TYBMS SEM 5 Financial Accounting (Q.P. November 2019 with Solution)

 Paper/Subject Code: 46012/Finance: Financial Accounting

TYBMS SEM 5

Financial Accounting

(Q.P. November 2019 with Solution)

Note-All questions are compulsory with internal choice.

Q1A. Multiple Choice Questions (any 8):                (08)

1) Following is an example of an accounting policy

(a) Realisation

(b) Materiality

(c) Dual Aspect

(d) Valuation of investment

2) The following factor should be considered while selecting and applying accounting policies

(a) Consistency

(b) Prudence

(c) Dual aspect

(d) Cost

3) Accounting to AS 1, disclosure should be made of

(a) Fundamental accounting assumptions

(b) All accounting principles

(c) All significant accounting policies

(d) All accounting policies

4) The underwriter is entitled to claim remuneration on

(a) The issue price of shares underwritten

(b) The face value of share actually purchased

(c) The face value of shares not purchased by him

(d) None of the above

5) If the whole of the issue of shares or debentures is underwritten it is known as

(a) Partial underwriting

(b) Sole underwriting

(c) Complete or full underwriting

(d) None of the above

6) If a part of the issue of shares or debentures is underwritten, it is termed as

(a) Partial underwriting

(b) Complete underwriting

(c) Firm underwriting

(d) None of the above

7) Following is not a fixed income bearing securities

(a) Debentures

(b) Equity shares

(c) Preference shares

(d) Government securities

8) Interest is always calculated on the

(a) Market value of the security

(b) Nominal value of the security

(c) Book value of the security

(d) Weighted average cost of the security

9) Interest on bonds accrues

(a) On the last day of the financial year

(b) On due dates fixed in advance

(c) On the date fixed by board resolution

(d) As declared by the company in the beginning of every financial year

10) If market value of investment held as current asset is less than cost

(a) Difference is credited to P&L a/c

(b) Difference is debited to P&L a/c

(c) Difference is ignored

(d) Difference is debited to capital reserve a/c

Q1. B. Match the following (any7):            (07)

Column A (Items)	Column B (Headings)
1) Bank Balance	a) current Liabilities (other current Liabilities)
2) Investment	b) Shareholders fund (Reserve and Surplus)
3) Accrued Salary	c) None Current Assets (Non-Current Investment)
4) Authorised Capital	d) current Liabilities (other current Liabilities)
5) Acceptance	e) Share Capital
6)  Unclaimed Dividend	f) Shareholders Fund (R & S)
7) Proposed dividend	g) Current Assets (Cash & Cash Equivalents)
8) Security Premium Reserve	h) Shareholders Fund (R & S)
9) Geneal Reserve	i) current Liabilities (Trade Payable)
10) Capital Reserve	j) Notes to accounts

Column A (Items)	Column B (Headings)
1) Bank Balance	g) Current Assets (Cash & Cash Equivalents)
2) Investment	c) None Current Assets (Non-Current Investment)
3) Accrued Salary	d) current Liabilities (other current Liabilities)
4) Authorised Capital	f) Shareholders Fund (R & S)
5) Acceptance	i) current Liabilities (Trade Payable) e) Share Capital
6)  Unclaimed Dividend	a) current Liabilities (other current Liabilities)
7) Proposed dividend	d) current Liabilities (other current Liabilities)
8) Security Premium Reserve	h) Shareholders Fund (R & S)
9) Geneal Reserve	f) Notes to accounts
10) Capital Reserve	b) Shareholders fund (Reserve and Surplus)

Q.2 A) Krishna Ltd. Imported goods form Skylark Ltd. Of USA worth US $ 3,00,000 on 31 October 2014 when the exchange rate was Rs 65 per US $. The amount was paid in instalments as follows.              (15)

Date	Amount of instalments US $	Exchange Rat US $
15-11-2014	1,00,000	64
15-03-2015	50,000	66
20-04-2015	50,000	63
10-01-2016	1,00,000	61

Krishna Ltd. Closes its books on 31 March every year. On 31 March,2015 the exchange rate was Rs. 61 per US .

You are required to pass Journal Entries in the books of Krishna Ltd. For the years ended 31 March, 2015 and 31 March, 2016.

Also prepare Foreign Exchange Fluctuation Account in the books of Krishna Ltd. For the relevant years.

OR 

Q.2 B) The following transaction of Miss Naina took place during the year ended 31 March, 2014.   (07)

Date	Transaction
12-04-2013	Purchased 1,00,000 Equity Shares of Rs. 10 each in ABC Ltd. For Rs. 50,00,000.
15-05-2013	ABC Ltd. Made a Bonus issue of 3 Equity Shares for every 2 shares held
30-06-2013	Naina sold 1,25,000 bonus shares for Rs. 20 each

Prepare Equity Shares in ABC Ltd. Account in the books of Miss Naina for the year ended 31-03-2014.

