1-Write a short (a few sentences) essay on the difference between Accounting and

Finance?
Answer:
In simple words, Accounting focuses on day to day flow of money in and out of the
company or any institution. Accounting is more about truthful reporting of what has
already occurred and compliance with laws and principles. It’s often said that
accounting looks back to a company’s past financial transactions. Whereas Finance
is a broader term used for the management of organization’s assets, Liabilities and
Planning for the future growth. If we want to work out high-level control over a
company’s strategies, finance will work for us. If we are thinking in terms of a longer
time prospect, then it may be happier in finance than in accounting.
2-Your text lists three forms of business organizations: List the three forms and
explain their advantages and disadvantages.
Answer:
The three forms of Business Organization are; -
I. Sole proprietorship
II. Partnership
III. Corporation
I-Sole proprietorship
It is most common form of business ownership in which only one individual uses all
the benefits and risks of running an Enterprise or Business. The owner is always
responsible for all his liabilities that incurred in the Business.
Its Advantages includes; -
 sole proprietor has complete control on his administrative power over the
business.
 The Business Secrets will remain secrets due to unshared nature.
 No business tax payments will have faced by Owner.
 Minimum legal cost is requiring to register the Business.
  Sale or any transfer of property will easily at the option of the sole proprietor.

Some Disadvantages includes: -

 Sole proprietor has to face all the risks associated with business. The mistakes
by his employees will also leads to his losses.
 Sole proprietor has limited ability in the decision making or planning future
strategies for his business.
 Investors usually do not invest or grant credit to Sole proprietor due to high
risk of Business failure.
 Sole proprietor has to face the loss of his family personal property for the
obligations of the business.
II-Partnership
A business owned by two or more people, who agree to share in its profits or losses,
is considered a partnership. The Partner should have a legal agreement that sets forth
how decisions will be made, disputes will be resolved, how future partners will be
admitted to the partnership, profits will be shared, how partners can be bought out,
or what steps will be taken to dissolve the partnership when needed etc.
It has two Types which includes: -
1. unlimited liability partnership as the owner(s) is/are personally responsible for
the losses the business makes
2. A limited partnership is a form of partnership in which some of the partners
contribute only financially and are liable only to the extent of the amount of
money that they have invested.
Its Advantages includes; -
 All partners can use all their combined resources to invest in Business.
 Partners can agree to create the partnership verbally or in writing. There is
no need to register with Companies House and registering the business
partnership for taxation.
 Compared with a sole trader, by working in a business partnership you can
benefit from companionship and mutual support in decision making
  Each partner will bring their own knowledge, assistances, and contacts to
the business, potentially giving it a better chance of success.
 In a business partnership, the profits of the business are shared between the
partners. They flow directly through to the partners’ personal tax returns
rather than initially being retained within the partnership.
Disadvantages of partnership includes; -
 Partnership has no independent legal existence different from the partners.
 In case of Death of one Partner, the remaining partners may not be in a
position to purchase the outgoing partner’s share of the business.
 Combination of partners is likely to be able to contribute more capital than a
sole trader, a partnership will often still find it more difficult to raise money
than a limited company.
 By successful into business as a general partnership rather than a sole trader,
you lose your autonomy. You probably won’t always get your own way, and
each partner will need to demonstrate flexibility and the ability to
compromise.
 Compared to running a business as a sole trader, decision-making can be
slower as you’ll need to consult and discuss matters with your partners. This
will make the decision slow and difficult.
III-corporation
A group of people& a legal entity that is distinct and separate from its owners is
called a Corporation. A Corporation enjoys almost all the rights and duties that an
individual owns. It has a right to enter into a contract, loans, borrow money and sue
or to be sued.
Its Advantages includes; -
 Business owners are not personally liable for any debt or legal judgements
associated with the corporation.
 Corporations can transfer ownership by buying or selling its shares.
 Unlike other businesses, a corporation has no limit to its life. If owners die or
want to dissolve their shares, they simply sell or transfer their ownership to
someone else.
  A corporation’s taxes are independent of your personal taxes. As an owner,
you only pay taxes on the salary or dividends paid to you by the corporation.
Its Disadvantages includes; -
 it will require investing more money and time than if you went with another
business entity.
 There are many legal requirements and annual documentation that must be
submitted because there are many government agencies that monitor
corporations, fulfilling the paperwork necessary to meet all requirements.
 Shareholders have to bear Double taxation that happens when dividends are
paid to shareholders. Corporate taxes must be paid on profit at the corporate-
level and again at the individual level.
 It is difficult for owners to provide insight or direction. When there is no clear
or definitive direction, the corporation’s management team can make
executive decisions, as long as they act with the best interest of the owners or
shareholders.
3-After reading the section on "The Agency Problem and Control of the
Corporation." Do you believe that managers always act in the best interest of the
shareholders? Support your conclusion?
Answer:
I believe that the Manager will act in the best interests of stockholders depends on
some factors like how closely are management goals aligned with stockholder goals?
This question relates, at least in part, to the way managers are compensated. Second,
can managers be replaced if they do not pursue stockholder goals? This issue relates
to control of the firm. As we will discuss, there are a number of reasons to think that
even in the largest firms, management has a significant incentive to act in the
interests of stockholders.
1. Control of the Firm
Control of the firm ultimately rests with stockholders. They elect the board of
directors, who in turn hire and fire managers. The fact that stockholders control the
corporation was made abundantly clear by Steven Job’s experience at Apple. Even
though he was a founder of the corporation and was largely responsible for its most
successful products, there came a time when shareholders, through their elected
directors, decided that Apple would be better off without him, so out he went. Of
course, he was later rehired and helped turn Apple around with great new products
such as the iPod.
2. Managerial Compensation
Management will frequently have a significant economic incentive to increase share
value for two reasons. First, managerial compensation, particularly at the top, is
usually tied to financial performance in general and often to share value in particular.
For example, managers are frequently given the option to buy stock at a bargain
price. The more the stock is worth, the more valuable is this option. In fact, options
are often used to motivate employees of all types, not just top managers.
The second incentive managers have related to job prospects. Better performers
within the firm will tend to get promoted. More generally, managers who are
successful in pursuing stockholder goals will be in greater demand in the labor
market and thus command higher salaries.

