only few rich persons can offer to buy it. Hence, the quantity of the
commodity bought at this high price will be lowlife; the commodity will have a lower demand.
On other hand, if the price is low, it will be within the reach of a large number of people to buy
it. Consequently, a greater amount of the commodity will be bought and demand shall be high.
Thus the price of commodity or services is an important determinant of the level of its demand.

b) Income of the consumers:

When the consumer income increases the demand for goods and services will be
increased. If consumer income decreases demand also decreases.
c) Price of relative goods:
The demand for a commodity is affected by the prices of relative goods. In the case of
substitute goods if “x” commodity prices increases “y” commodity demand will be increased and
vice-versa. And in the case of complementary goods if “x” commodity prices increases “y”
commodity demand will be decreased and vice-versa.
d) Tastes and habits of consumers:
Consumer has the sovereignty power in the economy. Consumer is the king of market
economy. Tastes and habits of the consumer differ from person to person, place to place and
time to time. So, tastes and habits which in terms influence the demand for the commodity.
e) Population:-
The quantity of population also determines the demand. If population increases demand
will be increased, if the population decreases demand also decreases
f) Climatic conditions:
According to the climatic conditions the change will becomes for the different types of
goods. Eg:-There will be higher demand for cool drinks in summer and more demand for
umbrellas in rainy seasons.
EXCEPTION OF THE DEMAND:
The law of the demand may not be applicable in all cases. In such cases if the price is
increasing demand also increases, if the price decreases demand also decreases such cases are
called exception of the demand.
 Giffen goods
 Veblen goods
 Population
 Consumer Expectations
 Seasonal business
GIFFEN PARADOX:-
Giffen observed that when the price of the product is decreasing the demand for the
product is decreasing. These products are called inferior goods. Similarly when the price of the
product is increasing the demand is also increasing. Such types of products are called superior
goods. In this case demand curve moves left to right up forward.
VEBLEN GOODS:-
Veblen goods are also called prestige goods. Commodities gold diamond etc, are called Veblen
goods. Generally rich people purchase these goods for the prestige and greatness .the use if such
article increases the prestige of the owners so richer may purchase more when prices increases
demand also increases. When price decreases demand also decreases. It is stated by Veblen these
goods are called Veblen goods. In this case demand curve moves left to right up forward.
POPULATION:-
The quantity of population also determines the demand. If population increases demand
will be increased, if the population decreases demand also decreases
COMSUMER EXPECTATIONS:
Whenever the consumer expects a further fall in the price in future he will not purchase
the products or goods immediately .when price decreases demand tends to decline. Similarly
when the consumer expect a future increase in the piece for the future he will demand the
product immediately

Elasticity of Demand
INTRODUCTION:
There is inverse relationship between quantity demand and the price of the commodity
as per the law of demand. This law does not state the degree of change in demand due t6o
change in price. There are commodities whose demand is more responsive and others less
responsive to change in the price.
Responsiveness‟ of the demand to change in price of commodity is known as elasticity of
demand. In other words the concept of elasticity of demand explains the definite relationship
between changes in demand and price of the commodity.
In simple words “the change in quantity demanded due to change in price” is termed as
elasticity of demand.
In other words when we measure the proportionate change in the quantity demanded of
a commodity due to change in its price it is known as elasticity of demand. It is a qualitative
statement.
Demand elasticity is the percent change in the sales that accompanies percent changes in any
demand determined is called elasticity.
The important demand elasticity‟s are:
1. Price elasticity
2. Income elasticity
3. Cross elasticity
PRICE ELASTICITY:-
Price elasticity demand: it is also called demand elasticity. It is defined as the percentage
change of demand and percentage change of price.
Price Elasticity (EP) = Percentage change in quantity demand
Percentage change in price
INCOME ELASTICITY OF DEMAND:
Income elasticity can be defined as the degree of responsiveness of quantity demand to a
given change in income. The income elasticity of demand can be measured by the fallowing
formula.
Income elasticity of demand (EI) =Proportion change in quantity demanded
Proportion change in income
CROSS ELASTICITY OF DEMAND:
The effect of the change in the price of related goods upon the demand for a particular
commodity may be determined by measuring the „cross elasticity of demand‟. Cross elasticity of
demand can be defined as “The degree of responsiveness of quantity demanded of „X‟ as a result
of change in the price of Y.
Measurement and Significance of Elasticity of Demand

The concept of elasticity is very useful to the policy – makers alike it is a very valuable
tool to decide the extent of increase or decrease in price for desired change in the quantity
demanded for the products and services in the firm or the economy.
The following as its applications:
 To fix the price of factors of production
 To forecast demand
 To plan the level of production & price
 To formulate or revise government policies
 To fix the prices of goods.
 Determine the price changes in the market.
1. Elasticity of demand unity (E=1)
2. Elasticity of demand more than unity (E>1)
3. Elasticity of demand less than unity (E< 1)
4. Elasticity of demand perfectly inelastic (E= 0)
5. Elasticity of demand perfectly elastic (E= ∞)
1) Unit elasticity: - When a change in price brings about equal and proportionate changes in
demand. We say that the demand has unit elasticity.

2) Elasticity of demand more than unity: - In this case, a small change in price cause a more
than proportionate change in the quantity demands.

3) Elasticity of demand less than unity: - When a change in the price of commodity produces
less than proportionate change in the quantity demand, we say that the demand is relatively in
elastic.

4) Elasticity of demand perfectly inelastic: - Whether price falls or rise there is no change in
demand. In other words, demand non-responsive to price changes indicating the demand is
perfectly inelastic.

5) Elasticity of demand perfectly elastic: - Whether Demand falls or rise there is no change in
price. In other words, price non-responsive to demand changes indicating the demand is
perfectly inelastic.
Income Elasticity of Demand

Factors affecting Elasticity of Demand

Elasticity of governed by a number of factors change in any one of these factors is likely to
affect the elasticity of demand. The factors are:
Nature of the Product:
The products and services are classified into necessities, comforts & Luxuries.
Necessaries imply the absolute or basic necessities such food, clothing, shelter comforts refer to
T.V. Refrigerator etc. luxuries we mean sofa sets marble flooring in a house and such others.
Based as on the requirement goods will get demand for necessities comforts and luxuries.
Number of Alternative Uses: If the numbers of alternatives uses are more the demand is said
to be highly in elastic and vice versa. Take the case of power or electricity it is used for a number
of alternative uses such as running of machines in industries, offices, households, trains etc.
Tastes and Preferences of the Consumers:
Where the customers is particular about his taste and preferences the product is said to
be inelastic for the customers who are particular or total to certain brands such as Colgate, Tata
tea etc, prices increases do not matter they tend to buy that brand in spite of the price changes.
Price of the Products:
If the price of a product is expensive or very cheap then the product is likely to have or
inelastic demand. If the price is too high a fall in it will not increase the demand much similarly
if the price is too low a further fall in its price is not likely to result in more demand. The
demand of the relatively poor people is more sensitive to price changes. In order to derive
maximum satisfaction from their limited income they try to plan their purchases in response to
changes in prices the rich may not bother about price changes.
Disability of the product: Where the product is durable in case of consumer durable such as
T.V. the demand is elastic. In the case of possible goods such as milk the demand is inelastic.
Government Policy:
 The important aspect to get more demand for a product is Govt policy. If the Govt
policy is liberal the product it likely to have elastic demand. (More demand for the product)
Availability of Subsidies:
Subsidy refers to money paid by a Government or other public authority in order to help
a company financially or to make something cheaper for the public. There is need for subsidies
in case of goods with inelastic demand such as LPG, Sugar, and Wheat are so on.
Change of Income: The demand for various commodities are affected in different degrees due
to change in income in case of increase in the income of consumers the demand for luxuries will
fall. As such demand for luxuries is more elastic in relation to change in income in care of
comforts it is less elastic and in case of necessaries it is probably inelastic
Selecting a proper method of forecasting:
Another step is to select is to select suitable methods of forecasting in view of the
objectives, availability of data, etc.For example, if the data shows cyclic fluctuations, the use of
linear trend will be suitable. Similarly, general trend may be more useful for long-term
forecasting, while seasonal patterns will be more important for the short-term forecast.

