Under Activity-Based Costing, overheads are accurately assigned to different activities and their costs are determined through costing methods. Activities are those events that incur costs whereas overheads are expenditures that cannot be traced to any particular cost unit. A Cost driver refers to tRead more
Under Activity-Based Costing, overheads are accurately assigned to different activities and their costs are determined through costing methods. Activities are those events that incur costs whereas overheads are expenditures that cannot be traced to any particular cost unit.
A Cost driver refers to the factor that causes a change in the cost of an activity. Activity-Based Costing is done to establish a link between the activities and the product. The cost drivers are those links between the activities and the product.
Cost drivers are divided into four categories:
Resource Cost Driver – It is a measure of the number of resources used by an activity. It assigns the cost of a resource to an activity.
Activity Cost Driver – It is a measure of the frequency and intensity of demand, placed on activities by cost objects. It assigns activity costs to cost objects.
Structural Cost Driver – It results from the economic and technological structure of the industry.
Executional Cost Driver – It reflects the firm’s ability to plan and operate its production operations effectively.
A Cost Centre refers to a department in a business where costs can be allocated. These departments run various processes and incur costs. They can be related to the production of goods or the provision of services. Different centres are allocated different budgets and hence it enables the business to run efficiently by tracking its incomes and expenses easily.
Proper management of cost centres can help the company cut additional costs from each department. It also helps in more accurate forecasts depending on future changes.
Cost centres and Cost Drivers are both important factors while following Activity-Based Costing. Some examples of cost drivers and cost centres are as follows :
When a company issues shares to shareholders at a price over the face value (at a premium), that amount is termed as securities premium. This amount is transferred to what we call the securities premium reserve. The company is required to maintain a separate reserve for securities premium. UtilizatiRead more
When a company issues shares to shareholders at a price over the face value (at a premium), that amount is termed as securities premium. This amount is transferred to what we call the securities premium reserve. The company is required to maintain a separate reserve for securities premium.
Utilization
Securities premium reserve can be used for the following reasons:
Issue of fully paid Bonus share capital.
To cover preliminary expenses of a company.
For funding the buy-back of securities.
Since it is not a free reserve, it can only be used for a few specific purposes. The amount received as securities premium cannot be used to transfer dividends to shareholders
Treatment
When a company issues shares at a premium, the securities premium reserve account is credited along with share capital as an increase in capital is credited according to the modern rule of accounting.
For example,
Sonly Ltd. issues 1,000 shares of $10 face value at $15. Here, the amount of premium would be $5 (15 – 10) per share. Therefore, the journal entry would show:
Bank a/c (15 x 1,000) Dr 15,000
To Share Capital (10 x 10,000) 10,000
To Securities Premium Reserve a/c (5 x 10,000) 5,000
From the above example, we can see that the company receives $15,000, but transfers $10,000 to share capital and the excess $5,000 to securities premium reserve.
In the balance sheet, this securities premium reserve is shown under the title “Equity and Liabilities” under the head ‘‘Reserves and Surplus”.
Retained earnings are kept with the company for growth instead of distributing dividends to the shareholders. Therefore the cost of retained earnings refers to its opportunity cost which is the cost of foregoing dividends by the shareholders. Therefore the cost of retained earnings is similar to theRead more
Retained earnings are kept with the company for growth instead of distributing dividends to the shareholders. Therefore the cost of retained earnings refers to its opportunity cost which is the cost of foregoing dividends by the shareholders.
Therefore the cost of retained earnings is similar to the cost of equity without tax and flotation cost. Hence, it can be calculated as
Kr = Ke (1 – t) (1 – f),
Kr = Cost of retained earnings
Ke = Cost of equity
t = tax rate
f = flotation cost
Here, flotation cost means the cost of issuing shares.
EXAMPLE
If cost of equity of a company was 10%, tax rate was 30% and flotation cost was 5%, then
cost of retained earnings = 10% x (1 – 0.30)(1 – 0.05) = 6.65%.
From the above example and formula, it is clear that the cost of retained earnings would always be less than or equal to the cost of equity since retained earnings do not involve flotation costs or tax.
A company usually acquires funds from various sources of finance rather than a single source. Therefore the cost of capital of the company will be the weighted average cost of capital (WACC) of each individual source of finance. The cost of retained earnings is thus an important factor in calculating the overall cost of capital.
Another important factor of WACC is the cost of equity. The cost of equity is sometimes interchanged with the cost of retained earnings. However, they are not the same.
Retained Earnings refer to the total net profits left with the company after deduction of all dividends. This amount is a source of internal finance and can be used for the growth or expansion of the company. Retained earnings are shown under shareholders’ equity in the balance sheet and are calculaRead more
Retained Earnings refer to the total net profits left with the company after deduction of all dividends. This amount is a source of internal finance and can be used for the growth or expansion of the company.