Chapter 2

Answer the following questions

1-What assets are considered liquid? Why are they considered liquid? In what order
are they listed on the Balance Sheet?
Answer:
i. The assets that can be easily converted into cash near its original value are
called liquid assets. For example, cash is most liquid asset. Other includes
currency, deposit accounts, and negotiable instruments (money orders,
cheque, bank drafts) etc.
ii. These assets are considered as liquid because they can easily and anytime be
converted into cash to payout the liabilities.
iii. Liquid Assets are ordered in balance sheet according to amount of time it
would usually take to convert them into cash. Their order usually is 1) Cash
2) Marketable securities 3) Accounts receivable 4) inventory 5) fixed assets.
2-Explain the difference between the "accounting or book value" and "market value"
of a company.
Answer:
Accounting or book value
It represents the company’s value of the business according to the Books or balance
Sheet. Book value is calculated from the balance sheet as
Accounting or book value of a company =Total assets –Total liabilities
In other words, On the company's balance sheet, book value is recorded as
shareholders' equity.
For example, if Company ABC has total assets of $100 million and total liabilities
of $80 million, the book value of the company is $20 million. In a very broad sense,
this means that if the company sold off its assets and paid down its liabilities, the
equity value or net worth of the business would be $20 million
Book value is important to consider because a company with a higher book value
than market value may indicate a buying opportunity. A stock might be considered
undervalued if its book value exceeds the market value, since it would be viewed by
the market that the stock is trading at a cheaper price than the actual value of the
company. As a result, value investors might buy the stock based on the lower market
valuation with the expectation that the market will eventually catch up to the cheap
valuation ultimately sending the stock price higher.
Market Value
Market value is the value of a company according to the stock market. Market value
is calculated by multiplying a company's shares outstanding by its current market
price.
If Company ABC has 1 million shares outstanding, and each share trades for $50,
then the company's market value is $50 million. Market value is most often the
number analysts, newspapers and investors refer to when they mention the value of
a company.
Book value greater than market value. When the market value a company is
trading for less than its stated value or book value, it's usually because the market
has lost confidence in the company.
Market value greater than book value.
When the market value exceeds the book value, the stock market is assigning a
higher value to the company due to the earnings power of the company's assets.
3-Why is depreciation called a "non-cash" item. Can you think of other non-cash
charges to the Profit and Loss statement?
Answer:
As we know that depreciation is a reduction in the value of assets due to its usage
during its useful life. Depreciation is a non cash item because there occurs no cash
out when it is recognized. It is only a deductible cost/expense when calculating the
profit & loss account. It is an expense that shows neither cash paid nor cash received.
Non cash revenue accounts include items such as accrued revenues (or unrealized
revenues). A company may earn certain revenues in the current accounting period
by closing a sale and shipping goods, but these are non-cash revenues until the
customer actually pays. Accountants sometimes call such revenues unrealized
revenues.
In accrual accounting, non-cash revenues can be reported as earned revenues on the
Income statement but they cannot add to the cash inflow total on the cash flow
statement.
Transactions in non-cash expense accounts meet the textbook definition of expense:
Generally, they decrease owner’s equity by using up assets. They do not represent
actual cash flow, however. The most familiar non cash accounts are for depreciation
expenses, but others include amortization and bad debt expenses.
Non-cash expenses appear on the Income statement for the purpose of reducing
bottom line earnings, thereby lowering taxes. Consider, for instance, a company
buying an expensive asset entirely with cash.
Non Cash Depreciation Expense Helps Apply Matching Concept.
4-Explain the difference between average and marginal tax rates?
Average Marginal tax rate:
It is the total taxes you’ve paid divided by your income. It is Calculated as
Average tax rate = total income tax paid / Total income
Marginal Tax Rate
The marginal tax rate is the rate of tax applied to the last dollar added to your taxable
income. For example, if your income is $105,000 and the tax rate for the $100,000
to $150,000 bracket is 30% then your marginal tax rate is 30%.
Taxpayers’ average tax rates are lower usually much lower than their marginal rates.
People who confuse the two can end up thinking that taxes are much higher than
they actually are.
Under a Progressive Tax System, Marginal Rates Rise with Income
The federal income tax system is progressive, meaning that it imposes a higher
average tax rate on higher-income people than on lower-income people.
