Factors to take into consideration while deciding the capital structure of your company.

What factors would you take into consideration while deciding the capital structure of your company or any other company of your choice?

The permanent long-term financing of a company, including long-term debt, common stock and preferred stock, and retained earnings. It differs from financial structure, which includes short-term debt and accounts payable. The various factors affecting the capital structure decision are:

1. Leverage or trading on equity
2. Capacity of Raising Funds
3. Management attitudes
4. Control
5. Assets structure
6. Cash Flow ability of a company
7. External environment such as the state of capital market, taxation policy, state regulations etc.
8. 'Other factors such as, the size of the business, age of the 'company credit standing, period of finance, lender attitude etc.

1. Leverage or trading on equity: The degree to which an investor or business is utilizing borrowed money. Companies that are highly leveraged may be at risk of bankruptcy if they are unable to make payments on their debt; they may also be unable to find new lenders in the future. Financial leverage is not always bad, however; it can increase the shareholders' return on their investment and often there are tax advantages associated with borrowing. also called leverage. Some of the main conclusions regarding the leverage in the capital structure such as use of fixed cost or fixed return sources of finances may be reemphasized. Debts and pre share capital results' into magnifying the earnings per share (EPS) prevailed the firm earns more on the assets purchased with these funds than the cost of their use. Earnings before interest and taxes (EBIT) and EPS relationship are the means to examine the effect of leverage. Out of per share capital and debt,' the leverage impact is felt more in the case of debt because their source of finance costs lower, than per share capital and also the interest payable on, debt is, tax deductible. The use of fixed cost sources of finances also adds to the financial risk of the company and, therefore, it should not be used beyond a point where the amount of fixed commitment charges equals the level of EBIT. To give, up because of its effect on EPS financial leverage is one the important consideration in planning the capital structure for the company.

2. Capacity of Raising Funds: The size of a company may influence its capital and availability of funds from different sources. A small company finds great difficulties in raising long-term loans. If it is able to obtain some long-term loan, it will be available at a higher rate of interest and inconvenient terms. The highly restrictive covenants in loan agreements incase of small companies make their capital structures very inflexible and management cannot run business freely without any interference. Small therefore, depend on share capital and retained earnings for their long-term funds. It is quite difficult for small companies to raise share capital in the capital markets. Also, the capital base of most small companies is so small that they are not allowed to be registered in the stock exchanges.

3. Management Attitudes: Management's attitude concerning control of enterprise and risk, involved determine the debt or equity in the capital structure and any analysis of capital structure planning can hardly afford to ignore this factor. In fact every addition of equity unit in the capital structure presents management to participate in the company affairs to that extent. Therefore, while planning capital structure, firms may prefer debt to be assumed of continued control. .

4. Control: In redesigning the capital structure, sometimes the existing management is governed by the desire to continue control over the company. This is particularly so in the case of the firms promoted by entrepreneurs. The existing management team not only wants control and ownership but also be manage the company, without any outside interference.

5. Assets Structure: Composition and liquidity of assets may also influence the capital structure decision of the firm. Firms with long lived fixed assets, especially when demand for their output is relatively assured utilities for example - use long-term debt extensively similarly greater the liquidity the more debt that generally can be used all other factors remaining constant. The less liquid the assets of firm the less flexible the firm can be in meeting its fixed charged obligations.

5. Cash flow ability of the company: When considering the appropriate capital structure it is extremely important to analyze the cash flow ability of the firm to serve fixed commitment charges. The fixed commitment charges include payment of interest on debentures and other debts, preference dividend and principal amount. Thus the fixed charged depend upon both the amount of senior securities and the terms of payment. The amount of fixed charges will be high if the company employs a large amount of debt or preference capital with short-term maturity. It is therefore, prudent that for servicing fixed charges at proper time, the management must ensure the availability .of cash because inability on the part of management may result in financial insolvency. Therefore, cash flow analysis is essential to consider while planning appropriate capital structure. Obviously, the greater and more stable the expected future cash flows of the firm, the greater the debt capacity and vice-versa. To be on a safe side the cash flow ability must be determined in the period of depression very carefully.

