Finance Study Material: EOQ Calculation, Accounting Rate of Return, Investment Appraisal

This study material covers topics like EOQ calculation for hard plastic, annual cost of hard plastic, evaluation of Touchdown Sports Inc's decision to use EOQ, advice on comments made by Grace Rodriquez and Maria Cousins, payback period for option A and B, accounting rate of return for option A and B, evaluation of accounting rate of return technique, and advice to senior executive team. The subject is finance.

Introduce
to
Finance

Table of Contents
Question 1........................................................................................................................................3
a) Calculation of EOQ for hard plastic........................................................................................3
b) Annual cost of hard plastic......................................................................................................3
c) Critically evaluate Touchdown Sports Inc’s decision to use the EOQ mode..........................4
d) Advise Touchdown Sports Inc’s senior executive team on the comments made by Grace
Rodriquez and Maria Cousins.....................................................................................................4
Question 2........................................................................................................................................5
a) Payback period for both option A and B.................................................................................5
b) Accounting rate of return for both option A and option B......................................................6
c) Evaluation of accounting rate of return technique...................................................................8
d) Advise to senior executive team..............................................................................................8
Question 3......................................................................................................................................11
a) Calculation of ratios:.............................................................................................................11
b) Importance of considering the audience for financial statement analysis.............................12
Question 4......................................................................................................................................13
a) Role of organizations in the international regulatory framework for accounting.................13
b) Role of audit committees in corporate governance...............................................................14
References......................................................................................................................................15

Question 1
a) Calculation of EOQ for hard plastic
Economic order quantity (Q) = √ 2 DS
H
where:
Q=EOQ units
D=Demand in units (typically on an annual basis)
S=Order cost (per purchase order)
H=Holding costs (per unit, per year)
Demand in units for hard plastic = 27,000 Kgs
Order cost = $14 per order
Inventory holding costs = $1.75 per kilogram per year
EOQ = √ 2 DS
H
= √ 2 ×27000 ×14
1.75
= 657.26 or approximate 657 Kg per order
The result shows that, company has to order 657 kg hard plastic to place order at minimum cost
to the company. It can also be said that average inventory hold by company during the year will
be 657 Kg.
b) Annual cost of hard plastic
No. of orders required to fulfill usage of 27,000 Kgs = 27,000 / 657 = 41.09 or 41 orders
Annual cost of hard plastic = Usage hard plastic during year × average cost per Kg + Annual
ordering cost (No. of order × cost per order) + Annual holding cost {(EOQ/2) × cost per kg}
= 27,000 Kg × $0.90 + (41 × $14) + {(657/2) × $1.75}
= $25,448.875 or $25,449

c) Critically evaluate Touchdown Sports Inc’s decision to use the EOQ mode
The costs of inventory purchased with a economic order quantity (EOQ) model with a quantity
discount are solved and compared to costs based on just-in-time (JIT). It is emphasized that at
low levels of demand, JIT is the preferred strategy, although EOQ has a cost advantage for
something with high demand. Hence, JIT is preferable when there’s low discount rate and
demand is not high enough. The updated EOQ at 7.5% discount on the bulk purchase of 10,000
Kgs:
Total order required = 27,000 / 10,000 = 2.7 orders annually
Annual cost at new order size = [Usage hard plastic during year × average cost per Kg + Annual
ordering cost (No. of order × cost per order) + Annual holding cost {(quantity holding/2) × cost
per kg}] – discount @ 7.5%
= [27,000 Kg × $0.90 + (2.7 × $14) + {(10,000/2) × $1.75} – [{(10,000 × 0.90) × 7.5%} × 2]
= $33,088 - $1,350
= $31,738
Hence, at this updated order size and holding quantity; annual cost is much higher than previous
one, even at bulk discount rate.
Decision for using EOQ is logical because; in JIT there’s zero inventory concept which also
raises the risk of out of stock for company. The hard plastic is imported from Gaungzhou
Productions plc, China; so there is high risk of trade barrier between these two companies due to
any political reason, cold war or disputes with supplier. Hence, buffer stock is mandatory to
maintain by the company and JIT will not work in this situation. Therefore, EOQ is strongly
preferred here.
d) Advise Touchdown Sports Inc’s senior executive team on the comments
made by Grace Rodriquez and Maria Cousins.
The word “practical implications” is related to real time situation not the assumption as made at
the time application of models. For instance, EOQ assumes that there is constant demand
throughout the year but in reality it doesn’t exists; as in July and August there’s no production of