Demand Forecasting: Characteristics of Good Demand Forecasting

Methods of Demand Forecasting

1. Survey method:
The survey method is most extensively used method in India. Under this method surveys
are conducted to collect information about the future plans of the potential consumers. The
survey method is generally used for short-term forecasting.
2. Collective opinion method:-
Under this method the opinions of those who have the feel of the market, like salesmen,
professional experts, and market consultants etc; are collected.
3. Expert opinion (Delphi) method:
This technique of forecasting is based on the opinions of the experts in the business
world. This method is used for demand forecasting and manpower planning. It is also widely
used in the areas of technological and environmental forecasting, defense strategies but urology,
foreign affairs etc.This technique is usually applied in uncertain areas where past data (or) future
data cannot be used much.

4. Statistical method:
 Trend projection method is a statistical technique which makes use of sometime will be
having sales data pertaining to different periods. These data, when arranged chronologically, give
a “time series”. This time series reveals the past demand pattern of the product. Based on this
demand pattern a sales trend is extrapolated into the future.
5. Controlled experiments method:
Here studies and experiments in consumers‟ behavior are carried out under actual
market conditions. Some three (or) four cities having similarity in population, income levels,
cultural and social background, occupational distribution, taste etc; are chosen for study. The
various demand determinants like price,advertisement,expenditure etc; are changed one by one
.The effects of these changes on demand in these cities are observed. These observations are
made use to find out the elasticity Co-efficient. These elasticity help to determine the demand for
the product.

6. Judgmental approach: -
Management will have to use its own judgmental when analysis of trend projection is not
feasible due to wide fluctuation in sales and analysis of economics indicator is not possible
because of lack of historical data even when statistical methods are used might be desirable to
supplement them by use of judgment.
7.Correlation and regression methods:
Correlation and regression methods are statistical techniques. Correlation describes the
degree of association between 2 variables such as sales and advertisement expenditure, when the
2 variables tend to change together then they are said to be correlated. The extent to which they
are correlated can be measured by correlation coefficient.
In regression analysis an equation is estimated which best fits in the sets of observations
of dependent variables and independent variables. The main advantage of this method is that it
provides the values of independent variables from within the model itself. Thus it frees the
forecaster from the difficulty of estimating them exogenously.
8.Test marketing method:
This method includes providing token money to a set of consumer and asking them to
shop around in a simulation market. The prices of various goods, their quality packaging etc.vary
during the experiments to observe consumers reaction to such changes. This generates
information which could be sufficient to estimate the demand function.
Supply
 Supply is a fundamental economic concept that describes the total amount of a
specific good or service that is available to consumers. Supply can relate to the amount
available at a specific price or the amount available across a range of prices if displayed on a
graph. This relates closely to the demand for a good or service at a specific price; all else
being equal, the supply provided by producers will rise if the price rises because all firms
look to maximize profits.

Supply Function

The supply function is the mathematical expression of the relationship between supply and
those factors that affect the willingness and ability of a supplier to offer goods for sale

Law of Supply

Law of supply states that other factors remaining constant, price and quantity supplied of a
good are directly related to each other. In other words, when the price paid by buyers for a
good rises, then suppliers increase the supply of that good in the market.

Description: Law of supply depicts the producer behavior at the time of changes in the prices
of goods and services. When the price of a good rises, the supplier increases the supply in
order to earn a profit because of higher prices.
 The above diagram shows the supply curve that is upward sloping (positive relation between
the price and the quantity supplied). When the price of the good was at P3, suppliers were
supplying Q3 quantity. As the price starts rising, the quantity supplied also starts rising

Resources and technology determine what it is possible to produce. Supply reflects a decision
about which technologically feasible items to produce. The quantity supplied of a good or
service is the amount that producers plan to sell during a given time period at a particular
price.
Factors / Determines supply
a) Prices of productive resources: If the price of resource used to produce a good rises (falls),
the minimum price that a supplier is willing to accept for producing each quantity of that
good rises (falls). So a rise (fall) in the price of productive resources decreases (increases)
supply and shifts the supply curve leftward (rightward).
b) Prices of related goods produced: A substitute in production for a good is another good that
can be produced using the same resources. Goods are compliments in production if they must
be produced together. The supply of a good increases (decreases) and its supply curve shifts
rightward (leftward) if the price of a substitute in production falls (rises) or if the price of a
complement in production rises (falls).
c) Expected future prices: If the price of a good is expected to fall (rise) in the future, current
supply increases (decreases) and the supply curve shifts rightward (leftward).
d) The number of suppliers: The larger the number of suppliers of a good, the greater is the
supply of the good. An increase (decrease) in the number of suppliers shifts the supply curve
rightward (leftward).
e) Technology: Advances in technology create new products and lower the cost of producing
existing products, so they increase supply and shift the supply curve rightward.
 Self Assessment Questions
1. What is meant by „Elasticity of Demand‟? How do you measure it?
2. A) What is cross Elasticity of Demand? Explain
B) Explain the concept of Cross Elasticity of Demand. Illustrate your answer with
Examples.
3. Why does the Law of Diminishing Returns operate? Explain with the help of assumed
data and also represent in a diagram.
4. What are the needs for Demand Forecasting? Explain the various steps involved in
demand forecasting.
5. What are the possible approaches to forecasting demand for new products? Illustrate all
the methods of Demand Forecasting.
 UNIT – III
_______________________________________________________

THEORY OF PRODUCTION & COST ANALYSIS

 Production Analysis: Factors of Production
 Production Function, Production Function with one variable input
 Two variable inputs, Returns to Scale
 Different Types of Production Functions
 Cost analysis: Types of Costs,
 Short run and Long run Cost Functions.
 Market Structures: Nature of Competition
 Features of Perfect competition
 Monopoly
 Oligopoly and Monopolistic Competition.
 Pricing: Types of Pricing,
 Product Life Cycle based Pricing
 Break Even Analysis
 Cost Volume Profit Analysis.
 Review
 THEORY OF PRODUCTION
The Production is the process of transforming the various inputs land, labour, capital &
organization into output production theory speaks of the relation between inputs and outputs
sales minus cost is profit can be minimized by increasing selling price or by reducing cost price.
Selling price is fixed by the interaction of market forces viz., demand & supply. Hence the entire
manager is confronted with the problem of reducing cost and thereby achieving the objectives of
minimizing profit.
Production theory studies the relationship between various possible input and output
combinations. The factors of production nothing but inputs of production. Factor of production
mean Land, Labour, Capital & Organization.
OBJECTIVES OF PRODUTION:
The term firm refers to an establishment which performs all the entrepreneurial
functions. With reference to a unit of production therefore it may be defined as a unit of
production {enterprise}. A firm may own and manage one factory of more than one factory
manufacturing the same reduction or even different products.
We already familiar with the term „micro‟ in economic analysis it refers to the analysis of
a small part of component of the whole economy such as a study pertaining to an individual
consumer‟s beerier or that of an individual firm are a particulars industry. It is erodent then that
the study of a firm‟s behavior forms. A part of analysis. Analysis of a firm may be better
appreciated if we look at its objectives.
1. The owners of a firm may aim at some objectives which are non-monetary in nature.
Such as personal ego. To satisfy them the firm may seek to produce goods or services
even though that may not be able to gain any monetary gain.
2. It may desire to acquire economic power and therefore, enter into productive activity.
This implies control on the market.
3. It may want to engage it self in some occupation and
there fore may undertake producing
4. It may seek to maximize out put so that the economy grows
at a desired rate
5. It may produce goods and on humanitarian grounds distribute them to the public
freely or no profit no loss basis.
PRODUCTION FUNCTION:-
 Production is the result of combined efforts of the various factors-land-labour-capitals
and entrepreneur production is the transformation of inputs or resources in to out put. The rate
of output of any commodity functionally depends on the quantity of inputs. Used per unit of
time.
The technological relationship between physical out put and physical quantities of inputs
is referred to as production function. It shows the relation between quantity of output and the
quantity of various inputs used in production. Here the price factor is not considered.
Production is the transformation of physical inputs into physical outputs. A change in the
present production technology will result in a change in the production function. An improved
technology helps to produce a given out put with a less or quantity of inputs.
In algebraic from the production function may be stated as:-
P = F {L,L,C,O,M,M……….. n}
P= Output
F=Functional relation
Input (Labour, Land,, Capital, Organiser, Meterial, Machinary)
Production Function Assumptions:
Production function has the following assumptions:-
1) The production function is related to a particular period of time
2) There is no change in technology.
3) The procedure is using the best technique available.
4) The factors of production are divisible.
5) Production function can be fitted to a short run or to a long run.
COBB-DOUGLAS PRODUCTION FUNCTIONS:
Cobb-Douglas production function was given by Cobb and Douglas indicating
production quantity to find out the relation between the physical rate of input and physical rate
of output as a function of labour and capital inputs. The following formula was used relating to
output in manufacturing industries from 1899 to1922.
In algebraic from the production function may be stated as:-
P = F{C, L}
Where as:
P – Production output F- Function C - Capital L - Labour

