Answer to PTP_Intermediate_Syllabus 2012_Dec 2015_Set 1

PAPER – 8: COST ACCUNTING & FINANCIAL MANAGEMENT

Academics Department, The Institute of Cost Accountants of India (Statutory Body under an Act of Parliament) Pg 1
 Answer to PTP_Intermediate_Syllabus 2012_Dec 2015_Set 1

The following table lists the learning objectives and the verbs that appear in the syllabus learning
aims and examination questions:

Learning objectives Verbs used Definition

KNOWLEDGE List Make a list of
State Express, fully or clearly, the
What you are expected to details/facts
know Define Give the exact meaning of
Describe Communicate the key features of
Distinguish Highlight the differences between
COMPREHENSION Explain Make clear or intelligible/ state the
meaning or purpose of
What you are expected to Identity Recognize, establish or select after
understand consideration
Illustrate Use an example to describe or
explain something
Apply Put to practical use
Calculate Ascertain or reckon mathematically
LEVEL B

APPLICATION Demonstrate Prove with certainty or exhibit by

practical means
How you are expected to Prepare Make or get ready for use
apply Reconcile Make or prove consistent/
your knowledge compatible
Solve Find an answer to
Tabulate Arrange in a table
Analyse Examine in detail the structure of
Categorise Place into a defined class or
ANALYSIS division
Compare Show the similarities and/or
How you are expected to and contrast differences between
analyse the detail of what you Construct Build up or compile
have learned Prioritise Place in order of priority or
sequence for action
Produce Create or bring into existence

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 Answer to PTP_Intermediate_Syllabus 2012_Dec 2015_Set 1

Paper – 8: Cost Accounting & Financial Management

Full Marks: 100 Time Allowed: 3 Hours

This paper contains 3 questions. All questions are compulsory, subject to instruction provided
against each question. All workings must form part of your answer.
Assumptions, if any, must be clearly indicated.

1. Answer all questions: [2×10=20]

(a) List the objective of CAS-4.

Solution :
Objectives of CAS-4: Cost Accounting Standard on Cost of Production for Captive Consumption
are:
(i) The purpose of this standard is to bring uniformity in the principles and methods used for
determining the cost of production of excisable goods used for captive consumption.
(ii) The cost statement prepared based on standard will be used for determination of
assessable value of excisable goods used for captive consumption.
(iii) The standard and its disclosure requirement will provide better transparency in the valuation
of excisable goods used for captive consumption.

(b) The following data is available in respect of a machine:

Cost of machine ` 10,000
Estimated scrap value ` 1,000
Working life of the machine 6 years
The machine is discarded because of obsolescence after 4 years of service and sold for ` 2,000.
What is the resultant loss and how would you treat the same in Cost Accounts?
Solution:
` 2,000, Entire loss may be charged to Costing Profit & Loss A/c in the year of sale or may be
spread over the balance period of life of the machine

(c) X Ltd. which absorbs overheads at a pre-determined rate, provides the following information:
overheads actually incurred `4,50,000; overhead absorbed `1,00,000. It was found that 60% of
the unabsorbed overheads were due to defective planning. How would unabsorbed overheads
due to defective planning be treated in cost accounts?

Solution :
`
Overhead incurred 4,50,000
Overhead absorbed 1,00,000
Under absorption 3,50,000

60 percent of under absorbed overhead is due to defective planning. This being abnormal,
should be debited to Profit and Loss A/c (60% of ` 3,50,000) = ` 2,10,000

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(d) Average lead time - 10 days; maximum lead time - 15 days, minimum lead time - 6 days
and for emergency purchases - 4 days. Average consumption - 15 units per day and maximum
consumption - 20 units per day. Calculate Danger Level.

Solution :
Danger Level = Normal Rate of Consumption × Maximum Re-Order Period for emergency
purchases
= (15 x 2) – 20] x 15 = 150 units

(e) "The more kilometers you travel with your own vehicle, the cheaper it becomes." Comment
briefly on this statement.

Solution :
The cost per kilometre, (if one travels in his own vehicle) will decline when he travels more
kilometers. This is because the majority of costs for running and maintaining vehicles are of fixed
nature and the component of fixed cost per kilometre goes on decreasing with an increase in
kilometre travel. Hence, the given statement is true.

(f) Distinguish between cost allocation and cost absorption.