shoulder pads because of no demand and in November due to high demand of shoulder pads;
production increases and there’s more requirements of hard plastics.
Therefore, it is suggested by Maria Cousins to consider these factors before applying any model
while placing order.
It is advised that keeping in mind the real time usage; company should place an order or maintain
inventory according to the demand and production process. It is mentioned that in July and
August there is no production due to less demand of Shoulder pads; but there is high demand in
November. Firms required to order only that much quantity that can fulfill the demand and at the
same time minimize the cost of holding inventories.
So, company should order that much quantity which could be consumed before July and order in
bulk in the month of October to fulfill the demand. For better result, some of the additional
informations such as maximum capacity of production per day, total demand for Shoulder pads
with deadline to fulfill the demand, margin of safety required, how much buffer stock has to be
maintained and duration of cycle from placing an order to delivery of finished product is
required. Without this information; it is not possible to estimate total quantity required for
placing an order by the company.
Question 2
a) Payback period for both option A and B
Option A:
Yea
r
Net cash
inflows
Salvage
value
Total cash
inflows Cumulative cash inflows
0 -$51,000 -$51,000 -$51,000
1 $3,200 $3,200 -$47,800
2 $3,300 $3,300 -$44,500
3 $3,100 $3,100 -$41,400
4 $3,000 $3,000 -$38,400
5 $2,900 $40,110 $43,010 $4,610
Payback period = 4 + (38,400/43,010)

= 4 + 0.89 = 4.89 years
Option B:
Yea
r
Net cash
inflows
Salvage
value
Total cash
inflows Cumulative cash inflows
0 -$76,500 -$76,500 -$76,500
1 $3,900 $3,900 -$72,600
2 $3,600 $3,600 -$69,000
3 $3,300 $3,300 -$65,700
4 $3,100 $3,100 -$62,600
5 $2,600 $60,120 $62,720 $120
Payback period = 4 + (62,600/62,720)
= 4.99 years
Decision:
Based on the result of payback period of both option A and B; it is suggested that option A is
suitable to accept as its Payback period is lesser than option B.
b) Accounting rate of return for both option A and option B
Option A
Accounting rate of return = Incremental accounting income /Average investment
Depreciation (straight line method) = ($51,000 - $40,110)/5
= $10,890/5
= $2,178
Yea
r
Net cash
inflows
Depreciatio
n Net profit
0 -$51,000
1 $3,200 $2,178 $1,022
2 $3,300 $2,178 $1,122
3 $3,100 $2,178 $922
4 $3,000 $2,178 $822
5 $2,900 $2,178 $722
Total Income $4,610

Average
Income $922
Average investment = ($51,000 + $40,110)/2
= $91,110 / 2
= $45,555
Accounting rate of return = ($922 / $45,555) × 100
= 2.02%
Option B
Depreciation (straight line method) = ($76,500 - $60,120)/5
= $16,380/5
= $3,276
Yea
r
Net cash
inflows
Depreciatio
n Net profit
0 -$76,500
1 $3,900 $3,276 $624
2 $3,600 $3,276 $324
3 $3,300 $3,276 $24
4 $3,100 $3,276 -$176
5 $2,600 $3,276 -$676
Total Income $120
Average
Income $24
Average investment = ($76,500 + $60,120)/2
= $136,620 / 2
= $68,310
Accounting rate of return = ($24 / $68,310) × 100

= 0.035%
Decision:
Like Payback period; accounting rate of return of option A is higher than that of option B and
hence should be accepted.
c) Evaluation of accounting rate of return technique
Accounting rate of return (ARR) is an equation that indicates percentage rate of return expected
on an investment, or asset, relative to the cost of the transaction. The ARR prescription divides
the normal income of a benefit by the organization's basic profitability into the proportion or
return that can be expected over the life of the related performance or business. ARR does not
consider the time estimate of money or revenues, which can be a fundamental element for
maintaining a business.
Accounting rate of return is a capital budgeting metric that helps in calculating investment's
profitability. Organizations basically use ARR to compare different responsibilities by
determining each firm's normal rate of return or to determine profitability or supply. The ARR
takes into account the imaginable annual costs, including depreciation, associated with the
commitment. Depreciation is a useful accounting presentation in which the cost of a fixed
resource is apportioned, or discounted, each year when the gain is required. This will allow the
organization to reap the immediate benefits, even in the first year of administration.
d) Advise to senior executive team
Characteristics of investment appraisal decisions:
A study conclusively shows that a practical study of the interests of capital in existing
organizations and companies is fundamentally based on an analysis of the benefits of saving
money, guided by the use of capital investment-appraisal techniques (CIAT) . Typically used for
testing is a payback period (PP) and a return on accounting / return on investment (ARR / ROI)
rate. Methods such as internal rate of return (IRR) and net present value (NPV) (perceived as
problematic) are not used.
Payback period method (PP) is defined as the period that is expected to offset the underlying
profitability exercise using the cash flow disbursed by the company. The clearing period should
be considered as the most appropriate CIAT for its audit initiatives. Because of the way