Q2.C) Chaitanya Limited issues 40,000 shares. Issue is underwritten by A, B and C in the ratio of 5: 3:2 respectively. Unmarked applications totalled 2,000 whereas marked applications are as follows:

A-16,000; B-5,700; and C-8,300. Calculate the net liability of each one of the underwriters. Unmarked applications are to be distributed amongst the underwriters in the ratio of their gross liability.

Q.3 A) From the following ledger balances of Regal Ltd has on 31 March 2017, You prepare the balance sheet as on 31 March 2017 as per schedule III of the companies Act.

Particulars	Rs.	Particulars	Rs.
Office Equipment	4,80,600	General Reserve
9% Debenture in APCO Ltd.	2.45,000	Creditors for Goods	1,68,500
Loose Tools	1,63,000	Creditors for Expenses	36.000
Plant & Machinery	18,00,000	Cash Credit	75,000
Computer Software	83,250	Mortgage Loan	3,10,000
Debtors for Goods	1,90,000	8% Preference Share Capital	5,50,000
Share Issue Expenses (Unwritten off)	30,000	Equity Share Capital	15,00,000
Stores & Spares	1,00,200	Staff Welfare Fund	85,000
Interest Accrued on Investment	51,000	Provision for Taxation	26,550
Cash at Bank	23,000

Q.3 B) M Limited brought out a public issue of 1 lac equity shares Rs. 10 each. The entire issue was underwritten by five underwriters as follows: A-25 per cent: B-15 per vent; C-10 per cent; D-30 per cent; and E-20 per cent. Applications bearing the seal of an underwriter are to be applied in relief of liability. The following applications were received: 13,750 shares bearing the seal of A; 10,250 shares bearing the seal of R: 9,250 shares bearing the seal of C; 8,250 shares bearing the seal of D; and 8,500 shares bearing the seal of E; 30,000 shares had no seal of underwriters. Find the liability of individual underwriters. Unmarked applications are to be distributed amongst the underwriters in the ratio of their gross liability.                 (08)

OR

Q3.C) Mr. Ashok entered into following transactions of Equity Shares of Rs 10 each of Anmol Ltd.                 (15) 

Date	No of shares	Details
1-4-2015	1,500	Rs 34,500 Cost (Opening)
15-5-2015	1,000	Purchase@ Rs 22 per share
15-7-2015	2,500	Bonus shares received.
15-12-2015	1,500	Sale @ Rs 22 per share
1-3-2015	1,000	Sale @ Rs 24 per share

Additional Information:

1) On 1 September 2015, dividend @ Rs. 3 per share was received for the year ended 31" March 2015.

2) On 10th November, 2015 the company made a right issue of Equity Shares in the ratio of one share for every five shares held on payment of Rs. 20 per share.

3) Mr. Ashok subscribed for 50% of the share and sold remaining on his rights @ Rs. 3 per share.

You are required to prepare investment in Equity Shares Accounts in the books of Mr. Ashok the year ended 31 March 2016.(Round off figures to the nearest rupee)                    (15) 

Q.4 A) Following is the trial balance of XYZ Ltd. As on 31 March 2017.       (15) 

Debit Balances	Rs.	Credit Balances	Rs.
Fixed Assets (Net Block)	7,50,000	Equity share capital (Rs.10 each fully paid)	4,40,000
Investments	2,50,000	9% Preference share capital (Rs. 100 each fully paid)	1,00,000
Closing Stock	3,75,000	Profit & loss statement.	2,80,000
Sundry Debtors	1,22,500	Securities Premium	30,000
Share issue expenses	20,000	Debentures Redemption Reserves	2,00,000
Staff Advance	1,00,000	General reserves	75,000
Advance Tax	60,000	8% debentures	5,25,000
Prepaid Expenses	45,000	Loan from directors Mr.D.	10,000
Advance to suppliers	27,500	Loan from Subsidiary Co.	70,000
Cash in hand	12,500	Sundry Creditors.	58,500
Bank balance	1,10,000	Bill Payable	21,500
		Provision for taxation	62,500
Total	18,72,500	Total	18,72,500

Additional Information

(a) Transfer to debenture redemption reserves Rs 50,000 and General Reserves Rs. 25,000.

(b) Entire Authorised shares capital has been issued & subscribed.

(c) 8% debentures are secured against all fixed assets. The figure in trial balance includes interest accrued and due Rs 25,000

(d) Loan from Director and subsidiary Co. are unsecured, and for short term.

(e) Creditors include creditors for goods Rs 40,000 while for expenses Rs 18,500.

