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Understanding The Balance of a Company MFM 1st Year, Division B

Mumbai Education Trust

MFM (FIRST YEAR), DIV: B First Semester
Financial Accounting Project on

Understanding The Balance of a Company MFM 1st Year, Division B

Presented by
Sr. No. 1 2 3 4 5 Name Nidhi GANDHI Ameya MAHURKAR Pranav PRAJAPATI Durgashree DATE Unnati UMROOTKAR Roll No. 75 89 98 111 114

Understanding The Balance of a Company MFM 1st Year, Division B

Under the Guidance of : Mr. L. N. Chopde



This is to certify that project titled UNDERSTANDING THE BALANCE SHEET OF A CO. is based on original study conducted by the group under my guidance and this had not formed a basis for the award of any other degree of this institute / university.

Place : Mumbai Date : 21st December 2009

( Mr. L. N. Chopde )

Understanding The Balance of a Company MFM 1st Year, Division B



This is to certify that the group has / have successfully completed a study on UNDERSTANDING THE BALANCE SHEET OF A CO. and has / have submitted the project report on the same. The study conducted was satisfactory. We wish him / them all the best.

Understanding The Balance of a Company MFM 1st Year, Division B


Understanding The Balance of a Company MFM 1st Year, Division B

ACKNOWLEDGEMENTS We would sincerely like to thank Prof. L. N. Chopde sir for his valuable guidance without which the project would never have been accomplished.

Understanding The Balance of a Company MFM 1st Year, Division B


Understanding The Balance of a Company MFM 1st Year, Division B

Sr. No. 1 2 3 4 5 6 7 8 Introduction Profile of the Company Hero Hondas Logo Hero Hondas Mandate Hero Hondas Mission Awards & Recognitions Corporate Profile Subsidiaries Hero Hondas performance on the BSE and NSE in the last FY20092010 Meaning of the Balance Sheet Concepts of the Balance Sheet Ratio Analysis Conclusion Bibliography Particulars Page No. 9 9 11 11 11 12 13 13


10 11 12 13 14

15 15 28 32 33

Understanding The Balance of a Company MFM 1st Year, Division B

Introduction Every organization needs funds for smooth running of activities. The Balance Sheet is a statement of Assets and Liabilities of a Company expressed in monetary terms as on a particular date. This gives us the financial position of the company at a given point of time. Assets are items of monetary value owned by a Company. Liabilities are the monetary claims that the Company owes to the outsider. A Balance Sheet is prepared and published by Companies, not on their own volition, but because of statutory obligation, imposed by the Companies Act, under which every public limited Company is required to prepare and publish its Balance Sheet, and other related documents. Within 6 months from the close of the accounting period. The Act further insists that the financial statements should be audited by a chartered accountant who has to report to the shareholders whether or not he accounts are true and fair. The main parts to a balance Sheet are: a) Sources of Funds b) Application of Funds In this project we will understand the balance sheet of Hero Honda Motors Ltd. We will understand each and every line items of the balance sheet and some important financial ratios. Profile of the Company Hero Honda Motors Ltd. is the world's largest manufacturer of two wheelers, based in India. Hero Honda is not a Company. It is the integration of two cultures thats namely Indian and Japanese. The company is a joint venture between India's Hero Group and Honda Motor Company, Japan that began in 1984. In 2001, the company achieved the coveted position of being the largest two-wheeler manufacturing company in India and the World No.1 two-wheeler company in terms of unit volume sales in a calendar year by a single company. Hero Honda has retained that coveted position till date. Today, every second motorcycle sold in the country is a Hero Honda bike. Every 30 seconds, someone in India buys Hero Honda's top-selling motorcycle Splendor. Vision The Hero Honda story began with a simple vision the vision of a mobile and an empowered India, powered by Hero Honda. This vision was driven by Hero Hondas commitment to customer, quality and excellence, and while doing so, maintaining the highest standards of ethics and societal responsibilities. Hero Honda believes that the fastest way to turn that dream into a reality is by remaining focused on that vision.