6. External Environment: Any decision relating to the pattern of capital structure must be made keeping in view the external factors such as state of capital market, taxation policy, state regulations etc. If the capital market is likely to be planned in bearish state and interest rates are expected to decline the management should postponed the debt for the present in order to take advantage of' cheap debt at a larger stage. However, if debt will become costlier and will be on scarce supply owing to bullish trends of the capital market, the management may inject additional doses of debt in capital structure.

7. Other Factors: All the factors specified above are of crucial importance in matters of capital decision. Other factors such as the size of the company, age of the company credit standing of the company, period of finance, tender's attitude, capital structure decisions of competitors etc. are equally important. Smaller companies confront tremendous problem in raising fund and these companies have to pay higher interest on debt and have to agree to inconvenient terms of loan. These companies as a result are compelled to depend heavily on retained earnings and share capital. Similarly age of company plays an important role. New companies face a lot of uncertainty in the initial periods of operation, as they are completely unknown to the suppliers of funds. These companies are compelled to depend upon their own, sources of funds. Small firms or newly started funds have low standing in the market and they are compelled to pay a higher rate of interest on long-term debts. Similarly the period of finance should be paid due attention in the capital structure decision. When funds are required for permanent investment in a company, equity share to capital is preferred. When funds are required to finance modernization programs such as overhauling of machines and equipment and aggressive advertising campaign, the company can issue preference share and or debentures. Regardless of management analysis of proper leverage factor for their companies, there is no question but that lender's attitudes are frequently important and sometimes the most important determinant of capital structure. Before adopting a capital structure the management may discuss their with its prospective lenders if possible.1t is also prudent to know about the existing practices regarding the capital structure is radically different from its competitors, there is every need to give careful thought to this duration. Such a departure is unhealthy in the absence of compelling circumstances.

Costing Techniques , how these are useful in decision making?

Discuss the Costing Techniques that are being used in your organization or any other organization of your choice and also write in brief as to how these are useful in decision making?

Costing Techniques
1. Uniform Costing
2. Marginal Costing
3. Standard Costing
4. Historical Costing
5. Direct Costing.
6. Absorption Costing

I am familiar with Parle products. Today, Parle enjoys a 40% share of the total biscuit market and a 15% share of the total confectionary market, in India. Parle Products has one factory at Mumbai that manufactures biscuits & confectioneries while another factory at Bahadurgarh, in Haryana manufactures biscuits. Apart from this, Parle has manufacturing facilities at Neemrana, in Rajasthan and at Bangalore in Karnataka.

Marginal Costing is being used in our organization.
Marginal costing is not a system of costing like job costing, process costing, operating costing, etc. but a special technique used for managerial decision making. The technique of marginal costing is used to provide a basis for the interpretation of cost data to measure the profitability of different products, processes and cost centres in the course of decision making. It can, therefore, be used in conjunction with the different methods of costing such as job costing, process costing, etc. or even with other techniques such as standard costing or budgetary control.

In marginal costing, cost ascertainment is made on the basis of the nature of cost. It gives consideration to behaviour of costs. In other words, the technique has developed from a particular conception and expression of the nature and behaviour of costs and their effect upon the profitability of an understanding.

Theory of Marginal costing:
The theory of marginal costing may therefore be explained in three steps:
(i) The volume of output increases, the cost per unit will, in the normal circumstances, be reduced. Conversely, if the output is reduced the cost per unit will go up. If the factory produces 1,000 units at a total cost of Rs. 3, 000 and if by increasing the output by one unit the cost goes upto Rs. 3,002, therefore the marginal cost of the additional output is Rs. 2.
(ii) If the increase in output is more than one, the total increase in cost divided by the total increase in output will give the average marginal cost per unit. If, for example, the output is increased to 1,020 units and the total cost to produce these units is Rs. 1,045 the average marginal cost per unit is Rs. 2.25 per unit as under:
Additional cost = Rs. 45 = Rs 2.25
Additional units 20
(iii) The ascertainment of marginal cost is based on the classification and segregation of costs into fixed and variable costs.