commitments are determined during the underlying firm's expected pay period, firms are
supported with quick clearing. Consequently, organizations using the PP method usually
recognize some short actions and reject some permanent actions.
Capitalization options regularly talk about the most important choices a society makes. One
quality of these capital spending initiatives is the need to consider cash time estimates. This CPE
course examines time estimation of money and develops the three main factors behind it: usage
bias, inflationary impact and risk. It clarifies the sections and boundaries and recalls activities to
apply your understanding of these topics. Similarly, remember the data for current parity and
internal output level, as well as both options and weaknesses. In addition, this course examines
venture capital measurement, post-completion review, and robust yield.
Advantages and disadvantages of the internal rate of return technique:
Advantages:
Most importantly, speed of return is a consideration when estimating time to make money while
evaluating commitment. This is a significant loss in bookkeeping speed, normal return speed,
and payback time. The IRR can be measured by estimating the cost of the loan whose future PV
income is equal to the required capitalization.
The most interesting thing about this strategy is that it is very easy to test after proving the IRR.
Given the possibility that the IRR does not exceed the capital costs, at that point recognize the
commitment, but not something else. This is nothing but difficult for managers to design, which
is why it is only suitable if they face incredible situations, like completely independent
businesses and so on.
The obstacle level is an annoying and abstract thing to choose. In IRR, there is no prerequisite
for determining the IRR barrier level or the required return rate. It does not depend on the level
of the barriers, so the risk of an unfounded verification of the level of the obstacle is reduced. If
you find out the net present value, the product list, and so on, you will need the barrier level.
Management makes a rigorous assessment of the required output level, but the strategy for IRR
is not based solely on the required output level. When we come to the IRR, we can compare it to
the obstacle level. If the IRR is very far from the required approximate level, the conductor can
safely set the option on both sides. Also, it can hold room for misjudgment.

Disadvantages:
Although you eliminate the campaign with the IRR strategy, it genuinely assumes a reinvestment
of the progressive IRR revenue for the remainder of the UK time frame. -work. As long as a
campaign does not have a low IRR, it will accept slow rate reinvestments of return; in fact, if the
other transaction has a high IRR, a reinvestment rate with an extremely high rate of return is
expected. This situation is not serious. By the time you receive these revenues, the same level of
profitability opportunity is possible once in a while. However, the suspicion that an organization
has more than one level of reinvestment at a time is largely impractical. If an organization has
more than one reinvestment rate, it will evaluate at that point.
Account managers generally ignore a situation where lack of commitment forces them to invest
resources in different initiatives. For example, with the ability to add services to a primary
shipping vehicle, you also need to organize a place to depart from. Such initiatives are called
reliable or unforeseen initiatives and should be considered by the supervisor. IRR may allow the
purchase of the vehicle, but if all proposed benefits are eliminated by securing parking, there is
no reason to add.
Finance experts often look at completely independent ventures, which mean that if one is
eligible, the other is not. The construction of a pub or business building on a particular piece of
land is a matter of basic unrelated business. In these cases, it is not known whether they deserve
to invest enough resources. The test knows which company is best. An IRR strategy will
estimate the translation rate, but this is not enough. This is related to the main hurdle of
economies of scale, which the IRR is looking at.
Hence, IRR helps management by showing the discounting rate at which future cash inflows
become zero. It helps management in taking decision through matching it with current cost of
capital. For instance, if the cost of capital is higher than IRR; the project should rejected on the
ground that it will not cover cost of capital and on the other hand; if cost of capital is lower than
IRR; project should be accepted by management.

