Accounting and Finance for Engineers Prepared by Teh

Accounting and Finance for Engineers Prepared by Teh Thian Sung

INTRODUCTION TYPES OF BUSINESS ORGANISATIONS IN MALAYSIA Sole Trader - sole proprietorship - registered with Suruhanjaya Syarikat Malaysia (SSM) Partnerships - registered with Suruhanjaya Syarikat Malaysia (SSM) - governed by the Partnership Act 1961 - Advisable to have a partnership agreement - If no agreement - then the Act will take effect - All partners to contribute equal capital - Partners not entitle to salaries - Interest on capital and drawings are not allowed - Partners are to share profit and loss equally - An interest of 8% is to be paid on any loans from the partners

TYPES OF BUSINESS ORGANISATIONS IN MALAYSIA Societies , Clubs and Association - registered under the Companies Act 1965 or under Societies Act Co-operatives - registered under Co-operative Societies Act

TYPES OF BUSINESS ORGANISATIONS IN MALAYSIA Companies - Private - Sdn Bhd - Public - Bhd. - registered under the Companies Act 1965 Private Companies - Sendirian Berhad - minimum two shareholders , maximum fifty. - usually privately owned, cannot invite public to subscribe for its shares. Private Companies - Sendirian Berhad (Exempt) - membership limited to twenty, another company cannot hold its shares, - need not file it account with the Registrar of Companies provided that it files a certificate signed by a director, a company secretary and an auditor stating that the company can meet its liabilities a and when they fall due.

TYPES OF BUSINESS ORGANISATIONS IN MALAYSIA Public Companies - Berhad - Minimum two shareholders , no maximum. - Can invite public to subscribe for its shares. - No restriction on the transfer of shares. Public Listed Companies MAIN BOARD - To qualify for listing - should have traded successfully 3 -5 years, have a pre-tax profit of RM 2 million per annum and a paid-up capital of at least RM 60 million with at least 25% in the hands of the public. Only companies incorporated in Malaysia can be listed SECOND BOARD on the main board. - To qualify for listing - should have traded successfully for 3 years, have a pre-tax profit of RM 1 million per annum and a minimum paid-up capital of at least RM 40 million and a maximum of less than RM 60 million with 25% but no more than 50% in of the issued and paidup capital in the hands of at least 500 shareholders holding not less than 10, 000 shares each

TYPES OF BUSINESS ORGANISATIONS IN MALAYSIA Limited Companies 1 - Memorandum of Associations - Name of the company, Registered Office, Limited Liability status, - Amount of registered or authorised capital , par value of shares - Objectives of the company 2 - Articles of Associations - internal working rules of the company, rights of shareholders, - powers of management, borrowing powers of the company, - duties and powers of directors etc.

TYPES OF BUSINESS ORGANISATIONS IN Other form MALAYSIA of Companies 1 - Foreign company - One that is incorporated outside Malaysia but establishes a place of business in Malaysia 2 - Investment company - A public company proclaimed as such by the Yang di-Pertuan Agong in the Gazette. - Primary activity is to invest in marketable securities for profits and not for acquiring control 3 - Holding Company - One that is able to control another undertakings - either 50% of the voting power or control at least 50% of the issued share capital 4 - Subsidiary company - one in which a holding company has control of at least 50% of its share capital. 5 - Associate company - one in which an investor hold at least 20% but not more than 50% of the shares. 6 - Joint Venture - a business entity that is jointly controlled by two or more venturers

FINANCIAL REPORTING IN MALAYSIA Internal – Management Accounting The process of identifying, measuring, reporting and analyzing financial as well as operating information for internal users regarding the economic condition of an organization External – Financial Accounting The process of recording and reporting financial information that has taken place following set rules for external users regarding the economic condition of an organization

- Required by law Financial record keeping Accounting - The cost of Accounting is a necessity - Objectives and uses of financial accounts are vague and illdefined - Mainly concerned with profits - Mainly historical records - Information should be computed prudently and in accordance with legal and accounting requirement -vs Records are not mandatory Management - Cost of record keeping must be justified - Objectives and uses of management accounts can be laid down by management - Mainly concerned with cash flow, profits and business management generally - Regularly concerned with predictions for the future - Information should be computed as management requires, the key criterion being relevance