Retained earnings are shown under shareholders’ equity in the balance sheet and are calculated as follows: Retained earnings at the end of the year = Retained earnings at the beginning of the year + Net Income – Dividend
From the above formula, Yes, it is possible for retained earnings to be negative. Negative earnings occur when the cumulative dividend payout is higher than the earnings made by a company during the year. This results in a negative balance as per the formula.
Negative Retained earnings indicate a number of concerning facts about a company:
That the company is experiencing Long term losses.
That there are chances for the company to go into bankruptcy.
That the company may be paying out dividends to the shareholders from borrowed finance.
Positive Retained Earnings
When a company is said to have positive retained earnings, the company has several advantages. The company has excess profit to hold on to. This helps in expansion and also acts as a safety net in case of unforeseen expenses. Hence if a company shows positive Retained earnings it can be interpreted that the company is profitable.
However, higher retained earnings mean the distribution of lesser dividends to shareholders. This makes the company look less attractive to investors. Another reason for high retained earnings could be that the company has not found any profitable investment for its earnings.
Therefore, there should be adequate retained earnings with the company but at the same time, keep a check that the amount of retained earnings does not exceed a limit.
A Profit and Loss (P&L) statement is a financial statement that records a summary of all expenses and incomes of a business during a period of time. It helps in determining the financial performance of the business. After recording all transactions in an account, if the debit side is greater thaRead more
A Profit and Loss (P&L) statement is a financial statement that records a summary of all expenses and incomes of a business during a period of time. It helps in determining the financial performance of the business.
After recording all transactions in an account, if the debit side is greater than the credit side, then the account is said to have a debit balance. Similarly, if the credit side is greater than the debit side, then the account has a credit balance.
In a P&L account, when the expenses (debit) are greater than the incomes (credit), the business is said to be in a net loss. This loss is what we call the debit balance of a Profit and Loss account. A P&L account with a debit balance can be subtracted from Capital or be shown on the asset side of the Balance Sheet.
As you can see above, the net loss is shown on the right side of the P&L account. This represents the debit balance of P&L. Once it is transferred to the balance sheet, it is either subtracted from capital or shown on the asset side as shown in the second image. However, they cannot be shown on both sides of the balance sheet at the same time.
However, if the credit side is greater, that is if income is greater than expenses, then the P&L account shows a credit balance which is also known as net profit. This profit is added with Capital to show the final balance in the Balance Sheet.
Debit balance of Profit & Loss account is not preferable for a business. Hence they should put in efforts to either reduce costs or increase their income to gain profits.
Can anyone tell me the meaning of terms “cost driver” & “cost center”?
Under Activity-Based Costing, overheads are accurately assigned to different activities and their costs are determined through costing methods. Activities are those events that incur costs whereas overheads are expenditures that cannot be traced to any particular cost unit. A Cost driver refers to tRead more
Under Activity-Based Costing, overheads are accurately assigned to different activities and their costs are determined through costing methods. Activities are those events that incur costs whereas overheads are expenditures that cannot be traced to any particular cost unit.
A Cost driver refers to the factor that causes a change in the cost of an activity. Activity-Based Costing is done to establish a link between the activities and the product. The cost drivers are those links between the activities and the product.
Cost drivers are divided into four categories:
A Cost Centre refers to a department in a business where costs can be allocated. These departments run various processes and incur costs. They can be related to the production of goods or the provision of services. Different centres are allocated different budgets and hence it enables the business to run efficiently by tracking its incomes and expenses easily.
Proper management of cost centres can help the company cut additional costs from each department. It also helps in more accurate forecasts depending on future changes.
Cost centres and Cost Drivers are both important factors while following Activity-Based Costing. Some examples of cost drivers and cost centres are as follows :
See lessWhat is securities premium reserve?
When a company issues shares to shareholders at a price over the face value (at a premium), that amount is termed as securities premium. This amount is transferred to what we call the securities premium reserve. The company is required to maintain a separate reserve for securities premium. UtilizatiRead more
When a company issues shares to shareholders at a price over the face value (at a premium), that amount is termed as securities premium. This amount is transferred to what we call the securities premium reserve. The company is required to maintain a separate reserve for securities premium.
Utilization
Securities premium reserve can be used for the following reasons:
Since it is not a free reserve, it can only be used for a few specific purposes. The amount received as securities premium cannot be used to transfer dividends to shareholders
Treatment
When a company issues shares at a premium, the securities premium reserve account is credited along with share capital as an increase in capital is credited according to the modern rule of accounting.
