Question

QUESTION FOUR

(a) Project A returns a net present value of $50,000 and generates an IRR of 9%. Interpret the meaning of these two results highlighting any connection between the NPV and IRR. (limit 80 words)

(b) Prepaid Insurance is considered a current asset. With reference to asset definition and recognition criteria describe why Prepaid Insurance is an asset and secondly why it is classified as a current asset. (limit 70 words)

(c) Compare the major purpose and informational content of the balance sheet, income statement and cash flow statement. (80 words limit)

(d) “The carrying amount of a fixed asset (Cost less accumulated depreciation) measures the market value of the asset.” Discuss, stating whether you agree or disagree with the statement and why. (40 words limit).

(e) Discuss the major considerations when choosing between using straight line, units of production and reducing balance methods of depreciation under accrual accounting (60 words)

(f) Organizations providing credit to a company structure, such as suppliers selling goods on credit and banks loaning money, take on greater risk due to limited liability of stakeholders. Describe the concept of limited liability and discuss three legal safeguards that assist such third parties to minimize their potential risk of not being repaid amounts owing. (60 words limit)

Answer 1

As per rules I am answering the first 4 subparts of the question.

1. As per the first result the net present value is positive which means that undertaking the decision will result in a net increase in the value of the business. This is a positive sign and hence the project must be undertaken. As the internal rate of return is 9% this implies that the rate of discount at which net present value is zero is 9%. In the given scenario we can comprehend that the cost of capital of the business is less than 9 percent due to which net present value is positive. And so the project is favourable.

2. Prepaid insurance refers to insurance paid in advance. It is an asset because it represents advance payment made towards an expense that is going to be incurred in the future. This is adding to the net worth of the business rather than creating a burden on the business and hence it is classified as an asset. It is classified as a current asset because it is going to be paid off within the coming year and is not a long term asset like a fixed asset such as plant and machinery or building.

3. The balance sheet is a summary of Assets and liabilities of a business as on a particular date. It also displays the net worth and equity position of the business as on a particular date. Income statement is a summary of all revenues earned and all expenses incurred in the course of business and it displays the net income before and after taxes. Cash flow statement is a statement which shows all the inflows and outflows from different sources such as operating financing and investing activities of the business.

4. I do not agree with the statement because the carrying cost of an asset is based on its historical cost. Hence assets are displayed at historical cost minus accumulated depreciation on them in the balance sheet. This may be very different from its market value. The market value is dependent upon the demand and supply of that particular asset.