MMPC-004 Solved Question Paper

Question 1. Recording business transactions in a journal

What a journal is (in simple language)

A journal is the book where every business transaction is written down first, in date order, with a clear debit and credit entry for each. That’s why it is often called the “book of original entry”. Later, these entries are posted to the ledger accounts to prepare the trial balance and financial statements.

Why using a journal is helpful

• Systematic record: Every transaction is recorded with both debit and credit aspects, so nothing is left out.
• Chronological order: Entries are made date-wise, which makes it easy to trace what happened and when.
• Helps detect errors: Because every debit must have a matching credit, it becomes easier to spot mistakes when preparing the trial balance.
• Basis for final accounts: The ledger, trial balance and ultimately the profit and loss account and balance sheet all depend on correct journal entries.
• Evidence of transactions: If there is any dispute later, the journal provides written proof of what was recorded.

Steps in journalising (how to write a journal entry)

1. Read the transaction carefully – Understand what actually happened in the business.
2. Identify the accounts involved – For example, Cash A/c, Purchases A/c, Machinery A/c, Bad Debts Recovered A/c, etc.
3. Decide which account is debited and which is credited – Apply the rules of debit and credit for personal, real and nominal accounts.
4. Write the entry – First the debit account with “Dr.”, then the credit account with “To …”, and finally a short narration explaining the transaction.
5. Enter the date and amount – Make sure it matches the supporting voucher or bill.

Journal entries for the given transactions

(a) Purchases with trade discount

Suppose goods worth ₹1,00,000 are bought with a 10% trade discount from a supplier on credit. Trade discount is not recorded separately; we record only the net amount (₹90,000).

Entry:

• Purchases A/c  Dr.  ₹90,000
  To Supplier A/c  ₹90,000
  (Being goods purchased on credit after allowing trade discount)

(b) Goods distributed as free samples

When products are given away to promote sales, it is treated as selling/advertising expense, not as sales.

• Advertisement (or Sales Promotion) A/c  Dr.  ₹X
  To Purchases (or Finished Goods) A/c  ₹X
  (Being goods distributed as free samples for promotion)

(c) Depreciation charged on fixed assets

Depreciation is a non-cash expense that spreads the cost of an asset over its useful life.

• Depreciation A/c  Dr.  ₹Y
  To Machinery (or Building, Vehicle, etc.) A/c  ₹Y
  (Being depreciation provided on fixed asset for the year)

(d) Bad debts recovered

Bad debts written off earlier are now received. This is treated as a gain, not as reduction of current debtors.

• Cash/Bank A/c  Dr.  ₹Z
  To Bad Debts Recovered A/c  ₹Z
  (Being amount of bad debts earlier written off now recovered)

Practical insight: In a small business I worked with, the owner kept only rough cash notes at first. Once we started maintaining a proper journal, we could trace why cash was low on specific days (e.g., large stock purchase or rent payment). That made it easier for him to discuss with the bank for overdraft limits because he could show proper records, not just memory.

Question 2. Key accounting concepts and terms

Accrual concept

Under the accrual concept, we record income when it is earned and expenses when they are incurred, not when cash is actually received or paid. For example, if you provide services in March but your client pays in April, the revenue belongs to March. This gives a more realistic picture of profit for the period and is required under company law for financial statements.

Materiality concept

Materiality means “is this item big or important enough to affect decisions?” If the answer is yes, it must be properly recorded and disclosed. Small items can be treated in a simpler way. For example, a calculator costing ₹300 in a big company can be written off as an expense in the year of purchase instead of being treated as a separate asset. The idea is: do not overload the accounts with unnecessary detail that does not influence decisions.

Cost of goods sold (COGS)

COGS is the total cost of the goods actually sold during the period. For a trading firm, it is:

Opening stock + Purchases + Direct costs − Closing stock.

For a manufacturer, it includes cost of production plus or minus changes in finished goods inventory.

In real life, when I helped a small online store, we first separated COGS (product + packing + shipping directly linked to the order) from other expenses (like office rent). Once COGS was clear, we could see which products had poor margins and either re-priced or dropped them.

Depreciation

Depreciation is the systematic allocation of the cost of a tangible fixed asset over its useful life. It recognises that assets like machines, vehicles and computers lose value over time due to use and obsolescence.