Some Basic Books Ü Ü Ü Petty Cash Book General Ledger Sales/Debtors/Accounts Receivables Ledger Purchases/Creditors/Accounts Payable Ledger Assets Ledger The Cash Book

Some Basic Accounting Statements Ü The Bank Reconciliation Statement Ü The Control Accounts Ü The Trial Balance Others Ü Inventory Control Ü Year-end adjustments – Accruals and Prepayments

Accounting Profit Cash Flow

Accounting Profit and Cash a misconception Ü Cash Flow CASH FLOW IN Cash collected from sales 1, 600 CASH FLOW OUT Less Cost paid 1, 200 ) Less Expenses paid 300 ) CASH IN HAND RM 100 Ü Accounting Profit RM ( RM Sales RM 2, 000 Less Cost 1, 200 Gross Profit RM 800 Less Expenses 300 NET PROFIT 500 RM RM RM

FINANCIAL REPORTING IN MALAYSIA Financial statements do not disclose all the information about the company. Under Malaysian Companies Act 1965 - companies must issue financial statements in compliance with the requirements of the financial reporting standards. Financial Reporting Standards 101 - Presentation of Financial Statements list - Income Statement - Balance Sheet - Cash Flow Statement - Statement of changes in equity - Notes to the Financial Statements

FINANCIAL REPORTING IN MALAYSIA Income Statement for the year ended 31 December 2008 2007 RM, 000 , 000 , 000 , 000 RM 0. 24 RM 0. 10 2008 RM, 000 , 000 Turnover Cost of Sales Gross Profit Other operating income Distribution cost Administrative expenses Other operating expenses Operating Profit Interest Income Dividend Income Interest expense Profit before Taxation Profit after taxation Earnings per share Dividends per share , 000 (, 000) , 000 (, 000 ) , 000 (, 000) , 000 RM 0. 28 RM 0. 15

FINANCIAL REPORTING IN MALAYSIA The Balance Sheet Share Capital - Authorised Share Capital - Issued Share Capital - Reserves (Statutory and non-statutory) - Retained Earnings - Share Premiums - Other Reserves Liabilities Non Current and Current liabilities – usually payable within one year Non Current – usually not payable within the short term CONTINGENT LIABILITIES

FINANCIAL REPORTING IN MALAYSIA Balance Sheet as at 31 December 2008 2007 0, 000 0, 000 0, 000 0, 000 0, 000 2008 Non-Current assets Tangible Assets Intangible Assets Investments Current Assets Inventories 0, 000 Bills Receivable 0, 000 Loan to Directors 0, 000 Trade Receivables 0, 000 Short Term Investments Cash and Bank Balances Non-current assets held for sale Shareholders Equity Share Capital Reserves Share Premium Revaluation Reserve General Reserve P & Loss Share Capital and Reserves 0, 000 0, 000 0, 000 0, 000

FINANCIAL REPORTING IN MALAYSIA The Cash Flow Statement Only applicable to Limited Companies - Sdn. Bhd. and Bhd companies Simply a summary of cash receipts and payments of an enterprise Only items that can be quantified in monetary terms are shown

December 2008 Cash Flow from operating activities Operating income before interest and taxation 000, 000 Adjustment for non-cash items Depreciation 00, 000 Gain on disposal of non-current assets (00, 000) Changes in working capital Increase in trade receivables (00, 000) Increase in inventories (00, 000) Decrease in trade payables (00, 000) Cash generated from operation 00, 000 Interest paid (0, 000) Tax paid (0, 000) Net Cash inflow from operating activities 0, 000 Cash Flow from investing activities Purchase of non-current assets Sale of non-current assets Purchase of investments Dividends received Interest Received Net Cash out flow from investing activities (0, 000) Cash flow from financing activities Proceeds from issue of shares FINANCIAL REPORTING IN MALAYSIA Proceeds from long-term borrowings Repayments of long term borrowings Payments of dividends Net cash inflow from financing activities 0, 000 Net increase in cash and cash equivalents 0, 000 Cash and cash equivalents at beginning of the year 0, 000 (0, 000) 0, 000 (0, 000)

