Samacheer Kalvi Class 12 Accountancy Solutions Chapter 8 Financial Statement Analysis

I Multiple Choice Questions

Choose the correct answer

 

Question 1. Which of the following statements is not true?
(a) Notes and schedules also form part of financial statements.
(b) The tools of financial statement analysis include common -size statement
(c) Trend analysis refers to the study of movement of figures for one years
(d) The common-size statements show the relationship of various items with some common base, expressed as percentage of the common base.
Answer: (c) Trend analysis refers to the study of movement of figures for one years
In simple words: Financial statements use different methods to understand a company's money situation. Trend analysis helps to see how numbers change over many years, not just one.

🎯 Exam Tip: When evaluating statements, look for keywords like "one year" versus "several years" to correctly identify the scope of each analysis tool.

 

Question 2. Balance sheet provides information about the financial position of a business concern
(a) Over a period of time
(b) As on a particular date
(c) For a period of time
(d) For the accounting period
Answer: (b) As on a particular date
In simple words: A balance sheet is like a snapshot of a company's money on one specific day. It shows what the company owns, owes, and the owner's stake at that exact moment.

🎯 Exam Tip: Remember that a balance sheet is a static report, showing financial health at a specific point in time, unlike an income statement which covers a period.

 

Question 3. Which of the following tools of financial statement analysis is suitable when data relating to several years are to be analysed?
(a) Cash flow statement
(b) Common size statement
(c) Comparative statement
(d) Trend analysis
Answer: (d) Trend analysis
In simple words: To see how a company's finances change over many years, trend analysis is the best tool. It looks at numbers from different years to find patterns and directions.

🎯 Exam Tip: Trend analysis helps identify patterns and forecasts future performance, making it ideal for multi-year data evaluations. Always connect the tool to the objective of the analysis.

 

Question 4. Financial statements provide information about quantitative data but they do not provide information about
(a) Non-monetary data
(b) Past data
(c) Comparative statement
(d) Standard costing
Answer: (a) Non-monetary data
In simple words: Financial statements mostly show numbers related to money. They do not show things that are not about money, like how happy employees are or how good management is.

🎯 Exam Tip: Be aware that financial statements have limitations; they focus on measurable financial figures and omit qualitative aspects important for a full business picture.

 

Question 5. Which of the following is not a tool of financial statement analysis?
(a) Trend analysis
(b) Common size statement
(c) Comparative statement
(d) Standard costing
Answer: (d) Standard costing
In simple words: Trend analysis, common size statements, and comparative statements are all ways to look at a company's financial health. Standard costing is about setting expected costs, not analyzing past financial reports.

🎯 Exam Tip: Distinguish between financial analysis tools, which interpret past performance, and costing methods, which are used for internal control and planning.

 

Question 6. The term 'fund' refers to
(a) Current liabilities
(b) Working capital
(c) Fixed assets
(d) Non-current assets.
Answer: (b) Working capital
In simple words: In accounting, when we talk about 'fund' in this context, it usually means the money a business has available for its daily operations. This is known as working capital.

🎯 Exam Tip: Remember that working capital is the difference between current assets and current liabilities, representing the liquid funds available for day-to-day operations.

 

Question 7. Which of the following statement is not true?
(a) All the limitations of financial statements are applicable to financial statement analysis also.
(b) Financial statement analysis is purely the means and not an end.
(c) Expert knowledge is not required in analyzing the financial statements
(d) Interpretation of the analysed data involves personal judgment.
Answer: (c) Expert knowledge is not required in analyzing the financial statements
In simple words: Analyzing financial statements needs special skills and knowledge to understand the numbers correctly. It is not something everyone can do without training.

🎯 Exam Tip: Always highlight the need for specialized knowledge in complex financial tasks, as accurate interpretation requires understanding accounting principles and industry context.