Solution :
Cost allocation is the allotment of whole item of cost to a cost centre or a cost unit. It is the
process of identifying, assigning or allowing cost to a cost centre or a cost unit

Whereas Cost absorption Is the process of absorbing all indirect costs or overhead costs
allocated to or apportioned over particular cost centre or production department by the
number of units produced

(g) The capital structure of a company is as under :

3,00,000 Equity Shares of ` 10 each,
32,000, 12% Preference Shares of `100 each,
General Reserve `15, 00,000,
Securities Premium Account ` 5,00,000,
25,000, 14% Fully Secured Debentures of `100 each,
Term Loan of `13,00,000.
Based on these calculate the leverage of the company.

Solution :
Fixed Income Funds = ` (32, 00,000 + 25, 00,000 + 13, 00,000)……. (A)
Equity Funds = ` (30, 00,000 + 15, 00,000 + 5, 00,000)……. (B)
A `70
Lev erage    58.33%
A  B `120

(h) The total market value of the equity shares of ANITA LTD. is ` 60 lakh and the total value of
debt is ` 40 lakh. The treasurer estimates that the beta of the stock is currently 1.5. Assume that
the beta of debt is zero. If the expected risk premium of the market is 10% and the Treasury bill
rate is 8%, what will be the cost of capital of ANITA LTD.?

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Solution :
Beta of the Company’s existing portfolio of assets
βA =[βE×E/(D+E)] +[βD×D/(D+E)]
={1.5 x 0.6/(0.6+0.4)}+ {0 x 0.4/(0.4+0.6)}
=0.90
Cost of Capital=Risk free rate + beta x Risk premium
=0.08 + 0.90 x 0.10
=0.17 i.e 17%

2. (Answer any three questions) [3×16=48]

(a) [4+4=8]
(i) “A’ an employee of XYZ Co. gets the following emoluments and benefits.

Salary ` 250 per month

Dearness allowance
On 1st `100 of Salary `400
On next `100 of Salary `100
On balance every `100 `50 or part thereof
Employers Contributions to Provident Fund 8% of Salary and D. A.
E. S. I. 4% of Salary and D. A.
Bonus 20% of Salary and D. A
Other Allowances `2,725 per annum.

A works for 2,400 hours per annum, out of which 400 hours are non- productive but treated as
normal idle time. A worker for 18 effective hours in Job No. 15, where the cost of direct materials
equals ‘A’s earnings and the overhead applied is 100% of Prime Cost. The sale value of the job is
quoted to earn a profit of 10% on such value.

You are requested to find out:

I. Effective hourly cost of A and
II. The expected sale value of job No.15.

Solution:
I. Calculation of effective hourly cost of A
Salary `250 per month
D. A
On first `100 of salary `400
On next `100 of salary `100
On balance `50 of salary `25 525 per month
Total (salary + D.A.) 775 per month
Annual salary + D. A. 9,300 p. a.
Employer’s contribution to P. F. (8% of salary + D.A.) 744
Employer’s contribution to ESI (4% of Salary + D.A.) 372
Bonus @ 20% of Salary + D.A. 1,860
Other allowances 2,725
Total yearly earnings 15,001
Annual working hours 2,400
Less: Normal idle time 400
Effective annual working hours 2,000

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Effective hourly cost of employee “A” (15,000 ÷ 2,000) = `7.50 p.h.

II. Statement showing effective sale value of Job No. 15

Direct labour cost (`7.50 × 18 hrs.) `135

Direct materials 135
Prime cost 270
Overheads (100% of prime cost) 270
Total cost 540
Profit (10% of sale value or 1/9th of cost) 60
Sale value 600

(ii) A cast iron foundry is importing forged steel moulds for making its castings. The moulds are of
four different sizes A, B, C and D and the CIF values are US $ 4,140, 4,760, 6,340 and 7,875,
respectively. Customs duty may be assumed at 45% and clearing charges 5% of CIF value. The
number of castings that can be made out of each mould is: A 2,000, B 2,000, C 1,800, and D
1,500.
The weight of each casting out of A is 300 kg., B 400 kg., C 500 kg., and D 700 kg. The casting
suffer a normal rejection of 10%. You are required to calculate the average cost of mould per
tonne of saleable casting.
(For conversion assume US $1 = ` 8.) [8]