(f) Stock comprises of Raw-Materials Rs 2,50,000, work in process Rs 50,000 and Finished goods Rs 75,000.

(g) Of the debtors, debts due for more than 6 months is Rs 22,500. All debts are unsecured and considered to be good.

(h) Profit and loss statement figures in Trial Balance is arrived at as under:

Previous Year's Balance b/d	1,48,500
(+) Net Profit for the Year	1,31,500
	2,80,000

(i) Ignore Previous years figures.

After considering the above adjustments, prepare balance sheet of the Company as on 31 march, 2017 as per schedule III requirements.

OR

Q.4 B) Excel limited issued 40,000 shares of Rs 10 each. These shares were underwritten as follows A-20,000 shares; and B-12000 shares. The public applied for 33,000 shares which included marked applications from the underwriters as follows: A -5,000 shares; B-3,000 shares. Direct applications received by the company were for 5000 shares. Determine the net lability of the underwriters. Unmarked applications are to be distributed amongst the underwriters in the ratio of their gross liability.                     (08)

Q.4 C) Pass necessary Journal Entries in the books of N of Nasik based on AS 11. A machine was Imported on 20th January, 2013 from Jackie Chan of China for US $ 2,00,000. The payment for the same was made as follows.                              (07)

US $ 1,50,000 on 27th February 2013

US $ 50,000 on 15th March 2013

The Exchange Rate for $ 1 was as follows:-

On 20th January, 2013	RS. 47.00
On 27th February, 2013	Rs. 46.50
On 15th March 2013	Rs. 48.00

follows financial year as accounting year.

Q.5) a) What do you mean by Ethics? Describe its Scope.                (07)

At its core, ethics is the philosophical study of moral principles that govern a person's or group's behavior. It's about systematically examining fundamental questions concerning what is morally good and bad, and morally right and wrong. It seeks to provide a framework for individuals and societies to make decisions and navigate dilemmas, aiming to guide human conduct towards what "ought to be" rather than merely describing "what is."

• Moral Principles: Ethics deals with the underlying principles, values, and standards that determine what actions are deemed acceptable, beneficial, just, or virtuous.
• Right and Wrong: It explores concepts of right and wrong, good and evil, duty, responsibility, and fairness.
• Rational Inquiry: Ethics is a rational and systematic inquiry, meaning it relies on reason and logic to understand and justify moral judgments, rather than solely on feelings, traditions, or religious dogma.
• Human Conduct: While ethics can apply to broader systems, its primary focus is on human actions, decisions, and the character traits that lead to them.
• "Ought" vs. "Is": Ethics is a normative science. It is concerned with what should be done (prescriptive) rather than just describing what people actually do (descriptive).

In simpler terms, ethics is the compass that helps us navigate the moral landscape of life, asking:

• How should we live?
• What responsibilities do we have?
• What makes an action good or bad?
• What kind of person should I be?

Scope of Ethics

The scope of ethics is vast and multifaceted, extending to virtually every aspect of human existence where choices involve moral considerations. It addresses individual behavior, interpersonal relationships, societal structures, and even humanity's relationship with the environment and technology.

The traditional way to describe the scope of ethics is by dividing it into three main branches:

1. Meta-ethics:

   • Focus: This branch is concerned with the nature of moral judgments and concepts. It asks fundamental questions about ethics itself.
   • Questions it addresses:
     • What does "good" or "right" mean? Are moral statements objective truths or subjective opinions?
     • Do moral facts exist independently of human minds?
     • Where do moral values come from (e.g., God, reason, society)?
     • How do we know what is right or wrong?
   • Example: Debating whether morality is universal or culturally relative.

2. Normative Ethics:

   • Focus: This branch seeks to establish a set of general principles, rules, or theories that tell us how we ought to act and what makes actions morally right or wrong. It's about providing a framework for moral decision-making.
   • Questions it addresses:
     • What duties do we have?
     • What are the criteria for judging an action as morally right?
     • What kind of character traits should we cultivate?
   • Major Theories/Approaches:
     • Deontology (Duty-based ethics): Focuses on duties or rules. Actions are right or wrong in themselves, regardless of their consequences (e.g., telling the truth is always right). Immanuel Kant's categorical imperative is a famous example.
     • Consequentialism (Teleological ethics): Judges the morality of an action based on its outcomes or consequences. The most well-known form is Utilitarianism, which aims for the greatest good for the greatest number.
     • Virtue Ethics: Focuses on the character of the moral agent rather than specific actions or consequences. It asks what a virtuous person would do in a given situation and emphasizes the development of moral virtues (e.g., honesty, courage, compassion).