 

Question 8. A limited company's sales have increased from Rs. 1,25,000 to Rs. 1,50,000. How does this appear in the comparative income statement?
(a) +20%
(b) +120%
(c) -120%
(d) -20%
Answer: (a) +20%
In simple words: The company's sales went up by Rs. 25,000. When you compare this increase to the original sales amount, it shows a 20% growth. This is a positive change, meaning more money came in.
Hint:
Percentage increase or Decrease \( = \frac{\text{Absolute amount of increase or decrease}}{\text{Year 1 amount}} \times 100 \)
Sales increase \( = \text{Rs. } 1,50,000 – \text{Rs. } 1,25,000 = \text{Rs. } 25,000 \)
\( \frac{25,000}{1,25,000} \times 100 = +20\% \)

🎯 Exam Tip: To calculate percentage change, always divide the absolute change by the base year's amount and multiply by 100. Remember to indicate whether it's an increase (+) or decrease (-).

 

Question 9. In a common-size balance sheet, if the percentage of non-current assets is 75, what would be the percentage of current assets?
(a) 175
(b) 125
(c) 25
(d) 100
Answer: (c) 25
In simple words: In a common-size balance sheet, all assets together are considered 100%. If 75% are non-current assets, then the rest must be current assets, which is 25%. This helps you quickly see the split of long-term vs. short-term assets.
Hint:
Let Assets \( = \text{Rs. } 100 \)
Current assets \( = 100 – 75 = 25 \)

🎯 Exam Tip: Remember that in a common-size statement, each line item is expressed as a percentage of a base figure (e.g., total assets for a balance sheet). This allows for easy comparison between different periods or companies.

 

Question 10. Expenses for a business for the first year were Rs. 80,000. In the second year, it was increased to 88,000. What is the trend percentage in the second year?
(a) 10%
(b) 110%
(c) 90%
(d) 11%
Answer: (b) 110%
In simple words: The trend percentage compares the current year's number to the base year's number. Here, the second year's expenses are Rs. 88,000, which is 110% of the first year's Rs. 80,000. This means expenses increased by 10%.
Hint:
Computation of trend percentage \( = \frac{\text{Other year}}{\text{Earliest base year}} \times 100 \)
For second year \( = \frac{88,000}{80,000} \times 100 = 110\% \)

🎯 Exam Tip: Trend percentages show how each item has changed over time relative to a base year. A value of 110% means a 10% increase from the base year.

II Very Short Answer Questions

 

Question 1. What are the financial statements?
Answer: Financial statements are reports that businesses create at the end of their accounting period. These reports help them understand how much profit they made and what their financial situation is. These statements provide a clear picture of the company's economic activities.
In simple words: Financial statements are special reports that show a business's profits and money situation at the end of a period.

🎯 Exam Tip: Key terms to include are "operating results" (profit/loss) and "financial position" (assets/liabilities) to fully define financial statements.

 

Question 2. List the tools of financial statement analysis.
Answer: The tools used to analyze financial statements include:

• Comparative statement: This compares financial data over different periods.
• Common size statements: These show each item as a percentage of a base figure.
• Trend analysis: This studies changes in figures over several years.
• Funds flow statement: This tracks the movement of funds within a business.
• Cash flow analysis: This looks at how cash comes in and goes out.

Each tool offers a unique perspective on the company's financial health.
In simple words: Tools for checking financial statements are things like comparative statements, common size statements, trend analysis, funds flow statements, and cash flow analysis.

🎯 Exam Tip: When listing, ensure you briefly describe what each tool does to demonstrate your understanding, not just recall the names.

 

Question 3. What is working capital?
Answer: Working capital is the difference between a company's current assets and its current liabilities. It shows the money a business has available to cover its short-term daily expenses and operations. A positive working capital means the business has enough liquid assets to meet its short-term obligations.
In simple words: Working capital is the money a company has left after paying its short-term bills, calculated by subtracting current liabilities from current assets.

🎯 Exam Tip: Define 'working capital' clearly as "current assets minus current liabilities" and explain its importance for daily operational liquidity.

 

Question 4. When is trend analysis preferred to other tools?
Answer: Trend analysis is preferred when financial and operating information from more than two years needs to be reviewed. It helps to show how data changes over a long time, revealing patterns that might be hard to see with other tools like a comparative statement for just two years. This method helps in spotting long-term growth or decline.
In simple words: Trend analysis is best when you want to study financial changes over many years, usually more than two, to see long-term patterns.

🎯 Exam Tip: Emphasize that trend analysis is specifically for long-term historical comparisons, allowing for the identification of consistent upward or downward movements.