Solution:

STATEMENT SHOWING AVERAGE COST OF MOULD

A B C D TOTAL
(1) CIF Values (US $) 4,140 4,760 6,340 7,875 23,115
(2) Customs duty & clearing charges
(50%) 2,070 2,380 3,170 3,937.50 11,557.50
(3) Total Cost (US $) 6,210 7,140 9,510 11,812.50 34,672.50
(4) Cost in Rupees (1$ = ` 8) 49,680 57,120 76,080 94,500 2,77,380
(5) Number of castings 2,000 2,000 1,800 1,500 -
(6) Less 10% normal rejections 200 200 180 150 -
(7) Number of saleable castings 1,800 1,800 1,620 1,350 -
(8) Weight of each casting (Kg) 300 400 500 700 -
(9) Weight of saleable castings (in tones)
(7)(8)
1, 000 540 720 810 945 3,015
(10) Cost per tonne (`) (4 ) ÷(9) 92 79.3 93.9 100 91.3

The average cost of mould per tonne of saleable casting is, therefore, `91.3 approx.

2. (b)
(i) The pipe company manufactures two products A and B during the first year of its operations.
For purposes of product costing, an overhead rate of application of `1.70 per direct labour
hour was used, based on budgetary factory overhead of ` 3,40,000 and budgeted direct
labour hours of 2,00,000 as follows:
Budgeted overhead Budgeted Hours Product A Product B

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Department 1 ` 2,40,000 1,00,000 Dept I 4 4

Department 2 ` 1,00,000 1,00,000 Dept II 1 1
3,40,000 2,00,000 5 hours 5 hours
At the end of the year, there was no work on process. There were, however, 2,000 and 6,000
finished units, respectively of products A and B on hand. Assume that budgeted activity was
attained.
(I) What was the effect on the company’s income of using a plant wise overhead rate instead
of departmental overhead rates?
(II) Assume that material and labour costs per unit of product A were ` 10 and that the selling
price was established by adding 40% to cover profit and selling and administrative
expenses. What difference in selling price would result from the use of departmental against
plant wise overhead rates?
(III) Explain why departmental overhead rates were generally preferable to plant wise rates.
[4+4+2=10]
Solution:
(I) Computation of effect on income of company by using Plant wise over head rate instead of
Departmental Overhead Rates:
Particulars A B
Overheads using plant wise OH rate
A = (1.7 x 5) B = (1.7 x 5) 8.5 8.5
(-) Overhead using Dept OH rate
A = [(4x2.4) + (1x1)] = 10.60 10.6 6.4
B = [(1x2.4) + (4x1)] = 6.40
Difference (-)2.1 2.1
No. of units of stock 2,000 6,000
Increase or decrease in value of stock (-)4,200 12,600

Effect on the company : By using plantwise overhead rate closing stock of A will decrease by
` 4200 and that of B will increase by ` 12,600. As a result of this, company’s profit was shown
in excess by ` 8,400.
(II) Computation of selling price of Product A by using plant wise Overhead Rate:
Particulars Amount (`)
Materials & Labour @ 10 p.u. 10.00
Overheads 8.50
Works cost 18.50
(+) 40% towards Selling & Distribution OH’s and profit 7.40
Selling Price 25.90

Computation of Selling Price of Product ‘A’ by using dept. OH rates:

Particulars Amount
Materials & Labour 10.00
Overheads 10.60
20.60
(+) 40% towards Selling & Distribution OH’s and profit 8.24

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Selling Price 28.84

Difference in Selling Price = 28.84 – 25.90 = 2.94

(III) When there are departments, departments OH rate should be used for absorbing factory
overheads and not by using plant wise/general/blanket/single overhead rate. The reason
being in different departments, nature of working differs. In one department, machine play
dominant role. In some other department, material play dominant role. Depending upon
dominance of each factor, OH rate should be used for absorbing overheads.
Therefore, it is always advisable, preferable and appropriate to use departmental overhead
rate instead of blanket overhead rate.