3. Applied Ethics:

   • Focus: This branch takes the theories and principles from normative ethics and applies them to specific, real-world, often controversial, moral issues and dilemmas. It bridges the gap between ethical theory and practical problems.
   • Questions it addresses:
     • Is abortion morally permissible?
     • Should euthanasia be legal?
     • What are the ethical responsibilities of businesses?
     • How should we treat animals?
     • What are our moral obligations regarding climate change?
   • Sub-fields (Examples):
     • Bioethics: Medical ethics, genetic engineering, end-of-life care.
     • Business Ethics: Corporate social responsibility, fair trade, employee rights, advertising ethics.
     • Environmental Ethics: Animal rights, conservation, climate justice.
     • Media Ethics: Truthfulness in reporting, privacy, censorship.
     • Professional Ethics: Codes of conduct for lawyers, doctors, engineers, teachers.
     • Computer Ethics/AI Ethics: Data privacy, algorithmic bias, responsibility of AI.

Beyond these main branches, the scope of ethics also involves:

• Individual Ethics: How an individual makes moral choices in their personal life, guided by their values and principles.
• Social Ethics: Deals with moral principles that govern the collective behavior of groups, communities, and societies, addressing issues like justice, equality, and human rights.
• Cultural Context: Recognizing that moral norms and values can vary across different cultures and societies, while still seeking universal ethical principles.
• Interdisciplinary Nature: Ethics interacts heavily with other fields like psychology (moral development), sociology (social norms), law (legal vs. moral), politics (justice systems), and religion (moral codes).

Q.5) b) Describe the fundamental principles of IFAC Code.             (08)

The IFAC (International Federation of Accountants) Code of Ethics for Professional Accountants is a globally recognized framework that sets out the ethical requirements for professional accountants. It is developed and issued by the International Ethics Standards Board for Accountants (IESBA), which is an independent standard-setting board supported by IFAC.

The Code's fundamental principles establish the standard of behavior expected of all professional accountants and reflect the profession's recognition of its public interest responsibility. These principles are the bedrock upon which the entire ethical framework for accountants is built.

There are five fundamental principles in the IFAC Code:

1. Integrity:

   • Meaning: To be straightforward and honest in all professional and business relationships.
   • In Practice: This means acting with honesty, fairness, and truthfulness, even when facing pressure or potential adverse consequences. It requires a professional accountant to not knowingly be associated with information that contains materially false or misleading statements, or that omits or obscures required information. It's about having the strength of character to do the right thing.

2. Objectivity:

   • Meaning: To not allow bias, conflict of interest, or undue influence of others to override professional or business judgments.
   • In Practice: Professional accountants must exercise their judgment impartially. They should not undertake a professional activity if a circumstance or relationship unduly influences their professional judgment regarding that activity. This principle requires independence of mind and appearance, especially in assurance engagements like audits.

3. Professional Competence and Due Care:

   • Meaning: To attain and maintain professional knowledge and skill at the level required to ensure that a client or employing organization receives competent professional service, based on current technical and professional standards and relevant legislation. To act diligently and in accordance with applicable technical and professional standards.
   • In Practice: This means:
     • Professional Competence: Possessing the necessary skills and knowledge to perform a professional activity.
     • Due Care: Acting diligently, thoroughly, and in a timely manner. It includes taking reasonable steps to ensure that others working under the professional accountant's authority have appropriate training and supervision. It also implies a commitment to continuing professional development (CPD) to stay updated with relevant developments in practice, legislation, and technology.

4. Confidentiality:

   • Meaning: To respect the confidentiality of information acquired as a result of professional and business relationships and not disclose any such information to third parties without proper and specific authority or unless there is a legal or professional right or duty to disclose. Confidential information should also not be used for the personal advantage of the professional accountant or third parties.
   • In Practice: This extends to all unpublished information about a client's or employer's affairs. It requires professional accountants to take appropriate action to protect the confidentiality of information throughout its lifecycle (collection, use, transfer, storage, retention, dissemination, and destruction). The duty of confidentiality continues even after the end of the professional relationship.

5. Professional Behavior:

   • Meaning: To comply with relevant laws and regulations and avoid any conduct that the professional accountant knows or should know might discredit the profession.
   • In Practice: This principle encompasses a broad range of conduct, requiring professional accountants to act in a manner consistent with the accountancy profession's responsibility to act in the public interest. It means being courteous and considerate, avoiding exaggerated claims for services, and not making disparaging references to the work of others. It underscores the importance of maintaining the reputation and trustworthiness of the entire accounting profession.

The Conceptual Framework:

The IFAC Code operates on a conceptual framework approach rather than a mere list of rules. This means professional accountants are required to:

1. Identify threats to compliance with the fundamental principles (e.g., self-interest threat, self-review threat, advocacy threat, familiarity threat, intimidation threat).
2. Evaluate the significance of the identified threats.
3. Apply safeguards to eliminate the threats or reduce them to an acceptable level.
4. If threats cannot be eliminated or reduced to an acceptable level, the professional accountant must decline or end the specific professional activity or service.