Question 3
a) Calculation of ratios:
i) Gross profit margin 2019
Gross profit margin = Gross profit
Net sales ×100
= 1313
3495 ×100 = 37.56%
ii) Assets usage ratio 2019
Assets usage ratio = Total revenue
Average total assets
=
3495
3812+2503
2
= 3495
3157.5 = 1.106
iii) Current ratio 2018 and 2019
Formula:
Current Ratio = Current assets
Current liabilities
2019 2018
A. Current assets 1687 418
B. Current liabilities 744 502
Current ratio (A/B)
2.2674
7
0.8326
7
iv) Acid test 2019 and 2018
Formula

Acid test ratio = Current ratio−Inventory
Current liabilities
2019 2018
Current assets 1687 418
Less: Inventories 150 102
A. Quick Assets 1537 316
B. Current liabilities 744 502
Acid test ratio (A/B)
2.0658
6
0.6294
8
v) Inventories holding period 2019
Inventory holding period = Inventory
Cost of sales ×365
= 150
2182 ×365
= 25.09 or 25 days
vi) Debt to equity ratio 2019 and 2018
Formula
Debt to equity ratio = Debt / Equity
2019 2018
A. Debt 170 50
B. Equity 2898 1951
Debt equity ratio
(A/B)
0.0586
6
0.0256
3
b) Importance of considering the audience for financial statement analysis
Considering audience for financial statement analysis is important because these audiences are
the stakeholders of the company who shows interest in the business and also do investment. If
the financial report is prepared without considering these audiences than there will be chance of

misunderstanding due to less proficiency in accounts subject. It could create trouble for company
because audience will not get information they are looking for due to less knowledge of finance.
Therefore, financial report should be prepared by taking into consideration about audiences.
Accounting ratios and their interpretation is the best example of reports mainly for audiences and
stakeholders.
Question 4
a) Role of organizations in the international regulatory framework for
accounting
IFRS Foundation:
Global corporations, like many governments, business associates, speculators, and individuals of
the whole appeal, support the goal of a solitary solution of high quality accounting principles,
around the world. The application of public accounting principles allows you to determine
understandable amounts published in budget reports on another basis. Disallowing this
inconsistency was an examination of the details of public book management, because even a
slight difference in requirements could have a significant effect on an organization's account in
terms of cash performance and cash position, such as, for example, a organization can benefit
from one aspect of public accounting principles and misfortunes under another person.
IFRS Standards strengthen accountability by reducing the data gap between capital providers and
recipients. Our standards provide data that the board should take into account. Being a similar
database internationally, the additional IFRS standards are of paramount importance to regulators
around the world.
IFRS advisory council:
Under the IFRS Foundation Constitution, the main rules for selecting the subjects of the
Advisory Council are a geographical mix and a mix of expert bases. Since 2009, the Trustees of
the IFRS Foundation have decided that the elections for registration in the Advisory Council will
be based primarily on the representation of associations relevant to the interpretation of
accounting standards. The leaders have not identified any associations.

International accounting standards board:
An accounting system of a certain country is determined by its public accounting structure,
possible connections, use of IFRS and additional public accounting rules. Despite the fact that
accounting harmony is a key element of 21st century accounting; however, there is a great deal
of public information in accounting that varies from country to country. A public accounting
structure plays a key role, for example, in determining the important principles of maintaining
accounting records, identifying ledger graphs, preparing annual ledgers and using public and
global accounting standards.
b) Role of audit committees in corporate governance
Corporate governance is important in our business world today, especially in the wake of the
ongoing financial crisis. Hard corporate governance is currently seen as a fundamental condition
for recognizing and registering a company in most stock markets worldwide. The board review
plays an important role in corporate governance in terms of the leadership, control and
accountability of the association. As a representative of the steering group and a key part of the
system of corporate governance, the audit committee is involved in the internal and external
audits of the association, internal control, accounting and information relating to finance,
administrative stability and risks for officers. .
Senior managers and independent auditors have distinct roles in the financial reporting process.
The directors are responsible for interpreting budget summaries and for strengthening internal
powers over budget disclosures. Similarly, operators should maintain internal control and ensure
that the budget disclosure cycle is accurate and robust. It is the responsibility of the auditor
himself to communicate a reasonable understanding of budget reports, the financial position of
the organization, operating results and revenue and to assist in ensuring that these matters are
met widespread change in the recognition of accounting standards.
Before the audit board begins its work, board members should see how executives generate and
report money data. By analyzing internal data, audit boards have the opportunity to ask questions
about a decision, the accuracy and adequacy of audit reports. Having a good understanding of
audit reports ensures that individuals are aware of the potential impact of financial statements

summaries. Each trustee board should be as timely as possible with changes and assurances from
experts and overdue directors.
Before the audit committee begins its work, committee members, the auditors, and the
executives. The review advisory bodies review the impact of the review with rank leaders and
external reviewers, including issues that are widely shared by leaders. with a fiduciary audit
board based on broad-based guidelines. One of the essential responsibilities of the audit
committee is to investigate accounting and disclosure issues.
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