(ii) Discuss the treatment of idle time and overtime wages in cost records. [3+3=6]

Solution :
Treatment of Idle Time
As per CAS-7, Idle Time Cost shall be assigned direct to the cost object or treated as overheads
depending on the economic feasibility and specific circumstances causing such idle time.
Treatment of different categories of Idle Time are as below:-
(i) Unavoidable idle time above would be for insignificant periods. In Cost Accounts, this is
allowed to remain merged in the Production Order or Standing Order Number on
which the worker was otherwise employed.
(ii) Normal Idle Time is booked to factory or works overhead. For the pur-pose of effective
control, each type of idle time, i.e., idle time classi-fied according to the causes is
allocated to a separate Standing Order Number.
(iii) Abnormal Idle Time would usually be heavy in amount involves longer periods and
would mostly be beyond the control of the management. Payment for such idle time is
not included in cost and is adjusted through the Costing Profit and Loss Account or
included in Profit and Loss Account, when the accounts are integrated.
(iv) Tendency to conceal Idle Time should be discouraged. It is a non-effective time and
the resultant loss of profit due to reduced production activity but also increases the
cost per unit of production as the fixed costs continue to be incurred, irrespective of
the reduced quantum of production due to loss of labour time. Idle Time should,
therefore, be highlighted prominently so that action can be taken to remove the
causes thereof. Although for obvious reasons, it is not possible to record minor details,
vigilance is neces-sary for finding out long-term idleness among the workers.

Treatment of Overtime in Cost Records

As per CAS-7, Overtime Premium shall be assigned directly to the cost object or treated as
overheads depending on the economic feasibility and specific circumstances requiring such
overtime.
When overtime is worked due to exigencies or urgencies of the work, the basic / normal
payment is treated as Direct Labour Cost and charged to Production or cost unit on which the
worker is employed. Whereas the amount of premium (extra amount) is treated as overhead.
If overtime is spent at the request of the customer, then the entire amount (including overtime
premium) is treated as direct wages and should be charged to the job.

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When the overtime is worked due to lack of capacity as general policy of the company, then
the total amount paid is treated as direct wages which is computed at the estimated rate
based on the figures of the previous years.
Overtime worked on account of the abnormal conditions such as flood, earth-quake, etc.,
should not be charged to cost, but to costing Profit and Loss Account if integrated accounts are
maintained.

2. (c)
(i) Mr. X purchased an asset costing ` 50,000, and a spare part costing ` 4,000. This spare part is
specific to the asset purchased. Also given that the life of the equipment is 4 years, whereas
the life of the spare part is 5 years. State the treatment of this spare part as per CAS-6. [3]

Solution :
Spares which are specific to an item of equipment shall not be taken to inventory, but shall be
capitalized with the cost of the specific equipment. Cost of capital spares and/or insurance
spares, whether procured with the equipment or subsequently, shall be amortised over a period,
not exceeding the useful life of the equipment.
In the given case, the spare parts should be amortised over the useful life of the equipment i.e. 4
years.

(ii) The capacity usage ratio and the capacity utilization ratio in respect of machine for a particular
month is 80% and 90% respectively. The available working hours in a month is 200 hours. The
break-up of idle time is as follows:
Waiting time for job - 5 hours; breakdown - 4 hours; waiting time for tools - 3 hours. Calculate the
cost and present the same in a tabular form when the hourly fixed cost of running the machine is
` 8.00. [5]

Solution :
Hours
Available working hours in a month 200
Capacity usage @ 80% 160
Idle time unavoidable 40

Capacity utilization ratio = 90%

Actual hours worked = 160 hrs. x 90/100 = 144 hrs.
Idle time = 160 hrs. – 144 hrs. = 16 hrs.

Breakup of Idle Time Hrs.

Waiting for job 5
Breakdown 4
Waiting for tools 3
Miscellaneous causes 4
Total idle time 16

Calculation of Idle Time Cost

Particulars Hours Rate per hr. (`) Amount (`)

Cost of unavoidable idle time 40 8 320

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Cost of avoidable idle time:

Waiting for job 5 8 40

Breakdown 4 8 32

Waiting for tools 3 8 24

Other reasons 4 8 32

Total cost of idle time 16 128

56 448

(iii) The annual demand for raw material R is 4,000 units and the purchase price is expected to be `
90 per unit. The incremental cost of processing an order is ` 135 and the cost of storage is
estimated to be ` 12 per unit.
I. What is the optimal order quantity and the total relevant cost of this order quantity?
II. Suppose that the ` 135 estimate of the incremental cost of processing an order is incorrect
and should have been ` 80. Assume that all the other estimates are correct. What is the cost
of this prediction error assuming that the solution to part (a) is implemented for one year?
III. Assume at the start of the period, a supplier offers 4,000 units at a price of ` 86. The materials
will be delivered immediately and placed in the stores. Assume that the incremental cost of
placing this order is zero and the original estimate of ` 135 for placing an order for the
economic batch size is correct. Should the order be accepted? [2+4+2=8]