Advantages and limitations of Marginal Costing:
Advantages:
1. The marginal cost remains constant per unit of output whereas the fixed cost remains constant in total. Since marginal cost per unit is constant from period to period within a short span of time firm decisions on pricing policy can be taken. If fixed cost is included, the unit cost will change from day to day depending upon the volume of output. This will make decisions making task difficult.
2. Overheads are recovered in marginal costing on the basis of pre-determined rates. If fixed overheads are included on the basis of pre-determined rates, there will be under-recovery of overheads if production is less or if overheads are more. There will be over-recovery of overheads if production is more than the budget or actual expenses are less than the estimate. This creates the problem of treatment of such under or over-recovery. Marginal costing avoids such under or over-recovery of overheads.
3. Advocates of marginal costing argue that under the marginal costing technique, the stock of finished goods and work in progress are carried on marginal cost basis and the fixed expenses are written off to profit and loss account as period costs. This shows the true profit of the period.
4. Marginal costing helps in carrying out break-even analysis that shows the effect of increasing or decreasing production activity on the profitability of the company.
5. Segregation of expenses as fixed and variable helps the management that shows the effect of increasing or decreasing production activity on the profitability of the company.
6. Managerial costing helps the management in taking a number of business decisions like make or buy, discontinuance of a particular product, replacement of machines, etc.

Limitations:
1. It is difficult to classify costs exactly into fixed and variable. Most of the expenses are neither totally variable nor wholly fixed.
2. Contribution itself is not guide unless it is linked with the key factor.
3. Sales staff may mistake marginal cost for total cost and sell at a price, which will result in loss or low profits. Hence, sales staff should be cautioned while giving marginal cost.
4. Overheads of fixed nature cannot altogether be excluded particularly in large contracts while valuing the work-in-progress. In order to show the correct position fixed over heads should be included in work-in-progress.
5. Some of the assumptions regarding the behaviour of various costs, etc. are not necessarily true in the realistic situation. For example, the assumption that fixed cost will remain static throughout is not correct.

UTILITY/USE OF MARGINAL COSTING IN DECISION MAKING
The technique of Marginal Costing is of immense use to the management in taking various decisions, as explained below:
Helps in determining the volume of production: Marginal cost helps in determining the level of output which is most profitable for a running concern. The production capacity, therefore, therefore, can be utilized to the maximum possible extent. It helps in determining the most profitable relationship between cost, price and volume in the business which helps the management in fixing best selling price for its products. Thus, maximization of profit can be achieved.
Helps in selecting production lines: The technique of Marginal Costing helps in determining the most profitable production line by comparing line by comparing the profitability of different products. Certain products or activities may turn out to be unprofitable with the passage of time. Production of such products can be discontinued while production of those products and work as a good guide for deciding the optimum mix of products keeping in mind the available capacity and resources.
Helps in deciding whether to produce or procure: The decision whether a particular product should be manufactured in the factory or procured from outside source can be taken by comparing the price at which it can be had from outside. In case the procurement price is lower than the marginal cost of production, it will be advisable to procure the product from outside rather than manufacture it in the factory.
Helps in deciding method of manufacturing: In case a product can be manufactured by two or more methods, ascertaining the marginal cost of manufacturing the product by each method will be helpful in deciding as to which should be adopted.
Helps in deciding whether to shut down or continue: Marginal costing, particularly in periods of trade depression, helps in deciding whether the production in the plant should be suspended temporarily in spite of low demand for the firm’s products.

Financial Executive or Manager , what kind of decisions you would have to take about the company and its activities?

Suppose if you are a Financial Executive or Manager of your company or any other company what kind of decisions you would have to take about the company and its activities? How does these decisions differ from those decisions which investors, regulatory agencies and others make about the same company? Is the same kind of information needed by groups from within and outside the company? If so, what is that information? If not, what are the essential differences?

Answer. A financial manager is a person who is responsible in a significant way to carry out the finance functions. The finance manager is responsible for shaping the fortunes of an enterprise, and is involved in the most vital decisions of the allocation of capital. The duties of financial managers vary with their specific titles, which include controller, treasurer or finance officer, credit manager, cash manager, and risk and insurance manager. Controllers direct the preparation of financial reports that summarize and forecast the organization’s financial position, such as income statements, balance sheets, and analyses of future earnings or expenses. Controllers also are in charge of preparing special reports required by regulatory authorities. Often, controllers oversee the accounting, audit, and budget departments. Treasurers and finance officers direct the organization’s financial goals, objectives, and budgets. They oversee the investment of funds and manage associated risks, supervise cash management activities, execute capital-raising strategies to support a firm’s expansion, and deal with mergers and acquisitions. Credit managers oversee the firm’s issuance of credit. They establish credit-rating criteria, determine credit ceilings, and monitor the collections of past-due accounts. Managers specializing in international finance develop financial and accounting systems for the banking transactions of multinational organizations.