III Short Answer Questions

 

Question 1. 'Financial statements are prepared based on past data'. Explain how this is a limitation.
Answer: Financial statements show a business's history, meaning they are based on past information. Because of this, past data alone cannot perfectly predict the future or be used as a complete basis for future plans, predictions, or budgets. This historical nature means they might not reflect the current or future financial reality. For example, market changes since the statements were prepared are not included.
In simple words: Financial statements use old numbers. This makes it hard to guess what will happen next, so they can't be fully trusted for future plans.

🎯 Exam Tip: A key limitation of financial statements is their historical nature; they provide insights into past performance but do not guarantee future results or current market value.

 

Question 2. Write a short note on cash flow analysis?
Answer: Cash flow analysis involves making a cash flow statement that shows how cash and cash equivalents (like money in hand and bank deposits) move in and out of a business over a certain period. It also includes short-term investments that can be quickly turned into cash. This analysis is very important for checking a business's ability to pay its short-term and long-term debts. Understanding cash flow helps in managing daily operations effectively.
In simple words: Cash flow analysis looks at all the money coming in and going out of a business. It helps to see if a company has enough cash to pay its bills.

🎯 Exam Tip: Focus on the inflow and outflow of cash, the definition of cash equivalents, and its primary purpose: assessing liquidity and solvency.

 

Question 3. Briefly explain any three limitations of financial statements.
Answer: Here are three limitations of financial statements:
1. **Lack of qualitative information:** Financial statements mainly focus on numbers and money. They do not include important non-money information, like how good the employees or management are, which can affect business decisions. These non-financial aspects are crucial for a holistic view.
2. **Record of historical data:** These statements are made using past information. This means they might not show what is happening right now, or the company's current value. For instance, the value of assets is recorded at their original cost, not their current market value.
3. **Ignores price level changes:** Financial statements do not adjust for changes in prices over time, like inflation. So, comparing numbers from different years might not be accurate because the value of money itself has changed. This can make comparisons misleading.
In simple words: Financial statements don't show everything, like employee skill or how prices change over time. They only show past money data, not current facts.

🎯 Exam Tip: Clearly list and briefly explain each limitation, ensuring you use simple language and avoid jargon. Mentioning "qualitative information," "historical data," and "price level changes" are key points.

 

Question 4. Explain the steps involved in preparing comparative statements?
Answer: To prepare comparative statements, follow these steps:
1. **Column 1:** List the details of items from the income statement or balance sheet here.
2. **Column 2:** Write down the exact amount for Year 1.
3. **Column 3:** Write down the exact amount for Year 2.
4. **Column 4:** Calculate the difference between the amounts in Year 1 and Year 2. If Year 2's amount is higher, use a plus sign (+); if it is lower, use a minus sign (-). This shows the absolute increase or decrease.
5. **Column 5:** Calculate the percentage increase or decrease. Divide the difference found in Column 4 by the amount from Column 2 (Year 1's amount) and multiply by 100. This percentage helps in understanding the magnitude of change.
That is,
Percentage increase or decrease \( = \frac{\text{Absolute amount of increase or decrease}}{\text{Year 1 amount}} \times 100 \)
In simple words: To make comparative statements, first list all items. Then, write amounts for Year 1 and Year 2. Next, find the difference between these years, showing if it went up or down. Finally, calculate this change as a percentage of Year 1's amount.

🎯 Exam Tip: Ensure you correctly identify the base year for percentage calculations (Year 1) and clearly indicate whether the change is an increase or decrease using positive or negative signs.

 

Question 5. Explain the procedure for preparing a common -Size statement.
Answer: Common-size statements are prepared using three columns. Here are the steps:
1. **Column 1:** In this column, list the details of items from the income statement or balance sheet.
2. **Column 2:** Enter the absolute amount for each item. This column contains the raw financial figures.
3. **Column 3:** For the income statement, calculate each item as a percentage of "Revenue from operations". For the balance sheet, calculate each item as a percentage of "Total assets" or "Total equity and liabilities". For example, if total assets are taken as 100, then all other items are shown as a percentage of this 100. This helps compare companies of different sizes or the same company over different periods.
In simple words: To make a common-size statement, list items, write their actual amounts, and then show each amount as a percentage of a main total (like total sales for income statement, or total assets for balance sheet).