Solution:

2a b 2×4,000×135
I. EOQ = = = 300 units
cs 12
Where a = Annual consumption; b = Buying cost per order cs = Cost of storage
The relevant cost in this case is the sum total of holding cost and ordering cost.

Holding cost = (300 × ` 12)/2 ` 1,800

Ordering cost = (4,000 × 135)/300 1,800

3,600

II. Revised incremental cost of processing an order = ` 80

2×4,000×80
Revised EOQ = = 231 units
12
Relevant Cost:
Holding cost = (231 × ` 12)/2 ` 1,386

Ordering cost = (4,000 × 80)/231 1,386

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2,772 (i)

Cost of predictive error assuming that the solution to part (a) is implemented for one year.
EOQ in part (a) is 300 units and therefore, relevant cost based on 300 units and incremental
cost of processing an order will be:
Holding cost = (300 × ` 12)/2 ` 1,800

Ordering cost = (4,000 × 80)/300 1,067

2,867 (ii)

Cost of predictive error = (ii) – (i) = ` 95

III. Special price = ` 86

Total cost = Holding cost + Ordering cost + Purchase cost
= (4,000 × ` 12)/2 + 0 + (4,000 × ` 86) = ` 3,68,000

Total cost at normal price of ` 90

(300 × ` 12)/2 + (4,000 × ` 135)/300 + (4,000 × ` 90) = ` 3,63,600

Additional cost of special order 4,400

The order, therefore, is not recommended.

2. (d)
(i) In a certain factory Type A and Type B machines have been designed to produce the
same product but Type A is less automatic than Type B and requires somewhat more
labour to operate. Pertinent costs are as follows:
Type A Type B
Set up cost `400 `600
Variable cost per unit 4.90 4.40

Which type of machine should be used for processing various sized orders? [6]

Solution:

Difference in set up (fixed) cost = `(600 – 400) = `200

Difference in variable cost per unit = `(4.90 – 4.40) = ` 0.50

Difference in setup cost 200

B. E. P. = = = 400 units
Difference in variable cost ` 0.50
Type A Type B
Set up cost `400 `600
Variable cost for 400 units 1960 1760
2,360 2,360

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Hence Machine A should be used for less than 400 units as its set up cost is, lower. Machine B
should be used for order of more than 400 units as its variable cost per unit is lower, which will
offset the higher set-up costs. These points are made clear by verification of total costs at
production levels of 399 units and 401 units.

Details 399 units 401 units

A B A B
Set up cost `400.00 `600.00 `400.00 `600.00
Variable cost per unit 1955.10 1755.60 1964.90 1764.40
2355.10 2355.60 2364.90 2364.40
Preference Type A Type B

(ii) Meera Industries Limited is a single product organisation having a manufacturing capacity of
6,000 units per week of 48 hours. The output data vis-a-vis different elements of cost for three
consecutive weeks are given below:
Units produced Direct Material Direct Labour Total Factory overheads
(Variable and Fixed)
2,400 `4,800 `6,000 `37,200
2,800 5,600 7,000 38,400
3,600 7,200 9,000 40,800

As a Cost Accountant, you are asked by the Company management to work out the selling
price assuming an activity level of 4,000 units per week and a profit of 20% on selling
price. [10]

Solution:
Change inexpense 38,400  37,200
A. Variable Overheads per unit = =
change inoutput 2,800  2,400
`1,200
= = `3.00
400

This result can also be verified from the figures given for third week.

B. Calculation on Fixed Overheads:

Total Factory Overheads for 2,400 units `37,200

Less: Total Variable Overheads for 2,400 units (2,400 units × ` 3.00) 7,200
Total Fixed Overheads for the company 30,000
This result can also be verified from the figures of next two weeks.