Cash managers monitor and control the flow of cash receipts and disbursements to meet the business and investment needs of the firm. For example, cash flow projections are needed to determine whether loans must be obtained to meet cash requirements or whether surplus cash should be invested in interest-bearing instruments. Risk and insurance managers oversee programs to minimize risks and losses that might arise from financial transactions and business operations undertaken by the institution. They also manage the organization’s insurance budget.

All financial managers perform tasks unique to their organization or industry. For example, government financial managers must be experts on the government appropriations and budgeting processes, whereas healthcare financial managers must be knowledgeable about issues surrounding healthcare financing. Moreover, financial managers must be aware of special tax laws and regulations that affect their industry.

Financial managers play an increasingly important role in mergers and consolidations, and in global expansion and related financing. These areas require extensive, specialized knowledge on the part of the financial manager to reduce risks and maximize profit. Financial managers increasingly are hired on a temporary basis to advise senior managers on these and other matters. In fact, some small firms contract out all accounting and financial functions to companies that provide these services.

The role of the financial manager, particularly in business, is changing in response to technological advances that have significantly reduced the amount of time it takes to produce financial reports. Financial managers now perform more data analysis and use it to offer senior managers ideas on how to maximize profits. They often work on teams, acting as business advisors to top management. Financial managers need to keep abreast of the latest computer technology in order to increase the efficiency of their firm’s financial operations.

Finance functions or decisions of a finance manger are:
· Investment decisions: Investment or capital budgeting involves the decision of allocation of capital or commitment of funds to long term assets that would yield benefits in the future. Two important aspects of the investment decision are: (a) the evaluation of the prospective profitability of new investments, and (b) the measurement of a cut-off rate against that the prospective return of the new investment could be compared. Investment proposals are evaluated in terms of both expected return and risk. Besides the decision to commit funds in new investment proposals, capital budgeting also involves decision of recommitting funds when an asset becomes less productive or non-profitable.
· Financing Decision: This is the second important function to be performed by the financial manager. Broadly, he or she must decide when, where and how to acquire funds to meet the firm's investment needs. The central issue before him or her is to determine the proportion of equity and debt. The mix of debt and equity is known as the firm's capital structure. The financial manager must strive to obtain the best financing mix or the optimum capital structure for his or her firm. The firm's capital structure is considered to be optimum when the market value of shares is maximized. The use of debt affects the return and risk of shareholders; it may increase the return on equity funds but it always increases risk. A proper balance will have to be struck between return and risk. When the shareholders' return is maximized with minimum risk, the market value per share will be maximized and the firm's capital structure would be considered optimum. Once the financial manager is able to determine the best combination of debt and equity, he or she must raise the appropriate' amount through the best available sources. In practice, a firm considers many other factors such as control, flexibility, loan convenants, legal aspects etc. in deciding its capital structure.
· Dividend Decision: Dividend decision is the third major financial decision. The financial manager must decide whether the firm should distribute all profits, or retain them, or distribute a portion and retain the balance. Like the debt policy, the dividend policy should be determined in terms of its impact on the share­holders' value. The optimum dividend policy is one that maximizes the market value of the firm's shares. Thus, if shareholders are not indifferent to the firm's dividend policy, the financial manager must determine the optimum dividend-payout ratio. The payout ratio is equal to the percentage of dividends to earnings available to shareholders. The financial manager should also consider the questions of dividend stability, bonus shares and cash dividends in practice. Most profitable companies pay cash dividends regularly. Periodically, additional shares, called bonus shares (or stock dividend): are also issued to the existing shareholders in addition to the cash dividend.
· Liquidity Decision: Current assets management that affects a firm’s liquidity is yet another important finance function, in addition to the management of long-term assets. Current assets should be managed efficiently for safeguarding the firm against the dangers of illiquidity and insolvency. Investment in current assets affects the firm’s profitability, liquidity and risk. A conflict exists between profitability and liquidity while managing current assets. If the firm does not invest sufficient funds in current assets, it may become illiquid. But it would lose profitability, as idle current assets would not earn anything. Thus, a proper trade-off must, be achieved between profitability and liquidity. In order to ensure that neither insufficient nor unnecessary funds are invested in current assets, the financial manager should develop sound techniques of managing current assets. He or she should estimate firm's needs for current assets and make sure that funds would be made available when needed. The function of financial management is to review and control decisions to commit or recommit funds to new or ongoing uses. Thus, in addition to raising funds, financial management is directly concerned with production, marketing and other functions
· Financial procedures and Systems: For the effective execution of the finance functions, certain other functions have to be routinely performed. They concern procedures and systems and involve a lot of paper work and time. Some of the important routine finance functions are: (a) supervision of cash receipts and payments and safeguarding of cash balance, (b) custody and safeguarding of securities, insurance policies and other valuable papers, (c) taking care of the mechanical details of new outside financing, (d) record keeping and reporting.The finance manager in the modern enterprises is mainly involved in the managerial finance functions; the routine functions are carried out by executives at lower levels. Financial manager’s involvement in the routine functions is confined to setting up of rules of procedures, selecting forms to be used, establishing standards for the employment of competent personnel and to check up the performance to see that the rules are observed and that the forms are properly used.