🎯 Exam Tip: Remember the critical base figures: "Revenue from operations" for income statements and "Total assets/liabilities" for balance sheets. All percentages are derived from these base amounts.

IV Exercises

Comparative statement analysis

 

Question 1. From the following particulars, prepare a comparative income statement of Arul Ltd.
Answer: The comparative income statement of Arul Ltd for the years ended 31.3.16 & 31.3.17 is presented below. This statement clearly shows how each income and expense item has changed over the two years, making it easy to spot trends.

Revenue from operations: 20 %;
Other income: 200%;
Total revenue: 50%;
Expenses: 25%;
Profit before tax: 100%
In simple words: The comparative income statement shows that Arul Ltd's profit before tax doubled from 2016 to 2017. Other income grew the most, increasing by 200%.

🎯 Exam Tip: Always clearly label the years for comparison and ensure all calculations for absolute and percentage changes are accurate, using the base year as the denominator.

 

Question 2. From the following particulars, prepare a comparative income statement of Barani Ltd.
Answer: Here is the comparative income statement for Barani Ltd for the years ended 31.3.17 & 31.3.18. This statement helps to see how Barani Ltd's income and expenses changed from one year to the next, which is important for understanding its financial performance trends.

Revenue from operations: 50%
Other income: 50%
Total revenue: 50%
Expenses: 50%;
Profit before tax: 50%;
Profit after tax: 50%
In simple words: For Barani Ltd, all income and expense items, including profit and tax, increased by exactly 50% from 2017 to 2018. This shows a strong, consistent growth across the board for the company.

🎯 Exam Tip: Pay close attention to calculations for income tax, as it's a percentage of profit before tax. Make sure all items are correctly compared to the base year (2016-2017).

 

Question 3. From the following particulars, prepare a comparative income statement of Daniel Ltd.
Answer: Here is the comparative income statement for Daniel Ltd for the years ended 31.3.16 & 31.3.17. This statement provides a clear comparison of the company's financial performance over two consecutive years, highlighting changes in revenue, expenses, and profit.

Revenue from operations: 25%
Expenses: 10%
Tax: 50%;
Profit before tax: 50%;
Profit after tax: 50%
In simple words: Daniel Ltd's revenue grew by 25%, and their operating expenses increased by 10%. However, their profit before and after tax, along with the income tax paid, all saw a significant 50% increase, showing improved profitability.

🎯 Exam Tip: When calculating income tax, always apply the percentage to the "Profit before Tax" amount for that specific year, as tax is levied on profits.

 

Question 4. From the following particulars, prepare a comparative statement of the financial position of Muthu Ltd.
Answer: Here is the comparative balance sheet for Muthu Ltd. as on 31.3.17 & 31.3.18. This statement helps to assess the changes in the company's assets, liabilities, and equity over the two years, providing insight into its financial stability and growth.

Shareholder's fund: 10%;
Non-current liabilities: 10%
Current liabilities: 10%
Total equity and liabilities: 10%;
Non -current assets: 20%;
Current assets: 30%
Total Assets: 10%
In simple words: Muthu Ltd saw an overall 10% growth in its total assets and total equity and liabilities. Shareholder's fund and all liabilities increased by 10%, but non-current assets grew by 20%, while current assets decreased by 30%.

🎯 Exam Tip: For comparative balance sheets, calculate the percentage change for each item. Pay special attention to items that decrease (like current assets here) and ensure the negative sign is correctly indicated.

 

Question 5. From the following particulars, prepare a comparative statement of the financial position of Kala Ltd.
Answer: Here is the comparative balance sheet for Kala Ltd as on 31.03.2017 & 31.03.2018. This statement helps to analyze the changes in the company's financial structure over the year, providing insights into its growth, funding, and investment decisions.

Share capital: 20%;
Reserves and surplus: Nil.
Non-Current liabilities: -20%;
Current liabilities: -40%;
Total equity and liabilities: 10%;
Fixed assets: 16%;
Non-current investments: -20%;
Inventories: 25%;
Cash and cash equivalents: -20%;
Total assets: 10%
In simple words: Kala Ltd's total assets and liabilities grew by 10%. Fixed assets and share capital increased, while long-term borrowings, trade payables, non-current investments, and cash decreased. This means the company shifted its asset and liability structure.