C. STATEMENT SHOWING COST OF 4,000 UNITS

Direct Material 4,000 units × `4,800/2,400 8,000

Direct Labour 4,000 units × 6,000/2,400 10,000
Variable Overheads: 4,000 Units ×`3.00 12,000
Fixed Overheads 30,000
Total Cost 60,000

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D. Profit for 4,000 units:

Profit required is 20% on selling price or 25% of cost.
Cost will be = (100 – 20) = `80.
Profit desired will amount to `60,000 × 25/100 = `15,000.

This selling price for 4,000 units can now be ascertained as under:
Cost of 4,000 units `60,000
Profit 15,000
Total sales 75,000
Selling price per unit = 75,000 ÷ 4,000 = `18.75

3. (Answer any two questions) [2×16=32]

(a) (i) Discuss the changing scenario of Financial Management in India. [6]
Solution :
Modern Financial Management has come a long way from the traditional corporate finance. As
the economy is opening up and global resources are being tapped, the opportunities available
to finance managers virtually have no limits. The finance manager is now responsible for shaping
the fortunes of the enterprise, and is involved in the most vital decision of the allocation of
capital.
Due to the changes in the global environment the finance manager needs to have a broader
and far-sighted outlook, and must realize that his actions would have far-reaching
consequences for the firm because they influence the size, profitability, growth, risk and survival
of the firm, and as a consequence, affect the overall value of the firm.
Some of the important changes in the environment are:
(a) Interest rates have been freed from regulation.
(b) The rupee has become fully convertible on current account.
(c) Optimum debt-equity mix is possible. The firms have to take advantage of financial
leverage to increase shareholders' wealth.
(d) Free pricing and book building for IPOs, seasoned equity offerings.
(e) Share buybacks and reverse book building.
(f) Raising resources globally through ADRs/GDRs.
(g) Treasury management.
(h) Risk Management due to introduction of options and futures trading.

(ii) Shri Devdas asks you to prepare his Balance Sheet from the particulars furnished hereunder:
Stock velocity 6
Gross profit margin 20%
Capital turnover ratio 2
Fixed assets turnover ratio 4
Debt collection period 2 months
Creditors payment period 73 days
Gross profit `60,000

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 Answer to PTP_Intermediate_Syllabus 2012_Dec 2015_Set 1

Excess of closing stock over opening stock was `5,000

Difference in balance Sheet represents bank balance. [10]
Solution :
Working Notes:
1. Sales
Gross Profit Margin = 20%
Gross Profit
 = 20%
Sales
`60,000
 = 20%
Sales
`60,000
 Sales = = `3,00,000
20%
2. Closing Stock

Stock velocity =6
Cost of Goods Sold
 =6
Average Inventory
Sales  Gross Profit
 =6
Average Inventory
`3,00,000  `60,000
 =6
Average Inventory
` 2,40,000
 Average Inventory = = `40,000
6

3. Capital
Capital turnover Ratio =2
Sales
 =2
Capital
` 3,00,000
 =2
Capital
` 3,00,000
 Capital = = `1,50,000
2

4. Fixed Assets
Fixed Assets Turnover Ratio =4
Sales
 =4
Fixed Assets
` 3,00,000
 Fixed Assets = = ` 75,000
4

5. Debtors
Debt Collection Period = 2 months
Debtors
 12 = 2 months
Sales
Debtors
 12 = 2 months
`3,00,000

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`3,00,000 ×2
 Debtors = = `50,000
12

6. Purchase
Cost of Goods Sold = Opening Stock + Purchases - Closing Stock
 Purchases = Cost of Goods Sold + (Closing Stock - Opening Stock)
= `2,40,000 + `5,000
= `2,45,000

7. Creditors
Credit payment Period = 73 days
Creditors
 ×365 = 73 days
Purchases
Creditors
 ×365 = 73 days
`2, 45, 000
`2,45,000  73
 Creditors = = `49,000
365

Balance Sheet of Shri Devdas as on ………..