ISOQUANTS
 Isoquants Show the production function with two variable inputs. The word “iso” means
equal, “quant” means quantity. Squints are equal product curve. An isoquants shows all possible
combinations of two inputs, capital and labour, which can produce a particular quantity of out
put. Different points on isoquants curve show the different combination of the two inputs than
can give the same out put an isoquant curve all along its length represents a fixed quantity of out
put. Isoquants curves are also called iso-products curves (or) product indifference curves.
“Isoquants slope downwards from left to right”.
LAW OF PRODUCTION (OR) LAW OF RETURNS:-
While production function specifies the relation ship between a given quantity of output
and certain given quantities of inputs. Laws of production state the relational out put. The laws
which explain input output relations are:
 Law of variable proportions
 Law of return to scale
The law of variable proportions also known as laws of returns is associated with short-term
production function
The law of variable proportions is the fundamental law of diminishing returns normally
this law operates when factor proportions are variable by keeping certain factors constant. It is
common experience for every former that as more and more lab our and capital are employed an
given price of land the total returns increase after a point less than proportionately or at a
diminishing rate
Assumptions:-
1) one factor is fixed and others are variable
2) methods of production remain un changed
3) There is no change in production techniques
4) The variable factors are homogeneous and identical in amounts quality.
We assume that a farmer has 10 acres of land for increasing out put on land. The farmer
has to increase in this example land is fixed factor and lab our and capital are variable. The input
output relationship is observed in the fallowing table.
Units of input Total production Average production Marginal production
variables(Labour)
1 8 8 8
2 20 10 12
3 36 12 16
4 48 12 12
 5 55 11 7
6 60 10 5
7 63 9 3
8 64 8 1
9 64 7.1 0
10 60 6 -4
From the above table it is clear that as we go on increasing application of variable factors
on a fixed factor in the beginning total product increases more than proportionally and after a
point it shows a tendency to increase at a diminishing rate. In other words in the operation of
this law we can point out three stages in the first stage total product increases along with an
increase in the average product. It may be noted that TP increases at an increasing rate. This
state ends at the point where AP is equal to MP in the third stage TP decreases. AP continues to
decrease and MP become negative.
These stages are shown in the fallowing diagram.

P
R
O
D TP
U
C
T
I
O
N
III STAGE
II STAGE
I STAGE AP
MP
UNITS OF INPUT VARIABLES (LABOUR)

Total Production Marginal Production Average Production

Stages
(TP) (MP) (AP)
It also increases and
Total Production increases At the first stage Marginal
reaches its maximum it
First at increasing rate at this Production also increases
equal to marginal
stage. and reaches its maximum.
production.
Increases at diminishing rate Decreases and becomes Starts decreasing it
Second
and reaches its maximum zero never become zero.
 points
Starts diminishing (It
Third Starts decreases Becomes negative never becomes
negative)

LAW OF RETURNS TO SCALE

There are three laws of returns governing production function.
1. Law of increasing returns to scale.
2. Law of constant returns to scale.
3. Law of decreasing returns to scale.

Law of increasing returns to scale: -

This law states that the volume of output keeps on increasing with every increase in the
inputs. Where a given increase in inputs leads to a more than proportional increase in the output,
the law of increasing returns to scales is said to operate. We can introduce division of labour and
other technological means to increase production. Hence the total product increases at an
increasing rate.
Law of constant returns to scale: -
When the scope for division of labour gets restricted, the rate of increase in the total
output remains constant, the law of constant returns to scale is said to operate. This law states
that the rate of increase/decrease in volume of output is same to that of rate of
increase/decrease in inputs.
Law of decreasing returns to scale: - Where the proportionate increase in the inputs does not
lead to equivalent increase in output, the output increases at a decreasing rate, the law of
decreasing returns to scale is said to operate. This results in higher average cost per unit.
These laws can be illustrated with an example of agricultural land. Take one acre land, if
you fill the land well with adequate bags of fertilizers and sow good quality seed, the volume of
output increases.
 Marginal Rate for Technical Substitution (MRTS)/(MRTP)
It refers to the rate by which one input factor is substituted with the other to attain a given level
of output
When two factors of production labour and capital are employed than MRTS of capital for
labour is number of labour which can be replaced by one unit of capital usually. the
combinations of capital and labour are MRTS

INTERNAL AND EXTERNAL ECONOMICS

Production may be carried on a small scale or on a large scale by a firm. When a firm
expands it scale of production it derives many economics or an advantage of large scale
production.
According to marshal economics of large scale or the advantage of large scale production
can be divided in to two
INTERNAL ECONOMIES :
Internal economies are those economics which are open to an individual firm when its
size expands. They emerge with in the firm itself as its scale of production. Increases. Internal
economies are solely enjoyable by independently of the actions. of other firms.
Economies of labour: -
When the production is increase the profits of the organisation will also increase, from
the profits of the organization organizers can provide such facilities to labours like.
 Canteen.
 Industrial housing.
 Community halls.
 Schools and colleges.
 Hospitals.

Managerial Economies: -
An the firm expands, the firm needs qualified managerial personal to handle each of its
functions; - marketing, finance, production, human resources and others in a professional way.
Functional specialization ensures minimum wastage & lowers the cost of production in the long-
run.
Financial economies: -
There could be cheaper credit facilities from the financial institutions to meet the capital
expenditure or working capital requirements. A larger firm has larger assets to give security to the
financial institution which can consider reducing the rate of interest on the loans.
Technical economies: -
Increase in the scale of production follows when there is sophisticated technology
available and the firm is in a position to hire qualified technical man power to make use of there
could be substantial savings in the hire of man power due to larger investments in the
technology. This lowers the cost per unit substantially.
Marketing economies: -
As the firm grows larger and larger. It can afford to maintain a full fledged marketing
department independently to handle the issues related to design of customer surveys, advertising
materials, and promotion campaign handling of sales and marketing staff, renting of hoardings,
launching a new product and so on. In the normal course, the firm spends large amounts on
issues in marketing and is still not sure of the results because these are handled by different
outride groups, on whom there is little control for the firm.
Risk bearing economies: -
As there is growth in the size of the firm, there is increase in the risk also. Sharing the
risk with the insurance companies is the risk priority for any firm. The firm can insure its
machinery and other assets against the hazards of fire, theft & other risks, the large firms can
spread their risk so that they do not keep all their eggs in one basket. They purchase raw material
from different sources.
Economies of Research & Development: -
Large organizations such as Dr. Reddy’s labs, Hindustan lever spend heavily on
research and development and bring out several innovative products, only such firms with
strong research & development base can cope with competition globally.
External Economies
External economics are those economics which are shared by all the firms in an industry
of in a group of industries when their size expands. They are available to all firms from outside.
Irrespective of their size and scale of production.
In other words external economies are enjoyed by a firm when some other firms grow
larger
Economies of Localization: -
All the firms are located one place. Than there is better infrastructure in terms of
  Approach roads.
 Transportation facilities such as railway lines.
 Banking & communication facilities.
 Availability of skilled labour.
Economies of research and development: -
All the firms can pool resources together to finance research and development
activities and thus share the benefits of research. There could be a common facility to share
journals, news papers & other valuable reference material of common interest.
COST ANALYSIS
Cost and Revenue are the two Major factors that a profit maximizing firm needs to
monitor continuously. It is the level of cost relative to revenue that determines the firm‟s overall
Profitability.
In order to maximize profits firms tries to increase its revenue and lower its cost.
There are many different types of costs that a firm may consider relevant for decision –
making under varying situations the manner in which costs are classified or defined is largely
dependent on the purpose for which the cost data are being outlined.
Fixed Cost:-
Fixed cost refers the amount needed to purchasing of the fixed assets of the
organization. These fixed costs are fixed in the short-run wither production is taken up or not.
Fixed Cost is those costs which in total do not vary which changes incorrupt. Fixed costs are
associated with the very existence of a firm‟s plant and therefore must be paid even if the firm‟s
rate of output is zero such cost as interest on borrowed capital.
Variable Cost: -
Variable cost refers the amount needed to purchasing of variable assets of the
organisation .On the other hand variable costs are those costs which increase with the level of
output. They include payments for raw materials. Changes as fuel, and electricity. Wages and
salaries of temporary staff, depreciation charges, based upon the production.Production is
increases the cost also increases, if production decreases cost also decreases.
Marginal cost:-
Marginal cost refers to the additional cost incurred for producing an additional
unit it equals the change n the variable cost per unit. This change is due to change in the level of
output.
Explicit Costs : -
 Payment made for the purchases of factors of production, goods and services from other
firms for the production of the commodity is known as explicit cost. There costs are also
known as out of pocket cost. For ex: - Wages, Pay for raw material, Rent.
Implicit Costs : -
Producer uses his own factors, also in the process of production; producers generally do
not take into account the cost of their own factors. While calculating the expenditures, of the
firm, but they should definitely be included. Their cost should be calculated on the market rate
and that should be included. There are called implicit costs, because producers do not make
payments to others for them. Ex: - Rent to own land.
Opportunity Costs: -
Opportunity Cost refers, to “Sacrificing the next best alternative in order to attain that
alternative”. This is nothing but the revenue that is lost in not utilizing the best alternative.
In other wards the foregone Opportunity is considered as cost and it termed opportunity
cost. “Opportunity cost of a particular product that resources, used in its production could have
produced.
Sunk Costs:
Sunk cost refers to those cost which is not affected by change in level of business
activity. There costs remains same at all levels of business activity. Ex: - Preliminary expenses.
Urgent & Postponable cost:-
This classification distinguishes the cost that has priority. This is more significant when
there is scarcity of funds. Urgent costs are those costs such as raw materials, wages to labours
and so on, necessary to sustain the production activity. There are certain cost such as
whitewashing the building and so forth which can be conveniently be postponed.