It achieves this by applying higher marginal tax rates to higher levels of income. For
example, starting in 2018, the first portion of any taxpayer’s taxable income is taxed
at a 10 percent rate, the next portion is taxed at a 12 percent rate, and so on, up to a
top marginal rate of 37 percent.
Average Tax Rate Is Generally Much Lower Than Marginal Rate
As an example, the graph below shows a married couple with two children earning
a combined salary of $110,000. They face a top marginal tax rate of 22 percent, so
they would commonly be referred to as “being in the 22 percent bracket.” But their
average tax rate — the share of their salary that they pay in taxes — is only 6.2
percent.
An individual’s average tax rate tends to be much lower than his or her marginal tax
rate for three main reasons.
1. Because of deductions, not all income is subject to taxation.
In the example above, the couple can claim the standard deduction for tax year 2018
totaling $24,000. Subtracting that $24,000 from the couple’s $110,000 salary leaves
them with $86,000 in taxable income — the amount of income subject to federal
income taxes.
2. The top marginal tax rate applies only to a portion of taxable income.
As the graph shows, the first $19,050 of the couple’s taxable income is taxed at a 10
percent rate; the next $58,350 is taxed at 12 percent. Only the last $8,600 of their
income faces their top marginal rate of 22 percent.
3. Taxpayers subtract their credits from the tax they would otherwise owe to
determine their final tax liability. In our example, the couple can claim the Child Tax
Credit for both children, further reducing their tax by $4,000.
5-Your text lists three key financial management decisions; Capital Budgeting,
Capital Structure and Working Capital management. Briefly explain (with and
example) each of the three areas?
Answer:
(A) Capital Budgeting
It is a Process that the companies use to determine the fixed assets investment
decisions whether to purchase the proposed fixed asset, rebuilding existing
equipment, purchasing delivery vehicles, constructing additions to buildings, etc. or
not on the base of some quantitative views or rational judgment.
Capital Budgeting Methods
There are three common methods used for Capital Budgeting
i. Net present value analysis. Identify the net change in cash flows associated
with a fixed asset purchase, and discount them to their present value. Then
compare all proposed projects with positive net present values, and accept
those with the highest net present values until funds run out.
ii. Constraint analysis. Identify the bottleneck machine or work center in a
production environment and invest in those fixed assets that maximize the
utilization of the bottleneck operation. Under this approach, you are less likely
to invest in areas downstream from the bottleneck operation (since they are
constrained by the bottleneck operation) and more likely to invest upstream
 from the bottleneck (since additional capacity there makes it easier to keep the
bottleneck fully supplied with inventory).
iii. Payback period. Determine the period required to generate sufficient cash
flow from a project to pay for the initial investment in it. This is essentially a
risk measure, for the focus is on the period of time that the investment is at
risk of not being returned to the company.
iv. Sometime we also use an internal rate of return (IRR) calculation formula for
it
For Example:
Let's assume Company ABC is deciding whether to purchase a piece of factory
equipment for $300,000. The equipment would only last three years, but it is
expected to generate $150,000 of additional profit per year during those years.
Company XYZ also thinks it can sell the equipment for scrap afterward for about
$10,000. Using an internal rate of return (IRR) calculation, Company XYZ can
determine whether the purchase is a better use of cash than some of Company XYZ's
other investment options, which return about 10%.
The Importance of Capital Budgeting
The amount of cash involved in a fixed asset investment may be so large that it could
lead to the bankruptcy of a firm if the investment fails. Consequently, capital
budgeting is a mandatory activity for larger fixed asset proposals. This is less of an
issue for smaller investments; in these latter cases, it is better to streamline the capital
budgeting process substantially, so that the focus is more on getting the investments
made as expeditiously as possible; by doing so, the operations of profit centers are
not hindered by the analysis of their fixed asset proposals.
(B) Capital Structure
Capital structure of any firm represents the percentage debt and /or equity employed
by company to fund its business operations.it is also known as Debt to equity Ratio
or Debt to capital Ratio.
Both type of capital (Debt+ Equity) used in the daily operations of the business. But
there should be a Tradeoff between the debt and Equity in order to the effective
management or optimal capital structure.
For Example: -
For example, a firm that has $20 billion in equity and $80 billion in debt is said to
be 20% equity-financed and 80% debt-financed. The firm's ratio of debt to total
financing, 80% in this example, is also referred to as the firm's leverage.
Two forms of capital