From experience, when depreciation was ignored in a small manufacturing unit I observed, profits looked artificially high. But when we included depreciation, the firm realised that part of the “profit” was actually the wearing out of machines and that money had to be retained to replace them later.

Current assets

Current assets are resources that are expected to be converted into cash, sold or consumed within one year or within the operating cycle of the business, whichever is longer. Examples include cash, bank balances, inventory, trade receivables and short-term investments.

In day-to-day management, watching current assets closely is crucial. I’ve seen businesses show good profits on paper but get into trouble because too much money was locked in slow-moving stock and overdue debtors. That is why liquidity ratios (like current ratio and quick ratio) focus on current assets and current liabilities.

Question 3. Understanding cost, its elements, classification and total cost

What “cost” means in management accounting

In this context, cost is the monetary value of resources (materials, labour and expenses) used to make a product or provide a service. The same cost figure may be used differently depending on purpose – pricing, control, valuation, or decision making.

Main elements of cost

• Material: The physical stuff used to make the product.
  • Direct material: Clearly traceable to the product (wood in furniture, cloth in garments).
  • Indirect material: Used in production but not easily traceable unit-wise (lubricants, cleaning materials, small tools).
• Labour: Human effort used for production.
  • Direct labour: Workers directly making the product; their wages can be traced to units produced.
  • Indirect labour: Support staff like supervisors, storekeepers, maintenance workers, whose effort can’t be linked to specific units.
• Expenses: All other costs besides material and labour.
  • Direct expenses: Specifically traceable to a job (hire of special equipment for a particular contract).
  • Indirect expenses: General costs like factory rent, insurance, lighting, etc.
• Overheads: All indirect material, indirect labour and indirect expenses put together – factory, office, selling and distribution overheads.

How costs are classified (for better analysis)

• By behaviour:
  • Fixed costs: Do not change with output in the short run (factory rent, manager’s salary).
  • Variable costs: Move in direct proportion to output (direct material, piece-rate wages).
  • Semi-variable (mixed) costs: Have both fixed and variable parts (telephone, maintenance).
  • Step costs: Stay fixed for a range then jump upward (supervisors’ salaries when you add a new shift).
• By traceability:
  • Direct costs: Direct material, direct labour, direct expenses.
  • Indirect costs: Overheads that need some basis for apportionment.
• By function:
  • Production (factory) costs
  • Office and administration costs
  • Selling and distribution costs

How total cost is built up

Cost accounting usually builds total cost step by step:

• Prime cost = Direct material + Direct labour + Direct expenses
• Factory (or works) cost = Prime cost + Factory overheads
• Cost of production = Factory cost + Office and administration overheads
• Total cost (Cost of sales) = Cost of production + Selling and distribution overheads

Practical example: I worked with a small bakery that was confused about its pricing. We prepared a simple cost sheet for one batch of cakes. Once we separated prime cost (flour, sugar, eggs, baker’s wages) from overheads (rent, electricity, admin salary), the owner realised that electricity during night baking and delivery costs were eating into margins. That led to a change in delivery charges and more efficient batch sizes.

Question 4. Budgeting and budgetary control in practice

What is a budget?

A budget is a detailed financial plan for a future period, expressed in money and sometimes in quantities, showing what the organisation intends to achieve and how resources will be used.

Why budgetary control is important

Budgetary control means using budgets to plan and then comparing actual results with budgeted figures to control performance. It helps to:

• Communicate goals and responsibilities to different departments.
• Coordinate activities (e.g., sales, production and purchasing budgets must match).
• Motivate managers by setting clear targets.
• Monitor performance and take corrective action when needed.
• Identify wastage and cost overruns early.

Process of installing a budgetary control system

1. Clarify objectives and key constraints: Management decides what is to be achieved (profits, growth, market share) and what limits exist (capacity, funds, regulations).
2. Set up organisation for budgeting: Define roles – appoint a Budget Controller and form a Budget Committee; prepare a Budget Manual explaining procedures and formats.
3. Identify principal budget factor: For example, sales demand, machine capacity or raw material availability that restricts activity.
4. Prepare functional budgets: Sales budget, production budget, material budget, labour budget, overhead budgets, cash budget, etc.
5. Prepare the master budget: Integrate functional budgets into a budgeted profit and loss statement and budgeted balance sheet.
6. Compare actual and budgeted figures: Variances are analysed; reasons for differences are identified.
7. Take corrective actions and revise budgets if needed: Budgetary control should be flexible, not rigid.