MARKET
Introduction:
A Market is understood as a place where commodities are bought and sold at retails or
wholesale prices a market place is thought is a place consisting of a number of bi and small
shops stalls and even hawkers selling various types of goods.
In economics however the term „Market‟ does not refers to a particular place as such but
it refers to a market for commodity or commodities. These economists speak of say a wheat
market, a tea market, a gold market are so on.
Definition
An arrangement whereby buyers and sellers come in close contact with each other
directly or indirectly to sell and buy goods is described as market.
Features of Market
 More no of sellers and buyers are participate to exchange goods services.
  If refers to the whole are of operation of demand and supply.
 Products sold in a market can be homogeneous or differentiated.
 The market in which the commodity it bought and sold must be well organized, trading
must be continuous.
 There are many competitors in the market.
 Normal and abnormal profits gain by the market sellers
CLASSIFICATION OF MARKET:
Domestic Market: :
It deals with demand and supply of a commodity within the country. All the products are
product of supplied in the local area is called domestic as local market. Ex. Vegetable
market/Milk market.
Foreign Market ::
It deals with demand and supply of the country‟s commodity in foreign countries goods
are produced as it can be exported to the other nations like foreign country‟s market called
foreign market. Ex: Wheats.
Capital Market: :
It deals in funds to finance fixed assets. The transactions in shares and bonds belong to
the domain of capital market.In other words the market which deals the exchange of funds and
shares Ex. Share market. This market is also called financial market. All financial institutions can
provide funds to the business organizations
Perfect Market: :
It characterized by a large number of buyers and sellers of an essentially identical
product each member of the market, whether buyer or seller is so small in relation to the total
industry volume that he is unable to influence the price of the product individual buyers and
sellers are essentially price takers. It requires that all the buyers and sellers must posses‟ perfect
knowledge about the existing market conditions especially regarding the market price, quantities
and source of supply.
Imperfect Market::
In this market just one producer of a product the firm has substantial control over the
price. further if product is differentiated and if there are no threats of new firms entering the
same business a monopoly firm can manage to earn excessive profits aver a long period if
doesn‟t requires knowledge about the existing market conditions .
Duopoly:
In this market situation there are two firms control the entire supply of the product
naturally there is a great scope for collusion between the two firms and also possibility of
cutthroat competition between them. The two firms are interdependent as regards their price-
output decisions
Oligopoly;
Oligopoly means few poly means sellers oligopoly is a market structure in which a small
number of firms account for the whole industry‟s output in this market few no .of seller and
more no of buyers are going to participate in the market.
Perfect Market
 It characterized by a large number of buyers and sellers of an essentially identical
product, each member of the market whether buyer or seller is so small in relation to the total
industry volume that he is unable to influence the price of the product. Individual buyers and
sellers are essentially price takers. It requires that all the buyers and sellers must posses‟ perfect
knowledge about the existing market conditions especially regarding the market price, quantities
and source of supply.
Characteristics
The following conditions must exist for a market structure to be perfectly competitive
there is also the district feature or distinguishing markets of perfect competition
Large no of sellers:
A perfectly competitive market structure is basically formed by large number of actual
and potential firms and sellers. Their number is sufficiently large and as the size of each firm is
relatively small. So the individual seller‟s or firm‟s supply is just a fraction of the market supply.
Large no of buyers:
There is very large number of actual and potential buyers so that each individual buyer‟s
demand constitutes just a fraction of the total market demand.
Product homogeneity:
The commodity supplied by each in a perfectly competitive market is homogeneous that
means the product of each seller is virtually standardized i.e. each seller my sell different types of
products different sizes, quantities and qualities of goods in the market.
Free entry and exit:
In a perfectly competitive market the super normal profits in the short period induce the
new firms to enter in to the market. At the same time the exciting firms incurring losses in the
short term and they leave the market. Therefore due to freedom of entry and exit each firm in a
competitive market can earn only normal profit in the long period
Perfect knowledge of market:
Perfect competition requires that all buyers and sellers must possess perfect knowledge
about the existing market conditions especially regarding the market price, qualities, quantities
and source of supply.

Government Non interference;

Perfect competition also implies that there is no government interference in the working
of market economy. That is to say there are no tariffs, subsidies, rationing of goods, and control
on supply of raw material, licensing policy or other government interference.

PRICE DETERMINATION UNDER PERFECT MARKET:

It characterized by a large number of buyers and sellers of an essentially identical product
each member of the market, whether buyer or seller is so small in relation to the total industry
volume that he is unable to influence the price of the product individual buyers and sellers are
essentially price takers. It requires that all the buyers and sellers must posses‟ perfect knowledge
about the existing market conditions especially regarding the market price, quantities and source
of supply
Assumptions:
1) More no of sellers & buyers
 2) Price was fixed for a product

3) Average revenue equal to the marginal revenue

4) The buyers and sellers must posses‟ perfect knowledge

REVENUE ANALYSIS IN PERFECT MARKET

OUT PUT PRICE TR AR MR
1 100 100 100 100
2 100 200 100 100
3 100 300 100 100
4 100 400 100 100
5 100 500 100 100
6 100 600 100 100

Price Determination

AR= MR

Out put
On OX output is shown and on OY revenue generate from the market because in the
perfect market price was fixed so the revenue curve is constant at a level that is at the level of
AR=MR. from the above table and diagram the average revenue is quall to the marginal revenue
when the demand increase are decrease but the price is fixed in this type of market.

Monopoly
In this market just one producer of a product the firm has substantial control over the
price. further if product is differentiated and if there are no threats of new firms entering the
same business a monopoly firm can manage to earn excessive profits aver a long period if
doesn‟t requires knowledge about the existing market conditions.
The word monopoly has been derived from the two Greek word “monos and polus”
monos means single and polus means seller so the word monopoly means a single seller.
Characteristics
Single producer or seller:
Monopoly is that market situation in which a firm has the sole right over production or
sale of the product and is has no competitor in the market.
No close substitute:
There are no closely competitive substitutes for the product, so the buyers have no
alternative or choice. They have to buy the product or go with out it.
Price differentiation:
A monopolist is a price maker and not a price taker in fact his price fixing power is
absolute. He is in a position to fix the price for the product as he likes. He can vary the price
from buyer to buyer. Thus in a competitive industry there is single ruling price while in a
monopoly there may be price differentials.
Abnormal profits:
In this market the total demand of the society may be undertaken by a single seller, so
automatically sales volume can increases it lead to gain more profit by a single seller in the
market.
Government Intervention:
If the monopoler operating the public utilities like as Gas Company, electricity
undertaking the government may grant a license to any particular person.
Absence of entry:
In the pure monopoly market, no outside firm can enter the market the barrier to the
entry of there firm may be economic, institutional, artificial and legal.
PRICE DETERMINATION UNDER MONOPOLY
The monopolistic firm attains equilibrium when its marginal cost becomes equal to the
marginal revenues. The monopolist always desires to make maximum profits. He makes
maximum profit when MC=MR. He goes on increasing his output it his revenue exceeds his cost
but when the costs exceeds the revenue the monopolist firm incur losses. Hence the monopolist
curtails his production. He produces up to that point where additional cost is equal to the
additional revenue MR=MC. That point is called equilibrium point the price output
determination under monopoly may be explained with the help of a diagram
REVENUE ANALYSIS IN MONOPOLY
Units sold Price Total revenue Average revenue Marginal revenue
1 20 20 20 20
2 19 38 19 18
3 18 54 18 16
4 17 68 17 14
5 16 80 16 12
Under monopoly market the seller has to reduce the price in order to increase the
sales.the AR,MR curves slops downwards MR tries to bellow AR
Assumptions:
One Seller /Producer 2) MC=MR 3) Price Discriminations