🎯 Exam Tip: When preparing comparative balance sheets, be careful to distinguish between increases and decreases. A decrease in a liability (like long-term borrowing) is often positive, while a decrease in assets (like cash) might need further investigation.

 

Question 6. Prepare a common-size income statement for the following particulars Raja Ltd. for the year ended 31st March 2017.

Answer:The common-size income statement shows that for Raja Ltd. in 2016-17, revenue from operations is 100%, other income is 15% (making total revenue 115%), expenses are 30%, and profit before tax is 85%. This type of statement helps compare financial performance between different periods or companies by showing each item as a percentage of a base figure, usually revenue.
In simple words: This table shows how much each part of the company's income and spending is, compared to its main sales. For example, other income was 15% of sales, and the profit before tax was 85% of sales.

🎯 Exam Tip: Remember to always use Revenue from Operations as the base (100%) for common-size income statements unless otherwise specified.

 

Question 7. From the following particulars of Maria Ltd and Kala Ltd. Prepare a common-Size income statement for the year ended 31st March 2019.

Answer:For Maria Ltd., other income is 10% of revenue, total revenue is 110%, expenses are 70%, and profit before tax is 40%. For Kala Ltd., other income is 15% of revenue, total revenue is 115%, expenses are 60%, and profit before tax is 55%. This shows how different companies manage their income and expenses relative to their main sales.
In simple words: This table compares the income and expenses of two companies, Maria Ltd. and Kala Ltd. It shows each item as a percentage of their main sales, so we can see how they are doing compared to each other.

🎯 Exam Tip: When preparing common-size statements for multiple companies, ensure the base for percentage calculation (usually Revenue from Operations) is consistent across all companies for accurate comparison.

 

Question 8. Prepare a common-size income statement for the following particulars of Sam Ltd.

Answer:For 2015-16, Sam Ltd. had 20% other income, 120% total revenue, 60% expenses, 60% profit before tax, 18% tax, and 42% profit after tax. In 2016-17, other income was 10%, total revenue 110%, expenses 50%, profit before tax 60%, tax 18%, and profit after tax 42%. This type of statement helps understand how the company's financial structure changes over time.
In simple words: This table shows how Sam Ltd.'s income and costs changed over two years, all as percentages of their main sales. It helps us see if they earned more or spent less, proportionally, each year.

🎯 Exam Tip: Remember to calculate income tax based on the 'Profit before tax' for each year, using the given income tax percentage.

 

Question 9. Prepare Common-size balance sheet of Meena Ltd. as of 31st March 2018.

Answer:
Computation of % of shareholder's fund to total assets:
\( \frac { 2,00,000 }{ 4,00,000 } \times 100 = 50\% \)
Computation of % of current liabilities to total assets:
\( \frac { 40,000 }{ 4,00,000 } \times 100 = 10\% \)
For Meena Ltd. on March 31, 2018, the shareholder's fund was 50% of total assets, non-current liabilities were 40%, and current liabilities were 10%. On the asset side, non-current assets were 75% and current assets were 25% of total assets. This balance sheet shows how the company's funding sources and asset structure compare to its total size.
In simple words: This table shows what percentage each part of Meena Ltd.'s money sources (like owner's money and loans) and its things (like property and cash) makes up of the total amount. For example, the owners put in 50% of the total money.

🎯 Exam Tip: In a common-size balance sheet, total assets should always be 100%, and total equity and liabilities should also always be 100%, serving as a key check for accuracy.

 

Question 10. Prepare a common-size statement of financial position for the following particulars of Rani Ltd.

Answer:
Computation of % of non-current assets to total assets for 31.03.2016:
\( \frac { 7,20,000 }{ 9,00,000 } \times 100 = 80\% \)
Computation of % of non-current assets to total assets for 31.03.2017:
\( \frac { 8,00,000 }{ 10,00,000 } \times 100 = 80\% \)
In 2015-16, Rani Ltd. had shareholder's fund at 60%, non-current liabilities at 30%, current liabilities at 10%, non-current assets at 80%, and current assets at 20% of total assets. In 2016-17, shareholder's fund was still 60%, non-current liabilities were 25%, current liabilities increased to 15%, and both non-current and current assets remained 80% and 20% respectively. This shows the relative proportions of funding and assets over two years.
In simple words: This table compares Rani Ltd.'s money and belongings over two years, showing what part each item makes up of the total. For example, the owners' money stayed 60% of the total in both years.