i. Equity Capital

It means money put up and owned by the shareholders (owners) of the Business that
typically consist of two types

1 Contributed capital, which is the money that was originally invested in the
business in exchange for shares of stock or ownership.
2 Retained earnings, which represents profits from past years that have been
kept by the company and used to strengthen the balance sheet or fund growth,
acquisitions, or expansion.
ii. Debt capital
The debt capital in a company's capital structure refers to borrowed money
that is at work in the business. The safest type is generally considered long-
term bonds because the company has years, if not decades, to come up with
the principal while paying interest only in the meantime.

Seeking the Optimal Capital Structure

Many middle-class investors believe that the goal in life is to be debt-free. When
you reach the upper echelons of finance, however, that idea is less straightforward.
Many of the most successful companies in the world base their capital structure on
one simple consideration — the cost of capital.

If you can borrow money at 7 percent for 30 years in a world of 3 percent inflation
and reinvest it in core operations at 15 percent, you would be wise to consider at
least 40 percent to 50 percent in debt capital in your overall capital structure
particularly if your sales and cost structure are relatively stable.
Capital structure in mergers and acquisitions (M&A)
When firms execute mergers and acquisitions the capital structure of the combined
entities can often undergo a major change. There resulting structure will depend on
many factors, including the form of consideration provided to the target (cash vs
shares) and whether existing debt for both companies is left in place or not.
For example, if Elephant Inc. decides to acquire Squirrel Co using its own shares as
the form of consideration it will increase the value of equity capital on its balance
sheet. If, however, Elephant Inc. uses cash (which it financed with debt) to acquire
Squirrel Co, it will have increased the amount of debt on its balance sheet.
(C) Working Capital management. (WCM)
It means the management of short term assets and short term liabilities. This process
is used to operate and generate the cash flows to meet the short term obligation and
daily operational expenses.
It can be calculated as
Net working capital formula is calculated by subtracting the current liabilities from
the current assets.
The goal of working capital management is to ensure that a firm is able to continue
its operations and that it has sufficient ability to satisfy both maturing short-term
debt and upcoming operational expenses. The management of working capital
involves managing inventories, accounts receivable and payable, and cash.
Working capital management is an extremely important area of consideration when
selling a mid-market business. Effective working capital management means that
business owners will maintain working capital levels as low as possible while still
having an adequate amount to run the business. At the point of sale, a buyer will
look at historical levels to determine an appropriate amount of non-cash working
capital to leave in the business post acquisition. The vendor will usually be able to
remove excess cash from the business prior to sale.
If the average non-cash working capital has been maintained at a low level
historically, then buyers will usually ask for a comparable level. The same is true if
inefficiently high levels of working capital have been maintained. On sale, the level
of working capital will have a direct impact on the total cash proceeds that vendors
will receive.