Understanding The Balance of a Company MFM 1st Year, Division B

Strategy Hero Hondas key strategy has been driven by innovation in every sphere of activity building a robust product portfolio across categories, exploring new markets, aggressively expanding the network and continuing to invest in brand building activities. Manufacturing Hero Honda bikes are manufactured across three globally benchmarked manufacturing facilities. Two of these are based at Gurgaon and Dharuhera which are located in the state of Haryana in northern India. The third and the latest manufacturing plant is based at Haridwar, in the hill state of Uttrakhand. Technology In the 1980s Hero Honda pioneered the introduction of fuel-efficient, environment friendly four-stroke motorcycles in the country. Today, Hero Honda continues to be technology pioneer. It became the first company to launch the Fuel Injection (FI) technology in Indian motorcycles, with the launch of the Glamour FI in June 2006. Products Hero Honda's product range includes variety of motorcycles that have set the industry standards across all the market segments. The company also started manufacturing scooter in 2006. Hero Honda offers large no. of products and caters to wide variety of requirements across all the segments. Distribution The company's growth in the two wheeler market in India is the result of an intrinsic ability to increase reach in new geographies and growth markets. Hero Honda's extensive sales and service network now spans close to 4500 customer touch points. These comprise a mix of authorized dealerships, Service & Spare Parts outlets, and dealer-appointed outlets across the country. Brand The company has been continuously investing in brand building utilizing not only the new product launch and new campaign launch opportunities but also through innovative marketing initiatives revolving around cricket, entertainment and ground- level activation. Hero Honda has been actively promoting various sports such as hockey, cricket and golf. Hero Honda was the title sponsor of the Hero Honda FIH Hockey World Cup that was played in Delhi during Feb-March 2010. Hero Honda also partners the Commonwealth Games Delhi 2010.


Understanding The Balance of a Company MFM 1st Year, Division B


HERO HONDA'S Mission Hero Hondas mission is to strive for synergy between technology, systems and human resources, to produce products and services that meet the quality, performance and price aspirations of its customers. At the same time maintain the highest standards of ethics and social responsibilities. This mission is what drives Hero Honda to new heights in excellence and helps the organization forge a unique and mutually beneficial relationship with all its stake holders. HERO HONDA'S Mandate Hero Honda is a world leader because of its excellent manpower, proven management, extensive dealer network, efficient supply chain and world-class products with cutting edge technology from Honda Motor Company, Japan. The teamwork and commitment are manifested in the highest level of customer satisfaction, and this goes a long way towards reinforcing its leadership status. As Brijmohan Lall Munjal, the Chairman, Hero Honda motors succinctly points out. We pioneered Indias motorcycle industry, and its our responsibility now to take the industry to the next level. Well do all it takes to reach there.


Understanding The Balance of a Company MFM 1st Year, Division B

Awards and Recognitions Year Awards & Recognitions 2010 Company of the Year awarded by Economic Times Awards for Corporate Excellence 2008-09. CNBC TV18 Overdrive Awards 2010 'Hall of Fame' to Splendor NDTV Profit Car & Bike Awards 2010

Two-wheeler Manufacturer of the Year CnB Viewers' Choice Two-wheeler of the Year (Karizma ZMR)

Bike Maker of the Year by ET-ZigWheels Car & Bike of the Year Awards 2009 2009 'Two-wheeler Manufacturer of the Year' by NDTV Profit Car & Bike Awards 2009 and Passion Pro adjudged as CNB Viewers' Choice two-wheeler Top Indian Company under the 'Automobile - Twowheelers' sector by the Dun & Bradstreet-Rolta Corporate Awards Won Gold in the Reader's Digest Trusted Brand 2009 in the 'Motorcycles' category NDTV Profit Business Leadership Awards 2009 -

two-wheeler category
2008 NDTV Profit Business Leadership Award 2008 Hero Honda Wins the Coveted "NDTV Profit Business Leadership Award 2008" TopGear Design Awards 2008 - Hunk Bike of the Year Award NDTV Profit Car India & Bike India Awards - NDTV Viewers Choice Award to Hunk in Bike category IndiaTimes Mindscape and Savile Row ( A Forbes Group Venture ) Loyalty Awards - Customer and Brand Loyalty Award in Automobile (two-wheeler) sector Asian Retail Congress Award for Retail Excellence (Strategies and Solutions of business innovation and transformation) - Best Customer Loyalty Program in Automobile category NDTV Profit Car India & Bike India Awards - Bike Manufacturer of the year


Understanding The Balance of a Company MFM 1st Year, Division B

Overdrive Magazine - Bike Manufacturer of the year TNS Voice of the Customer Awards: No.1 executive motorcycle Splendor NXG No.1 standard motorcycle CD Deluxe

No. premium motorcycle CBZ Xtreme

Corporate Profile

No. Name of the Directors Designation 1 2 3 4 5 6 7 Mr. Brijmohan Lall Munjal Mr. Pawan Munjal Mr. Sumihisa Fukuda Mr. Sunil Kant Munjal Mr. Masahiro Takedagawa Chairman & Whole-time Director Managing Director & CEO Technical Director Non-executive Director Non-executive Director

