Gordon Growth Model Example

Gordon Growth Model Example

A company retains 30% of earning and return on equity investment is 9%. What is dividend growth Rate of dividend?

Solution

Gordon Dividend Growth formula = Retained Earning x Return, this formula can be expressed

G=Br

Where,

G= Dividend Growth Rate

B= Retained earning

r= Rate of return on equity

By putting value in above formula, we can solve the above Example

= 30% x 9%

= 2.7%

Agency Theory

Agency Theory

1.    Separation of Ownership & Management

Under agency theory management & ownership are two different aspect of organization. Business is managed by manager hired by the owners. Manager acts on behalf of the owner as agent.

2.    Management act in Best interest

Under agency theory, it is believed that manager will work in the best interest of ownership. Therefore a formal hired by the owners to manage the business. It is an ideal situation or case of agency theory.

3.    Management Self Interest

Agency theory recognizes the fact, that management may have their self interest like increase in salary and bonuses. Therefore it is not practical that manager will only focuses on the interest of owners.

4.    Manager & Owner Conflict

Agency theory recognizes that Manager Interest and owner interest conflict with each other. Management may look into short term profit, while ownership is more interested in long term growth. Manager is ready to take risky decision, while owner would love to minimize the risk.

5.    Manager Create Cost

Agency theory explains that Management create number of costs for the ownership. For example an increase in salary is cost for the ownership, as it will reduce the ownership wealth. It is important to remember that any cost of expense is a hit on ownership wealth.

6.    Balance

Agency theory explains a balance between management and ownership. Management should look to ownership interest and ownership should also give due consideration to self interest of management.

Different Organizational Objectives

Different Organizational Objectives

Different organizations have different objectives. In other words we can say that different organizations are created for different objectives. Every organization is created for an objective.

1.    Commercial Organization

Commercial organization has objective to maximize profit. This is regarded as primary objective. There are number of other objective, which basically support this primary objective.

2.    Public Organization Objective

Public organization is created to provide certain level of services to the society i.e. education and health facilities.

3.    No profit organization

Nonprofit organization objective is to achieve certain target in a selected area. Some people regard this as intervention.

Books of Accounts

Books of Accounts

Books of accounts primarily consist of journal and Ledger. Journal is used for recording the transactions in first place and ledger is used to classify those recorded transaction. It is important to remember that in ordinary business practice all accounting record is knows as books of accounts.

Books of account is manual accounting concept, in computerized accounting all information is kept or stored in accounting software, therefore accounting software can be regarded as books of accounts.

Types of Books of Accounts

Books of accounts is consist of two books i.e. journal & ledger.

1.    Journal

First book of account is journal, which is used to record the transaction in first place, therefore is also known as book of original entry. Transaction is recorded in journal with the help of debit & credit rules.

2.    Ledger

Second book of account is ledger, and ledger is used to classify the transaction. Ledger basically contains different accounts. The transaction from the journal is classified in these accounts.

3.    No other Books of Accounts

Accounting system does not contain any other book. Any other record would be a memorandum record. However, normally in business all accounts related records is known as books of accounts i.e. journal, ledger, trial balance, agreements, and vouchers.

4.    Summaries & Reports

Summaries like trial balance and report (balance sheet and profit & loss account) are not books of accounts. These summaries and reports can be generated or prepared any time from the books of accounts i.e. journal & ledger.

Limitations of Accounting

Limitations of Accounting

Limitations of accounting can be explained in terms of misleading results, mistake & fraud detection, management biased, and high cost.

1.    Misleading Results

First limitation of accounting is its misleading result, if not handle appropriately. Accounting is based on certain rules, and wrong application of those rules may produce misleading results.

2.    Mistakes Detection Failure

Second limitation of accounting is its inability to detect all mistakes. Accounting system can detect only that mistake which has single effect. Accounting system cannot detect wrong application of principles, or counter balancing transaction.

3.    Management Biased

Third limitation of accounting system is management biased in selection of policies and interpretation thereof. Accounting system is not independent and in many circumstance, it requires management interpretation, for example in making estimate. Therefore accounting is not independent information system.

4.    Frauds Detection Failure

Frauds are not detected by accounting system automatically; however accounting may provide some indications of fraud. For example accounting system provides information for comparison the result of two periods and fluctuation in results without any explanation may be an indication of fraud.

5.    Cost & time

Fifth limitation of accounting is its high cost. Business need to hire a competent manager and good accounting software (now days). Therefore accounting system is not feasible option for many small businesses.

Advantages of Accounting

Advantages of Accounting

Advantages of accounting include tracking of receivables, profit calculation, controlling the business, information tracking, and mistake & fraud identification. These advantages of accounting have been explained below;

1.    Tracking Receivable

First advantage of accounting is tracking the receivable & payable amount from the customers and employees. In modern business world, almost every business is making credit sales and credit purchases to. Therefore a proper tracking of amount receivable & payable is must and this requirement is met by accounting.

2.    Profit Calculation

Second advantage of accounting is profit calculation of business. Accounting facilitates the profit calculation at any point of time. The core or primary objective of every business is profit maximization and accounting provides information about achievement of this objective.

3.    Controlling Tool

Third advantage of accounting is its role in controlling of business. Accounting provides details break of different costs and this information can be used to control the costs.

4.    Information Tracking

Fourth advantage of accounting is quick tracking of information. Any recorded transaction and relevant documents can be easily tracked from the accounting record as every transaction is recorded by a unique voucher number.

5.    Mistake & Fraud Identification

Fifth advantage of accounting is identification of fraud & mistake. Information generated from the accounting system i.e. trial balance, profit & loss, and customer balances, supplier balances, cash balances helps management in judging the fraud or mistakes.

6.    Performance Evaluation

Sixth advantage of accounting is performance evaluation. With the help of segment reporting, results or performance of different segments can be measured.

Accounting

 Accounting

Accounting is primarily the processing of financial information. The processing is consisting of five stages. These five stages are also referred as accounting cycle.

1.    Recording

First stage of accounting is recording of financial transaction in the books of accounts (journal). Recording is done in accordance with debit & credit rules. Broadly recording can be classified into recording of expenses, income, assets and liabilities.

2.    Classifying 

Second stage of accounting is classification. It means that transaction recorded in journal is now classified into different account. The book used for such classification is known as ledger and it contains all accounts. Classification is done on the bases of nature & functions of transactions.

3.    Summarizing 

Third stage of accounting of is summarizing of financial transactions. It means that summaries are prepared from the classified transactions (different accounts) .in simple term summary of different account is prepared and in accounting language, this summary is known as trial balance. Technically summary report showing the closing balances of different accounts.

4.    Reporting Results

Fourth stage of accounting is reporting of results in the form of balance sheet & profit and loss account. This is end product of accounting and these reports (results) are used by different user for decision making.

5.    Interpreting results

Fifth stage of accounting is interpreting the result with the help of ratio analyses like gross margin ratio, current ratio. These ratios are used to judge the financial position and financial performance of the entity.