EXTERNAL AND INTERNAL USERS AND THE INFORMATION REQUIRED BY THEM
There are several entities outside the business, which are interested in its operations because of their business dealings with the enterprise. There are individuals or organizations who have economic transactions with the business, e.g. suppliers of goods and services on credit. banks or financial institutions lending money either for a short or a long period, buyers of goods and services produced by the enterprise on the basis of stipulated targets, contractors who have undertaken to build plants and buildings and other facilities for the business. They are all interested, in varying degrees, in the operations of the business with which they deal in order to determine whether the enterprise is credit-worthy and the terms under which credit can be extended, i.e., the amount of goods or services that can be sold on credit (or the loans that can be advanced), the period of such credit and the likelihood that the debt arising out of the transactions would be repaid in time.

Regulatory agencies, i.e., government departments or other agencies who are charged with the responsibility for regulating general business activity or particular types of business are also naturally interested in the operations of the business. The interest of the regulatory agencies is essentially to ensure that the enterprise:
(a) complies with the requirements of the law relating to financial transactions; e.g. it pays the required amount of tax, does not overtrade on its capital, pays dividends to its shareholders out of the profits, provides depreciation according to prescribed norms, etc.;
(b) discloses its capital, retained earnings, profits, sales and costs to the public at large so as to submit its activities to public scrutiny,
(c) provides data relating to its borrowings so that future lenders are provided with the required information regarding the ,present level of borrowings and the state of the security provided by the assets etc.;

The third category of external users consists of those who have neither any economic transactions nor are concerned with regulation of business activities but are interested in the operations of the business on behalf of constituents which they represent, i.e. as representatives of external interests. In this category can be included labour unions, stock brokers, chamber of commerce, trade associations, export agencies, etc.
Lastly, the external group would include, on the one hand the auditor of the business who is required by law to certify the accounts and, on the other, the prospective shareholders who wish to subscribe for shares of a business enterprise or want to buy an already-issued share from another shareholder.

Internal Users of Accounting Information
The owners are proprietary in proprietary concerns and the partners in partnership business, while in the case of a company, the legal owners of the company are the shareholders. The owners would like to know:
(a) whether the enterprise made any profit during the period reported and if so, what the dividend prospects are;
(b) whether the financial condition of the enterprises sound as reflected in its capital to retained earnings ratio, current assets to current liabilities ratio, funds flow statement, etc.
(c) whether these operations are profitable in terms of return on funds invested or return on assets, profits per rupee of sales, gross margin per unit .of sales, etc.;
(d) whether the growth of its sales are in line with the expectations of the shareholders;
(e) whether its costs are in line with the volume of sales and norms of costs in similar efnterprises elsewhere.
The average shareholder would expect to find answers to the questions set out above in "the balance sheet and the income statement prepared by the enterprise for purposes .