🎯 Exam Tip: Always double-check that the percentages for both equity & liabilities and assets sum up to 100% for each year in a common-size balance sheet to ensure calculations are correct.

 

Question 11. Prepare a common-size statement of financial position for the following particulars of Yasmin Ltd. and Sakthi Ltd.

Answer:For Yasmin Ltd., share capital is 40%, reserves and surplus are 10%, non-current liabilities are 30%, and current liabilities are 20%. Fixed assets are 40%, non-current investments are 10%, inventories are 40%, and cash & cash equivalents are 10% of total assets. For Sakthi Ltd., share capital is 50%, reserves and surplus are 10%, non-current liabilities are 30%, and current liabilities are 10%. Fixed assets are 50%, non-current investments are 20%, inventories are 15%, and cash & cash equivalents are 15% of total assets.
In simple words: This table compares how two companies, Yasmin Ltd. and Sakthi Ltd., get their money and what they own. It shows each item as a percentage of their total funds and assets.

🎯 Exam Tip: When presenting comparative common-size statements, clearly label each company's columns to avoid confusion and make the comparison easy to understand.

 

Question 12. From the following particulars, calculate the trend percentages of Kala Ltd.

Answer:For Kala Ltd., revenue from operations increased to 125% in 2016-17 and 150% in 2017-18 compared to the base year. Other income grew even faster, reaching 150% and 200%. Total revenue also showed strong growth. Expenses increased at a slower pace, leading to a profit before tax trend of 120% and 150%. This analysis helps show how financial items have changed over several years.
In simple words: We looked at how Kala Ltd.'s money items like sales and costs changed over three years. We used the first year as a starting point (100%) and then saw how much bigger or smaller each item became in the following years.

🎯 Exam Tip: Always select the earliest year as the base year (100%) for trend analysis unless the question specifies a different base year.

 

Question 13. From the following particulars, calculate the Trend percentages of Kavitha Ltd.

Answer:For Kavitha Ltd. in 2016-17, revenue from operations, other income, and total revenue all showed a 125% trend. Expenses were at 120%, while profit before tax, tax, and profit after tax all increased significantly to 150%. In 2017-18, revenue and total income continued to grow to 150% of the base year, while expenses decreased to 80%. This led to a very high profit before tax, tax, and profit after tax trend of 500%. This upward trend in profitability is a positive sign for the company.
In simple words: We calculated how Kavitha Ltd.'s sales, costs, and profits changed over three years, using the first year as a benchmark. This helps us see how each part of their business is growing or shrinking.

🎯 Exam Tip: Pay close attention to items like 'Income Tax %' to apply the correct tax calculation to the 'Profit before Tax' in each period, especially when preparing trend statements.

 

Question 14. From the following particulars, calculate the trend percentage of Kumar Ltd.

Answer:For Kumar Ltd., revenue from operations decreased to 90% in 2016-17 and 50% in 2017-18, indicating a declining trend. Other income, however, increased to 160% and 120% respectively. Total revenue dropped to 100% and 60% by 2017-18. Expenses also decreased, which helped profit before tax increase to 150% in 2016-17 but then fall to 85% in 2017-18. The profit after tax followed a similar pattern. This suggests mixed performance, with a notable decline in core revenue.
In simple words: This table shows how Kumar Ltd.'s sales, other income, costs, and profits changed over three years. We used the first year's numbers as a starting point (100%) to see the growth or decline of each item.

🎯 Exam Tip: When revenue from operations is decreasing, closely examine if other income and expense control are sufficient to maintain profitability, as shown by the profit before tax trend.

 

Question 15. From the following particulars, calculate the trend percentages of Anu Ltd.

Answer:In Year 2, Anu Ltd.'s shareholder's fund was 110% of Year 1, non-current liabilities were 125%, and current liabilities were 80%. Total equity and liabilities were 110%, while non-current assets were 120% and current assets were 80%. In Year 3, shareholder's fund increased to 120%, non-current liabilities were 120%, and current liabilities rose to 120%. Total equity and liabilities reached 120%, with non-current assets at 130% and current assets at 90%. This detailed trend analysis shows shifts in the company's financial structure over the years.
In simple words: We calculated how Anu Ltd.'s money sources (like owner's funds and loans) and what it owns (assets) changed over three years. We showed each year's number as a percentage of the first year's number to see the trends.