MONOPOLY CURVE

In the diagram the equanimity supplied or demanded is shown along X axis, the cost or
revenue is shown along Y axis, Ac and MC are average cost and Marginal cost curve respectively
AR & MR curves slope downwards from left to right. Ac and MC are U shaped curves. The
monopolistic firm attains equilibrium when it‟s MC=MR under monopoly the MC curve may cut
the MR curve from below or from a side. In the diagram the above condition is satisfied at point
E, at point E, MC=MR. The firm is in equilibrium the equilibrium out put is
PRICING
Pricing is not an end in itself pricing is a mean to an end .therefore the firm must
explicitly lay down its pricing objectives. The firm‟s overall objectives serve as guiding principle
to pricing thus firm‟s business objectives are normally spelled out as the objectives of its price
policy
Objectives of pricing:
 To survival of product in the market
 To maximization of sales
 To capture high share value in the market
 To earn more profits
 To return on investment
 To service motive

METHODS OF PRICING:
Cost Based Pricing - Cost Plus Pricing:
This is also called full cost or markup pricing here the average cost at normal capacity of
output is ascertained and then a conventional margin of profit is added to the cost to arrive at
the price. In other words find out the product units total cost and add a percentage of profit to
arrive at the selling price
Marginal Cost Pricing:
In marginal cost pricing selling price is fixed in such away that it covers fully the variable
or marginal cost and contributed towards recovery of fixed cost fully or partially depending upon
the market situations in times of stiff competition marginal cost offers a guide tome to how far
the selling price can be lowered
Competition Based Pricing --Sealed Bid Pricing:
This method is more popular in tenders and contracts. Each contracting from quotes its
price in a sealed cover called „tender‟ all the tenders are opened on a scheduled date and the
person who quotes the lowest price other things remaining the same is awarded the contract.

Going rate pricing:

Here the price charged by the firm by based upon the cost of the production (or) the
total cost of the industry where costs are particularly difficult to measure this may seem to be the
logical first step in rational pricing policy.
Strategy Based Pricing - Market Skimming:
When the product is introduced for the first time in the market company follows this
method under this method the company fixes a very high price for the product the main idea is
to charge the customer maximum possible. In this situation all cannot afford except a very few.
As the time passes by the price comes down and more people can afford to buy.
Market penetration:
This is exactly opposite to the market skimming method. Here the price of the product is
fixed so low that the company an increase its market share the company attains profits with
increasing volumes and increase in the market share. More often the companies believe that it is
necessary to dominate the market in the long-run the making profits in the short-run.
Two-Part Pricing:-
The firms with market power can enhance profits by the strategy of two-part pricing.
Under this strategy a firm charges a fixed fee for the right to purchase its goods plus a per unit
charge for each unit purchased. Entertainment houses such as country clubs, athletic clubs and
health clubs usually adopt this strategy they charge a fixed initiation fee plus charge per month or
per visit. to use the facilities.
Block pricing:-
Block pricing is another way a firm with market power can enhance its profits. we see
block pricing in our day to day life very frequently four santoor soaps in a single pack illustrate
this pricing method.byselling certain number of units of profit maximization price on each
package. it is generally the total value the consumer receives for the package. Including consumer
surplus.
Peak load pricing:-
During seasonal period when demand is likely to higher, a firm may enhance profits by
peal load pricing. The firm philosophy is to charge a higher price during peak times than is
charged during off-peak times.
Cross subsidization:-
In case where demand for two products produced by a form is interrelated through
demand or cost, the firm may enhance the profitability of its operations through cross
subsidization. using the profits generated by established products, a firm may expand its activities
by financing new product development and diversification into new product markets.

Product Life Cycle based Pricing

This sequence of stages is called Product Life Cycle (PLC). The PLC influences the
marketing strategy and marketing mix of an organization.

The life cycle analysis of a product enables an organization to make efficient pricing
policies with respect to each stage of the product. Moreover, it plays a crucial role in
various organizational functions, such as corporate strategy, finance, and production.

The different stages of PLC as follows:

i. Introduction:
Refers to the initial stage where an organization creates awareness among customers
about the availability of a product and develops a market for the new product. The
sales of the organization during this period are constant. In this stage, the pricing
policy depends upon the availability of dose substitutes. Moreover, in this stage, the
prices are either fixed higher to cover the production cost or low to attract customers.

shows strategies that are used in the introduction stage of a product:

The two types of pricing strategies in the introduction

A) Price Skimming:
Refers to a pricing strategy in which a producer sets high prices initially when the
product is newly introduced in the market. After that, there is a gradual reduction in
the prices of a product. This strategy is used to capture maximum consumer surplus
and spread profits over a period of time.

B) Penetration Pricing:
Refers to charging minimum price for a product for gaining large market share. In
this strategy, it is expected that customers switch to the product because of lower
price.

II. Growth Stage:

Implies a stage where the focus of the organization is on lowering the cost of
production. At this stage, there are various substitutes of products available in the
market leading to competition. The product is exported to other countries to gain
economies of scale and market share.

III. Maturity Stage:

Refers to the longest stage in the product life cycle. In the maturity stage, the growth
in the sale of the product slows down because the price competition increases in the
foreign markets. As a result of this, the organizations shift their manufacturing
facilities to the countries where the cost of labor is low to reduce cost of production.
In this stage, the organizations that loose the market share exit from the industry. In
the maturity stage, the promotion plays a great role in increasing the product sale. In
such a situation, organizations should try to explore the new uses of the product.

IV. Decline Stage:

Implies a stage in which the growth of the product in the market is declining at a fast
pace. In this stage, sales and profits of the organization decrease because of new
products and technologies are introduced in the market. A product produced by an
organization may have different stages in different countries at the same time. For
example, a product may face growth stage in one country and decline stage in
another country. In such a situation, loses in one country’ can be covered by the
profits earned in another country.

BREAK EVEN ANALYSIS:-

Break even Analysis is a technique of profit planning. It is essentially a device for
integrating costs. Revenues and output of the firm in order to illustrate the probable effects of
alternative courses of action upon net profits.
The economic basis of BEA originates from the cost output and revenue the difference
between total revenue and total cost. The Break even point is defined as the one where profit is
equal to zero total revenue equals total cost. “No profit No loss zone is BEP”
{TC = TR}
Assumptions:-
 The behavior of costs and revenues of the firm remain linear.
 Sale prices remain constant.
 Cost of production remains unchanged.
 Volume of output is the only relevant factor affecting cost.
 Cost can be divided into fixed and variable
The Break even Analysis is often explained with the help of Graph:
 In the above graph point & denotes the Break even. At point E Total cost is equal to
total revenue and hence total profit is equal to zero.

USES OF BREAK EVEN ANALYSIS:

1) Information provided by the break even chart can be understood by the mgt. more easily
than that contained in the profit and loss account and cost statement.
2) It helps to fix the sales volume required to cover a given return as capital employed.
3) It helps the forecasting of cost and profit for the product.
4) It helps in determination of cost and revenue at various levels of output.
5) Profit abilities of various products can be studied and a most profitable product mix can be
chosen.
6) It is use full to estimate the feature market for the product
7) It is use full to minimizing the cost and maximizing the profits of the organization
Limitations of B E A:-
 It is not dynamic because every thing is assumed as constant
 It may not gives the accurate results all the time
 It is not realistic and it does not hold well in practice.
 It is limited to the short run period only.
 It does not take into consideration the corporate tax, income tax.
 To manage and control selling cost is very difficult.