Mr. Toshiaki Nakagawa Joint Managing Director Mr. Om Prakash Munjal Non-executive Director

Subsidiaries Hero Cycles Ltd. Hero Honda Finlease Ltd. Munjal Showa Ltd. Sunbeam Auto Ltd. Hero Financial Services Ltd. Munjal Auto Industries Ltd


Understanding The Balance of a Company MFM 1st Year, Division B

Hero Honda Motors Performance on the BSE and NSE for fiscal 2009-2010


Understanding The Balance of a Company MFM 1st Year, Division B

Meaning of a Balance Sheet A quantitative summary of a company's financial condition at a specific point in time, including assets, liabilities and net worth. The first part of a balance sheet shows all the productive assets a company owns, and the second part shows all the financing methods (such as liabilities and shareholders equity). A balance sheet is prepared at the end of the year to know the financial position of an organization. It is the statement of assets and liabilities of an organization. It is a statement which shows sources of funds and the application of funds. The Companies Act, 1956 has laid down a vertical and a horizontal format of the balance sheet. The vertical format of the balance sheet is an abridged format which is supported by various schedules. Horizontal format is not supported by schedules because entire info is disclosed in the horizontal format only. Companies are given an option to follow either of the formats. However, most companies follow the vertical format. Concepts of the Balance Sheet Share Capital: It is the capital collected by the Company from the members of the public by subscription to the shares. Total share capital of the Company is divided into small units having fixed denomination. Each unit is called as a share and the fixed denomination of the share which is mentioned under capital clause of the Memorandum of association is called as the Face Value of the share. It is also called as Nominal Value of a share. As per SEBI (Securities and Exchange Board of India) Guidelines, Face Value of a share cannot be less than Re. 1. Authorized Capital: It is the maximum amount of capital that can be raised by the Company by issue of shares. It is mentioned under capital clause of Memorandum of Association. The company is authorized to raise the capital to the extent of authorized capital. Issued Capital: It is a part of the authorized capital which is offered to the public for subscription. It is the capital for which applications are invited by the Company for subscription. Subscribed Capital: Capital for which applications are received for subscription to the share capital. If the number of shares applied is more than the number of shares issues it is called over subscription. In such a case the shares are allotted to the applications proportionately. If the number of shares applied is equal to the number of shares issued it is called par subscription. In this case all eligible applicants get allotment. If number of shares applied is less than the number of shares issued it is called under subscription. In this case, eligible applicants get following allotments.


Understanding The Balance of a Company MFM 1st Year, Division B

Paid-up Capital: It is part of the subscribed capital which is actually paid-up by the shareholders. As per the Companys law the following information has to be disclosed about share capital: Types of Shares Equity Shares or Preference Shares Number of Shares Face Value of each Share Amount paid per Share Issue of Bonus Shares Issue of Shares for consideration other than Cash Hero Hondas Share Capital consists of :

Reserves and Surplus General Reserve / Revenue Reserve / Free Reserve: Amount kept aside out of profit for meeting future contingencies. It is called as Free reserve because it can be use freely for any purpose. It is available for distribution as dividend among shareholders. Dividend Equalization Reserve:


Understanding The Balance of a Company MFM 1st Year, Division B

It is the amount kept aside out of profit for equalizing the rate of dividend. It is divisible profit. Capital reserve: It is a reserve created out of capital profits. It is the profit which is non-recurring. For e.g. Profit on sale of capital assets, profit on reissue of forfeited shares, profit prior to incorporation etc. Capital reserve can be utilized for writing off capital losses and for issue of fully paid bonus shares. Capital reserve cannot be utilized for payment of dividend to the shareholders. Securities Premium: It is the excess of issue price over Face Value of securities issued. It includes premium on issue of shares and on debentures. Securities premium can be utilized for the following purposes only. 1) To write off preliminary expenses/formation expenses of the company. 2) To issue fully paid bonus shares. 3) To adjust premium on redemption of preference shares. 4) To adjust premium on buyback of Equity shares. 5) Securities premium cannot be utilized for payment of Dividend. Workmen compensation fund: It is an amount kept aside out of profit for payment of compensation to the workers who receive personal injury due to an accident which takes place during the course of employment. If there is no liability against the fund the entire amount of the fund is a part of accumulated profit which can be utilized for any purpose. Revaluation Reserve: It is a reserve created out of the appreciation incase on land and building. The company appoints expert re-valuer to bring the current price of building into the books. The amount of appreciation recommended is added to the book value of the building and transferred to revaluation reserve. Revaluation reserve is of capital nature. It cannot be utilized for payment of dividend. It cannot be used to issue bonus shares. Capital Redemption Reserve: It is the reserve created out of divisible profit for redemption of preference shares. The amount of Capital Redemption Reserve is the nominal value of preference share capital redeemed out of divisible profits. Capital redemption reserve can be utilized for payment of dividend. Investment Allowance Reserve: It is a reserve created as per the provisions of the Indian IT Act, 1961. The amount of reserve created is equal to 25% of cost of machinery purchased during the year. The reserve can be utilized for replacement of machinery after 8 years.