Liabilities ` Assets `
Capital 1,50,000 Fixed assets 75,000
Creditors 49,000 Current assets
Stock 42,500
Debtors 50,000
Cash at bank (balancing figure) 31,500
1,99,000 1,99,000

(b) (i) From the following figures, prepare a statement showing the changes in the working capital
and fund flow statement during the year 2014:-
Assets Dec.31,2013 Dec.31,2014
Fixed Assets (net) ` 5,10,000 6,20,000
Investment 30,000 80,000
Current Assets 2,40,000 3,75,000
Discount on debentures 10,000 5,000
7,90,000 10,80,000
Liabilities
Equity share capital 3,00,000 3,50,000
Preference share capital 2,00,000 1,00,000
Debentures 1,00,000 2,00,000
Reserves 1,10,000 2,70,000
Provision for doubtful debts 10,000 15,000
Current liabilities 70,000 1,45,000
7,90,000 10,80,000
You are informed that during the year:
I. A machine costing `70,000 book value and WDV of `40,000 was disposed of for `
25,000.
II. Preference share redemption was carried out at a premium of 5% and

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 Answer to PTP_Intermediate_Syllabus 2012_Dec 2015_Set 1

III. Dividend at 10% was paid on equity share for the year 2013.
Further:
(i) The provision for depreciation stood at `1,50,000 on 31.12.13 and at `1,90,000 on
31.12.14; and
(ii) Stock which was valued at `90,000 as on 31.12.13; was written up to its cost, `
1,00,000 for preparing Profit and Loss account for the year 2014. [4+4=8]

Solution :
Change in working capital:
2013 2014
Current Assets 2,40,000 3,75,000
(+) Stock under valued 10,000
(-) Current liabilities 70,000 1,45,000
Net working capital 1,80,000 2,30,000
Increase in working capital 50,000

Fund flow Statement

Sources Amount (`) Applications Amount (`)
Sale of fixed assets 25,000 Increase in working capital 50,000
Fund from operation 2,80,000 Purchase of fixed assets 2,20,000
Issue of shares 50,000 Purchase of investment 50,000
Debentures 1,00,000 Redemption of preference 1,05,000
shares
Dividend paid 30,000
4,55,000 4,55,000

Working Note
1. Depreciation
(`)
Opening provision 1,50,000
(-) Provided on sale of asset 30,000
1,20,000
(+) Provided during the year (b /f) 70,000
Closing provision 1,90,000

2. Purchase & Sale of Fixed Assets

(`)
Opening (2014) 5,10,000
(-) WDV of asset sold 40,000
4,70,000
(-) Depreciation provided 70,000
4,00,000
(+) Purchases (b /f) 2,20,000
Closing 2014 6,20,000

3. P & L Adjustment A/c

Particulars Amount Particulars Amount

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 Answer to PTP_Intermediate_Syllabus 2012_Dec 2015_Set 1

(`) (`)
To depreciation 70,000 By balance b/d (1,10,000+10,000) 1,20,000
To loss on sale of fixed assets 15,000 By fund from operations (Bal. 2,80,000
figure)
To premium on redemption 5,000
of shares
To discount written off 5,000
To provision for doubtful debt 5,000
To dividend 30,000
To balance c/d 2,70,000
4,00,000 4,00,000

(ii) A Company provide the following data:

Cost per unit (`)
Raw materials 52.00
Direct labour 19.50
Overheads 39.00
Total cost 110.50
Profit 19.50
Selling price 130.00
The following additional information is available:-
1) Average raw materials in stock: one month.
2) Average materials in process: half-a-month
3) Average finished goods in stock: one month
4) Credit allowed by suppliers: one month
5) Credit allowed to debtors: two month
6) Time lag in payment of wages: one and a half weeks.
7) Overheads: one month
8) One-fourth of sales are on cash basis.
9) Cash balance is expected to be `1,30,000
You are required to prepare a statement showing the working capital needed to finance a level
of activity of 70,000 units of annual output. The production is carried throughout the year on even
basis and wages and overheads accrue similarly. (Calculation is made on the basis of 30 days a
month and 52 weeks a year.) [8]
Solution :
Statement showing estimate of Working Capital
Particulars Amount (`) Amount (`)
Current Assets:
Stock of Raw material (70,000 units × 52 ×30/ 360) 3,03,333
Work in progress:
Raw materials (70,000 units × 52 × 15/ 360) 1,51,667
Direct labour (70,000 units × 19.50 × 30/ 360 ×1/2 × 50%) 28,437
Overheads (70,000 units × 39 × 30/ 360 x ½ × 50% ) 56,875 2,36,979
Stock of finished goods (70,000 units × 110.50 × 30/ 360) 6,44,583
Debtors (70,000 units × 130 ×60/ 360) 15,16,667
Cash balance 1,30,000