FINANCIAL REPORTING IN MALAYSIA Notes to the Accounts Companies are required to disclose all necessary information spelt out by the ninth schedule of the Companies Act 1965 and also the disclosures requirement stipulated in the various accounting standards. Companies are encouraged to disclose more than the minimum required but in real practice, most companies do not have much ‘voluntary’disclosures. ACCOUNTING POLICIES Accounting policies are the methods, procedures or bases adopted by the company to record and present the transactions and events. Most company accounts are prepared based on the Historical Cost Basis or historical basis modified by regular revaluation of land /property OTHER POLICIES Are other policies or methods/bases/procedures etc. that a company chooses to use Example Property, plant and equipment Inventory Valuation Accounting for Goodwill Research and Development Taxation Consolidation policies Retirement benefits etc…….

FINANCIAL REPORTING IN MALAYSIA Notes to Balance Sheet - Share Capital Reserves Deferred Taxations Long Term Liabilities Expenses not written off Assets Non-current Assets - Fixed Current Investments Inventories Receivables Short-term investments Current Liabilities Dividends Turnover Transfer to Reserve Prior Year adjustments Dividends paid and proposed Earnings per share Contingent liabilities Segment reporting

RATIO ANALYSIS AND UNDERSTANDING FINANCIAL STATEMENTS Helps management to evaluate the organization’s performance in comparison with previous years and with other organization in the same industry

Types of financial ratios °Liquidity ratios °Profitability ratios °Use of Assets °Capital Structure °Return to investors

Liquidity ratios Current Ratios – Current assets : current liabilities A company should have enough current assets that give a promise of cash to come to meet its future commitments to pay off its current liabilities Acid Test Ratios Current assets (less stock) : current liabilities A company should have sufficient liquid resources at short call to be able to pay off its current liabilities

Profitability ratios Gross Profit Percentage Gross profit to Sales ratio Net Profit Percentage Net Profit to Sales ratio

Use of Assets ratios Sale to fixed assets ratios Stock Turnover ratio Average debtor collection period Creditor turnover period

Capital Structure Gearing ratio Difference between debt funding and equity funding. Low equity to assets means high debt and therefore higher exposure to risk Interest cover Emphasizes the cover (or security) for the interest by relating profit before interest and tax to interest paid

Return to investors Return on capital employed Profit before interest and taxation capital employed Dividend cover x 100 Profit after tax less preference share dividend Gross dividend on ordinary shares Earnings per share (EPS) Profit after tax less preference share dividend Number of ordinary shares issued Price Earning ratio (P/E) Current share price Earnings per share Dividend yield Ordinary dividend per share x 100 Market price per share

Equity as a source of Finance Internally generated Retained earnings Non distributed profit New Issues IPO Rights issue

Other sources of finance Ü Long term Ä Debentures (Bonds) Ä Preference shares Ü Medium Term Ä Leasing Ä Hire Purchase Ü Short Term Ä Trade credit Ü Special purpose Ä Government grants

Choice of finance Ü Cost Ü Duration Ä Long term, secure but expensive Ä Short term, risky but cheap Ü Gearing Ä Too much – cause financial distress Ä Too much equity – dilute EPS and control Ü Company size Ä Small firm – limited access to financial market

Project Appraisals

Investment Appraisals Ü Payback method Ü Accounting Rate of Return Ü Discounted Cash Flow ÄNet Present value ÄInternal rate of return ÄProfitability Index

Pay Back method Project A B Initial Investment (RM 10, 000) Net Cash inflow Year 1 5, 000 2 3, 000 5, 000 3 2, 000 1, 000 4 2, 000 1, 000 5 1, 000 Payback period 2. 25 years Ranking (choice) 3 years 3 C (RM 10, 000) 5, 000 4, 000 1, 000 2 years 1 2