CALCULATION OF BEP

Contribution = Sales – variable cost

P/V Ratio = Contribution per unit (OR) Change in Profits X 100

 Selling price per unit Change in Sales

Fixed cost
B E P (In units) = ------------------------------------------------
Selling Price per unit – variable cost

Fixed cost
BEP= --------------------
Contribution

BEP= Fixed Cost

P/V Ratio
Margin of Safety:-
Margin of Safety is the difference between Actual Sales and Sales at B E P.
It is the relationship between profit and profit volume ratio
Net Profit
Margin of Safety = --------------------------
Profit Volume Ratio.

Margin of Safety = Actual Sales - Break even sales

To calculating fixed cost of the organization
S = FC + P
P/V RATIO
 UNIT-IV

FINANCIAL ACCOUNTING

 Accounting concepts and Conventions

 Accounting Equation, Double-Entry system of Accounting
 Rules for maintaining Books of Accounts
 Journal
 Posting to Ledger
 Preparation of Trial Balance
 Elements of Financial Statements
 Preparation of Final Accounts
 Review
 Review
 FINANCIAL ACCOUNTING
The main object of any business is to make profits. It is may be a business engaged in the
purchase and sales of goods or it may be engaged in the production of goods or provision of
services whatever be it‟s nature, the main object is to earn profits.
A businessman enters into business in order to earn profits. in the businessman wishes
to find out how much profit he has made during a given period, he must be able to remember all
the transactions that have taken place in his business. But it is not possible for any businessman
to remember all the transactions that have takes place in his business. So he has to record them
in his books of accounts.
Book-keeping is the art of recording all business transactions in the books of account
maintained by businessman for that purpose.
Keeping a separate book to recording all the business transaction by using principle of
accounting is also called Book-keeping.
Accounting is an art as well as sciences of identifying, analyzing, recording, classifying
and summarizing of business transactions which are of a financial character and are expressed in
terms of money. It also includes interpretation aspect of the recorded information and the result
of accounts can be submit to the require persons in the business (Accountants)
Objectives of Book keeping & Accountancy:-
 To ascertainment of financial position of the business organization. To determine the
profit and loss of organization
 To knowing the information about capital employed in the business.
 To know the value of asset of the organization
 Calculation of amounts due to and due by others.
 To know how much tax to pay to the government
 To comparison between the current year and the previous years records.
 To plan the organization
 To make the financial decisions of the business
DOUBLE ACCOUNTING SYSTEM
Double entry system of Book-keeping is simple and universal in its application. It has the
test of four hundred years continuous use. It may be claimed that it is the only system worthy of
adoption by the practical businessman. To understand the system of double entry system of
book-keeping all that we need to remember is the fundamental rule:
“Debit the account which receives the benefit.”
“Credit the account which gives the benefit”

Types of account
1) Personal Account
2) Real Account
3) Nominal Account
 RULES FOR DEBIT & CREDIT.
1) Personal Account: - This account deals with the individuals of the organization these
includes accounts of natural persons in varied capacities likes suppliers and buyers of goods,
lenders and borrowers of loans etc. “Debit the receiver”
“Credit the giver”
2) Real Account: - This account deals with the group of individuals of the organization these
include combinations of the properties or assets are known as real account.
“Debit what comes in”
“Credit what goes out”
3) Nominal Account: - Nominal accounts relate to such items which exist in name only.
These items pertain to expenses and gains like interest, rent, commission, discount, salary etc,
“Debit all expenses and losses”
“Credit all incomes and gains”

JOURNAL
In the early evaluation of book-keeping traders used to record the business transactions
in a simple manner in the Waste book or Rough book. The waste book is a book in which a
businessman briefly notes down each transaction as soon as it takes place. Transaction is writing
in this very first so it is also called Book of Prime or First Entry Book.
Journal format

Date Particulars Dr Amount Cr Amount

LEDGER
Ledger is the secondary book of accounts all business transactions are recorded in the
first instance in the journal, but they must find their place ultimately in the accounts in the ledger
in a duly classified form. This ledger are also called final entry book. OR Transferring of all
journals in to accounts by using accounting principles is called ledger.
DR ledger format CR

Date Particulars L F.N Amount Date Particulars LFN Amount

 CASH BOOK
Every businessman receives cash and pays cash practically every day. All the receipts and
payments of cash are recorded in a separate book called the “Cash book” in modern times cash
includes not only legal tender money like notes and coins but also other forms of money like
cheque bank, drafts. Etc.
KINDS OF CASH BOOKS
The following are the most common ones
 Simple or single column cash book

 Two or Double column cash book

 Three or Triple column cash book

Single Column Cash Book: The single column cash book are also called simple cash book it
has only one amount column representing cash with the office. This cash book is ruled just like
on ordinary ledger account. The following is the format of simple cash Book.
DR Cash Book CR

Date Particulars Amount Date Particulars Amount

Double Column cash Book:

This book contains one extra column for discount on either side of the cash book in
addition to the usual columns of a simple cash book. Since cash received and discount allowed
on the debit side of the cash book. Similarly as discount received and cash paid on the credit side
of the cash book. As there will be two amount column now one for the discount and the other
for cash, the cash book of this type is referred to as two column or double column cash book.
The format is given below. .
DR Double Column cash Book CR
A R
Date Particular Dis Amount Date Particulars Dis Amount
Triple Column Cash Book: In case the business man maintains an account with the bank the
above mentioned two kinds of cash book do not suit his need or requirements cash book should
keep a full record not only of cash and discount but also of bank transactions for this purpose a
„Bank” column is added to either side of the cash book just after cash column. As this cash and
Bank column it is called three columns “Cash Book”. The format of a three column cash book is
given below.

DR Triple Column Cash Book CR

Date Particular Dis C B Date Particulars Dis C B

** C: CASH B: BAN
CONTRA ENTRIES
Contra, in Latin, means the other side. If the double entry of a transaction is complete in
the cash book itself such entry is called „Contra Entry‟ contra entry arises only when cash
account and bank account are simultaneously involved in a transactions.
It happens only when either cash is deposited in the bank or cash is withdrawn from it
for office use. In both cases entries have to be made in „cash‟ as well as „Bank‟ columns.
TRIAL BALANCE
Trail balance is a statement containing closing balances of the ledger accounts. It is
prepared to verify the arithmetical accuracy whether the totals of the debit column and the credit
column are equal or not.
When all the ledger accounts are balanced the account which is showing debit balance
will be entered on debit side of trial balance and the account which is showing credit side will be
entered on the credit side of trial balance. The totals of debit side must be equal to the total of
credit side. However, even if the two sides are equal it does not show the conclusive proof of the
correctness of books.
Characteristic of a Trial Balance:
1. It is a statement prepared in tabular form.
2. Trial balance is a statement of closing balance but it is not an account. It is prepared to
verify the arithmetical accuracy.
3. Preparation of trial balance will leads to preparation of final accounts. General format of
Trial Balance

Particulars Debit Particulars Credit

Opening stock Sales
Purchases Commission receive
Carriage inwards wages bad debts reserve
All factory & manufacturing interest received
exp (factory rent factory commission receiv
Insurance factory lighting.) interest on drawing
Oil, water. Gas. discount on creditors
Coal. Fuel, power Capital
excise duty.octroi Bank loan
trade expenses Bank overdraft
Salaries Income received in
Rent rates & taxes advance
Advertising Creditors
Audit fees, legal charges Bills payable
Insurance All other loans
Bad debts
Repairs
Discount allowed
Printing& stationary
Postage& telegrams
Commission paid (dr)
Interest on capital
Interest on loan
Carriage outwards
All depreciations
All management exp
All office exp
General exp
Discount on debtors
Selling exp
Cash in hand
Cash at bank
Debtors
Furniture
Buildings
Good will patents
Copy rights.
Bills receivable
Machinery
Motor car
Freehold premises
All fixed variable assets
Closing stock

XXXX XXXX

ELEMENTS OF FINANCIAL STATEMENTS

ASSETS
Assets are probable future economic benefits obtained or controlled by a particular entity as a
result of past transactions or events.

LIABILITIES
Liabilities are probable future sacrifices of economic benefits arising from present obligations
of a particular entity to transfer assets or provide services to other entities in the future as a
result of past transactions or events.

EQUITY
Equity or net assets is the residual interest in the assets of an entity that remains after
deducting its liabilities.

COMPREHENSIVE INCOME
Comprehensive income is the change in equity of a business enterprise during a period from
transactions and other events and circumstances from nonowner sources. It includes all
changes in equity during a period except those resulting from investments by owners and
distributions to owner.

REVENUES
Revenues are inflows or other enhancements of assets of an entity or settlements of its
liabilities (or a combination of both) from delivering or producing goods, rendering services,
or other activities that constitute the entity’s ongoing major or central operations.