🎯 Exam Tip: When analyzing trend percentages for a balance sheet, look for consistent trends in total assets and total equity & liabilities, as they should always show the same growth rate.

 

Question 16. From the following particulars, calculate the trend percentages of Babu Ltd.

Answer: The trend percentages for Babu Ltd. are:
For Year 2 (compared to Year 1):
Share capital: 127%; Reserves and surplus: 100%; Non-current liabilities: 110%; Current liabilities: 150%; Total equity and liabilities: 120%; Fixed assets: 118%; Non-current investments: 125%; Inventories: 110%; Cash & cash equivalents: 150%; Total assets: 120%.
For Year 3 (compared to Year 1):
Share capital: 106%; Reserves and surplus: 150%; Non-current liabilities: 120%; Current liabilities: 200%; Total equity and liabilities: 125%; Fixed assets: 103%; Non-current investments: 150%; Inventories: 120%; Cash & cash equivalents: 200%; Total assets: 125%.
In simple words: Trend percentages help us see how each item in the financial statement has changed over time from a base year. This shows if things are growing or shrinking.

🎯 Exam Tip: When calculating trend percentages, always use the first year's figures as the base (100%) for comparison.

 

Additional Important Questions and Answers

Other Important questions & Answers

 

Question 1. are the tools of financial analysis
(a) Comparative statements
(b) Trend analysis
(c) Common size statement
(d) All of the options
Answer: (d) All of the options
In simple words: All the listed methods-comparative statements, trend analysis, and common size statements-are useful tools for looking closely at a company's financial information.

🎯 Exam Tip: Remember these three main tools as they are fundamental to understanding financial health and changes.

 

Question 2. Analysis of financial statements involves
(a) B/S
(b) Trading A/c
(c) All of the options
Answer: (c) All of the options
In simple words: When we analyze financial statements, we look at different types of accounts, including the Balance Sheet (B/S) and Trading Account (Trading A/c), to get a full picture. All these parts are used together.

🎯 Exam Tip: Financial statement analysis is a comprehensive process, meaning it considers all relevant financial documents, not just one.

 

III Short Answer Questions

 

Question 1. What are the features of a financial statement?
Answer: Financial statements have several key features:

• They are usually prepared at the end of an accounting period. These statements are based on the transactions recorded in the company's books.
• These statements are made for the entire organization, showing its overall performance and position.
• Information is presented clearly by grouping similar items, such as fixed assets, together. This makes the data easier to understand.
• Financial statements are prepared using historical cost, which means assets are recorded at their original purchase price.
• They follow accounting principles and standards, ensuring that statements are consistent, comparable, and accurate.
• Sometimes, financial statements need personal judgment, like choosing a depreciation method or setting a reserve percentage.

In simple words: Financial statements show a company's money situation at the end of a period, following set rules and sometimes needing careful choices.

🎯 Exam Tip: Focus on keywords like 'historical data,' 'accounting standards,' and 'period-end preparation' to fully describe the features.

 

Question 2. Explain the significance of financial statements.
Answer: Financial statements are very important because they show how a business is doing and its financial health. They provide valuable information to various people:

• To Management: They help managers make decisions and control business activities effectively. For instance, statements can reveal areas needing cost reduction.
• To Shareholders: They allow shareholders to see if the business is growing and if they should keep their investment.
• To Potential Investors: These statements help new investors decide if they should invest by comparing different businesses.
• To Creditors: Creditors use them to check if a business can pay back its debts.
• To Bankers: Banks use them to decide if they should give a loan or an overdraft and how much security is needed.
• To the Government: They involve personal judgment in some areas, like how depreciation is calculated, which helps in tax assessments.
• To Employees: Employees can use them to see if the company is strong enough to pay salaries and offer future growth opportunities.

In simple words: Financial statements are important tools for many people, like managers, investors, and banks, to understand a company's money performance and make smart decisions.

🎯 Exam Tip: When explaining significance, categorize the impact on different stakeholders (management, investors, creditors, etc.) to ensure a complete answer.