Accounting Rate of Return Project A Initial Investment (RM 2, 500) Net Profit after tax and depreciation Year 1 250 2 250 3 250 4 250 5 250 1, 250 Average Profit ARR = Average profit 250 Initial Investment RM 2, 500 ARR RM 1, 250 5 B (RM 2, 500) C (RM 2, 500) 500 450 100 100 1, 250 100 100 450 500 1, 250 RM 1, 250 5 RM 1, 250 RM 2, 500 5 RM 2, 500 20% RM 20%

Discounted Cash Flow Ü Consider the timing of fund flowing in Ü Consider the interest factor Ü Two principle methods Ä Net present value (NPV) Ä Internal rate of return (IRR)

Net Present Value method Project Initial Investment Net Cash inflow Year 2 3 4 5 A (RM 2, 000) 1 RM 600 RM 700 RM 600 RM 500 RM 400

Discounting Factor To invest RM 1, 000 in the bank at 10% interest rate, cash will be accumulated as follows Now – Year Year 0 1 2 3 4 5 RM 1, 000 + RM 100 = RM 1, 100 + RM 110 = RM 1, 210 + RM 121 = RM 1, 331 + …………. . …………………. . If we were to receive RM 1, 000 sometime in the future, what is its value now if the current rate of interest is 10% ?

Net Present Value method Project A Value Initial Investment Net Cash inflow Year 0 Cash Flow (RM 2, 000) 1. 000 Discount rate. Present (RM 2, 000. 00) 1 RM 400 0. 909 RM 363. 60 2 RM 600 0. 826 RM 495. 60 3 RM 700 0. 751 RM 525. 70 4 RM 600 0. 683 RM 409. 80 5 RM 500 0. 621 RM 310. 50 TOTAL CASH INFLOW AT PRESENT VALUE ( NOW ) RM 2, 105. 20 LESS CASH OUTFLOW RM 2, 000. 00 NET CASH INFLOW AT PRESENT VALUE RM 105. 20 Choice is made by selecting the one with the highest Net Present

Internal rate of return method Project A Year Cash Flow Present Discount Present rate 10% Value 0 (RM 2, 000)1. 000 (RM 2, 000. 00) 1 RM 400 0. 909 RM 363. 60 346. 40 2 RM 600 0. 826 RM 495. 60 453. 60 3 RM 700 0. 751 RM 525. 70 473. 20 4 RM 600 0. 683 RM 409. 80 343. 20 Discount rate 15% Value 1. 000 0. 866 RM 0. 756 RM 0. 676 RM 0. 752 RM

Internal rate of return method Project A Net Present Value (RM 135. 10) at 10 % RM at 15 % 105. 20 The Internal rate of return is where the NPV is = 0 In the above example for NPV to be at RM 0 = rate of discount is between 10 % and 15 % Therefore the IRR ) = 10 % + ( 105. 20 + 135. 10 = 10 % + 2. 19 = 12. 19 % x 5 )

COMPANY CARS

Capital Allowances FOR CARS BOUGHT AFTER 28 OCTOBER 2000 ( not exceeding RM 150, 000 on the road ) 1 st Year = RM 100, 000 x 20 + 20% = RM 40, 000 2 nd Year = RM 100, 000 x 20 % = RM 20, 000 3 rd Year = RM 100, 000 x 20 % = RM 20, 000 4 th Year = RM 100, 000 x 20 % = RM 20, 000 Total claims RM 100, 000 Company Tax at 28% = Total tax saving over 5 years is = RM 100, 000 x 28% = RM 28, 000

Case 1 ( Car bought after 28 Oct 2000 ) Cost of new car Less claims over 4 years Balance after 4 years RM 140, 000 RM 100, 000 RM 40, 000 If the car is sold after 4 years at RM 90, 000 Tax payable RM 100, 000 x RM 90, 000 RM 140, 000 Taxable disposal profit RM 64, 285 = RM 64, 285

Case 2 ( Car bought after 28 Oct 2000 ) Cost of new car Less claims over 4 years Balance after 4 years RM 140, 000 RM 100, 000 RM 40, 000 If the car is sold after 8 - 9 years at RM 30, 000 Tax payable RM 100, 000 x RM 30, 000 RM 140, 000 Taxable disposal profit RM 21, 428 = RM 21, 428

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