Understanding The Balance of a Company MFM 1st Year, Division B

As per the provisions of the Companies Act, the following information should be disclosed about every reserve. Balance at the beginning of the year (opening balance), additions during the year, utilization during the year and closing balance. Hero Hondas Reserves and Surplus consists of:

Profit & Loss a/c Balance (Retained Earnings) It is the amount of profit left in the business after making all the appropriations. It is called as retained earnings. It can be utilized for any purpose. Secured Loans Loans taken by the company against the security of assets is called as secured loans. If the loan is taken against the security of fixed assets it is called as a mortgage loan. Secured loans have the following features: 1) It carried fixed rate of interest. 2) Interest payable irrespective of profits. 3) No right of management. 4) Refundable after a certain period. 5) Secured by the assets. In case there is any default in repayment of loan the asset given as a security is disposed off and the claim is recovered. Debentures Acknowledgment of debt by a company from the members of the public by issue of an instrument. It is a written given by the company to the lenders for repayment of a certain amount with interest on a certain date.


Understanding The Balance of a Company MFM 1st Year, Division B

Categories of debentures: a) On the basis of registration: 1) Registered Debentures: They are registered with the company and they are transferable as per the procedure of transfer laid down by the law. Interest on such debentures is paid by issue of Interest Warrants. 2) Bearer Debentures: These debentures are transferrable by mere delivery of the instruments. It goes on changing hands at any number of times. The company cannot have a record of the holder on the date of payment of interest. Therefore interest is paid by issue of interest coupon. b) On the basis of security: 1) Secured Debentures: These debentures are secured by the assets of the company. 2) Unsecured Debentures: These debentures are not secured by the assets of the company. c) On the basis of Redemption: 1) Redeemable Debentures: These are refundable after certain period. 2) Irredeemable Debentures: These are not refundable after certain period. The refund depends on the desire of the Company. d) On the basis of conversion: 1) Convertible Debentures: These are convertible into equity shares. 2) Non-convertible Debentures: These cannot be converted into equity shares. e) Zero coupon Bond or Debentures: These type of debentures do not carry any rate of interest. These are issued at a price lower than future value on redemption, the debenture holder is paid equal to the future value. f) Collable Bonds:


Understanding The Balance of a Company MFM 1st Year, Division B

It is the amount of debentures which can be repaid by the company on receiving a call from debenture holders. In other words, such debentures are refundable at any time at the request of debenture holders. g) Bonus Debentures: These are the debentures issued by the company to the shareholders out of profits of the company. The holders are not required to pay any amount to the company. The amount payable by the holders is adjusted out of the profits of the company. Unsecured Loans Amount of loan taken by the company without creating any change on the assets. The amount of loan is repayable after a certain period. In case of any default, the amount can be recovered from the company by taking legal action. a) Unsecured Debentures b) Unsecured bank loan c) Unsecured loan from financial institutions d) Unsecured loan from Directors e) Public deposits are fixed deposits accepted by the companies from the members of the public as per the provisions of acceptance of deposit rules specified by Companies Act. Public deposits as a source of finance has the following features: 1) Unsecured 2) Accepted for maximum period of 3 years 3) Rate of interest not to exceed 12.5% 4) Refundable after a certain period 5) Do not have right of management 6) Interest is payable irrespective of profit 7) In case of default, amount can be recovered through legal action. 8) The companies are required to announce through leading newspapers about acceptance of deposit as per the format laid down by the law. 9) The deposits are acknowledged by the company by issue of deposit receipt. 10) In case the deposits are not refunded by the companies after a specified period, the responsible officer is penalized by the penalty which is equal to the amount of deposit. Hero Hondas Loan Funds consists of:


Understanding The Balance of a Company MFM 1st Year, Division B

Current Liabilities & Provisions: These are the obligation which is required to be paid within the operating cycle period out of current assets. Current liabilities: Current Liabilities are what a company currently owes to its suppliers and creditors. These are short-term debts that normally require that the company convert some of its current assets into cash in order to pay them off. These are all bills that are due in less than a year. As well as simply being a bill that needs to be paid, liabilities are also a source of assets. Any money that a company pulls out of its line of credit or gains the use of because it pushes out its accounts payable is an asset that can be used to grow the business. There are five main categories of current liabilities: Accounts Payable, Accrued Expenses, Income Tax Payable, Short-Term Notes Payable and Portion of Long-Term Debt Payable. Accounts Payable: Accounts Payable is the money that the company currently owes to its suppliers, its partners and its employees. Basically, these are the basic costs of doing business that a company, for whatever reason, has not paid off yet. One company's accounts payable is another company's accounts receivable, which is why both terms are similarly structured. A company has the power to push out some of its accounts payable, which often produces a short-term increase in earnings and current assets. Accrued Expenses: Accrued expenses are bills that the company has racked up that it has not yet paid. These are normally marketing and distribution expenses that are billed on a set schedule and have not yet come due. A specific type of accrued expense is Income Tax Payable. This is the income tax a company accrues over the year that it does not have to pay yet according to various federal, state and local tax schedules. Although subject to withholding, there are some taxes that simply are not accrued by the government over the course of the quarter or the year and instead are paid in lump sums whenever the bill is due.


Understanding The Balance of a Company MFM 1st Year, Division B

Short-Term Notes: Short term note payable is the amount that a company has drawn off from its line of credit from a bank or other financial institution that needs to be repaid within the next 12 months. The company also might have a portion of its Long-Term Debt come due with the year, which is why this gets counted as a current liability even though it is called long-term debt -- one of those little accounting quirks. Provision: It is an amount kept aside out of income/profit for the known liabilities. For e.g. Provision for taxation is amount kept aside out of income for payment of tax obligation where as payment of dividend. In case it is recommended are declared. For e.g. Provision for dividend tax (15.7%). It is the amount kept aside out of profit for payment of Dividend tax on the dividend that could be distributed during the year. Dividend tax I is about 15.7% of the dividend distribution. Provision for interim dividend. Hero Hondas Current Liabilities and Provisions consist of:

Fixed assets Long term assets which are held in business for production of goods and services and generation of revenue. They are called as long lived assets. These assets are held or used in business and not for sale. For e.g. Furniture and Fixtures, Patents and copyrights etc. Goodwill: Intangible fixed asset, having realizable value. Goodwill though intangible is not fictitious. Fictitious assets are intangible; they cannot be converted into cash. These are assets which do have physical existence but they cannot be seen by eyes.


Understanding The Balance of a Company MFM 1st Year, Division B

Land & building: It is the cost of purchasing or constructing the building for business purpose. The company may build building for residential purpose of its employees. All these are included in building account. Furniture and fittings: It includes assets like tables and chairs etc. used for helping operational functions of the company. Machinery & Plant: It includes the purchase price, taxes, transport, insurance in transit, assembling and testing of machinery and plants. Vehicles: It includes cars, trucks, buses and any other vehicles that the company has bought for use in the business. Capital work in progress: It includes the cost of assets manufactured during the year but on the date of balance sheet the manufacturing is not completed. For e.g. construction of building, manufacturing of machine for own use in the factory. The cost incurred on such assets is shown as capital work in progress. As per the provision of the Companys Law, fixed assets are to be presented in the balance sheet of companies less provision for depreciation to date. Gross block is equal to total cost of the Fixed Assets. Provision for Depreciation represents the total accumulated depreciation right from the date of acquisition to the date of balancing. Net block is the total written down value (WDV) of the fixed assets. It is also called as book value of the Fixed Assets. Cost of the assets include acquisition costs, installation cost charges, import duty, documentation charges, freight, transit insurance, stamp duty and registration. As per the provisions of the Company Law, total provision for depreciation should be deducted from the cost of fixed assets. Companys can provide depreciation as per Straight line method (SLM) or Written down Value method (WDV) as per the rate of depreciation specified in the schedule. XIV of Companys Act the Companys are given the option of following any method out of the two. Most of the companies follow SLM of depreciation. For Income Tax purpose, Income Tax Act recognizes WDV method. The Income Tax Act has laid down rates of depreciation for taxation purposes. Companies have to provide depreciation as per the Companies Law for calculation of accounting profit. While deducting the tax liability, depreciation adjustment is made in the profit on account of depreciation, by income tax officer. Hero Hondas Fixed Assets consists of:


