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Finance Management Articles
Page 81 of 96
Describe concept of composite depreciation.
Composite depreciation claims depreciation expenses by depreciates group of related assets into single entity than individual. Composite depreciation is the application of straight-line depreciation. If the asset is sold, then account entry is debited to cash and credited to fixed asset. The difference between original cost and sold cost is debited to accumulated depreciation. In composite method, no loss or no gain on sale of fixed asset is recognized.Steps to calculate composite depreciation are as follows −Accumulation of total depreciation cost of assets.Allocate single useful life for asset group.Yearly depreciation = useful life/ total depreciation.Document the depreciation.ExampleCalculate depreciation using composite ...
Read MoreDifference between working capital and fixed capital.
The major differences between working capital and fixed capital are as follows −Working capitalFixed capitalUsed for daily business activities.Used for long term benefits.Acquires current assets.Acquires non-current assets.If needed, these can be converted into cash immediately.If needed, these can’t be converted into cash immediately.It has liquidityIt has no liquidity.Serves short period of time.Serves long period of time.Less than one accounting period.More than one accounting period.Operational based.Strategy based.Company needs working capital for operations.Company consumes indirectly.
Read MoreExplain revaluation method of depreciation.
Revaluation method of depreciation is the easiest method of depreciation. In this method, the asset value is assessed at the staring of the year and at the end of the year and difference between them is considered as depreciation to be charged. Revaluation method of depreciation will be done on fixed assets. Revaluation can be done by external party (professional) or internally.FormulaDepreciation expenses = (AV)sy + A – D – (AV)eyHere, (AV)sy = asset value at the start of the yearA = any additions during the yearD = any deductions during the year(AV)ey = Asset value at the end of ...
Read MoreDifferentiate between sinking fund depreciation and annuity method of depreciation.
The major differences between sinking fund depreciation and annuity method of depreciation.Sinking fund depreciationAmount generated through depreciation is invested in market securities.Funds available for replacement of assets.First entry of interest will be made at the end of second year.Sinking fund table is used to calculate depreciation.Cost – interest = depreciation charged.Interest increases with years.Asset value is same.Effect on P&L is same.Annuity method of depreciationAmount generated through depreciation is not invested in market securities.Funds not available for replacement of funds.Interest will be earned from starting day onwards.Annuity table is used to calculate depreciation.Cost + interest = depreciation charged.Interest decreases with years.Asset ...
Read MoreHow journal entries are made or how to prepare journal entries?
SolutionThe solution is as follows − Journal entriesDateParticularsDrCr1-1-2000Lease accountTo Bank account(Being purchase of lease)250000250000Depreciation fund policy accountTo Bank account(Being the annual premium paid)450004500031-12-2000Profit and loss accountTo depreciation fund account(Being annual depreciation charge)45000450001-1-2001Depreciation fund policy accountTo bank account(Being annual premium paid)450004500031-12-2001Profit and loss accountTo Depreciation fund account45000450001-1-2002Depreciation fund policy accountTo bank account(Being annual premium paid)450004500031-12-2002Profit and loss accountTo Depreciation fund account(Being annual depreciation charged)4500045000Bank accountTo Depreciation fund policy A/c(Being policy money realized on maturity)250000250000Depreciation fund policy accountTo Depreciation fund account(Being profit transferred to fund)115000115000Depreciation fund accountTo old lease account(Being closure of fund ...
Read MoreExplain insurance policy method of depreciation
Insurance policy method is just like sinking fund method of depreciation, but in this method, the money is used to pay premium for insurance company. Premium will be charged at the start of the year. Money at the end of maturity can be used to buy a new asset. Journal entriesDateParticularsDrCrXX/XX/XXXXInsurance policy A/cTo cash A/cTo sinking fund A/c(Being premium paid at the end of the year)XXXXXXXX/XX/XXXXProfit and Loss A/cTo Depreciation A/c(Being Depreciation is charged)XXXXXXXX/XX/XXXXCash A/cTo insurance policy A/c(Being money received on maturity)XXXXXXXX/XX/XXXXInsurance policy A/cTo Depreciation fund A/c(Being Transfer of excess amount ...
Read MoreHow to prepare lease account?
SolutionThe solution is explained below −Using the annuity tableRate for 4% for 10 years will be 0.130Annual depreciation charge = 200000 * 0.130 => 26000 Lease accountDebit sideCredit sideYearYear1To cashTo interest20000080001920001By DepreciationBy Balance c/d260001660001920002To balance b/dTo interest16600066401593602To DepreciationTo balance c/d260001333601593603To balance b/dTo interest13336053341280263To DepreciationTo balance c/d260001020261280264To balance b/dTo interest1020264081979454To DepreciationTo balance c/d2600071945979455To balance b/dTo interest719452878690675To DepreciationTo balance c/d2600043067690676To balance b/d43067Year 1Debit side: Cash – interest => 200000 – (200000*4%) => 200000 – 8000 => 192000Credit side: 192000 – Depreciation amount => 192000 – 26000 => 166000Year 2Debit side: balance – interest ...
Read MoreExplain about Modigliani – miller theory of capital structure.
Company finances its assets by capital structure. It can finance its assets by either only equity or combination of debt and equity.Modigliani and miller proposed a theory in 1950s, which says, valuation of a company is irrelevant to its capital structure. It is also irrelevant, to whether company is highly leveraged or low debt because of its market value. It depends only on operating profits of company. This theory is also called as capital structure irrelevance principle.Modigliani and miller approach states the valuation of company is irrelevant to its capital structure. Let us say, Company X is financed by equity ...
Read MoreCalculate value of company with following data:\\nEarnings before interest tax (EBIT) = Rs.50000/-\\nBonds (Debt) = Rs.250000/-\\nCost of debt = 12%\\nCost of equity = 16%
SolutionThe solution is given below −Interest cost = 12% (250000) = 30000/- Earnings = EBIT – Interest cost = 50000 – 30000 = 20000/- (no tax rate) Shareholders earnings = earnings Shareholders earnings = 20000/- Market value (equity) E = shareholder’s earnings/ cost of equity Market value (equity) E = 20000/16%= 125000 Market value (Debt) D = 250000/- Market value (total) = E + D Market value (total) = 125000 + 250000= 375000/- Cost of capital = EBIT/ market value (total) Cost of capital = 50000/ 37500 = 13.33% Degree of financial leverage ...
Read MoreDescribe about net income approach in capital structure.
Capital structure plays an important role in value of a company. Different companies have different capital structures like some have capital based on debt, some have based on equity and some have a mixed or combination of both in their financial mix.Durand proposed net income approach and he states that change in cost of capital and valuation of company will change, if there a change in financial leverage. Capital structure is relevant to valuation of a firm. Increase in financial leverage leads to increase in weighted average cost of capital (WACC) and value of firm will increase.Market value of equity ...
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