 

Question 3. preparing the financial statement of or company.
Answer: When preparing a company's financial statements, the Indian Companies Act, 2013, sets out important rules to follow:

• According to Section 2(40), financial statements must include a balance sheet, a profit and loss account (or income and expenditure account), a cash flow statement, a statement of changes in equity, and any notes that explain these.
• Section 129 (1) states that these financial statements must show a true and fair view of the company's situation and follow the Accounting Standards notified under Section 133. These standards ensure consistency and reliability.
• Section 129 (1) also says that financial statements must be prepared in the specific format shown in Schedule III of the Indian Companies Act, 2013.

In simple words: Companies must follow specific rules from the Indian Companies Act, 2013, when making their financial reports, including what to include, how they look, and the rules they follow.

🎯 Exam Tip: Mentioning the specific sections (2(40) and 129(1)) and Schedule III of the Indian Companies Act, 2013, adds precision to your answer.

 

Question 4. What do you mean by financial statement analysis?
Answer: Financial statement analysis means comparing different items within a company's financial reports. This is done by looking at and checking the connections between these items. The goal is to better understand how well the business is performing and its overall financial health. For example, comparing sales figures to production costs can reveal efficiency.
In simple words: Financial statement analysis is when you look closely at numbers in a company's reports to understand how it's doing financially.

🎯 Exam Tip: Define it as a comparison process used to evaluate performance and financial health, emphasizing the relationship between different items.

 

Question 5. What are the objectives of financial statement analysis?
Answer: Financial statement analysis is done for several key reasons:

• To find out how profitable the business is and how much it can earn.
• To check the company's long-term and short-term ability to pay its debts (solvency).
• To see how efficiently the business is running and how well it uses its assets. For example, how quickly inventory is sold.
• To understand how well the management and employees are performing.
• To track trends in sales, production, and other business activities over time.
• To guess future performance and prepare budgets.
• To compare the company's performance with other companies (inter-firm) or with its own past performance (intra-firm).

In simple words: The main goals are to check profit, ability to pay debts, how efficient the company is, predict the future, and compare its performance.

🎯 Exam Tip: Memorize at least 4-5 core objectives, such as assessing profitability, solvency, efficiency, and forecasting, to score well.

 

Question 6. What are the limitations of fin. State analysis.
Answer: Financial statement analysis has certain limits:
1. All the limitations that apply to financial statements themselves also apply to their analysis. This includes not considering non-money information, ignoring changes in price levels, and other such issues. For example, a good brand image is qualitative, not quantitative.
2. Financial statement analysis is only a tool, not the final answer. It is a way to look at information, not an end in itself. Its interpretation should be done carefully by financial experts who understand both internal and external factors affecting the business.
3. Expert knowledge is needed to properly analyze financial statements. Without it, the analysis might be wrong or misunderstood.
4. Understanding the analyzed data often involves personal judgment. Different experts might have different views, leading to varied conclusions.
In simple words: Financial analysis has limits because it uses past data, ignores things not measured in money, needs experts, and different people might understand it differently.

🎯 Exam Tip: Remember that financial statements are historical and often ignore qualitative factors, which are key limitations that also extend to their analysis.

 

Question 7. What do you mean by Horizontal analysis?
Answer: Horizontal analysis is when financial figures from several years are compared to understand how a business has changed over time. In this method, one year is chosen as the base year, and all other years' figures are compared to it. This helps to identify trends and growth patterns. Comparative statements and trend percentages are good examples of horizontal analysis.
In simple words: Horizontal analysis compares numbers from different years to see how things have changed over time, using an early year as a starting point.

🎯 Exam Tip: Remember that horizontal analysis tracks changes "across" periods, making it ideal for identifying trends over time.

 

Question 8. What do you mean by vertical analysis?
Answer: Vertical analysis looks at figures from only one accounting year. In this type of analysis, the relationship between different items within the same financial statement is established. For example, each item on an income statement can be shown as a percentage of total revenue. Preparing common-size statements and calculating ratios are common ways to perform vertical analysis.
In simple words: Vertical analysis looks at numbers from a single year and shows each item as a part of a larger total, helping to see how parts relate to the whole.

🎯 Exam Tip: Vertical analysis focuses on the relationship "within" a single financial statement, usually by expressing items as a percentage of a base figure (e.g., total assets or total revenue).