Understanding The Balance of a Company MFM 1st Year, Division B

Investments Investments are the assets held by the Company for generation of incomes on account of interest or dividend. As per the provisions of the Companys Law following information has to be disclosed about investment: a) b) c) d) e) Pattern of investment. Cost, Market Value, Nominal Value. Quoted / Unquoted Trading / Non-Trading Terms and Conditions

Hero Hondas Investments consists of:

Current assets & Loans & Advances


Understanding The Balance of a Company MFM 1st Year, Division B

Current Assets Current assets are the assets held for consumption or conversion during the operating cycle period. Current Assets are assets that a company has at its disposal that can be easily converted into cash within one operating cycle. An operating cycle is the time that it takes to sell a product and collect cash from the sale. It can last anywhere from 60 to 180 days. Current assets are important because it is from current assets that a company funds its ongoing, day-to-day operations. If there is a shortfall in current assets, then the company is going to have to dig around to find some other form of short-term funding, which normally results in interest payments or dilution of shareholder value through the issuance of more shares of stock. There are five main kinds of current assets -- Cash & Equivalents, Accounts Receivable and Inventories. Cash & Equivalents: Cash and cash equivalents are assets that are money in the bank, literally cold, hard cash or something equivalent, like bearer bonds, money market funds. Cash and equivalents are completely liquid assets, and thus should get special respect from shareholders. This is the money that a company could immediately mail to you in the form of a fat dividend if it had nothing better to do with it. This is the money that the company could use to buy back stock, and thus enhance the value of the shares that you own. Hero Hondas Cash and Cash equivalents consists of:

Sundry Debtors: Sundry debtors are customers who owe money to the Company.. The reason why the customers owe money is that the product has been delivered but has not been paid for yet. Companies routinely buy goods and services from other companies using credit. Although typically debtors are almost always turned into cash within a short amount of time, there are instances where a company will be forced to take a write-off for debtors if it has given credit to someone who cannot or will not pay. This is why you will see something called allowance for bad debt in parentheses beside the Sundry Debtors number.


Understanding The Balance of a Company MFM 1st Year, Division B

The allowance for bad debt is the money set aside to cover the potential for bad customers, based on the kind of receivables problems the company may or may not have had in the past. However, even given this allowance, sometimes a company will be forced to take a write-down for accounts receivable or convert a portion of it into a loan if a big customer gets in real trouble. Looking at the growth in debtors relative to the growth in revenues is important -- if debtors are up more than revenues, you know that a lot of the sales for that particular quarter have not been paid for yet. We will look at debtors turnover and days sales outstanding ratios to measure Sundry Debtors.

Hero Hondas Sundry Debtors consists of:

Inventories: Inventories are the components and finished products that a company has currently stockpiled to sell to customers. Not all companies have inventories, particularly if they are involved in advertising, consulting, services or information industries. For those that do, however, inventories are extremely important. Inventories should be viewed somewhat skeptically by investors as an asset. First, because of various accounting systems like FIFO (first in, first out) and LIFO (last in, first out) as well as real liquidation compared to accounting value, the value of inventories is often overstated on the balance sheet. Second, inventories tie up capital. Money that it is sitting in inventories cannot be used to sell it. Companies that have inventories growing faster than revenues or that are unable to move their inventories fast enough are sometimes disasters waiting to happen. We will look at inventory turnover later as another way to measure inventory.


Understanding The Balance of a Company MFM 1st Year, Division B

Hero Hondas Inventories consists of:

Loans and Advances These are the short-term advances given by the Company which are recoverable in cash. For e.g. Expenses paid in advance, Advance payment of Income Tax, Advance to Staff, Advances to Suppliers, Bills Receivable, and Security Deposit with Customs Authority etc. Hero Hondas Loans and Advances consist of:

Miscellaneous Expenditure Preliminary expenses / formation expenses, expenses on issue of shares / debentures, underwriting commission, discount on issue of shares / debentures, deferred revenue expenditure, amalgamation adjustment account. As per the accounting policy fictitious assets are to be written off over certain number of years. The amount written off is shown over certain number of years. The amount written off is shown in the Income Statement and the remaining unwritten off is shown in the Balance Sheet under miscellaneous expenses. Contingent Liabilities