EXPENSES
Expenses are outflows or other using up of assets or incurrences of liabilities (or a
combination of both) from delivering or producing goods, rendering services, or carrying out
other activities that constitute the entity’s ongoing major or central operations.

GAINS
Gains are increases in equity (net assets) from peripheral or incidental transactions of an
entity and from all other transactions and other events and circumstances affecting the entity
except those that result from revenues or investments by owners.

LOSSES
Losses are decreases in equity (net assets) from peripheral or incidental transactions of an
entity and from all other transactions and other events and circumstances affecting the entity
except those that result from expenses or distributions to owners.

FINAL ACCOUNTS

One of the main objects of maintaining accounts is to find out the profit or loss made by
the business during a period and to ascertain the financial position of the business as a given
date. In order to know the profit or loss made by the business, Trading and profit and loss
Account is prepared. The position of the business on the last date of the financial year will be
revealed by the Balance sheet. The trading and profit and loss account and balance sheet
prepared by the businessman at the end of the trading period are called Final accounts.
 In order to ascertain its income and also to assess the position of assets and liabilities
statements are prepared are know as financial statement. These statements are also called with
their traditional name as Final Accounts
Final statements are divided in two parts. i.e., income statements and position
statements. The term income statement is traditionally known as Trading and Profit and Loss
account and position statements are known as Balance sheet.

Preparation of Final Accounts:

There are three following stages of preparing final accounts of a trading concern.
 Trading Account
 Profit and Loss Account
 Balance Sheet
Trading Account:-
Trading account is prepared mainly to know the “Profitability” of the goods
brought and sold by the businessman. It show the result of trading i.e. buying and selling of
goods called “Gross Profit or Gross Loss”
“The difference between the sales and cost of goods sold is Gross Profit or Gross Loss”
Trading account is prepared in “T”form just like any other accounts expect the date and journal
folio column are not provided.
Profit and Loss Account:-
The profit and loss account is an account, which shows the net Profit or net loss of a
business for a particular period. All indirect expenses such as Administrative or Management
expenses, selling and Distribution Expenses. Financial expenses and other items such as
depreciation, etc are taken debit side. Gross profit and all other income items are taken credit
side. Such as interest received, discount received, ect. The difference between two sides is either
Net profit or Net Loss, which is transferred to Capital Account.
Balance Sheet: -
Balance sheet is prepared to know the financial position of a business on a particular
date. It is a statement, which shows the assets and liabilities of a business as on a particular date.
It shows” what a business owns and what it owes” Balance sheet is a statement and not an
account it does not have Debit and Credit sides. It is divided in to two sides left side and right
side. The left side is called the liabilities side and the right side is called the assets side.
ADJUSTMENTS
An adjustment is a transaction which has not been taken into consideration while
preparing the trial balance. But now considered for the purpose of preparing final accounts
If any item of adjustment appears outside the trial balance. it will e shown at two
places in the final accounts. The treatment of such item has been shown as follows.
Treating of Adjustments
The treatment of such main items is as follows
1) CLOSING STOCK
IN THE TRADING ACCOUNT CR SIDE
IN THE BALANCE SHEET ASSET SIDE
2) OUTSTANDING WAGES
IN THE TRADING ACCOUNT ADD TO WAGES
IN THE BALANCE SHEET LIABILITIES
 3) OUTSTANDING SALARIES
IN THE TRADING ACCOUNT ADD TO SALARIES
IN THE BALANCE SHEET LIABILITIES SIDE
4) PREPAID INSURANCE
IN THE P & L A/C LESS FROM INSURANCE
IN THE BALANCE SHEET ASSETS SIDE
5) INTEREST ON CAPITAL
IN THE P & L A/C DR SIDE
IN THE BALANCE SHEET ADD TO CAPITAL

PROFORMA OF FINAL ACCOUNTS

Dr Trading and Profit & Loss Account Cr
Particulars Amount Particulars Amount
To opening stock By sales
To purchases Less: sales returns
Less: pur. Returns By stolen goods
To carriage inwards By closing stock
To wages By Gross loss (transfer
Add. Out standings to p &l a/c
To all factory & manufacturing
exp (factory rent factory
insurance factory lighting.)
To oil, water. Gas.
To coal. Fuel, power
To excise duty.octroi
To trade expenses
To Gross profit (transfer to p
&la/c)

To Gross profit
To salaries By Gross loss
Add outstanding By commission received
To rent rates & taxes By bad debts reserve
To Advertising By interest received
To Audit fees, legal charges By commission received
To Insurance By interest on drawings
Less prepaid insurance By discount on creditors
To bad debts
To repairs
To discount allowed
To printing& stationary
To postage& telegrams
To commission paid (dr)
To interest on capital
To interest on loan
To carriage outwards
To all depreciations
To all management exp
To all office exp
To general exp
To discount on debtors
To selling exp
To Net profit (transfer to capital a/c)
By Net loss (transfer to capital a/c)

BALANCE SHEET
Liabilities Amouts Assets Amounts
Capital Cash in hand
Add :Int on cap Cash at bank
Add :Net profit Debtors
or Less Bad debts
Less: Net loss Furniture
Less depreciation
Less: drawings Buildings
Less: Int on drawings Less depreciation
Bank loan Good will patents
Bank overdraft Copy rights.
Income received in advance Bills receivable
Creditors Machinery
Less Discount on creditors Less Depreciation
Bills payable Motor car
All other loans Less depreciation
Outstanding wages, salaries Prepaid expenses(insurance)
Freehold premises
All fixed variable assets
Closing stock
 UNIT – V
FINANCIAL ANALYSIS THROUGH RATIOS

 Concept of Ratio Analysis

 Liquidity Ratios
 Turnover Ratios
 Profitability Ratios
 Proprietary Ratios
 Solvency, Leverage Ratios
 Introduction to Fund Flow and Cash Flow Analysis
 Review
 RATIO ANALYSIS

Ratio analysis is a very important of financial data. It is the process of

establishing a significant relationship between the items of financial statement to
provide a meaningful understanding of the performance and financial position of a firm.
A ratio is a simple mathematical expression. It is a number expressed in terms of
another number expressing the quantitative relationship between the two. Ratio
analysis is the technique of inter petition of financial statements with the help of various
meaningful ratio’s.
Ratios do not add to any information that is already available but they show the
relationship between two items in a more meaningful way, which help us to draw
certain conclusions and comparison with

 Comparison of past data

 Comparison of one firm with another firm
 Comparison of one firm with the industry
 Comparison of an achieved performance with pre-determined standards.
 Comparison of one department of a concern with other departments.
“The Ratios can be expressed as percentage or properties or times based on the
nature of ratio.”
Importance /Advantages
 Ratio analysis simplifies the understanding of financial statements.
 Ratios serve as effective control tools.
 Ratio facilitate inter firm and intra firm comparisons.
 Ratio contributes significantly towards effective planning and forecasting.
 Ratio brings out the inter-relationship among various financial figures and
brings to light their financial significance and it is a device to analyses and
interprets the financial health of the enterprise.
 Useful in locating the weak spots of the business.
 Useful in comparison of performance.
 Useful in simplifying accounting figures.

LIMITATIONS:
Ratio analysis is very important in reveling the financial position and soundness
of the business. But in spite of its advantages it has some limitations, which restrict
its use these limitations should be kept in mind making use of ratio analysis for
interprets.

 False results it based on incorrect accounting data.

 No idea of probable happenings in future.
 Ratio analysis suffers from lack of consistency.
 Ratio is volatile and can be influenced by a single transaction with extreme value.
  Ratio is based on past data and hence cannot be reliable guide to future
performance.
 Ratio is only indicators they need a proper analysis by a capable management.
They are only the means. And not an end in the interpretation of financial
statements.
 Ratio can be calculated only on the basis on the data. If the original data is not
reliable then ratio will be misleading.
 Ratios fail to reflect the impact of price level change and hence can be
misleading.

Types of Ratios
Under liquidity (or) short term ratio:
 Current ratio (or) working capital ratio:

Current ratio is the ratio of current assets and current liabilities current assets
are assets, which can be converted in to cash with in one year and include cash in
hand and at bank bills R/B,. Net sundry debtors, stock of raw materials, finished
goods etc.
Current liabilities are liabilities, which are repaid with in a period of one year
and include bills payable, sundry creditors’ band over draft. Etc.
Current ratio = Current Assets /Current Liabilities.