This principles-based approach allows professional accountants to exercise professional judgment in diverse situations, ensuring that ethical behavior is maintained even in complex or unforeseen circumstances. It emphasizes that the spirit of the principles must be upheld, not just the letter of the rules.

OR

Q.5) c) Write a Short notes (Any Three)                    (15)

i) Contingent Liabilities

Contingent liabilities are potential obligations that may arise in the future depending on the outcome of an uncertain event. Unlike regular liabilities, which are definite obligations, contingent liabilities have an element of uncertainty regarding their existence, amount, or timing.

Characteristics:

• Uncertainty: The defining characteristic is that the liability's existence, amount, or timing is not certain and depends on a future event that is not entirely within the entity's control.
• Past Event: Even though the outcome is uncertain, the potential obligation must arise from a past event or transaction.
• Potential Outflow of Resources: If the uncertain future event occurs, it is expected to result in an outflow of economic benefits (e.g., cash, assets).

Accounting Treatment (Based on Likelihood and Estimability):

Accounting standards (like GAAP in the US and IFRS internationally) classify contingent liabilities into three main categories, which dictate their financial statement treatment:

1. Probable:

   • Definition: The future event is likely to occur (generally considered to have a high probability, often 50% or more, or "more likely than not" under IFRS).
   • Estimable: The amount of the loss can be reasonably estimated.
   • Accounting Treatment: If both conditions are met, the contingent liability is recognized and recorded on the balance sheet as a liability and an expense on the income statement. This is often done by creating a "provision" or "accrued liability."

2. Possible:

   • Definition: The future event's occurrence is not probable but also not remote (i.e., there's a reasonable possibility).
   • Accounting Treatment: The contingent liability is not recognized on the balance sheet but disclosed in the footnotes to the financial statements. The disclosure should describe the nature of the contingency and, if possible, an estimate of the financial effect or a statement that such an estimate cannot be made.

3. Remote:

   • Definition: The future event is unlikely to occur.
   • Accounting Treatment: The contingent liability is neither recognized nor disclosed in the financial statements.

Common Examples of Contingent Liabilities:

• Pending Lawsuits/Litigation: A company being sued, where the outcome and potential damages are uncertain.
• Product Warranties: The potential cost of repairing or replacing defective products under warranty.
• Guarantees: A company guaranteeing the debt or performance of another entity. If the primary debtor defaults, the company may be obligated to pay.
• Environmental Liabilities: Potential costs for environmental clean-up or remediation due to past operations or pollution.
• Disputed Tax Liabilities: When a company is disputing a tax assessment from authorities, and the final outcome is uncertain.
• Recalls: The potential cost of recalling a product due to safety concerns or defects.

Importance of Contingent Liabilities:

• Financial Reporting Accuracy: Proper accounting for contingent liabilities ensures that financial statements provide a true and fair view of a company's financial position and performance.
• Informed Decision-Making: Disclosure of contingent liabilities allows investors, creditors, and other stakeholders to understand the potential risks and obligations a company faces, which is crucial for making informed decisions.
• Risk Management: Companies track contingent liabilities to assess and prepare for potential future outflows, aiding in better risk management and financial planning.

ii) Overriding commission

Overriding commission, often simply called an "override," is a type of incentive compensation paid to managers, team leaders, or senior-level individuals based on the sales performance of their team or subordinates, rather than solely on their own individual sales.

It's a crucial component in sales compensation plans, especially in industries with hierarchical sales structures like:

• Insurance: Senior agents or agency managers earn overrides on policies sold by agents they supervise.
• Real Estate: Brokerage owners or team leaders receive overrides on sales made by agents working under them.
• Financial Services: Managers earn based on the collective performance of their financial advisors.
• Direct Sales/Multi-Level Marketing (MLM): Upline members earn commissions on sales generated by their "downline" recruits.
• Software Sales (SaaS): Team leads might get a percentage of the revenue generated by their sales representatives.

How Overriding Commission Works:

Instead of just earning a commission on their own direct sales (which they might or might not also receive), the person receiving the override gets an additional percentage of the sales volume or the commissions earned by the team they oversee.

Example:

• A sales representative earns a 10% commission on their individual sales.
• Their sales manager receives a 2% overriding commission on all sales made by the representatives on their team.
• If a sales rep on the manager's team closes a deal worth $10,000, the rep earns $1,000 (10% of $10,000). The manager then earns an additional $200 (2% of $10,000) as an override.