Understanding The Balance of a Company MFM 1st Year, Division B

The liabilities which are likely to arise in future on happening of certain events are called as contingent liabilities. Whether the liabilities will arise or not depends on the happenings in the future. For e.g. Arrears of preference dividend, Claim for compensation pending in the court of law, Amount payable on calls on shares purchased etc. Deferred Tax Assets / Liabilities Accounting profit is the profit arrived as per the Income statement prepared according to provisions of Indian Companies Act, accounting standards and generally accepted accounting principles. The profit disclosed in the Income statement may not be accepted by the Income Tax officer for taxation purpose because accounting profit shown by the income statement is not arrived as per the provisions of the Income Tax Act. Example: While deciding accounting profit depreciation is provided as per the Indian Companies Act whereas for determination of taxable profit, depreciation is provided as per Income Tax Act. Bad debt provisions maybe made in the accounting profit and loss a/c but the Income Tax officer does not allow bad debt provision unless the loss on bad debt is actually incurred. As a result, the accounting profit differs from taxable profit because of this difference in treatment; the tax liability provided differs from tax payable decided by the Income Tax officer. As a result, Deferred Tax Asset or Deferred Tax Liability arises. If the amount of tax payable as per Income Tax Law is more than the amount of tax payable as per the accounting principles Deferred Tax Asset arises. If the amount of tax payable as per Income Tax Law is less than the amount of tax payable as per the accounting principles Deferred Tax Liability arises. Hero Hondas Deferred Tax Assets / Liabilities consist of:

Ratio Analysis: Ratio Analysis enables the business owner/manager to spot trends in a business and to compare its performance and condition with the average performance of similar businesses in the same industry. To do this compare your ratios with the average of businesses similar to yours and compare your own ratios for several successive years, watching especially for any unfavorable trends that may be starting. Ratio analysis may provide the all-important early warning indications that allow you to solve your business problems before your business is destroyed by them.


Understanding The Balance of a Company MFM 1st Year, Division B

Balance Sheet Ratio Analysis Formula Important Balance Sheet Ratios measure liquidity and solvency (a business's ability to pay its bills as they come due) and leverage (the extent to which the business is dependent on creditors' funding). They include the following ratios: Liquidity Ratios These ratios indicate the ease of turning assets into cash. They include the Current Ratio, Quick Ratio, and Working Capital. Current Ratios: The Current Ratio is one of the best known measures of financial strength. It is figured as shown below: Total Current Assets Current Ratio = ____________________ Total Current Liabilities The main question this ratio addresses is: "Does your business have enough current assets to meet the payment schedule of its current debts with a margin of safety for possible losses in current assets, such as inventory shrinkage or collectable accounts?" A generally acceptable current ratio is 2 to 1. But whether or not a specific ratio is satisfactory depends on the nature of the business and the characteristics of its current assets and liabilities. The minimum acceptable current ratio is obviously 1:1, but that relationship is usually playing it too close for comfort. If you decide your business's current ratio is too low, you may be able to raise it by:

Paying some debts. Increasing your current assets from loans or other borrowings with a maturity of more than one year. Converting non-current assets into current assets. Increasing your current assets from new equity contributions. Putting profits back into the business.

Quick Ratios: The Quick Ratio is sometimes called the "acid-test" ratio and is one of the best measures of liquidity. It is figured as shown below: Cash + Government Securities + Receivables Quick Ratio = _________________________________________ Total Current Liabilities The Quick Ratio is a much more exacting measure than the Current Ratio. By excluding inventories, it concentrates on the really liquid assets, with value that is fairly certain. It helps answer the question: "If all sales revenues should disappear, could my business meet its current obligations with the readily convertible `quick' funds on hand?"


Understanding The Balance of a Company MFM 1st Year, Division B

An acid-test of 1:1 is considered satisfactory unless the majority of your "quick assets" are in accounts receivable, and the pattern of accounts receivable collection lags behind the schedule for paying current liabilities. Working Capital: Working Capital is more a measure of cash flow than a ratio. The result of this calculation must be a positive number. It is calculated as shown below: Working Capital = Total Current Assets - Total Current Liabilities Bankers look at Net Working Capital over time to determine a company's ability to weather financial crises. Loans are often tied to minimum working capital requirements. A general observation about these three Liquidity Ratios is that the higher they are the better, especially if you are relying to any significant extent on creditor money to finance assets.