For example,
Sonly Ltd. issues 1,000 shares of $10 face value at $15. Here, the amount of premium would be $5 (15 – 10) per share. Therefore, the journal entry would show:
Bank a/c (15 x 1,000) Dr 15,000
To Share Capital (10 x 10,000) 10,000
To Securities Premium Reserve a/c (5 x 10,000) 5,000
From the above example, we can see that the company receives $15,000, but transfers $10,000 to share capital and the excess $5,000 to securities premium reserve.
In the balance sheet, this securities premium reserve is shown under the title “Equity and Liabilities” under the head ‘‘Reserves and Surplus”.
See lessWhat is cost of retained earnings?
Retained earnings are kept with the company for growth instead of distributing dividends to the shareholders. Therefore the cost of retained earnings refers to its opportunity cost which is the cost of foregoing dividends by the shareholders. Therefore the cost of retained earnings is similar to theRead more
Retained earnings are kept with the company for growth instead of distributing dividends to the shareholders. Therefore the cost of retained earnings refers to its opportunity cost which is the cost of foregoing dividends by the shareholders.
Therefore the cost of retained earnings is similar to the cost of equity without tax and flotation cost. Hence, it can be calculated as
Kr = Ke (1 – t) (1 – f),
Kr = Cost of retained earnings
Ke = Cost of equity
t = tax rate
f = flotation cost
Here, flotation cost means the cost of issuing shares.
EXAMPLE
If cost of equity of a company was 10%, tax rate was 30% and flotation cost was 5%, then
cost of retained earnings = 10% x (1 – 0.30)(1 – 0.05) = 6.65%.
From the above example and formula, it is clear that the cost of retained earnings would always be less than or equal to the cost of equity since retained earnings do not involve flotation costs or tax.
A company usually acquires funds from various sources of finance rather than a single source. Therefore the cost of capital of the company will be the weighted average cost of capital (WACC) of each individual source of finance. The cost of retained earnings is thus an important factor in calculating the overall cost of capital.
Another important factor of WACC is the cost of equity. The cost of equity is sometimes interchanged with the cost of retained earnings. However, they are not the same.
See lessCan retained earnings be negative?
Retained Earnings refer to the total net profits left with the company after deduction of all dividends. This amount is a source of internal finance and can be used for the growth or expansion of the company. Retained earnings are shown under shareholders’ equity in the balance sheet and are calculaRead more
Retained Earnings refer to the total net profits left with the company after deduction of all dividends. This amount is a source of internal finance and can be used for the growth or expansion of the company.
Retained earnings are shown under shareholders’ equity in the balance sheet and are calculated as follows:
Retained earnings at the end of the year = Retained earnings at the beginning of the year + Net Income – Dividend
From the above formula, Yes, it is possible for retained earnings to be negative. Negative earnings occur when the cumulative dividend payout is higher than the earnings made by a company during the year. This results in a negative balance as per the formula.
Negative Retained earnings indicate a number of concerning facts about a company:
Positive Retained Earnings
When a company is said to have positive retained earnings, the company has several advantages. The company has excess profit to hold on to. This helps in expansion and also acts as a safety net in case of unforeseen expenses. Hence if a company shows positive Retained earnings it can be interpreted that the company is profitable.
However, higher retained earnings mean the distribution of lesser dividends to shareholders. This makes the company look less attractive to investors. Another reason for high retained earnings could be that the company has not found any profitable investment for its earnings.
Therefore, there should be adequate retained earnings with the company but at the same time, keep a check that the amount of retained earnings does not exceed a limit.
See lessWhat is debit balance of profit and loss account?
A Profit and Loss (P&L) statement is a financial statement that records a summary of all expenses and incomes of a business during a period of time. It helps in determining the financial performance of the business. After recording all transactions in an account, if the debit side is greater thaRead more
A Profit and Loss (P&L) statement is a financial statement that records a summary of all expenses and incomes of a business during a period of time. It helps in determining the financial performance of the business.
After recording all transactions in an account, if the debit side is greater than the credit side, then the account is said to have a debit balance. Similarly, if the credit side is greater than the debit side, then the account has a credit balance.
In a P&L account, when the expenses (debit) are greater than the incomes (credit), the business is said to be in a net loss. This loss is what we call the debit balance of a Profit and Loss account. A P&L account with a debit balance can be subtracted from Capital or be shown on the asset side of the Balance Sheet.
As you can see above, the net loss is shown on the right side of the P&L account. This represents the debit balance of P&L. Once it is transferred to the balance sheet, it is either subtracted from capital or shown on the asset side as shown in the second image. However, they cannot be shown on both sides of the balance sheet at the same time.
However, if the credit side is greater, that is if income is greater than expenses, then the P&L account shows a credit balance which is also known as net profit. This profit is added with Capital to show the final balance in the Balance Sheet.
Debit balance of Profit & Loss account is not preferable for a business. Hence they should put in efforts to either reduce costs or increase their income to gain profits.
See less