Purposes and Benefits:

Overriding commissions are designed to:

1. Incentivize Leadership and Mentorship: Managers are financially motivated to train, coach, and support their team members to improve overall sales performance. The more successful the team, the higher the manager's override.
2. Drive Team Collaboration: It fosters a sense of teamwork, as managers benefit from the collective success of their subordinates, encouraging them to share strategies and help weaker performers.
3. Boost Overall Sales Volume: By aligning the manager's earnings with the team's output, it shifts focus from individual sales to growing the entire team's revenue.
4. Attract and Retain Top Talent: Offering overrides makes leadership positions more attractive and can encourage experienced sales professionals to stay with the company and move into management roles.
5. Create a Scalable Sales Model: It allows companies to expand their sales force effectively, as managers are incentivized to build and develop new sales talent.
6. Provide a Clear Growth Path: It offers a financial incentive for individual contributors to aspire to leadership positions.

Types of Overriding Commission:

While the core concept remains the same, overriding commissions can be structured in various ways:

• Flat Rate Override: A fixed percentage applied to all sales made by the team.
• Tiered Override: The percentage of the override increases as the team reaches higher sales milestones or targets. This provides extra motivation for significant performance jumps.
• Role-Based Override: Different levels of management (e.g., district manager vs. regional director) might receive different override percentages based on their scope of responsibility.
• Percentage of Sales vs. Percentage of Commission:
  • Percentage of Sales: The override is calculated as a percentage of the total revenue generated by the team.
  • Percentage of Commission: The override is calculated as a percentage of the commissions earned by the team members.

Challenges and Considerations:

While beneficial, overriding commissions also have potential downsides:

• Costly for Employers: If not set carefully, the additional commission layer can significantly increase payroll expenses.
• Potential for Internal Competition: If poorly managed, it can create unhealthy competition between managers or between managers and their direct reports.
• Reduced Focus on Personal Sales: Managers might prioritize team performance over their individual sales contributions, which could impact overall sales if their personal sales are still expected.
• Complexity in Calculation: Depending on the structure, calculating overrides can become complex, requiring robust commission management systems.

iii) Exchanges Rates

Exchange rates are a fundamental concept in international finance and economics. Simply put, an exchange rate is the value of one country's currency in relation to another country's currency. It tells you how much of one currency you can get for a certain amount of another currency.

Exchange rates are essentially prices determined by the forces of supply and demand in the global foreign exchange (forex or FX) market. This market is the largest and most liquid financial market in the world, operating 24 hours a day, five days a week, across major financial centers like London, New York, Tokyo, and Singapore.

• Supply and Demand: As demand for a currency rises (e.g., foreign investors are more interested in buying assets from it, or foreign consumers desire its exports), its exchange value appreciates (gets stronger). As demand falls or supply rises (e.g., local investors want to purchase foreign assets, or a nation imports more than it exports), its exchange value depreciates (weakens).
• Quotation: Exchange rates normally appear in pairs, for example, EUR/USD or USD/INR.
• Base Currency / Quote Currency: The base currency is the first currency in a pair, and the quote currency is the second one. The exchange rate shows how many units of the quote currency are required to purchase one unit of the base currency.
• Example: USD/INR 85.50 translates to 1 US Dollar (USD) equals 85.50 Indian Rupees (INR). For each USD, you can exchange it for 85.50 INR if you possess USD. If you possess INR, then to exchange for 1 USD, you would require 85.50 INR.

Types of Exchange Rate Regimes:

Countries adopt different systems for managing their exchange rates:

1. Floating Exchange Rate System:

   • Most major world currencies (like the USD, EUR, JPY, GBP, CAD) operate under this system.
   • The value of the currency is primarily determined by market forces of supply and demand, with minimal government intervention.
   • Advantages: Acts as an "automatic stabilizer" for the economy, allowing monetary policy to focus on domestic conditions like inflation and unemployment.
   • Disadvantages: Can be volatile, leading to uncertainty for businesses engaged in international trade and investment.

2. Fixed Exchange Rate System (Pegged Exchange Rate):

   • The government or central bank sets the exchange rate for its currency and pegs it to another major currency (e.g., the US Dollar) or a basket of currencies, or even a commodity like gold.
   • To maintain the peg, the central bank intervenes in the forex market by buying or selling its own currency.
   • Advantages: Provides certainty and stability for international trade and investment, especially beneficial for smaller economies.
   • Disadvantages: Limits the central bank's ability to use monetary policy for domestic economic goals; requires large foreign currency reserves to maintain the peg; can make the economy vulnerable to external shocks if the peg is unsustainable. Examples include the Hong Kong Dollar's peg to the USD.