Control ratios used in budgetary control

• Activity Ratio: Measures the level of activity achieved compared to what was planned.
  

• Capacity Ratio: Shows how far the budgeted working hours were actually used.
  

• Efficiency Ratio: Indicates how efficiently time was used to produce output.
  

If any of these ratios is 100% or more, performance is usually considered satisfactory; below 100% suggests issues to investigate.

Real-life feel: In a small garment unit, the owner introduced a simple monthly production budget and started tracking actual stitching hours versus standard hours. Initially efficiency ratio was around 70%. By fixing machine breakdown issues and giving better cutting layouts, productivity improved and the ratio went above 90%, which directly increased profits without any extra marketing spend.

Question 5. Altman’s Z-score and DuPont analysis

(a) Altman’s Z-score – predicting financial distress

Altman’s Z-score is a combined financial indicator used to judge whether a company is likely to go bankrupt or remain healthy. It uses five ratios based on liquidity, profitability, leverage and activity, and combines them with specific weights.

For manufacturing, listed firms, the formula is:

$$ Z = 1.2X_1 + 1.4X_2 + 3.3X_3 + 0.6X_4 + 1.0X_5 $$

Where:

• (X_1) = Net Working Capital / Total Assets
• (X_2) = Retained Earnings / Total Assets
• (X_3) = Earnings Before Interest and Tax (EBIT) / Total Assets
• (X_4) = Market Value of Equity / Total Liabilities
• (X_5) = Sales / Total Assets

Interpretation (original model):

• (Z > 2.99): Financially sound; low risk of bankruptcy.
• (Z < 1.81): Financially weak; high risk of failure.
• (1.81 \le Z \le 2.99): Grey zone – mixed signals; deeper analysis required.

How it feels in practice: In equity research, analysts often compute Z-scores to quickly flag risky companies. For example, when I analysed a small listed manufacturing firm, a Z-score below 1.8 matched what we saw on the ground – delayed salaries, rising debt and shrinking sales. It didn’t replace detailed analysis, but served as an early warning.

(b) DuPont analysis – breaking down return on equity (ROE)

DuPont analysis takes the Return on Equity (ROE) and breaks it into three components so that we can see why ROE is high or low.

Core idea:

$$ \text{ROE} = \text{Net Profit Margin} \times \text{Asset Turnover} \times \text{Equity Multiplier} $$

• Net Profit Margin = Net Profit / Sales
  Shows profitability from each rupee of sales.
• Asset Turnover = Sales / Total Assets
  Shows how efficiently assets generate sales.
• Equity Multiplier = Total Assets / Equity
  Shows the degree of financial leverage (how much assets are financed by equity vs liabilities).

Example from experience: Two companies I compared had similar ROE, but for different reasons. Company A had moderate margins, high asset turnover and low leverage – it ran very efficiently. Company B had low margins, poor asset use but very high leverage – risky. DuPont analysis made this visible immediately, even though the headline ROE alone looked similar.

Question 6. Annual report, financial contents and notes to accounts

What is an annual report?

An annual report is a comprehensive yearly document that a company issues to its shareholders and other stakeholders. It explains what the company did during the year and how it performed financially and non-financially.

Main financial contents of an annual report

• Balance Sheet (Statement of Financial Position): Shows assets, equity and liabilities on the reporting date – what the company owns and owes.
• Statement of Profit and Loss: Shows revenue, expenses and profit or loss for the year.
• Cash Flow Statement: Shows cash inflows and outflows from operating, investing and financing activities.
• Statement of Changes in Equity: Explains movements in share capital, reserves and retained earnings.
• Notes to Accounts and Accounting Policies: Provide detailed explanations, breakdowns and methods used.

Notes to the accounts – what they typically contain

• Summary of significant accounting policies (e.g., revenue recognition, depreciation methods, inventory valuation).
• Break-up of major items in the financial statements – fixed assets schedule, investments, receivables ageing, borrowings, contingent liabilities, related party transactions.
• Details of provisions and estimates (e.g., doubtful debts, warranties).
• Regulatory and legal disclosures required by law or standards.

Why notes matter to investors

• They reveal assumptions – for example, aggressive revenue recognition or very long useful lives of assets can make profits look better but riskier.
• They help assess liquidity and risk – contingent liabilities or guarantees may not appear directly on the face of the balance sheet.
• They allow apples-to-apples comparison – understanding policies helps investors compare two companies more fairly.