During the recent past what progress has been made in India regarding standardization of accounting practices...

During the recent past what progress has been made in India regarding standardization of accounting practices in the light of on going liberalization & Globalisation?

The Institute of Chartered Accountants of India (ICAI) formed the Accounting Standards Board (ASB) in April 1977 which includes representatives from industry and government. In line with procedure followed in other countries, the preliminary drafts prepared by the study groups and. approved by ASB are circulated amongst various external agencies, including the representative bodies of trade commerce and industry. So far, twenty-eight standards have been issued by ASB, a brief description of which is provided a Appendix I to end of document.
The standards are recommendatory in nature in the initial years. They are recommended for use by companies listed on a recognized Stock Exchange and other large commercial, industrial land business enterprises in the public and private sectors.
We advise that you read all or at least some of these standards in order to get a feel of what these standards are all about. What policies and procedures of accounting these standards aim to standardize and why? Do not worry if you are unable to understand some of the ideas or expressions contained in the standards. You may like to come back to these standards after you have been through all the' blocks of this course in order to have a better grasp of them.
Regarding the position India, it has been stated that the standards have been developed without first establishing the essential theoretical framework. Without such a framework, it has been contended; any accounting standards and principles developed are likely to lack direction and coherence. This type of shortcoming also existed in U.K and U.S.A but then it was recognized and remedied ling back. In the United State the first task, which FASB undertook, was to develop a conceptual framework project, which aimed at defining the objectives of financial reporting (a sample of which is presented in Appendix II). This was to be followed by the spelling out of concepts and standards establishing vvhat have been frequently referred to as generally accepted accounting principles (GAAP). Any attempt to develop a conceptual frame work regarding the objectives of reporting will have to take into consideration the answers to the following questions:
i) Who are the users of financial reports? ii) What decisions these user groups have to take?
iii) What information can be provided which would assist them to take such decision.




The objectives, as you have already noted, depend upon the economic, social, legal and political environment of the country.
Appendix I
Accounting Standards Board
Institute of Chartered Accountants of India (ICAI) has so far issued twenty eight standards:
Framework for the Preparation and Presentation of Financial Statements
(AS 1) Disclosure of Accounting Policies
(AS2) Valuation of Inventories
(AS3) Cash Flow Statements
(AS4) Contingencies and Events Occurring after the Balance Sheet Date
(ASS) Net Profit or Loss period, Prior Period and Extraordinary Items and Changes in
Accounting Policies
Announcement - Limited Revision to Accounting Standards (AS) 5
(AS6) Deprecation Accounting
(AS7) Accounting for Construction Contracts
Revised Accounting Standard (AS) 7, Construction Contracts, 28-05-2002
(ASS) Accounting for Research and Development
(AS9) Revenue Recognition
(AS 10) Accounting for Fixed Assets
Announcement-Status of certain provisions of AS 10, Accounting for Fixed Assets,
pursuant to the issuance of AS 19, Leases and As 16, Borrowing Costs
(AS 11) Accounting for the Effects and Change on Foreign Exchange Rate
(ASH) (Revised 2003). The Effects of Changes in Foreign Exchange Rate 21-02-2003
(AS 12) Accounting for Government Grants
(AS 13) Accounting for Investments
(ASH) Accounting for Amalgamations -
(AS 15) Accounting for Retirement Benefits in the Financial Statement of Employers
(AS 16) on Borrowing Costs
(AS 17) Segment Reporting
Disclosure of corresponding previous year figures in the first year of application of Accounting Standard (AS) 17, Segment Reporting
Accounting Standard 18, Related Party Disclosures
Applicability of Accounting Standards (AS) 18, Related Party Disclosures






(AS 19) Leases
(AS20) Earnings Per Share
(AS21) Consolidated Financial Statements
(AS22) Accounting of Taxes on Income
Clarification on Accounting Standards (AS)22, Accounting for Taxes on Income (AS23) Accounting for Investment in Associates in Consolidated Financial Statements (AS24) Discontinuing Operations
Announcement-Accounting Standards (AS)24, Discontinuing Operations
(AS25) Interim Financial Reporting
(AS26) Intangible Assets
(AS27) Financial Reporting of Interests in Joint Ventures
(AS28) Impairment of Assets 30-05-2002