3. Managed Floating Exchange Rate System (Dirty Float):

   • This is a hybrid system where the exchange rate is generally determined by market forces, but the central bank may intervene periodically to prevent excessive volatility or steer the currency in a desired direction.
   • Many countries, including India, operate under a managed float. This allows for some market flexibility while providing a degree of stability.

Factors Influencing Exchange Rates:

Numerous factors can influence the supply and demand for a currency, leading to fluctuations in its exchange rate:

• Interest Rates: Higher interest rates in a country tend to attract foreign capital (as investors seek better returns), increasing demand for that currency and strengthening its value.
• Inflation: Countries with lower and more stable inflation rates tend to have stronger currencies, as their purchasing power is better preserved. High inflation erodes a currency's value.
• Economic Performance (GDP Growth, Employment): Strong economic growth, low unemployment, and a generally healthy economy tend to attract foreign investment, increasing demand for the domestic currency.
• Trade Balance (Current Account Deficit/Surplus):
  • Trade Surplus (Exports > Imports): A country that exports more than it imports experiences higher demand for its currency, leading to appreciation.
  • Trade Deficit (Imports > Exports): A country that imports more than it exports needs to convert its currency into foreign currency to pay for imports, increasing the supply of its currency and potentially leading to depreciation.
• Government Debt: High levels of public debt can worry investors about a country's ability to service its debt or potential inflation from money printing, leading to a weaker currency.
• Political Stability and Geopolitical Events: Political instability, social unrest, or major geopolitical events can deter foreign investment and lead to a rapid depreciation of a country's currency due to uncertainty.
• Speculation: Traders and investors in the forex market constantly speculate on future currency movements, and their collective actions can significantly influence exchange rates in the short term.
• Terms of Trade: If a country's export prices rise relative to its import prices, its terms of trade improve, generally leading to currency appreciation.
• Central Bank Intervention: Even in floating rate systems, central banks may occasionally intervene to stabilize their currency if it becomes too strong or too weak, which could negatively impact the economy.

Importance of Exchange Rates:

• International Trade: They determine the cost of imports and the competitiveness of exports. A weaker domestic currency makes exports cheaper for foreigners and imports more expensive for domestic consumers.
• Tourism: A stronger domestic currency makes foreign travel cheaper, while a weaker currency makes it more expensive.
• Foreign Investment: Exchange rates impact the profitability of foreign direct investment (FDI) and portfolio investment.
• Inflation: Changes in exchange rates can influence domestic inflation, especially through import prices.
• National Debt: The value of a country's foreign-denominated debt can change significantly with exchange rate fluctuations.

iv) Accounting Standard 11

"Accounting Standard (AS) 11" deals with "The Effects of Changes in Foreign Exchange Rates."

Its primary objective is to prescribe the accounting treatment for:

1. Forex accounting: Assignment of FX amounts (amounts expressed in a currency other than the functional currency of a reporting entity) assignments of the foreign currency transactions (e.g. A foreign currency transaction, and a spot or forward contract to exchange foreign currency).

2. Translation of the Financial Statements of Foreign Operations: How to translate the financial statements of a foreign branch, subsidiary or joint arrangement into the presentation currency of the parent entity.

3. Accounting for foreign currency transactions in the nature of forward exchange contracts: How to treat derivative instruments like forward contracts that are used to hedge foreign currency risk.

Principles and Concepts under AS 11:

• Recognition of Foreign Currency Transactions: A foreign currency transaction should be recorded (when included in initial recognition in the reporting currency) by applying to the foreign currency amount the exchange rate between the reporting currency and foreign currency at the date of the transaction. For convenience, if a rate for a time period (e.g., week or month) is close to the exact rates, it may be substituted.

• Reporting at Subsequent Balance Sheet Dates:

  • Monetary Items: Foreign currency monetary items (like cash, receivables, payables, loans) should be reported using the closing rate (the exchange rate at the balance sheet date). Any exchange differences arising from this retranslation are generally recognized in the profit and loss statement for the period.
  • Non-Monetary Items:

    • Carried at historical cost:- Items that are not monetary (Land and Building, Plant and Machinery, Stock, etc.) and are carried at historical cost denominated in the foreign currency are to be reported using the exchange rate at the date of the transaction (historical rate). They are not converted at the closing exchange rate.

    • Carried at fair value or similar valuation: Non-monetary items carried at fair value should be reported using the exchange rates prevailing when such fair values were determined.
  • Contingent Liabilities: Contingent liabilities denominated in foreign currency at the balance sheet date are disclosed using the closing rate.

• Recognition of Exchange Differences:

  • Exchange Differences to be Recognized:

    The exchange differences on settlement of monetary items or on translation at the then present rates of monetary items of amounts recorded in the books or the balance-sheet of the previous financial year (except in any matter covered in Rule 1) are usually recognised as income or as the case may be expense in the profit and loss account of the year in which they arise.