Real-world practice: When I guided a friend evaluating two IT companies for investment, the face numbers looked similar. But the notes showed that one company had large contingent liabilities for tax disputes and a lot of receivables overdue beyond six months. That changed his decision completely; he invested in the more conservative company with cleaner notes and better disclosure.

Question 7. Human Resource Accounting (HRA) as a management decision tool

What is Human Resource Accounting?

Human Resource Accounting is an attempt to measure and report the value of people (employees) as organisational resources. Instead of treating all HR spending simply as an expense, HRA views at least part of it as an investment that creates an asset for the organisation.

Methods may estimate this value based on cost (recruitment, training, development, welfare) or on the expected future earnings/contribution of employees, discounted to present value.

How HRA supports management decisions

1. Investment decisions

• HRA information can show investors and lenders that a company’s strength lies in its skilled workforce, not only in physical assets.
• When management sees quantified HR value, they may be more willing to invest in people-intensive strategies like R&D and training rather than only in machines.

2. Human resource planning (HRP)

• HRA helps estimate the cost of recruitment, training and turnover more accurately.
• Managers can compare the cost of hiring senior experienced people versus training juniors internally.
• It also supports decisions on how many people to hire now versus later, based on the value they are expected to generate.

3. Performance management and training

• By assigning values to different categories of employees, HRA helps identify high-value roles where training yields the highest returns.
• If expensive training programs do not improve performance or value of employees, management can redesign or discontinue them.

4. Compensation management

• HRA-based information can support more rational pay structures where rewards reflect an employee’s contribution and potential.
• It can help in wage negotiations, internal equity (fair pay across roles) and retention planning.

Practical flavour: Think of a mid-size IT services company. Using an HRA-style approach, it calculates not only the cost of hiring and training Java developers but also estimates the long-term revenue they typically bring through projects. Management then realises that retaining experienced developers is far more valuable than frequently replacing them with freshers. So they design better career paths and retention bonuses. The decision is no longer just emotional – it is supported by numbers around human resource value.

Question 8. Cost–volume–profit analysis: PV ratio, break-even and margin of safety

Given information

• Fixed expenses for six months = ₹9,00,000
• Sales (first six months) = ₹30,00,000
• Profit (first six months) = ₹6,00,000
• Loss (next six months) = ₹3,00,000
• Assume selling price and fixed expenses remain unchanged in the second half.

Step 1: Find the Profit/Volume (PV) ratio

Contribution for the first six months:

Contribution = Fixed costs + Profit = 9,00,000 + 6,00,000 = ₹15,00,000

PV ratio:

Step 2: Break-even point and margin of safety for first six months

Break-even sales (first six months)

Margin of safety (₹) for first six months

Margin of safety (%) for first six months

Step 3: Expected sales volume for the next six months

For the next six months, the company suffers a loss of ₹3,00,000.

We know:

Here, Profit = −₹3,00,000 (loss) and Fixed Cost = ₹9,00,000.

So,

Contribution (second half) = Fixed Cost − Loss = 9,00,000 − (−3,00,000) = 6,00,000

Using PV ratio of 50%:

Step 4: Break-even point and margin of safety for the whole year

Total for the year

• Total sales (year) = 30,00,000 + 12,00,000 = ₹42,00,000
• Total fixed expenses (year) = 9,00,000 + 9,00,000 = ₹18,00,000
• Total profit (year) = 6,00,000 − 3,00,000 = ₹3,00,000

Total contribution for the year:

Contribution (year) = Fixed cost (year) + Profit (year) = 18,00,000 + 3,00,000 = ₹21,00,000

You can check PV ratio again:

Break-even sales for the year

Margin of safety (₹) for the year

Margin of safety (%) for the year

Interpretation in practical terms

• In the first half, the company was comfortably above break-even (40% margin of safety).
• In the second half, sales dropped sharply to a level that could not even cover fixed costs, leading to a loss.
• For the year as a whole, the business just manages a modest profit and the margin of safety is only about 14.29%, which is quite thin. Any further drop in sales would push it back into loss.

Real-life lesson: In many seasonal businesses (like soft drinks or tourism), first-half and second-half performances differ sharply. CVP analysis like this helps managers plan cost cuts, marketing pushes, or new products for the weak season, instead of being surprised by losses at year-end.