Quick Ratio:
Quick ratio is the ratio of quick assets to quick liabilities. Quick assets are assets,
which can be converted into cash very quickly with out much loss. Quick liabilities
are liabilities, which have to be necessarily paid with in short period of time.
Quick ratio = Quick assets.
Quick liabilities.
Quick assets = Current Assets- (stock + prepaid exp)
Quick liabilities = Current Liabilities -- Bank overdraft.
Under capital structure ratio (or) leverage:
Leverage ratios indicate the relative interests of owners and creditors in a
business.
Debt and equity ratio:
Debt usually refers to long term liabilities equity includes equity and preference
share capital and reserves.
Debt and Equity Ratio = Long term Liabilities
Share Holders Funds.
Long-term liabilities (debentures, bands, and loans.)

Interest coverage ratio or debt service ratio:

 This ratio indicates whether a business is earning sufficient profits to pay the
interest charges.
Interest coverage ratio = PBIT/Fixed Interest charges.
PBIT = profit before interest and taxation.
Under Activity Ratio (Or) Turnover Ratios:

Activity ratio measures the efficiency or effectiveness with which a firm manages
its resources or assets.
Inventory turnover ratio:
Stock turnovers ratio indicates the number of times the stock has turned over into
sales in a year.
Inventory turnover ratio = Cost of goods sold/Average stock.
Cost of goods sold = sales – gross profit.
Average stock = opening stock (or) c.s/2.
Debtor’s turnover ratio:
Debtor turnover ratio expresses the relationship between debtors and sales.
Debtors turnover ratio = net credit sales/average debtors
Profitability ratio:
Profitability ratios measure the profitability of a concern generally they are
calculated either in relation to sales or in relation to investment.

Gross profit ratio:

It reveals the result of trading operations of the business.
Gross profit ratio = Gross profit/Net sales.
Gross profits = net sales – cost of goods sold.
Net sales = total sales – sales returns.
Net profit ratio:
It indicates the results of over all operations of the firm.
Net profit ratio = Profit after tax/Net sales.
Operating ratio:
It expresses the relationship between expenses incurred for punning the
business and the resultant net sales.
Operating ratio = operating cost/net sales.
Operating cost= cost of goods sold + office all exp.
Earnings per share (eps)
Earnings per share are the net profit after tax and preference dividend, which is
earned on the capital reprehensive of one equity share.
E p s = profit after tax – preference dividend/No. Of equity shares.

Price earnings ratio:

It expresses the relationship between market price of share of a company and
the earnings per share of that company.
Price earnings ratio = market price of equity share/earnings per share.
Analysis of Flow of Funds
The term "Flow of Funds" refers to changes or movement of funds or changes in
working capital in the normal course of business transactions. The changes in
working capital may be in the form of inflow of working capital or outflow of
working capital. In other words, any increase or decrease in working capital when
the transactions take place is called as "Flow of Funds." If the components of working
capital results in increase of the fund, it is known as Inflow of Fund or Sources of Fund.
Similarly, if the components of working capital effects in decreasing the financial
position it is treated as Outflow of Fund. For example, if the fund raised by way of
issue of shares will be taken as a source of fund or inflow of fund. This transaction
results in increase of the financial position. Like this, the fund used for the purchase of
machinery will be taken as application or use of fund or outflow of fund, because it
stands to reduce the fund position.

Increase the funds while others decrease the funds. Some may not make any
change in the funds position. In case a transaction results in increase of funds, it
will be termed as a “sources of funds”. In case a transaction results in decrease of
funds it will be taken as an application or use of funds. In case a transaction does
not make any change in the funds position, it is said that it is a non-fund
transaction
According to R.N. Anthony, “Fund Flow is a statement prepared to indicate the
increase in cash resources and the utilization of such resources of a business during
the accounting period.”

According to Smith Brown, “Fund Flow is prepared in summary form to

indicate changes occurring in items of financial condition between two different
balance sheet dates.”

The main objectives of the fund flow statement are:

(1) Helpful in finding the answer to some important financial question:-A fund
flow statement is prepared to give satisfactory answer to the following
question:-
(a) What have been the main source and application of funds during the
period?
(b) How much funds have been generated from business operations? (c)
Where did the profits go?
(d) Why where dividends not larger?
(e) How was it possible to distribute dividends in excess of current
earning or in the presence of net loss for the period?
(f) Why the net current assets are up even though there is a net loss for the
period?
(g) How was the expansion in plant and equipment financed? (h) How was
the repayment of long term debt accomplished? (i) How was the increase in
working capital financed?

(2) Helpful in financial analysis:- A fund flow statement provides a complete

analysis of the financial position of a firm.
(3) It provides more reliable figures of profit and loss of the business:- It gives
much more reliable figure of the profits of the business than the figures shown by
P/L account because the figure of profit shown by P/L account is affected by the
personal decision of management in deciding the amount of depreciation and
other adjustments regarding the writing off preliminary expanses etc.

(4) It enables to know whether the funds have been properly used:- The
funds flow statement enables the management to know whether the
funds have been properly used in purchasing various assets or repaying
loans etc.
(5) Helpful in proper management of working capital:- While
managing working capital in a business, it becomes essential to ensure
that it should neither be excessive nor inadequate. A fund flow
statement indicates the excessiveness or inadequacy in working capital.
(6) Helps in preparation of budget for the next period:- A fund
flow statement is prepared for next year, it will enable the management
 to plan its financial resources properly. The firm will know how
much funds it requires, how much the firm can manage internally and
how much it should arrange from outside source. This is helpful in
preparing the budgets for the future period.
(7) It helps a firm in borrowing operations:- A fund flow statement
prepared for the future period indicates whether the company will
have sufficient funds to repay the interest & loans in time.
(8) Helpful in determining dividend policy: - Sometimes, there may
be sufficient profit but the distribution of dividend may not be possible
due to its adverse effect on the liquidity and working capital of the
business. in such cases a funds flow statement help in leading
whether to distribute the dividend or not because a funds flow
statement will reveal from where and how much funds can be managed
for distributing the dividends.
(9) Useful to shareholders:- Shareholders also get information about
the financial policies of the enterprise with the help of fund flow
statement.
ANALYSIS OF CASH FLOW:
Cash flow analysis is primarily used as a tool to evaluate the sources and uses of
funds. Cash flow analysis provides insights into how a company is obtaining its
financing and deploying its resources. It also is used in cash flow forecasting and as
part of liquidity analysis. The cash flow statement was previously known as the
flow of Cash statement. The cash flow statement reflects a firm's liquidity. The
balance sheet is a snapshot of a firm's financial resources and obligations at a
single point in time, and the income statement summarizes a firm's financial
transactions over an interval of time. These two financial statements reflect the
accrual basis accounting used by firms to match revenues with the expenses
associated with generating those revenues. The cash flow statement includes
only inflows and outflows of cash and cash equivalents; it excludes transactions
that do not directly affect cash receipts and payments. These non-cash
transactions include depreciation or write-offs on bad debts or credit losses to
name a few. The cash flow statement is a cash basis report on three types of
financial activities: operating activities, investing activities, and financing
 activities. Noncash activities are usually reported in footnotes. The cash flow
statement is intended to
1. Provide information on a firm's liquidity and solvency and its ability
to change cash flows in future circumstances
2. Provide additional information for evaluating changes in assets,
liabilities and equity
3. Improve the comparability of different firms' operating performance
by eliminating the effects of different accounting methods
4. Indicate the amount, timing and probability of future cash flows.

COMPARISON OF FUND FLOW STATEMENT & CASH FLOW STATEMENT

FUND FLOW STATEMENT CASH FLOW STATEMENT

1. This analysis shows the
1. This analysis shows the
changes in working capital fixed
changes in cash position
assets etc. between two periods
between two periods.

2. Increase in funds does not

2. Increase in cash does always
always means increase in cash.
mean increase in fund.

3. Fund flow analysis notes the

3. Cash flow analysis notes the
overall changes in funds of the
changes in cash position only and
company and we can decide
one can’t know the
overall stability of business unit.
stability of Co. by this analysis

4. It reveals the long term 4. It reveals the short term cash

stability of business. position of the business.
5. Management can take long 5. Management can take short
term major decisions with the help term decisions regarding cash
of this statement. only.
6. This analysis includes cash 6. This analysis does not include
flow analysis because cash is a fund flow analysis because this
part of working capital. covers only cash transactions.
7. While preparing statement of
7. In cash flow analysis increase in
changes in working capital if
current assets or decrease In
current assets increase or
current debts means
current debts decrease,
reduction in cash.
working capital increases.