  • Important Exception (Para 46/46A): For companies, AS 11 prescribes a special accounting treatment for exchange differences on long term foreign currency monetary items. To the extent that those differences are in relation to the acquisition of the depreciable asset or the loan itself they too may need to be added back to the carrying value of the underlying asset or loan and then amortised over the remaining life of the asset or loan, rather than being brought to account all up-front through the P&L. This was a significant modification introduced by the Ministry of Corporate Affairs (MCA) in India.

• Foreign Operations (Integral vs. Non-Integral):

• Integral Foreign Operation: Operation which is integrated in the activities of the reporting enterprise. Its financial transactions are recorded as if they and those of the reporting enterprise were those of a single entity. Item-by-Item Translation of Financial Statements of Operations The financial statements of foreign branch and affiliate operations also are translated into the reporting currency, using rules analogous to those for foreign currency transactions.

• Non-Integral Foreign Operation: It is an operation not integrated in the operation of the reporting enterprise. It has a high degree of autonomy and its financials are aggregated in local currency. Its financial statements are translated into the reporting currency of the parent differently, with exchange differences recorded in the "Foreign Currency Translation Reserve" in equity, and not in the profit and loss account.

• Forward Exchange Contracts: AS 11 also provides guidance on accounting for gains and losses on forward exchange contracts, including how premiums or discounts on such contracts are recognized.

Differences from Ind AS (Indian Accounting Standards) 21:

Note that India has moved toward Ind AS (Indian Accounting Standards), which are converged with IFRS (International Financial Reporting Standards).

AS 11 forms a part of the "old" Indian GAAP (Generally Accepted Accounting Principles).

Ind AS 21 (The Effects of Changes in Foreign Exchange Rates) is the Indian Accounting Standard corresponding to it.

Both are involved with foreign exchange, although Ind AS 21 pioneers the "functional currency approach" as being the currency of the primary economic environment in which an entity operates. This is more principled approach from the AS 11’s “integral” vs. “non-integral” classification. The accounting for exchange differences, in particular regarding long-term monetary items, also differs in AS 11 (which has a specific carve-out for depreciable assets/loans) and Ind AS 21.

Most large companies in India (especially listed companies and those with a certain net worth) have transitioned to Ind AS. However, smaller companies and those not yet mandated to adopt Ind AS might still follow AS 11.

v) Corporate Governance

Corporate governance is the system of rules, practices, and processes by which a firm is directed and controlled. It is the systems and processes by which businesses are held to account — especially their own management — by those with whom they engage or seek to engage; shareholders, employees, customers, the wider community. The document below, delves into the fundamental building blocks of corporate governance, why it's important and some of the frameworks that help make corporate governance work.

Components of Corporate Governance

1. Board of Directors: Board is responsible for managing the company on behalf of the shareholders. The gender, autonomy, and diversity of the board are key d From w1the perspective of effective governance.

2. Shareholder Rights : Preserve shareholder rights as the building block for corporate governance. This encompasses the right to vote on important matters, access to information and influence over corporate decisions.

3. Transparency and Disclosure: Firms must disclose fair and timely information to stakeholders. Transparency breeds trust, and it allows investors and other concerned parties to make an informed decision.

4. Risk Management: Good governance is about how risk exposure is identified, assessed and managed to help the company perform at its best and protect its reputation. This includes implementation of strong internal controls and compliance systems.

5. Ethics: Good Business Sense Ethics create a solid foundation for governance. You must have a code of conduct at your company to foster honesty and responsibility among your staff.

Importance of Corporate Governance

Corporate governance is crucial for several reasons:

• Improves Accountability: It makes management accountable to the share and stakeholders and promotes a culture of accountability.

• Ensures Sustainable Growth: Good governance fosters sustainable growth by harmonising multiple stakeholders' interests & encouraging ethical business practices.

• Manages Risks: Good governance systems contribute to the fast detection and control of risk, thus minimizing susceptibility to corporate scandal and financial crisis.

• Building Investor Confidence: Well-run governance can increase investor confidence, which can lead to additional investing and higher stock prices.

Frameworks for Corporate Governance

How Corporations Are Governed Several models and manuals exist for promoting good corporate governance:

OECD Principles of Corporate Governance: Provide marquee template for policymakers and companies to improve governance around the world

Sarbanes-Oxley Act (SOX): SOX, implemented in the US, has been enacted to protect investors from accounting scandals and other corporate abuses perpetrated by supporting more reliable and accurate corporate disclosures of material information.

UK Corporate Governance Code: This code defines how companies should be directed on a day-to-day basis in the area of board leadership and effectiveness, remuneration, accountability and relations with shareholders.