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 Answer to PTP_Intermediate_Syllabus 2012_Dec 2015_Set 1

(a) 28,31,562
Current Liabilities:
Creditors for raw material (70,000 units × 52 × 30/ 360) 3,03,333
Creditor for wages (70,000 units ×19.50 × 1.5/ 52) 39,375
Creditors for overheads (70,000 units × 39 × 30/ 360) 2,27,500
(b) 5,70,208
Net working Capital (a) – (b) 22,61,354

(c) (i) What are the criticisms of capital Assets Pricing Model (CAPM)? [4]
Solution:
The criticisms of Capital Assets Pricing Model (CAPM) are enumerated below:
(i) CAPM makes a number of assumptions that weaken its usefulness.
(ii) The assumptions that there are no imperfections in the markets, there are no transaction
costs and the Betas of shares do not change, are not realistic.
(iii) It does not take into account that over a period of time, the market rate of return and
the risk-free return can change.
(iv) CAPM always considers a high level of diversification of portfolios, which may not be
always possible.

(ii) XYZ Limited wishes to raise additional finance of `10 lacs for meeting its investment plans. It has
`2,10,000 in the form of retained earnings available for investment purposes. The following are
the further details:
1) Debt/ equity mix 30%/70%
2) Cost of debt upto `1,80,000 - 10% (before tax) beyond ` 1,80,000 - 16% (before tax)
3) Earning per share `4
4) Dividend payout 50% of earnings
5) Expected growth rate in dividend 10%
6) Current market price per share ` 40
7) Tax rate 50%
You are required to:
I. Determine the pattern for raising the additional finance.
II. Determine the post-tax average cost of additional debt.
III. Determine the cost of retained earnings and cost of equity , and
IV. Compute the overall weighted average after tax cost of additional finance.
[2+2+2+3=9]
Solution:
I. Determination of pattern for raising additional finance:
Total additional finance required= ` 10,00,000
Debt Equity mix= 30:70
Therefore
Additional Debt= 10,00,000 × 30% = 3,00,000
Additional Equity= 10,00,000 × 70% = 7,00,000
Total Additional finance
Total Equity: ` `
Retained earnings 2,10,000
Equity Share Capital 4,90,000 7,00,000
Debt:
10% debt 1,80,000

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 Answer to PTP_Intermediate_Syllabus 2012_Dec 2015_Set 1

16% debt 1,20,000 3,00,000

Total additional finance 10,00,000
II. Calculation of Average cost of additional debt:
Post Tax Cost of 10% debt = 10% (1- 0.5) = 5%
Post Tax cost of 16% debt = 16% (1 – 0.5) = 8%
Average Cost (after tax) of total debt = 5 × (1,80,000/3,00,000) + 8 × (1,20,000/3,00,000)
= 6.2%

III. Computation of Cost of Equity and Cost of Retained Earnings:

Cost of Equity (Ke) = [D (1 + g)/ Po] + g
Where,
D = Dividend,
Po = Current market price per share
G = Expected growth rate in dividend
Cost of Equity = (2 × 1.10/40) + 0.10
= 0.155 or 15.5%
Cost of Retained Earnings (Kr)
Kr = Ke (as there is no flotation cost)
Kr = 15.5%

IV. Calculation of Weighted average Cost of Capital

Element Amount (`) Weight Specific Cost Overall Cost
Equity Share capital 4,90,000 0.49 0.155 0.0759
Reserves 2,10,000 0.21 0.155 0.0325
10% Debt 1,80,000 0.18 0.050 0.0090
16% Debt 1,20,000 0.12 0.080 0.0096
Total 10,00,000 1.00 0.1270
WACC = 12.7%

(iii) What are the assumptions of Walter Model? [3]

Solution :
Assumptions of Walter Model:
(a) All financing is done through retained earnings; external sources of funds like debt or new
equity capital are not used.
(b) With additional investment undertaken, the firm’s business risk does not change. It implies
that internal rate of return on investment and the cost of capital are constant.
(c) There is no change in the key variable namely Earning per share and dividend per share.
The values (D) or Dividend per share and (E) or Earning per share may be changed in the
model to determine results, but, any given value of E and D are assumed to remain
constant in determining a given value.
(d) The firm has a perpetual (very long) life.

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