Leverage Ratio This Debt/Worth or Leverage Ratio indicates the extent to which the business is reliant on debt financing (creditor money versus owner's equity): Total Liabilities Debt/Worth Ratio = _______________ Net Worth Generally, the higher this ratio, the more risky a creditor will perceive its exposure in your business, making it correspondingly harder to obtain credit. Management Ratios Other important ratios, often referred to as Management Ratios, are also derived from Balance Sheet and Statement of Income information. Inventory Turnover Ratio: This ratio reveals how well inventory is being managed. It is important because the more times inventory can be turned in a given operating cycle, the greater the profit. The Inventory Turnover Ratio is calculated as follows: Net Sales Inventory Turnover Ratio = ___________________________ Average Inventory at Cost Accounts Receivable Turnover Ratio: This ratio indicates how well accounts receivable are being collected. If receivables are not collected reasonably in accordance with their


Understanding The Balance of a Company MFM 1st Year, Division B

terms, management should rethink its collection policy. If receivables are excessively slow in being converted to cash, liquidity could be severely impaired. The Accounts Receivable Turnover Ratio is calculated as follows: Net Credit Sales/Year __________________ = Daily Credit Sales 365 Days/Year Accounts Receivable Accounts Receivable Turnover (in days) = _________________________ Daily Credit Sales Return on Assets Ratio: This measures how efficiently profits are being generated from the assets employed in the business when compared with the ratios of firms in a similar business. A low ratio in comparison with industry averages indicates an inefficient use of business assets. The Return on Assets Ratio is calculated as follows: Net Profit Before Tax Return on Assets = ________________________ Total Assets Return on Investment (ROI) Ratio: The ROI is perhaps the most important ratio of all. It is the percentage of return on funds invested in the business by its owners. In short, this ratio tells the owner whether or not all the effort put into the business has been worthwhile. If the ROI is less than the rate of return on an alternative, risk-free investment such as a bank savings account, the owner may be wiser to sell the company, put the money in such a savings instrument, and avoid the daily struggles of small business management. The ROI is calculated as follows: Net Profit before Tax Return on Investment = ____________________ Net Worth These Liquidity, Leverage and Management Ratios allow the business owner to identify trends in a business and to compare its progress with the performance of others through data published by various sources. The owner may thus determine the business's relative strengths and weaknesses. Hero Honda Motors Ltd. Financial Ratios DESCRIPTION MarMar10 09 Performance Ratios ROA (%) 60.24 36.6 3 ROE (%) 61.43 37.7 7 ROCE (%) 76.48 50.99 Asset Turnover(x) 4.53 3.87




Mar05 53.88 61.58

33.6 35.52 49.94 5 35.48 38.30 55.46 49.09 4.18

51.66 72.75 81.04 4.78 5.19 5.71


Understanding The Balance of a Company MFM 1st Year, Division B

Inventory Turnover(x) Debtors Turnover(x)

43.97 42.06 40.62 129.92 60.54 38.06

45.97 46.82 43.81 46.7 81.27 128.94 4

Efficiency Ratios Receivable days Inventory Days Payable days

2.81 8.30 25.56

6.03 9.59 8.68 8.98 25.22 26.7 6

7.81 4.49 2.83 7.94 7.80 8.33 25.20 32.18 37.43

Financial Stability Ratios Total Debt/Equity(x) Current Ratio(x) Quick Ratio(x)

0.02 0.76 0.64

0.03 0.66 0.45

0.05 0.71 0.47

0.08 0.88 0.61

0.11 0.77 0.55

0.14 0.55 0.34

Conclusion The balance sheet is an important tool for investors to gain insight into a company and its operations. The balance sheet is a snapshot at a single point in time of the companys accounts - covering its assets, liabilities and shareholders equity. The purpose of the balance sheet is to give users an idea of the companys financial position along with displaying what the company owns and owes. It is important that all investors know how to use, analyze and read this document. The main types of ratios that use information from the balance sheet are financial strength ratios and activity ratios. Financial strength ratios, such as the working capital and debt-to-equity ratios, provide information on how well the company can meet its obligations and how they are leveraged. This can give investors an idea of how financially stable the company is and how the company finances itself. Activity ratios focus mainly on current accounts to show how well the company manages its operating cycle (which include receivables, inventory and payables). These ratios can provide insight into the company's operational efficiency. From the ratios calculated above if we try and analyze the Balance Sheet of Hero Honda Motors Ltd, its Current Ratio shows that the Liquidity position of the company is not very satisfactory as the current ratio is 0.46:1, which is much below the ideal ratio of 2:1. The Company should increase the current assets and decrease the current liabilities. Hero Honda takes 130 days to convert its debtors to cash and 44 days to convert its inventories into sales.


Understanding The Balance of a Company MFM 1st Year, Division B

Bibliography Hero Honda Motors Ltd. Website: http://www.herohonda.com/ Annual Report of the company: http://www.herohonda.com/invest_annual_reports.htm Google Search